UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-------------------
FORM 10-QSB/A
(AMENDMENT NO. 1)
(Mark one)
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005.
|_| Transition Report Under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from to .
--------------- --------------
Commission File Number 000-29649
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FLEXIBLE SOLUTIONS INTERNATIONAL, INC.
(Name of Small Business Issuer as Specified in Its Charter)
NEVADA 91-1922863
(State of Incorporation) (IRS Employer Identification No.)
615 DISCOVERY STREET
VICTORIA, BRITISH COLUMBIA, CANADA V8T 5G4
(Address of Principal Executive Offices) (Zip Code)
(250) 477-9969
(Issuer's Telephone Number, Including Area Code)
-------------------
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes |X| No
|_|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). Yes |_| No |X|
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: The Company had 12,733,916
shares of Common Stock, par value $0.001 per share, outstanding as of April 30,
2005.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
FORM 10-QSB/A
Index
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
(a) Unaudited Consolidated Balance Sheets at March 31, 2005. 1
(b) Unaudited Consolidated Statements of Operations for the Three
Months Ended March 31, 2005 and 2004. 2
(c) Unaudited Consolidated Statements of Cash Flows for the Three
Months Ended March 31, 2005 and 2004. 3
(d) Notes to Unaudited Consolidated Financial Statements for the
Period Ended March 31, 2005. 4
Item 2. Management's Discussion and Analysis or Plan of Operation. 15
Item 3. Controls and Procedures. 19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. 20
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 21
Item 3. Defaults Upon Senior Securities. 21
Item 4. Submission of Matters to a Vote of Security Holders. 21
Item 5. Other Information. 21
Item 6. Exhibits. 22
SIGNATURES 23
i
EXPLANATORY NOTE
----------------
Flexible Solutions International, Inc. ("we," "us," and "our") is
filing this Quarterly Report on Form 10-QSB/A to amend and restate in its
entirety its Quarterly Report on Form 10-QSB for the fiscal quarter ended March
31, 2005, which was previously filed with the Securities and Exchange Commission
on May 13, 2005.
In October 2005, while completing a registration statement for
securities issued in the second quarter of 2005, we determined that certain
disclosures made in connection with our stock-based compensation expense
required adjustment. As such, on October 5, 2005, upon the recommendation of our
management, our board of directors and its audit committee, and our independent
accountants, we determined to restate our consolidated financial statements for
each of the periods ended since September 30, 2002, including each of the years
ended December 31, 2002 through 2004, and for both of the quarters in the six
months ended June 30, 2005 (the "Restated Periods").
In accordance with this determination to restate the Restated Periods,
we revised the disclosures for stock-based compensation expense as required
under 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; EITF No. 00-18, Accounting
Recognition for Certain Transactions involving Equity Instruments Granted to
Other Than Employees; and EITF No. 01-9, Accounting for Consideration Given by a
Vendor to a Customer. In particular, we adjusted the stock-based compensation
expense in our financial statements and notes thereto recorded in connection
with our grant of an option to purchase 2,000,000 shares of our common stock in
September 2002 pursuant to the terms of a product distribution agreement.
Additional information on this restatement and its effects on our financial
condition and results of operations can be found in our Notes to Unaudited
Consolidated Financial Statements contained herein.
This Form 10-QSB/A does not reflect events occurring after the filing
of our Form 10-QSB on May 13, 2005 or modify any of the disclosures contained
therein, or in the accompanying financial statements and notes thereto, in any
way other than by the amendments identified above and as set forth herein.
Notwithstanding the above, and for the convenience of the reader, this entire
report has been amended as a result of, and to reflect, the restatement, as well
as to revise the disclosure of our management's discussion and analysis,
unregistered sales of equity securities, and legal proceedings, as well as to
generally reflect the current disclosure requirements of Form 10-QSB.
This Form 10-QSB/A should be read in conjunction with our periodic
filings made with the Securities and Exchange Commission subsequent to the date
of their original filings, including any amendments to those filings. In
addition, in accordance with Rule 12b-15 under the Securities Exchange Act of
1934, as amended, and certain other rules, this Form 10-QSB/A includes updated
certifications from our Chief Executive Officer and Chief Financial Officer.
We are presently unaware of any evidence that the restatements
described above are due to any material noncompliance by us, as a result of
misconduct, with any financial reporting requirement under the federal
securities laws. Our audit committee of the board of directors is working with
our management and our accountants to assure that we are taking the appropriate
approach to resolving the issues related to the restatements, as well as any
further issues that may be identified during the course of its review. The
filing of this Form 10-QSB/A shall not be deemed an admission that the original
filing, when made, included any untrue statement of a material fact or omitted
to state a material fact necessary to make a statement not misleading.
ii
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-QSB/A for the quarter ended March 31,
2005 ("Quarterly Report"), including the Notes to Unaudited Consolidated
Financial Statements, contains forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. Forward-looking statements
include, without limitation, those statements relating to development of new
products, our financial condition, our ability to increase distribution of our
products, integration of businesses we acquire, and disposition of any of our
current business. Forward-looking statements can be identified by the use of
forward-looking terminology, such as "may," "will," "should," "expect,"
"anticipate," "estimate," "continue," "plans," "intends," or other similar
terminology. These forward-looking statements are not guarantees of future
performance and involve risks, uncertainties and assumptions that are difficult
to predict. Therefore, actual outcomes and results may differ materially from
what is anticipated or forecasted in these forward-looking statements due to
numerous factors, including, but not limited to, our ability to generate or
obtain sufficient working capital to continue our operations, changes in demand
for our products, the timing of customer orders and deliveries, and the impact
of competitive products and pricing. In addition, such statements could be
affected by general industry and market conditions and growth rates, and general
domestic and international economic conditions.
Although we believe that the expectations reflected in these
forward-looking statements are reasonable and achievable, such statements
involve risks and uncertainties and no assurance can be given that the actual
results will be consistent with these forward-looking statements. Except as
otherwise required by Federal securities laws, we undertake no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events, changed circumstances or any other reason, after
the date of this Quarterly Report.
