U.S. SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

FORM 10-Q

(Mark One)

For the quarterly period ended November 30, 2008February 28, 2009

For the transition period from _______________ to _______________

Commission File Number

Edgewater Foods International,Ocean Smart, Inc.

US Representative Office

(Former address)

Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X ] No [  ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act of 1934) Yes [  ] No [X]

As of January 16,April 9, 2009, there were 25,327,77725,477,777 shares of Common Stock, par value $0.0001 outstanding, 7,773,998 shares of Series A Preferred Stock, par value is $.001, 207 shares of Series B Preferred Stock, par value is $.001, 747,870 shares of Series C Preferred Stock, par value is $.001 and 304,558 shares of Series D Preferred Stock, par value is $.001.

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION

Note 1.  Basis of Presentation, Organization and Nature of Operations

Ocean Smart, Inc. (formerly Edgewater Foods International Inc.), a Nevada Corporation, is the parent company of Island Scallops Ltd., a Vancouver Island aquaculture company. Island Scallops was established in 1989 and for over 1920 years has operated a scallop farming and marine hatchery business. Island Scallops is dedicated to the farming, processing and marketing of high quality, high value marine species (scallops).

Note 2.  Significant Accounting Policies

Basis of Presentation

Our unaudited consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States of America for reporting interim financial information and the rules and regulations of the Securities and Exchange Commission. In management’s opinion, all adjustments necessary for a fair presentation of the financial position and results of operations for the periods presented have been included. All such adjustments are of a normal recurring nature. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended August 31, 2008. Results of operations for the three and six months ended November 30, 2008,February 28, 2009, are not necessarily indicative of the operating results for the full accounting year or any future period.

Certain amounts in the 20072008 financial statements have been reclassified to conform to the 20082009 financial statement presentation.

Note 3.  Acquisition of Granscal

Granscal Tenure

On October 31, 2008, our wholly owned subsidiary – Island Scallops, Ltd., finalized a Share Exchange Agreement with Granscal Sea Farms Ltd., a Kanish Bay Company and Granscal’s sole shareholder.  Pursuant to the Agreement, Granscal’s sole shareholder assigned and transferred all of his Granscal shares to Island Scallop in exchange for: (i) 400,000 restricted shares of our common stock; (ii) a sum equal to 50% of the gross revenue Island Scallops earns on account of the sale of Granscal’s 2004, 2005 and 2006 brood year inventory currently in the water – to be paid when Island Scallops consummates the sale of inventory; and (iii) an aggregate cash fee of $30,000.CDN$30,000.  Pursuant to the Agreement; Island Scallops also agreed to pay the $35,000CDN$35,000 that Granscal owes to the Bank of Montreal.  The 400,000 shares issued were valued at $0.08 per share, the closing bid of our common stock on the date the merger was closed.  Therefore, total aggregate value of the shares recognized by the company was $32,000.

The $30,000CDN$30,000 cash fee shall be paid in $5,000CDN$5,000 monthly installments beginning on September 30, 2008 and continuing until the cash fee is fully paid.  The cash fee is secured by a Promissory Note between Island Scallop and Granscal’s sole shareholder, who is also Granscal’s Chief Executive Officer.  The Promissory Note does not contain any interest, but is immediately due and payable if Island Scallop remains in default of the Promissory Note after a 10 day cure period.

Note 4.  Accounts Payable and Accrued Liabilities

Included in accounts payable and accrued liabilities are balances outstanding related to credit cards held in the name of one of our shareholders totaling $39,776$49,217 and $33,292 at November 30February 28, 2009 and August 31, 2008, respectively.  We used these credit cards as a means of short term financing and incur interest charges on such unpaid balances.

Included in accounts payable and accrued liabilities at November 30, 2008,February 28, 2009, is an amount of $106,320$104,650 in respect to an agreement to purchase geoduck seed from us (for additional information see Note 7 – Contingent Liabilities).

Included in accounts payable and accrued liabilities at November 30February 28, 2009 and August 31, 2008 is $93,629$104,955 and $95,065 of principal due and interest accrued in respect to the loan from the National Research Council of Canada Industrial Research Assistance Program (see Note 6 – Long Term Debt for additional information).

Note 5.  Line of Credit

Included in line of credit at November 30, 2008,February 28, 2009, are two bank lines of credit.  The first line is a $67,000 bank line of credit for Island Scallops.  The interest rate on the line of credit is 7.5% as of November 30, 2008.February 28, 2009.  At November 30, 2008,February 28, 2009, the balance due is $66,713.$65,027. The second line is a $40,000 bank line of credit for Island Scallops.  The interest rate on the line of credit is 6.5% as of August 31, 2008.  At November 30, 2008,February 28, 2009 and  February 28, 2009, the balance due is $38,755.$15,810.  This second line of credit is subject to a personal guarantee by our Chairman and CEO, Robert Saunders.

