UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended SEPTEMBER 30, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 033-03362-D
KLEENAIR SYSTEMS, INC.
-----------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
State of Nevada 87-0431043
- ------------------------------- ----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification #)
1711 Langley Avenue, Irvine CA 92614
----------------------------------------------------
(Address of principal executive offices and zip code
(949) 955-3492
-------------------------------
(Registrant's telephone number)
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
There were 57,727,753 shares of common stock, $0.001 Par Value,
outstanding as of October 20, 2004.
Transitional Small Business Disclosure Format (check one); Yes [ ] No [X]
1
KLEENAIR SYSTEMS, INC.
FORM 10-QSB
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Report on Review by Independent Certified Public Accountants . . . 3
Consolidated Balance Sheet . . . . . . . . . . . . . . . . . . . . 4
Consolidated Statement of Operations . . . . . . . . . . . . . . . 5
Consolidated Statement of Stockholders' Equity . . . . . . . . . . 6
Consolidated Statement of Cash Flows . . . . . . . . . . . . . . . 9
Selected Information Regarding the Financial Statements . . . . . . 10
Item 2. Management's Discussion and Analysis and Plan of Operations . 14
Item 3: Controls and Procedures . . . . . . . . . . . . . . . . . . . 18
PART II: OTHER INFORMATION
Item 6: Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . 18
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
EXHIBITS
2
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements
REPORT ON REVIEW BY INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors,
KleenAir Systems, Inc.
Irvine, CA
We have reviewed the accompanying consolidated balance sheet of KleenAir
Systems, Inc. (a development stage enterprise) (the "Company") as of September
30, 2004, and the related consolidated statements of operations for three and
nine months and stockholders' equity and cash flows for nine months ended
September 30, 2004 and 2003. We have also reviewed the cumulative statements
of operations, stockholders' equity and cash flows for the period from January
1, 1995 through September 30, 2004. These financial statements are the
responsibility of the Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical review
procedures to financial data and making inquiries of persons responsible for
financial and accounting matters. It is substantially less in scope than an
audit conducted in accordance with generally accepted auditing standards, the
objective of which is the expression of an opinion regarding the financial
statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying financial statements for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet as of December 31, 2003, and the
related statements of operations, stockholders' equity and cash flows for the
year then ended (not presented herein); and, in our report dated March 22,
2004, we expressed an opinion on those financial statements that was qualified
based on the Company's ability to continue as a going concern. In our
opinion, the information set forth in the accompanying consolidated balance
sheet as of December 31, 2003 is fairly stated in all material respects in
relation to the consolidated balance sheet from which it has been derived.
/s/ Robert Early & Company, P.C.
- -----------------------------------------
ROBERT EARLY & COMPANY, P.C.
Abilene, Texas
November 4, 2004
3
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2004 2003
---------- ----------
Unaudited
ASSETS
CURRENT ASSETS:
Cash $ 13,168 $ 28,739
Accounts receivable 21,933 15,699
Accounts receivable from related parties 77,447 33,288
Inventory-raw materials (at cost) 37,493 57,126
Marketable security 501,079 -
Prepaid expenses 46,592 47,000
---------- ----------
Total Current Assets 697,712 181,852
PROPERTY AND EQUIPMENT (net) 127,051 155,611
OTHER ASSETS:
Patent license (net) 1,482,682 1,530,756
Advances to equity investee 105,206 -
---------- ----------
Total Other Assets 1,587,888 1,530,756
---------- ----------
TOTAL ASSETS $2,412,651 $1,868,219
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
CURRENT LIABILITIES:
Accounts payable ($87,008 and $84,358 due
to related parties, respectively) $ 259,097 $ 487,176
Accrued expenses 21,535 17,573
Capital lease liability - 372
Notes payable to related parties 210,000 197,000
Advances from directors 116,671 96,584
---------- ----------
Total Current Liabilities 607,303 798,705
---------- ----------
STOCKHOLDERS' EQUITY:
Preferred stock, series A, $.001 par value
(10,000,000 shares authorized, none outstanding) - -
Common stock, $.001 par value (100,000,000 shares
authorized, 57,532,236 and 31,422,161
outstanding, respectively) 57,532 31,422
Additional paid-in capital 9,935,903 8,006,296
Deficit accumulated during the development stage (8,188,832) (6,968,204)
Other comprehensive income:
Cumulative translation adjustment 745 -
---------- ----------
Total Stockholder's Equity 1,805,348 1,069,514
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $2,412,651 $1,868,219
========== ==========
See accompanying selected information.
