ITEM 13.
During the year ended December 31, 2016, two customers accounted for approximately 30% or $1,162,000of our total revenues. If these customers were to significantly reduce its relationship with the Company, or in the event the Company is unable to replace the revenue through the sale of its products to additional customers, the Company’s financial condition and results from operations could be negatively impacted, and such impact would be material.
We occasionally rely on systems integrators to manage our large projects, and if these companies do not perform adequately, we may lose business.
We occasionally act as a subcontractor to systems integrators who manage large projects that incorporate our systems, particularly in foreign countries. We cannot control these companies, and they may decide not to promote our products or may price their services in such a way as to make it unprofitable for us to continue our relationship with them. Further, they may fail to perform under agreements with their customers, in which case we might lose sales to these customers. If we lose our relationships with these companies, our business, financial condition and results of operations may suffer.
We are dependent upon third parties for the successful integration of our products, and/or the launch of our products. Any delay in the integration of our products, or the launch of third party products may materially affect our results from operations and financial condition.
Our current marketing strategy involves the distribution of our products through larger product partners and/or resellers that will either resell our product alongside theirs, OEM a white label version of our products, or sell our products fully integrated into their offerings. Our strategy leaves us largely dependent upon the successful rollout of our products by our distribution partners. We have experienced delays in the rollout of our products due to these factors in 2016 and so far in 2017, and no assurances can be given that we will not experience delays in the future. Any delays negatively affect our results from operations and financial condition.
If the patents we own or license, or our other intellectual property rights, do not adequately protect our products and technologies, we may lose market share to our competitors and our business, financial condition and results of operations would be adversely affected.
Our success depends significantly on our ability to protect our rights to the technologies used in our products. We rely on patent protection, trade secrets, as well as a combination of copyright and trademark laws and nondisclosure, confidentiality and other contractual arrangements to protect our technology. However, these legal means afford only limited protection and may not adequately protect our rights or permit us to gain or keep any competitive advantage. In addition, we cannot be assured that any of our current and future pending patent applications will result in the issuance of a patent to us. The U.S. Patent and Trademark Office (“PTO”) may deny or require significant narrowing of claims in our pending patent applications, and patents issued as a result of the pending patent applications, if any, may not provide us with significant commercial protection or may not be issued in a form that is advantageous to us. We could also incur substantial costs in proceedings before the PTO. These proceedings could result in adverse decisions as to the claims included in our patents.
Our issued and licensed patents and those that may be issued or licensed in the future may be challenged, invalidated or circumvented, which could limit our ability to stop competitors from marketing related products. Additionally, upon expiration of our issued or licensed patents, we may lose some of our rights to exclude others from making, using, selling or importing products using the technology based on the expired patents. We also must rely on contractual rights with the third parties that license technology to us to protect our rights in the technology licensed to us. Although we have taken steps to protect our intellectual property and technology, there is no assurance that competitors will not be able to design around our patents. We also rely on unpatented proprietary technology. We cannot assure you that we can meaningfully protect all our rights in our unpatented proprietary technology or that others will not independently develop substantially equivalent proprietary products or processes or otherwise gain access to our unpatented proprietary technology. We seek to protect our know-how and other unpatented proprietary technology with confidentiality agreements and intellectual property assignment agreements with our employees. However, such agreements may not provide meaningful protection for our proprietary information in the event of unauthorized use or disclosure or other breaches of the agreements or in the event that our competitors discover or independently develop similar or identical designs or other proprietary information. In addition, we rely on the use of registered and common law trademarks with respect to the brand names of some of our products. Our common law trademarks provide less protection than our registered trademarks. Loss of rights in our trademarks could adversely affect our business, financial condition and results of operations.
Furthermore, the laws of foreign countries may not protect our intellectual property rights to the same extent as the laws of the United States. If we fail to apply for intellectual property protection or if we cannot adequately protect our intellectual property rights in these foreign countries, our competitors may be able to compete more effectively against us, which could adversely affect our competitive position, as well as our business, financial condition and results of operations.
If third parties claim that we infringe their intellectual property rights, we may incur liabilities and costs and may have to redesign or discontinue selling certain products.
Whether a product infringes a patent involves complex legal and factual issues, the determination of which is often uncertain. We face the risk of claims that we have infringed on third parties’ intellectual property rights. Searching for existing intellectual property rights may not reveal important intellectual property and our competitors may also have filed for patent protection, which is not yet a matter of public knowledge, or claimed trademark rights that have not been revealed through our availability searches. Our efforts to identify and avoid infringing on third parties’ intellectual property rights may not always be successful. Any claims of patent or other intellectual property infringement, even those without merit, could:
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increase the cost of our products;S AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
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be expensive and time consuming to defend;
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result in us being required to pay significant damages to third parties;
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force us to cease making or selling products that incorporate the challenged intellectual property;
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require us to redesign, reengineer or rebrand our products;
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require us to enter into royalty or licensing agreements in order to obtain the right to use a third party’s intellectual property, the terms of which may not be acceptable to us;
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require us to indemnify third parties pursuant to contracts in which we have agreed to provide indemnification to such parties for intellectual property infringement claims;
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divert the attention of our management; and
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result in our customers or potential customers deferring or limiting their purchase or use of the affected products until the litigation is resolved.
In addition, new patents obtained by our competitors could threaten a product’s continued life in the market even after it has already been introduced.
We operate in foreign countries and are exposed to risks associated with foreign political, economic and legal environments and with foreign currency exchange rates.
We have significant foreign operations. As a result, we are exposed to risks, including among others, risks associated with foreign political, economic and legal environments and with foreign currency exchange rates. Our results may be adversely affected by, among other things, changes in government policies with respect to laws and regulations, anti-inflation measures, currency conversions, collection of receivables abroad and rates and methods of taxation.
We depend on key personnel, the loss of any of whom could materially adversely affect future operations.
Our success will depend to a significant extent upon the efforts and abilities of our executive officers and other key personnel. The loss of the services of one or more of these key employees and any negative market or industry perception arising from the loss of such services could have a material adverse effect on us and the trading price of our Common Stock. Our business will also be dependent upon our ability to attract and retain qualified personnel. Acquiring and keeping these personnel could prove more difficult or cost substantially more than estimated and we cannot be certain that we will be able to retain such personnel or attract a high caliber of personnel in the future.
We face competition from companies with greater financial, technical, sales, marketing and other resources, and, if we are unable to compete effectively with these competitors, our market share may decline and our business could be harmed.
We face competition from other established companies. A number of our competitors have longer operating histories, larger customer bases, significantly greater financial, technological, sales, marketing and other resources than we do. As a result, our competitors may be able to respond more quickly than we can to new or changing opportunities, technologies, standards or client requirements, more quickly develop new products or devote greater resources to the promotion and sale of their products and services than we can. Likewise, their greater capabilities in these areas may enable them to better withstand periodic downturns in the identity management solutions industry and compete more effectively on the basis of price and production. In addition, new companies may enter the markets in which we compete, further increasing competition in the identity management solutions industry.
We believe that our ability to compete successfully depends on a number of factors, including the type and quality of our products and the strength of our brand names, as well as many factors beyond our control. We may not be able to compete successfully against current or future competitors, and increased competition may result in price reductions, reduced profit margins, loss of market share and an inability to generate cash flows that are sufficient to maintain or expand the development and marketing of new products, any of which would adversely impact our results of operations and financial condition.
Risks Related to Our Securities
Our Common Stock is subject to “penny stock” rules.
Our Common Stock is currently defined as a “penny stock” under Rule 3a51-1 promulgated under the Exchange Act. “Penny stocks” are subject to Rules 15g-2 through 15g-7 and Rule 15g-9, which impose additional sales practice requirements on broker-dealers that sell penny stocks to persons other than established customers and institutional accredited investors. Among other things, for transactions covered by these rules, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transaction prior to sale. Consequently, these rules may affect the ability of broker-dealers to sell our Common Stock and affect the ability of holders to sell their shares of our Common Stock in the secondary market. To the extent our Common Stock is subject to the penny stock regulations, the market liquidity for our shares will be adversely affected.
Our stock price has been volatile, and your investment in our Common Stock could suffer a decline in value.
There has been significant volatility in the market price and trading volume of equity securities, which is unrelated to the financial performance of the companies issuing the securities. These broad market fluctuations may negatively affect the market price of our Common Stock. You may not be able to resell your shares at or above the price you pay for those shares due to fluctuations in the market price of our Common Stock caused by changes in our operating performance or prospects and other factors.
Some specific factors that may have a significant effect on our Common Stock market price include:
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actual or anticipated fluctuations in our operating results or future prospects;
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our announcements or our competitors’ announcements of new products;
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the public’s reaction to our press releases, our other public announcements and our filings with the Securities and Exchange Commission (the “SEC”);
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strategic actions by us or our competitors, such as acquisitions or restructurings;
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new laws or regulations or new interpretations of existing laws or regulations applicable to our business;
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changes in accounting standards, policies, guidance, interpretations or principles;
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changes in our growth rates or our competitors’ growth rates;
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developments regarding our patents or proprietary rights or those of our competitors;
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our inability to raise additional capital as needed;
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substantial sales of Common Stock underlying warrants and preferred stock;
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concern as to the efficacy of our products;
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changes in financial markets or general economic conditions;
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sales of Common Stock by us or members of our management team; and
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changes in stock market analyst recommendations or earnings estimates regarding our Common Stock, other comparable companies or our industry generally.
Our future sales of our Common Stock could adversely affect its price and our future capital-raising activities could involve the issuance of equity securities, which would dilute shareholders’ investments and could result in a decline in the trading price of our Common Stock.
We may sell securities in the public or private equity markets if and when conditions are favorable, even if we do not have an immediate need for additional capital at that time. Sales of substantial amounts of our Common Stock, or the perception that such sales could occur, could adversely affect the prevailing market price of our Common Stock and our ability to raise capital. We may issue additional Common Stock in future financing transactions or as incentive compensation for our executive management and other key personnel, consultants and advisors. Issuing any equity securities would be dilutive to the equity interests represented by our then-outstanding shares of Common Stock. The market price for our Common Stock could decrease as the market takes into account the dilutive effect of any of these issuances. Furthermore, we may enter into financing transactions at prices that represent a substantial discount to the market price of our Common Stock. A negative reaction by investors and securities analysts to any discounted sale of our equity securities could result in a decline in the trading price of our Common Stock.
The holders of our preferred stock have certain rights and privileges that are senior to our Common Stock, and we may issue additional shares of preferred stock without stockholder approval that could have a material adverse effect on the market value of the Common Stock.
Our Board of Directors (“Board”) has the authority to issue a total of up to four million shares of preferred stock and to fix the rights, preferences, privileges, and restrictions, including voting rights, of the preferred stock, which typically are senior to the rights of the Common Stockholders, without any further vote or action by the Common Stockholders. The rights of our Common Stockholders will be subject to, and may be adversely affected by, the rights of the holders of the preferred stock that have been issued, or might be issued in the future. Preferred stock also could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock. This could delay, defer, or prevent a change in control. Furthermore, holders of preferred stock may have other rights, including economic rights, senior to the Common Stock. As a result, their existence and issuance could have a material adverse effect on the market value of the Common Stock. We have in the past issued and may from time to time in the future issue, preferred stock for financing or other purposes with rights, preferences, or privileges senior to the Common Stock. As of December 31, 2016, we had four series of preferred stock outstanding, Series B Convertible Redeemable Preferred Stock (“Series B Preferred”), Series E Convertible Redeemable Preferred Stock(“Series E Preferred”), Series F Convertible Redeemable Preferred Stock (“Series F Preferred”) and Series G Convertible Redeemable Preferred Stock (“Series G Preferred”).
The provisions of our Series B Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series B Preferred will be entitled to receive, in preference to any distribution to the holders of Common Stock, initial distributions of $2.50 per share, plus all accrued but unpaid dividends. As of December 31, 2016, we had cumulative undeclared dividends on our Series B Preferred of approximately $8,000.
The provisions of our Series E Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series E Preferred will be entitled to receive, in preference to any distribution to the holders of Series F Preferred, Series G Preferred and Common Stock, initial distributions of $1,000 per share, plus all accrued but unpaid dividends.At December 31, 2016, we had accrued $0 in Series E Preferred dividends. The provisions of our Series E Preferred also limit indebtedness of the Company toany commercial bank loan entered into by the Company to an amount not to exceed $2.0 million; and monies borrowed under credit lines of the Company existing on the Issuance Date in an amount not to exceed $6.0 million.
The provisions of our Series F Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series F Preferred will be entitled to receive, in preference to any distribution to the holders of Series G Preferred and Common Stock, initial distributions of $1,000 per share, plus all accrued but unpaid dividends.At December 31, 2016, we had accrued $0 in Series F Preferred dividends.
The provisions of our Series G Preferred prohibit the payment of dividends on our Common Stock unless the dividends on our preferred shares are first paid. In addition, upon a liquidation, dissolution or sale of our business, the holders of our Series G Preferred will be entitled to receive, in preference to any distribution to the holders of Common Stock, initial distributions of $1,000 per share, plus all accrued but unpaid dividends.At December 31, 2016, we had accrued $0 in Series G Preferred dividends.
Certain large shareholders may have certain personal interests that may affect the Company.
As a result of the shares issued to Goldman Capital Management and related entities controlled by Neal Goldman, a member of our Board of Directors (together, “Goldman”), Goldman beneficially owns, in the aggregate, approximately 36.6% of the Company’s outstanding voting securities. As a result, Goldman has the potential ability to exert influence over both the actions of the Board of Directors and the outcome of issues requiring approval by the Company’s shareholders. This concentration of ownership may have effects such as delaying or preventing a change in control of the Company that may be favored by other shareholders or preventing transactions in which shareholders might otherwise recover a premium for their shares over current market prices.
Our corporate documents and Delaware law contain provisions that could discourage, delay or prevent a change in control of the Company.
Provisions in our certificate of incorporation and bylaws may discourage, delay or prevent a merger or acquisition involving us that our stockholders may consider favorable. For example, our certificate of incorporation authorizes preferred stock, which carries special rights, including voting and dividend rights. With these rights, preferred stockholders could make it more difficult for a third party to acquire us.
We are also subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law. Under these provisions, if anyone becomes an “interested stockholder,” we may not enter into a “business combination” with that person for three years without special approval, which could discourage a third party from making a takeover offer and could delay or prevent a change of control. For purposes of Section 203, “interested stockholder” means, generally, someone owning 15% or more of our outstanding voting stock or an affiliate of ours that owned 15% or more of our outstanding voting stock during the past three years, subject to certain exceptions as described in Section 203.
We do not expect to pay cash dividends on our Common Stock for the foreseeable future.
We have never paid cash dividends on our Common Stock and do not anticipate that any cash dividends will be paid on the Common Stock for the foreseeable future. The payment of any cash dividend by us will be at the discretion of our Board of Directors and will depend on, among other things, our earnings, capital, regulatory requirements and financial condition. Furthermore, the terms of our Series B Preferred and Series E Preferred directly limit our ability to pay cash dividends on our Common Stock.
ITEM 1B. UNRESOLVED STAFF COMMENTSNone.
ITEM 2. PROPERTIES
Our corporate headquarters are located in San Diego, California where we occupy 9,927 square feet of office space. This facility is leased through October 2017 at a cost of approximately $18,000 per month. In addition to our corporate headquarters, we also occupied the following spaces at December 31, 2016:
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1,508 square feet in Ottawa, Province of Ontario, Canada, at a cost of approximately $3,000 per month until the expiration of the lease on March 31, 2021. This lease was renewed in April 2016 for a five-year period ending on March 31, 2021. Renewal terms were substantially unchanged from the existing lease;
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8,045 square feet in Portland, Oregon, at a cost of approximately $16,000 per month until the expiration of the lease on October 31, 2018; and
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304 square feet of office space in Mexico City, Mexico, at a cost of approximately $3,000 per month until the expiration of the lease on November 30, 2017.
ITEM 3. LEGAL PROCEEDINGSThere is currently no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the knowledge of the executive officers of the Company or any of our subsidiaries, threatened against or affecting the Company, our Common Stock, any of our subsidiaries or of the Company’s or our subsidiaries’ officers or directors in their capacities as such, in which an adverse decision could have a material adverse effect.
ITEM 4. MINE SAFETY DISCLOSURES
None.
ITEM 5. | MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
Market Information
Our Common Stock does not trade on an established securities exchange. Our Common Stock is quoted under the symbol “IWSY” on the OTCQB marketplace. The following table sets forth the high and low sale prices for our Common Stock for each quarter in 2016 and 2015:
| 2016 Fiscal Quarters | | |
| First Quarter | $1.49 | $0.85 |
| Second Quarter | $1.52 | $1.06 |
| Third Quarter | $1.47 | $1.12 |
| Fourth Quarter | $1.35 | $0.95 |
| | | |
| 2015 Fiscal Quarters | | |
| First Quarter | $2.36 | $1.50 |
| Second Quarter | $1.89 | $1.39 |
| Third Quarter | $2.04 | $1.41 |
| Fourth Quarter | $1.64 | $.90 |
Holders
As of March 20, 2017, we had approximately 187 holders of record of our Common Stock. A significant number of our shares were held in street name and, as such, we believe that the actual number of beneficial owners is significantly higher.
Stock Performance Graph
The following graph compares the cumulative total shareholder return on our Common Stock over the five-year period ending December 31, 2016 with the cumulative total returns during the same period on the NASDAQ Composite Index and the S&P Information Technology Index. The graph assumes that $100 was invested on December 31, 2011 in our Common Stock and in the shares represented by each of the other indices, and that all dividends were reinvested.
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
| | 12/31/11 | 12/31/12 | 12/31/13 | 12/31/14 | 12/31/15 | 12/31/16 |
| ImageWare Systems, Inc. | $100.00 | $106.25 | $241.25 | $300.00 | $162.50 | $166.25 |
| NASDAQ Composite Index | $100.00 | $115.91 | $160.32 | $181.80 | $192.21 | $206.63 |
| S&P Information Technology | $100.00 | $114.82 | $147.47 | $177.13 | $187.63 | $213.61 |
The stock performance graph above shall not be deemed incorporated by reference into any filing by us under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except to the extent that we specifically incorporate such information by reference, and shall not otherwise be deemed filed under such Acts.
Dividends
We have never declared or paid cash dividends on our Common Stock. We currently intend to retain all available funds and any future earnings for use in the operation of our business and do not anticipate paying any cash dividends in the foreseeable future. Any future determination to declare cash dividends will be made at the discretion of our Board of Directors and will depend on our financial condition, results of operations, capital requirements, general business conditions and other factors that our Board of Directors may deem relevant.
As of December 31, 2016, 2015 and 2014, the Company had cumulative undeclared dividends of approximately $8,000 relating to our Series B Preferred. At December 31, 2016 and 2015 we had cumulative undeclared dividends of $0 and $240,000, respectively relating to our Series E Preferred. As of December 31, 2016 and 2015 we had cumulative undeclared dividends of $0 relating to our Series F Preferred and Series G Preferred.
Securities Authorized for Issuance under Equity Compensation Plans
For a discussion of our equity compensation plans, please see Item 12 of this Annual Report.
ITEM 6. SELECTED FINANCIAL DATAThe following data has been derived from our audited consolidated financial statements, including the consolidated balance sheets at December 31, 2016 and 2015 and the related consolidated statements of operations for the three years ended December 31, 2016 and related notes appearing elsewhere in this report. The statement of operations data for the years ended December 31, 2013 and 2012 and the balance sheet data as of December 31, 2014, 2013 and 2012 are derived from our audited consolidated financial statements that are not included in this report. You should read the selected financial data set forth below in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and related notes included elsewhere in this report.
| Statement of Operations Data: | |
| (In thousands, except share and per share data) | | | | | |
Revenues: | | | | | |
| Product | $1,249 | $2,192 | $1,634 | $2,686 | $1,145 |
| Maintenance | 2,563 | 2,577 | 2,525 | 2,618 | 2,806 |
| | 3,812 | 4,769 | 4,159 | 5,304 | 3,951 |
| Cost of revenues: | | | | | |
| Product | 243 | 1,117 | 257 | 319 | 227 |
| Maintenance | 827 | 827 | 735 | 771 | 975 |
| Gross profit | 2,742 | 2,825 | 3,167 | 4,214 | 2,749 |
| | | | | | |
| Operating expenses: | | | | | |
| General and administrative | 3,722 | 3,437 | 3,818 | 3,378 | 3,430 |
| Sales and marketing | 3,021 | 2,791 | 2,471 | 2,129 | 1,830 |
| Research and development | 5,332 | 4,643 | 4,495 | 3,869 | 3,180 |
| Depreciation and amortization | 129 | 164 | 179 | 125 | 69 |
| | 12,204 | 11,035 | 10,963 | 9,501 | 8,509 |
| Loss from operations | (9,462) | (8,210) | (7,796) | (5,287) | (5,760) |
| | | | | | |
| Interest expense | 245 | 447 | 416 | 221 | 18 |
| Change in fair value of derivative liabilities | — | — | — | 4,776 | 4,712 |
| Other income, net | (201) | (145) | (297) | (443) | (322) |
| Loss before income taxes | (9,506) | (8,512) | (7,915) | (9,841) | (10,168) |
| | | | | | |
| Income tax expense | 21 | 22 | 25 | 8 | 22 |
| Net loss | $(9,527) | $(8,534) | $(7,940) | $(9,849) | $(10,190) |
| Preferred dividends | (1,347) | (1,065) | (51) | (51) | (51) |
| Net loss available to common shareholders | $(10,874) | $(9,599) | $(7,991) | $(9,900) | $(10,241) |
| | | | | | |
Basic and diluted loss per common share | | | | |
| Net loss | $(0.10) | $(0.09) | $(0.09) | $(0.12) | $(0.14) |
| Preferred dividends | (0.02) | (0.01) | (—) | (—) | (—) |
| Basic and diluted loss per share available to common shareholders | $(0.12) | $(0.10) | $(0.09) | $(0.12) | $(0.14) |
| Basic and diluted weighted-average shares outstanding | 94,426,783 | 93,786,079 | 91,795,971 | 81,231,962 | 70,894,916 |
| Balance Sheet Data: | |
| (In thousands) | | | | | |
ASSETS | | | | | |
| Current Assets: | | | | | |
| Cash | $1,586 | $3,352 | $218 | $2,363 | $4,225 |
| Accounts receivable, net of allowance for doubtful accounts | 287 | 349 | 266 | 302 | 328 |
| Inventory, net | 23 | 46 | 916 | 505 | 262 |
| Other current assets | 135 | 69 | 86 | 148 | 86 |
| Total Current Assets | 2,031 | 3,816 | 1,486 | 3,318 | 4,901 |
| | | | | | |
| Property and equipment, net | 93 | 162 | 211 | 245 | 150 |
| Other assets | 34 | 98 | 153 | 395 | 44 |
| Intangible assets, net of accumulated amortization | 106 | 117 | 144 | 172 | 200 |
| Goodwill | 3,416 | 3,416 | 3,416 | 3,416 | 3,416 |
| Total Assets | $5,680 | $7,609 | $5,410 | $7,546 | $8,711 |
| | | | | | |
| LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT) | | | | | |
| | | | | | |
| Current Liabilities: | | | | | |
| Accounts payable | $425 | $198 | $459 | $486 | $759 |
| Deferred revenue | 1,045 | 1,059 | 1,827 | 1,662 | 1,561 |
| Accrued expenses | 1,047 | 1,149 | 1,013 | 924 | 1,266 |
| Derivative liabilities | — | — | — | 57 | — |
Convertible lines of credit to related parties, net
| 2,528 | — | — | 55 | 65 |
| Total Current Liabilities | 5,045 | 2,406 | 3,299 | 3,184 | 3,651 |
| | | | | | |
| Convertible secured notes payable, net of discount | — | — | 1,311 | — | — |
| Derivative liabilities | — | — | — | — | 2,244 |
| Pension obligation | 1,895 | 1,511 | 1,834 | 1,031 | 401 |
| Other long-term liabilities | — | — | — | — | 72 |
| Total Liabilities | 6,940 | 3,917 | 6,444 | 4,215 | 6,368 |
| | | | | | |
| Shareholders’ Equity (Deficit): | | | | | |
| Preferred stock, authorized 4,000,000 shares: | | | | | |
| Series B Convertible Redeemable Preferred Stock, $0.01 par value | 2 | 2 | 2 | 2 | 2 |
| Series E Convertible Redeemable Preferred stock, $0.01 par value | — | — | — | — | — |
| Series F Convertible Redeemable Preferred stock, $0.01 par value | — | — | — | — | — |
| Series G Convertible Redeemable Preferred stock, $0.01 par value | — | — | — | — | — |
| Common Stock, $0.01 par value | 917 | 940 | 934 | 874 | 765 |
| Additional paid-in capital | 156,195 | 149,902 | 135,982 | 131,652 | 120,182 |
| Treasury stock, at cost | (64) | (64) | (64) | (64) | (64) |
| Accumulated other comprehensive loss | (1,543) | (1,195) | (1,594) | (830) | (139) |
| Accumulated deficit | (156,767) | (145,893) | (136,294) | (128,303) | (118,403) |
| Total Shareholders’ Equity (Deficit) | (1,260) | 3,692 | ( 1,034) | 3,331 | 2,343 |
| | | | | | |
| Total Liabilities and Shareholders’ Equity (Deficit) | $5,680 | $7,609 | $5,410 | $7,546 | $8,711 |
| MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion should be read in conjunction with our consolidated financial statements and the related notes and other financial information appearing elsewhere in this Form 10-K. Readers are also urged to carefully review and consider the various disclosures made by us which attempt to advise interested parties of the factors which affect our business, including (without limitation) the disclosures made under the captions “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors,” and in the audited consolidated financial statements and related notes included in this Annual Report on Form 10-K.