iii
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
FLEXIBLE SOLUTIONS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
AT MARCH 31, 2005
(U.S. DOLLARS)
MARCH 31,
2005 DECEMBER 31,
AS RESTATED 2004
(NOTE 3) AS RESTATED
(UNAUDITED) (NOTE 3)
----------------- -----------------
ASSETS
CURRENT
Cash and cash equivalents $ 495,520 $ 558,795
Short-term investments -- 559,440
Accounts receivable 1,111,374 501,372
Income tax 27,799 92,963
Loan receivable 38,652 38,570
Inventory 1,705,890 1,416,588
Prepaid expenses 96,764 131,280
----------------- -----------------
3,475,999 3,299,008
PROPERTY, EQUIPMENT AND LEASEHOLDS 5,122,341 5,250,346
INVESTMENT 325,000 271,000
----------------- -----------------
$ 8,923,340 $ 8,820,354
----------------- -----------------
LIABILITIES
CURRENT
Accounts payable and accrued liabilities $ 289,074 $ 250,129
Short-term loan 3,150,000 3,150,000
----------------- -----------------
3,439,074 3,400,129
----------------- -----------------
STOCKHOLDERS' EQUITY
CAPITAL STOCK
Authorized
50,000,000 Common shares with a par value of $0.001 each
1,000,000 Preferred shares with a par value of $0.01 each
Issued and outstanding
11,831,916 (2003: 11,794,916) common shares 11,832 11,832
CAPITAL IN EXCESS OF PAR VALUE 7,463,020 7,439,621
OTHER COMPREHENSIVE INCOME 86,623 100,179
DEFICIT (2,077,209) (2,131,407)
----------------- -----------------
TOTAL STOCKHOLDERS' EQUITY 5,484,266 5,420,225
----------------- -----------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 8,923,340 $ 8,820,354
----------------- -----------------
COMMITMENTS AND CONTINGENCIES (NOTES 14 & 15)
-- See Notes to Unaudited Consolidated Financial Statements --
1
FLEXIBLE SOLUTIONS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(U.S. DOLLARS -- UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------------------
2005 2004
AS RESTATED AS RESTATED
(NOTE 3) (NOTE 3)
------------------ -----------------
SALES $ 2,019,581 $ 488,110
COST OF SALES 1,078,301 367,100
------------------ -----------------
GROSS PROFIT 941,280 121,010
------------------ -----------------
OPERATING EXPENSES
Wages 234,436 53,289
Administrative salaries and benefits 38,005 24,847
Advertising and promotion 31,271 7,730
Investor relations and transfer agent fee 24,638 64,678
Office and miscellaneous 41,457 34,590
Insurance 28,318 --
Interest expense 37,674 --
Rent 55,806 21,349
Consulting 44,252 74,678
Professional fees 60,843 36,508
Travel 37,765 23,576
Telecommunications 10,288 5,700
Shipping 12,639 3,142
Research 15,508 9,161
Commissions 40,925 --
Bad debt expense (recovery) -- --
Currency exchange 718 422
Utilities 7,166 5,365
Depreciation 168,103 9,952
------------------ -----------------
889,812 374,987
------------------ -----------------
INCOME (LOSS) BEFORE OTHER ITEMS AND INCOME TAX 51,468 (253,977)
INTEREST INCOME 2,730 3,116
------------------ -----------------
INCOME (LOSS) BEFORE INCOME TAX 54,198 (250,861)
INCOME TAX (RECOVERY) -- --
------------------ -----------------
NET INCOME (LOSS) 54,198 (250,861)
DEFICIT, BEGINNING (2,131,407) (873,862)
------------------ -----------------
DEFICIT, ENDING $ (2,077,209) $ (1,124,723)
NET INCOME (LOSS) PER SHARE $ 0.00 $ (0.02)
------------------ -----------------
WEIGHTED AVERAGE NUMBER OF SHARES 11,831,916 11,807,801
------------------ -----------------
-- See Notes to Unaudited Consolidated Financial Statements --
2
FLEXIBLE SOLUTIONS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(U.S. DOLLARS -- UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------------------
2005 2004
AS RESTATED AS RESTATED
(NOTE 3) (NOTE 3)
------------------ -----------------
OPERATING ACTIVITIES
Net income (loss) $ 54,198 $ (250,861)
Stock compensation expense 23,400 66,935
Depreciation 168,103 9,952
------------------ -----------------
245,701 (173,974)
------------------ -----------------
Changes in non-cash working capital items:
(Increase) Decrease in accounts receivable (610,002) 166,617
(Increase) Decrease in inventory (289,302) 29,118
(Increase) Decrease in prepaid expenses 34,516 (15,809)
Increase (Decrease) in accounts payable 38,945 (32,987)
Increase (Decrease) in Income taxes 65,164 1,120
Increase (Decrease) in amounts due to shareholders -- (7,700)
------------------ -----------------
CASH (USED IN) OPERATING ACTIVITIES (514,977) (33,615)
------------------ -----------------
INVESTING ACTIVITIES
Short-term investments 559,440 1,525,735
Investments (54,000) --
Loan receivable (81) (14,868)
Acquisition of property and equipment (40,099) (18,338)
Incurred acquisition costs -- (90,912)
------------------ -----------------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 465,260 1,401,617
------------------ -----------------
FINANCING ACTIVITIES
Proceeds from issuance of common stock -- 40,500
------------------ -----------------
CASH PROVIDED BY FINANCING ACTIVITIES -- 40,500
------------------ -----------------
Effect of exchange rate changes on cash (13,559) 12,348
------------------ -----------------
INFLOW (OUTFLOW) OF CASH (63,276) 1,420,850
Cash and cash equivalents, beginning 558,795 237,080
------------------ -----------------
CASH AND CASH EQUIVALENTS, ENDING $ 495,520 $ 1,657,930
------------------ -----------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest received $ 2,730 $ 3,116
------------------ -----------------
-- See Notes to Unaudited Consolidated Financial Statements --
3
FLEXIBLE SOLUTIONS INTERNATIONAL INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE PERIOD ENDED MARCH 31, 2005
(U.S. DOLLARS)
1. BASIS OF PRESENTATION.
These unaudited consolidated financial statements of Flexible Solutions
International, Inc (the "Company") have been prepared in accordance with
accounting principles generally accepted in the United States for interim
financial information. These financial statements are condensed and do not
include all disclosures required for annual financial statements. The
organization and business of the Company, accounting policies followed by the
Company and other information are contained in the notes to the Company's
audited consolidated financial statements filed as part of the Company's
December 31, 2004 Annual Report on Form 10-KSB. This quarterly report should be
read in conjunction with such annual report.
In the opinion of the Company's management, these consolidated
financial statements reflect all adjustments necessary to present fairly the
Company's consolidated financial position at March 31, 2005, and the
consolidated results of operations and the consolidated statements of cash flows
for the three months ended March 31, 2005 and 2004. The results of operations
for the three months ended March 31, 2005 are not necessarily indicative of the
results to be expected for the entire fiscal year.
These consolidated financial statements include the accounts of the
Company, and its wholly-owned subsidiaries Flexible Solutions, Ltd. ("Flexible
Ltd."), NanoChem Solutions Inc. and WaterSavr Global Solutions Inc. All
inter-company balances and transactions have been eliminated. The Company was
incorporated May 12, 1998 in the State of Nevada and had no operations until
June 30, 1998, as described below.
On June 30, 1998, the Company completed the acquisition of all of the
shares of Flexible Ltd. The acquisition was effected through the issuance of
7,000,000 shares of common stock by the Company, with the former shareholders of
Flexible Ltd. receiving all of the shares then issued and outstanding of the
Company. The transaction has been accounted for as a reverse-takeover. Flexible
Ltd. is accounted for as the acquiring party and the surviving entity. As
Flexible Ltd. is the accounting survivor, the consolidated financial statements
presented for all periods are those of Flexible Ltd. The shares issued by the
Company pursuant to the acquisition have been accounted for as if those shares
had been issued upon the organization of Flexible Ltd.
On May 2, 2002, the Company established WaterSavr Global Solutions Inc.
through the issuance of 100 shares of its common stock.
Pursuant to a purchase agreement dated May 26, 2004, the Company
acquired the assets of Donlar Corporation on June 9, 2004 and created a new
company, NanoChem Solutions Inc. The purchase price of the transaction was
$6,150,000, with consideration being a combination of cash and debt. Under the
purchase agreement and as part of the consideration, the Company issued a
promissory note bearing interest at 4% to satisfy $3,150,000 of the purchase
price. This note is due June 2, 2005 and all of the former Donlar assets were
pledged as security.
4
The following table summarizes the estimated fair value of the assets
acquired at the date of acquisition (at June 9, 2004):
----------------------------------------------------- ------------------
Current assets $ 1,126,805
Property and equipment 5,023,195
------------------
6,150,000
Acquisition costs assigned to property and equipment 314,724
----------------------------------------------------- ------------------
Total assets acquired $ 6,464,724
----------------------------------------------------- ------------------
The acquisition costs assigned to property and equipment are all direct
costs incurred by the Company to purchase the assets. These costs include due
diligence fees paid to outside parties investigating and identifying the assets,
legal costs directly attributable to the purchase of the assets, plus applicable
transfer taxes. These costs have been assigned to the individual assets based on
their proportional fair values and will be amortized based on the rates
associated with the related assets.
On February 7, 2005 the Company incorporated two new subsidiaries in
Nevada: (a) SeaHorse Systems Inc. was incorporated to research new applications
for ECO$AVR(R), our patented swimming pool dispensing mechanism; and (b)
NanoDetect Technologies Inc. was incorporated to focus on ways to use our
current technologies to detect pathogens.
2. SIGNIFICANT ACCOUNTING POLICIES.
These consolidated financial statements have been prepared in
accordance with generally accepted accounting principles accepted in the United
States applicable to a going concern and reflect the policies outlined below.
(a) Cash and Cash Equivalents.
The Company considers all highly liquid investments purchased with an
original or remaining maturity of less than three months at the date of purchase
to be cash equivalents. Cash and cash equivalents are maintained with several
financial institutions.
