ITEM 1. BUSINESS
General
Arkados Group, Inc. was incorporated in 1998 and carries out its activities through its two wholly-owned subsidiaries, Arkados, Inc. (hereafter, when referring to the operations, we may refer to Arkados, Inc. as “Arkados”), a Delaware corporation and Arkados Energy Solutions, LLC (hereafter, when referring to the operations, we may refer to Arkados Energy Solutions, LLC as “AES”), a Delaware limited liability company. Our two subsidiaries combine to create unique opportunity to exploit the growth in the Internet of Things across multiple verticals with our software solutions, while simultaneously building a focus in smart facility (building, factory, school, hospital, etc.) applications based on our core advantages in industrial types of environments. We are based in Newark, New Jersey at the Economic Development Corporation at the New Jersey Institute of Technology. The Company’s shares trade on the Over-The-Counter QB market under the ticker symbol AKDS.
The Company underwent a significant restructuring after December 23, 2010 when substantially all of its then-existing assets were acquired by STMicroelectronics (sometimes referred to hereinafter as the “Asset Sale”), as disclosed in the 8-K filed December 29, 2010 and further described (as to the closing) in the 8-K filed July 12, 2011. This restructuring, focusing on settlements with unsecured creditors of the Company, continued through May 31, 2015 and the date of this report.
Following the Asset Sale, the Company has shifted its focus towards development of a universal platform that provides software solutions for smart grid and smart applications primarily in the areas of energy management, health care, smart industrial machines and building security and smart building.
Our executive offices are currently located at 211 Warren Street, Suite 320, Newark, New Jersey 07103. We can be reached at our principal offices by telephone at (862) 373-1988. Our website is www.arkadosgroup.com.
Except for the documents on our website that are expressly incorporated by reference into this report, the information contained on our website is not incorporated by reference into this report and should not be considered to be a part of this report. This includes the website referred to in the paragraph above, as well as other websites that we refer to elsewhere in this report. All of these website addresses are included in this document as inactive textual references only.
Available Information
We file annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and all other reports, and amendments to these reports, required of public companies with the SEC. The public may read and copy the materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website at http://www.sec.gov that contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC. Copies of our fiscal year 2015 Form 10-K may also be obtained without charge by mailing a request to us at 211 Warren Street, Suite 320, Newark, New Jersey 07103 or by calling us at (862) 373-1988.
Overview
Business
Arkados
Arkados, our software development subsidiary, develops proprietary, cloud-based device and system management software solutions, LinqUSP™ and the Process and Event Management System (PEMS)™ as well as delivering software services and support. Arkados sells its software and services through an OEM/ODM relationship with Tatung, a channel relationship with STMicroelectronics as well as through AES.
The Company underwent a significant restructuring commencing December 23, 2010 through which substantially all of its assets were acquired by STMicroelectronics N.V., as disclosed in the Form 8-K filed December 29, 2010 and further described (as to the closing) in the Form 8-K filed July 12, 2011. This restructuring, focusing on settlements with unsecured creditors of the Company existing at the time of the Asset Sale, continued through May 31, 2015 and the date of this report.
AES
AES, our energy conservation and lighting system integration subsidiary, was organized in 2013 but did not commence operations until early 2015. AES provides energy conservation and management services and solutions to commercial and residential buildings throughout the northeastern United States. These services include energy management assessments and recommendations for the implementation of LED lighting and building controls and automation to help owners and managers save money. AES sells its services directly to building owners and managers.
Recent Announcements
Other than as discussed in our filed reports on Form 8-K, there have been no public announcements within the two-year period preceding the date of this report regarding new products or services.
Dependence on Financing Activities
We generated revenue during fiscal year 2015, however, such revenue was not sufficient to cover our operating expenses and therefore, we remained dependent on outside sources of financing by former officers, directors, investors and related parties for our operations. Any such financing of operating expenses occurred through convertible debt and equity (common stock). Recent offerings of stock and convertible debt are set forth under the heading “Recent Sales Of Unregistered Securities” in Part II of this report as well as the quarterly reports on Form 10-Q and the interim reports on form 8-K filed during the last fiscal year.
Following the December 23, 2010 Asset Sale, the Company engaged in the process of finalizing settlement and release agreements with its secured creditors, other noteholders, former employees and its other unsecured creditors. As a result of the Asset Sale and our restructuring, we reached settlement on approximately $16.8 million of our pre-existing debt, which has been either released or converted to a right to receive common stock of the Company. Since May 31, 2014 and as of the date of this report, we fully and finally settled $2.9 million of unsecured debt existing at the time of the Asset Sale to ST Micro. We intend to offer settlements for any remaining unsecured debt outstanding in exchange for the Company’s agreement to issue shares of its common stock at the rate of one share for each $1.20 of principal and interest exchanged. The issuance of shares of the Company’s common stock is claimed to be exempt from registration under the Securities Act of 1933, as amended (the “Securities Act”) pursuant to Section 3(a)(9) for exchanges of securities of the same issuer without payment of solicitation fees and Section 4(a)(2) for sales not involving a public offering. The issuance of the warrants is claimed to be exempt from registration pursuant to Section 4(a)(2) of the Securities Act.
Industry Background & Market Opportunities
Arkados is positioning itself at the intersection of two revolutionary driving forces: the proliferation of the Internet of Things and the intensifying, worldwide focus on the Energy Management and the Smart Grid. As these drivers converge to change the way we work, live and interact with the objects around us, Arkados is positioning itself as a leading player in developing innovative solutions that address the needs of customers across multiple industrial industries.
A. Internet of Things
The Internet of Things (IoT) is a concept describing a network of interconnected objects otherwise known as machine to machine communication. The IoT goes beyond just objects talking to other objects and includes device and sensor capabilities in performing functions such as gathering data, sending communications and learning behaviors through machine learning and analytics. The IoT represents an explosive internet phenomenon that is estimated to grow to include upwards of 50 billion connected objects by 2020 according to Cisco Systems. The IoT is expected to usher in a transformative era in virtually all industries much like the internet revolution transformed our world beginning 20 years ago.
The IoT is not a new concept. The cellular telephone is a wireless device connected to a network and has been in existence for over 30 years. What is new is the ability to connect virtually any object and assign and enable a purpose for that connectivity. For example, a small sensor in embedded in the soil of your house plants to send you an email or text when the plant needs watering. Taken a step further, that same sensor communicating the need for water to a sprinkler system with a connected actuator that will automatically water the plant when the sensor calls for water, followed by a text message to you stating not only that the watering was completed, but how much water was used, how it compared to the previous watering, what the trending temperatures and moisture readings for the day were, etc.
The main drivers making the IoT a reality are the advancements in mobile and cloud computing, data processing technologies, wireless and broadband technologies and energy storage technologies. The compounding effects of these advancements taken in sum come together to create a world that is potentially more comfortable, safe, productive and intelligent.
The Internet of Things, according to the Gartner Group, will consist of 26 billion connected devices (not including phones and tablets) by 2020. In 2008, the number of devices connected to the internet surpassed the number of human beings on earth. The market size for IoT overall, according to BI Intelligence, will reach 18 billion devices by 2018. Whatever the estimate, the numbers are very large and the opportunity is extraordinary. A subset of this overall market is the Industrial IoT, which includes 2 key components: a) the connection of industrial machine sensors and actuators to local processing and to the internet, and b) the onward connection to other important industrial networks that can independently generate value. Our focus is on Smart Building, Smart Factory and Smart Lighting applications. The market size of the Industrial IoT is expected to grow from $20 billion in 2012 to $514 billion in 2020, representing a CAGR of 50.05%. Furthermore, according to Global Information, Inc., the Smart Building market will grow to $214 billion by 2020 with a CAGR of 17%.
We believe Arkados is uniquely positioned to become a significant player in the Internet of Things ecosystem for the following reasons:
1.) Relationship with Tatung, STM and other significant players
a. Commitment with manufacturer for inclusion of proprietary software in all IoT products
b. Partnership on key customer engagements for intermediate and long term revenue
c. Insight into key product development and other market related intelligence
2.) Knowledge and experience in IoT technology design
3.) Financial backing from significant industry players
4.) Software design expertise, with specific experience in PLC, wireless and hybrid solutions for the broadband space
B. Energy Management/Smart Grid
The Smart Grid, electric meters with enhanced communication capabilities and essential components of the smart grid, are becoming more prevalent. In 2011, more than 23% of all U.S. electrical customers had smart meters. These meters use two-way communication to connect utilities and their customers. They support demand response and distributed generation, can improve reliability, and also provide information that consumers can use to save money by managing their use of electricity.
According to research firm Zpryme, the smart grid core and enabled technology market will reach $220 billion in size by 2020. The current prevailing trend in the smart grid technology market is the upgrading of old technology as well as adopting a new technology, both of which will lead to a more efficient usage of electricity. It is estimated that the increase in investment from federal, state, and foreign governments, as well as from utilities themselves is expected to reach $1 billion in the next five years
The explosive growth in this market is driven primarily by the first wave of smart grid implementation: advanced metering infrastructure (the “AMI”). Utilities throughout the world have aggressively implemented smart meters to residential and industrial customers mainly because it is the required first step to achieve a true smart grid and, secondarily, in response to significant government incentives to do so. AMI lays the foundation as a hub for networking and communication and it the gateway to the building area network. From the perspective of the end user (residential or industrial), in-building devices are not only capable of communicating with the other devices within the local network, but are also capable of communicating outward to the wide area network and implementing demand response protocols.
Smart grid intends to modernize the power grid by using the latest technology that supports the utility to reduce the transmission and distribution loss. Smart grid can balance the electricity supply and demand. It can improve the grid reliability by monitoring the frequency and duration of power outages and the number of disturbances, including reduction of the possibility of regional blackouts. Smart grid will improve the efficiency and dependability in energy distribution and assist in optimizing utilization of resources. Reduction in transmission and distribution loss, coupled with an increase in energy efficiency, is one of the major drivers of this market. The governments of various countries are playing important roles in the commercialization of this and passing on mandates and regulations for the same. The high cost of installation of the entire smart grid network is one of the restraints of the smart grid market. Another major restraint is the lack of interoperability of standards. There is a huge amount of investment currently in this market, which is an opportunity for the growth of those in the market. Prepaid electricity is also en-route, wherein the users will prepay for the electricity that will be consumed by them. Lack of interoperability standards exists at all the levels in a system, especially between countries. There are numerous service providers across the globe with different standards of operating and creating a consensus is very important for the growth of any industry. This is lacking in the smart grid market as every country has its own rules and mandates. This leads to a slower adoption of technology and increases risks for the industry as a whole, including a negative return on investment where large upfront investment is required
The electric grid as we know it today has been a core part of our infrastructure for nearly 100 years. According to the U.S. Department of Energy, the power grid is the largest interconnected machine on Earth, consisting of 9200 electric generating units and more than 1,000,000 megawatts of generating capacity connected to more than 300,000 miles of transmission lines. This power grid has a 99.97% uptime, but even the small number of outages and disruptions cost the economy $150 billion per year.
As our economy grows, so does the cost of producing electricity, particularly when also factoring in the opportunity cost. Since 1982, growth in peak demand for electricity, driven by population growth, buildings with more electricity-consuming devices, has exceeded transmission growth by almost 25% every year. Alternatively, spending on research and development in this area is among the lowest of all industries.
Energy is the backbone to the growth in developed economies and has evolved into a patchwork of additions and augmentations that is more susceptible to black outs, outages, disruptions, inefficiency and national security vulnerabilities. The grid has certainly served us well, however future energy demands will continue to strain this aged infrastructure and revolution is underway with evidence from several drivers, including:
1.) Utility companies MUST upgrade: increased demand is approaching the point where many utility companies will not be able to meet peak demand
2.) Government incentive: The U.S. Government has appropriated $11 billion through the American Recovery and Reinvestment Act of 2009 to fund projects for “clean, efficient American energy.”
Smart meter roll out: Smart meters are becoming ubiquitous, which sets the stage for the introduction of new technologies on both the delivery and consumption sides of the equation.
While utility companies already maintain communication between the central generation facility and substations, the smart grid will enable decentralization of energy delivery (source), opening the door for renewable energy usage. In addition, the expansion of that communication network will facilitate end-to-end two-way communication between the utility and the end user, creating an opportunity for solution providers in the FAN/HAN space.
It is in this area where Arkados plans, in part, to concentrate its efforts in energy management: using IoT to enable more efficient use of energy. We believe Arkados is uniquely positioned to become a significant player in the smart grid for the following reasons:
1.) Relationship with Tatung and STMicroelectronics:
a. Software development for product releases
b. Partnership on key customer engagements for intermediate and long term revenue
c. Insight into key product development and other market related intelligence
2.) Knowledge and experience in smart grid technology design
3.) Financial backing from significant industry players
4.) Software design expertise, with specific experience in PLC, wireless and hybrid solutions for the broadband space
Arkados’ position, as it relates to the Smart Grid, is one of a facilitator of demand response, particularly as it relates to the local area network and its integration with the Smart Grid. The gateway and meter bridge products of Tatung, utilizing the PLC capabilities of STMicroelectronics and the device and system management software of Arkados, comprise a very unique and valuable set of features that allow us to compete in the Smart Grid marketplace. In addition, our solutions comprise machine to machine (M2M) communication for the Internet of Things, which represents even larger opportunities.
Sales Force Development
Arkados
We expect to develop our sales force to include a network of direct sales regions. As we develop our international relationships with Tatung and STMicroelectronics, we expect to establish international sales offices and develop relationships with organizations related to our business that will be located worldwide. We anticipate supplementing our direct sales force with sales representative organizations and distributors. The scope and development of our sales and marketing organization will depend, among other things, on the amount of capital available to us and when products are ready for testing.
AES
We expect to develop our direct sales force to focus mainly on opportunities in the northeastern region of the United States. These sales activities target commercial facilities owners and managers of virtually all kinds, including commercial office buildings, warehouses, hotels, hospitals, etc. Regularly, we will work with partners such as construction companies and property managers to reach the end customers. For the foreseeable future, we expect to maintain our focus on the current region and penetrate the large number of opportunities that exist there. We anticipate supplementing our direct sales force with other representatives and channel partners. The scope and development of our sales and marketing organization will depend, among other things, on the amount of capital available to us.
Strategic Relationships
We continue to foster our relationships with STMicroelectronics and Tatung. Each of these relationships will allow Arkados to engage in our devised strategy of developing software and platform solutions for building automation services.
Research and Development
Arkados
Research and development in a rapidly changing technology environment is one of the keys to our success. We allocate resources as much as possible without our current operational limits to explore and exploit advancements in mobile and cloud computing, data processing technologies, wireless and broadband technologies and energy storage technologies that will lead to new products and services within our core competencies. These include the development of new software with a focus on M2M bridges, building networks and the Internet of Things within the smart building/smart grid industries via our strategic partnerships. We may engage in certain activities in pursuit of further commercial development as opportunities arise from these relationships.
AES
AES has no research and development activities at this time.
Patents, Licenses and Trademarks
We continue to maintain our provisional application (Application No. 61/873,249) for a patent covering systems and methods for provisioning of electronic devises onto a network and the subsequent monitoring and operation of the devices, as filed with the U.S. Patent and Trademark Office on September 3, 2013.