Overview
The Company is a pioneer and leader in the emerging market for biometrically enabled software-based identity management solutions. Using those human characteristics that are unique to us all, we create software that provides a highly reliable indication of a person’s identity. Our “flagship” product is our patented IWS Biometric Engine®. Scalable for small city business or worldwide deployment, our IWS Biometric Engine is a multi-biometric software platform that is hardware and algorithm independent, enabling the enrollment and management of unlimited population sizes. It allows a user to utilize one or more biometrics on a seamlessly integrated platform. Our products are used to manage and issue secure credentials, including national IDs, passports, driver licenses and access control credentials. Our products also provide law enforcement with integrated mug shot, LiveScan fingerprint and investigative capabilities. We also provide comprehensive authentication security software using biometrics to secure physical and logical access to facilities or computer networks or Internet sites. Biometric technology is now an integral part of all markets we address and all of our products are integrated into the IWS Biometric Engine.
With the advent of cloud based computing, the proliferation of smart mobile devices which allow for reliable biometric capture and the need to secure access to data, products and services, the Company believes that the market for multi-biometric solutions will expand to encompass significant deployments of biometric systems in the commercial and consumer markets. The Company therefore intends to leverage the strength of its experience servicing existing government clients who have deployed the Company’s products for large populations, as well as its foundational patent portfolio in the field of multi-modal biometrics and the fusion of multiple biometric algorithms, to address the growing commercial and consumer market.
Our biometric technology is a core software component of an organization’s security infrastructure and includes a multi-biometric identity management solution for enrolling, managing, identifying and verifying the identities of people by the physical characteristics of the human body. We develop, sell and support various identity management capabilities within government (federal, state and local), law enforcement, commercial enterprises, and transportation and aviation markets for identification and verification purposes. Our IWS Biometric Engine is a patented biometric identity management software platform for multi-biometric enrollment, management and authentication, managing population databases of virtually unlimited sizes. It is hardware agnostic and can utilize different types of biometric algorithms. It allows different types of biometrics to be operated at the same time on a seamlessly integrated platform. It is also offered as a Software Development Kit based search engine, enabling developers and system integrators to implement a biometric solution or integrate biometric capabilities into existing applications without having to derive biometric functionality from pre-existing applications. The IWS Biometric Engine combined with our secure credential platform, IWS EPI Builder, provides a comprehensive, integrated biometric and secure credential solution that can be leveraged for high-end applications such as passports, driver licenses, national IDs, and other secure documents.
Our law enforcement solutions enable agencies to quickly capture, archive, search, retrieve, and share digital images, fingerprints and other biometrics as well as criminal history records on a stand-alone, networked, wireless or Web-based platform. We develop, sell and support a suite of modular software products used by law enforcement and public safety agencies to create and manage criminal history records and to investigate crime. Our IWS Law Enforcement solution consists of five software modules: Capture and Investigative modules, which provide a criminal booking system with related databases as well as the ability to create and print mug photo/SMT image lineups and electronic mugbooks; a Facial Recognition module, which uses biometric facial recognition to identify suspects; a Web module, which provides access to centrally stored records over the Internet in a connected or wireless fashion; and a LiveScan module, which incorporates LiveScan capabilities into IWS Law Enforcement providing integrated fingerprint and palm print biometric management for civil and law enforcement use. The IWS Biometric Engine is also available to our law enforcement clients and allows them to capture and search using other biometrics such as iris or DNA.
Our secure credential solutions empower customers to create secure and smart digital identification documents with complete ID systems. We develop, sell and support software and design systems which utilize digital imaging and biometrics in the production of photo identification cards, credentials and identification systems. Our products in this market consist of IWS EPI Suite and IWS EPI Builder (“SDK”). These products allow for the production of digital identification cards and related databases and records and can be used by, among others, schools, airports, hospitals, corporations or governments. We have added the ability to incorporate multiple biometrics into the ID systems with the integration of IWS Biometric Engine to our secure credential product line.
Our enterprise authentication software includes the IWS Desktop Security product which is a comprehensive authentication management infrastructure solution providing added layers of security to workstations, networks and systems through advanced encryption and authentication technologies. IWS Desktop Security is optimized to enhance network security and usability, and uses multi-factor authentication methods to protect access, verify identity and help secure the computing environment without sacrificing ease-of-use features such as quick login. Additionally, IWS Desktop Security provides an easy integration with various smart card-based credentials including the Common Access Card (“CAC”), Homeland Security Presidential Directive 12 (“HSPD-12”), Personal Identity Verification (“PIV”) credential, and Transportation Worker Identification Credential (“TWIC”) with an organization’s access control process. IWS Desktop Security provides the crucial end-point component of a Logical Access Control System (“LACS”), and when combined with a Physical Access Control System (“PACS”), organizations benefit from a complete door to desktop access control and security model.
Critical Accounting Estimates
The discussion and analysis of our consolidated financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these consolidated financial statements in accordance with GAAP requires us to utilize accounting policies and make certain estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingencies as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during a fiscal period. The Securities and Exchange Commission (“SEC”) considers an accounting policy to be critical if it is important to a company’s financial condition and results of operations, and if it requires significant judgment and estimates on the part of management in its application.
Significant estimates include the allowance for doubtful accounts receivable, inventory carrying values, deferred tax asset valuation allowances, accounting for loss contingencies, recoverability of goodwill and acquired intangible assets and amortization periods, assumptions used in the Black-Scholes model to calculate the fair value of share based payments, assumptions used in the application of fair value methodologies to calculate the fair value of derivative liabilities, revenue and cost of revenues recognized under the percentage of completion method and assumptions used in the application of fair value methodologies to calculate the fair value of pension assets and obligations.
The following are our critical accounting policies because we believe they are both important to the portrayal of our financial condition and results of operations and require critical management judgments and estimates about matters that are uncertain. If actual results or events differ materially from those contemplated by us in making these estimates, our reported financial condition and results of operations for future periods could be materially affected.
Revenue Recognition. Our revenue recognition policy is significant because our revenue is a key component of our consolidated results of operations. We recognize revenue from the following major revenue sources:
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Long-term fixed-price contracts involving significant customization;
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Fixed-price contracts involving minimal customization;
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Sales of computer hardware and identification media; and
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Post-contract customer support (“PCS”).
The Company’s revenue recognition policies are consistent with U.S. GAAP including Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 985-605, “Software Revenue Recognition”, ASC 605-35“Revenue Recognition, Construction-Type and Production-Type Contracts”, “Securities and Exchange Commission Staff Accounting Bulletin 104,"and ASC 605-25, “Revenue Recognition, Multiple Element Arrangements”. Accordingly, the Company recognizes revenue when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the fee is fixed or determinable, and collectability is reasonably assured.
The Company recognizes revenue and profit as work progresses on long-term, fixed-price contracts involving significant amounts of hardware and software customization using the percentage of completion method based on costs incurred to date, compared to total estimated costs upon completion. The primary components of costs incurred are third party software and direct labor cost including fringe benefits. Revenues recognized in excess of amounts billed are classified as current assets under “Costs and estimated earnings in excess of billings on uncompleted contracts”. Amounts billed to customers in excess of revenue recognized are classified as current liabilities under “Billings in excess of costs and estimated earnings on uncompleted contracts”. Revenue from contracts for which the Company cannot reliably estimate total costs, or there are not significant amounts of customization, are recognized upon completion.For contracts that require significant amounts of customization that the Company accounts for under the completed contract method of revenue recognition, the Company defers revenue recognition until customer acceptance is received. For contracts containing either extended or dependent payment terms, revenue recognition is deferred until such time as payment has been received by the Company.The Company also generates non-recurring revenue from the licensing of its software. Software license revenue is recognized upon the execution of a license agreement, upon deliverance, when fees are fixed and determinable, when collectability is probable and when all other significant obligations have been fulfilled. The Company also generates revenue from the sale of computer hardware and identification media. Revenue for these items is recognized upon delivery of these products to the customer. The Company’s revenue from periodic maintenance agreements is generally recognized ratably over the respective maintenance periods provided no significant obligations remain and collectability of the related receivable is probable. Amounts collected in advance for maintenance services are included in current liabilities under "Deferred revenues". Sales tax collected from customers is excluded from revenue.
Allowance for Doubtful Accounts. We provide an allowance for our accounts receivable for estimated losses that may result from our customers’ inability to pay. We determine the amount of allowance by analyzing historical losses, customer concentrations, customer creditworthiness, current economic trends, and the age of the accounts receivable balances and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts.
Valuation of Goodwill, Other Intangible and Long-Lived Assets. The Company accounts for its intangible assets under the provisions of ASC 350, “Intangibles - Goodwill and Other”. In accordance with ASC 350, intangible assets with a definite life are analyzed for impairment under ASC 360-10-05 and intangible assets with an indefinite life are analyzed for impairment under ASC 360. In accordance with ASC 350, goodwill, or the excess of cost over fair value of net assets acquired is tested for impairment using a fair value approach at the “reporting unit” level. A reporting unit is the operating segment, or a business one level below that operating segment (referred to as a component) if discrete financial information is prepared and regularly reviewed by management at the component level. The Company’s reporting unit is at the entity level. The Company recognizes an impairment charge for any amount by which the carrying amount of a reporting unit’s goodwill exceeds its fair value. The Company uses fair value methodologies to establish fair values.
We assess impairment of goodwill and identifiable intangible assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors we consider important which could trigger an impairment review include the following:
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Significant underperformance relative to historical or expected future operating results;
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Significant changes in the manner of our use of the acquired assets or the strategy of our overall business; and
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Significant negative industry or economic trends.
The Company annually, or more frequently if events or circumstances indicate a need, tests the carrying amount of goodwill for impairment. The Company performs its annual impairment test in the fourth quarter of each year. A two-step impairment test is used to first identify potential goodwill impairment and then measure the amount of goodwill impairment loss, if any. The first step was conducted by determining and comparing the fair value, employing the market approach, of the Company’s reporting units to the carrying value of the reporting unit. The Company determined that its only reporting unit is Identity Management. Based on the results of this impairment test, the Company determined that its goodwill assets were not impaired as of December 31, 2016.
The Company evaluates long-lived assets for impairment whenever events or changes in circumstances indicate their net book value may not be recoverable. When such factors and circumstances exist, the Company compares the projected undiscounted future cash flows associated with the related asset or group of assets over their estimated useful lives against their respective carrying amount. Impairment, if any, is based on the excess of the carrying amount over the fair value, based on market value when available, or discounted expected cash flows, of those assets and is recorded in the period in which the determination is made. The Company’s management currently believes there is no impairment of its long-lived assets. There can be no assurance, however, that market conditions will not change or demand for the Company’s products under development will continue. Either of these could result in future impairment of long-lived assets.
There are many management assumptions and estimates underlying the determination of an impairment loss, and estimates using different, but reasonable, assumptions could produce significantly different results. Significant assumptions include estimates of future levels of revenues and operating expenses. Therefore, the timing and recognition of impairment losses by us in the future, if any, may be highly dependent upon our estimates and assumptions. There can be no assurance that goodwill impairment will not occur in the future.
Stock-Based Compensation. At December 31, 2016, the Company had one stock-based compensation plan for employees and nonemployee directors, which authorize the granting of various equity-based incentives including stock options and restricted stock.
The Company estimates the fair value of its stock options using a Black-Scholes option-pricing model, consistent with the provisions of ASC 718, “Compensation – Stock Compensation”. The fair value of stock options granted is recognized to expense over the requisite service period. Stock-based compensation expense for all share-based payment awards is recognized using the straight-line single-option method. Stock-based compensation expense is reported in general and administrative, sales and marketing, engineering and customer service expenses based upon the departments to which substantially all of the associated employees report and credited to additional paid-in capital.
ASC 718 requires the use of a valuation model to calculate the fair value of stock-based awards. For the years ended December 31, 2016, 2015 and 2014, the Company has elected to use the Black-Scholes option-pricing model, which incorporates various assumptions including volatility, expected life, and interest rates. The Company is required to make various assumptions in the application of the Black-Scholes option-pricing model. The Company has determined that the best measure of expected volatility is based on the historical weekly volatility of the Company’s Common Stock. Historical volatility factors utilized in the Company’s Black-Scholes computations for options granted during the years ended December 31, 2016, 2015 and 2014 ranged from 65% to 116%. The Company has elected to estimate the expected life of an award based upon the SEC approved “simplified method” noted under the provisions of Staff Accounting Bulletin No. 110. The expected term used by the Company to value the grants issued in 2016, 2015 and 2014 as computed by this method was 5.17 years. The effect of the difference between the actual historical expected life and the simplified method was immaterial. The interest rate used is the risk-free interest rate and is based upon U.S. Treasury rates appropriate for the expected term. Interest rates used in the Company’s Black-Scholes calculations were 2.6% for the years ended December 31, 2016, 2015 and 2014. Dividend yield is zero as the Company does not expect to declare any dividends on the Company’s common shares in the foreseeable future.
In addition to the key assumptions used in the Black-Scholes model, the estimated forfeiture rate at the time of valuation is a critical assumption. The Company has estimated an annualized forfeiture rate of approximately 0% for corporate officers, 4.1% for members of the Board of Directors and 6.0% for all other employees. The Company reviews the expected forfeiture rate annually to determine if that percent is still reasonable based on historical experience.
Income Taxes.The Company accounts for income taxes in accordance with ASC 740, “Accounting for Income Taxes.”Deferred income taxes are recognized for the tax consequences related to temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for tax purposes at each year-end, based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. A valuation allowance is established when necessary based on the weight of available evidence, if it is considered more likely than not that all or some portion of the deferred tax assets will not be realized. Income tax expense is the sum of current income tax plus the change in deferred tax assets and liabilities.
ASC 740-10 requires a company to first determine whether it is more-likely-than-not (defined as a likelihood of more than fifty percent) that a tax position will be sustained based on its technical merits as of the reporting date, assuming that taxing authorities will examine the position and have full knowledge of all relevant information. A tax position that meets this more-likely-than-not threshold is then measured and recognized at the largest amount of benefit that is greater than fifty percent likely to be realized upon effective settlement with a taxing authority.
We recognize and measure uncertain tax positions in accordance with U.S. GAAP, pursuant to which we only recognize the tax benefit from an uncertain tax position if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. Any tax benefits recognized in the consolidated financial statements from such positions are then measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate settlement. We report a liability for unrecognized tax benefits resulting from uncertain tax positions taken or expected to be taken in a tax return. U.S. GAAP further requires that a change in judgment related to the expected ultimate resolution of uncertain tax positions be recognized in earnings in the quarter of such change. We recognize interest and penalties, if any, related to unrecognized tax benefits in income tax expense.
We file annual income tax returns in multiple taxing jurisdictions around the world. A number of years may elapse before an uncertain tax position is audited and finally resolved. While it is often difficult to predict the final outcome or the timing of resolution of any particular uncertain tax position, we believe that our analysis of income tax reserves reflects the most likely outcome. We adjust these reserves, if any, as well as the related interest, in light of changing facts and circumstances. Settlement of any particular position could require the use of cash.
Significant judgment is required in evaluating the Company’s uncertain tax positions and determining the Company’s provision for income taxes. No assurance can be given that the final tax outcome of these matters will not be different from that which is reflected in the Company’s historical income tax provisions and accruals. The Company adjusts these items in light of changing facts and circumstances. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made.
The Internal Revenue Code (the “Code”) limits the availability of certain tax credits and net operating losses that arose prior to certain cumulative changes in a corporation’s ownership resulting in a change of control of the Company. The Company’s use of its net operating loss carryforwards and tax credit carryforwards will be significantly limited because the Company believes it underwent “ownership changes,” as defined under Section 382 of the Internal Revenue Code, in 1991, 1995, 2000, 2003, 2004, 2011 and 2012, though the Company has not performed a study to determine the limitation. The Company has reduced its deferred tax assets to zero relating to its federal and state research credits because of such limitations. The Company continues to disclose the tax effect of the net operating loss carryforwards at their original amount as the actual limitation has not yet been quantified. The Company has also established a full valuation allowance for substantially all deferred tax assets due to uncertainties surrounding its ability to generate future taxable income to realize these assets. Since substantially all deferred tax assets are fully reserved, future changes in tax benefits will not impact the effective tax rate. Management periodically evaluates the recoverability of the deferred tax assets. If it is determined at some time in the future that it is more likely than not that deferred tax assets will be realized, the valuation allowance would be reduced accordingly at that time.
Fair-Value Measurements.The Company accounts for fair value measurements in accordance with ASC 820, “Fair Value Measurements and Disclosures”, which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.
ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under ASC 820 are described below:
| Level 1 | Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. |
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| Level 2 | Applies to assets or liabilities for which there are inputs other than quoted prices included within Level 1 that are observable for the asset or liability such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data. |
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| Level 3 | Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (supported by little or no market activity). |
Assessing the significance of a particular input to the fair value measurement requires judgment, considering factors specific to the asset or liability. Determining whether a fair value measurement is based on Level 1, Level 2, or Level 3 inputs is important because certain disclosures are applicable only to those fair value measurements that use Level 3 inputs. The use of Level 3 inputs may include information derived through extrapolation or interpolation which involves management assumptions.
For a detailed discussion on the application of these and other accounting policies, see Note 2 in the Notes to the Consolidated Financial Statements.
Results of Operations
This management’s discussion and analysis of financial condition and results of operations should be read in conjunction with the consolidated financial statements and related notes contained elsewhere in this Annual Report.
Comparison of Results for Fiscal Years Ended December 31, 2016, 2015 and 2014
Product Revenue
Net Product Revenue (dollars in thousands) | Year Ended December 31, 2016 | | $ Change | | % Change | | | Year Ended December 31, 2015 | | | $ Change | | % Change | | | Year Ended December 31, 2014 | |
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| Software and royalties | $ | 857 | | | | (744 | ) | | (46)% | | | $ | 1,601 | | | $ | 288 | | 22 | % | | $ | 1,313 | |
| Percentage of total net product revenue | | 69 | % | | | | | | | | | | 73 | % | | | | | | | | | 80 | % |
| Hardware and consumables | $ | 68 | | | | 34 | | | 100% | | | $ | 34 | | | $ | (76 | ) | (69) | % | | $ | 110 | |
| Percentage of total net product revenue | | 5 | % | | | | | | | | | | 2 | % | | | | | | | | | 7 | % |
| Services | $ | 324 | | | | (233 | ) | | (42)% | | | $ | 557 | | | $ | 346 | | 164 | % | | $ | 211 | |
| Percentage of total net product revenue | | 26 | % | | | | | | | | | | 25 | % | | | | | | | | | 13 | % |
| Total net product revenue | $ | 1,249 | | | | (943 | ) | | (43)% | | | $ | 2,192 | | | $ | 558 | | 34 | % | | $ | 1,634 | |
Software and royalty revenue decreased 46% or approximately $744,000 during the year ended December 31, 2016 as compared to the corresponding period in 2015. This decrease is due to lower project related sales of our identity management software of approximately $542,000, lower sales of boxed identity management software sold through our distribution channel of approximately $93,000, lower royalty revenue of approximately $84,000 and lower law enforcement project revenue of approximately $25,000.
Software and royalty revenue increased 22% or approximately $288,000 during the year ended December 31, 2015 as compared to the corresponding period in 2014. This increase is due to the recognition of identification software license revenue principally attributable to two significant customers and to a lesser extent identification software royalties and lower law enforcement project related revenue, offset by lower sales of boxed identity management software sold through our distribution channel.
Revenue from the sale of hardware and consumables increased 100% or approximately $34,000 during the year ended December 31, 2016 as compared to the corresponding period in 2015. This increase resulted from higher sales of hardware and consumables in project solutions.
During the 2015 period, revenue from the sale of hardware and consumables decreased 69% or approximately $76,000 as compared to the corresponding period in 2014. This decrease resulted from lower revenues from project solutions containing hardware and consumable components.
Services revenue is comprised primarily of software integration services, system installation services and customer training. Such revenue decreased 42% or approximately $233,000 during the year ended December 31, 2016 as compared to the corresponding period in 2015,due primarily to the completion of the service element in identity management project solutions in the 2015 period.
