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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X]|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 20012004
OR
[ ]|_| TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _______________ TO _____._________.
COMMISSION FILE NUMBER 0-26068
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ACACIA RESEARCH CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 95-4405754
(State or other jurisdiction of (I.R.S. Employer
incorporation organization) Identification No.)
500 NEWPORT CENTER DRIVE, NEWPORT BEACH, CA 92660
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (949) 480-8300
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
ACACIA RESEARCH - ACACIA TECHNOLOGIES COMMON STOCK, $0.001 PAR VALUE
(TITLE OF CLASS)
ACACIA RESEARCH - COMBIMATRIX COMMON STOCK, $0.001 PAR VALUE
(TITLE OF CLASS)
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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
filing requirements for the past 90 days. Yes |X| No [ ]
Indicate by check mark that 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 |X|
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes |X| No [ ]
The aggregate market value of the votingregistrant's Acacia Research - Acacia
Technologies common stock and Acacia Research - CombiMatrix common stock held by
non-affiliates of the registrant, computed by reference to the average closing bid and askedlast sales prices
of such stock,stocks reported on The Nasdaq Stock Market, as of March 22, 2002June 30, 2004, was
approximately $224,973,420.$123,737,135 and $133,494,318, respectively. (All executive
officers and directors of the registrant are considered affiliates.)
AtAs of March 22, 2002 the registrant had 19,629,3769, 2005, 27,212,769 shares of Acacia Research-Acacia
Technologies common stock were issued and outstanding. As of March 9, 2005,
31,200,496 shares of Acacia Research-CombiMatrix common stock were issued and
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive proxy statement for its Annual
Meeting of Stockholders to be filed with the Commission within 120 days after
the close of its fiscal year are incorporated by reference into Part III.
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FORM 10-K ANNUAL REPORT
FISCAL YEAR ENDED DECEMBER 31, 2001
ACACIA RESEARCH CORPORATION
ITEM PAGE
- ---- ----
PART I
1. Business................................................................................................1
2. Property...............................................................................................10
3. Legal Proceedings......................................................................................10
4. Submission of Matters to a Vote of Security Holders....................................................11
PART II
5. Market for Registrant's Common Equity and Related Stockholder Matters..................................12
6. Selected Financial Data................................................................................13
7. Management's Discussion and Analysis of Financial Condition and Results of Operations..................14
7A. Quantitative and Qualitative Disclosures About Market Risk.............................................36
8. Financial Statements and Supplementary Information.....................................................36
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...................36
PART III
10. Directors and Executive Officers of the Registrant.....................................................37
11. Executive Compensation.................................................................................37
12. Security Ownership of Certain Beneficial Owners and Management.........................................37
13. Certain Relationships and Related Transactions.........................................................37
PART IV
14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........................................38
FORM 10-K ANNUAL REPORT
FISCAL YEAR ENDED DECEMBER 31, 2004
ACACIA RESEARCH CORPORATION
ITEM PAGE
- ---- ----
PART I
1. Business..................................................................1
2. Properties...............................................................22
3. Legal Proceedings.........................................................23
4. Submission of Matters to a Vote of Security Holders.......................23
PART II
5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities.........................24
6. Selected Financial Data...................................................26
7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.....................................................30
7A. Quantitative and Qualitative Disclosures About Market Risk................53
8. Financial Statements and Supplementary Data...............................54
9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure......................................................54
9A. Controls and Procedures...................................................54
9B. Other Information.........................................................54
PART III
10. Directors and Executive Officers of the Registrant........................55
11. Executive Compensation....................................................55
12. Security Ownership of Certain Beneficial Owners and Management............55
13. Certain Relationships and Related Transactions............................55
14. Principal Accounting Fees and Services....................................55
PART IV
15. Exhibits, Financial Statement Schedules...................................56
PART I
CAUTIONARY STATEMENT
This report contains forward-looking statements within the meaning of the
"safe harbor" provisions of the Private Securities Litigation Reform Act of
1995. Reference is made in particular to the description of our plans and
objectives for future operations, assumptions underlying such plans and
objectives, and other forward-looking statements included in this report. Such
statements may be identified by the use of forward-looking terminology such as
"may," "will," "expect," "believe," "estimate," "anticipate," "intend,"
"continue," or similar terms, variations of such terms or the negative of such
terms. Such statements are based on management's current expectations and are
subject to a number of factors and uncertainties, which could cause actual
results to differ materially from those described in the forward-looking
statements. Such statements address future events and conditions concerning
product development, capital expenditures, earnings, litigation, regulatory
matters, markets for products and services, liquidity and capital resources and
accounting matters. Actual results in each case could differ materially from
those anticipated in such statements by reason of factors such as future
economic conditions, changes in consumer demand, legislative, regulatory and
competitive developments in markets in which we and our subsidiaries operate,
and other circumstances affecting anticipated revenues and costs. We expressly
disclaim any obligation or undertaking to release publicly any updates or
revisions to any forward-looking statements contained herein to reflect any
change in our expectations with regard thereto or any change in events,
conditions or circumstances on which any such statement is based. Additional
factors that could cause such results to differ materially from those described
in the forward-looking statements are set forth in connection with the
forward-looking statements.
As used in this Form 10-K, "we," "us," "our," "Acacia""us" and "Acacia
Research""our" refer to Acacia Research
Corporation and its subsidiary companies.
ITEM 1. BUSINESS
OVERVIEW
Acacia Research Corporation is comprised of two operating groups.
COMBIMATRIX GROUP
Our life sciences business, referred to as the "CombiMatrix group," is
comprised of our wholly owned subsidiary, CombiMatrix Corporation and
CombiMatrix Corporation's wholly owned subsidiary, CombiMatrix K.K. The
CombiMatrix group is seeking to become a broadly diversified biotechnology
company, through the development of proprietary technologies and products in the
areas of drug development, genetic analysis, nanotechnology research, defense
and homeland security markets, as well as other potential markets where its
products could be utilized. Among the technologies being developed by the
CombiMatrix group are a platform technology to rapidly produce customizable
arrays, which are semiconductor-based tools for use in identifying and
determining the roles of genes, gene mutations and proteins. This technology has
a wide range of potential applications in the areas of genomics, proteomics,
biosensors, drug discovery, drug development, diagnostics, combinatorial
chemistry, material sciences and nanotechnology. Other technologies include
proprietary molecular synthesis and screening methods for the discovery of
potential new drugs.
ACACIA TECHNOLOGIES GROUP
Our intellectual property licensing business, referred to as the "Acacia
Technologies group," develops, acquires, and licenses patented technologies. The
Acacia Technologies group owns and out-licenses a portfolio of pioneering U.S.
and foreign patents covering digital audio and video transmission and receiving
systems, commonly known as audio-on-demand, video-on-demand, and audio/video
streaming. The Acacia Technologies group's patented proprietary digital media
transmission, or DMT(R), technology enables the digitization, encryption,
storage, transmission, receipt and playback of digital content via several means
including cable TV, which includes digital ad insertion and video on demand
programming, satellite TV programming, the Internet, which includes distance
learning and other Internet programming involving digital audio/video content,
wireless delivery of video content, fiber-optic delivery of video content and
hotel in-room digital delivery of programming.
The Acacia Technologies group owned, and out-licensed to consumer
electronics manufacturers, patented technology known as the V-chip. The V-chip
technology was protected by U.S. Patent No. 4,554,584, which expired in July
2003. The Acacia Technologies group concluded its V-chip licensing program in
August 2004 as discussed below.
1
On January 28, 2005, Acacia Global Acquisition Corporation, a newly formed
wholly owned subsidiary of Acacia Research Corporation, acquired the assets of
Global Patent Holdings, LLC, or Global Patent Holdings, a privately held patent
holding company based in Northbrook, Illinois, which owned 11 patent licensing
companies. The acquisition gives the Acacia Technologies group ownership of
companies that control 27 patent portfolios, which include 120 U.S. patents and
certain foreign counterparts, and cover technologies used in a wide variety of
industries, as set forth below.
The acquisition expands and diversifies the Acacia Technologies group's
revenue generating opportunities and accelerates the execution of the Acacia
Technologies group's business strategy of acquiring, developing and licensing
patented technologies.
Refer to Note 16 in the accompanying Acacia Research Corporation
consolidated financial statements for financial information related to our two
segments.
RECAPITALIZATION AND MERGER TRANSACTIONS
On December 11, 2002, our stockholders voted in favor of a recapitalization
transaction, which became effective on December 13, 2002, whereby we created two
new classes of common stock called Acacia Research-CombiMatrix stock, or
AR-CombiMatrix stock, and Acacia Research-Acacia Technologies stock, or
AR-Acacia Technologies stock, and divided our existing Acacia Research
Corporation common stock into shares of the two new classes of common stock.
AR-CombiMatrix stock is intended to reflect separately the performance of Acacia
Research Corporation's CombiMatrix group. AR-Acacia Technologies stock is
intended to reflect separately the performance of Acacia Research Corporation's
Acacia Technologies group. Although the AR-CombiMatrix stock and the AR-Acacia
Technologies stock are intended to reflect the performance of our different
business groups, they are both classes of common stock of Acacia Research
Corporation and are not stock issued by the respective groups. As a result,
holders of Acacia Research-Acacia Technologies stock and Acacia
Research-CombiMatrix stock continue to be subject to all of the risks of an
investment in Acacia Research Corporation and all of its businesses, assets and
liabilities. The assets Acacia Research Corporation attributes to one group
could be subject to the liabilities of the other group. Included in the
CombiMatrix group and the Acacia Technologies group are certain wholly owned
subsidiaries that are not material, quantitatively or qualitatively, either
individually or in the aggregate, to either group, or to Acacia Research
Corporation as a whole.
On December 13, 2002, Acacia Research Corporation acquired the stockholder
interests in CombiMatrix Corporation not already owned by us (52% of the total
stockholder interests in CombiMatrix Corporation). The acquisition was
accomplished through a merger in which stockholders of CombiMatrix Corporation
other than Acacia Research Corporation received one share of the new
AR-CombiMatrix stock in exchange for each share of CombiMatrix Corporation
common stock that they owned immediately prior to the merger.
OTHER
Acacia Research Corporation, a Delaware corporation, was originally
incorporated in California in January 1993 and reincorporated in Delaware in
December 1999. ITEM 1. BUSINESS
GENERALOur website address is www.acaciaresearch.com. We make our
filings with the Securities and Exchange Commission, or SEC, including our
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, and amendments to those reports, available free of charge on our
website as soon as reasonably practicable after we file these reports. In
addition, we post the following information on our website:
o our corporate code of conduct, board of directors - code of conduct
and fraud policy;
o charters for our audit committee, nominating and corporate governance
committee, disclosure committee and compensation committee;
The public may read and copy any materials that Acacia Research Corporation
develops, licensesfiles with the SEC at the SEC's Public Reference Room at 450 Fifth Street N.W.,
Washington, D.C. 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. Also, the SEC
maintains an Internet website that contains reports, proxy and providesinformation
statements, and other information regarding issuers, including the Acacia
Research Corporation, that file electronically with the SEC. The public can
obtain any documents that Acacia Research Corporation files with the SEC at
http://www.sec.gov.
2
BUSINESS GROUPS
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
BUSINESS
The CombiMatrix group is comprised of our wholly owned subsidiary,
CombiMatrix Corporation and CombiMatrix Corporation's wholly owned subsidiary,
CombiMatrix K.K. The CombiMatrix group is seeking to become a broadly
diversified biotechnology company, through the development of proprietary
technologies and products in the areas of drug development, genetic analysis,
nanotechnology research, defense and homeland security markets, as well as other
potential markets where its products could be utilized. Among the technologies
being developed by the CombiMatrix group are a platform technology to rapidly
produce customizable arrays, which are semiconductor-based tools for use in
identifying and determining the roles of genes, gene mutations and proteins.
This technology has a wide range of potential applications in the areas of
genomics, proteomics, biosensors, drug discovery, drug development, diagnostics,
combinatorial chemistry, material sciences and nanotechnology. Other
technologies include proprietary molecular synthesis and screening methods for
the mediadiscovery of potential new drugs.
TECHNOLOGIES
SEMICONDUCTOR BASED ARRAY
The CombiMatrix group's semiconductor based array technology enables the
rapid, parallel synthesis, immobilization and detection of molecules and
materials at discrete electrodes on a semiconductor chip. These chips, also
known as microelectrode arrays, are used in multiple applications in the areas
described above. The CombiMatrix group's technology integrates semiconductor
micro fabrication, proprietary software, chemistry and hardware into systems
that it believes will enable it, its customers and its partners to design and
fabricate arrays for biological, diagnostic, material sciences and
nanotechnology applications, typically within a few days. The CombiMatrix
group's system should enable researchers to conduct rapid, iterative experiments
in each of these fields.
For biological applications, the CombiMatrix group believes that its
customizable arrays will enable users to reduce the time and costs associated
with the discovery and development of pharmaceutical products. Although there
are numerous applications of the CombiMatrix group's arrays in life science sectors.
Acacia's media technologiessciences
research, each depend on the synthesis, immobilization or detection of molecules
at discrete sites on the array. Some specific applications include studies of
genetic expression in cellular systems, genotyping and mutation analysis,
synthesis of nucleic acid drugs, and others.
Utilizing this array technology, the CombiMatrix group is engaged in four
strategic business collectivelyareas:
o The development, manufacture and sale of research tools and services
to life sciences researchers
o The discovery of drugs based on the mechanism of ribonucleic acid
inhibition, or RNAi, and other approaches
o The development, manufacture and sale of biosensor systems and
technology for national defense and homeland security
o The development of tools for applications in nanotechnology and
materials science.
ELECTROCHEMICAL SYNTHESIS OF MOLECULES
The CombiMatrix group is utilizing its expertise in electrochemistry to
synthesize novel compounds, which can be screened in binding and cellular assays
to determine their potential as new drugs. The types of molecules that can be
synthesized electrochemically from precursors using various approaches,
proprietary to the CombiMatrix group, include organic compounds, nucleic acids,
peptides and others. These molecules can then be utilized in biochemical and
cellular screens to determine if they have appropriate potency to be considered
for downstream pre-clinical and clinical drug development.
3
POTENTIAL DRUG COMPOUNDS
Through its minority investment in Leuchemix, Inc., the CombiMatrix group
has access to proprietary compounds that have been shown to be cytotoxic towards
certain cancers in vitro and in vivo. Many of these compounds were discovered
through combinatorial chemistry, natural product chemistry and certain cellular
screening assays. Leuchemix, Inc. has access to state of the art laboratories
and equipment, which includes flow cytometry, molecular biology and cell culture
facilities. In addition, Leuchemix, Inc. has access to a bank of over 150
primary leukemia specimens and a panel of 15 leukemia and lymphoma cell lines as
well as several xenogenic animal model systems.
MARKET OVERVIEW
The markets for the CombiMatrix group's products include pharmaceutical and
biotechnology markets (also referred to as "Acacia Media Technologies Group," owns intellectual property relatedlife sciences), national defense and
homeland security applications and the emerging markets for nanotechnology and
new materials. In the future, if the CombiMatrix group is successful in
developing approved drugs either internally or through its investments in
companies such as Leuchemix, Inc., the CombiMatrix group's market opportunities
will expand to include pharmacies, physicians, hospitals, patients and other
consumers of therapeutics. At this time, the majority of the CombiMatrix group's
efforts are focused on the life sciences and national defense markets.
GENERAL OVERVIEW OF LIFE SCIENCES AND PHARMACEUTICAL INDUSTRIES
The pharmaceutical and biotechnology industries are faced with increasing
costs and risks of failure in the drug discovery, development and
commercialization process. According to industry statistics, the time required
to commercialize a new drug averages 15 years. Declining research and
development productivity, rising costs of commercialization, increasing
reimbursement influence and shorter exclusivity periods have driven up the cost
to develop each successful compound to $1.7 billion according to recent industry
data. Only one compound now reaches the market for every thirteen discovered and
placed in preclinical trials, compared to one for every eight between 1995 and
2000. The pharmaceutical and biotechnology industries are working to reduce
their costs and risks of failure by turning to new technologies to help identify
deficiencies in drug candidates as early as possible in the process so that drug
discovery and development become more efficient and cost-effective.
Additionally, with vast amounts of genomic data becoming available for use in
the development of therapeutics and diagnostic tests, they are searching for
ways to expedite their analysis of available genomic data so that they can be
the first to bring new therapeutics and diagnostic tests to market.
DRUG DISCOVERY AND DEVELOPMENT
The discovery and development of new drugs for a particular disease
typically involves several steps. First, researchers identify a target for
therapeutic intervention, such as a protein or gene, that is either directly
involved in the disease or lies in a biochemical pathway leading to the telecommunications field,disease.
The next step is to identify chemical compounds that interact with and modulate
the target's activity to inhibit or prevent the disease. Promising compounds
advance to subsequent stages, which include animal trials followed by human
trials.
Recent advances, including the sequencing of the human genome, have led to
the use of genomics in choosing and validating the targets for drug development.
This process begins with the discovery and identification of genes within the
genome and the functions of these genes in regulating biological processes and
disease. This information is used to assess the value of a television blanking system, alsoparticular gene or
its protein product as a target for drug discovery. According to industry
statistics, pharmaceutical and biotechnology companies worldwide spent
approximately $62.0 billion on drug research and development during 2003.
GENES AND PROTEINS
The human body is composed of billions of cells each containing DNA that
encodes the basic instructions for cellular function. The complete set of an
individual's DNA is called the genome, and is organized into 23 pairs of
chromosomes, which are further divided into smaller regions called genes. Each
gene is composed of a strand of four types of nucleotide bases, referred to as
A, C, G and T. The bases of one DNA strand bind to the bases of the other strand
in a specific fashion to form base pairs: the base A always binds with the base
T and the base G always binds with the base C.
The human genome has approximately 3.0 billion nucleotides and their
precise order is known as the "V-chip,"DNA sequence. When a gene is turned on, or
expressed, the genetic information encoded in the DNA is copied to a specific
type of RNA, called messenger RNA, or mRNA. The mRNA provides instructions for
the synthesis of proteins. Proteins direct cellular function, the development of
individual traits and are involved in many diseases. Abnormal variations in the
sequence of a gene or in the level of gene expression can interfere with the
normal physiology of particular cells and lead to a disease, a predisposition to
a disease or an adverse response to drugs.
4
GENE EXPRESSION PROFILING
Gene expression profiling is the process of determining which genes are
active in a specific cell or group of cells and is accomplished by measuring
mRNA, the intermediary between genes and proteins. By comparing gene expression
patterns between cells from normal tissue and cells from diseased tissue,
researchers may identify specific genes or groups of genes that play a role in
the presence of disease. Studies of this type, used in drug discovery, require
monitoring thousands, and preferably tens of thousands, of mRNAs in large
numbers of samples. As the correlation between gene expression patterns and
specific diseases is determined, the CombiMatrix group believes that gene
expression profiling will have an increasingly important role as a diagnostic
tool. Diagnostic use of expression profiling tools is anticipated to grow
rapidly with the combination of the sequencing of various genomes and the
availability of more cost-effective technologies.
GENETIC VARIATION AND MUTATIONS
Genetic variation is also due to polymorphisms (mutations) in genomes,
although functional variations may also arise from differences in the way genes
are expressed in a given cell, as well as the timing and levels of their
expression.
The most common form of genetic variation occurs as a result of a
difference in a single nucleotide in the DNA sequence, commonly referred to as a
single nucleotide polymorphism, or SNP. The human genome is estimated to contain
between three and six million SNPs. By screening for polymorphisms, researchers
seek to correlate variability in the sequence of genes with a specific disease.
SNPs are believed to be associated with a large number of human diseases,
although most SNPs are believed to be benign and not to be associated with
disease. Determining which SNPs may be related to a disease is a complex process
requiring investigation of a vast number of SNPs. A SNP association study might
require testing for 200,000 possible SNPs in 1,000 patients. Although only a few
hundred of these SNPs might be clinically relevant, 200 million genotyping
tests, or assays, might be required to complete a study. Using currently
available technologies, this scale of SNP genotyping is both impractical and
prohibitively expensive.
While in some cases one SNP will be responsible for medically important
effects, it licensesis now believed that the genetic component of most major diseases is
associated with a combination of SNPs. As a result, the scientific community has
recognized the importance of investigating combinations of many SNPs in an
attempt to television manufacturers.discover medically valuable information. In order to understand how
genetic variation causes disease, researchers must compare gene sequence
polymorphisms, or conduct SNP genotyping, from healthy and diseased individuals.
Researchers may also compare gene expression patterns, or perform gene
expression profiling, from healthy and diseased tissues.
PROTEOMICS
Proteomics is the process of determining which proteins are present in
cells, how they interact with one another and how they are correlated with
genomic variation. This process is useful in drug discovery and diagnostics
because most drugs target proteins that play a role in the existence or
development of a disease.
CURRENT TECHNOLOGIES
Despite the recent sequencing of the human genome, scientists have a
limited understanding of the function of genes, how they interact with each
other, how they modulate disease, and how they correlate with protein
translation and function. Additionally, the role of specific mutations is poorly
understood.
Traditional technologies for analyzing genetic or protein variation and
function generally perform experiments individually, or serially, and often
require relatively large sample volumes, adding significantly to the cost of
conducting experiments. Arrays were developed to overcome the limitations of
traditional technologies and enable the parallel evaluation of large numbers of
genes.
An array is a collection of miniaturized test sites arranged in a manner
that permits many tests to be performed simultaneously, or in parallel, in order
to achieve higher throughput. The average size of test sites in an array and the
spacing between them defines the array's density. Higher density increases
parallel processing throughput. In addition to increasing the throughput, higher
density reduces the required volume for the sample being tested, and thereby
lowers costs. Currently, the principal commercially available ways to produce
arrays include mechanical deposition, bead immobilization, inkjet printing and
photolithography.
While current array technologies have revolutionized drug discovery and
development, the CombiMatrix group believes that it's advanced array technology
provides characteristics, including flexibility, superior cost metrics, and
performance which address certain needs of the life sciences market which are
not addressed by conventional arrays.
5
THE COMBIMATRIX SOLUTION
The CombiMatrix group believes that its system will have advantages over
other existing technologies because it is being designed to be a cost-effective,
fast, flexible, customizable alternative to existing analytical tools designed
for similar purposes. Researchers using the CombiMatrix group's system should be
able to design and order custom arrays, conduct their tests, analyze the
results, and reorder additional arrays incorporating modified test parameters,
all within a few days. The CombiMatrix group believes that its system will offer
several important advantages over competing products. These advantages arise
from a unique approach to fabricating the arrays utilizing a proprietary
electrochemical synthesis method on an array of microelectrodes that have been
fabricated on a silicon device.
GENETIC ANALYSIS PRODUCTS AND SERVICES
The CombiMatrix group's technology represents a significant advance over
existing array technologies and other platforms for combinatorial chemistry. The
first application of the technology that the CombiMatrix group is pursuing is in
the field of genomics, where it is developing an array for the analysis of DNA.
The CombiMatrix group believes that this technology may be applied to the fields
of genetic analysis and disease management.
CUSTOMARRAY(TM)
The CombiMatrix group's product for genetic studies is marketed under the
trade name CustomArray(TM). CustomArray(TM) is a highly flexible custom
oligonucleotide array that addresses researchers' specific requirements for
high-performance arrays that can interrogate small sets of target genes or whole
genomes at a low cost. CustomArrays currently come in two formats: the
lower-density CustomArray(TM) 902, and the medium-density CustomArray(TM) 12K.
The CustomArray(TM) 902 enables an analysis of roughly 1,000 genes, and the
CustomArray(TM) 12K enables analysis of up to 12,000 genes.
CustomArray(TM) is an advanced tool used to understand gene expression by
measuring mRNA activity within a cell type or groups of cells, enabling
researchers to understand disease, predisposition to disease, drug response and
drug development. CustomArray(TM) can also be used as a SNP genotyping tool
providing statistics on the effect of a SNP or groups of SNPs, giving rise to
data that is important in diagnostic testing. Because of the product's
flexibility, researchers have utilized and are evaluating the use of
CustomArrays for other applications such as gene assembly, sequencing, protein
translation and others.
ON-LINE ORDER PROCESSING AND SOFTWARE TOOLS
CustomArrays are designed and ordered through the CombiMatrix group's
on-line ordering process. Customers are able to utilize a number of tools to
design and order their arrays through an on-line interface via the World Wide
Web. Some of the tools available to the customers are referred to as the
CustomArray(TM) content software application suite of tools for designing and
ordering arrays.
The content software application provides a suite of sophisticated tools
that customers can use to design a custom array specific to their experimental
needs. This application allows the customer to submit a list of genes and/or
genomic sequences to the CombiMatrix group's probe design system. This design
process produces probe sequences optimal to the customer's requirements.
Customers also have the flexibility to re-design their array at anytime.
When the customer has finished designing their arrays using the CombiMatrix
group's proprietary software tools, the arrays may be ordered using the
e-commerce section of the CustomArray(TM) web site. Arrays are then manufactured
using our proprietary oligonucleotide synthesis technology to the specific
design requirements of the customer's order. The CombiMatrix group's proprietary
DNA synthesis technology enables product turnaround time of typically just a few
days. After production, each array is put through a rigorous quality control
process. To our knowledge, the CombiMatrix group is the only array company that
quality checks every single feature on each array produced prior to shipment.
DESIGN-ON-DEMAND(TM)
The CombiMatrix group has also launched a service known as
Design-on-Demand(TM) for its arrays. Through this service, customers can work
one-on-one with our staff of bioinformatic experts to assist them with designing
their arrays to meet their specific project goals. Customers can also access our
Design-on-Demand(TM) catalog of over 1,400 pre-designed genome arrays available
for ordering.
6
HOMELAND SECURITY AND DEFENSE APPLICATIONS
Through U.S. government funding, the CombiMatrix group's array technology
is being developed to simultaneously detect toxins, viruses, and bacteria using
either genomic analysis or antigen-antibody experiments, or assays. The ability
to conduct over 12,000 individual assays simultaneously means that the
CombiMatrix group's array can be configured to detect many biothreat agents of
interest to the U.S. Department of Defense and Department of Homeland Security
within hours and with a high degree of certainty that surpasses current
technologies. The CombiMatrix group's goal is that these systems will eventually
be portable and ultimately be completely automated.
The CombiMatrix group's technology can simultaneously identify hundreds of
different microbes (including viruses), determine their ability to cause
disease, and discover their characteristics, such as antibiotic resistance.
Working with academia, industry, and government laboratories, the CombiMatrix
group is developing assays, arrays and bioinformatics for quickly identifying
human, animal, and plant pathogens in a single-assay format. This format and
single test eliminates the need for a different test for each disease or threat
and eliminates the time lost in developing a new test for each new disease or
threat. For disease-control agencies, it simplifies the process, reduces costs,
and allows more rapid identification and reaction, all in an environment where
increased time can equate to increased illness and loss of lives.
This program is enabled by the characteristic of the CombiMatrix group's
array technology, which allows the binding reactions to be measured through
electrochemical means instead of optical methods. Though optical detection has
been successful in many applications and our other products utilize these
methods, we feel that electrochemical detection techniques have the potential to
be far superior. By eliminating the need for light sources, optical components,
their corresponding mechanical requirements as well as their power requirements,
we feel that we will be able to build detection systems that will be less
expensive, smaller, lighter and portable. In addition, certain technical
characteristics of electrochemical detection on the arrays may enable higher
sensitivity, better dynamic range and superior reproducibility in measurements.
Though the initial focus of our Government-funded development program is a
product for military and homeland security markets, the core technology being
developed will be applicable to products in the life sciences and human
healthcare markets as well.
DRUG DISCOVERY
The CombiMatrix group has initiated both internally focused and externally
focused programs to utilize its arrays to discover nucleic acid drugs, based on
the recently discovered mechanism known as RNAi (Ribonucleic Acid interference).
This field is often referred to as siRNA (small interfering Ribonucleic Acid) or
gene silencing.
The underlying principle in this field is that an appropriately
designed, double-stranded sequence of RNA can effectively shut down the
operation of a particular gene. If this inhibition cures a disease or alleviates
its symptoms, these RNA molecules can potentially become effective therapeutics.
The process of drug discovery utilizing the RNAi mechanism involves multiple
steps, the first of which is the design and synthesis of potential RNAi
sequences. The CombiMatrix group believes that its expertise in nucleic acid
design and synthesis on its semiconductor-based arrays provides a significant
advantage in discovery.
The CombiMatrix group has chosen to initially focus its integrated RNAi
discovery program on viral diseases for the following reasons:
o Viral infections affect millions of individuals throughout the world
each year
o There are relatively few effective anti-viral medications
o Most emerging diseases are viruses such as SARS and West Nile Virus
o The basis of infection is through transfer of viral genetic material
o Complete viral genomic sequences have recently been made available
o The CombiMatrix group's approach is suited to viral research because
it attempts to thwart a virus by building a cocktail of drugs to
target multiple genes or all the genes of a virus
o It is believed that an RNAi effect is already operating when the body
battles viral infections
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NANOTECHNOLOGY
The CombiMatrix group has also entered into development programs to use its
arrays for the discovery of nano-structured materials. In analogy to the study
of genes and proteins in parallel using a highly-customizable array, the
CombiMatrix group will develop a system, which enables researchers to perform
combinatorial materials discovery work in a rapid, cost effective manner.
THE COMBIMATRIX GROUP'S STRATEGY
FOCUSING ON HIGH-GROWTH MARKETS
The CombiMatrix group's goal is to provide customers and partners with
tools in their discovery efforts as well as to perform discovery itself.
The CombiMatrix group will focus on markets that it believes are growing
rapidly and where it believes it has a competitive advantage. The first of these
markets are for gene expression, mutation analysis, and other applications for
the development of drugs and diagnostic products. Other markets include protein
analysis, homeland security and military applications, anti-viral drug
development nanotechnology and material sciences.
PARTNERING WITH MULTIPLE COMPANIES TO EXPAND MARKET OPPORTUNITY
The CombiMatrix group plans to pursue multiple relationships to facilitate
the expansion of its array technologies and to exploit large and diverse
markets. The CombiMatrix group expects to enter into relationships and
collaborations to gain access to complementary technologies, distribution
channels, manufacturing infrastructure and information content. The CombiMatrix
group intends to structure relationships that maximize its research and
development efforts with the strong distribution and manufacturing capabilities
of its customers and any entities with which the CombiMatrix group has joint
development efforts.
MAJOR STRATEGIC ALLIANCES
The CombiMatrix group intends to rapidly commercialize its array technology
for gene expression profiling through its own sales and marketing efforts. In
addition, the CombiMatrix group has had agreements with several strategic
partners, such as Roche Diagnostics GmbH, or Roche, to jointly develop its
technology. For example, Roche contributed extensive expertise in the areas of
instrument and reagent development, and offers a large and experienced worldwide
sales and marketing team. The CombiMatrix group believes that the combination of
its array technology with Roche's leadership position in the genetic analysis
and diagnostic markets will enable it to capture a significant portion of the
gene expression profiling and molecular diagnostic markets.
The CombiMatrix group has been awarded several U.S. government grants and
contracts to develop its electrochemical detection system for the detection of
biological threat agents. Though these programs initially focused on product
development for military and homeland security applications, the CombiMatrix
group believes that the core technology being developed will be applicable to
products in the life sciences and human healthcare markets as well.
The CombiMatrix group has also entered into a design, fabrication and
manufacturing relationship with Toppan Printing of Japan, or Toppan, and Furuno
Electronic Co., or Furuno, for the development and manufacture of new designs of
its electrochemical detection arrays and bench-top array synthesizers,
respectively.
In addition to these relationships, the CombiMatrix group has entered into
additional relationships and plans on establishing other relationships for
multiple applications of its technology.
EXPANDING TECHNOLOGIES INTO MULTIPLE PRODUCT LINES
The CombiMatrix group intends to utilize the flexibility of its
semiconductor based array technologies to develop multiple product lines. In
addition to providing new sources of revenue, it believes these product lines
will further its goal of establishing its array technology as the industry
standard for array-based analysis.
8
STRENGTHENING TECHNOLOGICAL LEADERSHIP
The CombiMatrix group plans to continue advancing its proprietary
technologies through its internal research efforts, collaborations with industry
leaders and strategic licensing. The CombiMatrix group may also pursue
acquisitions of complementary technologies and leverage its technologies into
other value-added businesses.
PROTECTING AND STRENGTHENING INTELLECTUAL PROPERTY
Through the CombiMatrix Corporation's four patents issued in the United
States and three corresponding patents granted in Europe, Australia and Taiwan,
its 59 patent applications pending in the United States, Europe and elsewhere
and its trade secrets, the CombiMatrix group believes it has suitable
intellectual property protection for its proprietary technologies in those
markets where it operates and where a market for its products and services
exists. The CombiMatrix group plans to build its intellectual property portfolio
through internal research efforts, collaborations with industry leaders,
strategic licensing and possible acquisitions of complementary technologies. The
CombiMatrix group also plans to pursue patent protection for downstream products
created using its proprietary products.
REGULATORY MATTERS
The CombiMatrix group sells array products to the pharmaceutical,
biotechnology and academic communities for research applications as well as
non-life sciences customers. In addition, its drug development efforts are early
stage. Therefore, its initial products do not require approval from, or be
regulated by, the FDA, as a manufacturer nor are they subject to the FDA's
current good manufacturing practice, or cGMP, regulations. Additionally, the
CombiMatrix group's initial products are not subject to certain reagent
regulations promulgated by the FDA. However, the manufacture, marketing and sale
of certain products and services for most clinical or diagnostic applications
will be subject to extensive government regulation as medical devices in the
United States by the FDA and in other countries by corresponding foreign
regulatory authorities.
SUBSIDIARIES
Prior to July 11, 2003, CombiMatrix K.K., a majority-owned subsidiary of
CombiMatrix Corporation, was operating under a joint venture agreement with
Marubeni Japan, or Marubeni, one of Japan's leading trading companies. The
primary purpose of the joint venture was to focus on development and licensing
opportunities for CombiMatrix Corporation's array technology with academic,
pharmaceutical and biotechnology organizations in the Japanese market. Marubeni
held a 10% minority interests in the joint venture. On July 11, 2003, Acacia
Research Corporation purchased the outstanding minority interests in CombiMatrix
K.K. from Marubeni. Acacia Research Corporation issued 200,000 shares of its
AR-CombiMatrix stock to Marubeni in exchange for Marubeni's 10% minority
interests in CombiMatrix K.K. This increase in ownership interest has been
attributed to the CombiMatrix group.
Prior to July 2, 2003, CombiMatrix Corporation owned 87% of Advanced
Material Sciences, which in turn holds an exclusive license for CombiMatrix
Corporation's array synthesis technology for the development and discovery of
advanced electronic materials for such purposes as fuel cell catalysts. In
consideration for this exclusive license, CombiMatrix Corporation will share in
the revenues earned by Advanced Material Sciences for commercialization of these
discoveries based on CombiMatrix Corporation's array technology. The term of
this arrangement is 20 years. On July 2, 2003, Acacia Research Corporation
increased its consolidated ownership interest in Advanced Material Sciences to
99% by acquiring 1,774,750 shares of Advanced Material Sciences common stock in
exchange for 295,790 shares of AR-CombiMatrix stock. This increased ownership
interest has been attributed to the CombiMatrix group.
MARKETING AND DISTRIBUTION
During 2004, the CombiMatrix group launched its CustomArray(TM) products
and is currently selling these products directly and through distributors to
customers in the United States, Australia, New Zealand and Japan. Where
appropriate, the CombiMatrix group will continue to market and sell its products
directly or through distribution arrangements and/or through other strategic
alliances.
In July 2001, CombiMatrix Corporation entered into non-exclusive worldwide
license, supply, research and development agreements with Roche. These
agreements were amended in September 2002, primarily to grant Roche
manufacturing rights with respect to the products under development in return
for additional cash consideration under the agreements. The revised agreements
also made minor modifications to terms of the agreements involving matters such
as milestones, payments and technical specifications, none of which were
considered to be material. Such minor modifications are a standard part of the
research and development process and in our experience are routinely made in
development agreements.
9
In March 2004, the agreements were modified to indicate that CombiMatrix
Corporation had completed all phases of its research and development commitments
to Roche.
Since the inception of our relationship with Roche, CombiMatrix Corporation
has engaged in a continuous process of monitoring and reevaluating the terms of
the agreements, and have amended the agreements in several respects to establish
more meaningful goals, milestones and timelines. The agreements are
non-exclusive with respect to CombiMatrix Corporation's core technology, meaning
that CombiMatrix Corporation remains free to license its core technology to
third parties for applications in the genomics, proteomics and other fields. The
agreements contain exclusivity or co-exclusivity provisions only with respect to
the specific products being co-developed for, and partially funded by, Roche
pursuant to the agreements.
Under the terms of the agreements, it is contemplated that Roche will
co-develop, use, manufacture, market and distribute CombiMatrix Corporation's
array and related technology for rapid production of customizable arrays. The
agreements provide for minimum payments by Roche to CombiMatrix Corporation over
the first three years after product launch, including milestone achievements,
payments for products, royalties and future research and development projects.
Nevertheless, because our agreements with Roche contain provisions that would
allow Roche to terminate the agreements, the future payments by Roche to
CombiMatrix Corporation might never be realized. Since July 2001, CombiMatrix
Corporation has received approximately $26.6 million in cash payments from Roche
from July 2001 through December 31, 2003. The CombiMatrix group has not received
any additional payments from Roche since December 31, 2003.
MANUFACTURING AND CUSTOMIZATION
The CombiMatrix group is developing automated, computer-directed
manufacturing processes for the synthesis of sequences of DNA, RNA, peptides or
small molecules on its arrays. Certain portions of its manufacturing, such as
semiconductor fabrication and processing, will be outsourced to subcontractors,
while the steps involving synthesis of biological materials and quality control
of its products will be conducted by the CombiMatrix group.
Substantially all of the components and raw materials used in the
manufacture of the CombiMatrix group's products, including semiconductors and
reagents, are currently provided from a limited number of sources or in some
cases from a single source. Although the CombiMatrix group believes that
alternative sources for those components and raw materials are available, any
supply interruption in a sole-sourced component or raw material might result in
up to a several-month production delay and materially harm the CombiMatrix
group's ability to manufacture products until a new source of supply, if any,
could be located and qualified. In addition, an uncorrected impurity or
supplier's variation in a raw material, either unknown to the CombiMatrix group
or incompatible with its manufacturing process, could have a material adverse
effect on its ability to manufacture products. The CombiMatrix group may be
unable to find a sufficient alternative supply channel in a reasonable time
period, or on commercially reasonable terms, if at all. The CombiMatrix group
utilizes non-standard semiconductor manufacturing processes to fabricate the
electrode array that is a key aspect of the array structure. Although the
CombiMatrix group has a supply agreement in place with the semiconductor wafer
manufacturer to ensure availability of the raw materials, it does not guarantee
a permanent supply. These non-standard processes are not widely available and it
may be difficult or expensive to obtain sufficient quantities of semiconductor
wafers if the current manufacturer changes or discontinues its manufacturing
production capability.
PATENTS AND LICENSES
CombiMatrix Corporation continues to build its intellectual property
portfolio to protect its product in those markets where it operates and where a
market for its products and services exists. In the United States, CombiMatrix
Corporation has been issued four United States patents. Three of the United
States patents (U.S. Patent No. 6,093,302 expiration date January 5, 2018; U.S.
Patent No. 6,280,595 expiration date September 10, 2019 and U.S. Patent No.
6,444,111 expiration date October 13, 2019) protect CombiMatrix Corporation's
core technology relating to methods for electrochemical synthesis of arrays. The
fourth United States Patent (U.S. Patent No. 6,456,942 expiration date January
25, 2020) describes and claims a network infrastructure for custom array
synthesis and analysis. Corresponding CombiMatrix Corporation core patents
describing and claiming methods for electrochemical synthesis of arrays have
been issued in Europe (entire EU), Australia and Taiwan and are pending in the
remaining major industrialized markets. In total, CombiMatrix Corporation has 59
patent applications pending in the Unites States, Europe and elsewhere.
The CombiMatrix group seeks to protect its corporate identity with
trademarks and service marks. In addition, its trademark strategy includes
protecting the identity and goodwill associated with its biological array
processor products. The CombiMatrix group purchases chemical reagents from
suppliers who are licensed under appropriate patent rights. It is the
CombiMatrix group's policy to obtain licenses from patent holders if needed to
practice its chemical processes.
10
The CombiMatrix group's success will depend, in part, upon its ability to
obtain patents and maintain adequate protection of its intellectual property in
the United States and other countries. If it does not protect its intellectual
property adequately, competitors may be able to use its technologies and thereby
erode any competitive advantage that the CombiMatrix group may have. The laws of
some foreign countries do not protect proprietary rights to the same extent as
the laws of the United States, and many companies have encountered significant
problems in protecting their proprietary rights abroad. These problems can be
caused by the absence of rules and methods for defending intellectual property
rights.
The patent positions of companies developing tools and drugs for the
biotechnology and pharmaceutical industries, including the CombiMatrix group's
patent position, generally are uncertain and involve complex legal and factual
questions. The CombiMatrix group will be able to protect its proprietary rights
from unauthorized use by third parties only to the extent that its proprietary
technologies are covered by valid and enforceable patents or are effectively
maintained as trade secrets. The CombiMatrix group's existing patent and any
future patents it obtains may not be sufficiently broad to prevent others from
practicing its technologies or from developing competing products. There also is
risk that others may independently develop similar or alternative technologies
or design around its patented technologies. In addition, others may challenge or
invalidate the CombiMatrix group's patents, or its patents may fail to provide
it with any competitive advantage. Enforcing its intellectual property rights
may be difficult, costly and time consuming, and ultimately may not be
successful.
The CombiMatrix group also relies upon trade secret protection for its
confidential and proprietary information. It seeks to protect its proprietary
information by entering into confidentiality and invention disclosure and
transfer agreements with employees, collaborators and consultants. These
measures, however, may not provide adequate protection for the CombiMatrix
group's trade secrets or other proprietary information. Employees, collaborators
or consultants may still disclose its proprietary information, and the
CombiMatrix group may not be able to meaningfully protect its trade secrets. In
addition, others may independently develop substantially equivalent proprietary
information or techniques or otherwise gain access to its trade secrets.
The CombiMatrix group cannot assure you that any of its patent applications
will result in the issuance of any additional patents, that its patent
applications will have priority of invention or filing date over similar rights
of others, or that, if issued, any of its patents will offer protection against
its competitors. Additionally, the CombiMatrix group cannot assure you that any
patent issued to it will not be challenged, invalidated or circumvented in the
future or that the intellectual property rights it has created will provide a
competitive advantage. Litigation may be necessary to enforce its intellectual
property rights or to determine the enforceability, scope of protection or
validity of the intellectual property rights of others.
COMPETITION
The CombiMatrix group expects to encounter competition in the area of
business opportunities from other entities having similar business objectives.
Many of these potential competitors possess greater financial, technical, human
and other resources than does the CombiMatrix group. The CombiMatrix group
anticipates that it will face increased competition in the future as new
companies enter the market and advanced technologies become available. In the
life sciences industry, many competitors have more experience in research and
development than the CombiMatrix group. Technological advances or entirely
different approaches developed by one or more of its competitors could render
the CombiMatrix group's processes obsolete or uneconomical. The existing
approaches of competitors or new approaches or technology developed by
competitors may be more effective than those developed by the CombiMatrix group.
The CombiMatrix group is aware of other companies or companies with
divisions that have, or are developing, technologies for the SNP genotyping,
gene expression profiling and proteomic markets. The CombiMatrix group believes
that its primary competitors will be Affymetrix, Inc., Agilent Technologies,
Inc., Becton, Dickinson and Company, Ciphergen Biosystems, Inc., Gene Logic
Inc., Illumina, Inc., Johnson & Johnson, Nanogen, Inc., Orchid Biosciences,
Inc., Applera Corporation, Roche Diagnostics GmbH and Sequenom, Inc. However,
the CombiMatrix group's market is rapidly changing, and the CombiMatrix group
expects to face additional competition from new market entrants, new product
developments and consolidation of its existing competitors. Many of the
CombiMatrix group's competitors have existing strategic relationships with major
pharmaceutical and biotechnology companies, greater commercial experience and
substantially greater financial and personnel resources than it does. The
CombiMatrix group expects new competitors to emerge and the intensity of
competition to increase in the future.
RESEARCH, DEVELOPMENT AND ENGINEERING
The CombiMatrix group's research and development expenses, excluding
non-cash stock compensation charges and acquired in-process research and
development charges, were $7.2 million (including Department of Defense related
research and development expenses of $2.0 million), $8.1 million and $18.2
million during 2004, 2003 and 2002, respectively. Research and development
11
related non-cash stock compensation charges were $91,000, $466,000 and $1.9
million during 2004, 2003 and 2002, respectively and acquired in-process
research and development charges were $17.2 million in 2002. The CombiMatrix
group intends to invest in its proprietary technologies through internal
development and, to the extent available, licensing of third-party technologies
to increase and improve other characteristics of its products. The CombiMatrix
group also plans to continue to invest in improving the cost-effectiveness of
its products through further automation and improved information technologies.
The CombiMatrix group's future research and development efforts may involve
research conducted by the CombiMatrix group, collaborations with other
researchers and the acquisition of chemistries and other technologies developed
by universities and other academic institutions.
The CombiMatrix group is developing a variety of life sciences and non-life
sciences products and services. Potential customers for these products operate
in industries characterized by rapid technological development. The CombiMatrix
group believes that its future success will depend in large part on its ability
to continue to enhance its existing products and services and to develop other
products and services, which complement existing ones. In order to respond to
rapidly changing competitive and technological conditions, the CombiMatrix group
expects to continue to incur significant research and development expenses
during the initial development phase of new products and services, as well as on
an ongoing basis.
GOVERNMENT GRANTS AND CONTRACTS
Government grants and contracts have allowed the CombiMatrix group to fund
certain internal scientific programs and exploratory research. The CombiMatrix
group retains ownership of all intellectual property and commercial rights
generated during these projects. The United States government, however, retains
a non-exclusive, non-transferable, paid-up license to practice the inventions
made with federal funds pursuant to applicable statutes and regulations. The
CombiMatrix group does not believe that the retained license will have any
impact on its ability to market its products. The CombiMatrix group does not
need government approval to enter into collaborations or other relationships
with third parties.
The CombiMatrix group has been awarded several grants from the federal
government in connection with its biological array processor technology since
it's inception. Most recently, in March of 2004, the CombiMatrix group was
awarded a two-year, $5.9 million contract with the Department of Defense to
further the development of the CombiMatrix group's array technology for the
detection of biological threat agents. Under the terms of the contract, the
CombiMatrix group will be reimbursed on a periodic basis for actual costs
incurred to perform its obligations, plus a fixed fee, of up to $5.9 million.
The CombiMatrix group will continue to pursue grants and contracts that
complement its research and development efforts.
RECENT ACTIVITIES
Significant milestones for the CombiMatrix group during 2004 include the
following:
GENETIC ANALYSIS PRODUCTS AND SERVICES
o In March 2004, the CombiMatrix group launched the CustomArray(TM) DNA
Microarray platform, its first commercially-available array product,
to the worldwide research marketplace. This platform offers
researchers the ability to order fully customizable arrays on demand
in any quantity they choose. CustomArrays(TM) are produced on a
standard slide format, a configuration that is most familiar to
researchers. The commercial launch of CustomArray(TM) also provides
the marketplace with full access to the CombiMatrix group's suite of
software applications, including array design and submission, online
ordering and extraction of experimental results.
o In June 2004, the CombiMatrix group entered into a co-marketing
relationship with Axon Instruments, Inc. and in July, the CombiMatrix
group entered into a co-marketing agreement with Strand Genomics.
o In July 2004, the CombiMatrix group launched the CustomArray(TM)12K
DNA expression array, offering researchers the ability to order a
fully customizable array with more than 12,000 sites.
CustomArray(TM)12K and related products enable researchers to study
any combination of genes from any genome on a single chip. Also in
July 2004, the CombiMatrix group made available to researchers new
CustomArrays(TM) for Human Drug Metabolism, Human Toxicology, and a
Core 67 Cancer Array.
o In August 2004, the CombiMatrix group entered into a multi-year
collaborative strategic alliance with Furuno Electric Company, Ltd.
("Furuno") to design, engineer and build CombiMatrix Corporation's
Bench-Top DNA Microarray Synthesizer for CustomArray(TM) formatted
arrays. Under the terms of the agreement, Furuno paid CombiMatrix
Corporation an upfront fee of $1,000,000 and will make additional
development and milestone payments in the future, in accordance with
the agreement.
12
o In December 2004, the CombiMatrix group launched Design-on-Demand(TM)
Arrays, which provides the marketplace with a comprehensive catalog of
microarray expression products for microbial, eukaryotic, and viral
genomes. These arrays offer scientists an affordable and flexible tool
to conduct whole-genome expression studies on a wide range of
organisms, including Influenza, HIV, Anthrax, and SARS coronavirus.
HOMELAND SECURITY AND DEFENSE APPLICATIONS
o In March 2004, the CombiMatrix group executed a two-year, $5.9 million
contract with the Department of Defense to further the development of
the CombiMatrix group's microarray technology for the detection of
biological threat agents. Additionally, In July 2004, the CombiMatrix
group announced that it will receive an additional $2.3 million from a
Department of Defense appropriations bill passed by Congress.
o In October 2004, the CombiMatrix group and Science Applications
International Corporation (SAIC) announced a collaboration to develop
arrays for the identification of multiple bio-threat organisms. The
intent of the collaboration is to leverage each company's respective
Department of Defense funding in order to expedite the development and
testing of new identification and diagnostic assays and products
against conventional bio-threat agents and emerging and genetically
engineered pathogens.
DRUG DISCOVERY
o In January 2004, the CombiMatrix group made the first commercially
available microarray designed for the H5N1 influenza A virus ("bird
flu"). The World Health Organization appealed on January 27, 2004 for
technical assistance and expert advice to help stop the threat to
humans and agriculture posed by bird flu virus. The CombiMatrix group
utilized its proprietary probe-design software and ability to rapidly
synthesize novel DNA arrays to respond within two days.
o During 2004, the CombiMatrix group entered into a number of
collaborations in the field of drug discovery and development,
including collaborations with: 1) Washington University in St. Louis
to develop a system for the synthesis of libraries of diverse,
non-nucleic acid molecules; 2) Professor Bonaventura Clotet, M.D.,
Ph.D., of the Retrovirology Laboratory irsiCaixa, to conduct the
initial efficacy screening of pooled siRNA compounds against the
hepatitis C virus; 3) Dr. Ulrich Melcher, Department of Biochemistry
and Molecular Biology and Dr. Alexander C. Lai, Department of
Microbiology and Molecular Genetics from Oklahoma State University to
utilize CombiMatrix group's `Bird Flu' CustomArray(TM) devices to
characterize Bird flu viruses at the genomic level; 4) St. Jude
Children's Research Hospital to study the genetic variation in the H9
variant of Bird Flu; and 5) Case Western Reserve University for work
in developing a novel diagnostic for Alzheimer's disease using the
CustomArray(TM) platform.
o In October 2004, the CombiMatrix group entered into an agreement to
acquire up to a one-third ownership interest in Leuchemix, Inc.
("Leuchemix"), a private drug development firm, which is developing
several compounds for the treatment of leukemia and other cancers. In
accordance with the terms of the purchase agreement, the CombiMatrix
group will purchase 3,137,500 shares of Series A Preferred Stock of
Leuchemix for a total purchase price of $4,000,000, to be paid
quarterly over the next two years. In accordance with the terms of the
purchase agreement, CombiMatrix Corporation's Chief Executive Officer
was named a director of Leuchemix.
NANOTECHNOLOGY
o In January 2004, the CombiMatrix group entered into collaboration with
Cyrano Sciences (which has been acquired by Smiths Detection) to
develop nanotechnology-based chemical sensors to be used for the
detection of biological agents in air and water.
o In September 2004, the CombiMatrix group and Intel Corporation entered
into an agreement to work together on the feasibility of various
projects utilizing the CombiMatrix group's core technology. The terms
and conditions of the agreement are confidential.
o During 2004, the CombiMatrix group's strategic partner, Nanomaterials
Discovery Corporation, was granted a U.S. patent entitled, "Electrode
Array for Development and Testing of Materials." In August 2004,
Nanomaterials Discovery Corporation received a $2.5 million Department
of Defense appropriation for the development of fuel cell technology,
which will utilize CombiMatrix group's NanoArray(TM) technology as a
13
component of this development. In December 2004, Nanomaterials
Discovery Corporation delivered its first prototype nanomaterials
workstation to the CombiMatrix group.
ADDITIONS TO THE COMBIMATRIX GROUP'S SCIENTIFIC ADVISORY BOARD
o In February 2004, the CombiMatrix group named F. Mark Modzelewski to
its Scientific Advisory Board. Mr. Modzelewski is currently a
principal of Lux Capital, a New York based venture capital firm, and
is also a member of the Nanotechnology Technical Advisory Group to
President Bush's Council of Advisors on Science and Technology
(PCAST). Mr. Modzelewski was recognized by Forbes magazine as one of
nanotech's five "powerbrokers" and he has testified before the U.S.
Senate on nanotechnology funding, investment, technology transfer and
global competition.
o In April 2004, the CombiMatrix group named Mark A. Kay, M.D., Ph.D.,
to its Scientific Advisory Board. Dr. Kay is a Professor, Departments
of Pediatrics and Genetics, and Director, Program in Human Gene
Therapy, at the Stanford University School of Medicine. Dr. Kay is one
of the founders of and is currently the Vice President of the American
Society of Gene Therapy and a leader and pioneer in areas including
RNAi, gene and nucleic-acid drug delivery, and gene therapy.
EMPLOYEES
As of December 31, 2004, the CombiMatrix group had 71 full-time employees,
14 of whom hold Ph.D. degrees and 40 of whom are engaged in full-time research
and development activities. The CombiMatrix group is not a party to any
collective bargaining agreement. The CombiMatrix group considers its employee
relations to be good.
ENVIRONMENTAL MATTERS
The operations of the CombiMatrix group involve the use, transportation,
storage and disposal of hazardous substances, and as a result, it is subject to
environmental and health and safety laws and regulations. The cost of complying
with these and any future environmental regulations could be substantial. In
addition, if the CombiMatrix group fails to comply with environmental laws and
regulations, or releases any hazardous substance into the environment, the
CombiMatrix group could be exposed to substantial liability in the form of
fines, penalties, remediation costs and other damages, or could suffer a
curtailment or shut down of its operations.
14
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
BUSINESS
The Acacia Technologies group, a division of Acacia Research Corporation,
including companies recently acquired from Global Patent Holdings as described
earlier, is currently comprised of certain of Acacia Research Corporation's
wholly owned subsidiaries and limited liability companies including: Acacia
Global Acquisition Corporation, Acacia Internet Access Corporation, Acacia Media
Technologies GroupCorporation, Acacia Patent Acquisition Corporation, Acacia
Technologies Services Corporation, AV Technologies LLC, Broadcast Innovation
LLC, Data Innovation LLC, Financial Services Innovation LLC, Information
Technology Innovation LLC, InternetAd LLC, IP Innovation LLC, KY Data Systems
LLC, New Medium LLC, TechSearch LLC, VData LLC, Soundview Technologies, Inc.,
and Spreadsheet Automation Corporation and also includes all corporate assets,
liabilities, and related transactions of Acacia Research Corporation attributed
to the Acacia Research Corporation's intellectual property licensing business.
The Acacia Technologies group develops, acquires, licenses and enforces
patented technologies. From time to time, companies comprising the Acacia
Technologies group engage in litigation to enforce their patents. For a current
listing of pending patent enforcement litigation, see "Patent Enforcement
Litigation," below.
DIGITAL MEDIA TRANSMISSION TECHNOLOGY
The Acacia Technologies group owns and out-licenses a worldwide portfolio of
pioneering U.S. and foreign patents relating tocovering digital audio and video
transmission and receiving systems, commonly known as audio-on-demand,
video-on-demand, and audio/video streaming. The Acacia Technologies group's
patented proprietary DMT technology enables the digitization, encryption,
storage, transmission, receipt and playback of digital content via several means
including cable TV, which includes digital ad insertion and video on demand
programming, satellite TV programming, the Internet, which includes distance
learning and other Internet programming involving digital audio/video content,
wireless delivery of video content, fiber-optic delivery of video content and
hotel in-room digital delivery of programming. The Acacia Technologies group's
DMT technology is protected by five U.S. patents which expire in 2011and 31
foreign patents which expire in 2012.
MARKET OVERVIEW
The Acacia Technologies group has launched an extensive DMT technology
licensing program. Potential licensees include cable TV companies, satellite TV
companies, hotel in-room entertainment companies, telecommunications companies,
wireless companies and online music, movie, adult entertainment, e-learning,
sports, news and information companies.
The use of DMT technology continues to grow both in the United States and
internationally. The transmission of digital content by cable TV companies
continues to increase with the use of video-on-demand and digital ad insertion
systems. Satellite TV companies are switching to hard drive based reception
systems to offer their content with on-demand functionality. Hotel in-room
entertainment companies are switching to electronic distribution systems and
digital storage systems to reduce costs and increase profitability.
Telecommunications companies have announced plans to deliver digital video via
fiber-optic and wireless companies have begun to deliver digital video content
with 3G delivery systems. Entertainment companies are making more digital
content available via the Internet in order to distribute content directly to
the consumer as opposed to using third party distributors and retail outlets.
MARKETING AND DISTRIBUTION
DMT Technology Licensing Program
Acacia Technologies group is currently licensing its DMT technology and has
entered into 294 DMT licensing agreements to date, including 107 cable TV
licenses, 182 licenses for online entertainment, movies, news, sports,
e-learning and corporate websites and licenses with 5 companies that provide
over 90% of video-on-demand TV entertainment to the hotel industry in the United
States. During 2004, we executed 170 DMT license agreements. Licensees include
Bloomberg L.P., Capella Education Company, Callaway Golf Company, B&C
Cablevision, Central Valley Cable TV, LLC, CinemaNow, Inc., Disney Enterprises,
Inc., General Dynamics Interactive Corporation, Grupo Pegaso, Harley-Davidson,
Inc., LodgeNet Entertainment Corporation, NXTV, Inc., On Command Corporation,
Oral Roberts University, Revlon Consumer Products Corporation, Seren
Innovations, Sonoco Products Company, The Travelers Indemnity Company, T. Rowe
Price Associates, Inc., 24/7 University, Inc., Wachovia Corporation, Wendy's
International, Inc., World Wrestling Entertainment, Inc. and Xerox Corporation.
15
In the first, second, third and fourth quarters of 2004, the Acacia
Technologies group recorded DMT license fee revenues of $599,000, $666,000,
$740,000 and $779,000, respectively, compared to DMT license fee revenues of
$6,000, $19,000, $186,000 and $481,000, respectively, in the comparable 2003
periods.
RECENT ACQUISITION
On January 28, 2005, Acacia Global Acquisition Corporation acquired the
assets of Global Patent Holdings, LLC, which owned 11 patent licensing
companies. The acquisition gives the Acacia Technologies group ownership of
companies that control 27 patent portfolios, which include 120 U.S. patents and
certain foreign counterparts, and cover technologies used in a wide variety of
industries, including:
o AUDIO/VIDEO ENHANCEMENT AND SYNCHRONIZATION
-------------------------------------------
These patented technologies generally relate to the use of a noise
reduction filtering system for digital video compression, and for
video and audio signals received by digital radios and video displays.
Other aspects of the technologies generally relate to the
synchronization of audio/video signals. These technologies can be used
by broadcasters, broadcast equipment manufacturers, other electronics
manufacturers, and low frame rate video production, such as that used
on the Internet.
o BROADCAST DATA RETRIEVAL
------------------------
This patented technology generally relates to a system for
broadcasting and receiving programming content together with
supplemental data such as the title of a song, artist, content
description or a catalog number, which can be stored and recalled for
later viewing. This technology can be used in satellite radio, and
other broadcasting where data is transmitted along with the content.
o COMPUTER MEMORY CACHE COHERENCY
-------------------------------
This patented technology generally relates to interface circuits used
by intelligent peripheral devices with cache memory to communicate
with the main computer memory. By synchronizing main computer memory
and main cache memory, peripheral devices such as graphics processors
can operate at much higher speeds, without costs associated with their
own memory. This technology can be used in desktop, notebook, and
server computer systems.
o CREDIT CARD FRAUD PROTECTION
----------------------------
This patented technology generally relates to a computerized system
for protecting retailers and consumers engaged in credit card, check
card, and debit transactions. The system includes an electronic card
reader, and the generation and use of a transaction number, which
specifically identifies each transaction processed within the system.
As a result, the retailer does not necessarily have to print detailed
information concerning the cardholder's identity or account number on
the customer's receipt.
o DATA ENCRYPTION AND PRODUCT ACTIVATION
--------------------------------------
These patented technologies generally relate to accessing clear data,
and encrypted data via an identification label. Once decrypted, the
clear and decrypted data are combined to activate software programs,
and other files. Other aspects of the technologies generally relate to
the use of an operating system to transparently create an encrypted
file storage subsystem to fully secure user files from access by
anyone other than the user.
o DATABASE MANAGEMENT
-------------------
This patented technology generally relates to the improved
combination, display, and coordination of certain information from
data tables in a relational database software program. The user is
able to easily track the impact of a change to one table, on other
tables in the program through various tools including a graphical
representation.
o DIGITAL VIDEO PRODUCTION
------------------------
These patented technologies generally relate to features that can be
found in production video processing equipment. They cover improved
methods of equipment interconnection, aspects of graphical user
interface displays, and automation of video processing. These features
allow ease of equipment interconnection, clearer information display,
and automation of video production tasks previously performed
manually. Other aspects of the technologies generally relate to
automatic color correction, commonly used when transferring film to
video, and certain 3D effects, commonly used in video scene
transitions.
16
o DYNAMIC MANUFACTURING MODELING
------------------------------
This patented technology generally relates to a modeling and control
process used to decrease costs and increase production for factory
operations. Such simulation modeling can include a variety of
parameters such as products, fabrication sequences, collections of job
sets, scheduling rules, and machine reliability standards. This
technology can be used for distributingexacting manufacturing processes such as
semiconductor fabrication.
o ENHANCED INTERNET NAVIGATION
----------------------------
These patented technologies generally relate to enhanced Internet
navigation by retrieving a page from a hyper-linked website for
retrieval offline on a personal computer. This enables certain website
content to be saved, retrieved, and accessed locally, without the need
for Internet connectivity. Other aspects of the technologies generally
relate to information distribution and processing via various methods including computer networks, cable television systemsthe use of a
linking reference to access sets of data. These technologies can be
used in email transmissions with links to websites, special offers,
and direct
broadcasting satellite systems. Acacia Media Technologies Group is responsible
forother information.
o IMAGE RESOLUTION ENHANCEMENT
----------------------------
This patented technology generally relates to the development, licensing and protectionmodification of its intellectual property and
proprietary technologies. Our media technologies group continuesa
video or printed display to pursue both
licensing and strategic business alliances with leading companiesimprove the perceived image quality beyond
the basic pixel resolution of the display. The apparent improvement in
the rapidly
growing media technologies industry.
Acacia's life sciences business, collectively referred to as "Acacia
Life Sciences Group," is comprisedresolution of CombiMatrix Corporation ("CombiMatrix")
and Advanced Material Sciences, Inc. ("Advanced Material Sciences"). Our core
technology opportunityan image occurs without requiring an increase in the
life sciences sector has been developed through
our majority-owned subsidiary, CombiMatrix. CombiMatrix is a life scienceresolution of the signal or input. This technology company with a proprietary system for rapid, cost competitive
creationcan be used in
certain CRT, plasma and LCD televisions and displays, low resolution
cameras such as camera phones, and consumer and commercial printers.
o INTERACTIVE DATA SHARING
------------------------
This patented technology generally relates to the real time sharing of
DNAchanges to content, enabling users to interactively view, change and
add to the content from multiple remote terminals. This technology can
be used in certain types of conferencing such as web conferencing,
interactive gaming, and other compounds on a programmable semiconductor chip. This
proprietary technology has significant applications relatingforms of collaborative interactive
communication.
o INTERACTIVE TELEVISION
----------------------
These patented technologies generally relate to genomicvarious aspects of
interactive television including receivers such as set-top boxes and
proteomic research. Our majority-owned subsidiary, Advanced Material Sciences,
holdscertain televisions used in digital satellite TV and digital cable TV
systems that permit television viewers to access interactive
television features supplied by their satellite TV and cable TV
providers as part of their digital programming packages. Data, which
is associated with the exclusive license for CombiMatrix's biological array processor
technology in certain fieldsinteractive television features and is
broadcast along with the video signal, is extracted and processed by
components within the receivers, and is then made available to viewers
who choose to access the interactive television features through their
remote control. Examples of material sciences.
1
Below is a summary of our most significant whollysuch data include sports scores, weather
information, stock updates, interactive games, and majority-owned
subsidiaries and our related ownership percentages on an as-converted basis:
OWNERSHIP % AS OF 3/22/02
COMPANY NAME DESCRIPTION OF BUSINESS ON AN AS-CONVERTED BASIS
------------- ----------------------- ------------------------
ACACIA MEDIA TECHNOLOGIES GROUP:
Soundview Technologies Incorporated........ A media technology company that owns intellectual 100.0%
property related to the telecommunications field,
including a television blanking system, also
known as "V-chip," which it is licensing to
television manufacturers.
Acacia Media Technologies Corporation
(formerly Greenwich Information
Technologies LLC)....................... A media technology company that owns a worldwide 100.0%
portfolio of pioneering patents relating to audio
and video transmission and receiving systems,
commonly known as audio-on-demand and
video-on-demand, used for distributing content
via various methods including computer networks,
cable television systems and direct broadcasting
satellite systems.
ACACIA LIFE SCIENCES GROUP:
CombiMatrix Corporation.................... A life science technology company with a 57.5%(1)
proprietary system for rapid, cost competitive
creation of DNA and other compounds on a
programmable semiconductor chip. This proprietary
technology has significant applications relating
to genomic and proteomic research.
Advanced Material Sciences, Inc............ A development-stage company that holds the 58.1%(2)
exclusive license for CombiMatrix's biological
array processor technology in certain fields of
material science.
- ----------------------------------
(1) We are a party to a shareholder agreement with an officer of
CombiMatrix, which provides for (a) the collective voting of shares
(representing 69.5%movie listings.
Other aspects of the voting interests in CombiMatrix) fortechnologies generally relate to the electionscrambling
or encrypting of certain directors to CombiMatrix's board of directors and
(b) certain restrictions onbroadcast signals whereby the saleunscrambling or
transfer of the officer's
shares of common stock in CombiMatrix.
(2) Advanced Material Sciencesdecryption is 58.1% owned by us, 28.5% owned by
CombiMatrix and 13.4% owned by third-parties. We have a 74.5% economic
interest in Advanced Material Sciences by virtue of our 58.1% direct
ownership interest in Advanced Material Sciences and our 57.5% interest
in CombiMatrix.
2
RECENT DEVELOPMENTS
On March 20, 2002, we announced that our board of directors approved a
plan to divide our common stock into two new classes - new "CombiMatrix" common
stock, that would reflect the performance of our CombiMatrix subsidiary, and new
"Acacia Technologies" common stock, that would reflect the performance of our
media technology businesses, including Soundview Technologies Incorporated and
Acacia Media Technologies Corporation. The plan will be submitted to our
stockholders for approval. If the recapitalization proposal were approved, our
stockholders would receive shares of both of the new classes of stock in
exchange for existing Acacia shares. The new share classes would be separately
listed on the NASDAQ National Market System.
We also announced that our board of directors and CombiMatrix's board
of directors have approved an agreement for Acacia to acquire the minority
stockholder interests in CombiMatrix. The proposed acquisition would be accomplished through a mergerremovable card, commonly known as
a "smart card."
o INTERSTITIAL INTERNET ADVERTISING
---------------------------------
This patented technology generally relates to the display of certain
advertising, informational, and branding messages that appear between
or outside web pages when the user is conducting a search, by storing
the message prior to being displayed. This technology is most commonly
used by travel based and other reservation based websites.
o MICROPROCESSOR ENHANCEMENT
--------------------------
This patented technology generally relates to an architecture employed
in whichadvanced pipeline microprocessors. This architecture allows for
conditional execution of microprocessor instructions, and a later
determination of whether the minority stockholdersinstructions executed should be written
back to memory. By conditionally executing instructions in this
architecture, significant improvements in microprocessor speed can be
achieved. Certain pipelined processor manufacturers are adopting this
method of CombiMatrixprocessing to improve processor speed.
17
o MULTI-DIMENSIONAL BAR CODES
---------------------------
This patented technology generally relates to encoding and reading a
data matrix consisting of an array of data cells with a border. The
data matrix can contain a variety, amount, and depth of information
that would receive sharesnot fit on to an ordinary bar code. This patented
technology can have many applications in the manufacturing,
distribution, operations, accounting, and security industries such as
tracking the movement of products, collection of data, improved
production capabilities and anti-counterfeiting.
o NETWORK DATA BACK-UP
--------------------
This patented technology generally relates to a computer network
system for backing up data and program files listed by users from
networked work stations. User lists are stored locally, resulting in
increased speed and security. This technology can be used by network
software.
o RESOURCE SCHEDULING
-------------------
This patented technology generally relates to the creation and
maintenance of a schedule through the periodic management and
monitoring of interrelated and interdependent resources from a
database. These resource management tools can be part of scheduling
software used to plan and monitor the use of facilities, the
allocation of manpower, and the use and scheduling of other resources.
o ROTATIONAL VIDEO IMAGING
------------------------
This patented technology generally relates to a rotational video
imaging device for viewing the interior of a cavity or structure. This
technology can be used for medical devices such as endoscopes, and
non-medical devices capable of noninvasive surveillance and analysis.
o SPREADSHEET AUTOMATION
----------------------
This patented technology generally relates to automating the
production of worksheet files for use by electronic spreadsheet
programs. Specifically, the patented technology permits the efficient
retrieval of data from external databases by allowing the user to
select specific data from a database and import the specified data
into a spreadsheet program through uniquely streamlined spreadsheet
commands. The adaptive quality of the new "CombiMatrix" common stock,technology permits, among other
things, the user to retrieve updated information from an external
database without creating formatting issues in exchange for
their existing shares.the user's spreadsheet
program.
The proposed transaction will be submitted toacquisition expands and diversifies the stockholders of Acacia Technologies group's
revenue generating opportunities and CombiMatrix for approval.
The proposed recapitalization and merger are subject to several
important conditions, including receipt of stockholder approval, receipt of
satisfactory tax and accounting opinions, approvalaccelerates the execution of the proposed merger by a
special committeeAcacia
Technologies group's business strategy of the CombiMatrix board of directors, receipt of a fairness
opinion, approval for listing of both of the new shares on the NASDAQ National
Market Systemacquiring, developing and other customary conditions. We expectlicensing
patented technologies.
V-CHIP TECHNOLOGY
The Acacia Technologies group also owned and out-licensed to present these
proposals to our stockholders for approval at a special meeting.
BUSINESS GROUPS
ACACIA MEDIA TECHNOLOGIES GROUP
SOUNDVIEW TECHNOLOGIES INCORPORATED
Soundview Technologies Incorporated ("Soundview Technologies") was
incorporated in March 1996 under the laws of the State of Delaware. Soundview
Technologies has acquired and is developing intellectual property in the
telecommunications field, including audio and video blanking systems, alsoconsumer
electronics manufacturers, patented technology known as the V-chip. The V-chip
technology. In March 1998, the Federal Communications Commission
("FCC") approved the television guidelines rating system, as well as the V-chip
technical standards. Soundview Technologies owns the exclusive right and title
totechnology was protected by U.S. Patent No. 4,554,584, which describes a method for implementing the
V-chip system in parallel with the existing closed-captioning circuits already
in place in televisions.
In June 2001, our ownership interest in Soundview Technologies
increased from 67% to 100%, following Soundview Technologies' completion of a
stock repurchase transaction with its former minority stockholders. Soundview
Technologies repurchased the stock of its former minority stockholders in
exchange for a cash payment and the grant to such stockholders of the right to
receive 26% of future net revenues generated by Soundview Technologies' current
patent portfolio, which includes its V-chip patent.
Soundview Technologies' patent was issued in November 1985 and expiresexpired in July
2003. In April 1998, the U.S. Patent and Trademark Office issued a
reexamination certificate confirming the approvalThe V-chip was adopted by manufacturers of all existing and newly
added claims of its issued patent. The reexamination was requested by Soundview
Technologies in August 1996 to confirm the strength of its patent in light of
other existing patents. Over 30 new prior art references were introduced and
examined during the process, which took more than eighteen months for the Patent
Office to complete. As a result, patentability of all original claims as issued
was confirmed and 17 new claims more specific to the V-chip implementation were
granted.
As of July 1, 1999, the 1996 Telecommunications Act required all
television manufacturers to include V-chip technology in 50% of all new
television sets with screens 13 inches or largertelevisions sold in the United States.
After January 1, 2000,U.S. to
provide blocking of certain programming based upon its content rating code, in
compliance with the 1996 Telecommunications Act required allof 1996.
V-CHIP LICENSING PROGRAM
The V-chip patent expired in July 2003. The Acacia Technologies group has
licensed 13 major television manufacturers, to include V-chip technology in all new television sets with
3
screens 13 inches or larger sold in the United States. Approximately 26.0
million new televisions are sold each year in the United States. Soundview
Technologies' V-chip technology is a cost-effective method for V-chip
implementation that is compatible with components currently in use in
televisions. Soundview Technologies' V-chip technology uses a television's
receiver circuitry to decode content rating information sent as partrepresenting approximately 75% of
the broadcast signal. By utilizing the broadcast signal that carries closed-caption
data, Soundview Technologies' technology is relatively inexpensive to implement.
The industry and its trade association adopted this method as the technical
standard for new television setstelevisions sold in the United States, that are required to
have V-chip technology.
In 2000, Soundview Technologies filed a federal patent infringement and
antitrust lawsuit against certain television manufacturers, the Consumer
Electronics Manufacturers Association and the Electronics Industries Alliance
d/b/a/ Consumer Electronics Association. In its lawsuit now pending before the
United States District Court for the District of Connecticut, Soundview
Technologies alleges that television sets fitted with V-chips and sold in the
United States infringe Soundview Technologies' patent. Additionally, Soundview
Technologies alleges that the Consumer Electronics Manufacturers Association has
induced infringement of Soundview Technologies' patent and that the defendants
have violated the federal Clayton and Sherman Antitrust Acts by engaging in
collusive attempts to prevent others in the electronics and television
broadcasting industries from entering into licensing agreements with Soundview
Technologies. Soundview Technologies is seeking monetary damages, an injunction
preventing unlicensed use of its patented technology and other remedies.
During 2001, Soundview Technologies executed separate settlement and/or
license agreements withincluding Samsung Electronics,
Hitachi America, Ltd., LG Electronics, Inc., Funai Electric Co., Ltd., Daewoo
Electronics Corporation of America, Sanyo Manufacturing Corporation, Thomson
Multimedia, Inc., JVC Americas Corporation, Matsushita Electric Industrial Co.,
Ltd. and, Orion Electric Co. Ltd.,
Ltd. In addition, Soundview Technologies settled its lawsuits with Pioneer Electronics (USA) Incorporated, an affiliate of Pioneer Corporation, and
received payments from Philips
Electronics North America Corporation pursuantand Loewe Opta Gmbh. To date, the Acacia
Technologies group has recognized $25.7 million in V-chip license fees,
including $1.5 million in previously deferred V-chip license fees in 2004. We
concluded the V-chip licensing program in August 2004 and do not expect to
a settlement and license agreement signedreceive any additional V-chip related revenues in December 2000. Certain of these
license agreements constitute settlementsfuture periods.
18
PATENT ENFORCEMENT LITIGATION
From time to time, companies comprising the Acacia Technologies group
engage in litigation to enforce their patents. A summary of patent enforcement
related litigation initiated by Acacia Technologies group companies is provided
below.
SOUNDVIEW TECHNOLOGIES
Litigation for patent infringement litigation
brought by Soundview Technologies.and anti-trust violations was pending in
the U.S. Court of Appeals for the Federal Circuit against Sony Corporation of
America, Mitsubishi Digital Electronics America, Inc., Sharp Electronics
Corporation and Toshiba America Consumer Products, Inc.
In August 2004, the U.S. Court of Appeals for the Federal Circuit affirmed
the September 2002 U.S. District Court for the District of Connecticut ruling
that the remaining television manufacturers named in the Acacia Technologies
group's V-chip patent infringement lawsuit do not infringe the Acacia
Technologies group's V-chip patent. Refer to Item 7. "Management's Discussion
and Analysis of Financial Condition and Results of Operations," for details of
the financial statement impact of the final ruling. The remaining non-Soundview
parties have a motion pending before the United States District Court for the
District of Connecticut seeking reimbursement of certain attorney's fees.
Management believes that the ultimate liability with respect to this claim, if
any, will not have a material effect on our financial position, results of
operations or cash flows.
ACACIA MEDIA TECHNOLOGIES CORPORATION
CABLE AND SATELLITE TV
In 2004, Acacia Media Technologies filed a Complaint in the District Court
for the Northern District of California alleging infringement of Acacia Media
Technologies' DMT patents against Comcast Corporation, Charter Communications,
Inc., The DirectTV Group, Inc., Echostar Communications Corporation, Boulder
Ridge Cable TV, Central Valley Cable TV, LLC, Seren Innovations, Inc., Cox
Communications, Inc., Hospitality Network, Inc. (a wholly owned subsidiary of
Cox that supplies hotel on-demand TV services) and Mediacom, LLC. As of December
31, 2001, we have received
license fee payments from television manufacturers totaling $25.6 million and
have granted non-exclusive licenses of Soundview Technologies' U.S. Patent No.
4,554,584 to the respective television manufacturers. Certain of the settlement
and license agreements provide for future royalty payments to Soundview
Technologies. We received and recognized as revenue $2.4 million of the license
fee payments in the first quarter of 2001, $10.0 million of the license fee
payments in the second quarter of 2001, $10.7 million of the license fee
payments in the third quarter of 2001 and $1.0 million of the license fee
payments in the fourth quarter of 2001. License fee payments received during
2001 totaling $1.5 million are included in deferred revenues at December 31,
2001 pursuant to the terms of the respective agreements.
ACACIA MEDIA TECHNOLOGIES CORPORATION2004, Acacia Media Technologies Corporation ("Acacia Media Technologies"),
formerly Greenwich Information Technologies LLC which was formed as a limited
liability company under the laws of the State of Delaware in 1996, owns a
worldwide portfolio of pioneering patents relating to audiohas executed license and video
transmissionsettlement
agreements with Boulder Ridge Cable TV, Central Valley Cable TV, and receiving systems, commonly known as audio-on-demand and
video-on-demand, used for distributing content via various methods including
computer networks, cable television systems and direct broadcasting satellite
systems. Audio-on-demand offers similar functionality with music or other audio
content. Video-on-demand allows television viewers to order movies or other
programs from a remote file server and to view them at home with full VCR
functionality, including pause, fast-forward and reverse. Information-on-demand
is one of the primary applications of interactive entertainment.
On November 1, 2001, we increased our ownership interest inSeren
Innovations.
In September 2004, Acacia Media Technologies formerly Greenwich Information Technologiesfiled complaints in the U.S.
District Court for the District of Arizona, U.S. District Court for the District
of Minnesota and the U.S. District Court for the Northern District of Ohio -
Eastern Division, alleging infringement of Acacia Media Technologies' DMT
patents against certain cable and satellite companies located in Arizona,
Minnesota, and Ohio. Companies named in the lawsuits include Armstrong Group,
Arvig Communication Systems, Block Communications, Inc., Cable America
Corporation, Cable One, Inc., Cable System Services, Inc., Cannon Valley
Communications, Inc., East Cleveland Cable TV and Communications, LLC, from 33% to
100% through the purchaseLoretel
Cablevision, Massillon Cable TV, Inc., Mid-Continent Media, Inc., Nelsonville TV
Cable, Inc., NPG Cable, Inc., Precis Communications, Inc. San Carlos
Cablevision, LLC, Savage Communications, Inc., Sjoberg's Cablevision, Inc., US
Cable, and Wide Open West, LLC. As of the ownership interest of the former limited
liability company's other member. In December 2001, we converted the company
from a limited liability company to a corporation and changed the name of the
company to31, 2004, Acacia Media
Technologies Corporation (hereinafter referred to as
"Acacia Media Technologies").has executed license agreements with Precis Communications and
Cable System Services and dismissed the action against San Carlos Cablevision
and Nelsonville TV Cable.
INTERNET WEBSITES
In 2003, Acacia Media Technologies initiated DMT patent infringement
litigation in the Federal District Court for the Central District of California
(the "Court") against defendants who provide adult oriented digital content over
the Internet. As of December 31, 2004, New Destiny Internet Group, Inc., Audio
Communications Inc., VS Media, Ademia Multimedia, LLC, International Web
Innovations, Inc., Offendale Commercial BV, Ltd., Adult Entertainment Broadcast
Network, Cybertrend, Inc., Lightspeed Media Corp., Adult Revenue Services,
Innovative Ideas International, AskCS.com, Game Link, Inc., Club Jenna, Inc.,
Cybernet Ventures, Inc., ACMP, LLC, Global AVS, Inc. d/b/a DrewNet, ICS, Inc. /
AP Net Marketing, Inc., and National A-1 Advertising, remained in the
litigation.
HOTEL ON-DEMAND TV INDUSTRY
In November 2003, Acacia Media Technologies initiated a patent infringement
lawsuit in the Federal District Court for the Central District of California
against On Command Corporation, provider of interactive in-room entertainment,
information and business services to the lodging industry, regarding Acacia
Media Technologies' DMT technology. In June 2004, Acacia Media Technologies
entered into a license agreement for its DMT technology with On Command
Corporation settling all outstanding litigation between the parties.
