Water Now, Inc. - Quarter Report: 2019 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended September 30, 2019

OR

Commission File No. 000-55825

WATER NOW, INC.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (817) 900-9184

Not applicable

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act:

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, and (2) has been subject to such filing requirements for the past 90 days.  [X] Yes   [  ] No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes  [X] No [  ]

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [  ] No  [X]

At November 15, 2019, there were 52,410,817 shares outstanding of Common Stock, no par value.

IMPORTANT INFORMATION REGARDING THIS FORM 10-Q

Unless otherwise indicated, references to “we,” “us,” and “our” in this Quarterly Report on Form 10-Q (“Report”) refer collectively to Water Now, Inc., a Texas corporation, and its wholly-owned subsidiary (“Water Now”).

Readers should consider the following information as they review this Report:

Forward-Looking Statements

There are statements in this Report that are not historical facts. These “forward-looking statements” can be identified by use of terminology suggesting a belief in future performance and similar expressions. You should be aware that these forward-looking statements are subject to risks and uncertainties that are beyond our control. For a discussion of these risks, you should read this entire Report carefully. Although management believes that the assumptions underlying the forward-looking statements included in this Report are reasonable, they do not guarantee our future performance, and actual results could differ from those contemplated by these forward-looking statements. The assumptions used for purposes of the forward-looking statements represent estimates of future events and are subject to uncertainty as to possible changes in economic, legislative, industry, and other circumstances. As a result, the identification and interpretation of data and other information and their use in developing and selecting assumptions from and among reasonable alternatives require the exercise of judgment. To the extent that the assumed events do not occur, the outcome may vary substantially from anticipated or projected results, and, accordingly, no opinion is expressed on the achievability of those forward-looking statements. In the light of these risks and uncertainties, there can be no assurance that the results and events contemplated by the forward-looking statements contained in this Report will in fact transpire. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their respective dates. We do not undertake any obligation to update or revise any forward-looking statements.

Document Summaries

Descriptions of documents and agreements contained in this Report are provided in summary form only, and such summaries are qualified in their entirety by reference to the actual documents and agreements filed as exhibits to our Registration Statement on Form 10 filed on October 13, 2017, other periodic and current reports we have filed with the SEC, or this Report.

Access to Filings

Access to our reports and amendments thereto, filed with or furnished to the SEC pursuant to Section 13(a) of the Exchange Act, as well as reports filed electronically pursuant to Section 16(a) of the Exchange Act, may be obtained through our website (http://www.waternowinc.com) as soon as reasonably practicable after we have filed or furnished such material with the SEC. The contents of our website are not, and shall not be deemed to be, incorporated into this Report.

TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.

Water Now, Inc. and Subsidiary

Condensed Consolidated Balance Sheets

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

Water Now, Inc. and Subsidiary

Condensed Consolidated Statements of Operations

(Unaudited)

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

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

Water Now, Inc. and Subsidiary

Condensed Consolidated Statements of Cash Flows

(Unaudited)

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

Water Now, Inc. and Subsidiary

Notes to Condensed Consolidated Financial Statements (unaudited)

September 30, 2019 and 2018

1. Basis of Presentation and Summary of Significant Accounting Policies

The accompanying unaudited financial statements of Water Now, Inc. and subsidiary (collectively, the “Company”) have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission, or the SEC, including the instructions to Regulation S-X. Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America have been omitted from these statements pursuant to such rules and regulations and, accordingly, they do not include all the information and notes necessary for comprehensive financial statements and should be read in conjunction with our audited financial statements for the year ended December 31, 2018.

In the opinion of the management of the Company, all adjustments, which are of a normal recurring nature, necessary for a fair statement of the results for the three-month period have been made. Results for the interim period presented are not necessarily indicative of the results that might be expected for the entire fiscal year. When used in these notes, the terms “Company”, “we”, “us” or “our” mean Water Now, Inc. and subsidiary.

Certain amounts in our Condensed Consolidated Statement of Operations for the period ended September 30, 2018 have been reclassified to conform with the current period presentation.

Fair Value Measurements

ASC Topic 820, “Fair Value Measurement”, requires that certain financial instruments be recognized at their fair values at our balance sheet dates. However, other financial instruments, such as debt obligations, are not required to be recognized at their fair values, but GAAP provides an option to elect fair value accounting for these instruments. GAAP requires the disclosure of the fair values of all financial instruments, regardless of whether they are recognized at their fair values or carrying amounts in our balance sheets. For financial instruments recognized at fair value, GAAP requires the disclosure of their fair values by type of instrument, along with other information, including changes in the fair values of certain financial instruments recognized in income or other comprehensive income. For financial instruments not recognized at fair value, the disclosure of their fair values is provided below under “Financial Instruments.”

Nonfinancial assets, such as property, plant and equipment, and nonfinancial liabilities are recognized at their carrying amounts in the Company’s balance sheets. GAAP does not permit nonfinancial assets and liabilities to be remeasured at their fair values. However, GAAP requires the remeasurement of such assets and liabilities to their fair values upon the occurrence of certain events, such as the impairment of property, plant and equipment. In addition, if such an event occurs, GAAP requires the disclosure of the fair value of the asset or liability along with other information, including the gain or loss recognized in income in the period the remeasurement occurred.

The Company did not have any Level 1 or Level 2 assets and liabilities at September 30, 2019 and 2018.

The Derivative liabilities are Level 3 fair value measurements.

The following is a summary of activity of Level 3 liabilities during the nine months ended September 30, 2019:

At September 30, 2019, the fair value of the derivative liabilities of convertible notes was estimated using the following weighted-average inputs: the price of the Company’s common stock of $0.16, a risk-free interest rate of 1.88%, and expected volatility of the Company’s common stock of 213.76%, and the various estimated reset exercise prices weighted by probability.

Recently Adopted Accounting Pronouncements

Effective January 1, 2019, we adopted the Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) 2016-02, Leases, which requires the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under previous guidance. The original guidance required application on a modified retrospective basis with the earliest period presented. In August 2018, the FASB issued ASU 2018-11, Targeted Improvements to ASC 842, which included an option to not restate comparative periods in transition and elect to use the effective date of ASC 842, Leases, as the date of initial application of transition, which we elected. As a result of the adoption of ASC 842 on January 1, 2019, we recorded both operating lease right-of-use (“ROU”) assets of $159,433 and lease liabilities of $154,518. The adoption of ASC 842 had an immaterial impact on our Condensed Consolidated Statement of Operations and Condensed Consolidated Statement of Cash Flows for the nine-month period ended September 30, 2019. In addition, we elected the package of practical expedients permitted under the transition guidance within the new standard which allowed us to carry forward the historical lease classification.

Additional information and disclosures required by this new standard are contained in Note 10.

