OWC Pharmaceutical Research Corp. - Quarter Report: 2016 September (Form 10-Q)

When the Company changes its valuation inputs for measuring financial assets and liabilities at fair value, either due to changes in current market conditions or other factors, it may need to transfer those assets or liabilities to another level in the hierarchy based on the new inputs used. The Company recognizes these transfers at the end of the reporting period that the transfers occur. For the fiscal periods ended September 30, 2016 and December 31, 2015, there were no significant transfers of financial assets or financial liabilities between the hierarchy levels.

Earnings per Common Share:

We compute net income (loss) per share in accordance with ASC 260, Earning per Share. ASC 260 requires presentation of both basic and diluted earnings per share (EPS) on the face of the income statement. Basic EPS is computed by dividing net income (loss) available to common shareholders (numerator) by the weighted average number of shares outstanding (denominator) during the period. Diluted EPS gives effect to all dilutive potential common shares outstanding during the period using the treasury stock method and convertible preferred stock using the if-converted method. In computing Diluted EPS, the average stock price for the period is used in determining the number of shares assumed to be purchased from the exercise of stock options or warrants. Diluted EPS excludes all dilutive potential shares if their effect is anti-dilutive.

Income Taxes:

We have adopted ASC 740, Accounting for Income Taxes. Pursuant to ASC 740, we are required to compute tax asset benefits for net operating losses carried forward. The potential benefits of net operating losses have not been recognized in these financial statements because the Company cannot be assured it is more likely than not it will utilize the net operating losses carried forward in future years.

We must make certain estimates and judgments in determining income tax expense for financial statement purposes. These estimates and judgments occur in the calculation of certain tax assets and liabilities, which arise from differences in the timing of recognition of revenue and expense for tax and financial statement purposes.

Deferred tax assets and liabilities are determined based on the differences between financial reporting and the tax basis of assets and liabilities using the tax rates and laws in effect when the differences are expected to reverse. ASC 740 provides for the recognition of deferred tax assets if realization of such assets is more likely than not to occur. Realization of our net deferred tax assets is dependent upon our generating sufficient taxable income in future years in appropriate tax jurisdictions to realize benefit from the reversal of temporary differences and from net operating loss, or NOL, carryforwards. We have determined it more likely than not that these timing differences will not materialize and have provided a valuation allowance against substantially all of our net deferred tax asset.

Management will continue to evaluate the realizability of the deferred tax asset and its related valuation allowance. If our assessment of the deferred tax assets or the corresponding valuation allowance were to change, we would record the related adjustment to income during the period in which we make the determination. Our tax rate may also vary based on our results and the mix of income or loss in domestic and foreign tax jurisdictions in which we operate.

In addition, the calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations. We recognize liabilities for anticipated tax audit issues in the U.S. and other tax jurisdictions based on our estimate of whether, and to the extent to which, additional taxes will be due. If we ultimately determine that payment of these amounts is unnecessary, we will reverse the liability and recognize a tax benefit during the period in which we determine that the liability is no longer necessary. We will record an additional charge in our provision for taxes in the period in which we determine that the recorded tax liability is less than we expect the ultimate assessment to be.

ASC 740 which requires recognition of estimated income taxes payable or refundable on income tax returns for the current year and for the estimated future tax effect attributable to temporary differences and carry-forwards. Measurement of deferred income tax is based on enacted tax laws including tax rates, with the measurement of deferred income tax assets being reduced by available tax benefits not expected to be realized.

Uncertain Tax Positions:

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained. In accordance with the guidance of FASB ASC 740-10, Accounting for Uncertain Income Tax Positions, the benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions taken are not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above should be reflected as a liability for unrecognized tax benefits in the accompanying consolidated balance sheets along with any associated interest and penalties that would be payable to the taxing authorities upon examination.

Our federal and state income tax returns are open for fiscal years ending on or after December 31, 2010. We are not under examination by any jurisdiction for any tax year. At September 30, 2016, we had no material unrecognized tax benefits and no adjustments to liabilities or operations were required under FASB ASC 740-10.

Recent Accounting Pronouncements

Share-Based Payments: 

In March 2016, amended guidance was issued for employee share-based payment awards. The amended guidance makes several modifications related to the accounting for forfeitures, employer tax withholding on share-based compensation and excess tax benefits or deficiencies. The amended guidance also clarifies the statement of cash flows presentation for share-based awards. The amended guidance is effective for us prospectively commencing in the first quarter of 2018. Early adoption is permitted.

Deferred Income Taxes:

In November 2015, amended guidance was issued for the balance sheet classification of deferred income taxes. The amended guidance requires the classification of all deferred tax assets and liabilities as noncurrent on the balance sheet instead of separating deferred taxes into current and noncurrent amounts. Early adoption is permitted.