19
PATENT ENFORCEMENT LITIGATION - RELATED TO ACQUIRED COMPANIES
Certain companies acquired as a result of the January 2005 acquisition of
the assets of Global Patent Holdings, as described above, have initiated patent
enforcement related litigation as follows:
IP INNOVATION, LLC
o IP Innovation, LLC et. al. v. Lexmark International, Inc., United
States District Court for the Northern District Of Illinois
o IP Innovation, LLC. v. Dell Computer, United States District Court for
the Northern District of Illinois
o IP Innovation, LLC v. WebCT., Digital Think, Inc., eCollege.com,
Docent Inc., United States District Court for the Southern District of
Texas, on appeal to the U.S. Court of Appeals for the Federal Circuit
IP INNOVATION, LLC AND NEW MEDIUM, LLC
o IP Innovation, LLC and New Medium, LLC et. al. v. Sony Electronics,
Inc., United States District Court for the Northern District of
Illinois
o IP Innovation, LLC and New Medium, LLC et. al. v. Matsushita Electric
Corporation of America, et. al., United States District Court for the
Northern District of Illinois
VDATA LLC
o VCode Holdings, Inc. et. al. v. Adidas America, AMD, Stamps.com,
Hitachi Global Storage Technologies Thailand, Ltd, et. al., United
States District Court for the District of Minnesota
INFORMATION TECHNOLOGY INNOVATION, LLC
o Information Technology Innovation, LLC et. al. v. Motorola, Inc.,
United Sates District Court for the Northern District of Illinois
BROADCAST INNOVATION, LLC
o Broadcast Innovation, LLC et. al. v. Echostar Communications
Corporation et. al., United States District Court for the District of
Colorado
o Broadcast Innovation, LLC et. al. v. Charter Communications Inc. et.
al., United States District Court for the District of Colorado, on
appeal to the U.S. Court of Appeals for the Federal Circuit
FINANCIAL SYSTEMS INNOVATION, LLC
o Ware et. al. v. H.E. Butt Grocery Company, Williams-Sonoma, Inc.,
Linens 'N Things, Inc., Petco Animal Supplies, Inc., Costco Wholesale
Corporation,, The Bombay Company , United Sates District court for the
Northern District of Texas
o Ware et. al. v. The Kroger Co. United States District court for the
Northern District of Georgia
o Financial Systems Innovation, LLC v. Via Technologies, Inc. et. al.,
CD, California
AV TECHNOLOGIES, LLC
o Technology Licensing Corporation et. al. v. Thomson, Inc., E.D.
California
20
THE ACACIA TECHNOLOGIES GROUP'S STRATEGY
The Acacia Technologies group's business strategy includes the following:
IDENTIFY EMERGING GROWTH AREAS WHERE PATENTED TECHNOLOGIES WILL PLAY A
VITAL ROLE
The patent process breeds innovation and invention by granting a limited
monopoly to the inventor in exchange for sharing the invention with the public.
Certain technologies, such as our DMT technology, become core technologies in
the way products and services are manufactured, sold and delivered. The Acacia
Technologies group identifies core, patented technologies that have or are
anticipated to be widely adopted by third parties in connection with the
manufacture or sale of products and services.
CONTACT AND FORM ALLIANCES WITH OWNERS OF CORE, PATENTED TECHNOLOGIES
For years, many large companies have earned substantial revenue licensing
patented technologies to third parties. Other companies that do not have
internal licensing resources and expertise have continued to record the
estimated value of intellectual property on their financial statements without
deriving income from their intellectual property. Recent changes in securities
and financial reporting regulations require these companies to evaluate and
potentially reduce or write-off these intellectual property assets if they are
unable to substantiate these reported values.
The Acacia Technologies group seeks to enter into business agreements with
owners of intellectual property that do not have experience or expertise in the
areas of intellectual property licensing and enforcement or that do not possess
the in-house resources to devote to licensing and enforcement activities.
EFFECTIVELY AND EFFICIENTLY EVALUATE PATENTED TECHNOLOGIES FOR ACQUISITION,
LICENSING AND ENFORCEMENT
Subtleties in the language of a patent, recorded interactions with the
patent office, and the evaluation of prior art and literature can make a
significant difference in the potential licensing and enforcement revenue
derived from a patent or patent portfolio. The Acacia Technologies group's
specialists are trained and skilled in these areas. It is important to identify
potential problem areas prior to commercialization and determinate whether
potential problem areas can be overcome, before launching a licensing program.
We have developed processes and procedures for identifying problem areas and
evaluating the strength of a patent before the decision is made to allocate
resources to a licensing and enforcement effort.
PURCHASE OR ACQUIRE THE RIGHTS TO PATENTED TECHNOLOGIES
After evaluation, the Acacia Technologies group may elect to purchase the
patented technology, or become the exclusive licensing agent for the patented
technology in all or in specific fields of use. In either case, the owner of the
patent generally retains the rights to a portion of the revenues generated from
a patent's licensing and enforcement program. The Acacia Technologies group
generally controls the licensing and enforcement process and utilizes its
experienced in-house personnel to reduce outside costs, and ensure that the
Acacia Technologies group's capital is allocated and utilized in an efficient
and cost effective manner.
SUCCESSFULLY LICENSE AND ENFORCE PATENTS WITH SIGNIFICANT ROYALTY POTENTIAL
As part of our patent evaluation process, significant consideration is also
given to the identification of potential infringers, industries within which the
potential infringers exist, longevity of the patented technology, and a variety
of other factors that directly impact the magnitude and potential success of a
licensing and enforcement program. Acacia Technologies group's specialists are
trained in evaluating potentially infringing technologies and presenting the
application of patents to such technologies. These presentations generally take
place in a non-adversarial business setting, but can also occur through the
litigation process, if necessary.
PATENTS AND LICENSES
The Acacia Technologies group owns five issued U.S. patents relating to
audio and video transmission and receiving systems, commonly known as
audio-on-demand, video-on-demand and video-on-demand,audio/video streaming, used for
distributing content via various methods as follows: U.S. Patent No. 5,132,992,
U.S. Patent No. 5,253,275, U.S. Patent No. 5,550,863, U.S. Patent No. 6,002,720
and U.S. Patent No. 6,144,702. In addition, the Acacia Media Technologies group owns
sixteen31 foreign patents also relating to audio and video transmission and receiving
systems technology. Foreign rights include patents granted in Mexico and the Republic of China, aan initial patent granted by the
European Patent Office covering Austria, Belgium, Denmark, Finland, France,
Germany, Greece, Italy, Luxembourg, Monaco, the Netherlands, Spain, Sweden,
21
Switzerland and the United Kingdom, and patent applications pendingpatents in Japan, Taiwan and South Korea. ThoseMexico. In
January 2004, the Acacia Technologies group was issued an additional European
patent for its DMT Technology. The new patent provides additional coverage in
the countries listed above. Acacia Technologies group's U.S. DMT patents that have already been issued and granted
were issued or granted during the past nine years, the earliest of which will expire
in 2011. Acacia Media Technologies is pursuing business opportunities
with possible providers of information-on-demand systems2011 and others involvedits foreign DMT patents expire in supplying related information-on-demand services.
4
The market for audio and video transmission and receiving systems, such
as audio-on-demand and video-on-demand, continues to grow inside the United
States and abroad. The technology underlying the infrastructure required to
deliver digitized signals to consumers continues to rapidly improve, making the
expansion of the infrastructure more economical, and increasing the
opportunities for the commercialization of Acacia's audio and video-on-demand
patent portfolio. It is estimated that there are currently 17 million digital
satellite customers in the United States and 9 million outside the United
States. There are an estimated 13 million digital cable subscribers in the
United States, and this number is anticipated to increase to over 40 million by
2005. It is also estimated that there are currently 11 million broadband
Internet customers in the United States, and this number is anticipated to
increase significantly by 2005. Interactive services such as video-on-demand are
being rolled out to these digital customers, and it is anticipated that revenues
for the video-on-demand industry will reach $3 billion by 2005. We will continue
to pursue both licensing and strategic business alliances with leading companies
in the rapidly growing media technologies industry.
Subsequent to the acquisition of our 100% ownership interest in Acacia
Media Technologies, we have focused our efforts on building a management team
with expertise in licensing to the audio and video consumer electronics industry
that will focus on the commercialization of Acacia's audio and video-on-demand
patent portfolio.
In December 2001, Roy Mankovitz joined Acacia Media Technologies as
Senior Vice President, Intellectual Property. Mr. Mankovitz is best known for
his position as a Director, and Corporate Counsel, Intellectual Property of
Gemstar - TV Guide International ("Gemstar"). Mr. Mankovitz was with Gemstar
from 1991 to 1998, where he was responsible for the worldwide patent, trademark
and copyright program, including technology licensing, litigation, strategic
alliances and the establishment, acquisition and protection of intellectual
property rights. He was also a member of the research and development group for
new product development and a named inventor of more than two-dozen United
States and foreign patents assigned to Gemstar. Prior to Gemstar, Mr. Mankovitz
was a member of the law firm Christie, Parker and Hale, LLP where he was
responsible for intellectual property prosecution, litigation support,
infringement and validity studies, and client counseling for electronics
companies, including Gemstar, Samsung and Fujitsu.
In the first quarter of 2002, Andrew Duncan joined Acacia Media
Technologies as Vice President, Business Development. Mr. Duncan was formerly
Vice President, Consumer Electronics of Gemstar - TV Guide International with
direct reporting responsibility to the CEO. Mr. Duncan was with Gemstar from
1994 to 2001, where he was responsible for licensing and marketing of the highly
successful VCR Plus+ and Electronic Program Guide. At Gemstar, he developed and
controlled licensing and marketing policy with all major consumer electronic
manufacturers worldwide, including Sony, Philips and RCA. Prior to Gemstar, Mr.
Duncan was European Marketing and Product Manager for Thomson Multimedia
(formerly RCA/GE in the United States) where he was responsible for the
company's consumer electronics multi-brand business across Europe.
ACACIA LIFE SCIENCES GROUP
COMBIMATRIX CORPORATION
CombiMatrix, a majority-owned subsidiary of Acacia, was incorporated in
October 1995 under the laws of the State of California and reincorporated in the
State of Delaware in September 2000. CombiMatrix is a development-stage company
engaged in the development of a proprietary universal biochip with applications
in the genomics, proteomics and combinatorial chemistry markets.
CombiMatrix is developing a technology to allow it to rapidly produce
customizable biological array processors, which are semiconductor-based tools
for use in identifying and determining the roles of genes, gene mutations and
proteins. CombiMatrix is designing its products principally to be responsive to
the needs of pharmaceutical and biotechnology researchers to analyze raw genomic
data in the discovery and development of pharmaceutical products. CombiMatrix's
biological array processor is a semiconductor coated with a three-dimensional
layer of porous material in which DNA, RNA, peptides or small molecules can be
synthesized or immobilized within discrete test sites. CombiMatrix integrates a
semiconductor, proprietary software and chemistry and the Internet into a system
that should enable CombiMatrix to design, customize and ship biological array
processors made to its potential customers' specifications, typically in less
than a day. CombiMatrix's system should enable researchers to conduct rapid,
iterative experiments to analyze the large amounts of genomic information
generated by the Human Genome Project and other genomic research efforts. We
believe that CombiMatrix's customizable biological array processors will enable
potential customers to reduce the time and costs associated with the discovery
and development of pharmaceutical products.
5
CombiMatrix's technology potentially represents a significant advance
over existing biochip technologies and other platforms for combinatorial
chemistry. The first application of the technology that CombiMatrix is pursuing
is in the field of genomics, where CombiMatrix is developing a biochip for the
analysis of DNA. CombiMatrix believes that this technology may be applied to the
fields of genetic analysis and disease management. CombiMatrix also intends to
develop the genomic chip in the field of drug discovery, where genomic
information is used to discover and to validate new targets for pharmaceutical
intervention. CombiMatrix is also developing the chip in the emerging field of
proteomics, where analysis of DNA is correlated to the levels of proteins in
patient samples. Many researchers believe that the analysis of proteomic
information will lead to the development of new drugs and better disease
management. Once CombiMatrix demonstrates the feasibility of its approach in
each market, it intends to enter into strategic alliances with major
participants to speed commercialization in multiple applications.
CombiMatrix has 42 patent applications pending in the United States and
Europe.2012.
In July 2000, CombiMatrix was granted2004, the Acacia Technologies group acquired U.S. Patent No.
6,093,302, which
expires in July 2017, for its biochip microarray processor system. This system
enables quick and economical turnaround of custom-designed microarrays for use
in biological research. A microarray consists of a chemical "virtual flask"
located on the surface of a semiconductor chip containing thousands of
microarrays, which are separated6,226,677 from each other using special solutions instead
of physical barriers. Each microarray has electronic circuitry that may be
directed by a computer to construct a specified compound.LodgeNet Entertainment Corporation. The patent covers CombiMatrix's core technology
which isand methods for redirecting users to a method for producing microarrays by
synthesizing biological materials onlogin page when accessing the Internet
and expires in 2019.
As a three-dimensional, active surface.
In July 2001, CombiMatrix entered into a non-exclusive worldwide
license, supply, research and development agreement with Roche Diagnostics GmbH
("Roche"). Under the termsresult of the agreement, it is contemplated that Roche will
purchase, use and resell CombiMatrix's biochips (microarrays) and related
technology for rapid production of customizable biochips. Additionally,
CombiMatrix and Roche will develop a platform technology, providing a range of
standardized biochips for use in important research applications. Roche will
make payments for the deliverables contemplated and for expanded license rights.
The agreement allows Roche to use, develop and resell licensed
CombiMatrix products in diagnostic applications. The agreement includes a
revenue sharing arrangement and has a term of 15 years. The agreement provides
for minimum payments by Roche to CombiMatrix over the first three years,
including milestone achievements, payments for products, royalties and research
and development projects.
In August 2001, CombiMatrix entered into a license and supply agreement
with the National Aeronautics and Space Administration ("NASA"). The agreement
has a two-year term and provides for the license, purchase and use by the NASA
Ames Research Center of CombiMatrix's active biochips (microarrays) and related
technology to conduct biological research in terrestrial laboratories and in
space.
In October 2001, CombiMatrix formed a joint venture with Marubeni
Japan, one of Japan's leading trading companies. The joint venture, based in
Tokyo, will focus on development and licensing opportunities for CombiMatrix's
biochip technology with pharmaceutical and biotechnology companies in the
Japanese market. Marubeni made an investment to acquire a ten percent (10%)
minority interest in the joint venture.
In December 2001, CombiMatrix completed a major milestone in its
strategic alliance with Roche including demonstration of several key performance
metrics of its custom in-situ microarray system.
In 2000 and 1999, CombiMatrix was awarded a total of three contracts
from the U.S. Federal government with respect to its biochip technology. In July
1999, CombiMatrix was awarded a Phase I Small Business Innovative Research
("SBIR") contract from the Department of Energy to develop microarrays of
affinity probes for the analysis of gene product, which may be used to expedite
the drug discovery process in the pharmaceutical industry. In July 1999,
CombiMatrix was awarded a Phase I SBIR Department of Defense contract to use
CombiMatrix's proprietary biochip technology to develop nanode array sensor
microchips to enable simultaneous detection of chemical and biological warfare
agents. In January 2000, CombiMatrix was awarded a Phase II SBIR Department of
Defense contract for the use of its biochip technology to develop nanode array
sensor microchips. Grant revenue recorded in 2001 resulted from CombiMatrix's
continuing performance under the Phase II SBIR Department of Defense contract.
In February 2002, CombiMatrix was awarded a Phase I National Institutes
of Health grant for the development of its protein biochip technology. The title28, 2005 acquisition of the grant is "Self-Assembling Protein Microchips." This grant isassets of Global
Patent Holdings, LLC, discussed above, the Acacia Technologies group acquired
ownership of companies that control 27 patent portfolios, which include 120 U.S.
patents and certain foreign counterparts, and cover technologies used in addition
to a three-year Phase I and a Phase II SBIR grant from the U.S. Departmentwide
variety of Defense for the development of multiplexed chip based assays for chemical and
biological warfare agent detection.
In November 2000, CombiMatrix filed a registration statement with the
Securities and Exchange Commission ("SEC"), relating to the proposed initial
public offering of its common stock. CombiMatrix recently filed a letter with
the SEC to withdraw its registration statement.
6
In April 1996, we entered into a shareholder agreement with
CombiMatrix's Senior Vice President, Chief Technology Officer, who holds an
ownership interest of 12.0% of CombiMatrix, pertaining to certain matters
relating to CombiMatrix. This agreement provides for the collective voting of
shares (representing 69.5% of the voting interests in CombiMatrix) for the
election of certain directors to CombiMatrix's board of directors, as well as
certain restrictions on the sale or transfer of the individual's shares of
common stock in CombiMatrix.
ADVANCED MATERIAL SCIENCES, INC.
Advanced Material Sciences is a development-stage company that holds an
exclusive license to CombiMatrix's biological processor technology within the
field of material science. Material science includes fuel cell catalysts,
battery materials, sensor arrays, electronic and electrochemical materials and
other materials relating to the use, storage, conversion and delivery of energy
other than those involving living or biologic systems.
Advanced Material Sciences is 58.1% owned by us, 28.5% owned by
CombiMatrix and 13.4% owned by third-parties. We have a 74.5% economic interest
in Advanced Material Sciences by virtue of our 58.1% direct ownership interest
in Advanced Material Sciences and our 57.5% interest in CombiMatrix. Advanced
Material Sciences intends to develop and exploit CombiMatrix's biological
processor technology in certain fields of material science. The principal terms
of Advanced Material Sciences' agreement with CombiMatrix are as follows:
o Advanced Material Sciences holds an exclusive worldwide license to
CombiMatrix's biological array processor technology for use in certain
fields of material science;
o Advanced Material Sciences will pay CombiMatrix a royalty on all net
sales generated from the sale of products in the area of material
science;
o Advanced Material Sciences will grant a royalty-free, worldwide license
to CombiMatrix to use improvements made by Advanced Material Sciences
to its technology in all fields outside of material sciences; and
o The initial term of the license agreement with CombiMatrix is 20 years.
In May 2001, Advanced Material Sciences completed a private equity
financing raising gross proceeds of $2.0 million through the issuance of
2,000,000 shares of common stock. Advanced Material Sciences issued an
additional 29,750 shares of common stock, in lieu of cash payments, and warrants
to purchase approximately 54,000 shares of common stock, for finders' fees in
connection with the private placement. Each common stock purchase warrant
entitles the holder to purchase shares of Advanced Material Sciences common
stock at a price of $1.10 per share.
DISCONTINUED OPERATIONS
On February 13, 2001, the board of directors of Soundbreak.com
Incorporated ("Soundbreak.com"), one of our majority-owned subsidiaries,
resolved to cease operations as of February 15, 2001 and liquidate the remaining
assets and liabilities of the company. Accordingly, we reported the results of
operations and the estimated loss on disposal of Soundbreak.com as results of
discontinued operations in the consolidated statements of operations and
comprehensive loss as of and for the year ended December 31, 2000.
COMPETITION
We expect to encounter competition in the area of business
opportunities from other entities having similar business objectives. Many of
these potential competitors possess financial, technical, human and other
resources greater than our own.
The media technologies and life sciences industries are subject to
intense competition and rapid and significant technological change. We
anticipate that we will face increased competition in the future as new
companies enter the market and advanced technologies become available.
Other companies may develop competing technologies that offer better or
less expensive alternatives to the V-chip technology and/or our audio-on-demand
and video-on-demand technology. Many potential competitors, including television
manufacturers and other media technology companies, have significantly greater
resources. Technological advances or entirely different approaches developed by
one or more of our competitors could render Acacia Media Technologies Group's
technologies obsolete or uneconomical.
In the life sciences industry, many competitors have more experience in
research and development than CombiMatrix. Technological advances or entirely
different approaches developed by one or more of our competitors could render
CombiMatrix's processes obsolete or uneconomical. The existing approaches of our
competitors or new approaches or technology developed by our competitors may be
more effective than those developed by CombiMatrix.
7
REGULATION
THE INVESTMENT COMPANY ACT OF 1940
The regulatory scope of the Investment Company Act of 1940 ("Investment
Company Act"), which was enacted principally for the purpose of regulating
vehicles for pooled investments in securities, extends generally to companies
engaged primarily in the business of investing, reinvesting, owning, holding or
trading in securities.industries.
REGULATORY MATTERS
We believe that our anticipated principal activities will
not subject us to regulation under the Investment Company Act. However, the
Investment Company Act may also be deemed to be applicable to a company which
does not intend to be characterized as an investment company but which,
nevertheless, engages in activities which may be deemed to be within the scope
of certain provisions of the Investment Company Act. In such an event, we may
become subject to certain restrictions relating to our activities, including
restrictions on the nature of our investments and the issuance of securities. In
addition, the Investment Company Act imposes certain requirements on companies
deemed to be within its regulatory scope, including registration as an
investment company, adoption of a specific form of corporate structure and
compliance with certain burdensome reporting, record-keeping, voting, proxy,
disclosure and other rules and regulations, all of which could cause significant
registration and compliance costs. Accordingly, we will continue to review our
activities from time to time with a view toward reducing the likelihood that we
could be classified as an "investment company" within scope of the Investment
Company Act.
REGULATION OF MEDICAL DEVICES
CombiMatrix intends to sell products to the pharmaceutical,
biotechnology and academic communities for research applications. Therefore, its
initial products will not require approval from, or be regulatedAcacia Technologies group's DMT technology is utilized by
the United
States Food and Drug Administration ("FDA") as a manufacturer nor will they be
subject to the FDA's current good manufacturing practice ("cGMP") regulations.
Additionally, CombiMatrix's initial products will not be subject to certain
reagent regulations promulgated by the FDA. However, the manufacture, marketing
and sale of certain products and services for any clinical or diagnostic
applications will be subject to extensive government regulation as medical
devices in the United States by the FDA and in other countries by corresponding
foreign regulatory authorities.
The FDA requires that a manufacturer seeking to market a new or
modified medical device, or an existing medical device for a new indication,
obtain either a pre-market notification clearance under the Federal Food, Drug
and Cosmetic Act or a showing of substantial equivalence in function to an
existing regulated device. CombiMatrix anticipates that its products will become
subject to medical device regulations in the United States only when they are
marketed for clinical uses for any clinical or diagnostic purpose, excluding
pure research or product discovery research purposes. Material changes to
existing medical devices are also subject to FDA review and clearance or
approval prior to commercialization in the United States.
Should CombiMatrix market products for any clinical or diagnostic
purpose or act as a manufacturer or supplier of products for a third-party
customer to market for any clinical or diagnostic purpose, it will be required
to register as a medical device manufacturer with the FDA. As a registered
manufacturer, CombiMatrix would be subject to routine inspection by the FDA for
compliance with cGMP regulations and other applicable regulations. In addition,
CombiMatrix must currently comply with a variety of other federal, state and
local laws and regulations relating to safe work conditions and manufacturing
practices. The extent of government regulation that might result from any future
legislation or administration cannot be predicted. Moreover, there can be no
assurance that CombiMatrix or its third-party customers will be able to obtain
appropriate FDA regulatory approvals on a timely basis, or at all, or that
CombiMatrix will be able to comply with cGMP regulations.
Sales of CombiMatrix products outside the United States will be subject
to foreign regulatory requirements that vary from country to country. Additional
approvals from foreign regulatory authorities may be required, and there can be
no assurance that CombiMatrix will be able to obtain foreign marketing approvals
on a timely basis, or at all, or that it will not be required to incur
significant costs in obtaining or maintaining foreign regulatory approvals. For
example, if CombiMatrix products are marketed for clinical or diagnostic
purposes in the European Union, CombiMatrix will have to obtain the certificates
required for the "CE" mark to be affixed to CombiMatrix products for sales in
European Union member countries. The "CE" mark is a European Union symbol of
adherence to quality assurance standards and compliance with applicable European
Union directives and regulations.
ENVIRONMENTAL REGULATION
The operations of CombiMatrix and Advanced Material Sciences involve
the use, transportation, storage and disposal of hazardous substances, and as a
result, these subsidiaries are subject to environmental and health and safety
laws and regulations. Although these subsidiaries currently use fairly small
8
quantities of hazardous substances, as they expand their operations, their use
of hazardous substances will likely increase and lead to additional and more
stringent requirements. The cost of complying with these and any future
environmental regulations could be substantial. In addition, if one or more of
our subsidiaries fails to comply with environmental laws and regulations, or
releases any hazardous substance into the environment, such subsidiary could be
exposed to substantial liability in the form of fines, penalties, remediation
costs and other damages, or could suffer a curtailment or shut down of its
operations.
SATELLITE, CABLE AND TELECOMMUNICATIONS REGULATION
Acacia Media Technologies markets and licenses technologies relating to
audio-on-demand and video-on-demand. These technologies can be used to transmit
content by several means includingcable TV, satellite cableTV and telecommunications systems. The cable TV, satellite
cableTV and telecommunications industries are subject to federal regulation,
including FCC licensing and other requirements. These industries are also often
subject to extensive regulation by local and state authorities. While most cable
TV, satellite cableTV and telecommunication industry regulations do not apply
directly to the Acacia Media Technologies group, they affect programming distributors,
one of the large potential customers for the technologies covered by the Acacia
Media Technologies'Technologies group patent portfolio. The Acacia Media Technologies group monitors
pending legislation and administrative proceedings to ascertain relevance,
analyze impact and develop strategies regarding regulatory trends and
developments within these industries.
Federal law requires cable TV operators to reserve up to one-third of a
system's channel capacity for local commercial television stations that have
elected must-carry status. In addition, a cable TV system is generally required
to carry local non-commercial television stations. The FCC has also implemented
comparable rules for satellite TV carriers requiring that if a satellite TV
system carries one local broadcast station in a local market pursuant to a
royalty-free license granted under the Satellite Home Viewer Improvement Act of
1999, then it must carry all local broadcast stations in that market. To meet
these requirements, some cable TV and satellite TV systems must decide which
programming services to keep and which to remove in order to make space
available for local television stations. These must-carry requirements may
impact the Acacia Media
Technologies'Technologies group's information-on-demand and streaming media
business by causing cable TV and satellite TV systems operators to reduce the
number of channels on their systems that would have used technologies covered by
Acacia Media Technologies'Technologies group's patent portfolio.
On January 18, 2001,COMPETITION
The Acacia Technologies group expects to encounter competition in the FCC issued a Noticearea
of Inquiry ("NOI")
concerning Interactive Television ("ITV").business opportunities from other entities having similar business
objectives. Many of these potential competitors may possess financial,
technical, human and other resources greater than those of the Acacia
Technologies group. The NOI raises a seriesAcacia Technologies group anticipates that it will face
increased competition in the future as new companies enter the market.
Other companies may develop competing technologies that offer better or
less expensive alternatives to our DMT technology and/or other technologies that
we may acquire or out-license. Many potential competitors have significantly
greater resources. Technological advances or entirely different approaches
developed by one or more of questions
that suggest that cable systems might be regarded as essential, open platformsits competitors could render Acacia Technologies
group's technologies obsolete or uneconomical.
EMPLOYEES
As of spectrum for non-discriminatory third-party use, rather than facilities-based
providers competingDecember 31, 2004, the Acacia Technologies group had 21 full-time
employees. None of the companies included in a wider market. ITVthe Acacia Technologies group is a
service so new that the FCC has
difficulty defining it, but the FCC states that itparty to any collective bargaining agreement. The Acacia Technologies group
considers ITV to embrace at
least electronic program guides, interactive video content, and supplementary
signals that wrap around video and provide additional content or services. The
NOI seeks comments on the nature of ITV (e.g., what is it, who will provide it,
how will it be provided, what are the business models for its provision), and
whether cable systems will be a "superior platform" for the provision of ITV.
Although the NOI cannot lead directly to rules, it asks very detailed questions
all arising from a common regulatory premise: that cable operations who are
affiliated with ITV providers should not be permitted to "discriminate" in favor
of their own ITV services with respect to spectrum usage; and that ITV providers
affiliated with cable operators may needemployee relations to be subjected to equivalent rules of
non-discrimination so that they may not obtain leverage from any exclusive
arrangement they would otherwise negotiate with popular programmers. The outcome
of the NOI will largely determine whether there will be subsequent FCC
regulations for the interactive television industry. As of March 19, 2002, the
FCC had not yet proposed any new regulations as a result of the NOI. Any
regulation of this industry could impact Acacia Media Technologies'
information-on-demand and streaming media business by limiting the growth of the
market for these technologies or regulating their licensing, but at this time,
it is too speculative to determine what those rules or their impact may be.
RESEARCH AND DEVELOPMENT
We are involved in research and development activities through our
consolidated subsidiaries. Our research and development-related expenses,
primarily related to CombiMatrix, were $18.8 million, $11.9 million and $1.8
million in 2001, 2000 and 1999, respectively.
Certain of our life sciences subsidiaries are developing a variety of
life sciences related products and services. These industries are characterized
by rapid technological development. We believe that our future success will
depend in large part on our subsidiaries' ability to continue to enhance their
existing products and services and to develop other products and services, which
complement existing ones. In order to respond to rapidly changing competitive
and technological conditions, we expect our subsidiaries to continue to incur
significant research and development expenses during the initial development
phase of new products and services, as well as on an ongoing basis.
9
good.
ITEM 2. PROPERTYPROPERTIES
Acacia Research Corporation leases approximately 7,1439,147 square feet of
office space in Newport Beach, California, under a lease agreement that expires
in February 2007. We alsoSubsequent to December 31, 2004, Acacia Research Corporation
executed an amendment to the Newport Beach, California location lease approximately 7,019agreement
to rent an additional 2,993 square feet of office space in Pasadena,
California, under a lease agreement that expires in November 2003, which is
subleased through the remaining term of the lease agreement.space. Our consolidatedwholly owned
subsidiary, CombiMatrix Corporation, leases office and laboratory space totaling
approximately 63,53790,111 square feet located north of Seattle, Washington, under a
lease agreement that expires in December 2008. Presently, we are not seeking any
additional facilities.
22
We are a guarantor under a lease agreement for office space in Hollywood,
California that expires in August 2005. The lease agreement was entered into by
Soundbreak.com Incorporated, or Soundbreak.com, which ceased operations in
February 2001. A
portion of theThe leased premises is subleased through the remaining term of
the lease agreement, and we continue to pursue opportunities to sublease the
remaining space.agreement.
ITEM 3. LEGAL PROCEEDINGS
In the ordinary course of its business, we are the subject of, or party to,
various pending or threatened legal actions.actions, including various counterclaims in
connection with our intellectual property enforcement activities. We believe
that any liability arising from these actions will not have a material adverse
effect on our financial position, results of operations or cash flows.
SOUNDVIEW TECHNOLOGIES
On April 5, 2000, SoundviewFrom time to time, companies comprising the Acacia Technologies filed a federalgroup
engage in litigation to enforce their patents. A summary of patent infringement and antitrust lawsuit against Sony Corporation of America, Philips
Electronics North America Corporation,enforcement
related litigation is provided at Item 1. "Business," under the Consumer Electronics Manufacturers
Association and the Electronics Industries Alliance d/b/a/ Consumer Electronics
Association in the United States District Court for the Eastern District of
Virginia, alleging that television sets utilizing certain content blocking
technology (commonly known as the "V-chip") and sold in the United States
infringe Soundview Technologies' U.S. Patent No. 4,554,584. The case is now
pending in the U.S. District Court for the District of Connecticut against Sony
Corporation of America, Inc., Sony Electronics, Inc., the Electronics Industries
Alliance d/b/a/ Consumer Electronics Association, the Consumer Electronics
Manufacturers Association, Mitsubishi Digital Electronics America, Inc.,
Mitsubishi Electronics America, Inc., Toshiba America Consumer Products, Inc.
and Sharp Electronics Corporation. However, no assurance can be given that
Soundview Technologies will prevail in this action or that the television
manufacturers will be required to pay royalties to Soundview Technologies.
During 2001, Soundview Technologies entered into separate confidential
settlement and/or license agreements with Hitachi America Ltd., Pioneer
Electronics (USA) Incorporated, Samsung Electronics, LG Electronics, Inc.,
Daewoo Electronics Corporation of America, Sanyo Manufacturing Corporation,
Funai Electric Co., Ltd., JVC Americas Corporation, Thomson Multimedia, Inc.,
Orion Electric Co., Ltd. and Matsushita Electric Industrial Co., Ltd. whereby
Soundview Technologies will receive payments and grant non-exclusive licenses of
its V-chip patent. In 2000, Soundview Technologies settled its lawsuit with
Philips Electronics North America Corporation.
10
COMBIMATRIX
On November 28, 2000, Nanogen filed a complaint in the United States
District Court for the Southern District of California against CombiMatrix and
Donald D. Montgomery, Ph.D., Senior Vice President, Chief Technology Officer and
a director of CombiMatrix. Dr. Montgomery was employed by Nanogen as a senior
research scientist between May 1994 and August 1995. The Nanogen complaint
alleges, among other things, breach of contract, trade secret misappropriation
and that U.S. Patent No. 6,093,302 and other proprietary information belonging
to CombiMatrix are instead the property of Nanogen. The complaint seeks, among
other things, correction of inventorship on the patent, the assignment of rights
in the patent and pending patent applications to Nanogen, an injunction
preventing disclosure of trade secrets, damages for trade secret
misappropriation and the imposition of a constructive trust. On December 15,
2000, CombiMatrix and Dr. Montgomery filed a motion to dismiss the lawsuit,
which was denied in part and granted in part on February 1, 2001. On March 9,
2001, CombiMatrix and Dr. Montgomery filed a counterclaim, alleging breach of
express covenants not to sue or otherwise interfere with Dr. Montgomery arising
out of a release signed by Nanogen in 1996. On April 4, 2001, Nanogen filed a
motion to dismiss the counterclaim, which the court denied in its entirety on
July 27, 2001. Fact discovery is ongoing and is scheduled to close on June 3,
2002. CombiMatrix intends to vigorously defend the lawsuit and pursue the
counterclaim. Although we believe that Nanogen's claims are without merit, we
cannot predict the outcome of the litigation.caption "Patent
Enforcement Litigation."
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
1123
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, AND RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHAES OF EQUITY SECURITIES
RECENT MARKET PRICES
OurAcacia Research Corporation's two classes of common stock, beganAcacia
Research-CombiMatrix common stock and Acacia Research-Acacia Technologies common
stock, commenced trading on the Nasdaq Stock Market on December 16, 2002. The
two classes of common stock were created as a result of Acacia Research
Corporation's recapitalization that was approved by Acacia Research
Corporation's stockholders on December 11, 2002. The two classes of stock
replaced Acacia Research Corporation's common stock formerly traded on the
Nasdaq stock market under the symbol ACRIACRI. Acacia Research-Acacia Technologies
common stock and Acacia Research-CombiMatrix common stock are listed on the
NASDAQNasdaq National Market System on July 8, 1996. Prior to our listing on the NASDAQ
National Market System and subsequent to June 15, 1995 when our Registration
Statement on Form SB-2 became effective under the Securities Actsymbols "ACTG" and "CBMX," respectively.
Acacia Research-CombiMatrix stock is intended to reflect the performance of
1933, as
amended, our commonAcacia Research Corporation's CombiMatrix group, and Acacia Research-Acacia
Technologies stock traded underis intended to reflect the same symbolperformance of Acacia Research
Corporation's Acacia Technologies group.
Holders of Acacia Research-Acacia Technologies stock and Acacia
Research-CombiMatrix stock are stockholders of Acacia Research Corporation. As a
result, holders of Acacia Research-Acacia Technologies stock and Acacia
Research-CombiMatrix stock continue to be subject to all of the risks of an
investment in Acacia Research Corporation and all of its businesses, assets and
liabilities. The assets Acacia Research Corporation attributes to one group
could be subject to the over-the-counter
market. Preceding June 15, 1995, there had been no public market for our common
stock.liabilities of the other group.
The markets for securities such as the two classes of our common stock have
historically have experienced extreme price and volume fluctuations during certain
periods. These broad market fluctuations and other factors, such as new product
developments and trends in our industry and the investment markets generally, as
well as economic conditions and quarterly variations in our results of
operations, may adversely affect the market price of our two classes of common
stock.
On March 16, 1998, our board of directors declared a two-for-one split
of our common stock in the form of a 100% stock dividend. We distributed the
stock dividend on or about June 12, 1998 for each share held of record at the
close of business on May 29, 1998. All share and per share information presented
herein is adjusted for the stock split.
On October 22, 2001, our board of directors declared a ten percent
(10%) stock dividend. The stock dividend, totaling 1,777,710 shares, was
distributed on December 5, 2001 for stockholders of record as of November 21,
2001. All share and per share information presented herein is adjusted for the
stock dividend.
The high and low bid prices for our two classes of common stock as reported
by the
NASDAQ National Market System for the periods indicated are as follows. Such prices are inter-dealer
prices without retail markups, markdowns or commissions and may not necessarily
represent actual transactions.
2000 HIGH LOW
First Quarter.................................... $53.64 $26.82
Second Quarter................................... $39.09 $12.16
Third Quarter.................................... $32.05 $19.89
Fourth Quarter................................... $33.81 $12.50
2001 HIGH LOW
First Quarter.................................... $18.98 $ 5.23
Second Quarter................................... $16.14 $ 4.69
Third Quarter.................................... $16.66 $ 5.83
Fourth Quarter................................... $13.42 $ 8.29
2004 2003
------------------------------------- -------------------------------------
Fourth Third Second First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- ------- ------- ------- ------- ------- ------- -------
Acacia Research-Acacia Technologies stock:
High ........................................ $5.60 $7.14 $7.25 $7.50 $8.58 $6.73 $1.75 $2.40
Low ......................................... $3.91 $2.77 $4.84 $5.15 $4.71 $1.25 $0.99 $0.96
Acacia Research-CombiMatrix stock:
High ........................................ $4.39 $4.85 $6.99 $9.30 $5.05 $5.07 $2.83 $3.65
Low ......................................... $2.71 $2.52 $3.10 $3.16 $2.90 $2.25 $1.71 $1.50
On March 22, 2001, the closing bid and asked quotations for our common
stock were $11.75 and $11.76, respectively, per share.
On March 22, 2001,9, 2005, there were approximately 211171 owners of record of our
commonAcacia
Research-Acacia Technologies stock and 162 owners of record of Acacia
Research-CombiMatrix stock. The majority of the outstanding shares of commonAcacia
Research-Acacia Technologies stock and Acacia Research-CombiMatrix stock are
held by a nominee holder on behalf of an indeterminable number of ultimate
beneficial owners.
DIVIDEND POLICY
To date, we have not declared or paid any cash dividends with respect to
our capital stock, and the current policy of the board of directors is to retain
earnings, if any, to provide for the growth of Acacia.Acacia Research Corporation.
Consequently, we do not expect to pay any cash dividends in the foreseeable
future. Further, there can be no assurance that our proposed operations will
generate revenues and cash flow needed to declare a cash dividend or that we
will have legally available funds to pay dividends.
24
USE OF PROCEEDS
In April 2004, Acacia Research Corporation raised net proceeds of
approximately $13,715,000 through the sale of three million shares of Acacia
Research - CombiMatrix common stock in a registered direct offering. The net
proceeds from this offering were attributed to the CombiMatrix group. The net
proceeds are being utilized to provide working capital for the CombiMatrix
group's business.
All of the shares of Acacia Research-CombiMatrix common stock were offered
pursuant to an effective registration statement previously filed with the
Securities and Exchange Commission.
EQUITY COMPENSATION PLAN INFORMATION
The following table provides information as of December 31, 2004 with
respect to our common shares issuable under our equity compensation plans:
(C) NUMBER OF SECURITIES
(A) NUMBER OF REMAINING AVAILABLE FOR
SECURITIES TO BE (B) WEIGHTED FUTURE ISSUANCE UNDER
ISSUED UPON EXERCISE AVERAGE EXERCISE EQUITY COMPENSATION PLANS
OF OUTSTANDING PRICE OF OUTSTANDING (EXCLUDING SECURITIES
PLAN CATEGORY OPTIONS OPTIONS REFLECTED IN COLUMN (A))
- ------------------------------------------------------------- -------------------- -------------------- -------------------------
EQUITY COMPENSATION PLANS APPROVED BY SECURITY HOLDERS
2002 CombiMatrix Stock Incentive Plan(1) 6,232,000 $7.44 2,166,000
2002 Acacia Technologies Stock Incentive Plan(2) 5,726,000 $7.81 228,000
Subtotal(3) N/A N/A N/A
EQUITY COMPENSATION PLANS NOT APPROVED BY SECURITY HOLDERS(4)
- ------------------------------------------------------------- -------------------- -------------------- -------------------------
TOTAL(3) N/A N/A N/A
- ----------
(1) Our 2002 CombiMatrix Stock Incentive Plan, as amended, or the CombiMatrix
Plan, allows for the granting of stock options and other awards to eligible
individuals, which generally includes directors, officers, employees and
consultants. The CombiMatrix Plan does not segregate the number of
securities remaining available for future issuance among stock options and
other awards. The shares authorized for future issuance represents the
total number of shares available through any combination of stock options
or other awards. The share reserve under the CombiMatrix Plan automatically
increases on the first trading day in January each calendar year by an
amount equal to three percent (3%) of the total number of shares of our
Acacia Research-CombiMatrix stock outstanding on the last trading day of
December in the prior calendar year, but in no event will this annual
increase exceed 600,000 shares and in no event will the total number of
shares of common stock in the share reserve (as adjusted for all such
annual increases) exceed twenty million shares. See Note 12 to our
consolidated financial statements.
(2) Our 2002 Acacia Technologies Stock Incentive Plan, as amended, or the
Acacia Technologies Plan, allows for the granting of stock options and
other awards to eligible individuals, which generally includes directors,
officers, employees and consultants. The Acacia Technologies Plan does not
segregate the number of securities remaining available for future issuance
among stock options and other awards. The shares authorized for future
issuance represents the total number of shares available through any
combination of stock options or other awards. The share reserve under the
Acacia Technologies Plan automatically increases on the first trading day
in January each calendar year by an amount equal to three percent (3%) of
the total number of shares of our Acacia Research-Acacia Technologies stock
outstanding on the last trading day of December in the prior calendar year,
but in no event will this annual increase exceed 500,000 shares and in no
event will the total number of shares of common stock in the share reserve
(as adjusted for all such annual increases) exceed twenty million shares.
See Note 12 to our consolidated financial statements.
(3) Subtotal and total information is not provided because the CombiMatrix Plan
and the Acacia Technologies Plan relate to two different classes of our
common stock.
(4) We have not authorized the issuance of equity securities under any plan not
approved by security holders.
25
ITEM 6. SELECTED FINANCIAL DATA
The consolidating selected financialbalance sheet data set forth below as of December 31, 20012004 and
20002003 and the consolidating selected statement of operations data for the years
ended December 31, 2001, 20002004, 2003 and 19992002 set forth below have been derived from
our audited consolidated financial statements included elsewhere herein, and
should be read in conjunction with those financial statements (including notes
thereto). The consolidating selected financialbalance sheet data as of December 31, 1999, 19982002,
2001 and 19972000 and the consolidating selected statement of operations data for
the years ended December 31, 19982001 and 19972000 have been derived from audited
consolidated financial statements not included herein, but which were previously
filed with the SEC.
Acacia Research Corporation derived the Acacia Technologies group and
CombiMatrix group balance sheet data and statement of operations data from the
separate audited financial statements of the Acacia Technologies group and the
CombiMatrix group for the years ended December 31, 2004, 2003 and 2002 included
elsewhere herein, and the table should be read in conjunction with those
financial statements and related notes.
The AR-Acacia Technologies stock and the AR-CombiMatrix stock are intended
to reflect the separate performance of the respective divisions of Acacia
Research Corporation, rather than the performance of Acacia Research Corporation
as a whole. The chief mechanisms intended to cause the AR-Acacia Technologies
stock and the AR-CombiMatrix stock to reflect the financial performance of the
respective groups are provisions in our restated certificate of incorporation
and common stock policies governing dividends and distributions to each class of
stock, which specifically require the allocation of earnings to each class based
upon the performance of the two groups determined in accordance with generally
accepted accounting principles. Under these provisions, Acacia Research
Corporation factors the assets and liabilities and income or losses attributable
to the respective groups, determined as described under Item 7 "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Critical Accounting Policies," into the determination of the amounts available
to pay dividends, if any, on the shares issued for the respective groups and
require Acacia Research Corporation to exchange, redeem or distribute a dividend
on the stock of a group if all or substantially all of the assets allocated to
the respective group are sold to a third party.
The Acacia Technologies group and the CombiMatrix group are not separate
legal entities. Holders of AR-Acacia Technologies stock and AR-CombiMatrix stock
are stockholders of Acacia Research Corporation. As a result, stockholders
continue to be subject to all of the risks of an investment in Acacia Research
Corporation and all of its businesses, assets and liabilities. The assets that
Acacia Research Corporation attributes to one group could be subject to the
liabilities of the other group.
26
CONSOLIDATEDCONSOLIDATING STATEMENT OF OPERATIONS DATA:
DATA(4)
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------------------------
2004 2003 2002 2001 2000
1999 1998 1997
------------- ------------- ------------- ------------- ------------------------- ------------ ------------ ------------ ------------
Revenues:
License fee incomeREVENUES:
Acacia Technologies group ........................ $ 24,180,0004,284 $ --692 $ --43 $ --24,180 $ --
Grant revenue ............................. 456,000 17,000 144,000 -- --
Capital management fee income and other ... -- 40,000 122,000 382,000 491,000
------------- ------------- ------------- ------------- -------------
Total revenues ...............................40
CombiMatrix group ................................ 19,641 456 839 456 17
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ 24,636,00023,925 $ 57,0001,148 $ 266,000882 $ 382,00024,636 $ 491,000
============= ============= ============= ============= =============
Operating loss ............................... $(43,198,000) $(37,163,000)57
============ ============ ============ ============ ============
OPERATING (LOSS) INCOME
Acacia Technologies group ........................ $ (7,580,000)(6,055) $ (5,842,000)(6,013) $ (3,420,000)
Other income (expense), net .................. 4,166,000 (1,235,000) (1,042,000) (545,000) (100,000)
Loss from continuing operations before
minority interests ......................... (39,812,000) (38,325,000) (8,642,000) (6,387,000) (3,270,000)
Minority interests ........................... 17,540,000 9,166,000 1,221,000 198,000 411,000
Loss from continuing operations(9,865) $ 5,858 $ (12,606)
CombiMatrix group ................................ 261 (19,349) (70,460) (49,056) (24,557)
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ (5,794) $ (25,362) $ (80,325) $ (43,198) $ (37,163)
============ ============ ============ ============ ============
OTHER (EXPENSE) INCOME, NET:
Acacia Technologies group ........................ $ 471 $ 408 $ (3,503) $ 2,111 $ (2,897)
CombiMatrix group ................................ 313 214 392 2,055 1,662
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ 784 $ 622 $ (3,111) $ 4,166 $ (1,235)
============ ============ ============ ============ ============
(LOSS) INCOME FROM CONTINUING OPERATIONS BEFORE
MINORITY INTERESTS:
Acacia Technologies group ........................ $ (5,445) $ (5,468) $ (12,658) $ 7,034 $ (15,509)
CombiMatrix group ................................ 710 (18,999) (69,921) (46,846) (22,816)
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ (4,735) $ (24,467) $ (82,579) $ (39,812) $ (38,325)
============ ============ ============ ============ ============
MINORITY INTERESTS:
Acacia Technologies group ........................ $ 6 $ 17 $ 104 $ (1,277) $ 866
CombiMatrix group ................................ - 30 23,702 18,817 8,300
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ 6 $ 47 $ 23,806 $ 17,540 $ 9,166
============ ============ ============ ============ ============
(LOSS) INCOME FROM CONTINUING OPERATIONS:
Acacia Technologies group ........................ $ (5,439) $ (5,451) $ (12,554) $ 5,757 $ (14,643)
CombiMatrix group ................................ 710 (18,969) (46,219) (28,029) (14,516)
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ (4,729) $ (24,420) $ (58,773) $ (22,272) $ (29,159)
============ ============ ============ ============ ============
LOSS FROM DISCONTINUED OPERATIONS (1):
Acacia Technologies group ........................ $ (104) $ - $ (200) $ - $ (9,554)
CombiMatrix group ................................ - - - - -
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ (104) $ - $ (200) $ - $ (9,554)
============ ============ ============ ============ ============
NET (LOSS) INCOME:
Acacia Technologies group ........................ $ (5,543) $ (5,451) $ (12,754) $ 5,757 $ (24,197)
CombiMatrix group ................................ 710 (18,969) (46,219) (28,029) (14,762)
------------ ------------ ------------ ------------ ------------
ACACIA RESEARCH CORPORATION ...................... $ (4,833) $ (24,420) $ (58,973) $ (22,272) $ (38,959)
============ ============ ============ ============ ============
LOSS PER COMMON SHARE - BASIC AND DILUTED(5):
LOSS FROM CONTINUING OPERATIONS
Acacia Research - Acacia Technologies stock ...... $ (0.27) $ (0.28) $ (0.64) $ - $ -
Acacia Research - CombiMatrix stock .............. (22,272,000) (29,159,000) (7,421,000) (6,189,000) (2,859,000)
Loss from discontinued operations (1) ........ -- (9,554,000) (776,000) -- --
Loss before cumulative effect of change in
accounting principle0.02 (0.76) (2.01) - -
Acacia Research Corporation ...................... (22,272,000) (38,713,000) (8,197,000) (6,189,000) (2,859,000)
Cumulative effect of change in accounting
principle due to beneficial conversion
feature ................................... -- (246,000) -- -- --
Net loss ..................................... (22,272,000) (38,959,000) (8,197,000) (6,189,000) (2,859,000)
Loss per common share:- - - (1.16) (1.78)
LOSS FROM DISCONTINUED OPERATIONS
Acacia Research - Acacia Technologies stock ...... $ (0.01) $ - $ (0.01) $ - $ -
Acacia Research - CombiMatrix stock .............. - - - - -
Acacia Research Corporation ...................... - - - - (0.58)
NET LOSS
Acacia Research - Acacia Technologies stock ...... $ (0.28) $ (0.28) $ (0.65) $ - $ -
Acacia Research - CombiMatrix stock .............. 0.02 (0.76) (2.01) - -
Acacia Research Corporation ...................... - - - (1.16) (2.38)
WEIGHTED AVERAGE NUMBER OF COMMON AND POTENTIAL
COMMON SHARES USED IN COMPUTATION OF LOSS PER
COMMON SHARE(2) (5):
Acacia Research - Acacia Technologies stock:
Basic and diluted Loss from continuing operations ........... $ (1.16) $ (1.78) $ (0.59) $ (0.58) $ (0.42)
Loss from discontinued operations ......... -- (0.58) (0.06) -- --
Cumulative effect of change in accounting
principle ............................... -- (0.02) -- -- --
------------- ------------- ------------- ------------- -------------
Net loss ..................................... $ (1.16) $ (2.38) $ (0.65) $ (0.58) $ (0.42)
============= ============= ============= ============= =============
Weighted average number of common and
potential shares outstanding used in
computation of loss per common share (2):.............................. 19,784,883 19,661,655 19,640,808 - -
============ ============ ============ ============ ============
Acacia Research - CombiMatrix stock:
Basic ............................................................................... 29,962,596 24,827,819 22,950,746 - -
============ ============ ============ ============ ============
Diluted ........................................ 30,995,663 24,827,819 22,950,746 - -
============ ============ ============ ============ ============
Acacia Research Corporation .................... - - - 19,259,256 16,346,099
12,649,133 10,748,982 6,739,996
Diluted ................................... 19,259,256 16,346,099 12,649,133 10,748,982 6,739,996
CONSOLIDATED============ ============ ============ ============ ============
27
CONSOLIDATING BALANCE SHEET DATA:DATA(4)
(IN THOUSANDS)
AT DECEMBER 31,
-----------------------------------------------------------------------
2004 2003 2002 2001 2000
1999 1998 1997
------------- ------------- ------------- ------------- -------------
Total assets.................................. $110,859,000----------- ----------- ----------- ----------- -----------
TOTAL ASSETS:
Acacia Technologies group ........ $ 98,516,00033,058 $ 51,791,00039,978 $ 19,769,00047,212 $ 8,854,000
Long-term indebtedness........................ -- -- -- 1,222,000 --
Total liabilities (3)......................... 19,824,000 20,848,000 1,633,000 1,828,000 447,000
Minority interests (3)........................ 32,303,000 17,524,000 4,896,000 -- 227,000
Stockholders' equity.......................... 58,732,000 60,144,000 45,262,000 17,941,000 8,180,00062,926 $ 37,062
CombiMatrix group ................ 55,388 50,161 49,973 47,963 61,561
Eliminations ..................... (119) (99) (114) (30) (107)
----------- ----------- ----------- ----------- -----------
ACACIA RESEARCH CORPORATION ...... $ 88,327 $ 90,040 $ 97,071 $ 110,859 $ 98,516
=========== =========== =========== =========== ===========
LONG-TERM INDEBTEDNESS:
Acacia Technologies group ........ $ - -----------------------------------$ - $ - $ - $ -
CombiMatrix group ................ - - - 1,845 -
----------- ----------- ----------- ----------- -----------
ACACIA RESEARCH CORPORATION ...... $ - $ - $ - $ 1,845 $ -
=========== =========== =========== =========== ===========
TOTAL LIABILITIES(3):
Acacia Technologies group ........ $ 3,472 $ 4,188 $ 5,183 $ 5,723 $ 5,075
CombiMatrix group ................ 8,560 24,424 13,972 14,131 15,880
Eliminations ..................... (119) (99) (114) (30) (107)
----------- ----------- ----------- ----------- -----------
ACACIA RESEARCH CORPORATION ...... $ 11,913 $ 28,513 $ 19,041 $ 19,824 $ 20,848
=========== =========== =========== =========== ===========
MINORITY INTERESTS(3):
Acacia Technologies group ........ $ 778 $ 1,127 $ 1,487 $ 2,194 $ 2,012
CombiMatrix group ................ - - 684 30,109 15,512
----------- ----------- ----------- ----------- -----------
ACACIA RESEARCH CORPORATION ...... $ 778 $ 1,127 $ 2,171 $ 32,303 $ 17,524
=========== =========== =========== =========== ===========
REDEEMABLE STOCKHOLDERS' EQUITY:
Acacia Technologies group ........ $ 28,808 $ 34,663 $ 40,542 $ 55,009 $ 29,975
CombiMatrix group ................ 46,828 25,737 35,317 3,723 30,169
----------- ----------- ----------- ----------- -----------
ACACIA RESEARCH CORPORATION ...... $ 75,636 $ 60,400 $ 75,859 $ 58,732 $ 60,144
=========== =========== =========== =========== ===========
- -------------------
(1) Operating results in 1999 have been restatedOn February 13, 2001, the board of directors of Soundbreak.com, one of our
majority-owned subsidiaries, resolved to present Soundbreak.comcease operations as discontinued operations.of February
15, 2001 and liquidate the remaining assets and liabilities of
Soundbreak.com. See Note 911 to the 2001Acacia Research Corporation consolidated
financial statements.
(2) PotentialCertain potential common shares in 2001, 2000, 1999, 1998 and 1997for the periods shown above have been
excluded from the per share calculationcalculations because the effect of their
inclusion would be anti-dilutive. In addition, all share and per share
information has been adjusted as appropriate for all periods presented to
reflect a two-for-one stock split effected in March 1998 and a ten percent (10%) stock dividend distributed on December 5, 2001
for stockholders of record as of November 21, 2001.
(3) Effective January 1, 2001, Acaciawe changed itsour accounting policy for balance
sheet classification of employee stock-based compensation resulting from
awards in consolidated subsidiaries. As a result, effective January 1,
2001, amortized non-cash stock compensation charges related to subsidiary
stock options are included in minority interests in our consolidated
balance sheet. Prior to the change in accounting policy, amortized non-cash
stock compensation charges related to subsidiary stock options were
reflected as "accrued stock compensation" in consolidated liabilities.
There is no impact on previous consolidated statements of operations as a
result of this change in accounting policy.
Total liabilities at December 31, 2001 include a capital lease obligation
totaling $2.8 million which was paid in full in October 2002.
(4) Refer to Item 7. "Management's Discussion and Analysis of Financial
Condition - Critical Accounting Policies" for a description of allocation
policies applied in preparation of the separate group financial statements.
(5) The 2002 share and per share information gives effect to the
recapitalization transaction described elsewhere herein as of January 1,
2002. Historical share and per share information for the Acacia
Research-Acacia Technologies stock and Acacia Research-CombiMatrix stock is
not presented as these classes of securities were not part of Acacia
Research Corporation's capital structure during 2001 and prior periods.
FACTORS AFFECTING COMPARABILITY:
o In the fourth quarter of 2000, Acacia Research Corporation recorded
$1.0 million in write-offs of other early stage investments and $2.6
million in write-offs of equity investments, attributed to the Acacia
Technologies group.
28
o During the year ended December 31, 2000, CombiMatrix Corporation
recorded deferred non-cash stock compensation charges aggregating
approximately $53.8 million in connection with the granting of stock
options. Deferred non-cash stock compensation charges are being
amortized by the CombiMatrix group over the respective option grant
vesting periods, which ranged from one to four years. Amortization of
deferred non-cash stock compensation charges totaled $606,000, $1.5
million, $6.4 million and $20.0 million in 2004, 2003, 2002 and 2001,
respectively. Non-cash stock compensation charges were not significant
in periods prior to 2001. Deferred non-cash stock compensation charges
were fully amortized as of December 31, 2004.
o In connection with Acacia Research Corporation's increased focus on
the media technologies and life sciences sectors, certain of Acacia
Research Corporation's businesses allocated to the Acacia Technologies
group ceased operations and certain investments were written off in
2000. As a result, marketing, general and administrative costs related
to salaries, benefits, consulting, legal and other professional costs
were significantly reduced in 2001.
o In June 2003 and September 2002, Acacia Research Corporation recorded
impairment charges of $207,000 and $2.7 million, respectively, for an
other-than-temporary decline in the fair value of a cost method
investment, attributed to the Acacia Technologies group.
o On December 13, 2002, Acacia Research Corporation increased its
consolidated ownership interest in CombiMatrix Corporation from 48% to
100% as discussed at Item 7. "Critical Accounting Policies -
Accounting for Business Combinations." $17.2 million of the total
purchase price of $46.0 million was attributed to acquired in-process
research and development, or IPR&D, and was charged to expense in the
consolidated statement of operations and comprehensive loss for the
year ended December 31, 2002. Amounts allocated to IPR&D have been
attributed to the CombiMatrix group.
o As of December 31, 2002, Acacia Research Corporation owned 100% of its
significant subsidiaries, including Acacia Media Technologies
Corporation, Soundview Technologies Corporation and CombiMatrix
Corporation. As such, Minority Interests amounts and balances
reflected in the statement of operations and balance sheet,
respectively, decreased significantly subsequent to December 31, 2002.
o On September 30, 2002, CombiMatrix Corporation and Dr. Donald
Montgomery, an officer and stockholder of CombiMatrix Corporation,
entered into a settlement agreement with Nanogen to settle all pending
litigation between the parties. In addition to other terms of the
settlement agreement as described elsewhere herein, CombiMatrix
Corporation agreed to pay Nanogen $1.0 million and issued 4,016,346
shares, or 17.5% of its outstanding shares post issuance, to Nanogen.
The $1.0 million in payments have been expensed in the consolidated
statement of operations for the year ended December 31, 2002 under
"legal settlement charges." The issuance of the CombiMatrix
Corporation common shares in settlement of the litigation with Nanogen
has been accounted for as a nonmonetary transaction. Accordingly,
included in "legal settlement charges" in the consolidated statements
of operations for the year ended December 31, 2002 is a charge in the
amount of $17.5 million based on the fair value of the CombiMatrix
Corporation common shares issued to Nanogen. Amounts related to the
settlement have been attributed to the CombiMatrix group.
o In March 2004, the CombiMatrix group completed all phases of its
research and development agreement with Roche Diagnostics, GmbH
("Roche"). As a result of completing all of its obligations under this
agreement and in accordance with the CombiMatrix group's revenue
recognition policies for multiple-element arrangements, the
CombiMatrix group recognized all previously deferred Roche related
contract revenues totaling $17,302,000 during the first quarter of
2004.
o As a result of the conclusion of the V-chip patent litigation, the
Acacia Technologies group recognized $1,500,000 of V-chip related
deferred license fee revenues and $668,000 of V-chip related deferred
legal costs in the third quarter of 2004. The Acacia Technologies
group recognized $43,000 and $24.1 million in V-chip license fees in
2002 and 2001, respectively. See Item 3. "Legal Proceedings."
29
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH OUR FINANCIAL
STATEMENTS INCLUDED ELSEWHERE IN THIS FORM 10-K. THIS DISCUSSION CONTAINS
FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. OUR ACTUAL
RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF VARIOUS FACTORS INCLUDING THOSE SET FORTH UNDER "RISK
FACTORS" HEREIN.
GENERAL
Acacia Research Corporation develops,is comprised of two operating groups, the
CombiMatrix group and the Acacia Technologies group.
Our life sciences business, referred to as the "CombiMatrix group," is
seeking to become a broadly diversified biotechnology company, through the
development of proprietary technologies and products in the areas of drug
development, genetic analysis, nanotechnology research, defense and homeland
security markets, as well as other potential markets where its products could be
utilized.
Our intellectual property licensing business, referred to as the "Acacia
Technologies group," is responsible for the development, acquisition, licensing
and enforcement of patented technologies.
The CombiMatrix group and the Acacia Technologies group's businesses are
described more fully in Item 1. "Business," of this report.
OVERVIEW
COMBIMATRIX GROUP
During 2004, the CombiMatrix group's operating activities were highlighted
by the completion of its research and development agreement with Roche, the
execution of a two-year, $5.9 million contract with the Department of Defense to
further the development of the CombiMatrix group's microarray technology for the
detection of biological threat agents, execution of a multi-year collaboration
agreement with Furuno Electric Co. to develop a bench-top DNA array synthesizer
and the launch of CustomArray(TM), its first commercially available array
platform. The CombiMatrix group also continued its efforts in the area of drug
discovery by executing a research and development agreement in the area of siRNA
with irsiCiaxa Foundation and by making a minority investment in Leuchemix,
which is developing potential therapies to treat leukemia. As a result of
completing its research and development agreement with Roche, the CombiMatrix
group's research and development programs shifted to a number of internally
funded programs that support the activities summarized above. With the
completion of its obligations under the Roche agreements, research and
development expenses continued to decrease in 2004, as compared to 2003, as
efforts shifted to internally funded research and development programs. The
decrease in research and development expenses was partially offset by an
increase in marketing and sales expenses related to the launch of the
CombiMatrix group's CustomArray(TM) 902 DNA array platform in March 2004 and its
CustomArray(TM) 12K DNA expression array in July 2004.
Historically, the CombiMatrix group was substantially dependent on its
research and development arrangements with Roche, relying on payments by Roche
to fund the majority of its research and development activities and related
resources engaged in fulfilling its contractual obligations to Roche. Roche's
primary service to the CombiMatrix group is to distribute its technology
platform. If the CombiMatrix group were to lose its relationship with Roche, the
CombiMatrix group would continue to distribute its technology platform itself or
be required to establish a distribution agreement with other partners. This
could prove difficult, time-consuming and expensive, and the CombiMatrix group
may not be successful in achieving this objective.
During 2003, the CombiMatrix group's operating activities were highlighted
by the receipt of significant payments from its strategic partners and
licensees, including $9.8 million related to the completion of certain
milestones and delivery of prototype products and services pursuant to its
agreements with Roche and an up-front payment and a milestone payment totaling
$2.4 million pursuant to its agreement with Toppan. The CombiMatrix group also
completed several Roche related research and development projects during the
third and fourth quarters of 2003, resulting in a decrease in related research
and development expenses during 2003, as compared to 2002. The CombiMatrix group
continued its efforts with its existing partners and continued to focus on
identifying new strategic relationships with the goal of maximizing the
opportunities in the life sciences sector that will be created by
commercializing its array system.
In 2002, the CombiMatrix's group's operating activities were highlighted by
the receipt of $11.5 million in milestone payments pursuant to its license,
research and development agreements with Roche, which were recorded as deferred
revenues. In addition, the CombiMatrix group recognized $533,000 in grant and
contract revenues, including $274,000 in grant revenue resulting from completion
of its Phase II SBIR Department of Defense contract, $141,000 in one-time
contract research and development revenues, $100,000 in revenue related to
performance and completion of its Phase I National Institutes of Health grant
and $306,000 from the sale of a genomics array synthesizer system and related
array products to two institutions in Japan.
30
ACACIA TECHNOLOGIES GROUP
In 2004 and 2003, the Acacia Technologies group's operating activities were
principally focused on the continued development and commercialization of its
DMT patent portfolio. The Acacia Technologies group began to recognize DMT
license fee revenues in 2003 and continued its focus on commercializing its DMT
technology during 2004. To date, the Acacia Technologies group has entered into
294 DMT licensing agreements, including 107 cable TV licenses, 182 licenses for
online entertainment, movies, news, sports, e-learning and provides productscorporate websites
and licenses with 5 companies that provide over 90% of video-on-demand TV
entertainment to the hotel industry in the United States. During 2004, we
executed 170 DMT license agreements. In the first, second, third and fourth
quarters of 2004, the Acacia Technologies group recorded DMT license fee
revenues of $599,000, $666,000, $740,000 and $779,000, respectively, compared to
$6,000, $19,000, $186,000 and $481,000, respectively, in the comparable 2003
periods.
The Acacia Technologies group's continued development, and
commercialization of the DMT patent portfolio included increased marketing,
general and administrative expenses in 2004, as compared to 2003 and 2002,
related to the hiring of additional patent licensing and business development
personnel and an increase in patent related consulting and marketing expenses.
Patent related legal expenses, excluding V-chip related legal fees, also
increased due to an increase in costs incurred in connection with the Acacia
Technologies group's ongoing DMT patent commercialization and enforcement
programs, including increased legal costs related to new patent claims and the
identification of additional potential licensees of our DMT technology and
increased patent enforcement costs related to ongoing DMT patent related
litigation as summarized in Item 1. "Business," elsewhere herein.
In 2004, the Acacia Technologies group also continued to execute its
business strategy in the area of patent portfolio acquisitions. In July 2004,
the Acacia Technologies group acquired U.S. Patent No. 6,226,677 from LodgeNet
Entertainment Corporation. The patent covers technology and methods for
redirecting users to a login page when accessing the Internet. The patent
purchase agreement with LodgeNet Entertainment Corporation includes terms by
which the companies will divide any future revenues received by the Acacia
Technologies group from licensing the patent. In December 2004, the Acacia
Technologies group executed a binding letter of intent in connection with the
January 2005 acquisition of the assets of Global Patent Holdings, as discussed
earlier. The acquisition gives the Acacia Technologies group ownership of
companies that control 27 patent portfolios, which include 120 U.S. patents and
certain foreign counterparts, and cover technologies used in a wide variety of
industries as discussed earlier. These acquisitions expand and diversify the
Acacia Technologies group's revenue generating opportunities and accelerate the
execution of the Acacia Technologies group's business strategy of acquiring,
developing and licensing patented technologies.
As a result of the August 2004 final ruling of non-infringement in the
Acacia Technologies group's V-chip litigation, operating results in 2004 include
$1.5 million of previously deferred V-chip license fee revenues, $668,000 of
previously deferred V-chip related legal costs and an impairment charge of $1.6
million associated with the write-off of 100% of V-chip related goodwill. As a
result of the final ruling, the Acacia Technologies group concluded its V-chip
licensing program and does not expect to recognize any additional V-chip
technology related revenues in future periods.
During 2002, the Acacia Technologies group's operating activities were
highlighted by the continued building of its executive management team,
including the hiring of key media technology and life science sectors. Acacia's mediaintellectual property industry
experts that are responsible for the development, licensing and protection of
the Acacia Technologies group's intellectual property and proprietary
technologies, and life sciences businesses are referred to as "Acacia Media Technologies
Group" and "Acacia Life Sciences Group," respectively. Acacia licenses its
V-chip technology to television manufacturers and owns pioneering technology for
digital streaming and audio and video-on-demand. We will continue to pursue bothwell as the pursuit of additional licensing and strategic
business alliances with leading companies in the rapidly
growing media technologiesintellectual property licensing
industry. Acacia's core technology opportunityIn addition, in 2002, the life science sector has been developed through our majority-owned subsidiary,
CombiMatrix, which is developing a proprietary system for rapid, cost
competitive creation of DNAAcacia Technologies group increased legal
and other compounds on a programmable semiconductor
chip.
In 2001, our financial conditionthird-party consulting activities related to its ongoing DMT patent
marketing and results of operations were
highlighted by the receipt of $25.6 million in payments from the licensing of
our television V-chip technology,commercialization efforts, including patent claims construction,
patent prosecution and $6.4 million received by CombiMatrix
pursuant to separate license, supply andrelated research and development agreements
with Roche Diagnostics GmbH ("Roche") and the National Aeronautics and Space
Administration ("NASA") and continued performance under its Phase II SBIR
contract with the U.S. Department of Defense. In addition, CombiMatrix continued
its expansion of research and development activities in 2001. In 2000, our
financial condition and results of operations were highlighted primarily by the
continued expansion of research and development and the building of the
management team at CombiMatrix. In 1999, our financial condition and results of
operations were highlighted primarily by the investment in our subsidiary,
Soundbreak.com, and the expansion associated with CombiMatrix's research and
development. In the following discussion and analysis, the period-to-period
comparisons must be viewed in light of the impact that the acquisition and
disposition of securities of various business interests has had on our financial
condition and results of operations.
During 2001, we began to receive significant payments from the
licensing of our television V-chip technology to television manufacturers. In
addition, CombiMatrix began to receive significant payments from its strategic
partners and licensees. However, to date, our subsidiary companies have relied
primarily upon selling equity securities, including sales to and loans from us,
to generate the funds needed to finance the implementation of their plans of
operation. Our subsidiary companies may be required to obtain additional
financing through bank borrowings, debt or equity financings or otherwise, which
would require us to make additional investments or face a dilution of our equity
interests.
We cannot assure that we will not encounter unforeseen difficulties
that may deplete our capital resources more rapidly than anticipated. Any
efforts to seek additional funds could be made through equity, debt or other
external financings; however, we cannot assure that additional funding will be
available on favorable terms, if at all. If we fail to obtain additional funding
when needed for our subsidiary companies, and ourselves, we may not be able to
execute our business plans and our business may suffer.
ACQUISITION AND OPERATING ACTIVITIES
During 2001, we continued to significantly increase financing,
acquisition and operating activities while receiving significant payments from
our media technologies licensing arrangements and from our life science
strategic partners and licensees. We intend to continue to pursue both licensing
and strategic business alliances with leading companies in the rapidly growing
media technologies industry. Additionally, we intend to continue to invest in
growing our life science businesses by identifying and developing opportunities
in the life science sector that will be created by commercializing the new
biochip technology of CombiMatrix and other related investments in that sector.
Financing activities are listed in the Liquidity and Capital Resources section
that follows. Highlights of the acquisition and operating activities for the
year ended December 31, 2001 include:
FIRST QUARTER:
In the first quarter of 2001, Soundview Technologies executed separate
settlement and/or license agreements with Samsung Electronics, Hitachi America,
Ltd., LG Electronics, Inc., Funai Electric Company, Ltd., Daewoo Electronics
Corporation of America and Sanyo Manufacturing Corporation. In addition,
Soundview Technologies settled its lawsuits with Pioneer Electronics (USA)
Incorporated. Certain of these license agreements constitute settlements of
patent infringement litigation brought by Soundview Technologies. The settlement
14
and license agreements provide for licensing payments to Soundview Technologies,
and grant non-exclusive licenses of Soundview Technologies' U.S. Patent No.
4,554,584 to the respective television manufacturers. Certain of these
settlement and license agreements provide for future royalty payments to
Soundview Technologies. We received, and recognized as revenue, $2.4 million in
license fee payments during the first quarter of 2001. In addition, we received
a payment of $1.0 million pursuant to a settlement and license agreement
executed in December 2000, which is included in deferred revenues at December
31, 2001.
In February 2001, the board of directors of Soundbreak.com resolved to
cease operations as of February 15, 2001 and liquidate its remaining assets and
liabilities of the company. Accordingly, we reported the results of operations
and the estimated loss on disposal of Soundbreak.com as results of discontinued
operations in the consolidated statements of operations and comprehensive loss
as of and for the year ended December 31, 2000.
SECOND QUARTER:
In June 2001, our ownership interest in Soundview Technologies
increased from 67% to 100%, following Soundview Technologies' completion of a
stock repurchase transaction with its former minority stockholders. Soundview
Technologies repurchased the stock of its former minority stockholders in
exchange for a cash payment and the grant to such stockholders of the right to
receive 26% of future net revenues generated by Soundview Technologies' current
patent portfolio, which includes its V-chip patent.
During the second quarter of 2001, Soundview Technologies executed
separate settlement and license agreements with Thomson Multimedia, Inc. and JVC
Americas Corporation. Certain of these settlement and license agreements provide
for future royalty payments to Soundview Technologies. We received, and
recognized as revenue, license fee payments totaling $10.0 million during the
second quarter of 2001.
THIRD QUARTER:
In the third quarter of 2001, Soundview Technologies executed separate
settlement and/or license agreements with Matsushita Electric Industrial Co.,
Ltd. and Orion Electric Co., Ltd. We received, and recognized as revenue,
license fee payments totaling $10.7 million during the third quarter of 2001. In
addition, we received a payment of $0.5 million pursuant to a license agreement
executed in December 2000, which is included in deferred revenues at December
31, 2001.
In July 2001, CombiMatrix entered into a non-exclusive worldwide
license, supply, and research and development agreement with Roche. Under the
terms of the agreement, it is contemplated that Roche will purchase, use and
resell CombiMatrix's biochips (microarrays) and related technology for rapid
production of customizable biochips. Additionally, CombiMatrix and Roche will
develop a platform technology, providing a range of standardized biochips for
use in important research applications. Roche will make payments for the
deliverables contemplated and for expanded license rights.
The agreement allows Roche in the future to use, develop and resell
licensed CombiMatrix products in diagnostic applications. The agreement includes
a revenue sharing arrangement and has a term of 15 years. The agreement provides
for minimum payments by Roche to CombiMatrix over the first three years,
including milestone achievements, payments for products, royalties and research
and development projects. In the third quarter of 2001, CombiMatrix received an
up-front payment under the Roche agreement, which is included in deferred
revenues at December 31, 2001.
In August 2001, CombiMatrix entered into a license and supply agreement
with NASA. The agreement provides for the license, purchase and use by the NASA
Ames Research Center of CombiMatrix's active biochips (microarrays) and related
technology to conduct biological research in terrestrial laboratories and in
space.
FOURTH QUARTER:
On October 22, 2001, our board of directors declared a ten percent
(10%) stock dividend. The stock dividend, totaling 1,777,710 shares, was
distributed on December 5, 2001 for stockholders of record as of November 21,
2001. All share and per share information presented herein is adjusted for the
stock dividend.
In October 2001, CombiMatrix formed a joint venture with Marubeni
Japan, one of Japan's leading trading companies. The joint venture, based in
Tokyo, will focus on development and licensing opportunities for CombiMatrix's
biochip technology with pharmaceutical and biotechnology companies in the
Japanese market. Marubeni made an investment to acquire a ten percent (10%)
minority interest in the joint venture.
In November 2001, we increased our ownership interest in Acacia Media
Technologies, formerly Greenwich Information Technologies LLC, from 33% to 100%
through the purchase of the ownership interest of the former limited liability
company's other member. In December 2001, we converted the company from a
15
limited liability company to a corporation and changed the name of the company
to Acacia Media Technologies Corporation. Acacia Media Technologies owns a
worldwide portfolio of pioneering patents relating to audio and video
transmission and receiving systems, commonly known as audio-on-demand and
video-on-demand, used for distributing content via various methods including
computer networks, cable television systems and direct broadcasting satellite
systems.
In December 2001, CombiMatrix completed a major milestone in its
strategic alliance with Roche. CombiMatrix demonstrated several key performance
metrics of its custom in-situ microarray system. In the fourth quarter of 2001,
CombiMatrix received certain milestone payments under the Roche agreement, which
are included in deferred revenues at December 31, 2001.
In the fourth quarter of 2001, we received, and recognized as revenue,
license fee payments totaling $1.0 million. In addition, CombiMatrix received
payments under its license and supply agreement with NASA, which are included in
deferred revenues at December 31, 2001.
As of September 30, 2001, CombiMatrix capitalized costs incurred in
connection with the filing of a registration statement with the SEC in November
2000 totaling $1.4 million. Approximately $0.9 million of these costs were
included in current assets in our December 31, 2000 consolidated balance sheet.
In the fourth quarter of 2001, all of these deferred costs were charged to
operations due to uncertainty regarding the future recoverability of such costs
stemming from unfavorable market conditions in late 2001 and early 2002.
EFFECT OF VARIOUS ACCOUNTING METHODS ON OUR RESULTS OF OPERATIONSengineering costs.
CRITICAL ACCOUNTING POLICIES
We believeOur consolidated financial statements and the following criticalseparate group financial
statements are prepared in conformity with accounting policies affect our more
significantprinciples generally
accepted in the United States of America. In preparing these financial
statements, we make assumptions, judgments and estimates usedthat can have a
significant impact on amounts reported in our financial statements. We base our
assumptions, judgments and estimates on historical experience and various other
factors that we believe to be reasonable under the preparationcircumstances. Actual results
could differ materially from these estimates under different assumptions or
conditions. On a regular basis we evaluate our assumptions, judgments and
estimates and make changes accordingly.
We believe that, of the significant accounting policies discussed in Note 2
to our consolidated and separate group financial statements:statements, the following
accounting policies require our most difficult, subjective or complex judgments:
o revenue recognition;
o research and development expenses;
o litigation, claims and assessments;
o stock-based compensation;
o accounting for income taxes; and
o valuation of long-lived and intangible assets and goodwill.goodwill;
o accounting for business combinations, and;
o management and allocation policies relating to AR-Acacia Technologies
stock and AR-CombiMatrix stock.
We discuss below the critical accounting assumptions, judgments and
estimates associated with these policies. Historically, our assumptions,
judgments and estimates relative to our critical accounting policies have not
differed materially from actual results. For further information on our critical
accounting policies, see Note 2 to the consolidated financial statements and
separate group statements included herein.
REVENUE RECOGNITION. We derive our revenues from three primary sources:
(i) fees from the licensing of our television V-chip technology to television
manufacturers, (ii) revenues under multiple-element arrangements with strategic
partners and licensees and (iii) government grant revenues.RECOGNITION
As described below, significant management judgments must be made and used
in connection with the revenue recognized in any accounting period. Material
differences may result in the amount and timing of our revenue recognized or
deferred for any period if our management made different judgments.
Television V-chip License Fees: Our television V-chip technology
settlement and/or license agreements provide for the payment of contractually
determined license fees to us in consideration for the grant to certain
television manufacturers of a non-exclusive, retroactive and future license to
manufacture and/or sell products covered by Soundview Technologies' U.S. Patent
No. 4,554,584, through July 2003. Certain of the agreements also provide for
future royalties or additional required payments based on future television
sales or the outcome of future litigation and settlement activities. The
agreements executed with the various television manufacturers include certain
release provisions with respect to Soundview Technologies' ongoing patent
infringement and anti-trust enforcement efforts. Amounts received under the
settlement and license agreements are recorded as license fee income in our
consolidated statement of operations and comprehensive loss.
License fee incomeRevenue is recognized as revenue when (i) persuasive evidence of an arrangement
exists, (ii) all obligations have been performed pursuant to the terms of the
license agreement, (iii) amounts are fixed or determinable and (iv) collectibility of
amounts is reasonably assured.
Pursuant
to31
ACACIA TECHNOLOGIES GROUP
We make estimates and judgments when determining whether the termscollectibility
of license fees receivable from licensees is reasonably assured. The Acacia
Technologies group assesses the agreements, we have no further obligation with respect to
the salecollectibility of the non-exclusive retroactive and futureaccrued license including no
16
express or implied obligation on our part to maintain or upgrade the technology
or license, or provide future support or services. Generally, the agreements
provide for the grant of the license upon receipt by Soundview Technologies of
payment of the contractual license fee. As such, the earnings process is
generally complete upon the receipt of payment from the television manufacturer,
and revenue is recognized when all of the criteria above are met.
License fee payments received by us that do not meet the revenue
recognition criteria above are recorded as deferred revenues until the criteria
are met. In the event that license fee amounts due from television manufacturers
have been accrued, we assess collectionfees based on
a number of factors, including past transaction history with licensees and credit-worthiness.the
credit-worthiness of licensees. If we determineit is determined that collection
of an accrued license fee is not
reasonably assured, we defer the fee and
recognizeis recognized when collectibility becomes reasonably
assured, assuming all other revenue recognition criteria have been met, which is
generally upon receipt of cash. Revenues Under Multiple-Element Arrangements with Strategic PartnersManagement estimates regarding collectibility
impact the actual revenues recognized each period and Licensees: CombiMatrix enteredthe timing of the
recognition of revenues. Our assumptions and judgments regarding future
collectibility could differ from actual events, thus materially impacting our
financial position and results of operations.
The Acacia Technologies group recognizes license fee revenues when earned
over the term of the license agreement in exchange for the grant of
non-exclusive licenses to use certain technologies for which we own or control
patents. We recognize revenue for estimates of license fees earned during the
applicable period, based on historical activities of licensees, historical sales
or per unit growth rates of licensees and other relevant available information
regarding licensee activities that factor into the calculation of periodic
license fees due. Revisions are made for actual licensee fees received in the
following quarter. Historically, these revisions have not been material to our
consolidated financial statements. For those arrangements where royalties cannot
be reasonably estimated, we recognize revenue upon the receipt of cash or
license fee statements from our licensees as described at Note 2 to our
consolidated financial statements contained elsewhere herein. Our estimates of
periodic license fees due could differ from actual events, thus materially
impacting our financial position and results of operations.
The Acacia Technologies group is responsible for the licensing and
enforcement of its patented technologies and pursues third parties that are
utilizing its intellectual property without a non-exclusive worldwide license supply, research and developmentor who have under-reported
the amount of royalties owed under a license agreement with Rochethe Acacia
Technologies group. As a result of these activities, from time to time, we may
recognize royalty revenues that relate to infringements by our licensees that
occurred in July 2001. Underprior periods. These royalty recoveries may cause revenues to be
higher than expected during a particular reporting period and may not occur in
subsequent periods. Differences between amounts initially recognized and amounts
subsequently audited or reported as an adjustment to those amounts, will be
recognized in the terms ofperiod such adjustment is determined as a change in accounting
estimate.
COMBIMATRIX GROUP
Significant estimates, judgments and assumptions are required in connection
with the agreement, Roche will purchase, useCombiMatrix group's accounting for multiple-element arrangements with
strategic partners and resell CombiMatrix's
microarray and related technologieslicensees.
The CombiMatrix group accounts for rapid production of customizable
biochips. Additionally, CombiMatrix and Roche will develop a platform
technology, providing a range of standardized biochips for use in research
applications. The agreement has a 15-year term and provides for minimum payments
by Roche to CombiMatrix over the first three years, including milestone
achievements, payments for products, royalties and research and development
projects.
