UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

FORM 10-Q

 

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2018

 

Commission File Number: 001-33540

 

 

 

EnSync, Inc.

(Exact name of registrant as specified in its charter)

 

 

Wisconsin	39-1987014
(State or other jurisdiction of	(I.R.S. Employer Identification No.)
incorporation or organization)
N88 W13901 Main Street, Suite 200 Menomonee Falls, Wisconsin	53051
(Address of principal executive offices)	(Zip Code)

 

(262) 253-9800
(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. þ Yes ¨ No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 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). þ Yes ¨ No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer  ¨		Accelerated filer  ¨
Non-accelerated filer  ¨ (Do not check if a smaller reporting company)		Smaller reporting company  þ
Emerging growth company ¨

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

 

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

 

As of May 15, 2018, the Company had 56,609,115 shares of its Common Stock, par value $0.01 per share, issued and outstanding.

 

 

 

ENSYNC, INC.

TABLE OF CONTENTS

 

		Page
PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements	2
	Condensed Consolidated Balance Sheets	2
	Condensed Consolidated Statements of Operations	3
	Condensed Consolidated Statements of Comprehensive Loss	4
	Condensed Consolidated Statements of Changes in Equity	5
	Condensed Consolidated Statements of Cash Flows	6
	Notes to Condensed Consolidated Financial Statements	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	30
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	35
Item 4.	Controls and Procedures	35
PART II. OTHER INFORMATION
Item 1.	Legal Proceedings	36
Item 1A.	Risk Factors	36
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	36
Item 3.	Defaults Upon Senior Securities	36
Item 4.	Mine Safety Disclosures	36
Item 5.	Other Information	36
Item 6.	Exhibits	37
Signatures		38

 

 

PART I. FINANCIAL INFORMATION

 

Item 1. FINANCIAL STATEMENTS

 

EnSync, Inc.

Condensed Consolidated Balance Sheets

 

		(Unaudited)
		March 31, 2018				June 30,  2017
Assets
Current assets:
Cash and cash equivalents		$	5,349,640			$	11,782,962
Accounts receivable, net			1,512,630				469,906
Inventories, net			1,448,797				2,482,013
Costs and estimated earnings in excess of billings			248,156				87,318
Prepaid expenses and other current assets			1,041,849				630,998
Total current assets			9,601,072				15,453,197
Long-term assets:
Property, plant and equipment, net			664,515				3,446,253
Investment in investee company			1,562,285				1,947,728
Goodwill			809,363				809,363
Right of use assets-operating leases			1,135,174				150,214
Other assets			93,862				7,502
Total assets		$	13,866,271			$	21,814,257
Liabilities and Equity
Current liabilities:
Current maturities of long-term debt		$	47,272			$	726,256
Accounts payable			1,564,475				487,185
Billings in excess of costs and estimated earnings			39,740				456,950
Accrued expenses			1,153,947				1,231,714
Total current liabilities			2,805,434				2,902,105
Long-term liabilities:
Long-term debt, net of current maturities			331,827				331,827
Deferred revenue			538,937				422,638
Other long-term liabilities			1,106,117				249,920
Total liabilities			4,782,315				3,906,490
Commitments and contingencies
Equity
Series B redeemable convertible preferred stock ($0.01 par value, $1,000 face value), 3,000 shares authorized and issued, 2,300 shares outstanding, preference in liquidation of $5,887,217 and $5,631,086 as of March 31, 2018 and June 30, 2017, respectively			23				23
Series C convertible preferred stock ($0.01 par value, $1,000 face value), 28,048 shares authorized, issued, and outstanding, preference in liquidation of $3,196,739 and $12,276,682 as of March 31, 2018 and June 30, 2017, respectively			280				280
Common stock ($0.01 par value), 300,000,000 authorized, 56,405,507 and 55,200,963 shares issued and outstanding as of March 31, 2018 and June 30, 2017, respectively			1,272,370				1,260,324
Additional paid-in capital			142,664,782				141,822,317
Accumulated deficit			(134,000,565	)			(124,639,644	)
Accumulated other comprehensive loss			(1,584,646	)			(1,584,578	)
Total EnSync, Inc. equity			8,352,244				16,858,722
Noncontrolling interest			731,712				1,049,045
Total equity			9,083,956				17,907,767
Total liabilities and equity		$	13,866,271			$	21,814,257

 

See accompanying notes to condensed consolidated financial statements.

 

 

EnSync, Inc.

Condensed Consolidated Statements of Operations

(Unaudited)

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Revenues		$	3,073,078			$	50,505			$	10,281,833			$	9,443,635
Costs and expenses
Cost of product sales			2,238,445				206,157				7,977,861				9,703,858
Cost of engineering and development			-				-				-				937,725
Advanced engineering and development			1,184,427				1,414,858				3,470,355				3,493,326
Selling, general and administrative			2,482,084				2,743,618				7,561,435				8,331,773
Depreciation and amortization			63,516				98,318				246,926				454,387
Impairment of long-lived assets			-				-				447,000				-
Total costs and expenses			5,968,472				4,462,951				19,703,577				22,921,069
Loss from operations			(2,895,394	)			(4,412,446	)			(9,421,744	)			(13,477,434	)
Other income (expense)
Equity in loss of investee company			(246,980	)			(170,084	)			(385,443	)			(171,816	)
Interest income			5,918				10,809				19,913				33,436
Interest expense			(8,795	)			(11,115	)			(30,970	)			(37,219	)
Other income			61,509				-				138,034				8,432
Total other income (expense)			(188,348	)			(170,390	)			(258,466	)			(167,167	)
Loss before benefit for income taxes			(3,083,742	)			(4,582,836	)			(9,680,210	)			(13,644,601	)
Benefit for income taxes			-				-				-				-
Net loss			(3,083,742	)			(4,582,836	)			(9,680,210	)			(13,644,601	)
Net loss attributable to noncontrolling interest			150,298				128,722				319,289				271,061
Net loss attributable to EnSync, Inc.			(2,933,444	)			(4,454,114	)			(9,360,921	)			(13,373,540	)
Preferred stock dividend			(87,495	)			(79,264	)			(256,131	)			(232,040	)
Net loss attributable to common shareholders		$	(3,020,939	)		$	(4,533,378	)		$	(9,617,052	)		$	(13,605,580	)
Net loss per share
Basic and diluted		$	(0.05	)		$	(0.09	)		$	(0.17	)		$	(0.28	)
Weighted average shares - basic and diluted			56,077,230				48,010,347				55,825,507				47,870,082

 

See accompanying notes to condensed consolidated financial statements.

 

 

EnSync, Inc.

Condensed Consolidated Statements of Comprehensive Loss

(Unaudited)

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Net loss		$	(3,083,742	)		$	(4,582,836	)		$	(9,680,210	)		$	(13,644,601	)
Foreign exchange translation adjustments			(477	)			1,636				(68	)			886
Comprehensive loss			(3,084,219	)			(4,581,200	)			(9,680,278	)			(13,643,715	)
Net loss attributable to noncontrolling interest			150,298				128,722				319,289				271,061
Comprehensive loss attributable to EnSync, Inc.		$	(2,933,921	)		$	(4,452,478	)		$	(9,360,989	)		$	(13,372,654	)

 

See accompanying notes to condensed consolidated financial statements.

 

 

EnSync, Inc.

Condensed Consolidated Statements of Changes in Equity

(Unaudited)

 

		Series B								Series C																Additional								Accumulated Other
		Preferred Stock								Preferred Stock								Common Stock								Paid-in				Accumulated				Comprehensive				Noncontrolling
		Shares				Amount				Shares				Amount				Shares				Amount				Capital				Deficit				Income (Loss)				Interest
Balance: July 1, 2016			2,300			$	23				28,048			$	280				47,752,821			$	1,185,843			$	137,585,233			$	(120,550,108	)		$	(1,585,583	)		$	1,401,372
Net loss			-				-				-				-				-				-				-				(4,089,536	)			-				(352,327	)
Net currency translation adjustment			-				-				-				-				-				-				-				-				1,005				-
Issuance of common stock, net of costs and underwriting fees			-				-				-				-				7,150,000				71,500				2,024,340				-				-				-
Stock-based compensation			-				-				-				-				144,728				1,447				2,144,318				-				-				-
Exercise of stock options			-				-				-				-				124,252				1,242				68,718				-				-				-
Exercise of warrants			-				-				-				-				29,162				292				(292	)			-				-				-
Balance: June 30, 2017			2,300				23				28,048				280				55,200,963				1,260,324				141,822,317				(124,639,644	)			(1,584,578	)			1,049,045
Net loss			-				-				-				-				-				-				-				(9,360,921	)			-				(319,289	)
Net currency translation adjustment			-				-				-				-				-				-				-				-				(68	)			-
Issuance of common stock, net of costs and underwriting fees			-				-				-				-				367,000				3,670				93,004				-				-				-
Contribution of capital from noncontrolling interest			-				-				-				-				-				-				-				-				-				1,956
Stock-based compensation			-				-				-				-				837,544				8,376				749,461				-				-				-
Balance: March 31, 2018			2,300			$	23				28,048			$	280				56,405,507			$	1,272,370			$	142,664,782			$	(134,000,565	)		$	(1,584,646	)		$	731,712

 

See accompanying notes to condensed consolidated financial statements.

 

 

EnSync, Inc.

Condensed Consolidated Statements of Cash Flows

(Unaudited)

 

		Nine months ended March 31,
		2018				2017
Cash flows from operating activities
Net loss		$	(9,680,210	)		$	(13,644,601	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation of property, plant and equipment			238,677				379,450
Amortization of customer intangible assets			8,249				68,044
Stock-based compensation, net			796,500				1,554,567
Equity in loss of investee company			385,443				171,816
Provision for inventory reserve			57,988				234,675
Gain on sale of property, plant and equipment			(137,650	)			(8,432	)
Interest accreted on note receivable			(9,008	)			(3,008	)
Impairment of long-lived assets			447,000				-
Changes in assets and liabilities
Accounts receivable			(1,042,724	)			(64,632	)
Inventories			975,228				(312,715	)
Costs and estimated earnings in excess of billings			(160,838	)			-
Prepaids and other current assets			(428,077	)			859,670
Deferred PPA project costs			-				5,690,307
Other assets			(86,360	)			(4,727	)
Accounts payable			1,077,290				60,895
Billings in excess of costs and estimated earnings			(417,210	)			-
Accrued expenses			(207,259	)			(120,754	)
Deferred revenue			116,299				422,638
Other long-term liabilities			-				137,983
Net cash used in operating activities			(8,066,662	)			(4,578,824	)
Cash flows from investing activities
Expenditures for property and equipment			(34,377	)			(46,364	)
Proceeds from sale of property, plant and equipment			2,268,817				15,325
Payments from note receivable			18,000				-
Net cash provided by (used in) investing activities			2,252,440				(31,039	)
Cash flows from financing activities
Repayments of long term debt			(678,984	)			(248,533	)
Proceeds from issuance of common stock			96,674				-
Proceeds from the exercise of stock options			-				68,400
Payments of tax withholding related to stock-based compensation			(38,663	)			-
Contribution of capital from noncontrolling interest			1,956				-
Net cash used in financing activities			(619,017	)			(180,133	)
Effect of exchange rate changes on cash and cash equivalents			(83	)			578
Net decrease in cash and cash equivalents			(6,433,322	)			(4,789,418	)
Cash and cash equivalents - beginning of period			11,782,962				17,189,089
Cash and cash equivalents - end of period		$	5,349,640			$	12,399,671
Supplemental disclosures of cash flow information:
Cash paid for interest		$	33,294			$	37,612
Supplemental noncash information:
Right of use asset obtained in exchange for new operating lease			984,960				178,124

 

See accompanying notes to condensed consolidated financial statements.

 

 

EnSync, Inc.

Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Description of Business

 

EnSync, Inc. and its subsidiaries, which are often referenced as EnSync Energy for marketing and branding purposes (“EnSync Energy,” “we,” “us,” “our,” or the “Company”) is an energy innovation company whose technologies and capabilities are designed to deliver the least expensive, highest value and most reliable electricity. EnSync Energy’s modular technologies and services synchronize power sources to meet dynamic and evolving energy environments, enable real-time prioritization of distributed energy resources and provide grid stability and economic optimization. EnSync Energy offers integrated solutions from concept through design, project finance, commissioning, and operating and maintenance, serving the commercial and industrial (“C&I”) and multi-tenant building, utility and off-grid markets. Incorporated in 1998, EnSync Energy is headquartered in Menomonee Falls, Wisconsin, USA, with offices in Madison, Wisconsin, Petaluma, California, Honolulu, Hawaii and Shanghai, China.

 

EnSync Energy develops and commercializes product and service solutions for the distributed energy generation market, including energy management systems, energy storage systems, applications and internet of energy platforms that link distributed energy resources with the grid network. These solutions are critical to the transition from a “coal-centric economy” to one reliant on renewable energy sources. EnSync Energy synchronizes conventional utility, distributed generation and storage assets to seamlessly ensure the least expensive and most reliable electricity available, thus enabling the future of energy networks.

 

EnSync Energy delivers fully integrated systems utilizing proprietary direct current power control hardware, energy management software and extensive experience with energy storage technologies. Our internet of energy control platform adapts to ever-changing generation and load variables, as well as changes in utility prices and programs, aiming to ensure the means to make and/or save money behind-the-meter while concurrently providing utilities the opportunity to use distributed energy resource systems for various grid enhancing services.

 

EnSync Energy’s systems can easily integrate distributed energy resources with the grid, island from the grid and serve as a microgrid, and be deployed as self-contained microgrids, delivering electricity to sites for which no grid exists. EnSync Energy brings vital power control and energy storage solutions to problems caused by the incorporation of increasingly pervasive renewable energy generating assets that are part of the grid power transmission and distribution network used in commercial, industrial and multi-tenant buildings. In addition to ensuring resilient and high-value electricity to off-takers, utilities can benefit from EnSync Energy’s systems by relying on such assets for visibility, aggregation and control as they begin to use distributed energy resources to ensure a more fortified grid via grid services. The Company also develops and commercializes energy management systems for off-grid applications such as island or remote power.