In April 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2015-03, "Interest-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs." ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. Currently, debt issuance costs are recognized as deferred charges and recorded as other assets. The guidance is effective for annual and interim periods beginning after December 15, 2015 with early adoption permitted and is to be implemented retrospectively. Adoption of the new guidance will only affect the presentation of the Company's consolidated balance sheets and will have no impact to our financial statements.

Management does not anticipate that the adoption of these standards will have a material impact on the financial statements.

The preparation of these financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related intangible assets, income taxes, insurance obligations and contingencies and litigation. We base our 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 resources. Actual results may differ from these estimates under different assumptions or conditions.

The Financial Statements presented herein have been prepared by us in accordance with the accounting policies described in our December 31, 2015 Annual Report and should be read in conjunction with the Notes to Financial Statements which appear in that report.

In the opinion of management, the information furnished in these interim financial statements reflects all adjustments necessary for a fair statement of the financial position and results of operations and cash flows as of and for the three and nine-month periods ended September 30, 2016 and 2015. All such adjustments are of a normal recurring nature. The Financial Statements do not include some information and notes necessary to conform to annual reporting requirements.

2. Stockholders' Equity

Common Stock issued in 2016

Shares Issued upon Conversion of Debt:

In September 2016, the Company agreed to the conversion of $116,000 in principal and $3,140 in interest due on two convertible notes of which resulted into the issuance of 39,955,710 and 13,888,889 shares which are subject to stock payable with a value of $12,500 resulting in a loss of $4,521.

Options Issued for Services:

During the three months ended March 31, 2016 we issued 200,000 common stock options. The options valued at $8,074 were granted for services provided by unrelated parties. The fair value of the options was estimated at the date of grant using the Black-Sholes-Merton pricing model. The Black-Sholes-Merton pricing model assumptions used are as follows: expected dividend yield of 0%; risk-free interest rate of 1.11%; expected volatility of 196%, and option term of 2.75 years.

Common Stock issued in 2015

Stock Issued for Cash:

In August of 2015, we also received $24,000 through a placement of 100,000 common stock units. Those units were sold at $0.24 per unit. Each unit consisted of two shares of common stock and two warrants to purchase common stock. 100,000 warrants are exercisable at $0.12 and expire on August 31, 2016 while the other 100,000 warrants are exercisable at $0.25 and expire on August 31, 2017.

In February of 2015 we sold 800,000 shares to one investor for the offering price of $0.05 per share that resulted in total proceeds of $40,000. During 2015, we also received $50,000 through a placement of common stock units. Those units were sold at $0.15 per unit. Each unit consisted of one share of common stock and one warrant to purchase common stock. The related warrants are exercisable at $0.25 and expire on December 31, 2016.

Stock Issued for Services:

During the interim period ended September 30, 2015 we issued 1,614,935 shares of our common stock to unrelated parties as payment for services. The shares were valued at the closing price as of the date of the agreements (ranging from $0.19 to $0.25) and resulted in full recognition of $360,369 in consulting services expense. During the period ended June 30, 2015, the Company cancelled 500,000 shares of common stock previously issued for services.

Warrants Granted

As part of the 2015 unit offering, the Company issued a total of 333,333 warrants to purchase up to 333,333 shares of common stock at $0.25 per share.

The relative fair value of the warrants attached to the common stock issued was estimated at the date of grant using the Black-Sholes-Merton pricing model. The relative fair value of the attached to the common stock component is $26,416 and the relative fair value of the warrants is $23,584 as of the grant date.

In February, 2015 we issued 64,935 warrants for services. The warrants are exercisable at $0.25 and expire February 23, 2016. We used the Black-Scholes-Merton pricing model and inputs described below to estimate the fair value of $10,839.

The Black-Sholes-Merton pricing model assumptions used are as follows: expected dividend yield of 0%; risk-free interest rate of 0.10%-.0.11%; expected volatility of 242%, and warrant exercise period based upon the stated terms.

3. Related Party Transactions

Due Related Parties: Amounts due related parties totaled $1,820 at September 30, 2016 and $1,820 at December 31, 2015, respectively. The Company paid $16,163 during the period ended September 30, 2016 and $21,943 in  2015 in rent to a related party.

4. Notes Payable

Unsecured Notes Payable Without Conversion Rights

A loan agreement for up to $300,000 was issued September 28, 2016. The agreement allows for six incremental draws of $50,000 to be drawn monthly beginning September 1, 2016 in order to meet future working capital demands. The loan advances are non-interest bearing. The loan is may be repaid at any time but matures 36 months from the date of issue. As of September 30th, 2016 the company has drawn down $50,000 leaving an available balance of $250,000.

Unsecured Notes Payable With Conversion Rights

A convertible note for $78,500 issued on February 2, 2016, bears interest at 8.0% per annum until paid or converted and matures November 2, 2016. Any or all of the outstanding balance of the note may be converted at the option of the holder at any time into common stock of the company at a variable conversion price of 65% of market price. Upon the issuance of the convertible note, the Company bifurcated the embedded conversion feature and recorded an initial derivative liability of $41,974 (the estimated fair market value at the date of grant based on the Binomial option pricing model) all of which was allocated as debt discount.

