Fuse Medical, Inc. - Quarter Report: 2016 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549 

FORM 10-Q

For the quarterly period ended: September 30, 2016 

Commission File Number: 000-10093

(817) 439-7025

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x NO ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x NO ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO x

As November 11, 2016, 6,890,808 shares of the registrant’s common stock, were outstanding.

FUSE MEDICAL, INC.

FORM 10-Q

INDEX

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

FUSE MEDICAL, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these condensed consolidated financial statements.

FUSE MEDICAL, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements.

FUSE MEDICAL, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY (DEFICIT)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2016

(Unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements.

FUSE MEDICAL, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Note 1. Nature of Operations and Liquidity

Overview

Fuse Medical, Inc. (together with its subsidiaries, the “Company” or “Fuse Medical”) was formed in Delaware on July 18, 2012 as Fuse Medical, LLC. Fuse Medical V, LP was formed in Texas on November 15, 2012 and upon formation was owned 59% by Fuse Medical, LLC. Fuse Medical VI, LP was formed in Texas on January 31, 2013 and upon formation was owned 59% by Fuse Medical, LLC. On February 12, 2015, Certificates of Termination were filed for Fuse Medical V, LP and Fuse Medical VI, LP. On February 20, 2015, a Certificate of Cancellation was filed in Delaware, and on August 5, 2015, a Certificate of Withdrawal was filed in Texas, for Fuse Medical, LLC.

On December 18, 2013, Fuse Medical, LLC entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Golf Rounds.com, Inc. (the “Registrant”), Project Fuse LLC (a wholly-owned subsidiary of Golf Rounds.com, Inc.) (“Merger Sub”), and D. Alan Meeker, solely in his capacity as the representative of the members of Fuse Medical, LLC (the “Representative”). Effective as of May 28, 2014, prior to the consummation of the Merger, Golf Rounds.com, Inc. amended its certificate of incorporation to change its name from “GolfRounds.com, Inc.” to “Fuse Medical, Inc.” On May 28, 2014, the transactions contemplated by the Merger Agreement closed wherein Merger Sub merged with and into Fuse Medical, LLC, with Fuse Medical, LLC surviving as a wholly-owned subsidiary of Fuse Medical, Inc. (the “Merger”). Accordingly, on May 28, 2014, the Company was recapitalized in a reverse merger. All references to the Company or Fuse Medical before May 28, 2014 are to Fuse Medical, LLC. On May 30, 2014, the Company changed its fiscal year end from August 31 to December 31.

Fuse Medical distributes diversified healthcare products and supplies, including medical biologics, internal fixation products, bone substitute materials and other medical supplies in several states. The Company strives to provide cost savings and clinical outcomes to its customers, which include physicians and medical facilities.

Basis of Presentation

The interim condensed consolidated financial statements included herein reflect all material adjustments (consisting of normal recurring adjustments and reclassifications and non-recurring adjustments) which, in the opinion of management, are ordinary and necessary for a fair presentation of results for the interim periods. Certain information and footnote disclosures required under generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). The Company believes that the disclosures are adequate to make the information presented not misleading.

The condensed consolidated balance sheet information as of December 31, 2015 was derived from the audited consolidated financial statements included in the Company’s Report on Form 10-K filed with the Securities and Exchange Commission on March 25, 2016. These condensed consolidated financial statements should be read in conjunction with the audited financial statements for the year ended December 31, 2015 and notes thereto included in the Company’s Report on Form 10-K for the year ended December 31, 2015.

The results of operations for the three and nine months ended September 30, 2016 are not necessarily indicative of the results to be expected for the entire fiscal year or for any other period.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Going Concern

The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. As shown in the accompanying financial statements, we have incurred a net loss of $325,684 for the nine months ended September 30, 2016. As of September 30, 2016, we had $61,734 of cash and cash equivalents on hand, a stockholders’ deficit of $246,977 and a working capital deficit of $262,407. The Company’s ability to continue as a going concern is contingent on securing additional debt or equity financing from outside investors. As a result, the Company’s independent registered public accounting firm, in its report on the Company’s 2015 consolidated financial statements, has raised substantial doubt about the Company’s ability to continue as a going concern.

The estimated costs of operations while we attempt to ramp up our revenues is substantially greater than the funds we had available on September 30, 2016. The Company’s existence is dependent upon management’s ability to implement its business plan and/or obtain additional funding. There can be no assurance that the Company’s financing efforts, if successful, would result in profitable operations or the resolution of the Company’s liquidity problems. Even if the Company is able to obtain additional financing, it may include undue restrictions on our operations in the case of debt, or cause substantial dilution for our stockholders in the case of equity financing. During July 2016 through October 2016, the Company received aggregate proceeds of $150,000 from the issuance of promissory notes payable (See Notes 4 and 10). The accompanying financial statements do not include any adjustments that might result should the Company be unable to continue as a going concern.

