Item 1. Business
Background
ActiveCare, Inc. (“we,” “us,” “our,” the “Company” or “ActiveCare”) was formed March 5, 1998 as a wholly owned subsidiary of SecureAlert, Inc. dba Track Group [OTCQB: SCRA], a Utah corporation, formerly known as RemoteMDx, Inc. (“SecureAlert”). We were spun off from SecureAlert in February 2009. Effective July 15, 2009, we changed our name to ActiveCare, Inc., and our state of incorporation to Delaware. Our fiscal year ends on September 30.
During fiscal year 2013, we announced a 10-for-1 reverse common stock split, and all periods presented have been retroactively adjusted to reflect the reverse common stock split.
In this Annual Report on Form 10-K, unless indicated otherwise, references to “dollars” and “$” are to United States dollars.
We own or have rights to trademarks, service marks or trade names that we use in connection with the operation of our business, including, without limitation, “CareCenter,” “4G,” “Green Wire,” “ActiveOne,” “ActiveOne+,” “ActiveHome,” “ActiveCare” and the stylized “ActiveCare” logo. Solely for convenience, some of the trademarks, service marks and trade names referred to in this report are listed without the ©, ® and ™ symbols, but we will assert, to the fullest extent under applicable law, our rights to our copyrights, trademarks, service marks, trade names and domain names. The trademarks, service marks and trade names of other companies appearing in this report are, to our knowledge, the property of their respective owners.
General
In fiscal year 2012, we launched an additional product line focused on technology for assisting the chronically ill. Our focus is on markets addressing chronic conditions and disease states. Remote patient monitoring (“RPM”) is a technology to enable monitoring of patient vital signs and physical functions outside of conventional clinical settings (e.g., in the home, work or travel). Physiological data such as blood sugar levels, blood pressure, pulse rate, and blood oxygen levels are collected by sensors on medical peripheral devices. Examples of these devices include glucometers, blood pressure cuffs, weight scales, and pulse oximeters. The data is stored for future assessment or transmitted to healthcare providers or third parties via wireless telecommunication devices. Disease states targeted by RPM technology providers typically include diabetes, congestive heart failure, sleep apnea, activity monitoring, and diet management. Since the launch of our Chronic Illness Monitoring segment in 2012, its primary focus has been on those patients diagnosed with diabetes. We believe that we can improve the lives of the chronically ill through the use of technology, while reducing the cost of care. Central to these efforts is our “CareCenter.” This service is designed to monitor and track patients’ health conditions and chronic illnesses on a real time basis. As part of these efforts we have staffed this CareCenter with trained specialists to assist the chronically ill in managing their daily lives; 24 hours per day, seven days per week. In order for the CareCenter to service our customers, we have developed and continue to develop products and technologies designed to improve the health of the chronically ill.
There are obvious problems associated with aging and patients diagnosed with chronic conditions. According to a 2004 presentation to the American Telemedicine Association, approximately one in every four Americans suffers from a chronic illness, which typically becomes more severe and prominent with age. The demographics of chronic illnesses include over 29 million people with diabetes (according to the Centers for Disease Control and Prevention’s 2014 National Diabetes Statistics Report) and close to 14 million with coronary heart disease (according to reports published by the American Heart Association), as well as over 10 million with osteoporosis (according to a study by the University of Maryland Medical Center). All of these reports and studies, as well as those cited elsewhere in this report, are on file with the Company.
According to a 2010 analysis from the Centers for Disease Control and Prevention (“CDC”), as many as 1 in 3 U.S. adults could have diabetes by 2050 if current trends continue. Diabetes currently affects approximately 9% of the overall U.S. population or 29 million people. According to a 2012 diabetes fact sheet the annual cost of treating an individual diagnosed with diabetes, and the comorbidities associated with the disease, can range from $12,000 to $16,000 per year. This combination costs the U.S. health system up to $245 billion annually. A major driver of the diabetic related claims is the lack of adherence to regular blood glucose monitoring. It is estimated by the National Center for Biotechnology Information that less than 30% of diabetics monitor their blood glucose levels on a regular basis.
With U.S. healthcare costs increasing annually, we believe that cost containment is a primary issue facing the industry. These escalating costs will only intensify as the baby-boom generation ages. As of 2000, 35 million Americans were 65 years of age or older, and this number is projected to increase to 55 million by the year 2020, according to a study by the U.S. Department of Health and Human Services. By that year, one in six Americans will be over the age of 65 and by the middle of the century, the number of elderly could reach more than 86 million people, more than double the present number. According to an article published in the National Review Online and the sources cited therein, approximately 80% of healthcare costs occur in the last two years of life. This combined with an aging population supports the assertion that the nation is in dire need of viable cost-saving options for health care.
We believe the ability to monitor chronic illness in your own home will mitigate health care costs for the chronically ill and the elderly. Through the technologies we are developing, we believe we can both enhance lives of and provide peace of mind with the knowledge that their vital signs are being monitored. At the same time we believe we can save millions of dollars in the health care sector as we identify problems and issues before they become crises.
We believe that through the technologies we have already developed and are continuing to develop, we can enhance the lives not only of the growing diabetic segment of today’s population, but also the lives of other segments of the population, such as those with other chronic illnesses. The CareCenter is staffed around the clock with advisors that receive calls originating from our clients who utilize our products. We can immediately communicate with them and emergency personnel in times of need and communicate their location and an abbreviated medical history.
Our Product and Service Strategy
During 2014, our product/service strategy fell into two distinctly different categories; chronic illness monitoring and care services (“CareServices”) or personal emergency response systems (“PERS”). In December 2014, we sold substantially all of our customer contracts and equipment leased to customers associated with our CareServices segment. The sale of our CareServices contracts allows us to focus solely on our Chronic Illness Monitoring segment.
Chronic Illness Monitoring
Chronic illness monitoring involves the use of biometric monitoring devices in combination with proprietary data and algorithms to assess the wellbeing of an individual under care. Individual care profiles are created through the aggregation of personal health and medical claims information from multiple data sources. Real-time biometric readings for blood glucose levels, blood pressure, heart rate, weight, tidal volume and other vital readings can be captured over time and added to the existing personal information. This unique data set may now be used for proactive care protocols, care provider alerts to elevated readings, and behavioral intervention prior to crisis events.
Technology to facilitate data-driven chronic illness monitoring consists of three components: (1) biometric monitoring products and supplies, (2) medical and claims data aggregation, and (3) algorithms for the analysis of the data. Biometric monitoring products and supplies are provided by numerous medical hardware providers and deliver a wide range of features and functionality. ActiveCare is agnostic to any specific device requirement, and has as a core competency the ability to integrate and capture data from any 510(k) or HL7 compliant monitoring device (see “Regulatory Matters” on page 7 of this report). Strategic relationships have been created with technology and market leaders, and evaluation of new and emerging technology partners is ongoing. Medical and claims data is aggregated from multiple source providers using a proprietary application programmatic interface and data storage architecture. This data is analyzed to identify individual care needs of those entering the program. Monitoring alerts, predictive informatics and individual care plans are created and managed using the ActiveCare technology platform. Care for chronic conditions may now be performed in real-time, and outcomes may be measured on both a medical and claims cost basis.
During the fiscal year ended September 30, 2014, we spent approximately $215,000 on research and development for chronic illness monitoring related to ongoing improvements to methods and systems for the capture and analysis of data, as well as scalable architectures to migrate to production applications and deployments that were developed during the fiscal years ended September 30, 2013 and 2012. We will continue to identify claims and medical data sets as well as analytical and informatics technologies that advance our ability to provide unique services. Core competency will continue to evolve in the methods and technologies for data analytics and predictive informatics.
Care Services
We have developed products that incorporate GPS, cellular capability, and fall detection, all of which are connected to our 24-hour CareCenter with the push of a button. The transmitter can be worn on a neck pendant or belt clip, or carried in a purse, and sends a cellular signal to our CareCenter. When the wearer of the device pushes the button, the staff at the CareCenter evaluate the situation and decide whether to call emergency services or a designated friend or family member.
Currently, there are separate products on the market that provide service to the PERS industry as well as products that provide fall detection, geographical location, and clinical health parameters. However, we believe that no product on the market today has successfully integrated all of these technologies in a single effective device. Further, none of the current solutions in the market focus on providing CareServices - assistance with everyday needs - as an alternative to costly assisted living or in-home care services as we do.
CareCenter
The central point of our product offerings is our CareCenter. Our CareCenter is staffed 24x7 with CareCenter specialists who are 911-certified and trained. In addition, we have nurses on duty and on call that are available to assist with medical issues or questions. Our CareCenter specialists and CareCenter provide monitoring related to chronic illness test results, contacting testers who have not tested when scheduled and onboard new users to our services.
In contrast to a typical monitoring center, our CareCenter is equipped to respond to real-time alerts and data to better assist users of our services. In addition, the CareCenter’s software will identify the caller, access the individual’s medical information, and assist with emergency dispatch. We believe the CareCenter is a cornerstone of our business and will support current technology as well as evolve to support the integration of future technologies.
Recent Developments
We have financed operations primarily through the sale of equity securities, long-term debt and short-term debt. Until revenues are sufficient to meet our needs, we will attempt to secure financing through equity or debt securities. There is no assurance that we will be able to obtain financing on satisfactory terms or at all. If we only have nominal funds with which to conduct our business activities, it will negatively impact the results of our operations and our financial condition.
During fiscal year 2014, we (1) completed the sale of Series F preferred stock for net proceeds of $3,580,771, after considering $675,229 of related costs; (2) converted $2,326,801 of debt and accrued interest to common stock; (3) converted $574,592 of debt and accrued interest to Series F preferred stock; and (4) converted $83,473 of debt and accrued interest to Series E preferred stock. These transactions strengthened our balance sheet, provided working capital and allowed us to fulfill larger contracts.
During September 2014, David G. Derrick resigned as our Chief Executive Officer and remains the Executive Chairman of our Board of Directors. Michael Z. Jones, our President, was named our interim Chief Executive Officer. During December 2014, we sold substantially all of our customer contracts and equipment leased to customers associated with our CareServices segment. Additional equipment in stock was sold to the buyer pursuant to a written invoice. The purchase price included a cash payment of $412,280 for the customer contracts and $66,458 for the equipment in stock. The sale of the CareServices segment allows us to focus our resources solely on the Chronic Illness Monitoring segment.
Our Growth Strategy
Our plan is to continue to focus on addressing the diabetic population and to execute our existing business plan serving this chronic illness market during fiscal year 2015. We market our products through insurance companies, disease management companies, third-party administrators (“TPAs”), and self-insured companies. We plan to invest in research and development and patent filings, as we broaden the services we offer. We will continue to look for ways to provide solutions for other chronic illness and disease states markets.
Our strategy is to develop relationships with these various customers. TPAs administer the claims, payments, co-pays, and medical coding for self-insured companies. They effectively act as the medical benefits administrators for their customers, most of which are not large enough to justify a fully operational in-house department. Disease management companies are hired by insurance companies and self-insured companies to actively engage with members and employees with the goal that more interaction will reduce significant health care claims. Our strategy is achieved by providing specific information related to the benefits to be realized by all parties, which, in most cases is substantial to the self-insured companies and the insurance companies. The key to monetary savings is the CareCenter, which operates 24x7 and is integral to chronic illness monitoring. The CareCenter is the real-time recipient of all test results which are delivered using cellular glucometers. This information is gathered, sorted and reported. This information, which the customers have generally never before seen, is then delivered to the customers. The ultimate objective is to increase the percentage of diabetics who are regularly testing, which has been proven to be a major factor in reducing the cost of claims based on statistical history. Once the customers recognize the benefits to be realized from this information for one or more patients, it is a natural progression to add the rest of the customer’s members or clients to the ActiveCare solution.
Our ultimate objective is to become a chronic illness monitor for all of our customer’s members, measuring not only blood sugar for diabetics, but also blood pressure, weight, and blood oxygen levels.
Research and Development Program
During fiscal year 2014, we spent approximately $215,000, compared to $605,000 in fiscal year 2013, on research and development related to chronic illness monitoring. The research and development program focused on ongoing improvements to methods and systems for the capture and analysis of data, as well as scalable architectures to migrate to production applications and deployments during fiscal year 2014 that were developed during the fiscal years 2013 and 2012.
Competition
Over the past decade technology device manufacturers have rushed to provide peripheral devices to capture data related to chronic health conditions rather than provide any assessment or intelligence regarding the data being captured. In most cases the data captured remains static on the peripheral device or data capture system, providing little to no perspective on the current and recent condition of the patient. In cases in which the data are utilized, the application of that data is typically limited to the “point of care” or physician’s office. The ActiveCare solution is a complex combination of components that provide an overall care system. The analysis of the competitive landscape will focus on six primary market segments representing the primary components of our system, noting the implications for us resulting from the strengths of the leaders in each segment.
Legacy Consumer Oriented Monitoring and Communications Device Providers
Overview - While not a primary threat to our business model, several leading providers of health care technologies have targeted the patient monitoring market and made significant investments in pursuing the segment. The primary business focus of these companies is high-end diagnostics equipment, point of care technologies, and health information technologies. While the investments in telehealth technologies have totaled significant dollars they represent a very small component of these competitors’ overall business in the health care segment. The approach to entering the market has typically been to acquire an existing technology and attempt to distribute that technology through existing distribution channels in complementary offerings. Examples of providers in this segment include:
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Philips - Telestation
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Bosch - HealthStation
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Honeywell - Genesis
Strengths - The strengths of this segment are the competitors’ overall position in the health care market, existing distribution channels and availability of capital to fund and pursue future opportunities.
Weaknesses - The value proposition of the providers in this segment has been focused on providing a consumer-based platform for “telemedicine,” or providing care to a patient not at the same location as the provider of care. Solutions have been an extension of the videophone concept, and in some cases have included connectivity to blood pressure and blood oxygen measuring peripherals. The weaknesses in the execution of this approach include:
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The market / product strategy has been as a tertiary complement to the core business, lacking focus on execution.
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The business model has been hardware based, focusing on the product as a “part” of the primary hardware business.
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Solutions have been limited to facilitating the moment of care, and do not capture or make data available for later assessment.
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Products have been based on legacy technologies, lacking ease of use and rich functionality.
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Revenue models have been based on sources outside of the primary economics of health care; federal and state funded grants, patient payer, and as a bundled component of a sponsoring product line or business.
Summary - We do not directly compete with the offerings in this segment. The possible threat is based on the competitors’ reassessment of strategy in this market and the ability to fund and customize products. If they follow past patterns, we believe that we would be a prime candidate for partner relationship or acquisition by one of these competitors to gain an immediate presence in a more viable business model.
Current Consumer Peripheral Monitoring Device Providers
Overview - Competitors in this segment have specialized in the delivery of low cost diagnostic peripherals for measuring blood pressure, weight, pulse rate, blood sugar and activity. Examples include:
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A and D Medical
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Telcare
Strengths - These competitors have refined the product requirements to meet the needs of the market. Products are easy to use and accurately capture vitals and metrics. In the past five years significant effort has been made to lower the cost of products as they compete more on cost rather than functionality or other benefits.
Weaknesses - These products continue to evolve as commodity offerings, differentiating on price rather than any other feature. Solutions have been targeted on facilitating the moment of care, and lack complementing strategies to make data for later assessment.
Summary - Currently this segment provides us with some key partnerships. They facilitate the means of capturing patient data with an easy to use, low cost offering. While some devices have been innovative, the strategies continue to focus primarily on the manufacture and sale of hardware components.
Next Generation Monitoring Device Providers
Overview - The past five years have seen a proliferation of consumer-oriented devices to monitor individuals’ physical activity, sleep patterns and pulse rate. The strategy of those in this segment has also been focused on integration with smartphones and other consumer devices. Examples include:
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Activity monitoring
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MisFit
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Striiv
o
Lark
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Consumer vital signs monitoring
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iHealth
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Digifit
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Sleep and diet monitoring
o
FitBit
Strengths - The rapid evolution of product and strategy has been fueled by the culture and investors that innovated the technology segment. Companies such as Apple, Google, Frog Design and Stanford Research Institute (SRI) are directly or indirectly funding and leading efforts of innovation. Designs are state-of-the-art and are focused on attracting use by consumers in daily activity. The segment has a strong first adopter appeal.
Weaknesses - To date, the business models of the products in the segment have been an evolution of the products produced by traditional monitoring device companies, with one notable exception; products are not yet qualified for clinical data capture and are relegated to providing consumers with the most basic of physical monitoring data. Providers in this segment have noted intentions to become more robust, capturing clinical data type and securing federal 510(k) medical device certification in future products. It has also been forecasted by technology thought leaders that the segment strategy will fail unless it adds complementing user value and revenue opportunities.
Summary - Competitors in this segment are expected to become strategic partners for our business model as they evolve their ability to capture and transmit clinical data. We expect to expand into strategic market segments complementing the strengths of these technologies, offering data analytics, and personal fitness planning and wellness management services.
Health / Insurance Data Service Providers
Overview - Health data informatics has become a strategic focus of health care providers and payer organizations over the past 30 years. Aggregation, analytics, informatics and predictive modeling have enabled service providers to differentiate and better manage the process of health care. Traditionally providers specialized in offering information or services based on a vertical focus of EHR patient data, geographic and regional health care information, or insurance claims processing data. Examples include:
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CareFX - recently acquired by Harris Healthcare
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Medicity - acquired by Aetna
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Certify Data Systems
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Benefit Informatics
Strengths - Data aggregation and utilization are core competencies of the companies in this segment. Product and service offerings have been successfully marketed to insurance companies and health plan providers.
Weaknesses - Sources of the data driving the product strategy of these competitors is becoming increasingly available, forcing an evolution of the business model in two directions; to become a provider of advanced services (rather than data), or to be acquired by large insurance and care groups to mine that specific groups’ data. While significant federal and state funding has driven the efforts to create regional health information organizations, projects have become graveyards for careers and future funding. The fallout of this effort has had a significant impact on the viability of several major data services providers.
