e10ksb
UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-KSB
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(Mark One)
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ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
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For the fiscal year ended
December 31, 2007
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TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
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Commission File Number: 001-33304
Converted Organics
Inc.
(Name of Small Business Issuer
in its Charter)
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Delaware
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20-4075963
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(State or other jurisdiction
of
incorporation or organization)
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(I.R.S. Employer
Identification No.)
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7A Commercial Wharf West, Boston, MA 02110
(Address of Principal Executive
Offices and Zip Code)
(617) 624-0111
(Issuers telephone
number)
Securities Registered Under
Section 12(b) of the Exchange Act:
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Title of Each Class
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Name of Each Exchange on Which Registered
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Converted Organics Inc.
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NASDAQ Capital Market
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Common Stock $0.0001 Par Value
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and the Boston Stock Exchange
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Class A Warrants to purchase one share of Common Stock
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Class B Warrants to purchase one share of Common Stock
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Securities Registered Under Section 12(g) of the Act:
None
Check whether the issuer is not required to file reports
pursuant to Section 13 or 15(d) of the Exchange
Act. o
Check whether the issuer (1) filed all reports required to
be filed by Section 13 of 15(d) of the Exchange Act during
the past 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past
90 days. Yes þ No o
Check if there is no disclosure of delinquent filers in response
to Item 405 of
Regulation S-B
contained in this form, and no disclosure will be contained, to
the best of registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-KSB
or any amendment to this
Form 10-KSB. þ
Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the Exchange
Act). Yes o No þ
Issuers revenues for the year ended December 31,
2007: $-0-
The aggregate market value of the 3,042,863 shares of
common stock held by non-affiliates computed by reference to the
closing price of such stock as reported on the NASDAQ Capital
Market and the Boston Stock Exchange on March 26, 2008 was
$34,445,209.
As of March 26, 2008, 5,181,434 shares of our common
stock were outstanding.
Incorporation by Reference:
Portions of the registrants definitive proxy statement to
be filed subsequent to the date hereof in connection with the
registrants 2008 annual meeting are incorporated by
reference into Part III of this Report.
Transitional Small Business Disclosure Format: Yes
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PART I
Forward-Looking
Statements
We make forward-looking statements in this report that are
subject to risks and uncertainties. These forward-looking
statements include information about possible or assumed future
results of our business, financial condition, liquidity, results
of operations, plans and objectives. In some cases, you may
identify forward-looking statements by words such as
may, should, plan,
intend, potential, continue,
believe, expect, predict,
anticipate and estimate, the negative of
these words or other comparable words. These statements are only
predictions. You should not place undue reliance on these
forward-looking statements. The forward-looking statements are
qualified by their terms
and/or
important factors, many of which are outside our control and
involve a number of risks, uncertainties and other factors that
could cause actual results and events to differ materially from
the statements made. Such factors include, among other things,
those described elsewhere in this report and the following:
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We are an early-stage venture with little operating history, and
our prospects are difficult to evaluate.
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We expect to incur significant losses some time, and we may
never operate profitably.
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If we are unable to manage our transition to an operating
company effectively, our operating results will be adversely
affected.
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Our plan to develop relationships with strategic partners and
vendors may not be successful.
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If we fail to finalize important agreements or the final
agreements are unfavorable compared with what we currently
anticipate, the development of our business may be harmed in
ways which may have a material negative effect on our financial
performance.
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We may be unable to effectively implement new transaction
accounting, operational and financial systems.
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We are exposed to risks from recent legislation requiring
companies to evaluate internal control over financial reporting.
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Our future success is dependent on our existing key employees,
and hiring and assimilating new key employees, and our inability
to attract or retain key personnel in the future would
materially harm our business and results of operations.
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Constructing and equipping our Woodbridge facility may take
longer and cost more than we expect.
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We have little or no experience in the organic waste fertilizer
industries, which increases the risk of our inability to build
and operate our facilities.
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We will depend on contractors unrelated to us to build our
Woodbridge facility, and their failure to perform could harm our
business, and hinder our ability to operate profitably.
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We license technology from a third party, and our failure to
perform under the terms of the license could result in material
adverse consequences.
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The Enhanced Autothermal Thermophilic Aerobic
Digestion (EATAD) technology we will use to operate our
Woodbridge facility is unproven at the scale we intend to
operate.
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Our Woodbridge facility site may have unknown environmental
problems that could be expensive and time consuming to correct,
which may delay construction and delay our ability to generate
revenue.
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We may not be able to successfully operate our manufacturing
facilities.
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Our lack of business diversification may have a material
negative effect on our financial performance.
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We may not be able to manufacture our products in commercial
quantities or sell them at competitive prices.
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We may be unable to establish marketing and sales capabilities
necessary to commercialize and gain market acceptance for our
potential products.
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Pressure by our customers to reduce prices and agree to
long-term supply arrangements may adversely affect our net sales
and profit margins.
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The fertilizer industry is highly competitive, which may
adversely affect our ability to generate and grow sales.
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Defects in our products or failures in quality control could
impair our ability to sell our products or could result in
product liability claims, litigation and other significant
events with substantial additional costs.
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Energy and fuel cost variations could adversely affect operating
results and expenses.
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We may not be able to obtain sufficient organic material.
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Our agreement with the licensor of the technology we will use in
our Woodbridge facility restricts the territory into which we
may sell our planned products and grants a cooperative a right
of first refusal to purchase our products.
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Our fertilizer products will be sold under an unproven name.
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Successful infringement claims by third parties could result in
substantial damages, lost product sales and the loss of
important proprietary rights.
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Our license agreement imposes obligations on us related to
infringement actions that may become burdensome or result in
termination of our license agreement.
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Our High Temperature Liquid Composting (HTLC)
technology imposes obligations on us related to infringement
actions that may become burdensome.
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Development of our business is dependent on our ability to
obtain additional debt and equity financing which may not be
available on acceptable terms.
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We will need to obtain additional debt and equity financing to
complete subsequent stages of our business plan.
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Our agreements with our bond investors may hinder our ability to
operate our business by imposing restrictive loan covenants,
which may prohibit us from paying dividends or taking other
actions to manage or expand our business.
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Mandatory redemption of our bonds could have a material adverse
effect on our liquidity and cash reserves.
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The communities where our facilities may be located may be
averse to hosting waste handling and manufacturing facilities.
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Our facilities will require certain permits to operate, which we
may not be able to obtain or obtain on a timely basis.
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Changes in environmental regulations or violations of such
regulations could result in increased expense and could have a
material negative effect on our financial performance.
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Our strategic plan for the development and construction of
operating facilities in Rhode Island, Massachusetts and New York
requires additional debt
and/or
equity financing and working capital during the construction
period.
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The forward-looking statements are based on our beliefs,
assumptions and expectations of our future performance, taking
into account information currently available to us. These
beliefs, assumptions and expectations can change as a result of
many possible events or factors, including those events and
factors detailed in our filings with the Securities and Exchange
Commission, not all of which are known to us. Neither we nor any
other person assumes responsibility for the accuracy or
completeness of these statements. We will update this report
only to the extent required under applicable securities laws. If
a change occurs, our business, financial condition, liquidity
and results of operations may vary materially from those
expressed in our forward-looking statements.
For further information about these risks, uncertainties and
factors, please review the disclosure included in this report
under the caption Description of Business Risk
Factors.
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ITEM 1.
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DESCRIPTION
OF BUSINESS
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Company
History
Converted Organics Inc. is transitioning from a development
stage company (first reported revenues were in February
2008) to a fully operational company that seeks to
construct processing facilities that will use food waste as raw
material to manufacture all-natural soil amendment products
combining nutritional and disease suppression characteristics.
In addition to our sales in the agribusiness market, we plan to
sell and distribute our products in the turf management and
retail markets. We have obtained a long-term lease for a site in
a portion of an industrial building in Woodbridge, New Jersey
that the landlord is modifying and that we will equip as our
first internally constructed organic waste conversion facility
(the Woodbridge facility). We currently have no
operations at the Woodbridge facility, and do not expect to
generate any revenue until the facility is completely
operational, which the Company expects to occur in the second
quarter of 2008. On January 24, 2008, we acquired the
operating facility in Gonzales, California of United Organic
Products of California (UOP), which facility is
operational and began to generate revenue for us in February
2008 (the Gonzales facility). Also, on
January 24, 2008, we acquired the technology of Waste
Recovery Industries, LLC (WRI), which technology
will allow us to operate future facilities using our own
technology rather than licensing technology from a third party.
In addition, we have an option on a long-term lease for a
facility in Rhode Island. Construction has not yet begun at the
Rhode Island location and is not expected to commence until some
time in the future and is dependent upon obtaining appropriate
financing.
We were incorporated under the laws of the state of Delaware in
January 2006. In February 2006, we merged with our predecessor
organizations, Mining Organics Management, LLC (MOM)
and Mining Organics Harlem River Rail Yard, LLC
(HRRY), in transactions accounted for as a
recapitalization. These predecessor organizations provided
initial technical and organizational research that led to the
foundation of the current business plan.
On February 16, 2007, the Company successfully completed an
initial public offering of stock and successfully completed a
bond offering with the New Jersey Economic Development
Authority. The net proceeds of the stock offering of
$8.9 million, together with the net proceeds of the bond
offering of $16.5 million, are being used to develop and
construct the Woodbridge facility, fund the Companys
marketing and administrative expenses during the construction
period and fund specific principal and interest reserves
specified in the bond offering. Of the total net proceeds of the
stock and bond offerings of $25.4 million,
$14.6 million will be used in the construction of the
Woodbridge facility and the remaining $10.8 million has
been or will be used for items mentioned above. The Company
believes that the $14.6 million available for the
construction of the Woodbridge facility, together with an
additional $4.6 million in lease financing from the
landlord, will provide sufficient capital to complete the
construction of the facility as it was originally planned. The
additional monthly rent to repay the $4.6 million in lease
financing is expected to be generated from operations once the
facility is complete, and will not be paid from the proceeds of
the initial public offering of stock or the New Jersey
Development Authority bonds. As of March 26, 2008, we have
committed an additional $1.5 million for upgrades to the
Woodbridge facility to allow us to produce additional products
for sale in the retail markets. We feel that the additional
sales associated with these upgrades will improve the return on
our investment.
Prior to February 16, 2007, the Company borrowed
approximately $2.3 million in bridge loans, term loans and
demand loans, the proceeds of which were used to fund operations
and research and development costs during 2006. During 2007, all
but $375,000 of the bridge loans, term loans and demand loans
were repaid by the Company from unrestricted cash. In May 2007,
we reached agreements with the bridge lenders and the demand
note lender to repay the entire principal and accrued interest
on these debts. Pursuant to these agreements, the principal of
the bridge loan of $1,515,000, plus accrued interest of
approximately $160,000, along with principal of the demand loan
of $150,000, plus accrued interest of approximately $7,000, were
repaid from unrestricted cash. In addition, for the various term
extensions granted by the bridge lenders, we issued
approximately 56,000 shares of common stock, which
represents 10% of the principal and interest repaid divided by
the five-day
average share price prior to repayment of the debt. The
statement of operations for the year ended December 31,
2007 reflects an expense of $178,048 related to the issuance of
these shares.
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In order for the repayment of bridge and demand loans to comply
with the terms of the covenants of the bondholders of the New
Jersey Economic Development Authority bonds, the bridge lender
had obtained a letter of credit in favor of the Company for
$1,825,000. This letter of credit had an expiration date of
April 9, 2008, and allowed for a one-time draw down during
the thirty days prior to expiration. On January 24, 2008,
as a result of debt financing described below, we terminated
this letter of credit with no funds being drawn down and there
was no interest paid or common stock issued by us in connection
with this letter of credit facility.
In May 2007, we also reached agreements with our two term note
lenders to extend the maturity dates of these loans to
December 31, 2008. The outstanding balances on these term
loans as of December 31, 2007 were $250,000 and $125,000.
Among other terms, the agreement on one of these loans required
accrued interest of $89,170 to be paid immediately. As we were
precluded under the terms of the agreement with the bondholders
of the New Jersey Economic Development Authority bonds from
paying the accrued interest from operating funds, we borrowed
funds to repay this accrued interest by entering into an
additional term loan in the amount of $89,170 with our CEO,
Edward J. Gildea. This note is unsecured and subordinate to the
bonds, carries an interest rate of 12% and has a two-year term.
This interest rate is equal to or less than the interest paid on
our other term loans. We obtained the necessary bondholder
consents to enter into this agreement.
On January 24, 2008, we acquired the assets, including the
intellectual property, of WRI. This acquisition makes us the
exclusive owner of the proprietary technology and process known
as the High Temperature Liquid Composting (HTLC)
system, which processes various biodegradable waste products
into liquid and solid organic-based fertilizer and feed
products. The purchase price of $500,000 was paid with a 7%
short-term note that matures on May 1, 2008. Interest on
that note is payable monthly. In addition, the purchase
agreement provides for a technology fee payment of $5,500 per
ton of waste-processing capacity that is added to plants that
were not planned at the time of this acquisition and that use
this new technology. The per-ton fee is not payable on the
Woodbridge facility, the facility that is being planned in Rhode
Island, or the Gonzales facility acquired in the acquisition or
the currently planned addition thereto, except to the extent
that capacity is added to the Gonzales facility in the future.
Also, the purchase agreement provides that if we decide to
exercise our right, obtained in the WRI acquisition, to enter
into a joint venture with Pacific Choice Seafood Company for the
development of a fish waste-processing plant (the Eureka
plant), the Company will pay 50% of the Companys net
profits earned from this plant. Combined payments of both the
$5,500 per ton technology fee and the profits paid from the
Eureka plant, if any, is capped at $7.0 million with no
minimum payment required. The license allows us to utilize the
proprietary technology and process in all of our future waste to
fertilizer facilities and allows us to produce product using our
own technology.
Also, on January 24, 2008, we acquired the net assets of
UOP, which was under common ownership with WRI. With this
acquisition, we acquired a leading liquid fertilizer product
line, as well as a state-of-the-art production facility that
services a strong West coast agribusiness customer base through
established distribution channels. This facility is operational
and began to generate revenues for us in February 2008. The
purchase price of $2,500,000 was paid in cash of $1,500,000 and
notes payable of $1,000,000. The note matures on
February 1, 2011, has an interest rate of 7%, payable
monthly in arrears, and is convertible to our common stock six
months after the acquisition date for a price equal to the
average closing price of the stock on Nasdaq for the five days
preceding conversion.
Also, on January 24, 2008, we entered into a private
financing with three investors (the Investors) for a
total amount of $4,500,000 (the Financing). The
Financing was offered at an original issue discount of 10%. We
used the proceeds to fund the acquisitions described above, to
fund further development activities and to provide working
capital. As consideration for the Financing, the Investors
received a note issued by us in the amount of $4,500,000 with
interest accruing at 10% per annum to be paid monthly and the
principal balance to be paid in full one year from the closing
date (the Note). In addition, we issued to the
Investors 750,000 Class A Warrants and 750,000 Class B
Warrants, which may be exercised at $8.25 and $11.00 per warrant
share, respectively (the Warrants). We further
agreed not to call any Warrants until a registration statement
registering all of the Warrants is declared effective. A
placement fee of $225,000 was paid from the proceeds of this
loan.
In connection with the Financing, we have agreed that within
75 days of the closing date, we will have a shareholder
vote to seek approval to issue a convertible debenture with an
interest rate of 10% per annum which would be convertible into
common stock pursuant to terms of the debenture agreement, or
such other price as
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permitted by the debenture (the Convertible
Debenture). Upon shareholder approval, the Note will be
replaced by this Convertible Debenture and one half of each of
the Class A Warrants and of the Class B Warrants
issued will be returned to us. Under the conversion option, the
Investors shall have the option, at any time on or before
maturity date (January 24, 2009), to convert the
outstanding principal of this Convertible Debenture into fully
paid and non assessable shares of common stock at the rate per
share equal to the lowest of (i) the fixed conversion price
of $6.00 per share, (ii) the lowest fixed conversion
price (the lowest price, conversion price or exercise price set
by us in any equity financing transaction, convertible security,
or derivative instrument issued after January 24, 2008), or
(iii) the default conversion price (if and so long as there
exists an event of default, then 70% of the average of the three
lowest closing prices of common stock during the twenty day
trading period immediately prior to the notice of conversion).
We have scheduled a special shareholders meeting on
April 3, 2008 to vote on this matter which is contingent
until resolution on that date.
In connection with the Financing, we entered into a Security
Agreement with the Investors whereby we granted the Investors a
security interest in Converted Organics of California, LLC and
any and all assets that are acquired by the use of the funds
from the Financing. In addition, we also granted the Investors a
security interest in Converted Organics of Woodbridge, LLC and
all assets subordinate only to the current lien held by the
holder of the bonds issued in connection with the Woodbridge
facility of approximately $17,500,000.
A registration statement covering the Warrants and the common
stock underlying the Warrants relating to the Financing was
filed on February 14, 2008. As of March 26, 2008, the
registration statement had not been declared effective by the
Securities and Exchange Commission. The Company also entered
into a Security Agreement with the Investors whereby the Company
granted the Investors a security interest in our wholly owned
subsidiary, Converted Organics of California, LLC, and all
assets that are acquired by the use of the funds from the
Financing. In addition, the Company granted the Investors a
security interest in our wholly owned subsidiary, Converted
Organics of Woodbridge, LLC, and all assets subordinate only to
the current lien held by the holder of the current debt issued
in connection with the Woodbridge facility of approximately
$17,500,000.
Pro Forma
Financial Information
On January 24, 2008, the Company acquired all of the net
assets of United Organics Products, LLC (UOP) and
Waste Recovery Industries, LLC (WRI) for $2,500,000
and $500,000, respectively, as noted above. The acquisitions
will be accounted for in the first quarter of fiscal 2008 using
the purchase method of accounting in accordance with
SFAS No. 141, Business Combinations.
Accordingly, the net assets will be recorded at their estimated
fair values, and operating results will be included in our
consolidated financial statements from the date of acquisition.
The purchase price will be allocated on a preliminary basis
using information currently available. The allocation of the
purchase price to the assets and liabilities acquired will be
finalized no later than the first quarter of fiscal 2008, as we
obtain more information regarding asset valuations, liabilities
assumed and revisions of preliminary estimates of fair values
made at the date of purchase.
The pro forma consolidated financial information for the years
ended December 31, 2007 and December 31, 2006 as
though the acquisitions had been completed at the beginning of
the respective periods is as follows:
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December 31, 2007
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December 31, 2006
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Revenues (in thousands)
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$
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1,423
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$
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2,720
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Net loss (in thousands)
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(4,360
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(3,651
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Net loss per share basic and diluted
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(1.25
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(2.98
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Current assets (in thousands)
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3,219
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403
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Total assets (in thousands)
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23,262
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2,971
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Current liabilities (in thousands)
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(3,947
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)
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(4,969
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)
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Total liabilities (in thousands)
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(21,536
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(5,225
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Total equity (deficit) (in thousands)
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1,726
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(2,254
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)
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5
Our
Revenue Sources
Our revenue will come from two
sources: tip fees and product sales.
Waste haulers will pay the tip fees to us for accepting food
waste generated by food distributors such as grocery stores,
produce docks, fish markets and food processors, and by
hospitality venues such as hotels, restaurants, convention
centers and airports. Revenue will also come from the customers
who purchase our products. Our planned products will possess a
combination of nutritional, disease suppression and soil
amendment characteristics. The products will be sold in both dry
and liquid form and will be stable with an extended shelf life
compared to other organic fertilizers. Among other uses, the
liquid product is expected to be used to mitigate powdery
mildew, a leaf fungus that restricts the flow of water and
nutrients to the plant. These products can be used either on a
stand-alone basis or in combination with more traditional
petrochemical-based fertilizers and crop protection products.
Based on growth trial performance, increased environmental
awareness, trends in consumer food preferences and
company-sponsored research, we believe our products will have
substantial demand in the agribusiness, turf management and
retail markets. We also expect to benefit from increased
regulatory focus on organic waste processing and on
environmentally friendly growing practices.
Our
Woodbridge Facility
Converted Organics of Woodbridge, LLC, a New Jersey limited
liability company and wholly owned subsidiary of the company,
was formed for the purpose of owning, constructing and operating
the Woodbridge facility.
We have entered into a
10-year
lease with a
10-year
option to renew for approximately 60,000 square feet of
space in a portion of an existing building. The existing
building is being upgraded to accommodate the conversion process
and to house our processing equipment. The property has been
surveyed and does not lie within any special flood hazard area.
Our process engineer, Weston Solutions, Inc., has completed the
design for the Woodbridge facility. We have entered into
guaranteed maximum price contracts with construction, mechanical
and electrical contractors to build the processing facility. A
guaranteed maximum price contract is a contract to construct the
facility that is guaranteed by a bond obtained by the contractor.
We have entered into an agreement on November 15, 2006 with
Royal Waste Services, Inc. of Hollis, New York to provide up to
200 tons of organic food waste per day to the facility. We have
also had discussions with several other solid waste-hauling
companies and numerous waste generators regarding additional
feedstock for the facility. The facility will receive feedstock
by truck over local roads. The fertilizer products produced at
the facility are expected to be delivered by truck and rail to
customers.
Our conversion process has been approved for inclusion in the
Middlesex County and New Jersey State Solid Waste Management
Plan. We have been granted our Class C recycling permit,
which is the primary environmental permit for this project. The
remaining required permits are primarily those associated with
the construction and operation of any manufacturing business.
The facility is expected to use significant amounts of
electricity, natural gas and steam. We expect to use the
services of an energy management firm to purchase natural gas
and electricity, and water will be provided by the Town of
Woodbridge. Wastewater will be discharged by permit into the
local sewage system.
Our Woodbridge facility will receive raw material from the New
York-Northern New Jersey metropolitan area. It is located near
the confluence of two major highways in northern New Jersey,
providing efficient access for the delivery of feedstock from
throughout this geographic area. This facility has been approved
for inclusion in the Middlesex County and New Jersey State Solid
Waste Management Plans. When fully operational, the Woodbridge
facility is expected to process approximately 78,000 tons of
organic food waste and produce approximately 7,500 tons of
dry product and 6,700 tons of liquid concentrate annually.
6
Our
Gonzales Facility
On January 24, 2008, we acquired the Gonzales facility
which is currently producing 25 tons per day of liquid organic
fertilizer. We expect to produce 50 tons per day upon completion
of upgrades to the facility, at which time both liquid and dry
product will be produced. We expect to continue to operate the
Gonzales facility while the plant upgrades take place. We
anticipate that all upgrades will be completed by the end of the
third quarter of 2008. Converted Organics of California, LLC, a
California limited liability company and wholly owned subsidiary
of the Company, was formed for the purpose of owning, upgrading
and operating the Gonzales facility.
On January 24, 2008, we have entered into a 10-year lease
for land in Gonzales, California, where our Gonzales facility is
located. The land is leased from Valley Land Holdings, LLC
(VLH), a California LLC whose sole member is
Executive Vice President, Chief Technology Officer and a
Director of Converted Organics Inc. The lease provides for a
monthly rent of $9,000. The lease is also renewable for three
5-year terms
after the expiration of the initial
10-year
term. In addition, we own the Gonzales facility and the
operating equipment used in the facility. VLH has been
determined to be a variable interest entity of UOP in prior
years as UOP was the primary beneficiary of that variable
interest entity. We are in the process of evaluating if VLH is a
variable interest entity of the Company as of January 24,
2008. VLHs assets and liabilities consist primarily of
land and a mortgage note payable on the land. Its operations
consist of rental income on the land from us and related
operating expenses.
Future
Expansion of Business
In addition to our Gonzales and Woodbridge facilities, our
strategic plan calls for the development and construction of
facilities in Rhode Island, Massachusetts and New York. We
currently are planning to operate these new facilities using the
technology that we acquired in our acquisition of WRI. We
anticipate that we will be able to use much of the engineering
and design work used in our Gonzales facility.
In each of our contemplated locations, we have:
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Engaged a local businessperson well acquainted with the
community to assist us in the permitting process and development
of support from community groups;
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Participated in numerous meetings with state, county and local
regulatory bodies as well as environmental and economic
development authorities; and
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Identified potential facility sites.
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As new facilities commence production, we also anticipate we
will achieve economies of scale in marketing and selling our
fertilizer products as the cost of these activities is spread
over a larger volume of product. As the overall volume of
production increases, we also believe we may be able to more
effectively approach larger agribusiness customers who may
require larger quantities of fertilizer to efficiently utilize
their distribution systems.
To date, we have undertaken the following activities in the
following markets to prepare to develop additional facilities:
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In Rhode Island, we have proposed construction of a 10,000-ton
per year manufacturing facility to service the entire Rhode
Island market. We are working with the Rhode Island Resource
Recovery Corporation (the RIRRC), the agency
responsible for managing solid waste in the state, to build a
facility on a state-owned and operated landfill, thereby greatly
reducing the time associated with permitting and construction.
The RIRRC has reviewed the technology we have licensed and has
included it as an option in the 2006 update to its solid waste
plan. On January 15, 2008, we announced that we had
executed an option to lease with the RIRRC to possibly build an
organic fertilizer facility in Johnston, Rhode Island. We are
negotiating a term sheet with the RIRRC for a facility and hope
to reach an agreement during the second quarter of 2008. The
Company has not yet secured the necessary permits or financing
to construct this facility.
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In Massachusetts, we have performed initial development work in
connection with construction of a proposed 15,000-ton per year
manufacturing facility to serve the eastern Massachusetts
market. Our
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proposal to develop this facility is currently under review by
the property owner. The Massachusetts Strategic Envirotechnology
Partnership Program has completed a favorable review of our
technology.
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In New York City, we have proposed construction of a 15,000-ton
per year manufacturing facility in the South Bronx to service
the New York City market. We have held discussions with both the
New York City Department of Environmental Protection and the New
York State Department of Environmental Conservation.
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Conversion
Process
The process to be used in the Woodbridge facility to convert
food waste into our solid and liquid fertilizer products is
based on technology called Enhanced Autothermal
Thermophilic Aerobic Digestion (EATAD). The
EATAD process was developed by International Bio-Recovery
Corporation (IBRC), a British Columbia company that
possesses technology in the form of know-how integral to the
process and that has licensed to us their technology for organic
waste applications in the metropolitan New York and Northern New
Jersey area. In simplified terms, EATAD means that once the
prepared foodstock is heated to a certain temperature, it
self-generates additional heat (autothermal), rising to very
high, pathogen-destroying temperature levels (thermophilic).