Note 2. Significant Accounting Policies

Use of Estimates

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts in the consolidated financial statements. Actual results could differ from those estimates. Significant estimates in the accompanying consolidated financial statements include the allowance for doubtful accounts, valuation of inventories, the estimates of depreciable lives and valuation of property and equipment, and the valuation allowance on deferred tax assets.

Earnings (Loss) Per Share

The Company’s computation of earnings (loss) per share (EPS) includes basic and diluted EPS. Basic EPS is calculated by dividing the Company’s net income (loss) by the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that would have occurred if securities or other contracts to issue common shares (e.g. warrants and options) had been exercised or converted into common shares at the beginning of the period, or issuance date, if later, and had shared in the net income (loss) of the Company. Diluted EPS is computed using the treasury stock method, which assumes that outstanding options and warrants are exercised and the proceeds are used to purchase common shares at the average market price during the period. Potential common shares that have an anti-dilutive effect (i.e., those that increase income per share or decrease loss per share) are excluded from the calculation of diluted EPS.

As of September 30, 2016 and 2015, common stock equivalents included options to purchase 604,788 and 609,576 common shares, respectively. These instruments are not considered in the calculation of diluted loss per share because the effect would be anti-dilutive.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Fair Value Measurements

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants. The Company classifies assets and liabilities recorded at fair value under the fair value hierarchy based upon the observability of inputs used in valuation techniques. Observable inputs (highest level) reflect market data obtained from independent sources, while unobservable inputs (lowest level) reflect internally developed market assumptions. The fair value measurements are classified under the following hierarchy:

Level 1—Observable inputs that reflect quoted market prices (unadjusted) for identical assets and liabilities in active markets;

Level 2—Observable inputs, other than quoted market prices, that are either directly or indirectly observable in the marketplace for identical or similar assets and liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets and liabilities; and

Level 3—Unobservable inputs that are supported by little or no market activity that are significant to the fair value of assets or liabilities.

The estimated fair value of certain financial instruments, including cash and cash equivalents, accounts receivable, accounts payable and accrued expenses are carried at historical cost basis, which approximates their fair values because of the short-term nature of these instruments. The recorded value of notes payable approximates their fair value based upon their effective interest rates.

Revenue Recognition
       

The Company recognizes revenue when: (i) persuasive evidence of an arrangement exists; (ii) the fees are fixed or determinable; (iii) no significant Company obligations remain; and (iv) collection of the related receivable is reasonably assured. The Company reports revenues for transactions in which it is the primary obligor on a gross basis and revenues in which it acts as an agent (earning a fixed percentage of the sale) on a net basis, (net of related costs). The Company reflects funds collected from customers as deferred revenues until all revenue recognition criteria have been met.

Revenues is comprised of sales of medical biologics, internal fixation products, bone substitute materials and other medical supplies. For customers that order products as needed (i.e. for specific cases), the Company invoices the customer on the date the product is utilized. For customers that order larger quantities of the same product (subject to minimums) at a reduced selling price, the Company invoices the customers as each unit of the product is utilized. Payment terms are net 30 days after the invoice date.

Products that have been sold are not subject to returns unless the product is deemed defective. Credits or refunds are recognized when they are determinable and estimable. Net revenues have been reduced to account for sales returns, rebates and other incentives.

Income Taxes

The Company uses the asset and liability method to compute the differences between the tax basis of assets and liabilities and the related financial amounts. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount that more likely than not will be realized. The Company has deferred tax assets and liabilities that reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred tax assets are subject to periodic recoverability assessments. Realization of the deferred tax assets, net of deferred tax liabilities, is principally dependent upon achievement of projected future taxable income.

The Company records a liability for uncertain tax positions when it is probable that a loss has been incurred and the amount can be reasonably estimated. As of September 30, 2016, the Company had no liabilities for uncertain tax positions. The Company's policy is to recognize interest and penalties related to income tax matters as a component of income tax expense. The Company continually evaluates expiring statutes of limitations, audits, proposed settlements, changes in tax law and new authoritative rulings.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Stock-Based Compensation

