Loop Industries, Inc. 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following information and any forward-looking statements should be read in conjunction with “Risk Factors” discussed elsewhere in this Report. Please refer to the Cautionary Note Regarding Forward-Looking Statements on page 4. Overview Loop is a technology company whose mission is to accelerate the world’s shift towards sustainable PET plastic and polyester fiber and away from our dependence on fossil fuels. Loop owns patented and proprietary technology that depolymerizes no and low-value waste PET plastic and polyester fiber, including plastic bottles and packaging, carpets and textiles of any color, transparency or condition and even ocean plastics that have been degraded by the sun and salt, to its base building blocks (monomers). The monomers are filtered, purified and polymerized to create virgin-quality Loop ™ branded PET resin and polyester fiber suitable for use in food-grade packaging, thus enabling our customers to meet their sustainability objectives. Loop is contributing to the global movement towards a circular economy by preventing plastic waste and recovering waste plastic for a more sustainable future for all. The Company is in the planning stages of pursuing the construction of Infinite Loop™ commercial scale facilities in Québec, Canada, and with strategic partners in Europe and South Korea. Additionally, the Company has a joint venture to pursue the retrofitting of existing fossil fuel PET polymerization facilities with its recycling technology. Consumer brands are seeking a solution to their plastic challenge, and they are taking bold action. In the past years, we have seen major brands make significant commitments to close the loop on their plastic use in two ways; by transitioning their packaging to recyclable materials and by incorporating more recycled content into their packaging. We believe Loop ™ PET resin and polyester fiber provides the ideal solution for these brands because it is recyclable and is made from 100% recycled waste PET and polyester fiber, while being virgin-quality and suitable for use in food-grade packaging. Commercialization Plan and Progress Our objective is to achieve global expansion of Loop’s technology through a mix of fully owned manufacturing facilities, strategic partnerships, and licensing agreements. We believe that industrial companies, some of which today may not be in the business of manufacturing PET resin or polyester fiber, will view involvement in Infinite Loop ™ projects as a significant growth opportunity, which may offer attractive economic returns either as Loop manufacturing partners or as licensees of the technology. We are currently pursuing projects for future commercial production facilities in three regions: North America, Europe and Asia. The global expansion plan for our technology will allow our customers, mostly comprised of CPG brand companies and apparel companies, to expand the use of Loop ™ PET resin and polyester fiber into their packaging and clothing. As countries around the globe continue to increase sustainability targets and recycled content mandates, our customers are increasing the use of sustainably produced materials into their products. The Infinite Loop ™ manufacturing technology is the key pillar of our commercialization blueprint. We believe our technology is at the forefront of the global transition away from fossil fuels and petrochemicals and into the circular economy, where PET plastic and polyester fiber are produced by recycling waste plastic rather than depleting finite resources. The Infinite Loop ™ manufacturing technology allows for waste PET plastic and polyester fiber to be broken down into its base building blocks, monomers DMT and MEG, using Loop’s patented technology. Once the monomers are purified, they are then repolymerized into PET plastic or polyester fiber using INVISTA know how, which Loop licenses, and Chemtex Global Corporation’s engineering. The INVISTA polymerization process and the associated designs are historically proven in the commercial production of PET resin and polyester fiber. We have completed our basic design package for the Infinite Loop ™ full-scale manufacturing facilities with our engineering partners Worley, BBA and Chemtex, all leading global engineering and construction companies. The engineering philosophy we have adopted is “design one, build many.” This approach allows for the basic design package, to be used as the base engineering platform for all future geographical expansion. We believe this approach allows for a quick execution, speed to market and lends itself well to modular construction. The basic design package has a capacity of up to 70,000 M/T of PET resin output per year. Permitting, site and regulatory considerations may impact plant capacity. Our engineering partners may also play a role in the future design of larger capacity facilities. 