UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
x
QUARTERLY
REPORT UNDER
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For
the quarterly period ended September 30, 2008
o
TRANSITION
REPORT UNDER
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
For
the
transition period from __________ to __________.
Commission
File Number:
000-50542
HYDROGEN
ENGINE CENTER, INC.
(Exact
name of registrant as specified in its charter)
|
NEVADA
|
|
82-0497807
|
|
(State
or other jurisdiction
|
|
(IRS
Employer
|
|
of
incorporation)
|
|
Identification
No.)
|
2502
East Poplar Street, Algona, Iowa 50511
(Address
of principal executive offices)
Registrant's
telephone number, including area code: (515) 295-3178
Indicate
by check mark whether the Registrant (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days. Yes
x
No
¨
Indicate
by check mark whether the Registrant is a large accelerated filer, an
accelerated filer or a smaller reporting company. See definition of "large
accelerated filer” “accelerated filer" and “smaller reporting company” in Rule
12b-2 of the Exchange Act. (Check one):
|
Large
accelerated filer
¨
|
|
Accelerated
filer
¨
|
|
Non-accelerated
filer
¨
|
|
Smaller
reporting company
x
|
State
the
number of shares outstanding of each of the issuer’s classes of common equity,
as of the latest practicable date
:
|
Class
|
|
Outstanding
at October 6, 2008
|
|
Common
|
|
30,102,849
|
FORM
10-Q
TABLE
OF CONTENTS
|
.
|
|
Page
|
|
PART
I
|
FINANCIAL
INFORMATION
|
|
|
|
|
|
|
Item
1.
|
Condensed
Consolidated Financial Statements
|
|
|
|
|
|
|
|
Condensed
Consolidated Balance Sheets as of September 30, 2008 (unaudited)
and
December 31, 2007
|
3
|
|
|
|
|
|
|
Condensed
Consolidated Statements of Operations for the Nine Months and
Three
Months Ended September 30, 2008 and 2007 and the period from inception
(May
19, 2003) through September 30, 2008 (unaudited)
|
5
|
|
|
|
|
|
|
Condensed
Consolidated Statements of Cash Flows for the Nine Months and
Three
Months Ended September 30, 2008 and 2007 and the period from inception
(May
19, 2003) through September 30, 2008 (unaudited)
|
6
|
|
|
|
|
|
|
Notes
to Condensed Consolidated Financial Statements (unaudited)
|
8
|
|
|
|
|
|
Item
2.
|
Management's
Discussion and Analysis of Financial Condition
and
Results of Operations
|
20
|
|
|
|
|
|
Item
4T.
|
Controls
and Procedures
|
31
|
|
|
|
|
|
PART
II.
|
OTHER
INFORMATION
|
|
|
|
|
|
|
Item
1.
|
Legal
Proceedings
|
32
|
|
|
|
|
|
Item
2.
|
Unregistered
Sales of Equity Securities and Use of Proceeds
|
32
|
|
|
|
|
|
Item
6.
|
Exhibits
and Reports on Form 8-K
|
33
|
|
|
|
|
|
|
Notes
About Forward-looking Statements
|
33
|
|
|
|
|
|
SIGNATURES
|
|
34
|
ITEM
1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Condensed
Consolidated Balance Sheets
|
|
|
September
30,
|
|
December
31,
|
|
|
ASSETS
|
|
2008
|
|
2007
|
|
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
Current
Assets
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
50,492
|
|
$
|
713,289
|
|
|
Restricted
cash
|
|
|
-
|
|
|
115,157
|
|
|
Accounts
receivable
|
|
|
204,082
|
|
|
134,237
|
|
|
Inventories
|
|
|
1,062,278
|
|
|
1,655,359
|
|
|
Prepaid
expenses
|
|
|
279,606
|
|
|
89,901
|
|
|
Total
current assets
|
|
|
1,596,458
|
|
|
2,707,943
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Property,
Plant and Equipment
|
|
|
|
|
|
|
|
|
Building
|
|
|
2,271,209
|
|
|
2,271,209
|
|
|
Equipment
|
|
|
900,194
|
|
|
908,999
|
|
|
Land
and improvements
|
|
|
472,504
|
|
|
472,504
|
|
|
|
|
|
3,643,907
|
|
|
3,652,712
|
|
|
Less
accumulated depreciation
|
|
|
557,177
|
|
|
375,178
|
|
|
Net
property and equipment
|
|
|
3,086,730
|
|
|
3,277,534
|
|
|
|
|
|
|
|
|
|
|
|
Total
Assets
|
|
$
|
4,683,188
|
|
$
|
5,985,477
|
|
See
accompanying notes
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Condensed
Consolidated Balance Sheets
|
|
|
September
30,
|
|
December
31,
|
|
|
LIABILITIES
AND EQUITY
|
|
2008
|
|
2007
|
|
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
Current
Liabilities
|
|
|
|
|
|
|
Notes
payable, banks
|
|
$
|
1,378,081
|
|
$
|
594,677
|
|
|
Current
portion long-term debt
|
|
|
24,271
|
|
|
30,350
|
|
|
Current
installments of obligation under capital lease
|
|
|
49,549
|
|
|
45,247
|
|
|
Accounts
payable
|
|
|
285,527
|
|
|
146,585
|
|
|
Accrued
expenses
|
|
|
315,025
|
|
|
207,328
|
|
|
Accrued
interest
|
|
|
166,273
|
|
|
129,965
|
|
|
Deferred
revenue
|
|
|
87,306
|
|
|
-
|
|
|
Unearned
grants
|
|
|
13,837
|
|
|
30,977
|
|
|
Total
current liabilities
|
|
|
2,319,869
|
|
|
1,185,129
|
|
|
|
|
|
|
|
|
|
|
|
Long-term
debt, net of current maturities
|
|
|
725,737
|
|
|
1,338,235
|
|
|
Obligation
under capital lease, excluding current
installments
|
|
|
43,236
|
|
|
80,955
|
|
|
|
|
|
768,973
|
|
|
1,419,190
|
|
|
Total
liabilities
|
|
|
3,088,842
|
|
|
2,604,319
|
|
|
|
|
|
|
|
|
|
|
|
Commitments
and Contingencies
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders'
Equity
|
|
|
|
|
|
|
|
|
Preferred
stock - Series B, $0.001 par value; 5,000,000 shares
authorized,
|
|
|
|
|
|
|
|
|
-0-
and 930,000 shares issued and outstanding
|
|
|
-
|
|
|
1,933
|
|
|
Common
stock, $0.001 par value; 100,000,000 shares authorized,
|
|
|
|
|
|
|
|
|
30,102,849
and 27,590,164 shares issued and outstanding
|
|
|
30,103
|
|
|
27,590
|
|
|
Additional
paid-in capital
|
|
|
16,347,601
|
|
|
15,860,725
|
|
|
Accumulated
other comprehensive loss - foreign currency
|
|
|
(7,168
|
)
|
|
(3,412
|
)
|
|
Deficit
accumulated during the development stage
|
|
|
(14,776,190
|
)
|
|
(12,505,678
|
)
|
|
Total
stockholders' equity
|
|
|
1,594,346
|
|
|
3,381,158
|
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Stockholders’ Equity
|
|
$
|
4,683,188
|
|
$
|
5,985,477
|
|
See
accompanying notes
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Condensed
Consolidated Statements of Operations
|
|
|
|
|
|
|
From
Inception
|
|
|
|
|
Three
months ended
September
30,
|
|
Nine
months ended
September
30,
|
|
(May
19, 2003) to
|
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
September
30, 2008
|
|
|
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
352,571
|
|
$
|
86,047
|
|
$
|
874,028
|
|
$
|
527,720
|
|
$
|
1,936,731
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of Goods Sold
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Material,
labor, and overhead
|
|
|
326,968
|
|
|
74,299
|
|
|
809,195
|
|
|
447,143
|
|
|
1,730,979
|
|
|
Inventory
markdown
|
|
|
105,788
|
|
|
239,598
|
|
|
15,215
|
|
|
220,853
|
|
|
977,238
|
|
|
|
|
|
432,756
|
|
|
313,897
|
|
|
824,410
|
|
|
667,996
|
|
|
2,708,217
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Profit (Loss)
|
|
|
(80,185
|
)
|
|
(227,850
|
)
|
|
49,618
|
|
|
(140,276
|
)
|
|
(771,486
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
and marketing
|
|
|
24,829
|
|
|
64,488
|
|
|
159,385
|
|
|
231,236
|
|
|
1,360,421
|
|
|
General
and administrative
|
|
|
378,607
|
|
|
610,243
|
|
|
1,446,642
|
|
|
2,167,029
|
|
|
7,918,051
|
|
|
Research
and development
|
|
|
208,004
|
|
|
361,089
|
|
|
614,678
|
|
|
1,109,662
|
|
|
3,865,181
|
|
|
Vendor
settlement
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
448,011
|
|
|
577,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
611,440
|
|
|
1,035,820
|
|
|
2,220,705
|
|
|
3,955,938
|
|
|
13,721,153
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
Loss
|
|
|
(691,625
|
)
|
|
(1,263,670
|
)
|
|
(2,171,087
|
)
|
|
(4,096,214
|
)
|
|
(14,492,639
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Income (Expense)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
|
107
|
|
|
24,935
|
|
|
6,749
|
|
|
60,681
|
|
|
170,802
|
|
|
Interest
expense
|
|
|
(33,549
|
)
|
|
(46,653
|
)
|
|
(106,174
|
)
|
|
(132,892
|
)
|
|
(447,619
|
)
|
|
Loss
on disposals of assets
|
|
|
-
|
|
|
(1,027
|
)
|
|
-
|
|
|
(1,027
|
)
|
|
(6,734
|
)
|
|
|
|
|
(33,442
|
)
|
|
(22,745
|
)
|
|
(99,425
|
)
|
|
(73,238
|
)
|
|
(283,551
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Loss
|
|
$
|
(725,067
|
)
|
$
|
(1,286,415
|
)
|
$
|
(2,270,512
|
)
|
$
|
(4,169,452
|
)
|
$
|
(14,776,190
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series
A Preferred stock beneficial conversion
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
feature
accreted as a dividend
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
(1,889,063
|
)
|
$
|
(1,889,063
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Loss Attributable To
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
Stockholders
|
|
$
|
(725,067
|
)
|
$
|
(1,286,415
|
)
|
$
|
(2,270,512
|
)
|
$
|
(6,058,515
|
)
|
$
|
(16,665,253
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
-average shares outstanding
|
|
|
29,834,325
|
|
|
25,773,966
|
|
|
28,522,401
|
|
|
25,749,887
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diuluted net loss per share
|
|
|
(0.02
|
)
|
|
(0.05
|
)
|
|
(0.08
|
)
|
|
(0.24
|
)
|
|
|
|
See
accompanying notes
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Condensed
Consolidated Statements of Cash Flows
|
|
|
|
|
|
|
From
Inception
|
|
|
|
|
Three
Months Ended
September
30,
|
|
Nine
Months Ended
September
30,
|
|
(May
19, 2003) to
|
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
September
30, 2008
|
|
|
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
|
Operating
Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
$
|
(725,067
|
)
|
$
|
(1,286,415
|
)
|
$
|
(2,270,512
|
)
|
$
|
(4,169,452
|
)
|
$
|
(14,776,190
|
)
|
|
Adjustments
to reconcile net loss to net cash used in operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
62,586
|
|
|
50,207
|
|
|
191,607
|
|
|
168,714
|
|
|
618,450
|
|
|
Compensation
to directors and employees of stock options and restricted
stock
|
|
|
71,672
|
|
|
153,759
|
|
|
279,718
|
|
|
478,795
|
|
|
1,654,137
|
|
|
Compensation
to consultants of stock options
|
|
|
2,425
|
|
|
2,463
|
|
|
15,132
|
|
|
7,388
|
|
|
201,942
|
|
|
Warrants
issued in vendor dispute
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
577,500
|
|
|
577,500
|
|
|
Loss
on sale of assets
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
6,734
|
|
|
Change
in assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts
receivable
|
|
|
22,785
|
|
|
33,743
|
|
|
(44,845
|
)
|
|
102,200
|
|
|
(179,082
|
)
|
|
Inventories
|
|
|
326,027
|
|
|
(16,316
|
)
|
|
593,081
|
|
|
(349,658
|
)
|
|
(1,041,213
|
)
|
|
Prepaid
expenses
|
|
|
(16,603
|
)
|
|
7,356
|
|
|
(29,705
|
)
|
|
(26,312
|
)
|
|
(141,063
|
)
|
|
Accounts
payable
|
|
|
25,294
|
|
|
274,082
|
|
|
138,139
|
|
|
(54,196
|
)
|
|
368,809
|
|
|
Accrued
expenses
|
|
|
35,383
|
|
|
(67,734
|
)
|
|
107,697
|
|
|
44,762
|
|
|
361,263
|
|
|
Accrued
interest
|
|
|
11,200
|
|
|
12,688
|
|
|
36,308
|
|
|
18,409
|
|
|
166,273
|
|
|
Deferred
revenue
|
|
|
87,306
|
|
|
-
|
|
|
87,306
|
|
|
-
|
|
|
87,306
|
|
|
Unearned
grants
|
|
|
(4,936
|
)
|
|
(8,536
|
)
|
|
(17,140
|
)
|
|
(26,328
|
)
|
|
13,837
|
|
|
Net
cash used in operating activities
|
|
|
(101,928
|
)
|
|
(844,703
|
)
|
|
(913,214
|
)
|
|
(3,228,178
|
)
|
|
(12,081,297
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Withdrawal/(Deposit)
of restricted cash
|
|
|
-
|
|
|
(4,021
|
)
|
|
115,157
|
|
|
(11,846
|
)
|
|
-
|
|
|
Proceeds
from sale of assets
|
|
|
-
|
|
|
36,000
|
|
|
-
|
|
|
36,000
|
|
|
36,500
|
|
|
Purchases
of property, plant, and equipment
|
|
|
-
|
|
|
(65,815
|
)
|
|
-
|
|
|
(167,854
|
)
|
|
(3,012,908
|
)
|
|
Net
cash provided by (used in) investing activities
|
|
|
-
|
|
|
(33,836
|
)
|
|
115,157
|
|
|
(143,700
|
)
|
|
(2,976,408
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing
Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds
from note payable, bank
|
|
|
54,000
|
|
|
-
|
|
|
250,000
|
|
|
250,000
|
|
|
2,089,420
|
|
|
Payments
on note payable, bank
|
|
|
(23,355
|
)
|
|
(3,560
|
)
|
|
(55,441
|
)
|
|
(8,818
|
)
|
|
(968,585
|
)
|
|
Proceeds
from long-term debt
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,172,052
|
|
|
Payments
on long-term debt
|
|
|
(17,489
|
)
|
|
(22,471
|
)
|
|
(63,149
|
)
|
|
(56,109
|
)
|
|
(207,044
|
)
|
|
Proceeds
from exercise of stock option
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