Bacteria added to the feedstock use vast amounts of oxygen
(aerobic) to convert the food waste (digestion) to a rich blend
of nutrients and single cell proteins. Foodstock preparation,
digestion temperature, rate of oxygen addition, acidity and
inoculation of the microbial regime are carefully controlled to
produce products that are highly consistent from batch to batch.
The products we plan to manufacture using our process will be
positioned as:
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A stand-alone fertilizer with plant nutrition, disease
suppression and soil enhancements (amendment) benefits. The
solid and liquid forms have a nutrient composition of
approximately 3% nitrogen, 2% phosphorous and 1% potassium
(3-2-1 NPK); or
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A blend to be added to conventional fertilizers and various soil
enhancements to improve the soil as required by the end users.
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The efficacy of our products has been demonstrated both in
university laboratories and multi-year growth trials funded by
us and by IBRC. These field trials have been conducted on more
than a dozen crops including potatoes, tomatoes, squash,
blueberries, grapes, cotton and turf grass. The results of these
trials are available to shareholders at no charge by contacting
us at 7A Commercial Wharf West, Boston, Massachusetts 02110.
While these studies have not been published, peer-reviewed or
otherwise subject to third-party scrutiny, we believe the trials
and other data show our solid and liquid products produced using
the EATAD process will have several valuable attributes:
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Plant nutrition. Historically, growers have
focused on the nitrogen (N), phosphorous (P) and potassium
(K) content of fertilizers. As agronomists have gained a
better understanding of the importance of soil culture, they
have turned their attention to humic and fulvic acids,
phytohormones and other micronutrients and growth regulators not
present in petrochemical-based fertilizers. Our products will
have NPK content of approximately 3-2-1 and will be rich in
micronutrients. Both products can be modified or fortified to
meet specific user requirements.
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Disease suppression. Based on field trials
using product produced by the licensed technology, we believe
our products will combine nutrition with disease suppression
characteristics to eliminate or significantly reduce the need
for fungicides and other crop protection products. The
products disease suppression properties have been observed
under controlled laboratory conditions and in documented field
trials. We also have other field reports that have shown the
liquid concentrate to be effective in reducing the severity of
powdery mildew on grapes, reducing verticillium pressure on
tomatoes and reducing scab in potatoes.
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Soil amendment. As a result of its
slow-release nature, our dry fertilizer product increases the
organic content of soil, improving granularity and water
retention and thus reducing NPK leaching and run-off.
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Pathogen-free. Due to high processing
temperatures, our products are virtually pathogen-free and have
extended shelf life.
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Nexant ChemSystems, Inc., a process engineering and strategic
marketing research firm, evaluated our products projected
economic yield the market value of the crop less the
costs of production to the end user and concluded
based on review of various growth trials that the economic yield
of crops grown with fertilizer produced by IBRC using the EATAD
process increased by an average of 11% with respect to the
liquid product and 16% with respect to the dry product compared
with control groups. With respect to cotton, potatoes and
blueberries, economic yield increased by 16%, 19% and 30%,
respectively, compared with control groups.
We plan to apply to the U.S. Department of Agriculture (the
USDA) and various state agencies to have our
products produced by the EATAD process to be labeled as an
organic fertilizer or separately as an organic fungicide. We
expect organic labeling, if obtained, to have a significant
positive impact on pricing. Unlike many organic fertilizers, our
products will be fully converted during the EATAD process and
therefore have consistent quality, be stable, odor-free and
convenient for storage and shipping. They will also have a
relatively high nutrient content and will be free of pathogens.
Our products will be positioned for the commercial market as a
fertilizer supplement or as a material to be blended into
traditional nutrition and disease suppression applications.
In January 2008, we acquired the assets, including the
intellectual property, of WRI. This acquisition makes us the
exclusive owner of the proprietary technology and process known
as the High Temperature Liquid Composting (HTLC)
system, which processes various biodegradable waste products
into liquid and solid organic-based fertilizer and feed
products. The liquid fertilizer produced at our Gonzales
facility is labeled as an organic fertilizer. The HTLC
technology is now used in our Gonzales facility and can be used
in all of our future operating plants, except the Woodbridge
facility which is licensed to use the EATAD technology and any
future facility in the New York City metropolitan area. As
exclusive owner of the HTLC technology, we expect to achieve the
same or better operating results as we would with the licensed
EATAD technology at a lower operating cost. Pursuant to the
terms of the acquisition of the assets of WRI, we pay a fee for
each ton of additional capacity added to our current or planned
expansion. We anticipate that over time this fee will be less
than the royalty expense paid for use of the licensed EATAD
technology.
Marketing
and Sales
Target
Markets
The concern of farmers, gardeners and landscapers about nutrient
runoffs, soil health and other long-term effects of conventional
chemical fertilizers has increased demand for organic
fertilizer. We have identified three target markets for our
products:
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Agribusiness: horticulture, hydroponics and
aquaculture;
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Turf management: golf courses, sod farms and
commercial, institutional and government facilities; and
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Retail sales: home improvement outlets, garden
supply stores, nurseries, Internet sales and shopping networks.
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Agribusiness: Today, the focus is on reducing
the use of chemical products and at the same time meeting the
demand for cost-effective, environmentally responsible
alternatives. This change in focus is the result of:
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Consumer demand for safer, higher quality food;
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The restriction on use of registered chemical products. Several
U.S. government authorities, including the Environmental
Protection Agency, the Food and Drug Administration, and the
USDA regulate the use of fertilizers. There are more than 14
separate regulations governing the use of fertilizers;
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Environmental concerns and the demand for sustainable
technologies;
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Demand for more food for the growing world population; and
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The cost effectiveness and efficacy of non-chemical based
products to growers.
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Consumer demand for organic food products increased throughout
the 1990s to date at approximately 20% or more per annum.
In the wake of USDAs implementation of national organic
standards in October 2002, the organic food industry has
continued to grow. According to the Nutrition Business Journal,
annual sales of organic foods
9
have expanded almost four-fold from $3.6 billion in 1997 to
2005 and averaged annual growth of 19.4% over the six-year
period of 1998 to 2003. Organic foods were 61% of the
$22.8 billion natural and organic foods market and 2.5% of
the $557 billion U.S. foods market (excluding food
service) in 2005, up from a penetration rate of 0.8% of the
U.S. food market in 1997.
Farmers are facing pressures to change from conventional
production practices to more environmentally friendly practices.
U.S. agricultural producers are turning to certified
organic farming methods as a potential way to lower production
costs, decrease reliance on nonrenewable resources such as
chemical fertilizers, increase market share with an
organically grown label and capture premium prices,
thereby boosting farm income.
Turf management: We believe golf courses will
continue to reduce their use of chemicals and chemical-based
fertilizers to limit potentially harmful effects, such as
chemical fertilizer runoff. The United States Golf Association
(USGA) provides guidelines for effective
environmental course management. These guidelines include using
nutrient products and practices that reduce the potential for
contamination of ground and surface water. Strategies include
using slow-release fertilizers and selected organic products and
the application of nutrients through irrigation systems.
Further, the USGA advises that the selection of chemical control
strategies should be utilized only when other strategies are
inadequate. We believe that our all-natural, slow-release
fertilizer products will be well received in this market.
Retail sales: According to The Freedonia
Group, a business research company, the $6 billion US
market for packaged lawn and garden consumables will grow 4.5%
in 2008. Fertilizers, mulch and growing media will lead gains,
especially rubber mulch, colored mulch and premium soils. The
growth of organic consumables is expected to be nearly double
the rate of growth of conventional products but remain a small
segment.
Product
Sales and Distribution
Products manufactured at our Woodbridge facility may be sold
under the names Genica SG-100 for the solid fertilizer and
Genica LC-200 for the liquid fertilizer, if we join a proposed
marketing cooperative described in the two paragraphs below. Our
license with IBRC restricts the sale of products from this
facility to the Eastern Seaboard states, including Maine, New
Hampshire, Vermont, Massachusetts, Rhode Island, Connecticut,
New York, New Jersey, Pennsylvania, Delaware, Maryland,
Virginia, District of Columbia, North Carolina, South Carolina,
Georgia and Florida.
We plan to sell and distribute our products by creating a sales
organization or joining the proposed marketing cooperative. Our
sales organization will target large purchasers of fertilizer
products for distribution in our target geographic and product
markets. Key activities of the sales organization will include
introduction of the Company and our products and the development
of relationships with targeted clients. In addition, we have had
preliminary discussions with manufacturers representatives
to explore sales of our products in appropriate retail outlets.
IBRC is planning to form a marketing cooperative called Genica
which is proposed to support IBRCs plant licensees. Genica
is designed to serve as the marketing, sales, distribution,
research and development organization for products produced
using the IBRC technology. As a plant licensee, we are eligible
to join Genica. The cooperative may offer several strategic
advantages and would allow us to sell our end products through
proposed marketing, sales and distribution channels. If we join,
we expect to benefit from research and development functions
performed by the cooperative as well as from what IBRC has
accomplished in the past.
Our Gonzales and future plants will not be subject to these
territory or cooperative restraints as they may operate using
the HTLC technology that we acquired from WRI.
In order to develop a consistent sales and distribution
strategy, we have hired a seasoned professional to serve as Vice
President of Sales. In addition, with our acquisition of UOP, we
have retained the services of employees who are currently
selling product into the agribusiness market.
Environmental
Impact of Our Business Model
Organic food waste, the raw material of our manufacturing
process, comes from a variety of sources. Prior to preparation,
food must be grown or raised, harvested, packaged, shipped,
unpacked, sorted, selected and
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repackaged before it finds its way into markets, restaurants or
home kitchens. Currently, this process creates a large amount of
food waste, particularly in densely populated metropolitan areas
such as New York City, Northern New Jersey, and Eastern
Massachusetts. Traditionally, the majority of food waste is
disposed of in either landfills or incinerators that do not
produce a product from this recyclable resource. We intend to
use a demonstrated technology that is environmentally benign to
convert waste into valuable all-natural soil amendment products.
Food waste comprises 15 to 20% of the nations waste
stream. Disposing of or recycling food waste should be simple,
since organic materials grow and decompose readily in nature.
However, the large volumes of food wastes generated in urban
areas combined with a lack of available land for traditional
recycling methods, such as composting, make disposal of food
wastes increasingly expensive and difficult. Landfill capacity
is a significant concern, particularly in densely populated
areas. In addition, landfills may create negative environmental
effects including liquid wastes migrating into groundwater,
landfill gas, consumption of open space, and air pollution
associated with trucking waste to more remote sites. The
alternative of incineration may produce toxic air pollutants and
climate-changing gases, as well as ash containing heavy metals.
Incineration also fails to recover the useful materials from
organic wastes that can be recycled. Traditional composting is a
slow process that uses large tracts of land, may generate
offensive odors, and may attract vermin. In addition, composting
usually creates an inconsistent product with lower economic
value than the fertilizer products we will produce.
Our proposed process occurs in enclosed digesters
housed within a building that will use effective emissions
control equipment, resulting in minimal amounts of dust, odor,
and noise. By turning food waste into a fertilizer product using
an environmentally benign process, we anticipate that we will be
able to reduce the total amount of solid waste that goes to
landfills and incinerators, which may in turn reduce the release
of greenhouse gases such as methane and carbon dioxide.
The following table summarizes some of the advantages of our
proposed process compared with currently available methods
employed to dispose of organic food waste:
Comparison
of Methods for Managing Food Waste
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Method
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Environmental Impacts
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Products
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Landfilling
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Loss of land
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Landfill gas (minimal energy generation at some landfills)
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Groundwater threat
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Methane gas
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Air pollution from trucks
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Useful materials not recycled
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Undesirable land use
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Incineration
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Air pollution
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Electricity (only at some facilities)
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Toxic emissions
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Useful materials not recycled
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Disposal of ash still required
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Composting
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Groundwater threat
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Low value compost
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Odor
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Vermin
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Slow takes weeks
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Substantial land required
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Converted Organics
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No air pollution or solid waste
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Natural fertilizer
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No harmful by-products
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Removal of waste from waste stream
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Consumption of electricity and natural gas
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Discharge of treated wastewater into sewage system
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Environmental regulators and other governmental authorities in
our target markets have also focused more recently on the
potential benefits of recycling increased amounts of food waste.
For example, the New Jersey
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Department of Environmental Protection (the NJDEP)
estimates nearly 1.5 million tons, or just over 15% of the
states total waste stream, is food waste, but in 2003,
only 221,000 tons were recycled. The 2005 NJDEP Statewide Solid
Waste Management Plan focuses particularly on the food
waste recycling stream as one of the most effective ways
to create significant increases in recycling tonnages and rates.
In New York, state and local environmental agencies are taking
measures to encourage the diversion of organics from landfills
and are actively seeking processes consistent with health and
safety codes. The goal is to further reduce the amount of waste
going to landfills and other traditional disposal facilities,
particularly waste that is hauled great distances, especially in
densely populated areas in the Northeast. In 2005, the RIRRC
began an examination of the bulk food waste processing
technology of our technology licensor to determine whether using
our licensed technology would be economically feasible,
cost-effective, practicable, and an appropriate application in
Rhode Island. The RIRRC completed its review and included the
technology in their 2006 Solid Waster Master Plan. In
Massachusetts, the State Solid Waste Master Plan has also
identified a need for increased organics-processing capacity
within the state and has called for a streamlined regulatory
approval path.
IBRC
License
Pursuant to a know-how license agreement dated July 15,
2003, as amended, IBRC granted us an exclusive license for a
term of 40 years to use its proprietary EATAD technology
for the design, construction and operation of facilities within
a 31.25 mile radius from City Hall in New York City for the
conversion of organic waste into solid and liquid organic
material. The license permits us to use the technology at our
Woodbridge facility site; restricts the ability of IBRC and an
affiliated company, Shearator Corporation, to grant another
know-how or patent license related to the EATAD technology
within the exclusive area; and restricts our ability to
advertise or contract for a supply of organic waste originating
outside the same exclusive area. The licensed know-how relates
to machinery and apparatus used in the EATAD process.
The Company is obligated to pay IBRC an aggregate royalty equal
to nine percent of the future gross revenues from the sale of
product produced by the Woodbridge facility. The license
agreement containing this royalty provision may be terminated at
IBRCs option, if the Company does not commence continuous
operations at the Woodbridge facility, as defined in the license
agreement, by July 1, 2008. The Company is also obligated
to purchase IBRCs patented macerators and shearators, as
specified by or supplied by IBRC or Shearator Corporation for
use at the Woodbridge facility.
In addition, the Company paid $139,978 to IBRC in 2007 for a
non-refundable deposit on a second plant licensing agreement.
The Company also agreed to pay IBRC approximately $245,000 in
twelve equal monthly installments for market research, growth
trails and other services. As of December 31, 2007, the
Company had paid approximately $143,000 of this amount which has
been included in research and development in the Companys
consolidated statements of operations.
The license agreement restricts the sale of products from the
facilities covered by the license to the Eastern Seaboard. Also,
pursuant to the license agreement, we have granted a proposed
cooperative called Genica, which has yet to be formed and of
which IBRC will be a member, a right of first refusal to market
all of our products in accordance with the terms and upon
payment to us of the price listed on our then current price
list. If we propose to sell end products to a third party for a
price lower or otherwise on terms more favorable than such
published price and terms, Genica also has a right of first
refusal to market such products on the terms and upon payment to
us of the price proposed to the third party. The license
agreement does not specify the duration of such rights.
This IBRC license is in effect for our Woodbridge facility. Our
Gonzales facility operates under different technology (HTLC)
that we acquired in our acquisition of WRI. We also intend to
use this HTLC technology in the construction of future operating
plants outside of the New York metropolitan area.
Competition
We believe we will be operating in a very competitive
environment in our businesss three dimensions
organic wastestream feedstock, technology and end
products each of which is quickly evolving. We
believe we will nevertheless be able to compete effectively
because of the abundance of the supply of food waste in our
proposed geographic markets, the pricing of our tip fees and the
quality of our proposed products and technology.
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Organic Wastestream. Competition for the
organic waste stream feedstock includes landfills, incinerators
and traditional composting operations. Organic waste streams are
generally categorized as pre- and post-consumer food waste, lawn
and garden waste, and bio-solids, including sewage sludge or the
by-product of wastewater treatment. Some states, including New
Jersey, have begun to regulate the manner in which food waste
may be composted. New Jersey has created specific requirements
for treatment in tanks, and we believe our Woodbridge facility
will be the first approved in-vessel processing facility in the
state. In Massachusetts, state regulators are considering a ban
on the disposal of organic materials at landfills and
incinerators once sufficient organic processing capacity exists
within the state, which if adopted would provide a competitive
advantage for our process.
Technology. There are a variety of
technologies used to treat organic wastes including composting,
digestion, hydrolysis and thermal processing. Companies using
these technologies may compete with us for organic material.
Composting is a natural process of decomposition that can be
enhanced by mounding the waste into windrows to retain heat,
thereby accelerating decomposition. Large-scale compost
facilities require significant amounts of land for operations
that may not be readily available or that may be only available
at significant cost in major metropolitan areas. Given the
difficulties in controlling the process or the consistent
ability to achieve germ-killing temperatures, the resulting
compost is often inconsistent and generally would command a
lower market price than our product.
Digestion may be either aerobic, like the EATAD process, or
anaerobic. Anaerobic digestion is, in simple terms, mechanized
in-vessel composting. In addition to compost, most anaerobic
digestion systems are designed to capture the methane generated.
While methane has value as a source of energy, it is generally
limited to
on-site use,
as it is not readily transported.
Hydrolysis is an energy-intensive chemical process that produces
a by product, most commonly ethanol. Thermal technologies
extract the Btu content of the waste to generate electricity.
Food waste, which is typically
75-90%
water, is generally not a preferred feedstock. Absent
technological breakthroughs, neither hydrolysis nor thermal
technologies are expected to be accepted for organic food waste
processing on a large-scale in the near term.
End Products. The organic fertilizer business
is relatively new, highly fragmented, under-capitalized and
growing rapidly. We are not aware of any dominant producers or
products currently in the market. There are a number of single
input, protein-based products, such as fish, bone and cottonseed
meal, that can be used alone or mixed with chemical additives to
create highly formulated fertilizer blends that target specific
soil and crop needs. In this sense they are similar to our
products but have odor, stability and shelf life or seasonality
problems.
Most of the 50 million tons of fertilizer consumed annually
in North America is mined or derived from petroleum. These
petroleum-based products generally have higher nutrient content
(NPK) and cost less than organic fertilizers. However, as
agronomists better understand how soil, root and stem/leaf
systems interact, the importance of micronutrients is more
highly valued. Petrochemical additives have been shown to deaden
the soil, which ironically contributes to higher nutritional
requirements. Traditional petrochemical fertilizers are highly
soluble and readily leach from the soil. Slow release products
that are coated or specially processed command a premium.
However, the economic value offered by petrochemicals,
especially for field crops including corn, wheat, hay and
soybeans, will not be supplanted in the foreseeable future.
Despite a large number of new products in the end market, we
believe that our products have a unique set of characteristics.
Positioning and branding the combination of nutrition and
disease suppression characteristics will differentiate our
products from other organic fertilizer products to develop
market demand, while maintaining or increasing pricing. In view
of the barriers to entry created by the supply of organic waste,
regulatory controls and the cost of constructing facilities, we
do not foresee a dominant manufacturer or product emerging in
the near-term.
Government
Regulation
Our end products may be regulated or controlled by state, county
and local governments as well as various agencies of the Federal
government, including the Food and Drug Administration and the
Department of Agriculture.
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In addition to the regulations governing the sale of our end
products, our facilities will be subject to extensive
regulation. We will need certain permits to operate solid waste
or recycling facilities as well as permits for our sewage
connection, water supply, land use, air emission, and wastewater
discharge. The specific permit and approval requirements are set
by the state and the various local jurisdictions, including but
not limited to city, town, county, and township and state
agencies having control over the specific properties.
For our Woodbridge facility, we have obtained various permits
and approvals to operate a recycling center and a manufacturing
facility, including among others: a Class C recycling
permit; land use and site plan approval; an air quality permit;
a discharge permit; treatment works approval and a storm water
runoff permit; building construction permits; and a soil
conservation district permit.
Environmental regulations will also govern the operation of our
facilities. Our future facilities will most likely be located in
urban industrial areas where contamination may be present.
Regulatory agencies may require us to remediate environmental
conditions at our locations.
Employees
As of March 26, 2008, we had 14 full-time employees, 8
of whom were in management and administration and 6 of whom were
employed in our Gonzales facility. Once the Woodbridge facility
reaches its initial design capacity of 250 tons per day, we
expect to have another 14 full-time employees at that
location, working in the areas of general plant management,
equipment operation, quality control, maintenance, laborers, and
administrative support. We are also planning for additional
employees in the sales, marketing, finance, technology and
administrative areas of the Company.
Risk
Factors
You should carefully consider the risks, uncertainties and other
factors described below because they could materially and
adversely affect our business, financial condition, operating
results and prospects and could negatively affect the market
price of our securities. Also, you should be aware that the
risks and uncertainties described below are not the only ones
facing us. Additional risks and uncertainties that we do not yet
know of, or that we currently think are immaterial, may also
impair our business operations. You should also refer to the
other information contained in this Annual Report on
Form 10-KSB,
including our consolidated financial statements and the related
notes.
We are
an early-stage venture with little operating history, and our
prospects are difficult to evaluate.
We have not operated any facility other than our Gonzales
facility, which we purchased in January 2008, nor have we sold
any products other than from the Gonzales facility. Our
activities to date have been primarily limited to developing our
business, and consequently there is no historical financial
information related to operations available upon which you may
base your evaluation of our business and prospects. The revenue
and income potential of our business is unproven. If we are
unable to develop our business, we will not achieve our goals
and could suffer economic loss or collapse, which may have a
material negative effect on our financial performance.
We
expect to incur significant losses for some time, and we may
never operate profitably.
For the period from May 2, 2003 (inception of our
predecessor companies) through December 31, 2007, we
incurred an accumulated net loss of approximately $10,400,000.
Despite generating revenue from our Gonzales facility beginning
in February 2008, we will continue to incur significant losses.
There is no assurance that we will be successful in our efforts
to build and operate an organic waste conversion facility. Even
if we successfully meet our objectives and begin operations at
the Woodbridge facility, there is no assurance that we will be
able to operate profitably.
14
If we
are unable to manage our transition to an operating company
effectively, our operating results will be adversely
affected.
Failure to manage effectively our transition to an operating
company will harm our business. To date, substantially all of
our activities and resources have been directed at developing
our business plan, arranging financing, licensing technology,
obtaining permits and approvals, securing a lease for our
Woodbridge facility and options for additional facilities, and
purchasing our Gonzales facility. The transition to a converter
of waste and manufacturer and vendor of fertilizer products
requires effective planning and management. In addition, future
expansion will be expensive and will likely strain our
management and other resources. We may not be able to easily
transfer our skills to operating a facility or otherwise
effectively manage our transition to an operating company.
Our
plan to develop relationships with strategic partners and
vendors may not be successful.
As part of our business strategy, we will need to develop short-
and long-term relationships with strategic partners and vendors
to conduct growth trials and other research and development
activities, to assess technology, to engage in marketing
activities, and to enter into waste collection, real estate
development and construction agreements. For these efforts to
succeed, we must identify partners and vendors whose
competencies complement ours. We must also enter into agreements
with them on attractive terms and integrate and coordinate their
resources and capabilities with our own. If we are unsuccessful
in our collaborative efforts, our ability to develop and market
products could be severely limited or delayed.
If we
fail to finalize important agreements or the final agreements
are unfavorable compared with what we currently anticipate, the
development of our business may be harmed in ways which may have
a material negative effect on our financial
performance.
This report refers to agreements and documents that are not yet
final, permits that have not yet been obtained, and plans that
have not yet been implemented. The definitive versions of those
agreements, permits, plans or proposals may not materialize or,
if they do materialize, may not prove profitable to the Company,
which may have a material negative effect on our financial
performance.
We may
be unable to effectively implement new transaction accounting,
operational and financial systems.
To manage our operations, we will be required to implement
complex transaction accounting, operational and financial
systems, procedures and controls, and to retain personnel
experienced in the use of these systems. Deficiencies in the
design and operation of our systems, procedures and controls,
including internal controls, could adversely affect our ability
to record, process, summarize and report material financial
information. Our planned systems, procedures and controls may be
inadequate to support our future operations.
We are
exposed to risks from recent legislation requiring companies to
evaluate internal control over financial
reporting.
Section 404 of the Sarbanes-Oxley Act of 2002
(Section 404) requires our management to begin
to report on the operating effectiveness of the Companys
internal control over financial reporting for the year ended
December 31, 2007. Carlin, Charron & Rosen, LLP,
our independent registered public accounting firm, will be
required to attest to the effectiveness of our internal control
over financial reporting beginning with the year ended
December 31, 2009. We must continue an ongoing program to
perform the system and process evaluation and testing necessary
to comply with these requirements. We expect that this program
will require us to incur expenses and to devote resources to
Section 404 compliance on an ongoing annual basis.
It is difficult for us to predict how long it will take to
complete managements assessment of the effectiveness of
our internal control over financial reporting each year and to
remediate any deficiencies in our internal control over
financial reporting, if any. As a result, we may not be able to
complete the assessment and process on a timely basis each year.
In the event that our Chief Executive Officer, Chief Financial
Officer or independent registered public accounting firm
determines that our internal control over financial reporting is
not effective as defined under Section 404, we cannot
predict how regulators will react or how the market prices of
our securities will be affected.
15
Our
future success is dependent on our existing key employees, and
hiring and assimilating new key employees, and our inability to
attract or retain key personnel in the future would materially
harm our business and results of operations.
Our success depends on the continuing efforts and abilities of
our current management team. In addition, our future success
will depend, in part, on our ability to attract and retain
highly skilled employees, including management, technical and
sales personnel. The loss of services of any of our key
personnel, the inability to attract or retain key personnel in
the future, or delays in hiring required personnel could
materially harm our business and results of operations. We may
be unable to identify and attract highly qualified employees in
the future. In addition, we may not be able to successfully
assimilate these employees or hire qualified personnel to
replace them.
Constructing
and equipping our Woodbridge facility may take longer and cost
more than we expect.
