10QSB 1 dlc_10-qsb.txt FORM 10-QSB FOR 09-30-2007 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-QSB [X] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______ TO _______ COMMISSION FILE NUMBER 333-07953 DYNAMIC LEISURE CORPORATION --------------------------- (Exact name of registrant as specified in its charter) Minnesota 41-1508703 --------- ---------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 5680A West Cypress Street Tampa, FL 33607 ------------------------- (Address of principal executive offices) (813) 877-6300 -------------- (Registrant's telephone number, including area code) Check whether the issuer (1) 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 [_] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ___ No _X_ As of November 19, 2007, the registrant had 15,644,495 shares of its $0.01 par value common stock outstanding. Transitional Small Business Disclosure Format: Yes [ ] No [X] DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES INDEX TO QUARTERLY REPORT ON FORM 10-QSB FOR THE FISCAL QUARTER ENDED SEPTEMBER 30, 2007 PAGE ---- PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements (Unaudited): Consolidated Balance Sheets as of September 30, 2007, and December 31, 2006 (Unaudited) ...... 1 Consolidated Statements of Operations for the three and and nine months ended September 30, 2007 and 2006 (Unaudited) .... 2 Consolidated Statement of Changes in Stockholders' Deficit for the nine months ended September 30, 2007 (Unaudited) ......... 3 Consolidated Statements of Cash Flows for the nine months ended September 30, 2007 (Unaudited) ......... 4 Notes to Consolidated Financial Statements (Unaudited) ........... 5 Item 2. Management's Discussion and Analysis or Plan of Operation ........ 37 Item 3. Controls and Procedures .......................................... 50 PART II. OTHER INFORMATION Item 1. Legal Proceedings ................................................ 51 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds ...... 52 Item 5. Other Information ................................................ 52 Item 6. Exhibits ......................................................... 52 Signatures ................................................................ 53 Exhibit Index ............................................................. 53 i DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS ASSETS SEPTEMBER 30, DECEMBER 31, 2007 2006 (UNAUDITED) ------------ ------------ Current Assets Cash ........................................... $ 213,215 $ 203,911 Investments, restricted ........................ 127,097 127,842 Accounts receivable, net of an allowance of $5,551 and $5,551 ............... 163,126 139,321 Prepaid travel ................................. 592,051 515,061 Other current assets ........................... 58,591 78,190 ------------ ------------ Total Current Assets ......................... 1,154,080 1,064,325 ------------ ------------ Property and equipment, net ...................... 967,895 1,076,669 ------------ ------------ Other Assets Goodwill ....................................... 2,902,196 2,902,196 Intangible assets, net ......................... 3,750,968 4,307,505 Deposits ....................................... 100,595 99,735 Debt issue costs, net .......................... 311,358 94,022 ------------ ------------ Total Other Assets ........................... 7,065,117 7,403,458 ------------ ------------ Total Assets ................................. $ 9,187,092 $ 9,544,452 ============ ============ LIABILITIES AND STOCKHOLDERS' DEFICIT Current Liabilities Convertible promissory notes, net of discount of $527,552 and $266,471 ............ $ 3,828,240 $ 2,046,187 Notes payable, current portion ................. 386,588 386,245 Acquisitions payable ........................... 1,288,793 1,440,000 Convertible promissory note to related party ... 350,000 - Accounts payable ............................... 1,712,850 752,152 Accounts payable to related parties ............ 261,643 65,930 Accrued compensation ........................... 59,269 74,707 Accrued interest ............................... 687,056 652,823 Other accrued liabilities ...................... 232,959 294,271 Capital lease obligation ....................... 36,893 34,152 Deferred revenue and customer deposits ......... 1,250,077 1,276,913 Due to employee ................................ 110,000 50,000 Warrant and option liability ................... 2,697,044 5,419,729 Embedded conversion option liability ........... 3,458,891 667,076 ------------ ------------ Total Current Liabilities .................... 16,360,303 13,160,185 ------------ ------------ Long-Term Liabilities Convertible promissory notes, net of current portion, net of discount of $1,612,480 and $624,671 ................... 697,520 2,225,329 Convertible promissory note to related party ... - 350,000 Notes payable, net of current portion .......... - 343 Capital lease obligation, net of current portion 49,584 73,448 ------------ ------------ Total Long-Term Liabilities .................. 747,104 2,649,120 ------------ ------------ Total Liabilities ............................ $ 17,107,407 $ 15,809,305 ------------ ------------ Commitments and Contingencies (Note 13) Stockholders' Deficit Preferred stock, $0.01 par value, 20,000,000 shares authorized, none issued and outstanding .................. $ - $ - Common stock, $0.01 par value, 300,000,000 shares authorized, 14,844,495 and 12,101,195 issued and outstanding ....................... 148,445 121,012 Common stock issuable, at par value (130,000 shares) ............................. 1,300 1,300 Additional paid-in capital, net of deferred consulting fees of $51,536 .......... 7,487,696 5,107,537 Accumulated deficit ............................. (15,557,756) (11,494,702) ------------ ------------ Total Stockholders' Deficit .................. (7,920,315) (6,264,853) ------------ ------------ Total Liabilities and Stockholders' Deficit .. $ 9,187,092 $ 9,544,452 ============ ============ See accompanying notes to the unaudited consolidated financial statements. 1 DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTHS ENDED FOR THE NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------------- --------------------------- 2007 2006 2007 2006 (unaudited) (unaudited) (unaudited) (unaudited) ------------ ------------ ------------ ------------ Total revenues ................................ $ 2,162,863 $ 1,299,505 $ 6,178,058 $ 4,307,315 Cost of revenues .............................. 1,778,193 876,138 5,020,066 3,041,475 ------------ ------------ ------------ ------------ Gross Profit ................................ 384,670 423,367 1,157,992 1,265,840 Operating Expenses Employee Compensation ....................... 546,874 592,152 1,626,068 1,615,230 Financial consulting, includes $84,750, $663,576, $388,016 and $705,612 stock-based compensation .................. 120,786 702,777 591,950 805,282 Legal expense ............................... 51,478 50,412 155,937 76,323 Depreciation and amortization expense ....... 292,141 336,221 760,089 420,782 Internal accounting and external auditing expense ................................... 83,555 142,949 291,405 489,736 Director fees, includes $54,116, $270,000, $227,348 and $270,000 stock-based compensation .............................. 54,116 272,000 251,464 272,000 Investor relations, includes $73,714, $157,100, $387,514 and $157,100 stock-based compensation .............................. 77,735 157,100 463,627 183,100 Other general and administrative expenses .. 300,408 235,281 1,168,154 992,340 ------------ ------------ ------------ ------------ Total Operating Expenses .................. 1,527,093 2,488,892 5,308,694 4,854,793 ------------ ------------ ------------ ------------ Loss from Operations ...................... (1,142,423) (2,065,525) (4,150,702) (3,588,953) Other Income (Expense) Interest income ............................. 746 2,668 2,246 15,710 Interest expense, includes $705,841, $1,111,633, $1,744,732 and $2,688,414 in debt discount amortization ............. (1,193,809) (1,333,589) (2,749,494) (3,518,484) Loss on extinguishment of debt .............. - - (76,635) (208,452) Warrant and option valuation income ......... 7,365,323 817,101 5,103,208 38,550 Embedded conversion option valuation (expense) ................................... (1,608,632) - (2,191,815) - Loss on disposal of fixed assets ............ - (42,667) - (42,667) Other income (expense) ...................... - - 138 (8,020) ------------ ------------ ------------ ------------ Total Other Income (Expense), net ......... 4,563,628 (556,487) $ 87,648 $ (3,723,363) ------------ ------------ ------------ ------------ Net Income (Loss) ......................... $ 3,421,205 $ (2,622,012) $ (4,063,054) $ (7,312,316) ============ ============ ============ ============ Net Income (Loss) per Share: Basic ....................................... $ 0.24 $ (0.24) $ (0.30) $ (0.77) ============ ============ ============ ============ Diluted ..................................... $ 0.04 $ (0.24) $ (0.30) $ (0.77) ============ ============ ============ ============ Weighted average number of shares outstanding during the period: Basic ................................... 14,574,930 10,925,261 13,585,651 9,543,607 ============ ============ ============ ============ Diluted ................................. 37,083,376 10,925,261 13,585,651 9,543,607 ============ ============ ============ ============ See accompanying notes to the unaudited consolidated financial statements. 2
DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' DEFICIT For the Nine Months Ended September 30, 2007 (UNAUDITED)
Additional Common Stock Paid In Accumulated Total Common Stock Issuable Capital Deficit Stockholders' --------------------- ---------------- ---------- ------------ Equity Shares Amount Shares Amount Amount Amount (Deficit) ---------- -------- ------- ------ ---------- ------------ ------------- BALANCE AT DECEMBER 31, 2006 12,101,195 $121,012 130,000 $1,300 $5,107,537 $(11,494,702) $(6,264,853) Common stock issued in promissory note conversion ....... 1,090,000 10,900 - - 1,167,465 - 1,178,365 Common stock issued in warrant exercise ......... 33,300 333 - - 22,167 - 22,500 Common stock issued for services ......... 1,120,000 11,200 - - 945,964 - 957,164 Common stock issued in notes payable waiver agreement . 500,000 5,000 - - 135,000 - 140,000 Value of options issued for services ......... - - - - 24,116 - 24,116 Reclassification from warrant and option liability ........ - - - - 85,447 - 85,447 Net Income (Loss) .. - - - - - (4,063,054) (4,063,054) ---------- -------- ------- ------ ---------- ------------ ----------- BALANCE AT SEPTEMBER 30, 2007 14,844,495 $148,445 130,000 $1,300 $7,487,696 $(15,557,756) $(7,920,315) ========== ======== ======= ====== ========== ============ =========== See accompanying notes to the unaudited consolidated financial statements. 3
DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE NINE FOR THE NINE MONTHS ENDED MONTHS ENDED SEPTEMBER 30, 2007 SEPTEMBER 30, 2006 ------------------ ------------------ (unaudited) (unaudited) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) ........................................ $(4,063,054) $(7,312,316) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation ......................................... 108,774 36,697 Amortization of intangible assets .................... 556,537 258,526 Amortization of debt issue costs ..................... 94,778 125,559 Loss on extinguishment of debt ....................... - 208,452 Amortization of debt discount to interest expense .... 1,744,732 3,131,379 Common stock and warrants for services ............... 1,053,628 965,676 Common stock for debt waiver ......................... 140,000 - Embedded conversion option valuation expense ......... 2,191,815 - Warrant and option valuation income .................. (5,103,208) (38,550) Loss on disposal of assets ........................... - 42,667 (Increase) decrease in assets and liabilities: Accounts receivable .................................. (23,805) 260,561 Prepaid assets ....................................... (76,990) (89,754) Other assets ......................................... 18,739 (111,947) Accounts payable ..................................... 1,156,411 291,396 Accrued expenses ..................................... 578,982 277,418 Deferred revenue and customer deposits................ (26,836) (427,310) ----------- ----------- Net Cash Used In Operating Activities ................ (1,649,497) $(2,381,546) ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Change in investments .................................... 745 (44,200) Acquisition of property and equipment .................... - (35,768) Acquisition of business .................................. - (41,077) ----------- ----------- Net Cash Provided BY (Used In) Investing Activities .. 745 (121,045) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from convertible promissory notes ............... 2,060,000 2,310,000 Repayment of convertible promissory notes ................ - (345,158) Proceeds from overdraft .................................. - (232) Proceeds from line of credit ............................. - 75,214 Repayments of notes payable .............................. - (1,848) Proceeds from employee advances .......................... 60,000 - Debt issue costs ......................................... (312,114) (202,223) Repayment of acquisition payable ......................... (151,207) - Repayment of capital leases .............................. (21,123) (447) Proceeds from common stock issuance ...................... 22,500 923,156 ----------- ----------- Net Cash Provided By Financing Activities ............ 1,658,056 2,758,462 ----------- ----------- Net Increase in Cash ....................................... 9,304 255,871 Cash at Beginning of Period ................................ 203,911 38,699 ----------- ----------- Cash at End of Period ...................................... $ 213,215 $ 294,570 =========== =========== Supplemental disclosure of cash flow information: Cash paid during the period for income taxes ............. $ - $ - =========== =========== Cash paid during the period for interest ................. $ 147,532 $ 91,943 =========== =========== Supplemental Disclosure of non-cash investing and financing activities: Debt and stock issue in acquisitions ..................... $ - $ 6,173,980 =========== =========== Assets received on capital lease ......................... $ - $ 116,540 =========== =========== Discount on promissory notes ............................. $ 2,993,622 $ 2,030,202 =========== =========== Conversion option liability related to promissory note ... $ 600,000 $ 1,954,950 =========== =========== Reclassification of FV of warrants and options from equity $ 85,447 $ - =========== =========== Promissory notes converted to common stock ............... $ 825,000 $ 725,000 =========== =========== Accrued interest converted to promissory note principal .. $ 268,134 $ 61,652 =========== =========== See accompanying notes to the unaudited consolidated financial statements. 4
DYNAMIC LEISURE CORPORATION AND SUBSIDIARIES UNAUDITED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS September 30, 2007 (UNAUDITED) NOTE 1 NATURE OF OPERATIONS Nature of Business The Company is engaged in the business of marketing, selling and distributing vacation packages that include cruises, domestic and international airline tickets, car rental services and accommodation products and services on a wholesale basis to travel agencies and other travel resellers and on a retail basis directly to consumers. The Company also sells certain stand-alone travel products on an agency basis. For the quarter and nine months ended September 30, 2007, substantially all of the Company's travel products were for destinations in the Caribbean and Mexico. NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and the rules and regulations of the United States Securities and Exchange Commission for interim consolidated financial information. Accordingly, they do not include all the information and footnotes necessary for a comprehensive presentation of consolidated financial position and results of operations. It is management's opinion, however, that all material adjustments (consisting of normal recurring adjustments) have been made which are necessary for a fair consolidated financial statement presentation. The results for the interim period are not necessarily indicative of the results to be expected for the year. All share and per share data in the accompanying consolidated financial statements have been adjusted retroactively for the effect of a recapitalization transaction between Dynamic Leisure Corporation ("Dynamic," "we," "us," "our" or "the Company") (formerly, DynEco Corporation), and Dynamic Leisure Group, Inc. ("DLG") in January 2006 and a subsequent one-for-thirty reverse stock split (see Note 12). For further information, refer to the Form 10-KSB for Dynamic Leisure Corporation for the year ended December 31, 2006. Principles of Consolidation The consolidated financial statements include the accounts of Dynamic and its subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. Reclassifications Certain amounts in the 2006 financial statements have been reclassified to conform with the 2007 presentation. Use of Estimates Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). These accounting principles require us to make certain estimates, judgments and assumptions. We believe that the estimates, judgments and assumptions upon which we rely are reasonable based upon information available to us at the time that these estimates, judgments and assumptions are made. 5 These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities as of the date of our consolidated financial statements as well as the reported amounts of revenues and expenses during the periods presented. Our consolidated financial statements would be affected to the extent there are material differences between these estimates and actual results. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management's judgment in its application. There are also areas in which management's judgment in selecting any available alternative would not produce a materially different result. Significant estimates in 2007 and 2006 include the valuation of accounts receivable, valuation of goodwill, valuation and amortization of intangible assets, valuation of stock based transactions, valuation of derivatives, estimates of allowances for customer refunds and the estimate of the valuation allowance on deferred tax assets. Cash and Cash Equivalents For the purpose of the cash flow statement, the Company considers all highly liquid investments with original maturities of three months or less at the time of purchase to be cash equivalents. In addition, receivables from merchant banks for credit card transactions are included as cash equivalents as they are considered deposits in transit. Credit card receivables included in cash and cash equivalents at September 30, 2007, and December 31, 2006 were $30,360 and $20,769, respectively. The Company places its cash with a financial institution and, at times, such deposits may be in excess of the FDIC insurance limit. At September 30, 2007, the Company had one such amount that was in excess of such limits by $145,442; however, the Company has not experienced any losses on such accounts to date. Accounts Receivable Accounts Receivable result from either the sale of travel products or agreements with various hotels, including co-op advertising support. The Company evaluates the collectibility of accounts receivable while working with its individual customers and vendors. A majority of the accounts receivable for travel products are collected prior to travel departure. Prepaid Travel The Company is required to pay for certain travel (mainly airlines and hotels) in advance. Payments made to these vendors in advance are recorded as an asset in the prepaid travel account. The Company recognizes the expense when the associated revenue is recognized. Property and Equipment Property and equipment is stated at cost. Depreciation is computed using the straight-line method and is expensed based upon the estimated useful lives of the assets which ranges from three to seven years. Expenditures for additions and improvements are capitalized, while repairs and maintenance are expensed as incurred. Goodwill and Other Intangibles The Company accounts for goodwill in a purchase business combination as the excess of the cost over the fair value of net assets acquired. Business combinations can also result in other intangible assets being recognized. Amortization of intangible assets, if applicable, occurs over their estimated useful lives. Statement of Financial Accounting Standard No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142") requires testing goodwill for impairment on an annual basis (or interim basis if an event occurs that might reduce the fair value of a reporting unit below its carrying value). The Company conducts the annual review during the fourth quarter of the calendar year. No impairment was recognized during the nine months ended September 30, 2007. 