Summary - This segment presents us with direct competition and business opportunities. Forced to rapidly evolve their strategies, competitors are recognizing the value of real-time and “prior to care event” data. Increasing efforts are being made to facilitate data at the point of care and make that data available to the entire care and reimbursement cycle. Having the ability to capture and assess the data upstream of current offerings strategically differentiates our business, giving visibility to health risks in advance of change of condition and cost. Partnering with leaders in this segment should enable us to further gain expertise in this field as well as complement our data repository. Having data of past care from these partners in combination with data of current patient conditions allows for extremely valuable predictive modeling and services.
Dependence on Major Customers and Vendor
During fiscal year 2014, we had two customers that accounted for 67% of total revenue. During fiscal year 2013, we had one customer that accounted for 44% of total revenue. Although we are able to integrate and capture data from multiple devices, during the fiscal years 2014 and 2013 we purchased substantially all of our products and supplies from one vendor. See Note 3 to the consolidated financial statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Intellectual Property
Trademarks. We have registered certain of our trademarks with the United States Patent and Trademark Office, including ActiveCare®, ActiveOne®, and ActiveOne+®. We also use certain trademarks, trade names, and logos that have not been registered. We claim common law rights to these unregistered trademarks, trade names and logos. We also own domain names, including www.activecare.com, for our primary trademarks and we claim ownership of certain unregistered copyrights of our website content. We rely as well on a variety of property rights that we license from third parties as described below.
Patents. We own the exclusive, irrevocable, perpetual, worldwide, transferable, sublicensable license of all rights conferred by the patents, patent applications, and provisional patent applications listed in the table below.
Patent or Application No.
Country
Issue/Filing Date
Title of Patent
11/486,989
United States
Pending/
7/14/2006
Remote Tracking Device and System and Method for Two-Way Voice Communication Between Device and a Monitoring Center
11/486,991
United States
Pending/
7/14/2006
Remote Tracking System and Device with Variable Sampling
11/830,398
United States
Pending/
7/30/2007
Methods for Establishing Emergency Communications Between a Communications Device and a Response Center
12/614,242
United States
Pending/
11/6/2009
Systems and Devices for Emergency Tracking and Health Monitoring
61/827,454
United States
Pending/
5/24/2013
System and Method for Identifying, Tracking and Treating Chronic Illness Using Real-time Biometric Data
We obtained worldwide and exclusive rights to the patents and patent applications listed in the table below under a license agreement dated May 25, 2009.
Trade Secrets. We own certain intellectual property, including trade secrets, which we seek to protect, in part, through confidentiality agreements with employees and other parties, although some employees who are involved in research and development activities have not entered into these agreements. Even where these agreements exist, there can be no assurance that these agreements will not be breached, that we would have adequate remedies for any breach, or that our trade secrets will not otherwise become known to or independently developed by competitors.
Regulatory Matters
The testing, manufacture, distribution, advertising and marketing of medical devices in the United States is subject to extensive regulation by federal, state and local governmental authorities, including the Food & Drug Administration (“FDA”). Certain of our products may be subject to and required to receive regulatory clearances or approvals, as the case may be, before we may market them. Under United States law, a medical device is an article, which, among other things, is intended for use in the diagnosis of disease or other conditions, or in the cure, mitigation, treatment or prevention of disease, in man or other animals (see Food, Drug & Cosmetic Act (the “Act”) § 201(h)).
Devices are subject to varying levels of regulatory control, the most comprehensive of which requires that a clinical evaluation be conducted before a device receives clearance or approval for commercial distribution. The FDA classifies medical devices into one of three classes. Class I devices are relatively simple and can be manufactured and distributed with general controls. Class II devices are somewhat more complex and require greater scrutiny. Class III devices are new and frequently help sustain life. Examples of the varying levels of regulatory control are described in the following paragraphs.
In the United States, a company generally can obtain permission to distribute a new device in two ways - through a Section 510(k) premarket notification application (“510(k) submission”), or through a Section 515 premarket approval (“PMA”) application. The 510(k) submission applies to any device that is substantially equivalent to a “Predicate Device” (a device first marketed prior to May 28, 1976 or a device marketed after that date which was substantially equivalent to a pre-May 28, 1976 device). These devices are either Class I or Class II devices. Under the 510(k) submission process, the FDA will issue an order finding substantial equivalence to a Predicate Device and permitting commercial distribution of that device for its intended use. A 510(k) submission must provide information supporting its claim of substantial equivalence to the Predicate Device. The FDA permits certain low risk medical devices to be marketed without requiring the manufacturer to submit a premarket notification. In other instances, the FDA may not only require that a premarket notification be submitted, but also that such notification be accompanied by clinical data. If clinical data from human experiences are required to support the 510(k) submission, these data must be gathered in compliance with Integral Device Exemption (“IDE”) regulations for clinical trials performed in the United States. The FDA review process for premarket notifications submitted pursuant to section 510(k) should take about 90 days on average, but it can take substantially longer if the FDA has concerns. Furthermore, there is no guarantee that the FDA will “clear” the device for marketing, in which case the device cannot be distributed in the United States. There is no guarantee that the FDA will deem the device subject to the 510(k) process, as opposed to the more time-consuming, resource intensive and problematic process described below.
We do not manufacture our own devices. We have contracted with a third party to manufacture the device for us. Manufacturers of medical devices are required to register with the FDA before they begin to manufacture devices for commercial distribution. As a result, any entity that manufactures products on our behalf will be subject to periodic inspection by the FDA for compliance with the FDA’s Quality System Regulation (“QSR”) requirements and other regulations. These regulations require us and our manufacturers to manufacture products and maintain documents in a prescribed manner with respect to design, manufacturing, testing and control activities. Further, we are required to comply with various FDA and other agency requirements for labeling and promotion. The Medical Device Reporting regulations require that we provide information to the FDA whenever there is evidence to reasonably suggest that a device may have caused or contributed to a death or serious injury or, if a malfunction were to occur, could cause or contribute to a death or serious injury. In addition, the FDA prohibits us from promoting a medical device for unapproved indications.
In the United States, Health Insurance Portability and Accountability Act (“HIPAA”) regulations require national standards for some types of electronic health information transactions and the data elements used in those transactions, security standards to ensure the integrity and confidentiality of health information and standards to protect the privacy of individually identifiable health information. Covered entities under HIPAA, which include health care organizations such as our clients, our employer clinic business model and our claims processing, transmission and submission services, are required to comply with the privacy standards, the transaction regulations and the security regulations. As a business associate of our clients who are covered entities, we are generally required by contract to comply with the HIPAA regulations as they pertain to handling of covered client data. However, the extension of these HIPAA obligations to business associates by law has created additional liability risks related to the privacy and security of individually identifiable health information.
Employees
As of September 30, 2014, we had 45 full-time and four part-time employees in the U.S. None of these employees are represented by a labor union or subject to a collective bargaining agreement. We have never experienced a work stoppage and our management believes that our relations with employees are good.
Additional Available Information
We maintain executive offices and principal facilities at 1365 West Business Park Drive, Orem, Utah, 84058. Our telephone number is (877) 219-6050. We maintain a website at www.activecare.com. The information on our website should not be considered part of this report. We make available, free of charge at our corporate website, copies of our annual reports filed under the Exchange Act with the United States Securities and Exchange Commission (“SEC”) on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements, and all amendments to these reports, as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC pursuant to Section 13(a) or 15(d) of the Exchange Act. We also provide copies of our Forms 8-K, 10-K, 10-Q, proxy and annual report at no charge to investors upon request.
All reports filed with the SEC are available free of charge through the SEC website at www.sec.gov. In addition, the public may read and copy materials we have filed with the SEC at the SEC’s public reference room located at 450 Fifth St., N.W., Washington, D.C. 20549.
Item 1A.
Item 1A. Risk Factors
We have identified the following important factors that could cause actual results to differ materially from those projected in any forward looking statements we may make from time to time. We operate in a continually changing business environment in which new risk factors emerge from time to time. We can neither predict these new risk factors, nor can we assess the impact, if any, of these new risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those projected in any forward-looking statement. If any of these risks, or combination of risks, actually occur, our business, financial condition and results of operations could be seriously and materially harmed, and the trading price of our common stock could decline.
Investors should also be aware that while we do, from time to time, communicate with securities analysts, it is against our policy to disclose to them any material non-public information or other confidential commercial information. Accordingly, stockholders should not assume that we agree with any statement or report issued by any analyst, regardless of the content of the statement or report. Furthermore, we do not confirm financial forecasts or projections issued by others. Thus, to the extent that reports issued by securities analysts contain any projections, forecasts, or opinions, such reports are not the responsibility of ActiveCare.
Because of our history of accumulated deficits, recurring losses and negative cash flows from operating activities, we must improve profitability and may be required to obtain additional funding if we are to continue as a “going concern.”
We incurred negative cash flows from operating activities and recurring net losses in fiscal years 2014 and 2013. We had negative working capital at the end of each of those years. As of September 30, 2014 and 2013, our accumulated deficit was $78,327,447 and $64,817,684, respectively. These factors raise substantial doubt about our ability to continue as a going concern. The financial statements included with this report do not include any adjustments that might result from the outcome of this uncertainty. In order for us to remove substantial doubt about our ability to continue as a going concern, we must achieve profitability, generate positive cash flows from operating activities and obtain necessary debt or equity funding. If we are unable to increase revenues or obtain additional financing, we will be unable to continue the development of our products and services and we may have to cease operations.
Our financial statements have been prepared on the assumption that we will continue as a going concern. Our independent registered public accounting firm has issued its report dated January 13, 2015, which includes an explanatory paragraph stating that our recurring losses, among other things, raise substantial doubt about our ability to continue as a going concern. It has been necessary to rely upon debt and the sale of our equity securities to sustain operations. Our management anticipates that we may require additional capital over the next 12 months to fund ongoing operations. There can be no guarantee that we will be able to obtain such funds, or obtain them on satisfactory terms, and that such funds would be sufficient. If such additional funding is not obtained, we may be required to scale back or discontinue operations.
Our profitability depends upon achieving success in our future operations through implementing our business plan, increasing sales, and expanding our customer base, for which there can be no assurance given.
Profitability depends upon many factors, including the success of our sales program, our ability to identify and obtain the rights to additional products to add to our existing product line, expansion of our customer base, maintenance or reduction of expense levels and the success of our business activities. We anticipate that we will generate operating income in the next 12 months. Our ability to achieve profitable operations will depend on our success in developing and maintaining valuable product and monitoring solutions, sales strategies, and strategic partnerships. There can be no assurance that we will be able to develop and maintain adequate resources to fund these goals. If adequate funds are not available, we may be required to materially curtail or cease operations.
Our products are not based entirely on technology that is proprietary to us, which means that we do not have a technological advantage over our competitors, and that we must rely on the owners of the proprietary technology that is the basis for our products to protect that technology. We have no control over such protection.
Our products utilize technology based in part on patents that have been licensed to us for use within our markets. Our success in adding to our existing product line will depend on our ability to acquire or otherwise license competitive technologies and products and to operate without infringing the proprietary rights of others, both in the United States and internationally. No assurance can be given that any licenses required from third parties will be made available on terms acceptable to us, or at all. If we do not obtain such licenses, we could encounter delays in product introductions while we attempt to adopt alternate sources. We could also find that the manufacture or sale of products requiring such licenses is not possible. Litigation may be necessary to defend against claims of infringement, to protect trade secrets or know-how owned by us, or to determine the scope and validity of the proprietary rights of others. Such litigation could have an adverse and material impact on us and on our operations.
Our products are subject to the risks and uncertainties associated with the protection of intellectual property and related proprietary rights. We believe that our success depends in part on our ability to obtain and enforce patents, maintain trade secrets and operate without infringing on the proprietary rights of others in the United States and in other countries.
We own or have license rights under several patents; we have also applied for several additional patents and those applications are awaiting action by the United States Patent Office. There is no assurance those patents will issue or that when they do issue they will include all of the claims currently included in the applications. Even if they do issue, those new patents and our existing patents must be protected against possible infringement. The enforcement of patent rights can be uncertain and involve complex legal and factual questions. The scope and enforceability of patent claims are not systematically predictable with absolute accuracy. The strength of our own patent rights depends, in part, upon the breadth and scope of protection provided by the patent and the validity of our patents, if any.
We also rely on trade secrets laws to protect portions of our technology for which patent protection has not yet been pursued or is not believed to be appropriate or obtainable.
These laws may protect us against the unlawful or unpermitted disclosure of any information of a confidential and proprietary nature, including but not limited to our know-how, trade secrets, methods of operation, names and information relating to vendors or suppliers and customer names and addresses. We intend to protect this unpatentable and unpatented proprietary technology and processes, in addition to other confidential and proprietary information in part, by entering into confidentiality agreements with employees, collaborative partners, consultants and certain contractors. There can be no assurance that these agreements will not be breached, that we will have adequate remedies for any breach, or that our trade secrets and other confidential and proprietary information will not otherwise become known or be independently discovered or reverse-engineered by competitors.
Recent changes in insurance and health care laws have created uncertainty in the health care industry.
The Patient Protection and Affordable Care Act as amended by the Health Care and Education Reconciliation Act, each enacted in March 2010, generally known as the Health Care Reform Law, significantly expanded health insurance coverage to uninsured Americans and changed the way health care is financed by both governmental and private payers. We expect expansion of access to health insurance to increase the demand for our products and services, but other provisions of the Health Care Reform Law could affect us adversely. Additionally, further federal and state proposals for health care reform are likely. We cannot predict what further reform proposals, if any, will be adopted, when they may be adopted, or what impact they may have on us.
The collection, retention and disclosure of personal information and patient health information is regulated by law and subjects us and our business associates to potential liability for unauthorized disclosure and other use of such information.
State, federal and foreign laws, such as the federal Health Insurance Portability and Accountability Act of 1996 (HIPAA), regulate the confidentiality of sensitive personal information and the circumstances under which such information may be released. These measures may govern the disclosure and use of personal and patient medical record information and may require users of such information to implement specified security measures, and to notify individuals in the event of privacy and security breaches. Evolving laws and regulations in this area could restrict the ability of our customers to obtain, use or disseminate patient information, or could require us to incur significant additional costs to re-design our products in a timely manner to reflect these legal requirements, either of which could have an adverse impact on our results of operations. Other health information standards, such as regulations under HIPAA, establish standards regarding electronic health data transmissions and transaction code set rules for specified electronic transactions, for example, transactions involving claims submissions to third-party payers. These also continue to evolve and are often unclear and difficult to apply. In addition, under the federal Health Information Technology for Economic and Clinical Health Act (HITECH Act), which was passed in 2009, some of our business that was previously only indirectly subject to federal HIPAA privacy and security rules became directly subject to such rules because we may serve as “business associates” to persons or entities that are subject to these rules. On January 17, 2013, the Office for Civil Rights of the Department of Health and Human Services released a final rule implementing the HITECH Act and making certain other changes to HIPAA privacy and security requirements. Compliance with the rule was required by September 23, 2013, and increased the requirements applicable to some of our business. Failure to maintain the confidentiality of sensitive personal information in accordance with the applicable regulatory requirements, or to abide by electronic health data transmission standards, could expose us to breach of contract claims, fines and penalties, costs for remediation and harm to our reputation.
Our industry is fragmented, and we experience intense competition from a variety of sources, many of which are better financed and better managed than we are.
We face, and will continue to face, competition in the Chronic Illness Monitoring market. Many, if not most, of our competitors and potential competitors are much larger and consequently have greater access to capital. Moreover, many of our competitors have far greater name recognition and experience in the Chronic Illness Monitoring industry. There can be no assurance that competition from other companies will not render our products noncompetitive.
We are highly dependent on our executive officers and certain of our sales, technical and operations employees.
We depend heavily on our executive officers and certain sales, technical, and operations employees. The loss of services of any of these individuals could impede the achievement of our objectives. There can be no assurance that we will be able to attract and retain qualified executives, sales, or technical personnel on acceptable terms.
We rely on third parties to manufacture our product line.
We do not own or operate manufacturing facilities for the manufacture of our Chronic Illness Monitoring products. Consequently, we are dependent on these contract manufacturers for the production of our products and will depend on third-party manufacturing resources to manufacture products we may add to our product line in the future. During the fiscal years 2014 and 2013, we purchased substantially all of our products and supplies from one vendor. Although there are other vendors who manufacture similar products and supplies, our systems would need to be modified to accommodate those products and supplies. A change in suppliers could cause a delay in providing products and services to customers and a possible loss of sales. In the event we are unable to obtain or retain third-party manufacturing, we will not be able to continue operations as they relate to the sale of products.
From time to time, we may be subject to expensive claims relating to product liability law; our ability to insure against this risk is limited.
The use of any of our existing or potential products in clinical settings may expose us to liability claims. These claims could be made directly by persons who assert that inaccuracies or deficiencies in their test results were caused by defects in our products. Alternatively, we could be exposed to liability indirectly by being named as a third-party defendant in actions brought against companies or persons who have purchased our products. We have obtained limited product liability insurance coverage and we intend to expand our insurance coverage on an as needed basis as sales revenue increases. However, insurance coverage is becoming increasingly expensive, and no assurance can be given that we will be able to maintain insurance coverage at a reasonable cost or in sufficient amounts to protect us against losses due to liability. There can also be no assurance that we will be able to obtain commercially reasonable product liability insurance for any products added to our product line in the future. A successful product liability claim or series of claims brought against us could have a material adverse effect on our business, financial condition and results of operations.
Ineffective internal controls could impact our business and operating results.
Our internal control over financial reporting may not prevent or detect misstatements because of its inherent limitations, including the possibility of human error, the circumvention or overriding of controls, or fraud. Even effective internal controls can provide only reasonable assurance with respect to the preparation and fair presentation of financial statements. If we fail to maintain the adequacy of our internal controls, including any failure to implement required new or improved controls, or if we experience difficulties in their implementation, our business and operating results may be harmed and we could fail to meet our financial reporting obligations.
Risks Related to Ownership of Our Common Stock
Concentration of ownership among our existing executive officers, directors and principal stockholders may prevent new investors from influencing significant corporate decisions.
