ITEM 2
.
MANAGEMENT’S DISCUSSION AND ANALYSIS O
F FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Introduction
You should read the following summary together with th
e more detailed information
and
consolidated
financial statements and notes thereto and schedules appearing elsewhere in this report.
W
hen we refer to the
“Company
” “
TX Holdings
,” “we,” “our” or “us,” we mean
TX Holdings
, In
c
.,
and its subsidiary
.
The discussion and analysis contained in this Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is based upon our consolidated financial statements which have been prepared in accordance with GAAP.
The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our critical accounting policies and estimates, including those related to revenue recognition and contingencies. We base our estimates on historical experience, where available, and on various other assumptions we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions and conditions.
Except for historical information, the statements and other information contained in this MD&A are forward-looking. Our actual results could differ materially from the results discussed in the forward-looking statements, which include certain risks and uncertainties.
Our independent registered public accounting firm’s report on the consolidated financial statements included in our Annual Report Form 10-K for the year ended September 30, 2018, contained an explanatory paragraph in which they expressed an opinion that there is substantial doubt about our ability to continue as a going concern.
Accordingly, careful consideration of such opinion should be given in determining whether to continue or become our stockholder.
Please refer to and carefully consider the factors described in the Risk Factors section in our Form 10-K for the year ended September 30, 2018, and in this report.
Business and Operational Overview
We are in the business of supplying, distributing and selling drill bits, related tools, and other mining supplies, rail and rail material directly and through other suppliers to United States’ coal mining companies for use in their production and transportation processes. Our coal mining customers are primarily located in Ohio, Pennsylvania, Kentucky and West Virginia. Our principal executive offices and warehousing facility is located in Ashland, Kentucky.
Our Business
We purchase mining supplies such as drill bits, augurs and related products from domestic as well as overseas manufacturers and rail material such as tee rail, switches, ties and other rail products from several suppliers of such products and distribute and sell such products to U.S. coal mining companies and other suppliers. Our products are either shipped to our warehouse in Ashland, Kentucky, for distribution to our customers or shipped directly to our customers, including products we import once they have been received by us at a port and cleared customs. Our products are transported primarily by ground transportation to our customers. Shipping costs are born by our customers.
We distribute and sell our products through an independent sales agent who is compensated on a commission basis.
We were incorporated in the State of Georgia in 2000.
RESULTS OF OPERATIONS
Results of Operations – For the three months ended
March 31, 2019
, versus the three months ended
March
31
, 201
8
Revenues from Operations
Revenues for the second quarter of fiscal 2019 were $1,120,997 as compared to $1,098,590 for the same period in fiscal 2018, an increase of $22,407 or 2.0%. The increase in revenues is attributable to higher sales of our rail products
during the current period due to increased or renewed operations at previously downsized or shut-down coal mines.
Cost of Goods Sold
During the quarter ended March 31, 2019, our cost of goods sold was $931,340 as compared to cost of goods sold of $886,544 for the quarter ended March 31, 2018, an increase of $44,796 or 5.1% due to an increase in sales during the current period. As a percentage of sales, cost of goods sold increased from 80.7% in 2018 to 83.1% during the current period due to higher sales of a product mix with relatively higher unit cost during the current quarter.
G
ross Profit
Gross profit for the period ended March 31, 2019, decreased as a percentage of revenue to 16.9% from 19.3% for the same period of the prior fiscal year. The decrease in gross profit resulted from an unfavorable mix of higher cost rail related products with lower margins sold during the current second quarter.
Operating Expenses
Operating expenses for the three months ended March 31, 2019 were $108,009 as compared to $132,495 for the three months ended March 31, 2018, a decrease of $24,486 or 18.5%.
