ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of our financial condition and results of operations should be read in conjunction with the financial statements and related notes to the financial statements included elsewhere in this periodic report. Some of the statements under “Management’s Discussion and Analysis,” “Description of Business” and elsewhere herein may include forward-looking statements which reflect our current views with respect to future events and financial performance. These statements include forward-looking statements both with respect to us specifically and the alternative fuels engines industry in general. Statements which include the words “expect,” “intend,” “plan,” “believe,” “project,” “anticipate,” “will,” and similar statements of a future or forward-looking nature identify forward-looking statements for purposes of the federal securities laws or otherwise. The safe harbor provisions of the federal securities laws do not apply to any forward-looking statements contained in this registration statement.
All forward-looking statements address such matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause our actual results to differ materially from those indicated in these statements. We undertake no obligation to publicly update or review any forward-looking statements, whether as a result of new information, future developments or otherwise.
If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary materially from what we projected. Any forward-looking statements you read herein reflect our current views with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our written and oral forward-looking statements attributable to us or individuals acting on our behalf and such statements are expressly qualified in their entirety by this paragraph.
Results of Operations
For the three months ended June 30, 2017 and 2016
Revenues were $246,314 for the three months ended June 30, 2017 compared with $252,316 for the three months ended June 30, 2016, a decrease of $6,002.
Cost of sales was $145,794 for the three months ended June 30, 2017 compared with $148,316 for the three months ended June 30, 2016, a decrease of $2,522. Our gross margin percentage was 41% for the three months ended June 30, 2017 and 41% for the same period in 2016.
Operating expenses for the three months ended June 30, 2017 were $289,046 compared with $395,334 in the same period in 2016, a decrease of $106,288 or 27%. General and administrative expense for the three months ended June 30, 2017 was $249,017 compared with $341,461 for the three months ended June 30, 2016. Major components of general and administrative expenses for the three months ended June 30, 2017 were professional fees of $10,270, rent expense of $24,830, and salary and wages of $101,183. This compares to professional fees of $20,593, rent expense of $20,317 and salaries and wages of $122,076 for the three months ended June 30, 2016. For the three months ended June 30, 2017 research and development outlays were decreased to $33,805 compared with $46,897 for the three months ended June 30, 2016.
Our net loss for the three months ended June 30, 2017 was $191,589, or ($0.01) per share, compared with a net loss of $292,939, or ($0.01) per share, for the three months ended June 30, 2016. The decreased net loss was primarily due to reduced general and administrative expenses during the three months ended June 30, 2017 over the same period a year earlier.
Results for the three months ended June 30, 2017 reflect the impact of non-cash expenses, including the value of options and warrants granted in the amount of $25,200 and depreciation and amortization of $6,224. For the three month period a year earlier non-cash expenses included options and warrants granted in the amount of $81,969 and depreciation and amortization of $6,976.
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For the six months ended June 30, 2017 and 2016
Revenues decreased to $537,968 for the six months ended June 30, 2017 from $591,899 for the six months ended June 30, 2016, a decrease of $53,931 or 9%. The decrease is attributable to the timing of product shipments.
Our cost of sales decreased to $298,407 for the six months ended June 30, 2017 from $320,493 for the six months ended June 30, 2016, a decrease of $22,086. Our gross margin was 45% for the six months ended June 30, 2017 compared to 46% in 2016.
Our operating expenses for the six months ended June 30, 2017 were $635,276 compared to $763,023 in 2016, a decrease of $127,747 or 17%. General and administrative expense for the six months ended June 30, 2017 was $549,139 as compared to $654,257 for the six months ended June 30, 2016. Major components of general and administrative expenses for the six months ended June 30, 2017 were professional fees of $30,899, rent expense of $57,792 and salary and wages of $204,169. This compares to professional fees of $51,978, rent expense of $48,053, and salary and wages of $241,362 for the six months ended June 30, 2016. Research and development outlays were decreased to $73,689 for the six months ended June 30, 2017 compared to $94,303 for the six months ended June 30, 2016.
Our net loss for the six months ended June 30, 2017 was $400,630, or $0.02 per share, compared to a net loss of $489,683, or $0.02 per share, for the six months ended June 30, 2016. The decreased loss was the result of reductions in both general and administrative expenses and research and development expenses.
Results for the six months ended June 30, 2017 reflect the impact of non-cash expenses, including the value of options and warrants granted in the amount of $94,733 and depreciation and amortization of $12,448. For the six-month period a year earlier, non-cash expenses for the value of options and warrants granted were $118,068 and depreciation and amortization of $14,463.
Liquidity and Capital Resources
Overview
Our primary sources of liquidity are cash provided by operating activities and available working capital. Additionally, from time to time we may raise funds from the equity capital markets to fund our research and development programs, expansion of our business and general operations.
At June 30, 2017, our current liabilities totaled $1,051,047 and our current assets totaled $2,092,927, resulting in positive working capital of $1,041,880 and a current ratio of 1.99.
We have no firm commitments or obligations for capital expenditures. However, substantial discretionary expenditures may be required to enable us to conduct existing and planned product research, design, development, manufacturing, marketing and distribution of our products. We may need to raise additional capital to facilitate growth and support our long-term product development, manufacturing, and marketing programs. The Company has no established bank-financing arrangements. Therefore, it is possible that we need to seek additional financing through subsequent future public or private sales of our securities, including equity securities. We may also seek funding for the development, manufacturing, and marketing of our products through strategic partnerships and other arrangements with corporate partners. There can be no assurance, however, that such collaborative arrangements or additional funds will be available when needed, or on terms acceptable to us, if at all. If adequate funds are not available, we may be required to curtail one or more of our research and development programs.