Equipping and completing our Woodbridge facility has required
and will continue to require a significant investment of capital
and substantial engineering expenditures, and is subject to
significant risks, including risks of delays, equipment
problems, cost overruns, including the cost of raw materials
such as stainless steel, and other
start-up and
operating difficulties. Our conversion processes at the
Woodbridge facility will use custom-built, patented equipment
that may not be delivered and installed in our facility in a
timely manner for many reasons, including but not limited to the
inability of the supplier of this equipment to perform. In
addition, this equipment may take longer and cost more to debug
than planned and may never operate as designed. If we experience
any of these or similar difficulties, we may be unable to
complete our Woodbridge facility, and our results may be
materially and adversely affected. We also may encounter similar
difficulties in constructing and equipping our future facilities
which may also have a material and adverse effect on our
operating results.
We
have little or no experience in the organic waste or fertilizer
industries, which increases the risk of our inability to build
and operate our facilities.
We are currently, and are likely for some time to continue to
be, dependent upon our present management team. Most of these
individuals are experienced in business generally, organizing
the construction, equipping and start up of an organic waste
conversion facility, and governing and operating a public
company. In addition, none of our directors has any experience
in the organic waste or fertilizer products industries. As a
result, we may not develop our business successfully.
We
will depend on contractors unrelated to us to build our
Woodbridge facility, and their failure to perform could harm our
business and hinder our ability to operate
profitably.
We have entered into guaranteed maximum price contracts with
construction, mechanical, and electrical contractors to build
our Woodbridge facility. Although we believe each of these
companies is qualified, we have no prior experience with any of
them. If any company were to fail to perform, there is no
assurance that we would be able to obtain a suitable replacement
on a timely basis.
We
license certain technology from a third party, and our failure
to perform under the terms of the license could result in
material adverse consequences.
We intend to use certain licensed technology and patented pieces
of process equipment in our Woodbridge facility that will be
obtained from IBRC. The license contains various performance
criteria, and if we fail to perform under the terms of the
license, the license may be terminated by the licensor, and we
will have to modify our process and employ other equipment that
may not be available on a timely basis or at all. If we are
unable to use different technology and equipment, we may not be
able to operate the Woodbridge facility successfully. If the
license agreement is terminated or held invalid for any reason,
or if it is determined that IBRC has improperly licensed its
process to us, the occurrence of such event will adversely
affect our Woodbridge operations and revenues therefrom.
16
The
EATAD technology we will use to operate our Woodbridge facility
is unproven at the scale we intend to operate.
While IBRC has operated a facility in British Columbia using the
EATAD process, its plant is smaller than our planned Woodbridge
facility. IBRC developed the initial drawings for our Woodbridge
facility, but neither IBRC nor we have operated a plant of the
proposed size.
Our
Woodbridge facility site may have unknown environmental problems
that could be expensive and time consuming to correct, which may
delay construction and delay our ability to generate
revenue.
There can be no assurance that we will not encounter hazardous
environmental conditions at the Woodbridge facility site or any
additional future facility sites that may delay the construction
of our organic waste conversion facilities. Upon encountering a
hazardous environmental condition, our contractor may suspend
work in the affected area. If we receive notice of a hazardous
environmental condition, we may be required to correct the
condition prior to continuing construction. The presence of a
hazardous environmental condition will likely delay construction
of the particular facility and may require significant
expenditures to correct the environmental condition. If we
encounter any hazardous environmental conditions during
construction that require time or money to correct, such event
could delay our ability to generate revenue.
We may
not be able to successfully operate our Woodbridge
facility.
Although we intend to hire a firm with substantial operational
experience to operate our Woodbridge facility, we have not
developed or operated any manufacturing facilities of any kind.
Our Woodbridge facility, if completed, would be the first
commercial facility of its kind in the United States and may not
function as anticipated. In addition, the control of the
manufacturing process will require operators with extensive
training and experience which may be difficult to attain.
Our
lack of business diversification may have a material negative
effect on our financial performance.
We expect to have only two planned products to sell to customers
to generate revenue: dry and liquid soil amendment products. We
do not expect to have any other products. Although we also
expect to receive tip fees, our lack of business
diversification could have a material adverse effect on our
operations.
We may
not be able to manufacture products from our planned facilities
in commercial quantities or sell them at competitive
prices.
To date, we have not produced any products other than from our
Gonzales facility. We may not be able to manufacture products
from our Woodbridge facility or other planned facilities in
commercial quantities or sell them at prices competitive with
other similar products.
We may
be unable to establish marketing and sales capabilities
necessary to commercialize and gain market acceptance for our
potential products.
We currently have limited sales and marketing capabilities. We
will need to either hire sales personnel with expertise in the
markets we intend to address or contract with others to provide
sales support. Co-promotion or other marketing arrangements to
commercialize our planned products could significantly limit the
revenues we derive from our products, and these parties may fail
to commercialize these products successfully. Our planned
products address different markets and can be offered through
multiple sales channels. Addressing each market effectively will
require sales and marketing resources tailored to the particular
market and to the sales channels that we choose to employ, and
we may not be able to develop such specialized marketing
resources.
Pressure
by our customers to reduce prices and agree to long-term supply
arrangements may adversely affect our net sales and profit
margins.
Our current and potential customers, especially large
agricultural companies, are often under budgetary pressure and
are very price sensitive. Our customers may negotiate supply
arrangements with us well in advance of
17
delivery dates, thereby requiring us to commit to product prices
before we can accurately determine our final costs. If this
happens, we may have to reduce our conversion costs and obtain
higher volume orders to offset lower average sales prices. If we
are unable to offset lower sales prices by reducing our costs,
our gross profit margins will decline, which could have a
material negative effect on our financial performance.
The
fertilizer industry is highly competitive, which may adversely
affect our ability to generate and grow sales.
Chemical fertilizers are manufactured by many companies and are
plentiful and relatively inexpensive. In addition, the number of
fertilizer products registered as organic with the
Organic Materials Review Institute increased by approximately
50% from 2002 to 2005. If we fail to keep up with changes
affecting the markets that we intend to serve, we will become
less competitive, adversely affecting our financial performance.
Defects
in our products or failures in quality control could impair our
ability to sell our products or could result in product
liability claims, litigation and other significant events with
substantial additional costs.
Detection of any significant defects in our products or failure
in our quality control procedures may result in, among other
things, delay in time-to-market, loss of sales and market
acceptance of our products, diversion of development resources,
and injury to our reputation. The costs we may incur in
correcting any product defects may be substantial. Additionally,
errors, defects or other performance problems could result in
financial or other damages to our customers, which could result
in litigation. Product liability litigation, even if we prevail,
would be time consuming and costly to defend. We do not
presently maintain product liability insurance, and any product
liability insurance we may obtain may not be adequate to cover
claims.
Energy
and fuel cost variations could adversely affect operating
results and expenses.
Energy costs, particularly electricity and natural gas, are
expected to constitute a substantial portion of our operating
expenses. The price and supply of energy and natural gas are
unpredictable and fluctuate based on events outside our control,
including demand for oil and gas, weather, actions by OPEC and
other oil and gas producers, and conflict in oil-producing
countries. Price escalations in the cost of electricity or
reductions in the supply of natural gas could increase operating
expenses and negatively affect our results of operations. We may
not be able to pass through all or part of the increased energy
and fuel costs to our customers.
We may
not be able to obtain sufficient organic material.
Competing disposal outlets for organic food waste and increased
demand for applications such as biofuels may develop and
adversely affect our business. To fully utilize the tip floor
and to manufacture our products, we are dependent on a stable
supply of organic food waste. Insufficient food waste feedstock
will adversely affect our efficiency and may cause us to
increase our tip fee discount from prevailing rates, likely
resulting in reduced revenues and net income.
Our
license agreement with IBRC restricts the territory into which
we may sell our planned products and grants a cooperative a
right of first refusal to purchase our products.
We have entered into a license agreement with IBRC which among
other terms contains a restriction on our right to sell our
planned products outside a territory defined generally as the
Eastern Seaboard of the United States. The license agreement
also grants a proposed cooperative of which IBRC is a member a
right of first refusal to purchase the products sold from our
Woodbridge facility under certain circumstances. While we
believe that the territory specified in the license agreement is
broad enough to easily absorb the amount of product we plan to
produce and that the right of first refusal will not impair our
ability to sell our products, these restrictions may have a
material adverse effect on the volume and price of our product
sales. We may in addition become completely dependent on a third
party for the sale of our products.
18
Our
fertilizer products from our Woodbridge facility will be sold
under an unproven name.
Our licensing agreement with IBRC requires that we market our
planned products from our Woodbridge facility under the brand
name Genica. No fertilizer products have been sold
in our geographic market under that name, and the name may not
be accepted in our marketplace.
Successful
infringement claims by third parties could result in substantial
damages, lost product sales and the loss of important
proprietary rights.
We may have to defend ourselves against patent and other
infringement claims asserted by third parties regarding the
technology we have licensed, resulting in diversion of
management focus and additional expenses for the defense of
claims. In addition, as a result of a patent infringement suit,
we may be forced to stop or delay developing, manufacturing or
selling potential products that are claimed to infringe a patent
covering a third partys intellectual property unless that
party grants us rights to use its intellectual property. We may
be unable to obtain these rights on terms acceptable to us, if
at all. If we cannot obtain all necessary licenses on
commercially reasonable terms, we may be unable to continue
selling such products. Even if we are able to obtain rights to a
third partys patented intellectual property, these rights
may be non-exclusive, and therefore our competitors may obtain
access to the same intellectual property. Ultimately, we may be
unable to commercialize our potential products or may have to
cease some or all of our business operations as a result of
patent infringement claims, which could severely harm our
business.
Our
license agreement with IBRC imposes obligations on us related to
infringement actions that may become burdensome or result in
termination of our license agreement.
If our use of the licensed technology is alleged to infringe the
intellectual property of a third party, we may become obligated
to defend such infringement action. Although IBRC has agreed to
bear the costs of such defense, if the licensed technology is
found by a court to be infringing, IBRC may terminate the
license agreement, which may prevent us from continuing to
operate our conversion facility. In such an event, we may become
obligated to find alternative technology or to pay a royalty to
a party other than IBRC to continue to operate.
If a third party is allegedly infringing any of the licensed
technology, then either we or IBRC may attempt to enforce the
IBRC intellectual property rights. In general, our possession of
rights to use the know-how related to the licensed technology
will not be sufficient to prevent others from employing similar
technology that we believe is infringing. Any such enforcement
action against alleged infringers, whether by us or by IBRC, may
be required to be maintained at our expense under the terms of
the license agreement. The costs of such an enforcement action
may be prohibitive, reduce our net income, if any, or prevent us
from continuing operations.
Our
High Temperature Liquid Composting (HTLC) technology
imposes obligations on us related to infringement actions that
may become burdensome.
If our use of our HTLC technology is alleged to infringe the
intellectual property of a third party, we may become obligated
to defend such infringement action. In such an event, we may
become obligated to find alternative technology or to pay a
royalty to a third party to continue to operate.
If a third party is allegedly infringing any of our HTLC
technology, then we may attempt to enforce our intellectual
property rights. In general, our possession of rights to use the
know-how related to our HTLC technology will not be sufficient
to prevent others from employing similar technology that we
believe is infringing. Any such enforcement action against
alleged infringers may be required at our expense. The costs of
such an enforcement action may be prohibitive, reduce our net
income, if any, or prevent us from continuing operations.
Development
of our business is dependent on our ability to obtain additional
debt financing which may not be available on acceptable
terms.
We may need to obtain significant debt financing in order to
develop manufacturing facilities and begin production of our
products. Each facility will likely be individually financed and
require considerable debt. While we believe state
government-sponsored debt programs will be available to finance
our requirements, market rate or
19
non-government sponsored debt could also be used. However,
public or private debt may not be available at all or on terms
acceptable to us for the development of future facilities.
We
will need to obtain additional debt and equity financing to
complete subsequent stages of our business plan.
We will need to obtain additional debt and equity financing to
complete subsequent phases of our business plan. We may issue
additional securities in the future with rights, terms and
preferences designated by our Board of Directors, without a vote
of stockholders, which could adversely affect your rights.
Additional financing will likely cause dilution to our
stockholders and could involve the issuance of securities with
rights senior to the outstanding shares. There is no assurance
that such funds will be sufficient, that the financing will be
available on terms acceptable to us and at such times as
required, or that we will be able to obtain the additional
financing required, if any, for the continued operation and
growth of our business. Any inability to raise necessary capital
will have a material adverse effect on our ability to meet our
projections, deadlines and goals and will have a material
adverse effect on our revenues and net income.
Our
agreements with our bond investors may hinder our ability to
operate our business by imposing restrictive loan covenants,
which may prohibit us from paying dividends or taking other
actions to manage or expand our business.
The terms of the bond guaranty executed by the Company on behalf
of Converted Organics of Woodbridge LLC, prohibit the Company
from paying debt and other obligations that funded the
Companys working capital until certain ratios of EBITDA to
debt service are met.
Mandatory
redemption of our bonds could have a material adverse effect on
our liquidity and cash resources.
The bonds issued are subject to mandatory redemption by us if
the Woodbridge facility is condemned, we cease to operate the
facility, the bonds become taxable, a change in control of the
company occurs and under certain other circumstances. Depending
upon the circumstances, such an event could require a payment to
our bondholders ranging between 100% and 110% of the principal
amount of the bonds outstanding, plus interest. If we are unable
to obtain additional financing from other sources, the
requirement that we pay cash in connection with such mandatory
redemption will have a material adverse effect on our liquidity
and cash resources, and may impair our ability to continue to
operate.
The
communities where our facilities may be located may be averse to
hosting waste handling and manufacturing
facilities.
Local residents and authorities in communities where our
facilities may be located may be concerned about odor, vermin,
noise, increased truck traffic, air pollution, decreased
property values, and public health risks associated with
operating a manufacturing facility in their area. These
constituencies may oppose our permitting applications or raise
other issues regarding our proposed facilities.
Our
facilities will require certain permits to operate, which we may
not be able to obtain or obtain on a timely basis.
For our Woodbridge facility, we must obtain various permits and
approvals to operate a recycling center and a manufacturing
facility, including among others a Class C recycling
permit, land use and site plan approval, an air quality permit,
a water discharge permit, a storm water runoff permit, and
building construction permits. We may not be able to secure all
the necessary permits on a timely basis or at all, which may
prevent us from operating the facility according to our business
plan.
For our additional facilities, we may need certain permits to
operate solid waste or recycling facilities as well as permits
for our sewage connection, water supply, land use, air emission,
and wastewater discharge. The specific permit and approval
requirements are set by the state and the various local
jurisdictions, including but not limited to
20
city, town, county, township and state agencies having control
over the specific properties. Lack of permits to construct,
operate or maintain our facilities will severely and adversely
affect our business.
Changes
in environmental regulations or violations of such regulations
could result in increased expense and could have a material
negative effect on our financial performance.
We will be subject to extensive air, water and other
environmental regulations and will need to obtain a number of
environmental permits to construct and operate our planned
facilities. If for any reason any of these permits are not
granted, construction costs for our organic waste conversion
facilities may increase, or the facilities may not be
constructed at all. Additionally, any changes in environmental
laws and regulations, both at the federal and state level, could
require us to invest or spend considerable resources in order to
comply with future environmental regulations. The expense of
compliance could be significant enough to reduce our net income
and have a material negative effect on our financial performance.
Our
strategic plan for development and construction of operating
facilities in Rhode Island, Massachusetts and New York requires
additional debt and/or equity financing and working capital
during the construction periods.
Our strategic plan calls for us to develop and build future
operating facilities. These facilities will require us to raise
additional fund for the development and construction of these
facilities and for working capital during the construction
process. There is no guarantee that we will be able to raise
those funds.
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ITEM 2.
|
DESCRIPTION
OF PROPERTY
|
We have entered a
10-year
lease with an option to renew for 10 years for property
located in an industrial area of Woodbridge, New Jersey. This is
the site upon which our Woodbridge facility is being
constructed. The lease covers 60,000 square feet of a
300,000 square foot building. The rent is $32,500 per month
for the first 5 years. In year 6, the rent increases by 5%
and will increase 2% per year in years 7 through 10. On
January 18, 2007, the Company executed a lease amendment to
compensate the landlord for costs incurred in connection with a
buildout of the leased space. During years 2 through 10, we will
pay an additional $45,402 per month under the amendment, for
total rent expense of $77,902 per month. In year 11, the rent
will increase by 5% and will increase an additional 2% per year
in years 12 through 15. The rent will increase 5% in year 16 and
thereafter, will increase 2% per year through the remainder of
the term. We are responsible for payment of common area
maintenance fees and taxes based upon our percentage of use
relative to the whole facility and for our separately metered
utilities. The additional rent associated with the buildout of
the facility is approximately $4.6 million and will be
repaid as discussed above. This buildout allowance represents
additional financing to the Company and is not included in the
estimated costs of $14.6 million to complete the Woodbridge
facility.
On January 24, 2008, we entered into a
10-year
lease for land in Gonzales, California, where our Gonzales
facility is located. The land is leased from VLH, a California
LLC whose sole member is Executive Vice President, Chief
Technology Officer, and a Director of Converted Organics Inc.
The lease provides for a monthly rent of $9,000. The lease is
renewable for three
5-year terms
after the expiration of the initial
10-year
term. In addition, we own the Gonzales facility and the
operating equipment used in the facility. VLH has been
determined to be a variable interest entity of UOP in prior
years, as UOP was the primary beneficiary of that variable
interest entity. We are in the process of evaluating if VLH was
a variable interest entity as of January 24, 2008.
VLHs assets and liabilities consist primarily of land and
a mortgage note payable on the land. Its operations consist of
rental income on the land from us and related operating expenses.
We currently lease, on a month-to-month basis, approximately
2,500 square feet of office space for our headquarters in
Boston, Massachusetts. We pay rent of $2,800 per month for this
space. We may terminate the office lease at any time upon
30 days advance written notice.
21
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ITEM 3.
|
LEGAL
PROCEEDINGS
|
We are not currently aware of any pending or threatened legal
proceedings or proceedings being contemplated by governmental
authorities to which we are or would be a party or which may be
brought against us or any of our executive officers or directors
relating to their services on our behalf.
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ITEM 4.
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS
|
No matters were submitted to a vote of security holders during
the fourth quarter of the year ended December 31, 2007.
PART II
|
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ITEM 5.
|
MARKET
FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS AND SMALL
BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES
|
Market
Information
Our common stock has been listed on the Nasdaq Capital Market
and the Boston Stock Exchange under the symbol COIN
since March 16, 2007. Prior to March 16, 2007, there
was no public market for our common stock. The following table
sets forth the range of high and low sales prices per share as
reported on Nasdaq for the periods indicated.
|
|
|
|
|
|
|
|
|
2007
|
|
High
|
|
|
Low
|
|
|
First Quarter (since March 16, 2007)
|
|
$
|
3.37
|
|
|
$
|
2.95
|
|
Second Quarter
|
|
$
|
3.07
|
|
|
$
|
2.91
|
|
Third Quarter
|
|
$
|
2.84
|
|
|
$
|
2.78
|
|
Fourth Quarter
|
|
$
|
5.30
|
|
|
$
|
4.25
|
|
Holders
As of March 26, 2008, there were approximately 81 holders
of record of the Companys common stock.
Dividends
Beginning with the first quarter of 2007, at the end of each
calendar quarter holders of record of our common stock will
receive a 5% common stock dividend until the Woodbridge facility
has commenced commercial operations. We will not issue
fractional shares as a part of the dividend program or shares
with respect to the calendar quarter in which we commence
commercial operations. During 2007, we issued
747,296 shares as stock dividends.
We have not declared or paid any cash dividends and do not
intend to pay any cash dividends in the foreseeable future. We
intend to retain any future earnings for use in the operation
and expansion of our business. The terms of our New Jersey bond
issue restrict our ability to pay cash dividends. Any future
decision to pay cash dividends on common stock will be at the
discretion of our Board of Directors and will depend upon, in
addition to the terms of the New Jersey bond financing, as well
as any future bond or bank financings, our financial condition,
results of operation, capital requirements and other factors our
Board of Directors may deem relevant.
Recent
Sales of Unregistered Securities
On February 16, 2007, the Company issued to certain bridge
lenders 293,629 units, each consisting of one share of
common stock and one Class A warrant to purchase one share
of common stock and one Class B warrant to purchase one
share of common stock, which may be exercised at $8.25 and
$11.00, respectively, per warrant. In May 2007, the Company
issued 55,640 shares of common stock under the terms of the
renegotiated bridge loan. These transactions were exempt from
the registration requirements of the Securities Act of 1933, as
amended (the 1933 Act), pursuant to
Section 4(2) and Regulation D under the 1933 Act.
22
Use of
Proceeds from Registered Securities
See the discussion below under Managements
Discussion and Analysis or Plan of Operation
Construction and
Start-up
Period.
Purchase
of Equity Securities by the Small Business Issuer and Affiliated
Purchasers
None.
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|
ITEM 6.
|
MANAGEMENTS
DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
|
The following discussion of our plan of operation should be read
in conjunction with the consolidated financial statements and
related notes to the consolidated financial statements included
elsewhere in this report. This discussion contains
forward-looking statements that relate to future events or our
future financial performance. These statements involve known and
unknown risks, uncertainties and other factors that may cause
our actual results, levels of activity, performance or
achievements to be materially different from any future results,
levels of activity, performance or achievements expressed or
implied by these forward-looking statements. These risks and
other factors include, among others, those listed under
Risk Factors and those included elsewhere in this
document.
Introduction
Converted Organics Inc. is transitioning from a development
stage company (first reported revenues were in February
2008) to a fully operational company that constructs and
operates processing facilities that will use food waste as raw
material to manufacture all-natural soil amendment products
combining nutritional and disease suppression characteristics.
In addition to our current sales in the agribusiness market, we
plan to sell and distribute our products in the turf management
and retail markets. We have hired experienced sales personal in
these markets and have begun to aggressively introduce the
product to the marketplace. As of March 26, 2008, we had
secured expressions of interest for approximately 55% of the
output from our planned Woodbridge facility. We have obtained a
long-term lease for a site in a portion of an industrial
building in Woodbridge, New Jersey that the landlord is
modifying and that we will equip as our first internally
constructed organic waste conversion facility. We currently have
no operations at that facility and do not expect to generate
revenue from that facility until it is operational, which the
Company expects will be in the second quarter of 2008. When
fully operational, the Woodbridge facility is initially expected
to process approximately 78,000 tons of organic food waste and
produce approximately 7,500 tons of dry product and 6,700 tons
of liquid concentrate annually. On January 24, 2008, we
acquired the Gonzales facility, which is operational and began
to generate revenue in February 2008. We plan to add capacity to
the Gonzales plant during the first 9 months of 2008,
whereby the plant will produce approximately three times its
current production and will be capable of producing both liquid
and solid products. In addition, we have an option on a
long-term lease for a facility in Rhode Island. Permits have not
been issued nor has construction begun at the Rhode Island
location and it is not expected to begin until some time in the
future.
On January 24, 2008, we acquired the net assets, including
the intellectual property, of WRI. This acquisition makes us the
exclusive owner of the proprietary technology and process known
as the High Temperature Liquid Composting (HTLC)
system, which processes various biodegradable waste products
into liquid and solid organic-based fertilizer and feed
products. The purchase price of $500,000 was paid with a 7%
short-term note that matures on May 1, 2008. Interest on
that note is payable monthly. In addition, the purchase price
provides for a technology fee payment of $5,500 per ton of
waste-processing capacity that is added to plants that were not
planned at the time of this acquisition and that use this new
technology. The per-ton fee is not payable on the Woodbridge
facility, the facility that is being planned in Rhode Island, or
the Gonzales facility acquired from UOP in the acquisition or
the currently planned addition thereto, except to the extent
that capacity is added to the Gonzales facility in the future.
Also, the purchase price provides that if we decide to exercise
our right, obtained in the WRI acquisition, to enter into a
joint venture with Pacific Seafoods Inc. Company for the
development of a fish waste-processing plant (the Eureka
plant), the Company will pay 50% of the Companys net
profits earned from this plant. Both the $5,500 per ton
technology fee and the profits paid from the Eureka plant, if
any, are capped at a maximum payment of $7,000,000 with no
minimum payment required. The license allows us to utilize the
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proprietary technology and process in all of its future waste to
fertilizer facilities. This license allows us to produce product
using our own technology.
Also, on January 24, 2008, we acquired the net assets of
UOP, which was under common ownership with WRI. With this
acquisition, we acquired a leading liquid fertilizer product
line, as well as the Gonzales facility, which is a
state-of-the-art production facility that services a strong West
Coast agribusiness customer base through established
distribution channels. This facility is operational and began to
generate revenues for us in February 2008. The purchase price of
$2,500,000 was paid in cash of $1,500,000 and a note payable of
$1,000,000. The note matures on February 1, 2011, has an
interest rate of 7%, payable monthly in arrears, and is
convertible to our common stock six months after the acquisition
date for a price equal to the average closing price of the stock
on Nasdaq for the five days preceding conversion.
Also, on January 24, 2008, we entered into private
financing with three investors (the Investors) for a
total amount of $4,500,000 (the Financing). The
Financing was offered at an original issue discount of 10%. We
used the proceeds to fund the acquisition of assets described
above, to fund further development activities and to provide
working capital. As consideration for the Financing, the
Investors received a note issued by the Company in the amount of
$4,500,000, with interest accruing at 10% per annum to be paid
monthly and with the principal balance to be paid by
January 24, 2009 (the Note). In addition, we
issued to the Investors 750,000 Class A Warrants and
750,000 Class B Warrants which may be exercised at $8.25
and $11.00 per warrant share, respectively (the
Warrants). We further agreed to not call any
Warrants, including our publicly held Class A Warrants,
until a registration statement registering all of the Warrants
issued to the Investors is declared effective by the Securities
and Exchange Commission. A placement fee of $225,000 was paid
out of the proceeds of this loan.
In connection with this financing, we have agreed that within
75 days of the closing date, we will have a shareholder
vote to seek approval to issue a convertible debenture with an
interest rate of 10% per annum which would be convertible into
common stock pursuant to terms of the debenture agreement, or
such other price as permitted by the debenture (the
Convertible Debenture). Upon shareholder approval,
the Note will be replaced by this Convertible Debenture and one
half of each of the Class A Warrants and of the
Class B Warrants issued will be returned to us. Under the
conversion option, the Investors shall have the option, at any
time on or before maturity date (January 24, 2009), to
convert the outstanding principal of this Convertible Debenture
into fully-paid and non assessable shares of common stock at the
rate per share equal to the lowest of (i) the fixed
conversion price of $6.00 per share, (ii) the lowest fixed
conversion price ( the lowest price, conversion price or
exercise price set by us in any equity financing transaction,
convertible security, or derivative instrument issued after
January 24, 2008), or (iii) the default conversion
price (if and so long as there exists an event of default, then
70% of the average of the three lowest closing prices of common
stock during the
20-day
trading period immediately prior to the notice of conversion).
