UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





FORM 10-K





þ  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934





For the fiscal year ended February 28, 2014





 ̈  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934





For the transition period from ________ to ___________





Commission File No. 000-53130





U-Swirl, Inc.


(Exact name of registrant as specified in its charter)





Nevada
43-2092180(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)





1175 American Pacific, Suite C, Henderson, Nevada
89074(Address of principal executive offices)
(Zip Code)





Registrant’s telephone number, including area code: (702) 586-8700





Securities registered pursuant to Section 12(b) of the Act:
NoneSecurities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.001 par value





Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ̈ Yesþ No





Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.   ̈ Yesþ No





Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.þYes ̈No




Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  þYes ̈No





Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   ̈











Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.





Large accelerated filer  ̈
Accelerated filer  ̈Non-accelerated filer  ̈
Smaller reporting company þ





Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).   ̈YesþNo





State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter:  $10,659,138 as of August 31, 2013





Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date:  17,815,484 shares of common stock as of May 31, 2014








SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS





We make forward-looking statements in this annual report that are subject to risks and uncertainties.  These forward-looking statements include information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives.  In some cases, you may identify forward-looking statements by words such as “may,” “should,” “plan,” “intend,” “potential,” “continue,” “believe,” “expect,” “predict,” “anticipate” and “estimate,” the negative of these words or other comparable words.  These statements are only predictions.  You should not place undue reliance on these forward-looking statements.  The forward-looking statements are qualified by their terms and/or important factors, many of which are outside our control, and involve a number of risks, uncertainties and other factors that could cause actual results and events to differ materially from the statements made.  The forward-looking statements are based on our beliefs, assumptions and expectations of our future performance, taking into account information currently available to us.  These beliefs, assumptions and expectations can change as a result of many possible events or factors, not all of which are known to us.  Neither we nor any other person assumes responsibility for the accuracy or completeness of these statements.  We assume no duty to update or revise our forward-looking statements based on changes in internal estimates or expectations or otherwise.  If a change occurs, our business, financial condition, liquidity and results of operations may vary materially from those expressed in our forward-looking statements.







2




U-SWIRL, INC.





FORM 10-K


FOR THE FISCAL YEAR


ENDED FEBRUARY 28, 2014





INDEX








PagePART IItem 1.
Business
4Item 1A.
Risk Factors
13Item 1B.
Unresolved Staff Comments
13Item 2.
Properties
13Item 3.
Legal Proceedings
13Item 4.
Mine Safety Disclosures
13PART IIItem 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
14Item 6.
Selected Financial Data
14Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
15Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
23Item 8.
Financial Statements and Supplementary Data
23Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
50Item 9A.
Controls and Procedures
50Item 9B.
Other Information
52PART IIIItem 10.
Directors, Executive Officers and Corporate Governance
52Item 11.
Executive Compensation
55Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
60Item 13.
Certain Relationships and Related Transactions, and Director Independence
61Item 14.
Principal Accounting Fees and Services
63PART IVItem 15
Exhibits, Financial Statement Schedules
64SIGNATURES




3




PART I





Item 1.
Business





We are in the business of offering consumers frozen desserts such as yogurt and sorbet.  We launched a national chain of self-serve frozen yogurt cafés called U-Swirl Frozen Yogurt and are franchising this concept.  We have built and operate cafés owned and operated by the Company (“company-owned”) and franchise to others the right to own and operate U-Swirl cafés.





U-Swirl allows guests a broad choice in frozen yogurt by providing up to 20 non-fat and low-fat flavors, including tart, traditional and no sugar-added options and up to 70 toppings, including seasonal fresh fruit, sauces, candy and granola.  Guests serve themselves and pay by the ounce instead of by the cup size.  Similar to a coffee shop hangout, locations are furnished with couches and tables and patio seating.





We acquired the U-Swirl Frozen Yogurt concept in September 2008 from U Create Enterprises (formerly U-Swirl Yogurt, Inc.), which is owned by the grandchildren and family of Henry E. Cartwright, our former President, in consideration for 100,000 restricted shares of our common stock.  U Create Enterprises continues to operate its frozen yogurt café in Henderson, Nevada, as our franchisee.  No franchise fees or royalties are charged with respect to this location, as U Create Enterprises permits us to use the location as a training facility.





We opened our first company-owned U-Swirl location in Las Vegas, Nevada, in March 2009 and entered into our first franchise agreement in July 2009 and our first area development agreement for multiple locations in November 2009.  As of December 31, 2012, we owned and operated six U-Swirl Frozen Yogurt cafés in the Las Vegas metropolitan area, and had 24 franchised locations in operation across the country.





In January 2013, we entered into agreements to acquire Aspen Leaf Yogurt (“ALY”) café assets, consisting of leasehold improvements, property and equipment, for six Aspen Leaf Yogurt cafés and the franchise rights to ALY and Yogurtini self-serve frozen yogurt chains from Rocky Mountain Chocolate Factory, Inc. (“RMCF”) in exchange for a 60% controlling ownership interest in our company, a warrant that allows RMCF to maintain its pro rata ownership interest if existing stock options and/or warrants are exercised, and promissory notes in the aggregate amount of $900,000 (the “RMCF Transaction”).





In March 2013, we opened two additional cafés in Reno, Nevada which were previously owned and operated by a U-Swirl franchisee.  In July 2013, we transferred the two company-owned Reno cafés to an existing franchisee from New Mexico and executed a new area development agreement covering all three cafés operated by this franchisee.





In October 2013, we acquired the assets of the Josie’s Self-Serve Frozen Yogurt system (“Josie’s”) from OnLincoln, LLC and Josie’s of Nevada, LLC.  There are currently eleven Josie’s cafésin operation.





In January 2014, we acquired the business assets of two operators and franchisors of self-serve frozen yogurt cafés, CherryBerry Enterprises, LLC (“CherryBerry”) and Yogli Mogli, LLC (“Yogli Mogli”), thereby adding 182 cafés.  CherryBerry and certain affiliates were acquired for approximately $4.25 million in cash and 4,000,000 shares of our common stock.  Yogli Mogli was acquired for $2.15 million in cash and 277,778 shares of our common stock.  We also acquired the business assets of another operator and franchisor of self-serve frozen yogurt cafés, Fuzzy Peach Franchising, LLC, in February 2014, thereby adding 17 cafés.  We paid $481,000 at closing, plus an earnout, based upon royalty income generated by Fuzzy Peach cafés over the next twelve months, that could increase the purchase price by up to another $349,000.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of our assets.




4




The following table provides summary detail regarding our locations as of February 28, 2014, 13 of which were company-owned:




State/Province/

Foreign Country
Number of locationsU-Swirl
Aspen

Leaf
Yogurtini
Josie’s
CherryBerry
Yogli

Mogli
Fuzzy

Peach
TotalArizona
5

5
2



12Arkansas




3


3California
1






1Colorado

4
3

1


8Connecticut




5


5Florida


2

2


4Georgia


1

2
21

24Idaho
3
2





5Illinois

1


7
2

10Indiana



1
2


3Iowa

1


11


12Kansas


2

4


6Kentucky




1
1

2Michigan




1


1Minnesota




33


33Mississippi
2






2Missouri

1
8

3


12Montana
2



2


4Nebraska


1

4


5Nevada
9


2



11New Jersey


1




1New Mexico
2
1


1


4New York


1




1North Carolina




4

14
18North Dakota




9


9Ohio
1


1
1


3Oklahoma




17


17Pennsylvania
1




1

2South Carolina


1
1


2
4South Dakota




9


9Tennessee
2




1

3Texas
5
1

2
6

1
15Utah
2



5


7Virginia


2
1



3Washington
1

1




2Wisconsin




19


19Wyoming




1


1Canada




2


2Pakistan




1


1Turkey




1


1Total
36
11
28
10
157
26
17
285





We are currently maintaining all seven franchise systems and providing marketing and franchise support to all existing U-Swirl, ALY, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach franchisees.  We are in the process of nurturing our relationship with each of our franchisees, studying each franchise system in order to identify the best practices from each, and integrating these best practices into a single system which will be implemented in the future.




5




We have already been able to secure price reductions from various vendors as well as increase support for the franchisees that were under-performing.  Going forward we see value in one cohesive brand and will work to that end.  Currently we have decided to renew franchise disclosure documents of U-Swirl, Yogurtini, and CherryBerry for expansion of new locations.  We do, however, expect to open cafés of acquired brands already under franchise agreement, but not yet opened under those acquired brands.





Pursuant to the terms of acquisition, the former owners of Yogurtini and Fuzzy Peach have the right to earn additional compensation based on a formula of total royalty income generated from their respective locations open for more than a year that exceeds a specific threshold.  This provides the former owners with a financial incentive to sell and open additional locations.  While the number of Yogurtini and Fuzzy Peach branded locations may increase as a result, we intend to incentivize all prospective franchisees from any brand to open as U-Swirl branded frozen yogurt café. The former owners of Yogurtini were paid $472,398 as additional compensation under this arrangement for the fiscal year ended February 28, 2014.




Our long-term strategy is to expand the operation to critical mass and then operate as one brand.    The incentives we put in place are both economic incentives for franchisees as well as offering the opportunity to co-brand with Rocky Mountain Chocolate Factory.  This co-branding will be available only with brands in the U-Swirl franchise system.




In March 2014, our wholly-owned subsidiary, Moxie Consumer Products, LLC, a Nevada limited liability company (“Moxie”), acquired the business assets of Moxie USA, LLC, which distributed beverage and gummies products, for an earnout of up to a total of 250,000 shares of our common stock (the “Moxie Acquisition”).  Moxie currently distributes beverage and gummies products in 15 states.  Our goal is to utilize Moxie Consumer Products as a more efficient way to provide complementary products such as beverages and gummies, which are sold as toppings, to franchisees as well as other retail clients.




Industry Background





We believe that U-Swirl offers two distinct market opportunities.  The first opportunity lies with the increasing awareness among consumers of the connection between diet and good health, as evidenced by the current focus on childhood obesity by Michelle Obama and recent initiatives to improve school lunch programs.  We believe that as a result, demand for high-quality healthy foods, in particular healthy fast foods, is increasing and that our U-Swirl cafés will be able to take advantage of this growing demand for healthy food by focusing on foods with lower-fat, higher nutritional content and wholesome, natural food ingredients.  The second opportunity lies with the demographic more interested in an indulgent experience, which may be provided by U-Swirl and/or all its brands through co-branding with RMCF.





We believe that women and children/young adults comprise our targeted market based upon the observations of the staff in our U-Swirl cafés.





Competition





We believe that each of the following self-serve frozen yogurt chains provides direct competition to U-Swirl:


·
TCBY – approximately 470 locations in the United States, now offering self-serve franchises




·
Menchie’s – approximately 230 locations in the United States, Canada, Puerto Rico, Trinidad & Tobago, England, France, South Africa, Jordan, Kuwait, Bahrain, United Arab Emirates, Qatar, India, China, Japan and Australia




·
Orange Leaf Frozen Yogurt– approximately 230 locations in the United States and Australia




6




·
Yogurtland– over 200 locations in the United States, Guam, Mexico, Venezuela and Australia




·
Sweet Frog – over 300 locations in the United States and abroad.




Several of these competitors have significant competitive advantages over the Company in terms of operating histories, number of locations in operation, number of franchisees and area developers, capital and human and other resources.  There are also numerous retail outlets offering self-serve frozen yogurt that are independently owned and operated.  We compete not only for customers, but also for management and hourly personnel, suitable real estate sites, investment capital and qualified franchisees.  We also compete against frozen yogurt retailers that are not self-serve models.





Further, the food service/restaurant industry is often affected by changes in consumer tastes; national, regional or local economic conditions; currency fluctuations; demographic trends; traffic patterns; the type, number and location of competing food retailers and products; and disposable purchasing power.  Accordingly, there can be no assurances that the Company can successfully compete at a level to achieve our goals.





We have designed U-Swirl cafés to be distinguishable from other frozen yogurt retail outlets and attractive to customers by offering the following:




·
inside café-style seating for 50 people and outside patio seating, where feasible and appropriate;




·
spacious surroundings of 1,800 to 3,000 square feet;




·
16 to 20 flavors of frozen yogurt;




·
up to 70 toppings;




·
self-serve format allowing guests to create their own favorite snack; and




·
co-branding opportunities with RMCF.





Management believes that these characteristics may provide us with the ability to compete successfully in this industry.  While we continue to pursue locations described above we recognize that our acquisition strategy may lead us to purchase competitors with diverse layouts.





The trade dress of the Aspen Leaf, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach locations are similar to that of U-Swirl, although their locations use different color schemes and are typically smaller than the U-Swirl cafés.





Growth Strategy / Acquisition Strategy





Our growth strategy is to maximize our market share and market penetration through the acquisition of additional self-serve yogurt systems, as well as the acquisition of complementary businesses which may provide economies of scale and vertical integration. Although we believe there are still many geographic opportunities for growth, we feel the self-serve frozen yogurt market has reached a saturation point.  In many parts of the country the consolidation of the industry has begun.  We believe this consolidation can prove beneficial to us in a number of ways, and we will concentrate a significant amount of our efforts towards the acquisition of additional franchisors of self-serve frozen yogurt.  In addition to the acquisition of self-serve frozen yogurt franchisors we see benefits in complementary businesses which provide us with the opportunity for vertical integration, such as the Moxie Acquisition.  Those opportunities lie in owning specific products which may be sold in our cafés, as well as securing proprietary technology for use by franchisees.  We see this as a possibility of adding new revenue streams while expanding into other markets in an efficient and lower risk model.




7




We also intend to grow organically by expanding the number of locations under construction through continued development of the growing franchise base.  We intend to incentivize through co-branding with proprietary concepts, and capitalize on synergistic opportunities for joint-venture cafés.  We intend to leverage the RMCF relationship, utilizing its experience in logistics, franchising, and international markets to expand market share.   We intend to pursue relationships for non-traditional locations through the development of U-Swirl-n-Go.  We also intend to differentiate ourselves by launching our e-commerce gift card site, ecarddeal.com, for the purpose of reaching loyal customers on their mobile devices and before they make a decision on where to purchase frozen yogurt.  Based on an analysis of population statistics, we believe that an estimated 3,000 U-Swirl franchised cafés could be operated in the United States and abroad.  These estimates are based on a variety of factors including total population, population density, drive-time and other factors related to consumer convenience, consumer demand, local market competition and other relevant factors.  In addition, we believe that foreign markets represent expansion opportunities as well.





There can be no assurances that we can or will be able to successfully develop and operate the estimated 3,000 potential cafés in the United States.  Similarly, other risk factors identified herein could adversely impact our ability to fully develop the forecasted market opportunity.





Franchise Marketing





Initially, our marketing strategy for establishing multi-unit franchises was to contact individuals or entities that had previously developed franchises with our management team in other concepts.  We believed it was prudent to leverage established relationships and to create new relationships with management teams with the proper knowledge, experience, and access to financial resources necessary to successfully develop and operate a U-Swirl franchise in a timely fashion.  Specifically, Henry Cartwright, our Chief Marketing Officer, has had significant experience in developing franchise concepts and has maintained current contact with former franchisees.  We believe that these contacts were useful in identifying qualified candidates to operate multi-unit franchises.





With 13 company-owned cafés and 272 franchised cafés in operation, we now identify qualified candidates through referrals from other franchisees, inquiries on our web site, as well as through two web portals for franchise leads, and customers of U-Swirl, Aspen Leaf, Yogurtini, Josie’s, CherryBerry and Yogli Mogli cafés.





We are seeking individuals or groups with the skills and financial strength to operate multi-unit franchise organizations within specific geographic territories.  We anticipate a franchise territory will consist of areas that are either cities or counties depending on population.





We will consider the skills and investment capital that each potential multiple franchise owner presents to determine the size and nature of the territory and the minimum number of U-Swirl locations that the franchise owner will be required to maintain in the territory in order keep the exclusive rights to that territory.  We consider the appropriate number of locations in an area to be one café per 100,000 people and then set the minimum number of locations at half the amount.  For example, a negotiated territory with a population of 2,000,000 should support 20 U-Swirl cafés and a franchisee of that territory would be required to open a minimum of 10 cafés over 5 years to maintain exclusivity.  Franchisees will not be restricted from opening additional cafés beyond the minimum for their territory.





After April 30, 2013, Yogurtini discontinued offering area developments and only offers single franchise units.





Area Development Agreements





We have elected to pursue a development strategy focused, where appropriate, on the execution of area development agreements (“ADAs”) with qualified area developers that possess, or have the ability to secure in a timely manner, the experience, knowledge and abilities, established market knowledge and relationships, capital resources, and the skills necessary to develop multiple locations in a market.  Prior to the execution of an ADA, we determine the minimum number of cafés that must be developed within a territory.  A territory will consist of one or more metropolitan or micropolitan1 statistical areas.  A standard form ADA generally provides for the following:




8




·
Term:  Until the end of the development schedule, generally 15 years;




·
Development Exclusivity:  The ADA provides for limited and conditional development exclusivity for the area covered by the ADA.  The exclusivity does not apply to:


·
Non-traditional café types (such as shopping mall food court or airport locations), or


·
Cafés acquired by the Company pursuant to a merger or acquisition;




·
Minimum Development Required:  A standard form ADA requires the area developer to develop a pre-determined number of locations within the territory on an annual basis for each year during the term of the ADA; and




·
Rights of Renewal:  The ADA may be renewed if the area developer has not committed a material breach of the ADA or an underlying franchise agreement.





Our requirements for qualified area developers will result in fewer franchisees in our system but we believe that the area developer will generally be able to create more value for the U-Swirl network by implementing more comprehensive, responsive and competitive development, operations and marketing strategy and programs.





Franchise Development and Operations





The estimated initial investment for a U-Swirl franchise is $360,000 to $465,000, exclusive of real estate costs.  Franchisees pay an initial franchise fee of $25,000 for a single unit.  Area developers pay a development fee of $25,000, which includes the initial franchise fee for the first café, plus $5,000 for each additional café constituting the minimum number of units for an area development agreement.  The minimum number is that number of cafés we determine should be opened in the development area.  The development fee of $25,000 is applied to the initial franchise fee to be developed under the agreement and for each successive café the franchise fee is $15,000.  The development fee is not refundable.





Our existing U-Swirl franchisees pay a royalty ranging from 2% to 5% based on net sales.  We have increased the royalty to 5% for new franchisees to our U-Swirl system.  To date we have sold one area development agreement with the royalty at 5% and intend to keep that rate for the foreseeable future.  The acquired brands are charging the following royalties in their existing franchise and/or license agreements, which we will honor: Yogurtini – 5%, ALY – 4%, Josie’s – 3% to 6%, CherryBerry – 2.5% to 6%, Yogli Mogli - 6%, and Fuzzy Peach - 6%.  We intend to raise the franchise royalty rate to 6% for all brands upon renewal of the franchise disclosure document, which should be June 30, 2014.





The CherryBerry frozen yogurt franchise system offers the opportunity for franchisees to become development agents whereby they can sell franchises and service franchisees within their designated territory for a percentage of the initial fee, usually 50% of the total franchise fee, and a percentage of the monthly royalty fee, usually 33% of the total royalty fee charged.  We intend to honor the development agent contracts and offer the ability to continue to expand under the development agent model.





U-Swirl franchisees pay a 1% marketing fee based on net sales to support national and regional advertising efforts.  We also require franchisees to dedicate at least 1% of net sales to local advertising.  We intend to maintain these terms until we have determined the best course of action.  We expect that determination will come once we can better gauge the integration of the existing systems as well as others that may be acquired in the future.




1As defined by theUnited States Census Bureau, a micropolitan area is the area (usually acountyor grouping of counties) surrounding and including a core city with population between 10,000 and 49,999 (inclusive). Suburbs ofmetropolitan areasare generally not considered to be micropolitan core cities, although they can be if they are in another county from the metropolitan core.