8,000
|
|
|
Issuance
of preferred stock (Series A) in private placement, net of
expenses
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
2,779,813
|
|
|
Issuance
of preferred stock (Series B) in private placement, net of
expenses
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
3,595,095
|
|
|
3,595,095
|
|
|
Issuance
of common stock in private placements, net of expenses
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
6,639,008
|
|
|
Issuance
of common stock from registration, net of expenses
|
|
|
7,606
|
|
|
-
|
|
|
7,606
|
|
|
-
|
|
|
7,606
|
|
|
Net
cash provided by (used in) financing activities
|
|
|
20,762
|
|
|
(26,031
|
)
|
|
139,016
|
|
|
3,780,168
|
|
|
15,115,365
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect
of Exchange Rates on Cash and Cash Equivalents
|
|
|
(682
|
)
|
|
13,376
|
|
|
(3,756
|
)
|
|
6,231
|
|
|
(7,168
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Increase (Decrease) in Cash and Cash Equivalents
|
|
|
(81,848
|
)
|
|
(891,194
|
)
|
|
(662,797
|
)
|
|
414,521
|
|
|
50,492
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and Cash Equivalents – Beginning of Period
|
|
|
132,340
|
|
|
2,454,922
|
|
|
713,289
|
|
|
1,149,207
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and Cash Equivalents – End of Period
|
|
$
|
50,492
|
|
$
|
1,563,728
|
|
$
|
50,492
|
|
$
|
1,563,728
|
|
$
|
50,492
|
|
See
accompanying notes
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Condensed
Consolidated Statements of Cash Flows
-Continued-
|
|
|
|
|
|
|
|
|
|
|
From
Inception
|
|
|
|
|
Three
months ended
September
30,
|
|
Nine
months ended
September
30,
|
|
(May
19, 2003) to
|
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
September
30, 2008
|
|
|
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
(Unaudited)
|
|
|
Supplemental
Cash Flow Information
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
paid
|
|
$
|
22,348
|
|
$
|
33,961
|
|
$
|
69,865
|
|
$
|
114,331
|
|
$
|
281,155
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental
Disclosures of Noncash
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
and Financing Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
paid-in capital contribution
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
for
expenses paid by founder
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
103,636
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for equipment
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
47,851
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
conversion
of debt
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
557,051
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquistion
of property, plant, and equipment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
through
financing
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
111,450
|
|
$
|
692,081
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payables
for construction in progress
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
232,208
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Receivable
for state loan
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
100,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of warrants for inventory
|
|
$
|
-
|
|
$
|
21,065
|
|
$
|
-
|
|
$
|
21,065
|
|
$
|
21,065
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Conversion
of Preferred Stock for Series A
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
1,511
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series
A Preferred stock beneficial conversion feature
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
accreted
as a dividend
|
|
$
|
-
|
|
$
|
-
|
|
$
|
-
|
|
$
|
1,889,063
|
|
$
|
1,889,063
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Conversion
of Preferred Stock for Series B
|
|
$
|
-
|
|
$
|
-
|
|
$
|
1,933
|
|
$
|
-
|
|
$
|
1,933
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for financing commitment fee
|
|
$
|
-
|
|
$
|
-
|
|
$
|
160,000
|
|
$
|
-
|
|
$
|
160,000
|
|
HYDROGEN
ENGINE CENTER, INC. AND SUBSIDIARIES
(a
corporation in the development stage)
Notes
to Condensed Consolidated Financial Statements
(Unaudited)
September
30, 2008
1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Overview
of Companies
Hydrogen
Engine Center, Inc. is a Nevada corporation with operations through its wholly
owned subsidiaries, Hydrogen Engine Center, Inc., an Iowa corporation (“HEC
Iowa”), and Hydrogen Engine Center (HEC) Canada Inc. (“HEC
Canada”).
HEC
Iowa
was incorporated on May 19, 2003 (“inception date”) for the purpose of
commercializing environmentally friendly internal combustion systems for
industrial engines and generator sets. HEC Iowa’s operations are located in
Algona, Iowa.
HEC
Canada was incorporated as a Canadian corporation on August 25, 2005, for the
purpose of establishing a research and development center to assist in the
development of alternative fuel and hydrogen engines and generator sets. HEC
Canada is located in Quebec, and works with Universite Du Quebec at
Trois-Rivieres.
Description
of Business - A Corporation in the Development Stage
We
develop systems and processes used in the design, manufacture and distribution
of alternative fuel internal combustion engines, engine controls and generator
systems. These technologies are for use by customers and partners in the
industrial and power generation markets. We have filed and continue to file
patents around these next generation systems and processes. These solutions
and
the engines using them are designed to run on alternative fuels including but
not limited to hydrogen, ammonia, ethanol, natural gas, propane and gasoline.
Our engines and engine products are sold under the brand name Oxx
Power
®
.
Through
September 30, 2008, we remain in the development stage. Development stage is
characterized by minimal revenues, with efforts focused on fund raising and
prioritization of expenditures for the design and development of our products,
manufacturing processes, intellectual property and strategic sales and
marketing.
Interim
Financial Statements
The
unaudited interim financial information included in this report reflects normal
recurring adjustments that management believes are necessary for a fair
statement of the results of operations, financial position, and cash flows
for
the periods presented. This interim information should be read in conjunction
with the financial statements and accompanying notes contained in the company’s
Form 10-KSB/A filed July 23, 2008.
The
results of operations for the quarterly period ended September 30, 2008 are
not
necessarily indicative of the results to be expected for other interim periods
or the full year.
Principles
of Consolidation
The
consolidated financial statements include the accounts of our Company and its
wholly owned subsidiaries, HEC Iowa and HEC Canada. All intercompany balances
and transactions have been eliminated in consolidation.
Liquidity
and Going Concern
Our
financial statements have been prepared on the basis of accounting principles
applicable to a going concern. As a result, they do not include adjustments
that
would be necessary if we were unable to continue as a going concern and would
therefore, be obligated to realize assets and discharge our liabilities other
than in the normal course of operations.
Since
inception, we have invested in the resources and technology we believe necessary
to deliver carbon free energy technology. As such, we have incurred substantial
operating losses. We expect to incur operating losses in 2008. On April 11,
2008, we entered into a Standby Equity Distribution Agreement (“SEDA”) to sell
up to a maximum of $4,000,000 in equity securities over twenty-four months
to an
investor. The agreement required that we register stock prior to receiving
any
funds and subject to certain limitations, allows us to issue shares under the
SEDA periodically in amounts not to exceed $350,000 at one time. The per share
price for shares issued under the SEDA will be dependent upon the market value
of our stock at the time of funding. Our registration statement covering
4,054,541 of such equity securities, filed on May 20, 2008, was declared
effective by the Securities and Exchange Commission on August 5, 2008.
It
has
been difficult to depend on the SEDA to fund our operations. According to the
terms of the SEDA, once an advance is requested, the investor can begin selling
shares which consequently drives the price of the stock lower. We began
accessing the SEDA funds in August and at November 10, 2008, have sold 247,977
shares at an average price of $.23 and have received $57,130 in capital. The
number of shares we can sell under the SEDA has also been adversely affected
by
the recent fluctuation and general decline in the trading price of our
shares.
We
continue to take steps to lower our monthly cash expenditures and our sales
have
increased this quarter and are expected to remain consistent in the fourth
quarter. As of November 7, 2008, we had cash of $17,944, trade receivables
of
$151,032 and $304,658 in trade payables. We have sales orders of $300,123.
In
addition, we have access to the SEDA funds mentioned above, however draws are
subject to limitations, primarily the recent fluctuation and general decline
in
the market value of our stock, which restricts the amount of funds that can
be
drawn. We also are dependent on the renewal of our loans with our financial
lenders.
We
expect
to secure an agreement to provide hydrogen-fueled engines for ground support
vehicles at designated airports in the fourth quarter of 2008. We expect to
continue the sale of our excess inventory. We are pursuing strategic alliances
to assist us in marketing our wind to hydrogen products. We also expect to
engage in a capital raise. We believe that the combination of these
opportunities and potentials can provide needed cash flow to our operations
for
three to six months; however there are no assurances that anticipated sales
will
occur in the timeframe we anticipate, which would have a negative adverse effect
on our operations and would accelerate the need for additional funding. We
are
dependent on the capital we draw from the SEDA, continued renewal of existing
debt arrangements as well as anticipated revenue from the expected airport
project and the sale of our engine inventory to fund our involvement in new
research and development projects and sustain our operations.
Fair
Value of Financial Instruments
Due
to
the short-term nature of cash, cash equivalents, accounts receivable, accounts
payable and accrued expenses, we believe that the carrying amounts reported
in
the balance sheet approximate their fair values at the balance sheet date.
The
fair value of long-term debt is estimated based on anticipated interest rates,
which management believes would currently be available for similar issues of
debt, taking into account our current credit risk and other market factors,
which approximate fair value.
Inventories
Inventories
consist mainly of parts, work-in-process and finished goods that are stated
at
the lower of cost (determined by the first-in, first out method) or market
value
(Note 3). We follow the provisions of Statements of Financial Accounting
Standards (“SFAS”) 151, “Inventory Costs” that amends the guidance in Accounting
Research Bulletin No. 43, Chapter 4, “Inventory Pricing” (ARB No. 43). Under
this guidance, we allocate fixed production overhead to inventory based on
the
normal capacity of the production facilities, any expense incurred as a result
of idle facility expense, freight and handling costs are expensed as period
costs. For the three months and nine months ended September 30, 2008 we
allocated approximately $9,000 and $20,000, respectively, of overhead to
inventory and approximately $65,400 of overhead to inventory from inception
(May
19, 2003) to September 30, 2008. For the three months and nine months ended
September 30, 2007 we allocated approximately $4,700 and $14,200, respectively,
of overhead to inventory. The balance of fixed production overhead is recorded
in general and administrative costs.
