|• MAINBODY • EXHIBIT 31.1 • EXHIBIT 31.2 • EXHIBIT 32.1 • XBRL INSTANCE FILE • XBRL SCHEMA FILE • XBRL CALCULATION FILE • XBRL DEFINITION FILE • XBRL LABEL FILE • XBRL PRESENTATION FILE|
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Southern Products, Inc.
(Exact name of registrant as specified in its charter)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days [X] Yes [ ] No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). [ ] Yes [X] No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). [ ] Yes [X] No
State the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 22,222,224 as of October 18, 2012.
PART I - FINANCIAL INFORMATION
These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and the SEC instructions to Form 10-Q. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. Operating results for the interim periods ended August 31, 2012 are not necessarily indicative of the results that can be expected for the full year.
Condensed Balance Sheets (unaudited)
The accompanying notes are an integral part to these condensed financial statements
Condensed Statements of Operations (unaudited)
The accompanying notes are an integral part to these condensed financial statements
Condensed Statements of Cash Flows (unaudited)
The accompanying notes are an integral part to these condensed financial statements
Notes to Condensed Financial Statements
NOTE 1 – Organization, History and Business
Southern Products, Inc. (the “Company”) was incorporated in Nevada on February 23, 2010 and is doing business as SIGMAC USA. The Company is a consumer electronics company utilizing its d.b.a., SIGMAC USA to develop and brand its products. The Company began its plan of operations by entering into agreements for the sale of branded, low-priced televisions in the United States. The business consists of the design, assembly, import, marketing and sale of our models of Sigmac branded flat panel televisions into the US market. Upon establishment of the SIGMAC brand, management intends to expand its market to international consumers.
NOTE 2 – Significant Accounting Policies and Procedures
Cash and cash equivalents
The Company considers all highly liquid temporary cash investments with an original maturity of three months or less to be cash equivalents. At August 31, 2012 and February 29, 2012, the Company had no cash equivalents.
Concentration of Credit and Business Risk
The Company has no significant off-balance sheet risk such as foreign exchange contracts, option contracts or other foreign hedging arrangements. The Company’s financial instruments that are exposed to concentration of credit risks consist primarily of cash. The Company maintains its cash in bank accounts which may at times, exceed federally-insured limits.
Of the Company’s revenue earned during the six-months ended August 31, 2012, approximately 89% was generated through vendor agreements with two customers, Fry’s Electronics and COSTCO, representing net sales of $718,573.
Accounts receivable is reported at the customers’ outstanding balances less any allowance for doubtful accounts. Interest is not accrued on overdue accounts receivable.
An allowance for doubtful accounts on accounts receivable is charged to operations in amounts sufficient to maintain the allowance for uncollectible accounts at a level management believes is adequate to cover any probable losses. Management determines the adequacy of the allowance based on historical write-off percentages and information collected from individual customers. Accounts receivable are charged off against the allowance when collectability is determined to be permanently impaired. As of August 31, 2012, management has deemed all receivables to be collectible, and has not historically recorded bad debt expenses; therefore no allowance has been recorded.
Inventories are stated at the lower of cost or market. Cost is determined on a standard cost basis that approximates the first-in, first-out (FIFO) method. Market is determined based on net realizable value. Appropriate consideration is given to obsolescence, excessive levels, deterioration, and other factors in evaluating net realizable value. As of August 31, 2012 and February 29, 2012, finished goods inventory was $0 and $494,076 respectively.
Property and equipment are recorded at cost. Expenditures for major additions and improvements are capitalized and minor replacements, maintenance, and repairs are charged to expense as incurred. When property and equipment are retired or otherwise disposed of, the cost and accumulated depreciation are removed from the accounts and any resulting gain or loss is included in the results of operations for the respective period. Depreciation is provided over the estimated useful lives of the related assets using the straight-line method for financial statement purposes. The Company uses other depreciation methods (generally accelerated) for tax purposes where appropriate. The estimated useful lives for significant property and equipment categories are as follows:
Equipment 3-5 years
Furniture 7 years
The Company reviews the carrying value of property, plant, and equipment for impairment whenever events and circumstances indicate that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to an amount by which the carrying value exceeds the fair value of assets. The factors considered by management in performing this assessment include current operating results, trends and prospects, the manner in which the property is used, and the effects of obsolescence, demand, competition, and other economic factors. Based on this assessment there were no impairments needed as of August 31, 2012. Depreciation expense for the six-months ended August 31, 2012 and 2011 was $86 and $0, respectively.
