SG BLOCKS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
For the Six Months Ended June 30, 2013 and 2012 (Unaudited)
10. Stock Options and Grants
2011 Plan – On July 27, 2011, in connection with the Merger, the Company obtained the written consent of holders of a majority of its outstanding common stock approving the 2011 Incentive Stock Plan (the “2011 Plan”). The 2011 Plan covers up to 8,000,000 shares of common stock, and all officers, directors, employees, consultants and advisors are eligible to be granted awards under the 2011 Plan. An incentive stock option may be granted under the 2011 Plan only to a person who, at the time of the grant, is an employee of the Company or its subsidiaries. The 2011 Plan expires on July 26, 2021, and is administered by the Company’s Board. As of June 30, 2013, there were 3,928 shares of common stock available for issuance under the 2011 Plan.
During 2012, the Company’s board of directors approved the issuance of up to an additional 2,000,000 shares of the Company’s common stock in the form of restricted stock or options. These options generally have the same terms and conditions as those provided under the 2011 Plan, however, the authorization of these options is not subject to shareholder approval. The issuance of these options will be approved by the Company’s board of directors on a case-by-case basis. As of June 30, 2013, there were 106,071 shares of common stock available for issuance under this approval.
A summary of stock option activity as of June 30, 2013 and changes during the three months then ended are presented below:
| |
|
Shares
|
|
|
Weighted
Average Fair
Value Per Share
|
|
|
Weighted
Average
Exercise Price
Per Share
|
|
|
Weighted
Average
Remaining Terms
(in years)
|
|
|
Aggregate
Intrinsic Value
|
|
|
Outstanding – December 31, 2012
|
|
|
9,317,501
|
|
|
$
|
0.11
|
|
|
$
|
0.36
|
|
|
|
|
|
|
|
|
Granted
|
|
|
572,500
|
|
|
|
0.08
|
|
|
|
0.41
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
Cancelled
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
Outstanding – June 30, 2013
|
|
|
9,890,001
|
|
|
$
|
0.11
|
|
|
$
|
0.36
|
|
|
|
8.6
|
|
|
$
|
162,125
|
|
|
Exercisable – December 31, 2012
|
|
|
4,973,333
|
|
|
$
|
0.11
|
|
|
$
|
0.30
|
|
|
|
8.97
|
|
|
$
|
359,600
|
|
|
Exercisable – June 30, 2013
|
|
|
6,039,167
|
|
|
$
|
0.11
|
|
|
$
|
0.36
|
|
|
|
8.53
|
|
|
$
|
107,417
|
|
For the three months and six months ended June 30, 2013, the Company recognized stock-based compensation expense of $95,823 and $209,308, respectively, which is included in payroll and related expenses in the accompanying condensed consolidated statements of operations.
As of June 30, 2013, there was $225,858 of total unrecognized compensation costs related to non-vested stock options, which will be expensed over a weighted average period of 0.7 years. The intrinsic value is calculated as the difference between the fair value as of the balance sheet date and the exercise price of each of the outstanding stock options. The fair value at June 30, 2013 and December 31, 2012 was $0.23 and $0.30 per share, respectively, as determined by using a weighted value between the income approach method, the public company market multiple method, and a fair value method developed by the Company.
SG BLOCKS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
For the Six Months Ended June 30, 2013 and 2012 (Unaudited)
10. Stock Options and Grants (continued)
During 2011, the Company executed a two year consulting agreement with a consultant, to act as a Senior Advisor of the Company. In consideration for the services to be performed under the agreement, the Company shall on the last business day of each month during the term, grant the consultant an option to purchase 10,000 shares of the Company’s Common Stock with an exercise price equal to fair market value. One-third of the options vest upon the grant date, the second third vests on the first anniversary date of the grant date, and the remaining third vests on the second anniversary of the grant date. During the six months ending June 30, 2013, the consultant was granted options to purchase 60,000 shares of the Company’s Common Stock with exercise prices ranging from $0.16 to $0.32 per share. These options were not granted under the 2011 Plan. The fair value of these options upon issuance amounted to $9,456.
On March 14, 2013, under the 2011 Plan, three employees and directors of the Company were granted options to purchase 150,000 shares of the Company’s Common Stock with an exercise price of $0.43 per share. One-third of the options vest upon the grant date, the second third vests on the first anniversary date of the grant date, and the remaining third vests on the second anniversary of the grant date. The fair value of these options upon issuance amounted to $11,310.
On March 14, 2013, seven employees and directors of the Company were granted options to purchase 362,500 shares of the Company’s Common Stock with an exercise price of $0.43 per share. These options were granted separate and apart from the 2011 Plan and were not granted from the shares available under the Company’s 2011 Plan. One-third of the options vest upon the grant date, the second third vests on the first anniversary date of the grant date, and the remaining third vests on the second anniversary of the grant date. The fair value of these options upon issuance amounted to $27,333.
SG BLOCKS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
For the Six Months Ended June 30, 2013 and 2012 (Unaudited)
10. Stock Options and Grants (continued)
The fair value of the stock-based option awards granted during the six months ended June 30, 2013 were estimated at the date of grant using the Black-Scholes option valuation model with the following assumptions:
|
Stock price
|
|
$
|
0.23-0.24
|
|
|
Expected dividend yield
|
|
|
0.00
|
%
|
|
Expected stock volatility
|
|
|
50
|
%
|
|
Risk-free interest rate
|
|
|
0.88-2.52
|
%
|
|
Expected life
|
|
5.5 - 10 years
|
|
Because the Company does not have significant historical data on employee exercise behavior, the Company uses the “Simplified Method” to calculate the expected life of the stock-based option awards. The simplified method is calculated by averaging the vesting period and contractual term of the options.