Our executive officers, directors and principal stockholders own, in the aggregate, approximately 54% of our outstanding common stock. In addition, certain of our officers and our directors have been granted warrants to purchase common stock and own convertible Series D and Series E preferred stock. The exercise of such warrants and conversion of preferred stock might also result in substantial dilution to our existing stockholders. As a result of the ownership of the shares currently held, their ownership and potential exercise of these options and preferred stock, these stockholders may be able to exercise significant control over matters requiring stockholder approval, including the election of directors, amendment of our certificate of incorporation and approval of significant corporate transactions and will have significant control over our management and policies. The interests of these stockholders may not be consistent with the interests of all other stockholders.
This control or the potential for such control may have the effect of deterring hostile takeovers, delaying or preventing changes in control or changes in management, or limiting the ability of our other stockholders to approve transactions that they may deem to be in our best interests.
Penny stock regulations may impose certain restrictions on marketability of our securities.
The SEC has adopted regulations which generally define a “penny stock” to be any equity security that has a market price (as defined) of less than $5.00 per share or an exercise price of less than $5.00 per share, subject to certain exceptions. As a result, our common stock is subject to rules that impose additional sales practice requirements on broker-dealers who sell such securities to persons other than established customers and accredited investors (generally those with assets in excess of $1,000,000 or annual income exceeding $200,000, or $300,000 together with their spouse). For transactions covered by these rules, the broker-dealer must make a special suitability determination for the purchase of such securities and have received the purchaser’s written consent to the transaction prior to the purchase. Additionally, for any transaction involving a penny stock, unless exempt, the rules require the delivery, prior to the transaction, of a risk disclosure document mandated by the SEC relating to the penny stock market. The broker-dealer must also disclose the commission payable to both the broker-dealer and the registered representative, current quotations for the securities and, if the broker-dealer is the sole market maker, the broker-dealer must disclose this fact and the broker-dealer’s presumed control over the market. Finally, monthly statements must be sent disclosing recent price information for the penny stock held in the account and information on the limited market in penny stocks. Consequently, the “penny stock” rules may restrict the ability of broker-dealers to sell our securities and may affect the ability of investors to sell our securities in the secondary market and the price at which such purchasers can sell any such securities.
Investors should be aware that, according to the SEC, the market for penny stocks has suffered in recent years from patterns of fraud and abuse. Such patterns include:
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Control of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer;
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Manipulation of prices through prearranged matching of purchases and sales and false and misleading press releases;
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“Boiler room” practices involving high pressure sales tactics and unrealistic price projections by inexperienced sales persons;
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Excessive and undisclosed bid-ask differentials and markups by selling broker-dealers; and
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The wholesale dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, along with the inevitable collapse of those prices with consequent investor losses.
Our management is aware of the abuses that have occurred historically in the penny stock market.
Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to resell your shares at or above the price you paid for them.
The market price of our common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:
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Market conditions or trends in our industry or the economy as a whole and, in particular, in the retail sales environment;
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Timing of promotional events;
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Changes in key personnel;
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Entry into new markets;
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Announcements by us or our competitors of new product offerings or significant acquisitions;
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Actions by competitors;
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The level of expenses associated with new product development and marketing;
•
Changes in operating performance and stock market valuations of competitors;
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The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC;
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The financial projections we may provide to the public, any changes in these projections or our failure to meet these projections;
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Changes in financial estimates by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock;
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The development and sustainability of an active trading market for our common stock;
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Future sales of our common stock by our officers, directors and significant stockholders;
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Other events or factors, including those resulting from war, acts of terrorism, natural disasters or responses to these events; and
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Changes in accounting principles.
In addition, the stock markets have recently experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many retail companies. In the past, stockholders in some companies have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business.
Anti-takeover provisions in our charter documents and Delaware law might discourage or delay acquisition attempts.
Our certificate of incorporation and bylaws contain provisions that may make the acquisition of our Company more difficult without the approval of our Board of Directors. These provisions:
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Authorize the issuance of undesignated preferred stock, the terms of which may be established and the shares of which may be issued without stockholder approval, and which may include super voting, special approval, dividend, or other rights or preferences superior to the rights of the holders of common stock; and
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Establish advance notice requirements for nominations for elections to our Board of Directors or for proposing matters that can be acted upon by stockholders at stockholder meetings.
These anti-takeover provisions and other provisions under Delaware law could discourage, delay, or prevent a transaction involving a change in control of our Company, even if doing so would benefit our stockholders. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors of your choosing and to cause us to take other corporate actions you desire.
If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, our stock price and trading volume could decline.
Any future trading market for our common stock will depend in part on the research and reports that securities or industry analysts publish about us or our business. We do not currently have and may never obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of us, the trading price for our common stock would be negatively impacted. If we obtain securities or industry analyst coverage and if one or more of the analysts who covers us downgrades our common stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of us or fails to publish reports on us regularly, demand for our common stock could decrease, which could cause our stock price and trading volume to decline.
We do not expect to pay any cash dividends on our common stock for the foreseeable future.
The continued operation and expansion of our business will require substantial funding. Accordingly, we do not anticipate that we will pay any cash dividends on shares of our common stock for the foreseeable future. Any determination to pay dividends on the common stock in the future will be at the discretion of our Board of Directors and will depend upon results of operations, financial condition, contractual restrictions, including our senior secured credit facility and other indebtedness we may incur, restrictions imposed by applicable law and other factors our Board of Directors deems relevant. No dividends may be paid on the common stock unless and until all accrued and unpaid dividends are paid on the preferred stock. Accordingly, if you purchase or own shares of our common stock, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.
Item 2.
Item 2. Properties
We lease office facilities of approximately 17,350 square feet located at 1365 West Business Park Drive, Orem, Utah, 84058. This lease expires in July 2018 and the monthly rent is approximately $24,500 subject to annual adjustments.
Management believes the facilities described above are adequate to accommodate presently expected growth and needs of our operations.
Item 3.
Item 3. Legal Proceedings
We are not involved directly in any legal proceedings which management believes would have a material effect upon our business or financial condition, nor are any such material legal proceedings anticipated.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
Our common stock has traded on the OTCQB under the symbol “ACAR.” The following table sets forth the range of high and low market prices of our common stock as reported for the periods indicated. The information is available online at http://finance.yahoo.com. During the quarter ended June 30, 2013, we implemented a 10-for-1 reverse common stock split. The data below have been retroactively adjusted to reflect the effects of the reverse stock split.
Holders
As of January 12, 2015, there were approximately 1,900 holders of record of our common stock and 47,264,183 shares of common stock outstanding. We have granted options and warrants for the purchase of approximately 10,992,000 shares of common stock. We have issued and outstanding 70,070 shares of Series E preferred stock, 45,000 shares of Series D preferred stock, and 5,361 shares of Series F preferred stock. There are two holders of Series D preferred stock, 11 holders of Series E preferred stock and eight holders of Series F preferred stock. These shares of preferred stock are convertible into a total of 6,063,830 shares of common stock subject to the terms and conditions of their respective Designation of Rights and Preferences.
Dividends
Since incorporation, we have not declared any cash dividends on our common stock. We do not anticipate declaring cash dividends on our common stock for the foreseeable future. Our Series C and Series D preferred stock carry 8% annual dividend rates. Our Series E preferred stock carries a 3.322% monthly dividend rate. Our Series F preferred stock carries an 8% annual dividend rate until April 30, 2015, 16% from May 1, 2015 until July 31, 2015, 20% from August 1, 2015 until October 31, 2015, and 25% thereafter.
Dilution
The Board of Directors determines when and under what conditions and at what prices to issue stock. In addition, a significant number of shares of common stock are reserved for issuance upon the exercise of stock options and warrants. The issuance of any shares of common stock for any reason will result in dilution of the equity and voting interests of existing stockholders.
Transfer Agent and Registrar
The transfer agent and registrar for our common stock is American Stock Transfer & Trust Company, 59 Maiden Lane, Plaza Level, New York, NY 11219.
Equity Compensation Plans
Under management agreements in fiscal years 2012, 2013 and 2014, we granted our former Chief Executive Officers, former directors, and former and current officers equity compensation in the form of restricted stock and warrants for the purchase of common stock. The following table summarizes certain information concerning equity plan awards outstanding as of September 30, 2014.
Equity Compensation Plan Information
Recent Sales of Unregistered Securities
The following discussion summarizes sales of our common stock and other equity securities without registration of the offer and sale of such securities under the Securities Act of 1933 (the “Securities Act”) in reliance upon exemptions from registration pursuant to rules and regulations promulgated under the Securities Act not previously reported by the Company.
During the three months ended September 30, 2014, we did not issue any shares of common or preferred stock without registration under the Securities Act.
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations is intended to help the reader better understand our Company, our operations and our present business environment. This information is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements for the fiscal years ended September 30, 2014 and 2013 and the accompanying notes thereto contained in this report.
Restatement of Previously Issued Financial Statements
As discussed further in Note 2 to the “Notes to Consolidated Financial Statements” contained in Item 15 of this Form 10-K, we have previously restated our consolidated financial statements for the fiscal year ended September 30, 2013 on Form 10-K/A filed on November 10, 2014. Specifically, we restated our consolidated financial statements as the result of certain errors that existed in our previously filed consolidated financial statements related to the manner in which we recognized revenues for our Chronic Illness Monitoring segment.
The impact of these errors to the applicable line items in the consolidated financial statements is set forth in Note 2 of the “Notes to Consolidated Financial Statements”. The net impact of the restatement increased our net loss by approximately $1.5 million for the year ended September 30, 2013.
Key Business Indicators
In assessing the performance of our business, we consider a variety of performance and financial measures. The key measures for determining how our business is performing are net sales, gross profit margin and selling, general and administrative expenses.
Net Revenues
Net revenues constitute gross revenues net of any returns and merchandise discounts.
Gross Loss
Gross loss is equal to our net revenues minus our cost of revenues. Gross margin measures gross loss as a percentage of our net revenues. Cost of revenues includes the direct costs of purchased merchandise, inventory allowances, commissions, distribution costs, freight costs and purchasing costs.
Our cost of revenues is substantially higher in higher volume quarters because cost of revenues generally increases as net revenues increase.
Selling, General and Administrative Expenses
Selling, general and administrative expenses include administration, stock-based compensation (discussed below) and occupancy costs. These expenses do not generally vary proportionately with net revenues. As a result, selling, general and administrative expenses as a percentage of net sales are usually higher in lower volume quarters and lower in higher volume quarters.
Stock-based Compensation Expense
During fiscal year 2014, we granted 11,196,970 shares of common stock and 2,514,025 common stock purchase warrants to our employees and consultants. Stock-based compensation expense for fiscal year 2014 was approximately $3,585,000. See “Critical Accounting Policies” below.
Fiscal Year 2014 Compared to Fiscal Year 2013
Revenues
Net revenues for fiscal year 2014 were $6,108,000 compared to $4,245,000 for fiscal year 2013, an increase of $1,863,000 or 44%. The increase is due to sales to new and existing customers related to improving our solution and allocating more resources to the sales process.
Cost of Revenues
Cost of revenues for fiscal year 2014 was $6,438,000, compared to $3,323,000 for fiscal year 2013, an increase of $3,115,000. The increase in cost of revenues is due to increased sales and a reserve for inventory obsolescence of $1,661,000.
Gross Loss
Gross loss for fiscal year 2014 was $330,000, compared to a gross profit for fiscal year 2013 of $922,000, a decrease of $1,252,000. The decrease in gross profit resulted primarily from an increase in the reserve for inventory obsolescence offset, in part, by an increase in sales. We expect gross profit to improve in fiscal year 2015 as we acquire more Chronic Illness Monitoring customers, retain existing customers and manage inventory.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for fiscal year 2014 were $9,800,000, compared to $8,752,000 for fiscal year 2013, an increase of $1,048,000, or 12%. The increase in expenses incurred was primarily due to increases in payroll and related taxes of $741,000, employee and company insurance of $140,000 and stock-based compensation of $139,000, offset, in part, by a decrease in investor relations expenses of $285,000.
Research and Development Expenses
Research and development expenses for fiscal year 2014 were $215,000, compared to $605,000 for fiscal year 2013, a decrease of $390,000. The decrease is due to the completion of certain Chronic Illness Monitoring platforms during fiscal year 2013. We expect to continue investing in research and development as we develop new platforms for Chronic Illness Monitoring.
Gain on Derivatives Liability
Gain on derivatives liability for fiscal year 2014 was $373,000, compared to a loss on derivatives liability of $333,000 for fiscal year 2013. The derivatives liability recorded as of September 30, 2014 relates to a variable conversion feature for the Series F preferred stock related to a potential milestone adjustment. Derivatives liabilities recorded as of September 30, 2013 include convertible debt instruments with variable conversion elements. The derivatives liability as of September 30, 2013 was eliminated due to the conversion of notes payable with variable conversion features.
Loss on Induced Conversion of Debt and Sale of Common Stock
During 2014 and 2013, we offered an induced conversion rate to all debt holders of $0.75 of debt per share of common stock, which was below the market price of the stock. During the fiscal years ended September 30, 2014 and 2013, debt and accrued interest of approximately $541,000 and $10,004,000, respectively, were converted to shares of common stock. During fiscal year 2014, debt and accrued interest due to related parties of approximately $1,786,000 were converted to shares of common stock at $0.60 of debt per share of common stock, which was below the market price of the stock. We also offered the private placement of common stock to existing investors at $0.75 per share, which was below the market price. The difference between the offered price and the market price of all common stock issued is recorded as a loss on induced conversion of debt and sale of common stock, and for the fiscal years ended September 30, 2014 and 2013 was approximately $114,000 and $9,356,000, respectively. We believe this improved our balance sheet and positioned us to invest more resources in growing the Chronic Illness Monitoring business.
Interest Expense
Interest expense for fiscal year 2014 was $1,936,000, compared to $5,584,000 for fiscal year 2013. The decrease is due to the conversion of debt and accrued interest to equity during fiscal years 2014 and 2013 of $2,985,000 and $10,004,000, respectively. The majority of debt was converted to shares of common stock as noted above in “Loss on Induced Conversion of Debt”.
Other Income and Expense
The loss on disposal of equipment for fiscal year 2014 was $42,000, compared to $200,000 for fiscal year 2013. The disposals of assets during fiscal year 2013 were higher due to the move of our corporate headquarters to Orem, Utah.
Discontinued Operations
During December 2014, we sold substantially all of our customer contracts and equipment leased to customers associated with our CareServices segment. Additional equipment in stock was sold to the buyer pursuant to a written invoice. The purchase price included a cash receipt of $412,280 for the customer contracts and $66,458 for the equipment in stock. In June 2013, we sold the net assets and operations of the reagents business segment of the Company to a third party for $184,000 in cash. During fiscal years 2014 and 2013, we recognized a loss from discontinued operations of $1,453,000 and $3,184,000, respectively.
Net Loss
Net loss for fiscal year 2014 was $13,462,000, compared to $27,138,000 for fiscal year 2013 for the reasons described above.
Dividends on Preferred Stock
Dividends on preferred stock for fiscal year 2014 were $737,000, compared to $321,000 for fiscal year 2013. The increase is due to additional dividends for Series F preferred stock which was issued during fiscal year 2014.
Liquidity and Capital Resources
Our primary sources of liquidity are the proceeds from the sale of our equity securities and debt. We have not historically financed operations from cash flows from operating activities. We anticipate that we will continue to seek funding to supplement revenues from the sale of our products and services through the sale of equity securities and debt until we achieve positive cash flows from operating activities.
Our cash balance as of September 30, 2014 was $197,000. At that time, we had a working capital deficit of $6,010,799, compared to a working capital deficit of $4,758,000 as of September 30, 2013. The decrease in working capital is primarily due to a decrease in inventory related to sales, an increase in the reserve for inventory obsolescence, a decrease in accounts receivable due to customer collections, and an increase in related-party accounts payable and accrued expenses, offset by a reduction to accounts payable due to vendor payments and a reduction in derivatives liability.
Operating activities in fiscal year 2014 used cash of $4,413,000, compared to $8,945,000 in fiscal year 2013. The decrease in cash used in operating activities is due to the reduction in net loss, the collection of accounts receivable for sales in fiscal year 2013, and the use of existing inventory, offset, in part, by payments made on accounts payable.
Investing activities in fiscal year 2014 used cash of $99,000, compared to $296,000 in fiscal year 2013. The decreased use of cash in investing activities is due to fewer purchases of property and equipment during fiscal year 2014.
Financing activities in fiscal year 2014 provided cash of $4,485,000, compared to $8,935,000 in fiscal year 2013. The decrease in cash provided from financing activities is due to the decrease in debt and sale of equity during fiscal year 2014.
We had an accumulated deficit as of September 30, 2014 of $78,327,000, compared to $64,818,000 as of September 30, 2013. Our total stockholders’ deficit as of September 30, 2014 was $5,144,000 compared to $2,298,000 as of September 30, 2013. These changes were primarily due to our net loss for fiscal year 2014, offset by the sale of Series F preferred stock and the conversion of debt to equity.
Going Concern
We incurred negative cash flows from operating activities and recurring net losses in fiscal years 2014 and 2013. We had negative working capital and negative total equity, and had certain debt that was in default as of September 30, 2014 and 2013. These factors, among others, raise substantial doubt about our ability to continue as a going concern. The financial statements included in this Form 10-K do not include any adjustments that might result from the outcome of this uncertainty.
In order for us to eliminate substantial doubt about our ability to continue as a going concern, we must achieve profitability, generate positive cash flows from operating activities and obtain necessary debt or equity funding. Our management’s plans with respect to this uncertainty include raising additional capital by issuing debt or equity securities and increasing the sales of our products and services. There can be no assurance that we will be able to raise sufficient additional capital or that revenues will increase rapidly enough to offset operating losses. If we are unable to increase revenues or obtain additional financing, we will be unable to continue the development of our products and may have to cease operations.
Off Balance Sheet Arrangements
We are not a party to any off balance sheet arrangements.
Impact of Inflation
Our results of operations and financial condition are presented based on historical cost. While it is difficult to accurately measure the impact of inflation due to the imprecise nature of the estimates required, we believe the effects of inflation, if any, on our results of operations and financial condition have been immaterial.