27 Table of Contents Our market strategy is to assist global consumer goods brands in meeting their public sustainability commitments by offering packaging or polyester fibers that are made with Loop co-branded, 100% recycled, virgin-quality PET or polyester fibers. We believe that Loop ™ recycled PET resin and polyester fiber could command premium pricing over virgin, petroleum-based PET resin and provide attractive economic returns. We are targeting multi-year take or pay offtake agreements for planned Infinite Loop ™ production. Factors under consideration in determining project economics include the feasibility design engineering and cost estimate work, timing and permitting of a facility, customer offtake demand, commitment terms, and feedstock sources, quality, availability, PET bale index pricing, logistics, and ramp up, among others. Results of Operations Fourth Quarter Ended February 28, 2022 The following table summarizes our operating results for the three-month periods ended February 28, 2022 and February 28, 2021, in U.S. Dollars. Three months ended February 28, 2022 February 28, 2021 Change Revenues $ - $ - $ - Expenses Research and development Machinery and equipment expenditures 1,841,920 3,823,535 (1,981,615 ) External engineering 2,267,021 2,414,038 (147,017 ) Employee compensation 1,509,831 1,000,652 509,179 Stock-based compensation 384,228 362,321 21,907 Plant and laboratory operating expenses 584,730 466,724 118,006 Other 390,758 115,651 275,107 Total research and development 6,978,488 8,182,921 (1,204,433 ) General and administrative Professional fees 1,109,248 2,807,583 (1,698,335 ) Employee compensation 624,444 760,450 (136,006 ) Stock-based compensation 316,396 537,556 (221,160 ) Insurance 1,146,574 616,693 529,881 Other 227,725 91,720 136,005 Total general and administrative 3,424,387 4,814,002 (1,389,615 ) Contingency loss for legal settlement 2,519,220 - 2,519,220 Loss from equity investment 1,119,078 - 1,119,078 Depreciation and amortization 140,426 121,321 19,105 Interest and other financial expenses 35,994 55,980 (19,986 ) Interest income (12,167 ) (14,649 ) 2,482 Foreign exchange loss 67,506 33,928 33,578 Total expenses 14,272,932 13,193,503 1,079,429 Net loss $ (14,272,932 ) $ (13,193,503 ) $ (1,079,429 ) The net loss for the three-month period ended February 28, 2022 increased $1.08 million to $14.27 million, as compared to the net loss for the three-month period ended February 28, 2021 which was $13.19 million. The increase is primarily due to a contingency loss for legal settlement of $2.52 million and a loss from equity investment of $1.12 million, partially offset by decreased general and administrative expenses of $1.39 million and decreased research and development expenses of $1.20 million. The contingency loss for legal settlement of $2.52 million is related to the agreement for the settlement of the consolidated class action lawsuit filed in the Southern District of New York described in “Item 3. Legal Proceedings” entered into by the Company and the current and former officer defendants on March 1, 2022. The agreement, which is subject to certain conditions, including court approval, requires the Company to pay $3.1 million to the plaintiff class. The Company’s total cash contribution to the settlement and outstanding legal fees related to the lawsuit, combined, will be approximately $2.52 million. The remainder of the settlement will be paid by the Company’s D&O insurance carriers. 28 Table of Contents The recognition of a loss from equity investment of $1.12 million in the three-month period ended February 28, 2022 is related to management’s determination that the capitalized costs in our joint venture with Indorama, Indorama Loop Technologies (“ILT”) were no longer recoverable. The joint venture had made a decision during 2020 that it would temporarily delay work on the project, largely due to factors related to the COVID-19 pandemic. Since that date, no expenditures have been incurred by the joint venture. Also, the Company achieved significant advancements in its engineering design independently from that which was accomplished in ILT. Due to these advancements, management has determined that engineering design costs initially capitalized in ILT are now obsolete and no longer recoverable. Therefore, the Company recorded a loss of $1.12 million relating to its investment in ILT during the three-month period ended February 28, 2022. This amount represents the Company’s 50% portion of the engineering design costs capitalized in ILT. The $1.39 million decrease in general and administrative expenses for the three-month period ended February 28, 2022 was primarily attributable to the following: · $1.70 million decrease in expenses for legal and professional fees due to costs principally associated with the ongoing SEC investigation and class action suits described in “Item 3. Legal Proceedings”; · $0.22 million decrease in employee stock-based compensation; and · $0.14 million decrease in employee compensation expenses. These decreases were partially offset by a $0.53 million increase in insurance expenses mainly due to directors and officers (“D&O”) insurance upon extension of the Company’s policy and a $0.14 million increase in other general and administrative expenses. The $1.20 million decrease in research and development for the three-month period ended February 28, 2022 was primarily attributable to the following: · $1.98 million decrease in purchases of machinery and equipment at the Company’s Terrebonne Facility; and · $0.15 million decrease in external engineering expenses for ongoing design work for our Infinite Loop ™ manufacturing process. These decreases were partially offset by a $0.51 million increase in employee compensation expenses related to increased headcount to support the Company’s commercialization efforts, a $0.15 million increase in plant and laboratory operating expenses and a $0.28 million increase in other research and development expenses. Fiscal Year Ended February 28, 2022 The following table summarizes our operating results for the years ended February 