The Company recognizes revenue in accordance with ASC subtopic 605-10 (formerly SEC Staff Accounting Bulletin No. 104 and 13A, “Revenue Recognition”) net of expected cancellations and allowances. As of August 31, 2012 and February 29, 2012, the Company evaluated evidence of cancellation in order to make a reliable estimate and determined there were no material cancellations during the years and therefore no allowances has been made.
The Company's revenues, which do not require any significant production, modification or customization for the Company's targeted customers and do not have multiple elements, are recognized when (i) persuasive evidence of an arrangement exists; (ii) delivery has occurred; (iii) the Company's fee is fixed and determinable; and (iv) collectability is probable.
Substantially all of the Company's revenues are derived from the sales of LCD and LED televisions. The Company's customers are charged for these products on a per transaction basis. Pricing varies depending on the product sold. Revenue is recognized in the period in which the products are sold net of any discounts or allowances.
Loss per share
The Company reports earnings (loss) per share in accordance with ASC Topic 260-10, "Earnings per Share." Basic earnings (loss) per share is computed by dividing income (loss) available to common shareholders by the weighted average number of common shares available. Diluted earnings (loss) per share is computed similar to basic earnings (loss) per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive. Diluted earnings (loss) per share has not been presented since the effect of the assumed exercise or conversion of stock options, warrants, and debt to purchase common shares, would have an anti-dilutive effect. At August 31, 2012 and February 29, 2012 the Company had no potential common shares that have been excluded from the computation of diluted net loss per share.
The Company follows ASC subtopic 740-10 for recording the provision for income taxes. ASC 740-10 requires the use of the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred tax assets and liabilities are computed based upon the difference between the financial statement and income tax basis of assets and liabilities using the enacted marginal tax rate applicable when the related asset or liability is expected to be realized or settled. Deferred income tax expenses or benefits are based on the changes in the asset or liability each period. If available evidence suggests that it is more likely than not that some portion or all of the deferred tax assets will not be realized, a valuation allowance is required to reduce the deferred tax assets to the amount that is more likely than not to be realized. Future changes in such valuation allowance are included in the provision for deferred income taxes in the period of change. Deferred income taxes may arise from temporary differences resulting from income and expense items reported for financial accounting and tax purposes in different periods. Deferred taxes are classified as current or non-current, depending on the classification of assets and liabilities to which they relate. Deferred taxes arising from temporary differences that are not related to an asset or liability are classified as current or non-current depending on the periods in which the temporary differences are expected to reverse.
Fair Value of Financial Instruments
The Company has financial instruments whereby the fair value of the financial instruments could be different from that recorded on a historical basis in the accompanying balance sheets. The Company's financial instruments consist of cash, receivables, accounts payable, accrued liabilities, and notes payable. The carrying amounts of the Company's financial instruments approximate their fair values as of August 31, 2012 due to their short-term nature.
The Company accounts for its long-lived assets in accordance with ASC Topic 360-10-05, “Accounting for the Impairment or Disposal of Long-Lived Assets.” ASC Topic 360-10-05 requires that long-lived assets be reviewed for impairment whenever events or changes in circumstances indicate that the historical cost or carrying value of an asset may no longer be appropriate. The Company assesses recoverability of the carrying value of an asset by estimating the future net cash flows expected to result from the asset, including eventual disposition. If the future net cash flows are less than the carrying value of the asset, an impairment loss is recorded equal to the difference between the asset’s carrying value and its fair value or disposable value. For the six-months ended August 31, 2012, the Company determined that none of its long-term assets were impaired.
Use of estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affects the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
The Company expenses advertising costs as incurred. Pursuant to its vendor agreement with Fry’s electronics, the Company contributes 5% of each sale to a co-operative advertising, promotional and marketing campaign. The Company’s advertising and marketing expenses were $119,802 and $199,098 for the six-months ended August 31, 2012 and 2011, respectively.
Research and development
Research and development costs are expensed as incurred. During the six- months ended August 31, 2012 and 2011, the Company did not incur any research and development costs.