9




Under the U-Swirl system, each café must conform to a standard of interior design, featuring a distinctive and comfortable décor.  The minimum size for a typical U-Swirl café is 1,800 square feet, but cafés in malls, kiosks or other unique locations may be smaller.  Under the terms of the franchise agreement, franchisees are required to obtain our approval of the café site, build out the space in accordance with our standards, satisfactorily complete training, and purchase certain equipment and supplies from us or our approved suppliers.  Franchisees are also required to purchase a point-of-sale system that meets U-Swirl system standards and to establish and maintain high-speed Internet access from a service provider meeting the minimum specifications established by us.  All goods sold by our franchisees must be purchased through us or through our approved suppliers that have met our specifications and standards.  Specifically, the yogurt sold in U-Swirl cafés must meet the criteria established by the National Yogurt Association for live and active culture yogurt.





Currently, all of the frozen yogurt served in our cafés is purchased from YoCream International, Inc. (also known as Dannon YoCream) and/or Honey Hill Farms, Inc.  U-Swirl will use its commercial best efforts to switch all franchisees to the YoCream International, Inc. product.  Currently, all of the frozen yogurt dispensing equipment is purchased from Taylor Company and/or Stoelting Food Service Equipment Company.  We source toppings and supplies from local area distributors.  We believe that all of these items are readily available from other sources.





Each U-Swirl franchise agreement has a 15-year term and may be renewed for up to two additional 15-year terms.  There may be circumstances in other brands when terms may differ from a 15-year term.  Transfers by the franchisees are permitted with our approval, but we have a first right of refusal to purchase the franchise business.  Upon termination of the franchise agreement, we have the option to purchase the assets used in the franchise business at fair market value.





U-Swirl-n-Go





We also intend to offer franchises for a limited-product store (a “U-Swirl-n-Go Store”) within a non-traditional location, such as a convenience store, airport, or hotel.  U-Swirl-n-Go Stores will typically offer two to six flavors of self-service yogurt, with customers filing containers with as much of one or more flavors as desired, selecting from over 40 toppings, and then paying by the ounce for the yogurt and toppings or a flat fee, as determined by the franchisee.  U-Swirl-n-Go Stores will typically occupy 50 square feet or less within the non-traditional location, and with no dedicated seating.





The total investment necessary to begin operation of a U-Swirl-n-Go Store franchise without an area development agreement is from $71,000 to $115,000.  This amount includes $20,000 that must be paid as the initial franchise fee.  Instead of a royalty based on a percentage of net sales, the royalty for a U-Swirl-n-Go Store will be $10,000 per year if paid in a lump sum in advance or $1,000 per month.  Instead of paying 1% of net sales to support national and regional advertising efforts, franchisees of U-Swirl-n-Go Stores will pay up to $150 per month. The first U-Swirl-n-Go location in the University of Nevada – Reno Student Union should open in the summer of 2014.  Due to the lack of experience and history in this segment of the industry, all terms of agreement are subject to change based on market conditions.





Ecarddeal.com





Ecarddeal.com will be used to sell gift cards for all the brands.   We intend to offer discounted gift card deals from time to time to existing customers.





Market Development





We launched the U-Swirl concept by focusing our development efforts on company-owned cafés in the Las Vegas metropolitan statistical area.  We believed that by developing our local area, we would then be able to better monitor café level operations and the effectiveness of various marketing and advertising programs, and market to persons who want to develop multi-unit areas.




10




We are currently engaged in developing additional market development plans.  These plans will be used to develop franchise-owned locations, and grow by acquisition.  We are currently reviewing additional markets and will prioritize these markets based on a variety of factors including maximizing distribution channel and management efficiencies, executing area development agreements and other factors.





We launched our new market development initiatives in October 2009 with the expansion of our management team that included professionals experienced in the development of restaurant and retail concepts on a national level.  While these professionals are no longer with us, we continue to utilize comprehensive data gathering and analysis, incorporating consumer demographic densities and characteristics, psychographic data, traffic counts and flow, short-term and long-term market development trends, proximity to community points-of-interest, local competitors and site availability. The recent transaction with RMCF provides us access to 30 years of experience in the retail dessert franchise business.   We intend to leverage their experience in retail store marketing, franchise support, logistics, and overall knowledge of the business to expand in to new markets and specifically in identifying new locations within a particular market.  Once we identify available sites that meet or exceed our criteria, we apply another round of scrutiny.  These criteria include, but are not limited to, site visibility, ingress and egress, size, location within a shopping center, tenant mix and rent factors.





Personnel Development





We believe that a critical factor in the successful development and operation of each U-Swirl café is the development of café personnel.  To meet this need, we have developed a comprehensive U-Swirl training program that all café personnel are required to complete. The training requirement applies to all U-Swirl cafés including company-owned, franchise-owned and licensed U-Swirl cafés.  The training program addresses all key areas of café operations





In addition to its café personnel, we require that all non-café employees successfully complete the U-Swirl training program.  This ensures that all non-café personnel that support our café operations are fully aware of issues relating to successful retail operations and maximizing customer satisfaction.  ALY, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach implement similar training programs for operations of their respective systems.  We have begun the process of comparison for best practice implementation.





Franchise support development will be the key personnel development strategy as the company intends to elevate the level of support for franchisees in the areas of store operations, store marketing initiatives, field support and visitation, development and understanding of profit and loss statements at the store level.





Point-of-Sale System





The Company utilizes a point-of-sale (POS) system which provides a vast array of reports that tracks key metrics and performance measures.  The Company’s café managers and management team utilize the data to measure and monitor café performance and effectiveness of advertising and promotion programs.  The Company continues to refine its reporting package to ensure timely and accurate reporting and trend analysis that is used to accomplish various objectives to maximize profitability, for each café and in the aggregate, including:




·
Developing and implementing cost-effective new customer acquisition and customer loyalty programs;




·
Achieving and maintaining target cost of sales and labor costs and gross margins;




·
Incorporating café performance analytics with other relevant factors to refine criteria to provide predictive indicators for purposes of site selection for future cafés; and




·
Forecasting future performance.




11





In addition to the U-Swirl POS system, we now have both corporate stores and franchise stores with other POS systems, namely R-Power, Lionwise, and Micros POS system.  They will all continue to be part of our operations for the foreseeable future; however, our goal is to identify and create, if necessary, a cohesive, scalable system for the long-term future.  We have engaged RMCF for support services related to information technology and financial reporting services.  RMCF will provide integration of POS data to legible sales reports for management use.  RMCF will utilize reports to execute daily financial reporting services for U-Swirl, including accounts receivable and accounts payable.  Beginning April 1, 2014, RMCF began charging us $2,000 for the first month, $3,000 for the second month, $4,000 for the third month, and $5,500 for each month thereafter for as long as the services are provided.





Key data tracked and analyzed includes, but is not limited to:




·
Product sales and sales mix;




·
Customer and transaction counts; and




·
Employee labor hours.





Trademarks and Copyrights





In connection with our frozen yogurt café operations, the following marks are owned by us and have been registered with the U.S. Patent and Trademark Office:





·
“u-swirl FROZEN YOGURT and Design”;


·
“U-SWIRL FROZEN YOGURT”


·
“U-SWIRL”;


·
“U and Design”;


·
“WORTH THE WEIGHT”;


·
“FREQUENT SWIRLER”;


·
“YOGURTINI”;


·
“SERVE YO SELF”;


·
“BEST ON THE PLANET”;


·
“CHERRYBERRY self-serve yogurt bar”;


·
“YOGLI MOGLI”; and


·
“FUZZY PEACH”





The “U-SWIRL FROZEN YOGURT and Design” (a logo) is also registered in Mexico and we have a pending application for registration of “U-SWIRL” in Canada.





We are licensed to use the mark “ASPEN LEAF” and will be granted a license to use the registered marks owned by RMCF in co-branded cafés.





We have a pending application for registration of “U-SWIRL-N-GO” with the U.S. Patent and Trademark Office.





Government Regulation





We are subject to various federal, state and local laws affecting our business.  Our cafés must comply with licensing and regulation by a number of governmental authorities, which include health, sanitation, safety and fire agencies in the state or municipality in which the café is located.  Moreover, federal Food and Drug Administration regulations require yogurt to have two types of bacteria, lactobacillus bulgaricus and streptococcus thermophilus.  There are no federal standards for any kind of frozen yogurt, although some have been proposed.  A majority of the states have adopted standards that are either specific to frozen yogurt or cover frozen desserts generally.  These standards address some or all of the following:  milkfat content, milk solid content, acidity, bacteria count and content and weight.




12




We are also subject to federal and state laws governing employment and pay practices, overtime, tip credits and working conditions.  The bulk of our employees are paid on an hourly basis at rates related to the federal and state minimum wages.  Additionally, we are subject to federal and state child labor laws which, among other things, prohibit the use of certain “hazardous equipment” by employees 18 years of age or younger.  Under the Americans with Disabilities Act, we could be required to expend funds to modify our cafés to better provide service to, or make reasonable accommodation for the employment of disabled persons.  We continue to monitor our facilities for compliance with the Americans with Disabilities Act in order to conform to its requirements.  We believe future expenditures for such compliance would not have a material adverse effect on our operations.





The franchises that we offer are subject to federal and state laws pertaining to franchising.  These laws require that certain information be provided to franchise prospects at certain times and regulate what can be said and done during the offering process.  Some states require the FDD to be registered and renewed on an annual basis.





Employees





Our company-owned cafés have approximately 40 full-time employees and 60 part-time employees that work various shifts.  The cafés are open seven days per week generally from 11:00 a.m. to late evening.  In addition to the employees at the cafés, we had 16 full-time employees as of May 8, 2014, consisting of our Chief Executive Officer, Chief Operating Officer, Chief Marketing Officer and personnel for each of the following functions: national operations, café operations, franchise development, finance, marketing and administration.  In addition, we had one part-time employee.





Item 1A.
Risk Factors





Not required for smaller reporting companies.





Item 1B.
Unresolved Staff Comments





Not required for smaller reporting companies.





Item 2.
Properties





Facilities





Our principal offices are located at 1175 American Pacific, Suite C, Henderson, Nevada 89074, in approximately 5,200 square feet of space leased for a term of five years expiring in July 2018.  We pay rent of approximately $2,800 per month.





The leases for our company-owned cafés range from approximately 400 to 3,000 square feet.  The leases are generally for five-year terms with options to extend.  We currently have 14 leases in place which range between $1,800 and $7,500 per month, inclusive of common area maintenance charges and taxes.




Item 3.
Legal Proceedings





There are no legal proceedings pending or, to the best of our knowledge, contemplated or threatened that are deemed material to our business or us.





Item 4.
Mine Safety Disclosures





Not applicable.





13





PART II





Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities





Shares of our common stock are quoted on the OTC Markets - OTCQB under the symbol “SWRL.”





The following table sets forth the range of high and low bid quotations for our common stock for each fiscal quarter for the fiscal year ended December 31, 2012, the two-month period ended February 28, 2013, and the fiscal year ended February 28, 2014.  These quotations reflect inter-dealer prices quoted on the OTCQB without retail mark-up, markdown, or commissions and may not necessarily represent actual transactions.





Bid Prices ($)High
Low2012 Fiscal Year:March 31, 2012
$0.30
$0.10June 30, 2012
$0.35
$0.15September 30, 2012
$0.37
$0.17December 31, 2012
$0.28
$0.182013 Transition Period:February 28, 2013
$0.42
$0.202014 Fiscal Year:May 31, 2013
$0.42
$0.30August 31, 2013
$0.93
$0.33November 30, 2013
$1.38
$0.60February 28, 2014
$1.10
$0.62





On June 6, 2014, the closing price for the common stock on the OTCQB was $0.77 per share.





Holders and Dividends





As of May 31, 2014, there were 69 record holders of our common stock.  To date, we have not declared or paid any dividends on our common stock.  We do not intend to declare or pay any dividends on our common stock in the foreseeable future, but rather to retain any earnings to finance the growth of our business.  Any future determination to pay dividends will be at the discretion of our Board of Directors and will depend on our results of operations, financial condition, contractual and legal restrictions and other factors the Board of Directors deems relevant.





Recent Sales of Unregistered Securities





During the quarter ended February 28, 2014, we issued 12,500 shares of our common stock to a former director pursuant to the exercise of a stock option granted under our 2007 Stock Option Plan.  We relied upon the exemption from registration contained in Section 4(2) of the Securities Act, as this person was deemed to be sophisticated with respect to the investment in the securities due to his financial condition and involvement in our business and had access to the kind of information which registration would disclose.





Item 6.
Selected Financial Data





Not required for smaller reporting companies.





14





Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations





The following discussion should be read in conjunction with the financial statements and the related notes included in this annual report.  This discussion contains forward-looking statements that involve risks and uncertainties.  Our actual results could differ significantly from those projected in the forward-looking statements as a result of many factors, including those discussed in “Risk Factors,”  “Business” and elsewhere in this report.





History and Overview





We were incorporated under the laws of the state of Nevada on November 14, 2005 to own and operate EVOS fast food franchises as “Healthy Fast Food.”  We opened two EVOS locations, using the proceeds from private placements and from our initial public offering that was completed in March 2008.





After experiencing continued operating losses with our EVOS restaurants, we decided to diversify into another healthy fast food concept and acquired the worldwide rights to U-Swirl Frozen Yogurt (“U-Swirl”) on September 30, 2008.  We opened our first company-owned U-Swirl café in the Las Vegas MSA in March 2009, and we have since developed five more company-owned cafés in the Las Vegas MSA.  In addition, the original U-Swirl café in Henderson, Nevada, continues to operate as a franchisee.





We began marketing franchises in November 2008.  As of December 31, 2012, we had 24 franchised cafés and six company-owned cafés in operation in 10 different states.





Beginning in 2011, we recognized that (1) the frozen yogurt retail market was experiencing an influx of small chains; (2) if we could grow by acquisition, we could achieve profitability by attaining an economy of scale with respect to our operations; and (3) we could use our common stock, rather than cash, to make these acquisitions.  We entered into acquisition discussions with several frozen yogurt retail operators and our discussions culminated with the closing of the RMCF transaction in January 2013 in which we acquired six Aspen Leaf cafés and the franchise rights to Aspen Leaf Yogurt (“ALY”) and Yogurtini self-serve frozen yogurt chains from RMCF in exchange for a 60% controlling ownership interest in our company, promissory notes in the aggregate amount of $900,000, and a warrant that allows RMCF to maintain its pro rata ownership interest if any of our existing stock options and/or warrants are exercised (the “Rocky Mountain Transaction”).





In October 2013, we acquired the franchise rights to nine self-serve frozen yogurt cafés, and license agreements to two self-serve frozen yogurt cafés from Josie’s Frozen Yogurt, LLC (“Josie’s”).





In January 2014, we acquired the assets of the CherryBerry and Yogli Mogli frozen yogurt systems, thereby tripling the size of our self-serve frozen yogurt café network.  We also acquired the business assets of Fuzzy Peach frozen yogurt system in February 2014.




As of February 28, 2014, we had 13 company-owned cafés and 272 franchised cafés in 37 different states and three foreign countries.  Management is focusing its efforts on nurturing its relationship with the ALY, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach franchisees, studying each franchise system in order to identify the best practices from each, and integrating these best practices into a single system which will be implemented in the future.





Management is also continuing its efforts to expand product offerings, including co-branding arrangements.  Some of the cafés will have co-branded RMCF products, while others may have co-branding arrangements with different entities.





In addition, we have recently launched the offering of U-Swirl-n-Go Store franchises, which are limited-product stores within non-traditional locations, such as convenience stores, airports, hotels and other mass gathering areas.  The initial investment for these franchises is substantially less and more flexible royalty fees, instead of fees based on a percentage of revenues, are offered.  We currently anticipate that the first U-Swirl-n-Go location will be opened in the summer of 2014.




15





Since we are now a subsidiary of RMCF, we changed our fiscal year-end to that of RMCF, the last day of February, which required the filing of a transition report for the two months ended February 28, 2013.





Results of Operations




We have presented audited Consolidated Statements of Operations for the year ended February 28, 2014, the two months ended February 28, 2013 (the “2013 Transition Period”) and the year ended December 31, 2012 (the “2012 Fiscal Year”).  So that the readers of this report will have a better understanding of the changes in our results of operations for the 2014 fiscal year, we have included an unaudited consolidated statement of operations for the twelve months ended February 28, 2013 (the “2013 Fiscal Year”).  See Note 19 of our Notes to the Consolidated Financial Statements.





For the year ended February 28, 2014, our cafés generated $4,051,789 in sales, net of discounts, as compared to $433,084, $2,405,839 and $2,280,323 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.  The increase for the 2014 period was due primarily to an increase in the average number of company-owned cafés, which averaged twelve for 2014, versus seven for the 2013 Fiscal Year.





Our 2014 café operating costs were $3,186,089 or 79% of net sales revenues, resulting in café operating profit of $865,700.  For the 2013 Transition Period, café operating costs were $414,587 or 96% of net sales revenues, resulting in café operating profit of $18,497.  As discussed below, the spring and summer quarters are our busiest times of the year, and the two-month 2013 Transition Period represents our slowest months of the year.  As a result, our café operating costs as a percentage of revenues for that period were significantly higher than what we normally experience for an entire year of operations.  For the 2013 Fiscal Year, café operating costs were $1,902,184 or 79% of net sales revenues, resulting in café operating profit of $503,655, and for the 2012 Fiscal Year, café operating costs were $1,751,642 or 77% of net sales revenues, resulting in café operating profit of $528,681.  Management believes that the higher operating costs in 2014 and 2013 were due to the acquisition of six company-owned cafés in January 2013.  Management is working towards better operating efficiencies to achieve a 77% level.





For 2014, we generated franchise fee income of $68,111, royalty income of $879,312, rebate income of $387,507 and marketing fees of $141,930.  For the 2013 Transition Period, we generated franchise fee income of $0, royalty income of $69,636, rebate income of $45,485 and marketing fees of $15,175.  During the fiscal year ended February 28, 2014, we had 272 franchised cafés for all or part of that period, as compared to 58 franchised cafés in operation for all or part of the two months ended February 28, 2013 and 24 franchised cafés in operation for all or part of the year ended December 31, 2012.




We incurred $60,493 for franchise development expense in the 2014 period, which represents salaries and travel expenses for five individuals that we retained following the acquisition of CherryBerry and Yogli Mogli to support our growing franchise base.





Marketing and advertising expenses were $254,947 for the 2014 period, as compared to $9,399, $72,912, and $75,291 for the 2013 Transition Period, 2013 Fiscal Year, and 2012 Fiscal Year, respectively.  Marketing fees paid by our franchisees increase in accordance with system-wide sales.  Therefore, we spent more on store marketing expenses for the 2014 fiscal year as we had an average of 90 stores versus 30 stores most of the prior fiscal year.





For the year ended February 28, 2014, general and administrative expense was $1,693,597, as compared to $440,513, $1,463,577, and $1,183,733 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.  The increase in 2014 was due primarily to the increase in the growth of our Company.




16




Depreciation and amortization expense for the 2014 period was $520,979, as compared to $70,146, $327,259, and $308,361 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.  The increase in 2014 reflects the ownership of an average of twelve company-owned locations for the year, as compared to an average of seven company-owned locations for the prior year.





We incurred asset acquisition expenses of $619,435 for the year ended February 28, 2014, which represented legal fees associated with the acquisitions, due diligence fees for accountants and auditors, the expense of auditing the acquired companies, and the legal fees associated with updating our Franchise Disclosure Document to reflect the acquisitions.  In addition, we recorded a fair value adjustment of $1,290,790 in connection with the Note Payable to RMCF that funded the acquisition of the CherryBerry, Yogli Mogli and Fuzzy Peach assets.