28, 2022 and February 28, 2021, in U.S. Dollars. Years ended February 28, 2022 February 28, 2021 Change Revenues $ - $ - $ - Expenses Research and development Machinery and equipment expenditures 9,549,802 6,149,075 3,400,727 External engineering 7,307,363 5,655,997 1,651,366 Employee compensation 5,722,906 3,040,121 2,682,785 Stock-based compensation 1,536,734 1,417,004 119,730 Plant and laboratory operating expenses 2,649,133 1,852,615 796,518 Other 970,487 572,202 398,285 Total research and development 27,736,425 18,687,014 9,049,411 General and administrative Professional fees 4,247,859 4,613,717 (365,858 ) Employee compensation 2,772,977 2,131,597 641,380 Stock-based compensation 525,633 2,257,622 (1,731,989 ) Insurance 4,267,927 2,072,647 2,195,280 Other 978,043 464,757 513,286 Total general and administrative 12,792,439 11,540,340 1,252,099 Contingency loss for legal settlement 2,519,220 - 2,519,220 Loss from equity investment 1,119,078 - 1,119,078 Impairment of assets - 5,043,119 (5,043,119 ) Depreciation and amortization 548,232 775,675 (227,443 ) Interest and other financial expenses 154,319 81,996 72,323 Interest income (58,976 ) (93,043 ) 34,067 Foreign exchange loss 110,219 309,822 (199,603 ) Total expenses 44,920,956 36,344,923 8,576,033 Net loss $ (44,920,956 ) $ (36,344,923 ) $ (8,576,033 ) 29 The net loss for the year ended February 28, 2022 increased $8.58 million to $44.92 million, as compared to the net loss for the year ended February 28, 2021 which was $36.34 million. The increase is primarily due to increased research and development expenses of $9.05 million, a contingency loss for legal settlement of $2.52 million, increased general and administrative expenses of $1.25 million and a loss from equity investment of $1.12 million, partially offset by decreased impairment of assets of $5.04 million, lower depreciation and amortization expenses of $0.23 million and a decreased foreign exchange loss of $0.20 million. The $9.05 million increase in research and development for the year ended February 28, 2022 was primarily attributable to the following: · $3.40 million increase in purchases of machinery and equipment at the Company’s Terrebonne Facility; · $2.68 million increase in employee compensation expenses related to increased headcount to support the Company’s commercialization efforts and increased activity at the Terrebonne Facility; · $1.65 million increase in external engineering expenses for ongoing design work for our Infinite Loop ™ manufacturing process; · $0.80 million increase in plant and laboratory operating expenses; · $0.12 million increase in employee stock-based compensation expenses; and · $0.40 million increase in other research and development expenses. The contingency loss for legal settlement of $2.52 million is related to the agreement for the settlement of the consolidated class action lawsuit filed in the Southern District of New York described above in Results of Operations, Fourth Quarter Ended February 28, 2022. The $1.25 million increase in general and administrative expenses for the year ended February 28, 2022 was primarily attributable to the following: · $2.20 million increase in insurance expenses mainly due to D&O insurance renewal costs; · $0.64 million increase in employee compensation expenses; and · $0.51 million increase in other general and administrative expenses. These increases were partially offset by lower stock-based compensation expenses of $1.73 million which are mainly due to forfeitures of RSUs for $0.94 million and a $0.37 million decrease in expenses for legal and professional fees due to costs principally associated with the SEC investigation and class action suits described in “Item 3. Legal Proceedings”. The recognition of a loss from equity investment of $1.12 million in the year ended February 28, 2022 is related to its investment in ILT as discussed in the fourth quarter results above. The $5.04 million decrease in write-down and impairment of assets is related to the decision in the third quarter of fiscal 2021 to dedicate the Terrebonne Facility to brand activation, initial customer volumes and Infinite Loop™ demonstration, and research and development activities. Although the machinery and equipment will continue to be utilized at the Terrebonne Facility as it is an integral part of supporting the commercialization of our technology, application of ASC 730, Research and Development Costs requires machinery and equipment assets to be written off and all future costs associated with the Terrebonne Facility to be recognized as a research and development expense in the consolidated statements of operations and comprehensive loss. The $0.23 million decrease in depreciation and amortization expenses for year ended February 28, 2022 is mainly attributable to the write-down of machinery and equipment described above. LIQUIDITY AND CAPITAL RESOURCES From inception to February 28, 2022, the Company has been in the development stage with no revenues, with its ongoing operations and commercialization plans financed primarily by raising equity. To date, we have been successful in raising capital to finance our ongoing operations. Although our liquidity position consists of cash and cash equivalents on hand of $44.06 million at February 28, 2022, our liquidity position is subject to risks and uncertainties, including those discussed under “Cautionary Statements Regarding Forward-Looking Statements” in this Annual Report on Form 10-K and the Risk Factors section included in Part