(b) Inventory and Cost of Sales.
Inventory is valued at the lower of cost and net realizable value. Cost
is determined on a first-in, first-out basis. Cost of sales includes all
expenditures incurred in bringing the goods to the point of sale. Inventorial
costs and costs of sales include direct costs of the raw material, inbound
freight charges, warehousing costs, handling costs (receiving and purchasing)
and utilities and overhead expenses related to the Company's manufacturing and
processing facilities.
(c) Property, Equipment and Leaseholds.
The following assets are recorded at cost and depreciated using the
following methods using the following annual rates:
-------------------------------- --- ----------------------------------
Computer hardware 30% Declining balance
Furniture and fixtures 20% Declining balance
Manufacturing equipment 20% Declining balance
Office equipment 20% Declining balance
Building 10% Declining balance
Leasehold improvements Over lease term
-------------------------------- --- ----------------------------------
5
Property and equipment are written down to net realizable value when
management determines there has been a change in circumstances which indicates
its carrying amount may not be recoverable. No write-downs have been necessary
to date.
(d) Impairment of Long-lived Assets.
The Company assesses the recoverability of its long-lived assets by
determining whether the carrying value of the long-lived assets can be recovered
over their remaining lives through undiscounted future operating cash flows
using a discount rate reflecting the Company's average cost of funds. The
assessment of the recoverability will be impacted if estimated future operating
cash flows are not achieved. For the three months ended March 31, 2005, no
impairment charges have been recognized.
(e) Foreign Currency.
The functional currency of the Company is the Canadian Dollar. The
translation of the Canadian Dollar to the reporting currency of the U.S. Dollar
is performed for current assets and current liabilities using exchange rates in
effect at the balance sheet date. Non-monetary assets and liabilities are
translated using rates prevailing at the time of the acquisition of the assets
or assumption of the liabilities. Revenue and expense transactions are
translated using average exchange rates prevailing during the year. Translation
adjustments arising on conversion of the financial statements from the Company's
functional currency, Canadian Dollars, into the reporting currency, U.S.
Dollars, are excluded from the determination of income and disclosed as other
comprehensive income (loss) in stockholders' equity.
Foreign exchange gains and losses relating to transactions not
denominated in the applicable local currency are included in income if realized
during the year and in comprehensive income if they remain unrealized at the end
of the year.
(f) Revenue Recognition.
Revenue from product sales is recognized at the time the product is
shipped since title and risk of loss is transferred to the purchaser upon
delivery to the carrier. Shipments are made F.O.B. shipping point. The Company
recognizes revenue when there is persuasive evidence of an arrangement, delivery
has occurred, the fee is fixed or determinable, collectibility is reasonably
assured, and there are no significant remaining performance obligations. When
significant post-delivery obligations exist, revenue is deferred until such
obligations are fulfilled.
Provisions are made at the time the related revenue is recognized for
estimated product returns. Since the Company's inception, product returns have
been insignificant; therefore no provision has been established for estimated
product returns.
(g) Stock Issued in Exchange for Services.
The valuation of the Company's common stock issued in exchange for
services is valued at an estimated fair market value as determined by officers
and directors of the Company based upon trading prices of the Company's common
stock on the dates of the stock transactions.
(h) Stock-based Compensation.
The Company applies the fair value based method of accounting
prescribed by the Statement of Financial Accounting Standards ("FAS") No. 123 in
accounting for stock issued in exchange for services to consultants and
non-employees.
FAS No. 123 encourages, but does not require, companies to record
compensation cost for stock-based compensation plans to employees at fair value.
The Company has chosen to account for stock-based compensation to employees and
directors using Accounting Principles Board Opinion ("APB") No. 25, Accounting
for Stock Issued to Employees. Accordingly, compensation cost for stock options
for
6
employees is measured as the excess, if any, of the quoted market price of the
Company's stock at the date of the grant over the amount an employee is required
to pay for the stock.
The Company adopts the disclosure provisions of SFAS No. 123 for stock
options granted to employees and directors. The Company discloses on a
supplemental basis, the pro-forma effect of accounting for stock options awarded
to employees and directors, as if the fair value based method had been applied,
using the Black-Scholes option-pricing model.
(i) Comprehensive Income.
Other comprehensive income refers to revenues, expenses, gains and
losses that under generally accepted accounting principles are included in
comprehensive income, but are excluded from net income as these amounts are
recorded directly as an adjustment to stockholders' equity. The Company's other
comprehensive income is primarily comprised of unrealized foreign exchange gains
and losses.
(j) Income (Loss) Per Share.
Income (loss) per share is calculated by dividing net income (loss) by
the weighted average number of shares outstanding. Diluted income (loss) per
share is computed by giving effect to all potential dilutive options that were
outstanding during the year. For the years ending December 31, 2004, 2003 and
2002 all outstanding options were anti-dilutive.
(k) Use of Estimates.
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities at the date of the consolidated financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates and would impact the results of
operations and cash flows.
(l) Financial Instruments.
The fair market value of the Company's financial instruments comprising
cash, short-term investment, accounts receivable, income tax recoverable, loan
receivable, accounts payable and accrued liabilities and amounts due to
shareholders were estimated to approximate their carrying values due to
immediate or short-term maturity of these financial instruments.
The Company is exposed to foreign exchange and interest rate risk to
the extent that market value rate fluctuations materially differ from financial
assets and liabilities subject to fixed long-term rates.
(m) Recent Accounting Pronouncements.
(i) In June 2001, the Financial Accounting Standards Board
("FASB") issued FAS No. 142, Goodwill and Other Intangible Assets.
Under FAS No. 142, goodwill and intangible assets with indefinite lives
are no longer amortized but are reviewed at least annually for
impairment. The amortization provisions of FAS No. 142 apply to
goodwill and intangible assets acquired after June 30, 2001. With
respect to goodwill and intangible assets acquired prior to July 1,
2001, the Company adopted FAS No. 142 effective January 1, 2002.
Application of the non-amortization provisions of FAS No. 142 for
goodwill did not have any impact on the Company's financial reporting.
(ii) In October 2001, the FASB issued FAS No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets. FAS No. 144 addresses
significant issues relating to the implementation of FAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of, and develops a single accounting model, based
on the framework established in FAS No. 121 for long-lived assets to be
disposed of by sale, whether
7
such assets are or are not deemed to be a business. FAS No. 144 also
modifies the accounting and disclosure rules for discontinued
operations. The standard was adopted on January 1, 2002 and did not
have any impact on the Company's financial statements.
(iii) In November 2001, the FASB issued Emerging Issues Task Force
("EITF") Issue No. 01-14, Income Statement Characterization of
Reimbursements Received for "Out of Pocket" Expenses Incurred. This
guidance requires companies to recognize the recovery of reimbursable
expenses such as travel costs on service contracts as revenue. These
costs are not to be netted as a reduction of cost. This guidance was
implemented January 1, 2002. The Company does not expect this guidance
to have a material impact on its financial statements.
(iv) In November 2004, the FASB issued FAS No. 151, Inventory
Costs - an Amendment of ARB No. 43, Chapter 4, which clarifies the
accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage), and also requires that
the allocation of fixed production overhead be based on the normal
capacity of an entity's production facilities. FAS No. 151 is effective
for inventory costs incurred during fiscal years beginning after June
15, 2005. The Company is currently evaluating the impact of adopting
this statement.
(v) In December 2004, the FASB issued revised FAS No. 123(R),
Share-Based Payment, which replaces FAS No. 123, Accounting for
Stock-Based Compensation, which superseded APB Opinion No. 25,
Accounting for Stock Issued to Employees. FAS No. 123(R) requires the
cost of all share-based payment transactions to be recognized in an
entity's financial statements, establishes fair value as the
measurement objective and requires entities to apply a fair-value-based
measurement method in accounting for share-based payment transactions.
FAS No. 123(R) applies to all awards granted, modified, repurchased or
cancelled after July 1, 2005, and unvested portions of previously
issued and outstanding awards. The Company is currently evaluating the
impact of adopting this statement.
