Annual Report — Form 10-K Filing Table of Contents
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Securities
registered pursuant to Section 12(g) of the Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act.
Yes
o
No x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.
Yes
o
No x
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. Yes x No o
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not
be contained, to the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check
one):
Large
accelerated filer o Accelerated
filer x Non-accelerated
filer o Smaller
Reporting Company o
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes o No x
The
aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the stock was last
sold on June 29, 2007 (the last business day of the registrant’s most recently
completed second fiscal quarter), was $177,497,776.
Indicate
the number of shares outstanding of each of the registrant’s classes of common
stock, as of the latest practicable date.
The
number of shares of Common Stock outstanding on March 1,
2008,
was
80,848,416.
This
report contains forward-looking statements within the meaning of the federal
securities laws that relate to future events or our future financial
performance. In some cases, you can identify forward-looking statements by
terminology, such as "may,""will,""should,""could,""expect,""plan,""anticipate,""believe,""estimate,""project,""predict,""intend,""potential"
or "continue" or the negative of such terms or other comparable terminology,
although not all forward-looking statements contain such terms.
In
addition, these forward-looking statements include, but are not limited to,
statements regarding implementing our business strategy; development,
commercialization and marketing of our products; our intellectual property;
our
estimates of future revenue and profitability; our estimates or expectations
of
continued losses; our expectations regarding future expenses, including research
and development, sales and marketing, manufacturing and general and
administrative expenses; difficulty or inability to raise additional financing,
if needed, on terms acceptable to us; our estimates regarding our capital
requirements and our needs for additional financing; attracting and retaining
customers and employees; sources of revenue and anticipated revenue; and
competition in our market.
Forward-looking
statements are only predictions. Although we believe that the expectations
reflected in these forward-looking statements are reasonable, we cannot
guarantee future results, levels of activity, performance or achievements.
All
of our forward-looking information is subject to risks and uncertainties that
could cause actual results to differ materially from the results expected.
Although it is not possible to identify all factors, these risks and
uncertainties include the risk factors and the timing of any of those risk
factors identified in “Item 1A. Risk Factors” section contained herein, as
well as the risk factors and those set forth from time to time in our filings
with the Securities and Exchange Commission (“SEC”). These documents are
available through our website, http://www.sulphco.com,
or through the SEC’s Electronic Data Gathering and Analysis Retrieval System
(“EDGAR”) at http://www.sec.gov.
References
in this report to “we,” us,” “our company,” and “SulphCo” refer to SulphCo,
Inc., a Nevada corporation.
3
PART
I
ITEM
1. BUSINESS
Introduction
We
are
engaged in the business of developing and commercializing our patented and
proprietary technology for the “upgrading” of crude oil by reducing its
relative
density, its viscosity, and its sulphur and nitrogen content. Our patented
and
proprietary process, which we refer to as Sonocracking,™ is based upon the novel
use of high power ultrasound - the application of high energy, high frequency
sound waves –
which alters the molecular structure of the crude oil. This decreases the
relative density and the viscosity of crude oil and correspondingly increases
the amount of lighter oils that can be recovered during the refining processes.
Other beneficial changes to the crude oil as a result of the Sonocracking™
technology include a reduction in the weight percentage of sulphur as well
as a
reduction in the parts per million of nitrogen.
The
potential markets for our Sonocracking™ technology and our Sonocracker™ units
include crude oil producers (upstream markets), transporters and blenders
(mid-stream markets) and refiners (down stream markets). The economic value
of
crude oil is driven largely by characteristics such as API gravity (relative
density), sulphur content and total acid number (“TAN”). Because our technology
is designed to decrease the relative density of crude oil and at the same time
reduce the sulphur content in a cost-effective way, the successful
commercialization of our technology can be expected to produce economic benefits
to future customers in these markets.
We
maintain our principal executive offices and facilities at 4333 W. Sam Houston
Pkwy N., Suite 190, Houston, Texas77043. Our telephone number is (713)
896-9100. Our corporate website is www.sulphco.com.
The
information contained on our website is not part of this report.
Business
Development Activities Update
The
following is an update on the significant activities the Company has been
pursuing.
With
respect to the Company’s ongoing commercial efforts, we continue to see a high
level of interest in the Sonocracking™ process as potential customers see the
value that can be driven by the technology. We are pursuing what we believe
are
opportunities presenting the highest likelihood of success for the technology
(i.e., crudes with high sulphur content) and are working with several customers
to achieve that goal.
On
February 11, 2008, we announced
that we had signed an agreement with Pt. Isis Megah (“Isis”), an Indonesian oil
and gas services company, which grants Isis an exclusive distributorship in
the
sales territories of India, Malaysia, Singapore and Indonesia (the “Sales
Territories”). We concurrently announced a customer order, subject to the
conditions described below, procured through Isis, for Sonocracking™ units with
at least thirty thousand barrels per day of processing capacity to be shipped
at
our expense from Fujairah to a designated port within the Sales Territories.
On
arrival, Isis will pay all entry costs and duties, the cost of transportation
from the port of entry to the customer’s refinery and all installation costs. We
will then provide advisory personnel and on-site project management to insure
proper installation, start-up and commissioning.
4
The
order
is conditioned upon the execution of an operating agreement with the customer
and we have preliminarily agreed that the following material terms and
conditions must be part of such an operating agreement: i) SulphCo shall receive
an agreed processing fee for
each
barrel of installed processing capacity of the units; ii) the processing fee
shall be adjusted annually, based on benchmark performance targets; iii)
the
customer shall be responsible for all operating and maintenance expenses
(including parts replacement);
iv)
title to the units shall remain with SulphCo, v) the operating agreement shall
have a term of five years; vi) payment of processing fees shall commence after
successful completion of a continuous seven day performance test; and vii)
installation costs will be reimbursed by SulphCo out of operating revenues.
Neither Isis nor the customer may operate the Sonocracking™ units prior to
execution of such an agreement.
In
the
event, for any reason, we are unable to agree upon the terms of an operating
agreement, the contingent customer order will be canceled and Isis shall remove
and return the units to SulphCo at its expense. In addition, should the units,
after commissioning and completion of trial runs, fail to achieve the
performance targets established in the operating agreement, the customer order
may also be canceled.
Fujairah
During
2007, we completed the first phase of a 180,000 barrel per day Sonocracking™
test facility in Fujairah, UAE (the “Fujairah Facility”) the construction of
which commenced in 2006. In August of 2007, we commissioned the first
Sonocracking™ unit at the Fujairah Facility. The commissioning included the
completion of infrastructure and ancillary facilities, including electric,
cooling, water tanks, sludge tanks, pumps, control systems, a water separator
and external feed lines, sufficient to allow continuous operation of one of
the
six commercial scale 30,000 barrels per day Sonocracking™ units installed at the
Fujairah Facility. Following the commissioning of this unit, we conducted
several rounds of testing.
The
purpose of these tests was to evaluate the performance of our equipment during
trial runs in a working commercial environment. During 2007, we conducted four
separate sets of trials with several qualities of fuel and crude oil, supplied
by tanker truck, utilizing both a modified SulphCo probe design as well as
an
Industrial Sonomechanics, LLC (“ISM”) based probe designs. Both treated and
untreated samples were sent to a third party laboratory (Caleb Brett) for
appropriate analyses. While we encountered some operational issues using a
prototype of the newly licensed ISM-probe design in one of the trials, the
results overall were positive and can be summarized as follows: Using heavy
fuel
oil as the Sonocracking™ process feed, we were able to demonstrate under certain
processing conditions, an improvement of up to 3 degrees in the API gravity,
up
to 23% sulphur reduction by weight, and up to 20% viscosity reduction. Utilizing
crude oil as the Sonocracking™ feedstock, we were able to achieve up to 2
degrees of improvement in the API gravity and up to 18% sulphur reduction by
weight using the improved SulphCo design probe. In contrast, the new ISM design
probe significantly outperformed the SulphCo design probe achieving up to a
47%
sulphur reduction by weight in the processed crude.
In
2008
we plan to continue to utilize the Fujairah Facility as a test and validation
venue for the Sonocracking ™ process as well as for customer demonstration
purposes.
5
European
Testing Activities
In
2006
we entered into an agreement with a major European oil producer and refiner
to
test our Sonocracking
™ technology.
Testing commenced in the first quarter of 2007 utilizing a 15,000 barrel per
day
unit, initially at a refinery location and subsequently at a remote field
production site, permitting us to run a variety of light and heavy crude oils.
Over the following six months we conducted runs utilizing several probe designs.
Although the trials took longer than planned due to the remote location and
the
need to reconfirm the initial test results, we again were able to again
demonstrate during extended trial runs that the improvements to the SulphCo
design probe greatly enhanced reliability. The test results with respect to
API
gravity and viscosity improvements were consistent with those achieved in
Fujairah. However, we were not able to conduct meaningful testing for sulphur
reduction during these trials due to the extremely low sulphur content in the
crudes tested. Nevertheless, the overall results were encouraging and meetings
are planned with our European testing partner in early 2008 to discuss the
go
forward plan.
South
Korea
In
connection with the SulphCo KorAsia project, in January 2008, essential
equipment was ordered and scheduled for shipment to South Korea in preparation
for trials in early February. Included among the equipment to be delivered
were
the new ISM ultrasonic probe and the SulphCo designed control unit, which should
allow for precise measurement and understanding of the probe operation during
the upcoming tests. Due to unforeseen circumstances, some of the equipment
was
not received in time to commence testing during February 2008. Although this
program has been delayed for several reasons, including the need to assure
protection of our intellectual property and the recently licensed ISM
technology, we expect to proceed with the testing of Khafji crude (~3% sulphur
by content) during the latter part of the first quarter of 2008 or the early
part of the second quarter of 2008.
Houston,
Texas
Beginning
in the fall of 2007 and continuing into the first quarter of 2008, we have
concentrated our engineering efforts on two important projects, the first being
the development of a reduced scale laboratory version of our 5,000 barrel per
day prototype commercial scale Sonocracker™ and the second being the conversion
of a 5,000 barrel per day Sonocracking™
skid into a mobile unit. The reduced scale laboratory unit will
allow for test trials with flow rates as low as 1 gallon per minute, and, should
permit us to develop meaningful data from as little as one barrel of a customer
supplied crude oil sample. Our new mobile 5,000 barrel per day skid is in the
final stages of testing and should be operational by the end of the first
quarter of 2008. By allowing us immediate and straightforward access to multiple
customers’ sites in the Southwest U.S., this mobile unit should permit us to
develop processing windows for a wide range of crude qualities.
Probe
Development
The
ultrasound probe and reactor assembly is the key to the Sonocracking™ process.
Since the Company’s inception, we have focused our efforts on the design and
development of high power reliable ultrasound probes. Until last year, the
ultrasonic probes and transducers designed and manufactured by SulphCo failed
to
perform to the level of reliability required for commercial applications. As
a
result, a new strategy was implemented in the beginning of 2007 shifting from
the manufacturing of ultrasound probe transducers internally to outsourcing
to
capable manufacturing partners. Our new strategy has been successful,
dramatically increasing probe reliability while simultaneously enhancing power
output and efficiency. The original Series I probe would sometimes fail in
a
matter of minutes. In contrast, the newer generation Series II probe should
be
capable of running for weeks at a time. Throughout the remainder of 2007 we
concentrated our efforts on the improvement of the SulphCo Series II ultrasonic
probe design, but also investigated in parallel probe designs developed by
other
manufacturers.
6
On
November 15, 2007, we announced an agreement with ISM, granting us an exclusive
license for ISM’s patented ultrasound horn design as well as the rights to their
patent pending reactor design. Our relationship with ISM dates back to March
of
2007, when initial discussions took place regarding the technology’s potential.
In furtherence of the ISM relationship, we authorized Märkisches
Werk
(“MWH”) to produce full-scale prototype probes for testing in the laboratory.
Once comfortable with a performing probe, we sent prototypes to the Fujairah
Facility for testing on fuel oil and crude oil. Based on promising initial
results and several discussions with the scientists at ISM, we entered into
a
license agreement for the use of ISM’s technology as well as a consulting
agreement with ISM’s scientists, to enable us to expeditiously adapt these
probes to our process.
General
Description of Our Technology
SulphCo's
technology is designed to use high power ultrasound to alter naturally occurring
molecular structures in water and hydrocarbons. Under certain conditions,
ultrasonic waves can induce cavitation in a liquid. Cavitation involves the
creation of bubbles at the sites of refraction owing to the tearing of the
liquid from the negative pressure of intense sound waves in the liquid. The
bubbles then oscillate under the effect of positive pressure, growing to an
unstable size as the wave fronts pass. The ultrasound waves stress these
bubbles, leading to their growth, contraction, and eventually bursting,
generating excess heat and pressure in and around every micrometer and
submicrometer-sized bubble. The entire process takes a few nanoseconds and
each
bubble can behave as a microreactor, accelerating the physical reactions owing
to the heat released and localized pressures obtained. The high temperature
(estimated to be as high as 5,000 degrees Kelvin) and pressure (estimated to
be
as high as 500 atm) reached can potentially cause disruption of molecular
bonds.
The
Sonocracking™ technology applies high-power ultrasonic energy to a mixture of
crude oil and water in conjunction with inexpensive proprietary catalysts.
In
accordance with theory, free radicals can be formed as a result of the breaking
of molecular bonds in the water vapor at the thermolic center of the cavitation
bubbles. While a large portion of these free radicals rapidly reform into water
vapor, a few can bring about the oxidation of some sulphur compounds in the
hydrocarbons. It can also potentially result in cracking the bonds of residuum
elements, thereby enhancing the crude quality. The transfer of hydrogen and
hydroxide from water to the numerous petroleum streams can lead to the oxidation
and subsequent removal from the crude oil of sulphur present in these streams.
Aside from the potential oxidation of sulphur compounds, the process may also
bring about the rupturing of the complex hydrocarbon bonds, which in turn may
result in upgrading the overall hydrocarbon content by reducing the overall
density and thereby increasing the American Petroleum Institute (API) gravity.
SulphCo's
proprietary Sonocracking™ units are designed to treat large volumes of petroleum
products at relatively low temperatures and pressures. The base design and
capacity for the Sonocracking™ technology consists of a 5,000 barrel per day
processing line. Successive lines can be added to scale capacities in multiples
of 5,000 barrels per day. SulphCo has designed and implemented modular units
with a 15,000 barrel per day capacity that are skid mounted and can be
transported in a typical shipping container. These units possess smaller
“footprints” and are expected to have lower capital costs when compared to the
conventional hydrotreating equipment and other upgrading technologies. This
mobility and relative low capital cost make installation of Sonocracking™
equipment in the upstream (production), midstream (blending and transportation)
and downstream (refining) sectors very flexible, with the ability to match
customer capacity needs while requiring a relatively small
“footprint”.
7
The
Market for Our Technology
Potential
Improvements and Benefits
SulphCo’s
high power ultrasound Sonocracking™ process for treating crude oil and crude oil
fractions is designed to produce a number of desirable effects, including
reduction in sulphur levels (and oxidation of sulphur molecules), improvement
in
the API Gravity (reduction in relative density), shifting of the molecular
distribution from higher to lower boiling components, reduction in viscosity,
and reduction in nitrogen. Other improvements, such as heavy metal
reduction/concentration, may also be possible. The degree to which any one or
more of these improvements occur after treatment with the Sonocracking™ process
depends heavily on the feed oil characteristics, including: molecular makeup
of
sulphur compounds, asphaltene level and microstructure, acidity, and several
other factors. Not all crude oil or crude oil fractions will respond to the
treatment to the same levels, therefore it is critical to optimize the process
for a given feed stream to maximize the process benefits.
The
economic benefit derived from the Sonocracking™ process depends on the overall
improvement imparted to the crude oil or crude oil fraction in conjunction
with
customer and application-based drivers such as, but not limited to, crude oil
pricing spreads, higher quality yields, and reduction in other operating costs.
Since different sectors of the oil market have unique individual needs and
potential benefits, it is necessary to evaluate the overall benefit provided
by
the Sonocracking™ process in the context of the customer application,
improvement in the oil stream, and market pricing.
The
Oil Producer Market
(upstream)
SulphCo’s
Sonocracking™ processing units are expected to provide economic benefits for oil
producers utilizing these units. These benefits include:
·
The
ability to obtain higher prices for crude oil processed by SulphCo’s
Sonocracker™ units; and
·
Improved
economics by allowing more production of heavier, higher sulphur
crude oil
reserves.
The
price
of crude oil is based primarily on characteristics such as API gravity (relative
density), sulphur content and TAN. Because our technology is designed to reduce
both the density and sulphur content in crude oil in a commercial setting,
this
should allow a producer who treats crude oil with our Sonocracking™ technology
to obtain a higher price for its crude oil from distributors and refiners as
a
result of its lower density and sulphur content. In addition, crude oil reserves
which are underutilized due to higher sulphur content may become more
economically viable as a result of treating extracted crude oil with our
processing units. Producers would operate these units to process crude oil
at
oilfield collection points or crude oil storage tank facilities.
According
to the Energy Information Administration, as of the end of 2006, it was
estimated that the world consumes approximately 85 million barrels of oil per
day. Of this, approximately 60 million barrels per day comes from medium and
heavy crude oil.
8
The
Transporting
and Blending Market (mid-stream)
Sulphco’s
Sonocracking™ technology can improve the blending economics for mid-stream crude
oil blenders and transporters. Treating high sulphur crude oil with the
Sonocracking™ units is expected to reduce the sulphur content and allow more of
this treated crude oil to be blended into the crude oil streams, while still
meeting the various pipeline specifications. In addition to the blending
economics, in some cases blenders can save on the high cost of alternative
transportation versus crude oil pipelines.
The
Refining Market (down stream)
SulphCo’s
Sonocracking™ processing units are expected to provide economic benefits for oil
refiners through the reduction of crude oil density and sulphur content. As
each
refinery is unique, potential benefits of Sonocracking
technology
to an
individual refiner will vary, depending on such factors as plant configuration,
the type of crude oil processed and product specifications.
These
potential benefits include:
·
The
ability to produce a higher yield of higher value refinery end products;
and
·
Lower
raw material (i.e., crude oil)
costs.
Upgrading
of Crude Oil Results in Higher Yield of Higher Margin End
Products
When
refined, a lighter crude oil usually produces a higher yield of higher margin
refined products such as gasoline, diesel and jet fuel. Therefore, it is more
expensive than heavy crude oil. In contrast, heavy crude oil produces more
low
margin by-products and heavy residual oils. Because our Sonocracker™ units are
expected to upgrade the quality of crude oil by reducing crude oil density,
a
refinery that “pre-treats” its feed crude oil with our Sonocracking™ technology
is expected to be able to produce a higher yield of higher value end products
than would otherwise be the case without our Sonocracker™ units.
Lower
Raw Material Costs
While
crude oils have differing characteristics, the relative cost of crude oil is
influenced primarily by its relative density and sulphur content. Typically,
there is a direct correlation between oil density and sulphur content, with
more
dense crude generally containing higher sulphur concentrations. Therefore,
crude
oil with lower density and lower sulphur concentrations is generally sold at
a
higher price than higher density crude oil with higher sulphur
concentrations.
The
cost
of crude oil is generally considered to be the cost component with the greatest
leverage on the profitability of an oil refinery. Therefore, a refinery will
normally seek to purchase the most economical grade of crude oil which is
suitable for its refinery operations. Typically, no two refineries will have
identical requirements and the suitability of a particular grade of crude oil
will normally depend upon the refining capabilities of a particular refinery
and
the types of finished products it produces. For example, complex refineries,
(i.e., refineries which have more extensive refining capabilities) can more
readily process heavier grades of crude oil containing higher sulphur
concentrations. Due to price differentials based upon the density and sulphur
content of crude oil, a refinery (regardless of complexity) will normally seek
to purchase the least expensive heavy grade oil with the highest sulphur content
that can be refined within its capabilities. In turn, as the market “spread”
between light sweet crude oil and heavy sour crude oil increases, so too should
a refinery’s profit margin if it has the capability of processing heavier sour
crude oil.
9
Because
our Sonocracker™
units
are
expected to reduce crude oil density and sulphur content, a refinery which
“pre-treats” its crude oil with our units would be expected to be able to
realize cost reductions and improved profit margins by utilizing lower cost,
higher density, higher sulphur containing feed oil than would otherwise be
possible without our Sonocracking™ technology.
Geographic
Scope of Our Market
We
have a
50% ownership interest in Fujairah Oil Technology LLC in Fujairah, United Arab
Emirates and are actively pursuing commercial opportunities in other parts
of
the world including Austria, South Korea, South America, Canada, India,
Malaysia, Singapore and Indonesia. In February 2008, we entered into an
agreement with Pt. Isis Megah (“Isis”), which grants Isis an exclusive
distributorship in the sales territories of India, Malaysia, Singapore and
Indonesia. As the potential markets for our technology include countries with
significant oil producing or refining activities, we expect to conduct business
in other countries as well. These activities may be conducted by us directly,
or
through partners, licensees or other third parties, in connection with the
potential commercialization of our technologies.
Development
and Commercialization Activities
We
have
been in
the
development of our Sonocracking™ technology since the formation of GRD, Inc. in
January 1999. Beginning in mid 2002, we focused our research and development
activities on the design, upgrading and testing of laboratory scale prototypes
utilizing more powerful ultrasonic generators, and the adaptation of those
prototypes to accommodate these more powerful generators. Other than the
ultrasonic probe improvement program, which has been largely outsourced,
substantially all of the development work to date has been conducted by SulphCo
personnel. We continue to conduct testing in-house and through relationships
with third parties.
During
2005, we completed construction of a 5,000 bbl/day Sonocracking™ unit and a
15,000 bbl/day Sonocracking™ unit at our facilities in Sparks, Nevada,
culminating months of testing the internal components at our facility. These
units are designed to be modular in order to facilitate both scalability and
maintenance. Three 5,000 barrel per day skids in parallel comprise a 15,000
barrel per day prototype unit. These systems are automated using programmable
logic controllers and come equipped with touch screen interfaces. We also
designed a Sonocracking™ unit intended to process 30,000 barrels per day of
crude, comprised of two 15,000 barrel per day units in parallel. Seven 30,000
barrel per day units were manufactured by NTG for us in 2006, with six units
installed in our Fujairah Facility.
As
stated
above, at the Fujairah
Facility, we commissioned a 30,000 barrel per day Sonocracking™ unit in August
of 2007 and have conducted four separate series of trials.
Patents,
Trademarks and Copyrights
We
own
seven United States patents, six of which relate to our basic Sonocracking™
technology. Our granted U.S. Patents include:
·
Loop-Shaped
Ultrasound Generator and Use in Reaction Systems. U.S. patent no.
7,275,440 was issued on October 2, 2007 to Dr. Rudolf W. Gunnerman
and
assigned to SulphCo;
10
·
Conversion
of Petroleum Resid to Usable Oils with Ultrasound. U.S. patent no.
7,300,566 was issued on November 27, 2007 to Dr. Rudolf W. Gunnerman
and
assigned to SulphCo;
·
Oxidative
Desulphurization of Fossil Fuels with Ultrasound. U.S. patent no.
6,402,939, issued June 11, 2002 to Dr. Teh Fu Yen and assigned to
SulphCo;
·
Continuous
Process for Oxidative Desulphurization of Fossil Fuels with Ultrasound
and
Products Thereof. U.S. patent no. 6,500,219, issued December 31,2002 to
Dr. Rudolf W. Gunnerman, and assigned to
SulphCo;
·
Ultrasound-Assisted
Desulfurization of Fossil Fuels in the Presence of Dialkyl Ethers.
U.S.
patent no. 6,827,844 was issued on December 7, 2004. Dr. Rudolf W.
Gunnerman, listed as the inventor, assigned the patent to
SulphCo;
·
Corrosion
Resistant Ultrasonic Horn. U.S. patent no. 6,652,992, issued November25,2003 to Dr. Rudolf W. Gunnerman, and assigned to SulphCo, Inc;
and
·
High-Power
Ultrasound Generator and Use in Chemical Reactions. U.S. patent no.
6,897,628 was issued on May 24, 2005. Dr. Rudolf W. Gunnerman and
Dr.
Charles Richman, listed as co-inventors, assigned the patent to
SulphCo.
We
also
have seven pending U.S. Patents including:
·
Power
Driving Circuit for Controlling a Variable Load Ultrasonic Transducer.
U.S. patent application no. 11/069492 was issued on February 28,2005.
