EXHIBIT 99.2
CNS RESPONSE, INC.
UNAUDITED FINANCIAL STATEMENTS
THREE-MONTH PERIODS ENDED DECEMBER 31, 2006 AND 2005
CNS RESPONSE, INC.
CONDENSED BALANCE SHEETS
December 31, September 30,
2006 2006
------------ ------------
(unaudited)
ASSETS
Current assets:
Cash ........................................... $ 1,378,600 $ 204,900
Accounts receivable (net of allowance for
doubtful accounts of $18,600 as of
December 31, 2006 and $4,800 as of
September 30, 2006) ........................... 25,300 25,400
Prepaid and other .............................. 261,700 67,000
------------ ------------
Total current assets ......................... 1,665,600 297,300
Intangible assets (net of accumulated
amortization of $558,100 as of
December 31, 2006 and $538,200 as
of September 30, 2006)
19,900
Loans to related parties ......................... 154,200 161,100
Deferred offering costs .......................... 112,900
Other assets ..................................... 19,600 15,900
------------ ------------
Total assets ................................. $ 1,952,300 $ 494,200
============ ============
2
December 31, September 30,
2006 2006
------------ ------------
(unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable
(including $8,000 to
related parties) ........................... $ 404,100 $ 666,100
Accrued liabilities .......................... 250,000 248,700
Deferred compensation (including
$65,900 and $58,000 to related
parties as of December 31, 2006
and September 30, 2006,
respectively) ............................... 79,100 75,200
Accrued consulting fees ...................... 108,000 136,700
Accrued interest (including
$414,700 to related parties as of
September 30, 2006) ......................... 36,800 1,156,500
Note payable to NuPharm Database,
LLC ........................................ 287,400 287,400
Convertible promissory notes ................. 54,900 3,116,700
------------ ------------
Total current liabilities .................. 1,220,300 5,687,300
------------ ------------
Commitments and contingencies
Stockholders' equity (deficit):
Preferred stock, no par value;
Authorized, 20,000,000 shares;
7,899,493 shares outstanding as of
December 31, 2006 and none
outstanding as of September 30, 2006 ....... 5,958,200 --
Common stock, no par value;
authorized, 80,000,000 shares; issued
and outstanding, 9,845,132 shares as
of December 31, 2006 and 7,034,117
shares as of September 30, 2006 ............ 1,051,700 712,800
Additional paid-in capital .................. 2,145,100 2,117,200
Accumulated deficit ......................... (8,423,000) (8,023,100)
------------ ------------
Total stockholders' equity (deficit) .... 732,000 (5,193,100)
------------ ------------
Total liabilities and stockholders'
equity (deficit) ...................... $ 1,952,300 $ 494,200
============ ============
The accompanying notes are an integral part of these financial statements.
3
CNS RESPONSE, INC.
UNAUDITED CONDENSED STATEMENT OF OPERATIONS
For the three months ended
December 31,
----------------------------
2006 2005
----------- -----------
Revenues ..................................... $ 46,600 $ 36,600
----------- -----------
Operating expenses:
Cost of revenues (including
amortization expense of
$19,900 in 2006 and 2005) ................. 47,000 33,300
Research and development ................... 180,100 89,000
Sales and marketing ........................ 26,000 11,000
General and administrative ................. 194,200 146,800
----------- -----------
Total operating expenses ................. 447,300 280,100
----------- -----------
Operating loss ............................... (400,700) (243,500)
----------- -----------
Other income (expense):
Interest expense, net ...................... (51,000) (97,300)
Other income ............................... 51,800 --
----------- -----------
Total other income
(expense) .............................. 800 (97,300)
----------- -----------
Loss before income taxes ..................... (399,900) (340,800)
Income taxes ................................. -- --
Net loss ..................................... $ (399,900) $ (340,800)
=========== ===========
Net loss per share:
Basic ...................................... $ (0.04) $ (0.28)
Diluted .................................... $ (0.04) $ (0.28)
Shares used in per share calculations:
Basic ...................................... 9,658,920 1,200,000
Diluted .................................... 9,658,920 1,200,000
The accompanying notes are an integral part of these financial statements.
4
CNS RESPONSE, INC.
UNAUDITED CONDENSED STATEMENT OF CASH FLOWS
For the three months ended
December 31,
---------------------------
2006 2005
----------- -----------
Cash flows from operating activities:
Net (loss) ................................... $ (399,900) $ (340,800)
Adjustments to reconcile net loss to
net cash used in operating activities:
Amortization of intangible assets .......... 19,900 19,900
Other ...................................... (4,400)
Stock-based compensation ................... 900
Changes in operating assets and
liabilities:
Accounts receivable ...................... 100 (2,700)
Prepaids and other current assets ........ (43,800) (5,000)
Accounts payable ......................... (128,200) (60,200)
Accrued liabilities ...................... 1,300
Deferred compensation .................... 7,900 67,500
Accrued consulting fees .................. 11,300 62,700
Accrued interest ......................... 5,300 95,000
Net cash used in operating activities .......... (529,500) (163,600)
----------- -----------
Cash flows from investing activities:
Increase in deposits ......................... (3,000)
Loans to employees ........................... (2,400)
-----------
Net cash used in investing activities .......... (5,400) 0
----------- -----------
Cash flows from financing activities:
Proceeds from sale of preferred stock ........ 1,731,000
Proceeds from exercise of warrants ........... 28,000
Deferred offering costs ...................... (50,400)
-----------
Net cash provided by financing activities ...... 1,708,600 0
----------- -----------
Net increase (decrease) in cash ................ 1,173,700 (163,600)
Cash, beginning of period ...................... 204,900 478,400
----------- -----------
Cash, end of period ............................ $ 1,378,600 $ 314,800
=========== ===========
The accompanying notes are an integral part of these financial statements
5
CNS RESPONSE, INC.