11. Commitments
Operating lease – The Company leases office space in New York City to conduct its business. The lease began in October 2011 and expires October 31, 2016, with rent escalations. Non-contingent rent increases are being amortized over the life of the lease on a straight line basis. The rental expense charged to operations for the three months ended June 30, 2013 and 2012 amounted to $26,425 and $28,217, respectively. The rental expense charged to operations for the six months ended June 30, 2013 and 2012 amounted to $53,774 and $56,434, respectively. Future minimum rental payments on this lease are as follows for the years ending December 31,:
|
2014
|
|
$
|
115,483
|
|
|
2015
|
|
|
121,312
|
|
|
2016
|
|
|
103,535
|
|
| |
|
$
|
340,330
|
|
12. Related Party Transactions
ConGlobal Industries, Inc. is a minority stockholder of the Company and provides containers and labor on domestic projects. The Company recognized Cost of Goods Sold of $538,877 and $277,276, for services ConGlobal Industries, Inc. rendered during the three months ended June 30, 2013 and 2012, respectively. The Company recognized Cost of Goods Sold of $877,054 and $564,571, for services ConGlobal Industries, Inc. rendered during the six months ended June 30, 2013 and 2012, respectively As of June 30, 2013 and December 31, 2012, $143,840 and $62,844, respectively, of such expenses are included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheets.
SG BLOCKS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
For the Six Months Ended June 30, 2013 and 2012 (Unaudited)
12. Related Party Transactions (continued)
The Lawrence Group is a minority stockholder of the Company and is a building design, development and project delivery firm. The Company recognized Cost of Goods Sold of $27,629 and $52,966 for services The Lawrence Group rendered during the three months and six months ended June 30, 2013, respectively. As of June 30, 2013 and December 31, 2012, $27,629 and $37,233, respectively, of expenses were included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheet.
The Company has accrued certain reimbursable expenses of owners of the Company. Such expenses amounted to $2,779 for the year ended December 31, 2012, and are included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheet as of December 31, 2012.
13. Cancellation of Trade Liabilities and Unpaid Interest
For the three months and six months ended June 30, 2013 and 2012, the Company recognized debt forgiveness income of $0, $8,294, $0, and $31,447 respectively, as shown on the accompanying statements of operations, which represents forgiveness of trade accounts payable resulting from settlement agreements with vendors.
| Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations |
Introduction and Certain Cautionary Statements
The following discussion and analysis of the financial condition and results of our operations should be read in conjunction with our condensed consolidated financial statements and related notes and schedules included elsewhere in this Quarterly Report on Form 10-Q. The unaudited condensed consolidated financial statements and notes included herein should be read in conjunction with our audited consolidated financial statements and notes for the year ended December 31, 2012, which were included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those discussed below. Factors that could cause or contribute to such differences include, but are not limited to, intensified competition and/or operating problems in its operating business projects and their impact on revenues and profit margins or additional factors, and those discussed in Part II, Item 1A “Risk Factors” and elsewhere this Quarterly Report on Form 10-Q. In addition, certain information presented below is based on unaudited financial information. There can be no assurance that there will not be changes to this information once audited financial information is available.
Organization
On July 27, 2011, the Company entered into the Merger Agreement (the “Merger Agreement”) by and among CDSI Merger Sub, Inc., a Delaware corporation and a wholly-owned subsidiary of the Company (“CDSI Merger Sub”), SG Building, Inc., a Delaware corporation (known as SG Blocks, Inc. prior to the Merger) (“SG Building”), and certain stockholders of SG Building. The Merger Agreement provided for the merger of CDSI Merger Sub with and into SG Building, with SG Building surviving the Merger and becoming a wholly-owned subsidiary of the Company (the “Merger”). Upon consummation of the Merger on November 4, 2011, SG Building became the principal operating business of the Company and the Company was renamed SG Blocks, Inc. The Merger was a reverse merger that was accounted for as a recapitalization of SG Building, and accordingly SG Building was deemed to be the accounting acquirer.
The following summaries of the Merger and related transactions, the Merger Agreement and the other agreements entered into by the parties are qualified in their entirety by reference to the text of the applicable agreements.
On November 4, 2011, pursuant to the terms of the Merger Agreement, the Merger was consummated and CDSI Merger Sub was merged with and into SG Building, with SG Building surviving the Merger and becoming a wholly-owned subsidiary, and only operating business of the Company. In connection with the Merger, (i) each of the 1,786,000 shares of SG Building common stock which were outstanding immediately prior to the effective date of the Merger were exchanged for 20.1851851852 shares of the Company’s common stock and (ii) each of the 51,750 outstanding SG Building warrants were cancelled and substituted with Company warrants of a similar tenor to purchase an aggregate of 1,044,584 shares of the Company’s common stock. Also, in connection with the Merger, 408,750 shares of the Company’s common stock were issued for services related to the Merger.