 

Power Purchase Agreements

 

We are addressing our target markets as a developer and a financial packager primarily through the use of power purchase agreements (“PPAs”). Navigant Research forecasts the annual market for solar plus energy storage distributed energy systems to grow to nearly $50 billion by 2026, with a compound annual growth rate of more than 40 percent in such period. Under this PPA structure, we agree to develop and supply a system that uses our and other companies’ products and the offtaker agrees to purchase electricity from the completed system at a fixed rate for typically a 20-year period. Through these arrangements, the offtaker receives the benefit of a low and fixed price for electricity without incurring the capital expenditures required to develop and build the system.

 

Because building these PPA projects requires significant long-term capital outlays, we do not intend to own the PPA systems and seek to sell them to third parties once we have completed the site development process. Site development activities include: (i) finalizing the engineering design of the system, (ii) applying for and receiving the necessary permits for construction of the system and (iii) negotiation of an interconnection agreement with the local utility. This site development process typically takes three to four months.

 

We typically do not begin construction of a specific project until it has been sold to a third party. Accordingly, during the site development process, we engage in a sale process and provide interested purchasers with information related to the system. The purchase price for a particular system is determined through a formula that we believe is customary in the solar industry that takes into account the revenue stream to be received from the offtaker discounted to present value based on customary internal rates of return for similar projects, the costs of completing, maintaining and administering the system and certain other factors.

 

 

Once the system has been sold, we begin construction which includes procurement of the necessary equipment, physical construction and commissioning of the system. The construction period varies based on many internal and external factors, but is typically completed within six to nine months.

 

Our sales agreement with the buyer of the system typically provides for us to receive an upfront payment and additional progress payments to be made based upon achievement of certain key procurement, construction and commissioning milestones.

 

We recognize revenue from these PPA arrangements on a percentage of completion basis as we build out and commission the system. Any excess cash received from the system purchaser in excess of recognized revenue is recorded as billings in excess of costs and estimated earnings and carried as a liability on our condensed consolidated financial statements. Based on our experience to date, we expect to recognize all revenue from a particular PPA system typically within 12 months of the signing of the related PPA agreement.

 

We may also enter into a service agreement with the owner of a PPA system pursuant to which we provide ongoing administrative, operating and maintenance services. These agreements usually have a term which matches the PPA term. We recognize revenue from a service agreement ratably over the life of the related agreement.

 

The condensed consolidated financial statements include the accounts of the Company and those of its wholly-owned subsidiaries, various PPA project subsidiaries, its eighty-five percent owned subsidiary Holu Energy LLC (“Holu”), and its sixty percent owned subsidiary ZBB PowerSav Holdings Limited (“Holdco”) located in Hong Kong, which was formed in connection with the Company’s investment in a China joint venture.

 

Interim Financial Data

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial data and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by US GAAP for complete financial statements. In the opinion of management, all adjustments (consisting only of adjustments of a normal and recurring nature) considered necessary for fair presentation of the results of operations have been included. Operating results for the three and nine months ended March 31, 2018 are not necessarily indicative of the results that might be expected for the year ending June 30, 2018.

 

The condensed consolidated balance sheet at June 30, 2017 has been derived from audited financial statements at that date, but does not include all of the information and disclosures required by US GAAP. For a more complete discussion of accounting policies and certain other information, refer to the Company’s Annual Report filed on Form 10-K for the fiscal year ended June 30, 2017 filed with the Securities and Exchange Commission (“SEC”) on September 27, 2017.

 

Basis of Presentation and Consolidation

 

The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly and majority-owned subsidiaries and have been prepared in accordance with US GAAP and are reported in US dollars. For subsidiaries in which the Company’s ownership interest is less than 100%, the noncontrolling interests are reported in stockholders’ equity in the condensed consolidated balance sheets. The noncontrolling interests in net income (loss), net of tax, are classified separately in the condensed consolidated statements of operations. All significant intercompany accounts and transactions have been eliminated in consolidation. The Company’s fiscal year end is June 30.

 

Use of Estimates

 

The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. It is reasonably possible that the estimates we have made may change in the near future. Significant estimates underlying the accompanying condensed consolidated financial statements include those related to:

 

·

going concern assessment;

·

the timing of revenue recognition;

·

allocation of purchase price in a business combination;

·

the allowance for doubtful accounts;

·

provisions for excess and obsolete inventory;

 

 

·

the lives and recoverability of property, plant and equipment and other long-lived assets, including the testing for impairment;

·

testing of goodwill for impairment;

·

contract costs, losses and reserves;

·

warranty obligations;

·

income tax valuation allowances;

·

discount rates for finance and operating lease liabilities;

·

stock-based compensation; and

·

valuation of equity instruments and warrants.

 

Fair Value of Financial Instruments

 

The Company’s financial instruments consist of cash and cash equivalents, accounts receivable, a note receivable, accounts payable, bank loans, notes payable, equipment financing, equity instruments and warrants. The carrying amounts of the Company’s financial instruments approximate their respective fair values due to the relatively short-term nature of these instruments, except for the bank loans, notes payable, equipment financing, equity instruments and warrants. The carrying amounts of the bank loans and notes payable approximate fair value due to the interest rate and terms approximating those available to us for similar obligations. The interest rate on the equipment financing obligation was imputed based on the requirements described in Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 842-40-30-6. The fair value of the nonconvertible attribute and conversion option of the Series C convertible preferred stock (the “Series C Preferred Stock”) and related warrant was determined using the Option-Pricing Method (“OPM”) as described in the AICPA Accounting and Valuation Guide entitled Valuation of Privately-Held-Company Equity Securities Issued as Compensation and a “with” and “without” methodology to bifurcate the Series C Preferred Stock conversion feature. The OPM model treats the various equity securities as call options on the total equity value contingent upon each security’s strike price or participation rights. The Black-Scholes inputs utilized for the OPM model were: (i) an aggregate equity value estimated based on the back-solve methodology to reconcile the closing common stock price as of the valuation date; (ii) a term in alignment with the terms of our supply agreement with SPI Energy Co., LTD. (“SPI”) (formerly known as Solar Power, Inc.); (iii) a risk free rate from the Federal Reserve Board’s H.15 release as of the transaction date; (iv) the volatility of the price of the Company’s publicly traded stock; and (v) the performance vesting requirements of the equity instruments that were expected to be met.

 

The Company accounts for the fair value of financial instruments in accordance with FASB ASC Topic 820, “Fair Value Measurements and Disclosures.” Fair value is defined as 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. The degree of judgment utilized in measuring the fair value of assets and liabilities generally correlate to the level or pricing observability. FASB ASC Topic 820 describes a fair value hierarchy based on the following three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value:

 

Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.

 

Level 2 inputs are inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly, for similar assets or liabilities in active markets.

 

Level 3 inputs are unobservable inputs for the asset or liability. As such, the prices or valuation techniques require inputs that are both significant to the fair value measurement and are unobservable.

 

Cash and Cash Equivalents

 

The Company considers all highly liquid investments with maturities of three months or less to be cash equivalents. The Company maintains its cash deposits at financial institutions predominately in the United States, Australia, Hong Kong and China. The Company has not experienced any losses in such accounts.

 

Accounts Receivable

 

Credit is extended based on an evaluation of a customer’s financial condition. Accounts receivable are stated at the amount the Company expects to collect from outstanding balances. The Company records allowances for doubtful accounts based on customer-specific analysis and general matters such as current assessments of past due balances and economic conditions. The Company writes off accounts receivable against the allowance when they become uncollectible. The Company had no allowance for doubtful accounts as of March 31, 2018. Accounts receivable are stated net of an allowance for doubtful accounts of $47,307 as of June 30, 2017.

 

 

Inventories

 

Inventories are stated at the lower of cost or net realizable value, defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. Cost is computed using standard cost, which approximates actual cost, on a first-in, first-out basis. The Company provides inventory write-downs on excess and obsolete inventories based on historical usage. The write-down is measured as the difference between the cost of the inventory and net realizable value based upon assumptions about usage and charged to the provision for inventory, which is a component of cost of sales.

 

Costs and Estimated Earnings in Excess of Billings/Billings in Excess of Costs and Estimated Earnings

 

Costs and estimated earnings in excess of billings represent amounts earned and reimbursable under contracts accounted for under the percentage of completion method. The timing of when we bill our customers is generally dependent upon advance billing terms, milestone billings based on the completion of certain phases of the work, or when services are provided. Based on our historical experience, we generally consider the collection risk related to these amounts to be low. When events or conditions indicate that the amounts outstanding may become uncollectible, an allowance is estimated and recorded. We anticipate that substantially all of such amounts will be billed and collected over the next twelve months.

 

Billings in excess of costs and estimated earnings represents amounts billed to customers in advance of being earned under contracts accounted for under the percentage of completion method. We anticipate that substantially all such amounts will be earned over the next twelve months.

 

Other Current Assets

 

Note Receivable

 

The Company has a note receivable from an unrelated party. We regularly evaluate the financial condition of the borrower to determine if any reserve for an uncollectible amount should be established. To date, no such reserve is required.

 

Deferred Customer Project Costs

 

Deferred customer project costs consist primarily of the costs of products delivered and services performed that are subject to additional performance obligations or customer acceptance. These deferred customer project costs are expensed at the time the related revenue is recognized.

 

Project Assets

 

Project assets consist primarily of capitalized costs which are incurred by the Company prior to the sale of the photovoltaic, storage or energy management systems and PPA to a third-party. These costs are typically for the construction, installation and development of these projects. Construction and installation costs include primarily material and labor costs. Development fees can include legal, consulting, permitting and other similar costs.

 

Property, Plant and Equipment

 

Land, building, equipment, computers, furniture and fixtures are recorded at cost. Maintenance, repairs and betterments are charged to expense as incurred. Depreciation is provided for all plant and equipment on a straight-line basis over the estimated useful lives of the assets. The estimated useful lives used for each class of depreciable asset are:

 

		Estimated Useful Lives
Manufacturing equipment		3 - 7 years
Office equipment		3 - 7 years
Building and improvements		7 - 40 years

 

The Company completed a review of the estimated useful lives of specific assets for the nine months ended March 31, 2018 and determined that there were no changes in the estimated useful lives of assets.

 

Impairment of Long-Lived Assets

 

In accordance with FASB ASC Topic 360, "Impairment or Disposal of Long-Lived Assets," the Company assesses potential impairments to its long-lived assets including property, plant and equipment and intangible assets when there is evidence that events or changes in circumstances indicate that the carrying value may not be recoverable.

 

If such an indication exists, the recoverable amount of the asset is compared to the asset’s carrying value. Any excess of the asset’s carrying value over its recoverable amount is expensed in the statement of operations. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate.

 

 

On October 12, 2017, the Company accepted an offer to sell its corporate headquarters for $2,340,000, less commissions and other customary closing costs. As a result, we recorded an impairment charge of $447,000 on the building and land in our condensed consolidated statements of operation during the three months ended September 30, 2017. The sale of the Company’s corporate headquarters closed on January 31, 2018, pursuant to which we received net proceeds of $2,187,317 and recorded a gain on sale of $61,129.

 

Investment in Investee Company

 

Investee companies that are not consolidated, but over which the Company exercises significant influence, are accounted for under the equity method of accounting. Whether or not the Company exercises significant influence with respect to an investee depends on an evaluation of several factors including, among others, representation on the investee company’s board of directors and ownership level, which is generally a 20% to 50% interest in the voting securities of the investee company. Under the equity method of accounting, an investee company’s accounts are not reported in the Company’s condensed consolidated balance sheets and statements of operations; however, the Company’s share of the earnings or losses of the investee company is reflected in the caption ‘‘Equity in gain (loss) of investee company” in the condensed consolidated statements of operations. The Company’s carrying value in an equity method investee company is reported in the caption ‘‘Investment in investee company’’ in the Company’s condensed consolidated balance sheets.

 

When the Company’s carrying value in an equity method investee company is reduced to zero, no further losses are recorded in the Company’s condensed consolidated financial statements unless the Company guaranteed obligations of the investee company or has committed additional funding. When the investee company subsequently reports income, the Company will not record its share of such income until it equals or exceeds the amount of its share of losses not previously recognized.

 

Goodwill

 

Goodwill is recognized as the excess cost of an acquired entity over the net amount assigned to assets acquired and liabilities assumed. Goodwill is not amortized but reviewed for impairment annually as of June 30 or more frequently if events or changes in circumstances indicate that its carrying value may be impaired. These conditions could include a significant change in the business climate, legal factors, operating performance indicators, competition, or sale or disposition of a significant portion of a reporting unit. The Company has one reporting unit.

 

The first step of the impairment test requires the comparing of a reporting unit’s fair value to its carrying value. If the carrying value is less than the fair value, no impairment exists and the second step is not performed. If the carrying value is higher than the fair value, there is an indication that impairment may exist and the second step must be performed to compute the amount of the impairment. In the second step, the impairment is computed by estimating the fair values of all recognized and unrecognized assets and liabilities of the reporting unit and comparing the implied fair value of reporting unit goodwill with the carrying amount of that unit’s goodwill. The Company determined fair value as evidenced by market capitalization, and concluded that there was no need for an impairment charge as of March 31, 2018 and June 30, 2017.

 

Warranty Obligations

 

The Company typically warrants its products for the shorter of twelve months after installation or eighteen months after date of shipment. Warranty costs are provided for estimated claims and charged to cost of product sales as revenue is recognized. Warranty obligations are also evaluated quarterly to determine a reasonable estimate for the replacement of potentially defective materials of all energy storage systems that have been shipped to customers within the warranty period.

 

While the Company actively engages in monitoring and improving its evolving battery and production technologies, there is only a limited product history and relatively short time frame available to test and evaluate the rate of product failure. Should actual product failure rates differ from the Company’s estimates, revisions are made to the estimated rate of product failures and resulting changes to the liability for warranty obligations. In addition, from time to time, specific warranty accruals may be made if unforeseen technical problems arise.