3. RESTATEMENTS AS A RESULT OF CORRECTING STOCK COMPENSATION EXPENSE.
In October 2005, while completing a registration statement for
securities issued in the second quarter of 2005, the Company determined that
certain disclosures made in connection with its stock-based compensation expense
required adjustment. In September 2002, the Company entered into a distribution
agreement with Ondeo Nalco Company ("Ondeo") whereby Ondeo agreed to serve as
the exclusive distributor of the Company's WATER$AVR(R) products for so long as
Ondeo maintained a certain threshold sales level as defined in the agreement. As
consideration for signing the agreement, Ondeo was granted an option to purchase
2,000,000 shares of the Company's common stock. Half of the option for one
million shares was exercisable immediately at an exercise price of $4.25 for
each common share. The remaining half of the option for 1,000,000 shares was
exercisable after certain threshold sales targets were achieved at a price of
$5.50 for each common share.
In determining the stock-based compensation expense for the nine months
ended September 30, 2002, the Company expensed the entire fair value of the
stock option believing that the option fully vested upon the signing of the
agreement. In its October 2005 review, however, the Company determined that: (i)
first, as stated above, half of the option to purchase 1,000,000 shares of
common stock did not vest and was not exercisable until the threshold sales
target had been met, which would not be until five years after the signing of
the distribution agreement; and (ii) second, the Company did not consider
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; EITF No. 00-18, Accounting Recognition for Certain
Transactions involving Equity Instruments Granted to Other Than Employees; and
EITF No. 01-9, Accounting for Consideration Given by a Vendor to a Customer.
8
To correctly account for the stock options granted to Ondeo, the
stock-based compensation expense, included in consulting expenses, should have
been measured at the date the performance obligation was complete and then
recognized on a rational and systematic manner in relation to the sales achieved
by Ondeo. Had the Company correctly accounted for these stock options,
stock-based compensation expense for the quarter would have been nil as no sales
had yet been achieved. Instead, the Company recorded a stock-based compensation
expense of $2,704,000 for the quarter.
During the three months ended March 31, 2003, Ondeo achieved the first
threshold sales target, and, accordingly, the Company should have recorded a
corresponding stock-based compensation expense of $54,080. However, since the
entire stock-based compensation expense had been recorded in the September 30,
2002 interim financial statements and in the year ended December 31, 2002, the
Company did not record any additional stock-based compensation expense as a
result of the attained first threshold level.
In the fourth quarter of the year ended December 31, 2003, it was
determined that Ondeo was not going to attain the minimum sales targets
stipulated in the exclusive distributorship agreement. Consequently the
exclusive distributorship agreement and corresponding stock options were
cancelled. The Company accounted for the cancellation of the stock options in
accordance with FAS No. 123 similar to a forfeiture of stock options and
reversed $2,480,200 of the stock compensation expense previously recorded in
2002. Had the Company accounted for the cancellation of the stock options
correctly, it would have reversed the stock-based compensation expense of
$54,080 that was recorded in the first quarter ended March 31, 2003.
The following presents the effect on the company's previously issued
financial statements for the three months ended March 31, 2005 and 2004, and the
year ended December 31, 2004:
Balance sheet as at March 31, 2005 -
--------------------------------------------------------------------------------------------------------------
Previously Increase
Reported (Decrease) Restated
----------------------------------------------------------------------
Capital in excess of par value $ 7,686,820) $ (223,800) $ 7,463,020
Accumulated deficiency (2,301,009) 223,800 (2,077,209)
--------------------------------------------------------------------------------------------------------------
Statement of operations for the three months ended March 31, 2005 -
--------------------------------------------------------------------------------------------------------------
Previously Increase
Reported (Decrease) Restated
----------------------------------------------------------------------
Deficit, beginning $ (2,355,207) $ 223,800 $ (2,131,407)
Deficit, ending (2,301,009) 223,800 (2,077,209)
--------------------------------------------------------------------------------------------------------------
Statement of operations for the three months ended March 31, 2004 -
---------------------------------------------------------------------------------------------------------------
Previously Increase
Reported (Decrease) Restated
-----------------------------------------------------------------------
Deficit, beginning $ (1,097,662) $ 223,800 $ (873,862)
Deficit, ending (1,348,523) 223,800 (1,124,723)
---------------------------------------------------------------------------------------------------------------
9
Balance sheet as at December 31, 2004 -
--------------------------------------------------------------------------------------------------------------
Previously Increase
Reported (Decrease) Restated
----------------------------------------------------------------------
Capital in excess of par value $ 7,663,421) $ (223,800) $ 7,439,621
Accumulated deficiency (2,355,207) 223,800 (2,131,407)
--------------------------------------------------------------------------------------------------------------
4. LOAN RECEIVABLE.
--------------------------------------------- -------------------- -----------------------
2005 2004
-------------------- -----------------------
5% loan receivable due on demand $ 38,652 $ 38,570
--------------------------------------------- -------------------- -----------------------
5. PREPAID EXPENSES.
--------------------------------------------- -------------------- -----------------------
2005 2004
-------------------- -----------------------
Security deposit and prepaids $ 96,764 $ 131,280
--------------------------------------------- -------------------- -----------------------
6. PROPERTY, EQUIPMENT AND LEASEHOLDS.
---------------------------- ---------- ------------------- ------------------ ------------------- ------------------
Accumulated 2005 2004
Cost Amortization Net Net
------------------- ------------------ ------------------- ------------------
Buildings $ 3,144,259 $ 231,268 $ 2,912,991 $ 2,987,046
Computer hardware 44,370 15,854 28,516 27,511
Furniture and fixtures 15,609 4,238 11,371 11,515
Office equipment 28,905 11,390 17,515 18,421
Manufacturing equipment 2,139,918 411,712 1,728,206 1,785,858
Trailer 1,926 864 1,062 1,146
Leasehold improvements 31,551 12,739 18,812 14,533
Trade show booth 7,212 1,530 5,682 6,130
Land 398,186 -- 398,186 398,186
------------------- ------------------ ------------------- ------------------
$ 5,811,936 $ 689,595 $ 5,122,341 $ 5,250,346
--------------------------------------- ------------------- ------------------ ------------------- ------------------
7. INVESTMENT.
--------------------------------------------------- -------------------- -----------------------
2005 2004
-------------------- -----------------------
Tatko Inc. $ 271,000 $ 271,000
Air Water Interface Delivery & Detection Inc. $ 54,000 --
-------------------- -----------------------
$ 325,000 $ 271,000
--------------------------------------------------- -------------------- -----------------------
On May 31, 2003, the Company acquired an option to purchase a 20%
interest in the outstanding shares of Tatko Inc. ("Tatko") for consideration of
the issuance of 100,000 shares of our common stock. The option to purchase the
shares of Taiko expires on May 31, 2008. The cost of the investment has been
accounted for based on the original fair market value of our common stock on May
31, 2003. See Contingencies (Note 12).
On February 8, 2005, NanoDetect Technologies Inc., our new subsidiary,
purchased 18 shares in Air Water Interface Delivery and Detection Inc. ("AWD")
for a total cost of $54,000. This investment represents only 1.8% of the issued
and outstanding shares of AWD, and accordingly will be accounted for under the
cost method.
10
8. STOCK OPTIONS.
The Company may issue stock options and stock bonuses for our common
stock to provide incentives to directors, key employees and other persons who
contribute to our success. The exercise price of all incentive options are
issued for not less than fair market value. There were no stock options issued
in the quarter ending March 31, 2005.