Revenues from the sale of products and servicesrevenues under multiple-element
arrangements are recognized when (i) persuasive evidence of an arrangement
exists, (ii) delivery has occurred or services have been rendered, (iii) the
fees are fixed and determinable and (iv) collectibility is reasonably assured.
Pursuant toin accordance with Staff Accounting Bulletin No. 101,104, "Revenue
Recognition, in
Financial Statements" ("" or SAB No. 101"), an arrangement104 and Emerging Issues Task Force Consensus, or EITF,
Issue 00-21, "Revenue Arrangements with Multiple Deliverables," and related
pronouncements. Arrangements with multiple elements or deliverables shouldmust be
segmented into individual units of accounting based on the separate deliverables
only if there is objective and reliableverifiable evidence of fair value to allocate the
consideration received to the deliverables. Accordingly, revenues from
multiple-element arrangements involving license fees, up-front payments and
milestone payments, which are received and/or billable in connection with other
rights and services that represent continuing obligations of the CombiMatrix
group, are deferred until all of the multiple elements have been delivered or
until objective and verifiable evidence of the fair value of the undelivered
elements has been established. Upon establishing objective and verifiable
evidence of the fair value of the elements in multiple-element arrangements, the
fair value is allocated to each element of the arrangement, such as licensinglicense fees
or research and development deliverables,projects, based on the relative fair values of the
elements. We determineThe CombiMatrix group determines the fair value of each element in
multiple-element arrangements based on objective and verifiable evidence of fair
value, which is determined for each element based on the price charged when the
same element is sold separately.separately to a third party. If objective and verifiable
evidence of fair value of all undelivered elements exists but objective and
verifiable evidence of fair value does not exist for one or more delivered
elements, then revenue is recognized using the residual method. Under the
residual method, the revenues from delivered elements are not recognized until
the fair value of the undelivered elements iselement(s) have been determined.
In March 2004, the CombiMatrix group completed all phases of its research
and development agreement with Roche. As a result of completing all obligations
under this agreement and in accordance with the CombiMatrix group's revenue
recognition policies for multiple-element arrangements, the CombiMatrix group
recognized all previously deferred Roche related contract revenues during the
first quarter of 2004. All payments received to date from Furuno and the remaining portion of the
arrangement fee is recognized as revenue.
For the year ended December 31, 2001, CombiMatrix received paymentsToppan,
totaling $5.3$3.4 million, from Roche, including up-front payments and milestone
payments, which arehave been classified as deferred revenues in the
accompanying December
31, 2001CombiMatrix group's consolidated balance sheetsheets due to management'sthe determination that
the
payments received relate to elements for which objective and reliableverifiable evidence of fair value does not currently exist.exist for the
remaining undelivered elements. Pursuant to EITF 00-21, SAB No. 101,104 and related
guidance, the elements associated with the amounts received to date and
additional milestone payments will be treated as one accounting unit. The
up-front fees and cash payments received upon the accomplishment of the
contractual milestones will be deferred. Revenue will be recognized when all of
the related elements, for which objective and reliable evidence does not exist,
have been delivered and there is objective and reliable evidence to support the
fair value for all of the undelivered elements.
Government Grants: Revenues from government grants and contracts are
recognized when the related services are performed and approved by the grantor
and when collectibility is reasonably assured. Amounts recognized are limited to
amounts due from customers based upon the contract or grant terms.32
RESEARCH AND DEVELOPMENT EXPENSES. Our research and development
expenses to date have been incurred primarily by ourEXPENSES
The CombiMatrix subsidiary.
CombiMatrix is engaged in several research and development initiatives to expand
its product offerings by increasing the number of test sites on their active
biochips from 1,024 sites per square centimeter currently to over 10,000 sites
per square centimeter and by developing additional applications of its
technology for drug discovery and development.
Research and development expenses have been CombiMatrix's largest
expense to date. Research and development expenses primarily relate to costs of
developing its semiconductor-based, active biochip system, including salaries
and benefits, recruiting and relocation expenses related to the expansion of its
research and development staff, costs associated with increased usage of
17
laboratory materials and supplies and increased facilities costs. CombiMatrix
expects to continue to incur significant expenses for research and development,
for developing and expanding its manufacturing capabilities and for other
efforts to commercialize its products. As a result, we expect that our research
and development expenses will continue to increase in the foreseeable future.
In July 2001, CombiMatrix signed a non-exclusive license and supply
agreement and a research and development agreement with Roche in the genomics
and related diagnostic fields, which provide for payments to CombiMatrix upon
development of proposed products incorporating its technology. In 2001, research
and development expenses incurred were primarily driven by CombiMatrix's
obligations under the research and development agreement with Roche. These
projects include continued development of production microarray synthesis
techniques, as well as higher density microarrays. These projects are expected
to continue into 2002 and 2003 as determined by the timelines outlined in
CombiMatrix's agreements with Roche.
We accountgroup accounts for research and development expenses
pursuant to Statement of Financial Accounting Standards, ("SFAS")or SFAS, No. 2,
"Accounting for Research and Development Costs" ("SFAS No. 2"). SFAS No. 2Costs," which requires that all
research and development costs as defined therein, be charged to expense as incurred.
Research and development expenses incurred, to date consist ofincluding
costs incurred for
direct and overhead-related research expenses and are expensed as incurred.
Costs to acquire technologies, which are utilized in research and
development and which have no alternative future use are expensed when incurred. Costsuse. Also, costs related to
filing and pursuing patent applications are expensed as incurred, as
recoverability of such expenditures is uncertain. Under SFAS No. 2, researchResearch and development
refers to a plan or design for a new product or process or for a significant
improvement to an existing product or process whether intended for sale or use.
Significant management estimates and judgments are required with respect to the
determination of which costs relate to plans or designs for a new product or
process or for a significant improvement to an existing product. Had managementthe
CombiMatrix group determined that certain costs incurred were not related to
research and development activities, different accounting treatment for such
costs may have been required.
The costs of software developed or obtained for internal use in CombiMatrix's products is expensed as
incurred until technological feasibility for the software hascertain capitalization criteria have been established. Software developmentmet, at which time such
costs incurred toare capitalized and reported as a component of property and equipment. To
date, these costs have been classified as research and development expenses.
Significant management estimates are required with respect to the determination
of when technological feasibility for the
software hascertain capitalization criteria have been established. Technological feasibility is establishedmet. Typically this occurs
upon completion of a detail programprototype and design or, in its absence, completion ofphase and a working model.functioning model exists.
Thereafter, all software productionprogram costs are required to be capitalized and
subsequently reported atamortized over the lowerremaining estimated useful life of unamortized cost or net
realizable value.the software. Had
management made differing judgments regarding technological feasibility,the capitalization criteria,
different accounting treatment of costs of software developed for internal use in CombiMatrix's products
may have been required.
LITIGATION, CLAIMS AND ASSESSMENTS. The preparation of financial
statements in conformity with generally accepted accounting principles in the
United States of America requires management to make estimates and assumptions
that affect the reported amount of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. Specifically, our management must make estimates of whether
(i) it is probable that an asset has been impaired or a liability has been
incurred at the date of the consolidated financial statements and (ii) whether
the amount of loss can be reasonably estimated. In the event that in
management's estimation it is probable that an asset has been impaired or a
liability has been incurred at the date of the consolidated financial statements
and amounts of loss can be reasonably estimated, the estimated contingent loss
from the loss contingency is accrued by a charge to income.
Because of the uncertainties related to both probabilities of outcome
and amounts and ranges of potential loss associated with outstanding claims and
pending litigation at December 31, 2001, management is unable to make a
reasonable estimate of the likelihood of outcome or the liability that could
result from an unfavorable outcome. As such, we have not accrued for any loss
contingencies as of December 31, 2001. As additional information becomes
available, we will assess the potential liability related to our pending
litigation and revise our estimates. Such revisions in our estimates of the
potential liability could materially impact our results of operation and
financial position.
STOCK-BASED COMPENSATION. Acacia's stock option policies provide for
the granting of stock options to employees, generally, at exercise prices equal
to the fair value of the underlying stock on the date of grant. The fair values
of Acacia stock option grants are determined by reference to the quoted market
prices of our stock as listed on the NASDAQ National Market System on the grant
date. The fair values of stock options granted by our non-public subsidiaries
are determined by the board of directors of the respective companies.
Non-cash stock compensation cost related to stock options issued to
employees is accounted for in accordance with Accounting Principles Board
("APB") Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No.
25"), and related interpretations. Compensation cost attributable to such
options is recognized based on the difference, if any, between the closing
18
market price of the stock on the date of grant and the exercise price of the
option. Compensation cost is deferred and amortized on an accelerated basis over
the vesting period of the individual option awards using the amortization method
prescribed in Financial Accounting Standards Board ("FASB") Interpretation No.
28, "Accounting for Stock Appreciation Rights and Other Variable Stock Option or
Award Plans" ("FIN No. 28"). Non-cash compensation cost of stock options and
warrants issued to non-employee service providers, which has not been
significant, is accounted for under the fair value method required by SFAS No.
123 and Emerging Issues Task Force Issue No. 96-18, "Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services."
During the year ended December 31, 2000, CombiMatrix recorded deferred
non-cash stock compensation charges aggregating approximately $53.8 million in
connection with the granting of stock options. Pursuant to Acacia's policy, the
stock options were originally granted by CombiMatrix at exercise prices equal to
the fair value of the underlying CombiMatrix stock on the date of grant as
determined by its board of directors. However, such exercise prices were
subsequently determined to have been granted at exercise prices below fair value
due to a substantial step-up in the fair value of CombiMatrix pursuant to a
valuation provided by an investment banker in contemplation of a potential
CombiMatrix initial public offering in 2000. In connection with the proposed
CombiMatrix initial public offering and pursuant to SEC rules and guidelines, we
were required to reassess the value of stock options issued during the one-year
period preceding the potential initial public offering and utilize the
stepped-up fair value provided by the investment banker for purposes of
determining whether such stock option issuances were compensatory, resulting in
the calculation of the $53.8 million in deferred non-cash stock compensation
charges in 2000. Deferred non-cash stock compensation charges are being
amortized over the respective option grant vesting periods, which range from one
to four years. Non-cash stock compensation charged to income during 2001 totaled
$20.8 million and related primarily to the continued amortization of
CombiMatrix's deferred stock compensation amounts during 2001. Pursuant to the
vesting terms of CombiMatrix's stock options outstanding at December 31, 2001,
we will incur non-cash stock compensation amortization expenses of $8.1 million
in 2002, $3.6 million in 2003 and $1.1 million in 2004.
During the third and fourth quarters of 2001, certain CombiMatrix
unvested stock options were forfeited. Pursuant to the provisions of APB No. 25
and related interpretations, the reversal of previously recognized non-cash
stock compensation expense on forfeited unvested stock options, in the amount of
$4.7 million, has been reflected in the 2001 consolidated statement of
operations and comprehensive loss as a reduction in 2001 non-cash stock
compensation expense. In addition, the forfeiture of certain unvested options
during 2001 resulted in a reduction of the remaining deferred non-cash stock
compensation expense scheduled to be amortized in future periods.
Amounts to be amortized in future periods reflected above may be
impacted by certain subsequent stock option transactions including modification
of terms, cancellations, forfeitures and other activity.
ACCOUNTING FOR INCOME TAXES.TAXES
As part of the process of preparing our consolidated financial statements,
we are required to estimate our income taxes in each of the jurisdictions in
which we operate. This process involves the estimating of our actual current tax
exposure together with assessing temporary differences resulting from differing
treatment of items, such as deferred revenue, amortization of intangibles and
asset depreciation for tax and accounting purposes. These differences result in
deferred tax assets and liabilities, which are included within our consolidated
balance sheet. We must then assess the likelihood that our deferred tax assets
will be recovered from future taxable income and to the extent we believe that
recovery is not likely, we must establish a valuation allowance. To the extent
we establish a valuation allowance or increase this allowance in a period, we
must include an expense within the tax provision in the consolidated statement
of operations and comprehensive loss.
Significant management judgment is required in determining our provision
for income taxes, our deferred tax assets and liabilities and our valuation
allowance. We have recorded a full valuation allowance against our net
deferred tax
assets of $49.9$94.1 million as of December 31, 2001,2004, due to uncertainties related to
our ability to utilize our deferred tax assets, primarily consisting of certain
net operating losses carried forward, before they expire. In assessing the need
for a valuation allowance, we have considered our estimates of future taxable
income, the period over which our deferred tax assets may be recoverable, our
history of losses and our assessment of the probability of continuing losses in
the foreseeable future. In management's estimate, any positive indicators,
including forecasts of potential future profitability of our businesses, are
outweighed by the uncertainties surrounding our estimates and judgments of
potential future taxable income. In the event that actual results differ from
these estimates or we adjust these estimates should we believe we would be able
to realize these deferred tax assets in the future, an adjustment to the
valuation allowance would increase income in the period such determination was
made. Any changes in the valuation allowance could materially impact our
financial position and results of operations.
VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL. We assessGOODWILL
Goodwill is evaluated for impairment using a fair value approach at the
reporting unit level annually, or earlier if an event occurs or circumstances
change that would more likely than not reduce the fair value of a reporting unit
below its carrying amount. A reporting unit can be an operating segment or a
business if discrete financial information is prepared and reviewed by
management. Our reporting units are: 1) the Acacia Technologies group and 2) the
CombiMatrix group. Under the impairment test, if a reporting unit's carrying
amount exceeds its estimated fair value, goodwill impairment is recognized to
the extent that the reporting unit's carrying amount of identifiable intangibles,goodwill exceeds the
implied fair value of the goodwill. The fair value of Acacia Research
Corporation's reporting units are estimated using discounted cash flows and
other valuation techniques. Significant judgments and estimates are required in
determining forecasted cash inflows and outflows, the timing of cash flows and
discount rates commensurate with the risks involved.
We review long-lived assets and related
goodwill and enterprise level goodwillfor impairment whenever events or changes in
circumstances indicate that the carrying valueamount of an asset may not be
recoverable. Factors we consider important, which could trigger an impairment
review include the following:
19
o significant underperformance relative to expected historical or
projected future operating results;
o significant changes in the manner of our use of the acquired assets or
the strategy for our overall business;
33
o significant negative industry or economic trends;
o significant adverse changes in legal factors or in the business
climate, including adverse regulatory actions or assessments; and
o significant decline in our stock price for a sustained period.
WhenWe calculate estimated future undiscounted cash flows, before interest and
taxes, resulting from the use of the asset and its estimated value at disposal
and compare it to its carrying value in determining whether impairment
potentially exists. If a potential impairment exists, a calculation is performed
to determine the fair value of the long-lived asset. This calculation is based
on a valuation model and discount rate commensurate with the risks involved.
Third party appraised values may also be used in determining whether impairment
potentially exists.
As described above, in assessing the recoverability of goodwill and other
intangible assets, estimates of market values and projections regarding
estimated future cash flows and other factors are used to determine the fair
value of the respective assets. If these estimates or related projections change
in future periods, future goodwill impairment tests may result in a charge to
earnings.
ACCOUNTING FOR BUSINESS COMBINATIONS
The cost of an acquired business is assigned to the tangible and
identifiable intangible assets acquired and liabilities assumed on the basis of
their fair values at the date of acquisition. We assess fair value using a
variety of methods, including the use of present value models, independent
appraisers, and estimation of current selling prices and replacement values.
Amounts recorded as intangible assets, including acquired in-process research
and development, or IPR&D, are based on assumptions and estimates regarding the
amount and timing of projected revenues and costs, appropriate risk-adjusted
discount rates, as well as assessing the competition's ability to commercialize
products before we can. Also, upon acquisition, we determine that the carryingestimated
economic lives of the acquired intangible assets for amortization purposes.
Actual results may vary from projected results.
On December 13, 2002, Acacia Research Corporation increased its
consolidated ownership interest in CombiMatrix Corporation from 48% to 100% by
acquiring from existing stockholders of CombiMatrix Corporation 11,987,052
shares of CombiMatrix Corporation common stock in exchange for 11,987,052 shares
of AR-CombiMatrix stock with a fair value of intangibles, long-lived$46.0 million. The transaction was
accounted for as a step acquisition using the purchase method of accounting. The
fair value of the AR-CombiMatrix stock issued in the transaction was based on
the quoted market price of AR-CombiMatrix stock averaged over a five-day period
(from December 16, 2002, the first day of trading for the AR-CombiMatrix stock
through December 20, 2002). The total purchase price of $46.8 million, including
acquisition costs of $0.8 million, was allocated to the fair value of assets
acquired and liabilities assumed, including acquired in-process research and
development, or IPR&D. The amount attributable to CombiMatrix Corporation's core
technology and related patents was $5.3 million, which is being amortized using
the straight-line method over the estimated economic useful life of 7 years. The
amount attributable to IPR&D of $17.2 million was charged to expense and is
included in the consolidated statement of operations and comprehensive loss for
the year ended December 31, 2002. The amount attributable to goodwill was $16.0
million. Amounts allocated to patents, IPR&D and goodwill have been attributed
to the CombiMatrix group.
As described above, $17.2 million of the purchase price was allocated to
IPR&D projects that had not yet reached technological feasibility and had no
alternative future use. Accordingly, this amount was immediately expensed in the
2002 consolidated statement of operations and comprehensive loss as of the
acquisition date. Management was responsible for determining the fair value of
the tangible and identifiable intangible assets acquired and liabilities
assumed, including IPR&D, at the date of acquisition. Management considered a
number of factors, including reference to independent valuations. Management
utilized an income approach to determine the fair values of tangible and
identifiable intangible assets acquired and liabilities assumed. The in-process
technologies were valued using a discounted cash flow model on a
project-by-project basis, which estimated the cash flows expected to result from
each project once it has reached technological feasibility. A discount rate
consistent with the risks of each project was used to estimate the present value
of future cash flows. In estimating future cash flows, management considered the
contribution of its core technology (for which a United States patent was
obtained in July 2000) that would be required for successful exploitation of
purchased in-process technology, in order to value the core and in-process
technologies discretely. As a result, future cash flows relating to each
purchased IPR&D project were reduced in order to reflect the contribution of
core technology to each IPR&D project. The cash flows from these projects
attributable to core technology were then separately valued to determine the
intangible asset value of purchased core technology. In determining the
contribution of core technology to in-process projects, management used a profit
split approach which considered the estimated profit split between a licensor
and licensee of the core technology and management's assessment of how critical
the core technology was to the IPR&D projects.
34
The nature of the efforts to develop the purchased IPR&D into commercially
viable products principally relates to the completion and/or acceleration of
existing development programs. These efforts include testing current and
alternative materials used in array design, testing of existing and alternative
methods for array synthesis, developing prototype machinery (including operating
software) to synthesize, hybridize and read individual arrays, and to perform
numerous experiments, or assays, with actual target samples in order to
determine customer protocols and procedures for using the CombiMatrix group's
array system. The costs of these efforts have been included in the CombiMatrix
group's projections to successfully launch the purchased IPR&D projects. The
resulting net cash flows from such projects are based on management's estimates
of revenues, cost of sales, research and development expenses, sales and
marketing expenses, general and administrative expenses, the anticipated effect
of income taxes, and required returns on working capital, fixed assets and other
assets necessary to support the generation of these cash flows.
The discounting of net cash flows relating to core technology to their
present value is based on CombiMatrix Corporation's weighted average cost of
capital, or WACC. The WACC calculation produces the average required rate of
return of an investment in an operating enterprise, based on various required
rates of return from investments in various areas of that enterprise. The WACC
for CombiMatrix Corporation was approximately 20% at the time of the merger and
is the rate used in discounting the net cash flows attributable to purchased
core technology. Due to the additional inherent risks associated with the
purchased IPR&D projects, including if and when the technologies will ultimately
become commercially viable, market acceptance risks, and threats from competing
technologies, higher discount rates were used to value the projects. The
discount rates used for each project are described below.
The forecast data employed in the valuation analyses was based upon product
level forecast information obtained by Acacia Research Corporation from numerous
internal and external resources. These resources included publicly available
databases, external market research consultants, company-sponsored focus groups
and internal market experts. Management reviewed and challenged the forecast
data and related goodwillassumptions and enterprise level goodwill may not be recoverableutilized the information in analyzing IPR&D.
The forecast data and assumptions are inherently uncertain and unpredictable.
However, based upon the existenceinformation available at this time, Acacia Research
Corporation management believes the forecast data and assumptions to be
reasonable. These assumptions may be incomplete or inaccurate and no assurance
can be given that unanticipated events and circumstances will not occur.
Accordingly, actual results may vary from the forecasted results. Any such
variance may result in a material adverse effect on Acacia Research
Corporation's financial condition and results of one or moreoperations.
In the allocation of purchase price to the IPR&D, the concept of
alternative future use was specifically considered for each of the above indicatorsprograms
under development. The acquired IPR&D consists of impairment,
we measure any impairment basedCombiMatrix Corporation's work
to complete each of the identified programs. The programs are very specific to
research market for which they are intended. There are no alternative uses for
the in-process programs in the event that the programs fail in their continued
development or are otherwise not feasible. The development effort for the
acquired IPR&D does not possess an alternative future use for Acacia Research
Corporation as defined by generally accepted accounting principles. Following is
a brief description of each IPR&D project.
GENOMICS BIOLOGICAL ARRAY SYSTEM: CombiMatrix Corporation's genomics
biological array processor system is being developed to discretely immobilize
sequences of DNA or RNA within individual test sites on a modified semiconductor
chip coated with a three-dimensional layer of porous material. The system also
includes proprietary hardware units and related software applications to be able
to synthesize materials onto the chips, apply target samples of genetic
materials and interpret the results. The application of this system will be in
gene expression profiling and SNP genotyping, which could lead to the better
understanding of gene function and ultimately therapeutic discovery to fight
disease. CombiMatrix Corporation's projected discounted cash flow method using
amodels from
commercializing this system include servicing CombiMatrix Corporation's existing
relationship with Roche as well as other strategic partners, including
pharmaceutical, biotech and academic institutions. The fair value assigned to
the genomics biological array system IPR&D project was $14.0 million. A
risk-adjusted discount rate determined by our managementof 32% was applied to be commensuratethe project's estimated cash
flows. The CombiMatrix group is substantially complete with the riskGenomics IPR&D
project contemplated at the acquisition date and launched its CustomArray(TM)
DNA Microarray platform in March 2004.
35
PROTEOMICS BIOLOGICAL ARRAY SYSTEM: CombiMatrix Corporation's proteomics
biological array processor system is being developed to discretely immobilize
proteins and other small molecules within individual test sites on a modified
semiconductor chip in a similar fashion as described above for the genomics
biological array system. However, the porous reaction layer coating used in
synthesis and manner in which the software used to design probes for protein
immobilization are significantly different from what is currently being
developed for the genomics application. Further, the proteomics biological array
system primarily uses electrochemical methods for detection of assay results,
which contrasts with the optical means that are the primary method used with the
CombiMatrix Corporation's genomics products. These differences arise largely due
to the inherent biological differences between DNA molecules and protein
molecules and how they interact with the CombiMatrix group's proprietary
technology. The proteomics biological array system is used for detection and
identification of bio-threat agents in our current business model. Net intangible assets, long-lived assetsCombiMatrix Corporation's biological and
goodwill amounted to $21.4 million as of December 31, 2001.
In 2002, SFAS No. 142, "Goodwillchemical threat agent detector development programs that are currently in
process. Although ongoing research and Other Intangible Assets" ("SFAS
No. 142"), became effective and as a result, we will cease to amortize
approximately $4.7 million of goodwill effective January 1, 2002. We recorded
approximately $1.1 million of amortization on these amounts during 2001. In lieu
of amortization, we are required to perform an initial impairment review of our
goodwilldevelopment efforts in 2002 and an annual impairment review thereafter. We expect to
complete our initial review during the first quarter of 2002. We currently do
not expect to record an impairment charge upon completion of the initial
impairment review. Howevercommercializing
this system have been positive, there can be no assurance that at the timesystem will
be successfully launched and accepted by the reviewgovernment, pharmaceutical, biotech
and academic research fields. The fair value assigned to the proteomics
biological array system IPR&D project was $3.2 million. A risk- adjusted
discount rate of 60% was applied to the project's estimated cash flows. The
Proteomics IPR&D project is completed, a material impairment charge will not be recorded.
In August 2001,ongoing as projected and the FASB issued SFAS No. 144, "Accountingexpected completion of
the project coincides with the expected completion of the CombiMatrix group's
obligations under its $5.9 million Department of Defense contract to further the
development of the CombiMatrix group's microarray technology for the Impairment or Disposaldetection
of Long-Lived Assets" ("SFAS No. 144"), which addresses
financial accountingbiological threat agents. The Department of Defense contract was
approximately 34% complete as of December 31, 2004. Based on actual costs
incurred through December 31, 2004, the CombiMatrix group expects to incur
approximately $2.2 million and reporting for$819,000 in research and development costs during
2005 and 2006, respectively, to complete its obligations to the impairmentDepartment of
long-lived assetsDefense under this contract. The CombiMatrix group has also contracted with
strategic partners such as Toppan and for long-lived assetsFuruno to be disposed of. SFAS No. 144 requires long-lived assetsfurther develop aspects of its
genomics array platform and continues to be tested for recoverability whenever events or changes in circumstances
indicate that its carrying amount may not be recoverable. In conjunctioninvest internally to develop and launch
new products. Such activities are consistent with such tests, it may be necessary to review depreciation estimatesthe original projections.
MANAGEMENT AND ALLOCATION POLICIES RELATING TO AR-ACACIA TECHNOLOGIES STOCK AND
AR-COMBIMATRIX STOCK
The management and methods as
required by APB Opinion No. 20, "Accounting Changes," or the amortization period
as required by SFAS No. 142.
ACCOUNTING FOR INVESTMENTS
The various interests that we acquire in our investees are accounted
for under two broad accounting methods: (i) the consolidation method and (ii)
the equity method. The applicable accounting method is generally determined
based on our voting interest in an investee.
Consolidation. Investees in which we directly or indirectly own
more that 50% of the outstanding voting securities are generally accounted for
under the consolidation method of accounting. Under this method, the investee's
accounts are reflected within our consolidated statements of operations and
comprehensive loss. Participation of other stockholders in the earnings or
losses of a consolidated investee is reflected in the caption "minority
interests" in our consolidated statements of operations and comprehensive loss.
Minority interests adjust our consolidated net results of operations to reflect
only our share of the earnings or losses of consolidated, non-wholly-owned
investees. In the case in which lossesallocation policies applicable to the minority interests in
an investee exceed the minority interests in the equity capitalpreparation of the
investee,
such excessdivisional financial statements of the CombiMatrix group and any further losses applicable to the minority interests are
charged againstAcacia
Technologies group (collectively, the majority interest. However, if future earnings materialize,"groups") may be modified or rescinded, or
additional policies may be adopted, at the majority interest will be credited tosole discretion of the extent of such losses previously
absorbed.
Equity Method. Investees, over whom we exercise significant
influence, whose results we do not consolidate, are generally accounted for
under the equity method of accounting. Whether or not we exercise significant
influence with respect to an investee depends on an evaluation of several
factors including, among others, representation on the investee'sAcacia
Research Corporation board of directors and ownership level, which is generally 20% to 50% interest in the
voting securitiesat any time without approval of the
investee, including voting rights associated with our
holdings in common, preferred and other convertible instruments instockholders. The group divisional financial statements reflect the investee.
Under the equity method of accounting, an investee's accounts are not reflected
within our consolidated statements of operations and comprehensive loss;
however, our shareapplication
of the earnings or lossesmanagement and allocation policies adopted by the Acacia Research
Corporation board of directors to various corporate activities, as described
below. The group's divisional financial statements should be read in conjunction
with Acacia Research Corporation's consolidated financial statements and related
notes.
CORPORATE GENERAL AND ADMINISTRATIVE SERVICES AND FACILITIES
Acacia Research Corporation allocates the cost of corporate general and
administrative services and facilities between the groups generally based upon
utilization. Where determinations based on utilization alone are impracticable,
Acacia Research Corporation uses other methods and criteria, which require the
use of judgments and estimates, that management believes to be equitable and to
provide a reasonable estimate of the investee is reflectedcost attributable to each group. Except as
otherwise determined by management, the allocated costs of providing such
services and facilities include, without limitation, all costs and expenses of
personnel employed in connection with such services and facilities, including,
without limitation, all direct costs of such personnel, such as payroll, payroll
taxes and fringe benefit costs (calculated at the caption "equity income (losses)appropriate annual composite
rate therefore) and all overhead costs and expenses directly related to such
personnel and the services or facilities provided by them. The corporate general
and administrative services and facilities allocated between the groups include,
without limitation, legal services, accounting services (tax and financial),
insurance and deductibles payable in connection therewith, employee benefit
plans and administration thereof, investor relations, stockholder services and
services relating to the Acacia Research Corporation board of affiliates"directors.
Refer to Note 2 in the consolidated financial statements of
operations and comprehensive loss.
At December 31, 2001, we have consolidated all of our investees over
whom we exercise significant control. On November 1, 2001, we increased our
ownership interest in Acacia Media Technologies from 33%for details on
allocation methodologies used to 100% throughallocate costs between the purchase of the ownership interest of the former limited liability company's
other member. The results of operations have been included in the consolidated
statements of operations and comprehensive loss from November 1, 2001.
In most cases, we have representation on the boards of directors of our
investees. In addition to our investments in voting equity securities, we also
periodically make advances to our subsidiaries in the form of promissory notes.
20two groups.
36
ACACIA RESEARCH CORPORATION CONSOLIDATED
RESULTS OF OPERATIONS
NET LOSS (IN THOUSANDS)
RESULTS OF OPERATIONS
2001 2000 1999
------------- ------------- -------------2004 2003 2002
----------- ----------- -----------
Revenues .............................................Net loss .............................................. $ 24,636,000(4,833) $ 57,000(24,420) $ 266,000(58,973)
The changes in net loss were primarily due to operating results and
activities as discussed below.
REVENUES AND COST OF REVENUES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Research and development contract ..................... $ 17,302 $ - $ -
License fees .......................................... 4,284 692 43
Government contracts .................................. 1,993 - 378
Cost of government contract revenues .................. (1,874) - -
Service contracts ..................................... 116 49 155
Products .............................................. 230 407 306
Cost of product sales ................................. (173) (99) (263)
RESEARCH AND DEVELOPMENT CONTRACT. In March 2004, the CombiMatrix group
completed all phases of its research and development agreement with Roche. As a
result of completing all obligations under this agreement and in accordance with
the CombiMatrix group's revenue recognition policies for multiple-element
arrangements, the CombiMatrix group recognized $17.3 million of research and
development contract revenues during the first quarter of 2004, all of which
were previously deferred. The majority of research and development efforts under
the Roche agreement were incurred prior to 2004.
LICENSE FEES. License fee revenues are comprised of DMT technology license
fees and previously deferred V-chip technology license fees recognized by the
Acacia Technologies group. DMT technology license fees were $2.8 million and
$692,000 in 2004 and 2003, respectively. The increase was primarily due to the
significant growth in the number of DMT technology license agreements executed
since March 31, 2003. During 2004, we executed 170 DMT license agreements.
License fee revenues will fluctuate from period to period based on the increase
in license agreements executed, fluctuations in the sales results or other
royalty per unit activities of our licensees that impact the calculation of
license fees due, the timing of the receipt of periodic license fee statements
and or payments from licensees, and other factors. Periodic license fee revenues
may include amounts that relate to prior license periods or prior periods of
infringement, which are recognized as revenues in the period received. DMT
license fees related to prior periods of infringement for the periods presented
above were not significant. Costs incurred in connection with the Acacia
Technologies group's ongoing licensing activities are included in marketing,
general and administrative expenses.
License fee revenues for 2004 include $1.5 million in previously deferred
V-chip license fees (originally deferred in 2001) recognized as a result of the
conclusion of V-chip related litigation in August 2004, as described at Item 3.
"Legal Proceedings." We concluded our V-chip licensing program in August 2004
and do not expect to receive any additional V-chip related revenues in future
periods.
GOVERNMENT CONTRACT AND COST OF GOVERNMENT CONTRACT REVENUES. In March
2004, the CombiMatrix group executed a two-year $5.9 million research and
development contract with the Department of Defense to further the development
of the CombiMatrix group's array technology for the detection of biological
threat agents. Under the terms of the contract, the CombiMatrix group is
reimbursed on a periodic basis for actual costs incurred to perform its
obligations, plus a fixed fee. Revenues are recognized under the
percentage-of-completion method of accounting, using the cost-to-cost approach
to measure completeness at the end of each reporting period. Cost of government
contract revenues reflect research and development expenses incurred in
connection with the CombiMatrix group's commitments under its biowarfare
detection contract with the Department of Defense, which was approximately 34%
complete as of December 31, 2004. Based on actual costs incurred through
December 31, 2004, the CombiMatrix group expects to incur approximately $2.2
million and $819,000 in research and development costs during 2005 and 2006,
respectively, to complete its obligations to the Department of Defense under
this contract.
37
Government contract revenues in 2002 included amounts earned from the
CombiMatrix group's performance under its Phase I SBIR Department of Defense
contract, Phase I NIH grant and one-time contract research and development
revenues. The SBIR Department of Defense and NIH grants were completed during
the third quarter of 2002.
SERVICE CONTRACTS. Service contract revenues include maintenance and
service contract fees recognized by CombiMatrix K.K. from existing array
customers in Japan. As of December 31, 2004, the terms of these contracts had
expired.
PRODUCT REVENUES AND COST OF PRODUCT SALES. Product revenues and costs of
product sales during 2004 relate to domestic and international sales of the
CombiMatrix group's array products. The CombiMatrix group launched its
CustomArray(TM) 902 DNA array platform in March 2004 and its CustomArray(TM) 12K
DNA expression array in July 2004. Product revenues and cost of product sales
during 2003 and 2002 were recognized by CombiMatrix K.K. from sales of DNA array
synthesizers and related array products and services to Japanese research
institutions.
RESEARCH AND DEVELOPMENT EXPENSES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Research and development expenses .................... (18,839,000) (11,864,000) (1,806,000)..................... $ 5,294 $ 8,098 $ 18,187
Charge for acquired in-process
research and development .............................. - - 17,237
RESEARCH AND DEVELOPMENT EXPENSES. The decrease in research and development
expenses in 2004, as compared to 2003 and 2002, was primarily due to the
CombiMatrix group's completion of several Roche related research and development
projects during the third and fourth quarters of 2003, and final completion of
the research and development agreement with Roche in the first quarter of 2004.
During 2003 and 2002, the CombiMatrix group's research and development
activities were driven primarily by ongoing performance obligations under the
product commercialization phase of its license and research and development
agreements with Roche. These activities include costs associated with direct
labor, supplies and materials, development of prototype arrays and instruments
and the use of outside consultants for certain engineering efforts.
With the completion of the research and development agreement with Roche,
year-to-date and future research and development expenses were and will continue
to be incurred in connection with the CombiMatrix group's commitments under its
collaboration and supply agreements with various strategic partners including
Furuno and Toppan, as well as ongoing internal research and development efforts
in the areas of genomics, drug discovery and development and material sciences.
The CombiMatrix group expects its research and development expenses to continue
to be volatile and such expenses could increase in future periods as additional
contract and/or internal research and development agreements are undertaken.
CHARGE FOR ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. Operating expenses
in 2002 include a non-cash charge for acquired in-process research and
development of $17.2 million, related to Acacia Research Corporation's purchase
of the stockholder interests in CombiMatrix Corporation that we did not already
own in December 2002. See "Critical Accounting policies" above and Note 8 to the
Acacia Research Corporation consolidated financial statements included elsewhere
herein for information regarding the allocation of the purchase price and the
accounting for acquired in-process research and development.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES AND LEGAL SETTLEMENT CHARGES (IN
THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Marketing, general and administrative expenses ....... (46,300,000) (22,089,000) (4,418,000)
Amortization of........ $ 14,426 $ 13,031 $ 17,217
Legal expenses - patents and goodwill ................. (2,695,000) (2,251,000) (1,622,000)
Loss on disposal of consolidated subsidiaries ........ -- (1,016,000) --
Other income (expense), net .......................... 4,166,000 (1,235,000) (1,042,000)
Minority interests ................................... 17,540,000 9,166,000 1,221,000
Loss from discontinued operations of Soundbreak.com .. -- (7,443,000) (776,000)
Loss from disposal of Soundbreak.com ................. -- (2,111,000) --
(Provision) benefit for income taxes ................. (780,000) 73,000 (20,000)
Cumulative effect of change in accounting principle... -- (246,000) --
------------- ------------- -------------
Net loss ............................................. $(22,272,000) $(38,959,000) $ (8,197,000)
============= ============= =============.............................. 3,133 1,886 1,415
Legal settlement charges .............................. 812 144 18,471
2001 COMPARED TO 2000
LICENSE FEE INCOME. In 2001, license fee income was $24.2 millionMARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. The change in 2004, as
compared to no license fee income during 2000. The2003, was due primarily to an increase in license fee
incomepersonnel costs related to
the addition of patent licensing and business development personnel for 2001 resultedthe
Acacia Technologies group of $418,000, an increase in the Acacia Technologies
group's patent related commercialization expenses of $110,000, an increase in
corporate professional fees related to ongoing Sarbanes-Oxley compliance
projects at both operating groups of $621,000 and an increase in marketing and
sales costs of $447,000 related to the launch of the CombiMatrix group's
CustomArray(TM) DNA array platform beginning in March 2004 and the overall
expansion of the CombiMatrix group's sales and marketing division.
The change in 2003, as compared to 2002, was due primarily fromto a decrease in
the CombiMatrix group's corporate legal expenses of approximately $827,000,
primarily related to the settlement of litigation with Nanogen, a decrease in
legal, accounting and other professional fees related to Acacia Research
Corporation's recapitalization and merger transactions completed in December
2002 of $2.0 million, a decrease in marketing and sales personnel costs,
primarily for the CombiMatrix group, and general and administrative personnel
38
costs for both groups of $1.2 million and a decrease in other general and
administrative costs of $578,000. This decrease was partially offset by an
increase in the CombiMatrix group's rent and utilities expenses of $473,000, as
a result of the increase in occupancy of its corporate headquarters in Mukilteo,
Washington during 2003, and an increase in costs related to the Acacia
Technologies group's ongoing DMT patent infringementcommercialization and enforcement
efforts of $219,000, including increased consulting and engineering costs
related to new patent claims, enforcement and the identification of additional
potential licensees of our DMT technology.
LEGAL EXPENSE - PATENTS (ACACIA TECHNOLOGIES GROUP ONLY). Patent related
legal expenses in 2004 included $668,000 in deferred V-chip related legal fees
recognized as a result of the conclusion of V-chip related litigation broughtin August
2004, as described at Item 3. "Legal Proceedings." The Acacia Technologies
group's patent related legal expenses, excluding V-chip related legal fees,
increased to $2.5 million during 2004, as compared to $1.9 million, and $1.4
million in the comparable 2003 and 2002 periods, due to an increase in costs
incurred in connection with the Acacia Technologies group's ongoing DMT patent
commercialization and enforcement programs, including increased legal costs
related to new patent claims and the identification of additional potential
licensees of our DMT technology and increased patent enforcement costs related
to ongoing DMT patent related litigation. See Item 3. "Legal Proceedings" for a
description of ongoing DMT related litigation. We expect patent related legal
expenses to continue to fluctuate based on actual outside patent counsel fees
incurred in connection with the Acacia Technologies group's ongoing DMT and
other patent commercialization and enforcement programs. DMT related legal fees
to outside attorneys are charged based on actual time and out-of-pocket expenses
incurred by Soundview Technologiesexternal counsel and includesare not incurred on a contingent fee basis.
In connection with the January 2005 acquisition as described above, we
acquired 27 additional patent portfolios. Although most litigation with respect
to those portfolios is likely to be handled on a contingency basis where
attorneys fees are paid out of license fee amounts
received from elevenrevenues collected, certain other
costs and expenses in connection with our maintenance, licensing, and
enforcement of patents are likely to increase as a result of the twelve television manufacturersacquisition
including patent filing fees, patent development costs, travel costs, expert and
consulting fees, and other third-party expenses.
LEGAL SETTLEMENT CHARGES. In 2002, in connection with whom we have
executed separatethe September 2002
settlement and/or license agreements during 2001agreement between CombiMatrix Corporation, Dr. Donald Montgomery, and
2000.
PursuantNanogen (see Note 13 to the termsAcacia Research Corporation consolidated financial
statements included elsewhere herein), the CombiMatrix group expensed a $1.0
million payment to Nanogen and recorded a non-cash charge in the amount of $17.5
million related to the fair value of CombiMatrix Corporation common shares
issued to Nanogen. In addition, the CombiMatrix group recorded a net non-cash
charge totaling $812,000 during 2004, which reflects the fair value of
AR-CombiMatrix common stock issued and potentially issuable to Nanogen, Inc.
during the period in connection with certain anti-dilution provisions of the
settlement agreement. Periodic charges and the related liability are estimated
based on the number of shares issuable and or potentially issuable and the
AR-CombiMatrix stock price at the end of the respective settlement and license agreements with
eachreporting period. The
anti-dilution provisions of the television manufacturers, Soundview Technologies granted to such
manufacturers, non-exclusive licenses for its U.S. Patent No. 4,554,584.
GRANT REVENUE. In 2001, grant revenue was $0.5 million as compared to
$0.02 millionsettlement agreement expire in grant revenueSeptember 2005.
NON-CASH STOCK COMPENSATION AMORTIZATION (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Non-cash stock compensation amortization:
Research and development ............................ $ 91 $ 466 $ 1,868
Marketing, general and administrative ............... 663 1,189 4,559
The decrease in 2000. The increase in grant revenue during
2001 resulted from CombiMatrix's continuing performance under its Phase II Small
Business Innovative Research Department of Defense contract.
RESEARCH AND DEVELOPMENT EXPENSES. In 2001, research and development
expense was $18.8 million, all of which related tothe CombiMatrix as compared to
$11.9 million in 2000, of which $9.3 million related to CombiMatrix. The
increase in research and development expense for 2001 as compared to the same
period in 2000group's non-cash stock compensation
amortization was primarily due to a general expansionthe accelerated method of CombiMatrix's
research and development activities, including an increasestock compensation
amortization utilized, which results in personnel andhigher amounts of suppliesamortization in the
earlier vesting periods and materials used, an increase in CombiMatrix's non-cash
stock compensation charges included in research and development expense,
increased costs related to efforts to further develop and enhance its microarray
technology and increased costs related to significant engineering efforts
undertaken to productize its technology. Most of these efforts were driven by
CombiMatrix's obligations under the license and supply agreement with Roche,
executed in July 2001. These projects include development of production
microarray synthesis techniques, as well as higher density microarrays. These
projects are expected to continue into 2002 and 2003, as determined by the
timelines outlined in CombiMatrix's agreements with Roche.
In 2001, research and development expense included non-cash stock
compensation charges, all of which related to CombiMatrix, totaling $7.2
million. Non-cash stock compensation charges for 2001 are net of $0.8 millionimpact of non-cash stock compensation expense
reversalreversals related to the forfeiture of certain unvested stock options during the
third and fourth quarters of 2001. In
2000, research and development expense for non-cash stock compensation was $3.4
million.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. We incurred marketing,
general and administrative expenses of $46.3 million ($27.7 million related to
CombiMatrix) in 2001, compared to $22.1 million ($11.2 million related to
CombiMatrix) in 2000. The increase in marketing, general and administrative
expenses for 2001 as compared to the same period in 2000 was primarily due to an
increase in non-cash stock compensation charges, the continued expansion of
CombiMatrix's operations including an increase in salaries and benefits due to
an increase in the number of CombiMatrix personnel, an increase in personnel
recruitment and relocation expenses, an increase in rent and utilities expenses
relating to CombiMatrix's move to larger office facilities during the first
quarter of 2001, the write-off of $1.4 million of deferred initial public
offering costs in the fourth quarter of 2001 by CombiMatrix and an increase in
legal fees related to Soundview Technologies' patent licensing and related
infringement settlements.
Marketing, general and administrative expenses included $13.6 million
($12.8 million related to CombiMatrix) and $7.3 million ($6.5 million related to
CombiMatrix) of non-cash stock compensation charges for 2001 and 2000,
21
respectively. Marketing, general and administrative non-cash stock compensation
charges for 2001 are net of $3.9 million of non-cashrespective periods. Non-cash stock compensation expense reversal related to the forfeiture of certain unvested stock options during the
thirdreversals totaled
$185,000 in 2004 and fourth quarters of 2001.
AMORTIZATION OF PATENTS AND GOODWILL. In 2001, amortization expense
relating to patents and goodwill was $2.7 million as compared to $2.3$1.2 million in 2000. Asboth 2003 and 2002. Non-cash deferred stock
compensation amounts were fully amortized as of December 31, 2004.
IMPAIRMENT CHARGES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Goodwill impairment charge ............................ $ (1,656) $ - $ -
Impairment of cost method investment .................. - (207) (2,748)
39
GOODWILL IMPAIRMENT CHARGE. In August 2004, as a result of the increaseadverse
ruling in our ownership interestthe Soundview Technologies litigation described at Item 3. "Legal
Proceedings," the Acacia Technologies group recorded a non-cash impairment
charge, included in Acacia Media
Technologies from 33% tooperating expenses, totaling $1.6 million associated with
the write-down of 100% through the purchase of the ownership interestgoodwill related to the V-chip.
IMPAIRMENT OF COST METHOD INVESTMENT. In 2003, we recorded an impairment
charge of Acacia Media Technologies' other member$207,000 for an other-than-temporary decline in November 2001,the fair value of our
cost method investment. Impairment indicators included a continued decline in
the working capital of the entity and reference to a recent equity transaction
and related valuation indicating an other-than-temporary decline in fair value
of the investment. In 2002, we recorded an impairment charge of $2.7 million for
an other-than-temporary decline in the fair value of the same cost method
investment. Impairment indicators included recurring losses, a decline in
working capital and the purchasecompletion of additionala recent equity intereststransaction at an amount
below our carrying value.
AMORTIZATION OF PATENTS (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Amortization of patents ............................... $ 1,597 $ 1,597 $ 1,990
The decrease in CombiMatrix in July 2000, we incurred additional
amortization expense in 20012003, as compared to 2000 relating2002, was due to a reduction in patent
amortization expense due to V-chip technology related patent costs and other
intangibles that were fully amortized during 2002. With the acquisition of the
assets of Global Patent Holdings, as described above, we expect that a
significant portion of the approximated $25.0 million purchase price will be
allocated to the intangible
assets acquired. See "Recent Accounting Pronouncements" for summarypatents acquired, which will be amortized over the estimated
economic useful lives of pronouncements affectingthe respective patents, resulting in increased
amortization of goodwillcharges in 2005 and future periods. LOSS ON DISPOSAL OF CONSOLIDATED SUBSIDIARIES. In 2001, loss on
disposal ofSee Note 15 to the Acacia
Research Corporation consolidated subsidiaries was zero as compared to $1.0 millionfinancial statements for additional
information.
REALIZED AND UNREALIZED GAINS/LOSSES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Realized gains (losses) on short-term investments ..... - 94 (1,184)
Unrealized losses on short-term investments ........... - - (249)
The decrease in 2000. In the fourth quarter of 2000, we recorded $1.0 million in write-offs of
early stage investments.
OTHER INCOME (EXPENSE), NET. In 2001, other income, net (primarily
comprised of interest income,Acacia Technologies group's realized and unrealized
gains and gains/losses on
trading securities, equity in losses of affiliates and other) was $4.2 million
as compared to $1.2 million in net other expense in 2000.
INTEREST INCOME. In 2001, interest income was $3.8 million as
compared to $3.1 million in 2000. The increase in interest income during 2001
was due to higher cash balances during 2001 as compared to 2000, resulting from
various private equity financings and the receipt of significant license fee
payments by Soundview Technologies during the year. The increase in interest
income for 2001 was partially offset by the impact of a decrease in interest
rates on our short-term investments related to sharp interest rate cuts by the
Federal Open Market Committee and other external economic factors negatively
impacting rates of return on short-term investments occurring during the third
and fourth quarters of 2001.
REALIZED GAINS ON SHORT-TERM INVESTMENTS. In 2001, net realized
gains on short-term investments was $0.4 million as compareddue to no realized
gains on short-term investments in 2000. The increase in realized gains on
short-term investments during 2001 was due to realized gains recorded on our
short-term investments classified as
trading securities held during 2001.
UNREALIZED GAINS ON SHORT-TERM INVESTMENTS. In2004 and 2003 and the sale of the balance the
Acacia Technologies group's trading securities during 2002.
INCOME TAXES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Benefit for income taxes .............................. $ 275 $ 273 $ 857
The 2004, 2003 and 2002 income tax benefits primarily reflect the impact of
the reversal of deferred tax liabilities related to the amortization of
identifiable intangible assets related to certain of Acacia Research
Corporation's step acquisitions in 2002, 2001 net
unrealized gains were $0.2 million as compared to no unrealized gainsand 2000. $569,000 of the 2002
income tax benefit also reflects the impact of differences between the 2001
income tax provision and Acacia Research Corporation's final 2001 consolidated
tax return filed in 2000.September 2002, and is the result of additional deductions
against Soundview Technologies taxable income.
MINORITY INTERESTS (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Minority interests .................................... $ 6 $ 47 $ 23,806
The increasedecrease is due to our investmentAcacia Research Corporation's acquisition of the
remaining ownership interests in equity securities during 2001
classified as trading securities under SFAS No. 115, "Accounting for Certain
Investments in DebtSoundview and Equity Securities" ("SFAS No. 115"). Pursuant to SFAS
No. 115, unrealized gains and losses on trading securities are recorded in the
consolidated statement of operations. In 2000, all of our short-term investments
were classified as available-for-sale, and pursuant to SFAS No. 115, unrealized
gains and losses were recorded as a separate component of comprehensive income
(loss) in stockholders' equity until realized.
EQUITY IN LOSSES OF AFFILIATES. In 2001, equity in losses of
affiliates was $0.2 million as compared to $1.7 million in 2000. Losses during
2001 were comprised of a loss of $0.2 million for our investment in Acacia Media Technologies as determined byin
2001, CombiMatrix Corporation in December 2002, and CombiMatrix K.K. in July
2003 and approximately 99% of the equity method of accounting through November
1, 2001. We increased ourremaining ownership percentage in Acacia Media Technologies to
100% on November 1, 2001. Losses during 2000 were comprised of a loss of $0.3
million for our investment in Signature-mail.com, a loss of $0.2 million for our
investment in Acacia Media Technologies, a loss of $0.1 million for our
investment in Whitewing Labs and a loss of $1.1 for our investment in
Mediaconnex, as determined by the equity method of accounting. We wrote-off our
equity investments in Signature-mail.com, Whitewing Labs Mediaconnex, as of
December 31, 2000.
MINORITY INTERESTS. Minority interests in the losses of consolidated
subsidiaries increased to $17.5 million in 2001 as compared to $9.2 million in
2000. The increase in minority interests in 2001 was primarily due to the
increase in losses incurred by CombiMatrix as a result of increased non-cash
stock compensation amortization charges, its continued expansion of research and
development efforts and increased marketing, general and administrative
expenses. The increase in 2001 minority interests resulting from CombiMatrix's
increased losses was partially offset by minority interests in the income of
Soundview Technologies from January through June 2001. We increased our
ownership percentage in Soundview Technologies to 100% in June 2001.
PROVISION (BENEFIT) FOR INCOME TAXES. In 2001, the provision for income
taxes was $0.8 million as compared to a benefit of $0.07 million in 2000. The
increase in the provision for income taxes in 2001 was primarily due to a
significant increase in taxable income generated by Soundview Technologies
related to its patent infringement settlement and patent licensing activities as
compared to the 2000 period.
22
DISCONTINUED OPERATIONS. On February 13, 2001, the board of directors
of Soundbreak.com resolved to cease operations as of February 15, 2001 and
liquidate the remaining assets and liabilities of the company. Accordingly, we
reported the results of operations and the estimated loss on disposal of
Soundbreak.com as results of discontinued operations in our 2000 consolidated
statements of operations and comprehensive loss. Discontinued operations of
Soundbreak.com included $7.4 million of loss from discontinued operations in
2000 and $2.1 million of accrued expenses in connection with its cessation of
operations.
2000 COMPARED TO 1999
NET REVENUE. In 2000, net revenue was $0.06 million as compared to $0.3
million in 1999. The decrease in net revenues was primarily due to an increase
of $0.04 million in advertising revenues, offset by a decrease of $0.1 million
in CombiMatrix revenue from federal grants, and a decrease of $0.1 million in
capital management fees due to the closure in 1999 of Acacia Research Capital
Management division, which was the general partner in two domestic private
investment partnerships and an investment advisor to two offshore private
investment corporations. During 2000, grant revenue was $0.02 million as
compared to $0.1 million in grant revenue during 1999. The grant revenue
resulted from CombiMatrix's award of two grantsAdvanced
Material Sciences in July 1999 for Phase I SBIR
from the Department of Energy and the Department of Defense and a Phase II SBIR
Department of Defense contract for the use of its biochip technology to develop
nanode array sensor microchips in January 2000. No capital management fee
income, which includes performance fee income, was earned during 2000 compared
to $0.1 million during 1999 due to the closure of the Acacia Research Capital
Management division on December 31, 1999. Costs associated with exiting this
business were not material.
RESEARCH AND DEVELOPMENT EXPENSES. We incurred research and development
expenses of $11.9 million in 2000 as compared to $1.8 million in 1999. Research
and development expenses for 2000 are comprised of costs primarily incurred by
CombiMatrix, which increased to $9.3 million from $2.4 million in 1999. This
increase was due to an increase in the number of CombiMatrix personnel and
larger laboratory facilities to accommodate the expansion of its research and
development efforts focused on developing and improving microarray synthesis
techniques. In addition, $2.5 million of acquired in-process research and
development expense was charged to income related to our acquisition of an
additional ownership position from existing CombiMatrix stockholders in July
2000.
In 2000, research and development expenses for non-cash stock
compensation (including warrants), all of which related to CombiMatrix, totaled
$3.4 million. In 1999, research and development expenses for non-cash stock
compensation were not material.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. We incurred marketing,
general and administrative expenses of $22.1 million in 2000, compared to
expenses of $4.4 million in 1999. The increase in marketing, general and
administrative expenses in 2000 was primarily due to general expansion of our
operations, including an increase in business development expenses as we
explored new business opportunities, the extensive use of consultants to assist
in solving specialized issues or providing specific services, an increase in
facilities costs due to the expansion of our office facilities and increased
personnel and payroll expenses. In 2000, CombiMatrix relocated from Burlingame,
California to Mukilteo, Washington. This relocation was completed during the
third quarter, and related costs of $0.8 million were incurred in 2000 in
connection with the relocation.
Marketing, general and administrative expenses included $7.3 million
($6.5 million related to CombiMatrix) and $0.2 million of non-cash stock
compensation charges for 2000 and 1999, respectively.
AMORTIZATION OF PATENTS AND GOODWILL. In 2000, amortization expenses
relating to patents and goodwill were $2.3 million as compared to $1.6 million
in 1999. As a result of our purchase of additional equity interests in Soundview
Technologies in July 1997 and January 1998, in MerkWerks in January 1998 and
June 1999 and in CombiMatrix in July 2000, we are incurring increased
amortization expenses each quarter for periods ranging from three to five years
relating to the intangible assets acquired.
LOSS ON DISPOSAL OF CONSOLIDATED SUBSIDIARIES. In 2000, loss on
disposal of consolidated subsidiaries was $1.0 million as compared to zero in
1999. In the fourth quarter of 2000, we recorded $1.0 million in write-offs of
early stage investments.
OTHER EXPENSE, NET. In 2000, other expense, net (primarily comprised of
interest income, write-off of equity investments, equity in losses of affiliates
and other) totaled $1.2 million as compared to other expense, net of $1.0
23
million in 1999. The increase in other expense, net in 2000 was primarily due to
$2.6 million of write-offs of equity investments in Signaturemail.com, Whitewing
Labs and Mediaconnex, and an increase in equity in losses of affiliates,
partially offset by an increase in interest income in 2000.
INTEREST INCOME. In 2000, interest income was $3.1 million as
compared $0.3 million in 1999. The increase was due to higher cash balances in
2000 as compared to 1999. We received $64.5 million in cash from outside
investors in connection with our warrant call and private equity financings for
Acacia and CombiMatrix in 2000.
INTEREST EXPENSE. In 2000, we reported no interest expense as
compared to $0.3 million in 1999. The expense incurred in 1999 was primarily
attributable to CombiMatrix and relates to three-year 6% unsecured subordinated
promissory notes issued by CombiMatrix in a private offering completed in March
1998. Warrants to purchase CombiMatrix common stock were also issued in this
private placement. During the fourth quarter of 1999, CombiMatrix offered
holders of the unsecured subordinated notes the opportunity to convert their
outstanding principal balance into CombiMatrix common stock and all noteholders
had converted as of December 1999.
EQUITY IN LOSSES OF AFFILIATES. In 2000, equity in losses of
affiliates was $1.7 million as compared to $1.1 million in 1999. In 2000, losses
were primarily attributable to a loss of $1.1 million for our investment in
Mediaconnex. This amount was offset by a decrease in the recognized losses for
Whitewing Labs, Acacia Media Technologies and Signature-mail.com totaling $0.6
million in 2000 as compared to $1.1 million in 1999.
MINORITY INTERESTS. In 2000, minority interests in the losses of
consolidated subsidiaries was $9.2 million as compared to $1.2 million in 1999.
The increase in minority interests in 2000 was primarily due to the increase in
losses incurred by CombiMatrix as a result of its continued expansion of
research and development efforts, an increase in non-cash stock compensation
charges and increased marketing, general and administrative expenses.
DISCONTINUED OPERATIONS. On February 13, 2001, the board of directors
of Soundbreak.com resolved to cease operations as of February 15, 2001 and
liquidate the remaining assets and liabilities of the company. Accordingly, we
reported the results of operations and the estimated loss on disposal of
Soundbreak.com as results of discontinued operations in the consolidated
statements of operations and comprehensive loss in 2000. Discontinued operations
of Soundbreak.com included $7.4 million of loss from discontinued operations in
2000 and $2.1 million of accrued expenses to be incurred in connection with its
cessation of operations. Operating results in 1999 were restated to present
Soundbreak.com as discontinued operations resulting in a loss from discontinued
operations of $0.8 million in 1999.2003.
INFLATION
Inflation has not had a significant impact on Acacia.Acacia Research Corporation
in the current or prior periods.
40
LIQUIDITY AND CAPITAL RESOURCES
Acacia Research Corporation's consolidated cash and cash equivalents along
with short-term investments totaled $52.4 million at December 31, 2004, compared
to $50.5 million at December 31, 2003. Working capital at December 31, 2004 was
$49.2 million, compared to $31.1 million at December 31, 2003. At December 31,
2001, we had2003 working capital included $17.7 million in deferred revenues primarily
related to the CombiMatrix group's agreements with Roche and Toppan, which are
not subject to any refund or repayment obligations and do not represent payment
obligations of Acacia Research Corporation. The increase in working capital in
2004 was due primarily to the recognition of $17.3 million in deferred Roche
related contract revenues in the first quarter of 2004 and the impact of net
cash flow activities as discussed below.
The changes in cash and cash equivalents for 2004, 2003 and 2002 were
comprised of the following (in thousands):
YEAR ENDED DECEMBER 31, 2004 YEAR ENDED DECEMBER 31, 2003
------------------------------------------ ------------------------------------------
ACACIA ACACIA
TECHNOLOGIES COMBIMATRIX TECHNOLOGIES COMBIMATRIX
GROUP GROUP CONSOLIDATED GROUP GROUP CONSOLIDATED
----------- ----------- ------------ ----------- ----------- ------------
Net cash provided by (used in) continuing
operations:
Operating activities ..................... $ (3,232) $ (11,584) $ (14,816) $ (5,264) $ (3,910) $ (9,174)
Investing activities ..................... (180) (8,448) (8,628) (5,062) (1,996) (7,058)
Financing activities ..................... (305) 19,227 18,922 (417) 6,435 6,018
Effect of exchange rate on cash ............ - (17) (17) - (13) (13)
Net cash used in discontinued operations ... (925) - (925) (907) - (907)
----------- ----------- ----------- ----------- ----------- -----------
Increase (decrease) in cash and cash
equivalents ............................... $ (4,642) $ (822) $ (5,464) $ (11,650) $ 516 $ (11,134)
=========== =========== =========== =========== =========== ===========
YEAR ENDED DECEMBER 31, 2002
------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP CONSOLIDATED
----------- ----------- ------------
Net cash provided by (used in) continuing
operations:
Operating activities ..................... $ (3,519) $ (16,142) $ (19,661)
Investing activities ..................... (8,342) 7,567 (775)
Financing activities ..................... (2,048) (818) (2,866)
Effect of exchange rate on cash ............ - 92 92
Net cash used in discontinued operations ... (908) - (908)
----------- ----------- -----------
Increase (decrease) in cash and cash
equivalents ............................... $ (14,817) $ (9,301) $ (24,118)
=========== =========== ===========
The increase in net cash outflows from operations for the CombiMatrix group
in 2004, as compared to 2003, was primarily due to a decrease in operating cash
receipts from customers, which totaled $3.0 million in 2004, comprised of $1.7
million from the Department of Defense, $1.0 million from Furuno and $265,000
from the sale of array products and related services, compared to $12.8 million
in the comparable 2003 period, consisting primarily of $9.8 million related to
the completion of certain milestones and delivery of prototype products and
services pursuant to its agreements with Roche and an up-front payment of $1.0
million and a $1.4 million milestone payment pursuant to its agreement with
Toppan. The decrease in payments from customers was partially offset by the
decrease in the CombiMatrix group's operating expenses and the impact of the
timing of the receipt of payments from customers and payments to vendors. The
change in net cash outflows from operations for the Acacia Technologies group
was primarily due to an increase in DMT license fee payments received from
licensees which totaled $3.1 million in 2004, as compared to $665,000, in 2003,
which was partially offset by the increase in marketing, general and
administrative and patent related research, commercialization and legal expenses
and the impact of the timing of vendor payments.
The decrease in net cash outflows from operations in 2003, as compared to
2002, was primarily attributable to the reduction in research and development
expenses incurred by the CombiMatrix group and the decrease in consolidated
marketing, general and administrative expenses, which were partially offset by
the impact of the timing of vendor payments. The change was also due to an
increase in operating cash receipts during 2003 from Roche and Toppan, as
discussed above. Toppan related cash payments are included in deferred revenues
at December 31, 2004 and 2003. In 2002, the operating cash receipts were
primarily from Roche, totaling $11.6 million.
The change in net cash flows used in investing activities was due primarily
to Acacia Research Corporation's ongoing short-term cash management activities
and changes in short term investments in connection with certain financing
activities discussed below. Fixed asset purchases were $891,000, $86,000 and
$1.1 million in 2004, 2003 and 2002, respectively.
The change in net cash flows provided by financing activities in 2004, as
compared to 2003, was due to the completion of $84.6an equity financing which raised
net proceeds of approximately $13.7 million through the sale of Acacia Research
- - CombiMatrix common stock during 2004, compared to equity financing net
proceeds of $4.9 million during the comparable 2003 period. Financing activities
in 2004 also included proceeds, primarily from the exercise of Acacia Research -
CombiMatrix common stock warrants and stock options, totaling $5.2 million,
compared to $1.1 million in the comparable 2003 period. Net proceeds from the
sale of Acacia Research-CombiMatrix common stock, or AR-CombiMatrix stock, were
attributed to the CombiMatrix group. Cash used in financing activities in 2002
was comprised primarily of payments on a consolidated basis, including discontinued operations,the CombiMatrix group's capital lease
obligation totaling $2.8 million (the capital lease obligation was paid in full
in November 2002) and net capital distributions to minority shareholders of
subsidiaries of $318,000, which were partially offset by proceeds from stock
option exercises of $242,000.
In February 2005, Acacia Research Corporation had $44.2 million. Working capital was $72.4 million
on a consolidated basis at December 31, 2001. Highlights of the financing and
commitment activities for the year ended December 31, 2001 include the
following:
o In January 2001, we completed an institutional private equity financing
raisingraised gross proceeds of
$19.0$19.6 million through the issuancesale of 1,107,274 units. Each unit consists of one share of our common stock
and one three-year callable common stock purchase warrant. Each common
stock purchase warrant entitles the holder to purchase 1.103,500,000 shares of ourAcacia Research - Acacia
Technologies common stock at a price of $19.09$5.60 per share and is callable by us
oncein a registered direct
offering. Net proceeds raised of approximately $19.58 million, which are net of
related issuance costs, were attributed to the closing bid priceAcacia Technologies group. All of
ourthe shares of Acacia Research-Acacia Technologies common stock averages $23.86 or above
for 20 or more consecutive trading days on the NASDAQ National Market
System. We issuedwere offered
pursuant to an additional 20,000 units in lieu of cash payments
for finders' fees in conjunctioneffective shelf registration statement previously filed with the
private placement.
o In May 2001, Advanced Material Sciences completed a private equity
financing raising grossSecurities and Exchange Commission. Total maximum proceeds of $2.0the shelf
registration are $50 million, through the issuance
of 2,000,000 shares of common stock. Advanced Material Sciences issued
an additional 29,750 shares of common stock, in lieu of cash payments,
and warrants to purchase approximately 54,000 shares of common stock,
for finders' fees in connection with the private placement. Each common
stock purchase warrant entitles the holder to purchase shares of
Advanced Material Sciences common stock at a price of $1.10 per share.
o In September 2001, CombiMatrix entered into a sale and leaseback
arrangement with a bank, providing up to $7.0which $15.4 million in financing for
equipment and other capital purchases. Pursuantremains available
subsequent to the terms of the
24February 2005 direct offering described above.
41
agreement, certain equipment and leasehold improvements, totaling $2.6
million in net book value, were sold to the bank at a purchase price of
$3.0 million resulting in a deferred gain on the sale of assets of $0.4
million. In addition, CombiMatrix entered into a capital lease
arrangement to lease the fixed assets from the bank. The capital lease
agreement provides CombiMatrix with the option to purchase the
equipment for a nominal amount at the end of the lease term, which
expires in September 2004.
o In October 2001, CombiMatrix formed a joint venture with Marubeni
Japan, one of Japan's leading trading companies. The joint venture,
based in Tokyo, will focus on development and licensing opportunities
for CombiMatrix's biochip technology with pharmaceutical and
biotechnology companies in the Japanese market. Marubeni made an
investment of $1.0 million to acquire a ten percent (10%) minority
interest in the joint venture.
Net cash used in continuing operating activities was $10.4 million in
2001. Cash used for continuing operations is primarily due to a loss from
continuing operations of $22.3 million, increased by minority interests of $17.5
million and the purchase of trading securities of $4.1 million, partially offset
by non-cash expenses including depreciation, amortization and compensation
expense relating to stock options and warrants in the amount of $24.7 million,
and license fee, up-front and milestone payments received and recorded as
deferred revenues at December 31, 2001 totaling $7.5 million. In 2001, we had an
additional $2.2 million of net cash used in operating activities of discontinued
operations.
Our net cash provided by investing activities of continuing operations
was $13.0 million in 2001. Significant investing activities include a net sale
of short-term investments classified as available-for-sale of $19.6 million, net
of purchases of common stock from minority stockholders of subsidiaries totaling
$2.6 million and purchases of additional equity in consolidated subsidiaries
totaling $3.3 million. We had an additional $0.2 million used in investing
activities of discontinued operations.
Our net cash provided by financing activities was $23.2 million in
2001. Cash provided by financing activities in 2001 was primarily due to $18.3
million of net proceeds from an institutional private equity financing in
January 2001, capital contributions from minority stockholders of subsidiaries
totaling $3.3 million and proceeds from the exercise of stock options and
warrants totaling $1.8 million.
Warrants issued by us in connection with our private placement
completed in January 2001 contain call and redemption provisions should the
closing bid price of our common stock exceed $23.86 per share for 20 or more
consecutive trading days. The exercise price per share for the common stock
underlying the warrants is $19.09. In the event the requirements to call the
warrants are satisfied, we may call such warrants and we expect most, if not
all, of the holders to exercise such warrants in response. There can be no
assurance that the closing bid price of our common stock will exceed all such
thresholds or that, if it does, we will decide to call the warrants.
We have sustained losses since our inception contributing to an accumulated
deficit of $100.0$188.2 million on a consolidated basis, which includes operatingnet losses of
$43.2$4.8 million, $24.4 million and $37.2$59.0 million 2004, 2003 and 2002, respectively.
Net losses include significant non-cash acquired in-process research and
development, litigation and stock compensation charges as reflected in 2001the
accompanying Acacia Research Corporation consolidated results of operations data
for 2004, 2003 and 2000,
respectively.2002. The consolidated accumulated deficit of $100.0 million also
includes ana
non-cash increase related to a reclassification of accumulated deficit in the
amount of $21.7 million to permanent capital representing the fair value of the
ten percent (10%) stock dividend distributed to stockholders in 2001.
There can be no assurance that we will become profitable. If we do, we may
never be able to sustain profitability. We expect to incur significant losses for the
foreseeable future. We are making effortscontinue to reduceclosely monitor and manage operating expenses
and capital expenditures and may take steps to raise additional capital.
Generally,Management believes that our subsidiary companies have relied primarily upon sellingcash and cash equivalent balances, including
the net proceeds of the February 2005 equity securities, including salesfinancing and related availability
under the shelf registration statement described above, anticipated cash flow
from operations and other external sources of available credit, will be
sufficient to and loans from us, to generate the funds
needed to finance implementation of their plans of operations. In 2001, we began
to receive significant payments frommeet our media technology licensing arrangements
and from our life sciences strategic partners and licensees. However, we may be
required to obtain additional financingcash requirements through bank borrowings, debt or equity
financings or otherwise, which would require us to make additional investments
or face a dilution of our equity interests.
We have no significant commitments for capital expenditures in 2001.
Our minimum rental commitments on operating leases related to continuing
operations total $8.6 million through December 2006. We have no committed lines
of credit or other significant committed funding. However, we anticipate that
existing working capital reserves will provide sufficient funds for our
operating expenses for at least the next twelve
months in the absence of making
any major new investments. We intend to seek additional financing to fund new or
existing businesses.months. There can be no assurances that we will not encounter unforeseen
difficulties that may deplete our capital resources more rapidly than
anticipated. Any efforts to seek additional funding could be made through
25
equity, debt or other external financing and there can be no assurance that
additional funding will be available on favorable terms, if at all. Such
financing transactions may be dilutive to existing investors. If we fail
to obtain additional funding when needed, we may not be able to execute our
business plans and our business may suffer. See the CombiMatrix group and the
Acacia Technologies group discussion and analysis for additional factors
impacting the adequacy of our available funds.
OFF-BALANCE SHEET ARRANGEMENTS
We have not entered into off-balance sheet financing arrangements, other
than operating leases. We have no significant commitments for capital
expenditures in 2005. Other than as set forth below, we have no committed lines
of credit or other committed funding or long-term debt. The following table
lists Acacia Research Corporation's material known future cash commitments as of
December 31, 2004, and any material known commitments arising from events
subsequent to year end:
PAYMENTS DUE BY PERIOD (IN THOUSANDS)
--------------------------------------------------------------
2009 AND
CONTRACTUAL OBLIGATIONS 2005 2006 2007 2008 THEREAFTER
---------- ---------- ---------- ---------- ----------
Operating Leases .............................. $ 2,271 $ 2,226 $ 1,986 $ 1,615 $ -
Minimum Royalty Payments(1) ................... 100 100 100 100 1,000
irsiCaixa Foundation research, development,
and licensing agreement(3) ................. 125 175 100 - -
Leuchemix equity purchases(2) ................. 1,600 2,150 - - -
Consulting contract(4) ........................ 974 1,074 99 - -
---------- ---------- ---------- ---------- ----------
Total Contractual Cash Obligations ............ $ 5,070 $ 5,725 $ 2,285 $ 1,715 $ 1,000
========== ========== ========== ========== ==========
- ----------
(1) Refer to Note 13 to the Acacia Research Corporation consolidated financial
statements for a description of the September 30, 2002 settlement agreement
between CombiMatrix Corporation and Dr. Donald Montgomery and Nanogen.
(2) See Note 6 to the Acacia Research Corporation consolidated financial
statements included elsewhere herein for additional information regarding
the October 2004 Leuchemix transaction.
(3) Excludes any potential future payments contingent upon the completion of
certain milestones in accordance with the agreement.
(4) Reflects $2.0 million consulting contract commitment, including
reimbursable expenses, to be paid over two years in connection with the
Acacia Technologies group's purchase of the assets of Global Patent
Holdings, LLC in January 2005, as described above.
In connection with the purchase of the outstanding ownership interests in
Acacia Media Technologies in November 2001, Acacia Media Technologies also
executed related assignment agreements which granted to the former owners of
Acacia Media Technologies' current patent portfolio the right to receive a
royalty of 15% of future net revenues, as defined in the agreements, generated
by Acacia Media Technologies' current patent portfolio, which includes its DMT
patents. No royalty obligation has been incurred as of December 31, 2004. Any
royalties paid pursuant to the agreements will be expensed in the consolidated
statement of operations.
42
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001,Refer to Note 2 to the FASB issued SFAS No. 141, "Business Combinations"
("SFAS No. 141"), and SFAS No. 142, "Goodwill and Other Intangible Assets"
("SFAS No. 142"). SFAS No. 141 requires that the purchase method be used for all
business combinations initiated after June 30, 2001 and that certain intangible
assets acquired in a business combination be recognized apart from goodwill. We
believe that the adoption of SFAS No. 141 will not have a material effect on our
consolidated results of operations or financial position.
SFAS No. 142 requires goodwill to be tested for impairment under
certain circumstances, and written off when determined to be impaired, rather
than being amortized as previous standards required. We will adopt SFAS No. 142
effective January 1, 2002. We have recorded approximately $1.1 million of
goodwill amortization during 2001. As a result of SFAS No. 142, we will no
longer amortize goodwill. In lieu of amortization, we are required to perform an
initial impairment review of our goodwill in 2002 and an annual impairment
review thereafter. We expect to complete our initial review during the first
quarter of 2002. We currently do not expect to record an impairment charge upon
completion of the initial impairment review. However, there can be no assurance
that at the time the review is completed a material impairment charge will not
be recorded.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"), which addresses
financial accounting and reporting for the impairment of long-lived assets and
for long-lived assets to be disposed of. SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of." SFAS No. 144 also supersedes the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for segments of a
business to be disposed of. SFAS No. 144 also amends ARB No. 51, "Consolidated
Financial Statements," to eliminate the exception to consolidation for a
temporarily controlled subsidiary. SFAS No. 144 requires long-lived assets to be
tested for recoverability whenever events or changes in circumstances indicate
that its carrying amount may not be recoverable. In conjunction with such tests,
it may be necessary to review depreciation estimates and methods as required by
APB No. 20, "Accounting Changes," or the amortization period as required by SFAS
No. 142. We will adopt SFAS No. 144 effective January 1, 2002. We are currently
assessing the impact of SFAS No. 144 on our operating results and financial
condition upon adoption.
CHANGE IN ACCOUNTING POLICY
Effective January 1, 2001, we changed our accounting policy for balance
sheet classification of employee stock-based compensation resulting from awards
in consolidated subsidiaries. Historically, theAcacia Research Corporation consolidated financial
statements have accounted for cumulative earned employee stock-based
compensation related to subsidiaries as a liability, under the caption "accrued
stock compensation." Management believes a change to reflect these cumulative
charges as minority interests is preferable as it better reflects the underlying
economics of the stock-based compensation transaction. As a result of the
change, effective January 1, 2001, minority interests has been increased by
$10.4 million, and accrued stock compensation of $10.4 million has been
decreased. The change in accounting policy does not affect previously reported
consolidated net income.
26
RISK FACTORS
BECAUSE OUR BUSINESS OPERATIONS ARE SUBJECT TO MANY INHERENT AND UNCONTROLLABLE
RISKS, WE MAY NOT SUCCEED.
We have significant economic interests in our subsidiary companies. Our
business operations are subject to numerous risks, challenges, expenses and
uncertainties inherent in the establishment of new business enterprises. Many of
these risks and challenges are subject to outside influences over which we have
no control, including:
o our subsidiary companies' products and services face uncertain market
acceptance;
o technological advances may make our subsidiary companies' products and
services obsolete or less competitive;
o competition;
o increases in operating costs, including costs for supplies, personnel
and equipment;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that excessively restricts our subsidiary
companies' businesses.
We cannot assure you that our subsidiary companies will be able to
market any product or service on a commercial scale, that our subsidiary
companies will ever achieve or maintain profitable operations or that they, or
we, will be able to remain in business.
BECAUSE OF THE RISKS INHERENT IN INVESTING IN EMERGING COMPANIES, INCLUDING THE
LACK OF OPERATING HISTORIES AND UNPROVEN TECHNOLOGIES AND PRODUCTS, WE MAY INCUR
SUBSTANTIAL LOSSES.
Investing in emerging companies carries a high degree of risk,
including difficulties in selecting ventures with viable business plans and
acceptable likelihoods of success and future profitability. There is a high
probability of loss associated with investments in emerging companies. We must
also dedicate significant amounts of financial resources, management attention
and personnel to identify and develop each new business opportunity without any
assurance that these expenditures will prove fruitful.
We generally invest in start-up ventures with no operating histories,
unproven technologies and products and, in some cases, without experienced
management. We may not be successful in developing these start-up ventures.
Because of the uncertainties and risks associated with such start-up ventures,
we could experience substantial losses associated with failed ventures.
In addition, the market for venture capital in the United States is
increasingly competitive. As a result, we may lose business opportunities and
may need to accept financing and equity investments on less favorable terms.
Also, we may be unable to participate in additional ventures because we lack the
financial resources to provide them with full funding. We, as well as our
subsidiary companies, may need to depend on external financing to provide
sufficient capital.
WE HAVE A HISTORY OF LOSSES AND EXPECT TO INCUR ADDITIONAL LOSSES IN THE FUTURE.
We have sustained substantial losses since our inception resulting in
an accumulated deficit of $100.0 million (including a reclassification of
accumulated deficit in the amount of $21.7 million to permanent capital
representing the fair value of the ten percent (10%) stock dividend paid in
2001) on a consolidated basis, including operating losses of $43.2 million and
$37.2 million in 2001 and 2000, respectively. We may never become profitable or
if we do, we may never be able to sustain profitability. We expect to incur
significant research and development, marketing, general and administrative
expenses. As a result, we expect to incur significant losses for the foreseeable
future.
TECHNOLOGY COMPANY STOCK PRICES ARE ESPECIALLY VOLATILE, AND THIS VOLATILITY MAY
DEPRESS OUR STOCK PRICE.
Our common stock, which is quoted on the NASDAQ National Market System,
has experienced significant price and volume fluctuations. Additionally, the
stock market generally, and the stock prices of technology companies,
specifically, have been very volatile. The market price of our common stock may
fluctuate significantly in response to a number of factors beyond our control,
including:
27
o changes in financial estimates by securities analysts;
o our failure to meet the expectations of securities analysts;
o announcements by us, our customers, our subsidiaries or our
competitors;
o changes in market valuations of similar companies;
o changes in accounting rules and regulations; and
o future sales of our common stock by our existing stockholders.
BECAUSE OUR OPERATING RESULTS HAVE FLUCTUATED SIGNIFICANTLY AND MAY CONTINUE TO
DO SO IN THE FUTURE, OUR STOCK PRICE MAY BE VERY VOLATILE.
Our operating results may vary significantly from quarter to quarter
due to a variety of factors, including:
o the operating results of our current and future subsidiary companies;
o the nature and timing of our investments in new subsidiary companies;
o our decisions to acquire or divest interests in our current and future
subsidiaries, which may create changes in losses or income and
amortization of goodwill;
o changes in our methods of accounting for our current and future
subsidiaries, which may cause us to recognize gains or losses under
applicable accounting rules;
o the timing of the sales of equity interests in our current and future
subsidiary companies;
o our ability to effectively manage our growth and the growth of our
subsidiary companies;
o general economic conditions; and
o the cost of future acquisitions, which may increase due to intense
competition from other potential acquirers of technology-related
companies or ideas.
We have incurred and expect to continue to incur significant expenses
in pursuing and developing new business ventures. To date, we have lacked a
consistent source of recurring revenue. Each of the factors we have described
may cause our stock to be more volatile than the stock of other companies.
BECAUSE OUR SUBSIDIARY COMPANIES MAY NOT GENERATE ANY REVENUES, AND OPERATING
RESULTS FROM OUR SUBSIDIARY COMPANIES MAY FLUCTUATE SIGNIFICANTLY, OUR OWN
OPERATING RESULTS MAY BE NEGATIVELY AFFECTED.
Our operating results may be materially impacted by the operating
results of our subsidiary companies. We cannot assure that these companies will
be able to meet their anticipated working capital needs to develop their
products and services. If they fail to properly develop these products and
services, they will be unable to generate meaningful product sales. We
anticipate that our operating results are likely to vary significantly as a
result of a number of factors, including:
o the timing of new product introductions by each subsidiary company;
o the stage of development of the business of each subsidiary company;
o the technical feasibility of each subsidiary company's technologies and
techniques;
o the novelty of the technology owned by our subsidiary companies;
o the accuracy, effectiveness and reliability of products developed by
our subsidiary companies;
o the level of product acceptance;
o the strength of each subsidiary company's intellectual property rights;
o the ability of each subsidiary company to avoid infringing the
intellectual property rights of others;
o each subsidiary company's ability to exploit and commercialize its
technology;
o the volume and timing of orders received and product line maturation;
o the impact of price competition; and
o each subsidiary company's ability to access distribution channels.
Many of these factors are beyond our subsidiary companies' control. We
cannot provide any assurance that any subsidiary company will experience growth
in the future or be profitable on an operating basis in any future period.
A LACK OF MARKET ACCEPTANCE OF OUR SUBSIDIARY COMPANIES' PRODUCTS WILL RESULT IN
OPERATING LOSSES.
Each of our subsidiary companies is developing new technologies and
products, as further detailed below. To the extent any of these technologies and
products are not accepted by their respective markets, we will incur operating
losses.
28
ADVANCED MATERIAL SCIENCES. Although Advanced Material Sciences holds
the exclusive license for CombiMatrix's biological array processor technology in
certain fields of material sciences, it is a developmental-stage company without
any significant revenues.