We continue to maintain our license with STMicroelectronics for patents relating to building automation services. In addition, we maintain the federal registration of our “Arkados” mark.
Other than as stated above, the Company did not acquire any patents, licenses or trademarks during the period of this report.
Competition
Arkados
We face competition both from established device management and cloud service providers both nationally and internationally, as well as recent entrants in the field. Some of these competitors create solutions that are compliant with existing standards and specifications, while other competitors’ products are based on proprietary technologies.
Since our operations are still developing, and therefore, somewhat in flux, it is difficult to pinpoint direct competitors, however, the following represent those that are most closely identifiable at the current time:
Device Management and Cloud Services
Company
Service
Device Management
Amee UK
Amee
Environmental agency reporting
Arkessa
Arkessa
Remote device operation for IoT
Axeda
Axeda
M2M cloud and data management
Buglabs
Bugswarm
Machine to cloud solution
Carriots
Carriots Cloud
Application development platform
Evrything
Evrything
Digital identity for objects
GroveStreams
GroveStreams
Data gathering and analysis
HP
HP Cense
Data management of embedded devices
iDigi
iDigi Device Cloud
Device cloud platform
Sensinode
NanoService
Web services for end devices
Tonic Solutions
Nimbits
Distributed cloud solution
Exosite
OnePlatform
Cloud and data analytics for IoT
Sen.se
Open.Sen.se
Online apps for IoT
LogMeIn
Pachube
Public cloud for IoT
Paraimpu
Paraimpu
Social tool for connecting IoT
Neuaer
ProxPlatform
Location based service platform for IoT
Microstrain
SensorCloud
Cloud and data analytics for IoT
IoBridge
ThingSpeak
Open application development platform
Thingworx
Thingworx
Application development platform
Yaler
Yaler Platform
Web client for embedded systems
Of these, the services that most directly compete with Arkados’ LinqUSP include Thingworx, ThingSpeak and iDigi Device Cloud. This represents formidable competition to Arkados in that the companies behind these products are much more mature and better capitalized than Arkados. On the other hand, Arkados enjoys a great advantage in the form of its partnerships with Tatung and others. We are in some ways buffered from some of the challenges that many companies experience. The value from these partnerships in this regard comes in the form of product development guidance, market intelligence, existing partnerships, educated and capable sales personnel and a strong incentive to immediately implement and deploy, which drastically reduces time-to-market. For example, LinqUSP was originally conceived in May, 2013 and is ready for large-scale deployment only 8 months later.
Additionally, LinqUSP compares favorably on its features. The combination of an open platform, robust capabilities, scalability and versatility make LinqUSP potentially much more valuable than any of the competing solutions.
AES
The competition for LED lighting and building automation solutions is highly competitive. Large LED lighting companies such as General Electric, Phillips and Cree, as well as a large number of China-based manufacturers represent significant competition to AES for LED lighting and companies such as Johnson Controls, Rockwell Automation and Schneider Electric represent significant competition to AES for building automation solutions. While these companies potentially represent sources of product for AES as a system integrator, there are situations where these companies are competing directly with AES, particularly for large commercial customer opportunities. We also face competition from a large number of Energy Savings Companies (ESCOs) in the northeast region of the United States.
Sales and Marketing
We expect to develop our sales force to include a network of direct sales regions. As we develop our international relationships with Tatung and STMicroelectronics, we expect to establish international sales offices and develop relationships with organizations related to our business that will be located worldwide. We anticipate supplementing our direct sales force with sales representative organizations and distributors. The scope and development of our sales and marketing organization will depend, among other things, on the amount of capital available to us and when products are ready for testing.
Regulatory Environment
As they are developed, we intend to market our services internationally, as well as throughout the United States.
While we do not anticipate being subject to regulation of our services, we will endeavor to make those determinations as part of our strategic plans.
Backlog
We do not engage in manufacturing and had no backlog of orders.
Employees
The Company had 6 employees as of May 31, 2015. As of May 31, 2015, we had not reached settlements with respect to approximately $179,000 in compensation to one former employee. None of our former employees were parties to collective bargaining agreements.
Our future success depends, in part, on our ability to continue to attract, retain and motivate highly qualified technical, marketing, and management personnel and, as of the end of the period covered by this report and as of the date of filing, we continue to rely on the services of independent contractors for much of our sales/marketing. Technical, accounting and other functions are also critical to our continued and future success.
ITEM 1A.
ITEM 1A. RISK FACTORS
An investment in our common stock is speculative in nature, involves a high degree of risk and should not be made by any investor who cannot afford the loss of their entire investment. Each prospective purchaser should carefully consider the following risks and speculative factors associated with our business and capital structure, as well as others described elsewhere in this report, before making any decision to buy, sell or hold our common stock.
Please note that the risk factors stated below are those that, at the time of the filing of this report we believe are related to our ongoing operations and not necessarily to those operations reflected in the financial statements included in this report.
Risks Related To Our Operations
Our AES subsidiary engages in Oil to Natural Gas boiler conversion services which are susceptible to fluctuations in energy costs.
The price of natural gas versus oil are commodities and each varies a great deal based on supply and demand, economic conditions, political conditions, regulation and other supply-related factors (i.e. new discoveries or technologies for extraction). As a result of these factors, the comparative rates may become disadvantageous to a conversion to natural gas at any time, causing demand for conversion services to drop dramatically for indeterminate periods of time.
The services of our AES subsidiary require General Contractor services and other supervision which may increase our Liability Exposure.
Natural gas installation includes the attendant risks of carbon monoxide poisoning, combustibility, and other hazards, particularly those that may arise as a result of improper installation. Our services require that we evaluate and recommend subcontractors, unrelated to us, and outside of our control and to further act in a supervisory capacity on conversion projects. This involves potential additional liability to us that may be mitigated by insurance and additional stringent controls. There is no guarantee however, that we will be able to fully mitigate such liability.
At present, our Sales are concentrated in a few customers.
Both of our operating subsidiaries, AES and Arkados Inc. have sales that are presently concentrated within a few customers. If any of these customers, in particular, the customers that provide the most significant percentage of revenue no longer are customers, for any reason, and these customers are not replaced, we will sustain additional losses as our fixed cost base will be left uncovered and consume working capital leading to a significant cash flow problems. See also the risk described as “Dependence on Financing” below.
Risks Related to Our Financial Condition
Dependence on financing.
Although, we have started to generate revenue, such revenue is not sufficient to cover our operating expenses, and therefore, we remain dependent on outside sources of financing. In the past, we have financed our operations by issuing secured and unsecured convertible debt and equity securities in private placements, in some cases with equity incentives for the investor in the form of warrants to purchase our common stock and have borrowed from related parties. We have sought and will continue to seek various sources of financing but there are no commitments from anyone to provide us with financing. If we are unable to obtain financing, we may have to suspend operations, sell assets and will not be able to execute our business plan.
Inability to obtain additional financing would result in the suspension of our business.
Our ability to continue our operations depends on our ability to obtain financing. If adequate funds are not available on acceptable terms, we may not be able to retain existing and/or attract new employees, support product development and fabrication, take advantage of market opportunities, develop or enhance new products, pursue acquisitions that would complement our existing product offerings or enhance our technical capabilities to develop new products or execute our business strategy.
If we lose key employees and consultants, including our Chairman and CEO, or are unable to attract or retain qualified personnel, our business could suffer.
Our future success depends, in part, on our ability to continue to attract, retain and motivate highly qualified technical, marketing, engineering, and management personnel. Currently we have retained the services of a full-time Chief Executive Officer but have not retained other management or other full-time staff and rely almost exclusively on outside independent contractors to meet our operational and development needs. Any inability or postponement in retaining full-time staff could result in delays in development or fulfillment of any current strategic and operational plans. As a small company, we depend upon the issuance of equity securities to continue to attract and maintain such key personnel. These additional issuances dilute existing shareholders and may also adversely affect our ability to obtain financing for the Company.
Our independent registered public accounting firm has expressed doubt about our ability to continue as a going concern, which may hinder our ability to obtain future financing.
Our consolidated financial statements as of May 31, 2015 have been prepared under the assumption that we will continue as a going concern for the year ending May 31, 2016. Our independent registered public accounting firm has issued a report that included an explanatory paragraph referring to our recurring losses from operations and net capital deficiency and expressing substantial doubt in our ability to continue as a going concern without additional capital becoming available. Our ability to continue as a going concern is dependent upon our ability to obtain additional equity or debt financing, attain further operating efficiencies, reduce expenditures, and, ultimately, to generate revenue. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
If we fail to comply with the rules under the Sarbanes-Oxley Act related to accounting controls and procedures or if material weaknesses or other deficiencies are discovered in our internal accounting procedures, our stock price could decline significantly and raising capital could be more difficult.
If we fail to comply with the rules under the Sarbanes-Oxley Act related to accounting controls and procedures, or, if material weaknesses or other deficiencies are discovered in our internal accounting procedures, our stock price could decline significantly and raising capital could be more difficult. Section 404 of the Sarbanes-Oxley Act requires annual management assessments of the effectiveness of our internal controls over financial reporting. We may identify material weaknesses in our internal control over financial reporting and other deficiencies, including the lack of sufficient staff. If material weaknesses and deficiencies are detected or continue to remain unresolved, it could cause investors to lose confidence in our financial statements and result in a decline in our stock price and consequently affect our financial condition. In addition, if we fail to achieve and maintain the adequacy of our internal controls, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act. Moreover, effective internal controls, particularly those related to revenue recognition, are necessary for us to produce reliable financial reports and are important to helping prevent financial fraud. If we cannot provide reliable financial reports or prevent fraud, our business and operating results could be harmed, investors could lose confidence in our reported financial information, and the trading price of our Common Stock could drop significantly. In addition, we cannot be certain that additional material weaknesses or significant deficiencies in our internal controls will not be discovered in the future. Our stock price, ability to obtain financing and the listing of our common stock on the OTCQB would be adversely impacted if we fail to maintain effective disclosure controls and procedures.
We expect losses will continue for the foreseeable future. Our stock price may be affected by such losses.
In our short history, we have not reported an operating profit and do not expect to report a profit in the near future, if at all. We have experienced losses from operations since inception. Losses are likely to continue, and may cause volatility in our stock price.
Risks Related To Our Common Stock and Its Market Value
If we fail to remain current on our reporting requirements, we could be removed from the OTCQB Market Tier which would limit the ability of broker-dealers to sell our securities and the ability of stockholders to sell their securities in the secondary market.
Companies trading on the OTCQB Market Tier, such as us, must be reporting issuers under Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, and must be current in their reports under Section 13, in order to maintain price quotation privileges on the OTCQB Market Tier, and to be timely in such filings. If we fail to remain current on our reporting requirements or file late three times in 12 calendar months, our stock could be removed from the OTCQB Market Tier. As a result, the market liquidity for our securities could be severely adversely affected by limiting the ability of broker-dealers to sell our securities and the ability of stockholders to sell their securities in the secondary market. There can be no assurance that in the future we will always be current in our reporting requirements.
Our common stock is subject to the “penny stock” rules of the SEC and the trading market in our securities is limited, which makes transactions in our stock cumbersome and may reduce the value of an investment in our stock.
SEC Rule 15g-9 establishes the definition of a “penny stock,” for the purposes relevant to us, as any equity security that has a market price of less than $5.00 per share or with an exercise price of less than $5.00 per share, subject to certain exceptions. For any transaction involving a penny stock, unless exempt, the rules require:
· that a broker or dealer approve a person’s account for transactions in penny stocks; and
· the broker or dealer receives from the investor a written agreement to the transaction, setting forth the identity and quantity of the penny stock to be purchased.
In order to approve a person’s account for transactions in penny stocks, the broker or dealer must:
· obtain financial information and investment experience objectives of the person; and
· make a reasonable determination that the transactions in penny stocks are suitable for that person and the person has sufficient knowledge and experience in financial matters to be capable of evaluating the risks of transactions in penny stocks.
The broker or dealer must also deliver, prior to any transaction in a penny stock, a disclosure schedule prescribed by the SEC relating to the penny stock market, which, in highlight form:
· sets forth the basis on which the broker or dealer made the suitability determination; and
· that the broker or dealer received a signed, written agreement from the investor prior to the transaction.
Generally, brokers may be less willing to execute transactions in securities subject to the “penny stock” rules. This may make it more difficult for investors to dispose of our common stock and cause a decline in the market value of our stock.
Disclosure also has to be made about the risks of investing in penny stocks in both public offerings and in secondary trading and about the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and the rights and remedies available to an investor in cases of fraud in penny stock transactions. Finally, monthly statements have to be sent disclosing recent price information for the penny stock held in the account and information on the limited market in penny stocks.
The market price of our common stock may be adversely affected by several factors.
The market price of our common stock could fluctuate significantly in response to various factors and events, including:
· our ability to execute our business plan;
· operating results below expectations;
· announcements of technological innovations or new products by us or our competitors;
· loss of any strategic relationship;
· industry developments;
· economic and other external factors; and
· period-to-period fluctuations in our financial results.
In addition, the securities markets have from time to time experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our common stock.
We have not paid dividends in the past and do not expect to pay dividends in the future. Any return on investment may be limited to the value of our common stock.
We have never paid cash dividends on our capital stock and do not anticipate paying cash dividends on our capital stock in the foreseeable future. The payment of dividends on our capital stock will depend on our earnings, financial condition and other business and economic factors affecting us at such time as the board of directors may consider relevant. If we do not pay dividends, our common stock may be less valuable because a return on your investment will only occur if our common stock price appreciates.
A sale of a substantial number of shares of our common stock may cause the price of our common stock to decline.
If our stockholders sell substantial amounts of our common stock in the public market, including shares issued upon the exercise of outstanding options or warrants, the market price of our common stock could fall. These sales also may make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem reasonable or appropriate. Amendments to Rule 144 effective in February 2008 also substantially reduce holding periods and eliminate burdens such as filing notices sale for non-affiliated holders. The amendments to the Rule are applicable to the purchasers of securities prior to and following the effective date of the amendments
Executive Officers of the Registrant
Our executive officers as of August 27, 2015 are:
Name
Position
Terrence DeFranco
Chairman of the Board and sole director, President, CEO and CFO
ITEM 1B.
ITEM 1B. UNRESOLVED SEC STAFF COMMENTS
None.
ITEM 2.
ITEM 2. DESCRIPTION OF PROPERTY
Our offices are located at 211 Warren Street, Suite 320, Newark, New Jersey 07103. The facility is approximately 960 square feet, occupied pursuant to a lease that expires on January 15, 2016. The annual rent is approximately $22,500. The lease can be extended for two years upon the mutual consent of the parties at an annual rental of approximately $24,500.
In addition, our AES subsidiary leases offices at Jericho Atrium 500 North Broadway, Suites 155 Jericho, New York 11753. The facility is approximately 1,850 square feet, occupied pursuant to a lease that commenced on August 1, 2015 and expires September 30. 2018. The average annual rent over the term of the lease is approximately $57.300. This amount does not include taxes for the premises.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
None.
ITEM 4.
ITEM 4. MINE SAFETY DISCLOSURES.