UNAUDITED CONDENSED STATEMENT OF STOCKHOLDERS' EQUITY (DEFICIT)
Total
Additional Stockholders'
Preferred Stock Common Stock Paid-In Accumulated Equity
Shares Value Shares Value Capital Deficit (Deficit)
----------- ----------- ----------- ----------- ----------- ----------- -----------
THREE MONTHS ENDED
DECEMBER 31, 2006
Balance, October 1, 2006 ....... -- -- 7,034,117 $ 712,800 $ 2,117,200 $(8,023,100) $(5,193,100)
Forgiveness of accrued interest
and exercise of warrants by
NuPharm ...................... -- -- 2,800,000 147,700 -- -- 147,700
Conversion of promissory notes
and accrued interest ......... 5,993,515 4,067,100 -- -- -- -- 4,067,100
Proceeds from private placement,
net of offering costs
of $33,900 ................... 1,905,978 1,891,100 -- -- -- -- 1,891,100
Issuance of stock for settlement
of debt ...................... -- -- 11,015 1,400 -- -- 1,400
Stock-based compensation ....... -- -- -- -- 900 -- 900
Issuance of options for
settlement of debt ........... -- -- -- -- 27,000 -- 27,000
Net loss for the period ........ -- -- -- -- -- (352,500) (352,500)
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance, December 31, 2006 ..... 7,899,493 $ 5,958,200 9,845,132 $ 861,900 $ 2,145,100 $(8,375,600) $ 589,600
=========== =========== =========== =========== =========== =========== ===========
Total
Additional Stockholders'
Preferred Stock Common Stock Paid-In Accumulated Equity
Shares Value Shares Value Capital Deficit (Deficit)
----------- ----------- ----------- ----------- ----------- ----------- -----------
THREE MONTHS ENDED
DECEMBER 31, 2005
Balance, October 1, 2005 ....... -- -- 1,200,000 $ 12,000 $ 16,200 $(8,105,700) $(8,077,500)
Net loss for the period ........ -- -- -- -- -- (340,800) (340,800)
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance, December 31, 2005 ..... -- $ -- 1,200,000 $ 12,000 $ 16,200 $(8,446,500) $(8,418,300)
=========== =========== =========== =========== =========== =========== ===========
6
CNS RESPONSE, INC.
NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS AND BASIS OF PRESENTATION
The unaudited condensed financial statements of CNS Response, Inc.
("CNS," "we," "us," "our" or the "Company") have been prepared pursuant
to the rules and regulations of the Securities and Exchange Commission
and include all the accounts of CNS. Certain information and note
disclosures, normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United
States, have been condensed or omitted pursuant to such rules and
regulations. The unaudited condensed financial statements reflect all
adjustments, consisting only of normal recurring adjustments, necessary
for a fair statement of our financial position as of December 31, 2006
and our operating results, cash flows, and changes in stockholders'
equity for the interim periods presented. The September 30, 2006
balance sheet was derived from our audited financial statements but
does not include all disclosures required by accounting principles
generally accepted in the United States of America. These financial
statements and the related notes should be read in conjunction with our
financial statements and notes for the year ended September 30, 2006.
The preparation of financial statements in accordance with accounting
principles generally accepted in the United States requires management
to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities and revenues and expenses in the financial statements.
Examples of estimates subject to possible revision based upon the
outcome of future events include, among others, recoverability of
long-lived assets and goodwill, stock-based compensation, the allowance
for doubtful accounts, use and other taxes. Actual results could differ
from those estimates.
The results of operations for the three months ended December 31, 2006
are not necessarily indicative of the results that may be expected for
the future periods or for the year ending September 30, 2007.
2. LOANS TO RELATED PARTIES
In September 2006, the Company loaned certain officer and employees
$175,900 under notes bearing interest at 5.26% per annum, compounded
annually, and requiring payment on or after the earlier of (i) the date
that is two years following the date of the note, and (ii) a demand by
the Company following the date on which the Company has received an
aggregate of $5,000,000 from the sale(s) of its capital stock provided
the assigned value (as defined) of the stock at the time of the demand
is more than $1. The repayment of the notes may be made in one of the
following ways, or in combination of both:
7
(a) in cash, or
(b) by tendering Common Stock of the Company owned by the
borrower, with an aggregate Assigned Value (as defined) equal
to the principal and accrued interest on the notes.
Pursuant to the abovementioned terms, the Company demanded payment of
all such notes upon the completion of the merger and private placement
for $7,005,000 described in Note 9 below. The officer who owed the
Company $93,900, including interest, repaid the loan by tendering
78,219 shares of the Company's Common Stock. The other employees will
inform the Company within the next 5 business days whether they will
either remit cash or tender shares.
3. DEFERRED OFFERING COSTS
Direct, incremental costs incurred in connection with the private
placement for $7,005,000 described in Note 9 have been deferred and
capitalized in the accompanying balance sheet as of December 31, 2006.
Such costs will be recorded as a reduction of the proceeds received
from such offering.
4. CONVERTIBLE PROMISSORY NOTES
In October 2006, the Company and the note holders of certain of the
convertible promissory notes converted notes with an aggregate
outstanding balance of $3,061,700 and related accrued and unpaid
interest of $1,005,300 at September 30, 2006 into 5,993,515 shares of
the Company's Series A Preferred Stock. In addition, the exercise price
of warrants to purchase 1,062,116 shares of the Company's common stock
issued to such note holders was changed to $0.59 per share. The
preferred shares were converted into 5,993,515 shares of the Company's
common stock upon the merger with Strativation, Inc. described in Note
9.
5. NOTE PAYABLE TO NUPHARM DATABASE, LLC
In connection with the January 2000 Asset Purchase Agreement between
the Company and NuPharm Database, LLC (NuPharm) providing for the
purchase of a database and the assumption of certain NuPharm
liabilities, the Company issued a subordinated note payable to NuPharm
in the amount of $299,900 bearing interest at 8% per year and due on
March 15, 2004 and a warrant to purchase 2,800,000 shares of the
Company's common stock at $0.01 per share. The warrant was not
exercised before expiring in 2005.
In October 2006, the Company and NuPharm Database, LLC (NuPharm) agreed
to exchange the note and the related accrued interest for a 5% note in
the principal amount of $287,400, representing the outstanding
principal at September 30, 2006, and warrants to purchase 2,800,000
shares of the Company's common stock at $0.01 per share. The note is
due and payable on demand five years from the date of issuance, can be
prepaid by the Company at any time without penalties and is convertible
into shares of common stock of the Company upon the completion of a
financing (as defined) at a price per share of the common stock in the
financing. Such warrant was exercised in October 2006. The Company
valued the warrant at $309,550 using the Black-Scholes model and
recorded the excess of the value of the warrant over the forgiven
accrued interest of $119,700 as a prepaid asset. The excess is being
amortized as interest expense over the expected term of the new note of
one year.
8
Pursuant to the abovementioned terms, the note payable to NuPharm will
be converted into 239,500 shares of the Company's Common Stock upon the
completion of the merger and private placement for $7,005,000 described
in Note 9. Upon conversion, the entire balance of the unamortized
prepaid interest will be charged to interest expense.