Services revenue increased 164% or approximately $346,000 during the year ended December 31, 2015 as compared to the corresponding period in 2014, dueprimarily to the completion of the service elements in certain identity management project solutions.
We believe that the period-to-period fluctuations of identity management software revenue in project-oriented solutions are largely due to the timing of government procurement with respect to the various programs we are pursuing. Although no assurances can be given, based on management’s current visibility into the timing of potential government procurements and potential partnerships and current pilot programs, we believe that we will see an increase in government procurement and implementations with respect to identity management initiatives during 2017; however, government procurement initiatives, implementations and pilots are frequently delayed and extended, as was the case in the year ended December 31, 2016, and we cannot predict the timing of such initiatives.
During the year ended December 31, 2016, we continued to accelerate our efforts to move the Biometric Engine into cloud and mobile markets, and expanded our end-user market into non-government sectors including commercial, consumer and healthcare applications. In November 2016, we introduced our new GoVerifyID Enterprise suite for customers that want to add biometric identity verification to their Microsoft infrastructure. While we anticipated results from these initiatives during the 2016 fiscal year, many of those initiatives were delayed to 2017. As a result, we anticipate that we will see positive developments from these efforts beginning in the first half of 2017, which management believes should help us to begin to smooth out our period-to-period fluctuations in revenue and enable us to provide better visibility into the timing of future revenues.
Maintenance Revenue
Net Maintenance Revenue (dollars in thousands) | Year Ended December 31, 2016 | | $ Change | | % Change | | Year Ended December 31, 2015 | | $ Change | | % Change | | Year Ended December 31, 2014 | |
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| Maintenance Revenue | | $ | 2,563 | | | | (14 | ) | | | (1)% | | | $ | 2,577 | | | $ | 52 | | | | 2 | % | | $ | 2,525 | |
Maintenance revenue was approximately $2,563,000 for the year ended December 31, 2016, as compared to approximately $2,577,000 and $2,525,000 for the corresponding periods in 2015 and 2014, respectively. For the year ended December 31, 2016, identity management maintenance revenue was approximately $1,181,000 as compared to $1,114,000 for the comparable period in 2015. The increase in identity management maintenance revenue of approximately $67,000 reflects the expansion of our installed base. Law enforcement maintenance revenue was approximately $1,382,000 for the twelve months ended December 2016 as compared to $1,463,000 for the comparable period in 2015. This decrease is primarily due to the expiration of certain law enforcement maintenance contracts.
For the year ended December 31, 2015, maintenance revenue increased approximately $52,000 as compared to the comparable period in 2014 due primarily the expansion on the Company’s identity management installed base.
We anticipate growth of our maintenance revenue through the retention of existing customers combined with the continued expansion of our installed base resulting from the completion of project-oriented work, however we cannot predict the timing of this anticipated growth.
Cost of Product Revenue
Cost of Product Revenue (dollars in thousands) | | Year Ended December 31, 2016 | | | $ Change | | % Change | | | Year Ended December 31, 2015 | | | $ Change | | | % Change | | | Year Ended December 31, 2014 | |
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| Software and royalties | | $ | 78 | | | | (11 | ) | (12% | ) | | $ | 89 | | | $ | 23 | | | | 35 | % | | $ | 66 | |
| Percentage of software and royalty product revenue | | | 9% | | | | | | | | | | 6 | % | | | | | | | | | | | 5 | % |
| Hardware and consumables | | $ | 43 | | | | (2 | ) | (4% | ) | | $ | 45 | | | $ | (46 | ) | | | (51) | % | | $ | 91 | |
| Percentage of hardware and consumables product revenue | | | 63 | % | | | | | | | | | 132 | % | | | | | | | | | | | 83 | % |
| Services | | $ | 122 | | | | (861 | ) | (88% | ) | | $ | 983 | | | $ | 883 | | | | 883 | % | | $ | 100 | |
| Percentage of services product revenue | | | 39 | % | | | | | | | | | 176 | % | | | | | | | | | | | 47 | % |
| Total cost of product revenue | | $ | 243 | | | | (874 | ) | (78% | ) | | $ | 1,117 | | | $ | 860 | | | | 335 | % | | $ | 257 | |
| Percentage of total product revenue | | | 20 | %
| | | | | | | | | 51 | % | | | | | | | | | | | 16 | % |
The cost of software and royalty product revenue decreased 12% or approximately $11,000 during the year ended December 31, 2016 as compared to the corresponding period in 2015. The cost of software and royalty revenue increased approximately $23,000 during the year ended December 31, 2015 as compared to the corresponding period in 2014. This increase is due primarily to increases in third party software costs attributable to higher sales of software. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third party software license content included in product sales during a given period.
The cost of product revenue for our hardware and consumable sales during the year ended December 31, 2016 decreased approximately $2,000 as compared to the corresponding period in 2015 despite higher hardware and consumable revenue of approximately $34,000 primarily due to the 2015 period containing approximately $21,000 in hardware equipment written off due to substantial doubt as to recoverability.During the year ended December 31, 2015, our cost of product revenue for our hardware and consumable sales decreased by approximately $46,000,as compared to the corresponding period in 2014, primarily due to increased sales of hardware and consumable during the year ended December 31, 2015.
Cost of services revenue decreased 88% or approximately $861,000 during the year ended December 31, 2016 as compared to the corresponding period in 2015. This decrease reflects higher professional service revenue of approximately $322,000 due to the positive impact of non-recurring revenue received from one customer in the 2015 period combined with higher level and more costly service resources utilized in the generation of such non-recurring revenue during the year ended December 31, 2015 as compared to the corresponding period in 2016. Also contributing to this decrease was the write-off of $261,000 in capitalized labor costs due to doubts as to the recoverability of such costs in the 2015 period. Costs of service revenue can vary depending upon the complexity of the project solution and the mix of labor resources utilized to complete the service element.
Cost of services revenue increased 833% or approximately $883,000 during the year ended December 31, 2015 as compared to the corresponding period in 2014. This uncharacteristic increase reflects higher professional service revenue of approximately $322,000 due to the positive impact of non-recurring revenue received from one customer in the 2015 period combined with higher level and more costly service resources utilized in the generation of such non-recurring revenue during the year ended December 31, 2015 as compared to the corresponding period in 2014. Also contributing to this uncharacteristic increase is the write-off of $261,000 in capitalized labor costs due to doubts as to the recoverability of such costs. Costs of service revenue can vary depending upon the complexity of the project solution and the mix of labor resources utilized to complete the service element.
Cost of Maintenance Revenue
Maintenance cost of revenue (dollars in thousands) | | Year Ended December 31, 2016 | | $ Change | | % Change | | Year Ended December 31, 2015 | | $ Change | | % Change | | | Year Ended December 31, 2014 | |
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| Total maintenance cost of revenue | | $ | 827 | | $ | — | | | 0 | % | $ | 827 | | $ | 92 | | (13 | )% | | $ | 735 | |
| Percentage of total maintenance revenue | | | 32 | % | | | | | | | | 32 | % | | | | | | | | 29 | % |
Cost of maintenance revenue increased 13% or approximately $92,000 during the year ended December 31, 2015 as compared to the corresponding period in 2014 resulting principally from higher departmental expenses driven primarily by headcount increases for the year ended December 31, 2015 as compared to the corresponding period in 2014.
Product Gross Profit
Product gross profit (dollars in thousands) | Years Ended December 31, 2016 | | | Years Ended December 31, 2015 | | | Years Ended December 31, 2014 |
| | | | | | | | |
| Software and royalties | $779 | $(733) | (48)% | $1,512 | $265 | 21% | $1,247 |
| Percentage of software and royalty product revenue | 91% | | | 94% | | | 95% |
| Hardware and consumables | $25 | $36 | 327% | $(11) | $(30) | (158)% | $19 |
| Percentage of hardware and consumables product revenue | 37% | | | (32)% | | | 17% |
| Services | $202 | $628 | 147% | $(426) | $(537) | (484)% | $111 |
| Percentage of services product revenue | 61% | | | (77)% | | | 53% |
| Total product gross profit | $1,006 | $(69)
| (6)% | $1,075 | $(302) | (22)% | $1,377 |
| Percentage of total product revenue | 81% | | | 49% | | | 84% |
Software and royalty gross profit decreased 48% or approximately $733,000 for the year ended December 31, 2016, as compared to the corresponding period in 2015,due primarily to lower software and royalty product revenue of approximately $744,000. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third party software license content included in product sales during a given period.
Software and royalty gross profit increased 21% or approximately $265,000 for the year ended December 31, 2015, as compared to the corresponding period in 2014,due primarily to higher software and royalty product revenue of approximately $288,000. In addition to changes in costs of software and royalty product revenue caused by revenue level fluctuations, costs of products can vary as a percentage of product revenue from period to period depending upon level of software customization and third party software license content included in product sales during a given period.
Hardware and consumables gross profit increased approximately $36,000 for the year ended December 31, 2016, as compared to the 2015 period.This increase resulted from higher sales of hardware and consumables in project solutions of approximately $34,000 combined with corresponding lower cost of hardware and consumables product revenue of $2,000 for the year ended December 31, 2016 as compared to the corresponding period in 2015.
Hardware and consumables gross profit decreased approximately $30,000 for the year ended December 31, 2015, as compared to the 2014 period.This decrease resulted from lower sales of hardware and consumables in project solutions of approximately $76,000 combined with corresponding lower cost of hardware and consumables product revenue of $66,000 for the year ended December 31, 2015 as compared to the corresponding period in 2014.
Services gross profit increased 147% or approximately $628,000 during the year ended December 31, 2016, as compared to the corresponding period in 2015, due to lower service revenue of approximately $233,000 combined with lower cost of service revenue of approximately $861,000 for the year ended December 31, 2016 as compared to the corresponding period in 2015. The decrease in service revenue and uncharacteristically high cost of service revenue in the 2015 period reflect the impact of non-recurring revenue received from one customer in the 2015 period combined with significant costs incurred from implementation challenges. The Company’s contract with this one customer in the 2015 period also included software product revenue of approximately $440,000, offset by minimal costs. Also contributing to the services gross profit increase was the write-off of $261,000 in capitalized labor costs due to doubts as to the recoverability of such costs in the 2015 period.
Services gross profit decreased 484% or approximately $537,000 during the year ended December 31, 2015, as compared to the corresponding period in 2014, due primarily to higher service revenue of approximately $346,000 offset by higher cost of service revenue of approximately $622,000 for the year ended December 31, 2015 as compared to the corresponding period in 2014. The increase in service revenue and uncharacteristically high cost of service revenue reflects the impact of non-recurring revenue received from one customer in the 2015 period due to significant costs incurred from implementation challenges. The Company’s contract with this one customer in the 2015 period also included software product revenue of approximately $440,000, offset by minimal costs. Also contributing to the services gross profit decrease was the write-off of $261,000 in capitalized labor costs due to doubts as to the recoverability of such costs.
Maintenance Gross Profit
Maintenance gross profit (dollars in thousands) | Year Ended December 31, 2016 | | $ Change | | % Change | | Year Ended December 31, 2015 | | $ Change | | % Change | | Year Ended December 31, 2014 | |
| | | | | | | | | | | | | | | |
| Total maintenance gross profit | $ | 1,736 | | | (14 | )
| (1 | )% | | $ | 1,750 | | | $ | (40 | ) | (2 | )% | | $ | 1,790 | |
| Percentage of total maintenance revenue | | 68 | % | | | | | | | | 68 | % | | | | | | | | | 71 |
|
Gross margins related to maintenance revenue were 68% for the years ended December 31, 2016 and 2015, respectively. The decrease of approximately $14,000 for the 2016 year as compared to the corresponding 2015 period primarily resulted from lower maintenance revenue of approximately $14,000 for the year ended December 31, 2016 as compared to the corresponding period in 2015. Gross margins related to maintenance revenue were 68% and 71%, respectively, for the years ended December 31, 2015 and 2014. The dollar decrease of approximately $40,000 for the 2015 year as compared to the corresponding 2014 period primarily resulted from higher maintenance revenue of approximately $52,000 for the year ended December 31, 2015 as compared to the corresponding period in 2014 offset by higher cost of maintenance revenue of approximately $92,000 for the 2015 year as compared to the 2014 year.
Operating Expense
Operating Expense (dollars in thousands) | | Year Ended December 31, | | | $ | | | % | | | Year Ended December 31, | | | $ | | | % | | | Year Ended December 31, | |
| | 2016 | | | Change | | | Change | | | 2015 | | | Change | | | Change | | | 2014 | |
| | | | | | | | | | | | | | | | | | | | | | |
| General and administrative | | $ | 3,722 | | | $ | 285 | | | | 8 | % | | $ | 3,437 | | | $ | (381 | )
| | | (10) | % | | $ | 3,818 | |
| Percentage of total net revenue | | | 98 | % | | | | | | | | | | | 72 | % | | | | | | | | | | | 92 | % |
| Sales and marketing | | $ | 3,021 | | | $ | 230 | | | | 8 | % | | $ | 2,791 | | | $ | 320 | | | | 13 | % | | $ | 2,471 | |
| Percentage of total net revenue | | | 79 | % | | | | | | | | | | | 59 | % | | | | | | | | | | | 59 | % |
| Research and development | | $ | 5,332 | | | $ | 689 | | | | 15 | % | | $ | 4,643 | | | $ | 148 | | | | 3 | % | | $ | 4,495 | |
| Percentage of total net revenue | | | 140 | % | | | | | | | | | | | 97 | % | | | | | | | | | | | 108 | % |
| Depreciation and amortization | | $ | 129 | | | $ | (35 | ) | | | (22) | % | | $ | 164 | | | $ | (15 | )
| | | (8) | % | | $ | 179 | |
| Percentage of total net revenue | | | 3 | % | | | | | | | | | | | 3 | % | | | | | | | | | | | 4 | % |
General and Administrative Expense
General and administrative expense is comprised primarily of salaries and other employee-related costs for executive, financial, and other infrastructure personnel. General legal, accounting and consulting services, insurance, occupancy and communication costs are also included with general and administrative expense.
The dollar increase of approximately $285,000 in general and administrative expense for the year ended December 31, 2016, as compared to the corresponding period in 2015, is comprised of the following major components:
●
Increase in personnel related expense of approximately $331,000 due to head count increases;
●
Decrease in professional fees including consulting services and contract services of approximately $101,000due primarily to decreases in patent related expenses of approximately $134,000, decreases in legal fees of approximately $14,000, decreases in various consulting, contract services and corporate expenses of approximately $34,000, offset by increases in public/inventory relation fees of approximately $35,000 and auditing fees of approximately $46,000;
●
Increase in stock-based compensation expense of approximately $96,000; and
●
Decrease in travel, insurances, licenses, dues, rent, and office related costs of approximately $41,000.
The dollar decrease of approximately $381,000 in general and administrative expense for the year ended December 31, 2015, as compared to the corresponding period in 2014, is comprised of the following major components:
●
Decrease in professional fees including consulting services and contract services of approximately $450,000due primarily to decreases in professional services and investor relation fees of approximately $108,000, decreases in legal fees of approximately $360,000, decreases in various consulting and contract services of approximately $42,000, decrease in Board of Director fees of approximately $23,000, offset by increases in patent expenses of approximately $71,000 and auditing fees of approximately $12,000;
●
Decrease in personnel related expense of approximately $47,000 due to head count decreases;
●
Increase in stock-based compensation expense of approximately $68,000; and
●
Increase in travel, insurances, licenses, dues, rent, and office related costs of approximately $48,000.
We continue to focus our efforts on achieving additional future operating efficiencies by reviewing and improving upon existing business processes and evaluating our cost structure. We believe these efforts will allow us to continue to gradually decrease our level of general and administrative expense expressed as a percentage of total revenue.
Sales and Marketing Expense
Sales and marketing expense consists primarily of the salaries, commissions, other incentive compensation, employee benefits and travel expense of our sales, marketing, and business development.
The dollar increase in sales and marketing expense of approximately $230,000during the year ended December 31, 2016, as compared to the corresponding period in 2015, is primarily comprised of the following major components:
●
Increase in personnel related expense of approximately $49,000 due primarily to increases in headcount;
●
Increase in professional services of approximately $195,000 resulting primarily from increased utilization of sales consultants;
●
Increase in contract services and office related expense of approximately $50,000;
●
Decrease in our Mexico sales office related expense of approximately $65,000 due primarily to lower contractor utilization for the year ended December 31, 2016 as compared to the comparable period in 2015 due to the completion of certain identity management projects;
●
Decrease in travel and trade show expense and other selling expense of approximately $52,000; and
●
Increase in stock-based compensation of approximately $53,000.
The dollar increase in sales and marketing expense of approximately $320,000during the year ended December 31, 2015, as compared to the corresponding period in 2014, is primarily comprised of the following major components:
●
Increase in personnel related expense of approximately $173,000 due primarily to severance charges and increases in headcount;
●
Increase in professional services of approximately $31,000 resulting primarily from the modification of certain warrants issued to sales consultants;
●
Decrease in contract services, travel and trade show expense and office related expense of approximately $18,000;
●
Increase in our Mexico sales office related expense of approximately $64,000 due primarily to higher contractor utilization combined with lower levels of capitalized contractor fees for the year ended December 31, 2015 as compared to the comparable period in 2014 due to the completion of certain identity management projects;
●
Increase in contract services and other selling expense of approximately $46,000 offset by decreases in office related expense of approximately $5,000; and
●
Increase in stock-based compensation of approximately $29,000.
We anticipate that the level of expense incurred for sales and marketing during the year ended December 31, 2016 will increase as we pursue large project solution opportunities.
Research and Development Expense
Research and development expense consists primarily of salaries, employee benefits and outside contractors for new product development, product enhancements, custom integration work and related facility costs.
Research and development expense increased approximately $689,000for the year ended December 31, 2016, as compared to the corresponding period in 2015, due primarily to the following major components:
●
Increase in personnel expenditures of approximately $702,000 due to the full year effect of several headcount increases in mid-2015 combined with lower levels of capitalized labor for the year ended December 31, 2016 as compared to the comparable period in 2015 due to the completion of certain identity management projects;
●
Increase in contractor fees and contract services of approximately $51,000;
●
Increase in stock-based compensation of approximately$48,000; and
●
Decrease in office related expense and travel of approximately $112,000.
Research and development expense increased approximately $148,000for the year ended December 31, 2015, as compared to the corresponding period in 2014, due primarily to the following major components:
●
Increase in personnel expenditures of approximately $390,000 due to headcount increases combined with lower levels of capitalized labor for the year ended December 31, 2015 as compared to the comparable period in 2014 due to the completion of certain identity management projects;
●
Decrease in contractor fees and contract services of approximately $382,000;
●
Increase in stock-based compensation of approximately$27,000; and
●
Increase in office related expense and travel of approximately $113,000.
Our level of expenditures in research and development reflects our belief that to maintain our competitive position in markets characterized by rapid rates of technological advancement, we must continue to invest significant resources in new systems and software as well as continue to enhance existing products.
Depreciation and Amortization
During the year ended December 31, 2016, depreciation and amortization expense decreased approximately $35,000 as compared to the corresponding period in 2015. During the year ended December 31, 2015, depreciation and amortization expense decreased approximately $15,000 as compared to the corresponding period in 2014. The relatively small amount of depreciation and amortization in both periods is a reflection of the relatively small property and equipment carrying value.
Interest Expense (Income), Net
For the year ended December 31, 2016, we recognized interest income of $3,000 and interest expense of $248,000. For the year ended December 31, 2015, we recognized interest income of $7,000 and interest expense of $454,000. For the year ended December 31, 2014, we recognized interest income of $29,000 and interest expense of $445,000.
Interest expense for the year ended December 31, 2016 contains the following components:
●
Approximately $48,000 of amortization expense of deferred financing fees related to the Lines of Credit;
●
Approximately $97,000 of amortization expense of recognized beneficial conversion feature related to the Lines of Credit borrowings;
●
Approximately $102,000 related to coupon interest on our 8% Line of Credit borrowings; and
Interest expense for the year ended December 31, 2015 contains the following components:
●
Approximately $53,000 of amortization expense of deferred financing fees related to the Lines of Credit;
●
Approximately $385,000 of amortization expense of recognized beneficial conversion feature related to the Lines of Credit borrowings;
●
Approximately $12,000 related to coupon interest on our 8% Line of Credit borrowings; and
●
Approximately $4,000 related to miscellaneous interest charges.
Interest expense for the year ended December 31, 2014 contains the following components:
●
Approximately $369,000 of amortization expense of deferred financing fees related to the Lines of Credit;
●
Approximately $56,000 of amortization expense of recognized beneficial conversion feature related to the Lines of Credit borrowings;
●
Approximately $19,000 related to coupon interest on our 7% related party convertible notes and 8% Line of Credit borrowings;
●
Approximately $1,000 related to miscellaneous interest charges;
●
Coupon interest of approximately $4,000 related to our Related Party Convertible Notes; and
●
Deferred financing fee amortization expense of approximately $218,000.
Other Income
For the year ended December 31, 2016, we recognized other income of approximately $201,000and other expense of $0. Other income for the year ended December 31, 2016 is comprised of approximately $200,000 from the write off of certain accrued expenses due the expiration of the legal statute of limitations on such liabilities.
For the year ended December 31, 2015, we recognized other income of approximately $145,000and other expense of $0. Other income for the year ended December 31, 2015 is comprised of approximately $46,000 relating to the litigation settlement of certain patent infringement matters in favor of the Company and approximately $99,000 from the recovery of a previously written-off accounts receivable.
For the year ended December 31, 2014, we recognized other income of approximately $297,000and other expense of $0. Other income for the year ended December 31, 2014 is comprised of approximately $223,000from the write off of certain accounts payable and accrued expenses due the expiration of the legal statute of limitations on such liabilities, approximately $35,000 relating to the litigation settlement of certain patent infringement matters in favor of the Company, approximately $37,000 from the return of an advertising deposit previously written off due to uncertainties regarding its return and $2,000 in miscellaneous receipts.
Income Tax Expense
During the year ended December 31, 2016, we recorded an expense of $21,000 from income taxes, as compared to an expense of $22,000 for the year ended December 31, 2015, and expense of $25,000 for the year ended December 31, 2014.
During the years ended December 31, 2016 and 2015, our expense for income taxes of $21,000 and 22,000, respectively, related to taxes on income generated in certain foreign jurisdictions offset by research and development tax credits generated in certain foreign jurisdictions.
We have incurred consolidated pre-tax losses during the years ended December 31, 2016, 2015 and 2014, and have incurred operating losses in all prior periods. Management has determined that it is more likely than not that a tax benefit from such losses will not be realized. Accordingly, we did not record a benefit for income taxes for these periods.