·
High-Throughput
Continuous-Flow Ultrasound Reactor. U.S. patent application no. 10/857444
was issued on May 27, 2004.
·
Upgrading
of Petroleum by Combined Ultrasound and Microwave Treatments. U.S.
patent
application no. 11/059115 was issued on February 15,2005.
·
High-Power
Ultrasonic Horn. U.S. patent application no. 11/066766 was issued
on
February 24, 2005.
·
High
Resonating Ultrasonic Transducer and Horn. U.S. patent application
no.
60/781043 was issued on March 10,2006.
·
Loop-Shaped
Ultrasound Generator and Use in Reaction Systems. U.S. patent application
no. 10/994166 was issued on November 18,2004.
·
Loop-Shaped
Ultrasound Generator and Use in Reaction Systems. U.S. patent application
no. 11/457575 was issued on July 14,2006.
In
addition, SulphCo has been granted eight international patents and has applied
for an additional 89 international patents to protect other aspects and
applications of the Company's technologies. These include, but are not limited
to, new processes and procedures, developed by SulphCo personnel, required
to
manufacture higher power ultrasound equipment for use in SulphCo's
desulphurization units.
11
We
have
applied to register the trademarks Sonocracking,™ Sonocracker,™ and Sonocracked
Crude™ with reference to our upgrading and desulphurization technology. The
trademark SulphCo™ was registered in the U.S. on May 30, 2006. We also rely on
copyright protection for the software utilized in our Sonocracking™
units.
Competitive
Business Conditions
We
are a
new entrant in the market for development and sale of upgrading technology
to
the oil industry. SulphCo faces well established and well funded competition
from a number of sources. Our competitors in this area include oil companies,
oil refineries and manufacturers of conventional oil refinery equipment such
as
hydrotreaters. Most of these entities have substantially greater research and
development capabilities and financial, scientific, manufacturing, marketing,
sales and service resources than we do. Because of their experience and greater
research and development capabilities, our competitors might succeed in
developing and commercializing new competing technologies or products which
would render our technologies or products obsolete or
non-competitive.
Our
patented and proprietary Sonocracking™ process is based upon the novel use of
high power ultrasound to effect beneficial changes in the chemical composition
of crude oil. This process gives us a competitive advantage.
We
believe that our Sonocracking™ technology gives us a competitive advantage
because it is unique in that it “pre-treats” crude oil by both reducing relative
gravity of oil and reducing sulphur content prior to being fed into the
traditional refinery operation. Other than our proprietary Sonocracking™
process, we are not aware of any process in commercial use which is capable
of
both reducing the density of crude oil and reducing sulphur content other than
the conventional refinery process itself.
SulphCo’s
Sonocracking™ units, which are intended to operate in conjunction with
traditional refinery equipment, are expected to provide additional upgrading
benefits at a substantially reduced capital and operating cost compared to
conventional refinery operations. These units are also expected to provide
a
cost-effective method for oil producers to upgrade their crude oil prior to
its
sale to refiners.
We
believe that our issued and pending patents and proprietary know-how will
provide us with a significant competitive advantage over other companies seeking
to commercialize new methods of increasing the API gravity of crude oil or
reducing its sulphur content which are more cost-effective or more efficient
than the methods which are currently commercially available.
Research
and Development During the Last Three Years
During
the past three years, our research and development expenditures have been
directed toward the upgrading and desulphurization of crude oil and the
improvement of our high power ultrasound technology. During the years ended
December 31, 2007, 2006 and 2005, our research and development costs totaled
approximately $7.7 million; $25.4 million, and $2.5 million, respectively.
During 2007 and 2006, we expended approximately $1.7 million and $21.5 million,
respectively, for the construction of the building and for the purchase and
installation of equipment at the Fujairah Facility. Expenditures
of this magnitude are not anticipated to take place in the future until the
process is commercialized, in which event such expenditures will be capitalized
rather than expensed as research and development.
12
During
the past six months, we have entered into a license agreement with ISM granting
us worldwide rights with respect to its proprietary patented ultrasonic probe
and reactor technology, and we are nearing completion of the project to develop
a reduced scale version of our 5,000 barrel per day commercial prototype
Sonocracking™
unit.
We
expect
to continue to develop and test our technologies and prototypes and to explore
the expansion of the range of petroleum products that can be upgraded with
our
technologies.
Effects
of Government Regulation; Regulatory Approvals
Government
Regulation of Sulphur Levels in Petroleum Products
The
reduction of sulphur levels in petroleum products has become a major issue
for
oil refiners. Developed countries in recent years have increasingly mandated
the
use of low or ultra low sulphur petroleum products. As a result, refineries
are
faced with the incurrence of extremely expensive capital improvements for their
refinery processes, altering their end product mix, or in some instances ceasing
the production of low sulphur products entirely. Our technology is expected
to
benefit from the impact of existing and proposed government mandates which
regulate sulphur content, in both the U.S. and in developed countries abroad.
For
example, refinery operations in the U.S. and many of the petroleum products
they
manufacture are subject to certain specific requirements of the federal Clean
Air Act (“CAA”) and related state and local regulations and with the
Environmental Protection Agency (“EPA”). The CAA may direct the EPA to require
modifications in the formulation of the refined transportation fuel products
in
order to limit the emissions associated with their final use. In
December 1999, the EPA promulgated national regulations limiting the amount
of
sulphur that is to be allowed in gasoline. The EPA has stated that such limits
are necessary to protect new automobile emission control systems that may be
inhibited by sulphur in the fuel. The regulations required the phase-in of
gasoline sulphur standards beginning in 2004, with special extended phase-in
provisions over the next few years for refineries meeting specified
requirements. In addition, the EPA recently promulgated regulations that limit
the sulphur content of highway diesel fuel beginning in 2006 to 15 parts per
million. The former standard was 500 parts-per-million. The EPA has also
proposed regulations intended to limit the sulphur content of diesel fuel used
in non-road activities such as in the mining, construction, agriculture,
railroad and marine industries.
Regulatory
Approvals
The
regulatory environment that pertains to our business is complex, uncertain
and
changing rapidly. Although we anticipate that existing and proposed governmental
mandates regulating the sulphur content of petroleum products will continue
to
provide an impetus for customers to utilize our Sonocracking™ technology, it is
possible that the application of existing environmental legislation or
regulations or the introduction of new legislation or regulations could
substantially impact our ability to commercialize our proprietary technology,
which could in turn negatively impact our business.
Operation
of our Sonocracking™ units is subject to a variety of federal, state and local
health and environmental laws and regulations governing product specifications,
the discharge of pollutants into the air and water, and the generation,
treatment, storage, transportation and disposal of solid and hazardous waste
and
materials. Permits with varying terms of duration may be required for the
operation of our Sonocracking™ units, and these permits may be subject to
revocation, expiration, modification and renewal. Governmental authorities
have
the power to enforce compliance with these regulations and permits, and
violators are subject to injunctions, civil fines and even criminal
penalties.
13
Our
activities to date have centered around the development and testing of our
prototype units. These activities require the use or storage of materials which
are, or in the future may be, classified as hazardous products or pollutants
under federal and state laws governing the discharge or disposal of hazardous
products or pollutants. We have undertaken a number of steps intended to ensure
compliance with applicable federal and state environmental laws. Regulated
materials used or generated by us are stored in above-ground segregated
facilities and are disposed of through licensed petroleum product disposal
companies. We also engage independent consultants from time to time to assist
us
in evaluating environmental risks. Our costs related to environmental compliance
have been included as part of our general overhead, and we do not presently
anticipate any material increase in expenditures relating to environmental
compliance in the near future based upon our current level of operations. We
do
not currently maintain insurance to protect us against risks relating to
violation of federal or state laws governing the environment.
Rules
and
regulations implementing federal, state and local laws relating to the
environment will continue to affect our business, and we cannot predict what
additional environmental legislation or regulations will be enacted or become
effective in the future or how existing or future laws or regulations will
be
administered or interpreted with respect to products or activities to which
they
have not been applied previously. Compliance with more stringent laws or
regulations, as well as more vigorous enforcement policies of regulatory
agencies, could have a materially adverse effect on our business.
Installation
and operation of our units at customer sites may subject us to increased risk.
We intend to address these risks by imposing contractual responsibility on
third
party users for maintaining necessary permits and complying with applicable
environmental laws related to the operation of our units. However, these
measures may not fully protect us against environmental risks. Furthermore,
although we may be entitled to contractual indemnification from third parties
for environmental compliance liabilities, this would not preclude direct
liability by us to governmental agencies or third parties under applicable
federal and state environmental laws. We are presently unable to predict the
nature or amount of additional costs or liabilities which may arise in the
future. However, future liabilities and costs could be material.
Employees
As
of
March 10, 2008, we had 15 full-time employees and one part-time
employee.
Executive
Officers
The
following table lists
our
executive officers, their ages, and positions:
Dr.
Larry D. Ryan has
served as our Chief Executive Officer since January 2007 and a Director since
February 2007. Previously he was a senior executive leader at General Electric
Company, GE Advanced Materials Division from 1998 to January 2007.
His
last role within GE was in the capacity of Business Manager, Elastomers, and
RTV
AMR. Dr.
Ryan
has a Ph.D. in Chemical Engineering from the University of Delaware, a Six-Sigma
Blackbelt certification, and a long history of working with chemical
process-dependent technologies. He is a graduate of the esteemed General
Electric Edison Engineering Development Program, a technical leadership program
focused on process engineering projects and product quality improvements. Dr.
Ryan has a proven track record of delivering results in the area of new
process-technology development, new development, and business leadership.
M.
Clay Chambers
has
served as our Chief Operating Officer since February 2008. Mr. Chambers has
over
thirty-five years experience in the refining and petrochemical industry, having
begun his career with UOP, Inc. and held senior management positions with
Coastal Corporation, El Paso Corporation and Texas City Refining. At Coastal
(NYSE, Fortune 40 Company, now El Paso Corporation) he served as Vice President
of Refining, Senior Vice President of International Project Development and
Senior Vice President of Petroleum Coordination. Mr. Chambers had overall
management responsibility for refineries located in Corpus Christi, Texas;
Eagle
Point, New Jersey; Mobile, Alabama; Wichita, Kansas and Aruba, with a total
crude capacity of 538,000 barrels/day. He has extensive expertise regarding
the
full range of refinery and petrochemical processing units and has also held
senior management positions in the product, crude supply and petroleum marketing
areas. Mr. Chambers holds a professional degree in Chemical & Petroleum
Refining Engineering from Colorado School of Mines and an MBA from the
University of Houston.
Stanley
W. Farmer has
served as our Vice President and Chief Financial Officer since June 2007.
From
June
2005 to June 2007, Mr. Farmer was an audit partner at Malone & Bailey, PC, a
full service certified public accounting firm specializing in providing audit
services to small public companies. From November 2004 to April 2005, Mr. Farmer
was the Chief Financial Officer at Texas Energy Ventures, L.L.C., a wholesale
and retail energy holding company. From May 2003 to November 2004, Mr. Farmer
was an Assistant Controller at Reliant Energy Wholesale Group, a subsidiary
of
Reliant Energy, Inc., a provider of electricity and energy-related products
to
retail and wholesale customers. From April 2000 to May 2003, Mr. Farmer was
a
Senior Director at Enron Corp. in its accounting transaction support group.
Mr.
Farmer earned a B.B.A in Accounting from Texas A&M University (College
Station, Texas), is a certified public accountant (Texas) and is a member of
the
American Institute of Certified Public Accountants and the Texas Society of
Certified Public Accountants.
ITEM
1A. RISK FACTORS
We
are a development stage company with a limited operating history, which makes
it
more difficult to predict whether we will be able to successfully commercialize
our technology and implement our business plan.
Our auditors have included a “going concern” emphasis paragraph in their audit
report.
We
are a
development stage company with a limited operating history, and our principal
technologies and products are not yet commercially proven. Accordingly, there
is
a limited operating history upon which to base an assumption that we will be
able to successfully implement our business plan. In addition to this, our
auditors have included a “going concern” emphasis paragraph in their audit
report relating to our financial statements as of December 31, 2007, indicating
that as a result of significant recurring losses, substantial doubt exists
about
our ability to continue as a going concern.
15
Our
technologies are not fully developed, are commercially untested, and therefore,
the successful development and commercialization of our technologies remain
subject to significant uncertainty.
Our
activities,
to
date, have involved the research and development of our crude oil
desulphurization and upgrading technologies and the construction of a test
facility. We have not yet generated any material revenues since commencing
these
activities in January 1999. Commercial application of our technologies will
require further investment, development and testing. We may be unable to
complete the commercialization of our technologies on a timely basis, or at
all.
Development
and commercialization of a new technology, such as our Sonocracking™ process, is
inherently subject to significant risks. Accordingly, we cannot assure that
our
technology will perform in a commercial scale setting as indicated in initial
laboratory or small scale testing or that we will be able to successfully
commercialize our technology. Introducing and enhancing a new technology
involves numerous technical challenges, substantial financial and personnel
resources, and often takes many years to complete. We cannot be certain that
we
will be successful at commercializing our technology on a timely basis, or
in
accordance with milestones, if at all. In addition, we cannot be certain that,
once our processing unit is made operational in a commercial setting, the unit
will perform as expected. Our technology is complex and, despite further
vigorous testing and quality control procedures, may contain undetected errors.
Any inability to timely deliver a commercially viable unit could have a negative
effect on our business, revenues, financial condition and results of
operations.
We
have a history of operating losses and have not generated material revenues
to
date, and we are unable to predict when or if we will generate material revenues
on a sustained basis or achieve profitability.
We
have
not generated any material revenues, and we have experienced significant
operating losses in each period since we commenced our current line of business
in January 1999. As of December 31, 2007, we had an accumulated deficit of
approximately $120 million. These losses are principally associated with the
research and development of our Sonocracking™ units for desulphurization and
upgrading crude oil and other petroleum products, research and development
of
ultrasound technologies, development of pre-production prototypes and related
marketing activity, and we expect to continue to incur expenses in the future
for development, commercialization and sales and marketing activities related
to
the commercialization of our technology. We cannot predict when or to what
extent our technology or resulting products will begin to produce revenues
on a
sustained basis, or whether we will ever reach profitability. If we are unable
to achieve significant levels of revenue on a sustained basis, our losses will
continue. If this occurs, we may be compelled to significantly curtail our
business activities or suspend or cease our operations.
We
may not have sufficient working capital in the future, and we may be unable
to
obtain additional capital, which could result in the curtailment, suspension
or
cessation of our business activity. If we obtain additional financing, you
may
suffer significant dilution.
In
the
past we have financed our research and development activities primarily through
debt and equity financings from our principal shareholder, Rudolf W. Gunnerman,
and equity financings from third parties. Our existing capital resources will
not be sufficient to fund our cash requirements for the next 12 months based
upon current levels of expenditures and anticipated needs. We expect that
additional working capital will be required in the future. There is substantial
doubt about our ability to continue as a going concern, as discussed in Note
1
to our financial statements. Our ability to continue as a going concern is
dependent on our ability to implement our business plan and raise additional
funds.
The
extent and timing of our future capital requirements will depend upon several
factors, including:
16
·
Continued
progress toward commercialization of our
technologies;
·
Rate
of progress and timing of product commercialization activities and
arrangements, including the implementation of our venture with Fujairah
Oil Technology; and
·
Our
ability to establish and maintain collaborative arrangements with others
for product development, commercialization, marketing, sales and
manufacturing.
Accordingly,
our capital requirements may vary materially from those currently planned,
and
we may require additional financing sooner than anticipated.
Sources
of additional capital, other than from future revenues (for which we presently
have no commitments) include proceeds from the exercise of warrants issued
to
the investors in the March 2007 and November 2007 placements, funding through
collaborative arrangements, licensing arrangements and debt and equity
financings. We do not know whether additional financing will be available on
commercially acceptable terms when needed. If we cannot raise funds on
acceptable terms, we may not be able to successfully commercialize our
technology, or respond to unanticipated requirements. If we are unable to secure
such additional financing, we may have to curtail, suspend or cease all or
a
portion of our business activities. Further, if we issue equity securities,
our
shareholders may experience severe dilution of their ownership percentages,
and
the new equity securities may have rights, preferences or privileges senior
to
those of our common stock.
Commercial
activities by us in foreign countries could subject us to political and economic
risks which could impair future potential sources of revenue or impose
significant costs.
We
are
currently engaged in activities outside the U.S., including
the
United Arab Emirates, Austria, Indonesia, Canada, South America and South Korea,
and we expect to continue to do so in the future, either directly, or through
partners, licensees or other third parties, in connection with the
commercialization of our technologies. The transaction of business by us in
a
foreign country, either directly or through partners, licensees or other third
parties, may subject us, either directly or indirectly, to a number of risks,
depending upon the particular country. These risks may include, with respect
to
a particular foreign country:
·
Government
activities that may result in the curtailment of contract
rights;
·
Government
activities that may restrict payments or limit the movement of funds
outside the country;
·
Confiscation
or nationalization of assets;
·
Confiscatory
or other adverse foreign taxation
regulations;
·
Acts
of terrorism or other armed conflicts and civil
unrest;
·
Currency
fluctuations, devaluations and conversion restrictions;
and
·
Trade
restrictions or embargoes imposed by the U.S. or a foreign country.
Many
of
these risks may be particularly significant in some oil producing regions,
such
as the Middle East and South America.
We
may have difficulty managing our growth.
We
expect
to experience significant growth if we are successful in our efforts to rollout
our Sonocracking™ units in Fujairah, United Arab Emirates and other parts of the
world. This growth exposes us to increased competition, greater operating,
marketing and support costs and other risks associated with entry into new
markets and the development of new products, and could place a strain on our
operational, human and financial resources. To manage growth effectively, we
must:
17
·
Attract
and retain qualified personnel;
·
Upgrade
and expand our infrastructure so that it matches our level of
activity;
·
Manage
expansion into additional geographic areas;
and
·
Continue
to enhance and refine our operating and financial systems and managerial
controls and procedures.
If
we do
not effectively manage our growth, we will not be successful in executing our
business plan, which could materially adversely affect our business, results
of
operations and financial condition.
Our
strategy for the development and commercialization of our technologies
contemplates collaborations with third parties, making us dependent on them
for
our success.
We
do not
possess all of the capabilities to fully commercialize our desulphurization
and
upgrading technologies on our own. Our success may depend upon partnerships
and
strategic alliances with third parties, such as our joint venture with Fujairah
Oil Technology. Collaborative agreements involving the development or
commercialization of technology such as ours generally pose such risks
as:
·
Collaborators
may not pursue further development or commercialization of products
resulting from collaborations or may elect not to continue or renew
research and development programs;
·
Collaborators
may delay development activities, underfund development activities,
stop
or abandon development activities, repeat or conduct new testing
or
require changes to our technologies for
testing;
·
Collaborators
could independently develop, or develop with third parties, products
that
could compete with our future
products;
·
The
terms of our agreements with collaborators may not be favorable to
us;
·
A
collaborator may not commit enough resources, thereby delaying
commercialization or limiting potential revenues from the
commercialization of a product;
·
Collaborations
may be terminated by the collaborator for any number of reasons,
including
failure of the technologies or products to perform in line with the
collaborator’s objectives or expectations, and such termination could
subject us to increased capital requirements if we elected to pursue
further activities.
We
have very limited manufacturing, marketing and sales experience, which could
result in delays to the implementation of our business
plan.
We
have
very limited manufacturing, marketing and product sales experience. We cannot
ensure you that contract manufacturing services will be available in sufficient
capacity to supply our product needs on a timely basis. If we decide to build
or
acquire commercial scale manufacturing capabilities, we will require additional
management and technical personnel and additional capital.
We
rely on third parties to provide certain components for our products. If our
vendors fail to deliver their products in a reliable, timely and cost-efficient
manner, our business will suffer.
We
currently depend on relationships with third parties such as contract
manufacturing companies and suppliers of components critical for the product
we
are developing in our business. If these providers do not produce these products
on a timely basis, if the products do not meet our specifications and quality
control standards, or if the products are otherwise flawed, we may have to
delay
product delivery, or recall or replace unacceptable products. In addition,
such
failures could damage our reputation and could adversely affect our operating
results. As a result, we could lose potential customers and any revenues that
we
may have at that time may decline dramatically.
Our
success depends to a significant degree on the continued services of our senior
management and other key employees, and our ability to attract and retain highly
skilled and experienced scientific, technical, managerial, sales and marketing
personnel. We cannot assure you that we will be successful in recruiting new
personnel or in retaining existing personnel. None of our senior management
or
key personnel have long term employment agreements with us. We do not maintain
key person insurance on any members of our management team or other personnel.
The loss of one or more key employees or our inability to attract additional
qualified employees could delay the implementation of our business plan, which
in turn could have a material adverse effect on our business, results of
operations and financial condition. In addition, we may experience increased
compensation costs in order to attract and retain skilled employees.
Because
the market for products utilizing our technologies is still developing and
is
highly competitive, we may not be able to compete successfully in the highly
competitive and evolving desulphurization and upgrading market.
The
market for products utilizing our technologies is still developing and there
can
be no assurance that our products will ever achieve market acceptance. Because
we presently have no customers for our business, we must convince petroleum
producers, refiners and distributors to utilize our products or license our
technology. To the extent we do not achieve market penetration, it will be
difficult for us to generate meaningful revenue or to achieve profitability.
The
success of our business is highly dependent on our patents and other proprietary
intellectual property, and we cannot assure you that we will be able to protect
and enforce our patents and other intellectual property.
Our
commercial success will depend to a large degree on our ability to protect
and
maintain our proprietary technology and know-how and to obtain and enforce
patents on our technology. We rely primarily on a combination of patent,
copyright, trademark and trade secrets law to protect our intellectual property.
Although we have filed multiple patent applications for our technology, and
we
have seven issued patents in the U.S., our patent position is subject to complex
factual and legal issues that may give rise to uncertainty as to the validity,
scope and enforceability of a particular patent. Accordingly, we cannot assure
you that any patents will be issued pursuant to our current or future patent
applications or that patents issued pursuant to such applications will not
be
invalidated, circumvented or challenged. Also, we cannot ensure you that the
rights granted under any such patents will provide the competitive advantages
we
anticipate or be adequate to safeguard and maintain our proprietary rights.
In
addition, effective patent, trademark, copyright and trade secret protection
may
be unavailable, limited or not applied for in certain foreign countries.
Moreover, we cannot ensure you that third parties will not infringe, design
around, or improve upon our proprietary technology.
We
also
seek to protect our proprietary intellectual property, including intellectual
property that may not be patented or patentable, in part by confidentiality
agreements and, if applicable, inventor's rights agreements with our employees
and third parties. We cannot assure you that these agreements will not be
breached, that we will have adequate remedies for any breach or that such
persons will not assert rights to intellectual property arising out of these
relationships.
19
We
are a new entrant in our business and we face significant
competition.
We
are a
new entrant in the market for development and sale of upgrading and sulphur
reduction technology to the oil industry. We face well-established and
well-funded competition from a number of sources. Our competitors in this area
include manufacturers of conventional refinery desulphurization equipment and
major integrated oil companies and oil refineries. Most of these entities have
substantially greater research and development capabilities and financial,
scientific, manufacturing, marketing, sales and service resources than we
do.
Because
of their experience and greater research and development capabilities, our
competitors might succeed in developing and commercializing competing
technologies or products which would render our technologies or products
obsolete or non-competitive.
Regulatory
developments could have adverse consequences for our business.
The
regulatory environment that pertains to our business is complex, uncertain
and
changing rapidly. Although we anticipate that existing and proposed governmental
mandates regulating the sulphur content of petroleum products will continue
to
provide an impetus for customers to utilize our Sonocracking™ technology for
desulphurization, it is possible that the application of existing environmental
legislation or regulations or the introduction of new legislation or regulations
could substantially impact our ability to launch and promote our proprietary
technologies, which could in turn negatively impact our business.
Rules
and
regulations implementing federal, state and local laws relating to the
environment will continue to affect our business, including laws and regulations
which may apply to the use and operation of our Sonocracker™ units, and we
cannot predict what additional environmental legislation or regulations will
be
enacted or become effective in the future or how existing or future laws or
regulations will be administered or interpreted with respect to products or
activities to which they have not been applied previously. Compliance with
more
stringent laws or regulations, as well as more vigorous enforcement policies
of
regulatory agencies, could have a materially adverse effect on our
business.
To
date,
environmental regulation has not had a material adverse effect on our business,
which is presently in the development stage. However, future activities may
subject us to increased risk when as we seek to commercialize our units by
reason of the installation and operation of these units at customer sites.