4
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
CONSOLIDATED STATEMENTS OF OPERATIONS
For Three and Nine Months Ended September 30, 2004 and 2003
Cumulative
Three Months Nine Months During Devel-
2004 2003 2004 2003 opment Stage
---------- ---------- ---------- ---------- ------------
REVENUES $ 36,676 $ 655,192 $ 40,995 $ 893,255 $ 945,486
Cost of goods sold 23,086 414,709 32,445 610,024 730,782
---------- ---------- ---------- ---------- ------------
Gross Profit 13,590 240,483 8,550 283,231 240,121
PRODUCT DEVELOPMENT COSTS 35,914 20,853 120,977 128,240 1,359,982
OPERATING EXPENSES:
Personnel costs and director fees 17,911 75,528 140,199 87,638 1,377,943
Consultants 93,713 117,437 485,192 316,974 3,211,918
Professional fees 16,376 17,773 49,349 87,566 548,576
Office expenses 1,860 2,399 5,485 15,069 58,763
Depreciation 12,341 12,445 36,836 36,871 148,356
Amortization of intangible assets 32,914 36,466 95,421 85,599 277,080
Advertising and promotion 2,966 25,884 8,056 125,746 238,997
Loss on canceling licensing agreements - - - - 19,860
Rent 27,942 24,041 74,690 71,380 284,907
Travel 12,788 20,721 60,919 82,580 357,492
Other expenses 13,072 15,594 38,618 69,100 205,775
Bad debts (4,993) - 1,000 100,000 221,000
Unknown sources prior to current ownership - - - - 151,518
---------- ---------- ---------- ---------- ------------
Total operating expenses 226,890 348,288 995,765 1,078,523 7,102,185
---------- ---------- ---------- ---------- ------------
(LOSS) FROM OPERATIONS (249,214) (128,658) (1,108,192) (923,532) (8,222,046)
OTHER INCOME AND (EXPENSES):
Interest income - 1 - 11 2,526
Interest expense (4,706) (4,434) (14,974) (13,044) (34,411)
Foreign exchange loss - - (4,715) - (4,715)
Loss on sale of stock - - (92,747) - (92,747)
Amortization of discount on receivables - - - - 20,259
---------- ---------- ---------- ---------- ------------
(Loss) before income taxes (253,920) (133,091) (1,220,628) (936,565) (8,331,134)
Benefit from deferred taxes - - - - 397,852
---------- ---------- ---------- ---------- ------------
(Loss) Before Extraordinary Item (253,920) (133,091) (1,220,628) (936,565) (7,933,282)
Extraordinary Item:
Costs of terminated acquisition - - - - (255,550)
---------- ---------- ---------- ---------- ------------
Net (Loss) $ (253,920) $ (133,091) $(1,220,628) $ (936,565) $ (8,188,832)
========== ========== ========== ========== ============
Basic and Diluted Earnings Per Share:
(Loss) per share before extraordinary item $ (0.00) $ (0.01) $ (0.03) $ (0.04) $ (0.71)
(Loss) per share from extraordinary item - - - - (0.02)
---------- ---------- ---------- ---------- ------------
Net (Loss) Per Share $ (0.00) $ (0.01) $ (0.03) $ (0.04) $ (0.73)
========== ========== ========== ========== ============
Weighted Average Shares Outstanding 52,141,770 22,202,549 43,929,493 21,168,143 11,252,866
========== ========== ========== ========== ============
See accompanying selected information.
5
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
STATEMENT OF STOCKHOLDERS' EQUITY
Accumulated
Additional Unearned Deficit During
Preferred Stock Common Stock Paid-In Compen- Development
Shares Amount Shares Amount Capital sation Stage
--------- -------- --------- ---------- --------- --------- ----------
BALANCES, 1/1/95 - $ - 74,132 $ 74 $ 151,444 $ - $ (151,518)
Stock issued: For cash - - 27,334 27 66,982 - -
For adjustment - - 534 1 - - -
For consulting services - - 86,148 86 279,439 - -
For professional services - - 4,666 5 12,745 - -
For purchase of patent rights 933,334 934 60,000 60 13,905 - -
For directors' compensation - - 4,000 4 22,496 - -
For officers' compensation 33,334 33 9,334 9 194,958 - -
Other contributed capital - - - - 2,367 - -
Options compensation - - - - 70,313 (152,016) -
Net loss - - - - - - (329,289)
--------- -------- --------- ---------- --------- --------- ----------
BALANCES, 12/31/95 966,668 967 266,148 266 814,649 (152,016) (480,807)
Stock issued for services 13,332 13 24,666 25 201,837 (78,750) -
For officers' compensation 33,332 33 - - 15,592 (15,625) -
For aborted acquisition - - 40,000 40 140,510 - -
Exercise of options - - 75,000 75 112,424 - -
Conversion to common (318,666) (319) 318,666 319 - - -
Net Loss - - - - - 187,346 (716,511)
BALANCES, 12/31/96 694,666 694 724,480 725 1,285,012 (59,045) (1,197,318)
Stock issued: For cash - - 120,000 120 14,880 - -
For officers' compensation 33,334 33 - - 3,842 (3,875) -
Conversion to common (100,000) (100) 100,000 100 - - -
Net loss - - - - - 37,979 (55,438)
BALANCES, 12/31/97 628,000 627 944,480 945 1,303,734 (24,941) (1,252,756)
(Continued on next page)
<FN>
See accompanying selected information.