The following table summarizes stock option activity for the years
ended December 31, 2004 and 2003 and the three months ended March 31, 2005:
--------------------------------------- ---------------------- -- ---------------------------- ---------------------
Exercise price Weighted average
Number of shares per share exercise price
--------------------------------------- ---------------------- -- ---------------------------- ---------------------
Balance, December 31, 2002 3,686,800 $0.25 - $3.50 $3.79
Granted $3.60 - $4.25 $3.61
256,000
Exercised (124,000) $0.25 - $2.28 $0.48
Expired (2,107,800) $0.25 - $5.50 $4.72
----- --------------------------------- ---------------------- -- ---------------------------- ---------------------
Balance, December 31, 2003 1,711,000 $1.00 - $4.25 $2.84
Granted 572,740 $3.00 - $4.60 $3.46
Exercised (37,000) $1.00 - $2.50 $1.55
Expired (5,000) $4.25 $4.25
Cancelled (1,000,000) $1.50 - $3.50 $2.50
----- --------------------------------- ---------------------- -- ---------------------------- ---------------------
Balance, December 31, 2004 1,241,740 $1.00 - $4.60 $2.87
----- --------------------------------- ---------------------- -- ---------------------------- ---------------------
The fair value of each option grant is calculated using the following
weighted average assumptions:
----------------------------------------------- ---------------------- ----------------------- ----------------------
2004 2003 2002
---------------------- ----------------------- ----------------------
Expected life - years 5.00 5.00 5.00
Interest rate 3.50% 2.87% 3.00%
Volatility 49.00% 49.00% 72.30%
Dividend yield - % - % - %
------ ---------------------------------------- ---------------------- ----------------------- ----------------------
During the previous year, the Company granted 275,400 (2003 - 205,000)
options to purchase our common stock to consultants and has applied FAS No. 123
using the Black-Scholes option-pricing model, which resulted in additional
consulting expense of $299,345 (2003 - $122,570). During the year ended December
31, 2003, the Company cancelled options to purchase 2,000,000 shares of our
common stock to consultants pursuant to the terms of the contract, resulting in
a recovery of consulting expense of $2,480,200.
9. CAPITAL STOCK.
No stock was issued in the quarter ending March 31, 2005. During the
year ended December 31, 2004, the Company issued 37,000 shares of common stock
at prices ranging from $1.00 to $2.50 per share upon exercise of stock options.
During the year ended December 31, 2003, the Company: (i) issued 100,000 shares
of common stock valued at $271,000 to acquire an option to purchase a 20%
interest in Tatko; and (ii) issued 124,000 shares of common stock at prices
ranging from $0.25 to $2.28 per share upon exercise of stock options.
11
10. SEGMENTED, SIGNIFICANT CUSTOMER INFORMATION AND ECONOMIC DEPENDENCY.
The Company operates in two segments:
(a) Development and marketing of two lines of energy and water
conservation products (as shown under the column heading "EWCP" below), which
consists of a (i) liquid swimming pool blanket which saves energy and water by
storing evaporation from the pool surface, and (ii) food-safe powdered form of
the active ingredient within the liquid blanket and is designed to be used in
still or slow moving drinking water sources.
(b) Manufacture of biodegradable polymers and chemical additives used
within the petroleum, chemical, utility and mining industries to prevent
corrosion and scaling in water piping (as shown under the column heading "BPCA"
below). Chemical additives are manufactured for use in laundry and dish
detergents, as well as in products to reduce levels of insecticides, herbicides
and fungicides.
The accounting policies of the segments are the same as those described
in Note 2 to these Consolidated Financial Statements (Significant Accounting
Policies). The Company evaluates performance based on profit or loss from
operations before income taxes, not including nonrecurring gains and losses and
foreign exchange gains and losses.
The Company's reportable segments are strategic business units that
offer different, but synergistic products and services. They are managed
separately because each business requires different technology and marketing
strategies.
---------------------------------------------------------------------------------------------------------
EWCP BPCA Total
---------------------------------------------------------------------
Revenue $ 430,895 $ 1,588,686 $ 2,019,581
Interest revenue 2,673 57 2,730
Interest expense 6,606 31,068 37,674
Depreciation and amortization 13,760 154,343 168,103
Segment profit (loss) (283,969) 338,167 54,198
Segment assets 262,123 4,860,218 5,122,341
Expenditures for segment assets 40,099 -- 40,099
---------------------------------------------------------------------------------------------------------
There is no segment data for the quarter ended March 31, 2004 as our
additional segment was added in June 2004.
The sales generated in the United States of America and Canada are as
follows:
-------------------------------------------------------- --------------------------- ---------------------------
2005 2004
--------------------------- ---------------------------
Canada $ 424,112 $ 351,439
United States and abroad 1,595,469 136,671
-------------------------------------------------------- --------------------------- ---------------------------
Total $ 2,019,581 $ 488,110
-------------------------------------------------------- --------------------------- ---------------------------
The Company's long-lived assets are located in Canada and the United
States as follows:
-------------------------------------------------------- --------------------------- ---------------------------
2005 2004
--------------------------- ---------------------------
Canada $ 254,579 $ 238,807
United States 4,867,762 5,011,539
-------------------------------------------------------- --------------------------- ---------------------------
Total $ 5,122,341 $ 5,250,346
-------------------------------------------------------- --------------------------- ---------------------------
12
11. COMMITMENTS.
The Company is committed to minimum rental payments for property and
premises aggregating approximately $360,111 over the term of two leases, the
last expiring on June 30, 2009.
Commitments in each of the next five years are approximately as
follows:
------------ ---------------
2005 $ 100,718
2006 114,752
2007 55,169
2008 55,654
2009 33,818
------------ ---------------
12. CONTINGENCIES.
On November 13, 2003, Patrick Grant, an ex-employee, filed a lawsuit in
the Circuit Court of Cook County, Illinois against the Company, WaterSavr Global
Solutions Inc. ("WGS"), the wholly-owned subsidiary of the Company, and Daniel
B. O'Brien , the Company's Chief Executive Officer. The plaintiff claims damages
for breach of contract, tortious interference with an agreement and various
wrongful discharge claims. The plaintiff seeks monetary damages in excess of
$1,020,000 for the breach of contract and tortious interference claims and
unspecified compensatory and punitive damages in the wrongful discharge claims.
The parties completed mandatory mediation ordered by the Circuit Court and will
next appear in court for case management, at which time the court will set
discovery deadlines. The Company considers the case without merit and is
planning to dispute the matter vigorously. In addition, the Company intends to
file counterclaims against the plaintiff for failure to repay financial
obligations owed to the Company of almost $40,000, as well as unspecified
damages arising out of the plaintiff's disclosure of confidential information to
a client during his employment at WGS. No amounts have been recorded as
receivable and no accrual has been made for any loss in the Company's
consolidated financial statements as the outcome of the claim filed by the
plaintiff is not determinable.
On May 1, 2003, the Company filed a lawsuit in the Supreme Court of
British Columbia, Canada, against John Wells and Equity Trust, S.A. seeking the
return of 100,000 shares of the Company's common stock and the repayment of a
$25,000 loan, which were provided to defendants for investment banking services
consisting of securing a $5 million loan and a $25 million stock offering. Such
services were not performed and in the proceeding the Company seeks return of
such shares after defendant's failure to both return the shares voluntarily and
repay the note. On May 7, 2003, the Company obtained an injunction freezing the
transfer of the shares. On May 24, 2004, there was a hearing on defendant's
motion to set aside the injunction, which motion was denied by the trial court
on May 29, 2004. The proceeding is still in a discovery phase. On the date of
issuance, the share transaction was recorded as shares issued for services at
fair market value, a value of $0.80 per share. No amounts have been recorded as
receivable in the Company's consolidated financial statements as the outcome of
this claim is not determinable.
On May 28, 2004, Sun Solar Energy Technologies, Inc. ("Sun Solar"),
filed a lawsuit in the Federal Court of Canada, against the Company, Flexible
Ltd., and Mr. O'Brien. Sun Solar is seeking: (a) a declaration that the
trademark "Tropical Fish" is available for use by Sun Solar; (b) injunctive
relief against further use of the "Tropical Fish" trademark by the Company; and
(c) monetary damages exceeding $7,000,000 for the alleged infringement by the
Company, Flexible Ltd. and Mr. O'Brien of the "Tropical Fish" trademark, as well
as any other "confusingly similar trademarks" or proprietary trade dresses. On
August 9, 2004, the Company, Flexible Ltd. and Mr. O'Brien filed their defense
and filed a counterclaim against Sun Solar. The counterclaim seeks: (x)
injunctive relief against further use of the "Tropical Fish" trademark by Sun
Solar; (y) a declaration that the "Tropical Fish" trademark is owned by the
Company, or, in the alternative, is not distinctive and should be struck from
the trademark registry;
13
and (z) monetary damages exceeding $50,000. The parties have completed
documentary discovery, and examinations for discovery of all parties have been
scheduled for July 2005. No amounts have been recorded as receivable in the
Company's consolidated financial statements and no amounts have been accrued as
potential losses as the outcome of this claim is not determinable.