COMBIMATRIX. CombiMatrix is developing a proprietary biochip microarray
processor system that integrates semiconductor technology with new developments
in biotechnology and chemistry. Although CombiMatrix has been awarded three
research grants sponsored by different U.S. governmental agencies, CombiMatrix
is a developmental-stage company without any significant current revenues. Its
current activities relate almost exclusively to research and development.
CombiMatrix must conduct additional testing before any of its products will be
ready for sale. Because the technologies critical to the success of this
industry are in their infancy, we cannot assure you that CombiMatrix will be
able to successfully implement its technologies. If its technologies are
successful, CombiMatrix intends to pursue collaborations with pharmaceutical
companies for activities such as screening potential drug compounds. We cannot
assure you that CombiMatrix, even if successful in developing its technologies,
would be able to successfully implement collaborative efforts with
pharmaceutical companies and create commercially successful products. Even if
CombiMatrix develops commercially viable products, it has no experience
manufacturing, marketing, pricing or selling products in the volumes that would
be required for commercial success. This inexperience could hinder CombiMatrix's
ability to profit from any viable products it may develop.
SOUNDVIEW TECHNOLOGIES. Soundview Technologies was formed to
commercialize patent rights of a method of video and audio blanking technology,
also known as V-chip technology, that screens objectionable television
programming and blocks it from the viewer. Although Soundview Technologies has
licensed its technology to certain television manufacturers, we cannot assure
you that it will continue to be profitable.
ACACIA MEDIA TECHNOLOGIES (FORMERLY KNOWN AS GREENWICH INFORMATION
TECHNOLOGIES LLC). Acacia Media Technologies owns a worldwide portfolio of
pioneering patents relating to audio and video transmission and receiving
systems, commonly known as audio-on-demand and video-on-demand, used for
distributing content via various methods including computer networks, cable
television systems and direct broadcasting satellite systems The market for
information-on-demand systems has only recently begun to develop and is rapidly
evolving. Demand and market acceptance for information-on-demand systems are
subject to substantial uncertainty and risk. We cannot predict whether, or how
fast, this market will grow or how long it can be sustained. To date, Acacia
Media Technologies has yet to license any of its technology. It is uncertain if
and to what extent Acacia Media Technologies will be able to profitably market
and license its rights to the information-on-demand technology.
THE EXPANSION OF COMBIMATRIX'S PRODUCT LINES MAY SUBJECT IT TO REGULATION BY THE
FDA AND FOREIGN REGULATORY AUTHORITIES, WHICH COULD PREVENT OR DELAY THE
INTRODUCTION OF NEW PRODUCTS.
If CombiMatrix manufactures, markets or sells any products for any
regulated clinical or diagnostic applications, those products will be subject to
extensive governmental regulation as medical devices in by the FDA and in other
countries by corresponding foreign regulatory authorities. The process of
obtaining and maintaining required regulatory clearances and approvals is
lengthy, expensive and uncertain. Products that CombiMatrix manufactures,
markets or sells for research purposes only are not subject to governmental
regulations as medical devices or as analyte specific reagents to aid in disease
diagnosis. We believe that CombiMatrix's success will depend upon commercial
sales of improved versions of products, certain of which cannot be marketed in
the United States and other regulated markets unless and until CombiMatrix
obtains clearance or approval from the FDA and its foreign counterparts, as the
case may be. There can be no assurance that these approvals will be received on
a timely basis, or at all, and delays or failures in receiving these approvals
may limit our ability to benefit from new CombiMatrix products.
ETHICAL, SOCIAL, POLITICAL AND LEGAL ISSUES CONCERNING GENOMIC RESEARCH AND
TESTING MAY RESULT IN REGULATIONS RESTRICTING THE USE OF COMBIMATRIX'S
TECHNOLOGY OR REDUCE DEMAND FOR ITS PRODUCTS.
In the case that CombiMatrix or its customers manufacture, market or
sell a regulated diagnostic product, ethical, social and legal concerns about
genomic testing and genomic research could result in regulations restricting
CombiMatrix's or its customers' activities. For example, the potential
availability of testing for genetic predispositions has raised issues regarding
the use and confidentiality of information obtained from this testing. Some
states in the United States have enacted legislation restricting the use of
information derived from genomic testing, and the United States Congress and
some foreign governments are considering similar legislation. Restrictions on
CombiMatrix or its customers could result in a reduction of sales, if any, and
harm our financial results.
29
AS COMBIMATRIX'S OPERATIONS EXPAND, ITS COSTS TO COMPLY WITH ENVIRONMENTAL LAWS
AND REGULATIONS WILL INCREASE; FAILURE TO COMPLY WITH THESE LAWS AND REGULATIONS
COULD EXPOSE COMBIMATRIX TO SUBSTANTIAL LIABILITIES AND HARM OUR FINANCIAL
RESULTS.
CombiMatrix's operations involve the use, transportation, storage and
disposal of hazardous substances, and as a result, it is subject to
environmental and health and safety laws and regulations. As CombiMatrix expands
its operations, its use of hazardous substances will increase and lead to
additional and more stringent requirements. The cost to comply with these and
any future environmental and health and safety regulations could be substantial.
In addition, CombiMatrix's failure to comply with laws and regulations, and any
releases of hazardous substances by it into the environment, or at disposal
sites used by it, could expose CombiMatrix to substantial liability in the form
of fines, penalties, remediation costs and other damages, or could lead to a
curtailment or shut down of CombiMatrix's operations. These types of events, if
they occur, would adversely impact our financial results.
COMBIMATRIX MAY BE EXPOSED TO LIABILITY DUE TO PRODUCT DEFECTS.
If CombiMatrix commences testing, manufacturing and selling of
regulated diagnostic products, it will be exposed to potential product liability
claims inherent in such activities. When desirable, CombiMatrix intends to
acquire additional insurance for clinical liability risks. CombiMatrix may not
be able to obtain such insurance or general product liability insurance on
acceptable terms or at reasonable costs. In addition, such insurance may not
provide sufficient amounts of coverage for all potential liabilities. A product
liability claim or recall could materially and adversely affect CombiMatrix's
business, financial condition and results of operations.
BECAUSE EACH SUBSIDIARY COMPANY'S SUCCESS GREATLY DEPENDS ON ITS ABILITY TO
DEVELOP AND MARKET NEW PRODUCTS AND SERVICES AND TO RESPOND TO THE RAPID CHANGES
IN TECHNOLOGY AND DISTRIBUTION CHANNELS, WE CANNOT ASSURE YOU THAT OUR
SUBSIDIARY COMPANIES WILL BE SUCCESSFUL IN THE FUTURE.
The markets for each subsidiary company's products are marked by
extensive competition, rapidly changing technology, frequent product and service
improvements and evolving industry standards. We cannot assure you that the
existing or future products and services of our subsidiary companies will be
successful or profitable. We also cannot assure you that competitors' products,
services or technologies will not render our subsidiary companies' products and
services non-competitive or obsolete.
Our success will depend on our subsidiary companies' ability to adapt
to this rapidly evolving marketplace and to develop and market new products and
services or enhance existing ones to meet changing customer demands. Our
subsidiary companies may be unable to adequately adapt products and services or
acquire new products and services that can compete successfully. In addition,
our subsidiary companies may be unable to establish and maintain distribution
channels.
IF WE, OR OUR SUBSIDIARIES, ENCOUNTER UNFORESEEN DIFFICULTIES AND CANNOT OBTAIN
ADDITIONAL FUNDING ON FAVORABLE TERMS, OUR BUSINESS MAY SUFFER.
As of December 31, 2001, we had cash and short-term investments of
$84.6 million on our consolidated financial statements. However, portions of
these funds were held by certain of our consolidated subsidiaries and thus are
restricted to their individual use.
To date, our subsidiary companies have relied primarily upon selling
equity securities, including sales to and loans from us, to generate the funds
needed to finance implementing their plans of operations. Our subsidiary
companies may be required to obtain additional financing through bank
borrowings, debt or equity financings or otherwise, which would require us to
make additional investments or face a dilution of our equity interests.
We cannot assure that we will not encounter unforeseen difficulties
that may deplete our capital resources more rapidly than anticipated. Any
efforts to seek additional funds could be made through equity, debt or other
external financings. However, we cannot assure that additional funding will be
available on favorable terms, if at all. If we fail to obtain additional funding
when needed for our subsidiary companies and ourselves, we may not be able to
execute our business plans and our business may suffer.
30
OUR BUSINESS MAY BE HARMED IF MARKET AND OTHER CONDITIONS ADVERSELY AFFECT OUR
ABILITY TO DISPOSE OF CERTAIN ASSETS AT FAVORABLE PRICES.
An element of our business plan involves disposing of, in public
offerings or private transactions, our subsidiary companies and future partner
companies, or portions of assets thereof, to the extent such assets are no
longer consistent with our business plan. If we sell any such subsidiary
companies or assets, the price we receive will depend upon market and other
conditions. Therefore, we may not be able to sell at favorable prices. Market
and other conditions beyond our control affect:
o our ability to effect these sales;
o the timing of these sales; and
o the amount of proceeds from these sales.
In some instances, we may not be able to sell some or any of these
assets due to poor market and other conditions. As a result, we may be adversely
affected because we will be unable to dispose of assets or may receive a lesser
amount for our assets than we believe is favorable.
FAILURE TO EFFECTIVELY MANAGE OUR GROWTH COULD PLACE STRAINS ON OUR MANAGERIAL,
OPERATIONAL AND FINANCIAL RESOURCES AND COULD ADVERSELY AFFECT OUR BUSINESS AND
OPERATING RESULTS.
Our growth has placed, and is expected to continue to place, a
significant strain on our managerial, operational and financial resources.
Further, as the number of our subsidiary companies and their respective
businesses grow, we will be required to manage multiple relationships. Any
further growth by us or our subsidiary companies or an increase in the number of
our strategic relationships will increase this strain on our managerial,
operational and financial resources. This strain may inhibit our ability to
achieve the rapid execution necessary to successfully implement our business
plan. In addition, our future success depends on our ability to expand our
organization to match the growth of our business and our subsidiaries.
OUR FUTURE SUCCESS DEPENDS IN PART ON THE CONTINUED SERVICE OF OUR KEY
EXECUTIVES, AND THE LOSS OF ANY OF THESE KEY EXECUTIVES COULD ADVERSELY AFFECT
OUR BUSINESS AND OPERATING RESULTS.
Our success depends in part upon the continued service of our executive
officers, particularly Paul R. Ryan, our Chairman and Chief Executive Officer
and Robert L. Harris, II, our President. Neither Mr. Ryan nor Mr. Harris has an
employment or non-competition agreement with us. The loss of either of these key
individuals would be detrimental to our ongoing operations and prospects.
OUR FUTURE SUCCESS AND THE SUCCESS OF OUR SUBSIDIARY COMPANIES DEPENDS ON OUR
AND THEIR ABILITIES TO ATTRACT AND RETAIN QUALIFIED TECHNICAL PERSONNEL AND
QUALIFIED MANAGEMENT AND MARKETING TEAMS. FAILURE TO DO SO WOULD HARM OUR
ONGOING OPERATIONS AND BUSINESS PROSPECTS.
We believe that our success will depend on continued employment by us
and our subsidiary companies of senior management and key technical personnel.
Our subsidiary companies will need to attract, retain and motivate qualified
management personnel to execute their current business plans and to successfully
develop commercially viable products and services. Competition for qualified
personnel is intense and we cannot assure you that we will successfully retain
our existing key employees or attract and retain any additional personnel we may
require.
Each of our subsidiary companies has key executives upon whom we
significantly depend, and the success of those subsidiary companies depends on
their ability to retain and motivate those individuals.
OUR SUBSIDIARY COMPANIES FACE INTENSE COMPETITION, OFTEN AGAINST COMPETITORS
WITH LONGER HISTORIES, GREATER NAME RECOGNITION AND MORE EXPERIENCE IN RESEARCH
AND DEVELOPMENT. OUR FAILURE TO COMPETE EFFECTIVELY COULD HARM OUR BUSINESS.
Each of our subsidiary companies faces intense competition. Many of the
competitors to our subsidiary companies have greater financial, marketing and
other resources. In addition, a number of competitors may have greater brand
recognition and longer operating histories than our subsidiary companies. Our
subsidiary companies' individual risks are regarding competition further
described below.
ADVANCED MATERIAL SCIENCES. The material sciences industry is subject
to intense competition and rapid change. Many competitors have more experience
in research and development than Advanced Material Sciences.
31
COMBIMATRIX. The pharmaceutical and biotechnology industries are
subject to intense competition and rapid and significant technological change.
CombiMatrix anticipates that it will face increased competition in the future as
new companies enter the market and advanced technologies become available. Many
of these competitors have more experience in research and development than
CombiMatrix. Technological advances or entirely different approaches developed
by one or more of CombiMatrix's competitors could render CombiMatrix's processes
obsolete or uneconomical. The existing approaches of CombiMatrix's competitors
or new approaches or technology developed by CombiMatrix's competitors may be
more effective than those developed by CombiMatrix.
SOUNDVIEW TECHNOLOGIES. Other companies may develop competing
technologies that offer better or less expensive alternatives to the V-chip
offered by Soundview Technologies. Many potential competitors, including
television manufacturers, have significantly greater resources. In addition, the
outcome of Soundview Technologies' pending litigation against television
manufacturers is uncertain.
ACACIA MEDIA TECHNOLOGIES. Other companies may develop competing
technologies that offer better or less expensive alternatives to the
information-on-demand technology offered by Acacia Media Technologies. In the
event a competing technology emerges, Acacia Media Technologies would expect
substantial competition.
WE CANNOT ASSURE THAT WE WILL BE ABLE TO EFFECTIVELY PROTECT OUR SUBSIDIARY
COMPANIES' PROPRIETARY TECHNOLOGY, AND WE COULD ALSO BE SUBJECT TO INFRINGEMENT
CLAIMS.
The success of our subsidiary companies relies, to varying degrees, on
proprietary rights and their protection or exclusivity. Although reasonable
efforts will be taken to protect their proprietary rights, the complexity of
international trade secret, copyright, trademark and patent law, and common law,
coupled with limited resources and the demands of quick delivery of products and
services to market, create risk that these efforts will prove inadequate. From
time to time, we may be subject to third-party claims in the ordinary course of
business, including claims of alleged infringement of proprietary rights by us
and our subsidiary companies. Any such claims may damage our business by
subjecting us and our subsidiary companies to significant liability for damage
and invalidating proprietary rights, with or without merit, and could subject
our subsidiary companies to costly litigation and the diversion of their
technical and management personnel. In the event of any adverse ruling in any
intellectual property litigation, we could be required to:
o pay substantial damages;
o cease the manufacturing, use and sale of certain products;
o discontinue the use of certain process technologies; and
o obtain a license from a third-party claiming infringement, which might
not be available on reasonable terms, if at all.
Advanced Material Sciences, CombiMatrix, Acacia Media Technologies and
Soundview Technologies depend largely on the protection of enforceable patent
rights. Collectively, they have more than 45 applications pending with the U.S.
Patent and Trademark Office and other major foreign country or region (e.g.
Europe) patent offices, seeking protection for their core technologies and or
related product applications and processes, and have 32 patents or rights to
patents that have been issued or granted. We cannot assure you that the pending
patent applications will be issued or granted, that third-parties will not
infringe, or attempt to invalidate these intellectual property rights or that
certain aspects of their intellectual property will not be engineered-around by
third-parties without violating the patent rights of Advanced Material Sciences,
CombiMatrix, Acacia Media Technologies or Soundview Technologies. For Acacia
Media Technologies and Soundview Technologies, intellectual property constitutes
their only significant assets.
Existing patents owned by our subsidiary companies and any future
issued patents may not be sufficiently broad to prevent others from practicing
our subsidiary companies' technologies or developing competitive technologies.
In addition, others may oppose or invalidate our subsidiary companies' patents
and those patents may fail to provide a competitive advantage. Enforcing our
subsidiary companies' intellectual property rights may be difficult, costly and
time consuming and ultimately may not be successful.
Many of our subsidiary companies also hold licenses from third-parties,
and it is possible that they could become subject to infringement actions based
upon such licenses. Our subsidiary companies generally obtain representations as
to the origin and ownership of such licensed content. However, this may not
adequately protect them.
Our subsidiary companies also enter into confidentiality agreements
with third-parties and generally limit access to information relating to their
proprietary rights. Despite these precautions, third-parties may be able to gain
access to and use their proprietary rights to develop competing technologies and
32
products with similar or better features and prices. Any substantial
unauthorized use of our subsidiary companies' proprietary rights could
materially and adversely affect their business and operational results.
Since some genetic sequences are patented, CombiMatrix intends to
secure indemnification from its customers in the case of any inadvertent
synthesis of a patented genetic sequence in preparing its biological array
processors. This indemnity will not protect CombiMatrix from being joined or
held liable in any litigation involving a claim for misappropriation of
unlicensed rights and will not protect CombiMatrix against awards of substantial
damages if a customer is unwilling or unable to honor an indemnity obligation.
In such an event, CombiMatrix would be required to devote substantial time to
defending the litigation and might be required to expend substantial funds
defending itself or in the satisfaction of damage awards if our customer refuses
or is unable to honor its indemnity obligations. This could materially and
adversely affect CombiMatrix's business and operational results.
PENDING LAWSUITS INVOLVING SOUNDVIEW TECHNOLOGIES AND COMBIMATRIX COULD
ADVERSELY AFFECT THE BUSINESS, RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS OF
THOSE SUBSIDIARIES.
In 2000, Soundview Technologies filed a federal patent infringement and
antitrust lawsuit against certain television manufacturers, the Consumer
Electronics Manufacturers Association and the Electronics Industries Alliance
d/b/a/ Consumer Electronics Association in the United States District Court for
the Eastern District of Virginia, alleging that television sets utilizing
certain content blocking technology (commonly known as the "V-chip") and sold in
the United States infringe Soundview Technologies' Patent No. 4,554,584. The
case is now pending in the U.S. District Court for the District of Connecticut
against Sony Corporation of America, Inc., Sony Electronics, Inc., the
Electronics Industries Alliance d/b/a/ Consumer Electronics Association, the
Consumer Electronics Manufacturers Association, Mitsubishi Digital Electronics
America, Inc., Mitsubishi Electronics America, Inc., Toshiba America Consumer
Products, Inc. and Sharp Electronics Corporation. However, no assurance can be
given that Soundview Technologies will prevail in this action or that the
television manufacturers will be required to pay royalties to Soundview
Technologies. If Soundview Technologies does not prevail in this litigation, its
business, results of operations and financial condition would be materially
adversely affected.
During 2001, Soundview Technologies entered into separate confidential
settlement and/or license agreements with Hitachi America Ltd., Pioneer
Electronics (USA) Incorporated, Samsung Electronics, LG Electronics, Inc.,
Daewoo Electronics Corporation of America, Sanyo Manufacturing Corporation,
Funai Electric Co., Ltd., JVC Americas Corporation, Thomson Multimedia, Inc.,
Orion Electric Co., Ltd. and Matsushita Electric Industrial Co., Ltd. whereby
Soundview Technologies will receive payments and grant non-exclusive licenses of
its V-chip patent. In 2000, Soundview Technologies settled its lawsuit with
Philips Electronics North America Corporation.
On November 28, 2000, Nanogen, Inc. ("Nanogen") filed a complaint
against CombiMatrix and Donald D. Montgomery, Ph.D., a former employee of
Nanogen and an officer and director of CombiMatrix, in the United States
District Court for the Southern District of California. Nanogen alleges breach
of contract, trade secret misappropriation and that U. S. Patent No. 6,093,302
and other proprietary information belonging to CombiMatrix are instead the
property of Nanogen. CombiMatrix and Dr. Montgomery both deny, and intend to
vigorously defend against, the claims in the lawsuit. Accordingly, on December
15, 2000, CombiMatrix and Dr. Montgomery filed a motion to dismiss the lawsuit,
which was denied in part and granted in part on February 1, 2001. On March 9,
2001, CombiMatrix and Dr. Montgomery filed a counterclaim, alleging breach of
express covenants not to sue or otherwise interfere with Dr. Montgomery arising
out of a release signed by Nanogen in 1996. On April 4, 2001, Nanogen filed a
motion to dismiss the counterclaim, which the court denied in its entirety on
July 27, 2001. Fact discovery is ongoing and is scheduled to close on June 3,
2002. CombiMatrix intends to vigorously defend the lawsuit and pursue the
counterclaim. Although we believe that Nanogen's claims are without merit, we
cannot predict the outcome of the litigation. If Nanogen prevails in its lawsuit
against CombiMatrix, CombiMatrix's business, results of operations and financial
condition could be materially adversely affected.
BECAUSE WE HAVE A LIMITED OPERATING HISTORY, WE CANNOT ASSURE THAT OUR
OPERATIONS WILL BE PROFITABLE.
We commenced operations in 1993 and, accordingly, have a limited
operating history. In addition, many of our subsidiary companies are in the
early stages of development and have limited operating histories. You should
consider our prospects in light of the risks, expenses and difficulties
frequently encountered by companies with such limited operating histories. Since
we have a limited operating history, we cannot assure you that our operations
will be profitable or that we will generate sufficient revenues to meet our
expenditures and support our activities.
During the fiscal year ended December 31, 2001, we had an operating
loss of approximately $43.2 million and a net loss of approximately $22.3
million. If we continue to incur operating losses, we may not have enough money
to expand our business and our subsidiary companies' businesses in the future.
33
OUR LACK OF CONTROL OVER DECISION-MAKING AND DAY-TO-DAY OPERATIONS AT CERTAIN
SUBSIDIARY COMPANIES MEANS THAT WE CANNOT PREVENT THEM FROM TAKING ACTIONS THAT
WE BELIEVE MAY RESULT IN ADVERSE CONSEQUENCES.
We currently own a 4.9% interest in Advanced Data Exchange and have no
board of director representation. Additional rounds of equity financing may
further dilute our interest in Advanced Data Exchange. We do not have the
ability to control decision-making at Advanced Data Exchange.
WE MAY INCUR SIGNIFICANT COSTS TO AVOID INVESTMENT COMPANY STATUS AND MAY SUFFER
ADVERSE CONSEQUENCES IF DEEMED TO BE AN INVESTMENT COMPANY.
We may incur significant costs to avoid investment company status and
may suffer other adverse consequences if deemed to be an investment company
under the Investment Company Act. Some of our equity investments may constitute
investment securities under the Investment Company Act. A company may be deemed
to be an investment company if it owns investment securities with a value
exceeding 40% of its total assets, subject to certain exclusions. Investment
companies are subject to registration under, and compliance with, the Investment
Company Act unless a particular exclusion or regulatory safe harbor applies. If
we are deemed an investment company, we would become subject to the requirements
of the Investment Company Act. As a consequence, we would be prohibited from
engaging in business or issuing securities as we have in the past and might be
subject to civil and criminal penalties for noncompliance. In addition, certain
of our contracts might be voidable, and a court-appointed receiver could take
control of us and liquidate our business.
Although we believe our investment securities currently comprise less
than 40% of our assets, fluctuations in the value of these securities or of our
other assets may cause this limit to be exceeded. This would require us to
attempt to reduce our investment securities as a percentage of our total assets.
This reduction can be attempted in a number of ways, including the disposition
of investment securities and the acquisition of non-investment security assets.
If we sell investment securities, we may sell them sooner than we otherwise
would. These sales may be at depressed prices and we may never realize
anticipated benefits from, or may incur losses on, these investments. Some
investments may not be sold due to contractual or legal restrictions or the
inability to locate a suitable buyer. Moreover, we may incur tax liabilities
when we sell assets. We may also be unable to purchase additional investment
securities that may be important to our operating strategy. If we decide to
acquire non-investment security assets, we may not be able to identify and
acquire suitable assets and businesses.
THE AVAILABILITY OF SHARES FOR SALE IN THE FUTURE COULD REDUCE THE MARKET PRICE
OF OUR COMMON STOCK.
In the future, we may issue securities to raise cash for acquisitions.
We may also pay for interests in additional subsidiary companies by using a
combination of cash and our common stock or just our common stock. We may also
issue securities convertible into our common stock. Any of these events may
dilute your ownership interest in us and have an adverse impact on the price of
our common stock.
In addition, sales of a substantial amount of our common stock in the
public market, or the perception that these sales may occur, could reduce the
market price of our common stock. This could also impair our ability to raise
additional capital through the sale of our securities.
BECAUSE SOME OF OUR FACILITIES ARE LOCATED IN CALIFORNIA, WE COULD BE ADVERSELY
AFFECTED BY ROLLING BLACKOUTS OR A MAJOR EARTHQUAKE.
Our facilities, excluding CombiMatrix, are primarily located in
California. California experienced an energy shortage in 2001, and as a result,
several cities were subject to rolling blackouts. In the event we experience
rolling blackouts or other loss or reduction of electrical power, our operations
could be adversely impacted.
Additionally, in the event of a major earthquake, our facilities could
be significantly damaged or destroyed and result in a material adverse loss to
us and some of our subsidiary companies. We have not obtained and do not
presently intend to obtain earthquake insurance or business interruption
coverage.
DELAWARE LAW AND OUR CHARTER DOCUMENTS CONTAIN PROVISIONS THAT COULD DISCOURAGE
OR PREVENT A POTENTIAL TAKEOVER OF ACACIA THAT MIGHT OTHERWISE RESULT IN OUR
STOCKHOLDERS RECEIVING A PREMIUM OVER THE MARKET PRICE OF THEIR SHARES.
Provisions of Delaware law and our certificate of incorporation and
bylaws could make more difficult the acquisition of Acacia by means of a tender
offer, proxy contest or otherwise, and the removal of incumbent officers and
directors. These provisions include:
34
o Section 203 of the Delaware General Corporation Law, which prohibits a
merger with a 15%-or-greater stockholder, such as a party that has
completed a successful tender offer, until three years after that party
became a 15%-or-greater stockholder;
o amendment of our bylaws by the stockholders requires a two-thirds
approval of the outstanding shares;
o the authorization in our certificate of incorporation of undesignated
preferred stock, which could be issued without stockholder approval in
a manner designed to prevent or discourage a takeover;
o provisions in our bylaws eliminating stockholders' rights to call a
special meeting of stockholders, which could make it more difficult for
stockholders to wage a proxy contest for control of our board of
directors or to vote to repeal any of the anti-takeover provisions
contained in our certificate of incorporation and bylaws; and
o the division of our board of directors into three classes with
staggered terms for each class, which could make it more difficult for
an outsider to gain control of our board of directors.
Such potential obstacles to a takeover could adversely affect the
ability of our stockholders to receive a premium price for their stock in the
event another company wants to acquire us.
WE ARE AT RISK OF SECURITIES CLASS ACTION LITIGATION DUE TO STOCK PRICE
VOLATILITY.
In the past, securities class action litigation has often been brought
against a company following periods of volatility in the market price of its
securities. Due to the potential volatility of our stock price, we may be the
target of such litigation in the future. Securities litigation could result in
substantial costs and divert management's attention and resources, which could
seriously harm our business, financial condition and results of operations.
WE INTEND TO DIVIDE OUR COMMON STOCK INTO TWO NEW CLASSES AND TO ACQUIRE THE
MINORITY STOCKHOLDER INTERESTS IN COMBIMATRIX.
On March 20, 2002, we announced our intention to divide our common
stock into two new classes: one that would reflect the performance of our
CombiMatrix subsidiary, and another that would reflect the performance of our
media technologies business, including Soundview Technologies and Acacia Media
Technologies. We also announced our intention to acquire the minority
stockholder interests in CombiMatrix. Our operating results could be negatively
affected by various factors related to the recapitalization and acquisition,
including: difficulty obtaining or meeting conditions imposed for any necessary
legal, governmental and administrative approvals for the transactions; costs
related to the transactions; fluctuating stock market levels that could cause
the new stock classes to be less than our current stock value; the failure of
the stock market to ascribe value to our new business structure; and the failure
of Acacia to realize anticipated benefits of these transactions.
WE MAY NOT COMPLETE THE RECAPITALIZATION OF OUR STOCK OR THE ACQUISITION OF THE
MINORITY STOCKHOLDER INTERESTS IN COMBIMATRIX.
Both the recapitalization of our stock and the acquisition of the
remaining minority interests in CombiMatrix are subject to several conditions,
including the approval of our stockholders, receipt of satisfactory tax and
accounting opinions, approval of the proposed merger by a special committee of
the CombiMatrix board of directors, receipt of a fairness opinion, approval for
listing of both of the new share classes on the NASDAQ National Market System
and other customary conditions. As a result, there cannot be any assurance that
recapitalization of our stock or the acquisition of the minority stockholder
interests in CombiMatrix will be completed. If either event does not occur, we
expect to continue to operate under our current operating structure. This would
prevent us from realizing the possible benefits that the recapitalization and
the acquisition would provide to us.
35
ITEM 7A.included elsewhere herein.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
SHORT-TERM INVESTMENTS
HIGH-GRADE CORPORATE BONDS, COMMERCIAL PAPER, U.S. GOVERNMENT
SECURITIES AND MONEY MARKET ACCOUNTS. Our exposure to market risk is limited primarily to interest income
sensitivity, which is affected by changes in the general level of United States
interest rates, particularly because a significant portion of our investments
are in short-term debt securities issued by United Statesthe U.S. government, U.S.
corporations, and institutional money market funds.funds and other money market
instruments. The primary objective of our investment activities is to preserve
principal while at the same time maximizing the income it receivesreceived without
significantly increasing risk. To minimize risk, we maintain a portfolio of
cash, cash equivalents and short-term investments in a variety of
investment-grade securities and with a variety of issuers, including corporate
notes, commercial paper and money market funds.instruments. Due to the nature of our
short-term investments, we believe that we are not subject to any material
market risk exposure. We do not have any foreign currency or other
derivative financial instruments.
MARKETABLE EQUITY SECURITIES. We conduct43
DISCUSSION OF SEGMENTS' OPERATIONS, FINANCIAL RESOURCES AND LIQUIDITY
COMBIMATRIX GROUP MANAGEMENT'S DISCUSSION AND ANALYSIS
(A DIVISION OF ACACIA RESEARCH CORPORATION)
YOU SHOULD READ THIS DISCUSSION IN CONJUNCTION WITH THE COMBIMATRIX GROUP,
A DIVISION OF ACACIA RESEARCH CORPORATION, FINANCIAL STATEMENTS AND RELATED
NOTES AND THE ACACIA RESEARCH CORPORATION CONSOLIDATED FINANCIAL STATEMENTS AND
RELATED NOTES, BOTH INCLUDED ELSEWHERE HEREIN. HISTORICAL RESULTS AND PERCENTAGE
RELATIONSHIPS ARE NOT NECESSARILY INDICATIVE OF OPERATING RESULTS FOR ANY FUTURE
PERIODS.
See Item 1. "Business," for a portiongeneral overview of our investing
activity through a limited partnership,the CombiMatrix group's
business. Although AR-CombiMatrix stock is intended to reflect the separate
performance of which a wholly-owned subsidiarythe CombiMatrix group, rather than the performance of Acacia
Research Corporation as a whole, the CombiMatrix group is not a separate legal
entity. Holders of AR-CombiMatrix stock are stockholders of Acacia Research
Corporation. As a result, they continue to be subject to all of the general partner.risks of an
investment in Acacia Research Corporation and all of its businesses, assets and
liabilities. The assets Acacia Research Corporation attributes to the
CombiMatrix group could be subject to the liabilities of the Acacia Technologies
group.
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
RESULTS OF OPERATIONS
DIVISION NET INCOME (LOSS) (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Division net income (loss) ........................ $ 710 $ (18,969) $ (46,219)
The changes in net income (loss) were primarily due to operating results
and activities as discussed below.
REVENUES AND COST OF REVENUES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Research and development contract ................. $ 17,302 $ - $ -
Government contract ............................... 1,993 - 378
Cost of government contract revenues .............. (1,874) - -
Service contracts ................................. 116 49 155
Products .......................................... 230 407 306
Cost of product sales ............................. (173) (99) (263)
RESEARCH AND DEVELOPMENT CONTRACT. In March 2004, the CombiMatrix group
completed all phases of its research and development agreement with Roche. As a
result of completing all obligations under this agreement and in accordance with
the significant control that we
exercise overCombiMatrix group's revenue recognition policies for multiple-element
arrangements, the limited partnership,CombiMatrix group recognized $17.3 million of research and
development contract revenues during the assetsfirst quarter of 2004, all of which
were previously deferred. The majority of research and liabilitiesdevelopment efforts under
the Roche agreement were incurred prior to 2004.
GOVERNMENT CONTRACT AND COST OF GOVERNMENT CONTRACT REVENUES. In March
2004, the CombiMatrix group executed a two-year $5.9 million research and
resultsdevelopment contract with the Department of operations have been consolidated by usDefense to further the development
of the CombiMatrix group's array technology for the detection of biological
threat agents. Under the terms of the contract, the CombiMatrix group is
reimbursed on a periodic basis for actual costs incurred to perform its
obligations, plus a fixed fee. Revenues are recognized under the
percentage-of-completion method of accounting, using the cost-to-cost approach
to measure completeness at the end of each reporting period. Cost of government
contract revenues reflect research and development expenses incurred in
connection with the CombiMatrix group's commitments under its biowarfare
detection contract with the Department of Defense, which was approximately 34%
complete as of December 31, 2001. We maintain an
investment portfolio2004. Based on actual costs incurred through
December 31, 2004, the CombiMatrix group expects to incur approximately $2.2
million and $819,000 in research and development costs during 2005 and 2006,
respectively, to complete its obligations to the Department of common stockDefense under
this contract.
44
Government contract revenues in several publicly held companies. These
common stock investments are classified as trading securities2002 included amounts earned from the
CombiMatrix group's performance under its Phase I SBIR Department of Defense
contract, Phase I NIH grant and consequently,
are recorded onone-time contract research and development
revenues. The SBIR Department of Defense and NIH grants were completed during
the balance sheet at their fair value, with unrealized gainsthird quarter of 2002.
SERVICE CONTRACTS. Service contract revenues include maintenance and
losses reportedservice contract fees recognized by CombiMatrix K.K. from existing array
customers in the consolidated statement of operations. We are exposed to
equity price risk on our portfolio of marketable equity securities.Japan. As of December 31, 2001, our total equity holdings2004, the terms of these contracts had
expired.
PRODUCT REVENUES AND COST OF PRODUCT SALES. Product revenues and costs of
product sales during 2004 relate to domestic and international sales of the
CombiMatrix group's array products. The CombiMatrix group launched its
CustomArray(TM) DNA array platform in publicly traded companiesMarch 2004 and its CustomArray(TM) 12K DNA
expression array in July 2004. Product revenues and cost of product sales during
2003 and 2002 were valuedrecognized by CombiMatrix K.K. from sales of DNA array
synthesizers and related array products and services to Japanese research
institutions.
RESEARCH AND DEVELOPMENT EXPENSES (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Research and development expenses ................. $ 5,294 $ 8,098 $ 18,187
Charge for acquired in-process
research and development .......................... - - 17,237
RESEARCH AND DEVELOPMENT EXPENSES. The decrease in research and development
expenses in 2004, as compared to 2003 and 2002, was primarily due to the
CombiMatrix group's completion of several Roche related research and development
projects during the third and fourth quarters of 2003, and final completion of
the research and development agreement with Roche in the first quarter of 2004.
During 2003 and 2002, the CombiMatrix group's research and development
activities were driven primarily by ongoing performance obligations under the
product commercialization phase of its license and research and development
agreements with Roche. These activities include costs associated with direct
labor, supplies and materials, development of prototype arrays and instruments
and the use of outside consultants for certain engineering efforts.
With the completion of the research and development agreement with Roche,
year-to-date and future research and development expenses were and will continue
to be incurred in connection with the CombiMatrix group's commitments under its
collaboration and supply agreements with various strategic partners including
Furuno and Toppan, as well as ongoing internal research and development efforts
in the areas of genomics, drug discovery and development and material sciences.
The CombiMatrix group expects its research and development expenses to continue
to be volatile and such expenses could increase in future periods as additional
contract and/or internal research and development agreements are undertaken.
CHARGE FOR ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. Operating expenses
in 2002 include a non-cash charge for acquired in-process research and
development of $17.2 million, related to Acacia Research Corporation's purchase
of the stockholder interests in CombiMatrix Corporation that we did not already
own.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES AND LEGAL SETTLEMENT CHARGES (IN
THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Marketing, general and administrative expenses .... $ 9,377 $ 8,714 $ 10,334
Legal settlement charges .......................... 812 144 18,471
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. The increase in 2004, as
compared to 2003, was due primarily to an increase in corporate professional
fees related to the CombiMatrix group's Sarbanes-Oxley compliance projects of
approximately $303,000 and an increase in marketing and sales costs of
approximately $447,000 related to the launch of the CombiMatrix group's
CustomArray(TM) DNA array platform beginning in March 2004 and overall expansion
of the CombiMatrix group's sales and marketing division.
The decrease in 2003, as compared to 2002, was due primarily to a decrease
in the CombiMatrix group's corporate legal expenses of approximately $827,000,
primarily related to the settlement of litigation with Nanogen, a decrease in
legal, accounting and other professional fees of approximately $704,000 related
to Acacia Research Corporation's recapitalization and merger transactions
completed in December 2002 and a decrease in overhead of approximately $383,000
related primarily to reduced general marketing and sales and administrative
personnel. This decrease was partially offset by an increase in the CombiMatrix
group's rent and utilities expenses of approximately $473,000 as a result of the
increase in occupancy of its corporate headquarters in Mukilteo, Washington
during 2003.
45
Included in marketing, general and administrative expenses are allocated
corporate charges of $689,000 in 2004, $894,000 in 2003 and $1.2 million in
2002. See "Critical Accounting Policies" for a description of the management
allocation policies implemented.
LEGAL SETTLEMENT CHARGES. In 2002, in connection with the September 2002
settlement agreement between CombiMatrix Corporation, Dr. Donald Montgomery, and
Nanogen the CombiMatrix group expensed a $1.0 million payment to Nanogen and
recorded a non-cash charge in the amount of $17.5 million related to the fair
value of CombiMatrix Corporation common shares issued to Nanogen. In addition,
the CombiMatrix group recorded a net non-cash charge totaling $812,000 during
2004, which reflects the fair value of AR-CombiMatrix common stock issued and
potentially issuable to Nanogen, Inc. during the period in connection with
certain anti-dilution provisions of the settlement agreement. Periodic charges
and the related liability are estimated based on the number of shares issuable
and or potentially issuable and the AR-CombiMatrix stock price at $4.4the end of the
respective reporting period. The anti-dilution provisions of the settlement
agreement expire in September 2005.
NON-CASH STOCK COMPENSATION AMORTIZATION (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Non-cash stock compensation amortization:
Research and development .......................... $ 91 $ 466 $ 1,868
Marketing, general and administrative ............. 663 1,189 4,540
The decrease was primarily due to the accelerated method of stock
compensation amortization utilized which results in higher amounts of
amortization in the earlier vesting periods and the impact of non-cash stock
compensation expense reversals related to the forfeiture of certain unvested
stock options during the respective periods. Non-cash stock compensation expense
reversals totaled $185,000 in 2004 and $1.2 million in both 2003 and 2002.
Non-cash deferred stock compensation amounts were fully amortized as of December
31, 2004.
MINORITY INTERESTS (IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Minority interests ................................ $ - $ 30 $ 23,702
The decrease was primarily due to Acacia Research Corporation's acquisition
of the remaining ownership interests in CombiMatrix Corporation in December 2002
and CombiMatrix K.K. in July 2003. Acacia Research Corporation's interests in
CombiMatrix K.K. have been attributed to the CombiMatrix group.
INFLATION
Inflation has not had a significant impact on the CombiMatrix group in the
current or prior periods.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2004, cash and cash equivalents and short-term investments
totaled $23.7 million, compared to zero$17.3 million at December 31, 2000. We believe2003. Working
capital at December 31, 2004 was $22.1 million, compared to a working capital
deficit at December 31, 2003 of $1.6 million. At December 31, 2003 working
capital included $17.6 million in deferred revenues primarily related to the
CombiMatrix group's agreements with Roche and Toppan, which are not subject to
any refund or repayment obligations and do not represent payment obligations of
the CombiMatrix group. Working capital increased in 2004 due primarily to the
recognition of $17.3 million in Roche related deferred contract revenues in the
first quarter of 2004 and the impact of net cash flow activities as discussed
below.
The change in cash and cash equivalents for the years ended December 31,
2004, 2003 and 2002 was comprised of the following (in thousands):
46
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------
2004 2003 2002
----------- ----------- -----------
Net cash provided by (used in) continuing operations:
Operating activities ................................... $ (11,584) $ (3,910) $ (16,142)
Investing activities ................................... (8,448) (1,996) 7,567
Financing activities ................................... 19,227 6,435 (818)
Effect of exchange rate on cash .......................... (17) (13) 92
----------- ----------- -----------
(Decrease) increase in cash and cash equivalents ......... $ (822) $ 516 $ (9,301)
=========== =========== ===========
The increase in net cash outflows from operations for the CombiMatrix group
in 2004, compared to 2003, was primarily due to a decrease in operating cash
receipts from customers, which totaled $3.0 million in 2004, comprised of $1.7
million from the Department of Defense, $1.0 million from Furuno and $265,000
from the sale of array products and related services, compared to $12.8 million
in the comparable 2003 period, consisting primarily of $9.8 million related to
the completion of certain milestones and delivery of prototype products and
services pursuant to its agreements with Roche and an up-front payment of $1.0
million and a $1.4 million milestone payment pursuant to its agreement with
Toppan. The decrease in payments from customers was partially offset by the
decrease in operating expenses and the impact of the timing of the receipt of
payments from customers and payments to vendors.
The decrease in net cash outflows from operations in 2003, as compared to
2002, was primarily attributable to the reduction in research and development
expenses incurred by the CombiMatrix group and the decrease in marketing,
general and administrative expenses as discussed above. The change was also due
to an increase in operating cash receipts during 2003, from Roche and Toppan, as
discussed above. Toppan related cash payments are included in deferred revenues
at December 31, 2004 and 2003. In 2002, the CombiMatrix group's negative cash
flows from operations was due primarily to the continued expansion of the
group's research and development activities including its efforts under its
Roche and NASA agreements executed in 2001. Losses from operations in 2002 were
partially offset by the receipt of milestone and advance payments of $11.6
million primarily from Roche.
The change in net cash flows used in investing activities was due primarily
to the CombiMatrix group's ongoing short term cash management activities and
changes in short term investments in connection with certain financing
activities discussed below. Fixed asset purchases were $810,000, $83,000 and
$1.0 million in 2004, 2003 and 2002, respectively.
The change in net cash inflows attributed to the CombiMatrix group from
financing activities in 2004, compared to 2003, was due to the completion of an
equity financing which raised net proceeds of approximately $13.7 million
through the sale of Acacia Research - CombiMatrix common stock during 2004,
compared to equity financing net proceeds of $4.9 million during the comparable
2003 period. Financing activities in 2004 also included proceeds from the
exercise of Acacia Research - CombiMatrix common stock warrants and stock
options, totaling $5.1 million, compared to $1.0 million in the comparable 2003
period. Cash used in financing activities in 2002 was comprised primarily of
payments on the CombiMatrix group's capital lease obligation totaling $2.8
million (the capital lease obligation was paid in full in November 2002), which
were partially offset by proceeds from stock option exercises of $106,000.
To date, the CombiMatrix group has relied primarily upon selling equity
securities as well as payments from strategic partners to generate the funds
needed to finance the implementation of the CombiMatrix group's business
strategies. The CombiMatrix group cannot assure that it is reasonably possiblewill not encounter
unforeseen difficulties that may deplete capital resources more rapidly than
anticipated. Any efforts to seek additional funds could be made through equity,
debt or other external financings, however the fair valuesCombiMatrix group cannot assure
that additional funding will be available on favorable terms, if at all. If the
CombiMatrix group fails to obtain additional funding when needed, the
CombiMatrix group may not be able to execute its business strategies and its
business may suffer.
The CombiMatrix group's long-term capital requirements will be substantial
and the adequacy of these securities could experienceits available funds will depend upon many factors,
including:
o the costs of commercialization activities, including sales and
marketing, manufacturing and capital equipment;
o the CombiMatrix group's continued progress in research and development
programs;
o the costs involved in filing, prosecuting, enforcing and defending any
patents claims, should they arise;
o the CombiMatrix group's ability to license technology;
o competing technological developments;
o the creation and formation of strategic partnerships;
47
o the costs associated with leasing and improving our headquarters in
Mukilteo, Washington; and
o other factors that may not be within the CombiMatrix group's control.
The CombiMatrix group believes that its cash and cash equivalent and
short-term investment balances, anticipated cash flow from operations and other
external sources of available credit will be sufficient to meet its cash
requirements through at least the next twelve months. However, changes may occur
that would cause the CombiMatrix group's available capital resources to be
consumed significantly sooner than it currently expects.
The CombiMatrix group may be unable to raise sufficient additional capital
on favorable terms or at all. If it fails to do so, it may have to curtail or
cease operations or enter into agreements requiring it to relinquish rights to
certain technologies, products or markets because it will not have the capital
necessary to exploit them.
OFF-BALANCE SHEET ARRANGEMENTS
The CombiMatrix group has not entered into off-balance sheet financing
arrangements, other than operating leases. The CombiMatrix group has no
significant fluctuationscommitments for capital expenditures in 2005. Other than as set
forth below, the near term.CombiMatrix group has no committed lines of credit or other
committed funding or long-term debt. The following table representslists the potential decrease in fair valuesCombiMatrix
group's material known future cash commitments as of our marketable equity securities that are sensitive to changes in the stock
market. Fair value deteriorations of minus 50%, 35% and 15% were selected based
on the probability of their occurrence.
Potential decrease to the value of securities given X% decrease in each
stock's price:December 31, 2004:
FAIR VALUE AS OF
(50%) (35%) (15%) DECEMBER 31, 2001
----------- ----------- ----------- -----------------PAYMENTS DUE BY PERIOD (IN THOUSANDS)
--------------------------------------------------------------
2009 AND
CONTRACTUAL OBLIGATIONS 2005 2006 2007 2008 THEREAFTER
---------- ---------- ---------- ---------- ----------
Marketable
Operating Leases (2) .......................... $ 1,923 $ 1,836 $ 1,937 $ 1,615 $ -
Minimum Royalty Payments(1) ................... 100 100 100 100 1,000
irsiCaixa Foundation research, development,
and licensing agreement(4) ................. 125 175 100 - -
Leuchemix equity securities..........purchases(3) ................. 1,600 2,150 - - -
---------- ---------- ---------- ---------- ----------
Total Contractual Cash Obligations ............ $ 2,186,0003,748 $ 1,530,0004,261 $ 656,0002,137 $ 4,372,000
=========== =========== =========== ===========1,715 $ 1,000
========== ========== ========== ========== ==========
OTHER
We also hold- ----------
(1) Refer to Note 13 to the Acacia Research Corporation consolidated financial
statements for a minoritydescription of the September 30, 2002 settlement agreement
between CombiMatrix Corporation and Dr. Donald Montgomery and Nanogen.
(2) Excludes any allocated rent expense in connection with Acacia Research
Corporation's management allocation policies.
(3) See Note 5 to the CombiMatrix group financial statements for additional
information regarding the October 2004 Leuchemix transaction.
(4) Excludes any potential future payments contingent upon the completion of
certain milestones in accordance with the agreement.
RECENT ACCOUNTING PRONOUNCEMENTS
Refer to Note 2 to the Acacia Research Corporation consolidated financial
statements included elsewhere herein.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The CombiMatrix group's exposure to market risk is limited to interest
income sensitivity, which is affected by changes in the general level of United
States interest rates, particularly because the majority of the group's
investments are in short-term debt securities issued by the U.S. treasury and by
U.S. corporations. The primary objective of the group's investment activities is
to preserve principal while at the same time maximizing the income the
CombiMatrix group receives without significantly increasing risk. To minimize
risk, the CombiMatrix group maintains its portfolio of cash, cash equivalents
and short-term investments in a variety of investment-grade securities and with
a variety of issuers, including corporate notes, commercial paper, government
securities and money market funds. Due to the nature of its short-term
investments, the CombiMatrix group believes that it is not subject to any
material market risk exposure.
At December 31, 2004, the CombiMatrix group had certain assets and
liabilities denominated in Japanese Yen as a result of forming CombiMatrix K.K.
However, due to the relative insignificance of those amounts, the CombiMatrix
group does not believe that it has significant exposure to foreign currency
exchange rate risks. The CombiMatrix group currently does not use derivative
financial instruments to mitigate this exposure. The CombiMatrix group continues
to review this and may begin hedging certain foreign exchange risks through the
use of currency forwards or options in future periods.
48
ACACIA TECHNOLOGIES GROUP MANAGEMENT'S DISCUSSION AND ANALYSIS
(A DIVISION OF ACACIA RESEARCH CORPORATION)
YOU SHOULD READ THIS DISCUSSION IN CONJUNCTION WITH THE ACACIA TECHNOLOGIES
GROUP, A DIVISION OF ACACIA RESEARCH CORPORATION, FINANCIAL STATEMENTS AND
RELATED NOTES AND THE ACACIA RESEARCH CORPORATION CONSOLIDATED FINANCIAL
STATEMENTS AND RELATED NOTES, BOTH INCLUDED ELSEWHERE HEREIN. HISTORICAL RESULTS
AND PERCENTAGE RELATIONSHIPS ARE NOT NECESSARILY INDICATIVE OF OPERATING RESULTS
FOR ANY FUTURE PERIODS.
GENERAL
See Item 1. "Business," for a description of the Acacia Technologies
group's business. Although the AR-Acacia Technologies stock is intended to
reflect the separate performance of the Acacia Technologies group, rather than
the performance of Acacia Research Corporation as a whole, the Acacia
Technologies group is not a separate legal entity. Holders of the AR-Acacia
Technologies stock are stockholders of Acacia Research Corporation. As a result,
they continue to be subject to all of the risks of an investment in a private company, Advanced Data
Exchange. This investment isAcacia
Research Corporation and all of Acacia Research Corporation's businesses, assets
and liabilities. The assets Acacia Research Corporation attributes to the Acacia
Technologies group could be subject to the liabilities of the CombiMatrix group.
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
RESULTS OF OPERATIONS
DIVISION NET LOSS (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Division net loss .................................... $ (5,543) $ (5,451) $ (12,754)
The changes in net loss were primarily due to operating results and
activities as discussed below.
REVENUES (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
License fees ......................................... $ 4,284 $ 692 $ 43
LICENSE FEES. License fee revenues are comprised of DMT technology license
fees and previously deferred V-chip technology license fees recognized by the
Acacia Technologies group. DMT technology license fees were $2.8 million and
$692,000 in 2004 and 2003, respectively. The increase was primarily due to the
significant growth in the number of DMT technology license agreements executed
since March 31, 2003. During 2004, we executed 170 DMT license agreements.
License fee revenues will fluctuate from period to period based on the increase
in license agreements executed, fluctuations in the sales results or other
royalty per unit activities of our licensees that impact the calculation of
license fees due, the timing of the receipt of periodic license fee statements
and or payments from licensees, and other factors. Periodic license fee revenues
may include amounts that relate to prior license periods or prior periods of
infringement, which are recognized as revenues in the period received. DMT
license fees related to prior periods of infringement for the periods presented
above were not significant. Costs incurred in connection with the Acacia
Technologies group's ongoing licensing activities are included in long-term assetsmarketing,
general and administrative expenses and do not expect to receive any additional
V-chip related revenues in future periods.
License fee revenues for 2004 include $1.5 million in previously deferred
V-chip license fees (originally deferred in 2001) recognized as a result of the
conclusion of V-chip related litigation in August 2004, as described at Item 3.
"Legal Proceedings." We concluded our V-chip licensing program in August 2004.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSE (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Marketing, general and administrative expenses ....... $ 5,049 $ 4,317 $ 6,883
Legal expenses - patents ............................. 3,133 1,886 1,415
49
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. The change in 2004, as
compared to 2003, was due primarily to an increase in costs related to the
addition of licensing and business development personnel of $418,000, an
increase in patent related commercialization costs of $110,000, and an increase
in corporate professional fees related to the group's Sarbanes-Oxley compliance
projects of $318,000.
The decrease in 2003, as compared to 2002, was due primarily to a decrease
in legal, accounting and other professional fees related to Acacia Research
Corporation's recapitalization and merger transactions completed in December
2002 of $1.3 million, a decrease in overhead related to a reduction in general
and administrative personnel of $837,000 and a decrease in general and
administrative expenses of $546,000. This decrease was partially offset by an
increase in costs related to the Acacia Technologies group's ongoing DMT patent
commercialization and enforcement efforts, including increased consulting and
engineering costs related to new patent claims, enforcement and the
identification of additional potential licensees of our DMT technology of
$219,000.
LEGAL EXPENSE - PATENTS. Patent related legal expenses in 2004 included
$668,000 in deferred V-chip related legal fees recognized as a result of the
conclusion of V-chip related litigation in August 2004, as described at Item 3.
"Legal Proceedings." The Acacia Technologies group's patent related legal
expenses, excluding V-chip related legal fees, increased to $2.5 million during
2004, as compared to $1.9 million, and $1.4 million in the comparable 2003 and
2002 periods, due to an increase in costs incurred in connection with the Acacia
Technologies group's ongoing DMT patent commercialization and enforcement
programs, including increased legal costs related to new patent claims and the
identification of additional potential licensees of our DMT technology and
increased patent enforcement costs related to ongoing DMT patent related
litigation. See Item 3. "Legal Proceedings" for a description of ongoing DMT
related litigation. We expect patent related legal expenses to continue to
fluctuate based on actual outside patent counsel fees incurred in connection
with the Acacia Technologies group's ongoing DMT and other patent
commercialization and enforcement programs. DMT related legal fees to outside
attorneys are charged based on actual time and out-of-pocket expenses incurred
by external counsel and are not incurred on a contingent fee basis.
In connection with the January 2005 acquisition as described above, the
Acacia Technologies group acquired 27 additional patent portfolios. Although
most litigation with respect to those portfolios is carriedlikely to be handled on a
contingency basis where attorneys fees are paid out of license fee revenues
collected, certain other costs and expenses in connection with the Acacia
Technologies group's maintenance, licensing, and enforcement of patents are
likely to increase as a result of the acquisition including patent filing fees,
patent development costs, travel costs, expert and consulting fees, and other
third-party expenses.
IMPAIRMENT CHARGES (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Goodwill impairment charge ........................... $ (1,656) $ - $ -
Impairment charge .................................... - (207) (2,748)
GOODWILL IMPAIRMENT CHARGE. In August 2004, as a result of the adverse
ruling in the Soundview Technologies litigation described at cost. We monitorItem 3. "Legal
Proceedings," the Acacia Technologies group recorded a non-cash impairment
charge, included in operating expenses, totaling $1.6 million associated with
the write-down of 100% of the goodwill related to the V-chip.
IMPAIRMENT OF COST METHOD INVESTMENT. In 2003, we recorded an impairment
charge of $207,000 for an other-than-temporary decline in the fair value of our
long-term minority investmentscost method investment. Impairment indicators included a continued decline in
private companies for
impairmentthe working capital of the entity and make appropriate reductions in carrying value whenreference to a recent equity transaction
and related valuation indicating an other-than-temporary decline in fair value
of the investment. In 2002, we recorded an impairment charge of $2.7 million for
an other-than-temporary decline in the fair value of the same cost method
investment. Impairment indicators included recurring losses, a decline in
working capital and the completion of a recent equity transaction at an amount
below our carrying value.
AMORTIZATION OF PATENTS (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Amortization of patents .............................. $ 501 $ 502 $ 1,591
The decrease in 2003, as compared to 2002, was due to a reduction in patent
amortization expense due to V-chip technology related patent costs and other
intangibles that were fully amortized during 2002. With the acquisition of the
assets of Global Patent Holdings, as described above, we expect that a
significant portion of the approximated $25.0 million purchase price will be
allocated to the patents acquired, which will be amortized over the economic
useful lives of the respective patents, resulting in increased amortization
charges in 2005 and future periods. See Note 15 to the Acacia Research
Corporation consolidated financial statements for additional information.
50
REALIZED AND UNREALIZED GAINS/LOSSES (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Realized gains (losses) on short-term investments .... - 94 (1,184)
Unrealized losses on short-term investments .......... - - (249)
The decrease is determineddue to exist.no investments classified as trading securities held
during 2004 and 2003 and the sale of the balance of our trading securities
during 2002.
INCOME TAXES (IN THOUSANDS)
2004 2003 2002
------------ ------------ ------------
Benefit for income taxes ............................. 139 137 710
The 2004, 2003 and 2002 income tax benefits primarily reflect the impact of
the reversal of deferred tax liabilities related to the amortization of
identifiable intangible assets related to certain of Acacia Research
Corporation's step acquisitions in 2002, 2001 and 2000. $569,000 of the 2002
income tax benefit also reflects the impact of differences between the 2001
income tax provision and Acacia Research Corporation's final 2001 consolidated
tax return filed in September 2002, and is the result of additional deductions
against Soundview Technologies taxable income.
INFLATION
Inflation has not had a significant impact on the Acacia Technologies group
in the current or previous periods.
LIQUIDITY AND CAPITAL RESOURCES
The Acacia Technologies group's cash and cash equivalents and short-term
investments totaled $28.6 million at December 31, 2004, compared to $33.2
million at December 31, 2003. Working capital at December 31, 2004 was $27.1
million, compared to $32.7 million at December 31, 2003.
The changes in cash and cash equivalents for 2004, 2003 and 2002 were
comprised of the following (in thousands):
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------------
2004 2003 2002
------------ ------------ ------------
Net cash provided by (used in) continuing operations:
Operating activities .................................. $ (3,232) $ (5,264) $ (3,519)
Investing activities .................................. (180) (5,062) (8,342)
Financing activities .................................. (305) (417) (2,048)
Net cash used in discontinued operations ................ (925) (907) (908)
------------ ------------ ------------
Increase (decrease) in cash and cash equivalents ........ $ (4,642) $ (11,650) $ (14,817)
============ ============ ============
The change in net cash outflows from operations for the Acacia Technologies
group was primarily due to an increase in DMT license fee payments received from
licensees which totaled $3.1 million in 2004, compared to $665,000, in the
comparable 2003 period, which was partially offset by the increase in marketing,
general and administrative expenses as discussed above and the impact of the
timing of vendor payments.
The increase in net cash outflows from operations in 2003, as compared to
2002, was primarily due to an increase in costs incurred in connection with the
launch of the Acacia Technologies group's ongoing DMT patent commercialization
and enforcement programs, including increased legal costs related to new patent
claims and the identification of additional potential licensees of our DMT
technology and the timing of vendor payments, primarily related to professional
fees incurred in connection with Acacia Research Corporation's merger and
recapitalization transaction completed 2002. The increase in costs was partially
offset by payments received from licensees in 2003 totaling $665,000 in
connection with the launch of the Acacia Technologies group's DMT licensing
program.
The change in net cash flows provided by (used in) continuing investing was
primarily due to the purchases and sales of short-term investments in connection
with the Acacia Technologies group's ongoing short-term cash management
activities.
51
Net cash outflows attributed to the Acacia Technologies group from
financing activities in 2004, 2003 and 2002 were comprised of corporate and
acquisition costs allocated to the CombiMatrix group of $396,000, $620,000 and
$1.9 million, respectively, partially offset by AR-Acacia Technologies sock
option exercise proceeds of $90,000, $190,000 and $136,000, respectively.
In February 2005, Acacia Research Corporation raised gross proceeds of
$19,600,000 through the sale of 3,500,000 shares of Acacia Research - Acacia
Technologies common stock at a price of $5.60 per share in a registered direct
offering. Net proceeds raised of approximately $19,575,000, which are net of
related issuance costs, were attributed to the Acacia Technologies group. All of
the shares of Acacia Research-Acacia Technologies common stock were offered
pursuant to an effective registration statement previously filed with the
Securities and Exchange Commission.
The Acacia Technologies group believes that its cash and cash equivalent
balances, including the proceeds from the February 2005 equity financing
described above, anticipated cash flow from operations and other external
sources of available credit will be sufficient to meet its cash requirements
through at least the next twelve months.
To date, the Acacia Technologies group has relied primarily upon selling of
Acacia Research Corporation equity securities and payments from our V-chip
licensees (primarily in 2001) and DMT licensees (2003 to current) to generate
the funds needed to finance the operations of the Acacia Technologies group. As
discussed earlier, the V-chip patent expired in July 2003, and the Judge
affirmed the ruling of non-infringement as discussed above. In 2003, the Acacia
Technologies group began to commercially license its DMT technology recognizing
approximately $3.5 million in DMT license fee revenues to date, and intends to
acquire and develop additional intellectual property. In July 2004, the Acacia
Technologies group acquired U.S. Patent No. 6,226,677 from LodgeNet
Entertainment Corporation, which covers technology and methods for redirecting
users to a login page when accessing the Internet, and launched its licensing
and enforcement program for this patent in the third quarter of 2004. Acacia
Global Acquisition Corporation's acquisition of the assets of Global Patent
Holdings, LLC as discussed above, provides the Acacia Technologies group with
ownership of companies that control 27 patent portfolios, which include 120 U.S.
patents and certain foreign counterparts, and cover technologies used in a wide
variety of industries. The acquisitions expand and diversify the Acacia
Technologies group's revenue generating opportunities.
However, there can be no assurance that the Acacia Technologies group will
be able to implement its future plans. Failure by management to achieve its
plans would have a material adverse effect on the Acacia Technologies group and
on Acacia Research Corporation's ability to achieve its intended business
objectives. The Acacia Technologies group's success also depends on its ability
to protect its intellectual property.
The timing of the receipt of revenues by the Acacia Technologies group's
business operations are subject to certain risks and uncertainties, including:
o market acceptance of our technologies and services;
o business activities and financial results of our licensees;
o technological advances that may make our technologies obsolete or less
competitive;
o increases in operating costs, including costs for legal services,
engineering and research and personnel;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that may restrict the Acacia Technologies
group's business.
OFF-BALANCE SHEET ARRANGEMENTS
The Acacia Technologies group has not entered into off-balance sheet
financing arrangements, other than operating leases. The Acacia Technologies
group has no significant commitments for capital expenditures in 2005. Other
than as set forth below, the Acacia Technologies group has no committed lines of
credit or other committed funding or long-term debt. The following table lists
the Acacia Technologies group's material known future cash commitments as of
December 31, 2004, and material known commitments arising from events subsequent
to year end:
PAYMENTS DUE BY PERIOD (IN THOUSANDS)
--------------------------------------------------------------
2009 AND
CONTRACTUAL OBLIGATIONS 2005 2006 2007 2008 THEREAFTER
---------- ---------- ---------- ---------- ----------
Operating Leases (1) .......................... $ 348 $ 390 $ 49 $ - $ -
Consulting contract (2) ....................... 974 1,074 99 - -
---------- ---------- ---------- ---------- ----------
Total Contractual Cash Obligations ............ $ 1,322 $ 1,464 $ 148 $ - $ -
========== ========== ========== ========== ==========
52
- -------------
(1) Excludes any allocated rent expense in connection with Acacia Research
Corporation's management allocation policies.
(2) Reflects $2.0 million consulting contract commitment, including
reimbursable expenses, to be paid over two years in connection with the
Acacia Technologies group's purchase of the assets of Global Patent
Holdings, LLC in January 2005, as described above.
In connection with the purchase of the outstanding ownership interests in
Acacia Media Technologies in November 2001, Acacia Media Technologies also
executed related assignment agreements which granted to the former owners of
Acacia Media Technologies' current patent portfolio the right to receive a
royalty of 15% of future net revenues, as defined in the agreements, generated
by Acacia Media Technologies' current patent portfolio, which includes its DMT
patents. No royalty obligation has been incurred as of December 31, 2004. Any
royalties paid pursuant to the agreements will be expensed in the statement of
operations.
RECENT ACCOUNTING PRONOUNCEMENTS
Refer to Note 2 to the Acacia Research Corporation consolidated financial
statements included elsewhere herein.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Acacia Technologies group's exposure to market risk is limited
primarily to interest income sensitivity, which is affected by changes in the
general level of United States interest rates, particularly because a
significant portion of our investments are in short-term debt securities issued
by United States corporations, institutional money market funds and other money
market instruments. The primary objective of our investment activities is to
preserve principal while at the same time maximizing the income received without
significantly increasing risk. To minimize risk, we maintain a portfolio of
cash, cash equivalents and short-term investments in a variety of
investment-grade securities and with a variety of issuers, including U.S.
government and corporate notes and bonds, commercial paper and money market
instruments. Due to the nature of our short-term investments, we believe that we
are not subject to any material market risk exposure. We do not have any
derivative financial instruments.
RISK FACTORS
An investment in our stock involves a number of risks. Before making a
decision to purchase our securities, you should carefully consider all of the
risks described in this annual report. If any of the risks incorporated by
reference into this annual report actually occur, our business, financial
condition and results of operations could be materially adversely affected. If
this were to occur, the trading price of our securities could decline
significantly and you may lose all or part of your investment. You should
carefully review the "Risk Factors" set forth on pages 3 through 21 of our Form
S-3 Registration Statement filed on February 1, 2005, incorporated herein by
reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Refer to the caption "Quantitative and Qualitative Disclosures About Market
Risk" for Acacia Research Corporation, the CombiMatrix group and the Acacia
Technologies group under Item 7. "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The primary objective of our investment activities is to preserve principal
while concurrently maximizing the income we receive from our investments without
significantly increasing risk. Some of the securities that we may invest in may
be subject to market risk. This means that a change in prevailing interest rates
may cause the principal amount of the investment to fluctuate. For example, if
we hold a security that was issued with a fixed interest rate at the
then-prevailing rate and the prevailing interest rate later rises, the current
value of the principal amount of our investment will decline. To minimize this
risk in the future, we intend to maintain our portfolio of cash equivalents and
short-term investments in a variety of securities, including commercial paper,
money market funds, high-grade corporate bonds, government and non-government
debt securities and certificates of deposit. In general, money market funds are
not subject to market risk because the interest paid on such funds fluctuates
with the prevailing interest rate. As of December 31, 2004, all of our
investments were in money market funds, high-grade corporate bonds, certificates
of deposit and U.S. government debt securities. A hypothetical 100 basis point
increase in interest rates would not have a material impact on the fair value of
our available-for-sale securities as of December 31, 2004. See Note 3 to the
Acacia Research Corporation consolidated financial statements.
53
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY INFORMATIONDATA
The financial statements and related financial information required to be
filed hereunder are indexed under Item 1415 of this report and are incorporated
herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTSINDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
36ITEM 9A. CONTROLS AND PROCEDURES
CONCLUSION REGARDING THE EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management,
including our principal executive officer and principal financial officer, we
conducted an evaluation of our disclosure controls and procedures, as such term
is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of
1934, as amended. Based on this evaluation, our principal executive officer and
our principal financial officer concluded that, as of the end of the period
covered by this annual report, our disclosure controls and procedures were
effective to ensure that the information required to be disclosed by us in the
reports that we file or submit under the Securities Exchange Act of 1934 is
accumulated and communicated to management, including our chief executive
officer and chief financial officer, to allow timely decisions regarding
required disclosure, and that such information is recorded, processed,
summarized and reported within the time periods prescribed by the SEC.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate
internal control over financial reporting, as such term is defined in Exchange
Act Rule 13a-15(f). Under the supervision and with the participation of our
management, including our principal executive officer and principal financial
officer, we conducted an evaluation of the effectiveness of our internal control
over financial reporting based on the framework in Internal Control - Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on our evaluation under the framework in Internal Control -
Integrated Framework, our management concluded that our internal control over
financial reporting was effective as of December 31, 2004.
Our management's assessment of the effectiveness of our internal control
over financial reporting as of December 31, 2004 has been audited by
PricewaterhouseCoopers LLP, an independent registered public accounting firm, as
stated in their report which is included herein.
ITEM 9B. OTHER INFORMATION
None
54
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
TheExcept as provided below, the information required by this Item is
incorporated by reference from the information under the captions entitled
"Election of Directors-Nominees," "Executive Officers" and "Section 16(a)
Beneficial Ownership Reporting Compliance" in our definitive proxy statement to
be filed with the SEC no later than April 30, 2002.2005.
CODE OF CONDUCT.
Acacia Research Corporation has adopted a Code of Conduct that applies to
all of its employees, including its chief executive officer, chief financial and
accounting officer, president and any persons performing similar functions. Our
Code of Conduct is provided on our internet website at www.acaciaresearch.com.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference from the
information under the caption entitled "Executive Officer Compensation"Compensation and Other
Information" in our definitive proxy statement to be filed with the SEC no later
than April 30, 2002.2005.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated by reference from the
information under the caption entitled "Security Ownership of Certain Beneficial
Owners and Management" in our definitive proxy statement to be filed with the
SEC no later than April 30, 2002.2005.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated by reference from the
information under the caption entitled "Transactions with Management and
Others""Certain Transactions" in our definitive
proxy statement to be filed with the SEC no later than April 30, 2002.
372005.
ITEM 14. PRINICPAL ACCOUNTING FEES AND SERVICES
The information required by this Item is incorporated by reference from the
information under the caption entitled "Audit Committee Report" in our
definitive proxy statement to be filed with the SEC no later than April 30,
2005.
55
PART IV
ITEM 14.15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
AND REPORTS ON FORM 8-K
(a) (1) Financial Statements
PAGE
----
Report of Independent Accountants................................................F-1
Consolidated Balance Sheets as of December 31, 2001 and 2000.....................F-2
Consolidated Statements of Operations and Comprehensive Loss
for the Years Ended December 31, 2001, 2000 and 1999..........................F-3
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 2001, 2000 and 1999........................................F-4
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2001, 2000 and 1999..............................................F-5
Notes to Consolidated Financial Statements.......................................F-6
(a) The following documents are filed as part of this report.
(1) Financial Statements
Acacia Research Corporation Consolidated Financial Statements PAGE
----
Report of Independent Registered Public Accounting Firm................F-1
Consolidated Balance Sheets as of December 31, 2004 and 2003...........F-2
Consolidated Statements of Operations and Comprehensive Loss
for the Years Ended December 31, 2004, 2003 and 2002................F-3
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 2004, 2003 and 2002..............................F-4
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2004, 2003 and 2002....................................F-5
Notes to Consolidated Financial Statements.............................F-6
*CombiMatrix Group Financial Statements PAGE
(A Division of Acacia Research Corporation) ----
Report of Independent Registered Public Accounting Firm................F-43
Balance Sheets as of December 31, 2004 and 2003........................F-44
Statements of Operations
for the Years Ended December 31, 2004, 2003 and 2002................F-45
Statements of Allocated Net Worth for the Years
Ended December 31, 2004, 2003 and 2002..............................F-46
Statements of Cash Flows for the Years Ended
December 31, 2004, 2003 and 2002....................................F-47
Notes to Financial Statements..........................................F-48
*Acacia Technologies Group Financial Statements PAGE
(A Division of Acacia Research Corporation) ----
Report of Independent Registered Public Accounting Firm................F-64
Balance Sheets as of December 31, 2004 and 2003........................F-65
Statements of Operations
for the Years Ended December 31, 2004, 2003 and 2002................F-66
Statements of Allocated Net Worth for the Years
Ended December 31, 2004, 2003 and 2001..............................F-67
Statements of Cash Flows for the Years Ended
December 31, 2004, 2003 and 2002....................................F-68
Notes to Financial Statements..........................................F-69
*NOTE: We are presenting, the Acacia Research Corporation consolidated financial
statements and the separate financial statements for the CombiMatrix group and
the Acacia Technologies group. The separate financial statements and
accompanying notes of the two groups are being provided as additional disclosure
regarding the financial performance of the two divisions and to provide
investors with information regarding the potential value and operating results
of the respective businesses, which may affect the respective share values. The
separate financial statements should be reviewed in conjunction with Acacia
Research Corporation's consolidated financial statements and accompanying notes.
The presentation of separate financial statements is not intended to indicate
that we have changed the title to any of our assets or changed the
responsibility for any of our liabilities, nor is it intended to indicate that
the rights of our creditors have been changed. Acacia Research Corporation, and
not the individual groups, is the issuer of the securities. Holders of the two
securities are stockholders of Acacia Research Corporation and do not have a
separate and exclusive interest in the respective groups.
56
(2) FINANCIAL STATEMENT SCHEDULES.Financial Statement Schedules
Financial statement schedules are omitted because they are not applicable
or the required information is shown in the Financial Statements or the
Notes thereto.
(3) EXHIBITS.Exhibits
See Item 15(b) below
(b) Exhibits. The following exhibits are either filed herewith or incorporated
herein by reference:
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
2.1 Agreement and Plan of Merger of Acacia Research Corporation, a
California corporation, and Acacia Research Corporation, a Delaware
corporation, dated as of December 23, 1999 (1)
2.2 Agreement and Plan of Reorganization by and among Acacia Research
Corporation, Combi Acquisition Corp. and CombiMatrix Corporation dated
as of March 20, 2002 (attached as Annex A to the Prospectus/Proxy
Statement included in this Registration Statement)
3.1 Restated Certificate of Incorporation (2)
3.2 Amended and Restated Bylaws (3)
4.210.1 Acacia Research Corporation 1996 Stock Option Plan, as amended (4)
10.2 Form of Specimen Certificate of Acacia's CommonOption Agreement constituting the Acacia Research Corporation
1996 Executive Stock (4)
10.1 Lease Agreement dated April 30,Bonus Plan (5)
10.3 CombiMatrix Corporation 1998 betweenStock Option Plan (6)
10.4 CombiMatrix Corporation 2000 Stock Awards Plan (6)
10.5 2002 CombiMatrix Stock Incentive Plan (7)
10.6 2002 Acacia and EOP-Pasadena
Towers, L.L.C., a Delaware limited liability company doing business as
EOP-Pasadena, LLC (5)
10.2Technologies Stock Incentive Plan (8)
10.7 Lease Agreement between Soundbreak.com Incorporated and 8730 Sunset
Towers and related Guaranty (6)
10.3 1993 Stock Option Plan (7)
10.4 Form of Stock Option Agreement for 1993 Stock Option Plan (7)
10.5 1996 Stock Option Plan (8)
10.6 Form of Option Agreement constituting the 1996 Executive Stock Bonus Plan
(9)
10.7 Agreement between Acacia Research and Paul Ryan (10)
10.8 First Amendment dated June 26, 2000, to Lease Agreement between Acacia
and Pasadena Towers, L.L.C.
10.9* Research & Development Agreement dated as of June 18, 2001, between
CombiMatrix Corporation and Roche Diagnostics GmbH (3)
10.10* License and Supply Agreement dated as of July 1, 2001, between
CombiMatrix Corporation and Roche Diagnostics GmbH (3)
10.11 Sublease dated November 30, 2001, between Acacia and Jenkens & Gilchrist
10.12 Lease Agreement dated January 28, 2002, between Acacia Research
Corporation and The Irvine Company 18.1 Preferability letter from PricewaterhouseCoopers LLP,(10)
10.9 Settlement Agreement dated asSeptember 30, 2002, by and among Acacia
Research Corporation, CombiMatrix Corporation, Donald D. Montgomery,
Ph.D. and Nanogen, Inc.(6)
10.10+ Research & Development Agreement dated September 25, 2002, between
CombiMatrix Corporation and Roche Diagnostics GmbH (6)
10.11+ License Agreement dated September 25, 2002 between CombiMatrix
Corporation and Roche Diagnostics GmbH (6)
10.12 Form of March
31, 2002, regarding change in accounting policy
21Indemnification Agreement (11)
10.13 Series A Preferred Stock Purchase Agreement dated October 1, 2004, by
and between Leuchemix, Inc. and CombiMatrix Corporation (12)
10.14 Investor Rights Agreement dated October 1, 2004, by and among
Leuchemix, Inc., the holders of Common Stock set forth on Exhibit A
attached thereto, and CombiMatrix Corporation (12)
10.15 Voting Agreement dated October 1, 2004, by and among Leuchemix, Inc.,
CombiMatrix Corporation and the holders of the Common Stock set forth
on Exhibit A attached thereto (12)
10.16 Right of First Refusal and Co-Sale Agreement dated October 1, 2004, by
and among Leuchemix, Inc., the holders of Common Stock set forth on
Exhibit A attached thereto, and CombiMatrix Corporation (11)
10.17 Letter of Intent dated December 15, 2004 between Acacia Research
Corporation and Global Patent Holdings LLC
21.1 List of Subsidiaries
23.1 Consent of PricewaterhouseCoopers LLP - -----------
* Confidential treatment for portions(relating to the financial
statements of these exhibits grantedAcacia Research Corporation)
23.2 Consent of PricewaterhouseCoopers LLP (relating to the financial
statements of CombiMatrix Corporation)
23.3 Consent of PricewaterhouseCoopers LLP (relating to the financial
statements of the Acacia Technologies group and the CombiMatrix group)
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002
32.1 Certification of the Chief Executive Officer provided pursuant to an
Order Granting Confidential Treatment under18
U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Securities ExchangeSarbanes-Oxley Act of 1934,
issued on November 9, 2001, by2002
32.2 Certification of the Chief Financial Officer provided pursuant to 18
U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
57
- ----------
+ Portions of this exhibit have been omitted pursuant to a request for
confidential treatment and have been filed separately with the United
States Securities and Exchange Commission.
38
(1) Incorporated by reference from Acacia'sAcacia Research Corporation's Report on Form
8-K filed on December 30, 1999 (SEC File No. 000-26068).
(2) Incorporated by reference as Appendix AB to the Definitive Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Schedule 14A filed on November 2, 1999Form S-4 (SEC File No. 000-26068) and to the Definitive Proxy Statement333-87654) which became effective on Schedule 14A filed
on April 10, 2000 (SEC File No. 000-26068).November 8,
2002.
(3) Incorporated by reference from Acacia'sAcacia Research Corporation's Quarterly
Report on Form 10-Q filed on August 10, 2001 (SEC File No. 000-26068).
(4) Incorporated by reference from Amendment No. 2 on Form 8-A/A filed on
December 30, 1999 (SEC File No. 000-26068).
(5) Incorporated by reference from Acacia's Quarterly Report on Form 10-Q
filed on August 14, 1998. (SEC File No. 000-26068).
(6) Incorporated by reference from Acacia's Quarterly Report on Form 10-Q
filed on November 15, 1999. (SEC File No. 000-26068).
(7) Incorporated by reference from Acacia's Registration Statement on Form
SB-2 (33-87368-L.A.), which became effective under the Securities Act
of 1933, as amended, on June 15, 1995.
(8) Incorporated by reference as Appendix A to the Definitive Proxy Statement
on Schedule 14A filed on April 10, 2000 (SEC File No. 000-26068).
(9)(5) Incorporated by reference from Acacia'sAcacia Research Corporation's Definitive
Proxy as Appendix A Statement on Schedule 14A filed on April 26, 1996 (SEC
File No. 000-26068).
(6) Incorporated by reference to Acacia Research Corporation's Registration
Statement on Form S-4 (SEC File No. 333-87654) which became effective on
November 8, 2002.
(7) Incorporated by reference as Appendix D to the Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Form S-4 (SEC File No. 333-87654) which became effective on November 8,
2002.
(8) Incorporated by reference as Appendix E to the Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Form S-4 (SEC File No. 333-87654) which became effective on November 8,
2002.
(9) Incorporated by reference to Acacia Research Corporation's Quarterly Report
on Form 10-Q filed on November 15, 1999 (SEC File No. 000-26068).
(10) IncorporateIncorporated by reference from Acacia'sAcacia Research Corporation's Annual Report
on Form 10-K for the year ended December 31, 19972001 filed on March 30, 199827, 2002
(SEC File No. 000-26068).
(b) Reports on Form 8-K.
On October 24, 2001,(11) Incorporated by reference from Acacia filed a CurrentResearch Corporation's Annual Report
on Form 8-K to
report results10-K for the quarteryear ended September 30, 2001.
On October 26, 2001,December 31, 2002 filed on March 27, 2003
(SEC File No. 000-26068)
(12) Incorporated by reference from Acacia filed a CurrentResearch Corporation's Quarterly
Report on Form 8-K to
report the declaration by Acacia's board of directors of a ten percent (10%)
stock dividend for stockholders of record as of November 21, 2001, with a
payment date of December 5, 2001.
On October 30, 2001, Acacia filed a Current Report on Form 8-K/A to
amend the Form 8-K dated October 23, 2001 and10-Q filed on October 26, 2001 to
report that the Form 8-K/A was being filed solely to reflect that the Form 8-K
dated October 23, 2001 was filed under ItemNovember 5, rather than under Item 9.
On November 14, 2001, Acacia filed a Current Report on Form 8-K to
report the filing with the SEC of Acacia's Form 10-Q for the quarter ended
September 30, 2001, with retroactive recognition of the ten percent (10%) stock
dividend in earnings per shares computations.
On December 21, 2001, Acacia filed a Current Report on Form 8-K to
report the establishment by Paul R. Ryan, Chairman of the Board and Chief
Executive Officer of Acacia, of a plan under Rule 10b5-1 of the SEC to provide
predetermined sales of a portion of his Acacia common stock.
392004 (SEC File No. 000-26068).
58
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.
DATED: March 27, 200215, 2005 ACACIA RESEARCH CORPORATION
/s/ Paul R. Ryan
--------------------------------------------------------------
Paul R. Ryan
CHAIRMAN OF THE BOARD
AND CHIEF EXECUTIVE OFFICER
(AUTHORIZED SIGNATORY)
Pursuant to the requirements of the Securities and Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Paul R. Ryan Chairman of the Board and March 27, 2002
- ----------------------------------- Chief Executive Officer
Paul R. Ryan (Principal Chief Executive)
/s/ Robert L. Harris, II Director and President March 27, 2002
- -----------------------------------
Robert L. Harris, II
/s/ Clayton J. Haynes Chief Financial Officer March 27, 2002
- ----------------------------------- (Principal Financial Officer)
Clayton J. Haynes
/s/ Thomas B. Akin Director March 27, 2002
- -----------------------------------
Thomas B. Akin
/s/ Fred A. de Boom Director March 27, 2002
- -----------------------------------
Fred A. de Boom
/s/ Edward W. Frykman Director March 27, 2002
- -----------------------------------SIGNATURE TITLE DATE
--------- ----- ----
/s/ Paul R. Ryan Chairman of the Board and March 15, 2005
- ---------------------------- Chief Executive Officer
Paul R. Ryan (Principal Chief Executive)
/s/ Robert L. Harris, II Director and President March 15, 2005
- ----------------------------
Robert L. Harris, II
/s/ Clayton J. Haynes Chief Financial Officer March 15, 2005
- ---------------------------- (Principal Financial Officer)
Clayton J. Haynes
/s/ Thomas B. Akin Director March 15, 2005
- ----------------------------
Thomas B. Akin
/s/ Fred A. de Boom Director March 15, 2005
- ----------------------------
Fred A. de Boom
/s/ Edward W. Frykman Director March 15, 2005
- ----------------------------
Edward W. Frykman
/s/ G. Louis Graziadio, III Director March 27, 2002
- ----------------------------------- G. Louis Graziadio, III
40Director March 15, 2005
- ----------------------------
G. Louis Graziadio, III
/s/ Amit Kumar, Ph.D. Director March 15, 2005
- ----------------------------
Amit Kumar, Ph.D.