6. PRIVATE PLACEMENT-SERIES B PREFERRED STOCK
In October and November, 2006, the Company sold 1,905,978 Units in a
private financing resulting in net proceeds of $1,891,100, net of
offering costs of $33,900. Each Unit consists of one share of Series B
Preferred Stock and 5-year warrants to purchase .6 shares of the
Company's common stock at $1.51 per share. Holders of the Series B
Preferred Stock will be entitled to receive non-cumulative dividends at
an annual rate of 4% when, as and if declared by the Board. Each share
of the Series B Preferred Stock initially converts into one share of
the Company's Common Stock at any time at the option of the holder.
However, each share of Series B Preferred Stock will automatically
convert into Common Stock at the then applicable conversion rate in the
event of (i) the sale of $5,000,000 or more of Common Stock or units
consisting of Common Stock and warrants in one or more related
transactions; (ii) the closing of an underwritten public offering with
a price equal or greater than $1.21 per share and net proceeds to the
Company of not less than $5,000,000, or (iii) upon the written consent
of the holders of the majority of the Series A Preferred (see below) in
the case of conversion of the Series A Preferred or the Series B
Preferred in the case of conversion of the Series B Preferred.
Pursuant to the abovementioned terms, the preferred shares were
converted into 1,905,978 shares of the Company's Common Stock upon the
completion of the merger and private placement for $10,125,000
described in Note 9.
7. STOCK-BASED COMPENSATION
On August 3, 2006, the Company adopted the CNS Response, Inc. 2006
Stock Incentive Plan (the "2006 Plan"). The 2006 Plan provides for the
issuance of awards in the form of restricted shares, stock options
(which may constitute incentive stock options (ISO) or nonstatutory
stock options (NSO)), stock appreciation rights and stock unit grants
to eligible employees, directors and consultants and is administered by
the board of directors. A total of 10 million shares of stock are
reserved for issuance under the 2006 Plan. As of December 31, 2006,
there were 4,136,103 million options and 183,937 restricted shares
outstanding under the 2006 Plan and 5,815,660 shares available for
issuance of awards.
9
The 2006 Plan provides that in any calendar year, no eligible employee
or director shall be granted an award to purchase more than 3 million
shares of stock. The option price for each share of stock subject to an
option shall be (i) no less than the fair market value of a share of
stock on the date the option is granted, if the option is an ISO, or
(ii) no less than 85% of the fair market value of the stock on the date
the option is granted, if the option is a NSO ; provided, however, if
the option is an ISO granted to an eligible employee who is a 10%
shareholder, the option price for each share of stock subject to such
ISO shall be no less than 110% of the fair market value of a share of
stock on the date such ISO is granted. Stock options have a maximum
term of ten years from the date of grant, except for ISOs granted to an
eligible employee who is a 10% shareholder, in which case the maximum
term is five years from the date of grant. ISOs may be granted only to
eligible employees.
The Company has adopted SFAS No. 123R (revised 2004), "Share-Based
Payment", and related interpretations. Under SFAS No. 123R, share-based
compensation cost is measured at the grant date based on the calculated
fair value of the award. The Company estimates the fair value of each
option on the grant date using the Black-Scholes model. The following
assumptions were made in estimating the fair value:
Dividend yield 0%
Risk-free interest rate 5.46%
Expected volatility 100%
Expected life 5 years
The expense is recognized over the employees' requisite service period,
generally the vesting period of the award. Compensation costs charged
to operations for the quarter ended December 31, 2006 amounted to $900.
Total unrecognized compensation costs related to non-vested stock-based
compensation as of December 31, 2006 amounted to $21,600. There were no
options issued or outstanding during the quarter ended December 31,
2005.
10
Option activity is as follows:
Weighted
Average
Number of Exercise
Shares Price
--------- ---------
Activity for the year ended
September 30, 2006
Outstanding at beginning of year .................... -- $ --
Granted ............................................. 4,000,403 0.13
Exercised ........................................... -- --
Forfeited ........................................... -- --
--------- ---------
Outstanding at end of year .......................... 4,000,403 0.13
--------- ---------
Activity for the quarter ended
December 31, 2006
Granted ............................................. 135,700 0.30
Exercised ........................................... -- --
Forfeited ........................................... -- --
--------- ---------
Outstanding at end of year .......................... 4,136,103 $ 0.14
========= =========
Weighted average fair value of options
granted during:
Year ended September 30, 2006 ....................... $ 0.09
=========
Quarter ended December 31, 2006 ..................... $ 0.27
=========
Following is a summary of the status of options outstanding at December
31, 2006:
Exercise Price Number of Shares Average Contractual Life
-------------- ---------------- ------------------------
$0.12 859,270 10 years
$0.132 3,112,545 10 years
$0.30 135,700 10 years
$0.59 28,588 10 years
11
8. NET LOSS PER SHARE
In accordance with SFAS 128, "Computation of Earnings Per Share," basic net
income (loss) per share is computed by dividing the net income (loss) to common
stockholders for the period by the weighted average number of common shares
outstanding during the period. Diluted net income (loss) per share is computed
by dividing the net income (loss) for the period by the weighted average number
of common and dilutive common equivalent shares outstanding during the period.
For the quarters ended December 31, 2006 and 2005, the Company has excluded all
common equivalent shares from the calculation of diluted net loss per share as
such securities are anti-dilutive.
Anti-dilutive common equivalent shares not included in the computation of
dilutive net loss per share are as follows:
Quarter ended December 31,
---------------------------------
2006 2005
----------- -----------
Convertible debt ................... -- 323,086,919
Preferred stock .................... 7,899,493 --
Warrants ........................... 4,271,414 2,496,063
Options ............................ 4,136,103 --
9. SUBSEQUENT EVENTS
On January 16, 2007, CNS, a California corporation, entered into an Agreement
and Plan of Merger (the "Merger Agreement") with the CNS Merger Corporation, a
California corporation ("MergerCo") and a wholly-owned subsidiary of
Strativation, Inc, a Delaware corporation ("Strativation"). Pursuant to the
Merger Agreement MergerCo would be merged with and into CNS, with CNS being the
surviving corporation (the "Merger"). On March 7, 2007, the Merger closed, CNS
became the wholly-owned subsidiary of Strativation, and Strativation changed its
name to CNS Response, Inc. Pursuant to the Merger, the issued and outstanding
shares of common stock of CNS were converted into an aggregate of 9,845,132
shares of Strativation's Common Stock, and the issued and outstanding shares of
Series A-1, A-2 and B preferred stock of CNS were converted into 5,189,294,
804,221 and 1,905,978 shares of Strativation's Common Stock, respectively. In
addition, options and warrants to purchase shares of preferred stock and common
stock of CNS were converted into options and warrants to purchase 4,136,103 and
4,271,414 shares of Strativation's Common Stock. Following the Merger, the
business conducted by Strativation is the business conducted by CNS before the
Merger.