Recent Accounting Pronouncements
In April 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. ASU 2014-08 states that only disposals representing a strategic shift in operations that has, or will have, a major effect on an entity’s operations when any of the following occurs: The component of an entity or group of components of an entity is classified as held for sale, the component of an entity or group of components of an entity is disposed of by sale, or the component of an entity or group of components of an entity is disposed of other than by sale. ASU 2014-08 is effective for annual periods beginning on or after December 15, 2014. We are currently assessing the impact, if any, of implementing this guidance on our consolidated financial position, results of operations and liquidity.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which supersedes nearly all existing revenue recognition guidance under US GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five-step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing US GAAP. The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein. Early adoption is not permitted. We are currently assessing the impact, if any, of implementing this guidance on our financial position, results of operations and liquidity.
In August 2014, the FASB issued ASU No. 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. This standard sets forth management’s responsibility to evaluate, each reporting period, whether there is substantial doubt about our ability to continue as a going concern, and if so, to provide related footnote disclosures. The standard is effective for annual reporting periods ending after December 15, 2016 and interim periods within annual periods beginning after December 15, 2016. We are currently assessing the impact, if any, of implementing this guidance and will incorporate it in our assessment of going concern.
In November 2014, the FASB issued ASU, 2014-16, Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity. The ASU clarifies how current guidance should be interpreted in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. Specifically, the amendments clarify that an entity should consider all relevant terms and features, including the embedded derivative feature being evaluated for bifurcation, in evaluating the nature of a host contract. The ASU is effective for fiscal years and interim periods beginning after December 15, 2015. We are currently assessing the impact, if any, of implementing this guidance on our consolidated financial position, results of operations and liquidity.
Critical Accounting Policies
The following summary includes accounting policies that we deem to be most critical to our business. Management considers an accounting estimate to be critical if:
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It requires assumptions to be made that were uncertain at the time the estimate was made, and
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Changes in the estimate or different estimates that could have been selected could have a material impact on the consolidated results of operations or financial condition.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the balance sheet dates and the reported amounts of revenues and expenses for the reporting periods. Actual results could differ from these estimates.
In May 2013, we effected a 10-for-1 reverse common stock split. The consolidated financial statements and notes for all periods presented have been retroactively adjusted to reflect the reverse common stock split.
Fair Value of Financial Instruments
We measured the fair values of our assets and liabilities using the US GAAP hierarchy. The carrying amounts reported in the consolidated balance sheets for cash, accounts receivable, accounts payable, and accrued liabilities approximate fair values due to the short-term nature and liquidity of these financial instruments. Derivative financial instruments are recorded at fair value based on current market pricing models. The carrying amounts reported for notes payable approximate fair value because the underlying instruments are at interest rates which approximate current market rates.
Concentrations of Credit Risk
We have cash in bank accounts that, at times, may exceed federally insured limits. We have not experienced any losses in these accounts.
In the normal course of business, we provide credit terms to our customers and require no collateral. We perform ongoing credit evaluations of our customers’ financial condition. We maintain an allowance for doubtful accounts receivable based upon management’s specific review and assessment of each account at the period end.
During fiscal year 2014, we had revenues from two significant customers which represented 67% of total revenues. During fiscal year 2013, we had revenues from one significant customer which represented 44% of total revenues. As of September 30, 2014 and 2013, accounts receivable from significant customers represented 80% and 82% of total accounts receivable, respectively.
During the fiscal years 2014 and 2013, we purchased substantially all of our products and supplies from one vendor.
Accounts Receivable
Accounts receivable are carried at original invoice amount less an estimate made for doubtful accounts. Specific reserves are estimated by management based on certain assumptions and variables, including the customer’s financial condition, age of the customer’s receivables and changes in payment histories. Accounts receivable are written off when management determines the likelihood of collection is remote. A receivable is considered to be past due if any portion of the receivable balance has not been received by the contractual payment date. Interest is not charged on accounts receivable that are past due.
Inventory
Inventory is recorded at the lower of cost or market, cost being determined using the first-in, first-out (“FIFO”) method. Inventory is for the Chronic Illness Monitoring segment and consists of diabetic supplies. Inventory held by distributors is reported as inventory until the supplies are shipped to the end user by the distributor. We estimate an inventory reserve for obsolescence and excessive quantities. Due to competitive pressures and technological innovation, it is possible that estimates of net realizable values could change in the near term.
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are determined using the straight-line method over the estimated useful lives of the assets, which range between 3 and 7 years. Leasehold improvements are amortized over the shorter of the estimated useful lives of the assets or the terms of the lease. Equipment leased to customers is depreciated over the 3-year estimated useful lives of the related equipment, regardless of whether the equipment is leased to a customer or remaining in stock, and is recorded in cost of revenues for CareServices. Expenditures for maintenance and repairs are expensed as incurred. Upon the sale or disposal of property and equipment, any gains or losses are included in the results of operations.
Goodwill
Goodwill is reviewed for impairment annually or more frequently when an event occurs or circumstances change that indicate that the carrying value may not be recoverable. Our annual testing date is September 30. The identification and measurement of goodwill impairment involves the estimation of the fair value of our reporting units. The estimates of fair value of reporting units are based on the best information available as of the date of the assessment, which primarily incorporate management assumptions about expected future cash flows. Future cash flows can be affected by changes in industry or market conditions. Goodwill was not impaired as of September 30, 2014 or 2013.
Impairment of Long-Lived Assets
Purchased intangible assets with finite lives are amortized using the straight-line method over the estimated economic lives of the assets, which range from two to twenty years. Long-lived assets, including intangible assets with finite lives, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amounts of such assets may not be recoverable. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. We impaired our CareServices customer contracts by $89,460 and patents by $408,332 as of September 30, 2014, which were recorded as part of discontinued operations related to the CareServices segment for the fiscal year ended September 30, 2014. The impairment of the customer contracts is due to the sales price being lower than their net book value as of the date of sale. The patents impaired were solely related to the CareServices segment that provide no future cash flows after the CareServices customer contracts and equipment leased to customers were sold in December 2014. Our other long-lived assets were not impaired as of September 30, 2014. No long-lived assets were impaired as of September 30, 2013.
Revenue Recognition
Revenues have historically been from three sources: (1) sales of Chronic Illness Monitoring services and supplies; (2) sales from CareServices; (3) sales of medical diagnostic stains from our Reagents segment. The CareServices segment was sold in December 2014 and the Reagents segment was sold in June 2013. Information regarding revenue recognition policies relating to the Chronic Illness Monitoring and CareServices business segments is contained in the following paragraphs.
Chronic Illness Monitoring
Chronic Illness Monitoring revenues are recognized when persuasive evidence of an arrangement exists, delivery of the product or service to the end user has occurred, prices are fixed or determinable and collection is reasonably assured.
We enter into agreements with insurance companies, disease management companies, third-party administrators, and self-insured companies (collectively, the customers) to lower medical expenses by distributing diabetic testing products and supplies to employees (end users) covered by their health plans or the health plans they manage. Cash is due from the customer or the end user’s health plan as the products and supplies are deployed to the end user. We also monitor the end user’s test results in real-time with our 24x7 CareCenter. Customers who are billed separately for monitoring are obligated to pay as the service is performed and revenue is recognized ratably over the period of the contract. The term of these contracts is generally one year and, unless terminated by either party, will automatically renew for another year. Collection terms are net 30 days after claims are submitted. There is no contingent revenue in these contracts.
We also enter into agreements with distributors who take title to products and distribute those products to the end user. Delivery is considered to occur when the supplies are delivered by the distributor to the end user. Cash is due from the distributor, the customer or the end user’s health plan as initial products are deployed to the end user. Subsequent sales (resupplies) are shipped directly from us to the end user and cash is due from the customer or the end user’s health plan.
Shipping and handling fees are typically not charged to end users. The related freight costs and supplies directly associated with shipping products to end users are included as a component of cost of revenues. Sales of Chronic Illness Monitoring products and services contain multiple deliverables.
Multiple-Element Arrangements
We evaluate each element in a multiple-element arrangement to determine whether it represents a separate unit of accounting. In order to account for elements in a multiple-element arrangement as separate units of accounting, the deliverables must have stand-alone value upon delivery. In determining whether monitoring services have stand-alone value, the nature of our monitoring services, whether we sell supplies to new customers without monitoring services, and availability of monitoring services from the other vendors is considered.
During the three months ended June 30, 2014, we began to provide enhanced monitoring services to a key customer, which pays a separating monthly monitoring fee.
When multiple deliverables included in an arrangement are separable into different units of accounting, the arrangement consideration is allocated to the identified separate units of accounting based on the relative selling prices. Multiple-element arrangements accounting guidance provides a hierarchy to use when determining the relative selling price for each unit of accounting. Vendor-specific objective evidence (VSOE) of selling price, based on the price at which the item is regularly sold by the vendor on a stand-alone basis, should be used if it exists. If VSOE of selling price is not available, third-party evidence (TPE) of selling price is used to establish the selling price if it exists. If VSOE of selling price and TPE of selling price are not available, then the best estimate of selling price (BESP) is to be used. During 2014, VSOE was established for the monitoring services we provide. VSOE for supplies was previously established. Therefore, total consideration under a multiple deliverable contract is allocated to supplies and monitoring through application of the relative fair value method.
CareServices
“CareServices” include contracts in which we lease monitoring devices and provide monitoring services to end users. We typically enter into contracts on a month-to-month basis with end users that use CareServices. However, these contracts may be cancelled by either party at any time with 30-days notice. Under a standard contract, the device and service become billable on the date the end user orders the device, and remains billable until the device is returned to the Company. Revenue on devices is recognized at the end of each month the CareServices have been provided. In those circumstances in which payment is received in advance, we record these payments as deferred revenue.
CareServices revenue is recognized when persuasive evidence of an arrangement exists, delivery of the device or service has occurred, prices are fixed or determinable and payment has occurred or collection is reasonably assured. Shipping and handling fees are included as part of net revenues. The related freight costs and supplies directly associated with shipping products to end users are included as a component of cost of revenues. All CareServices sales are made with net 30-day payment terms.
Income Taxes
We recognize deferred income tax assets or liabilities for the expected future tax consequences of events that have been recognized in the financial statements or income tax returns. Deferred income tax assets or liabilities are determined based upon the difference between the financial reporting bases and tax reporting bases of assets and liabilities using enacted tax rates expected to apply when the differences are expected to be settled or realized. Deferred income tax assets are reviewed periodically for recoverability and valuation allowances are provided as necessary. As of September 30, 2014, management has determined to provide a 100% allowance against deferred income tax assets as it is more likely than not these assets will not be realized. Interest and penalties related to income tax liabilities, when incurred, are classified in interest expense and income tax provision, respectively.
Warrant Exercises
We issue common shares in connection with warrant exercises when we have received verification that the proceeds have been deposited and when we have received an exercise letter from the warrant holder. We issue common shares in connection with note conversions after we verify the outstanding note balance and the eligibility of conversion, and have received a conversion letter from the lender.
Stock-Based Compensation
We measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized in the statement of operations over the period during which the employee is required to provide service in exchange for the award - the requisite service period. The grant-date fair values of the equity instruments are estimated using option-pricing models adjusted for the unique characteristics of those instruments.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Certain written and oral statements made by us in this report are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities Exchange Act of 1934 as amended (the Exchange Act). Forward-looking statements include, without limitation, any statement that may predict, forecast, indicate, or imply future results, performance, or achievements, and may contain words such as “believe,” “anticipate,” “expect,” “estimate,” “project,” or words or phrases of similar meaning. In our reports and filings we may make forward looking statements regarding our expectations about future sales growth, future training and consulting sales activity, renewal of existing contracts, anticipated expenses, the adequacy of existing capital resources, projected cost reduction and strategic initiatives, expected levels of depreciation and amortization expense, expectations regarding tangible and intangible asset valuation expenses, future compliance with the terms and conditions of our debt obligations, the expected repayment of our liabilities in future periods, expectations regarding income tax expenses as well as tax assets and credits and the amount of cash expected to be paid for income taxes, estimated capital expenditures, and cash flow estimates used to determine the fair value of long-lived assets. These, and other forward-looking statements, are subject to certain risks and uncertainties that may cause actual results to differ materially from the forward-looking statements. These risks and uncertainties are disclosed from time to time in reports filed by us with the SEC, including reports on Forms 8-K, 10-Q, and 10-K. Such risks and uncertainties include, but are not limited to, the matters discussed in Item 1A of this annual report on Form 10-K for the fiscal year ended September 30, 2014, entitled “Risk Factors.”
The risks included here are not exhaustive. Other sections of this report may include additional factors that could adversely affect our business and financial performance. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors may emerge and it is not possible for our management to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any single factor, or combination of factors, may cause actual results to differ materially from those contained in forward-looking statements. Given these risks and uncertainties, investors should not rely on forward-looking statements as a prediction of actual results.
The market price of our common stock has been and may remain volatile. In addition, the stock markets in general have experienced increased volatility. Factors such as quarter-to-quarter variations in revenues and earnings or losses and our failure to meet expectations could have a significant impact on the market price of our common stock. In addition, the price of our common stock can change for reasons unrelated to our performance. Due to our low market capitalization, the price of our common stock may also be affected by conditions such as a lack of analyst coverage and fewer potential investors.
Forward-looking statements are based on management’s expectations as of the date made, and we do not undertake any responsibility to update any of these statements in the future except as required by law. Actual future performance and results will differ and may differ materially from that contained in or suggested by forward-looking statements as a result of the factors set forth in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in our filings with the SEC.
Item 8.
Item 8. Financial Statements and Supplementary Data
The consolidated financial statements are included beginning on page of this report:
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
During the years ended September 30, 2014 and 2013, there were no: (i) disagreements with our independent registered public accounting firm on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements, if not resolved to such firm’s satisfaction, would have caused the independent registered public accounting firm to make reference to the subject matter thereof in connection with their reports for such years; or (ii) reportable events, as described under Item 304(a)(1)(v) of Regulation S-K, except for the material weaknesses noted in Item 9A.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our former Chief Executive Officer, interim Chief Executive Officer, and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based upon that evaluation, the former Chief Executive Officer, interim Chief Executive Officer, and Chief Financial Officer concluded that, as of September 30, 2014, our disclosure controls and procedures were not effective. During the audit process, we identified material weaknesses discussed below in the Report of Management on Internal Control over Financial Reporting.
Report of Management on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) or 15d-15(f) under the Exchange Act. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that:
(i)
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;
(ii)
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and
(iii)
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.
Management conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in 2013 Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement to our annual or interim financial statements will not be prevented or detected.
In the course of management's assessment, it identified the following material weaknesses in internal control over financial reporting:
·
Ineffective controls over the evaluation of distributor contracts for revenue recognition
·
Ineffective controls over the review and approval of manual journal entries
·
Ineffective controls over segregation of access to the accounting information system
·
Ineffective controls over inventory records
We did not maintain an effective financial reporting process to prepare financial statements in accordance with U.S. generally accepted accounting principles. Specifically, we initially failed to appropriately account for and disclose the recognition of revenue related to Chronic Illness Monitoring distributor contracts. We restated our financial statements as a result of these issues.
We are in the process of improving our internal control over financial reporting in an effort to eliminate these material weaknesses through improved supervision and training of our staff. Our management, audit committee, and directors will continue to work to ensure that our controls and procedures become adequate and effective.
This annual report on Form 10-K does not include an attestation report of the Company’s independent registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s independent registered public accounting firm pursuant to the rules of the SEC that permit the Company to provide only management’s report in this annual report Form 10-K.
Changes in Internal Control over Financial Reporting
During fiscal year 2014, we hired additional finance and accounting personnel to improve internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act).
Inherent Limitations on the Effectiveness of Internal Controls
The effectiveness of any system of internal control over financial reporting, including ours, is subject to inherent limitations, including the exercise of judgment in designing, implementing, operating, and evaluating the controls and procedures, and the inability to completely eliminate misconduct. Accordingly, any system of internal control over financial reporting, including ours, no matter how well designed and operated, can only provide reasonable, not absolute assurances. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. We intend to continue to monitor and upgrade our internal controls as necessary or appropriate for our business, but cannot assure you that such improvements will be sufficient to provide us with effective internal control over financial reporting.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
Set forth below are the name, age, position and a description of the business experience of each of our executive officers, directors and other key employees as of September 30, 2014.
David G. Derrick - Executive Chairman (Director)
Mr. Derrick has been the Chairman of our Board of Directors since July 2012 and was our Chief Executive Officer from July 2012 through September 2014. From February 2001 through 2011, Mr. Derrick was the Chairman and Chief Executive Officer of SecureAlert, our former parent corporation. Prior to joining SecureAlert, Mr. Derrick occupied directorship and management positions in other companies. From 1979 to 1982, Mr. Derrick was a faculty member at the University of Utah, College of Business. Mr. Derrick graduated from the University of Utah with a Bachelor of Arts degree in Economics and a Masters in Business Administration degree with an emphasis in Finance. Our Board of Directors believes Mr. Derrick’s long association with our business and its development and his long support of the Company uniquely qualify him to serve as our Executive Chairman.
Jeffrey Peterson - Director and Vice President of Finance
Mr. Peterson has been our Vice President of Finance since July 2012 and joined our Board of Directors in May 2014. He has been involved in numerous early stage ventures in the public and private sectors, with an emphasis in healthcare and technology while assisting such companies in advisory and investment initiatives. Mr. Peterson served in various capacities within ActiveCare from July 2011 until July 2012. From January 2010 until July 2012, he was the Director of Investor Relations for SecureAlert. Prior to SecureAlert, Mr. Peterson was a co-owner of a stock brokerage firm in Utah, where his roles included broker, market maker, communications officer, while holding the numerous FINRA security licenses. He graduated from the University of Utah with a Bachelor of Arts Degree in Finance and Business Administration and is a founding member of the University Venture Fund. Mr. Peterson also currently holds board observatory seats with Juneau Biosciences and CoNextions Medical.