 

 

The following is a summary of accrued warranty activity:

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Beginning balance		$	181,625			$	38,154			$	239,173			$	27,207
Accruals for warranties during the period			184				8,334				10,376				35,473
Net settlements during the period			(55,869	)			(25,564	)			(120,609	)			(196,244	)
Adjustments relating to preexisting warranties			28,564				13,400				25,564				167,888
Ending balance		$	154,504			$	34,324			$	154,504			$	34,324

 

The Company offers extended warranty contracts to its customers. These contracts typically cover a period up to twenty years and include advance payments that are recorded initially as long-term deferred revenue. Revenue is recognized in the same manner as the costs incurred to perform under the extended warranty contracts. Costs associated with these extended warranty contracts are expensed to cost of product sales as incurred. A summary of changes to long-term deferred revenue for extended warranty contracts is as follows:

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Beginning balance		$	429,825			$	422,638			$	431,700			$	-
Deferred revenue for new extended warranty contracts			116,299				-				116,299				422,638
Deferred revenue recognized			(938	)			-				(2,813	)			-
Ending balance			545,186				422,638				545,186				422,638
Less: current portion of deferred revenue for extended warranty contracts			6,249				-				6,249				-
Long-term deferred revenue for extended warranty contracts		$	538,937			$	422,638			$	538,937			$	422,638

 

Revenue Recognition

 

Revenues are recognized when persuasive evidence of a contractual arrangement exists, delivery has occurred or services have been rendered, the seller’s price to buyer is fixed and determinable and collectability is reasonably assured. The portion of revenue related to installation and final acceptance, is deferred until such installation and final customer acceptance are completed.

 

From time to time, the Company may enter into separate agreements at or near the same time with the same customer. The Company evaluates such agreements to determine whether they should be accounted for individually as distinct arrangements or whether the separate agreements are, in substance, a single multiple element arrangement. The Company evaluates whether the negotiations are conducted jointly as part of a single negotiation, whether the deliverables are interrelated or interdependent, whether the fees in one arrangement are tied to performance in another arrangement, and whether elements in one arrangement are essential to another arrangement. The Company’s evaluation involves significant judgment to determine whether a group of agreements might be so closely related that they are, in effect, part of a single arrangement.

 

Our collaboration agreements typically involve multiple elements or deliverables, including upfront fees, contract research and development, milestone payments, technology licenses or options to obtain technology licenses and royalties. For these arrangements, revenues are recognized in accordance with FASB ASC Topic 605-25, “Revenue Recognition – Multiple Element Arrangements.” The Company’s revenues associated with multiple element contracts is based on the selling price hierarchy, which utilizes vendor-specific objective evidence (“VSOE”) when available, third-party evidence (“TPE”) if VSOE is not available, and if neither is available then the best estimate of the selling price is used. The Company utilizes best estimate for its multiple deliverable transactions as VSOE and TPE do not exist. To be considered a separate element, the product or service in question must represent a separate unit under SEC Staff Accounting Bulletin 104, and fulfill the following criteria: the delivered item(s) has value to the customer on a standalone basis; there is objective and reliable evidence of the fair value of the undelivered item(s); and if the arrangement includes a general right of return relative to the delivered item(s), delivery or performance of the undelivered item(s) is considered probable and substantially in our control. For arrangements containing multiple elements, revenue from time and materials based service arrangements is recognized as the service is performed. Revenue relating to undelivered elements is deferred at the estimated fair value until delivery of the deferred elements. If the arrangement does not meet all criteria above, the entire amount of the transaction is deferred until all elements are delivered.

 

 

The portion of revenue related to engineering and development is recognized ratably upon delivery of the goods or services pertaining to the underlying contractual arrangement or revenue is recognized as certain activities are performed by the Company over the estimated performance period.

 

For PPA projects with no identified buyer until at or near the completion of the project, the Company recognizes revenue for the sales of PPA projects following the guidance in FASB ASC Topic 360, “Accounting for Sales of Real Estate.” We record the sale as revenue after the initial and continuing investment requirements have been met and whether collectability from the buyer is reasonably assured, which generally occurs at the end of a project. We may align our revenue recognition and release our project assets or deferred PPA project costs to cost of sales with the receipt of payment from the buyer if the sale has been consummated and we have transferred the usual risks and rewards of ownership to the buyer.

 

For PPA projects with an identified buyer, the Company recognizes revenue for the sales of PPA projects using the percentage of completion method for recording revenues on long term contracts under FASB ASC Topic 605-35, “Construction-Type and Production-Type Contracts,” measured by the percentage of cost incurred to date to estimated total cost for each contract. That method is used because management considers total cost to be the best available measure of progress on contracts. Because of inherent uncertainties in estimating costs, it is at least reasonably possible that the estimates used will change within the near term.

 

The Company charges shipping and handling fees when products are shipped or delivered to a customer, and includes such amounts in product revenues and shipping costs in cost of sales. The Company reports its revenues net of estimated returns and allowances.

 

Revenues for the three and nine months ended March 31, 2018 were comprised of two significant customers (71% of revenues) and four significant customers (86% of revenues), respectively. Revenues for the three and nine months ended March 31, 2017 were comprised of five significant customers (90% of revenues) and four significant customers (93% of revenue), respectively.

 

The Company had three significant customers with an aggregate outstanding receivable balance of $1,312,136 (87% of accounts receivable, net) as of March 31, 2018. The Company had three significant customers with an aggregate outstanding receivable balance of $336,685 (72% of accounts receivable, net) as of June 30, 2017.

 

Engineering, Development, and License Revenues

 

We assess whether a substantive milestone exists at the inception of our agreements. In evaluating if a milestone is substantive we consider whether:

 

·

Substantive uncertainty exists as to the achievement of the milestone event at the inception of the arrangement;

·

The achievement of the milestone involves substantive effort and can only be achieved based in whole or in part on our performance or the occurrence of a specific outcome resulting from our performance;

·

The amount of the milestone payment appears reasonable either in relation to the effort expended or the enhancement of the value of the delivered item(s);

·

There is no future performance required to earn the milestone; and

·

The consideration is reasonable relative to all deliverables and payment terms in the arrangement.

 

If any of these conditions are not met, we do not consider the milestone to be substantive and we defer recognition of the milestone payment and recognize it as revenue over the estimated period of performance, if any.

 

The Company recorded Engineering and development costs for a total of $0 and $937,725 related to a Research and Development Agreement (the “R&D Agreement”) with Lotte Chemical Corporation (“Lotte”) for the three and nine months ended March 31, 2017. Pursuant to the R&D Agreement, the Company agreed to develop and provide to Lotte a 500kWh zinc bromide flow battery system, including a zinc bromide chemical flow battery module and related software, on the terms and conditions set forth in the R&D Agreement. The Company does not expect to receive any additional cash payments under the R&D Agreement and Amended License Agreement with Lotte. As of March 31, 2018, and June 30, 2017, the Company had no billed or unbilled amounts from engineering and development contracts in process.

 

Advanced Engineering and Development Expenses

 

In accordance with FASB ASC Topic 730, “Research and Development,” the Company expenses advanced engineering and development costs as incurred. These costs consist primarily of materials, labor and allocable indirect costs incurred to design, build and test prototype units, as well as the development of manufacturing processes for these units. Advanced engineering and development costs also include consulting fees and other costs.

 

 

To the extent these costs are separately identifiable, incurred and funded by advanced engineering and development type agreements with outside parties, they are shown separately on the condensed consolidated statements of operations as a “Cost of engineering and development.”

 

Stock-Based Compensation

 

The Company measures all “Share-Based Payments," including grants of stock options, restricted shares and restricted stock units (“RSUs”) in its condensed consolidated statements of operations based on their fair values on the grant date, which is consistent with FASB ASC Topic 718, “Stock Compensation,” guidelines.

 

Accordingly, the Company measures share-based compensation cost for all share-based awards at the fair value on the grant date and recognizes share-based compensation over the service period for awards that are expected to vest. The fair value of stock options is determined based on the number of shares granted and the price of the shares at grant, and is calculated based on the Black-Scholes valuation model.

 

The Company compensates its outside directors with RSUs and cash. The grant date fair value of the RSU awards is determined using the closing stock price of the Company’s common stock (the “Common Stock”) on the day prior to the date of the grant, with the compensation expense amortized over the vesting period of RSU awards, net of estimated forfeitures.

 

The Company only recognizes expense for those options or shares that are expected ultimately to vest, using two attribution methods to record expense, the straight-line method for grants with only service-based vesting or the graded-vesting method, which considers each performance period, for all other awards. See further discussion of stock-based compensation in Note 10.

 

Advertising Expense

 

Advertising costs were charged to selling, general, and administrative expenses as incurred. Advertising costs of $36,203 and $157,824 were incurred for the three and nine months ended March 31, 2018, respectively. Advertising costs of $32,605 and $88,211 were incurred for the three and nine months ended March 31, 2017, respectively.

 

Income Taxes

 

The Company records deferred income taxes in accordance with FASB ASC Topic 740, “Accounting for Income Taxes.” FASB ASC Topic 740 requires recognition of deferred income tax assets and liabilities for temporary differences between the tax basis of assets and liabilities and the amounts at which they are carried in the financial statements, based upon the enacted tax rates in effect for the year in which the differences are expected to reverse. In addition, a valuation allowance is recognized if it is more likely than not that some or all of the deferred income tax assets will not be realized in the foreseeable future. Deferred income tax assets are reviewed for recoverability based on historical taxable income, the expected reversals of existing temporary differences, tax planning strategies and projections of future taxable income. As a result of this analysis, the Company has provided for a valuation allowance against its net deferred income tax assets as of March 31, 2018 and June 30, 2017.

 

The Company applies a more-likely-than-not recognition threshold for all tax uncertainties as required under FASB ASC Topic 740, which only allows the recognition of those tax benefits that have a greater than fifty percent likelihood of being sustained upon examination by the taxing authorities.

 

The Company’s U.S. Federal income tax returns for the years ended June 30, 2014 through June 30, 2017 and the Company’s Wisconsin income tax returns for the years ended June 30, 2013 through June 30, 2017 are subject to examination by taxing authorities. On August 2, 2017, the United States Internal Revenue Service (“IRS”) notified the Company of an income tax audit for the tax period ended June 30, 2015. On March 15, 2018, the audit was completed by the IRS resulting in no changes to U.S. Federal income tax returns.

 

Foreign Currency

 

The Company uses the United States dollar as its functional and reporting currency, while the Australian dollar and Hong Kong dollar are the functional currencies of its foreign subsidiaries. Assets and liabilities of the Company’s foreign subsidiaries are translated into United States dollars at exchange rates that are in effect at the balance sheet date while equity accounts are translated at historical exchange rates. Income and expense items are translated at average exchange rates which were applicable during the reporting period. Translation adjustments are recorded in accumulated other comprehensive loss as a separate component of equity in the condensed consolidated balance sheets.

 

 

Loss per Share

 

The Company follows the FASB ASC Topic 260, “Earnings per Share,” provisions which require the reporting of both basic and diluted earnings (loss) per share. Basic earnings (loss) per share is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings (net loss) per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. In accordance with the FASB ASC Topic 260, any anti-dilutive effects on net income (loss) per share are excluded.

 

Concentrations of Credit Risk

 

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash, accounts receivable and costs and estimated earnings in excess of billings.

 

The Company maintains significant cash deposits primarily with one financial institution. The Company has not previously experienced any losses on such deposits. Additionally, the Company performs periodic evaluations of the relative credit rating of the institution as part of its banking strategy.

 

Concentrations of credit risk with respect to accounts receivable and costs and estimated earnings in excess of billings are limited due to accelerated payment terms in current customer contracts and creditworthiness of the current customer base.

 

Reclassifications

 

Certain amounts previously reported have been reclassified to conform to the current presentation. The reclassifications did not impact prior period results of operations, cash flows, total assets, total liabilities, or total equity.

 

Segment Information

 

The Company has determined that it operates as one reportable segment.

 

Recent Accounting Pronouncements

 

From time to time, new accounting pronouncements are issued by the FASB or other standard setting bodies that are adopted by the Company as of the specified effective date. Unless otherwise discussed, the Company believes that the impact of recently issued standards that are not yet effective and not included below will not have a material impact on our financial position or results of operations upon adoption.

 

In February 2018, the FASB issued Accounting Standard Update (“ASU”) 2018-02 – Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. Under the new guidance, entities will have the option to reclassify tax effects within other comprehensive income (referred to as stranded tax effects) to retained earnings in each period in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act of 2017 (the “Tax Act”) is recorded. The amendments in this update are effective for fiscal years beginning after December 15, 2018, including interim periods within those annual periods. The Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements.

 

In May 2017, the FASB issued ASU 2017-09 – Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting. Under the new guidance, modification accounting is required only if the fair value, the vesting conditions, or the classification of the award (as equity or liability) changes as a result of the change in terms or conditions. The guidance is effective prospectively for all companies for annual periods beginning on or after December 15, 2017, including interim periods within those annual periods. The Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements.

 

In January 2017, the FASB issued ASU No. 2017-04 – Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. To simplify the subsequent measurement of goodwill, the amendments eliminate Step 2 from the goodwill impairment test, under which in computing the implied fair value of goodwill under Step 2, an entity had to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Under the amendments in ASU 2017-04, the annual, or interim, goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. In addition, income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit should be considered when measuring the goodwill impairment loss, if applicable. The amendments also eliminate the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. The guidance is effective prospectively for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements.

 

 

In August 2016, the FASB issued ASU 2016-15 – Statement of Cash Flows (Topic 230) – Classification of Certain Cash Receipts and Cash Payments (a consensus of the Emerging Issues Task Force). The amendments in ASU 2016-15 addresses eight specific cash flow issues and is intended to reduce diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The guidance is effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted. The Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements.