The Merger has been accounted as a reverse merger under generally accepted
accounting principles. Therefore: (1) the consolidated financial statements of
Strativation for periods prior to the date of the merger will reflect only the
operations of CNS, and (2) the consolidated financial statements will present
the previously issued shares of Strativation as having being issued pursuant to
the Merger, and the shares of Common Stock of Strativation issued to the former
shareholders of CNS pursuant to the Merger as having been outstanding since
Strativation's inception. No goodwill or other intangible assets was recorded as
a result of the Merger. Immediately prior to the Merger, Strativation had no
material operations.
12
On March 7, 2007, Strativation completed the sale of 5,840,374 units at $1.20
per unit in a private placement transaction pursuant to Regulation D promulgated
under the Securities Act of 1933, as amended. Each unit consists of (i) of one
(1) share of the Common Stock of Strativation, and (ii) three-tenths (3/10) of a
five (5) year warrant to purchase one (1) share of Strativation's Common Stock
at $1.80 per share. Proceeds from the placement, net of estimated offering
costs, amounted to $6,172,000.
13
CNS RESPONSE, INC.
FINANCIAL STATEMENTS
FISCAL YEARS ENDED SEPTEMBER 30, 2006 AND 2005
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors
CNS Response, Inc.
We have audited the accompanying balance sheets of CNS Response, Inc. (the
"Company") as of September 30, 2006 and 2005, and the related statements of
operations and comprehensive loss, changes in stockholders' equity and cash
flows for each of the years in the two-year period ended September 30, 2006.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our 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 audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating 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 CNS Response, Inc. at September
30, 2006 and 2005, and the results of its operations and it cash flows for each
of the years in the two-year period ended September 30, 2006 in conformity with
accounting principles generally accepted in the United States of America.
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's continued operating losses, limited capital
and stockholders' deficit raise substantial doubt about its ability to continue
as a going concern. Management's plans in regard to this matter are also
described in Note 1. The accompanying financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
/s/ Cacciamatta Accountancy Corporation
Irvine, California
November 15, 2006
2
CNS RESPONSE, INC.
BALANCE SHEETS
SEPTEMBER 30, 2006 AND 2005
ASSETS 2006 2005
----------- -----------
CURRENT ASSETS:
Cash ............................................................ $ 204,900 $ 478,400
Accounts receivable (net of allowance for doubful accounts of
$4,800 in 2006 and $0 in 2005) ................................ 25,400 28,500
Prepaids ...................................................... 67,000 --
----------- -----------
Total current assets ................................... 297,300 506,900
----------- -----------
OTHER ASSETS:
Intangible assets (net of accumulated amortization of $538,200
in 2006 and $458,500 in 2005) ................................. 19,900 99,700
Loans to related parties ........................................ 161,100 --
Other assets (including loans to employees of $14,800 in 2006) .. 15,900 1,100
----------- -----------
TOTAL ASSETS ...................................................... $ 494,200 $ 607,700
=========== ===========
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable (including $8,000 in 2006 and $198,300 in
2005 to related parties) ...................................... $ 666,100 $ 682,600
Accrued liabilities ............................................. 248,700 282,900
Deferred compensation (including $58,000 in 2006 and
$1,274,500 in 2005 to related parties) ........................ 75,200 1,490,100
Accrued consulting fees (including $0 in 2006 and $41,100
in 2005 to related parties) ..................................... 136,700 833,200
Accrued interest (including $414,700 in 2006 and $301,800 in
2005 to related parties) ...................................... 1,156,500 1,002,600
Note payable to NuPharm Database, LLC ........................... 287,400 287,400
Convertible promissory notes payable (including $1,768,300 in
2006 and $1,257,000 in 2005 to related parties) ............... 3,116,700 2,616,700
Derivative instrument liability ................................. -- 1,489,700
----------- -----------
Total current liabilities .............................. 5,687,300 8,685,200
----------- -----------
COMMITMENTS AND CONTINGENT LIABILITIES (Note 10) .................. -- --
STOCKHOLDERS' DEFICIT:
Preferred stock, no par value; authorized, 20,000,000 shares ;
none outstanding in 2006 and 2005 ............................. -- --
Common stock, no par value; authorized, 80,000,000 shares;
issued and outstanding, 7,034,117 in 2006 and 1,200,000 in 2005 712,800 12,000
Additional paid-in capital ...................................... 2,117,200 16,200
Accumulated deficit ............................................. (8,023,100) (8,105,700)
----------- -----------
Total stockholders' deficit ............................ (5,193,100) (8,077,500)
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT ....................... $ 494,200 $ 607,700
=========== ===========
See accompanying notes to financial statements.
3
CNS RESPONSE, INC.
STATEMENTS OF OPERATIONS
YEARS ENDED SEPTEMBER 30, 2006 AND 2005
2006 2005
------------ ------------
REVENUES ..................................... $ 175,500 $ 127,400
============ ============
OPERATING EXPENSES:
Cost of revenues (including amortization
expense of $79,800 in 2006 and 2005) ..... 175,900 165,100
Research and development ................... 76,700 58,500
Sales and marketing ........................ 36,000 52,900
General and administrative ................. 1,671,100 811,800
------------ ------------
Total operating expenses .......... 1,959,700 1,088,300
------------ ------------
OPERATING LOSS ............................... (1,784,200) (960,900)
------------ ------------
OTHER INCOME (EXPENSE):
Interest expense, net ........................ (390,600) (330,700)
Gain (loss) on derivative instruments ........ 1,178,500 (212,500)
Gain on troubled debt restructuring .......... 1,079,700 --
------------ ------------
Total other income (expense) ...... 1,867,600 (543,200)
------------ ------------
INCOME (LOSS) BEFORE PROVISION FOR TAXES ..... 83,400 (1,504,100)
PROVISION FOR TAXES .......................... 800 800
------------ ------------
NET INCOME (LOSS) ............................ $ 82,600 $ (1,504,900)
============ ============
BASIC NET INCOME (LOSS) PER SHARE ............ $ 0.04 $ (1.25)
============ ============
DILUTED NET INCOME (LOSS) PER SHARE .......... $ 0.01 $ (1.25)
============ ============
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic ........................................ 1,967,226 1,200,000
============ ============
Diluted ...................................... 32,500,755 1,200,000
============ ============
See accompanying notes to financial statements.