Stock-based compensation expense is measured at the grant date fair value of the award and is expensed over the requisite service period. For employee stock-based awards, the Company calculates the fair value of the award on the date of grant using the Black-Scholes option pricing model. Determining the fair value of stock-based awards at the grant date under this model requires judgment, including estimating volatility, employee stock option exercise behaviors and forfeiture rates. The assumptions used in calculating the fair value of stock-based awards represent the Company's best estimates, but these estimates involve inherent uncertainties and the application of management judgment. For non-employee stock-based awards, the Company calculates the fair value of the award on the date of grant in the same manner as employee awards, however, the awards are revalued at the end of each reporting period and the prorata compensation expense is adjusted accordingly until such time the non-employee award is fully vested, at which time the total compensation recognized to date shall equal the fair value of the stock-based award as calculated on the measurement date, which is the date at which the award recipient’s performance is complete. The estimation of stock-based awards that will ultimately vest requires judgment, and to the extent actual results or updated estimates differ from original estimates, such amounts are recorded as a cumulative adjustment in the period estimates are revised.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers”. ASU 2014-09 is a comprehensive revenue recognition standard that will supersede nearly all existing revenue recognition guidance under current U.S. GAAP and replace it with a principle-based approach for determining revenue recognition. ASU 2014-09 will require that companies recognize revenue based on the value of transferred goods or services as they occur in the contract. The ASU also will require additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. ASU 2014-09 is effective for interim and annual periods beginning after December 15, 2017. Early adoption is permitted only in annual reporting periods beginning after December 15, 2016, including interim periods therein. Entities will be able to transition to the standard either retrospectively or as a cumulative-effect adjustment as of the date of adoption. The Company is in the process of evaluating the impact of ASU 2014-09 on the Company’s financial statements and disclosures.

In August 2014, the FASB issued ASU 2014-15, “Presentation of Financial Statements - Going Concern (Subtopic 205-10),” which provides guidance as to management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures. In connection with preparing financial statements for each annual and interim reporting period, an entity’s management should evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the financial statements are issued (or within one year after the date that the financial statements are available to be issued when applicable). Management’s evaluation should be based on relevant conditions and events that are known and reasonably knowable at the date that the financial statements are issued (or at the date that the financial statements are available to be issued when applicable). Substantial doubt about an entity’s ability to continue as a going concern exists when relevant conditions and events, considered in the aggregate, indicate that it is probable that the entity will be unable to meet its obligations as they become due within one year after the date that the financial statements are issued (or available to be issued). ASU 2014-15 is effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter. Early application is permitted. The Company will adopt ASU 2014-15 on the Company’s financial statement presentation and disclosures after the effective date.

In February 2016, the FASB issued Accounting Standards Update 2016-02, “Leases,” which requires a lessee to record a right of use asset and a corresponding lease liability on the balance sheet for all leases with terms longer than 12 months. ASU 2016-02 is effective for all interim and annual reporting periods beginning after December 15, 2018. Early adoption is permitted. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company is in the process of evaluating the impact of the adoption of ASU 2016-02 on the Company’s financial statements and disclosures.

Other recent accounting pronouncements issued by the FASB, including its Emerging Issues Task Force, the American Institute of Certified Public Accountants, and the Securities and Exchange Commission did not or are not believed by management to have a material impact on the Company's present or future consolidated financial statements. 

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Note 3. Property and Equipment

Property and equipment consisted of the following at September 30, 2016 and December 31, 2015:

Depreciation expense of $3,502 and $8,563 was recognized during the three months ended September 30, 2016 and 2015, respectively, and $10,666 and $21,888 was recognized during the nine months ended September 30, 2016 and 2015, respectively.

Note 4. Convertible Notes Payable

Convertible notes payable consisted of the following at September 30, 2016 and December 31, 2015:

[A] - On July 15, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note (convertible at the holder’s sole discretion at $0.08 per share) bearing 10% interest per annum, which principal shall be repaid along with and any all accrued interest on or before December 31, 2016 or upon a change in control of the Company. On the date of issuance, the conversion price of the promissory note was less than the market price of the Company’s common stock. This resulted in a beneficial conversion feature of $42,500, which is treated as a discount to the promissory note and is being amortized over the term of the promissory note.

[B] - On August 23, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note (convertible at the holder’s sole discretion at $0.08 per share) bearing 10% interest per annum, which principal shall be repaid along with and any all accrued interest on or before December 31, 2016 or upon a change in control of the Company. On the date of issuance, the conversion price of the promissory note was less than the market price of the Company’s common stock. This resulted in a beneficial conversion feature of $31,250, which is treated as a discount to the promissory note and is being amortized over the term of the promissory note.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

On October 19, 2016, the promissory notes issued on July 15, 2016 and August 23, 2016 were amended whereby the convertibility feature was removed prior to the maturity date of December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at the holder’s sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share (See Notes 1 and 10).

Interest expense on outstanding convertible notes payable of $30,074 (of which $28,499 was the amortization of beneficial conversion features) was recognized during the three and nine months ended September 30, 2016. As of September 30, 2016, accrued interest payable was $1,575, which is included in accrued expenses on the accompanying condensed consolidated balance sheet.