As a result of the above, our loss from operations was $2,097,681 in 2014, as compared to $371,265, $787,679, and $514,806 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.





We borrowed from RMCF to fund the acquisition of the CherryBerry, Yogli Mogli and Fuzzy Peach assets.  Accordingly, interest expense for 2014 was $28,803, as compared to $6,579, $7,304, and $828 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.  This resulted in a net loss for 2014 of $2,126,484, as compared to $377,584, $793,669, and $514,425 for the 2013 Transition Period, 2013 Fiscal Year and 2012 Fiscal Year, respectively.





Liquidity and Capital Resources





At February 28, 2014, we had a working capital deficit of $391,289 and cash of $701,748.  At February 28, 2013, we had a working capital deficit of $61,045 and cash of $358,527.





In January 2013, in connection with the Rocky Mountain Transaction, we purchased leasehold improvements, property and equipment for six Aspen Leaf Yogurt cafés from RMCF in exchange for $900,000 in notes payable.  Interest accrues on the unpaid principal balances of the notes at the rate of 6% per annum, compounded annually, and the notes require monthly payments of principal and interest over a five-year period beginning January 2014 in the case of the recourse notes and January 2015 in the case of the non-recourse notes.  Payment of the notes is secured by a security interest in the six Aspen Leaf Yogurt cafés acquired.  In November 2013, the Company closed four of its under-performing company-owned Aspen Leaf Yogurt cafés and wrote off $400,000 in non-recourse notes payable together with accrued interest of $20,991.  Consistent with the non-recourse note agreements, we returned the assets underlying the notes to RMCF, the note holder.  We subsequently entered into an agreement to purchase certain assets salvaged from these closed locations.  We agreed to pay $177,500 to RMCF for the assets salvaged from these locations, which was approximately the predecessor cost of these assets.  In February 2014, we paid off the recourse notes.





In July 2013, we executed promissory notes with RMCF for the purchase and installation of equipment necessary to convert two company-owned cafés into co-branded RMCF and U-Swirl cafés.  Interest accrues on the notes at the rate of 6% per annum, compounded annually and capitalized during the course of construction.  The notes require monthly payments of principal and interest over a five-year period beginning in October 2013.  Payment of the notes is secured by a security interest in all of the equipment purchased with the proceeds of the notes.  At February 28, 2014, the unpaid balance of these notes was $116,867.





In January 2014, we acquired the business assets of two operators and franchisors of self-serve frozen yogurt cafés, CherryBerry Enterprises, LLC (“CherryBerry”) and Yogli Mogli, LLC (“Yogli Mogli”), thereby adding 182 cafés.  CherryBerry and certain affiliates were acquired for approximately $4.25 million in cash and 4,000,000 shares of our common stock.  Yogli Mogli was acquired for $2.15 million in cash and 277,778 shares of our common stock.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of our assets.




17




Under the loan and security agreement with RMCF, RMCF agreed to loan us up to $7,750,000.  Interest accrues at the rate of 9% per annum, with the principal and unpaid accrued interest due January 16, 2016.  Payment of the loan is secured by a security interest in all of our assets.  RMCF charged an origination fee of $542,500, which accrued to the loan and is amortized over the life of the loan.  All payments of principal, interest and fees are payable in cash, shares of Series A Convertible Preferred Stock (the “Preferred Stock”), or a combination thereof, at the option of RMCF.  The rights and preferences of the Preferred Stock include cumulative dividends equal to 9% of the stated value of $0.90 per share, a liquidation preference, the right to vote with our common stock on all matters submitted for a vote to holders of the common stock, and the right to convert into shares of our common stock.  We may prepay up to $2,100,000 of the outstanding amounts due at our option and without penalty in cash from the proceeds raised from (i) advances on rebates from our yogurt suppliers and (ii) the exercise of outstanding stock options and warrants.  We also have the option to redeem all amounts owed under the loan agreement at any time after January 16, 2015 at the rate of 108% of the total amounts owed, by making payment in cash, shares of Preferred Stock, or a combination thereof, at the option of RMCF.  At February 28, 2014, we owed $8,513,166 to RMCF under the convertible note.





Subsequent to February 28, 2014, we redeemed our outstanding Class C Warrants, and 1,515,882 Class C Warrants were exercised for gross proceeds of $909,529.  We plan to use the proceeds to prepay amounts owed under the RMCF convertible note.





For the year ended February 28, 2014, we had a net loss of $2,126,484.  Operating activities provided cash of $1,733,751, with the principal adjustments to reconcile the net loss to net cash provided by operating activities being the fair value adjustment on the note payable to RMCF of $1,290,790  and depreciation and amortization of $520,979.  For the two months ended February 28, 2013, we had a net loss of $377,584.  Operating activities provided cash of $94,164, with the principal adjustments to reconcile the net loss to net cash provided by operating activities being issuance of common stock for non-employee services of $95,625 and depreciation and amortization of $70,146.  We used cash of $108,111 for operating activities for the year ended December 31, 2012, with the principal adjustments to reconcile the net loss of $514,425 being depreciation and amortization of $308,361 and amortization of stock-based compensation of $116,745.




During 2014, investing activities used cash of $7,758,620, primarily due to $6,267,035 for the purchase of franchise rights and intangible assets associated with the CherryBerry, Yogli Mogli and Fuzzy Peach acquisitions and $1,494,295 for property and equipment associated with those acquisitions and with the conversion of two company-owned stores into co-branded stores. During the two months ended February 28, 2013 and year ended December 31, 2012, investing activities used cash of $2,719 and $587, respectively.





Financing activities provided cash of $6,368,090 for the year ended February 28, 2014, with $8,335,795 being proceeds from the RMCF loan offset by $542,500 of capitalized loan origination fees and $1,532,803 in loan repayments.  Financing activities provided cash of $79,784 for the two months ended February 28, 2013, which consisted of working capital received in the RMCF Transaction.  For the year ended December 31, 2012, financing activities used cash of $4,641, consisting of payment on our capital lease obligation.




As a result of the acquisitions of CherryBerry, Yogli Mogli and Fuzzy Peach, our accounts receivable and accounts payable balances were significantly higher at February 28, 2014 than at February 28, 2013.  We picked up certain amounts as receivables, but also picked up the corresponding amounts as payables.  In addition, the overall growth of the Company, from 56 franchisees at February 28, 2013 to 272 at February 28, 2014, has increased our balances.  Accounts receivable increased from $113,681 at February 28, 2013 to $1,418,960 at February 28, 2014, due to $1,253,612 in gift card liability receivables and marketing funds owed to us by CherryBerry and Yogli Mogli.  Accounts payable increased from $653,161 at February 28, 2013 to $2,346,572 at February 28, 2014.  Included in the payables were most of the asset acquisition expenses.




18




At February 28, 2014, we recorded $1,688,647 of deferred revenue in connection with the development fees from area development agreements signed prior to that date, as compared to $326,500 at February 28, 2013.  Pursuant to the terms of the agreements, we will recognize franchise fee revenue upon the opening of each café within the respective territories.





Contractual Obligations





The following table summarizes our obligations and commitments to make future payments for the periods specified as of February 28, 2014:





Operating

Leases


Notes

Payable


Total2015

$
590,310


$
22,837


$
613,1472016


405,901



8,537,412



8,943,3132017


217,876



25,741



243,6172018


163,752



27,329



191,0812019


146,833



16,714



163,547Thereafter


17,623



-



17,623Total minimum payments


1,542,295



8,630,033



10,172,328Less: current maturities


(590,310
)


(22,837
)


(613,147
)Long-term obligations

$
951,985


$
8,607,196


$
9,559,181





Plan of Operations





The amounts set forth in the Contractual Obligations table, together with approximately $175,000 per month to cover our fixed overhead expenses, are what we require to maintain our existing operations, which now include the ALY, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach Frozen Yogurt chains.  Although we have historically experienced losses from operations, including recently, based on our current projections which assume a continued increase in revenues, we believe that the operation of our 13 company-owned cafés and revenues from franchise royalties and fees will provide sufficient cash to maintain our existing operations indefinitely.





For the current fiscal year ending February 2015, we anticipate significantly increased revenues from franchise royalties and fees with the inclusion of the ALY, Yogurtini, Josie’s, CherryBerry, Yogli Mogli and Fuzzy Peach chains.  We expect that our non-café operating expenses will increase over 2014 levels, however we anticipate achieving some levels of economy of scale savings in fiscal 2015.





We will continue to look for expansion opportunities through acquisitions, as we believe that the self-serve frozen yogurt industry is fragmented with many small, undercapitalized chains whose owners lack the ability to expand or a viable exit strategy.  Such acquisitions may be completed using cash, shares of our stock, or a combination of both for the purchase consideration.  In those cases, it is possible that our shares may be valued at less than the then current trading price for the stock.





While we have experienced profitable operations for the six months ended August 31, 2013, we note that we are subject to seasonal fluctuations in sales, which cause fluctuations in quarterly results of operations.  Historically, the strongest sales of frozen yogurt have occurred in spring and summer months and our weakest sales have occurred during the winter months.  Accordingly, we incurred a net loss of $197,616 for the quarter ended November 30, 2013 and incurred an operating loss for the quarter ending February 28, 2014.  Our new co-branded locations with RMCF represent our efforts to address the seasonal fluctuations in sales, as demand for gourmet chocolate products is stronger during the fall, winter and spring seasons.




19




Critical Accounting Policies and Estimates





Accounts Receivable. During the normal course of business, we extend credit to our franchisees for inventory, supplies and fees.  An allowance for doubtful accounts is determined through analysis of the aging of accounts receivable, assessments of collectability based on historical trends, and an evaluation of the impact of current and projected economic conditions. The process by which we perform our analysis is conducted on a franchisee by franchisee basis and takes into account, among other relevant factors, sales history, outstanding receivables, customer financial strength, as well as customer specific and geographic market factors relevant to projected performance. We monitor the collectability of our accounts receivable on an ongoing basis by assessing the credit worthiness of our customers and evaluating the impact of reasonably likely changes in economic conditions that may impact credit risks. Estimates with regard to the collectability of accounts receivable are reasonably likely to change in the future.





Inventory.  Inventories consisting of food, beverages, and supplies are stated at the lower of cost or market.  An inventory reserve is established to reduce the cost of obsolete, damaged and excess inventories to the lower of cost or market based on actual differences.  This inventory reserve is determined through analysis of items held in inventory, and, if the value of those items at cost is higher than their market value, we record an expense to reduce inventory to our actual market value.  The process by which we perform our analysis is conducted on an item by item basis and takes into account, among other relevant factors, market value, sales history and future sales potential.  Cost is determined using the first-in, first-out method.





Leasehold Improvements, Property and Equipment.  Leasehold improvements, property and equipment are recorded at cost. Depreciation and amortization are computed using the straight-line method based upon the estimated useful life of the asset, which range from five to ten years.  Leasehold improvements are amortized on the straight-line method over the lives of the respective leases or the service lives of the improvements, whichever is shorter.





Deposits.  Deposits consist of security deposits for multiple locations and a sales tax deposit held with the state of Nevada.





Goodwill and Other Intangible Assets.  We record intangible assets acquired in a business combination under the acquisition method of accounting at their estimated fair values at the date of acquisition.  Goodwill represents the excess purchase price over the fair value of the net tangible and other identifiable intangible assets acquired.  Other intangible assets are amortized over their estimated useful lives.





Goodwill is not amortized.  Instead goodwill is reviewed for impairment at least annually or on an interim basis between annual tests when events or circumstances indicate that it is more likely than not that the fair value of a reporting unit is less than its carrying value.  In assessing goodwill for impairment, we assess qualitative factors to determine whether events or circumstances indicate that it is not more likely than not that fair value of a reporting unit is less than its carry amount.  Goodwill impairment exists when the carrying value of goodwill exceeds its implied fair value.





Other intangible assets acquired in a business combination are recognized at fair value using generally accepted valuation methods appropriate for the type of intangible asset and reported separately from goodwill.  Intangible assets with definite lives are amortized over the estimated useful lives and tested for impairment when events or circumstances occur that indicate that it is more likely than not that an impairment has occurred.  Intangible assets with definite lives are tested for impairment by comparing the carrying amount to the sum of the net undiscounted cash flows expected to be generated by the asset whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable.  If the carrying amount of the asset exceeds its net undiscounted cash flows, then an impairment loss is recognized for the amount by which the carrying amount exceeds its fair value.




20




Intangible assets are generally valued as the present value of estimated future cash flows expected to be generated from the asset using a risk-adjusted discount rate. Estimates and assumptions about future expected revenue and remaining useful lives of the assets are used when determining the fair value of our intangible assets.





Deferred Rent.  Rent expense for company-owned leases, which provide for escalating rents over the terms of the leases, is recorded on a straight-line basis over the lease terms.  The lease terms began when we had the right to control the use of the property, which was before rent payments were actually due under the leases.





The difference between the rent expense and the actual amount payable under the terms of the leases is recorded as a leasehold improvement asset and deferred rent liability on the balance sheets and as both an investing activity and a component of operating activities on the statements of cash flows.





Revenue Recognition Policy.  We recognize revenue once pervasive evidence that an agreement exists; the product has been rendered; the fee is fixed and determinable; and collection of the amount due is reasonably assured.





Café Sales.  Revenue from company-owned café sales is recognized when food and beverage products are sold.  Café sales are reported net of sales discounts.





Franchise and Royalty Fees.  Revenue earned as a franchisor is derived from cafés in our worldwide territory and includes initial franchise fees and royalties.  Initial franchise fee revenue from a the sale of a franchise is recognized when we have substantially performed or satisfied all of our material obligations relating to the sale up through the point at which the franchisee is able to open the franchised café, and we have no intention of refunding the entire initial franchise fee or forgiving an unpaid note for the entire initial franchise fee.  Substantial performance has occurred when we have (a) performed substantially all of our initial services required by the franchise agreement, such as providing to the franchisee (1) a copy of the Operations Manual; (2) assistance in site selection and selection of suppliers of equipment, furnishings, and food; (3) lease review and comments about the lease; and (4) the initial training course to one or two franchisee representatives; and (b) completed all of our other material pre-opening obligations.  We defer revenue from the initial franchise fee until (a) commencement of operations by the franchisee; or (b) if the franchisee does not open the franchised café, (1) the date on which all of our pre-opening services and obligations are substantially complete, or (2) an earlier date on which the franchisee has abandoned its efforts to proceed with the franchise operations, and in either situation, the franchisee is not entitled to, and is not given, a refund of the initial franchise fee.  Royalties ranging from three to five percent of net café sales are recognized in the period in which they are earned.





Rebates.  Rebates received from purveyors that supply products to our franchisees are included in franchise royalties and fees. Rebates related to company-owned cafés are offset against café operating costs.  Product rebates are recognized in the period in which they are earned.





Marketing Fees.  We also recognize a marketing and promotion fee ranging from one to three percent of net café sales which are included in franchise royalties and fees.





Marketing and Advertising Expense.  We engage in local and regional marketing efforts by distributing advertisements, coupons and marketing materials as well as sponsoring local and regional events.   We recognize marketing and advertising expense as incurred.





Share-Based Compensation Expense.  We recognize all forms of share-based payments, including stock option grants, warrants, and restricted stock grants, at their fair value on the grant date, which are based on the estimated number of awards that are ultimately expected to vest.





Share-based payments, excluding restricted stock, are valued using a Black-Scholes option pricing model.Share-based payment awards issued to non-employees for services rendered are recorded at either the fair value of the services rendered or the fair value of the share-based payment, whichever is more readily determinable. The grants are amortized on a straight-line basis over the requisite service periods, which is generally the vesting period.




21




When computing fair value of share-based compensation, we consider the following variables:





·
The expected option term is computed using the “simplified” method.




·
The expected volatility is based on the historical volatility of our common stock using the daily quoted closing trading prices.




·
The risk-free interest rate assumption is based on the U.S. Treasury yield for a period consistent with the expected term of the option in effect at the time of the grant.




·
We have not paid any dividends on common stock since our inception and do not anticipate paying dividends on our common stock in the foreseeable future.




·
The forfeiture rate is based on the historical forfeiture rate for its unvested stock options.





Recently Issued Accounting Pronouncements





In February 2013, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2013-02, “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income”. The ASU requires an entity to report the effect of significant reclassifications out of accumulated other comprehensive income on the respective line items in net income if the amount being reclassified is required under U.S. GAAP to be reclassified in its entirety to net income. For other amounts that are not required under U.S. GAAP to be reclassified in their entirety from accumulated other comprehensive income to net income in the same reporting period, an entity is required to cross-reference other disclosures required under U.S. GAAP that provide additional detail about those amounts. The ASU is effective for annual and interim periods beginning after January 1, 2013.  We adopted this guidance in 2013 without material impact on our financial position, results of operations or cash flows.





In July 2013, the FASB issued ASU No. 2013-11, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists.”  ASU 2013-11 amends the guidance related to the presentation of unrecognized tax benefits and allows for the reduction of a deferred tax asset for a net operating loss (“NOL”) carryforward whenever the NOL or tax credit carryforward would be available to reduce the additional taxable income or tax due if the tax position is disallowed.  ASU 2013-11 is effective for annual and interim periods for fiscal years beginning after December 15, 2013, and early adoption is permitted.  We adopted this guidance without a material impact on our financial position, results of operations or cash flows.





In May 2014, FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers,” which supersedes the revenue recognition requirements in “Revenue Recognition (Topic 605),” and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, and is to be applied retrospectively, with early application not permitted. We are currently evaluating the new standard.





Off-Balance Sheet Arrangements





We do not have any off-balance sheet arrangements.




22




Item 7A.
Quantitative and Qualitative Disclosures About Market Risk





Not required for smaller reporting companies.





Item 8.
Financial Statements and Supplementary Data













23


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM














The Board of Directors and Stockholders of


U-Swirl, Inc. and Subsidiaries


Henderson, Nevada








We have audited the accompanying consolidated balance sheet of U-Swirl, Inc. and Subsidiaries (the “Company”) as of February 28, 2014, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for the year then ended.  These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.  The financial statements of U-Swirl, Inc. and Subsidiaries as of February 28, 2013, for the two months then ended, and for the year ended December 31, 2012, were audited by other auditors and whose report, dated May 24, 2013, expressed an unqualified opinion on those statements.





We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting (“Internal Control”).  Our audit included consideration of Internal Control as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s Internal Control.  Accordingly, we express no such opinion.  An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.





In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of U-Swirl, Inc. and Subsidiaries as of February 28, 2014, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America.





EKS&H LLLP





June 13, 2014


Denver, Colorado





24




REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM







To the Board of Directors and


Stockholders of U-Swirl, Inc.








We have audited the accompanying consolidated balance sheets of U-Swirl, Inc. as of February 28, 2013 and December 31, 2012, and the consolidated statements of operations, stockholders’ equity, and cash flows for the two months ended February 28, 2013 and the year ended December 31, 2012. U-Swirl, Inc.’s management is responsible for these financial statements. Our responsibility is to express an opinion on these financial statements based on our audits.





We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.





In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of U-Swirl, Inc. as of February 28, 2013 and December 31, 2012, and the results of its operations and its cash flows for the two months ended February 28, 2013 and the year ended December 31, 2012 in conformity with accounting principles generally accepted in the United States of America.