We have scheduled a shareholders meeting on April 3,
2008 to vote on this matter which is contingent until resolution
on that date.
In connection with this financing, we entered into a Security
Agreement with the investors whereby we granted the Investors a
security interest in Converted Organics of California, LLC and
any and all assets that are acquired by the use of funds from
the Financing. In addition, we granted the Investors a security
interest in Converted Organics of Woodbridge, LLC and all assets
subordinate only to the current lien held by the holder of the
bonds issued in connection with the Woodbridge facility of
approximately $17,500,000.
Development
Period
Since the formation of one of our predecessors on May 2,
2003 through December 31, 2007, we and our predecessor
organizations spent approximately $3.1 million of seed
capital, $1.8 million of bridge loan proceeds and
$8.4 million of proceeds from our public offering and the
issuance on New Jersey Economic Development Bonds to accomplish
the following:
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acquire the IBRC technology license;
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develop engineering plans;
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identify appropriate sites for development;
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enter into a lease for the site for our Woodbridge facility;
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prepare certain environmental permit applications;
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contract for third-party evaluation and validation of the
technology;
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contract for two third-party studies analyzing the pricing and
market demand for our products;
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pursue various environmental permits and licenses;
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negotiate a long-term supply contract for source-separated
organic waste;
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garner public/community support;
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develop markets for our products by meeting with distributors of
organic products, wholesalers, and prior users of similar
products;
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sponsor growth and efficacy trials for products produced by the
licensor;
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issue our securities;
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begin construction on our Woodbridge facility;
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make interest payments on our New Jersey Economic Development
Bonds; and
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fund administrative, sales, marketing, operations and
development expenses.
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These activities have been funded through a combination of
contributions of capital by our founders, private sales of
interests in our predecessor companies, and borrowings. Weston
Solutions, Inc. contributed approximately $2.3 million in
cash; ECAP, LLC, a boutique investment firm, of which William A.
Gildea, a former director of the Company, is the managing
member, contributed $300,000 in cash; and the balance came from
borrowings of $250,000 in 2004 and again in 2005 from individual
lenders at annual interest rates of 12% and 15%, respectively.
Additional funding for the above activities came from proceeds
of Bridge Loans of $1.8 million which were received in 2006
and subsequently repaid in 2007, and approximately
$8.4 million of funding from our initial public offering of
stock and the issuance of New Jersey Economic Development Bonds,
both of which closed on February 16, 2007.
Construction
and Start-up
Period
We have commenced plant construction activities on our
Woodbridge facility. Our process engineer, Weston Solutions,
Inc., has completed the design, mass balance, energy balance,
and process flow drawings for the Woodbridge facility. This work
formed the basis for soliciting bids for a guaranteed maximum
price contract for the construction of the Woodbridge facility.
In addition, our management team has been focused primarily on
constructing the Woodbridge facility, conducting
start-up
trials and bringing operations to full-scale production as
quickly as practicable. We have budgeted approximately
$14.6 million for the design, building, and testing of our
facility, including related non-recurring engineering costs. The
capital outlay of $14.6 million will come from the
$25.4 million raised by our initial public offering of
stock and the issuance of New Jersey Economic Development Bonds,
both of which closed on February 16, 2007 and does not
include $4.6 million of lease financing provided by the New
Jersey landlord.
As of December 31, 2007, we had incurred approximately
$4.9 million of the $14.6 million in planned
construction costs. The total cost is not expected to exceed the
estimate of $14.6 million; however, we are currently
exploring the opportunity of purchasing additional spiking line
equipment, which would allow us to produce an additional product
line which is in high demand by the retail market. The estimated
cost of this additional equipment would be approximately
$1.2 million and would be paid for out of working capital.
The remaining net proceeds of the stock and bond offerings of
$10.8 million (net proceeds of $25.4 million less
$14.6 million set aside for construction) will be used to
fund the Companys marketing and administrative expenses
during the construction period, and fund principal and interest
reserves specified in the bond offering. The additional costs
for the buildout of the Woodbridge facility by the landlord are
not included in these costs. We expect to negotiate and execute
a plant management agreement prior to commencement of the
Woodbridge
25
facilitys operations. We will continue to develop
relationships and negotiate purchase agreements for our end
products in the agribusiness, turf management, and retail
markets during the construction and
start-up
period.
Full-scale
Operations
Operations at the Woodbridge facility are expected to begin by
processing 50 tons of organic waste per day, with the
expectation that initial design capacity of 250 tons per day
will be reached within four to six weeks. Upon commencement of
operations, there will be two revenue streams: (i) tip fees
that in our potential markets range from $50 to $100 per ton,
and (ii) product sales. Tip fees are paid to the Company to
receive the organic waste stream from the waste hauler; the
hauler pays the Company, instead of a landfill, to take the
waste. If the haulers source separate and pay in advance, they
will be charged tip fees that are up to 20% below market.
Operations are expected to be stabilized at design capacity
within three to six months of commencement.
Operations at the Gonzales facility began in February 2008, with
the production of 25 tons per day of liquid fertilizer. This
output is presently being sold into the California agricultural
market.
Future
Development
Subject to the availability of development capital, we intend to
commence development and construction of other facilities while
completing construction of our Woodbridge facility. The timing
of our next facility is dependent on many factors, including
locating property suited for our use, negotiating favorable
terms for lease or purchase, obtaining regulatory approvals, and
procuring raw material at favorable prices.
We anticipate that our next facility will be located in Rhode
Island. We have signed an option for a lease with the RIRRC for
a proposed facility in Johnston, Rhode Island. Other locations
in Massachusetts and New York as well as other states will be
considered as determined by management.
In each contemplated market, we have started development
activity to secure a facility location. We have also held
preliminary discussions with state and local regulatory
officials and raw material suppliers. We believe that this
preliminary development work will allow the Company to develop
and operate a second facility by the end of 2009, subject to the
availability of debt financing. We will be able to use much of
the engineering and design work done for our Woodbridge facility
for subsequent facilities, thus reducing both the time and costs
associated with these activities. We expect to form a separate
wholly owned subsidiary for each facility to facilitate
necessary bond financing and manage risk. We anticipate the
contribution to gross revenue and coverage of expenses with
respect to future facilities to be approximately the same as the
Woodbridge facility.
Trends
and Uncertainties Affecting our Operations
We will be subject to a number of factors that may affect our
operations and financial performance. These factors include, but
are not limited to, the available supply and price of organic
food waste, the market for liquid concentrate and solid organic
fertilizer, increasing energy costs, the unpredictable cost of
compliance with environmental and other government regulation,
and the time and cost of obtaining USDA, state or other product
labeling designations. Demand for organic fertilizer and the
resulting prices customers are willing to pay also may not be as
high as our market studies suggest. In addition, supply of
organic fertilizer products from the use of other technologies
or other competitors may adversely affect our selling prices and
consequently our overall profitability.
Liquidity
and Capital Resources
At December 31, 2007, we had total assets of approximately
$22.2 million, consisting primarily of cash, construction
in progress, deferred financing and issuance costs, intangible
assets, and prepaid and other assets, and current liabilities of
approximately $2.5 million, consisting primarily of
accounts payable, accrued expenses and term notes payable.
Non-current liabilities consist primarily of term notes payable
($89,000) and bonds payable ($17,500,000) at December 31,
2007. The Company accumulated a net loss from inception through
December 31, 2007 of approximately $10.4 million.
Owners equity at December 31, 2007 was approximately
$2.1 million. From inception through December 31,
2007, we generated no revenue from operations, and for the years
ended
26
December 31, 2007 and 2006, we had operating losses of
approximately $4.1 million and $3.7 million,
respectively, primarily due to our
start-up
costs and stock option expenses.
We currently have manufacturing capabilities in our Gonzales
facility as a means to generate revenues and cash. In addition,
approximately $14.6 million of the net proceeds from our
February 2007 equity and bond offerings, together with the
$4.6 million of lease financing provided by the landlord,
will be used to build our Woodbridge facility, which is expected
to be completed in the second quarter of 2008. We believe that
the remaining $10.8 million net proceeds from the equity
and bond offerings, along with the proceeds of the exercise of
our publicly held Class A Warrants, which totaled
approximately $6 million as of March 26, 2008, and
revenues from the Gonzales facility, will be sufficient to
sustain our operations until the Woodbridge facility is
completed.
In January 2008, we borrowed $4,500,000 pursuant to the
Financing to fund the acquisition of net assets purchased from
WRI and UOP, to expand the operating plant acquired from UOP and
to provide working capital. See Introduction above.
Critical
Accounting Policies and Estimates
Our plan of operation is based in part upon the Companys
consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the
United States of America. The preparation of financial
statements in accordance with generally accepted accounting
principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities,
including the recoverability of tangible and intangible assets,
disclosure of contingent assets and liabilities as of the date
of the financial statements, and the reported amounts of
expenses during the periods covered. A summary of accounting
policies that have been applied to the historical financial
statements can be found in the notes to consolidated financial
statements.
We evaluate our estimates on an on-going basis. The most
significant estimates relate to intangible assets, deferred
financing and issuance costs, and the fair value of financial
instruments. We base our estimates on historical Company and
industry experience and on various other assumptions that we
believe 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 materially from
those estimates.
The following is a brief discussion of our critical accounting
policies and methods, and the judgments and estimates used by us
in their application:
Cash
and Cash Equivalents
We consider financial instruments with a maturity date of three
months or less from the date of purchase to be cash equivalents.
We had no cash equivalents at December 31, 2007 and 2006.
As of December 31, 2007, we had remaining approximately
$14,596,000 of restricted cash as required by our bond
agreement. This cash was raised by the Company in its initial
public offering and bond financing, both of which closed on
February 16, 2007, and is set aside in three separate
accounts consisting of $10,032,000 for the construction of the
Woodbridge facility, $1,541,000 for the working capital
requirements of the Woodbridge subsidiary while the facility is
under construction and $3,023,000 in reserve for bond principal
and interest payments along with a reserve for lease payments.
The Company has classified this restricted cash as non-current
to the extent that such funds are to be used to acquire
non-current assets or are to be used to service non-current
liabilities. Third party trustee approval is required for
disbursement of all restricted funds.
Share-Based
Compensation
The Company accounts for equity instruments exchanged for
services in accordance with Statement of Financial Accounting
Standards (SFAS) No. 123R, Share-Based
Payment. Under the provisions of SFAS No. 123R,
share-based compensation issued to employees is measured at the
grant date, based on the fair value of the award, and is
recognized as an expense over the requisite service period
(generally the vesting period of the grant). Share-based
compensation issued to non-employees is measured at grant date,
based on the fair value of
27
the consideration received or the fair value of the equity
instruments issued, whichever is more readily measurable, and is
recognized as an expense over the requisite service period.
Construction
in Progress
Construction in progress includes amounts incurred for
construction costs, equipment purchases and capitalized interest
costs related to the construction of the Companys
Woodbridge facility.
Capitalization
of Interest Costs
The Company has capitalized interest costs, net of certain
interest income, in accordance with Statement of Financial
Accounting Standards No. 62, Capitalization of
Interest Cost Involving Certain Tax-Exempt Borrowings and
Certain Gifts and Grants, related to its New Jersey
Economic Development Authority Bonds in the amount of $403,572
and $-0- as of December 31, 2007 and December 31,
2006, respectively. Capitalized interest costs are included in
construction in progress on the consolidated balance sheets.
Research
and Development Costs
Research and development costs include the costs of engineering,
design, feasibility studies, outside services, personnel and
other costs incurred in development our manufacturing
facilities. All such costs are charged to expense as incurred.
Income
Taxes
In June 2006, the FASB issued FASB interpretation No. 48,
Accounting for Uncertainty in Income Taxes- an
interpretation of FASB Statement No. 109
(FIN No. 48). The Interpretation contains
a two-step approach to recognizing and measuring uncertain tax
positions accounted for in accordance with FASB Statement
No. 109. The first step is to evaluate the tax position for
recognition by determining if the weight of the available
evidence indicates that it is more likely than not that the
position will be sustained on audit, including resolution of
related appeals or litigation process, if any. The second step
is to measure the tax benefit as the largest amount which is
more than 50% likely of being realized upon ultimate settlement.
The Company has adopted FIN No. 48 as of
January 1, 2007. The adoption of FIN No. 48 did
not have any material impact on the Companys consolidated
financial statements.
Deferred income taxes are computed in accordance with
SFAS No. 109, Accounting for Income Taxes,
and reflect the net tax effects of temporary differences between
the financial reporting carrying amounts of assets and
liabilities and the corresponding income tax amounts. The
Company establishes a valuation allowance if it believes that it
is more likely than not that some or all of the deferred tax
assets will not be realized.
No provision for federal or state income taxes is recognized for
our predecessor organizations, MOM and HRRY, for the period
January 1, 2006 to February 21, 2006, as those
entities were limited liability companies. As such, taxable
income, losses, deductions and credits pass through to the
members to be reported on their tax returns.
The Company is subject to U.S. federal income tax as well
as income tax of certain state jurisdictions. The Company has
not been audited by the I.R.S. or any states in connection with
income taxes. The periods from inception through 2007 remain
open to examination by the I.R.S. and state authorities.
The Company recognizes interest accrued related to unrecognized
tax benefits in interest expense. Penalties, if incurred, are
recognized as a component of income tax expense.
Other
Long-Lived Assets
We account for our long-lived assets (excluding goodwill) in
accordance with SFAS No. 144, Accounting for the
Impairment of Long-lived Assets and for Long-lived Assets to be
Disposed of, which requires that long-lived assets and
certain intangible assets be reviewed for impairment whenever
events or changes in circumstances indicate that the carrying
amount may not be recoverable, such as technological changes or
significantly increased competition. If undiscounted expected
future cash flows are less than the carrying value of the
assets, an impairment
28
loss is to be recognized based on the fair value of the assets,
calculated using a discounted cash flow model. There is inherent
subjectivity and judgments involved in cash flow analyses such
as estimating revenue and cost growth rates, residual or
terminal values and discount rates, which can have a significant
impact on the amount of any impairment.
Other long-lived assets, such as identifiable intangible assets,
are amortized over their estimated useful lives. These assets
are reviewed for impairment whenever events or circumstances
provide evidence that suggests that the carrying amount of the
assets may not be recoverable, with impairment being based upon
an evaluation of the identifiable undiscounted cash flows. If
impaired, the resulting charge reflects the excess of the
assets carrying cost over its fair value. As described
above, there is inherent subjectivity involved in estimating
future cash flows, which can have a significant impact on the
amount of any impairment. Also, if market conditions become less
favorable, future cash flows (the key variable in assessing the
impairment of these assets) may decrease and as a result we may
be required to recognize impairment charges in the future.
Accounting
Standards Not Yet Adopted
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements (SFAS No. 157),
which provides a consistent definition of fair value which
focuses on exit price and prioritizes, within a measurement of
fair value, the use of market-based inputs over entity-specific
inputs. SFAS No. 157 requires expanded disclosures
about fair value measurements and establishes a three-level
hierarchy for fair value measurements based on the transparency
of inputs to the valuation of an asset or liability as of the
measurement date. The standard also requires that a company use
its own nonperformance risk when measuring liabilities carried
at fair value, including derivatives. SFAS No. 157 is
effective for financial assets and financial liabilities and for
nonfinancial assets and nonfinancial liabilities that are
remeasured at least annually for financial statements issued for
fiscal years beginning after November 15, 2007 and interim
periods within those fiscal years. The provisions of
SFAS No. 157 will be applied prospectively. As
permitted, the Company intends to defer adoption of
SFAS No. 157 for one year for nonfinancial assets and
nonfinancial liabilities that are recognized or disclosed at
fair value in the financial statements on a nonrecurring basis.
The Company is currently evaluating the effects, if any, that
SFAS No. 157 may have on our financial condition and
results of operations.
In February 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial Assets and Financial
Liabilities including an Amendment of
SFAS No. 115 (SFAS No. 159), which
permits an entity to measure certain financial assets and
financial liabilities at fair value that are not currently
required to be measured at fair value. Entities that elect the
fair value option will report unrealized gains and losses in
earnings at each subsequent reporting date. The fair value
option may be elected on an
instrument-by-instrument
basis, with few exceptions. SFAS No. 159 amends
previous guidance to extend the use of the fair value option to
available-for-sale and held-to-maturity securities. The
Statement also establishes presentation and disclosure
requirements to help financial statement users understand the
effect of the election. SFAS No. 159 is effective as
of the beginning of the first fiscal year beginning after
November 15, 2007. The Company is currently evaluating the
effects, if any, that SFAS No. 159 may have on our
financial condition and results of operations.
In June 2007, the FASB ratified Emerging Issue Task Force (EITF)
Issue
No. 07-3,
Accounting for Nonrefundable Payments for Goods or
Services to Be Used in Future Research and Development
Activities
(EITF 07-3),
requiring that nonrefundable advance payments for future
research and development activities be deferred and capitalized.
Such amounts should be expensed as the related goods are
delivered or the related services are performed. The Statement
is effective for fiscal years beginning after December 15,
2007. The Company does not expect that, upon adoption, this
guidance will have a material effect on our financial condition
and results of operations.
In June 2007, the FASB ratified EITF Issue
No. 06-11,
Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards
(EITF 06-11),
which requires entities to record to additional paid in capital
the tax benefits on dividends or dividend equivalents that are
charged to retained earnings for certain share-based awards. In
a share-based payment arrangement, employees may receive
dividends or dividend equivalents on awards of nonvested equity
shares, nonvested equity share units during the vesting period,
and share options until the exercise date. Generally, the
payment of such dividends can be treated as deductible
compensation for tax purposes. The
29
amount of tax benefits recognized in additional paid-in capital
should be included in the pool of excess tax benefits available
to absorb tax deficiencies on share-based payment awards.
EITF 06-11
is effective for fiscal years beginning after December 15,
2007, and interim periods within those years. The Company
estimates that upon adoption, this guidance will not have a
material effect on our financial condition and results of
operations.
In December 2007, the FASB issued SFAS No. 141(R),
Business Combinations (SFAS No. 141(R)),
which retained the underlying concepts of
SFAS No. 141, in that all business combinations are
still required to be accounted for at fair value under the
acquisition method of accounting, but SFAS No. 141(R)
changed the method of applying the acquisition method in a
number of significant aspects. SFAS No. 141(R) will
require that: (1) for all business combinations, the
acquirer records all assets and liabilities of the acquired
business, including goodwill, generally at their fair values;
(2) certain contingent assets and liabilities acquired be
recognized at their fair values on the acquisition date;
(3) contingent consideration be recognized at its fair
value on the acquisition date and, for certain arrangements,
changes in fair value be recognized in earnings until settled;
(4) acquisition-related transactions and restructuring
costs be expensed rather than treated as part of the cost of the
acquisition and included in the amount recorded for assets
acquired; (5) in step acquisitions, previous equity
interests in an acquiree held prior to obtaining control be
re-measured to their acquisition-date fair values, with any gain
or loss recognized in earnings; and (6) when making
adjustments to finalize initial accounting, companies revise any
previously issued post-acquisition financial information in
future financial statements to reflect any adjustments as if
they had been recorded on the acquisition date.
SFAS No. 141(R) is effective on a prospective basis
for all business combinations for which the acquisition date is
on or after the beginning of the first annual period subsequent
to December 15, 2008, with the exception of the accounting
for valuation allowances on deferred taxes and acquired tax
contingencies. SFAS No. 141(R) amends
SFAS No. 109 such that adjustments made to valuation
allowances on deferred taxes and acquired tax contingencies
associated with acquisitions that closed prior to the effective
date of this statement should also apply the provisions of
SFAS No. 141(R).
In December 2007, the FASB issued SFAS No. 160,
Noncontrolling Interests in Consolidated Financial
Statements, an Amendment of ARB 51
(SFAS No. 160), which amends ARB 51 to establish new
standards that will govern the accounting for reporting of
noncontrolling interests in partially owned consolidated
subsidiaries and the loss of control of subsidiaries. Also,
SFAS No. 160 requires that: (1) noncontrolling
interest, previously referred to as minority interest, be
reported as part of equity in the consolidated financial
statements; (2) losses be allocated to the noncontrolling
interest even when such allocation might result in a deficit
balance, reducing the losses attributed to the controlling
interest; (3) changes in ownership interest be treated as
equity transactions if control is maintained; and (4) upon
a loss of control, any gain or loss on the interest sold be
recognized in earnings. SFAS No. 160 is effective on a
prospective basis for all fiscal years, and interim periods
within those fiscal years, beginning on or after
December 15, 2008, except for the presentation and
disclosure requirements, which will be applied retrospectively.
The Company is currently evaluating the effects, if any, that
SFAS No. 160 may have on our financial condition and
results of operations.
Fair
Value of Financial Instruments
Statement of Financial Accounting Standards (SFAS) No. 107,
Fair Value of Financial Instruments, requires
disclosure of the fair value of financial instruments for which
the determination of fair value is practicable.
SFAS No. 107 defines the fair value of a financial
instrument as the amount at which the instrument could be
exchanged in a current transaction between willing parties. The
carrying amount of the Companys financial instruments
consisting of cash, accounts payable, and accrued expenses
approximate their fair value because of the short maturity of
those instruments. The fair value of the Companys term
notes payable and New Jersey Economic Development Authority bond
were estimated by discounting the future cash flows using
current rates offered by lenders for similar borrowings with
similar credit ratings. The fair value of the term notes payable
and the New Jersey Economic Development Authority bonds
approximate their carrying value. The Companys financial
instruments are held for other than trading purposes.
Results
of Operations
For the period from inception (May 3, 2003) until
December 31, 2007, we have been a development stage company
with no revenues. The Company began to earn revenues from its
Gonzales facility in February of 2008. In
30
addition, the Company incurred operating costs and expenses of
approximately $4,084,000 and $3,726,000 for the years ended
December 31, 2007 and 2006, respectively, and approximately
$10,374,000 for the period from inception (May 3,
2003) until December 31, 2007. Operating expenses
incurred since inception were approximately $6,469,000 for
general and administrative expenses, $2,324,000 for research and
development costs, and $74,000 for amortization expense. In
addition, since inception through December 31, 2007, the
Company incurred expenses of approximately $148,000 for
amortization of capitalized costs and $2,184,000 of interest
expense and earned interest income of approximately $824,000.
As of December 31, 2007, we had current assets of
approximately $3.2 million compared to $210,000 as of
December 31, 2006. Our total assets were approximately
$22.2 million as of December 31, 2007 compared to
approximately $1.6 million as of December 31, 2006.
The majority of the increase in both current and total assets
from 2006 to 2007 is due to restricted cash that was raised in
our initial public offering of common stock and the issuance of
New Jersey Economic Development Bonds, both of which closed on
February 16, 2007.
As of December 31, 2007, we had current liabilities of
approximately $2,501,000 compared to $3,734,000 at
December 31, 2006. This significant decrease is due largely
to the payment of bridge loans and demand notes. In addition, we
had long-term liabilities of approximately $17,589,000 as of
December 31, 2007 as compared to $0 at December 31,
2006. This increase is due to the issuance of the New Jersey
Economic Development Bonds in February 2007.
31
|
|
ITEM 7.
|
FINANCIAL
STATEMENTS
|
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS
32
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors of Converted Organics
Inc.
We have audited the accompanying consolidated balance sheets of
Converted Organics Inc. (the Company) (a development
stage company), as of December 31, 2007 and 2006, and the
related consolidated statements of operations, changes in
owners equity (deficiency) and cash flows for the years
then ended, and for the period from inception (May 2,
2003) through December 31, 2007. These consolidated
financial statements are the responsibility of the
Companys management. Our responsibility is to express an
opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audits to obtain
reasonable assurance about whether the consolidated financial
statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audits
included consideration of internal control over financial
reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Companys
internal control over financial reporting. Accordingly, we
express no such opinion. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the
consolidated financial statements, assessing the accounting
principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred
to above present fairly, in all material respects, the financial
position of Converted Organics Inc. as of December 31, 2007
and 2006, and the results of their operations and their cash
flows for the years then ended, and for the period from
inception (May 2, 2003) through December 31, 2007
in conformity with accounting principles generally accepted in
the United States of America.
/s/ Carlin, Charron & Rosen, LLP
Glastonbury, Connecticut
March 27, 2008
33
|
|
Item 7.
|
Financial
Statements
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
ASSETS
|
CURRENT ASSETS
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
287,867
|
|
|
$
|
66,853
|
|
Restricted cash
|
|
|
2,590,053
|
|
|
|
|
|
Prepaid rent
|
|
|
190,600
|
|
|
|
67,585
|
|
Other prepaid expenses
|
|
|
40,282
|
|
|
|
58,685
|
|
Interest receivable
|
|
|
55,450
|
|
|
|
15,733
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
3,164,252
|
|
|
|
208,856
|
|
|
|
|
|
|
|
|
|
|
Deposits
|
|
|
554,978
|
|
|
|
65,000
|
|
Restricted cash
|
|
|
12,006,359
|
|
|
|
|
|
Construction in progress
|
|
|
4,947,067
|
|
|
|
|
|
Capitalized bond costs, net
|
|
|
909,679
|
|
|
|
|
|
Intangible asset license, net
|
|
|
585,750
|
|
|
|
602,250
|
|
Deferred financing and issuance costs, net
|
|
|
8,642
|
|
|
|
680,958
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
22,176,727
|
|
|
$
|
1,557,064
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND OWNERS EQUITY (DEFICIENCY)
|
LIABILITIES
|
|
|
|
|
|
|
|
|
Term notes payable current
|
|
$
|
375,000
|
|
|
$
|
500,000
|
|
Accounts payable
|
|
|
898,270
|
|
|
|
657,107
|
|
Accrued compensation officers, directors and
consultants
|
|
|
397,781
|
|
|
|
300,000
|
|
Accrued legal and other
|
|
|
199,261
|
|
|
|
369,233
|
|
Accrued interest
|
|
|
630,890
|
|
|
|
142,619
|
|
Demand notes payable
|
|
|
|
|
|
|
250,000
|
|
Bridge loans payable
|
|
|
|
|
|
|
1,515,000
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
2,501,202
|
|
|
|
3,733,959
|
|
|
|
|
|
|
|
|
|
|
Term note payable, net of current portion
|
|
|
89,170
|
|
|
|
|
|
Bonds payable
|
|
|
17,500,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
20,090,372
|
|
|
|
3,733,959
|
|
|
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTINGENCIES (Note 11)
|
|
|
|
|
|
|
|
|
OWNERS EQUITY (DEFICIENCY)
|
|
|
|
|
|
|
|
|
Preferred stock, $.0001 par value, authorized
25,000,000 shares; no shares issued and outstanding
|
|
|
|
|
|
|
|
|
Common stock, $.0001 par value, authorized
75,000,000 shares
|
|
|
423
|
|
|
|
133
|
|
Additional paid-in capital
|
|
|
12,460,357
|
|
|
|
4,113,385
|
|
Deficit accumulated during the development stage
|
|
|
(10,374,425
|
)
|
|
|
(6,290,413
|
)
|
|
|
|
|
|
|
|
|
|
Total owners equity (deficiency)
|
|
|
2,086,355
|
|
|
|
(2,176,895
|
)
|
|
|
|
|
|
|
|
|
|
Total liabilities and owners equity (deficiency)
|
|
$
|
22,176,727
|
|
|
$
|
1,557,064
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an intergral part of these
consolidated financial statements.