On July 23, 2004, the Company filed a breach of contract suit in the
Circuit Court of Cook County, Illinois against Tatko. The action arises out of a
joint product development agreement entered into between the Company and Tatko
in which the Company agreed to invest $10,000 toward the product development
venture and granted to Tatko 100,000 shares of the Company's restricted common
stock. In return, Tatko granted the Company a five-year option to purchase 20%
of Tatko's outstanding capital stock. Tatko has since refused to collaborate on
the agreement and the Company seeks declaratory relief stating that Tatko is not
entitled to the 100,000 shares of the Company's restricted common stock. The
litigation is still pending at this time.
In addition, Tatko filed its own suit on September 24, 2004 in the
Circuit Court of Cook County, Illinois seeking declaratory relief of its
entitlement to the Company's restricted common stock. On May 23, 2005, the Tatko
suit was dismissed with prejudice by the District Court.
No amounts have been recorded as receivable in the Company's
consolidated financial statements and no amount has been accrued as a loss as
the outcome of the claim against Tatko is not determinable.
The Company filed a lawsuit in the Court of the Queen's Bench of
Alberta, in which our subsidiary, Flexible Ltd., is inter-provincially
registered. The Company is seeking indeterminate damages resulting from a breach
of contract by Calgary Diecast Corporation ("CDC"). The contract was never
completed and the Company's raw materials remain in the possession of CDC. On
April 25, 2005, the Court ordered a judgment in favor of Flexible Ltd. in the
amount of $47,495 and the Company intends to collect using all available means.
13. COMPARATIVE FIGURES.
Certain of the comparative figures have been reclassified to conform
with the current year's presentation.
14
Item 2. Management's Discussion and Analysis or Plan of Operation.
OVERVIEW
Flexible Solutions International, Inc. ("we," "us," and "our")
develops, manufactures and markets specialty chemicals which slow down the
evaporation of water. Our initial product, HEAT$AVR(R), is marketed for use in
swimming pools and spas where its use, by slowing the evaporation of water,
allows the water to retain a higher temperature for a longer period of time and
thereby reduces the energy required to maintain the desired temperature of the
water in the pool. Our newest product, WATER$AVR(R), is marketed for water
conservation in irrigation canals, aquaculture, and reservoirs where its use
slows down water loss due to evaporation. We also make and sell dispensers which
automate the deployment of our chemical products.
RESULTS OF OPERATIONS
The following analysis and discussion pertains to our results of
operations for the three months ended March 31, 2005, as compared to the results
of operations for the three months ended March 31, 2004, and to changes in our
financial condition from December 31, 2004 to March 31, 2005.
THREE MONTHS ENDED MARCH 31, 2005 AND 2004
Separate financial data for each of our operating segments is provided
below. We evaluate the performance of our operating segments based on the
following:
-----------------------------------------------------------------------------------------------------------------------
Three Months Ended March 31,
---------------------------------------------------------- % Change % Change
Sales 2005 2004 2003 2005-2004 2004-2003
------------------ ------------------ ------------------ --------------- ----------------
Energy Segment $ 430,895 $ 488,110 $ 1,281,266 (12%) (62%)
Polymer Segment $ 1,588,686 * * * *
---------------------------------------------------------------------------------------------
Consolidated $ 2,019,581 $ 488,110 $ 1,281,266 314% (62%)
Gross Profit
Energy Segment $ 123,920 $ 121,010 $ 594,199 2% (80%)
Polymer Segment $ 817,360 * * * *
---------------------------------------------------------------------------------------------
Consolidated $ 941,280 $ 121,010 $ 594,199 678% (80%)
SG&A
Energy Segment $ 410,562 $ 374,987 $ 467,074 9% (20%)
Polymer Segment $ 479,250 * * * *
---------------------------------------------------------------------------------------------
Consolidated $ 889,812 $ 374,987 $ 467,074 137% (20%)
Interest Income
Energy Segment $ 2,673 $ 3,116 $ 50,268 (14%) (94%)
Polymer Segment $ 57 * * * *
---------------------------------------------------------------------------------------------
Consolidated $ 2,730 $ 3,116 $ 50,268 (12%) (94%)
Write-down of
Investments
Energy Segment -- -- -- -- --
Polymer Segment -- -- * * *
----------------------------------------------------------------------------------------------
Consolidated -- -- -- -- --
-----------------------------------------------------------------------------------------------------------------------
Net Income (Loss) $ 54,198 $ (250,861) $ 126,071 (122%) (299%)
-----------------------------------------------------------------------------------------------------------------------
---------------------
* Polymer segment data is not available as indicated. Our polymer segment was
formed after the acquisition of certain assets of the Donlar Corporation in
June 2004.
15
For the three months ended March 31, 2005, we experienced a net profit
of $54,198, as compared to a net loss of $250,861 for the three months ended
March 31, 2004. Increased brand recognition, increased sales of our residential
swimming pool product, ECO$AVR(R), and a full quarter of operations from our
NanoChem division has resulted in sales of $2,019,581 in the three months ended
March 31, 2005, as compared to $488,110 in the three months ended March 31,
2004. Our Energy segment had sales of $430,895 for the three months ended March
31, 2005, as compared to $488,110 for the three months ended March 31, 2004. Our
Polymer segment had sales of $1,588,686 for the three months ended March 31,
2005, with no comparable data from the three months ended March 31, 2004.
Our management is satisfied with the effect of the acquisition of
assets from Donlar Corporation ("Donlar"), as the NanoChem division (which is
comprised of the former Donlar assets) has contributed greatly to sales and cash
flow and is starting to replace the capital expended for it. In addition,
opportunities to synergistically cross-sell all of our divisions' products have
already generated leads to new business and the swimming pool division has
discovered ways to help NanoChem increase utilization of its Peru, Illinois
factory, while decreasing our costs as a whole. We maintained expenditures in
the areas of WATER$AVR(R) product sales and marketing costs and production
equipment development costs. The major factors that contributed to our increased
revenue were greater sales from our HEAT$AVR(R) and ECO$AVR(R) swimming pool
division into new overseas markets and an increase in sales from our
newly-formed NanoChem division. NanoChem sales are much less seasonal than those
of our WATER$AVR(R) product and HEAT$AVR(R) and ECO$AVR(R) products divisions,
which should lead to less volatile sales figures in the future. Our management
will attempt to reduce seasonality even further over time.
Gross profit margin represents sales less cost of sales and producing.
The major categories of costs included in cost of sales and producing are cost
of goods, distribution costs, and costs of our buying department. Distribution
costs consist of all warehouse receiving and inspection costs, warehousing
costs, all transportation costs associated with shipping goods from our
facilities to our customers, and other costs of distribution. We do not exclude
any portion of distribution costs from cost of sales. Our gross margins may not
be comparable to those of other entities because some entities include all of
the costs related to their overhead in cost of sales. However, we exclude a
portion of cost of sales from gross profit and instead includes such costs as a
line item in operating expenses.
Our operating expenses were $889,812 for the three months ended March
31, 2005, an increase from $374,987 for the three months ended March 31, 2004.