/s/ L.L. Bradford & Company, LLCL.L. Bradford & Company, LLC

May 24, 2013Las Vegas, Nevada





25




U-SWIRL, INC.CONSOLIDATED BALANCE SHEETSFebruary 28, 2014


February 28, 2013ASSETSCurrent assetsCash

$
701,748


$
358,527Accounts receivable, net


1,418,960



113,681Accounts receivable, related party


11,989



8,597Inventory


118,219



98,511Prepaid expenses


18,182



24,592Total current assets


2,269,098



603,908Leasehold improvements, property and equipment, net


2,939,820



2,235,716Other assetsDeposits


72,185



39,086Goodwill and other intangible assets, net


10,243,522



800,000Other assets


541,645



39,153Total other assets


10,857,352



878,239Total assets

$
16,066,270


$
3,717,863LIABILITIES AND STOCKHOLDERS' EQUITYCurrent liabilitiesAccounts payable and accrued liabilities

$
2,346,572


$
653,161Accounts payable, related party


290,978



11,792Current portion of long-term debt, related party


22,837



-Total current liabilities


2,660,387



664,953Deferred rent


105,031



126,792Deferred revenue


1,658,647



296,500Deferred revenue, related party


30,000



30,000Notes payable, related party


8,607,196



906,579Total liabilities


13,061,261



2,024,824Stockholders' equityPreferred stock; $0.001 par value; 25,000,000 sharesauthorized, no shares issued and outstanding


-



-Common stock; $0.001 par value; 100,000,000 sharesauthorized, 15,440,029 and 14,402,088 shares issuedand outstanding, respectively


15,440



14,402Common stock payable


4,278



750Prepaid equity-based compensation


(75,019
)


(94,399
)Additional paid-in capital


12,456,619



9,042,111Accumulated deficit


(9,396,309
)


(7,269,825
)Total stockholders' equity


3,005,009



1,693,039Total liabilities and stockholders' equity

$
16,066,270


$
3,717,863





The accompanying notes are an integral part of these financial statements.





26





U-SWIRL, INC.CONSOLIDATED STATEMENTS OF OPERATIONSFor the Year Ended


For the Two Months Ended


For the Year EndedFebruary 28, 2014


February 28, 2013


December 31, 2012RevenuesCafé sales, net of discounts

$
4,051,789


$
433,084


$
2,280,323Franchise royalties and fees


1,476,860



130,296



523,898Total revenues


5,528,649



563,380



2,804,221Café operating costsFood, beverage and packaging costs


1,307,238



156,634



745,380Labor and related expenses


1,109,734



146,840



571,954Occupancy and related expenses


769,117



111,113



434,308Franchise development


60,493



-



-Marketing and advertising


254,947



9,399



75,291General and administrative


1,693,597



440,513



1,183,733Depreciation and amortization


520,979



70,146



308,361Asset acquisition expenses


619,435



-



-Fair value adjustment


1,290,790



-



-Total costs and expenses


7,626,330



934,645



3,319,027Loss from operations


(2,097,681
)


(371,265
)


(514,806
)Interest income


-



260



1,209Interest expense


(28,803
)


(6,579
)


(828
)Loss from continuing operations before income taxes


(2,126,484
)


(377,584
)


(514,425
)Provision for income taxes


-



-



-Net loss

$
(2,126,484
)

$
(377,584
)

$
(514,425
)Net loss per common share, basic and diluted

$
(0.14
)

$
(0.03
)

$
(0.10
)Weighted average common shares outstanding,basic and diluted


15,332,233



12,171,282



4,938,753





The accompanying notes are an integral part of these financial statements.





27





U-SWIRL, INC.CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITYPrepaid








TotalCommon Stock


Common Stock Payable


Stock-Based


Additional


Accumulated


Stockholders'Shares


Amount


Shares


Amount


Compensation


Paid-in Capital


Deficit


EquityBalance, December 31, 2011


4,868,836


$
4,869



-


$
-


$
-


$
7,815,030


$
(6,377,816
)

$
1,442,083Issuance of common stock as compensation


132,000



132



-



-



-



29,128



-



29,260Amortization of stock-based compensation


-



-



-



-



-



116,745



-



116,745Net loss


-



-



-



-



-



-



(514,425
)


(514,425
)Balance, December 31, 2012


5,000,836



5,001



-



-



-



7,960,903



(6,892,241
)


1,073,663Issuance of common stock pursuant to Rocky Mountain Transaction


8,641,253



8,641



-



-



-



871,143



-



879,784Issuance of common stock as compensation


759,999



760



-



-



(96,900
)


96,140



-



-Issuance of common stock for non-employee services


-



-



750,000



750



-



94,875



-



95,625Amortization of prepaid stock-based compensation


-



-



-



-



2,501



-



-



2,501Amortization of stock-based compensation


-



-



-



-



-



19,050



-



19,050Net loss


-



-



-



-



-



-



(377,584
)


(377,584
)Balance, February 28, 2013


14,402,088



14,402



750,000



750



(94,399
)


9,042,111



(7,269,825
)


1,693,039Issuance of common stock payable


750,000



750



(750,000
)


(750
)


-



-



-



-Issuance of common stock pursuant to option exercise


50,000



50



-



-



-



16,200



-



16,250Issuance of common stock pursuant to warrant exercise, net of offering costs


237,941



238



-



-



-



91,110



-



91,348Issuance of common stock pursuant to CherryBerry Acquisition


-



-



4,000,000



4,000



-



3,056,000



-



3,060,000Issuance of common stock pursuant to Yogli Mogli Acquisition


-



-



277,778



278



-



212,222



-



212,500Amortization of prepaid stock-based compensation


-



-



-



-



19,380



-



-



19,380Amortization of stock-based compensation


-



-



-



-



-



38,976



-



38,976Net loss


-



-



-



-



-



-



(2,126,484
)


(2,126,484
)Balance, February 28, 2014


15,440,029


$
15,440



4,277,778


$
4,278


$
(75,019
)

$
12,456,619


$
(9,396,309
)

$
3,005,009





The accompanying notes are an integral part of these financial statements.





28





U-SWIRL, INC.CONSOLIDATED STATEMENTS OF CASH FLOWSFor the Year Ended


For the Two Months Ended


For the Year EndedFebruary 28, 2014


February 28, 2013


December 31, 2012Cash flows from operating activities:Net loss

$
(2,126,484
)

$
(377,584
)

$
(514,425
)Adjustments to reconcile net loss to net cash providedby operating activities:Depreciation and amortization


520,979



70,146



308,361Fair value adjustment on notes payable, related party


1,290,790



-



-Accrued interest on notes payable, related party


28,803



6,579



-Amortization of prepaid stock-based compensation


19,380



2,501



-Issuance of common stock as compensation


-



-



29,260Issuance of common stock for non-employee services


-



95,625



-Amortization of stock-based compensation


38,976



19,050



116,745Changes in operating assets and liabilities:Accounts receivable, net


(1,305,279
)


(40,476
)


44,321Inventory


(19,708
)


(55,400
)


42,555Prepaid expenses


6,410



2,009



1,460Deposits


(33,099
)


54



8,732Accounts payable and accrued liabilities


1,693,411



364,807



70,555Accounts payable, related party


279,186



11,792



-Deferred rent


(21,761
)


(11,439
)


(100,675
)Deferred revenue


1,362,147



6,500



(115,000
)Net cash provided by (used in) operating activities


1,733,751



94,164



(108,111
)Cash flows from investing activities:Accounts receivable, related party


(3,392
)


(1,549
)


(283
)Purchases of property and equipment


(1,494,295
)


(2,187
)


(6,405
)Purchases of goodwill and other intangible assets


(6,267,035
)


-



-Decrease in other assets


6,102



1,017



6,101Net cash used in investing activities


(7,758,620
)


(2,719
)


(587
)Cash flows from financing activities:Payments on capital lease obligation


-



-



(4,641
)Working capital received from Rocky Mountain Transaction


-



79,784



-Capitalized loan origination fees


(542,500
)






-Proceeds from notes payable, related party


8,335,795



-



-Repayments on notes payable, related party


(1,532,803
)


-



-Proceeds from issuance of common stock


107,598



-



-Net cash provided by (used in) financing activities


6,368,090



79,784



(4,641
)Net change in cash


343,221



171,229



(113,339
)Cash, beginning of period


358,527



187,298



300,637Cash, end of period

$
701,748


$
358,527


$
187,298Supplemental disclosure of cash flow information:Interest paid

$
8,267


$
-


$
828Income tax paid

$
-


$
-


$
-Disposition of café assets in connection with café closings

$
400,000


$
-


$
-Forgiveness of non-recourse debt in connection with café closings

$
(400,000
)

$
-


$
-Supplemental disclosure of noncash investing and financing activities:Rocky Mountain Transaction:Acquisition of property and equipment through issuanceof notes payable

$
-


$
900,000


$
-Acquisition of franchise rights through issuance of common stock

$
-


$
800,000


$
-CherryBerry Acquisition:Acquisition of franchise rights and intangible assetsthrough issuance of common stock

$
3,060,000


$
-


$
-Yogli Mogli Acquisition:Acquisition of franchise rights and intangible assetsthrough issuance of common stock

$
212,500


$
-


$
-





The accompanying notes are an integral part of these financial statements.




29


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




NOTE 1 - DESCRIPTION OF BUSINESS





U-Swirl, Inc. was incorporated in the state of Nevada on November 14, 2005.  Its wholly-owned subsidiaries are U-Swirl International, Inc. (“U-Swirl”), which was incorporated in the state of Nevada on September 4, 2008, and Moxie Consumer Products, LLC (“Moxie”), a Nevada limited liability company which was organized in the state of Nevada on February 11, 2014 (collectively referred to as the “Company”).
 
 In September 2008, the Company acquired the worldwide rights to the U-Swirl Frozen YogurtTM concept.  The U-Swirl concept allows guests a broad choice in frozen yogurt by providing an assortment of non-fat and low-fat flavors, including tart, traditional and no sugar-added options and numerous toppings, including seasonal fresh fruit, sauces, candy and granola. Guests serve themselves and pay by the ounce instead of by the cup size.


In January 2013,the Company entered into agreements to acquire Aspen Leaf Yogurt café assets, consisting of leasehold improvements, property and equipment, for six Aspen Leaf Yogurt cafés and the franchise rights to Yogurtini self-serve frozen yogurt chains from Rocky Mountain Chocolate Factory, Inc. (“RMCF”) in exchange for a 60% controlling ownership interest in the Company, a warrant that allows RMCF to maintain its pro rata ownership interest if existing stock options and/or warrants are exercised, and notes payable totaling $900,000 (the “Rocky Mountain Transaction”).





As a result of the change in control occurring in connection with the aforementioned transactions, the Company has been deemed to have been acquired by RMCF. Following the Rocky Mountain Transaction, the Company retained a significant minority interest of the issued and outstanding common stock. Due to the significant minority interest, the fair value increments and decrements have not been included in the accompanying financial statements. As the accounting acquirer, RMCF will consolidate the Company’s results of operations in its financial statements.  RMCF trades on the NASDAQ Global Market under the trading symbol “RMCF”.





In October 2013,the Company acquired the franchise rights to nine self-serve frozen yogurt cafés and license agreements to two self-serve frozen yogurt cafésfrom Josie’s Frozen Yogurt, LLC (“Josie’s”).  Subsequent to closing the transaction, a Josie’s franchisee closed one café.  In November 2013, the Company closed four of its under-performing company-owned Aspen Leaf Yogurt cafés.





In January 2014, the Company entered into business acquisitions with two operators and franchisors of self-serve frozen yogurt cafés, CherryBerry Enterprises, LLC (“CherryBerry”) and Yogli Mogli, LLC (“Yogli Mogli”), thereby adding 182 cafés.  CherryBerry and certain affiliates were acquired for approximately $4.25 million in cash and 4,000,000 shares of the Company’s common stock (the “CherryBerry Acquisition”).  Yogli Mogli was acquired for $2.15 million in cash and 277,778 shares of the Company’s common stock (the “Yogli Mogli Acquisition”).





The Company also entered into an asset acquisition with another operator and franchisor of self-serve frozen yogurt cafés, Fuzzy Peach Franchising, LLC (“Fuzzy Peach”), in February 2014, thereby adding 17 cafés.  The Company paid $481,000 at closing, plus an earn out, based upon royalty income generated by Fuzzy Peach cafés over the next twelve months, that could increase the purchase price by up to another $349,000.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of the Company’s assets.




30


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014





As of February 28, 2014 the Company had the following locations:





Number of locationsU-Swirl
Aspen

Leaf
Yogurtini
Josie’s
Cherry-

Berry
Yogli

Mogli
Fuzzy

Peach
TotalCompany-owned

Cafés
6
2
-
-
1
4
-
13Franchised cafés
30
9
28
10
156
22
17
272Total
36
11
28
10
157
26
17
285





NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES





Basis of Presentation





The accompanying financial statements are prepared on the accrual basis of accounting in conformity with accounting principles generally accepted in the United States of America.





Year-End





Effective January 14, 2013, the Company’s Board of Directors adopted a fiscal year ending on the last day of February.





Use of Estimates





In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets, liabilities, the disclosure of contingent assets and liabilities, at the date of the financial statements, and revenues and expenses during the reporting period. Actual results could differ from those estimates.





Cash and Cash Equivalents





The Company considers all highly liquid instruments purchased with a maturity of three months or less at date of acquisition to be cash equivalents.  There were no cash equivalents at February 28, 2014 or 2013.





Accounts Receivable
 
 During the normal course of business, the Company extends credit to its franchisees for inventory, supplies and fees.  An allowance for doubtful accounts is determined through analysis of the aging of accounts receivable, assessments of collectability based on historical trends, and an evaluation of the impact of current and projected economic conditions. The process by which the Company performs its analysis is conducted on a franchisee by franchisee basis and takes into account, among other relevant factors, sales history, outstanding receivables, customer financial strength, as well as customer specific and geographic market factors relevant to projected performance. The Company monitors the collectability of its accounts receivable on an ongoing basis by assessing the credit worthiness of its customers and evaluating the impact of reasonably likely changes in economic conditions that may impact credit risks. Estimates with regard to the collectability of accounts receivable are reasonably likely to change in the future.





31


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




Inventory





Inventories consisting of food, beverages, and supplies are stated at the lower of cost or market.  An inventory reserve is established to reduce the cost of obsolete, damaged and excess inventories to the lower of cost or market based on actual differences.  This inventory reserve is determined through analysis of items held in inventory, and, if the value of those items at cost is higher than their market value, the Company records an expense to reduce inventory to its actual market value.  The process by which the Company performs its analysis is conducted on an item by item basis and takes into account, among other relevant factors, market value, sales history and future sales potential.  Cost is determined using the first-in, first-out method.





Prepaid Expenses





Prepaid expenses include costs incurred for prepaid rents, insurance, professional fees and deferred offering costs.  The Company capitalizes certain costs associated with the offering of its stock and adjusts the deferred cost to offset offering proceeds upon closing of the offering or expenses the costs upon abandonment of the offering.





Leasehold Improvements, Property and Equipment





Leasehold improvements, property and equipment are recorded at cost. Depreciation and amortization are computed using the straight-line method based upon the estimated useful life of the asset, which range from five to ten years.  Leasehold improvements are amortized on the straight-line method over the lives of the respective leases or the service lives of the improvements, whichever is shorter.





Company-owned cafés under development are accounted for as construction-in-process. Construction-in-process is recorded at acquisition cost, including leasehold improvements, equipment expenditures, professional fees and interest expense capitalized during the course of construction for the purpose of financing the project. Upon completion and readiness for use of the project, the cost of construction-in-process is transferred to the appropriate asset group. As of February 28, 2014 and 2013, the Company did not have any construction-in-process.





The Company reviews its long-lived assets through analysis of estimated fair value whenever events or changes indicate the carrying amount of such assets may not be recoverable. The Company’s policy is to review the recoverability of all assets, at a minimum, on an annual basis.  Based on its evaluation, the Company has determined that no impairment exists as of February 28, 2014 or 2013.





Deposits





Deposits consist of security deposits for multiple locations and a sales tax deposit held with the state of Nevada.





Goodwill and Other Intangible Assets





The Company records intangible assets acquired in a business combination under the acquisition method of accounting at their estimated fair values at the date of acquisition.  Goodwill represents the excess purchase price over the fair value of the net tangible and other identifiable intangible assets acquired.  Other intangible assets are amortized over their estimated useful lives.





Goodwill is not amortized.  Instead, goodwill is reviewed for impairment at least annually or on an interim basis between annual tests when events or circumstances indicate that it is more likely than not that the fair value of a reporting unit is less than its carrying value.  In assessing goodwill for impairment, the Company assesses qualitative factors to determine whether events or circumstances indicate that it is not more likely than not that fair value of a reporting unit is less than its carry amount.  Goodwill impairment exists when the carrying value of goodwill exceeds its implied fair value.




32


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




Other intangible assets acquired in a business combination are recognized at fair value using generally accepted valuation methods appropriate for the type of intangible asset and reported separately from goodwill.  Intangible assets with definite lives are amortized over the estimated useful lives and tested for impairment when events or circumstances occur that indicate that it is more likely than not that an impairment has occurred.  Intangible assets with definite lives are tested for impairment by comparing the carrying amount to the sum of the net undiscounted cash flows expected to be generated by the asset whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable.  If the carrying amount of the asset exceeds its net undiscounted cash flows, then an impairment loss is recognized for the amount by which the carrying amount exceeds its fair value.





Intangible assets are generally valued as the present value of estimated future cash flows expected to be generated from the asset using a risk-adjusted discount rate. Estimates and assumptions about future expected revenue and remaining useful lives of the assets are used when determining the fair value of the Company’s intangible assets.





Deferred Rent





Rent expense for company-owned leases, which provide for escalating rents over the terms of the leases, is recorded on a straight-line basis over the lease terms.  The lease terms began when the Company had the right to control the use of the property, which was before rent payments were actually due under the leases.





The difference between the rent expense and the actual amount payable under the terms of the leases is recorded as a leasehold improvement asset and deferred rent liability on the balance sheets and as both an investing activity and a component of operating activities on the statements of cash flows.





Revenue Recognition Policy





The Company recognizes revenue once pervasive evidence that an agreement exists; the product has been rendered; the fee is fixed and determinable; and collection of the amount due is reasonably assured.





Café Sales





Revenue from company-owned café sales is recognized when food and beverage products are sold.  Café sales are reported net of sales discounts.





Franchise Royalties and Fees





Revenue earned as a franchisor is derived from cafés in the Company’s worldwide territory and includes initial franchise fees and royalties.  Initial franchise fee revenue from a the sale of a franchise is recognized when the Company has substantially performed or satisfied all of its material obligations relating to the sale up through the point at which the franchisee is able to open the franchised café, and the Company has no intention of refunding the entire initial franchise fee or forgiving an unpaid note for the entire initial franchise fee.  Substantial performance has occurred when the Company has (a) performed substantially all of its initial services required by the franchise agreement, such as providing to the franchisee (1) a copy of the Operations Manual; (2) assistance in site selection and selection of suppliers of equipment, furnishings, and food; (3) lease review and comments about the lease; and (4) the initial training course to one or two franchisee representatives; and (b) completed all of its other material pre-opening obligations.  The Company defers revenue from the initial franchise fee until (a) commencement of operations by the franchisee; or (b) if the franchisee does not open the franchised café, (1) the date on which all pre-opening services and obligations of the Company are substantially complete, or (2) an earlier date on which the franchisee has abandoned its efforts to proceed with the franchise operations, and in either situation, the franchisee is not entitled to, and is not given, a refund of the initial franchise fee.  Royalties ranging from three to five percent of net café sales are recognized in the period in which they are earned.





33


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




Rebates





Rebates received from purveyors that supply products to the Company’s franchisees are included in franchise royalties and fees. Rebates related to company-owned cafés are offset against café operating costs.  Product rebates are recognized in the period in which they are earned.





Marketing Fees





The Company also recognizes a marketing and promotion fee ranging from one to three percent of net café sales which are included in franchise royalties and fees.