The number of shares of common stock of the Company issued and outstanding immediately following the consummation of the Merger on November 4, 2011 is summarized as follows:
| |
|
Number of Shares
|
|
|
SG Building shares outstanding prior to the Merger
|
|
|
1,786,000
|
|
|
Share exchange ratio (20.1851851852 to 1)
|
|
|
20.1851851852
|
|
| |
|
|
36,050,764
|
|
|
SG Blocks shares outstanding prior to the Merger
|
|
|
3,269,992
|
|
|
Shares issued in connection with the Merger
|
|
|
408,750
|
|
| |
|
|
39,729,506
|
|
In connection with the Merger Agreement, the Company entered into an escrow agreement with former shareholders of SG Building in order to provide for any payment to which the Company may be entitled with respect to post-closing rights to indemnification under the Merger Agreement. Under the terms of the escrow agreement, the former stockholders of SG Building placed in escrow (with an independent escrow agent) a total of 817,500 shares of common stock received by them in the Merger. Such shares of common stock held in escrow were the Company’s sole remedy for rights to indemnification under the Merger Agreement. No claims for indemnification were asserted by the Company within the escrow period, and accordingly the escrowed shares were released from escrow in April 2012.
General
SG Building, our wholly-owned subsidiary, offers the construction industry a safer, greener, faster, longer lasting and more economical alternative to conventional construction methods. SG Building redesigns, repurposes, and converts heavy-gauge steel cargo shipping containers into safe green building blocks for commercial, industrial, and residential building construction.
SG Building is a provider of code engineered cargo shipping containers that it modifies and delivers to meet the growing demand for safe and green construction. Rather than consuming new steel and lumber, SG Building capitalizes on the structural engineering and design parameters a shipping container must meet and repurposes them for use in building.
During 2011, the Company formed SG Blocks Sistema De Constucao Brasileiro LTDA. (“SG Brazil”), a wholly owned subsidiary of the Company. As of June 30, 2013, SG Brazil is inactive.
Results of Operations
Six Months Ended June 30, 2013 and 2012:
| |
|
2013
|
|
|
2012
|
|
|
Loss from operations
|
|
|
(1,134,572 |
) |
|
|
(991,259 |
) |
|
Other income (expense)
|
|
|
(52,664 |
) |
|
|
60,492 |
|
|
Net Loss
|
|
|
(1,187,236 |
) |
|
|
(930,767 |
) |
Revenue
Revenue for the six months ended June 30, 2013 was $2,577,788 compared to $1,607,070 for the six months ended June 30, 2012. This increase of $970,718 results mainly from an increase of revenue from project management jobs as well as a decrease in revenue from engineering jobs. Revenue recognized from project management jobs increased approximately $1,494,000 and revenue recognized from engineering jobs decreased by approximately $575,000 for the six months ended June 30, 2013 compared to the six month ended June 30, 2012. During the six months ended June 30, 2013 the Company recognized revenue from 10 project management jobs compared to 6 project management jobs for the six months ended June 30, 2012. During the six months ended June 30, 2013 the Company recognized revenue from 2 engineering jobs compared to 6 engineering jobs for the six months ended June 30, 2012.
Cost of Revenue and Gross Profit
Cost of revenue increased by $1,280,404 to $2,568,282 for the six months ended June 30, 2013 from $1,287,878 for the six months ended June 30, 2012. The increase in cost of revenue results primarily from an increase of costs from project management jobs, a decrease in costs from engineering jobs and loss accruals of approximately $44,000. Costs recognized from project management jobs increased approximately $1,710,000 and costs recognized from engineering jobs decreased approximately $488,000 for the six months ended June 30, 2013 compared to the six months ended June 30, 2012. Gross profit decreased by $309,686 to $9,506 for the six months ended June 30, 2013 compared to $319,192 for the six months ended June 30, 2012. Gross profit percentage decreased to 0% for the six months ended June 30, 2013 compared to 20% for the six months ended June 30, 2012. This decrease results primarily from a change in gross profit percentage from project management jobs from 9% for the six months ended June 30, 2012 to (13)% for the six months ended June 30, 2013. The Company incurred gross loss from project management revenue during the six months ended June 30, 2013 due to losses recognized on five jobs totaling approximately $218,000.
Payroll and Related Expense
Payroll and related expense for the six months ended June 30, 2013 was $677,093 compared to $714,890 for the six months ended June 30, 2012. This decrease was mainly caused by voluntary salary reductions from management and staff in an effort to reduce operating costs.
Other Operating Expenses
Other operating expenses for the six months ended June 30, 2013 was $466,985 compared to $595,561 for the six months ended June 30, 2012. The decrease of $128,576 results primarily from a decrease of approximately $114,000 in professional fees for the six months ended June 30, 2013 compared to the six months ended June 30, 2012. This decrease results from Company efforts to lower overhead costs.
Interest Expense
Interest expense for the six months ended June 30, 2013 was $321,101 compared to $4,087 for the six months ended June 30, 2012. This increase of $317,014 results from accrued interest, amortization of debt discount on the Company’s convertible debentures and amortization of debt issuance costs.
Other income (expense)
During the six months ended June 30, 2012, there was other income recognized from a cancellation of trade liabilities and accrued interest of $31,447. Additionally during the six months ended June 30, 2013 and 2012 there was other income of $268,357 and $33,064, respectively, recognized due to a change in fair value of financial instruments.