/s/ Rigdon Currie Director March 15, 2005
- ----------------------------
Rigdon Currie
59
REPORT OF INDEPENDENT ACCOUNTANTSREGISTERED PUBLIC ACCOUNTING FIRM
To theThe Board of Directors and StockholdersShareholders
We have completed an integrated audit of Acacia Research CorporationCorporation's December
31, 2004 consolidated financial statements and of its internal control over
financial reporting as of December 31, 2004 and audits of its December 31, 2003
and December 31, 2002 consolidated financial statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States). Our
opinions, based on our audits, are presented below.
Consolidated Financial statements
- ---------------------------------
In our opinion, the consolidated financial statements listed in the index
appearing under Item 14(a)15(a)(1) on page 3856 present fairly, in all material
respects, the financial position of Acacia Research Corporation ("Acacia" or
"we") and its
subsidiaries at December 31, 20012004 and December 31, 2000,2003, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2001,2004 in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of Acacia's management; ourthe Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with auditingthe standards generally
accepted inof the United States of America, whichPublic
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. An audit of financial
statements 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, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As discussedInternal control over financial reporting
- -----------------------------------------
Also, in Note 2our opinion, management's assessment, included in the accompanying
Management's Report on Internal Control over Financial Reporting, that the
Company maintained effective internal control over financial reporting as of
December 31, 2004 based on the criteria established in Internal Control -
Integrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO), is fairly stated, in all material respects, based on
those criteria. Furthermore, in our opinion, the Company maintained, in all
material respects, effective internal control over financial reporting as of
December 31, 2004, based on the criteria established in Internal Control -
Integrated Framework issued by the COSO.
The Company's management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express
opinions on management's assessment and on the effectiveness of the Company's
internal control over financial reporting based on our audit. We conducted our
audit of internal control over financial reporting 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 effective internal control over financial reporting was
maintained in all material respects. An audit of internal control over financial
reporting includes obtaining an understanding of internal control over financial
reporting, evaluating management's assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing such other
procedures as we consider necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinions.
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (i) pertain to
the consolidatedmaintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements effective January 1, 2001, Acacia changed its balance sheet classification for
accrued subsidiary employee stock-based compensation charges, resulting in no
cumulativeaccordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition of the
company's assets that could have a material effect on income.
As discussed in Note 2the financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the consolidated financial statements,
effective October 1, 2000, Acacia adopted Emerging Issues Task Force Consensus
on Issue No. 00-27, "Applicationrisk that controls may become
inadequate because of Issue No. 98-5 to Certain Convertible
Instruments," resultingchanges in a chargeconditions, or that the degree of $246,000 incompliance
with the year ended December 31,
2000 for cumulative effect of change in accounting principle due to beneficial
conversion feature of debt.policies or procedures may deteriorate
/s/PricewaterhouseCoopers LLP
Los Angeles, California
February 25, 2002, except as to NoteMarch 14, which is as of March 27, 20022005
F-1
ACACIA RESEARCH CORPORATION
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 20012004 AND 20002003
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
2001 2000
---------- ----------
ASSETSDECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents ................................................................................................................ $ 59,45118,735 $ 36,16324,199
Short-term investments .................................................. 25,110 40,600.................................................................... 33,623 26,301
Accounts receivable, net of allowance for doubtful accounts of $0 (2004) and $145 (2003) ... 536 323
Prepaid expenses, other receivablesinventory, and other assets .................... 1,613 1,471
---------- ----------............................................. 983 1,180
------------ ------------
Total current assets ............................................... 86,174 78,234.................................................................... 53,877 52,003
Property and equipment, net of accumulated depreciation ...................... 4,906 3,727
Investment in affiliate, at equity ........................................... -- 346
Investment in affiliate, at cost ............................................. 3,000 3,000and amortization .................... 2,434 2,823
Patents, net of accumulated amortization ..................................... 11,855 9,038of $4,758 (2004) and $3,165 (2003) .................. 12,063 13,683
Goodwill net of accumulated amortization .................................... 4,627 3,904................................................................................... 19,545 21,200
Other assets ................................................................. 297 267
---------- ----------............................................................................... 408 331
------------ ------------
$ 110,85988,327 $ 98,516
========== ==========90,040
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued expenses and other .......................................................................... $ 5,7564,139 $ 7,7673,244
Current portion of deferred revenues .................................... 7,088 --
Current portion of capital lease obligation ............................. 934 --
Accrued stock compensation (Note 2) ..................................... -- 10,392
---------- ----------...................................................... 494 17,670
------------ ------------
Total current liabilities .......................................... 13,778 18,159............................................................... 4,633 20,914
Deferred income taxes ........................................................ 3,829 2,689....................................................................... 2,981 3,260
Deferred revenues, net of current portion .................................... 372 --
Capital lease obligation, net of current portion ............................. 1,845 --
---------- ----------................................................... 3,893 4,339
Other liabilities .......................................................................... 406 -
------------ ------------
Total liabilities .................................................. 19,824 20,848
---------- ----------....................................................................... 11,913 28,513
------------ ------------
Minority interests ......................................................................... 778 1,127
------------ ------------
Commitments and contingencies (Note 12)
Minority interests ........................................................... 32,303 17,524
---------- ----------13)
Redeemable Stockholders' equity:
Preferred stock
Acacia Research Corporation, par value $0.001 per share;
20,000,00010,000,000 shares authorized; no shares issued or outstanding .......................... -- --......................... - -
Common stock
Acacia Research - Acacia Technologies stock, par value $0.001
per share; 60,000,00050,000,000 shares authorized; 19,592,45919,811,524 and
16,090,587 (Note 1 and 7)19,739,984 shares issued and outstanding as of December 31,2001and 2000,31, 2004
and December 31, 2003, respectively ............................................................................ 20 1620
Acacia Research - CombiMatrix stock, par value $0.001 per share;
50,000,000 shares authorized; 31,200,496 and 26,328,122 shares
issued and outstanding as of December 31, 2004 and
December 31, 2003, respectively ....................................................... 31 26
Additional paid-in capital .............................................. 158,529 116,017
Warrants to purchase common................................................................ 263,900 244,517
Deferred stock ....................................... 199 86
Comprehensive (loss)compensation ............................................................... - (766)
Accumulated comprehensive income ............................................. (4) 77.......................................................... (77) 8
Accumulated deficit ..................................................... (100,012) (56,052)
---------- ----------....................................................................... (188,238) (183,405)
------------ ------------
Total stockholders' equity ......................................... 58,732 60,144
---------- ----------.............................................................. 75,636 60,400
------------ ------------
$ 110,85988,327 $ 98,516
========== ==========90,040
============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-2
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
FOR THE YEARS ENDED DECEMBER 31, 2001, 20002004, 2003 AND 19992002
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
2001 2000 1999
------------- ------------- -------------2004 2003 2002
------------ ------------ ------------
Revenues:
Research and development contract ..................................... $ 17,302 $ - $ -
License fee incomefees .......................................................... 4,284 692 43
Government contract ................................................... 1,993 - 378
Service contracts ..................................................... $ 24,180 $ -- $ --
Grant revenue .......................................................... 456 17 144
Other income ........................................................... -- 40 122
------------- ------------- -------------116 49 155
Products .............................................................. 230 407 306
------------ ------------ ------------
Total revenues ..................................................... 24,636 57 266
------------- ------------- -------------...................................................... 23,925 1,148 882
------------ ------------ ------------
Operating expenses:
Cost of government contract revenues .................................. 1,874 - -
Cost of product sales ................................................. 173 99 263
Research and development expenses (including..................................... 5,294 8,098 18,187
Charge for acquired in-process research and development ............... - - 17,237
Non-cash stock compensation charges of $7,183amortization - research and $3,397 in 2001 and 2000, respectively) ....... 18,839 11,864 1,806development ... 91 466 1,868
Marketing, general and administrative expenses (including........................ 17,559 14,917 18,632
Non-cash stock compensation charges of $13,636, $7,307amortization - marketing,
general and $146 in 2001, 2000
and 1999, respectively)administrative .......................................... 663 1,189 4,559
Goodwill impairment charge ............................................ 46,300 22,089 4,4181,656 - -
Amortization of patents and goodwill ................................... 2,695 2,251 1,622
Loss on disposal of consolidated subsidiaries .......................... -- 1,016 --
------------- ------------- -------------............................................... 1,597 1,597 1,990
Legal settlement charges .............................................. 812 144 18,471
------------ ------------ ------------
Total operating expenses .......................................... 67,834 37,220 7,846
------------- ------------- -------------............................................ 29,719 26,510 81,207
------------ ------------ ------------
Operating loss ......................................................... (43,198) (37,163) (7,580)
------------- ------------- -------------income (loss) ............................................. (5,794) (25,362) (80,325)
------------ ------------ ------------
Other income (expense):
Write-off of equity investments ........................................ -- (2,603) --Impairment charge ..................................................... - (207) (2,748)
Interest income ........................................................ 3,762 3,086 333....................................................... 801 735 1,209
Realized gains (losses) on short-term investments ............................... 350 -- --..................... - 94 (1,184)
Unrealized gainslosses on short-term investments ............................. 237 -- --........................... - - (249)
Interest expense ....................................................... (65) -- (254)
Equity in losses of affiliates ......................................... (195) (1,746) (1,121)...................................................... - - (203)
Other income ........................................................... 77 28 --
------------- ------------- -------------.......................................................... (17) - 64
------------ ------------ ------------
Total other income (expense) ...................................... 4,166 (1,235) (1,042)
------------- ------------- -------------
Loss........................................ 784 622 (3,111)
------------ ------------ ------------
Income (loss) from continuing operations before income taxes
and minority interests .. (39,032) (38,398) (8,622)
(Provision) benefit................................................ (5,010) (24,740) (83,436)
Benefit for income taxes ........................................ (780) 73 (20)
------------- ------------- -------------
Loss................................................ 275 273 857
------------ ------------ ------------
Income (loss) from continuing operations before minority
interests ................... (39,812) (38,325) (8,642)............................................................. (4,735) (24,467) (82,579)
Minority interests .......................................................... 17,540 9,166 1,221
------------- ------------- -------------
Loss...................................................... 6 47 23,806
------------ ------------ ------------
Income (loss) from continuing operations ............................................. (22,272) (29,159) (7,421)................................ (4,729) (24,420) (58,773)
------------ ------------ ------------
Discontinued operations
Loss from discontinued operations of Soundbreak.com .................... -- (7,443) (776)operations:
Estimated loss on disposal of Soundbreak.com ........................... -- (2,111) --
------------- ------------- -------------
Loss before cumulative effect of change in accounting principle ............. (22,272) (38,713) (8,197)
Cumulative effect of change in accounting principle due to
beneficial conversion feature of debt ................................... -- (246) --
------------- ------------- -------------discontinued operations ................. (104) - (200)
------------ ------------ ------------
Net loss .................................................................... (22,272) (38,959) (8,197)income (loss) ....................................................... (4,833) (24,420) (58,973)
------------ ------------ ------------
Unrealized gain (loss)gains (losses) on short-term investments ......................... (9) 77 --................... (65) (25) (38)
Unrealized lossgains (losses) on foreign currency translation .......................... (72) -- --
------------- ------------- -------------............. (20) 35 40
------------ ------------ ------------
Comprehensive loss ..........................................................income (loss) ............................................. $ (22,353)(4,918) $ (38,882)(24,410) $ (8,197)
============= ============= =============
Loss(58,971)
============ ============ ============
Earnings (loss) per common share:
BasicAttributable to the Acacia Technologies group:
Loss from continuing operations ............................................................................... $ (1.16)(5,439) $ (1.78)(5,451) $ (0.59)(12,554)
Basic and diluted loss per share .................................... (0.27) (0.28) (0.64)
Loss from discontinued operations ...................................... -- (0.58) (0.06)
Cumulative effect of change in accounting principle .................... -- (0.02) --
------------- ------------- -------------..................................... $ (104) $ - $ (200)
Basic and diluted loss per share .................................... (0.01) - (0.01)
Net loss .................................................................................................................................. $ (1.16)(5,543) $ (2.38)(5,451) $ (12,754)
Basic and diluted loss per share .................................... (0.28) (0.28) (0.65)
============= ============= =============Attributable to the CombiMatrix group:
Basic
Net income (loss) ..................................................... $ 710 $ (18,969) $ (46,219)
Basic earnings (loss) per share ..................................... 0.02 (0.76) (2.01)
Diluted
Loss from continuing operations ........................................Net income (loss) ..................................................... $ (1.16)710 $ (1.78)(18,969) $ (0.59)
Loss from discontinued operations ...................................... -- (0.58) (0.06)
Cumulative effect of change in accounting principle .................... -- (0.02) --
------------- ------------- -------------
Net loss .................................................................... $ (1.16) $ (2.38) $ (0.65)
============= ============= =============(46,219)
Diluted earnings (loss) per share ................................... 0.02 (0.76) (2.01)
Weighted average number of commonshares:
Acacia Research - Acacia Technologies stock:
Basic and potential common
shares outstanding used in computation of loss per share:diluted ................................................... 19,784,883 19,661,655 19,640,808
============ ============ ============
Acacia Research - CombiMatrix stock:
Basic .................................................................. 19,259,256 16,346,099 12,649,133............................................................... 29,962,596 24,827,819 22,950,746
============ ============ ============
Diluted ................................................................ 19,259,256 16,346,099 12,649,133............................................................. 30,995,663 24,827,819 22,950,746
============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-3
F-3
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2001, 20002004, 2003 AND 19992002
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
WARRANTS TO
ADDITIONAL PURCHASE COMPREHENSIVE
COMMON COMMON PAID-IN COMMON ACCUMULATED INCOME
SHARES STOCK CAPITAL STOCK DEFICIT (LOSS) TOTALAcacia AR-Acacia AR-Combi- Acacia AR-Acacia AR-Combi-
Research Technologies Matrix Research Technologies Matrix
Corporation Redeemable Redeemable Corporation Redeemable Redeemable
Common Shares Common Common Common Stock Common Common
(Predecessor) Shares Shares (Predecessor) Stock Stock
------------- ------------ -------- --------- -------- ----------- --------- ---------------------- ------------ ------------ ------------
19992002
Balance at December 31, 1998 .................. 10,190,815 $ 10 $ 26,727 $ 100 $ (8,896) $ -- $ 17,9412001 ...................... 19,592,459 - - 20 - -
Net loss ...................................... (8,197) (8,197)
Units issued in private placements, net ....... 974,771 1 19,014 58 19,073
Shares issued to purchase equity investments .. 60,107 288 288.......................................... - - - - - -
Stock options exercised ....................... 326,450 1 757 758
Warrants exercised ............................ 2,055,050 2 14,542 (100) 14,444
Increase........................... 48,349 - - - - -
Decrease in capital due to issuance of stock
by subsidiaries ............................ 928 928................................. - - - - - -
Compensation expense relating to stock options and warrants ....................... 27 27
------------ -------- --------- -------- ----------- --------- ----------
Balance at December 31, 1999 .................. 13,607,193 14 62,283 58 (17,093) -- 45,262
2000
Net.... - - - - - -
Unrealized loss ...................................... (38,959) (38,959)
Units issued in private placements, net ....... 872,638 1 22,199 86 22,286on short-term investments ......... - - - - - -
Unrealized gain on foreign currency translation ... - - - - - -
Dividends paid by subsidiary ...................... - - - - - -
Stock options exercised ....................... 543,961 1 2,131 2,132cancellation due to recapitalization ........ (19,640,808) - - (20) - -
Stock issuance due to recapitalization ............ - 19,640,808 10,963,499 - 20 11
Stock issuance related to acquisition of
additional CombiMatrix Corporation shares .............. 488,557 11,634 11,634....... - - 11,987,052 - - 12
Stock options exercised ........................... - - 14,228 - - -
Compensation expense relating to stock options .... - - - - - -
----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2002 ...................... - 19,640,808 22,964,779 - 20 23
2003
Net loss .......................................... - - - - - -
Stock options exercised ........................... - 99,176 253,036 - - -
Warrants exercised ............................ 578,238 14,878 (58) 14,820
Increase................................ - - 163,637 - - -
Employee stock grant .............................. - - 18,000 - - -
Units issued in private placement, net ............ - - 2,416,502 - - 2
Deferred stock compensation ....................... - - - - - -
Compensation expense relating to stock options .... - - - - - -
Stock option cancellations ........................ - - - - - -
Unrealized loss on short-term investments ......... - - - - - -
Unrealized gain on foreign currency translation ... - - - - - -
Legal settlement (see Note 13) .................... - - 16,378 - - -
Stock issuance related to acquisitions
(see Note 8) .................................... - - 495,790 - - 1
----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2003 ...................... - 19,739,984 26,328,122 - 20 26
2004
Net loss .......................................... - - - - - -
Stock options exercised ........................... - 71,540 987,911 - - 1
Warrants exercised ................................ - - 761,205 - - 1
Units issued in direct offering, net offering
costs ........................................... - - 3,000,000 - - 3
Compensation expense relating to stock options .... - - - - - -
Stock option cancellations ........................ - - - - - -
Unrealized loss on short-term investments ......... - - - - - -
Unrealized gain on foreign currency translation ... - - - - - -
Legal settlement (see Note 13) .................... - - 123,258 - - -
----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2004 ..................... - 19,811,524 31,200,496 $ - $ 20 $ 31
=========== =========== =========== =========== =========== ===========
continued on next page
F-4a
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
Additional Deferred
Paid-in Stock Accumulated Comprehensive
Capital Compensation Deficit Income (Loss) Total
------------ ------------ ------------ ------------ ------------
2002
Balance at December 31, 2001 ...................... 158,728 - (100,012) (4) $ 58,732
Net loss .......................................... - - (58,973) - (58,973)
Stock options exercised ........................... 136 - - - 136
Decrease in capital due to issuance of stock
by subsidiaries ............................ 2,293 2,293................................. (550) - - - (550)
Compensation expense relating to stock options and warrants ....................... 599 599.... 19 - - - 19
Unrealized loss on short-term investments ......... - - - (38) (38)
Unrealized gain on short-term investments ..... 77 77
------------ -------- --------- --------foreign currency translation ... - - - 40 40
Dividends paid by subsidiary ...................... (11) - - - (11)
Stock cancellation due to recapitalization ........ 20 - - - -
Stock issuance due to recapitalization ............ (31) - - - -
Stock issuance related to acquisition of
additional CombiMatrix Corporation shares ....... 80,370 (4,207) - - 76,175
Stock options exercised ........................... 29 - - - 29
Compensation expense relating to stock options .... 116 184 - - 300
----------- --------- --------------------- ----------- ----------- -----------
Balance at December 31, 2000 .................. 16,090,587 16 116,017 86 (56,052) 77 60,144
20012002 ...................... 238,826 (4,023) (158,985) (2) 75,859
2003
Net loss ...................................... (22,272) (22,272).......................................... - - (24,420) - (24,420)
Stock options exercised ........................... 692 - - - 692
Warrants exercised ................................ 450 - - - 450
Employee stock grant .............................. 60 - - - 60
Units issued in private placement, net ........ 1,127,274 1 18,247 113 18,361
Stock options exercised............ 4,860 - - - 4,862
Deferred stock compensation ....................... 596,888 1 1,251 1,252
Increase in capital due to issuance of stock
by subsidiaries ............................ 1,283 1,28311 (11) - - -
Compensation expense relating to stock options and warrants ....................... 47 47.... 24 1,825 - - 1,849
Stock dividend (Note 1 and 7) ................. 1,777,710 2 21,684 (21,688) (2)option cancellations ........................ (1,699) 1,443 - - (256)
Unrealized loss on short-term investments ..... (9) (9)......... - - - (25) (25)
Unrealized lossgain on foreign currency translation (72) (72)
------------ -------- --------- --------... - - - 35 35
Legal settlement (see Note 13) .................... 75 - - - 75
Stock issuance related to acquisitions
(see Note 8) .................................... 1,218 - - - 1,219
----------- --------- --------------------- ----------- ----------- -----------
Balance at December 31, 2001 .................. 19,592,4592003 ...................... 244,517 (766) (183,405) 8 60,400
2004
Net loss .......................................... - - (4,833) - (4,833)
Stock options exercised ........................... 3,113 - - - 3,114
Warrants exercised ................................ 2,093 - - - 2,094
Units issued in direct offering, net offering
costs ........................................... 13,712 - - - 13,715
Compensation expense relating to stock options .... 250 689 - - 939
Stock option cancellations ........................ (262) 77 - - (185)
Unrealized loss on short-term investments ......... - - - (65) (65)
Unrealized gain on foreign currency translation ... - - - (20) (20)
Legal settlement (see Note 13) .................... 477 - - - 477
---------- ----------- ----------- ----------- -----------
Balance at December 31, 2004 ...................... $ 20 $158,529263,900 $ 199- $ (100,012)(188,238) $ (4)(77) $ 58,732
============ ======== ========= ========75,636
========== =========== ========= ==========
F-4=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-4b
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2001, 20002004, 2003 AND 1999
(IN THOUSANDS)
2001 2000 1999
--------- --------- ---------2002
(In thousands)
2004 2003 2002
---------- ---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
LossCash flows from operating activities:
Net income (loss) from continuing operations ...................................................... $(22,272) $(29,159).......................................... $ (7,421)(4,729) $ (24,420) $ (58,773)
Adjustments to reconcile net lossincome (loss) from continuing operations
to net cash used in operating activities:
Depreciation and amortization ................................................... 3,869 2,657 1,771
Equity in losses of affiliates .................................................. 195 1,746 1,121....................................................... 2,751 3,025 3,533
Minority interests in net loss .................................................. (17,540) (9,166) (1,221)
Compensation expense relating to.................................................................. - (47) (23,806)
Non-cash stock options and warrants ..................... 20,819 10,704 146compensation amortization ............................................ 754 1,655 6,427
Charge for acquired in-process research and development ......................... -- 2,508 --............................. - - 17,237
Deferred tax benefit ............................................................ (182) (81) --
Write-off of other assets ....................................................... 918 -- --
Write-off of equity investments ................................................. -- 2,603 --................................................................ (279) (280) (289)
Net purchasessales of trading securities ............................................. (4,135) -- --..................................................... - - 4,124
Unrealized gainlosses on short-term investments ....................................... (237) -- --......................................... - - 249
Non-cash legal settlement charge .................................................... 812 - 17,471
Non-cash impairment charges ......................................................... 1,656 207 2,748
Other ........................................................................... 354 293 251.............................................................................. 82 29 99
Changes in assets and liabilities, net of effects of acquisitions:liabilities:
Accounts receivable ................................................................. (223) 255 (435)
Prepaid expenses, other receivablesinventory and other assets ............................ (713) (2,029) 223........................................ 809 124 257
Accounts payable, accrued expenses and other .................................... 1,085 2,040 415........................................ 1,173 (1,056) (143)
Deferred revenues ............................................................... 7,460 -- --
--------- --------- ---------................................................................... (17,622) 11,334 11,640
---------- ---------- ----------
Net cash used in operating activities offrom continuing operations .................. (10,379) (17,884) (4,715).................... (14,816) (9,174) (19,661)
Net cash used in operating activities offrom discontinued operations ................ (2,182) (16,600) (1,420)
--------- --------- ---------.................. (727) (551) (905)
---------- ---------- ----------
Net cash used in operating activities ........................................... (12,561) (34,484) (6,135)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of equity investments .................................................. -- (54) (2,387)............................................... (15,543) (9,725) (20,566)
---------- ---------- ----------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries ...................... (3,304) (970) --
Deposit on investment ........................................................... -- -- (3,000)
Withdrawals from partnerships ................................................... -- -- 1,710.......................... - - (200)
Purchase of property and equipment .............................................. (3,775) (2,476) (241)
Proceeds from sale.................................................. (891) (86) (1,080)
Sale of property and leaseback arrangement .................................... 3,000 -- --equipment ...................................................... - - 361
Purchase of available-for-sale investments .......................................... (59,241) (37,773) (19,088)
Sale of available-for-sale investments .......................................... 76,275 3,975 --
Purchase of available-for-sale investments ...................................... (56,686) (43,606) --.............................................. 51,759 30,801 20,383
Purchase of common stock from minority stockholders of subsidiaries ............. (2,550) -- --................. - - (217)
Acquisition costs ................................................................... - - (834)
Purchase of investment .............................................................. (255) - -
Other ........................................................................... -- -- (84)
--------- --------- ---------
Net cash provided by (used in) investing activities of continuing operations .... 12,960 (43,131) (4,002).............................................................................. - - (100)
---------- ---------- ----------
Net cash used in investing activities offrom continuing operations .................... (8,628) (7,058) (775)
Net cash used in investing activities from discontinued operations ................ (145) (1,173) (649)
--------- --------- ---------.................. (198) (356) (3)
---------- ---------- ----------
Net cash provided by (used in)used in investing activities ............................. 12,815 (44,304) (4,651)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:............................................... (8,826) (7,414) (778)
---------- ---------- ----------
Cash flows from financing activities:
Proceeds from the exercise of stock options and warrants ............................ 1,774 17,771 15,202
Capital contributions from minority stockholders of subsidiaries ................ 3,257 37,322 6,6345,207 1,142 242
Proceeds from sale of common stock, net of issuance costs ....................... 18,349 22,199 19,073........................... 13,715 4,862 -
Capital contributions from minority shareholders of subsidiaries, net
of issuance costs ................................................................. - - 300
Capital distributions to minority shareholders of subsidiaries, net
of issuance costs ................................................................. - - (618)
Repayment of capital lease obligation ............................................... - - (2,779)
Other ........................................................................... (221) 28 --
--------- --------- ---------.............................................................................. - 14 (11)
---------- ---------- ----------
Net cash provided by (used in) financing activities ....................................... 23,159 77,320 40,909
--------- --------- ---------
Increase (decrease) in cash and cash equivalents ................................ 23,413 (1,468) 30,123
Cash and cash equivalents, beginning ............................................ 36,163 37,631 7,508................................. 18,922 6,018 (2,866)
---------- ---------- ----------
Effect of exchange rate on cash ................................................. (125) -- --
--------- --------- ---------........................................................ (17) (13) 92
---------- ---------- ----------
Decrease in cash and cash equivalents .................................................. (5,464) (11,134) (24,118)
Cash and cash equivalents, beginning ................................................... 24,199 35,333 59,451
---------- ---------- ----------
Cash and cash equivalents, ending ..................................................................................................... $ 59,45118,735 $ 36,16324,199 $ 37,631
========= ========= =========35,333
========== ========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-5
ACACIA RESEARCH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Acacia Research Corporation ("Acacia" or "we"we," "us" and "our") develops, licenses and
provides products for the media technology andis comprised of two
operating groups.
Our life science sectors.
Acacia's media technologiessciences business, collectively referred to as "Acacia Media Technologies Group,the "CombiMatrix group," ownsis
comprised of our wholly owned subsidiary, CombiMatrix Corporation and
CombiMatrix Corporation's wholly owned subsidiary, CombiMatrix K.K.
The CombiMatrix group is seeking to become a broadly diversified
biotechnology company, through the development of proprietary technologies and
products in the areas of drug development, genetic analysis, nanotechnology
research, defense and homeland security markets, as well as other potential
markets where its products could be utilized. Among the technologies being
developed by the CombiMatrix group are a platform technology to rapidly produce
customizable arrays, which are semiconductor-based tools for use in identifying
and determining the roles of genes, gene mutations and proteins. This technology
has a wide range of potential applications in the areas of genomics, proteomics,
biosensors, drug discovery, drug development, diagnostics, combinatorial
chemistry, material sciences and nanotechnology. Other technologies include
proprietary molecular synthesis and screening methods for the discovery of
potential new drugs. CombiMatrix K.K., a wholly owned Japanese corporation
located in Tokyo, is exploring opportunities for CombiMatrix Corporation's array
system with pharmaceutical and biotechnology companies in the Asian market.
Our intellectual property relatedlicensing business, referred to the
telecommunications field, including a television blanking system, also known as the "V-chip,"the
Acacia Technologies group," which it licenses to television manufacturers. In addition,is primarily comprised of our interests in three
wholly owned subsidiaries: (1) Acacia Media Technologies Group owns a worldwide portfolio of pioneering patents
relating to audio and video transmission and receiving systems, commonly known
as audio-on-demand and video-on-demand, used for distributing content via
various methods including computer networks, cable television systems and direct
broadcasting satellite systems. Corporation, ("Acacia
Media Technologies") a Delaware corporation, (2) Soundview Technologies, Group is responsible
forInc.,
("Soundview Technologies") a Delaware corporation, and (3) Acacia Internet
Access Corporation, a Delaware corporation, and also includes all corporate
assets, liabilities, and related transactions of Acacia Research Corporation
attributed to the development, licensing and protection of itsAcacia Research Corporation's intellectual property licensing
business.
The Acacia Technologies group develops, acquires, and proprietarylicenses patented
technologies. Our mediaIncluding the impact of the January 28, 2005 acquisition of the
assets of Global Patent Holdings, LLC ("Global Patent Holdings") discussed at
Note 15, the Acacia Technologies group controls 29 patent portfolios, which
include 126 U.S. patents, and certain foreign counterparts, covering
technologies group continuesused in a wide variety of industries including
audio/video-on-demand, digital ad insertion, interactive television, broadcast
equipment, data transmission, cache coherency, data file synchronization, data
matrix bar codes, dynamic manufacturing models, product activation, encryption,
image resolution and enhancement, scheduling software, interstitial Internet
advertising, interactive simulation systems, peer to pursue both
licensingpeer network
communications, spreadsheet programs, endoscopic cameras, video noise reduction,
and strategic business alliances with leading companies in the rapidly
growing media technologies industry.
Acacia's life sciences business, collectively referred to as "Acacia
Life Sciences Group" is comprised of CombiMatrix Corporation ("CombiMatrix") and
Advanced Material Sciences, Inc. ("Advanced Material Sciences"). Our core
technology opportunity in the life sciences sector has been developed through
our majority-owned subsidiary, CombiMatrix. CombiMatrix is a life science
technology company with a proprietary system for rapid, cost competitive
creation of DNA and other compounds on a programmable semiconductor chip. This
proprietary technology has significant applications relating to genomic and
proteomic research. Our majority-owned subsidiary, Advanced Material Sciences,
holds the exclusive license for CombiMatrix's biological array processor
technology in certain fields of material sciences.audio/video synchronization.
We were incorporated on January 25, 1993 under the laws of the State of
California. In December 1999, we changed our state of incorporation from
California to Delaware.
LIQUIDITY AND RISKS
To date, we and our subsidiaries have relied primarily upon selling equity
securities and payments from our strategic partners and licensees to generate
the funds needed to finance the implementation of our plans of operation for our
subsidiaries. Management believes that our cash and cash equivalent balances,
anticipated cash flow from operations and other external sources of available
credit will be sufficient to meet our cash requirements through the next twelve
months. We may be required to obtain additional financing. We cannot assure that
additional funding will be available on favorable terms, if at all. If we fail
to obtain additional funding when needed, we may not be able to execute our
business plans and our businesses may suffer. Our business operations are also
subject to certain risks and uncertainties, including:
F-6
o market acceptance of products and services;
o technological advances that may make our products and services
obsolete or less competitive;
o increases in operating costs, including costs for supplies, personnel
and equipment;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that may restrict our subsidiaries'
businesses.
The CombiMatrix group is deploying unproven technologies and continues to
develop its commercial products. To date, the CombiMatrix group has relied
primarily upon selling equity securities, as well as payments from strategic
partners to generate the funds needed to finance the implementation of the
CombiMatrix group's business strategies. The CombiMatrix group has historically
been substantially dependent on its arrangements with strategic partners
including Roche Diagnostics GmbH ("Roche"), and has relied upon payments by
Roche and other partners for a majority of its future revenues. The CombiMatrix
group intends to enter into additional strategic partnerships to develop and
commercialize future products. However, there can be no assurance that the
CombiMatrix group will be able to implement its future plans. Failure by
management to achieve its plans would have a material adverse effect on the
CombiMatrix group's and Acacia ownsResearch Corporation's ability to achieve its
intended business objectives. The CombiMatrix group's success also depends on
its ability to protect its intellectual property.
In addition, the CombiMatrix group cannot assure that it will not encounter
unforeseen difficulties that may deplete capital resources more rapidly than
anticipated. Any efforts to seek additional funds could be made through equity,
debt or other external financings; however, the CombiMatrix group cannot assure
that additional funding will be available on favorable terms, if at all. If the
CombiMatrix group fails to obtain additional funding when needed, the
CombiMatrix group may not be able to execute its business strategies and operates emerging corporationsits
business may suffer.
The CombiMatrix group's business depends on issued and pending patents, and
the loss of any patents or the group's failure to secure the issuance of patents
covering elements of its business processes would materially harm its business
and financial condition. The patents covering the CombiMatrix group's core
technology begin to expire January 5, 2018.
To date, the Acacia Technologies group has relied primarily upon selling of
Acacia Research Corporation equity securities and payments from our V-chip
licensees (primarily in 2001) and Digital Media Transmission ("DMT(R)")
licensees (2003 to current) to generate the funds needed to finance the
operations of the Acacia Technologies group. The V-chip patent expired in July
2003. The V-chip licensing program was concluded in August 2004 and we do not
expect to collect any additional V-chip related license fee revenues in future
periods. The Acacia Technologies group began to commercially license its DMT
technology in 2003, recognizing approximately $3.5 million in DMT license fee
revenues to date, and intends to acquire and develop additional intellectual
property. Acacia Global Acquisition Corporation's acquisition of the assets of
Global Patent Holdings, LLC as discussed at Note 15, provides the Acacia
Technologies group with ownership of companies that control 27 patent
portfolios, which include 120 U.S. patents and certain foreign counterparts, and
cover technologies used in a wide variety of industries. The acquisition expands
and diversifies the Acacia Technologies group's revenue generating
opportunities.
However, there can be no assurance that the Acacia Technologies group will
be able to implement its future plans. Failure by management to achieve its
plans would have a material adverse effect on the Acacia Technologies group and
on Acacia Research Corporation's ability to achieve its intended business
objectives. The Acacia Technologies group's success also depends on its ability
to protect its intellectual property.
The Acacia Technologies group relies on its proprietary rights and their
protection. Although reasonable efforts will be taken to protect the Acacia
Technologies group's proprietary rights, the complexity of international trade
secret, copyright, trademark and patent law, and common law, coupled with
limited resources and the demands of quick delivery of technologies to market,
create risk that these efforts will prove inadequate. Accordingly, if we are
unsuccessful with litigation to protect our intellectual property rights, certain of which are involved in developing new or
unproven technologies. There is no assurance that any or all such technologies
will be successful, and even if successful, that the
development of such
technologies can be commercialized.
Below is a summary of our most significant wholly and majority-owned
subsidiaries and our related ownership percentages on an as-converted basis:
OWNERSHIP % AS OF 3/22/02
COMPANY NAME DESCRIPTION OF BUSINESS ON AN AS-CONVERTED BASIS
------------- ----------------------- ------------------------
ACACIA MEDIA TECHNOLOGIES GROUP:
Soundview Technologies Incorporated........ A media technology company that owns intellectual 100.0%
property related to the telecommunications field,
including a television blanking system, also
known as "V-chip," which it is licensing to
television manufacturers.
Acacia Media Technologies Corporation
(formerly Greenwich Information
Technologies LLC)....................... A media technology company that owns a worldwide 100.0%
portfolio of pioneering patents relating to audio
and video transmission and receiving systems,
commonly known as audio-on-demand and
video-on-demand, used for distributing content
via various methods including computer networks,
cable television systems and direct broadcasting
satellite systems.
F-6
ACACIA LIFE SCIENCES GROUP:
CombiMatrix Corporation.................... A life science technology company with a 57.5%(1)
proprietary system for rapid, cost competitive
creation of DNA and other compounds on a
programmable semiconductor chip. This proprietary
technology has significant applications relating
to genomic and proteomic research.
Advanced Material Sciences, Inc............ A development-stage company that holds the 58.1%(2)
exclusive license for CombiMatrix's biological
array processor technology in certain fields of
material science.
- ----------------------------------
(1) We are a party to a shareholder agreement with an officer of
CombiMatrix, which provides for (a) the collective voting of shares
(representing 69.5%future revenues of the voting interestsAcacia Technologies group could be adversely affected.
The Acacia Technologies group's U.S. DMT patents expire in 2011 and its foreign
DMT patents expire in 2012.
F-7
RECAPITALIZATION TRANSACTION
On December 11, 2002, our stockholders voted in favor of CombiMatrix) for the
election of certain directors to CombiMatrix's board of directors
and (b) certain restrictionsa recapitalization
transaction, which became effective on the sale or transfer of the
officer's sharesDecember 13, 2002, whereby we created two
new classes of common stock in CombiMatrix.
(2) Advanced Material Sciencescalled Acacia Research-CombiMatrix stock
("AR-CombiMatrix stock") and Acacia Research-Acacia Technologies stock
("AR-Acacia Technologies stock"), and divided our existing Acacia Research
Corporation common stock into shares of the two new classes of common stock.
AR-CombiMatrix stock is 58.1% owned by us, 28.5% owned byintended to reflect separately the performance of Acacia
Research Corporation's CombiMatrix group. AR-Acacia Technologies stock is
intended to reflect separately the performance of Acacia Research Corporation's
Acacia Technologies group. Although the AR-CombiMatrix stock and 13.4% owned by third-parties. We have a 74.5%
economic interest in Advanced Material Sciences by virtuethe AR-Acacia
Technologies stock are intended to reflect the performance of our 58.1% direct ownership interest in Advanced Material Sciences and
our 57.5% interest in CombiMatrix.
ACACIA RESEARCH CORPORATION
In January 2001, we completed an institutional private equity financing
raising gross proceedsdifferent
business groups, they are both classes of $19.0 million through the issuance of 1,107,274 units.
Each unit consists of one share of our common stock of Acacia Research
Corporation and one three-year callable
commonare not stock purchase warrant. Each common stock purchase warrant entitlesissued by the holder to purchase 1.10 shares of our common stock at a price of $19.09respective groups.
All share and per share and is callable by us once the closing bid price of our common stock
averages $23.86 or above for 20 or more consecutive trading days on the NASDAQ
National Market System. We issued an additional 20,000 units in lieu of cash
payments for finders' fees in conjunction with the private placement.
In June 2001, our ownership interest in Soundview Technologies
Incorporated ("Soundview Technologies") increased from 67% to 100%, following
Soundview Technologies' completion of a stock repurchase transaction with its
former minority stockholders. Soundview Technologies repurchased the stock of
its former minority stockholders in exchange for a cash payment and the grant to
such stockholders of the right to receive 26% of future net revenues generated
by Soundview Technologies' current patent portfolio, which includes its V-chip
patent.
On October 22, 2001, our board of directors declared a ten percent
(10%) stock dividend. The stock dividend totaling 1,777,710 shares of our common
stock was distributed on December 5, 2001 to stockholders of record as of
November 21, 2001. All references to the number of shares (other than common
stock issued or outstanding on the 2000 consolidated balance sheet and 2001,
2000 and 1999 consolidated statements of stockholders' equity), per share
amounts and any other reference to sharesinformation in the consolidated financial
statements and accompanying notes to the consolidated financial statements,
unless otherwise noted, have been adjusted to reflect the stock dividend on a
retroactive basis.
In November 2001, we increased our ownership interest in Acacia Media
Technologies Corporation ("Acacia Media Technologies"), formerly Greenwich
Information Technologies LLC, from 33% to 100% through the purchase of the
ownership interest of the former limited liability company's other member. In
December 2001, we converted the company from a limited liability company to a
corporation and changed the name of the company to Acacia Media Technologies.
In the third quarter of 2000, we completed a private offering of
861,638 units at $27.50 per unit for gross proceeds of approximately $23.7
million. Each unit consists of one share of common stock and one common stock
purchase warrant entitling the holder to purchase 1.10 shares of common stock at
an exercise price $30.00 per share, subject to adjustment, expiring in three
years. The warrants are callable by Acacia once the closing bid price of
Acacia's common stock averages $36.00 or above for 20 consecutive trading days
on the NASDAQ National Market System. We issued an additional 11,000 units in
lieu of cash payments for finders' fees in conjunction with the private
placement.
F-7
In the fourth quarter of 1999, we completed a private placement
consisting of the sale of units, each composed of one share of Acacia's common
stock and one-half of a common stock purchase warrant. We issued 974,771 units
at an offering price of $21.50 per unit. Approximately $21.0 million was raised
from this financing. During the first quarter of 2000, we issued a 30-day
redemption notice for these warrants. As a result, all of these warrants were
exercised priorgive effect to the redemption date with Acacia receiving proceedsrecapitalization as of approximately $14.8 million.
ACACIA MEDIA TECHNOLOGIES GROUP
SOUNDVIEW TECHNOLOGIES
In June 2001, Soundview Technologies repurchased the stock of the
former minority stockholders of Soundview Technologies in exchange for a cash
payment and the grant to the former stockholders of the right to receive 26% of
future net revenues generated by Soundview Technologies' current patent
portfolio, which includes its V-chip patent. As of December 31, 2001, total
consideration paid combined with amounts accrued pursuant to the stock
repurchase agreements totaled $2,767,000. As a result of the stock repurchase
transaction our ownership interest in Soundview Technologies increased from 67%
to 100%.
During 2001, Soundview Technologies executed separate settlement and/or
license agreements with Samsung Electronics, Hitachi America, Ltd., LG
Electronics, Inc., Funai Electric Co. Ltd., Daewoo Electronics Corporation of
America, Sanyo Manufacturing Corporation, Thomson Multimedia, Inc., JVC Americas
Corporation, Matsushita Electric Industrial Co., Ltd. and Orion Electric Co.,
Ltd. In addition, Soundview Technologies settled its lawsuits with Pioneer
Electronics (USA) Incorporated, an affiliate of Pioneer Corporation, and
received payments from Philips Electronics pursuant to a settlement and license
agreement signed in December 2000. Certain of these license agreements
constitute settlements of patent infringement litigation brought by Soundview
Technologies. As of December 31, 2001, we received license fee payments totaling
$25,630,000 from the settlement and license agreements and have granted
non-exclusive, retroactive and future licenses of Soundview Technologies' U.S.
Patent No. 4,554,584 to the respective television manufacturers. Certain of the
settlement and license agreements provide for future royalty payments to
Soundview Technologies. We received and recognized as revenue $2,390,000,
$10,000,000, $10,740,000 and $1,000,000 of the license fee payments during the
first, second, third and fourth quarters of 2001, respectively. License fee
payments received during 2001 totaling $1,500,000 are included in deferred
revenues pursuant to the terms of the respective agreements.
In the second quarter of 2000, Soundview Technologies announced that it
filed a federal patent infringement and antitrust lawsuit against Sony
Corporation of America, Philips Electronics North America Corporation, the
Consumer Electronics Manufacturers Association and the Electronics Industries
Alliance d/b/a/ Consumer Electronics Association. In its lawsuit, Soundview
Technologies alleged that Sony and Philips Television sets fitted with "V-chips"
infringe Soundview Technologies' patent and that the Consumer Electronics
Manufacturers Association had induced infringement of the patent.
ACACIA MEDIA TECHNOLOGIES
Acacia Media Technologies, formally Greenwich Information Technologies
LLC, owns a worldwide portfolio of pioneering patents relating to audio and
video transmission and receiving systems, commonly known as audio-on-demand and
video-on-demand, used for distributing content via various methods including
computer networks, cable television systems and direct broadcasting satellite
systems.
In November 2001, we increased our ownership interest in Acacia Media
Technologies from 33% to 100% through the purchase of the ownership interest of
the former limited liability company's other member. In December 2001, we
converted the company from a limited liability company to a corporation, and
changed the name of the company to Acacia Media Technologies Corporation.
F-8
ACACIA LIFE SCIENCES GROUP
COMBIMATRIX
In July 2001, CombiMatrix entered into a non-exclusive worldwide
license, supply, research and development agreement with Roche Diagnostics GmbH
("Roche"). Under the terms of the agreement, Roche will purchase, use and resell
CombiMatrix's microarray and related technologies for rapid production of
customizable biochips. Additionally, CombiMatrix and Roche will develop a
platform technology, providing a range of standardized biochips for use in
research applications. The agreement has a 15-year term and provides for minimum
payments by Roche to CombiMatrix over the first three years, including milestone
achievements, payments for products, royalties and research and development
projects. In the third and fourth quarters of 2001, CombiMatrix received
up-front and milestone payments totaling $5.3 million from Roche, which are
included in deferred revenues in the accompanying December 31, 2001 consolidated
balance sheet.
In August 2001, CombiMatrix entered into a license and supply agreement
with the National Aeronautics and Space Administration ("NASA"). The agreement
has a two-year tern and provides for the license, purchase and use by the NASA
Ames Research Center of CombiMatrix's active biochips (microarrays) and related
technology to conduct biological research in terrestrial laboratories and in
space.
In October 2001, CombiMatrix formed a joint venture with Marubeni
Japan, one of Japan's leading trading companies. The joint venture, based in
Tokyo, will focus on development and licensing opportunities for CombiMatrix's
biochip technology with pharmaceutical and biotechnology companies in the
Japanese market. Marubeni made an investment of $1.0 million to acquire a ten
percent (10%) minority interest in the joint venture.
In the first quarter of 2000, CombiMatrix completed a private equity
financing raising gross proceeds of $17.5 million through the sale of 3,500,000
shares of CombiMatrix common stock. Acacia invested $10.0 million in this
private placement to acquire 2,000,000 shares of CombiMatrix common stock. As a
result of the transaction, we increased our equity ownership in CombiMatrix from
50.01% to 51.8%.
In the third quarter of 2000, we increased our ownership interest in
CombiMatrix from 51.8% to 61.4% by acquiring an additional ownership position
from existing stockholders of CombiMatrix in exchange for 488,557 shares of
Acacia's common stock. This purchase was accounted for as a step acquisition.
The purchase price of $11.6 million was allocated to the fair value of assets
acquired and liabilities assumed, including acquired in-process research and
development. The amount attributable to goodwill was $2.9 million, which is
amortized using the straight-line method over the estimated remaining useful
life of five years. The amount attributable to in-process research and
development of $2.5 million was charged to expense and is included in the
consolidated statement of operations and comprehensive loss for the year ended
December 31, 2000.
In the third quarter of 2000, CombiMatrix completed a private equity
financing raising gross proceeds of $36.0 million through the sale of 4,000,000
shares of CombiMatrix common stock. Acacia invested $17.5 million in this
private placement to acquire 1,944,445 shares. As a result of the transaction,
our equity ownership in CombiMatrix decreased from 61.4% to 58.4%.
ADVANCED MATERIAL SCIENCES
In May 2001, Advanced Material Sciences completed a private equity
financing raising gross proceeds of $2.0 million through the issuance of
2,000,000 shares of common stock. Acacia invested $155,000 in this private
placement to acquire 155,000 shares. As a result of the transaction, our equity
ownership in Advanced Material Sciences decreased from 66.7% to 58.1%. Advanced
Material Sciences issued an additional 29,750 shares of common stock, in lieu of
cash payments, and warrants to purchase approximately 54,000 shares of common
stock, for finders' fees in connection with the private placement. Each common
stock purchase warrant entitles the holder to purchase shares of Advanced
Material Sciences common stock at a price of $1.10 per share.
Advanced Material Sciences was formed in November 2000 and holds an
exclusive license to CombiMatrix's biological processor technology within the
field of material science. Initial investments for Advanced Material Sciences
consisted of $2.0 million from us and $1.0 million from CombiMatrix.
F-9
January 1,
2002.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ACCOUNTING PRINCIPLES AND FISCAL YEAR END. The consolidated financial
statements and accompanying notes are prepared on the accrual basis of
accounting in accordance with generally accepted accounting principles in the
United States of America. We have a December 31 year end.
PRINCIPLES OF CONSOLIDATION. The accompanying consolidated financial
statements include the accounts of Acacia Research Corporation and its wholly-ownedwholly
owned and majority-owned subsidiaries. Investments for which Acacia Research
Corporation possesses the power to direct or cause the direction of the
management and policies, either through majority ownership or other means, are
accounted for under the consolidation method. Material intercompany transactions
and balances have been eliminated in consolidation. Investments in companies in
which we maintain an ownership interest of 20% to 50% or exercise significant
influence over operating and financial policies are accounted for under the
equity method. The cost method is used where we maintain ownership interests of
less than 20% and do not exercise significant influence over the investee.
REVISION IN THE CLASSIFICATION OF CERTAIN SECURITIES. In connection with
the preparation of this report, we concluded that it was appropriate to classify
our auction rate municipal bonds and variable rate municipal demand notes as
current investments. Previously, such investments had been classified as cash
and cash equivalents. Accordingly, we have revised our prior classification to
report these securities as current investments in our Consolidated Balance Sheet
as of December 31, 2003. We have also made corresponding adjustments to our
Consolidated Statement of Cash Flows for the year ended December 31, 2002, to
reflect the gross purchases and sales of these securities as investing
activities rather than as a component of cash and cash equivalents. This change
in classification does not affect previously reported cash flows from operations
or from financing activities in our previously reported Consolidated Statements
of Cash Flows, or our previously reported Consolidated Statements of Income for
any period.
As of December 31, 2003, before this revision in classification, $7,750,000
of these current investments were classified as cash and cash equivalents on our
Consolidated Balance Sheet. For the fiscal year ended December 31, 2002, before
this revision in classification, net cash used in investing activities related
to these current investments of $7,750,000 were included in cash and cash
equivalents in our Consolidated Statement of Cash Flows.
REVENUE RECOGNITION. We recognize revenue in accordance with Staff
Accounting Bulletin No. 101,104, "Revenue Recognition in Financial Statements"Recognition" ("SAB No. 101"104"). License fee income and related
authoritative pronouncements. Revenues from multiple-element arrangements are
accounted for in accordance with Emerging Issues Task Force ("EITF") Issue
00-21, "Revenue Arrangements with Multiple Deliverables." Revenue is recognized as revenue
when (i) persuasive evidence of an arrangement exists, (ii) all obligations have
been performed pursuant to the terms of the license agreement, (iii) amounts are
fixed or determinable and (iv) collectibility of amounts is reasonably assured.
Revenue
from government grant and contract activities is accounted for in the period the
services are performed on a percentage-of-completion method of accounting when
the services have been approved by the grantor and collectibility is reasonably
assured. Amounts recognized under the percentage-of-completion method are
limited to amounts due from customers based on contract or grant terms.
Revenue from the sale of products and services is recognized when (i)
persuasive evidence of an arrangement exists, (ii) delivery has occurred or
services have been rendered, (iii) the fees are fixed and determinable and (iv)
collectibility is reasonably assured.F-8
COMBIMATRIX GROUP
Revenues from multiple-element arrangements involving license fees,
up-front payments and milestone payments, which are received and/or billable by
us in connection with other rights and services that represent continuing
obligations of ours, are deferred until all of the elements have been delivered
or until we have established objective and verifiable evidence of the fair value
of the undelivered elements.
Revenues from government grants and contracts are recognized in accordance
with Accounting Research Bulletin ("ARB") No. 43, "Government Contracts," and
related pronouncements. Accordingly, revenues are recognized under the
percentage-of-completion method of accounting, using the cost-to-cost approach
to measure completeness at each reporting period. Under the
percentage-of-completion method of accounting, contract revenues and expenses
are recognized in the period that work is performed based on the percentage of
actual incurred costs to estimated total contract costs. Actual contract costs
and cost estimates include direct charges for labor and materials and indirect
charges for labor, overhead and certain general and administrative charges.
Contract change orders and claims are included when they can be reliably
estimated and are considered probable. For contracts that extend over a one-year
period, revisions in contract cost estimates, if they occur, have the effect of
adjusting current period earnings applicable to performance in prior periods.
Should current contract estimates indicate an overall future loss to be
incurred, a provision is made for the total anticipated loss in the current
period.
Revenue from the sale of products and services, including shipping and
handling fees, are recognized when delivery has occurred or services have been
rendered.
Deferred revenue arisesrevenues arise from payments received in advance of the
culmination of the earnings process. Deferred revenuerevenues expected to be recognized
within the next twelve months isare classified as awithin current liability. At December
31, 2001, we recorded $7.5 million as deferredliabilities.
Deferred revenues related to payments
received under multiple-element arrangements and other advances, which will be recognized as revenue in future periods when the
applicable revenue recognition criteria as describedescribed above are met.
ACACIA TECHNOLOGIES GROUP
Under the terms of our DMT license agreements, the Acacia Technologies
group grants non-exclusive licenses for the use of its patented DMT technology.
Pursuant to the terms of our DMT license agreements, once executed, the Acacia
Technologies group has no further obligations with respect to the grant of the
licenses. License fees paid to and recognized as revenue by the Acacia
Technologies group are non-refundable.
Revenue generated from license agreements are generally accrued and
recognized as revenue in the period earned, provided that amounts are fixed or
determinable and collectibility is reasonably assured.
Certain license agreements provide for the calculation of license fees
based on a licensee's actual quarterly sales or actual per unit activity,
applied to a contractual royalty rate. Licensees that pay license fees on a
quarterly basis generally report actual quarterly sales or actual per unit
activity information and related quarterly license fees due to the Acacia
Technologies group within 30 to 45 days after the end of the quarter in which
such sales or activity takes place. Consequently, the Acacia Technologies group
recognizes revenue from these licensing agreements on a three-month lag basis,
in the quarter following the quarter of sales or per unit activity, provided
amounts are fixed or determinable and collectibility is reasonably assured. The
lag method described above allows for the receipt of licensee royalty reports
prior to the recognition of revenue.
Certain license agreements provide for the payment of a minimum upfront
annual license fee at the inception of each annual license term. Minimum upfront
annual license fees are generally determined based on a licensee's estimated
annual sales or a licensee's base level of per unit activity. These minimum
upfront annual license fee payments are deferred and amortized to revenue on a
straight-line basis over the annual license term. To the extent actual annual
royalties, determined and reported in accordance with the terms of the
respective agreements, exceed the minimum upfront annual license fees paid, the
additional royalties are recognized in revenue in the quarter following the
quarter in which the base per unit activity was exceeded or the quarter
following the annual license term, depending on the terms of the respective
agreement, provided that amounts are fixed or determinable and collectibility is
reasonably assured.
F-9
License fee payments received by the Acacia Technologies group that do not
meet the revenue recognition criteria described above are deferred until the
revenue recognition criteria are met. The Acacia Technologies group assesses
collection of accrued license fees based on a number of factors, including past
transaction history and credit-worthiness. If it is determined that collection
is not reasonably assured, the fee is recognized when collectibility becomes
reasonably assured, assuming all other revenue recognition criteria have been
met, which is generally upon receipt of cash.
As a result of our licensing and any related intellectual property
enforcement activities that we choose to conduct, we may recognize royalty
revenues that relate to prior period infringements by licensees. Differences
between amounts initially recognized and amounts subsequently audited or
reported as an adjustment to those amounts will be recognized in the period the
adjustment is determined as a change in accounting estimate.
CASH AND CASH EQUIVALENTS. We consider all highly liquid, short-term
investments with original maturities of three months or less when purchased to
be cash equivalents.
SHORT-TERM INVESTMENTS. Our short-term investments are held in a variety of
interest bearing instruments including high-grade corporate bonds, commercial
paper money market accounts and other marketable securities. Investments in securities with original
maturities of greater than three months and less than one year are classified as
short-term investments. Investments are classified into categories in accordance
with the provisions of Statement of Financial Accounting Standards ("SFAS") No.
115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS
No. 115"). CertainAt December 31, 2004 and 2003, all of our investments are classified
as available-for-sale, which are reported at fair value with related unrealized
gains and losses in the value of such securities recorded as a separate
component of comprehensive income (loss) in stockholders' equity until realized.
CertainDuring 2002, certain of our investments arewere classified as trading securities, which are reported at fair value.securities.
Realized and unrealized gains and losses in the value of trading securities are
included in net income (loss)loss in the consolidated statements of operations and
comprehensive loss.
The fair value of our investments is primarily determined by quoted market prices.
Realized and unrealized gains and losses are recorded based on the specific
identification method. For investments classified as available-for-sale,
unrealized losses that are other than temporary are recognized in net loss.
The cost of debt securities is adjusted for amortization of premiums and
accretion of discounts to maturity. Such amortization is included in interest
income (expense). Interest and dividends on all securities are included in
interest income.
F-10
At December 31, 2004 and 2003, we held $11,900,000 and $7,750,000,
respectively, of short-term investments, which consist of auction rate municipal
bonds and variable rate municipal demand notes classified as available-for-sale
securities. Our investments in these securities are recorded at cost, which
approximates fair market value due to their variable interest rates, which
typically reset every 7 to 35 days, and, despite the long-term nature of their
stated contractual maturities, we have the ability to quickly liquidate these
securities. As a result, we had no cumulative gross unrealized holding gains
(losses) or gross realized gains (losses) from our current investments. All
income generated from these current investments was recorded as interest income.
CONCENTRATION OF CREDIT RISKS. Cash andFinancial instruments that potentially
subject Acacia Research Corporation to concentrations of credit risk are cash
equivalents and short-term investments. We place our cash equivalents and
short-term investments primarily in investment grade, short-term debt
instruments. Cash equivalents are also invested in deposits with certain
financial institutions and may, at times, exceed federally insured limits. We
have not experienced any losses on our deposits of cash and cash equivalents.
Two of the Acacia Technologies group's licensees accounted for
approximately 27% of Acacia Research Corporation's DMT license fee revenues
recognized during the year ended December 31, 2004, and one licensee represents
approximately 25% of accounts receivable at December 31, 2004. One licensee
accounted for approximately 28% of the Acacia Research Corporation's license fee
revenues recognized during the year ended December 31, 2003, and also
represented approximately 31% of accounts receivable at December 31, 2003.
Research and development contract revenues recognized by the CombiMatrix
group for the year ended December 31, 2004 relate to its research and
development agreement with Roche. Government contract revenues recognized by the
CombiMatrix group for the year ended December 31, 2004 relate to its two-year,
F-10
$5.9 million contract with the Department of Defense awarded in March 2004. At
December 31, 2004, accounts receivable related to the CombiMatrix group included
$248,000 due from the Department of Defense. In 2004, 2003 and 2002, 45%, 100%
and 38% of the CombiMatrix group's array product and service sales were recorded
by CombiMatrix K.K.
Acacia Research Corporation performs regular credit evaluations of its
significant licensees and customers and has not experienced any significant
credit losses.
Substantially all of the components and raw materials used in the
manufacture of the CombiMatrix group's products, including semiconductors and
reagents, are currently provided from a limited number of sources or in some
cases from a single source. Although the CombiMatrix group believes that
alternative sources for those components and raw materials are available, any
supply interruption in a sole-sourced component or raw material might result in
up to a several-month production delay and materially harm the CombiMatrix
group's ability to manufacture products until a new source of supply, if any,
could be located and qualified. The CombiMatrix group utilizes non-standard
semiconductor manufacturing processes to fabricate the electrode array that is a
key aspect of the array structure. Although the CombiMatrix group has a supply
agreement in place with a semiconductor wafer manufacturer to ensure
availability of the raw materials, it does not guarantee a permanent supply.
INVENTORY. Inventory, which consists primarily of raw materials to be used
in the production of our array products, is stated at the lower of cost or
market using the first-in, first-out method.
PROPERTY AND EQUIPMENT. Property and equipment are recorded at cost. Major
additions and improvements that materially extend useful lives of property and
equipment are capitalized. Maintenance and repairs are charged against the
results of operations as incurred. When these assets are sold or otherwise
disposed of, the asset and related depreciation are relieved, and any gain or
loss is included in incomethe statement of operations and comprehensive loss for the
period of sale or disposal. Depreciation is computed on a straight-line basis
over the following estimated useful lives of the assets, ranging from threeassets:
Machine shop and laboratory equipment....... 3 to ten years.
Certain equipment held under capital5 years
Furniture and fixtures...................... 3 to 7 years
Computer hardware and software.............. 3 to 5 years
Leasehold improvements...................... Lesser of lease is includedterm or useful
life of improvement
Construction in property,
plant and equipment and amortized using the straight line method over the lease
term. The related capital lease obligation is recorded as a liability in the
consolidated balance sheet. Capital lease amortization is included in
depreciation expense in the consolidated statement of operations and
comprehensive loss.
PREPAID PUBLIC OFFERING COSTS. As of September 30, 2001, CombiMatrix
capitalized $1,353,000 ofprogress includes direct costs incurred in connection withrelated to
internally constructed assets which are depreciated once the filing of a
registration statement with the Securities and Exchange Commission ("SEC") in
November 2000. Deferred costs totaling $918,000 are included in current assets
in our December 31, 2000 consolidated balance sheet. In the fourth quarter of
2001, all of these deferred costs were charged to operations.asset is placed
into service.
ORGANIZATION COSTS. Costs of start-up activities, including organization
costs, are expensed as incurred.
MANAGEMENT FEES. Capital management fees in 1999 include asset-based
and performance-based fees earned from two domestic private investment
partnerships in which we were a general partner and two offshore investment
corporations for which we served as an investment advisor. These capital
management fees were recognized when earned in accordance with the respective
partnership and management agreements. Management fees also include income from
other consulting and management services provided by Acacia to other parties.
These fees are recognized when the related services are provided. On December
31, 1999, we closed the Acacia Capital Management division.
PATENTS AND GOODWILL. Goodwill and identifiable intangibles, including
patents, are recorded when the consideration paid for acquisitions exceeds the
fair value of the net tangible assets acquired. Patents, once issued and goodwillor
purchased, are amortized on the straight-line method over their estimated remaining
economic useful lives, ranging from three to twenty years. Amortization charged to operations relating to
goodwill amounted to $1,078,000, $921,000 and $465,000 at December 31, 2001,
2000 and 1999, respectively. Accumulated amortization of goodwill amounted to
$3,651,000 and $1,894,000 at December 31, 2001 and 2000, respectively.
Amortization charged to operations relating to patents amounted to $1,617,000,
$1,330,000 and $1,157,000 at December 31, 2001, 2000 and 1999, respectively.
Accumulated amortization of patents amounted to $5,655,000 and $4,038,000 at
December 31, 2001 and 2000, respectively.
POTENTIALGoodwill is not
amortized.
IMPAIRMENT OF LONG-LIVED ASSETS.ASSETS AND GOODWILL. We review long-lived assets
and intangible assets for potential impairment annually and when events or
changes in circumstances indicate the carrying amount of an asset may not be
recoverable. In the event the sum of the expected undiscounted future cash flows
resulting from the use of the asset is less than the carrying amount of the
asset, an impairment loss equal to the excess of the asset's carrying value over
its fair value is recorded. If an asset is determined to be impaired, the loss
is measured based on quoted market prices in active markets, if available. If
quoted market prices are not available, the estimate of fair value is based on
various valuation techniques, including a discounted value of estimated future
cash flows.
Goodwill is evaluated for impairment in accordance with SFAS No. 142,
"Goodwill and Other Intangible Assets" ("SFAS No. 142") and is subject to a
periodic review for potential impairment at a reporting unit level. Reviews for
potential impairment must occur at least annually and may be performed earlier,
if circumstances indicate that an impairment may have occurred. Acacia Research
Corporation has elected to perform its annual tests for indications of goodwill
F-11
impairment as of December 31 of each year. Our two reporting units as of
December 31, 2004 are: 1) the Acacia Technologies group and 2) the CombiMatrix
group. The fair values of our reporting units are estimated using a discounted
cash flow analysis and by reference to quoted market prices of Acacia Research
Corporation's classes of stock.
SFAS No. 142 requires us to compare the fair value of our reporting units
to their carrying amounts on an annual basis to determine if there is potential
goodwill impairment. If the fair value of a reporting unit is less than its
carrying value, an impairment loss is recorded to the extent that the fair value
of the goodwill within the reporting unit is less than its carrying value. There
can be no assurance that future goodwill impairment tests will not result in a
charge to earnings.
As a result of the August 2004 adverse ruling in Soundview Technologies'
V-chip related litigation described at Note 13, as of September 30, 2004,
Soundview Technologies was no longer considered a reporting unit of the Acacia
Technologies group.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The carrying value of cash and cash
equivalents, otheraccounts receivables, accounts payable and accrued expenses
approximate fair value due to their short-term maturity.
The carrying value of
our capital lease obligation approximates its fair value based on the current
interest rate for similar type instruments. The fair values of our investments
are primarily determined by quoted market prices.
FOREIGN CURRENCY TRANSLATION. The functional currency of our foreign entity
is the local currency.currency (Japanese Yen). Foreign currency translation is reported
pursuant to SFAS No. 52, "Foreign Currency Translation" ("SFAS No. 52"). Assets
and liabilities recorded in foreign currencies are translated at the exchange
rate on the balance sheet date. Translation adjustments resulting from this
process are charged or credited to other comprehensive income. Revenue and
expenses are translated at average rates of exchange prevailing during the year.
F-11
STOCK-BASED COMPENSATION. At December 31, 2004, Acacia Research Corporation
has two stock-based employee compensation plans, which are described more fully
in Note 12. Compensation cost of stock options issued to employees is accounted
for in accordance with Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB No. 25") and related
interpretations. Compensation cost attributable to such options is recognized
based on the difference, if any, between the closing market price of the stock
on the date of grant and the exercise price of the option. Compensation cost is
generally deferred and amortized on an accelerated basis over the vesting period
of the individual option awards using the amortization method prescribed in
Financial Accounting Standards Board ("FASB") Interpretation No. 28, "Accounting
for Stock Appreciation Rights and Other Variable Stock Option or Award Plans"
("FIN No. 28"). We have adopted the disclosure only requirements of SFAS No.
123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"), as amended by
SFAS No. 148 "Accounting for Stock-Based Compensation--Transition and
Disclosure--an amendment of SFAS No. 123" ("SFAS No. 148"), with respect to
options issued to employees. Compensation cost of stock options and warrants
issued to non-employee service providers is accounted for under the fair value
method required by SFAS No. 123 and Emerging Issues Task Force Issuerelated interpretations.
The following table illustrates the effect on net income (loss) and
earnings per share if Acacia Research Corporation had applied the fair value
recognition provisions of SFAS No. 96-18, "Accounting for Equity Instruments That Are Issued to Other Than
Employees for Acquiring, or in Conjunction with Selling, Goods or Services."
See "ACCOUNTING CHANGES" for change in accounting policy for accrued
subsidiary employee123 (in thousands, except per share data):
AR-ACACIA AR- AR-ACACIA AR- AR-ACACIA AR-
TECHNOLOGIES COMBIMATRIX TECHNOLOGIES COMBIMATRIX TECHNOLOGIES COMBIMATRIX
STOCK STOCK STOCK STOCK STOCK STOCK
2004 2004 2003 2003 2002(1) 2002(1)
--------- --------- --------- --------- ------------ ------------
Income (loss) from operations
as reported ................................ $ (5,543) $ 710 $ (5,451) $ (18,969) $ (12,754) $ (46,219)
Add: Stock-based compensation, intrinsic
value method reported in net loss,
net of tax ................................. - 606 - 1,475 19 3,660
Deduct: Pro forma stock-based compensation
fair value method, net of tax .............. (1,838) (6,127) (3,273) (9,029) (5,034) (7,198)
--------- --------- --------- --------- --------- ---------
Loss from operations, pro forma .............. $ (7,381) $ (4,811) $ (8,724) $ (26,523) $ (17,769) $ (49,757)
========= ========= ========= ========= ========= =========
Basic earnings per share from operations
as reported ................................ $ (0.28) $ 0.02 $ (0.28) $ (0.76) $ (0.65) $ (2.01)
Basic loss per share from operations,
pro forma .................................. $ (0.37) $ (0.16) $ (0.44) $ (1.07) $ (0.90) $ (2.17)
Diluted earnings per share from operations
as reported ................................ $ (0.28) $ 0.02 $ (0.28) $ (0.76) $ (0.65) $ (2.01)
Diluted loss per share from operations,
pro forma .................................. $ (0.37) $ (0.16) $ (0.44) $ (1.07) $ (0.90) $ (2.17)
Weighted Average Assumptions used(2):
Risk free interest rate ...................... 3.35% 3.18% 2.97% 2.89% 3.43% 4.38%
Volatility ................................... 98.68% 100% 100% 100% 100% 100%
Expected term ................................ 5 years 5 years 5 years 5 years 5 years 5 years
F-12
- ----------
(1) The stock-based compensation charges.information above gives effect to the
recapitalization as of January 1, 2002. As a result, stock-based
compensation information related to Acacia Research Corporation common
stock in 2002 has been omitted from the table above.
(2) The fair value of stock options was determined using the Black-Scholes
option-pricing model. The fair value calculations assume no expected
dividends.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist of costs incurred for direct and overhead-related research expenses and
are expensed as incurred. Costs to acquire technologies, which are utilized in
research and development and which have no alternative future use are expensed
when incurred. Costs related to filing and pursuing patent applications are
expensed as incurred, as recoverability of such expenditures is uncertain.
Software developed for use in our products is expensed as incurred until both
(i) technological feasibility for the software has been established and (ii) all
research and development activities for the other components of the system have
been completed. We believe these criteria are met after we have received
evaluations from third-party test sites and completed any resulting
modifications to the products. Expenditures to date have been classified as
research and development expense.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. The value assigned to
acquired in-process research and development ("IPR&D") is determined by
identifying acquired specific in-process research and development projects that
would be continued and for which (a) technological feasibility has not been
established at the acquisition date, (b) there is no alternative future use and
(c) the fair value is estimable with reasonable reliability, upon consummation
of a business combination.
ADVERTISING. Costs associated with marketing and advertising of the
CombiMatrix group's products and services are expensed as incurred. For the
years ended December 31, 2004, 2003 and 2002, marketing and advertising expenses
incurred by the CombiMatrix group were $314,000, $26,000 and $62,000,
respectively.
INCOME TAXES. Income taxes are accounted for using an asset and liability
approach that requires the recognition of deferred tax assets and liabilities
for the expected future tax consequences of events that have been recognized in
Acacia'sAcacia Research Corporation's financial statements or tax returns. A valuation
allowance is established to reduce deferred tax assets if all, or some portion,
of such assets will more than likely not be realized.
ACCOUNTING FOR SALES OF STOCK BY A SUBSIDIARY. Gains or losses resulting
from a subsidiary's sale of stock to third-partiesthird parties at a price per share in
excess of Acacia'sor below Acacia Research Corporation's average carrying amount per
share are generally reflected in stockholders' equity as a direct increase or
decrease to capital in excess of par or stated value.
See Note 7 for description of current year gains reflected in
stockholders' equity as a result of our subsidiaries sales of stock to
third-parties.
COMPREHENSIVE (LOSS) INCOME. Comprehensive (loss) income is the change in
equity from transactions and other events and circumstances other than those
resulting from investments by owners and distributions to owners.
SEGMENT REPORTING. We use the management approach, which designates the
internal organization that is used by management for making operating decisions
and assessing performance as the basis of Acacia'sAcacia Research Corporation's
reportable segments. At
December 31, 2001, our reporting segments were modified to include Soundview
Technologies and Acacia Media Technologies in our Acacia Media Technologies
Group segment. In addition, CombiMatrix and Advanced Material Sciences comprise
our Acacia Life Sciences Group segment. Segment information has been adjusted
for all periods presented.
USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of America
requires management to make estimates and assumptions that affect the reported
amount of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from these estimates.
F-12
LOSSEARNINGS PER SHARE. LossBasic earnings per share for each class of common stock
is computed by dividing the income or loss allocated to each class of common
stock by the weighted average number of outstanding shares of that class of
common stock. Diluted earnings per share is presentedcomputed by dividing the income or
loss allocated to each class of common stock by the weighted average number of
outstanding shares of that class of common stock including the dilutive effect
of common stock equivalents. Potentially dilutive common stock equivalents
primarily consist of employee stock options and common stock purchase warrants.
F-13
The earnings or losses allocated to each class of common stock are
determined by Acacia Research Corporation's board of directors. This
determination is generally based on boththe net income or loss amounts of the
corresponding group determined in accordance with accounting principles
generally accepted in the United States of America, consistently applied. Acacia
Research Corporation believes this method of allocation is systematic and
reasonable. The Acacia Research Corporation board of directors can, at its
discretion, change the method of allocating earnings or losses to each class of
common stock at any time.
The following table presents a reconciliation of basic and diluted basis. A reconciliation of the denominator of the basic EPS computation to the
denominator of the diluted EPS computation is as follows:loss per
share:
2001 2000 1999
---------- ---------- ----------FOR THE YEAR FOR THE YEAR FOR THE YEAR
ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
2004 2003 2002
----------- ----------- -----------
Weighted Average NumberACACIA RESEARCH - ACACIA TECHNOLOGIES STOCK
- -------------------------------------------
Basic and diluted weighted average number of Common Shares Outstanding Used in Computationcommon shares outstanding .......... 19,784,883 19,661,655 19,640,808
=========== =========== ===========
Potential AR-Acacia Technologies stock common shares excluded from the per
share calculation because the effect of their inclusion would be anti-dilutive ... 1,208,108 424,571 46,857
=========== =========== ===========
ACACIA RESEARCH - COMBIMATRIX STOCK
- -----------------------------------
Basic EPS ................................................................. 19,259,256 16,346,099 12,649,133weighted average number of common shares outstanding ...................... 29,962,596 24,827,819 22,950,746
Dilutive Effecteffect of Outstanding Stock Optionsoutstanding stock options and Warrants (a) ................ -- -- --
---------- ---------- ----------
Weighted Average Numberwarrants ....................... 1,033,067 - -
----------- ----------- -----------
Diluted weighted average number of Commoncommon and
potential common shares outstanding ............................................. 30,995,663 24,827,819 22,950,746
=========== =========== ===========
Potential Common Shares Outstanding
Used in ComputationAR-CombiMatrix stock common shares excluded from the per
share calculation because the effect of Diluted EPS ........................................ 19,259,256 16,346,099 12,649,133
========== ========== ==========their inclusion would be anti-dilutive ... - ------------------------779,238 305,256
=========== =========== ===========
(a) Potential common sharesSEPARATE GROUP PRESENTATION. AR-CombiMatrix stock and AR-Acacia
Technologies stock are intended to reflect the separate performance of 719,471, 1,046,072the
respective division of Acacia Research Corporation. The CombiMatrix group and
940,002 at December
31, 2001, 2000the Acacia Technologies group are not separate legal entities. Holders of
AR-CombiMatrix stock and 1999, respectively,AR-Acacia Technologies stock are stockholders of Acacia
Research Corporation. As a result, holders of AR-CombiMatrix stock and AR-Acacia
Technologies stock continue to be subject to all of the risks of an investment
in Acacia Research Corporation and all of its businesses, assets and
liabilities. The assets Acacia Research Corporation attributes to one of the
groups could be subject to the liabilities of the other group. The group
financial statements have been excluded fromprepared in accordance with generally accepted
accounting principles in the per
share calculation becauseUnited States of America, and taken together,
comprise all the effect of their inclusion would be
anti-dilutive.
RECLASSIFICATIONS. Certain immaterial reclassifications of prior year
amounts have been made to conform toaccounts included in the 2001 presentation.
ACCOUNTING CHANGES. Effective January 1, 2001, we changed our
accounting policy for balance sheet classification of employee stock-based
compensation resulting from awards in consolidated subsidiaries. Historically,
thecorresponding consolidated financial
statements of Acacia Research Corporation. The financial statements of the
groups reflect the financial condition, results of operations, and cash flows of
the businesses included therein. The financial statements of the groups include
the accounts or assets of Acacia Research Corporation specifically attributed to
the groups and were prepared using amounts included in Acacia Research
Corporation's consolidated financial statements.
Minority interests represent participation of other stockholders in
the net equity and in the division earnings and losses of the groups and are
reflected in the caption "Minority interests" in the group financial statements.
Minority interests adjust group net results of operations to reflect only the
group's share of the division earnings or losses of non-wholly owned investees.
Financial effects arising from one group that affect Acacia Research
Corporation's results of operations or financial condition could, if
significant, affect the results of operations or financial condition of the
other group and the market price of the class of common stock relating to the
other group. Any division net losses of the CombiMatrix group or of the Acacia
Technologies group, and dividends or distributions on, or repurchases of,
AR-CombiMatrix stock or AR-Acacia Technologies stock, will reduce the assets of
Acacia Research Corporation legally available for payment of dividends on
AR-CombiMatrix stock or AR-Acacia Technologies stock.
MANAGEMENT ALLOCATION POLICIES. The management and allocation policies
applicable to the preparation of the financial statements of the CombiMatrix
group and the Acacia Technologies group may be modified or rescinded, or
additional policies may be adopted, at the sole discretion of the Acacia
Research Corporation board of directors at any time without approval of the
stockholders. The group's financial statements reflect the application of the
management and allocation policies adopted by the Acacia Research Corporation
board of directors to various corporate activities, as described below.
F-14
Management has no plans to change allocation methods or the composition of the
groups. The group financial statements should be read in conjunction with the
Acacia Research Corporation consolidated financial statements and related notes.
TREASURY AND CASH MANAGEMENT POLICIES. Cash and cash equivalents and
short-term investments are attributed to the groups based on the respective cash
and cash equivalents and short term investments balances of the entities
comprising each group. Acacia Research Corporation's cash and the cash held by
its intellectual property licensing businesses, including all cash raised
through Acacia Research Corporation's previous offerings, have been attributed
to the Acacia Technologies group as these funds are intended to support the
intellectual property licensing businesses of Acacia Research Corporation. All
cash raised by CombiMatrix Corporation and Advanced Material Sciences have been
attributed to the CombiMatrix group. Acacia Research Corporation manages most
treasury and cash management activities on a decentralized basis, with each
group separately managing its own treasury activities. Pursuant to treasury and
cash management policies adopted by the Acacia Research Corporation board of
directors, the following applies:
o Acacia Research Corporation will attribute each future issuance of
AR-Acacia Technologies stock (and the proceeds thereof) to the Acacia
Technologies group and will attribute each future issuance of
AR-CombiMatrix stock (and the proceeds thereof) to the CombiMatrix
group;
o Acacia Research Corporation will attribute each future incurrence or
issuance of external debt or preferred stock (and the proceeds
thereof), if any, between the groups or entirely to one group as
determined by the Acacia Research Corporation board of directors,
based on the extent to which Acacia Research Corporation incurs or
issues the debt or preferred stock for the benefit of the CombiMatrix
group or the Acacia Technologies group;
o Dividends, if any, on AR-Acacia Technologies stock will be charged
against the Acacia Technologies group, and dividends, if any on
AR-CombiMatrix stock will be charged against the CombiMatrix group;
o Repurchases of AR-Acacia Technologies stock will be charged against
the Acacia Technologies group and repurchases of AR-CombiMatrix stock
will be charged against the CombiMatrix group;
o Acacia Research Corporation accounts for any cash transfers from
Acacia Research Corporation to or for the account of a group, from a
group to or for the account of Acacia Research Corporation, or from
one group to or for the account of the other group (other than
transfers in return for assets or services rendered) as short-term
loans unless (i) the Acacia Research Corporation board of directors
determines that a given transfer (or type of transfer) should be
accounted for as a long-term loan, (ii) the Acacia Research
Corporation board of directors determines that a given transfer (or
type of transfer) should be accounted for as a capital contribution or
(iii) the Acacia Research Corporation board of directors determines
that a given transfer (or type of transfer) should be accounted for as
a return of capital. There are no specific criteria to determine when
Acacia Research Corporation will account for a cash transfer as a
long-term loan, a capital contribution or a return of capital rather
than an inter-group revolving credit advance; provided, however, that
cash advances from Acacia Research Corporation to the Acacia
Technologies group or to the CombiMatrix group up to $25.0 million on
a cumulative earned
employee stock-based compensationbasis shall be accounted for as short-term or long-term
loans at interest rates at which Acacia Research Corporation could
borrow such funds and shall not be accounted for as a capital
contribution. The Acacia Research Corporation board of directors will
make such a determination in the exercise of its business judgment at
the time of such transfer based upon all relevant circumstances.
Factors the Acacia Research Corporation board of directors may
consider include, without limitation, the current and projected
capital structure of each group; the financing needs and objectives of
the recipient group; the availability, cost and time associated with
alternative financing sources; and prevailing interest rates and
general economic conditions; and
F-15
o Any cash transfers accounted for as short-term loans will bear
interest at the rate at which Acacia Research Corporation could borrow
such funds. In addition, any cash transfers accounted for as a
long-term loan will have interest rates, amortization, maturity,
redemption and other terms that reflect the then-prevailing terms on
which Acacia Research Corporation could borrow such funds.
ASSETS AND LIABILITIES. Acacia Research Corporation's assets and
liabilities have been attributed to the Acacia Technologies group and the
CombiMatrix group based on the respective asset and liabilities of the business
comprising each group. Net intangible assets recorded at the Acacia Research
Corporation level, primarily consisting of acquired patents and goodwill
balances, have been attributed to the respective businesses comprising each
group to which the intangibles and goodwill relate.
CORPORATE GENERAL AND ADMINISTRATIVE SERVICES AND FACILITIES. Acacia
Research Corporation allocates the cost of corporate general and administrative
services and facilities between the groups generally based upon utilization.
Where determinations based on utilization alone are impracticable, Acacia
Research Corporation utilizes other methods and criteria that management
believes to be equitable and to provide a reasonable estimate of the cost
attributable to each group. Except as otherwise determined by management, the
allocated costs of providing such services and facilities include, without
limitation, all costs and expenses of personnel employed in connection with such
services and facilities, including, without limitation, all direct costs of such
personnel, such as payroll, payroll taxes and fringe benefit costs (calculated
at the appropriate annual composite rate therefore) and all overhead costs and
expenses directly related to subsidiariessuch personnel and the services or facilities
provided by them. In addition, allocated costs include all materials used in
connection with such services or facilities, billed at their net cost to the
provider of the services or facilities plus all overhead costs and expenses
related to such materials. Except as a liability, undermay otherwise be specifically provided
pursuant to the caption "accrued stock compensation."terms of any agreements among Acacia Research Corporation and
the groups or any resolutions of the Acacia Research Corporation board of
directors, the corporate general and administrative services and facilities to
be allocated between the groups include, without limitation, legal services,
accounting services (tax and financial), insurance and deductibles payable in
connection therewith, employee benefit plans and administration thereof,
investor relations, stockholder services, and services relating to the board of
directors.
