Attached files

file filename
EX-31.2 - KONARED 10Q, CERTIFICATION 302, CFO - KonaRed Corpkonaredexh31_2.htm
EX-32.1 - KONARED 10Q, CERTIFICATION 906, CEO/CFO - KonaRed Corpkonaredexh32_1.htm
EX-31.1 - KONARED 10Q, CERTIFICATION 302, CEO - KonaRed Corpkonaredexh31_1.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
____________________________

FORM 10-Q
 
QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2016

OR
 
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
                               FOR THE TRANSITION PERIOD FROM _______________________ TO _______________________
 
Commission File # 000-55208
 
KONARED CORPORATION
 (Exact name of registrant as specified in its charter)
 
NEVADA
(State or other jurisdiction of incorporation or organization)
 
99-0366971
(IRS Employer Identification Number)
 
1101 Via Callejon #200
San Clemente, California 92673-4230
(Address of principal executive offices)    (Zip Code)
 
Tel. (808) 212-1553
 (Registrant's telephone no., including area code)

Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 ☒ 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 ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated file, or a smaller reporting company.
 
 
Large accelerated filer
Accelerated filer
 
Non-accelerated filer
Smaller reporting company

Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Exchange Act.  Yes ☐ No ☒
 
The issuer had 148,340,592 shares of common stock issued and outstanding as of November 17, 2016.
 
 
 

 
KONARED CORPORATION

Table of Contents
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   
       
 
 
       
   
       
   
       
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 
 
 
PART I – FINANCIAL INFORMATION
 
ITEM 1.  FINANCIAL STATEMENTS (unaudited)

KONARED CORPORATION
BALANCE SHEETS

   
September 30,
2016
(unaudited)
   
December 31,
2015
 
             
ASSETS
           
CURRENT ASSETS
           
Cash
 
$
118,117
   
$
148,769
 
Accounts receivable
   
213,662
     
33,227
 
Accounts receivable - related party
   
1,800
     
18,000
 
Inventory
   
347,160
     
439,158
 
Prepaid expenses
   
     
5,953
 
TOTAL CURRENT ASSETS
   
680,739
     
645,107
 
                 
OTHER ASSETS
               
Fixed assets (net of accumulated depreciation)
   
8,414
     
10,247
 
TOTAL OTHER ASSETS
   
8,414
     
10,247
 
TOTAL ASSETS
 
$
689,153
   
$
655,354
 
                 
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
               
CURRENT LIABILITIES
               
Accounts payable and accrued liabilities
 
$
530,111
   
$
211,429
 
Accounts payable - related party
   
     
3,156
 
Short term convertible notes payable, net of discounts
   
435,774
     
 
Short term debt, net of discounts
   
77,111
     
235,237
 
Short term debt - related party
   
101,337
     
 
Unearned revenue
   
792
     
1,434
 
Derivative liability
   
11,823
     
11,807
 
TOTAL CURRENT LIABILITIES
   
1,156,948
     
463,063
 
                 
LONG TERM LIABILITIES
               
Convertible note payable, net of discount
   
755,975
     
548,881
 
TOTAL LONG TERM LIABILITIES
   
755,975
     
548,881
 
TOTAL LIABILITIES
   
1,912,923
     
1,011,944
 
                 
COMMITMENTS AND CONTINGENCIES
   
     
 
                 
STOCKHOLDERS' EQUITY (DEFICIT)
               
Preferred shares, 10,000 shares with par value $0.001 authorized;
no shares issued and outstanding at September 30, 2016 and December 31, 2015
   
     
 
Common shares, 877,500,000 shares with par value $0.001 authorized;
147,190,592 and 108,769,515 shares issued  and outstanding at
September 30, 2016 and December 31, 2015, respectively
   
147,232
     
108,787
 
Additional paid in capital
   
21,379,973
     
19,616,012
 
Accumulated deficit
   
(22,750,975
)
   
(20,081,389
)
TOTAL STOCKHOLDERS' EQUITY (DEFICIT)
   
(1,223,770
)
   
(356,590
)
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
 
$
689,153
   
$
655,354
 


 
The accompanying notes to financial statements are an integral part of these financial statements
 
KONARED CORPORATION
STATEMENTS OF OPERATIONS
(Unaudited)

   
Three Months Ended
September 30,
2016
   
Three Months Ended
September 30,
2015
   
Nine Months
Ended
September 30,
2016
   
Nine Months
Ended
September 30,
2015
 
                         
REVENUE:
                       
Product sales
 
$
397,899
   
$
168,148
   
$
772,083
   
$
572,358
 
Product sales - related party
   
1,800
     
     
1,800
     
 
Shipping and delivery
   
4,390
     
6,270
     
15,131
     
15,347
 
Total sales
   
404,089
     
174,418
     
789,014
     
587,705
 
                                 
Cost of Goods Sold
   
311,064
     
131,419
     
636,401
     
472,954
 
GROSS MARGIN
   
93,025
     
42,999
     
152,613
     
114,751
 
                                 
OPERATING EXPENSES:
                               
Research and development
   
     
     
4,685
     
4,610
 
Advertising and marketing
   
105,721
     
70,500
     
263,394
     
269,047
 
General and administrative expenses
   
822,780
     
804,230
     
1,973,793
     
2,098,375
 
Total operating expenses
   
928,501
     
874,730
     
2,241,872
     
2,372,032
 
Loss from operations
   
(835,476
)
   
(831,731
)
   
(2,089,259
)
   
(2,257,281
)
                                 
OTHER INCOME (EXPENSE):
                               
Interest expense
   
(73,755
)
   
(38,100
)
   
(147,287
)
   
(212,343
)
Amortization expense - notes discounts
   
(152,162
)
   
     
(438,968
)
   
 
Change in fair market value of derivative liability
   
4,297
     
1,866
     
5,928
     
(35,590
)
Loss on equity modification
   
     
     
     
(41,753
)
Total other income (expense)
   
(221,620
)
   
(36,234
)
   
(580,327
)
   
(289,686
)
Loss before income taxes
 
$
(1,057,096
)
 
$
(867,965
)
 
$
(2,669,586
)
 
$
(2,546,967
)
Provision for income taxes
   
     
     
     
 
Net Loss
 
$
(1,057,096
)
 
$
(867,965
)
 
$
(2,669,586
)
 
$
(2,546,967
)
                                 
Basic and diluted loss per common share
 
$
(0.01
)
 
$
(0.01
)
 
$
(0.02
)
 
$
(0.03
)
                                 
Basic and diluted weighted average shares outstanding
   
137,077,365
     
92,620,379
     
125,325,265
     
87,237,372
 





 


The accompanying notes to financial statements are an integral part of these financial statements
 
KONARED CORPORATION
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
(Unaudited)

   
Common Stock
   
Additional
Paid In
    Accumulated        
   
Shares
   
Amount
   
Capital
   
Deficit
   
Total
 
                               
Ending balance – December 31, 2014
   
83,496,530
   
$
83,497
   
$
16,705,636
   
$
(16,281,020
)
 
$
508,113
 
Common shares issued for cash
   
3,333,334
     
3,333
     
346,667
     
     
350,000
 
Common shares issued under equity line
   
8,550,000
     
8,550
     
621,300
     
     
629,850
 
Common shares issued for services
   
6,344,022
     
6,345
     
591,926
     
     
598,271
 
Common shares issued for equity line underwriting fees
   
2,708,656
     
2,724
     
(2,724
)
   
     
 
Common shares issued as compensation
   
4,238,341
     
4,238
     
346,645
     
     
350,883
 
Common shares issued for interest payments
   
98,631
     
100
     
6,171
     
     
6,271
 
Additional paid-in capital related to option grants
   
     
     
220,960
     
     
220,960
 
Additional paid-in capital related to warrant issuances
   
     
     
453,046
     
     
453,046
 
Additional paid-in capital related to convertible notes beneficial conversion features
   
     
     
209,743
     
     
209,743
 
Additional paid-in capital related to convertible notes redemption
   
     
     
74,889
     
     
74,889
 
Additional paid-in capital related to equity modification
   
     
     
41,753
     
     
41,753
 
Net loss – year ended December 31, 2015
   
     
     
     
(3,800,369
)
   
(3,800,369
)
Ending Balance – December 31, 2015
   
108,769,514
   
$
108,787
   
$
19,616,012
   
$
(20,081,389
)
 
$
(356,590
)
Common shares issued for cash
   
19,650,000
     
19,650
     
766,350
     
     
786,000
 
Common shares issued under equity line for cash
   
6,450,000
     
6,450
     
316,486
     
     
322,936
 
Common shares issued for services
   
3,032,750
     
3,034
     
139,849
     
     
142,883
 
Common shares issued for equity line underwriting fees
   
21,529
     
43
     
(43
)
   
     
 
Common shares issued as compensation
   
7,427,544
     
7,428
     
389,789
     
     
397,217
 
Common shares issued for interest payments
   
364,255
     
365
     
19,461
     
     
19,826
 
Common shares issued for note redemption
   
1,475,000
     
1,475
     
94,400
     
     
95,875
 
Additional paid-in capital related to convertible note beneficial conversion feature
   
     
     
37,669
     
     
37,669
 
Net loss – period ended September 30, 2016
   
     
     
     
(2,669,586
)
   
(2,669,586
)
Ending Balance – September 30, 2016
   
147,190,592
   
$
147,232
   
$
21,379,973
   
$
(22,750,975
)
 
$
(1,223,770
)




The accompanying notes to financial statements are an integral part of these financial statements
 
KONARED CORPORATION
STATEMENTS OF CASH FLOWS
(Unaudited)
 
   
Nine Months
Ended
September 30,
2016
   
Nine Months
Ended
September 30,
2015
 
             
OPERATING ACTIVITIES:
           
Net loss
 
$
(2,669,586
)
 
$
(2,546,967
)
Adjustments to reconcile net loss to net cash used in operating activities:
               
Depreciation expense
   
1,833
     
6,729
 
Stock issued for compensation
   
397,217
     
257,132
 
Stock issued for services
   
142,884
     
307,864
 
Option grants expense
   
     
165,266
 
Change in fair market value of derivative liability
   
(6,039
)
   
35,590
 
Amortization of notes payable discounts
   
540,439
     
68,467
 
Loss on equity modification
   
     
41,753
 
Loss on debt conversion
   
36,875
     
 
Change in operating assets and liabilities:
               
Accounts receivable
   
(164,235
)
   
149,798
 
Inventory
   
91,998
     
30,593
 
Prepaid expenses
   
5,953
     
16,000
 
Other current assets
   
     
652
 
Accounts payable and accrued liabilities
   
295,022
     
73,803
 
Accrued interest
   
30,393
     
23,314
 
Unearned revenue
   
(642
)
   
(2,494
)
NET CASH USED IN OPERATING ACTIVITIES
   
(1,297,888
)
   
(1,372,500
)
                 
FINANCING ACTIVITIES:
               
Proceeds from long term convertible notes payable
   
275,000
     
225,000
 
Proceeds from short term convertible notes payable
   
     
650,000
 
Repayments on short term convertible notes payable
   
     
(440,000
)
Proceeds from short term debt
   
     
250,000
 
Proceeds from short term debt - related party
   
100,000
     
500,000
 
Repayments on short term debt - related party
   
     
(250,000
)
Repayments on short term debt
   
(216,700
)
   
 
Proceeds from issuance of common stock for cash
   
1,108,936
     
695,120
 
NET CASH PROVIDED BY FINANCING ACTIVITIES
   
1,267,236
     
1,630,120
 
                 
NET INCREASE (DECREASE) IN CASH
   
(30,652
)
   
257,620
 
                 
CASH, Beginning of Period
   
148,769
     
39,987
 
                 
CASH, End of Period
 
$
118,117
   
$
297,607
 

 

The accompanying notes to financial statements are an integral part of these financial statements
 
KONARED CORPORATION


SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
(Unaudited)

   
Nine Months
Ended
September 30,
2016
   
Nine Months
Ended
September 30,
2015
 
             
Cash paid during the year for:
           
Interest
 
$
   
$
174,243
 
Taxes
 
$
   
$
 



NON CASH INVESTING AND FINANCING ACTIVITIES
(Unaudited)

   
Nine Months
Ended
September 30,
2016
   
Nine Months
Ended
September 30,
2015
 
             
Discount from convertible debentures
 
$
   
$
107,143
 
Discount on derivative
 
$
6,055
   
$
239,752
 
Shares issued as commitment fees - offering costs
 
$
43
   
$
2,692
 
Interest paid by stock issuances
 
$
19,825
   
$
 
Settlement of derivative liability related to convertible debenture redemption
  $      
$
274,108
 
Discount from warrants
 
$
   
$
285,645
 
Conversion of debt to common stock
 
$
59,000
     
 


 








The accompanying notes to financial statements are an integral part of these financial statements
 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 1 – Nature of Organization

KonaRed Corporation ("KonaRed", "KonaRed Corporation", "us", "we", the "Registrant", or the "Company") was incorporated in the State of Nevada on October 4, 2010 as TeamUpSport Inc. Prior to, and in anticipation of, closing of an asset purchase agreement (the "Asset Agreement") with Sandwich Isles Trading Co, Inc., on September 9, 2013 our company effected a name change by merging with our wholly-owned Nevada subsidiary named "KonaRed Corporation" with our company as the surviving corporation under the new name "KonaRed Corporation". On October 4, 2013 pursuant to the terms the Asset Agreement, we acquired substantially all of the assets, property and undertaking of the health beverage and food business (the "Business") operated under the name "KonaRed" from Sandwich Isles Trading Co., Inc. ("SITC") which was a private company incorporated in Hawaii on August 22, 2008 and dissolved on May 23, 2014. As a result of October 4, 2013 acquisition of the Business from Sandwich Isles Trading Co., Inc. ("SITC") we ceased to be a "shell company" as defined in Rule 12b-2 of the Securities Exchange Act of 1934 (the "Exchange Act").

NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation and Fiscal Year

These financial statements have been presented by the Company in accordance with accounting principles generally accepted in the United States and are expressed in U.S. dollars. The Company's fiscal year-end is December 31st.

Use of Estimates
The preparation of these financial statements in accordance with United States generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses in the reporting period. The Company regularly evaluates estimates and assumptions related to recoverability of long-lived assets, and deferred income tax asset valuations. The Company bases its estimates and assumptions on current facts, historical experience and various other factors that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the accrual of costs and expenses that are not readily apparent from other sources. The actual results experienced by the Company may differ materially and adversely from the Company's estimates. To the extent there are material differences between estimates and the actual results, future results of operations will be affected.

Financial Instruments
The Company's financial instruments consist principally of cash, accounts receivable, inventory, accounts payable, notes payable and related party debt. The Company believes that the recorded values of all of these financial instruments approximate their current fair values because of the short term nature and respective maturity dates or durations.

Cash and Cash Equivalents
The Company considers all highly liquid instruments with maturity of three months or less at the time of issuance to be cash equivalents. There were no cash equivalents recorded for the periods ended September 30, 2016 and December 31, 2015.