 

In May 2016, the FASB issued ASU 2016-11 – Revenue Recognition (Topic 605) and Derivatives and Hedging (Topic 815): Rescission of SEC Guidance Because of Accounting Standards Updates 2014-09 and 2014-16 Pursuant to Staff Announcements at the March 3, 2016 EITF Meeting (SEC Update). ASU 2016-11 rescinds the certain SEC Staff Observer comments that are codified in Topic 605, Revenue Recognition, and Topic 932, Extractive Activities – Oil and Gas, effective upon the adoption of Topic 606. Specifically, registrants should not rely on the following SEC Staff Observer comments upon adoption of Topic 606: (a) Revenue and Expense Recognition for Freight Services in Process, (b) Accounting for Shipping and Handling Fees and Costs, (c) Accounting for Consideration Given by a Vendor to a Customer (including Reseller of the Vendor’s Products), (d) Accounting for Gas-Balancing Arrangements (that is, use of the “entitlements method”). In addition, as a result of the amendments in Update 2014-16, the SEC staff is rescinding its SEC Staff Announcement, “Determining the Nature of a Host Contract Related to a Hybrid Instrument Issued in the Form of a Share under Topic 815,” effective concurrently with ASU 2014-16. The effective dates in ASU 2016-11 coincide with the effective dates of Topic 606 (ASU 2014-09) and ASU 2014-16. The Company previously reviewed ASU 2014-16 and determined that it is not applicable. As of March 31, 2018, and subject to the potential effects of any new related ASUs issued by the FASB, as well as the Company’s ongoing evaluation of transactions and contracts, the Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-09 – Compensation – Stock Compensation (Topic 780): Improvements to Employee Share-Based Payment Accounting. ASU 2016-09 modifies US GAAP by requiring the following, among others: (1) all excess tax benefits and tax deficiencies are to be recognized as income tax expense or benefit on the income statement (excess tax benefits are recognized regardless of whether the benefit reduces taxes payable in the current period); (2) excess tax benefits are to be classified along with other income tax cash flows as an operating activity in the statement of cash flows; (3) in the area of forfeitures, an entity can still follow the current US GAAP practice of making an entity-wide accounting policy election to estimate the number of awards that are expected to vest or may instead account for forfeitures when they occur; and (4) classification as a financing activity in the statement of cash flows of cash paid by an employer to the taxing authorities when directly withholding shares for tax withholding purposes. ASU 2016-09 is effective for annual periods beginning after January 1, 2017, including interim periods within those annual periods. Early adoption is permitted. The Company was required to adopt this standard beginning July 1, 2017. The adoption of this guidance did not have a material impact on the Company’s condensed consolidated financial statements.

 

In July 2015, the FASB issued ASU 2015-11 – Inventory (Topic 330): Simplifying the Measurement of Inventory. The amendment was issued to modify the process in which entities measure inventory. The amendment does not apply to inventory measured using last-in, first-out (“LIFO”) or the retail inventory method. This amendment requires entities to measure inventory 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. Subsequent measurement is unchanged for inventory measured using LIFO or the retail inventory method. The amendments are effective for fiscal years beginning after December 31, 2016, including interim periods within those annual periods on a prospective basis with earlier application permitted as of the beginning of an interim or annual reporting period. The Company was required to adopt this standard beginning July 1, 2017. The adoption of this guidance did not have a material impact on the Company’s condensed consolidated financial statements.

 

In August 2014, the FASB issued ASU 2014-15 – Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (Subtopic 205-40). The update requires management to perform a going concern assessment if there is substantial doubt about an entity’s ability to continue as a going concern within one year of the financial statement issuance date. Under the new standard, the definition of substantial doubt incorporates a likeliness threshold of “probable” that is consistent with the current use of the term defined in US GAAP for loss contingencies (Topic 450 – Contingencies). Management will need to consider conditions that are known and reasonably knowable at the financial statement issuance date and determine whether the entity will be able to meet its obligations within the one-year period. Additional disclosures are required if it is probable that the entity will be unable to meet its current obligations. The amendments in this ASU will be effective for annual periods ending after December 15, 2016. Early adoption is permitted. The Company was required to adopt this standard beginning July 1, 2017. The adoption of this guidance did not have a material impact on the Company’s condensed consolidated financial statements.

 

 

In May 2014, the FASB issued ASU 2014-09 – Revenue from Contracts with Customers (Topic 606). The amendment outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In applying the revenue model to contracts within its scope, an entity identifies the contract(s) with a customer, identifies the performance obligations in the contract, determines the transaction price, allocates the transaction price to the performance obligations in the contract and recognizes revenue when the entity satisfies a performance obligation. ASU 2014-09 also includes additional disclosure requirements regarding revenue, cash flows and obligations related to contracts with customers. In addition, the FASB issued ASU 2015-14 – Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date (issued August 2015); ASU 2016-08 – Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net) (issued March 2016); ASU 2016-10 – Revenue from Contracts with Customers – Identifying Performance Obligations and Licensing (issued April 2016); ASU 2016-12 – Revenue from Contracts with Customers – Narrow-Scope Improvements and Practical Expedients (issued May 2016); ASU 2016-20 – Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers (issued December 2016); and ASU 2017-13 - Revenue Recognition (Topic 605), Revenue from Contracts with Customers (Topic 606), Leases (Topic 840), and Leases (Topic 842) Amendments to SEC Paragraphs Pursuant to the Staff Announcement at the July 20, 2017 EITF Meeting and Rescission of Prior SEC Staff Announcements and Observer Comments (issued September 2017), which deferred the effective date of ASU 2014-09 for all entities by one year and clarified the guidance on certain items such as reporting revenue as a principal versus agent, identifying performance obligations, accounting for intellectual property licenses, assessing collectability, presentation of sales taxes, impairment testing for contract costs, disclosure of performance obligations, and provided additional implementation guidance. Public business entities should apply the guidance in ASU 2014-09 to annual reporting periods beginning after December 15, 2017, including interim periods within those annual periods. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim periods within those annual periods. The guidance permits companies to either apply the requirements retrospectively to all prior periods presented, or apply the requirements in the year of adoption, through a cumulative adjustment. The Company has begun the assessment of this guidance through review of customer contracts and identification of any performance obligations. Based on our preliminary results as of March 31, 2018, and subject to the potential effects of any new related ASUs issued by the FASB, as well as the Company’s ongoing evaluation of transactions and contracts, the Company does not expect adoption of this guidance to have a significant impact on its condensed consolidated financial statements. The Company anticipates adopting this guidance at the beginning of fiscal 2019 using the full retrospective approach.

 

NOTE 2 - MANAGEMENT'S PLANS AND FUTURE OPERATIONS

 

The accompanying condensed consolidated financial statements have been prepared on the basis of a going concern which contemplates that the Company will be able to realize assets and discharge its liabilities in the normal course of business. Accordingly, they do not give effect to any adjustments that would be necessary should the Company be required to liquidate its assets. The Company incurred a net loss of $2,933,444 and $9,360,921 attributable to EnSync, Inc. for the three and nine months ended March 31, 2018, respectively, and as of March 31, 2018 has an accumulated deficit of $134,000,565 and total equity of $9,083,956. The ability of the Company to settle its total liabilities of $4,782,315 and to continue as a going concern is dependent upon raising additional investment capital to fund our business plan, increasing revenues and achieving profitability. The accompanying condensed consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.

 

We believe that cash and cash equivalents on hand at March 31, 2018, and other potential sources of cash, including net cash we generate from closing projects in our backlog and pipeline and potential financing options, will be sufficient to fund our current operations through the fourth quarter of fiscal 2019. While we believe our pipeline of projects is deep, there can be no assurances that projects will close in a timely manner to meet our cash requirements. We are also working to improve operations and enhance cash balances by continuing to drive cost improvements and reducing our spend on research and development. Also, we are currently exploring potential financing options that may be available to us, including strategic partnership transactions, PPA project financing facilities, and if necessary, additional sales of Common Stock or other debt or equity securities. However, we have no commitments to obtain any additional funds, and there can be no assurance such funds will be available on acceptable terms or at all. If the Company is unable to increase revenues and achieve profitability in a timely fashion or obtain additional required funding, the Company’s financial condition and results of operations may be materially adversely affected and the Company may not be able to continue operations, execute our growth plan, take advantage of future opportunities or respond to customers and competition.

 

 

NOTE 3 - CHINA JOINT VENTURE

 

On August 30, 2011, the Company entered into agreements providing for the establishment of a joint venture to develop, produce, sell, distribute and service advanced storage batteries and power electronics in China (the “China Joint Venture”). The China Joint Venture was established upon receipt of certain governmental approvals from China which were received in November 2011. China Joint Venture partners include Holdco, AnHui XinLong Electrical Co., Wuhu Huarui Power Transmission and Transformation Engineering Co. and Wuhu Fuhai-Haoyan Venture Investment, L.P., a branch of Shenzhen Oriental Fortune Capital Co., Ltd.

 

The China Joint Venture operates through a jointly-owned Chinese company located in Wuhu City, Anhui Province named Anhui Meineng Store Energy Co., Ltd. (“Meineng Energy”). Meineng Energy assembles and manufactures the Company’s products for sale in the power management industry on an exclusive basis in mainland China and on a non-exclusive basis in Hong Kong and Taiwan. In addition, Meineng Energy manufactures certain products for EnSync pursuant to a supply agreement under which we pay Meineng Energy 120% of its direct costs incurred in manufacturing such products.

 

Pursuant to a Joint Venture Agreement between Holdco and Anhui Xinrui Investment Co., Ltd, a Chinese limited liability company, and subsequent investment agreements, Meineng Energy has been capitalized with approximately $14.8 million of equity capital as of March 31, 2018 and June 30, 2017.

 

The Company’s investment in Meineng Energy was made through Holdco. Pursuant to a Limited Liability Company Agreement of Holdco between ZBB Cayman Corporation and PowerSav New Energy Holdings Limited (“PowerSav”), the Company contributed technology to Holdco via a license agreement with an agreed upon value of approximately $4.1 million and $200,000 in cash in exchange for a 60% equity interest. PowerSav agreed to contribute to Holdco $3.3 million in cash in exchange for a 40% equity interest. For financial reporting purposes, Holdco’s assets and liabilities are consolidated with those of the Company and PowerSav’s 40% interest in Holdco is included in the Company’s consolidated financial statements as a noncontrolling interest. As of March 31, 2018, and June 30, 2017, the Company’s indirect investment in Meineng Energy, after accounting for the Company’s share of the earnings or losses, was $733,386 and $814,546, respectively. As of March 31, 2018, and June 30, 2017, the Company’s indirect investment percentage in Meineng Energy equals approximately 30%.

 

The Company’s basis in the technology contributed to Holdco was $0 due to US GAAP requirements related to research and development expenditures. The difference between the Company’s basis in this technology and the valuation of the technology by Meineng Energy of approximately $4.1 million is accounted for by the Company through the elimination of the amortization expense recognized by Meineng Energy related to the technology.

 

The Company’s President and Chief Executive Officer (“President and CEO”) has served as the Chief Executive Officer of Meineng Energy since December 2011. The President and CEO owns an indirect 6% equity interest in Meineng Energy.

 

The Company has the right to appoint a majority of the members of the Board of Directors of Holdco and Holdco has the right to appoint a majority of the members of the Board of Directors of Meineng Energy.

 

Pursuant to a Management Services Agreement between Holdco and Meineng Energy (the “Management Services Agreement”), Holdco will provide certain management services to Meineng Energy in exchange for a management services fee equal to five percent of Meineng Energy’s net sales for the five year period beginning on the first day of the first quarter in which the Meineng Energy achieves operational breakeven results, and three percent of Meineng Energy’s net sales for the subsequent three years, provided the payment of such fees will terminate upon Meineng Energy completing an initial public offering on a nationally recognized securities exchange. To date, no management service fee revenues have been recognized by Holdco under the Management Services Agreement.

 

Pursuant to a License Agreement (as amended on July 1, 2014) between Holdco and Meineng Energy, Holdco granted to Meineng Energy (1) an exclusive royalty-free license to manufacture and distribute the Company’s ZBB EnerStore, zinc bromide flow battery, version three (V3) (50KW) (and any other zinc bromide flow battery product developed internally by us based on the V3 EnerStore, ranging from 50kWh to 500kWh module design) and ZBB EnerSection, power and energy control center (up to 250KW) (the “Products”) in mainland China in the power supply management industry and (2) a non-exclusive royalty-free license to manufacture and distribute the Products in Hong Kong and Taiwan in the power supply management industry.

 

Pursuant to a Research and Development Agreement with Meineng Energy, Meineng Energy may request the Company to provide research and development services upon commercially reasonable terms and conditions. Meineng Energy would pay the Company’s fully-loaded costs and expenses incurred in providing such services.

 

 

Activity with Meineng Energy is summarized as follows:

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Product sales to Meineng Energy		$	2,072			$	360			$	25,373			$	68,954
Cost of product sales to Meineng Energy			2,125				343				21,336				72,399
Product purchases from Meineng Energy			397				168,044				198,998				920,233

 

The total amount due to Meineng Energy is as follows:

 

		March 31, 2018				June 30, 2017
Net amount due to Meineng Energy		$	(20,817	)		$	(12,299	)

 

The operating results for Meineng Energy are summarized as follows:

 

		Three months ended March 31,								Nine months ended March 31,
		2018				2017				2018				2017
Revenues		$	2,868			$	79,986			$	469,700			$	1,218,817
Gross profit (loss)			(2,446	)			10,156				(64,026	)			119,008
Loss from operations			(768,599	)			(585,748	)			(1,581,126	)			(1,089,799	)
Net loss			(754,502	)			(580,152	)			(1,527,521	)			(1,059,162	)

 

NOTE 4 - BUSINESS COMBINATIONS

 

DCfusion

 

On February 28, 2017, EnSync formed and became the controlling owner of DCfusion, LLC (“DCfusion”), partnering with two industry veteran consultants (the “DCfusion Founders”) who are highly regarded leaders in direct current (“DC”) system engineering design and consulting. Each DCfusion Founder became an employee of DCfusion upon the closing of the DCfusion transaction on February 28, 2017. The transaction was accounted for as a business combination under US GAAP. The primary reason for the business acquisition was to benefit from the DCfusion Founders’ decades of customer applied DC system design and consulting experience, which complements EnSync Energy's application engineering.  DCfusion also brings a unique and substantial pipeline of potential projects in vertical markets that rely on the consultative expertise of the DCfusion Founders, and the authoritative voice of policies, programs and standards shaping the DC-centric technical and market landscape.