We have historically incurred significant losses, which have resulted in a total accumulated deficit of $19,151,434 at June 30, 2017, of which $5,604,135 is a direct result of derivative expense and change in fair value of derivative liability and is unrelated to our operations or cash flow.
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Operating Activities
We realized a positive cash flow from operations of $79,191 for the six months ended June 30, 2017 compared with a negative cash flow of $178,721 during the six months ended June 30, 2016.
Included in the net loss of $400,630 for the six months ended June 30, 2017 are non-cash expenses, which are not a drain on our capital resources. During the period, these non-cash expenses include the value of options and warrants granted in the amount of $94,733 and depreciation and amortization of $12,448. Excluding these non-cash amounts, our adjusted EBITDA for the six months ended June 30, 2017 would be a loss of $293,449.
Off-Balance Sheet Arrangements
None.
Critical Accounting Policies
and Estimates
Accounting Method and Use of Estimates
The Company's financial statements are prepared using the accrual method of accounting. The preparation of financial statements in conformity with generally accepted accounting principles 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 revenues and expenses during the reporting period. Actual results could differ from those estimates. Areas where significant estimates are required include the following:
Accounts Receivable
Trade receivables are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis. Management determines the allowance for doubtful accounts by identifying troubled accounts and by using historical experience applied to an aging of accounts.
Inventory
Inventory is stated at the lower of cost or market. The Company’s inventory consists of finished goods and raw materials. The Company identifies items in its inventory that have not been sold in a timely manner. Accordingly, the Company has established an allowance for the cost of such obsolete inventory.
Long-lived assets
The Company assesses the recoverability of its long lived assets annually and whenever circumstances would indicate that there may be an impairment. The Company compares the estimated undiscounted future cash flows to the carrying value of the long lived assets to determine if an impairment has occurred. In the event that an impairment has occurred, the Company recognizes the impairment immediately.
Costs and Estimated Earnings and Billings on Completed Contracts
Billing practices for our contracts are governed by the contract terms of each project based on progress toward completion approved by the owner, achievement of milestones or pre-agreed schedules. Billings do not necessarily correlate with revenue recognized under the percentage-of-completion method of accounting. The current liability, “Billings in excess of costs and estimated earnings on uncompleted contracts,” represents billings in excess of revenues recognized. The current asset, “Costs and estimated earnings in excess of billings on uncompleted contracts,” represents revenues recognized in excess of amounts billed to the customer, which are usually billed during normal billing processes following achievement of contractual requirements.
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Income Taxes
The Company accounts for income taxes in accordance with Accounting Standards Codification Topic 740, which requires the recognition of deferred tax liabilities and assets at currently enacted tax rates for the expected future tax consequences of events that have been included in the financial statements or tax returns. A valuation allowance is recognized to reduce the net deferred tax asset to an amount that is more likely than not to be realized. The Company uses historical experience to determine the likelihood of realization of deferred tax liabilities and assets.
Revenue Recognition
Products
- The Company recognizes revenue from the sale of new engines for use with compressed natural gas, engine components to convert existing engines to compressed natural gas use and components for the maintenance of natural gas engines. Revenues are recognized when all of the following have occurred: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred or services have been rendered, (iii) the price is fixed or determinable and (iv) the ability to collect is reasonably assured. These criteria are generally satisfied at the time of shipment when risk of loss and title passes to the customer.
Contracts
– Revenues are recognized on the percentage-of-completion method, measured by either achievement of milestones or the ratio of costs incurred up to a given date to estimated total costs for each contract. Contract costs include all direct material, labor, subcontract and other costs. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Our contracts generally take 12 to 24 months to complete. Based on our historical experience, we generally consider the collection risk related to these amounts to be low. When events or conditions indicate that the amounts outstanding may become uncollectible, an allowance is estimated and recorded. The current asset, “Costs and estimated earnings in excess of billings,” represents revenues recognized in excess of amounts billed to the customer, which are usually billed during normal billing processes following achievement of contractual requirements.
Accounting for Income Taxes
The Company accounts for income taxes in accordance with Accounting Standards Codification Topic 740, Income Taxes ("Topic 740"), which requires the recognition of deferred tax liabilities and assets at currently enacted tax rates for the expected future tax consequences of events that have been included in the financial statements or tax returns. A valuation allowance is recognized to reduce the net deferred tax asset to an amount that is more likely than not to be realized.
Topic 740 provides guidance on the accounting for uncertainty in income taxes recognized in a company's financial statements. Topic 740 requires a company to determine whether it is more likely than not that a tax position will be sustained upon examination based upon the technical merits of the position. If the more likely-than-not threshold is met, a company must measure the tax position to determine the amount to recognize in the financial statements.
The Company includes interest and penalties arising from the underpayment of income taxes in the statements of operations in the provision for income taxes. As of June 30, 2017, the Company had no accrued interest or penalties related to uncertain tax positions.
The Company files an income tax return in the U.S. federal jurisdiction and the state of California. With few exceptions, the Company is no longer subject to U.S. federal, state, and local, or non-U.S. income tax examinations by tax authorities for years before 2008.
At June 30, 2017, the Company had net operating loss carry forwards of approximately $5,772,304
through 2034. No tax benefit has been reported in the June 30, 2017 financial statements since the potential tax benefit is offset by a valuation allowance of the same amount.
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Due to the change in ownership provisions of the Tax Reform Act of 1986, net operating loss carry forwards for Federal income tax reporting purposes are subject to annual limitations. Should a change in ownership occur, net operating loss carry forwards may be limited as to use in future years.
Recently Issued Accounting Pronouncements
The Company has evaluated recent accounting pronouncements and their adoption has not had or is not expected to have a material impact on the Company’s financial position, or statements.