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our common stock is currently quoted on the OTCQB under the symbol “AKDS.” Effective March 18, 2015, the Company implemented a reverse stock split of its outstanding common stock at a ratio of 1-for-30 shares. All share amounts and quotations are reflected on a post-split basis.
Market Information
Our shares of common stock were first quoted on the Over-The-Counter Bulletin Board in 1999. The following table presents the high and low bid prices per share of our common stock as quoted for each quarter in the years ended May 31, 2015 and May 31, 2014 which information was provided by NASDAQ Trading and Market Services.
The above prices represent inter-dealer quotations, without markup, markdown or commissions, and may not represent actual transactions. The trading volume of our common stock fluctuates and may be limited or nonexistent from time to time. As a result, the above prices should not be considered to represent a liquid trading market.
Holders
As of May 31, 2015, we had 199 stockholders of record of our common stock.
Dividend Policy
We have paid no dividends on our common stock and we do not expect to pay cash dividends in the foreseeable future. As of the date of this report, we do not have surplus from which we could pay dividends and intend to retain any future earnings to finance the growth and development of our business.
Recent Sales Of Unregistered Securities; Use of Proceeds From Registered Securities
Information concerning our sales of unregistered securities during the period covered by this report has been reported by us on previously filed reports on Form 10-Q and Form 8-K. In addition, subsequent to the period covered by this report, the following transactions took place:
In June 2015, 753,334 units have been subscribed for under the Company’s March 2015 private placement offering and the Company received proceeds of $452,000. Each unit contains one share of common stock and a warrant to purchase shares of common stock at $2.00 per share. The warrants are immediately exercisable and have a term of three years.
On June 25, 2015, the Company issued 108,333 shares of common stock to its chairman/chief executive officer and 35,000 shares of common stock to an officer/former director for services rendered to the Company’s board of directors in fiscal 2015. In addition, the Company issued options to these individuals to purchase a total of 1,300,000 shares of common stock at $0.60 per share. The options vested immediately and are exercisable for three years.
These securities were issued pursuant to the exemption set forth in Section 4(a)(2) of the Securities Act of 1933. The proceeds to the Company were used entirely for working capital.
Equity Compensation Plan Information
The following table sets forth certain information about our equity compensation plans and agreements as of May 31, 2015:
In 2004, our board approved our 2004 Stock Option and Restricted Stock Plan (the “2004 Plan”) and set aside 200,000 shares for grant pursuant to incentive and non-qualified stock options, and restricted stock awards. The 2004 Plan was amended by the board in June 2006, to increase the number of shares subject to options that can be granted to our officers, directors, employees and consultants to 333,333. The Plan was later amended in March 2007 and November 2008 to increase this amount to 500,000 and 750,000, respectively. The term was most recently extended by our Board for an additional 10 years, in April 2014, as well as amending the Plan to increase the amount of shares for which option grants could be exercised to 3,333,333. The 2004 Plan has not been approved by our stockholders and accordingly, no “incentive stock options” as defined in the Internal Revenue Code can be granted until such approval is obtained. The 2004 Plan had been administered by the Compensation Committee of our board of directors.
We believe all of the options granted pursuant to the 2004 Plan have been terminated in accordance with the terms of the 2004 Plan as a result of the termination of employees and consultants in conjunction with the Asset Sale and settlement and releases obtained therewith.
In addition, in April 2014, our board approved the issuance of additional options to acquire 1,181,250 shares of our common stock at $1.20 per share to key employees, including our CEO, general counsel and head of software development. All of these options are vested.
As of May 31, 2015, there were options to purchase 1,012,500 shares outstanding under the 2004 Plan, as amended, all of which were vested.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
Not applicable.
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Readers are urged to carefully review and consider the various disclosures made by us in this Form 10-K for the fiscal year ended May 31, 2015, and our other filings with the U.S. Securities and Exchange Commission. These reports and filings attempt to advise interested parties of the risks and factors that may affect our business, financial condition and results of operations and prospects. The forward-looking statements made in this Form 10-K speak only as of the date hereof and we disclaim any obligation to provide updates, revisions or amendments to any forward-looking statements to reflect changes in our expectations or future events.
Overview
Arkados Group, Inc., through its subsidiaries (together, the “Company”), is a global provider of scalable and interoperable Internet of Things solutions focused on industrial automation and energy management. We execute our business as a software developer and system integrator focused on developing unique, cutting-edge solutions that enable machine to machine communications with specific applications for Smart Lighting, Smart Factory and Smart Building. We have strong partnerships with Tatung Corporation (“Tatung”), a major developer of advanced technologies and global network of operation, and ST Microelectronics, Inc. (“STMicroelectronics”), a leading worldwide manufacturer of semiconductor chips. Each of these relationships enhances our ability to capitalize globally on the emerging opportunities for IoT and Smart Facility applications.
As a software developer, we design licensable middleware and application software that is integrated into circuit boards and modules for incorporation into various types of IoT products, such as smart lighting, smart cameras, sensors and EV charging stations, As a system integrator, we incorporate the software and modules into products that we design with our partners and sell directly to property and facilities owners.
We have executed several agreements that have enabled us to provide the services contemplated in the industrial automation industry. While we have begun to generate revenue from operations of our Arkados, Inc. subsidiary during the quarter ended November 30, 2014, such revenue is not sufficient to meet our monthly operating expenses and we remain dependent on outside sources of financing to fund our operations.
We have commenced operations for our wholly-owned subsidiary, AES. AES started generating revenue in the fourth quarter of fiscal 2015.
We effected a reverse 1-for-30 split of our common stock on March 18, 2015 and also amended our bylaws, both of which were approved by our shareholders. More information on these actions may be reviewed in our Information Statement filed with the Securities and Exchange Commission (“SEC”) on February 24, 2015.
Ongoing Negotiations with Certain Creditors
With respect to the classes of remaining creditors at the time of the Asset Sale to ST, the total debt that remained to be settled as of May 31, 2015 included approximately $179,000 due to former employees, and approximately $278,000 to various former vendors. The current CEO of the Company is working diligently to obtain the remaining releases. We anticipate that substantially all of these claims will be settled in exchange for the issuance of common stock of the Company at a price of $1.20 (of the debt settled) per one (1) share of common stock, which is consistent with the offers made to all creditors who have already completed settlements as negotiated in December 2010.
Software and Platform Solutions Development
As of the date of this report, we have not had significant revenue from operations since inception. Furthermore, we have financed operations with the proceeds primarily from related party lending from our major stockholder and affiliated lenders, as well as other stockholders and lenders. We continue to seek to restructure our operations following the Asset Sale and to complete the settlement of material obligations as a result of the Asset Sale. Despite selling our patents and other intellectual property to STMicroelectronics, we retained, through a license back from STMicroelectronics, the ability to pursue key elements of our anticipated software and platform solutions.
Arkados intends to continue to expand its relationship with Tatung by agreeing to partner on business and product development initiatives for smart grid applications. We anticipate that our relationships will position us to be able to commercially exploit opportunities in the various smart grid-related industries.
Electric meters with enhanced communication capabilities-an essential component of the smart grid-are becoming more prevalent. These meters use two-way communication to connect utilities and their customers. They support demand response and distributed generation, can improve reliability, and also provide information that consumers can use to save money by managing their use of electricity. The growth in the smart grid core and enabled technology market is driven primarily by the first wave of smart grid implementation: advanced metering infrastructure (the “AMI”). Utilities throughout the world have aggressively implemented smart meters to residential and industrial customers mainly because it is the required first step to achieve a true smart grid and, secondarily, in response to significant government incentives to do so. AMI lays the foundation as a hub for networking and communication and is the gateway to the building area network. From the perspective of the end user (residential or industrial), in-building devices are not only capable of communicating with the other devices within the local network, but are also capable of communicating outward to larger interconnected networks and implementing demand response protocols.
Every aspect of our business remains constrained by our limited capital resources and the threat of having to cease operations as a result of our lack of capital.
If we are unable to raise funds to finance our working capital needs, we will not have the capital necessary for ongoing operations.
Critical Accounting Policies
The discussion and analysis of the Company’s financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosure on contingent assets and liabilities at the date of the financial statements. Actual results may differ from these estimates under different assumptions and conditions.
Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and may potentially result in materially different results under different assumptions and conditions. As of May 31, 2015, management believes the critical accounting policies applicable to the Company that are reflective of significant judgments and or uncertainties are limited to equity based transactions or convertible debt instruments.
Revenue Recognition
Arkados
Revenues from software licensing are recognized in accordance with Accounting Standards Codification (“ASC”) 985-605, “Software Revenue Recognition.” Accordingly, revenue from software licensing is recognized when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is probable.
The Company intends to enter into arrangements with end users for items which may include software license fees, and services or various combinations thereof. For each arrangement, revenues will be recognized when evidence of an agreement has been documented, the fees are fixed or determinable, collection of fees is probable, delivery of the product has occurred and no other significant obligations remain.
License revenues are recognized at the time of delivery of the software and all other revenue recognition criteria discussed above have been met. Deferred revenue represents license revenues billed but not yet earned.
AES
Sales of products are recognized when the products are shipped and the customer takes risk of ownership and assumes the risk of loss. Service revenue is recognized when the service is completed. Deferred revenue represents revenues billed but not yet earned
Stock-Based Compensation
The computation of the expense associated with stock-based compensation requires the use of a valuation model. ASC 718 is a complex accounting standard, the application of which requires significant judgment and the use of estimates, particularly surrounding Black-Scholes assumptions such as stock price volatility, expected option lives, and expected option forfeiture rates, to value equity-based compensation. We currently use a Black-Scholes option pricing model to calculate the fair value of stock options. We primarily use historical data to determine the assumptions to be used in the Black-Scholes model and have no reason to believe that future data is likely to differ materially from historical data. However, changes in the assumptions to reflect future stock price volatility and future stock award exercise experience could result in a change in the assumptions used to value awards in the future and may result in a material change to the fair value calculation of stock-based awards. ASC 718 requires the recognition of the fair value of stock compensation in net income. Although every effort is made to ensure the accuracy of our estimates and assumptions, significant unanticipated changes in those estimates, interpretations and assumptions may result in recording stock option expense that may materially impact our financial statements for each respective reporting period.
Impact of Debt with Conversion Features
The Company at times enters into financing transactions whereby such debt instruments contain conversion features into common stock and or may contain detachable equity rights. These debt inducement features may be considered freestanding and or beneficial conversion features in our financial statements pursuant to the accounting guidance under ASC 470-20. These features would be fair valued and recorded as a discount to the debt instrument and amortized over the life of the instrument. Additional valuation features of warrants, conversion features in debt, and similar terms that include “full-ratchet” or reset provisions, which mean that the exercise or conversion price adjusts to pricing in subsequent sales or issuances, no longer meet the definition of indexed to a company’s own stock and are not exempt from equity classification provided in ASC Topic 815-15. This means that instruments that were previously classified in equity are reclassified to liabilities and ongoing measurement under ASC Topic 815. The amount of quarterly non-cash gains or losses we will record in future periods will be based upon the fair market value of our common stock on the measurement date.
Results of Operations
Arkados
We have been diligently undertaking negotiations with partners and industry contacts to establish joint ventures and other commercial relationships that would enable us to sell solutions in the energy management and building automation industries to service providers that would include these applications in product or service offerings to their customers.
As described in our prior report (1st quarter 2015), we rolled out to Tatung our Process and Event Management System for Smart Factory (PEMS-SF). This system is intended to improve efficiency of a factory by Arkados’ software solutions residing in the factory’s computer systems and in the Arkados’ cloud computing platform. The PEMS-SF system will have several applications developed, from time to time, by Arkados, for production testing (PTS), logistic material tracking (MTS), environment management (EMS), video analytics (VAS), quality reporting (QRS) and others (as may be developed by Arkados as needed for the customer needs).
We also introduced to Tatung our In-Home Bridge programmable logic controller (PLC) software that operates on or in connection with a single in-home control device, such as a thermostat, as well as our Meter Collar PLC software that operates on or in connection with a single utility meter, such as a power meter.
Both of these roll-outs have begun generating revenue for us and have the potential for additional revenue as other modules are introduced.
AES
AES has begun marketing its services and solutions beginning in February 2015 and to date, has been engaged by two major customers for the provision of energy savings services, including the provision of LED lighting retrofit services. AES’ direct sales force is in the process of building a sales pipeline that is expected to generate additional revenue in subsequent periods.
Since inception, we have incurred losses of approximately $40.1 million. We have financed operating losses since January 2013 with the proceeds primarily from related party lending from our major stockholders and affiliated lenders, as well as other stockholders and lenders.
If we are unable to raise funds to finance our working capital needs, we will not have the capital necessary for ongoing operations and for making our chip ready for mass production, we could lose professional staff necessary to develop our products and the value of our technology could be impaired. In addition, the lack of adequate funding could jeopardize our development and delivery schedule of our planned products. Such delays could in turn jeopardize relationships with our current customers, strategic partners and prospective suppliers.
Consolidated
In fiscal 2015, we recorded revenue of $403,852 from the licensing of the PEMS-SF and Meter Collar and IHB PLCs as compared to $-0- revenue for fiscal 2014. AES revenue amounted to $80,410 in fiscal 2015. During fiscal 2014, AES did not have revenue.
Cost of sales totaled $25,645 in fiscal 2015 and represented the cost of lighting sold by AES.
Total operating expenses for fiscal 2015 was $4,584,903 consisting primarily of salaries of our management, consulting expenses, board of director fees and professional fees. During this period, we incurred consulting fees of $1,409,594 related to the issuance of 716,667 shares of common stock and warrants to purchase 66,000 shares of common stock under the terms of various agreements and board of director fees totaling $1,873,611 related to the issuance of common stock and stock options in fiscal 2016 for services performed in fiscal 2015. We also incurred net research and development expenses of $332,609 relating to development of new technology. This is compared to total operating expenses for fiscal 2014 of $2,437,665, consisting mainly of consulting expenses, stock based compensation and professional fees. During this period, we incurred consulting fees of $305,410 related to the issuance of 100,000 shares of common stock and a warrant to purchase 100,000 shares of common stock under the terms of a consulting agreement and stock based compensation of $968,092 for stock options issued to officers and key employees. We also incurred net research and development expenses of $200,626.
Interest expense on our existing debt for fiscal 2015 and 2014 was $485,469 and $416,672, respectively. Interest expense includes the amortization of beneficial conversion features on certain convertible debt securities. Amortization amounted to $380,262 and $335,561 for fiscal 2015 and 2014, respectively. Interest expense increased as the result of the issuance of additional convertible notes.
In fiscal 2015, the Company determined that certain accounts payable had been settled in prior periods and should be written off. Balances totaling $124,793 were reversed and recognized as other income.
On September 10, 2014, the Company executed two Convertible Notes totaling $130,000 to refinance due to related party, a previously issued outstanding note payable and accrued interest totaling $174,071. The Company recognized a gain on the settlement of debt of $44,071.
The provision for income tax benefits of $35,840 for fiscal 2015 represents the reversal of over accruals from prior periods.
Arkados Segment
In fiscal 2015, we recorded revenue of $403,852 from the licensing of the PEMS-SF and Meter Collar and IHB PLCs as compared to $-0- revenue for fiscal 2014.