6 Letters of Credit and Restricted Investments At September 30, 2007, the Company had two outstanding letters of credit totaling approximately $112,100 payable to the Airlines Reporting Corporation (ARC), which allows the Company to purchase airline tickets through ARC's computerized ticket system. The terms of the letter of credit agreements require the Company to maintain certificates of deposit with the issuer of the letters of credit in the amount of the letters of credit. These certificates of deposit are reflected as short-term investments, restricted, on the accompanying balance sheet. Short-term investments at September 30, 2007, also includes $10,000 restricted to cover a letter of credit for a seller of travel license. Deferred Revenue And Customer Deposits Deferred revenue and customer deposits primarily represents money received from customers as either a deposit on, or full payment for, trips not yet traveled or services not yet earned. Revenue Recognition The Company follows the criteria for the United States Securities and Exchange Commission Staff Accounting Bulletin 104 and EITF 99-19 "Reporting Revenue Gross as a Principal versus Net as an Agent" for revenue recognition. The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery of product has occurred, the sales price is fixed or determinable, and collectibility is reasonably assured. The Company records merchant sales transactions at the gross purchase price generally on the date of travel. The Company considers a transaction to be a "merchant sales transaction" where the Company is the primary obligor to the customer and the Company acts as the merchant of record in the package transaction, which consists of several products from different vendors. In these transactions the Company also controls selling prices, and is solely responsible for making payments to vendors. The Company records transactions at the net purchase price where the Company is not the merchant of record or the product is not sold as a package. The Company records revenue and related costs of products when travel occurs or, for certain products, when the service is completed. It is the Company's policy to be paid by the customer in advance, with monies received in advance of travel recorded as a deferred revenue liability. The Company may receive cash or hotel room credits in exchange for providing cooperative advertising for its vendors. The Company records accounts receivable for these amounts and offsets the applicable advertising expense. Once the advertising expense is reduced to zero, any excess cooperative advertising fees are recorded as revenue. Advertising Costs The Company expenses advertising costs as incurred. During the nine months ended September 30, 2007 and 2006, the Company's advertising expense totaled $29,761 and $15,367, respectively. Accounting for Derivatives The Company evaluates its convertible debt, options, warrants or other contracts to determine if those contracts or embedded components of those contracts qualify as derivatives to be separately accounted for under Statement of Financial Accounting Standards 133 "Accounting for Derivative Instruments and Hedging Activities" and related interpretations including EITF 00-19 "Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock". 7 The result of this accounting treatment is that the fair value of the embedded derivative is marked-to-market each balance sheet date and recorded as a liability. If the fair value is recorded as a liability, the change in fair value is recorded in the consolidated statement of operations as other income or expense. Upon conversion or exercise of a derivative instrument, the instrument is marked to fair value at the conversion date and its fair value is reclassified to equity. Equity instruments that are initially classified as equity that become subject to reclassification under SFAS 133 are reclassified to liability at the fair value of the instrument on the reclassification date. Stock-Based Compensation On January 1, 2006, the Company implemented Statement of Financial Accounting Standard 123 (revised 2004) ("SFAS 123(R)"), "Share-Based Payment" which replaced SFAS 123 "Accounting for Stock-Based Compensation" and superseded APB Opinion No. 25 "Accounting for Stock Issued to Employees." SFAS 123(R) requires the fair value of all stock-based employee compensation awarded to employees to be recorded as an expense over the related vesting period. The statement also requires the recognition of compensation expense for the fair value of any unvested stock option awards outstanding at the date of adoption. The Company had no unvested stock option awards on January 1, 2006. In adopting SFAS 123(R), the Company used the modified prospective application ("MPA"). MPA requires us to account for all new stock compensation to employees using fair value. There was no cumulative effect of applying SFAS 123(R) at January 1, 2006. Concentration of Credit Risk and Other Concentrations Nearly all of the Company's travel products sold year-to-date in 2007 and in 2006 were for destinations in the Caribbean and Mexico. This concentration potentially exposes us to both political and weather risks of this region. The Company has a diverse US customer base, including consumers purchasing products through travel agencies and purchasing directly via the Internet. The Company has very little credit risk since the vast majority of its travel products are paid for in advance. The Company has negotiated contracts with airlines that allow the Company to price certain products more favorably than its competitors. The loss of such contracts could have a negative effect on the Company. Income Taxes The Company accounts for income taxes under the Financial Accounting Standards No. 109 "Accounting for Income Taxes" ("Statement 109"). Under Statement 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under Statement 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period, which includes the enactment date. 8 Basic and Diluted Net Income (Loss) Per Share Basic net income (loss) per common share (Basic EPS) excludes dilution and is computed by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted net income per share (Diluted EPS) reflects the potential dilution that could occur if stock options or other contracts to issue common stock, such as convertible notes, were exercised or converted into common stock. Diluted loss per share for the three months ended September 30, 2006, and the nine months ended September 30, 2007 and 2006, does not include potential common shares as their effect would be anti-dilutive. The following is a reconciliation of basic net income per share to diluted net income per share for the three months ended September 30, 2007: Earnings per share from continuing operations: --------------------------------------------- Income from continuing operations ............................. $ 3,421,205 Preferred stock dividends ..................................... - ------------ Income from continuing operations applicable to common stock .. 3,421,205 Effect of dilutive securities: Interest expense including debt discount amortization ....... (659,953) Warrant/option valuation income ............................. (2,776,193) Embedded conversion option valuation expense ................ 1,608,632 ------------ Income - diluted .............................................. $ 1,593,691 ============ Earnings per share: Basic income per share ...................................... $ 0.24 ============ Diluted income per share .................................... $ 0.04 ============ Weighted average common shares outstanding - basic ............ 14,574,930 Potential shares exercisable - warrants ....................... 3,027,027 Potential shares exercisable - convertible notes .............. 19,481,419 ------------ Weighted average shares outstanding - diluted ................. 37,083,376 ============ Potential shares excluded from above weighted average share calculations due to their anti-dilutive effect include: ----------------------------------------------------------- Upon exercise of plan options .................................. 99,762 Upon exercise of non-plan options .............................. 850,000 Upon exercise of warrants ...................................... 17,389,686 Upon conversion of convertible promissory notes ................ 7,564,268 Upon conversion of convertible promissory notes - related party 388,889 Fair Value of Financial Instruments Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments," requires disclosures of information about the fair value of certain financial instruments for which it is practicable to estimate the value. For purpose of this disclosure, the fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced sale or liquidation. The Company's financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, notes payable and capital leases. The fair values of cash, accounts receivable, accounts payable and accrued liabilities approximated carrying values due to the short-term nature of these instruments. Fair values for notes payable and capital leases are not readily available, but the carrying values are believed to approximate fair value. 9 NOTE 3 GOING CONCERN For the nine months ended September 30, 2007, the Company had a loss from operations of $4,150,702, used net cash in operations of $1,649,497, a working capital deficiency of $15,206,223, and a stockholders' deficiency of $7,920,315. In addition, the Company is in default on convertible promissory notes totaling $1,482,500 and unsecured promissory notes of $156,434 as of November 19, 2007. These matters raise substantial doubt about our ability to continue as a going concern. Because the Company has not yet achieved or acquired sufficient operating capital and given these financial results along with the Company's expected cash requirements in 2007, additional capital investment will be necessary to develop and sustain the Company's operations. As of September 30, 2007, the Company had $6,665,792 in outstanding Convertible Notes payable to third parties (see Note 6) including the notes in default as described above, which are convertible into 27,045,687 shares of the Company's common stock. While the Company expects substantially all of these note holders to convert the Notes into shares of the Company's common stock, there is no guarantee that this will occur. As of September 30, 2007, the Company did not have adequate working capital to meet these obligations with cash payments. Management believes that its plans to raise additional capital will allow for adequate funding of the Company's cash requirements through December 31, 2007, although there is no assurance regarding this belief or that the Company will be successful in these efforts. The financial statements do not contain any adjustments, which might be necessary if the Company is unable to continue as a going concern. NOTE 4 PROPERTY AND EQUIPMENT Property and equipment consisted of the following: Estimated Useful Life September 30, December 31, in Years 2007 2006 ----------- ------------ ------------ Office furniture and equipment .. 3-5 $ 165,770 $ 165,770 Software ........................ 5-7 957,850 37,753 Software in development ......... - 920,097 ----------- ----------- Total property and equipment .... $ 1,123,620 $ 1,123,620 Less accumulated depreciation ... (155,725) (46,951) ----------- ----------- Property and equipment, net ..... $ 967,895 $ 1,076,669 =========== =========== Depreciation expense was $108,774 for the nine months ended September 30, 2007. Software in Development consists of the purchase of worldwide rights and source code to TourScape, proprietary software for use in the wholesale travel industry, for $500,000 and the purchase of third party database software and related implementation costs of $420,097. The software was fully operational upon purchase and accordingly is capitalizable as internal use software pursuant to Statement of Position 98-1 "Accounting for Costs of Computer Software Developed or Obtained for Internal Use" (SOP 98-1). The Company completed its implementation of the software and placed it in service on March 31, 2007. The Company amortizes this software over seven years. If the Company determines at a future date to sell or license the software, proceeds received from the license of the software, net of direct incremental costs of marketing, will be applied against the carrying value of the software in accordance with SOP 98-1. 10 NOTE 5 INTANGIBLE ASSETS Intangible assets at September 30, 2007, are as follows: Accumulated Net Book Life Cost Amortization Value ---------------------------- -------- ---------- ------------ ---------- Airline contracts .......... 7 yrs. $2,820,000 $ 548,338 $2,271,662 Hotel contracts ............ 7 yrs. 422,500 66,512 355,988 URLs ....................... 10 yrs. 1,011,000 134,659 876,341 Mailing list ............... 3 yrs. 150,000 16,072 133,928 General service agreement .. 2.5 yrs. 348,413 235,364 113,049 ---------- ---------- ---------- $4,751,913 $1,000,945 $3,750,968 ========== ========== ========== Amortization expense for the nine months ended September 30, 2007 totaled $556,537. Amortization of intangible assets in future years is expected to be as follows: 2007 $ 746,496 (includes $556,537 recognized for nine months ended 9/30/07) 2008 $ 607,132 2009 $ 607,132 2010 $ 607,132 2011 $ 607,132 Thereafter $ 1,132,481 NOTE 6 CONVERTIBLE NOTES PAYABLE WITH WARRANTS, NOTES PAYABLE, LOANS PAYABLE AND CAPITAL LEASES PAYABLE Convertible Promissory Notes ---------------------------- Convertible notes consisted of the following at September 30, 2007:
Original Debt Discount Components ------------------------------------ Cumulative Beneficial Amortization Interest Balance Notes Balance Conversion Warrant As Of Rate 12/31/2006 Converted Borrowings 9/30/2007 Feature Liability Total 9/30/2007 -------- ---------- --------- ---------- ---------- ---------- ---------- ---------- ------------ 9% (S) $1,450,000 $ - $ - $1,450,000 $1,208,332 $ - $1,208,332 $ 1,208,332 9% (S) 600,000 (600,000) - - 480,000 - 480,000 480,000 10% (S) 2,250,000 - - 2,250,000 206,618 3,296,324 3,502,942 2,975,390 5% (U) 155,158 (150,000) 268,134 273,292 77,372 232,944 310,316 310,316 10% (U) 10,000 - - 10,000 - - - - 10% (U) 75,000 (75,000) - - - - - - 10% (U) 10,000 - - 10,000 50,000 - 50,000 50,000 10% (U) 12,500 - - 12,500 - - - - 6% (S) 600,000 - 400,000 1,000,000 400,000 600,000 1,000,000 417,743 8% (U) - - 150,000 150,000 - - - - 10% (U) - - 50,000 50,000 50,000 - 50,000 50,000 10% (U) - - 150,000 150,000 150,000 - 150,000 150,000 12% (S) - - 1,310,000 1,310,000 - 1,127,500 1,127,500 97,277 ---------- --------- ---------- ---------- ---------- ---------- ---------- ------------ $5,162,658 $(825,000) $2,328,134 $6,665,792 $2,622,322 $5,256,768 $7,879,090 $ 5,739,058 ========== ========= ========== ========== ========== ========== ========== ============
(S) - Secured (U) - Unsecured 11 Unamortized Net Book Principal Discount Value ----------- ----------- ----------- Current maturities ....... $ 4,355,792 $ 527,552 $ 3,828,240 Long-term portion ........ 2,310,000 1,612,480 697,520 ----------- ----------- ----------- Total .................... $ 6,665,792 $ 2,140,032 $ 4,525,760 =========== =========== =========== Terms and Original Debt Discount Assumptions:
Original Warrant and Option Liability Convertible Promissory Notes Black-Scholes Valuation Assumptions ---------------------------------------------------------------------- --------------------------------------------------- Interest Balance Unamortized Maturity Conversion Exercise Expected Vola- Discount Rate 6/30/2007 Discount Date Payments Price Shares Price Life(Yr) tility Rate -------- ---------- ----------- -------- -------- ---------- --------- -------- -------- ------ -------- 9% (S) $1,450,000 $ - 3/6/07 (A) $1.50 - $ - - - - 10% (S) 2,250,000 527,552 3/5/08 (C) 1.00 2,000,000 1.00 3.0 271% 5.07% - - - - - (D) 1.00 250,000 1.00 2.25 142% 5.03% - - - - - (E) 1.00 3,000,000 1.50 3.0 190% 4.60% 5% (U) 273,292 - 12/4/07 (F) 0.75 304,000 0.90 3.0 354% 3.96% 10% (U) 10,000 - 6/30/06 (G) 0.90 - - - - - 10% (U) 10,000 - 6/30/06 (G) 0.90 - - - - - 10% (U) 12,500 - 6/30/06 (G) 0.90 - - - - - 6% (S) 1,000,000 582,257 10/25/09 (H) (H) 5,000,000 1.50 3.0 154% 4.58% 8% (U) 150,000 - 12/1/07 (I) 1.00 - - - - - 10% (U) 50,000 - 6/29/09 (J) (J) 132,979 0.376 0.3 218% 4.94% 10% (U) 150,000 - 6/29/09 (J) (J) 398,936 0.376 0.3 218% 4.94% 12% (S) 1,310,000 1,030,223 6/29/09 (K) (K) 3,000,000 0.85 2.0 218% 4.89% ---------- ----------- $6,665,792 $ 2,140,032 ========== ===========
(A) - This note went into default for nonpayment on its maturity date. (B) - Not used. (C) - Maturity date of note was extended on March 5, 2007 to March 5, 2008. (D) - Relates to $250,000 additional borrowings from MMA on 9/20/2006 and part of the original $2,000,000 convertible note payable. (E) - Relates to Note Modification Agreement for issuance of warrants to purchase 3,000,000 shares of the Company's common stock. (F) - This note was modified on June 4, 2007, whereby the note's maturity date was extended to December 4, 2007, interest rate reduced to 5% per annum, all accrued interest was added to the principal balance and $150,000 of the note balance was converted into 200,000 shares of common stock. (G) - Balance is past due and loan is in default. The Company is in negotiations to extend the maturity date or have the note converted. (H) - Balance is due on the maturity date plus all accrued interest. The debt is convertible at a 45% discount to market or $0.09 per share as of September 30, 2007. (I) - On October 25, 2007, the Company extended the maturity date of this debt to December 1, 2007. (J) - Balance is due at maturity plus all accrued interest. The debt is convertible at the lower of $0.23 per share or 80% of the lowest daily closing bid price of the Company's common stock for five (5) trading days immediately prior to conversion. (K) - Balance is due at maturity plus all accrued interest. The debt is convertible at the lower of $0.23 per share or 80% of the lowest daily closing bid price of the Company's common stock for five (5) trading days immediately prior to conversion. 12 All debt discounts are amortized over the terms of the respective Notes. The amortization of the debt discount was $1,744,732 and $2,688,414 for the nine months ended September 30, 2007 and 2006, respectively, and was included in interest expense in the accompanying consolidated financial statements. In total as of November 19, 2007, the Company was in default on third-party convertible promissory notes of $1,482,500. April 2007 - Miller Note ------------------------ On April 16, 2007, the Company issued unsecured convertible promissory notes in the principal amount totaling $150,000 to Miller Investments, LLC. The notes bear interest at 8% per annum and matured on August 13, 2007. On October 25, 2007, the Company entered into an agreement with Miller Investments to extend the maturity date on the Note from August 15, 2007 to December 15, 2007. In consideration for this loan extension, the Company agreed to issue Miller Investments 150,000 shares of the Company's common stock valued at $34,500 or $0.23 per share (the closing market price of the Company's common stock on the day of issuance). This value will be recorded as debt discount and amortized to interest expense over the extended term of the loan. At the option of the holder, the notes are convertible at any time into shares of the Company's common stock at the lesser of (i) $1.00 per share or (ii) the price per share paid by investors in the Company's next financing transaction. The Holder is entitled to piggyback registration rights, subject to certain limitations as described in the notes. In addition, the Company has granted the holder the right to purchase additional notes from the Company in the principal amount of $150,000 on the same terms and conditions within thirty (30) days after the date of the notes. June 2007 - Pisani and Seaside Capital Notes -------------------------------------------- On June 15, 2007, the Company issued unsecured convertible promissory notes in the principal amount totaling $50,000 and $150,000 to Michael Pisani and Seaside Capital II, LLC, respectively. The terms of these notes were structured so that if in the event the Company consummated an equity or debt financing, prior to the maturity date of October 15, 2007, pursuant to which it sells shares of its common stock (or securities convertible into or exercisable for shares of its common stock) with an aggregate sales price of not less than $1,000,000, excluding these notes (a "Qualified Financing"), then the outstanding principal amount of and all accrued interest under these notes shall automatically convert into securities identical to and at the same price and on the same terms as the securities issued in the Qualified Financing. On July 11, 2007, the Company consummated a Qualified Financing with Trafalgar Capital Specialized Investment Fund, Luxembourg ("Trafalgar"), and the Qualified Financing was later amended on August 1, 2007. As a result, the terms of these notes are identical to the convertible debentures issued to Trafalgar, as amended. The notes, as conformed to the Trafalgar debentures, mature on June 29, 2009, bear interest at 12% per annum, compounded monthly (9.5% after effectiveness of a Registration Statement required under the Trafalgar agreement) and are convertible into common stock at the lesser of (a) $0.23 per share or (b) an amount equal to 80% of the lowest daily closing bid price of the Company's common stock, as quoted by Bloomberg, LP, for the five (5) trading days immediately prior to conversion. The Company has the right to redeem the debenture at 120% of principal and accrued and unpaid interest. 