Three Months Ended June 30, 2013 and 2012:
| |
|
2013
|
|
|
2012
|
|
|
Loss from operations
|
|
|
(657,347 |
) |
|
|
(496,108 |
) |
|
Other income (expense)
|
|
|
(122,423 |
) |
|
|
28,910 |
|
|
Net Loss
|
|
|
(779,770 |
) |
|
|
(467,198 |
) |
Revenue
Revenue for the three months ended June 30, 2013 was $1,621,620 compared to $1,083,055 for the three months ended June 30, 2012. This increase of $538,565 results mainly from an increase of revenue from project management jobs and a decrease in revenue from engineering jobs. Revenue recognized from project management jobs increased approximately $990,000 and revenue recognized from engineering jobs decreased approximately $504,000 for the three months ended June 30, 2013 compared to the three months ended June 30, 2012. During the three months ended June 30, 2013 the Company recognized revenue from 9 project management jobs compared to 5 project management jobs for the three months ended June 30, 2012. During the three months ended June 30, 2013 the Company recognized revenue from 2 engineering jobs compared to 5 engineering jobs for the three months ended June 30, 2012.
Cost of Revenue and Gross Profit
Cost of revenue increased by $809,396 to $1,667,368 for the three months ended June 30, 2013 from $857,972 for the three months ended June 30, 2012. The increase in cost of revenue results primarily from an increase of costs from project management jobs, a decrease in costs from engineering jobs and as loss accruals of approximately $38,000. Costs recognized from project management jobs increased approximately $1,151,000 and costs recognized from engineering jobs decreased approximately $415,000 for the three months ended June 30, 2013 compared to the three months ended June 30, 2012. Gross profit (loss) decreased by $270,831 to $(45,748) for the three months ended June 30, 2013 compared to $225,083 for the three months ended June 30, 2012. Gross profit percentage decreased to (3)% for the three months ended June 30, 2013 compared to 21% for the three months ended June 30, 2012. This decrease results primarily from a change in gross profit percentage from project management jobs from (2)% for the three months ended June 30, 2012 to (15)% for the three months ended June 30, 2013. The Company incurred gross loss from project management revenue during the three months ended March 31, 2013 due to losses recognized on six jobs totaling approximately $222,000.
Payroll and Related Expense
Payroll and related expense for the three months ended June 30, 2013 was $332,558 compared to $387,417 for the three months ended June 30, 2012. This decrease was mainly caused by voluntary salary reductions from management and staff in an effort to reduce operating costs.
Other Operating Expenses
Other operating expenses for the three months ended June 30, 2013 was $279,041 compared to $333,774 for the three months ended June 30, 2012. The decrease of $54,733 results primarily from a decrease of approximately $30,000 in professional fees for the three months ended June 30, 2013 compared to the three months ended June 30, 2012. This decrease results from Company efforts to lower overhead costs.
Interest Expense
Interest expense for the three months ended June 30, 2013 was $171,331 compared to $2,043 for the three months ended June 30, 2012. This increase of $169,288 results from accrued interest, amortization of debt discount on the Company’s convertible debentures and amortization of debt issuance costs.
Other income (expense)
During the three months ended June 30, 2012, there was other income recognized from a cancellation of trade liabilities and accrued interest of $8,294. Additionally during the three months ended June 30, 2013 and 2012 there was other income of $48,862 and $22,618, respectively, recognized due to a change in fair value of financial instruments.
Income Tax Provision
A 100% valuation allowance was provided against the deferred tax asset consisting of available net operating loss carry forwards and accordingly no income tax benefit was provided.
Impact of Inflation
The impact of inflation upon the Company’s revenue and income/(loss) from continuing operations during each of the past two fiscal years has not been material to its financial position or results of operations for those years because the Company does not maintain any inventories whose costs are affected by inflation.
Liquidity and Capital Resources
Since SG Building’s inception in 2008, SG Building has generated losses from operations and the Company anticipates that it will continue to generate losses from operations for the foreseeable future. As of June 30, 2013 and December 31, 2012, the Company’s stockholders’ deficiency was approximately $1,495,000 and $516,000, respectively. The Company’s net loss from operations for the six months ended June 30, 2013 was $1,187,236. Net cash used in operating activities was $1,138,963 for the six months ended June 30, 2013.
Through June 30, 2013, the Company has incurred an accumulated deficiency since inception of $8,224,012. At June 30, 2013, the Company had a cash balance of $545,288. At August 14, 2013, the Company had a cash balance of approximately $548,000.
Since the Company’s inception, it has generated revenues from SG Block sales, engineering services, and project management.
The Company expects that through the next 10 to 16 months, the capital requirements to fund the Company’s growth and to cover the operating costs of a public company will consume substantially all of the cash flows that it expects to generate from its operations, as well as from the proceeds of intended issuances of debt and equity securities. The Company further believes that during this period, while the Company is focusing on the growth and expansion of its business, the gross profit that it expects to generate from operations will not generate sufficient funds to cover these anticipated operating costs. Accordingly, the Company requires external funding to sustain operations and to follow through on the execution of its business plan. However, there can be no assurance that the Company’s plans will materialize and/or that the Company will be successful in funding estimated cash shortfalls through additional debt or equity capital and through the cash generated by the Company’s operations. Given these conditions, the Company’s ability to continue as a going concern is contingent upon it being able to secure an adequate amount of debt or equity capital to enable it to meet its cash requirements. In addition, the Company’s ability to continue as a going concern must be considered in light of the problems, expenses and complications frequently encountered by entrants into established markets, the competitive environment in which the Company operates and the current capital raising environment.