Marketing and Advertising Expense





The Company engages in local and regional marketing efforts by distributing advertisements, coupons and marketing materials, as well as sponsoring local and regional events.   The Company recognizes marketing and advertising expense as incurred.





Share-Based Compensation Expense





The Company recognizes all forms of share-based payments, including stock option grants, warrants, and restricted stock grants, at their fair value on the grant date, which are based on the estimated number of awards that are ultimately expected to vest.





Share-based payments, excluding restricted stock, are valued using a Black-Scholes option pricing model.Share-based payment awards issued to non-employees for services rendered are recorded at either the fair value of the services rendered or the fair value of the share-based payment, whichever is more readily determinable. The grants are amortized on a straight-line basis over the requisite service periods, which is generally the vesting period.





When computing fair value of share-based compensation, the Company considers the following variables:





·
The expected option term is computed using the “simplified” method.




·
The expected volatility is based on the historical volatility of its common stock using the daily quoted closing trading prices.




·
The risk-free interest rate assumption is based on the U.S. Treasury yield for a period consistent with the expected term of the option in effect at the time of the grant.




·
The Company has not paid any dividends on common stock since its inception and does not anticipate paying dividends on its common stock in the foreseeable future.




·
The forfeiture rate is based on the historical forfeiture rate for its unvested stock options.




Income Taxes





The Company recognizes deferred tax liabilities and assets based on the differences between the tax basis of assets and liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts in future years.  Based on its evaluation, the Company does not believe it will not have an income tax liability as of the end of its current fiscal year.





34


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




Earnings (Loss) per Share





Basic earnings (loss) per share is computed as net earnings (losses) divided by the weighted average number of common shares outstanding during each year. Diluted earnings (loss) per share reflects the potential dilution that could occur from common shares issuable through stock options and restricted stock units.




FAIR VALUE MEASUREMENTS
  Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date.  The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on the reliability of the inputs as follows:
  Level 1: Quoted prices are available in active markets for identical assets or liabilities;
  Level 2: Quoted prices in active markets for similar assets and liabilities that are observable for the asset or liability; or
  Level 3: Unobservable pricing inputs that are generally less observable from objective sources, such as discounted cash flow models or valuations.
  The valuation policies are determined by the Controller and are approved by the Chief Executive Officer (the “CEO”).  Each quarter, the Controller and the CEO will update the inputs used in the fair value calculations and internally review the changes from period to period for reasonableness.
  The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of February 28, 2014 and 2013 by level within the fair value hierarchy:
  February 28, 2014
  Level 1


Level 2


Level 3


TotalLiabilitiesConvertible Note

$
-


$
-


$
7,969,399


$
7,969,399
 
 February 28, 2013
  Level 1


Level 2


Level 3


TotalLiabilitiesConvertible Note

$
-


$
-


$
-


$
-
 
 35
  The Company determined the fair value of the Convertible Note using the income valuation technique.  Because of the hybrid nature of the Convertible Note, the Company first valued the debt host contract, or straight “bond”, component using a discounted cash flow analysis, and then valued the compound embedded derivative features using a Flexible Monte Carlo simulation.  See Note 8 for discussion of the embedded features.  Significant inputs to the valuation model include the coupon rate, effective yield, volatility, expected return and implied equity value. The Company’s Convertible Note is included in the Level3 fair value hierarchy because not all the significant inputs are directly or indirectly observable.
  The following table summarizes the valuation techniques, models and significant unobservable inputs used for the Company’s Convertible Note (broken into its components), categorized within Level 3 of the fair value hierarchy:
  Liabilities (at Fair Value)

Fair Value at February 28, 2014
Valuation techniques / Model
Unobservable inputsBond component

$6,177,626
Income approach using discounted cash flow model
Effective yield ranging from 13.75% – 20%Embedded conversion

features

$1,791,733
Income approach using flexible Monte Carlo simulation
Expected return ranging from 5% - 10%

Implied Equity Value ranging from 5% - 10%
 
  Significant increases (decreases) in the unobservable inputs used in the fair value measurements would result in a significantly lower (higher) fair value measurement.
  The following table sets forth a reconciliation of changes in the fair value of the Convertible Note classified as Level 3 in the fair value hierarchy:
  Convertible NoteBalance as of February 28, 2013
$          -       .Purchases
$ 8,020,998Payments
($    988,000)Unrealized loss
$     936,401Balance as of February 28, 2014
$ 7,969,399


Accounting Policy for Ownership Interests in Investees





The accompanying Consolidated Financial Statements include the accounts of the Company and its wholly-owned subsidiaries, after elimination of all material intercompany accounts, transactions, and profits.





New Accounting Pronouncements





In July 2012, the FASB issued ASU No. 2012-02, “Intangibles-Goodwill and Other (Topic 350):Testing Indefinite-Lived Intangible Assets for Impairment.” This ASU permits an entity to make a qualitative assessment of whether it is more likely than not that indefinite-lived intangible assets are impaired before calculating the fair value of the assets.  After assessment of certain qualitative factors, if it is determined to be more likely than not that an indefinite-lived asset is impaired, entities must perform the quantitative impairment test.  Otherwise, the quantitative test becomes optional.  The amended guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted.  The Company adopted this guidance without a material impact on its financial position, results of operations or cash flows.




In February 2013, the FASB issued ASU No. 2013-02, “Comprehensive Income (Topic 220): Reporting of Amounts Reclassified out of Accumulated Other Comprehensive Income”. The ASU requires an entity to report the effect of significant reclassifications out of accumulated other comprehensive income on the respective line items in net income if the amount being reclassified is required under U.S. GAAP to be reclassified in its entirety to net income. For other amounts that are not required under U.S. GAAP to be reclassified in their entirety from accumulated other comprehensive income to net income in the same reporting period, an entity is required to cross-reference other disclosures required under U.S. GAAP that provide additional detail about those amounts. The ASU is effective for annual and interim periods beginning after January 1, 2013. The Company adopted this guidance without a material impact on its financial position, results of operations or cash flows.


In July 2013, the FASB issued ASU No. 2013-11, “Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists.” ASU 2013-11 amends the guidance related to the presentation of unrecognized tax benefits and allows for the reduction of a deferred tax asset for a net operating loss (“NOL”) carryforward whenever the NOL or tax credit carryforward would be available to reduce the additional taxable income or tax due if the tax position is disallowed. ASU 2013-11 is effective for annual and interim periods for fiscal years beginning after December 15, 2013, and early adoption is permitted. The Company adopted this guidance without a material impact on its financial position, results of operations or cash flows.
 
 In May 2014, FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers,” which supersedes the revenue recognition requirements in “Revenue Recognition (Topic 605),” and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, and is to be applied retrospectively, with early application not permitted. The Company is currently evaluating the new standard.


36


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




NOTE 3 - ACCOUNTS RECEIVABLE





Accounts receivable consisted of the following at February 28, 2014 and 2013:


February 28,

2014


February 28,

2013Accounts receivable, trade

$
175,348


$
153,681Allowance for doubtful accounts, trade


(10,000
)


(40,000
)Accounts receivable, other


1,253,612



-Accounts receivable, net

$
1,418,960


$
113,681Accounts receivable, related party

$
11,989


$
8,597





Accounts receivable, other consists of gift card liability receivables and marketing funds owed to us by CherryBerry and Yogli Mogli as a result of the respective business acquisitions.





NOTE 4 - INVENTORY


As of February 28, 2014 and 2013, inventory consisted of the following:


February 28,

2014


February 28,

2013Food and beverages

$
61,108


$
71,026Paper products


28,054



27,485Supplies


29,057



-Inventory

$
118,219


$
98,511





NOTE 5 - LEASEHOLD IMPROVEMENTS, PROPERTY AND EQUIPMENT





Leasehold improvements, property and equipment consisted of the following as of February 28, 2014 and 2013:





February 28,

2014


February 28, 2013Café equipment

$
1,580,650


$
1,176,845Signage


112,395



112,395Furniture and fixtures


461,026



308,698Computer equipment


184,646



151,563Vehicles


30,342



30,342Leasehold improvements


2,079,227



1,578,7574,448,286



3,358,600Less: accumulated depreciation


(1,508,466
)


(1,122,884
)Leasehold improvements, property and equipment, net

$
2,939,820


$
2,235,716





37


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




NOTE 6 – GOODWILL AND OTHER INTANGIBLE ASSETS


Goodwill and other intangible assets consisted of the following as of February 28, 2014 and 2013:





February 28,

2014


February 28,

2013Trademarks

$
561,000


$
-Franchise rights


6,580,034



800,000Non-competition agreements


29,000



-Goodwill


3,169,500



-10,339,534



800,000Less: accumulated amortization


(96,012
)


-Goodwill and other intangible assets, net

$
10,243,522


$
800,000





NOTE 7 - DEFERRED REVENUE


The Company deferred franchise fees, area development agreement fees and rebate income of $1,688,647 and $326,500 as of February 28, 2014 and 2013, respectively.  Of the total amount deferred, and as reflected on the balance sheets, an allocation has been made to a related party classification.  See also Note 18.





NOTE 8 - NOTES PAYABLE, RELATED PARTY





In January 2013, in connection with the Rocky Mountain Transaction, the Company purchased leasehold improvements, property and equipment for six Aspen Leaf Yogurt cafés from RMCF in exchange for $900,000 in notes payable.  Interest accrues on the unpaid principal balances of the notes at the rate of 6% per annum, compounded annually, and the notes require monthly payments of principal and interest over a five-year period beginning January 2014 in the case of the recourse notes and January 2015 in the case of the non-recourse notes.  Payment of the notes is secured by a security interest in the six Aspen Leaf Yogurt cafés acquired.





In November 2013, the Company closed four of its under-performing company-owned Aspen Leaf Yogurtcafés and $400,000 in non-recourse notes payable together with accrued interest of $20,991 were abated.  See also Note 16.





The Company repaid the balance of the full-recourse notes, together with accrued interest, in February 2014.





In July 2013, the Company executed promissory notes with RMCF for the purchase and installation of equipment necessary to convert two company-owned cafés into co-branded RMCF and U-Swirl cafés.  Interest accrues on the notes at the rate of 6% per annum, compounded annually and capitalized during the course of construction.  The notes require monthly payments of principal and interest over a five-year period beginning in October 2013.  Payment of the notes is secured by a security interest in all of the equipment purchased with the proceeds of the notes.





On January 16, 2014, the Company entered into a loan and security agreement (the “Loan Agreement”) with RMCF pursuant to which RMCF agreed to loan the Company up to $7,750,000.  As of February 28, 2014, the Company had borrowed $7,666,609 under this Loan Agreement and repaid $988,000, for a net principal balance of $6,678,609.  Interest accrues on the unpaid principal balances of the loans at the rate of 9% per annum, and the principal and accrued interest are due January 16, 2016.  Payment of the loans is secured by a security interest in all of the Company’s assets and the Company’s wholly-owned subsidiary, U-Swirl, guaranteed payment of the loans. RMCF charged a loan origination fee of $542,500, which will be amortized ratably over the life of the loan.
 
 38


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




All payments of principal, interest and fees are payable in cash, shares of Series A Convertible Preferred Stock (the “Preferred Stock”), or a combination thereof, at the option of RMCF.  The Preferred Stock to be designated will pay cumulative dividends equal to 9% of the stated value of the Preferred Stock, have a liquidation preference, vote with the Company’s common stock on all matters submitted for a vote of holders of common stock, and be convertible at the option of the holder into shares of the Company’s common stock.
 
 The Company may prepay up to $2,100,000 of the outstanding amounts due to RMCF under the Loan Agreement at its option and without penalty in cash from the proceeds raised from (i) advances on rebates from its yogurt suppliers; and (ii) the exercise of outstanding stock options and warrants.  The Company also has the option to redeem all of the amounts owed under the Loan Agreement at any time after January 16, 2015 at the rate of 108% of the total amounts owed, by making payment in cash, shares of Preferred Stock, or a combination thereof, at the option of RMCF.
 
 Mandatory prepayment of the loans is required upon the receipt of proceeds from the disposition of any of the Company’s assets, the issuance of any equity securities by the Company (other than upon exercise of outstanding stock options or warrants), the issuance of any debt securities by the Company, or the receipt of insurance proceeds.
 
 In the event of default, RMCF may charge interest on all amounts due under the Loan Agreement at the default rate of 15% per annum, accelerate payment of all amounts due under the Loan Agreement, and foreclose on its security interest.


As of February 28, 2014 the convertible note payable due to RMCF consisted of the following:





February 28,

2014Principal

$
6,678,609Loan origination and financing fees


543,767Fair Value Adjustment


1,290,790Balance


8,513,166Less: current maturities


-Long-term obligations

$
8,513,166








As of February 28, 2014 and 2013, total notes payable due to RMCF consisted of the following:





February 28,

2014


February 28,

2013Convertible note, secured, due 01/16/16

$
8,513,166


$
-Construction loans, secured, due 9/15/18


116,867



-Full recourse, secured, due 12/14/18


-



503,655Non-recourse, secured, due 12/14/19


-



402,924Balance


8,630,033



906,579Less: current maturities


(22,837
)


-Long-term obligations

$
8,607,196


$
906,579


39


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




The following table summarizes the Company’s note payable obligations and related accrued interest as of February 28, 2014:





For the Fiscal Year Ended February 28 or 29:

Amount2015

$
22,8372016


8,537,4122017


25,7412018


27,3292019


16,714Thereafter


-Total minimum payments


8,630,033Less: current maturities


(22,837
)Long-term obligations

$
8,607,196





NOTE 9 - COMMITMENTS AND CONTINGENCIES





Operating leases





The Company conducts its retail operations in facilities leased under five to ten-year non-cancelable operating leases. Certain leases contain renewal options for between five and ten additional years at increased monthly rentals. Two of the leases provide for contingent rentals based on sales in excess of predetermined base levels.





The following table summarizes the future minimum rental payments required under such operating leases as of February 28, 2014:





For the Fiscal Year Ended February 28 or 29:

Amount2015

$
590,3102016


405,9012017


217,8762018


163,7522019


146,833Thereafter


17,623Total minimum payments


1,542,295Less: current maturities


(590,310
)Long-term obligations

$
951,985





Contingencies





Resulting from the purchase of the franchise rights of Yogurtini, the Company may pay up to an additional aggregate amount of $1,400,000, which is contingent on financial performance of the franchise rights over a two-year period beginning January 13, 2013.  During the year ended February 28, 2014, the Company paid $472,398 toward the contingent purchase price.





Resulting from the purchase of the franchise rights of Josie’s, the Company may pay up to an aggregate amount of $63,000, which is contingent on number of franchised cafes of the system that are in operation on the two year anniversary of the October 1, 2013 closing date.





40


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




The CherryBerry selling parties have entered into a one-year lock-up agreement with respect to the 4,000,000 shares of the Company’s common stock (the “CB Shares”) payable at the closing of the CherryBerry Acquisition.  The CB Shares payable give the selling parties voting rights and rights to dividends as of the acquisition date and are therefore included in the calculation of net loss per common share.  The CB Shares shall be issued to the selling parties upon the satisfaction of certain conditions.  Following expiration of the lock-up period, if any of the CherryBerry selling parties desire to sell their CB Shares, they must first offer such shares to the Company and then to RMCF, at a price equal to the average of the market prices at the time of sale.  If the proceeds from the sale of any of the CB Shares is less than $0.50 per share, the Company has agreed to pay a shortfall payment.





Resulting from the purchase of the franchise rights of Fuzzy Peach, the Company may be required to pay up to an additional aggregate amount of $349,000, contingent on financial performance of the franchise rights over the twelve month period beginning February 19, 2014.





NOTE 10 - FRANCHISE ROYALTIES AND FEES


During the year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2012, the Company recognized the following franchise royalties and fees:


February 28,

2014


February 28,

2013


December 31,

2012Royalty income

$
879,312


$
69,636


$
266,532Franchise fee income


68,111



-



135,000Rebate income from purveyors that

supply products to franchisees


387,507



45,485



122,366Marketing fees


141,930



15,175



-Franchise royalties and fees

$
1,476,860


$
130,296


$
523,898





NOTE 11 - OCCUPANCY AND RELATED EXPENSES





Occupancy and related expenses consist of the following for the year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2013:





February 28,

2014


February 28,

2014


December 31,

2012Rent

$
514,155


$
74,695


$
300,874Real estate taxes, insurance and CAM fees


123,126



21,713



54,257Utilities


131,836



14,705



79,177Occupancy and related expenses

$
769,117


$
111,113


$
434,308


41


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014












NOTE 13 - STOCKHOLDERS’ EQUITY





In August 2013, the Company issued 750,000 shares of common stock previously recorded to common stock payable.





During the year ended February 28, 2014, the Company issued 50,000 shares of common stock pursuant to the exercise of common stock options for total gross proceeds of $16,250.




During the year ended February 28, 2014, warrant holders exercised warrants into 237,941 shares of the Company’s common stock for total gross proceeds of $91,348, net of direct offering costs of $38,375.





On January 17, 2014, the Company entered into asset purchase agreements to acquire the CherryBerry franchise system, consisting of 156 franchised self-serve frozen yogurt cafés and one company-owned café.  The CherryBerry system and certain affiliates were acquired for approximately $4.25 million in cash and 4,000,000 shares of the Company’s common stock (the “CB Shares”)at a fair value of $3,060,000 based upon the average of the high and low quoted trading price on the closing date.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of the Company’s assets.  See also Note 8.




42
 
 U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




The CB Shares shall be issued to the selling parties upon the satisfaction of certain conditions.As of February 28, 2014 those shares had not been issued and have been recorded to common stock payable.
 
 On January 17, 2014, the Company entered into asset purchase agreements to acquire the Yogli Mogli franchise system, consisting of 22 cafés and four company-owned cafés at the time of the closing.  The Yogli Mogli system was acquired for $2.15 million in cash and 277,778 shares of the Company’s common stock (the “YM Shares”)at a fair value of $212,500 based upon the average of the high and low quoted trading price on the closing date.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of the Company’s assets.  See also Note 8.


The YM Shares shall be issued upon the earlier of (i) the Yogli Mogli selling parties delivering fully executed copies of all of the lease assignment and assumption agreements related to each company-owned location; and (ii) July 17, 2014.As of February 28, 2014 those shares had not been issued and have been recorded to common stock payable.





The following is a summary of the Company’s non-vested restricted stock activity:





Non-vested

Shares

Weighted

Average Grant

Date Fair Value

Weighted Average

Remaining Vesting

PeriodOutstanding - December 31, 2012
-

$
-

-Granted
759,999


0.1275

5.00 yearsVested
-


-

-Forfeited/Cancelled
-


-

-Outstanding - February 28, 2013
759,999


0.1275

4.88 yearsGranted
-


-Vested
(152,001)


-Forfeited/Cancelled
-


-Outstanding - February 28, 2014
607,998

$
0.1275

3.88 years





During the year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2013, the Company expensed $19,380, $2,501 and $0 related to restricted common stock grants, respectively.





NOTE 14 - STOCK OPTIONS





On June 27, 2007, the stockholders of our Company adopted the 2007 Stock Option Plan which currently permits the granting of options to purchase up to 1,515,208 shares.  The 2007 Stock Option Plan will remain in effect until it is terminated by the board of directors except that no incentive stock option will be granted after June 26, 2017.  On April 20, 2011, the stockholders of our Company adopted the 2011 Stock Option Plan which permits the granting of options to purchase up to 750,000 shares.