6
</FN>
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
STATEMENT OF STOCKHOLDERS' EQUITY
(Continued from previous page)
Accumulated
Additional Unearned Deficit During
Preferred Stock Common Stock Paid-In Compen- Development
Shares Amount Shares Amount Capital sation Stage
--------- -------- ---------- ---------- ---------- --------- -----------
Stock issued for cash - $ - 800,000 $ 800 $ 199,200 $ - $ -
For services - - 2,120,000 2,120 92,255 - -
To officers and directors - - 320,000 320 59,680
For diesel license - - 2,000,000 2,000 60,500 - -
Conversion to common (403,334) (403) 403,334 403 - - -
Net loss - - - - - 24,941 (305,561)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/98 224,666 224 6,587,814 6,588 1,715,369 - (1,558,317)
Stock issued for cash - - 146,800 147 35,653 - -
For services - - 1,103,334 1,103 247,179 - -
For equipment - - 33,200 33 8,267 - -
To officers and directors - - 1,425,000 1,425 408,808 - -
Conversion to common (61,334) (61) 61,334 61 - - -
Net loss - - - - - - (802,722)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/99 163,332 163 9,357,482 9,357 2,415,276 - (2,361,039)
Stock issued for cash - - 1,414,000 1,414 357,336 - -
For services - - 1,642,666 1,643 600,024 - -
As promotion - - 1,600 2 3,199 - -
Conversion to common (163,332) (163) 163,334 163 - - -
Net loss - - - - - - (717,012)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/00 - - 12,579,082 12,579 3,375,835 - (3,078,051)
Stock issued for cash - - 195,000 195 104,805 - -
For services - - 1,749,487 1,749 293,087 - -
To officers and directors - - 850,000 850 77,690 - -
For rent - - 17,500 18 6,232 - -
Net loss - - - - - - (623,811)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/01 - - 15,391,069 15,391 3,857,649 - (3,701,862)
(Continued on next page)
<FN>
See accompanying selected information.
7
</FN>
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(Continued from previous page)
Accumulated
Additional Unearned Deficit During
Preferred Stock Common Stock Paid-In Compen- Development
Shares Amount Shares Amount Capital sation Stage
--------- -------- ---------- ---------- ---------- --------- -----------
Stock issued: For cash - $ - 2,804,545 $ 2,805 $1,717,195 $ - $ -
For services - - 1,201,692 1,202 404,232 - -
For Acquisition of Carbon Cloth - - 873,250 873 968,434 - -
Contributed inventory - - - - 12,207 - -
Net loss - - - - - - (1,119,045)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/02 - - 20,270,556 20,271 6,959,717 - (4,820,907)
Stock issued:
For cash - - 750,000 750 74,250 - -
To officers and directors - - 7,600,000 7,600 511,490 - -
For services - - 2,801,605 2,801 460,839 - -
Net loss - - - - - - (2,147,297)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 12/31/03 - - 31,422,161 31,422 8,006,296 - (6,968,204)
Stock issued:
For cash - - 750,000 750 74,250 - -
For services - - 4,832,076 4,832 559,897 - -
For investment - - 20,527,999 20,528 1,295,460 - -
Net loss - - - - - - (1,220,628)
--------- -------- ---------- ---------- ---------- --------- -----------
BALANCES, 09/30/04 - $ - 57,532,236 $ 57,532 $9,935,903 $ - $(8,188,832)
========= ======== ========== ========== ========== ========= ===========
<FN>
See accompanying selected information.
8
</FN>
KLEENAIR SYSTEMS, INC.