Robert J. Welgos - Director
Mr. Welgos joined our Board of Directors in June 2009. He has a Bachelor of Science in engineering from the Newark College of Engineering (1962), and worked for 38 years with Allied Signal Corp (now Honeywell International), in various technical department management positions, including being responsible for operations of Customer Technical Service Dept., Design Engineering, Testing Laboratories, and Process Laboratories. He also served as the Manager, North American Distributor Sales and Director of International Operations, where he established distribution networks throughout the Pacific Rim and South America. During this period, he was instrumental in the creation of joint ventures with Lucky Goldstar in Korea and Japan Synthetic Rubber in Japan. Mr. Welgos retired from Allied Signal Corp in 2000. Mr. Welgos is the Chairman of our board’s Audit Committee. Among other things, Mr. Welgos’ education and extensive experience in the industries described above qualify him to advise management in our research and development agenda and customer service solutions. In addition, his experience in Asia is important as we source our products and manufacturing.
Michael Z. Jones - President and Interim Chief Executive Officer
Mr. Jones joined us in August 2012, was named President in April 2014 and was named Interim Chief Executive Officer in September 2014. He founded a medical technology company in 2007, filing several patents in the field of video collaboration as a tool for delivery of medical care. Mr. Jones led in the advancement of medical collaboration and the utilization of informatics technologies for the treatment of obesity and diabetes. Mr. Jones was previously Executive Vice President of Sales and Marketing and has led numerous sales and operations organizations during his career. A published author and contributor to periodicals and industry publications, Mr. Jones graduated summa cum laude from the University of Utah with a Bachelor of Arts in English. He serves on the board of directors of the National Alliance on Mental Illness for the State of Utah. He is the Company’s principal executive officer.
Marc C Bratsman - Secretary, Treasurer and Chief Financial Officer
Mr. Bratsman joined us as Director of Accounting in August 2013 and became Secretary, Treasurer and Chief Financial Officer in May 2014. He spent nine years of his career in the Seattle office of Grant Thornton with experience auditing companies in both the public and private sectors. He left Grant Thornton as a Senior Audit Manager in October 2011 and moved to Utah to work as the Chief Financial Officer of a vertically integrated e-Commerce company with 110 employees. Mr. Bratsman received a Masters of Accounting from Brigham Young University and is a Certified Public Accountant in the State of Washington. He is the Company’s principal finance and accounting officer.
Darrell Meador - President of Sales
Mr. Meador joined us as President of Sales in March 2012 and has spent the last 15 years involved in healthcare technology and new business initiatives. He was one of the founders of 4G Biometrics, the predecessor of ActiveCare Biometrics and was previously the Vice-President of Marketing and Sales for a leader in the healthcare monitoring industry and started and built their telehealth business segment. Mr. Meador served as the President for an innovative managed care organization focused on diabetes for five years and was the founder and President of a start-up consulting firm specializing in technology, management and education for healthcare and related companies for two years. He was also the co-founder and President of a provider of distance learning and communication services to the healthcare industry for seven years. Mr. Meador received his Bachelor or Arts Degree from the University of North Texas in 1986 and was an Academic All-American at Panola Junior College while on a baseball scholarship.
Compensatory Arrangement with Executive Chairman
On July 12, 2012, we entered into a written Employment Agreement containing compensation and other terms related to David G. Derrick’s appointment as our Chief Executive Officer and Executive Chairman of the Board of Directors. The term of the Employment Agreement was two years and expired on July 12, 2014. Mr. Derrick does not currently have an employment agreement.
The compensation payable to Mr. Derrick under the Employment Agreement included a base salary of $300,000 per year plus $15,000 of business expense reimbursement per month. In March 2014, Mr. Derrick forfeited the expense reimbursement in exchange for the reduction of the exercise price on options to purchase 584,100 shares of common stock from $1.00 to $0.00. Beginning in May 2014, Mr. Derrick opted to have 100% of his base salary paid in stock. During fiscal year 2013, we also granted Mr. Derrick 80,000 Series D preferred shares as a bonus and we recognized $320,000 of compensation expense due to the vesting of the Series D preferred stock during fiscal year 2013. The Employment Agreement also included the grant of an option to purchase 1,000,000 shares common stock at an exercise price of $1.00 per share, vesting at the rate of 100,000 shares for every 5,000 members added by the Company during Mr. Derrick’s employment by the Company. During fiscal year 2013, $782,885 was recorded as deferred compensation due to the issuance of the options. During fiscal years 2014 and 2013, $122,745 and $660,140 was recognized as compensation expense, respectively. During fiscal year 2013, we also granted Mr. Derrick a $350,000 bonus for services for fiscal years 2013 and 2014 to be used to exercise options. We recognized $175,000 as compensation expense during each fiscal year in connection with this bonus. During fiscal year 2014, we granted 110,000 shares of common stock to Mr. Derrick with a fair value of $52,800 in lieu of base salary payment and accrued 275,000 shares of common stock with a fair value of $66,000 in lieu of base salary. We also granted Mr. Derrick 5,000,000 shares of common stock with a value of $2,400,000 that was recorded as deferred compensation that will vest over two years, of which $300,000 was recognized as compensation expense in fiscal year 2014. We also revalued options to purchase 150,000 shares of common stock and recognized an additional $7,368 as compensation expense during fiscal year 2014.
Mr. Derrick resigned his position as Chief Executive Officer effective September 30, 2014. Mr. Derrick accepted the Board of Directors’ request to continue as our Executive Chairman of our Board of Directors. Mr. Derrick will continue to receive his existing compensation arrangements during his appointment as Executive Chairman. Our President, Michael Z. Jones, was appointed interim Chief Executive Officer. Mr. Jones does not have an employment agreement. His base salary is $180,000 per year and was granted 290,000 shares of common stock for his appointment subsequent to fiscal year 2014. The shares vest evenly each quarter through fiscal years 2015 and 2016.
Director Compensation
The table below summarizes the compensation we paid to our outside directors for their services as directors for the fiscal year ended September 30, 2014.
(1)
Mr. Derrick is former Chief Executive Officer and current Executive Chairman of the Board of Directors. His compensation for the fiscal year ended September 30, 2014 is disclosed in the Summary Compensation Table, below. Mr. Derrick did not receive additional compensation for his service on the Board of Directors.
(2)
Mr. Welgos received 100,000 shares of common stock for special projects and the exercise price of previously granted options to purchase 15,000 shares of common stock was modified from $1.00 per share to $0 per share for services, which was converted into shares of common stock.
(3)
Mr. Peterson is Vice President of Finance and was appointed a member of the Board of Directors in April 2014. His compensation for the fiscal year ended September 30, 2014 is disclosed in the Summary Compensation Table, below. Mr. Peterson did not receive additional compensation for his service on the Board of Directors.
(4)
Mr. Martin received options to purchase 1,000,000 shares of common stock at $0.50 per share for service. The options vest as expected milestones are reached. Mr. Martin resigned his position in July 2014.
(5)
Mr. Carter did not receive any compensation during the fiscal year ended September 30, 2014. Mr. Carter resigned his position in March 2014.
(6)
Mr. Johnson did not receive any compensation during the fiscal year ended September 30, 2014. Mr. Johnson resigned his position in February 2014.
Item 11.
Item 11. Executive Compensation
Section 162(m) Compliance
Section 162(m) of the Internal Revenue Code (“Code”), limits us to a deduction for federal income tax purposes of no more than $1,000,000 of compensation paid to certain executive officers in a taxable year. Compensation in excess of $1,000,000 may be deducted if it is “performance-based compensation” within the meaning of the Code.
Our Board of Directors has determined that the stock purchase warrants granted under management contracts as described above, with an exercise price at least equal to the fair value of our common stock on the date of grant should be treated as “performance-based compensation.” Our Board of Directors believes that we should be able to continue to manage our executive compensation program for our Named Executive Officers, defined below, so as to preserve the related federal income tax deductions, although individual exceptions may occur.
Summary Compensation Table
The following table summarizes information concerning the compensation awarded to, earned by, or paid to, four of our top paid officers including our Chief Executive Officer (Principal Executive Officer) during fiscal years 2014 and 2013 (collectively, the “Named Executive Officers”) who were serving in such capacities as of September 30, 2014.
(1)
Column (i) includes long-term care insurance and other personal benefits. The amounts included in that column, representing premiums paid by us for the applicable insurance policies, include the following:
(2)
All amounts except those reported in column (c) and column (i) are non-cash amounts and represent stock or option grants.
(3)
Amounts in column (e) represent non-cash compensation expense of stock grants based on the market value of the stock on the grant date.
During fiscal year 2014, we granted shares of common stock as compensation for past and future service. The schedule below includes stock granted during fiscal year 2014, the accrual of stock granted subsequent to September 30, 2014 for fiscal year 2014 services and amortization of stock granted in prior fiscal years. The granted stock does not include stock quantities, values or deferred balances for accrued amounts or stock granted in prior years being amortized during fiscal year 2014.
Of the shares issued to Mr. Jones, 21,450 shares were issued in lieu of salary and 360,000 shares were issued for continued service which vest quarterly over two years. Of the shares issued to Mr. Derrick, 110,000 shares were issued in lieu of salary and 5,000,000 shares were issued for continued service which, vest quarterly over two years. Of the shares issued to Mr. Peterson, 76,334 shares were issued in lieu of salary, which vest quarterly over two years, and 3,996,000 shares were issued for continued service, which also vest quarterly over two years. Of the shares issued to Mr. Meador, 21,450 shares were issued in lieu of salary.
During the fiscal year ended September 30, 2013, we granted Mr. Derrick non-cash compensation as described above. During fiscal year 2013, we granted Mr. Peterson 115,717 shares of Series D preferred stock for a bonus and service provided valued at $685,378, and during fiscal year 2013, we granted Mr. Meador options to purchase 433,333 shares of common stock at $1.00 per share associated with the 4G acquisition. We recorded the option valued at $382,388 as deferred compensation, $282,299 was recognized as compensation expense. The remaining value of the option will be amortized at a rate of 43,333 shares for every 5,000 members added. During fiscal year 2013, we also granted 150,000 shares of common stock to Mr. Meador for extending his employment agreement to fiscal year 2015, $187,500 of value was recorded to deferred compensation. The value will be amortized over fiscal year 2015.
(4)
Amounts in column (f) represent non-cash compensation expense of options to purchase common stock granted based on the fair value calculated using a binomial option-pricing model. During 2014, we did not grant any options to purchase shares of common stock to the officers named in this schedule. The amount of fiscal year 2014 option awards includes additional amounts for repriced options in addition to their previous values and amortization recognized for options granted in prior years.
During fiscal year 2014, we reduced the exercise price of Mr. Derrick’s options to purchase 584,100 shares of common stock from $1.00 per share to $0.00 per share and we recognized an additional $7,368 of compensation expense. The options were exercised upon reduction. We also reduced the exercise price of Mr. Derrick’s options to purchase 150,000 shares of common stock from $1.00 per share to $0.50 per share and we recognized an additional $7,368 of compensation expense. We reduced the exercise price of Mr. Meador’s options to purchase 433,333 shares of common stock from $1.00 per share to $0.50 per share and we recognized an additional $20,946 of compensation expense and $672 of deferred compensation to be amortized in the same manner as the related options. We reduced the exercise price of Mr. Peterson’s options to purchase 650,000 shares of common stock from $1.10 per share to $0.50 per share. The options were exercised upon reduction and the 650,000 shares of common stock issued vest quarterly over two years. We recognized an additional $5,165 of compensation expense and $36,157 of deferred compensation to be amortized evenly over two years.
Outstanding Equity Awards at Fiscal Year-End
The following table summarizes information regarding options and other equity awards owned by the Named Executive Officers as of September 30, 2014. See footnotes following the table below:
(1)
Column (c) includes options to purchase shares of common stock with various vesting periods. The options held by Mr. Derrick to purchase 150,000 shares of common stock vest at the rate of 100,000 shares for every 5,000 members added during Mr. Derrick’s employment by the Company. The unexercisable options held by Mr. Meador to purchase 260,000 shares of common stock vest at the rate of 43,333 shares for every 5,000 members added.
(2)
Column (g) includes unvested shares of common stock that vest quarterly over a remaining period of 21 months and will be completely vested on June 24, 2016 or will vest immediately in the event of a change in control.
Options Exercised and Vested
During the fiscal year ended September 30, 2014, warrants for the purchase of 736,667 shares of common stock were vested and options for the purchase of 1,234,100 shares of common stock were exercised.
Compliance with Section 16(a) of the Exchange Act
Section 16(a) of the Exchange Act requires our officers, directors, and persons who beneficially own more than 10 percent of our common stock to file reports of ownership and changes in ownership with the SEC. Officers, directors, and greater-than-ten-percent shareholders are also required by the SEC to furnish us with copies of all Section 16(a) forms that they file.
Based solely upon a review of these forms that were furnished to us, we believe that all reports required to be filed by these individuals and persons under Section 16(a) were filed during fiscal year 2014 and that such filing were timely except the following, which were filed in December 2014 and which were late:
·
Mr. Derrick, our Executive Chairman, filed one Form 4 reporting 28 transactions and one amended Form 3
·
ADP Management Corporation, an entity controlled by Mr. Derrick, our Executive Chairman, filed one Form 3
·
Mr. Peterson, a director and our Vice President of Finance, filed one Form 4 reporting 18 transactions and one Form 3
·
Tyumen Holdings, LLC, an entity controlled by Mr. Peterson, a director and our Vice President of Finance, filed one Form 3
·
Mr. Welgos, a director, filed one Form 4 reporting 12 transactions
·
Mr. Martin, a former director, filed one Form 4 reporting 14 transactions
·
Mr. Johnson, a former director, filed one Form 4 reporting six transactions
·
Mr. Jones, our interim Chief Executive Officer, filed one Form 4 reporting four transactions and one Form 3
·
Mr. Bratsman, our Chief Financial Officer, filed one Form 4 reporting three transactions
·
Mr. Acton, our former Chief Financial Officer, filed one Form 4 reporting 14 transactions
·
Mr. Meador, our President of Sales, filed one Form 4 reporting five transactions
·
Mr. Olson, our former Chief Technology Officer and Chief Operating Officer, filed one Form 4 reporting five transactions and one Form 3
Indemnification of Officers and Directors
Our certificate of incorporation provides that we will indemnify our directors and officers to the fullest extent permitted by the Delaware General Corporation Law, or DGCL. We expect to obtain directors’ and officers’ liability insurance that insures such persons against the costs of defense, settlement or payment of a judgment under certain circumstances.
In addition, our certificate of incorporation provides that our directors will not be liable for monetary damages for breach of fiduciary duty.
We entered into indemnification agreements with each of our executive officers and directors. The indemnification agreements provide the executive officers and directors with contractual rights to indemnification, expense advancement and reimbursement, to the fullest extent permitted under the DGCL.
There is no pending litigation or proceeding naming any of our directors or officers to which indemnification is being sought, and we are not aware of any pending or threatened litigation that may result in claims for indemnification by any director or officer.
As previously reported in our Form 10-Q filed August 19, 2014, our Executive Chairman, David G. Derrick, self-reported to the SEC certain related-party transactions and disclosure deficiencies at SecureAlert that occurred while Mr. Derrick was the Chief Executive Officer and a director of SecureAlert. The adjustments were determined by the auditors of SecureAlert to be immaterial but were nonetheless reflected in SecureAlert’s quarterly report on Form 10-Q/A for the quarter ended March 31, 2012.
Subsequent to August 19, 2014, on November 24, 2014, Administrative Proceedings were filed against Mr. Derrick for alleged violations of the Securities Act of 1933, the Securities Exchange Act of 1934 and certain rules thereunder. On December 8, 2014 a Joint Prehearing Conference Statement was submitted stipulating procedural dates.
We are not the subject of or otherwise involved in the SEC’s investigation. The proceedings are not directed at us or any of our other employees or directors. We cannot predict the outcome of the matter with the SEC. At this time, we do not expect these proceedings to materially affect with our day-to-day operations.
Board of Directors
Election and Vacancies
Directors hold office until the next annual meeting of the stockholders and until their successors have been elected or appointed and duly qualified. Vacancies on the board which are created by the retirement, resignation or removal of a director may be filled by the vote of the remaining members of the board, with such new director serving the remainder of the term or until his successor shall be elected and qualify.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The following tables set forth information as of January 12, 2015 (the “Table Date”) by:
·
each person or group who is known by us to own beneficially more than 5% of our outstanding shares of common stock;
·
each of our Named Executive Officers serving as of such date;
·
each of our directors; and
·
all of the executive officers and directors as a group.
Beneficial ownership for the purposes of the following table is determined in accordance with the rules and regulations of the SEC. These rules generally provide that a person is the beneficial owner of securities if such person has or shares the power to vote or direct the voting thereof, or to dispose or direct the disposition thereof or has the right to acquire such powers within 60 days. Common stock subject to options that are currently exercisable or exercisable within 60 days of the table date is deemed to be outstanding and beneficially owned by the person holding the options. These shares, however, are not deemed outstanding for the purposes of computing the percentage ownership of any other person. Percentage of beneficial ownership is based on 47,264,183 shares of common stock outstanding as of the table date. Except as disclosed in the footnotes to this table and subject to applicable community property laws, we believe that each stockholder identified in the table possesses sole voting and investment power over all shares of common stock shown as beneficially owned by the stockholder. Unless otherwise indicated in the table or footnotes below, the address for each beneficial owner is c/o ActiveCare, Inc., 1365 West Business Park Drive, Orem, Utah 84058.
(1)
Includes 4,511,778 shares of common stock, and options to purchase 450,000 shares of common stock, owned by Advanced Technology Investors LLC (“ATI”) and its related entity. By agreement, ATI may not vote or take delivery of common shares that would result in ATI becoming the beneficial owner of more than 9.99% of the issued and outstanding common stock of the Company at any given time.
(2)
Includes 12,399,907 shares of common stock and 25,000 shares of Series D preferred stock, which are convertible to 125,000 shares of common stock, owned by Mr. Jeffrey Peterson, a director and our Vice President of Finance, and entities that are controlled by him. Of the total shares of common stock owned or controlled by Mr. Peterson, 6,554,776 shares are held by Tyumen Holdings, LLC, 2,862,966 shares by Wynnman’s Hill, LLC, 2,566,386 shares by Bluestone Advisors, LLC, 239,259 shares by Keystone Partners, LLC, 156,250 shares by Rimrock Capital, LLC, and 20,270 shares by Banyan Investment Company, LLC.