43
 
 U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




The following is a summary of the Company’s stock option activity:





Options

Weighted

Average

Exercise

Price

Weighted

Average

Remaining

Contractual

Life

Average

Intrinsic ValueOutstanding - December 31, 2012
962,000

$
0.36

3.58 years

$
-Granted
-


-Exercised
-


-Forfeited/Cancelled
-


-Outstanding - February 28, 2013
962,000


0.36

3.41 years


34,830Granted
-


-Exercised
(50,000)


0.33Forfeited/Cancelled
(150,000)


0.30Outstanding - February 28, 2014
762,000

$
0.38

2.37 years

$
360,840Exercisable – February 28, 2014
762,000

$
0.38

2.37 years

$
360,840





During the year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2012, the Company expensed $38,976, $19,050 and $116,745 related to stock option grants, respectively.





NOTE 15 - WARRANTS





The following is a summary of the Company’s warrant activity:





Warrants

Weighted

Average

Exercise

Price

Weighted

Average Remaining

Contractual

Life

Average

Intrinsic

ValueOutstanding - December 31, 2012
5,111,500

$
5.31

1.45 years

$
18,000Granted
9,110,250


4.61Exercised
-


-Forfeited/Cancelled
(150,000)


6.12Outstanding - February 28, 2013
14,071,750


4.61

1.32 years


52,245Granted
105,688


-Exercised
(237,941)


0.55Forfeited/Cancelled
(7,916,250)


8.21Outstanding - February 28, 2014
6,023,247

$
0.62

1.80 years

$
1,751,764Exercisable - February 28, 2014
2,274,659

$
0.65

1.66 years

$
588,631





During the year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2012, the Company expensed $0, $0 and $0 related to stock warrants issued, respectively.





NOTE 16 - COMPANY-OWNED STORE CLOSURES





In November 2013 the Company closed four under-performing company-owned Aspen Leaf Yogurt cafés.  The operation of these locations was transferred to the Company in January 2013 in connection with the Rocky Mountain Transaction.





44


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




The Company acquired the assets associated with these locations in exchange for $400,000 in non-recourse notes payable.  Prior to the closing of these locations the Company had recorded $420,991 in notes payable and accrued interest.  See also Note 8.





Consistent with the non-recourse note agreements, the Company returned the assets underlying the notes to RMCF, the note holder.  The Company subsequently entered into an agreement to purchase certain assets salvaged from these closed locations.  The Company has agreed to pay $177,500 to RMCF for the assets salvaged from these locations and believes that this approximates the predecessor cost of these assets.





The closure of these locations resulted in the following accounting treatment:





Reduction in property and equipment

$
400,000Reduction in depreciation expense


44,755Reduction in notes payable, related party


400,000Reduction in interest expense


20,991Increase in equipment not in service


177,500Increase in accounts payable, related party


177,500





NOTE 17 - ACQUISITION OF CHERRYBERRY, YOGLI MOGLI AND FUZZY PEACH





On January 17, 2014, the Company entered into an Asset Purchase Agreement with CherryBerry, which was the franchisor of self-serve frozen yogurt cafés branded as “CherryBerry.” Pursuant to the CherryBerry Purchase Agreement, the Company purchased certain assets of CherryBerry used in its business of franchising frozen yogurt cafés, including all of its franchise rights and one company-owned café.  The assets were acquired for approximately $4.25 million in cash and 4 million shares of the Company’s common stock.  The Company also entered into an Asset Purchase Agreement with Yogli Mogli LLC, which was the franchisor of self-serve frozen yogurt cafés branded as “Yogli Mogli”. Pursuant to the Yogli Mogli Purchase Agreement, the Company purchased certain assets of Yogli Mogli used in its business of franchising frozen yogurt cafés, including all of its franchise rights and four company-owned cafés.  The assets were acquired for approximately $2.15 million in cash and 277,778 shares of the Company’s common stock.  The Yogli Mogli Purchase Agreement contains customary representations and warranties, covenants and indemnification obligations.


On February 20, 2014, the Company entered into an Asset Purchase Agreement to acquire the business assets of Fuzzy Peach Franchising, LLC.  The acquisition of all intellectual property and worldwide franchise and license rights includes the rights associated with 17 Fuzzy Peach Frozen Yogurt stores. The Company purchased the Fuzzy Peach Franchising, LLC assets for $481,000 in cash paid at the time of closing, plus an earn-out that could require an increase in the purchase price by up to another $349,000 based upon royalty income generated by Fuzzy Peach stores over the next twelve months.


The Company completed these acquisitions because the self-serve frozen yogurt market is extremely fragmented, and the Company believes successful consolidators will dominate the industry within a few years.  The Company believes the self-serve frozen yogurt industry offers the potential for above-average investment returns, which is predicated upon management’s ability to identify attractive growth opportunities that are compatible with the geographical and operational requirements for long-term success.





The Company preliminarily estimated the fair value consideration paid, the assets acquired and liabilities assumed and allocated a portion of the total purchase consideration to tangible and identifiable intangible assets acquired and liabilities assumed based on their respective estimated fair values at the acquisition date. The excess of the total purchase consideration over the aggregate estimated fair values was recorded as goodwill. Goodwill represents the synergies that the Company believes will arise from the acquisition transactions.  All of the goodwill generated in this acquisition is deductible for tax purposes.  The following table summarizes the preliminary allocation of the purchase price to the fair value of the assets acquired and liabilities assumed:





45


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




CherryBerry


Yogli Mogli


Fuzzy Peach


TotalAssets acquired

$
7,310,000


$
2,420,500


$
481,000


$
10,211,500Lease liabilities assumed


-



(58,000
)


-



(58,000
)Total purchase price

$
7,310,000


$
2,362,500


$
481,000


$
10,153,500





Included in the preliminary purchase price allocation is a provisional amount related to the fair value of the Company’s common stock issued as consideration for the acquisitions and a preliminary valuation of the contingent consideration of the $0.50 floor. The preliminary fair value of the securities was based on the trading market value of the stock; however, the trading market price may not be indicative of the fair value of the Company’s common stock because the stock has a low level of trading activity.  As such, the Company will perform additional valuation procedures to determine if the trading market value of the Company’s common stock is representative of its fair value on the acquisition date. The Company is in the process of completing procedures to determine the fair value of the common stock issued and the contingent consideration, which may result in adjustments to goodwill. The Company expects to finalize the purchase price allocation during fiscal 2015.





The assets acquired were made up of the following during the years ended February 28, 2014:





CherryBerry


Yogli Mogli


Fuzzy Peach


TotalCafé asset

$
261,000


$
1,003,000


$
-


$
1,264,000Trademarks


405,000



156,000



-



561,000Franchise rights


3,615,000



1,201,000



481,000



5,297,000Non-compete agreements


23,000



6,000



-



29,000Goodwill


3,006,000



54,500



-



3,060,500Total assets acquired

$
7,310,000


$
2,420,500


$
481,000


$
10,211,500





The consideration for the purchase price was made up the following assets during the year ended February 28, 2014:





CherryBerry


Yogli Mogli


Fuzzy Peach


TotalCommon stock

$
3,060,000


$
212,500


$
-


$
3,272,500Cash


4,250,000



2,150,000



481,000



6,881,000Total consideration paid

$
7,310,000


$
2,362,500


$
481,000


$
10,153,500





As a part of these transactions the Company recognized $619,435 as acquisition related expenses.  The value of U-Swirl, Inc. common stock was $0.765 and was determined by averaging the high and the low trading prices on the date of the transactions.
  Since the date of acquisition, revenue and net income (loss) included in our operating results from the acquired companies were as follows:
 
 CherryBerry


Yogli MogliRevenues

$
130,505


$
140,571Net income (loss)


54,321



(3,008
)


46


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014


Supplemental Pro Forma Data (Unaudited)
 U-Swirl used the acquisition method of accounting to account for these acquisitions and, accordingly, the results of CherryBerry and Yogli Mogli are included in U-Swirl’s consolidated financial statements for the period subsequent to the date of acquisition. The unaudited supplemental pro forma financial data presented below for the year ended February 28, 2014 and 2013 gives effect to these acquisitions as if they had occurred on March 1, 2012. The supplemental data includes amortization expense related to the acquired intangible assets and transaction costs, such as legal fees, directly associated with the acquisition.


This unaudited supplemental pro forma financial data is presented for informational purposes only and does not purport to be indicative of the results of future operations or the results that would have occurred had the Company completed the acquisition at the beginning of fiscal 2013.


Year ended 
February 28, 
2014


Year ended 
February 28, 
2013Pro forma net revenues

$
10,860,186


$
10,394,477Pro forma loss from continuing operations


(747,711
)


(1,715,486
)Pro forma loss from continuing operations per share (basic)


(0.04
)


(0.17
)





NOTE 18 - RELATED PARTY TRANSACTIONS
 
 The Company was owed $11,989 and $8,597 as of February 28, 2014 and 2013, respectively, from a U-Swirl franchisee that is owned and operated by the grandchildren of the Company’s Chief Marketing Officer.  The corporate secretary and treasurer of the franchisee is also the Company’s corporate secretary.


As of February 28, 2014 and 2013, the Company owed $290,978 and $11,792 to RMCF for inventories, restaurant equipment and various operating expenses, respectively.  See also Note 8.
 
 As of February 28, 2014 and 2013, the Company had deferred revenue of $30,000 and $30,000, respectively, from an area developer in which the Company’s Chief Executive Officer and Chief Operating Officer have a minority interest.





NOTE 19 - 2013 COMPARABLE PERIOD RESULTS OF OPERATIONS (UNAUDITED)





Due to the change in fiscal year which occurred in January 2013, the Company does not have audited results of operations for the twelve months ended February 28, 2013.  Unaudited results of operations for the twelve months ended February 28, 2013 are presented below for comparison to the twelve months ended February 28, 2014:





47


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014




U-SWIRL, INC.CONSOLIDATED STATEMENTS OF OPERATIONS
   For the Year Ended


For the Year EndedFebruary 28, 2014


February 28, 2013UnauditedRevenuesCafé sales, net of discounts

$
4,051,789


$
2,405,839Franchise royalties and fees


1,476,860



572,414Total revenues


5,528,649



2,978,253Café operating costsFood, beverage and packaging costs


1,307,238



797,098Labor and related expenses


1,109,734



633,143Occupancy and related expenses


769,117



471,943Franchise development


60,493



-Marketing and advertising


254,947



72,912General and administrative


1,693,597



1,463,577Depreciation and amortization


520,979



327,259Asset acquisition expenses


619,435



-Fair value adjustment


1,290,790



-Total costs and expenses


7,626,330



3,765,932Loss from operations


(2,097,681
)


(787,679
)Interest income


-



1,314Interest expense


(28,803
)


(7,304
)Loss from continuing operations before income taxes


(2,126,484
)


(793,669
)Provision for income taxes


-



-Net loss

$
(2,126,484
)

$
(793,669
)Net loss per common share, basic and diluted

$
(0.14
)

$
(0.13
)Weighted average common shares outstanding,basic and diluted


15,332,233



6,111,947





48


U-SWIRL, INC.


NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS


FOR THE YEAR ENDED FEBRUARY 28, 2014





NOTE 20 - SUBSEQUENT EVENTS





In March 2014, our wholly-owned subsidiary, Moxie, acquired the business assets of Moxie USA, LLC, which distributed beverage and gummies products, for an earnout of up to a total of 250,000 shares of the Company’s common stock.  Moxie currently distributes beverage and gummies products in 15 states.  The Company’s goal is to utilize Moxie as a more efficient way to provide complementary products such as beverages and gummies, which are sold as toppings, to franchisees as well as other retail clients.





In March 2014, the Company granted 250,000 shares of common stock to various directors for services.  The fair value of the shares on the date of grant totaled approximately $220,000 based upon the value of the services provided.





In April 2014, the Company called its outstanding Class C Warrants for redemption.  Pursuant to a notice of redemption, the holders of the Class C Warrants were given until the close of business on May 22, 2014 to exercise their outstanding warrants at $0.60 per share. Thereafter, any warrants that remain unexercised will automatically be redeemed by the Company at a redemption price of $0.05 per warrant.  A total of 1,648,135 Class C Warrants were exercised for gross proceeds of $988,881.  The Company deposited$11,343 with the warrant redemption agent to pay the warrant redemption price for the 226,865 Class C Warrants that were not exercised prior to the redemption date.





On April 21, 2014, the Company and RMCF agreed to modify the warrant issued to RMCF in January 2013, which allowed RMCF to maintain its pro-rata ownership interest if existing stock options and/or warrants were exercised.  Under that warrant, RMCF had the right to purchase 1.5 times the number of shares of common stock issued upon exercise of the Company’s Class C warrant.  Pursuant to the modification, RMCF agreed to exercise that portion of the warrant which corresponded to the exercise of the Class C warrant to the fullest extent possible on a “cashless exercise” basis immediately after the redemption date for the Class C Warrants.  A total of 565,261 shares of common stock were issued to RMCF as a result.  See also Note 15.





In May 2014, the Company issued a warrant to purchase up to 44,312 shares of restricted common stock at $0.60 per share.  The warrants subsequently expired on May 22, 2014 pursuant to the Notice of Redemption along with the other outstanding Class C Warrants.





In May 2014, the Company entered into a tentative agreement to sell three company-ownedcafés. The Company received a deposit of $600,000 from the buyer to secure the rights to acquire the assets through definitive agreement.  Thesecaféswere acquired in January 2014 as part of the Yogli Mogli Acquisition.  The Company believes that the sale of these assets will approximate the preliminary value assigned to the assets and that the sale of the assets will not have a material impact on results of operations.





Management evaluated all activity of the Company through the issue date of the financial statements and concluded that no other subsequent events have occurred that would require recognition or disclosure in the financial statements.




49





Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure





On June 21, 2013, we dismissed L.L. Bradford & Company, LLC (“Bradford”) as our independent public accountants.  Bradford had audited our financial statements for the fiscal years ended December 31, 2011 and 2012, as well as the two-month transition period ended February 28, 2013.  Also on June 24, 2013, we engaged EKS&H, LLP (“EKS&H”) to serve as our independent public accountants for the fiscal year ending February 28, 2014.  The audit committee of our board of directors approved both actions.  EKS&H has been serving as the independent public accountants of RMCF, our majority owner.





The reports of Bradford on our consolidated financial statements for the two most recent fiscal years ended December 31, 2011 and 2012 and for the two-month transition period ended February 28, 2013 did not contain an adverse opinion or disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope, or accounting principles.





During the fiscal years ended December 31, 2011 and 2012, the two-month transition period ended February 28, 2013, and through the subsequent interim period ending June 21, 2013, there were no disagreements with Bradford on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of Bradford, would have caused Bradford to make reference thereto in its report on our financial statements for such years and transition period.  Further, there were no reportable events as described in Item 304(a)(1)(v) of Regulation S-K occurring within our two most recent fiscal years, the transition period, and the subsequent interim period ending June 21, 2013.





We provided Bradford with a copy of our Form 8-K disclosing this change and requested Bradford to furnish us with a letter addressed to the Commission stating whether it agreed with the above statements.  The letter was filed as an exhibit to the Form 8-K.





During our fiscal years ended December 31, 2011 and 2012, the transition period ended February 28, 2013, and through June 24, 2013, the period prior to the engagement of EKS&H, neither we nor anyone on our behalf consulted EKS&H regarding the application of accounting principles to a specific completed or contemplated transaction, or the type of audit opinion that might be rendered on our financial statements.  Further, EKS&H has not provided written or oral advice to us that was an important factor considered by us in reaching a decision as to any accounting, auditing or financial reporting issues.





We requested that EKS&H review our disclosures on Form 8-K and provided EKS&H with the opportunity to furnish a letter addressed to the SEC containing any new information, clarification of our reviews, or the respects in which it did not agree with the statements in that report.  EKS&H advised that it had reviewed the Form 8-K and had no need to submit a letter in accordance with Item 304 of Regulation S-K.





Item 9A.
Controls and Procedures





Disclosure Controls and Procedures





Disclosure controls and procedures, as defined in Rule 13a-15(e) under theSecurities Exchange Act of 1934 (the “Exchange Act”), are our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”). Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.  Rule 13a-15 under the Exchange Act, requires us to carry out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures as of February 28, 2014, being the date of our most recently completed fiscal year end.  This evaluation was implemented under the supervision and with the participation of our Chief Executive Officer and interim Chief Financial Officer, Ulderico Conte.  Based on this evaluation, this officer has concluded that the design and operation of our disclosure controls and procedures are not effective since the following material weaknesses exist:




50




·
Since the resignation of our chief financial officer in October 2009, our chief executive officer also functions as our interim chief financial officer.  As a result, our officers may not be able to identify errors and irregularities in the financial statements and reports.




·
We were unable to maintain full segregation of duties within our financial operations due to our reliance on limited personnel in the finance function.  While this control deficiency did not result in any audit adjustments to our financial statements, it could have resulted in a material misstatement that might have been prevented or detected by a segregation of duties.




·
Documentation of all proper accounting procedures is not yet complete.





To the extent reasonably possible given our limited resources, we intend to take measures to cure the aforementioned weaknesses, including, but not limited to, the following:





·
Increasing the capacity of our qualified financial personnel to ensure that accounting policies and procedures are consistent across the organization and that we have adequate control over financial statement disclosures.





Management’s Annual Report on Internal Control Over Financial Reporting





Management is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13-a-15(f) under the Exchange Act.  Our internal control system was designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation and fair presentation of our financial statements for external purposes in accordance with generally accepted accounting principles.  Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.





Our officer has assessed the effectiveness of our internal controls over financial reporting as of February 28, 2014.  In making this assessment, management used the criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).





In conducting his evaluation, our officer noted the following material weaknesses in our internal controls over financial reporting:





·
While certain accounting procedures have been adopted, compliance with such procedures has been inconsistent.




·
Segregation procedures could be improved by strengthening cross approval of various functions, including cash disbursements and internal audit procedures where appropriate.




As a result of these deficiencies in our internal controls, our officer concluded further that the design and operation of our disclosure controls and procedures may not be effective and that our internal control over financial reporting was not effective.





In January 2013, our Board of Directors increased the number of directors to eight and elected five independent directors.  In February 2013, the Board of Directors appointed three independent directors, each of whom meets the audit committee financial expert standards, to serve on the Audit Committee.  During fiscal 2015, we may implement additional appropriate changes as they are identified, including changes to remediate material weaknesses in our internal controls.




51





This annual report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm pursuant to an exemption for smaller reporting companies under Section 989G of the Dodd-Frank Wall Street Reform and Consumer Protection Act.





Changes in Internal Control over Financial Reporting





During the period covered by this annual report, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.





Item 9B.
Other Information





None.








PART III





Item 10.
Directors, Executive Officers and Corporate Governance





Our directors, executive officers and key employees, and their ages as of the date of this report, are as follows:


Name
Age
PositionFranklin E. Crail
71
Chairman of the BoardUlderico Conte
44
Chief Executive Officer, Interim Chief Financial Officer and DirectorTerry A. Cartwright
51
Chief Operating OfficerHenry E. Cartwright
74
Chief Marketing OfficerScott G. Capdevielle
47
DirectorClyde W. Engle
70
DirectorBryan J. Merryman
53
DirectorLee N. Mortenson
77
Director





The term of office of each director ends at the next annual meeting of our stockholders or when such director’s successor is elected and qualifies.  The term of office of each officer ends at the next annual meeting of our Board of Directors, expected to take place immediately after the next annual meeting of stockholders, or when such officer’s successor is elected and qualifies.





Franklin E. Crailhas been the Chairman of the Board since February 2013 and a director since January 2013.  Mr. Crail co-founded the first Rocky Mountain Chocolate Factory store in May 1981.  Since RMCF’s incorporation in November 1982, he has served as its Chief Executive Officer, President and as a director, and, from September 1981 to January 2000, he served as its Treasurer.  He was elected Chairman of the Board in March 1986.  Prior to founding RMCF, Mr. Crail was co-founder and President of CNI Data Processing, Inc., a software firm which developed automated billing systems for the cable television industry.  As RMCF’s Chief Executive Officer, President and director since 1982, Mr. Crail brings his leadership, extensive experience and knowledge of the industry and the investment community to the Board of Directors.