During 2015 the Company agreed to provide unsecured promissory notes with an unrelated party for $37,500. The note is non-interest bearing and is due on September 16, 2016. The note has not been paid and is in default at September 30, 2016. The note has a future conversion right that allows the holder to convert the principal balance into the Company's common stock at the lender's sole discretion at 50% of the then market price per share. In accordance with ASC 470, the Company has analyzed the beneficial nature of the conversion terms and determined that a beneficial conversion feature (BCF) exists because the effective conversion price was less than the quoted market price at the time of the issuance. The Company calculated the value of the BCF using the intrinsic method as stipulated in ASC 470. The BCF of $37,500 had been recorded as a discount to the notes payable and to Additional Paid-in Capital.

For the nine months September 30, 2016, the Company has amortized $83,650 ($0 in 2015) of the discount arising from the embedded derivative and beneficial conversion feature of the two outstanding notes.

During August and September 2016, in accordance with the original terms of the notes, at the option of the note holders, the entire combined balance of $116,000 and interest of $3,140 was converted into 39,955,710 and 13,888,889 shares which are subject to stock payable with a value of $12,500 resulting in a loss of $4,521. At the date of conversions, the entire derivative liability associated with the bifurcated conversion feature of was marked-to-market, resulting in an increase of $2,426, to a total derivative liability of $55,998 which was reclassified to paid in capital on the date of conversion. The $2,426 change was recorded as a derivative valuation charge in the Consolidated Statement of Operations.

In September, 2016 the Company authorized the issuance of 53,844,599 shares of common stock upon the conversion of $116,000 in principal and $3,140 in interest due on two convertible notes of which 39,955,710 were issued and 13,888,889 shares are subject to stock payable with a value of $12,500 resulting in a loss of $4,521 .

5. Derivative Liabilities

Embedded Conversion Feature

To properly account for the convertible notes payable discussed in Note 4, the Company performed a detailed analysis to obtain a thorough understanding of the transaction. The Company reviewed FASB ASC 815, to identify whether any equity-linked features in the notes are freestanding or embedded. The notes were then analyzed in accordance with FASB ASC 815 to determine if the anti-dilution feature should be bifurcated and accounted for at fair value and remeasured at fair value in income. The Company determined that the anti-dilution feature met the requirements for bifurcation pursuant to FASB ASC 815 due to the variable conversion price and therefore accounted for the anti-dilution features of the notes as a derivative liability. Changes in fair value of the derivative financial instruments are recognized in the Company's statement of operations as a derivative valuation gain or loss.

The conversion of $55,998 during the three months ended September 30, 2016 resulted in a charge of $14,024 and an adjustment charge to the market of $2,426 for the three months ended September 30, 2016.

The Company values its simple conversion option derivatives using the a lattice model. Assumptions used include:

- life through the note maturity date
- expected volatility-152%,
- expected dividends-none
- exercise prices as set forth in the agreements,
- common stock price of the underlying share on the valuation date, and
- number of shares to be issued if the instrument is converted

During August and September 2016, in accordance with the original terms of the notes, at the option of the note holders, the entire balance of $78,500 and interest of $3,140 was converted into 20,142,568 shares of common stock. At the date of conversions, the entire derivative liability associated with the bifurcated conversion feature of was marked-to-market, resulting in an increase of $2,496, to a total derivative liability of $55,998 which was reclassified to paid in capital on the date of conversion. The $2,426 change was recorded as a derivative valuation charge in the Consolidated Statement of Operations

6. Going Concern

The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of the Company as a going concern. The Company has not established any source of revenue to cover its operating costs, and as such, has incurred an operating loss since inception. Further, as of September 30, 2016, the cash resources of the Company were insufficient to meet its current business plan. These and other factors raise substantial doubt about the Company's ability to continue as a going concern. The accompanying financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of asset or the amounts and classification of liabilities that may result from the possible inability of the Company to continue as a going concern.

7. Subsequent Events

There were no subsequent events following the period ended September 30, 2016 and throughout the date of the filing of Form 10-Q.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATION Back to Table of Contents

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Back to Table of Contents

ITEM 4. CONTROLS AND PROCEDURES Back to Table of Contents

ITEM 1. LEGAL PROCEEDINGS Back to Table of Contents

ITEM 1A. RISK FACTORS  Back to Table of Contents

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Back to Table of Contents

ITEM 3. DEFAULTS UPON SENIOR SECURITIES Back to Table of Contents

ITEM 4. MINE SAFETY DISCLOSURE. Back to Table of Contents

ITEM 5. OTHER INFORMATION Back to Table of Contents

ITEM 6. EXHIBITS Back to Table of Contents