 

KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Accounts Receivable
Trade accounts receivable are periodically evaluated for collectability based on past credit history with customers and their current financial condition. Bad debts expense or write offs of receivables are determined on the basis of loss experience, known and inherent risks in the receivable portfolio and current economic conditions. During the periods ended September 30, 2016 and September 30, 2015, the Company wrote off accounts receivable totaling $172 and $nil, respectively. There were no allowances for doubtful accounts recorded for the period ended September 30, 2016 or the year ended December 31, 2015.
 
Inventories
Inventories are composed of raw materials and finished goods. Our raw materials inventory is comprised of dried coffee fruit and other input components, such as labels, caps, and packaging materials. Our finished goods inventory process begins when we take possession of dried coffee fruit from coffee growers in Hawaii. We then ship the raw material to our California warehouse for storage and then send required quantities to subcontractors for value-added processing; or we ship the raw materials directly from Hawaii to the processors. For our beverage products which include coffee fruit, value-added processing then occurs whereby the dried coffee fruit is converted to liquid extract through water based extraction. The extracts are then shipped from the raw materials processors to our California warehouse or directly to our bottling contractors. The bottling contractors then add our proprietary extract to other ingredients to produce our finished goods. Our cold brew coffee is manufactured using a comparable process. Finished goods are shipped back to either our Company's warehouse or third party transit agents and subsequently disseminated to either distributors or shipped directly to retailers. The process for production of our nutritional wellness products follows a similar manufacturing chain, but does not involve a bottling process.

Inventories are valued at the lower of cost, as determined on an average basis, or market. Market value is determined by reference to selling prices at, or around, balance sheet date or by management's estimates based on prevailing market conditions. Management writes down the inventories to market value if it is below cost. Management also regularly evaluates the composition of its inventories to identify slow-moving and obsolete inventories to determine if a valuation allowance is required. If a valuation allowance is required, an offsetting entry is made which expenses the reserved inventory to cost of goods sold during the period in which the valuation was required. Subsequently, if this reserved inventory is used in future periods, an offset is entered to cost of goods sold which decreases cost of goods sold during that subsequent period. Costs of raw material and finished goods inventories include purchase and related costs incurred in bringing the products to their present location and condition. Labor, direct and indirect overhead, and the processing, bottling and shipping costs incurred during 3rd party manufacturing are factored into the costs of our inventories.



 

KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Revenue Recognition
Sales revenue consists of amounts earned from customers through the sales of its finished products via wholesale and direct online retail channels. The Company also operates a branded ingredients division that sells raw material fruit powder and extracts to wholesale customers. Sales revenue is recognized when persuasive evidence of an arrangement exists, price is fixed or determinable, title to and risk of loss for the product has passed, which is generally when the products are received by the customers, and collectability is reasonably assured. Customers accept goods FOB shipping point. Goods are sold on a final sale basis and in the normal course of business the Company does not accept sales returns. In circumstances where returns are negotiated, sales returns which are accepted are returned to inventory and deducted from sales revenue.

Cost of goods sold
Cost of goods sold ('COGS') primarily consist of raw materials purchases and third party processing costs. COGS also include: warehousing and distribution costs for inbound freight charges; shipping and handling costs; purchasing and receiving costs; costs for our labor; direct and indirect overhead costs; and the processing, bottling and shipping costs charged by 3rd party manufacturers.

Income Taxes
In accordance with ASC 740 - Income Taxes, the provision for income taxes is computed using the asset and liability method. Under the asset and liability method, deferred income tax assets and liabilities are determined based on the differences between the financial reporting and tax bases of assets and liabilities and are measured using the currently enacted tax rates and laws. A valuation allowance is provided for the amount of deferred tax assets that, based on available evidence, are not expected to be realized.

The Company also follows the guidance related to accounting for income tax uncertainties. In accounting for uncertainty in income taxes, the Company recognizes the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more likely than not threshold, the amount recognized in these financial statements is the benefit that has a greater than 50% likelihood of being realized upon ultimate settlement with the relevant tax authority.

No liability for unrecognized tax benefits was recorded as of September 30, 2016 and December 31, 2015.

Stock Based Payments
We account for share-based awards to employees in accordance with ASC 718 "Stock Compensation". Under this guidance, stock compensation expense is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the estimated service period (generally the vesting period) on the straight-line attribute method. Share-based awards to non-employees are accounted for in accordance with ASC 505-50 "Equity", wherein such awards are expensed over the period in which the related services are rendered.

Reclassification
The financial statements for the period ended December 31, 2015 have been reclassified to conform to the 2016 presentation.


 
 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Derivative financial instruments
In accordance with ASC 820–10–35–37 Fair Value in Financial Instruments; ASC 815 Accounting for
Derivative Instruments and Hedging Activities; and ASC 815–40 (formerly Emerging Issues Task Force ("EITF") Issue No. 00–19 and EITF 07–05), the Company evaluates its financial instruments to determine if such instruments are derivatives or contain features that qualify as embedded derivatives. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported in the statements of operations.

As of September 30, 2016, the Company had outstanding a senior convertible note (the "VDF Note") with a balance of $755,975, net of a discount of $17,353. The Company determined the VDF Note had an embedded derivative valued at $11,823 at September 30, 2016 due to Sr. Note One having a provision which required adjustments to the conversion price to compensate for dilutive stock issuance events unrelated to the VDF Note. As of December 31, 2015, the VDF Note had a balance of $453,298, net of a discount of $15,974 and the embedded derivative liability was valued at $11,807. During the period ended September 30, 2016, $275,000 of principal was added to the VDF Note. This was comprised of patent license fee payments of totaling $275,000 which were rolled over to the VDF Note.

The net amount of the Change in Fair Value of Derivatives for the nine month period ended September 30, 2016 was a loss of $5,928, which included the net amount of mark-to-market value changes in the embedded derivatives liabilities of the VDF Note.

Research and Development
Costs incurred in developing the ability to create and manufacture products for sale are included in research and development. Once a product is commercially feasible and starts to sell to third party customers, the classification of such costs as development costs stops and such costs are recorded as costs of production, which are included in cost of goods sold. Research and development costs are expensed when incurred.

Basic and Diluted Net Loss per Share
The Company computes loss per share in accordance with ASC 260, Earnings per Share. ASC 260 requires presentation of both basic and diluted earnings per share ("EPS") on the face of the income statement. Basic EPS is computed by dividing net loss available to common shareholders (numerator) by the weighted average number of common shares outstanding (denominator) during the period. Diluted EPS gives effect to all dilutive potential common shares outstanding during the period including stock warrants and options, using the treasury stock method; and convertible preferred stock and convertible debt using the if-converted method. In computing diluted EPS, the average stock price for the period is used in determining the number of shares assumed to be purchased from the exercise of stock options or warrants. Diluted EPS excludes all dilutive potential common shares if their effect is anti-dilutive. The Company currently has options, warrants and convertible debt outstanding, and no convertible preferred stock has been issued. Common stock equivalents pertaining to the options, warrants and convertible debt were not included in the computation of diluted net loss per common share in these financial statements because the effect would have been anti-dilutive due to the net losses for the periods ended September 30, 2016 and September 30, 2015.




 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Concentration of Credit Risk
Financial instruments which potentially subject the Company to concentrations of credit risk consist of cash and trade receivables. The Company places its cash with high credit quality financial institutions. At times such cash may be in excess of the FDIC limit. With respect to trade receivables, the Company routinely assesses the financial strength of its customers and, as a consequence, believes that the receivable credit risk exposure is limited.

Related parties
A party is considered to be related to the Company if the party directly or indirectly or through one or more intermediaries, controls, is controlled by, or is under common control with the Company. Related parties also include principal owners of the Company, its management, members of the immediate families of principal owners of the Company and its management and other parties with which the Company may deal if one party controls or can significantly influence the management or operating policies of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests. A party which can significantly influence the management or operating policies of the transacting parties or if it has an ownership interest in one of the transacting parties and can significantly influence the other to an extent that one or more of the transacting parties might be prevented from fully pursuing its own separate interests is also a related party.

Fair Value Measurements
As defined in ASC 820 "Fair Value Measurements", fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The Company utilizes market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated, or generally unobservable. The Company classifies fair value balances based on the observability of those inputs. ASC 820 establishes a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurement).

The three levels of the fair value hierarchy defined by ASC 820 are as follows:

Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis. Level 1 primarily consists of financial instruments such as exchange-traded derivatives, marketable securities and listed equities.

Level 2 – Pricing inputs are other than quoted prices in active markets included in level 1, which are either directly or indirectly observable as of the reported date. Level 2 includes those financial instruments that are valued using models or other valuation methodologies. These models are primarily industry standard models that consider various assumptions, including quoted forward prices for commodities, time value, volatility factors, and current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Substantially all of these assumptions are observable in the marketplace throughout the full term of the instrument, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace. Instruments in this category generally include non-exchange-traded derivatives such as commodity swaps, interest rate swaps, options and collars.
 

 

KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Level 3 – Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management's best estimate of fair value.

The Company's Level 1 assets and liabilities consist of cash, accounts receivable, accounts receivable - related party, inventories net, of any inventory allowance, prepaid expenses, other current assets, accounts payable and accrued liabilities, accounts payable - related party, short term debt, net of discounts, and unearned revenue. Pursuant to ASC 820, the fair value of these assets and liabilities is determined based on Level 1 inputs, which consist of quoted prices in active markets for identical assets. Level 2 assets and liabilities consist of a derivative liability arising from a convertible note payable. Pursuant to ASC 820, the fair value of this liability is determined based on Level 2 inputs, which consisted of a valuation by an accredited third party expert. We do not currently have any assets or liabilities which are classified under the criterion of Level 3.
 

Level components:
As of
September 30, 2016
As of
December 31, 2015
Cash
$118,117
$148,769
Accounts receivable
213,662
33,227
Accounts receivable - related party
1,800
18,000
Inventories
347,160
439,158
Prepaid expenses
-
5,953
Acc/payable and accrued liabilities
530,111
211,429
Accounts payable - related party
-
3,156
Short term convertible notes, net of discounts
435,774
-
Short term debt, net of discounts
77,111
235,237
Short term debt - related party
101,337
-
Long term convertible note, net of discount
755,975
548,881
Unearned revenue
792
1,434
Level 1 total
$2,581,839
$1,645,244
     
Derivative liability
$11,823
$11,807
Level 2 total
$11,823
$11,807
 
-
-
Level 3 total
$Nil
$Nil
 
It is management's opinion that the Company is not exposed to significant interest, currency or credit risks arising from the financial instruments which it holds.

 

KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

Advertising
Costs for advertising are expensed when incurred. Advertising costs for the nine month period ended September 30, 2016 totaled $47,802 and $108,499 for the nine month period ended September 30, 2016. The Company also incurs marketing expenses for product promotion and investor relations which are combined with advertising to form the advertising and marketing line item in our statement of operations. Excluding advertising, these other promotional costs were $215,592 and $160,548 for the nine month periods ended September 30, 2016 and September 30, 2015, respectively.

Fixed Assets
Fixed assets are recorded at cost. Depreciation is calculated on a straight line method over the estimated useful lives of the various assets as follows:

ASSET
Depreciation Term
   
Furniture and equipment
5 - 7 years
Warehouse fixtures
10 years

During the nine month periods ended September 30, 2016 and September 30, 2015: (a) depreciation for furniture and equipment of $1,572 and $1,572 was respectively recorded; and (b) depreciation for warehouse fixtures of $261 and $261 was respectively recorded. Accumulated depreciation for all fixed assets totaled $6,260 at September 30, 2016.

Maintenance and repairs are expensed as incurred while renewals and betterments are capitalized.

Maintenance and repairs will be expensed as incurred while renewals and betterments will be capitalized.

Recent Accounting Pronouncements

In July , 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") 2015-11, Simplifying the Measurement of Inventory, which requires that inventory be measured within the scope of the Update at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2016, including interim periods within those
fiscal years. The amendments in this Update are to be applied prospectively with earlier application permitted as of the beginning of an interim or annual reporting period. This ASU conforms with the Company's current protocol for evaluating inventory and the Company will prospectively implement adoption of this ASU. The Company does not expect the adoption of the ASU to have a significant impact on our consolidated financial statements.




 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 – Basis of Presentation and Summary of Significant Accounting Policies (continued)

On April 7, 2015, the Financial Accounting Standards Board ("FASB") issued ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs, which requires debt issuance costs related to a recognized debt liability to be presented on the balance sheet as a direct deduction from the debt liability, similar to the presentation of debt discounts.  The ASU is effective for public business entities for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years.  Early application is permitted.  The ASU requires retrospective application to all prior periods presented in the financial statements. The Company has elected not to early adopt ASU 2015-03.

In January 2015, the FASB issued ASU 2015-01, Income Statement –Extraordinary and Unusual Items, as part of its initiative to reduce complexity in accounting standards.  This Update eliminates from GAAP the concept of extraordinary items. The amendments in this Update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. A reporting entity may apply the amendments prospectively. A reporting entity also may apply the amendments retrospectively to all prior periods presented in the financial statements. Early adoption is permitted provided that the guidance is applied from the beginning of the fiscal year of adoption. This Update is not expected to have a significant impact on the Company's financial statements.

Management does not anticipate that the adoption of these standards will have a material impact on the financial statements.

The Company has implemented all new accounting pronouncements that are in effect and that may impact its financial statements and does not believe that there are any other new pronouncements that have been issued that might have a material impact on its financial position or results of operations.


NOTE 3 – Going Concern

The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. Since inception, the Company has incurred losses totaling $22,750,975 as of September 30, 2016; and has a incurred a net loss for the current nine month period of $2,669,586. These factors, among others, raise substantial doubt about the Company's ability to continue as a going concern for a reasonable period of time. If necessary, the Company will pursue additional equity and/or debt financing while managing cash flows from operations in an effort to provide funds to meet its obligations on a timely basis and to support future business development. The financial statements do not contain any adjustments to reflect the possible future effects on the classification of assets or the amounts and classification of liabilities that may result should the Company be unable to continue as a going concern. To address these issues, during the nine month period ended September 30, 2016 the Company received a loan of $100,000 from a director and raised $786,000 through several private placement equity offerings and $322,936 through share sales under its 2015 Purchase Agreement Equity Line. On August 11, 2016 the last shares which had been registered under the 2015 Equity Line were sold. Subsequently there has not been a new registration statement on Form S-1 filed which would allow for further share sales under the 2015 Purchase Agreement. We anticipate we will continue to raise funds through private placement equity sales in the near future.
 
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 4 – Inventory
 
Inventory includes raw materials and finished goods. Finished goods contain direct materials and other manufacturing costs charged directly by third party manufacturing vendors. Inventory consists of the following:

   
September 30,
2016
   
December 31,
2015
 
             
Raw materials
 
$
100,504
   
$
100,702
 
Finished goods
   
246,656
     
338,456
 
Inventory allowance
   
     
 
Total
 
$
347,160
   
$
439,158
 


During the period ended September 30, 2016, the Company initially wrote down inventory by $43,868 during the first three months of this nine month period and then reclassified the write down as reserved inventory available for use in the second three months of this nine month period. This inventory was then used for marketing purposes and removed from reserved inventory and recorded as a marketing expense during the second three month period. During the year ended December 31, 2015, the Company wrote down inventory by $26,760 to account for expired inventory which had been write-off and disposed of, and for minor manufacturing process shrinkages. The Company recognized $nil and $nil recovery in inventory allowance respectively for the period ended September 30, 2016 and the year ended December 31, 2015. At September 30, 2016 the Company had $nil of reserved inventory and all inventory was valued at full cost.