We
intend to address these risks by imposing contractual responsibility, whenever
practicable, on third party users for maintaining necessary permits and
complying with applicable environmental laws governing or related to the
operation of our units. However, these measures may not fully protect us against
environmental risks. Furthermore, although we may be entitled to contractual
indemnification from third parties for environmental compliance liabilities,
this would not preclude direct liability by us to governmental agencies or
third
parties under applicable federal and state environmental laws. We are presently
unable to predict the nature or amount of additional costs or liabilities which
may arise in the future related to environmental regulation. However, such
future liabilities and costs could be material.
20
We
may be sued for product liability, which could result in liabilities which
exceed our available assets.
We
may be
held liable if any product we develop, or any product which is made with the
use
of any of our technologies, causes injury or is found otherwise unsuitable
during product testing, manufacturing, marketing, sale or use. We currently
have
no product liability insurance. When we attempt to obtain product liability
insurance, this insurance may be prohibitively expensive, or may not fully
cover
our potential liabilities. Inability to obtain sufficient insurance coverage
at
an acceptable cost or otherwise to protect against potential product liability
claims could inhibit the commercialization of products developed by us. If
we
are sued for any injury caused by our products, our liability could exceed
our
available assets.
We
are the defendant in several lawsuits, in which an adverse judgment against
us
could result in liabilities which exceed our available assets.
Details
of the current status of outstanding litigation involving the Company are
available herein, under “Item 3. Legal Proceedings.” An adverse judgment in any
of these cases could result in material harm to our business or result in
liabilities that exceed our available assets.
Our
stock price is volatile, which increases the risk of an investment
in our common stock.
The
trading price for our common stock has been volatile, ranging from a sales
price
of $0.21 in October 2003, to a sales price of over $19.00 per share in
January of 2006. The price has changed dramatically over short periods with
decreases of more than 50% and increases of more than 100% percent in a single
day. An investment in our stock is subject to such volatility and, consequently,
is subject to significant risk.
ITEM
1B. UNRESOLVED STAFF COMMENTS
None.
ITEM
2. PROPERTIES
Since
July 2007, our executive offices and primary facilities have been located at
4333 W. Sam Houston Pkwy N., Suite 190, Houston, Texas77043 in a leased
facility consisting of approximately 12,000 square feet. The lease for this
space will expire mid-year 2012. We continue to have certain testing equipment
in Sparks, Nevada in a leased facility consisting of approximately 5,000 square
feet. The lease for this space will expire in the Spring of 2010. We also have
approximately 4,200 square feet of office space in Reno, Nevada where our
executive offices were prior to our relocation to Houston, Texas in July 2007.
The lease for this space will expire in the spring of 2010 and effective January
2008 we began the process of attempting to sublease this space for the remaining
term of the lease.
We
currently have no investment policies in place regarding real estate
interests.
ITEM
3. LEGAL PROCEEDINGS
There
are
various claims and lawsuits pending against the Company arising in the ordinary
course of the Company’s business. Although the amount of liability, if any,
against the Company is not reasonably estimable, the Company is of the opinion
that these claims and lawsuits will not materially affect the Company’s
financial position. We have and will continue to devote significant resources
to
our defense as necessary.
The
following paragraphs set forth the status of litigation as of December 31,2007.
21
Clean
Fuels Litigation
In
Clean
Fuels Technology v. Rudolf W. Gunnerman, Peter Gunnerman, RWG, Inc. and SulphCo,
Inc.,
Case
No. CV05-01346 (Second Judicial District, County of Washoe) the Company, Rudolf
W. Gunnerman, Peter Gunnerman, and RWG, Inc. were named as defendants in a
legal
action commenced in Reno, Nevada. The Plaintiff, Clean Fuels Technology
later assigned its claims in the lawsuit to EcoEnergy Solutions, Inc., which
entity was substituted as Plaintiff. In general, Plaintiff EcoEnergy
Solutions, Inc. alleged claims relating to ownership of the “sulphur removal
technology” originally developed by Professor Teh Fu Yen and Dr. Gunnerman with
financial assistance provided by Dr. Gunnerman, and subsequently assigned to
the
Company. On September 14, 2007, after a jury trial and extensive
post-trial proceedings, the trial court entered final judgment against Plaintiff
EcoEnergy Solutions, Inc. on all of its claims. Per the final judgment,
all of Plaintiff’s claims were resolved against Plaintiff and were dismissed
with prejudice. In addition, the trial court found that the Company was
the prevailing party in the lawsuit and entered judgment in favor of the Company
and against Plaintiff of approximately $124,000, with post-judgment interest.
The Plaintiff appealed the judgment on October 5, 2007. On December19, 2007, and as required by Nevada statute, the Company participated in a
mandatory settlement conference at which time a settlement was not reached.
A
briefing schedule has been issued, but there has been no date set for oral
arguments. As of December 31, 2007, no liability has been accrued relative
to
this action.
Talisman
Litigation
In
Talisman
Capital Talon Fund, Ltd. v. Rudolf W.Gunnerman and SulphCo, Inc.,
Case
No. 05-CV-N-0354-BES-RAM, the Company and Rudolf W. Gunnerman were named as
Defendants in a legal action commenced in federal court in Reno, Nevada. The
Plaintiff alleged claims relating to the Company's ownership and rights to
develop its "sulphur removal technology."The Company regards these claims
as
without merit. Discovery in this case formally concluded on May 24, 2006. On
September 28, 2007, the court granted, in part, the Defendants' motion for
summary judgment and dismissed the Plaintiff's claims for bad faith breach
of
contract and unjust enrichment that had been asserted against Rudolf Gunnerman.
The court denied the Plaintiff's motion for partial summary judgment. Trial
has
been set for August 4, 2008. As of December 31, 2007, no liability has been
accrued relative to this action.
McLelland
Arbitration
In
The
Matter of the Arbitration between Stan L. McLelland v. SulphCo,
Inc.,
Mr.
McLelland, who was the Company's president from August 13, 2001, until he
resigned on September 12, 2001, sought to exercise options to purchase two
million (2,000,000) shares of the Company’s common stock at 50 cents per share,
as well as receive salary payments for the six months following his resignation
and $20,000 of alleged unpaid commuting expenses. Following the arbitration
hearings, on July 24, 2007, the Company received notice that the Arbitrator
had
denied Mr. McLelland’s claim for the options. The Arbitrator did award salary of
$125,000 plus interest from October 1, 2001 until paid, and $5,000 (without
interest) out of the $20,000 of alleged unpaid commuting expenses. In connection
with the resolution of this matter, the Company recognized a charge for these
amounts in the quarter ended June 30, 2007 which were later paid during the
quarter ended September 30, 2007.
22
Neuhaus
Litigation
On
October 20, 2006, Mark Neuhaus filed a lawsuit against the Company and Rudolf
W.
Gunnerman, Mark
Neuhaus v. SulphCo, Inc., Rudolph W. Gunnerman,
in the
Second Judicial District Court, in and for the County of Washoe, Case No.
CV06-02502, Dept. No. 1. The lawsuit is based on a purported Non-Qualified
Stock
Option Agreement and related Consulting Agreement between Mark Neuhaus and
the
Company dated March of 2002. Mark Neuhaus claims that according to the terms
of
the Non-Qualified Stock Option Agreement, he was granted an option to purchase
three million (3,000,000) shares of the Company’s common stock at the exercise
price per share of $0.01. On or about February of 2006, Mark Neuhaus attempted
to exercise the option allegedly provided to him under the Non-Qualified Stock
Option Agreement. At that time, the Company rejected Mr. Neuhaus’s attempt to
exercise the option. Thereafter, Mr. Neuhaus filed this lawsuit seeking to
enforce the Non-Qualified Stock Option Agreement. In his suit, Mr. Neuhaus
includes claims for specific performance, breach of contract, contractual breach
of the covenant of good faith and fair dealing, and tortious breach of the
covenant of good faith and fair dealing. He requested that the Court compel
the
Company to issue the shares or alternatively to award him damages equal to
the
fair market value of the three million (3,000,000) shares of stock when he
purported to exercise the options, minus the exercise price. On December 7,2006, the Company moved to dismiss the lawsuit. On January 4, 2007, the Court
issued an Order denying the motion on the ground that there were factual issues
to be resolved which prevented dismissal at that time. The Company filed an
Answer to the Complaint, as well as a counterclaim against Mr. Neuhaus and
a
cross claim against Rudolf W. Gunnerman on March 29, 2007. That cross-claim
against Dr. Gunnerman was subsequently voluntarily discontinued, without
prejudice. As of December 31, 2007, no liability has been accrued relative
to
this action. The Company regards the claim as without merit.
Mr.
Neuhaus filed a motion to dismiss the counterclaim on April 11, 2007, which
the
Company opposed. On July 20, 2007, the Court issued an Order granting Mr.
Neuhaus’ Motion to Dismiss. The Court found that Nevada was not the proper venue
for the counterclaim and that the Nevada Courts did not have jurisdiction over
the counterclaim. The Company has filed an action in the New York State Supreme
Court seeking to obtain the same relief as was sought in the counterclaim that
was dismissed.
On
December 21, 2007, the Company filed a Motion for Summary Judgment with the
Court seeking dismissal of Neuhaus's claims. The Company argued that the
Non-Qualified Stock Option Agreement was not valid in that there was no evidence
of a board resolution approving the terms of the options, as is required by
Nevada law. Neuhaus opposed the Motion. On February 4, 2008, the Court denied
the Motion for Summary Judgment, finding that there remain material issues
of
disputed facts relating to the creation of the Non-Qualified Stock Option
Agreement and the Consulting Agreement. The Company is proceeding with
discovery.
Trial
in
this action has been rescheduled for July 14, 2008.
Hendrickson
Derivative Litigation
On
January 26, 2007, Thomas Hendrickson filed a shareholder derivative claim
against certain current and former officers and directors or the Company in
the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe. The case is known as Thomas
Hendrickson, Derivatively on Behalf of SulphCo, Inc. v. Rudolf W. Gunnerman,
Peter W. Gunnerman, Loren J. Kalmen, Richard L. Masica, Robert Henri Charles
Van
Maasdijk, Hannes Farnleitner, Michael T. Heffner, Edward E. Urquhart, Lawrence
G. Schafran, Alan L. Austin, Jr., Raad Alkadiri and Christoph
Henkel,
Case
No. CV07-00137, Dept. No. B6. The complaint alleges, among other things, that
the defendants breached their fiduciary duty to the Company by failing to act
in
good faith and diligence in the administration of the affairs of the Company
and
in the use and preservation of its property and assets, including the Company’s
credibility and reputation. The Company and the Board had intended to file
a
Motion for Dismissal with the Court, based upon the Plaintiff’s failure to make
a demand upon the Board. On
July10, 2007, the Company received notice that a stipulation (the “Stipulation”) of
voluntary dismissal without prejudice had been entered, with an effective date
of July 3, 2007, regarding this action. The Stipulation provides that in
connection with the dismissal of this action each of the parties will bear
their
own costs and attorney fees and thereby waive their rights, if any, to seek
costs and attorney fees from the opposing party. Further, neither the
plaintiff nor his counsel has received any consideration for the dismissal
of
this action, and no future consideration has been promised.
23
In
September of 2007, the Company’s Board of Directors received a demand letter
(the “Hendrickson Demand Letter”) from Mr. Hendrickson’s attorney reasserting
the allegations contained in the original derivative claim and requesting that
the Board of Directors conduct an investigation of these matters in response
thereto. In response to the Hendrickson Demand Letter, the Company’s Board of
Directors formed a special committee comprised of three independent directors
to
evaluate the Hendrickson Demand Letter and to determine what, if any, action
should be taken.
Cullen
Litigation
On
June26, 2006, the Company filed an action, SulphCo,
Inc. v. Cullen,
in the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe, Case No. CV06-01490, against Mark Cullen arising out of Mr. Cullen’s
alleged breach of a secrecy agreement that he had executed when employed by
GRD,
Inc., whose claims have accrued to the Company. The lawsuit seeks damages,
a
constructive trust, and an order requiring Mr. Cullen to assign to the Company
certain intellectual property in the form of patent applications (as well as
a
now-issued patent) that he filed following his departure from the Company.
On
October 23, 2006, Mr. Cullen moved to dismiss the Company’s complaint; the
motion was denied. On February 26, 2007, Mr. Cullen filed an amended answer
to
the Company’s complaint. That Answer included counterclaims for breach of
contract, unfair competition, interference with contractual relations, and
interference with prospective economic advantage. The entire case was dismissed
without prejudice on April 25, 2007, but the Company retains the ability to
revive its claims at a later date.
Nevada
Heat Treating Litigation
On
November 29, 2007, Nevada Heat Treating, Inc. (“NHT”) filed at lawsuit against
the Company, Nevada
Heat Treating, Inc., d/b/a California Brazing,
in the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe, Case No. CV07-02729. In its complaint, NHT alleges trade secret
misappropriation and breach of contract relative to certain information alleged
to have been disclosed to the Company beginning in late 2006 and continuing
through early 2007 pursuant to a consulting engagement with NHT. Among other
things, NHT is asserting that certain information, alleged to have been
disclosed to the Company during the term of the consulting engagement, is the
subject of a nondisclosure/confidentiality agreement executed at the inception
of the consulting engagement. NHT is contending that this certain information
represents a trade secret that should no longer be available for use by the
Company following the termination of the consulting engagement with NHT in
the
spring of 2007. In connection with filing this action, NHT also filed a motion
for preliminary injunction against the Company seeking to enjoin it from using
certain information until the matter can be resolved through the courts. A
hearing for the motion for preliminary injunction has been set for March 24,2008. Trial has been set for April 27, 2009. As of December 31, 2007, no
liability has been accrued relative to this action.
24
Securities
and Exchange Commission Subpoena
On
February 25, 2008, the Company received a subpoena from the Denver office of
the
Securities and Exchange Commission (the “SEC”). The subpoena formalizes
virtually identical requests the Company received in May, June and August 2007
and subsequently responded to which requested the voluntary production of
documents and information, including financial, corporate, and accounting
information related to the following subject matters: Fujairah Oil Technology
LLC, the Company’s restatements for the first three quarterly periods of 2006
and the non-cash deemed dividend for the quarter ended March 31, 2007, and
information and documents related to certain members of former management,
the
majority of whom have not been employed by the Company for over a year. We
have
been advised by the SEC that, despite the subpoena and formal order of
investigation authorizing its issuance, neither the SEC nor its staff has
determined whether the Company or any person has committed any violation of
law.
The Company intends to continue to cooperate with the SEC in connection with
its
requests for documents and information.
ITEM
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not
applicable.
25
PART
II
ITEM
5. MARKET FOR REGISTRANT’S
COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
SECURITIES
Market
Information
Our
common stock trades
on the
American Stock Exchange under the symbol “SUF.”
The
following table sets forth the high and low sale prices for our common stock
for
each of the quarterly periods indicated.
High
Low
Fiscal
2007
First
Quarter
4.76
2.25
Second
Quarter
5.95
3.35
Third
Quarter
8.92
3.25
Fourth
Quarter
9.39
3.80
Fiscal
2006
First
Quarter
19.70
6.02
Second
Quarter
12.49
6.90
Third
Quarter
7.39
4.15
Fourth
Quarter
6.84
4.15
There
were 251 holders of record of our common stock on March 1, 2008. This number
does not include stockholders whose shares were held in a "nominee" or "street"
name.
Dividends
We
currently have no contractual restrictions that limit our ability to pay
dividends on common equity. We currently expect that we will retain future
earnings, if any, to finance the growth and development of our business and
we
will dividend to our stockholders amounts in excess of that required for future
growth and development.
26
Table
of Securities Authorized for Issuance under Equity Compensation Plans at the
End
of 2007
The
following table presents information regarding our securities which are
authorized for issuance under all of our compensation plans as of December31,2007.
Plan
Category
Number of Securities
to be Issued upon Exercise of
Outstanding Options, Warrants and rights
Weighted-average
Exercise Price of
Outstanding Options,
Warrants and Rights
Number of Securities
Remaining Available for Future Issuance under
Equity Compensation
Plans (Excluding Securities
Reflected at Left)
Equity
Compensation Plans Approved by Security Holders
1,790,524
$
4.20
209,476
Equity
Compensation Plans Not Approved by Security Holders
50,000
$
6.025
(1)
(1)
Future
grants are within the discretion of our board of directors and, therefore,
cannot be determined at this time.
Under
compensation plans approved by our security holders, the 1,790,524 securities
relate to outstanding options granted pursuant to the SulphCo, Inc. 2006 Stock
Option Plan approved by the Company’s stockholders in 2006.
Under
compensation plans not approved by our security holders, the
50,000
securities relate to warrants granted in connection with the License Agreement
between the Company and Industrial Sonomechanics, LLC (“ISM”) dated as of
November 9, 2007, wherein the Company agreed to issue warrants to purchase
45,000 shares of common stock share to ISM and warrants to purchase 5,000 shares
of common stock to JM Resources LLC, at an exercise price of $6.025 per share.
The warrants vest immediately and have a three-year term.
27
ITEM
6. SELECTED FINANCIAL DATA
Comparative
Financial Data
The
table
below sets forth a comparison of the financial data specified for the latest
five years. The loss from operations for the years ended December 31, 2007,
2006
and 2005 includes research and development expenses totaling approximately
$7.7
million, $25.4 million and $2.5 million, respectively, including approximately
$1.7 million and $21.5 million for the Fujairah Facility in 2007 and 2006,
respectively.
As
of
March 1, 2008, we had approximately $5.7 million in available cash reserves.
We
anticipate that these cash reserves will be sufficient to fund our cash
requirements into the the third quarter of 2008. We have historically
been able to raise capital to continue with our research and development and
it
is likely that we will need to raise additional funds before we can generate
enough revenue to become profitable.
2007
Capital Activities
March
2007 Financing
On
March12, 2007, the Company executed Amendment No. 1 to Securities Purchase Agreements
and Warrants (“Amendment No. 1”) with certain warrant holders (the “Warrant
Holders”) that provided inducements to encourage the Warrant Holders to exercise
their respective warrants. As consideration for Warrant Holders exercising
their
shares, the Company agreed that it would:
·
Reduce
the exercise price on warrants to acquire 4,000,000 shares of the
Company’s common stock held by the 2006 Warrant Holders from $6.805 per
share to $2.68 per share; and
·
Issue
the Warrant Holders the additional warrants (the “March 2007 Warrants”),
with an exercise price of $2.68 per share, on a one to one basis
for each
existing warrant that was exercised including granting up to 1,952,068
warrants to 2004 Warrant Holders and up to 4,000,000 warrants to
the 2006
Warrant Holders.
28
As
a
result of the inducements included in Amendment No. 1 described above, during
the year ended December 31, 2007, 1,952,068 warrants held by the 2004 Warrant
Holders and 4,000,000 warrants held by the 2006 Warrant Holders were exercised
resulting in the grant of 5,952,068 March 2007 Warrants. As a result of these
inducements, the Company raised approximately $13.2 million.
November
2007 Financing
On
November 28, 2007, the Company executed Amendment No. 2 to Securities Purchase
Agreements and Warrants (“Amendment No. 2”) an agreement (the “Agreement”) with
certain of the Warrant Holders holding approximately 3.95 million of the then
outstanding March 2007 Warrants wherein the Warrant Holders agreed to exercise
up to 50% of their March 2007 Warrants. In exchange, SulphCo agreed to issue
the
Warrant Holders additional warrants (the “November 2007 Warrants”) on a
one-to-one basis with an exercise price of $7.00 per share and a term of three
years. In addition, the Warrant Holders were granted an option to exercise
the
remaining 50% of their March 2007 Warrants on the later of April 15, 2008,
or 30
days following the 2008 Annual Meeting of Stockholders in which SulphCo’s
stockholders approve an increase of 10 million authorized common shares. The
Company’s stockholders approved the increase of 10 million authorized common
shares at the Special Meeting of Stockholders held on February 26, 2008. If
this
option is exercised, then SulphCo will issue the Warrant Holders additional
November 2007 Warrants on a one-to-one basis with an exercise price of $7.00
a
share and a term of three years.
As
a
result of the inducement described above, 1,976,570 of the March 2007 Warrants
held by the Warrant Holders were exercised resulting in the grant of 1,976,570
November 2007 Warrants. As a result of this inducement, the Company raised
approximately $5.3 million.
Convertible
Notes Payable
In
December 2004, Dr. Gunnerman, the Company’s former Chairman and CEO, advanced $7
million to us as a loan (the “Note Payable”). The loan is evidenced by a
promissory note which bears interest at the rate of 0.5% above the 30 day
“LIBOR” rate, adjusted quarterly and payable annually. In 2006, $2 million of
principal was repaid on this loan and set to mature on December 31,2007.
In
late
April 2007, two events occurred related to the Note Payable. First, the Note
Payable was acquired from Dr. Gunnerman by a group of investors (the
“Investors”). Second, the Company negotiated modifications (the “April 2007
Modifications”) to the terms of Note Payable with the Investors to (1) extend
the maturity date from December 31, 2007 to December 31, 2008 and (2) to add
a
conversion option to the Note Payable making the Note Payable convertible into
the Company’s common stock at a conversion price of $3.80 per share (hereinafter
the Note Payable is referred to as the “Convertible Notes
Payable”).
On
November 30, 2007, the Company finalized, with an effective date of November28, 2007, a Modification Agreement (the “November 2007 Modification Agreement”)
with the Investors holding approximately $4.7 million of the Company’s then
outstanding Convertible Notes Payable. The November 2007 Modification Agreement
provided the following modifications (hereinafter collectively referred to
as
the “November 2007 Modifications”):
The
Investors acquired the right to accelerate the maturity date of the
Convertible Notes Payable to any date after July 31, 2009, upon ten
(10)
business days written notice to the
Company.
·
The
Company may prepay the Convertible Notes Payable prior to maturity
(“Prepayment Date”) with ten (10) business days notice in writing to the
Investors, subject to the right of the Investors to convert all or
any
portion of the Convertible Notes Payable prior to the Prepayment
Date.
2006
Capital Activities
On
March29, 2006, we completed a private placement to a small number of accredited
investors for the sale of 4,000,000 units, each unit consisting of one share
of
the Company’s common stock and one warrant to purchase a share of common stock.
Each unit was sold at a price of $6.805 per share, resulting in gross proceeds
at closing of approximately $27.2 million. The warrants were exercisable, in
whole or in part, at a fixed price equal to $6.805 per share for a period of
18
months following their issuance. As described above, the exercise price of
these
warrants was subsequently reduced in connection with the March 2007
financing.
Late
Registration Statement Penalty
As
of
December 31, 2007 and 2006,
we were
obligated to pay approximately $1.1 million and $1.0, respectively, in the
aggregate for the penalty and accrued interest, to investors in the 2004 private
placements for late registration fees and interest due to the fact that the
registration statement covering the private placement shares was not declared
effective by the SEC by the time required by the investor agreements. We plan
to
work with our investors to settle this obligation by the issuance of common
stock in lieu of cash; however, as of the date of this report no formal
agreements have been entered into with any investors regarding such
issuances.
Future
Capital Requirements
The
extent and timing of our future capital requirements will depend primarily
upon
the rate of our progress in the development and commercialization of our
technologies, including the successful implementation of our venture with
Fujairah Oil Technology and other third parties, and the timing of future
customer orders.
As
of
December 31, 2007, we had an accumulated deficit of approximately $120.0 million
and we incurred net losses of approximately $24.4 million and $39.1 million
for
the years ended December 31, 2007 and 2006, respectively. These losses are
principally associated with the research and development of our Sonocracking™
technology, including the construction of the Fujairah Facility, the development
of prototypes, and related marketing activity. Although we expect to continue
to
incur expenses in the future for development, commercialization and sales and
marketing activities related to the commercialization of our technologies,
such
expenditures will not include major construction projects until
commercialization can be proven to be profitable.
Operation
and maintenance of the Fujairah Facility
is the responsibility of Fujairah Oil Technology LLC (“FOT”) and SulphCo is
responsible for contributing its Sonocracking™ units. The Memorandum of
Association of Fujairah Oil Technology, which defines certain rights of the
joint venture partners, calls for profits and losses to be shared 50/50, with
profits being distributed to the partners, subject to a 10% reserve for legal
expenses which may be waived by the partners. SulphCo’s 50% share of
distributions made by the joint venture to SulphCo will also be subject to
other
costs and expenses incurred directly by SulphCo from time to time. We expect
that once the startup and operating plan for the Fujairah Facility is agreed,
funding of direct expenditures, such as tank storage and pipelines, will be
available from financing through FOT. For additional discussion regarding the
Fujairah Facility see “Item 1. Business - Business Development During 2007”
above.
