Quantum Materials Corp (HGUE) SEC Quarterly Report (10-Q) for Q1 2015

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended March 31, 2015

Commission File Number: 000-52956

QUANTUM MATERIALS CORP.

(Exact name of small business issuer as specified in its charter)

3055 Hunter Road

San Marcos, TX 78666

 (Address of principal executive offices)

214-701-8779

(Registrant's telephone number)

Check whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 [ ]

Indicate by checkmark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the 12 preceding months (or such shorter period that the registrant was required to submit and post such file). Yes [ x ] No [ ]

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

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 [ ] Accelerated Filer [ ] Non-Accelerated Filer [ ] Smaller Reporting Company [ x ]

As of May 20, 2015, the issuer had 297,724,783 shares of common stock, $0.001 par value per share, outstanding.

QUANTUM MATERIALS CORP.

Table of Contents

Item 1.  Financial Statements

QUANTUM MATERIALS CORP.

CONSOLIDATED BALANCE SHEETS

See accompanying notes to consolidated financial statements.

QUANTUM MATERIALS CORP.

CONSOLIDATED STATEMENTS OF OPERATIONS

See accompanying notes to consolidated financial statements.

QUANTUM MATERIALS CORP.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT

See accompanying notes to consolidated financial statements.

QUANTUM MATERIALS CORP.

CONSOLIDATED STATEMENT OF CASH FLOWS

See accompanying notes to consolidated financial statements.

QUANTUM MATERIALS CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 – BASIS OF PRESENTATION

General

The accompanying Consolidated Financial Statements include the accounts of Quantum Materials Corp. (the "Company").

The Consolidated Financial Statements of the Company as of and for the three and nine months ended March 31, 2015 are unaudited and have been prepared on the same basis as the audited Consolidated Financial Statements as of and for the year ended June 30, 2014. The year-end balance sheet data was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the U.S. In the opinion of management, the accompanying unaudited financial information includes all adjustments necessary for a fair presentation of the interim financial information. Operating results for the interim periods are not necessarily indicative of the results of any subsequent periods. Certain information in the footnote disclosures normally included in annual Consolidated Financial Statements prepared in accordance with U.S. generally accepted accounting principles ("GAAP") has been condensed or omitted for the interim periods presented under the United States Securities and Exchange Commission ("SEC") rules and regulations. As such, these interim Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and notes thereto contained in the Company's Annual Report on Form 10-K for the year ended June 30, 2014. Certain amounts in the current year Consolidated Financial Statements have been reclassified to conform to the classifications in the prior year Consolidated Financial Statements.

Going Concern

The Company recorded losses from continuing operations in the current period presented and has a history of losses, resulting in an accumulated deficit and negative net worth. The ability of the Company to continue as a going concern is dependent upon its ability to reverse negative operating trends, obtain revenues from operations, raise additional capital, and/or obtain debt financing.

Management has revised its business strategy to include expansion into other lines of business. In conjunction with the anticipated new revenue streams, management is currently negotiating new debt and equity financing, the proceeds from which would be used to settle outstanding debts at more favorable terms, to finance operations, and to develop its business plans. However, there can be no assurance that the Company will be able to raise capital, obtain debt financing, or improve operating results sufficiently to continue as a going concern.

The accompanying consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded assets, or the amounts and classification of liabilities that might be necessary if the Company is unable to continue as a going concern. 

NOTE 2 – DERIVATIVES AND FAIR VALUE

The Company has evaluated the application of ASC 815 to the Convertible Debenture issued November 4, 2008.  Based on the guidance in ASC 815, the Company concluded these instruments were required to be accounted for as derivatives as of July 1, 2009 due to the down round protection feature on the conversion price and the exercise price.  The Company records the fair value of these derivatives on its balance sheet at fair value with changes in the values of these derivatives reflected in the statements of operations as "Change in fair value of derivative liabilities."  These derivative instruments are not designated as hedging instruments under ASC 815 and are disclosed on the balance sheet under Derivative Liabilities.

ASC 825-10 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 825-10 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. ASC 825-10 describes three levels of inputs that may be used to measure fair value:  Level 1   – Quoted prices in active markets for identical assets or liabilities;   Level 2 – Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and   Level 3 – Unobservable inputs that are supported by little or no market activity and that are financial instruments whose values are determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant judgment or estimation. The Company's Level 3 liabilities consist of the derivative liabilities associated with the November 4, 2008 note.  At June 30, 2012, all of the Company's derivative liabilities were categorized as Level 3 fair value assets. If the inputs used to measure the financial assets and liabilities fall within more than one level described above, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument.