I, Item 1A of this Annual Report on Form 10-K. 30 Table of Contents Management actively monitors the Company’s cash resources against the Company’s short-term cash commitments to ensure the Company has sufficient liquidity to fund its costs for at least twelve months from the financial statement issuance date. Management evaluates the Company’s liquidity to determine if there is substantial doubt about the Company’s ability to continue as a going concern. In preparing this liquidity assessment, management applies significant judgment in estimating future cash flow requirements of the Company based on budgets and forecasts which includes developing assumptions related to: (i) estimation of amount and timing of future cash outflows and cash inflows and (ii) determining what future expenditures are committed and what could be considered discretionary. Management prepared the Company’s consolidated financial statements on a going concern basis in accordance with ASC 205-40, as management believes that the Company will be able to realize its assets and discharge its liabilities in the normal course of operations as they become due for a period of no less than 12 months from the date of issuance of these consolidated financial statements. Management continues to pursue our growth strategy and is evaluating our financing plans to continue to raise capital to finance the start-up of commercial operations and continue to fund our ongoing operations. We will require a significant amount of capital to fund our growth as we invest in the planned construction of our Infinite Loop™ manufacturing facility in Bécancour, Québec and our planned commercial facilities in Europe, Asia and Spartanburg, South Carolina, as well as additional research and development. In addition to our cash on hand, we may also raise additional capital through equity offerings or debt financings, government incentives, as well as through collaborations or strategic alliances to execute our growth strategy. Such financing will depend on many factors, including actual construction costs of the planned commercial facilities, potential delays in our supply chain, and our ability to secure customers, which may not be available on acceptable terms, if at all. If we are unable to raise additional capital when required, our business, financial condition and results of operations would be adversely affected. As the Company pursues its commercialization strategy and invests in the Bécancour, Québec project site and other projects, certain project site improvements and long lead capital commitments are being incurred and we expect to enter into additional commitments in the future, provided we obtain the required funding. In December 2021, the Company entered into an agreement for the purchase of long lead machinery and equipment in connection with the planned construction of our Infinite Loop™ manufacturing facility in Bécancour, Québec for up to $8.55 million over the next 9 months, based on certain milestones subject to various terms and conditions, including securing financing for our Infinite Loop™ manufacturing facility in Bécancour, Québec. Pursuant to the agreement, the Company has paid a cash deposit of $2.14 million. As part of our strategic partnership with SKGC, SKGC purchased 4,714,813 new treasury common shares of Loop at a price of $12 per share, for total consideration of $56.5 million. The strategic equity investment closed on July 29, 2021. SKGC was also granted warrants to acquire an additional 461,298 common shares at $11 per share within the next 12 months, 4,714,813 common shares at a price of $15 per share, within the next 3 years, and a further 2,357,407 shares at $20 per share, conditional upon the timing of construction of the first Asian manufacturing facility. We have a long-term debt obligation to Investissement Québec in connection with a financing facility for the expansion of the Terrebonne Facility up to a maximum of $3.62 million (CDN$4.60 million). We received the first disbursement in the amount of $1.74 million (CDN$2.21 million) on February 21, 2020 and the second disbursement in the amount of $1.88 million (CDN$2.39 million) on August 26, 2021. There is a 36-month moratorium on both capital and interest repayments as of the first disbursement date. At the end of the 36-month moratorium, capital and interest will be repayable in 84 monthly installments. The loan bears interest at 2.36%. We have also agreed to issue to Investissement Québec warrants to purchase shares of our common stock in an amount equal to 10% of each disbursement up to a maximum aggregate amount of $0.36 million (CDN$0.46 million). The warrants were issued at a price per share equal to the higher of (i) $11.00 per share and (ii) the ten-day weighted average closing price of Loop Industries shares of common stock on the Nasdaq stock market for the 10 days prior to the issue of the warrants. The warrants can be exercised immediately upon grant and have a term of three years from the date of issuance. The loan can be repaid at any time by us without penalty. On February 21, 2020, upon the receipt of the first disbursement under this facility, we issued a warrant to purchase 15,153 shares of common stock at a price of $11.00 to Investissement Québec. On August 26, 2021, upon the receipt of the second disbursement under this facility, we issued a warrant to purchase 17,180 shares of common stock at a price of $11.00 to Investissement Québec. There is no remaining amount available under the financing facility after the second disbursement. From time to time, we may engage in exchange rate hedging activities in an effort to mitigate the impact of exchange rate fluctuations. As part of our risk management program, we may enter into foreign exchange forward contracts to lock in the exchange rates for future foreign currency transactions, which is intended to reduce the variability of our operating costs and future cash flows denominated in currencies that differs from our functional currencies. We do not enter into these contracts for trading purposes or speculation, and our management believes all such contracts are entered into as hedges of underlying transactions. 