34
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative
|
|
|
|
|
|
|
|
|
|
From Inception
|
|
|
|
|
|
|
|
|
|
(May 2, 2003)
|
|
|
|
Year Ended
|
|
|
through
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
Revenues
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative expenses
|
|
|
3,009,678
|
|
|
|
2,494,362
|
|
|
|
6,468,940
|
|
Research and development
|
|
|
648,664
|
|
|
|
178,337
|
|
|
|
2,323,813
|
|
Amortization of license
|
|
|
16,500
|
|
|
|
16,500
|
|
|
|
74,250
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations
|
|
|
(3,674,842
|
)
|
|
|
(2,689,199
|
)
|
|
|
(8,867,003
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income/(expenses)
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of capitalized costs
|
|
|
(62,429
|
)
|
|
|
(85,750
|
)
|
|
|
(148,179
|
)
|
Interest expense
|
|
|
(1,171,207
|
)
|
|
|
(951,812
|
)
|
|
|
(2,183,709
|
)
|
Interest income
|
|
|
824,466
|
|
|
|
|
|
|
|
824,466
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(409,170
|
)
|
|
|
(1,037,562
|
)
|
|
|
(1,507,422
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before provision for income taxes
|
|
|
(4,084,012
|
)
|
|
|
(3,726,761
|
)
|
|
|
(10,374,425
|
)
|
Provision for income taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(4,084,012
|
)
|
|
$
|
(3,726,761
|
)
|
|
$
|
(10,374,425
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share, basic and diluted
|
|
$
|
(1.17
|
)
|
|
$
|
(3.04
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding
|
|
|
3,480,015
|
|
|
|
1,225,388
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an intergral part of these
consolidated financial statements.
35
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deficit
|
|
|
|
|
|
|
|
|
|
Common Stock
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
Total
|
|
|
|
Shares Issued
|
|
|
|
|
|
Additional
|
|
|
During the
|
|
|
|
|
|
Owners
|
|
|
|
and
|
|
|
|
|
|
Paid-in
|
|
|
Development
|
|
|
Members
|
|
|
Equity
|
|
|
|
Outstanding
|
|
|
Amount
|
|
|
Capital
|
|
|
Stage
|
|
|
Equity
|
|
|
(Deficiency)
|
|
|
Balance at inception (May 2, 2003)
|
|
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Members contributions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,344,700
|
|
|
|
2,344,700
|
|
Members distributions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(7,460
|
)
|
|
|
(7,460
|
)
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,563,652
|
)
|
|
|
|
|
|
|
(2,563,652
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,563,652
|
)
|
|
|
2,337,240
|
|
|
|
(226,412
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recapitalization of members equity (Note 7)
|
|
|
600,000
|
|
|
|
60
|
|
|
|
2,337,180
|
|
|
|
|
|
|
|
(2,337,240
|
)
|
|
|
|
|
Issuance of common stock to founders (Note 7)
|
|
|
733,333
|
|
|
|
73
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
73
|
|
Issuance of stock options (Note 7)
|
|
|
|
|
|
|
|
|
|
|
1,018,705
|
|
|
|
|
|
|
|
|
|
|
|
1,018,705
|
|
Bridge loan rights (Note 6)
|
|
|
|
|
|
|
|
|
|
|
757,500
|
|
|
|
|
|
|
|
|
|
|
|
757,500
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3,726,761
|
)
|
|
|
|
|
|
|
(3,726,761
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2006
|
|
|
1,333,333
|
|
|
|
133
|
|
|
|
4,113,385
|
|
|
|
(6,290,413
|
)
|
|
|
|
|
|
|
(2,176,895
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of common stock and warrants in connection with the
Companys initial public offering (Note 7), net of
issuance costs of $1,736,715
|
|
|
1,800,000
|
|
|
|
180
|
|
|
|
8,163,105
|
|
|
|
|
|
|
|
|
|
|
|
8,163,285
|
|
Common stock and warrants issued in connection with bridge units
(Notes 6 and 7)
|
|
|
293,629
|
|
|
|
29
|
|
|
|
(29
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock issued in connection with extension of bridge
financing (Notes 6 and 7)
|
|
|
55,640
|
|
|
|
6
|
|
|
|
178,042
|
|
|
|
|
|
|
|
|
|
|
|
178,048
|
|
Issuance of stock options (Note 7)
|
|
|
|
|
|
|
|
|
|
|
5,929
|
|
|
|
|
|
|
|
|
|
|
|
5,929
|
|
Stock dividends (Note 7)
|
|
|
747,296
|
|
|
|
75
|
|
|
|
(75
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(4,084,012
|
)
|
|
|
|
|
|
|
(4,084,012
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
4,229,898
|
|
|
$
|
423
|
|
|
$
|
12,460,357
|
|
|
$
|
(10,374,425
|
)
|
|
$
|
|
|
|
$
|
2,086,355
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an intergral part of these
consolidated financial statements.
36
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative
|
|
|
|
|
|
|
|
|
|
From Inception
|
|
|
|
|
|
|
|
|
|
(May 2, 2003)
|
|
|
|
|
|
|
|
|
|
through
|
|
|
|
Year Ended December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(4,084,012
|
)
|
|
$
|
(3,726,761
|
)
|
|
$
|
(10,374,425
|
)
|
Adjustments to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of intangible asset license
|
|
|
16,500
|
|
|
|
16,500
|
|
|
|
74,250
|
|
Amortization of capitalized bond costs
|
|
|
43,696
|
|
|
|
|
|
|
|
43,696
|
|
Amortization of deferred financing fees
|
|
|
18,733
|
|
|
|
85,750
|
|
|
|
104,483
|
|
Amortization of discount on bridge loan
|
|
|
|
|
|
|
757,500
|
|
|
|
757,500
|
|
Stock option compensation expense
|
|
|
5,929
|
|
|
|
1,018,705
|
|
|
|
1,024,634
|
|
Compensation expense pursuant to common stock issued to founders
at incorporation
|
|
|
|
|
|
|
73
|
|
|
|
73
|
|
Stock issued for extension of bridge financing
|
|
|
178,048
|
|
|
|
|
|
|
|
178,048
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
(Increase) decrease in:
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid expenses and other current assets
|
|
|
(144,329
|
)
|
|
|
(207,003
|
)
|
|
|
(351,332
|
)
|
Deposits
|
|
|
(350,000
|
)
|
|
|
|
|
|
|
(350,000
|
)
|
Increase (decrease) in:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable and other accrued expenses
|
|
|
71,191
|
|
|
|
283,039
|
|
|
|
679,073
|
|
Accrued compensation officers, directors and
consultants
|
|
|
97,781
|
|
|
|
300,000
|
|
|
|
397,781
|
|
Accrued interest
|
|
|
488,271
|
|
|
|
86,929
|
|
|
|
630,890
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in operating activities
|
|
|
(3,658,192
|
)
|
|
|
(1,385,268
|
)
|
|
|
(7,185,329
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Release of restricted cash
|
|
|
6,050,199
|
|
|
|
|
|
|
|
6,050,199
|
|
Purchase of license
|
|
|
|
|
|
|
|
|
|
|
(660,000
|
)
|
Deposit on license
|
|
|
(139,978
|
)
|
|
|
|
|
|
|
(139,978
|
)
|
Capitalized interest
|
|
|
(403,572
|
)
|
|
|
|
|
|
|
(462,983
|
)
|
Construction costs
|
|
|
(4,543,495
|
)
|
|
|
|
|
|
|
(4,484,084
|
)
|
Restrictions of cash
|
|
|
(20,646,611
|
)
|
|
|
|
|
|
|
(20,646,611
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities
|
|
|
(19,683,457
|
)
|
|
|
|
|
|
|
(20,343,457
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Net proceeds from bond financing (Note 3)
|
|
|
16,546,625
|
|
|
|
|
|
|
|
16,546,625
|
|
Net proceeds from initial public offering of stock (Note 6)
|
|
|
8,859,784
|
|
|
|
|
|
|
|
8,859,784
|
|
Proceeds from term notes
|
|
|
89,170
|
|
|
|
|
|
|
|
589,170
|
|
Members contributions
|
|
|
|
|
|
|
|
|
|
|
2,344,700
|
|
Proceeds from demand notes
|
|
|
|
|
|
|
250,000
|
|
|
|
250,000
|
|
Proceeds from bridge loan, net
|
|
|
|
|
|
|
1,464,250
|
|
|
|
1,464,250
|
|
Members distributions
|
|
|
|
|
|
|
|
|
|
|
(7,460
|
)
|
Payments made for deferred issuance costs
|
|
|
(42,916
|
)
|
|
|
(262,500
|
)
|
|
|
(340,416
|
)
|
Repayment of term notes
|
|
|
(125,000
|
)
|
|
|
|
|
|
|
(125,000
|
)
|
Repayment of demand notes
|
|
|
(250,000
|
)
|
|
|
|
|
|
|
(250,000
|
)
|
Repayment of bridge loan
|
|
|
(1,515,000
|
)
|
|
|
|
|
|
|
(1,515,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities
|
|
|
23,562,663
|
|
|
|
1,451,750
|
|
|
|
27,816,653
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCREASE IN CASH
|
|
|
221,014
|
|
|
|
66,482
|
|
|
|
287,867
|
|
CASH, beginning of period
|
|
|
66,853
|
|
|
|
371
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH, end of period
|
|
$
|
287,867
|
|
|
$
|
66,853
|
|
|
$
|
287,867
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental cash flow information:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid during the period in:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
908,456
|
|
|
$
|
|
|
|
$
|
1,031,572
|
|
Non-cash financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred financing and issuance costs
|
|
$
|
|
|
|
$
|
440,098
|
|
|
$
|
440,098
|
|
Discount for the bridge equity units
|
|
|
|
|
|
|
757,500
|
|
|
|
757,500
|
|
Issuance costs paid from proceeds of initial public offering
|
|
|
1,040,216
|
|
|
|
|
|
|
|
1,040,216
|
|
Issuance costs paid from proceeds of bond financing
|
|
|
953,375
|
|
|
|
|
|
|
|
953,375
|
|
The accompanying notes are an intergral part of these
consolidated financial statements.
37
|
|
NOTE 1
|
SIGNIFICANT
ACCOUNTING POLICIES
|
CONSOLIDATION
The accompanying consolidated financial statements include the
transactions and balances of Converted Organics Inc. and its
wholly-owned subsidiary, Converted Organics of Woodbridge, LLC
(collectively the Company). All intercompany
transactions and balances have been eliminated in consolidation.
NATURE
OF OPERATIONS
Converted Organics Inc. (a development stage company)
(Converted) is planning to use food waste as a
foodstock to manufacture, sell and distribute all-natural soil
amendment products combining disease suppression and nutrition
characteristics (also see Note 12). Converted Organics of
Woodbridge, LLC (Woodbridge), a New Jersey limited
liability company and wholly-owned subsidiary of Converted, was
formed for the purpose of owning, constructing and operating the
Woodbridge, New Jersey facility. The Companys revenues are
expected to come from two sources: tip fees and product sales.
Waste haulers will pay the Company tip fees for
accepting food waste generated by food distributors such as
grocery stores, produce docks and fish markets, food processors,
and hospitality venues such as hotels, restaurants, convention
centers and airports. Revenue will also come from the sale of
the Companys fertilizer products. The Companys
products will possess a combination of nutritional, disease
suppression and soil amendment characteristics. The
Companys initial facility, Woodbridge, is designed to
service the New York-Northern New Jersey metropolitan area. The
Company is constructing this facility and expects it to be
operational in the second quarter of 2008.
Converted was incorporated in the State of Delaware on
January 4, 2006. On February 21, 2006, Converted
merged with Mining Organics Management LLC (MOM) and
Mining Organics Harlem River Rail Yard LLC (HRRY).
As discussed in Note 7, the mergers were accounted for as a
recapitalization. MOM and HRRY had been previously organized as
Massachusetts limited liability companies on May 2, 2003
and July 29, 2003, respectively. MOM and HRRY were formed
to promote the principal business objective of Converted
Organics Inc. that is, to implement licensed technology to
facilitate the conversion of food waste into solid and liquid
fertilizer products. MOM was originally intended to be the
principal operating entity, and HRRY was a location-specific
entity that was formed to develop business opportunities in New
York. Thereafter, to consolidate the various related entities,
Converted Organics Inc. was formed and HRRY and MOM were merged
into it. As a result, the historical financial results of MOM
and HRRY have been reflected in the Companys consolidated
financial statements. As a result of the merger of Converted
Organics Inc. and HRRY, each of the members of HRRY received
300,000 shares of Converted Organics Inc. common stock. No
shares of Converted Organics Inc. common stock were issued in
connection with the merger between Converted Organics Inc. and
MOM because MOM did not contribute any value as of the date of
the merger.
DEVELOPMENT
STAGE COMPANY
The Company is a development stage company as defined by
Statement of Financial Accounting Standards (SFAS) No. 7,
Accounting and Reporting by Development Stage
Enterprises, as it has no principal operations or
revenue from any source. Operations from the Companys
inception have been devoted primarily to strategic planning,
raising capital, constructing its initial facility and
developing revenue-generating opportunities.
USE OF
ESTIMATES
The preparation of consolidated financial statements in
conformity with accounting principles generally accepted in the
United States of America requires management to make estimates
and assumptions that affect the reported amounts and disclosures
in the consolidated financial statements. Actual results could
differ from those estimates.
38
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 1
SIGNIFICANT ACCOUNTING
POLICIES Continued
CASH
AND CASH EQUIVALENTS
Cash Equivalents: The Company considers
financial instruments with a maturity date of three months or
less from the date of purchase to be cash equivalents. The
Company has no cash equivalents at December 31, 2007 and
2006.
Restricted Cash: As of December 31, 2007
the Company had remaining approximately $14,596,000 of cash
which is restricted under its bond agreement (Note 6). This
cash was raised by the Company in its initial public offering
and bond financing on February 16, 2007 and is set aside in
three separate accounts consisting of $10,032,000 for the
construction of the Woodbridge operating facility, $1,541,000
for the working capital requirements of the Woodbridge
subsidiary while the facility is under construction and
$3,023,000 in reserve for bond principal and interest payments
along with a reserve for lease payments. The Company has
classified this restricted cash as non-current to the extent
that such funds are to be used to acquire non-current assets or
are to be used to service non-current liabilities. Third party
trustee approval is required for disbursement of all restricted
funds.
PREPAID
RENT
The Company has recorded prepaid rent on its consolidated
balance sheets which represents the difference between actual
lease rental payments made as of December 31, 2007 and 2006
and the straight line rent expense recorded in the
Companys consolidated statements of operations for the
years then ended relating to the Companys Woodbridge, New
Jersey facility.
DEPOSITS
The Company has made deposits totaling $415,000 for its
Woodbridge facility (Note 11) in accordance with the
terms of that lease and has made a deposit of $139,978 for a
license at its planned Rhode Island facility (Notes 4 and
12). These amounts are recorded as noncurrent assets on the
Companys consolidated balance sheets.
SHARE
BASED COMPENSATION
The Company accounts for share based compensation in accordance
with Statement of Financial Accounting Standards
(SFAS) No. 123(R), Share-Based
Payment. Under the provisions of
SFAS No. 123(R), share-based compensation issued to
employees is measured at the grant date, based on the fair value
of the award, and is recognized as an expense over the requisite
service period (generally the vesting period of the grant).
Share-based compensation issued to non-employees is measured at
the grant date, based on the fair value of the equity
instruments issued and is recognized as an expense over the
requisite service period.
CONSTRUCTION
IN PROGRESS
Construction in progress on the consolidated balance sheets
includes amounts incurred for construction costs, equipment
purchases and capitalized interest costs
(Note 5) related to the construction of the
Companys Woodbridge, New Jersey facility.
RESEARCH
AND DEVELOPMENT COSTS
Research and development costs include the costs of engineering,
design, feasibility studies, outside services, personnel and
other costs incurred in development of the Companys
manufacturing facilities. All such costs are charged to expense
as incurred.
39
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 1
SIGNIFICANT ACCOUNTING
POLICIES Continued
INCOME
TAXES
Deferred income taxes are computed in accordance with
SFAS No. 109, Accounting for Income
Taxes and reflect the net tax effects of temporary
differences between the financial reporting carrying amounts of
assets and liabilities for financial reporting and income tax
purposes. The Company establishes a valuation allowance if it
believes that it is more likely than not that some or all of the
deferred tax assets will not be realized (see Note 8).
No provision for federal or state income taxes is recognized for
MOM and HRRY for the period January 1, 2006 to
February 21, 2006, as those entities were limited liability
companies. As such, taxable income, losses, deductions and
credits pass through to the members to be reported on their tax
returns.
The Company is subject to U.S. federal income tax as well
as income tax of certain state jurisdictions. The Company has
not been audited by the I.R.S. or any states in connection with
income taxes. The periods from inception through 2007 remain
open to examination by the I.R.S. and state authorities.
On January 1, 2007, the Company adopted the provisions of
FASB interpretation No. 48, Accounting for
Uncertainty in Income Taxes- an interpretation of FASB Statement
No. 109 (FIN No. 48). The
Interpretation contains a two step approach to recognizing and
measuring uncertain tax positions accounted for in accordance
with FASB Statement No. 109. The first step is to evaluate
the tax position for recognition by determining if the weight of
the available evidence indicates that it is more likely than not
that the position will be sustained on audit, including
resolution of related appeals or litigation process, if any. The
second step is to measure the tax benefit as the largest amount
which is more than 50% likely of being realized upon ultimate
settlement. The adoption of FIN No. 48 did not have
any material impact on the Companys consolidated financial
statements.
The Company recognizes interest accrued related to unrecognized
tax benefits in interest expense. Penalties, if incurred, are
recognized as a component of income tax expense.
INTANGIBLE
ASSET LICENSE
The Company accounts for its intangible asset (license on the
Woodbridge facility Note 4) in accordance
with SFAS No. 142, Goodwill and Other
Intangible Assets. SFAS No. 142 requires
that intangible assets with finite lives, such as the
Companys license, be amortized over their respective
estimated lives and reviewed for impairment whenever events or
other changes in circumstances indicate that the carrying amount
may not be recoverable in accordance with
SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets. An impairment charge
is recognized if a reporting units intangible asset carrying
amount exceeds its implied fair value.
ACCOUNTING
STANDARDS NOT YET ADOPTED
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements
(SFAS No. 157) which provides a consistent
definition of fair value which focuses on exit price and
prioritizes, within a measurement of fair value, and the use of
market-based inputs over entity-specific inputs.
SFAS No. 157 requires expanded disclosures about fair
value measurements and establishes a three-level hierarchy for
fair value measurements based on the transparency of inputs to
the valuation of an asset or liability as of the measurement
date. The standard also requires that a company use its own
nonperformance risk when measuring liabilities carried at fair
value, including derivatives. SFAS No. 157 is
effective for financial assets and financial liabilities and for
nonfinancial assets and nonfinancial liabilities that are
remeasured at least annually for financial statements issued for
fiscal years beginning after November 15, 2007 and interim
periods within those fiscal years. The provisions of
SFAS No. 157 will be applied prospectively. As
permitted, the Company intends to defer adoption of
SFAS No. 157 for one year for nonfinancial assets and
nonfinancial liabilities that are recognized or disclosed at
fair value in the financial
40
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 1
SIGNIFICANT ACCOUNTING
POLICIES Continued
statements on a nonrecurring basis. The Company is currently
evaluating the effects, if any, that SFAS No. 157 may
have on our financial condition and results of operations.
In February 2007, the FASB issued SFAS No. 159
The Fair Value Option for Financial Assets and Financial
Liabilities including an Amendment of
SFAS No. 115 (SFAS No. 159), which
permits an entity to measure certain financial assets and
financial liabilities at fair value that are not currently
required to be measured at fair value. Entities that elect the
fair value option will report unrealized gains and losses in
earnings at each subsequent reporting date. The fair value
option may be elected on an
instrument-by-instrument
basis, with few exceptions. SFAS No. 159 amends
previous guidance to extend the use of the fair value option to
available-for-sale and held-to-maturity securities. The
Statement also establishes presentation and disclosure
requirements to help financial statement users understand the
effect of the election. SFAS No. 159 is effective as
of the beginning of the first fiscal year beginning after
November 15, 2007. The Company is currently evaluating the
effects, if any, that SFAS No. 159 may have on our
financial condition and results of operations.
In June 2007, the FASB ratified Emerging Issue Task Force (EITF)
Issue
No. 07-3,
Accounting for Nonrefundable Payments for Goods or
Services to Be Used in Future Research and Development
Activities
(EITF 07-3),
requiring that nonrefundable advance payments for future
research and development activities be deferred and capitalized.
Such amounts should be expensed as the related goods are
delivered or the related services are performed. The Statement
is effective for fiscal years beginning after December 15,
2007. The Company does not expect that upon adoption, this
guidance will not have a material effect on our financial
condition and results of operations.
In June 2007, the FASB ratified EITF Issue
No. 06-11,
Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards
(EITF 06-11),
which requires entities to record to additional paid in capital
the tax benefits on dividends or dividend equivalents that are
charged to retained earnings for certain share-based awards. In
a share-based payment arrangement, employees may receive
dividends or dividend equivalents on awards of nonvested equity
shares, nonvested equity share units during the vesting period,
and share options until the exercise date. Generally, the
payment of such dividends can be treated as deductible
compensation for tax purposes. The amount of tax benefits
recognized in additional paid-in capital should be included in
the pool of excess tax benefits available to absorb tax
deficiencies on share-based payment awards.
EITF 06-11
is effective for fiscal years beginning after December 15,
2007, and interim periods within those years. The Company
estimates that upon adoption, this guidance will not have a
material effect on our financial condition and results of
operations.
In December 2007, the FASB issued SFAS No. 141(R),
Business Combinations
(SFAS No. 141(R)) which retained the underlying
concepts of SFAS No. 141, in that all business
combinations are still required to be accounted for at fair
value under the acquisition method of accounting, but
SFAS No. 141(R) changed the method of applying the
acquisition method in a number of significant aspects.
SFAS No. 141(R) will require that: (1) for all
business combinations, the acquirer records all assets and
liabilities of the acquired business, including goodwill,
generally at their fair values; (2) certain contingent
assets and liabilities acquired be recognized at their fair
values on the acquisition date; (3) contingent
consideration be recognized at its fair value on the acquisition
date and, for certain arrangements, changes in fair value be
recognized in earnings until settled;
(4) acquisition-related transactions and restructuring
costs be expensed rather than treated as part of the cost of the
acquisition and included in the amount recorded for assets
acquired; (5) in step acquisitions, previous equity
interests in an acquiree held prior to obtaining control be
re-measured to their acquisition-date fair values, with any gain
or
loss
recognized in earnings; and (6) when making adjustments to
finalize initial accounting, companies revise any previously
issued post-acquisition financial information in future
financial statements to reflect any adjustments as if they had
been recorded on the acquisition date. SFAS No. 141(R)
is effective on a prospective basis for all business
combinations for which the acquisition date is on or after the
beginning of the first annual period subsequent to
December 15, 2008, with the exception of the accounting for
valuation allowances on deferred taxes
41
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 1
SIGNIFICANT ACCOUNTING
POLICIES Continued
and acquired tax contingencies. SFAS No. 141(R) amends
SFAS No. 109 such that adjustments made to valuation
allowances on deferred taxes and acquired tax contingencies
associated with acquisitions that closed prior to the effective
date of this statement should also apply the provisions of
SFAS No. 141(R).
In December 2007, the FASB issued SFAS No. 160,
Noncontrolling Interests in Consolidated Financial
Statements, an Amendment of ARB 51
(SFAS No. 160) which amends ARB 51 to
establish new standards that will govern the accounting for
reporting of noncontrolling interests in partially owned
consolidated subsidiaries and the loss of control of
subsidiaries. Also, SFAS No. 160 requires that:
(1) noncontrolling interest, previously referred to as
minority interest, be reported as part of equity in the
consolidated financial statements; (2) losses be allocated
to the noncontrolling interest even when such allocation might
result in a deficit balance, reducing the losses attributed to
the controlling interest; (3) changes in ownership interest
be treated as equity transactions if control is maintained; and
(4) upon a loss of control, any gain or loss on the
interest sold be recognized in earnings. SFAS No. 160
is effective on a prospective basis for all fiscal years, and
interim period with those fiscal years, beginning on or after
December 15, 2008, except for the presentation and
disclosure requirements, which will be applied retrospectively.
The Company is currently evaluating the effects, if any, that
SFAS No. 160 may have on the Companys financial
condition and results of operations.
EARNINGS
(LOSS) PER SHARE
Basic earnings (loss) per share (EPS) is computed by
dividing the net income (loss) attributable to the common
stockholders (the numerator) by the weighted average number of
shares of common stock outstanding (the denominator) during the
reporting periods. Diluted income (loss) per share is computed
by increasing the denominator by the weighted average number of
additional shares that could have been outstanding from
securities convertible into common stock, such as stock options
and warrants (using the treasury stock method), and
convertible preferred stock and debt (using the
if-converted method), unless their effect on net
income (loss) per share is antidilutive. Under the
if-converted method, convertible instruments are
assumed to have been converted as of the beginning of the period
or when issued, if later. The effect of computing the
Companys diluted income (loss) per share is antidilutive
and, as such, basic and diluted earnings (loss) per share are
the same for each of the years ended December 31, 2007 and
2006.
