a performance escrow agreement that provides for the release of the stock certificates to the Interfacial shareholders based on the achievement of certain revenue levels by IFT. In January of 2002, IFT and the former shareholders of Interfacial agreed to reduce the additional shares subject to the performance escrow by 500,000 shares. In May of 2003, IFT cancelled the remaining 8,000,002 shares in the escrow account as a result of IFT not achieving the revenue levels described in the performance agreement.
The acquisition has been accounted for using the purchase method of accounting, and the assets have been recorded at fair value. Results of operations have been included as of the effective date of the transaction. The purchase price of $6,750,001 was allocated as follows: $2,400,001 to purchased technology, $1,900,000 to in-process research and development, and $2,450,000 to goodwill. IFT is using an estimated life of six years for the purchased technology. At the date of acquisition, Interfacial’s efforts focused on fine-tuning its additive technology for aqueous blends and tailoring it to existing applications, in order to optimize the emission-reducing characteristics while preserving engine efficiency, and there existed uncertainties regarding the successful development of the technology. The amount allocated to in-process research and development was calculated in a valuation using the discounted cash flow method based on a useful life of six years, and the entire value of $1,900,000 was charged to research and development expense during 2001. As of December 31, 2001, IFT had completed development of this technology and was shifting its focus to commercialization. Amortization of purchased technology amounted to $400,000, $400,000 and $233,333 for the years ended December 31, 2003, 2002, and 2001, respectively. Amortization expense for the next five years will be as follows: 2004 - $400,000; 2005 - $400,000; 2006 - $400,000; 2007 - $166,668.
On January 1, 2002, IFT adopted SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”), which addresses the financial accounting and reporting standards for goodwill and other intangible assets subsequent to their acquisition. This accounting standard requires that goodwill no longer be amortized, and instead, be tested for impairment on a periodic basis.
IFT adopted an annual goodwill impairment test date as of the beginning of the fourth quarter of 2002 and updated its test at the beginning of the fourth quarter of 2003. Following this approach, the business was evaluated using the quoted market price of the common stock, which indicated that the fair value of the business exceeded its carrying value. As a result, no impairment of goodwill was recorded.
A reconciliation of previously reported net loss and net loss per share for 2001 to the amounts adjusted for the exclusion of goodwill amortization as follows:
The summarized unaudited pro forma results of operations set forth below for the year ended December 31, 2001 assumes the acquisition occurred as of the beginning of 2001.
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
The unaudited pro forma results of operations are not necessarily indicative of what actually would have occurred if the acquisition had been completed at the beginning of the period presented, nor are the results of operations necessarily indicative of the results that will be attained in the future.
| | Year Ended
December 31,
2001 | |
| |
| |
Revenues | | $ | 0 | |
Net loss | | $ | (8,097,073 | ) |
Net loss per common share (Basic and diluted) | | $ | (0.20 | ) |
Note 4. Notes Payable and Convertible Debentures
On April 11, 2001 IFT issued 406,523 common shares to a total of four individuals as a recalculation of the beneficial conversion rate used for the payment of notes payable issued in 2000. The recalculation was required due to 1,626,086 common shares issued in November 2000 not being registered with the United States Securities and Exchange Commission by March 31, 2001, as the notes payable specified.
During 2002, IFT received advances totaling $280,000 from shareholders. IFT repaid the $280,000 by issuing 1,555,555 shares of common stock in 2002. In connection with the issuance of the shares, IFT recognized $77,778 in interest expense due to the fair value of the stock on the date of extinguishment exceeding the carrying value by this amount.
During the years ended December 31, 2002 and 2001, IFT issued 1,410,633 and 3,834,213 shares of common stock upon the conversion of $475,000 and $1,275,000 worth of convertible debentures owned by Equity Opportunities Fund, Ltd. (“ IIG”). An additional $112,760 and $653,343 had been recorded as a discount on the convertible debentures and added to additional paid-in capital, relating to the beneficial conversion feature in 2002 and 2001 and the $42,750 value of 150,000 warrants related to the convertible debentures in 2001. The warrants were valued at the fair value on the date of issuance using the Black-Scholes option pricing model. The beneficial conversion feature was calculated as the excess value of the shares to be converted over the amount of the proceeds allocated to the convertible debentures.