30
In
addition to activities related to the Fujairah Facility, we intend to continue
to incur additional expenditures during the next 12 months for development
and
testing of Sonocracker™ units.
To
date,
we have generated no material revenues from our business operations. We are
unable to predict when or if we will be able to generate future revenues from
commercial activities or the amounts expected from such activities. These
revenue streams may be generated by us or in conjunction with collaborative
partners or third party licensing arrangements, and may include provisions
for
one-time, lump sum payments in addition to ongoing royalty payments or other
revenue sharing arrangements. We presently have no binding commitments for
any
such revenues. Future revenues and profits from FOT are dependent upon the
successful implementation of our Sonocracking™ technology.
Other
possible
sources of additional capital include the exercise of the remaining March 2007
Warrants and the November 2007 Warrants issued to investors in the March 2007
and November 2007 financing transactions, and funding through future
collaborative arrangements, licensing arrangements and debt and equity
financings. We do not know whether additional financing will be available on
commercially acceptable terms when needed. If we cannot raise funds on
acceptable terms when needed, we may not be able to successfully commercialize
our technologies, take advantage of future opportunities or respond to
unanticipated requirements. If we are unable to secure such additional financing
when needed, we will have to curtail or suspend all or a portion of our business
activities. Further, if we issue additional equity securities, our shareholders
may experience severe dilution of their ownership percentage. As a result of
the
existence of these uncertainties, our auditor has included a “going concern”
emphasis paragraph in its audit opinion on our financial statements as December31, 2007, indicating that there is substantial doubt about our ability to
continue as a going concern.
Results
of Operations
As
a
development stage company, we have not generated any material revenues since
we
commenced our current line of business in 1999.
In
2005,
we received $550,000 from SulphCo KorAsia (formerly known as OIL-SC, Ltd.),
pursuant to our Equipment Sale and Marketing Agreement. As this amount is fully
refundable if the pilot plant does not ultimately meet the agreed
specifications, no portion of the purchase price has been or will be recorded
as
revenue in our financial statements until the pilot plant meets all agreed
specifications. We do not have an equity interest in SulphCo
KorAsia.
Research
and Development Expenses
During
2007, we incurred approximately $6.0 million in expenses related to research
and
development of our Sonocracking™ technology. This compares to approximately $4.0
million and $2.5 million incurred in 2006 and 2005, respectively. In 2007 and
2006, approximately $1.7 million and $21.5 million, respectively, were spent
on
building construction and construction, purchase, and installation of equipment
in Fujairah, UAE. In 2007 and 2006, approximately $1.1 million and $0.1 million,
respectively, was paid to sub-contractors for research and development purposes
not related to the equipment in Fujairah, UAE. Also in 2007 and 2006, we
expensed approximately $0.1 million and $1.1 million, respectively, relating
to
the construction of a testing unit to be utilized in Austria.
31
During
2007 and 2006, we paid approximately $234,000 and $331,000, respectively, to
our
engineers and other research and development employees as wages and related
benefits and for design and testing of our Sonocracker™ units, while
approximately $1.2 million and $2.1 million, respectively, was incurred for
the
procurement of control panels, probes, centrifuges, and generators related
to
the ongoing research and development of our units. The remainder of our research
and development costs are recurring monthly expenses related to the maintenance
of our facilities.
We
expect
that our research and development expenses will moderate upon successful
transition into generation of sustained revenue. Thereafter, research and
development will continue as needed to enhance our technology.
Selling,
General and Administrative Expenses
During
2007, we incurred approximately $11.4 million in selling, general and
administrative expenses. This compares to approximately $13.6 million and $5.7
million during 2006 and 2005, respectively.
During
2007, we incurred approximately $3 million in legal fees. This compares to
approximately $6.1 million and $2.1 million during 2006 and 2005, respectively.
The decrease in 2007 relative to 2006 is primarily attributable to the
resolution of the significant legal matters in 2006. The increase in 2006
relative to 2005 was primarily due to litigation fees relating to the lawsuits
against us. We expect to incur similar legal fees in 2008, due to the on-going
litigation described above in “Item 3. Legal Proceedings.”
Consulting
fees, payroll and related expenses were approximately $3.2 million in 2007
which
compares to approximately $3.7 million and $2.5 million during 2006 and 2005,
respectively. Consulting fees in 2007 decreased by 13.5% compared to the same
period in 2006 due to the dismissal of Dr. Gunnerman, the Company’s former
Chairman and CEO, in January of 2007 as well as an overall reduction in the
number of employees in 2007. The increase in 2006 relative to 2005 was due
to
the addition of several consultants in 2006 as the Company began larger scale
projects, including SulphCo KorAsia and FOT.
Travel
and travel related expenses were approximately $0.9 million in 2007 which
compares to approximately $1.0 million and $0.5 million during 2006 and 2005,
respectively. There was a slight decrease in travel expenses in 2007 compared
to
2006, which was due to less frequent meetings with the European manufacturers
of
our equipment and with our joint venture partner in Fujairah, United Arab
Emirates as we neared completion of stage one at the test facility in Fujairah.
An increase in travel fees in 2006 relative to 2005 was also due to increased
activity in projects, such as SulphCo KorAsia and Fujairah Oil
Technologies.
Director
fees were approximately $2.7 million in 2007 which compares to approximately
$1.6 million and $1.1 million during 2006 and 2005, respectively. Director
fees
for the year ended December 31, 2007, includes the value of restricted shares
granted to the Board of Directors in lieu of its annual cash retainer which
were
valued at approximately $0.9 million, the value of the annual option grant
to
the Board of Directors valued at approximately $1.0 million and the value of
options granted to new members of the Board of Directors in lieu of restricted
stock grants normally granted upon joining the Board which were valued at
approximately $0.8 million. Director fees for the year ended December 31, 2006,
includes the value option grants which were valued at approximately $0.6 million
and the value of restricted stock grants which were valued at approximately
$1.0
million. Director fees for the year ended December 31, 2005 includes the value
of restricted stock grants which were valued at approximately $1.1 million.
32
The
remainder of the amounts incurred relate to normal recurring operating expenses
such as lease expense, utilities, marketing, and investor
relations.
Interest
Expense
Interest
expense was approximately $5.5 million in 2007, which compares to approximately
$466,000 and $395,000 during 2006 and 2005, respectively. The increase in 2007
relative to 2006 is primarily due to approximately $5.0 million of non-cash
discount accretion expense relating to the April 2007 and November 2007
Convertible Notes Payable refinancing transactions. The increase in 2006
relative to 2005 is a result from a combination of incurring late registration
fees beginning near the end of 2004 which accrue interest (see “Late
Registration Penalty” below) and net interest rate increases in our variable
rate Convertible Notes Payable.
Late
Registration Penalty
As
of
December 31, 2007 and 2006, we were obligated to pay approximately $1.1 million
and $1.0 million, respectively, in the aggregate for the penalty and accrued
interest, to investors in the 2004 private placements for late registration
fees
and interest due to the fact that the registration statement covering the
private placement shares was not declared effective by the SEC by the time
required by the investor agreements. Interest of approximately $0.1 million
accrues on the unpaid amount at the rate of 18% per annum. We plan to work
with
our investors to settle this obligation by the issuance of common stock in
lieu
of cash; however, as of the date of this report no formal agreements have been
entered into with any investors regarding such issuances. As of the date of
this
report, no formal demands have been made by investors to pay these
fees.
Depreciation
and Amortization
During
the years 2007, 2006, and 2005, exclusive of the Fujairah test facility, we
expended approximately $0.5 million, $0.2 million and $0.6 million,
respectively, for equipment and to maintain exclusivity for the sale and/or
licensing of our Sonocracking™ technology in the United States and abroad. Our
depreciation expense related to current and previously capitalized equipment
for
2007, 2006, and 2005 was approximately $0.1 million, $0.1 million, and $0.2
million, respectively. Our amortization expenses related to patent and trademark
rights, for 2007, 2006, and 2005 were approximately $45,000, $28,000 and $17,000
respectively. We expect to continue our pursuit of exclusive distribution and
licensing of our technology and purchasing equipment for the manufacture and
upgrading of our Sonocracking™ technology.
Loss
on Impairment of Asset
In
accordance with SFAS No. 144 Accounting
for the Impairment or Disposal of Long Lived Assets,
we
determined in 2005 that a previously capitalized prototype no longer reflected
the value of our commercially viable technology, resulting in an impairment
loss
of approximately $234,000. There was no comparable item in the other
years.
33
Deemed
Dividend
March
2007 Transaction
On
March12, 2007, the Company executed Amendment No. 1 to Securities Purchase Agreements
and Warrants (“Amendment No. 1”) with certain warrant holders (the “Warrant
Holders”) that provided inducements to encourage the Warrant Holders to exercise
their respective warrants. As consideration for Warrant Holders exercising
their
shares, the Company agreed that it would:
·
Reduce
the exercise price on warrants to acquire 4,000,000 shares of the
Company’s common stock held by the 2006 Warrant Holders from $6.805 per
share to $2.68 per share; and
·
Issue
the Warrant Holders the additional warrants (the “March 2007 Warrants”),
with an exercise price of $2.68 per share, on a one to one basis
for each
existing warrant that was exercised including granting up to 1,952,068
warrants to 2004 Warrant Holders and up to 4,000,000 warrants to
the 2006
Warrant Holders.
As
a
result of the inducements included in Amendment No. 1 described above, during
the quarter ended March 31, 2007, 1,952,068 warrants held by the 2004 Warrant
Holders and 2,000,000 warrants held by the 2006 Warrant Holders were exercised
resulting in the grant of 3,952,068 March 2007 Warrants. As a result of the
inducements, the Company recorded a non-cash deemed dividend approximately
$11.5
million. The amount of the deemed dividend was estimated to be equal to the
sum
of the fair value of the inducements as the sum of (1) the incremental fair
value conveyed to the 2006 Warrant Holders via the reduction of the exercise
price of the 2006 Warrants determined as provided in paragraph 51 of SFAS 123R
utilizing the Black-Scholes Valuation Model and (2) the fair value of the
3,952,068 Additional Warrants estimated using the Black-Scholes Valuation
Model.
During
the quarter ended June 30, 2007, 600,000 warrants held by the 2006 Warrant
Holders were exercised resulting in the grant of 600,000 March 2007 Warrants.
Therefore, the Company recorded additional non-cash deemed dividends of
approximately $1.7 million that was estimated using the Black-Scholes Valuation
Model.
During
the quarter ended September 30, 2007, the remaining 1,400,000 warrants held
by
the 2006 Warrant Holders were exercised resulting in the grant of 1,400,000
March 2007 Warrants. Therefore, the Company recorded additional non-cash deemed
dividends of approximately $3.9 million that was estimated using the
Black-Scholes Valuation Model.
During
the year ended December 31, 2007, the Company recognized total non-cash deemed
dividends of approximately $17.1 million relative to the March 2007
transaction.
November
2007 Transactions
On
November 28, 2007, the Company executed Amendment No. 2 to Securities Purchase
Agreements and Warrants (“Amendment No. 2”) an agreement (the “Agreement”) with
certain of the Warrant Holders holding approximately 3.95 million of the then
outstanding March 2007 Warrants wherein the Warrant Holders agreed to exercise
up to 50% of their March 2007 Warrants. In exchange, SulphCo agreed to issue
the
Warrant Holders additional warrants (the “November 2007 Warrants”) on a
one-to-one basis with an exercise price of $7.00 per share and a term of three
years. In addition, the Warrant Holders were granted an option to exercise
the
remaining 50% of their March 2007 Warrants on the later of April 15, 2008,
or 30
days following the 2008 Annual Meeting of Stockholders in which SulphCo’s
stockholders approve an increase of 10 million authorized common shares. If
this
option is exercised, then SulphCo will issue the Warrant Holders additional
November 2007 Warrants on a one-to-one basis with an exercise price of $7.00
a
share and a term of three years. As a result of the inducement described above,
1,976,570 of the March 2007 Warrants held by the Warrant Holders were exercised
resulting in the grant of 1,976,570 November 2007 Warrants. Based on its
analysis, the Company concluded that a deemed dividend should be recorded to
account for the fair value of the inducement that was transferred to the Warrant
Holders computed as the fair value of the 1,976,570 November 2007 Warrants
issued to the Warrant Holders (determined using Black-Scholes). Based on the
Black-Scholes valuation prepared for this transaction, SulphCo has determined
that the amount of the non-cash deemed dividend was approximately $7.3 million.
SulphCo will account for the deemed dividend relating to the November 2007
Warrants issuable upon exercise of the remaining March 2007 Warrants held by
the
Warrant Holders at the point in time, if ever, they are
exercised.
34
On
November 28, 2007, certain optionees
(the “Optionees”) holding a stock option (the Gunnerman Option”) to acquire 1.5
million shares of the Company’s common stock acquired by the Optionees directly
from Dr. Rudolf W. Gunnerman in April 2007, executed an amendment to the
Gunnerman Option whereby Dr. Gunnerman agreed to extend the expiration date
from
December 27, 2007 to February 29, 2008. Since Dr. Gunnerman is considered to
be
a related party and a control person (i.e., since he owns greater than 10%
of
SulphCo’s outstanding common stock), it is presumed that any action that he
takes involving SulphCo common stock is taken on behalf and for the benefit
of
SulphCo. Therefore, SulphCo concluded that a deemed dividend should be recorded
for any excess fair value of the “new” Gunnerman Option relative to the “old”
Gunnerman Option as determined using the Black-Scholes option valuation model.
Based on the Black-Scholes valuation prepared for this transaction, SulphCo
has
determined that the amount of the non-cash deemed dividend was approximately
$0.4 million.
During
the year ended December 31, 2007, the Company recognized total non-cash deemed
dividends of approximately $7.7 million relative to the November 2007
transactions.
During
the year ended December 31, 2007 and between the March 2007 and November 2007
transactions, the Company recognized total non-cash deemed dividends of
approximately $24.8 million.
Net
Loss and Net Loss Attributable to Common Stockholders
We
incurred net losses of approximately $24.4 million, $39.1 million and $9.4
million for the years ended December 31, 2007, 2006 and 2005, respectively.
The
substantial increase in net loss in 2006 relative to 2005 is primarily
attributable to costs incurred in connection with the construction of the
Fujairah Facility, which were expensed as research and development in 2006,
as
indicated above under the heading “Research and Development.”
We
incurred net losses attributable to common stockholders of approximately $49.7
million, $39.1 million and $9.4 million for the years ended December 31, 2007,
2006 and 2005, respectively. The difference for 2007 is solely attributable
to
the deemed dividends of approximately $24.8 million recognized during the year
ended December 31, 2007, as indicated above under the heading “Deemed
Dividend.”
Off-Balance
Sheet Arrangements
We
issued
warrants as part of the financing transactions in March 2007 and November 2007
financing transactions. As of December 31, 2007, the warrants outstanding from
those placements were as follows:
Exercise
Option
Total
Exercise
Price
/ Share
Shares
Amount
March
2007 Transaction
$
2.68
3,975,498
$
10,654,335
November
2007 Transaction
$
7.00
1,976,570
$
13,835,990
35
Contractual
Obligations
Payments
due by period
Total
Less
than 1
year
1 –
3
years
3 –
5 years
More
than 5
years
Long-term
obligations
$
4,680,044
$
-
$
4,680,044
$
-
-
Operating
lease obligations
1,029,715
282,630
671,485
75,600
-
-
-
-
Total
$
5,709,759
$
282,630
$
5,351,529
$
75,600
-
The
Company’s contractual obligations include $4,680,044 relating to our Convertible
Notes Payable and $1,029,716 of operating lease obligations.
New
Accounting Pronouncements, Significant Accounting Policies and Critical
Accounting Estimates
New
Accounting Pronouncements and Significant Accounting
Policies
See
note
1 to our financial statements.
Critical
Accounting Estimates
We
make a
number of estimates and judgments in preparing our financial statements. These
estimates can differ from actual results and have a significant impact on our
recorded assets, liabilities, revenues and expenses and related disclosure
of
contingent assets and liabilities. We consider an estimate to be a critical
accounting estimate if it requires a high level of subjectivity or judgment
and
a significant change in the estimate would have a material impact on our
financial condition or results of operations. The Audit Committee of our Board
of Directors reviews each critical accounting estimate with our senior
management. Further discussion of these accounting policies and estimates is
in
the notes to our financial statements.
Loss
Contingencies
We
record
loss contingencies when it is probable that a liability has been incurred and
the amount can be reasonably estimated. We consider loss contingency estimates
to be critical accounting estimates because they entail significant judgment
regarding probabilities and ranges of exposure, and the ultimate outcome of
the
proceedings is unknown and could have a material adverse effect on our results
of operations, financial condition and cash flows. See note 12 to our financial
statements.
Deferred
Tax Assets, Valuation Allowances and Tax Liabilities
We
estimate (a) income taxes in the jurisdictions in which we operate, (b) net
deferred tax assets and liabilities based on expected future taxes in the
jurisdictions in which we operate, (c) valuation allowances for deferred tax
assets and (d) uncertain income tax positions. These estimates are considered
critical accounting estimates because they require projecting future operating
results (which is inherently imprecise) and judgments related to the ultimate
determination of tax positions by taxing authorities. Also, these estimates
depend on assumptions regarding our ability to generate future taxable income
during the periods in which temporary differences are deductible. See note
7 to
our financial statements for additional information.
36
We
assess
our future ability to use federal, state and foreign net operating loss
carry-forwards, capital loss carry-forwards and other deferred tax assets using
the more-likely-than-not criteria. These assessments include an evaluation
of
our recent history of earnings and losses, future reversals of temporary
differences and identification of other sources of future taxable income,
including the identification of tax planning strategies in certain situations.
ITEM
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
We
consider our exposure to market risks to be immaterial. Although there is market
risk involving changes in the interest rates which apply to our convertible
notes payable and our cash investments, such risk is minor. Our risk related
to
foreign currency fluctuations is not material at this time, as any accounts
payable we have in foreign denominations are not in themselves
material.
As
of
December 31, 2007, the Company had variable rate convertible notes payable
totaling $4,680,044. This variable rate debt exposes the Company to the risk
of
increased interest expense in the event of increases in near term interest
rates. If the variable interest rate were to increase by 1% from December 2007
levels, interest expense would increase by approximately $47,000 annually.
The
carrying value of the variable rate convertible notes payable, excluding the
discount relating to the beneficial conversion feature, approximates fair value
as it bears interest at current market rates that reset on a quarterly
basis.
As
we
anticipate needing to use the cash we held at year end within a short period,
we
have it invested primarily in money market accounts. The amount of fluctuation
in interest rates will not expose us to any significant risk due to market
fluctuation as the interest on our note payable would likely decrease by a
greater amount.
ITEM
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our
audited financial statements as of December 31, 2007, 2006 and 2005 and for
the
years then ended are included at the end of this report following the signature
page.
ITEM
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
On
July9, 2007, the Company dismissed Marc Lumer & Company (“Lumer”) as its
independent auditors, effective immediately. On July 9, 2007, the Registrant
engaged Hein & Associates LLP (“Hein”) as its successor independent audit
firm. The Company’s dismissal of Lumer and engagement of Hein was approved by
its Audit Committee on July 9, 2007.
Lumer’s
reports on the Company’s financial statements as of December 31, 2006 and 2005
and for the years then ended did not contain an adverse opinion or a disclaimer
of opinion and were not qualified or modified as to uncertainty, audit scope
or
accounting principles, except that Lumer’s audit report dated April 2, 2007,
included an explanatory paragraph indicating that there was substantial doubt
regarding the Company’s ability to continue as a going concern. Lumer’s audit
report on management’s assessment of the effectiveness of internal control over
financial reporting as of December 31, 2006 did not contain an adverse opinion
or disclaimer of opinion, nor was it qualified or modified as to uncertainty,
audit scope or accounting principles. However, Lumer’s audit report dated April2, 2007, did include an explanatory paragraph indicating the following material
weaknesses resulting from deficiencies in the design or operation of the
respective controls:
37
·
The
Company lacked the technical expertise and processes to ensure compliance
with Statement of Financial Accounting Standards No. 2, “Accounting for
Research and Development Costs.” This material weakness resulted in a
restatement of prior quarterly financial statements and, if not
remediated, could result in a material misstatement in the
future.
·
The
Company did not maintain a sufficient complement of personnel with
an
appropriate level of accounting knowledge, experience, and training
in the
application of generally accepted accounting principles commensurate
with
the Company’s complex financial accounting and reporting requirements.
This material weakness contributed to the restatement of prior financial
statements.
In
Lumer’s opinion, because of the effect of these material weaknesses on the
achievement of the objectives of the control criteria, Lumer concluded that
the
Company had not maintained effective internal control over financial reporting
as of December 31, 2006, based on the criteria established in “Internal
Control – Integrated
Framework” issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
In
connection with the audits of the Company’s financial statements for each of the
two most recent fiscal years ended December 31, 2006 and 2005 and through July9, 2007, there were no disagreements between the Company and Lumer on any
matters of accounting principles or practices, financial statement disclosure,
or auditing scope or procedure, which disagreements, if not resolved to Lumer’s
satisfaction, would have caused Lumer to make reference to the matter in its
reports on the financial statements for such years.
During
the two most recent fiscal years and through the date hereof, and, except as
set
forth in the preceding paragraphs, there have been no “reportable events” as
defined in Regulation S-K, Item 304(a)(1)(v).
In
deciding to select Hein, the Audit Committee reviewed auditor independence
issues and existing commercial relationships with Hein and concluded that Hein
had no commercial relationship with the Company that would impair its
independence. During our two most recent fiscal years ended December 31, 2006
and 2005 and through July 9, 2007, the Company did not consult with Hein
regarding any of the matters or events set forth in Item 304(a)(2)(i) and (ii)
of Regulation S-K.
ITEM
9A.
CONTROLS AND PROCEDURES
Evaluation
of Disclosure Controls and Procedures
Our
Chief
Executive Officer and Chief Financial Officer have evaluated the effectiveness
of our disclosure controls and procedures (as such term is defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the
end
of the period covered by this report. Based on this evaluation, these officers
have concluded that, as of the end of such period, our disclosure controls
and
procedures are effective in alerting them on a timely basis to material
information required to be included in our reports filed or submitted under
the
Securities Exchange Act of 1934, as amended.
Management’s
Annual Report on Internal Control Over Financial Reporting
The
information required by this Item is incorporated by reference from “SulphCo,
Inc.’s Report on Internal Control Over Financial Reporting” on page
F-1.
Changes
in Internal Control Over Financial Reporting
In
connection with the evaluation described above, we identified no change in
our
internal control over financial reporting (as such term is defined in Rules
13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended)
during our fiscal quarter ended December 31, 2007 that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
ITEM
10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE
GOVERNANCE
See
“Business—Executive Officers” in Item 1 of this Form 10-K. Pursuant to General
Instruction G to Form 10-K, we incorporate by reference the information to
be
disclosed in our definitive proxy statement for the annual stockholder meeting
at which we will elect directors (“Proxy Statement”).
Family
Relationships
– None.
Audit
Committee Financial Expert
Our
audit
committee consists of Lawrence G. Schafran (Chairman of the Audit Committee),
Robert van Maasdijk and Michael T. Heffner. The Board has determined that Mr.
Schafran and Mr. van Maasdijk qualify as “audit committee financial experts” as
defined in applicable SEC rules. The Board made a qualitative assessment of
Mr.
Schafran’s and Mr. van Maasdijk’s level of knowledge and experience based on a
number of factors, including formal education and business
experience.
Code
of Ethics
Our
Board
of Directors has adopted a Code of Ethics that is applicable to all Board
members and all of the Company’s senior officers including its principal
executive officer and its principal financial and accounting officer. A copy
of
the Code of Ethics is included as an exhibit to this report.
Pursuant
to General Instruction G to Form 10-K, we incorporate by reference into each
of
these items the information to be disclosed in our Proxy Statement.
ITEM
12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
Pursuant
to General Instruction G to Form 10-K, we incorporate by reference into each
of
these items the information to be disclosed in our Proxy Statement.
ITEM
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
Pursuant
to General Instruction G to Form 10-K, we incorporate by reference into each
of
these items the information to be disclosed in our Proxy
Statement.
39
ITEM
14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Pursuant
to General Instruction G to Form 10-K, we incorporate by reference into each
of
these items the information to be disclosed in our Proxy Statement.