Note 5. Note Payable – Related Party

On January 15, 2015, the Company issued a two-year promissory note to a significant stockholder in exchange for cash proceeds of $100,000. The note is unsecured, bears interest at 7.0% and requires 18 monthly payments of interest only commencing at the beginning of month seven. The note includes a provision that in the event of default the interest rate would increase to the default interest rate of 18%. The first six months of interest is deferred until maturity. The outstanding principal balance along with all accrued and unpaid interest is due at maturity. The balance of the note payable – related party at September 30, 2016 and December 31, 2015 was $100,000 (See Note 9).

Interest expense on the note payable – related party of $1,750 and $1,885 was recognized during the three months ended September 30, 2016 and 2015, respectively, and $5,250 and $5,348 was recognized during the nine months ended September 30, 2016 and 2015, respectively. As of September 30, 2016 and December 31, 2015, accrued interest on the note payable – related party was $3,796, which is included in accrued expenses on the accompanying condensed consolidated balance sheet.

Note 6. Commitments and Contingencies

Legal Matters

On January 27, 2014, M. Richard Cutler and Cutler Law Group, P.C. (the “Plaintiffs”) filed a complaint in the District Court of Harris County, Texas, 2014-03355, against Fuse, Alan Meeker, Rusty Shelton, Jonathan Brown, Robert H. Donehew and Golf Rounds.com, Inc. (the “Defendants”). On April 21, 2014, the complaint was dismissed for “want of prosecution.” The Plaintiffs had 30 days from April 21, 2014 to file a motion to reinstate the case and no timely action was taken by the Plaintiffs. However, the Plaintiffs did file a motion to reinstate on May 22, 2014 and it was granted. The Defendants argued a Motion to Dismiss before the court on July 25, 2014 and, on July 28, 2014, the court granted the motion and dismissed the Plaintiffs' (i) breach of fiduciary duty claim against all Defendants, (ii) suit on sworn account claim against all Defendants except Fuse, and (iii) quantum meruit claim against all Defendants except Fuse. The Defendants were also awarded attorneys' fees in the amount of $4,343. Discovery in the case ended on March 25, 2015 and Plaintiffs failed to file any discovery requests during the period or seek an extension of the period. On April 27, 2015, Defendants filed a motion for summary judgment in this matter for failure to prosecute and on the grounds that the claims were not legally viable. On April 28, 2015, Plaintiffs filed a Notice of Non-Suit, which effectively withdrew the lawsuit against the Defendants without prejudice to Plaintiffs’ right to refile the lawsuit at any time subject to the applicable statute of limitations.

On September 18, 2015, Plaintiffs refiled a complaint in the District Court of Harris County, Texas, Cause No. 2015-55652 and added PH Squared, LLC as an additional Plaintiff. Thereafter, the term “Plaintiffs” collectively refers to M. Richard Cutler, Cutler Law Group, P.C. and PH Squared, LLC. The new complaint asserts essentially the same claims as the original nonsuited complaint: (i) suit on sworn account against Fuse; (ii) fraud against all Defendants; and (iii) breach of contract against all Defendants for allegedly violating a non-circumvention/non-disclosure agreement. Richard Cutler is the sole principal of Cutler Law Group, P.C., which provided legal representation to its clients, Craig Longhurst and PH Squared, LLC d/b/a PharmHouse Pharmacy (“Cutler’s Client”), during a failed merger attempt between Fuse and Golf Rounds.com, Inc. (the “Failed Transaction”). The Plaintiffs have alleged that the Failed Transaction failed to materialize notwithstanding the efforts of Mr. Cutler, his law firm and PH Squared, LLC. The Plaintiffs have further alleged that the Defendants continued to pursue a similar transaction without Cutler’s Client or the Plaintiffs. The Plaintiffs claim that the Defendants are responsible for damages in the amount of $46,465 plus interest for the breach of contract claim because Plaintiffs were not paid their legal fees by Cutler’s Client and Plaintiffs did not receive equity in the merged company that would have resulted from the Failed Transaction. Plaintiffs are also asking for undisclosed damages related to the fraud and breach of contract claims, and are asking for exemplary damages as a result of allegedly intentional fraud that some or all of the Defendants allegedly committed. Plaintiffs also seek their attorneys’ fees and costs for having brought the action. On November 18, 2015, Fuse filed a counterclaim against PH Squared, LLC for breach of contract and further asserted a counterclaim and third party claim against PH Squared, LLC’s principle, Craig Longhurst, for fraud in the inducement. Fuse also seeks a declaratory judgment on the intended third party beneficiary status of Plaintiffs Cutler and Cutler Law Group related to a non-circumvention/non-disclosure agreement.