2. Going Concern

At September 30, 2019, the Company had approximately $127,000 in cash and had net working capital deficit of approximately $4,845,000. The Company, which generated a net loss of approximately $7,575,000 and $2,777,000 for the nine months ended September 30, 2019 and 2018, respectively, may not have sufficient cash to fund its current and future operations. There is no assurance that future operations will result in profitability. No assurance can be given that management will be successful in its efforts to raise additional capital. The failure to raise additional capital needed to achieve its business plans will have a material adverse effect on the Company’s financial position, results of operations, and ability to continue as a going concern.

3. Revenues

The Company’s revenues are generated from the sales of water purification products and the sales of hydrocarbons derived from the deployment and operation of Company owned oil recovery systems. The Company obtains purchase orders from its water purification customers for the sale of its products which sets forth the general terms and conditions including line item pricing and payment terms (generally due upon receipt). The Company recognizes revenue when its customers obtain control over the assets (generally when the title passes upon shipment) and it is probable that the Company will collect substantially all the amounts due. Individual promised goods are the Company’s only performance obligation.

The Company earns revenue each month that the oil recovery systems are in place and operating. The Company generally receives 50% of the proceeds of the sales of oil recovered using its systems.

Water purification products that have been sold are not subject to returns unless the product is deemed defective. Credits or refunds are recognized when they are probable and reasonably estimated. The Company’s management reduces revenue to account for estimates of the Company’s credits and refunds.

The Company included shipping and handling fees in net revenues. Shipping and handling costs are associated with outbound freight after control over a product has transferred to a customer. These costs are accounted for as a fulfillment cost and are included in cost of goods sold.

Revenues, as disaggregated by revenue type and reportable segment (see Note 12), are shown below.

4. Distributorship Agreement

On October 31, 2018, the Company entered into an Exclusive Sales Distribution Agreement (the “Agreement”) with African Horizon Technologies (Pty) Ltd (“AHT”) whereby the Company serves as AHT’s exclusive distributor of the Hydraspin Hydro Cyclone technology in the United States of America. The Company was obligated to pay AHT $500,000 and issue AHT 500,000 shares valued at $250,000 based on the closing price of the Company’s shares of $0.50 on the date of the Agreement. In addition, the Company will issue AHT 500,000 shares at the earlier of 24 months from the commencement date of the Agreement or the sale of 50 units to the Company. The Company will also pay AHT a royalty of 2% of total net profits generated by the Company from the sale of oil generated using the Hydraspin units. The term of the Agreement is for five years with an automatic renewal term of five years unless terminated prior to the expiration of the current term. The Company recorded the value of the Agreement of $1,000,000 as an other asset and is amortizing the asset to expense over the life of the Agreement of five years. As of September 30, 2019, $500,000 was paid and the remaining 500,000 shares to be issued is included as an accrued expense.

5. Notes Payable – Stockholders

The Company borrowed $200,000 and $100,000 from two stockholders on March 25, 2019. The notes bear interest at 18% and are payable beginning on April 25, 2019, at which time the entire amount of principal and any accrued interest was due and payable. The notes are unsecured, and the $200,000 note is guaranteed by the Company’s Chief Executive Officer. As of September 30, 2019, the $100,000 note was paid and the $200,000 note remains outstanding.

6. Convertible Notes Payable

The Company borrowed $68,000 from a lender on September 4, 2018. The note bears interest at 8% and matures on September 4, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 170 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. This note was paid in full on January 3, 2019 and the Company recorded a gain on extinguishment of this debt of $19,114. The Company has no further obligations with respect to this loan.

The Company borrowed $200,000 from a lender on September 17, 2018. The note does not bear interest and matures September 17, 2021, at which time the entire amount of principal is due and payable. The note is unsecured. The outstanding principal amount is convertible by the holder into shares of the Company’s common stock at any time prior to the maturity date at a price per share equal to $0.75 per share if before 180 days after the issuance date, or if 180 days after the issuance date, the lesser of $0.75 per share or seventy percent of the second lowest trading price of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company granted 60,000 shares of the Company’s common stock valued at $53,400 based on the Company’s share price on the date of the note agreement, paid $34,400 as a discount for interest on the note, and paid $5,000 for debt issuance costs. Through September 30, 2019, the Company paid $142,000 of principal and prepayment penalties of $58,000 recorded as interest expense. The lender converted the remaining $58,000 of principal into 332,500 shares of the Company’s common stock. The Company has no further obligations with respect to this loan.

The Company borrowed $100,000 from a shareholder on August 30, 2018. The note bears interest at 10% and is payable in one lump sum on March 4, 2019, at which time the entire amount of principal and accrued interest is

due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock at any time prior to the maturity date at the conversion price of $0.50 per share.  This note was converted into 200,000 shares of the Company’s common stock on March 28, 2019. The Company has no further obligations with respect to this loan.

The Company borrowed $42,500 from a lender on October 15, 2018. The note bears interest at 8% and is payable in one lump sum on October 15, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 170 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $2,500 for debt issuance costs. This note was paid in full on March 26, 2019 and the Company recorded a loss on extinguishment of this debt of $17,841. The Company has no further obligations with respect to this loan.

The Company borrowed $86,500 from a lender on January 2, 2019. The note bears interest at 8% and is payable in one lump sum on January 2, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $2,500 for debt issuance costs. This note was paid in full on July 8, 2019 and the Company recorded a loss on extinguishment of this debt of $32,592. The Company has no further obligations with respect to this loan.

The Company borrowed $102,500 from a lender on February 14, 2019. The note bears interest at 8% and is payable in one lump sum on February 14, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $2,500 for debt issuance costs. This note was paid in full on August 20, 2019 and the Company recorded a gain on extinguishment of this debt of $38,143. The Company has no further obligations with respect to this loan.

The Company borrowed $100,000 from a lender on February 20, 2019. The note bears interest at 10%, and is payable in one lump sum on February 20, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal amount is convertible by the holder into shares of the Company’s common stock beginning six months after the issuance date and prior to the maturity date at a price per share equal to sixty percent of the lowest trading price of the Company’s common stock for the fifteen trading days prior to the conversion date. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $164,490, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.23, a risk-free interest rate of 2.00% and expected volatility of the Company’s common stock of 178.56%, and the various estimated reset exercise prices weighted by probability. This resulted in the calculated fair value of the debt discount being greater than the face amount of the debt, and the excess amount of $64,490 was immediately expensed as financing costs. In addition, the Company paid $5,000 for debt issuance costs. Through September 30, 2019, the Company paid $85,000 of principal, prepayment penalties and accrued interest totaling $45,000 recorded as interest expense, and recorded a loss on extinguishment of this debt of $42,629. The lender also converted $15,748 of principal and interest into 159,070 shares of the Company’s common stock. The Company has no further obligations with respect to this loan.