The Company accounts for stock-based payments to employees in accordance with ASC 718, “Stock Compensation” (“ASC 718”). Stock-based payments to employees include grants of stock, grants of stock options and issuance of warrants that are recognized in the consolidated statement of operations based on their fair values at the date of grant.
The Company accounts for stock-based payments to non-employees in accordance with ASC 718 and Topic 505-50, “Equity-Based Payments to Non-Employees.” Stock-based payments to non-employees include grants of stock, grants of stock options and issuances of warrants that are recognized in the consolidated statement of operations based on the value of the vested portion of the award over the requisite service period as measured at its then-current fair value as of each financial reporting date. The Company calculates the fair value of option grants and warrant issuances utilizing the Black-Scholes pricing model. The amount of stock-based compensation recognized during a period is based on the value of the portion of the awards that are ultimately expected to vest. ASC 718 requires forfeitures to be estimated at the time stock options are granted and warrants are issued to employees and non-employees, and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The term “forfeitures” is distinct from “cancellations” or “expirations” and represents only the unvested portion of the surrendered stock option or warrant. The Company estimates forfeiture rates for all unvested awards when calculating the expense for the period. In estimating the forfeiture rate, the Company monitors both stock option and warrant exercises as well as employee termination patterns.
The resulting stock-based compensation expense for both employee and non-employee awards is generally recognized on a straight-line basis over the requisite service period of the award.
For the six-months ended August 31, 2012 and 2011, the Company has not issued share-based compensation.
Recent accounting pronouncements
No recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the AICPA, and the SEC did not or are not believed by management to have a material impact on the Company's present or future financial statements
International Financial Reporting Standards:
In November 2008, the Securities and Exchange Commission (“SEC”) issued for comment a proposed roadmap regarding potential use of financial statements prepared in accordance with International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board. Under the proposed roadmap, the Company would be required to prepare financial statements in accordance with IFRS in fiscal year 2014, including comparative information also prepared under IFRS for fiscal 2013 and 2012. The Company is currently assessing the potential impact of IFRS on its financial statements and will continue to follow the proposed roadmap for future developments.
The Company has adopted the last day of February, as its fiscal year end.
NOTE 3 - Going concern
These financial statements have been prepared in accordance with generally accepted accounting principles applicable to a going concern, which assumes that the Company will be able to meet its obligations and continue its operations for its next fiscal year. Realization values may be substantially different from carrying values as shown and these financial statements do not give effect to adjustments that would be necessary to the carrying values and classification of assets and liabilities should the Company be unable to continue as a going concern. The Company has not yet achieved profitable operations and since its inception (February 23, 2010) through August 31, 2012 the Company had accumulated losses of $2,801,011 and a working capital deficit of $17,069,668. Management expects to incur further losses in the development of its business, all of which raises substantial doubt about the Company’s ability to continue as a going concern. The Company’s ability to continue as a going concern is dependent upon its ability to generate future profitable operations and/or to obtain the necessary financing to meet its obligations and repay its liabilities arising from normal business operations when they come due.
The Company expects to continue to incur substantial losses as it executes its business plan and does not expect to attain profitability in the near future. Since its inception, the Company has funded operations through short-term borrowings and equity investments in order to meet its strategic objectives. The Company's future operations are dependent upon external funding and its ability to execute its business plan, realize sales and control expenses. Management believes that sufficient funding will be available from additional borrowings and private placements to meet its business objectives, including anticipated cash needs for working capital, for a reasonable period of time. However, there can be no assurance that the Company will be able to obtain sufficient funds to continue the development of its business operation, or if obtained, upon terms favorable to the Company.