13 MMA Capital, LLC Convertible Debt --------------------------------- On January 13, 2006, the Company issued a Secured Convertible Promissory Note with the principal balance of $2,000,000 to MMA Capital, LLC ("MMA"). As described below, on September 20, 2006, the parties amended this Note to increase the principal amount by $250,000 to a total of $2,250,000. On August 16, 2006, the Company entered into an agreement with MMA to defer interest payments due on the Note each quarter until January 11, 2007, the maturity date of the loan. On March 5, 2007, the maturity date of this note was extended to March 5, 2008. In consideration for this August 16, 2006 deferral, the Company agreed to increase the interest rate retroactively from 8% to 10% and to issue MMA 100,000 shares of the Company's common stock. In accordance with EITF 96-19, this transaction was treated as a modification of debt since the extra consideration given in the agreement did not amount to more than a ten percent change in the present value of the amount due to MMA over the life of the promissory note. As a result, the increase in interest rate and the additional consideration will be accounted for prospectively from the date of the modification. At the option of the holder, the outstanding principal amount of the Note and accrued but unpaid interest may be converted into shares of the Company's common stock at the conversion rate of $1.00 per share, subject to adjustment in the event the Company issues shares for a consideration less than $1.00 per share and to reflect the occurrence of forward or reverse stock splits, corporate reorganizations or certain other corporate events. In connection with this transaction, the Company agreed to file a registration statement under the Securities Act of 1933, as amended, (the "Act") to register the shares issuable upon conversion of the Note. It constitutes an event of default under the Note and subjects the Company to liquidated damages if the Company does not complete an effective registration statement within 180 days of the effective date of the execution of a common stock subscription agreement, which would be executed when the lender provides notice of conversion of all or a portion of the debt, and if the Company does not maintain that effective registration statement for at least 90 days. For each week of non-compliance, liquidated damages are 2% of the product of (a) the sum of the holder's shares of stock not registered on a timely basis and (b) the weekly average closing price of the shares of the Company's common stock. The Company's obligations under the promissory note are collateralized by a security interest in substantially all of the Company's assets. In connection with the transaction, the Company issued to MMA a warrant to purchase up to 2,000,000 shares of the Company's common stock at an exercise price of $1.00 per share. The warrant is exercisable for a period of three years and the number of warrant shares and the exercise price are subject to adjustment in the event the Company issues shares for a consideration less than $1.00 per share and to reflect the occurrence of forward or reverse stock splits, corporate reorganizations or certain other corporate events. If, at the time of exercise, there is not an effective registration statement covering the sale of the shares issuable upon exercise of the warrant, the warrant holder may exercise the warrant on a cashless basis, whereby the holder surrenders a portion of the warrants in lieu of paying the exercise price in cash. A finder's fee equal to 8% of the proceeds ($160,000) was paid in cash to Forte Capital Partners LLC, in connection with the transaction. The transaction was exempt from the registration requirements of the Act by reason of Section 4(2) as a transaction by an issuer not involving any public offering. The $160,000 was recorded as a deferred debt issuance cost asset and is being amortized over the debt term. 14 On September 20, 2006, the Company and MMA entered into a Second Modification of Secured Convertible Promissory Note, pursuant to which the principal of the Note was increased by $250,000 to $2,250,000. Further, on September 20, 2006, the Company and MMA entered into a Modification of Warrant to Purchase Shares of Common Stock, pursuant to which the number of warrant shares was increased by 250,000 shares to 2,250,000 shares. On March 5, 2007, the Company entered into a Settlement Agreement with MMA pursuant to which in consideration for the Company's issuance to MMA of a warrant exercisable for 3,000,000 shares of the Company's Common Stock with an exercise price of $1.50 per share (the "MMA Warrant"), MMA agreed to (i) extend the maturity date of the Company's outstanding promissory note payable to MMA to March 5, 2008; and (ii) to dismiss its action against the Company filed on November 22, 2006 in the United States District Court for the Northern District of California entitled MMA Capital, LLC v. Dynamic Leisure Corporation, Case No. C 06 7263 CRB (the "Action") with prejudice and to fully and finally waive all contract breaches alleged in the Action. The fair value of the warrant to purchase 3,000,000 shares of the Company's common stock of $1,266,122 was recorded as debt discount and warrant liability on the Company's consolidated balance sheet and the debt discount is being amortized over the remaining term of the promissory note. In addition, with respect to the registration statement on Form SB-2 filed with the Commission on December 18, 2006 (Commission File No. 333-139438) (the "MMA Registration Statement"), the Company agreed to use its commercially reasonable efforts to respond to any comments issued by the Staff of the Commission within ten (10) business days and to file any required amendments within five business days of receiving notice from the Commission that the Post-Effective Amendment to Registration Statement on Form SB-2 (Commission File No. 333-124283) is effective. In addition, the Company agreed not to withdraw the MMA Registration Statement without first obtaining written approval from MMA, to use commercially reasonable efforts to cause the MMA Registration Statement to become effective, and to maintain the effectiveness of the MMA Registration Statement, subject to certain exceptions, until the earlier of (i) one year; (ii) the date on which all securities covered by the MMA Registration Statement as amended from time to time, have been sold; or (iii) the date on which all the securities covered by the MMA Registration Statement as amended from time to time, can be sold in any three-month period without registration in compliance with Rule 144 of the Securities Act of 1933, as amended (the "Securities Act"). The Company's failure to comply with the provisions of Settlement Agreement shall be deemed to be an event of default, which if not cured within fifteen (15) days after receipt of written notice of such event of default, entitles MMA to nominate one person to the Company's Board of Directors (the "First MMA Nominee") and the Company is required to appoint MMA's nominee to its Board of Directors within two days thereafter. MMA is entitled to nominate one additional person to the Company's Board of Directors and the Company is required to appoint such nominee to its Board of Directors within two days thereafter, if an event of default is not cured by the Company within fifteen (15) days of the date the First MMA Nominee is nominated. The maximum number of nominees that MMA is entitled to under this provision is two. The MMA Warrant is exercisable for a term of three years for up to 3,000,000 shares of the Company's Common Stock at an initial exercise price of $1.50 per share. The exercise price and number of shares of Common Stock issuable upon exercise of the Warrant (the "Warrant Shares") are subject to adjustment for stock splits, stock combinations and certain reorganizations. The Warrant exercise price, but not the number of Warrant Shares is subject to a "full-ratchet" adjustment upon the issuance by the Company of shares of Common Stock for no consideration or for a consideration per share less than the Warrant exercise price, subject to certain enumerated exceptions. The Company has agreed to register the sale of the Warrant Shares on a registration statement pursuant to the Securities Act. The MMA Warrant was issued in a private placement transaction, exempt from registration under the Securities Act, pursuant to Section 4(2) of the Securities Act and Regulation D promulgated thereunder. 15 Per SFAS 133 and EITF 00-19 and related interpretations, the convertible note at the January 13, 2006 issuance date was classified as one financial instrument as it is considered conventional convertible debt. In addition, the warrant was classified as a liability ("warrant liability") (see Note 7) due to the liquidated damages provision in the registration rights agreement at its initial fair value with a corresponding charge to debt discount. The beneficial conversion value associated with the convertible debt is recorded as a debt discount and additional paid in capital. In accordance with SFAS 133, the warrants underlying the warrant liability were and are revalued quarterly based on assumptions in effect on that date using the Black-Scholes model. See Note 7 for the assumptions related to the revaluation and the related effect on the warrant liability and warrant valuation income (expense) during the period. In December 2006, the FASB issued FSP EITF 00-19-2, "Accounting for Registration Payments" which was effective immediately. This FSP amends EITF 00-19 to require potential registration payment arrangements be treated as a contingency pursuant to FASB Statement 5 rather than at fair value. We considered the effect of this standard on the above warrant classification as a liability and determined that the accounting may have changed as a result of this standard; however, due to the new financing that occurred on November 9, 2006 as discussed below, the warrants must remain classified as a liability at September 30, 2007; therefore, there was no effect of implementing this standard. DynEco March 2, 2005 Convertible Notes and Modification and Waiver Agreements ----------------------------------------------------------------------------- On January 13, 2006, and June 4, 2007, the Company and Alpha Capital Aktiengesellschaft, JM Investors, LLC, Libra Finance, S.A. and RG Prager Corporation entered into Modification and Waiver Agreements pursuant to which Convertible Promissory Notes issued by the Company to these parties in the aggregate principal balance of $327,000 on March 2, 2005. Pursuant to the January 13, 2006 Modification and Waiver Agreement, interest on these Notes at the rate of 5% per annum was to be paid quarterly, commencing March 31, 2006, and monthly principal amortization payments of approximately $29,700 were to commence on June 1, 2006. The Company was in default of the terms of this Modification and Waiver Agreement for nonpayment of its quarterly interest payments. Accordingly, the Company began accruing default interest at the rate of 10% from the date of default of June 1, 2006. As consideration for the January 13, 2006, Modification and Waiver Agreement, the Company paid these noteholders a total of $232,210, consisting of $154,632 in principal payments and a premium in the amount of $77,578. The Company recorded the premium as additional expense in the fourth quarter of 2005. The notes are convertible at the conversion rate of $0.75 per share, subject to adjustments, including anti-dilution adjustments and an adjustment if the Company issues common stock or rights to purchase common stock at a price below $0.75 per share. As part of the terms of the Financing Transaction, the note holders released their security interest in the Company's assets. As additional consideration to induce the note holders to enter into the January 13, 2006, Modification and Waiver Agreement, the Company issued the investors an aggregate of 200,000 shares of its common stock. Pursuant to the terms of the Modification and Waiver Agreement (a) those provisions of the transaction documents dated March 2, 2005 providing exceptions to the adjustment provisions of the notes and warrants were eliminated, (b) the exercise price of the warrants to purchase up to 259,000 shares of the Company's common stock issued under the March 2, 2005 transaction documents was changed to $1.00 per share and the warrants are exercisable for three years from January 23, 2006 and 16 (c) the number of shares issuable upon exercise of these warrants cannot be reduced to less than 300,000 shares, resulting in an issuance of 45,000 additional warrants. Under the Modification and Waiver Agreement, under certain circumstances, the Company may require the investors to exercise the warrants in full. The Company may prepay the remaining principal balance of the notes at 150% of the principle, plus interests and other amounts due, through the redemption date but only if an effective registration statement exists. During the first quarter of 2006, the Company recorded a non-cash loss relating to (i) the extinguishment of debt of $208,442, (ii) the value of the 200,000 shares of common stock issued (valued at $0.90 per share on the date of the Modification and Waiver Agreement, based on the closing price of common stock), (iii) issuance of additional warrants, and (iv) the write-off of deferred debt issue costs. The Company treated the modification as a cancellation of warrants (which resulted in a reclassification of $240,592 of warrant liability to equity) and issuance of new warrants. The new warrants were valued at $232,944 at the modification date. In accordance with SFAS 133, the warrants underlying the warrant liability are revalued quarterly based on assumptions in effect on that date using the Black-Scholes model. See Note 7 for the assumptions related to the revaluation and the related effect on the warrant liability and warrant valuation income (expense) during the period. On January 13, 2006, the Company agreed to file an amendment to the existing registration statement covering the sale of the shares issuable upon conversion of these notes and exercise of the warrants. Such registration statement was required to be filed on or before April 13, 2006 and become effective not later than 60 days after the date of filing, or the Company would be subject to the payment of liquidated damages to the note holders. The registration statement was filed on April 12, 2006 and was required to become effective by June 13, 2006. In addition, the Company agreed to file a new registration statement covering the sale of the shares issuable pursuant to the Modification and Waiver Agreement the sale of which was not covered by the existing registration statement. Such additional registration statement was required to be filed by May 13, 2006 and become effective not later than 60 days after the date of filing, or the Company would be subject to the payment of liquidated damages. The registration statement was filed on May 12, 2006 and was required to become effective by July 13, 2006. A Form 8-K/A, including the audited financial statements of the Company was filed on March 29, 2006, prior to April 5, 2006 as required. The post-effective amended registration statement and the additional registration statement did not become effective in the required 60 days due to comments received from the SEC with respect to the registration statement. The January 13, 2006, Modification and Waiver Agreement provides for liquidated damages payable to the note holders of an amount equal to two percent (2%) of the Purchase Price of the Notes remaining unconverted for each thirty (30) days or part thereof, that a registration statement is not effective. The Modification and Waiver Agreement required the Company pay the liquidated damages in cash. The liquidated damages must be paid within ten (10) days after the end of each thirty (30) day period or shorter part thereof for which liquidated damages are payable. On June 4, 2007, the Company entered into a second Modification and Waiver Agreement with the note holders that combined all accrued interest and penalties on these notes as of June 4, 2007, aggregating $268,134 with the outstanding principal amount of the Notes of $155,158 and provided that interest would accrue on the new principal amount at the rate of 5% per annum beginning June 4, 2007. Penalties of $142,236 were recorded as interest expense on the settlement date. Interest is payable on any conversion date or on the maturity dates of the Notes, which have been extended to December 4, 2007. All principal and accrued interest is convertible at any time into shares of the Company's common stock at a fixed conversion price of $0.75, subject to adjustment. As long as the Notes are outstanding, if the Company issues any Common Stock, other 17 than for certain enumerated exceptions as set forth in the Modification and Waiver Agreement, prior to the complete conversion of the Notes for a consideration less than $0.485 per share, the conversion price shall be reduced to such other lower issue price. In addition, the purchase price of the warrants is subject to adjustment if the Company issues any Common Stock other than for certain enumerated exceptions set forth in the Modification and Waiver Agreement, for a consideration less than $0.485 per share. In connection with the June 4, 2007 Modification and Waiver Agreement, the investors agreed to convert an aggregate of $150,000 due and payable under the Notes into 200,000 shares of the Company's common stock effective as of June 4, 2007. AJW - November 9, 2006 Convertible Term Notes --------------------------------------------- On November 9, 2006, the Company entered into a Securities Purchase Agreement with AJW Partners, LLC. ("Partners"), AJW Offshore, Ltd. ("Offshore"), AJW Qualified Partners, LLC ("Qualified") and New Millenium Capital Partners, II, LLC ("Millenium"). Partners, Offshore, Qualified and Millenium are collectively referred to as the "Purchasers", whereby the Company sold to the Purchasers Secured Convertible Term Notes (the "Notes") in the aggregate principal amount of One Million Dollars ($1,000,000). The $1,000,000 was funded in two tranches ($600,000 on November 9, 2006, and $400,000 on January 5, 2007). The offering was made pursuant to Section 4(2) of the Act, as amended. The Notes bear interest at 6% per annum, unless the common stock of the Company is greater than $1.25 per share for each trading day of a month, in which event no interest is payable during such month. The Company's obligations under the Notes are collateralized by a security interest in substantially all of the Company's assets. The proceeds of the offering were used to repay certain indebtedness and for working capital. The Notes are convertible into common stock of the Company at a 50% discount to the average of the three lowest trading prices of the common stock during the 20 trading day period prior to conversion; provided, however, that the Notes are convertible into common stock of the Company at a 45% discount in the event that the Registration Statement covering the resale of securities underlying the Notes ("Registration Statement"), is filed on or before December 11, 2006; and (ii) a 40% discount in the event that the Registration Statement becomes effective on or before March 9, 2007. In connection with the offering, the Company issued an aggregate of 5,000,000 warrants to purchase common stock at a price of $1.50 per share ("Warrants"). The Warrants are exercisable for a period of seven years. The number of shares subject to the Warrant and the exercise price are subject to adjustment for stock splits, stock combinations and certain dilutive issuances, including the issuance of shares of Common Stock for no consideration or for a consideration per share (before deduction of reasonable expenses or commissions or underwriting discounts or allowances in connection therewith) less than the 5-day average of the last reported sales of the Company's Common Stock. In addition, in certain circumstances the warrant exercise price will be adjusted if after the Registration Statement is declared effective, the closing price for the Company's Common Stock closes below $1.00. Due to the variable conversion price, the secured convertible term notes were bifurcated and recorded as two liability instruments, a debt instrument and an embedded conversion option liability at fair value. The Company had an obligation to register shares of its common stock pursuant to the terms of a Registration Rights Agreement with the note holders. The Company believes that it no longer has an obligation to register these shares as a result of the July 31, 2007 settlement described below and the acquisition of Notes by Trafalgar Capital Specialized Investment Fund as described below. The Company has the right to redeem the Notes under certain circumstances, as well as the right to pay monthly cash payments to prevent any conversion of the Notes during such month. The Notes are secured by all of the Company's assets pursuant to the terms of a Security Agreement and Intellectual Property Security Agreement. 