Total operating expenses for fiscal 2015 was $4,463,471 consisting primarily of salaries of our management, consulting expenses, board of director fees and professional fees. During this period, we incurred consulting fees of $1,409,594 related to the issuance of 716,667 shares of common stock and warrants to purchase 66,000 shares of common stock under the terms of various agreements and board of director fees totaling $1,873,611 related to the issuance of common stock and stock options in fiscal 2016 for services performed in fiscal 2015. We also incurred net research and development expenses of $332,609 relating to development of new technology. This is compared to total operating expenses for fiscal 2014 of $2,437,665, consisting primarily of salaries of our management, consulting expenses and professional fees. During this period, we incurred consulting fees of $305,410 related to the issuance of 100,000 shares of common stock and a warrant to purchase 100,000 shares of common stock under the terms of a consulting agreement and stock based compensation of $968,092 for stock options issued to officers and key employees. We also incurred net research and development expenses of $332,609.
AES Segment
AES began operations in fiscal 2015 and began earning revenue in the fourth quarter of fiscal 2015. In 2015, revenue totaled $80,410 consisting of the sale of lighting of $35,610 and consulting services to a related party totaling $44,800.
Cost of sales totaled $25,645 in fiscal 2015 and represented the cost of lighting sold. Total operating expenses in fiscal 2015 was $121,432. Operating expenses consisted primarily of salaries and payroll taxes.
Liquidity and Capital Resources
Our principal source of operating capital has been provided in the form of the private placement of convertible debt securities. We do not have any significant sources of revenue from our operations. No assurance can be given that we can engage in any public or private sales of our equity or debt securities to raise working capital. We have depended, in part, upon loans from investors and there can be no assurances that investors will make any additional loans to us.
Our present material commitments are the compensation of our employees, including our executive officers, and professional and administrative fees and expenses associated with the preparation of our filings with the SEC and other regulatory requirements.
As of May 31, 2015, we had cash of $234,994 and negative working capital of approximately $3.25 million compared to cash of $118,505 and negative working capital of approximately $3.8 million at May 31, 2014, an overall reduction in the working capital deficit of approximately $547,000. The change in working capital since May 31, 2014 has resulted from $500,000 received from the sales of units from our March 2015 private placement offering (“PPO” - see below), $200,000 received in new financing during the year as described above, a decrease of $583,511 in cash used in operating activities to pay current expenses, and a decrease of $780 in prepaid expenses and other current assets. In addition, however, we experienced net decreases in our liabilities as follows: $1,515,196 decrease in our debt which was settled in exchange for equity issued, $1,666,000 decrease in notes payable which was settled in exchange for equity issued net of an increase of $371,557 in accounts payable and accrued expenses .
On March 15, 2015, the Company commenced a PPO for accredited investors to issue up to 2,500,000 shares of common stock and warrants to purchase 2,500,000 shares of common stock at $2.00 per share (each share and warrant constitutes a “Unit”) for total gross proceeds of $1,500,000. The warrants are immediately exercisable and have a term of three years. The Units are being offered by the Company on a “best efforts” “any-or-none” basis in Units of 166,666 shares although the Company may accept fractional Units. The PPO was scheduled to close on May 15, 2015 but was extended by the Company until September 15, 2015. For the period March 15, 2015 through the date of this report, 1,586,664 Units have been subscribed for under the PPO and the Company received proceeds of $952,000. The proceeds are being used for working capital purposes.
Commitments
The following table sets forth our future contractual obligations.
Off Balance Sheet Arrangements
We do not have any off balance sheet arrangements.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS.
Our financial statements are filed under this Item 8, beginning on page of this report.
Arkados Group, Inc. and Subsidiaries
May 31, 2015 and 2014
CONTENTS
Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM F - 2
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets F - 3
Consolidated Statement of Operations F - 4
Consolidated Statement of Changes in Stockholders’ Deficiency F - 5
Consolidated Statement of Cash Flows F - 6
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS F - 7 to F -25
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders
Arkados Group, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Arkados Group, Inc. and Subsidiaries (the “Company”) as of May 31, 2015 and 2014, and the related consolidated statements of operations, stockholders’ deficiency, and cash flows for each of the years ended May 31, 2015 and 2014. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of May 31, 2015 and 2014, and the results of its operations and cash flows for each of the years ended May 31, 2015 and 2014 in conformity with generally accepted accounting principles in the United States.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As more fully described in Note 2a, the Company has incurred recurring operating losses and will have to obtain additional capital to sustain operations. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 2a. The financial statements do not include any adjustments to reflect the possible effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.
/s/ Liggett, Vogt & Webb, P.A.
Certified Public Accountants
New York, New York
August 27,
ARKADOS GROUP, INC AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
ARKADOS GROUP, INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
ARKADOS GROUP, INC. and Subsidiaries
Consolidated Statements of Stockholders’ Deficiency
Years Ended May 31, 2015 and 2014
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
ARKADOS GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
ARKADOS GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED MAY 31, 2015 and 2014
1. DESCRIPTION OF BUSINESS
Arkados Group, Inc. (the “Parent”) conducts business activities principally through two of its wholly-owned subsidiaries, Arkados, Inc. (“Arkados”) and Arkados Energy Solutions, LLC (“AES”) (collectively, the “Company”).
The Company underwent a significant restructuring following December 23, 2010, during which substantially all of its assets were acquired by STMicroelectronics (sometimes referred to hereinafter as the “Asset Sale”), as disclosed in the Form 8-K filed December 29, 2010 and further described (as to the closing) in the Form 8-K filed July 12, 2011. Settlements reached in connection with the Asset Sale and the fulfillment of obligations in connection therewith, have just recently been (post the period covered by this report) substantially completed.
Following the sale of its assets associated with the manufacture of microchips, the Company shifted its focus towards the following businesses:
Arkados - Software and hardware design and developing solutions that enable machine to machine communications for the Internet of Things (IoT). Arkados’ solutions support smart grid and smart building applications primarily in the areas of building automation and energy management and are uniquely designed to drive a wide variety of wireless and powerline communication (PLC)-based products, such as sensors, gateways, video cameras, appliances and other devices.
AES - Energy services provider with focus on the design, installation and maintenance of innovative, sustainable, and cost-effective energy solutions for both residential and commercial customers. AES implements smart grid applications primarily in the areas of LED lighting, building automation, and energy management. These applications are uniquely designed to drive a wide variety of wireless and powerline communication (PLC)-based products, such as sensors, gateways, video cameras, appliances and other devices.
Effective March 18, 2015, the Company implemented a reverse stock split of its outstanding common stock at a ratio of 1-for-30 shares. All share figures and results are reflected on a post-split basis. See Note 8.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. Basis of Presentation - The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The Company has incurred net losses of approximately $40.1 million since inception, including a net loss of approximately $4.4 million for the year ended May 31, 2015. Additionally, the Company still had both working capital and stockholders’ deficiencies at May 31, 2015 and 2014 and negative cash flow from operations since inception. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management expects to incur additional losses in the foreseeable future and recognizes the need to raise capital to remain viable. The accompanying consolidated financial statements do not include any adjustments that might be necessary should the Company be unable to continue as a going concern.
b. Principles of consolidation - The consolidated financial statements include the accounts of the Parent, and its wholly-owned subsidiaries, which include: AES, Arkados, CDKnet, LLC and Creative Technology, LLC. Currently, Arkados and AES are the only active entities with operations. Intercompany accounts and transactions have been eliminated in consolidation.
c. Revenue Recognition -
Arkados
Revenues from software licensing are recognized in accordance with Accounting Standards Codification (“ASC”) 985-605, “Software Revenue Recognition.” Accordingly, revenue from software licensing is recognized when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is probable.
The Company intends to enter into arrangements with end users for items which may include software license fees, and services or various combinations thereof. For each arrangement, revenues will be recognized when evidence of an agreement has been documented, the fees are fixed or determinable, collection of fees is probable, delivery of the product has occurred and no other significant obligations remain.
License revenues are recognized at the time of delivery of the software and all other revenue recognition criteria discussed above have been met. Deferred revenue represents license revenues billed but not yet earned.
c. Revenue Recognition (Continued) -
AES
Sales of products are recognized when the products are shipped and the customer takes risk of ownership and assumes the risk of loss. Service revenue is recognized when the service is completed. Deferred revenue represents revenues billed but not yet earned.
d. Cash equivalents - The Company considers investments in highly liquid instruments with a maturity of three months or less to be cash equivalents. The Company did not have any cash equivalents at both May 31, 2015 and 2014.
e. Accounts receivable - Accounts receivable are reported at their outstanding unpaid principal balances net of allowances for uncollectible accounts. The Company provides for allowances for uncollectible receivables based on management’s estimate of uncollectible amounts considering age, collection history, and any other factors considered appropriate. The Company writes off accounts receivable against the allowance for doubtful accounts when a balance is determined to be uncollectible. At May 31, 2015, the Company determined that an allowance for doubtful accounts was not needed.
f. Fair Value of Financial Instruments - The carrying value of cash, accounts receivable inventory, prepaid expenses and other current assets, accounts payable and accrued expenses approximate their fair values based on the short-term maturity of these instruments. The carrying amounts of debt were also estimated to approximate fair value. The Company cannot estimate the fair value of the remaining outstanding legacy payables. As defined in Accounting Standards Codification (“ASC”) 820, “Fair Value Measurement” (“ASC 820”), fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The Company utilizes market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated, or generally unobservable. ASC 820 establishes a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurement). This fair value measurement framework applies at both initial and subsequent measurement.
The three levels of the fair value hierarchy defined by ASC 820 are as follows:
Level 1 - Quoted prices are available in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis. Level 1 primarily consists of financial instruments such as exchange-traded derivatives, marketable securities and listed equities.
Level 2 - Pricing inputs are other than quoted prices in active markets included in level 1, which are either directly or indirectly observable as of the reported date. Level 2 includes those financial instruments that are valued using models or other valuation methodologies. These models are primarily industry-standard models that consider various assumptions, including quoted forward prices for commodities, time value, volatility factors, and current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Substantially all of these assumptions are observable in the marketplace throughout the full term of the instrument, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace. Instruments in this category generally include non-exchange-traded derivatives such as commodity swaps, interest rate swaps, options and collars.
Level 3 - Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management’s best estimate of fair value.
g. Earnings (Loss) Per Share (“EPS”) - Basic EPS is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding. Diluted EPS includes the effect from potential issuance of common stock, such as stock issuable pursuant to the exercise of stock options and warrants and the assumed conversion of convertible notes.
The following table summarizes the securities that were excluded from the diluted per share calculation because the effect of including these potential shares was antidilutive even though the exercise price could be less than the average market price of the common shares.
h.
Stock Based Compensation - In computing the amount of stock based compensation, the fair value of each option and/or warrant is estimated on the date of grant based on the Black-Scholes options-pricing model utilizing certain assumptions for a risk free interest rate; volatility; and expected remaining lives of the awards. The assumptions used in calculating the fair value of share-based payment awards represent management’s best estimates, but these estimates involve inherent uncertainties and the application of management judgment. As a result, if factors change and the Company uses different assumptions, the Company’s stock-based compensation expense could be materially different in the future. In addition, the Company is required to estimate the expected forfeiture rate and only recognize expense for those shares expected to vest. In estimating the Company’s forfeiture rate, the Company analyzed its historical forfeiture rate, the remaining lives of unvested options, and the amount of vested options as a percentage of total options outstanding. If the Company’s actual forfeiture rate is materially different from its estimate, or if the Company reevaluates the forfeiture rate in the future, the stock-based compensation expense could be significantly different from what we have recorded in the current period.
Stock based compensation expense for the years ended May 31, 2015 and 2014 was $3,283,205 and $1,072,360, respectively, and is included in selling and general and administrative expenses. See Notes 8g, 8l, 8o, 9A and 9B.
i. Use of Estimates - 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, liabilities, equity based transactions and disclosure of contingent liabilities at the date of the financial statements and revenues and expenses during the reporting period. Actual results could differ from those estimates.
j. Inventory - Inventory, which will consist solely of finished goods of AES, is valued at the lower of cost on a first-in, first-out basis or market. Inventory consists of the following at May 31, 2015 and 2014.
k. Research and Development - All research and development costs are expensed as incurred.
l.
Income Taxes - The provision for, or benefit from, income taxes includes deferred taxes resulting from the temporary differences in income for financial and tax purposes using the liability method. Such temporary differences result primarily from the differences in the carrying value of assets and liabilities. Future realization of deferred income tax assets requires sufficient taxable income within the carryback, carryforward period available under tax law. The Company evaluates, on a quarterly basis whether, based on all available evidence, if it is probable that the deferred income tax assets are realizable. Valuation allowances are established when it is more likely than not that the tax benefit of the deferred tax asset will not be realized. The evaluation, as prescribed by ASC 740-10, “Income Taxes,” includes the consideration of all available evidence, both positive and negative, regarding historical operating results including recent years with reported losses, the estimated timing of future reversals of existing taxable temporary differences, estimated future taxable income exclusive of reversing temporary differences and carryforwards, and potential tax planning strategies which may be employed to prevent an operating loss or tax credit carryforward from expiring unused.
The Company accounts for uncertain tax provisions in accordance with ASC 740-10-05 “Accounting for Uncertainty in Income Taxes.” The ASC clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. The ASC prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The ASC provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.
m. Foreign Currency Transactions - The Company accounts for foreign currency translation pursuant to ASC 830. The functional currency of the Company is the United States dollar. Under ASC 830, all assets and liabilities denominated in foreign currencies are translated into United States dollars using the current exchange rate at the end of each fiscal period. Revenues and expenses are translated using the average exchange rates prevailing throughout the respective periods. All transaction gains and losses from the measurement of monetary balance sheet items denominated in foreign currencies are reflected in the statement of operations as gain (loss) on foreign currency transactions.
n. New Accounting Pronouncements -
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers.” The amendments in ASU 2014-09 affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). This ASU will supersede the revenue recognition requirements in ASC 605, “Revenue Recognition,” and most industry-specific guidance, and creates an ASC 606, “Revenue from Contracts with Customers.”
The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps:
Step 1: Identify the contract(s) with a customer.
Step 2: Identify the performance obligations in the contract.
Step 3: Determine the transaction price.
Step 4: Allocate the transaction price to the performance obligations in the contract.
Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation.
ASU 2014-09 was scheduled to be effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early application is not permitted. In August 2015, the FASB issued ASU 2015-14, “Revenue from Contracts with Customers (Topic 606): Deferral of Effective Date” (“ASU 2015-14”) which defers the effective date of ASU 2014-09 by one year. ASU 2014-09 is now effective for annual reporting periods after December 15, 2017 including interim periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The Company is currently evaluating the effects of adopting ASU 2014-09 on its consolidated financial statements for fiscal 2015 but the adoption is not expected to have a significant impact on the Company’s consolidated financial statements for fiscal 2014 as the Company did not recognize revenues for such year.