Prepaid
Expense
We
deferred expenses related to the registration of shares for our
Standby
Equity Distribution Agreement (“SEDA”). These expenses included a commitment fee
and legal and accounting fees which will be recognized as an expense, as shares
are issued for the SEDA (Note 9). At September 30, 2008, expenses associated
with the SEDA recorded as prepaid expense totaled $224,257. At September 30,
2008, total prepaid expense was $279,606.
Revenue
Recognition
Revenue
from the sale of our products is recognized at the time title and risk of
ownership transfer to customers. This occurs upon shipment to the customer
or
when the customer picks up the goods.
Business
Agreements
Income
is
also derived through business agreements for the development and/or
commercialization of products based upon our proprietary technology. Some of
the
business agreements have stipulated performance milestones and deliverables
where others require “best efforts” with no performance criteria. The business
agreements require that payments be made to us as certain milestones are reached
prior to delivery of the product to the customer. Accordingly, income related
to
business agreements are recorded as a reduction in research and development
expense, when title and risk of ownership transfers to the customer. Expenses
we
incur are recorded as research and development costs. During the nine months
ended September 30, 2008, we did not receive income from business agreements
and
therefore did not record a reduction in research and development expense
resulting from such agreements. From inception (May 19, 2003) to September
30,
2008, we recorded $273,913, as a reduction in research and development expense.
General
and Administrative Costs
General
and administrative costs include payroll, employee benefits, stock-based
compensation, and other costs associated with general and administrative costs
including administrative personnel, professional fees, consulting fees and
office expense. We allocate overhead and direct production expense to products
manufactured. However, because we have not reached our production capacity,
excess manufacturing costs are expensed as incurred as general and
administrative costs. Expenses related to pre-production include salaries for
production personnel, purchasing costs and the costs associated with production
ramp up. Total pre-production costs included in general and administrative
expenses for the three months and nine months ending September 30, 2008 totaled
$118,827 and $341,849, respectively. For the period from inception (May 19,
2003) to September 30, 2008 pre-production expense was $1,685,283.
Research
and Development Costs
Research
and development costs include payroll, employee benefits, stock-based
compensation, and other costs associated with product development and are
expensed as they are incurred. Accordingly, our investments in technology and
patents are recorded at zero in our balance sheets, regardless of their value.
Stock-Based
Compensation
Effective
January 1, 2006, we adopted the fair value recognition provisions of Statement
of Financial Accounting Standards No. 123R
“Share-Based
Payment” (“SFAS 123R”). As prescribed in SFAS 123R, we have elected to use the
modified prospective transition method, and accordingly, prior periods have
not
been restated to reflect the impact of SFAS 123R. Under this method, we are
required to recognize stock-based compensation for all new and unvested
stock-based awards that are ultimately expected to vest as the requisite service
is rendered, beginning January 1, 2006. We record stock-based compensation
expense on a straight-line basis over the requisite period, which is generally
a
four-to five-year vesting period. Historically, we applied the intrinsic method
as provided in Accounting Principles Board (“APB”) Opinion No. 25 (“APB No.
25”), “Accounting for Stock Issued to Employees,” and related interpretations
and accordingly, no compensation cost had been recognized for stock options
issued to employees in years prior to 2006.
In
March
2005, Staff Accounting Bulletin (“SAB”) 107 provided supplemental implementation
guidance for SFAS 123R. We applied the provisions of SAB 107 in our adoption
of
SFAS 123R. As a result of adopting the fair value method for stock compensation,
all stock options and restricted stock awards are expensed over the award
vesting period.
These
awards are expensed under the same approach using the fair value measurements
which were used in calculating pro forma stock-based compensation expense under
SFAS No. 123 “Accounting for Stock-Based Compensation” (“SFAS 123”).
SFAS
123R
requires the use of a valuation model (Note 10), to calculate the fair value
of
stock-based awards. We have elected to utilize the Black-Scholes option pricing
model to estimate the fair value of options.
Prior
to
the adoption of SFAS 123R, we accounted for stock-based awards to employees
and
directors using the intrinsic value method in accordance with APB No. 25 as
allowed under SFAS No. 123. As permitted by SFAS 123, we chose to follow APB
No.
25 and related interpretations for our employee stock-based compensation. Under
APB No. 25, no compensation expense was recognized at the time of option grant
if the exercise price of the employee stock option is fixed and equals or
exceeds the fair value of the underlying common stock on the date of grant
and
the number of shares to be issued pursuant to the exercise of such option are
known and fixed at the date of grant. We use the fair value of common stock
at
the close of business on the date the option is approved by our Board of
Directors.
We
account for options issued to non-employees (other than directors) under SFAS
123R and Emerging Issues Task Force (‘EITF’) No. 96-18, “Accounting for Equity
Instruments that are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods, or Services.” Therefore, the fair value of
options issued to non-employees, as calculated, using the Black Scholes Option
pricing formula (Note 10), is recorded as an expense over the vesting terms.
Options issued to non-employees and employees are issued using the same
methodology and assumptions.
The
following table illustrates the effect on net loss as if we had applied, prior
to January 1, 2006, the fair value recognition provisions for stock-based
employee compensation of SFAS 123, as amended by SFAS No. 148, “Accounting for
Stock-Based Compensation -- Transition and Disclosure.”
|
|
|
Period
from Inception
|
|
|
|
|
(May
19, 2003) to
|
|
|
|
|
September
30, 2008
|
|
|
|
|
|
|
|
Net
loss attributable to common shareholders, as reported
|
|
$
|
(16,665,253
|
)
|
|
|
|
|
|
|
|
Add:
options and restricted stock-based employee compensation
|
|
|
|
|
|
expense
included in reported net loss attributable to common
shareholders
|
|
|
1,654,138
|
|
|
Deduct:
options and restricted stock-based employee compensation
|
|
|
|
|
|
expense
determined under fair value based method
|
|
|
(1,839,940
|
)
|
|
|
|
|
|
|
|
Pro
forma net loss attributable to common shareholders
|
|
$
|
(16,851,055
|
)
|
Total
employee non-cash stock compensation expense, net of forfeitures, for the three
months and nine months ended September 30, 2008 was $71,672 and
$279,718.
For
purposes of pro forma disclosures, the estimated fair value of the options
granted is amortized to expense over the option vesting periods as services
are
performed (Note 10).
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 of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of
the financial statements and the reported amounts of revenue and expenses during
the reporting periods. Our actual results could differ from our
estimates.
Recent
Accounting Pronouncements
In
February 2008, the FASB issued Financial Staff Positions (“FSP”) FAS 157-2,
Effective
Date of FASB Statement No. 157
(“FSP
FAS 157-2”), which delays the effective date of SFAS No. 157,
Fair
Value Measurement
(“SFAS
157”), for all nonfinancial assets and nonfinancial liabilities, except those
that are recognized or disclosed at fair value in the financial statements
on a
recurring basis (at least annually). SFAS 157 establishes a framework for
measuring fair value and expands disclosures about fair value measurements.
FSP
FAS 157-2 partially defers the effective date of SFAS 157 to fiscal years
beginning after November 15, 2008, and interim periods within those fiscal
years for items within the scope of this FSP. FSP FAS 157-2 is effective for
us
beginning January 1, 2009. We are currently evaluating the potential impact
of the adoption of those provisions of SFAS 157, for which effectiveness was
delayed by FSP SFAS 157-2, on our consolidated financial position and results
of
operations.
In
May 2008, the FASB issued SFAS No. 162 “The Hierarchy of Generally
Accepted Accounting Principles”. SFAS No. 162 identifies the sources of
accounting principles and the framework for selecting the principles to be
used
in the preparation of financial statements of nongovernmental entities that
are
presented in conformity with generally accepted accounting principles. SFAS
No.
162 is effective 60 days following the Securities and Exchange Commission’s
approval of the Public Company Accounting Oversight Board Auditing amendments
to
AU Section 411, “
The
Meaning of
Present
Fairly in Conformity with Generally Accepted Accounting Principles.” This
statement will not have an impact on our financial statements.
In
June 2008, the FASB issued FSP Emerging Issues Task Force (“EITF”) 03-6-1,
“Determining Whether Instruments Granted in Share-Based Payment Transactions
Are
Participating Securities”. FSP EITF 03-6-1 clarified that all outstanding
unvested share-based payment awards that contain rights to nonforfeitable
dividends participate in undistributed earnings with common shareholders. Awards
of this nature are considered participating securities and the two-class method
of computing basic and diluted earnings per share must be applied. FSP EITF
03-6-1 will be applicable to the Company on January 1, 2009. We are
currently evaluating the impact that FSP EITF 03-6-1 will have on our financial
statements.
2.
FAIR VALUE INSTRUMENTS
Effective
January 1, 2008, we adopted SFAS 157, except as it applies to the
nonfinancial assets and nonfinancial liabilities subject to FSP SFAS 157-2.
SFAS
157 clarifies that fair value is an exit price, representing the amount that
would be received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants. As such, fair value is a market-based
measurement that should be determined based on assumptions that market
participants would use in pricing an asset or a liability. As a basis for
considering such assumptions, SFAS 157 establishes a three-tier value hierarchy,
which prioritizes the inputs used in the valuation methodologies in measuring
fair value:
Level 1
-
Observable inputs that reflect quoted prices (unadjusted) for identical assets
or liabilities in active markets.
Level 2
-
Include
other inputs that are directly or indirectly observable in the marketplace.
Level 3
-
Unobservable inputs which are supported by little or no market activity.
The
fair
value hierarchy also requires an entity to maximize the use of observable inputs
and minimize the use of unobservable inputs when measuring fair value.
When
determining the fair value measurements for assets or liabilities required
or
permitted to be recorded at and/or marked to fair value, we consider the
principal or most advantageous market in which it would transact and considers
assumptions that market participants would use when pricing the asset or
liability. When possible, we look to active and observable markets to price
identical assets. When identical assets are not traded in active markets, we
look to market observable data for similar assets. Nevertheless, certain assets
are not actively traded in observable markets and we must use alternative
valuation techniques to derive a fair value measurement.
We
classify our money market account using Level I methodology. At September 30,
2008, we had a $0 balance in this fund.
Effective
January 1, 2008, we also adopted SFAS 159,
The
Fair Value Option for Financial Assets and Financial Liabilities - including
an
Amendment of FASB Statement No. 115
,
which
allows an entity to choose to measure certain financial instruments and
liabilities at fair value on a contract-by-contract basis. Subsequent fair
value
measurement for the financial instruments and liabilities an entity chooses
to
measure will be recognized in earnings. As of September 30, 2008, we did not
elect such option for our financial instruments and liabilities.
3.
INVENTORIES
Inventories
are stated at the lower of cost or market value. Cost is determined by the
first-in, first-out method:
|
|
|
September
30, 2008
|
|
December
31, 2007
|
|
|
|
|
(unaudited)
|
|
|
|
|
Component
parts
|
|
$
|
852,008
|
|
$
|
1,266,612
|
|
|
Work
in process
|
|
|
27,070
|
|
|
10,407
|
|
|
Finished
goods
|
|
|
183,200
|
|
|
378,340
|
|
|
Totals
|
|
$
|
1,062,278
|
|
$
|
1,655,359
|
|
At
September 30, 2008, we recorded a loss of $248,420 resulting from a markdown
of
excess 4.9L Oxx Power
®
engine
parts. For the three months and nine months ending September 30, 2008, we
recorded a gain or recovery of $142,631 and $233,205, respectively for reman
and
new engine components that were marked down in previous years. The net effect
of
the inventory transactions for the three months and nine months ending September
30, 2008, is an inventory markdown for component parts of $105,789 and $15,215,
respectively. For the period from inception (May 19, 2003) through September
30,
2008 we realized a net inventory markdown of component parts and finished goods
of $977,238.
At
September 30, 2008, we had a sales orders backlog of approximately $315,000
for
new and remanufactured engines. We anticipate that substantially all of our
remanufactured engine inventory of approximately $282,500 will be depleted
by
December 31, 2008.
4.
NOTES PAYABLE, BANK
On
December 10, 2007 we renewed a note with a bank for $561,304. This note matures
on December 15, 2008, and carries a variable interest rate equal to prime.