(A Development Stage Company)
CONSOLIDATED STATEMENTS OF CASH FLOWS
For Nine Months Ended September 30, 2004 and 2003
Cumulative
During Devel-
2004 2003 opment Stage
----------- --------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) $(1,220,628) $(936,565) $(8,188,832)
Adjustments to reconcile net income/(loss)
to net cash provided by operations:
Losses prior to current ownership - - 151,518
Depreciation 36,836 36,872 148,356
Amortization of:
Intangibles 95,421 85,599 277,080
Prepaid expenses 15,908 117,750 1,240,645
Stock issued for services 472,483 200,000 3,234,355
Stock issued for extraordinary loss - - 140,550
Deferred income taxes - - (397,852)
Bad debts 1,000 100,000 221,000
Loss on sale of stock 92,747 - 92,747
Changes in operating assets/ liabilities:
Accounts and note receivable (51,393) (240,104) (57,983)
Inventory 19,633 33,793 (14,955)
Prepaid expenses (15,500) (11,542) (262,500)
Accounts payable and accrued expenses (224,117) 466,509 184,488
Customer deposit - - -
----------- --------- -----------
Net Cash Used by Operating Activities (777,610) (147,688) (3,231,383)
----------- --------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Property and equipment (8,276) (9,034) (265,714)
Patent licensing costs (47,347) (29,180) (208,359)
Business acquisition - - (44,820)
Proceeds from sale of stock 814,408 - 814,408
Notes receivable and advances (105,206) - (325,206)
----------- --------- -----------
Net Cash Provided/(Used) Investing 653,579 (38,214) (29,691)
----------- --------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuing stock 75,000 50,000 2,946,826
Capital lease obligation - - 7,765
Payments on capital lease (372) (3,349) (7,765)
Foreign currency translation adjustment 745 - 745
Proceeds from loans from related parties 91,000 123,000 288,000
Advances from directors 37,590 734 134,174
Repayments to directors/related parties (95,503) - (95,503)
----------- --------- -----------
Net Cash Provided by Financing Activities 108,460 170,385 3,274,242
----------- --------- -----------
Net Increase/(Decrease) in Cash (15,571) (15,517) 13,168
Cash at Beginning of Year 28,739 76,758 -
----------- --------- -----------
CASH AT END OF PERIOD $ 13,168 $ 61,241 $ 13,168
=========== ========= ===========
SUPPLEMENTAL CASH FLOW INFORMATION:
See Note 5.
See accompanying selected information.
9
KLEENAIR SYSTEMS, INC.
(A Development Stage Enterprise)
SELECTED INFORMATION FOR CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2004
(Unaudited)
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions of Regulation S-B. They do not include
all information and footnotes required by generally accepted accounting
principles for complete financial statements. However, except as disclosed
herein, there has been no material change in the information included in the
Company's Annual Report on Form 10-KSB for the year ended December 31, 2003.
In the opinion of Management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
The report of Robert Early & Company, P.C. commenting on their review
accompanies the financial statements included in Item 1 of Part 1. Operating
results for the nine-month period ended September 30, 2004, are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2004.
NOTE 2: PROPERTY AND EQUIPMENT
The Company has purchased testing equipment, test vehicles, and office
equipment and furniture as presented in the following table. Depreciation
expense for the first nine months of 2004 and 2003 was $36,836 and $36,872,
respectively.
Office furniture and equipment $ 62,072
Test vehicles 28,928
Analysis equipment 174,840
Leasehold improvements 11,682
----------
Total Cost 277,522
Accumulated depreciation (150,471)
----------
Net property & equipment $ 127,051
==========
NOTE 3: AMORTIZATION OF PREPAID EXPENSES
The Company frequently prepays for services to be rendered either in cash or
by stock issuance. These transactions are recorded as prepaid expenses and
amortized over the period covered by the agreement. Amortization totaled
$93,624 in the nine months ended September 30, 2003. There has been none in
2004.
During 2004, the Company has prepaid partial insurance premiums and is
continuing payments on the premium balance over a period of less than one
year. The policies have a one-year term. Total premiums are being amortized
over the term of the policy. Amortization charged to insurance expense for
the nine months was $10,466.
10
NOTE 4: PATENTS AND AMORTIZATION
The Company owns patents for its CarbonGuard(TM) product and its other
products that it has developed. The cost of internally developed products is
expensed as Research and Development as incurred. The CarbonGuard(TM) was a
purchased product. Legal fees to perfect, file, maintain, and defend these
patents are capitalized as patent costs. Cumulative patent costs of $285,759
for the KleenAir products are being amortized over a ten-year period ending
March 2013. The costs of the CarbonGuard(TM) is being amortized over its 15-
year estimated useful ending March 2017. Amortization for the nine months
ended September 30, 2004 and 2003 totaled $95,421 and $85,599. Accumulated
amortization at September 30, 2004 was $277,080.
NOTE 5: SUPPLEMENTAL CASH FLOW DISCLOSURES
The following table sets forth supplemental cash flow disclosures for the nine
months and cumulative periods ended September 30, 2004 and 2003.