2003
Non-Officer Limited Stock Appreciation Rights Plan.
10.2+
Securities
Purchase Agreement dated as of June 1, 2004, by and between SulphCo,
Inc.
and the Purchasers parties thereto.
10.3++
Securities
Purchase Agreement dated as of June 14, 2004, by and between SulphCo,
Inc.
and the Purchasers parties thereto.
10.4#
Engagement
Agreement dated July 1, 2004, by and between SulphCo, Inc. and RWG,
Inc.
10.5#
Promissory
Note dated December 30, 2003, from SulphCo, Inc. to Rudolf W. Gunnerman
and Doris Gunnerman.
10.6#
Promissory
Note dated December 30, 2003, from SulphCo, Inc. to Erika
Herrmann.
10.7#
Letter
dated April 28, 2004, from Rudolf W. Gunnerman to SulphCo,
Inc.
10.8#
Promissory
Note dated April 28, 2004, from SulphCo, Inc. to Rudolf W.
Gunnerman.
40
10.9#
Finder’s
Fee Agreement made as of May 11, 2004 between SulphCo, Inc. and Vantage
Investments Group, Inc.
10.10#
Letter
Agreement dated May 28, 2004 between SulphCo, Inc. and Olympus Securities,
LLC.
10.11#
Engagement
Agreement dated July 1, 2004, by and between SulphCo, Inc. and RWG,
Inc.
10.12#
Consulting
Agreement dated July 15, 2004, by and between SulphCo, Inc. and InteSec
Group LLC.
10.13#
Collaboration
Agreement dated August 6, 2004, by and between SulphCo, Inc. and
ChevronTexaco Energy Technology
Company.
10.14#
Contract
for Establishment of a Limited Liability Company (SulphCo Oil Technologies
Kuwait).
10.15#
Loan
Extension Agreement, dated for reference the 12th
day of December, 2004, between Rudolf W. Gunnerman and SulphCo,
Inc.
10.16#
Loan
Extension Agreement, dated for reference the 12th
day of December, 2004, between Erika Herrmann and SulphCo,
Inc.
10.17(1)
Separation
Agreement and General Release dated as of December 28, 2004, by and
between SulphCo, Inc. and Kirk S.
Schumacher.
10.18(2)
Letter
Agreement dated as of January 6, 2005, by and between SulphCo, Inc.
and
Alan L. Austin, Jr.
10.19(3)
Promissory
Note from SulphCo, Inc. to Rudolf W. Gunnerman dated December 31,2004.
10.20#
Letter
Agreement dated February 4, 2005, by and between SulphCo, Inc. and
ChevronTexaco Energy Technology
Company.
10.21(4)
Agreement
dated February 22, 2005, by and between SulphCo, Inc. and OIL-SC,
Ltd.
10.22(5)
Letter
Agreement dated April 27, 2005, by and between SulphCo, Inc. and
ChevronTexaco Energy Technology
Company.
10.23(6)
Employment
Agreement dated as of June 1, 2005, by and between SulphCo, Inc.
and Peter
Gunnerman.
10.24(7)
Test
Agreement by and between SulphCo, Inc. and Total France entered into
on
October 10, 2005.
10.25(8)
Employment
agreement with Loren J. Kalmen dated November 10,2005.
10.26(9)
Letter
Agreement by and between SulphCo and OIL-SC and dated as of November9,2005.
41
10.27(10)
Memorandum
of Association dated November 29, 2005, by and between SulphCo, Inc.
and
Trans Gulf Petroleum Co., a Government of Fujairah
company.
10.28(11)
Employment
Agreement, dated as of January 1, 2006, by and between SulphCo, Inc.
and
Michael Applegate.
10.29(12)
2nd
Loan Extension and Modification Agreement by and between SulphCo,
Inc. and
Dr. Rudolf W. Gunnerman and Doris Gunnerman entered into on January30,2006.
10.30(13)
Securities
Purchase Agreement dated as of March 29, 2006, by and between SulphCo,
Inc. and the Purchasers parties thereto, including form of Warrant
as
Exhibit “A” thereto.
10.31(14)
SulphCo,
Inc. 2006 Stock Option Plan approved by stockholders June 19,2006.
10.32(15)
Engagement
Agreement with RWG, Inc. dated July 1,2006.
10.33(16)
Test
Agreement between SK Corporation and SulphCo, Inc. dated July 20,2006.
10.34(17)
Memorandum
of Understanding with Pierson Capital International, Ltd. dated August1,2006.
10.35(18)
Memorandum
of Understanding with Petrobras dated August 31,2006.
Amendment
No. 1 to Securities Purchase Agreements and Warrants dated March12, 2007,
including form of Warrant as Exhibit “A”
thereto.
10.39(22)
Employment
Agreement with Brian Savino dated March 9,2007.
10.40(23)
Form
of Assignment of Promissory Note, dated April, 24,
2007.
10.41(23)
Form
of Allonge to Assignment of Promissory Note, dated April 27,2007
10.42(24)
Employment
Agreement with Stanley W. Farmer dated May 17,2007
10.43(25)
Master
Services Agreement between Mustang International, L.P. and SulphCo,
Inc.
dated March 29, 2006.
10.44(25)
Work
Release between Mustang International, L.P. and SulphCo, Inc. dated
March29, 2006.
10.45(25)
Amendments
No. 1 and No. 2 to Master Services Agreement between Mustang
International, L.P. and SulphCo, Inc. dated September 13, 2006 and
August21, 2007, respectively.
10.46(25)
Stock
Option Agreement between Rudolf and Doris Gunnerman and Optionees
dated
April 27, 2007 to Acquire 125,000 shares of SulphCo, Inc. stock held
by
the Gunnermans.
10.47(25)
Stock
Option Agreement between Rudolf and Doris Gunnerman and Optionees
dated
April 27, 2007 to Acquire 1,500,000 shares of SulphCo, Inc. stock
held by
the Gunnermans.
42
10.48(25)
Stock
Purchase Agreement between Rudolf and Doris Gunnerman and Buyers
dated
April 27, 2007 to Acquire 125,000 shares of SulphCo, Inc. stock held
by
the Gunnermans.
10.49(26)
Amendment
No. 2 to Securities Purchase Agreements and Warrants dated November28,2007, including form of Warrant as Exhibit “A”
thereto.
10.50(26)
License
Agreement between Industrial Sonomechanics, LLC and SulphCo, Inc.
dated
November 9, 2007, including form of Warrant as Schedule 4.2
thereto.
10.51(27)
Employment
Agreement with M. Clay Chambers dated February 6,2008.
10.52
Modification
Agreement to Convertible Notes Payable Among SulphCo, Inc. and Holders
dated November 28, 2007.
10.53
Lockup
Agreement between Rudolf and Doris Gunnerman and SulphCo, Inc. dated
February 27, 2008.
10.54
Amendment
No. 2 to Stock Option Agreements between Rudolf and Doris Gunnerman
and
Optionees dated February 12, 2008.
10.55
Stock
Option Agreement between Rudolf and Doris Gunnerman and Iroquois
Master
Fund Ltd. and Ellis Capital LLC dated February 12,2008.
10.56
Stock
Option Funds Escrow Agreement among Rudolf and Doris Gunnerman, Iroquois
Master Fund Ltd. and Ellis Capital LLC and Grushko & Mittman, P.C.
dated February 12, 2008.
10.57
Stock
Purchase Agreement between Rudolf and Doris Gunnerman and Iroquois
Master
Fund Ltd. and Ellis Capital LLC dated February 12,2008.
10.58
Stock
Purchase Escrow Agreement among Rudolf and Doris Gunnerman, Iroquois
Master Fund Ltd. and Ellis Capital LLC and Grushko & Mittman, P.C.
dated February 12, 2008.
10.59
Assignment
and Consent Agreement between Rudolf and Doris Gunnerman and Iroquois
Master Fund Ltd. and Ellis Capital LLC dated February 12,2008.
14*
Code
of Ethics adopted by the Board of Directors on March 12, 2004.
16.1+++
Letter
from Forbush and Associates to the SEC dated May 14,2004.
16.2++++
Letter
from Marc Lumer & Company to the SEC dated July 13,2007.
23.1
Consent
of Hein & Associates LLP
23.2
Consent
of Marc Lumer & Company
31.1
Certification
of CEO pursuant to Rule 13a-14 under the Securities Exchange Act
of
1934.
31.2
Certification
of CFO pursuant to Rule 13a-14 under the Securities Exchange Act
of
1934.
43
32.1
Certifications
of CEO and CFO Pursuant to 18 U.S.C. § 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of
2002.
Pursuant
to the requirements of Section 13 of the Securities Exchange Act of 1934 (the
“Exchange Act”), the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
In
accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on
the
dates indicated.
The
management of SulphCo, Inc. (the “Company”) is responsible for establishing and
maintaining adequate internal control over financial reporting. The Company’s
internal control system was designed to provide reasonable assurance to our
management and Board of Directors regarding the preparation and fair
presentation of published financial statements.
All
internal control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be effective can
provide only reasonable assurance with respect to financial statement
preparation and presentation.
Our
management assessed the effectiveness of our internal control over financial
reporting as of December 31, 2007. In making this assessment, our management
used the criteria set forth in InternalControl—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on our assessment we believe that, as of December 31, 2007,
our internal control over financial reporting is effective based on those
criteria.
Our
independent auditors have issued an audit report on our assessment of our
internal control over financial reporting. This report appears on page
F-2.
/s/
Larry D. Ryan
/s/
Stanley W. Farmer
Larry
D. Ryan
Stanley
W. Farmer
Chief
Executive Officer
Vice
President and
Chief
Financial Officer
F-1
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the
Board of Directors and Stockholders of SulphCo, Inc.:
We
have
audited the internal control over financial reporting of SulphCo, Inc. (the
“Company”) as of December 31, 2007, based on criteria established in
Internal
Control—Integrated Framework issued
by
the Committee of Sponsoring Organizations of the Treadway Commission. The
Company’s management is responsible for maintaining effective internal control
over financial reporting and for its assessment of the effectiveness of internal
control over financial reporting, included in the Company’s accompanying Report
on Internal Control Over Financial Reporting appearing on page F-1. Our
responsibility is to express an opinion on the Company’s internal control over
financial reporting based on our audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control
over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A
company’s internal control over financial reporting is a process designed by, or
under the supervision of, the company’s principal executive and principal
financial officers, or persons performing similar functions, and effected by
the
company’s board of directors, management, and other personnel to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain
to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors
of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial statements.
Because
of the inherent limitations of internal control over financial reporting,
including the possibility of collusion or improper management override of
controls, material misstatements due to error or fraud may not be prevented
or
detected on a timely basis. Also, projections of any evaluation of the
effectiveness of the internal control over financial reporting to future periods
are subject to the risk that the controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.
In
our
opinion, the Company maintained, in all material respects, effective internal
control over financial reporting as of December 31, 2007, based on the criteria
established in Internal
Control—Integrated Framework issued
by
the Committee of Sponsoring Organizations of the Treadway Commission.
We
also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheet of the Company
as of December 31, 2007, and the related statements of operations, cash flows
and changes in stockholders’ equity (deficit) for the year ended December 31,2007, and our report dated March 7, 2008, expressed an unqualified opinion
thereon.
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the
Board of Directors and Stockholders of SulphCo, Inc.:
We
have
audited the accompanying balance sheet of SulphCo, Inc. (a company in the
Development Stage) (the “Company”) as of December 31, 2007 and the related
statements of operations, cash flows and changes in stockholders’ equity
(deficit) for the year ended December 31, 2007. These financial statements
are
the responsibility of the Company’s management. Our responsibility is to express
an opinion on these financial statements based on our audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining,
on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of the Company at December 31, 2007,
and the results of its operations and its cash flows for the year ended December31, 2007, in conformity with accounting principles generally accepted in the
United States of America.
We
have
also audited the combination in the statements of operations, cash flows and
changes in stockholders’ equity (deficit) of the amounts as presented for the
year ending December 31, 2007 with the amounts for the corresponding statements
for the period from inception (January 13, 1999) through December 31, 2006.
In
our opinion, the amounts have been properly combined for the period from
inception (January 13, 1999) through December 31, 2007.
The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company has suffered recurring losses from operations that
raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are also described in Note 1. The financial
statements do not include any adjustments that might result from the outcome
of
this uncertainty.
We
have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the Company’s internal control over financial
reporting as of December 31, 2007, based on the criteria established in
Internal
Control—Integrated Framework
issued
by the Committee of Sponsoring Organizations of the Treadway Commission, and
our
report dated March 7, 2008, expressed an unqualified opinion on the Company’s
internal control over financial reporting.
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The
Board
of Directors and Stockholders of Sulphco, Inc.:
We
have
audited the accompanying balance sheet of SulphCo, Inc. (the “Company”) as of
December 31, 2006 and 2005 and the related statements of operations,
stockholders' equity (deficit), and cash flows for each of the two years then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audit.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining,
on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
The
accompanying financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company has suffered recurring losses from operations that
raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are also described in Note 1. The financial
statements do not include any adjustments that might result from the outcome
of
this uncertainty.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of the Company at December 31, 2006
and 2005, and the results of its operations and its cash flows for each of
the
two years then ended, in conformity with accounting principles generally
accepted in the United States of America.
1.Organization
and Significant Accounting Policies
Business
SulphCo,
Inc. (“SulphCo” or the “Company”) is considered a developmental stage company as
defined by Statement of Financial Accounting Standards (“FAS”) No. 7, as the
Company has not recognized significant revenue and is continuing to develop
and
market processes for the upgrading of crude oil by reducing its relative
density, viscosity, and sulphur content.
SulphCo,
formerly Film World, Inc., was originally organized under the laws of the
State
of Nevada on December 23, 1986 under the name Hair Life, Inc. The Company
became
inactive during 1987 and remained inactive until September 1994. In September
1994, through a reverse acquisition agreement, the Patterson Group became
a
wholly owned subsidiary of Hair Life, Inc. Operations were conducted via
two
subsidiaries until 1998, at which time all operations were discontinued,
and the
Company remained dormant until January 1999.
In
July
1999 the Company acquired film rights and changed the corporate name to Film
World, Inc. In December 2000 the Company discontinued its film operations
and
distributed all assets and liabilities related to that business to certain
shareholders in exchange for their stock.
In
December 2000 the Company entered into an exchange agreement with GRD, Inc.
(DBA
SulphCo) and issued 1,200,000 shares in exchange for all of the outstanding
shares of GRD, Inc. Because the shareholders of GRD, Inc. controlled the
Company
after the exchange, the merger was accounted for as a reverse acquisition
of
Film World, Inc. The Company’s name was changed to SulphCo, Inc.
On
October 7, 2005, the Company’s stock began trading on the American Stock
Exchange under the symbol “SUF.” Previously the Company’s common stock had been
quoted on the OTC Bulletin Board under the symbol “SLPH.”
Beginning
in
2006
and continuing into 2007, the Company continued to make progress towards
the
completion of a test facility in Fujairah, United Arab Emirates. This test
facility will be instrumental in the validation of the SonocrackingÔ
process
and allowing the Company to continue to its transition towards
commercialization.
Going
Concern
The
accompanying financial statements have been prepared on a going concern basis,
which contemplates the realization of assets and the settlement of liabilities
and commitments in the normal course of business. As reflected in the
accompanying financial statements, the Company has no revenues, has incurred
substantial losses from operations and has an accumulated deficit of
approximately $120.0 million. These factors raise substantial doubt about
its ability to continue as a going concern. The ability of the Company to
continue as a going concern is dependent on the Company’s ability to implement
its business plan and raise additional funds.
F-16
Use
of Estimates in the Preparation of Financial
Statements
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that
affect the reported amounts of assets and liabilities and disclosures 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 markets for the Company’s
potential products and services will be impacted by the price of oil,
competition, rapid technological development, regulatory changes, and new
product introductions, all of which may impact the future value of the Company’s
assets.
Cash
and Cash Equivalents
All
highly liquid investments with maturities of three months or less are considered
to be cash equivalents.
Fair
Value of Financial Instruments
The
carrying amounts of financial instruments held by the Company, which include
cash, accounts receivable, accounts payable, and accrued liabilities,
approximate fair values due to their short maturity. The carrying value of
the
convertible notes payable reasonably approximates its fair value as it has
a
variable interest rate that resets on a quarterly basis.
Property
and Equipment
Property
and equipment are recorded at cost, less accumulated depreciation. The Company
periodically reviews its long-lived assets for impairment and whenever events
or
changes in circumstances indicate that the carrying amount of the assets
might
not be recovered through undiscounted future cash flows, such impairment
losses
are recognized in the statement of operations.
The
cost
of property and equipment is depreciated over the remaining estimated useful
lives of the assets ranging from 3 to 7 years. Leasehold improvements are
depreciated over the lesser of the terms of the lease or the estimated useful
lives of the assets. Depreciation is computed using the straight line method.
Expenditures for maintenance and repairs are expensed when incurred, while
betterments are capitalized. Gains and losses on the sale of property and
equipment are reflected in the statement of operations.
Intangible
Assets
Intangible
assets include patents, tradenames and other intangible assets acquired from
an
independent party. Intangible assets with a definite life are amortized on
a
straight-line basis, with estimated useful lives ranging from one to 20 years.
Intangible assets with a definite life are tested for impairment whenever
events
or circumstances indicate that the carrying amount of an asset (asset group)
may
not be recoverable. An
impairment loss is recognized when the carrying amount of an asset exceeds
the
estimated undiscounted cash flows used in determining the fair value of the
asset. The amount of the impairment loss to be recorded is calculated by
the
excess of the asset’s carrying value over its fair value. Fair value is
generally determined using a discounted cash flow analysis.
Equity
method
Investments
in joint ventures and other entities over which the Company does not have
control, but does have the ability to exercise significant influence over
the
operating and financial policies, are carried under the equity method. The
Investment in Fujairah Oil Technology LLC, in which the Company owns a 50%
interest, is carried at cost and adjusted for the Company's 50% share of
undistributed earnings or losses. There was no activity in the entity prior
to
2006.
F-17
Research
and Development
The
Company expenses research and development costs as incurred. Since the Company
has not generated meaningful revenue to date and has yet to validate the
commercial viability of its technology, all costs incurred to date relating
to
its current ongoing technology development and commercial validation efforts
have been expensed as research and development costs.
Income
Taxes
The
Company provides for income taxes pursuant
an asset and liability based approach.
Deferred
income tax assets and liabilities are recorded to reflect the tax consequences
in future years of temporary differences between revenue and expense items
for
financial statement and income tax purposes. Valuation allowances are provided
against assets that are not likely to be realized. Deferred tax assets and
liabilities are measured using the enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected
to
be recovered or settled. The effect on deferred tax assets and liabilities
of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Loss
Per Share
The
computations of basic and diluted loss per common share are based upon the
weighted average number of common shares outstanding and potentially dilutive
securities. Potentially dilutive securities include options and warrants
to
acquire the Company’s common stock and convertible debt. As of December 31,2007, 2006 and 2005, there were approximately 9.0
million, 7.3 million and 7.8 million shares issuable, respectively, in
connection with these potentially dilutive securities. These potentially
dilutive securities were disregarded in the computations of diluted net loss
per
share for the years ended December 31, 2007, 2006 and 2005, respectively,
because inclusion of such potentially dilutive securities would have been
anti-dilutive.
Stock-Based
Compensation
We
adopted SFAS No. 123R (SFAS 123R), “Share-based Payment,” effective January 1,2006. This pronouncement requires companies to measure the cost of employee
services received in exchange for an award of equity instruments (typically
stock options) based on the grant-date fair value of the award. The fair
value
is estimated using option-pricing models. The resulting cost is recognized
over
the period during which an employee is required to provide service in exchange
for the awards, usually the vesting period. Prior to the adoption of SFAS
123R,
this accounting treatment was optional with pro forma disclosures required.
During the years ended December 31, 2007, 2006 and 2005, the Company recognized
non-cash general and administrative expenses for stock options and restricted
stock awards of approximately $4.3 million, $2.8
million and $1.6 million, respectively. The expense related to 2005 was solely
attributable to restricted stock awards. There were no options granted to
employees in 2005.
Concentrations
The
Company has generally been able to obtain component parts from multiple sources
without difficulty. Nevertheless, because of price and quality considerations,
in 2005, the Company began utilizing three manufacturers to supply virtually
all
of its needs, as the Company's results could be adversely affected if
manufacturing were delayed or curtailed.
Reclassifications
Certain
amounts in prior years’ financial statements have been reclassified to conform
with current year presentation.
F-18
New
Accounting Pronouncements
In
June
2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation
No. 48, Accounting
for Uncertainty in Income Taxes — an Interpretation of FASB Statement
No. 109 (FIN 48).
This interpretation clarifies the accounting for uncertainty in income taxes
recognized in an enterprise’s financial statements in accordance with
FAS No. 109, Accounting
for Income Taxes
and will
require that companies determine whether it is more-likely-than-not that
a tax
positions taken or expected to be taken in tax returns would be sustained
based
on their technical merits. The Company adopted FIN 48 beginning January 1,2007. The adoption of FIN 48 did not have a material impact on the
Company’s financial position, results of operations, or cash flows.
In
September 2006, the FASB
issued
Statement of Financial Accounting Standards No. 157 (SFAS 157), “Fair Value
Measurements,” which defines fair value, establishes guidelines for measuring
fair value and expands disclosures regarding fair value measurements. SFAS
157
does not require any new fair value measurements but rather eliminates
inconsistencies in guidance found in various prior accounting pronouncements.
SFAS 157 is effective for fiscal years beginning after November 15, 2007.
In
February 2008, the FASB issued FASB Staff Position (FSP) 157-2, “Effective Date
of FASB Statement No. 157,” which defers the effective date of Statement 157 for
nonfinancial assets and nonfinancial liabilities, except for items that are
recognized or disclosed at fair value in an entity’s financial statements on a
recurring basis (at least annually), to fiscal years beginning after November15, 2008, and interim periods within those fiscal years. Earlier adoption
is
permitted, provided the company has not yet issued financial statements,
including for interim periods, for that fiscal year. As of January 1, 2008,
the
Company does not have any recurring fair value measurements and has opted
for
the deferral. Accordingly, the Company has not implemented and is currently
evaluating the impact of SFAS 157, but does not expect the adoption of SFAS
157
to have a material impact on its results from operations or financial position.
In
February 2007, the FASB issued Statement of Financial Accounting Standards
No.
159 (SFAS 159), “The Fair Value Option for Financial Assets and Financial
Liabilities — Including an amendment of FASB Statement No. 115.” SFAS 159
permits entities to measure eligible assets and liabilities at fair value.
Unrealized gains and losses on items for which the fair value option has
been
elected are reported in earnings. SFAS 159 is effective for fiscal years
beginning after November 15, 2007. As of January 1, 2008, the Company did
not
elect the fair value option on any financial instruments or certain other
items
as permitted by SFAS 159.
In
December 2007, the FASB issued Statement of Financial Accounting Standards
No.
141 (revised 2007) (SFAS 141R), “Business Combinations,” which replaces SFAS
141. SFAS 141R establishes principles and requirements for how an acquirer
recognizes and measures in its financial statements the identifiable assets
acquired, the liabilities assumed, any non-controlling interest in the acquiree
and the goodwill acquired. The Statement also establishes disclosure
requirements that will enable users to evaluate the nature and financial
effects
of the business combination. SFAS 141R is effective for fiscal years beginning
after December 15, 2008. The adoption of SFAS 141R is not expected to have
a
material impact on the Company’s results from operations or financial position.
In
December 2007, the FASB also issued Statement of Financial Accounting Standards
No. 160 (SFAS 160), “Non-controlling Interests in Consolidated Financial
Statements — an amendment of ARB No. 51.” SFAS 160 requires that accounting and
reporting for minority interests be re-characterized as non-controlling
interests and classified as a component of equity. SFAS 160 also establishes
reporting requirements that provide sufficient disclosures that clearly identify
and distinguish between the interests of the parent and the interests of
the
non-controlling owners. SFAS 160 applies to all entities that prepare
consolidated financial statements, except not-for-profit organizations, but
will
affect only those entities that have an outstanding non-controlling interest
in
one or more subsidiaries or that deconsolidate a subsidiary. This statement
is
effective for fiscal years beginning after December 15, 2008. The adoption
of
SFAS 160 is not expected to have a material impact on our results from
operations or financial position.
