Cavitation Technologies, Inc. - Annual Report: 2012 (Form 10-K)

We became a public company through a share exchange that was effected in October 2008. The first day of public trading of our stock was November 11, 2008.  Since our fiscal year end was changed to June 30, public trading of our stock began in the second quarter of fiscal 2009.  As of September 20, 2011, there were approximately 1100 holders of record of our Common Stock.  This does not reflect the number of persons or entities who hold stock in nominee or "street" name through various brokerage firms.

We have neither declared nor paid any dividends on our Common Stock in the preceding two fiscal years. We currently intend to retain future earnings to fund ongoing operations and finance the growth and development of our business and, therefore, do not anticipate declaring or paying cash dividends on our Common Stock for the foreseeable future. Any future decision to declare or pay dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements, and such other factors as the Board of Directors deems relevant. In addition, certain of our debt facilities contain restrictions on the declaration and payment of dividends.

None

Since our previous disclosure in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2012, filed on May 16, 2012, the following is our unregistered security activity.

8

Issuance of Common Stock for Conversion of Debt

On April 3, 2012, we issued 60,096 shares of common stock to Gel Properties, LLC, an accredited investor, as conversion of $1,000 of outstanding convertible notes. On April 17, 2012, we issued 60,332 shares of common stock to Gel Properties, LLC as conversion of $1,000 of outstanding convertible notes. On April 19, 2012, we issued 66,365 shares of common stock to Gel Properties, LLC as conversion of $1,100 of outstanding convertible notes. On April 23, 2012, we issued 267,559 shares of common stock to Gel Properties, LLC as conversion of $4,800 of outstanding convertible notes. On April 23, 2012, we issued 113,311 shares of common stock to Gel Properties, LLC as conversion of $2,033 of accrued interest. On June 6, 2012, a conversion request was submitted by the Prolific Group, LLC for $21,450 of outstanding convertible notes corresponding to 1,500,000 shares of common stock. These shares were subsequently returned to the Company in the first quarter of fiscal 2013, and the note of $25,000 was paid in full in two payments of $15,000 on July 12 and $10,000 on August 7 plus a pre-payment premium of $12,500. These shares were issued in reliance on Section 4(2) of the Securities Act of 1933, as amended . These shares were not offered via general solicitation to the public.. No sales commissions or other remuneration was paid in connection with these issuances.

On June 3, 2011, we issued 200,000 shares of common stock with a recorded value of $4,629 to Tripod Group, LLC, an accredited investor, as a break-up fee for a financing arrangment. The shares were issued in reliance on Section 4(2) of the Securities Act of 1933, as amended. The shares were not offered via general solicitation to the public . The Company issued rule 144 shares in connection with these issuances. No sales commissions or other remuneration was paid in connection with this issuance.

Not applicable for smaller reporting companies.

Hydrodynamic Technology, Inc. was incorporated January 29, 2007 as a California corporation. It is a wholly owned subsidiary of Cavitation Technologies, Inc., a Nevada corporation originally incorporated under the name Bio Energy, Inc. We design and engineer environmentally friendly technology based systems that are designed to serve large, growing, global markets such as vegetable oil refining, renewable fuels, water treatment, algae oil extraction, water-oil emulsions and crude oil yield enhancement.  Our systems are designed to process industrial liquids at a lower cost and higher yield than conventional technology. We are a process and product development firm that has developed, patented, and commercialized proprietary technology

CTi has developed, patented, and commercialized proprietary technology that can be used for processing of industrial fluids. CTi's patented Nano Reactor® is the critical components of the CTi Nano Neutralization® System which is commercially proven to reduce operating costs and increase yields in processing oils and fats. CTi has two issued patents relating to our Nano Reactor® systems and has filed several national and international patents to employ its proprietary technology in applications including, vegetable oil refining, waste water treatment, algae oil extraction, and alcoholic beverage enhancement.

9

During the year ended June 30, 2012, we recorded revenue of $187,216. Our cumulative loss since inception on January 29, 2007 is $18,597,791 including $11,666,060 in common stock issued for services. Cumulative net cash used in operating activities of $3,652,351 was funded largely with $4,229,699 in cash from financial activities including proceeds of $725,000 from the sale of preferred stock, $471,212 from the sale of convertible notes, $2,139,690 from the sale of common stock and $349,276 in a bank loan.  

As a Development Stage company, we present a Plan of Operation for the next twelve months. We are engaged in merchandising our Neutralization System which is designed to help refine vegetable oils such as soybean, canola, and rapeseed.  Our near term goal is to continue to merchandise our systems through our partner, Desmet Ballestra. We have not generated significant revenue and, from January 29, 2007, (inception), through June 30, 2012, generated a net loss of $18,597,791.  We also have negative cash flow from operations and negative net equity. The accompanying financial statements have been prepared in conformity with generally accepted accounting principles which contemplate continuation of the Company as a going concern.

The accompanying financial statements have been prepared in conformity with generally accepted accounting principles which contemplate continuation of the Company as a going concern. The Company has not generated significant revenue and from January 29, 2007, (inception) through June 30, 2012 recorded cumulative revenue of $777,142 and a cumulative net loss of $18,597,791. To date, cumulative negative cash flow from operations of $3,652,351 was funded largely with $2.8 million in equity. Total Stockholder's Deficit at June 30, 2012 was $1,963,972.