Liquidity, Capital Resources and Going Concern
Historically, our principal sources of cash have included customer payments from the sale of our products, proceeds from the issuance of common and preferred stock and proceeds from the issuance of debt, including our Lines of Credit (defined below). Our principal uses of cash have included cash used in operations, product development, payments relating to purchases of property and equipment and repayments of borrowings. We expect that our principal uses of cash in the future will be for product development including customization of identity management products for enterprise and consumer applications, further development of intellectual property, development of Software-as-a-Service (“SaaS”) capabilities for existing products as well as general working capital and capital expenditure requirements. We expect that, as our revenues grow, our sales and marketing and research and development expenses will continue to grow, albeit at a slower rate and, as a result, we will need to generate significant net revenues to achieve and sustain income from operations.
Reliance on Lines of Credit
In March 2013, the Company and Holder entered into the Goldman Line of Credit with available borrowings of up to $2.5 million. In March 2014, available borrowings under the Goldman Line of Credit were increased to an aggregate total of $3.5 million (the “Amendment”). Pursuant to the terms and conditions of the Amendment, the Holder had the right to convert up to $2.5 million of the outstanding balance of the Goldman Line of Credit into shares of the Company's Common Stock for $0.95 per share. Any remaining outstanding balance was convertible into shares of the Company's Common Stock for $2.25 per share.
As consideration for the initial Goldman Line of Credit, the Company issued a warrant to the Holder, exercisable for 1,052,632 shares of the Company’s Common Stock (the "Line of Credit Warrant"). The Goldman Line of Credit Warrant had a term of two years from the date of issuance and an exercise price of $0.95 per share. As consideration for entering into the Amendment, the Company issued to the Holder a second warrant, exercisable for 177,778 shares of the Company’s Common Stock (the “Amendment Warrant”). The Amendment Warrant expired on March 27, 2015 and had an exercise price of $2.25 per share.
The Company estimated the fair value of the Line of Credit Warrant using the Black-Scholes option pricing model using the following assumptions: term of two years, a risk-free interest rate of 2.58%, a dividend yield of 0%, and volatility of 79%. The Company recorded the fair value of the Line of Credit Warrant as a deferred financing fee of approximately $580,000 to be amortized over the life of the Goldman Line of Credit. The Company estimated the fair value of the Amendment Warrant using the Black-Scholes option pricing model using the following assumptions: term on one year, a risk-free interest rate of 2.58%, a dividend yield of 0% and volatility of 74%. The Company recorded the fair value of the Amendment Warrant as an additional deferred financing fee of approximately $127,000 to be amortized over the life of the Goldman Line of Credit.
During the years ended December 31, 2016 and 2015, the Company recorded an aggregate of approximately $48,000 and $53,000, respectively in deferred financing fee amortization expense which is recorded as a component of interest expense in the Company’s consolidated statements of operations.
In April 2014, the Company and the Holder entered into a further amendment to the Goldman Line of Credit to decrease the available borrowings to $3.0 million (the “Second Amendment”). Contemporaneous with the execution of the Second Amendment, the Company entered into a new unsecured line of credit with the Second Holder with available borrowings of up to $500,000 (the “$500K Line of Credit”), which amount was convertible into shares of the Company’s Common Stock for $2.25 per share. As a result of these amendments, total available borrowings under the Lines of Credit available to the Company remained unchanged at a total of $3.5 million. In connection with the Second Amendment, the Holder assigned and transferred to the Second Holder one-half of the Amendment Warrant.
In December 2014, the Company and the Holder entered into a further amendment to the Goldman Line of Credit to increase available borrowings to $5.0 million and extend the maturity date of the Goldman Line of Credit to March 27, 2017 (the “Third Amendment”). Also, as a result of the Third Amendment, the Holder had the right to convert up to $2.5 million outstanding principal, plus any accrued but unpaid interest (“Outstanding Balance”) into shares of the Company’s Common Stock for $0.95 per share, the next $500,000 Outstanding Balance into shares of Common Stock for $2.25 per share and any remaining outstanding balance thereafter into shares of Common Stock for $2.30 per share. The Third Amendment also modified the definition of a “Qualified Financing” to mean a debt or equity financing resulting in gross proceeds to the Company of at least $5.0 million.
In February 2015, as a result of the Series E Financing, the Company issued 1,978 shares of Series E Preferred to the Holder to satisfy $1,950,000 in principal borrowings under the Goldman Line of Credit plus approximately $28,000 in accrued interest. As a result of the Series E Financing, the Company’s borrowing capacity under the Goldman Line of Credit was reduced to $3,050,000 with the maturity date unchanged, and the $500K Line of Credit was terminated in accordance with its terms.
In March 2016, the Company and the Holder entered into a fourth amendment to the Goldman Line of Credit (the “Fourth Amendment”) solely to (i) increase available borrowings to $5.0 million; (ii) extend the maturity date to June 30, 2017, and (iii) provide for the conversion of the outstanding balance due under the terms of the Goldman Line of Credit into that number of fully paid and non-assessable shares of the Company’s Common Stock as is equal to the quotient obtained by dividing the outstanding balance by $1.25.
Contemporaneous with the execution of the Fourth Amendment, the Company entered into a new $500K Line of Credit with available borrowings of up to $500,000 with the Second Holder, which replaced the original $500K Line of Credit that terminated as a result of the consummation of the Series E Financing. Similar to the Fourth Amendment, the new $500K Line of Credit with the Second Holder matures on June 30, 2017, and provides for the conversion of the outstanding balance due under the terms of the $500K Line of Credit into that number of fully paid and non-assessable shares of the Company’s Common Stock as is equal to the quotient obtained by dividing the outstanding balance by $1.25.
On December 27, 2016, in connection with the consummation of the Series G Financing, the Company and Holder agreed to enter into the Fifth Amendment (the “Line of Credit Amendment”) to the Goldman Line of Credit to provide the Company with the ability to borrow up to $5.5 million under the terms of the Goldman Line of Credit. In addition, the Maturity Date, as defined in the Goldman Line of Credit was amended to be December 31, 2017. The Line of Credit Amendment was executed on January 23, 2017.
In addition, on January 23, 2017, the Company and the Second Holder amended the $500K Line of Credit to extend the maturity date thereof to December 31, 2017. No other amendments were made to the $500K Line of Credit.
The Company evaluated the Lines of Credit and determined that the instruments contain a contingent beneficial conversion feature, i.e. an embedded conversion right that enables the holder to obtain the underlying Common Stock at a price below market value. The beneficial conversion feature is contingent as the terms of the conversion do not permit the Company to compute the number of shares that the holder would receive if the contingent event occurs (i.e. future borrowings under the Line of Credit). The Company has considered the accounting for this contingent beneficial conversion feature using the guidance in ASC 470, Debt. The guidance in ASC 470 states that a contingent beneficial conversion feature in an instrument shall not be recognized in earnings until the contingency is resolved. The beneficial conversion features of future borrowings under the Line of Credit will be measured using the intrinsic value calculated at the date the contingency is resolved using the conversion price and trading value of the Company’s Common Stock at the date the Lines of Credit were issued (commitment date). Pursuant to borrowings made during the 2015 year, the Company recognized approximately $146,000 in beneficial conversion feature as debt discount. As a result of the retirement of all amounts outstanding under the Lines of Credit in 2015, the Company recognized all remaining unamortized debt discount of approximately $385,000 as a component of interest expense during the three months ended March 31, 2015. As there was $2,650,000 in borrowings under the Lines of Credit during the year ended December 31, 2016, the Company recorded approximately $146,000 in debt discount attributable to the beneficial conversion feature during the year ended December 31, 2016. During the year ended December 31, 2016, the Company accreted approximately $97,000, respectively, of debt discount as a component of interest expense.
The following table sets forth the Company’s activity under its Lines of Credit for the periods indicated:
Balance outstanding under Lines of Credit as of December 31, 2014 | $1,550
|
Borrowing under Lines of Credit | 750
|
Repayments | (350)
|
Exchange of Indebtedness for Series E Preferred Stock | (1,950)
|
Balance outstanding under Lines of Credit as of December 31, 2015 | $—
|
Borrowings under Lines of Credit | 2,650
|
Repayments | —
|
Balance outstanding under Lines of Credit as of December 31, 2016 | $2,650
|
We currently do not anticipate generating sufficient revenue and profit to repay these borrowings in full when due. Therefore, unless the holders of the notes issued under the Lines of Credit convert any outstanding balance into shares of Common Stock, we will need to seek an extension of the maturity date of the Lines of Credit on or before December 31, 2017. If remaining available borrowings under our Lines of Credit are insufficient or we are unable to extend the maturity date of the Lines of Credit, we will be required to raise additional capital through debt and/or equity financing to continue operations. No assurances can be given that any such financing will be available to us on favorable terms, if at all. At this time, we do not have any commitments for alternative financing or for an extension of the maturity date of the Lines of Credit.
Going Concern and Management's Plan
At December 31, 2016, we had a working capital deficit of approximately $3.0 million, compared to a working capital surplus of approximately $1.4 million at December 31, 2015. Our principal sources of liquidity at December 31, 2016 consisted of available borrowings under our Lines of Credit of $3.35 million, and approximately $1.68 million of cash and cash equivalents, compared to approximately $3.35 million in cash and cash equivalents at December 31, 2015.
Considering our projected cash requirements, our available cash will be insufficient to repay borrowings under our Lines of Credit in full when due at December 31, 2017, and may be insufficient to satisfy our cash requirements for the next twelve months from the date of this report, in the event our projected revenue opportunities fail to materialize as currently anticipated. These factors raise substantial doubt about our ability to continue as a going concern. To address our working capital requirements, management will continue to access available borrowings under our existing Lines of Credit, and will continue to seek additional equity and/or debt financing through the issuance of additional debt and/or equity securities. In addition, management intends to seek an extension of the maturity date of the Lines of Credit on or before December 31, 2017. There are currently no formal committed financing arrangements to support our projected cash shortfall, including commitments to purchase additional debt and/or equity securities, or extend the maturity dates of the Lines of Credit.
In view of the matters described in the preceding paragraph, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the Company, which, in turn, is dependent upon the Company’s ability to continue to raise capital and generate positive cash flows from operations. However, the Company operates in markets that are emerging and highly competitive. There is no assurance that the Company will be able to obtain additional capital, operate at a profit or generate positive cash flows in the future.
The consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.
Operating Activities
Net cash used in operating activities was $7,911,000 during the year ended December 31, 2016 as compared to $7,183,000 during the year ended December 31, 2015 and $6,422,000 during the year ended December 31, 2014. During the year ended December 31, 2016, net cash used in operating activities consisted of net loss of $9,527,000 and an increase in operating cash from changes in assets and liabilities of $383,000. We also incurred $1,235,000 in net non-cash costs including $1,162,000 in stock based compensation, $145,000 in debt issuance cost amortization and debt discount amortization, and $129,000 in depreciation and amortization offset by $200,000 of non-cash income primarily from the write-off of certain accrued expenses due to the expiration of the statute of limitations. During the year ended December 31, 2016, we generated cash of $35,000 from reductions in current assets and generated cash of $348,000 through increases in current liabilities and deferred revenues, excluding debt.
During the year ended December 31, 2015, net cash used in operating activities consisted of net loss of $8,534,000 and a decrease in operating cash from changes in assets and liabilities of $572,000. We also incurred $1,923,000 in net non-cash costs including $1,040,000 in stock based compensation (which includes $80,000 in warrants modified in lieu of cash as compensation), $438,000 in debt issuance cost amortization and debt discount amortization, $281,000 related to the write down of capitalized labor inventory to net realizable value, and $164,000 in depreciation and amortization. During the year ended December 31, 2015, we generated cash of $523,000 from reductions in current assets and used cash of $1,095,000 through reductions in current liabilities and deferred revenues, excluding debt.
During the year ended December 31, 2014, net cash used in operating activities consisted of net loss of $7,940,000 and an increase in operating cash from changes in assets and liabilities of $228,000. We also incurred $1,290,000 in net non-cash costs including $909,000 in stock based compensation (which includes $53,000 in warrants issued in lieu of cash as compensation), $426,000 in debt issuance cost amortization and debt discount amortization, and $179,000 in depreciation and amortization offset by $224,000 of non-cash income primarily from the write-off of certain accounts payable and accrued expenses due to the expiration of the statute of limitations. During the year ended December 31, 2014, we used cash of $314,000 to fund increases in current assets and generated cash of $542,000 through increases in current liabilities and deferred revenues, excluding debt.
Investing Activities
Net cash used in investing activities was $49,000 for the year ended December 31, 2016, $87,000 for the year ended December 31, 2015 and $117,000 for the year ended December 31, 2014. For the year ended December 31, 2016, 2015 and 2014,we used cash to fund capital expenditures of computer equipment, software and furniture and fixtures.This level of equipment purchases resulted primarily from the replacement of older equipment.
Financing Activities
We generated cash of $6,195,000 from financing activities for the year ended December 31, 2016, as compared to $10,337,000for the year ended December 31, 2015 and $4,414,000 for the year ended December 31, 2014. During the year ended December 31, 2016, we generated cash of $2,000,000 from the Series F Financing offset by $21,000 in offering costs, and $1,625,000 from the Series G Financing, offset by $11,000 in offering costs, $3,000 from the exercise of 12,626 Common Stock options and $2,650,000 from borrowings under the Lines of Credit. We used cash of $51,000 for the payment of dividends on our Series B Preferred.
During the year ended December 31, 2015, we generated cash of $10,022,000 from the Series E Financing offset by $67,000 in offering costs, $33,000 from the exercise of 39,705 Common Stock options and $750,000 from borrowings under the Goldman Line of Credit offset by the repayment of $350,000 under the Goldman Line of Credit. We used cash of $51,000 for the payment of dividends on our Series B Preferred. During the year ended December 31, 2014, we generated cash of $2,848,000 from the exercise of 4,742,632 Common Stock warrants and $67,000 from the exercise of 98,617 Common Stock options. We also generated cash of $1,550,000 from the issuance of notes payable with warrants resulting from borrowing under the Goldman Line of Credit. We used cash of $51,000 for the payment of dividends on our Series B Preferred.
Debt
At December 31, 2016, we had approximately $2,528,000 in outstanding debt, net of unamortized debt discount of approximately $122,000 and in addition the Company owed approximately $102,000 in related accrued interest.
Contractual Obligations
Total contractual obligations and commercial commitments as of December 31, 2016 are summarized in the following table (in thousands):
| | |
| | | | | | |
| Operating lease obligations | $728 | $450 | $269 | $9 | $— |
| Notes payable under related party lines of credit | 2,650 | 2,650 | — | — | — |
| Total | $3,378 | $3,100 | $269 | $9 | $— |
Real Property Leases
Our corporate headquarters are located in San Diego, California where we occupy 9,927 square feet of office space. This facility is leased through October 2017 at a cost of approximately $18,000 per month. In addition to our corporate headquarters, we also occupied the following spaces at December 31, 2016:
●
1,508 square feet in Ottawa, Province of Ontario, Canada, at a cost of approximately $3,000 per month until the expiration of the lease on March 31, 2021. This lease was renewed in April 2016 for a five-year period ending on March 31, 2021. Renewal terms were substantially unchanged from the existing lease;
●
8,045 square feet in Portland, Oregon, at a cost of approximately $16,000 per month until the expiration of the lease on October 31, 2018; and
●
304 square feet of office space in Mexico City, Mexico, at a cost of approximately $3,000 per month, until the expiration of the lease on November 30, 2017.
In addition to the corporate headquarters lease in San Diego, California, we also lease space in Ottawa, Province of Ontario, Canada; and Mexico City, Mexico.
Stock-based Compensation
Stock-based compensation related to equity options and restricted stock has been classified as follows in the accompanying consolidated statements of operations (in thousands):
| | |
| | | | |
| Cost of revenue | $20 | $15 | $12 |
| General and administrative | 714 | 618 | 572 |
| Sales and marketing | 224 | 171 | 142 |
| Research and development | 204 | 156 | 130 |
| | | | |
| Total | $1,162 | $960 | $856 |
Off-Balance Sheet Arrangements
At December 31, 2016, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance, special purpose or variable interest entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we did not engage in trading activities involving non-exchange traded contracts. As a result, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships. We do not have relationships and transactions with persons or entities that derive benefits from their non-independent relationship with us or our related parties except as disclosed elsewhere in this Annual Report.
Recently Issued Accounting Pronouncements
From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (the “FASB”), or other standard setting bodies, which are adopted by us as of the specified effective date. Unless otherwise discussed, the Company’s management believes the impact of recently issued standards not yet effective will not have a material impact on the Company’s consolidated financial statements upon adoption. See Note 1 to these consolidated financial statements for a detailed discussion of recently issued accounting pronouncements.
Impact of Inflation
The primary inflationary factor affecting our operations is labor costs and we do not believe that inflation has materially affected earnings during the past four years. Substantial increases in costs and expenses, particularly labor and operating expenses, could have a significant impact on our operating results to the extent that such increases cannot be passed along to customers and end users.
| QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
A significant number of our contracts require payment in U.S. dollars. We therefore do not engage in hedging transactions to reduce our exposure to changes in currency exchange rates, although in the event any future contracts are denominated in a foreign currency, we may do so in the future. As a result, our financial results are not affected by factors such as changes in foreign currency exchange rates.
ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
Our consolidated financial statements as of and for the years ended December 31, 2016, 2015 and 2014 and the report of our independent registered public accounting firm are included in Item 15 of this Annual Report.
| CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
None.
(a) Evaluation 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 the effectiveness of the design and operations of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as of December 31, 2016. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective to ensure that information required to be disclosed in the reports submitted under the Securities and Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) in Internal Control—Integrated Framework.
(b) Management's Annual Report on Internal Control over Financial Reporting.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act). Our 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 of accounting principles generally accepted in the United States.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance of achieving their control objectives.
Our Chief Executive Officer and Chief Financial Officer evaluated the effectiveness of our internal control over financial reporting as of December 31, 2016. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) in Internal Control—Integrated Framework. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of December 31, 2016, our internal control over financial reporting was effective.
Mayer Hoffman McCann P.C., our independent registered public accounting firm that audited our consolidated financial statements included in this Annual Report on Form 10-K, has issued an attestation report on the effectiveness of our internal control over financial reporting, which report is included in Part IV below.
(c) Changes in Internal Controls over Financial Reporting.
The Company’s Chief Executive Officer and Chief Financial Officer have determined that there have been no changes, in the Company’s internal control over financial reporting during the period covered by this report identified in connection with the evaluation described in the above paragraph that have materially affected, or are reasonably likely to materially affect, Company’s internal control over financial reporting.
Not applicable.
PART III
| DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE |
The information required by this item will be set forth in our definitive proxy statement for our 2017 annual meeting of stockholders to be filed within 120 days after our fiscal year end and is incorporated in this report by reference.
The information required by this item will be set forth in our definitive proxy statement for our 2017 annual meeting of stockholders to be filed within 120 days after our fiscal year end and is incorporated in this report by reference.
ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDERS MATTERS |
The information required by this item will be set forth in our definitive proxy statement for our 2017 annual meeting of stockholders to be filed within 120 days after our fiscal year end and is incorporated in this report by reference.
ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE |
The information required by this item will be set forth in our definitive proxy statement for our 2017 annual meeting of stockholders to be filed within 120 days after our fiscal year end and is incorporated in this report by reference.
ITEM 14. | PRINCIPAL ACCOUNTING FEES AND SERVICES |
The information required by this item will be set forth in our definitive proxy statement for our 2017 annual meeting of stockholders to be filed within 120 days after our fiscal year end and is incorporated in this report by reference
PART IV
| EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
(a) | The following documents are filed as part of this Annual Report: |
Exhibit No. | | Description |
2.1 | | Agreement and Plan of Merger, dated October 27, 2005 (incorporated by reference to Annex A to the Company’s Definitive Proxy Statement on Schedule 14A, filed November 15, 2005). |
3.1 | | Certificate of Incorporation (incorporated by reference to Annex B to the Company’s Definitive Proxy Statement on Schedule 14A, filed November 15, 2005). |
3.2 | | Certificate of Amendment to Articles of Incorporation (incorporated by reference to Exhibit 3.1 to the Company's Current Report on Form 8-K, filed October 14, 2011). |
3.3 | | Amended and Restated Bylaws (incorporated by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K, filed February 16, 2017). |
3.4 | | Certificate of Designations, Preferences and Rights of the Series E Convertible Preferred Stock (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed February 2, 2015). |
3.5 | | Certificate of Designations, Preferences and Rights of the Series F Convertible Preferred Stock (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed September 9, 2016). |
3.6
| | Certificate of Designations, Preferences and Rights of the Series G Convertible Preferred Stock (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, filed December 30, 2016). |
3.7
| | Amendment No. 1 to the Certificate of Designations, Preferences and Rights of the Series E Convertible Preferred Stock (incorporated by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K, filed December 30, 2016). |
4.1 | | Form of Amendment to Warrant, dated March 21, 2012, (incorporated by reference to Exhibit 4.16 to the Company's Annual Report on Form 10-K, filed April 4, 2012). |
10.1 | | Employment Agreement, dated September 27, 2005, between the Company and S. James Miller (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed September 30, 2005). |
10.2 | | Form of Indemnification Agreement entered into by the Company with its directors and executive officers (incorporated by reference to Exhibit 10.4 to the Company’s Registration Statement on Form SB-2 (No. 333-93131), filed December 20, 1999, as amended). |
10.3 | | Amended and Restated 1999 Stock Plan Award (incorporated by reference to Appendix B of the Company’s Definitive Proxy Statement on Schedule 14A, filed November 21, 2007). |
10.4 | | Form of Stock Option Agreement (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed July 14, 2005). |
10.5 | | 2001 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 to the Company’s Quarterly Report on Form 10-QSB, filed November 14, 2001). |
10.6 | | Securities Purchase Agreement, dated September 25, 2007, by and between the Company and certain accredited investors (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed September 26, 2007). |
10.7 | | Office Space Lease between I.W. Systems Canada Company and GE Canada Real Estate Equity, dated July 25, 2008 (incorporated by reference to Exhibit 10.39 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.8 | | Form of Securities Purchase Agreement, dated August 29, 2008 by and between the Company and certain accredited investors (incorporated by reference to Exhibit 10.40 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.9 | | Change of Control and Severance Benefits Agreement, dated September 27, 2008, between Company and Charles Aubuchon (incorporated by reference to Exhibit 10.41 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.10 | | Change of Control and Severance Benefits Agreement, dated September 27, 2008, between Company and David Harding (incorporated by reference to Exhibit 10.42 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.11 | | First Amendment to Employment Agreement, dated September 27, 2008, between the Company and S. James Miller (incorporated by reference to Exhibit 10.43 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.12 | | Form of Convertible Note dated November 14, 2008 (incorporated by reference to Exhibit 10.45 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.13 | | Second Amendment to Employment Agreement, dated April 6, 2009, between the Company and S. James Miller (incorporated by reference to Exhibit 10.50 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.14 | | Office Space Lease between the Company and Allen W. Wooddell, dated July 25, 2008 (incorporated by reference to Exhibit 10.54 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.15 | | Third Amendment to Employment Agreement, dated December 10, 2009, between the Company and S. James Miller (incorporated by reference to Exhibit 10.60 to the Company’s Annual Report on Form 10-K, filed February 24, 2010). |
10.16 | | Securities Purchase Agreement, dated December 12, 2011, by and between the Company and certain accredited investors (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed December 21, 2011). |
10.17 | | Note Exchange Agreement, dated December 12, 2011, by and between the Company and certain accredited investors (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed December 21, 2011). |
10.18 | | Fourth Amendment to Employment Agreement, dated March 10, 2011, between the Company and S. James Miller, (incorporated by reference to Exhibit 10.40 to the Company’s Annual Report on Form 10-K, filed January 17, 2012). |
10.19 | | Fifth Amendment to Employment Agreement, dated January 31, 2012, between the Company and S. James Miller, Jr., (incorporated by reference to Exhibit 10.44 to the Company’s Annual Report on Form 10-K, filed April 4, 2012. |
10.20 | | Employment Agreement, dated January 1, 2013, between the Company and Wayne Wetherell (incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K, filed March 7, 2013). |
10.21 | | Employment Agreement, dated January 1, 2013, between the Company and David Harding (incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K, filed March 7, 2013). |
10.22 | | Convertible Promissory Note dated March 27, 2013 issued by the Company to Neal Goldman (incorporated by reference to Exhibit 10.41 to the Company's Annual Report on Form 10-K, filed April 1, 2013). |
10.23 | | Amendment to Convertible Promissory Note, dated March 12, 2014 (incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K, filed March 13, 2014). |
10.24 | | Note Exchange Agreement, dated January 29, 2015 (incorporated by reference to the Company’s Current Report on Form 8-K, filed February 2, 2015). |
10.25
| | Sixth Amendment to Employment Agreement, by and between S. James Miller and the Company, dated November 1, 2013 (incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K, filed November 7, 2013). |
10.26 | | Seventh Amendment to Employment Agreement, by and between S. James Miller, Jr. and the Company, dated January 9, 2015 (incorporated by reference to the Company’s Current Report on Form 8-K, filed January 15, 2015). |
10.27 | | Second Amendment to Employment Agreement, by and between Wayne Wetherell and the Company, dated January 9, 2015 (incorporated by reference to the Company’s Current Report on Form 8-K, filed January 15, 2015). |
10.28 | | Second Amendment to Employment Agreement, by and between David E. Harding and the Company, dated January 9, 2015 (incorporated by reference to the Company’s Current Report on Form 8-K, filed January 15, 2015). |
10.29 | | Amendment No. 3 to Convertible Promissory Note, dated December 8, 2014 (incorporated by reference to the Company’s Current Report on Form 8-K, filed December 10, 2014). |
10.30 | | Third Amendment to Employment Agreement, by and between Wayne Wetherell and the Company, dated December 14, 2015 (incorporated by reference to Exhibit 10.2 to the Company's Current Report on Form 8-K, filed December 21, 2015). |
10.31 | | Third Amendment to Employment Agreement, by and between David E. Harding and the Company, dated December 14, 2015 (incorporated by reference to Exhibit 10.3 to the Company's Current Report on Form 8-K, filed December 21, 2015).