52




Ulderico Conte has been our Chief Executive Officer and Interim Chief Financial Officer since April 2011 and a director since November 2010.  He served as our Vice President of Franchise Development from April 2007 to April 2011 and was one of our founders.  From June 2005 to November 2005, he researched various restaurant concepts before deciding on the EVOS concept and forming the Company.  He served as our Vice President, Secretary and a Director from inception to April 2007.  Mr. Conte was the President and Principal of PIN Financial LLC, a FINRA member investment banking firm from May 2005 to February 2009.  From October 2004 to May 2005, he worked as an institutional trader with Garden State Securities.  He served in a similar role with Tradition Aisle Securities from February 2003 to October 2004.  Until 2003, Mr. Conte owned and operated Stone Harbor Financial Services, LLC, a securities broker-dealer firm.  Following the events of September 11, 2001, he made substantial personal loans to support Stone Harbor and pay its employees.  Stone Harbor ceased doing business in 2003 and Mr. Conte filed for personal bankruptcy in October 2003.  He received a Bachelor’s degree in Business from Rider University and a Master’s degree in Business Administration from the University of Phoenix.  We have concluded that Mr. Conte should serve as a director because of his familiarity with the Company and business development experience.




Terry A. Cartwrighthas been our Chief Operating Officer since April 2011 and a director since January 2013.  He served as our Vice President of Café Development since April 2007 and was one of our founders.  Since May 2002, he has served as President of Gold Key, Inc., d/b/a Monster Framing, a wholesale custom picture and art manufacturing company specializing in hotels, timeshares, condos and retail shops.  Since 1989, he has served as Vice President and Director of Operations for MV Entertainment, a franchisee of Blockbuster Entertainment Corp., with stores in Southern California.  From 1985 until 1989, he served as the Director of New Store Development for Major Video Corp.  Mr. Cartwright attended the University of Nevada at Las Vegas.  He is the son of Henry E. Cartwright.  We have concluded that Mr. Cartwright should serve as a director because of his previous experience with franchised concepts.





Henry E. Cartwrighthas been our Chief Marketing Officer since January 2013.  He previously served as our Chairman of the Board and President from April 2007 to January 2013, and as our Chief Executive Officer from April 2007 to April 2011.  From October 2002 to April 2007, Mr. Cartwright was semi-retired and a private investor in numerous real estate and lending transactions and other ventures.  Mr. Cartwright served as Chairman of the board of directors of Major Video Corp. from December 1982 until its merger with Blockbuster Entertainment Corporation in January 1989.  During his tenure, Major Video had over 20 multiple unit franchisees in 28 states and Canada.  In September 1993, Mr. Cartwright founded Back to the 50’s, Inc., a company that sold 50’s and 60’s memorabilia through a mail order catalog and showroom.  Back to the 50’s, Inc., was acquired by Crowne Ventures, Inc. in November 1995.  Mr. Cartwright served as a Director of Crowne Ventures, Inc., from 1995 until he resigned in April 1998.  He served as Chairman of the board of directors of Americabilia.com, Inc. (now known as Seaena, Inc.), from September 1999 to October 2002.  Americabilia was engaged in direct Internet merchandising of American-themed collectibles, gifts and memorabilia.  Mr. Cartwright also had similar management responsibilities with franchised concepts such as Taco Boy, a Mexican fast food company; Olde English Fish and Chips; Mom’s Ice Cream; and Pizza Hut. He is the father of Terry A. Cartwright.  We have concluded that Mr. Cartwright should serve as a director because of his previous management experience with franchised concepts.





Scott G. Capdeviellehas been a director since January 2013.  Hehas served on the RMCF Board of Directors since June 2009.  Mr. Capdevielle founded and has served as President, Chief Executive Officer and a member of the Board of Directors of Syndicom, Inc., a software and consulting company, since 2000.  Prior to founding Syndicom, Inc., from 1999 to 2000, Mr. Capdevielle was Chief Executive Officer and founder of Untv, Inc., a company pioneering user-generated web video and distribution on the Internet.  From 1995 to 1999, Mr. Capdevielle founded and held the position of Chief Technical Officer and a member of the Board of Directors of Andromedia Corporation, a developer of web analytics software to Fortune 1000 companies prior to its sale to Macromedia, Inc.  Mr. Capdevielle has been engaged in the software industry since 1993 and has served on several advisory boards and Board of Directors of technology companies from 1994 to present.  He is currently a partner in Incas, LLC, a seed stage investment company focused in the medical device industry.  Mr. Capdevielle’s extensive executive and board experience brings operational, investment, strategic, technology and industry expertise to the Board of Directors.




53





Clyde W. Englehas been a director since January 2013.  Hehas served on the RMCF Board of Directors since January 2000, and previously from December 1987 to August 1995. Mr. Engle is currently the Chairman of the Board of Directors, President and Chief Executive Officer of Lincolnwood Bancorp, Inc. (formerly known as GSC Enterprises, Inc.). Lincolnwood Bancorp, Inc. owned the Bank of Lincolnwood until June 2009 when the Bank of Lincolnwood came under control of the Federal Deposit Insurance Corporation (“FDIC”). Mr. Engle’s extensive executive and board experience brings governance, investment and strategic expertise to the Board of Directors.





Bryan J. Merrymanhas been a director since January 2013.  He joined RMCF in December 1997 as its Chief Financial Officer and Vice President - Finance.  Since April 1999, Mr. Merryman has also served as its Chief Operating Officer and as a director, and since January 2000, as its Treasurer.  From January 1997 to December 1997, Mr. Merryman was a principal in Knightsbridge Holdings, Inc. (a leveraged buyout firm).  Mr. Merryman also served as Chief Financial Officer of Super Shops, Inc., a retailer and manufacturer of after-market auto parts, from July 1996 to November 1997, and prior to July 1996, was employed for more than eleven years by Deloitte and Touche LLP, most recently as a Senior Manager.  Mr. Merryman’s extensive operational, accounting and financial expertise, along with his extensive knowledge of our business and broad industry expertise, provides significant value and insights to the Board of Directors.





Lee N. Mortensonhas been a director since January 2013, and has served on the RMCF Board of Directors since 1987. He has been engaged in consulting and investment activities since July 2000 and was a Managing Director of Kensington Partners, LLC (a private investment firm) from June 2001 to April 2006.  Mr. Mortenson has been President and Chief Executive Officer of Newell Resources LLC since 2002 providing management consulting and investment services.  Mr. Mortenson served as President, Chief Operating Officer and a director of Telco Capital Corporation, a manufacturing and real estate company, from January 1984 to February 2000.  He was President, Chief Operating Officer and a director of Sunstates Corporation, a manufacturing and real estate company, from December 1990 to February 2000.  Mr. Mortenson was a director of Alba-Waldensian, Inc., an apparel and medical device manufacturing company, from 1984 to July 1999, and also served as its President and Chief Executive Officer from February 1997 to July 1999.  Mr. Mortenson’s general business experience and investment expertise provides valuable insight to the Board of Directors with respect to our operations and financial success.





All of our officers work full-time for the company.





Nominees to the Board of Directors





Since our last proxy statement, we have not made any material changes to the procedures by which stockholders may recommend nominees to our Board of Directors.





Committees





The following directors serve on committees of our Board of Directors:





·
Audit Committee – Bryan J. Merryman (Chair), Franklin E. Crail and Lee N. Mortenson


·
Compensation Committee – Bryan J. Merryman (Chair), Scott G. Capdevielle and Lee N. Mortenson


·
Nominating and Corporate Governance Committee – Bryan J. Merryman (Chair), Scott G. Capdevielle and Lee N. Mortenson





The Board of Directors has determined that each of Bryan J. Merryman, Franklin E. Crail and Lee N. Mortenson meets the audit committee financial expert standards as established by the SEC and the financial sophistication standards as established by the Nasdaq Stock Market.




54




Conflicts of Interest





Our officers and directors are now and may in the future become shareholders, officers or directors of other companies, which may be formed for the purpose of engaging in business activities similar to us.  Accordingly, direct conflicts of interest may arise in the future with respect to such individuals acting on behalf of us or other entities.  Moreover, additional conflicts of interest may arise with respect to opportunities which come to the attention of such individuals in the performance of their duties or otherwise.  Currently, we do not have a right of first refusal pertaining to opportunities that come to their attention and may relate to our business operations.





Our officers and directors are, so long as they are our officers or directors, subject to the restriction that all opportunities contemplated by our plan of operation which come to their attention, either in the performance of their duties or in any other manner, will be considered opportunities of, and be made available to us and the companies that they are affiliated with on an equal basis.  A breach of this requirement will be a breach of the fiduciary duties of the officer or director.  If we or the companies with which the officers and directors are affiliated both desire to take advantage of an opportunity, then said officers and directors would abstain from negotiating and voting upon the opportunity.  However, all directors may still individually take advantage of opportunities if we should decline to do so.  Except as set forth above, we have not adopted any other conflict of interest policy with respect to such transactions.





Code of Ethics





We have adopted a code of ethics that applies to our chief executive officer, chief financial officer, principal accounting officer or controller, or persons performing similar functions.





Section 16(a) Beneficial Ownership Reporting Compliance





Section 16(a) of the Securities Exchange Act of 1934 requires our officers, directors, and persons who beneficially own more than 10% of our common stock to file reports of securities ownership and changes in such ownership with the SEC.  Officers, directors and greater than 10% beneficial owners are also required by rules promulgated by the SEC to furnish us with copies of all Section 16(a) forms they file.





Based solely upon a review of the copies of such forms furnished to us, or written representations that no Form 5 filings were required, we believe that during the fiscal year ended February 28, 2014, there was compliance with all Section 16(a) filing requirements applicable to our officers, directors and greater than 10% beneficial owners, except as follows:


Reporting Person
Date Report Due
Date Report FiledLee N. Mortenson
Form 4 due October 3, 2013
October 7, 2013Lee N. Mortenson
Form 4 due October 17, 2013
October 21, 2013Clyde W. Engle
Form 4 due November 15, 2013
November 21, 2013Lee N. Mortenson
Form 4 due January 24, 2014
January 27, 2014Clyde W. Engle
Form 4 due January 31, 2014
February 2, 2014Clyde W. Engle
Form 4 due February 12, 2014
February 14, 2014




Item 11.
Executive Compensation





The following table sets forth information about the remuneration of our principal executive officer for services rendered during our fiscal year ended February 28, 2014, the two months ended February 28, 2013 and the year ended December 31, 2012, and our other executive officers that had total compensation of $100,000 or more for our last completed full fiscal year (the “Named Officers”).  Certain tables and columns have been omitted as no information was required to be disclosed under those tables or columns.




55





Summary Compensation Table


Name and Principal

Position
Year (1)
Salary ($)
Stock Awards

($)
Option Awards

($)(2)
All Other

Compensation

($)(3)
Total ($)Henry E. Cartwright,

Chief Marketing

Officer (4)
2014

2013

2012
103,683

16,100

84,000
6,460

834

7,980
8,828

4,858

29,141
14,553

2,790

16,740
133,524

24,582

137,861Ulderico Conte,

CEO
2014

2013

2012
103,683

16,100

84,000
6,460

834

7,980
9,187

4,940

29,643
19,826

3,172

22,032
139,156

25,046

143,655Terry A. Cartwright,

COO
2014

2013

2012
103,683

15,100

60,000
6,460

834

13,300
9,187

4,940

29,643
16,463

3,672

19,032
135,793

24,546

121,975





(1)
Amounts shown for 2013 are for the two months ended February 28, 2013.


(2)
The option awards were valued using a Black-Scholes option pricing model using the following assumptions:  volatility rate of 123.53% - 125.65%; risk-free interest rate of 0.40% - 1.09% based on a U.S. Treasury rate of 3 years; and a 3-year expected option life (simplified method).


(3)
The amounts shown below consist of health insurance and dental insurance premiums paid for these officers and their dependents.


(4)
Mr. Cartwright served as our President during our fiscal year ended December 31, 2012.





Employment Arrangements





On January 14, 2013, we entered into employment agreements with each of the above named officers.  Each agreement has an initial term of two years and will renew automatically for additional one-year terms unless we or the employee notifies the other that it will not renew at least 30 days prior to the end of the current term.  For the first year of employment, each officer will receive a monthly base salary of $8,400 and an annual bonus of $30,000 if our earnings for the year ended February 28, 2014, prior to interest, taxes, depreciation and amortization, are at least $712,900.  For the second year of employment, each will receive a monthly base salary of $9,240 and an annual bonus of $33,000 if our earnings for the year ended February 28, 2015, prior to interest, taxes, depreciation and amortization, are at least $1,120,400.  In addition, each individual was granted 253,333 restricted shares of common stock, which vest at the rate of 20% per year on each anniversary date of the Closing (January 14, 2013).  If the bonus goals are achieved during the second year of employment, each will also receive restricted shares of common stock equal to his base salary divided by the fair market value of our common stock on the date of grant, which will vest at the rate of 20% per year on each anniversary of the date the shares are granted.  The shares that were issued, as well as those that may be issued under the bonus arrangement, are subject to the terms of a restricted stock agreement.





56





The following table set forth information regarding the outstanding equity awards as of February 28, 2014 for our Named Officers.





Outstanding Equity Awards At Fiscal Year-End


Name
Option Awards
Stock awardsNumber of

Securities

Underlying

Unexercised

Options (#)

Exercisable
Number of

Securities

Underlying

Unexercised

Options (#)

Unexercisable
Option

Exercise Price

($)
Option

Expiration

Date
Number of

shares or

units of stock

that have not

vested (#)
Market value

of shares or

units of stock

that have not

vested ($)Henry E.

Cartwright
-0-

-0-
175,000 (1)

59,000 (2)
0.42

0.28
5/16/2016

11/17/2016
202,666
172,266Ulderico

Conte
-0-

-0-
175,000 (1)

59,000 (2)
0.42

0.28
5/16/2016

11/17/2016
202,666
172,266Terry A.

Cartwright
-0-

-0-
175,000 (1)

50,000 (2)
0.42

0.28
5/16/2016

11/17/2016
202,666
172,266


(1)
These options were granted on May 16, 2011 and all have vested.


(2)
These options were granted on November 17, 2011 and all have vested.





During the fiscal year ended December 31, 2012, the two-month period ended February 28, 2013, and the fiscal year ended February 28, 2014, there were no exercises of stock options by the Named Officers.




Compensation of Directors




Each of our non-employee directors receives reimbursement for expenses incurred as a result of attendance at any meetings of the Board or the committees of the Board.  Prior to February 12, 2013, we did not pay any cash compensation to any of our non-employee directors for their service on the board.  We did not pay compensation of any kind to our non-employee directors for services rendered during the year ended December 31, 2012.





On February 12, 2013, we adopted a Non-Employee Director Compensation Program which was amended on March 7, 2014 and sets forth the following compensation:





·
Annual cash compensation of $6,000 to each of the Audit Committee Chair, Compensation Committee Chair and Nominating and Corporate Governance Committee Chair


·
Annual cash compensation of $2,000 to each member of the Audit Committee and Nominating and Corporate Governance Committee


·
Annual cash compensation of $3,000 to each member of the Compensation Committee


·
Per meeting cash compensation to each member of the Audit Committee of $250 for each meeting attended by phone and $500 for each meeting attended in person


·
Stock grant of 150,000 shares of common stock upon first being appointed or elected to the Board, which shares vest on the grant date


·
Stock grant of 50,000 shares of common stock on March 1 of each year, beginning in 2014, which shares vest on the grant date





The following table sets forth the compensation paid to our non-employee directors for services rendered during the fiscal year ended February 28, 2014:





Director Compensation


Name
Fees Earned or Paid

in Cash ($)
Stock Awards ($)
Total ($)Scott G. Capdevielle
5,000
-
5,000Franklin E. Crail
2,750
-
2,750Clyde W. Engle
-
-
-Bryan J. Merryman
18,750
-
18,750Lee N. Mortenson
7,750
-
7,750




57


Stock Option Plans





2007 Stock Option Plan.  Our stockholders adopted the 2007 Stock Option Plan (the “2007 Plan”) on June 27, 2007, which currently permits the granting of options to purchase up to 1,544,002 shares.  This amount adjusts at the beginning of each of our fiscal quarters to a number equal to 10% of the number of shares of common stock outstanding at the end of our last completed fiscal quarter, or 470,000 shares, whichever is greater, and provided further that such number will be increased by the number of shares of option stock that we subsequently may reacquire through repurchase or otherwise.  Options may be granted to officers, directors, employees, and consultants on a case-by-case basis.  The 2007 Plan will remain in effect until it is terminated by the board of directors or, if so appointed by the board, a committee of two or more disinterested directors administering the 2007 Plan, except that no incentive stock option will be granted after June 26, 2017.




The 2007 Plan is intended to (i) encourage ownership of shares by our employees and directors and certain consultants to the company; (ii) induce them to work for the benefit of the company; and (iii) provide additional incentive for such persons to promote the success of the company.





The board of directors or committee may amend, suspend or discontinue the 2007 Plan at any time or from time to time; provided that no action of the board will cause incentive stock options granted under the 2007 Plan not to comply with Section 422 of the Internal Revenue Code unless the board specifically declares such action to be made for that purpose and provided further that without the approval of our stockholders, no such action may: (i) materially increase the maximum aggregate number of shares that may be issued under options granted pursuant to the 2007 Plan, (ii) materially increase the benefits accruing to 2007 Plan participants, or (iii) materially modify eligibility requirements for the participants.  Moreover, no such action may alter or impair any option previously granted under the 2007 Plan without the consent of the holder of such option.





The 2007 Plan contains provisions for proportionate adjustment of the number of shares for outstanding options and the option price per share in the event of stock dividends, recapitalizations, stock splits or combinations.





Each option granted under the 2007 Plan will be evidenced by a written option agreement between us and the optionee.  The option price of any incentive stock option or non-qualified option may be not less than 100% of the fair market value per share on the date of grant of the option; provided, however, that any incentive stock option granted to a person owning more than 10% of the total combined voting power of the common stock will have an option price of not less than 110% of the fair market value per share on the date of grant.  “Fair Market Value” per share as of a particular date is defined in the 2007 Plan as the closing price of our common stock as reported on a national securities exchange or the last transaction price on the reporting system or, if none, the average of the closing bid and asked prices of our common stock in the over-the-counter market or, if such quotations are unavailable, the value determined by the board in its discretion in good faith.





The exercise period of incentive stock options or non-qualified options granted under the 2007 Plan may not exceed ten years from the date of grant thereof.  Incentive stock options granted to a person owning more than ten percent of the total combined voting power of our common stock will be for no more than five years.





The right to exercise an option granted under the 2007 Plan will be subject to the following vesting periods, subject to the optionee continuing to be an eligible participant and the occurrence of any other event (including the passage of time) that would result in the cancellation or termination of the option:





(i)
no portion of the option will be exercisable prior to four (4) months from the grant date;





(ii)
upon and after the expiration of one year from the grant date, the optionee may exercise up to one-half of the option granted; and





(iii)
the option will become exercisable on a cumulative basis as to the remaining half of the total option granted, two years from the grant date, so that the option will have become fully exercisable, subject to the optionee’s remaining an eligible participant, on the second anniversary of such grant date; and




58




(iv)
such additional vesting periods as may be determined by the board or committee in its sole discretion.





To exercise an option, the optionee must pay the full exercise price in cash, by check or such other legal consideration as may be approved by the committee.  Such other consideration may consist of shares of common stock having a fair market value equal to the option price, cashless exercise, a personal recourse note, or in a combination of cash, shares, cashless exercise and a note, subject to approval of the committee.