4
CNS RESPONSE, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
YEARS ENDED SEPTEMBER 30, 2006 AND 2005
Additional
Common Stock Paid-in Accumulated
Shares Amount Capital Deficit Total
----------- ----------- ----------- ----------- -----------
BALANCE - October 1, 2004 ......................... 1,200,000 $ 12,000 $ 16,200 $(6,600,800) $(6,572,600)
Net loss for the year ended September 30, 2005 .... -- -- -- (1,504,900) (1,504,900)
----------- ----------- ----------- ----------- -----------
BALANCE - September 30, 2005 ...................... 1,200,000 12,000 16,200 (8,105,700) (8,077,500)
Reclassification of derivative instrument liability -- -- 343,100 -- 343,100
Issuance of stock for settlement of debt .......... 5,834,117 700,800 -- -- 700,800
Troubled debt restructured with related parties ... -- -- 1,388,000 -- 1,388,000
Fair value of options issued to employees and
consultants ..................................... -- -- 369,900 -- 369,900
Net income for the year ended September 30, 2006 .. -- -- -- 82,600 82,600
----------- ----------- ----------- ----------- -----------
BALANCE - September 30, 2006 ...................... 7,034,117 $ 712,800 $ 2,117,200 $(8,023,100) $(5,193,100)
=========== =========== =========== =========== ===========
See accompanying notes to financial statements.
5
CNS RESPONSE, INC.
STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 2006 AND 2005
2006 2005
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ............................................. $ 82,600 $(1,504,900)
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Amortization of intangible assets ........................... 79,800 79,800
Allowance for doubtful accounts ............................. 4,800 --
Gain (loss) on derivative instruments ....................... (1,178,500) 212,500
Gain on troubled debt restructuring ......................... (1,079,700) --
Stock-based compensation .................................... 369,900 --
Warrants issued for marketing costs ......................... -- 18,000
Changes in operating assets and liabilities: ................ -- --
Accounts receivable ....................................... (1,700) (10,100)
Prepaids .................................................. (67,000) --
Other assets .............................................. -- (800)
Accounts payable .......................................... 202,700 82,200
Accrued liabilities ....................................... 5,900 3,700
Deferred compensation ..................................... 298,800 297,300
Accrued consulting ........................................ 301,300 265,800
Accrued interest .......................................... 383,500 323,500
----------- -----------
Net cash used in operating activities ................ (597,600) (233,000)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans to employees ............................................ (175,900) --
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of convertible promissory notes ........ 500,000 499,500
----------- -----------
NET INCREASE (DECREASE) IN CASH ................................. (273,500) 266,500
CASH--Beginning of year ......................................... 478,400 211,900
----------- -----------
CASH--End of year ............................................... $ 204,900 $ 478,400
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION--
Cash paid during the period for:
Interest ...................................................... $ -- $ --
=========== ===========
Income taxes .................................................. $ 800 $ 800
=========== ===========
Common stock issued for settlement of troubled debt ........... $ 700,800 $ --
=========== ===========
See accompanying notes to financial statements.
6
CNS RESPONSE, INC.
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED SEPTEMBER 30, 2006 AND 2005
1. NATURE OF OPERATIONS
ORGANIZATION AND NATURE OF OPERATIONS--CNS Response, Inc. (the
"Company") was incorporated in California on January 11, 2000. The
Company utilizes a patented system that guides psychiatrists and other
physicians to determine a proper treatment for patients with mental,
behavioral and/or addictive disorders. The Company also intends to
identify, develop and commercialize new indications of approved drugs
and drug candidates for this patient population.
GOING CONCERN UNCERTAINTY-The Company has a limited operating history
and its operations are subject to certain risks and uncertainties
frequently encountered by rapidly evolving markets. These risks include
the failure to develop or supply technology or services, the ability to
obtain adequate financing, competition within the industry and
technology trends.
To date, the Company has financed its cash requirements primarily from
debt financings. It will be necessary for the Company to raise
additional funds. The Company's liquidity and capital requirements
depend on several factors, including the rate of market acceptance of
its services, the ability to expand and retain its customer base, its
ability to execute its current business plan and other factors.
The Company is in the process of offering to sell 7,500,000 Units at
$1.35 per unit. Each Unit is comprised of (i) one share of Common Stock
and one five year non-callable warrant to purchase three-tenths (3/10)
of one share of Common Stock at an exercise price of $2.00 per share.
We cannot assure such financing will be available on commercially
favorable terms or at all.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION--The financial statements of the Company have
been prepared on the accrual basis of accounting in conformity with
accounting principles generally accepted in the United States of
America.
USE OF ESTIMATES--The preparation of the financial statements requires
management to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenue and expense, and related
disclosure of contingent assets and liabilities. On an ongoing basis,
the Company evaluates its estimates, including those related to revenue
recognition, doubtful accounts, intangible assets, income taxes,
contingencies and litigation. The Company bases its estimates on
historical experience and on various other assumptions that are
believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources.
Actual results may differ materially from these estimates.
7
CASH--The Company deposits its cash with major financial institutions
and may at times exceed federally insured limits. The Company believes
that the risk of loss is minimal. To date, the Company has not
experienced any losses related to cash deposits with financial
institutions.
FAIR VALUE OF FINANCIAL INSTRUMENTS--The Company's short-term financial
instruments, including cash, accounts receivable and accounts payable
are carried at cost. The cost of the short-term financial instruments
approximates fair value due to their relatively short maturities. The
carrying value of long-term financial instruments, including notes
payable, approximates fair value as the interest rates approximate
current market rates of similar debt obligations.
ACCOUNTS RECEIVABLE--The Company estimates the collectibility of
customer receivables on an ongoing basis by reviewing past-due invoices
and assessing the current creditworthiness of each customer. Allowances
are provided for specific receivables deemed to be at risk for
collection.
INTANGIBLE ASSETS--Intangible assets consist of a purchased database
recorded at cost and amortized over an estimated useful life of seven
years.
LONG-LIVED ASSETS--As required by Statement of Financial Accounting
Standards ("SFAS") No. 144, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL
OF LONG-LIVED ASSETS, the Company reviews the carrying value of its
long-lived assets whenever events or changes in circumstances indicate
that the historical cost-carrying value of an asset may no longer be
appropriate. The Company assesses recoverability of the carrying value
of the asset by estimating the future net cash flows expected to result
from the asset, including eventual disposition. If the future net cash
flows are less than the carrying value of the asset, an impairment loss
is recorded equal to the difference between the asset's carrying value
and fair value. No impairment loss was recorded for the years ended
September 30, 2006 and 2005.