On December 31, 2003 and 2002, IFT had no outstanding convertible debentures. During the year ended December 31, 2003 no convertible debentures were issued by IFT.
Note 5. Extinguishment of Liabilities
Included in accrued compensation at December 31, 2003 and 2002, is $194,785 and $287,575, respectively, of compensation relating to employment agreements for which services have been rendered. During 2003, an officer of IFT agreed to relieve IFT from its obligation of $70,000 of salary owed to him for service in previous years. The write-off of the $70,000 liability was accounted for as a contribution of capital.
In December 2003, as a result of a litigation settlement, IFT was released from its obligation regarding notes payable in the amount of $162,500 accrued interest relating to the notes of $27,500 and 2003 interest expense of $8,900. The write-off of the notes and interest was recognized as other income.
F - 13
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
Note 6. Stockholders’ Equity
Effective October 27, 1999, IFT merged with and into Blencathia Acquisition Corporation (“Blencathia”). Blencathia had 300,000 shares outstanding at the time of the merger, which it redeemed and canceled. In exchange for 300,000 shares of Blencathia’s common stock, IFT issued 300,000 shares of its restricted common stock. These shares are expected to be sold in an amount sufficient to provide the former shareholders of Blencathia with proceeds of $500,000, the negotiated cost of the acquisition.
On May 8, 2000 IFT issued 300,000 common shares that were contingently issued per the Blencathia merger agreement. The 300,000 shares of common stock are included in the statement of stockholders’ deficit for the year ended December 31, 2003, 2002 and 2001 but are not included in earnings per share and weighted average share calculations for those periods. They will be included when the shares are sold to provide payment to the shareholders of Blencathia. The shareholders of Blencathia have represented to the management of IFT that the 300,000 shares will be sold only with IFT’s approval. If the shares are sold and $500,000 is not generated additional shares may need to be issued to the shareholders of Blencathia. Based on the December 31, 2003 market price, $.39, of IFT’s common stock, a total of 1,282,051 shares would need to be issued to generate the $500,000 proceeds.
During 2001, IFT issued 33,333 shares in repayment of a $10,000 note payable to a stockholder. In connection with the issuance of the shares, IFT recognized $7,041 in interest expense due to the fair value of the stock on the date of extinguishment exceeding the carrying value of the debt.
During 2001, IFT issued 326,087 shares of common stock valued at $159,783 as payment to a Director of IFT in exchange for the Director’s rights on a $60,000 note receivable and for $99,783 of consulting services. The stock was valued based on the trading price on the date of issuance.
During 2001 and 2002, IFT entered into consulting agreements providing for the issuance of shares through 2003. IFT recorded the value of the shares to be issued ratably based on the fair value of the stock over the terms of the consulting agreements. In 2001, IFT issued 1,270,000 shares of common stock related to these agreements and recorded $1,029,192 as consulting expense. During 2002, IFT issued 5,075,000 shares of common stock and recorded $764,293 of consulting expense. During 2003, IFT issued 480,000 shares of common stock and recorded $248,059 as consulting expense. No additional stock is to be issued under these agreements.
During 2001 and 2002, IFT issued 3,679,000 and 125,000 shares of stock, respectively, to employees and Directors. Compensation expense of of $1,661,313 and $150,000 was recognized in 2001 and 2002, respectively, based on the trading price on the date of issuance.
In 2002, IFT secured $2.5 million in new capital from the sale of 13,888,889 shares of restricted common stock to R.C. Holding Company. IFT received $1,900,000 and $600,000 from the sale of these shares in 2003 and 2002, respectively.