At
September 30, 2008, the balance on the note is $544,860 and the note bears
an
interest rate of 5.0% with monthly interest and principal payments of $4,484
until maturity. The loan is secured by real estate.
On
December 27, 2007, we obtained funding for our yearly D&O insurance premium
through a loan agency. The original loan amount was $33,374 and requires three
quarterly payments of $11,626 beginning March 27, 2008. The loan carries an
interest rate of 8.95%. At September 30, 2008, the balance of the loan has
been
paid.
On
March
24, 2008, we obtained a line of credit from a bank for $250,000. The line of
credit is secured by real estate and a business security agreement and was
originally contracted to expire August 1, 2008. On July 21, 2008, the expiration
date on this note was extended to December 1, 2008. The line of credit carries
a
variable interest rate equal to 1.5% above prime. At September 30, 2008 the
balance on the line of credit was $250,000 and carried an interest rate of
6.50%.
On
March
27, 2008, we renewed a note with a bank for $591,956. The balance of this note
on September 30, 2008 was $583,221. This note matures on April 1, 2009, and
carries a variable interest rate equal to prime. At September 30, 2008, the
interest rate on the note was 5.0% and requires monthly interest and principal
payments of $4,340. The loan is secured by real estate.
5.
LONG-TERM DEBT
Long-term
debt consists of the following:
|
|
|
September
30, 2008
|
|
December
31, 2007
|
|
|
|
|
(unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
Note
payable to City of Algona. See (a)
|
|
$
|
145,000
|
|
$
|
160,000
|
|
|
|
|
|
|
|
|
|
|
|
Note
payable to Algona Area Economic Development Corporation. See (b)
|
|
|
146,124
|
|
|
146,124
|
|
|
|
|
|
|
|
|
|
|
|
Note
payable to Algona Area Economic Development Corporation. See
(c)
|
|
|
58,884
|
|
|
61,827
|
|
|
|
|
|
|
|
|
|
|
|
Notes
payable to Iowa Department of Economic Development. See (d)
|
|
|
400,000
|
|
|
400,000
|
|
|
|
|
|
|
|
|
|
|
|
Note
payable to finance company. See (e)
|
|
|
-
|
|
|
6,388
|
|
|
|
|
|
|
|
|
|
|
|
Note
payable to bank. See (f)
|
|
|
-
|
|
|
594,246
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
750,008
|
|
|
1,368,585
|
|
|
Less
amounts due within one year
|
|
|
24,271
|
|
|
30,350
|
|
|
|
|
|
|
|
|
|
|
|
Totals
|
|
$
|
725,737
|
|
$
|
1,338,235
|
|
Future
maturities of long-term debt at September 30, 2008 are as follows:
|
2009
|
|
$
|
6,123
|
|
|
2010
|
|
|
169,562
|
|
|
2011
|
|
|
200,330
|
|
|
2012
|
|
|
148,800
|
|
|
Thereafter
|
|
|
200,922
|
|
|
Total
long-term debt
|
|
$
|
725,737
|
|
(a)
In
September 2005, we obtained $200,000 from the City of Algona. The note requires
quarterly payments of $5,000 starting January 1, 2006, with the final payment
due October 1, 2015. There is no interest on this loan provided we create 42
new
full-time positions within two years of the agreement. On June 16, 2008, we
signed an amended agreement to extend the time requirement for job creation
until July 31, 2010. If job creation requirements are not met, interest on
the
loan will be payable at 10% per annum. At this time the requirements have not
been met. Therefore, as of September 30, 2008, we have accrued interest on
the
note in the amount of $53,392. The loan is collateralized by real
estate.
(b)
On
June 27, 2005, we executed a note payable of $146,124 from the Algona Area
Economic Development Corporation in exchange for land received to be used for
the construction of a new facility. The loan is a ten-year partially forgivable
loan with interest at 8%, conditioned upon us achieving performance targets
as
follows:
|
·
|
$67,650
of principal and interest will be forgiven if we certify that we
have
created 50 new full-time equivalent jobs by June 1, 2010, and continuously
retained those jobs in Algona, Iowa until June 1,
2015.
|
|
·
|
$67,650
of principal and interest will be forgiven if we certify that we
have
created and continuously retained 50 additional new full-time equivalent
jobs by June 1, 2015.
|
|
·
|
Balance
of $10,824 due on June 1, 2015, without interest if paid by that
date.
|
|
·
|
Payment
of a wage for the retained jobs that is equal to or greater than
the
average hourly wage for workers in Kossuth County, Iowa, as determined
annually by Iowa Workforce
Development.
|
At
this
time the requirements have not been met. Therefore, as of September 30, 2008,
we
have accrued interest in the amount of $38,144. The loan is secured by the
real
estate.
(c)
On
December 16, 2005, we assumed a no-interest note provided by the Algona Area
Economic Development Corporation in the amount of $117,500 in conjunction with
the purchase of land and building. This note was recorded at the fair value
of
future payments using an interest rate of 10% which amounted to $70,401,
resulting in a total purchase price of the land and building of $332,901. This
note is subordinate to a short-term note held by a bank. The note requires
quarterly payments of $2,500 starting January 1, 2006, with the final payment
due July 1, 2017.
(d)
On
June 28, 2005, the Iowa Department of Economic Development (“IDED”) awarded us a
Physical Infrastructure Assistance Program (“PIAP”) grant in the amount of
$150,000. This is a five-year forgivable loan and proceeds are to be used for
the construction and equipping of the 30,000 square foot manufacturing facility.
We received payment of this award in December 2005. Other terms of the loan
include a minimum contribution of $1,543,316 for building construction,
machinery and equipment, and working capital. In addition, we must create 49
full-time equivalent positions, with 38 positions at a starting wage exceeding
$11.76 per hour, and an average wage for all positions of $24.94 per hour.
In
order to qualify for the job count, employees must be Iowa residents. We are
required to maintain the minimum employment level through the thirteenth week
after the project completion date. If requirements are not met, the balance
of
the forgivable loan determined by IDED as due and payable will be amortized
over
three years from the agreement expiration date of July 31, 2010, at 6% interest
per annum with equal quarterly payments. IDED requires end-of-year status
reports to ensure compliance. At this time the requirements have not been met.
Therefore, as of September 30, 2008, the total amount of interest accrued was
$25,496. The note is secured by a security agreement on our assets.
Also
on
June 28, 2005, IDED awarded us a Community Economic Betterment Account (“CEBA”)
forgivable loan in the amount of $250,000. This is a three-year forgivable
loan
and proceeds are to be used for the construction of the plant. We received
$150,000 of this award in December 2005. The balance of the award, $100,000,
was
received in January 2006. The terms of this award are the same as the PIAP
award
explained in the previous paragraph. At the project completion date, if we
have
fulfilled at least 50% of our job creation/retention and wage obligation, $6,579
will be forgiven for each new full-time equivalent job created and retained
and
maintained for at least ninety days past the project completion date. The
project completion date of this award is July 30, 2010. Any balance (shortfall)
will be amortized over a two-year period, beginning at the project completion
date at 6% per annum from the date of the first CEBA disbursement on the
shortfall amount, with that amount accrued as of the project completion date,
being due and payable immediately. If we have a loan balance, the shortfall
balance and existing balance will be combined to reflect a single monthly
payment. We are accruing interest on this note until the terms of the note
have
been met. The total amount of interest accrued at September 30, 2008 was
$42,493. The note is secured by a security agreement on our assets.
|
|
At
September 30, 2008 we have created 10 jobs to meet the above job
creation
requirement.
|
(e)
On
March 20, 2006, we acquired manufacturing equipment through an equipment
financing agreement with Wells Fargo Financial Leasing, Inc. The note requires
payments of $2,129 per month for 24 months. The equipment serves as collateral
for the note. At September 30, 2008, the entire remaining balance has been
paid.
|
|
(f)
On March 27, 2008, we renewed a note with a bank for $591,956. The
balance
of this note on September 30, 2008 was $583,221 and at September
30, 2008
was included in notes payable, bank (Note 4). This note matures on
April
1, 2009, and carries a variable interest rate equal to the Wall Street
Journal U.S. Prime Rate. At September 30, 2008, the interest rate
on the
note was 5% and requires monthly interest and principal payments
of
$4,340. The loan is secured by real estate. The entire remaining
balance
at September 30, 2008 is due within one year and considered current.
|
6.
CAPITALIZED LEASES
We
have
entered into three capital lease agreements, to purchase equipment with a net
book value of $113,749 at September 30, 2008. Amortization of assets held under
capital lease is included with depreciation expense.
The
following is a schedule, by years of future minimum payments, required under
the
lease together with their present value as of September 30, 2008:
|
2008
|
|
$
|
14,362
|
|
|
2009
|
|
|
57,448
|
|
|
2010
|
|
|
19,889
|
|
|
2011
|
|
|
11,586
|
|
|
2012
|
|
|
635
|
|
|
Total
minimum lease payments
|
|
|
103,920
|
|
|
Less
amount representing interest
|
|
|
11,135
|
|
|
Present
value of minimum lease payments
|
|
|
92,785
|
|
|
Less
amounts due within one year
|
|
|
49,549
|
|
|
Totals
|
|
$
|
43,236
|
|
7.
GRANTS AND INCENTIVE PROGRAMS
On
June
28, 2005, we signed an Enterprise Zone (EZ) Agreement with the Iowa Department
of Economic Development (“IDED”). This agreement was later amended, September
26, 2006, to include both properties on our production site. This agreement
provides certain benefits and in order to receive these benefits, we were
required to create 59 new full-time equivalent jobs at our project site within
three years of the date of the agreement. We were also required pay a median
wage of $23.89 per hour and pay 80% of the employees’ medical and dental
insurance. Within three years of the effective date of the agreement, we were
also required to make a capital investment of at least $1,329,716 within the
Enterprise Zone. If we do not meet these requirements, a portion of the
incentives and assistance will have to be repaid, which will be based on the
portion of requirements that we have met.
At
September 30, 2008, we had not met all of our obligations for the EZ agreement
and we have determined that we will probably not meet all of the requirements
of
this agreement. We have recorded most of the benefits we have received from
this
program as liabilities estimated to be $165,000. We have notified IDED of our
inability to meet our job creation obligations and we are in the process of
providing them with essential information so that the amount due and timing
of
the repayments can be determined.
8.
RELATED
PARTIES
On
September 3, 2008, we entered into a Controller Design Agreement with a company
co-founded by one of our directors. The scope of the agreement includes the
enhancement of our OxxBoxx controller with wireless technology to produce a
remote wireless engine controller. The agreement provides for development and
testing by us and the contractor working to create a production-ready
controller. The cost of the development work incurred through September 30,
2008
was $30,529. We estimate the total cost of the project to be approximately
$225,000, however the project has been suspended until we can obtain the
financing needed to sustain the development. In addition, we entered into an
agreement with this same director’s investment banking firm for consulting
services. The total cost of the engagement is expected to be $20,000 and through
September 30, 2008 we have paid $10,000.
9.
COMMON
STOCK
Our
registration statement covering 4,054,541 shares of such equity securities,
filed on May 20, 2008, was declared effective by the Commission on August 5,
2008.
We
entered into a Standby Equity Distribution Agreement (the “SEDA”) with an
investor on April 11, 2008. For a two-year period beginning on
August
5,
2008, we will have the right
,
at our
discretion, to sell registered shares of our common stock to the Investor for
up
to $4,000,000. For each share of common stock purchased under the SEDA, the
Investor will pay ninety-three (93%) of the lowest daily volume weighted average
price (“VWAP”) during the five consecutive trading days after the Advance Notice
Date (as such term is defined in the SEDA). Each such sale (“Advance”) may be
for an amount not to exceed $350,000
and each
Advance Notice Date must be no less than five trading days after the prior
Advance Notice Date
.
The
Advance request will be reduced to the extent the price of our common stock
during the
five
consecutive trading days after the Advance Notice Date
is less
than 85% of the VWAP on the trading day
immediately
preceding the Advance Notice Date
.
Under
the
terms of the SEDA, we have paid a structuring fee of $10,000, a due diligence
fee of $5,000 and issued 386,567 shares of common stock to satisfy a $160,000
Commitment Fee. We are also obligated to pay a monthly monitoring fee of $3,333
during the term of the agreement. We may terminate the SEDA upon 15 trading
days
notice, provided there are no Advances outstanding and that we have paid all
amounts then due to the Investor.