NOTE 5 – Prepaid Expenses and Other Current Assets

Prepaid expenses at September 30, 2016 were $nil; and for the year ended December 31, 2015 were comprised of $5,953 for manufacturing runs.


NOTE 6 – Fixed Assets

Fixed assets at September 30, 2016 and December 31, 2015 respectively comprised: (a) furniture and equipment totaling $6,067 and $2,434, net of accumulated depreciation of $5,135 and $3,563; and (b) warehouse fixtures totaling $2,347 and $2,608, net of accumulated depreciation of $1,125 and $864.



 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 7 – Short Term Debt, Short Term Debt - Related Party & Short Term Convertible Notes

September 2015 Notes:
On September 30, 2015 ("Issuance Date"), subject to securities purchase agreements we issued two subordinated promissory notes ("September 2015 Note One" and "September 2015 Note Two", collectively, the "September 2015 Notes") to two lenders (the "September 2015 Lenders"). The September 2015 Notes provided for customary events of default such as failing to timely make payments and the occurrence of certain fundamental defaults, as described in the September 2015 Notes. The interest rate shall be 18% upon the occurrence of an event of default and repayment of the note at an amount equal to 120% of the outstanding principal and interest due. The September 2015 Notes were not secured and are subordinated to senior notes issued by the Company.

September 2015 Note One had a face value of $100,000 and September 2015 Note Two had a face value of $150,000. The interest rate on each note was 8% per annum and this amount fully accrued upon issuance and added $8,000 to September 2015 Note One and $12,000 to September 2015 Note Two to bring the total balances due on each note to $108,000 and $162,000, respectively. The September 2015 Notes each included a 10% original issuance discount ("OID") which resulted in total net proceeds to the Company of $225,000. As an inducement for the loans, the September 2015 Lenders received five‑year warrants, with cashless exercise rights, to purchase restricted shares of our common stock at an exercise price of $0.08 per share. September 2015 Note One Lender received 1,250,000 warrants which was valued using a Black-Scholes model at $67,115; and September 2015 Note Two Lender received 1,875,000 warrants which was valued using a Black-Scholes model at $100,673.

At December 31, 2015, the balance on September 2015 Note One was $50,269. This included the face value of $100,000 plus accrued interest of $8,000 and was net of an unamortized warrant discount totaling $50,245 and an unamortized OID discount of $7,486. During the year ended December 31, 2015, $16,870 of the warrant discount was recorded as an amortization expense and $2,514 of the OID was recorded as interest expense. During the nine month period ended September 30, 2016, the Company timely made a series of scheduled cash payments on September 2015 Note One totaling $49,000, and on August 30, 2016 redeemed the balance of $59,000 due through issuance of 1,475,000 shares valued at $95,875 based on a market close price of $0.065 per share on date of issuance. The $36,875 difference between the cash redemption balance and the value of the shares redemption was recorded as non-cash interest expense. During the nine month period ended September 30, 2016, the remaining $50,245 of the warrant discount on September 2015 Note One was recorded as an amortization expense and the remaining $7,486 OID was recorded as interest expense. The September 2015 Note One is now fully repaid and there are no further payments due.

At December 31, 2015, the balance on September 2015 Note Two was $75,403. This included the face value of $150,000 plus accrued interest of $12,000 and was net of an unamortized warrant discount totaling $75,367 and an unamortized OID discount of $11,230. During the year ended December 31, 2015, $25,306 of the warrant discount was recorded as an amortization expense and $3,770 of the OID was recorded as interest expense. During the nine month period ended September 30, 2016, the Company timely made a series of scheduled cash payments on September 2015 Note One totaling $88,500, and prior to scheduled redemption date, on September 23, 2016 the lender extended the maturity date of the note to November 14, 2016 in exchange for the right to convert the balance of $73,500 into common shares of the Company at a price of $0.04 per share. On date of issuance, the Company's closing share price was $0.0605 and this created a beneficial conversion feature which was valued at $37,699 for the conversion right, of which $5,071 was recorded as an amortization expense during the period ended September 3, 2016. During the nine month period ended September 3, 2016, the $72,872 of the
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 7 – Short Term Debt, Short Term Debt - Related Party & Short Term Convertible Notes (continued)

warrant discount on September 2015 Note Two was recorded as an amortization expense and $10,858 of the OID was recorded as interest expense. At September 30, 2016, the balance on September 2015 Note Two was $39,260. This included the remaining face value and accrued interest totaling $73,500 and was net of an unamortized conversion right discount of $32,598 and an unamortized OID discount of $1,642.

December 2015 Note:
On December 30, 2015 ("Issuance Date"), subject to a securities purchase agreement we issued a subordinated promissory note (the "December 2015 Note") to one lender (the "December 2015 Lender") in the aggregate amount of $110,000 (the "Original Principal"). The December 2015 Note bears interest at 8% per annum and this amount fully accrued upon execution of the loan and added $8,800 to the balance due at Issuance Date. The principal and interest is due and payable in full on December 3, 2016 ("Maturity Date") and has a re-payment schedule which requires payments of $39,600 respectively on sixth, ninth and twelfth month anniversary dates of Issuance Date. The December 2015 Notes included an aggregate $10,000 original issuance discount ("OID") which resulted in net proceeds of $100,000. The Company has the right to prepay the December 2015 Note, pursuant to the terms thereof, at any time, provided it pays the then outstanding balance and accrued interest. The December 2015 Note provides for customary events of default such as failing to timely make payments and the occurrence of certain fundamental defaults, as described in the December 2015 Note. If there should be occurrence of an event of default, repayment of the note will be due at an amount equal to 120% of the outstanding principal and interest due.  The Note is not secured and is subordinated to senior notes issued by the Company and ranks equally with other debt issued by the Company. As an inducement for the loan, the Company issued the December 2015 Lender 500,000 restricted common shares valued at $30,050. At December 31, 2015, the balance on the December 2015 Note including accrued interest was $109,565, net of an unamortized OID of $9,235. During the year ended December 31, 2015, $764 of the OID was recorded as interest expense. At September 30, 2016, the balance on the December 2015 Note including accrued interest was $37,851, net of unamortized OID of $1,749. During the nine month period ended September 30, 2016, the Company timely made two scheduled cash payments totaling $79,200, and during this period $7,486 of the OID was recorded as interest expense.

Short Term Debt - Related Party:
On July 31, 2016 (the "Issuance Date"), the Company issued a $100,000 note (the "RP Note") to a director of the Company for a loan. The RP Note has a maturity date of January 27, 2017 and is classified as short term related party debt. The RP Note bears interest at 8% per annum due at maturity and may be prepaid in whole, or in part, at any time before each maturity date without prepayment penalty. 340,000 restricted common shares of the Company were issued to the lender as a fee valued at $0.0456 per share based on market for an aggregate cost $15,504. At September 30, 2016, the balance due on the RP Note was $101,337 including $1,337 of accrued interest for the period ended September 30, 2016.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 7 – Short Term Debt, Short Term Debt - Related Party & Short Term Convertible Notes (continued)

LPC Note One:
On August 18, 2015, we issued a Senior Convertible Note ("LPC Note One") to a third party ("LPC") in the amount of $250,000. LPC Note One was issued pursuant to the terms of a Securities Purchase Agreement and bears interest at the rate of 5% per annum (or 18% upon the occurrence of an event of default). Principal and interest is due and payable in full on December 31, 2016 (the "Maturity Date") and LPC Note One is now classified as short term convertible debt. Interest may be paid via issuance of the Company's common stock if the Company meets certain conditions that would allow the issuance of the Company's common stock without any trading restrictions. LPC Note One has a $25,000 original issuance discount ("OID") which resulted in net proceeds of $225,000. The Company has the right to prepay LPC Note One, pursuant to the terms thereof, at any time, provided it pays a prepayment amount of 120% of the then outstanding balance, accrued interest and interest payable from the date of prepayment to the Maturity Date. LPC Note One provides for customary events of default such as failing to timely make payments and the occurrence of certain fundamental defaults, as described in LPC Note One. LPC Note One is not secured and is subordinated to the VDF Note, ranks equally with LPC Note Two, and ranks above other debt issued by the Company. The principal amount of LPC Note One and all accrued interest is convertible at the option of LPC into shares of our common stock at any time at a fixed Conversion Price of $0.07 per share, subject to adjustments for stock splits, stock dividends, stock combinations or other similar transactions as provided in LPC Note One. At no time may LPC Note One be converted into shares of our common stock if such conversion would result in LPC and its affiliates owning an aggregate of shares of our common stock in excess of 4.99% of the then outstanding shares of our common stock, provided such percentage may increase to 9.99% upon not less than 61 days prior written notice. As an inducement for the loan, the Company granted LPC a six year warrant, which includes a cashless exercise provision, to purchase 3,750,000 shares of our common stock at an exercise price of $0.10 per share valued using a Black-Scholes model at $277,014. At issuance date, LPC Note One also included a beneficial conversion feature ("BCF") of $107,143 because the exercise price of LPC Note One was set below the market price of our stock when the note was executed. Since the combined warrant discount and BCF exceeded the face value of the note less OID, the warrant discount for LPC Note One was capped at $117,857, resulting in a total discount of $225,000.

During the year ended December 31, 2015, $60,628 of the discount was recorded as an amortization expense, $6,737 of the OID was recorded as interest expense, and accrued interest of $4,688 was paid through issuance of 90,286 restricted common shares. At December 31, 2015, the recorded balance on LPC Note One was $67,365, net of an unamortized discount of $164,372 and an unamortized OID of $18,263. During the nine month period ended September 30, 2016, $123,053 of the discount was recorded as an amortization expense, $13,673 of the OID was recorded as interest expense, and accrued interest of $9,514 was paid via issuances of 135,915 restricted common shares. At September 30, 2016, the recorded balance on LPC Note One was $204,092, net of an unamortized discount of $41,317 and an unamortized OID of $4,591.




 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 7 – Short Term Debt, Short Term Debt - Related Party & Short Term Convertible Notes (continued)

LPC Note Two:
On November 23, 2015, we issued a Senior Convertible Note ("LPC Note Two") to a third party ("LPC") in the amount of $300,000. LPC Note Two was issued pursuant to the terms of a Securities Purchase Agreement and bears interest at the rate of 5% per annum (or 18% upon the occurrence of an event of default). Principal and interest is due and payable in full on December 31, 2016 (the "Maturity Date"). LOC Note Two is now classified as short term convertible term debt. Interest may be paid via issuance of the Company's common stock if the Company meets certain conditions that would allow the issuance of the Company's common stock without any trading restrictions. LPC Note Two has a $30,000 original issuance discount ("OID") which resulted in net proceeds of $270,000. The Company has the right to prepay LPC Note Two, pursuant to the terms thereof, at any time, provided it pays a prepayment amount of 120% of the then outstanding balance, accrued interest and interest payable from the date of prepayment to the Maturity Date. LPC Note Two provides for customary events of default such as failing to timely make payments and the occurrence of certain fundamental defaults, as described in LPC Note Two. LPC Note Two is not secured and is subordinated to the VDF Note, ranks equally with LPC Note One, and ranks above other debt issued by the Company. The principal amount of LPC Note Two and all accrued interest is convertible at the option of LPC into shares of our common stock at any time at a fixed Conversion Price of $0.05 per share, subject to adjustments for stock splits, stock dividends, stock combinations or other similar transactions as provided in LPC Note Two. At no time may LPC Note Two be converted into shares of our common stock if such conversion would result in LPC and its affiliates owning an aggregate of shares of our common stock in excess of 4.99% of the then outstanding shares of our common stock, provided such percentage may increase to 9.99% upon not less than 61 days prior written notice. As an inducement for the loan, the Company granted LPC a six year warrant, which includes a cashless exercise provision, to purchase 5,000,000 shares of our common stock at an exercise price of $0.07 per share valued using a Black-Scholes model at $253,098. At issuance date, LPC Note Two also included a beneficial conversion feature ("BCF") of $102,600 because the exercise price of LPC Note Two was set below the market price of our stock when the note was executed. Since the combined warrant discount and BCF exceeded the face value of the note less OID, the warrant discount for LPC Note Two was capped at $167,400, resulting in a total discount of $270,000.

During the year ended December 31, 2015, $25,396 of the discount was recorded as an amortization expense, $2,822 of the OID was recorded as interest expense, and accrued interest of $7,561 was paid via issuance of 151,680 restricted common shares. At December 31, 2015, the recorded balance on LPC Note Two was $28,218, net of an unamortized discount of $244,604 and an unamortized OID of $27,178. During the nine month period ended September 30, 2016, $183,119 of the  discount was recorded as an amortization expense, $20,346 of the OID was recorded as interest expense, and accrued interest of $9,514 was paid via issuances of 228,340 restricted common shares. At September 30, 2016, the recorded balance on LPC Note Two was $231,323, net of an unamortized discount of $61,485 and an unamortized OID of $6,832.
 
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 8 – Convertible Notes Payable

VDF Note:
On January 28, 2014, we entered into a patent settlement with VDF FutureCeuticals, Inc.("VDF") with respect to a prior action filed by VDF. In connection with the License Agreement and other agreements which formed the settlement, we issued a senior convertible note (the "VDF Note") to VDF, whereby we promised to pay VDF a principal amount equal to the sum of: (i) the aggregate amount of accrued and unpaid license fee payments, plus (ii) accrued interest on the VDF Note. The maturity of the VDF Note is December 31, 2018 unless accelerated pursuant to an event of default or the License Agreement is terminated and all accrued and unpaid obligations under the VDF Note have been paid. Due to its term, the VDF Note is classified as long term debt. Interest on the note is 7% per annum, subject to an adjustment to 12% for events of default. On the maturity date, we must pay VDF all principal, unpaid interest and late charges, if any, and we have the right, subject to certain limitations, to prepay principal at any time and from time to time. The VDF Note is secured through the Pledge and Security Agreement executed with VDF and is senior to any other debt issued by the Company. At any time VDF has the option to convert any principal outstanding on the VDF Note into shares of our common stock at a Conversion Price determined by the terms of the VDF Note. Key terms of the VDF Note include that: (i) VDF is granted an adjustment to the conversion price upon the issuance of shares of our common stock, stock options or other convertible securities; (ii) no indebtedness shall rank senior to the payments due under the VDF Note unless prior written consent of VDF is obtained; and (iii) payments under the VDF Note are secured by a Security Agreement. The VDF Note provides that we may, at our option, roll-over to the VDF Note quarterly License fee payments and accrued interest.

During the year ended December 31, 2015, we rolled-over License fee payments totaling $300,000 plus accrued interest for the year $18,481 for a total addition to the VDF Note of $318,481. At December 31, 2015, the VDF Note had an outstanding balance $453,298, net of a discount of $15,974 resulting from the embedded derivative. During the nine month period ended September 30, 2016, we rolled-over License fee payments totaling $275,000 and recorded accrued interest of $29,056 on the note. At September 30, 2016, the VDF Note had an outstanding balance $755,975, net of a discount of $17,353 resulting from the embedded derivative.