Cumulative
During Devel-
2004 2003 opment Stage
----------- --------- -----------
Cash payments for:
Interest $ 4,612 $ 5,356 $ 12,876
Income taxes - - -
Non-cash investing and financing transactions:
Stock issued for:
Compensation and directors' fees $ 79,985 $ 65,340 $ 1,418,635
Services and prepaid services 392,498 240,713 2,546,895
Equipment - - 8,300
Patent licensing - - 14,900
Repurchase of U.S. diesel license - - 62,500
Acquisition of National Diversified
Telecom, Inc. - - 140,550
Sale of marketing licenses for
notes receivable - - 1,736,558
Acquisition of Carbon Cloth
Technologies, Inc. - - 981,514
Uncompleted business acquisition - - 87,500
Investment in marketable securities 1,408,324 - 1,408,324
NOTE 6: STOCK TRANSACTIONS
During the first quarter of 2004, the Company sold 250,000 restricted shares
for $25,000. It also issued 350,000 restricted shares valued at $30,525 for
financial consulting services. Another 340,000 unrestricted S-8 shares valued
at $65,400 were issued to consultants for business promotion and financial
consulting services. A total of 8,000 unrestricted S-8 shares valued at
$2,160 were issued for development and clerical services. The Company also
issued 10,026,333 restricted shares to Jubilee Investment Trust PLC and a
combination of 501,666 S-8 shares and 501,666 warrants to a consultant for the
acquisition of 910,569 shares of Jubilee Investment Trust PLC. The issued
shares and warrants were recorded at total value of $907,155. These warrants
are exercisable at $0.21 at any time before March 4, 2007.
11
During the second quarter of 2004, the Company sold 500,000 restricted shares
for $50,000. It issued 512,022 S-8 shares valued at $77,323 for business
promotion and financial consulting services. At total of 3,000 S-8 shares
valued at $690 were issued for development and clerical services. Another
500,000 S-8 shares valued at $57,500 were issued for consulting services
regarding development of the Company's business interests in England. A total
of 1,200,000 restricted shares valued at $79,200 were issued to directors and
a key consultant for their annual management services.
During the third quarter of 2004, the Company issued 36,267 S-8 and 1,354,483
restricted 144 shares valued at $4,896 and $124,907, respectively, for
business promotional and financial consulting services. A total of 3,000 S-8
shares valued at $440 were issued for development and clerical services.
Another 275,304 S-8 shares and 250,000 restricted 144 shares valued at a total
of $29,442 were issued for consulting services related to the Company's
activities in England. An investment in a security traded on the London
exchange was acquired for the issuance of 10,000,000 restricted common shares
valued at $501,079.
NOTE 7: ACCOUNTS RECEIVABLE FROM RELATED PARTIES
This balance consists of the elements presented below. KleenAir Systems
International LTD. (KASI) is partially owned by the Company and controlled by
the Company's President. KleenAir Systems LTD. is wholly owned by KASI. The
$76,342 consists primarily of advances and the unpaid balance of $45,000 in
billings for equipment and support services during the testing phases leading
to approval of the systems in the U.K.
NOTE 8: LOSS ON SALE OF STOCK
As mentioned in Note 6, the Company issued restricted stock in exchange for
trading shares of Jubilee Investment Trust PLC. A contract with a consultant
required the Company to issue additional shares and warrants due to the
consummation of this transaction. The Jubilee shares were placed almost
immediately in a block trade to provide much needed cash. Because of the way
the transaction was structured and the consultant fee involved, the Company
realized a loss on the sale.
NOTE 9: MARKETABLE SECURITY
During the third quarter, the Company consummated an offshore agreement to
exchange 10,000,000 common shares subject to Regulation S for, initially,
901,707 shares of Langley Park Investment Trust Plc., a new British
investment trust that has been formed and registered on the London Stock
Exchange. Half the shares received became tradable by the Company when the
investment corporation was listed. The other half of the shares are to be
held, subject to a two-year adjustment period. Should the Company's stock
price decline by the end of the two years, the trust will buy back a prorated
number of its shares at one British pound per share. The investment
corporation has agreed to a lock-up provision that restricts its ability to
sell its KleenAir shares without written approval from the Company during the
two-year adjustment period ..
12
NOTE 10: NOTES PAYABLE TO RELATED PARTIES
During the first quarter, officers and entities related to them loaned the
Company $71,000. These loans bear interest at 7% compounded monthly and are
due on demand. The Company's President also advanced a net $14,000 for
temporary working capital requirements. During the second quarter, the
Company repaid loans and advances totaling $95,503.
In the third quarter, officers loaned the Company $20,000 and advanced another
$23,590 temporarily.