REVENUES--The Company recognizes revenue as the related services are
delivered.
RESEARCH AND DEVELOPMENT EXPENSES--The Company charges all research and
development expenses to operations as incurred.
ADVERTISING EXPENSES--The Company charges all advertising expenses to
operations as incurred.
STOCK-BASED COMPENSATION--The Company has adopted SFAS No. 123R,
SHARE-BASED PAYMENT (revised 2004) and related interpretations which
establish the accounting for equity instruments exchanged for employee
services. Under SFAS No. 123R, share-based compensation cost is
measured at the grant date based on the calculated fair value of the
award. The expense is recognized over the employees' requisite service
period, generally the vesting period of the award.
INCOME TAXES--The Company accounts for income taxes to conform to the
requirements of SFAS No. 109, ACCOUNTING FOR INCOME TAXES. Under the
provisions of SFAS 109, an entity recognizes deferred tax assets and
liabilities for future tax consequences of events that have already
been recognized in the Company's financial statements or tax returns.
The measurement of deferred tax assets and liabilities is based on
provisions of the enacted tax law. The effects of future changes in tax
laws or rates are not anticipated. Valuation allowances are established
when necessary to reduce deferred tax assets to the amount expected to
be realized.
8
COMPREHENSIVE INCOME (LOSS) -- SFAS No. 130, REPORTING COMPREHENSIVE
INCOME, requires disclosure of all components of comprehensive income
(loss) on an annual and interim basis. Comprehensive income (loss) is
defined as the change in equity of a business enterprise during a
period from transactions and other events and circumstances from
non-owner sources. The Company's comprehensive income (loss) is the
same as its reported net income (loss) for the years ended September
30, 2006 and 2005.
INCOME (LOSS) PER SHARE -- Basic and diluted net income (loss) per
share has been computed using the weighted average number of shares of
common stock outstanding during the period.
SEGMENT INFORMATION--The Company uses the management approach for
determining which, if any, of its products and services, locations,
customers or management structures constitute a reportable business
segment. The management approach designates the internal organization
that is used by management for making operating decisions and assessing
performance as the source of any reportable segments. Management uses
one measurement of profitability and does not disaggregate its business
for internal reporting and therefore operates in a single business
segment.
3. LOANS TO RELATED PARTIES
In September 2006, the Company loaned certain officers and employees
$175,900 under notes bearing interest at 5% per annum, compounded
annually, and requiring payment on or after the earlier of (i) the date
that is two years following the date of the note, and (ii) a demand by
the Company following the date on which the Company has received an
aggregate of $5,000,000 from the sale(s) of its capital stock provided
the assigned value (as defined) of the stock at the time of the demand
is more than $1. Two of the borrowing employees are related parties as
they own more than 10% of the common stock of the Company.
4. TROUBLED DEBT RESTRUCTURING--DEFERRED COMPENSATION AND ACCRUED
CONSULTING FEES
At September 30, 2005, the Company owed certain employees and
consultants deferred compensation, accrued consulting fees, other
compensation-related liabilities and accrued interest thereon
aggregating $2,480,900. Due to financial difficulties experienced by
the Company, in August and September 2006, certain employees and
consultants to whom the Company owed an aggregate of $3,199,400 forgave
approximately 80% of the debt and accepted 5,834,117 shares of the
Company's common stock (of which 182,952 were restricted), and warrants
and options to purchase an aggregate of 270,638 shares of the Company's
common stock at an exercise price of $0.59 per share in full settlement
of the Company's remaining obligations. On the date of transfer, the
amounts due to employees and consultants exceeded the aggregate
estimated fair value (based on an estimate of $0.12 per share) of the
shares, warrants and options transferred by $2,467,700. The gain
attributable to employees considered related parties of $1,388,000 has
been treated as a capital transaction and included in additional
paid-in capital in the accompanying financial statements. The remaining
gain of $1,079,700 has been recorded as a gain on troubled debt
restructuring in the accompanying financial statements.
9
5. NOTES PAYABLE TO NUPHARM DATABASE, LLC
In connection with the January 2000 Asset Purchase Agreement between
the Company and NuPharm Database, LLC (NuPharm) providing for the
purchase of a database and the assumption of certain NuPharm
liabilities, the Company issued a subordinated note payable to NuPharm
in the amount of $299,923 bearing interest at 8% per year and due on
March 15, 2004 and a warrant to purchase 2,800,000 shares of the
Company's common stock at $0.01 per share. The warrant was not
exercised before expiring in 2005.
In October 2006, the Company and NuPharm agreed to exchange the note
for a 5% note in the principal amount of $287,423, representing the
outstanding principal at September 30, 2006. The note is due and
payable on demand five years from the date of issuance, can be prepaid
by the Company at any time without penalties and is convertible into
shares of common stock of the Company upon the completion of a
financing (as defined) at a price per share of the common stock in the
financing. Accrued interest on the original note of $119,700 at
September 30, 2006 was forgiven by NuPharm in exchange for the issuance
of a new warrant to purchase 2,800,000 shares of the Company's common
stock at $0.01 per share. Such warrant was exercised in October 2006.
6. CONVERTIBLE PROMISSORY NOTES
The Company has issued convertible promissory notes with detachable
warrants from time to time to fund its operations. The notes bear
interest at 8% per year, compounded annually, and are payable on
demand. The terms of the notes provide for the (i) conversion of
principal and accrued interest into the same type of securities issued
by the Company upon a qualified institutional financing, the amount of
which financing varies between notes and ranges from $1 to $4 million,
and (ii) conversion price to be equal to the same price as the shares
sold in the financing. The notes provide for an aggregate of $2,196,000
in principal to convert automatically and $920,700 to convert at the
note holders' options based upon certain financing requirements (as
defined).
Due to the variable conversion price, the notes were potentially
convertible into an unlimited number of common shares. Accordingly, the
Company has accounted for the notes under SFAS 133 and EITF 00-19 which
require the beneficial conversion feature to be treated as an embedded
derivative, recording a liability equal to the estimated fair value of
the conversion option. In addition, all non-employee warrants that are
exercisable during the period the notes were potentially convertible
into an unlimited number of common shares are required to be recorded
as liabilities at their fair value. The fair value of the beneficial
conversion feature and the warrants were estimated using the
Black-Scholes option pricing model. The fair value of the beneficial
conversion feature and the warrants and options was recomputed each
reporting period with the change in fair value recorded as a gain or
loss on derivative instruments.