The Company borrowed $560,000 from a lender on February 21, 2019. The note bears interest at 12% and is payable in one lump sum on August 21, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity

date at a price per share equal to sixty-five percent of the second lowest trade price of the Company’s common stock for the twenty trading days prior to the conversion date. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $1,185,397, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.18, a risk-free interest rate of 1.88% and expected volatility of the Company’s common stock of 213.76%, and the various estimated reset exercise prices weighted by probability. In addition, the Company granted the lender 450,000 shares of the Company’s common stock, paid $56,000 as a discount on the note, and paid $4,000 for debt issuance costs. The shares granted must be returned if the note is fully repaid and satisfied prior to 180 days after the issuance date. The Company recorded the value of the shares at $400,455, based on the Company’s share price on the date of the note agreement, as interest expense. During the third quarter of 2019, in two separate conversions, the holder converted $151,000 of principal and interest into 2,106,044 shares of common stock of the Company. As a result of the conversions the derivative liability related to the debenture was remeasured immediately prior to the conversions with an overall increase in the fair value of $615,000 recognized, with the fair value of the derivative liability related to the converted portion of $287,000 being reclassified to equity. The key valuation assumptions used consist, in part, of the price of the Company’s common stock on the dates of conversion, of $0.20 and $0.23, a risk-free interest rate of 1.88% and expected volatility of the Company’s common stock, of 213.76%, and the various estimated reset exercise prices weighted by probability. The principal balance at September 30, 2019 is $448,000.

The Company borrowed $42,500 from a lender on March 11, 2019. The note bears interest at 8% and is payable in one lump sum on March 11, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $2,500 for debt issuance costs. This note was paid in full on September 9, 2019 and the Company recorded a loss on extinguishment of this debt of $16,689. The Company has no further obligations with respect to this loan.

The Company borrowed $150,000 from a lender on March 18, 2019. The note bears interest at 12% and is payable in one lump sum on September 18, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the second lowest trade price of the Company’s common stock for the twenty trading days prior to the conversion date. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $433,000, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.28, a risk-free interest rate of 1.87% and expected volatility of the Company’s common stock of 167.00%, and the various estimated reset exercise prices weighted by probability. During the third quarter of 2019, the holder converted $56,000 of principal and interest into 1,000,000 shares of common stock of the Company. As a result of the conversions the derivative liability related to the debenture was remeasured immediately prior to the conversion with an overall decrease in the fair value of $91,000 recognized, with the fair value of the derivative liability related to the converted portion, of $99,000 being reclassified to equity. The key valuation assumptions used consist, in part, of the price of the Company’s common stock on the date of conversion, of $0.19; a risk-free interest rate of 1.88% and expected volatility of the Company’s common stock, of 213.76%, and the various estimated reset exercise prices weighted by probability. In addition, the Company granted 115,384 shares of the Company’s common stock and paid $15,000 as a discount on the note. The shares granted must be returned if the note is fully repaid and satisfied prior to 180 days after the issuance date. The Company recorded the value of the shares at $91,153, based on the Company’s share price on the date of the note agreement, as interest expense. The principal balance at September 30, 2019 is $95,650.

The Company borrowed $45,000 from a lender on November 6, 2018. The note bears interest at 8% and is payable

in one lump sum on November 6, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 170 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $2,500 for debt issuance costs. This note was paid in full on April 5, 2019 and the Company recorded a loss on extinguishment of this debt of $15,870. The Company has no further obligations with respect to this loan.

The Company borrowed $82,500 from a shareholder on October 11, 2018. The note bears interest at 8% and is payable in one lump sum on April 11, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock at any time prior to the maturity date at the conversion price of $0.50 per share. In addition, the Company paid $13,500 for debt issuance costs. This note was paid in full on April 12, 2019 and the Company recorded additional interest expense of $38,940. The Company has no further obligations with respect to this loan.

The Company borrowed $100,000 from a lender on December 13, 2018. The note bears interest at 10%, and is payable in one lump sum on December 13, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning six months after the issuance date and prior to the maturity date at a price per share equal to sixty percent of the lowest trading price of the Company’s common stock for the fifteen trading days prior to the conversion date. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $150,000, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.29, a risk-free interest rate of 2.40% and expected volatility of the Company’s common stock of 156.33%, and the various estimated reset exercise prices weighted by probability. During June and July 2019, in two separate conversions, the holder converted $36,000 of principal and interest into 333,535 shares of common stock of the Company. As a result of the conversions the derivative liability related to the debenture was remeasured immediately prior to the conversions with an overall decrease in the fair value of $32,000 recognized, with the fair value of the derivative liability related to the converted portion, of $117,000 being reclassified to equity. The key valuation assumptions used consist, in part, of the price of the Company’s common stock on the dates of conversion, of $0.32 and $0.22; a risk-free interest rate of 2.00% and expected volatility of the Company’s common stock, of 146.06%, and the various estimated reset exercise prices weighted by probability. In addition, the Company paid $5,000 for debt issuance costs. Through September 30, 2019, the Company paid the remaining $65,745 of principal and prepayment penalties of $29,255 recorded as interest expense. The Company has no further obligations with respect to this loan.

The Company borrowed $77,000 from a lender on October 12, 2018. The note allows borrowing up to $231,000, bears interest at 12%, and is payable in one lump sum on October 12, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock prior to the maturity date at a price per share equal to sixty-five percent of the lowest trading price of the Company’s common stock for the twenty trading days prior to the conversion date. If at any time while this note is outstanding, the conversion price is equal to or lower than $0.50, then an additional fifteen percent discount shall be factored into the conversion price until the note is no longer outstanding. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $115,000, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.33, a risk-free interest rate of 2.56% and expected volatility of the Company’s common stock of 172.94%, and the various estimated reset exercise prices weighted by probability. From April through August 2019, in several separate conversions, the holder converted $89,000 of principal and interest into 921,346 shares of common stock of the Company. As a result of the conversions the derivative liability related to the debenture was remeasured

immediately prior to the conversions with an overall decrease in the fair value of $115,000 recognized, with the fair value of the derivative liability related to the converted portion of $150,000 being reclassified to equity. The key valuation assumptions used consist, in part, of the price of the Company’s common stock on the dates of conversion, of $0.27 to $0.40, a risk-free interest rate of 1.88% and expected volatility of the Company’s common stock, of 213.76%, and the various estimated reset exercise prices weighted by probability. In addition, the Company paid $2,000 for debt issuance costs. On May 20, 2019, the Company borrowed an additional $51,500 on this note. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $149,000, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.40, a risk-free interest rate of 2.37% and expected volatility of the Company’s common stock of 154.69%, and the various estimated reset exercise prices weighted by probability. In addition, the Company paid $1,500 for debt issuance costs. The principal balance at September 30, 2019 is $51,500.