|
10.32
|
| Eighth Amendment to Employment Agreement, by and between S. James Miller and the Company, dated December 14, 2015 (incorporated by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K, filed December 21, 2015). |
10.33 | | Amendment No. 4 to Convertible Promissory Note, dated March 8, 2016 (incorporated by reference to the Company's Current Report on Form 8-K, filed March 10, 2017). |
10.34 | | Convertible Promissory Note, dated March 9, 2016 (incorporated by reference to the Company's Current Report on Form 8-K, filed March 10, 2017). |
10.35 | | Form of Securities Purchase Agreement, dated September 7, 2016 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed September 9, 2016). |
10.36 | | Amendment No. 5 to Convertible Promissory Note, dated January 23, 2017 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 10-K, filed January 26, 2017). |
10.37 | | Form of Subscription Agreement for Series G Convertible Preferred Stock (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed December 30, 2016). |
10.38 | | Form of Exchange Agreement (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed December 30, 2016). |
10.39
| | Ninth Amendment to Employment Agreement, by and between James Miller, Jr. and the Company, dated October 20, 2016 (incorporated by reference to Exhibit 10.3 to the Company’s Current Report on Form 8-K, filed December 30, 2016). |
10.40
| | Fourth Amendment to Employment Agreement, by and between Wayne Wetherell and the Company, dated October 20, 2016 (incorporated by reference to Exhibit 10.4 to the Company’s Current Report on Form 8-K, filed December 30, 2016).
|
10.41 | | Fourth Amendment to Employment Agreement, by and between David E. Harding and the Company, dated October 20, 2016 (incorporated by reference to Exhibit 10.5 to the Company’s Current Report on Form 8-K, dated December 30, 2016). |
21.1 | | List of Subsidiaries (incorporated by referenced to Exhibit 21.1 to the Company’s Annual Report on Form 10-K filed February 24, 2010). |
23.1 | | Consent of Independent Registered Public Accounting Firm. |
31.1 | | Certification of CEO as Required by Rule 13a-14(a)/15d-14, filed herewith |
31.2 | | Certification of CFO as Required by Rule 13a-14(a)/15d-14, filed herewith. |
32 | | Certification of CEO and CFO as Required by Rule 13a-14(a) and Rule 15d-14(b) (17 CFR 240.15d-14(b)) and Section 1350 of Chapter 63 of Title 18 of the United States Code, filed herewith. |
101.INS | | XBRL Instance Document |
101.SCH | | XBRL Taxonomy Extension Schema |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase |
101.LAB | | XBRL Taxonomy Extension Label Linkbase |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase |
In accordance with 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, there unto duly authorized.
Registrant
Date: March 30, 2017
| | ImageWare Systems, Inc.
/s/ S. James Miller, Jr.
|
| | S. James Miller, Jr. |
| | Chief Executive Officer (Principal Executive Officer), President |
Date: March 30, 2017 | | /s/ Wayne Wetherell |
| | Wayne Wetherell |
| | Chief Financial Officer (Principal Financial Officer) |
In accordance with the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Company and in the capacities and on the dates indicated.
Date: March 30, 2017 | | /s/ S. James Miller, Jr. |
| | S. James Miller, Jr. |
| | Chairman of the Board |
Date: March 30, 2017 | | /s/ David Loesch |
| | David Loesch |
| | Director |
Date: March 30, 2017 | | /s/ Steve Hamm |
| | Steve Hamm |
| | Director |
| | /s/ David Carey
|
Date: March 30, 2017 | | David Carey |
| | Director |
| | /s/ John Cronin
|
Date: March 30, 2017 | | John Cronin |
| | Director |
| | /s/ Neal Goldman
|
Date: March 30, 2017 | | Neal Goldman |
| | Director |
| | /s/ Charles Crocker
|
Date: March 30, 2017 | | Charles Crocker |
| | Director |
| | /s/ Dana Kammersgard
|
Date: March 30, 2017 | | Dana Kammersgard |
| | Director |
IMAGEWARE SYSTEMS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| | Page
Number
|
| | |
Reports of Independent Registered Public Accounting Firm | | F-2 |
| | |
Consolidated Balance Sheets as of December 31, 2016 and 2015 | | F-4 |
| | |
Consolidated Statements of Operations for the years ended December 31, 2016, 2015 and 2014 | | F-5 |
| | |
Consolidated Statements of Comprehensive Loss for the years ended December 31, 2016, 2015 and 2014 | | F-6 |
| | |
Consolidated Statements of Shareholders’ Equity (Deficit) for the years ended December 31, 2016, 2015 and 2014 | | F-7 |
| | |
Consolidated Statements of Cash Flows for the years ended December 31, 2016, 2015 and 2014 | | F-10 |
| | |
Notes to Consolidated Financial Statements | | F-11 |
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of:
ImageWare Systems, Inc.
We have audited the accompanying consolidated balance sheets of ImageWare Systems, Inc. as of December 31, 2016 and 2015, and the related consolidated statements of operations, comprehensive loss, shareholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 2016. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits 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. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of ImageWare Systems, Inc. as of December 31, 2016 and 2015, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2016, in conformity with accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of ImageWare Systems, Inc.’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated March 30, 2017, expressed an unqualified opinion thereon.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has incurred recurring operating losses and is dependent on additional financing to fund operations. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 1 to the consolidated financial statements. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.
/s/ Mayer Hoffman McCann P.C.
San Diego, California
March 30, 2017
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of:
ImageWare Systems, Inc.
We have audited ImageWare Systems, Inc.’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). ImageWare Systems, Inc.’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 included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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 (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance 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 (3) 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 the 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 risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, ImageWare Systems, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on the COSO criteria.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements of ImageWare Systems, Inc. and our report dated March 30, 2017, expressed an unqualified opinion thereon.
/s/ Mayer Hoffman McCann P.C.
San Diego, California
March 30, 2017
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
| | | |
| ASSETS | | |
| Current Assets: | | |
| Cash | $1,586 | $3,352 |
| Accounts receivable, net of allowance for doubtful accounts of $1 and $3 at December 31, 2016 and 2015, respectively. | 287 | 349 |
| Inventory, net | 23 | 46 |
| Other current assets | 135 | 69 |
| Total Current Assets | 2,031 | 3,816 |
| | | |
| Property and equipment, net | 93 | 162 |
| Other assets | 34 | 98 |
| Intangible assets, net of accumulated amortization | 106 | 117 |
| Goodwill | 3,416 | 3,416 |
| Total Assets | $5,680 | $7,609 |
| | | |
| LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT) | | |
| | | |
| Current Liabilities: | | |
| Accounts payable | $425 | $198 |
| Deferred revenue | 1,045 | 1,059 |
| Accrued expenses | 1,047 | 1,149 |
Convertible lines of credit to related parties, net of discount
| 2,528 | — |
| Total Current Liabilities | 5,045 | 2,406 |
| | | |
| Pension obligation | 1,895 | 1,511 |
| Total Liabilities | 6,940 | 3,917 |
| | | |
| Shareholders’ Equity (Deficit): | | |
| Preferred stock, authorized 4,000,000 shares: | | |
| Series B Convertible Redeemable Preferred Stock, $0.01 par value; designated 750,000 shares, 389,400 shares issued, and 239,400 shares outstanding at December 31, 2016 and 2015; liquidation preference $607 at December 31, 2016 and 2015. | 2 | 2 |
| Series E Convertible Redeemable Preferred Stock, $0.01 par value; designated 12,000 shares, 12,000 shares issued and outstanding at December 31, 2016 and 2015; liquidation preference $12,000 and $12,240 at December 31, 2016 and 2015, respectively. | — | — |
| Series F Convertible Redeemable Preferred Stock, $0.01 par value; designated 2,000 shares, 2,000 and 0 shares issued and outstanding at December 31, 2016 and 2015, respectively; liquidation preference $2,000 at December 31, 2016. | — | — |
| Series G Convertible Redeemable Preferred Stock, $0.01 par value; designated 6,120 shares, 6,021 and 0 shares issued and outstanding at December 31, 2016 and 2015, respectively; liquidation preference $6,021 at December 31, 2016. | — | — |
| Common Stock, $0.01 par value, 150,000,000 shares authorized; 91,853,499 and 94,077,599 shares issued at December 31, 2016 and 2015, respectively, and 91,846,795 and 94,070,895 shares outstanding at December 31, 2016 and 2015, respectively. | 917 | 940 |
| Additional paid-in capital | 156,195 | 149,902 |
| Treasury stock, at cost 6,704 shares | (64) | (64) |
| Accumulated other comprehensive loss | (1,543) | (1,195) |
| Accumulated deficit | (156,767) | (145,893) |
| Total Shareholders’ Equity (Deficit) | (1,260) | 3,692 |
| Total Liabilities and Shareholders’ Equity (Deficit) | $5,680 | $7,609 |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share and per share amounts)
| | |
| | | | |
| Revenues: | | | |
| Product | $1,249 | $2,192 | $1,634 |
| Maintenance | 2,563 | 2,577 | 2,525 |
| | 3,812 | 4,769 | 4,159 |
| Cost of revenues: | | | |
| Product | 243 | 1,117 | 257 |
| Maintenance | 827 | 827 | 735 |
| Gross profit | 2,742 | 2,825 | 3,167 |
| | | | |
| Operating expenses: | | | |
| General and administrative | 3,722 | 3,437 | 3,818 |
| Sales and marketing | 3,021 | 2,791 | 2,471 |
| Research and development | 5,332 | 4,643 | 4,495 |
| Depreciation and amortization | 129 | 164 | 179 |
| | 12,204 | 11,035 | 10,963 |
| Loss from operations | (9,462) | (8,210) | (7,796) |
| | | | |
| Interest expense | 245 | 447 | 416 |
| Other income, net | (201) | (145) | (297) |
| Loss before income taxes | (9,506) | (8,512) | (7,915) |
| | | | |
| Income tax expense | 21 | 22 | 25 |
| Net loss | $(9,527) | $(8,534) | $(7,940) |
| Preferred dividends | (1,347) | (1,065) | (51) |
| Net loss available to common shareholders | $(10,874) | $(9,599) | $(7,991) |
| | | | |
| Basic and diluted loss per common share — see Note 2: | | | |
| Net loss | $(0.10) | $(0.09) | $(0.09) |
| Preferred dividends | (0.02) | (0.01) | (—) |
| Basic and diluted loss per share available to common shareholders | $(0.12) | $(0.10) | $(0.09) |
| Basic and diluted weighted-average shares outstanding | 94,426,783 | 93,786,079 | 91,795,971 |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
| | |
| | | | |
| | | | |
| Net loss | $(9,527) | $(8,534) | $(7,940) |
| Other comprehensive income (loss): | | | |
| Reduction (increase) in additional minimum pension liability | (347) | 332 | (744) |
| Foreign currency translation adjustment | (1) | 67 | (20) |
| Comprehensive loss | $(9,875) | $(8,135) | $(8,704) |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (DEFICIT)
(In thousands, except share amounts)
| | Series B Convertible Redeemable Preferred | Series E Convertible Redeemable Preferred | Series F Convertible Redeemable Preferred | Series G Convertible Redeemable Preferred | | | | Accumulated Other Compre-hensive
| | |
| | | | | | | | | | | | | | | | | |
| Balance at December 31, 2013 | | $2 | - | $- | - | $- | - | $- | 87,555,317 | $874 | (6,704) | $(64) | $131,652 | $(830) | $(128,303) | $3,331 |
| | | | | | | | | | | | | | | | | |
| Issuance of Common Stock pursuant to warrant exercises | - | - | - | - | - | - | - | - | 4,742,632 | 47 | - | - | 2,801 | - | - | 2,848 |
| Settlement of derivative liabilities pursuant to warrants exercised for cash | - | - | - | - | - | - | - | - | - | - | - | - | 57 | - | - | 57 |
| Issuance of Common Stock pursuant to cashless warrant exercises | - | - | - | - | - | - | - | - | 868,565 | 9 | - | - | (9) | - | - | - |
| Warrants issued to secure increase in line of credit borrowing facility | - | - | - | - | - | - | - | - | - | - | - | - | 128 | - | - | 128 |
| Issuance of Common Stock pursuant to option exercises | - | - | - | - | - | - | - | - | 98,617 | 1 | - | - | 66 | - | - | 67 |
| Recognition of beneficial conversion feature on convertible debt | - | - | - | - | - | - | - | - | - | - | - | - | 296 | - | - | 296 |
| Warrants issued in lieu of cash as compensation | - | - | - | - | - | - | - | - | - | - | - | - | 53 | - | - | 53 |
| Conversion of related party notes payable to Common Stock | - | - | - | - | - | - | - | - | 154,607 | 2 | - | - | 83 | - | - | 85 |
| Stock-based compensation expense | - | - | - | - | - | - | - | - | 94,116 | 1 | - | - | 855 | - | - | 856 |
| Additional minimum pension liability | - | - | - | - | - | - | - | - | - | - | - | - | - | (744) | - | (744) |
| Foreign currency translation adjustment | - | - | - | - | - | - | - | - | - | - | - | - | - | (20) | - | (20) |
| Dividends on preferred stock | - | - | - | - | - | - | - | - | - | - | - | - | - | - | (51) | (51) |
| Net loss | - | - | - | - | - | - | - | - | - | - | - | - | - | - | (7,940) | (7,940) |
| Balance at December 31, 2014 | 239,400 | $2 | - | $- | - | $- | - | $- | 93,513,854 | $934 | (6,704) | $(64) | $135,982 | $(1,594) | $(136,294) | $(1,034) |
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (DEFICIT)
(In thousands, except share amounts)
(continued)
| | Series B Convertible Redeemable Preferred
| Series E Convertible Redeemable Preferred
| Series F Convertible Redeemable Preferred | Series G Convertible Redeemable Preferred | | | Additional Paid-In
| Accumulated Other Compre- hensive
| Accumulated
|
|
| | Shares | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Capital | Loss | Deficit | Total |
| Balance at December 31, 2014 | 239,400 | $2 | - | $- | - | $- | - | $- | 93,513,854 | $934 | (6,704) | $(64) | $135,982 | $(1,594) | $(136,294) | $(1,034) |
| | | | | | | | | | | | | | | | | |
| Issuance of Series E Convertible Redeemable Preferred Stock for cash, net of issuance costs | - | - | 10,022 | - | - | - | - | - | - | - | - | - | 9,955 | - | - | 9,955 |
| Conversion of related party debt into Series E Convertible Redeemable Preferred Stock | - | - | 1,978 | - | - | - | - | - | - | - | - | - | 1,978 | - | - | 1,978 |
| Issuance of Common Stock in payment of Series E Preferred dividends | - | - | - | - | - | - | - | - | 478,664 | 5 | - | - | 769 | - | (774) | - |
| Issuance of Common Stock pursuant to cashless warrant exercises | - | - | - | - | - | - | - | - | 45,376 | 1 | - | - | (1) | - | - | - |
| Issuance of Common Stock pursuant to option exercises | - | - | - | - | - | - | - | - | 39,705 | - | - | - | 33 | - | - | 33 |
| Recognition of beneficial conversion feature on convertible debt | - | - | - | - | - | - | - | - | - | - | - | - | 146 | - | - | 146 |
| Warrants modified in lieu of cash as compensation | - | - | - | - | - | - | - | - | - | - | - | - | 80 | - | - | 80 |
| Stock-based compensation expense | - | - | - | - | - | - | - | - | - | - | - | - | 960 | - | - | 960 |
| Reduction in minimum pension liability | - | - | - | - | - | - | - | - | - | - | - | - | - | 332 | - | 332 |
| Foreign currency translation adjustment | - | - | - | - | - | - | - | - | - | - | - | - | - | 67 | - | 67 |
| Dividends on preferred stock | - | - | - | - | - | - | - | - | - | - | - | - | - | - | (291) | (291) |
| Net loss | - | - | - | - | - | - | - | - | - | - | - | - | - | - | (8,534) | (8,534) |
| Balance at December 31, 2015 | 239,400 | $2 | 12,000 | $- | - | $- | - | $- | 94,077,599 | $940 | (6,704) | $(64) | $149,902 | $(1,195) | $(145,893) | $3,692 |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (DEFICIT)
(In thousands, except share amounts)
(continued)
| | Series B Convertible Redeemable Preferred | Series E Convertible Redeemable Preferred | Series F Convertible Redeemable Preferred | Series G Convertible Redeemable Preferred | Common Stock
| Treasury Stock
| Additional Paid-In
| Accumulated Other Compre- hensive
| Accumulated | |
| | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Shares | Amount | Capital | | | Total |
| Balance at December 31, 2015 | 239,400 | $2 | 12,000 | $- | - | $- | - | $- | 94,077,599 | $940 | (6,704) | $(64) | $149,902 | $(1,195) | $(145,893) | $3,692 |
| | | | | | | | | | | | | | | | | |
| Issuance of Series F Convertible Redeemable Preferred Stock for cash, net of issuance costs | - | - | - | - | 2,000 | - | - | - | - | - | - | - | 1,979 | - | - | 1,979 |
| Issuance of Series G Convertible Redeemable Preferred Stock for cash, net of issuance costs | - | - | - | - | - | - | 1,625 | - | - | - | - | - | 1,614 | - | - | 1,614 |
| Issuance of Series G Convertible Redeemable Preferred Stock in exchange for Common Stock | - | - | - | - | - | - | 4,396 | - | (3,383,830) | (34) | - | - | 31 | - | - | (3) |
| Issuance of Common Stock pursuant to cashless warrant exercises | - | - | - | - | - | - | - | - | 144,459 | 1 | - | - | (1) | - | - | - |
| Issuance of Common Stock pursuant to option exercises | - | - | - | - | - | - | - | - | 12,626 | - | - | - | 3 | - | - | 3 |
| Recognition of beneficial conversion feature on convertible debt | - | - | - | - | - | - | - | - | - | - | - | - | 219 | - | - | 219 |
| Stock-based compensation expense | - | - | - | - | - | - | - | - | - | - | - | - | 1,162
| - | - | 1,162
|
| Additional minimum pension liability | - | - | - | - | - | - | - | - | - | - | - | - | - | (347) | - | (347) |
| Foreign currency translation adjustment | - | - | - | - | - | - | - | - | - | - | - | - | - | (1) | - | (1) |
| Dividends on preferred stock | - | - | - | - | - | - | - | - | 1,002,645 | 10 | - | - | 1,286 | - | (1,347) | (51) |
| Net loss | - | - | - | - | - | - | - | - | -
| - | - | - | - | - | (9,527) | (9,527) |
| Balance at December 31, 2016 | 239,400 | $2 | 12,000 | $- | 2,000 | $- | 6,021 | $- | 91,853,499 | $917 | (6,704) | $(64) | $156,195
| $(1,543) | $(156,767) | $(1,260) |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
| | |
| Cash flows from operating activities | | | |
| Net loss | $(9,527) | $(8,534) | $(7,940) |
| Adjustments to reconcile net loss to net cash used by operating activities: | | | |
| Depreciation and amortization | 129 | 164 | 179 |
| Amortization of debt discounts and debt issuance costs | 145 | 438 | 426 |
| Stock-based compensation | 1,162 | 960 | 856 |
| Write down of capitalized labor inventory to net realizable value | — | 281 | — |
| Reduction in accounts payable and accrued expenses from expiration of statute of limitations | (200) | — | (224) |
| Warrants modified/issued in lieu of cash as compensation for services | — | 80 | 53 |
| Change in assets and liabilities | | | |
| Accounts receivable | 62 | (83) | 35 |
| Inventory | 23 | 589 | (411) |
| Other assets | (50) | 17 | 62 |
| Accounts payable | 227 | (261) | 188 |
| Accrued expenses | 94 | (76) | 130 |
| Deferred revenue | (13) | (768) | 165 |
| Pension obligation | 37 | 10 | 59 |
| | | | |
| Total adjustments | 1,616 | 1,351 | 1,518 |
| | | | |
| Net cash used by operating activities | (7,911) | (7,183) | (6,422) |
| | | | |
| Cash flows from investing activities | | | |
| Purchase of property and equipment | (49) | (87) | (117) |
| | | | |
| Net cash used by investing activities | (49) | (87) | (117) |
| | | | |
| Cash flows from financing activities | | | |
| Proceeds from line of credit, net | 2,650 | 400 | 1,550 |
| Proceeds from exercise of stock options | 3 | 33 | 67 |
| Proceeds from issuance of preferred stock, net of issuance costs | 3,593 | 9,955 | — |
| Dividends paid to preferred stockholders | (51) | (51) | (51) |
| Proceeds from exercised warrants to purchase stock | — | — | 2,848 |
| | | | |
| Net cash provided by financing activities | 6,195 | 10,337 | 4,414 |
| | | | |
| Effect of exchange rate changes on cash | (1) | 67 | (20) |
| Net increase (decrease) in cash | (1,766) | 3,134 | (2,145) |
| Cash at beginning of year | 3,352 | 218 | 2,363 |
| Cash at end of year | $1,586 | $3,352 | $218 |
| Supplemental disclosure of cash flow information: | | | |
| Cash paid for interest | $— | $1 | $2 |
| Cash paid for income taxes | $— | $— | $1 |
| Summary of non-cash investing and financing activities: | | | |
| Conversion of related party notes payable into Common Stock | $— | $— | $85 |
| Conversion of related party notes payable into Series E Preferred | $— | $1,978 | $— |
| Beneficial conversion feature of convertible debt | $219 | $146 | $296 |
| Accrued unpaid dividends on Series E Preferred | $— | $240 | $— |
| Stock dividend on Series E Preferred | $1,228 | $774 | $— |
| Stock dividend on Series F Preferred | $63 | $240 | $— |
| Stock dividend on Series G Preferred | $5 | $— | $— |
| Issuance of Common Stock pursuant to cashless warrant exercises | $1 | $1 | $9 |
| Exchange of Common Stock for Series G Preferred | $34 | $— | $— |
| Reduction (increase) in additional minimum pension liability | $(347) | $332 | $(744) |
| Reclassification of warrants previously classified as derivative liabilities to additional paid-in capital | $— | $— | $57 |
| Issuance of common warrants securing line of credit borrowing facility | $— | $— | $128 |
| Issuance of restricted stock pursuant to achievement of vesting conditions | $— | $— | $1 |
The accompanying notes are an integral part of these consolidated financial statements.