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

The parties are currently conducting discovery to determine the viability of the Plaintiff’s claims, although the Defendants continue to believe that the lawsuit is completely without merit and will vigorously contest it and protect their interests. However, the outcome of this legal action cannot be predicted.

Settlement of Accounts Payable

On July 26, 2016, the Company settled outstanding accounts payable of $60,517 owed to its former legal counsel for $25,000. Accordingly, the Company recognized a gain on settlement of $35,517 during the three months ended September 30, 2016.

Note 7. Stockholders’ Equity (Deficit)

Stock Options

A summary of the Company’s stock option activity during the nine months ended September 30, 2016 is presented below:

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

Note 8. Concentrations

Concentration of Credit Risk

The Company maintains its cash in bank and financial institution deposits that at times may exceed federally insured limits. The Company has not experienced any losses in such accounts through September 30, 2016. On January 1, 2013, the standard insurance amount of $250,000 per depositor, per bank, became effective. As of September 30, 2016, the Company’s bank balances did not exceed FDIC insured amounts.

Concentration of Revenues, Accounts Receivable and Suppliers

For the three and nine months ended September 30, 2016 and 2015, the Company had significant customers with individual percentage of total revenues equaling 10% or greater as follows:

At September 30, 2016 and December 31, 2015, concentration of accounts receivable with significant customers representing 10% or greater of accounts receivable was as follows:

FUSE MEDICAL, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(Unaudited)

For the three and nine months ended September 30, 2016 and 2015, the Company had significant suppliers representing 10% or greater of goods purchased as follows:

Note 9. Related Party Transactions

During the three months ended March 31, 2015, the Company allocated an aggregate of $43,240 of compensation paid to the Company's General Counsel to an entity that is owned partially by certain officers and directors of the Company. During the six months ended June 30, 2015, the Company was reimbursed the entire amount of compensation of the Company's General Counsel that had been allocated to the entity that is owned partially by certain officers and directors of the Company during the prior two quarters in the amount of $93,240.

As of September 30, 2016 and December 31, 2015, $8,598 and $22,202, respectively, is owed to officers and directors of the Company or entities controlled by these individuals. This amount is included in accounts payable – related parties on the accompanying condensed consolidated balance sheet.

On January 15, 2015, the Company issued a two-year promissory note to a significant stockholder in exchange for cash proceeds of $100,000. The note is unsecured, bears interest at 7.0% and requires 18 monthly payments of interest only commencing at the beginning of month seven. The note includes a provision that in the event of default the interest rate would increase to the default interest rate of 18%. The first six months of interest is deferred until maturity. The outstanding principal balance along with all accrued and unpaid interest is due at maturity (See Note 5).

During the period from inception through September 30, 2016, several members of the Company’s management provided services at no charge to the Company. The financial statements do not include an estimate of the fair value of these services.

Note 10. Subsequent Events

On October 19, 2016, the promissory notes issued on July 15, 2016 and August 23, 2016 were amended whereby the convertibility feature was removed prior to the maturity date of December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at the holder’s sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share (See Notes 1 and 4).

On October 19, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note bearing 10% interest per annum, which principal shall be repaid along with any and all accrued interest on or before December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at the holder’s sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share (See Note 1).

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. 

Explanatory Note 

As used in this report on Form 10-Q, “we”, “us”, “our”, and the “Company” refer to Fuse Medical, Inc. 

Overview 

Fuse Medical markets, distributes and sells diversified healthcare products and supplies, including medical biologics, internal fixation products, bone substitute materials and for use in a variety of surgical procedures in various types of facilities (ambulatory surgical centers, hospitals and physician offices and other medical facilities) where surgeons and doctors treat patients and operate.

Critical Accounting Policies

In response to financial reporting release FR-60, Cautionary Advice Regarding Disclosure About Critical Accounting Policies, from the SEC, we have selected our more subjective accounting estimation processes for purposes of explaining the methodology used in calculating the estimate, in addition to the inherent uncertainties pertaining to the estimate and the possible effects on our financial condition. The accounting estimates involve certain assumptions that, if incorrect, could have a material adverse impact on our results of operations and financial condition. Our more significant accounting policies can be found in Note 2 of our unaudited interim condensed consolidated financial statements found elsewhere in this report and in our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the SEC. There have been no material changes to our Critical Accounting Policies during the period covered by this report.

Recent Accounting Pronouncements

See Note 2 to the condensed consolidated financial statements for management’s discussion of recent accounting pronouncements.

Results of Operations

The following discussion should be read in conjunction with the condensed consolidated financial statements and related notes included in this report. 