Level 3 Valuation Techniques

Financial assets are considered Level 3 when their fair values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable.  Level 3 financial liabilities consist of the derivative liabilities for which there is no current market for these securities such that the determination of fair value requires significant judgment or estimation.  At the date of the original transaction, the Company valued the convertible debenture that contains down round provisions using a lattice model, with the assistance of a valuation consultant, for which management understands the methodologies. This model incorporates transaction details such as the Company's stock price, contractual terms, maturity, risk free rates, as well as assumptions about future financings, volatility, and holder behavior as of July 1, 2009.  Using assumptions, consistent with the original valuation, the Company has subsequently used the Black-Scholes model for calculating the fair value, as of June 30, 2014 and 2013.   The fair value of the derivatives as of July 1, 2009 upon implementation of ASC 815-40-15 was estimated by management to be $495,912.  As part of implementing ASC 815-40-14 the Company decreased the accumulated deficit by $162,643 and decreased additional paid in capital by $212,184 and increased the discount on the convertible debenture by $446,371.  The adjustment to the accumulated deficit was a result of the interest expense recorded in connection with the original derivative liability and the reversal of prior amortization expense, and the change in fair value of the derivative liability as of July 1, 2009.   

The table below provides a summary of the changes in fair value, including net transfers in and/or out, of all financial assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the first nine months of fiscal year 2015: 

NOTE 3 – CONVERTIBLE DEBENTURES

The following table sets forth activity associated with the convertible debentures:

November 2008 Convertible Debenture

On November 4, 2008, the Company entered into a Securities Purchase Agreement, Debenture, Security Agreement, Subsidiary Guarantee Agreement, Registration Rights Agreement, Escrow Agreement, Stock Pledge Agreement and other related transactional documents (the "Transaction Documents") to obtain $1,500,000 in gross proceeds from three non-affiliated parties (collectively hereinafter referred to as the "Lenders") in exchange for 3,525,000 restricted shares of Common Stock of the Company (the "Restricted Shares") and Debentures in the principal amount aggregating $1,500,000. Each Debenture originally had a term of three years maturing on November 4, 2011 bearing interest at the rate of 8% per annum and is pre-payable by the Company at any time without penalty, subject to the Debenture holders' conversion rights.  In 2011, the Company obtained annual one year extensions of the maturity date of the Debentures through November 4, 2014. In partial consideration of such a loan extension, the Company agreed to issue to the Debenture holders warrants to purchase an aggregate of 2,000,000 shares of Common Stock exercisable at $.10 per share. These Warrants contain cashless exercise provisions in the event that there is no current registration statement filed. The maturity date was extended to November 4, 2014 in June 2013 and the conversion price per share was lowered as described below.

In recognition of the 3,525,000 shares issued at origination, the Company recorded a discount of $1,155,826.  The discount is made up of two components: $577,913 related to the discount for the relative fair value of the shares issued; and $577,913 related to a beneficial conversion feature. The discount was amortized over the 3 year life of the debenture, using the interest rate method and recorded as interest expense. Each Debenture is convertible at the option of each Lender into the Company Common Stock (the "Debenture Shares", which together with the Restricted Shares shall collectively be referred to as the "Securities") at a conversion price of $.2667 per share (the "Conversion Price").   In October 2010, the conversion price was decreased to $0.12 per share and in June 2013, the conversion price was lowered to $.06 per share.

On June 30, 2014, $1 million of the Debentures were converted into 16,666,667 common shares. The remaining $500,000 of Debentures were converted into 8,333,333 of common shares at the due date November 4, 2014, converted at $.06 per share.  The Company recorded the conversion at the fair market value of the shares at the date of conversion, off-set by the reduction of the derivative liability.

The Transaction Documents include a Stock Pledge Agreement pursuant to which Stephen Squires, the Company's Chief Executive Officer, had pledged 20,000,000 shares of our Common Stock to the Debenture holders (the "Holders"). The 20,000,000 shares which were the subject of a Pledge Agreement were released to Mr. Squires following the debt conversion described above.  

The Company had also issued shares, on a quarterly basis, for interest that has accrued on the outstanding debt.

In accounting for the above convertible debentures, the Company has recognized a derivative liability associated with the conversion feature, in the amount of $0 and $1,871,337, as of March 31, 2015 and June 30, 2014, respectively.

February 2014 Convertible Debenture

On February 6, 2014, the Company entered into a Securities Purchase Agreement, Debenture, Security Agreement, Subsidiary Guarantee Agreement, Registration Rights Agreement, Escrow Agreement, Stock Pledge Agreement and other related transactional documents (the "Transaction Documents") to obtain $400,000 in gross proceeds from two non-affiliated parties (collectively hereinafter referred to as the "Lenders") in exchange for 5,000,000 common stock warrants exercisable at $.06 per share through December 31, 2016.  The Debenture has a term of two years maturing on January 31, 2016. The Debenture bears interest at the rate of 8% per annum and is pre-payable by the Company at any time without penalty, subject to the Debenture holders' right of conversion at a conversion price of $.04 per share.  The debt is secured by a security interest in certain microreactor equipment.  Pursuant to the Securities Purchase Agreement, the investor has certain preferential rights to fund a second microreactor at a cost of up to $650,000. In the event of a second investment, the investor would receive warrants to purchase up to 8,125,000 shares, exercisable at $.06 per share with the second Debenture convertible at a conversion price of $.06 per share. The Agreement also provides for the investor to have the right to appoint one member to the Company's Board of Directors in the event that any one of the aforementioned Debentures are converted into Common Stock of the Company.