The Company borrowed $80,000 from a lender on December 17, 2018. The note bears interest at 10%, and is payable in one lump sum on December 17, 2019, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock prior to the maturity date at a price per share equal to sixty-five percent of the lowest trading price of the Company’s common stock for the fifteen trading days prior to the conversion date. The conversion feature meets the definition of a derivative and therefore requires bifurcation and is accounted for as a derivative liability. The Company estimated the aggregate fair value of the conversion feature derivatives embedded in the debenture at the date the debt becomes convertible at $160,000, based on weighted probabilities of assumptions used in the Black Scholes pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $0.39, a risk-free interest rate of 2.40% and expected volatility of the Company’s common stock of 156.33%, and the various estimated reset exercise prices weighted by probability. From June through August 2019, in several separate conversions, the holder converted $84,000 of principal and interest into 696,503 shares of common stock of the Company. As a result of the conversions the derivative liability related to the debenture was remeasured immediately prior to the conversions with an overall decrease in the fair value of $91,000 recognized, with the fair value of the derivative liability related to the converted portion, of $101,000 being reclassified to equity. The key valuation assumptions used consist, in part, of the price of the Company’s common stock on the dates of conversion, of $0.19 to $0.35, a risk-free interest rate of 2.00% and expected volatility of the Company’s common stock of 145.37% to 156.33%, and the various estimated reset exercise prices weighted by probability. In addition, the Company paid $4,000 for debt issuance costs. The Company has no further obligations with respect to this loan.

The Company borrowed $175,000 from a lender on April 9, 2019. The note bears interest at 12%, and is payable in one lump sum on January 9, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to the lesser of the lowest trading price of the Company’s common stock for the twenty-five trading days prior to the note issuance date, and the variable conversion price equal to fifty-five percent of the lowest trading price of the Company’s common stock for the twenty-five trading days prior to the conversion date. If at any time while this note is outstanding a 3^rd party has the right to convert at a discount to market greater than the conversion price in effect at that time, the lender may utilize such greater discount percentage until the note is no longer outstanding. If at any time while this note is outstanding a 3rd party has a look back period greater than the look back period in effect at that time, the lender may utilize such greater number of look back days until the note is no longer outstanding. In addition, the Company paid $16,250 for debt issuance costs. The principal balance at September 30, 2019 is $175,000.

The Company borrowed $102,500 from a lender on April 10, 2019. The note bears interest at 8% and is payable in one lump sum on April 10, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. The principal balance at September 30, 2019 is $102,500.

The Company borrowed $400,000 from five lenders on May 20, 2019. The notes bear interest at 10% and are payable in one lump sum on May 20, 2020, at which time the entire amount of principal and accrued interest is due and payable. The notes are unsecured. The outstanding principal and interest amount is convertible by the holders into shares of the Company’s common stock at any time after the closing price of the Company’s common stock exceeds $0.75 for 10 consecutive trading days at a price equal to $0.50 per share. There was no value assigned to the beneficial conversion feature on the issuance date of the notes due to the Company’s common stock price being less than $0.75 per share. The principal balance at September 30, 2019 is $400,000.

The Company borrowed $88,500 from a lender on July 8, 2019. The note bears interest at 8% and is payable in one lump sum on July 8, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the average of the lowest two trading prices of the Company’s common stock for the twenty trading days prior to the conversion date. The principal balance at September 30, 2019 is $88,500.

The Company borrowed $103,000 from a lender on July 24, 2019. The note bears interest at 10% and is payable in one lump sum on July 24, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to the lesser of (1) $0.22 and (2) sixty-five percent of the lowest trading price of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company paid $15,315 for debt issuance costs. The principal balance at September 30, 2019 is $103,000.

The Company borrowed $100,000 from two lenders on July 26, 2019. The notes bear interest at 10% and are payable in one lump sum on May 20, 2020, at which time the entire amount of principal and accrued interest is due and payable. The notes are unsecured. The outstanding principal and interest amount is convertible by the holders into shares of the Company’s common stock at any time after the closing price of the Company’s common stock exceeds $0.75 for 10 consecutive trading days at a price equal to $0.50 per share. There was no value assigned to the beneficial conversion feature on the issuance date of the notes due to the Company’s common stock price being less than $0.75 per share. The principal balance at September 30, 2019 is $100,000.

The Company borrowed $175,000 from a lender on August 26, 2019. The note bears interest at 12% and is payable in one lump sum on February 26, 2020, at which time the entire amount of principal and accrued interest is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning 180 days after the issuance date and prior to the maturity date at a price per share equal to sixty-five percent of the second lowest trade price of the Company’s common stock for the twenty trading days prior to the conversion date. In addition, the Company granted the lender 625,000 shares of the Company’s common stock, paid $17,500 as a discount on the note, and paid $3,000 for debt issuance costs. The shares granted must be returned if the note is fully repaid and satisfied prior to 180 days after the issuance date. The Company recorded the value of the shares at $81,250, based on the Company’s share price on the date of the note agreement, as debt issuance costs. The principal balance at September 30, 2019 is $175,000.

The Company borrowed $295,000 from a lender on September 4, 2019. The note does not bear interest and matures September 4, 2020, at which time the entire amount of principal is due and payable. The note is unsecured. The outstanding principal amount is convertible by the holder into shares of the Company’s common stock at any time after the closing price of the Company’s common stock exceeds $0.75 for 10 consecutive trading days at a price equal to $0.50 per share. There was no value assigned to the beneficial conversion feature on the issuance date of the notes due to the Company’s common stock price being less than $0.75 per share. The principal balance at September 30, 2019 is $295,000. The Company paid $45,000 as a discount for interest on the note.

The Company borrowed $262,500 from a lender on September 10, 2019. The note bears interest at 10%, and is payable in one lump sum on September 10, 2020, at which time the entire amount of principal and accrued interest

is due and payable. The note is unsecured. The outstanding principal and interest amount is convertible by the holder into shares of the Company’s common stock beginning on the sixth month anniversary of the note and prior to the maturity date at a price per share equal to sixty percent of the lowest trading price of the Company’s common stock for the fifteen trading days prior to the conversion date. The principal balance at September 30, 2019 is $262,500.

7. Advances From Related Parties

The Company has received non-interest bearing advances without a specified maturity date from certain stockholders of the Company. The Company owed approximately $20,000 and $302,000, respectively, at September 30, 2019 and December 31, 2018 to the stockholders.