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

Net Revenues

For the three months ended September 30, 2016, net revenues were $107,584, compared to $442,857 for the three months ended September 30, 2015, a decrease of $335,273, or 75.7%. In the beginning of 2016, due to increased competition for biologics sold in larger order quantities, the Company was forced to decrease its pricing for these products. In addition, our revenues from biologics sold at the retail level also declined. In response, the Company began to vigorously attempt to increase its revenues from biologics by consigning a limited quantity of biologic units to each of several new facilities allowing them to utilize the products and only requiring the facilities to pay for the products provided they were able to get reimbursed by insurance. The majority of the new facilities were not able to get reimbursed by insurance. While we expect the decline in revenues is primarily attributable to both the aforementioned decreased pricing of biologics sold in larger order quantities as well as seasonality, there can be no assurance revenues shall increase an adequate amount to cover the cost of operations.

Cost of Revenues

For the three months ended September 30, 2016, our cost of revenues was $42,536, compared to $165,268 for the three months ended September 30, 2015, representing a decrease of $122,732, or 74.3%. The overall cost of revenues decreased proportionately with the decrease in net revenues during the current year quarter. Cost of revenues includes costs to purchase goods and freight and shipping costs for items sold to customers.

Gross Profit

For the three months ended September 30, 2016, we generated a gross profit of $65,048, compared to $277,589 for the three months ended September 30, 2015, a decrease of $212,541, or 76.6%. The decrease in gross profit was primarily due to a decrease in revenues derived from the sale of biologics sold in larger order quantities as well as those at the retail sales level.

General, Administrative and Other

For the three months ended September 30, 2016, general, administrative and other operating expenses decreased to $182,134 from $755,367 for the three months ended September 30, 2015, representing a decrease of $573,233, or 75.9%. This decrease is primarily attributable to decreases in salaries and wages (including independent contractors) and related costs of $338,214, stock-based compensation of $168,000 and legal and professional fees of $26,524. General, administrative and other operating expenses during the three months ended September 30, 2016 consisted primarily of salaries and wages and related costs, legal and professional fees, insurance, rent and travel costs.

Interest Expense

For the three months ended September 30, 2016, interest expense increased to $31,824 from $1,885 for the three months ended September 30, 2015, representing an increase of $29,939, or 1,588%. During the current year quarter, the Company issued promissory notes aggregating $100,000, bearing 10% interest, convertible at $0.08 per share, each with a maturity date of December 31, 2016, in exchange for cash proceeds of $100,000. On the date of issuance, the conversion price of the promissory notes was less than the market price of the Company’s common stock. This resulted in a beneficial conversion feature in the aggregate amount of $73,750, which is treated as a discount to the promissory notes and is being amortized over the term of the promissory notes. The increase in interest expense in the current year period is a result of the amortization of the discount stemming from the beneficial conversion feature.

Net Loss

For the three months ended September 30, 2016, the Company generated a net loss of $113,393 compared to a net loss of $480,642 for the three months ended September 30, 2015. The decrease in the net loss is primarily due to the decrease in general, administrative and other expenses, partially offset by the decrease in gross profit.

Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

Net Revenues

For the nine months ended September 30, 2016, net revenues were $421,170, compared to $1,192,718 for the nine months ended September 30, 2015, a decrease of $771,548, or 64.7%. In the beginning of 2016, due to increased competition for biologics sold in larger order quantities, the Company was forced to decrease its pricing for these products. In addition, our revenues from biologics sold at the retail level also declined. In response, the Company began to vigorously attempt to increase its revenues from biologics by consigning a limited quantity of biologic units to each of several new facilities allowing them to utilize the products and only requiring the facilities to pay for the products provided they were able to get reimbursed by insurance. The majority of the new facilities were not able to get reimbursed by insurance. While we expect the decline in revenues is primarily attributable to both the aforementioned decreased pricing of biologics sold in larger order quantities as well as seasonality, there can be no assurance revenues shall increase an adequate amount to cover the cost of operations.

Cost of Revenues

For the nine months ended September 30, 2016, our cost of revenues was $144,654, compared to $436,913 for the nine months ended September 30, 2015, representing a decrease of $292,259, or 66.9%. During the second quarter of 2016, the Company exchanged some slow moving inventory items of a particular manufacturer for other inventory items made by the same manufacturer that the Company sells on a regular basis. As the Company had previously established a reserve on this inventory, the exchange of this inventory resulted in the reversal of $35,985 of the reserve, which decreased the cost of revenues. This was partially offset by an increase in cost of revenues resulting from the Company’s attempts to increase its revenues from biologics by consigning a limited quantity of biologic units to each of several new facilities allowing them to utilize the products and only requiring the facilities to pay for the products provided they were able to get reimbursed by insurance. The majority of the new facilities were not able to get reimbursed by insurance. In sum, the overall cost of revenues decreased more proportionately than net revenues decreased during the current year quarter. Cost of revenues includes costs to purchase goods and freight and shipping costs for items sold to customers.