NOTE 4- Accounts receivable
On January 11, 2012, the Company entered into an Accounts Receivable Purchase & Security Agreement with Pacific Business Capital Corporation (“PBCC”), subsequently approved by the board of directors on February 27, 2012. Pursuant to the agreement, PBCC has the option to purchase various trade receivables presented by the Company at a minimum discount of 0.813% of the face value of each account purchased. PBCC has the option to reserve and withhold a minimum of 20% of the gross face amount of all accounts purchased. The reserve account may be held by PBCC and applied against charge-backs or any obligations of the Company to PBCC. In addition, in the event a purchased account remains unpaid more than 15 days from the date of purchase, an additional service discount of 0.54 % per day will be charged to the Company until paid-in full. The agreement with PBCC is secured by all of the Company’s assets, and has been personally guaranteed by the Company’s executive officers. During the six-months ended August 31, 2012, the Company has sold trade receivables with a face value of $929,303 at a discount of $7,555 to PBCC for proceeds of $767,398, net of reserves. On August 24, 2012, PBCC assigned 100% of their interest in the January 11, 2012 agreement with the Company to a third party. During the three and six months ended August 31, 2012, the Company had recorded financing costs of $56,390 and $96,295, respectively.
On November 18, 2011, the Company agreed to a payment holdback in the amount of $10,000 as a provision to its agreement with Costco. The holdback is to be utilized to cover any future costs attributable to potential returns and or allowances. Per the verbal agreement, Costco calculates the retained amount at their discretion at a rate equal to approximately 5% of each total order and can be held for a period up to six-months. Any amount remaining after the six-month period has expired is fully payable to the Company. As of August 31, 2012, the amounts held in reserve were $0.
Accounts receivable consist of the following:
As of August 31, 2012 and February 29, 2012, respectively, the Company had not established an allowance for doubtful accounts.
NOTE 5 - Property and equipment
The following is a summary of property and equipment:
Depreciation for the six-months ended August 31, 2012 and 2011was $86 and $0, respectively.
NOTE 6 - Related party transactions
On June 1, 2011, the Company agreed to pay its two executive officers annual salaries of $240,000 each with 50% to be paid in cash and the remaining $120,000 to accrue until such time the Company has sufficient operating capital to pay the accrued compensation. On June 11, 2012, subsequent to the quarter end, we terminated our chief operating officer.
As of August 31, 2012, the Company has paid executive compensation of $79,700 and accrued $180,000. The balance owed at August 31, 2012 and February 29, 2012 totaled $346,800 and $246,500, respectively.
NOTE 7 – Short-term note and line of credit
Line of credit
On March 15, 2012, the Company signed an addendum to their factoring agreement dated January 11, 2012 with Pacific Business Capital Corporation (“PBCC”). The addendum provides for a short-term line of credit with a limit of $1,000,000 to be advanced based on specific purchase orders presented by the Company. Pursuant to the terms of the agreement, interest will be charged at a rate of 1.5% per month on the unpaid balance. Additionally, any amounts outstanding in excess of thirty-days will have an additional interest charge of 0.05% per day until paid in full. All advances are collateralized with the inventory of the Company. During the six-months ended August 31, 2012, the Company was advanced and repaid a total of $400,000. As of the balance sheet date the Company has recorded interest expense of $3,200 in connection with the advance.
During the six-months ended August 31, 2012, the Company severed its relationship with a certain supplier in connection with the termination of their chief operating officer. As a result, the then outstanding accounts payable balance was converted to a short-term note. The note is non-interest bearing, unsecured and due on demand. As of August 31, 2012, the balance owed was $174,271.
Convertible note payable
On June 29, 2012, the Company issued a $488,489 Convertible Promissory Note and Security Interest in favor of a trade creditor representing the past due invoices of the creditor for professional fees. On August 24, 2012, the Company agreed to amend the note to include an additional $15,000 in the principal balance, which represents an expense paid on behalf of the Company by the holder. The amended principal balance of the note is $503,489.
The note is collateralized through the granting of a Security Interest in all the current and future assets of the Company until such time the note is fully satisfied. The Security Interest was subsequently perfected by the holder through filing. The note bears interest at a rate of 12% per annum and requires monthly installments of $15,000 per month until paid in full commencing on July 10, 2012. Further, at the sole option of the holder, demand for payment can be made with a thirty-day written notice of such demand. In the event of default, the unpaid balance will accrue interest at a default rate of 18% per annum. The Company has not paid in accordance with the terms of the note, and is currently in default and accruing interest at the default rate of 18%. Interest charged to operations relating to this note amounted to $14,504 for the period ended August 31, 2012.
