Quarterly report pursuant to Section 13 or 15(d)

Senior Secured Convertible Note Payable

v3.19.2
Senior Secured Convertible Note Payable
9 Months Ended
May 31, 2019
Notes to Financial Statements  
Note 4: Senior Secured Convertible Note Payable

June 2018 Financing – December 2018 Limited Settlement

 

On June 4, 2018, the Company issued convertible notes in the principal amount of $10 million for a purchase price of $9 million to institutional investors, bearing interest at a rate of 8%, with maturity date of September 4, 2019, for cash proceeds of $8.4 million for mobile application development and support, IT and HR platform development and support and working capital. The Company incurred approximately $0.6 million of debt issuance costs that are incremental costs directly related to the issuance of the senior secured convertible notes payable.

 

Concurrently with the sale of the notes, the Company also granted warrants to purchase 1,004,016 shares of common stock to its institutional investors and also granted warrants to purchase 216,867 shares of common stock to its investment banker as placement fees, at an exercise price of $2.49, subject to down round price protection adjustment, as defined in the agreements.

 

The terms of convertible notes are summarized as follows:

 

  · Term: September 4, 2019;
  · Coupon: 8%;
  · Convertible at the option of the holder at any time;
  · Conversion price is initially set at $2.49 but subject to down round price protection. After the maturity, the conversion price will be set subsequently at the lesser of the then conversion price and 85% of the volume weighted average price for the trading date immediately prior to the application conversion date; and
  · Monthly amortization of principal either in cash at a 10% premium or in stock, subject to equity conditions, at a 15% discount to the lowest volume weighted average price, at the option of the Company.

 

The Company has been converting the convertible notes in its shares of common stock at a fifteen percent (15%) discount to the lowest volume weighted average price (“VWAP”) whereas the terms of the agreement state that such discount to the original conversion price of $2.49 should have been initiated on or after the maturity date of the convertible notes or September 4, 2019. The accounting standards require the recognition through earnings of an inducement charge equal to the fair value of the consideration delivered in excess of the consideration issuable under the original conversion terms. This resulted in a non-cash charge of $2.3 million for the three months ended May 31, 2019, and $3.8 million for the nine months ended May 31, 2019.

  

The Company had the following principal balances under its convertible notes outstanding as of May 31, 2019 and August 31, 2018:

 

    May 31,     August 31,  
    2019     2018  
8% Senior Secured Convertible notes, Principal   $ 10,000,000     $ 10,000,000  
Less debt discount costs     (400,592 )     (1,602,362 )
Less debt issuance costs     (556,427 )     (2,226,323 )
Less Principal converted to common stock     (8,120,836 )     -  
Less Principal repaid in cash     (435,606 )     -  
Plus Additional Principal from settlement agreements     888,889       -  
Total outstanding convertible notes, net     1,375,428       6,171,315  
Less current portion of convertible notes payable     (1,375,428 )     (6,171,315 )
Long-term convertible notes payable   $ -     $ -  

 

The Company recognized amortization expense related to the debt discount and debt issuance costs of $957,222 and $2,871,666 for the three and nine months ended March 31, 2019, respectively, and $0 for the three and nine months ended May 31, 2018, respectively, which is included in interest expense in the condensed statements of operations.

 

For the three and nine months ended May 31, 2019, the interest expense on convertible notes was $72,671 and $84,227, respectively, and $0 for the three and nine months ended May 31, 2018. The Company applied the interest paid in cash and interest paid in equity against the make whole provision, which represents guaranteed twelve months of coupon payments since the Company was in default from its registration rights agreements. As of May 31, 2019, and August 31, 2018, the balance in the make whole accrual amounted to $23,169 and $608,889, respectively, and such amount were accrued as of May 31, 2019, and August 31, 2018.

 

During the three and nine months ended May 31, 2019, the Company paid in cash $435,606 of principal and converted $3,527,541 and $8,120,836, respectively,  of principal and $203,966 and $501,844, respectively, of interest into shares of commons to its institutional investors and issued 3,405,079 and 6,364,506, respectively, shares of common stock.

 

Event of default

 

The Company executed registration rights agreements with each of its institutional investors. These registration rights agreements require, among other things, that the initial registration statement should be (a) filed within 30 days of June 4, 2018, and (b) declared effective within 90 days of June 4, 2018. The Company’s registration statement was filed on October 1, 2018 and it was declared effective by the SEC on October 29, 2018; thus, both the filing and effectiveness deadlines were missed.

 

The Company recorded in its condensed consolidated financial statements the mandatory default amount as stipulated in the convertible note agreements. As of August 31, 2018, the Company recorded approximately $3.5 million, which is reported under current liabilities in its condensed consolidated statement of operations.

