HART & TRINEN, LLP
ATTORNEYS AT LAW
1624 Washington Street
Denver, CO 80203
William T. Hart, P.C. ________ Email: harttrinen@aol.com
Donald T. Trinen Facsimile: (303) 839-5414
(303) 839-0061
September 10, 2008
Kristina Aberg
Securities and Exchange Commission
Mail Stop 4561
100 F Street, NE
Washington, DC 20549
Re: Epic Energy Resources, Inc.
Form S-/A
This office represents Epic Energy Resources, Inc. (the "Company").
Amendment #4 to the Company's registration statement has been field with the
Commission. This letter provides the Company's responses to the comments
received from the Staff by letter dated July 25, 2008. The paragraph numbers in
this letter correspond with the numbered paragraphs in the Staff's comment
letter. The number under the "Page Number" column indicates the page number in
the registration statement where the response to the comment can be found. The
letters "FS" in the page number column refer to the page in the Company's
financial statements.
Page Number
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1. The Company expects to record intangible assets
for the brand name, internal agreements, backlog,
external agreements and customer relationships
acquired with each acquisition. A brief description of
each intangible follows:
a. Brand Name - often used as synonyms for trademarks
and other marks, are general marketing terms that
typically refer to a group of complimentary assets
such as a trademark and its related trade name
and technical expertise.
b. Internal Agreements - employment contracts that
are beneficial contracts from the perspective of
the employer because the pricing of those contracts
is favorable relative to market terms are one type
of contract-based intangible asset.
c. Backlog - production backlog arises from contracts
such as purchase or sales orders. An order or production
backlog acquired in a business combination meets the
contractual-legal criterion, even if the purchase or
sales orders are cancelable.
d. External Agreements - contract-based intangible
assets represent the value of rights that arise from
contractual arrangements. Customer contracts are one
type of contract-based intangible asset.
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e. Customer Relationships - if an entity established
relationships with its customers through contracts,
those customer relationships arise from contractual
rights. Therefore, customer contracts and the related
customer relationships acquired in a business
combination meet the contractual-legal.
The methodologies which will be used to value these
intangible assets are:
a. Gain an understanding of the business, the industry
within which the business operates, and the nature
of the transaction.
b. Determine the purchase price paid and understand the
total asset and liability base acquired.
c. Identify the components of the total asset base.
d. Identify the components of the acquired liabilities.
e. Value the intangible assets (see description of the
Company's valuation methodology below).
f. Allocate value to the acquired asset and liability
base
g. Determine the remaining allocation to goodwill.
h. Reconcile the allocation.
i. Apply the above-discussed methodologies to each
identified intangible asset.
As noted in the Company's prior response, the Company does
not have any preliminary estimates of the amount expected
to be recorded for the intangible assets as the third
party valuation firm has not yet completed its work.
Generally, the Company values intangible assets on a
stand-alone bases (using fair market value) since one
of the criteria is that the assets must be able to be
sold and/or transferred intact. However, the calculations
cannot be made until there is a determination of the
consideration paid (which moves to a fair value, rather
than fair market value model). Fair value looks
specifically at the transaction that has taken place
rather than a fair market value model. If in the Company's
analysis it calculates the "value" of the group of
intangibles coupled with the other assets and liabilities
to be more than the consideration paid, the Company must
re-examine the calculations, and possibly reallocate
values, to coincide with the value of the consideration
paid. However the Company cannot make that analysis until
it knows the value of the consideration paid. It would
therefore be premature for the Company to estimate values
that could conceivably conflict with the value of the
transaction. Even after the calculations are complete,
it must compare as
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a final measure the Company's Weighted Average Cost of
Capital ("WACC") to the Internal Rate of Return ("IRR")
of the acquisition for reasonableness. If those amounts
are comparable, the Company has built a defensible
allocation/valuation model. Although the Company is
presently accessing data bases to match intangible
characteristics and to allow the Company to test its
calculations, it will be unable to provide estimates of
values until it has determined the value of the
consideration paid. The final allocations for Carnrite
will be disclosed for the quarter ended September 2008
financial statements.