PROFIT
SHARING PLAN
In November 2007, the Company instituted a 401(K) plan for its
employees. The plan allows for employees to have a pretax
deduction of up to 15% of pay set aside for retirement. The plan
also allows for a Company match and profit sharing contribution.
As of December 31, 2007, the Company has not provided a
match of employee contributions nor did the Company contribute a
profit sharing amount to the plan.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to
the current year presentation.
|
|
NOTE 2
|
FAIR
VALUE OF FINANCIAL INSTRUMENTS
|
CONCENTRATIONS
OF CREDIT RISK
The Companys financial instrument that is exposed to a
concentration of credit risk is cash, including restricted cash.
Currently, the Company maintains its cash accounts with balances
in excess of the federally insured limits. The Company mitigates
this risk by selecting high quality financial institutions to
hold such cash deposits. At December 31, 2007, the
Companys cash balances on deposit exceeded federal
depository insurance limits by approximately $14,500,000.
42
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 2
|
FAIR
VALUE OF FINANCIAL
INSTRUMENTS Continued
|
FAIR
VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards (SFAS) No. 107,
Fair Value of Financial Instruments, requires
disclosure of the fair value of financial instruments for which
the determination of fair value is practicable.
SFAS No. 107 defines the fair value of a financial
instrument as the amount at which the instrument could be
exchanged in a current transaction between willing parties. The
carrying amount of the Companys financial instruments
consisting of cash, accounts payable, and accrued expenses
approximate their fair value because of the short maturity of
those instruments. The fair value of the Companys term
notes payable and New Jersey Economic Development Authority
Bonds were estimated by discounting the future cash flows using
current rates offered by lenders for similar borrowings with
similar credit ratings. The fair value of the term notes payable
and the New Jersey Economic Development Authority bonds
approximate their carrying value. The Companys financial
instruments are held for other than trading purposes.
DEFERRED
FINANCING AND OFFERING COSTS
In connection with its initial public offering (IPO) on
February 16, 2007 (Note 7), the Company incurred
issuance costs totaling $1,736,715. The Company had previously
capitalized issuance costs, consisting of underwriting, legal
and accounting fees and printing costs cumulatively totaling
$696,499 and $680,958 at February 16, 2007 and
December 31, 2006, respectively, in anticipation of its
initial public offering. The Company also incurred additional
issuance costs of $1,040,216 that was paid from the proceeds of
the initial public offering. The total issuance costs of
$1,736,715 have been netted against the $9.9 million of
gross proceeds of the IPO in the statements of changes in
owners equity (deficiency).
In connection with its repayment of the bridge notes
(Note 6), the Company paid to the bridge lender a Letter of
Credit fee of $27,375. The fee has been recorded as a deferred
financing fee and is being amortized over the term of the Letter
of Credit. Amortization of these deferred financing fees totaled
$18,733 for the year ended December 31, 2007.
The Company also paid $85,750 in financing and broker fees
during 2006 in connection with its bridge financing. The
deferred financing and broker fees were amortized over the
original term of the bridge loan (Note 6). Total
amortization of deferred financing fees was $-0- and $85,750 for
the years ended December 31, 2007 and 2006, respectively.
CAPITALIZED
BOND COSTS
In connection with its $17.5 million bond financing on
February 16, 2007 (Note 6), the Company has
capitalized bond issuance costs of $953,375 and is amortizing
those costs over the life of the bond. Amortization of
capitalized bond issuance costs totaled $43,696 for the year
ended December 31, 2007.
|
|
NOTE 4
|
INTANGIBLE
ASSET LICENSE
|
Pursuant to a license agreement with an effective date of
July 15, 2003 and amended effective February 9, 2006,
the Company entered into an exclusive license to use its
Enhanced Autogenous Thermophylic Aerobic Digestion process
(EATAD) technology for the design, construction and operation of
facilities for the conversion of food waste into solid and
liquid organic material. The license is recorded at its
acqusition cost of $660,000 less accumulated amortization of
$74,250 and $57,750 as of December 31, 2007 and 2006,
respectively. Amortization is provided using the straight-line
method over the life of the license. Amortization expense for
the years ended December 31, 2007 and 2006, and cumulative
from inception (May 2, 2003) to December 31,
2007, was $16,500,
43
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 4
|
INTANGIBLE
ASSET
LICENSE Continued
|
$16,500, and $74,250, respectively. The Company expects the
licenses annual amortization expense to be $16,500 until
fully amortized at the end of the 40 year license period.
The Company is obligated to pay IBRC an aggregate royalty equal
to nine percent of the future gross revenues from the sale of
product produced by the Woodbridge facility. The license
agreement, containing this royalty provision, may be terminated
at IBRCs option if the Company does not commence
continuous operations at the Woodbridge facility, as defined in
the license agreement, by July 1, 2008. The Company is also
obligated to purchase IBRCs patented macerators and
shearators as specified by or supplied by IBRC or Shearator
Corporation for use at the Woodbridge facility.
In addition, the Company paid a non-refundable deposit of
$139,978 to IBRC in 2007 (Note 1) on a second plant
licensing agreement. The Company also agreed to pay IBRC
approximately $245,000 in twelve equal monthly installments for
market research, growth trails and other services. For the year
ended December 31, 2007, the Company had paid approximately
$143,000 of this amount which has been included in research and
development in the Companys consolidated statements of
operations.
NOTE 5
CONSTRUCTION IN PROGRESS
The Company is currently constructing an operating facility in
Woodbridge, New Jersey. The funds for construction of this plant
came from the issuance of New Jersey Economic Development Bonds
on February 16, 2007 (Note 6). A condition of this
bond offering was that the Company place in trust approximately
$14 million (Note 1) to be used for plant
construction and associated equipment purchases. As of
December 31, 2007, the Company has incurred approximately
$4.9 million in plant construction costs, equipment
purchases and capitalized interest costs. The Company has
recorded those costs as construction in progress on its
consolidated balance sheets as of December 31, 2007. When
the plant is completed and operational, the Company plans to
transfer the construction in progress amount to the appropriate
fixed asset category and will begin depreciation of those assets.
The Company has capitalized interest costs, net of certain
interest income, in accordance with Statement of Financial
Accounting Standards No. 62, Capitalization of
Interest Cost Involving Certain Tax-Exempt Borrowings and
Certain Gifts and Grants, related to its New Jersey
Economic Development Authority Bonds (Note 6) in the
amount of $403,572 and $-0- as of December 31, 2007 and
December 31, 2006, respectively. Capitalized interest costs
are included in construction in progress on the consolidated
balance sheets.
DEMAND
NOTES PAYABLE
The Company had three demand notes payable which accrued
interest at 10% and were repaid in May, 2007.
TERM
NOTES PAYABLE
The Company has three term notes payable: (1) $250,000
unsecured term note dated August 27, 2004, with an original
maturity date of September 30, 2006, which has been
extended to December 31, 2008, with interest at 12%,
(2) $250,000 unsecured term note dated September 6,
2005, with an original maturity of September 15, 2006,
which was extended to December 31, 2008, with interest at
15%, and (3) $89,170 unsecured term note dated May 2,
2007 with a maturity of May 2, 2009 and interest at 12%.
During February 2007, $125,000 of principal was repaid on the
unsecured term note dated September 6, 2005. On all notes,
interest accrues without payment until maturity. The agreement
on the term loan dated August 27, 2004 required accrued
interest of $89,170 to be paid immediately in order to refinance
and extend the maturity. As the Company was precluded under the
terms of the agreement with the bondholders of the New Jersey
Economic Development Authority Bonds from paying the accrued
interest from
44
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 6
|
DEBT Continued
|
available funds, the Company borrowed funds to repay this
accrued interest by entering into the May 2, 2007 term loan
in the amount of $89,170 with its CEO, Edward J. Gildea. This
note is unsecured and subordinate to the bonds, and has a
two-year term. This interest rate is equal to or less than
interest paid on the Companys other term loans. The
Company obtained the necessary bondholder consents to enter into
this agreement. As of December 31, 2007, the total of
unpaid accrued interest on these notes is $47,500.
A schedule of outstanding principal amounts of the term notes as
of December 31, 2007 and 2006 is as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Term note dated August 27, 2004
|
|
$
|
250,000
|
|
|
$
|
250,000
|
|
Term note dated September 6, 2005
|
|
|
125,000
|
|
|
|
250,000
|
|
Term note dated May 2, 2007
|
|
|
89,170
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
464,170
|
|
|
|
500,000
|
|
Less: current portion
|
|
|
(375,000
|
)
|
|
|
(500,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
89,170
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
BRIDGE
LOANS PAYABLE
On March 2, 2006, the Company completed a $500,000 bridge
loan (Bridge Loan) from lenders (Bridge
Noteholders) to help meet the Companys working
capital needs. The bridge loan accrued interest at an annual
rate of 8%, which was payable in arrears quarterly, and was
originally due and payable on the earlier of October 16,
2006 or the completion of a public offering of equity securities
(Qualified Public Offering). The bridge loan was
refinanced with an extended maturity date of February 19,
2007 or the completion of a Qualified Public Offering. The
placement agent for the bridge loan received a commission equal
to 5% of the gross proceeds. The Company received the $500,000
bridge loan net of the commission to the placement agent of
$25,000. The Company has classified this cost as a deferred
financing cost.
In April, May and June 2006, the Company received additional
proceeds totaling $1,015,000 (net of a $50,750 commission to the
placement agent) from a series of promissory notes executed with
the Bridge Noteholders (Bridge Financing).
In connection with the Bridge Financing, the Company issued
bridge notes (Bridge Notes) and securities of the
Company (Bridge Equity Units) to the Bridge
Noteholders, stating that if a Qualified Public Offering occurs
before October 16, 2006 (extended to February 19,
2007), the Bridge Noteholders will be entitled to receive Bridge
Equity Units consisting of securities identical in form to the
securities being offered in the Qualified Public Offering. Each
Bridge Noteholder will be entitled to receive Bridge Equity
Units equal to the principal of the Bridge Noteholders
bridge loan divided by the initial public offering price of the
securities comprising the Bridge Equity Units.
The Bridge Loans and the Bridge Equity Units were allocated for
accounting purposes based on the relative fair values at the
time of issuance of (i) the Bridge Loans without the Bridge
Equity Units and (ii) the Bridge Equity Units themselves.
The fair value of the Bridge Loans and the Bridge Equity Units
was computed at $1,515,000 each. The $1,515,000 fair value was
determined since the Company obtained $1,515,000 in Bridge
Financing from Bridge Noteholders. At the closing of a public
offering on or before February 19, 2007 bridge lenders
would be entitled to receive units identical to the units being
offered in the Companys initial public offering. Each
bridge lender would be entitled to receive that number of units
equal to the principal of the lenders note divided by the
initial public offering price. Stated differently, upon closing
of an initial public offering on or before February 19,
2007, the Company would be obligated to issue to the bridge
lenders a number of units commensurate with a market
45
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 6
|
DEBT Continued
|
value of $1,515,000. Since they were of equal value, the
$1,515,000 was allocated 50% to the Bridge Loans and 50% to the
Bridge Equity Units. The Bridge Equity Units of $757,500 were
accounted for as paid-in capital. The Bridge Loans of $1,515,000
were recorded on the balance sheet net of the $757,500 discount
on the Bridge Loans. The discount for the Bridge Equity Units
($757,500) was amortized into interest expense over the original
life of the Bridge Loans. For the year ended December 31,
2007, the Company recorded $757,500 in interest expense related
to the amortization of this discount.
On February 16, 2007 the Company completed its initial
public offering and issued 293,629 Bridge Equity Units to the
Bridge Noteholders. In addition, the Company and the Bridge
Noteholders, agreed under the terms of a concurrent bond
offering at the time of the initial public offering, not to
repay the principal or accrued interest on the Bridge Notes at
that time.
The Company had $1,515,000 of outstanding Bridge Loans that
accrued interest at a rate of 18%, and under the terms of the
loans, were to be repaid on the earlier of February 19,
2007 or the date of the Companys initial public offering.
Due to certain covenants relating to the offering of bonds on
February 16, 2007, which prohibited the Company from
repaying these bridge loans, the Company entered into an
agreement whereby it could repay the Bridge Loans if the Bridge
Noteholders agreed to obtain a letter of credit in favor of the
Company. The Company reached agreements with the Bridge
Noteholders and the demand note lender to repay the entire
principal and accrued interest on these debts. The principal of
the Bridge Loans of $1,515,000 plus accrued interest of
approximately $160,000, along with principal of the demand note
of $150,000 plus accrued interest of approximately $7,000, was
repaid by the Company on May 23, 2007 from unrestricted
cash. In addition, for the various term extensions granted by
the Bridge Noteholders, the Company issued approximately
56,000 shares of common stock, which represents 10% of the
principal and interest repaid, divided by the
five-day
average share price prior to repayment of the debt. The
statements of operations includes interest expense of $178,048
related to the issuance of this stock.
In order for the repayment of bridge and demand loans to comply
with the terms of the covenants of the bondholders of the New
Jersey Economic Development Authority Bonds, the Bridge
Noteholders obtained a letter of credit in favor of the Company
for $1,825,000. This letter of credit was due to expire on
April 7, 2008, and allows for a one-time draw down during
the thirty days prior to expiration. The letter of credit is
supported by assets of the Bridge Noteholders, and the Company
has paid the letter of credit fee of $27,375. In the event that
the Company utilizes the funds available under the letter of
credit, the Company is required to 1) repay principal and
interest at 12% within one year, and 2) issue additional
shares equal to 60% of the amount utilized, calculated by
dividing 60% of the amount used by the then-current share price.
If the total letter of credit were used, the total shares issued
under this calculation would be approximately 211,000 based on
the December 31, 2007 closing price. The Company has no way
to determine how many shares would actually be issued in the
future, nor the amount that might be drawn on the letter of
credit. The Company has agreed not to issue more than 20% of the
then outstanding common shares without shareholder consent. If
the letter of credit agreement is extended beyond one year, the
interest rate increases to 18% and the Company is required to
issue additional extension shares equal to
81/3%
of the outstanding balance of the note on a monthly basis. The
Company has received the approval from the bondholders of the
New Jersey Economic Development Authority Bonds to enter into
this agreement. Subsequent to December 31, 2007 and prior
to the expiration date of the letter of credit (April 7,
2008), the letter of credit agreement was terminated with no
cost to the Company.
BOND
FINANCING
On February 16, 2007, concurrent with its initial public
offering, Converteds wholly-owned subsidiary, Converted
Organics of Woodbridge, LLC, (the Subsidiary)
completed the sale of $17,500,000 of New Jersey Economic
Development Authority Bonds. Direct financing costs related to
this issuance totaled $953,375, which
46
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 6
|
DEBT Continued
|
have been capitalized and are being amortized over the term of
the bonds. The bonds carry a stated interest rate of 8% and
mature on August 1, 2027. The bonds are secured by a
leasehold mortgage and a first lien on the equipment of the
Subsidiary. In addition, the Subsidiary has agreed to, among
other things, establish a fifteen month capitalized interest
reserve and to comply with certain financial statement ratios.
Converted has provided a guarantee to the bondholders on behalf
of its wholly-owned Subsidiary for the entire bond offering.
The New Jersey Economic Development Bonds have certain
covenants, which among other things, preclude the Company from
making any dividends, payments or other cash distributions until
such time as (i) the Company has achieved, over the course
of a full fiscal year, a maximum annual debt service coverage
ratio greater than 1.50, (ii) at least $1,200,000 is on
deposit with the Trustee in the operations and maintenance
reserve fund and is available to satisfy ongoing maintenance,
repair and replacement costs associated with the project
facilities. In addition, the Company is precluded from borrowing
additional funds under any debt agreements, without the consent
of the bondholders. During 2007, the Company received a consent
from the bondholder prior to borrowing additional funds for a
two year term note. Under the terms of the bond agreement, the
lender has the right, upon 30 days written notice, to
demand full payment of all outstanding principal and interest
amounts owed under the agreement if specific covenants are not
met. As of December 31, 2007, the Company is in compliance
with these covenants of the bond agreement.
CAPITALIZED
BOND COSTS
Capitalized bond costs are stated at cost of $953,375 less
accumulated amortization of $43,696 as of December 31,
2007. Amortization of capitalized bond costs totaled $43,696 for
the year ended December 31, 2007.
|
|
NOTE 7
|
OWNERS
EQUITY (DEFICIENCY)
|
STOCK
ISSUANCES
The Company is authorized to issue 75,000,000 shares of
$0.0001 par value common stock. Of the authorized shares,
733,333 of the authorized shares were issued to the founders of
the Company (founders shares) on
January 13, 2006. The Company did not receive any
consideration for the founders shares. Because the Company
had a negative estimated value on January 13, 2006, the
Company recognized compensation expense at par value totaling
$73 in connection with the issuance of the founders shares
as par value represents the statutory minimum share value in the
state of Delaware.
On February 21, 2006, the Company merged with MOM and HRRY.
At that time, MOM was a fifty-percent owner of HRRY. The mergers
were accounted for as a recapitalization of the Company. As a
result of the recapitalization, 600,000 shares were issued
to the members of HRRY.
On February 16, 2007 the Company successfully completed an
initial public offering of 1,800,000 common shares and 3,600,000
warrants for a total offering of $9,900,000, before issuance
costs. The Companys initial public offering is presented
net of issuance costs and expenses of $1,736,715 in the
statements of changes in owners equity (deficiency). The
warrants consist of 1,800,000 redeemable Class A warrants
and 1,800,000 non-redeemable Class B warrants, each warrant
to purchase one share of common stock. The common stock and
warrants traded as one unit until March 13, 2007 when they
began to trade separately.
On February 16, 2007, as part of its initial public
offering and under the original terms of the bridge loan
agreement (Note 6), the Company issued 293,629 Bridge
Equity Units to the Bridge Noteholders. On May 23, 2007, as
consideration for extensions of the Bridge Loans, the Company
issued 55,640 shares of common stock to the Bridge
Noteholders, which represents 10% of the principal and interest
repaid, divided by the
five-day
average
47
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 7
|
OWNERS
EQUITY (DEFICIENCY) Continued
|
share price prior to repayment of the debt. The statement of
operations reflects an expense of $178,048 related to the
issuance of these shares.
On February 16, 2007, as part of its initial public
offering, the Company agreed to pay a 5% quarterly stock
dividend, commencing March 31, 2007, and every full quarter
thereafter until the Woodbridge, New Jersey facility is
operational. As of December 31, 2007, the Company has
declared four such quarterly dividends amounting to
747,296 shares.
STOCK
OPTION PLAN
In June 2006, the Companys Board of Directors and
stockholders approved the 2006 Stock Option Plan (the
Option Plan). The Option Plan authorizes the grant
and issuance of options and other equity compensation to
employees, officers and consultants. A total of
666,667 shares of common stock are reserved for issuance
under the Option Plan. The Option Plan is administered by the
Compensation Committee of the Board of Directors (the
Committee). Subject to the provisions of the Option
Plan, the Committee determines who will receive the options, the
number of options granted, the manner of exercise and the
exercise price of the options. The term of incentive stock
options granted under the Option Plan may not exceed ten years,
or five years for options granted to an optionee owning more
than 10% of the Companys voting stock. The exercise price
of an incentive stock option granted under the Option Plan must
be equal to or greater than the fair market value of the shares
of the Companys common stock on the date the option is
granted. The exercise price of a non-qualified option granted
under the Option Plan must be equal to or greater than 85% of
the fair market value of the shares of the Companys common
stock on the date the option is granted. An incentive stock
option granted to an optionee owning more than 10% of the
Companys voting stock must have an exercise price equal to
or greater than 110% of the fair market value of the
Companys common stock on the date the option is granted.
Stock options issued under the option plan vest immediately upon
date of grant.
During the year ended December 31, 2006, the Committee
granted 643,000 options to purchase shares of the Companys
common stock. The options vested on the grant date, have an
exercise price of $3.75 per share and expire five years from the
grant date. The exercise price was based on an assumed public
offering price of $5.00 per unit less the fair value for the two
warrants included in the unit (Class A warrant fair value
of $0.75, Class B warrant fair value of $0.50). The fair
value of the Class A and B warrants was estimated on
June 15, 2006 for purposes of valuing the individual
components of the unit so that the options could be valued. The
fair value of the options and warrants was estimated using a
Black-Scholes pricing model with the following assumptions:
risk-free interest rate of 5.07%; no dividend yield; volatility
factor of 38.816%; and an expected term of 5 years. During
the year ended December 31, 2007, in accordance with the
director compensation policy of the Committee, an additional
10,000 options were granted to a Director upon his appointment
to the Board. The options vested on the grant date, have an
exercise price of $3.75 per share and expire five years from the
grant date.
STOCK
OPTIONS VALUATION
The grant date fair value for the 643,000 immediately vesting
stock options at December 31, 2006 was $1,018,705 and was
calculated at the date of grant using a Black-Scholes pricing
model with the following assumptions: risk-free interest rate of
5.07%; no dividend yield; expected volatility factor of 38.816%;
and an expected term of five years. The Companys stock
option compensation expense of $1,018,705 has been included in
general and administrative expenses in the consolidated
statement of operations for the year ended December 31,
2006. The fair value for the 10,000 immediately vesting stock
options granted in 2007 was estimated at the date of grant using
a Black-Scholes pricing model with the following assumptions:
risk-free interest rate of 4.9%; no dividend yield; expected
volatility factor of 16.9%; and an expected term of five years.
The Companys stock option
48
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 7
|
OWNERS
EQUITY (DEFICIENCY) Continued
|
compensation expense totaling $5,929 has been included in
general and administrative expenses in the consolidated
statements of operations for the year ended December 31,
2007.
Stock option activity for the period January 1, 2006
through December 31, 2007 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Average
|
|
|
|
Stock
|
|
|
Price per
|
|
|
Exercise
|
|
|
Remaining
|
|
|
|
Options
|
|
|
Share
|
|
|
Price
|
|
|
Life (Years)
|
|
|
Outstanding and exercisable at January 1, 2006
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
643,000
|
|
|
$
|
3.75
|
|
|
$
|
3.75
|
|
|
|
|
|
Expired
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding and exercisable at December 31, 2006
|
|
|
643,000
|
|
|
$
|
3.75
|
|
|
$
|
3.75
|
|
|
|
5.0
|
|
Granted
|
|
|
10,000
|
|
|
$
|
3.75
|
|
|
$
|
3.75
|
|
|
|
|
|
Expired
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding and exercisable at December 31, 2007
|
|
|
653,000
|
|
|
$
|
3.75
|
|
|
$
|
3.75
|
|
|
|
4.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value of options outstanding and
exercisable at December 31, 2007 is $946,850. The aggregate
intrinsic value represents the total pretax intrinsic value,
based on options with an exercise price less than the
Companys closing stock price of $5.20 as of
December 31, 2007, which would have been received by the
option holders had those option holders exercised their options
as of that date.
WARRANTS
On February 16, 2007, in connection with the Companys
public offering, the Company sold 1,800,000 equity units
consisting of one share of common stock, one Class A
warrant and one Class B warrant. On March 13, 2007,
the Class A and Class B warrants began to trade as
separate securities. The Class A warrants are exercisable
for one share of common stock, plus accumulated stock dividends,
for $8.25. The Class A warrants expire on February 16,
2012 and, if certain conditions are met, the Company may redeem
these warrants at a price of $0.25 per warrant prior to the
expiration date. The Class B warrants are exercisable for
one share of common stock, plus accumulated stock dividends, for
$11.00. The Class B warrants expire on February 16,
2012 and there is no provision for the Company to redeem these
warrants prior to the expiration date.
49
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 7
|
OWNERS
EQUITY (DEFICIENCY) Continued
|
Class A warrant activity for the year ended
December 31, 2007 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
Exercise
|
|
|
Average
|
|
|
Weighted Average
|
|
|
|
|
|
|
Price per
|
|
|
Exercise
|
|
|
Remaining
|
|
|
|
Warrants
|
|
|
Warrant
|
|
|
Price
|
|
|
Life (Years)
|
|
|
Outstanding at January 1, 2007
|
|
|
0
|
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
Issued:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
February 16, 2007, in conjunction with initial public
offering
|
|
|
1,800,000
|
|
|
$
|
8.25
|
|
|
|
8.25
|
|
|
|
|
|
February 16, 2007, in conjunction with bridge loans
|
|
|
293,629
|
|
|
$
|
8.25
|
|
|
|
8.25
|
|
|
|
|
|
February 16, 2007, in conjunction with underwriter units
|
|
|
180,000
|
|
|
$
|
8.25
|
|
|
|
8.25
|
|
|
|
|
|
Expired
|
|
|
0
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
0
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2007
|
|
|
2,273,629
|
|
|
$
|
8.25
|
|
|
$
|
8.25
|
|
|
|
4.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The fair value of Class A warrants totaled $2,387,310 at
December 31, 2007 based on quoted market prices on that
date.
Class B warrant activity for the year ended
December 31, 2007 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise
|
|
|
|
|
|
Weighted Average
|
|
|
|
|
|
|
Price per
|
|
|
Weighted Average
|
|
|
Remaining
|
|
|
|
Warrants
|
|
|
Warrant
|
|
|
Exercise Price
|
|
|
Life (Years)
|
|
|
Outstanding at January 1, 2007
|
|
|
0
|
|
|
$
|
0
|
|
|
|
|
|
|
|
|
|
Issued:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
February 16, 2007, in conjunction with initial public
offering
|
|
|
1,800,000
|
|
|
$
|
11.00
|
|
|
|
11.00
|
|
|
|
|
|
February 16, 2007, in conjunction with bridge loans
|
|
|
293,629
|
|
|
$
|
11.00
|
|
|
|
11.00
|
|
|
|
|
|
February 16, 2007, in conjunction with underwriter shares
|
|
|
180,000
|
|
|
$
|
11.00
|
|
|
|
11.00
|
|
|
|
|
|
Expired
|
|
|
0
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
0
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2007
|
|
|
2,273,629
|
|
|
$
|
11.00
|
|
|
$
|
11.00
|
|
|
|
4.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The fair value of Class B warrants totaled $3,410,444 at
December 31, 2007 based on quoted market prices on that
date.
At December 31, 2007, the Company had accumulated losses of
approximately $10,374,000, of which approximately $7,800,000 may
be offset against future taxable income, if any, ratably through
2027.