 

On December 20, 2018, the Company entered into settlement agreements with its institutional investors, which resolves all disputes relating to technical defaults by the Company in failing to meet deadlines for filing a registration statement and for having a registration statement effective by the SEC. As a result of such settlement, the Company increased the principal amount of the convertible notes by $888,889 in full settlement of the previously accrued $3.5 million default amount thereby decreasing the total liabilities reported on the Company’s August 31, 2018, balance sheet by $2.6 million, and recognized a gain of approximately $0 and $2.6 million during the three and nine months ended May 31, 2019.

  

March 2019 Bridge Financing

 

On March 12, 2019, the Company issued convertible notes in the principal amount of $4,750,000 for a purchase price of $3,750,000 to certain of our existing institutional investors, bearing no coupon interest, with maturity date of September 12, 2020, for net cash proceeds of $3.3 million for mobile application development and working capital. The Company incurred approximately $0.5 million of debt issuance costs that are incremental costs directly related to the issuance of the bridge financing senior convertible notes payable.

 

Concurrently with the sale of the notes, the Company also granted warrants to purchase 2,840,909 shares of common stock to its institutional investors and also granted warrants to purchase 134,569 shares of common stock to its investment bankers as placement fees, at an exercise price of $1.75, subject to down round price protection adjustment, as defined in the agreements.

 

The notes bear no interest since they were issued at a deep discount. If the Company defaults on the notes, then the Company will be charged a default interest rate of 18% until default is resolved. The terms of the notes provide for payment of 110% of all amount outstanding (including the principal amount of each note together with any accrued and unpaid interest and any other accrued and unpaid charges) at maturity on September 12, 2020.

               

Subject to the conversion limitation, each note may be converted, at the option of the holder, at a fixed price of $1.67, subject to adjustment or alternatively, at a variable price calculated by dividing (x) such portion of the principal, accrued and unpaid interest and fees subject to conversion by (y) the greater of (i) $0.31, and (ii) the lower of the conversion price in effect and 85% (subject to downward adjustment in the case of conversion upon an event of default or bankruptcy) of the lowest volume-weighted average price per share during the ten consecutive trading days prior to conversion.

 

The terms of the March 2019 convertible notes are summarized as follows:

 

  · Term: September 12, 2020;
  · Coupon: 0%;
  · Default interest rate: 18%;
  · Original issue discount: $1,000,000;
  · Convertible at the option of the holder at any time;
  · Initial conversion price is set at $1.67 but subject to down round price protection;
  · Alternate conversion price at the greater of the floor price of $0.31 and the lower of the conversion price in effect and alternate conversion percentage of the lowest VWAP of the common share during the 10 consecutive trading day prior to the applicable conversion date;
  · Alternate conversion percentage is 75% if the alternate conversion is an alternate conversion event of default as a result of bankruptcy or 80% for all alternate event of default conversion or 85% is such alternate conversion is an alternate optional conversion;
  · Redemption at the option of the holder at 25% premium upon an event of default;
  · Redemption at the option of the Company at 15% premium at any time after 45 days from March 12, 2019.

 

In connection with the note, the Company issued 2,840,909 warrants, exercisable at $1.75, with a five-year term. The Company estimated the fair value of the warrants using the Lattice pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $1.59%, a risk-free interest rate of 2.49% and expected volatility of the Company’s common stock, of 122%, resulting in a fair value of $3,917,000.

 

The Company estimated the aggregate fair value of the conversion feature derivative embedded in the debenture at issuance at $2,421,000 based on weighted probabilities of assumptions used the Lattice pricing model. The key valuation assumptions used consist, in part, of the price of the Company’s common stock of $1.59, a risk-free interest rate of 2.49% and expected volatility of the Company’s common stock, of 122%, and the various estimated reset exercise prices weighted by probability.

 

This resulted in the calculated fair value of the debt discount resulted from bifurcating the warrants and the conversion feature being greater than the face amount of the debt net of the original issue discount, and the excess amount of $2.6 million was immediately expenses as financing costs.

  

The Company had the following principal balances under its convertible notes outstanding as of May 31, 2019, and August 31, 2018: 

 

    May 31,     August 31,  
    2019     2018  
Senior Secured Convertible notes, Principal   $ 4,750,000     $ -  
Less debt discount costs     (4,090,278 )     -  
Less debt issuance costs     (417,810 )     -  
Less Principal converted to common stock     (210,000 )     -  
Total outstanding convertible notes, net     31,912       -  
Less current portion of convertible notes payable     31,912       -  
Long-term convertible notes payable   $ -     $ -  

   

The Company recognized amortization expense related to the debt discount and debt issuance costs of $727,111 for the three and nine months ended March 31, 2019, respectively, and $0 for the three and nine months ended May 31, 2018, respectively, which is included in interest expense in the condensed statements of operations.

 

During the three and nine months ended May 31, 2019, the Company converted $210,000 of principal into shares of commons to its institutional investors and issued 434,841 shares of common stock.