Notwithstanding the above, the Company's preliminary
valuation of the intangible assets acquired in connection
with the Carnrite acquisition is shown below:
Category Preliminary Value
-------- -----------------
Brand Name $1,439,299
Customer Relationships 173,190
Client Contracts 287,419
Employment Agreements:
Coaching 485,930
Employment 660,852
Backlog 2,524,001
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Total Intangible Value $5,524,001
==========
Note 1 to the Company's Pro Forma financial statements
has been revised in response to this comment. FS-80
2. The following factors (per EITF 95-8) led the Company
to conclude that the contingent consideration should
be considered purchase price rather than compensation
expense:
a. Level of Compensation: For both acquisitions, the
selling shareholders who are part of the contingent
consideration arrangements continue to be paid a
salary of market value or above after the acquisition.
Each Carnrite selling shareholder is now paid a
salary of $220,000 per year which is essentially the
same (or higher) salary then they were making at
Carnrite before the acquisition. Each EIS selling
shareholder is now paid a salary of $150,000 per year
which is essentially the same (or higher) salary
then they were making at EIS before the acquisition.
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The following summarizes the salary for each
employee at Carnrite under the supposition
that the contingent shares were considered
compensation. The Company believes this
compensation exceeds amounts that would be
considered reasonable and supports the Company's
position that the contingent shares should be
included in the value of the targeted companies.
----------------------------------------------------
Contingent Shares Issued 200,764
----------------------------------------------------
Stock Price at Close $ 3.50
----------------------------------------------------
Value at Close $702,674
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Vesting Period 2 Years
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Stock Compensation Per Year $351,337
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Contingent and Salary Compensation $571,337
----------------------------------------------------
The following summarizes the salary for each
employee at EIS under the supposition that the
contingent shares were considered compensation.
The Company believes this compensation exceeds
amounts that would be considered reasonable and
supports the Company's position that the contingent
shares should be included in the value of the
targeted companies.
----------------------------------------------------
Contingent Shares Issued 166,666
----------------------------------------------------
Stock Price at Close $ 1.09
----------------------------------------------------
Value at Close $181,666
----------------------------------------------------
Vesting Period 1 Years
----------------------------------------------------
Stock Compensation Per Year $181,666
----------------------------------------------------
Contingent and Salary Compensation $331,666
----------------------------------------------------
b. Factors Involving Reasons for Contingent Payment
Provisions: Per EITF 95-8, "understanding the
reasons why the acquisition agreement includes
a provision for contingent payments may be helpful
in assessing the substance of the arrangement."
For the Carnrite and EIS acquisitions, the value of
each company was determined using a multiple of
cash flows. The total amount of the Company's stock
to be issued, including the contingent shares issued
to the selling shareholders of the Company was
considered as part of the purchase price (i.e. the
value) of both acquisitions. The intent of the
management of the Company, and the understanding
of the selling shareholders of Carnrite and EIS,
was that these contingent
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shares were part of the value of the targeted
companies. Excluding the value of the contingent
shares from the purchase price would have yielded
an unreasonable purchase price for the acquisitions.
The total stock value without the contingent shares
would be approximately $8,783,436 which is
approximately 30% less than the total enterprise
value.
Value of Carnrite (prepared by management):
-------------------------------------------
Average net income before tax of $2,509,553 x 5
(multiple of cash flows) = $12,547,765 (Total
Enterprise Value).
Total Stock Value = 4,600,848 shares to be issued
per the Term Sheet (inclusive of 1,673,036 of
contingent consideration shares) x $3.00 stock
price = $13,802,544.
Per the Term Sheet, it was the Company's intention
that the Total Stock Value be 10% above the Total
Enterprise Value. Thus, the Company was valuing the
Carnrite acquisition using the total shares issued
(which includes the contingent consideration shares).
Value of EIS (prepared by management):
--------------------------------------
Average net income before tax of $767,305 x 5.6
(multiple of cash flows) = $4,300,000 (Total
Enterprise Value).