18 On July 31, 2007, the Company entered into a settlement agreement with AJW Partners, LLC, AJW Offshore, Ltd., AJW Qualified Partners, LLC and New Millenium Capital Partners, II, LLC, (collectively, the "Subscribers"). Pursuant to the settlement agreement, the Company agreed to pay $1,200,000 and to issue an aggregate of 500,000 shares of the Company's common stock to the Subscribers, in full satisfaction of all of the Company's obligations under the Securities Purchase Agreement, Security Agreement, Intellectual Property Security Agreement and Registration Rights Agreement dated November 9, 2006, by and between the Company and the Subscribers and secured convertible term notes in the aggregate principal amount of $1,000,000 issued by the Company in favor of the Subscribers. In addition, pursuant to the settlement agreement, the Company amended and restated the stock purchase warrants issued to the Subscribers pursuant to the warrant purchase agreement as follows: a) to remove the Company's obligation to secure the listing of the shares of common stock issuable upon the exercise of up to 5,000,000 warrants with a national securities exchange or automated quotation system upon which the Company common stock is then listed, b) to remove the anti-dilution provision c) to provide the holders of the warrants the right to receive securities or assets which may be issued or payable upon a consolidation, merger or sale of the Company, d) to provide the holders of the warrants the right to receive distribution of assets of the Company, including cash and e) to remove the cashless exercise option. On August 18, 2007, Trafalgar Capital Specialized Investment Fund, Luxembourg acquired the notes held by the Subscribers rather than the Company repaying the notes directly as agreed to in the Company's July 31, 2007 settlement agreement with the Subscribers. On August 6, 2007,the Company issued the Subscribers 500,000 shares of its common stock valued at $140,000 or $0.28 per share (the closing market price of the Company's common stock on the day of issuance) as provided for in the settlement agreement and on August 18, 2007 paid the Subscribers $210,000 in cash from proceeds from the issuance of a convertible debenture to Trafalgar in settlement of all accrued interest due the Subscribers and claims arising from the Notes. The value of the common stock and cash consideration totaled $350,000, and $43,160 was applied to accrued interest and the balance related to settlement charges recorded as interest expense totaling $306,840 recorded in August 2007. Trafalgar - July 11, 2007 Secured Convertible Debentures -------------------------------------------------------- The Company entered into a Securities Purchase Agreement (the "Agreement") with Trafalgar Capital Specialized Investment Fund, Luxembourg ("Trafalgar") with respect to the purchase by Trafalgar of up to $2,400,000 of secured convertible debentures to be funded in three tranches with all outstanding principal and accrued interest due two years from the date each tranch is funded. On July 11, 2007, the Company closed on the first portion of the funding and issued a two-year $700,000 convertible debenture to Trafalgar. On August 18, 2007, the Company closed on the remaining funding, issued two-year convertible debentures aggregating $610,000 to Trafalgar and, as dicussed above, Trafalgar acquired the secured convertible debentures formerly held by AJW Partners, LLC, AJW Offshore, Ltd., AJW Qualified Partners, LLC and New Millenium Capital Partners, II, LLC. The debentures bear interest at 12% per annum, compounded monthly (9.5% after effectiveness of a Registration Statement required under the agreement; see below), and is convertible into common stock at the lesser of (a) an amount equal to 100% of the Volume Weighted Average Price ("VWAP") as quoted by Bloomberg LP as of June 29, 2007 (the "Fixed Conversion Price"), or (b) an amount equal to 80% of the lowest daily closing bid price of the Company's Common Stock, as quoted by Bloomberg, LP, for the five (5) trading days immediately prior to conversion. The Company has the right to redeem the debenture at 120% of principal and accrued and unpaid interest. The funding is subject to customary commitment and other fees approximating an aggregate 10% of the funded amount, as defined in the agreement. In connection 19 with the offering, the Company issued an aggregate of 3,000,000 warrants to purchase common stock at a price of 85% of the Fixed Conversion Price component of the convertible debentures, per share. The warrants are exercisable for a period of five years. The number of shares subject to the warrant and the exercise price are subject to adjustment for stock splits, stock combinations and certain dilutive issuances, including the issuance of shares of Common Stock for no consideration or for a consideration per share less than warrant price in effect immediately prior to such issuance. In connection with the Agreement, the Company entered into a registration rights agreement requiring the Company to register the securities underlying the convertible debentures and warrants. The Company must file within 55 days of June 29, 2007 and the registration statement must be effective within 90 days of June 29, 2007. If the filing or effectiveness dates are not complied with, or maintenance of effectiveness or other defaults occur, as defined in the Registration Rights Agreement, the Company will incur liquidated damages of 2% of the outstanding debenture value for each 30 days the default remains uncured. On August 1, 2007, the Company entered into an Amendment to Securities Purchase Agreement, Secured Convertible Debenture and Security Agreement with Trafalgar under which (i) the exercise price of the Warrants issued to Trafalgar pursuant to the convertible debt financing which closed on July 11, 2007 (the "Financing") was reduced to $0.23 per share, provided, however, that if after registration of the shares issuable upon exercise of the Warrants, shares of the Company's common stock trade above $0.75 per share for 30 consecutive trading days, the exercise price of the Warrants will be increased to $0.50 per share; (ii) the Company agreed to issue to Trafalgar a warrant exercisable for an additional 5 million shares at $0.23 per share, provided, however, that if after registration of the shares issuable upon exercise of the Warrants, shares of the Company's common stock trade above $0.75 per share for 30 consecutive trading days, the exercise price of this Warrant will be increased to $0.646 per share and the number of shares exercisable pursuant to the Warrant will be reduced to 2 million; and (iii) the Fixed Price component of the variable conversion price discussed above of the Convertible Debenture was reduced to $0.23. Convertible Promissory Note, Related Party ------------------------------------------ On January 3, 2006, the Company issued a Convertible Promissory Note with an annual interest rate of 10% in the principal amount of $350,000 to Street Venture Partners, LLC, a related party, in conjunction with the purchase of the Casual Car General Service Agreement (GSA). The Note went into default for nonpayment on January 3, 2007, and the maturity date was extended on March 30, 2007 to July 1, 2008. As of September 30, 2007, the Note had an outstanding balance of $350,000. Other Notes Payable ------------------- Notes payable consisted of the following: SEPTEMBER 30, DECEMBER 31, 2007 2006 ------------- ------------ Notes Payable - Bearing interest at rates ranging from 5% to 15% unsecured and due at various dates through August 2007 ... $ 156,434 $ 156,434 Notes payable assumed from DynEco ....... 20,154 20,154 Line of credit - IRT/ITR ................ 210,000 210,000 --------- --------- $ 386,588 $ 386,588 Less current portion .................... (386,588) (386,245) --------- --------- Notes payable, net of current portion $ - $ 343 ========= ========= 20 At September 30, 2007, the Company was in default of the repayment terms on certain 5% to 15% unsecured notes aggregating $156,434. This amount is included in notes payable, current portion on the accompanying consolidated balance sheet at September 30, 2007. Capital Lease Obligation ------------------------ The Company's capital leases consisted of the following: SEPTEMBER 30, DECEMBER 31, 2007 2006 ------------- ------------ Total Capital Leases .................... $ 86,477 $ 107,600 Less Current Capital Leases ............. (36,893) (34,152) --------- --------- Long-term portion of Capital Leases .. $ 49,584 $ 73,448 ========= ========= Future maturities of capital lease obligations as of December 31, 2006, are as follows: 2007 $34,619 2008 $37,958 2009 $20,998 2010 $11,897 2011 $ 2,128 NOTE 7 WARRANT AND OPTION LIABILITY The Company recorded a warrant liability related to Convertible Notes in connection with the Modification and Waiver Agreement of January 13, 2006 and the MMA Capital LLC financing due to the liquidated damages provision in the registration rights agreement requiring liability treatment under EITF 00-19 (see Note 6 and discussion within FSP EITF 00-19-2). The Company also recorded warrant and option liability related to the Convertible Notes with a variable conversion price issued on November 9, 2006. EITF 00-19 requires liability treatment for all outstanding warrants and non-employee options as a result of the variable conversion price provision contained in these Convertible Notes. As a result, warrants for 5,000,000 shares of common stock were recorded as warrant liability and warrants for 2,300,050 shares and non-employee options for 1,000,000 shares of the Company's common stock were reclassified from equity and recorded as liabilities on the Company's consolidated balance sheet on November 9, 2006, the issuance date of the convertible notes with the variable conversion price. During the nine months ended September 30, 2007, the warrant and option liability was increased for the fair value of options granted to a director to purchase 150,000 shares of the common stock that vested during the period, warrants to purchase 3,000,000 shares of common stock granted on March 5, 2007 pursuant to the MMA Capital, LLC note modification agreement and warrants to purchase 3,000,000 and 5,000,000 shares of common stock granted on July 11, 2007, and August 1, 2007, respectively, pursuant to the Trafalgar financing. During the same period, the fair value of warrants exercised and options forfeited were reclassified to equity. The remaining warrant and option liability will continue to be revalued until the expiration date of the debt or at such time EITF 00-19 and related interpretations provide for the reclassification of these financial instruments to equity, with any changes in valuation recorded as warrant and option valuation income or expense. 21 The Company's warrant and option liability and related revaluation assumptions are as follows:
11/9/06 Warrant 3/2/05 Variable All Other Total and Option Convertible Conversion Trafalgar Warrants Warrant Valuation Note MMA Price Capital and and Option (Income) Holders Capital Notes Notes Options Liability Expense ----------- ----------- ----------- ---------- ----------- ----------- ----------- Balance at 12/31/2006 ...... $ 148,287 $ 1,046,770 $ 2,498,578 $ - $ 1,726,094 $ 5,419,729 $ - Value of options granted for compensation .... - - - - 24,116 24,116 - Value of warrants granted in Note Modification Agreement ....... - 1,266,122 - - - 1,266,122 - Reclassification to equity value of exercised warrants and forfeited options - - - - (85,447) (85,447) - Change in Value ... (71,203) (938,953) (1,172,922) - (790,927) (2,974,005) (2,974,005) ----------- ----------- ----------- ---------- ----------- ----------- ----------- Balance at 3/31/2007 ....... $ 77,084 $ 1,373,939 $ 1,325,656 $ - $ 873,836 $ 3,650,515 $(2,974,005) Value of options granted for compensation .... - - - - 24,116 24,116 - Change in Value ... 114,922 2,012,665 1,945,304 - 1,163,229 5,236,120 5,236,120 ----------- ----------- ----------- ---------- ----------- ----------- ----------- Balance at 6/30/2007 ....... $ 192,006 $ 3,386,604 $ 3,270,960 $ - $ 2,061,181 $ 8,910,751 $ 2,262,115 Value of options granted for compensation .... - - - - 24,116 24,116 - Value of warrants granted with debt issuance ... - - - 2,371,981 - 2,371,981 1,244,481 Change in Value ... (163,339) (2,854,267) (2,718,720) (1,187,008) (1,686,470) (8,609,804) (8,609,804) ----------- ----------- ----------- ---------- ----------- ----------- ----------- Balance at 9/30/2007 ....... $ 28,669 $ 532,337 $ 552,240 $1,184,973 $ 398,827 $ 2,697,044 $(5,103,208) =========== =========== =========== ========== =========== =========== ===========
22
11/9/06 3/2/05 Variable All Other Convertible Conversion Trafalgar Warrants Note MMA Price Capital and Holders Capital Notes Notes Options ----------- -------------- ----------- ---------- ---------------- December 31, 2006 ----------------- Warrants/options .... 304,500 2,250,000 5,000,000 3,300,050 Exercise price ...... $1.00 $1.00 $1.50 $0.675 to $11.25 Market price ........ $0.65 $0.65 $0.65 $0.65 Expected life (years) 2.25 2.0 2.8 0.5 to 4.9 Volatility .......... 166% 166% 166% 166% Discount rate ....... 4.78% 4.78% 4.78% 4.66% March 5, 2007 - Note Modification Agreement ------------------------------------------- Warrants/options .... 3,000,000 Exercise price ...... $1.50 Market price ........ $0.50 Expected life (years) 3.0 Volatility .......... 190% Discount rate ....... 4.60% March 31, 2007 -------------- Warrants/options .... 304,500 5,250,000 5,000,000 3,166,717 Exercise price ...... $1.00 $1.00 to $1.50 $1.50 $0.485 to $11.25 Market price ........ $0.65 $0.65 $0.65 $0.65 Expected life (years) 2.25 1.7 to 2.9 2.5 0.2 to 4.3 Volatility .......... 190% 190% 190% 190% Discount rate ....... 4.65% 4.67% 4.60% 4.90% June 30, 2007 ------------- Warrants/options .... 304,500 5,250,000 5,000,000 2,812,213 Exercise price ...... $1.00 $1.00 to $1.50 $1.50 $0.485 to $11.25 Market price ........ $0.76 $0.76 $0.76 $0.76 Expected life (years) 2.0 1.4 to 2.6 2.2 1.2 to 4.0 Volatility .......... 218.2% 218.2% 218.2% 218.2% Discount rate ....... 4.65% 4.87% 4.89% 4.89% July 11, 2007 Debt Issuance and August 1, 2007 Debt Modification ---------------------------------------------------------------- Warrants/options .... 8,000,000 Exercise price ...... $0.23 Market price ........ $0.30 Expected life (years) 5.0 Volatility .......... 218% Discount rate ....... 4.89% September 30, 2007 ------------------ Warrants/options .... 304,500 5,250,000 5,000,000 8,000,000 2,862,213 Exercise price ...... $1.00 $1.00 to $1.50 $1.50 $0.23 $0.485 to $11.25 Market price ........ $0.15 $0.15 $0.15 $0.15 $0.15 Expected life (years) 1.4 1.1 to 2.2 2.0 4.8 1.0 to 3.7 Volatility .......... 232% 232% 232% 232% 232% Discount rate ....... 3.9% 3.9% 4.01% 4.2% 4.01%
23 NOTE 8 EMBEDDED CONVERSION OPTION LIABILITY The Company recorded an embedded conversion option liability related to Convertible Notes with variable conversion prices issued on November 9, 2006, June 15, 2007, July 11, 2007, and August 18, 2007. Such variable conversion prices require liability treatment for embedded conversion option consisting of conversion prices equal to a 45% to 50% discount to the market price of the Company's common stock as of the end of each accounting period. The remaining embedded conversion option liability will continue to be revalued until the expiration date of the debt with any changes in valuation recorded as conversion option valuation income or expense. The Company's embedded conversion option liability and related revaluation assumptions are as follows:
Trafalgar 11/9/06 1/5/07 6/15/07 Capital Total Variable Variable Variable Variable Embedded Conversion Conversion Conversion Conversion Conversion Conversion Option Price Price Option Price Option (Income) Note Note Note Notes Liability Expense ---------- ---------- ---------- ---------- ---------- ---------- Balance at 1/1/2007 .... $ 667,076 $ - $ - $ - $ 667,076 $ - Debt issued 1/5/2007 ... - 440,293 - - 440,293 40,293 Change in Value ........ (13,926) (11,088) - - (25,014) (25,014) ---------- ---------- ---------- ---------- ---------- ---------- Balance at 3/31/2007 ... $ 653,150 $ 429,205 $ - $ - $1,082,355 $ 15,279 Debt issued 6/15/07 .... - - 349,792 - 349,792 149,792 Change in Value ........ 305,316 220,413 (107,617) - 418,112 418,112 ---------- ---------- ---------- ---------- ---------- ---------- Balance at 6/30/2007 ... $ 958,466 $ 649,618 $ 242,175 $ - $1,850,259 $ 583,183 Debt issued to Trafalgar ........... $ - $ - $ - $1,869,351 $1,869,351 $1,869,351 Change in Value ........ $ (64,971) $ (53,954) $ 17,322 $ (159,116) $ (260,719) $ (260,719) ---------- ---------- ---------- ---------- ---------- ---------- Balance at 9/30/2007 ... $ 893,495 $ 595,664 $ 259,497 $1,710,235 $3,458,891 $2,191,815 ========== ========== ========== ========== ========== ========== 24
Trafalgar 11/9/06 1/5/07 6/15/07 Capital Variable Variable Variable Variable Conversion Conversion Conversion Conversion Price Price Option Price Note Note Note Notes ---------- ---------- ---------- -------------- December 31, 2006 ----------------- Principal ............ $600,000 Shares upon conversion 1,026,271 Exercise price ....... $0.2925 Market price ......... $0.65 Expected life (years) 2.8 Volatility ........... 166% Discount rate ........ 4.79% January 5, 2007 - Debt Issued ----------------------------- Principal ............ $400,000 Shares upon conversion 863,320 Exercise price ....... $0.2295 Market price ......... $0.51 Expected life (years) 3.0 Volatility ........... 166% Discount rate ........ 4.79% March 31, 2007 -------------- Principal ............ $600,000 $400,000 Shares upon conversion 1,484,432 975,465 Exercise price ....... $0.242 $0.242 Market price ......... $0.44 $0.44 Expected life (years) 2.5 2.8 Volatility ........... 190% 190% Discount rate ........ 4.60% 4.60% June 15, 2007 ------------- Principal ............ $200,000 Shares upon conversion 531,915 Exercise price ....... $0.376 Market price ......... $0.94 Expected life (years) 0.3 Volatility ........... 218.2% Discount rate ........ 4.94% June 30, 2007 ------------- Principal ............ $600,000 $400,000 $200,000 Shares upon conversion 802,506 527,467 500,000 Exercise price ....... $0.44 $0.44 $0.40 Market price ......... $0.76 $0.76 $0.76 Expected life (years) 2.2 2.5 0.3 Volatility ........... 218.2% 218.2% 218.2% Discount rate ........ 4.89% 4.89% 4.94% August 2007 Issued and Amended ------------------------------ Principal ............ $1,310,000 Shares upon conversion 8,583,333 Exercise price ....... $0.12 to $0.20 Market price ......... $0.20 to $0.30 Expected life (years) 2.0 Volatility ........... 218% Discount rate ........ 4.94% September 30, 2007 ------------------ Principal ............ $600,000 $400,000 $200,000 $1,310,000 Shares upon conversion 6,417,112 4,278,075 1,923,077 12,596,154 Exercise price ....... $0.09 $0.09 $0.10 $0.10 Market price ......... $0.15 $0.15 $0.15 $0.15 Expected life (years) 2.0 2.0 1.8 1.8 Volatility ........... 232% 232% 232% 232% Discount rate ........ 4.01% 4.01% 4.01% 4.1%