Note 6. Long Term Debt

These consolidated financial statements include a Western Diversification Program non-interest bearing loan to Island Scallops that requires repayment equal to 12% of gross revenues from our scallop sales, payable semi-annually, with no specified due date.  The repayment terms have been formally amended several times.  Most recently, in June 2008, the Western Diversification Program agreed to allow Island Scallops to suspend repayment of the roughly $345,000$340,000 loan until October 2008.  Starting in October 2008, Island Scallops was to begin repaying the loan at a rate of $8,063$7,937 per month for five months.   Once Island Scallops had completed these five months of loan payments arewere completed, the Western Diversification Program had  agreed to base quarterly repayments on 3% of the gross scallop sales (as opposed to the originally agreed upon 4%) or $20,185$19,841 whichever is greater.    As of November 30, 2008, no payments have yet been made underFebruary 28, 2009, we reached an agreement with the revised terms and we are currently seekingWestern Diversification Program to renegotiate this new agreement to further extendrevise the repayment terms.terms of the remaining balance of $339,167 (representing $122,222 overdue and a balance of $216,945).  Beginning February 28, 2009, we began repaying the overdue amount at rate of $794 per month through December 31, 2010.  Commencing January 31, 2011, we will begin paying $3,968 per month towards the overdue balance.  Starting January 31, 2011, our monthly repayment amount will be the greater of 4% of Island Scallops’ gross monthly revenues or $7,937 per month.  Under the terms of the modified agreement, the overdue amount will also bear interest at an annual rate of 3%.  Starting January 31, 2012, we will begin repaying the balance of $216,945 at the greater of 4% of Island Scallops gross monthly revenues or $7,937 per month.  At November 30, 2008,February 28, 2009, the balance due is $345,388,$339,167, of which $124,980$122,222 is reflected in the current portion of long term debt and the remaining balance of $220,408$216,945 is reflected as long term debt.

These consolidated financial statements include Island Scallops’ unsecured loan from the National Research Council of Canada Industrial Research Assistance Program which requires quarterly payments commencing March 1, 2003 equal to 3% of gross revenues of Island Scallops until the earlier of full repayment or December 1, 2012.  If at December 1, 2012, Island Scallops has not earned sufficient revenues to be required to repay the original loan amount, the remaining portion of the loan is to be forgiven.  Amounts currently due at August 31, 2008, bear interest at a rate of 1% per month.  At November 30, 2008,February 28, 2009, Island Scallops is in arrears in respect to the payment of these amounts.  The National Council of Canada Industrial Research Assistance Program has requested payment of the $93,629$104,955 that they claim is owed under this loan agreement.  As such, at November 30, 2008, $93,629February 28, 2009, $104,955 is included in accounts payable and accrued liabilities and the remaining full principal balance of $223,804$207,491 is reflected in the current portion of long term debt. We are seeking to renegotiate the repayment terms.

These consolidated financial statements include Island Scallop’s mortgage loan repayable at $2,298$2,262 per month (currently interest only calculated at 10.5% per annum).  The loan is secured by a secondfirst charge on the real property of Island Scallops. At November 30, 2008,February 28, 2009, the principal due is $225,770.

Note 7.  Contingent Liabilities

Our wholly owned subsidiary, Island Scallops, entered into an agreement in 1998 with two parties, under which Island Scallops was to produce and sell geoduck seed to the two parties. Island Scallops received advance payments from each of the two parties in 2002 of approximately $64,140 and recognized related revenue of $43,705 in respect to seed delivered in 2002. The balance of the deposits received (advance payments), net of sales, totaling $106,320,$104,650, is included in accounts payable and accrued liabilities.

Any additional liability to us, or any reduction of the currently recognized liability, in respect to these deposits will be recorded at the time a conclusion to this matter can be determined.

Neither we nor our wholly owned subsidiary maintain insurance covering the replacement of our inventory. Consequently, we are exposed to financial losses or failure as a result of this risk.

Note 8.  Stock Option Expenseand Warrants

In August 2005, our Board of Directors approved the “Edgewater Foods International 2005 Equity Incentive Plan.” The Board of Directors reserved 5,000,000 shares of our common stock to be issued in the form of incentive and/or non-qualified stock options for employees, directors and consultants to Edgewater. As of August 31, 2008, our Board of Directors had authorized the issuance of 3,062,000 options to employees.