In August 2006, the Company amended its Articles of Incorporation
whereby the number of authorized shares was increased to 100,000,000,
of which 80,000,000 are designated as common shares and 20,000,000 are
designated as preferred shares.
10
In October 2006, the Company and the note holders agreed to modify the
terms of the original agreements such that all convertible notes and
related accrued interest were converted into 6,111,848 shares of the
Company's preferred shares and to change the exercise price for
warrants to purchase 1,134,078 shares of the Company's common stock to
$0.59 per share. The preferred shares are convertible into 6,111,848
shares of the Company's common stock.
Since at September 30, 2006, the number of authorized shares is
sufficient to accommodate the conversion of all notes, related accrued
interest and outstanding warrants, the Company has reclassified the
derivative instrument liability with an estimated fair value of
$343,100 to equity in the accompanying financial statements.
7. STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY)
COMMON AND PREFERRED STOCK
As of September 30, 2006, the Company was authorized to issue
100,000,000 shares of two classes of stock, 80,000,000 of which are
designated as common shares and 20,000,000 of which are designated as
preferred shares.
During August and September 2006, the Company issued 5,834,117 shares
of its common stock with a fair value of $700,800 in connection with
the restructuring of certain debt. See Note 4.
There are no shares of Preferred Stock outstanding as of September 30,
2006. In October 2006, the Company issued 6,111,848 shares of its
preferred shares in connection with the conversion of notes payable.
See Note 6.
STOCK-OPTION PLAN
On August 3, 2006, the Company adopted the CNS Response, Inc. 2006
Stock Incentive Plan (the "2006 Plan"). The 2006 Plan provides for the
issuance of awards in the form of restricted shares, stock options
(which may constitute incentive stock options(ISO) or nonstatutory
stock options (NSO)), stock appreciation rights and stock unit grants
to eligible employees, directors and consultants and is administered by
the board of directors. A total of 10 million shares of stock are
reserved for issuance under the 2006 Plan. As of September 30, 2006,
there were 4,000,403 million options and 183,937 restricted shares
outstanding under the 2006 Plan and 5,815,660 shares available for
issuance of awards.
The 2006 Plan provides that in any calendar year, no eligible employee
or director shall be granted an award to purchase more than 3 million
shares of stock. The option price for each share of stock subject to an
option shall be (i) no less than the fair market value of a share of
stock on the date the option is granted, if the option is an ISO, or
(ii) no less than 85% of the fair market value of the stock on the date
the option is granted, if the option is a NSO ; provided, however, if
the option is an ISO granted to an eligible employee who is a 10%
shareholder, the option price for each share of stock subject to such
ISO shall be no less than 110% of the fair market value of a share of
stock on the date such ISO is granted. Stock options have a maximum
term of ten years from the date of grant, except for ISOs granted to an
eligible employee who is a 10% shareholder, in which case the maximum
term is five years from the date of grant. ISOs may be granted only to
eligible employees.
11
The Company has adopted SFAS No. 123R (revised 2004), "Share-Based
Payment", and related interpretations. Under SFAS No. 123R, share-based
compensation cost is measured at the grant date based on the calculated
fair value of the award. The Company estimates the fair value of each
option on the grant date using the Black-Scholes model. The following
assumptions were made in estimating the fair value:
Dividend yield 0%
Risk-free interest rate 5.46%
Expected volatility 100%
Expected life 5 years
The expense is recognized over the employees' requisite service period,
generally the vesting period of the award. Compensation costs charged
to operations in 2006 amounted to $369,900. There were no options
issued or outstanding during 2005.
Weighted
Average
Number of Exercise
Shares Price
--------- ---------
Outstanding at October 1, 2005 ......................... -- --
Granted ................................................ 4,000,403 $ 0.13
Exercised .............................................. -- --
Forfeited .............................................. -- --
--------- ---------
Outstanding at September 30, 2006 ...................... 4,000,403 $ 0.13
========= =========
Options exercisable at September 30, 2006 .............. 3,980,403 $ 0.13
========= =========
Weighted average fair value of options
granted during 2006 ................................. $ 0.09
=========
Following is a summary of the status of options outstanding at
September 30, 2006:
Average Average
Exercise Number Contractual Exercise
Price of Shares Life Price
- -------------------------------------------------------------------------
$ 0.12 859,270 10 years $ 0.12
$ 0.132 3,112,545 10 years $ 0.13
$ 0.59 28,588 10 years $ 0.59
- -------------------------------------------------------------------------
At September 30, 2006, all of the above options are fully vested,
except for 20,000 options at an exercise price of $0.12. Such options
vest over 12 months.
12
WARRANTS TO PURCHASE COMMON STOCK
At September 30, 2006, there were warrants outstanding to purchase
3,113,110 shares of the Company's common stock at exercise prices
ranging from $0.01 to $0.59 with a weighted average exercise price of
$0.28. The warrants expire at various times through 2016.
As described in Note 6, these warrants were initially recorded as a
liability at their fair value. Fair value was computed using the
Black-Scholes pricing model at each reporting period with the change in
fair value recorded as a gain or loss on derivative instruments. For
the year ended September 30, 2006, the Company recorded a gain on
derivative instruments amounting to $1,178,500. For the year ended
September 30, 2005, the Company recorded a loss on derivative
instruments of $212,500. As of September 30, 2006, the warrants were
reclassified to equity since the number of authorized shares was
increased to accommodate the exercise of all warrants and settlement of
warrants was within the control of the Company.
8. INCOME TAXES
The Company accounts for income taxes under the liability method.
Deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities,
and are measured using the enacted tax rates and laws that will be in
effect when the differences are expected to reverse. We provide a
valuation allowance to reduce our deferred tax assets to their
estimated realizable value.