25 NOTE 9 STOCKHOLDERS' DEFICIT Common Stock Issued Pursuant to Warrant Exercise ------------------------------------------------ On March 6, 2007, the Company issued 33,300 shares of its common stock pursuant to the exercise of common stock warrants at an exercise price of $0.675 per share for an aggregate exercise price of $22,500. Common Stock Issued For Services -------------------------------- During 2006, the Company granted common stock to certain directors that vest at a rate of 25% every three months. During the nine months ended September 30, 2007, a total of 200,000 shares of common stock vested and were recorded as issued and outstanding. The fair value of the shares of common stock on the grant dates are being recognized over the vesting period. During the nine months ended September 30, 2007, a total of $155,000 was recorded as equity and charged to operations as an expense. During 2006, the Company has entered into agreements with third parties to provide various services including investor relation services, equity research about the Company and financial consulting services. Pursuant to these agreements, the Company issued vested shares of common stock. The fair value of the shares of common stock on the grant dates are being recognized over the terms to the agreements. During the nine months ended September 30, 2007, a total of $397,200 was recorded as equity and charged to operations as an expense for shares issued in 2006. The remaining unamortized balance of $51,536 as of September 30, 2007, has been recorded as deferred consulting fees treated as a reduction in additional paid-in capital and will be expensed in future periods. On March 15, 2007, the Company entered into an agreement with Uptick Capital, LLC to provide financial consulting services pursuant to a consulting agreement with a 14-day advance notice termination provision. Shares to be granted under this agreement vested at the end of each 30-day period. On May 18, 2007, the Company gave written notice of its termination of the consulting agreement and the agreement terminated June 1, 2007. Pursuant to the terms of this agreement, the Company issued Uptick Capital 20,000 shares of vested common stock valued at $7,000 or $0.35 per share determined using the market stock price as of the date the shares became vested under this agreement. The fair value of these shares was charged to operations. On April 1, 2007, the Company entered into an agreement with Peter H. Clark to provide financial and management consulting services to the Company. Pursuant to this agreement, the Company issued Peter H. Clark 300,000 vested shares of the Company's common stock valued at $135,000 or $0.45 per share determined using the market stock price as of the date of the agreement. The agreement is for a term of three months and is renewable at the option of the Company. The fair value of $135,000 was amortized to operating expenses over the three-month term of the agreement. On April 1, 2007, the Company entered into an agreement with Brett Gold to provide financial and management consulting services to the Company. Pursuant to this agreement, the Company issued Brett Gold 100,000 vested shares of the Company's common stock valued at $45,000 or $0.45 per share determined using the market stock price as of the date of the agreement. The agreement is for a term of three months and is renewable at the option of the Company. The fair value of $45,000 was amortized to operating expenses over the three-month term of the agreement. 26 On May 1, 2007, the Company entered into an agreement with Pro345, LLC to provide financial and management consulting services to the Company. Pursuant to this agreement, the Company issued Pro345, LLC 150,000 vested shares of the Company's common stock valued at $127,500 or $0.85 per share determined using the market stock price as of the date of the agreement. The agreement is for a term of six months and is renewable at the option of either party. The fair value of $42,500 will be amortized to operating expenses during the nine months ended September 30, 2007. On June 6, 2007, the Company transferred 200,000 shares of the Company's common stock to an escrow account of Crone Rozynko, LLP. Pursuant to an Escrow Agreement, the shares are to remain in the escrow account until granted by the Company's Board of Directors to Crone Rozynko for payment of legal fees, and any unissued shares remaining in the escrow account on June 15, 2009, are to be returned to the Company. These shares are not considered issued and outstanding in the accompanying consolidated financial statements. On June 30, 2007, the Company issued 50,000 shares of its common stock from its 2007 Stock Option/Stock Issuance Plan with a fair value on the date of grant of $38,000 or $0.76 per share in settlement of a legal dispute with MBN Consulting, LLC. The Company has previously accrued $29,333 related to this matter and charged an additional $8,667 to operations on June 30, 2007. On July 15, 2007, the Company issued Dana Salvo 100,000 vested shares of the Company's common stock valued at $51,000 or $0.51 per share determined using the market stock price as of the date of the grant for consulting services rendered to the Company. The fair value of $51,000 was charged to consulting fees on July 15, 2007. On July 20, 2007, the Company entered into an agreement with Brett Gold to provide financial and management consulting services to the Company. Pursuant to this agreement, the Company issued Brett Gold 100,000 vested shares of the Company's common stock valued at $53,000 or $0.53 per share determined using the market stock price as of the date of the agreement. The agreement is for a term of six months commencing July 1, 2007, and is renewable at the option of the Company. The fair value of $53,000 will be amortized to operating expenses over the six-month term of the agreement. Common Stock Issued For Debt Modification and Waiver Agreements --------------------------------------------------------------- On July 31, 2007, the Company entered into a settlement agreement with AJW Partners, LLC, AJW Offshore, Ltd., AJW Qualified Partners, LLC and New Millenium Capital Partners, II, LLC, (collectively, the "Subscribers"). Pursuant to which the Company issued an aggregate of 500,000 shares of the Company's common stock to the Subscribers as further described in Note 6. These shares were valued at $140,000 or $0.28 per share (the closing market price of the Company's common stock on the day of issuance) and this value was charged to interest expense on July 31, 2007. Common Stock Issued Upon Conversion of Debt ------------------------------------------- On April 12, 2007, the Company issued a total of 120,000 shares of its common stock on conversion of a convertible promissory note aggregating $75,000, accrued interest of $10,870 and damages totaling $34,130, based on a conversion rate of $1.00 per share or total consideration of $120,000. 27 On April 13, 2007, the Company settled a dispute with Raymond Valdes and issued a total of 770,000 shares of common stock on conversion of a convertible note aggregating $600,000, and accrued interest of $61,730. The additional stock consideration of 328,847 shares, after considering the original note conversion terms of $1.50 per share, was valued at $245,235 based on the $0.75 quoted trading price on the settlement date and resulted in a loss on settlement of $76,635. The aggregate value of this settlement was $908,365. On June 4, 2007, holders of 5% convertible promissory notes converted $150,000 of these notes into 200,000 shares the Company's common stock at a conversion rate of $0.75 per share. Common Stock Warrants, Options and Valuation -------------------------------------------- The Company had outstanding vested and unvested warrants and options as follows: SEPTEMBER 30, Exercisable Securities 2007 ---------------------- ------------- Warrants ............. $ 20,416,713 Options .............. 1,149,762 The Company estimates the value of awards of share-based payments using the Black-Scholes option pricing method that uses assumptions in effect on the date of grant. The assumptions of volatility are based on historical volatility since the Company does not have traded options on which to base any estimate of implied volatility. The assumptions of expected term are based on the contractual term since the Company has no reliable history to measure the expected term. The risk-free rate for periods within the expected term of the option is based on the U.S. treasury yield curve in effect at the time of the grant. Common Stock Warrants Issued to Non-Employees --------------------------------------------- The following is a summary of warrant activity:
Weighted Weighted Average Average Remaining Aggregate Exercise Contractual Intrinsic Non-Employee Warrants Shares Price Term Value --------------------- ---------- -------- ----------- --------- Outstanding at January 1, 2007 .. 200,000 $ 1.25 5.00 - Granted ......................... - $ - - - Exercised ....................... - $ - - - Forfeited or expired ............ - $ - - - ---------- ------ ---- ---- Outstanding at September 30, 2007 200,000 $ 1.25 5.00 - ========== ====== ==== ==== Exercisable at September 30, 2007 200,000 $ 1.25 5.00 - ========== ====== ==== ====
28 Warrants Issued for Cash or Related to Debt ------------------------------------------- The following is a summary of warrant activity for warrants sold for cash or related to debt:
Weighted Weighted Average Average Remaining Aggregate Exercise Contractual Intrinsic Warrants Issued for Cash Shares Price Term Value ------------------------ ---------- -------- ----------- --------- Outstanding at January 1, 2007 .. 9,654,550 $ 1.00 3.22 - Granted ......................... 11,000,000 $ 0.58 3.00 - Exercised ....................... (33,300) $ 0.68 - - Forfeited or expired ............ (404,537) $ 0.68 - - ---------- ------ ---- ---- Outstanding at September 30, 2007 20,216,713 $ 0.92 3.05 - ========== ====== ==== ==== Exercisable at September 30, 2007 20,216,713 $ 0.92 3.05 - ========== ====== ==== ====
The weighted average valuation assumptions for grants other than with the sale of common stock or issuance of debt for cash during 2006 are as follows: Expected volatility .......... 190% Weighted average volatility .. 190% Expected dividends ........... 0 Expected term (in years) ..... 3 Risk-free rate ............... 4.60% On March 5, 2007, pursuant to the modification of the MMA Capital, LLC convertible promissory note, the Company issued warrants exercisable for 3,000,000 shares of its common stock at an exercise price of $1.50 per share. The warrant has an expiration date of March 5, 2010. On July 11, 2007, pursuant to Trafalgar Capital Specialized Investment Fund, Luxembourg's purchase of secured convertible debentures, the Company issued an aggregate of 3,000,000 warrants to purchase common stock at a price of 85% of the Fixed Conversion Price component of the convertible debentures, per share. The warrants are exercisable for a period of five years. The number of shares subject to the warrant and the exercise price are subject to adjustment for stock splits, stock combinations and certain dilutive issuances, including the issuance of shares of Common Stock for no consideration or for a consideration per share less than warrant price in effect immediately prior to such issuance. On August 1, 2007, the Company entered into an Amendment to Securities Purchase Agreement, Secured Convertible Debenture and Security Agreement with Trafalgar Capital Specialized Investment Fund, Luxembourg ("Trafalgar") under which (i) the exercise price of the Warrants issued to Trafalgar pursuant to the convertible debt financing which closed on July 11, 2007 (the "Financing") was reduced to $0.23 per share, provided, however, that if after registration of the shares issuable upon exercise of the Warrants, shares of the Company's common stock trade above $0.75 per share for 30 consecutive trading days, the exercise price of the Warrants will be increased to $0.50 per share; (ii) the Company agreed to issue to Trafalgar a warrant exercisable for an additional 5 million shares at $0.23 per share, provided, however, that if after registration of the shares issuable upon exercise of the Warrants, shares of the Company's common stock trade above $0.75 per share for 30 consecutive trading days, the exercise price of this Warrant will be increased to $0.646 per share and the number of shares exercisable pursuant to the Warrant will be reduced to 2 million; and (iii) the Fixed Price component of the variable conversion price discussed above of the Convertible Debenture was reduced to $0.23. 29 Non-Plan Common Stock Options to Non-Employees ---------------------------------------------- At September 30, 2007, the Company had the following non-plan options outstanding and exercisable: Outstanding Options Exercisable Options ---------------------------------- ---------------------- Weighted Weighted Weighted Range of Average Average Average Exercise Number Remaining Exercise Number Exercise Price Outstanding Life Price Exercisable Price --------------- ----------- --------- -------- ----------- -------- $0.485 to $0.70 1,050,000 5.5 Years $ 0.66 1,000,000 $ 0.66 =========== =========== A summary of the changes in non-plan stock options outstanding is presented below: Weighted Average Shares Exercise Price --------- -------------- Options outstanding as of January 1, 2007 ......... 1,000,000 $ 0.70 Options granted ................................... 200,000 $ 0.48 Options exercised ................................. - $ - Options cancelled ................................. - $ 0.48 Options forfeited ................................. (150,000) $ 0.70 --------- -------- Non-plan options outstanding at September 30, 2007 1,050,000 $ 0.66 ========= ======== Weighted average fair value of options granted during the nine months ended September 30, 2007 .... $ 0.48 ======== The weighted average valuation assumptions for grants during 2007 are as follows: Expected volatility .......... 166% Weighted average volatility .. 166% Expected dividends ........... 0 Expected term (in years) ..... 5 Risk-free rate ............... 4.75% The Company estimates the value of awards of share-based payments using the Black-Scholes option pricing method that uses assumptions in effect on the date of grant. The assumptions of volatility are based on historical volatility since the Company does not have traded options on which to base any estimate of implied volatility. The assumptions of expected term are based on the contractual term since the Company has no reliable history to measure the expected term. The risk free rate for periods within the expected term of the option are based on the U.S. treasury yield curve in effect at the time of the grant. On January 8, 2007, the Company's Board of Directors appointed David Shapiro as a Board member. The Company granted David Shapiro an option to purchase 200,000 shares of the Company's common stock at a purchase price of $0.485 per share, the average of the opening and closing price of the stock on the date of grant. 50,000 shares subject to the option vested immediately and an additional 50,000 shares subject to the option vest each quarter thereafter. An expense for director fees of $96,464 was recognized 25% on January 8, 2007 with the balance (excluding the $24,226 related to cancelled options) recognized over the remaining vesting period based in a Black-Scholes option pricing model using the following assumptions: stock price $0.485, expected term five (5) years, volatility 166%, zero expected dividends and a 4.75% discount rate. Options to purchase a total of 150,000 shares were vested as of September 30, 2007. 30 Stock-Based Compensation Plans ------------------------------ On January 13, 2006, in conjunction with the recapitalization, the Company assumed DynEco's obligations under DynEco's outstanding non-qualified option plans consisting of the 2001 Equity Incentive Plan and two expired plans, the 1993 Corporate Stock Option Plan and the 1993 Advisors Stock Option Plan. There were no grants under these plans during 2006 or year-to-date 2007. The Company does not anticipate issuing any options under the former DynEco non-qualified option plans. In May 2007, the Company's Board of Directors approved the 2007 Stock Option/Stock Issuance Plan. No grants of options have been made from this plan as of September 30, 2007; however, 800,000 shares of common stock have been granted under this plan as of this period end. At September 30, 2007, the Company had the following plan options outstanding and exercisable: Outstanding Options Exercisable Options ------------------------------------ ----------------------- Weighted Weighted Weighted Range of Average Average Average Exercise Number Remaining Exercise Number Exercise Price Outstanding Life Price Exercisable Price -------- ----------- --------- -------- ----------- -------- $ 3.00 42,500 1.3 Years $ 3.00 42,500 $ 3.00 $ 11.40 50,595 1.9 Years $ 11.40 50,595 $ 11.40 $ 3.60 6,667 2.0 Years $ 3.60 6,667 $ 3.60 ------- ------- 99,762 99,762 ======= ======= The following is a summary of the changes in plan options outstanding: Weighted Average Shares Exercise Price --------- -------------- Options outstanding at January 1, 2006 ............ 101,206 $ 7.25 Options exchanged in recapitalization ............. - $ - Options granted ................................... - $ - Options exercised ................................. - $ - Options forfeited ................................. (1,444) $ 2.63 --------- -------- Plan options outstanding at September 30, 2007 .... 99,762 $ 7.30 ========= ======== Plan options exercisable at September 30, 2007 .... 99,762 ========= Weighted average fair value of options granted during the period ............................... $ - ======== Former DynEco 2001 Equity Incentive Plan Under the 2001 Equity Incentive Plan, DynEco reserved a total of 33,333 shares of our common stock for issuance upon exercise of incentive and non-qualified stock options, stock bonuses and rights to purchase awarded from time-to-time, to our officers, directors, employees and consultants. Absent registration under the Securities Act of 1933, as amended, or the availability of an applicable exemption therefrom, shares of common stock issued upon the exercise of options or as restricted stock awards will be subject to restrictions on sale or transfer. As of September 30, 2007, options to purchase 22,278 shares are outstanding under the 2001 Equity Incentive Plan. 31 Former DynEco 1993 Corporate Stock Option Plan Under the 1993 Corporate Stock Option Plan, DynEco reserved a total of 25,000 shares of our common stock for issuance upon exercise of stock options granted, from time-to-time, to our officers, directors, and employees. This Corporate Stock Option Plan has expired. As of September 30, 2007, options to purchase 70,817 shares are outstanding under the 2001 Equity Incentive Plan. Former DynEco 1993 Advisors Stock Option Plan Under the 1993 Advisors Stock Option Plan, DynEco reserved a total of 6,667 shares of our common stock for issuance upon exercise of stock options granted, from time-to-time, to our advisors and consultants. Absent registration under the Securities Act of 1933, as amended, or the availability of an applicable exemption therefrom, shares of common stock issued under the above plans upon the exercise of options are subject to restrictions on sale or transfer. As of the date of this report, options to purchase 6,667 shares had been granted and are outstanding under the 1993 Advisors Stock Option Plan. The 1993 Advisors Stock Option Plan has terminated, and no further awards may be made thereunder; however, outstanding awards of 6,667 shares are outstanding under this plan until their termination date on December 31, 2008. In May 2007, the Company's Board of Directors approved the 2007 Stock Option/Stock Issuance Plan and reserved a total of 5,500,000 shares of common stock for issuance under this plan. On May 23, 2007, the Company filed a Form S8 registering the shares issuable under this plan with the Securities and Exchange Commission. The plan allows the issuance of stock options and outright grants of common stock, from time-to-time, to its officers, directors, employees and independent contractors who provide services to the Company. As of September 30, 2007, a total of 800,000 shares of common stock have been granted to independent contractors/consultants and accounted for as described in Note 9 above. No grants of options have been made from the Plan as of September 30, 2007. Share-Based Compensation ------------------------ For the nine months ended September 30, 2007 and 2006, the Company recognized compensation costs for employees, directors, consultants and others totaling $1,002,878 and $1,090,676, respectively. These amounts increased the Company's operating expenses and equity during these periods. As of September 30, 2007, the Company has $51,536 in compensation costs related to nonvested share-based awards not yet recognized as expense, and the weighted average period the Company expects to recognize these costs is two (2) months. These costs included $51,536 related to consulting agreements. This additional compensation cost will increase the Company's operating expenses in future periods. NOTE 10 INCOME TAXES For financial statement purposes, no tax expense or benefit has been reported as the Company has had cumulative net operating losses since inception, and realization of tax benefits on accumulated net operating losses is uncertain. Accordingly, a valuation allowance has been established for the full amount of the deferred tax asset. The utilization of net operating loss carryforwards are dependent upon the Company's ability to generate sufficient taxable income during the carryforward period. In addition, utilization of the carryforward may be limited due to ownership changes as defined in the Internal Revenue Code. 32 NOTE 11 RELATED PARTIES AND SIGNIFICANT SHAREHOLDERS Consulting Contracts with Directors ----------------------------------- The Company entered into a consulting agreement with Innovations Publishing, LLC, pursuant to which the Company has recognized consulting fee expense of $5,000 for the nine months ended September 30, 2007. Mr. Dyer, a former member of the Company's Board of Directors, owns 75% of Innovations Publishing. On November 3, 2006, the Company entered into a consulting agreement with E. H. Winston & Associates, pursuant to which Mr. Winston, a director of the Company, provides the Company with general business consulting services and advice. The initial term of the consulting agreement was three months. On February 5, 2007, the parties extended the agreement until June 5, 2007. The Company was to pay E. H. Winston & Associates a consulting fee of $10,000 per month plus reimbursement of all reasonable out-of-pocket expenses. The Company has recorded $60,000 in professional fees related to the agreement during fiscal year 2007. On November 17, 2006, the Company entered into another consulting services agreement with E. H. Winston & Associates pursuant to which Mr. Winston would identify and introduce the Company to prospective investors and would assist the Company in preparing introductory materials in connection therewith. The term of this agreement is six months unless terminated earlier by either party. The Company may terminate this agreement for any reason on 14 days' prior written notice. The Company was to pay E. H. Winston & Associates a consulting fee of $10,000 per month plus reimbursement of all reasonable out-of-pocket expenses related to this November 17, 2006 agreement. In addition, if the Company enters into a financial commitment with any prospective investor introduced by E. H. Winston & Associates, the Company will pay an additional fee of $8,000 for each $100,000 of financial commitment or part thereof. In addition, if the Company issues warrants in connection with such financial commitment, the Company will issue to E. H. Winston & Associates a warrant exercisable for a number of shares equal to 10% of the warrants issued by the Company in connection with such financial commitment. The Company has recorded $50,000 in expenses related to this agreement during fiscal year 2007. Street Venture Partners, LLC ---------------------------- Street Venture Partners, LLC is a privately-held company owned equally by Daniel G. Brandano, the Company's CEO and Chairman, and his spouse. As of September 30, 2007, Street Venture Partners LLC owned 1,066,666 shares or approximately 7.2% of the Company's issued and outstanding common stock. Claudale Ltd. ------------ Claudale Limited is a Gibraltar-based company that manages a family trust (which owns no shares of the Company's common stock) for Mr. Daniel G. Brandano, the Company's CEO and Chairman. Mr. Brandano has no ownership interest in Claudale Limited and disclaims beneficial ownership or control of any shares of the Company's common stock owned by Claudale Limited. At September 30, 2007, Claudale Ltd. owned 693,333 shares or approximately 4.9% of the Company's issued and outstanding common stock. Brian J. Brandano ----------------- At September 30, 2007, Brian J. Brandano owned 292,243 shares or approximately 2.0% of the Company's issued and outstanding common stock. Brian J. Brandano is the son of Daniel G. Brandano, the Company's CEO and Chairman and was employed by the Company until July 2006. 