An option may not be exercised unless the optionee then is an employee, consultant, officer, or director of our company or its subsidiaries, and unless the optionee has remained continuously as an employee, consultant, officer, or director of our company since the date of grant of the option.  If the optionee ceases to be an employee, consultant, officer, or director of our company or its subsidiaries other than by reason of death, disability, or for cause, all options granted to such optionee, fully vested to such optionee but not yet exercised, will terminate three months after the date the optionee ceases to be an employee, consultant, officer or director of our company.





If the employee is terminated “for cause” (as that term is defined in the 2007 Plan), such employee’s options will terminate immediately on the date the optionee ceases employment or association.





If an optionee dies while an employee, consultant, officer or director of our company, or if the optionee’s employment, consultant, officer, or director status terminates by reason of disability, all options theretofore granted to such optionee, whether or not otherwise exercisable, unless earlier terminated in accordance with their terms, may be exercised at any time within one year after the date of death or disability of said optionee, by the optionee or by the optionee’s estate or by a person who acquired the right to exercise such options by bequest or inheritance or otherwise by reason of the death or disability of the optionee.





As of February 28, 2014, 62,000 options were outstanding under the 2007 Plan.





2011 Stock Option Plan.  Our stockholders adopted the 2011 Stock Option Plan (the “2011 Plan”) on April 20, 2011, which permits the granting of options to purchase up to 750,000 shares.  The terms and provisions of the 2011 Plan are identical to the 2007 Plan, except that the 2011 Plan provides for the granting of “formula options” to purchase 25,000 shares of common stock to our non-employee directors on the date on which such directors are first appointed by the board or elected by the stockholders. Immediately after the completion of each annual meeting of the stockholders of the Company, each non-employee member of the board will be awarded a formula option to purchase 25,000 shares of common stock. Formula options will have an option price equal to the fair market value of the common stock as of the date of such grant. The terms of the 2011 Plan, including the vesting provisions described above, will apply to all formula options granted.  Formula options to purchase a total of 50,000 shares of common stock were granted on April 26, 2011, of which half vested April 20, 2012 and the remaining half vested April 20, 2013.  None of these formula options were outstanding at February 28, 2014.





In addition, options to purchase a total of 700,000 shares of common stock were granted on May 16, 2011 and on November 17, 2011, of which one-half vested on the one-year anniversary of the grant date and the remaining half will vest on the two-year anniversary of the grant date.





As of February 28, 2014, 700,000 options were outstanding under the 2011 Plan.




59




Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters





Set forth below is information regarding the beneficial ownership of our common stock, as of May 31, 2014 by (i) each person whom we know owned, beneficially, more than 5% of the outstanding shares of our common stock, (ii) each of our directors, (iii) each of our named executive officers, and (iv) all of the current directors and executive officers as a group.





We believe that, except as otherwise noted below, each named beneficial owner has sole voting and investment power with respect to the shares listed.  Unless otherwise indicated herein, beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission, and includes voting or investment power with respect to shares beneficially owned.





A person is also deemed to be the beneficial owner of a security if that person has the right to acquire beneficial ownership of that security within 60 days of May 31, 2014 through the exercise of options or warrants, vesting of restricted stock, or through the conversion of another security.  For purposes of calculating each person’s or group’s percentage ownership, shares of our common stock issuable upon the exercise of options or warrants, vesting of restricted stock or through conversion of another security within 60 days of May 31, 2014 are included as outstanding and beneficially owned for that person or group, but are not treated as outstanding for the purpose of computing the percentage ownership of any other person or group.





Beneficial Owner
Number of Shares

Beneficially Owned
Percent of Class (1)5%StockholdersRocky Mountain Chocolate Factory, Inc.

(2)(3)(4)
8,906,514

50.0%Directors and Executive OfficersTerry A. Cartwright (4)(5)(6)(7)
798,833

4.4%Ulderico Conte (4)(5)(6)(8)
784,333

4.4%Henry E. Cartwright (4)(5)(6)(9)
691,333

3.8%Franklin E. Crail (2)
200,000

1.1%Scott G. Capdevielle (2)
170,000

1.0%Bryan J. Merryman (2)
134,900

0.8%Clyde W. Engle (2)
106,000

0.6%Lee N. Mortenson (2)
80,111

0.5%All directors and officers as a group

(8 persons)(10)
2,965,510

16.0%





(1)
Based on 17,815,484 shares outstanding.




(2)
The address for this stockholder is 265 Turner Drive, Durango, Colorado 81303.




(3)
Excludes shares of Series A Convertible Preferred Stock into which this stockholder’s revolving line of credit is convertible.  The Series A Convertible Preferred Stock may in turn be converted into shares of common stock.  Also excludes shares issuable upon the exercise of warrants which become exercisable immediately upon the exercise of our currently outstanding warrants and options.




(4)
This stockholder entered into a Voting Agreement dated January 14, 2013, pursuant to which it agreed to vote its/his shares in order to ensure that, among other things, (i) the size of the U-Swirl board shall be eight directors; (ii) Henry Cartwright, Terry Cartwright and Ulderico Conte remain on the U-Swirl board for at least the first full year after the date of the Voting Agreement, and (iii) for so long as RMCF continues to beneficially own at least 10% of our outstanding common stock, at least a majority of the board shall consist of directors designated by RMCF.  Neither the number of shares shown to be owned beneficially by this stockholder nor the percent of class gives effect to the Voting Agreement, which gives the parties to that agreement the shared power to direct the voting of the shares owned by the parties.




(5)
The address for this stockholder is 1175 American Pacific #C, Henderson, Nevada 89074.




(6)
Includes 202,666 shares which are subject to forfeiture and vest at the rate of 20% per year beginning January 14, 2014.  The shares may be voted while subject to the vesting requirements.




60




(7)
Includes 200,000 shares held of record by Gold Key Management Corp. and 234,000 shares issuable upon the exercise of vested stock options.




(8)
Includes 25,000 shares held by Mr. Conte’s wife and 234,000 shares issuable upon the exercise of vested stock options.




(9)
Includes 234,000 shares issuable upon the exercise of vested stock options.




(10)
Includes 702,000 shares issuable upon the exercise of vested stock options.





Changes in Control





There are no agreements known to management that may result in a change of control of our company.





Equity Compensation Plan Information





The following table sets forth information as of the end of the most recently completed fiscal year, February 28, 2014:


Plan category
Number of securities to be

issued upon exercise of

outstanding options,

warrants and rights
Weighted average exercise

price of outstanding

options, warrants and rights
Number of securities

remaining available for

future issuanceEquity compensation

plans approved by

security holders
762,000
$0.38
1,532,002Equity compensation

plans not approved by

security holders
-0-
--
-0-Total
762,000
$0.38
1,532,002





Item 13.
Certain Relationships and Related Transactions, and Director Independence





Purchase of U-Swirl Frozen Yogurt Concept





On September 30, 2008, we acquired the worldwide rights to the U-Swirl Frozen Yogurt concept in exchange for 100,000 restricted shares of our common stock from a company then known as U-Swirl Yogurt, Inc. (now known as U Create Enterprises), which is owned by the grandchildren and family of Henry E. Cartwright.  The shares were valued at $180,000, based on the fair market value of the stock on the date of acquisition.  U Create Enterprises operates a frozen yogurt café in Henderson, Nevada, as our franchisee.  As part of the terms of the acquisition, we agreed that no franchise fees or royalties would be charged with respect to this location, as it will permit us to use the location as a training facility.  We did not obtain a formal valuation on the use of the Henderson location for training purposes, but we believed that being able to have our initial U-Swirl employees trained there and utilize the past experience of that location with respect to restaurant operation procedures and staffing, inventory and advertising was critical to us at the time.  In addition, we granted U Create Enterprises the right to open additional locations in Henderson, Boulder City and Pahrump, Nevada.  U Create Enterprises will pay an initial franchise fee of $5,000 for each location and a 3% royalty on net sales.  We were owed $11,989 and $8,597 as of February 28, 2014 and 2013, respectively, by u-Create Enterprises.





Area Development Agreement with RMR Group, LLC





On February 15, 2010, we entered into an area development agreement with RMR Group, LLC for the Monmouth County, New Jersey, development area.  American Pacific Investments, Limited, which owns one-third of RMR Group, is a Nevada limited liability company whose members are Ulderico Conte, Terry A. Cartwright, Paul Heroy and Stan Cartwright.  Ulderico Conte and Terry Cartwright are directors and officers of the Company, and Terry Cartwright and Stan Cartwright are the adult children of Henry E. Cartwright.  RMR Group paid a $30,000 development fee, which was derived in accordance with our then existing policy of $15,000 plus $5,000 times the minimum number of units for an area development agreement.  The minimum number of units for the Monmouth County area was determined to be three. We have entered into an amendment to the area development agreement to delay the development schedule by one year.  RMR Group has identified a location for its initial café that has been involved in various construction delays which have further stalled the development of the area.




61




Amounts Owed to RMCF





In January 2013, in connection with the Rocky Mountain Transaction, we purchased leasehold improvements, property and equipment for six Aspen Leaf Yogurt cafés from RMCF in exchange for $900,000 in notes payable.  Interest accrues on the unpaid principal balances of the notes at the rate of 6% per annum, compounded annually, and the notes require monthly payments of principal and interest over a five-year period beginning January 2014 in the case of the recourse notes and January 2015 in the case of the non-recourse notes.  Payment of the notes is secured by a security interest in the six Aspen Leaf Yogurt cafés acquired.  In November 2013, the Company closed four of its under-performing company-owned Aspen Leaf Yogurt cafés and wrote off $400,000 in non-recourse notes payable together with accrued interest of $20,991.  Consistent with the non-recourse note agreements, we returned the assets underlying the notes to RMCF, the note holder.  We subsequently entered into an agreement to purchase certain assets salvaged from these closed locations.  We agreed to pay $177,500 to RMCF for the assets salvaged from these locations, which was approximately the predecessor cost of these assets.  In February 2014, we paid off the recourse notes.





In July 2013, we executed promissory notes with RMCF for the purchase and installation of equipment necessary to convert two company-owned cafés into co-branded RMCF and U-Swirl cafés.  Interest accrues on the notes at the rate of 6% per annum, compounded annually and capitalized during the course of construction.  The notes require monthly payments of principal and interest over a five-year period beginning in October 2013.  Payment of the notes is secured by a security interest in all of the equipment purchased with the proceeds of the notes.  At February 28, 2014, the unpaid balance of these notes was $116,867.





In January 2014, we acquired the business assets of two operators and franchisors of self-serve frozen yogurt cafés, CherryBerry Enterprises, LLC (“CherryBerry”) and Yogli Mogli, LLC (“Yogli Mogli”), thereby adding 182 cafés.  CherryBerry and certain affiliates were acquired for approximately $4.25 million in cash and 4,000,000 shares of our common stock.  Yogli Mogli was acquired for $2.15 million in cash and 277,778 shares of our common stock.  RMCF provided the funding for these acquisitions through a convertible note, which is secured by all of our assets.





Under the loan and security agreement with RMCF, RMCF agreed to loan us up to $7,750,000.  Interest accrues at the rate of 9% per annum, with the principal and unpaid accrued interest due January 16, 2016.  Payment of the loan is secured by a security interest in all of our assets.  RMCF charged an origination fee of $542,500, which accrued to the loan and is amortized over the life of the loan.  All payments of principal, interest and fees are payable in cash, shares of Series A Convertible Preferred Stock (the “Preferred Stock”), or a combination thereof, at the option of RMCF.  The rights and preferences of the Preferred Stock include cumulative dividends equal to 9% of the stated value of $0.90 per share, a liquidation preference, the right to vote with our common stock on all matters submitted for a vote to holders of the common stock, and the right to convert into shares of our common stock.  We may prepay up to $2,100,000 of the outstanding amounts due at our option and without penalty in cash from the proceeds raised from (i) advances on rebates from our yogurt suppliers and (ii) the exercise of outstanding stock options and warrants.  We also have the option to redeem all amounts owed under the loan agreement at any time after January 16, 2015 at the rate of 108% of the total amounts owed, by making payment in cash, shares of Preferred Stock, or a combination thereof, at the option of RMCF.  At February 28, 2014, we owed $8,513,166 to RMCF under the convertible note.





In addition, we owed $290,978 and $11,792 to RMCF at February 28, 2014 and 2013, respectively, for inventories, restaurant equipment and various operating expenses.




62




Future Transactions





All future affiliated transactions will be made or entered into on terms that are no less favorable to us than those that can be obtained from any unaffiliated third party.  A majority of the independent, disinterested members of our board of directors will approve future affiliated transactions, and we will maintain at least two independent directors on our board of directors to review all material transactions with affiliates.





Director Independence





As of the date of this annual report, our common stock is not listed on any exchange.  As such, we are not currently subject to corporate governance standards of listed companies, which require, among other things, that the majority of the board of directors be independent.  Since we are not currently subject to corporate governance standards relating to the independence of our directors, we choose to define an “independent” director in accordance with the Nasdaq Capital Market’s requirements for independent directors (Nasdaq Marketplace Rule 5605(a)(2)).  The Nasdaq independence definition includes a series of objective tests, such as that the director is not an employee of the company and has not engaged in various types of business dealings with the company.





Scott G. Capdevielle, Franklin E. Crail, Clyde W. Engle, Bryan J. Merryman and Lee N. Mortenson are considered independent directors under the above definition.


Item 14.
Principal Accounting Fees and Services





The fees billed for professional services rendered by our principal accountant are as follows:





FISCAL

AUDIT-RELATEDYEAR
AUDIT FEES
FEES
TAX FEES
ALL OTHER FEES2013
$51,000
$-0-
$-0-
$-0-2014
$51,000
$-0-
$-0-
$-0-





Pre-Approval Policies and Procedures





The Audit Committee of our Board of Directors must pre-approve any use of our independent accountants for any non-audit services.  All services of our auditors are approved by the Audit Committee and are subject to review by the Audit Committee.




63




PART IV





Item 15.
Exhibits, Financial Statement Schedules





Regulation

S-K Number
Exhibit2.1
Asset Purchase Agreement between U-Swirl, Inc. and Aspen Leaf Yogurt, LLC dated January 14, 2013 (1)2.2
Membership Interest Purchase Agreement between U-Swirl, Inc. and Rocky Mountain Chocolate Factory, Inc. dated January 14, 2013 (1)2.3
Asset Purchase Agreement among U-Swirl, CherryBerry Enterprises LLC, CherryBerry Corporate LLC, and CherryBerry LLC, dated January 17, 2014 (2)2.4
Asset Purchase Agreement among U-Swirl, Inc., Yogli Mogli Franchise LLC, Yogli Mogli LLC, Yogli Mogli Newnan LLC, Yogli Mogli Enterprises LLC, and Yogli Mogli Wheaton, LLC dated January 17, 2014 (2)3.1
Amended and Restated Articles of Incorporation (3)3.2
Amended Bylaws (3)3.3
Certificate of Amendment to Articles of Incorporation filed April 22, 2011 (4)4.1
Form of common stock certificate (5)4.2
Warrant issued to Rocky Mountain Chocolate Factory, Inc. (1)4.3
Letter modifying Warrant issued to Rocky Mountain Chocolate Factory, Inc. (6)10.1
2007 Stock Option Plan, as amended (3)10.2
2011 Stock Option Plan (4)10.3
Form of Recourse Notes (1)10.4
Form of Non-Recourse Notes (1)10.5
Form of Security Agreement between U-Swirl, Inc. and Aspen Leaf Yogurt, LLC (1)10.6
Investor Rights Agreement between U-Swirl, Inc. and Rocky Mountain Chocolate Factory, Inc. dated January 14, 2013 (1)10.7
Investor Rights Agreement between U-Swirl, Inc. and Aspen Leaf Yogurt, LLC dated January 14, 2013 (1)10.8
Voting Agreement among U-Swirl, Inc., Henry Cartwright, Ulderico Conte, Terry Cartwright, Rocky Mountain Chocolate Factory, Inc., and Aspen Leaf Yogurt, LLC dated January 14, 2013 (1)10.9
Form of Employment Agreement between U-Swirl, Inc. and its executive officers (1)10.10
Form of Restricted Stock Agreement (included in Exhibit 10.9)10.11
Intercompany Advance Agreement between Rocky Mountain Chocolate Factory, Inc. and U-Swirl, Inc. dated March 27, 2013 (7)10.12
Secured Promissory Notes dated July 16, 2013 to Rocky Mountain Chocolate Factory, Inc. (8)10.13
Loan and Security Agreement between U-Swirl, Inc. and Rocky Mountain Chocolate Factory, Inc. dated January 16, 2014 (2)14.1
Code of Ethics for Chief Executive Officer (9)14.2
Code of Ethics for Chief Financial Officer (9)21.1
List of Subsidiaries31.1
Rule 13a-14(a) Certification of Chief Executive Officer and interim Chief Financial Officer32.1
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 of Chief Executive Officer and interim Chief Financial Officer101*
Financial statements from the Annual Report on Form 10-K of U-Swirl, Inc. for the fiscal year ended February 28, 2014, formatted in XBRL: (i) the Balance Sheets; (ii) the Statements of Operations; (iii) the Statements of Stockholders’ Equity; (iv) the Statements of Cash Flows; and (v) the Notes to Financial Statements (10)


64


(1)
Incorporated by reference to the exhibits to the registrant’s current report on Form 8-K, file number 0-53130, filed January 18, 2013.


(2)
Incorporated by reference to the exhibits to the registrant’s current report on Form 8-K, file number 0-53130, filed January 22, 2014.


(3)
Incorporated by reference to the exhibits to the registrant’s registration statement on Form S-1, file number 333-145360, filed August 13, 2007.


(4)
Incorporated by reference to the exhibits to the registrant’s current report on Form 8-K, file number 0-53130, filed April 26, 2011.


(5)
Incorporated by reference to the exhibits to the registrant’s amended registration statement on Form S-1, file number 333-145360, filed March 11, 2008.


(6)
Incorporated by reference to the exhibits to the registrant’s current report on Form 8-K, file number 0-53130, filed April 22, 2014.


(7)
Incorporated by reference to the exhibits to the registrant’s annual report on Form 10-K, file number 0-53130, for the fiscal year ended December 31, 2012, filed March 29, 2013.


(8)
Incorporated by reference to the exhibits to the registrant’s quarterly report on Form 10-Q for the quarter ended August 31, 2013, file number 0-53130, filed October 15, 2013.


(9)
Incorporated by reference to the exhibits to the registrant’s annual report on Form 10-K, file number 0-53130, for the fiscal year ended December 31, 2008, filed March 27, 2009.


(10)
To be provided by amendment.




*In accordance with Rule 406T of Regulation S-T, the information in these exhibits shall not be deemed to be “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under that section, and shall not be incorporated by reference into any registration statement or other document filed under the Securities Act of 1933, as amended, except as expressly set forth by specific reference in such filing.














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SIGNATURES





Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.





U-SWIRL, INC.Date:  June 13, 2014
/s/ Ulderico ConteUlderico Conte, Chief Executive Officer





Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.




Signature

Title

Date/s/ Ulderico Conte

Chief Executive Officer, interim 
Chief Financial Officer and 
Director (Principal Executive, 
Financial and Accounting Officer)

June 13, 2014Ulderico Conte/s/ Henry E. Cartwright

Director

June 13, 2014Henry E. Cartwright/s/ Terry A. Cartwright

Director

June 13, 2014Terry A. Cartwright/s/ Franklin E. Crail

Director

June 13, 2014Franklin E. Crail/s/ Clyde E. Engle

Director

June 13, 2014Clyde E. Engle


/s/ Bryan J. Merryman

Director

June 13, 2014Bryan J. Merryman/s/ Lee N. Mortenson

Director

June 13, 2014Lee N. Mortenson






66