NOTE 11: SUBSEQUENT EVENTS
In October 2004, the U.K. investment company was successfully listed on the
London Stock Exchange. The Company sold a portion of its shares.
The Company's U.K. affiliate completed negotiations with Dinex to distribute
the Company's products as a package with Dinex's products in the European
market. The Company also negotiated a non-exclusive distribution agreement
with Dinex for the United States.
13
Item 2. Management's Discussion and Plan of Operation
The Company was incorporated under the laws of the State of Nevada on February
4, 1986, under the name of Covington Capital Corporation. In 1986, the
Company filed an S-18 and registered certain stock. From 1989 through 1993,
the Company underwent a series of name changes in order to explore various
business opportunities. However, none of the business opportunities was
successfully completed.
In April, 1995, under the name Investment and Consulting International, Inc.,
the Company acquired a patent for a proprietary device designed to neutralize
nitrogen oxide (NOx) automobile emissions from a separate company which was
then known as KleenAir Systems, Inc. Simultaneously with the acquisition of
the patent, the Company acquired the right to use the corporate name KleenAir
Systems, Inc., and changed to its current name.
Since acquiring the patent in 1995, the Company has been a developmental stage
company and has worked towards the completion of the development and testing
of the NOxMaster(TM) technology. The Company owns U.S. Patent #5,224,346
Engine NOx Reduction System issued in 1993, U.S. Patent #5,609,026 Engine NOx
Reduction issued in 1997. In 1999 the Company was issued a third patent on
Ammonia Injection in NOx Control, U.S. Patent #5,992,141. The Company has
applied for and maintained patent protection under the Patent Cooperation
Treaty (PCT) to protect its intellectual property in a variety of countries
that are significant producers of automotive products.
The Company has applied for additional patents related to its NOxMaster(TM)
technology, two of which have been granted. The U.S. Patent #6,446,940 has
been issued for a new emission control device, the Sonic Flow Carburetor,
which atomizes fuel on gasoline powered engines, enhancing operating
efficiency and reducing emissions. An additional U.S. Patent #6,499,463 has
been issued for a device which atomizes diesel fuel to enhance the performance
of and reduce emissions in diesel engines. Patent awards have now been
confirmed for several European countries including the U.K., Germany, France,
Italy, Spain and Sweden. Patents are anticipated soon for Japan, Brazil, and
China.
The Company occupies a 10,000 square-foot R & D facility at 1711 Langley,
Irvine, CA 92614. The Company has a chassis dynamometer in addition to its
engine dynamometer to cope with increasing levels of R & D engine and device
testing programs as it prepares for commercializing its technology.
As a result of an extensive test and evaluation program funded by the Energy
Savings Trust (EST) in England and implementation on a variety of vehicles
over the last 3 years, the Company has now been included as an approved vendor
on the EST Cleanup Register in a number of categories.
The Company is the only entry in the Register in the SCR category for
retrofit. In addition, the Company's Selected Catalytic Reduction and Filter
(SCRF) systems, which combine high levels of emission reduction for both NOx
and PM (particulate matter) with CO and HC reductants, has become the sole
entry for light and medium duty vehicles in a new especially created category
called SCRF. This category has the highest level of funding grants. The
Eminox(TM) is the only other SCRF product for heavy duty engines and has
recently been added to the Cleanup Register. The Company's systems have now
been qualified for a variety of vehicles ranging from light-duty taxi
applications to light commercial vans, shuttle buses and heavy duty bus
transport applications.
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These qualifications open the door to product launches in a variety of market
segments in the U.K. and, subsequently, in other European countries such as
Germany and Denmark. Eight SCRF systems have been installed on buses in
Copenhagen.
Distribution and supply agreements for the KleenAir product line have been
established through the Company's U.K. affiliate with Dinex A/S of Denmark and
Dinex Exhaust Systems Ltd. of the U.K. Dinex specializes in after-market
sales of particulate filters, silencers, and exhaust system components for
medium and heavy-duty diesel-powered vehicles. The supply agreements will
enable the Company to source product at most favored nation pricing and
distribute to its own list of customers in Europe and elsewhere. The Company,
through its affiliate, is undertaking negotiations with a number of U.K. fleet
operators with a view to retrofitting and upgrading their vehicles to Euro 3
requirements.
During 2003, over $750,000 of system components were shipped to Dinex.
However, in October 2003, the EST suspended funding payments due to budget
problems and these were not reinstated until April 2004. Systems orders for
over 100 buses, worth $500,000 in Company sales, were put on hold. The
Company is awaiting clarification as to whether these orders will now be
funded or whether new applications have to be filed to fund these systems. As
of the current date, only limited funding has been released for special
programs and it is not clear whether this will include taxis. Many hope that
some of the bus applications applied for will be processed.