33 Payable to Employee (Stephen A. Hicks) -------------------------------------- At September 30, 2007, the Company owed $110,000 to Stephen A. Hicks, the former 100% shareholder of IRT/ITR, for advances made to IRT/ITR prior to its acquisition by the Company. There is currently no interest being charged for the use of the advance, nor is any interest anticipated to be paid. NOTE 12 RECAPITALIZATION OF DYNAMIC LEISURE GROUP On January 13, 2006, DynEco entered into an agreement with the former shareholders of DLG, pursuant to which DynEco acquired all of the outstanding capital stock of DLG, and DLG became a wholly-owned subsidiary of DynEco. As consideration for its acquisition of the outstanding capital stock of DLG, DynEco issued an aggregate of 197,000 shares of its Series A Preferred Stock to the former shareholders of DLG. Issuance of the Series A Preferred Stock in exchange for the outstanding capital stock of DLG pursuant to the Stock Exchange Agreement resulted in a change in control of DynEco where (a) the former shareholders of DLG acquired approximately 83% of the currently outstanding voting securities of DynEco, and (b) the designees of the former shareholders of DLG were appointed as the executive officers and a majority of the board of directors of DynEco. The Series A Preferred Stock converted into 6,566,667 shares of common stock of the Company when the Company's Articles of Incorporation were amended to increase the number of authorized shares of the Company's common stock sufficient to permit full conversion of the Series A Preferred Stock. DynEco also agreed that the currently outstanding options and warrants of DLG would be exchanged for options and warrants to purchase an aggregate of 1,493,887 post-reverse shares of common stock of DynEco, and that the then-outstanding convertible promissory notes of DLG would become convertible into 1,386,111 post-reverse shares of common stock of DynEco (after taking into account the Company's 1 for 30 reverse stock split affected on January 13, 2006). The transaction was exempt from the registration requirements of the Act by reason of Section 4(2) thereunder as a transaction by an issuer not involving any public offering. The transaction is treated as a recapitalization of DLG. Accordingly, the financial statements of the Company subsequent to the recapitalization consists of the balance sheets of both companies at historical cost, the historical operations of DLG, and the operations of DynEco from the recapitalization date. NOTE 13 COMMITMENTS AND CONTINGENCIES Neither the Company nor its subsidiaries have material commitments or contingencies for purchasing goods or services that are not reported in the Company's consolidated financial statements, notes, or other disclosures at September 30, 2007. Operating Leases ---------------- The Company currently leases office space in its Tampa, Florida, and New York City locations. Monthly rent expense under the Tampa, Florida lease is approximately $13,700 per month, and the lease expires June 2011. Monthly rent expense under the New York City lease is approximately $11,500 per month, and the lease expires April 2008. Rent expense for the nine months ending September 30, 2007 and 2006 was $324,566 and $194,921, respectively. 34 Future lease obligations are as follows as of December 31, 2006: 2007 ..... $302,304 2008 ..... $210,270 2009 ..... $163,798 2010 ..... $163,798 2011 ..... $ 95,549 Legal Proceedings ----------------- The Company was named as a principal party to proceedings brought by Raymon Valdes and Changes in L'Attitudes, Inc. in Hillsborough County, Florida, Circuit Court. The proceedings began on November 13, 2006. This matter was resolved on April 13, 2007 when the parties entered into a Settlement Agreement pursuant to which (i) Mr. Valdes agreed to convert the outstanding $600,000 convertible promissory note issued by the Company pursuant to the acquisition by the Company of Changes in L'Attitudes, Inc. into 600,000 shares of the Company's common stock; (ii) the Company agreed to pay the remaining approximately $411,000 owed to Mr. Valdes in 52 weekly installments commencing on the earlier to occur of 75 days from the settlement date or the receipt by the Company of outside financing in a minimum amount of $750,000; and (iii) the Company agreed to issue to Mr. Valdes an additional 170,000 shares of its common stock. On April 13, 2007, the Company issued 770,000 shares of common stock for the conversion of the $600,000 promissory note and settlement of all accrued interest. The Company was named as a principal party to proceedings brought by MMA Capital, LLC in United States District Court for the Northern District of California. The proceedings began on November 22, 2006. The matter was resolved on March 5, 2007 when the parties entered into a Settlement Agreement that provided for the issuance of a warrant to MMA and MMA agreed to (i) extend the maturity date of the Company's outstanding promissory note payable to MMA to March 5, 2008; and (ii) to dismiss its action against the Company. Note 6 further describes the terms of settlement. The Company was named as a principal party to proceedings brought by MBN Consulting, LLC in Hillsborough County, Florida, Circuit Court. The proceedings began on November 22, 2006. On June 30, 2007, this matter was resolved and the Company issued 50,000 shares of its common stock with a fair value on the date of grant of $38,000 or $0.76 per share in settlement of this dispute. The Company has previously accrued $29,333 related to this matter and charged an additional $8,667 to operations on June 30, 2007. The Company filed a lawsuit in Hillsborough County, Florida, Circuit Court on March 2, 2007 against Stephen Hicks. The complaint seeks recovery of damages or alternative relief arising from breach of a contract under which the Company acquired IRT/ITR. The complaint alleges non-compliance with certain terms and conditions providing for integration of the companies. On March 5, 2007, counsel for Stephen Hicks notified the registrant that it was allegedly in breach of a convertible debenture payable under the March 6, 2006 Purchase Agreement between the registrant and Hicks (the "Agreement") that provided for the registrant's acquisition of IRT/ITR. The Agreement calls for payment of a convertible debenture in the amount of $1,450,000 as of March 6, 2007. In the event of any failure to pay on the convertible debenture, the Agreement provides for a continuing obligation to pay interest at a nine percent annual rate. On October 30, 2007, Stephen Hicks filed an answer and counterclaim to the Company's complaint filed March 2, 2007, alleging breach of the Agreement regarding the convertible debenture payable and other financial matters pursuant to the Agreement. The Company has classified the convertible debenture as a current liability and has recorded accrued interest of $204,420 related to this obligation on its consolidated balance sheet as of September 30, 2007. The Company believes it has recorded all other financial obligations due under the Agreement. 35 The Company is currently in discussions with Mr. Hicks regarding the settlement of the matters arising on March 2, 2007 and October 30, 2007. From time to time, we may become subject to proceedings, lawsuits and unasserted claims in the ordinary course of business. Such matters are subject to many uncertainties, and outcomes are not predictable with assurance. As of the date of this report, we do not believe that any of these matters would be material to the Company's financial condition or operation. NOTE 14 SUBSEQUENT EVENTS On October 1, 2007, the Company entered into a six-month consulting agreement with Pro345, LLC to provide financial and management consulting services to the Company. Pursuant to this agreement, the Company issued Pro345, LLC 350,000 vested shares of the Company's common stock valued at $52,500 or $0.15 per share determined using the market stock price as of the date of the agreement. The agreement is for a term of six months and is renewable at the option of either party. The fair value of $52,500 will be amortized to operating expenses over the six-month term of the agreement beginning October 1, 2007. On October 15, 2007, the Company issued director David Shapiro 100,000 shares of the Company's common stock valued at $17,000 or $0.17 per share determined using the market stock price as of the date of grant for professional services rendered to the Company. The fair value of $17,000 will charged to operating expenses. On October 16, 2007, the Company's Board of Director granted 200,000 fully vested shares of the Company's common stock to Dan Brandano, Chairman and Chief Executive Officer, pursuant to an employment agreement. The common stock was valued at $18,000 or $0.18 per share (the closing market price of the Company's common stock on the day of issuance). This value was charged to director fees in October 2007 for prior service. On October 25, 2007, the Company entered into an agreement with Miller Investments to extend the maturity date of a $150,000 promissory note from August 15, 2007 to December 15, 2007 as further described in Note 6. In consideration for this note extension, the Company agreed to issue Miller Investments 150,000 shares of its common stock valued at $34,500 or $0.23 per share (the closing market price of the Company's common stock on the day of issuance). This value will be recorded as debt discount and amortized to interest expense over the extended term of the loan. 36 ITEM 2. MANAGEMENT DISCUSSION AND ANALYSIS OR PLAN OF OPERATION Certain disclosures in this Quarterly Report on Form 10-QSB include certain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Statements that include words such as "believe," "expect," "should," intend," "may," "anticipate," "likely," "contingent," "could," "may," "estimate," or other future-oriented statements, are forward-looking statements. Such forward-looking statements include, but are not limited to, statements regarding our business plans, strategies and objectives, and, in particular, statements referring to our expectations regarding our ability to continue as a going concern, realize improved gross margins, and timely obtain required financing. These forward-looking statements involve risks and uncertainties that could cause actual results to differ from anticipated results. The forward-looking statements are based on our current expectations and what we believe are reasonable assumptions given our knowledge of the markets; however, our actual performance, results and achievements could differ materially from those expressed in, or implied by, these forward-looking statements. Factors, within and beyond our control, that could cause or contribute to such differences include, among others, the following: the success of our capital-raising and cost-cutting efforts, and implementing new technology; political and regulatory environments and general economic and business conditions; the effects of our competition; the success of our operating, marketing and growth initiatives; development and operating costs; the amount and effectiveness of our advertising and promotional efforts; brand awareness; the existence of adverse publicity; changes in business strategies or development plans; quality and experience of our management; availability, terms and deployment of capital; labor and employee benefit costs, as well as those factors in our filings with the Securities and Exchange Commission, particularly the discussions under "Risk Factors." Readers are urged to carefully review and consider the various disclosures made by us in this report and those detailed from time to time in our reports and filings with the SEC. Our fiscal year ends on December 31. References to a fiscal year refer to the calendar year in which such fiscal year ends. The following analysis of our consolidated financial condition and results of operations for the nine months ended September 30, 2007 and 2006 should be read in conjunction with the Consolidated Financial Statements and other information presented elsewhere in this report and in the Company's 10-KSB annual report. GENERAL On January 13, 2006, we entered into a Stock Exchange Agreement with the former shareholders of Dynamic Leisure Group, Inc. ("Dynamic"), a privately held Florida corporation, under which we acquired all of the outstanding capital stock of Dynamic, and Dynamic became a wholly-owned subsidiary of the Company formerly known as DynEco Corporation ("DynEco"), in a transaction for accounting purposes that was treated as a recapitalization. As part of the Stock Exchange Agreement, we issued 6,566,667 shares of our common stock (after taking into account the 1 for 30 reverse split of the Company's common stock affected on March 3, 2006). Dynamic Leisure Group (DLG) was formed in Tampa, Florida on May 16, 2005, with the intention of entering the wholesale leisure travel industry. Our primary strategy was to align ourselves with established businesses with products in key leisure travel destinations through acquisition, mergers, or strategic alliances, then grow revenues through product offerings selling directly to consumers, primarily over the Internet as well as through the brick and mortar travel agencies and other third parties and improved service delivered by Company's personnel from its customer service support center. From May 16, 2005 (inception) through January 13, 2006 DLG had limited operations and related financial results. 37 Following the recapitalization, the Company changed the focus of its business strategy to pursue opportunities in the leisure travel market, primarily as a wholesaler of bundled travel packages to frequently traveled destinations such as Florida, Las Vegas, California, Hawaii, the Caribbean, Mexico, Central and South America, and the United Kingdom and Europe. On February 8, 2006, the Company acquired Changes in L-Attitudes, Inc. ("CIL") a Florida-based direct-to-consumer online seller of vacation packages primarily to the Caribbean and Mexico. On March 6, 2006, the Company acquired Island Resort Tours, Inc. and International Travel and Resorts, Inc. (collectively "IRT/ITR"), two New York-based wholesale tour operators. CIL and IRT/ITR were primarily focused on leisure travel in the Caribbean and Mexico. Our strategy now is focused primarily on the acquisition and integration of key assets in the leisure travel industry to provide an ongoing business base, including the implementation of our proprietary dynamic packaging travel software, TourScape. We expect our revenues to grow via opportunities in the leisure travel market, including developing a more prominent Internet presence. Our executive offices are located at 5680A Cypress Street Tampa, Florida 33607, and our telephone number there is (813) 877-6300. CRITICAL ACCOUNTING ESTIMATES Stock-Based Compensation Plans On January 13, 2006, in conjunction with the recapitalization, the Company assumed DynEco's obligations under one active and two expired stock-based non-qualified compensation plans. The Board of Directors administers these plans. There were no grants under these plans during 2007. Terms and prices are determined by the compensation committee or the board. At September 30, 2007, options exercisable for 99,762 shares of common stock were outstanding pursuant to these plans. In May 2007, the Company's Board of Directors approved the 2007 Stock Option/Stock Issuance Plan and reserved a total of 5,500,000 shares of common stock for issuance under this plan. On May 23, 2007, the Company filed a Registration Statement on Form S-8 with the Securities and Exchange Commission to register the shares issuable under this plan. The plan allows the issuance of stock options and outright grants of common stock, from time-to-time, to its officers, directors, employees and independent contractors who provide services to the Company. As of September 30, 2007, a total of 800,000 shares of common stock have been granted to independent contractors/consultants and accounted for as described in Note 9 to the consolidated financial statements. On January 1, 2006, the Company implemented Statement of Financial Accounting Standard 123 (revised 2004) ("SFAS 123(R)"), "Share-Based Payment" which replaced SFAS 123 "Accounting for Stock-Based Compensation" and superseded APB Opinion No. 25 "Accounting for Stock Issued to Employees." SFAS 123(R) requires the fair value of all stock-based employee compensation awarded to employees to be recorded as an expense over the related vesting period. The statement also requires the recognition of compensation expense for the fair value of any unvested stock option awards outstanding at the date of adoption. Beginning January 1, 2006 all employee stock compensation is recorded at fair value using the Black-Scholes Pricing Model. In adopting SFAS 123(R), the Company used the modified prospective application ("MPA"). MPA requires the Company to account for all new stock compensation granted to employees at its fair value. For any portion of awards prior to January 1, 2006 for which the requisite service has not been rendered and the options remain outstanding as of 38 January 1, 2006, the Company shall recognize the compensation cost for that portion of the award for which the requisite service was rendered on or after January 1, 2006. The fair value for these awards is determined based on the grant date. As of the date of the recapitalization, there was no further service obligations related to outstanding options. There was no cumulative effect of applying SFAS 123(R) at January 1, 2006. Goodwill and Other Intangibles The Company accounts for goodwill in a purchase business combination as the excess of the cost over the fair value of net assets acquired. Business combinations can also result in other intangible assets being recognized. Amortization of intangible assets, if applicable, occurs over their estimated useful lives. Statement of Financial Accounting Standard No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142") requires testing goodwill for impairment on an annual basis (or interim basis if an event occurs that might reduce the fair value of a reporting unit below its carrying value). The Company conducts the annual review for all of its reporting units during the fourth quarter of the calendar year. Impairment of Other Long-Lived Assets The Company reviews other long-lived assets and certain identifiable assets related to those assets for impairment whenever circumstances and situations change such that there is an indication that the carrying amounts may not be recoverable. If the undiscounted future cash flows of the long-lived assets are less than their carrying amounts, their carrying amounts are reduced to fair value and an impairment loss is recognized. No impairment was recognized on the carry value of these assets. Revenue Recognition The Company follows the criteria for the United States Securities and Exchange Commission Staff Accounting Bulletin 104 and EITF 99-19 "Reporting Revenue Gross as a Principal versus Net as an Agent" for revenue recognition. The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery of product has occurred, the sales price is fixed or determinable, and collectibility is reasonably assured. The Company records merchant sales transactions at the gross purchase price generally on the date of travel. The Company considers a transaction to be a "merchant sales transaction" where the Company is the primary obligor to the customer and the Company acts as the merchant of record in the package transaction, which consists of several products from different vendors. In these transactions the Company also controls selling prices, and is solely responsible for making payments to vendors. The Company records transactions at the net purchase price where the Company is not the merchant of record or the product is not sold as a package. The Company records revenue and related costs of products when travel occurs or, for certain products, when the service is completed. It is the Company's policy to be paid by the customer in advance, with monies received in advance of travel recorded as a deferred revenue liability. The Company may receive cash or hotel room credits in exchange for providing cooperative advertising for its vendors. The Company records accounts receivable for these amounts and offsets the applicable advertising expense. Once the advertising expense is reduced to zero, any excess cooperative advertising fees are recorded as revenue. The Company is not required to buy a specific number of lodging occupancies but has pre-purchased lodging occupancies, creating inventory risk, over the past several years. The Company is not expressly required to buy a specific number of bulk airline tickets, although the Company's primary airline supplier eliminated approximately 80% of bulk rate contracts, which creates an implied minimum of ticket sales requirement. 