During 2002, IFT sold 850,000 shares of common stock to a consultant and a Director and received proceeds of $200,000. During 2003, IFT sold 2,457,142 shares of common stock to consultants and Directors and received proceeds of $599,980. The sale price of the stock was based on the trading price on the date of issuance.
F - 14
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
Note 7. Income Taxes
Deferred income taxes reflect the net tax effects of temporary differences between the amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The tax effects of temporary differences that give rise to significant portions of the net deferred income tax asset are as follows:
December 31, | | 2003 | | 2002 | |
| |
| |
| |
Net operating loss carryforwards | | $ | 9,068,000 | | $ | 8,238,000 | |
Amortization | | | 683,000 | | | 700,000 | |
Stock option expense | | | 172,000 | | | 161,000 | |
Accrued compensation | | | 21,000 | | | 28,000 | |
| |
|
| |
|
| |
| | | 9,944,000 | | | 9,127,000 | |
Less valuation allowance | | | (9,944,000 | ) | | (9,127,000 | ) |
| |
|
| |
|
| |
Deferred tax asset | | $ | — | | $ | — | |
| |
|
| |
|
| |
In accordance with generally accepted accounting principles, a valuation allowance must be established for a deferred tax asset if it is uncertain that a tax benefit may be realized from the asset in the future. IFT has established a valuation allowance to the extent of its deferred tax assets since it is more likely than not that the benefit cannot be realized in the future.
Net operating loss carryforwards available for IFT for Federal tax purposes are as follows:
| Balance | | Expiration | |
|
| |
| |
$ | 344,473 | | 2012 | |
| 1,090,666 | | 2013 | |
| 12,971,893 | | 2019 | |
| 4,213,207 | | 2020 | |
| 2,878,026 | | 2021 | |
| 2,729,826 | | 2022 | |
| 2,441,976 | | 2023 | |
|
| | | |
$ | 26,670,067 | | | |
|
| | | |
The reconciliation of income tax computed at the United States federal statutory tax rate of 34% to the income tax benefit is as follows:
Year ended December 31, | | 2003 | | 2002 | | 2001 | |
| |
| |
| |
| |
Tax benefit at federal statutory rate | | $ | (855,000 | ) | $ | (1,183,000 | ) | $ | (2,575,000 | ) |
Change in deferred tax valuation allowance | | | 817,000 | | | 1,010,000 | | | 1,717,000 | |
Stock based compensation | | | 38,000 | | | 173,000 | | | 858,000 | |
| |
|
| |
|
| |
|
| |
Income tax benefit | | $ | — | | $ | — | | $ | — | |
| |
|
| |
|
| |
|
| |
Note 8. Lease Commitment
As of January 1, 2002, IFT leased office space under a five-year operating lease, expiring on December
F - 15
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
31, 2006. Future minimum lease payments are $52,800 for the years 2004, 2005, and 2006. Rent expense was $52,755, $57,607, and $63,408, during the fiscal years ended December 31, 2003, 2002, and 2001, respectively.
Note 9. Legal Proceedings
IFT is subject to various lawsuits and claims with respect to matters arising out of the normal course of business. While the impact on future financial results is not subject to reasonable estimation because considerable uncertainty exists, management believes, after consulting with counsel, that the ultimate liabilities resulting from such lawsuits and claims will not materially affect the consolidated results, liquidity or financial positions of IFT.