31 Table of Contents The following table summarizes the exchange rates used: February 28, 2022 February 28, 2021 Period end Canadian $: US Dollar exchange rate $ 0.79 $ 0.79 Average period Canadian $: US Dollar exchange rate $ 0.80 $ 0.76 Expenditures are translated at the average exchange rate for the period presented. Flow of Funds Summary of Cash Flows A summary of cash flows for the years ended February 28, 2022, and February 28, 2021 was as follows: February 28, 2022 February 28, 2021 Net cash used in operating activities $ (42,984,946 ) $ (22,490,636 ) Net cash used in investing activities (5,110,802 ) (2,977,364 ) Net cash provided by financing activities 56,994,801 26,598,668 Effect of exchange rate changes on cash (59,577 ) 373,612 Net change in cash $ 8,839,476 $ 1,504,280 Net Cash Used in Operating Activities During the year ended February 28, 2022, we used $42.98 million in operations compared to $22.49 million during the year ended February 28, 2021. The increase over each year is mainly due to increased operating expenses as we move forward on our commercialization plan and to complete the upgrade of the Terrebonne Facility. As discussed above in the Results of Operations, the main increases in expenses were machinery and equipment, employee compensation, engineering fees and insurance. Net Cash Used in Investing Activities During the year ended February 28, 2022, we used $5.11 million in investing activities. We made investments of $4.82 million in property, plant and equipment as compared to $1.74 million for the year ended February 28, 2021, primarily in connection with the purchase for $4.80 million of a parcel of Land in Bécancour, Québec for the construction of our first Infinite Loop™ manufacturing facility. The size of this parcel of land exceeds that needed for the construction of the Infinite Loop™ manufacturing facility and a portion of the land is therefore available for sale. For additional information on the land held for sale, please refer to Note 5 of the attached condensed consolidated financial statements. We also invested $0.29 million in our intellectual property as we developed, during the year ended February 28, 2022, our GEN II technology and filed various patents in various jurisdictions around the world which await approval. During the year ended February 28, 2021, we used $2.98 million in investing activities. We made capital asset investments of $1.74 million of which was mainly attributable to the expansion and additions to the Terrebonne Facility and executive offices. We also invested $0.59 million in our intellectual property as we developed, during the year ended February 28, 2021, our GEN II technology and filed various patents in various jurisdictions around the world which await approval. During the year ended February 28, 2021 we made capital contributions to our joint venture with Indorama for a total of $0.65 million. 32 Table of Contents Net Cash Provided by Financing Activities During the year ended February 28, 2022, we raised $56.5 million through a private offering of common stock, together with warrants, in the net amount of $56.05 million. We also repaid the remaining balance of a term loan from a Canadian bank in January 2022 included in payments made against our long-term debt totaling $0.94 million. On August 26, 2021, we received $1.87 million (CDN$2.40 million) in connection with the credit facility from Investissement Québec to finance capital expenses incurred for the expansion of the Terrebonne Facility. There is a moratorium on both capital and interest repayments until February 2023. During the year ended February 28, 2021, we raised $26.65 million through a registered direct offering of common stock, in the net amount of $25.00 million and through warrants exercised for $1.65 million. We also made payments totaling $0.05 million against our long-term debt, representing the loan agreement we entered into during the year ended February 28, 2018 to purchase the land and building of our Terrebonne Facility and executive offices. OUTLOOK In connection with the upcoming fiscal year ending February 28, 2023, we intend to continue to execute our corporate strategy. We believe we must execute on several areas of our operational strategic plan, namely: · Securing financing to fund our operations, including our planned commercial projects and continued growth; · Protecting our intellectual property; · Continuing to drive the commercialization of our Infinite Loop™ solution, which we believe is a key pillar of our ambition to sell our technology to potential commercial partners; · Working with our external engineering partners in their process design for the Québec and European and Asian project evaluations; · Executing on the project plan for the planned Québec Infinite Loop™ commercial facility; · Continuing to identify