8. Revenue Sharing Agreements

The Company borrowed $50,000 from a lender on November 29, 2018, whereby the proceeds are to be used to purchase a certain HydraSpin unit in exchange for the lender to receive five percent of the revenues net of costs generated from the HydraSpin unit. On March 3, 2019, the Company cancelled this original agreement and entered into a new agreement whereby the lender is to receive fifty percent of the revenues net of costs and has guaranteed that the lender would receive $150,000 in net revenues by March 3, 2021, or the Company would pay the lender the difference between the $150,000 and the purchase price of $50,000 on or before March 31, 2021. On August 19, 2019, the Company cancelled the March 3, 2019 agreement and entered into a new agreement to borrow an additional $230,000, whereby the proceeds will be used to purchase a certain HydraSpin unit in exchange for the lender to receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $495,000 in net revenues by November 4, 2021, or the Company would pay the lender the difference between the $495,000 and the purchase price of $330,000 on or before November 30, 2021. For the nine-month period ended September 30, 2019, the Company recorded $27,569 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the unit, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $264,000 from a lender on December 13, 2018, whereby the proceeds are to be used to purchase certain HydraSpin units. On February 27, 2019, the Company cancelled this original agreement and entered into a new agreement to borrow an additional $66,000, whereby the proceeds were used to purchase a certain HydraSpin unit in exchange for the lender to receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $495,000 in net revenues by March 3, 2021, or the Company would pay the lender the difference between the $495,000 and the purchase price of $330,000 on or before March 31, 2021. For the nine-month period ended September 30, 2019, the Company recorded $42,625 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the unit, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $660,000 from a lender on January 2, 2019, whereby the proceeds were used to purchase certain HydraSpin units in exchange for the lender to receive fifty percent of the revenues net of costs generated from the HydraSpin units. The Company has guaranteed that the lender would receive $990,000 in net revenues by January 2, 2021, or the Company would pay the lender the difference between the $990,000 and the purchase price of $660,000 on or before January 15, 2021. For the nine-month period ended September 30, 2019, the Company recorded $123,750 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the units, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $660,000 from a lender on January 16, 2019, whereby the proceeds were used to purchase certain HydraSpin units in exchange for the lender to receive fifty percent of the revenues net of costs generated

from the HydraSpin units. The Company has guaranteed that the lender would receive $990,000 in net revenues by January 15, 2021, or the Company would pay the lender the difference between the $990,000 and the purchase price of $660,000 on or before January 17, 2021. For the nine-month period ended September 30, 2019, the Company recorded $116,875 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the units, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $330,000 from a lender on January 30, 2019, whereby the proceeds were used to purchase a certain HydraSpin unit in exchange for the lender to receive sixty percent of the revenues net of forty percent of costs generated from the HydraSpin unit until the lender receives revenue equal to 120% of the $330,000 investment, then the lender shall receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $495,000 in net revenues by January 30, 2021, or the Company would pay the lender the difference between the $495,000 and the purchase price of $330,000 on or before February 6, 2021. For the nine-month period ended September 30, 2019, the Company recorded $55,000 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the unit, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $330,000 from a lender on January 30, 2019, whereby the proceeds were used to purchase a certain HydraSpin unit in exchange for the lender to receive sixty percent of the revenues net of forty percent of costs generated from the HydraSpin unit until the lender receives revenue equal to 120% of the $330,000 investment, then the lender shall receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $495,000 in net revenues by January 30, 2021, or the Company would pay the lender the difference between the $495,000 and the purchase price of $330,000 on or before February 6, 2021. For the nine-month period ended September 30, 2019, the Company recorded $55,000 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the unit, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $330,000 from a lender on April 1, 2019, whereby the proceeds were used to purchase a certain HydraSpin unit in exchange for the lender to receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $495,000 in net revenues by April 8, 2021, or the Company would pay the lender the difference between the $495,000 and the purchase price of $330,000 on or before April 30, 2021. For the nine-month period ended September 30, 2019, the Company recorded $41,250 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the units, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

The Company borrowed $60,000 from a lender on June 25, 2019, whereby the proceeds were used to purchase a certain HydraSpin unit in exchange for the lender to receive fifty percent of the revenues net of costs generated from the HydraSpin unit. The Company has guaranteed that the lender would receive $90,000 in net revenues by June 25, 2021, or the Company would pay the lender the difference between the $90,000 and the purchase price of $60,000 on or before July 25, 2021. On August 15, 2019, the Company borrowed an additional $70,000 from the lender. During the quarter, the lender requested the agreement be terminated and $130,000 be returned to the lender. The Company intends to return the amount borrowed during the period ending December 31, 2019. For the nine-month period ended September 30, 2019, the Company recorded $208 of interest expense related to the value of the revenue sharing liability. The agreement remains in full force and effect until the earlier of (a) the Company is unable to satisfy its obligations under the terms of the agreement and action is brought by the lender to enforce same, (b) the expiration of the operating life of the units, as confirmed by the manufacturer (five years), or (c) the mutual written agreement of the parties.

9. Equity Transactions

From January 1, 2018 to March 31, 2018, the Company issued 1,656,000 shares to investors at $0.50 per share for cash, with total proceeds of $828,000, including subscription receivable of $50,000. In addition, the Company issued 610,000 shares to executives, employees working in research and development at the Company, and consultants. The value of these shares at $0.50 per share was $305,000.

From April 1, 2018 to June 30, 2018, the Company issued 625,000 shares to investors at $0.50 per share for cash, with total proceeds of $312,500. In addition, the Company issued 770,000 shares to executives, employees working in research and development at the Company and consultants. The value of these shares at $0.50 per share was $385,000. The Company had 1,250,000 shares returned during June 2018 as a result of a lawsuit settlement.

From July 1, 2018 to September 30, 2018, the Company issued 660,000 shares to investors at $0.50 per share for cash, with total proceeds of $330,000. In addition, the Company granted 705,000 shares to executives, employees working in research and development at the Company and consultants. The value of these shares at $0.50 per share was $352,500. Also see Note 5 regarding shares issued for debt issuance costs in September 2018.

From January 1, 2019 to March 31, 2019, the Company issued 200,000 shares to a lender upon receipt of a conversion notice. The Company also issued 565,384 shares to lenders for debt issuance costs. See Note 5.

From April 1, 2019 to June 30, 2019, the Company issued 1,289,051 shares to lenders upon receipt of conversion notices. See Note 5. In addition, the Company issued 825,000 shares to employees and consultants valued at the share price on the date the services were performed.

From July 1, 2019 to September 30, 2019, the Company issued 4,183,152 shares to lenders upon receipt of conversion notices. The Company also issued 625,000 shares to a lender for debt issuance costs and 1,502,389 shares to a lender for settlement of a claim. See Note 5. In addition, the Company issued 400,000 shares to employees and consultants valued at the share price on the date the services were performed and issued 1,180,000 shares to investors for total cash proceeds of $294,900.

10. Operating Leases – Right of Use Assets 

The Company has operating leases for office and warehouse space that expires in 2020 and 2023. Below is a summary of the Company’s right of use assets and liabilities as of September 30, 2019:

During the nine months ended September 30, 2019, the Company recognized approximately $164,000 in operating lease costs and are included in selling, general and administrative expenses in our consolidated statement of operations. During the nine months ended September 30, 2019, operating cash flows from operating leases was $144,847.

Approximate future minimum lease payments for the Company’s right of use assets over the remaining lease periods as of September 30, 2019, are as follows:

11. Income Taxes

The Company accounts for income taxes under the liability method. Deferred tax assets and liabilities are recorded based on the differences between the tax bases of assets and liabilities and their carrying amounts for financial reporting purpose, referred to as temporary differences. Deferred tax assets and liabilities at the end of each period are determined using the currently enacted tax rates applied to taxable income in the periods in which the deferred tax assets and liabilities are expected to be settled or realized.