Note 10. Quarterly Statements of Operation Information (Unaudited)
| | For the Three Month Period Ended | |
| |
| |
| | March 31, 2003 | | June 30, 2003 | | September 30, 2003 | | December 31, 2003 | |
| |
| |
| |
| |
| |
Revenues | | $ | 1,295 | | $ | 571 | | $ | 373 | | $ | 6,782 | |
Gross profit | | $ | 511 | | $ | 249 | | $ | 43 | | $ | 2,973 | |
Net loss | | $ | (783,206 | ) | $ | (729,896 | ) | $ | (583,719 | ) | $ | (521,897 | ) |
Basic and diluted net loss per share | | $ | (0.01 | ) | $ | (0.01 | ) | $ | (0.01 | ) | $ | (0.01 | ) |
Weighted average common shares outstanding | | | 69,474,685 | | | 69,838,685 | | | 70,254,685 | | | 70,995,042 | |
| | | | | | | | | | | | | |
| | For the Three Month Period Ended | |
| |
| |
| | March 31, 2002 | | June 30, 2002 | | September 30, 2002 | | December 31, 2002 | |
| |
| |
| |
| |
| |
Revenues | | $ | 5,323 | | $ | 2,361 | | $ | 9,855 | | $ | 2,534 | |
Gross profit | | $ | 2,776 | | $ | 538 | | $ | 3,765 | | $ | (3,808 | ) |
Net loss | | $ | (1,069,689 | ) | $ | (357,041 | ) | $ | (1,373,198 | ) | $ | (678,692 | ) |
Basic and diluted net loss per share | | $ | (.02 | ) | $ | (.01 | ) | $ | (.02 | ) | $ | (.02 | ) |
Weighted average common shares outstanding | | | 47,223,346 | | | 48,508,441 | | | 56,049,132 | | | 69,735,120 | |
Note 11. Options
On October 23, 2001, the Board of Directors adopted International Fuel Technology, Inc.’s Long-term Incentive Plan. The Board of Directors will be responsible for the administration of this Plan, and will grant awards under this Plan. Subject to the express provisions of the Plan, the Board of Directors shall have full authority and sole and absolute discretion to interpret and amend this Plan, to prescribe, amend
F - 16
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
and rescind rules and regulations relating to it, and to make all other determinations which it believes to be necessary or advisable in administering this Plan. The determinations of the Board of Directors on the matters referred to in this Section shall be conclusive. No member of the Board of Directors shall be liable for any act or omission in connection with the administration of this Plan unless it resulted from the member’s willful misconduct.
The maximum number of shares of common stock as to which awards may be granted under this Plan, subject to subsequent amendments, is 17,500,000 shares. The common stock which is issued on grant of awards may be authorized except for unissued shares or shares which have been issued and reacquired by IFT. The Board of Directors may increase the maximum number of shares of common stock as to which awards may be granted at such time as it deems advisable. Awards may be granted to employees or consultants of IFT in their individual capacity only.
During the twelve months ended December 31, 2002, IFT recorded $298,963 in compensation expense relating to shares that were to be issued to employees on various anniversary dates of their employment. These shares were never issued, and were replaced with grants of options under the Long-Term Incentive Plan to purchase an aggregate of 510,000 shares of common stock at exercise prices ranging from $0.14 to $0.25 per share, vesting immediately, and expiring in August 2007. These options are being accounted for using variable-based accounting in accordance with APB 25. As a result, IFT incurred compensation expense of $32,500 as a result of the stock price exceeding the exercise price established by repricing (which ranged from $0.26 to $0.48).
In 2002 and 2003, IFT granted an additional 4,850,000 and 1,500,000 stock options to employees. 3,000,000 of the options granted in 2002 vested immediately, and the remaining 2002 options and all the 2003 options vest over 12 or 24 months. The options have exercise prices ranging from $0.25 to $0.75 and expire in 2007 and 2008. IFT applied the intrinsic value method under APB 25 and related interpretations in accounting for these options. Accordingly, no compensation cost has been recognized, as the market price of the stock did not exceed the exercise price on the measurement date.