Originally the Conversion Price of the Senior Convertible Note was $0.65 per share. On December 19, 2014, this was adjusted to $0.6163 per share based on our issuance of stock options. On January 20, 2015, the Conversion Price was adjusted to $0.5623 based on our issuance of an unsecured subordinate convertible debenture to a third party; on June 15, 2015, the Conversion Price was adjusted to $0.5572 as the result of re-pricing of warrants issued to a third party; on September 30, 2015, the Conversion Price was adjusted to $0.4536 based on our issuance of a fixed conversion price convertible debenture to a third party, and issuances of warrants and stock to third parties; on December 31, 2015, the Conversion Price was adjusted to $0.3823 based on our issuance of a fixed conversion price convertible debenture to a third party, and issuances of warrants and stock to third parties; on March 31, 2016, the Conversion Price was adjusted to $0.3434 based on our issuance of stock and warrants to third parties; on June 30, 2016, the Conversion Price was adjusted to $0.2883 based on our issuance of stock and warrants to third parties; and on September 30, 2016, the Conversion Price was adjusted to $0.2606 based on our issuance of stock and warrants to third parties.

 

 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 9 – Derivatives

In connection with the issuance of debt or equity instruments, the Company may sell options or warrants to purchase our common stock. In certain circumstances, the convertible debt, options or warrants may be classified as derivative liabilities, rather than as equity. Additionally, the debt or equity instruments may contain embedded derivative instruments, such as embedded derivative features which in certain circumstances may be required to be bifurcated from the associated host instrument and accounted for separately as a derivative instrument liability.  The Company's derivative instrument liabilities are re-valued at the end of each reporting period, with changes in the fair value of the derivative liability recorded as charges or credits to income in the period in which the changes occur. For options, warrants and bifurcated embedded derivative features that are accounted for as derivative instrument liabilities, the Company estimates fair value using either quoted market prices of financial instruments with similar characteristics or other valuation techniques. The valuation techniques require assumptions related to the remaining term of the instruments and risk-free rates of return, our current common stock price and expected dividend yield, and the expected volatility of our common stock price over the life of the option.

Also as shown in the table below, prior to conversion into shares, in 2015 the Company repaid in cash a variable rate convertible note which had been issued in 2015. The Company no longer has any variable rate convertible debt outstanding and at September 30, 2016 the anti-dilution clause of the VDF Senior Convertible Note was the only liability of the Company which created a derivative liability.

The following table summarizes the convertible debt derivative activity for the year ended December 31, 2015 and the period ended September 30, 2016:

 
Description
 
 
Total
Fair Value of derivative liabilities at December 31, 2014
$
9,168
Increase due to issuance of convertible debentures
 
241,710
Reduction due to redemption of convertible debentures
 
(274,108)
Change in Fair Value
 
35,037
Fair Value of derivative liabilities at December 31, 2015
$
11,807
Increase due to issuance of convertible debenture - VDF license fee rollover
 
1,997
Change in Fair Value
 
(570)
Fair Value of derivative liabilities at March 31, 2016
$
13,234
Increase due to issuance of convertible debenture - VDF license fee rollover
 
2,353
Change in Fair Value
 
(1,061)
Fair Value of derivative liabilities at June 30, 2016
$
14,526
Increase due to issuance of convertible debenture - VDF license fee rollover
 
1,705
Change in Fair Value
 
(4,408)
Fair Value of derivative liabilities at September 30, 2016
$
11,823
 






 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 9 – Derivatives (continued)

The lattice methodology was used to value the derivative liabilities related to the convertible notes, with the following assumptions.

Assumptions:
 
September 30, 2016
December 31, 2015
       
Dividend yield
 
0.00%
0.00%
Risk-free rate for term
 
0.88%
1.31%
Volatility
 
92%
133%
Maturity dates
 
2.25 years
3 years
Stock Price
 
$0.05615
$0.055



NOTE 10 – Related Party Transactions

During the nine month periods ended September 30, 2016 and September 30, 2015, related party transactions included:

Chief Executive Officer, Director and Board Chair.
For the nine month period ended September 30, 2016: (i) compensation of $81,249; (ii) office rent of $11,700; (iii) issuance of 150,366 restricted common shares at a closing market price of $0.054 per share on date of issue, for deemed compensation of $8,125; (iv) issuance of 333,781 restricted common shares at a closing market price of $0.049 on date of issue for deemed compensation of $16,355; (v) issuance of 164,841 restricted common shares at a closing market price of $0.0497 per share on date of issue for deemed compensation of $8,193; (vi) issuance of 435,180 restricted common shares at a closing market price of $0.05802 per share on date of issue for deemed compensation of $25,249; (vii) issuance of 193,848 restricted common shares at a closing market price of $0.0561 per share on date of issue for deemed compensation of $10,875. For the nine month period ended September 30, 2015: (i) compensation of $97,500; (ii) office rent of $11,700; and (iii) Black-Scholes expense amortization of $165,266 related to 1,500,000 options granted on December 19, 2014 of which 750,000 vested on June 30, 2015 and 750,000 vested on December 31, 2015.

President and Chief Operating Officer.
For the nine month period ended September 30, 2016: (i) compensation of $171,876; (ii) issuance of 318,081 restricted common shares at a closing market price of $0.054 per share on date of issue for deemed compensation of $17,188; (iii) issuance of 254,441 restricted common shares at a closing market price of $0.049 per share on date of issue for deemed compensation of $12,468; (iv) issuance of 348,702 restricted common shares at a closing market price of $0.0497 per share on date of issue for deemed compensation of $17,330; (v) issuance of 1,333,333 restricted common shares at a closing market price of $0.049 per share on date of issue for deemed compensation of $65,333; (vi) issuance of 906,634 restricted common shares at a closing market price of $0.05802 per share on date of issue for deemed compensation of $52,603; and (vii) issuance of 1,382,532 restricted common shares at a closing market price of $0.0561 per share on date of issue for deemed compensation of $77,560. For the nine month period ended September 30, 2015: (i) compensation of $39,178; and (ii) issuance of 1,333,333 restricted common shares at a closing market price of $0.107 per share on date of issue for deemed compensation of $142,667.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 10 – Related Party Transactions (continued)

Chief Financial Officer, Secretary and Treasurer:
For the nine month period ended September 30, 2016: (i) compensation of $93,750; (ii) office rent of $6,750; (iii) issuance of 462,663 restricted common shares at a closing market price of $0.054 per share on date of issue for deemed compensation of $25,000; (iv) issuance of 507,202 restricted common shares at a closing market price of $0.0497 per share on date of issue for deemed compensation of $25,208; and (v) issuance of 426,040 restricted common shares at a closing market price of $0.0561 per share on date of issue for deemed compensation of $23,901. For the nine month period ended September 30, 2015: (i) compensation of $93,750; (ii) office rent of $6,750; (iii) issuance of 131,579 restricted common shares at a closing market price of $0.19 per share on date of issue for deemed compensation of $25,000; and (iii) issuance of 226,860 restricted common shares at a closing market price of $0.1102 per share on date of issue for deemed compensation of $25,000.

Director and co-founder
For the nine month period ended September 30, 2016: nil transactions. For the nine month period ended September 30, 2015: consulting fees of $4,000.

Independent Director One:
For the nine month period ended September 30, 2016: (i) purchase by a holding company wholly owned by Independent Director One of 1,875,000 units priced at $0.04 per unit for aggregate proceeds of $75,000 with each unit including one restricted common share and one five year warrant exercisable at $0.055 per share in Unit Offer One; (ii) purchase by Independent Director One of 500,000 units priced at $0.04 per unit for aggregate proceeds of $20,000 with each unit including one restricted common share and one five year warrant exercisable at $0.055 per share in Unit Offer Two; (iii) provision of a loan of $100,000 to the Company in return for an inducement fee of 340,000 restricted common shares priced at a closing market of $0.0456 per share on date of issue for a deemed cost of $15,504; and (iv) accrual of $1,337 interest on the loan at September 30, 2016. For the nine month period ended September 30, 2015: (i) provision of a loan of $500,000 to the Company in return for an inducement fee of 1,700,000 restricted common shares priced at a closing market of $0.1402 per share on date of issue for a deemed cost of $238,340; (ii) repayment by the Company of $250,000 toward the loan; and (iii) accrual of $11,556 interest on the loan at September 30, 2015.

Independent Director Two:
For the nine month period ended September 30, 2016: (i) receipt by the Company of payment by Independent Director Two to the Company of $18,000 of related party accounts receivable which was outstanding at December 31, 2015; and (ii) an arm's length purchase by a company owned by Independent Director Two for $1,800 of raw material products, such order which was recorded as a related party accounts receivable at September 30, 3016. For the nine month period ended September 30, 2015: $18,000 of revenue was derived from arm's length raw materials product sales to a company owned by Independent Director Two.

At September 30, 2016 and December 31, 2015, the Company had related party accounts payable of $nil and $3,156, respectively; related party accounts receivable of $1,800 and $18,000, respectively; and shareholder loans (excluding the loan provided by Independent Director One) of $nil and $nil, respectively.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity

Overview:

Our authorized capital stock consists of 877,500,000 shares of common stock, with a par value of $0.001 per share; and 10,000 shares of preferred stock at a par value of 0.001. The holders of common stock have dividend rights, liquidation rights and voting rights of one vote for each share of common stock. There are no preferred shares issued and outstanding and the terms of any future preferred shares issuances will be as determined by the Board of Directors. As of September 30, 2016, there were 147,190,592 shares of our common stock issued and outstanding.

2016 Share Transactions

On August 11, 2016 the last shares which had been registered under the Company's 2015 Equity Line were sold. Subsequently there has not been a new registration statement on Form S-1 filed which would allow for further share sales under the 2015 Purchase Agreement. During the nine month period ended September 30, 2016, the Company issued 6,450,000 Sale Shares and 21,529 per sale Commitment Shares under the 2015 Equity Line for aggregate proceeds of $322,936.

On January 1, 2016 we issued 600 restricted common shares at $0.0614 per share at market close price on date of grant to an employee for deemed compensation of $37. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On January 8, 2016, we issued 651,269 restricted common shares at $0.05 per share at market close price on date of grant for deemed compensation of $32,563 to a service provider as final payment for services rendered. These shares were issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On January 11, 2016 we issued 5,000 restricted common shares at $0.064 per share to an employee at market close price on date of grant for deemed compensation of $320.  These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

In February 2016, we executed a private placement unit offering which raised $171,000 through the sale of 4,275,000 units. This offering terminated on March 29, 2016 and was priced at $0.04 per unit with each unit being comprised of one restricted common share price plus one five year warrant exercisable to purchase one restricted common share at $0.055 per share. The fair market value of the shares based on closing market prices on dates of sale was $227,160 and the embedded value of the warrants based on a Black-Scholes option pricing model was $182,910. These shares were issued to four US persons who are accredited investors (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended) or qualified under the terms Rule 506 Regulation D, and in issuing these shares we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On February 23, 2016 we issued 5,000 restricted common shares at $0.0502 per share at market close price on date of grant to an employee for deemed compensation of $251. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On March 4, 2016, we issued 3,500 restricted common shares at $0.0559 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $196. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

For the three month period ended March 31, 2016, we issued to LPC: (a) 45,143 restricted common shares at $0.07 per share for a deemed cost of $3,160 for interest accrued on LPC Note One for the period from January 1, 2016 to March 31, 2016 ; and (b) 75,840 restricted common shares at $0.05 per share for a deemed cost of $3,792 for interest accrued on LPC Note Two for the period from January 1, 2016 to March 31, 2016. These shares were issued at market close price on date of grant to one US company, which is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On March 31, 2016 we issued 150,366 restricted common shares at $0.054 per share at market close price on date of grant to our CEO for deemed compensation totaling $8,125. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On March 31, 2016 we issued 318,081 restricted common shares at $0.054 per share at market close price on date of grant to our President & COO for deemed compensation totaling $17,188. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On March 31, 2016 we issued 462,663 restricted common shares at $0.054 per share at market close price on date of grant to our CFO for deemed compensation totaling $25,000. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On March 31, 2016 we issued 600 restricted common shares at $0.054 per share at market close price on date of grant to an employee for deemed compensation of $30. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

From April to May 2016, we executed a private placement unit offering which raised $394,000 through the sale of 9,850,000 units. This offering terminated on May 31, 2016 and was priced at $0.04 per unit with each unit being comprised of one restricted common share price plus one five year warrant exercisable to purchase one restricted common share at $0.055 per share. The fair market value of the shares based on closing market prices on dates of sale was $532,443 and the embedded value of these warrants based on a Black-Scholes option pricing model was $426,730. These shares were issued to nine US persons who are accredited investors (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended) or qualified under the terms Rule 506 Regulation D, and in issuing these shares we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016 we issued 10,000 restricted common shares at $0.054 per share at market close price on date of grant to an employee for deemed compensation of $540. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016 we issued 5,000 restricted common shares at $0.054 per share at market close price on date of grant to an employee for deemed compensation of $270. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016, we issued 68,000 restricted common shares at $0.054 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $3,672. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016, we issued 8,500 restricted common shares at $0.054 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $459. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016, we issued 7,000 restricted common shares at $0.054 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $378. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On May 20, 2016, we issued 8,500 restricted common shares at $0.054 per share at market close price on date of grant to a professional athlete for endorsement services for deemed compensation of $459. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On June 6, 2016, we issued 5,000 restricted common shares at $0.0518 per share at market close price on date of grant to a health care professional for endorsement services for deemed compensation of $259. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 
 
 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On June 8, 2016 we issued 333,781 restricted common shares at $0.049 per share at market close price on date of grant as compensation to our CEO for deemed compensation totaling $16,355. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On June 8, 2016 we issued 254,441 restricted common shares at $0.049 per share at market close price on date of grant as compensation to our President & COO for deemed compensation totaling $12,468. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

For the period ended June 30, 2016 we issued 164,841 restricted common shares at $0.0497 per share at market close price on date of grant to our CEO for deemed compensation totaling $8,193. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

For the period ended June 30, 2016 we issued 348,702 restricted common shares at $0.0497 per share at market close price on date of grant to our President & COO for deemed compensation totaling $17,330. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

For the period ended June 30, 2016 we issued 507,202 restricted common shares at $0.0497 per share at market close price on date of grant to our CFO for deemed compensation totaling $25,208. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On June 30, 2016 we issued 1,200 restricted common shares at $0.0497 per share at market close price on date of grant to an employee for deemed compensation of $60. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On June 30, 2016, we issued 17,000 restricted common shares at $0.0497 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $845. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On June 30, 2016, we issued 1,500,000 restricted common shares at $0.0497 per share at market close price on date of grant for consultant services rendered for a deemed cost of $74,550. These shares were issued to three US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

For the three months ended June 30, 2016, we issued to LPC: (a) 45,143 restricted shares at $0.0497 per share for a deemed cost of $2,244 for interest accrued on LPC Note One for the period from April 1, 2016 to June 30, 2016 ; and (b) 75,840 restricted shares at $0.0497 per share for a deemed cost of $3,769 for interest accrued on LPC Note Two for the period from April 1, 2016 to June 30, 2016. These shares were issued at market close price on date of grant to one US company, which is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On July 13, 2016, we issued 294,737 restricted common shares at $0.0475 per share at market close price on date of grant for consultant services rendered for a deemed cost of $14,000. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