The Company’s tax provision is determined using an estimate of an annual effective tax rate adjusted for discrete items, if any, that are taken into account in the relevant period. The 2019 and 2018 annual effective tax rate was 0% for the U.S. federal and state statutory tax rates. The Company reviews tax uncertainties in light of changing facts and circumstances and adjusts them accordingly. As of September 30, 2019 and December 31, 2018, there were no tax contingencies recorded.

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities recognized for financial reporting, and the amounts recognized for income tax purposes.

The Company has a net operating loss carry-forward for federal and state tax purposes of approximately $15,549,000 at September 30, 2019, that is potentially available to offset future taxable income. The TCJA (Tax Cut and Jobs Act) changes the rules on NOL carryforwards. The 20-year limitation was eliminated, giving the taxpayer the ability to carry forward losses indefinitely. However, NOL carry forward arising after January 1, 2018, will now be limited to 80 percent of taxable income.

For financial reporting purposes, no deferred tax asset was recognized at September 30, 2019 and December 31, 2018 because management estimates that it is more likely than not that substantially all of the net operating losses will expire unused. As a result, the amount of the deferred tax assets considered realizable was reduced 100% by a valuation allowance. The change in the valuation allowances were approximately $1,590,000 and $583,000 for the nine-months ended September 30, 2019 and 2018, respectively.

12. Segment Information

The Company sells water purification products and operates oil recovery systems. The Company has identified such reportable segments based on management responsibility and the nature of the Company’s products, services, and costs. To date, the Company primarily sells its water purification products internationally and operates its oil recovery systems in the United States. The Company measures segment profit (loss) as income (loss) from operations. Segment assets are those assets controlled by each reportable segment.

Below is the financial information related to the Company’s segments:

General corporate expenses include corporate salaries, health insurance and social security taxes for officers and corporate employees, corporate insurance, legal and accounting fees, and other corporate costs such as transfer agent and travel costs. Management considers these to be non-allocable costs for segment purposes.

13. Subsequent Events

The Company has evaluated all material events or transactions that occurred after September 30, 2019 up to November 19, 2019, the date these financial statements were available to be issued.

On November 12, 2019, the Company, through its HydraSpin subsidiary, signed an Exclusive Distributor Agreement (the “Agreement”) in which the other party to the agreement (the “Distributor”) agrees to become the exclusive distributor of HydraSpin products in certain Texas and New Mexico territories. HydraSpin shall provide the products to the Distributor at no cost but HydraSpin will receive certain net revenues from the sale of hydrocarbons produced by the products. HydraSpin’s share of net revenues will be 92% of Net Revenues, as defined for the first 10 installed products and 85% for the eleventh product installed and those products installed subsequently. In order for the Distributor to maintain the exclusivity granted in the agreement, it must deploy products in 25 new locations during each 12-month period following the effective date and all customer locations in the aggregate must generate an average of 7,500 barrels of water with at least 2% oil content in each per day. If the Agreement is extended beyond the initial term of five years, the number of customer locations to be secured to maintain exclusivity shall be increased to 50 per year.

Stock Issuances

During October 2019 and through November 19, 2019, the Company has converted $123,000 of its convertible debt into 4,927,841 shares of common stock.

Settlement Agreements

On November 15, 2019, the Company reached an amicable resolution of any and all obligations owed by it to Auctus Funds, LLC (“AF”) with respect to the Securities Purchase Agreement dated April 9, 2019 and the related Convertible Promissory Note dated April 9, 2019. The Company has agreed to pay AF $270,000 in three installments. The first payment of $50,000 was paid on November 15, 2019. The second payment of $100,000 will be paid to AF on November 22, 2019. The final payment of $120,000 will be paid to AF on November 29, 2019.

On November 15, 2019, the Company reached an amicable resolution of any and all obligations owed by it to Crown Bridge Partners, LLC (“CBP”) with respect to that certain securities purchase agreement and outstanding convertible note with CBP. The Company made a payment of $120,000 to CBP on November 15, 2019, thereby fulfilling any and all obligations to CBP.

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

The following discussion should be read in conjunction with our consolidated financial statements and related notes thereto included in this quarterly report, and the audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2018.

Overview

Water Now, Inc. was incorporated in Texas on February 10, 2016 to develop and commercialize a gas/diesel or electric powered, portable device that processes and purifies contaminated water. Our business strategy was conceived as a result of the growing global water crisis. Today, many countries and regions are experiencing acute water shortages and we believe our technology and products are capable of generating safe drinking water from many available water sources. We have two principal reportable segments: water purification products and oil recovery systems.

Our water purification product lines consist of portable units capable of providing a cost-effective, safe and efficient method of water purification. Our products require no pre- or post-treatment of the source water, no filters, no membranes and no chemicals. The quality of water purified by our products has been tested to meet or exceed the World Health Organization’s (“WHO”) drinking water standards.

We have also developed a flameless heating technology that allows us to manufacture an electronically powered portable heating platform. The platform uses no combustion or electronic heating elements. By avoiding traditional heating elements, the product is ideal for facilities that generate vapors or dust, such as paint and body shops, furniture manufacturers, fuel depots and grain elevators. Our technology is anticipated to allow for the efficient heating of large spaces such as warehouses and garages. We introduced to the market our initial product offering, HydraHeat, in June 2019, but have yet to generate revenue. The first product that we will make available to the market will heat approximately 1,000 square feet.

On October 23, 2018, the Company formed HydraSpin USA, Inc., a Texas corporation (“HydraSpin”), as a wholly-owned subsidiary. HydraSpin is engaged in the installation and operation of oil recovery systems deployed at salt water disposal wells associated with the oil industry. The utilized technology developed by African Horizon Technologies (Pty) Ltd (“AHT”) allows for the separation of residual oil from water contained in the disposal sites so as to minimize environmental contamination from the fluids containing oil.

On October 31, 2018, the Company entered into an Exclusive Sales Distribution Agreement (the “AHT Agreement”) with AHT whereby the Company serves as AHT’s exclusive distributor of the Hydraspin Hydro Cyclone technology in the United States of America. Pricing is established in accordance with the AHT Agreement. Products are paid 50% upon order and the balance being due FOB the port. Typical lead time to have a machine ready for deployment after it is ordered is sixty (60) days.

On November 12, 2019, the Company, through its HydraSpin subsidiary, signed an Exclusive Distributor Agreement (the “Agreement”) in which the other party to the agreement (the “Distributor”) agrees to become the exclusive distributor of HydraSpin products in certain Texas and New Mexico territories. HydraSpin shall provide the products to the Distributor at no cost but HydraSpin will receive certain net revenues from the sale of hydrocarbons produced by the products. HydraSpin’s share of net revenues will be 92% of Net Revenues, as defined for the first 10 installed products and 85% for the eleventh product installed and those products installed subsequently. In order for the Distributor to maintain the exclusivity granted in the agreement, it must deploy products in 25 new locations during each 12-month

period following the effective date and all customer locations in the aggregate must generate an average of 7,500 barrels of water with at least 2% oil content in each per day. If the Agreement is extended beyond the initial term of five years, the number of customer locations to be secured to maintain exclusivity shall be increased to 50 per year.