We
began
accessing the SEDA funds in August and at November 7, 2008, have issued 247,977
shares at an average price of $.23 and received $57,130 in capital. As of
September 30, 2008, we had 30,102,849 shares of Common Stock issued and
outstanding.
10.
STOCK-BASED
COMPENSATION
On
September 1, 2005, we adopted an Incentive Compensation Plan (“Incentive Plan”)
for the purpose of encouraging key officers, directors, employees and
consultants to remain with the company and devote their best efforts to the
business of the company. Under this plan, options may be granted to eligible
participants, at a price not less than the fair market value of the stock at
the
date of grant. Options granted under this plan may be designated as either
incentive or non-qualified options and vest over periods designated by the
Board
of Directors, generally over two to five years, and expire no later than ten
years from the date of grant. Upon exercise, we issue new shares of Common
Stock
to the employee.
We
may
also issue restricted stock under the Incentive Plan. Restricted stock awards
made under this program vest over periods designated by the Board of Directors,
generally two to four years. The aggregate number of shares authorized for
employee stock options, non-employee stock options and restricted stock awards
is 2,000,000. At September 30, 2008, there were 794,584 shares available for
grant and 1,205,416 shares granted. Of the shares granted, 361,000 were granted
as restricted stock, 231,666 were granted as non-employee stock options, and
612,750 were granted as employee and director stock options.
The
following table presents the weighted-average assumptions post repricing, used
to estimate the fair values of the stock options granted to employees and
non-employees in the periods presented, using the Black-Scholes option pricing
formula. The risk-free interest rate for periods within the contractual life
of
the option is based on the U.S. Treasury yield curve in effect at the time
of
grant. The expected life is based on our historical data of option exercise
and
forfeiture. Expected volatility is based on the average reported volatility
and
vesting period of a representative sample of eight comparable companies in
the
alternative fuel technology and services niches with market capitalizations
between $14 million and $1 billion, in addition to our actual history since
September 2005.
|
|
|
|
|
|
|
Period
from Inception
|
|
|
|
|
For
the three months ending September 30,
|
|
For
the nine months ending
September
30,
|
|
(May
19, 2003) to
|
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
September
30, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Risk-free
interest rate
|
|
|
-
|
%
|
|
4.7
|
%
|
|
3.6
|
%
|
|
4.7
|
%
|
|
4.2
|
%
|
|
Expected
volatility
|
|
|
-
|
%
|
|
96.4
|
%
|
|
81.0
|
%
|
|
96.4
|
%
|
|
146.5
|
%
|
|
Expected
life (in years)
|
|
|
-
|
|
|
5.5
|
|
|
4.0
|
|
|
5.5
|
|
|
7.4
|
|
|
Dividend
yield
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
Weighted-average
estimated fair value of options granted during the period
|
|
$
|
-
|
|
$
|
.99
|
|
$
|
.27
|
|
$
|
.99
|
|
$
|
.97
|
|
No
options were granted during the three months ending September 30,
2008.
The
following table summarizes the activity for outstanding employee and
non-employee stock options for the nine months ended September 30,
2008:
|
|
|
|
Options
Outstanding
|
|
|
|
|
|
Number
of Shares
|
|
|
Weighted-Average
Exercise Price
|
|
|
Weighted-Average
Remaining Contractual Term
(in
years)
|
|
|
Aggregate
Intrinsic Value
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at December 31, 2007
|
|
|
884,916
|
|
$
|
1.16
|
|
|
|
|
|
|
|
|
Granted
|
|
|
50,000
|
|
$
|
.46
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(98,500
|
)
|
$
|
1.33
|
|
|
|
|
|
|
|
|
Balance
at September 30, 2008
|
|
|
836,416
|
|
$
|
1.09
|
|
|
3.56
|
|
$
|
-
|
|
|
Vested
and exercisable as
of
September 30, 2008
|
|
|
719,916
|
|
$
|
1.08
|
|
|
2.90
|
|
$
|
-
|
|
|
Vested
and expected to vest as
of
September 30, 2008
|
|
|
811,324
|
|
$
|
1.09
|
|
|
3.45
|
|
$
|
-
|
|
|
(1)
|
The
aggregate intrinsic value is calculated as approximately the difference
between the weighted-average exercise price of the underlying awards
and
our closing stock price of $0.23 on September 30, 2008, the last
day of
trading in September.
|
There
were no stock options exercised during the nine months ending September 30,
2008.
As
of
September 30, 2008, there was approximately $432,010 of unrecognized
compensation cost related to outstanding stock options, net of forecasted
forfeitures. This amount is expected to be recognized over a weighted-average
period of 2.9 years. To the extent the forfeiture rate is different than we
have
anticipated, stock-based compensation related to these awards will be different
from expectations.
The
following table summarizes the activity for the unvested restricted stock for
the nine months ended September 30, 2008:
|
|
|
Unvested
Restricted Stock
|
|
|
|
|
Number
of
Shares
|
|
Weighted-Average
Grant
Date
Fair
Value
|
|
|
|
|
|
|
|
Unvested
at December 31, 2007
|
|
|
92,000
|
|
$
|
1.00
|
|
|
Vested
|
|
|
(46,000
|
)
|
$
|
|
|
|
Unvested
at September 30, 2008
|
|
|
46,000
|
|
$
|
1.00
|
|
As
of
September 30, 2008, there was approximately $40,902 of unrecognized compensation
cost related to unvested restricted stock. This amount is expected to be
recognized over a weighted-average period of .92 years. To the extent actual
forfeiture rate is different than we have anticipated, the numbers of restricted
stock expected to vest would be different from expectations.
The
following table summarizes additional information about stock options
outstanding and exercisable as of September 30, 2008:
|
Options
Outstanding
|
|
Options
Exercisable
|
|
|
Exercise
Price
|
|
Options
Outstanding
|
|
Weighted-Average
Remaining Contractual Life
|
|
Weighted-Average
Exercise Price
|
|
Shares
Exercisable
|
|
Weighted-Average
Exercise Price
|
|
|
$0.40
|
|
|
20,000
|
|
|
9.50
|
|
$
|
.40
|
|
|
10,000
|
|
$
|
.40
|
|
|
$0.50
|
|
|
30,000
|
|
|
2.38
|
|
$
|
.50
|
|
|
30,000
|
|
$
|
.50
|
|
|
$1.00
|
|
|
481,666
|
|
|
2.22
|
|
$
|
1.00
|
|
|
455,666
|
|
$
|
1.00
|
|
|
$1.34
|
|
|
304,750
|
|
|
5.39
|
|
$
|
1.34
|
|
|
224,250
|
|
$
|
1.34
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
836,416
|
|
|
3.56
|
|
$
|
1.09
|
|
|
719,916
|
|
$
|
1.08
|
|
ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
THE
FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION WITH THE OTHER
FINANCIAL INFORMATION AND CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES
APPEARING IN THIS FORM 10-Q. THIS DISCUSSION CONTAINS FORWARD LOOKING STATEMENTS
THAT INVOLVE RISKS AND UNCERTAINTIES. OUR ACTUAL RESULTS WILL DEPEND UPON A
NUMBER OF FACTORS BEYOND OUR CONTROL AND COULD DIFFER MATERIALLY FROM THOSE
ANTICIPATED IN THE FORWARD LOOKING STATEMENTS. READERS SHOULD CAREFULLY READ
OUR
FINANCIAL STATEMENTS AND THE NOTES THERETO, AS WELL AS THE "RISK FACTORS"
DESCRIBED
IN THE DOCUMENTS WE FILE FROM TIME TO TIME WITH THE SECURITIES AND EXCHANGE
COMMISSION, INCLUDING OUR ANNUAL REPORT ON FORM 10-KSB/A FOR THE TWELVE MONTHS
ENDED DECEMBER 31, 2007.
General
Hydrogen
Engine Center, Inc. (“HEC”, “we”, “us”, “our” or the “company”) was organized
for the purpose of developing and commercializing clean solutions for today’s
energy needs. We offer technologies that enable spark-ignited internal
combustion engines and power generation systems to produce clean energy with
near-zero carbon emissions, using our pr
o
prietary
engine controller and software to efficiently distribute ignition spark and
fuel
to injectors. Our business plan is centered on a growing portfolio of
intellectual property that has been designed to play an increasing role in
addressing turn-key alternative-fuel energy solutions for the industrial and
power generation markets. HEC’s turn-key solutions enable uninterrupted
generation of electricity by storing energy through the production of renewable
fuels such as hydrogen and ammonia. Our mission is to provide the most reliable,
most efficient and lowest emission energy storage and generation solutions,
utilizing renewable fuels, to the global industrial market.
We
are
focusing our attention on developing and marketing our turn-key, 1MW power
generation system that can be used to store energy and generate electricity
with
wind power. Wind power is the fastest growing electricity source in the world.
According to Clean Edge Research, Wind power (new installation capital costs)
is
projected to expand from $30.1 billion in 2007 to $83.4 billion in 2017. Last
year’s global wind power installation reached a record 20,000 MW, equivalent to
20 large-size 1 GW conventional power plants.
In
line
with the tremendous opportunities existing in wind storage, our systems, which
store clean energy and generate electricity, are designed to be tied to the
power grid. The systems stabilize the peaks and valleys in wind energy
production. This is a valuable feature to wind power producers, who need to
prove “constant power” in order to gain access to the grid.
Our
current involvement with wind-to-hydrogen projects with Xcel Energy and Natural
Resources Canada provide examples of how our power generation systems can be
combined with a renewable resource to provide intermittent or continuous power
generation. In these systems, when the wind blows, the wind turbines provide
electric power. If the power created exceeds the demand, excess electricity
will
be used to create hydrogen through electrolysis (separation of water into
hydrogen and oxygen). The hydrogen is then stored to be utilized to fuel our
power generation system during peak usage of electricity or when wind energy
is
unavailable.
On
August
15, 2008, we received a purchase order from Newfoundland Labrador Hydro for
$145,510 for additional work to provide grid connectivity to the 4 + 1® which
was purchased by Natural Resources Canada.
We
believe that we are the only company that can provide wind storage for constant
power generation. Many other technologies, including fuel cells, are in early
or
development stage. Our primary target market is on-the-grid and off-the-grid
wind power facilities, where wind storage could contribute substantially to
the
value proposition of this renewable source of energy.
In
addition, we also expect to sell hydrogen engines for dedicated uses, such
as
airport ground support and irrigation pumping. We are, for example, currently
working, in collaboration with Air Liquide and a number of other participants,
to finalize an opportunity to sell some of our hydrogen-fueled engines for
use
in ground support vehicles at designated airports. Many airports are seeking
clean-energy solutions for operation of ground support vehicles. We believe
we
are uniquely situated to meet the needs of this market. We have developed our
own proprietary controller that enables our engines to run efficiently on
hydrogen.
The
accompanying condensed consolidated balance sheets as of September 30, 2008
and
December 31, 2007 and the condensed consolidated statements of operations,
and
the condensed consolidated statements of cash flows for the three- and
nine-month periods ended September 30, 2008 and 2007 and for the period from
inception (May 19, 2003) to September 30, 2008 respectively, consolidate the
historical financial statements of the company with HEC Iowa after giving effect
to the 2005 merger with Green Mt. Labs, Inc. pursuant to which HEC Iowa was
the
accounting acquirer and after giving effect to our private offerings.
Overview
We
own
all of the issued and outstanding shares of HEC Iowa and all of the issued
and
outstanding shares of Hydrogen Engine Center (HEC) Canada, Inc. HEC Iowa is
a
development stage company being built upon the vision of carbon-free, energy
independence. We are building technologies designed to enable engines and
gensets to generate and use clean power on demand, where needed.
We
have
funded our operations from inception through September 30, 2008, through a
series of financing transactions, including convertible loans and Private
Offerings. In April 2008, we entered into a SEDA which provides us the
opportunity to access additional capital in the maximum amount of Four Million
Dollars ($4,000,000). The SEDA was subject to our obtaining an effective
registration statement for shares of our Common Stock sold under the SEDA,
which
was declared effective August 5, 2008. Our ability to access the SEDA funds
has
been restricted by the recent fluctuation and general decline in the trading
price or our shares. We have accessed SEDA funds totaling $57,131 as of October
31, 2008. We view the SEDA as a financial safety net and we do not intend to
access the full amount that may become available to us unless alternative
financing on terms deemed acceptable to the company is not available. See
“Liquidity and Capital Resources - Terms of the SEDA”.