We continued our sales and marketing efforts for our WATER$AVR(R) product line,
with the objective of closing our first major sales as soon as possible and with
development of advanced production machinery for our swimming pool products. The
largest increases in operating expenses were in the areas of wages ($234,436 in
the three months ended March 31, 2005, as compared to $53,289 in the three
months ended March 31, 2004), rent ($55,806 in the three months ended March 31,
2005, as compared to $21,349 in the three months ended March 31, 2004),
advertising ($31,271 in the three months ended March 31, 2005, as compared to
$7,730 in the three months ended March 31, 2004), and commissions ($40,925 in
the three months ended March 31, 2005, as compared to nil in the three months
ended March 31, 2004). These increases are wholly accounted for by the operating
costs of our NanoChem division and represent a permanent increase in operating
costs related to the new level of sales. Our decreases in investor relations
($24,638 the three months ended March 31, 2005, as compared to $64,678 in the
three months ended March 31, 2004) and consulting ($44,252 in the three months
ended March 31, 2005, as compared to $74,678 in the three months ended March 31,
2004) are the result of better cost-control in these areas instituted by
management over the past year. Our professional fees increased to $60,843 in the
three months ended March 31, 2005, as compared to $36,508 in the three months
ended March 31, 2004. This is the result of costs incurred in intellectual
property prosecution and protection. In addition, depreciation increased to
$168,103 in the three months ended March 31, 2005, as compared to $9,952 in the
three months ended March 31, 2004, as a result of the depreciable NanoChem
assets acquired in June 2004.
16
Our Energy segment generated $410,562 in operating expenses in the
three months ended March 31, 2005, an increase from $374,987 for the three
months ended March 31, 2004. This nine percent increase is attributable to our
increases in advertising, commissions and professional fees. Our Polymer segment
generated $479,250 in operating expenses in the three months ended March 31,
2005, with no comparable data from the three months ended March 31, 2004. This
increase is attributable to the fact that our NanoChem subsidiary was not formed
until June 2004.
Our net profit for the three months ended March 31, 2005 was $54,198,
an increase from our net loss of $250,861 in the three months ended March 31,
2004. The increase in net profit it attributable to increased sales in our
swimming pool products division, as compared to the three months ended March 31,
2004, augmented by positive operating cash from our NanoChem division. Our
Energy segment's net loss for the three months ended March 31, 2005 was
$283,969, a decrease from our net loss of $250,861 in the three months ended
March 31, 2004, which is attributable to our increase in advertising,
commissions and professional fees. Our Polymer segment's net profit for the
three months ended March 31, 2005 was $338,167, with no comparable data from the
three months ended March 31, 2004.
Our profit per share was $0.00 for the three months ended March 31,
2005, as compared to a loss of $0.02 per share for the three months ended March
31, 2004.
LIQUIDITY AND CAPITAL RESOURCES
The following section discusses the effects of changes in our balance
sheet and cash flow on our liquidity and capital resources. The following table
summarizes our cash, cash equivalents and working capital that directly have an
impact on our immediate and future cash needs and sources.
----------------------------------------------------------------------------------------------------------------
March 31, 2005 December 31, 2004 Increase (Decrease)
--------------------- ------------------------- -----------------------------
Cash and cash equivalents $ 495,520 $ 558,795 $ (63,275)
Short-term investments -- 559,440 (559,440)
Working capital 36.925 (101,121) 138,046
Short-term loan 3,150,000 -- 3,150,000
----------------------------------------------------------------------------------------------------------------
We have cash on hand of $495,520 as of the three months ended March 31,
2005, as compared to cash on hand of $558,795 for the three months ended
December 31, 2004. The overall decrease in short-term investments and cash and
cash equivalents was primarily a result of cash used to introduce and market our
WATER$AVR(R) product, which has not yet attained significant sales to maintain
positive cash flow.
As of March 31, 2005, we had working capital of $36,925, as compared to
working capital of ($101,121) on December 31, 2004. The increase in working
capital is the result of increased sales and profits.
Historically, prior to fiscal 2004, our operations have been cash flow
positive after considering the add back to net income of the stock compensation
expense and depreciation. In fiscal 2004, our operations generated negative cash
flow as we acquired a large amount of inventory and we financed the purchase of
the Donlar assets through the redemption of short-term investments. In order to
build our business, develop and research our products and sustain our start-up
operations, we have relied mainly on external equity financing.
We expect that cash provided by operating activities may fluctuate in
future periods as a result of a number of factors, including the fluctuations in
our operating results, shipments, accounts receivable
17
collections, and inventory management. As our sales continue to build, our
accounts receivable will increase and our overall inventory levels will also
increase.
Other than to repay or replace the short-term loan due in June 2005, we
have no other commitments or guarantees in the next 12 months that will
materially affect our cash position or needs. We believe we have sufficient
capital to support our business and operations for at least the next 12 months.
We anticipate utilizing approximately $500,000 in the next twelve months
attempting to close sales in California, Spain and Australia and to extend
certain core U.S. patents to select other countries. Approximately 80% of such
expenditures are related to expanding sales for our WATER$AVR(R) product.
There can be no assurance that any of the expenditures will result in
additional sales revenues. In the event that our capital resources are not
sufficient for the continued expansion of the Company, new capital will be
needed or marketing expenses will have to be curtailed until capital is
available. There is no guarantee that capital will be available on terms
acceptable to the Company or at all. We have no investment banking agreements in
place at this time.
SUBSEQUENT EVENTS
On April 14, 2005, we announced that we had raised $3.375 million in
capital through a private placement of our securities. The securities were sold
in an offering exempt from registration under Rule 506 of Regulation D of the
Securities Act of 1933, as amended. Participating investors were a select group
of investment funds, and the terms of purchase included 900,000 shares of common
stock at a per share price of $3.75, along with a warrant to acquire, at $4.50
per share, another share of common stock for each share purchased. The funds
were used primarily to retire the debt remaining from the acquisition of the
assets comprising our NanoChem division.
RESTATEMENT OF FINANCIAL STATEMENTS
The accompanying financial statements have been restated to revise
certain stock-based compensation expense. In October 2005, while completing a
registration statement for securities issued in the second quarter of 2005, we
determined that certain disclosures made in connection with our stock-based
compensation expense required adjustment. In September 2002, we entered into a
distribution agreement with Ondeo Nalco Company ("Ondeo") whereby Ondeo agreed
to serve as the exclusive distributor of our WATER$AVR(R) products for so long
as Ondeo maintained a certain threshold sales level as defined in the agreement.
As consideration for signing the agreement, Ondeo was granted an option to
purchase 2,000,000 shares of our common stock. Half of the option for one
million shares was exercisable immediately at an exercise price of $4.25 for
each common share. The remaining half of the option for 1,000,000 shares was
exercisable after certain threshold sales targets were achieved at a price of
$5.50 for each common share.
In determining the stock-based compensation expense for the nine months
ended September 30, 2002, we expensed the entire fair value of the stock option
believing that the option fully vested upon the signing of the agreement. In our
October 2005 review, however, we determined that: (i) first, as stated above,
half of the option to purchase 1,000,000 shares of common stock did not vest and
was not exercisable until the threshold sales target had been met, which would
not be until five years after the signing of the distribution agreement; and
(ii) second, we did not consider 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; EITF No. 00-18,
Accounting Recognition for Certain Transactions involving Equity Instruments
Granted to Other Than Employees; and EITF No. 01-9, Accounting for Consideration
Given by a Vendor to a Customer.
During the three months ended March 31, 2003, Ondeo achieved the first
threshold sales target, and accordingly, we should have recorded a corresponding
stock-based compensation expense of
18
$54,080. However, since the entire stock-based compensation expense had been
recorded in the September 30, 2002 interim financial statements and in the year
ended December 31, 2002, we did not record any additional stock-based
compensation expense as a result of the attained first threshold level.
In the fourth quarter of the year ended December 31, 2003, we
determined that Ondeo was not going to attain the minimum sales targets
stipulated in the agreement. Consequently, the agreement and corresponding stock
option was cancelled. We accounted for the cancellation of the stock option in
accordance with Statement of Financial Accounting Standard No. 123 similar to a
forfeiture of stock options and reversed $2,480,200 of the stock compensation
expense previously recorded in fiscal 2002. Had we accounted for the
cancellation of the stock option correctly, we would have reversed the amended
stock-based compensation expense of $54,080 that was recorded in the first
quarter ended March 31, 2003.