Direct salaries, payroll taxes and fringe benefits are allocated to
the groups based on the percentage of actual time incurred by specific employees
to total annual time available and direct costs including, postage, insurance,
legal fees, accounting and tax and other are allocated to the groups based on
specific identification of costs incurred on behalf of each group. Other direct
costs, including direct depreciation expense, computer costs, general office
supplies and rent are allocated to the groups based on the ratio of direct
salaries to total salaries. Indirect costs, including indirect salaries and
benefits, investor relations, rent, general office supplies and indirect
depreciation are allocated to the groups based on the ratio of direct salaries
for each group to total direct salaries. Included in marketing, general and
administrative expenses of the Acacia Technologies group are allocated corporate
charges of $3,395,000, $2,864,000 and $4,906,000 relating to the periods ending
December 31, 2004, 2003 and 2002, respectively. Included in marketing, general
and administrative expenses of the CombiMatrix group are allocated corporate
charges of $689,000, $894,000 and $1,161,000 relating to the periods ending
December 31, 2004, 2003 and 2002, respectively.
Management believes that the methods and criteria used to allocate
costs are equitable and provide a changereasonable estimate of the cost attributable
to the groups. Based on the allocation methods used, Acacia Research Corporation
believes that the allocation of expenses as presented in the accompanying
consolidating financial information reflects a reasonable estimation of expenses
that would be recognized if the groups were separate stand-alone registrants.
ALLOCATION OF FEDERAL AND STATE INCOME TAXES. Acacia Research
Corporation determines its federal income taxes and the federal income taxes of
its subsidiaries that own assets allocated between the groups on a consolidated
basis. Acacia Research Corporation allocates consolidated federal income tax
provisions and related tax payments or refunds between the Acacia Technologies'
group and CombiMatrix group based principally on the taxable income and tax
credits directly attributable to each group. Such allocations reflect each
group's contribution, whether positive or negative, to Acacia Research
Corporation's consolidated federal taxable income and consolidated federal tax
liability and tax credit position. Acacia Research Corporation will credit tax
benefits that cannot be used by the group generating those benefits but can be
used on a consolidated tax return basis to the group that generated such
benefits.
F-16
Inter-group transactions are treated as taxed as if each group was a
stand-alone company. Depending on the tax laws of the respective jurisdictions,
state and local income taxes are calculated on either a consolidated or combined
basis between the groups based on their respective contribution to such
consolidated or combined state taxable incomes. State and local income tax
provisions and related tax payments or refunds which are determined on a
separate corporation basis are allocated between the groups in a manner designed
to reflect these cumulative charges as minority interests is preferable as it
better reflects the underlying economicsrespective contributions of the stock-based compensation
transaction. As a result of the change, effective January 1, 2001, minority
interests has been increased by $10.4 million, and accrued stock compensation of
$10.4 million has been decreased. The change in accounting policy does not
affect previously reported consolidated netgroups to Acacia Research
Corporation's separate or local taxable income.
During March 1998, CombiMatrix issued $1,450,000 principal amount of 6%
unsecured subordinated convertible promissory notes due in 2001. The notes had a
contingent beneficial conversion feature with intrinsic value of $246,000. We
adopted Emerging Issues Task Force Consensus of Issues No. 00-27, "Application
of Issue No. 98-5 to Certain Convertible Instruments" ("EITF 00-27"), in the
fourth quarter of 2000. The adoption of EITF 00-27 resulted in a charge of
$246,000 in the year ended December 31, 2000 for the cumulative effect of a
change in accounting principle in accordance with APB Opinion No. 20,
"Accounting Changes."
RECENT ACCOUNTING PRONOUNCEMENTS.
In June 2001,December 2004, the FASB issued SFAS No. 141, "Business Combinations" ("123 (revised 2004), "Share-Based
Payments," that addresses the accounting for share-based payment transactions in
which an enterprise receives employee services in exchange for (a) equity
instruments of the enterprise or (b) liabilities that are based on the fair
value of the enterprise's equity instruments or that may be settled by the
issuance of such equity instruments. SFAS No. 141"),123(R) will require Acacia
Research Corporation to measure all employee stock-based compensation awards
using a fair-value method and SFAS No. 142, "Goodwillrecord such expense in its consolidated and
Other Intangible Assets" ("SFAS No. 142"). SFAS No. 141 requires that the
purchase method be used for all business combinations initiated after June 30,
2001 and that certain intangible assets acquired in a business combination be
recognized apart from goodwill.separate group financial statements. The adoption of SFAS No. 141123(R) will
require additional accounting related to the income tax effects and additional
disclosure regarding the cash flow effects resulting from share-based payment
arrangements. SFAS No. 123(R) is effective beginning in the quarter ending
September 30, 2005. The effect of the adoption of SFAS No. 123(R) is expected to
be comparable to the effect disclosed on a pro forma basis resulting from the
application of the current fair-value recognition provisions of SFAS No. 123, as
shown in Note 2 above.
In December 2004, the FASB issued SFAS No. 153 "Exchanges of Nonmonetary
Assets, an amendment of APBO 29" to address the accounting for nonmonetary
exchanges of productive assets. SFAS No. 153 amends APBO 29, "Accounting for
Nonmonetary Exchanges," which established a narrow exception from fair-value
measurement for nonmonetary exchanges of similar productive assets. SFAS No. 153
eliminates that exception and replaces it with an exception for exchanges that
do not have commercial substance. Under SFAS No. 153 nonmonetary exchanges are
required to be accounted for at fair value, recognizing any gains or losses, if
their fair value is determinable within reasonable limits and the transaction
has commercial substance. SFAS No. 153 specifies that a nonmonetary exchange has
commercial substance if future cash flows of the entity are expected to change
significantly as a result of the exchange. The provisions of SFAS No. 153 apply
to nonmonetary asset exchanges in fiscal periods beginning after June 15, 2005.
Adoption of SFAS No. 153 is not expected to have a material impact on Acacia
Research Corporation's, the CombiMatrix group's or the Acacia Technologies
group's financial position, results of operations or cash flows.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs - an
amendment of ARB No. 43, chapter 4." SFAS No. 151 requires that "abnormal"
amounts of idle facility expense, freight, handling costs, and wasted material
are to be recognized as current-period charges rather than as components of
inventory. The statement also requires that allocation of fixed production
overheads to the costs of conversion be based on the normal capacity of the
production facilities. Acacia Research Corporation adopted SFAS No. 151 during
the fourth quarter of 2004. The implementation of SFAS No. 151 did not have a
material effectimpact on our consolidatedAcacia Research Corporation's, the CombiMatrix group's or the
Acacia Technologies group's financial position, results of operations or financial position.
SFAS No. 142 requires goodwill to be tested for impairment under
certain circumstances, and written off when determined to be impaired, rather
than being amortized as previous standards required. We will adopt SFAS No. 142
effective January 1, 2002. We have recorded approximately $1.1 million of
goodwill amortization during 2001. As a result of SFAS No. 142, we will no
longer amortize goodwill.cash
flows.
In lieu of amortization, we are required to perform an
initial impairment review of our goodwill in 2002 and an annual impairment
review thereafter. We expect to complete our initial review during the first
quarter of 2002. We currently do not expect to record an impairment charge upon
completion of the initial impairment review. However, there can be no assurance
that at the time the review is completed a material impairment charge will not
be recorded.
F-13
In August 2001,June 2004, the FASB issued SFASEITF Issue No. 144, "Accounting for02-14, "Whether an Investor
Should Apply the ImpairmentEquity Method of Accounting to Investments Other Than Common
Stock." EITF 02-14 addresses whether the equity method of accounting applies
when an investor does not have an investment in voting common stock of an
investee but exercises significant influence through other means. EITF 02-14
states that an investor should only apply the equity method of accounting when
it has investments in either common stock or Disposalin-substance common stock of Long-Lived Assets" ("SFAS No. 144"), which addressesa
corporation, provided that the investor has the ability to exercise significant
influence over the operating and financial accounting and reporting forpolicies of the impairment of long-lived assets and
for long-lived assets to be disposed of. SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of." SFAS No. 144 also supersedes theinvestee. The
accounting and reporting provisions of APB Opinion No. 30, "ReportingEITF 02-14 are effective for reporting periods
beginning after September 15, 2004. The adoption of EITF 02-14 did not have a
material impact on Acacia Research Corporation's, the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for segments of a
business to be disposed of. SFAS No. 144 also amends ARB No. 51, "Consolidated
Financial Statements," to eliminate the exception to consolidation for a
temporarily controlled subsidiary. SFAS No. 144 requires long-lived assets to be
tested for recoverability whenever events or changes in circumstances indicate
that its carrying amount may not be recoverable. In conjunction with such tests,
it may be necessary to review depreciation estimates and methods as required by
APB Opinion No. 20, "Accounting Changes,"CombiMatrix group's or the
amortization period as required
by SFAS No. 142. We will adopt SFAS No. 144 effective January 1, 2002. We are
currently assessing the impactAcacia Technologies group's financial position, results of SFAS No. 144 on our operating results and
financial condition upon adoption.operations or cash
flows.
F-17
3. SHORT-TERM INVESTMENTS
Short-term investments consistsconsist of the following at December 31, 20012004 and
2000:2003 (in thousands):
20012004 2003
------------------------- -------------------------
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
----------- ----------- ----------- -----------
Trading securities .............................................. $ -- $ 4,372,000
Available-for-sale-securities:
Available-for-sale securities:
Corporate and municipal bonds and notes ................................... 14,427,000 14,869,000..... $ 18,462 $ 18,441 $ 18,736 $ 18,740
U.S. government securities .................................. 5,643,000 5,869,000.................. 14,220 14,186 6,558 6,561
Certificates of deposit ..................... 1,000 996 1,000 1,000
----------- ----------- $20,070,000 $25,110,000----------- -----------
$ 33,682 $ 33,623 $ 26,294 $ 26,301
=========== ===========
2000 AMORTIZED FAIR
COST VALUE
----------- -----------
Available-for-sale-securities:
Corporate bonds and notes ................................... $37,689,000 $38,622,000
U.S. government securities .................................. 1,971,000 1,978,000
----------- -----------
$39,660,000 $40,600,000 =========== ===========
Gross unrealized gains and losses related to available-for-sale securities
were not material for 20012004, 2003 and 2000.
Contractual maturities for2002. All investments in debt securities
classified as available-for-sale as of December 31, 20012004 are as follows:
FAIR
COST VALUE
----------- -----------
Due within one year.............................................. $ 5,103,000 $ 5,669,000
Due after one year through two years............................. 14,967,000 15,069,000
----------- -----------
$20,070,000 $20,738,000
=========== ===========
F-14
due within one
year.
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31, 20012004 and
2000:2003 (in thousands):
2001 2000
------------ ------------2004 2003
---------- ----------
Machine shop and laboratory equipment ....................................... $ 844,0003,791 $ 1,250,0003,687
Furniture and fixtures ...................................... 445,000 550,000............................... 369 352
Computer hardware and software .............................. 1,203,000 1,085,000....................... 1,045 1,406
Leasehold improvements ...................................... 565,000 228,000
Facilities and equipment held under capital lease ........... 3,000,000 --............................... 1,027 1,208
Construction in progress .................................... 84,000 1,346,000
------------ ------------
$ 6,141,000 $ 4,459,000............................. 359 84
---------- ----------
6,591 6,737
Less: accumulated depreciation and amortization ............ (1,235,000) (732,000)
------------ ------------..... (4,157) (3,914)
---------- ----------
$ 4,906,0002,434 $ 3,727,000
============ ============2,823
========== ==========
Depreciation expense was $1,174,000, $471,00$1,154,000, $1,428,000 and $248,000$1,573,000 for the
years ended December 31, 2001, 20002004, 2003 and 1999,2002, respectively. Amortization of
assets held under capital lease included in depreciation expense was $161,000$590,000
for the year ended December 31, 2001.2002. The capital lease obligation was paid in
full in November 2002. Fully depreciated assets of $937,000 were written off in
2004.
5. BALANCE SHEET COMPONENTS
Accounts payable, accrued expenses and other consists of the following at
December 31, 20012004 and 2003 (in thousands):
2004 2003
--------- ---------
Accounts payable .................................. $ 498 $ 409
Payroll and other employee benefits ............... 436 501
Accrued vacation .................................. 538 437
Accrued liabilities of discontinued operations .... 272 388
Accrued legal expenses ............................ 1,195 495
Accrued consulting and other professional fees .... 596 478
Deferred rent ..................................... 340 284
Other accrued liabilities ......................... 264 252
--------- ---------
$ 4,139 $ 3,244
========= =========
F-18
Deferred revenues consist of the following at December 31, 2000:
2001 2000
------------ ------------
Accounts payable............................................ $ 837,000 $ 2,285,000
Payroll, vacation and other employee benefits............... 1,740,000 711,000
Accrued liabilities of discontinued operations.............. 1,342,000 3,599,000
Taxes payable............................................... 356,000 --
Accrued subsidiary shareholder redemption payments.......... 217,000 --
Other accrued liabilities................................... 1,264,000 1,172,000
------------ ------------
$ 5,756,000 $ 7,767,000
============ ============
Deferred revenues consist of the following at December 31, 2001:
2001
------------
Milestone and up-front payments............................. $ 5,960,000
License fee payments........................................ 1,500,000
------------
$ 7,460,000
------------
Less: current portion...................................... (7,088,000)
------------
$ 372,000
============
F-15
2004 and 2003
(in thousands):
2004 2003
---------- ----------
Milestone and up-front payments .... $ 3,959 $ 20,405
License fee payments ............... 428 1,604
---------- ----------
4,387 22,009
Less: current portion .............. (494) (17,670)
---------- ----------
$ 3,893 $ 4,339
========== ==========
In March 2004, the CombiMatrix group completed all phases of its research
and development agreement with Roche. As a result of completing all of its
obligations under this agreement and in accordance with the CombiMatrix group's
revenue recognition policies for multiple-element arrangements, the CombiMatrix
group recognized all previously deferred Roche related contract revenues
totaling $17,302,000 during the first quarter of 2004.
In August 2004, the CombiMatrix group received a $1,000,000 upfront payment
from Furuno Electric Co., LTD ("Furuno") as part of a multi-year collaboration
agreement to develop a bench-top array synthesizer for commercial applications.
In 2003, the CombiMatrix group received upfront and milestone payments from
Toppan Printing Co., LTD. ("Toppan") totaling $2,400,000, pursuant to a
multi-year collaboration and supply agreement to develop and manufacture arrays
using the CombiMatrix group's proprietary electrochemical detection approach.
The payments received from Furuno and Toppan are included in deferred revenues
at December 31, 2004, in accordance with the CombiMatrix group's revenue
recognition policies for multiple-element arrangements.
As a result of the final ruling in the Acacia Technologies group's V-chip
litigation described at Note 13, the Acacia Technologies group recognized
$1,500,000 of V-chip related deferred license fee revenues and $668,000 of
V-chip related deferred legal costs in the third quarter of 2004.
6. INVESTMENTS
At December 31, 2000, we carried our 33%In October 2004 (the "Investment Date"), the CombiMatrix group entered into
an agreement to acquire up to a one-third ownership interest in Acacia
Media Technologies, formerly Greenwich Information Technologies LLC,Leuchemix, Inc.
("Leuchemix"), a private drug development firm, which is developing several
compounds for the treatment of leukemia and other cancers. In accordance with
the terms of the purchase agreement, the CombiMatrix group will purchase
3,137,500 shares of Series A Preferred Stock of Leuchemix for a total purchase
price of $4,000,000. The ownership interest will be acquired and paid for
quarterly, beginning with the fourth quarter of 2004 and continuing through the
third quarter of 2006. As of December 31, 2004, the CombiMatrix group has
initially invested $250,000 for a 3% interest in the total outstanding voting
securities of Leuchemix. In accordance with the terms of the purchase agreement,
CombiMatrix Corporation's CEO was named a director of Leuchemix. Although the
CombiMatrix group's investment in Leuchemix only represented approximately 3% of
Leuchemix's total outstanding voting securities as of the Investment Date, the
CombiMatrix group's investment is being accounted for under the equity method at a carryingas
the CombiMatrix group has the ability to exercise significant influence over
Leuchemix, primarily due to CombiMatrix Corporation's representation on
Leuchemix's board of directors.
The CombiMatrix group's 3% interest in the equity in loss of Leuchemix,
including its share of the amortization expense related to the excess purchase
consideration over the book value of $346,000.Leuchemix was not material for the
year-ended December 31, 2004. Future investments in Leuchemix will be accounted
for as step acquisitions. Summary financial information for Leuchemix was not
significant as of December 31, 2004.
F-19
In November 2001,the second quarter of 2003, the Acacia Technologies group recorded an
impairment charge of $207,000 for an other-than-temporary decline in the fair
value of its cost method investment in Advanced Data Exchange ("ADX").
Impairment indicators included a continued decline in the working capital of the
entity and reference to a recent equity transaction and related valuation
indicating an other-than-temporary decline in fair value of the investment. In
September 2002, we increasedrecorded an impairment charge of $2,748,000 for an
other-than-temporary decline in the fair value of ADX. Impairment indicators
included recurring losses, a decline in working capital and the completion of a
recent equity transaction with a shareholder at an amount below our ownershipcarrying
value. The fair value of our investment in ADX was determined by reference to
available financial and market information.
On April 25, 2002, CombiMatrix Corporation purchased our interest in
Acacia Media Technologies from 33% to 100% through the
purchaseAdvanced Material Sciences. CombiMatrix Corporation issued 180,982 shares of its
common stock in exchange for our 58% interest in Advanced Material Sciences. As
a result of the ownershipsale of our interest in Advanced Material Sciences, as of
December 31, 2002 CombiMatrix Corporation owned 87% of Advanced Material
Sciences and the remaining interests are owned by unaffiliated entities. The
purchase was accounted for pursuant to APB Opinion No. 16, "Business
Combinations," and related interpretations and EITF 90-5, "Exchanges of
Ownership Interests between Entities under Common Control." Accordingly, the
transaction was accounted for using Acacia Research Corporation's basis in the
net assets of Advanced Material Sciences and as a result, Acacia Research
Corporation's 2002 consolidated financial statements reflect the assets and
liabilities of Advanced Material Sciences at historical cost.
7. INTANGIBLES
The Acacia Technologies group had $121,000 and $1,776,000 of goodwill at
December 31, 2004 and 2003, respectively. The CombiMatrix group had $19,424,000
of goodwill at December 31, 2004 and 2003.
In August 2004, as a result of the former limited liability company's
other member. In December 2001,adverse ruling in Acacia Media Technologies
was incorporated undergroup's V-chip patent infringement lawsuit described at Note 13, the lawsAcacia
Technologies group recorded an impairment charge totaling $1,616,000 in
connection with the write-down of 100% of the Stategoodwill related to the V-chip.
Refer to Note 8, "Step Acquisitions," for additions to goodwill during 2003
and 2002.
Acacia Research Corporation's only identifiable intangible assets at
December 31, 2004 and 2003 are patents. The gross carrying amounts and
accumulated amortization as of DelawareDecember 31, 2004 and we changed2003 and amortization
expense for 2004, 2003 and 2002, related to patents, by segment, are as follows
(in thousands):
ACACIA TECHNOLOGIES GROUP COMBIMATRIX GROUP
------------------------- ------------------------
2004 2003(1) 2004 2003
---------- ---------- ---------- ----------
Gross carrying amount - patents ... $ 4,726 $ 4,753 $ 12,095 $ 12,095
Accumulated amortization .......... (1,684) (1,187) (3,074) (1,978)
---------- ---------- ---------- ----------
Patents, net ...................... $ 3,042 $ 3,566 $ 9,021 $ 10,117
========== ========== ========== ==========
- ----------
(1) Excludes gross cost and accumulated amortization as of December 31, 2003
totaling $6,045,000 related to the namewrite off of V-chip related intangibles
in 2004, in connection with the conclusion of V-chip litigation as
discussed at Note 13.
ACACIA TECHNOLOGIES GROUP COMBIMATRIX GROUP
-------------------------------------- -------------------------------------
2004 2003 2002 2004 2003 2002
---------- ---------- ---------- ---------- ---------- ----------
Patent Amortization Expense ....... $ 501 $ 502 $ 1,591 $ 1,096 $ 1,095 $ 399
========== ========== ========== ========== ========== ==========
The Acacia Technologies group and the CombiMatrix group's patents are being
amortized over economic useful lives of approximately 9 years and 11 years,
respectively. Aggregate amortization expense for each of the next five years
through December 31, 2009 is estimated to be $1,595,000 per year ($500,000 for
the Acacia Technologies group and $1,095,000 for the CombiMatrix group). At
December 31, 2004 and 2003, all of our acquired intangible assets other than
goodwill were subject to amortization.
F-20
8. STEP ACQUISITIONS
On July 11, 2003, Acacia Research Corporation purchased the outstanding
minority interests in its consolidated subsidiary CombiMatrix K.K. from Greenwich
Information Technologies LLCMarubeni
Corporation ("Marubeni"). Acacia Research Corporation issued 200,000 shares of
its AR-CombiMatrix stock to Acacia Media Technologies Corporation.Marubeni in exchange for Marubeni's 10% minority
interests (120 shares) in CombiMatrix K.K. The ownership interest purchase has beentransaction was accounted for as
a step acquisition using the purchase method of accounting. The fair value of
the AR-CombiMatrix stock issued in the transaction in
accordance with SFAS No. 141.was based on the quoted
market price of AR-CombiMatrix stock on the exchange date. The excesstotal purchase
price of $450,000 was allocated to the fair value of assets acquired and
liabilities assumed. The amount attributable to goodwill was $393,000.
On July 2, 2003, Acacia Media Technologies' Research Corporation increased its consolidated
ownership interest in Advanced Material Sciences from 87% to 99% by acquiring
1,774,750 shares of Advanced Material Sciences common stock in exchange for
295,790 shares of AR-CombiMatrix stock. The transaction was accounted for as a
step acquisition using the purchase method of accounting. The fair value of the
Acacia Research shares issued in the transaction was based on the quoted market
price of AR-CombiMatrix stock on the exchange date. The total purchase price of
$769,000 was allocated to the fair value of assets acquired and liabilities
assumed. The amount attributable to goodwill was $172,000.
Acacia Research Corporation's interests in Advanced Material Sciences and
CombiMatrix K.K. have been attributed to the CombiMatrix group.
On December 13, 2002, Acacia Research Corporation increased its
consolidated ownership interest in CombiMatrix Corporation from 48% to 100% by
acquiring from existing stockholders of CombiMatrix Corporation 11,987,274
shares of CombiMatrix Corporation common stock in exchange for 11,987,274 shares
of AR-CombiMatrix stock with a fair value of $46,007,000. The merger was
designed to consolidate our ownership of CombiMatrix Corporation and permit us
to effectuate the recapitalization transaction described elsewhere herein, by
creating the CombiMatrix group.
The transaction was accounted for as a step acquisition using the purchase
method of accounting. The fair value of the AR-CombiMatrix stock issued in the
transaction was based on the quoted market price of AR-CombiMatrix stock
averaged over a five-day period (from December 16, 2002, the first day of
trading for the AR-CombiMatrix stock, through December 20, 2002).
The following table summarizes the estimated fair values of the assets
acquired and liabilities assumed and the allocation of the purchase price at the
date of acquisition (in thousands):
Acquisition costs:
Exchange of AR-CombiMatrix stock for CombiMatrix
Corporation common stock .............................. $ 46,007
Acquisition expenses ...................................... 834
-----------
Total acquisition cost .................................... $ 46,841
===========
Purchase price allocation:
Fair value of 52% of CombiMatrix
Corporation net tangible assets at December 13, 2002 .. 8,313
Intangible assets acquired:
Core technology/patent portfolio................................ 5,283
Acquired in-process research and development .......... 17,237
Goodwill (non-deductible for tax purposes) ............ 16,008
-----------
Total ..................................................... $ 46,841
===========
The total purchase price of $46,841,000 was allocated to the fair value of
assets acquired and liabilities assumed, including acquired IPR&D, as shown in
the table above. The amount attributable to CombiMatrix Corporation's core
technology and related patents is being amortized using the straight-line method
over the remainingestimated economic useful life of the respective7 years. Amounts allocated to
patents, which is approximately 10 years. The results of
operationsIPR&D and goodwill have been attributed to the CombiMatrix group.
F-21
In conjunction with the allocation of the purchase price, Acacia Research
Corporation was required to adjust CombiMatrix Corporation's assets and
liabilities to fair value. Deferred revenue, primarily consisting of milestone
payments and other cash receipts from Roche and NASA, was reduced by $8,425,000
to reflect the fair value of the continuing obligation related to the 52%
interest in CombiMatrix Corporation acquired by Acacia Research Corporation.
The amount attributable to IPR&D projects (comprised of two projects:
Genomics and Proteomics biological array systems) that had not yet reached
technological feasibility and had no alternative future use of $17,237,000 was
charged to expense on the acquisition date and is included in the consolidated
statement of operations and comprehensive loss fromfor the year ended December 31,
2002.
Management was responsible for determining the fair value of the tangible
and identifiable intangible assets acquired and liabilities assumed, including
IPR&D, at the date of acquisition. Pro forma resultsManagement considered a number of operations
have not been presented becausefactors,
including reference to independent valuations. The in-process technologies were
valued using a discounted cash flow model on a project-by-project basis, which
estimated the effectscash flows expected to result from each project once it has
reached technological feasibility. A discount rate consistent with the risks of
each project was used to estimate the present value of future cash flows. In
estimating future cash flows, management considered the contribution of its core
technology (for which a United States patent was obtained in July 2000) that
would be required for successful exploitation of purchased in-process
technology, in order to value the core and in-process technologies discretely.
As a result, future cash flows relating to each purchased IPR&D project were
reduced in order to reflect the contribution of core technology to each IPR&D
project. The cash flows from these acquisitionsprojects attributable to core technology were
not
material on either anthen separately valued to determine the intangible asset value of purchased core
technology. In determining the contribution of core technology to in-process
projects, management used a profit split approach which considered the estimated
profit split between a licensor and licensee of the core technology and
management's assessment of how critical the core technology was to the IPR&D
projects.
The nature of the efforts to develop the purchased IPR&D into commercially
viable products principally relates to the completion and/or acceleration of
existing development programs. These efforts include testing current and
alternative materials used in array design, testing of existing and alternative
methods for array synthesis, developing prototype machinery (including operating
software) to synthesize, hybridize and read individual arrays, and to perform
numerous experiments, or aggregate basis.
Inassays, with actual target samples in order to
determine customer protocols and procedures for using the first quarter of 2000, Acacia acquired a 7.6% interest in
Advanced Data Exchange for $3.0 million out of a $17.3 million private placement
of "non-voting" Series B preferred stock. Advanced Data ExchangeCombiMatrix group's
array system. Following is a corporation engaged in business-to-business Internet exchange transactions that
allow mid-sized companiesbrief description of the two IPR&D projects
identified.
Genomics Biological Array System: CombiMatrix Corporation's genomics
biological array processor system is being developed to exchange its purchase orders, purchase order
acknowledgments, advance ship notices, invoicesdiscretely immobilize
sequences of DNA or RNA within individual test sites on a modified semiconductor
chip coated with a three-dimensional layer of porous material. The system also
includes proprietary hardware units and related software applications to be able
to synthesize materials onto the chips, apply target samples of genetic
materials and interpret the results. The fair value assigned to the genomics
biological array system IPR&D project was $13,978,000. A risk-adjusted discount
rate of 32% was applied to the project's estimated cash flows.
Proteomics Biological Array System: CombiMatrix Corporation's proteomics
biological array processor system is being developed to discretely immobilize
proteins and other business documents
oversmall molecules within individual test sites on a modified
semiconductor chip in a similar fashion as described above for the Internet with supply chain partnersgenomics
biological array system. The proteomics biological array system is used for
detection and emerging digital marketplaces.
Subsequentidentification of bio-threat agents in CombiMatrix Corporation's
biological and chemical threat agent detector development programs that are
currently in process. The fair value assigned to an additional $30 million equity financing completed in the second
quarterproteomics biological array
system IPR&D project was $3,259,000. A risk-adjusted discount rate of 2000, we currently own a 4.9% interest in Advanced Data Exchange and
have no board of directors representation. Additional rounds of financing may
further dilute our interest. We do not have60% was
applied to the ability to control decision
making at Advanced Data Exchange.
In the fourth quarter of 2000, we recorded $1,016,000 in write-offs of
early stage investments. In addition, we recorded $2,603,000 in write-offs of
certain equity investments.
7.project's estimated cash flows.
F-22
9. STOCKHOLDERS' EQUITY
REDEEMABLE CAPITAL STOCK
The authorized capital stock of Acacia Research Corporation consists of
60,000,000110,000,000 shares, of which 50,000,000 shares is a class of common stock
$0.001designated as "AR-CombiMatrix stock," having a par value of which 19,592,459$0.001 per share,
50,000,000 shares is a class of common stock designated as "AR-Acacia
Technologies stock," having a par value of $0.001 per share, and 17,699,646 (as adjusted
for ten percent (10%) stock dividend distributed on December 5, 2001) shares
were issued and outstanding as of December 31, 2001 and 2000, respectively, and
20,000,000 shares10,000,000 is a
class of preferred stock $0.001having a par value no shares of which are
issued$0.001 per share (the "Preferred
Stock") and issuable in one or outstanding. Under the terms of Acacia's Certificate of Incorporation,more series as determined by the board of
directors may determinepursuant to Acacia Research Corporation's restated certificate of
incorporation. Holders of AR-CombiMatrix stock and AR-Acacia Technologies stock
vote together as a single class (except in certain limited circumstances). Each
share of AR-CombiMatrix stock entitles the rights, preferences and termsholder to one vote. Each share of
our
authorized but unissued sharesAR-Acacia Technologies stock entitles the holder, for any particular vote, to a
number of preferred stock.votes equal to the average market value of a share of AR-Acacia
Technologies stock divided by the average market value of a share of
AR-CombiMatrix stock over a specified 20-trading day period ending on the tenth
trading day prior to the record date for determining the stockholders entitled
to vote.
Holders of each class of common stock are entitled to one vote per share on all matters to be voted on by the
stockholders, and to receive ratably such
dividends, if any, as may be declared by the board of directors out of funds
legally available therefore.
UponUnder our restated certificate of incorporation, in the event of our
dissolution, liquidation dissolution or winding up, after payment or provision for payment
of Acacia, the debts and other liabilities and full preferential amounts to which
holders of any preferred stock are entitled, regardless of the group to which
such shares of preferred stock were attributed, the holders of AR-CombiMatrix
stock and AR-Acacia Technologies stock will be entitled to receive our assets
remaining for distribution to holders of common stock are entitledon a per share basis in
proportion to the liquidation units per share ratably in all assets of Acacia which are legally
available for distribution,such class. Each share of
AR-CombiMatrix stock will have one liquidation unit. Each share of AR-Acacia
Technologies stock will have a number of liquidation units equal to the quotient
of the average market value of a share of AR-Acacia Technologies stock over the
20-trading day period ending on the 40th trading day after paymentthe effective date of
all debts and other liabilities.the recapitalization, divided by the average market value of a share of
AR-CombiMatrix stock over the same period.
Holders of each class of common stock have no preemptive, subscription,
redemption or conversion rights. On October 22, 2001, ourManagement, at its discretion may, at any time,
convert each share of AR-CombiMatrix stock into a number of shares of AR-Acacia
Technologies stock at a 10% premium over the average market price.
Each class of stock is designed to reflect the financial performance of the
respective group, rather than the performance of Acacia Research Corporation as
a whole. The chief mechanisms intended to cause the AR-CombiMatrix stock and the
AR-Acacia Technologies stock to reflect the financial performance of the
respective group are provisions in Acacia Research Corporation's restated
certificate of incorporation governing dividends and distributions. Under these
provisions, Acacia Research Corporation will:
o factor the assets and liabilities and income or losses attributable to
the respective group into the determination of the amount available to
pay dividends on the shares issued for the respective group; and
o require Acacia Research Corporation to exchange, redeem or distribute
a dividend on the stock of a group if all or substantially all of the
assets allocated to the respective group are sold to a third party.
Management of Acacia Research Corporation cannot assure the holders of
AR-CombiMatrix stock or AR-Acacia Technologies stock that the market values of
the two share classes will in fact reflect the separate performance of each
class of stock. Holders of AR-CombiMatrix stock and AR-Acacia Technologies stock
are stockholders of Acacia Research Corporation and as a result, are subject to
all of the risks of an investment in Acacia Research Corporation and all of its
businesses, assets and liabilities. Financial effects from one group that affect
Acacia Research Corporation's consolidated results of operations or financial
condition could, if significant, affect the results of operations or financial
condition of the other group.
F-23
Acacia Research Corporation's board of directors, subject to state laws and
limits in our restated certificate of incorporation, including those discussed
above, will be able to declare dividends on AR-CombiMatrix stock and AR-Acacia
Technologies stock in its discretion. To date, Acacia Research Corporation has
never paid or declared a ten percent
(10%) stock dividend. The stock dividend totaling 1,777,710cash dividends on shares of our common
stock, was distributednor do we
anticipate paying cash dividends on December 5, 2001either of the two classes of stock in the
foreseeable future.
The allocation of corporate expenses is generally based on utilization and
is in accordance with Acacia Research Corporation's restated certificate of
incorporation, for the purpose of measuring earnings available to stockholders
of recordAR-CombiMatrix stock and AR-Acacia Technologies stock and does not
necessarily reflect the financial condition, cash flows and operating results of
each division as of
November 21, 2001.if it were a stand-alone entity. The fair valuemanagement and allocation
policies applicable to the determination of the stock dividend paid, based onassets and liabilities and
income or losses attributable to the market valuerespective group may be modified or
rescinded, or additional policies may be adopted, at the sole discretion of
ourAcacia Research Corporation's board of directors at any time without approval of
the stockholders. Acacia Research Corporation's management and board of
directors have the ability to: transfer funds between the groups at the
discretion of management and the board of directors; allocate financing costs
between groups that may not reflect the separate borrowing costs of the groups;
and charge a greater or lesser portion of the total corporate tax liability to
the groups than that which would have been charged if the groups were
stand-alone entities. Acacia Research Corporation's management and board of
directors do not presently intend to modify or rescind the methodologies and
assumptions underlying the allocations in the pro forma financial statements.
See Note 2 for a description of applicable management allocation policies.
OTHER
In April 2004, Acacia Research Corporation raised gross proceeds of
$15,000,000 through the sale of 3,000,000 shares of Acacia Research -
CombiMatrix common stock on the dateat a price of declaration as adjusted for the
dilutive effect$5.00 per share in a registered direct
offering. Net proceeds raised of the stock dividend declared, is reflected as a
reclassificationapproximately $13,715,000, which are net of
accumulated deficit in the amount of $21,688,000, to
permanent capital, represented by our common stock and additional paid-in
capital accounts. All referencesrelated issuance costs, were attributed to the numberCombiMatrix group.
During 2004 and 2003, proceeds of $2,093,000 and $450,000 were received
from the issuance of 761,205 and 164,000 shares, (other than commonrespectively, of AR-CombiMatrix
stock issued or outstanding on the 2000 consolidated balance sheet and 2001,
2000 and 1999 consolidated statements of stockholders' equity), per share
amounts and any other reference to shares in the consolidated financial
statements and accompanying notesrelated to the consolidated financial statements,
unless otherwise noted, have been adjustedexercise of certain warrants issued in connection with the
May 2003 private equity financing described below. The proceeds from the
warrants exercised were attributed to reflect the stock dividend on a
retroactive basis.CombiMatrix group.
In May 2001, Advanced Material Sciences2003, Acacia Research Corporation completed a private equity
financing, raising gross proceeds of $2.0 million$5,247,000 through the issuance of
2,000,0002,385,000 units. Each unit consists of one share of AR-CombiMatrix common stock
and one-half, five-year callable common stock purchase warrant. Each full common
stock purchase warrant entitles the holder to purchase a share of AR-CombiMatrix
stock at a price of $2.75 per share and is callable by Acacia Research
Corporation beginning in May 2004 once the daily average of the high and low
prices of Acacia Research Corporation's AR-CombiMatrix stock on the Nasdaq
SmallCap Market is equal to or above $4.50 for 20 consecutive trading days.
Acacia Research Corporation issued an additional 31,502 shares of common stock. Acacia invested $155,000AR-CombiMatrix
stock in thislieu of cash payments in conjunction with the private placement for
finder's fees. Net proceeds raised from the private equity financing of
$4,862,000 were attributed to acquire 155,000 shares.the CombiMatrix group.
In September 2002, CombiMatrix Corporation issued 4,016,346 shares of its
common stock to Nanogen, Inc. ("Nanogen") in settlement of all outstanding
litigation between the parties (see Note 13). As a result of the transaction,
ourAcacia Research Corporation's equity ownership in Advanced Material SciencesCombiMatrix Corporation
decreased from 66.7%58% to 58.1%48%. Additionally, in October 2001, a subsidiaryA loss totaling $550,000, resulting from CombiMatrix
Corporation's issuance of CombiMatrix sold 10% of its
voting common stock to a joint venture partner in Japan. The gain, totaling
$1,283,000, resulting from our subsidiaries sale of stock to third-partiesthird party at a pricevalue per share in excess ofbelow our
carrying amount per share has been reflected as a direct increasereduction to additional
paid-in capital in consolidated stockholders' equity.
F-16F-24
8. PROVISIONS FOR10. INCOME TAXES
Provision (benefit)The benefit for income taxes consists of the following:
2001 2000 1999
------------- ------------- -------------
Current:
U.S. Federal tax............................................... $ 776,000 $ 2,500 $ 12,000
State taxes.................................................... 186,000 3,500 8,000
------------- ------------- -------------
962,000 6,000 20,000
------------- ------------- -------------
Deferred:
U.S. Federal tax............................................... (182,000) (79,000) --
State taxes.................................................... -- -- --
------------- ------------- -------------
(182,000) (79,000) --
------------- ------------- -------------
$ 780,000 $ (73,000) $ 20,000
============= ============= =============
following (in thousands):
2004 2003 2002
-------- -------- --------
Current:
U.S. Federal tax ......... $ - $ (2) $ (572)
State taxes .............. 4 9 4
-------- -------- --------
4 7 (568)
-------- -------- --------
Deferred:
U.S. Federal tax ......... (279) (280) (289)
State taxes .............. - - -
-------- -------- --------
(279) (280) (289)
-------- -------- --------
$ (275) $ (273) $ (857)
======== ======== ========
The tax effects of temporary differences and carryforwards that give rise
to significant portions of deferred assets and liabilities consist of the
following at December 31, 20012004 and 2000:2003 (in thousands):
2001 2000
------------- -------------2004 2003
---------- ----------
Deferred tax assets:
Basis of investments in affiliates...................................affiliates ................................. $ 16,789,00028,808 $ 9,362,000
Intangibles.......................................................... (3,829,000) (2,689,000)26,159
Depreciation ....................................................... (197) (55)
Intangibles ........................................................ (866) -
Deferred revenue ................................................... 1,000 3,456
Stock compensation ................................................. 8,231 8,749
Accrued liabilities and amortization........................................ (4,000) (118,000)
Stock compensation................................................... 6,993,000 2,737,000
Accrued liabilities.................................................. 1,061,000 740,000other ...................................... 1,022 2,022
Write-off of investments ........................................... 1,842 1,282
Net operating loss and capital loss carryforwards and credits......................... 25,084,000 27,257,000
------------- -------------
46,094,000 37,289,000credits ...... 54,278 49,018
---------- ----------
Total deferred tax assets .......................................... 94,118 90,631
Less: valuation allowance........................................... (49,923,000) (39,978,000)
------------- -------------allowance ......................................... (94,118) (90,631)
---------- ----------
Deferred tax assets, net of valuation allowance .................... - -
---------- ----------
Deferred tax liabilities:
Intangibles ........................................................ (2,981) (3,260)
---------- ----------
Net deferred tax liability ......................................... $ (3,829,000)(2,981) $ (2,689,000)
============= =============(3,260)
========== ==========
A reconciliation of the federal statutory income tax rate and the effective
income tax rate is as follows:
2001 2000 1999
------------- ------------- -------------2004 2003 2002
-------- -------- --------
Statutory federal tax rate.......................................rate ................. (34%) (34%) (34%)
State income taxes, net of federal benefit....................... (3%Tax exempt interest ........................ (1%) (3%) (3%)- -
Amortization of intangible assets................................ 2%assets .......... - - 1%
5%
Stock compensation............................................... 7%compensation ......................... - - 1%
Non deductible permanent items ............. (1%) - 9%
Intangibles ................................ - 1% 3%
0%Tax credits and other ...................... (9%) (1%) (1%)
Valuation allowance.............................................. 30%allowance ........................ 40% 33% 32%
------------- ------------- -------------
2% 0% 0%
============= ============= ==============22%
-------- -------- --------
(5%) (1%) 1%
======== ======== ========
F-25
At December 31, 2001, we had2004, Acacia Research Corporation has deferred tax assets
totaling approximately $94,118,000, which are fully offset by a valuation
allowance due to management's determination that the criteria for recognition
have not been met.
In December 2002, Acacia Research Corporation increased its ownership
interest in CombiMatrix Corporation from 48% to 100%. As a result of the
increase in ownership, Acacia Research Corporation files a consolidated federal
income tax returns that includes the Acacia Technologies group (excluding
discontinued operations) and the CombiMatrix group.
At December 31, 2004, consolidated U.S. Federal and California state income tax net
operating loss carry forwards ("NOLs") of, excluding NOLs related to subsidiaries
for which we do not file a consolidated tax return, were approximately
$29,680,000$138,835,000 and $16,531,000,$38,659,000, expiring between 20022005 and 2021, excluding NOLs at CombiMatrix and
other subsidiaries.2024. In addition, we
had consolidated tax credit carryforwards of approximately $102,000.$2,931,000. The
amount of the CombiMatrix Corporation NOLs and tax credits acquired, totaling
approximately $90,131,000 (expiring between 2011 and 2024) and $2,869,000,
respectively, that can be utilized annually to offset future taxable income or
tax liability has been limited under the Internal Revenue Code due to the
ownership change resulting from our December 2002 increase in ownership interest
in CombiMatrix Corporation to 100%.
As of December 31, 2004, the aggregate tax NOLs at CombiMatrix and other subsidiaries for
which we do not file a consolidated tax return are approximately $40,225,000 and $8,999,000$20,252,000 for
federal and state income tax purposes, respectively, expiring between 20022018 and 2021. CombiMatrix and other
subsidiaries also have tax credit carryforwards of approximately $840,000, which
begin expiring in 2011.2024. However, the use of
these NOLs and tax credits areis limited to the separate earnings of the respective subsidiaries.
In addition, ownership changes may also restrict the use of NOLs and tax
credits.
F-17
Had the Acacia Technologies group and the CombiMatrix group each filed
separate tax returns, the provision (benefit) for income taxes and division net
income (loss) would not have differed from the amounts reported in Acacia
Research Corporation's statement of operations for the years ended December 31,
2004, 2003, and 2002.
As of December 31, 2001,2004, approximately $9,507,000$9,844,000 of the valuation
allowance related to the tax benefits of stock option deductions included in
Acacia'sAcacia Research Corporation's NOLs. At such time as the valuation allowance is
released, the benefit will be credited to additional paid-in capital.
9.11. DISCONTINUED OPERATIONS
On February 13, 2001,In September 2004 and 2002, we accrued an additional $104,000 and $200,000
(net of minority interests), respectively, in estimated costs to be incurred in
connection with the board of directorsdiscontinued operations of Soundbreak.com Incorporated ("Soundbreak.com"), a majority-owned subsidiary of Acacia, resolved(originally ceased
operations in February 2001). The additional accruals relate primarily to
cease operations as of February 15, 2001 and liquidate the remaining assets
and liabilities of the subsidiary. Accordingly, we reported the results of
operationscertain noncancellable lease obligations and the estimated loss on disposal of Soundbreak.com as results of
discontinued operations ininability to sublease the
2000 consolidated statements of operations and
comprehensive loss.
Following is summary financial information for the discontinued
operations:
2000 1999
------------- -------------
Net sales ......................................................... $ 4,000 $ --
============= =============
Loss from discontinued operations:
Before minority interests ...................................... $ 16,437,000 $ 1,784,000
Minority interests ............................................. (8,994,000) (1,008,000)
------------- -------------
Net............................................................. $ 7,443,000 $ 776,000
============= =============
Estimated loss on disposal:
Before minority interests ...................................... $ 5,066,000 $ --
Minority interests.............................................. (2,955,000) --
------------- -------------
Net ............................................................ $ 2,111,000 $ --
============= =============
Discontinued operations did not have an impact on the December 31, 2001
consolidated statement of operations and comprehensive loss.related office space at rates commensurate with our existing obligations.
The assets and liabilities of the discontinued operations at December 31,
20012004 and 2003 consist primarily of $4,014,000$889,000 and $1,953,000 of cash and cash
equivalents and $1,342,000$275,000 and $388,000 of accounts payable and accrued expenses.
The assets and liabilities of the discontinued operations at December
31, 2000 primarily consist of $6,620,000 of cash and cash equivalents, $10,000
of management fees and other receivables, $74,000 of prepaid expenses,
$164,000
of other assets, $207,000 in property and equipment and $3,599,000 of accounts
payable and accrued expenses.
F-18
10.respectively.
12. STOCK OPTIONS AND WARRANTS
We have threeThe 2002 Acacia Technologies Stock Incentive Plan (the "AR-Acacia
Technologies Group Plan") and the 2002 CombiMatrix Stock Incentive Plan (the
"AR-CombiMatrix Group Plan") were approved by the stockholders of Acacia
Research Corporation in December 2002 (see Note 1). The AR-Acacia Technologies
Group Plan authorizes grants of stock options, stock awards and performance
shares with respect to AR-Acacia Technologies stock. The AR-CombiMatrix Group
Plan authorizes grants of stock options, stock awards and performance shares
with respect to AR-CombiMatrix stock. Directors and certain officers and key
employees with responsibilities involving both the Acacia Technologies group and
the CombiMatrix group may be granted awards under both incentive plans in a
manner which reflects their responsibilities. The board of directors believes
that granting participants awards tied to performance of the group in which the
participants work and, in certain cases the other group, is in the best interest
of the Acacia Research Corporation and its stockholders.
F-26
As a result of the recapitalization of Acacia Research Corporation in
December 2002 (see Note 1), each outstanding option and warrant to acquire a
share of Acacia Research Corporation common stock under the existing stock
option plans currentlyor warrants was converted into separately exercisable options or
warrants, as the case may be, to acquire 0.5582 of a share of AR-CombiMatrix
stock and one share of AR-Acacia Technologies stock. The conversion ratio for
shares of AR-CombiMatrix stock is equal to the quotient obtained by dividing (a)
the number of shares of CombiMatrix Corporation common stock owned by Acacia
Research Corporation immediately prior to the effective time of the merger by
(b) the total number of shares of Acacia Research Corporation common stock
issued and outstanding immediately prior to the effective time. The exercise
price for the resulting AR-Acacia Technologies stock options and warrants and
AR-CombiMatrix stock options and warrants was calculated by multiplying the
exercise price under such existing stock option or warrant by a fraction, the
numerator of which is the result obtained by multiplying the opening price of
the applicable class of common stock underlying such option on the first date
such stocks are traded after the recapitalization times the applicable
conversion ratio and the denominator of which is the sum of such amounts for the
AR-CombiMatrix stock and the AR-Acacia Technologies stock. However, the
aggregate intrinsic value of the options was not increased, and the ratio of the
exercise price per option to the market value per share was not reduced. The
converted options continue to be governed by the terms and conditions of the
original option plans.
As a result of the merger transaction with CombiMatrix Corporation, in
effect: the 1993December 2002 (see Note 8), each outstanding option to purchase shares of
CombiMatrix Corporation common stock under CombiMatrix Corporation's 1995 Stock
Option Plan, (the "1993 Plan"), the 1996 Executive Stock Bonus Plan (the "Bonus
Plan") and the 19961998 Stock Option Plan (the "1996 Plan").
Optionsand 2000 Stock Awards Plan, whether or not
exercisable, was assumed by Acacia Research Corporation. Each assumed option
continues to be governed by the same terms and conditions that governed it under
the 1993applicable CombiMatrix Corporation plan authorizeimmediately before the granting of both options
intended to qualify as "incentive stock options" under Section 422Aeffective
time of the Internal Revenue Code ("Incentive Stock Options")merger except that the option is exercisable for shares of
AR-CombiMatrix stock rather than CombiMatrix Corporation common stock. The
number of shares of AR-CombiMatrix stock issuable upon exercise of the assumed
option, as well as the exercise price, is the same as the number of shares of
CombiMatrix Corporation common stock issuable and exercise price prior to the
merger. The exchange of AR-CombiMatrix stock options that are not
intended to so qualify ("Nonqualified Stock Options") to officers, directors,
employees, consultants and others expected to provide significant services to
Acacia or its subsidiaries. The 1993 Plan covers an aggregate of 2,000,000
shares of common stock. We have reserved 2,000,000 shares offor CombiMatrix Corporation
common stock options is considered a modification (or settlement) of a
stock-based compensation arrangement resulting in connection witha new measurement date for the
1993 Plan. Underrespective awards. The new measurement date for the award modifications was
December 13, 2002, the effective date of the merger, and resulted in additional
stock-based compensation of $116,000, which was allocated to the CombiMatrix
group.
STOCK OPTION PLANS
The terms of the 1993AR-Acacia Technologies Group Plan optionsand the AR-CombiMatrix
Group Plan are identical except that AR-Acacia Technologies stock may be exercised upon terms approved by Acacia'sissued
only under the AR-Acacia Technologies Group Plan and AR-CombiMatrix stock may be
issued only under the AR-CombiMatrix Group Plan.
Acacia Research Corporation's compensation committee administers the
discretionary option grant and stock issuance programs. This committee
determines which eligible individuals are to receive option grants or stock
issuances under those programs, the time or times when the grants or issuances
are to be made, the number of shares subject to each grant or issuance, the
status of any granted option as either an incentive stock option or a
non-statutory stock option under the federal tax laws, the vesting schedule to
be in effect for the option grant or stock issuance and the maximum term for
which any granted option is to remain outstanding.
PROGRAMS
Each of the incentive plans has four separate programs:
o DISCRETIONARY OPTION GRANT PROGRAM. Under the discretionary option
grant program, our compensation committee may grant (1) non-statutory
options to purchase shares of AR-Acacia Technologies stock and
AR-CombiMatrix stock, as applicable, to eligible individuals in the
employ or service of Acacia Research Corporation or our subsidiaries
(including employees, non-employee board of directorsmembers and expireconsultants) at
a
maximum of ten years from the date of grant. Incentive Stock Options are granted
at prices equal to or greater than fair market value at the date of grant.
Nonqualified Stock Options are generally granted at prices equal to or greateran exercise price not less than 85% of the fair market value of those
shares on the grant date and (2) incentive stock options to purchase
F-27
shares of AR-Acacia Technologies stock and AR-CombiMatrix stock, as
applicable, to eligible employees at an exercise price not less than
100% of the fair market value of those shares on the grant date (not
less than 110% of fair market value if such employee actually or
constructively owns more than 10% of our voting stock or the voting
stock of any of our subsidiaries).
o STOCK ISSUANCE PROGRAM. Under the stock issuance program, eligible
individuals may be issued shares of AR-Acacia Technologies stock and
AR-CombiMatrix stock, as applicable, directly, upon the attainment of
performance milestones or the completion of a specified period of
service or as a bonus for past services. Under this program, the
purchase price for the shares shall not be less than 100% of the fair
market value of the shares on the date of grant. Allissuance, and payment may be
in the form of cash or past services rendered.
o AUTOMATIC OPTION GRANT PROGRAM. Under the automatic option grant
program, option grants will automatically be made at periodic
intervals to eligible non-employee members of our board of directors
to purchase shares of AR-Acacia Technologies stock and AR-CombiMatrix
stock, as applicable, at an exercise price equal to 100% of the fair
market value of those shares under
the 1993 Plan have been awarded.
The Bonus Plan provided for a one-time grant of options to purchase an
aggregate of 720,000 shares of our common stock to directors, officers and other
key employees performing services for our affiliates and us. Under each option
agreement of the Bonus Plan, 25% of the options become exercisable on each of
the first four anniversaries of the grant date. The options granted underEach individual who
first becomes a non-employee board member at any time after the Bonus Plan expire in March 2001. Alldate
of the adoption of the incentive plans by our board of directors will
automatically receive an option to purchase 20,000 shares underof AR-Acacia
Technologies stock and 20,000 shares of AR-CombiMatrix stock on the
Bonus Plan have
been awarded.date the individual joins the board of directors. In April 1996,addition, on the
first business day in each calendar year following the adoption of the
incentive plans by our board of directors, each non-employee board
member then in office, including each of our current non-employee
board members who is then in office, will automatically be granted an
option to purchase 15,000 shares of AR-Acacia Technologies stock and
15,000 shares of AR-CombiMatrix stock, provided that the individual
has served on the board of directors adoptedfor at least six months.
o DIRECTOR FEE OPTION GRANT PROGRAM. If this program is put into effect
in the 1996 Plan, which was
approved by the stockholders in May 1996. The 1996 Plan provides for the grantfuture, it will allow non-employee members of Nonqualified Stock Options and Incentive Stock Options to key employees,
including officers of Acacia and its subsidiaries and certain other individuals.
The 1996 Plan also provides for the automatic grant of 20,000 shares of
Nonqualified Stock Options to non-employee directors upon initial election to
theour board of
directors and 2,000 shares thereafter on an annual basisthe opportunity to apply a portion of any retainer fee
otherwise payable to them in cash each year to the acquisition of
special below-market option grants.
Limited stock appreciation rights will automatically be included as part of
each grant made under the Non-Employee Director Program. Theseautomatic and director fee option grant programs, and
these rights may also be granted to one or more of our officers as part of their
option grants under the discretionary option grant program.
The AR-Acacia Technologies Group Plan and the AR-CombiMatrix Group Plan do
not segregate the number of securities remaining available for future issuance
among stock options and other awards. The shares authorized for future issuance
represents the total number of shares available through any combination of stock
options or other awards.
Our board of directors may amend or modify the incentive plans at any time,
subject to any required stockholder approval. The incentive plans will terminate
no later than the tenth anniversary of the approval of the incentive plans by
our stockholders.
Options are generally exercisable six months to one year after grant and
expire five years after grant for directors or up to ten years after grant for
key employees. In May 1998, stockholders
approved amendments to the 1996 Stock Option Plan, which increased theThe authorized number of shares of common stock subject to the
amended plan by
500,000AR-Acacia Technologies Group Plan is 6,208,000 shares. In May 1999, stockholders approved amendments to the 1996 Stock
Option Plan, which increased theThe authorized number of
shares of common stock subject to the amended plan by 2,000,000 shares. In May 2000, stockholders
approved amendments to the 1996 Stock OptionAR-CombiMatrix Group Plan which increased the
authorized number of shares of common stock subject to the amended plan by
1,000,000is 9,710,000
shares. At the years ended December 31, 2001 and 2000, 482,000 and
1,129,0002004, shares were available for grant are 228,000 and
2,166,000 under the AR-Acacia Technologies Group Plan and the AR-CombiMatrix
Group Plan, respectively.
The following is a summary of common stock option activities:
F-28
ACACIA RESEARCH CORPORATION COMMON STOCK (THROUGH DECEMBER 13, 2002):
EXERCISE WEIGHTED
SHARES PRICES AVERAGE PRICE
------------- ----------------------------- ------------------- -------------
Balance at December 31, 1998...................... 1,829,0002001................................ 3,482,000 $ 0.913.47 - $ 7.8550.28 $ 2.9516.94
Options Granted................................... 799,000Granted............................................. 441,000 $ 3.89 - $21.59 $12.22
Options Exercised................................. (359,000) $ 0.916.68 - $ 4.2411.67 $ 2.118.48
Options Cancelled................................. (51,000)Exercised........................................... (56,000) $ 3.283.47 - $ 7.16 $ 4.72
--------------3.63
Options Cancelled........................................... (370,000) $ 3.52 - $ 43.18 $ 16.94
------------
Balance at December 13, 2002 (pre-recapitalization)......... 3,497,000 $ 3.59 - $ 50.28 $ 16.09
Exchange in recapitalization transaction.................... (3,497,000) $ 3.59 - $ 50.28 $ 16.09
------------
Balance at December 13, 2002 (post-recapitalization)........ -
============
Exercisable at December 31, 2001............................ 1,315,000 $ 3.47 - $ 50.28 $ 18.47
============
Exercisable at December 13, 2002 (pre-recapitalization)..... 2,088,000 $ 3.59 - $ 50.28 $ 17.17
============
AR-ACACIA TECHNOLOGIES STOCK (FROM DECEMBER 13, 2002):
EXERCISE WEIGHTED
SHARES PRICES AVERAGE PRICE
------------ ------------------- -------------
Balance at December 13, 2002................................ 3,497,000 $ 2.49 - $ 34.84 $ 11.14
Options Granted............................................. 822,000 $ 1.85 - $ 1.85 $ 1.85
Options Exercised........................................... - - -
Options Cancelled........................................... (24,000) $ 9.45 - $ 15.31 $ 12.65
------------
Balance at December 31, 1999...................... 2,218,0002002................................ 4,295,000 $ 0.911.85 - $21.59 $ 6.3834.84 $ 9.36
Options Granted................................... 2,709,000Granted............................................. 1,059,000 $ 14.551.37 - $50.28 $27.90$ 5.17 $ 3.35
Options Exercised................................. (585,000)Exercised........................................... (99,000) $ 2.391.85 - $14.55 $ 3.412.70 $ 1.91
Options Cancelled................................. (717,000)Cancelled........................................... (116,000) $ 1.821.85 - $46.79 $19.48
--------------$ 18.98 $ 8.07
------------
Balance at December 31, 2000...................... 3,625,0002003................................ 5,139,000 $ 2.771.37 - $50.28 $20.51$ 34.84 $ 8.29
Options Granted................................... 1,390,000Granted............................................. 913,000 $ 5.652.90 - $16.08 $ 7.146.76 $ 4.63
Options Exercised................................. (790,000)Exercised........................................... (155,000) $ 2.771.85 - $14.55 $ 3.484.75 $ 4.04
Options Cancelled................................. (743,000)Cancelled........................................... (171,000) $ 3.181.85 - $48.69 $30.48
--------------$ 34.84 $ 8.77
------------
Balance at December 31, 2001...................... 3,482,0002004................................ 5,726,000 $ 3.471.37 - $50.28 $16.94
==============$ 29.09 $ 7.81
============
Exercisable at December 31, 2000.................. 1,181,0002004............................ 4,009,000 $ 2.771.37 - $46.79 $ 7.4829.09 $ 9.51
============
AR-COMBIMATRIX STOCK (FROM DECEMBER 13, 2002):
EXERCISE WEIGHTED
SHARES PRICES AVERAGE PRICE
------------ ------------------- -------------
Balance at December 13, 2002................................ 5,648,000 $ 1.50 - $ 27.67 $ 9.22
Options Granted............................................. - - -
Options Exercised........................................... (14,000) $ 1.98 - $ 2.00 $ 2.00
Options Cancelled........................................... (14,000) $ 7.50 - $ 12.16 $ 10.04
------------
Balance at December 31, 2002................................ 5,620,000 $ 1.50 - $ 27.67 $ 9.24
Options Granted............................................. 2,014,000 $ 0.00 - $ 4.49 $ 2.05
Options Exercised........................................... (271,000) $ 0.00 - $ 2.14 $ 1.86
Options Cancelled........................................... (746,000) $ 1.95 - $ 24.00 $ 9.89
------------
Balance at December 31, 2003................................ 6,617,000 $ 1.50 - $ 27.67 $ 7.28
Options Granted............................................. 1,173,000 $ 3.07 - $ 7.70 $ 5.79
Options Exercised........................................... (1,023,000) $ 1.50 - $ 5.00 $ 3.19
Options Cancelled........................................... (535,000) $ 1.95 - $ 27.67 $ 9.89
------------
Balance at December 31, 2004................................ 6,232,000 $ 1.50 - $ 24.00 $ 7.44
============
Exercisable at December 31, 2001.................. 1,315,0002004............................ 4,843,000 $ 3.471.50 - $50.28 $18.47$ 24.00 $ 8.07
============
F-19F-29
10. STOCK OPTIONS AND WARRANTS
Options outstanding at year ended December 31, 20012004 are summarized as follows:
AR-ACACIA TECHNOLOGIES STOCK:
WEIGHTED OUTSTANDING EXERCISABLE
NUMBER OF AVERAGE WEIGHTED WEIGHTED
NUMBERRANGE OF OUTSTANDING REMAINING AVERAGE NUMBER AVERAGE
EXERCISE PRICES OPTIONS CONTRACTUAL LIFE EXERCISE PRICE EXERCISABLE EXERCISE PRICE
--------------- ----------------------------------------- ---------------- ---------------- -------------- --------------------------- --------------
$ 0.00 - $ 5.00............ 103,000 0.53.48.............. 1,354,000 8.2 $1.98 710,000 $1.89
$ 3.54 103,0003.49 - $ 3.546.97.............. 2,606,000 7.8 $4.64 1,534,000 $4.47
$ 5.016.98 - $10.00............ 1,354,000 8.6$10.45.............. 133,000 3.3 $7.69 133,000 $7.69
$ 6.29 373,00010.46 - $13.94.............. 168,000 5.6 $11.81 168,000 $11.81
$ 6.13
$10.0113.95 - $15.00............ 135,000$17.42.............. 637,000 5.5 $15.19 637,000 $15.19
$ 17.43 - $20.90.............. 525,000 5.2 $12.72 27,000 $13.93
$15.01$19.11 525,000 $19.11
$ 20.91 - $20.00............ 179,000 8.8 $17.04 103,000 $17.28
$20.01$24.39.............. 193,000 4.4 $20.90 192,000 $20.90
$ 27.88 - $25.00............ 761,000 7.6 $22.07 260,000 $21.97
$25.01$31.36.............. 110,000 5.2 $29.09 110,000 $29.09
---------------- ----------------
5,726,000 7.1 $7.81 4,009,000 $9.51
================ ================
AR-COMBIMATRIX STOCK:
WEIGHTED OUTSTANDING EXERCISABLE
NUMBER OF AVERAGE WEIGHTED WEIGHTED
RANGE OF OUTSTANDING REMAINING AVERAGE NUMBER AVERAGE
EXERCISE PRICES OPTIONS CONTRACTUAL LIFE EXERCISE PRICE EXERCISABLE EXERCISE PRICE
------------------------------ ---------------- ---------------- -------------- ---------------- --------------
$ 0.00 - $30.00............ 615,000 7.5 $27.55 251,000 $27.61
$30.01$ 2.77.............. 1,224,000 7.90 $1.96 801,000 $1.95
$ 2.78 - $35.00............ 212,000 6.8 $30.17 126,000 $30.17
$35.01$ 5.53.............. 1,802,000 6.70 $4.03 1,483,000 $4.07
$ 5.54 - $40.00............ -- -- $ -- --8.30.............. 747,000 8.60 $6.73 242,000 $6.57
$ --
$40.018.31 - $45.00............ 116,000 8.2 $41.96 68,000 $41.97
$45.01$11.07.............. 694,000 5.70 $9.05 694,000 $9.05
$ 11.08 - $52.00............ 7,000 8.2 $50.28 4,000 $50.28
---------- -----------
3,482,000 1,315,000
========== ===========$13.83.............. 1,040,000 6.50 $12.02 922,000 $12.02
$ 13.84 - $16.60.............. 342,000 5.50 $15.15 324,000 $15.16
$ 16.61 - $19.37.............. 207,000 5.10 $17.27 208,000 $17.27
$ 22.14 - $24.90.............. 176,000 5.80 $23.69 169,000 $23.67
---------------- ----------------
6,232,000 6.91 $7.44 4,843,000 $8.07
================ ================
Information related to options granted for the periods presented is as
follows:
AR-ACACIA TECHNOLOGIES STOCK AR-COMBIMATRIX STOCK
2004 2003 2002(1) 2004 2003 2002(1)
-----------------------------------------------------------------------
Weighted Average fair values of option granted ......... $3.50 $2.44 $5.43 $4.19 $1.59 $1.16
Options granted with exercises prices:
Greater than market price on the grant date ...... - 380,000 - 18,000 108,000 -
Less than market price on the grant date ......... - - - - 18,000 -
- ----------
(1) From January 1, 2002 through December 13, 2002.
At year ended December 31, 2001, the total number of2004 and 2003, there were 283,000 and 1,045,000 warrants
outstanding, representrespectively, issued in connection with the May 2003 equity
financing discussed elsewhere herein, representing rights to purchase
960,000 and 1,240,000 shares of
Acacia'sAR-CombiMatrix common stock at a per share exercise price of $30.00 and $19.09,
respectively.$2.75, which are
exercisable through May 2008.
At December 31, 2000, the total number of2003, there were 1,240,000 warrants outstanding
representrepresenting rights to purchase 960,000 shares of Acacia'sAR-Acacia Technologies common stock at a per
share exercise price of $30.00.$13.23 and 692,000 warrants outstanding representing
rights to purchase AR-CombiMatrix common stock at a per share exercise price of
$10.50. These warrants expired unexercised in January 2004.
F-30
We have adopted the disclosure only requirements of SFAS No. 123 with
respect to options issued to employees. The weighted average fair value of
options granted during 2001, 2000 and 1999Refer to Note 2 for which the exercise price equals
the fair market price on the grant date was $4.19, $20.17 and $13.33,
respectively. The weighted average fair value of options granted during 1999 for
which the exercise price is less than fair market value on grant date was
$16.70. There were no options granted during 2001 or 2000 with exercise price
less than the market value.
As of December 31, 2001, CombiMatrix had a total of 3,534,000 shares of
options and warrants outstanding, of which, 1,798,000 shares are exercisable. As
of December 31, 2000, CombiMatrix had a total of 4,539,000 shares of options and
warrants outstanding, of which 1,062,000 shares are exercisable. As of December
31, 1999, CombiMatrix had a total of 798,000 shares of options and warrants
outstanding, of which 444,000 shares are exercisable.
Had we accounted for stock compensation expense related to stock
options issued to employees in accordance withadditional SFAS No.
123 our pro forma loss
from continuing operations and loss per share would have been as follows:
2001 2000 1999
------------- ------------- ------------
Loss from continuing operations as reported......................... $(22,272,000) $(29,159,000) $(7,421,000)
Loss from continuing operations, pro forma.......................... $(30,806,000) $(37,671,000) $(8,505,000)
Basic loss from per share from continuing operations as reported.... $ (1.16) $ (1.78) $ (0.59)
Basic loss from per share from continuing operations, pro forma..... $ (1.60) $ (2.31) $ (0.67)
Diluted loss from per share from continuing operations as reported.. $ (1.16) $ (1.78) $ (0.59)
Diluted loss from per share from continuing operations, pro forma... $ (1.60) $ (2.31) $ (0.67)
The fair value of the options was determined using the Black-Scholes
option-pricing model, assuming weighted average risk free annual interest of
4.52%, 6.31% and 5.79% in 2001, 2000 and 1999, respectively, volatility of
approximately 75%, with expected lives of approximately four years and no
expected dividends.
F-20
11. DEFERRED NON-CASH STOCK COMPENSATION CHARGES
During the year ended December 31, 2000, our majority-owned subsidiary,
CombiMatrix, recorded deferred non-cash stock compensation charges aggregating
approximately $53.8 million in connection with the granting of stock options.
Pursuant to Acacia's policy, the stock options were granted at exercise prices
equal to the fair value of the underlying CombiMatrix stock on the date of grant
as determined by Acacia. However, such exercise prices were subsequently
determined to be below fair value due to a substantial step-up in the fair value
of CombiMatrix pursuant to a valuation provided by an investment banker in
contemplation of a potential CombiMatrix initial public offering in 2000. In
connection with the proposed CombiMatrix initial public offering and pursuant to
SEC rules and guidelines, we were required to reassess the value of stock
options issued during the one-year period preceding the potential initial public
offering and utilize the stepped-up fair value provided by the investment banker
for purposes of determining whether such stock option issuances were
compensatory, resulting in the calculation of the $53.8 million in deferred
non-cash stock compensation charges in 2000. Deferred non-cash stock
compensation charges are being amortized by CombiMatrix over the respective
option grant vesting periods, which range from one to four years. The table
below reflects the gross deferred non-cash stock compensation charges recorded
by CombiMatrix related to stock option grants, the amortization of deferred
non-cash stock compensation for 2001 and 2000, and the impact of certain other
CombiMatrix stock option transactions during 2001, as follows:
Gross CombiMatrix deferred non-cash stock compensation charges........................... $ 53,773,000
Less amounts amortized to date and other items:
Amortization through December 31, 2000................................................... (9,709,000)
Deferred non-cash stock compensation charges related to 2001 stock option grants......... 729,000
Amortization for the year ended December 31, 2001 (net of $4,698,000 of
amortization reversal related to forfeitures of certain unvested options and other).... (18,807,000)
Forfeitures of certain unvested options (results in a net reduction in deferred stock
compensation to be amortized in future periods)........................................ (13,220,000)
-------------
Remaining CombiMatrix deferred non-cash stock compensation as of December 31, 2001
to be amortized in subsequent periods.................................................. $ 12,766,000
=============
During the third and fourth quarters of 2001, certain CombiMatrix
unvested stock options were forfeited. Pursuant to the provisions of APB No. 25
and related interpretations, the reversal of previously recognized non-cash
stock compensation expense on forfeited unvested stock options, in the amount of
$4,698,000, has been reflected in the consolidated statements of operations and
comprehensive loss as a reduction in 2001 non-cash stock compensation expense.
In addition, the forfeiture of certain unvested options during 2001 results in a
reduction of the remaining deferred non-cash stock compensation expense
scheduled to be amortized in future periods.
The remaining deferred non-cash stock compensation balance as of
December 31, 2001 related to stock options issued by CombiMatrix represents the
future non-cash deferred stock compensation expense that will be reflected in
our consolidated statements of operations and comprehensive loss as non-cash
stock compensation charges over the next twelve quarters from January 1, 2002
through December 31, 2004 as follows:
FIRST SECOND THIRD FOURTH
YEAR QUARTER QUARTER QUARTER QUARTER TOTAL
---- ----------- ----------- ----------- ----------- -----------
2002...................... $ 2,273,000 $ 2,311,000 $ 2,212,000 $ 1,276,000 $ 8,072,000
2003...................... 1,036,000 1,041,000 997,000 510,000 3,584,000
2004...................... 366,000 360,000 329,000 55,000 1,110,000
-----------
$12,766,000
===========
Non-cash deferred stock compensation expense scheduled to be recognized
in future periods reflected above may be impacted by certain subsequent stock
option transactions including modification of terms, cancellations, forfeitures
and other activity.
F-21
12.disclosures.
13. COMMITMENTS AND CONTINGENCIES
SALE AND LEASEBACK ARRANGEMENT
In September 2001, CombiMatrix entered into a sale and leaseback
arrangement with a bank, providing up to $7,000,000 in financing for equipment
and other capital purchases. Pursuant to the terms of the agreement, certain
equipment and leasehold improvements, totaling $2,557,000 in net book value were
sold to the bank at a purchase price of $3,000,000, resulting in a deferred gain
on the sale of assets of $443,000. The deferred gain is being amortized over 4
years, the term of the related lease arrangement. In addition, CombiMatrix
entered into a capital lease arrangement to lease the fixed assets from the
bank. The capital lease agreement provides CombiMatrix with the option to
purchase the equipment for a nominal amount at the end of the lease term, which
expires in September 2004.
Future minimum lease payments under scheduled capital leases that have
initial or remaining non-cancelable terms in excess of one year are as follows:
YEAR
----
2002...................................................... $ 1,141,000
2003...................................................... 1,141,000
2004...................................................... 855,000
------------
Total minimum payments.................................... 3,137,000
Less: amount representing interest....................... (358,000)
------------
Obligations under capital lease........................... 2,779,000
Less: current portion.................................... (934,000)
------------
$ 1,845,000
============
OPERATING LEASES
We lease certain office furniture and equipment and laboratory and office
space under various operating lease agreements expiring over the next 74 years.
Minimum annual rental commitments on operating leases of continuing operations
having initial or remaining non-cancelable lease terms in excess of one year are
as follows:follows (in thousands):
YEAR
----
2002......................................................2005................................................. $ 1,642,000
2003...................................................... 1,894,000
2004...................................................... 1,650,000
2005...................................................... 1,721,000
2006...................................................... 1,735,000
Thereafter................................................ 3,312,000
------------2,271
2006................................................. 2,226
2007................................................. 1,986
2008................................................. 1,615
Thereafter........................................... -
---------
Total minimum lease payments.............................. $11,954,000
============payments......................... $ 8,098
=========
Rent expenses of continuing operations at year ended December 31, 2001,
2000expense in 2004, 2003 and 19992002 approximated $1,979,289, $1,032,000$2,241,000, $2,473,000 and
$431,000,$2,063,000, respectively.
F-22
LITIGATION
On November 28, 2000, Nanogen, Inc. ("Nanogen") filed suit against
CombiMatrix and one of its principal stockholders, who is also a member of
CombiMatrix's board of directors. Nanogen alleges breach of contract, trade
secret misappropriation and that United States Patent No. 6,093,302 and other
proprietary information belonging to CombiMatrix are instead the property of
Nanogen. The litigation is in early stages, and CombiMatrix cannot predict its
outcome. While CombiMatrix believes it has strong defenses to Nanogen's claims,
if Nanogen were to prevail in its suit against CombiMatrix and obtain the
injunction and monetary relief that is being sought, CombiMatrix could incur
significant financial liabilities that would materially affect our consolidated
financial condition and results of operations.
Acacia Research Corporation is subject to other claims, counterclaims and legal
actions that arise in the ordinary course of business. Management believes that
the ultimate liability with respect to these claims and legal actions, if any,
will not have a material effect on our financial position, results of operations
or cash flows. 13.From time to time, companies comprising the Acacia Technologies
group engage in litigation to enforce their patents.
COMBIMATRIX CORPORATION
On November 28, 2000, Nanogen filed a complaint in the United States
District Court for the Southern District of California against CombiMatrix
Corporation and Donald D. Montgomery, Ph.D., an officer, director and
stockholder of CombiMatrix Corporation. Dr. Montgomery was employed by Nanogen
as a senior research scientist between May 1994 and August 1995. The Nanogen
complaint alleged, among other things, breach of contract, trade secret
misappropriation and that U.S. Patent No. 6,093,302 and other proprietary
information belonging to CombiMatrix Corporation are instead the property of
Nanogen. The complaint sought, among other things, correction of inventorship on
the patent, the assignment of rights in the patent and pending patent
applications to Nanogen, an injunction preventing disclosure of trade secrets,
damages for trade secret misappropriation and the imposition of a constructive
trust.
F-31
On September 30, 2002, CombiMatrix Corporation and Dr. Donald Montgomery
entered into a settlement agreement with Nanogen to settle all pending
litigation between the parties. Pursuant to the terms of the settlement
agreement, Nanogen dismissed with prejudice its lawsuit against CombiMatrix
Corporation and Dr. Montgomery. In return, CombiMatrix Corporation agreed to pay
Nanogen $500,000 within 30 days of the settlement and an additional $500,000,
which was paid in September 2003. CombiMatrix Corporation also agreed to make
quarterly payments to Nanogen equal to 12.5% of payments to CombiMatrix
Corporation from sales of products developed by CombiMatrix Corporation and its
affiliates and based on the patents that had been in dispute in the litigation,
up to an annual maximum of $1,500,000. The minimum quarterly payments under the
settlement agreement will be $37,500 per quarter for the period from October 1,
2003 through October 1, 2004, and $25,000 per quarter thereafter until the
patents expire in 2018. Also, pursuant to the settlement agreement, CombiMatrix
Corporation issued to Nanogen 4,016,346 shares, or 17.5% of its outstanding
shares post-issuance, subject to an anti-dilution provision related to the
exercise of CombiMatrix Corporation options and warrants that were outstanding
on the effective date of the agreement, for a period of up to three years.
The issuance of the CombiMatrix Corporation common shares in settlement of
the litigation with Nanogen was accounted for as a nonmonetary transaction.
Accordingly, CombiMatrix Corporation recorded a non-cash litigation settlement
charge in the consolidated statements of operations for the year ended December
31, 2002 of approximately $17,471,000, which was based on the fair value of the
CombiMatrix Corporation common shares issued to Nanogen. Management was
responsible for determining the fair value of the common shares issued to
Nanogen on the settlement date and considered a number of factors, including
reference to an independent third-party valuation. Management utilized an income
approach to estimate the value of the common shares issued, based on the present
value of CombiMatrix Corporation's future estimated cash flows. Future estimated
cash flows included management's estimates of revenues, cost of sales, research
and development expenses, sales and marketing expenses, general and
administrative expenses, the anticipated effect of income taxes, and required
returns on working capital, fixed assets and other assets necessary to support
the generation of these cash flows. Future estimated cash flows were discounted
to the present value using a discount rate of 25%, which reflected a required
rate of return, comprised of an estimated weighted-average cost of capital,
which was further increased to reflect the risk profile of the company's
business.
Total legal settlement charges recorded in the consolidated statement of
operations for the year ended December 31, 2002 include the fair value of the
common shares issued to Nanogen in the amount of $17,471,000 and a charge in the
amount of $1,000,000 related to the cash payments due to Nanogen discussed
above.
During the year ended December 31, 2004, the CombiMatrix group recorded a
net non-cash charge totaling $812,000 in connection with the anti-dilution
provisions of the settlement agreement. The non-cash charge reflects
management's estimate of the fair value of AR-CombiMatrix stock issued to
Nanogen, Inc. as a result of certain options and warrants exercised during 2004
and the fair value of AR-CombiMatrix stock potentially issuable to Nanogen, Inc.
as of December 31, 2004. The liability is adjusted at each balance sheet date
for changes in the market value of the AR-CombiMatrix stock and is reflected as
a long-term liability until settled in equity. The anti-dilution provisions of
the settlement agreement expire in September 2005.
PATENT ENFORCEMENT LITIGATION
SOUNDVIEW TECHNOLOGIES
In September 2002, the United States District Court for the District of
Connecticut granted a motion for summary judgment filed by the defendants in
Soundview Technologies pending patent infringement and antitrust lawsuit against
Sony Corporation of America, the Consumer Electronics Manufacturers Association
and the Electronics Industries Alliance d/b/a Consumer Electronics Association
in the United States District Court for the Eastern District of Virginia (filed
on April 5, 2000), alleging that television sets utilizing certain content
blocking technology (commonly known as the "V-chip") and sold in the United
States infringe Soundview Technologies' U.S. Patent No. 4,554,584. In granting
the motion, the court ruled that the defendants have not infringed on Soundview
Technologies' patent.
In September 2003, a motion for summary judgment filed by the remaining
defendants was granted by the United States District Court for the District of
Connecticut on Soundview Technologies' anti-trust claims due to the Court's
previous ruling of non-infringement as described above.
In August 2004, the U.S. Court of Appeals for the Federal Circuit affirmed
the September 2002 U.S. District Court for the District of Connecticut ruling
that the remaining television manufacturers named in the Acacia Technologies
group's V-chip patent infringement lawsuit do not infringe the Acacia
Technologies group's V-chip patent. As a result of the ruling, the Acacia
Technologies group recorded an impairment charge of $1,616,000 in connection
with the write-off of goodwill related to the V-chip. In addition, as a result
of the conclusion of the V-chip patent litigation, the Acacia Technologies group
recognized $1,500,000 of previously deferred V-chip license fee revenues and
$668,000 of previously deferred V-chip related legal costs in the third quarter
of 2004. The remaining Non-Soundview parties have a motion pending before the
United States District Court for the District of Connecticut seeking
reimbursement of certain attorney's fees. Management believes that the ultimate
liability with respect to these claims and legal actions, if any, will not have
a material effect on our financial position, results of operations or cash
flows.
F-32
The final ruling in the V-chip litigation has no impact on the revenues
that we have recognized to date from licensees of our V-chip technology.
ACACIA MEDIA TECHNOLOGIES CORPORATION
CABLE AND SATELLITE TV
In 2004, Acacia Media Technologies filed a Complaint in the District Court
for the Northern District of California alleging infringement of Acacia Media
Technologies' DMT patents against Comcast Corporation, Charter Communications,
Inc., The DirectTV Group, Inc., Echostar Communications Corporation, Boulder
Ridge Cable TV, Central Valley Cable TV, LLC, Seren Innovations, Inc., Cox
Communications, Inc., Hospitality Network, Inc. (a wholly owned subsidiary of
Cox that supplies hotel on-demand TV services) and Mediacom, LLC. As of December
31, 2004, Acacia Media Technologies has executed license and settlement
agreements with Boulder Ridge Cable TV, Central Valley Cable TV, and Seren
Innovations.
In September 2004, Acacia Media Technologies filed complaints in the U.S.
District Court for the District of Arizona, U.S. District Court for the District
of Minnesota and the U.S. District Court for the Northern District of Ohio -
Eastern Division, alleging infringement of Acacia Media Technologies' DMT
patents against certain cable and satellite companies located in Arizona,
Minnesota, and Ohio. Companies named in the lawsuits include Armstrong Group,
Arvig Communication Systems, Block Communications, Inc., Cable America
Corporation, Cable One, Inc., Cable System Services, Inc., Cannon Valley
Communications, Inc., East Cleveland Cable TV and Communications, LLC, Loretel
Cablevision, Massillon Cable TV, Inc., Mid-Continent Media, Inc., Nelsonville TV
Cable, Inc., NPG Cable, Inc., Precis Communications, Inc. San Carlos
Cablevision, LLC, Savage Communications, Inc., Sjoberg's Cablevision, Inc., US
Cable, and Wide Open West, LLC. As of December 31, 2004, Acacia Media
Technologies has executed license agreements with Precis Communications and
Cable System Services and dismissed the action against San Carlos Cablevision
and Nelsonville TV Cable.