Pursuant to the terms of the note, it is convertible into shares of the Company’s common stock at the option of the holder at any time in whole or in part at a variable conversion rate equal to the lower of $0.10 or 80% of the average of the lowest three trading prices of the Company’s common stock over the previous twenty day from the date of conversion. On the commitment date, management evaluated the conversion feature with respect to the benefit of the holder and determined the value of the conversion feature to be equal to the face value of the note, $503,489. This amount has been recorded as a discount against the outstanding balance of the note. The discount is amortized to interest expense over the estimated life of the debt using the effective interest method. Interest charged to operations relating to the amortization of the debt discount as of August 31, 2012 amounted to $27,157.
In addition, the debt instrument also contains an embedded derivative as a result of its variable conversion rate indexed to the market price of the Company’s common stock. The fair value of the derivative liability as measured on the commitment date totaled $17,291,046 and has been recorded as other comprehensive income. The derivative liability was subsequently re-measured at the balance sheet date and a decrease in the liability of $2,522,720 was recognized. As of August 31, 2012, the Company’s derivative liability was $14,768,326.
NOTE 8 – Commitments and contingencies
In April 2011, the Company entered into a month to month sub-lease agreement for office and warehouse space commencing April 1, 2011. Pursuant to the terms of the agreement, the monthly lease amount is $7,000. In August 2011, the Company amended their agreement to acquire additional square footage for conference and office space for an additional $1,000 per month. In addition, from time to time the Company utilizes various storage facilities as needed.
During the six-months ended August 31, 2012, the Company re-negotiated the amount of square footage necessary for its current operations resulting in and elimination of its warehouse and a significant portion of office space whereby reducing its monthly expense from $8,000 to $1,500. As of August 31, 2012, the Company has recorded rent expense of $23,216.
NOTE 9 - Fair value measurement
The Company’s financial instruments consist principally of notes payable, convertible debentures and a derivative liability. Notes payable and convertible debentures are financial liabilities with carrying values that approximate fair value. The Company determines the fair value of notes payable and convertible debentures based on the effective yields of similar obligations. The Company determines the fair value of its derivative liability based upon the trading prices of its common stock on the date of commitment and when applicable, on the last day of each reporting period. The Company uses the Black-Scholes Option Model in valuing the fair value of its derivative liability.
The Company adopted ASC Topic 820-10 at the beginning of 2010 to measure the fair value of certain of its financial assets required to be measured on a recurring basis. The adoption of ASC Topic 820-10 did not impact the Company’s financial condition or results of operations. ASC Topic 820-10 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). ASC Topic 820-10 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants on the measurement date. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability. The three levels of the fair value hierarchy under ASC Topic 820-10 are described below:
Level I – Valuations based on quoted prices in active markets for identical assets or liabilities that an entity has the ability to access.
Level II – Valuations based on quoted prices for similar assets and liabilities in active markets, quoted prices for identical assets and liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable data for substantially the full term of the assets or liabilities.
The Company’s Level 2 liabilities consist of notes payable, convertible debentures and a derivative liability. The Company determines the fair value of notes payable and convertible debentures based on the effective yields of similar obligations. The Company determines the fair value of its derivative liability based upon the trading prices of its common stock on the date of commitment and when applicable, at each reporting period balance sheet date. The Company uses the Black-Scholes Option Model in valuing the fair value of its derivative liability.
Level III – Valuations based on inputs that are supportable by little or no market activity and that are significant to the fair value of the asset or liability.
The following table presents a reconciliation of all assets and liabilities measured at fair value on a recurring basis as of August 31, 2012:
NOTE 10 – Shareholders’ equity
The Company is authorized to issue up to 90,000,000 shares of $0.001 par value common stock and 10,000,000 shares of $0.001 par value preferred stock. The Preferred Stock may be issued in one or more series, with all rights and preferences being determined by the board of directors.
The voting rights, rate of dividends preference in relation to other classes or series, and rights in the event of liquidation related to shares of Preferred Stock of any series are determined by the board of directors and may vary from time to time.
Holders of common stock have voting rights equal to one vote for each share of Common Stock held and are entitled to receive dividends when, and if declared by the board of directors subject to the rights of any Preferred Stock having preference as to dividends. In the event of liquidation or dissolution, subject to the rights of Preferred Stock Holders’ are entitled to share ratably in the Corporations assets. Holders of Common Stock do not have conversion, redemption or preemptive rights.