In August 2014, the FASB issued ASU 2014-15, “Presentation of Financial Statements Going Concern (Subtopic 205-40) - Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.” Currently, there is no guidance in U.S. GAAP about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern or to provide related footnote disclosures. The amendments in this Update provide that guidance. In doing so, the amendments are intended to reduce diversity in the timing and content of footnote disclosures. The amendments require management to assess an entity’s ability to continue as a going concern by incorporating and expanding upon certain principles that are currently in U.S. auditing standards. Specifically, the amendments (1) provide a definition of the term substantial doubt, (2) require an evaluation every reporting period including interim periods, (3) provide principles for considering the mitigating effect of management’s plans, (4) require certain disclosures when substantial doubt is alleviated as a result of consideration of management’s plans, (5) require an express statement and other disclosures when substantial doubt is not alleviated, and (6) require an assessment for a period of one year after the date that the financial statements are issued (or available to be issued). The amendments in this Update are effective for public and nonpublic entities for annual periods ending after December 15, 2016 and early adoption is permitted.
In April 2015, the FASB issued ASU 2015-03, “Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs” (“ASU 2015-03”) as part of its initiative to reduce complexity in accounting standards (the Simplification Initiative). The Board received feedback that having different balance sheet presentation requirements for debt issuance costs and debt discount and premium creates unnecessary complexity. Recognizing debt issuance costs as a deferred charge (that is, an asset) also is different from the guidance in International Financial Reporting Standards, which requires that transaction costs be deducted from the carrying value of the financial liability and not recorded as separate assets. Additionally, the requirement to recognize debt issuance costs as deferred charges conflicts with the guidance in FASB Concepts Statement No. 6, “Elements of Financial Statements,” which states that debt issuance costs are similar to debt discounts and in effect reduce the proceeds of borrowing, thereby increasing the effective interest rate. FASB Concepts Statement No. 6 further states that debt issuance costs cannot be an asset because they provide no future economic benefit. To simplify presentation of debt issuance costs, the amendments in this Update require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this Update. For public business entities, the amendments in this Update are effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. The Company will evaluate the effects of adopting ASU 2015-03 if and when it is deemed to be applicable.
All newly issued but not yet effective accounting pronouncements have been deemed to be not applicable or immaterial to the Company.
o. Reclassification - Certain amounts in the consolidated statement of cash flow for the year ended May 31, 2014 were reclassified to conform to the current period presentation. For the year ended May 31, 2014, the Company did not originally segregate issuances of common stock, options and warrants for services.
3. SALE OF LICENSE AND IP AGREEMENTS
In December 2010, the Company entered into an agreement to sell substantially all of the assets used in the Company’s business of designing, developing and selling semiconductor products that incorporate power line communications and networking services and offering services related thereto (the “Asset Sale”) to STMicroelectronics, Inc. (“ST US”), a subsidiary of STMicroelectronics N.V. (“ST”), pursuant to an Asset Purchase Agreement, by and among the Parent, its subsidiary Arkados, its former subsidiary Arkados Wireless Technologies, Inc. (collectively, “Arkados Group”) and ST US, dated as of December 23, 2010 (the “Purchase Agreement”). At the same time, the Company granted a license (the “License”) to ST US to use the Company’s intellectual property assets included in the Asset Sale pending the closing of such sale. In exchange for granting the License, the Company received gross proceeds of $7 million. The Asset Sale was predicated on the Company settling its secured debt and a significant part of its unsecured debt and closed in June 2011, whereupon the Company received $4 million. At the time the Asset Sale was completed, ST US agreed to license back certain intellectual property on a non-exclusive basis to Arkados Group to facilitate the continuation and expansion of the Company’s home automation business, support the Company’s customers and, with adequate financing (of which there is no assurance), permit the Company to continue the development and marketing of smart grid products. ST US hired substantially all of the Company’s engineering and semiconductor employees (including Oleg Logvinov, the Company’s former CEO and director, who was engaged in and directed the semiconductor business).
Substantially all of the proceeds received pursuant to the License and the Asset Sale, after payment of expenses related to the transactions, were used to settle approximately $20 million of the Company’s outstanding secured debt issued during the period from December 2004 to August 31, 2008 (which was in default) and pay employees $1.4 million of $5.2 million due them. The remainder of the proceeds received by the Company was used to pay other creditors and expenses incurred in connection with the Asset Sale to the extent funds were available to do so.
As a condition to entering into the Purchase Agreement and the License, ST US required that the Company have written settlement agreements and releases with all of our secured creditors as well as all of our employees. Under the settlement agreements with creditors, the creditors agreed to settle the amounts owed (approximately $30,000,000), for an aggregate amount of $10,862,241 in cash, notes payable of $818,768 and another $5,259,926 in common stock of the Company which has yet to be issued. Of the cash settlements, $7,000,000 was paid in December 2010 out of proceeds from the $7,000,000 license fee received pursuant to the License (received in December, 2010), and $3,862,241 was paid at the closing out of proceeds from the Asset Sale (received in June, 2011). In exchange for the settlement amount, the secured creditors agreed to release their security interest in Arkados Group’s assets and most secured creditors released Arkados Group from any and all additional claims, if any, that the secured creditors may have had against Arkados Group. The secured creditors also agreed that ST and its affiliates were third party beneficiaries to the settlement agreements. Under the settlement agreements with the Company’s employees, the employees agreed to accept an aggregate of $1,429,949 and an amount of the Company’s equity rights to be negotiated after the closing as payment for back wages and unreimbursed expenses. The cash payment was paid to employees in December 2010 out of the license fee paid to the Company by ST US. Also, as a condition to entering into the Purchase Agreement and the License, the Company entered into standstill agreements with holders of approximately $2,100,000 of unsecured debt pursuant to which those unsecured creditors agreed, among other things, not to exercise remedies that they may have as creditors of Arkados Group, not to sell or transfer their debt, to release ST and its affiliates from any and all claims that they may have against ST, if any, and not to sue ST for any dealings that the creditors had with Arkados Group.
The Company is negotiating with those few remaining outstanding unsecured debt holders from the period prior to the ST US Asset Sale for which it has not reached agreement, compromise, or convert outstanding debt into equity and thereby facilitate raising additional investor capital for the Company’s business. The amounts that the debt holders have agreed to settle through the receipt of the Company’s equity are labeled as “Debt Subject to Equity Being Issued” on the balance sheet. These settlements are binding commitments, however, the Company is awaiting required information from these debt holders in order to issue the equity and discharge such obligations.
4. PAYROLL TAX LIABILITIES
Enikia was in arrears for several years in its payment of federal and state payroll taxes. Pursuant to the Merger Agreement, the Company assumed up to $1.2 million of the delinquent payroll taxes due and outstanding with the remaining difference being an assumed liability of the major shareholder of the Company. During the year ended May 31, 2006, the Company made payments to both federal and state of New Jersey taxing authorities in the amount of $874,000. The payments represented payroll taxes withheld by Miletos from its employees but not remitted to the taxing authorities. During the year ended May 31, 2008, an additional $64,106 payment was made to the State of New Jersey for payment of payroll taxes. At February 28, 2014, there was $936,906 still recorded on the Company’s books as reserved against amounts possibly due and outstanding to both the federal and state tax authorities for penalties and interest incurred by Enikia related to its payroll liabilities. The Company is not aware of any past due obligations by the respective regulatory agencies on these assumed obligations and further believes that the statute of limitations has expired if there was a possible obligation assumed by the Company on behalf of Miletos. As a result, the Company reversed the liability of $936,906 and such reversal is reflected as other income in the consolidated statement of operations.
5. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
As of May 31, 2015 and 2014, accounts payable and accrued expenses consist of the following amounts:
Accounts payable at May 31, 2015 includes $82,085 of legacy payables.
Accounts payable transactions included the following:
On September 10, 2013, the Company entered into a Settlement Agreement and Release with an unsecured creditor whereby the Company was released from all existing debt, including interest, in exchange for the issuance of 792,550 shares of common stock within 90 days of the signing of the Agreement. The Company issued such shares under this Settlement Agreement in September 2014. As of both May 31, 2015 and 2014, there was $0 of payables due. See Note 8h.
On September 19, 2013, the Company entered into a General Release with an unsecured creditor whereby the Company was released from all accounts payable totaling $130,863, in exchange for the issuance of common stock. The shares of common stock were issued on February 3, 2014. See Note 8d.
On November 20, 2013, the Company entered into a Settlement Agreement and General Release with an unsecured creditor whereby the Company was released from all existing debt, including interest, totaling $207,943, in exchange for the issuance of 189,414 shares of common stock. The shares of common stock were issued on February 3, 2014. See Note 8d.
In fiscal 2015, the Company determined that certain accounts payable had been settled in prior periods and should be written off. Balances totaling $124,793 were reversed and recognized as other income.
6. NOTES PAYABLE, RELATED PARTY PAYABLES AND DEBT SUBJECT TO EQUITY BEING ISSUED
Notes Payable
As a result of the Company’s Asset Sale to ST US, the notes payable and convertible debentures of $17,269,689 and the related accrued interest of $3,671,137 as of May 31, 2010, have been settled in part with the December 2010 closing in the amount of $5,570,059 and the balance in June 2011 closing with cash of $3,526,523, an undetermined amount of equity yet to be issued and $688,768 of remaining notes payable as of May 31, 2012. In fiscal 2014, the Company received loans of $400,000. As of May 31, 2014, there was $939,894 of notes payable, net of debt discounts of $309,263. In fiscal 2015, the Company received loans of $200,000 and refinanced related party payables totaling $130,000. In addition, as discussed below the Company issued common stock for the conversion of various notes payable and accrued interest. As of May 31, 2015, there was notes payable of $345,832, net of debt discounts of $0. All notes payable mature on or before October 31, 2015 and as such, are classified as current liabilities on the consolidated balance sheet.
Notes payable transactions include the following:
FY 2013 (Year Ended May 31, 2013) Transactions:
In November 2012, the Company received a loan in the form of a Convertible Note in the principal amount of $180,000. The Convertible Note bears interest at 6% per year and was scheduled to mature on November 15, 2014. In November 2014, the maturity date was extended to January 15, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at a conversion price of $0.30 per share. The beneficial conversion feature was fair valued at $180,000 and was amortized over the life of the debt instrument. On April 1, 2015, the Company issued 687,921 shares for the conversion of the principal and accrued interest of $26,377. As a result of the conversion of the notes, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
In December 2012, the Company received a loan in the form of a Convertible Note in the principal amount of $20,000. The Convertible Note bears interest at 6% per year and was scheduled to mature on November 15, 2014. In November 2014, the maturity date was extended to January 31, 2015. Under the terms of the Convertible Note, if the Convertible Note was not paid upon maturity, the interest rate increased to 12% per year. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at a conversion price of $0.30 per share. The beneficial conversion feature was fair valued at $20,000 and was amortized over the life of the debt instrument. On April 1, 2015, the Company issued 76,373 shares for the conversion of the principal and accrued interest of $2,912. As a result of the conversion of the notes, the remaining unamortized beneficial conversion features was written off in March 2015. See Note 8n.
On April 22, 2013, the Company executed two Convertible Notes for loans in principal amount of $40,000 each. Each Convertible Note bore interest at 6% per year and was scheduled to mature on April 30, 2015. At any time during the term of the Convertible Notes, the holders had the right to convert any unpaid portion of the Convertible Notes into shares of common stock at an original conversion price of $0.60 per share for both Convertible Notes. The beneficial conversion feature was fair valued at $40,000 each and was being amortized over the lives of the debt instruments. On March 16, 2015, the conversion price for the two notes was amended to $0.30 per share. On April 1, 2015, the Company issued 298,111 shares for the conversion of the principal and accrued interest of $9,433. As a result of the conversion of the notes, the remaining unamortized beneficial conversion features were written off in March 2015. See Note 8n.
On April 22, 2013, the Company executed a Convertible Note for a loan in the principal amount of $120,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on April 30, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at an original conversion price of $0.60 per share. The beneficial conversion feature was fair valued at $120,000 and was being amortized over the life of the debt instrument. On March 16, 2015, the conversion price for the note was amended to $0.30 per share. On April1, 2015, the Company issued 447,167 shares for the conversion of the principal and accrued interest to date of $14,150. As a result of the conversion of the notes, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
On May 2, 2013, the Company executed a Convertible Note for a loan in the principal amount of $200,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on April 30, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at an original conversion price of $0.60 per share. The beneficial conversion feature was fair valued at $200,000 and was being amortized over the life of the debt instrument. On March 16, 2015, the conversion price for the note was amended to $0.30 per share. On April 1, 2015, the Company issued 741,872 shares for the conversion of the principal and accrued interest of $22,562. As a result of the conversion of the note, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
FY 2014 (Year Ended May 31, 2014) Transactions:
On September 6, 2013, the Company entered into a Settlement Agreement and General Release with a prior director who was also an unsecured creditor, whereby he released all existing debt and accrued interest totaling $18,190, in exchange for the issuance of 40,154 shares of common stock. The shares were issued on February 3, 2014. See Note 8b.
On September 9, 2013, the Company entered into a Settlement Agreement and General Release with an unsecured creditor whereby the Company was released from all existing debt and accrued interest totaling $74,285, in exchange for the issuance of 82,614 shares of common stock and the issuance of a warrant to exercise 47,833 shares of stock at $1.20 per share for a term of three years through September 9, 2016. The shares were issued on February 3, 2014. See Note 8b.
On September 19, 2013, the Company entered into a General Release with an unsecured creditor whereby the Company was released from a promissory note, including interest, totaling $121,736, in exchange for the issuance of common stock. The shares of common stock were issued on February 3, 2014. See Note 8d.
On October 28, 2013, the Company executed a Convertible Note for a loan in the principal amount of $200,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on October 31, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at an original conversion price of $1.20 per share. The beneficial conversion feature was fair valued at $7,500 and was being amortized over the life of the debt instrument. On March 16, 2015, the conversion price for the note was amended to $0.30 per share. On April 1, 2015, the Company issued 723,706 shares for the conversion of the principal and accrued interest of $17,112. As a result of the conversion of the note, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
On November 12, 2013, the Company executed a Convertible Note for a loan in the principal amount of $200,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on October 31, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note into shares of common stock at an original conversion price of $1.20 per share. The beneficial conversion feature was fair valued at $100,000 and was being amortized over the life of the debt instrument. On March 16, 2015, the conversion price for the note was amended to $0.30 per share. On April 1, 2015, the Company issued 722,066 shares for the conversion of the principal and accrued interest of $16,620. As a result of the conversion of the note, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
Effective June 1, 2009, the Company adopted the provisions of EITF 07-05 “Determining Whether an Instrument (or Embedded Feature) is Indexed to a Company’s Own Stock,” which was codified into ASC 815, “Derivatives and Hedging” (“ASC 815”). ASC 815 applies to any freestanding financial instruments or embedded features that have characteristics of a derivative and to any freestanding financial instruments that are potentially settled in an entity’s own common stock. The Company had issued 369,167 warrants with exercise reset provisions with its debt issuances over the years, which were considered freestanding derivative instruments. ASC 815 required that these warrants be recorded as liabilities as they were no longer afforded equity treatment. The assumptions were as follows: risk free rates from 1.32% to 1.39%, expected life terms ranging from 0.5 years to 2.0 years, an expected volatility range of 206% to 251% depending on the term of such equity contracts and a dividend rate of 0.0%. The fair value of the warrants issued and outstanding at May 31, 2010, attributed to this derivative liability had been determined to be immaterial due to the low stock price in comparison to the exercise price, hence there was no adjustment to make upon adoption of this accounting standard. As of May 31, 2014, all of these warrants expired.