The Company has fully reserved the approximate $2,640,000 tax
benefit of these losses with a valuation allowance of the same
amount, because the likelihood of realization of the tax benefit
cannot be determined to be more likely than not.
50
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 8
|
INCOME
TAXES Continued
|
There is a minimum current tax provision for the period from
January 4, 2006 (date of Converted incorporation) to
December 31, 2006 and for the year ended December 31,
2007. No provision for federal or state income taxes is
recognized for MOM and HRRY as those entities are limited
liability companies. As such, taxable income, losses, deductions
and credits pass through to the members to be reported on their
tax returns and therefore any losses incurred prior to
January 4, 2006 are not considered a deferred tax asset of
the Company.
Effective tax expense based on the federal statutory rate is
reconciled with the actual tax expense for the period from
January 4, 2006 to December 31, 2006 and for the year
ended December 31, 2007 as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Statutory federal income tax
|
|
|
34
|
%
|
|
|
34
|
%
|
Statutory state income tax
|
|
|
6
|
|
|
|
6
|
|
Other
|
|
|
(5
|
)
|
|
|
(5
|
)
|
Valuation allowance on net deferred tax assets
|
|
|
(35
|
)
|
|
|
(35
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
%
|
|
|
|
%
|
|
|
|
|
|
|
|
|
|
The components of the net deferred tax asset (liability) at
December 31, 2007 and 2006 are as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Net operating losses
|
|
$
|
2,120,000
|
|
|
|
980,000
|
|
Accrued compensation
|
|
|
120,000
|
|
|
|
120,000
|
|
Stock options
|
|
|
400,000
|
|
|
|
400,000
|
|
Valuation allowance
|
|
|
(2,640,000
|
)
|
|
|
(1,500,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Companys valuation allowance increased $1,140,000 and
$1,500,000 for the years ended December 31, 2007 and 2006,
respectively.
The Company has a tax benefit of approximately $410,000 related
to the grant of common stock to certain key employees and
advisors. Pursuant to SFAS No. 123(R), the benefit
will be recognized and recorded to APIC when the benefit is
realized through the reduction of taxes payable.
The Company complies with the provisions of FASB Interpretation
No. 48, Accounting for Uncertainty in Income
Taxes an interpretation of FASB Statement
No. 109 (FIN No. 48).
FIN 48 addresses the determination of whether tax benefits
claimed or expected to be claimed on a tax return should be
recorded in the financial statements. Under FIN 48, the
Company may recognize the tax benefit from an uncertain tax
position only if it is more likely than not that the tax
position will be sustained on an examination by the taxing
authorities, based on the technical merits of the position. The
Company has determined that the Company has no uncertain tax
positions requiring recognition under FIN No. 48.
The Company is subject to U.S. federal income tax as well
as income tax of certain state jurisdictions. The Company has
not been audited by the U.S. Internal Revenue Service or
any states in connection with its income taxes. The periods from
January 1, 2004 to December 31, 2007 remain open to
examination by the U.S. Internal Revenue Service and state
authorities.
The Company recognizes interest accrued related to unrecognized
tax benefits and penalties, if incurred, as a component of
income tax expense.
51
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 9
|
SEGMENT
REPORTING
|
In June 1997, SFAS 131, Disclosure about Segments of
an Enterprise and Related Information was issued, which
amends the requirements for a public enterprise to report
financial and descriptive information about its reportable
operating segments. Operating segments, as defined in the
pronouncement, are components of an enterprise about which
separate financial information is available that is evaluated
regularly by the Company in deciding how to allocate resources
and in assessing performance. The financial information is
required to be reported on the basis that is used internally for
evaluating segment performance and deciding how to allocate
resources to segments. The Company has no reportable segments at
December 31, 2007 and 2006.
|
|
NOTE 10
|
RELATED
PARTY TRANSACTIONS
|
OPERATING
LEASE-HEADQUARTERS
The Company is renting the premises under a verbal agreement
with ECAP, LLC, a related party. The managing member of ECAP,
LLC was a director and is a shareholder of the Company and is
also the brother of the Companys President and CEO. The
rental agreement provides for rent and support, as agreed
between the Company and ECAP, LLC and for reimbursement of
expenses by the Company for office and other expenses. These
expenses totaled $5,600 and $56,219 for the period from
January 1, 2007 to February 28, 2007 and for the year
ended December 31, 2006, respectively, and $301,525 for the
period from inception (May 2, 2003) to
February 28, 2007.
As of March 1, 2007, the Company began to pay the $2,800
per month rental payment directly to the unrelated landlord for
this office space. There is no lease term and rental of the
office space is on a month to month basis. Rent expense for the
period from March 1, 2007 to December 31, 2007 totaled
$28,000 relating to this lease.
SERVICE
AGREEMENT
The Company has entered into a services agreement dated
May 29, 2003, as modified October 6, 2004, with one of
its principal stockholders, Weston Solutions, Inc.
(Weston). Weston has been engaged to provide
engineering and design services in connection with the
construction of the Woodbridge organic waste conversion
facility. The total amounts incurred by the Company for services
provided by Weston were $116,480 and $86,490 for the years ended
December 31, 2007 and 2006, respectively and $1,049,212 for
the period from inception (May 2, 2003) to
December 31, 2007.
LEGAL
FEES
During the year ended 2004, the Company incurred legal fees
totaling $10,875 to a law firm affiliated with the
Companys President and CEO and partially owned by a
brother of the Companys CEO. These fees of $10,875 were
paid in 2006. During 2007, the Company incurred legal fees
totaling $10,000 to this same law firm. These fees are included
in accounts payable at December 31, 2007.
ACCRUED
COMPENSATION-OFFICERS, DIRECTORS AND CONSULTANTS
As of December 31, 2007 and 2006, the Company has an
accrued liability totaling $397,381 and $300,000, respectively,
representing accrued compensation to officers, directors and
consultants.
NOTE 11 COMMITMENTS
AND CONTINGENCIES
In addition to the Companys IBRC commitment
(Note 4) and operating lease commitment for its
headquarters (Note 10), the Company signed a lease during
June 2006 for its Woodbridge, New Jersey facility. The lease
term is
52
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 11 COMMITMENTS
AND CONTINGENCIES Continued
for ten years with an option to renew for an additional ten
years. Future minimum lease payments under this lease are as
follows:
|
|
|
|
|
For years ended December 31,
|
|
|
|
|
2008
|
|
$
|
934,820
|
|
2009
|
|
|
934,820
|
|
2010
|
|
|
934,820
|
|
2011
|
|
|
946,200
|
|
2012
|
|
|
959,100
|
|
2013 and thereafter
|
|
|
3,474,659
|
|
|
|
|
|
|
|
|
$
|
8,184,419
|
|
|
|
|
|
|
For the years ended December 31, 2007 and 2006, the Company
has recorded rent expense of $745,633 and $194,915,
respectively, in relation to this lease.
CONTRACTS
Prior to December 31, 2006, the Company entered into six
contracts for various phases of the construction of its
Woodbridge, New Jersey facility. All of these contracts were
subject to the successful completion of the New Jersey
Development Authority Bond Offering, which was completed on
February 16, 2007. The total of these contracts is
$9,000,000. The Company expects to expend $14,600,000 on the
construction of the facility not including approximately
$4.9 million to be paid by the landlord and charged over
future rental periods.
LEGAL
PROCEEDINGS
The Company is not currently aware of any pending or threatened
legal proceeding to which it is or would be a party, or any
proceedings being contemplated by governmental authorities
against it, or any of its executive officers or directors
relating to the services performed on the Companys behalf.
|
|
NOTE 12
|
SUBSEQUENT
EVENTS
|
ACQUISITIONS
On January 24, 2008, the Company acquired the assets,
including the intellectual property, of Waste Recovery
Industries, LLC of Paso Robles, CA. This acquisition will allow
the Company to be the exclusive owner of the proprietary
technology and process known as the High Temperature Liquid
Composting (HTLC) system, which processes various biodegradable
waste products into liquid and solid organic-based fertilizer
and feed products. The purchase price of $500,000 was paid with
a 7% short term note that matures on May 1, 2008. Interest
on that note is payable monthly. In addition, the purchase price
provides for future contingent payments of $5,500 per ton, when
and if additional tons of waste-processing capacity are added to
the Companys existing current or planned capacity, using
the acquired technology. These payments are capped at
$7 million, with no minimum. In addition, Waste Recovery
Industries, LLC had begun discussion with a third party (prior
to the Company acquiring it) to explore the possibility of
building a facility to convert fish waste into organic
fertilizer using the HTLC technology. The Company plans to
continue those negotiations and, if successful, the Company will
be required to pay 50% of the Companys profits (as
defined) to the former owner, (who is now an officer of the
Company) that are earned from such a facility. Payments, if any,
made as a result of such negotiations will be applied towards
the $7 million cap that is discussed above.
53
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 12
|
SUBSEQUENT
EVENTS Continued
|
On January 24, 2008, the Company formed Converted Organics
of California, LLC, a wholly owned subsidiary of Converted
Organics Inc. who acquired the net assets of United Organic
Products, LLC of Gonzales, CA (UOP). With this
acquisition, the Company acquired a liquid fertilizer product
line, as well as a production facility that services a West
Coast agribusiness customer base through established
distribution channels. This facility is operational and began to
generate revenues for the Company in 2008. The purchase price of
$2,500,000 was paid in cash of $1,500,000 and a note payable of
$1,000,000. This note matures on February 1, 2011, has an
interest rate of 7%, payable monthly in arrears and is
convertible to common stock six months after the acquisition
date for a price equal to the
five-day
average closing price of the stock on Nasdaq for the five days
preceding conversion.
The acquisitions will be accounted for in the first quarter of
fiscal 2008 using the purchase method of accounting in
accordance with SFAS No. 141, Business
Combinations. Accordingly, the net assets will be recorded
at their estimated fair values, and operating results will be
included in our consolidated financial statements from the date
of acquisition. The purchase price will be allocated on a
preliminary basis using information currently available. The
allocation of the purchase price to the assets and liabilities
acquired will be finalized no later than the first quarter of
fiscal 2008, as we obtain more information regarding asset
valuations, liabilities assumed and revisions of preliminary
estimates of fair values made at the date of purchase.
The pro forma consolidated financial information for the fiscal
years ended December 31, 2007 and December 31, 2006 as
though the acquisition had been completed at the beginning of
the respective periods are as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Revenues (in thousands)
|
|
|
1,423
|
|
|
|
2,720
|
|
Net loss (in thousands)
|
|
|
(4,360
|
)
|
|
|
(3,651
|
)
|
Net loss per share basic and diluted
|
|
|
(1.25
|
)
|
|
|
(2.98
|
)
|
Current assets (in thousands)
|
|
|
3,219
|
|
|
|
403
|
|
Total assets (in thousands)
|
|
|
23,262
|
|
|
|
2,971
|
|
Current liabilities (in thousands)
|
|
|
(3,947
|
)
|
|
|
(4,969
|
)
|
Total liabilities (in thousands)
|
|
|
(21,536
|
)
|
|
|
(5,225
|
)
|
Total equity (deficit) (in thousands)
|
|
|
1,726
|
|
|
|
(2,254
|
)
|
FINANCING
On January 24, 2008, the Company entered into a private
financing with three investors (the Investors) for a
total amount of $4,500,000 (the Financing). The
Financing was offered at an original issue discount of 10%. The
Company used the proceeds to fund the acquisitions described
above, to fund further development activities and to provide
working capital. As consideration for the Financing, the
Investors received a note issued by the Company in the amount of
$4,500,000 with interest accruing at 10% per annum to be paid
monthly and the principal balance to be paid in full one year
from the closing date (the Note). In addition, the
Company issued to the Investors 750,000 Class A Warrants
and 750,000 Class B Warrants, which may be exercised at
$8.25 and $11.00 per warrant share, respectively (the
Warrants). The Company further agreed not to call
any Warrants until a registration statement registering all of
the Warrants is declared effective. A placement fee of $225,000
was paid from the proceeds of this loan.
In connection with the Financing, the Company has agreed that
within 75 days of the closing date, the Company will have a
shareholder vote to seek approval to issue a convertible
debenture with an interest rate of 10% per annum which would be
convertible into common stock pursuant to terms of the debenture
agreement, or such other price as permitted by the debenture
(the Convertible Debenture). Upon shareholder
approval, the Note will
54
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 12
|
SUBSEQUENT
EVENTS Continued
|
be replaced by this Convertible Debenture and one half of each
of the Class A Warrants and of the Class B Warrants
issued will be returned to the Company. Under the conversion
option, the Investors shall have the option, at any time on or
before maturity date (January 24, 2009), to convert the
outstanding principal of this Convertible Debenture into
fully-paid and non assessable shares of common stock at the rate
per share equal to the lowest of (i) the fixed conversion
price of $6.00 per share, (ii) the lowest fixed conversion
price ( the lowest price, conversion price or exercise price set
by the Company in any equity financing transaction, convertible
security, or derivative instrument issued after January 24,
2008), or (iii) the default conversion price (if and so
long as there exists an event of default, then 70% of the
average of the three lowest closing prices of common stock
during the twenty day trading period immediately prior to the
notice of conversion).The Company has scheduled a special
shareholders meeting on April 3, 2008 to vote on this
matter which is contingent until resolution on that date.
In connection with the Financing, the Company entered into a
Security Agreement with the Investors whereby the Company
granted the Investors a security interest in Converted Organics
of California, LLC and any and all assets that are acquired by
the use of the funds from the Financing. In addition, the
Company granted the Investors a security interest in Converted
Organics of Woodbridge, LLC and all assets subordinate only to
the current lien held by the holder of the bonds issued in
connection with the Woodbridge facility of approximately
$17,500,000 (Note 6).
COMMITMENT-RELATED
PARTY TRANSACTION
The Company has entered into a 10 year lease for land in
Gonzales, California, where its Gonzales facility is located.
The land is leased from VLH, a California LLC whose sole member
is Executive Vice President, Chief Technology Officer and a
Director of Converted Organics Inc. The lease provides for a
monthly rent of $9,000. The lease is also renewable for three
5-year terms
after the expiration of the initial
10-year
term. In addition, the Company owns the Gonzales facility and
the operating equipment used in the facility.
VLH has been determined to be a variable interest entity of UOP
in prior years as UOP was the primary beneficiary of that
variable interest entity. The Companys management is in
the process of evaluating if VLH is a variable interest entity
as of January 24, 2008. VLHs assets and liabilities
consist primarily of land and a mortgage note payable on the
land. Its operations consist of rental income from the Company
on the land and related operating expenses.
STOCK
DIVIDEND
On February 16, 2007, as part of its initial public
offering, the Company agreed to pay a 5% quarterly stock
dividend, commencing March 31, 2007, and every full quarter
thereafter until the Woodbridge facility is operational. On
March 13, 2008, the Company declared the fifth of such
quarterly dividends.
WARRANT
EXERCISE
The Company has received net proceeds of approximately
$6.0 million as a result of the exercise of approximately
686,000 Class A warrants and 700 Class B warrants
(Notes 6 and 7) subsequent to December 31, 2007.
RHODE
ISLAND FACILITY
On January 15, 2008, the Company announced the execution of
an option agreement with the Rhode Island Resource Recovery
Corporation (RIRRC) for the land on which the
Company would construct an organic fertilizer facility in
Johnston, Rhode Island. The Companys strategic plan calls
for the construction of a 40,000 square foot facility on
the grounds of the RIRRC and at full capacity the proposed
facility would process up to 200 tons per day of food waste. The
Company has not yet secured the necessary permits or financing
to construct this facility.
55
CONVERTED
ORGANICS INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
NOTE 13
MANAGEMENTS PLAN OF OPERATION
Commencing February 1, 2008, the Company has begun to
recognize revenue from the plant that was acquired from United
Organics Products, LLC (Note 12) and may determine
that it is no longer a development stage company. The funds
received from the private financing completed on
January 24, 2008 provides sufficient cash to complete the
acquisitions and will allow the Company to make improvements to
the California facility to further increase product output from
that plant. It is anticipated that these improvements will begin
in the second quarter of 2008 and will be completed shortly
thereafter. The Company anticipates that revenue will be
generated while the upgrades are being made to the California
plant as the work can be done while operations continue. In
addition, the Company is scheduled to open its Woodbridge, New
Jersey facility in the second quarter of 2008 which will provide
additional revenue to the Company. The Company believes that
$5.6 million received from the redemption of some of its
warrants will provide sufficient working capital during the
remaining construction phase and will allow the Company to begin
to hire additional staff and to provide working capital to meet
the needs of the organization for at least the next twelve
months. The Company has also taken an option on a lease in Rhode
Island and is in the planning and development stage with respect
to that facility; however, in order for construction to begin on
that facility the Company would need to obtain certain operating
permits and secure construction funding.
56
|
|
ITEM 7.1
|
FINANCIAL
STATEMENTS (ACQUISITIONS)
|
The following audited financial statements have been prepared
for the years ended December 31, 2007 and 2006 for United
Organic Products, LLC, and Waste Recovery Industries, LLC, which
entities were acquired by the Company on January 24, 2008.
United Organics Products, LLC was determined to have a variable
interest entity, Valley Land Holding LLC, which is consolidated
with United Organics Products, LLC.
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC AND
VALLEY LAND HOLDINGS, LLC
INDEX TO COMBINED FINANCIAL STATEMENTS
57
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Members of
United Organic Products, LLC,
Waste Recovery Industries, LLC, and
Valley Land Holdings, LLC
We have audited the accompanying combined balance sheets of
United Organic Products, LLC, Waste Recovery Industries, LLC,
and Valley Land Holdings, LLC (collectively the
Company) as of December 31, 2007 and 2006, and
the related combined statements of operations and changes in
members equity (deficit) and cash flows for the years then
ended. These combined financial statements are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these combined
financial statements based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audits to obtain
reasonable assurance about whether the combined financial
statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audits
included consideration of internal control over financial
reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Companys
internal control over financial reporting. Accordingly, we
express no such opinion. An audit also includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the combined financial statements, assessing the accounting
principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the combined financial statements referred to
above present fairly, in all material respects, the combined
financial position of United Organic Products, LLC, Waste
Recovery Industries, LLC, and Valley Land Holdings, LLC as of
December 31, 2007 and 2006, and the combined results of
their operations and their cash flows for the years then ended,
in conformity with accounting principles generally accepted in
the United States of America.
/s/ Carlin, Charron & Rosen, LLP
Glastonbury, Connecticut
March 27, 2008
58
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
ASSETS
|
CURRENT ASSETS
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
4,020
|
|
|
$
|
45,175
|
|
Accounts receivable
|
|
|
35,395
|
|
|
|
128,234
|
|
Inventories
|
|
|
13,028
|
|
|
|
19,799
|
|
Prepaid expenses
|
|
|
2,140
|
|
|
|
1,000
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
54,583
|
|
|
|
194,208
|
|
|
|
|
|
|
|
|
|
|
Fixed assets, net
|
|
|
988,723
|
|
|
|
1,177,912
|
|
Deposits
|
|
|
21,727
|
|
|
|
21,727
|
|
Capitalized costs trademarks
|
|
|
20,294
|
|
|
|
20,294
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,085,327
|
|
|
$
|
1,414,141
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND MEMBERS EQUITY (DEFICIT)
|
LIABILITIES
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
200,709
|
|
|
$
|
242,663
|
|
Line of credit
|
|
|
249,513
|
|
|
|
146,281
|
|
Current portion of long-term debt
|
|
|
951,692
|
|
|
|
845,982
|
|
Due to member
|
|
|
44,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
1,445,914
|
|
|
|
1,234,926
|
|
|
|
|
|
|
|
|
|
|
Long-term debt, net of current portion
|
|
|
|
|
|
|
256,321
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
1,445,914
|
|
|
|
1,491,247
|
|
|
|
|
|
|
|
|
|
|
MEMBERS EQUITY (DEFICIT)
|
|
|
(360,587
|
)
|
|
|
(77,106
|
)
|
|
|
|
|
|
|
|
|
|
Total liabilities and members equity (deficit)
|
|
$
|
1,085,327
|
|
|
$
|
1,414,141
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these combined
financial statements.
59
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
AND CHANGES IN MEMBERS EQUITY (DEFICIT)
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Revenues
|
|
$
|
1,423,019
|
|
|
$
|
2,720,190
|
|
Cost of goods sold
|
|
|
745,721
|
|
|
|
1,201,662
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
677,298
|
|
|
|
1,518,528
|
|
|
|
|
|
|
|
|
|
|
Selling, general and administrative
|
|
|
|
|
|
|
|
|
Selling expenses
|
|
|
467,206
|
|
|
|
870,463
|
|
General and administrative
|
|
|
410,228
|
|
|
|
466,583
|
|
|
|
|
|
|
|
|
|
|
(Loss) income from operations
|
|
|
(200,136
|
)
|
|
|
181,482
|
|
Other income (expense)
|
|
|
|
|
|
|
|
|
Gain on sale of assets
|
|
|
24,080
|
|
|
|
|
|
Other income
|
|
|
10,000
|
|
|
|
|
|
Interest expense
|
|
|
(109,609
|
)
|
|
|
(105,339
|
)
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
|
(275,665
|
)
|
|
|
76,143
|
|
Members equity (deficit)
|
|
|
|
|
|
|
|
|
Balance at beginning of year
|
|
|
(77,106
|
)
|
|
|
(119,249
|
)
|
Members contributions
|
|
|
6,184
|
|
|
|
|
|
Members distributions
|
|
|
(14,000
|
)
|
|
|
(34,000
|
)
|
|
|
|
|
|
|
|
|
|
Balance at end of year
|
|
$
|
(360,587
|
)
|
|
$
|
(77,106
|
)
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these combined
financial statements.
60
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(275,665
|
)
|
|
$
|
76,143
|
|
Adjustments to reconcile net (loss) income to net cash (used in)
provided by operating activities:
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
233,038
|
|
|
|
224,706
|
|
Accretion of discount on notes payable
|
|
|
32,913
|
|
|
|
32,913
|
|
Gain on sale of fixed assets
|
|
|
(24,080
|
)
|
|
|
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
(Increase) decrease in:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
92,839
|
|
|
|
7,081
|
|
Other receivables
|
|
|
|
|
|
|
3,215
|
|
Inventories
|
|
|
6,771
|
|
|
|
1,133
|
|
Prepaid expenses
|
|
|
(1,140
|
)
|
|
|
(500
|
)
|
Increase (decrease) in:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
|
(41,954
|
)
|
|
|
85,573
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
22,722
|
|
|
|
430,264
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
|
Purchases of fixed assets
|
|
|
(87,621
|
)
|
|
|
(255,492
|
)
|
Purchase of trademarks
|
|
|
|
|
|
|
(8,223
|
)
|
Proceeds from sales of fixed assets
|
|
|
67,852
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities
|
|
|
(19,769
|
)
|
|
|
(263,715
|
)
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
Members contributions
|
|
|
6,184
|
|
|
|
|
|
Members distributions
|
|
|
(14,000
|
)
|
|
|
(34,000
|
)
|
Proceeds from line of credit payable, net
|
|
|
103,232
|
|
|
|
14,781
|
|
Principal payments on notes payable
|
|
|
(183,524
|
)
|
|
|
(186,508
|
)
|
Proceeds from notes payable
|
|
|
|
|
|
|
42,776
|
|
Proceeds from member advances, net
|
|
|
44,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in financing activities
|
|
|
(44,108
|
)
|
|
|
(162,951
|
)
|
|
|
|
|
|
|
|
|
|
NET (DECREASE) INCREASE IN CASH
|
|
|
(41,155
|
)
|
|
|
3,598
|
|
CASH, beginning of year
|
|
|
45,175
|
|
|
|
41,577
|
|
|
|
|
|
|
|
|
|
|
CASH, end of year
|
|
$
|
4,020
|
|
|
$
|
45,175
|
|
|
|
|
|
|
|
|
|
|
Supplemental cash flow information:
|
|
|
|
|
|
|
|
|
Cash paid during the period in:
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
76,696
|
|
|
$
|
72,426
|
|
The accompanying notes are an integral part of these combined
financial statements.
61
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
NOTES TO COMBINED FINANCIAL STATEMENTS
|
|
NOTE 1
|
NATURE OF
OPERATIONS
|
United Organics Products, LLC, (UOP) uses organic
raw materials as a feedstock to manufacture, sell and distribute
all-natural soil amendment products combining disease
suppression and nutrition characteristics. UOP has been
operating since 2000 with one processing facility in Gonzales,
California producing a liquid form of the product. Sales of the
product are primarily to the California agricultural market.
Waste Recovery Industries, LLC (WRI) owns
proprietary technology known as High Temperature Liquid
Composting (HTLC). This technology is the basis for
the conversion of feedstock into all-natural soil amendment
products. UOP is the exclusive user of this technology and pays
a royalty to WRI. WRI has no other source of revenue.
Valley Land Holdings, LLC (VLH) owns approximately
eight acres of land which is leased to UOP on an exclusive
basis. The entire UOP operating facility is located on this
land. VLH has no other holdings or source of revenue.
|
|
NOTE 2
|
SIGNIFICANT
ACCOUNTING POLICIES
|
COMBINATION
The accompanying combined financial statements include the
transactions and balances of United Organic Products, LLC, Waste
Recovery Industries, LLC and Valley Land Holdings, LLC
(collectively the Company). The financial statements
of UOP and VLH have been consolidated as VLH is a variable
interest entity of UOP (Note 9). All intercompany
transactions and balances between UOP and VLH have been
eliminated in consolidation. The consolidated financial
statements of UOP and VLH have been combined with the financial
statements of WRI, as the companies are affiliated through
common control. All intercompany balances and transactions have
been eliminated in the combination.
USE OF
ESTIMATES
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect the reported amounts and disclosures in the
financial statements. Actual results could differ from those
estimates.
CASH
AND CASH EQUIVALENTS
The Company considers financial instruments with a maturity date
of three months or less from the date of purchase to be cash
equivalents. The Company had no cash equivalents at
December 31, 2007 and 2006.
ACCOUNTS
RECEIVABLE
Accounts receivable represents balances due from customers, net
of applicable reserves for doubtful accounts. There were no
reserves deemed necessary at December 31, 2007 or 2006. In
determining the need for an allowance, objective evidence that a
single receivable is uncollectible, as well as historical
collection patterns for accounts receivable are considered at
each balance sheet date.
INVENTORIES
Inventories are valued at the lower of cost or market, with cost
determined by the first in, first out basis. Inventory consists
primarily of raw materials and finished goods, which consist of
soil amendment products. Inventory balances are presented net of
applicable reserves. There were no inventory reserves at
December 31, 2007 or 2006.