and secure feedstock to ensure our current Terrebonne Facility and potential commercial facilities can operate continuously and efficiently; · Continuing to execute brand and other partnerships and/or commercial agreements with customers and secure multi-year offtake agreements for the planned commercial facilities; · Identifying and evaluating financial options and incentives including various forms of debt, equity, strategic partnership, incentive and financing programs supported by, or in partnership with, governments to fund the commercial projects; · Identifying and pursuing additional strategic partners and regions for new Infinite Loop™ projects; and · Advance planning of our joint venture with Indorama for the planned Spartanburg facility. Risks that may affect our ability to execute on this strategy include, but are not limited to, those listed under “Risk Factors” elsewhere in this Annual Report. CRITICAL ACCOUNTING ESTIMATES The preparation of financial statements in conformity with US GAAP requires management to use its judgment to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reporting period. Actual results could differ from those estimates. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management’s judgments and estimates. 33 Table of Contents Liquidity Assessment From inception to February 28, 2022, the Company has been in the development stage with no revenues, with its ongoing operations and commercialization plans financed primarily by raising equity. The Company has incurred net losses and negative cash flow from operating activities since its inception and expects to incur additional net losses while it continues to develop and plan for commercialization. As at February 28, 2022, the Company has cash and cash equivalents of $44.06 million. Management actively monitors the Company’s cash resources against the Company’s short-term cash commitments to ensure the Company has sufficient liquidity to fund its costs for at least twelve months from the financial statement issuance date. Management evaluates the Company’s liquidity to determine if there is substantial doubt about the Company’s ability to continue as a going concern. In preparing this liquidity assessment, management applies significant judgment in estimating future cash flow requirements of the Company based on budgets and forecasts, which includes developing assumptions related to: (i) estimation of amount and timing of future cash outflows and cash inflows and (ii) determining what future expenditures are committed and what could be considered discretionary. Based on this assessment, management believes that the Company will be able to realize its assets and discharge its liabilities in the normal course of operations as they become due for a period of no less than the next 12 months from the date of issuance of the annual consolidated financial statements. Stock-Based Compensation The Company periodically issues stock options, warrants and restricted stock units to employees and non-employees in non-capital raising transactions for services and financing expenses. The Company accounts for stock options granted to employees based on the authoritative guidance provided by the FASB wherein the fair value of the award is measured on the grant date and recognized as compensation expense on the straight-line basis over the vesting period. When performance conditions exist, the Company recognizes compensation expense when it becomes probable that the performance condition will be met. Forfeitures on share-based payments are accounted for by recognizing forfeitures as they occur. The Company accounts for stock options and warrants granted to non-employees in accordance with the authoritative guidance of the FASB wherein the fair value of the stock compensation is based upon the measurement date determined as the earlier of the date at which either a) a commitment is reached with the counterparty for performance or b) the counterparty completes its performance. The Company estimates the fair value of restricted stock unit awards to employees and directors based on the closing market price of its common stock on the date of grant. The fair value of the stock options granted is estimated using the Black-Scholes-Merton Option Pricing (“Black-Scholes”) model, which uses certain assumptions related to risk-free interest rates, expected volatility, expected life of the stock options, and future dividends. Stock-based compensation expense is recorded based on the value derived from the Black-Scholes model and on actual experience. The assumptions used in the Black-Scholes model could materially affect stock-based compensation expenses recorded in the current and future periods. Research and development expenses Research and development expenses relate primarily to process development and design, testing of preproduction samples, purchases of machinery and equipment for the Terrebonne Facility, compensation, and consulting and engineering fees, and are expensed as incurred. See Notes to the consolidated financial statements included elsewhere in this Form 10-K for management’s discussion of recently issued accounting pronouncements. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Pursuant to SEC Release No. 33-8876, we are permitted to use the scaled disclosure requirements applicable to a “smaller reporting company,” as defined in Rule 12b-2 of the Exchange Act, and therefore, we are not required to provide the information called for by this Item. 34 Table of Contents