From July to September 2016, we executed a private placement offering which raised $101,000 through the sale of 2,525,000 units. This offering terminated on September 30, 2016 and was priced at $0.04 per unit with each unit being comprised of one restricted common share price plus one five year warrant exercisable to purchase one restricted common share at $0.055 per share. The fair market value of the shares based on closing market prices on dates of sale was $147,488 and the embedded value of the warrants based on a Black-Scholes option pricing model was $116,108. These shares were issued to seven US persons who are accredited investors (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended) or qualified under the terms Rule 506 Regulation D, and in issuing these shares we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On August 1, 2016, the Company received a loan of $100,000 from a director of the Company and issued 340,000 restricted common shares as an inducement fee at market close price of $0.0456 on date of issue for a deemed cost of $15,504. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On August 8, 2016, we issued 20,000 restricted common shares at $0.0475 per share market close price on date of grant to an employee for deemed compensation of $950. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On August 8, 2016, we issued 50,000 restricted common shares at $0.0475 per share market close price on date of grant to an employee for deemed compensation of $2,375. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On August 15, 2016, we issued 1,333,333 restricted common shares at $0.049 per share at market close price on date of grant to our President & COO for deemed compensation totaling $65,333. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On August 24, 2016, we issued 42,500 restricted common shares at $0.0639 per share market close price on date of grant to an employee for deemed compensation of $2,716. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On August 24, 2016, we issued 25,000 restricted common shares at $0.0639 per share market close price on date of grant to an employee for deemed compensation of $1,598. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On August 30, 2016, the Company redeemed the balance due of $59,000 on the September 2015 Note One through issuance of 1,475,000 shares valued at $95,875 based on a market close price of $0.065 per share on date of issuance. This included a loss on conversion of $36,875 based on the difference between the value of the shares issued at market close price on date of issue and the agreed conversion price of $0.04 per share. These shares were issued to one US company, which is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 6, 2016, we issued 10,000 restricted common shares at $0.0599 per share market close price on date of grant to an employee for deemed compensation of $599. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 8, 2016, we issued 25,000 restricted common shares at $0.06 per share market close price on date of grant to an employee for deemed compensation of $1,500. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 9, 2016, we issued 10,000 restricted common shares at $0.0581 per share market close price on date of grant to an employee for deemed compensation of $581. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 27, 2016 we issued 435,180 restricted common shares at $0.05802 per share at market close price on date of grant as compensation to our CEO for deemed compensation totaling $25,249. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 27, 2016 we issued 906,634 restricted common shares at $0.05802 per share at market close price on date of grant to our President & COO for deemed compensation totaling $52,603. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On September 29, 2016, we issued 129,244 restricted common shares at $0.058 per share market close price on date of grant to a predecessor investor for deemed cost of $7,496 to revise the shares owed to him from our reverse merger share exchange in 2014. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended. A value for capital stock of $129 was recorded and the balance of $7,367 for the cost of the shares was offset to additional paid in capital.

For the three months ended September 30, 2016, we issued to LPC: (a) 45,629 restricted shares at $0.0561 per share for a deemed cost of $2,560 for interest accrued on LPC Note One for the period from July 1, 2016 to September 30, 2016 ; and (b) 76,660 restricted shares at $0.0561 per share for a deemed cost of $4,301 for interest accrued on LPC Note Two for the period from July 1, 2016 to September 30, 2016. These shares were issued at market close price on date of grant to one US company, which is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2016, we issued 193,848 restricted common shares at $0.0561 per share at market close price on date of grant to our CEO for deemed compensation totaling $10,875. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2016, we issued 1,382,532 restricted common shares at $0.0561 per share at market close price on date of grant to our President & COO for deemed compensation totaling $77,560. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2016, we issued 426,040 restricted common shares at $0.0561 per share at market close price on date of grant to our CFO for deemed compensation totaling $23,901. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

From July 1 to September 30, 2016, we raised $120,000 through a private placement stock offering of 3,000,000 restricted common shares at $0.04 per share. These shares were issued to six US persons who are accredited investors (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended) or qualified under the terms Rule 506 Regulation D, and in issuing these shares we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

Additional paid in capital for the period ended September 30, 2016 also included an addition of $37,669 related to the unamortized beneficial conversion feature created by the alteration of September 2015 Note Two to allow for conversion of the note into shares.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

2015 Share Transactions

On February 6, 2015 we issued 600 restricted common shares at $0.0752 per share at market close price on date of grant to an employee for deemed compensation of $45. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On February 6, 2015, we issued 11,000 restricted common shares at $0.0752 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $827. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On April 30, 2015 we issued 131,579 restricted common shares at $0.19 per share at market close price on date of grant as compensation to our CFO for deemed compensation totaling $25,000. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On May 1, 2015, we issued 300,000 restricted common shares for professional services rendered, such issuance which was valued at $0.20 per share at market close price on date of grant for a deemed cost of $60,000. These shares were issued to one U.S. person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On June 5, 2015, we issued 1,700,000 restricted common shares at $0.1402 per share at market close price on date of grant for an aggregate deemed cost of $238,340 to a director of the Company as a fee for a loan to the Company. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On June 9, 2015 we issued 1,200 restricted common shares at $0.14 per share at market close price on date of grant to an employee for deemed compensation of $168. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

2015 Equity Line:

[On August 11, 2016 the last shares which had been registered under the Company's 2015 Equity Line were sold. Subsequently there has not been a new registration statement on Form S-1 filed which would allow for further share sales under the 2015 Purchase Agreement.]

On June 16, 2015, we entered into the 2015 Purchase Agreement and 2015 Registration Rights Agreement (collectively the "2015 Equity Line") with an Illinois limited liability company ("LPC"). As part of the 2015 Equity Line, on June 15, 2015, the Company amended a warrant which had been issued to LPC on January 27, 2014, to modify the exercise price from $0.65 to $0.15. The fair value of this warrant re-pricing was calculated
 
 
 
 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

based on the difference between Black Scholes option pricing model valuations on original grant date of January 27, 2014 and re-pricing date of June 15, 2015. This expense was recorded as a loss on equity modification of $41,753, with an offset to additional paid in capital. At execution date LPC also purchased 1,666,667 shares of our common stock at $0.15 per share for proceeds of $250,000 as an initial purchase under the agreement. These shares were issued to a U.S. person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended. In consideration for entering into the 2015 Equity Line, we issued to LPC 2,666,667 shares of our common stock as a commitment fee and up to an additional 666,666 shares could be issued as commitment fees pro rata. The 2015 Equity Line  may be terminated by us at any time at our discretion without any monetary cost to us. During the period ended December 31, 2015 we issued 8,550,000 sale shares and 41,989 per sale commitment shares under the 2015 Equity Line for aggregate cash proceeds of $629,850.

On June 30, 2015, 1,666,667 shares of restricted common shares were issued to investor, unrelated to LPC, under a securities purchase agreement dated June 30, 2015 at a price of $0.06 per share for aggregate proceeds of $100,000. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended. These shares were included in the 2015 Equity Line Registration Statement on Form S-1 filed on July 6, 2015,which was made Effective by the SEC on July 16, 2015.

On July 6, 2015, we issued 6,025 restricted common shares at $0.1188 per share at market close price on date of grant to a professional athlete for endorsement services rendered for deemed compensation of $716. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On July 9, 2015 we issued 226,860 restricted common shares at $0.1102 per share at market close price on date of grant as compensation to our CFO for deemed compensation of $25,000. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On August 11, 2015, we issued 1,333,333 restricted common shares to our new President & Chief Operating Officer at $0.107 per share at market close price on date of grant for deemed compensation of $142,667. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 15, 2015, we issued 1,000 restricted common shares at $0.075 per share at market close price on date of grant to an employee for deemed compensation of $75. These shares were issued to US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 18, 2015, we issued 26,000 restricted common shares at $0.0901 per share at market close price on date of grant to a consultant for services rendered for a deemed cost of $2,343. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On September 24, 2015, we issued 12,500 restricted common shares at $0.0829 per share at market close price on date of grant to a professional athlete for endorsement services rendered for a deemed cost of $1,036. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2015, we issued 9,000 restricted common shares at $0.078 per share at market close price on date of grant to a professional athlete for endorsement services rendered for a deemed cost of $702. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2015, we issued 50,000 restricted common shares at $0.078 per share at market close price on date of grant to a consultant for services rendered for a deemed cost of $3,900. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On September 30, 2015 we issued 320,513 restricted common shares at $0.078 per share at market close price on date of grant as compensation to our CFO for deemed compensation totaling $25,000. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On September 30, 2015 we issued 502,283 restricted common shares at $0.078 per share at market close price on date of grant as compensation to our President & COO for deemed compensation of $39,178. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On October 20, 2015, we issued 348,472 restricted common shares at an agreed price of $0.0699 per share at market close price on date of grant for aggregate deemed compensation of $24,358 to a beverage distributor per terms of a services agreement. These shares were issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On October 21, 2015, we issued 1,381,025 restricted common shares at  $0.07241 per share at market close price on date of grant for aggregate deemed compensation of $100,000 to a service provider for services rendered. These shares were issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

On October 27, 2015, we issued 2,000,000 restricted common shares at $0.068 per share at market close price on date of grant for aggregate deemed compensation of $136,000 to a service provider for services rendered. These shares were issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On December 3, 2015, we issued 500,000 restricted common shares valued market close price on date of grant at $0.0601 for aggregate deemed proceeds of $30,050 to a lender as a fee for a loan to the Company. These shares were issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

For the three month period ended December 31, 2015, we issued to LPC: (a) 66,964 restricted common shares valued at the LPC Note One Conversion Price of $0.07 for interest of $4,688 accrued on LPC Note One to December 31, 2015; and (b) 31,667 restricted common shares valued at the LPC Note Two Conversion Price of $0.05 for interest of $1,583 accrued on LPC Note Two to December 31, 2015. These shares were valued at market close price on date of grant issued to one US person, who is an accredited investor (as that term is defined in Rule 501 of Regulation D under the Securities Act of 1933, as amended), and in issuing these shares to this person we relied on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

On December 31, 2015 we issued 458,926 restricted common shares at $0.05448 per share at market close price on date of grant as compensation to our CFO for deemed compensation of $25,000. These shares were issued to one non-U.S. person (as that term is defined in Regulation S of the Securities Act of 1933, as amended) in offshore transactions in which we relied on the exemptions from the registration requirements provided for in Regulation S and/or Section 4(2) of the Securities Act of 1933, as amended.

On December 31, 2015 we issued 1,262,047 restricted common shares at $0.05448 per share at market close price on date of grant as compensation to our President & COO for deemed compensation of $68,750. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

Warrants:

2016 Warrant Transactions

During the nine month period ended September 30, 2016, we raised $565,000 through private placement unit offerings priced at $0.04 per unit which included the issuance of 16,650,000 five year warrants each exercisable to purchase one restricted common share at $0.055 per share. The aggregate fair market value of the shares on dates of issuance was $907,091 and the aggregate embedded value of these warrants based on a Black-Scholes option pricing model was $725,748. None of these warrants have yet been exercised.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

2015 Warrant Transactions

On June 15, 2015, as part of the 2015 Equity Line the Company amended 1,136,364 warrants (the "January 27, 2014 Warrants") which had been issued to LPC on January 27, 2014, to modify the exercise price from $0.65 to $0.15. None of these warrants have yet been exercised. The fair value of this warrant re-pricing was calculated based on the difference between Black Scholes option pricing model valuations on original grant date of January 27, 2014 and re-pricing date of June 15, 2015. This expense was recorded as a loss on equity modification of $41,753, with an offset to additional paid in capital.

On August 18, 2015, as an inducement for execution of LPC Note One, the Company granted LPC six year warrants (the "August 18, 2015 Warrants") to purchase 3,750,000 shares of restricted common stock at an exercise price of $0.10 per share. Because these warrants are related to issuance of debt, the value of the warrant was required to be recorded as a discount to LPC Note One with an offset to additional paid in capital. The original costing of the warrants using a Black-Scholes option pricing model was $277,014, but this amount was reduced to a discount of $117,857 based on the net amount of the face value of the LPC Note One of $250,000, less the OID of $25,000, less the BCF of $107,143. These warrants include a cashless exercise right and have the same ownership limitation included in LPC Note One. None of these warrants have yet been exercised.

On September 30, 2015, as an inducement for execution of the September 2015 Notes, the Company granted the September 2015 Lenders five‑year warrants (the "September 30, 2015 Warrants") to purchase an aggregate of 3,125,000 shares of our common stock at an exercise price of $0.08 per share. These warrants include cashless exercise rights and none have yet been exercised. Because these warrants were related to issuance of debt, the value of the warrants based on a Black-Scholes option pricing model was required to be recorded as a discount of $167,788 to the September 2015 Notes with an offset to additional paid in capital. None of these warrants have yet been exercised.

On November 23, 2015, as an inducement for execution of LPC Note Two, the Company granted LPC six year warrants (the "November 23, 2015 Warrants") to purchase 5,000,000 shares of restricted common stock at an exercise price of $0.07 per share. Because these warrants are related to issuance of debt, the value of the warrants was required to be recorded as a discount to LPC Note Two with an offset to additional paid in capital. The original costing of the warrants using a Black-Scholes option pricing model was $253,098, but this amount was reduced to a discount of $167,400 based on the net amount of the face value of the LPC Note Two of $300,000, less the OID of $30,000, less the BCF of $102,600. These warrants include a cashless exercise right and has the same ownership limitation included in LPC Note Two. None of these warrants have yet been exercised.