Results
of Operations
A
summary
statement of our operations, for the three and nine months ended September
30,
2008 and 2007 and for the period from inception through September 30, 2008
follows:
|
|
|
|
Three
months ended
September
30,
|
|
|
Nine
months ended
September
30,
|
|
|
From
Inception
(May
19, 2003) to
September
30,
2008
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
|
|
|
Revenues
|
|
$
|
352,571
|
|
$
|
86,047
|
|
$
|
874,028
|
|
$
|
527,720
|
|
$
|
1,936,731
|
|
|
Cost
of Goods Sold
|
|
|
432,756
|
|
|
313,897
|
|
|
824,410
|
|
|
667,996
|
|
|
2,708,217
|
|
|
Gross
Profit (Loss)
|
|
|
(80,185
|
)
|
|
(227,850
|
)
|
|
49,618
|
|
|
(140,276
|
)
|
|
(771,486
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
Expenses
|
|
|
611,440
|
|
|
1,035,820
|
|
|
2,220,705
|
|
|
3,955,938
|
|
|
13,721,153
|
|
|
Loss
from Operations
|
|
|
(691,625
|
)
|
|
(1,263,670
|
)
|
|
(2,171,087
|
)
|
|
(4,096,214
|
)
|
|
(14,492,639
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Expense
|
|
|
(33,442
|
)
|
|
(22,745
|
)
|
|
(99,425
|
)
|
|
(73,238
|
)
|
|
(283,551
|
)
|
|
Net
Loss
|
|
$
|
(725,067
|
)
|
$
|
(1,286,415
|
)
|
$
|
(2,270,512
|
)
|
$
|
(4,169,452
|
)
|
$
|
(14,776,190
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series
A Preferred Stock Beneficial Conversion Feature Accreted as a
Dividend
|
|
|
-
|
|
|
-
|
|
|
-
|
|
$
|
(1,889,063
|
)
|
$
|
(1,889,063
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Loss Available to Common Stockholders
|
|
$
|
(725,067
|
)
|
$
|
(1,286,415
|
)
|
$
|
(2,270,512
|
)
|
$
|
(6,058,515
|
)
|
$
|
(16,665,253
|
)
|
Historical
information for periods prior to the merger is that of HEC Iowa.
We
continue to operate as a development stage company. We are still developing
our
intellectual property and related products and have not realized significant
revenues to date. As a development stage company we are engaging in the research
and development of our products, we continue to foster relationships with
vendors and customers and we are in the process of raising additional capital
to
support our business plan.
Revenues
Revenues
in the three-month period ended September 30, 2008 were $352,571 as compared
to
$86,047 for the same period in 2007. This represents an increase of $266,524,
or
310%, as compared to revenues during the same three month period in 2007. We
expect sales for the fourth quarter 2008 will also show an increase compared
to
the fourth quarter of 2007 as we continue to sell off our remanufactured engine
inventory. For the nine-month period ended September 30, 2008 we realized sales
of $874,028 for the nine-month period ended September 30, 2008 compared to
$527,720 for the nine-month period ended September 30, 2007. This represents
an
increase of $346,308, or 66% from the same period last year. From inception
to
date we have realized revenues of $1,936,731.
We
also
derive income through business agreements for the development and/or
commercialization of our hydrogen and ammonia products, which are not reflected
in our revenue. We record income related to business agreements as a reduction
in research and development expense. The expenses we incur are recorded as
research and development costs. During the three- and nine-month periods ended
September 30, 2008, we did not record a reduction in research and development
expense resulting from business agreements.
Cost
of Sales and Gross Profit
We
realized a loss on our revenues of $80,185 during the three months ending
September 30, 2008 due to a markdown of excess inventory which, netted with
recoveries of inventory previously marked down, totaled $105,788. The total
inventory markdown of $248,420 was netted with inventory recoveries of $142,632.
We expect minimal gross profit margins during the remainder of 2008 on the
sale
of our remanufactured engine inventory.
We
realized a gross profit of $49,618 for the nine-month period ending September
30, 2008, as compared to a loss of $140,276 for the same period last year.
We
recovered $233,205 from inventory marked down in 2007 and netted with additional
markdowns of excess inventory of $248,420, which took place during the three
months ended September 30, 2008, resulted in a net inventory markdown of
$15,215. The total of cost of sales during the nine-month period ending
September 30, 2008, including the inventory markdown was $824,410, For the
period from inception (May 19, 2003) through September 30, 2008 we realized
a
net inventory markdown of component parts and finished goods of $977,238.
At
September 30, 2008, we had sales orders backlogs of approximately $315,000
for
new and remanufactured engines. We anticipate that substantially all of our
remanufactured engine inventory of approximately $282,500 will be depleted
by
December 31, 2008.
Operating
Expenses
Our
sales
and marketing expenses for the three-month periods ended September 30, 2008
and
2007 were $24,829 and $64,488, respectively. Our sales and marketing expenses
for the nine-month periods ended September 30, 2008 and 2007 were $159,385
and
$231,236, respectively and the total expense from inception (May 19, 2003)
to
September 30, 2008 is $1,360,421. We have not placed enough emphasis on our
sales and marketing efforts and are making a concentrated effort to do so at
this time. We plan to aggressively market our N + 1, 1 MW power generation
system to generate revenues. Therefore, we expect to realize an increase in
spending as it relates to the sale and marketing of our N + 1 power
generation products during 2009.
General
and administrative expenses decreased from $610,243 for the three months ended
September 30, 2007 to $378,606 for the three months ended September 30, 2008.
General and administrative expenses decreased from $2,167,029 for the nine
months ended September 30, 2007 to $
1,446,642
for the nine months ended September 30, 2008. General and administrative
expenses from inception (May 19, 2003) through September 30, 2008 were
$7,918,051. Our general and administrative costs include payroll, employee
benefits, stock-based compensation, and other costs associated with general
and
administrative costs such as investor relations, accounting and legal fees
related to our public filings.
Our
general and administrative expenses also include overhead and direct production
expense related to pre-production costs, which costs, if we had reached
production capacity, would be allocated to products manufactured. Expenses
related to pre-production include salaries for production, personnel, purchasing
costs and costs associated with production ramp up. Total pre-production
expenses included in general and administrative expense for the three-month
periods ended September 30, 2008 and 2007 respectively, were $118,827 and
$106,019. Total pre-production expenses included in general and administrative
expense for the nine month-periods ended September 30, 2008 and 2007
respectively, were $341,849 and $448,734. Pre-production expense from inception
(May 19, 2003) through September 30, 2008 totaled $1,806,767.
We
view
our stock-based compensation as a key tool that allows us to attract talented,
experienced employees and directors without having to increase cash
compensation. Although we have been able to preserve cash with this tool, we
have recognized $71,672 in stock option and in restricted stock expense for
employees and directors in the three months ended September 30, 2008 and
$153,759 in stock option and restricted stock expense for the three months
ended
September 30, 2007. We have recognized $279,718 in stock option and restricted
stock expense for employees and directors in the nine months ended September
30,
2008 and $478,795 in stock option and restricted stock expense for the nine
months ended September 30, 2007. Total stock option compensation for employees
and directors from inception (May 19, 2003) through September 30, 2008 was
$1,654,137. Stock option expense is allocated among sales and marketing expense,
general and administrative expense and research and development expense.
Since
inception (May 19, 2003), we have accrued $66,649 in accrued property taxes
and
$51,772 in accrued program costs related to forgivable loans and grants from
state and local government sponsored programs. These expenses have also been
recorded as general and administrative expenses. Expenses related to forgivable
loans and grants will continue to accrue until we meet certain criteria for
job
creation. If we can comply with the job creation criteria, these expenses would
be recorded, at the time of forgiveness, as other income.
Costs
related to research and development were $208,004 and $361,089 for the
three-month periods ended September 30, 2008 and 2007, respectively. Costs
related to research and development were $614,678 and $1,109,662 for the
nine-month periods ended September 30, 2008 and 2007, respectively. Total
expense for research and development expense from inception (May 19, 2003)
to
September 30, 2008 is $3,865,181. Management believes that, assuming receipt
of
additional capital, research and development expenses will increase in the
fourth quarter of 2008 and the first half of 2009.
Loss
from Operations
We
recorded an operating loss of $691,625 for the three months ended September
30,
2008 compared to an operating loss of $1,263,670 for the three months ended
September 30, 2007. We recorded an operating loss of $2,171,087 for the nine
months ended September 30, 2008 compared to an operating loss
of
$
4,096,214
for the nine months ended September 30, 2007.
We
recorded operating losses totaling $14,492,639 from inception (May 19, 2003)
through September 30, 2008. We expect to continue to operate at a loss during
the fourth quarter of 2008 and during the first half of 2009.
During
the three month and nine month periods ended September 30, 2008 we did not
recognize any stock dividends attributable to stockholders. During the nine
months ended September 30, 2007, we accreted a beneficial conversion dividend
to
the holders of Series A Preferred Stock of $1,889,063. The stock dividend
resulted in a net loss to common stockholders of $6,058,515 for the nine months
ended September 30, 2007 and did not have an affect on the net loss to common
stockholders at September 30, 2008. We recorded net losses attributable to
common stockholders totaling $16,665,253 from inception (May 19, 2003) through
September 30, 2008.
Other
Income (Expense)
We
had
minimal interest income for the three months ended September 30, 2008 of $107
compared to interest income of $24,935 for the three months ended September
30,
2007. We had total interest income for the nine months ended September 30,
2008
of $6,749 as compared to interest income of $60,681 for the nine months ended
September 30, 2007. We realized interest income from inception (May 19, 2003)
to
September 30, 2008 of $170,802.
Interest
expense for the three months ended September 30, 2008 was $33,549 and $46,653
for the three months ended September 30, 2007. Interest expense for the nine
months ended September 30, 2008 was $106,174 and $132,892 for the nine months
ended September 30, 2007. Our interest expense from inception (May 19, 2003)
to
September 30, 2008 totaled $447,619. We accrue interest expense related to
forgivable loans and grants from state and local government sponsored programs.
From inception (May 19, 2003) through September 30, 2008 we have accrued
$160,977 in accrued interest expense related to our forgivable loans and grants
and will continue to accrue these expenses until we meet certain criteria for
job creation. If we can comply with the job creation criteria, these amounts
would be recorded, at the time of forgiveness, as other income.
Critical
Accounting Policies
Our
discussion and analysis of our financial position and results of operations
are
based upon our consolidated financial statements, which have been prepared
in
accordance with accounting principles generally accepted in the United States
of
America. The preparation of these consolidated financial statements requires
us
to make estimates and assumptions that affect the reported amounts of assets
and
liabilities, and the disclosure of contingent assets and liabilities at the
date
of the consolidated financial statements and the reported revenues and expenses
during the period.
Inventories
Our
inventories consist mainly of parts, work-in-process and finished goods that
are
stated at the lower of cost or market. Certain inventory items have been written
down to the estimated sales price.
Warranty
Reserve
We
record
a warranty reserve at the time products are sold or at the time revenue is
recognized. We estimate the liability for product warranty costs based upon
industry standards and best estimate of future warranty claims. Due to a lack
of
actual warranty history to use as a basis for our reserve estimate, it is
possible that actual claims may vary significantly from the estimated
amounts.
Revenue
Recognition
Revenue
from the sale of our products is recognized at the time title and risk of
ownership transfer to customers. This occurs upon shipment to the customer
or
when the customer picks up the goods.
Stock-based
Compensation
We
consider certain accounting policies related to stock-based compensation to
be
critical to our business operations and the understanding of our results of
operations. See Note 1 of Notes to Condensed Consolidated Financial
Statements.
Liquidity
and Capital Resources
Operating
Budget and Financing of Operations
We
have
financed our operations since inception primarily through equity and debt
financings and loans from our officers, directors, and stockholders. Our sales
are beginning to increase steadily and we have reduced our operating expenses.
On
April
11, 2008, we entered into a Standby Equity Distribution Agreement with YA Global
Investments, L.P. (“YA Global”), which provides us the opportunity to access
additional capital in the maximum amount of Four Million Dollars ($4,000,000)
in
increments not to exceed $350,000 each. We have access to these funds over
a
two-year period beginning on August 5, 2008, the date on which the SEC declared
effective our registration statement registering the resale of our shares by
YA
Global. The per share price for shares issued under the SEDA is dependent upon
the market value of our stock at the time of funding. Our registration statement
covered 4,054,541 shares. Assuming, by way of example, a per share price of
$.20, the maximum amount that we could receive from YA Global under this
registration statement would be $754,000.