Management's plan is to generate income from operations by licensing our technology globally through our strategic partner, the Desmet Ballestra Group. Desmet has agreed to provide us limited advance against sales payments. As of June 30 and August 30, 2012, cumulative advances received amounted to $125,000 and $375,000 respectively. These funds pay maturing debt plus a portion of operational expenses on a monthly basis. Desmet shall be entitled to immediately terminate the present agreement in case the claims of current US Patent Application Number 12/484,981 are not granted as such or are cancelled. In addition, Desmet may terminate the agreement on August 1 of any particular year if they have not installed at least 6 Nano Reactor® devices in the previous 12 month period. CTi may terminate the Agreement for material default. This Agreement supersedes a previous agreement dated November 1, 2010, amended on June 1, 2011 and on September 2, 2011. In addition to these advances, we anticipate that we will need additional funding, and we will attempt to raise additional debt and/or equity financing to fund operations and to provide additional working capital. However, there is no assurance that such financing will be consummated or obtained in sufficient amounts necessary to meet the Company's needs, or that the Company will be able to meet its future contractual obligations. Should management fail to obtain such financing, the Company may curtail its operations. For a more detailed discussion of our plan, please review to Part I, Item 1, Business.

The accompanying consolidated financial statements do not include adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from an inability of the Company to continue as a going concern. As a result of the aforementioned factors, our independent auditors, in their report on our audited financial statements for the fiscal year ended June 30, 2012, expressed substantial doubt about our ability to continue as a going concern.

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of revenues and expenses. The accounting policies and estimates described below are those CTi considers most critical in preparing its consolidated financial statements. The following is a review of the accounting policies and estimates that include significant judgments made by management using information available at the time the estimates are made. However, these estimates could change materially if different information or assumptions were used instead.

10

Note 3 to the financial statements includes a summary of significant accounting policies, estimates, and methods used in the preparation of CTi's financial statements. Accounting estimates are an integral part of the preparation of financial statements and are based on judgments by management using its knowledge and experience about the past and current events and assumptions regarding future events, all of which we consider to be reasonable. These judgments and estimates reflect the effects of matters that are inherently uncertain and that affect the carrying value of our assets and liabilities, the disclosure of contingent liabilities and reported amounts of expenses during the reporting period.

Revenue from the sale of our Nano Reactor® Systems is recognized when persuasive evidence of an agreement exists; delivery has occurred, including transfer of title and risk of loss for product sales, or services have been rendered for service revenues; the price to the buyer is fixed or determinable; and collectability is reasonably assured. The Company employs the Milestone Method of Revenue Recognition. Accounting Standard Codification 605-28-15 describes the Milestone Method as pertaining to R&D deliverables under which the Company satisfies its performance obligations over a period of time and which a portion or all of the consideration is contingent upon uncertain future events or circumstances. Revenue from the licensing of our Nano Reactor® System includes non-refundable license fees that are triggered upon achievement of a specific event. For agreements that provide for milestone payments, such as our agreement with Desmet Ballestra, we adopted ASC 605-28-25, Revenue Recognition, Milestone Method.

Management believes that the accounting estimate related to the recoverability of its intangible and long-lived assets is a "critical accounting estimate" because significant changes in the assumptions used to develop the estimates could materially affect key financial measures, including net income and non-current assets.

Testing intangible and long-lived assets for impairment involves a high degree of judgment due to the assumptions that underlie the undiscounted cash flows analysis. In accordance with ASC 350-30, we evaluated long-lived assets for impairment whenever events or changes in circumstances indicate that the net book value may not be recoverable. When such factors and circumstances exist, we compare the projected undiscounted future cash flows associated with the related asset or group of assets over their estimated useful lives against their respective carrying amount. Impairment, if any, is based on the excess of the carrying amount over the fair value based on market value when available or discounted expected cash flows of those assets and is recorded in the period in which the determination is made. Management believes there is no impairment of its long-lived assets. There can be no assurance, however, that market conditions will not change or demand for our products under development will continue. Either of these could result in future impairment of long-lived assets.

We account for our share-based compensation in accordance ASC 718-20. Stock-based compensation cost is measured at the grant date based on the estimated fair value of the award and is recognized as an expense over the requisite vesting period. 

Determining the fair value of share-based awards at the measurement date requires judgment, including estimating the expected term that stock options and warrants will be outstanding prior to exercise, the associated volatility, and the expected dividends. CTi estimates the fair value of options granted using the Black-Scholes valuation model. The expected life of the options used in this calculation is the period the options are expected to be outstanding and has been determined based on historical exercise experience. Expected stock price volatility is based on the historical volatility of CTi's stock for a period approximating the expected life, and the risk-free interest rate is based on the implied yield available on US Treasury zero-coupon issues approximating the expected life. Judgment is also required in estimating the amount of share-based awards that will be forfeited prior to vesting. CTi believes that these assumptions are "critical accounting estimates" because significant changes in the assumptions used to develop the estimates could materially affect key financial measures including net income/(loss).

11

Income Taxes

Management believes that the accounting estimate related to income taxes is a "critical accounting estimate" because significant judgment is required in interpreting tax regulations in the US, evaluating CTi's uncertain tax positions, and assessing the likelihood of realizing certain tax benefits. Actual results could differ materially from those judgments, and changes in judgments could materially affect CTi's consolidated financial statements.

ASC 740-10 prescribes a recognition threshold that a tax position is required to meet before being recognized in the financial statements and provides guidance on recognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition issues. We measure and record uncertain tax positions by establishing a threshold for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  Only tax positions meeting the more-likely-than-not recognition threshold at the effective date may be recognized or continue to be recognized.

In the normal course of business, CTi may be audited by federal and state tax authorities. The ultimate settlement of any particular issue with the applicable taxing authority could have a material impact on CTi's financial statements.

As a Development Stage Enterprise, we have provided a Plan of Operation herein. Although there is no obligation for a Development Stage Company to provide a discussion of Results of Operations, below is an abbreviated summary comparing fiscal 2012 and fiscal 2011.