Total Stock Value = $2,000,000 (1,000,000 shares
to be issued per the Term Sheet (all are contingent
consideration shares) x $2.00 stock price (stock
price as of the date of the valuation).
Total Cash Value = $2,300,000.
------------------------------
Thus, the Company was valuing the EIS acquisition
using the total shares + total cash issued. The
value of the stock is 47% of the Total Enterprise
Value and thus should be included as part of the
purchase price of the Company and not future compensation.
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c. Factors Involving Formula for Determining Contingent
Consideration:
Per EITF 95-8, "the formula used to determine the
contingent payment may be helpful in assessing the
substance of the arrangement. For example, a
contingent payment of five times earnings may suggest
that the formula is intended to establish or verify
the fair value of the acquired enterprise while a
contingent payment of 10 percent of earnings may
suggest a profit-sharing arrangement."
For the Carnrite and EIS acquisitions, the value of
the Company was determined using a multiple of cash
flows. The total amount of the Company's stock to be
issued, including the contingent shares issued to the
selling shareholders of the Company was considered
as part of the purchase price (ie. the value) of both
acquisitions. The intent of the management of the
Company, and the understanding of the selling
shareholders of Carnrite and EIS, was that these
contingent shares were part of the value of the target
company. The Carnrite and EIS acquisitions were valued
at 5.0 and 5.6 times estimated average net income
before tax, respectively. The number of shares issued
to obtain this purchase price was the number of shares
issued at closing PLUS the shares to be issued under
the contingent shares arrangement.
The rationale for including the employment
contingencies in the purchase agreements was to add
an additional incentive for the former owners to
remain with the Company. The former owners have
specific industry knowledge and experience that would
help increase revenues. These former owners then
could gain financially by obtaining these additional
shares of common stock by continuing their employment
with the Company.
3. In July 2007 the Company entered into an agreement with an
investment banking firm with a view to raising private
equity capital. In November 2007 the Agreement was
terminated with the consent of both parties. However,
the July 2007 agreement provided that if the Company
raised capital from any investor listed on an attachment
to the agreement, the Company would be responsible for the
payment of compensation to the investment banker pursuant
to the terms of the July 2007 agreement.
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The Company's registration statement on Form S-1 was
filed with the Commission in January 2008. After
reviewing the registration statement, the investment
banker notified the Company that a number of the
selling shareholders were on the list to the July
agreement and that, as a result, the investment
banker was entitled to compensation from the Company.
When the Company contacted a number of investors that
participated in the December 2007 financing, the
Company was told that they had not been contacted by
the investment banker or that any contact was strictly
peripheral in nature.
The investment banker rejected the Company's position
on the matter and continued to demand payment. As a means
of resolving the situation, the Company and the investment
banker reached an agreement in February 2008 which provided
that the Company would pay the investment banker $300,000.
Since the Company:
o did not believe that it owed the investment banker
any amount as a result of the termination of the
July 2007 agreement,
o the investment banker did not demand any payment
until January 2008, and
o a settlement agreement was not reached until February 2008,
The amount paid to the investment banker was expensed in 2008
as opposed to 2007.
Footnote 15 has been revised to describe the settlement in more
detail. FS-26
4. Section 2.8 of the Purchase Agreement pertaining to Epic
Integrated Solutions (filed as Exhibit 10.5 to Amendment
No. 1 to the Company's registration statement) provided
that the effective date of the acquisition was January 1,
2008. As a result, the Company's financial statements for
the six months ended June 30, 2008 reflect the operating
results of Epic Integrated Solutions for the entire period.
Since the June 30, 2008 balance sheet also reflects the
acquisition, pro forma financial statements for periods
subsequent to December 31, 2007 have not been included in
the registration statement.
5. The payment of the $1,400,000 is not contingent upon
continued employment with the Company. Footnote 15 has been
revised accordingly. FS-25
7
If you should have any questions concerning the foregoing, please do not
hesitate to contact the undersigned.
Very Truly Yours,
HART & TRINEN, L.L.P.
By
William T. Hart
WTH:ap