In light of the above, the net effect of the adjustments to the
financial statements is as follows:
1. Approximately $2,704,000 in stock compensation expense recorded in
September 2002 has been reversed;
2. Approximately $54,080 in stock-based compensation expense has been
recorded in the quarter ended March 31, 2003, as Ondeo met the first sales
threshold under the agreement;
3. Approximately $54,080 in stock-based compensation expense has been
reversed in the year ended December 31, 2003, as Ondeo failed to meet subsequent
sales thresholds under the agreement, resulting in the cancellation of the stock
option;
4. As stated above, we recorded a stock-based compensation expense of
$2,704,000 in December 2002. As a result of canceling the stock option, we
previously recorded a recovery of $2,480,000 of stock compensation expense at
December 31, 2003. This $2,480,000 recovery has been reversed, in conjunction
with the reversal of $2,704,000 in stock compensation expense originally
recorded; and
5. For the periods ended March 31, 2004 to June 30, 2005, the net
effect of these adjustments is to decrease capital in excess of par value by
approximately $223,800 and increase retained earnings by approximately $223,800.
We are presently unaware of any evidence that the restatements
described above are due to any material noncompliance by us, as a result of
misconduct, with any financial reporting requirement under the federal
securities laws. Our audit committee of the board of directors is working with
our management and our accountants to assure that we are taking the appropriate
approach to resolving the issues related to the restatements, as well as any
further issues that may be identified during the course of its review.
Item 3. Controls and Procedures.
Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to
ensure that information required to be disclosed in our periodic reports to the
Securities and Exchange Commission ("SEC") is recorded, processed, summarized
and reported within the time periods specified in the SEC's rules and
regulations, and that such information is accumulated and communicated to our
management, including our principal executive officer and principal financial
officer, as appropriate, to allow timely decisions regarding required
disclosure. Our disclosure controls and procedures are designed to provide a
reasonable level of assurance of reaching our desired disclosure control
objectives.
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As of the end of the period covered by this Quarterly Report, we
carried out an evaluation, under the supervision and with the participation of
management, including our principal executive officer and principal financial
officer, of the effectiveness of the design and operation of our disclosure
controls and procedures (as defined under Rules 13a-15(e) and 15d-15(e) under
the Securities Exchange Act of 1934, as amended). Based upon that evaluation,
our principal executive officer and principal financial officer concluded that
our disclosure controls and procedures are effective in timely alerting them to
material information relating to us (including our consolidated subsidiaries)
that is required to be included in our periodic reports.
The prior accounting treatment of our stock-based compensation expense
was done in consultation and in accordance with the advice of our independent
accountants. Accordingly, management does not believe that this restatement of
our Quarterly Report indicates or results from a material weakness with respect
to our disclosure controls and procedures or our internal controls over
financial reporting.
Changes in Internal Control Over Financial Reporting
There was no change in our internal control over financial reporting
that occurred during the period covered by this report 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.
On November 13, 2003, Patrick Grant, an ex-employee, filed a lawsuit in
the Circuit Court of Cook County, Illinois against us, WaterSavr Global
Solutions Inc. ("WGS"), our wholly-owned subsidiary, and Daniel B. O'Brien, our
Chief Executive Officer. The plaintiff claims damages for breach of contract,
tortious interference with an agreement and various wrongful discharge claims.
The plaintiff seeks monetary damages in excess of $1,020,000 for the breach of
contract and tortious interference claims and unspecified compensatory and
punitive damages in the wrongful discharge claims. The parties completed
mandatory mediation ordered by the Circuit Court and will next appear in court
for case management, at which time the court will set discovery deadlines. We
consider the case to be without merit and are planning to dispute the matter
vigorously. In addition, we intend to file counterclaims against the plaintiff
for failure to repay financial obligations owed to us of almost $40,000, as well
as unspecified damages arising out of the plaintiff's disclosure of confidential
information to a client during his employment at WGS. No amounts have been
recorded as receivable and no accrual has been made for any loss in our
consolidated financial statements as the outcome of the claim filed by the
plaintiff is not determinable.
On May 1, 2003, we filed a lawsuit in the Supreme Court of British
Columbia, Canada, against John Wells and Equity Trust, S.A., seeking the return
of 100,000 shares of our common stock and the repayment of a $25,000 loan, which
were provided to defendants for investment banking services consisting of
securing a $5 million loan and a $25 million stock offering. Such services were
not performed and in the proceeding we seek the return of such shares after
defendants' failure to both return the shares voluntarily and repay the note. On
May 7, 2003, we obtained an injunction freezing the transfer of the shares. On
May 24, 2004, there was a hearing on defendants' motion to set aside the
injunction, which motion was denied by the trial court on May 29, 2004. The
proceeding is still in a discovery phase. On the date of issuance, the share
transaction was recorded as shares issued for services at fair market value, a
value of $0.80 per share. No amounts have been recorded as receivable in our
consolidated financial statements as the outcome of this claim is not
determinable.
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On May 28, 2004, Sun Solar Energy Technologies, Inc. ("Sun Solar"),
filed a lawsuit in the Federal Court of Canada, against us, Flexible Ltd., and
Mr. O'Brien. Sun Solar is seeking: (a) a declaration that the trademark
"Tropical Fish" is available for use by Sun Solar; (b) injunctive relief against
further use of the "Tropical Fish" trademark by us; and (c) monetary damages
exceeding $7,000,000 for the alleged infringement by us, Flexible Ltd. and Mr.
O'Brien of the "Tropical Fish" trademark, as well as any other "confusingly
similar trademarks" or proprietary trade dresses. On August 9, 2004, we filed
our defenses and filed a counterclaim against Sun Solar. The counterclaim seeks:
(x) injunctive relief against further use of the "Tropical Fish" trademark by
Sun Solar; (y) a declaration that the "Tropical Fish" trademark is owned by us,
or, in the alternative, is not distinctive and should be struck from the
trademark registry; and (z) monetary damages exceeding $50,000. The parties have
completed documentary discovery, and examinations for discovery of all parties
have been scheduled for July 2005. No amounts have been recorded as receivable
in our consolidated financial statements and no amounts have been accrued as
potential losses as the outcome of this claim is not determinable.
On July 23, 2004, we filed a breach of contract suit in the Circuit
Court of Cook County, Illinois against Tatko Inc. ("Tatko"). The action arises
out of a joint product development agreement entered into between us and Tatko
in which we agreed to invest $10,000 toward the product development venture and
granted to Tatko 100,000 shares of our restricted common stock. In return, Tatko
granted us a five-year option to purchase 20% of Tatko's outstanding capital
stock. Tatko has since refused to collaborate on the agreement and we seek
declaratory relief stating that Tatko is not entitled to the 100,000 shares of
our restricted common stock. The litigation is still pending at this time. In
addition, Tatko filed its own suit on September 24, 2004 in the Circuit Court of
Cook County, Illinois seeking declaratory relief of its entitlement to our
restricted common stock. No amounts have been recorded as receivable in our
consolidated financial statements and no amount has been accrued as a loss as
the outcome of the claim against Tatko is not determinable.
We filed a lawsuit in the Court of the Queen's Bench of Alberta, in
which our subsidiary, Flexible Ltd., is inter-provincially registered. We are
seeking indeterminate damages resulting from a breach of contract by Calgary
Diecast Corporation ("CDC"). The contract was never completed and our raw
materials remain in the possession of CDC. On April 25, 2005, the Court ordered
a judgment in our favor in the amount of $47,495 and we intend to collect using
all available means.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
None.
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Item 6. Exhibits.
The following exhibits are attached hereto and filed herewith:
NUMBER DESCRIPTION
------ -----------
31.1 Certification of Principal Executive Officer Pursuant to ss.302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer Pursuant to ss.302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Principal Executive Officer Pursuant to 18 U.S.C.
ss.1350 and ss.906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Principal Financial Officer Pursuant to 18 U.S.C.
ss.1350 and ss.906 of the Sarbanes-Oxley Act of 2002.
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SIGNATURES
In accordance with the requirements of Section 13 or 15(d) of the
Exchange Act, the registrant caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
Dated: December 5, 2005.
FLEXIBLE SOLUTIONS INTERNATIONAL, INC.
By:/s/ DANIEL B. O'BRIEN
-----------------------------------------
Name: Daniel B. O'Brien
Title: President and Chief Executive Officer
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