Since inception, the Company’s operations have primarily been funded through proceeds from equity and debt financings and sales activity. Although management believes that the Company has access to capital resources, there are currently no commitments in place for new financing at this time, and there is no assurance that the Company will be able to obtain funds on commercially acceptable terms, if at all.
During the six months ended June 30, 2013, the Company raised $850,000 in net new funds through the issuance of convertible debentures.
With respect to the debentures sold in 2012 and the six months ended June 30, 2013, at any time after such issuance until the debentures are no longer outstanding, the debentures are convertible, in whole or in part, into shares of Common Stock of the Company at the option of the holder, subject to certain conversion limitations set forth in the Debenture. The initial conversion price for the Debenture is $0.43 per share, subject to adjustments upon certain events, as set forth in the Debenture. The Company shall pay interest on the outstanding principal amount of the Debenture that has not been converted, at the rate of 8% per annum, payable quarterly on July 1, October 1, January 1 and April 1, beginning on July 1, 2013. Interest is payable in cash or at the Company’s option in shares of Common Stock, provided certain conditions are met, as described in the debenture. On each of April 1, 2014, July 1, 2014, July 15, 2014 and October 15, 2014, the Company is obligated to redeem $756,000, $756,000, $280,000 and $280,000, respectively, (plus accrued but unpaid interest, liquidated damages and any other amounts then owing in respect of the Debenture) (the “Periodic Redemption Amount”). In lieu of a cash redemption and subject to the Company meeting certain equity conditions described in the Debenture, the Company may elect to pay the Periodic Redemption Amount in Common Stock based on a conversion price equal to the lesser of (a) $0.43 per share, subject to adjustments upon certain events, and (b) 90% of the average of the volume weighted average price for the 20 consecutive trading days prior to the applicable redemption date, provided that the conversion price shall be equal to at least a $0.01 discount to the volume weighted average price for the trading day that is immediately prior to the applicable redemption date. Upon any Event of Default (as defined in the Debenture), the outstanding principal amount of the Debenture, plus liquidated damages, interest, a premium of 30% and other amounts owing in respect thereof, shall become, at the holder’s election, immediately due and payable in cash. Commencing five days after the occurrence of any Event of Default, the interest rate on the Debenture shall accrue at an interest rate equal to the lesser of 18% per annum or the maximum rate permitted under applicable law.
The Company intends to raise additional funds during the remainder of 2013 through a private placement of its common stock as well as additional issuances of convertible debentures. The additional capital would be used to fund the Company’s operations, including the costs that it expects to incur as a public company. The current level of cash and operating margins is not enough to cover the existing fixed and variable obligations of the Company, so increased revenue performance and the addition of capital through issuances of securities are critical to the Company’s success. Should the Company not be able to raise additional capital through a private placement or some other financing source, the Company would take one or more of the following actions to conserve cash: reduction in employee headcount, reduction in base salaries to senior executives and employees, and other cost reduction measures. Assuming that the Company is successful in its growth plans and development efforts, the Company believes that it will be able to raise additional funds through sales of its stock. There is no guarantee that the Company will be able to raise such additional funds on acceptable terms, if at all.
These factors, among others, raise substantial doubt about the Company's ability to continue as a going concern.
The Company’s financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that might be necessary should it be unable to continue as a going concern.
Off –Balance Sheet Arrangements
As of June 30, 2013 and December 31, 2012, the Company had no material off-balance sheet arrangements other than operating leases to which SG Building is a party.
In the ordinary course of business, SG Building enters into agreements with third parties that include indemnification provisions which, in its judgment, are normal and customary for companies in its industry sector. These agreements are typically with consultants and certain vendors. Pursuant to these agreements, SG Building generally agrees to indemnify, hold harmless, and reimburse indemnified parties for losses suffered or incurred by the indemnified parties with respect to actions taken or omitted by SG Building. The maximum potential amount of future payments SG Building could be required to make under these indemnification provisions is unlimited. SG Building has not incurred material costs to defend lawsuits or settle claims related to these indemnification provisions. As a result, the estimated fair value of liabilities relating to these provisions is minimal. Accordingly, the Company has no liabilities recorded for these provisions as of June 30, 2013.
Critical Accounting Policies and New Accounting Pronouncements
Critical Accounting Policies
Our condensed consolidated financial statements have been prepared with generally accepted accounting principles in the United States (“GAAP”), which require management to make estimates and assumptions that affect reported amounts. The estimates and assumptions are based on historical experience and on other factors that management believes to be reasonable. Actual results may differ from those estimates. Critical accounting policies represent the areas where more significant judgments and estimates are used in the preparation of our condensed consolidated financial statements. A discussion of such critical accounting policies, which include share-based payments, derivative instruments, and revenue recognition can be found in our Annual Report on Form 10-K for the year ended December 31, 2012. There have been no material changes to the policies noted above as of the Quarterly Report on Form 10-Q for the period ended March 31, 2013.