IMAGEWARE SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2016, 2015 AND 2014
1. DESCRIPTION OF BUSINESS AND OPERATIONS
Overview
As used in this Annual Report, “we,” “us,” “our,” “ImageWare,” “ImageWare Systems,” “Company” or “our Company” refers to ImageWare Systems, Inc. and all of its subsidiaries. ImageWare Systems, Inc. is incorporated in the state of Delaware. The Company is a pioneer and leader in the emerging market for biometrically enabled software-based identity management solutions. Using those human characteristics that are unique to us all, the Company creates software that provides a highly reliable indication of a person’s identity. The Company’s “flagship” product is the patented IWS Biometric Engine®. The Company’s products are used to manage and issue secure credentials, including national IDs, passports, driver licenses and access control credentials. The Company’s products also provide law enforcement with integrated mug shot, fingerprint LiveScan and investigative capabilities. The Company also provides comprehensive authentication security software using biometrics to secure physical and logical access to facilities or computer networks or internet sites. Biometric technology is now an integral part of all markets the Company addresses and all of the products are integrated into the IWS Biometric Engine.
Recent Developments
Creation of Series G Convertible Redeemable Preferred Stock and Series G Financing
On December 27, 2016, the Company filed the Certificate of Designations, Preferences, and Rights of the Series G Convertible Preferred Stock with the Delaware Division of Corporations, designating 6,120 shares of the Company’s preferred stock, par value $0.01 per share, as Series G Convertible Redeemable Preferred Stock (“Series G Preferred”). Shares of Series G Preferred rank junior to the Company’s Series B Convertible Redeemable Preferred Stock, Series E Convertible Redeemable Preferred Stock, Series F Convertible Redeemable Preferred Stock as well as the Company’s existing indebtedness, and accrue dividends at a rate of 10% per annum, payable on a quarterly basis in shares of the Company’s common stock, par value $0.01 per share (“Common Stock”). Each share of Series G Preferred has a liquidation preference of $1,000 per share (“Series G Liquidation Preference”), and is convertible, at the option of the holder, into that number of shares of the Company’s Common Stock equal to the Series G Liquidation Preference, divided by $1.50.
On December 29, 2016, the Company accepted subscription forms from certain accredited investors (the “Investors”) to purchase a total of 1,625 shares of Series G Preferred for $1,000 per share (the “Series G Financing”), resulting in gross proceeds to the Company of $1,625,000 net of issuance costs of approximately $11,000. In addition, the Company also received executed exchange agreements from the Investors pursuant to which the Company exchanged an aggregate total of approximately 3.4 million shares of Common Stock held by the Investors for an aggregate total of approximately 4,400 shares of Series G Preferred.
Creation of Series F Convertible Redeemable Preferred Stock and Series F Financing
On September 2, 2016, the Company filed the Certificate of Designations, Preferences, and Rights of the Series F Convertible Preferred Stock with the Delaware Division of Corporations, designating 2,000 shares of its preferred stock as Series F Convertible Redeemable Preferred Stock (“Series F Preferred”). Shares of Series F Preferred rank junior to the Company’s Series B Convertible Redeemable Preferred Stock, Series E Convertible Redeemable Preferred Stock and existing indebtedness, and accrue dividends at a rate of 10% per annum, payable on a quarterly basis in shares of the Company’s Common Stock. Each share of Series F Preferred has a liquidation preference of $1,000 per share (“Series F Liquidation Preference”), and is convertible, at the option of the holder, into that number of shares of the Company’s Common Stock equal to the Series F Liquidation Preference, divided by $1.50.
On September 7, 2016, the Company and Cap 1 LLC (the “Investor”), entered into a securities purchase agreement, wherein the Investor agreed to purchase 2,000 shares of Series F Preferred for $1,000 per share (the “Series F Financing”), resulting in gross proceeds to the Company of $2.0 million net of issuance costs of approximately $21,000.
Amendments to Lines of Credit
On December 27, 2016, in connection with the consummation of the Series G Financing, the Company and Neal Goldman, a member of the Company’s Board of Directors (the “Holder”), agreed to enter into the fifth amendment (the “Line of Credit Amendment”) to the convertible promissory note previously issued by the Company to the Holder on March 27, 2013 (the “Goldman Line of Credit”), to provide the Company with the ability to borrow up to $5.5 million under the terms of the Goldman Line of Credit, bringing the total amount the Company may borrow under its existing lines of credit to $6.0 million. In addition, the Maturity Date, as defined in the Goldman Line of Credit, was amended to be December 31, 2017. The Line of Credit Amendment was executed on January 23, 2017.
In addition, on January 23, 2017, the Company and Charles Crocker, also a member of the Board of Directors of the Company, amended the line of credit and promissory note, dated March 9, 2016 (the “Crocker LOC”), to extend the maturity date thereof to December 31, 2017. No other amendments were made to the Crocker LOC.
Key Product Introduction
On November 14, 2016, the Company introduced GoVerifyID® Enterprise Suite, a multi-modal, multi-factor biometric authentication solution for the enterprise market. An algorithm-agnostic solution, GoVerify ID Enterprise Suite is an end-to-end biometric platform that seamlessly integrates with an enterprise’s existing Microsoft infrastructure, offering businesses a turnkey biometric solution for quick deployment. The Company feels that this product has the potential to dramatically accelerate adoption of its biometric solution due to the worldwide prevalence of enterprise use of the Microsoft infrastructure.
Working across the entire enterprise ecosystem, GoVerifyID Enterprise Suite offers a consistent user experience and centralized administration with the highest level of security, flexibility, and usability. Specific benefits include:
●
Mobile-workforce friendly—With GoVerifyID Enterprise Suite user authentication logins are possible for a tablet or laptop even when disconnected from the corporate network. Additionally, GoVerifyID Enterprise offers a consistent user authentication experience across all login environments.
●
Hybrid cloud—GoVerifyID Enterprise Suite is linked from the cloud to an enterprise’s Microsoft infrastructure and is backward compatible with Windows 7, 8 and 10. Additionally, because the solution is SaaS-based it can easily scale to process hundreds of millions of transactions and store just as many biometrics.
●
Seamless integration—GoVerifyID Enterprise Suite is a snap-in to the Microsoft Management console and can be centrally managed at the server. Additionally, the solution allows for seamless movement as it integrates with Active Directory using an organization’s existing Microsoft security infrastructure.
Liquidity, Going Concern and Management's Plan
Historically, our principal sources of cash have included customer payments from the sale of our products, proceeds from the issuance of common and preferred stock and proceeds from the issuance of debt, including our Lines of Credit (defined above). Our principal uses of cash have included cash used in operations, product development, payments relating to purchases of property and equipment and repayments of borrowings. We expect that our principal uses of cash in the future will be for product development including customization of identity management products for enterprise and consumer applications, further development of intellectual property, development of Software-as-a-Service (“SaaS”) capabilities for existing products as well as general working capital and capital expenditure requirements. Management expects that, as our revenues grow, our sales and marketing and research and development expenses will continue to grow, albeit at a slower rate and, as a result, we will need to generate significant net revenues to achieve and sustain income from operations.
At December 31, 2016, we had a working capital deficit of approximately $3.0 million, compared to a working capital surplus of approximately $1.4 million at December 31, 2015. Our principal sources of liquidity at December 31, 2016 consisted of available borrowings under our Lines of Credit of $3.35 million, and approximately $1.68 million of cash and cash equivalents, compared to approximately $3.35 million in cash and cash equivalents at December 31, 2015.
Considering our projected cash requirements, our available cash will be insufficient to repay borrowings under our Lines of Credit in full when due at December 31, 2017, and may be insufficient to satisfy our cash requirements for the next twelve months from the date of this report, in the event our projected revenue opportunities fail to materialize as currently anticipated. These factors raise substantial doubt about our ability to continue as a going concern. To address our working capital requirements, management will continue to access available borrowings under our existing Lines of Credit, and will continue to seek additional equity and/or debt financing through the issuance of additional debt and/or equity securities. In addition, management intends to seek an extension of the maturity date of the Lines of Credit on or before December 31, 2017. There are currently no formal committed financing arrangements to support our projected cash shortfall, including commitments to purchase additional debt and/or equity securities, or extend the maturity dates of the Lines of Credit.
In view of the matters described in the preceding paragraph, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the Company, which, in turn, is dependent upon the Company’s ability to continue to raise capital and generate positive cash flows from operations. However, the Company operates in markets that are emerging and highly competitive. There is no assurance that the Company will be able to obtain additional capital, operate at a profit or generate positive cash flows in the future.
The consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. The Company’s wholly-owned subsidiaries are XImage Corporation, a California Corporation, ImageWare Systems ID Group, Inc. a Delaware corporation (formerly Imaging Technology Corporation), I.W. Systems Canada Company, a Nova Scotia unlimited liability company, ImageWare Digital Photography Systems, Inc., LLC a Nevada limited liability company (formerly Castleworks LLC), Digital Imaging International GmbH, a company formed under German laws and Image Ware Mexico S de RL de CV, a company formed under Mexican laws.All significant intercompany transactions and balances have been eliminated.
Operating Cycle
Assets and liabilities related to long-term contracts are included in current assets and current liabilities in the accompanying consolidated balance sheets, although they will be liquidated in the normal course of contract completion which may take more than one operating cycle.
Use of Estimates
The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenue and expense during the reporting period. Significant estimates include the allowance for doubtful accounts receivable, inventory carrying values, deferred tax asset valuation allowances, accounting for loss contingencies, recoverability of goodwill and acquired intangible assets and amortization periods, assumptions used in the Black-Scholes model to calculate the fair value of share based payments, revenue and cost of revenues recognized under the percentage of completion method and assumptions used in the application of fair value methodologies to calculate the fair value of pension assets and obligations. Actual results could differ from estimates.
Accounts Receivable
In the normal course of business, the Company extends credit without collateral requirements to its customers that satisfy pre-defined credit criteria. Accounts receivable are recorded net of an allowance for doubtful accounts. Accounts receivable are considered delinquent when the due date on the invoice has passed. The Company records its allowance for doubtful accounts based upon its assessment of various factors. The Company considers historical experience, the age of the accounts receivable balances, the credit quality of its customers, current economic conditions and other factors that may affect customers’ ability to pay to determine the level of allowance required. Accounts receivable are written off against the allowance for doubtful accounts when all collection efforts by the Company have been unsuccessful.
Inventories
Finished goods inventories are stated at the lower of cost, determined using the average cost method, or market. See Note 6.
Property, Equipment and Leasehold Improvements
Property and equipment, consisting of furniture and equipment, are stated at cost and are being depreciated on a straight-line basis over the estimated useful lives of the assets, which generally range from three to five years. Maintenance and repairs are charged to expense as incurred. Major renewals or improvements are capitalized. When assets are sold or abandoned, the cost and related accumulated depreciation are removed from the accounts and the resulting gain or loss is recognized. Expenditures for leasehold improvements are capitalized. Amortization of leasehold improvements is computed using the straight-line method over the shorter of the remaining lease term or the estimated useful lives of the improvements.
Fair Value of Financial Instruments
For certain of the Company’s financial instruments, including accounts receivable, accounts payable, accrued expenses, deferred revenues and lines of credit payable to related parties, the carrying amounts approximate fair value due to their relatively short maturities.
Revenue Recognition
The Company recognizes revenue from the following major revenue sources:
●
Long-term fixed-price contracts involving significant customization;
●
Fixed-price contracts involving minimal customization;
●
Sales of computer hardware and identification media; and
●
Post-contract customer support (“PCS”).
The Company’s revenue recognition policies are consistent with U.S. GAAP including the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 985-605, “Software Revenue Recognition”, ASC 605-35 “Revenue Recognition, Construction-Type and Production-Type Contracts”, “Securities and Exchange Commission Staff Accounting Bulletin 104”, and ASC 605-25 “Revenue Recognition, Multiple Element Arrangements”. Accordingly, the Company recognizes revenue when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the fee is fixed or determinable, and collectability is reasonably assured.
The Company recognizes revenue and profit as work progresses on long-term, fixed-price contracts involving significant amount of hardware and software customization using the percentage of completion method based on costs incurred to date compared to total estimated costs at completion. The primary components of costs incurred are third party software and direct labor cost including fringe benefits. Revenues recognized in excess of amounts billed are classified as current assets under “Costs and estimated earnings in excess of billings on uncompleted contracts”. Amounts billed to customers in excess of revenues recognized are classified as current liabilities under “Billings in excess of costs and estimated earnings on uncompleted contracts”. Revenue from contracts for which the Company cannot reliably estimate total costs or there are not significant amounts of customization are recognized upon completion. For contracts that require significant amounts of customization that the Company accounts for under the completed contract method of revenue recognition, the Company defers revenue recognition until customer acceptance is received. For contracts containing either extended or dependent payment terms, revenue recognition is deferred until such time as payment has been received by the Company. The Company also generates non-recurring revenue from the licensing of its software. Software license revenue is recognized upon the execution of a license agreement, upon deliverance, when fees are fixed and determinable, when collectability is probable, when all other significant obligations have been fulfilled and the Company has obtained vendor specific objective evidence (“VSOE”) of the fair value of the undelivered element. VSOE of fair value for customer support services is determined by reference to the price the customer pays for such element when sold separately; that is, the renewal rate offered to customers. In those instances when objective and reliable evidence of fair value exists for the undelivered items but not for the delivered items, the residual method is used to allocate the arrangement consideration. Under the residual method, the amount of arrangement consideration allocated to the delivered items equals the total arrangement consideration less the aggregate fair value of the undelivered items. The Company also generates revenue from the sale of computer hardware and identification media. Revenue for these items is recognized upon delivery of these products to the customer. The Company’s revenue from periodic maintenance agreements is generally recognized ratably over the respective maintenance periods provided no significant obligations remain and collectability of the related receivable is probable. Pricing of maintenance contracts is consistent period to period and calculated as a percentage of the software or hardware revenue. Amounts collected in advance for maintenance services are included in current liabilities under "Deferred revenue". Sales tax collected from customers is excluded from revenue.
Goodwill
The Company accounts for its intangible assets under the provisions of ASC 350, “Intangibles - Goodwill and Other”. In accordance with ASC 350, intangible assets with a definite life are analyzed for impairment under ASC 360-10-05 “Property, Plant and Equipment” and intangible assets with an indefinite life are analyzed for impairment under ASC 360 annually, or more often if circumstances dictate. The Company performs its annual goodwill impairment test in the fourth quarter of each year, or if required, at the end of each fiscal quarter. In accordance with ASC 350, goodwill, or the excess of cost over fair value of net assets acquired is tested for impairment using a fair value approach at the “reporting unit” level. A reporting unit is the operating segment, or a business one level below that operating segment (referred to as a component) if discrete financial information is prepared and regularly reviewed by management at the component level. The Company’s reporting unit is at the entity level. The Company recognizes an impairment charge for any amount by which the carrying amount of a reporting unit’s goodwill exceeds its fair value. The Company uses fair value methodologies to establish fair values.
The Company did not record any goodwill impairment charges for the years ended December 31, 2016, 2015 or 2014.
Intangible and Long Lived Assets
Intangible assets are carried at their cost less any accumulated amortization. Any costs incurred to renew or extend the life of an intangible or long lived asset are reviewed for capitalization. The Company evaluates long-lived assets for impairment whenever events or changes in circumstances indicate their net book value may not be recoverable. When such factors and circumstances exist, the Company compares the projected undiscounted future cash flows associated with the related asset or group of assets over their estimated useful lives against their respective carrying amount. Impairment, if any, is based on the excess of the carrying amount over the fair value, based on market value when available, or discounted expected cash flows, of those assets and is recorded in the period in which the determination is made. The Company’s management currently believes there is no impairment of its long-lived assets. There can be no assurance, however, that market conditions will not change or demand for the Company’s products under development will continue. Either of these could result in future impairment of long-lived assets.
Concentration of Credit Risk
Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash and trade accounts receivable. The Company places its cash with high quality financial institutions and at times during the years ended December 31, 2016 and 2015 exceeded the FDIC insurance limits of $250,000. Sales are typically made on credit and the Company generally does not require collateral. The Company performs ongoing credit evaluations of its customers’ financial condition and maintains an allowance for doubtful accounts. The Company considers historical experience, the age of the accounts receivable balances, the credit quality of its customers, current economic conditions and other factors that may affect customers’ ability to pay to determine the level of allowance required. Accounts receivable are presented net of an allowance for doubtful accounts of approximately $1,000 and $3,000 at December 31, 2016 and 2015, respectively.
For the year ended December 31, 2016 two customers accounted for approximately 30% or $1,162,000 of total revenues and had trade receivables of $78,000 as of the end of the year. For the year ended December 31, 2015 two customers accounted for approximately 37% or $1,753,000 of total revenues and had trade receivables of $78,000 as of the end of the year. For the year ended December 31, 2014, one customer accounted for approximately 17% or $725,000 of total revenues and $0 trade receivables as of the end of the year.
Stock-Based Compensation
At December 31, 2016, the Company had one stock-based compensation plan for employees and nonemployee directors, which authorize the granting of various equity-based incentives including stock options and restricted stock.
The Company estimates the fair value of its stock options using a Black-Scholes option-pricing model, consistent with the provisions of ASC 718, “Compensation – Stock Compensation”. The fair value of stock options granted is recognized to expense over the requisite service period. Stock-based compensation expense for all share-based payment awards is recognized using the straight-line single-option method. Stock-based compensation expense is reported in operating expenses based upon the departments to which substantially all of the associated employees report and credited to additional paid-in-capital. Stock-based compensation expense related to equity options was approximately $1,162,000, $744,000 and $618,000 for the years ended December 31, 2016, 2015 and 2014, respectively.
ASC 718 requires the use of a valuation model to calculate the fair value of stock-based awards. The Company has elected to use the Black-Scholes option-pricing model, which incorporates various assumptions including volatility, expected life, and interest rates. The Company is required to make various assumptions in the application of the Black-Scholes option-pricing model. The Company has determined that the best measure of expected volatility is based on the historical weekly volatility of the Company’s Common Stock. Historical volatility factors utilized in the Company’s Black-Scholes computations for options granted during the years ended December 31, 2016, 2015 and 2014 ranged from 65% to 116%. The Company has elected to estimate the expected life of an award based upon the SEC approved “simplified method” noted under the provisions of Staff Accounting Bulletin No. 110. The expected term used by the Company during the years ended December 31, 2016, 2015 and 2014 was 5.17 years. The difference between the actual historical expected life and the simplified method was immaterial. The interest rate used is the risk-free interest rate and is based upon U.S. Treasury rates appropriate for the expected term. Interest rates used in the Company’s Black-Scholes calculations for the years ended December 31, 2016, 2015 and 2014 averaged 2.6%. Dividend yield is zero as the Company does not expect to declare any dividends on the Company’s common shares in the foreseeable future.
In addition to the key assumptions used in the Black-Scholes model, the estimated forfeiture rate at the time of valuation is a critical assumption. The Company has estimated an annualized forfeiture rate of approximately 0% for corporate officers, 4.1% for members of the Board of Directors and 6.0% for all other employees. The Company reviews the expected forfeiture rate annually to determine if that percent is still reasonable based on historical experience.
Restricted stock units are recorded at the grant date fair value with corresponding compensation expense recorded ratably over the requisite service period.
Income Taxes
Current income tax expense or benefit is the amount of income taxes expected to be payable or refundable for the current year. A deferred income tax asset or liability is computed for the expected future impact of differences between the financial reporting and tax bases of assets and liabilities and for the expected future tax benefit to be derived from tax credits and loss carryforwards. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.
Foreign Currency Translation
The financial position and results of operations of the Company’s foreign subsidiaries are measured using the foreign subsidiary’s local currency as the functional currency. Revenues and expenses of such subsidiaries have been translated into U.S. dollars at weighted-average exchange rates prevailing during the period. Assets and liabilities have been translated at the rates of exchange on the balance sheet date. The resulting translation gain and loss adjustments are recorded directly as a separate component of shareholders’ equity, unless there is a sale or complete liquidation of the underlying foreign investments. The Company translates foreign currencies of its German, Canadian and Mexican subsidiaries. The cumulative translation adjustment, which is recorded in accumulated other comprehensive loss, decreased approximately $1,000 for the year ended December 31, 2016, increased approximately $67,000 for the year ended December 31, 2015 and decreased approximately $20,000 for the year ended December 31, 2014.