(3)
Includes 9,132,664 shares of common stock owned by Mr. David G. Derrick, Executive Chairman of our Board of Directors, and entities that are controlled by him. Of the total shares of common stock owned or controlled by Mr. Derrick, 9,090,908 shares are held by ADP Management Corporation, 37,006 shares by Purizer Corporation, and 4,750 shares by Mr. Derrick.
(4)
Includes 1,080,680 shares of common stock, owned by Mr. Michael Jones, our President and Interim Chief Executive Officer.
(5)
Includes 721,266 shares of common stock and options to purchase 115,000 shares of common stock owned by Mr. William K. Martin, a former member of our Board of Directors, and entities that are controlled by him. Of the total shares of common stock owned or controlled by Mr. Martin, 582,888 shares are held by Zenith Holding Ltd and 138,378 shares by Mr. Martin.
(6)
Includes 690,692 shares of common stock owned by Mr. Marc C Bratsman, our Chief Financial Officer and Secretary-Treasurer.
(7)
Includes 393,841 shares of common stock and 173,333 warrants owned by Mr. Darrell Meador, our President of Sales.
(8)
Includes 269,403 shares of common stock owned by Mr. Robert J. Welgos, a member of our Board of Directors.
(9)
Includes 184,736 shares of common stock and options to purchase 15,000 shares of common stock owned by Mr. James G. Carter, a former member of our Board of Directors.
(10)
Includes 15,000 shares of common stock owned by Mr. Jack Johnson, a former member of our Board of Directors.
(11)
Duplicate entries eliminated.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Related-Party Transactions
Related-Party Notes Payable
As of September 30, 2014, we owed $2,016,532 of notes payable to two of our officers, one of our board members, one of our former officers and one of our former board members, or entities controlled by each, with annual interest rates ranging from 12% to 18%. Four entities controlled by Jeffrey Peterson, Vice President of Finance, Banyan Investment Company, LLC, Keystone Partners, LLC, The Mark and Nancy Peterson Foundation and Rimrock Capital, LLC, were owed notes payable totaling $1,639,500. Michael Jones, interim Chief Executive Officer, was owed a note payable of $13,644. An entity under control of David Derrick, Executive Chairman of the Board of Directors, ADP Management Corporation, was owed notes payable totaling $306,667. Michael Acton, our former Chief Financial Officer, was owed a note payable of $30,000. Bill Martin, a former director, was owed a note payable of $26,721. During the fiscal year ended September 30, 2014, we also issued options to purchase 650,000 shares of common stock to related parties exercisable at a price of $1.10 per share, which were later reduced to an exercise price of $0.00 and exercised, and 168,630 shares of common stock to related parties with total value of $169,963 at the date of grant related to notes payable.
During fiscal year 2014, we repaid $1,137,166 of principal and $11,859 of interest on related-party notes payable to one of our officers and one of our former officers, or entities controlled or relatives thereof. We paid five entities controlled by Jeffrey Peterson, Vice President of Finance, Wynnman’s Hill, LLC, Banyan Investment Company, LLC, Keystone Partners, LLC, The Mark and Nancy Peterson Foundation and Rimrock Capital, LLC, $717,166 of principal, $567,166 of which was loaned to us during the year, and $1,972 of interest. We paid Michael Acton, our former Chief Financial Officer, and his spouse $420,000 of principal, $407,000 of which was loaned to us during the year, and $9,887 of interest.
As of September 30, 2013, we owed notes payable totaling $1,896,135 of related-party notes to four of our officers, or entities controlled by officers, and one of our board members, with annual interest rates ranging from 12% to 18%. Two entities controlled by Jeffrey Peterson, Vice President of Finance, Wynnman’s Hill, LLC and Bluestone Advisors, LLC, were owed notes payable totaling $1,637,770 and all notes were repaid or converted to common stock subsequent to year end. An entity under control of David Derrick, Executive Chairman of the Board of Directors, ADP Management Corporation, was owed a note payable of $175,000 and $160,000 was converted to common stock subsequent to year end. Michael Acton, Chief Financial Officer, was owed a note payable of $43,000. Bill Martin, former director, was owed a note payable of $26,721. Michael Jones, interim Chief Executive Officer, was owed a note payable of $13,644. During the fiscal year ended September 30, 2013, we also issued 341,000 warrants exercisable at a price of $0.10 per share and 80,000 shares of Series D preferred stock with total value of $347,130 at the date of grant related to notes payable.
Loan Conversion and Preferred Stock Conversion
During fiscal year 2014, we entered into loan conversion agreements with related parties. We issued 3,197,119 shares of common stock for the conversion of notes payable representing principal and interest in the amount of $1,945,500.
During fiscal year 2014, we entered into Series D preferred stock conversion agreements with related parties. We issued 4,391,667 shares of common stock for the conversion of 627,381 shares of Series D preferred stock.
Cash Advances
As of September 30, 2014, we owed $785,000 to three entities controlled by Jeffrey Peterson, our Vice President of Finance, Banyan Investment Company, LLC, Blackhawk Properties LLC and The Mark and Nancy Peterson Foundation, and $60,000 to an entity controlled by David Derrick, our Executive Chairman of the Board of Directors, ADP Management Corporation. These amounts are recorded in accounts payable, related-party.
During fiscal year 2014, we received cash advances totaling $885,000 from three entities controlled by Jeffrey Peterson, our Vice President of Finance, and repaid $100,000 of the receipts. We also received cash advances totaling $135,000 from an entity controlled by David Derrick, our Executive Chairman, and repaid $75,000 of the receipts.
Indemnification Agreements
We have entered into indemnification agreements with each of our current directors and executive officers. These agreements require us to indemnify these individuals to the fullest extent permitted under Delaware law against liabilities that may arise by reason of their service to us, and to advance expenses incurred as a result of any proceeding against them as to which they could be indemnified. We also intend to enter into indemnification agreements with our future directors and executive officers.
Procedures for Related-Party Transactions
Under our code of business conduct and ethics adopted in June 2009, our employees, officers and directors are discouraged from entering into any transaction that may cause a conflict of interest for us. In addition, they must report any potential conflict of interest, including related-party transactions, to their managers or our corporate counsel who then reviews and summarizes the proposed transaction for our audit committee. Pursuant to its charter, our audit committee is required to then approve any related-party transactions, including those transactions involving our directors. In approving or rejecting such proposed transactions, the audit committee will be required to consider the relevant facts and circumstances available and deemed relevant to the audit committee, including the material terms of the transactions, risks, benefits, costs, availability of other comparable services or products and, if applicable, the impact on a director’s independence. Our audit committee will approve only those transactions that, in light of known circumstances, are in, or are not inconsistent with, our best interests, as our audit committee determines in the good faith exercise of its discretion. A copy of our code of business conduct and ethics and audit committee charter are available on our corporate website at www.activecare.com.
Corporate Governance and Director Independence
Board Composition
Our business and affairs are managed under the direction of our Board of Directors. Our Board of Directors is comprised of three directors, one of which (Mr. Welgos) is independent within the meaning of the Nasdaq Marketplace Rules. This means that the Board of Directors has determined that this director (1) is not an officer or employee of ActiveCare or its subsidiary and (2) has no direct or indirect relationship with ActiveCare that would interfere with the exercise of his independent judgment in carrying out the responsibilities of a director. We have determined that it is in our best interest to have directors who would meet the requirements of being “independent” under the rules of the Nasdaq Stock Market.
Board Committees
Our Board of Directors has established an audit committee and a compensation committee. The composition and responsibilities of each committee are described below. Members serve on these committees until their resignation or until otherwise determined by our Board of Directors.
Audit Committee
Our audit committee consists of one of independent director, Mr. Welgos. Mr. Welgos serves as chair of the audit committee and is considered to be the financial expert on that committee. Our Board of Directors and the Company plan to add additional independent directors to fill vacant positions on the audit committee. Our audit committee has responsibility for, among other things:
·
selecting and hiring our independent registered public accounting firm, and approving the audit and non-audit services to be performed by and the fees to be paid to our independent registered public accounting firm;
·
evaluating the qualifications, performance and independence of our independent registered public accounting firm;
·
monitoring the integrity of our financial statements and our compliance with legal and regulatory requirements as they relate to financial statements or accounting matters;
·
reviewing the adequacy and effectiveness of our internal control policies and procedures;
·
discussing the scope and results of the audit with the independent registered public accounting firm and reviewing with management and the independent registered public accounting firm our interim and year-end operating results; and
·
preparing the audit committee report required by the SEC, to be included in our annual proxy statement.
As indicated above, our Board of Directors has affirmatively determined that Mr. Welgos meets the definition of “independent director” for purposes of serving on an audit committee under applicable SEC rules, and we intend to comply with these independence requirements within the time periods specified. In addition, the Board of Directors has determined that Mr. Welgos meets the standards established by the SEC to qualify as a “financial expert” under Item 407 of Regulation S-K under the Securities Act. Our Board of Directors has adopted a written charter for our audit committee, which is available on our corporate website at www.activecare.com.
Compensation Committee
Our compensation committee consists of two directors: Mr. Welgos, an independent director, and Mr. Peterson, who is also our Vice President of Finance. Mr. Welgos serves as chair of the compensation committee. Our Board of Directors and the Company plan to add additional independent directors to fill vacant positions on the compensation committee. The compensation committee is responsible for, among other things:
·
reviewing and approving compensation of our executive officers including annual base salary, annual incentive bonuses, specific goals, equity compensation, employment agreements, severance and change in control arrangements, and any other benefits, compensation or arrangements;
·
reviewing succession planning for our executive officers;
·
reviewing and recommending compensation goals, bonus and stock compensation criteria for our employees;
·
preparing the compensation committee report required by the SEC to be included in our annual proxy statement; and
·
administering, reviewing and making recommendations with respect to our equity compensation plans.
Our Board of Directors has adopted a written charter for our compensation committee, which is available on our corporate website at www.activecare.com.
Code of Business Conduct and Ethics
We have adopted a code of business conduct and ethics applicable to our principal executive, financial and accounting officers and all persons performing similar functions. A copy of that code is available on our corporate website at www.activecare.com. We expect that any amendments to such code, or any waivers of its requirements, will be disclosed on our website.
Meetings of the Board of Directors and Committees
The Board of Directors is elected by and is accountable to our stockholders. The Board establishes policy and provides our strategic direction, oversight, and control. The Board met four times during fiscal year 2014. All directors attended 100% of the meetings of the Board and the Board committees of which they are members. The Board performed acts by unanimous written consent in lieu of a meeting 10 times during fiscal year 2014.
Item 14.
Item 14. Principal Accounting Fees and Services
Audit Related Fees, Tax Fees, Audit Related Fees, and All Other Fees
Audit services consist of the audit of our annual consolidated financial statements, and other services related to filings and registration statements filed by us and other pertinent matters.
During the years ended September 30, 2014 and 2013, Tanner LLC (“Tanner”) performed audit and audit related services including the audit of the annual consolidated financial statements of the Company and its subsidiaries for 2014 and 2013, reviews of the quarterly financial information and quarterly reports on Form 10-Q and current reports on Form 8-K. Tanner did not perform any financial information systems design and implementation services for the Company.
Tanner incurred fees of $263,800 and $176,300 for audit services and $0 and $0 for audit-related services with respect to the years ended September 30, 2014 and 2013, respectively.
Auditor Independence
Our audit committee considered that the work done for us in fiscal year 2014 by Tanner was compatible with maintaining that firm’s independence.
Tanner has advised us that it has no direct or indirect financial interest in the Company or in any of its subsidiaries and that it has had, during the last three years, no connection with the Company or any of its subsidiaries, other than as independent auditors or in connection with certain other activities, as described above.
Report of the Audit Committee
The Audit Committee oversees the Company’s financial reporting process on behalf of the Board of Directors. Management has the primary responsibility for the financial statements and the reporting process, including the systems of internal control. The director who serves on the Audit Committee is independent for purposes of applicable SEC Rules. The Audit Committee operates under a written charter that has been adopted by the Board of Directors.
We have reviewed and discussed with management and Tanner the audited financial statements for the year ended September 30, 2014. The Audit Committee has discussed with Tanner the matters that are required to be discussed under PCAOB standards. Tanner has provided to the Audit Committee the written disclosures and the letter required by applicable requirements of the PCAOB regarding the independent registered public accounting firm’s communications with the Audit Committee concerning independence, and the committee has discussed with Tanner that firm’s independence. The Audit Committee has concluded that Tanner is independent from the Company and its management.
Based on our review and discussions referred to above, we have recommended to the Board of Directors that the audited financial statements of the Company be included in the Company’s Annual Report on Form 10-K for the year ended September 30, 2014, for filing with the Securities and Exchange Commission.
Respectfully submitted by the Audit Committee:
Robert J. Welgos, Chair
PART IV
Item 15.
Item 15. Exhibits, Financial Statement Schedules
(a) The following documents are filed as part of this Form:
1. Financial Statements-all consolidated financial statements of the Company as set forth under Item 8, of this Form 10-K.
2. Financial Statement Schedules. [N/A, because the required information is included in the Consolidated Financial Statements or Notes thereto, or is not applicable.]
3. Exhibits. The following exhibits are filed herewith or are incorporated by reference to exhibits previously filed with the Commission:
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
ActiveCare, Inc.
Date: January 13, 2015 By: /s/ Michael Z. Jones
Michael Z. Jones, Interim Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Index to Consolidated Financial Statements
F - 1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders of ActiveCare, Inc.
We have audited the accompanying consolidated balance sheets of ActiveCare, Inc. and subsidiaries (collectively, the Company) as of September 30, 2014 and 2013, and the related consolidated statements of operations, stockholders’ deficit, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of ActiveCare, Inc. and subsidiaries as of September 30, 2014 and 2013, and the results of their operations and their cash flows for the years then ended in conformity with U.S. generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the financial statements, the Company has recurring losses, negative cash flows from operating activities, negative working capital, negative total equity, and certain debt that is in default. These conditions, among others, raise substantial doubt about its ability to continue as a going concern. Management’s plans regarding these matters are also discussed in Note 1. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ Tanner LLC
Salt Lake City, Utah
January 13, 2015
F - 2
See accompanying notes to consolidated financial statements.
F - 3
See accompanying notes to consolidated financial statements.
F - 4
See accompanying notes to consolidated financial statements.
F - 5
See accompanying notes to consolidated financial statements.
F - 6
See accompanying notes to consolidated financial statements.
F - 7
See accompanying notes to consolidated financial statements.
F - 8
See accompanying notes to consolidated financial statements.
F - 9
ActiveCare, Inc.
Notes to Consolidated Financial Statements
September 30, 2014 and 2013
1. Organization and Nature of Operations
ActiveCare, Inc. (“ActiveCare”) was formed March 5, 1998 as a wholly owned subsidiary of SecureAlert, Inc. dba Track Group [OTCQB: SCRA], a Utah corporation, formerly known as RemoteMDx, Inc. (“SecureAlert”). ActiveCare was spun off from SecureAlert in February 2009 and SecureAlert retained no ownership interest in ActiveCare. In July 2009, ActiveCare was reincorporated in Delaware. ActiveCare (the “Company”) provides products and services to those diagnosed with chronic illnesses, provides real-time visibility to health conditions and risk, and has a unique active approach in caring for members.
Going Concern
The Company continues to incur negative cash flows from operating activities and net losses. The Company had negative working capital and negative total equity as of September 30, 2014 and 2013 and is in default with respect to certain debt. These factors, among others, raise substantial doubt about the Company’s ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
In order for the Company to eliminate substantial doubt about its ability to continue as a going concern, it must achieve profitability, generate positive cash flows from operating activities and obtain the necessary debt or equity funding to meet its projected capital investment requirements. Management’s plans with respect to this uncertainty consist of raising additional capital by issuing debt or equity securities and increasing the sales of the Company’s services and products. During fiscal year 2014, the Company (1) completed the sale of Series F convertible preferred stock (“Series F preferred stock”) for net proceeds of $3,580,771, after considering $675,229 of related costs; (2) converted $2,326,801 of debt and accrued interest to common stock; (3) converted $574,592 of debt and accrued interest to Series F preferred stock; and (4) converted $83,473 of debt and accrued interest to Series E preferred stock. There can be no assurance that the Company will be able to raise sufficient additional capital or that revenues will increase rapidly enough to offset operating losses. If the Company is unable to increase revenues or obtain additional financing, it will be unable to continue the development of its products and services and may have to cease operations.
2. Restatement and Amendment of Previously Reported Financial Information
The Company restated its consolidated financial statements as of and for the fiscal year ended September 30, 2013 to correct the accounting related to revenue recognition for chronic illness monitoring supplies shipped to distributors, as filed in its Form 10-K/A with the Securities and Exchange Commission on November 12, 2014. Specifically, it was determined better practice to defer revenue recognition until the products are shipped to the end users as opposed to the distributors, even though the distributors had taken title to the products and there were no significant rights of return. The corrections deferred the recognition of revenue until later periods and did not impact cash flows related to these transactions.
The consolidated financial statements as of and for the fiscal year ended September 30, 2013 were restated to properly reflect revenue, cost of revenue, inventory and other related balance sheet accounts related to the Chronic Illness Monitoring segment. See Form 10-K/A filed on November 12, 2014 for reconciliations of the amounts as originally reported to the corresponding restated amounts.
F - 10
3. Summary of Significant Accounting Policies
Principles of Accounting and Consolidation
These consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“US GAAP”). The consolidated financial statements include the accounts of ActiveCare and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the balance sheet dates and the reported amounts of revenues and expenses for the reporting periods. Actual results could differ from these estimates.
In May 2013, the Company effected a 10-for-1 reverse common stock split. The consolidated financial statements and notes for all periods presented have been retroactively adjusted to reflect the reverse common stock split.