 

No cash was required to complete the transaction.  The Company incurred approximately $31,700 of advisory and legal costs in connection with the business acquisition of DCfusion during the third quarter of fiscal 2017. DCfusion operates as a subsidiary of EnSync, Inc.

 

NOTE 5 - INVENTORIES

 

Net inventories are comprised of the following as of:

 

		March 31, 2018				June 30, 2017
Raw materials and subassemblies		$	1,448,797			$	2,477,418
Work in progress			-				4,595
Total		$	1,448,797			$	2,482,013

 

NOTE 6 - NOTE RECEIVABLE

 

On September 23, 2014, the Company was issued a $150,000 convertible promissory note, as amended, from an unrelated party. The note accrues interest at 8% per annum on the outstanding principal amount. On January 27, 2017, the Company negotiated new repayment terms with the unrelated party and extended the maturity date to the earlier of (a) the date on which the borrower has secured a total of $500,000 or more in additional financing from any source or (b) December 31, 2022. If at the maturity date the note and accrued interest has not been paid in full, the Company may convert the principal and interest outstanding into shares of the unrelated party’s convertible preferred stock at the then-current valuation.

 

 

NOTE 7 - PROPERTY, PLANT & EQUIPMENT

 

Property, plant and equipment are comprised of the following:

 

		March 31, 2018				June 30, 2017
Land		$	-			$	217,000
Building and improvements			18,209				3,532,375
Manufacturing equipment			3,153,426				4,255,385
Office equipment			470,731				454,562
Total, at cost			3,642,366				8,459,322
Less: accumulated depreciation			(2,977,851	)			(5,013,069	)
Property, plant and equipment, net		$	664,515			$	3,446,253

 

The Company recorded depreciation expense of $58,597 and $238,677 for the three and nine months ended March 31, 2018, respectively. The Company recorded depreciation expense of $98,318 and $379,450 for the three and nine months ended March 31, 2017, respectively.

 

See Impairment of Long-Lived Assets under Note 1 of the Notes to Condensed Consolidated Financial Statements for a discussion of the impairment charge related to the sale of the Company’s corporate headquarters.

 

NOTE 8 - ACCRUED EXPENSES

 

Accrued expenses are comprised of the following as of:

 

		March 31, 2018				June 30, 2017
Accrued compensation and benefits		$	297,245			$	403,140
Accrued warranty			154,504				239,173
Right of use liability			194,496				65,004
Customer deposits			204,224				90,877
Other			303,478				433,520
Total		$	1,153,947			$	1,231,714

 

 

NOTE 9 - LONG-TERM DEBT

 

The Company’s long-term debt consisted of the following:

 

		March 31, 2018				June 30, 2017
Note payable to Wisconsin Econcomic Development Corporation payable in monthly installments of $23,685, including interest at 2%, with the final payment due May 1, 2018; collateralized by equipment purchased with the loan proceeds and substantially all assets of the Company not otherwise collateralized.		$	47,272			$	257,959
Bank loan payable in fixed monthly installments of $6,800 of principal and interest at a rate of 0.25% below prime, as defined, subject to a floor of 5%; collateralized by the building and land. Outstanding mortgage balance of $434,184 plus accrued interest was paid in full in connection with the sale of the Company's corporate headquarters on January 31, 2018. Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements for further detail related to the sale of the Company’s headquarters.			-				468,297
Equipment finance obligation under sale-leaseback, interest payable in quarterly installments ranging between $1,510 and $2,555 at an imputed interest rate of approximately 2.44% over 20 years ending March 31, 2036.			331,827				331,827
Long-term debt			379,099				1,058,083
Less: current maturities of long-term debt			(47,272	)			(726,256	)
Long-term debt, net of current maturities		$	331,827			$	331,827

 

Maximum aggregate annual principal payments as of March 31, 2018 are as follows:

 

2018		$	47,272
2019			-
2020			-
2021			-
2022			-
Thereafter			331,827
		$	379,099

 

NOTE 10 - EMPLOYEE AND DIRECTOR EQUITY INCENTIVE PLANS

 

The Company previously adopted the 2002 Stock Option Plan (“2002 Plan”) in which a stock option committee could grant up to 1,000,000 shares to key employees or non-employee members of the board of directors. The options vest in accordance with specific terms and conditions contained in an employment agreement. If vesting terms and conditions are not defined in an employment agreement, then the options vest as determined by the stock option committee. If the vesting period is not defined in an employment agreement or by the stock option committee, then the options immediately vest in full upon death, disability, or termination of employment. Vested options expire upon the earlier of either the five-year anniversary of the vesting date or termination of employment. No shares are available to be issued for future awards under the 2002 Plan.

 

 

The Company also previously adopted the 2007 Equity Incentive Plan (“2007 Plan”) that authorized the board of directors or a committee to grant up to 300,000 shares to employees and directors of the Company. Unless defined in an employment agreement or otherwise determined, the options vest ratably over a three-year period. Options expire 10 years after the date of grant. No shares are available to be issued for future awards under the 2007 Plan.

 

In November 2010, the Company adopted the 2010 Omnibus Long-Term Incentive Plan (“2010 Omnibus Plan”) which authorizes a committee of the board of directors to grant stock options, stock appreciation rights, restricted stock, restricted stock units, unrestricted stock, other stock-based awards and cash awards. The 2010 Omnibus Plan, as amended, authorizes up to 13,950,000 shares plus shares of Common Stock underlying any outstanding stock option of other awards granted by any predecessor employee stock plan of the Company that is forfeited, terminated, or cancelled without issuance of shares, to employees, officers, non-employee members of the board of directors, consultants and advisors. Unless otherwise determined, options vest ratably over a three-year period and expire 8 years after the date of grant. At the annual meeting of shareholders held on December 19, 2017, the Company’s shareholders approved an amendment of the 2010 Omnibus Plan which increased the number of shares of the Company’s Common Stock available for issuance pursuant to awards under the 2010 Omnibus Plan by 2,000,000 to 13,950,000.

 

In November 2012, the Company adopted the 2012 Non-Employee Director Equity Compensation Plan, as amended (“2012 Director Equity Plan”), under which the Company may issue up to 4,400,000 restricted stock unit awards and other equity awards to our non-employee directors pursuant to the Company’s director compensation policy. At the annual meeting of shareholders held on November 14, 2016, the Company’s shareholders approved an amendment of the 2012 Director Equity Plan which increased the number of shares of the Company’s Common Stock available for issuance pursuant to awards under the 2012 Director Equity Plan by 1,200,000 to 4,400,000.

 

As of March 31, 2018, there were a total of 2,706,093 shares available to be issued for future awards under the 2010 Omnibus Plan and 566,095 shares available to be issued for future awards under the 2012 Director Equity Plan.

 

The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing method. The Company uses historical data to estimate the expected price volatility, the expected option life and the expected forfeiture rate. The Company has not made any dividend payments nor does it have plans to pay dividends in the foreseeable future. The following assumptions were used to estimate the fair value of options granted during the nine months ended March 31, 2018 and March 31, 2017 using the Black-Scholes option-pricing model:

 

		Nine months ended March 31,
		2018				2017
Expected life of option (years)			4				4
Risk-free interest rate			1.59 - 2.38	%			0.85 - 1.7	%
Assumed volatility			108.66 - 113.98	%			101.06 - 110.31	%
Expected dividend rate			0.00	%			0.00	%
Expected forfeiture rate			6.15 - 12.73	%			7.20 - 9.18	%

 

Time-vested and performance-based stock awards, including stock options and RSUs are accounted for at fair value at date of grant. Compensation expense is recognized over the requisite service and performance periods.

 

During the three and nine months ended March 31, 2018 and March 31, 2017, the Company’s results of operations include compensation expense for stock options and RSUs granted under its various equity incentive plans. The amount recognized in the condensed consolidated financial statements related to stock-based compensation was $195,028 and $796,500, based on the amortized grant date fair value of options and RSUs, during the three and nine months ended March 31, 2018, respectively. The amount recognized in the condensed consolidated financial statements related to stock-based compensation was $499,462 and $1,554,567 based on the amortized grant date fair value of options and RSUs, during the three and nine months ended March 31, 2017, respectively.

 

 

Information with respect to stock option activity is as follows:

 

		Number of Options				Weighted Average Exercise Price				Average Remaining Contractual Life (in years)
Balance at June 30, 2016			6,111,360			$	0.88				6.96
Options granted			2,654,100				0.59
Options exercised			(124,252	)			0.56
Options forfeited			(391,910	)			2.55
Balance at June 30, 2017			8,249,298				0.71				6.50
Options granted			1,158,000				0.41
Options forfeited			(1,802,883	)			0.81
Balance at March 31, 2018			7,604,415				0.64				6.03

 

The following table summarizes information relating to the stock options outstanding as of March 31, 2018:

 

		Outstanding												Exercisable
Range of Exercise Prices		Number of Options				Average Remaining Contractual Life (in years)				Weighted Average Exercise Price				Number of Options				Average Remaining Contractual Life (in years)				Weighted Average Exercise Price
$0.28 to $1.00			6,849,965				6.24			$	0.50				2,634,929				5.60			$	0.52
$1.01 to $2.50			645,000				4.56				1.47				493,000				4.25				1.61
$2.51 to $5.00			60,200				1.14				3.87				60,200				1.14				3.87
$5.01 to $6.95			49,250				1.49				5.71				49,250				1.49				5.71
Balance at March 31, 2018			7,604,415				6.03				0.64				3,237,379				5.25				0.83

 

During the nine months ended March 31, 2018, options to purchase 1,158,000 shares were granted to employees exercisable at $0.34 to $0.51 per share based on various service-based vesting terms from July 2017 through February 2021 and exercisable at various dates through February 2026. During the nine months ended March 31, 2017, options to purchase 1,297,000 were granted to employees exercisable at $0.35 to $1.02 per share based on service-based and performance-based vesting terms from July 2016 through March 2020 and exercisable at various dates through March 2025.

 

The aggregate intrinsic value of outstanding options totaled $40,493 and was based on the Company’s adjusted closing stock price of $0.38 as of March 31, 2018.

 

Information with respect to unvested employee stock option activity is as follows:

 

		Number of  Options				Weighted Average Grant Date Fair Value Per Share				Average Remaining Contractual Life (in years)
Balance at June 30, 2016			4,852,367			$	0.54				7.42
Options granted			2,654,100				0.59
Options vested			(2,110,085	)			0.57
Options forfeited			(199,284	)			0.80
Balance at June 30, 2017			5,197,098				0.54				6.93
Options granted			1,158,000				0.41
Options vested			(671,896	)			0.62
Options forfeited			(1,316,166	)			0.51
Balance at March 31, 2018			4,367,036				0.51				6.61

 

 

Total fair value of options granted for the nine months ended March 31, 2018 and March 31, 2017 was $349,804 and $541,264 respectively. At March 31, 2018, there was $533,499 in unrecognized compensation cost related to unvested stock options, which is expected to be recognized over a weighted average period of 1.5 years.

 

The Company compensates its directors with RSUs and cash. On November 14, 2017, 1,163,075 RSUs were granted to the Company’s directors in partial payment of director’s fees through November 2018 under the 2012 Director Equity Plan. As of March 31, 2018, 581,540 of the RSUs from the November 14, 2017 grant had vested.

 

On November 14, 2016, 581,816 RSUs were granted to the Company’s directors in partial payment of director’s fees through November 2017 under the 2012 Director Equity Plan. As of September 30, 2017, 563,635 of the RSUs from the November 14, 2016 grant had vested and 18,181 had forfeited.

 

On November 17, 2015, 864,000 RSUs were granted to the Company's directors in partial payment of director's fees through November 2016 under the 2012 Director Equity Plan. As of September 30, 2016, all of the RSUs from the November 17, 2015 grant had vested.

 

As of March 31, 2018, there were 3,851,535 of unvested RSUs and $1,803,734 in unrecognized compensation cost. Generally, shares of Common Stock related to vested RSUs are to be issued six months after the holder’s separation from service with the Company.

 

Information with respect to RSU activity is as follows:

 

		Number of Restricted Stock Units				Weighted Average Valuation Price Per Unit
Balance at June 30, 2016			4,029,244			$	1.03
RSUs granted			1,671,816				1.15
Shares issued			(144,728	)			0.75
Balance at June 30, 2017			5,556,332				1.07
RSUs granted			3,523,075				0.42
RSUs forfeited			(1,032,231	)			0.79
Shares issued			(837,544	)			1.57
Balance at March 31, 2018			7,209,632				0.74

 

NOTE 11 - WARRANTS

 

On August 7, 2017, 220,000 warrants were issued in connection with a professional services agreement. The warrants are exercisable at $0.40 per share and vest upon the satisfaction of certain performance targets prior to March 31, 2018. As of March 31, 2018, 40,000 warrants vested and expire in March 2021, and the remaining 180,000 warrants did not vest as the result of not achieving certain performance targets, and therefore expired in March 2018.

 

On June 22, 2017, 357,500 warrants were issued in connection with the Underwriting Agreement entered into with Roth Capital Partners, LLC as part of underwriting compensation which provided for the sale of $2.5 million of Common Stock on June 22, 2017. The warrants are exercisable at $0.42 per share and expire in June 2022.

 

On February 28, 2016, 45,000 warrants were issued as partial payment for services. The warrants are exercisable at $0.37 per share and expire in February 2019. In October 2016, 45,000 warrants were exercised via a cashless exercise resulting in the issuance of 29,162 shares of Common Stock of the Company.

 

On June 19, 2012, 579,061 warrants were issued in connection with the Underwriting Agreement entered into with MDB Capital Group, LLC as part of underwriting compensation which provided for the sale of $12 million of Common Stock on June 19, 2012. The warrants were exercisable at $2.375 per share and the remaining unexercised warrants of 306,902 expired in June 2017.