F-19
2.Loans
Receivable and Accrued Interest
On
February 16, 2006the Company committed to a loan agreement with SulphCo
KorAsia
(formerly known as OIL-SC, Ltd.) of South Korea. The agreement called for
advances of $50,000 per month through May 15, 2006. A total of $150,000 was
advanced through May 2006. An additional $50,000 was advanced on June 6,2006
under the same terms as the original note and in November 2006, an additional
$75,000 was advanced, with a revision to the loan agreement that the full
$275,000 in advances and related interest would be immediately repaid from
revenues or from proceeds of any equity financings. Interest accrues at prime
rate plus 1% per annum. Interest accrued since February 16, 2006 totals
approximately $38,000. Based on the fact that SulphCo KorAsia has never had
material revenue streams and considering that there continues to be a high
level
of uncertainty regarding when, if ever, it will generate material revenue
streams, the Company has concluded that it is appropriate to establish an
allowance for doubtful collection. Therefore, as of December 31, 2007, the
Company established an allowance equal to the total principal balance and
accrued interest thereon of approximately $313,000.
The
Company also holds a refundable deposit of SulphCo KorAsia, which may be
available to offset the loan receivable, should there be a final determination
that SulphCo KorAsia could not repay the loan and accrued interest (see Note
8).
3.Property
and Equipment
The
following is a summary of property and equipment – at cost, less
accumulated depreciation:
2007
2006
Equipment
$
868,172
$
772,385
Computers
230,177
199,582
Office
furniture
57,116
57,116
Leasehold
improvements
70,965
90,941
1,226,430
1,120,024
Less:
Accumulated depreciation
(917,107
)
(913,067
)
Total
$
309,323
$
206,957
Depreciation
expense was approximately $145,000, $194,000 and 198,000 for 2007, 2006 and
2005, respectively. In 2006, assets with accumulated depreciation totaling
approximately $109,000 were sold or abandoned.
F-20
4.Loss
On Impairment of Asset
The
Company had a desulphurization unit (“unit”) consisting of a trailer containing
equipment to be used to remove sulphur from crude oil. The Company spent
approximately $4,000 in the year ended December 31, 2004, upgrading the unit.
At
December 31, 2004 the cost of the unit was approximately $0.4 million. No
depreciation expense related to the unit was recognized in 2004 as it was
considered work in process.
In
March
2005 the unit was determined to be obsolete based on the Company’s current
technological improvements. The estimated value of the reusable components
as of
March 31, 2005 was approximately $0.2 million, resulting in an impairment
loss
of approximately $0.2 million. The Company included the remaining $0.2 million
in equipment and began depreciating it in 2005. In 2006, the equipment was
sold.
5.Intangible
Assets
The
Company has seven U.S. patents, seven U.S. patents pending, seven foreign
patents, several foreign patents pending, and six U.S. trademarks pending.
At
December 31, 2007 and 2006the Company had capitalized approximately $1.0
million and $0.6 million, respectively, in costs that were incurred in
connection with filing patents and trademarks related to internally developed
technology. Accumulated amortization as of December 31, 2007 and 2006 was
approximately $0.1 million and $45,000, respectively. During the years ended
December 31, 2007, 2006 and 2005the Company capitalized intangible assets
of
approximately $0.4 million, $0.2 million, and $0.2 million, respectively.
Patents
and trademarks are amortized using the straight-line method over their estimated
period of benefit, ranging from 10 to 20 years with a weighted average of
16.5
years. Amortization expense related to patents and trademarks for the years
ended December 31, 2007, 2006, and 2005 was approximately $45,000, $28,000,
and
$17,000, respectively. Maintenance costs of approximately $59,000 and $36,000
were expensed throughout 2007 and 2006, respectively.
The
following table reflects management’s estimate for amortization expense, using
the straight-line method, for the next five years based on current capitalized
amounts and estimated lives:
Year
Estimated Amortization Expense
2008
$
45,000
2009
45,000
2010
45,000
2011
45,000
2012
45,000
6.Investment
in Joint Venture
In
November 2005, the Company and Trans Gulf Petroleum Co.
(“Trans
Gulf”), a Government of Fujairah company, formed Fujairah Oil Technology LLC
(the “LLC”), a United Arab Emirates limited liability company, to implement the
Company’s Sonocracking™ desulphurization technology. The LLC is 50% owned by
Trans Gulf Petroleum and 50% owned by the Company. Fujairah is one of the
seven
Emirates of the United Arab Emirates. Under the terms of the joint venture,
the
Company is responsible for contributing its Sonocracking™ units and the facility
that houses them including bearing all costs relating thereto. Operation
and
maintenance of the Fujairah test facility is the responsibility of the LLC.
Until the LLC generates revenues, operating expenses of the facility are
expected to be funded from capital contributions of the
Company.
F-21
The
LLC’s
operations began in 2006. For the year ended December 31, 2007, its activities
have consisted primarily of leasing office space and acquiring leasehold
improvements and office furniture and equipment. The lease commenced March15,2006. For the year ended December 31, 2007, the LLC had losses of approximately
$92,000. The Company has expensed these amounts as research and development
costs.
Once
the
LLC begins generating revenues, the LLC agreement contemplates that profits
and
losses will be shared on a 50/50 basis between Trans Gulf and the Company.
The
Company’s 50% share of distributions made by the joint venture will also be
subject to other costs and expenses incurred directly by the Company from
time
to time. The Company is uncertain that it will be able to recover its investment
in the LLC. Accordingly, the carrying value of the investment has been reduced
to zero at December 31, 2007 and 2006, respectively. Going forward, and to
the
extent that the Company continues to incur costs in excess of its investment
in
the LLC, these costs will be recognized by the Company as research and
development costs.
7.Income
Taxes
The
Company is currently subject to income taxation only in the jurisdiction
of the
United States. Foreign jurisdictions will impose income taxes if and when
income
is generated subject to their laws, but there is currently no such related
income. The significant components of the Company’s deferred tax assets and
liabilities at December 31, 2007 and 2006 were as follows:
Deferred
tax liabilities relative to the following:
Patent
costs
$
(315,062
)
$
(172,793
)
Depreciable
assets
(13,925
)
(5,282
)
Total
deferred tax liabilities (all non-current)
$
(328,987
)
$
(178,075
)
Current
portion
$
-
$
13,053,051
Non-current
portion
25,927,546
7,140,164
Total
deferred tax assets prior to offsets
$
25,927,546
$
20,193,215
Valuation
allowance
$
(25,927,546
)
$
(20,193,215
)
Net
deferred tax assets
$
-
$
-
F-22
For
the
years ended December 31, 2007 and 2006, the valuation allowance was increased
by
approximately $5.7 million and $13 million, respectively due to the
uncertainties surrounding the realization of the deferred tax assets resulting
from the Company’s net losses of approximately $24.4 million and $39.1 million
in 2007 and 2006, respectively, and accumulated deficits of approximately
$120.0
million and $70.9 million at December 31, 2007 and 2006,
respectively.
The
provision (benefit) for income taxes differs from the provision (benefit)
amount
computed by applying the statutory federal tax rate (34%) to the loss before
taxes due to the following:
Permanent
differences: discount accretion and Registration statement
penalty
interest
1,754,791
-
Book
related deductions not expensed for tax:
Construction
of test facilities
576,133
7,003,363
Deferred
share-based compensation
1,101,094
560,150
Expensed
receivables
106,573
348,500
Research
credit amount
-
91,350
Other
7,463
173,479
Tax
related deductions not expensed on financial statements:
Patent
costs
(142,268
)
(52,019
)
Depreciation
(8,643
)
(24,458
)
Increase
in benefit from net operating loss
(4,888,050
)
(5,200,895
)
(Increase)
decrease in other deferred tax assets
(997,193
)
(7,918,255
)
Increase
(decrease) in deferred tax liabilities
150,912
42,303
Increase
in valuation allowance
5,734,331
13,076,847
Provision
(benefit) for income taxes
$
-
$
-
As
of
December 31, 2007 and 2006, the Company had net operating loss carry-forwards
for federal income tax purposes of approximately $49.6 million and $35.2
million, respectively. The net operating loss carry-forwards will begin expiring
in 2019 and will fully expire in 2027.
The
valuation allowance for each year has been estimated in an amount equal to
the
projected future benefit of the deferred tax asset net of the deferred tax
liability as it is not certain that the Company will generate sufficient
income
to utilize the future tax benefits, due to the lack of earnings in the Company’s
history.
8.Refundable
Deposit
In
2005,
the Company received $550,000 from SulphCo KorAsia (formerly known as OIL-SC,
Ltd.), pursuant to our Equipment Sale and Marketing Agreement. As this amount
is
fully refundable if the pilot plant does not ultimately meet the agreed
specifications, no portion of the purchase price has been or will be recorded
as
revenue in the Company’s financial statements until the pilot plant meets all
agreed specifications. The Company does not have an equity interest in SulphCo
KorAsia.
F-23
9.Accrued
Fees and Interest
As
of
December 31, 2007 and 2006, the Company had accrued late registration fees
of
approximately $760,000 and $760,000, respectively, and interest thereon of
approximately $335,000 and $198,000, respectively, in conjunction with the
private placements in 2004. In 2007 and 2006, interest expense associated
with
accrued late fees was approximately $137,000 and $137,000 respectively.
10.Convertible
Notes Payable
April
2007 Modification
In
late
April 2007 two events occurred related to the Company’s then outstanding $5
million note payable (the “Note Payable”) to Rudolf W. Gunnerman (“Gunnerman”),
the Company’s former Chairman and CEO. First, the Note Payable was acquired from
Gunnerman by a group of investors (the “Investors”). Second, the Company
negotiated modifications (the “April 2007 Modifications”) to the terms of Note
Payable with the Investors to (1) extend the maturity date from December31,2007 to December 31, 2008 and (2) to add a conversion option to the Note
Payable
making the Note Payable convertible into the Company’s common stock at a
conversion price of $3.80 per share (hereinafter the Note Payable is referred
to
as the “Convertible Notes Payable”).
In
connection with the first event, the Gunnerman Note Payable was acquired
directly from Gunnerman by the Investors. The Company’s participation in this
event was limited to providing its consent to the assignment of the Note
Payable
from Gunnerman to the Investors. As such, this element of the transaction
had no impact on the Company and required no accounting in relation
thereto.
Regarding
the second event, the provisions of Emerging Issues Task Force (“EITF”) Issue
No. 96-19, “Debtor’s Accounting for a Modification or Exchange of Debt
Instruments” (“EITF 96-19”), provide that a modification of a debt instrument
that adds a substantive conversion option is always considered a substantial
change. Therefore, debt extinguishment accounting pursuant to EITF 96-19
was
required for this event. In connection with the conclusion that EITF 96-19
is applicable to this transaction, SulphCo also made the determination that
(1)
the conversion option was substantive on the date it was added pursuant to
the
guidance in paragraphs 7-9 of EITF Issue No. 05-1, “Accounting for the
Conversion of an Instrument That Became Convertible upon the Issuer’s Exercise
of a Call Option” (“EITF 05-1”), (2) the conversion option would not be
separately accounted for as a derivative under SFAS Statement No. 133,
“Accounting for Derivative Instruments and Hedging Activities” since the
Convertible Notes Payable are considered to be “conventional” or “traditional”
debt as contemplated in EITF Issue No. 00-19, “Accounting for Derivative
Financial Instruments Indexed to, and Potentially Settled in , a Company’s Own
Stock” (“EITF 00-19”) and (3) the modification is not within the scope of SFAS
Statement No. 15, “Accounting by Debtors and Creditors for Troubled Debt
Restructurings” as contemplated in paragraph 11 of EITF Issue No. 02-04,
“Determining Whether a Debtor’s Modification of Exchange of Debt Instruments Is
within the Scope of FASB Statement No. 15” (“EITF 02-04”) since the Investors
are not deemed to have granted a concession (i.e., because the Company’s
effective borrowing rate on the Convertible Notes Payable is not less than
the
effective borrowing rate of the original Note Payable). Since the Convertible
Notes Payable had a variable interest rate structure, the fair value of the
Note
Payable approximated the carrying value of the Convertible Notes Payable.
As a
result, there was no gain or loss resulting from these
modifications.
F-24
Contemporaneous
with the acquisition of the Convertible Notes Payable and just prior to the
modifications, the Investors acquired warrants from Gunnerman to acquire
1,625,000 shares of the Company’s common stock currently held by
Gunnerman. Since Gunnerman is considered to be a related party and a
control person (i.e., since he owns greater than 10% of the Company’s
outstanding common stock), these actions are presumed to have been taken
on
behalf and for the benefit of the Company. Therefore, the warrants will be
accounted for as if the Company had directly issued the warrants to the
Investors. Since the warrants were acquired contemporaneous with the
issuance of convertible debt, the guidance in EITF Issue No. 98-5, “Accounting
for Convertible Securities with Beneficial Conversion Features of Contingently
Adjustable Conversion Ratios” (“EITF 98-5”) and EITF Issue No. 00-27,
“Application of Issue No. 98-5 to Certain Convertible Instruments” (“EITF
00-27”) must be applied. Using the Black-Scholes option valuation model,
the Company has estimated that the fair value of the warrants on the date
of
grant was approximately $3.0 million. The fair value of the Convertible
Notes Payable on that date was $5 million (since it has a variable interest
rate
equal to LIBOR + 0.5% that resets quarterly). Using these amounts, the
Company determined that on a relative fair value basis, approximately $1.9
million of the assumed proceeds of $5 million resulting from the extinguishment
should be allocated to the warrants. After taking into account the effect
of the allocation of proceeds to the warrants, the Company determined that
the
conversion feature that was added to the Convertible Notes Payable was a
beneficial conversion feature (“BCF”) that had to be accounted for pursuant to
EITF 98-5 and EITF 00-27. SulphCo determined that the value of the BCF was
in excess of the remaining unallocated debt proceeds. Therefore, and as is
provided in the guidance of EITF 98-5 and EITF 00-27, the extent of the BCF
discount is limited to the amount of the remaining unallocated proceeds of
$3.1
million. As a result of the accounting required for the modification of the
terms of the Convertible Notes Payable, a 100% (i.e., $5 million) discount
results. Prior to the November 2007 modifications (discussed below), the
resulting discount was being accreted into the statement of operations, using
the effective interest method, over the remaining term of the Convertible
Notes
Payable (i.e., through December 31, 2008) as incremental interest
expense.
October
2007 Conversion
On
October 22, 2007, one of the Investors holding approximately $320,000 of
the
Convertible Notes Payable, elected to convert it into SulphCo common stock.
Pursuant to the terms of the Convertible Notes Payable, it was converted
into
84,199 shares of SulphCo common stock at a conversion price of $3.80 per
share.
Since the Convertible Notes Payable are instruments with a beneficial conversion
feature, the pro rata amount of the unamortized discount remaining at the
date
of conversion was recognized as interest expense. The pro rata amount of
unamortized discount recognized as interest expense upon conversion was
approximately $318,000.
November
2007 Modification
On
November 30, 2007, the Company finalized, with an effective date of November28, 2007, a Modification Agreement (the “November 2007 Modification Agreement”)
with the Investors holding approximately $4.7 million of the Company’s then
outstanding Convertible Notes Payable. The November 2007 Modification Agreement
provided the following modifications (hereinafter collectively referred to
as
the “November 2007 Modifications”):
The
Investors acquired the right to accelerate the maturity date of
the
Convertible Notes Payable to any date after July 31, 2009, upon
ten (10)
business days written notice to the
Company.
·
The
Company may prepay the Convertible Notes Payable prior to maturity
(“Prepayment Date”) with ten (10) business days notice in writing to the
Investors, subject to the right of the Investors to convert all
or any
portion of the Convertible Notes Payable prior to the Prepayment
Date.
F-25
To
determine the appropriate accounting for the November 2007 Modifications
noted
above, the Company again applied the provisions of EITF 96-19. Under EITF
96-19,
a substantial modification of loan terms results in accounting for the
modification as a debt extinguishment. EITF 96-19 specifies that a modification
should be considered substantial if the present value of the cash flows under
the new terms is at least 10% different from the present value of the remaining
cash flows under the original loan terms. EITF 96-19 requires the use of
the
original effective interest rate for calculating the present value of the
cash
flows under the modified loan.
In
order
to apply EITF 96-19, the Company determined the annual payments (principal
and
interest) under the new loan terms. In instances where either debt instrument
has a floating interest rate, which in this case both debt instruments did,
the
variable rate in effect at the date of the modification is used to calculate
the
cash flows of the variable rate instrument. The variable rate in effect on
the
date of the November 2007 Modifications was 5.6275%. The Company used this
rate
to calculate the cash flows for both debt instruments. If either debt instrument
is callable or putable, EITF 96-19 requires that the present value calculation
should be made assuming the instrument is called (put) and assuming the
instrument is not called (put). The cash flow assumptions that generate the
smaller change are to be used in the 10% test. In this case, the original
instrument had a face value call option exercisable at any time. The new
instrument had a put option added as part of the modifications that is
exercisable at any time after July 31, 2009 and retained the face value call
option.
Using
the
original effective interest rate as the discount factor for each set of cash
flows, the Company computed the present values under the various scenarios.
Based on this analysis, the Company determined that the difference between
the
cash flows under the original terms and the modified terms was not in excess
of
10% which suggested that the November 2007 Modifications were not
substantial.
However,
because the November 2007 Modifications involved convertible debt, the Company
referred to the guidance in EITF No. 06-6, “Debtor’s Accounting for a
Modification (or Exchange) of Convertible Debt Instruments” (“EITF 06-6”). EITF
06-6 requires that a separate analysis must be performed if the cash flow
test
under EITF 96-19 does not result in a conclusion that a substantial modification
or exchange has occurred. Under that separate analysis, a substantial
modification or exchange has occurred and the issuer should apply extinguishment
accounting if the change in the fair value of the embedded conversion option
(calculated as the difference between the fair value of the embedded conversion
option immediately before and after the modification or exchange) is at least
10
percent of the carrying amount of the original debt instrument immediately
prior
to the modification or exchange.
Pursuant
to the guidance in EITF 06-6, the Company calculated the fair value of the
embedded conversion option immediately before and after the modifications
using
the Black-Scholes Option Valuation. Based on this analysis, the Company
determined that the fair value of the conversion option had increased by
more
than 10%. Therefore, extinguishment accounting, pursuant to the provisions
of
EITF 96-19, applies.
EITF
96-19 requires that any unamortized discount relating to the extinguished
debt
should be written off and included in determining the debt extinguishment
gain
or loss to be recognized. In connection with this requirement, the Company
recorded a journal entry of approximately $4.7 million (recognized as
incremental interest expense) to accrete the remaining discount associated
with
the April 2007 Modification. The Company then determined that an extinguishment
loss of approximately $22,000 was present. The Company then determined that
the
conversion feature that was relating to the Convertible Notes Payable was
a BCF
that had to be accounted for pursuant to EITF 98-5 and EITF 00-27. SulphCo
determined that the value of the BCF was approximately $1.7 million. The
resulting discount is being accreted into the statement of operations as
incremental interest expense using the effective interest method through
July31, 2009, after which time the Investors have the ability to accelerate the
maturity of the Convertible Notes Payable.
F-26
As
of
December 31, 2007, the net balance of the Convertible Notes Payable
is:
The
Convertible Notes Payable represents an unsecured obligation of the
Company.
Interest
on the Convertible Notes Payable is adjusted quarterly based on a London
Inter-Bank Offering Rate (“LIBOR”) plus 0.5% per annum, with interest only
payments due on December 31st
of each
year during the remaining term of the Convertible Notes Payable that extends
through December 31, 2011 when the note matures (unless maturity is otherwise
accelerated by the Investors to any date after July 31, 2009). As a result
of
the November 2007 Modifications, the effective interest rate of the Convertible
Notes Payable was determined to be approximately 33%. During the years ended
December 31, 2007, 2006 and 2005, the Company recognized total interest expense
of approximately $5.5 million, $0.5 million and $0.4 million, respectively.
For
the year ended December 31, 2007, total interest expense recognized by the
Company included approximately $5.0 million of incremental interest expense
associated with discount accretion.
11.Deemed
Dividends
March
2007 Transaction
On
March12, 2007, the Company executed Amendment No. 1 to Securities Purchase Agreements
and Warrants (“Amendment No. 1”) with certain warrant holders (the “Warrant
Holders”) that provided inducements to encourage the Warrant Holders to exercise
their respective warrants. As consideration for Warrant Holders exercising
their
shares, the Company agreed that it would:
·
Reduce
the exercise price on warrants to acquire 4,000,000 shares of the
Company’s common stock held by the 2006 Warrant Holders from $6.805 per
share to $2.68 per share; and
·
Issue
the Warrant Holders the additional warrants (the “March 2007 Warrants”),
with an exercise price of $2.68 per share, on a one to one basis
for each
existing warrant that was exercised including granting up to 1,952,068
warrants to 2004 Warrant Holders and up to 4,000,000 warrants to
the 2006
Warrant Holders.
F-27
As
a
result of the inducements included in Amendment No. 1 described above, during
the quarter ended March 31, 2007, 1,952,068 warrants held by the 2004 Warrant
Holders and 2,000,000 warrants held by the 2006 Warrant Holders were exercised
resulting in the grant of 3,952,068 March 2007 Warrants. As a result of the
inducements, the Company recorded a non-cash deemed dividend of approximately
$11.5 million. The amount of the deemed dividend was estimated to be equal
to
the sum of the fair value of the inducements as the sum of (1) the incremental
fair value conveyed to the 2006 Warrant Holders via the reduction of the
exercise price of the 2006 Warrants determined as provided in paragraph 51
of
SFAS 123R utilizing the Black-Scholes Valuation Model and (2) the fair value
of
the 3,952,068 Additional Warrants estimated using the Black-Scholes Valuation
Model.
During
the quarter ended June 30, 2007, 600,000 warrants held by the 2006 Warrant
Holders were exercised resulting in the grant of 600,000 March 2007 Warrants.
Therefore, the Company recorded an additional non-cash deemed dividend of
approximately $1.7 million that was estimated using the Black-Scholes Valuation
Model.
During
the quarter ended September 30, 2007, the remaining 1,400,000 warrants held
by
the 2006 Warrant Holders were exercised resulting in the grant of 1,400,000
March 2007 Warrants. Therefore, the Company recorded an additional non-cash
deemed dividend of approximately $3.9 million that was estimated using the
Black-Scholes Valuation Model.
During
the year ended December 31, 2007, the Company recognized total non-cash deemed
dividends of approximately $17.1 million relative to the March 2007
transaction.
November
2007 Transactions
On
November 28, 2007, the Company executed Amendment No. 2 to Securities Purchase
Agreements and Warrants (“Amendment No. 2”) an agreement (the “Agreement”) with
certain of the Warrant Holders holding approximately 3.95 million of the
then
outstanding March 2007 Warrants wherein the Warrant Holders agreed to exercise
up to 50% of their March 2007 Warrants. In exchange, SulphCo agreed to issue
the
Warrant Holders additional warrants (the “November 2007 Warrants”) on a
one-to-one basis with an exercise price of $7.00 per share and a term of
three
years. In addition, the Warrant Holders were granted an option to exercise
the
remaining 50% of their March 2007 Warrants on the later of April 15, 2008,
or 30
days following the 2008 Annual Meeting of Stockholders in which SulphCo’s
stockholders approve an increase of 10 million authorized common shares.
If this
option is exercised, then SulphCo will issue the Warrant Holders additional
November 2007 Warrants on a one-to-one basis with an exercise price of $7.00
a
share and a term of three years. As a result of the inducement described
above,
1,976,570 of the March 2007 Warrants held by the Warrant Holders were exercised
resulting in the grant of 1,976,570 November 2007 Warrants. Based on its
analysis, the Company concluded that a deemed dividend should be recorded
to
account for the fair value of the inducement that was transferred to the
Warrant
Holders computed as the fair value of the 1,976,570 November 2007 Warrants
issued to the Warrant Holders (determined using Black-Scholes). Based on
the
Black-Scholes valuation prepared for this transaction, SulphCo has determined
that the amount of the non-cash deemed dividend was approximately $7.3 million.
SulphCo will account for the deemed dividend relating to the November 2007
Warrants issuable upon exercise of the remaining March 2007 Warrants held
by the
Warrant Holders at the point in time, if ever, they are exercised.