Related Party Transactions
ConGlobal Industries, Inc. is a minority stockholder of the Company and provides containers and labor on domestic projects. The Company recognized Cost of Goods Sold of $538,877 and $277,276, for services ConGlobal Industries, Inc. rendered during the three months ended June 30, 2013 and 2012, respectively. The Company recognized Cost of Goods Sold of $877,054 and $564,571, for services ConGlobal Industries, Inc. rendered during the six months ended June 30, 2013 and 2012, respectively As of June 30, 2013 and December 31, 2012, $143,840 and $62,844, respectively, of such expenses are included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheets.
The Lawrence Group is a minority stockholder of the Company and is a building design, development and project delivery firm. The Company recognized Cost of Goods Sold of $27,629 and $52,966 for services The Lawrence Group rendered during the three months and six months ended June 30, 2013, respectively. As of June 30, 2013 and December 31, 2012, $27,629 and $37,233, respectively, of expenses were included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheet.
The Company has accrued certain reimbursable expenses of owners of the Company. Such expenses amounted to $2,779 for the year ended December 31, 2012, and are included in related party accounts payable and accrued expenses in the accompanying condensed consolidated balance sheets.
Transactions with Vector
On March 26, 2009, the Company entered into a $50,000 Revolving Credit Promissory Note (the “ Revolver ”) with Vector, the Company’s pre-Merger principal stockholder, due December 31, 2012. During 2012, the Revolver was extended for a year, with a maturity date of December 31, 2013. The loan bears interest at 11% per year. On January 26, 2011, the Company and Vector entered into an amendment to the Revolver increasing the amount that it may borrow thereunder from $50,000 to $100,000. As of June 30, 2013 and December 31, 2012 the Revolver had $73,500 of principal and $24,504 and $20,439, respectively, of interest outstanding.
Transactions with Ladenburg
During the first quarter of 2012, the Company engaged Ladenburg as its placement agent to conduct a best efforts private placement of the Company’s common stock at a valuation of $0.35 per share (the 2012 Private Placement). In connection with the 2012 Private Placement, Ladenburg has and will receive compensation based on the following components: (a) a cash commission equal to 6% of the aggregate purchase price of the shares sold to all investors at each closing (or a lesser percentage with respect to certain investors, as agreed upon between the Ladenburg and the Company) and will be issued a five-year warrant to purchase shares of Common Stock of the Company equal to nine percent (9%) of the total number of shares sold to all investors at such closing (or a lesser percentage in the event certain investors invest, as agreed upon between Ladenburg and the Company), (b) the shares of Common Stock underlying the warrants issued to the Ladenburg will have the same registration rights as the investors with respect to their shares and (c) at the initial closing, the Company reimbursed Ladenburg for its reasonable expenses incurred in connection with the offering.
On March 28, 2012, we received net proceeds of $433,608 from the 2012 Private Placement. On May 23, 2012, we received additional net proceeds of $208,575 from the 2012 Private Placement.
Mr. Lampen is the president and chief executive officer of Ladenburg’s parent company. Additionally, Vector beneficially owns approximately 8% of the Ladenburg Thalmann Financial Services Inc., the parent company and sole owner of Ladenburg.
| Item 3. Quantitative and Qualitative Disclosures About Market Risk |
Not applicable.
| Item 4. Controls and Procedures |
(a) Disclosure Controls and Procedures.
Management, with the participation of our Principal Executive Officer and Principal Financial Officer, carried out an evaluation of the effectiveness of our “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q (the “Evaluation Date”). Based upon that evaluation, our Principal Executive Officer and Principal Financial Officer concluded that, as of the Evaluation Date, our disclosure controls and procedures are not effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported, within the time periods specified in the SEC rules and forms and (ii) is accumulated and communicated to our management, including our Principal Executive Officer and Principal Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Notwithstanding the conclusion that our disclosure controls and procedures were not effective as of the end of the period covered by this Quarterly Report, the Principal Executive Officer and the Principal Financial Officer believe that the condensed consolidated financial statements and other information contained in this Quarterly Report present fairly, in all material respects, our business, financial condition and results of operations.
Our management, including our Principal Executive Officer and Principal Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.
In connection with the audit of our fiscal 2012 consolidated financial statements, our independent auditors identified certain significant deficiencies that together constitute a material weakness in our disclosure controls and procedures. These significant deficiencies primarily relate to our (i) difficulty in generating data in a form and format that facilitates the timely analysis of information needed to produce accurate financial reports, (ii) difficulty in applying complex accounting and financial reporting and disclosure rules required under GAAP and the SEC reporting regulations, and (iii) limited segregation of duties. These significant deficiencies together constitute a material weakness in our disclosure controls and procedures.
During the year ended December 31, 2012, we have taken certain steps in an effort to correct these material weaknesses, including retaining the Chief Financial Officer who has significant experience with publicly-held companies. Although this is an important step towards improving the application of complex accounting principles, the preparation of financial reports and the segregation of duties, additional time is still required to fully implement additional internal controls procedures and test their operating effectiveness before we can definitively conclude that we have remediated our deficiencies. Because these remediation steps have not yet been completed, we have performed additional analyses and other procedures to ensure that our consolidated financial statements contained in this Quarterly Report were prepared in accordance with GAAP and applicable SEC regulations.