 

On May 1, 2012, 511,604 warrants were issued in connection with Securities Purchase Agreements entered into with certain investors providing for the sale of a total of $2,465,000 of Zero Coupon Convertible Subordinated Notes on May 1, 2012. The warrants were exercisable at $2.65 per share and expired in May 2017.

 

On September 26, 2013, 3,157,894 warrants were issued in connection with Securities Purchase Agreements entered into with certain investors providing for the sale of a total of $3.0 million of Series B Convertible Preferred Stock (the “Series B Preferred Stock”) on September 26, 2013. The warrants were exercisable at $0.95 per share and the remaining unexercised warrants of 1,710,525 expired in September 2016.

 

 

On September 26, 2013, 81,579 warrants were issued as placement agent’s compensation in connection with the sale of $3.0 million of Series B Preferred Stock on September 26, 2013. The warrants were exercisable at $0.95 per share and expired in September 2016.

 

Information with respect to warrant activity is as follows:

 

		Number of Warrants				Weighted Average Exercise Price Per Share
Balance at June 30, 2016			2,655,610			$	1.43
Warrants granted			357,500				0.42
Warrants exercised			(45,000	)			0.37
Warrants expired			(2,610,610	)			1.45
Balance at June 30, 2017			357,500				0.42
Warrants granted			220,000				0.40
Warrants expired			(180,000	)			0.40
Balance at March 31, 2018			397,500				0.42

 

NOTE 12 - BASIC AND DILUTED NET LOSS PER SHARE

 

Basic net loss per common share is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding for the period reported. Diluted net loss per common share is computed giving effect to all dilutive potential common shares that were outstanding for the period reported. Diluted potential common shares consist of incremental shares issuable upon exercise of stock options and warrants and conversion of preferred stock. In computing diluted net loss per share for the three and nine months ended March 31, 2018 and March 31, 2017, no adjustment has been made to the weighted average outstanding common shares as the assumed exercise of outstanding options and warrants and conversion of preferred stock is anti-dilutive.

 

Potential common shares not included in calculating diluted net loss per share are as follows:

 

		March 31, 2018				March 31, 2017
Stock options and restricted stock units			14,814,047				12,633,946
Stock warrants			397,500				818,506
Series B preferred shares			3,776,018				3,420,885
Total			18,987,565				16,873,337

 

NOTE 13 - EQUITY

 

Series B Convertible Preferred Stock

 

On September 26, 2013, the Company entered into a Securities Purchase Agreement with certain investors providing for the sale of 3,000 shares of Series B Preferred Stock. Certain Directors of the Company purchased 500 shares. 700 shares of the Series B Preferred Stock have been converted into 822,867 shares of Common Stock of the Company. Shares of Series B Preferred Stock were sold for $1,000 per share (the “Stated Value”) and accrue dividends on the Stated Value at an annual rate of 10%. The net proceeds to the Company were $2,909,873, after deducting offering expenses. At March 31, 2018, 2,300 shares of Series B Preferred Stock remain outstanding and were convertible into 3,776,018 shares of Common Stock of the Company at a conversion price equal to $0.95. Upon any liquidation, dissolution or winding up of the Company, holders of Preferred Stock are entitled to receive out of the assets of the Company an amount equal to two times the Stated Value, plus any accrued and unpaid dividends thereon. At March 31, 2018, the liquidation preference of the Preferred Stock was $5,887,217. In connection with the purchase of the Series B Preferred Stock, investors received warrants to purchase a total of 3,157,895 shares of Common Stock at an exercise price of $0.95. These warrants expired on September 27, 2016.

 

 

Series C Convertible Preferred Stock

 

On July 13, 2015, we entered into a Securities Purchase Agreement with SPI in connection with entering into a global strategic partnership, which included a Securities Purchase Agreement, a Supply Agreement and a Governance Agreement. Pursuant to the Securities Purchase Agreement, we sold to SPI for an aggregate purchase price of $33,390,000 a total of (i) 8,000,000 shares of Common Stock based on a purchase price per share of $0.6678 and (ii) 28,048 shares Series C Preferred Stock based on a price of $0.6678 per common equivalent. The Series C Preferred Stock were potentially convertible, subject to the completion of projects under our Supply Agreement with SPI, into a total of up to 42,000,600 shares of Common Stock. Pursuant to the Securities Purchase Agreement, the Company also issued to SPI a warrant to purchase 50,000,000 shares of Common Stock for an aggregate purchase price of $36,729,000 (the “Warrant”), at a per share exercise price of $0.7346. The Warrant would have become exercisable only once SPI purchased and paid for 40 megawatts of projects, as defined in the Supply Agreement.

 

At closing of the SPI transaction on July 13, 2015, the Company recognized the fair value of $6.8 million for the Common Stock (determined by reference to the closing price of the Company’s Common Stock on the NYSE American) as an increase to equity. The Company also recognized as equity the fair value of $13.3 million for the Series C Preferred Stock ignoring the contingent convertibility on the closing date. This price was determined using the OPM model and a “with” and “without” methodology to bifurcate the Series C Preferred Stock conversion feature. The OPM model treats the various equity securities as call options on the total equity value contingent upon each securities strike price or participation rights. The cash received by the Company in excess of the fair value of the Common Stock and the nonconvertible attribute of the Series C Preferred Stock of $13,290,000 was recorded as deferred revenue. This amount was allocated to the Supply Agreement under which the Company expected to perform in the future and would be recognized as revenue as sales occurred under the Supply Agreement.

 

Pursuant to the Supply Agreement, the Company agreed to sell and SPI agreed to purchase products and services offered by the Company from time to time, including energy management system solutions for solar projects. Under the Supply Agreement, SPI agreed to purchase energy storage systems with a total combined power output of 40 megawatts over a four-year period, as provided for in the Supply Agreement.   

 

SPI never made any purchases under the Supply Agreement. Due to SPI’s failure to meet its purchase obligations, on May 4, 2017 the Company terminated the Supply Agreement. As a result of the termination of the Supply Agreement, it is no longer possible for SPI to satisfy the conditions that would have enabled it to convert the Series C Preferred Stock or exercise the Warrant, and for the Company to recognize revenue as sales occurred under the Supply Agreement. Applying guidance from ASC 405-20, liabilities should be derecognized only when the obligor is legally released from the obligation, which occurred for the Company upon the exercise of the termination rights. Since the Supply Agreement termination was not standard operating revenues of the Company, the derecognition of the deferred revenue liability of $13,290,000 resulted in a gain and was recorded as other income in the fourth quarter of fiscal 2017.

 

The Series C Preferred Stock are non-voting, are perpetual, are not eligible for dividends, and are not redeemable. Upon any liquidation, dissolution, or winding up of the Company (a “Liquidation”) or a Fundamental Transaction (as defined in the Certificate of Designation for the Series C Preferred Stock), holders of the Series C Preferred Stock are entitled to receive out of the assets of the Company an amount equal to the higher of (1) the Stated Value, which was $28,048,000 as of March 31, 2018 and (2) the amount payable to the holder if it had converted the shares into Common Stock immediately prior to the Liquidation or Fundamental Transaction, for each share of the Series C Preferred Stock after any distribution or payment to the holders of the Series B Preferred Stock and before any distribution or payment shall be made to the holders of the Company’s existing Common Stock, and if the assets of the Company shall be insufficient to pay in full such amounts, then the entire assets to be distributed shall be ratably distributed in accordance with respective amount that would be payable on such shares if all amounts payable thereon were paid in full, which was $3,196,739 as of March 31, 2018. While the Series C Preferred Stock is outstanding, the Company may not pay dividends on its Common Stock and may not redeem more than $100,000 in Common Stock per year.

 

In connection with the closing of the SPI transaction and pursuant to the Securities Purchase Agreement, the Company entered into the Governance Agreement.  Under the Governance Agreement, for so long as SPI holds at least 10,000 Series C Preferred Stock or 25 million shares of Common Stock or Common Stock equivalents (the “Requisite Shares”), SPI has certain governance rights.

 

 

The Governance Agreement provides that for so long as SPI holds the Requisite Shares, the Company will not take any of the following actions without the affirmative vote of SPI: (a) change the conduct by the Company’s business; (b) change the number or manner of appointment of the directors on the board; (c) cause the dissolution, liquidation or winding-up of the Company or the commencement of a voluntary proceeding seeking reorganization or other similar relief; (d) other than in the ordinary course of conducting the Company’s business, cause the incurrence, issuance, assumption, guarantee or refinancing of any debt if the aggregate amount of such debt and all other outstanding debt of the Company exceeds $10 million; (e) cause the acquisition, repurchase or redemption by the Company of any securities junior to the Series C Preferred Stock; (f) cause the acquisition of an interest in any entity or the acquisition of a substantial portion of the assets or business of any entity or any division or line of business thereof or any other acquisition of material assets, in any such case where the consideration paid exceeds $2 million, or cause the Company to engage in other Fundamental Transactions (as defined in the Certificate of Designation of Preferences, Rights and Limitations of the Series C Convertible Preferred Stock); (g) cause the entering into by the Company of any agreement, arrangement or transaction with an affiliate that calls for aggregate payments (other than payment of salary, bonus or reimbursement of reasonable expenses) in excess of $120,000; (h) cause the commitment to capital expenditures in excess of $7 million during any fiscal year; (i) cause the selection or replacement of the auditors of the Company; (j) enter into of any partnership, consortium, joint venture or other similar enterprise involving the payment, contribution, or assignment by the Company or to the Company of money or assets greater than $5 million; (k) amend or otherwise change its Articles of Incorporation or By-Laws or equivalent organizational documents of the Company or any subsidiary in any manner that materially and adversely affects any rights of SPI; (l) amend or otherwise change the Articles of Incorporation or By-Laws or equivalent organizational documents of any Subsidiary in any manner; (m) grant, issue or sell any equity securities (with certain limited exceptions); (n) declare, set aside, make or pay any dividend or other distribution, payable in cash, stock, property or otherwise, with respect to any of its capital stock; provided, however, that the dividends called for by Section 3(b) of the Certificate of Designation of Preferences, Rights and Limitations of the Company’s Series B Convertible Preferred Stock shall nonetheless continue to accrue and accumulate on each share of the Company’s Series B Preferred Stock; (o) reclassify, combine, split or subdivide, directly or indirectly, any of its capital stock; (p) permit any item of material intellectual property to lapse or to be abandoned, dedicated, or disclaimed, fail to perform or make any applicable filings, recordings or other similar actions or filings, or fail to pay all required fees and taxes required or advisable to maintain and protect its interest in such intellectual property; or (q) enter into any contract, arrangement, understanding or other similar agreement with respect to any of the foregoing. Additionally, the Governance Agreement provides a preemptive right to SPI in the case of certain issuances of equity securities. On May 8, 2018, the Company filed a lawsuit against SPI in the Circuit Court, Waukesha County of the State of Wisconsin seeking a declaratory judgment releasing the Company from its obligations under the Governance Agreement. See further discussion of lawsuit in Note 18 – Subsequent Event.

 

On August 30, 2016, SPI entered into a Share Purchase Agreement with Melodious Investments Company Limited (“Melodious”) pursuant to which SPI sold to Melodious the 8,000,000 outstanding shares of Common Stock.

 

Common Stock

 

June 22, 2017 Underwritten Public Offering

 

On June 22, 2017, the Company completed an underwritten public offering of its Common Stock at a price to the public of $0.35 per share. The Company sold a total of 7,150,000 shares of its Common Stock in the offering for net proceeds of $2,073,055, after deducting the underwriting discount and expenses. The Company granted the underwriter an option to purchase up to 1,072,500 additional shares of Common Stock to cover over-allotments, if any. In July 2017, the Company sold an additional 367,000 shares of its Common Stock under the over-allotment option for net proceeds of $119,459, after deducting the underwriting discount and expenses.

 

NOTE 14 - COMMITMENTS

 

Leasing Activities

 

Operating Leases

 

Operating lease expense recognized during the three and nine months ended March 31, 2018 was $47,726 and $89,346 respectively. Operating lease expense recognized during the three and nine months ended March 31, 2017 was $16,642 and $45,739, respectively. Operating lease expense is included in operating expenses in the condensed consolidated statements of operations.

 

In December 2017, the Company entered into a seven-year office lease agreement to replace the Company’s former headquarters, which was sold on January 31, 2018. Monthly rent for the first twelve months of the lease is $13,845 and increases by approximately 1.5% for each succeeding 12 month period. Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements for further detail related to the sale of the Company’s headquarters.

 

As of March 31, 2018, and June 30, 2017, the carrying value of the right of use asset was $1,135,174 and $150,214, respectively, and is separately stated on the condensed consolidated balance sheets. The related short-term and long-term liabilities as of March 31, 2018 were $194,496 and $940,678 and as of June 30, 2017 were $65,004 and $85,210, respectively. The short-term and long-term liabilities are included in “Accrued expenses” and “Other long-term liabilities,” respectively, in the condensed consolidated balance sheets.

 

 

Information regarding the weighted-average remaining lease term and the weighted-average discount rate for operating leases are summarized below:

 

		March 31, 2018				June 30, 2017
Weighted-average remaining lease term (in years)
Operating leases			6.24				2.37
Weighted-average discount rate
Operating leases			5.0	%			5.0	%

 

The table below reconciles the undiscounted cash flows for the first five years and total of the remaining years to the operating lease liabilities recorded in the condensed consolidated balance sheet as of March 31, 2018:

 

2018		$	61,679
2019			248,148
2020			210,260
2021			172,317
2022			174,873
Thereafter			463,275
Total undiscounted lease payments			1,330,552
Present value adjustment			(195,378	)
Net operating lease liabilities		$	1,135,174

 

Short-term Leases

 

The Company leases facilities in Honolulu, Hawaii, Milwaukee and Madison, Wisconsin and Shanghai, China from unrelated parties under lease terms that will expire over the next twelve months. Monthly rent for the twelve-month rental periods is between $400 and $2,010 per month. Rent expense of $17,068 and $38,203 was recognized during the three and nine months ended March 31, 2018, respectively. Rent expense of $22,497 and $66,122 was recognized during the three and nine months ended March 31, 2017, respectively. Short-term rent expense is included in operating expenses in the condensed consolidated statement of operations.