It
has
been difficult to depend on the SEDA to fund our operations. According to the
terms of the SEDA, once an advance is requested, the investor can begin selling
shares which consequently drives the price of the stock lower. We began
accessing the SEDA funds in August and at November 10, 2008, have sold 247,977
shares at an average price of $.23 and have received $57,130 in capital. See
“Liquidity and Capital Resources - Terms of the SEDA” below. The number of
shares we can sell under the SEDA has also been adversely affected by the recent
fluctuation and general decline in the trading price of our shares.
We
continue to take steps to lower our monthly cash expenditures and our engine
sales have increased this quarter and are expected to remain consistent in
the
fourth quarter. As of November 7, 2008, we had cash of $17,944, trade
receivables of $151,032 and $304,658 in trade payables. We have sales orders
of
$300,123. In addition, we have access to the SEDA funds mentioned above, however
draws are subject to limitations, primarily the market value of our stock,
which
restrict the amount of funds that can be drawn. We also are dependent on the
renewal of our loans with our financial lenders.
We
expect
to secure an agreement to provide hydrogen-fueled engines for ground support
vehicles at designated airports in the fourth quarter of 2008. We expect to
continue the sale of our excess inventory. We are pursuing strategic alliances
to assist us in marketing our wind to hydrogen products. We also expect to
engage in a capital raise. We believe that the combination of these
opportunities and potentials can provide needed cash flow to our operations
for
three to six months; however there are no assurances that anticipated sales
will
occur in the timeframe we anticipate, which would have a negative adverse effect
on our operations and would accelerate the need for additional funding. We
are
dependent on the capital we draw from the SEDA, continued renewal of existing
debt arrangements as well as anticipated revenue from the expected airport
project and the sale of our engine inventory to fund our involvement in new
research and development projects and sustain our operations.
Going
Concern
Our
accompanying consolidated financial statements have been prepared on a going
concern basis, which contemplates our continuation of operations, realization
of
assets, and liquidation of liabilities in the ordinary course of business.
Since
inception, we have incurred substantial operating losses and expect to incur
additional operating losses over the next several months. As of September 30,
2008, we had an accumulated deficit of approximately $14.8 million. Our
accompanying financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
Terms
of the SEDA
On
April
11, 2008, we entered into a Standby Equity Distribution Agreement with YA
Global. The SEDA provides us the opportunity, for a two-year period beginning
August 5, 2008, the date on which the SEC first declared effective the
registration statement registering the resale of 4,054,541 of our shares by
YA
Global, to sell shares of our Common Stock to YA Global for a total purchase
price of up to Four Million Dollars ($4,000,000). For each share of Common
Stock
purchased under the SEDA, YA Global will pay 93% of the lowest daily VWAP during
the five (5) consecutive trading days after the Advance Notice date. Each
Advance may be for an amount not to exceed $350,000 and each Advance Notice
date
must be no less than five (5) trading days after the prior Advance Notice date.
The Advance request will be reduced to the extent the price of our Common Stock
during the five (5) consecutive trading days after the Advance Notice date
is
less that 85% of the Volume Weighted Average Price (“VWAP”) on the trading day
immediately preceding the Advance Notice date.
We
have
paid $15,000 to YA Global as a structuring and due diligence fee and on June
10,
2008 we issued 386,567 shares to YA Global as a commitment fee. We are obligated
to pay a monthly monitoring fee of $3,333 during the term of the SEDA. We may
terminate the SEDA upon fifteen (15) trading days of prior notice to YA Global,
as long as there are no Advances outstanding and we have paid to YA Global
all
amounts then due. A copy of the SEDA is attached as Exhibit 10.3 to the
company’s Annual Report on Form 10-K as filed with the SEC on April 15,
2008.
We
engaged Growth Energy Capital Advisors (GenCap) of Dallas, TX, an unaffiliated
registered broker-dealer, to act as placement agent in connection with the
SEDA.
GenCap is entitled to receive a fee equal to seven percent (7%) of the gross
proceeds of the SEDA and warrants to purchase a number of shares of Common
Stock
equal to five percent (5%) of the total number of shares issued under the SEDA.
If we drew down on the entire Four Million Dollars ($4,000,000) available under
the SEDA, GenCap would receive an aggregate placement fee equal to $280,000
plus
warrants to purchase common stock.
We
claim
an exemption from the registration requirements of the Securities Act for the
private placement of our shares in the SEDA pursuant to Section 4(2) of the
Securities Act and/or Rule 506 of Regulation D promulgated thereunder. The
transaction does not involve a public offering, YA Global is an “accredited
investor” and/or qualified institutional buyer and YA Global has access to
information about the company and its investment.
Cash
Flow From Operations
The
following table depicts cash flow information for the three- and nine-month
periods ended September 30, 2008 and 2007 and from inception (May 19, 2003)
to
September 30, 2008:
|
|
|
Three
months ended
September
30,
|
|
Nine
months ended
September
30,
|
|
From
Inception
(May
19, 2003)
to
September
30,
2008
|
|
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
Net
cash used in
operating
activities
|
|
$
|
(101,928
|
)
|
$
|
(844,703
|
)
|
$
|
(913,214
|
)
|
$
|
(3,228,178
|
)
|
$
|
(12,081,297
|
)
|
|
Net
cash provided by
(used
in) investing activities
|
|
|
-
|
|
|
(33,836
|
)
|
|
115,157
|
|
|
(143,700
|
)
|
|
(2,976,408
|
)
|
|
Net
cash provided by
(used
in) financing
activities
|
|
|
20,762
|
|
|
(26,031
|
)
|
|
139,016
|
|
|
3,780,168
|
|
|
15,115,365
|
|
Net
cash
used in operating activities was $101,928 during the three months ended
September 30, 2008 compared to $844,703 during the same period in 2007, which
constitutes a decrease of approximately 87.9%. During the nine months ended
September 30, 2008 the net cash used in operating activities was $913,214
compared to $3,228,178 during the same period in 2007, resulting in a decrease
of approximately 71.7%. The decrease for these periods is primarily the result
of a decrease in inventory purchasing activity and enhanced efforts to reduce
our operating expenses. From inception (May 19, 2003) through September 30,
2008
we have used $12,081,297 to fund our operating activities.
At
September 30, 2008 we had cash on hand of $50,492 compared to cash on hand
of
$1,563,728 at September 30, 2007, and $713,289 at December 31, 2007.
Cash
Flow From (Used in) Investing Activities
Net
cash
used in investing activities for the three months ended September 30, 2008
was
$0 compared to $33,836 used in investing activities for the three months ended
September 30, 2007. Net cash provided by investing activities for the nine
months ended September 30, 2008 was $115,157 compared to $143,700 used in
investing activities for the nine months ended September 30, 2007. The decrease
in cash used in investing activities is primarily the result of a decrease
in
purchases of property and equipment. We have used $3,012,908 for the purchase
of
property and equipment from inception (May 19, 2003) through September 30,
2008.
Net cash from investing activities for the period from inception (May 19, 2003)
through September 30, 2008 was $2,976,408.
Cash
Flow From Financing Activities
Net
cash
used to pay short term and long term debt during the three months ended
September 30, 2008 and 2007, respectively was $40,844 and $26,031. Net cash
used
to pay short term and long term debt during the nine months ended September
30,
2008 and 2007, respectively was $118,590 and $64,927. We received proceeds
of
$54,000 from our line of credit during the three months ended September 30,
2008
and a total of $250,000 from the line of credit during the nine months ending
September 30, 2008. We also received net proceeds of $7,606, during the three
months ended September 30, 2008 from our SEDA fund. During the nine months
ending September 30, 2007, we received net proceeds from a private placement
of
our Series B stock of $3,595,095 and proceeds of $250,000 from
borrowings.
During
the nine months ended September 30, 2008, we renewed our note with Farmers
State
Bank in the principal amount of $591,956. In addition, on March 24, 2008, we
obtained a line of credit with Iowa State Bank in the amount of $250,000. As
of
September 30, 2008, we have drawn $250,000 from this line of credit. This line
of credit has an expiration date of December 1, 2008 and carries an interest
rate of 1.5% above the Wall Street journal U.S. Prime Rate. The interest rate
at
September 30, 2008 was 6.5%.
At
September 30, 2008, we received $7,606, net of expenses from the issuance of
common stock under the SEDA. We issued 193,272 shares of common stock and
received approximately $22,131 which, netted with expenses related to the SEDA
registration of $14,525, totaled $7,606.
At
September 30, 2008 we had total assets of $4,683,188 and stockholders equity
of
$1,594,346 compared to total assets of $5,985,477 and stockholders’ equity of
$3,381,158 at December 31, 2007. We began accessing the SEDA funds in August
2008 and at November 7, 2008, we have issued 247,977 shares at an average price
of $.23 and received $57,130 in capital.
Plan
of Operation
Since
inception, we have incurred substantial operating losses and expect to incur
additional operating losses in the foreseeable future. We have financed
operations since inception primarily through equity and debt financings. We
anticipate our expenses will increase significantly only if we obtain sufficient
capital to expand our operations. Until such time, we intend to curtail our
operations and restrict our monthly expenditures.
We
expect
to continue our efforts to raise additional capital resources during 2008.
We
are currently exploring a variety of opportunities to obtain additional capital.
There is no assurance that we will be able to raise the necessary capital or
that the capital, if available, will be available on terms that will be
acceptable to us.
We
are a
development stage enterprise and, as such, our continued existence is dependent
upon our ability to resolve our liquidity problems, principally by obtaining
additional debt or equity financing. We have yet to generate a positive internal
cash flow, and until meaningful sales of our products begin, we are dependent
upon debt and equity funding.
We
believe that the manufacture and sale of our current Oxx Power
®
engines,
open power units and gensets were merely the first steps toward our vision
of a
carbon-free, energy independent future. We have not received the amount of
capital we anticipated receiving from investors to date. We have also
experienced delays in the receipt of quality parts for our engines and we have
experienced delays in initiating the certification process of our engines.
Our
long-term vision has narrowed and we are focusing our efforts around two major
markets: hydrogen airport ground support vehicle engines and the sale of
hydrogen systems to the wind energy market. Capital constraints have delayed
our
efforts to commercialize our intellectual property. However, we anticipate
that
revenue from these sources will continue to help support our continuing
operations and assist with funding for our research and development
efforts.
We
believe that the airport ground support industry is a realistic near-term
opportunity for our hydrogen fueled engines. Hydrogen-fueled engines could
address environmental concerns at airports, and hydrogen delivery constraints
could be minimized if the system is installed in a controlled environment such
as an airport. Our Oxx Power
®
engines
have been configured to conform to the same form, fit and function as engines
currently in common use in certain ground support equipment, such as baggage
tractors. Thus our engines can be used as replacement engines in most
traditional ground support vehicles and can be maintained by existing personnel
with minimal additional training. We are currently working, in collaboration
with Air Liquide and a number of other participants, to finalize an opportunity
to sell some of our hydrogen-fueled engines for use in ground support vehicles
at designated airports. Such an opportunity could also allow us to achieve
a
safety certification for hydrogen usage at airports.
We
have
also been working on enhancements to our “Wind to Hydrogen” power storage system
by designing a system which can reach 1MW of power. We plan to have our first
system available for delivery in May 2009, and we plan to aggressively market
and sell the system provided we can obtain needed capital. It is widely
recognized that wind power will play an increasingly important role in future
energy generation. However, wind power must be both reliable and cost-effective
before it can enter the mainstream electricity market. Until then it will be
limited to providing supplementary power to the grid. To enter the mainstream
electricity market, wind power must be dispatchable, being able to operate
at
any time on demand to provide instant power to the grid. We believe that we
can
deliver such a system to the wind energy market.
On
September 3, 2008, we entered into a design agreement with a company co-founded
by one of our directors. The scope of the agreement includes the enhancement
of
our OxxBoxx controller with wireless technology to produce a remote wireless
engine controller. The agreement provides for development and testing by us
and
the contractor working to create a production-ready controller. The cost of
the
development work incurred through September 30, 2008 was $30,529. We estimate
the total cost of the project to be approximately $225,000, however the project
has been suspended until we can obtain the financing needed to sustain the
development.