The table below details the components of operating expenses, as well as the dollar and percentage changes for the comparative three-month periods.
|
|
Three Months Ended
|
|
|
|
3/31/2019
|
|
|
3/31/2018
|
|
|
$ Change
|
|
|
%Change
|
|
Operating Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salary expense
|
|
$
|
36,717
|
|
|
$
|
25,075
|
|
|
$
|
11,642
|
|
|
|
46.4
|
|
Professional fees
|
|
|
0
|
|
|
|
5,400
|
|
|
|
(5,400
|
)
|
|
|
(100.0
|
)
|
Bad debt expense
|
|
|
0
|
|
|
|
20
|
|
|
|
(20
|
)
|
|
|
(100.0
|
)
|
Depreciation expense
|
|
|
1,792
|
|
|
|
1,792
|
|
|
|
0
|
|
|
|
0.0
|
|
Other operating expense
|
|
|
69,500
|
|
|
|
100,208
|
|
|
|
(30,708
|
)
|
|
|
(30.6
|
)
|
Total
|
|
$
|
108,009
|
|
|
$
|
132,495
|
|
|
$
|
(24,486
|
)
|
|
|
(18.5
|
)
|
Salary expense for the three months ended March 31, 2019, was $36,717 compared to $25,075 for the same period in 2018, an increase of $11,642 or 46.4%. The higher salary expense is the direct result of an additional warehouse staff added to the payroll in the current period.
Professional fees decreased $15,400 or 100.0% during the three months ended March 31, 2019 as compared to the same period in 2018. The decrease can be attributed to lower legal expenses related to SEC compliance and other compliance related matters.
Depreciation expense during the three months ended March 31, 2019, was $1,792, which compares to the same period the prior year.
During the three months ended March 31, 2019, other operating expenses of $69,500 decreased by $30,708 or 30.6% from $100,208 for the same period in 2018. The lower other operating expenses resulted primarily from lower sales commission expense and a reversal of payroll taxes over-accrual, partially offset by higher repair and maintenance expense.
Income
from operations
Income from operations for the quarter ended March 31, 2019, was $81,648 compared to income from operations of $79,551 during the same period in 2018. The increase in income from operations when compared to the same period the prior year is the direct result of lower operating expenses partially offset by lower sales margins of rail products in the current period.
Other income and (expense)
Other income and expense for the three months ended March 31, 2019 was a net expense of $37,326 as compared to a net expense of $32,008 for the quarter ended March 31,2018 or, an increase of $5,318. The increase in net expense is the result of higher interest expense incurred on our bank loan during the current quarter.
Net income
For the quarter ended March 31, 2019, we had net income of $44,322 compared to net income of $47,543 for the quarter ended March 31, 2018. The $3,221 decrease in net income in the current period was the result of lower sales margins of rail products during the current quarter partially offset by lower operating expense compared to the same quarter the prior year.
Net
income
per common share
The net income of $44,322 for the quarter ended March 31, 2019, as well as the net income of $47,543 for the quarter ended March 31, 2018, when divided by the number of common shares outstanding of 48,053,084 basic shares in both years resulted in a net income per share of less than $0.01 in both periods.
RESULTS OF OPERATIONS
Results of Operations – For the
six
months ended
March 31, 2019
, versus the three months ended
March 31
, 201
8
Revenues from Operations
Revenues for the six months of fiscal 2019 were $2,129,740 as compared to $2,098,066 for the same period in fiscal 2018, an increase of $31,674 or 1.5%. The increase in revenues is attributable to higher sales of our rail products
during the current period due to increased or renewed operations at previously downsized or shut-down coal mines.
Cost of Goods Sold
During the six months period ended March 31, 2019, our cost of goods sold was $1,760,036 as compared to cost of goods sold of $1,745,998 for the same period ended March 31, 2018, an increase of $14,038 or 0.8% due to an increase in sales during the current period. As a percentage of sales, cost of goods sold decreased from 83.2% in 2018 to 82.6% during the current period due to higher sales of a product mix with relatively lower unit cost during the current six months period.
G
ross Profit
Gross profit for the period ended March 31, 2019, increased as a percentage of revenue to 17.4% from 16.8% for the same period of the prior fiscal year. The increase in gross profit resulted from a favorable mix of lower cost rail related products with higher margins sold during the current six months period.
Operating Expenses
Operating expenses for the six months ended March 31, 2019 were $243,574 as compared to $278,606 for the six months ended March 31, 2018, a decrease of $35,032 or 12.6%.