Comprehensive Loss
Comprehensive loss consists of net gains and losses affecting shareholders’ equity that, under generally accepted accounting principles, are excluded from net loss. For the Company, the only items are the cumulative translation adjustment and the additional minimum liability related to the Company’s defined benefit pension plan, recognized pursuant to ASC 715-30, "Compensation - Retirement Benefits - Defined Benefit Plans – Pension".
Advertising Costs
The Company expenses advertising costs as incurred. The Company incurred approximately $24,000 in advertising expenses during the year ended December 31, 2016, $12,000 in advertising expenses during the year ended December 31, 2015 and $9,000 during the year ended December 31, 2014.
Loss Per Share
Basic loss per common share is calculated by dividing net loss available to common shareholders for the period by the weighted-average number of common shares outstanding during the period. Diluted loss per common share is calculated by dividing net loss available to common shareholders for the period by the weighted-average number of common shares outstanding during the period, adjusted to include, if dilutive, potential dilutive shares consisting of convertible preferred stock, convertible notes payable, stock options and warrants, calculated using the treasury stock and if-converted methods. For diluted loss per share calculation purposes, the net loss available to commons shareholders is adjusted to add back any preferred stock dividends and any interest on convertible debt reflected in the consolidated statement of operations for the respective periods.
| (Amounts in thousands, except share and per share amounts) | | | |
| | |
| Numerator for basic and diluted loss per share: | | | |
| Net loss | $(9,527) | $(8,534) | $(7,940) |
| Preferred dividends | (1,347) | (1,065) | (51) |
| Net loss available to common shareholders | $(10,874) | $(9,599) | $(7,991) |
| | | | |
| Denominator for basic loss per share — weighted-average shares outstanding | 94,426,783 | 93,786,079 | 91,795,971 |
| Effect of dilutive securities | — | — | — |
| Denominator for diluted loss per share — weighted-average shares outstanding | 94,426,783 | 93,786,079 | 91,795,971 |
| | | | |
| Basic and diluted loss per share: | | | |
| Net loss | $(0.10) | $(0.09) | $(0.09) |
| Preferred dividends | (0.02) | (0.01) | (—) |
| Net loss available to common shareholders | $(0.12) | $(0.10) | $(0.09) |
The following potential dilutive securities have been excluded from the computations of diluted weighted-average shares outstanding as their effect would have been antidilutive:
Potential Dilutive Securities: | Common Share Equivalents at December 31, 2016 | Common Share Equivalents at December 31, 2015 | Common Share Equivalents at December 31, 2014 |
| Convertible lines of credit | 2,201,903 | — | 1,649,548 |
| Convertible redeemable preferred stock – Series B | 46,029 | 46,029 | 46,029 |
| Convertible redeemable preferred stock – Series E | 6,315,789 | 6,442,105 | — |
| Convertible redeemable preferred stock – Series F | 1,333,333 | — | — |
| Convertible redeemable preferred stock – Series G | 4,014,000 | — | — |
| Stock options | 6,506,843 | 5,376,969 | 4,057,296 |
| Warrants | 175,000 | 450,000 | 977,778 |
| Total Potential Dilutive Securities | 20,592,897 | 12,315,103 | 6,730,651 |
Recently Issued Accounting Standards
From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (the “FASB”), or other standard setting bodies, which are adopted by us as of the specified effective date. Unless otherwise discussed, the Company’s management believes the impact of recently issued standards not yet effective will not have a material impact on the Company’s consolidated financial statements upon adoption.
FASB ASU No. 2014-09.In May 2014, FASB issued Accounting Standards Update (“ASU”) No. 2014-09,Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. ASU No. 2014-09 will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. In July 2015, the FASB finalized a one-year deferral of the effective date of the new standard. For public entities, the deferral results in the new revenue standard being effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Calendar year-end public companies are therefore required to apply the revenue guidance beginning in their 2018 interim and annual financial statements. The standard permits the use of either the retrospective or cumulative effect transition method.We currently anticipate adopting the standard using the cumulative effect transition method during the first fiscal quarter in 2018.
FASB ASU No. 2014-15. In August 2014, the FASB issued ASU No. 2014-15,Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern, which provides guidance on management’s responsibility in evaluating whether there is substantial doubt about a company’s ability to continue as a going concern and to provide related footnote disclosures. ASU No. 2014-15 became effective in the fourth quarter of 2016. The adoption of ASU No. 2014-15 did not have a significant impact on our consolidated financial statements.
FASB ASU No. 2015-03. In April 2015, the FASB issued ASU No. 2015-03, “Simplifying the Presentation of Debt Issuance Costs.”The standard requires debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected. The standard became effective for the Company beginning January 1, 2016. The adoption of ASU No. 2015-03 did not have a significant impact on our consolidated financial statements.
FASB ASU No. 2015-11. In July 2015, the FASB issued ASU No. 2015-11,“Simplifying the Measurement of Inventory (Topic 330): Simplifying the Measurement of Inventory”.The amendments in ASU No. 2015-11 require an entity of measure inventory at the lower of cost or market. Market could be replacement cost, net realizable value, or net realizable value less an approximately normal profit margin. The amendments do not apply to inventory that is measured using last-in, first out (LIFO) or the retail inventory method. The amendments apply to all other inventory, which includes inventory that is measured using first-in, first-out (FIFO) or average cost. For public business entities, the amendments in ASU No. 2015-11 are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The amendments should be applied prospectively with earlier application permitted as of the beginning of an interim or annual reporting period. The adoption of ASU No. 2015-11 did not have a significant impact on our consolidated financial statements.
FASB ASU No. 2016-01. In January 2016, the FASB issued ASU 2016-01, “Financial Instruments—Overall - Recognition and Measurement of Financial Assets and Financial Liabilities”.The amendments in this ASU address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments and apply to all entities that hold financial assets or owe financial liabilities. The amendments in this ASU also simplify the impairment assessment of equity investments without readily determinable fair values by requiring assessment for impairment qualitatively at each reporting period. That impairment assessment is similar to the qualitative assessment for long-lived assets, goodwill, and indefinite-lived intangible assets. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years, with earlier application permitted for financial statements that have not been issued. An entity should apply the amendments by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption. We plan to adopt the provisions of this ASU for our fiscal year beginning January 1, 2018 and are currently evaluating the impact the adoption of this new accounting standard will have on our consolidated financial statements.
FASB ASU No. 2016-02. In February 2016, the FASB issued ASU No. 2016-02, “Leases”. This guidance will result in key changes to lease accounting and will aim to bring leases onto balance sheets to give investors, lenders, and other financial statement users a more comprehensive view of a company's long-term financial obligations as well as the assets it owns versus leases. The new leasing standard will be effective for fiscal years beginning after December 15, 2018, and for interim periods within those fiscal years. The Company is currently evaluating the impact this guidance will have on our consolidated financial statements and anticipates commencement of adoption planning in the fourth fiscal quarter of 2018.
FASB ASU No. 2016-06. In March 2016, the FASB issued Accounting Standards Update No. 2016-06, Derivatives and Hedging (Topic 815) – Contingent Put and Call Options in Debt Instruments (“ASU 2016-06”), which will reduce diversity of practice in identifying embedded derivatives in debt instruments. ASU 2016-06 clarifies that the nature of an exercise contingency is not subject to the “clearly and closely” criteria for purposes of assessing whether the call or put option must be separated from the debt instrument and accounted for separately as a derivative. This guidance is effective for fiscal years beginning after December 15, 2016 and interim periods within those fiscal years. The adoption of ASU No. 2016-06 did not have a significant impact on our consolidated financial statements.
FASB ASU No. 2016-08. In March 2016, the FASB issued Accounting Standards Update No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)(“ASU 2016-08”). ASU 2016-08 clarifies the implementation guidance on principal versus agent considerations. The guidance includes indicators to assist an entity in determining whether it controls a specified good or service before it is transferred to the customers. This guidance is effective for fiscal years beginning after December 15, 2017 including interim periods within those fiscal years. The Company is currently assessing the impact that adopting this new accounting standard will have on its consolidated financial statements and footnote disclosures.
FASB ASU No. 2016-09. In March 2016, the FASB issued Accounting Standards Update No. 2016-09, Compensation – Stock Compensation (Topic 718) (“ASU 2016-09”). ASU 2016-09 identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, an option to recognize gross stock compensation expense with actual forfeitures recognized as they occur, as well as certain classifications on the statement of cash flows. This ASU is effective for fiscal years beginning after December 15, 2016 and interim periods within those annual periods. The adoption ASU No. 2016-09 did not have a significant impact on our consolidated financial statements.
FASB ASU No. 2016-10. In April 2016, the FASB issued Accounting Standards Update No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing (“ASU 2016-10”). ASU 2016-10 provides further implementation guidance on identifying performance obligations and also improves the operability and understandability of the licensing implementation guidance. This guidance is effective for fiscal years beginning after December 15, 2017 including interim periods within those fiscal years. The Company is currently assessing the impact that adopting this new accounting standard will have on its consolidated financial statements and footnote disclosures.
FASB ASU No. 2016-13. In June 2016, the FASB issued Accounting Standard Update No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU No. 2016-13 changes the impairment model for most financial assets and certain other instruments. For trade and other receivables, held-to-maturity debt securities, loans and other instruments, entities will be required to use a new forward-looking “expected loss” model that will replace today’s “incurred loss” model and generally will result in the earlier recognition of allowances for losses. For available-for-sale debt securities with unrealized losses, entities will measure credit losses in a manner similar to current practice, except that the losses will be recognized as an allowance. This guidance is effective for fiscal years beginning after December 15, 2019 including interim periods within those fiscal years. The Company is currently evaluating the potential impact of adoption of this standard on its consolidated financial statements.
FASB ASU No. 2016-15.In August 2016, the FASB issued Accounting Standards Update No. 2016-15, Statement of Cash Flows (Topic 230)Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 eliminates the diversity in practice related to the classification of certain cash receipts and payments for debt prepayment or extinguishment costs, the maturing of a zero coupon bond, the settlement of contingent liabilities arising from a business combination, proceeds from insurance settlements, distributions from certain equity method investees and beneficial interests obtained in a financial asset securitization. ASU 2016-15 designates the appropriate cash flow classification, including requirements to allocate certain components of these cash receipts and payments among operating, investing and financing activities. This guidance is effective for fiscal years beginning after December 15, 2017 including interim periods within those fiscal years.The retrospective transition method, requiring adjustment to all comparative periods presented, is required unless it is impracticable for some of the amendments, in which case those amendments would be prospectively as of the earliest date practicable. The Company is currently assessing the impact that adopting this new accounting standard will have on its consolidated financial statements and footnote disclosures.
FASB ASU No. 2017-04.In January 2017, the FASB issued ASU No. 2017-04,Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment.The amendments of this ASU eliminate step 2 from the goodwill impairment test. The annual, or interim test is performed by comparing the fair value of a reporting unit with its carrying amount. The amendments of this ASU also eliminate the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and if it fails that qualitative test, to perform step 2 of the goodwill impairment test. ASU No. 2017-04 is effective for fiscal years beginning after December 15, 2019.The Company is currently evaluating the potential impact of adoption of this standard on its consolidated financial statements.
3. FAIR VALUE ACCOUNTING
The Company accounts for fair value measurements in accordance with ASC 820, “Fair Value Measurements and Disclosures,” which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.
ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under ASC 820 are described below:
| Level 1 | Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. |
| | |
| Level 2 | Applies to assets or liabilities for which there are inputs other than quoted prices included within Level 1 that are observable for the asset or liability such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable or can be derived principally from, or corroborated by, observable market data. |
| | |
| Level 3 | Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (supported by little or no market activity). |
The following table sets forth the Company’s financial assets and liabilities measured at fair value by level within the fair value hierarchy. As required by ASC 820, assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
| | Fair Value at December 31, 2016 |
| ($ in thousands) | | | | |
| Assets: | | | | |
| Pension assets | $1,645 | $1,645 | $— | $— |
| Totals | $1,645 | $1,645 | $— | $— |
| | Fair Value at December 31, 2015 |
| ($ in thousands) | | | | |
| Assets: | | | | |
| Pension assets | $1,557 | $1,557 | $— | $— |
| Totals | $1,557 | $1,557 | $— | $— |
The Company’s pension assets are classified within Level 1 of the fair value hierarchy because they are valued using market prices. The pension assets are primarily comprised of the cash surrender value of insurance contracts. All plan assets are managed in a policyholder pool in Germany by outside investment managers. The investment objectives for the plan are the preservation of capital, current income and long-term growth of capital.
The Company monitors the activity within each level and any changes with the underlying valuation techniques or inputs utilized to recognize if any transfers between levels are necessary. That determination is made, in part, by working with outside valuation experts for Level 3 instruments and monitoring market related data and other valuation inputs for Level 1 and Level 2 instruments.
4. INTANGIBLE ASSETS AND GOODWILL
The Company has intangible assets in the form of trademarks, trade names and patents. The carrying amount of the Company’s acquired trademarks and trade names was $0 as of December 31, 2016 and 2015, respectively, which include accumulated amortization of $347,000 as of December 31, 2016 and 2015. Amortization expense related to trademarks and tradenames was $0, $15,000 and $15,000 for the years ended December 31, 2016, 2015 and 2014, respectively. All intangible assets are amortized over their estimated useful lives with no estimated residual values. Any costs incurred by the Company to renew or extend the life of intangible assets will be evaluated under ASC No. 350,Intangibles – Goodwill and Other, for proper treatment.
The carrying amounts of the Company’s patent intangible assets were $105,000 and $117,000 as of December 31, 2016 and 2015, respectively, which includes accumulated amortization of $554,000 and $542,000 as of December 31, 2016 and 2015, respectively. Amortization expense for patent intangible assets was $12,000 for the years ended December 31, 2016, 2015 and 2014. Patent intangible assets are being amortized on a straight-line basis over their remaining life of approximately 9.5 years. There was no impairment of the Company's intangible assets during the years ended December 31, 2016, 2015 and 2014.
The Company annually, or more frequently if events or circumstances indicate a need, tests the carrying amount of goodwill for impairment. The Company performs its annual impairment test in the fourth quarter of each year. A two-step impairment test is used to first identify potential goodwill impairment and then measure the amount of goodwill impairment loss, if any. The first step was conducted by determining and comparing the fair value, employing the market approach, of the Company’s reporting unit to the carrying value of the reporting unit. The Company continues to have only one reporting unit, Identity Management. Based on the results of this impairment test, the Company determined that its goodwill was not impaired during the years ended December 31, 2016, 2015 and 2014.
The estimated acquired intangible amortization expense for the next five fiscal years is as follows:
| Fiscal Year Ended December 31, | Estimated Amortization Expense ($ in thousands) |
| 2017 | $12 |
| 2018 | 12 |
| 2019 | 12 |
| 2020 | 12 |
| 2021 | 12 |
| Thereafter | 45 |
| Totals | $105 |
5. RELATED PARTIES
Related Party Convertible Notes
On November 14, 2008, the Company entered into a series of convertible promissory notes (the “Related-Party Convertible Notes”), aggregating $110,000 with certain officers and members of the Company’s Board of Directors, including S. James Miller, the Company’s Chief Executive Officer and Chairman. The Related-Party Convertible Notes bear interest at 7.0% per annum and were originally due February 14, 2009. In conjunction with the original issuance of the Related-Party Convertible Notes in 2008, the Company issued an aggregate of 149,996 warrants to the note holders to purchase shares of Common Stock of the Company. The warrants have an exercise price $0.50 per share and may be exercised at any time from November 14, 2008 until November 14, 2013. No warrants to purchase shares of Common Stock were outstanding and exercisable as of December 31, 2015,2016, and no warrants were issued and outstanding as of December 31, 2015.2016.
The Company did not repay the Related-Party Convertible Notes on the due date. In August 2009, the Company received from the Related-Party Convertible Note holders a waiver of default and extension to January 31, 2010 of the maturity date of the Related-Party Convertible Notes. As consideration for the waiver and note extension, the Company issued to the Related-Party Convertible Note holders an aggregate of 150,000 warrants to purchase shares of the Company’s Common Stock. The warrants have an exercise price of $0.50 per share and expire on August 25, 2014, of which no warrants to purchase shares of Common Stock were outstanding and exercisable as of December 31, 2016.
On January 21, 2013, the holders of the Related-Party Convertible Notes agreed to extend the due date on their respective convertible notes to be due and payable not later than June 30, 2015, however, the Related-Party Convertible Notes will be callable at any time, at the option of the note holder, prior to June 30, 2015. During the year ended December 31, 2014, holders of Related-Party Convertible Notes in the principal amount of $85,034 elected to convert their respective Related-Party Convertible Notes into 154,607 shares of Common Stock.
Lines of Credit
In March 2013, the Company and Holder entered into the Goldman Line of Credit with available borrowings of up to $2.5 million. In March 2014, the Goldman Line of Credit’s borrowing was increased to an aggregate total of $3.5 million (the “Amendment”). Pursuant to the terms and conditions of the Amendment, the Holder had the right to convert up to $2.5 million of the outstanding balance of the Goldman Line of Credit into shares of the Company's Common Stock for $0.95 per share. Any remaining outstanding balance was convertible into shares of the Company's Common Stock for $2.25 per share.
As consideration for the initial Goldman Line of Credit, the Company issued a warrant to the Holder, exercisable for 1,052,632 shares of the Company’s Common Stock (the "Line of Credit Warrant"). The Goldman Line of Credit Warrant had a term of two years from the date of issuance and an exercise price of $0.95 per share. As consideration for entering into the Amendment, the Company issued to the Holder a second warrant, exercisable for 177,778 shares of the Company’s Common Stock (the “Amendment Warrant”). The Amendment Warrant expired on March 27, 2015 and had an exercise price of $2.25 per share.
The Company estimated the fair value of the Line of Credit Warrant using the Black-Scholes option pricing model using the following assumptions: term of two years, a risk-freerisk free interest rate of 2.58%, a dividend yield of 0%, and volatility of 79%. The Company recorded the fair value of the Line of Credit Warrant as a deferred financing fee of approximately $580,000 to be amortized over the life of the Goldman Line of Credit. The Company estimated the fair value of the Amendment Warrant using the Black-Scholes option pricing model using the following assumptions: term on one year, a risk-freerisk free interest rate of 2.58%, a dividend yield of 0% and volatility of 74%. The Company recorded the fair value of the Amendment Warrant as an additional deferred financing fee of approximately $127,000 to be amortized over the life of the Goldman Line of Credit.
During the years ended December 31, 2016 2015 and 2014,2015, the Company recorded an aggregate of approximately $48,000 $53,000 and $369,000,$53,000, respectively in deferred financing fee amortization expense which is recorded as a component of interest expense in the Company’s consolidated statements of operations.
In April 2014, the Company and the Holder entered into a further amendment to the Goldman Line of Credit to decrease the available borrowings to $3.0 million (the “Second Amendment”). Contemporaneous with the execution of the Second Amendment, the Company entered into a new unsecured line of credit with the Second Holder with available borrowings of up to $500,000 (the “Crocker LOC”“$500K Line of Credit”), which amount was convertible into shares of the Company’s Common Stock for $2.25 per share. As a result of these amendments, total available borrowings under the Lines of Credit available to the Company remained unchanged at a total of $3.5 million. In connection with the Second Amendment, the Holder assigned and transferred to the Second Holder one-half of the Amendment Warrant.
In December 2014, the Company and the Holder entered into a further amendment to the Goldman Line of Credit to increase the available borrowing to $5.0 million and extend the maturity date of the Goldman Line of Credit to March 27, 2017 (the “Third Amendment”). Also, as a result of the Third Amendment, the Holder had the right to convert up to $2.5 million outstanding principal, plus any accrued but unpaid interest (“Outstanding Balance”) into shares of the Company’s Common Stock for $0.95 per share, the next $500,000 Outstanding Balance into shares of Common Stock for $2.25 per share and any remaining outstanding balance thereafter into shares of Common Stock for $2.30 per share. The Third Amendment also modified the definition of a “Qualified Financing” to mean a debt or equity financing resulting in gross proceeds to the Company of at least $5.0 million.
In February 2015, as a result of the Series E Financing, the Company issued 1,978 shares of Series E Preferred to the Holder to satisfy $1,950,000 in principal borrowings under the Goldman Line of Credit plus approximately $28,000 in accrued interest. As a result of the Series E Financing, the Company’s borrowing capacity under the Goldman Line of Credit was reduced to $3,050,000 with the maturity date unchanged and the $500K Line of Credit was terminated in accordance with its terms.
In March 2016, the Company and the Holder entered into a fourth amendment to the Goldman Line of Credit (the “Fourth Amendment”) solely to (i) increase available borrowings to $5.0 million; (ii) extend the maturity date to June 30, 2017, and (iii) provide for the conversion of the outstanding balance due under the terms of the Goldman Line of Credit into that number of fully paid and non-assessable shares of the Company’s Common Stock as is equal to the quotient obtained by dividing the outstanding balance by $1.25.
Contemporaneous with the execution of the Fourth Amendment, the Company entered into a new $500K Line of Credit with available borrowings of up to $500,000 with the Second Holder, which replaced the original $500K Line of Credit that terminated as a result of the consummation of the Series E Financing. Similar to the Fourth Amendment, the new $500K Line of Credit with the Second Holder matures on June 30, 2017, and provides for the conversion of the outstanding balance due under the terms of the $500K Line of Credit into that number of fully paid and non-assessable shares of the Company’s Common Stock as is equal to the quotient obtained by dividing the outstanding balance by $1.25.
On December 27, 2016, in connection with the consummation of the Series G Financing, the Company and Holder agreed to enter into the Fifth Amendment (the “Line of Credit Amendment”) to the Goldman Line of Credit to provide the Company with the ability to borrow up to $5.5 million under the terms of the Goldman Line of Credit. In addition, the Maturity Date, as defined in the Goldman Line of Credit was amended to be December 31, 2017. The Line of Credit Amendment was executed on January 23, 2017.
In addition, on January 23, 2017, the Company and the Second Holder amended the $500K Line of Credit to extend the maturity date thereof to December 31, 2017. No other amendments were made to the $500K Line of Credit.
The Company evaluated the Lines of Credit and determined that the instruments contain a contingent beneficial conversion feature, i.e. an embedded conversion right that enables the holder to obtain the underlying Common Stock at a price below market value. The beneficial conversion feature is contingent as the terms of the conversion do not permit the Company to compute the number of shares that the holder would receive if the contingent event occurs (i.e. future borrowings under the Line of Credit). The Company has considered the accounting for this contingent beneficial conversion feature using the guidance in ASC 470, Debt. The guidance in ASC 470 states that a contingent beneficial conversion feature in an instrument shall not be recognized in earnings until the contingency is resolved. The beneficial conversion features of future borrowings under the Line of Credit will be measured using the intrinsic value calculated at the date the contingency is resolved using the conversion price and trading value of the Company’s Common Stock at the date the Lines of Credit were issued (commitment date). Pursuant to borrowings made during the 2015 year, the Company recognized approximately $146,000 in beneficial conversion feature as debt discount. As a result of the retirement of all amounts outstanding under the Lines of Credit in 2015, the Company recognized all remaining unamortized debt discount of approximately $385,000 as a component of interest expense during the three months ended March 31, 2015. As there was $2,650,000 in borrowings under the Lines of Credit during the year ended December 31, 2016, the Company recorded approximately $146,000 in debt discount attributable to the beneficial conversion feature during the year ended December 31, 2016. During the year ended December 31, 2016, the Company accreted approximately $97,000, respectively, of debt discount as a component of interest expense. At December 31, 2016, unamortized note discount was approximately $122,000.