In
addition, we entered into an agreement with this same director’s investment
banking firm for consulting services to assist us with the preparation of a
business plan which can be used in a capital raise. The total cost of the
engagement is expected to be $20,000, with costs incurred through September
30,
2008 of $10,000.
Our
business plan is based upon the development of our intellectual property and
the
commercialization of our technologies. We currently have ten patents pending
in
the United States and two patents pending internationally. We expect to file
several more during the next several months.
We
are
constantly seeking synergistic collaborations with others in the development
and
marketing of our technologies. In addition to our efforts related to the ground
support industry and the wind industry, as discussed above, we have entered
into
a number of collaborative projects around the world for the purpose of testing
hydrogen and ammonia as fuels and promoting the use of
our
technology.
Why
hydrogen and ammonia? Hydrogen and ammonia are the only renewable fuels that
can
be produced onsite, with the use of only water and electricity. Federal and
local governments in the US are enacting policies like the Hydrogen Fuel
Initiative to encourage the use of alternative fuel, and establish goals for
potentially requiring the use of alternatives. California’s Executive Order S704
orders building up a network of hydrogen fueling stations sufficient to make
hydrogen available in the State by 2010. We believe that ammonia is the only
fuel other than hydrogen that produces no greenhouse gases on combustion.
Ammonia will partially power diesel and spark-ignited internal combustion
engines, direct ammonia fuel cells, and even combustion turbines. It can be
manufactured from simple water and air using clean renewable energy. We are
not
as far along in the ammonia fueled development process as we are with hydrogen,
and we expect that hydrogen will become accepted before ammonia is.
Concerns
motivating increased hydrogen acceptance include national security, the economy
and the environment. An alternative fuel such as hydrogen would not be subject
to the price volatility risk inherent in fossil fuels, and could materially
reduce the country’s dependency on foreign fuels.
So
far,
we have been able to raise the capital necessary to reach this stage of product
development and have been able to obtain funding for operating requirements
and
for construction of our manufacturing facilities, but there can be no assurance
that we will be able to continue to do so.
We
do not
anticipate expanding our manufacturing facilities in 2008. We do not anticipate
spending any of our resources on capital expenditures in 2008. However, we
do
anticipate spending approximately $350,000, on equipment to support our
production of wind to hydrogen storage systems in 2009, which expenditures
will
be subject to sufficient capital from anticipated financing.
Our
research and development costs incurred through September 2008, totaled $614,678
and we expect that we will incur additional costs in the fourth quarter of
approximately $150,000, primarily to support the production of our 1 MW wind
to
hydrogen energy storage system.
Grants
and Government Programs
The
Iowa
Department of Economic Development has provided the following funding assistance
to us:
|
·
Community
Economic Betterment Account Forgivable Loan (“CEBA”)
|
|
$
250,000
|
|
·
Physical
Infrastructure Assistance Program Forgivable Loan (“PIAP”)
|
|
$
150,000
|
|
·
Enterprise
Zone (estimated value)
|
|
$
142,715
|
The
CEBA
and PIAP programs provide that the loan amounts will be forgiven if we meet
certain requirements, including the creation of 49 jobs in Iowa by July 2010.
As
of November 7, 2008, we have a total of fourteen (12) employees in Iowa, all
of
whom are now working full-time, as well as two (2) part-time and one (1)
full-time employee in Canada.
Under
the
Enterprise Zone program, we are eligible for the following benefits provided
we
continue to meet certain Program requirements:
|
§
|
Funding
for training new employees through a supplemental new jobs withholding
credit equal to 3% of gross wages of the new jobs created;
|
|
§
|
A
refund of 100% of the sales, service and use taxes paid to contractors
and
subcontractors during the construction phase of the plant (excluding
local
option taxes);
|
|
§
|
A
6.5% research activities tax credit based on increasing research
activities within the State of Iowa;
|
|
§
|
An
investment tax credit equal to 10% of our capital investment. This
Iowa
tax credit may be carried forward for up to seven
years.
|
|
§
|
A
value-added property tax exemption. Our community has approved an
exemption from taxation on a portion of the property in which our
business
is located.
|
In
order
to receive the benefits of the Enterprize Zone program, we were required to
meet
a number of requirements, including the creation of 59 new full-time equivalent
jobs at the company’s headquarters by June 28, 2008. We have not met this
requirement and are in discussions with the department about possible
alternatives.
We
received a partially forgivable loan in the amount of $146,124 from the Algona
Area Economic Development Corporation (“AAEDC”), used for purchase of land and
construction of our manufacturing facility. If we create 50 new jobs in Algona,
Iowa by June 1, 2010 and retain those jobs through June 1, 2015, $67,650 of
this
loan will be forgiven. If we create and retain 50 additional new jobs in Algona,
Iowa (total of 100 jobs) by June 1, 2015 another $67,650 of this loan will
be
forgiven. The balance of $10,824 will be the only amount we repay to AAEDC,
if
we are successful in creating 100 new jobs. A wage must be paid equal to or
greater than the average hourly wage for workers in Kossuth County, Iowa, as
determined annually by Iowa Workforce Development. If we are unsuccessful we
must repay the loan with 8% interest. We are accruing interest on this loan
until we meet the terms.
Employees
We
currently have 15 employees, 12 of whom are in Algona, Iowa and 3 of whom are
in
Canada. We plan to maintain lean staffing and will only add key skill sets
as
required - mainly in the technical and sales disciplines.
Inflation
In
our
opinion, inflation has not and will not have a material effect on our operations
in the immediate future. Management will continue to monitor inflation and
evaluate the possible future effects of inflation on our business and
operations.
Off-Balance
Sheet Arrangements
We
do not
have any off-balance sheet arrangements.
ITEM
4T. CONTROLS AND PROCEDURES
EVALUATION
OF DISCLOSURE CONTROLS AND PROCEDURES.
Under
the
supervision and with the participation of our management, including our Acting
Chief Executive Officer and Chief Financial Officer, we have evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures (as such term is defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934 (the "Exchange Act")). Disclosure controls and procedures
are the controls and other procedures that we designed to ensure that we record,
process, summarize and report in a timely manner the information we must
disclose in reports that we file with or submit to the Securities and Exchange
Commission under the Exchange Act. Based on this evaluation, we have concluded
that our disclosure controls and procedures were effective in ensuring that
material information related to us is recorded, processed, summarized and
reported as of the end of the period covered by this report.
Our
management, consisting of our Chief Executive Officer and Chief Financial
Officer, have reviewed and evaluated any changes in our internal control over
financial reporting that occurred as of September 30, 2008 and there has been
no
change that has materially affected or is reasonably likely to materially affect
our internal control over financial reporting.
PART
II OTHER INFORMATION
ITEM
1. LEGAL PROCEEDINGS.
We
are
not a party to any pending legal proceeding. We are not aware of any pending
legal proceeding to which any of our officers, directors, or any beneficial
holders of 5% or more of our voting securities are adverse to us or have a
material interest adverse to us.
ITEM
2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
On
June
10, 2008 we issued 386,567 shares to YA Global as a commitment fee under the
Standby Equity Distribution Agreement (“SEDA”) with YA Global dated April 11,
2008. Under the SEDA we have the right, for a two-year period beginning August
5, 2008, to sell registered shares of our Common Stock to YA Global for a total
purchase price of up to Four Million Dollars ($4,000,000). For each share of
Common Stock purchased under the SEDA, YA Global will pay 93% of the lowest
daily VWAP during the five (5) consecutive trading days after the Advance notice
date.
In
addition to the shares issued as a commitment fee, we have paid $15,000 to
YA
Global as a structuring and due diligence fee. We are obligated to pay a monthly
monitoring fee of $3,333 during the term of the SEDA. We received no proceeds
from the issuance of these shares and, except as described above, paid no fees
or other commissions in relation to the private placement of these shares.
These
securities were offered and sold without registration under the Securities
Act
of 1933 in reliance upon the exemption provided by Section 4(2) of the
Securities Act and Rule 506 of Regulation D promulgated thereunder, and may
not
be offered or sold in the United States in the absence of an effective
registration statement or exemption from the registration requirements under
the
Securities Act. An appropriate legend was placed on the securities issued.
Beginning
in August 2008, we began accessing the SEDA funds from YA Global and issued
shares for the following draws:
|
Advance
Notice Date
|
|
Amount
Requested
|
|
Amount
Received
|
|
Shares
Issued
|
|
Purchase
Price of Shares Issued
|
|
|
August
11, 2008
|
|
$
|
10,000
|
|
$
|
8,131
|
|
|
27,093
|
|
$
|
.3001
|
|
|
September
3, 2008
|
|
|
15,000
|
|
|
6,000
|
|
|
21,444
|
|
$
|
.2798
|
|
|
September
15, 2008
|
|
|
20,000
|
|
|
8,000
|
|
|
29,155
|
|
$
|
.2744
|
|
|
September
22, 2008
|
|
|
25,000
|
|
|
25,000
|
|
|
115,580
|
|
$
|
.2163
|
|
|
October
2, 2008
|
|
|
25,000
|
|
|
10,000
|
|
|
54,705
|
|
$
|
.1828
|
|
|
Total
|
|
$
|
95,000
|
|
$
|
57,131
|
|
|
247,977
|
|
|
|
|
We
claim
an exemption from the registration requirements of the Securities Act of
1933,
as amended for the private sale of our shares in the SEDA pursuant to Section
4(2) of the Securities Act and/or Rule 506 of Regulation D promulgated
thereunder. The sale of the shares to YA Global does not involve a public
offering, YA Global is an “accredited investor” and/or qualified institutional
buyer and YA Global has access to information about the Company and its
investment. Resale of the SEDA shares has been registered under our registration
statement declared effective on August 5, 2008.
ITEM
6. EXHIBITS AND REPORTS ON FORM 8-K
|
Exhibit No.
|
|
Description
|
|
|
|
|
|
31.1
|
|
Certification
pursuant to Item 601(b) (31) of Regulation S-K, as adopted pursuant
to
Section 302 of the Sarbanes-Oxley Act of 2002, by Theodore G. Hollinger,
the company's Acting President and Chief Executive Officer (Principal
Executive Officer).
|
|
|
|
|
|
31.2
|
|
Certification
pursuant to Item 601(b) (31) of Regulation S-K, as adopted pursuant
to
Section 302 of the Sarbanes-Oxley Act of 2002, by Sandra Batt, the
company's Chief Financial Officer (Principal Financial
Officer).
|
|
|
|
|
|
32.1
|
|
Certification
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002, by Theodore G. Hollinger, the company's
Acting President and Chief Executive Officer (Principal Executive
Officer).
|
|
|
|
|
|
32.2
|
|
Certification
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of
the Sarbanes-Oxley Act of 2002, by Sandra Batt, the company's Chief
Financial Officer (Principal Financial
Officer).
|
NOTES
ABOUT FORWARD-LOOKING STATEMENTS
Statements
contained in this current report which are not historical facts, including
some
statements regarding the effects of the Merger, may be considered
"forward-looking statements" under the Private Securities Litigation Reform
Act
of 1995. Forward-looking statements are based on current expectations and the
current economic environment. We caution readers that such forward-looking
statements are not guarantees of future performance. Unknown risks and
uncertainties as well as other uncontrollable or unknown factors could cause
actual results to materially differ from the results, performance or
expectations expressed or implied by such forward-looking
statements.
Readers
should carefully review the our financial statements and the notes thereto,
as
well as the "
risk
factors
"
described in the documents we file from time to time with the Securities and
Exchange Commission, including our annual report on Form 10-KSB/A for the year
ended December 31, 2007.
SIGNATURES
Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant
has
duly caused this report to be signed on its behalf by the undersigned hereunto
duly authorized.
|
|
|
|
|
|
HYDROGEN
ENGINE CENTER, INC.
|
|
|
|
|
Date:
November 14, 2008
|
By
|
/s/ THEODORE
G. HOLLINGER
|
|
|
Theodore
G. Hollinger
|
|
|
Acting
President and Chief Executive Officer
(Principal
Executive Officer)
|
|
|
|
|
|
Date:
November 14, 2008
|
By
|
/s/
SANDRA
BATT
|
|
|
Sandra
Batt
Chief
Financial Officer
(Principal
Financial Officer)
|
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