The table below details the components of operating expenses, as well as the dollar and percentage changes for the comparative six-month periods.
|
|
Six Months Ended
|
|
|
|
3/31/2019
|
|
|
3/31/2018
|
|
|
$ Change
|
|
|
%Change
|
|
Operating Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salary expense
|
|
$
|
74,393
|
|
|
$
|
56,758
|
|
|
$
|
17,635
|
|
|
|
31.1
|
|
Professional fees
|
|
|
186
|
|
|
|
16,900
|
|
|
|
(16,714
|
)
|
|
|
(98.9
|
)
|
Bad debt expense
|
|
|
0
|
|
|
|
20
|
|
|
|
(20
|
)
|
|
|
(100.0
|
)
|
Depreciation expense
|
|
|
3,584
|
|
|
|
3,584
|
|
|
|
0
|
|
|
|
0.0
|
|
Other operating expense
|
|
|
165,411
|
|
|
|
201,344
|
|
|
|
(35,933
|
)
|
|
|
(17.8
|
)
|
Total
|
|
$
|
243,574
|
|
|
$
|
278,606
|
|
|
$
|
(35,032
|
)
|
|
|
(12.6
|
)
|
Salary expense for the six months ended March 31, 2019, was $74,393 compared to $56,758 for the same period in 2018, an increase of $17,635 or 31.1%. The higher salary expense is the direct result of an additional warehouse staff added to the payroll in the current period.
Professional fees decreased $16,714 or 98.9% during the six months ended March 31, 2019 as compared to the same period in 2018. The decrease can be attributed to lower legal expenses related to SEC compliance and other compliance related matters.
Depreciation expense during the six months ended March 31, 2019, was $3,584, which compares to the same period the prior year.
During the six months ended March 31, 2019, other operating expenses of $165,411 decreased by $35,933 or 17.8% from $201,344 for the same period in 2018. The lower other operating expenses resulted primarily from lower sales commission expense and a reversal of over-accrued payroll taxes, partially offset by higher repair and maintenance expense and higher insurance expense.
Income
from operations
Income from operations for the two quarters ended March 31, 2019, was $126,130 compared to income from operations of $73,462 during the same period in 2018. The increase in income from operations when compared to the same period the prior year is the direct result of higher sales and sales margins of rail products and lower operating expenses, in the current period.
Other income and (expense)
Other income and expense for the six months ended March 31, 2019 was a net expense of $72,633 as compared to a net expense of $57,440 for the six months ended on March 31,2018 or a loss increase of $15,193. A $6,476 gain on sale of scrap during the 2018 period and higher interest on our bank loan during the current period account for the higher net expense in the current period.
Net income
For the two quarters ended March 31, 2019, we had net income of $53,497 compared to net income of $16,022 for the same period ended March 31, 2018. The $37,475 increase in the current period net income resulted from higher sales and sales margins of rail products and lower operating expenses during the current period.
Net
income
per common share
The net income of $53,497 for the six months period ended March 31, 2019, as well as the net income of $16,022 for the six months ended March 31, 2018, when divided by the number of common shares outstanding of 48,053,084 basic shares in both years resulted in a net income per share of less than $0.01 in both periods.
LIQUIDITY
AND CAPITAL RESOURCES
The following table presents a summary of our net cash provided (used) by operating, investing and financing activities:
|
|
Six Months Ended
|
|
Liquidity and capital resources
|
|
3/31/2019
|
|
|
3/31/2018
|
|
Net cash provided/(used) by operating activities
|
|
$
|
85,998
|
|
|
$
|
(15,801
|
)
|
Net cash provided/(used) by investing activities
|
|
_
|
|
|
_
|
|
Net cash provided/(used) by financing activities
|
|
|
29,087
|
|
|
|
(19,138
|
)
|
Net increase/(decrease) in cash equivalents
|
|
$
|
115,085
|
|
|
$
|
(34,939
|
)
|
At March 31, 2019, we had cash and cash equivalents of $151,694 as compared to $36,609 at September 30, 2018 an increase of $115,085 or 314.4%.