Effective September 14, 2011, the Company issued a stock dividend equal to a 4-for-1 forward stock split. All share issuances have been retroactively restated.
As of August 31, 2012 and 2011, there were no warrants or options granted or outstanding.
NOTE 11 - Subsequent events
In accordance with ASC 855, management evaluated all activity of the Company through the date of filing, (the issue date of the financial statements) and concluded that no other subsequent events have occurred that would require recognition or disclosure in the financial statements.
Certain statements, other than purely historical information, including estimates, projections, statements relating to our business plans, objectives, and expected operating results, and the assumptions upon which those statements are based, are “forward-looking statements.” These forward-looking statements generally are identified by the words “believes,” “project,” “expects,” “anticipates,” “estimates,” “intends,” “strategy,” “plan,” “may,” “will,” “would,” “will be,” “will continue,” “will likely result,” and similar expressions. Forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially from the forward-looking statements. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse affect on our operations and future prospects on a consolidated basis include, but are not limited to: changes in economic conditions, legislative/regulatory changes, availability of capital, interest rates, competition, and generally accepted accounting principles. These risks and uncertainties should also be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
We are a consumer electronics company, incorporated in the state of Nevada and doing business under the brand name Sigmac. Our business consists of the design, assembly, import, marketing and sale of our models of Sigmac branded flat panel televisions into the US market.
Results of operations for the three and six months ended August 31, 2012 and 2011.
We generated gross revenues of $31,093 during the three months ended August 31, 2012. Our cost of goods sold was $183,606 resulting in a gross loss of $152,513. Our total operating expenses during the three months ended August 31, 2012 were $145,854. Our operating expenses during the quarter consisted of salaries and wages of $66,328, general and administrative expenses of $63,392, commissions of $15,385, rent expense of $3,626, and negative professional fees in the amount of $2,877, resulting from a reclassification to offset an accrued liability. In addition, we incurred finance costs of $56,390 and net interest expense of $41,664. Our net loss for the three months ended August 31, 2012 was $396,421.
By comparison, during the three months ended August 31, 2011, we generated gross revenues of $1,960,646. Our cost of goods sold was $1,897,111 resulting in a gross profit of $63,535. Our total operating expenses during the three months ended August 31, 2011 were $363,793. Our operating expenses during the quarter consisted of professional fees of $13,465, salaries and wages of $66,500, general and administrative expenses of $80,930, commissions of $3,800, and promotional and marketing expenses of $199,098. Our net loss for the three months ended August 31, 2011 was $300,258.
During the six months ended August 31, 2012, we generated gross revenues of $807,385. Our cost of goods sold was $1,029,438 resulting in a gross loss of $222,043. Our total operating expenses during the six months ended August 31, 2012 were $906,893. Our operating expenses during the period consisted of salaries and wages of $250,262, professional fees of $260,125, general and administrative expenses of $194,174, commissions of $15,385, rent expense of $23,216, promotional and marketing in the amount of $119,802, and consulting expenses of $43,929. In addition, we incurred finance costs of $96,295, net interest expense of $45,053, and a loss on sale of assets in the amount of $7,555. Our net loss for the six months ended August 31, 2012 was $1,277,839.
By comparison, during the six months ended August 31, 2011, we generated gross revenues of $2,497,157. Our cost of goods sold was $2,425,861 resulting in a gross profit of $71,296. Our total operating expenses during the six months ended August 31, 2011 were $428,391. Our operating expenses during the quarter consisted of professional fees of $38,465, salaries and wages of $67,823, general and administrative expenses of $95,594, commissions of $7,578, and promotional and marketing expenses of $218,931. Our net loss for the six months ended August 31, 2011 was $357,095.
Our sales and operating expenses were substantially lower during the three and six months ended August 31, 2012 compared to the same periods last year because our usual Chinese suppliers have refused to provide us with additional trade credit, rendering us unable to obtain products to fill orders from our customers. As a result, our total sales and overall level of business activity have declined significantly. We are presently seeking to establish relationships with additional manufacturers. There can be no assurance that such additional relationships will be established or that we will be able to obtain additional capital or trade credit on acceptable terms, or at all.