 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

The fair valuations for warrants were done on date of grant using a Black Scholes option pricing model with the following assumptions:

Warrant
Risk free
rate*
Dividend
yield
Volatility
period
Volatility
rate
Estimated
life
Exercise
Price
Grant Date
Stock price
               
Unit Offer Warrants
1.16% to 1.22%
0.0%
2.0 years
108% to 108%
5.0 years
$0.055
$0.0561 to $0.0639
Unit Offer Warrants
1.22% to 1.38%
0.0%
2.0 years
113% to 114%
5.0 years
$0.055
$0.0489 to $0.060
Unit Offer Warrants
1.11% to 1.33%
0.0%
2.0 years
115% to 116%
5.0 years
$0.055
$0.0504 to $0.0559
November 23, 2015 Warrants
0.85%
0.0%
2.0 years
89%
6.0 years
$0.17
$0.17
September 30, 2015 Warrants
1.37%
0.0%
2.0 years
89%
5.0 years
$0.08
$0.08
August 18, 2015 Warrants
1.78%
0.0%
2.0 years
89%
6.0 years
$0.10
$0.10
January 27, 2014 Warrants (re-priced)
1.56%
0.0%
2.0 years
91%
4.65 years
$0.15
$0.14
January 27, 2014 Warrants (original)
1.56%
0.0%
2.0 years
91%
4.65 years
$0.65
$0.14
October 4, 2013 Warrants
1.40%
0.0%
5 years
429%
1.5 years
$0.65
$0.65
*(based on US Treasury Constant Maturities matching estimated life)

The following table summarizes the Company's warrant activity for the nine month period ended September 30, 2016 and the year ended December 31, 2015:

 
 
 
 
Number of Warrants
 
 
Weighted-Average Exercise Price
Weighted-Average Remaining Term (in years)*
 
 
 
Intrinsic
Value**
             
Outstanding at December 31, 2014
5,784,848
$
0.63
2.70
$
Nil
August 18, 2015 - Granted for loan fee
3,750,000
 
0.10
5.14
 
Nil
September 30, 2015 - Granted for loan fee
3,125,000
 
0.08
4.25
 
Nil
November 23, 2015 - Granted for loan fee
5,000,000
 
0.07
5.40
 
Nil
Outstanding at December 31, 2015
17,659,848
$
0.24
4.26
$
Nil
March 29, 2016 - Issued for Unit Offer
4,275,000
 
0.055
4.43
 
0.001
May 31, 2016 - Issued for Unit Offer
9,850,000
 
0.055
4.67
 
0.001
September 30, 2016 - Issued for Unit Offer
2,525,000
 
0.055
4.67
 
0.001
Outstanding at September 30, 2016
34,309,848
$
0.150
4.30
$
Nil
*  (remaining term as of September 30, 2016)
**(intrinsic value based on the closing share price of $0.0561 on September 30, 2016)


 


 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 11 – Equity (continued)

Options:

A summary of changes in outstanding stock options for the nine month period ended September 30, 2016 and the year ended December 31, 2015 is as follows:

 
 
 
 
Number of Options
 
 
 
Weighted-Average Exercise Price
Weighted-Average Remaining
Contractual Term (in years)*
 
 
 
 
Intrinsic Value**
             
Outstanding at December 31, 2014
7,000,000
$
0.19
3.11
$
-
(no option issuances were made in 2015)
-
 
-
-
 
-
Outstanding at December 31, 2015
7,000,000
$
0.19
3.11
$
-
(no option issuances have been made in 2016)
-
 
-
-
 
-
Outstanding at September 30, 2016
7,000,000
$
0.19
3.11
$
-
*  (remaining term as of September 30, 2016)
**(intrinsic value based on the closing share price of $0.0561 on September 30, 2016)

The following table summarizes information about the options outstanding at September 30, 2016:

    Options Outstanding     Options Exercisable
Exercise Prices
 
Options Outstanding
Weighted Average Exercise Price
 
 
Aggregate
Intrinsic
Value**
Weighted Average Remaining Contractual Life (years)*
 
Options Outstanding 
Weighted Average Exercise Price
 
 
Aggregate
Intrinsic
Value**
Weighted Average Remaining Contractual Life (years)*
                     
$0.70
 
   250,000
$0.70
$nil
0.15
 
   250,000
$0.70
$nil
0.15
$0.17
 
6,750,000
$0.17
$nil
3.33
 
6,750,000
$0.17
$nil
3.33
Totals
 
7,000,000
$0.19
$nil
3.11
 
7,000,000
$0.19
$nil
3.11
*  (remaining term as of September 30, 2016)
**(intrinsic value based on the closing share price of $0.0561 on September 30, 2016)

The expensing and amortization of all options grants have been credited to Additional Paid-In Capital.


NOTE 12 – Commitments and Contingencies

Litigation

Various lawsuits, claims and other contingencies arise in the ordinary course of the Company's business activities. As of the date of these financial statements, we know of no threatened or pending lawsuits, claims or other similar contingencies.




 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 12 – Commitments and Contingencies (continued)
 
VDF Agreements
On January 28, 2014 we entered into a coffee fruit patent license, Coffeeberry® trademark license and raw materials supply agreement (the "License Agreement") with VDF FutureCeuticals, Inc. ("VDF"). This arrangement included a settlement agreement (the "Settlement Agreement") and is structured on a series of agreements to settle claims asserted by and against the parties with respect to an action filed by VDF against our predecessor company SITC; and resolve a petition for cancellation of certain trademark registrations filed by SITC. Copies of the agreements which formed the settlement were included with our filing of a Current Report on Form 8-K on February 3, 2014. A summary of each agreement is as follows:

1.  Settlement Agreement
Under the Settlement Agreement the parties mutually filed voluntary dismissals with respect to the foregoing claim and petition for cancelation. The parties released each other from liability arising or accruing prior to January 28, 2014 for past monetary damages for any patent infringements and all other claims that the parties brought or could have brought prior to January 28, 2014. In addition, our Company agreed to  formally abandon all pending patent applications directed to coffee berries or coffee berry technology and cancel with prejudice all trademark proceedings.

2.   License Agreement
The License Agreement comprises a coffee fruit patent license, Coffeeberry® trademark license and raw materials supply agreement. The key elements include:

(a) Patents and Trademark License
In exchange for our ongoing compliance with certain Alternative Minimum Payments and royalties (and the terms and conditions related to raw materials discussed below), VDF granted us a non-exclusive, non-transferrable, non-sublicensable license to use and practice certain VDF patent rights and a non-exclusive license to use certain VDF trademarks and trademark rights.

(b) Raw Materials
VDF will supply us with raw materials. We are also permitted to have raw materials manufactured by a third party (subject to some limitations) solely for the use in the products that we sell. Additionally,
we must share with VDF all details of certain input raw materials.


 


 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 12 – Commitments and Contingencies (continued)

The License Agreement requires us to make quarterly payments, which may be a base amount (an "Alternative Minimum Payment", or "AMP"), or be grossed up to a higher amount subject to our use of rights under the License. The amount and schedule for the remaining AMPs is as follows:
 
Three Month Period Ended
Due Date
Amount
     
December 31, 2016
February 14, 2017
$100,000
March 31, 2017
May 15, 2017
$100,000
June 30, 2017
August 14, 2017
$100,000
September 30, 2017
November 14, 2017
$100,000
December 31, 2017
February 14, 2018
$100,000
March 31, 2018
May 15, 2018
$100,000
June 30, 2018
August 14, 2018
$125,000
September 30, 2018
November 14, 2018
$125,000
December 31, 2018
February 14, 2019
$125,000
March 31, 2019
May 15, 2019
$125,000
Each quarter end thereafter
45 days after each quarter end
$150,000


AMP's are due forty five days after the end of each reporting period and we may rollover AMPs to the VDF senior convertible note (the "VDF Note"). During the year ended December 31, 2015, we rolled over four AMPs totaling $300,000, plus accrued interest of $18,481 to the VDF Note and during the nine month period ended September 30, 2016, we rolled over three AMPs totaling $275,000 to the VDF Note.

3.  VDF Note
The VDF Note is a senior convertible note with a maturity date of December 31, 2018. Payment requirements are accelerated: (i) pursuant to an event of default; or (ii) if the License Agreement is terminated. Interest on the Senior Convertible Note is 7% per annum, subject to adjustment to 12% for events of default. On the maturity date, we must pay VDF all principal, unpaid interest and late charges, if any, and we have the right, subject to certain limitations, to prepay principal at any time and from time to time. No indebtedness of our company shall rank senior to the payments due under the VDF Note unless prior written consent of VDF is obtained; and payments under the note are secured by the Security Agreement as described below. At any time and at the option of VDF, any principal outstanding under the VDF Note may be converted into restricted common shares of the Company based on the terms of the VDF Note. As described above in Note 8 - Convertible Notes Payable, the conversion price of the VDF Note is presently $0.2606 per share.

4.  Pledge and Security Agreement
Under the Pledge and Security Agreement, we pledged collaterally assigned and granted to VDF a security interest in all of our right, title and interest, whether now owned or hereafter acquired, in and to our Company's property to secure the prompt and complete payment and performance of obligations existing under any of the agreements.



 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 12 – Commitments and Contingencies (continued)

5.  Warrant
We issued VDF a warrant (the "VDF Warrant") entitling VDF, from any time after the occurrence of a Warrant Exercise Event until the fifteenth anniversary of the issuance of the VDF Warrant, to purchase from our Company, shares of our common stock representing ten percent (10%) of our fully diluted outstanding shares of common stock at a purchase price of $0.001 per share. A Warrant Exercise Event comes into being if any of the following events occur:
 
i.
our Company reports $25,000,000 or more of gross sales in any fiscal year in our audited financial statements for such fiscal year;
ii.
our Company has a class of securities listed for trading on the New York Stock Exchange, the American Stock Exchange or NASDAQ;
iii.
our Company maintains an aggregate market capitalization of our company's outstanding capital stock of at least $125,000,000 for twenty (20) consecutive trading days based on the closing prices for the shares of our common stock as reported on the OTC Bulletin Board; or
iv.
our Company has a change of control as defined in the VDF Warrant.

No circumstances have yet occurred which classify as a Warrant Exercise Event and therefore there is no right in place for VDF to exercise the VDF Warrant.

6.  Registration Rights Agreement
Under the Registration Rights Agreement we granted VDF, or an assignee, demand registration rights and incidental registration rights with respect to: (i) any shares of our common stock issued upon conversion of the VDF Note; (ii) any shares of our common stock issued upon exercise of the VDF Warrant; and (iii) any shares of our common stock acquired by VDF or an assignee from our Company after the date of the Registration Rights Agreement upon exercise or conversion of other convertible securities that are acquired by VDF or an assignee from our Company after the date of the Registration Rights Agreement. Pursuant to VDF's demand registration right, at any time or from time to time, a holder or holders holding a majority of registrable securities then outstanding may require our Company to use our best efforts to effect the registration under the Securities Act of 1933, as amended, of all or part of their respective registrable securities (subject to any limits that may be imposed by the Securities and Exchange Commission pursuant to Rule 415 under the Securities Act), by delivering a written request to our company. In addition to the registration rights granted to VDF, there are restrictions on our granting of registration rights to other parties.

7.  Investor Rights Agreement
Under the Investor Rights Agreement VDF has the right to designate that number of nominees to our board of directors such that the total number of directors designated by VDF is in proportion to its percentage ownership of the outstanding voting power of the Company. From and after the date of the Investor Rights Agreement and until such time as: (i) the VDF Note has terminated; (ii) the VDF Warrant has terminated or been exercised; and (iii) VDF's percentage interest is less than 1%, if VDF does not have a designee on our board of directors, VDF shall have the right to appoint one individual as a non-voting observer entitled to attend meetings of our board of directors. Also pursuant to the Investor Rights Agreement, for so long as: (i) the VDF Note remains outstanding, (ii) the VDF Warrant remains outstanding, or (iii) VDF owns a percentage interest equal or greater to 10%, we will require VDF's consent before taking certain corporate actions, including, among others: (a) amending our constating documents, (b) making any material change to the nature of our business, (c) incurring indebtedness exceeding $7,500,000 at any one time outstanding; or (d) declaring or paying dividends.
 
 

 
KONARED CORPORATION
NOTES TO FINANCIAL STATEMENTS
(Unaudited)


NOTE 13 – Subsequent Events

Subsequent to the period ended September 30, 2016, on October 4, 2016 we issued 150,000 restricted common shares to a newly appointed director as signing compensation. This issuance was made at market close price of $0.056 on date of issue for a deemed payment of $8,400. These shares were issued to one US person with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

Subsequent to the period ended September 30, 2016, on October 18, 2016, the Company entered into a Settlement Agreement with Splash Beverage Group, Inc. ("SBG") (collectively the "Parties") to settle and discharge, with no payments being made between the Parties, all claims between the Parties regarding the Confidential Distribution Agreement ("CDA") and Sales and Marketing Services Agreement ("SMSA") which the Parties had entered on April 22, 2014 and which the Company had provided cancelation notices to SBG of the SMSA on September 16, 2015 and the CDA on September 23, 2015. A copy of the settlement agreement was included in our filing of a Current Report on Form 8-K on October 21, 2016. This Settlement Agreement is the final resolution of all disputes and claims between the Parties.

Subsequent to the period ended September 30, 2016, on October 28, 2016 we issued 1,000,000 restricted common shares for consultant services rendered. This share issuance was priced at market close price of $0.0525 on date of issue for a deemed payment totaling of $52,500. These shares were issued to three US persons with reliance on the exemptions from the registration requirements provided for in Rule 506 Regulation D and/or Section 4(a)(2) of the Securities Act of 1933, as amended.

Subsequent to the period ended September 30, 2016, on November 7, 2016 the balance of $73,500 owed on September 2015 Note Two was purchased by September 2015 Lender One from September 2015 Lender Two and revised terms were provided to the Company. In return for an addition of $11,500 to the principal and addition of the right to convert the September 2015 Note balance into common shares of the Company at a fixed price of $0.04 per share, the redemption terms were amended to be one payment of $40,000 on May 7, 2017 and one payment of $45,000 on August 7, 2017 and the Company has the right to prepay the November 2016 Note in whole, or in part, at any time without penalty upon five days notice.

It was management's assessment that there were no other events which should be classified as subsequent events for the period of these financial statements.











ITEM 2. MANAGEMENTS' DISCUSSION AND ANALYSIS OR PLAN OF OPERATION  

FORWARD LOOKING STATEMENTS

Certain information included herein contains forward-looking statements that involve risks and uncertainties within the meaning of Sections 27A of the Securities Act, as amended; Section 21E of the Securities Exchange Act of 1934. These sections provide that the safe harbor for forward looking statements does not apply to statements made in initial public offerings. The words, such as "may," "would," "could," "anticipate," "estimate," "plans," "potential," "projects," "continuing," "ongoing," "expects," "believe," "intend" and similar expressions and variations thereof are intended to identify forward-looking statements. These statements appear in a number of places in this Form 10-Q and include all statements that are not statements of historical fact regarding intent, belief or current expectations of the Company, our directors or our officers, with respect to, among other things: (i) our liquidity and capital resources; (ii) our financing opportunities and plans; (iii) continued development of business opportunities; (iv) market and other trends affecting our future financial condition; (v) our growth and operating strategy. Investors and prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those projected in the forward-looking statements as a result of various factors. The factors that might cause such differences include, among others, the following: (i) we have incurred significant losses since our inception; (ii) any material inability to successfully develop our business plans; (iii) any adverse effect or limitations caused by government regulations; (iv) any adverse effect on our ability to obtain acceptable financing; (v) competitive factors; and (vi) other risks including those identified in our other filings with the Securities and Exchange Commission.

The following discussion and the information provided contain forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed below and elsewhere in this Report. Our actual results may differ materially from the results anticipated in any forward-looking statements in this Report due to a variety of factors, including, without limitation those set forth as "Risk Factors" in the Post-Effective Amendment to our Form S-1 which became Effective on May 12, 2016. This can be found along with all our filings to the SEC at www.sec.gov.

Corporate Overview

In this Report the terms "KonaRed", "we", "us", "our", the "Registrant", and the "Company" mean KonaRed Corporation. Unless otherwise stated, "$" refers to United States dollars. Our fiscal year end is December 31st. We were incorporated in the State of Nevada on October 4, 2010 and our head office is located at 1101 Via Callejon #200, San Clemente, CA 92673-4230. The Company's common stock is publicly traded on the OTCQB over-the-counter market ('OTCQB') under the trading symbol: KRED.