Cash
Flows
Provided/
(
Used
)
in
Operating Activities
Net cash provided by operating activities for the six months ended March 31, 2019, was $85,998 compared to net cash used by operating activities of $15,801 in the same six-months in 2018.
During the six months ended March 31, 2019, we had net income of $53,497 as compared to net income of $16,022 for the same period in the prior year.
In the current six months period, as well as prior year for the same period, the Company had non-cash expenses for depreciation of $3,584.
Cash provided by operating activities during the six months ended March 31, 2019 from an increase in accounts receivable of $200,715 and a reduction in accrued liabilities of $87,456 were more than offset by cash provided by operating activities from a reduction in inventory of $68,088, an increase in accounts payable of $172.945, and an increase in other liabilities of $74,955.
Cash
Flows
P
rovided
/
(U
s
ed
in
)
Investing Activities
There was no cash flow used in investing activities for the period ended March 31, 2019 or 2018.
Cash Flows U
s
ed
in
Financing Activities
During the six months ended March 31, 2019 and, 2018, cash provided by financing activities was $29,087 compared to cash used in financing activities of $19,138 during the same period in 2018. During the current six months period, the Company made payment on its term loan of $27,413 and received advances from our CEO of 56,500.
On December 3, 2015, we entered into a new fixed term loan agreement with a bank of $711,376 the proceeds of which were used to repay our previous line of credit. The loan is for a term of five years and matures on December 3, 2020. As of March 31, 2019, the loan balance was $521,637. The current rate of interest under the loan is 5.50% per annum. Principal, interest and collection costs under the loan are guaranteed by Mr. Shrewsbury.
On February 25, 2014, we issued to Mr. Shrewsbury a Consolidated Secured Promissory Note (“Consolidated Note”) to consolidate an aggregate of $2,000,000 in outstanding debt and unpaid interest due to Mr. Shrewsbury. The Consolidated Note bears interest at 5% per annum or prime rate if higher than 5% per annum and principal and interest are repayable ten years from February 25, 2014. The Consolidated Note is subject to customary events of default. Payment of the Consolidated Note is to be secured or otherwise payable by us out of the death benefit proceeds of key man insurance of $2 million that has been purchased by us on the life of Mr. Shrewsbury.
During the six months ended March 31, 2019, we received advances of $56,500 from Mr. Shrewsbury, bringing the total outstanding advance balance to $148,987. Cash advances from Mr. Shrewsbury are repayable upon demand and do not bear interest.
As of March 31, 2019 the Company had an accrued liability in the amount of $329,179 due to Jose Fuentes, CFO, for past services.
Financial Condition and Going Concern Uncertainties
Since inception, the Company, with a few exceptions has not generated sufficient cash to fund its operations and has incurred operating losses. As of March 31, 2019, the Company’s accumulated deficit was $15,557,639. Currently, in addition to funds from operations, the Company relies substantially upon financing provided by Mr. Shrewsbury, the Company’s Chief Executive Officer, and a secured bank loan that is guaranteed by Mr. Shrewsbury to finance its business operations. In view of these matters, realization of certain assets in the accompanying balance sheet is dependent upon continued operations which are dependent upon our ability to meet our financial requirements, upon the continued provision of financing from Mr. Shrewsbury and under the Company’s bank loan, and the success of our operations.
Our independent registered public accounting firm’s report on the financial statements included in our Annual Report on Form 10-K for the year ended September 30, 2018, contained an explanatory paragraph in which our auditors expressed an opinion that there is a substantial doubt about our ability to continue as a going concern.
Accordingly, careful consideration of such opinion should be given in determining whether to continue or to become our stockholder.
As of March 31, 2019, we had cash and cash equivalents of $151,694 as compared to $36,609 as of September 30, 2018.
Our accounts receivable was $460,409 as of March 31, 2019, as compared to $259,694 as of September 30, 2018, an increase of $200,715 or 77.3%. The higher March 31. 2019 receivable balance is the direct result of higher sales demand in the current period.
Inventory was $1,730,452 as of March 31, 2019, as compared to $1,798,540 as of September 30, 2018, a decrease of $68,088 or 3.8%.