The Company and the Distributor estimate that the first 25 products deployed will produce approximately $40 million in gross revenue annually to HydraSpin.

The Company, through HydraSpin, contracts with owners of saltwater injection wells to reclaim oil using systems manufactured by AHT but owned and operated by HydraSpin. We derive revenue from sharing the proceeds of the oil recovered and sold with the owner of the applicable disposal location, typically on a 50/50 basis. As of the current date, we have ordered 13 systems from AHT, of which we have received six units. Three of these units are currently in operation and three are expected to be in operation by the end of November 2019. The remaining seven units are expected to be received and placed in operation in the 1^st quarter of 2020.

Financial Overview

Revenue

From February 10, 2016 (date of inception) through September 30, 2019, we had generated revenues of approximately $533,000. Our ability to increase revenues will depend on the successful manufacturing and commercialization of our water purification and heater units and the continued development of contracts with our Hydraspin customers.

Research and Development Expenses

The Company expenses R&D costs as incurred. The Company’s R&D activities related to activities undertaken to commercialize our water purification and heater products.

General and Administrative Expenses

General and administrative (“G&A”) expenses consist primarily of salaries and related costs for personnel, including stock-based compensation expense. To date, we have estimated the fair value of stock-based awards issued to employees, directors and non-employees based on prices paid by unrelated third-parties for the purchases of our common stock. Subsequent to the active trading date of our common stock on August 14, 2018, we have based the fair value of awards on the quoted closing bid price of our common stock on the OTC Markets on the date of grant. Other G&A expenses include patent costs, and professional fees for legal, finance, accounting services, and a legal settlement in 2018.

We anticipate that our G&A expenses will increase in future periods to support increases in our research and development activities and as a result of increased headcount, expanded infrastructure, increased legal, compliance, accounting and investor and public relations expenses associated with being a public company and increased insurance premiums, among other factors.

Interest Expense

Interest expense consists of interest incurred on borrowings including amortization of debt issue costs.

Critical Accounting Policies and Estimates

The preparation of the unaudited consolidated financial statements requires our management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On a regular basis, we evaluate these estimates, including investment impairment. These estimates are based on management’s historical industry experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates.

For a description of the accounting policies that, in management’s opinion, involve the most significant application of judgment or involve complex estimation and which could, if different judgment or estimates were made, materially affect our reported financial position, results of operations, or cash flows, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Significant Accounting Policies and Recent Accounting Pronouncements” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2018 filed with the SEC on April 1, 2019.

During the nine months ended September 30, 2019, there were no significant changes in our accounting policies and estimates other than the newly adopted accounting standards that are disclosed in Note 1 to our consolidated financial statements.

Results of Operations

For the three months ended September 30, 2019 and 2018 (unaudited)

Revenue

We generated revenues of $20,092 and $(19,995) for the three months ended September 30, 2019 and 2018, respectively. We generated revenues of $0 and $20,092 from our water purification products and oil recovery systems segments, respectively, for the three months ended September 30, 2019. During the three months ended September 30, 2019, we did not generate any revenues from the sale of our water purification products as no orders were filled during the period. We continue to aggressively market our water purification products and believe that demand will increase as current customers reorder and new customers are acquired. We had a reversal of a sale totaling $23,995 during the three months ended September 30, 2018 due to writing off the sale as a charitable donation.

Operating expenses    

Below is a summary of our operating expenses for the three months ended September 30, 2019 and 2018:

Salaries and wages decreased during the three months ended September 30, 2019 primarily related to a decrease in stock-based compensation.

Professional fees increased during the three months ended September 30, 2019 primarily related to an increase in consulting and legal fees.

Selling, general and administrative increased during the three months ended September 30, 2019 primarily related to an increase in insurance, rent, shipping, and travel expenses.

Segment contribution to loss from operations is presented in the table below:

Water purification products loss from operations during the three months ended September 30, 2019 decreased mainly due to the decrease in payroll, consulting and supplies. The increase in oil recovery systems loss from operations during the three months ended September 30, 2019 was due to an increase in expenses for payroll, supplies, and travel expenses. General corporate loss from operations during the three months ended September 30, 2019 increased mainly due to the increase in selling, general and administrative expenses noted above.

Other Expense

Below is a summary of our other expense for the three months ended September 30, 2019 and 2018:

Interest expense increased primarily related to amortization of debt issue costs on the convertible debt issued during the period. We recorded a gain on the change in fair value of derivative liability during the period based on the value of the derivatives as of September 30, 2019. We recorded a loss on extinguishment of debt during the period due to paying off the convertible notes prior to maturity. See Note 5 of the Notes to Condensed Consolidated Financial Statements (unaudited) for the period ended September 30, 2019 and 2018.

Net Losses

We incurred net losses of $4,110,150 and $985,481 for the three months ended September 30, 2019 and 2018, respectively, because of the factors discussed above. 

Net loss per share for the three months ended September 30, 2019 and 2018 was $(0.10) and $(0.03), respectively, based on the weighted-average number of shares issued and outstanding during the period.

For the nine months ended September 30, 2019 and 2018 (unaudited)

Revenue

We generated revenues of $334,393 and $39,200 for the nine months ended September 30, 2019 and 2018, respectively. We generated $308,744 and $25,649 from our water purification products and oil recovery systems segments, respectively, for the nine months ended September 30, 2019.

Operating expenses    

Below is a summary of our operating expenses for the nine months ended September 30, 2019 and 2018:

Salaries and wages increased during the nine months ended September 30, 2019 primarily related to increases in the salaries, payroll taxes and benefits due to an increase in number of employees.

Professional fees decreased during the nine months ended September 30, 2019 primarily related to a decrease in consulting fees and a 2018 settlement of lawsuit offset by an increase in audit fees.

Selling, general and administrative increased during the nine months ended September 30, 2019 primarily related to an increase in advertising and marketing, rent, shipping, and insurance offset by a decrease in supplies and parts.

We recorded a gain on sale of assets during the nine months ended September 30, 2019 from the sale of our equipment.

Segment contribution to loss from operations is presented in the table below:

Water purification products loss from operations during the nine months ended September 30, 2019 remained consistent with prior period. The increase in oil recovery systems loss from operations during the nine months ended September 30, 2019 was due to the HydraSpin units being received during the period and expenses for setting up the unit, which mainly included payroll, supplies, and travel expenses. General corporate loss from operations during the nine months ended September 30, 2019 increased mainly due to increases in consulting and payroll.

Other Expense

Below is a summary of our other expense for the nine months ended September 30, 2019 and 2018:

Interest expense increased primarily related to amortization of debt issue costs on the convertible debt issued during the period. We recorded a gain on the change in fair value of derivative liability during the period based on the value of the derivatives as of September 30, 2019. We recorded a loss on extinguishment of debt during the period due to paying off the convertible notes prior to maturity. See Note 5 of the Notes to Condensed Consolidated Financial Statements (unaudited) for the period

ended September 30, 2019 and 2018.