We believe that our weaknesses in internal control over financial reporting and our disclosure controls relate in part to the fact that prior to the Merger, SG Building was a small, privately-held company and was not subject to public company disclosure requirements, including the requirement to report on internal control over financial reporting in compliance with Section 404 of the Sarbanes-Oxley Act of 2002 and Item 308 of Regulation S-K. Our internal controls are still in a state of transition as we work diligently to integrate and assimilate all of our operations and work to remedy the significant deficiencies that together constitute a material weakness in our internal control over financial reporting.
(b) Changes in Internal Control over Financial Reporting
Notwithstanding our remedial actions and integration of our financial reporting systems following the Merger, there was no change in our internal control over financial reporting that occurred during the second quarter of 2013 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
| Item 1. Legal Proceedings |
None.
Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below before making an investment decision. If any of the following risks or uncertainties occur, our business, prospects, financial condition or operating results could be materially adversely affected, the trading price of our common stock could decline, and you may lose all or part of your investment. In assessing the risks described below, you should also refer to the other information contained in this Quarterly Report on Form 10-Q, including our consolidated financial statements and the related notes and schedules, before deciding to purchase any shares of our common stock.
In addition to the risk factors below and other information set forth in this Quarterly Report, you should carefully consider the risk factors previously disclosed in “Item 1A, To Part II” of our Annual Report on Form 10-K for the year ended December 31, 2012. There were no material changes from these risk factors during the three months ended June 30, 2013.
Risks Relating to the Company
If we are not successful in our efforts to increase sales or raise capital, we will experience a shortfall in cash over the next twelve months and our ability to raise capital may be limited.
As of June 30, 2013 and December 31, 2012, SG Building, our wholly-owned subsidiary, had cash and cash equivalents of $545,288 and $868,067, respectively. However, over the six months ended June 30, 2013 and fiscal year ended December 31, 2012, we had a net loss of $1,187,236 and $1,766,025, respectively. We incurred additional losses during the quarter ending September 30, 2013. If we are not successful with our marketing efforts to increase sales, we will experience a shortfall in cash over the next twelve months. If necessary, we will implement a plan to fund such a deficit which could include, among other things, reducing operating expenses in an amount sufficient to operate the business for a reasonable period of time. During the six months ended June 30, 2013, we received $850,000 from the issuance of convertible debentures. We may also seek to obtain debt or additional equity financing to address any shortfalls in our cash. The type, timing and terms of the financing we may select will depend on, among other things, our cash needs, the availability of other financing sources and prevailing conditions in the financial markets. However, there can be no assurance that we would be able to secure additional funds if needed and that if such funds are available, whether the terms or conditions would be acceptable to us. In such case, the further reduction in operating expenses might need to be substantial in order for us to ensure enough liquidity to sustain our operations. It will also be difficult for us to make any acquisitions unless we can raise additional capital. Any financing would be dilutive to our stockholders.
The Company has identified cost reduction measures which when implemented would result in a reduction in employee headcount, reduction in base salaries to senior executives and employees, and other cost savings measures. These actions have been implemented and have begun to result in annual cost savings.
We have incurred net losses in certain prior periods and there can be no assurance that we will generate income in the future.
Our ability to achieve profitability will depend upon our ability to generate and sustain substantially increased revenues. We may incur operating losses in the future as we execute our growth strategy. We intend to make significant expenditures related to marketing, expansion of our website, hiring of additional personnel, and development of our technology and infrastructure. Although SG Building generated revenue from operations during the six months ended June 30 2013 and the year ended December 31, 2012, it has incurred net losses of $1,187,236 and $1,766,025, respectively, during such periods. The likelihood that we will generate net income in the future must be considered in light of the difficulties facing the construction and construction management industries as a whole, economic conditions, the competitive environment in which we operate and the other risks and uncertainties discussed in this Quarterly Report. Our operating results for future periods are subject to numerous uncertainties, and it may not achieve sufficient revenues to sustain or increase profitability on a quarterly or annual basis.
The Company’s ability to continue as a going concern is contingent upon securing additional capital.
The Company expects that through the next 10 to 16 months, the capital requirements to fund the Company’s growth and to cover the operating costs of a public company will consume substantially all of the cash flows that it expects to generate from its operations, as well as from the proceeds of intended issuances of debt and equity securities. The Company further believes that during this period, while the Company is focusing on the growth and expansion of its business, the gross profit that it expects to generate from operations will not generate sufficient funds to cover these anticipated operating costs. Accordingly, the Company requires external funding to sustain operations and to follow through on the execution of its business plan. However, there can be no assurance that the Company’s plans will materialize and/or that the Company will be successful in funding estimated cash shortfalls through additional debt or equity capital and through the cash generated by the Company’s operations. Given these conditions, the Company’s ability to continue as a going concern is contingent upon it being able to secure an adequate amount of debt or equity capital to enable it to meet its cash requirements. In addition, the Company’s ability to continue as a going concern must be considered in light of the problems, expenses and complications frequently encountered by entrants into established markets, the competitive environment in which the Company operates and the current capital raising environment.
The exercise of outstanding warrants and options will dilute the percentage ownership of then-existing stockholders.