 

NOTE 15 - RETIREMENT PLANS

 

The Company sponsors a defined contribution retirement plan under Section 401(k) of the Internal Revenue Code, the EnSync, Inc. 401(k) Savings Plan. Employees may elect to contribute up to the IRS annual contribution limit. The Company matches employees’ contributions up to 4% of eligible compensation and Company contributions are limited in any year to the amount allowable by government tax authorities. Eligible employees are 100% immediately vested.

 

Total employer contributions recognized in the condensed consolidated statements of operations under this plan were $50,518 and $151,431 for the three and nine months ended March 31, 2018, respectively. Total employer contributions recognized in the condensed consolidated statements of operations under this plan were $61,448 and $146,005 for the three and nine months ended March 31, 2017, respectively.

 

NOTE 16 - INCOME TAXES

 

The Company had no current or deferred provision (benefit) for income taxes for the three and nine months ended March 31, 2018 or March 31, 2017. The income tax provision for the three and nine months ended March 31, 2018 and March 31, 2017 was determined by applying an estimated annual effective tax rate of 0.0% to the loss before income taxes. The estimated effective income tax rate was determined by applying statutory tax rates to pretax loss adjusted for certain permanent book to tax differences and tax credits, and the continuing assessment of a valuation allowance against all of the deferred income tax assets that will not be realized in the foreseeable future. Deferred income tax assets are reviewed for recoverability based on historical taxable income, the expected reversals of existing temporary differences, tax planning strategies and projections of future taxable income. As a result of this analysis, the Company has provided for a valuation allowance against all of its net deferred income tax assets as of March 31, 2018 and June 30, 2017.

 

On December 22, 2017, the President of the U.S. signed the Tax Act into law. The Tax Act includes several changes to existing tax law, including a permanent reduction in the U.S. federal statutory tax rate from 35% to 21%, further limitations on the deductibility of interest expense and certain executive compensation, repeal of the corporate Alternative Minimum Tax and imposition of a territorial tax system. While some of the new provisions of the Tax Act will impact the Company in fiscal 2019 and beyond, the change in the U.S. federal statutory tax rate was effective January 1, 2018. During the second quarter of fiscal 2018, the Company was required to revalue its U.S. federal deferred tax assets and liabilities at the new U.S. federal statutory tax rate in the period of enactment. As the Company has provided for a valuation allowance against all of its net deferred income taxes, the revaluation resulted in no charge to income tax expense for the three and six months ended December 31, 2017.

 

 

NOTE 17 - RELATED PARTY TRANSACTIONS

 

On September 7, 2016, the Company entered into a Membership Interest Purchase Agreement (“MIPA”) with Theodore Peck, the CEO of the Company’s 85% owned subsidiary, Holu. Pursuant to the MIPA, the Company will sell to Theodore Peck all of the issued and outstanding membership interests of a PPA entity for $592,000, subject to the terms of a Promissory Note, a Security Agreement and a Pledge Agreement. The transaction is considered to be executed upon terms that are in the normal course of operations. Revenues for the total contract of $592,000 and expenses of $573,353 was recognized in the Company’s condensed consolidated statement of operations for third quarter of fiscal 2017.

 

NOTE 18 - SUBSEQUENT EVENT

 

On May 8, 2018, the Company filed a lawsuit against SPI in the Circuit Court, Waukesha County of the State of Wisconsin seeking a declaratory judgment releasing the Company from its obligations under the Governance Agreement (the “SPI Dispute”). The complaint in the SPI Dispute asserts, among other things, that the Company should be released from its obligations under the Governance Agreement due to the Doctrine of Frustration of Purpose. As detailed in the complaint, the basis for this claim is that the Company’s principle purpose for entering into the Governance Agreement was as a condition and inducement to SPI to enter into the Supply Agreement, and that due to SPI’s failure to perform its obligations under the Supply Agreement, that purpose was frustrated.

 

 

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our financial position and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and notes thereto included elsewhere in this Form 10-Q, as well as our audited consolidated financial statements and notes thereto included in the Company’s Annual Report filed on Form 10-K for the fiscal year ended June 30, 2017.

 

Forward-Looking Statements

 

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are intended to be covered by the “safe harbor” created by those sections. Forward-looking statements, which are based on certain assumptions and describe our future plans, strategies and expectations, can generally be identified by the use of forward-looking terms such as “believe,” “expect,” “may,” “will,” “should,” “could,” “seek,” “intend,” “plan,” “goal,” “estimate,” “anticipate” or other comparable terms. All statements other than statements of historical facts included in this Quarterly Report on Form 10-Q regarding our strategies, prospects, financial condition, operations, costs, plans and objectives are forward-looking statements. Examples of forward-looking statements include, among others, statements we make regarding project completion timelines, our ability to monetize our PPA assets, statements regarding the sufficiency of our capital resources, expected operating losses, expected revenues, expected expenses and our expectations concerning our business strategy. Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations and assumptions regarding the future of our business, future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not rely on any of these forward-looking statements. Important factors that could cause our actual results and financial condition to differ materially from those indicated in the forward-looking statements include, among others, the following: our historical and anticipated future operation losses and our ability to continue as a going concern; our ability to raise the necessary capital to fund our operations and the risk of dilution to shareholders from capital raising transactions; our ability to remain listed on the NYSE American; the effects of a sale or transfer of a large number of shares of our common stock; the competiveness of the industry in which we compete; our ability to successfully commercialize new products, including our EnSync Home Energy System, Matrix^TM Energy Management, DER Flex^TM, DER Supermodule^TM System and Agile^TM Hybrid Storage Systems; our ability to lower our costs and increase our margins; the failure of our products to perform as planned; our ability to improve the performance of our products; our ability to build quality and reliable products and market perception of our products; our ability to grow rapidly while successfully managing our growth; our ability to maintain our current and establish new strategic partnerships; our dependence on sole source and limited source suppliers; our limited experience manufacturing our products on a large-scale basis; our product, customer and geographic concentration, and lack of revenue diversification; the ability of SPI to influence key decision making; the potential of Melodious to acquire complete control; the effect laws and regulations of the Chinese government may have on our China Joint Venture; our ability to enforce our agreements in Asia; our ability to retain our managerial personnel and to attract additional personnel; our ability to manage our international operations; the length and variability of our sales cycle; our increased emphasis on larger and more complex system solutions; our lack of experience in the PPA business; our reliance of third-party suppliers and contractors when developing and constructing systems for our PPA business; our dependence on governmental mandates and the availability of rebates, tax credits and other economic incentives related to alternative energy resources and the regulatory treatment of third-party owned solar energy systems; our ability to protect our intellectual property and the risk we may infringe on the intellectual property of others; the cost of protecting our intellectual property; future acquisitions could disrupt our business and dilute our stockholders; and the other risks and uncertainties discussed in the Risk Factors and in Management's Discussion and Analysis of Financial Condition and Results of Operations sections of the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2017 and our subsequently filed Quarterly Report(s) on Form 10-Q. We undertake no obligation to publicly update any forward-looking statement, whether written or oral, that may be made from time to time, whether as a result of new information, future developments or otherwise.

 

OVERVIEW

 

EnSync is an energy innovation company whose technologies and capabilities are designed to deliver the least expensive, highest value and most reliable electricity. EnSync Energy’s modular technologies and services synchronize power sources to meet dynamic and evolving energy environments, enable real-time prioritization of DERs and provide grid stability and economic optimization. EnSync Energy offers integrated solutions from concept through design, project finance, commissioning, and operating and maintenance, serving the C&I and multi-tenant building, utility and off-grid markets.

 

 

EnSync develops and commercializes product and service solutions for the distributed energy generation market, including energy management systems, energy storage systems, applications and internet of energy platforms that link distributed energy resources with the grid network. These solutions are critical to the transition from a “coal-centric economy” to one reliant on renewable energy sources. EnSync synchronizes conventional utility, distributed generation and storage assets to seamlessly ensure the least expensive and most reliable electricity available, thus enabling the future of energy networks.

 

EnSync delivers fully integrated systems utilizing proprietary direct current power control hardware, energy management software and extensive experience with energy storage technologies. Our internet of energy control platform adapts to ever-changing generation and load variables, as well as changes in utility prices and programs, aiming to ensure the means to make and/or save money behind-the-meter while concurrently providing utilities the opportunity to use distributed energy resource systems for various grid enhancing services.

 

EnSync Energy’s systems can easily integrate distributed energy resources with the grid, island from the grid and serve as a microgrid, and be deployed as self-contained microgrids, delivering electricity to sites for which no grid exists. EnSync Energy brings vital power control and energy storage solutions to problems caused by the incorporation of increasingly pervasive renewable energy generating assets that are part of the grid power transmission and distribution network used in commercial, industrial and multi-tenant buildings. In addition to ensuring resilient and high-value electricity to off-takers, utilities can benefit from EnSync Energy’s systems by relying on such assets for visibility, aggregation and control as they begin to use distributed energy resources to ensure a more fortified grid via grid services. The Company also develops and commercializes energy management systems for off-grid applications such as island or remote power.

 

Power Purchase Agreements

 

We are addressing our target markets as a developer and a financial packager primarily through the use of PPAs. Navigant Research forecasts the annual market for solar plus energy storage distributed energy systems to grow to nearly $50 billion by 2026, with a compound annual growth rate of more than 40 percent in such period. Under this PPA structure, we agree to develop and supply a system that uses our and other companies’ products and the offtaker agrees to purchase electricity from the completed system at a fixed rate for typically a 20-year period. Through these arrangements, the offtaker receives the benefit of a low and fixed price for electricity without incurring the capital expenditures required to develop and build the system.

 

Because building these PPA projects requires significant long-term capital outlays, we do not intend to own the PPA systems and seek to sell them to third parties once we have completed the site development process. Site development activities include: (i) finalizing the engineering design of the system, (ii) applying for and receiving the necessary permits for construction of the system and (iii) negotiation of an interconnection agreement with the local utility. This site development process typically takes three to four months.

 

We typically do not begin construction of a specific project until it has been sold to a third party. Accordingly, during the site development process, we engage in a sale process and provide interested purchasers with information related to the system. The purchase price for a particular system is determined through a formula that we believe is customary in the solar industry that takes into account the revenue stream to be received from the offtaker discounted to present value based on customary internal rates of return for similar projects, the costs of completing, maintaining and administering the system and certain other factors.

 

Once the system has been sold, we begin construction which includes procurement of the necessary equipment, physical construction and commissioning of the system. The construction period varies based on many internal and external factors, but is typically completed within six to nine months.

 

Our sales agreement with the buyer of the system typically provides for us to receive an upfront payment and additional progress payments to be made based upon achievement of certain key procurement, construction and commissioning milestones.

 

We recognize revenue from these PPA arrangements on a percentage of completion basis as we build out and commission the system. Any excess cash received from the system purchaser in excess of recognized revenue is recorded as billings in excess of costs and estimated earnings and carried as a liability on our condensed consolidated financial statements. Based on our experience to date, we expect to recognize all revenue from a particular PPA system typically within 12 months of the signing of the related PPA agreement.

 

 

We may also enter into a service agreement with the owner of a PPA system pursuant to which we provide ongoing administrative, operating and maintenance services. These agreements usually have a term which matches the PPA term. We recognize revenue from a service agreement ratably over the life of the related agreement.

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

There have been no material changes in the Company’s critical accounting policies and estimates since the September 27, 2017 filing of its Annual Report on Form 10-K for the fiscal year ending June 30, 2017.

 

As discussed in our annual report, the preparation of our financial statements conforms to US GAAP, which requires management, in applying our accounting policies, to make estimates and assumptions that have an important impact on our reported amounts of assets, liabilities, revenue, expenses and related disclosures at the date of our financial statements.

 

On an on-going basis, management evaluates its estimates and bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from management’s estimates.

 

The most significant accounting estimates inherent in the preparation of the Company's financial statements include revenue recognition, estimates as to the realizability of our inventory assets, impairment of long lived assets, goodwill assessment, warranty obligations, stock-based compensation and going concern assessment.

 

Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements for further detail of our significant accounting estimates inherent in the preparation of our financial statements.

 

NEW ACCOUNTING PRONOUNCEMENTS

 

Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements for a discussion of recently issued accounting pronouncements.

 

RESULTS OF OPERATIONS

 

Three months ended March 31, 2018, as compared with the three months ended March 31, 2017

 

Revenue

 

Our revenues for the three months ended March 31, 2018 increased $3,022,573 to $3,073,078, as compared to the three months ended March 31, 2017. The increase in revenues in the three months ended March 31, 2018 was principally the result of an increase in revenues recognized under the percentage of completion method from our existing PPA systems and the sale of three new PPA systems. The Company had 10 PPA systems contribute to revenues in the three months ended March 31, 2018.

 

Costs and Expenses

 

Total costs and expenses for the three months ended March 31, 2018 increased $1,505,521, or 33.7%, to $5,968,472, as compared to the three months ended March 31, 2017. This increase in total costs and expenses were primarily due to the following factors:

 

·

$2,032,288 increase in costs of product sales, principally due to the cost of product sales associated with the increase in revenues recognized under the percentage of completion method from our PPA systems;

 

·

$230,431 decrease in advanced engineering and development, principally due to the winding down of a R&D project and lower wages and benefits; and

 

·

$261,534 decrease in selling, general and administrative expenses principally due to a $305,758 decrease in stock compensation expense and a $120,735 decrease in accruals for annual performance-based cash incentives, offset by $103,036 increase in consulting services.

 

Gross margin improved to 27.2% percent during the three months ended March 31, 2018, as compared to a negative margin in the three months ended March 31, 2017, principally due to the continued efficiencies in the procurement, construction and sale process for PPA systems.