Accrued expenses were reduced from $416,636 as of September 30, 2018 to $329,180 as of the six months ended March 31, 2019, a reduction of $87,456. A reduction in accrued payroll and payroll taxes account for the lower accrued liabilities balance as of March 31, 2019.
Accounts payable for the six months ended March 31, 2019, were $702,798 as compared to $529,853 as of September 30, 2018, an increase of $172,945 or 32.6%.
During the six months ended March 31, 2019, our accumulated deficit decreased from $15,611,136 to $15,557,639, a decrease of $53,497 due to the reported net income during the six months ended March 31, 2019.
During the six months ended March 31, 2019, the Company’s net income was $53,497 compared to a net income of $16,022 for the comparable period in 2018. The net income increase is due to increased sales and sales margins of our rail and mining related products and lower operating expenses in the current period..
Currently, in addition to product purchases for resale, we are spending approximately $50,000 per month on operations. Management believes that the Company’s available cash, cash flows from operations, loans and advances provided by Mr. Shrewsbury, and the loan provided by the bank to be sufficient to fund the Company’s operations during the next 12 months.
We continue to rely substantially upon financings provided by Mr. Shrewsbury and a bank loan to fund our operations. The terms of such financings are discussed below.
Bank Loan
On December 3, 2015, we obtained a term loan from Town Square Bank of $711,376. We used proceeds of the new loan to repay our former line of credit. The loan is for a term of five years and matures on December 3, 2020. As of March 31, 2019, the loan balance was $521,637.
During the term of the loan, we agreed to make equal monthly repayments of principal and interest of $6,967 commencing January 3, 2016, and to make a final payment on December 3, 2020, of the outstanding balance of the interest and principal, estimated to be approximately $391,896. Early repayment of the loan will not affect the monthly repayment amount, unless otherwise agreed to by the bank.
An event of default under the loan will occur upon the occurrence of any of the following events:
|
●
|
we fail to make any payment when due;
|
|
●
|
we fail to comply with any term, obligation, covenant or condition in the loan documents or any other agreement with the bank;
|
|
●
|
we default under any loan, extension of credit, security agreement, purchase or sales agreement or other agreement with any creditor that materially affects our property or our ability to repay the note or perform our obligations under the note or related documents;
|
|
●
|
a warranty, representation or statement made to the bank under the loan documents is or becomes materially false or misleading;
|
|
●
|
the dissolution or termination of our existence, our insolvency, the appointment of a receiver for any part of our property, any assignment for the benefit of creditors, any type of creditor workout, or the commencement of any proceeding under any bankruptcy or insolvency laws by or against us;
|
|
●
|
the commencement of foreclosure or forfeiture proceedings by any creditor or any governmental agency against any collateral securing the loan;
|
|
●
|
any of the preceding events occurs with respect to any loan guarantor;
|
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●
|
a 25% or more change in the ownership of our common stock;
|
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●
|
a material adverse change in our financial condition, or the bank believes the prospect of payment or performance of the loan is impaired; or
|
|
●
|
the bank in good faith believes itself insecure.
|
The loan agreements contain affirmative covenants, including an obligation to: notify the bank of a material adverse change in our financial condition and of any threatened litigation or claim or other proceeding which could materially affect our financial condition; maintain certain liability insurance in amounts acceptable to the bank; maintain qualified executive and management personnel; comply with applicable environmental laws and perform environmental studies required by the bank; and certify annually to the bank compliance with the representations and warranties in the bank loan documents. The loan agreements contain other customary covenants, terms and conditions.