The following table sets forth the Company’s activity under its Lines of Credit for the periods indicated:
| Balance outstanding under Lines of Credit as of December 31, 2014 | $1,550 |
| Borrowing under Lines of Credit | 750 |
| Repayments | (350) |
| Exchange of Indebtedness for Series E Preferred Stock | (1,950) |
| Balance outstanding under Lines of Credit as of December 31, 2015 | $— |
| Borrowings under Lines of Credit | 2,650 |
| Repayments | — |
| Balance outstanding under Lines of Credit as of December 31, 2016 | $2,650 |
6. INVENTORYReview, Approval or Ratification of Transactions with Related Persons
InventoriesAs provided in the charter of $23,000 asour Audit Committee, it is our policy that we will not enter into any transactions required to be disclosed under Item 404 of December 31, 2016 were comprisedthe SEC’s Regulation S-K unless the Audit Committee or another independent body of work in processour Board of $19,000 representing direct labor costs on in-process projectsDirectors first reviews and finished goods of $4,000 net of reserves for obsolete and slow-moving items of $3,000.approves the transactions.
InventoriesIn addition, pursuant to our Code of $46,000Ethical Conduct and Business Practices, all employees, officers and directors of ours and our subsidiaries are prohibited from engaging in any relationship or financial interest that is an actual or potential conflict of interest with us without approval. Employees, officers and directors are required to provide written disclosure to the Chief Executive Officer as soon as they have any knowledge of December 31, 2015 were compriseda transaction or proposed transaction with an outside individual, business or other organization that would create a conflict of work in processinterest or the appearance of $42,000, representing direct labor costs on in-process projects, approximately $21,000 of equipment related to in-process projects and finished goods of $4,000 net of reserves for obsolete and slow-moving items of $3,000. The balance of direct labor costs on in-process projects of $42,000 at December 31, 2015, reflects a write down of approximately $261,000 to net realizable value.
Appropriate consideration is given to obsolescence, excessive levels, deterioration and other factors in evaluating net realizable value and required reserve levels.one.
7. PROPERTY AND EQUIPMENT
Property and equipment at December 31, 2016 and 2015, consists of:
| ($ in thousands) | | |
| | | |
| Equipment | $935 | $887 |
| Leasehold improvements | 11 | 11 |
| Furniture | 101 | 101 |
| | 1,047 | 999 |
| Less accumulated depreciation | (954) | (837) |
| | $93 | $162 |
Total depreciation expense for the years ended December 31, 2016, 2015 and 2014 was approximately $117,000, $137,000 and $152,000, respectively.
8. ACCRUED EXPENSES
Principal components of accrued expenses consist of:
| ($ in thousands) | | |
| | | |
| Compensated absences | $313 | $260 |
| Wages, payroll taxes and sales commissions | 28 | 11 |
| Customer deposits | 198 | 69 |
| Liquidated damages | — | 200 |
| Royalties | 147 | 147 |
| Pension and employee benefit plans | 7 | 6 |
| Income and sales taxes | 161 | 131 |
| Dividends | 27 | 261 |
| Interest payable to related parties | 102 | — |
| Other | 64 | 64 |
| | $1,047 | $1,149 |
9. LINES OF CREDIT
Outstanding lines of credit consist of the following:
($ in thousands)
| | |
Lines of Credit | | |
8% convertible lines of credit. Face value of advances under lines of credit $2,650 at December 31, 2016 and $0 at December 31, 2015, respectively. Discount on advances under lines of credit is $122 at December 31, 2016 and $0 at December 31, 2015, respectively. Maturity date is December 31, 2017.
| $2,528
| $—
|
| | |
Total lines of credit to related parties | 2,528
| —
|
| (2,528)
| —
|
Long-term lines of credit to related parties
| $—
| $—
|
Lines of Credit
For a more detailed discussion of the Company’s Lines of Credit, see Note 5 Related Parties.
10. INCOME TAXES
The Company accounts for income taxes in accordance with ASC 740,Accounting for Income Taxes,(ASC 740). Deferred income taxes are recognized for the tax consequences related to temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for tax purposes at each year-end, based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. A valuation allowance is established when necessary based on the weight of available evidence, if it is considered more likely than not that all or some portion of the deferred tax assets will not be realized. Income tax expense is the sum of current income tax plus the change in deferred tax assets and liabilities. The Company has established a valuation allowance against its deferred tax asset due to the uncertainty surrounding the realization of such asset.
ASC 740 requires a company to first determine whether it is more-likely-than-not (defined as a likelihood of more than fifty percent) that a tax position will be sustained based on its technical merits as of the reporting date, assuming that taxing authorities will examine the position and have full knowledge of all relevant information. A tax position that meets this more-likely-than-not threshold is then measured and recognized at the largest amount of benefit that is greater than fifty percent likely to be realized upon effective settlement with a taxing authority. The amount accrued for uncertain tax positions was zero at December 31, 2016, 2015 and 2015, respectively.
The Company’s uncertain position relative to unrecognized tax benefits and any potential increase in these liabilities relates primarily to the allocations of revenue and costs among the Company’s global operations and the impact of tax rulings made during the period affecting its tax positions. The Company’s existing tax position could result in liabilities for unrecognized tax benefits. The Company recognizes interest and/or penalties related to uncertain tax positions in income tax expense. The amount of interest and penalties accrued as of December 31, 2016 and 2015 was approximately $12,000 and $11,000, respectively.
Significant judgment is required in evaluating the Company’s uncertain tax positions and determining the Company’s provision for income taxes. No assurance can be given that the final tax outcome of these matters will not be different from that which is reflected in the Company’s historical income tax provisions and accruals. The Company adjusts these items in light of changing facts and circumstances. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made.
The significant components of the income tax provision are as follows:
| ($ in thousands) | |
| Current | | | |
| Federal | $— | $— | $— |
| State | — | — | — |
| Foreign | 21 | 22 | 25 |
| | | | |
| Deferred | | | |
| Federal | — | — | — |
| State | — | — | — |
| Foreign | — | — | — |
| | | | |
| | $21 | $22 | $25 |
The principal components of the Company’s deferred tax assets at December 31, 2016, 2015 and 2014 are as follows:
| ($ in thousands) | | | |
| | | | |
| Net operating loss carryforwards | $17,829
| $15,948 | $14,200 |
| Intangible and fixed assets | 102 | 220 | 427 |
| Stock based compensation | 2,324
| 1,861 | 1,565 |
| Reserves and accrued expenses | 8 | 8 | 6 |
| Other | — | — | (85) |
| | 20,263 | 18,037 | 16,113 |
| Less valuation allowance | (20,263) | (18,037) | (16,113) |
| | | | |
| Net deferred tax assets | $— | $— | $— |
A reconciliation of the provision for income taxes to the amount computed by applying the statutory income tax rates to loss before income taxes is as follows:
| | | | |
| | | | |
| Amounts computed at statutory rates | $(3,239) | $(2,902) | $(2,699) |
| State income tax, net of federal benefit | (462) | (262) | (212) |
| Expiration of net operating loss carryforwards | 1,082 | 695 | 708 |
Non-deductible interest
| 49 | 149 | 145 |
| Foreign taxes | 362 | 413 | 386 |
| Other | 3 | 5 | 4 |
| Net change in valuation allowance on deferred tax assets | 2,226 | 1,924 | 1,693 |
| | | | |
| | $21 | $22 | $25 |
The Company has established a valuation allowance against its deferred tax assets due to the uncertainty surrounding the realization of such assets.
At December 31, 2016, 2015 and 2014, the Company had federal and state net operating loss carryforwards, a portion of which may be available to offset future taxable income for tax purposes. The federal net operating loss carryforwards expire at various dates from 2021 through 2036. The state net operating loss carryforwards expire at various dates from 2029 through 2036.
The Internal Revenue Code (the"Code") limits the availability of certain tax credits and net operating losses that arose prior to certain cumulative changes in a corporation’s ownership resulting in a change of control of the Company. The Company’s use of its net operating loss carryforwards and tax credit carryforwards will be significantly limited because the Company believes it underwent “ownership changes”, as defined under Section 382 of the Internal Revenue Code, in 1991, 1995, 2000, 2003, 2004, 2011 and 2012, though the Company has not performed a study to determine the limitation. The Company has reduced its deferred tax assets to zero relating to its federal and state research credits because of such limitations. The Company continues to disclose the tax effect of the net operating loss carryforwards at their original amount in the table above as the actual limitation has not yet been quantified. The Company has also established a full valuation allowance for substantially all deferred tax assets due to uncertainties surrounding its ability to generate future taxable income to realize these assets. Since substantially all deferred tax assets are fully reserved, future changes in tax benefits will not impact the effective tax rate. Management periodically evaluates the recoverability of the deferred tax assets. If it is determined at some time in the future that it is more likely than not that deferred tax assets will be realized, the valuation allowance would be reduced accordingly at that time.
Tax returns for the years 2012 through 2016 are subject to examination by taxing authorities.
11. COMMITMENTS AND CONTINGENCIES
Employment Agreements
The Company has employment agreements with its Chief Executive Officer, its Senior Vice President of Administration and Chief Financial Officer, and its Chief Technical Officer. The Company may terminate the agreements with or without cause. Subject to the conditions and other limitations set forth in each respective employment agreement, each executive will be entitled to the following severance benefits if the Company terminates the executive’s employment without cause or in the event of an involuntary termination (as defined in the employment agreements) by the Company or by the executive:
Under the terms of the agreement, the Chief Executive Officer will be entitled to the following severance benefits if we terminate his employment without cause or in the event of an involuntary termination: (i) a lump sum cash payment equal to twenty-four months base salary; (ii) continuation of fringe benefits and medical insurance for a period of three years; and (iii) immediate vesting of 50% of outstanding stock options and restricted stock awards. In the event that the Chief Executive Officer’s employment is terminated within six months prior to or thirteen months following a change of control (as defined in the employment agreements), the Chief Executive Officer is entitled to the severance benefits described above, except that 100% of the Chief Executive Officer’s outstanding stock options and restricted stock awards will immediately vest.
Under the terms of the employment agreements with our Senior Vice President of Administration and Chief Financial Officer, this executive will be entitled to the following severance benefits if we terminate their employment without cause or in the event of an involuntary termination: (i) a lump sum cash payment equal to six month's of base salary; (ii) continuation of their fringe benefits and medical insurance for a period of six months; (iii) immediate vesting of 50% of their outstanding stock options and restricted stock awards. In the event that their employment is terminated within six months prior to or thirteen months following a change of control (as defined in the employment agreements), they are entitled to the severance benefits described above, except that 100% of their outstanding stock options and restricted stock awards will immediately vest.
Under the terms of the employment agreement with our Chief Technical Officer, this executive will be entitled to the following severance benefits if we terminate his employment without cause or in the event of an involuntary termination: (i) a lump sum cash payment equal to six months of base salary; (ii) continuation of their fringe benefits and medical insurance for a period of six months. In the event that his employment is terminated within six months prior to or thirteen months following a change of control (as defined in the employment agreements), he is entitled to the severance benefits described above, except that 100% of his outstanding stock options and restricted stock awards will immediately vest.
On December 28, 2016, the Company entered into amendments to the employment agreements for the Company’s Chief Executive Officer, Chief Financial Officer, and Chief Technical Officer. Effective October 20, 2016, the term of each executive officer's employment agreement was extended until December 31, 2017.
Litigation
There is no action, suit, proceeding, inquiry or investigation before or by any court, public board, government agency, self-regulatory organization or body pending or, to the knowledge of the executive officers of the Company or any of our subsidiaries, threatened against or affecting the Company, our Common Stock, any of our subsidiaries or of the Company’s or our subsidiaries’ officers or directors in their capacities as such, in which an adverse decision could have a material adverse effect.
Leases
The Company’s corporate headquarters are located in San Diego, California where we occupy 9,927 square feet of office space. This facility is leased through October 2017 at a cost of approximately $18,000 per month. In addition to our corporate headquarters, we also occupied the following spaces at December 31, 2016:
●
1,508 square feet in Ottawa, Province of Ontario, Canada, at a cost of approximately $3,000 per month until the expiration of the lease on March 31, 2021. This lease was renewed in April 2016 for a five-year period ending on March 31, 2021. Renewal terms were substantially unchanged from the existing lease;
●
8,045 square feet in Portland, Oregon, at a cost of approximately $16,000 per month until the expiration of the lease on October 31, 2018; and
●
304 square feet of office space in Mexico City, Mexico, at a cost of approximately $3,000 per month until November 30, 2017.
At December 31, 2016, future minimum lease payments are as follows:
| ($ in thousands) | |
| 2017 | $450 |
| 2018 | 201 |
| 2019 | 34 |
| 2020 | 34 |
| 2021 | 9 |
| Total | $728 |
Rental expense incurred under operating leases for the years ended December 31, 2016, 2015 and 2014 was approximately $492,000, $477,000 and $430,000, respectively.
12. EQUITY
The Company’s Articles of Incorporation, as amended, authorize the issuance of two classes of stock to be designated “Common Stock” and “Preferred Stock”. The Preferred Stock may be divided into such number of series and with the rights, preferences, privileges and restrictions as the Board of Directors may determine.
Series B Convertible Redeemable Preferred Stock
The Company had 239,400 shares of Series B Convertible Redeemable Preferred Stock (“Series B Preferred”) outstanding as of December 31, 2016 and 2015. At December 31, 2016 and 2015, the Company had cumulative undeclared dividends of approximately $8,000 ($0.03 per share). There were no conversions of Series B Preferred into Common Stock during the years ended December 31, 2016, 2015 and 2014. The Company paid dividends of approximately $51,000 to the holders of our Series B Preferred in 2016, 2015 and 2014.
Series E Convertible Redeemable Preferred Stock
On January 29, 2015, the Company filed the Certificate of Designations of the Series E Preferred Stock with the Delaware Secretary of State, designating 12,000 shares of the Company’s preferred stock, par value $0.01 per share, as Series E Preferred. Shares of Series E Preferred accrue dividends at a rate of 8% per annum if the Company chooses to pay accrued dividends in cash, and 10% per annum if the Company chooses to pay accrued dividends in shares of Common Stock. Each share of Series E Preferred has a liquidation preference of $1,000 per share and is convertible, at the option of the holder, into that number of shares of the Company’s Common Stock equal to the Liquidation Preference, divided by $1.90. The Series E Preferred shall be subordinate to and rank junior to the Company's Series B Preferred and all indebtedness of the Company. Each holder of the Series E Preferred is entitled to vote on all matters, together with the holders of Common Stock, on an as converted basis.
Any time after the six-month period following the issuance date, the Company may redeem all or a portion of the Series E Preferred outstanding upon thirty (30) calendar day's prior written notice (the “Company's Redemption Notice”) in cash at a price per share of Series E Preferred equal to 110% of the liquidation preference amount plus all accrued and unpaid dividends. Also, simultaneous with the occurrence of a change of control transaction, the Company, at its option, shall have the right to redeem all or a portion of the outstanding Series E Preferred in cash at a price per share of Series E Preferred equal to 110% of the liquidation preference amount plus all accrued and unpaid dividends.
In February 2015, the Company consummated a registered direct offering conducted without an underwriter or placement agent. In connection therewith, the Company issued 12,000 shares of Series E Preferred to certain investors at a price of $1,000 per share, with each share convertible into 526.32 shares of the Company’s Common Stock at $1.90 per share.
On December 29, 2016, the Company filed Amendment No. 1 to the Certificate of Designations, Preferences and Rights of the Series E Convertible Preferred Stock (the “Series E Amendment”) with the Delaware Division of Corporations. The Series E Amendment made the following changes to the Certificate of Designations, Preferences and Rights of the Series E Convertible Preferred Stock: (i) the Company may only make dividend payments in cash received from positive cash flow from operations; (ii) beginning on July 1, 2017, in the event the Company pays accrued dividend payments in shares of Common Stock for more than four consecutive quarterly periods, holders of shares of Series E Preferred will have the right to immediately appoint two designees to the Company’s Board of Directors (the “Director Appointment Provision”); (iii) dividend payments incurred on December 31, 2016 and March 31, 2017 may be paid in shares of Common Stock, without triggering the Director Appointment Provision; and (iv) the term Permitted Indebtedness (as defined in the Series E Certificate of Designations) was revised to cover permitted borrowings of up to $6.0 million.
The Company had 12,000 shares of Series E Preferred outstanding as of December 31, 2016 and 2015, respectively. At December 31, 2016 and 2015, the Company had cumulative undeclared dividends of approximately $0 and $240,000, respectively. There were no conversions of Series E Preferred into Common Stock during the twelve months ended December 31, 2016. For the twelve-month period ended December 31, 2016, the Company issued the holders of Series E Preferred 950,362 shares of Common Stock as payment of dividends due, on a quarterly basis, for the twelve months ended December 31, 2016. For the twelve months ended December 31, 2015, the Company paid the holders of our Series E Preferred cash dividends of $240,000 and issued the holders of our Series E Preferred 478,664 shares of common stock as payment of quarterly dividends for the period of January 1, 2015 through September 30, 2015.
Series F Convertible Redeemable Preferred Stock
In September 2016, we filed the Certificate of Designations, Preferences, and Rights of the Series F Convertible Preferred Stock (the “Certificate of Designations”) with the Delaware Division of Corporations, designating 2,000 shares of our preferred stock as Series F Convertible Redeemable Preferred Stock (“Series F Preferred”). Shares of Series F Preferred rank junior to shares of Series B Preferred and Series E Preferred, as well as our existing indebtedness, and accrue dividends at a rate of 10% per annum, payable on a quarterly basis in shares of Common Stock.
Each share of Series F Preferred has a liquidation preference of $1,000 per share (“Liquidation Preference”), and is convertible, at the option of the holder, into that number of shares of the Company’s Common Stock equal to the Series F Liquidation Preference, divided by $1.50 (the “Series FConversion Shares”).
Any time after the six-month period following the issuance date, in the event the arithmetic average of the closing sales price of the Company’s Common Stock is or was at least $2.50 for twenty (20) consecutive trading days, the Company may redeem all or a portion of the Series F Preferred outstanding upon thirty (30) calendar days prior written notice in cash at a price per share of Series F Preferred equal to 110% of the Series F Liquidation Preference, plus all accrued and unpaid dividends. Also, simultaneous with the occurrence of a Change of Control transaction (as defined in the Certificate of Designations), the Company, at its option, shall have the right to redeem all or a portion of the outstanding Series F Preferred in cash at a price per share of Series F Preferred equal to 110% of the Liquidation Preference Amount plus all accrued and unpaid dividends.
In September 2016, the Company offered and sold 2,000 shares of Series F Preferred for $1,000 per share (the “Series F Financing”), resulting in gross proceeds to the Company of $2,000,000 net of issuance costs of approximately $21,000.
The Company had 2,000 shares of Series F Preferred outstanding as of December 31, 2016 and no shares outstanding at December 31, 2015. At December 31, 2016, the Company had cumulative undeclared dividends of $0. There were no conversions of Series F Preferred into Common Stock during the year ended December 31, 2016. The Company issued the holders of Series F Preferred 48,513 shares of Common Stock as payment of dividends due, on a quarterly basis, for the twelve months ended December 31, 2016.
ITEM 14.
Series G Convertible Redeemable Preferred StockPRINCIPAL ACCOUNTING FEES AND SERVICES
In December 27, 2016, the Company filed the Certificate of Designations, Preferences, and Rights of the Series G Convertible Preferred Stock with the Delaware Division of Corporations, designating 6,120 shares of the Company’s preferred stock, par value $0.01 per share, as Series G Convertible Preferred Stock (“Series G Preferred”). Shares of Series G Preferred rank junior to the Company’s Series B Preferred, Series E Preferred, Series F Preferred as well as the Company’s existing indebtedness, and accrue dividends at a rate of 10% per annum, payable on a quarterly basis in shares of the Company’s common stock, par value $0.01 per share. Each share of Series G Preferred has a liquidation preference of $1,000 per share (“Series G Liquidation Preference”), and is convertible, at the option of the holder, into that number of shares of the Company’s Common Stock equal to the Series G Liquidation Preference, divided by $1.50.
On December 29, 2016, the Company accepted subscription forms from certain accredited investors to purchase a total of 1,625 shares of Series G Preferred for $1,000 per share (the “Series G Financing”), resulting in gross proceedsThe following table represents aggregate fees billed to the Company of $1,625,000, net of issuance cost of approximately $11,000. In addition,for the Company also received executed exchange agreements from the Investors pursuant to which the Company exchanged an aggregate total of 3,383,830 shares of common stock held by the Investors for an aggregate total of 4,396 shares of Series G Preferred.
The Company had 6,021 shares of Series G Preferred outstanding as offiscal years ended December 31, 2016 and no shares outstanding at December 31, 2015. At December 31, 2016,2015 by Mayer Hoffman McCann P.C. ("MHM"), the Company had cumulative undeclared dividendsCompany's independent registered public accounting firm. MHM leases substantially all its personnel, who work under the control of $0. There were no conversionsMHM shareholders, from wholly owned subsidiaries of Series G Preferred into Common Stock during the year ended December 31, 2016. The Company issued the holders of Series G Preferred 3,770 shares of Common Stock as payment of dividends due, on a quarterly basis, for the twelve months ended December 31, 2016.CBIZ, Inc., in an alternative practice structure.
Common Stock| | |
| | | |
| | | |
| Audit fees | $202,000
| $214,000 |
| | | |
| Audit-related fees | —
| —
|
| | | |
| Tax fees | —
| —
|
| | | |
| — | —
|
| | | |
| Total Fees | $202,000
| $214,000 |
The following table summarizes outstanding Common Stock activityAudit Committee of the Company’s Board of Directors approved all fees described above.
Pre-Approval Policies and Procedures.
The Audit Committee has adopted a policy and procedures for the following periods:pre-approval of audit and non-audit services rendered by our independent auditor, currently Mayer Hoffman McCann P.C. The policy generally pre-approves specified services in the defined categories of audit services, audit-related services, and tax services up to specified amounts. Pre-approval may also be given as part of the Audit Committee’s approval of the scope of the engagement of the independent auditor or on an individual explicit case-by-case basis before the independent auditor is engaged to provide each service. The pre-approval of services may be delegated to one or more of the Audit Committee’s members, but the decision must be reported to the full Audit Committee at its next scheduled meeting.
| ITEM 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
| (a) | The following documents are filed as part of this Annual Report: |
Common Stock