Description of Business

Beverage Products

KonaRed® Corporation is a Hawaiian Coffee Company and the pioneer of the USA Grown, Hawaiian Coffee Fruit. The company oversees a vertically integrated supply chain which starts with the world renowned, highest quality Coffee and Coffee Fruit from Kona, Hawaii. The Company produces five award winning Ready to Drink ('RTD') Cold Brew Coffee varieties, a complete line of whole bean and ground Kona Coffee Beans, plus its well established RTD Antioxidant Juices and Hawaiian Coffee Fruit nutritional supplements. The Company also has an industrial ingredients supply division. KonaRed products are sold throughout the U.S. and can be found in select Vons, Albertsons, Pavilions, Ralphs, Fred Meyer, King Soopers, Smiths, Kroger, Safeway, Vitamin Shoppe, Target, Whole Foods, 7-Eleven and many other retail outlets. More information about KonaRed and its products can be found at www.konared.com.
 
 
 
12oz. Award Winning RTD Cold Brew Coffees

In February 2016 we introduced a new line of Ready-to-Drink ('RTD') Cold Brew Coffees which included the flavors of 'Original', 'Hawaiian Vanilla' and 'Espresso'. In August 2016, consumer demand precipitated the addition of 'Kauai Caramel' and 'Maui Mocha' flavors. Sales of this product have expanded quickly and the line is now being sold in retailers along the West Coast and Hawaii, as well as online.  Hawaiian Vanilla has won the BevergeWorld BevStar award and the Original Cold Brew won the Gourmet Retailer Editor's Choice for Best Coffee.  KonaRed RTD Cold Brew Coffees have become one of the leading brands in this fast growing consumer packaged goods sector in 2016.  Cold brew coffee continues to grow in popularity as it appeals to premium beverage trends, but also health and wellness ones too.

The evidence of consumer demand for Cold Brewed Coffee is in the numbers. According to SPINS data for the 52 weeks ending October 4th 2015, Cold Brewed Coffee sales reached $15.3million in Multi-Outlet and $7.3million in the Natural Channel. With dollar and unit sales in both channels exceeding 100% growth versus the prior year and the top three brands commanding over 85% share of the segment, it's evident that 2015 was just the beginning.

   





 
 
KonaRed's anti-oxidant beverage products consist of the following proprietary formulations:

16 oz. KonaRed Original Antioxidant Juice (2 servings)







 

10.5 oz. KonaRed Original Hawaiian Coffeeberry Antioxidant Juice (1 serving)






 
10.5 oz. Hawaiian Coffeeberry Organic Green Tea (1 serving)





 
 
Wellness Products

We also produce wellness nutritional products which are now available at select locations of Vitamin Shoppe nationwide and in several major chains in Hawaii. Primary among these is our antioxidant KonaRed Hawaiian Superfruit Powder Tub and our Wake-up Performance Powder Packets.


KonaRed Hawaiian Superfruit Powder

100% soluble coffee fruit powder made from coffee fruit from Kona, Hawaii


KonaRed Wake Up Performance Powder Packets

1 tub with 30 packets

 
 
 
Coffee Bean Products

Our line of KonaRed Coffee Beans come in three varieties.


100% Kona Coffee beans

 

Coffee Bean Products


100% Kona Coffee beans with Hawaiian Coffeeberry




 
 
Coffee Bean Products


10% Kona Blend Coffee Beans





 
Industrial Ingredient Division Launch

In December of 2015, we executed a supply contract with our partner, VDF Futureceuticals Inc, ("VDF"), we now offer an American made U.S.A Hawaiian grown coffee fruit supply to the world with both coffee fruit powders and liquid extracts to other companies B2B.  We expect this division to be a major revenue generator over the next few years and we will benefit due to the comparatively higher gross margin earned on raw material sales.

Use of Patents

A key element of our business is the License we have been provided by VDF which provides us with the use of VDF's coffee fruit patents and Coffeeberry® trademark license. The License Agreement has effectively formed a strategic alliance between KonaRed and VDF and eliminated competition and patent defense costs between the parties for rights to valuable proprietary coffee fruit research and development ("R&D").

We developed the necessary processing and manufacturing intellectual property ("IP") for processing and manufacturing our base ingredient - the coffee fruit (and have subsequently merged this with the IP provided by VDF). The License Agreement provides us with access to use of VDF's patents, as existing and/or modified in the future, along with the processes, products, methods, compositions and know-how developed by VDF related to the patented Coffee Cherry related inventions, trade secrets and know-how.

Trademarks

We have filed and received several trademarks that we use in our daily business

KonaRed
Nature's Best Kept Secret
Paradise in a Bottle

Operations, Facilities and Distribution Method for Our Products

Our distribution facility is a 10,000 square foot facility located in San Clemente, California. We use an outsourcing business model based on utilizing third parties for the bulk of our non-core business operations, such as manufacturing and coffee fruit extraction and retail products, while maintaining in-house control of critical marketing, product development and warehousing/shipping functions.
 
Supply and Distribution for Our Product

We have an agreement in place which provides a reliable and trusted source of coffee fruit supply. This is structured as 5-year arrangement based on our commitment to exclusively purchase coffee fruit from the supplier and the supplier is obligated to provide coffee fruit exclusively to our company. Our company's principal supplier of raw coffee fruit is Greenwell Farms, Inc., a Hawaii corporation with a long established history as a major Hawaiian coffee supplier.

We determine the amount of dried coffee fruit to purchase from our suppliers based on our annual sales forecasts and have historically been accurate at estimating supply quantities based on projected sales. Since the fruit surrounding the coffee bean was previously discarded as a byproduct of coffee production, such raw material has also remained readily available from coffee farms located in Hawaii and internationally. Therefore, although we currently have a principal supplier, in the event that we lose this supplier, we are confident that we would be able to secure raw material from other suppliers.
 
 

 
Our production process is based on our company taking possession of the dried coffee fruit from the grower, shipping the dried coffee fruit to our San Clemente warehouse for storage, and then subsequently sending required quantities to subcontractors for value-added processing. The value-added processing consists of water based extraction whereby the dried coffee fruit is reduced to liquid extract. This processing generally takes approximately 24 hours to complete.

For our company's beverage production, our antioxidant beverages are processed by us sending processed coffee fruit to a 3rd party flavor house which makes the KonaRed concentrate and then ships it to our company's bottling vendors. The process for Cold Brew Coffee is similar. Notably, we own the proprietary beverage formulas. Pallets of the ready-to-drink product items (defined as "Stock-keeping Units", or "SKUs") are then shipped back to our company's warehouse, or third party inventory transit service providers, and disseminated to either distributors, or shipped directly to retailers.

Market

We believe our company has established a frontrunner position in the coffee fruit category, boasting numerous retail entrees and continued expansion. We first established our products in the upstart coffee fruit sector on our home turf in Hawaii and then have expanded across the USA by winning placements at Kroger, Target, Vitamin Shoppe and other major retailers. We have since moved into the large and lucrative market of coffee and have expanded beyond just coffee fruit.  Over 50% of Americans over the age of 18 drink coffee daily and it is a huge marketplace. We have positioned ourselves as one of the leading RTD Cold Brew Coffee product lines on the market since our February 2016 launch.

Sales Strategy

Our sales strategy for our Cold Brew Coffee and Antioxidant beverages and nutritional supplement products is to sell and ship directly from our warehouse in San Clemente, California. We have a direct sales team of four individuals, two in Hawaii and two in Southern California whose main job is to secure new customers directly in person. We have also retained manufacturers' sales representatives who work to increase our overall sales efforts.

We've learned the importance of supporting our distributor network through "on the ground" sales personnel and will add to our sales force as markets develop. For an emerging product such as ours, merchandising follow-up, dialog with store managers, and coordination of promotions and pricing are critical in maintaining brand momentum. We anticipate adding sales staff to meet demand as we grow.

Although KonaRed was invented as a wellness product, we believe consumer acceptance of our beverage products now places us both within the coffee and 'premium juice' retail categories, as well as on dairy shelves with cold brew coffees, and the coffee aisle with our whole bean coffee line.

In summary, our sales expansion priorities are:

(1)  expansion of wholesale distribution
(2)  retail chain success
(3)  growth of direct to retail sales
(4)  growth of direct to consumer sales, and
(5)  development of raw material ingredient sales





 
Major Industry Participants

The expansion of leading beverage monoliths within new products in the beverage category has tightened pricing but also created a vibrant mergers and acquisitions environment for emerging brands like KonaRed.

Takeovers and mergers are a hallmark of our industry. Recent beverage industry deals have included:

Coca Cola acquired Zico Coconut Water in January  2014;
 
Pepsi acquired a majority stake in O.N.E. Coconut Water in April 2012;
 
InBev has made a series of investments in Sambazon (in August 2012, December 2011,
and December 2008);
 
InBev has also made a series of investments in Vita Coco in May 2012 and December 2010; and
 
Bai Brands is in discussion with Dr. Pepper Snapple for an acquisition of $1.4 billion in October 2016
 
Peets Coffee & Tea purchased 100% of Stumptown Coffee Roasters in October 2015 for an un-disclosed amount
 
High Brew Coffee received $4 Million investment from CAVU Venture Partners in April 2016

Market Development and Metrics

Our objective is to develop KonaRed into a powerhouse coffee company which supplies consumers with a variety of high quality coffee, beverage and nutritional products. We plan to achieve this using a strategy of expanding our retail footprint through a series of revenue generating distribution channels as well as direct to consumer sales.

Presently, our predominant focus is our beverage and cold brew coffee businesses and we are generating revenues through the following distribution channels:
 
Direct Store Distributors
Broadline Distributors
Direct to Retail
Online Retail
Raw Material Ingredient Sales
 
The specifics of each channel are as follows:

 
Direct Store Distributors:
The direct store distributors ("DSDs") channel comprises wholesale distributors who maintain in-house inventories of multiple brands of beverage products, such as juices, beer, and water, which they sell to retail stores and other wholesalers. DSD is a business process that manufacturers use to both sell and distribute goods directly to point of sales or point of consumption including additional product and market related services such as merchandising.  In order to fulfill growing demand from retailers, DSDs specializing in the beverage channels are expanding their functional beverage categories to include the type of products in which KonaRed specializes. (A 'functional beverage' is defined as one which has certain attributes, such as Antioxidants.)


 
 
 
Broadline Distributors:
The broadline distributors channel includes wholesalers who specialize in distribution of natural food products to retail stores. A broadline distributor services a wide variety of accounts with a wide variety of products ranging from food, beverages and supplies in the natural channel selling to retailers like Whole Foods Markets. 
     
 
Direct to Retail:
During our growth phase we have developed a direct to retail sales channel to grocery stores such as Albertson's and specialty retail stores. We intend to continue to service and develop this channel further. Direct to retailer includes major retail chains with 500 locations or more where the KonaRed product ships direct to the retailers distribution centers and the retailers are responsible for the distribution to each retail store. 
     
 
Online Retail:
The KonaRed brand has gained an increasing following of Internet based customers who purchase our products directly through our website. We plan to expand this channel though on-line marketing initiatives in parallel with our brand recognition marketing campaigns. In April, 2016 we re-launched our website after a major overhaul which included addition of the Shopify platform to promote efficient online sales.
     
 
Raw Material Ingredient Sales:
In December 2015, we launched our coffee fruit raw ingredient materials division and will be expanding this revenue channel in cooperation with VDF.

To develop this strategy we continually evaluate: product line sales, product line specific gross margin, individual products costs and pricing of individual product lines. Growth of our retail footprint will continue to be evaluated through the growth of our client base in each specific distribution channel.

Competition
 
The beverage industry is extremely competitive. The principal areas of competition include pricing, packaging, development of new products and flavors, and marketing campaigns. Our product is competing directly with a wide range of drinks produced by a relatively large number of manufacturers. Most of these brands have enjoyed broad, well-established national recognition for years, through well-funded ad and other marketing campaigns. In addition, companies manufacturing these products generally have far greater financial, marketing, and distribution resources than we do. We compete to secure distributors who will agree to market our product over those of our competitors, provide stable and reliable distribution, and secure adequate shelf space in retail outlets. Our products compete with all liquid refreshments, including numerous specialty beverages, such as: SoBe; Snapple; Arizona; Vitamin Water; Gatorade; and Powerade.

Important factors that affect our ability to compete successfully include taste and flavor of our product, trade and consumer promotions, the development of new, unique and cutting edge products, attractive and unique packaging, branded product advertising, pricing, and the success of our distribution network. We believe our branding is strong and our position as a U.S. coffee supplier is relatively unique. We are committed to ethical production of our source ingredients and our use of a previously discarded by-product of coffee represents our environmentally positive corporate operating philosophy. We are also non-GMO. We believe these factors combine to provide us with a competitive advantage and our products are consistently well received by consumers.
 
 
 
 
Intellectual Property
 
KonaRed® is a registered trademark in the United States and in Japan and we intend to seek a number of trademarks for slogans and product designs. We also hold trademark rights to the "Paradise in a Bottle®" and "Nature's Best Kept Secret®" tag lines; and rights to a suite of international CoffeeBerry® trademarks provided under our License with VDF. We believe we have the rights to use the necessary processing and manufacturing intellectual property relating to processing and manufacturing our base ingredient (the coffee fruit) and our proprietary beverage formulas. However, we do not own the manufacturing process for making the finished beverages. We intend to aggressively assert our rights under trade secret, unfair competition, trademark and copyright laws to protect our intellectual property, including product design, product research and concepts and recognized trademarks. These rights are protected through the acquisition of patents and trademark registrations, the maintenance of trade secrets, the development of trade dress, and, where appropriate, litigation against those who are, in our opinion, infringing these rights.

While there can be no assurance that registered trademarks will protect our proprietary information, we intend to assert our intellectual property rights against any infringer. Although any assertion of our rights could result in a substantial cost to, and diversion of effort by, our Company, management believes that the protection of our intellectual property rights will be a key component of our operating strategy.

Partnership Initiative with VDF FutureCeuticals Inc.

To the mutual satisfaction of the parties, on January 28, 2014 KonaRed settled a patent dispute which had been pending since 2011 with VDF by forming a partnership with them.

VDF (www.futureceuticals.com) is a leader in the bio-research, development, and manufacture of high-quality fruit, vegetable, and grain-based nutraceutical and functional food ingredients. VDF is committed to discovery-based research that leads to the expansion of human health, and is the trusted partner-of-choice for companies in search of creative, ethical solutions for the health and wellness needs of today's consumer. Its sister company, Van Drunen Farms, was founded over one hundred years ago and has grown into one of the largest dried food ingredient manufacturers and suppliers in the world.

VDF is a major biotech and ingredient supplier and owner of the patent-protected CoffeeBerry® coffee fruit technology, a proprietary set of agricultural and industrial processes and a line of unique ingredients. VDF's patents and processes capture the same potent nutrition inherent in coffee fruit which had formed the basis of two provisional patent applications made by KonaRed based on the proprietary research and development which had been fully developed by KonaRed.

The partnership brings together the flavor profile of KonaRed's beverages and the ingenuity, innovation, and ongoing chemistry and clinical research of VDF's globally integrated CoffeeBerry® coffee fruit ingredient platform.