In accounting for the above convertible debentures, the Company allocated the fair value of the warrants to the proceeds received and has recognized a beneficial conversion expense of $115,603, warrant expense of $95,603 recorded as debt financing costs, and interest expense of $21,805 and $0 and for the nine months ended March 31, 2015 and 2014, respectively. The debt discount and deferred financing costs are amortized using the effective interest rate method over the life of the loan terms, twenty-four months.

In January 2015, the holders of the $400,000 convertible debenture converted the debt into 10,000,000 common shares.

September 2014 Convertible Debenture

On September 18, 2014, the Company entered into a Convertible Debenture Agreement to obtain a total of $375,050 in gross proceeds from five non-affiliated parties (collectively hereinafter referred to as the "Lenders").  An additional $125,000 was received in October through December 2014, for total loan proceeds of $500,050. The Debenture has a term of five years maturing on September 18, 2019. The Debenture bears interest at the rate of 6% per annum and is pre-payable by the Company at any time without penalty. The Debenture holders' have the right of conversion at a conversion price of $.15 per share at any date, and will receive an equal number of warrants, 3,333,667, having a strike price of $.30 per share.

In accounting for the above convertible debentures, the Company allocated the fair value of the warrants to the proceeds received and has recognized a beneficial conversion expense of $171,976, warrant expense of $203,074 recorded as debt financing costs, and interest expense of $4,073 for the nine months ended March 31, 2014. The debt discount and deferred financing costs are amortized using the effective interest rate method over the life of the loan terms, sixty months. The remaining balance was written off due to the conversion.

In October 2014, $350,000 of the Debentures were converted into 2,333,333 shares of Common Stock and a like number of warrants exercisable at $.30 per share over a term of five years. In December 2014, an additional $125,000 of the Debentures were converted into 833,334 shares and a like number of warrants exercisable at $.30 per share over a term of five years.

November 2014 Convertible Debenture

On November 25, 2014, the Company entered into a Convertible Debenture Agreement which would allow the Company to borrow as needed up to a total of $500,000 in gross proceeds from a non-affiliate party. The Debenture has a term of five years maturing on November 25, 2019. The Debenture bears interest at the rate of 6% per annum and is pre-payable by the Company at any time without penalty. The Debenture holders have the right of conversion at a conversion price of $.15 per share at any date, and will receive an equal number of warrants having a strike price of $.30 per share. As of March 31, 2015 $200,000 has been borrowed under this agreement, of which $100,000 was converted in January 2015 into 666,667 of common stock.

NOTE 4 – RELATED PARTY TRANSACTIONS

The Company expensed management fees to the CEO / major shareholder as well as other related party executives of $571,583 and $536,404 in the nine months ended March 31, 2015 and 2014, respectively.  The Company makes payments or issues shares in exchange for accrued compensation. Accrued liabilities to related party was $506,563 and $784,164 as of March 31, 2015 and June 30, 2014, respectively.

During the nine months ended March 31, 2014 the Company recorded $17,280 of rent expense for the use of executive office space in the home of the CEO / major shareholder, of which $0 was paid and $17,280 accrued.

NOTE 5 – COMMON STOCK

During the nine months ending March 31, 2015, the Company issued 7,544,134 shares of common stock for proceeds of $727,833. Additionally, investors exercised options and warrants to purchase 2,975,001 shares of common stock for cash of $172,000.

During the nine months ending March 31, 2015, the Company granted 5,977,311 common shares to consultants, at the fair market value of $1,099,783, recognized in the period as operating expense.

The Company issued 561,679 shares of common stock to a lender, in exchange for interest due, in the amount of $40,568.

In the period from October 2014 through March 2015, holders of convertible notes elected to convert debt of $1,475,000 into 22,166,667 shares of common stock. The conversions were accounted for at the fair value of the exchanged shares, net against any deferred financing costs from their agreements and recognized derivative liability associated with their carrying valuation.

NOTE 6 – LOSS PER SHARE

The Company follows ASC 260, "Earnings Per Share" for share-based payments that are considered to be participating securities within the definition provided by the standard. All share-based payment awards that contained non-forfeitable rights to dividends, whether paid or unpaid, were designated as participating securities and included in the computation of earnings per share ("EPS").

The following table sets forth the computation of basic and diluted loss per share: