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FUSE SCIENCE, INC. - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

May 20, 2014

Forward Looking Statements

This analysis of our results of operations should be read in conjunction with the accompanying financial statements, including notes thereto, contained in Item 8 of this Report. This Report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act, and Section 21E of the Securities Exchange Act of 1934. Statements that are predictive in nature and that depend upon or refer to future events or conditions are forward-looking statements. Although we believe that these statements are based upon reasonable expectations, we can give no assurance that projections will be achieved. Please refer to the discussion of forward-looking statements included in Part I of this Report.

RESULTS OF OPERATIONS



Three Months Ended March 31, 2014 as Compared to Three Months Ended March 31, 2014.

Revenues and Gross Profit Three Months ended March 31, $ % 2014 2013 Restated Change Change Sales, net $ 73,099$ 56,622$ 16,477 29 % Cost of sales 23,064 27,504 (4,440 ) 16 % Gross profit $ 50,035$ 29,118$ 20,917 20 Sales



Net Sales were $73,099 for the three months ended March 31, 2014, as compared to $56,622 for the three months ended March 31, 2013. The increase in sales is due to the ongoing roll-out of the company's product via its distribution partnerships, which began shipping during the fourth quarter of 2012.

Gross Profit



Gross profit percentage during the three months ended March 31, 2014 was 68% compared to 51% for the three months ending March 31, 2013. Sales for the three months ended March 31, 2014 and 2013 consisted of Enerjel™, Powerfuse™ and Electrofuse™. This margin is due to fewer promotional activities during the quarter.

Operating Costs and Expenses

Three Months ended March 31, $ 2014 2013 Restated Change General and administrative $ 865,061$ 1,824,426$ (959,365 ) Sales and Marketing 336,299 1,237,822 (901,523 ) $ 1,201,360$ 3,062,248$ (1,860,888 )



Our operating expenses were $1,201,360 and $3,062,248 for the three months ended March 31, 2014 and March 31, 2013, respectively, a decrease of $1,860,888 from 2013 to 2014, reflecting efficiency in operations. For the three months ending March 31, 2014, approximately $175,000 was recorded for share-based compensation and amortization of deferred compensation. This compares with approximately $1,800,000 for share-based compensation and amortization of deferred compensation for the three months ending March 31, 2013. The deferred compensation expense in 2014 and 2013 represents the amortized fair value of stock and options issued for services to non-employees. The share-based compensation charges to operations in 2014 and 2013 were primarily for stock options granted under our 2011 Incentive Stock Plan to executive officers and were made so that their interests would be aligned with those of shareholders, providing incentive to improve Company performance on a long-term basis. Grants of stock options were also made to third parties for various services rendered and as additional compensation for financing agreements. Amortization of deferred compensation is recorded in general and administrative expenses. Share-based compensation expense is included in sales and marketing and general and administrative expenses.

General and Administrative Expenses

For the three months ended March 31, 2014 and 2013 general and administrative expenses were $865,061 and $1,824,426, respectively. General and administrative expenses consist primarily of compensation and support costs for management and administrative staff, and for other general and administrative costs, including professional fees related to accounting, finance, and legal services as well as other operating expenses.

Three months ended March 31, 2014 2013 Restated Professional fees $ 401,997$ 546,901 Salaries and benefits 360,057 1,133,362 Other general and administrative expense 103,007 144,163 $ 865,061$ 1,824,426 Professional Fees Expense



Professional fees expense decreased to $401,997 for the three months ended March 31, 2014, compared to $546,901 for the three months ended March 31, 2013. This decrease was due to a reduction in the Company's requirements for legal, compliance, protection and accounting and consulting services related to the Company's ongoing day-to-day business dealings and execution of its business plan, including, accounting, financial reporting and SEC compliance. Professional fees include $38,283 in non-cash compensation during the quarter.

21 Salary and Benefits



Salary and benefits amounted to $360,057 for the three months ended March 31, 2014 compared to $1,133,362 for the three months ended March 31, 2013. The decrease was due to decrease in personnel headcount and non-cash compensation.

Sales and Marketing



For three months ended March 31, 2014 and 2013, sales and marketing expenses were $336,299 and $1,237,822, respectively. In 2014, sales and marketing expenses also include the cost of production and distribution of advertising segments featuring these professional athletes. The company's products are endorsed by a number of professional athletes, which are remunerated cash and non-cash payments. The expenses in sales and marketing are also attributed to endorsement contracts with these professional athletes. Sales and marketing expenses consist primary of compensation and support costs for sales and marketing personnel, professional services, promotional, marketing and related activities.

Other Expense



Other income (expense) consists of the following:

Three months ended March 31, 2014 2013 Restated Expense on inducement of warrant exchange $ 480,000 $ - Expense on issuance of derivative liabilities 439,428 1,283,103 Change in fair value of derivative liabilities 1,105,844 8,149,794 Interest expense 66,573 1,167,726 $ 2,091,845$ 10,600,623 Interest Expense



Interest expense is primarily attributable to convertible notes payable. Interest expense amounted to $66,573 for the three months ended March 31, 2014, as compared to interest expense of approximately $1,167,726 for the three months ended March 31, 2013. This decrease is due to the conversion of notes payable during 2013 that have much higher interest costs. Also included in interest expense is amortization of financing fees relating to the notes and amortization of note discounts on the balance of the outstanding notes.

Six Months Ended March 31, 2014 as Compared to Six Months Ended March 31, 2014.

Revenues and Gross Profit Six Months ended March 31, $ % 2014 2013 Restated Change Change Sales, net $ 387,092$ 97,333$ 289,759 298 % Cost of sales 174,725 38,492 136,233 354 % Gross profit $ 212,367$ 58,841$ 153,526 Sales



Net Sales were $387,092 for the six months ended March 31, 2014, as compared to $97,333 for the six months ended March 31, 2013. This increase was due to increase orders shipped to our wholesale customers during the period.

Gross Profit



Gross profit percentage during the six months ended March 31, 2014 was 55% compared to 60% for the six months ending March 31, 2013. Sales for the six months ended March 31, 2014 and 2013 consisted of Enerjel™, Powerfuse™ and Electrofuse™. This change is the result of a larger portion of sales being sold at wholesale pricing versus direct to consumer.

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Operating Costs and Expenses

Six Months ended March 31, $ 2014 2013 Restated Change General and administrative $ 2,091,214$ 3,300,945$ (1,209,731 ) Research and development - 1,600 (1,600 ) Sales and Marketing 889,484 1,986,140 (1,096,656 ) $ 2,980,698$ 5,288,685$ (2,307,987 )



Our operating expenses were $2,980,698 and $5,288,685 for the six months ended March 31, 2014 and March 31, 2013, respectively, a decrease of $2,307,987 from 2013 to 2014, reflecting efficiency in operations. For the six months ending March 31, 2014, approximately $1,300,000 was recorded for share-based compensation and amortization of deferred compensation. This compares with approximately $2,900,000 for share-based compensation and amortization of deferred compensation for the six months ending March 31, 2013. The deferred compensation expense in 2014 and 2013 represents the amortized fair value of stock and options issued for services to non-employees. The share-based compensation charges to operations in 2014 and 2013 were primarily for stock options granted under our 2011 Incentive Stock Plan to executive officers and were made so that their interests would be aligned with those of shareholders, providing incentive to improve Company performance on a long-term basis. Grants of stock options were also made to third parties for various services rendered and as additional compensation for financing agreements. Amortization of deferred compensation is recorded in general and administrative expenses. Share-based compensation expense is included in sales and marketing and general and administrative expenses.

General and Administrative Expenses

For the six months ended March 31, 2014 and 2013 general and administrative expenses were $2,091,214 and $3,300,945, respectively. General and administrative expenses consist primarily of compensation and support costs for management and administrative staff, and for other general and administrative costs, including professional fees related to accounting, finance, and legal services as well as other operating expenses.

Six months ended March 31, 2014 2013 Restated Professional fees $ 1,105,480$ 1,123,248 Salaries and benefits 791,582 1,627,903 Other general and administrative expense 194,152 549,794 $ 2,091,214$ 3,300,945 Professional Fees Expense



Professional fees expense decreased to $1,105,450 for the six months ended March 31, 2014, compared to $1,123,248 for the six months ended March 31, 2013. This decrease was due to a reduction in the Company's requirements for legal, compliance, protection and accounting and consulting services related to the Company's ongoing day-to-day business dealings and execution of its business plan, including, accounting, financial reporting and SEC compliance.

Salary and Benefits



Salary and benefits amounted to $791,582 for the six months ended March 31, 2014 compared to $1,627,903 for the six months ended March 31, 2013. The decrease was due to a decrease in personnel headcount and non-cash compensation.

Research and Development



For the six months ended March 31, 2014 and 2013, research and development fees were $0 and $1,600. Research and development expenses in 2013 consisted primarily of compensation for contractors engaged in internal research and product development activities, laboratory operations, and related expenses. The Company considers research and development of its technology and the science behind its products an important cornerstone of its continuing efforts. As the Company progresses it will continue to invest in research and development and anticipates increases year over year.

23 Sales and Marketing



For six months ended March 31, 2014 and 2013, sales and marketing expenses were $889,484 and $1,986,140, respectively. In 2014, sales and marketing expenses also include the cost of production and distribution of advertising segments featuring these professional athletes. The company's products are endorsed by a number of professional athletes, which are remunerated cash and non-cash payments. The expenses in sales and marketing are also attributed to endorsement contracts with these professional athletes. Sales and marketing expenses consist primary of compensation and support costs for sales and marketing personnel, professional services, promotional, marketing and related activities.

Other Expense



Other income (expense) consists of the following:

Six months ended March 31, 2014 2013 Restated Expense on inducement of warrant exchange $ 650,616 $ - Expense on issuance of derivative liabilities 439,428 1,283,103 Change in fair value of derivative liabilities 3,735,868 9,822,598 Interest expense 460,114 1,362,692 $ 5,286,026$ 12,468,393 Interest Expense



Interest expense is primarily attributable to convertible notes payable. During January 2014, the company issued 750,000 of convertible notes bearing interest of 12%. During February of 2012, the Company issued $3,169,359 of convertible notes bearing interest of 9%. On March 7, 2013, the Company issued similar notes with an aggregate face value of $2,050,000 bearing interest of 12%. Interest expense amounted to $460,114 for the three months ended March 31, 2014, as compared to interest expense of approximately $1,362,692 for the six months ended March 31, 2013. Also included in interest expense is amortization of financing fees relating to the notes and amortization of note discounts on the balance of the outstanding notes.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity



The following table summarizes total current assets, liabilities and working capital at March 31, 2014 compared to September 30, 2013.

March 31, September 30, 2014 2013 Increase/(Decrease) Current Assets $ 1,323,708$ 1,423,730 $ (100,022 ) Current Liabilities $ 2,832,337$ 2,055,136 $ 777,201 Working Capital (Deficit) $ (1,508,629 )$ (631,406 ) $ (877,223 )



As March 31, 2014, we had a working capital deficit of $(1,508,628), as compared to a working capital deficit of $(631,406) at September 31, 2013, an increase of $877,222. The Company continues to devote significant resources to aggressively pursue markets for its products, new product introductions, advancement of its intellectual property and build out of its infrastructure and team.

Net cash (used for) operating activities for the six months ended March 31, 2014 and 2013 was $(1,475,309) and $(3,514,178), respectively. The net loss for the six months ended March 31, 2014 and 2013 was $(8,054,357) and $(17,698,237), respectively.

Net cash (used for) and provided by investing activities for the six months ended March 31, 2014 and 2013 respectively, was $(15,100) and $(35,912), respectively. The company invested in developing its intellectual property during the six months ended March 31, 2014.

Net cash obtained through all financing activities for the six months ended March 31, 2014 and 2013 was $1,474,691, and $3,671,102 respectively.

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Our primary source of operating cash during fiscal 2013 has been through private placements of our securities, principally convertible notes and warrants and the subsequent exercise of certain of those warrants.

Management estimates that it will need between $3,500,000 and $5,000,000 in capital during fiscal 2014 to continue to commercialize our products, license our technology and otherwise fully implement our business plan. We have no commitments to raise any such capital. If such capital is not available when needed on commercially reasonable terms or otherwise, we may have to scale down or delay implementation of our business plan in whole or in part and curtail its business activities, which would seriously harm the Company and its prospects.

Going Concern



The financial statements are prepared using the accrual method of accounting in accordance with accounting principles generally accepted in the United States of America and have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. However, the Company has incurred significant losses and experienced negative cash flow since its inception. At March 31, 2014, the Company had cash of approximately $13,712 and a deficit in working capital deficit of $1,508,628. Further, at March 31, 2014, the accumulated deficit amounted to $52,536,754. As a result of the history of losses and unfavorable financial condition, there is substantial doubt about the ability of the Company to continue as a going concern.

The Company will require additional funding of between $3,500,000 and $5,000,000 during 2014 to finance the growth of its current and expected future operations as well as to achieve its strategic objectives. The Company believes its current available cash along with anticipated revenues may be insufficient to meet its cash needs for the near future. There can be no assurance that financing will be available in amounts or terms acceptable to the Company, if at all.

In response to these problems, management has taken the following actions:

· begin price reduction of its product to increase demand;

· generate new sales from expanded retail distribution of EnerJel™, PowerFuse™

and ElectroFuse™;



· seeking additional third party debt and/or equity financing;

· continue facilitation of licensing efforts; and

· explore strategic alternatives that many exist for the company.

A successful transition to attaining profitable operations is dependent upon obtaining sufficient financing to fund the Company's planned expenses and achieving a level of revenues adequate to support the Company's cost structure. Management plans to finance future operations through the use of cash on hand, increased revenues and capital raised through equity or debt financing. We also expect to receive proceeds from stock warrant exercises from existing shareholders. As the Company's product continues to gain market acceptance, the Company expects sales in 2014 and beyond to substantially increase.

There can be no assurances that the Company will be able to achieve its projected level of revenues in 2014 and beyond. If the Company is unable to achieve its projected revenues and is not able to obtain alternate additional financing of equity or debt, the Company would need to significantly curtail or reorient its operations during 2013, which could have a material adverse effect on the Company's ability to achieve its business objectives and as a result may require the Company to file for bankruptcy or cease operations. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts classified as liabilities that might be necessary should the Company be forced to take any such actions.

Our future expenditures will depend on numerous factors, including: the rate at which we can introduce and sell products; the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights; and market acceptance of our products and competing technological developments. We expect that we will incur between $3,500,000 and $5,000,000 in cash expenditures for our operating expenses during fiscal 2014. As we expand our activities and operations, our cash requirements are expected to increase at a rate consistent with revenue growth after we have achieved sustained revenue generation.

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RECENT ACCOUNTING PRONOUNCEMENTS

New Accounting Standards



There are several new accounting pronouncements issued by the Financial Accounting Standards Board ("FASB") which are not yet effective. Each of these pronouncements, as applicable, has been or will be adopted by the Company. Management does not believe any of these accounting pronouncements has had or will have a material impact on the Company's financial position or operating results.

Critical Accounting Policies



The SEC issued "Cautionary Advice Regarding Disclosure about Critical Accounting Policies"; suggesting companies provide additional disclosure and commentary on their most critical accounting policies. The SEC defined the most critical accounting policies as the ones that are most important to the portrayal of a company's financial condition and operating results, and require management to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Based on this definition our most critical accounting policies are in process of evolving while we move from the development stage to the operational stage of our business cycle.

Off-Balance Sheet Arrangements

None.



Tabular Disclosure Of Contractual Obligations

None.


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Source: Edgar Glimpses


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