Gross Profit

For the nine months ended September 30, 2016, we generated a gross profit of $276,516, compared to $755,805 for the nine months ended September 30, 2015, a decrease of $479,289, or 63.4%. The decrease in gross profit was primarily due to a decrease in revenues derived from the sale of biologics sold in larger order quantities as well as those at the retail sales level, partially offset by the reversal of a reserve on inventory.

General, Administrative and Other

For the nine months ended September 30, 2016, general, administrative and other operating expenses decreased to $600,813 from $1,565,012 for the nine months ended September 30, 2015, representing a decrease of $964,199, or 61.6%. This decrease is primarily attributable to decreases in salaries and wages (including independent contractors) and related costs of $617,336, stock-based compensation of $168,000, legal and professional fees of $63,814 and travel expenses of $55,995. General, administrative and other operating expenses during the nine months ended September 30, 2016 consisted primarily of salaries and wages and related costs, legal and professional fees, rent and insurance.

Interest Expense

For the nine months ended September 30, 2016, interest expense increased to $35,324 from $5,348 for the nine months ended September 30, 2015, representing an increase of $29,976, or 561%. During the current year period, the Company issued promissory notes aggregating $100,000, bearing 10% interest, convertible at $0.08 per share, each with a maturity date of December 31, 2016, in exchange for cash proceeds of $100,000. On the date of issuance, the conversion price of the promissory notes was less than the market price of the Company’s common stock. This resulted in a beneficial conversion feature in the aggregate amount of $73,750, which is treated as a discount to the promissory notes and is being amortized over the term of the promissory notes. The increase in interest expense in the current year period is a result of the amortization of the discount stemming from the beneficial conversion feature.

Net Loss

For the nine months ended September 30, 2016, the Company generated a net loss of $325,684 compared to a net loss of $815,534 for the nine months ended September 30, 2015. The decrease in the net loss is primarily due to the decrease in general, administrative and other expenses, partially offset by the decrease in gross profit.

Liquidity and Capital Resources

A summary of our cash flows is as follows:

Net Cash Used in Operating Activities

Net cash used in operating activities during the nine months ended September 30, 2016 resulted primarily from a net loss of $325,684, a decrease in accounts payable of $146,096 and a gain on settlement of accounts payable of $35,517, partially offset by a decrease in accounts receivable of $275,683, an increase in deferred revenues of $91,534, a decrease in inventories of $49,618 and amortization of debt discount of $28,499.

Net cash used in operating activities during the nine months ended September 30, 2015 resulted primarily from a net loss of $815,534 and a decrease in accounts payable of $76,715, partially offset by share-based compensation of $418,000, a decrease in inventories of $63,801 and an increase in accrued expenses of $46,279.

Net Cash Provided By (Used in) Investing Activities

Net cash provided by investing activities for the nine months ended September 30, 2016 resulted from cash proceeds from the disposal of property and equipment of $300.

Net cash used in investing activities for the nine months ended September 30, 2016 resulted from cash disbursements to acquire property and equipment of $1,580, offset by proceeds from the disposals of property and equipment of $650.

Net Cash Provided By Financing Activities

Net cash provided by financing activities for the nine months ended September 30, 2016 resulted from proceeds from the issuance of promissory notes of $100,000.

Net cash provided by financing activities for the nine months ended September 30, 2015 resulted from proceeds from the sale of common stock of $190,000, proceeds from the issuance of a promissory note to a related party of $100,000 and net repayments received from related parties of $50,000, partially offset by repayments of notes payable of $17,250.

Liquidity

Historically, our primary sources of liquidity have been from the issuances of debt and equity securities as well as sales of products. At September 30, 2016, we had a working capital deficit of $262,407, including $61,734 in cash and cash equivalents. As of November 11, 2016, the Company had approximately $23,000 in available cash. Our cash is concentrated in a large financial institution. Management believes that its current cash balance is enough to sustain operations for two months. In their report dated March 25, 2016, our independent registered public accounting firm included an emphasis-of-matter paragraph with respect to our financial statements for the year ended December 31, 2015 concerning the Company’s assumption that we will continue as a going concern. Our ability to continue as a going concern is an issue raised as a result of our recurring losses from operations.

In January 2015, the Company issued a $100,000 promissory note which is due January 2017.