INTERNET WEBSITES
In 2003, Acacia Media Technologies initiated DMT patent infringement
litigation in the Federal District Court for the Central District of California
(the "Court") against defendants who provide adult oriented digital content over
the Internet. As of December 31, 2004, New Destiny Internet Group, Inc., Audio
Communications Inc., VS Media, Ademia Multimedia, LLC, International Web
Innovations, Inc., Offendale Commercial BV, Ltd., Adult Entertainment Broadcast
Network, Cybertrend, Inc., Lightspeed Media Corp., Adult Revenue Services,
Innovative Ideas International, AskCS.com, Game Link, Inc., Club Jenna, Inc.,
Cybernet Ventures, Inc., ACMP, LLC, Global AVS, Inc. d/b/a DrewNet, ICS, Inc. /
AP Net Marketing, Inc., and National A-1 Advertising, remained in the
litigation.
HOTEL ON-DEMAND TV INDUSTRY
In November 2003, Acacia Media Technologies initiated a patent infringement
lawsuit in the Federal District Court for the Central District of California
against On Command Corporation, provider of interactive in-room entertainment,
information and business services to the lodging industry, regarding Acacia
Media Technologies' DMT technology. In June 2004, Acacia Media Technologies
entered into a license agreement for its DMT technology with On Command
Corporation settling all outstanding litigation between the parties.
GUARANTEES AND INDEMNIFICATIONS
Acacia Research Corporation has made guarantees and indemnities under which
it may be required to make payments to a guaranteed or indemnified party, in
relation to certain transactions, including revenue transactions in the ordinary
course of business. In connection with certain facility leases Acacia Research
Corporation has indemnified its lessors for certain claims arising from the
facility or the lease. Acacia Research Corporation indemnifies its directors and
officers to the maximum extent permitted under the laws of the State of
Delaware. However, Acacia Research Corporation has a directors and officers
insurance policy that may reduce its exposure in certain circumstances and may
enable it to recover a portion of future amounts that may be payable, if any.
The duration of the guarantees and indemnities varies and, in many cases is
indefinite but subject to statute of limitations. The majority of guarantees and
F-33
indemnities do not provide any limitations of the maximum potential future
payments Acacia Research Corporation could be obligated to make. To date, we
have made no payments related to these guarantees and indemnities. Acacia
Research Corporation estimates the fair value of its indemnification obligations
as insignificant based on this history and insurance coverage and has therefore,
not recorded any liability for these guarantees and indemnities in the
accompanying consolidated balance sheets.
Acacia Research Corporation is a guarantor under a lease agreement for
office space that expires in August 2005. The lease agreement was entered into
by Soundbreak.com, which ceased operations in February 2001. The leased premises
is subleased through the remaining term of the lease agreement. Refer to Note 11
for additional information regarding discontinued operations.
OTHER
COMBIMATRIX GROUP
In July 2001, CombiMatrix Corporation entered into a non-exclusive
worldwide license, supply, research and development agreement with Roche. Under
the terms of the agreement, Roche will purchase, use and resell CombiMatrix
Corporation's array and related technologies for production of customizable
arrays. Additionally, CombiMatrix Corporation and Roche will develop a platform
technology, providing a range of standardized arrays for use in research
applications. The agreement has a 15-year term and provides for minimum payments
by Roche to CombiMatrix Corporation over the first three years, including
payments upon the achievement of certain milestone and payments for products,
royalties and research and development projects. During 2003 and 2002, the
CombiMatrix group's research and development activities were driven primarily by
ongoing performance obligations under the product commercialization phase of its
license and research and development agreements with Roche. These activities
include costs associated with direct labor, supplies and materials, development
of prototype arrays and instruments and the use of outside consultants for
certain engineering efforts. As previously discussed in Note 5, the CombiMatrix
group completed all phases of its research and development agreement with Roche
in March 2004.
As previously disclosed in Note 6, the CombiMatrix group has entered into
an agreement with Leuchemix to purchase a total of $4,000,000 of Series A
Preferred Stock of Leuchemix over a two-year period. Future quarterly cash
investments by the CombiMatrix group in Leuchemix are $1,600,000 in 2005 and
$2,150,000 in 2006.
In March 2004, the CombiMatrix group was awarded a two-year, $5.9 million
contract with the Department of Defense to further the development of the
CombiMatrix group's array technology for the detection of biological threat
agents. Under the terms of the contract, the CombiMatrix group will perform
research and development activities as described under the contract and will be
reimbursed on a periodic basis for actual costs incurred to perform its
obligations, plus a fixed fee, of up to $5.9 million. Based on actual costs
incurred through December 31, 2004, the CombiMatrix group expects to incur
approximately $2.2 million and $819,000 in research and development costs during
2005 and 2006, respectively, to complete its obligations to the Department of
Defense under this contract. As of December 31, 2004, the biowarfare detection
contract with the Department of Defense was approximately 34% complete.
In July 2004, the CombiMatrix group and collaborator irsiCaixa Foundation
("IRSI") entered into a three-year research, development and licensing agreement
to develop certain siRNA compounds for pre-clinical drug development against the
HIV virus. Pursuant to the terms of the agreement, the CombiMatrix group will
make quarterly research and development funding payments to IRSI totaling
$450,000 over a period of three years, which began in July 2004. In addition,
the CombiMatrix group may make future contingent milestone payments for
compounds that are developed, in accordance with the terms of the agreement. In
consideration for receiving rights to commercialize the compounds under
development, the CombiMatrix group will pay royalties to IRSI based on
commercial sales of related products, in accordance with the agreement.
HUMAN RESOURCES
The CombiMatrix group provides certain severance benefits such that if an
executive who is a vice president or higher is terminated for other than cause,
death or disability, the executive will receive payments equal to three months'
base salary and other medical and dental benefits on a bi-weekly basis over a
three-month period. If termination occurs as a result of a change in control
F-34
transaction, these benefits will be extended by three months. The CombiMatrix
group also offers a general severance plan providing all employees with certain
benefits upon their termination of employment due to lack of work. Under this
plan, terminated employees will be provided with either four-weeks notice or
four-weeks' salary in lieu of notice, and paid a lump-sum amount based on the
employee's length of service, plus accrued benefits. The terminated employees
will also be provided continuing medical and dental benefits, as well as
continuation of life insurance, for a period ranging from two to 26 weeks
subsequent to the date of termination, depending upon the employee's length of
service.
ACACIA TECHNOLOGIES GROUP
In connection with the purchase of the outstanding ownership interests in
Acacia Media Technologies in November 2001, Acacia Media Technologies also
executed related assignment agreements which granted to the former owners of
Acacia Media Technologies' current patent portfolio the right to receive a
royalty of 15% of future net revenues, as defined in the agreements, generated
by Acacia Media Technologies' current patent portfolio, which includes its DMT
patents. No royalty obligation has been incurred as of December 31, 2004. Any
royalties paid pursuant to the agreements will be expensed in the consolidated
statement of operations.
14. RETIREMENT SAVINGS PLANS
The Acacia Technologies group and the CombiMatrix group have separate
employee savings and retirement plans under section 401(k) of the Internal
Revenue Code (the "Plans"). The Plans are defined contribution plans in which
eligible employees may elect to have a percentage of their compensation
contributed to the Plans, subject to certain guidelines issued by the Internal
Revenue Service. The Acacia Technologies group and the CombiMatrix group may
contribute to the Plans at the discretion of Acacia Research Corporation's board
of directors. There were no contributions made by the Acacia Technologies group
or by the CombiMatrix group during the years ended December 31, 2004, 2003 and
2002.
15. SUBSEQUENT EVENTS
EQUITY FINANCING
In February 2005, Acacia Research Corporation raised gross proceeds of
$19,600,000 through the sale of 3,500,000 shares of Acacia Research - Acacia
Technologies common stock at a price of $5.60 per share in a registered direct
offering. Net proceeds raised of approximately $19,575,000, which are net of
related issuance costs, were attributed to the Acacia Technologies group. All of
the shares of Acacia Research-Acacia Technologies common stock were offered
pursuant to an effective registration statement previously filed with the
Securities and Exchange Commission.
ACQUISITION
On January 28, 2005, Acacia Global Acquisition Corporation, a newly formed
corporation, acquired the assets of Global Patent Holdings, LLC, a privately
held patent holding company based in Northbrook, Illinois, which owned 11 patent
licensing companies. The acquisition gives the Acacia Technologies group 100%
ownership of companies that control 27 patent portfolios, which include 120 U.S.
patents and certain foreign counterparts, and cover technologies used in a wide
variety of industries, as set forth below. The acquisition expands and
diversifies the Acacia Technologies group's revenue generating opportunities and
accelerates the execution of the Acacia Technologies group's business strategy
of acquiring, developing and licensing patented technologies.
The acquisition is being accounted for by the purchase method of accounting
and, accordingly, the consolidated statement of operations will include the
results of the acquired companies beginning on January 28, 2005, the date of
acquisition. The aggregate purchase consideration was approximately $24,605,000,
including $5.0 million of cash, the issuance of 3,938,832 shares of Acacia
Research--Acacia Technologies common stock valued at $19,505,000 and estimated
acquisition costs of $100,000. The value of the common shares issued was
determined based on the
F-35
average market price of AR-Acacia Technologies stock, as reported on NASDAQ,
over the 5-day period (December 13 - December 17, 2004) before and after the
terms of the acquisition were agreed to and announced.
The following table summarizes the estimated preliminary total purchase
consideration (in thousands):
Estimated Purchase Consideration:
Cash paid ............................................. $5,000
Fair value of AR-Acacia Technologies stock issued ..... 19,505
Estimated Acquisition costs .......................... 100
----------
$24,605
==========
Other:
Consulting contract .................................. $2,000
==========
Management's determination of the fair value of net assets acquired from
Global Patent Holdings and the related purchase price allocation is ongoing and
is anticipated to be completed by the end of the first quarter of 2005. The
purchase price will be allocated to the assets acquired and liabilities assumed
based on their estimated fair market values at the date of acquisition,
including, net tangible assets, patents and other identifiable intangibles. Any
additional excess purchase price after the initial allocation to identifiable
net tangible and identifiable intangible assets will be assigned to goodwill.
Amounts attributable to patents will be amortized using the straight-line method
over the estimated economic useful life of the underlying patents.
The Acacia Technologies group executed a consulting agreement in connection
with the acquisition described above, which requires the payment of $2.0 million
in consulting fees over a two-year period, and certain reimbursable consulting
related expenses, commencing on the date of acquisition.
16. CONSOLIDATING SEGMENT INFORMATION
Acacia Research Corporation has adopted the provisions of SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." Our chief
operating decision maker is considered to be Acacia Research Corporation's CEO.
The CEO reviews and evaluates financial information presented on a group basis
as described below. Management evaluates performance based on the profit or loss
from continuing operations and financial position of its segments. Acacia
Research Corporation has two reportable segments as follows:
ACACIA MEDIA TECHNOLOGIES GROUP - Acacia Media Technologies Group owns
intellectual property related to the telecommunications field, including a
television blanking system, also known as the "V-chip," which it licenses to
television manufacturers. In addition, our media technologies group owns a
worldwide portfolio of pioneering patents relating to audio and video
transmission and receiving systems, commonly known as audio-on-demand and
video-on-demand, used for distributing content via various methods including
computer networks, cable television systems and direct broadcasting satellite
systems.
ACACIA LIFE SCIENCES GROUP - CombiMatrix is developing a proprietary
biochip array processor system that integrates semiconductor technology with new
developmentsdescribed in biotechnology and chemistry. Our majority-owned subsidiary,
Advanced Material Sciences, holds the exclusive license for CombiMatrix's
biological array processor technology in certain fields of material sciences.
We evaluate segment performances based on revenue earned and cost
versus earnings potential of future completed products or services.Note 1.
Material intercompany transactions and transfers have been eliminated in
consolidation. The accounting policies of the segments are the same as those
described in the summary of significant accounting policies.
Corporate and other includes
corporate costs, certain assets and liabilities and other investment activities,
which are included in our consolidatedF-36
Presented below is consolidating financial statements but are not
allocated to the reportable segments.
F-23
The table below presents information aboutfor our reportable
segments reflecting the businesses of the CombiMatrix group and the Acacia
Technologies group. Earnings attributable to each group have been determined in
continuing operations foraccordance with accounting principles generally accepted in the years ended December 31, 2001, 2000 and 1999:United States.
CONSOLIDATING BALANCE SHEETS (IN THOUSANDS)
AT DECEMBER 31, 2004
---------------------------------------------------------------
ACACIA
ACACIA
MEDIA LIFE
TECHNOLOGIES SCIENCES CORPORATE
2001COMBIMATRIX
GROUP GROUP AND OTHER TOTALELIMINATIONS CONSOLIDATED
------------- ------------- ------------- -------------
Revenue .................................................ASSETS
Current assets:
Cash and cash equivalents ........................ $ 24,130,00015,750 $ 456,0002,985 $ 50,000- $ 24,636,00018,735
Short-term investments ........................... 12,896 20,727 - 33,623
Accounts receivable .............................. 193 343 - 536
Prepaid expenses, inventory and other assets ..... 754 229 - 983
Receivable from CombiMatrix group ................ 119 - (119) -
------------- ------------- ------------- -------------
Total current assets ........................... 29,712 24,284 (119) 53,877
Property and equipment, net of accumulated
depreciation and amortization .................... 104 2,330 - 2,434
Patents, net of accumulated amortization ........... 3,042 9,021 - 12,063
Goodwill ........................................... 121 19,424 - 19,545
Other assets ....................................... 79 329 - 408
------------- ------------- ------------- -------------
$ 33,058 $ 55,388 $ (119) $ 88,327
============= ============= ============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued expenses and other ..... $ 2,175 $ 1,964 $ - $ 4,139
Current portion of deferred revenues ............. 428 66 - 494
Payable to Acacia Technologies group ............. - 119 (119) -
------------- ------------- ------------- -------------
Total current liabilities ...................... 2,603 2,149 (119) 4,633
Deferred income taxes .............................. 869 2,112 - 2,981
Deferred revenues, net of current portion .......... - 3,893 - 3,893
Other liabilities .................................. - 406 - 406
------------- ------------- ------------- -------------
Total liabilities .............................. 3,472 8,560 (119) 11,913
------------- ------------- ------------- -------------
Minority interests ................................. 778 - - 778
------------- ------------- ------------- -------------
Redeemable Stockholders' equity:
AR - Acacia Technologies stock ................... 28,808 - - 28,808
AR - CombiMatrix stock ........................... - 46,828 - 46,828
------------- ------------- ------------- -------------
Total stockholders' equity ..................... 28,808 46,828 - 75,636
------------- ------------- ------------- -------------
$ 33,058 $ 55,388 $ (119) $ 88,327
============= ============= ============= =============
F-37a
AT DECEMBER 31, 2003
---------------------------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP ELIMINATIONS CONSOLIDATED
------------- ------------- ------------- -------------
ASSETS
Current assets:
Cash and cash equivalents ........................ $ 20,392 $ 3,807 $ - $ 24,199
Short-term investments ........................... 12,809 13,492 - 26,301
Accounts receivable .............................. 124 199 - 323
Prepaid expenses, inventory and other assets ..... 903 277 - 1,180
Receivable from CombiMatrix group ................ 99 - (99) -
------------- ------------- ------------- -------------
Total current assets ........................... 34,327 17,775 (99) 52,003
Property and equipment, net of accumulated
depreciation and amortization .................... 71 2,752 - 2,823
Patents, net of accumulated amortization ........... 3,566 10,117 - 13,683
Goodwill ........................................... 1,776 19,424 - 21,200
Other assets ....................................... 238 93 - 331
------------- ------------- ------------- -------------
$ 39,978 $ 50,161 $ (99) $ 90,040
============= ============= ============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued expenses and other ..... $ 1,572 $ 1,672 $ - $ 3,244
Current portion of deferred revenues ............. 104 17,566 - 17,670
Payable to Acacia Technologies group ............. - 99 (99) -
------------- ------------- ------------- -------------
Total current liabilities ...................... 1,676 19,337 (99) 20,914
Deferred income taxes .............................. 1,012 2,248 - 3,260
Deferred revenues, net of current portion .......... 1,500 2,839 - 4,339
Other liabilities .................................. - - - -
------------- ------------- ------------- -------------
Total liabilities .............................. 4,188 24,424 (99) 28,513
------------- ------------- ------------- -------------
Minority interests ................................. 1,127 - - 1,127
------------- ------------- ------------- -------------
Redeemable Stockholders' equity:
AR - Acacia Technologies stock ................... 34,663 - - 34,663
AR - CombiMatrix stock ........................... - 25,737 - 25,737
------------- ------------- ------------- -------------
Total stockholders' equity ..................... 34,663 25,737 - 60,400
------------- ------------- ------------- -------------
$ 39,978 $ 50,161 $ (99) $ 90,040
============= ============= ============= =============
F-37b
AT DECEMBER 31, 2002
---------------------------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP ELIMINATIONS CONSOLIDATED
------------- ------------- ------------- -------------
ASSETS
Current assets:
Cash and cash equivalents ........................ $ 32,042 $ 3,291 $ - $ 35,333
Short-term investments ........................... 7,750 11,605 - 19,355
Accounts receivable .............................. - 578 - 578
Prepaid expenses, inventory and other assets ..... 775 446 - 1,221
Receivable from CombiMatrix group ................ 114 - (114) -
------------- ------------- ------------- -------------
Total current assets ........................... 40,681 15,920 (114) 56,487
Property and equipment, net of accumulated
depreciation and amortization .................... 180 3,895 - 4,075
Patents, net of accumulated amortization ........... 4,068 11,212 - 15,280
Goodwill ........................................... 1,834 18,859 - 20,693
Other assets ....................................... 449 87 - 536
------------- ------------- ------------- -------------
$ 47,212 $ 49,973 $ (114) $ 97,071
============= ============= ============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued expenses and other ..... $ 2,524 $ 2,302 $ - $ 4,826
Current portion of deferred revenues ............. 1,503 9,172 - 10,675
Payable to Acacia Technologies group ............. - 114 (114) -
------------- ------------- ------------- -------------
Total current liabilities ...................... 4,027 11,588 (114) 15,501
Deferred income taxes .............................. 1,156 2,384 - 3,540
Deferred revenues, net of current portion .......... - - - -
Other liabilities .................................. - - - -
------------- ------------- ------------- -------------
Total liabilities .............................. 5,183 13,972 (114) 19,041
------------- ------------- ------------- -------------
Minority interests ................................. 1,487 684 - 2,171
------------- ------------- ------------- -------------
Redeemable Stockholders' equity:
AR - Acacia Technologies stock ................... 40,542 - - 40,542
AR - CombiMatrix stock ........................... - 35,317 - 35,317
------------- ------------- ------------- -------------
Total stockholders' equity ..................... 40,542 35,317 - 75,859
------------- ------------- ------------- -------------
$ 47,212 $ 49,973 $ (114) $ 97,071
============= ============= ============= =============
NOTE: Segment information for the Acacia Technologies group includes
discontinued operations related to Soundbreak.com. Total assets related to
discontinued operations totaled $1,443,000 and $2,150,000 at December 31, 2004
and December 31, 2003, respectively. Total liabilities related to discontinued
operations totaled $275,000 and $395,000 at December 31, 2004 and December 31,
2003, respectively.
F-37c
CONSOLIDATING STATEMENTS OF OPERATIONS (IN THOUSANDS)
2004
---------------------------------------------------------
ACACIA ELIMINATIONS/
TECHNOLOGIES COMBIMATRIX RECLASS-
GROUP GROUP IFICATIONS CONSOLIDATED
----------- ----------- ----------- -----------
Revenues:
Research and development, government and
service contracts ....................................... $ - $ 19,411 $ - $ 19,411
License fees .............................................. 4,284 - - 4,284
Products .................................................. - 230 - 230
----------- ----------- ----------- -----------
Total revenues .......................................... 4,284 19,641 - 23,925
----------- ----------- ----------- -----------
Operating expenses:
Cost of government contract revenues ...................... - 1,874 - 1,874
Cost of product sales ..................................... - 173 - 173
Research and development expenses ......................... - 5,294 - 5,294
Charge for acquired in-process research and development ... - - - -
Non-cash stock compensation amortization - research
and development ......................................... - 91 - 91
Marketing, general and administrative expenses ............ 5,049 9,377 3,133 17,559
Non-cash stock compensation amortization - marketing,
general and administrative .............................. - 663 - 663
Legal expenses - patents .................................. 3,133 - (3,133) -
Goodwill impairment charge ................................ 1,656 - - 1,656
Amortization of patents and goodwill .................... 49,000 -- 2,646,000 2,695,000................................... 501 1,096 - 1,597
Legal settlement charges .................................. - 812 - 812
----------- ----------- ----------- -----------
Total operating expenses ................................ 10,339 19,380 - 29,719
----------- ----------- ----------- -----------
Operating income (loss) ................................. (6,055) 261 - (5,794)
----------- ----------- ----------- -----------
Other income ............................................ -- -- 77,000 77,000(expense):
Impairment charge ......................................... - - - -
Interest income ......................................... 137,000 2,120,000 1,505,000 3,762,000........................................... 471 330 - 801
Realized gains (losses) on short-term investments ......... - - - -
Unrealized (losses) gains on short-term investments ....... - - - -
Interest expense ........................................ -- 65,000 -- 65,000
Realized gains on investments ........................... -- -- 350,000 350,000
Unrealized gains on investments ......................... -- -- 237,000 237,000
Equity in losses of affiliate ........................... -- -- 195,000 195,000
Loss (income).......................................... - - - -
Other income .............................................. - (17) - (17)
----------- ----------- ----------- -----------
Total other income (expense) ............................ 471 313 - 784
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
operations beforeincome taxes and minority interests and....................... (5,584) 574 - (5,010)
Benefit for income taxes ..... (12,311,000) 44,416,000 6,927,000 39,032,000
Non-cash stock compensation charges ..................... -- 19,963,000 856,000 20,819,000
Segment assets .......................................... 10,339,000 40,161,000 56,168,000 106,668,000
Investments in affiliate, at cost ....................... -- -- 3,000,000 3,000,000
Purchase of property and equipment ...................... 7,000 3,756,000 12,000 3,775,000
ACACIA ACACIA
MEDIA LIFE
TECHNOLOGIES SCIENCES CORPORATE
2000 GROUP GROUP AND OTHER TOTAL
------------- ------------- ------------- -------------
Revenue $ -- $ 17,000 $ 40,000 $ 57,000
Amortization of patents and goodwill.................... 15,000 -- 2,236,000 2,251,000
Other income............................................ -- -- 28,000 28,000
Interest income......................................... -- 1,661,000 1,425,000 3,086,000
Equity in losses of affiliates.......................... -- -- 1,746,000 1,746,000
Loss.................................... 139 136 - 275
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
minority interests ........................................ (5,445) 710 - (4,735)
Minority interests .......................................... 6 - - 6
----------- ----------- ----------- -----------
Loss from continuing operations ............................. (5,439) 710 - (4,729)
Discontinued operations:
Estimated loss on disposal of discontinued
operations .............................................. (104) - - (104)
----------- ----------- ----------- -----------
Net income (loss) ........................................... $ (5,543) $ 710 $ - $ (4,833)
=========== =========== =========== ===========
F-38a
2003
---------------------------------------------------------
ACACIA ELIMINATIONS/
TECHNOLOGIES COMBIMATRIX RECLASS-
GROUP GROUP IFICATIONS CONSOLIDATED
----------- ----------- ----------- -----------
Revenues:
Research and taxes....................... 335,000 19,045,000 19,018,000 38,398,000development, government and
service contracts ....................................... $ - $ 49 $ - $ 49
License fees .............................................. 692 - - 692
Products .................................................. - 407 - 407
----------- ----------- ----------- -----------
Total revenues .......................................... 692 456 - 1,148
----------- ----------- ----------- -----------
Operating expenses:
Cost of government contract revenues ...................... - - - -
Cost of product sales ..................................... - 99 - 99
Research and development expenses ......................... - 8,098 - 8,098
Charge for acquired in-process research and development ... - - - -
Non-cash stock compensation charges..................... -- 10,205,000 499,000 10,704,000
Segment assets.......................................... 146,000 52,173,000 39,121,000 91,440,000
Investments in affiliates, at equity.................... -- -- 346,000 346,000
Investments in affiliate, at cost....................... -- -- 3,000,000 3,000,000
Purchase of propertyamortization - research
and equipment...................... 13,000 2,921,000 459,000 3,393,000
F-24
ACACIA ACACIA
MEDIA LIFE
TECHNOLOGIES SCIENCES CORPORATE
1999 GROUP GROUP AND OTHER TOTAL
------------- ------------- ------------- -------------
Revenue................................................. $ -- $ 144,000 $ 122,000 $ 266,000development ......................................... - 466 - 466
Marketing, general and administrative expenses ............ 4,317 8,714 1,886 14,917
Non-cash stock compensation amortization - marketing,
general and administrative .............................. - 1,189 - 1,189
Legal expenses - patents .................................. 1,886 - (1,886) -
Goodwill impairment charge ................................ - - - -
Amortization of patents ................................... 502 1,095 - 1,597
Legal settlement charges .................................. - 144 - 144
----------- ----------- ----------- -----------
Total operating expenses ................................ 6,705 19,805 - 26,510
----------- ----------- ----------- -----------
Operating income (loss) ................................. (6,013) (19,349) - (25,362)
----------- ----------- ----------- -----------
Other income (expense):
Impairment charge ......................................... (207) - - (207)
Interest income ........................................... 521 214 - 735
Realized gains (losses) on short-term investments ......... 94 - - 94
Unrealized (losses) gains on short-term investments ....... - - - -
Interest expense .......................................... - - - -
Other income .............................................. - - - -
----------- ----------- ----------- -----------
Total other income (expense) ............................ 408 214 - 622
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
income taxes and goodwill.................... 14,000 -- 1,608,000 1,622,000
Interest income......................................... -- 40,000 293,000 333,000
Interest expense........................................ -- 253,000 1,000 254,000
Equity in losses of affiliates.......................... -- -- 1,121,000 1,121,000
Lossminority interests ....................... (5,605) (19,135) - (24,740)
Benefit for income taxes .................................... 137 136 - 273
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
minority interests ........................................ (5,468) (18,999) - (24,467)
Minority interests .......................................... 17 30 - 47
----------- ----------- ----------- -----------
Loss from continuing operations ............................. (5,451) (18,969) - (24,420)
Discontinued operations:
Estimated loss on disposal of discontinued
operations .............................................. - - - -
----------- ----------- ----------- -----------
Net income (loss) ........................................... $ (5,451) $ (18,969) $ - $ (24,420)
=========== =========== =========== ===========
F-38b
2002
---------------------------------------------------------
ACACIA ELIMINATIONS/
TECHNOLOGIES COMBIMATRIX RECLASS-
GROUP GROUP IFICATIONS CONSOLIDATED
----------- ----------- ----------- -----------
Revenues:
Research and taxes......................... 240,000 2,507,000 5,875,000 8,622,000development, government and
service contracts ....................................... $ - $ 533 $ - $ 533
License fees .............................................. 43 - - 43
Products .................................................. - 306 - 306
----------- ----------- ----------- -----------
Total revenues .......................................... 43 839 - 882
----------- ----------- ----------- -----------
Operating expenses:
Cost of government contract revenues ...................... - - - -
Cost of product sales ..................................... - 263 - 263
Research and development expenses ......................... - 18,187 - 18,187
Charge for acquired in-process research and development ... - 17,237 - 17,237
Non-cash stock compensation charges..................... -- 19,000 127,000 146,000
Segment assets.......................................... 150,000 1,908,000 43,396,000 45,454,000
Investmentsamortization - research
and development ......................................... - 1,868 - 1,868
Marketing, general and administrative expenses ............ 6,883 10,334 1,415 18,632
Non-cash stock compensation amortization - marketing,
general and administrative .............................. 19 4,540 - 4,559
Legal expenses - patents .................................. 1,415 - (1,415) -
Goodwill impairment charge ................................ - - - -
Amortization of patents ................................... 1,591 399 - 1,990
Legal settlement charges .................................. - 18,471 - 18,471
----------- ----------- ----------- -----------
Total operating expenses ................................ 9,908 71,299 - 81,207
----------- ----------- ----------- -----------
Operating income (loss) ................................. (9,865) (70,460) - (80,325)
----------- ----------- ----------- -----------
Other income (expense):
Impairment charge ......................................... (2,748) - - (2,748)
Interest income ........................................... 620 589 - 1,209
Realized gains (losses) on short-term investments ......... (1,184) - - (1,184)
Unrealized (losses) gains on short-term investments ....... (249) - - (249)
Interest expense .......................................... (6) (197) - (203)
Other income .............................................. 64 - - 64
----------- ----------- ----------- -----------
Total other income (expense) ............................ (3,503) 392 - (3,111)
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
income taxes and minority interests ....................... (13,368) (70,068) - (83,436)
Benefit for income taxes .................................... 710 147 - 857
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
minority interests ........................................ (12,658) (69,921) - (82,579)
Minority interests .......................................... 104 23,702 - 23,806
----------- ----------- ----------- -----------
Loss from continuing operations ............................. (12,554) (46,219) - (58,773)
Discontinued operations:
Estimated loss on disposal of discontinued
operations .............................................. (200) - - (200)
----------- ----------- ----------- -----------
Net income (loss) ........................................... $ (12,754) $ (46,219) $ - $ (58,973)
=========== =========== =========== ===========
F-38c
CONSOLIDATING STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEAR ENDED DECEMBER 31, 2004
------------------------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------
Cash flows from operating activities:
Net income (loss) from continuing operations ................. $ (5,439) $ 710 $ - $ (4,729)
Adjustments to reconcile net income (loss) from
continuing operations to net cash used in affiliates, at equity.................... -- -- 4,636,000 4,636,000operating
activities:
Depreciation and amortization ................................ 551 2,200 - 2,751
Minority interests ........................................... - - - -
Non-cash stock compensation amortization ..................... - 754 - 754
Charge for acquired in-process research and development ...... - - - -
Deferred tax benefit ......................................... (143) (136) - (279)
Net sales of trading securities .............................. - - - -
Unrealized losses on short-term investments .................. - - - -
Non-cash legal settlement charges ............................ - 812 - 812
Non-cash impairment charges .................................. 1,656 - - 1,656
Other ........................................................ 22 60 - 82
Changes in assets and liabilities:
Accounts receivable .......................................... (69) (154) - (223)
Prepaid expenses, inventory, other receivables and
other assets ............................................... 654 135 20 809
Accounts payable, accrued expenses and other ................. 712 481 (20) 1,173
Deferred revenues ............................................ (1,176) (16,446) - (17,622)
------------ ------------ ------------ ------------
Net cash used in operating activities from continuing
operations ................................................. (3,232) (11,584) - (14,816)
Net cash used in operating activities from discontinued
operations ................................................. (727) - - (727)
------------ ------------ ------------ ------------
Net cash used in operating activities ........................ (3,959) (11,584) - (15,543)
------------ ------------ ------------ ------------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries ... - - - -
Purchase of property and equipment...................... -- 85,000 156,000 241,000equipment, net ...................... (81) (810) - (891)
Sale of property and equipment ............................... - - - -
Purchase of available-for-sale investments ................... (9,098) (50,143) - (59,241)
Sale of available-for-sale investments ....................... 9,004 42,755 - 51,759
Purchase of common stock from minority stockholders of
subsidiaries ............................................... - - - -
Acquisition costs ............................................ - - - -
Other ........................................................ (5) (250) - (255)
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities from
continuing operations ...................................... (180) (8,448) - (8,628)
Net cash used in investing activities from discontinued
operations ................................................. (198) - - (198)
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities .......... (378) (8,448) - (8,826)
------------ ------------ ------------ ------------
Cash flows from financing activities:
Net cash attributed to the Acacia Technologies group ......... (305) - - (305)
Net cash attributed to the CombiMatrix group ................. - 19,227 - 19,227
------------ ------------ ------------ ------------
Net cash provided by (used in) financing activities .......... (305) 19,227 - 18,922
------------ ------------ ------------ ------------
Effect of exchange rate on cash ................................ - (17) - (17)
------------ ------------ ------------ ------------
Increase (decrease) in cash and cash equivalents ............... (4,642) (822) - (5,464)
Cash and cash equivalents, beginning ........................... 20,392 3,807 - 24,199
------------ ------------ ------------ ------------
Cash and cash equivalents, ending .............................. $ 15,750 $ 2,985 $ - $ 18,735
============ ============ ============ ============
F-39a
YEAR ENDED DECEMBER 31, 2003
------------------------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------
Cash flows from operating activities:
Net income (loss) from continuing operations ................. $ (5,451) $ (18,969) $ - $ (24,420)
Adjustments to reconcile net income (loss) from
continuing operations to net cash used in operating
activities:
Depreciation and amortization ................................ 616 2,409 - 3,025
Minority interests ........................................... (17) (30) - (47)
Non-cash stock compensation amortization ..................... - 1,655 - 1,655
Charge for acquired in-process research and development ...... - - - -
Deferred tax benefit ......................................... (144) (136) - (280)
Net sales of trading securities .............................. - - - -
Unrealized losses on short-term investments .................. - - - -
Non-cash legal settlement charges ............................ - - - -
Non-cash impairment charges .................................. 207 - - 207
Other ........................................................ 4 25 - 29
Changes in assets and liabilities:
Accounts receivable .......................................... (124) 379 - 255
Prepaid expenses, inventory, other receivables and
other assets ............................................... (45) 169 - 124
Accounts payable, accrued expenses and other ................. (411) (645) - (1,056)
Deferred revenues ............................................ 101 11,233 - 11,334
------------ ------------ ------------ ------------
Net cash used in operating activities from continuing
operations ................................................. (5,264) (3,910) - (9,174)
Net cash used in operating activities from discontinued
operations ................................................. (551) - - (551)
------------ ------------ ------------ ------------
Net cash used in operating activities ........................ (5,815) (3,910) - (9,725)
------------ ------------ ------------ ------------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries ... - - - -
Purchase of property and equipment, net ...................... (3) (83) - (86)
Sale of property and equipment ............................... - - - -
Purchase of available-for-sale investments ................... (5,059) (32,714) - (37,773)
Sale of available-for-sale investments ....................... - 30,801 - 30,801
Purchase of common stock from minority stockholders of
subsidiaries ............................................... - - - -
Acquisition costs ............................................ - - - -
Other ........................................................ - - - -
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities from
continuing operations ...................................... (5,062) (1,996) - (7,058)
Net cash used in investing activities from discontinued
operations ................................................. (356) - - (356)
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities .......... (5,418) (1,996) - (7,414)
------------ ------------ ------------ ------------
Cash flows from financing activities:
Net cash attributed to the Acacia Technologies group ......... (417) - - (417)
Net cash attributed to the CombiMatrix group ................. - 6,435 - 6,435
------------ ------------ ------------ ------------
Net cash provided by (used in) financing activities .......... (417) 6,435 - 6,018
------------ ------------ ------------ ------------
Effect of exchange rate on cash ................................ - (13) - (13)
------------ ------------ ------------ ------------
Increase (decrease) in cash and cash equivalents ............... (11,650) 516 - (11,134)
Cash and cash equivalents, beginning ........................... 32,042 3,291 - 35,333
------------ ------------ ------------ ------------
Cash and cash equivalents, ending .............................. $ 20,392 $ 3,807 $ - $ 24,199
============ ============ ============ ============
F-39b
YEAR ENDED DECEMBER 31, 2002
------------------------------------------------------------
ACACIA
TECHNOLOGIES COMBIMATRIX
GROUP GROUP ELIMINATIONS CONSOLIDATED
------------ ------------ ------------ ------------
Cash flows from operating activities:
Net income (loss) from continuing operations ................. $ (12,554) $ (46,219) $ - $ (58,773)
Adjustments to reconcile net income (loss) from
continuing operations to net cash used in operating
activities:
Depreciation and amortization ................................ 1,797 1,736 - 3,533
Minority interests ........................................... (104) (23,702) - (23,806)
Non-cash stock compensation amortization ..................... 19 6,408 - 6,427
Charge for acquired in-process research and development ...... - 17,237 - 17,237
Deferred tax benefit ......................................... (142) (147) - (289)
Net sales of trading securities .............................. 4,124 - - 4,124
Unrealized losses on short-term investments .................. 249 - - 249
Non-cash legal settlement charges ............................ - 17,471 - 17,471
Non-cash impairment charges .................................. 2,748 - - 2,748
Other ........................................................ (30) 129 - 99
Changes in assets and liabilities:
Accounts receivable .......................................... - (435) - (435)
Prepaid expenses, inventory, other receivables and
other assets ............................................... (1) 258 - 257
Accounts payable, accrued expenses and other ................. 372 (515) - (143)
Deferred revenues ............................................ 3 11,637 - 11,640
------------ ------------ ------------ ------------
Net cash used in operating activities from continuing
operations ................................................. (3,519) (16,142) - (19,661)
Net cash used in operating activities from discontinued
operations ................................................. (905) - - (905)
------------ ------------ ------------ ------------
Net cash used in operating activities ........................ (4,424) (16,142) - (20,566)
------------ ------------ ------------ ------------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries ... (200) - - (200)
Purchase of property and equipment, net ...................... (78) (1,002) - (1,080)
Sale of property and equipment ............................... 3 358 - 361
Purchase of available-for-sale investments ................... (7,750) (11,338) - (19,088)
Sale of available-for-sale investments ....................... - 20,383 - 20,383
Purchase of common stock from minority stockholders of
subsidiaries ............................................... (217) - - (217)
Acquisition costs ............................................ - (834) - (834)
Other ........................................................ (100) - - (100)
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities from
continuing operations ...................................... (8,342) 7,567 - (775)
Net cash used in investing activities from discontinued
operations ................................................. (3) - - (3)
------------ ------------ ------------ ------------
Net cash provided by (used in) investing activities .......... (8,345) 7,567 - (778)
------------ ------------ ------------ ------------
Cash flows from financing activities:
Net cash attributed to the Acacia Technologies group ......... (2,048) - - (2,048)
Net cash attributed to the CombiMatrix group ................. - (818) - (818)
------------ ------------ ------------ ------------
Net cash provided by (used in) financing activities .......... (2,048) (818) - (2,866)
------------ ------------ ------------ ------------
Effect of exchange rate on cash ................................ - 92 - 92
------------ ------------ ------------ ------------
Increase (decrease) in cash and cash equivalents ............... (14,817) (9,301) - (24,118)
Cash and cash equivalents, beginning ........................... 46,859 12,592 - 59,451
------------ ------------ ------------ ------------
Cash and cash equivalents, ending .............................. $ 32,042 $ 3,291 $ - $ 35,333
============ ============ ============ ============
Segment information has been restated to exclude Soundbreak.com for
the years ended December 31, 2001, 2000 and 1999. See Note 9 to consolidated
financial statements.
14. SUBSEQUENT EVENTS
In February 2002, CombiMatrix, a majority-owned subsidiary, was awarded
a Phase I National Institutes of Health grant for the development of its protein
biochip technology. The title of the grant is "Self-Assembling Protein
Microchips." This grant is in addition to a three-year Phase I and a Phase II
SBIR Grant from the U.S. Department of Defense for the development of
multiplexed chip based assays for chemical and biological warfare agent
detection.
In February 2002, in conjunction with the relocation of our corporate
headquarters, we entered into a non-cancelable lease agreement to lease
approximately 7,143 square feet of office space in Newport Beach, California
through February 2007. Minimum annual rental commitments under this operating
lease are $255,000 in 2002; $286,000 in 2003; $295,000 in 2004; $303,000 in
2005; $312,000 in 2006; and $39,000, thereafter.
In February 2002, we executed a sublease agreement, expiring in
November 2003, to sublet the Pasadena, California office space. In 2002 and
2003, rent expense will be offset by $142,399 and $154,418 respectively, related
to rental payments due pursuant to the terms of the sublease agreement.
On March 20, 2002, we announced that our board of directors approved a
plan to divide our common stock into two new classes - new "CombiMatrix" common
stock, that would reflect the performance of our CombiMatrix subsidiary, and new
"Acacia Technologies" common stock, that would reflect the performance of our
media technology businesses, including Soundview Technologies and Acacia Media
Technologies. The plan will be submitted to our stockholders for approval. If
the recapitalization proposal were approved, our stockholders would receive
shares of both of the new classes of stock in exchange for existing Acacia
shares. The new share classes would be separately listed on the NASDAQ National
Market System.
We also announced that our board of directors and CombiMatrix's board
of directors have approved an agreement for Acacia to acquire the minority
stockholder interests in CombiMatrix. The proposed acquisition would be
accomplished through a merger in which the minority stockholders of CombiMatrix
would receive shares of the new "CombiMatrix" common stock, in exchange for
their existing shares. The proposed transaction will be submitted to the
stockholders of Acacia and CombiMatrix for approval.
The proposed recapitalization and merger are subject to several
important conditions, including receipt of stockholder approval, receipt of
satisfactory tax and accounting opinions, approval of the proposed merger by a
special committee of the CombiMatrix board of directors, receipt of a fairness
opinion, approval for listing of both of the new shares on the NASDAQ National
Market System and other customary conditions. We expect to present these
proposals to our stockholders for approval at a special meeting.
F-25F-39c
15. SUPPLEMENT17. SUPPLEMENTAL CASH FLOW INFORMATION (IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------
2001 2000 1999
--------- --------- ---------------------------------------------
2004 2003 2002
---------- ---------- ----------
Supplemental disclosures of cash flow information:
Cash paid for interest .................................................................................................. $ 42- $ 79- $ 78192
Cash paid for income taxes ....................................................... 597 -- 7................................... 4 9 -
Supplemental schedule of non-cash operating, investing and
financing activities:
Issuance of common stock for additional
equity in consolidated subsidiary and affiliates..................................... -- 11,634 288
Liabilities assumed in acquisition of minority ownership interest in subsidiary... 200 -- --
Increase in minority interests due............................ - 1,219 (46,007)
Purchase price allocated to conversion of subsidiary notes payablegoodwill - step acquisitions ..... -- -- 1,400- 565 16,008
Purchase price allocated to patents - step acquisitions ...... - - 5,283
Fixed assets purchased with accounts payable...................................... -- 917 --
Purchase of equipment under capital lease agreement............................... (3,000) -- --
Capital lease obligation incurred................................................. 3,000 -- --payable ................. - - 70
Accrued payments for purchase of common stock
from former minority stockholders of subsidiary.................................... 217 -- --subsidiary ..................... - - 58
Loss from discontinued operations of Soundbreak.com .......... 249 - 480
Deferred revenue purchase accounting adjustment .............. - - 8,425
16.F-40
18. QUARTERLY FINANCIAL DATA (UNAUDITED)
The following table sets forth unaudited consolidated statement of
operations data for the eight quarters in the period ended December 31, 2001.2004.
This information has been derived from our unaudited condensed consolidated
financial statements that have been prepared on the same basis as the audited
consolidated financial statements and, in the opinion of management, include all
adjustments, consisting of normal recurring adjustments, necessary for a fair
presentation of the information when read in conjunction with the audited
consolidated financial statements and related notes thereto. Our quarterly
results have been in the past and may in the future be subject to significant
fluctuations. As a result, we believe that results of operations for interim
periods should not be relied upon as any indication of the results to be
expected in any future periods.
F-26F-41
QUARTER ENDED
------------------------------------------------------------
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
2001 2001 2001 2001 2000 2000 2000 2000
------------ ------------ ------------ -------------2004 2004 2004 2004
------------ ------------ ------------ ------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
Revenues:
Research and development contract ............................. $ 17,302 $ - $ - $ -
License fee income ..... $ 2,440 $ 10,000 $ 10,740 $ 1,000 $ -- $ $ -- $ --
Grant revenue .......... 183 91 91 91 17 -- -- --
Other income ........... -- -- -- -- -- 22 18 --
------------ ------------ ------------ -------------fees .................................................. 599 666 2,240 779
Government contract ........................................... 217 701 685 390
Service contracts ............................................. 81 5 16 14
Products ...................................................... 16 44 52 118
------------ ------------ ------------ ------------
Total revenues ............ 2,623 10,091 10,831 1,091 17 22 18 --................................................ 18,215 1,416 2,993 1,301
Operating expenses ........ 18,424 20,028 18,527 10,855 3,250 4,150 11,881 17,939
------------ ------------ ------------ -------------............................................... 7,537 6,245 8,671 7,266
------------ ------------ ------------ ------------
Operating loss ............ (15,801) (9,937) (7,696) (9,764) (3,233) (4,128) (11,863) (17,939)income (loss) .......................................... 10,678 (4,829) (5,678) (5,965)
Other income (expense) .... 1,144 1,031 796 1,195 99 21 457 (1,812)(expenses) .......................................... 158 192 218 216
------------ ------------ ------------ -------------------------
Income (loss) from continuing operations before
income taxes and minority interests ........................... 10,836 (4,637) (5,460) (5,749)
Benefit for income taxes ......................................... 67 69 70 69
------------ ------------ ------------ ------------
Income (loss) from continuing operations before minority
interests ..................................................... 10,903 (4,568) (5,390) (5,680)
Minority interests ............................................... - 3 - 3
------------ ------------ ------------ ------------
Income (loss) from continuing operations ......................... 10,903 (4,565) (5,390) (5,677)
Loss from discontinued operations ................................ - (104) - -
------------ ------------ ------------ ------------
Net income (loss) ................................................ $ 10,903 $ (4,669) $ (5,390) $ (5,677)
============ ============ ============ ============
Earnings (loss) per common share:
Attributable to the Acacia Technologies group:
Loss from continuing operations ................................ $ (989) $ (1,049) $ (1,842) $ (1,559)
Basic and diluted loss per share ............................. (0.05) (0.05) (0.09) (0.08)
Loss from discontinued operations .............................. $ - $ (104) $ - $ -
Basic and diluted loss per share ............................. - (0.01) - -
Net loss ....................................................... $ (989) $ (1,153) $ (1,842) $ (1,559)
Basic and diluted loss per share ............................. (0.05) (0.06) (0.09) (0.08)
Attributable to the CombiMatrix group:
Net income (loss) .............................................. $ 11,892 $ (3,516) $ (3,548) $ (4,118)
Basic earnings (loss) per share .............................. 0.44 (0.12) (0.11) (0.13)
Net income (loss) .............................................. $ 11,892 $ (3,516) $ (3,548) $ (4,118)
Diluted earnings (loss) per share ............................ 0.41 (0.12) (0.11) (0.13)
Weighted average shares:
Acacia Research - Acacia Technologies stock:
Basic and diluted ............................................ 19,752,335 19,787,466 19,793,487 19,805,917
Acacia Research - CombiMatrix stock:
Basic ........................................................ 27,274,627 30,459,576 30,962,190 31,130,175
Diluted ...................................................... 29,233,817 30,459,576 30,962,190 31,130,175
Market price per share - Acacia Technologies stock:
High ......................................................... $ 7.50 $ 7.25 $ 7.14 $ 5.60
Low .......................................................... $ 5.15 $ 4.84 $ 2.77 $ 3.91
Market price per share - CombiMatrix stock:
High ......................................................... $ 9.30 $ 6.99 $ 4.85 $ 4.39
Low .......................................................... $ 3.16 $ 3.10 $ 2.52 $ 2.71
F-42a
QUARTER ENDED
------------------------------------------------------------
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
2003 2003 2003 2003
------------ ------------ ------------ ------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
Revenues:
Research and development contract ............................. $ - $ - $ - $ -
License fees .................................................. 6 19 186 481
Government contract ........................................... - - - -
Service contracts ............................................. 7 6 10 26
Products ...................................................... 209 - 171 27
------------ ------------ ------------ ------------
Total revenues ................................................ 222 25 367 534
Operating expenses ............................................... 7,207 6,885 6,481 5,937
------------ ------------ ------------ ------------
Operating income (loss) .......................................... (6,985) (6,860) (6,114) (5,403)
Other income (expenses) .......................................... 252 (4) 212 162
------------ ------------ ------------ ------------
Income (loss) from continuing operations before
income taxes and minority interests ........................... (6,733) (6,864) (5,902) (5,241)
Benefit for income taxes ......................................... 60 66 70 77
------------ ------------ ------------ ------------
Income (loss) from continuing operations before minority
interests ..................................................... (6,673) (6,798) (5,832) (5,164)
Minority interests ............................................... 6 24 - 17
------------ ------------ ------------ ------------
Income (loss) from continuing operations ......................... (6,667) (6,774) (5,832) (5,147)
Loss from discontinued operations ................................ - - - -
------------ ------------ ------------ ------------
Net income (loss) ................................................ $ (6,667) $ (6,774) $ (5,832) $ (5,147)
============ ============ ============ ============
Earnings (loss) per common share:
Attributable to the Acacia Technologies group:
Loss from continuing operations ................................ $ (1,494) $ (1,577) $ (1,296) $ (1,082)
Basic and diluted loss per share ............................. (0.08) (0.08) (0.07) (0.05)
Loss from discontinued operations .............................. $ - $ - $ - $ -
Basic and diluted loss per share ............................. - - - -
Net loss ....................................................... $ (1,494) $ (1,577) $ (1,296) $ (1,082)
Basic and diluted loss per share ............................. (0.08) (0.08) (0.07) (0.05)
Attributable to the CombiMatrix group:
Net income (loss) .............................................. $ (5,173) $ (5,197) $ (4,536) $ (4,065)
Basic earnings (loss) per share .............................. (0.23) (0.21) (0.18) (0.16)
Net income (loss) .............................................. $ (5,173) $ (5,197) $ (4,536) $ (4,065)
Diluted earnings (loss) per share ............................ (0.23) (0.21) (0.18) (0.16)
Weighted average shares:
Acacia Research - Acacia Technologies stock:
Basic and diluted ............................................ 19,640,808 19,640,808 19,645,949 19,718,377
Acacia Research - CombiMatrix stock:
Basic ........................................................ 22,983,278 24,183,340 25,890,408 26,207,146
Diluted ...................................................... 22,983,278 24,183,340 25,890,408 26,207,146
Market price per share - Acacia Technologies stock:
High ......................................................... $ 2.40 $ 1.75 $ 6.73 $ 8.58
Low .......................................................... $ 0.96 $ 0.99 $ 1.25 $ 4.71
Market price per share - CombiMatrix stock:
High ......................................................... $ 3.65 $ 2.83 $ 5.07 $ 5.05
Low .......................................................... $ 1.50 $ 1.71 $ 2.25 $ 2.90
F-42b
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of Acacia Research Corporation
In our opinion, the financial statements listed in the index appearing
under Item 15(a)(1) on page 56 present fairly, in all material respects, the
financial position of CombiMatrix Group (a division of Acacia Research
Corporation as described in Note 1) at December 31, 2004 and December 31, 2003,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2004, in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of Acacia Research Corporation's management;
our responsibility is to express an opinion on these financial statements based
on our audits. We conducted our audits of these statements 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. An audit 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, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
As more fully described in Note 1 to the financial statements, CombiMatrix
Group is a division of Acacia Research Corporation; accordingly, the financial
statements of CombiMatrix group should be read in conjunction with the
consolidated financial statements of Acacia Research Corporation.
/s/ PricewaterhouseCoopers LLP
Los Angeles, California
March 14, 2005
F-43
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
BALANCE SHEETS
(IN THOUSANDS)
DECEMBER 31, DECEMBER 31,
2004 2003
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents ................................................................. $ 2,985 $ 3,807
Available-for-sale investments ............................................................ 20,727 13,492
Accounts receivable, net of allowance for doubtful accounts of $0 (2004) and $145 (2003) ... 343 199
Inventory, prepaid expenses and other assets .............................................. 229 277
------------ ------------
Total current assets .................................................................... 24,284 17,775
Property and equipment, net of accumulated depreciation and amortization .................... 2,330 2,752
Patents, net of accumulated amortization of $3,074 (2004) and $1,978 (2003) .................. 9,021 10,117
Goodwill ................................................................................... 19,424 19,424
Other assets ............................................................................... 329 93
------------ ------------
$ 55,388 $ 50,161
============ ============
LIABILITIES AND ALLOCATED NET WORTH
Current liabilities:
Accounts payable, accrued expenses and other .............................................. $ 1,964 $ 1,672
Current portion of deferred revenues ...................................................... 66 17,566
Payable to Acacia Technologies group ...................................................... 119 99
------------ ------------
Total current liabilities ............................................................... 2,149 19,337
Deferred income taxes ....................................................................... 2,112 2,248
Deferred revenues, net of current portion ................................................... 3,893 2,839
Other liabilities .......................................................................... 406 -
------------ ------------
Total liabilities ....................................................................... 8,560 24,424
------------ ------------
Commitments and contingencies (Note 9)
Allocated net worth:
Funds allocated by Acacia Research Corporation ............................................ 159,056 138,675
Accumulated net losses .................................................................... (112,228) (112,938)
------------ ------------
Total allocated net worth ............................................................... 46,828 25,737
------------ ------------
$ 55,388 $ 50,161
============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-44
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------
2004 2003 2002
----------- ----------- -----------
Revenues:
Research and development contract ..................................... $ 17,302 $ - $ -
Government contract ................................................... 1,993 - 378
Service contracts ..................................................... 116 49 155
Products .............................................................. 230 407 306
----------- ----------- -----------
Total revenues ...................................................... 19,641 456 839
----------- ----------- -----------
Operating expenses:
Cost of government contract revenues .................................. 1,874 - -
Cost of product sales ................................................. 173 99 263
Research and development expenses ..................................... 5,294 8,098 18,187
Charge for acquired in-process research and development ............... - - 17,237
Non-cash stock compensation amortization - research and development ... 91 466 1,868
Marketing, general and administrative expenses ........................ 9,377 8,714 10,334
Non-cash stock compensation amortization - marketing, general
and administrative .................................................. 663 1,189 4,540
Amortization of patents ............................................... 1,096 1,095 399
Legal settlement charges .............................................. 812 144 18,471
----------- ----------- -----------
Total operating expenses ............................................ 19,380 19,805 71,299
----------- ----------- -----------
Operating income (loss) ............................................. 261 (19,349) (70,460)
----------- ----------- -----------
Other income:
Interest income ....................................................... 330 214 589
Interest expense ...................................................... - - (197)
Other ................................................................. (17) - -
----------- ----------- -----------
Total other income .................................................. 313 214 392
----------- ----------- -----------
Income (loss) from operations before income taxes
and minority interests ................................................ 574 (19,135) (70,068)
Benefit for income taxes ................................................ 136 136 147
----------- ----------- -----------
Income (loss) from operations before minority interests ................. 710 (18,999) (69,921)
Minority interests ...................................................... - 30 23,702
----------- ----------- -----------
Division net income (loss) .............................................. $ 710 $ (18,969) $ (46,219)
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-45
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF ALLOCATED NET WORTH
(IN THOUSANDS)
Balance at December 31, 2001 .................................... $ 3,723
Net assets attributed to the CombiMatrix group .................. 77,813
Division net income (loss) ...................................... (46,219)
-----------
Balance at December 31, 2002 .................................... 35,317
Net assets attributed to the CombiMatrix group .................. 9,389
Division net income (loss) ...................................... (18,969)
-----------
Balance at December 31, 2003 .................................... 25,737
Net assets attributed to the CombiMatrix group .................. 20,381
Division net income (loss) ...................................... 710
-----------
Balance at December 31, 2004 .................................... $ 46,828
===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-46
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------
2004 2003 2002
----------- ----------- -----------
Cash flows from operating activities:
Division net income (loss) from operations ............................ $ 710 $ (18,969) $ (46,219)
Adjustments to reconcile division net income (loss) from operations
to net cash used in operating activities:
Depreciation and amortization ..................................... 2,200 2,409 1,736
Minority interests ................................................ - (30) (23,702)
Non-cash stock compensation amortization .......................... 754 1,655 6,408
Charge for acquired in-process research and development ........... - - 17,237
Deferred tax benefit .............................................. (136) (136) (147)
Non-cash legal settlement charges ................................. 812 - 17,471
Other ............................................................. 60 25 129
Changes in assets and liabilities:
Accounts receivable ............................................... (154) 379 (435)
Inventory, prepaid expenses and other assets ...................... 135 169 258
Accounts payable, accrued expenses and other ...................... 481 (645) (515)
Deferred revenues ................................................. (16,446) 11,233 11,637
----------- ----------- -----------
Net cash used in operating activities ............................. (11,584) (3,910) (16,142)
----------- ----------- -----------
Cash flows from investing activities:
Purchase of property and equipment, net ........................... (810) (83) (1,002)
Sale of property and equipment .................................... - - 358
Purchase of available-for-sale investments ........................ (50,143) (32,714) (11,338)
Sale of available-for-sale investments ............................ 42,755 30,801 20,383
Purchase of investment ............................................ (250) - -
Acquisition costs ................................................. - - (834)
----------- ----------- -----------
Net cash provided by (used in) investing activities ............... (8,448) (1,996) 7,567
----------- ----------- -----------
Cash flows from financing activities:
Net cash flows attributed to the CombiMatrix group ................ 19,227 6,435 (818)
----------- ----------- -----------
Effect of exchange rate on cash ........................................ (17) (13) 92
----------- ----------- -----------
(Decrease) increase in cash and cash equivalents ....................... (822) 516 (9,301)
Cash and cash equivalents, beginning ................................... 3,807 3,291 12,592
----------- ----------- -----------
Cash and cash equivalents, ending ...................................... $ 2,985 $ 3,807 $ 3,291
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-47
COMBIMATRIX GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Acacia Research Corporation is comprised of two separate divisions: the
CombiMatrix group and the Acacia Technologies group (the "groups").
The CombiMatrix group, a division of Acacia Research Corporation, is
comprised of Acacia Research Corporation's wholly owned subsidiary, CombiMatrix
Corporation and CombiMatrix Corporation's wholly owned subsidiary, CombiMatrix
K.K. The CombiMatrix group is seeking to become a broadly diversified
biotechnology company, through the development of proprietary technologies and
products in the areas of drug development, genetic analysis, nanotechnology
research, defense and homeland security markets, as well as other potential
markets where its products could be utilized. Among the technologies being
developed by the CombiMatrix group are a platform technology to rapidly produce
customizable arrays, which are semiconductor-based tools for use in identifying
and determining the roles of genes, gene mutations and proteins. This technology
has a wide range of potential applications in the areas of genomics, proteomics,
biosensors, drug discovery, drug development, diagnostics, combinatorial
chemistry, material sciences and nanotechnology. Other technologies include
proprietary molecular synthesis and screening methods for the discovery of
potential new drugs. CombiMatrix K.K., a wholly owned Japanese corporation
located in Tokyo, is exploring opportunities for CombiMatrix Corporation's array
system with pharmaceutical and biotechnology companies in the Asian market.
LIQUIDITY AND RISKS
The CombiMatrix group is deploying new and unproven technologies and
continues to develop its commercial products. The CombiMatrix group has several
ongoing long-term development projects that involve experimental technology and
may require several years and substantial expenditures to complete. Management
believes that existing cash and cash equivalents and short-term investments are
adequate to fund operations through the next twelve months. However, the ability
to meet business objectives is dependent upon the CombiMatrix group's ability to
raise additional financing, substantiate its technology and ultimately to fund
itself from continuing operations. There can be no assurance that such funding
will be available at acceptable terms or at all.
The CombiMatrix group's business operations are also subject to certain
risks and uncertainties, including:
o market acceptance of products and services;
o technological advances that may make its products and services
obsolete or less competitive;
o increases in operating costs, including costs for supplies, personnel
and equipment;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that may restrict its business.
The CombiMatrix group has historically been substantially dependent on its
existing arrangements with strategic partners including Roche Diagnostics GmbH
("Roche"), and has relied upon payments by Roche and other partners for a
majority of its future revenues. The CombiMatrix group intends to enter into
additional strategic partnerships to develop and commercialize future products.
However, there can be no assurance that the CombiMatrix group will be able to
implement its future plans. Failure by management to achieve its plans would
have a material adverse effect on the CombiMatrix group's ability to achieve its
intended business objectives. The CombiMatrix group's success also depends on
its ability to protect its intellectual property.
The CombiMatrix group's business depends on issued and pending patents, and
the loss of any patents or the group's failure to secure the issuance of patents
covering elements of its business processes would materially harm its business
and financial condition. The patents covering the CombiMatrix group's core
technology begin to expire January 5, 2018.
F-48
RECAPITALIZATION TRANSACTION
On December 11, 2002, Acacia Research Corporation's stockholders voted in
favor of a recapitalization transaction, which became effective on December 13,
2002, whereby Acacia Research Corporation created two new classes of common
stock called Acacia Research-CombiMatrix stock ("AR-CombiMatrix stock") and
Acacia Research-Acacia Technologies stock ("AR-Acacia Technologies stock"), and
divided the existing Acacia Research Corporation common stock into shares of the
two new classes of common stock. AR-CombiMatrix stock is intended to reflect
separately the performance of Acacia Research Corporation's CombiMatrix group.
AR-Acacia Technologies stock is intended to reflect separately the performance
of Acacia Research Corporation's Acacia Technologies group. Although the
AR-CombiMatrix stock and the AR-Acacia Technologies stock are intended to
reflect the performance of Acacia Research Corporation's different business
groups, they are both classes of common stock of Acacia Research Corporation and
are not stock issued by the respective groups.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. AR-CombiMatrix stock is intended to reflect the
separate performance of the respective division of Acacia Research Corporation.
The CombiMatrix group is not a separate legal entity. Holders of AR-CombiMatrix
stock are stockholders of Acacia Research Corporation. As a result, holders of
AR-CombiMatrix stock are subject to all of the risks of an investment in Acacia
Research Corporation and all of its businesses, assets and liabilities. The
assets Acacia Research Corporation attributes to the CombiMatrix group could be
subject to the liabilities of the Acacia Technologies group.
The CombiMatrix group financial statements have been prepared in accordance
with generally accepted accounting principles in the United States of America,
and taken together with the Acacia Technologies group financial statements,
comprise all the accounts included in the corresponding consolidated financial
statements of Acacia Research Corporation. The financial statements of
CombiMatrix group reflect the financial condition, results of operations, and
cash flows of the businesses included therein. The financial statements of the
CombiMatrix group include the accounts or assets of Acacia Research Corporation
specifically attributed to the CombiMatrix group and were prepared using amounts
included in Acacia Research Corporation's consolidated financial statements.
Minority interests represent participation of other stockholders in the
allocated net assets and in the division earnings and losses of the CombiMatrix
group and are reflected in the caption minority interests in CombiMatrix group's
financial statements. Minority interests adjust CombiMatrix group's net results
of operations to reflect only CombiMatrix group's share of the division earnings
or losses of non-wholly owned investees of Acacia Research Corporation that have
been attributed to the CombiMatrix group.
Financial effects arising from one group that affect Acacia Research
Corporation's results of operations or financial condition could, if
significant, affect the results of operations or financial condition of the
other group and the market price of the class of common stock relating to the
other group. Any division net losses of the CombiMatrix group or the Acacia
Technologies group and dividends or distributions on, or repurchases of,
AR-CombiMatrix stock or AR-Acacia Technologies stock or repurchases of preferred
stock of Acacia Research Corporation will reduce the assets of Acacia Research
Corporation legally available for payment of dividends on AR-CombiMatrix stock
or AR-Acacia Technologies stock.
Refer to Note 2 to the Acacia Research Corporation consolidated financial
statements included elsewhere herein for the Acacia Research Corporation
principles of consolidation, the management allocation policies, treasury and
cash management policies, asset and liability attribution policies, corporate,
general and administrative services and facilities allocation policies and
federal and state income tax allocation policies, utilized in the preparation of
the separate CombiMatrix group financial statements.
REVENUE RECOGNITION. The CombiMatrix group recognizes revenue in accordance
with Staff Accounting Bulletin No. 104, "Revenue Recognition" ("SAB No. 104")
and related authoritative pronouncements. Revenues from multiple-element
arrangements are accounted for in accordance with Emerging Issues Task Force
("EITF") Issue 00-21, "Revenue Arrangements with Multiple Deliverables." Revenue
is recognized when (i) persuasive evidence of an arrangement exists, (ii) all
obligations have been performed pursuant to the terms of the license agreement,
(iii) amounts are fixed or determinable and (iv) collectibility of amounts is
reasonably assured.
F-49
Revenues from multiple-element arrangements involving license fees,
up-front payments and milestone payments, which are received and/or billable by
us in connection with other rights and services that represent continuing
obligations of ours, are deferred until all of the elements have been delivered
or until the CombiMatrix group has established objective and verifiable evidence
of the fair value of the undelivered elements.
Revenues from government grants and contracts are recognized in accordance
with Accounting Research Bulletin ("ARB") No. 43, "Government Contracts," and
related pronouncements. Accordingly, revenues are recognized under the
percentage-of-completion method of accounting, using the cost-to-cost approach
to measure completeness at each reporting period. Under the
percentage-of-completion method of accounting, contract revenues and expenses
are recognized in the period that work is performed based on the percentage of
actual incurred costs to estimated total contract costs. Actual contract costs
and cost estimates include direct charges for labor and materials and indirect
charges for labor, overhead and certain general and administrative charges.
Contract change orders and claims are included when they can be reliably
estimated and are considered probable. For contracts that extend over a one-year
period, revisions in contract cost estimates, if they occur, have the effect of
adjusting current period earnings applicable to performance in prior periods.
Should current contract estimates indicate an overall future loss to be
incurred, a provision is made for the total anticipated loss in the current
period.
Revenue from the sale of products and services, including shipping and
handling fees, are recognized when delivery has occurred or services have been
rendered.
Deferred revenues arise from payments received in advance of the
culmination of the earnings process. Deferred revenues expected to be recognized
within the next twelve months are classified within current liabilities.
Deferred revenues will be recognized as revenue in future periods when the
applicable revenue recognition criteria as described above are met.
CASH AND CASH EQUIVALENTS. The CombiMatrix group considers all highly
liquid, short-term investments with original maturities of three months or less
when purchased to be cash equivalents.
SHORT-TERM INVESTMENTS. The CombiMatrix group's short-term investments are
held in a variety of interest bearing instruments including high-grade corporate
bonds, money market accounts and other high-credit quality marketable
securities. Investments in securities with original maturities of greater than
three months and less than one year are classified as short-term investments.
Investments are classified in accordance with the provisions of Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS No. 115"). Investments are classified as
available-for-sale, which are reported at fair value with related unrealized
gains and losses in the value of such securities recorded as a component of
allocated net worth until realized.
The fair value of the CombiMatrix group's investments is determined by
quoted market prices. Realized and unrealized gains and losses are recorded
based on the specific identification method. For investments classified as
available-for-sale, unrealized losses that are other than temporary are
recognized in division net loss.
The cost of debt securities is adjusted for amortization of premiums and
accretion of discounts to maturity. Such amortization is included in interest
income (expense). Interest and dividends on all securities are included in
interest income.
CONCENTRATION OF CREDIT RISKS. Financial instruments that potentially
subject the CombiMatrix group to concentrations of credit risk are cash
equivalents and short-term investments. The CombiMatrix group places its cash
equivalents and short-term investments primarily in investment grade, short-term
debt instruments. Cash equivalents are invested in deposits with certain
financial institutions and may, at times, exceed federally insured limits. The
CombiMatrix group has not experienced any significant losses on its deposits of
cash and cash equivalents.
Research and development contract revenues recognized by the CombiMatrix
group for the year ended December 31, 2004 relate to its research and
development agreement with Roche. Government contract revenues recognized by the
CombiMatrix group for the year ended December 31, 2004 relate to its two-year,
F-50
$5.9 million contract with the Department of Defense awarded in March 2004. At
December 31, 2004, accounts receivable included $248,000 due from the Department
of Defense. In 2004, 2003 and 2002, 45%, 100% and 38% of the CombiMatrix group's
array product and service sales were recorded by CombiMatrix K.K.
Substantially all of the components and raw materials used in the
manufacture of the CombiMatrix group's products, including semiconductors and
reagents, are currently provided from a limited number of sources or in some
cases from a single source. Although the CombiMatrix group believes that
alternative sources for those components and raw materials are available, any
supply interruption in a sole-sourced component or raw material might result in
up to a several-month production delay and materially harm the CombiMatrix
group's ability to manufacture products until a new source of supply, if any,
could be located and qualified. The CombiMatrix group utilizes non-standard
semiconductor manufacturing processes to fabricate the electrode array that is a
key aspect of the array structure. Although the CombiMatrix group has a supply
agreement in place with a semiconductor wafer manufacturer to ensure
availability of the raw materials, it does not guarantee a permanent supply.
INVENTORY. Inventory, which consists primarily of raw materials to be used
in the production of the CombiMatrix group's array products, is stated at the
lower of cost or market using the first-in, first-out method.
PROPERTY AND EQUIPMENT. Property and equipment is recorded at cost.
Additions and improvements that increase the value or extend the life of an
asset are capitalized. Maintenance and repairs are expensed as incurred.
Disposals are removed at cost less accumulated depreciation or amortization and
any gain or loss from disposition is reflected in the statement of operations in
the period of disposition. Depreciation is computed on a straight-line basis
over the following estimated useful lives of the assets:
Machine shop and laboratory equipment............ 3 to 5 years
Furniture and fixtures........................... 5 to 7 years
Computer hardware and software................... 3 years
Leasehold improvements........................... Lesser of lease term or
useful life of improvement
Construction in progress includes direct costs incurred related to
internally constructed assets which are depreciated once the asset is placed
into service. Certain leasehold improvements, furniture and equipment held under
capital leases are classified as property and equipment and are amortized over
their useful lives using the straight-line method. Lease amortization is
included in depreciation expense.
ORGANIZATION COSTS. Costs of start-up activities, including organization
costs, are expensed as incurred.
PATENTS AND GOODWILL. Goodwill and identifiable intangibles, including
patents, are recorded when the consideration paid for acquisitions exceeds the
fair value of the net tangible assets acquired. Patents, once issued or
purchased, are amortized on the straight-line method over their economic
remaining useful lives, ranging from seven to twenty years. Goodwill is not
amortized.
IMPAIRMENT OF LONG-LIVED ASSETS AND GOODWILL. Long-lived assets and
intangible assets are reviewed for potential impairment when events or changes
in circumstances indicate the carrying amount of an asset may not be
recoverable. In the event the sum of the expected undiscounted future cash flows
resulting from the use of the asset is less than the carrying amount of the
asset, an impairment loss equal to the excess of the asset's carrying value over
its fair value is recorded. If an asset is determined to be impaired, the loss
is measured based on quoted market prices in active markets, if available. If
quoted market prices are not available, the estimate of fair value is based on
various valuation techniques, including a discounted value of estimated future
cash flows.
Goodwill is evaluated for impairment in accordance with SFAS No. 142,
"Goodwill and Other Intangible Assets" ("SFAS No. 142") and is subject to a
periodic review for potential impairment at a reporting unit level. Reviews for
potential impairment must occur at least annually and may be performed earlier,
if circumstances indicate that an impairment may have occurred. The CombiMatrix
group has elected to perform its annual tests for indications of goodwill
impairment as of December 31 of each year. The CombiMatrix group has one
reporting unit. The fair value of the CombiMatrix group reporting unit is
estimated using discounted cash flow analysis and by reference to quoted market
prices of AR-CombiMatrix stock.
F-51
SFAS No. 142 requires the CombiMatrix group to compare the fair value of
its reporting unit to its carrying amount on an annual basis to determine if
there is potential goodwill impairment. If the fair value of the reporting unit
is less than its carrying value, an impairment loss is recorded to the extent
that the fair value of the goodwill within the reporting unit is less than its
carrying value. There can be no assurance that future goodwill impairment tests
will not result in a charge to earnings.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The carrying value of cash and cash
equivalents, accounts receivables, accounts payable and accrued expenses
approximate fair value due to their short-term maturity.
FOREIGN CURRENCY TRANSLATION. The functional currency of CombiMatrix K.K.
is the local currency (Japanese Yen). Foreign currency translation is reported
pursuant to SFAS No. 52, "Foreign Currency Translation" ("SFAS No. 52"). Assets
and liabilities recorded in foreign currencies are translated at the exchange
rate on the balance sheet date. Translation adjustments resulting from this
process are charged or credited to allocated net worth. Revenue and expenses are
translated at average rates of exchange prevailing during the year. Foreign
currency transactions gains and losses were insignificant for the years ended
December 31, 2004, 2003 and 2002.
STOCK-BASED COMPENSATION. Refer to Note 2 to the Acacia Research
Corporation consolidated financial statements included elsewhere herein.
Stock option and related option plan information is omitted from the
CombiMatrix group footnotes because AR-CombiMatrix stock is part of the capital
structure of Acacia Research Corporation. The CombiMatrix group is not a
separate legal entity. Holders of AR-CombiMatrix stock continue to be
stockholders of Acacia Research Corporation. This presentation reflects the fact
that the CombiMatrix group does not have legally issued common or preferred
stock, nor are warrant issuances or employee stock transactions legal
transactions of the CombiMatrix group. Refer to the Acacia Research Corporation
consolidated financial statements for disclosures regarding Acacia Research
Corporation's stock option plans.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist of costs incurred for direct and overhead-related research expenses and
are expensed as incurred. Costs to acquire technologies which are utilized in
research and development and which have no alternative future use are expensed
when incurred. Costs related to filing and pursuing patent applications are
expensed as incurred, as recoverability of such expenditures is uncertain.
Software developed for use in the CombiMatrix group's products is expensed as
incurred until both (i) technological feasibility for the software has been
established and (ii) all research and development activities for the other
components of the system have been completed. Management believes these criteria
are met after the CombiMatrix group has received evaluations from third-party
test sites and completed any resulting modifications to the products.
Expenditures to date have been classified as research and development expense.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. The value assigned to
acquired in-process research and development ("IPR&D") is determined by
identifying acquired specific in-process research and development projects that
would be continued and for which (a) technological feasibility has not been
established at the acquisition date, (b) there is no alternative future use and
(c) the fair value is estimable with reasonable reliability, upon consummation
of a business combination.
ADVERTISING. Costs associated with marketing and advertising of the
CombiMatrix group's products and services are expensed as incurred. For the
years ended December 31, 2004, 2003 and 2002, marketing and advertising expenses
incurred by the CombiMatrix group were $314,000, $26,000 and $62,000,
respectively.
INCOME TAXES. Income taxes are accounted for using an asset and liability
approach that requires the recognition of deferred tax assets and liabilities
for the expected future tax consequences of events that have been recognized in
the CombiMatrix group's financial statements or tax returns. A valuation
allowance is established to reduce deferred tax assets if all, or some portion,
of such assets will more than likely not be realized.
SEGMENTS. The CombiMatrix group follows SFAS No. 131, "Disclosure about
Segments of an Enterprise and Related Information" ("SFAS No. 131"), which
establishes annual and interim reporting standards for an enterprise's operating
segments and related disclosures about its products, services, geographic areas
and major customers. Management has determined that the CombiMatrix group
operates in one segment.
F-52
USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of America
requires management to make estimates and assumptions that affect the reported
amount of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the combined financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from these estimates.
EARNINGS PER SHARE. Earnings per share information is omitted from the
CombiMatrix group statements of operations because AR-CombiMatrix stock is part
of the capital structure of Acacia Research Corporation. The CombiMatrix group
is not a separate legal entity. Holders of AR-CombiMatrix stock continue to be
stockholders of Acacia Research Corporation. This presentation reflects the fact
that the CombiMatrix group does not have legally issued common or preferred
stock, nor are warrant issuances or employee stock transactions legal
transactions of the CombiMatrix group. Refer to the Acacia Research Corporation
consolidated financial statements for earnings per share information for Acacia
Research Corporation's classes of stock.
CERTAIN RISKS AND UNCERTAINTIES. The CombiMatrix group's products and
services will be concentrated in a highly competitive market that is
characterized by rapid technological advances, frequent changes in customer
requirements and evolving regulatory requirements and industry standards.
Failure to anticipate or respond adequately to technological advances, changes
in customer requirements, changes in regulatory requirements or industry
standards, or any significant delays in the development or introduction of
planned products or services, could have a material adverse effect on the
CombiMatrix group's business and operating results.
RECENT ACCOUNTING PRONOUNCEMENTS. Refer to Note 2 to the Acacia Research
Corporation consolidated financial statements included elsewhere herein.
3. SHORT-TERM INVESTMENTS
Short-term investments consist of the following at December 31, 2004 and
2003 (in thousands):
2004 2003
------------------------- -------------------------
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
----------- ----------- ----------- -----------
Available-for-sale securities:
Corporate bonds and notes ...... $ 6,562 $ 6,541 $ 6,930 $ 6,931
U.S. government securities ..... 14,220 14,186 6,558 6,561
----------- ----------- ----------- -----------
$ 20,782 $ 20,727 $ 13,488 $ 13,492
=========== =========== =========== ===========
Gross unrealized gains and losses related to available-for-sale securities
were not material for the periods presented. All investments in debt securities
classified as available-for-sale at December 31, 2004 have contractual
maturities of one year or less.
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31, 2004 and
2003 (in thousands):
2004 2003
----------- -----------
Machine shop and laboratory equipment ................. $ 3,791 $ 3,687
Furniture and fixtures ................................ 162 160
Computer hardware and software ........................ 829 1,163
Leasehold improvements ................................ 998 999
Construction in progress .............................. 359 84
----------- -----------
6,139 6,093
Less: accumulated depreciation and amortization ....... (3,809) (3,341)
----------- -----------
$ 2,330 $ 2,752
=========== ===========
F-53
Depreciation and amortization expense was $1,105,000, $1,314,000 and
$1,364,000 for the years ended December 31, 2004, 2003 and 2002. Amortization of
assets held under capital lease included in depreciation and amortization
expense was $590,000 for the year ended December 31, 2002. In November 2002, the
capital lease obligation was repaid and title to the assets previously under
capital lease was transferred back to the CombiMatrix group. Fully depreciated
assets of $663,000 were written off in 2004.
5. INVESTMENTS
In October 2004 (the "Investment Date"), the CombiMatrix group entered into
an agreement to acquire up to a one-third ownership interest in Leuchemix, Inc.
("Leuchemix"), a private drug development firm, which is developing several
compounds for the treatment of leukemia and other cancers. In accordance with
the terms of the purchase agreement, the CombiMatrix group will purchase
3,137,500 shares of Series A Preferred Stock of Leuchemix for a total purchase
price of $4,000,000. The ownership interest will be acquired and paid for
quarterly, beginning with the fourth quarter of 2004 and continuing through the
third quarter of 2006. As of December 31, 2004, the CombiMatrix group has
initially invested $250,000 for a 3% interest in the total outstanding voting
securities of Leuchemix. In accordance with the terms of the purchase agreement,
CombiMatrix Corporation's CEO was named a director of Leuchemix. Although the
CombiMatrix group's investment in Leuchemix only represented approximately 3% of
Leuchemix's total outstanding voting securities as of the Investment Date, the
CombiMatrix group's investment is being accounted for under the equity method as
the CombiMatrix group has the ability to exercise significant influence over
Leuchemix, primarily due to CombiMatrix Corporation's representation on
Leuchemix's board of directors.
The CombiMatrix group's 3% interest in the equity in loss of Leuchemix,
including its share of the amortization expense related to the excess purchase
consideration over the book value of Leuchemix was not material for the
year-ended December 31, 2004. Future investments in Leuchemix will be accounted
for as step acquisitions. Summary financial information for Leuchemix was not
significant as of December 31, 2004.
6. INTANGIBLES
The CombiMatrix group has $19,424,000 of goodwill at December 31, 2004 and
2003.
The CombiMatrix group's only identifiable intangible assets are patents,
which are being amortized over an economic useful life of approximately 11
years. The gross carrying amounts and accumulated amortization related to
acquired intangible assets, all related to patents, as of December 31, 2004 and
2003, are as follows (in thousands):
2004 2003
----------- -----------
Gross carrying amount - patents ..... $ 12,095 $ 12,095
Accumulated amortization ............ (3,074) (1,978)
----------- -----------
Patents, net ........................ $ 9,021 $ 10,117
=========== ===========
Aggregate patent amortization expense was $1,096,000, $1,095,000 and
$399,000 in 2004, 2003 and 2002, respectively. Annual aggregate amortization
expense for each of the next five years through December 31, 2009 is estimated
to be $1,095,000 per year. Refer to Note 12, "Step Acquisitions Allocated to the
CombiMatrix Group," for additions to intangibles and goodwill during 2004 and
2003.
F-54
7. BALANCE SHEET COMPONENTS
Accounts payable, accrued expenses and other consists of the
following at December 31, 2004 and December 31, 2003 (in thousands):
2004 2003
----------- -----------
Accounts payable ............................. $ 410 $ 305
Payroll and other employee benefits .......... 317 304
Accrued vacation ............................. 355 287
Deferred rent ................................ 340 284
Accrued consulting and other professional
fees ....................................... 299 242
Other accrued liabilities .................... 243 250
----------- -----------
$ 1,964 $ 1,672
=========== ===========
Deferred revenues consist of the following at December 31, 2004 and 2003
(in thousands):
2004 2003
----------- -----------
Milestone and up-front payments .............. $ 3,959 $ 20,405
Less: current portion ....................... (66) (17,566)
----------- -----------
$ 3,893 $ 2,839
=========== ===========
In March 2004, the CombiMatrix group completed all phases of its research
and development agreement with Roche. As a result of completing all of its
obligations under this agreement and in accordance with the CombiMatrix group's
revenue recognition policies for multiple-element arrangements, the CombiMatrix
group recognized all previously deferred Roche related contract revenues
totaling $17,302,000 during the first quarter of 2004.
In August 2004, the CombiMatrix group received a $1,000,000 upfront payment
from Furuno Electric Co., LTD ("Furuno") as part of a multi-year collaboration
agreement to develop a bench-top array synthesizer for commercial applications.
In 2003, the CombiMatrix group received upfront and milestone payments from
Toppan Printing Co., LTD. ("Toppan") totaling $2,400,000, pursuant to a
multi-year collaboration and supply agreement to develop and manufacture arrays
using the CombiMatrix group's proprietary electrochemical detection approach.
The payments received from Furuno and Toppan are included in deferred revenues
at December 31, 2004 in accordance with the CombiMatrix group's revenue
recognition policies for multiple-element arrangements.