FY 2015 (Year Ended May 31, 2015) Transactions:
On August 11, 2014, the Company executed a Convertible Note for a loan in the principal amount of $100,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on October 31, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note and accrued interest into shares of common stock at an original conversion price of $0.60 per share. The beneficial conversion feature was fair valued at $35,500 and was being amortized over the life of the debt instrument. On March 16, 2015, the conversion price for the note was amended to $0.30 per share. On April 1, 2015, the Company issued 345,360 shares for the conversion of the principal and accrued interest of $3,608. As a result of the conversion of the note, the remaining unamortized beneficial conversion feature was written off in March 2015. See Note 8n.
On August 12, 2014, the Company executed a Convertible Note for a loan in the principal amount of $100,000. The Convertible Note bore interest at 6% per year and was scheduled to mature on October 31, 2015. At any time during the term of the Convertible Note, the holder had the right to convert any unpaid portion of the Convertible Note and accrued interest into shares of common stock at an original conversion price of $0.60 per share. The beneficial conversion feature was fair valued at $35,500 and was being amortized over the life of the debt instrument. On April 1, 2015, the Company issued 345,303 shares for the conversion of the principal and accrued interest of $3,591. As a result of the conversion of the notes, the remaining unamortized beneficial conversion features were written off in March 2015. See Note 8n.
On September 10, 2014, the Company executed two Convertible Notes to refinance due to related party, a previously issued outstanding note payable and accrued interest totaling $174,071. Each of these Convertible Notes has a principal balance of $65,000, bear interest at 6% per year and mature on October 31, 2015. At any time during the term of the Convertible Notes, the holders have the right to convert any unpaid portion of the Convertible Notes and accrued interest into shares of common stock at a conversion price of $1.20 per share. There was no beneficial conversion feature. The Company recognized a gain on the settlement of debt of $44,071 for the year ended May 31, 2015.
Related Party Payables
The Company received an aggregate of $130,000 from two of its then directors during the first quarter of 2012. As discussed above, these payables were refinanced.
Due to related party amounted to $0 and $130,000 at May 31, 2015 and 2014, respectively.
Debt Subject To Equity Being Issued
As a direct result of the Sale of the License and IP Agreements to ST US and the mandate to obtain debt releases, the Company has been able to reach settlements with its secured creditors and employees, with cash payments to the secured creditors made as of the December 2010 and June 2011 closings. Nothing further is owed to the Company’s secured creditors. There remains, however, approximately $179,000 and $927,000 of payments due the former employees as of May 31, 2015 and 2014, respectively.
The continuing settlements with unsecured and related parties resulted in gains being recorded in the amount of $482,784 in fiscal 2012. As of May 31, 2015 and 2014, there remained $456,930 and $2,420,374 of debts to be settled via cash payments and/or the issuance of equity on as yet to be determined or negotiated terms. The majority of debt holders who have settled have agreed to accept equity for their remaining debt.
FY 2013 (Year Ended May 31, 2013):
On January 6, 2013, the Company and Andreas Typaldos (“Typaldos”), former officer and director, entered into a Separation and Release Agreement (Separation Agreement”). Under the Separation Agreement, all prior agreements with Typaldos were terminated and certain debts and obligations to Typaldos were released in exchange for (1) a cash payment of $15,920 and (2) 469,132 shares of common stock. In addition, $19,000 was to be paid to Typaldos’ son for an existing loan with the Company. The Company issued such shares under this Separation Agreement in September 2014. As of both May 31, 2015 and 2014, no payables were due to Typaldos. See Note 8i.
FY 2014 (Year Ended May 31, 2014):
On September 11, 2013, the Company entered into a Settlement Agreement and General Release with a vendor in respect of all past due amounts prior to November 1, 2012 in exchange for a payment by the Company of $15,000 in cash and the issuance of 116,667 shares of the Company’s stock valued at $125,000. The Company paid $7,500 in December 2013 and $7,500 in March 2014. The Company issued the shares of common stock on February 3, 2014. See Note 8c.
In April 2014, the Company entered into final supplemental agreements with various former employees to settle all outstanding claims. The Company issued warrants to purchase 2,245,876 shares of common stock at $1.20 per share for a five-year period to settle claims totaling $2,695,052.
FY 2015 (Year Ended May 31, 2015):
In fiscal 2015, the Company entered into final supplemental agreements with former employees to settle all outstanding claims. The Company issued warrants to purchase 622,947 shares of common stock at $1.20 per share for a five-year period to settle claims totaling $747,535.
During the year ended May 31, 2015, the Company entered into final supplemental agreements with bridge note holders to settle all outstanding claims. The Company issued 648,381 shares of common stock to settle claims totaling $466,000 in September 2014 and 256,486 shares of common stock to settle claims totaling $207,753 on April 1, 2015. See Note 8j.
During the year ended May 31, 2015, the Company agreed to issue 418,669 shares of common stock to settle claims totaling $502,408 from previous holders of unsecured debt. The shares were issued in January 2015. See Note 8k.
7. INCOME TAXES
There was no provision for federal or state taxes for both of the years ended May 31, 2015 and 2014.
The components of deferred taxes were as follows:
The Company has a valuation allowance against the full amount of its net deferred taxes due to the uncertainty of realization of the deferred tax assets due to operating loss history of the Company. The valuation allowance for the year ended May 31, 2015 changed for an increase in the current year deductible losses of $291,000 and decreased by $83,000 for prior year changes to the net operating losses based on the tax returns filed and then reduced by another $299,000 due to accrued compensation being satisfied for equity with a nominal value. The Company currently provides a valuation allowance against deferred taxes when it is more likely than not that some portion, or all of its deferred tax assets will not be realized. The valuation allowance could be reduced or eliminated based on future earnings and future estimates of taxable income.
A reconciliation of the statutory federal income tax benefit to actual tax benefit for the years ended May 31, 2015 and 2014 is as follows:
As of May 31, 2015, the Company has federal net operating loss carryforwards of approximately $17,200,000 subject to expiration between fiscal years 2027 and 2035. The Company may have had a greater than 50% change in ownership of certain stock holdings by shareholders of the Company pursuant to Section 382 of the Internal Revenue Code. The net operating losses may be limited as to its utilization on an annual basis. Currently, no such evaluation has been performed.
The Company has not been audited by the Internal Revenue Service (“IRS”) or any states in connection with income taxes. The periods from fiscal 2012 through 2015 remain open to examination by the IRS and state jurisdictions. The Company believes it is not subject to any tax audit risk beyond those periods. The Company’s policy is to recognize interest and penalties accrued on any unrecognized tax benefits as a component of interest expense. The Company does not have any accrued interest or penalties associated with any unrecognized tax benefits, nor was any interest expense recognized during the years ended May 31, 2015 and 2014.
8. STOCKHOLDERS’ DEFICIENCY
Increase in authorized shares
A majority of the Company’s stockholders authorized, at the recommendation of the Company’s Board of Directors, an increase the number of shares of common stock from 100,000,000 to 600,000,000. The increase became effective on March 17, 2014.
Reverse Stock Split
Effective March 18, 2015, the Company implemented a reverse stock split of its outstanding common stock at a ratio of 1-for-30 shares. In connection with the reverse stock split, the Company’s Certificate of Incorporation was amended such that the Company’s issued and outstanding common stock was proportionally reduced. The number of authorized shares and the par value of the Company’s common stock and preferred stock were not affected by the reverse stock split. Stockholders will not receive fractional shares but instead will receive cash in an amount equal to the fraction of a share that stockholder would have been entitled to receive multiplied by the sale price of the common stock as last reported on February 12, 2015, the last business day prior to the first public disclosure/announcement of the reverse stock split.
Private Placement Offering (“PPO”)
On March 15, 2015, the Company commenced a PPO for accredited investors to issue up to 2,500,000 shares of common stock and warrants to purchase 2,500,000 shares of common stock at $2.00 per share (each share and warrant constitutes a “Unit”) for total gross proceeds of $1,500,000. The warrants are immediately exercisable and have a term of three years. The Units are being offered by the Company on a “best efforts” “any-or-none” basis in Units of 166,666 shares although the Company may accept fractional Units. The PPO remains open through September 15, 2015. See Notes 8m, 8p and 9B for the shares and warrants subscribed for through the date of this report.
Issuances of Common Stock
FY 2014 (Year Ended May 31, 2014):
a. The Company raised $400,000 of debt with conversion features, converting such debt into equity at the option of the holders at an exercise price of $1.20 a share. The beneficial conversion rights have been valued at $107,500 and were amortized over the life of the related debt.
b. As described above, the Company signed settlement agreements with two bridge note holders and agreed to issue 122,768 shares of its common stock for $73,429 of bridge notes and accrued interest. Such shares would be exempt from registration. In addition, the Company agreed to issue a warrant to purchase 47,833 shares of common stock at a price of $1.20 per share to one note holder for $19,047 of bridge notes and accrued interest. The Company issued the shares on February 3, 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
c. As described above, the Company agreed to issue 116,667 shares of its common stock for $125,000 of debt subject to equity being issued. Such shares were exempt from registration. The Company issued the shares on February 3, 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
d. As described above, the Company signed settlement agreements with two vendors and agreed to issue 222,747 shares of its common stock for $338,806 of accounts payable and $121,736 of a promissory note and accrued interest. Such shares were exempt from registration. The Company issued the shares on February 3, 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
e. The Company agreed to issue 103,333 shares of its common stock for $217,000 to two consultants and warrants to purchase 100,000 shares of common stock to one of the consultants valued at $2,834. The values of the issuances were expensed as there were no material disincentive terms in these agreements with the two consultants. The Company issued the shares on February 3, 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
f. In March 2014, the Company raised $400,000 through the sale of 333,333 shares to accredited investors.
FY 2015 (Year Ended May 31, 2015):
g. On July 16, 2014, the Company issued 666,667 shares of common stock to a consultant under the terms of a consulting agreement. The shares were valued at $1.50 per share which was the price of the common stock on the date of the consummation of an agreement with a customer. See Note 11.
h. As described above, the Company signed a Settlement Agreement and Release with an unsecured creditor and agreed to issue 792,550 shares of common stock for $550,000 of accounts payable and $310,977 of a promissory note and accrued interest. The Company issued such shares under this Settlement Agreement in September 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
i. As described above, the Company entered into a Separation Agreement with Typaldos and agreed to issue 469,132 shares of common stock as part of the Agreement. The Company issued such shares under this Separation Agreement in September 2014. Prior to the issuance date, such shares were classified as common stock to be issued.
j. As described above, the Company entered into final supplemental agreements with bridge note holder to settle all outstanding claims. In September 2014, the Company agreed to issue 648,381 shares of common stock to settle claims totaling $466,000. Prior to the issuance date, such shares were classified as common stock to be issued. On April 1, 2015, the Company issued 256,486 shares of common stock to settle claims totaling $207,754.
k. As described above, the Company settled all outstanding claims with previous holders of unsecured debt. In September 2014, the Company issued 418,669 shares of common stock to settle claims totaling $502,408.
l. On February 19, 2015, the Company issued 50,000 shares of common stock to a consultant under the terms of an investor relations agreement. The shares were valued at $1.20 per share which was the price of the common stock on the date the agreement was signed.
m.
For the period March 15, 2015 through May 31, 2015, 833,330 shares of common stock have been subscribed for under the PPO and the Company received proceeds of $500,000. The shares were issued on April 7, 2015.
n. As described above, on April 1, 2015, the Company issued 4,387,879 shares of common stock for the conversion of notes payable of $1,200,000 and accrued interest of $116,364.
FY 2016 (Year Ended May 31, 2016):
o. On June 25, 2015, the Company issued 108,333 shares of common stock to its chairman/chief executive officer and 35,000 shares of common stock to an officer/former director for services rendered to the Company’s board of directors in fiscal 2015. The shares were valued at $1.75 per share. The value of the shares totaling $250,833 was charged as stock compensation in fiscal 2015.
p.
For the period June 1, 2015 through August 27, 2015, 753,334 shares of common stock have been subscribed for under the PPO and the Company received proceeds of $452,000.
9. STOCK-BASED COMPENSATION
The Company accounted for its stock based compensation in accordance with the fair value recognition provisions of ASC 718, “Compensation - Stock Compensation” (“ASC 718”).
A. Options
No options were granted in the year ended May 31, 2015. On April 8, 2014, the Company issued options to its chairman/chief executive officer and two of its key employees to purchase 1,181,250 shares of the Company’s common stock at an exercise price of $1.20 per share, the closing price of the Company common stock as quoted on the OTCQB. The options vested immediately and are exercisable for ten years. Stock based compensation related to these options amounted to $968,092 for the year ended May 31, 2014.
The options issued were valued using the Black-Scholes option pricing model under the following assumptions: stock price - $1.20; strike price - $1.20; expected volatility - 93.24%; risk-free interest rate - 1.5%; dividend rate - 0%; and expected term - 2 - 5 years.
The expected life is the number of years that the Company estimates, based upon history, that options will be outstanding prior to exercise or forfeiture. Expected life is determined using the “simplified method” permitted by Staff Accounting Bulletin No. 107. The Company did not use the volatility rate of its common stock price. Instead, the volatility rate was based on a blended rate of the Company’s common stock price as well as the stock prices of companies providing similar services.
Compensation based stock option activity for qualified and unqualified stock options are summarized as follows:
The following table summarizes information about options outstanding and exercisable at May 31, 2015:
The compensation expense attributed to the issuance of the outstanding options was recognized as they vest. The outstanding stock options are exercisable for ten years from the grant date.
The employee stock option plan stock options are exercisable for up to ten years from the grant date and vest over various terms from the grant date to three years.
The aggregate intrinsic value totaled $556,875 and was based on the Company’s closing stock price of $1.75 as of May 31, 2015, which would have been received by the option holders had all option holders exercised their options as of that date. All of the options are in-the-money as of May 31, 2015.
The weighted average fair value of options granted during the years ended May 31, 2015 and 2014 was $0 and $0.81 per share, respectively. The total fair value of shares vested during the years ended May 31, 2015 and 2014 was $0 and $968,092, respectively.
As of May 31, 2015, there was no future compensation cost related to nonvested stock options.
On June 25, 2015, the Company issued options to its chairman/chief executive officer and a former director for services rendered to the Company’s board of directors in fiscal 2015 to purchase a total of 1,300,000 shares of common stock as follows:
1. Chairman/chief executive officer - options to purchase 1,000,000 shares of common stock at $0.60 per share.
2. Former director - options to purchase 300,000 shares of common stock at $0.60 per share.
The options vested immediately and are exercisable for three years. The options issued were valued using the Black-Scholes option pricing model under the assumptions below. The value of the options totaling $1,622,778 was charged as stock compensation in fiscal 2015.
The assumptions are as follows - stock price - $1.75; strike price - $0.60; expected volatility - 91.35%; risk-free interest rate - 0.73%; dividend rate - 0%; and expected term - 1.5 years.
B. Warrants
The issuances of warrants are summarized as follows:
The following table summarizes information about warrants outstanding and exercisable at May 31, 2015:
Issuances of warrants were as follows in the years ended May 31, 2015 and 2014:
1. Warrants to purchase 622,947 shares of common stock were issued in exchange for certain past due indebtedness outstanding. Such warrants were determined to have been issued at fair value since such settlements were negotiated by the Company with each debt holder.