Anticipations are that the Public Carriage Office (PCO) will shortly announce
a mandate for the upgrade of some 17,500 London taxis to Euro 3 emission
standards. The PCO has recently announced that the start date for this
program will be delayed from January 2005 until April 2005. Estimates are that
there will be 3,500 upgrades for 2005/2006, for which Company deliveries from
the U.S. to Europe would need to commence during the first quarter of 2005.
The estimated number for 2006/2007 is 9,000 with an additional 5,000 in 2007.
The Company expects that its strategic partner Dinex will be the principal
supplier of systems for this application with a net revenue potential to the
Company of over $500 per vehicle.
In his post-election policy statement in July 2004, the Mayor of London, Ken
Livingstone, outlined plans for a Low Emission Zone for all areas of London
within the M25 Ring Road. It has been estimated that the provisions of this
zone will impact 100,000 to 200,000 vehicles by the end of 2007 and an
additional 500,000 to 600,000 vehicles by the end of 2010. The Company's
products already qualify to meet the required emission standards for such
mandated upgrades and have been approved by the EST for such applications.
Orders have been received for the installation of the DINOX(TM) system, an
emissions control package, as a Dealer-Fit option. This package is comprised
of the Company's NOxMaster(TM) SCR system and Dinex' particulate reduction
system. Some 758 Light Commercial Vans have been ordered, subject to funding,
by a leading Local Authority in the U.K. These vans are to include a
Volkswagen factory approved emission package and are one of the leading models
sold in the U.K. Similar additional orders of dealer-installed systems are
anticipated in the near future.
The Company has formed a consortium, together with Dinex, ATS Euromaster (a
subsidiary of Michelin), Air Products Plc. and Terra Nitrogen(U.K.) Ltd., for
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the purpose of creating and supporting the infrastructure for ammonia supply,
installation and maintenance. It is anticipated that a similar consortium
with the same members will be formed to handle the U.S. infrastructure once
Environmental Protection Agency (EPA) and California Air Resources Board
(CARB) Retrofit Verification has been received.
As the U.K. market is on the threshold of major commercial advances in the use
of SCR for retrofit programs, such as London taxis and buses, the Company, in
consultation with the Department For Transport (DFT) and EST, has moved to
pull together all the resources necessary for a reliable, efficient and cost-
effective infrastructure to support the implementation of its Selected
Catalytic Reduction and Filter (SCRF) systems on a variety of vehicles for a
number of different applications across the U.K.
U.S. testing continues of the NOxMaster(TM) Diesel Catalytic Converter
together with the Company's NOxMaster(TM) Ammonia Injection System to present
an integrated system for the elimination of emissions from diesel powered
mobile sources. The Company has received an EO (Executive Order)
certification from the CARB for off-road and stationary engine applications
which will enable it to commence sales of its products in California.
The Company has now received approval from CARB for its applications for
Retrofit Verification for medium heavy- duty vehicles using its NOxMaster(TM)
NOx reduction system. Approval has also been received from the EPA to proceed
with an application for certification of the combination package of its
Oxidizing Particulate Trap (OPT) with the NOxMaster(TM) for both high
particulate reduction as well as high NOx reduction. The Company has
negotiated an arrangement with the EPA and CARB for a single testing protocol
that would satisfy both their requirements rather than having to bear the
considerable cost of running two separate test programs for the same product.
Applications have been on file with both institutions for a long time. The
actual Retrofit Verification Program should now commence during the first
quarter of 2005.
The Company's wholly owned subsidiary, Carbon Cloth Technologies, Inc. (Carbon
Cloth) of Malibu, California is a manufacturer of automotive thermal
management systems. Carbon Cloth has several years of experience developing
thermal solutions for such motorsports industry leaders as Ferrari, Mercedes-
Benz and Penske, that has enabled development of the CarbonGuard(TM), a
significant addition to the battle on pollution. It has applied for patents
in automotive thermal management systems.
At present, the CarbonGuard(TM) is used largely to enhance the effectiveness
of particulate filters. These filters need to maintain 300 degrees centigrade
for 30% of a vehicle's operating time. Otherwise the filters clog and create
back pressure. Wherever particulate filters are currently installed
(estimated to be at least 30,000 units at present), the CarbonGuard(TM) can
improve performance and reduce maintenance costs. Filter technology has come
to prominence recently as both the EPA and the CARB have determined that
particulates from vehicle emissions are a serious public health problem.