On September 8, 2008, our board of directors authorized the issuance of an aggregate of 100,000 options to purchase our common stock to one of our directors pursuant to the “Edgewater Foods International 2005 Equity Incentive Plan.”  The options vest in two equal installments over the next two years (on September 8, 2009 and 2010).  Each option is exercisable for a period of five years from the issuance date and has an exercise price of $0.45 respectively.  Pursuant to this option,these options, we will incur approximately an additional $43,000 through August 31, 2010. We used the Black Scholes option-pricing model with the following assumptions: an expected life equal to the contractual term of the options (five), underlying stock price of $0.45 per share, no dividends; a risk free rate of 2.96%, which equals the one, three and six-year yield on Treasury bonds at constant (or fixed) maturity and volatility of 175%. However, atDuring the datefirst six months ended February 28, 2009, the company recognized approximately $10,700 of this Report, we have not yet issued this option.option expense.

Stock option activity during the period ending November 30, 2008,February 28, 2009, was as follows:

At November 30, 2008,February 28, 2009, 62,000 of the exercisable options expire in August 2010, 190,000 of exercisable options expire in April of 2012, 2,120,000 of the exercisable options expire in August 2012 with the remaining balance of 220,000 having an expiration date of August 2015.

At November 30, 2008,February 28, 2009, if all options and warrants were exercised and all shares of preferred stock were converted, we would have 65,526,27858,851,970 shares of common stock outstanding.

Note 9.10.  Subsequent Events

On December 31, 2008,March 23, 2009 we issued 324,691100,000 shares of common stock to the investorsGallatin Consulting, Inc. that our Board of our April 12, May 30, June 30 and July 11, 2006 financings as payment of the semi-annual dividend per the terms of the Certificate of Designation of the Relative Rights and Preferences of the Series A Convertible Preferred Stock. The number of shares issued was based on the dividend payment at a rate of 8% per annum (subject to a pro rata adjustment) of the Liquidation Preference Amount ($1,416,000Directors previously approved for the April 12 financing, $1,500,000 for the May 30 financing, $1,550,000 for the June 30 financinginvestor relations and $1,450,000 for the July 11 financing) payable in shares equalmarketing services that they will provide to 90% of the quotient of (i) the dividend payment divided by (ii) the average of the VWAP for the 20 trading days immediately preceding the date the dividend payment is due, but in no event less than $0.65.  As such, the shares were valued at approximately $233,500 and the total aggregate value of the transaction was recorded as a preferred stock dividend.

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS

Overview

During our the first and second quarter of our 2009 fiscal year, we continued the harvesting, processing and sale of our 20042005 and 20052006 year classes of scallops continued sorting our 2006 scallop class and transferring our 2007 year-class scallops (which were still maturing in our tenured growing sites and on-shore ponds) to larger grow-out nets on our farm sites.  We also began the spawning of our 2009 scallop class.  We refer to the year-class of scallops based on when the scallops were spawned.  Generally, the harvest occursbegins approximately 22 to 24 months after spawning of the scallops. For example, we plan to begin harvesting our 2009 scallop class (that was initially spawned in February of 2009) in December 2010.

During the first quarter of our 2009 fiscal year, we completed a large purchase order with Fanny Bay Oyster Co., a division of Taylor Shellfish Farms of Shelton, Washington (an international seafood distributor and the largest shellfish company on the West Coast).  The order includes live scallops, fresh scallop meat and frozen scallops that will be packaged and delivered in various scallop products (including live in-the-shell, frozen half-shell and fresh meat).   As a result of this order, Fanny Bay will effectively become the exclusive distributor of our scallops outside the European market.  We believe this order will reduce cost and encourage additional wholesalers within the Taylor network to carry our scallops.  In addition to the Taylor sales agreement, we finalized an order to provide frozen scallop meat with roe to the European market.  WhileDue to problems with the cadmium levels in our arrangement with Taylor Shellfish will focus on North America markets,frozen product, we were unable to complete the initial portion of this order.  We believe we have identified and solved this problem and should be able to begin European shipments in summer of 2010.  Despite the initial problem fulfilling this European order, we believe this order could represent an important first step towards establishestablishing a large European based demand for qualityour seafood products.

Management believes that these new sales agreements, coupled with the improved processing plant will yield increased revenues in our 2009 fiscal year and thereafter.  Management believes that the combination of the Fanny Bay (Taylor) sales and marketing network and the Island Scallop processing plant and product will result in both improved sales and margins in 2009 and beyond.  In addition, recent experience gained from harvesting and sorting scallops on the new longline systems should allow for greater future harvesting rates. Also, as a result of the operational review that we completed in the spring of 2008, we are working on streamlining our operations in several areas while continuing to grow our revenues .