2. Warrants to purchase 80,666 shares of common stock were issued to a consultant for services rendered under a consulting contract. The warrants issued were valued using the Black-Scholes option pricing model under the following assumptions: stock price - $0.46 - $1.87; strike price - $1.20; expected volatility - 100.00%; risk-free interest rate - 1.5%; dividend rate - 0%; and expected term - 3 years. See Note 11.
3. As discussed above, warrants to purchase 833,330 shares of common stock were issued under the PPO.
4. As discussed above, the Company agreed to issue warrants to purchase 100,000 shares of common stock to a consultant at exercise prices ranging from $3.00 to $6.00 per share. The warrants are exercisable for three years. Stock based compensation related to these warrants amounted to $95,410 for the year ended May 31, 2014.
5. On March 4, 2014, under the terms of a consulting agreement, the Company agreed to issue a warrant to purchase 7,333 shares of common stock to a consultant at exercise price of $1.20 per share. The warrant is exercisable for three years. Stock based compensation related to the warrant amounted to $8,858 for the year ended May 31, 2014.
The warrants issued for compensation in the year ended May 31, 2014 were valued using the Black-Scholes option pricing model under the following assumptions: stock price - $1.80 - $2.10; strike price - $1.20 - $6.00; expected volatility - 93.24% - 96.33%; risk-free interest rate - 1.5%; dividend rate - 0%; and term - 3 years. The Company did not use the volatility rate of its common stock price. Instead, the volatility rate was based on a blended rate of the Company’s common stock price as well as the stock prices of companies providing similar services.
As discussed above, warrants to purchase 753,334 shares of common stock were issued under the PPO for the period June 1, 2015 through August 27, 2015.
The expense attributed to the issuances of the warrants was recognized as they vested/earned. These warrants are exercisable for three years from the grant date.
10. LICENSE AGREEMENTS
The Company earned all of its revenue from one customer under the following agreements.
Master Agreement - License of (“PEMS-SF”™)
On July 10, 2014, the Company entered into a Master Agreement to license our Process and Event Management System (“PEMS-SF”™) with Tatung Corporation (“Tatung”).
The basic fee generation structure of the Agreement allows for (1) a one-time licensing fee for each PEMS-SF-enabled stations or subsystems installed, (2) separate fees of up to 10% of the software fees for software updates, maintenance and technical support, (3) on-going service fees based on units of products manufactured utilizing PEMS-SF; and (4) an annual service fee for cloud-based services and data storage.
The Master Agreement has a year-to-year term but can be terminated by either party upon sixty (60) days’ advance written notice. Upon termination or expiration of this agreement, we are not required to provide any continuing or ongoing processing of data or other services that, pursuant to a sub-agreement, are discontinued upon termination, however, the customer shall retain any perpetual rights granted in a sub-agreement or schedule. The term of any sub-agreements is concomitant and co-terminus with the Master Agreement term.
Revenue recognized under the Master Agreement amounted to $284,788 and $0 for the years ended May 31, 2015 and 2014, respectively.
Agreement - License of Meter Collar and Bridge Programmable Logic Controllers
In October 2014, the Company entered into a year-to-year term agreement with Tatung to license its meter collar and bridge programmable logic controllers. The license is paid on a per copy (ordered) fee, and is on a perpetual, worldwide, non-exclusive, transferable basis.
Revenue recognized under the agreement amounted to $115,700 and $0 for the years ended May 31, 2015 and 2014, respectively.
11. COMMITMENTS
Leases
The Company sublet office space on a month-to-month basis from a company affiliated with its chief executive officer at a rate of $1,668 per month through September 2014.
Effective October 1, 2014 as amended on January 15, 2015, the Company entered a lease for its office space at a total monthly rental of $1,874. The lease expires on January 15, 2016 but can be renewed for two additional one-year terms.
Rent expense for the years ended May 31, 2015 and 2014 was $17,488 and $20,016, respectively.
Our AES subsidiary leases offices in Jericho, New York. The facility is approximately 1,850 square feet, occupied pursuant to a lease that commenced on August 1, 2015 and expires September 30. 2018. The average annual rent over the term of the lease is approximately $57,300. This amount does not include taxes for the premises.
Future minimum rental commitments of non-cancelable operating leases (including the Jericho lease) are as follows:
Consulting Agreements
On July 1, 2013, the Company entered into a consulting agreement whereby the consultant would be paid in shares of the Company’s common stock in lieu of cash after achieving certain milestones. 666,667 shares were issued on July 16, 2014 upon the consummation of an agreement with a customer, another 1 million shares each will be issued upon gross revenue receipts of $500,000, $2,000,000 and $4,000,000, respectively.
On November 20, 2013, the Company entered into a one-year consulting agreement whereby the consultant received 100,000 shares of common stock and warrants to purchase 100,000 shares of common stock exercisable at prices ranging from $3.00 to $6.00 per share. In addition, the consultant is entitled to a 7% finder’s fee on the gross consideration paid for an acquisition identified by the consultant. This agreement has expired and we have no finder’s fee commitment.
On March 4, 2014, the Company entered into a one-year consulting agreement which includes cash payments of $3,500 per month and the issuance of warrants to purchase 7,333 shares of common stock per month. The warrants carry a three-year term from the issuance date and an exercise price of $1.20.
On February 19, 2015, the Company entered into a one-year consulting agreement whereby the consultant received a payment of $5,000 and 50,000 shares of common stock valued at $1.20 per share. In addition, the consultant is entitled to payments of $5,000 per month for the duration of the agreement if and when the Company receives $500,000 or more in debt or equity financing.
On May 12, 2015, the Company entered into a three month consulting agreement for the raising of capital whereby the consultant received a payment of approximately $3,000. In addition, the consultant is entitled to a success fee of 5% of all monies raised as a direct result of introductions (as defined) made by the consultant.
12. CONCENTRATIONS OF CREDIT RISK
Cash
The Company maintains principally all cash balances in two financial institutions which, at times, may exceed the amount insured by the Federal Deposit Insurance Corporation. The exposure to the Company is solely dependent upon daily bank balances and the respective strength of the financial institutions. The Company has not incurred any losses on these accounts.
Net Sales
Two customers accounted for 92% of the net sales for the year ended May 31, 2015 as set forth in the table below.
Accounts Receivable
Three customers accounted for 96% of accounts receivable as of May 31, 2015 as set forth in the table below.
13. RELATED PARTY TRANSACTIONS
In fiscal 2015, the Company performed consulting services for an entity that is controlled by the former director. Consulting services amounted to $44,800 for the year ended May 31, 2015.
14. BUSINESS SEGMENT INFORMATION
As of December 1, 2014, the Company had two operating segments, Arkados and AES.
The Company’s reportable segments are distinguished by types of service, customers and methods used to provide their services. The operating results of these business segments are regularly reviewed by the Company’s chief operating decision maker.
The accounting policies of each of the segments are the same as those described in the Summary of Significant Accounting Policies. The Company evaluates performance based primarily on income (loss) from operations.
Operating results for the business segments of the Company were as follows:
15. SUBSEQUENT EVENTS
Management has evaluated subsequent events through the date of this filing. As discussed in more detail in Notes 8 and 9 above, the following transactions occurred after May 31, 2015:
a. On June 25, 2015, the Company issued 108,333 shares of common stock to its chairman/chief executive officer and 35,000 shares of common stock to an employee/director.
b. For the period June 1, 2015 through August 27, 2015, 753,334 shares of common stock have been subscribed for under the PPO and the Company received proceeds of $452,000.
c. Warrants to purchase 753,334 shares of common stock were issued under the PPO for the period June 1, 2015 through August 27, 2015.
d. On June 25, 2015, the Company issued options to its chairman/chief executive officer and an employee/director to purchase a total of 1,300,000 shares of common stock.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES.
We strive to maintain a set of disclosure controls and procedures designed to ensure that information required to be disclosed by us in the reports filed under the Securities Exchange Act, is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms. Disclosure controls are also designed with the objective of ensuring that this information is accumulated and communicated to our management, including our chief executive officer, as appropriate, to allow timely decisions regarding required disclosure. As a result of this evaluation, we concluded that our disclosure controls and procedures were not effective for the period ended May 31, 2015.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Section 15d-15(f) of the Exchange Act) for our Company. Our sole officer and director, who is chief executive officer and is also acting in the capacity of principal accounting officer, conducted an evaluation of the design and operation of our internal control over financial reporting as of the end of the period covered by this report, based on the criteria set forth in the Internal Control- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. As a result of this evaluation, we concluded that our financial reporting controls and procedures were not effective for the period ended May 31, 2015. Due to its small size and limited financial resources, the Company has only one employee involved in accounting and financial reporting. As a result, there is no segregation of duties within the accounting function, leaving all aspects of financial control and physical control of cash in the hands of the same employee. In addition, our deficiencies also include a lack of timely financial statement preparation and account reconciliations, as well as, and as a result of limited financial resources, the ability to retain personnel with sufficient technical expertise regarding accounting for certain equity-based transactions. The CEO is currently working to retain a full-time Chief Financial Officer and to put it in place compensating levels of controls to provide for greater segregation of duties. There is no CFO at this time, however, and the CEO is also acting in the capacity of Principal Accounting Officer.
This annual report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm pursuant to temporary rules of the SEC that permit us to provide only management’s report in this annual report.
There has been no change in our internal control over financial reporting identified in connection with the evaluation that occurred during the last fiscal quarter (our fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION.
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS AND CORPORATE GOVERNANCE; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.
For the period ended May 31, 2015, the directors, officers and key employees of the Company were as follows:
Name Age Position
Terrence DeFranco Chairman/Director, President/Chief Executive Officer and Chief Accounting Officer
Mark Gelnaw Director
* Mr. Gelnaw resigned from the board of directors on July 6, 2015. On such date, Mr. Gelnaw was appointed Chief Revenue Officer of AES.
Terrance DeFranco
Mr. DeFranco is also the Managing Member of OneSource Advisors, a corporate consulting firm focused on providing strategic advisory services to boards of directors of public companies and acting Chief Executive Officer and founder of Edentify, Inc., an identity management software company. Previously, Mr. DeFranco was Chairman and CEO of Titan International Partners, a merchant banking and research firm focused on providing corporate and strategic advisory services and equity and debt financing to small-cap and middle market companies.
His background is primarily in the area of corporate finance and capital raising, previously serving as head of investment banking for Baird, Patrick & Co., Inc., a 50-year old NYSE-member firm and head of investment banking and founding partner of Burlington Securities Corp., a New York based investment banking and institutional equity trading firm.
Mr. DeFranco began his career on Wall Street in 1991 with PaineWebber, Inc., now UBS PaineWebber. Mr. DeFranco has been an active principal investor, senior manager and advisor to many early-stage companies and has extensive experience in dealing with issues related to the management and operations of small public companies. Mr. DeFranco is a graduate of the University of North Carolina at Chapel Hill with a BA in Economics.
The Company does not currently retain the services of a chief accounting officer and Mr. DeFranco also serves in that role. We continue our search for a full time Chief Financial Officer, but there can be no assurance that the Company will be able to identify and hire a qualified candidate in the near future.
Mark Gelnaw
Mr. Gelnaw has over 30 years of experience in the financial services industry having held senior positions at Deutsche Bank, Lehman Brothers, Salomon Brothers and Arthur Andersen & Co. Most recently he served as Global Head of Business Development and Head of Strategic Funds for Deutsche Bank. In addition to serving as Chief Operating Officer for Deutsche Bank’s Asset Management and Deutsche Bank’s Equity divisions where he was involved in all aspects of the business including structuring, marketing, investment management, due diligence as well as serving as a liaison with all the service functions that interface with the business processes. During his tenure as Chief Operating Officer of the Equity Division the business grew in less than three years from a loss 40 million euros to a net profit of over 2.5 billion euros. He also was responsible for the acquisition of the NatWest Derivative businesses and played a lead role in the acquisition of Bankers Trust. Mr. Gelnaw served on the firm’s Divisional Executive Committees and was a member of the firm’s top 40 professional charged with establishing the business mission and strategy.
In addition to operating in the capacity of a Chief Operating Officer for numerous Deutsche Bank businesses, he held specific business responsibilities. Mr. Gelnaw was the Global Head of Equity Finance and the Global Head of Proprietary Trading for the Equity Division. The proprietary trading grew under his leadership both in terms of revenues ($220 to over $500 million) in global reach by exporting successful US strategies to the international arena while the Finance function grew from just $15 million in revenues to over $245 million in less than two years.
Mr. Gelnaw began his venture career while employed at Deutsche Bank in 1997. He was the fund manager for the Angel Fund, a focused fund which captured emerging technology ventures in cooperation with Stanford University. To date the Fund has returned over 22 times the original investment with one of the highlight investments being Pay Pal. He later combined this fund together with other Deutsche Bank alternative funds to form the “Strategic Funds” which were marketed to investors through the bank’s Private Client Group and Asset Management divisions. Mr. Gelnaw has continued his private equity passion by forming and developing several emerging businesses. Currently, he actively participates in the development of over 150 unique and diverse industry investments.
He is a 1979 graduate of Georgetown University where he earned a BSBA in Accounting and currently serves on the board of various companies and charities.
Board Meetings
During the fiscal year ended May 31, 2015, our Board takes action from time to time by unanimous consent.
Board Committees
During the period covered by this report, our Board did not have a standing Audit or Compensation Committee. We hope to appoint new directors in the near future, however, and would re-establish both an Audit Committee and Compensation Committee promptly thereafter. The charters of the Audit and Compensation Committees were filed as exhibits to our report on Form 10-K for the period ended May 31, 2010.
Board Nominations and Appointments
In considering whether to nominate any particular candidate for election to the Board, the Board will use various criteria to evaluate each candidate, including an evaluation of each candidate’s integrity, business acumen, knowledge of our business and industry, experience, diligence, conflicts of interest and the ability to act in the interests of our Stockholders. The Board plans to evaluate biographical information and interview selected candidates. The Board also plans to consider whether a potential nominee would satisfy the NASDAQ listing standards for “independence” and the SEC’s definition of “audit committee financial expert.” The Board does not plan to assign specific weights to particular criteria and no particular criterion will be a prerequisite for each prospective nominee.
We do not have a formal policy with regard to the consideration of director candidates recommended by our Stockholders, however, Stockholder recommendations relating to director nominees may be submitted in accordance with the procedures set forth below under the heading “Communicating with the Board of Directors”.
Communicating with the Board of Directors
Stockholders who wish to send communications to the Board may do so by writing to Mr. Terrence DeFranco, CEO Arkados Group, Inc., 211 Warren Street, Suite 320, Newark, New Jersey 07103. The mailing envelope must contain a clear notation indicating that the enclosed letter is a “Stockholder-Board Communication.” All such letters must identify the author as a Stockholder and must include the Stockholder’s full name, address and a valid telephone number. The name of any specific intended Board recipient should be noted in the communication. We will forward any such correspondence to the intended recipients; however, prior to forwarding any such correspondence, we will review such correspondence, and in our discretion, may not forward communications that relate to ordinary business affairs, communications that are primarily commercial in nature, personal grievances or communications that relate to an improper or irrelevant topic or are otherwise inappropriate for the Board’s consideration.