Liquidity and Capital Resources
As of August 31, 2012, we had current assets in the amount of $408,723, consisting of cash in the amount of $3,367, accounts receivable of $260,021, and prepaid expenses of $145,335. Our current liabilities as of August 31, 2012 were $17,478,391, consisting of accounts payable and accrued liabilities of $2,146,837, accrued compensation owed to related parties of $346,800, a convertible note payable of $42,157, net of discount, a note payable of $174,271, and a derivative liability in the amount of $14,768,326. The derivative liability is related to a promissory note that is convertible to common stock at a discount to our market share price. Our working capital deficit as of August 31, 2012 was therefore $17,069,668.
Our ability to obtain finished products and component parts is presently severely constrained by our limited access to sufficient working capital. At present, our usual Chinese suppliers have refused to provide us with additional trade credit, rendering us unable to obtain products to fill orders from our customers. We are presently seeking to establish relationships with additional manufacturers. There can be no assurance that such additional relationships will be established or that we will be able to obtain additional capital or trade credit on acceptable terms, or at all.
We are also seeking equity and debt capital from other sources. With additional capital, we would be able to purchase additional product necessary for our current and expected distribution opportunities as well as negotiate more favorable supplier terms. If we are unable to obtain that additional credit or capital, however, we will be unable to make any additional sales and implementation of our business plan will be adversely affected.
In addition to the cost of producing and delivering product for sale, we anticipate incurring approximately $1,600,000 in general operating expenses over the course of the current fiscal year.
Off Balance Sheet Arrangements
As of August 31, 2012, there were no off balance sheet arrangements.
We have negative working capital and have incurred losses since inception. These factors create substantial doubt about our ability to continue as a going concern. The financial statements do not include any adjustment that might be necessary if we are unable to continue as a going concern.
Our ability to continue as a going concern is dependent on generating cash from the sale of our common stock and/or obtaining debt financing and attaining future profitable operations. Management’s plans include selling our equity securities and obtaining debt financing to fund our capital requirement and ongoing operations; however, there can be no assurance we will be successful in these efforts.
A smaller reporting company is not required to include this item.
We carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of August 31, 2012. This evaluation was carried out under the supervision and with the participation of our Chief Executive Officer and our Chief Financial Officer, Edward Meadows. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of August 31, 2012, our disclosure controls and procedures were not effective. There have been no changes in our internal controls over financial reporting during the quarter ended August 31, 2012. Management determined that the material weaknesses that resulted in controls being ineffective are primarily due to lack of resources and number of employees. Material weaknesses exist in the segregation of duties required for effective controls and various reconciliation and control procedures not regularly performed due to the lack of staff and resources.
Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act are recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.
Limitations on the Effectiveness of Internal Controls
Our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will necessarily prevent all fraud and material error. 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. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the internal control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.
PART II – OTHER INFORMATION
As previously disclosed in our Current Report on Form 8-K filed June 26, 2012, we have been named as a Defendant in a lawsuit filed by Zhuhai Yuehua Electronic Co. (“Zhuhai”) in the Superior Court of California for the County of Los Angeles (the “Court”) at case no. BC 473921. The suit centers on a dispute regarding amounts alleged to be due to Zhuhai upon disposition of certain televisions. Although the suit has been pending against other defendants since November 22, 2011, we were added as a party on June 13, 2012 when Zhuhai filed a First Amended Complaint. Our current officer, Edward Meadows, and our former chief operating officer, Edward Wang, are also defendants, as is an entity controlled by Mr. Wang. We anticipate that we will be adverse to Mr. Wang and the entity he controls if the suit proceeds to trial. We do not anticipate being adverse to Mr. Meadows. At present the case is in the discovery phase.
On August 23, 2012, the same plaintiff, Zhuhai, amended its complaint in a related case, BC 476331, to include us, Mr. Wang and an entity allegedly controlled by Mr. Wang as named defendants. As with case no. BC 473921, we anticipate that we will be adverse to Mr. Wang and any entities he controls if the suit proceeds to trial. At present the case is in the discovery phase.
Other than as disclosed above, we are not a party to any other pending legal proceeding. Other than as disclosed above, we are not aware of any other pending legal proceeding to which any of our officers, directors, or any beneficial holders of 5% or more of our voting securities are adverse to us or have a material interest adverse to us.
A smaller reporting company is not required to include this item.
In accordance with the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.