During the threesix months ended November 30, 2008,February 28, 2009, we continued working with RKS Laboratories, Inc., a Vancouver research and development company that is working towards developing superior strains of scallops with beneficial traits such as higher meat yield and rapid growth.  Robert Saunders, our President and CEO, owns 100% of RKS.    As part of this relationship, we loaned RKS approximately an additional $50,000approximately $57,000 that is secured by all assets of RKS.  As a result, we currently have five secured notes receivable from RKS that total approximately $148,000.  We expect$155,000.  Management, originally expected RKS to begin repaying at least a portion of these loans as early as next quarter.the second quarter of 2009.  To date, RKS has yet to begin repaying a portion of these loans, but we are hopeful that initial repayment will begin in the upcoming quarter as RKS begins to realize repayment of government R&D credits.

During the continued harvesting of our 2005 class sorting of ourand 2006 scallops classes and transfer of our 2007 scallop classes, we were able to continue to review our mortality rates and update our class size projections.  Based on this review and recent sales, we expect to bring the remaining 1.61.1 million of our 2005 and 2006 year class scallops to market in the 2009 calendar year.  Originally, we believed that our 2006 spawning would yield between 5 and 10 million scallops at full maturity/harvest.  However, mortality rates were at the higher end of our projections due to the handling and sorting learning curve associated with the roll-out of our new longline and anchor system.  Additionally, problems associated with the timing of moving scallops to large nets (also known as “ocean timing”) and the density (i.e. number of scallops per net level) contributed to additional mortality problems.  We anticipate that survival rates for the future classes, starting with the 2007 scallop class, will improve due to the addition of more lines and anchors, better spacing and sorting within each lantern net, experience gained from the sorting and farming of both the 2005 and 2006 year classes and lessons learned on ocean timing and scallop density during the handling of our 2006 scallop class. We noticed gains in animal survival rates and individual scallop size in the 2007 class as compared to the 2006 class at a similar point in its development.  As of our most recent review of our scallop inventory, we currently believe that our 2007 year class should yield up to 76 million scallops at full maturity/harvest. Although this is lower than initial estimates, it will still represent our largest year class to date.

During the first and second quarter of 2009, we continued to the transfer of our 2008 scallop class from our hatchery ponds and into the ocean farms.  We originally expected to produce up to 24 million full-size scallops in this year class, but due to survival problems associated with our hatchery spawns and funding limitations, we now expect to produce as few as 32.2 million full-size scallops.   Based on our initial review of the hatchery spawn, we believe the mortality problemproblems were the result of large blooms of toxic marine algae at the critical stage prior to metamorphosis of approximately 600 million scallop larvae.   These blooms corresponded to high levels of Paralytic Shellfish Poisoning in our ocean farms and although it did not harm any of our juvenile or mature scallops, it is believed that pre-metamorphic larvae are particularly susceptible. Procedures are now in place to prevent the introduction of toxic algae into the hatchery system in the coming years.

If our mortality rates are better than our current projections, our yield and revenues from the 2005, 2006 and 2007 scallop class could be higher; conversely, if our mortality rates are worse than we anticipate our revenues for this period could be lower than we anticipate.  In addition, changes in the anticipated growth rates, projected harvesting cycles and large fluctuations in the price of scallops or the US-Canadian exchange rate could impact our current projections.  Furthermore, if we cannot achieve our estimated product mixture (live/fresh/frozen) than our average sales price per scallop will be lower.  Alternatively, if we are able to sell a large percentage of high yield products (live or frozen on the half shells) than our average price per scallop will be higher.

Despite our efforts to improve our cost of goods continued to improve relative to our selling price, however, werewe are still operating at a negative margin.    Part of this problem was associated with operational inefficiencies that were identified during our recently completed top-down operation review.  As a result, we expect areour cost of goods sold to continue to  improve for our 2006 and 2007 year classes and in the coming years we expect to see continued improvements in cost of goods.

Based on our current estimates of near-term sales and capital costs of expanding our farms to increase future crop yields, we will require additional financings to continue our current rate of expansion.  As we have yet to raise additional capital and our sales have increased at a slower than expected pace, we have already scaled back some of our expansion plans and may have to further scale back the plans outlined herein.  We originally anticipated that we would need approximately $1.0 million over the next 1412 months in order to continue our originally planned expansion activities, however, we now plan to align our future expansions with our ability to generate positive cash flows from our current scallop crops and/or our ability to locate additional financing.  Additionally, management intends to place a greater emphasis on increasing scallop and other shellfish seed sales in 2009 and 2010.