Discontinued Operations
In December 2014, the Company sold substantially all of its customer contracts and equipment leased to customers associated with its CareServices segment to a third party. Additional equipment in stock was sold to another third party pursuant to a written invoice. The purchase price included a cash payment of $412,280 for the customer contracts and $66,458 for the equipment in stock. During fiscal years 2014 and 2013, the Company recognized a loss from discontinued operations related to CareServices of $1,452,567 and $3,179,151, respectively.
In June 2013, the Company sold the net assets and operations of its reagents segment to a third party for $184,318 in cash. During fiscal years 2014 and 2013, the Company recognized a loss from discontinued operations related to its reagents segment of $0 and $5,312, respectively.
F - 11
Fair Value of Financial Instruments
The Company measured the fair values of its assets and liabilities using the US GAAP hierarchy. The carrying amounts reported in the consolidated balance sheets for cash, accounts receivable, accounts payable, and accrued liabilities approximate fair values due to the short-term nature and liquidity of these financial instruments. Derivative financial instruments are recorded at fair value based on current market pricing models. The carrying amounts reported for notes payable approximate fair value because the underlying instruments are at interest rates which approximate current market rates.
Concentrations of Credit Risk
The Company has cash in bank accounts that, at times, may exceed federally insured limits. The Company has not experienced any losses in these accounts.
In the normal course of business, the Company provides credit terms to its customers and requires no collateral. The Company performs ongoing credit evaluations of its customers’ financial condition. The Company maintains an allowance for doubtful accounts receivable based upon management’s specific review and assessment of each account at the period end.
During fiscal year 2014, the Company had revenues from two significant customers which represented 67% of total revenues. During fiscal year 2013, the Company had revenues from one significant customer which represented 44% of total revenues. As of September 30, 2014 and 2013, accounts receivable from significant customers represented 80% and 82% of total accounts receivable, respectively.
During the fiscal years 2014 and 2013, the Company purchased substantially all of its products and supplies from one vendor.
Accounts Receivable
Accounts receivable are carried at original invoice amount less an estimate made for doubtful accounts. Specific reserves are estimated by management based on certain assumptions and variables, including the customer’s financial condition, age of the customer’s receivables and changes in payment histories. Accounts receivable are written off when management determines the likelihood of collection is remote. A receivable is considered to be past due if any portion of the receivable balance has not been received by the contractual payment date. Interest is not charged on accounts receivable that are past due. The Company recorded an allowance for doubtful accounts of $115,994 and $76,544 as of September 30, 2014 and 2013, respectively.
Inventory
Inventory is recorded at the lower of cost or market, cost being determined using the first-in, first-out (“FIFO”) method. Inventory is for the Chronic Illness Monitoring segment and consists of diabetic supplies. Inventory held by distributors is reported as inventory until the supplies are shipped to the end user by the distributor. The Company estimates an inventory reserve for obsolescence and excessive quantities. Due to competitive pressures and technological innovation, it is possible that estimates of net realizable values could change in the near term. Inventory consists of the following as of September 30:
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are determined using the straight-line method over the estimated useful lives of the assets, which range between 3 and 7 years. Leasehold improvements are amortized over the shorter of the estimated useful lives of the assets or the terms of the lease. Expenditures for maintenance and repairs are expensed as incurred. Upon the sale or disposal of property and equipment, any gains or losses are included in operations.
F - 12
Goodwill
Goodwill is reviewed for impairment annually or more frequently when an event occurs or circumstances change that indicate that the carrying value may not be recoverable. The annual testing date is September 30. The identification and measurement of goodwill impairment involves the estimation of the fair value of our reporting units. The estimates of fair value of reporting units are based on the best information available as of the date of the assessment, which primarily incorporate management assumptions about expected future cash flows. Future cash flows can be affected by changes in industry or market conditions. Goodwill was not impaired as of September 30, 2014 or 2013.
Impairment of Long-Lived Assets
Purchased intangible assets with finite lives are amortized using the straight-line method over the estimated economic lives of the assets, which range from two to twenty years. Long-lived assets, including intangible assets with finite lives, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amounts of such assets may not be recoverable. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. The Company impaired its CareServices customer contracts by $89,460 and patents by $408,332 as of September 30, 2014, which were recorded as part of discontinued operations related to the CareServices segment for the fiscal year ended September 30, 2014. The impairment of the customer contracts is due to their sales price being lower than the net book value as of the date of sale. The patents impaired were solely related to the CareServices segment and provide no future cash flows after the CareServices customer contracts and equipment leased to customers were sold in December 2014. The Company’s other long-lived assets were not impaired as of September 30, 2014. No long-lived assets were impaired as of September 30, 2013.
Revenue Recognition
Historically, revenues were from three sources: (1) sales of Chronic Illness Monitoring services and supplies; (2) sales from CareServices; (3) sales of medical diagnostic stains from the Reagents segment. The CareServices segment was sold in December 2014 and the Reagents segment was sold in June 2013. Information regarding revenue recognition policies relating to these business segments is contained in the following paragraphs.
Chronic Illness Monitoring
Chronic Illness Monitoring revenues are recognized when persuasive evidence of an arrangement exists, delivery of the product or service to the end user has occurred, prices are fixed or determinable and collection is reasonably assured.
The Company enters into agreements with insurance companies, disease management companies, third-party administrators, and self-insured companies (collectively, the customers) to lower medical expenses by distributing diabetic testing products and supplies to employees (end users) covered by their health plans or the health plans they manage. Cash is due from the customer or the end user’s health plan as the products and supplies are deployed to the end user. The Company also monitors the end user’s test results in real-time with its 24x7 CareCenter. Customers who are billed separately for monitoring are obligated to pay as the service is performed and revenue is recognized ratably over the period of the contract. The term of these contracts is generally one year and, unless terminated by either party, automatically renew for another year. Collection terms are net 30 days after claims are submitted. There is no contingent revenue in these contracts.
The Company also enters into agreements with distributors who take title to products and distribute those products to end users. Delivery is considered to occur when the supplies are delivered by the distributor to the end user. Cash is due from the distributor, the customer or the end user’s health plan as initial products are deployed to the end user. Subsequent sales (resupplies) are shipped directly from the Company to the end user and cash is due from the customer or the end user’s health plan. Shipping and handling fees are typically not charged to end users. The related freight costs and supplies directly associated with shipping products to end users are included as a component of cost of revenues. Sales of Chronic Illness Monitoring products and services contain multiple deliverables.
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Multiple-Element Arrangements
The Company evaluates each element in a multiple-element arrangement to determine whether it represents a separate unit of accounting. In order to account for elements in a multiple-element arrangement as separate units of accounting, the deliverables must have stand-alone value upon delivery. In determining whether monitoring services have stand-alone value, the nature of the monitoring services, whether supplies are sold to new customers without monitoring services, and availability of monitoring services from the other vendors is considered. During the three months ended June 30, 2014, the Company began to provide enhanced monitoring services to a key customer, for which the Company receives a separate monthly monitoring fee.
When multiple deliverables included in an arrangement are separable into different units of accounting, the arrangement consideration is allocated to the identified separate units of accounting based on their relative selling prices. Multiple-element arrangements accounting guidance provides a hierarchy to use when determining the relative selling price for each unit of accounting. Vendor-specific objective evidence (VSOE) of selling price, based on the price at which the item is regularly sold by the vendor on a stand-alone basis, should be used if it exists. If VSOE of selling price is not available, third-party evidence (TPE) of selling price is used to establish the selling price if it exists. If VSOE of selling price and TPE of selling price are not available, then the best estimate of selling price (BESP) is to be used. During 2014, VSOE was established for monitoring services. VSOE for supplies was previously established. Therefore, total consideration under a multiple deliverable contract is allocated to supplies and monitoring through application of the relative fair value method.
CareServices
“CareServices” include contracts in which the Company leases monitoring devices and provides monitoring services to end users. The Company typically enters into contracts on a month-to-month basis with end users that use CareServices. However, these contracts may be cancelled by either party at any time with 30-days notice. Under a standard contract, the device and service become billable on the date the end user orders the device, and remains billable until the device is returned to the Company. Revenue on devices is recognized at the end of each month the CareServices have been provided. In those circumstances in which payment is received in advance, the Company records these payments as deferred revenue.
CareServices revenue is recognized when persuasive evidence of an arrangement exists, delivery of the device or service has occurred, prices are fixed or determinable and payment has occurred or collection is reasonably assured. Shipping and handling fees are included as part of net revenues. The related freight costs and supplies directly associated with shipping products to end users are included as a component of cost of revenues. All CareServices sales are made with net 30-day payment terms.
Reagents
Prior to the sale of the reagent segment, the Company recognized reagents revenues when persuasive evidence of an arrangement with the customer existed, title had passed to the customer, prices were fixed or determinable, and collection was reasonably assured. Prior to the sale of the reagent segment, shipping and handling fees billed to customers were included in revenues and the related freight costs and supplies directly associated with shipping products to customers were included as a component of cost of revenues.
Research and Development Costs
All expenditures for research and development are charged to expense as incurred. Research and development expenses for fiscal years 2014 and 2013 were $215,074 and $605,170, respectively. The expenditures for fiscal year 2014 were for ongoing software improvements for the Chronic Illness Monitoring operating system and customer portal. The expenditures for fiscal year 2013 were for the development of the Chronic Illness Monitoring operating system.
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Advertising Costs
The Company expenses advertising costs as incurred. Advertising expenses for fiscal years 2014 and 2013 were $48,778 and $59,330, respectively. Advertising expenses primarily relate to the Company’s Chronic Illness Monitoring segment.
Income Taxes
The Company recognizes deferred income tax assets or liabilities for the expected future tax consequences of events that have been recognized in the financial statements or income tax returns. Deferred income tax assets or liabilities are determined based upon the difference between the financial reporting bases and tax reporting bases of assets and liabilities using enacted tax rates expected to apply when the differences are expected to be settled or realized. Deferred income tax assets are reviewed periodically for recoverability and valuation allowances are provided as necessary. As of September 30, 2014, management has provided a 100% allowance against deferred income tax assets as it is more likely than not these assets will not be realized. Interest and penalties related to income tax liabilities, when incurred, are classified in interest expense and income tax provision, respectively.
Warrant Exercises and Note Conversions
The Company issues common shares in connection with warrant exercises when it has received verification that the proceeds have been deposited and when it has received an exercise letter from the warrant holder. The Company issues common shares in connection with note conversions after it verifies the outstanding note balance and the eligibility of conversion, and has received a conversion letter from the lender.
Stock-Based Compensation
The Company measures the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized in the statements of operations over the period during which the employee is required to provide service in exchange for the award - the requisite service period. The grant-date fair values of the equity instruments are estimated using option-pricing models adjusted for the unique characteristics of those instruments.
Net Loss Per Common Share
Basic net loss per common share (“Basic EPS”) is computed by dividing net loss available to common stockholders by the weighted average number of common shares outstanding during the year.
Diluted net loss per common share (“Diluted EPS”) is computed by dividing net loss available to common stockholders by the sum of the weighted average number of common shares outstanding and the weighted-average dilutive common share equivalents then outstanding. The computation of Diluted EPS does not assume exercise or conversion of securities that would have an anti-dilutive effect.
Common share equivalents consist of shares issuable upon the exercise of common stock warrants, shares issuable from restricted stock grants, and shares issuable from convertible notes and convertible Series C, Series D, Series E and Series F preferred stock. As of September 30, 2014 and 2013, there were 17,199,080 and 13,127,396 outstanding common share equivalents, respectively, that were not included in the computation of Diluted EPS as their effect would be anti-dilutive. The common stock equivalents outstanding consist of the following as of September 30:
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Recent Accounting Pronouncements
In April 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. ASU 2014-08 states that only disposals representing strategic shifts in operations that have, or will have, a major effect on an entity’s operations should be reported as discontinued operations when any of the following occurs: The component of an entity or group of components of an entity is classified as held for sale, the component of an entity or group of components of an entity is disposed of by sale, or the component of an entity or group of components of an entity is disposed of other than by sale. ASU 2014-08 is effective for annual periods beginning on or after December 15, 2014. Early adoption is not permitted. The Company is currently assessing the impact, if any, of implementing this guidance on its consolidated financial position, results of operations and liquidity.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which supersedes nearly all existing revenue recognition guidance under US GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five-step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing US GAAP. The standard is effective for annual periods beginning after December 15, 2016, and interim periods therein. Early adoption is not permitted. The Company is currently assessing the impact, if any, of implementing this guidance on its consolidated financial position, results of operations and liquidity.
In August 2014, the FASB issued ASU No. 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. This standard sets forth management’s responsibility to evaluate, each reporting period, whether there is substantial doubt about the Company’s ability to continue as a going concern, and if so, to provide related footnote disclosures. The standard is effective for annual reporting periods ending after December 15, 2016 and interim periods within annual periods beginning after December 15, 2016. The Company is currently assessing the impact, if any, of implementing this guidance and will incorporate it in its assessment of going concern.
In November 2014, the FASB issued ASU, 2014-16, Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity. The ASU clarifies how current guidance should be interpreted in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. Specifically, the amendments clarify that an entity should consider all relevant terms and features, including the embedded derivative feature being evaluated for bifurcation, in evaluating the nature of a host contract. The ASU is effective for fiscal years and interim periods beginning after December 15, 2015. The Company is currently assessing the impact, if any, of implementing this guidance on its consolidated financial position, results of operations and liquidity.
4. Discontinued Operations
In December 2014, the Company sold substantially all of its customer contracts and equipment leased to customers associated with its CareServices segment. Additional equipment in stock was sold to the buyer pursuant to a written invoice. The purchase price included a cash payment of $412,280 for the customer contracts and $66,458 for the equipment in stock. The sale included all segment assets that generated revenue related to the CareServices segment. The Company no longer holds any ownership interest in these assets and has ceased incurring costs related to the operations and development of the CareServices segment. This segment was engaged in the business of developing, distributing and marketing mobile health monitoring and concierge services to distributors and consumers. The sale consisted solely of these CareServices assets. The debt secured by the CareServices customer contracts was amended in January 2015 and remains an obligation of the Company (see Note 20). There were no material liabilities of discontinued operations. Assets of discontinued operations consist of the following as of September 30:
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In June 2013, the Company sold its assets and liabilities related to the reagents segment. This segment was engaged in the business of manufacturing and marketing medical diagnostic stains, solutions and related equipment to hospitals and medical testing labs. The purchaser was a former employee. The sale consisted solely of the Company's reagents business. The Company no longer holds any ownership interest in the reagents segment and has ceased incurring costs related to its operations and development. The sale included all applicable segment assets and liabilities including, accounts receivable, inventory, accounts payable, property, equipment and leased equipment. The purchaser also assumed the lease for general office and warehouse space.
As a result of the sale of the CareServices assets and the reagents business, the Company has reflected these two segments as discontinued operations in the consolidated financial statements for fiscal years 2014 and 2013. The following table summarizes certain operating data for discontinued operations for fiscal years 2014 and 2013:
5. Customer Contracts
The Company was amortizing Chronic Illness Monitoring customer contracts acquired during 2012 over their estimated useful lives (through 2014). As of September 30, 2014 and 2013, the cost associated with these customer contracts was $214,106 and the accumulated amortization was $214,106 and $156,886, respectively. Amortization expense related to these contracts for fiscal years 2014 and 2013 was $57,220 and $114,440, respectively.
The Company sold substantially all of the CareServices customer contracts during December 2014. The Company impaired the CareServices customer contracts as of September 30, 2014 by $89,460, which has been included as part of discontinued operations for the fiscal year ended September 30, 2014. As of September 30, 2014 and 2013, customer contracts totalled $2,066,316 and $2,155,776, respectively, and the related accumulated amortization was $1,497,067 and $778,475, respectively. Amortization expense related to the CareServices segment for fiscal years 2014 and 2013 was $718,592 per year. The future customer contract amortization for CareServices as of September 30, 2014 is $179,648 which will be recognized between October 1, 2014 and the date of sale as part of discontinued operations (see Note 4).
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6. Property and Equipment
Property and equipment consist of the following as of September 30:
Assets to be disposed of are reported at the lower of the carrying amounts or fair values, less the estimated costs to sell or dispose. During fiscal years 2014 and 2013, the Company recorded a loss on the disposal of assets of $61,239 and $200,149, respectively. The Company disposed of $25,832 of assets related to the sale of the reagents segment during fiscal year 2013. Subsequent to September 30, 2014, the Company sold all of its equipment leased to customers (see Note 4). Depreciation expense for fiscal years 2014 and 2013 was $219,465 and $272,117, respectively.
7. Patent License Agreement
During fiscal year 2009, the Company licensed the use of certain patents from a third party. Under the license agreement, the Company was required to pay $300,000 plus a 5% royalty on the net sales of all licensed products. As of September 30, 2009, the Company had capitalized the initial license fee as a long-term asset and had recorded a corresponding current liability as the fee was not yet paid.
During fiscal year 2012, the Company agreed to purchase the related patents and settle amounts owed under the license agreement by issuing 600,000 shares of common stock and 480,000 shares of Series C preferred stock. The patents were valued at $922,378, based on a valuation performed by an independent third party. The value of the common stock issued was $240,000, based on the market price of the common stock on the date of issuance. The implied value of the Series C was $682,378, which was based on the difference between the value of the patents and the common stock issued in settlement of the existing liability.
The Company is amortizing the patents over their remaining useful lives. Amortization expense for fiscal years 2014 and 2013 was $126,870. The Company impaired the patents as of September 30, 2014 by $408,332, which has been included as part of discontinued operations for the fiscal year ended September 30, 2014 (see Note 4). As of September 30, 2014 and 2013, the cost associated with the patents was $514,046 and $922,378, respectively, and the accumulated amortization was $482,328 and $355,458, respectively. The Company’s future patent amortization as of September 30, 2014, is $31,718 which will be recognized between October 1, 2014 and the date of sale, December 31, 2014, as part of discontinued operations.