39 Accounting for Derivatives The Company evaluates its convertible debt, options, warrants or other contracts to determine if those contracts or embedded components of those contracts qualify as derivatives to be separately accounted for under Statement of Financial Accounting Standards 133 "Accounting for Derivative Instruments and Hedging Activities" and related interpretations including EITF 00-19 "Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock". The result of this accounting treatment is that the fair value of the embedded derivative is marked-to-market each balance sheet date and recorded as a liability. In the event that the fair value is recorded as a liability, the change in fair value is recorded in the consolidated statement of operations as an "other income or expense." Upon conversion or exercise of a derivative instrument, the instrument is marked to fair value at the conversion date and then that fair value is reclassified to equity. Equity instruments that are initially classified as equity that become subject to reclassification under SFAS 133 are reclassified to liability at the fair value of the instrument on the reclassification. Warrant and Option Liability and Embedded Conversion Option Liability During our efforts to raise capital from external investments, we have issued secured and unsecured convertible promissory notes that include provisions requiring us to register related shares of common stock and one issuance of convertible debt contains a variable conversion price. Per SFAS 133 and EITF 00-19 we are required to record the fair value of all outstanding warrants and-non employee options and the fair value of the embedded conversion option as liabilities. The valuation of these liabilities is based on a Black-Scholes model and will vary, potentially significantly, based on factors such as the remaining time left to exercise the warrants, recent volatility in the price of the Company common stock, and the market price of our common stock. Changes in the valuation of the warrant and option liability and the embedded conversion option liability are recorded as other income or expense in the period of the change. The valuation of the warrant and option liability and embedded conversion option liability are non-cash income or expense items to the Company. The change in volatility is a result of the change in the expected term of outstanding warrants and options due to the passage of time, which results in a change in the time frame from which the stock price data points to compute volatility were selected. Since volatility has been computed based on historical volatility of the corporation, less data points are selected from the beginning of the period and more data points are selected from the end of the period being measured. RESULTS OF OPERATIONS Overview From January 1, 2006 to the acquisition of CIL on February 8, 2006 the Company had limited operations and no revenues. Revenues for the three months ended March 31, 2006 were derived from DLG, CIL and IRT/ITR as we began to expand in the leisure travel market through acquisitions. Operating expenses for the three and nine months ended September 30, 2007, are a combination of the operating expenses of DLG, CIL and IRT/ITR and expenses incurred to establish the corporate infrastructure, technology, and operational functions of the Company as a whole to support the planned growth of the business. 40 Three-Month Periods Ended September 30, 2007 and 2006 (third quarter) --------------------------------------------------------------------- REVENUE Revenues increased for the quarter ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows:
Percent Percent of of 2007 Revenue 2006 Revenue Change ---------- ------- ---------- ------- ------ Vacation packages .............. $1,940,075 90% $1,044,177 80% 86% Airline tickets and related fees 222,788 10% 248,093 20% (10%) General service agreement fees . - -% 7,235 -% 100% ---------- ------- ---------- ------- ------ Total .......................... $2,162,863 100% $1,299,505 100% 66% ========== ======= ========== ======= ======
Our revenue was primarily derived from the sale of vacation packages, the sale of airline tickets, recorded on a net revenue basis. COST OF REVENUE Cost of revenues increased for the quarter ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows: Percent Percent of of Related Related 2007 Revenue 2006 Revenue ---------- ------- ---------- ------- Vacation packages .............. $1,772,459 91% $ 835,374 80% Airline tickets and related fees 5,734 3% 40,764 16% ---------- ------- ---------- ------- Total .......................... $1,778,193 82% $ 876,138 67% ========== ======= ========== ======= Cost of revenues related to the sale of vacation packages includes the cost of hotel room, airline tickets, rental cars, transfers and other related fees bundled into a single travel product purchased by our customers. Cost of revenues related to the sale of airline tickets and related fee revenue reported on a net basis consists of commissions payable to independent travel agents and certain third-party processing fees. The cost of revenues increased for the three months ended September 30, 2007 as compared to the corresponding period of 2006, and the percentage of cost of revenues to revenues increased 15% between periods. The increase in the percentage of cost of revenue to revenue is the result of certain vacation packages sold at or below cost stemming from employee training issues causing late procurement of certain vacation package components thus increasing product costs to the Company. The Company believes it has resolved these training issues and expects cost of revenues as a percentage of revenues to return to its historical percentages. The Company expects its cost of revenues related to vacation packages to decrease as a percentage of revenues in the future through improved utilization of its wholesale bulk air contracts, expanded product offerings and the full utilization of its TourScape software system. 41 GROSS PROFIT Gross profit decreased for the quarter ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows:
Percent Percent of of Related Related 2007 Revenue 2006 Revenue Change ---------- ------- ---------- ------- ------ Vacation packages .............. $ 167,616 9% $ 208,803 20% (20%) Airline tickets and related fees 217,054 97% 209,829 85% 3% General service agreement fees . - -% 4,735 65% -% ---------- ------- ---------- ------- ------ Total .......................... $ 384,670 18% $ 423,367 33% (9%) ========== ======= ========== ======= ======
Our gross profit decreased for the three months ended September 30, 2007 as compared to the corresponding period of 2006 and the percentage of gross profit to revenues decreased. The decrease in gross profit is the result of certain vacation packages sold at or below cost stemming from employee training issues causing late procurement of certain vacation package components thus increasing product costs to the Company. The Company believes it has resolved these training issues and expects the gross profit percentage to return to its historical percentages. OPERATING EXPENSES Our operating expenses decreased throughout the Company for the quarter ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows:
2007 2006 ----------------------------- ------------------------------- Stock- Stock- Percent Based Percent Based of Compen- of Compen- Total Revenue sation Total Revenue sation ---------- ------- -------- ---------- ------- ---------- Employee compensation .......... $ 546,874 25% $ - $ 592,152 46% $ - Financial consulting ........... 120,786 6% 84,750 702,777 50% 663,576 Legal expense .................. 51,478 2% - 50,412 4% - Depreciation & amortization .... 292,141 14% - 336,221 26% - Internal accounting and external auditing expense .............. 83,555 4% - 142,949 11% - Director fees .................. 54,116 3% 54,116 272,000 21% 270,000 Investor relations ............. 77,735 4% 73,714 157,100 3% 157,100 Other G&A expenses ............. 300,408 14% - 235,281 32% - ---------- ------- -------- ---------- ------- ---------- Total .......................... $1,527,093 71% $212,580 $2,488,892 192% $1,090,676 ========== ======= ======== ========== ======= ==========
Operating expenses for the quarter ended September 30, 2007 were $1,527,093 compared to $2,488,892 for the corresponding period for 2006. As a result, our total operating expenses as a percentage of revenues was 71% for the three months ended September 30, 2007 as compared to 192% for the corresponding period of 2006. Financial consulting expense decreased as result of less amortization of consulting agreements entered into in the current and prior quarters than in 2006. Internal accounting and external auditing expense 42 decreased as the 2006 auditing expense included additional accounting and auditing services related to the CIL and IRT/ITR acquisitions and filing of a registration statement. Director fees decreased as a result of less amortization of share-based compensation in the current quarter compared to the corresponding period of the prior year. Investor relations expense decreased as a result of less amortization of service agreements being expensed during the three months ended September 30, 2007, compared to the same period in 2006. As we increase the volume of our business, enter into additional contracts with suppliers, and sell more products directly to customers over the Internet, we anticipate general and administrative expenses as a percentage of revenue to decrease. The Company has utilized its securities as consideration to purchase certain services from business and financial consultants, investor relation firms, attorneys and directors. As a result, operating expenses for the third quarter of 2007 included $212,580 in stock-based compensation representing the fair value of grants to common stock, warrants and options to these parties as compared to $1,090,676 in the corresponding period in 2006. The Company expects to continue to use its securities to purchase services in the future as the board of directors deems appropriate. Should this occur, the Company will recognize stock-based compensation expense based on the fair value of securities issued for services. OTHER INCOME / EXPENSE Our interest expense decreased for the quarter ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows: 2007 2006 ---- ---- Regular interest expense ............................. $ 487,968 $ 221,956 Amortization of debt discount on convertible debt .... 705,841 1,111,633 ---------- ---------- Total ................................................ $1,193,809 $1,333,589 ========== ========== Interest expense decreased between periods as a result of a reduction in debt discount amortization partly offset by an increase in accrued interest on outstanding debt obligations. The decrease in debt discount amortization is a result of debt discounts recognized on financing that occurred in 2006 that were fully amortized during but prior to the end of the third quarter of 2007. The increase in regular interest expense on outstanding debt obligations is a result of greater borrowing levels during the quarter ended September 30, 2007 compared to the corresponding period of the prior year. The fair value adjustment for outstanding warrants and options as of September 30, 2007 resulted in the recognition of non-cash income of $7,365,323 for the three months ended September 30, 2007, compared to non-cash income for the corresponding period of the prior year of $817,101. The fair value of outstanding warrants and options recorded as liabilities and the related increase or decrease in warrant and option valuation income (expense) is directly related to the number of potentially dilutive securities being valued, the trading price of the Company's common stock at the balance sheet date and the Company's common stock volatility factor. At September 30, 2007 and 2006 the Company had 12,416,713 and 2,304,500 options and warrants subject of liability treatment, the trading value of the Company's common stock was $0.15 and $1.16 per share and the volatility factor was 232% and 142%, respectively. The embedded conversion option valuation for the quarter ended September 30, 2007 resulted in expense of $1,608,632. This expense is the result of the change in value of conversion option associated with the issuance of convertible notes totaling $2,310,000 with a conversion price at a 20% to 45% discount off the trading price of the Company's common stock. The valuation of the embedded conversion option is a non-cash expense to the Company. 43 NET INCOME (LOSS) The Company had net income during the quarter ended September 30, 2007, of $3,421,205 compared to a net loss of $2,622,012 in the corresponding period in 2006. The net income for the quarter ended September 30, 2007, includes non-cash income from warrant and option liability revaluation of $7,365,323, non-cash general and administrative expenses of $212,580 from stock-based compensation, depreciation and amortization expense of $292,141, non-cash interest expense of $705,841 attributed to the issuance of securities and related amortization of the resulting debt discount and non-cash embedded conversion option revaluaton expense of $1,608,632. The net loss for the quarter ended September 30, 2006, was 2,622,012 and includes non-cash general and administrative expenses of $1,090,676 from stock-based compensation, depreciation and amortization expense of $336,221, non-cash loss on disposal of fixed assets of $42,667 and non-cash interest expense of $1,111,633 attributed to the issuance of securities and related amortization of the resulting debt discount. The non-cash expenses were partly offset by non-cash income from warrant and option liability revaluation of $817,101. Nine-Month Periods Ended September 30, 2007 and 2006 (nine months) ------------------------------------------------------------------ REVENUE Revenues increased for the nine months ended September 30, 2007, compared to the corresponding period ended September 30, 2006 as follows:
Percent Percent of of 2007 Revenue 2006 Revenue Change ---------- ------- ---------- ------- ------ Vacation packages .............. $5,493,283 89% $3,547,323 83% 55% Airline tickets and related fees 684,775 11% 706,012 16% (3%) General service agreement fees . - -% 53,980 1% -% ---------- ------- ---------- ------- ------ Total .......................... $6,178,058 100% $4,307,315 100% 43% ========== ======= ========== ======= ======
Our revenue was primarily derived from the sale of vacation packages, the sale of airline tickets, recorded on a net revenue basis. Our increase in revenues is the result of our having a full nine months of operation in 2007 compared to revenues that commenced on February 8, 2006 and March 6, 2006 related to our acquisitions of CIL and IRT/ITR, respectively. COST OF REVENUE Cost of revenues increased for the nine months ended September 30, 2007, compared to the corresponding period ended September 30, 2006 as follows: Percent Percent of of Related Related 2007 Revenue 2006 Revenue ---------- ------- ---------- ------- Vacation packages .............. $4,991,677 91% $2,858,710 81% Airline tickets and related fees 28,389 4% 182,765 26% ---------- ------- ---------- ------- Total .......................... $5,020,066 81% $3,041,475 71% ========== ======= ========== ======= 44 Cost of revenues related to the sale of vacation packages include the cost of hotel room, airline tickets, rental cars, transfers and other related fees bundled into a single travel product purchased by our customers. Cost of revenues related to the sale of airline tickets and related fee revenue reported on a net basis consists of commissions payable to independent travel agents and certain third-party processing fees. The cost of revenues increased for the nine months ended September 30, 2007 compared to the corresponding period of 2006 and the percentage of cost of revenues to revenues increased. The increase in cost of revenues is the result of our having a full nine months of operations in 2007 as compared to revenues that commenced on February 8, 2006 and March 6, 2006 related to our acquisitions CIL and IRT/ITR, respectively. The increase in the percentage of cost of revenue to revenue is the result of certain vacation packages sold at or below cost stemming from employee training issues causing late procurement of certain vacation package components thus increasing product costs to the Company. The Company believes it has resolved these training issues and expects cost of revenues as a percentage of revenues to return to its historical percentages. The Company expects its cost of revenues related to vacation packages to decrease as a percentage of revenues in the future through improved utilization of its wholesale bulk air contracts, expanded product offerings and the full deployment of its TourScape software system. GROSS PROFIT Gross profit decreased for the nine months ended September 30, 2007, compared to the corresponding period ended September 30, 2006 as follows:
Percent Percent of of Related Related 2007 Revenue 2006 Revenue Change ---------- ------- ---------- ------- ------ Vacation packages .............. $ 501,606 9% $ 688,613 19% (27%) Airline tickets and related fees 656,386 96% 525,747 74% 25% General service agreement fees . - -% 51,480 95% -% ---------- ------- ---------- ------- ------ Total .......................... $1,157,992 19% $1,265,840 29% (9%) ========== ======= ========== ======= ======
Our gross profit decreased for the nine months ended September 30, 2007 compared to the corresponding period of 2006 and the percentage of gross profit to revenues decreased. The decrease in gross profit between periods is the result certain vacation packages sold at or below cost stemming from employee training issues causing late procurement of certain vacation package components thus increasing product costs to the Company. The Company believes it has resolved these training issues and expects the gross profit percentage to return to its historical percentages. 45 OPERATING EXPENSES Our operating expenses increased throughout the Company for the nine months ended September 30, 2007, compared to the corresponding period ended September 30, 2006 as follows:
2007 2006 ------------------------------- ------------------------------- Stock- Stock- Percent Based Percent Based of Compen- of Compen- Total Revenue sation Total Revenue sation ---------- ------- ---------- ---------- ------- ---------- Employee compensation .......... $1,626,068 26% $ - $1,615,230 38% $ - Financial consulting ........... 591,950 10% 388,016 805,282 19% 705,612 Legal expense .................. 155,937 3% - 76,323 2% - Depreciation & amortization .... 760,089 12% - 420,782 10% - Internal accounting and external auditing expense .............. 291,405 5% - 489,736 11% - Director fees .................. 251,464 4% 227,348 272,000 - 270,000 Investor relations ............. 463,627 8% 387,514 183,100 4% 157,100 Other G&A expenses ............. 1,168,154 19% - 992,340 23% - ---------- ------- ---------- ---------- ------- ---------- Total .......................... $5,308,694 86% $1,002,878 $4,854,793 113% $1,132,712 ========== ======= ========== ========== ======= ==========