Code of Ethics
As part of our system of corporate governance, our Board of Directors has adopted a Code of Business Conduct and Ethics for directors and executive officers of the Company. This Code is intended to focus the Board and each director and executive officer on areas of ethical risk, provide guidance to directors and executive officer to help them recognize and deal with ethical issues, provide mechanisms to report unethical conduct, and help foster a culture of honesty and accountability. Each director and executive officer must comply with the letter and spirit of this Code. We intend to disclose any changes in or waivers from our Code of Business Conduct and Ethics by filing a Form 8-K or by posting such information on our website.
Section 16(a) Beneficial Ownership Reporting Compliance
We have determined that the following persons, who, during the fiscal year ended May 31, 2015, was a “Reporting Person” defined as a director, officer or beneficial owner of more than ten percent of our common stock which is the only class of securities registered under Section 12 of the Securities Exchange Act of 1934 (the “Act”), failed to file on a timely basis, reports required by Section 16 of the Act during the most recent fiscal year:
Tai Jee Pan
Ruben Sklar
Andreas Typaldos
Richmake International Ltd.
We continue to plan to assist, when possible, in filing all such forms timely in the future and to assist in filing any omitted filing. The foregoing is based solely upon a review of Forms 3 and 4 during the most recent fiscal year as furnished to us under Rule 16a-3(d) under the Act, and Forms 5 and amendments thereto furnished to us with respect to its most recent fiscal year, and any representation received by the Company from any reporting person that no Form 5 is required.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
Compensation Discussion and Analysis.
At present, Terrence DeFranco, our Chairman and CEO is an at-will employee of the Company by virtue of an oral agreement entered into by the previous sitting Board of Directors. The agreement requires Mr. DeFranco to serve on a full-time basis and provides for bi-weekly compensation, based on a rate determined by comparison to executives of similarly sized companies in our industry. In addition, Mr. DeFranco is paid a reimbursement of business-related expenses. Determinations with regard to bonus or option grants are made by Mr. DeFranco solely, at this time.
SUMMARY COMPENSATION TABLE
The following table summarizes the total compensation of our Chief Executive Officer in 2015 and 2014. There were no other executive officers who received or would have received compensation in excess of $100,000 for the years ended May 31, 2015 and 2014.
(1) The amounts in the table do not include amounts received for serving on our board of directors.
(2) Reflects the aggregate grant date fair value computed in accordance with FASB ASC 718.
GRANTS OF PLAN-BASED AWARDS
No grants were made for the Fiscal Year ended May 31, 2015 to named executive officers.
OPTION EXERCISES AND STOCK VESTED IN
There were no exercises of options by executives or directors in the year ended May 31, 2015. No additional stock vested under previously issued options.
OUTSTANDING EQUITY AWARDS AT 2015 FISCAL YEAR-END
OPTION AWARDS
The following table sets forth for each named executive officer, information regarding outstanding equity awards as at May 31, 2015. The option awards and per share amounts reflect the Company’s 1-for-30 reverse stock split, which was effective March 18, 2015.
Stock Option Plans
Our current policy is that all full time key employees are considered annually for the possible grant of stock options, depending upon employee performance. The criteria for the awards are experience, uniqueness of contribution to our business and the level of performance shown during the year. Stock options are intended to generate greater loyalty and help make each employee aware of the importance of their business success of the Company.
In April 2014, the Company issued stock options to the following key personnel: options to acquire 675,000 shares of common stock to its Chief Executive Officer, options to acquire 337,500 shares of common stock to its general counsel and options to acquire 168,750 shares of common stock to its product development manager. Each of these employees were given an award based on their contributions to the development of the Company during the previous 12 months and, for certain of them, because they had done so at compensation rates that were below market. These were issued pursuant to and subject to the 2004 Plan.
As of May 31, 2015, there were options to purchase 1,012,500 shares of our Common Stock outstanding under various option plans.
A summary of our existing stock option plan is as follows:
Our 2004 Stock Option and Restricted Stock Plan, (“The 2004 Plan”), which was, in April, 2014, extended for an additional 10 years, is currently administered by our sole director. Our sole director designates the persons to receive options, the number of shares subject to the options and the terms of the options, including the option price and the duration of each option, subject to certain limitations. All stock options grants during 2014 were made from the 2004 Plan. The 2004 Plan also permits the issuance of restricted stock which is subject to vesting and forfeiture at such times, amounts and conditions.
The maximum number of shares of Common Stock available for issuance under the 2004 Plan, as amended, is 3,333,333 shares. The plan is subject to adjustment in the event of stock splits, stock dividends, mergers, consolidations and the like. Common Stock subject to options granted under the 2004 Plan that expire or terminate will again be available for options to be issued under each Plan.
The option price is payable in cash or by check or under cashless exercise provision determined by the Compensation Committee.
In the absence of a contrary provision in option agreements adopted by the Board of Directors, under the 2004 Plan, upon termination of an optionee’s employment or consultancy, all options held by such optionee will terminate, except that any option that was exercisable on the date employment or consultancy terminated may, to the extent then exercisable, be exercised within three months thereafter (or six months thereafter if the termination is the result of permanent and total disability of the holder), and except such three month period may be extended by our Board in its discretion. If an optionee dies while he is an employee or a consultant or during such three-month period, the option may be exercised within six months after death by the decedent’s estate or his legatees or distributees, but only to the extent exercisable at the time of death.
The 2004 Plan provides that outstanding options shall vest and become immediately exercisable in the event consolidation, merger or acquisition of stock, the result of which our stockholders will own less than 50% of the voting power of the reorganized, merged or consolidated company or the sale of substantially all of our assets and the options are not assumed by the surviving company. In such event, the holder will have 15 days to exercise the option and options will terminate on the expiration of such fifteen day period.
Compensation of Directors
The following table sets forth for each director, information regarding their compensation for the year ended May 31, 2015:
(1) The shares were issued on June 25, 2015 for services rendered to the Company’s board of directors in fiscal 2015. The aggregate grant date fair value of the share awards was $1.75 per share.
(2) The shares were issued on June 25, 2015 for services rendered to the Company’s board of directors in fiscal 2015. Reflects the aggregate grant date fair value computed in accordance with FASB ASC 718.
(3) The amounts in the table for Mr. De Franco represent compensation for serving on our board of directors.
(4) No cash compensation was received. Directors are reimbursed for expenses incurred in attending meetings, if applicable.
(5) Mr. Gelnaw resigned from the board of directors on July 6, 2015.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The following table sets forth information known to us regarding the beneficial ownership of our common stock as of August 27, 2015 by (i) each of our directors and executive officers, and (ii) all of our directors and executive officers as a group. Except for the directors and executive officers listed in the table below, no other individual or entity owns more than five (5%) of our outstanding shares of common stock. Except as otherwise indicated, we believe, based on information provided by each of the individuals named in the table below, that such individuals have sole investment and voting power with respect to such shares, subject to community property laws, where applicable. As of August 27, 2015, we had outstanding 11,996,500 shares of common stock. Except as stated in the table, the address of the holder is c/o our company, 211 Warren Street, Suite 320, Newark, NJ 07103.
(1) Beneficial ownership is determined in accordance with the rules of the Commission generally includes voting or investment power with respect to securities. Under the rules of the Commission, a person (or group of persons) is deemed to be a “beneficial owner” of a security if he or she, directly or indirectly, has or shares a power to vote or to direct the voting of such security. Accordingly, more than one person may be deemed to be a beneficial owner of the same security. In accordance with Commission rules, shares of Common Stock that may be acquired upon exercise of stock options or warrants which are currently exercisable or which become exercisable within 60 days of the date of the table are deemed beneficially owned by the optionees. Subject to community property laws, where applicable, we believe the persons or entities named in the table above have sole voting and investment power with respect to all shares of the Common Stock indicated as beneficially owned by them.
(2) In determining percentage of outstanding, we included shares issued and outstanding, shares obligated to be issued and the securities identified (if consisting of derivative securities) as if issued.
(3) Includes 108,333 shares of common stock held in his name and options to purchase 1,675,000 shares of common stock.
(4) Includes 2,660,846 shares of common stock held in his name, 666,667 shares of common stock owned by MAT Research LLC of which Mr. Pan is managing member and warrants to purchase 333,332 shares of common stock. The beneficial ownership reported here results from warrants with an exercise price that exceeds the current market price, but are otherwise currently exercisable.
(5) Includes 2,477,545 shares of common stock held in the company’s name and warrants to purchase 499,998 shares of common stock. The beneficial ownership reported here results from warrants with an exercise price that exceeds the current market price, but are otherwise currently exercisable.
(6) Includes784,964 shares owned by Andreas Typaldos individually, 164,672 shares held in the name of the Andreas Typaldos Family Limited Partnership, of which Andreas Typaldos is General Partner and 88,376 shares owned by family members of Mr. Typaldos. Beneficial ownership of shares held by the entity and by his family members is disclaimed by Mr. Typaldos.
(7) Includes warrants to purchase 856,145 shares of common stock.
(8) Includes 792,550 shares owned by Burton LaSalle Capital Corp, of which Mr. Sklar is managing member and 55,625 owned by Mr. Sklar individually. Beneficial ownership of shares held by the entity is disclaimed by Mr. Sklar.
(9) Includes 416,667 shares of common stock held in his name and warrants to purchase 416,667 shares of common stock. The beneficial ownership reported here results from warrants with an exercise price that exceeds the current market price, but are otherwise currently exercisable.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
Consulting Fees
In fiscal 2015, the Company performed consulting services for an entity that is controlled by Mark Gelnaw. Consulting services amounted to $44,800 for the year ended May 31, 2015.
Director Independence
The Board applies the definition of independent director as set forth in NASDAQ Stock Market Rule 5605 (a)(2), as well as Rule 10A-3 under the Securities Exchange Act of 1934, as amended.
In accordance with this guidance, the Board did not consider either director to be independent.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Audit Fees
The aggregate fees billed and unbilled for the fiscal years ended May 31, 2015 and 2014 for professional services rendered by our principal accountants for the audits of our annual financial statements, and the review of our financial statements included in our quarterly reports on Form 10-Q were approximately $31,000 and $31,000, respectively.
Audit-Related Fees
The aggregate fees billed for the fiscal years ended May 31, 2015 and 2014 for assurance and related services rendered by our principal accountants related to the performance of the audit or review of our financial statements, specifically accounting research, were $0 and $0, respectively.
Tax and Other Fees
There aggregate fees billed for the fiscal years ended May 31, 2015 and 2014 for tax related or other services rendered by our principal accountants in connection with the preparation of our federal and state tax returns were $3,500 and $3,500, respectively.
Approval of Non-audit Services and Fees
We do not have an audit committee. Our sole director/CEO pre-approves all services, including both audit and non-audit services, provided by our independent accountants. For audit services, each year the independent auditor provides our sole director with an engagement letter outlining the scope of the audit services proposed to be performed during the year, which must be formally accepted by the sold director before the audit commences.
PART IV
ITEM 15.
ITEM 15. EXHIBITS.
EXHIBIT INDEX
3i.7
Certificate of Amendment to Certificate of Incorporation
10-QSB
0-27587
3.2
2/17/04
3i.7a
Certificate of Amendment to Certificate of Incorporation
10-K
0-27587
3i.7a
8/27/14
3i.8
Certificate of Ownership and Merger dated August 30, 2006.
8-K
0-27587
3.1
9/1/06
3ii.1
By-Laws of the Registrant.
DEF14C
0-27587
3.3
2/24/15
4.1
Specimen of Common Stock Certificate.
10-K
0-27587
4.1
10/10/06
4.16
Form of Option exercisable at $0.04 issued to employees in April, 2014
10-K
0-27587
4.16
8/27/14
4.17a
Form of 6% Convertible Note due November 15, 2014
10-K
0-27587
4.17
8/27/14
4.17b
Form of 6% Convertible Note due April 30, 2015
10-K
0-27587
4.17b
8/27/14
4.17c
Form of 6% Convertible Note due October, 2015
10-K
0-27587
4.17c
8/27/14
10.60
License Agreement dated June 24, 2011, by and between STMicroelectronics, Inc., a Delaware corporation and Arkados, Inc., a Delaware corporation.
10-K
0-27587
10.60
08/30/13
10.61
Form of Employee Release Agreement (Asset Sale)
8-K
0-27587
10.3
12/29/10
10.62
Form of Unsecured Creditor Release Agreement (Asset Sale)
8-K
0-27587
10.4
12/29/10
10.63
Form of Secured Creditor Release Agreement (Asset Sale)
8-K
0-27587
10.5
12/29/10
10.64
Form of Creditor’s Rights Agreement (Asset Sale)
8-K
0-27587
10.6
12/29/10
10.65
Software Development Agreement with Tatung Co., a Taiwan corporation dated June 28, 2013.
10-Q
0-27587
10.65
10/10/13
10.66
License Agreement with Exegin Technologies, Limited, dated June 14, 2013.
10-Q
0-27587
10.66
10/10/13
10.67
Consulting Agreement with MAT Research, LLC, an Oregon company, dated July 1, 2013.
10-Q
0-27587
10.67
10/13/13
10.69
Securities Purchase Agreement (Tai Jee Pan) dated October 28, 2013
10-Q
0-27587
10.69
1/15/14
10.70
Securities Purchase Agreement (Richmake) dated October 28, 2013
10-Q
0-27587
10.70
1/15/14
10.71
Advisory Agreement with Constellation Asset Advisors, Inc. dated November 20, 2013.
10-Q
0-27587
10.71
1/15/14
10.72
Investor Services Agreement with Porter LeVay and Rose, Inc. dated September 1, 2013.
10-Q
0-27587
10.72
1/15/14
10.73
Consulting Agreement with Sentegrity LLC
10-Q
0-27587
10.73
4/14/14
10.74
Process and Event Management Master Agreement dated July 10, 2014 between Arkados, Inc. and Tatung Co.
8-K
0-27587
99.1
7/16/14
14.1
Code of Business Conduct and Ethics
10-K
0-27587
14.1
9/17/04
14.2
Code of Ethics for Financial Executives
10-K
0-27587
14.2
9/17/04
Subsidiaries of the Registrant.
X
31.1
Certification of Chief Executive Officer of Periodic Report pursuant to Rule 13a-14a and Rule 15d-14(a).
X
31.2
Certification of Chief Financial Officer of Periodic Report pursuant to Rule 13a-14a and Rule 15d-14(a).
X
32.1
Certification of Chief Executive Officer of pursuant to 18 U.S.C. - Section 1350.
X
32.2
Certification of Chief Financial Officer of pursuant to 18 U.S.C. - Section 1350.
X
The following material from Arkados Group, Inc.’s Form 10-K Report for the fiscal year ended May 31, 2014, formatted in XBRL: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations, (iii) Consolidated Statements of Shareholders’ Deficiency, (iv) Consolidated Statements of Cash Flows, and (v) the Notes to Financial Statements.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant caused this report on to be signed on its behalf by the undersigned, thereunto duly authorized.
In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Date: August 27, 2015 By: /s/ Terrence DeFranco
Terrence DeFranco, Sole Director