8. INCOME TAXES
CombiMatrix group's allocated benefit for income taxes consists of the
following (in thousands):
2004 2003 2002
----------- ----------- -----------
Current:
U.S. Federal tax ....... $ - $ - $ -
State taxes ............ - - -
----------- ----------- -----------
- - -
----------- ----------- -----------
Deferred:
U.S. Federal tax ....... (136) (136) (147)
State taxes ............ - - -
----------- ----------- -----------
(136) (136) (147)
----------- ----------- -----------
$ (136) $ (136) $ (147)
=========== =========== ===========
The tax effects of temporary differences and carryforwards that give rise
to significant portions of deferred assets and liabilities consist of the
following at December 31, 2004 and 2003 (in thousands):
F-55
2004 2003
----------- -----------
Deferred tax assets:
Depreciation and amortization ......................... $ (203) $ (117)
Deferred revenues ..................................... 829 3,456
Stock compensation .................................... 7,491 8,009
Accrued liabilities and other ......................... 218 213
Net operating loss carryforwards and credits .......... 32,459 28,947
----------- -----------
Total deferred tax assets ............................. 40,794 40,508
Less: valuation allowance ............................ (40,794) (40,508)
----------- -----------
Deferred tax assets, net of valuation allowance ....... - -
----------- -----------
Deferred tax liabilities:
Intangibles .......................................... (2,112) (2,248)
----------- -----------
Net deferred tax liability ........................... $ (2,112) $ (2,248)
=========== ===========
A reconciliation of the federal statutory income tax rate and the effective
income tax rate is as follows:
2004 2003 2002
----------- ----------- -----------
Statutory federal tax rate ................ (34%) (34%) (34%)
Amortization of intangible assets ......... - - 3%
Tax exempt interest ....................... 10% - -
Impact of foreign rate difference ......... 10% - -
Research and development tax credits ...... 70% - -
Stock compensation ........................ 4% 1% 1%
Non deductible permanent items ............ 11% - 13%
Valuation allowance ....................... (50%) 36% 19%
Other ..................................... 2% (4%) (2%)
----------- ----------- -----------
23% (1%) -
=========== =========== ===========
At December 31, 2004, the CombiMatrix group has deferred tax assets
totaling approximately $40,794,000, which are fully offset by a valuation
allowance due to management's determination that the criteria for asset
recognition have not been met.
Acacia Research Corporation files a consolidated federal income tax return
that includes the Acacia Technologies group (excluding discontinued operations)
and the CombiMatrix group.
At December 31, 2004, the CombiMatrix group had federal net operating loss
carryforwards of approximately $90,131,000, which will begin to expire in 2012
through 2024. In addition, the CombiMatrix group has tax credit carryforwards of
approximately $2,869,000. Utilization of net operating loss carryforwards and
tax credit carryforwards are subject to the "change of ownership" provisions
under Section 382 of the Internal Revenue Code. The amount of such limitations
has not been determined.
Had the CombiMatrix group filed separate tax returns, the benefit for
income taxes and division net loss would not have differed from the amounts
reported in the CombiMatrix group's statements of operations for the years ended
December 31, 2004, 2003, and 2002.
F-56
9. COMMITMENTS AND CONTINGENCIES
OPERATING LEASES
In October 2000, CombiMatrix Corporation entered into a non-cancelable
operating lease for office space. A security deposit in the form of a $783,000
letter of credit was issued November 1, 2000, which was increased to $1,200,000
during 2001 and to $1,500,000 during 2002. Future minimum operating lease
payments as of December 31, 2004 are as follows (in thousands):
YEAR
----
2005 ....................................... $ 1,923
2006 ....................................... 1,836
2007 ....................................... 1,937
2008 ....................................... 1,615
Thereafter ................................. -
-----------
Total minimum lease payments ............... $ 7,311
===========
Rent expense for the years ended December 31, 2004, 2003 and 2002 was
$1,933,000, $2,006,000 and $1,618,000, respectively.
COLLABORATIVE AND RESEARCH AGREEMENTS
In July 2001, CombiMatrix Corporation entered into a non-exclusive
worldwide license, supply, research and development agreement with Roche. Under
the terms of the agreement, Roche will purchase, use and resell CombiMatrix
Corporation's array and related technologies for production of customizable
arrays. Additionally, CombiMatrix Corporation and Roche will develop a platform
technology, providing a range of standardized arrays for use in research
applications. The agreement has a 15-year term and provides for minimum payments
by Roche to CombiMatrix Corporation over the first three years, including
payments upon the achievement of certain milestone and payments for products,
royalties and research and development projects. During 2003 and 2002, the
CombiMatrix group's research and development activities were driven primarily by
ongoing performance obligations under the product commercialization phase of its
license and research and development agreements with Roche. These activities
include costs associated with direct labor, supplies and materials, development
of prototype arrays and instruments and the use of outside consultants for
certain engineering efforts. As previously discussed in Note 7, the CombiMatrix
group completed all phases of its research and development agreement with Roche
in March 2004.
As previously disclosed in Note 5, the CombiMatrix group has entered into
an agreement with Leuchemix to purchase a total of $4,000,000 of Series A
Preferred Stock of Leuchemix over a two-year period. Future quarterly cash
investments by the CombiMatrix group in Leuchemix are $1,600,000 in 2005 and
$2,150,000 in 2006.
In March 2004, the CombiMatrix group was awarded a two-year, $5.9 million
contract with the Department of Defense to further the development of the
CombiMatrix group's array technology for the detection of biological threat
agents. Under the terms of the contract, the CombiMatrix group will perform
research and development activities as described under the contract and will be
reimbursed on a periodic basis for actual costs incurred to perform its
obligations, plus a fixed fee, of up to $5.9 million. Based on actual costs
incurred through December 31, 2004, the CombiMatrix group expects to incur
approximately $2.2 million and $819,000 in research and development costs during
2005 and 2006, respectively, to complete its obligations to the Department of
Defense under this contract. As of December 31, 2004, the biowarfare detection
contract with the Department of Defense was approximately 34% complete.
F-57
In July 2004, the CombiMatrix group and collaborator irsiCaixa Foundation
("IRSI") entered into a three-year research, development and licensing agreement
to develop certain siRNA compounds for pre-clinical drug development against the
HIV virus. Pursuant to the terms of the agreement, the CombiMatrix group will
make quarterly research and development funding payments to IRSI totaling
$450,000 over a period of three years, which began in July 2004. In addition,
the CombiMatrix group may make future contingent milestone payments for
compounds that are developed, in accordance with the terms of the agreement. In
consideration for receiving rights to commercialize the compounds under
development, the CombiMatrix group will pay royalties to IRSI based on
commercial sales of related products, in accordance with the agreement.
HUMAN RESOURCES
The CombiMatrix group provides certain severance benefits such that if an
executive who is a vice president or higher is terminated for other than cause,
death or disability, the executive will receive payments equal to three months'
base salary and other medical and dental benefits on a bi-weekly basis over a
three-month period. If termination occurs as a result of a change in control
transaction, these benefits will be extended by three months. The CombiMatrix
group also offers a general severance plan providing all employees with certain
benefits upon their termination of employment due to lack of work. Under this
plan, terminated employees will be provided with either four-weeks notice or
four-weeks' salary in lieu of notice, and paid a lump-sum amount based on the
employee's length of service, plus accrued benefits. The terminated employees
will also be provided continuing medical and dental benefits, as well as
continuation of life insurance, for a period ranging from two to 26 weeks
subsequent to the date of termination, depending upon the employee's length of
service.
LITIGATION
On November 28, 2000, Nanogen, Inc. ("Nanogen") filed suit against
CombiMatrix Corporation and Dr. Donald Montgomery, an officer, director and
stockholder of CombiMatrix Corporation. The Nanogen suit alleged, among other
things, that CombiMatrix Corporation's issued patent and certain pending patent
applications, trade secrets and related technologies that were inappropriately
obtained by CombiMatrix Corporation and that Nanogen was the legal owner of the
patents, trade secrets and related technologies. The suit sought, among other
things, correction of inventorship on CombiMatrix Corporation's issued patent,
the assignment of rights in the issued patent and pending patent applications to
Nanogen, an injunction preventing disclosure of trade secrets, damages for trade
secret misappropriation and the imposition of a constructive trust.
On September 30, 2002, CombiMatrix Corporation and Dr. Donald Montgomery
entered into a settlement agreement with Nanogen, Inc. to settle all pending
litigation between the parties. Pursuant to the terms of the settlement
agreement, CombiMatrix Corporation agreed to pay Nanogen $500,000 within 30 days
of the settlement, which was paid, and an additional $500,000 within one year of
the settlement (paid in September 2003). CombiMatrix Corporation also agreed to
make quarterly payments to Nanogen equal to 12.5% of total sales of products
developed by CombiMatrix Corporation and its affiliates and based on the patents
that had been in dispute in the litigation, up to an annual maximum of
$1,500,000. The minimum quarterly payments under the settlement agreement will
be $37,500 per quarter for the period from October 1, 2003 through October 1,
2004, and $25,000 per quarter thereafter until the patents expire. Also,
pursuant to the settlement agreement, CombiMatrix Corporation issued to Nanogen
4,016,346 shares, or 17.5% of its outstanding shares post-issuance, subject to
an anti-dilution provision related to the exercise of CombiMatrix Corporation
options and warrants that were outstanding on the effective date of the
agreement, for a period of up to three years.
The issuance of the CombiMatrix Corporation common shares in settlement of
the litigation with Nanogen was accounted for as a nonmonetary transaction.
Accordingly, CombiMatrix Corporation recorded a non-cash litigation settlement
charge in the consolidated statements of operations for the year ended December
31, 2002 of approximately $17,471,000, which was based on the fair value of the
CombiMatrix Corporation common shares issued to Nanogen. Management was
responsible for determining the fair value of the common shares issued to
Nanogen on the settlement date and considered a number of factors, including
reference to an independent third-party valuation. Management utilized an income
approach to estimate the value of the common shares issued, based on the present
value of CombiMatrix Corporation's future estimated cash flows. Future estimated
cash flows included management's estimates of revenues, cost of sales, research
and development expenses, sales and marketing expenses, general and
administrative expenses, the anticipated effect of income taxes, and required
returns on working capital, fixed assets and other assets necessary to support
the generation of these cash flows. Future estimated cash flows were discounted
to the present value using a discount rate of 25%, which reflected a required
rate of return, comprised of an estimated weighted-average cost of capital,
which was further increased to reflect the risk profile of the company's
business.
F-58
Total legal settlement charges recorded in the CombiMatrix group statement
of operations for the year ended December 31, 2002 include the fair value of the
common shares issued to Nanogen in the amount of $17,471,000 and a charge in the
amount of $1,000,000 related to the cash payments due to Nanogen discussed
above.
During the year ended December 31, 2004, the CombiMatrix group recorded a
net non-cash charge totaling $812,000 in connection with the anti-dilution
provisions of the settlement agreement. The non-cash charge reflects
management's estimate of the fair value of AR-CombiMatrix stock issued to
Nanogen, Inc. as a result of certain options and warrants exercised during 2004
and the fair value of AR-CombiMatrix stock potentially issuable to Nanogen, Inc.
as of December 31, 2004. The liability is adjusted at each balance sheet date
for changes in the market value of the AR-CombiMatrix stock and is reflected as
a long-term liability until settled in equity. The anti-dilution provisions of
the settlement agreement expire in September 2005.
The CombiMatrix group is subject to other claims and legal actions that
arise in the ordinary course of business. Management believes that the ultimate
liability with respect to these claims and legal actions, if any, will not have
a material effect on CombiMatrix group's financial position, results of
operations or cash flows.
10. RETIREMENT SAVINGS PLAN
The CombiMatrix group has an employee savings and retirement plan under
section 401(k) of the Internal Revenue Code (the "Plan"). The Plan is a defined
contribution plan in which eligible employees may elect to have a percentage of
their compensation contributed to the Plan, subject to certain guidelines issued
by the Internal Revenue Service. The CombiMatrix group may contribute to the
Plan at the discretion of Acacia Research Corporation's board of directors.
There were no contributions made by the CombiMatrix group during the years ended
December 31, 2004, 2003 and 2002.
11. ALLOCATED NET WORTH
The CombiMatrix group's statements of allocated net worth present the
equity transactions of Acacia Research Corporation, which are attributed to the
CombiMatrix group as "Net assets attributed to the CombiMatrix group." This
presentation reflects the fact that the CombiMatrix group does not have legally
issued common or preferred stock, nor are warrant issuances or employee stock
option transactions legal transactions of the CombiMatrix group. Presented below
is a detail of the equity transactions of Acacia Research Corporation which
relate to the businesses of the CombiMatrix group and which therefore comprise
the balances reflected in the group's net assets attributed to CombiMatrix group
(in thousands):
COMBIMATRIX
GROUP
-------------
2002
Allocated corporate charges ............................................................... $ 1,032
Stock options exercised ................................................................... 29
Change in capital due to issuance of stock by subsidiaries ................................ (550)
Compensation expense relating to stock options and warrants ............................... 300
Unrealized loss on short-term investments ................................................. (38)
Unrealized gain on foreign currency translation ........................................... 40
Dividends paid ........................................................................... (11)
Stock issuance related to acquisition of additional CombiMatrix shares .................... 76,175
Acquisition costs allocated ............................................................... 834
Other .................................................................................... 2
-------------
Net assets attributed to the CombiMatrix group - 2002 ..................................... $ 77,813
=============
F-59
2003
Units issued in private placement, net .................................................... $ 4,862
Allocated corporate charges ............................................................... 620
Stock options and warrants exercised ...................................................... 953
Employee stock grant ...................................................................... 60
Stock option cancellations ................................................................ (256)
Compensation expense relating to stock options and warrants ............................... 1,849
Unrealized loss on short-term investments ................................................. (27)
Unrealized gain on foreign currency translation ........................................... 35
Shares issued to Nanogen pursuant to September 2002 settlement agreement (see Note 9) ...... 74
Stock issuance related to acquisition of minority interests in Advanced Material
Sciences and CombiMatrix K.K ............................................................ 1,219
-------------
Net assets attributed to the CombiMatrix group - 2003 ..................................... $ 9,389
=============
2004
Units issued in direct offering, net issuance costs ....................................... $ 13,715
Allocated corporate charges ............................................................... 396
Stock options and warrants exercised ...................................................... 5,117
Stock option cancellations ................................................................ (185)
Compensation expense relating to stock options and warrants ............................... 939
Unrealized loss on short-term investments ................................................. (59)
Unrealized loss on foreign currency translation ........................................... (20)
Shares issued to Nanogen pursuant to September 2002 settlement agreement (see Note 9) ...... 478
-------------
Net assets attributed to the CombiMatrix group - 2004 ..................................... $ 20,381
=============
EQUITY FINANCINGS
In April 2004, Acacia Research Corporation raised net proceeds of
approximately $13,715,000 through the sale of 3,000,000 shares of Acacia
Research - CombiMatrix common stock in a registered direct offering. The net
proceeds from this offering were attributed to the CombiMatrix group.
In May 2003, Acacia Research Corporation completed a private equity
financing, raising gross proceeds of $5,247,000 through the issuance of
2,385,000 units. Each unit consists of one share of AR-CombiMatrix common stock
and one-half five-year callable common stock purchase warrant. Each full common
stock purchase warrant entitles the holder to purchase a share of AR-CombiMatrix
stock at a price of $2.75 per share and is callable by Acacia Research
Corporation once the daily average of the high and low prices of Acacia Research
Corporation's AR-CombiMatrix stock on the Nasdaq SmallCap Market is equal to or
above $4.50 for 20 consecutive trading days. Acacia Research Corporation issued
an additional 31,502 shares of AR-CombiMatrix stock in lieu of cash payments in
conjunction with the private placement for finder's fees. Net proceeds raised
from the private equity financing of $4,862,000 have been attributed to the
CombiMatrix group.
WARRANTS
During 2004 and 2003, proceeds of $2,093,000 and $450,000 were received
from the issuance of 761,205 and 164,000 shares, respectively, of AR-CombiMatrix
stock related to the exercise of certain warrants issued in connection with the
May 2003 private equity financing described below. The proceeds from the
warrants exercised were attributed to the CombiMatrix group.
12. STEP ACQUISITIONS ALLOCATED TO THE COMBIMATRIX GROUP
On July 11, 2003, Acacia Research Corporation purchased the outstanding
minority interests in its consolidated subsidiary CombiMatrix K.K. from
Marubeni. Acacia Research Corporation issued 200,000 shares of its
AR-CombiMatrix stock to Marubeni in exchange for Marubeni's 10% minority
interests (120 shares) in CombiMatrix K.K. The transaction was accounted for as
a step acquisition using the purchase method of accounting. The fair value of
F-60
the AR-CombiMatrix stock issued in the transaction was based on the quoted
market price of AR-CombiMatrix stock on the exchange date. The total purchase
price of $450,000 was allocated to the fair value of assets acquired and
liabilities assumed. The amount attributable to goodwill was $393,000.
In April 2002, CombiMatrix Corporation purchased Acacia Research
Corporation's majority interest in Advanced Material Sciences. CombiMatrix
Corporation issued 180,982 shares of its common stock to Acacia Research
Corporation in exchange for Acacia Research Corporation's 58% interest in
Advanced Material Sciences. As a result of this transaction, CombiMatrix
Corporation owned 87% of Advanced Material Sciences as of December 31, 2002,
with the remaining interests owned by unaffiliated parties. The April 2002
transaction was accounted for using Acacia Research Corporation's basis in the
net assets of Advanced Material Sciences and as a result, the CombiMatrix
group's 2002 financial statements reflected the assets and liabilities of
Advanced Material Sciences at historical cost.
On July 2, 2003, Acacia Research Corporation increased its consolidated
ownership interest in Advanced Material Sciences to 99% by acquiring 1,774,750
shares of Advanced Material Sciences common stock in exchange for 295,790 shares
of AR-CombiMatrix stock. The transaction was accounted for as a step acquisition
using the purchase method of accounting. The fair value of the Acacia Research
shares issued in the transaction was based on the quoted market price of
AR-CombiMatrix stock on the exchange date. The total purchase price of $769,000
was allocated to the fair value of assets acquired and liabilities assumed. The
amount attributable to goodwill was $172,000.
Acacia Research Corporation's interests in Advanced Material Sciences and
CombiMatrix K.K. have been attributed to the CombiMatrix group.
On December 13, 2002, Acacia Research Corporation increased its
consolidated ownership interest in CombiMatrix Corporation from 48% to 100% by
acquiring from existing stockholders of CombiMatrix Corporation 11,987,052
shares of CombiMatrix Corporation common stock in exchange for 11,987,052 shares
of AR-CombiMatrix stock with a fair value of $46,007,000. The merger was
designed to consolidate Acacia Research Corporation's ownership of CombiMatrix
Corporation and permit Acacia Research Corporation to effectuate the
recapitalization transaction described elsewhere herein, by creating the
CombiMatrix group.
The transaction was accounted for as a step acquisition using the purchase
method of accounting. The fair value of the AR-CombiMatrix stock issued in the
transaction was based on the quoted market price of AR-CombiMatrix stock
averaged over a five-day period (from December 16, 2002, the first day of
trading for the AR-CombiMatrix stock, through December 20, 2002).
The following table summarizes the estimated fair values of the assets
acquired and liabilities assumed and the allocation of the purchase price at the
date of acquisition (in thousands):
Acquisition costs:
Exchange of AR-CombiMatrix stock for CombiMatrix Corporation
common stock .................................................. $ 46,007
Acquisition expenses ............................................. 834
-----------
Total acquisition cost ........................................... $ 46,841
===========
Purchase price allocation:
Fair value of 52% of CombiMatrix
Corporation net tangible assets at December 13, 2002 ......... 8,313
Intangible assets acquired:
Core technology/patent ....................................... 5,283
Acquired in-process research and development ................. 17,237
Goodwill (non-deductible for tax purposes) ................... 16,008
-----------
Total ............................................................ $ 46,841
===========
F-61
The total purchase price of $46,841,000 was allocated to the fair value of
assets acquired and liabilities assumed, including acquired IPR&D, as shown
above. The amount attributable to CombiMatrix Corporation's core technology and
related patents is being amortized using the straight-line method over the
estimated economic useful life of 7 years. Amounts allocated to patents, IPR&D
and goodwill have been attributed to the CombiMatrix group.
In conjunction with the allocation of the purchase price, Acacia Research
Corporation was required to adjust CombiMatrix Corporation's assets and
liabilities to fair value. Deferred revenue, primarily consisting of milestone
payments and other cash receipts from Roche and NASA, was reduced by $8,425,000
to reflect the fair value of the continuing obligation related to the 52%
interest in CombiMatrix Corporation acquired by Acacia Research Corporation.
The amount attributable to IPR&D projects (comprised of two projects:
Genomics and Proteomics biological array systems) that had not yet reached
technological feasibility and had no alternative future use of $17,237,000 was
charged to expense on the acquisition date and is included in the accompanying
statement of operations for the year ended December 31, 2002.
Management was responsible for determining the fair value of the tangible
and identifiable intangible assets acquired and liabilities assumed, including
IPR&D, at the date of acquisition. Management considered a number of factors,
including reference to independent valuations. The in-process technologies were
valued using a discounted cash flow model on a project-by-project basis, which
estimated the cash flows expected to result from each project once it has
reached technological feasibility. A discount rate consistent with the risks of
each project was used to estimate the present value of future cash flows. In
estimating future cash flows, management considered the contribution of its core
technology (for which a United States patent was obtained in July 2000) that
would be required for successful exploitation of purchased in-process
technology, in order to value the core and in-process technologies discretely.
As a result, future cash flows relating to each purchased IPR&D project were
reduced in order to reflect the contribution of core technology to each IPR&D
project. The cash flows from these projects attributable to core technology were
then separately valued to determine the intangible asset value of purchased core
technology. In determining the contribution of core technology to in-process
projects, management used a profit split approach which considered the estimated
profit split between a licensor and licensee of the core technology and
management's assessment of how critical the core technology was to the IPR&D
projects.
The nature of the efforts to develop the purchased IPR&D into commercially
viable products principally relates to the completion and/or acceleration of
existing development programs. These efforts include testing current and
alternative materials used in array design, testing of existing and alternative
methods for array synthesis, developing prototype machinery (including operating
software) to synthesize, hybridize and read individual arrays, and to perform
numerous experiments, or assays, with actual target samples in order to
determine customer protocols and procedures for using the CombiMatrix group's
array system. Following is a brief description of the two IPR&D projects
identified.
Genomics Biological Array System: CombiMatrix Corporation's genomics
biological array processor system is being developed to discretely immobilize
sequences of DNA or RNA within individual test sites on a modified semiconductor
chip coated with a three-dimensional layer of porous material. The system also
includes proprietary hardware units and related software applications to be able
to synthesize materials onto the chips, apply target samples of genetic
materials and interpret the results. The value assigned to the genomics
biological array system IPR&D project was $13,978,000. A risk-adjusted discount
rate of 32% was applied to the project's estimated cash flows.
Proteomics Biological Array System: CombiMatrix Corporation's proteomics
biological array processor system is being developed to discretely immobilize
proteins and other small molecules within individual test sites on a modified
semiconductor chip in a similar fashion as described above for the genomics
biological array system. The proteomics biological array system is used for
detection and identification of bio-threat agents in CombiMatrix Corporation's
biological and chemical threat agent detector development programs that are
currently in process. The value assigned to the proteomics biological array
system IPR&D project was $3,259,000. A risk-adjusted discount rate of 60% was
applied to the project's estimated cash flows.
F-62
13. SUPPLEMENTAL CASH FLOW INFORMATION (IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
------------------------------------
2004 2003 2002
---------- ---------- ----------
Supplemental disclosures of cash flow information:
Cash paid for interest ....................................... $ - $ - $ 192
Supplemental schedule of non-cash operating, investing and
financing activities:
Intangibles attributed to the CombiMatrix group .............. - 1,219 (46,007)
Purchase price allocated to goodwill - step acquisitions ..... - 565 16,008
Purchase price allocated to patents - step acquisitions ...... - - 5,283
Fixed assets purchased with accounts payable ................. - - 70
Deferred revenue purchase accounting adjustment .............. - - 8,425
F-63
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of Acacia Research Corporation
In our opinion, the financial statements listed in the index appearing
under Item 15(a)(1) on page 56 present fairly, in all material respects, the
financial position of Acacia Technologies Group (a division of Acacia Research
Corporation as described in Note 1) at December 31, 2004 and December 31, 2003,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2004, in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of Acacia Research Corporation's management;
our responsibility is to express an opinion on these financial statements based
on our audits. We conducted our audits of these statements 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. An audit 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, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
As more fully described in Note 1 to the financial statements, Acacia
Technologies group is a division of Acacia Research Corporation; accordingly,
the financial statements of Acacia Technologies group should be read in
conjunction with the consolidated financial statements of Acacia Research
Corporation.
/s/ PricewaterhouseCoopers LLP
Los Angeles, California
March 14, 2005
F-64
ACACIA TECHNOLOGIES GROUP
(A Division of Acacia Research Corporation)
BALANCE SHEETS
(In thousands)
DECEMBER 31, DECEMBER 31,
2004 2003
------------- -------------
ASSETS
Current assets:
Cash and cash equivalents .................................................. $ 15,750 $ 20,392
Short-term investments ..................................................... 12,896 12,809
Accounts receivable ........................................................ 193 124
Prepaid expenses and other assets .......................................... 754 903
Receivable from CombiMatrix group .......................................... 119 99
------------- -------------
Total current assets ..................................................... 29,712 34,327
Property and equipment, net of accumulated depreciation ...................... 104 71
Patents, net of accumulated amortization of $1,684 (2004) and $1,187 (2003) ... 3,042 3,566
Goodwill ..................................................................... 121 1,776
Other assets ................................................................. 79 238
------------- -------------
$ 33,058 $ 39,978
============= =============
LIABILITIES AND ALLOCATED NET WORTH
Current liabilities:
Accounts payable and accrued expenses ...................................... $ 2,175 $ 1,572
Current portion of deferred revenues ....................................... 428 104
------------- -------------
Total current liabilities ................................................ 2,603 1,676
Deferred income taxes ........................................................ 869 1,012
Deferred revenues, net of current portion .................................... - 1,500
------------- -------------
Total liabilities ........................................................ 3,472 4,188
------------- -------------
Minority interests ........................................................... 778 1,127
------------- -------------
Commitments and contingencies (Note 10)
Allocated net worth:
Funds allocated by Acacia Research Corporation ............................. 104,817 105,129
Accumulated net losses ..................................................... (76,009) (70,466)
------------- -------------
Total allocated net worth ................................................ 28,808 34,663
------------- -------------
$ 33,058 $ 39,978
============= =============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-65
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
2004 2003 2002
----------- ----------- -----------
Revenues:
License fees ............................................ $ 4,284 $ 692 $ 43
----------- ----------- -----------
Total revenues ........................................ 4,284 692 43
----------- ----------- -----------
Operating expenses:
Marketing, general and administrative expenses .......... 5,049 4,317 6,883
Non-cash stock compensation amortization -
marketing, general and administrative ................. - - 19
Legal expenses - patents ................................ 3,133 1,886 1,415
Goodwill impairment charge .............................. 1,656 - -
Amortization of patents ................................. 501 502 1,591
----------- ----------- -----------
Total operating expenses .............................. 10,339 6,705 9,908
----------- ----------- -----------
Operating loss ........................................ (6,055) (6,013) (9,865)
----------- ----------- -----------
Other income (expense):
Impairment charge ....................................... - (207) (2,748)
Interest income ......................................... 471 521 620
Realized gains (losses) on short-term investments ....... - 94 (1,184)
Unrealized losses on short-term investments ............. - - (249)
Interest expense ........................................ - - (6)
Other income ............................................ - - 64
----------- ----------- -----------
Total other income (expense) .......................... 471 408 (3,503)
----------- ----------- -----------
Loss from continuing operations before
income taxes and minority interests ...... (14,657) (8,906) (6,900) (8,569) (3,134) (4,107) (11,406) (19,751)
(Provision) benefit..................... (5,584) (5,605) (13,368)
Benefit for income taxes ............ (13) (228) (778) 239 (5) (2) 38 42
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------.................................. 139 137 710
----------- ----------- -----------
Loss from continuing operations before
minority interests ...... (14,670) (9,134) (7,678) (8,330) (3,139) (4,109) (11,368) (19,709)...................................... (5,445) (5,468) (12,658)
Minority interests ........ 5,191 4,362 4,851 3,136 461 659 2,528 5,518
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------........................................ 6 17 104
----------- ----------- -----------
Loss from continuing operations ........................... (5,439) (5,451) (12,554)
Discontinued operations:
Estimated loss on disposal of discontinued operations ... (104) - (200)
----------- ----------- -----------
Division net loss ......................................... $ (5,543) $ (5,451) $ (12,754)
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-66
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF ALLOCATED NET WORTH
(IN THOUSANDS)
Balance at December 31, 2001......................................... $ 55,009
Net assets attributed to the Acacia Technologies group............... (1,713)
Division net loss.................................................... (12,754)
----------
Balance at December 31, 2002......................................... 40,542
Net assets attributed to the Acacia Technologies group............... (428)
Division net loss.................................................... (5,451)
----------
Balance at December 31, 2003......................................... 34,663
Net assets attributed to the Acacia Technologies group............... (312)
Division net loss.................................................... (5,543)
----------
Balance at December 31, 2004......................................... $ 28,808
==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-67
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------
2004 2003 2002
----------- ----------- -----------
Cash flows from operating activities:
Division net loss from continuing operations ....................................... $ (5,439) $ (5,451) $ (12,554)
Adjustments to reconcile division net loss from continuing operations
to net cash used in operating activities:
Depreciation and amortization .................................................... 551 616 1,797
Minority interests ............................................................... - (17) (104)
Non-cash stock compensation amortization ......................................... - - 19
Deferred tax benefit ............................................................. (143) (144) (142)
Net sales of trading securities .................................................. - - 4,124
Unrealized losses on short-term investments ...................................... - - 249
Non-cash impairment charges ...................................................... 1,656 207 2,748
Other ........................................................................... 22 4 (30)
Changes in assets and liabilities:
Accounts receivable .............................................................. (69) (124) -
Prepaid expenses, other receivables and other assets ............................. 654 (45) (1)
Accounts payable and accrued expenses ............................................ 712 (411) 372
Deferred revenues ................................................................ (1,176) 101 3
----------- ----------- -----------
Net cash used in operating activities from continuing operations ................. (3,232) (5,264) (3,519)
Net cash used in operating activities from discontinued operations ............... (727) (551) (905)
----------- ----------- -----------
Net cash used in operating activities ............................................ (3,959) (5,815) (4,424)
----------- ----------- -----------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries ....................... - - (200)
Purchase of property and equipment ............................................... (81) (3) (78)
Sale of property and equipment ................................................... - - 3
Purchase of available-for-sale investments ....................................... (9,098) (5,059) (7,750)
Sale of available-for-sale investments ........................................... 9,004 - -
Purchase of common stock from minority stockholders of subsidiaries .............. (9,479) (4,772) (2,827) (5,194) (2,678) (3,450) (8,840) (14,191)- - (217)
Other ........................................................................... (5) - (100)
----------- ----------- -----------
Net cash provided by (used in) investing activities from continuing operations .... (180) (5,062) (8,342)
Net cash used in investing activities from discontinued operations ............... (198) (356) (3)
----------- ----------- -----------
Net cash provided by (used in) investing activities .............................. (378) (5,418) (8,345)
----------- ----------- -----------
Cash flows from financing activities:
Net cash flows attributed to the Acacia Technologies group ....................... (305) (417) (2,048)
----------- ----------- -----------
Decrease in cash and cash equivalents ................................................ (4,642) (11,650) (14,817)
Cash and cash equivalents, beginning ................................................. 20,392 32,042 46,859
----------- ----------- -----------
Cash and cash equivalents, ending .................................................... $ 15,750 $ 20,392 $ 32,042
=========== =========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
F-68
ACACIA TECHNOLOGIES GROUP
(A DIVISION OF ACACIA RESEARCH CORPORATION)
NOTES TO FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Acacia Research Corporation's continuing operations are comprised of two
separate divisions: the Acacia Technologies group and the CombiMatrix group (the
"groups").
The Acacia Technologies group, a division of Acacia Research Corporation,
is primarily comprised of Acacia Research Corporation's interests in three
wholly owned subsidiaries: (1) Acacia Media Technologies Corporation, ("Acacia
Media Technologies") a Delaware corporation, (2) Soundview Technologies, Inc.,
("Soundview Technologies") a Delaware corporation, and (3) Acacia Internet
Access Corporation, a Delaware corporation, and also includes all corporate
assets, liabilities, and related transactions of Acacia Research Corporation
attributed to the Acacia Research Corporation's intellectual property licensing
business.
The Acacia Technologies group develops, acquires, and licenses patented
technologies. Including the impact of the January 28, 2005 acquisition of the
assets of Global Patent Holdings, LLC ("Global Patent Holdings") as discussed at
Note 13, the Acacia Technologies group controls 29 patent portfolios, which
include 126 U.S. patents, and certain foreign counterparts, covering
technologies used in a wide variety of industries including
audio/video-on-demand, digital ad insertion, interactive television, broadcast
equipment, data transmission, cache coherency, data file synchronization, data
matrix bar codes, dynamic manufacturing models, product activation, encryption,
image resolution and enhancement, scheduling software, interstitial Internet
advertising, interactive simulation systems, peer to peer network
communications, spreadsheet programs, endoscopic cameras, video noise reduction,
and audio/video synchronization.
LIQUIDITY AND RISKS
The Acacia Technologies group believes that its cash and cash equivalent
and short term investment balances, anticipated cash flow from operations and
other external sources of available credit will be sufficient to meet its cash
requirements through the next twelve months.
To date, the Acacia Technologies group has relied primarily upon selling of
Acacia Research Corporation equity securities and payments from V-chip licensees
(primarily in 2001) and DMT(R) licensees (2003 to current) to generate the funds
needed to finance the operations of the Acacia Technologies group. The V-chip
patent expired in July 2003. The V-chip licensing program was concluded in
August 2004 and the Acacia Technologies group does not expect to collect any
additional V-chip related license fee revenues in future periods. The Acacia
Technologies group began to commercially license its DMT technology in 2003,
recognizing approximately $3.5 million in DMT license fee revenues to date, and
intends to acquire and develop additional intellectual property. Acacia Global
Acquisition Corporation's acquisition of the assets of Global Patent Holdings,
LLC as discussed at Note 13, provides the Acacia Technologies group with
ownership of companies that control 27 patent portfolios, which include 120 U.S.
patents and certain foreign counterparts, and cover technologies used in a wide
variety of industries. The acquisition expands and diversifies the Acacia
Technologies group's revenue generating opportunities.
However, there can be no assurance that the Acacia Technologies group will
be able to implement its future plans. Failure by management to achieve its
plans would have a material adverse effect on the Acacia Technologies group and
on Acacia Research Corporation's ability to achieve its intended business
objectives. The Acacia Technologies group's success also depends on its ability
to protect its intellectual property.
The Acacia Technologies group's business operations are subject to certain
risks and uncertainties, including:
F-69
o market acceptance of products and services;
o technological advances that may make the Acacia Technologies group's
technologies obsolete or less competitive;
o increases in operating costs, including costs for supplies, personnel
and equipment;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that may restrict the Acacia Technologies
group's businesses.
The Acacia Technologies group relies on its proprietary rights and their
protection. Although reasonable efforts will be taken to protect the Acacia
Technologies group's proprietary rights, the complexity of international trade
secret, copyright, trademark and patent law, and common law, coupled with
limited resources and the demands of quick delivery of technologies to market,
create risk that these efforts will prove inadequate. Accordingly, if the Acacia
Technologies group is unsuccessful with litigation to protect its intellectual
property rights, the future revenues of the Acacia Technologies group could be
adversely affected. The Acacia Technologies group's U.S. DMT patents expire in
2011 and its foreign DMT patents expire in 2012.
RECAPITALIZATION TRANSACTION
On December 11, 2002, Acacia Research Corporation's stockholders voted in
favor of a recapitalization transaction, which became effective on December 13,
2002, whereby Acacia Research Corporation created two new classes of common
stock called Acacia Research-CombiMatrix stock ("AR-CombiMatrix stock") and
Acacia Research-Acacia Technologies stock ("AR-Acacia Technologies stock"), and
divided the existing Acacia Research Corporation common stock into shares of the
two new classes of common stock. AR-CombiMatrix stock is intended to reflect
separately the performance of Acacia Research Corporation's CombiMatrix group.
AR-Acacia Technologies stock is intended to reflect separately the performance
of Acacia Research Corporation's Acacia Technologies group. Although the
AR-CombiMatrix stock and the AR-Acacia Technologies stock are intended to
reflect the performance of the different business groups, they are both classes
of common stock of Acacia Research Corporation and are not stock issued by the
respective groups.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. AR-Acacia Technologies stock is intended to reflect
the separate performance of the respective division of Acacia Research
Corporation. The Acacia Technologies group is not a separate legal entity.
Holders of AR-Acacia Technologies stock are stockholders of Acacia Research
Corporation. As a result, holders of AR-Acacia Technologies stock are subject to
all of the risks of an investment in Acacia Research Corporation and all of its
businesses, assets and liabilities. The assets Acacia Research Corporation
attributes to Acacia Technologies could be subject to the liabilities of the
CombiMatrix group.
The Acacia Technologies group financial statements have been prepared in
accordance with generally accepted accounting principles in the United States of
America, and taken together with the CombiMatrix group financial statements,
comprise all the accounts included in the corresponding consolidated financial
statements of Acacia Research Corporation. The financial statements of Acacia
Technologies group reflect the financial condition, results of operations, and
cash flows of the businesses included therein. The financial statements of the
Acacia Technologies group include the accounts or assets of Acacia Research
Corporation specifically attributed to the Acacia Technologies group and were
prepared using amounts included in Acacia Research Corporation's consolidated
financial statements.
Minority interests represents participation of other stockholders in the
allocated net assets and in the division earnings and losses of the Acacia
Technologies group and is reflected in the caption minority interests in the
Acacia Technologies group financial statements. Minority interests adjust the
Acacia Technologies group's share of the division's earnings or loss of
non-wholly owned subsidiaries of Acacia Research Corporation that have been
attributed to the Acacia Technologies group.
F-70
Financial effects arising from one group that affect Acacia Research
Corporation's results of operations or financial condition could, if
significant, affect the results of operations or financial condition of the
other group and the market price of the class of common stock relating to the
other group. Any division net losses of the CombiMatrix group or the Acacia
Technologies group and dividends or distributions on, or repurchases of,
AR-CombiMatrix stock or AR-Acacia Technologies stock or repurchases of preferred
stock of Acacia Research Corporation will reduce the assets of Acacia Research
Corporation legally available for payment of dividends on AR-CombiMatrix stock
or AR-Acacia Technologies stock.
Refer to Note 2 to the Acacia Research Corporation consolidated financial
statements included elsewhere herein for the Acacia Research Corporation
principles of consolidation, management allocation policies, treasury and cash
management policies, asset and liability attribution policies, corporate,
general and administrative services and facilities allocation policies and
federal and state income tax allocation policies, utilized in the preparation of
the separate Acacia Technologies group financial statements.
REVISION IN THE CLASSIFICATION OF CERTAIN SECURITIES. In connection with
the preparation of this report, the Acacia Technologies group concluded that it
was appropriate to classify its auction rate municipal bonds and variable rate
municipal demand notes as current investments. Previously, such investments had
been classified as cash and cash equivalents. Accordingly, the Acacia
Technologies group has revised its prior classification to report these
securities as current investments in its Balance Sheet as of December 31, 2003.
The Acacia Technologies group has also made corresponding adjustments to its
Statement of Cash Flows for the year ended December 31, 2002, to reflect the
gross purchases and sales of these securities as investing activities rather
than as a component of cash and cash equivalents. This change in classification
does not affect previously reported cash flows from operations or from financing
activities in the Acacia Technologies group's previously reported Statements of
Cash Flows, or its previously reported Statements of Income for any period.
As of December 31, 2003, before this revision in classification,
$7,750,000 of these current investments were classified as cash and cash
equivalents on the Acacia Technologies group's Balance Sheet. For the fiscal
year ended December 31, 2002, before this revision in classification, net cash
used in investing activities related to these current investments of $7,750,000
were included in cash and cash equivalents in the Acacia Technologies group's
Statement of Cash Flows.
REVENUE RECOGNITION. Under the terms of the Acacia Technologies group's DMT
license agreements, the Acacia Technologies group grants non-exclusive licenses
for the use of its patented DMT technology. Pursuant to the terms of the DMT
license agreements, once executed, the Acacia Technologies group has no further
obligations with respect to the grant of the licenses. License fees paid to and
recognized as revenue by the Acacia Technologies group are non-refundable.
Revenue generated from license agreements are generally accrued and
recognized as revenue in the period earned, provided that amounts are fixed or
determinable and collectibility is reasonably assured.
Certain license agreements provide for the calculation of license fees
based on a licensee's actual quarterly sales or actual per unit activity,
applied to a contractual royalty rate. Licensees that pay license fees on a
quarterly basis generally report actual quarterly sales or actual per unit
activity information and related quarterly license fees due to the Acacia
Technologies group within 30 to 45 days after the end of the quarter in which
such sales or activity takes place. Consequently, the Acacia Technologies group
recognizes revenue from these licensing agreements on a three-month lag basis,
in the quarter following the quarter of sales or per unit activity, provided
amounts are fixed or determinable and collectibility is reasonably assured. The
lag method described above allows for the receipt of licensee royalty reports
prior to the recognition of revenue.
Certain license agreements provide for the payment of a minimum upfront
annual license fee at the inception of each annual license term. Minimum upfront
annual license fees are generally determined based on a licensee's estimated
annual sales or a licensee's base level of per unit activity. These minimum
upfront annual license fee payments are deferred and amortized to revenue on a
straight-line basis over the annual license term. To the extent actual annual
royalties, determined and reported in accordance with the terms of the
respective agreements, exceed the minimum upfront annual license fees paid, the
additional royalties are recognized in revenue in the quarter following the
quarter in which the base per unit activity was exceeded or the quarter
following the annual license term, depending on the terms of the respective
agreement, provided that amounts are fixed or determinable and collectibility is
reasonably assured.
F-71
License fee payments received by the Acacia Technologies group that do not
meet the revenue recognition criteria described above are deferred until the
revenue recognition criteria are met. The Acacia Technologies group assesses
collection of accrued license fees based on a number of factors, including past
transaction history and credit-worthiness. If it is determined that collection
is not reasonably assured, the fee is recognized when collectibility becomes
reasonably assured, assuming all other revenue recognition criteria have been
met, which is generally upon receipt of cash.
As a result of the Acacia Technologies group's licensing and any related
intellectual property enforcement activities that the Acacia Technologies group
chooses to conduct, The Acacia Technologies group may recognize royalty revenues
that relate to prior period infringements by licensees. Differences between
amounts initially recognized and amounts subsequently audited or reported as an
adjustment to those amounts will be recognized in the period the adjustment is
determined as a change in accounting estimate.
CASH AND CASH EQUIVALENTS. The Acacia Technologies group considers all
highly liquid, short-term investments with original maturities of three months
or less when purchased to be cash equivalents.
SHORT-TERM INVESTMENTS. The Acacia Technologies group's short-term
investments are held in a variety of interest bearing instruments including
high-grade corporate bonds, commercial paper, money market accounts,
certificates of deposit and other high-credit quality marketable securities.
Investments in securities with original maturities of greater than three months
and less than one year are classified as short-term investments. Investments are
classified into categories in accordance with the provisions of Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS No. 115"). At December 31, 2004 and 2003, all
of the Acacia Technologies group's investments are classified as
available-for-sale, which are reported at fair value with related unrealized
gains and losses in the value of such securities recorded as a component of
allocated net worth until realized. During 2002, certain of the Acacia
Technologies group's investments were classified as trading securities. Realized
and unrealized gains and losses in the value of trading securities are included
in net income (loss) in the consolidated statements of operations and
comprehensive loss.
The fair value of the Acacia Technologies group's investments is primarily
determined by quoted market prices. Realized and unrealized gains and losses are
recorded based on the specific identification method. For investments classified
as available-for-sale, unrealized losses that are other than temporary are
recognized in division net income (loss).
The cost of debt securities is adjusted for amortization of premiums and
accretion of discounts to maturity. Such amortization is included in interest
income (expense). Interest and dividends on all securities are included in
interest income.
At December 31, 2004 and 2003, the Acacia Technologies group held
$11,900,000 and $7,750,000, respectively, of short-term investments, which
consist of auction rate municipal bonds and variable rate municipal demand notes
classified as available-for-sale securities. The Acacia Technologies group's
investments in these securities are recorded at cost, which approximates fair
market value due to their variable interest rates, which typically reset every 7
to 35 days, and, despite the long-term nature of their stated contractual
maturities, the Acacia Technologies group has the ability to quickly liquidate
these securities. As a result, there were no cumulative gross unrealized holding
gains (losses) or gross realized gains (losses) from current investments. All
income generated from these current investments was recorded as interest income.
CONCENTRATION OF CREDIT RISKS. Financial instruments that potentially
subject the Acacia Technologies group to concentrations of credit risk are cash
equivalents and short-term investments. The Acacia Technologies group places its
cash equivalents and short-term investments primarily in investment grade,
short-term debt instruments. Cash equivalents are invested in deposits with
certain financial institutions and may, at times, exceed federally insured
limits. The Acacia Technologies group has not experienced any losses on its
deposits of cash and cash equivalents.
Two of the Acacia Technologies group's licensees accounted for
approximately 27% of the Acacia Technologies group's DMT license fee revenues
recognized during the year ended December 31, 2004, and one licensee represents
approximately 69% of accounts receivable at December 31, 2004. One licensee
accounted for approximately 28% of the Acacia Technologies group's license fee
revenues recognized during the year ended December 31, 2003, and also
represented approximately 82% of accounts receivable at December 31, 2003. The
Acacia Technologies group performs regular credit evaluations of its significant
licensees and has not experienced any significant credit losses.
F-72
PROPERTY AND EQUIPMENT. Property and equipment are recorded at cost. Major
additions and improvements that materially extend useful lives of property and
equipment are capitalized. Maintenance and repairs are charged against the
results of operations as incurred. When these assets are sold or otherwise
disposed of, the asset and related depreciation are relieved, and any gain or
loss is included in the statement of operations for the period of sale or
disposal. Depreciation is computed on a straight-line basis over the following
estimated useful lives of the assets:
Furniture and fixtures...................... 3 to 5 years
Computer hardware and software.............. 3 to 5 years
Leasehold improvements...................... Lesser of lease term or useful
life of improvement
ORGANIZATION COSTS. Costs of start-up activities, including organization
costs, are expensed as incurred.
PATENTS AND GOODWILL. Goodwill and identifiable intangibles, including
patents, are recorded when the consideration paid for acquisitions exceeds the
fair value of the net tangible assets acquired. Patents, once issued or
purchased, are amortized on the straight-line method over their economic
remaining useful lives, ranging from three to twenty years. Goodwill is not
amortized.
IMPAIRMENT OF LONG-LIVED ASSETS GOODWILL. Long-lived assets and intangible
assets are reviewed for potential impairment when events or changes in
circumstances indicate the carrying amount of an asset may not be recoverable.
In the event the sum of the expected undiscounted future cash flows resulting
from the use of the asset is less than the carrying amount of the asset, an
impairment loss equal to the excess of the asset's carrying value over its fair
value is recorded. If an asset is determined to be impaired, the loss is
measured based on quoted market prices in active markets, if available. If
quoted market prices are not available, the estimate of fair value is based on
various valuation techniques, including a discounted value of estimated future
cash flows.
Goodwill is evaluated for impairment in accordance with SFAS No. 142,
"Goodwill and Other Intangible Assets" ("SFAS No. 142") and is subject to a
periodic review for potential impairment at a reporting unit level. Reviews for
potential impairment must occur at least annually and may be performed earlier,
if circumstances indicate that an impairment may have occurred. The Acacia
Technologies group has elected to perform its annual tests for indications of
goodwill impairment as of December 31 of each year. As of December 31, 2004, the
Acacia Technologies group has one reporting unit. The fair value of the Acacia
Technologies group reporting unit is estimated using a discounted cash flow
analysis.
SFAS No. 142 requires the Acacia Technologies group to compare the fair
value of its reporting unit to its carrying amount on an annual basis to
determine if there is potential goodwill impairment. If the fair value of the
reporting unit is less than its carrying value, an impairment loss is recorded
to the extent that the fair value of the goodwill within the reporting unit is
less than its carrying value. There can be no assurance that future goodwill
impairment tests will not result in a charge to earnings.
As a result of the August 2004 adverse ruling in Soundview Technologies'
V-chip related litigation described at Note 10, as of September 30, 2004,
Soundview Technologies was no longer considered a reporting unit of the Acacia
Technologies group.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The carrying value of cash and cash
equivalents, other receivables, accounts payable and accrued expenses
approximate fair value due to their short-term maturity.
STOCK-BASED COMPENSATION. Refer to Note 2 to the Acacia Research
Corporation consolidated financial statements included elsewhere herein.
Stock option and related option plan information is omitted from the Acacia
Technologies group footnotes because AR-Acacia Technologies stock is part of the
capital structure of Acacia Research Corporation. The Acacia Technologies group
is not a separate legal entity. Holders of AR-Acacia Technologies stock continue
to be stockholders of Acacia Research Corporation. This presentation reflects
the fact that the Acacia Technologies group does not have legally issued common
or preferred stock, nor are warrant issuances or employee stock transactions
legal transactions of the Acacia Technologies group. Refer to the Acacia
Research Corporation consolidated financial statements for disclosures regarding
Acacia Research Corporation's stock option plans.
F-73
INCOME TAXES. Income taxes are accounted for using an asset and liability
approach that requires the recognition of deferred tax assets and liabilities
for the expected future tax consequences of events that have been recognized in
the Acacia Technologies group's financial statements or tax returns. A valuation
allowance is established to reduce deferred tax assets if all, or some portion,
of such assets will more than likely not be realized.
SEGMENTS. The Acacia Technologies group follows SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related Information," which establishes
annual and interim reporting standards for an enterprise's operating segments
and related disclosures about its products, services, geographic areas and major
customers. Management has determined that the Acacia Technologies group operates
in one segment.
USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of America
requires management to make estimates and assumptions that affect the reported
amount of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
EARNINGS (LOSS) PER SHARE. Earnings (loss) per share information is omitted
from the Acacia Technologies group statements of operations because AR-Acacia
Technologies stock is part of the capital structure of Acacia Research
Corporation. The Acacia Technologies group is not a separate legal entity.
Holders of AR-Acacia Technologies stock continue to be stockholders of Acacia
Research Corporation. This presentation reflects the fact that the Acacia
Technologies group does not have legally issued common or preferred stock, nor
are warrant issuances or employee stock transactions legal transactions of the
Acacia Technologies group. Refer to the Acacia Research Corporation consolidated
financial statements for earnings (loss) per share information for Acacia
Research Corporation's classes of stock.
RECENT ACCOUNTING PRONOUNCEMENTS. Refer to Note 2 to the Acacia Research
Corporation consolidated financial statements included elsewhere herein.
3. SHORT-TERM INVESTMENTS
Short-term investments consist of the following at December 31, 2004 and
2003 (in thousands):
2004 2003
--------------------- ---------------------
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
--------- --------- --------- ---------
Available-for-sale securities:
Corporate and municipal bonds and notes .... $ 11,900 $ 11,900 $ 11,806 $ 11,809
Certificates of deposit .................... 1,000 996 1,000 1,000
--------- --------- --------- ---------
$ 12,900 $ 12,896 $ 12,806 $ 12,809
========= ========= ========= =========
Gross unrealized gains and losses related to available-for-sale securities
were not material for the periods presented. All investments in debt securities
classified as available-for-sale at December 31, 2004 have contractual
maturities of one year or less.
F-74
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31, 2004 and
2003 (in thousands):
2004 2003
---------- ----------
Furniture and fixtures.................................. $ 207 $ 192
Computer hardware and software.......................... 216 243
Leasehold improvements.................................. 29 209
---------- ----------
452 644
Less: accumulated depreciation......................... (348) (573)
---------- ----------
$ 104 $ 71
========== ==========
Depreciation expense was $49,000, $114,000 and $209,000 for the years ended
December 31, 2004, 2003 and 2002, respectively. Fully depreciated assets of
$274,000 were written off in 2004.
5. BALANCE SHEET COMPONENTS
Accounts payable, accrued expenses and other consists of the following at
December 31, 2004 and 2003 (in thousands):
2004 2003
---------- ----------
Accounts payable........................................ $ 88 $ 104
Payroll and other employee benefits..................... 119 197
Accrued vacation........................................ 183 150
Accrued liabilities of discontinued operations.......... 272 388
Accrued legal expenses.................................. 1,195 495
Accrued consulting and other professional fees.......... 297 236
Other accrued liabilities............................... 21 2
---------- ----------
$ 2,175 $ 1,572
========== ==========
Deferred revenues consist of the following at December 31, 2004 and 2003
(in thousands):
2004 2003
---------- ----------
DMT License fee payments................................ $ 428 $ 104
V-chip License fee payments............................. - 1,500
---------- ----------
428 1,604
Less: current portion.................................. (428) (104)
---------- ----------
$ - $ 1,500
========== ==========
As a result of the final ruling in the Acacia Technologies group's V-chip
litigation described at Note 10, the Acacia Technologies group recognized
$1,500,000 of previously deferred V-chip license fee revenues and $668,000 of
previously deferred V-chip related legal costs in the third quarter of 2004.
6. INVESTMENTS
In the second quarter of 2003, the Acacia Technologies group recorded an
impairment charge of $207,000 for an other-than-temporary decline in the fair
value of Acacia Research Corporation's investment in Advanced Data Exchange
("ADX"). Impairment indicators included a continued decline in the working
capital of the entity and reference to a recent equity transaction and related
valuation indicating an other-than-temporary decline in fair value of the
investment. In September 2002, the Acacia Technologies group recorded an
impairment charge of $2,748,000 for an other-than-temporary decline in the fair
value of ADX. Impairment indicators included recurring losses, a decline in
working capital and the completion of a recent equity transaction with a
shareholder at an amount below Acacia Research Corporation's carrying value. The
fair value of the investment in ADX was determined by reference to available
financial and market information. The investment in ADX is accounted for under
the cost method.
F-75
In 2002, the Acacia Technologies group conducted a portion of its investing
activity through a limited partnership, of which a wholly owned subsidiary of
Acacia Research Corporation is the general partner. The limited partnership
ceased trading activity in May 2002. As a result of the significant control that
Acacia Research Corporation exercised over the limited partnership, the assets
and liabilities and results of operations have been consolidated by Acacia
Research Corporation during 2002. As of December 31, 2002, the limited
partnership had distributed all limited partner capital account balances and as
a result has no net assets as of December 31, 2002. Prior to cessation of
operations, the net assets, liabilities and results of operations of the limited
partnership, which included certain health sciences securities, were attributed
to the Acacia Technologies group.
7. INTANGIBLES
At December 31, 2004 and 2003, the Acacia Technologies group had $121,000
and $1,776,000 of goodwill. At December 31, 2003, goodwill primarily related to
the Soundview Technologies reporting unit. In August 2004, as a result of the
adverse ruling in Acacia Technologies group's V-chip patent infringement lawsuit
described at Note 10, the Acacia Technologies group recorded an impairment
charge totaling $1,616,000 in connection with the write-down of 100% of the
goodwill related to the V-chip.
The Acacia Technologies group's only identifiable intangible assets are
patents, which are being amortized over and economic useful life of
approximately 9 years. The gross carrying amounts and accumulated amortization
related to acquired intangible assets as of December 31, 2004 and 2003 are as
follows (in thousands):
2004 2003(1)
---------- ----------
Gross carrying amount - patents......................... $ 4,726 $ 4,753
Accumulated amortization................................ (1,684) (1,187)
---------- ----------
Patents, net............................................ $ 3,042 $ 3,566
========== ==========
__________
(1) Excludes gross cost and accumulated amortization as of December 31, 2003
totaling $6,045,000 related to the write off of V-chip related intangibles
in 2004, in connection with the conclusion of V-chip litigation as
discussed at Note 10.
Aggregate patent amortization expense was $501,000, $502,000 and $1,591,000
in 2004, 2003 and 2002, respectively. Annual aggregate amortization expense for
each of the next five years through December 31, 2009 is estimated to be
$500,000 per year.
At December 31, 2004 and 2003, all of the Acacia Technologies group's
acquired intangible assets other than goodwill were subject to amortization.
F-76
8. INCOME TAXES
Acacia Technologies group's allocated provision (benefit) for income taxes
consists of the following (in thousands):
2004 2003 2002
---------- ---------- ----------
Current:
U.S. Federal tax.................................... $ - $ (2) $ (572)
State taxes......................................... 4 9 4
---------- ---------- ----------
4 7 (568)
---------- ---------- ----------
Deferred:
U.S. Federal tax.................................... (143) (144) (142)
State taxes......................................... - - -
---------- ---------- ----------
(143) (144) (142)
---------- ---------- ----------
$ (139) $ (137) $ (710)
========== ========== ==========
The tax effects of temporary differences and carryforwards that give rise
to significant portions of deferred assets and liabilities consist of the
following at December 31, 2004 and 2003 (in thousands):
2004 2003
---------- ----------
Deferred tax assets:
Basis of investments in affiliates............................. $ 28,808 $ 26,159
Depreciation and amortization.................................. 6 62
Intangibles.................................................... (866) -
Deferred Revenue............................................... 171 -
Stock compensation............................................. 740 740
Accrued liabilities and other.................................. 804 1,809
Write-off of investments....................................... 1,842 1,282
Net operating loss and capital loss carryforwards and credits.. 21,819 20,071
---------- ----------
Total deferred tax assets...................................... 53,324 50,123
Less: valuation allowance..................................... (53,324) (50,123)
---------- ----------
Deferred tax assets, net of valuation allowance................ - -
---------- ----------
Deferred tax liabilities:
Intangibles................................................... (869) (1,012)
---------- ----------
Net deferred tax liability.................................... $ (869) $ (1,012)
========== ==========
A reconciliation of the federal statutory income tax rate and the
effective income tax rate is as follows:
2004 2003 2002
---------- ---------- ----------
Statutory federal tax rate................... (34%) (34%) (34%)
Amortization of intangible assets............ - 1% 5%
Non deductible permanent items............... - - (4%)
Valuation allowance.......................... 32% 32% 28%
---------- ---------- ----------
(2%) (1%) (5%)
========== ========== ==========
At December 31, 2004, the Acacia Technologies group has deferred tax assets
totaling approximately $53,324,000, which are fully offset by a valuation
allowance due to management's determination that the criteria for recognition
have not been met.
F-77
At December 31, 2004, the Acacia Technologies group had U.S. federal and
state income tax net operating loss carry forwards ("NOLs"), excluding NOLs
related to subsidiaries for which Acacia Research Corporation does not file a
consolidated return, were approximately $48,704,000 and $38,659,000, expiring
between 2005 and 2024. In addition, the Acacia Technologies group had tax credit
carryforwards of approximately $62,000.
As of December 31, 2004, the aggregate tax NOLs at subsidiaries not
consolidated for federal tax purposes are $20,252,000, expiring between 2018 and
2024. However, the use of these NOLs is limited to the separate earnings of the
respective subsidiaries. In addition, ownership changes may also restrict the
use of NOLs.
Had the Acacia Technologies group filed separate tax returns, the benefit
for income taxes and division net loss would not have differed from the amounts
reported in the Acacia Technologies group's statements of operations for the
years ended December 31, 2004, 2003, and 2002.
As of December 31, 2004, approximately $9,844,000 of the valuation
allowance related to the tax benefits of stock option deductions included in
Acacia Research Corporation's NOLs. At such time as the valuation allowance is
released, the benefit will be credited to additional paid-in capital.
9. DISCONTINUED OPERATIONS
The Acacia Technologies group includes the assets and liabilities of
Soundbreak.com, a subsidiary of Acacia Research Corporation, which ceased
operations as of February 15, 2001. In September 2004 and 2002, the Acacia
Technologies group accrued an additional $104,000 and $200,000 (net of minority
interests), respectively, in estimated costs to be incurred in connection with
the discontinued operations of Soundbreak.com. The additional accruals relates
primarily to certain noncancellable lease obligations and the inability to
sublease the related office space at rates commensurate with existing
obligations.
The assets and liabilities of the discontinued operations at December 31,
2004 and 2003 consist primarily of $889,000 and $1,953,000 of cash and cash
equivalents and $275,000 and $388,000 of accounts payable and accrued expenses,
respectively.
10. COMMITMENTS AND CONTINGENCIES
OPERATING LEASES
Acacia Technologies group leases certain office furniture and equipment and
office space under various operating lease agreements expiring over the next 3
years. Minimum annual rental commitments for Acacia Technologies group operating
leases of continuing operations having initial or remaining noncancellable lease
terms in excess of one year are as follows (in thousands):
YEAR
----
2005.................................................. $ 348
2006.................................................. 390
2007.................................................. 49
----------
Total minimum lease payments.......................... $ 787
==========
Rent expense of continuing operations for the years ended December 31,
2004, 2003 and 2002 approximated $308,000, $467,000 and $445,000, respectively.
Acacia Research Corporation is a guarantor under a lease agreement for
office space that expires in August 2005. The lease agreement was entered into
by Soundbreak.com, which ceased operations in February 2001. The leased premises
is subleased through the remaining term of the lease agreement. Refer to Note 9
for additional information regarding discontinued operations.
F-78
PATENT ENFORCEMENT AND OTHER LITIGATION
Acacia Technologies group is subject to claims, counterclaims and legal
actions that arise in the ordinary course of business. Management believes that
the ultimate liability with respect to these claims and legal actions, if any,
will not have a material effect on the Acacia Technologies group's financial
position, results of operations or cash flows. However, the Acacia Technologies
group could be subject to claims and legal actions relating to the CombiMatrix
group. From time to time, companies comprising the Acacia Technologies group
engage in litigation to enforce their patents.
Soundview Technologies
In September 2002, the United States District Court for the District of
Connecticut granted a motion for summary judgment filed by the defendants in
Soundview Technologies pending patent infringement and antitrust lawsuit against
Sony Corporation of America, the Consumer Electronics Manufacturers Association
and the Electronics Industries Alliance d/b/a Consumer Electronics Association
in the United States District Court for the Eastern District of Virginia (filed
on April 5, 2000), alleging that television sets utilizing certain content
blocking technology (commonly known as the "V-chip") and sold in the United
States infringe Soundview Technologies' U.S. Patent No. 4,554,584. In granting
the motion, the court ruled that the defendants have not infringed on Soundview
Technologies' patent.
In September 2003, a motion for summary judgment filed by the remaining
defendants was granted by the United States District Court for the District of
Connecticut on Soundview Technologies' anti-trust claims due to the Court's
previous ruling of non-infringement as described above.
In August 2004, the U.S. Court of Appeals for the Federal Circuit affirmed
the September 2002 U.S. District Court for the District of Connecticut ruling
that the remaining television manufacturers named in the Acacia Technologies
group's V-chip patent infringement lawsuit do not infringe the Acacia
Technologies group's V-chip patent. As a result of the ruling, the Acacia
Technologies group recorded an impairment charge of $1,616,000 in connection
with the write-off of goodwill related to the V-chip. In addition, as a result
of the conclusion of the V-chip patent litigation, the Acacia Technologies group
recognized $1,500,000 of V-chip related deferred license fee revenues and
$668,000 of V-chip related deferred legal costs in the third quarter of 2004.
The remaining Non-Soundview parties have a motion pending before the United
States District Court for the District of Connecticut seeking reimbursement of
certain attorney's fees. The Acacia Technologies group believes that the
ultimate liability with respect to these claims and legal actions, if any, will
not have a material effect on our financial position, results of operations or
cash flows.
The final ruling in the V-chip litigation has no impact on the revenues
that the Acacia Technologies group has recognized to date from licensees of the
Acacia Technologies group V-chip technology.
Acacia Media Technologies Corporation
CABLE AND SATELLITE TV
In 2004, Acacia Media Technologies filed a Complaint in the District Court
for the Northern District of California alleging infringement of Acacia Media
Technologies' DMT patents against Comcast Corporation, Charter Communications,
Inc., The DirectTV Group, Inc., Echostar Communications Corporation, Boulder
Ridge Cable TV, Central Valley Cable TV, LLC, Seren Innovations, Inc., Cox
Communications, Inc., Hospitality Network, Inc. (a wholly owned subsidiary of
Cox that supplies hotel on-demand TV services) and Mediacom, LLC. As of December
31, 2004, Acacia Media Technologies has executed license and settlement
agreements with Boulder Ridge Cable TV, Central Valley Cable TV, and Seren
Innovations.
In September 2004, Acacia Media Technologies filed complaints in the U.S.
District Court for the District of Arizona, U.S. District Court for the District
of Minnesota and the U.S. District Court for the Northern District of Ohio -
Eastern Division, alleging infringement of Acacia Media Technologies' DMT
patents against certain cable and satellite companies located in Arizona,
Minnesota, and Ohio. Companies named in the lawsuits include Armstrong Group,
Arvig Communication Systems, Block Communications, Inc., Cable America
Corporation, Cable One, Inc., Cable System Services, Inc., Cannon Valley
Communications, Inc., East Cleveland Cable TV and Communications, LLC, Loretel
Cablevision, Massillon Cable TV, Inc., Mid-Continent Media, Inc., Nelsonville TV
Cable, Inc., NPG Cable, Inc., Precis Communications, Inc. San Carlos
Cablevision, LLC, Savage Communications, Inc., Sjoberg's Cablevision, Inc., US
Cable, and Wide Open West, LLC. As of December 31, 2004, Acacia Media
Technologies has executed license agreements with Precis Communications and
Cable System Services and dismissed the action against San Carlos Cablevision
and Nelsonville TV Cable.
F-79
INTERNET WEBSITES
In 2003, Acacia Media Technologies initiated DMT patent infringement
litigation in the Federal District Court for the Central District of California
(the "Court") against defendants who provide adult oriented digital content over
the Internet. As of December 31, 2004, New Destiny Internet Group, Inc., Audio
Communications Inc., VS Media, Ademia Multimedia, LLC, International Web
Innovations, Inc., Offendale Commercial BV, Ltd., Adult Entertainment Broadcast
Network, Cybertrend, Inc., Lightspeed Media Corp., Adult Revenue Services,
Innovative Ideas International, AskCS.com, Game Link, Inc., Club Jenna, Inc.,
Cybernet Ventures, Inc., ACMP, LLC, Global AVS, Inc. d/b/a DrewNet, ICS, Inc. /
AP Net Marketing, Inc., and National A-1 Advertising, remained in the
litigation.
HOTEL ON-DEMAND TV INDUSTRY
In November 2003, Acacia Media Technologies initiated a patent infringement
lawsuit in the Federal District Court for the Central District of California
against On Command Corporation, provider of interactive in-room entertainment,
information and business services to the lodging industry, regarding Acacia
Media Technologies' DMT technology. In June 2004, Acacia Media Technologies
entered into a license agreement for its DMT technology with On Command
Corporation settling all outstanding litigation between the parties.
OTHER
In connection with the purchase of the outstanding ownership interests in
Acacia Media Technologies Corporation in November 2001, Acacia Media
Technologies Corporation also executed related assignment agreements which
granted to the former owners of Acacia Media Technologies Corporation's current
patent portfolio the right to receive a royalty of 15% of future net revenues,
as defined in the agreements, generated by Acacia Media Technologies
Corporation's current patent portfolio, which includes its DMT patents. No
royalty obligation has been incurred as of December 31, 2004. Any royalties paid
pursuant to the agreements will be expensed in the statement of operations.
11. ALLOCATED NET WORTH
The Acacia Technologies group's statements of allocated net worth present
the equity transactions of Acacia Research Corporation, which are attributed to
the Acacia Technologies group as "Net assets attributed to the Acacia
Technologies group." This presentation reflects the fact that the Acacia
Technologies group does not have legally issued common or preferred stock, nor
are warrant issuances or employee stock transactions legal transactions of the
Acacia Technologies group. Presented below is a detail of the equity
transactions of Acacia Research Corporation which relate to the businesses of
the Acacia Technologies group and which therefore comprise the balances
reflected in the group's net assets attributed to Acacia Technologies group (in
thousands):
F-80
ACACIA
TECHNOLOGIES
GROUP
------------
2002
Allocated corporate charges ..................................... $ (1,032)
Stock options exercised ......................................... 136
Compensation expense relating to stock options and warrants ..... 19
Acquisition costs allocated to the CombiMatrix group ............ (834)
Other ........................................................... (2)
-----------
Net assets attributed to the Acacia Technologies group - 2002 ... $ (1,713)
===========
2003
Allocated corporate charges ..................................... $ (620)
Stock options exercised ......................................... 190
Unrealized gain on short-term investments 2
-----------
Net assets attributed to the Acacia Technologies group - 2003 ... $ (428)
===========
2004
Allocated corporate charges ..................................... $ (396)
Stock options exercised ......................................... 90
Unrealized loss on short-term investments ....................... (6)
-----------
Net assets attributed to the Acacia Technologies group - 2004 ... $ (312)
===========
12. RETIREMENT SAVINGS PLANS
The Acacia Technologies group has an employee savings and retirement plan
under section 401(k) of the Internal Revenue Code (the "Plan"). The Plan is a
defined contribution plan in which eligible employees may elect to have a
percentage of their compensation contributed to the Plan, subject to certain
guidelines issued by the Internal Revenue Service. The Acacia Technologies group
may contribute to the Plan at the discretion of Acacia Research Corporation's
board of directors. There were no contributions made by the Acacia Technologies
group during the years ended December 31, 2004, 2003 and 2002.
13. SUBSEQUENT EVENTS
EQUITY FINANCING
In February 2005, Acacia Research Corporation raised gross proceeds of
$19,600,000 through the sale of 3,500,000 shares of Acacia Research - Acacia
Technologies common stock at a price of $5.60 per share in a registered direct
offering. Net proceeds raised of approximately $19,575,000, which are net of
related issuance costs, were attributed to the Acacia Technologies group. All of
the shares of Acacia Research-Acacia Technologies common stock were offered
pursuant to an effective registration statement previously filed with the
Securities and Exchange Commission.
ACQUISITION
On January 28, 2005, Acacia Global Acquisition Corporation, a newly formed
corporation, acquired the assets of Global Patent Holdings, LLC, a privately
held patent holding company based in Northbrook, Illinois, which owned 11 patent
licensing companies. The acquisition gives the Acacia Technologies group 100%
ownership of companies that control 27 patent portfolios, which include 120 U.S.
patents and certain foreign counterparts, and cover technologies used in a wide
variety of industries, as set forth below. The acquisition expands and
diversifies the Acacia Technologies group's revenue generating opportunities and
accelerates the execution of the Acacia Technologies group's business strategy
of acquiring, developing and licensing patented technologies.
F-81
The acquisition is being accounted for by the purchase method of accounting
and, accordingly, the consolidated statement of operations will include the
results of the acquired companies beginning on January 28, 2005, the date of
acquisition. The aggregate purchase consideration was approximately $24,605,000,
including $5.0 million of cash, the issuance of 3,938,832 shares of Acacia
Research--Acacia Technologies common stock valued at $19,505,000 and estimated
acquisition costs of $100,000. The value of the common shares issued was
determined based on the average market price of AR-Acacia Technologies stock, as
reported on NASDAQ, over the 5-day period (December 13 - December 17, 2004)
before and after the terms of the acquisition were agreed to and announced.
The following table summarizes the estimated preliminary total purchase
consideration (in thousands):
Estimated Purchase Consideration:
Cash paid............................................... $ 5,000
Fair value of AR-Acacia Technologies stock issued....... 19,505
Estimated Acquisition costs............................ 100
---------
$ 24,605
=========
Other:
Consulting Contract..................................... $ 2,000
=========
Management's determination of the fair value of net assets acquired from
Global Patent Holdings and the related purchase price allocation is ongoing and
is anticipated to be completed by the end of the first quarter of 2005. The
purchase price will be allocated to the assets acquired and liabilities assumed
based on their estimated fair market values at the date of acquisition,
including, net tangible assets, patents and other identifiable intangibles. Any
additional excess purchase price after the initial allocation to identifiable
net tangible and identifiable intangible assets will be assigned to goodwill.
Amounts attributable to patents will be amortized using the straight-line method
over the estimated economic useful life of the underlying patents.
The Acacia Technologies group executed a consulting agreement in connection
with the acquisition described above, which requires the payment of $2.0 million
in consulting fees over a two-year period, and certain reimbursable consulting
related expenses, commencing on the date of acquisition.
14. SUPPLEMENTAL CASH FLOW INFORMATION (IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------
2004 2003 2002
--------- --------- ---------
Supplemental disclosures of cash flow information:
Cash paid for income taxes ............................... $ 4 $ 9 $ -
Supplemental schedule of non-cash operating, investing and
financing activities:
Accrued payments for purchase of common stock from
former minority stockholders of subsidiary ............. - - 58
Loss from discontinued operations .............. -- -- -- -- (884) (2,787) (2,057) (3,826)
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------
Loss before cumulative
effect of change in
accounting principle .... (9,479) (4,772) (2,827) (5,194) (3,562) (6,237) (10,897) (18,017)
Cumulative effect of
change in accounting
principle due to
beneficial conversion
feature ................. -- -- -- -- (246) -- -- --
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------
Net loss .................. $ (9,479) $ (4,772) $ (2,827) $ (5,194) $ (3,808) $ (6,237) $ (10,897) $ (18,017)
============ ============ ============ ============= ============ ============ ============ ============
Loss per common share:
Basic
Loss from continuing
operations ............ $ (0.50) $ (0.25) $ (0.15) $ (0.27) $ (0.17) $ (0.21) $ (0.51) $ (0.80)
Loss from discontinued
operations ............ $ -- $ -- $ -- $ -- $ (0.06) $ (0.17) $ (0.12) $ (0.21)
Cumulative effect of
change in accounting
principle ............. $ -- $ -- $ -- $ -- $ (0.02) $ -- $ -- $ --
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------
Net loss .................. $ (0.50) $ (0.25) $ (0.15) $ (0.27) $ (0.25) $ (0.38) $ (0.63) $ (1.01)
============ ============ ============ ============= ============ ============ ============ ============
Diluted
Loss from continuing
operations ........... $ (0.50) $ (0.25) $ (0.15) $ (0.27) $ (0.17) $ (0.21) $ (0.51) $ (0.80)
Loss from discontinued
operations ........... $ -- $ -- $ -- $ -- $ (0.06) $ (0.17) $ (0.12) $ (0.21)
Cumulative effect of
change in accounting
principle ............ $ -- $ -- $ -- $ -- $ (0.02) $ -- $ -- $ --
------------ ------------ ------------ ------------- ------------ ------------ ------------ ------------
Net loss .................. $ (0.50) $ (0.25) $ (0.15) $ (0.27) $ (0.25) $ (0.38) $ (0.63) $ (1.01)
============ ============ ============ ============= ============ ============ ============ ============
Weighted average number
of common and potential
shares outstanding used
in computation of loss
per share:
Basic ................. 18,985,864 19,503,645 19,525,807 19,558,572 15,630,070 16,292,859 17,502,640 17,840,672
Diluted ............... 18,985,864 19,503,645 19,525,807 19,558,572 15,630,070 16,292,859 17,502,640 17,840,672
Market price per share:
High ................... $ 18.98 $ 16.14 $ 16.66 $ 13.42 $ 53.64 $ 39.09 $ 32.05 $ 33.81
Low .................... $ 5.23 $ 4.69 $ 5.83 $ 8.29 $ 26.82 $ 12.16 $ 19.89 $ 12.50Soundbreak.com ...... 249 - 480
F-27F-82
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
2.1 Agreement and Plan of Merger of Acacia Research Corporation, a
California corporation, and Acacia Research Corporation, a
Delaware corporation, dated as of December 23, 1999 (1)
2.2 Agreement and Plan of Reorganization by and among Acacia Research
Corporation, Combi Acquisition Corp. and CombiMatrix Corporation
dated as of March 20, 2002 (attached as Annex A to the
Prospectus/Proxy Statement included in this Registration
Statement)
3.1 Restated Certificate of Incorporation (2)
3.2 Amended and Restated Bylaws (3)
4.210.1 Acacia Research Corporation 1996 Stock Option Plan, as amended
(4)
10.2 Form of Specimen Certificate of Acacia's CommonOption Agreement constituting the Acacia Research
Corporation 1996 Executive Stock (4)
10.1 Lease Agreement dated April 30,Bonus Plan (5)
10.3 CombiMatrix Corporation 1998 betweenStock Option Plan (6)
10.4 CombiMatrix Corporation 2000 Stock Awards Plan (6)
10.5 2002 CombiMatrix Stock Incentive Plan (7)
10.6 2002 Acacia and EOP-Pasadena
Towers, L.L.C., a Delaware limited liability company doing business as
EOP-Pasadena, LLC (5)
10.2Technologies Stock Incentive Plan (8)
10.7 Lease Agreement between Soundbreak.com Incorporated and 8730
Sunset Towers and related Guaranty (6)
10.3 1993 Stock Option Plan (7)
10.4 Form of Stock Option Agreement for 1993 Stock Option Plan (7)
10.5 1996 Stock Option Plan (8)
10.6 Form of Option Agreement constituting the 1996 Executive Stock Bonus
Plan (9)
10.7 Agreement between Acacia Research and Paul Ryan (10)
10.8 First Amendment dated June 26, 2000, to Lease Agreement between Acacia
and Pasadena Towers, L.L.C.
10.9* Research & Development Agreement dated as of June 18, 2001, between
CombiMatrix Corporation and Roche Diagnostics GmbH (3)
10.10* License and Supply Agreement dated as of July 1, 2001, between
CombiMatrix Corporation and Roche Diagnostics GmbH (3)
10.11 Sublease dated November 30, 2001, between Acacia and Jenkens &
Gilchrist
10.12 Lease Agreement dated January 28, 2002, between Acacia Research
Corporation and The Irvine Company 18.1 Preferability letter from PricewaterhouseCoopers LLP,(10)
10.9 Settlement Agreement dated asSeptember 30, 2002, by and among
Acacia Research Corporation, CombiMatrix Corporation, Donald D.
Montgomery, Ph.D. and Nanogen, Inc. (6)
10.10+ Research & Development Agreement dated September 25, 2002,
between CombiMatrix Corporation and Roche Diagnostics GmbH (6)
10.11+ License Agreement dated September 25, 2002 between CombiMatrix
Corporation and Roche Diagnostics GmbH (6)
10.12 Form of March
31, 2002, regarding change in accounting policy
21Indemnification Agreement (11)
10.13 Series A Preferred Stock Purchase Agreement dated October 1,
2004, by and between Leuchemix, Inc. and CombiMatrix
Corporation (12)
10.14 Investor Rights Agreement dated October 1, 2004, by and among
Leuchemix, Inc., the holders of Common Stock set forth on Exhibit
A attached thereto, and CombiMatrix Corporation (12)
10.15 Voting Agreement dated October 1, 2004, by and among Leuchemix,
Inc., CombiMatrix Corporation and the holders of the Common Stock
set forth on Exhibit A attached thereto (12)
10.16 Right of First Refusal and Co-Sale Agreement dated October 1,
2004, by and among Leuchemix, Inc., the holders of Common Stock
set forth on Exhibit A attached thereto, and CombiMatrix
Corporation (11)
10.17 Letter of Intent dated December 15, 2004 between Acacia Research
Corporation and Global Patent Holdings LLC
21.1 List of Subsidiaries
23.1 Consent of PricewaterhouseCoopers LLP - -----------
* Confidential treatment for portions(relating to the financial
statements of these exhibits grantedAcacia Research Corporation)
23.2 Consent of PricewaterhouseCoopers LLP (relating to the financial
statements of CombiMatrix Corporation)
23.3 Consent of PricewaterhouseCoopers LLP (relating to the financial
statements of the Acacia Technologies group and the CombiMatrix
group)
31.1 Certification of Chief Executive Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32.1 Certification of the Chief Executive Officer provided pursuant to
an
Order Granting Confidential Treatment under18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Securities ExchangeSarbanes-Oxley Act of 1934,
issued on November 9, 2001, by2002
32.2 Certification of the Chief Financial Officer provided pursuant to
18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
- ---------------------------
+ Portions of this exhibit have been omitted pursuant to a request for
confidential treatment and have been filed separately with the United
States Securities and Exchange Commission.
(1) Incorporated by reference from Acacia'sAcacia Research Corporation's Report on
Form 8-K filed on December 30, 1999 (SEC File No. 000-26068).
(2) Incorporated by reference as Appendix AB to the Definitive Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Schedule 14A filed on November 2, 1999Form S-4 (SEC File No. 000-26068) and to the Definitive Proxy Statement333-87654) which became effective on Schedule 14A filed
on April 10, 2000 (SEC File No. 000-26068).November
8, 2002.
(3) Incorporated by reference from Acacia'sAcacia Research Corporation's Quarterly
Report on Form 10-Q filed on August 10, 2001 (SEC File No. 000-26068).
(4) Incorporated by reference from Amendment No. 2 on Form 8-A/A filed on
December 30, 1999 (SEC File No. 000-26068).
(5) Incorporated by reference from Acacia's Quarterly Report on Form 10-Q
filed on August 14, 1998. (SEC File No. 000-26068).
(6) Incorporated by reference from Acacia's Quarterly Report on Form 10-Q
filed on November 15, 1999. (SEC File No. 000-26068).
(7) Incorporated by reference from Acacia's Registration Statement on Form
SB-2 (33-87368-L.A.), which became effective under the Securities Act
of 1933, as amended, on June 15, 1995.
(8) Incorporated by reference as Appendix A to the Definitive Proxy Statement
on Schedule 14A filed on April 10, 2000 (SEC File No. 000-26068).
(9)(5) Incorporated by reference from Acacia'sAcacia Research Corporation's Definitive
Proxy as Appendix A Statement on Schedule 14A filed on April 26, 1996
(SEC File No. 000-26068).
(6) Incorporated by reference to Acacia Research Corporation's Registration
Statement on Form S-4 (SEC File No. 333-87654) which became effective on
November 8, 2002.
(7) Incorporated by reference as Appendix D to the Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Form S-4 (SEC File No. 333-87654) which became effective on November
8, 2002.
(8) Incorporated by reference as Appendix E to the Proxy Statement/Prospectus
which formed part of Acacia Research Corporation's Registration Statement
on Form S-4 (SEC File No. 333-87654) which became effective on November
8, 2002.
(9) Incorporated by reference to Acacia Research Corporation's Quarterly
Report on Form 10-Q filed on November 15, 1999 (SEC File No. 000-26068).
(10) IncorporateIncorporated by reference from Acacia'sAcacia Research Corporation's Annual
Report on Form 10-K for the year ended December 31, 19972001 filed on March
30, 199827, 2002 (SEC File No. 000-26068).
(11) Incorporated by reference from Acacia Research Corporation's Annual
Report on Form 10-K for the year ended December 31, 2002 filed on March
27, 2003 (SEC File No. 000-26068).
(12) Incorporated by reference from Acacia Research Corporation's Quarterly
Report on Form 10-Q filed on November 5, 2004 (SEC File No. 000-26068).