On
November 28, 2007, certain optionees
(the “Optionees”) holding a stock option (the Gunnerman Option”) to acquire 1.5
million shares of the Company’s common stock acquired by the Optionees directly
from Dr. Rudolf W. Gunnerman in April 2007, executed an amendment to the
Gunnerman Option whereby Dr. Gunnerman agreed to extend the expiration date
from
December 27, 2007 to February 29, 2008. Since Dr. Gunnerman is considered
to be
a related party and a control person (i.e., since he owns greater than 10%
of
SulphCo’s outstanding common stock), it is presumed that any action that he
takes involving SulphCo common stock is taken on behalf and for the benefit
of
SulphCo. Therefore, SulphCo concluded that a deemed dividend should be recorded
for any excess fair value of the “new” Gunnerman Option relative to the “old”
Gunnerman Option as determined using the Black-Scholes option valuation model.
Based on the Black-Scholes valuation prepared for this transaction, SulphCo
has
determined that the amount of the non-cash deemed dividend was approximately
$0.4 million.
F-28
During
the year ended December 31, 2007, the Company recognized total non-cash deemed
dividends of approximately $7.7 million relative to the November 2007
transactions.
During
the year ended December 31, 2007 and between the March 2007 and November
2007
transactions, the Company recognized total non-cash deemed dividends of
approximately $24.8 million.
12.Commitments
and Contingencies
Commission
Commitments
The
Company entered into an agency agreement with Atlas Commercial Holdings,
LLC
(“Atlas”) on July 25, 2006 to advise and assist the Company with establishing
and implementing an ongoing business venture with Petrobras (Brazil).
Pursuant to this agreement, the Company has agreed to pay Atlas a transaction
fee equal to ten percent of the net income received by the Company from any
transaction with Petrobras in respect of net income which accrues to the
Company
through and including December 31, 2016.
Commitments
under Operating Leases
In
May
2007, the Company entered into an operating lease agreement for office space
in
Houston, Texas having a term of sixty months. In July 2007, the Company
relocated its corporate headquarters from Reno, Nevada to Houston, Texas.
Also
in May 2007, the Company entered into operating lease agreements for facilities
in Reno, Nevada and Sparks, Nevada, with each having a thirty-six month term.
As
of December 31, 2007, the Company made the decision to discontinue utilizing
the
Reno office space and is attempting to sub-lease this space for the remaining
term of the lease which extends through May 2010. However, due to the softness
in the real estate markets in Reno, it is unclear when, if ever, the Company
will be able to obtain a replacement tenant for the space for its remaining
term. In connection with its decision to discontinue utilizing the Reno office
space, the Company recognized a charge of approximately $282,000 which
represents the total amount of the future minimum lease payments remaining
under
the terms of the Reno operating lease agreement.
Following
is a schedule of future minimum lease payments required under these operating
lease agreements:
2008
$
282,630
2009
288,657
2010
231,628
2011
151,200
2012
75,600
Total
future minimum lease payments
$
1,029,715
The
Company recognized approximately $672,000 (which includes the $282,000 relating
to the Reno lease discussed above), $439,000, and $435,000 for rent expense
in
2007, 2006, and 2005, respectively.
F-29
Concentrations
of Credit Risk
Financial
instruments, which potentially subject the Company to concentrations of credit
risk, consist mainly of cash and cash equivalents. The Company maintains
amounts
in an interest bearing U.S. checking account which exceeds federally insured
limits by approximately $7.3 million at December 31, 2007. The Company has
not
experienced any significant losses in such accounts, nor does management
believe
it is exposed to any significant credit risk.
Refundable
Deposit
At
December 31, 2007 and 2006the Company had a $550,000 refundable deposit
in
connection with an agreement with SulphCo KorAsia (“KorAsia”) (formerly OIL-SC)
for a pilot plant in South Korea. Until KorAsia accepts in writing the results
of the pilot plant, the $550,000 is refundable at their option. The Company
has
agreed to receive the remaining payment of $450,000 within seven days after
the
first commercial license agreement for the Sonocracking™ technology between the
Company and a Korean refining company, provided that KorAsia uses the funds
for
continued marketing activities regarding the Sonocracking™ technology in
Korea.
Registration
Payment Arrangements
As
is
discussed in Note 11 above, the Company executed the Amendment No. 1 and
Amendment No. 2 with the Warrant Holders. Both amendments contained the
following registration provisions:
Amendment
No. 1
Pursuant
to Amendment No. 1, the Company is required to:
·
Use
commercially reasonable efforts to prepare and file a registration
statement (the “Amendment No. 1 Additional Registration Statement”) to
cover all shares of common stock issuable under the Amendment No.1
Additional Warrants as soon as possible, but in no event later
than 90
days after March 12, 2007; and
·
Use
commercially reasonable efforts to prepare and file a post-effective
amendment to the registration statement covering the 2004 Warrants
(the
“Post-Effective Amendment”) as soon as possible, but in no event later
than 5 business days after April 2, 2007, the date the Company
filed its
2006 Form 10-K.
The
Amendment No. 1 registration provisions further provided that in the event
the
Company does not file the Amendment No.1 Additional Registration Statement
and
the Post Effective Amendment within the required time frames (each, an “Event”),
each of the Warrant Holders shall be entitled to receive on the date of such
Event (the “Event Date”) an amount in cash, as partial liquidated damages and
not as a penalty, equal to 1% of the aggregate exercise price paid by the
Warrant Holders; and on each monthly anniversary of the Event Date thereof
(if
the applicable Event had not been cured), the Company shall pay the Warrant
Holders an amount in cash, as partial liquidated damages and not as a penalty,
1% of the aggregate purchase price paid by the Warrant Holders (the “Amendment
No. 1 Liquidated Damages”). The Amendment No. 1 Liquidated Damages shall not
exceed 12% of the aggregate purchase price paid by the Warrant Holders. The
maximum amount of Amendment No. 1 Liquidated Damages that the Company could
be
required to pay under the Amendment No. 1 registration provisions is
approximately $950,000.
F-30
The
Company filed both the Amendment No.1 Additional Registration Statement and
the
Post-Effective Amendment within the required time frames and therefore does
not
expect to incur any Amendment No. 1 Liquidated Damages.
Amendment
No. 2
Pursuant
to Amendment No. 2, the Company is required to:
·
Use
commercially reasonable efforts to prepare and file a registration
statement (the “Amendment No. 2 Additional Registration Statement”) to
cover all shares of common stock issuable under the Amendment No.
2
Additional Warrants as soon as possible, but in no event later
than 90
days after March 12, 2007.
The
Amendment No. 2 registration provisions further provided that in the event
the
Company does not file the Amendment No. 2 Additional Registration Statement
within the required time frame (an “Amendment No. 2 Event”), each of the Warrant
Holders shall be entitled to receive on the date of such Amendment No. 2
Event
(the “Amendment No. 2 Event Date”) an amount in cash, as partial liquidated
damages and not as a penalty, equal to 1% of the aggregate exercise price
paid
by the Warrant Holders; and on each monthly anniversary of the Event Date
thereof (if the applicable Event had not been cured), the Company shall pay
the
Warrant Holders an amount in cash, as partial liquidated damages and not
as a
penalty, 1% of the aggregate purchase price paid by the Warrant Holders (the
“Amendment No. 2 Liquidated Damages”). The Amendment No. 2 Liquidated Damages
shall not exceed 12% of the aggregate purchase price paid by the Warrant
Holders. The maximum amount of Amendment No. 2 Liquidated Damages that the
Company could be required to pay under the Amendment No. 2 registration
provisions is approximately $635,000.
The
Company filed the Amendment No. 2 Additional Registration Statement within
the
required time frame and therefore does not expect to incur any Amendment
No. 2
Liquidated Damages.
Convertible
Notes Payable
In
connection with the addition of the conversion feature to the Convertible
Notes
Payable described in Note 10, the Company agreed to the following registration
provision:
·
Use
commercially reasonable efforts to prepare and file a registration
statement (the “Convertible Notes Payable Registration Statement”) to
cover all shares of common stock issuable upon conversion of the
Convertible Notes Payable as soon as possible, but in no event
later than
June 8, 2007.
The
Convertible Notes Payable registration provisions further provided that in
the
event the Company does not file the Convertible Notes Payable Registration
Statement within the required time frame (a “Convertible Notes Payable Event”),
each of the Convertible Notes Payable holders shall be entitled to receive
as
liquidated damages (payable in cash) (the “Convertible Notes Payable Liquidated
Damages”) an amount equal to 1% for each thirty days of the principal amount of
Convertible Notes Payable outstanding and the purchase price of the shares
issued upon conversion of the Convertible Notes Payable which are subject
to the
Convertible Notes Payable Event. The Convertible Notes Payable Liquidated
Damages shall not exceed 12% of Convertible Notes Payable outstanding and
the
purchase price of the shares issued upon conversion of the Convertible Notes
Payable which are subject to the Convertible Notes Payable Event. The maximum
amount of Convertible Notes Payable Liquidated Damages that the Company could
be
required to pay under these registration provisions is approximately
$600,000.
F-31
The
Company filed the Convertible Notes Payable Registration Statement within
the
required time frame and therefore does not expect to incur any Convertible
Notes
Payable Liquidated Damages.
Litigation
Contingencies
There
are
various claims and lawsuits pending against the Company arising in the normal
course of the Company’s business. Although the amount of liability, if any, at
December 31, 2007, is not reasonably estimable, management is of the opinion
that these claims and lawsuits will not materially affect the Company’s
financial position. We have and will continue to devote significant resources
to
our defense, as necessary.
The
following paragraphs set forth the current status of litigation as of December31, 2007.
Clean
Fuels Litigation
In
Clean
Fuels Technology v. Rudolf W. Gunnerman, Peter Gunnerman, RWG, Inc. and SulphCo,
Inc.,
Case
No. CV05-01346 (Second Judicial District, County of Washoe) the Company,
Rudolf
W. Gunnerman, Peter Gunnerman, and RWG, Inc. were named as defendants in
a legal
action commenced in Reno, Nevada. The Plaintiff, Clean Fuels Technology
later assigned its claims in the lawsuit to EcoEnergy Solutions, Inc., which
entity was substituted as Plaintiff. In general, Plaintiff EcoEnergy
Solutions, Inc. alleged claims relating to ownership of the “sulphur removal
technology” originally developed by Professor Teh Fu Yen and Dr. Gunnerman with
financial assistance provided by Dr. Gunnerman, and subsequently assigned
to the
Company. On September 14, 2007, after a jury trial and extensive
post-trial proceedings, the trial court entered final judgment against Plaintiff
EcoEnergy Solutions, Inc. on all of its claims. Per the final judgment,
all of Plaintiff’s claims were resolved against Plaintiff and were dismissed
with prejudice. In addition, the trial court found that the Company was
the prevailing party in the lawsuit and entered judgment in favor of the
Company
and against Plaintiff of approximately $124,000, with post-judgment interest.
The Plaintiff appealed the judgment on October 5, 2007. On December19, 2007, and as required by Nevada statute, the Company participated in
a
mandatory settlement conference at which time a settlement was not reached.
A
briefing schedule has been issued, but there has been no date set for oral
arguments. As of December 31, 2007, no liability has been accrued relative
to
this action.
Talisman
Litigation
In
Talisman
Capital Talon Fund, Ltd. v. Rudolf W.Gunnerman and SulphCo, Inc.,
Case
No. 05-CV-N-0354-BES-RAM, the Company and Rudolf W. Gunnerman were named
as
Defendants in a legal action commenced in federal court in Reno, Nevada.
The
Plaintiff alleged claims relating to the Company's ownership and rights to
develop its "sulphur removal technology."The Company regards these claims
as
without merit. Discovery in this case formally concluded on May 24, 2006.
On
September 28, 2007, the court granted, in part, the Defendants' motion for
summary judgment and dismissed the Plaintiff's claims for bad faith breach
of
contract and unjust enrichment that had been asserted against Rudolf Gunnerman.
The court denied the Plaintiff's motion for partial summary judgment. Trial
has
been set for August 4, 2008. As of December 31, 2007, no liability has been
accrued relative to this action.
F-32
McLelland
Arbitration
In
The
Matter of the Arbitration between Stan L. McLelland v. SulphCo,
Inc.,
Mr.
McLelland, who was the Company's president from August 13, 2001, until he
resigned on September 12, 2001, sought to exercise options to purchase two
million (2,000,000) shares of the Company’s common stock at 50 cents per share,
as well as receive salary payments for the six months following his resignation
and $20,000 of alleged unpaid commuting expenses. Following the arbitration
hearings, on July 24, 2007, the Company received notice that the Arbitrator
had
denied Mr. McLelland’s claim for the options. The Arbitrator did award salary of
$125,000 plus interest from October 1, 2001 until paid, and $5,000 (without
interest) out of the $20,000 of alleged unpaid commuting expenses. In connection
with the resolution of this matter, the Company recognized a charge for these
amounts in the quarter ended June 30, 2007 which were later paid during the
quarter ended September 30, 2007.
Neuhaus
Litigation
On
October 20, 2006, Mark Neuhaus filed a lawsuit against the Company and Rudolf
W.
Gunnerman, Mark
Neuhaus v. SulphCo, Inc., Rudolph W. Gunnerman,
in the
Second Judicial District Court, in and for the County of Washoe, Case No.
CV06-02502, Dept. No. 1. The lawsuit is based on a purported Non-Qualified
Stock
Option Agreement and related Consulting Agreement between Mark Neuhaus and
the
Company dated March of 2002. Mark Neuhaus claims that according to the terms
of
the Non-Qualified Stock Option Agreement, he was granted an option to purchase
three million (3,000,000) shares of the Company’s common stock at the exercise
price per share of $0.01. On or about February of 2006, Mark Neuhaus attempted
to exercise the option allegedly provided to him under the Non-Qualified
Stock
Option Agreement. At that time, the Company rejected Mr. Neuhaus’s attempt to
exercise the option. Thereafter, Mr. Neuhaus filed this lawsuit seeking to
enforce the Non-Qualified Stock Option Agreement. In his suit, Mr. Neuhaus
includes claims for specific performance, breach of contract, contractual
breach
of the covenant of good faith and fair dealing, and tortious breach of the
covenant of good faith and fair dealing. He requested that the Court compel
the
Company to issue the shares or alternatively to award him damages equal to
the
fair market value of the three million (3,000,000) shares of stock when he
purported to exercise the options, minus the exercise price. On December7,2006, the Company moved to dismiss the lawsuit. On January 4, 2007, the Court
issued an Order denying the motion on the ground that there were factual
issues
to be resolved which prevented dismissal at that time. The Company filed
an
Answer to the Complaint, as well as a counterclaim against Mr. Neuhaus and
a
cross claim against Rudolf W. Gunnerman on March 29, 2007. That cross-claim
against Dr. Gunnerman was subsequently voluntarily discontinued, without
prejudice. As of December 31, 2007, no liability has been accrued relative
to
this action. The Company regards the claim as without merit.
Mr.
Neuhaus filed a motion to dismiss the counterclaim on April 11, 2007, which
the
Company opposed. On July 20, 2007, the Court issued an Order granting Mr.
Neuhaus’ Motion to Dismiss. The Court found that Nevada was not the proper venue
for the counterclaim and that the Nevada Courts did not have jurisdiction
over
the counterclaim. The Company has filed an action in the New York State Supreme
Court seeking to obtain the same relief as was sought in the counterclaim
that
was dismissed.
On
December 21, 2007, the Company filed a Motion for Summary Judgment with the
Court seeking dismissal of Neuhaus's claims. The Company argued that the
Non-Qualified Stock Option Agreement was not valid in that there was no evidence
of a board resolution approving the terms of the options, as is required
by
Nevada law. Neuhaus opposed the Motion. On February 4, 2008, the Court denied
the Motion for Summary Judgment, finding that there remain material issues
of
disputed facts relating to the creation of the Non-Qualified Stock Option
Agreement and the Consulting Agreement. The Company is proceeding with
discovery.
Trial
in
this action has been rescheduled for July 14, 2008.
F-33
Hendrickson
Derivative Litigation
On
January 26, 2007, Thomas Hendrickson filed a shareholder derivative claim
against certain current and former officers and directors or the Company
in the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe. The case is known as Thomas
Hendrickson, Derivatively on Behalf of SulphCo, Inc. v. Rudolf W. Gunnerman,
Peter W. Gunnerman, Loren J. Kalmen, Richard L. Masica, Robert Henri Charles
Van
Maasdijk, Hannes Farnleitner, Michael T. Heffner, Edward E. Urquhart, Lawrence
G. Schafran, Alan L. Austin, Jr., Raad Alkadiri and Christoph
Henkel,
Case
No. CV07-00137, Dept. No. B6. The complaint alleges, among other things,
that
the defendants breached their fiduciary duty to the Company by failing to
act in
good faith and diligence in the administration of the affairs of the Company
and
in the use and preservation of its property and assets, including the Company’s
credibility and reputation. The Company and the Board had intended to file
a
Motion for Dismissal with the Court, based upon the Plaintiff’s failure to make
a demand upon the Board. On
July10, 2007, the Company received notice that a stipulation (the “Stipulation”) of
voluntary dismissal without prejudice had been entered, with an effective
date
of July 3, 2007, regarding this action. The Stipulation provides that in
connection with the dismissal of this action each of the parties will bear
their
own costs and attorney fees and thereby waive their rights, if any, to seek
costs and attorney fees from the opposing party. Further, neither the
plaintiff nor his counsel has received any consideration for the dismissal
of
this action, and no future consideration has been promised.
In
September of 2007, the Company’s Board of Directors received a demand letter
(the “Hendrickson Demand Letter”) from Mr. Hendrickson’s attorney reasserting
the allegations contained in the original derivative claim and requesting
that
the Board of Directors conduct an investigation of these matters in response
thereto. In response to the Hendrickson Demand Letter, the Company’s Board of
Directors formed a special committee comprised of three independent directors
to
evaluate the Hendrickson Demand Letter and to determine what, if any, action
should be taken.
Cullen
Litigation
On
June26, 2006, the Company filed an action, SulphCo,
Inc. v. Cullen,
in the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe, Case No. CV06-01490, against Mark Cullen arising out of Mr. Cullen’s
alleged breach of a secrecy agreement that he had executed when employed
by GRD,
Inc., whose claims have accrued to the Company. The lawsuit seeks damages,
a
constructive trust, and an order requiring Mr. Cullen to assign to the Company
certain intellectual property in the form of patent applications (as well
as a
now-issued patent) that he filed following his departure from the Company.
On
October 23, 2006, Mr. Cullen moved to dismiss the Company’s complaint; the
motion was denied. On February 26, 2007, Mr. Cullen filed an amended answer
to
the Company’s complaint. That Answer included counterclaims for breach of
contract, unfair competition, interference with contractual relations, and
interference with prospective economic advantage. The entire case was dismissed
without prejudice on April 25, 2007, but the Company retains the ability
to
revive its claims at a later date.
F-34
Nevada
Heat Treating Litigation
On
November 29, 2007, Nevada Heat Treating, Inc. (“NHT”) filed at lawsuit against
the Company, Nevada
Heat Treating, Inc., d/b/a California Brazing,
in the
Second Judicial District Court of the State of Nevada, in and for the County
of
Washoe, Case No. CV07-02729. In its complaint, NHT alleges trade secret
misappropriation and breach of contract relative to certain information alleged
to have been disclosed to the Company beginning in late 2006 and continuing
through early 2007 pursuant to a consulting engagement with NHT. Among other
things, NHT is asserting that certain information, alleged to have been
disclosed to the Company during the term of the consulting engagement, is
the
subject of a nondisclosure/confidentiality agreement executed at the inception
of the consulting engagement. NHT is contending that this certain information
represents a trade secret that should no longer be available for use by the
Company following the termination of the consulting engagement with NHT in
the
spring of 2007. In connection with filing this action, NHT also filed a motion
for preliminary injunction against the Company seeking to enjoin it from
using
certain information until the matter can be resolved through the courts.
A
hearing for the motion for preliminary injunction has been set for March24,2008. Trial has been set for April 27, 2009. As of December 31, 2007, no
liability has been accrued relative to this action.
Securities
and Exchange Commission Subpoena
On
February 25, 2008, the Company received a subpoena from the Denver office
of the
Securities and Exchange Commission (the “SEC”). The subpoena formalizes
virtually identical requests the Company received in May, June and August
2007
and subsequently responded to which requested the voluntary production of
documents and information, including financial, corporate, and accounting
information related to the following subject matters: Fujairah Oil Technology
LLC, the Company’s restatements for the first three quarterly periods of 2006
and the non-cash deemed dividend for the quarter ended March 31, 2007, and
information and documents related to certain members of former management,
the
majority of whom have not been employed by the Company for over a year. We
have
been advised by the SEC that, despite the subpoena and formal order of
investigation authorizing its issuance, neither the SEC nor its staff has
determined whether the Company or any person has committed any violation
of law.
The Company intends to continue to cooperate with the SEC in connection with
its
requests for documents and information.
13.Common
Stock
Other
than stock based compensation disclosed in Note 14 and related party
transactions disclosed in Note 17, the Company had the following transactions
related to its common stock during the years ended December 31, 2007, 2006,
and
2005:
During
the first quarter of 2007, the
Company raised approximately $7.8 million, net of offering costs, through
an
exercise of outstanding warrants. Investors holding 1,952,068 of the warrants
issued pursuant to the Securities Purchase Agreements, dated as of June 1,2004
and June 14, 2004 (the “2004 Warrants” and the “2004 Warrant Holders”) exercised
their warrants at their stated exercise prices of $1.125 per share and $1.5625
per share, respectively. Investors holding 2,000,000 warrants issued pursuant
to
the Securities Purchase Agreement, dated as of March 29, 2006 (the “2006
Warrants” and the “2006 Warrant Holders” and together with the 2004 Warrant
Holders hereinafter collectively referred to as the “Warrant Holders”) exercised
their warrants at an exercise price of $2.68 per share, which was a reduction
from the original exercise price of $6.805 per share. The Warrant Holders
received 3,952,068 March 2007 Warrants to replace all of the 2004 Warrants
and
2006 Warrants that were exercised on a one to one basis. Each March 2007
Warrant
expires three years from the date of issuance and entitles the holder to
purchase one share of common stock at $2.68 per share.
The
accounting for the reduction in the exercise price of the 2006 Warrants and
the
Additional Warrants is described in Note 11.
F-35
During
the second quarter of 2007, the Company raised approximately $1.6 million
through an exercise of 600,000 of the remaining 2,000,000 2006 Warrants at
an
exercise price of $2.68 per share, which was a reduction from the original
exercise price of $6.805 per share. As previously agreed, the 2006 Warrant
Holders received 600,000 March 2007 Warrants to replace all of the 2006 Warrants
that were exercised on a one to one basis. Each March 2007 Warrant expires
three
years from the date of issuance and entitles the holder to purchase one share
of
common stock at $2.68 per share.
During
the third quarter of 2007, the Company raised approximately $3.8 million
through
the exercise of the remaining 1,400,000 2006 Warrants at an exercise price
of
$2.68 per share, which was a reduction from the original exercise price of
$6.805 per share. As previously agreed, the 2006 Warrant Holders received
1,400,000 March 2007 Warrants to replace all of the 2006 Warrants that were
exercised on a one to one basis. Each March 2007 Warrant expires three years
from the date of issuance and entitles the holder to purchase one share of
common stock at $2.68 per share.
During
the fourth quarter of 2007, the Company raised approximately $5.3 million
through the exercise of 1,976,570 March 2007 Warrants at an exercise price
of
$2.68 per share. In connection with this exercise, the Warrant Holders received
1,976,570 November 2007 Warrants with an exercise price of $7.00 per share
and a
term of three years from the date of issuance.
During
the year ended December 31, 2007, the Company raised approximately $18.5
million, net of offering costs, through the exercise of warrants held by
the
Warrant Holders, as described above.
On
March29, 2006, the Company completed a private placement to a small number of
accredited investors for the sale of 4,000,000 units, each unit consisting
of
one share of the Company’s common stock and one warrant to purchase a share of
common stock. Each unit was sold at a price of $6.805 per share, resulting
in
gross proceeds at closing of approximately $27.2million. The warrants are
exercisable, in whole or in part, at a fixed price equal to $6.805 per share,
and are exercisable for a period of 18 months following their issuance. The
Company filed a registration statement with the SEC covering the resale of
the
shares of common stock issued at closing and shares issuable upon exercise
of
warrants. The registration statement was declared effective by the SEC on
June23, 2006.
The
Company granted 217,500 shares of its common stock during 2006, all of which
were vested during the year. The weighted-average grant-date fair value of
those
shares was $7.94 per share.