In addition, the loan agreements contain negative covenants, including that we will not, without the bank’s consent:
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●
|
incur any indebtedness other than to the bank or for trade debt incurred in the ordinary course;
|
|
●
|
sell, transfer, mortgage, assign, pledge, lease, grant a security interest in, or encumber any of our assets, except for permitted liens;
|
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●
|
sell our accounts receivable, except to the bank;
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●
|
engage in business activities substantially different from our current activities;
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●
|
cease operations, liquidate, merge, transfer, acquire or consolidate with another entity, change our name, dissolve, or sell the inventory or accounts receivable secured under the loan;
|
|
●
|
pay any dividend other than in stock;
|
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●
|
lend money, invest or advance money or assets to another person or entity;
|
|
●
|
purchase, create or acquire an interest in any other entity;
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●
|
incur any obligation as a surety or guarantor other than in the ordinary course; or
|
|
●
|
enter into any agreement containing any provision which would be violated or breached by the performance of our obligations under the loan agreements.
|
Interest under the loan is variable and is based upon the Wall Street Journal Prime rate, currently 5.50% per annum. In the event of a default, interest under the loan may be increased by 2%. The loan is secured by a priority security interest in the Company’s inventory and accounts receivable and has been guaranteed by our CEO.
Advances and Loans from Mr. Shrewsbury
Since 2006, Mr. Shrewsbury, our Chairman and CEO, has provided financing to us in the form of demand notes and advances.
Mr. Shrewsbury, our Chairman and CEO, has provided financing to us in the form of demand notes and advances. On February 25, 2014, we entered into a Note Exchange Agreement (“Exchange Agreement”) with Mr. Shrewsbury under which an aggregate of $2,000,000 of our indebtedness (including amounts of accrued interest) to Mr. Shrewsbury was consolidated and restructured and we issued in exchange for the indebtedness a Consolidated Secured Promissory Note (the “Consolidated Note) in the principal amount of $2,000,000.
The principal and interest under the Consolidated Note is due and payable ten years from the date of issuance and is to be secured by the proceeds of key man life insurance purchased by us on the life of Mr. Shrewsbury. The Consolidated Note bears interest at the rate of 5% per annum except that, if the prime rate reported by the Wall Street Journal (“WSJ Prime Rate”) exceeds 5%, then the Consolidated Note will bear interest at the WSJ Prime Rate. As of March 31, 2019, accrued interest on the note was $509,589.
An event of default will occur under the Consolidated Note upon:
|
●
|
we fail to pay when due any principal or interest;
|
|
●
|
we violate any covenant or agreement contained in the Consolidated Note, the Exchange Agreement, or related transaction documents;
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●
|
an assignment for the benefit of creditors by us;
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|
●
|
the application for the appointment of a receiver or liquidator for us or our property;
|
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●
|
the filing of a petition in bankruptcy by or against us;
|
|
●
|
the issuance of an attachment or the entry of a judgment against us in excess of $250,000;
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|
●
|
a default by us with respect to any other indebtedness or with respect to any installment debt whether or not owing to Mr. Shrewsbury;
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|
●
|
the sale of all or substantially all of our assets or a transfer of more than 51% of our equity interests to a person not currently a holder of our equity interests;
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|
●
|
our termination of existence or dissolution;
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●
|
the death of Mr. Shrewsbury; or
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|
●
|
the failure to pay when due any premium under the key man policy required to be purchased on the life of Mr. Shrewsbury.
|
In addition, in consideration of Mr. Shrewsbury agreeing to consolidate and restructure the indebtedness, the Company granted to Mr. Shrewsbury options to purchase an aggregate of 500,000 shares of our common stock pursuant to the terms of a Non-Qualified Stock Option Agreement, issued February 25, 2014. The options were exercisable commencing April 1, 2014, and for a period of three years thereafter. The options were exercisable at a price of $0.0924 per share subject to anti-dilution adjustments in the event of stock dividends, subdivisions, capital reorganizations, a consolidation or merger, or sale of all or substantially all of our assets. The options expired on March 31, 2017.
As of March 31, 2019, Mr. Shrewsbury had advanced an aggregate of $148, 987 to the Company. The advances do not bear interest and are repayable upon demand. As of March 31, 2019, the Company also has a payable of $96,000 to Mr. Shrewsbury for warehouse storage rental.
The Consolidated Note and advances are subordinate to the Company’s bank indebtedness.
Off-Balance Sheet Arrangements
We do not maintain any off-balance sheet arrangements, transactions, obligations or other relationships with unconsolidated entities that would be expected to have a material current or future effect upon our financial condition or results of operations as of March 31, 2019, and September 30, 2018.