Seasonality of Business
 
The sales of our products are influenced to some extent by weather conditions in the markets in which we operate. Unusually cold or rainy weather during the summer months may have a temporary effect on the demand for our product and contribute to lower sales, which could have an adverse effect on our results of operations for such periods.


 

Government Regulation
 
Our products are considered to be synonymous with coffee for regulatory purposes and are thus sold under the U.S. Food and Drug Administration's ("FDA") "Generally Regarded as Safe" ("GRAS") regulatory umbrella. Accordingly, we are not required to petition for FDA approval of our coffee fruit offerings, which would be typical under standard dietary supplement guidelines. However, our Company has registered all of its supply chain subcontractors with the FDA as required and has met and answered all inquiries by the FDA. We believe we are in full compliance with all FDA regulations.

Employees
 
In addition to Shaun Roberts, who is our Chief Executive Officer, director, and Board Chair; Kyle Redfield, who is our President and Chief Operating Officer; and John Dawe, who is our Chief Financial Officer, Secretary & Treasurer, we currently employ 7 full-time and 4 part-time employees whom all work in the United States. Our operations are overseen directly by management that engages our employees to carry on our business. Our management oversees all responsibilities in the areas of corporate administration, business development, and research; and as needed we engage the services of other professionals for legal, audit and other technical services. We intend to expand our current management to retain other skilled directors, officers, and employees with experience relevant to our business focus. Our management's relationships will provide the foundation through which we expect to grow our business in the future. We believe that the skill-set of our management team will be a primary asset in the development of our brands and trademarks.

Description of Property

Our principal office and warehouse is located at 1101 Via Callejon #200, San Clemente, California 92673-4230. The Company shares a lease for this facility with Malie, Inc., ("Malie") a company owned by our CEO and his spouse, who is the CEO of Malie. We also utilize offices provided by our CEO and CFO. The current distribution facility lease has a term of June 1, 2016 to May 31, 2018 and presently requires total lease payments of $10,466 per month, of which the Company's portion is $8,066 per month. On February 25, 2016, the Company and Malie extended the lease for an additional 24 month term and committed to total lease payments of $10,466 for June 1, 2016 to May 31, 2017 and $10,793 for June 1, 2017 to May 31, 2018. The Company's portion of payments under the extended term arrangements are $8,066 for June 1, 2016 to May 31, 2017 and $8,318 for June 1, 2017 to May 31, 2018. For the year ended December 31, 2015 our Company paid a total of $92,479 (averaging $7,707 per month) of the total lease expense of $120,360 (averaging $10,030 per month). We believe that the condition of our principal office and warehouse are satisfactory, suitable and adequate for our current needs.

Fixed assets currently shown on our balance sheet are comprised of furniture and warehouse fixtures and at present the Company has no material property balances which are classified as assets under generally accepted accounting principles.

 





 
Critical Accounting Policies
 
Basis of presentation
 
The financial statements of the company have been prepared in accordance with the accounting principles generally accepted in the United States of America ('GAAP').

Inventories
 
Inventories are primarily raw materials and finished goods. Inventories are valued at the lower of, cost as determined on an average basis, or market. Market value is determined by reference to selling prices at, or around, balance sheet date or by management's estimates based on prevailing market conditions. Management writes down the inventories to market value if it is below cost. Management also regularly evaluates the composition of its inventories to identify slow-moving and obsolete inventories to determine if valuation allowance is required. Costs of raw material and finish goods inventories include purchase and related costs incurred in bringing the products to their present location and condition.
 
Revenue recognition
 
Sales revenue consists of amounts earned from customers through the sale of its consumer products and from delivery fees. Sales revenue is recognized when persuasive evidence of an arrangement exists, price is fixed or determinable, title to and risk of loss for the product has passed, which is generally when the products are received by the customers, and collectability is reasonably assured. Customers accept good FOB shipping point. Goods are sold on a final sale basis and in the normal course of business the Company does not accept sales returns.
 
Cost of goods sold
 
Cost of goods sold consists primarily of selling of raw materials and finished goods purchased from vendors as well as warehousing and distribution costs such as inbound freight charges, shipping and handling costs, purchasing and receiving costs.

Stock Based Payments
 
We account for share-based awards to employees in accordance with ASC 718 "Stock Compensation". Under this guidance, stock compensation expense is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the estimated service period (generally the vesting period) on the straight-line attribute method. Share-based awards to non-employees are accounted for in accordance with ASC 505-50 "Equity", wherein such awards are expensed over the period in which the related services are rendered.





 
RESULTS OF OPERATIONS

The following discussion and analysis covers material changes in the financial condition of our Company for the periods ended September 30, 2016 and September 30, 2015. A summary is as follows:

 
 
Three Months
ended
September 30,
2016
   
Three Months
ended
September 30,
2015
   
Nine Months
ended
September 30,
2016
   
Nine Months
ended
September 30,
2015
 
                                 
Total Sales
 
$
404,089
   
$
174,418
   
$
789,014
   
$
587,705
 
Cost of goods sold
   
311,064
     
131,419
     
636,401
     
472,954
 
Gross Margin
   
93,025
     
42,999
     
152,613
     
114,751
 
Research and development
   
-
     
-
     
4,685
     
4,610
 
Advertising and marketing
   
105,721
     
70,500
     
263,394
     
269,047
 
General and administrative
   
822,780
     
804,230
     
1,973,793
     
2,098,375
 
Operating expenses
   
928,501
     
874,730
     
2,241,872
     
2,372,032
 
Loss from operations
   
(835,476
)
   
(831,731
)
   
(2,089,259
)
   
(2,257,281
)
Interest expense
   
(73,755
)
   
(38,100
)
   
(147,287
)
   
(212,343
)
Other Income (expense)
   
(147,865
)
   
1,866
     
(433,040
)
   
(77,343
)
Net Loss
 
$
(1,057,096
)
 
$
(867,965
)
 
$
(2,669,586
)
 
$
(2,546,967
)
                                 
Net loss per share, fully diluted
 
$
(0.01
)
 
$
(0.01
)
 
$
(0.02
)
 
$
(0.03
)


Revenue

Total sales are comprised of product sales, product sales to a related party, and shipping and delivery fees.

During the three and nine month periods ended September 30, 2016 we recorded total sales of $404,089 and $789,014 respectively compared with total sales of $174,418 and $587,705 respectively for the three and nine month periods ended September 30, 2015, representing increases of 132% and 34% respectively.

For the three and nine month periods ended September 30, 2016 and September 30, 2015: comparative product sales were $397,899 and $772,083 respectively versus $168,148 and $572,358 respectively; product sales to a related party were $1,800 and $nil respectively versus $1,800 and $nil respectively; and comparative shipping and delivery fees were $4,390 and $15,131 versus $6,270 and $15,347 respectively.

The Company's new line of Cold Brew Coffees was introduced in February, 2016 and for the period ended September 30, 2016 accounted for 76% of sales during the three month period and 54% during the nine month period. During fiscal 2016, Cold Brew sales increased from $22,000 in quarter one to $99,000 in quarter two and to $307,000 in Quarter three, representing quarterly growth from quarter one to quarter two of 350% and 210% for quarter two to quarter three.

We attribute the growth in current period revenue to the acquisition of new customers for KonaRed Cold Brew Coffees and the success of our efforts to build a distribution network for this new product line. Additionally, a sizable component of Cold Brew Coffee sales growth has been from repeat customers. Cold Brew is now KonaRed's major marketing focus and consumer demand drove expansion of our Cold Brew Coffee line from 3 to 5 products in August with the addition of "Maui Mocha" and "Kauai Caramel" flavors.

Overall, Cold brewed coffee is a booming new market sector and KonaRed has emerged early as a leader in this new category. Cold brewed coffee is expected to go down as one of the top food and beverage trends in 2016, and into 2017. KonaRed's Cold Brew Coffees have won multiple industry and consumer awards during the period ended September 3, 3016 and now appear on major retail shelves throughout the Western US and New York.
 
 

Cost of Goods Sold

For the three and nine month periods ended September 30, 2016 and September 30, 2015, Cost of Goods Sold ('COGS') were $311,064 and $636,401 respectively compared to $131,419 and $472,954 respectively. This corresponds to gross margins of $93,025 or 23%, and $152,613 respectively, or 19%, versus $42,999, or 24%, and $114,751, or 19%, respectively.

The primary COGS dollar and percentage components for the nine month periods ended September 30, 2016 and September 30, 2015 were: manufacturing costs, which include both in-house and outsourced manufacturing costs, totaling $497,062 (78%) versus $349,912 (74%) respectively; supplier inventory delivery fees of $29,816 (5%) and $8,751 (2%) respectively; customer shipping costs of $86,462 (14%) and $81,003 (17%) respectively; and packaging, term discounts, and inventory adjustment costs totaling $23,041 (3%) and $33,288 (7%) respectively. Relatively higher manufacturing costs in the current period include start-up costs for our new product line and are expected to improve in future periods.

For the three and nine month periods ended September 30, 2016 gross margins earned on the new line of Cold Brew Coffees were 39% and 40% respectively.

Operating Expenses

Our operating expenses are classified into three categories:

- Research and development
- Advertising and marketing
- General and administrative expenses

Research and Development

Research and development costs were minimal for both periods ended September 30, 2016 and September 30, 2015. We project R&D costs will remain near current levels during the balance of fiscal 2016.

Advertising and Marketing

Advertising and marketing costs were $105,721 and $263,394 respectively for the three and nine month periods ended September 30, 2016 versus $70,500 and $269,047 for the three and nine month periods ended September 30, 2015, representing decreases of 34% and 24% respectively. These decreases were primarily attributable to both our planned reduction of advertising and marketing expenditures to conserve capital during our sales distribution re-alignment process.

Advertising and marketing expenses for the nine month periods ended September 30, 2016 and September 30, 2015 were comprised of: (i) net advertising, website and graphic art costs and related costs of $63,221 versus $149,744 respectively; (ii) cost of free samples and demos was $120,840 versus $59,953 respectively; (iii) investor relations $49,644 versus $27,302; and (iii) other marketing expenses, sponsorships and public relations initiatives which totaled $29,689 versus $32,048 respectively. We project advertising and marketing costs will remain at current levels during the balance of fiscal 2016.


 
 
General and Administrative

General and administrative ('G&A') costs were $822,780 and $1,973,793 for the three and nine month periods ended September 30, 2016 compared to $804,230 and $2,098,375 for the three and nine month periods ended September 30, 2015, representing an increase of 2% and a decrease of 6% respectively.

Components of G&A for the nine month periods ended September 30, 2016 and September 30, 2015 included: (i) payroll of $702,510 versus $546,566 respectively; (ii) non-cash expenses for stock issued for compensation and services of $539,688 versus $564,996 respectively; (iii) professional and consultant fees of $132,916 versus $234,650 respectively; (iv) VDF License fees of $275,000 versus $175,000 respectively, both of which were rolled over to the VDF Senior Note; and (v) other G&A items totaling $323,679 versus $577,163. We project general and administrative expenses will decrease moderately during the balance of fiscal 2016.

Interest Expense

Interest expense, including amortizations of original issuance discounts related to debt issuances totaled $73,755 and $147,287 respectively for the three and nine month periods ended September 30, 2016 versus $38,100 and $212,343 respectively for the three and nine month periods ended September 30, 2015. We project that interest expenses will decrease moderately during the balance of fiscal 2016.

Other Income (Expense)

During the three and nine month periods ended September 30, 2016 and September 30, 2015, we recorded non-cash charges for changes in fair market value of derivative liabilities which arose from our issuance of convertible debt instruments, non-cash amortizations of discounts on notes payable, and an equity modification cost for the re-pricing of warrants. These were classified as other expense items and included expenses of $147,865 and $433,040 respectively for the three and nine month periods ended September 30, 2016 versus a gain of $1,866 and an expense of $77,343 for the three and nine month periods ended September 30, 2015. We project these expenses will decrease moderately during the balance of fiscal 2016.

Net Loss

Our net losses for the three and nine month periods ended September 30, 2016 were $1,057,096, or $0.01 per share, and $2,669,586, or 0.02 per share, respectively. Our net losses for the three and nine month periods ended September 30, 2015 were $867,965, or $0.01 per share, and $2,546,967, or 0.03 per share, respectively

Liquidity and Capital Resources

Our financial position at September 30, 2016 and December 31, 2015 was as follows:
 
Net Working Capital
 
 
As of
September 30,
2016
   
As of
December 31,
2015
 
             
Current Assets
 
$
680,739
   
$
645,107
 
Current Liabilities
   
1,156,948
     
463,063
 
Net Working Capital (Deficit)
 
$
(476,209
)
 
$
182,044
 




 
As of September 30, 2016 we had cash on hand of $118,117, accounts receivable totaling $215,462, and inventory of $347,160. This compares with cash of $148,769, accounts receivable totaling $51,227, inventory of $439,158, and prepaid expenses of $5,953 as of December 31, 2015. Our net working capital decreased to a balance of $(476,209) at September 30, 2016, from a balance of $182,044 at December 31, 2015 largely due to $435,774 of convertible notes payable being moved from long term liabilities to short term liabilities due to the notes coming within six months of maturity. At present, we estimate we will need to raise capital during the coming twelve months to fund our strategic plans.

Cash Flows
 
 
Nine months
ended
September 30,
2016
   
Nine months
ended
September 30,
2015
 
             
Net cash (used) by operating activities
 
$
(1,297,888
)
 
$
(1,372,500
)
Net cash provided/(used) in investing activities
   
-
     
-
 
Net cash provided by financing activities
   
1,267,236
     
1,630,120
 
Increase (decrease) in cash during the period
   
(30,652
)
   
257,620
 
Cash, beginning of period
   
148,769
     
39,987
 
Cash, end of period
 
$
118,117
   
$
297,607
 

Key elements comprising the comparative figures for Net cash (used) by Operating Activities for the nine month periods ended September 30, 2016 and September 30, 2015 include: (i) net losses of $2,669,586 and $2,546,967 respectively; (ii) non-cash expenses for stock issued for services and compensation of $540,101 and $564,996 respectively; (iii) non-cash amortization of notes payable discounts of $540,439 versus $68,467 respectively; (iv) cash of $295,022 and $73,803 provided by accounts payable and accrued liabilities; (v) an investment of $164,235 and cash provided of $149,798 in accounts receivable; and (vi) cash of $91,998 and $30,593 respectively from the use of inventory.

Unit and Stock Offers
During the nine month period ended September 30, 2016 we raised $666,000 through the private placement sale of 16,650,000 units. Each unit was priced at $0.04 and included one restricted common share and one five year warrant exercisable at $0.055.

During the three month period ended September 30, 2016 we raised $120,000 through the private placement sale of 3,000,000 restricted common shares priced at $0.04 per share.

2015 Equity Line
During the year ended December 31, 2015, we raised $629,850 through equity line sales of 8,550,000 shares and during the nine month period ended September 30, 2016, the Company issued 6,450,000 Sale Shares and 21,529 per sale Commitment Shares under the 2015 Equity Line for aggregate proceeds of $322,936.

On August 11, 2016 the last shares which had been registered under the Company's 2015 Equity Line were sold and subsequently there has not been a new registration statement on Form S-1 filed which would allow for further share sales under the 2015 Purchase Agreement.

No Variable Rate Convertible Securities
The Co