The CarbonGuard(TM) is already installed on over 1,000 New York City Transit
Authority buses as enhancements for the operating efficiency of its installed
base of particulate traps. It has been selected as a sole source product for
this application.
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Negotiations are continuing with a number of automotive OEM manufacturers to
incorporate our CarbonGuard(TM) for a variety of thermal management
applications.
The Company is continuing its sales activities on behalf of the SOBRIS(TM)
system under an agency agreement signed in July 2002 with ServoTech, Inc.
ServoTech is a licensee of Ford Motor Company on SCR injection technology.
It's SOBRIS(TM) product, which is a urea based system, is under test and
evaluation by a number of automotive manufacturers in the U.S. and Europe. Dr.
Hamid Servati, President of ServoTech, is a director of the Company and a
significant shareholder. The Company and ServoTech continue to negotiate a
more permanent relationship between the two entities.
Once production and sales begin, the Company anticipates employing initially
15 to 20 employees, primarily in management, technical and administrative
capacities. The Company is actively seeking sources of funding for its
operating capital requirements both to complete its test and evaluation
programs and to support initial sales and production.
The Company is negotiating potential licensing and other commercial
arrangements with certain international companies in the automotive industry,
subject to completion of satisfactory test and evaluation programs.
The Company has been actively seeking the injection of working capital to meet
its commercialization and certification needs. During the first quarter of
2004, an arrangement was consummated for an exchange of shares with Jubilee
Investment Trust of London UK. Those shares were sold for over $850,000.
During the third quarter of 2004, the Company concluded an exchange of shares
with Langley Park Investment Trust Plc., an entity currently trading on the
London Stock Exchange. The Company received 901,700 Langley Park shares in
exchange for the issuance of 10,000,000 shares of restricted common stock.
Langley Park has agreed to not sell these shares for two years. This
transaction was recorded in the books at $501,079 in accordance with
accounting rules. The exchange with Langley Park was made based on a stated
value of approximately $1,650,000.
The Company's U.K. affiliate, KleenAir Systems International Plc., has issued
a prospectus for private equity funding of approximately $2,750,000. This
action is intended as a pre-IPO funding and is preparatory to a proposed
listing on the Alternative Investment Market in London. The success of this
funding would dilute the Company's ownership interest from 30% to 20%. This
funding strategy is designed to provide the working capital necessary to fully
exploit the commercialization opportunity in Europe for the Company's
products. In addition, with a successful listing on the AIM, the Company's
ownership interest can be reported at its fair value value, which is
estimated to be over $1,600,000.
Disclosure Regarding Forward-Looking Statements
Where this Form 10-QSB includes "forward-looking" statements within the
meaning of Section 27A and Section 21E of the Securities Act, the Company
desires to take advantage of the "safe harbor" provisions thereof. Therefore,
the Company is including this statement for the express purpose of availing
itself of the protections of such safe harbor provisions with respect to all
of such forward-looking statements. The forward-looking statements in this
17
Form 10-QSB reflect the Company's current views with respect to future events
and financial performance. These forward-looking statements are subject to
certain risks and uncertainties that could cause actual results to differ from
those anticipated. These risks include, but are not limited to, economic
conditions, changes in environmental regulations, the market for venture
capital, etc. In this Form 10-QSB, the words "anticipates," "believes,"
"expects," "intends," "future" and similar expressions identify forward-
looking statements. The Company undertakes no obligation to publicly revise
these forward-looking statements to reflect events or circumstances that may
arise after the date hereof. All subsequent written and oral forward-looking
statements attributable to the Company or persons acting on its behalf are
expressly qualified in their entirety by this section.
Item 3: Controls and Procedures
(a) Within the 90-day period prior to the date of this report, the
Corporation carried out an evaluation, under the supervision and with
the participation of the Company's management, including the
Corporation's Chief Executive Officer and Chief Financial Officer, of
the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to Rule 13a-14 of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"). Based
on that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the Corporation's disclosure controls and
procedures are effective in timely alerting him to material information
relating to the Corporation (including its consolidated subsidiaries)
required to be included in the Corporation's Exchange Act filings.
(b) There have been no significant changes in the Corporation's internal
controls or in other factors which could significantly affect its
internal controls subsequent to the date the Corporation carried out
its evaluation.
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
Exhibit 23 -- Accountants' consent to incorporation by reference
Exhibit 31 -- Certification of President and Chief Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32 -- Certification of Chief Executive Officer and Chief Financial
Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Reports on Form 8-K -- None
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.
KLEENAIR SYSTEMS, INC.
Date: November 9, 2004 /s/ LIONEL SIMONS
---------------------------------------
By: Lionel Simons, President,
Secretary, Principal Accounting Officer, &
Principal Financial Officer
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