Reconciliations of the provision (benefit) for income taxes to the
amount compiled by applying the statutory federal income tax rate to
profit (loss) before income taxes is as follows for each of the years
ended September 30:
2006 2005
---- ----
Federal income tax (benefit) at statuatory
rates 34% (34%)
Non-recognizable (gains) losses from
derivative instruments (483%) 5%
Gain from troubled debt restructured with
related parties 566% 0%
Change in valuation allowance (117%) 29%
State income taxes 1% 0%
Income tax provision 1% 0%
13
Temporary differences between the financial statement carrying amounts
and tax bases of assets and liabilities that give rise to significant
portions of deferred taxes relate to the following at September 30,
2006 and 2005:
2006 2005
----------- -----------
Deferred income tax assets:
Net operating loss carryforward ................ $ 1,851,000 $ 1,054,300
Deferred interest, consulting and compensation
liabilities ................................. 462,500 1,410,100
Amortization ................................... 215,400 183,400
----------- -----------
2,528,900 2,647,800
Deferred income tax liabilities--other ........... (34,600) (81,300)
Deferred income tax asset--net before valuation
----------- -----------
allowance ...................................... 2,494,300 2,566,500
Valuation allowance .............................. (2,494,300) (2,566,500)
----------- -----------
Deferred income tax asset--net ................... $ -- $ --
=========== ===========
Current and non-current deferred taxes have been recorded on a net
basis in the accompanying balance sheet. As of September 30, 2006 we
have net operating loss carryforwards of approximately $4,627,600. The
net operating loss carryforwards expire by 2026. Utilization of net
operating losses and capital loss carryforwards may be subject to the
limitations imposed by Section 382 of the Internal Revenue Code. The
Company has placed a valuation allowance against the deferred tax
assets in excess of deferred tax liabilities due to the uncertainty
surrounding the realization of such excess tax assets. Management
periodically evaluates the recoverability of the deferred tax assets
and the level of the valuation allowance. At such time as it is
determined that it is more likely than not that the deferred tax assets
are realizable, the valuation allowance will be reduced accordingly.
9. EARNINGS PER SHARE
In accordance with SFAS 128, "Computation of Earnings Per Share," basic
net income (loss) per share is computed by dividing the net income
(loss) to common stockholders for the period by the weighted average
number of common shares outstanding during the period. Diluted net
income (loss) per share is computed by dividing the net income (loss)
for the period by the weighted average number of common and dilutive
common equivalent shares outstanding during the period. The number of
dilutive common equivalent shares for the year ended September 30, 2006
has been determined in accordance with the treasury-stock method. For
the year ended September 30, 2005, the Company has excluded all common
equivalent shares from the calculation of diluted net loss per share as
such securities are anti-dilutive.
14
A summary of the net income (loss) and shares used to compute net
income (loss) per share is as follows:
2006 2005
------------- -------------
Net income (loss) for computation of basic net income (loss)
per share ................................................... $ 82,600 $ (1,504,900)
Add interest expense relating to convertible debt ............. 297,800 --
------------- -------------
Net income (loss) for computation of dilutive net income (loss)
per share ................................................... $ 380,400 $ (1,504,900)
Basic net income (loss) per share ............................. $ 0.04 $ (1.25)
============= =============
Diluted net income (loss) per share ........................... $ 0.01 $ (1.25)
============= =============
Basic weighted average shares outstanding ..................... 1,967,226 1,200,000
Dilutive common equivalent shares ............................. 30,533,528 --
------------- -------------
Diluted weighted average common shares ........................ 32,500,755 1,200,000
============= =============
Anti-dilutive common equivalent shares not included in the
computation of dilutive net loss per share:
Convertible debt ......................................... -- 323,086,919
Warrants ................................................. 1,162,705 2,496,063
Options .................................................. 3,112,145
10. COMMITMENTS AND CONTINGENT LIABILITIES
LITIGATION--The Company is subject to legal proceedings and claims,
which arise in the ordinary course of its business. The Company
believes that although there can be no assurances as to the disposition
of the proceedings, based upon information available to the Company at
this time, the expected outcome of these matters would not have a
material impact on the Company's results of operations or financial
condition.
RENT EXPENSE--The Company leases its headquarters under an operating
lease expiring in April 2007 and requiring monthly rentals of $3,000.
Total rental expense for the year ended September 30, 2006 and 2005 was
$8,300 and $7,600, respectively.
11. SIGNIFICANT CUSTOMERS
For the period ended September 30, 2006, five customers accounted for
75% of the Company's revenue and 29% of accounts receivable at
September 30, 2006.
12. RELATED PARTY TRANSACTIONS
Convertible promissory notes to related parties amounted to $1,768,300
and $1,257,000 at September 30, 2006 and 2005, respectively. Accrued
interest to related parties amounted to $414,300 and $301,800 at
September 30, 2006 and 2005, respectively. Interest expense to related
parties amounted to $112,900 and $76,300 for the years ended September
30, 2006 and 2005, respectively.
15
Consulting expenses to a director amounted to $10,000 and $40,000 for
the years ended September 30, 2006 and 2005, respectively.
As described in Note 4, in August 2006 the Company and two of its
employees, who are significant shareholders, entered into an agreement
whereby the two employees received 4,362,652 shares of the Company's
common stock, warrants to purchase 242,050 shares of the Company's
common stock at $0.59 per share and options to purchase 28,588 shares
of the Company's common stock at $0.59 per share in full settlement of
debt aggregating $1,943,100. On the date of transfer, the amounts due
to employees exceeded the aggregate fair value (based on an estimate of
$0.12 per share) of the shares, warrants and options transferred by
$1,388,000. The gain has been treated as a capital transaction and
included in additional paid-in capital in the accompanying financial
statements.
13. SUBSEQUENT EVENTS
In October 2006, NuPharm (see Note 5) exercised the warrant to purchase
2,800,000 shares of the Company's common stock at a price of $0.01 per
share.
In October, 2006, the Company sold 1,905,505 Units in a private
financing resulting in net proceeds of $1,924,560. Each Unit consists
of one share of Series B Preferred Stock and 5-year warrants to
purchase .6 shares of the Company's common stock at $1.51 per share.
Holders of the Series B Preferred Stock will be entitled to receive
non-cumulative dividends at an annual rate of 4% when, as and if
declared by the Board. Each share of the Series B Preferred Stock
initially converts into one share of the Company's Common Stock at any
time at the option of the holder. However, each share of Series B
Preferred Stock will automatically convert into Common Stock at the
then applicable conversion rate in the event of (i) the sale of
$5,000,000 or more of Common Stock or units consisting of Common Stock
and warrants in one or more related transactions; (ii) the closing of
an underwritten public offering with a price equal or greater than
$1.21 per share and net proceeds to the Company of not less than
$5,000,000, or (iii) upon the written consent of the holders of the
majority of the Series A Preferred (see below) in the case of
conversion of the Series A Preferred or the Series B Preferred in the
case of conversion of the Series B Preferred.
In October 2006, the Company and the note holders of certain of the
convertible promissory notes described in Note 6 converted promissory
notes with an aggregate outstanding balance of $3,061,700 and related
accrued and unpaid interest of $1,005,300 at September 30, 2006 into
5,993,515 shares of the Company's Series A Preferred Stock. In
addition, the exercise price of warrants to purchase 1,062,116 shares
of the Company's common stock was changed to $0.59 per share. The
preferred shares are convertible into 5,993,515 shares of the Company's
common stock.
16