Net Losses

We incurred net losses of $7,575,057 and $2,776,856 for the nine months ended September 30, 2019 and 2018, respectively, because of the factors discussed above. 

Net loss per share for the nine months ended September 30, 2019 and 2018 was $(0.20) and $(0.09), respectively, based on the weighted-average number of shares issued and outstanding during the period.

Liquidity and Capital Resources

Sources of Liquidity

To date, we have generated revenues of $533,000. For fiscal 2018, we had a net loss of $4,370,056, resulting in an accumulated deficit as of December 31, 2018 of $7,979,177. As of September 30, 2019, we had cash and cash equivalents of $127,129. Our auditors issued a going concern opinion with respect to our financial statements as of and for the fiscal year ended December 31, 2018 due to the incurrence of significant operating losses, which raise substantial doubt about our ability to continue as a going concern. We have financed our operations to date primarily through private placements of our common stock and borrowings. For the nine months ended September 30, 2019, we received $3,192,935 in net proceeds from borrowings on notes payable and $2,736,000 in net proceeds from borrowings on revenue sharing agreements. As of September 30, 2019, we had total liabilities of approximately $9,894,000. We expect to continue to utilize debt and equity to finance our operations until we become profitable.

Cash Flows

The following table sets forth the primary sources and uses of cash for the period set forth below.

Operating activities. Our use of cash in operating activities resulted primarily from our net loss, as adjusted for certain non-cash items and changes in operating assets and liabilities. For the nine months ended September 30, 2019, non-cash items mainly consisted of common stock issued as payment for services and employee compensation, non-cash interest expense, change in fair value of derivative liability and depreciation and amortization, and changes in operating assets and liabilities mainly consisted of an increase in accounts receivable, other receivables, security deposit, and accounts payable offset by a decrease in accrued expenses.

Investing activities. Cash used in investing activities consisted of additions to property and equipment, proceeds from sale of assets, and a payment on the distributorship agreement with AHT.

Financing activities. Cash provided by financing activities consisted primarily of proceeds from the issuance of our note agreements, common stock, and revenue sharing liabilities offset by payments on notes payable.

Funding Requirements

We expect to continue to incur significant expenses and increasing operating losses for the foreseeable future. We anticipate that our expenses will increase substantially if and as we:

We expect that we will require additional capital to fund operations, including hiring additional employees and increasing inventory levels, during the next twelve (12) month period.

Because of the numerous risks and uncertainties associated with the development and commercialization of our products, we are unable to estimate the amounts of increased capital outlays and operating expenses associated with successfully commercializing such products. Our future capital requirements will depend on many factors, including:

Until such time, if ever, as we can generate substantial product revenues, we expect to finance our cash needs through a combination of equity offerings, debt financings, and strategic alliances. We do not have any committed external source of funds. To the extent that we raise additional capital through the sale of equity or convertible debt securities, the ownership interest of our shareholders will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of common shareholders. Debt financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. If we raise additional funds through strategic alliances or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies and future revenue streams or grant licenses on terms that may not be favorable to us. If we are unable to raise additional funds through equity or debt financings when needed, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to commercialize products that we would otherwise prefer to develop and market ourselves.

Off-Balance Sheet Arrangements

We have not entered into any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources and would be considered material to investors.

Tax Loss Carryforwards

We had a net operating loss carry-forward for federal and state tax purposes of approximately $15,549,000 at September 30, 2019, that is potentially available to offset future taxable income, which will begin to expire in the year 2036. For financial reporting purposes, no deferred tax asset was recognized because at September 30, 2019 and December 31, 2018 management estimates that it is more likely than not that substantially all of the net operating losses will expire unused. As a result, the amount of the deferred tax assets considered realizable was reduced 100% by a valuation allowance.

ITEM 3. Quantitative and Qualitative Disclosures About Market Risk

We do not have any borrowings that are affected by changes in market interest rates. We do not currently have any sales or own assets and operate facilities in countries outside the United States and, consequently, we are not affected by foreign currency fluctuations or exchange rate changes.  Overall, at this time, we believe that our exposure to interest rate risk and foreign currency exchange rate changes is not material to our financial condition or results of operations.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures.   

Under the supervision and with the participation of the Company’s chief executive officer and chief financial officer, the Company conducted an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of March 31, 2017. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in “Internal Control—Integrated Framework (2013).” Based on this evaluation, the Company’s chief executive officer and chief financial officer concluded as of March 31, 2017 that the Company’s disclosure controls and procedures were not effective such that the information relating to the Company, including consolidated subsidiaries, required to be disclosed in the Company’s Securities and Exchange Commission (“SEC”) reports (i) is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) is accumulated and communicated to the Company’s management, including the Company’s chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control Over Financial Reporting.   The Company’s principal executive and principal financial officer has concluded there were no changes in internal control during the fiscal quarter ended September 30, 2019.

PART II. – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We may become involved in, or have been involved in, arbitrations or various other legal proceedings that arise from the normal course of our business. We cannot predict the timing or outcome of these claims and other proceedings. The ultimate outcome of any litigation is uncertain, and either unfavorable or favorable outcomes could have a material negative impact on our results of operations, balance sheets and cash flows due to defense costs, and divert management resources. Currently, except as set forth below, we are not involved in any arbitration and/or other legal proceeding that could have a material effect on our business, financial condition, results of operations and cash flows.

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

The following is a summary of our issuances of common stock during the quarter ended September 30, 2019:

On various dates from January 1, 2019 to September 30, 2019, the Company issued 5,672,203 shares to lenders upon receipt of conversion notices, issued 1,190,384 shares to lenders for debt issuance costs, issued 1,502,389 to a lender upon exercise of a warrant, issued 1,225,000 shares to executives, employees and consultants, and issued 1,180,000 shares to investors for proceeds of $294,900. The issuance of such shares was in reliance on Section 3(a)(9) and Section 4(a)(2) of the Securities Act of 1933.

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.

INDEX TO EXHIBITS

_______* XBRL Instance Document

_______* XBRL Schema Document

_______* XBRL Calculation Linkbase Document

_______* XBRL Definition Linkbase Document

_______* XBRL Label Linkbase Document

_______* XBRL Presentation Linkbase Document

______________________________

* Filed or furnished herewith.

Exhibit 31.1

CERTIFICATION

I, David King, certify that:

2.    Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.    Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.    As the sole certifying officer, I am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

b)    Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c)    Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

d)   Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5.    As the sole certifying officer, I have disclosed, based on my most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

a)    All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

b)    Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

Exhibit 32.1

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report of Water Now, Inc. (the “Company”) on Form 10-Q for the period ended September 30, 2019, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), the undersigned, David King, Chief Executive Officer and Chief Financial Officer of the Company, hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: