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File: FS MDA 2014-05-31 Q3 MDA (29July14).pdf
Free Energy International Inc.
Management's Discussion & Analysis
For the nine months ended May 31, 2014
FREE ENERGY INTERNATIONAL INC. � MD&A
The following management discussion and analysis ("MD&A"), dated July 29, 2014, should be read in
conjunction with the Company's consolidated financial statements and related notes therein ("Financial
Statements") that are prepared in accordance with International Financial Reporting Standards (IFRS) as
issued by the International Accounting Standards Board ("IASB"). All financial information is stated in
Canadian dollars, unless otherwise stated.
Additional information regarding Free Energy International Inc. ("FEII" or "the Company") can be found on the
System for Electronic Document Analysis and Retrieval (SEDAR) at www.sedar.com.
FORWARD LOOKING STATEMENTS
This MD&A contains forward-looking statements. Forward looking statements generally can be identified
by the use of forward looking terminology such as "may", "will", "expect", "intend", "anticipate", "plan",
"foresee", "believe" or "continue" or the negatives of these terms or variations of them or similar
terminology. These forward looking statements include references to the future success of our business,
technology, and market opportunities. By their nature, forward looking statements require the Company to
make assumptions and are subject to important known and unknown risks and uncertainties, which may
cause the Company's actual results in future periods to differ materially from forecasted results. While the
Company considers its assumptions to be reasonable and appropriate based on current information
available, there is a risk that they may not be accurate. These forward looking statements are neither
promises nor guarantees, but involve known and unknown risks and uncertainties that may cause our
actual results, level of activity, performance or achievements to be materially different from any future
results, levels of activity, performance or achievements expressed in or implied by these forward looking
statements. These risks include risks related to general economic conditions, risks associated with
revenue growth, operating results, industry factors and the Company's general business environment,
risks associated with doing business with joint venture partners, risks involved with the development of
new products and technology, financing risks, such as risks relating to liquidity and access to capital
markets, and risks relating to competition, among other factors. For a more detailed description of the
risks that affect the Company's future growth, results and performance, readers are referred to the
section on `Risks and Uncertainties' in this MD&A and the Company's Information Circular dated May 26,
2014. Readers are cautioned that the foregoing list of factors that may affect future growth, results and
performance is not exhaustive and undue reliance should not be placed on such forward looking
statements which speak only to the date they were made. We disclaim any obligation to publicly update
or revise any such statements to reflect any change in our expectations or in events, conditions, or
circumstances on which any such statements may be based, or that may affect the likelihood that actual
results will differ from those set forth in the forward looking statements.
Business Overview
FEII was incorporated under the Business Corporations Act (British Columbia) on February 11, 2005.
The head office of the Company is located at Suite 1606 675 West Hastings Street, Vancouver, British
Columbia, V6B 1N2 and its registered and records offices are located at #611-610 Granville Street,
Vancouver, B.C., V6C 3T3.
As at July 29, 2014 , the Company had three wholly owned subsidiaries; Free Energy Solutions Inc.
("Free Energy") which the Company acquired November 5, 2007 and W2E Power Corporation ("W2E")
which was incorporated in British Columbia on October 20, 2008 and Free Energy Power Corporation
("Power Corp") which was incorporated in British Columbia on August 10, 2010. W2E was formed to
pursue business opportunities specific to Waste Facility operations and Power Corp was formed to
pursue the design, construction and operation of an electricity generation plant. These opportunities
relate to the Company's expertise in transferring or converting waste and latent heat sources into sources
of marketable energy.
Free Energy has focused its resources on developing its technologies. The principal business of the
Company is developing innovative technologies for the heating and cooling industry based on a new
class of thermal superconductors now becoming available on the world market. The Company's
technologies build on the well-established principle of geoexchange, which allows a building to draw free
heat out of the ground for heating and dump heat into the ground for cooling.
Company Activity
On August 28, 2010, the Company entered into an agreement with an independent oil and gas production
company ("Operator") to install one or more Organic Rankine Cycle electricity generation plants at its
Swan Hills oil and gas production facility in Swan Hills, Alberta ("Project"). The Operator of the Swan Hills
facility was obligated to purchase from the Company all electricity produced by the facility and to pay the
Company for all such electricity at the rate currently being paid by the Operator to its third party power
supplier. In addition, the Operator was entitled to all Carbon Credits generated by the Project and after
the Company had received after-tax income equal to 115% of its out-of-pocket expenses, including
capital costs, incurred to finance, construct, connect and commission the facility ("Project Costs"), would
receive a royalty equal to fifty percent (50%) of the Project's net operating income. The Project envisioned
the construction of an electricity generation plant capable of generating up to 2 megawatts of electricity
per hour. The budgeted capital cost of the project was $8.6 million. The Company entered into a revised
agreement with the Operator on April 1, 2012 to reflect revised terms and scope of the Project. Under the
revised agreement, the Company will construct a 1000 Kw electricity generation plant. The Operator will
continue to purchase from the Company all electricity produced by the Project, however, the Operator has
agreed to fix the pricing of electricity at $69 per megawatt hour of electricity for the first six years following
commencement of the Project. In addition, the Company will receive fifty percent (50%) of all Carbon
Credits generated at the Swan Hills facility. The Company has agreed to provide the Operator an option
to purchase all of the Carbon Credits the Company is entitled to for a value that is ninety percent (90%) of
the fair market value of such Carbon Credits at the time of purchase. The Operator will still receive a
royalty equal to fifty percent (50%) of net operating income once the Project generates net operating
income of 115% of Project Costs. The budgeted capital cost of the project has been reduced to $5.5
million.
In conjunction with this Project, the Company entered into an agreement with Borealis GeoPower Inc.
(Borealis) to secure grant funding for this project of up to $2,600,000 from the Government of Alberta
under the Alberta Energy Research Institute (AERI) program to assist in funding the project. Funding
under the grant is subject to a number of conditions including the matching on a dollar for dollar basis of
eligible expenditures. Upon receipt of adequate project financing commitments and after commercial
operations of the plant have commenced, the Company had agreed to pay Borealis a royalty based upon
net distributable cash paid and also share the proceeds from any sale of the Project, subject to a
maximum of $1,000,000.
On November 22, 2010, the Company entered into a revised agreement with Borealis. Under the terms of
the revised agreement with Borealis the Company agreed to become a co-recipient of the AERI grant with
the Alberta Government. Borealis has agreed that they will forego entitlement to net distributable cash
realized by the Company on the Project as well as any entitlement to share in the proceeds from any sale
of the Project. The Company will continue to retain the services of Borealis to conduct a study and
prepare a Geothermal Report pursuant to a study at a cost to the Company of not more than
$400,000.The Company has granted Borealis an option to invest up to fifty percent of the fees earned by
Borealis relating to the Geothermal Report to a maximum investment of $200,000 in any private
placement that its subsidiary, Free Energy Power Corp., may complete in conjunction with the
construction of the Swan Hills electricity generation plant.
On March 25, 2011 the Company entered into an amending agreement ("Amending Agreement") with the
Province of Alberta to become a co-recipient of the $2.6 million dollar grant with Borealis. In addition to
becoming a co-recipient with Borealis, the Government of Alberta has approved the change in project
scope and reduction in capital cost of the Project. The Project originally envisioned the construction of a
2000kW electricity generation plant with an estimated capital cost of $8.6 million. In conjunction with the
revised grant agreement, the Project will proceed on the basis of constructing a 1000kW facility with an
estimated capital cost of $5.5 million. The Company will retain full access of up to $2,600,000 in available
grant funding to complete the Project. In addition to a matching of eligible expenditures by the Company,
adequate financing commitments for the entire project must be in place before the Company commits
expenditures against these grant funds advanced. The Company has not submitted a claim for eligible
expenditures pursuant to the funding guidelines under the AERI program.
On March 28, 2013, the Company canceled the agreement to install one or more Organic Rankine Cycle
power plants in Devon Energy Corporation's ("Devon") Swan Hills Unit. The project under development by
Free Energy Power Corporation, a wholly owned subsidiary of the Company, became economically
untenable due to technical and equipment cost.
On April 23, 2013, the Company provided notice to the Alberta Government that it has suspended efforts
in respect of the Swan Hills Heat Recovery project. The Company encountered significant technical
problems with the project and has been unable to meet its project deliverables under the amending grant
agreement with the Alberta Government.
On June 26, 2013, the Company received notice from the Alberta Government that the Alberta
Government provided formal notice of the termination of the grant. Free Energy Power Corporation
entered into an agreement to return grant funding of $961,917 to the Government of Alberta ("Grant
Settlement Agreement"). The Grant Funding represented the balance of program funding advances of
$1,400,000 received from the Government of Alberta, less eligible project expenditures incurred and
amounts paid to various trade creditors of the project. The repayment of grant funding resulted in a gain
on forgiveness of debt of $438,083 being realized by the Company during the fiscal year ending August
31, 2013.
In conjunction with the Grant Settlement Agreement entered into with the Government of Alberta, the
Company negotiated settlement agreements with various trade creditors of Free Energy Power
Corporation in which creditors would receive settlements of fifty percent of balances owed to them. The
settlement and ensuing payment of these balances resulted in the Company realizing additional income
from the forgiveness of debt of $139,720 during the fiscal year ending August 31, 2013. Total income
realized on the forgiveness of debt was $577,803.
The Company continues to pursue opportunities utilizing heat transfer product applications tailored to the
oil and gas industry. The Company is focused on its Torpedo heat reclamation product for heavy oil
applications ("Torpedo Heat Reclamation Product"). Limited funding and resources have hindered the
Company's success in this venture. On July 24, 2013 the Company entered into a license agreement with
a third party to license the Torpedo Heat Reclamation Product ("License Agreement"). Under the terms of
the License Agreement the Company agreed to license the Torpedo Heat Reclamation Product in
exchange for a reduction in principal of $25,000 of a loan payable by the Company. The License
Agreement includes an exclusive right to manufacture, distribute and sell the technology throughout
Canada and the United States. The Company has agreed to continue to procure, develop and provide
access to the thermal superconductor technology inherent in the Torpedo Heat Reclamation Product.
On August 6, 2013 the Company announced its intention to complete a share-for-debt agreement to
settle indebtedness of up to $1,700,000 by the issuance of up to 17,000,000 common shares at a
deemed price of $0.10 per share. On December 9, 2013 the Company received approval from the TSX
Venture Exchange to issue 14,792,170 common shares to settle outstanding debt of $1,479,217.
On August 6, 2013 the Company announced it had signed a letter of intent to acquire all of the
outstanding common shares (the "Transaction") of Darelle Media Inc. ("Darelle"). Under the terms of the
proposed acquisition the Company will acquire 100% of the issued and outstanding common shares of
Darelle. Under the terms of the proposed acquisition, Darelle shareholders will receive a total of
14,500,000 common shares of Free Energy International Inc. ("Free Energy"). In addition, management of
Darelle will be entitled to receive 3,000,000 convertible preferred shares ("Preferred Shares") over a
thirty-six month period. The Preferred Shares can be converted to shares of the Company on a one-to-
one basis without further consideration. The issuance of 3,000,000 Preferred Shares are subject to
minimum revenue thresholds attained by Darelle in each of the twelve consecutive reporting periods once
the transaction has closed. The Transaction is subject to a number of conditions including the signing of a
definitive agreement and additional financial requirements. The Company shall close a private placement
or public offering of the Company's shares for gross proceeds of not less than $750,000 and up to
$1,000,000 on terms satisfactory to the Company. For the closing of the Transaction, Free Energy must
have shares outstanding of less than or equal to 19,000,000. In addition, Free Energy and Darelle must
each have outstanding debt and/or liabilities of less than or equal to $250,000.
On December 9, 2013 the Company announced it had agreed to make a non-refundable deposit of
$100,000 to Darelle in conjunction with the Transaction.
Financial Overview
Management considers the Company to be in the development stage. Annual revenues and expenditures
are not reflective of future activity.
The financial highlights for the nine month period ended May 31, 2014 are noted below:
Cash provided by operations and capital requirements was $95,867 for the period compared to
cash provided by operations of $324,922 for the same period in fiscal 2013.
Net and comprehensive income was $1,532 ($0.00 per share) for the nine month period ended
May 31, 2014 compared to a net comprehensive income of $488,092 for the same nine month
period in fiscal 2013.
Results of Operations
The following table sets forth a comparison of revenues, earnings, major expense category for the nine
months ended May 31, 2014:
Nine months Ended
May 31, May 31,
2014 2013
Sales $ - $ -
Cost of Sales - -
Gross Profit - -
Expenses
General and Administrative 63,365 79,761
Interest and accretion 3,159 22,022
Net loss before other items (66,524) (101,783)
Other items
Forgiveness of Debt 68,056 586,301
Interest income - 3,574
Net income (loss) for the period 1,532 488,092
Basic and diluted income
(loss) per share $ 0.00 $ 0.30
Revenues and Gross Profit
Revenue and gross profit on sales during the period ended May 31, 2014 were Nil compared to Nil for
same period of fiscal 2013. As the Company does not yet have consistent streams of revenue from
developed channels, volatility in sales dollar volumes and margins is expected.
General and Administrative
General and administrative ("G&A") expenses were $63,365 for the nine month period ended May 31,
2014 compared to $79,761 for the same nine month period in fiscal 2013. General and administrative
expenses are comprised primarily of filing and related fees to maintain the company pending the
completion of a proposed private placement to continue development of existing product offering and to
complete the proposed acquisition of Darelle Media.
Forgiveness of Debt
On August 31, 2010, Free Energy Power Corporation (a wholly owned subsidiary of the Company)
received $1,400,000 from Borealis GeoPower Inc. in grant funding that Borealis received as the primary
applicant under the Alberta Energy Research Institute (AERI) program.
On March 28, 2013 Free Energy Power Corporation entered into an agreement to return grant funding of
$961,917 to the Government of Alberta ("Grant Settlement Agreement"). The Grant Funding represented
the balance of program funding advances of $1,400,000 received from the Government of Alberta, less
eligible project expenditures incurred and amounts paid to various trade creditors of the project. The
repayment of grant funding resulted in income from the forgiveness of debt of $438,083 being realized by
the Company during the period ending May 31, 2013.
In conjunction with the Grant Settlement Agreement entered into with the Government of Alberta, the
Company negotiated settlement agreements with various trade creditors of Free Energy Power
Corporation in which creditors would receive settlements of fifty percent of balances owed to them. The
settlement and ensuing payment of these balances resulted in the Company realizing additional income
from the forgiveness of debt of $148,218. Total income realized on the forgiveness of debt was $586,301
during the period ended May 31, 2013.
Settlement Forgiveness
of debt
$ $ $
Program funding advanced 1,400,000 961,917 438,083
Trade payables of project 140,010 70,005 70,005
Trade payables of company controlled by director
of Company (note 8) 156,425 78,212 78,213
1,696,435 1,110,134 586,301
On December 9, 2013, the Company entered into settlement agreements with various holders of
convertible notes and account payable balances ("Share for Debt Settlement"). In conjunction with the
Debt Settlement certain creditors agreed to forgive amounts owing to them. The Share for Debt
Settlement resulted in the Company realizing additional income from the forgiveness of debt of $68,056
during the period ended May 31, 2014.
Interest Income
Interest income was $Nil during the nine month period ended May 31, 2014 compared with interest
income of $3,574 during the same nine month period in 2013. The Company realized interest income on
funds held on account. During the 2013 fiscal year the Company negotiated debt settlement agreement
with various trade creditors and repaid the Alberta Government grant finding of $961,917. The Company
no longer holds significant cash balances on account. The company repaid grant funding obligations and
had no funds held on reserve during the current fiscal period.
Interest Expense
Interest expense for the nine month period ended May 31, 2014 was $3,159 compared with interest
expense of $22,022 for the same nine month period in the 2013 fiscal year. Interest expenses are
comprised primarily of interest on a loan payable to Hansondale Holdings Ltd. ("Hansondale") and
accrued and accreted interest on convertible debentures owing by the company. The Hansondale loan
had a principal balance of $225,000 (2013; $250,000) and interest was accrued annually at a rate of 10%.
The Company settled the Hansondale debt through the issuance of common shares of the company. In
addition, the convertible debentures became due and payable and the company no longer accrues
interest on the convertible debentures. The company also entered into a share for debt settlement
agreement to settle The Hansondale loan, outstanding debentures and accrued interest owing by the
company.
Net Income
The company realized net income of $1,532 ($0.00 per share) during the nine month period ended May
31, 2014 compared with a net income of $488,092 ($0.30 per share) realized during the same nine month
period in 2013. The decrease in net income for the third quarter of 2014 was $486,560 lower compared to
the prior period primarily due to forgiveness of debt income of $586,301 realized during the 2013 period.
In addition to the forgiveness of debt realized ($586,301) the company has reduced its monthly operating
expenditures as a result of reduced resources to fund its operations. Net income per share for the periods
ended May 31, 2014 was calculated based on the weighted average number of common shares
outstanding through the quarter.
Summary of Quarterly Results
Summary of Quarterly Operations
Three Three Three Three
Month Month Month Month
Period Period Period Period
Ended May Ended Feb. Ended Nov. Ended Aug
31, 2014 28, 2014 30, 2013 31, 2013
(IFRS) (IFRS) (IFRS) (IFRS)
$ $ $ $
Revenue - - 25,000 25,000
Capital Expenses - - - -
Net Income (Loss) (12,458) 44,771 (34,583) (34,583)
Net Income (Loss) Per Share (0.00) 0.00 (0.12) (0.12)
Summary of Quarterly Operations
Three
Three Three Three Month
Month Month Month Period
Period Period Period Ended
Ended May Ended Feb. Ended Nov. August 31,
31, 201 29, 2013 30 2012
(IFRS) (IFRS) (IFRS) (IFRS)
$ $ $ $
Revenue - - - -
Capital Expenses - - - -
Net Loss 554,302 (67,604) (36,088) (178,229)
Net Loss Per Share 0.34 (0.02) (0.02) (0.11)
Net Loss has fluctuated from quarter to quarter and this trend is expected to continue in the near term
with its magnitude governed by the amount of available cash, approved business development and
capital budgets, and future gross margins generated from sales.
Cash Flows, Liquidity and Capital Resources
Cash Flows
Cash and cash equivalents balance was $13,220 at May 31, 2014, an increase of $9,614 during the nine
months from August 31, 2013.
Cash used by operations for the nine month period ended May 31, 2014 was $9,614 compared with cash
provided by operations of $324,922 during the same nine month period in the 2013 fiscal year. The
decline was attributed primarily to a lower operating loss and income realized on the forgiveness of debt
during the 2013 fiscal year.
Cash used by financing activities for the nine month period ended May 31, 2014 was $Nil compared with
cash used by financing activities of $1,400,000 during the same period of the 2013 fiscal year. The
Company entered into an agreement to settle and repay program grant funding of $1.4 million during the
2013 fiscal period (see "Forgiveness of Debt").
Liquidity and Capital Resources
Since incorporation, the Company financed operations primarily through the issuance of equity and convertible
debt. At May 31, 2014, FEII had cash and cash equivalents of $13,220 compared to $3,606 at August 31,
2013.
The Company has not pledged any of its assets as security for loans, and is not otherwise subject to any
debt covenants.
Cash as at May 31, 2014 and forecasted cash receipts from sales are insufficient to meet current working
capital requirements and the anticipated cash needs through the next twelve months.
The following are the contractual maturities of financial liabilities and commitments as at May 31, 2014:
Undiscounted After
contractual 0 to 12 12 to 24 24
cash flows months months months
$ $ $ $
Financial liabilities
Accounts payable and
accrued liabilities 639,791 639,791 - -
Notes and loan payable 190,957 190,957 - -
830,748 830,748
It is the Company's intention to meet these obligations with the cash proceeds from equity financings and
the issuance of common shares in settlement of obligations.
Credit Facilities
The Company does not have a credit facility outstanding as at May 31, 2014.
Contractual Obligations
As of May 31, 2014 the Company has no lease commitments on its premises.
Off Balance Sheet Arrangements
As at May 31, 2014, the Company had no off balance sheet arrangements.
Related Party Transactions
These transactions were in the normal course of operations and were valued in these financial
statements at the exchange amount, which is the amount of consideration established and agreed to by
the related parties:
a) No bonuses were declared, paid or payable, to directors during the period (2013 Year - $Nil).
At February 23, 2014, $297,500 (August 31, 2013 - $297,500) was owing to former directors
in respect of salaries and bonus expensed. The Company entered into an agreement on
September 3, 2013 with the director and former director whereby they agreed to forgive
amounts owing to them on closing of the acquisition of Darelle Media Inc. (see Note 12)
b) During the period, the Company incurred and recorded $45,000 (2013 Year - $50,310) to
consulting fees pursuant to a contract with a company owned by a director. At May 31, 2014,
$72,309 (August 31, 2013 � $29,190 was owing to this company for consulting fees
rendered.
c) At May 31, 2014, there was $25,409 (August 31, 2013 - $13,122) owing to directors' and
former directors for unreimbursed expenses.
d) At May 31, 2014, there was $5,040 (August 31, 2013 - $5,040) owing to a company owned
by a director.
Outstanding Share Data
Common shares outstanding
During the period the Company issued 14,792,170 (2013; Nil) common shares to settle outstanding debt
of $1,479,217. As a result, authorized share capital consists of an unlimited number of common shares of
which 16,429,986 were issued and outstanding as at May 31, 2014. As at August 31, 2013 there were
1,637,816 common shares issued and outstanding.
The following table provides the weighted average number of common shares outstanding for purposes
of computing loss per share for the relevant periods:
For the nine month period ended May 31,
2014 2013
Weighted average Common Shares 10,510,359 1,637,816
Outstanding
There was an escrow agreement that security holders were subject to during the period ended May 31,
2014:
Certain security holders were subject to a Tier 2 Surplus Security Escrow Agreement for 787,500
shares of the total shares issued in the reverse take-over of Free Energy Solutions Inc. These
shares were subject to nine month release intervals starting nine months after the TSX's
acceptance of the Qualifying Transaction in November, 2007 at 5% of the initial escrowed total for
the first four nine month intervals then increasing to 10% thereafter. During the period ended
May 31, 2014, 78,748 (2012 � 157,502) of the escrow shares were released and as at May 31,
2014, Nil shares remain in escrow.
Stock Options and Warrants Outstanding
As at May 31, 2014 and August 31, 2013 there were 131,250 stock options outstanding which could
result in the issuance of 131,250 common shares if these securities are exercised by the holders in
accordance with the terms thereof. All of the stock options are exercisable at an average weighted
exercise price of $1.72 and expire on or before February 14, 2016.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with IFRS requires the Company to make estimates
and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent
liabilities at the date of the consolidated financial statements and the reported amounts of revenues and
expenses during the reported periods. Significant estimates and assumptions are used in determining the
application of the going concern concept, assumptions used to determine the fair value of stock-based
compensation, and valuations of short and long term investments. The Company evaluates its estimates
on an ongoing basis and bases them on various assumptions that are believed to be reasonable under
the circumstances. The Company's estimates form the basis for making judgments about the carrying
value of assets and liabilities that are not readily apparent from other sources. Actual results may differ
from these estimates under different assumptions or conditions.
The Company believes the policies for going concern, stock based compensation, short and long term
investments, and convertible debt are critical accounting policies which involve significant judgments and
estimates used in the preparation of the Company's financial statements. Our accounting policies are
described in note 2 to the audited financial statements.
Adoption of New Accounting Standards
Recent Accounting Pronouncements
The Company has not yet adopted certain new standards, amendments and interpretations to existing
standards, which have been published but are effective only for accounting periods beginning on or after
January 1, 2013 (except as otherwise noted), including:
IFRS 7 � Financial Instruments: Disclosures
IFRS 9 � Financial Instruments: Classification and Measurement, effective January 1, 2015
IFRS 10 � Consolidated Financial Statements
IFRS 11 � Joint Arrangements
IFRS 12 � Disclosure of Interests in Other Entities
IFRS 13 � Fair Value Measurement
IAS 27 � Separate Financial Statements
IAS 28 � Investments in Associates and Joint Ventures
IAS 32 � Financial Instrument Presentation, effective January 1, 2014
These standards and interpretations have not been adopted and are yet to be assessed by the Company.
Acquisition Pending
On August 6, 2013 the Company announced it had signed a letter of intent to acquire all of the
outstanding common shares (the "Transaction") of Darelle Media Inc. ("Darelle"). Under the terms of the
proposed acquisition the Company will acquire 100% of the issued and outstanding common shares of
Darelle. Under the terms of the proposed acquisition, Darelle shareholders will receive a total of
14,500,000 common shares of Free Energy International Inc. ("Free Energy"). In addition, management of
Darelle will be entitled to receive 3,000,000 convertible preferred shares ("Preferred Shares") over a
thirty-six month period. The Preferred Shares can be converted to shares of the Company on a one-to-
one basis without further consideration. The issuance of 3,000,000 Preferred Shares are subject to
minimum revenue thresholds attained by Darelle in each of the twelve consecutive reporting periods once
the transaction has closed. The Transaction is subject to a number of conditions including the signing of a
definitive agreement and additional financial requirements. The Company shall close a private placement
or public offering of the Company's shares for gross proceeds of not less than $750,000 and up to
$1,000,000 on terms satisfactory to the Company. For the closing of the Transaction, Free Energy must
have shares outstanding of less than or equal to 19,000,000. In addition, Free Energy and Darelle must
each have outstanding debt and/or liabilities of less than or equal to $250,000. On December 9, 2013 the
Company announced it had agreed to make a non-refundable deposit of $100,000 to Darelle in
conjunction with the Transaction.
Risks & Uncertainties
The Company, being a "Venture" issuer is exempted from filing an Annual Information Form. However, a
detailed explanation of the risk factors which the Company is faced with is provided in the Company's
(formerly Fairfax Capital Inc.) Management Information Circular dated July 25, 2007 at www.sedar.com.
A number of the key risks, as well as the strategies that management employs to manage these risks, are
discussed briefly below:
Technology and Competitive Risks
The Ocean Water heat exchanger, the GeoCool and GeoHeat Geo Exchange room heaters, the
Wellhead heating rods, the Pavement De-Icing project, and the Thermal Superconductor Condensor unit
all comprise technology that is in the development stage. Risks remain related to the successful
completion of the product development and testing programs, and the Company's ability to meet the
required cost, reliability and performance standards of viable commercial offerings. Nevertheless,
technical risks and uncertainties will remain until the demonstration units for each product line have been
successfully operated under standard commercial requirements. The Company currently faces, and will
continue to face competition from suppliers of comparable conventional systems. The Company will
continue to invest in fundamental R&D to continually improve the performance and cost position of our
products. In addition, the Company will pursue an active patenting program to protect all proprietary
technology and competitive position for each product line.
Market Risks
The market opportunity for our products is driven in part by the rising energy costs required to operate the
conventional equivalents. A significant reduction in worldwide energy costs could significantly impact
growth prospects.
In addition, the rate at which our products are adopted in their respective Commercial and Consumer
markets could have a material impact on the future profitability of the Company. The Company seeks to
mitigate this risk by diversifying the many applications of Thermal Superconductors across many products
related to the Heating Ventilating and Air Conditioning Markets.
Regulatory Risk
Permitting by Government bodies for installation of our products can significantly delay their release as
commercially viable products. The Ocean Water Heat Exchanger will require permitting by Canada's
Department of Oceans and Fisheries, and the installations of the room heaters, condenser units,
wellhead heating rods and pavement de-icing rods will require UL or CSA testing and certification before
a widespread installation base can be achieved. The company plans to instigate applications for
installations at the earliest stages possible in the development cycle to mitigate this risk.
Partner Risk
A key component of the Company's strategy is to partner with market leaders in the development,
marketing and distribution of new products. Our current business and/or future prospects would be
materially impacted if our Partner organizations terminated their relationships with our company. The
Company has structured key development agreements with these parties such that the Company is free
to sell to third parties in each industry sector, and we seek to establish relationships with multiple
customers in each of the markets that we target in order to mitigate this risk.
Financial Risk
FEII has no income from operations and none is likely in the current fiscal year. The Company is
currently a net consumer of cash, and will have to raise additional capital in order to complete long term
product development and commercialization plans. It is possible that our future growth prospects could be
significantly impacted if the Company is unable to raise additional capital on acceptable terms. In order to
mitigate this risk, we have implemented a disciplined cash management strategy to limit cash
consumption. In addition the Company is actively pursuing other forms of financial support such as
government and partner funding in order to reduce our net cash requirements.
Key Personnel Risk
Our future growth depends in large part on our ability to recruit, train and retain key management and
technical personnel. Competition for qualified personnel in our industry is intense, and it is possible that
we may not be able to recruit suitable personnel into key positions in the future. We have implemented an
innovative retention strategy in order to manage this risk, which includes active career development, and
a compensation program that rewards individual contributions and performance.
Supplier Risk
The Company currently sources its supply of superconductors from two distinct suppliers. In the event
these suppliers can no longer supply product, the Company's ability to continue operations will become
severely curtailed until a new supplier of superconductors is secured. The Company is currently
searching worldwide for alternative suppliers of materials with thermal properties equivalent to our
superconductors. In addition, the Company is currently negotiating with the current suppliers to obtain a
license that includes product formulae and production processes in order to create stability for the
established distributor and customer base.
Approval
The Audit Committee has approved the disclosure contained in this MD&A. Additional information relating
to the Company is available on SEDAR at www.sedar.com.
File: FS 2014-05-31 Q3 (29July14).pdf
Free Energy International Inc.
Condensed Interim Consolidated Financial Statements
Nine months ended May 31, 2014
(Unaudited- Prepared by Management)
NOTICE OF NO AUDITOR'S REVIEW OF INTERIM FINANCIAL STATEMENTS
Under National Instrument 51-102, Part 4, subsection 4.3 (3) (a), if an auditor has not performed a review
of the interim financial statements, they must be accompanied by a notice indicating that an auditor has
not reviewed the financial statements.
The accompanying unaudted interim consolidated financial statements for Free Energy International Inc.
(the "Company") have been prepared by and are the responsibility of management in accordance with
International Financial Reporting Standards ("IFRS"). The Company's independent auditor has not
performed a review of these financial statements in accordance with standards established by the
Canadian Institute of Chartered Accountants for a review of interim financial statements by the entity's
auditor.
2
Free Energy International Inc.
Condensed Interim Consolidated Statements of Financial Position
(Unaudited- Prepared by Management)
May 31, August 31,
2014 2013
Assets
Current
Cash $ 13,220 $ 3,606
GST/HST receivable 1,374 22,248
14,594 26,034
Liabilities
Current
Accounts payable and accrued liabilities (note 3) $ 639,791 $ 758,244
Notes payable (note 4) 190,957 217,177
Convertible Notes (note 5) - 1,076,781
Loan payable (Note 4) - 225,000
830,748 2,277,202
Shareholder's Equity (Deficiency)
Share capital (note 7) 3,624,034 2,190,552
Other equity reserve 844,024 753,941
Equity component of convertible notes - 90,083
Deficit (5,284,212) (5,285,744)
(816,154) (2,251,168)
$ 14,594 $ 26,034
Nature and continuance of operations (note 1)
Approved on behalf of the Directors:
/s/ "Dean Bethune"
Mr. Dean Bethune Director
/s/ "Scott Hamilton"
Mr. Scott Hamilton Director
The accompanying notes are integral part of these interim consolidated financial statements.
3
Free Energy International Inc.
Condensed Interim Consolidated Statements of
Comprehensive Income (Loss)
(Unaudited- Prepared by Management)
Condensed Interim Statements of Comprehensive Income (Loss)
Nine Months Ended
May 31 May 31
2014 2013
Sales $ - $ -
Cost of goods sold - -
Gross Profit - -
Expenses
General and administrative 63,365 79,761
Interest and accretion 3,159 22,022
Net loss before other items (66,524) (101,783)
Other items
Forgiveness of Debt 68,056 586,301
Interest income - 3,574
68,056 589,875
Net and comprehensive income (loss) 1,532 488,092
Basic and diluted income (loss) per share $ 0.00 $ 0.30
Weighted average number of shares outstanding 10,510,359 1,637,816
4
Free Energy International Inc.
Consensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
Condensed Interim Statement of Changes in Equity
For the nine months ended May 31, 2014
Equity
component
of
Number of Share Other Equity convertible
---> Share
Shares Capital Reserved notes Warrants
---> Deficit Capital
Balance September 1, 2013 1,637,816 $ 2,190,552 $ 753,941 $ 90,083 $ -
---> $ (5,285,744) $ (2,251,168)
Share for debt settlement 14,792,170 1,433,482 90,083 (90,083)
---> 1,43,482
Comprehensive income - - - - -
---> 1,532 1,532
Balance, May 31, 2014 16,429,986 $ 3,624,034 $ 844,024 $ - $ -
---> $ (5,284,212) $ (816,154)
The accompanying notes are integral part of these interim consolidated financial statements
---> 5
Free Energy International Inc.
Consensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
Consensed Interim Statement of Changes in Equity
For the nine months ended May 31, 2013
Equity
component
of
Number of Share Other Equity convertible
---> Share
Shares Capital Reserved notes Warrants
---> Deficit Capital
Balance September 1, 2012 1,637,816 $ 2,190,552 $ 753,941 $ 90,083 $ -
---> $ (5,701,771) $ (2,667,195)
Comprehensive income (loss) - - - -
---> 488,092 488,092
Balance, May 31, 2013 1,637,816 $ 2,190,552 $ 753,941 $ 90,083 $ -
---> $ (5,213,679) $ (2,179,106)
---> 6
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
Condensed Interim Consolidated Statements of Cash Flows
Nine Months Ended
May 31 May 31
2014 2013
Operating activities
Net Income (loss) for the period $ 1,532 $ 488,092
Add back:
Gain on forgiveness of debt 68,056 -
Changes in non-cash operating working capital items::
(Increase) decrease in accounts receivable 21,054 30,808
(Increase) decrease in prepaid expense - -
(Decrease) increase in accounts payable and accrued
liabilities (81,028) (193,978)
Net cash provided (used) in operating activities
9,614 324,922
Financing activities
Repayment and settlement of program funding - (1,400,000)
Net cash provided (used) by investing activities - (1,400,000)
Increase (decrease) in cash and cash equivalents 9,614 (1,075,078)
Cash and cash equivalents, beginning of period 3,606 1,108,644
Cash and cash equivalents, end of period $ 13,220 $ 33,566
Additional Cash Flow Information
Interest received 3,574
Interest paid -
Income taxes paid -
Cash and equivalents consist of:
Cash on hand 13,220 33,566
See notes to financial statements
7
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
1. Nature and Continuance of Operations
The Company is in the business of product development for the Heating, Ventilating and Air
Conditioning marketplace using the advanced technology of Thermal Super Conductors. The
Company was incorporated in Vancouver, British Columbia on February 11, 2005.
The Company's registered office is Suite 1606 675 West Hastings Street, Vancouver, British
Columbia, V6B 1N2.
The financial statements were authorized by the Board of Directors on July 29, 2014.
The interim financial statements have been prepared on the basis that the Company is a going
concern, which assumes that the Company will be able to realize its assets and discharge its
liabilities in the normal course of business. The Company's ability to continue as a going concern is
dependent upon achieving profitable operations and upon obtaining additional financing. The
outcome of these matters cannot be predicted at this time. As at May 31, 2014, the Company had
not achieved profitable operations and has a cumulative deficit of $5,284,212 (August 31, 2013 -
$5,285,744) and a working capital deficiency of $816,154 (August 31, 2013 - $2,251,168). This
raises significant doubt about the Company's ability to continue as a going concern. These financial
statements do not include any adjustments to the amounts and classification of assets and liabilities
that might be necessary should the Company be unable to continue in business.
2. Financial Statement Presentation and Significant Accounting Policies
The interim financial statements, including comparative figures, have been prepared in accordance
with International Accounting Standard ("IAS") 34, Interim Financial Reporting as issued by the
International Accounting Standard Board (IASB). Accordingly, certain information and footnote
disclosure normally included in annual financial statements prepared in accordance with IFRS have
been omitted or condensed, and therefore should be read in conjunction with the August 31, 2013
audited consolidated financial statements and the notes below.
The accounting policies set out below have been applied consistently to all periods presented in
these financial statements.
a.) Consolidation
These financial statements include the accounts of Free Energy International Inc. and its wholly
owned subsidiaries, Free Energy Solutions Inc., W2E Power Corporation ("W2E") and Free
Energy Power Corporation. All inter-company transactions and balances have been eliminated.
b.) Basis of measurement
These financial statements were prepared on the historical cost basis except for financial
instruments classified as fair value through profit or loss ("FVTPL") and available-for-sale which
are stated at their fair value In addition, these financial statements have been prepared using the
accrual basis of accounting, except for cash flow. These financial statements have been
prepared in Canadian dollars, which is the Company's functional and presentation currency.
8
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
2. Significant Accounting Policies (continued)
c.) Cash and cash equivalents
The Company considers cash equivalents to consist of highly liquid investments that are
cashable on demand, and which are subject to insignificant credit and interest rate risk. Cash
and cash equivalents are comprised of cash in checking accounts.
d.) Financial instruments
All financial instruments are required to be measured at fair value on initial recognition, except
for certain related party transactions. Measurement in subsequent periods depends on whether
the financial instrument has been classified as fair value through profit and loss, available-for-
sale, held �to-maturity, loans and receivables, or other liabilities.
Financial assets and liabilities classified as fair value through profit and loss are
required to be measured at fair value, with gains and losses recognized in net
earnings.
Financial assets classified as held-to-maturity, loans and receivables and financial
liabilities (other than those at fair value through profit and loss) are required to be
measured at amortized cost using the effective interest method of amortization.
Available-for-sale financial assets are required to be measured at fair value, with
unrealized gains and losses recognized in Other Comprehensive Income (loss).
Investments in equity instruments classified as available-for-sale that do not have a
quoted market price in an active market are measured at cost.
The company has implemented the following classification:
Cash and cash held in reserve are classified as loans and receivables.
Accounts payable and accrued liabilities, salaries and bonus payable, notes
payable, loan payable and program funding advanced are classified as other
financial liabilities.
Transaction costs related to financial instruments classified as fair value through profit and loss
are recognized immediately into income. For financial instruments classified as other than fair
value through profit and loss, transaction costs are added to the financial instrument.
Impairment of financial assets:
Financial assets are assessed for indicators of impairment at the end of each reporting period.
Financial assets are impaired when there is objective evidence that, as a result of one or more
events that occurred after the initial recognition of the financial assets, the estimated future cash
flows of the investments have been negatively impacted. Evidence of impairment could include:
significant financial difficulty of the issuer or counterparty; or default or delinquency in interest or
principal payments; or the likelihood that the borrower will enter bankruptcy or financial
reorganization.
9
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
2. Significant Accounting Policies (continued)
d) Financial instruments (continued)
Financial instruments recorded at fair value:
Financial instruments recorded at fair value on the statements of financial position are classified
using a fair value hierarchy that reflects the significance of the inputs used in making the
measurements. The fair value hierarchy has the following levels: Level 1 � valuation based on
quoted prices (unadjusted) in active markets for identical assets or liabilities; Level 2 � valuation
techniques based on inputs other than quoted prices include in Level 1 that are observable for
the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices); and
Level 3 � valuation techniques using inputs for the asset or liability that are not based on
observable market data (unobservable inputs). As of May 31, 2014 and August 31, 2013 none of
the Company's financial instruments are recorded at fair value on the statement of financial
position.
e.) Impairment of non-financial assets
At the end of each reporting period, the Company reviews the carrying amounts of its non-
financial assets with finite lives to determine whether there is any indication that those assets
have suffered an impairment loss. Where such an indication exists, the recoverable amount of
the asset is estimated in order to determine the extent of the impairment loss. The recoverable
amount is the higher of an asset's fair value less cost to sell or its value in use. In addition, long
lived assets that are not amortized are subject to an annual impairment assessment.
f.) Revenue recognition
The Company recognizes revenue on products when goods are shipped under an agreement
with a customer, risk of loss and title have passed to the customer, collection of any resulting
receivable is reasonably assured, and when no significant post shipment obligations exist.
g.) Convertible notes
Convertible notes issued by the Company are classified according to their components by
calculating the fair value of each component and then allocating the principal of the convertible
note into its components on a pro-rata basis using the cumulative fair value of all components.
Components of the convertible notes have included the principal debt, share-purchase warrants
and a common share conversion feature.
The fair values of the share-purchase warrants and the common share conversion feature are
calculated using a Black-Scholes pricing model, while the fair value of the principal component is
calculated using a discounted cash flow model. The values allocated to the share-purchase
warrants and conversion feature are accounted for as an effective reduction in the principal
portion of the convertible note with a corresponding increase in warrants and other paid-in
capital, respectively.
The portion of the convertible note that is allocated to principal is accreted to its gross value on
an effective interest basis over the life of the note by charging accretion expense and by
increasing the principal portion of the convertible note.
10
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
2. Significant Accounting Policies (continued)
h.) Share based payment transactions
The share option plan allows the Company to grant options to its employees and consultants.
The fair value of options granted is recognized as a share-based payment expense with a
corresponding increase in share-based payment reserve. An individual is classified as an
employee when the individual is an employee for legal or tax purposes (direct employee) or
provides services similar to these performed by a direct employee.
The fair value of employee options is measured at grant date and each tranche is recognized
on a graded-vesting basis over the period during which the options vest. The fair value of the
options granted is measured using the Black-Scholes option pricing model taking into account
the terms and conditions upon which the options were granted. At each financial position
reporting date, the amount recognized as an expense is adjusted to reflect the actual number of
share options that are expected to vest.
Equity-settled share-based payment transactions with non-employees are measured at the fair
value of the goods or services received. However, if the fair value cannot be estimated reliably,
the share-based payment transactions is measured at the fair value of the equity instruments
granted at the date the non-employee provides the goods or the services.
i.) Income taxes
Income taxes on the profit or loss for the periods presented comprises current and deferred tax.
Income tax is recognized in profit or loss except to the extent that it relates to items recognized
directly in equity, in which case it is recognized in equity. Current tax expense is the expected
tax payable on the taxable income for the year, using tax rates enacted or substantively enacted
at period end, adjusted for amendments to tax payable with regards to previous years.
Deferred tax is provided using the liability method, providing for temporary differences between
the carrying amounts of assets and liabilities for financial reporting purposes and the amounts
used for taxation purposes. The following temporary differences are not provided for: goodwill
not deductible for tax purposes and the initial recognition of assets or liabilities that affect nether
accounting nor taxable profit. The amount of deferred tax provided is based on the expected
manner of realization or settlement of the carrying amount of assets and liabilities, using tax
rates enacted or substantively enacted at the financial position reporting date.
A deferred tax asset is recognized only to the extent that it is probably that future taxable profits
will be available against which the asset can be utilized. To the extent that the Company does
not consider it probable that a future tax asset will be recovered, it provides a valuation
allowance against that excess.
j.) Loss per share
The Company presents basic and fully diluted loss per share data for its common shares,
calculated by dividing the loss attributable to common shareholders of the Company by the
weighted average number of common shares outstanding during the period. Diluted loss per
share is determined by adjusting the loss attributable to common shareholders and the weighted
average number of common shares outstanding for the effects of all warrants and options
outstanding that may add to the total number of common shares.
11
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
2. Significant Accounting Policies (continued)
k.) Significant accounting estimates and judgments
The preparation of these financial statements requires management to make certain estimates,
judgments and assumptions that affect the reported amounts of assets and liabilities at the date
of the financial statements and reported amounts of expenses during the reporting period. Actual
outcomes could differ from these estimates. These financial statements include estimates which,
by their nature, are uncertain. The impacts of such estimates are pervasive throughout the
financial statements, and may require accounting adjustments based on future occurrences.
Revisions to accounting estimates are recognized in the period in which the estimate is revised
and future periods if the revision affects both current and future economic conditions and other
factors, including expectations of future events that are believed to be reasonable under the
circumstances.
Critical accounting estimates
Significant assumptions about the future and other sources of estimation uncertainty that
management has made at the end of the reporting period, that could result in a material
adjustment to the carrying amounts of assets and liabilities, in the event that actual results differ
from assumptions made, relate to, but are not limited to the following:
(i) The calculation of share-based compensation requires estimates of volatility, forfeiture
rates and market prices surrounding the issuance of share options. These estimates
impact share-based compensation expense and share-based payment reserve.
(ii) The determination of the fair value of the conversation feather, equity component of
convertible notes, which impacts accretion expense.
Critical accounting judgments
Critical accounting judgments are accounting policies that have been identified as being complex
or involving subjective judgments or assessments.
(i) A deferred income tax asset is recognized to the extent it is probable that future income
tax profits will be available against which the asset can be used. To the extent that
management does not consider it probable that a defer income tax asset will be
recovered, a deferred income tax asset is not recognized.
l.) Future accounting changes
The Company has not yet adopted certain new standards, amendments and interpretations to
existing standards, which have been published but are effective only for accounting periods
beginning on or after January 1, 2013 (except as otherwise noted), including:
IFRS 7 � Financial Instruments: Disclosures
IFRS 9 � Financial Instruments: Classification and Measurement, effective January 1, 2015
IFRS 10 � Consolidated Financial Statements
IFRS 11 � Joint Arrangements
12
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
2. Significant Accounting Policies (continued)
l) Future accounting changes (continued)
IFRS 12 � Disclosure of Interests in Other Entities
IFRS 13 � Fair Value Measurement
IAS 27 � Separate Financial Statements
IAS 28 � Investments in Associates and Joint Ventures
IAS 32 � Financial Instrument Presentation, effective January 1, 2014
These standards and interpretations have not been adopted and are yet to be assessed by the
Company.
3. Accounts Payable and Accrued Liabilities
May 31, 2014 August 31,
2013
Total accounts payable and accrued liabilities $ 342,291 $ 460,744
Salaries and bonus payable to directors and former
directors 297,500 297,500
$ 639,791 $ 758,244
4. Notes and Loan Payable
i. Notes payable
Notes payable are non-interest bearing, unsecured and are due on demand
May 31 2014 August 31,
2013
Payable to directors and former director $ 43,867 $ 38,867
Payable to companies controlled by a director and
former director 147,090 147,090
Payable to related companies - 19,220
Payable to minority shareholders - 12,000
$ 190,957 $ 217,177
ii. Loan payable
During the year ended August 31, 2010 the Company received a $250,000 loan. The loan bears
interest at the greater of 10% per annum or 2.5% of gross sales of one of the Company's products,
is unsecured, and is due April 21, 2012. The Company was in breach of its loan and the Company
entered into a share for debt settlement with the loan holder (see note 6). During the year ended
August 31, 2013 the Company entered into a license agreement ("License Agreement") which
resulted in reduction in the note principal to a balance as of August 31, 2013 of $225,000. Under the
terms of the License Agreement the Company agreed to license the Torpedo Heat Reclamation
13
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
4. Notes and Loan Payable (continued)
Product in exchange for a reduction in note principal of $25,000 payable by the Company. The
License Agreement includes an exclusive right to manufacture, distribute and sell the technology
throughout Canada and the United States. The Company is subject to a 1% royalty fee on this
product for 5 years after the note principal is repaid. During the period ended May 31, 2014, the
Company had $Nil ($Nil � 2013) in sales revenue pertaining to this product. The Company accrued
$3,275 in interest at 10% during the period ended May 31, 2014 (2013 - $11,250).
5. Convertible Notes
The note holders accepted management's debt restructuring proposal effective December 4, 2009
regarding note principal owing of $760,000 and accrued interest payable totaling $157,205 at
November 30, 2009. The terms of the restructuring agreement were as follows:
i. interest continues to accrue at 10% of face value and payment of all principal and interest
(accrued and future) will be deferred until November 30, 2011;
ii. note principal is convertible into shares by the note holder at $.40 per share, any time until
November 30, 2011; and
iii. 237,500 detachable share purchase warrants were issued on the amount of the original note
principal owing entitling the warrant holder to purchase two and one-half shares for every
dollar of note principal outstanding on December 4, 2009 and are exercisable any time until
November 30, 2011 at $3.20 per share.
Based upon the conversion price of $3.20 per share, the potential dilution will be 475,000 shares if
the note principal is fully converted to shares and all 237,500 warrants are exercised (Note 6(c)).
Accrued interest is convertible into common shares of the Company at the current share price upon
conversion. The notes are redeemable at any time by the Company in cash for outstanding principal
and accrued interest, based on face value.
As of the restructuring date, the convertible notes have been segregated between debt and equity
based on the relative fair value of the debt obligation, the conversion option, and the warrants issued
which were valued at $360,911, $114,025, and $285,064 respectively. These discounts were being
accreted to earnings as interest expense until November 30, 2011 when the notes matured. The
discount on the debt results in an effective interest rate on the liability of 55%. During the period
ended May 31, 2013, the Company accrued interest of $Nil (2012 - $19,052) and accreted interest of
$Nil (2012 - $50,024) on this liability.
The liability component of the convertible notes was determined based on an estimated fair value
discount rate of 25%. To determine the fair value ascribed to the equity component and the warrants
the Company valued each component individually and then allocated the remaining note principal
pro-rata to each component as follows:
a) The fair value of the equity component of the convertible notes was estimated at the date of
issue using the Black-Scholes model with the following assumptions: (i) dividend yield of
0%, (ii) expected volatility of 100%, (iii) expected life of 2 years, and (iv) a risk free interest
rate of 1.27%.
b) The fair value of warrants issued was estimated at the date of issue using the Black-Scholes
model with the following assumptions: (i) dividend yield of 0%, (ii) expected volatility of
100%, (iii) expected life of 2.0 years, and (iv) a risk free interest rate of 1.27%.
14
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
5. Convertible Notes (continued)
On August 6, 2013 the Company announced its intention to complete a share-for-debt agreement to
settle indebtedness of up to $1,700,000 by the issuance of up to 17,000,000 common shares at a
deemed price of $0.10 per share. On December 9, 2013 the Company received approval from the
TSX Venture Exchange to issue 14,792,170 common shares to settle outstanding debt of
$1,479,217 ("Debt Settlement"). Included in the Debt Settlement was the settlement of convertible
notes of $1,032,000 which included note principal of $760,000 and accrued interest of 32,000.
6. Forgiveness of Debt
On August 31, 2010, Free Energy Power Corporation (a wholly owned subsidiary of the Company)
received $1,400,000 from Borealis GeoPower Inc. in grant funding that Borealis received as the
primary applicant under the Alberta Energy Research Institute (AERI) program.
On March 28, 2013 Free Energy Power Corporation entered into an agreement to return grant
funding of $961,917 to the Government of Alberta ("Grant Settlement Agreement"). The Grant
Funding represented the balance of program funding advances of $1,400,000 received from the
Government of Alberta, less eligible project expenditures incurred and amounts paid to various trade
creditors of the project. The repayment of grant funding resulted in income from the forgiveness of
debt of $438,083 being realized by the Company during the period ending May 31, 2013.
In conjunction with the Grant Settlement Agreement entered into with the Government of Alberta, the
Company negotiated settlement agreements with various trade creditors of Free Energy Power
Corporation in which creditors would receive settlements of fifty percent of balances owed to them.
The settlement and ensuing payment of these balances resulted in the Company realizing additional
income from the forgiveness of debt of $148,218. Total income realized on the forgiveness of debt
was $586,301 during the period ended August 31, 2013.
Settlement Forgiveness
of debt
$ $ $
Program funding advanced 1,400,000 961,917 438,083
Trade payables of project 140,010 70,005 70,005
Trade payables of company controlled by director
of Company (note 8) 156,425 78,212 78,213
1,696,435 1,110,134 586,301
On December 9, 2013, the Company entered into settlement agreements with various holders of
convertible notes and account payable balances ("Share for Debt Settlement"). In conjunction with
the Debt Settlement certain creditors agreed to forgive amounts owing to them. The Share for Debt
Settlement resulted in the Company realizing additional income from the forgiveness of debt of
$68,056 during the period ended May 31, 2014.
7. Share Capital
Authorized � Unlimited number of common shares without par value
a) Issued
15
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
7. Share Capital (continued)
On December 19, 2011 the Company consolidated its common shares on an eight (8) old shares for
one (1) new share basis.On December 9, 2013, the Company received approval from the TSX
Venture Exchange to issue 14,792,170 common shares to settle outstanding debt of $1,479,217
("Debt Settlement"). Included in the Debt Settlement was the settlement of convertible notes of
$1,032,000, a note payable of $225,000 and accrued interest and accounts payable of $222,217.
b) Escrow shares
Certain security holders prior to the reverse-take-over were subject to a Tier 2 Surplus Security
Escrow Agreement for 787,500 shares of the total shares issued in the reverse take-over of Free
Energy. These shares were subject to six month release intervals starting six months after the
TSX's acceptance of the Qualifying Transaction in November, 2007 at 5% of the initial escrowed
total for the first four six month intervals then increasing to 10% thereafter. During the period ended
May 31, 2014, 78,748 (August 31, 2013 � 157,502) of the escrow shares were released and as at
May 31, 2014, no shares remain in escrow.
c) Stock options
On December 19, 2011, shareholders voted to adopt a new stock option plan which supersedes any
prior stock option plans. Under the new plan, up to 20% of the issued and outstanding common
shares may be allotted and reserved for issuance. The terms of the option, including the vesting
terms and the option price are fixed by the directors at the time of grant subject to the price not being
less than the market price of the Company's stock on the date of grant and a maximum term of 10
years. The following table summarizes activity under the Company's stock plan as of May 31, 2014:
Number of shares Weighted average exercise
issuable on price of exercisable options
exercise $
Balance and exercisable � August 31, 2011 193,750 2.48
and August 31, 2012
Expired (62,500) 4.00
Balance and exercisable � August 31, 2013
and May 31, 2014 131,250 1.72
During the year ended August 31, 2013 and the period ended May 31, 2014, the Company did not
grant options.
At May 31, 2014, the Company had share purchase options outstanding and exercisable enabling
holders to acquire common shares as follows:
Number of shares Exercise Price Expiry Date
25,000 $1.60 March 12, 2014
56,250 $2.40 July 20, 2015
31,250 $1.04 December 22, 2015
18,750 $1.04 February 14, 2016
131,250
16
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
7. Share Capital (continued)
d) Warrants
The number of share purchase warrants outstanding is summarized below:
Number of share
purchase warrants
Balance � August 31, 2011 254,130
Expired November 30, 2011, convertible notes (254,130)
Balance � August 31, 2013 and May 31, 2014 -
8. Related Party Transactions
These transactions were in the normal course of operations and were valued in these financial
statements at the exchange amount, which is the amount of consideration established and agreed to
by the related parties:
a) No bonuses were declared, paid or payable, to directors during the period (2013 Year - $Nil). At
February 23, 2014, $297,500 (August 31, 2013 - $297,500) was owing to former directors in
respect of salaries and bonus expensed. The Company entered into an agreement on
September 3, 2013 with the director and former director whereby they agreed to forgive amounts
owing to them on closing of the acquisition of Darelle Media Inc. (see Note 12)
b) During the period, the Company incurred and recorded $45,000 (2013 Year - $50,310) to
consulting fees pursuant to a contract with a company owned by a director. At May 31, 2014,
$72,309 (August 31, 2013 � $29,190 was owing to this company for consulting fees rendered.
c) At May 31, 2014, there was $25,409 (August 31, 2013 - $13,122) owing to directors' and former
directors for unreimbursed expenses.
d) At May 31, 2014, there was $5,040 (August 31, 2013 - $5,040) owing to a company owned by a
director.
Key Management Personnel May 31, 2014 August 31, 2013
Consulting fees 45,000 50,310
$ 45,000 $ 50,310
9. Financial instruments and risk management
Fair Value of Financial Instruments
The carrying values of cash and cash equivalents, accounts receivable and accounts payable and
accrued liabilities, salaries and bonus payable, notes payable, loan payable and program funding
advanced approximate their fair values due to the short-term maturity and market interest rates of
these financial instruments.
The Company is exposed to various risks that arise from its business environment and the financial
instruments it holds. The Company's risk exposure and the impact on the Company's financial
instruments are summarized below:
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Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
9. Financial instruments and risk management (continued)
a) Credit risk
Credit risk is the risk of financial loss to the Company if counter-party to a financial instrument fails to
meet its contractual obligations. The credit risk associated with cash is minimized substantially by
ensuring that these financial assets are placed with major Canadian financial institutions with strong
investment-grade ratings by a primary ratings agency. With respect to receivables at May 31, 2014,
the Company is not exposed to significant credit risk as a significant portion are due from
government agencies and the remainder is due from customers with approved credit.
b) Liquidity risk
Liquidity risk is the risk that the Company will not be able to meet its financial obligations as they fall
due. The following are the contractual maturities of financial liabilities and commitments as at May
31, 2014:
Undiscounted 0 to 12 12 to 24 After
contractual months months 24 months
cash flows
$ $ $ $
Financial liabilities
Accounts payable and accrued
liabilities 639,791 639,791 - -
Notes and loan payable 190,957 190,957 - -
830,748 830,748
It is the Company's intention to meet these obligations with the cash proceeds from equity financings
and the issuance of common shares in settlement of outstanding debt.
c) Market risk
Market risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate
because of changes in market prices. Market risk comprises of the following risks:
i. Interest rate risk
The Company's cash consists of cash held in bank accounts with a major Canadian financial
institution. Due to the short-term nature of this financial instrument, fluctuations in market
rates do not have a significant impact on estimated fair values as of May 31, 2014. Future
cash flows from interest income on cash will be affected by interest rate fluctuations.
ii. Foreign currency risk
The Company is exposed to foreign currency risk to the extent that certain monetary
financial instruments and other assets are denominated in United States dollars. The
Company has not entered into any foreign currency contracts to mitigate this risk, as it
believes this risk is minimized by the minimal amount of cash held in United States funds.
18
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
10. Capital Management
The Company defines its capital as follows:
- shareholder's equity, comprising of issued common shares, contributed surplus and deficit;
- long term debt, including any current portion; and
- short term borrowing
The Company manages its capital structure and makes adjustments to it, based on the funds
available to the Company, in order to support the funding of its marketing and operational plans and
any joint venture and project commitments extending beyond one year. The Board of Directors does
not establish quantitative return on capital criteria for management, but rather relies on the expertise
of the Company's management to sustain future development of the business.
Management reviews its capital management approach on an ongoing basis and believes that this
approach, given the relative size of the Company, is reasonable.
There were no changes in the Company's approach to capital management during the period ended
May 31, 2014. The Company is not subject to externally imposed capital requirements.
11. Program Funding Advanced
On August 28, 2009, the Company entered into an agreement with an independent oil and gas
production company to construct a power generation plant at its oil and gas production facility in the
Swan Hills, Alberta. In conjunction with this project, the Company entered into an agreement with
Borealis GeoPower Inc. (Borealis to secure grant funding for this project of up to $2,600,000 by the
Alberta Energy Research Institute (AERI) to assist in funding the project. Funding under the grant is
subject to a number of conditions including the matching on a dollar for dollar basis of eligible
expenditures.
Upon receipt of adequate project financing commitments and after commercial operations of the
plant have commenced, the Company has agreed to pay Borealis a royalty based upon net
distributable cash paid and will also share the proceeds from any sale of the project, subject to a
maximum of $1,000,000. During the year ended August 31, 2010 the Company received $1,400,000
from Borealis in grant funding that Borealis received as the primary applicant under the AERI
program.
On November 22, 2010, the Company entered into a new agreement with Borealis which, although
retains the commitment to engage Borealis to conduct a study and prepare a geothermal report at a
cost of not more than $400,000, cancels the Company's obligations to pay royalties or remit
proceeds of sale to Borealis referred to above. In consideration for this, the Company has granted
Borealis an option to invest up to fifty percent of the engineering fees earned by Borealis relating to
the project's required geothermal report to a maximum investment of $200,000 in any private
placement that its subsidiary, Free Energy Power Corp., may complete in conjunction with the
construction of the Swan Hills power generation plant.
On March 25, 2011, Free Energy Power Corporation entered into an amending agreement with the
Province of Alberta to become a co-recipient of the $2,600,000 dollar grant with Borealis. In addition
to becoming a co-recipient of the $2,600,000 grant with Borealis, the Government of Alberta
approved the change in project scope and reduction of capital cost of the project. The project
originally envisioned the construction of a 2000 kW power generation plant with an estimated capital
cost of $8,600,000. In conjunction with the amending agreement, the project will envision the
19
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
11. Program funding advanced (continued)
construction of a 1000 kW power generation plant with an estimated capital cost of $5,500,000. Free
Energy Power Corporation will retain access of up to $2,600,000 in available grant funding to
complete the project. Under the terms of the amending agreement, the Company is obligated to
deliver project deliverables including equipment procurement by March 31, 2012.
In addition to matching of eligible expenditures by the Company, adequate financing commitments
for the entire project must be in place before the Company commits expenditures against these
grant funds advanced. As at April 30, 2012, the Company has incurred eligible expenditures of
approximately $487,500. The Company has not submitted a claim for eligible expenditures pursuant
to the funding guidelines under the AERI program.
On April 23, 2012, the Company provided notice to the Alberta Government that it has suspended
efforts in respect of the Swan Hills Heat Recovery project. The Company encountered significant
technical problems with the project and has been unable to meet its project deliverables under the
amending grant agreement with the Alberta Government.
On June 26, 2012, the Company received notice from the Alberta Government that the Alberta
Government provided formal notice of the termination of the grant.
On March 28, 2013, the Company canceled the agreement to install one or more Organic Rankine
Cycle power plants in Devon Energy Corporation's ("Devon") Swan Hills Unit. The project under
development by Free Energy Power Corporation, a wholly owned subsidiary of the Company,
became economically untenable due to technical and equipment cost. Free Energy Power
Corporation has returned unspent grant money in the amount of $961,917 received from the project
from the Alberta government. This resulted in income from forgiveness of debt of $438,083 during
the fiscal year ended August 31, 2013.
In conjunction with the Grant Settlement Agreement entered into with the Government of Alberta, the
Company negotiated settlement agreements with various trade creditors of Free Energy Power
Corporation in which creditors would receive settlements of fifty percent of balances owed to them.
The settlement and ensuing payment of these balances resulted in the Company realizing additional
income from the forgiveness of debt of $139,720 during the fiscal year ending August 31, 2013.
Total income realized on the forgiveness of debt was $577,803.
12. Acquisition Pending
On August 6, 2013 the Company announced it had signed a letter of intent to acquire all of the
outstanding common shares (the "Transaction") of Darelle Media Inc. ("Darelle"). Under the terms of
the proposed acquisition the Company will acquire 100% of the issued and outstanding common
shares of Darelle. Under the terms of the proposed acquisition, Darelle shareholders will receive a
total of 14,500,000 common shares of Free Energy International Inc. ("Free Energy"). In addition,
management of Darelle will be entitled to receive 3,000,000 convertible preferred shares ("Preferred
Shares") over a thirty-six month period. The Preferred Shares can be converted to shares of the
Company on a one-to-one basis without further consideration. The issuance of 3,000,000 Preferred
Shares are subject to minimum revenue thresholds attained by Darelle in each of the twelve
consecutive reporting periods once the transaction has closed. The Transaction is subject to a
number of conditions including the signing of a definitive agreement and additional financial
requirements. The Company shall close a private placement or public offering of the Company's
20
Free Energy International Inc.
Notes to the Condensed Interim Consolidated Financial Statements
(Unaudited- Prepared by Management)
12. Acquisition Pending (continued)
shares for gross proceeds of not less than $750,000 and up to $1,000,000 on terms satisfactory to
the Company. For the closing of the Transaction, Free Energy must have shares outstanding of less
than or equal to 19,000,000. In addition, Free Energy and Darelle must each have outstanding debt
and/or liabilities of less than or equal to $250,000. On December 9, 2013 the Company announced it
had agreed to make a non-refundable deposit of $100,000 to Darelle in conjunction with the
Transaction.
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