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8. Accrued Expenses
Accrued expenses consist of the following as of September 30:
9. Notes Payable
The Company had the following notes payable outstanding as of September 30:
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As of September 30, 2014, scheduled principal payments on notes payable are as follows:
10. Related-Party Notes Payable
The Company had the following related-party notes payable outstanding as of September 30:
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11. Loss on Induced Conversion of Debt and Sale of Common Stock
During 2014 and 2013, the Company offered an induced conversion rate to all debt holders of $0.75 of debt per share of common stock, which was below the market price of the stock. During the fiscal years ended September 30, 2014 and 2013, debt and accrued interest of approximately $381,000 and $10,004,000, respectively, were converted to shares of common stock. During the fiscal year ended September 30, 2014, debt and accrued interest due to related parties of approximately $1,946,000 were converted to shares of common stock at $0.60 of debt per share of common stock, which was below the market price of the stock. The Company also offered the private placement of common stock to existing investors at $0.75 per share, which was below the market price. The difference between the offered price and the market price of all common stock issued was approximately $114,000 and $9,356,000 for the fiscal years ended September 30, 2014 and 2013, respectively, and is recorded as a loss on induced conversion of debt and sale of common stock.
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12. Fair Value Measurements
The Company measured the fair values of its assets and liabilities using the US GAAP hierarchy levels as follows:
The Company’s embedded derivatives liability is re-measured to fair value as of each reporting date until the contingency is resolved. See Note 13 for more information about derivatives and the inputs used for calculating fair value
13. Derivatives Liability
The derivatives liability as of September 30, 2014 and 2013 was $106,444 and $795,151, respectively. The derivatives liability as of September 30, 2013 was eliminated due to the conversion of notes payable with variable conversion features. The derivatives liability as of September 30, 2014 is related to a variable conversion price adjustment on the Series F preferred stock. The conversion price on Series F preferred stock may be adjusted from $1.00 based on the number of subscribers as of December 31, 2014.
During the fiscal year ended September 30, 2014, the Company estimated the fair value of the embedded derivatives prior to their conversion and elimination using a binomial option-pricing model with the following assumptions, according to the instrument: exercise price of $0.35 per share; risk free interest rate of 0.060%; expected life of 0.50 years; expected dividends of 0%; a volatility factor of 104%; and a stock price of $0.24. The expected lives of the instruments were equal to the average term of the conversion option. The expected volatility is based on the historical price volatility of the Company’s common stock. The risk-free interest rate represents the U.S. Treasury constant maturities rate for the expected life of the related conversion option. The dividend yield represents anticipated cash dividends to be paid over the expected life of the conversion option. The Company recognized a gain on derivatives liability for the fiscal year ended September 30, 2014 of $373,293 and a loss for the fiscal year ended September 30, 2013 of $333,406.
14. Preferred Stock
The Company is authorized to issue 10,000,000 shares of preferred stock, with a par value of $0.00001 per share. Pursuant to the Company’s Certificate of Incorporation, the Board of Directors has the authority to amend the Company’s Certificate of Incorporation, without further stockholder approval, to designate and determine the preferences, limitations and relative rights of the preferred stock before any issuance of the preferred stock and to create one or more series of preferred stock, fix the number of shares of each such series, and determine the preferences, limitations and relative rights of each series of preferred stock, including dividend rights, dividend rates, conversion rights, voting rights, terms of redemption, redemption prices, and liquidation preferences.
Series C Convertible Preferred Stock
As of September 30, 2013, the Company had 480,000 shares of Series C convertible preferred stock issued and outstanding (“Series C preferred stock”). In December 2013, all 480,000 shares of Series C preferred stock were converted to 672,000 shares of common stock. The conversion rate of 1.4 shares of common stock was greater than the designated conversion rate of one share of common stock and, therefore, the fair value of the additional 192,000 shares was recorded as a deemed dividend. During fiscal year 2014, the Company accrued $11,367 of dividends on Series C preferred stock and settled the accrued dividends by issuing 11,599 shares of common stock. The Series C preferred stock was non-voting. During fiscal year 2013, the Company issued 9,062 shares of Series D preferred stock for accrued dividends of $53,992 associated with Series C preferred stock.
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Series D Convertible Preferred Stock
The Board of Directors has designated 1,000,000 shares of preferred stock as Series D convertible preferred stock (“Series D preferred stock”). The Series D preferred stock is voting on an as-converted basis. The Series D preferred stock has a dividend rate of 8%, payable quarterly. The Company may redeem the Series D preferred shares at a redemption price equal to 120% of the original purchase price with 15 days notice. In December 2013, 893,218 shares of Series D preferred stock were converted to 6,252,526 shares of common stock. The conversion rate of 7 shares of common stock was greater than the designated conversion rate of 5 shares of common stock and, therefore, the fair value of the additional 1,786,436 shares was recorded as a deemed dividend. During fiscal year 2014, the Company accrued $84,212 of dividends on Series D preferred stock and settled $77,961 of the accrued dividends by issuing 85,477 shares of common stock.
During fiscal year 2013, the Company accrued $232,834 of dividends on Series D preferred stock and settled the accrued dividends by issuing 5,025 shares of Series D preferred stock and 143,465 shares of common stock.
Series E Convertible Preferred Stock
During fiscal year 2013, the Board of Directors designated shares of preferred stock as Series E convertible preferred stock (“Series E preferred stock”). Series E preferred stock is convertible into common stock at $1.00 per share, the conversion price is adjustable if there are distributions of common stock or stock splits by the Company. The designation also provides that the Series E preferred stock is non-voting and receives a monthly dividend of 3.322% for 25 to 32 months. In addition, the convertibility and the redemption price of the Series E preferred stock is gradually reduced by dividend payments over 25 to 32 months. After the dividend payment term, the redemption price of Series E preferred stock is $0, the Series E preferred stock has no convertibility to common stock and the holders are entitled to receive a pro-rata share of cumulative royalties totaling 4% of the Company’s gross profits payable quarterly for a two-year period.
During fiscal year 2014, $83,473 of debenture loans and accrued interest converted into 8,347 shares of Series E preferred stock. During fiscal year 2014, the Company accrued dividends of $320,071 to Series E shareholders. During fiscal years 2014 and 2013, the Company paid dividends of $258,284 and $17,271, respectively, to Series E shareholders. As of September 30, 2014 and 2013, the redemption price for the Series E preferred stock was $477,829 and $601,585, respectively.
Series F Convertible Preferred Stock
During fiscal year 2014, the Board of Directors designated 7,803 shares of preferred stock as Series F convertible preferred stock (“Series F preferred stock”). In April 2014, the Company increased the authorized shares of Series F preferred stock to 10,000. Series F preferred stock is non-voting, has a stated value of $1,000 and is convertible into common stock at $1.00 per share subject to a milestone adjustment for the number of subscribers as of December 31, 2014 (see Note 12). The Series F preferred stock has a dividend rate, payable quarterly, of 8% until April 30, 2015, 16% from May 1, 2015 to July 31, 2015, 20% from August 1, 2015 to October 31, 2015 and 25% thereafter.
During the fiscal year ended September 30, 2014, the Company issued 5,361 shares of Series F preferred stock for net proceeds of $3,580,771, after considering $675,229 of related costs, and the conversion of $574,592 of debt and accrued interest. During fiscal year 2014, the Company accrued dividends of $322,730 to Series F shareholders. The Company settled $144,030 of dividends plus $3,601 of accrued interest on Series F preferred stock by paying $73,815 in cash and issuing 184,541 shares of common stock.
Liquidation Preference
Upon any liquidation, dissolution or winding up of the Company, before any distribution or payment may be made to the holders of the common stock, the holders of the Series C preferred stock, Series D preferred stock, Series E preferred stock, and Series F preferred stock are entitled to be paid out of the assets an amount equal to $1.00 per share plus all accrued but unpaid dividends. If the assets of the Company are insufficient to make payment in full to all holders of preferred stock, then the assets shall be distributed among the holders of preferred stock ratably in proportion to the full amounts to which they would otherwise be entitled.
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15. Common Stock
In April 2014, the Company amended its Certificate of Incorporation increasing the total number of authorized shares of common stock from 50,000,000 shares to 200,000,000 shares.
During fiscal year 2014, the Company issued the following shares of common stock:
·
3,712,549 shares to settle notes payable and related accrued interest, the value on the date of grant was $2,447,926;
·
584,100 shares to the Chief Executive Officer for the exercise of a modified stock option agreement (the exercise price was reduced to $0), the change in value due to the modification was $134,897;
·
474,000 shares to a former Chief Executive Officer for the exercise of a modified stock option agreement (the exercise price was reduced to $0), the change in value due to the modification was $400,585;
·
650,000 shares to an entity controlled by an officer of the Company for the exercise of modified stock option agreements (the exercise prices were reduced to $0), the change in value due to the modification was $41,311 and the shares vest quarterly over two years;
·
15,000 shares to a board member for the exercise of a modified stock option agreement (the exercise price was reduced to $0), the change in value due to the modification was $5,746;
·
161,738 shares for notes payable origination fees, the value on the date of grant was $163,170;
·
342,930 shares for equity investment finders’ fees, the value on the date of grant was $342,000;
·
6,892 shares to officers of the Company as late fees for unpaid services, the value on the date of grant was $6,892;
·
6,924,526 shares in connection with the conversion of 480,000 shares of Series C preferred stock and 893,218 shares of Series D preferred stock;
·
271,343 shares to settle accrued dividends for Series C, Series D and Series F preferred stock, the value on the date of grant was $148,244;
·
409,000 shares for services provided by independent consultants, the value on the date of grant was $237,800;
·
868,136 shares for employee compensation for past services and bonuses, the value on the date of grant was $427,205;
·
100,000 shares for services provided by a board member, the value on the date of grant was $85,000;
·
5,000,000 shares to the Chief Executive Officer for future services, the value on the date of grant was $2,400,000 and the shares vest quarterly over two years;
·
447,500 shares for employee compensation for future services, the value on the date of grant was $256,800 and the shares vest quarterly over two years. 87,500 shares, with a value of $42,000 at the date of grant, were forfeited during fiscal year 2014;
·
4,072,334 shares to an entity controlled by an officer of the Company for future services, the value on the date of grant was $1,954,720 and the shares vest quarterly over two years.
The fair value of unvested common stock as of September 30, 2014 was $4,125,863.
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16. Common Stock Options and Warrants
The fair value of each stock option or warrant is estimated on the date of grant using a binomial option-pricing model. The expected life of stock options or warrants represents the period of time that the stock options or warrants are expected to be outstanding, based on the simplified method. Expected volatilities are based on historical volatility of the Company’s common stock, among other factors. The Company uses the simplified method within the valuation model due to the Company’s short trading history. The risk-free rate related to the expected term of the stock option or warrants is based on the U.S. Treasury yield curve in effect at the time of grant. The dividend yield is zero.
During fiscal years 2014 and 2013, the Company measured the fair value of the warrants using a binomial valuation model with the following assumptions:
During the fiscal year ended September 30, 2014, the Company granted the following common stock options and warrants:
·
Options to purchase 650,000 shares were granted to an entity controlled by an officer of the Company for notes payable and accrued interest converted into common stock, with an exercise price of $1.10 per share. The Company recognized $590,887 of interest expense during the three months ended December 31, 2013. During the three months ended June 30, 2014, the exercise prices were reduced to $0 per share;
·
Options to purchase 450,000 shares were granted to a note holder with an exercise price of $1.00 per share. The options expire in October 2018. The Company recognized $143,634 as debt discount, which is being amortized over the life of the note payable;
·
Options to purchase 856,977 shares were granted to two note holders for converting debt into common stock with an exercise price of $1.10 per share. The options expire in December 2018;
·
Options to purchase 3,669,120 shares were granted in connection with the sale of Series F preferred stock with an exercise price of $1.10 per share. The options expire in December 2018;
·
Options to purchase 1,424,025 shares were granted in connection with the sale of Series F preferred stock with an exercise price of $1.10 per share. The options expire in January 2018;
·
Options to purchase 1,008,000 shares were granted in connection with the sale of Series F preferred stock with an exercise price of $1.10 per share. The options expire in February 2019;
·
Options to purchase 1,000,000 shares were granted to a board member for services, with an exercise price of $0.50 per share. The shares vest based on the Company obtaining new member targets, specifically 100,000 options vest for each new 5,000 members. The options expire in June 2019.
·
Options to purchase 90,000 shares were granted to two related parties for services, with an exercise price of $1.10 per share. The options expire in June 2019.
During the fiscal year ended September 30, 2014, the Company modified the exercise price of options and warrants previously issued to current employees and officers to $0.50 per share. The Company recognized additional expense of $71,942 and deferred $7,960 over the remaining vesting period of the options and warrants.
The following table summarizes information about stock options and warrants outstanding as of September 30, 2014:
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As of September 30, 2014, the outstanding warrants have an aggregate intrinsic value of $0, the weighted average remaining term of the warrants was 3.88 years, and the fair value of unvested stock options and warrants was $383,379.
17. Segment Information
The Company operated two business segments during fiscal year 2014 based primarily on the nature of the Company’s products. The Chronic Illness Monitoring segment is engaged in the business of developing, distributing and marketing mobile monitoring of patient vital signs and physical activity to insurance companies, disease management companies, third-party administrators, and self-insured companies. The customer contracts and equipment leased to customers of the CareServices segment were sold in December 2014. The CareServices segment was engaged in the business of developing, distributing and marketing mobile health monitoring and concierge services to distributors and consumers. The Company previously operated a reagents business which was sold in June 2013. The Company no longer holds any ownership interest in the reagents business.
At the corporate level, the Company raises capital and provides for the administrative operations of the Company as a whole.
The following table reflects certain financial information relating to each reportable segment for fiscal years 2014 and 2013:
18. Income Taxes
As of September 30, 2014, the Company had net operating loss carryforwards available to offset future taxable income, if any, of approximately $64,000,000, which will begin to expire in 2027. The utilization of the net operating loss carryforwards is dependent upon the tax laws in effect at the time the net operating loss carryforwards can be utilized. The Internal Revenue Code contains provisions that likely could reduce or limit the availability and utilization of these net operating loss carryforwards. For example, limitations are imposed on the utilization of net operating loss carryforwards if certain ownership changes have taken place or will take place. The Company will perform an analysis to determine whether any such limitations have occurred as the net operating losses are utilized.
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The amount and ultimate realization of the benefits from the net operating loss carryforwards are dependent, in part, upon the tax laws in effect, the Company’s future earnings, and other future events, the effects of which cannot be determined. The Company has established a valuation allowance against all deferred income tax assets not offset by deferred income tax liabilities due to the uncertainty of their realization. Accordingly, there is no benefit for income taxes in the accompanying statements of operations.
Deferred income taxes are determined based on the estimated future effects of differences between the consolidated financial reporting and income tax reporting bases of assets and liabilities given the provisions of currently enacted tax laws and the tax rates expected to be in place. For fiscal years 2014 and 2013, the Company’s expected federal tax rate was 34%.
The deferred income tax assets (liabilities) were comprised of the following as of September 30:
Reconciliations between the benefit for income taxes at the federal statutory income tax rate and the Company’s benefit for income taxes for fiscal years 2014 and 2013 were as follows:
During fiscal years 2014 and 2013, the Company recognized no interest or penalties, and there were no changes in unrecognized tax benefits from tax positions taken or from lapsed statutes of limitations. There were no settlements with taxing authorities. As of September 30, 2014, the Company had no unrecognized tax benefits that, if recognized, would affect the effective tax rate, and there are no positions that are anticipated to significantly increase or decrease. The Company had no tax examinations beginning, ending, or remaining in process as of and for the years ended September 30, 2014 and 2013. Tax returns for fiscal years subsequent to 2010 remain subject to examination.
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19. Commitments and Contingencies
The Company leases office space under non-cancelable operating leases. Future minimum rental payments under non-cancelable operating leases as of September 30, 2014 were as follows:
The Company’s rent expense for facilities held under non-cancelable operating leases for fiscal years 2014 and 2013 was approximately $279,000 and $225,000, respectively.
In May 2013, the Company entered into a settlement agreement and patent license agreement and an agreed motion was filed to dismiss all claims of a lawsuit. The final payment required by the settlement agreement and patent license patent agreement was made in December 2013.
20. Subsequent Events
+Subsequent to September 30, 2014 and through the release date of this report, the Company entered into the following agreements and transactions:
(1)
In October 2014, the Company issued or the Board of Directors has approved the issuance of 1,692,810 shares of common stock to employees for services with vesting ranging from immediate to two years.
(2)
In October 2014, the Company issued 18,522 shares of common stock to settle accrued dividends for Series D preferred stock.
(3)
In November 2014, the Company amended an existing agreement related to investor relations services, contingent upon the elimination of the Series F Preferred stock. The amendment extends the agreement by two years and would require the Company to issue a total of 3,000,000 shares of its common stock over the extended term.
(4)
In November 2014, the Company amended an existing agreement with one of its customers which would require the Company to issue up 2,250,000 shares of its common stock to the customer. The number of shares to be issued is based on the customer meeting certain milestones for the number of end users who receive Chronic Illness Monitoring products and services through January 2016.
(5)
In November 2014, the Company entered into a consulting agreement with a third party which would require the Company to issue up 750,000 shares of its common stock to the third party. The third party will consult the Company on matters regarding sales to a specific customer. The number of shares to be issued is based on the customer meeting certain milestones for the number of end users who receive Chronic Illness products and services through January 2016.
(6)
In November 2014, the Company sold $130,000 of future customer receipts to a third party for $100,000 in cash. The $30,000 difference between the payment amount and cash received is being amortized to interest expense over the expected term.
(7)
In December 2014, the Company sold substantially all of its CareServices customer contracts and equipment leased to customers associated with its CareServices segment to a third party. Additional equipment in stock was sold to the buyer pursuant to a written invoice. The purchase price included a cash payment of $412,280 for the customer contracts and $66,458 for the equipment in stock.
(8)
In January 2015, the Company modified the note payable secured by CareServices customer contracts to reduce the outstanding principal to $375,000, interest at 9%, and payable in 15 monthly installments beginning in February 2015. The note payable is guaranteed by the Chairman of the Board of Directors and another member of the Board of Directors.
(9)
In November 2014, the Company entered into a note payable with an entity controlled its Chairman of the Board of Directors to covert $396,667 of advances and notes payable into one promissory note, interest at 0%, and due on demand.
(10)
In October and December 2014, the Company received advances totaling $305,000 from entities controlled by a member the Board of Directors.
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