During July 2016 through October 2016, the Company received aggregate proceeds of $150,000 from the issuance of promissory notes payable, bearing 10% interest per annum, which principal shall be repaid along with any and all accrued interest on or before December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at either of the holders’ sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share. The Company has been negotiating a potential sale of a majority of the Company’s common stock to the holders of the notes described above. Although we cannot provide you with any assurance that this investment will close, we expect it to close within a few days of the filing date of this report. Any such investment would provide the Company with enough capital to sustain its current operations for at least 12 months. If we are unable to close on the proposed investment or are unsuccessful in generating material revenues, we may need to cease operations.

The estimated costs of operations while we work to increase our revenues is substantially greater than the funds we have on hand. The Company's existence is dependent upon management's ability to implement its business plan and/or obtain additional funding. If our efforts to raise capital are unsuccessful and the Company is unable to increase revenues, we believe that we will need to cease operations. There can be no assurance that the Company's efforts will result in a resolution of the Company's liquidity problems.

Capital Expenditures

For the nine months ended September 30, 2016, the Company had no material capital expenditures. The Company has no material commitments for capital expenditures as of September 30, 2016. Depending on our cash position, we may spend up to $100,000 in capital expenditures over the next 12 months. These capital expenditures will be allocated across growth initiatives, including expansion of inventories and fixed assets. Depending on the results of management’s ability to implement its business plan and utilize our physician network, our capital expenditures may be less than anticipated.

Cautionary Note Regarding Forward-Looking Statements

This report includes forward-looking statements including statements regarding liquidity including raising funds in order to sustain our current operations.

The words “believe,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “could,” “target,” “potential,” “is likely,” “will,” “expect” and similar expressions, as they relate to us, are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs.

The results anticipated by any or all of these forward-looking statements might not occur. Important factors that could cause actual results to differ from those in the forward-looking statements include the condition of the capital markets particularly for smaller companies, ability to repay outstanding debt and raise capital, willingness of doctors and facilities to purchase the products that we sell and regulatory issues adversely affecting our margins, insurance companies denying reimbursement to facilities who use the products that we sell and/or our ability to sell products. We undertake no obligation to publicly update or revise any forward-looking statements, whether as the result of new information, future events or otherwise.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. 

As a “smaller reporting company” as defined by Rule 12b-2 of the Exchange Act, the Company is not required to provide the information required by this item. 

ITEM 4. CONTROLS AND PROCEDURES.

Evaluation of Disclosure Controls and Procedures

Our management carried out an evaluation, with the participation of our Principal Executive Officer and Principal Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”).

Based on their evaluation, our Principal Executive Officer and Principal Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Principal Executive Officer and Principal Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls Over Financial Reporting

There have not been any significant changes in our internal control over financial reporting during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.

From time to time, we are a party to, or otherwise involved in, legal proceedings arising in the normal and ordinary course of business. There were no material changes during the period covered by this report to any pending legal proceedings previously reported.

ITEM 1A. RISK FACTORS.

As a “smaller reporting company” as defined by Rule 12b-2 of the Exchange Act, the Company is not required to provide the information required by this item. 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. 

On July 15, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note (convertible at the holder’s sole discretion at $0.08 per share) bearing 10% interest per annum, which principal shall be repaid along with and any all accrued interest on or before December 31, 2016 or upon a change in control of the Company. The issuance of the securities was exempt from registration under Rule 506(b) of the Securities Act of 1933.

On August 23, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note (convertible at the holder’s sole discretion at $0.08 per share) bearing 10% interest per annum, which principal shall be repaid along with and any all accrued interest on or before December 31, 2016 or upon a change in control of the Company. The issuance of the securities was exempt from registration under Rule 506(b) of the Securities Act of 1933.

On October 19, 2016, the promissory notes issued on July 15, 2016 and August 23, 2016 were amended whereby the convertibility feature was removed prior to the maturity date of December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at the holder’s sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share.

On October 19, 2016, the Company obtained a short-term loan of $50,000 in exchange for a promissory note bearing 10% interest per annum, which principal shall be repaid along with any and all accrued interest on or before December 31, 2016 or upon a change in control of the Company. Notwithstanding, on or after January 16, 2017, at the holder’s sole discretion, the holder has the right to convert all or any portion of the then unpaid principal and interest balance into shares of the Company’s common stock at a conversion price of $0.08 per share. The issuance of the securities was exempt from registration under Rule 506(b) of the Securities Act of 1933.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES. 

None. 

ITEM 4. MINE SAFETY DISCLOSURES. 

Not applicable. 

ITEM 5. OTHER INFORMATION. 

The disclosure under Item 2, “Unregistered Sales of Equity Securities and Use of Proceeds” is incorporated under this Item 5.

ITEM 6. EXHIBITS. 

See the exhibits listed in the accompanying “Exhibit Index”.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.  

EXHIBIT INDEX

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