62
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
NOTES TO COMBINED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 2
|
SIGNIFICANT
ACCOUNTING POLICIES CONTINUED
|
FIXED
ASSETS
Fixed assets are carried at cost. Depreciation and amortization
are computed using the straight line method over the estimated
useful lives of the assets. Maintenance and repairs are charged
to operations as incurred. Expenditures which substantially
increase the useful lives of the related assets are capitalized.
REVENUE
RECOGNITION
Revenue is recognized when each of the following criteria are
met:
|
|
|
|
|
Persuasive evidence of a sales arrangement exists;
|
|
|
|
Delivery of the product has occurred;
|
|
|
|
The sales price is fixed or determinable, and:
|
|
|
|
Collectability is reasonably assured.
|
Accordingly, the Company typically recognizes revenue when
product is shipped or services are rendered.
SHIPPING
AND HANDLING COSTS
Shipping and handling costs are charged to cost of good sold as
incurred.
INCOME
TAXES
No provision for federal or state income taxes is recognized for
UOP, WRI or VLH as these entities are limited liability
companies. As such, taxable income, losses, deductions and
credits pass through to the members to be reported on their tax
returns.
|
|
NOTE 3
|
FAIR
VALUE OF FINANCIAL INSTRUMENTS
|
CONCENTRATIONS
OF CREDIT RISK
The Companys financial instruments that are exposed to
concentrations of credit risk are cash and accounts receivable.
The Company places its cash deposits with a high quality
institution. At December 31, 2007 and 2006, the
Companys cash balance on deposit did not exceed federal
depository insurance limits. Three customers accounted for 61%
and 70% of accounts receivable at December 31, 2007 and
2006, respectively. One customer accounted for 39% and 47% of
the Companys revenue for the years ended December 31,
2007 and 2006, respectively.
FAIR
VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards (SFAS) No. 107,
Fair Value of Financial Instruments, requires disclosure
of the fair value of financial instruments for which the
determination of fair value is practicable.
SFAS No. 107 defines the fair value of a financial
instrument as the amount at which the instrument could be
exchanged in a current transaction between willing parties. The
carrying amounts of the Companys financial instruments
consisting of cash, accounts receivable, accounts payable and
due to member approximate their fair value because of the short
maturity of those instruments. The fair value of the
Companys line of credit, term notes payable and mortgage
note payable approximate their carrying value as the interest
rates approximate market rates. The Companys financial
instruments are held for other than trading purposes.
63
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
NOTES TO COMBINED FINANCIAL
STATEMENTS (Continued)
The Companys inventories consisted of the following at
December 31:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Raw materials
|
|
$
|
5,408
|
|
|
$
|
10,997
|
|
Finished goods
|
|
|
7,620
|
|
|
|
8,802
|
|
|
|
|
|
|
|
|
|
|
Total inventories
|
|
$
|
13,028
|
|
|
$
|
19,799
|
|
|
|
|
|
|
|
|
|
|
The Companys fixed assets at December 31, 2007 and
2006 consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Land and improvements
|
|
$
|
377,749
|
|
|
$
|
377,749
|
|
Building and improvements
|
|
|
607,873
|
|
|
|
601,322
|
|
Equipment
|
|
|
1,139,940
|
|
|
|
1,079,611
|
|
Vehicles
|
|
|
78,929
|
|
|
|
221,303
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,204,491
|
|
|
|
2,279,985
|
|
Less: Accumulated depreciation and amortization
|
|
|
(1,215,768
|
)
|
|
|
(1,102,073
|
)
|
|
|
|
|
|
|
|
|
|
Total fixed assets
|
|
$
|
988,723
|
|
|
$
|
1,177,912
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization expense totaled $233,038 and
$224,706 for the years ended December 31, 2007 and 2006,
respectively.
As of December 31, 2007, the Company had three term notes
payable and a mortgage note payable. As of December 31,
2006, the Company had six term notes payable and a mortgage note
payable. During the year ended December 31, 2007, the
Company repaid three vehicle term notes. A schedule of
outstanding principal amounts of the term notes and mortgage
note as of December 31, 2007 and 2006 is as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Quarterly term note payable dated April 1, 2004
|
|
$
|
464,727
|
|
|
$
|
482,180
|
|
Monthly term note payable dated April 1, 2004
|
|
|
195,745
|
|
|
|
241,368
|
|
Term notes payable vehicles
|
|
|
34,898
|
|
|
|
116,019
|
|
Mortgage note payable
|
|
|
256,322
|
|
|
|
262,736
|
|
|
|
|
|
|
|
|
|
|
|
|
|
951,692
|
|
|
|
1,102,303
|
|
|
|
|
|
|
|
|
|
|
Less: Current portion
|
|
|
(951,692
|
)
|
|
|
(845,982
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
$
|
256,321
|
|
|
|
|
|
|
|
|
|
|
TERM
NOTES PAYABLE
The quarterly term note dated April 1, 2004 calls for
quarterly principal payments of $37,500. The amount of the note
at origination was $600,000 with no stated interest rate, except
in the event that the lender extends the maturity date of the
note. If that occurs, the stated interest rate becomes 5%,
compounding monthly, on the then
64
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
NOTES TO COMBINED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 6
|
DEBT CONTINUED
|
outstanding principal balance. For purposes of recording
payments on the note, an interest rate of 5% has been imputed on
all payments. Interest expense associated with this note totaled
$26,633 and $22,228 in 2007 and 2006, respectively.
The monthly term note dated April 1, 2004 calls for monthly
payments of the lesser of $8,333, or the actual monthly salary
paid to the sole member of the LLC. The amount of the note at
origination was $400,000 with no stated interest rate, except in
the event that the maturity date of the note is extended beyond
April 1, 2008. In that event, the stated rate of the note
is 5%, compounded monthly, on the then outstanding principal
balance. For purposes of recording payments on the note, an
interest rate of 5% has been imputed on all payments. Interest
expense associated with this note totaled $14,459 and $10,683 in
2007 and 2006, respectively.
TERM
NOTES PAYABLE VEHICLES
During 2007 and 2006, the Company had several notes payable
outstanding related to the purchase of vehicles used in its
business. These notes had terms of 3 to 5 years with stated
interest rates between 4.95% and 6.9%. The Company recorded
interest expense of $5,396 and $5,688 in 2007 and 2006,
respectively, relating to these notes. During 2007, all but one
of these notes was paid off. The remaining note, which required
monthly payments of $729 and had a stated interest rate of 6.9%,
was repaid in February, 2008.
MORTGAGE
PAYABLE
The Company has a mortgage note payable on the land upon which
the California facility resides. The note, in the original
amount of $287,500, accrues interest at a variable rate, which
is tied to the West coast edition of the Wall Street Journal
(9.5% at December 31, 2007). Monthly payments of principal
and interest are due based on an amortization of twenty years.
The note matures April 22, 2008. Interest expense
associated with this note totaled $43,736 and $44,008 in 2007
and 2006, respectively.
LINE
OF CREDIT
The Company has a revolving line of credit agreement with a
local bank. The line of credit agreement, dated July 31,
2007, allows for a maximum borrowing of $250,000. The Company
may draw on the line of credit for a period of 36 months
from the date of the agreement, through July 31, 2010. All
outstanding principal and interest becomes due on
August 10, 2010. Interest and finance charges are due
monthly. Monthly payments in excess of the amount of interest
due are applied to the outstanding principal. The line of credit
is secured by an interest in the land owned by the Company and
is personally guaranteed by the sole member of the Company. The
interest rate on the line of credit is tied to the prime rate as
disclosed in the West coast edition of the Wall Street Journal.
Interest is calculated daily as follows: the prime rate, plus 2%
is divided by 360 days. The corresponding annual rate is
calculated by multiplying this result by 365 days. The
Companys line of credit had an outstanding balance of
$249,513 and $146,281 at December 31, 2007 and 2006,
respectively. Interest expense associated with this note totaled
$16,686 and $15,486 in 2007 and 2006, respectively. The
effective interest rate on the line of credit was 9.37%
December 31, 2007.
|
|
NOTE 7
|
RELATED
PARTY TRANSACTIONS
|
From time-to-time, the sole member of the Company advances cash
to support working capital needs. As of December 31, 2007,
these advances totaled $44,000. There were no advances at
December 31, 2006.
65
UNITED
ORGANIC PRODUCTS, LLC
WASTE RECOVERY INDUSTRIES, LLC
VALLEY LAND HOLDINGS, LLC
NOTES TO COMBINED FINANCIAL
STATEMENTS (Continued)
|
|
NOTE 7
|
RELATED
PARTY TRANSACTIONS CONTINUED
|
UOP, WRI and VLH are all single member LLCs with the same
member, who also serves as President and Chief Operating Officer
of each LLC. The member made contributions of $6,184 and $-0- in
2007 and 2006, respectively, and received distributions of
$14,000 and $34,000 in 2007 and 2006, respectively.
|
|
NOTE 8
|
COMMITMENTS
AND CONTINGENCIES
|
LEGAL
PROCEEDINGS
The Company is not currently aware of any pending or threatened
legal proceeding to which it is or would be a party, or any
proceedings being contemplated by governmental or other
authorities or others against it, or any of its executive
officers or directors relating to the services on the
Companys behalf.
|
|
NOTE 9
|
VARIABLE
INTEREST ENTITY
|
The combined financial statements include the consolidation of
VLH with UOP, as VLH has been deemed to be a variable interest
entity as UOP has been deemed to be the primary beneficiary of
that variable interest entity. VLHs assets and liabilities
consist primarily of land and a mortgage note payable on the
land. Its operations consist of rental income on the land from
UOP and related operating expenses. UOP leases the land upon
which its facility operates from VLH. In addition, the sole
member of UOP is the sole member of VLH. VLHs activities
support the operations of UOP and do not have sufficient equity
at risk to remain viable without the support of UOP.
|
|
NOTE 10
|
SUBSEQUENT
EVENTS
|
On January 24, 2008, the assets, including the intellectual
property, of WRI were sold to Converted Organics Inc (the
Buyer), a publicly held company. This acquisition
will allow the Buyer to be the exclusive owner of a proprietary
technology and process known as the High Temperature Liquid
Composting (HTLC) system. The HTLC processes various
biodegradable waste products into liquid and solid organic-based
fertilizer and feed products. The purchase price of $500,000 was
paid to WRIs member with a 7% short-term note that matures
on May 1, 2008. Interest on that note is payable monthly.
In addition, the purchase agreement provides for one-time future
technology payments of $5,500 per ton, when and if, additional
tons of waste-processing capacity are added to the Buyers
existing current or planned capacity, using the acquired
technology. These payments are capped at $7.0 million, with
no minimum.
In addition, WRI had begun discussion with a third party to
explore the possibility of building a facility to convert fish
waste into organic fertilizer using the HTLC technology. The
Buyer plans to continue those negotiations and if successful the
Buyer will be required to pay 50% of its profits to the former
owner, now an employee of the Buyer, that are earned from such a
facility. Payments, if any, made on the outcome of such
negotiations will be applied towards the $7.0 million cap
that was discussed above.
Also on January 24, 2008, the net assets of UOP were sold
to Converted Organics of California, LLC, a wholly-owned
subsidiary of the Buyer. With this acquisition, the Buyer
acquired a leading liquid fertilizer product line, as well as a
state-of-the-art production facility that services the West
coast agribusiness customer base through established
distribution channels. The purchase price of $2.5 million
was paid in cash of $1.5 million and a note payable of
$1 million. The note matures on February 1, 2011, and
has an interest rate of 7%, payable monthly in arrears.
66
|
|
ITEM 8.
|
CHANGES
IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
|
There have been no disagreements with our accountants on
accounting and financial disclosures.
|
|
ITEM 8A(T).
|
CONTROLS
AND PROCEDURES
|
Evaluation
of Disclosure Controls and Procedures
The Companys management, with the participation and under
the supervision of its Principal Executive Officer and Principal
Financial Officer, reviewed and evaluated the effectiveness of
the Companys disclosure controls and procedures, as
defined by
Rule 13a-15(e)
of the Exchange Act, as of the end of the fiscal year covered by
this report. Based upon their evaluation, the Companys
principal executive and financial officer concluded that, as of
the end of such period, our disclosure controls and procedures
are effective and sufficient to ensure that we record, process,
summarize, and report information required to be disclosed in
the reports we file under the Securities Exchange Act of 1934
within the time periods specified by the Securities and Exchange
Commissions rules and regulations.
Managements
Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining
adequate internal control over financial reporting, as defined
in
Rules 13a-15(f)
and
15d-15(f)
under the Exchange Act. Our system of internal control over
financial reporting is designed to provide reasonable assurance
regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in
accordance with generally accepted accounting principles in the
United States of America and includes policies and procedures
that:
|
|
|
|
|
pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and
dispositions of our assets;
|
|
|
|
provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and
that our receipts and expenditures are being made only in
accordance with authorizations of our management and
directors; and
|
|
|
|
provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use or disposition of our
assets that could have a material effect on our financial
statements.
|
Our management conducted an evaluation of the effectiveness of
our internal control over financial reporting as of
December 31, 2007, based on the framework in Internal
Control Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission. Based on
this evaluation, our management concluded that our internal
control over financial reporting was effective as of
December 31, 2007.
This annual report does not include an attestation report of the
Companys registered public accounting firm regarding
internal control over financial reporting. Managements
report was not subject to attestation by the Companys
registered public accounting firm pursuant to temporary rules of
the Securities and Exchange Commission that permit the Company
to provide only managements report in this annual report.
Changes
in Internal Control over Financial Reporting
There have been no significant changes in our internal control
over financial reporting (as defined in
Rules 13a-15(f)
and
15d-15(f)
under the Exchange Act) or in other factors that occurred during
the period of our evaluation or subsequent to the date we
carried out our evaluation which have significantly affected, or
are reasonably likely to significantly affect, our internal
control over financial reporting.
|
|
ITEM 8B.
|
OTHER
INFORMATION
|
None.
67
PART III
|
|
ITEM 9.
|
DIRECTORS,
EXECUTIVE OFFICERS, PROMOTERS, CONTROL PERSONS AND CORPORATE
GOVERNANCE; COMPLIANCE WITH SECTION 16 (A) OF THE
EXCHANGE ACT
|
The information required by Item 9 regarding directors,
executive officers, promoters and control persons is
incorporated by reference to the information appearing under the
caption Directors and Executive Officers in the
Companys definitive Proxy Statement relating to its 2008
Annual Meeting of Stockholders to be filed with the Securities
and Exchange Commission within 120 days after the close of
its fiscal year.
|
|
ITEM 10.
|
EXECUTIVE
COMPENSATION
|
The information required by Item 10 is incorporated by
reference to the information appearing under the caption
Executive Compensation in the Companys
definitive Proxy Statement relating to its 2008 Annual Meeting
of Stockholders to be filed with the Securities and Exchange
Commission within 120 days after the close of its fiscal
year.
|
|
ITEM 11.
|
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
|
Securities
authorized for issuance under equity compensation
plans
Our 2006 Stock Option Plan (Option Plan) currently
authorizes the grant of up to 666,667 shares of common
stock (subject to adjustment for stock splits and similar
capital changes) in connection with restricted stock awards,
incentive stock option grants and non-qualified stock option
grants. Employees and, in the case of nonqualified stock
options, directors, consultants or any affiliate are eligible to
receive grants under our plans. The Option Plan was approved by
our board of directors and by our shareholders on June 15,
2006. Under the Option Plan, the option exercise price generally
shall be no less than 110% or no less than 100%, depending upon
the optionee and the reason for which the option was granted, of
the Fair Market Value (defined in the Option Plan) per share on
the date of grant. The options immediately vest at the date the
options are granted and expire after ten years, except that
incentive stock options granted to an optionee that owns stock
representing more than 10% of the total combined voting power of
all classes of stock of the Company or any parent or subsidiary
of the Company expire five years from the date of grant.
Equity
Compensation Plan Information
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of Securities
|
|
|
|
|
|
|
|
|
|
Remaining Available
|
|
|
|
|
|
|
Weighted-Average
|
|
|
for Future Issuance
|
|
|
|
Number of Securities to be
|
|
|
Exercise Price of
|
|
|
Under Equity
|
|
|
|
Issued Upon Exercise of
|
|
|
Outstanding
|
|
|
Compensation Plans
|
|
|
|
Outstanding Options,
|
|
|
Options, Warrants
|
|
|
(Excluding Securities
|
|
Plan Category
|
|
Warrants and Rights
|
|
|
and Rights
|
|
|
Reflected in Column (a))
|
|
|
|
(a)
|
|
|
(b)
|
|
|
(c)
|
|
|
Equity compensation plans approved by security holders
|
|
|
653,000
|
|
|
$
|
3.75
|
|
|
|
13,667
|
|
Equity compensation plans not approved by security holders
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
653,000
|
|
|
$
|
3.75
|
|
|
|
13,667
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The rest of the information required by Item 11 is
incorporated by reference to the information appearing under the
caption Security Ownership in the Companys
definitive Proxy Statement relating to its 2008 Annual Meeting
of Stockholders to be filed with the Securities and Exchange
Commission within 120 days after the close of its fiscal
year.
68
|
|
ITEM 12.
|
CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
|
The information required by Item 12 is incorporated by
reference to the information appearing under the caption
Certain Relationships and Related Transactions in
the Companys definitive Proxy Statement relating to its
2008 Annual Meeting of Stockholders to be filed with the
Securities and Exchange Commission within 120 days after
the close of the fiscal year.
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description
|
|
|
1
|
.1
|
|
Underwriting Agreement between the Registrant and Paulson
Investment Company, Inc., dated February 13, 2007
(incorporated by reference to Exhibit 1.1 on Post-Effective
Amendment No. 1 to our Registration Statement on
Form SB-2
filed February 20, 2007)
|
|
2
|
.1
|
|
Asset Purchase Agreement between the Registrant and United
Organic Products, LLC, dated January 21, 2008 (incorporated
by reference to Exhibit 2.02 to our current report on
Form 8-K
filed January 29, 2008)
|
|
2
|
.2
|
|
Asset Purchase Agreement between the Registrant and Waste
Recovery Industries, LLC, dated January 21, 2008
(incorporated by reference to Exhibit 2.03 to our current
report on
Form 8-K
filed January 29, 2008)
|
|
3
|
.1
|
|
Registrants Certificate of Incorporation (incorporated by
reference to Exhibit 3.1 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
3
|
.2
|
|
Registrants Bylaws (incorporated by reference to
Exhibit 3.2 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
4
|
.1
|
|
Form of Common Stock Certificate (incorporated by reference to
Exhibit 4.1 to our
Form SB-2/A
filed January 25, 2007)
|
|
4
|
.2
|
|
Form of Class A Warrant (incorporated by reference to
Exhibit A to Exhibit 4.5 on Post-Effective Amendment
No. 1 to our Registration Statement on
Form SB-2
filed February 20, 2007)
|
|
4
|
.3
|
|
Form of Class B Warrant (incorporated by reference to
Exhibit B to Exhibit 4.5 on Post-Effective Amendment
No. 1 to our Registration Statement on
Form SB-2
filed February 20, 2007)
|
|
4
|
.4
|
|
Form of Unit Certificate (incorporated by reference to
Exhibit 4.4 on Post-Effective Amendment No. 1 to our
Registration Statement on
Form SB-2
filed February 20, 2007)
|
|
4
|
.5
|
|
Warrant Agreement between the Registrant and Computershare
Shareholder Services, Inc. and Computershare Trust Company
N.A., dated February 16, 2007 (incorporated by reference to
Exhibit 4.5 on Post-Effective Amendment No. 1 to our
Registration Statement on
Form SB-2
filed February 20, 2007)
|
|
4
|
.6
|
|
Form of Representatives Purchase Warrant (incorporated by
reference to Exhibit 4.6 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
4
|
.7
|
|
Registration Rights Agreement between the Registrant and
Professional Offshore Opportunity Fund, Ltd., Professional
Traders Fund, LLC and High Capital Funding, LLC, dated
January 24, 2008 (incorporated by reference to
Exhibit 2.06 to our current report on
Form 8-K
filed January 29, 2008)
|
|
4
|
.8
|
|
Loan and Securities Purchase Agreement between the Registrant
and each of Professional Offshore Opportunity Fund, Ltd.,
Professional Traders Fund, LLC and High Capital Funding, LLC,
dated January 24, 2008 (incorporated by reference to
Exhibit 2.10 to our current report on
Form 8-K
filed January 29, 2008)
|
|
4
|
.9
|
|
Secured Convertible Debenture to High Capital Funding, LLC,
dated January 24, 2008 (incorporated by reference to
Exhibit 2.07 to our current report on
Form 8-K
filed January 29, 2008)
|
|
4
|
.11
|
|
Secured Convertible Debenture to Professional Offshore
Opportunity Fund, LLC, dated January 24, 2008 (incorporated
by reference to Exhibit 2.09 to our current report on
Form 8-K
filed January 29, 2008)
|
|
10
|
.1
|
|
Form of Bridge Loan Documents dated March 2, 2006
(incorporated by reference to Exhibit 10.1 to our
Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.1A
|
|
Form of Bridge Loan Documents dated April 11, 2006
(incorporated by reference to Exhibit 10.1A to our
Registration Statement on
Form SB-2
filed June 21, 2006)
|
69
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description
|
|
|
10
|
.2
|
|
2006 Stock Option Plan and Form of Stock Option Agreement
(incorporated by reference to Exhibit 10.2 to our
Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.3
|
|
Service Agreement between the Registrant and ECAP, LLC, dated
March 1, 2006 (incorporated by reference to
Exhibit 10.3 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.4
|
|
Lease Agreement between the Registrant and Recycling Technology
Development, LLC, dated June 2, 2006 (incorporated by
reference to Exhibit 10.4 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.4A
|
|
Amendment to the Lease Agreement between the Registrant and
Recycling Technology Development dated January 18, 2007
(incorporated by reference to Exhibit 10.4A to our
Form SB-2/A
filed January 25, 2007)
|
|
10
|
.5
|
|
Employment Agreement between the Registrant and Edward J.
Gildea, dated March 2, 2006 (incorporated by reference to
Exhibit 10.5 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.6
|
|
Employment Agreement between the Registrant and Thomas R.
Buchanan, dated March 2, 2006 (incorporated by reference to
Exhibit 10.6 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.7
|
|
Employment Agreement between the Registrant and John A.
Walsdorf, dated March 2, 2006 (incorporated by reference to
Exhibit 10.7 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.8
|
|
Employment Agreement between the Registrant and John P. Weigold,
dated March 2, 2006 (incorporated by reference to
Exhibit 10.8 to our Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.9
|
|
Agreement between the Registrant and Weston Solutions, Inc.,
dated May 29, 2003 and modification dated October 6,
2004 (incorporated by reference to Exhibit 10.9 to our
Registration Statement on
Form SB-2
filed June 21, 2006)
|
|
10
|
.10
|
|
IBR Plant License Agreement between International Bio Recovery
Corporation and Mining Organics Management LLC, dated
July 15, 2003 (incorporated by reference to
Exhibit 10.10 to our
Form SB-2/A
filed July 5, 2006)
|
|
10
|
.11
|
|
Revision dated February 9, 2006 to IBR Plant License
Agreement dated July 15, 2003 (incorporated by reference to
Exhibit 10.11 to our
Form SB-2/A
filed July 5, 2006)
|
|
10
|
.12
|
|
Employment Agreement between the Registrant and Peter Townsley
(incorporated by reference to Exhibit 5.01 to our current
report on
Form 8-K
filed January 29, 2008)
|
|
10
|
.13
|
|
Security Agreement between the Registrant and Professional
Offshore Opportunity Fund, Ltd., Professional Traders Fund, LLC
and High Capital Funding, LLC, dated January 24, 2008
(incorporated by reference to Exhibit 2.11 to our current
report on
Form 8-K
filed January 29, 2008)
|
|
10
|
.14
|
|
Secured Convertible Promissory Note in favor of United Organic
Products, LLC, dated January 24, 2008 (incorporated by
reference to Exhibit 2.04 to our current report on
form 8-K
filed January 29, 2008)
|
|
10
|
.15
|
|
Secured Promissory Note in favor of Waste Recovery Industries,
LLC, dated January 24, 2008 (incorporated by reference to
Exhibit 2.05 to our current report on
form 8-K
filed January 29, 2008)
|
|
*23
|
.1
|
|
Consent of Carlin, Charron & Rosen, LLP
|
|
*31
|
.1
|
|
Certification of Chief Executive Officer pursuant to
Rule 13a-14(a)/15d-14(a)
|
|
*31
|
.2
|
|
Certification of Chief Financial Officer pursuant to
Rule 13a-14(a)/15d-14(a)
|
|
*32
|
.1
|
|
Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
|
|
*32
|
.2
|
|
Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
|
|
|
|
* |
|
Filed as an Exhibit herein. |
|
|
ITEM 14.
|
PRINCIPAL
ACCOUNTANT FEES AND SERVICES
|
The information required by Item 14 is incorporated by
reference to the information appearing under the caption
Principal Accountant Fees and Services in the
Companys definitive Proxy Statement relating to its 2008
Annual Meeting of Stockholders to be filed with the Securities
and Exchange Commission within 120 days after the close of
its fiscal year.
70
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act,
the registrant caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
Converted Organics Inc.
Name: Edward J. Gildea
|
|
|
|
Title:
|
President, Chief Executive Officer,
Chairman of the Board
|
Date: March 27, 2008
In accordance with the Exchange Act, this report has been signed
below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
Name: Edward J. Gildea
|
|
|
|
Title:
|
President, Chief Executive Officer,
Chairman of the Board
|
Date: March 27, 2008
Name: David R. Allen
|
|
|
|
Title:
|
Chief Financial Officer,
Executive Vice President
|
Date: March 27, 2008
Name: Peter Townsley
|
|
|
|
Title:
|
Executive Vice President,
Chief Technology Officer, Director
|
Date: March 27, 2008
|
|
|
|
By:
|
/s/ Ellen
P. Geoffrey
|
Name: Ellen P. Geoffrey
|
|
|
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Title:
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Chief Accounting Officer
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Date: March 27, 2008
71
Name: Robert E. Cell
Date: March 27, 2008
|
|
|
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By:
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/s/ John
P. DeVillars
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Name: John P. DeVillars
Date: March 27, 2008
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|
|
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By:
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/s/ Edward
A. Stoltenberg
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Name: Edward A. Stoltenberg
Date: March 27, 2008
72