 

 

Other Income (Expense)

 

Total other income (expense) for the three months ended March 31, 2018 increased by $17,958, to an expense of $188,348, as compared to an expense of $170,390 for the three months ended March 31, 2017. The decrease in other income (expense) was attributable to an equity in loss of investee company related to our China Joint Venture of $246,980 in the three months ended March 31, 2018, as compared to $170,084 in the three months ended March 31, 2017; offset by an increase in other income of $61,509 related to the $61,129 gain recognized from the sale of the Company’s headquarters on January 31, 2018.

 

Refer to Note 1 of the Notes to Condensed Consolidated Financial Statements for further detail related to the sale of the Company’s headquarters.

 

Net Loss

 

Our net loss attributable to EnSync, Inc. for the three months ended March 31, 2018 decreased by $1,520,670, or 34.1%, to $2,933,444 from the $4,454,114 net loss for the three months ended March 31, 2017. This decrease in net loss was principally due to the increase in PPA revenue and improved PPA system margins.

 

Nine months ended March 31, 2018, as compared with the nine months ended March 31, 2017

 

Revenue

 

Our revenues for the nine months ended March 31, 2018 increased by $838,198, or 8.9%, to $10,281,833, as compared to the nine months ended March 31, 2017. The increase in our revenues was attributable to an increase in revenues recognized under the percentage of completion method from our existing PPA systems and the sale of seven new PPA systems in the nine months ended March 31, 2018. The Company had 11 PPA systems contribute to revenues in the nine months ended March 31, 2018.

 

Costs and Expenses

 

Total costs and expenses for the nine months ended March 31, 2018 decreased $3,217,492, or 14%, to $19,703,577, as compared to the nine months ended March 31, 2017. This decrease in total costs and expenses was primarily due to the following factors:

 

·

$1,725,997 decrease in costs of product sales principally due to the continued efficiencies in the procurement and construction of PPA systems in the current year;

 

·

$937,725 decrease in costs of engineering and development due to timing of costs incurred under the Lotte R&D Agreement in the prior year with no similar projects in the current year;

 

·

$770,338 decrease in selling, general and administrative expenses principally due to a $321,838 decrease in legal expenses and $811,133 decrease in stock compensation expense, offset by $244,370 increase in consulting services; and

 

·

$447,000 impairment charge on the building and land in the nine months ended March 31, 2018 related to the sale of our corporate headquarters.

 

Gross margin improved to 22.4% percent during the nine months ended March 31, 2018, as compared to a negative 2.8% in the nine months ended March 31, 2017, principally due to the continued efficiencies in the procurement, construction and sale process for PPA systems.

 

Other Income (Expense)

 

Total other income (expense) for the nine months ended March 31, 2018 increased by $91,299 to a loss of $258,466, as compared to a loss of $167,167 for the nine months ended March 31, 2017. The increase in other income (expense) was attributable to an equity in loss of investee company related to our China Joint Venture of $385,443 in the nine months ended March 31, 2018, as compared to an equity in loss of investee company of $171,816 in the nine months ended March 31, 2017; offset by an increase in other income of $129,602 related to the $61,129 gain recognized from the sale of the Company’s headquarters on January 31, 2018 and additional gains recognized on the sale of equipment in the nine months ended March 31, 2018, as compared to the nine months ended March 31, 2017.

 

Net Loss

 

Our net loss attributable to EnSync, Inc. for the nine months ended March 31, 2018 decreased by $4,012,619, or 30%, to $9,360,921 from the $13,373,540 net loss for the nine months ended March 31, 2017. This decrease in net loss was principally due to the improved PPA system margins and the decrease in costs of engineering and development related to the Lotte R&D Agreement from the nine months ended March 31, 2017.

 

 

LIQUIDITY AND CAPITAL RESOURCES

 

Since our inception, our research, advanced engineering and development, and operations have been primarily financed through debt and equity financings, and engineering, government and other research and development contracts. Total capital stock and paid in capital as of March 31, 2018 was $143,937,455, as compared with $143,082,944 as of June 30, 2017. We had an accumulated deficit of $134,000,565 as of March 31, 2018, as compared to $124,639,644 as of June 30, 2017. At March 31, 2018 we had net working capital of $6,795,638, as compared to $12,551,092 as of June 30, 2017. Our shareholders’ equity as of March 31, 2018 and June 30, 2017, exclusive of noncontrolling interests, was $8,352,244 and $16,858,722, respectively.

 

On June 22, 2017, the Company completed an underwritten public offering of its Common Stock at a price to the public of $0.35 per share. The Company sold a total of 7,517,000 shares of its Common Stock, including over-allotments, in the offering for net proceeds of $2,192,514, after deducting the underwriting discount and expenses.

 

At March 31, 2018, our principal sources of liquidity were our cash and cash equivalents, which totaled $5,349,640, accounts receivable of $1,512,630 and costs and estimated earnings in excess of billings of $248,156. On January 31, 2018, we completed the sale of our corporate headquarters pursuant to which we received net proceeds of $1,725,326, after payment in full of our mortgage, related interest and customary closing costs.

 

We believe that cash and cash equivalents on hand at March 31, 2018, and other potential sources of cash, including net cash we generate from closing projects in our backlog and pipeline and potential financing options, will be sufficient to fund our current operations through the fourth quarter of fiscal 2019. While we believe our pipeline of projects is deep, there can be no assurances that projects will close in a timely manner to meet our cash requirements. We are also working to improve operations and enhance cash balances by continuing to drive cost improvements and reducing our spend on research and development. Also, we are currently exploring potential financing options that may be available to us, including strategic partnership transactions, PPA project financing facilities, and if necessary, additional sales of Common Stock or other debt or equity securities. However, we have no commitments to obtain any additional funds, and there can be no assurance such funds will be available on acceptable terms or at all. If the Company is unable to increase revenues and achieve profitability in a timely fashion, the Company’s financial condition and results of operations may be materially adversely affected and the Company may not be able to continue operations, execute our growth plan, take advantage of future opportunities or respond to customers and competition.

 

Cash Flows

 

Cash decreased $6,433,322 in the nine months ended March 31, 2018, ending the period at $5,349,640. Cash decreased $4,789,418 in the nine months ended March 31, 2017, ending the period at $12,399,671.  The increase in the usage of cash in the nine months ended March 31, 2018, as compared to the prior year, is due to the following:

 

Operating Activities

 

Our operating activities used cash of $8,066,662 for the nine months ended March 31, 2018, as compared to cash used of $4,578,824 in the nine months ended March 31, 2017. The increase in the cash used in the nine months ended March 31, 2018 is attributable to the conversion of deferred PPA project costs into cash related to the PPA systems sold to AEP Onsite Partners in the prior year and the timing of customer collections related to PPA systems in the nine months ending March 31, 2018; offset by the timing of engineering, procurement and construction vendor payments in the nine months ended March 31, 2018.

 

Investing Activities

 

Our investing activities provided cash of $2,252,400 for the nine months ended March 31, 2018, as compared to cash used of $31,039 in the nine months ended March 31, 2017. The increase in the cash provided is attributable to net proceeds received of $2,187,317 on the sale of our corporate headquarters on January 31, 2018.

 

Financing Activities

 

Our financing activities used cash of $619,017 for the nine months ended March 31, 2018, as compared to cash used of $180,133 in the nine months ended March 31, 2017. The increase in the cash used is attributable to the payment in full of our outstanding mortgage balance of $434,184 in connection with the sale of the Company's corporate headquarters on January 31, 2018.

 

 

Off-Balance Sheet Arrangements

 

We had no off-balance sheet arrangements as of March 31, 2018.

 

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Not applicable.

 

Item 4. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Securities Exchange Act of 1934, as amended (Exchange Act), is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. Our disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is accumulated and communicated to management as appropriate to allow timely decisions regarding required disclosures. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives, and management necessarily is required to use its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

 

An evaluation was carried out under the supervision and with the participation of the Company’s management, including the principal executive officer (“PEO”) and principal financial officer (“PFO”), of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report as defined in Exchange Act Rule 13a-15(e) and Rule 15d-15(e). Based on that evaluation, the PEO and PFO have concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures are effective in ensuring that information required to be disclosed in our Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including the PEO and PFO, as appropriate, to allow timely decisions regarding required disclosure.

 

Management’s Report on Internal Control over Financial Reporting

 

Our management is responsible for establishing and maintaining adequate internal controls over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)). Under the supervision and with the participation of our management, including our PEO and PFO, we conducted an evaluation of the effectiveness of our internal controls over financial reporting based on the framework in Internal Controls – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Based on our evaluation under the framework in Internal Control – Integrated Framework, our management concluded that our internal controls over financial reporting were effective as of March 31, 2018. The Company’s internal control over financial reporting is designed to provide reasonable assurances regarding the reliability of financial reporting and the preparation of the financial statements of the Company to conform with U.S. GAAP. Because of its inherent limitations, internal control over financial reporting may not prevent or detect all misstatements of fraud. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or because the degree of compliance with the policies or procedures may deteriorate.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during the three months ended March 31, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

 

PART II. OTHER INFORMATION

 

Item 1. LEGAL PROCEEDINGS

 

Except as described below we are not currently a party to any pending legal proceedings.

 

On May 8, 2018, we filed the SPI Dispute. Our complaint in the SPI Dispute asserts, among other things, that the Company should be released from its obligations under the Governance Agreement due to the Doctrine of Frustration of Purpose. As detailed in the complaint, the basis for this claim is that the Company’s principle purpose for entering into the Governance Agreement was as a condition and inducement to SPI to enter into the Supply Agreement, and that due to SPI’s failure to perform its obligations under the Supply Agreement, that purpose was frustrated.

 

While no assurance can be given regarding the outcome of this matter, based on information currently available, the Company believes that the resolution of this matter will not have a material adverse effect on the financial position or results of future operations of the Company.

 

Item 1A. RISK FACTORS

 

We operate in a rapidly changing environment that involves a number of risks that could materially affect our business, financial condition or future results, some of which are beyond our control. In addition to the other information set for the in this report, the risks and uncertainties that we believe are most important for you to consider are discussed in Part I, “Item 1A, Risk Factors,” in our most recent Annual Report on Form 10-K and in any subsequent Quarterly Reports on Form 10-Q. Other than the factors set forth below, there have been no material changes to the risk factors described in those reports.

 

On May 8, 2018, we filed the SPI Dispute. Our complaint in the SPI Dispute asserts, among other things, that the Company should be released from its obligations under the Governance Agreement due to the Doctrine of Frustration of Purpose. As detailed in the complaint, the basis for this claim is that the Company’s principle purpose for entering into the Governance Agreement was as a condition and inducement to SPI to enter into the Supply Agreement, and that due to SPI’s failure to perform its obligations under the Supply Agreement, that purpose was frustrated.

 

The outcome of any litigation is inherently uncertain and there can be no assurance that we will prevail in the SPI Dispute. The SPI Dispute, and any counterclaims that may result from it, could result in the diversion of management’s time and attention away from business operations. While we are not seeking monetary damages from SPI at this time, SPI may assert a counterclaim against us seeking monetary damages. Our legal expenses incurred in litigating the complaint and defending against any potential counterclaims, and any other similar or related matter, could be significant, and a ruling against us, or any settlement, could have a material adverse effect on us and our business, liquidity, financial condition and results of operation. Regardless of whether the SPI Dispute or any counterclaims are resolved in our favor or against us, such claims may be expensive and time consuming to litigate and resolve.

 

Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

Not applicable.

 

Item 3. DEFAULTS UPON SENIOR SECURITIES

 

Not applicable.

 

Item 4. MINE SAFETY DISCLOSURES

 

Not applicable.

 

Item 5. OTHER INFORMATION

 

Not applicable.

 

 

Item 6. EXHIBITS

 

Exhibit No.		Description		Incorporated by Reference to
3.1		Articles of Incorporation of EnSync, Inc., as amended		Incorporated by reference to Exhibit 3.1 to the Company’s Annual Report on Form 10-K filed on September 28, 2015
3.2		Articles of Amendment to Articles of Incorporation of EnSync, Inc.		Incorporated by reference to Exhibit 3.2 to the Company’s Quarterly Report on Form 10-Q filed on February 16, 2016
3.3		Certificate of Designation of Preferences, Rights and Limitations of Series B Convertible Stock		Incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K filed on September 27, 2013
3.4		Certificate of Designation of Preferences, Rights and Limitations of Series C Convertible Preferred Stock		Incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K filed on July 14, 2015
3.5		Amended and Restated By-laws of EnSync, Inc. (as of November 4, 2009)		Incorporated by reference to Exhibit 3.4 to the Company’s Annual Report on Form 10-K filed on September 28, 2015
4.1		Form of Stock Certificate		Incorporated by reference to Exhibit 4.1 to the Company’s Annual Report on Form 10-K filed on September 28, 2015
4.2		Form of Underwriter Warrant		Incorporated by reference to the Company’s Registration Statement on Form S-1 filed on April 10, 2012
4.3		Form of Underwriter’s Warrant		Incorporated by reference to Exhibit 10 to the Company’s Current Report on Form 8-K filed on June 23, 2017
10.1		Offer to Purchase, dated October 12, 2017, between EnSync, Inc. and CSJM LLC		Incorporated by reference to Exhibit 2.1 to the Company’s Current Report on Form 8-K filed on February 6, 2018
10.2*		Employment Agreement, dated as of February 12, 2018, between EnSync, Inc. and William J. Dallapiazza
31.1		Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101		Interactive Data Files

 

* Indicates a management contract or any compensatory plan, contract or arrangement.

 

 

SIGNATURES

 

Pursuant to the requirements of the Section 13 or 15 (d) of the Securities Exchange Act of 1934, the registrant has duly caused this Quarterly Report on Form 10-Q to be signed on its behalf by the undersigned on May 15, 2018, thereunto duly authorized.

 

	ENSYNC, INC.
	By:	/s/ Bradley L. Hansen
	Name:	Bradley L. Hansen
	Title:	Chief Executive Officer
		and President and Director
		(Principal Executive Officer)
	By:	/s/ William J. Dallapiazza
	Name:	William J. Dallapiazza
	Title:	Chief Financial Officer
		(Principal Financial and Accounting Officer)