A
fee of
$100,000 was paid to an unrelated third party in consideration of introducing
an
investor to the Company relative to the March 29, 2006 placement. This amount
was reflected as a reduction of the proceeds.
In
April
2005 fifteen thousand shares of common stock were issued at $5.91 per share,
the
closing price on the date of issue, in exchange for consulting services valued
at $88,650.
During
August through December of 2005, additional investment rights and warrants,
issued in the two private placements during 2004, were exercised for 3,792,410
shares for net proceeds of approximately $3.8 million. Additional warrants
for
1,365,543 shares of Common stock were issued pursuant to the agreements as
a
result of exercises of additional investment rights.
F-36
Increase
in Authorized Capital Stock
At
a
Special Meeting of Stockholders held on February 26, 2008, the Company’s
stockholders approved an increase in the number of authorized shares of the
Company’s capital stock to 120 million shares by increasing the authorized
shares of common stock, par value $0.001 from 100 million to 110 million
(see
Note 19 for additional discussion).
14.Stock
Plans and Share-Based Compensation
Effective
January 1, 2006, the Company began recording compensation in the form of
grants
of common stock and options for common stock at fair value in accordance
with
SFAS 123R, which requires all share-based payments to employees, including
grants of employee stock options, to be recognized in the income statement
based
on their fair values. During 2005, the Company did not make any grants of
stock
options to employees. Therefore, pro forma disclosures for 2005 are not
required.
Stock
Option Plans
At
December 31, 2007, the Company had outstanding stock options granted under
the
SulphCo, Inc. 2006 Stock Option Plan (the “2006 Plan”) for designated employees,
executive officers, directors, consultants, advisors and other corporate
and
divisional officers. The 2006 Plan is administered by the Compensation Committee
established by the Company’s Board of Directors. The 2006 Plan was approved and
adopted by the Company’s stockholders in June of 2006 pursuant to which, 2
million shares were available for issuance. As of December 31, 2007, there
were
approximately 209,000 shares available for future grants under the 2006 Plan.
At
a Special Meeting of Stockholders held on February 26, 2008, the Company’s
stockholders approved the SulphCo, Inc. 2008 Omnibus Long-Term Incentive
Plan
(the “2008 Plan”) pursuant to which an aggregate of 2.25 million shares of
common stock are available for issuance to designated employees, executive
officers, directors, consultants, advisors and other corporate and divisional
officers (see Note 18 for additional discussion).
The
exercise price of options granted pursuant to the 2006 Plan and the 2008
Plan
shall be at least 100 percent (110 percent for 10 percent or greater
stockholders) of the fair value of the Company’s common stock on the date of
grant. Options must be granted within ten years from the inception date of
the
2006 Plan and become exercisable at such times as determined by the Compensation
Committee. Options are exercisable for no longer than five years for certain
ten
percent or greater stockholders and for no longer than ten years for others.
SFAS
123R
requires tax benefits relating to excess stock based compensation deductions
over that recognized in expense to be prospectively presented in the Company’s
statement of cash flows as financing cash inflows. However, in cases where
the
Company has a NOL carry-forward, SFAS 123R states that no amount shall be
recorded until the deduction reduces income taxes payable on the basis that
cash
tax savings have not occurred. Accordingly, for the year ended December 31,2007, the Company has not reported any excess tax benefits from the settlement
(i.e. exercise of options) of stock based compensation as cash provided by
financing activities on its statement of cash flows.
The
Company’s policy of meeting the requirements upon exercise of stock options is
to issue new shares.
F-37
2006
Plan
The
fair
value of each option award granted after December 31, 2005, is estimated
on the
date of grant using a Black-Scholes option valuation model. Expected
volatilities are based on the historical volatility of the Company’s stock. The
expected term of options granted to employees is derived utilizing the
simplified method referred to in SEC’s Staff Accounting Bulletin No. 107,
“Share-Based Payment” (“SAB No. 107”) which represents the period of time that
options granted are expected to be outstanding. The Company utilizes the
simplified method because it does not have historical exercise data which
is
sufficient to provide a reasonable basis to estimate the expected term. The
ability of issuers to continue utilizing the simplified method was set to
expire
December 31, 2007. On December 21, 2007, the SEC released SAB 110, “Share-Based
Payment” wherein it announced that ability of issuers to utilize the simplified
method described in SAS No. 107 would be extended beyond December 31, 2007.
The
Company expects to continue utilizing the simplified method to determine
the
expected term until such time as it accumulates historical exercise data
that
will provide a sufficient basis for the Company to begin estimating the expected
term for option exercises. The expected term of options granted to non-employees
is equal to the contractual term of the option as required by other accounting
literature. The risk-free rate for periods within the contractual life of
the
option is based on the U.S. Treasury yield curve at the time of grant. For
the
years ended December 31, 2007 and 2006, the Company used the following
information to value option grants:
2007
2006
Expected
Volatility
132.5% - 149.5%
117% - 147%
Expected
Dividend Yield
-
-
Expected
Term (in years)
5.0 – 10.0
3.0
Risk
Free Rate
3.58% - 5.10%
5.2%
The
following table provides additional information related to the 2006
Plan:
The
weighted average grant date fair value of the 1,665,524 options granted in
2007
was $3.49 per share. Options outstanding at December 31, 2007, had a weighted
average remaining contractual life of 8.9 years and an intrinsic value of
approximately $1.8 million. Options exercisable at December 31, 2007, had
a
weighted average remaining contractual life of 8.6 years and an intrinsic
value
of approximately $0.7 million.
Of
the
options to acquire 1,665,524 shares of the Company’s common stock granted during
the year ended December 31, 2007, options to acquire 300,000 shares relate
to
grants of options to acquire 100,000 shares each to three of the Company’s Board
members to replace restricted stock grants of 50,000 shares each, for a total
of
150,000 shares, that were rescinded by the Company. Historically, it has
been
the custom of the Company to grant restricted shares of its common stock
to new
Board members upon joining the Company’s Board. The grants of the 150,000 shares
of restricted common stock were made subsequent to the Company having listed
its
shares on the American Stock Exchange (the “AMEX”). Included among the AMEX’s
listing requirements is a requirement that grants of the Company’s common stock
to Directors and certain other persons be approved by a vote of the Company
shareholders. In connection with these grants, the Company did not obtain
prior
shareholder approval and therefore determined that it was appropriate to
rescind
the prior grants in lieu of calling a special meeting of the shareholders
to
obtain the requisite approval. The Company recorded a charge of approximately
$0.4 million relating to the excess of the fair value of the replacement
options
granted to replace the rescinded restricted stock grants over the fair value
of
the rescinded restricted stock grants on the date the replacement options
were
granted. Also included in the options to acquire 1,665,524 shares of the
Company’s common stock granted during the year ended December 31, 2007, are the
following grants: (1) an option to acquire 150,000 shares of the Company’s
common stock that was granted to Edward G. Rosenblum in connection with his
appointment, on August 1, 2007, to the Company’s Board of Directors for which
the Company recorded a charge of approximately $0.5 million; (2) an option
to
acquire 59,524 shares of the Company’s common stock granted to Edward G.
Rosenblum to replace a grant of restricted stock granted in connection with
his
appointment to the Company’s Board of Directors that was later rescinded for
which the Company recorded a charge of approximately $44,000 relating to
the
excess fair value of the option compared to the fair value of the restricted
stock on the date of grant (3) options to acquire a total of 300,000 shares
granted to the Company’s Board of Directors in connection with its annual
retainer for which the Company recorded a charge of approximately $1.1 million;
and (4) options to acquire a total of 856,000 shares granted to the Company’s
officers, employees and third-party consultants for which the Company recorded
a
charge of approximately $1.4 million.
During
the year ended December 31, 2006, the Company granted options to acquire
1,125,000 shares of its common stock. Of this amount, an option to acquire
125,000 was granted to the then Vice Chairman of the Board of Directors,
Robert
van Maasdijk for which the Company recorded a charge of approximately $0.7
million and an option to acquire 1,000,000 shares was granted the Company’s
former Chairman and CEO, Dr. Rudolf W. Gunnerman for which the Company recorded
a charge of approximately $1 million.
2006
Plan – Forfeitures
In
connection with his dismissal from the Company in January 2007, Dr. Gunnerman
forfeited the previously granted option to acquire 1,000,000 share of the
Company’s common stock and at which time the Company reversed, in 2006, the
previously recorded charge of approximately $1 million.
F-39
Other
Options
In
addition to options available for issuance under the 2006 Plan, the Company
has
previously granted other options and warrants (the “Other Options”) to
non-employees and consultants. The following table provides additional
information related to the Other Options:
The
weighted average grant date fair value of the 153,000 Other Options granted
in
2007 was $3.53 per share. Other Options outstanding at December 31, 2007,
had a
weighted average remaining contractual life of 2.9 years and no intrinsic
value.
Other Options exercisable at December 31, 2007, had a weighted average remaining
contractual life of 2.9 years and no intrinsic value.
An
option
to acquire 52,500 shares of Company stock granted during the year ended December31, 2007 (the “Mustang 2007 Option”), relates to an option that was previously
granted to Mustang International, L.P. (“Mustang”) by the Company in 2006 (the
“Mustang 2006 Option”). In August of 2007, the Company and Mustang agreed to
amend the previously granted option and change the exercise price from $6.00
to
$3.50 per share. For financial reporting purposes, the Company is deemed
to have
reacquired the Mustang 2006 Option by virtue of the issuance of the Mustang
2007
Option. On the date of reacquisition, the fair value of the Mustang 2007
Option
exceeded the fair value of the Mustang 2006 Option by approximately $27,000.
This excess fair value was fully expensed since the Mustang 2007 Option was
fully vested on the date of issuance.
During
the year ended December 31, 2007, the Company terminated a consulting contract
that was entered into on June 28, 2007, with Edward G. Rosenblum. As
consideration for entering into the consulting contract, the Company had
agreed
to grant Mr. Rosenblum an option to acquire 50,500 shares of the Company’s
common stock (the “Rosenblum Option”). On August 1, 2007, Mr. Rosenblum was
appointed to the Company’s Board of Directors. As a result and in connection
therewith, the Company and Mr. Rosenblum agreed to mutually terminate this
consulting contract, including the cancellation of the Rosenblum
Option.
F-40
On
November 9, 2007, the Company entered into an agreement with Industrial
Sonomechanics, LLC ("ISM"), under which ISM granted exclusive worldwide
rights to SulphCo to use its patented ultrasound horn and reactor technology
for
ultrasound upgrading of crude oil and crude oil fractions. Pursuant to this
agreement, the Company issued ISM a warrant to purchase 50,000 shares (the
“ISM Warrant”) of SulphCo common stock. The ISM Warrant had an exercise price of
$6.025 per share and a three year term. In connection with the issuance of
the
ISM Warrant, the Company recognized a charge to research and development
expense
of approximately $0.2 million.
During
the year ended December 31, 2006, the Company granted options to acquire
54,500
shares of the Company’s common stock to two third-party consultants. The Mustang
2006 Option granted the Mustang the right to acquire 52,500 shares of the
Company’s common stock at an exercise price of $6.00 per share and had a term of
four years from the date of issuance. In connection with the Mustang 2006
Option
the Company recognized a charge of approximately $358,000. As is discussed
above, the Mustang 2006 Option was replace with the Mustang 2007 Option.
The
remaining option to acquire 2,000 shares of the Company’s common stock was
granted to Thomas J. Nardi (the “Nardi Option”). The Nardi Option had an
exercise price of $7.00 per share and a one year term.
During
the year ended December 31, 2005, the Company granted an option to acquire
50,000 shares to an investor relations consulting firm. The option had an
exercise price of $3.85 per share and a November 2007 expiration date. This
option was in addition to another option to acquire 50,000 shares the Company
granted to the same investor relations consulting firm in 2004 (taken together,
these two options to acquire a total of 100,000 shares are referred to as
the
“IR Options”).
Other
Options – Exercises
During
the year ended December 31, 2007, 152,500 Other Options were exercised. Of
this
amount, options to acquire 100,000 shares related to the IR Options discussed
above that were exercised on a cashless basis resulting in the issuance of
66,551 shares of the Company’s common stock. The remaining option to acquire
52,500 shares related to the Mustang 2007 Option discussed above that were
exercised at $3.50 per share resulting in proceeds to the Company of
approximately $0.2 million.
During
the years ended December 31, 2006 and 2005, there were no exercises of Other
Options.
Other
Options – Forfeitures/Cancellations
During
the year ended December 31, 2007, 105,000 Other Options were either forfeited
or
cancelled. Of this amount, an option to acquire 52,500 shares related to
the
cancellation of the Mustang 2006 Option discussed above and an option to
acquire
50,500 shares related to the cancellation of the Rosenblum Option discussed
above. The remaining option to acquire 2,000 shares related to the Nardi
Option
that expired unexercised.
During
the years ended December 31, 2006 and 2005, there were no forfeitures or
cancellations of Other Options.
F-41
Summary
Option Information
The
following table summarizes information about all stock options outstanding
as of
December 31, 2007:
Options Outstanding
Options Exercisable
Range of
Exercise
Prices
Number
Outstanding
Weighted
Average
Remaining
Contractual
Life (in Years)
Weighted
Average
Exercise
Price
Number
Exercisable
Weighted
Average
Remaining
Contractual
Life (in Years)
Weighted
Average
Exercise
Price
$2.00
- $2.99
200,000
9.2
$
2.66
-
-
-
$3.00
- $3.99
1,137,500
9.4
$
3.65
750,000
9.5
$
3.65
$4.00
- $4.99
200,000
10.0
$
4.96
100,000
10.0
$
4.96
$5.00
- $5.99
128,024
9.9
$
5.52
59,524
10.0
$
5.04
$6.00
- $6.99
50,000
2.9
$
6.03
50,000
2.9
$
6.03
$7.00
- $9.99
125,000
1.4
$
9.03
125,000
1.4
$
9.03
1,840,524
1,084,524
The
total
intrinsic value of options and warrants exercised during the years ended
December 31, 2007, 2006 and 2005 was approximately $0.8 million, none and
none,
respectively. Cash received from all option and warrant exercises under all
share-based payment arrangements for the years ended December 31, 2007, 2006
and
2005 was approximately $0.2 million, none and none, respectively. There were
no
tax benefits realized for tax deductions resulting from option and warrant
exercises of share-based payment arrangements for the year ended December31,2007.
As
of
December 31, 2007, there was approximately $1.6 million of total unrecognized
compensation cost related to non-vested options. That cost is expected to
be
recognized on a straight line basis over the weighted average vesting period
of
0.8 years.
Restricted
Stock Grants – Directors, Officers and Employees
During
the year ended December 31, 2007, the Company granted 220,206 shares of its
restricted common stock to members of the Board of Directors in lieu of its
annual cash. Additionally, the Company also made grants of restricted shares
totaling 93,353 shares to two Board members who joined the Board in 2007.
In
connection with these grants, the Company recognized a charge of approximately
$0.7 million. As is discussed above, the Company rescinded a total of 193,353
current and prior year restricted stock grants. As of December 31, 2007,
all
grants of restricted shares were fully vested and there was no unrecognized
compensation costs relating to restricted share grants.
During
the years ended December 31, 2006 and 2005, the Company granted 200,000 shares
and 250,000 shares, respectively, of its restricted stock to officers and
directors for which it recognized charges of approximately $1.6 million and
$1.1
million, respectively. As of December 31, 2006 and 2005, all grants of
restricted shares were fully vested and there were no unrecognized compensation
costs relating to restricted share grants.
During
the year ended December 31, 2006, the Company granted 17,500 shares of
restricted stock to non-employees for which it recognized a charge of
approximately $0.1 million. As of December 31, 2006, all grants of restricted
shares were fully vested and there were no unrecognized compensation cost
relating to restricted share grants.
Total
Share Based Compensation
During
the years ended December 31, 2007, 2006 and 2005, the Company recognized
total
share-based compensation (for grants of stock options, warrants and restricted
stock) of approximately $4.3 million, $2.8 million and $1.6 million,
respectively.
15.Employee
Benefit Plans
During
the year ended December 31, 2007, the Company adopted a qualified defined
contribution retirement plan (the “401(k) Plan”) for full-time employees. The
401(k) Plan provides participants the opportunity to make contributions ranging
from 1 percent to 15 percent of their covered salaries or wages. The Company
makes an annual minimum contribution to the 401(k) Plan equal to 3 percent
of
the covered participant’s salaries and wages. As of December 31, 2007, the
Company had an accrued annual minimum contribution of approximately $0.1
million. In addition to the annual minimum contribution, the Company can
make
discretionary contributions. During the year ended December 31, 2007, no
such
discretionary contributions were made.
16.Stock
Subscriptions
As
of
December 31, 2005, the Company had stock subscriptions receivable of $744,500.
In January 2004 the Company filed suit to collect $737,000 for a stock
subscription receivable that is being disputed. At December 31, 2006, the
Company reversed the receivable against paid in capital due to continued
uncertainty of collecting it based on the determination of legal
counsel.
17.Related
Party Transactions
Other
than share-based compensation as detailed in Note 14, the following discussion
sets forth related party transactions occurring in the years 2005, 2006,
and
2007.
During
the years ended December 31, 2007 and 2006, the Company made payments to
totaling approximately $1.3 million and $7,500, respectively to Ma’rkisches Werk
Halver, GmbH (“MWH”) in connection with ongoing probe development activities.
Edward E. Urquhart, a member of the Company’s Board of Directors since August
2006, has been the Chief Executive Officer of MWH since July 2003.
Historically,
the Company had maintained a consulting contract with RWG, Inc., a company
wholly-owned by Dr. Rudolf W. Gunnerman, the Company’s former Chairman and CEO.
This contract was terminated in January 2007 contemporaneous with Dr.
Gunnerman’s dismissal from the Company. During the years ended December 31,2007, 2006 and 2005, the total expense recognized by the Company under this
arrangement was $240,000, $620,000 and $360,000, respectively. Of the amount
paid during the year ended December 31, 2007, $200,000 was paid in connection
with a settlement in the second quarter of 2007 between the Company and Dr.
Gunnerman.
F-43
In
2005
the Company had a consulting agreement with Mr. Peter W. Gunnerman’s wholly
owned company, Global 6 LLC, prior to him becoming the Company’s COO and
President. During the year ended December 31, 2005, Global 6 LLC was paid
$50,000 in consulting fees and reimbursed $50,015 in travel related expenses.
Mr. Gunnerman resigned from his position as the Company’s COO and President in
December 2006.
Beginning
in 2005, the Company had a consulting agreement with Peak One Consulting,
Inc.,
a company wholly-owned by Richard L. Masica, a Director of the Company until
his
retirement from the Company’s Board of Directors in June 2007. No amounts were
paid to Mr. Masica under this consulting agreement during the year ended
December 31, 2007. During the years ended December 31, 2006 and 2005, the
Company paid Mr. Masica approximately $30,000 and $57,000 in fees for management
and technical consulting and approximately $3,000 and $19,000 in travel related
expenses, respectively, pursuant to this agreement.
The
Company had a consulting arrangement with a Director, Michael T. Heffner,
who
was paid approximately $49,000 in technical consulting fees and approximately
$5,000 in travel related expense reimbursements in 2006. This agreement was
terminated in the second quarter of 2006. On
April15, 2007, the Company entered into a month-to-month operating lease agreement
with Mr. Heffner. Under the lease agreement, the Company leases a furnished
apartment for officer’s use in Reno, Nevada for $1,500 per month that can be
cancelled at anytime by either party. The Company terminated this agreement
effective September 30, 2007. During
the year ended December 31, 2007, the Company recognized approximately $8,000
in
lease expense relative to this agreement.
On
April16, 2007, with a retroactive effective date of February 10, 2007, the Company
entered into a 30 day consulting contract with Mr. Vincent van Maasdijk,
the son
of Mr. Robert van Maasdijk who is the Chairman of the Company’s Board of
Directors, initially to serve as the Fujairah Operations Manager. After each
30
day term, the consulting contract automatically renews for the next 30 days
unless either party stipulates otherwise in writing. As Fujairah Operations
Manager, Mr. van Maasdijk’s responsibilities included overseeing the
construction and operation of the Company’s facility in Fujairah, United Arab
Emirates. Mr. van Maasdijk completed the Fujairah assignment in late 2007
and
has since been providing business development support services to the Company.
Under the terms of the contract, Mr. van Maasdijk receives a monthly payment
of
$5,000 plus reimbursement of all reasonable out-of-pocket expenses, in
accordance with the Company’s applicable policies and procedures. During the
year ended December 31, 2007, the total expense recognized by the Company
under
this arrangement was approximately $78,000.
During
the year ended December 31, 2007, the Company paid approximately $10,000
in
interest expense to Edward G. Rosenblum, a member of the Company’s Board of
Directors, in connection with approximately $166,000 principal balance of
the
Company’s Convertible Notes Payable, held by Mr. Rosenblum. Mr. Rosenblum
acquired his interest in the Company’s Convertible Notes Payable prior to
joining our Board of Directors in August 2007.
Total
related party expenses were approximately $1.6 million, $4.2 million, and
$1.5
million in 2007, 2006, and 2005 respectively. Total related party cash payments
were approximately $1.6 million, $1.9 million and $1.3 million in 2007, 2006,
and 2005 respectively.
F-44
18.Quarterly
Financial Information (Unaudited)
Summarized
unaudited quarterly financial information for the years ended December 31,2007,
2006 and 2005 is noted below (in thousands, except for per share
amounts):
2007
Mar.
31
Jun.
30
Sep.
30
Dec.
31
Net
revenues
$
-
$
-
$
-
$
-
Gross
profit
$
-
$
-
$
-
$
-
Net
(loss)
$
(14,513
)
$
(8,883
)
$
(
8,367
)
$
(9,719
)
Net
(loss) per share – basic and diluted
(a)
$
(0.20
)
$
(0.12
)
$
(0.11
)
$
(0.22
)
2006
Mar.
31
Jun.
30
Sep.
30
Dec.
31
Net
revenues
$
-
$
-
$
-
$
-
Gross
profit
$
-
$
-
$
-
$
-
Net
(loss)
$
(9,180
)
$
(18,452
)
$
(5,724
)
$
(5,766
)
Net
(loss) per share – basic and diluted
(a)
$
(0.14
)
$
(0.25
)
$
(0.08
)
$
(0.08
)
2005
Mar.
31
Jun.
30
Sep.
30
Dec.
31
Net
revenues
$
-
$
-
$
-
$
-
Gross
profit
$
-
$
-
$
-
$
-
Net
loss
$
(2,325
)
$
(2,357
)
$
(1,840
)
$
(2,906
)
Net
loss per share – basic and diluted
(a)
$
(0.04
)
$
(0.04
)
$
(0.03
)
$
(0.05
)
(a)
The sum
of the individual quarterly earnings (loss) per share may not agree with
year-to-date earnings (loss) per share as each quarterly computation is based
on
the income or loss for that quarter and the weighted average number of common
shares outstanding during that period.
On
February 26, 2008, the Company held a Special Meeting of Stockholders (the
“Special Meeting”) to consider the following two proposals:
F-45
·
To
amend the Company’s Articles of Incorporation to increase the number of
authorized shares of the Company’s capital stock to 120,000,000 shares by
increasing the authorized shares of Common Stock, par value $0.001
(the
“Common Stock”) from 100,000,000 shares to 110,000,000 shares;
and
·
To
approve and adopt the Company’s 2008 Omnibus Long-Term Incentive Plan (the
“Plan”), pursuant to which an aggregate of 2,250,000 shares of Common
Stock are available for issuance.
A
majority of the shares entitled to vote at the Special Meeting voted in favor
of
both proposals.
Securities
and Exchange Commission Subpoena
On
February 25, 2008, the Company received a subpoena from the Denver office
of the
Securities and Exchange Commission (the “SEC”). The subpoena formalizes
virtually identical requests the Company received in May, June and August
2007
and subsequently responded to which requested the voluntary production of
documents and information, including financial, corporate, and accounting
information related to the following subject matters: Fujairah Oil Technology
LLC, the Company’s restatements for the first three quarterly periods of 2006
and the non-cash deemed dividend for the quarter ended March 31, 2007, and
information and documents related to certain members of former management,
the
majority of whom have not been employed by the Company for over a year. We
have
been advised by the SEC that, despite the subpoena and formal order of
investigation authorizing its issuance, neither the SEC nor its staff has
determined whether the Company or any person has committed any violation
of law.
The Company intends to continue to cooperate with the SEC in connection with
its
requests for documents and information.
F-46
Dates Referenced Herein and Documents Incorporated by Reference