As of July 30, 2013, there are outstanding Warrants to purchase 6,119,864 shares of common stock and options to purchase 9,900,001 shares of common stock. Options to purchase 7,996,072 shares were granted under our 2011 Incentive Stock Plan. We also have outstanding convertible debt which is initially convertible into 4,818,605 shares of the Company’s common stock. However, the terms of the convertible debentures provide that under certain circumstances the number of shares issuable upon the conversion of the debentures can be increased based on the market price of the Company’s common stock at the time of conversion. Accordingly, if the price of the common stock is significantly below $0.43 per share, the number of shares the convertible debt is convertible into could be significantly higher than 4,818,605 shares. The exercise of such outstanding warrants and options or the conversion into common stock of our convertible debt would dilute the then-existing stockholders' percentage ownership of the Company's stock, and any sales in the public market of common stock underlying such securities could adversely affect prevailing market prices for the common stock. Moreover, the terms upon which the Company would be able to obtain additional equity capital could be adversely affected since the holders of such securities can be expected to exercise or convert them at a time when the Company would, in all likelihood, be able to obtain any needed capital on terms more favorable to the Company than those provided by such securities.
| Item 2. Unregistered Sales of Equity Securities and Use of Proceeds |
In April 2013 the Company issued and sold an aggregate of: (a) $560,000 in 8% Original Issue Discount Senior Secured Convertible Debentures due October 15, 2014, for a subscription amount of $500,000, and (b) a Common Stock purchase warrant to purchase up to an aggregate of 1,302,326 shares of the Company’s Common Stock. Except for the original issue date, due date and initial exercise date, the debentures and warrants have the same terms and conditions as the Hillair debentures and warrants described in Note 7 to the Condensed Consolidated Financial Statements in this Quarterly Report. The proceeds from this issuance will be used to support the Company’s business growth and for general working capital requirements. The issuances of these warrants was exempt from the registration requirements under the Securities Act, pursuant to Section 4(2) therof, because the transaction did not involve a public offering.
During the three months ended June 30, 2013, the Company issued the following options to purchase the Company’s common stock to consultants, directors, officers and employees of the Company:
|
Recipient
|
Date
|
|
Exercise Price
|
|
|
Amount
|
|
|
Edmund P. Giambastiani, Jr. - Consultant
|
04/30/2013
|
|
$
|
0.19
|
|
|
|
10,000
|
|
| |
05/31/2013
|
|
$
|
0.32
|
|
|
|
10,000
|
|
| |
06/28/2013
|
|
$
|
0.21
|
|
|
|
10,000
|
|
| |
|
|
|
|
|
|
|
|
|
|
TOTAL
|
|
|
|
|
|
|
|
30,000
|
|
Options to purchase 30,000 shares of the Company’s common stock were awarded by approval of the Company’s board of directors. One third of the options vest upon grant, the second third vests on the first anniversary of the grant date, and the remaining third vests on the second anniversary of the grant date. These options generally have the same terms and conditions as provided under the 2011 Incentive Stock Plan (See Note 10). The aggregate number of such options granted to consultants is 30,000 options. The issuance of such options was exempt from the registration requirements under the Securities Act, pursuant to Section 4(2) thereof, because the transaction did not involve a public offering.
| Item 3. Defaults Upon Senior Securities |
None.
| Item 4. Mine Safety Disclosures |
Not applicable.
| Item 5. Other Information |
Mr. Wasserman served as Chief Financial officer of ContinuityX Solutions, Inc. (“Continuity”) from August 16, 2012 to February 7, 2013. Mr. Wasserman is now being sued by certain of Continuity’s lenders alleging negligent misrepresentation to those lenders in connection with information provided to the lenders from Mr. Wasserman and Continuity. Mr. Wasserman believes the allegations are without merit and Mr. Wasserman plans to vigorously defend himself against the lawsuit.
|
4.1
|
Form of 8% Original Issue Discount Senior Secured Convertible Debenture due October 15, 2014. Incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K filed on April 30, 2013.
|
|
4.2
|
Form of Common Stock Purchase Warrant. Incorporated by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K filed on April 30, 2013.
|
|
10.1
|
Form of Addendum to Securities Purchase Agreement, dated April 15, 2013. Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on April 30, 2013.
|
|
10.2
|
Form of Addendum Security Agreement dated April 15, 2013. Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K filed on April 30, 2013.
|
|
31.2+
|
Certification by Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
31.2+
|
Certification by Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
32.1+
|
Certification by Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
101.INS#+
|
XBRL Instance Document.
|
|
101.SCH#+
|
XBRL Taxonomy Extension Schema Document.
|
|
101.CAL#+
|
XBRL Taxonomy Extension Calculation Linkbase Document.
|
|
101.DEF#+
|
XBRL Taxonomy Extension Definition Linkbase Document.
|
|
101.LAB#+
|
XBRL Taxonomy Extension Label Linkbase Document.
|
|
101.PRE#+
|
XBRL Taxonomy Extension Presentation Linkbase Document.
|
|
#
|
This exhibit will not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934 (15 U.S.C. 78r), or otherwise subject to the liability of that section. Such exhibit will not be deemed to be incorporated by reference into any filing under the Securities Act or Securities Exchange Act, except to the extent that the Company specifically incorporates it by reference.
|
SIGNATURE
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.
| |
SG BLOCKS, INC.
|
| |
(Registrant)
|
| |
|
|
|
Date: August 14, 2013
|
|
By:
|
/s/ Brian Wasserman
|
| |
|
Brian Wasserman
|
| |
|
Chief Financial Officer
|
| |
|
(Duly Authorized Officer and Principal Financial and Chief Accounting Officer)
|
38