Operating expenses for the nine months ended September 30, 2007 were $5,308,694 compared to $4,854,793 for the corresponding period for 2006. This increase is the result of having a full nine months of operation in 2007 compared to revenues subsequent to our acquisitions in 2006 of CIL and IRT/ITR on February 8, 2006 and March 6, 2006, respectively, and the addition of corporate expenses to execute our business plan. As a result, our total operating expenses as a percentage of revenues was 86% for the nine months ended September 30, 2007 compared to 113% for the corresponding period of 2006. This increase is the result of increased employee head count in the areas of marketing/product development, supplier contract administration and executive management. Legal expense increased as result of the Company's Securities and Exchange Commission filing requirements and the handling of various legal matters. Internal accounting and external auditing expense decreased as the 2006 auditing expense included additional accounting and auditing services related to the CIL and IRT/ITR acquisitions. Director fees changed as a result of the vesting of securities granted to directors during the periods. Investor relations expense increased as a result of the amortization of service agreements entered into in 2006 and cash-based expense incurred in 2007. Other general and administrative expenses increased as a result of having a full nine months of operations with all the acquired companies. As we increase the volume of our business, enter into additional contracts with suppliers, and sell more products directly to customers over the Internet, we anticipate general and administrative expenses as a percentage of revenue to decrease. The Company has utilized its securities as consideration to purchase certain services from business and financial consultants, investor relation firms, attorneys and directors. As a result, operating expenses for the nine months ended September 30, 2007 included $1,002,878 in stock-based compensation representing the fair value of grants to common stock, warrants and options to these parties compared to $1,132,712 in the corresponding period in 2006. The Company expects to continue to use its securities to purchase services in the future as the board of directors deems appropriate. Should this occur, the Company will recognize stock-based compensation expense based on the fair value of securities issued for services. 46 OTHER INCOME / EXPENSE Our interest expense decreased for the nine months ended September 30, 2007, compared to the quarter ended September 30, 2006 as follows: 2007 2006 ---- ---- Regular interest expense ............................. $1,004,762 $ 830,070 Amortization of debt discount on convertible debt .... 1,744,732 2,688,414 ---------- ---------- Total ................................................ $2,749,494 $3,518,484 ========== ========== Interest expense decreased between periods as a result of a reduction in debt discount amortization partly offset by an increase in accrued interest on outstanding debt obligations. The decrease in debt discount amortization is a result of debt discounts recognized on financing that occurred in 2006 that were fully amortized during but prior to the end of the first nine months of 2007. The increase in regular interest expense on outstanding debt obligations is a result of greater borrowing levels during the nine months ended September 30, 2007 compared to the corresponding period of the prior year. The Company recorded a non-cash loss on extinguishment of debt of $76,635 during the first nine months of 2007. The 2007 loss of $76,635 represented the value of shares of common stock issued to a convertible note holder pursuant to an April 13, 2007 settlement. The 2006 loss included $180,000 representing the value of 200,000 shares of common stock issued to convertible note holders pursuant to the January 13, 2006 Modification and Waiver Agreement and $28,442 representing the value of additional warrants issued to the convertible note holders and the write off of certain deferred debt issue costs. The Company treated the modification as a cancellation of warrants (which resulted in a reclassification of $240,592 of warrant liability to equity) and issuance of new warrants valued at $233,227 on the modification date. The fair value adjustment for outstanding warrants and options as of September 30, 2007 resulted in the recognition of non-cash income of $5,103,208 for the nine months ended September 30, 2007 as compared to a non-cash income for the corresponding period of the prior year of $38,550. The fair value of outstanding warrants and options recorded as liabilities and the related increase or decrease in warrant and option valuation income (expense) is directly related to the number of potentially dilutive securities being valued, the trading price of the Company's common stock at the balance sheet date and the Company's common stock volatility factor. At September 30, 2007 and 2006, the Company had 21,416,713 and 2,304,500 options and warrants subject of liability treatment, the trading value of the Company's common stock was $0.15 and $1.16 per share and the volatility factor was 232% and 142%, respectively. The embedded conversion option valuation for the nine months ended September 30, 2007 resulted in expense of $2,191,815. This expense is the result of the change in value of conversion option associated with the issuance of convertible notes totaling $2,310,000 with a conversion price at a 20% to 45% discount off the trading price of the Company's common stock. The valuation of the embedded conversion option is a non-cash expense to the Company. 47 NET INCOME (LOSS) The Company a net loss during the nine months ended September 30, 2007, of $4,063,054 compared to a net loss of $7,312,316 in the corresponding period in 2006. The net loss for the nine months ended September 30, 2007, includes non-cash general and administrative expenses of $1,002,878 from stock-based compensation, depreciation and amortization expense of $760,089, non-cash interest expense of $1,744,732 attributed to the issuance of securities and related amortization of the resulting debt discount and non-cash embedded conversion option revaluation expense of $2,191,815. These non-cash expenses were partly offset by non-cash income from warrant and option liability revaluation of $5,103,208. The net loss for the nine months ended September 30, 2006, was $7,312,316 and includes non-cash general and administrative expenses of $1,132,712 from stock-based compensation, depreciation and amortization expense of $420,782, non-cash interest expense of $2,688,414 attributed to the issuance of securities and related amortization of the resulting debt discount, non-cash extinguishment of debt and non-cash loss on disposal of fixed assets of $42,667. The non-cash expenses were partly offset by non-cash income from warrant and option liability revaluation of $38,550. LIQUIDITY AND CAPITAL RESOURCES Our capital requirements consist of general working capital needs, scheduled principal payments on our debt obligations and capital leases, planned capital expenditures and, currently, the funding of deficit operations. Our capital resources consist of cash generated from operations, short-term borrowings under promissory notes payable and the sale of our common stock. Our capital resources are impacted by our deficit operations and changes in the volume of advance payments from customers and the timing of related payments to suppliers. Our financial condition relies on continuing debt and equity investment until the Company is able to achieve profitability in our wholesale leisure travel business. Period from January 1, 2007 to September 30, 2007 At September 30, 2007, we had cash of $213,215. The following table reflects the cash flow activities during the first nine months of 2007 and 2006: 2007 2006 ---- ---- Cash used by operating activities ............. $(1,649,497) $(2,381,546) Cash provided by (used in) investing activities 745 (121,045) Cash provided by financing activities ......... 1,658,056 2,758,462 ----------- ----------- Increase (decrease) in cash ................... $ 9,304 $ 255,871 =========== =========== Operating activities For the nine months ended September 30, 2007, the Company used cash in operating activities of $1,649,497. Cash was used to fund the Company's loss from operations of $4,150,702 offset by non-cash expenses consisting of general and administrative expenses of $1,002,878 from stock-based compensation and depreciation and amortization expense of $760,089. Cash used for operations included an increase in accounts receivable of $23,805 and prepaid customer travel costs of $76,990 and a decrease in deferred revenues and customer deposits of $26,836. Cash was generated from operations by decreasing other assets by $18,739 and increasing accounts payable and accrued expenses by $1,735,393. 48 Investing activities For the nine months ended September 30, 2007, the Company provided cash from investing activities of $745 by converting investments to cash. Financing activities For the nine months ended September 30, 2007, the Company provided cash from financing activities of $1,658,056. Cash was received from the proceeds of a $2,060,000 convertible promissory note, $22,500 from the issuance of common stock from the exercise of a warrant and $60,000 advanced from an employee. The Company used cash for the payment of debt issuance costs of $312,114, $151,207 repayment of an acquisition payable and principal payments on capital leases of $21,123. Primary source of liquidity As of September 30, 2007, our primary source of liquidity was $213,215 of cash and $163,126 of accounts receivable. At September 30, 2007, the Company had a working capital deficit of $15,206,223, primarily due to warrant and option liability of $2,697,044, embedded conversion option liability of $3,458,891, acquisitions payable of $1,288,793, and convertible notes payable of $4,355,792 partially offset by debt discount of $527,552. The convertible notes payable consists of promissory notes convertible into approximately 27,045,687 shares of the Company's common stock as of September 30, 2007. While we expect these notes to be converted into the Company's common stock, thereby reducing liabilities, there is no assurance this will occur. As of September 30, 2007, the Company has vested and outstanding warrants, non-plan and plan options to purchase 20,416,713, 1,000,000 and 99,762 shares of the Company's common stock with weighted average exercise prices of $0.92, $0.66 and $7.25 per share, respectively. Exercise of any of these securities would provide cash to the Company without additional financing fees. There is no assurance that any of these securities will be exercised. At September 30, 2007, the Company had total assets of $9,187,092, of which non-current assets consisted of $8,033,012; goodwill of $2,902,196; intangible assets of $3,750,968; deposits of $100,595; debt issue cost of $311,358 and $967,895 of property and equipment. Total liabilities were $17,107,407, including long-term liabilities of $747,104. Total shareholders' deficit was $7,920,315. On September 30, 2007, we were in default on $1,482,500 in convertible promissory notes and $156,434 in notes payable. We anticipate settling the balance owing on the convertible promissory notes through issuance of common stock also; however, as of November 19, 2007, this had not yet occurred nor is there any assurance that this will take place. We have relied upon convertible debt and equity financing in order to fund our operating deficit. Our inability to generate cash flow in excess of immediately needed funds has created a situation where we will require additional capital from external sources. There is no guarantee that we will be able to obtain any necessary financing on terms favorable to us, if at all. As of September 30, 2007, our sources of internal and external financing are limited. Additionally, as part of the acquisitions of IRT/ITR, we issued 700,000 shares of the Company's common stock, agreed to pay up to $1,000,000 in additional cash, and issued a $1,450,000 secured Convertible Note Payable. While we anticipate that all of our Convertible Note Payables will convert to shares of the Company's common stock, which would reduce our potential cash payment for the notes, the issuance of additional shares of our common stock would further dilute our existing shareholders' holdings. It is not expected that the internal sources of liquidity will improve until net cash is provided from operating activities and, until such time, we will rely upon external sources of liquidity, including additional private placements of the Company's common stock and exercise of various outstanding stock warrants and stock options. We are hopeful that the continued listing of our shares on the OTC Bulletin Board and expansion of our business opportunities in the leisure travel market will help increase the Company's market capitalization, encourage 49 the exercise of outstanding warrants and attract new sources of financing. We have no understandings or commitments from anyone with respect to external financing, and we cannot predict whether we will be able to secure necessary funding when needed, or at all. As we continue to expand our business and deploy our technology in our leisure travel business, our current monthly cash flow requirements will exceed our near-term cash flow from operations. Even if we are not required to meet our financing and interest payment needs from cash, and instead our investors convert their outstanding convertible notes to common stock, our available cash resources and anticipated cash flow from operations are insufficient to satisfy our anticipated costs associated with new product development and expansion into new markets in the near future. There can be no assurance that we will be able to generate sufficient cash from operations in future periods to satisfy our capital requirements; therefore, we will have to continue to rely on external financing activities, including the sale of our equity securities, to satisfy our capital requirements for the foreseeable future. Due, in part, to our lack of historical earnings, our prior success in attracting additional funding has been limited to transactions in which our equity is used as currency. In light of the availability of this type of financing, and the lack of alternative proposals, our board of directors has determined that the continued use of our equity for these purposes may be necessary if we are to sustain operations. Equity financings of the type we have been required to pursue are dilutive to our stockholders and may adversely impact the market price for our shares. However, we have no commitments for borrowings or additional sales of equity, the precise terms upon which we may be able to attract additional funding is not known at this time, and there can be no assurance that we will be successful in consummating any such future financing transactions on terms satisfactory to us, or at all. OFF BALANCE SHEET ARRANGEMENTS The Company has no off balance sheet arrangements. ITEM 3. CONTROLS AND PROCEDURES We carried out an evaluation, under the supervision and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered in this report, our disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in reports that it files under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods prescribed by SEC rules, regulations and forms, and that material information relating to our consolidated operations is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure during the period when our periodic reports are being prepared. The Company's management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system's objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. 50 As of the evaluation date, the Company's Chief Executive Officer and its Chief Financial Officer concluded that the Company maintains disclosure controls and procedures that are effective in providing reasonable assurance that information required to be disclosed in the Company's reports under the Exchange Act is recorded, processed, summarized and reported within the time periods prescribed by SEC rules and regulations, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and its Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the evaluation date. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company was named as a principal party to proceedings brought by Raymon Valdes and Changes in L'Attitudes, Inc. in Hillsborough County, Florida, Circuit Court. The proceedings began on November 13, 2006. This matter was resolved on April 13, 2007 when the parties entered into a Settlement Agreement pursuant to which (i) Mr. Valdes agreed to convert the outstanding $600,000 convertible promissory note issued by the Company pursuant to the acquisition by the Company of Changes in L'Attitudes, Inc. into 600,000 shares of the Company's common stock; (ii) the Company agreed to pay the remaining approximately $411,000 owed to Mr. Valdes in 52 weekly installments commencing on the earlier to occur of 75 days from the settlement date or the receipt by the Company of outside financing in a minimum amount of $750,000; and (iii) the Company agreed to issue to Mr. Valdes an additional 170,000 shares of its common stock. On April 13, 2007, the Company issued 770,000 shares of common stock for the conversion of the $600,000 promissory note and settlement of all accrued interest at a conversion rate of $1.00 per share. The Company was named as a principal party to proceedings brought by MMA Capital, LLC in United States District Court for the Northern District of California. The proceedings began on November 22, 2006. The matter was resolved on March 5, 2007 when the parties entered into a Settlement Agreement that provided for the issuance of a warrant to MMA and MMA agreed to (i) extend the maturity date of the Company's outstanding promissory note payable to MMA to March 5, 2008; and (ii) to dismiss its action against the Company. Note 6 further describes the terms of settlement. The Company has been named as a principal party to proceedings brought by MBN Consulting, LLC in Hillsborough County, Florida, Circuit Court. The proceedings began on November 22, 2006. On June 30, 2007 this matter was resolved and the Company issued 50,000 shares of its common stock with a fair value on the date of grant of $38,000 or $0.76 per share in settlement of this dispute. The Company has previously accrued $29,333 related to this matter and charged an additional $8,667 to operations on June 30, 2007. The Company filed a lawsuit in Hillsborough County, Florida, Circuit Court on March 2, 2007 against Stephen Hicks. The complaint seeks recovery of damages or alternative relief arising from breach of a contract under which the Company acquired IRT/ITR. The complaint alleges non-compliance with certain terms and conditions providing for integration of the companies. On March 5, 2007, counsel for Stephen Hicks notified the registrant that it was allegedly in breach of a convertible debenture payable under the March 6, 2006 Purchase Agreement between the registrant and Hicks (the "Agreement") that provided for the registrant's acquisition of IRT/ITR. The Agreement calls for payment of a convertible debenture in the amount of $1,450,000 as of March 6, 2007. In the event of any failure to pay on the convertible debenture, the Agreement provides for a continuing obligation to pay interest at a nine percent annual rate. On October 30, 2007, Stephen Hicks filed 51 an answer and counterclaim to the Company's complaint filed March 2, 2007, alleging breach of the Agreement regarding the convertible debenture payable and other financial matters pursuant to the Agreement. The Company has classified the convertible debenture as a current liability and has recorded accrued interest of $204,420 related to this obligation on its consolidated balance sheet as of September 30, 2007. The Company believes it has recorded all other financial obligations due under the Agreement. The Company is currently in discussions with Mr. Hicks regarding the settlement of the matters arising on March 2, 2007 and March 5, 2007. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES On October 16, 2007, the Company's Board of Director granted 200,000 fully vested shares of the Company's common stock to Dan Brandano, Chairman and Chief Executive Officer, pursuant to an employment agreement. The common stock was valued at $18,000 or $0.18 per share (the closing market price of the Company's common stock on the day of issuance). This value was charged to director fees in October 2007 for prior service. The issuance of the common stock was exempt from the registration requirements of the Act by reason of Section 4(2) of the Act and the rules and regulations thereunder as transactions by an issuer not involving any public offering. On October 25, 2007, the Company entered into an agreement with Miller Investments to extend the maturity date of a $150,000 promissory note from August 15, 2007 to December 15, 2007, as further described in Note 6. In consideration for this note extension, the Company agreed to issue Miller Investments 150,000 shares of its common stock valued at $34,500 or $0.23 per share (the closing market price of the Company's common stock on the day of issuance). This value will be recorded as debt discount and amortized to interest expense over the extended term of the loan. The issuance of the common stock was exempt from the registration requirements of the Act by reason of Section 4(2) of the Act and the rules and regulations thereunder as transactions by an issuer not involving any public offering. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS 10.1 Settlement Agreement dated July 31, 2007 by and between the Company and the Subscribers named therein and Form of Amended and Restated Stock Purchase Warrant (incorporated by reference to Exhibit 10.1 to the Company's Form 8-K filed on August 6, 2007) 10.2 Modification and waiver agreement dated October 25, 2007 between the Company and Miller Investments, LLC related to a convertible promissory note dated May 1, 2007. 31.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 52 SIGNATURES In accordance with the requirements of the Exchange Act the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: November 19, 2007 DYNAMIC LEISURE CORPORATION By: /s/ Daniel G. Brandano ---------------------- Daniel G. Brandano Chief Executive Officer EXHIBIT INDEX 10.1 Settlement Agreement dated July 31, 2007 by and between the Company and the Subscribers named therein and Form of Amended and Restated Stock Purchase Warrant (incorporated by reference to Exhibit 10.1 to the Company's Form 8-K filed on August 6, 2007) 10.2 Modification and waiver agreement dated October 25, 2007 between the Company and Miller Investments, LLC related to a convertible promissory note dated May 1, 2007. 31.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 53