The following tables summarize information about stock options during the year ended December 31, 2003:
| | Shares | | Exercise Price
per Share | | Weighted
Average
Exercise Price | |
| |
| |
| |
| |
Outstanding at December 31, 2001 | | | — | | | — | | | — | |
Granted | | | 5,360,000 | | | 0.14-0.75 | | | 0.47 | |
| |
|
| |
|
| |
|
| |
Outstanding at December 31, 2002 | | | 5,360,000 | | | | | | | |
Granted | | | 1,500,000 | | $ | 0.5 | | $ | 0.5 | |
Exercised | | | — | | | — | | | — | |
Cancelled | | | (100,000 | ) | $ | 0.5 | | $ | 0.5 | |
| |
|
| |
|
| |
|
| |
Outstanding at December 31, 2003 | | | 6,760,000 | | $ | 0.14-0.75 | | $ | 0.48 | |
| |
|
| |
|
| |
|
| |
Options exercisable at December 31, 2003 | | | 4,385,000 | | $ | 0.14-0.75 | | $ | 0.46 | |
| |
|
| |
|
| |
|
| |
Options exercisable at December 31, 2002 | | | 3,510,000 | | $ | 0.14-0.75 | | $ | 0.46 | |
| |
|
| |
|
| |
|
| |
F - 17
INTERNATIONAL FUEL TECHNOLOGY, INC.
NOTES TO FINANCIAL STATEMENTS
| | | Options Outstanding | | Options Exercisable | |
| | |
| |
| |
| Exercise Price | | Number
Outstanding at
December 31,
2003 | | Weighted
Average
Remaining
Contractual
Life | | Weighted
Average
Exercise
Price | | Number
Exercisable at
December 31,
2003 | | Weighted
Average
Exercise
Price | |
|
| |
| |
| |
| |
| |
| |
| $0.14 - $0.25 | | | 1,510,000 | | | 4.7 | | $ | 0.23 | | | 1,510,000 | | $ | 0.23 | |
| $0.50 - $0.75 | | | 5,250,000 | | | 4.7 | | | 0.55 | | | 2,875,000 | | | 0.59 | |
| | |
|
| |
|
| |
|
| |
|
| |
|
| |
| | | | 6,760,000 | | | 4.7 | | $ | 0.48 | | | 4,385,000 | | $ | 0.46 | |
| | |
|
| |
|
| |
|
| |
|
| |
|
| |
In 2002 and 2003, IFT granted 3,000,000 and 500,000 stock options to non-employees. 1,000,000 of the options granted in 2002 vested immediately and were recorded as consulting expense at that time. The remaining 2002 options and all the 2003 options vest over 12 or 24 months and the fair value of the options are being recorded as consulting expense ratably over the vesting period. In 2003, 1,500,000 options granted in 2002 that had not yet vested were forfeited. IFT cancelled these options and reversed previously recognized consulting expense relating to these options. Total consulting expense recognized in connection with these options was $174,167 in 2002 and $779 in 2003.
F - 18
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
INTERNATIONAL FUEL TECHNOLOGY, INC.
(Registrant)
By: | /s/ JONATHAN R. BURST | | Date | March 19, 2004 | |
|
| | | | |
| Jonathan R. Burst | | | | |
| President and Chief Executive Officer | | | | |
| | | | | |
By: | /s/ MICHAEL F. OBERTOP | | Date | March 19, 2004 | |
|
| | | | |
| Michael F. Obertop | | | | |
| Chief Financial Officer | | | | |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on behalf of the registrant and in the capacities and on the dates indicated.
By: | /s/ JONATHAN R. BURST | | Date | March 19, 2004 | |
|
| | | | |
| Jonathan R. Burst | | | | |
| Chairman of the Board | | | | |
| | | | | |
By: | /s/ REX CARR | | Date | March 19, 2004 | |
|
| | | | |
| Rex Carr | | | | |
| Director | | | | |
| | | | | |
By: | /s/ GARY KIRK | | Date | March 19, 2004 | |
|
| | | | |
| Gary Kirk | | | | |
| Director | | | | |
| | | | | |
By | /s/ DAVID B. NORRIS | | Date | March 19, 2004 | |
|
| | | | |
| David B. Norris | | | | |
| Director | | | | |
| | | | | |
By: | /s/ HARRY DEMETRIOU | | Date | March 19, 2004 | |
|
| | | | |
| Harry Demetriou | | | | |
| Director | | | | |
| | | | | |
By: | /s/ JOHN P. STUPP JR. | | Date | March 19, 2004 | |
|
| | | | |
| John P. Stupp Jr. | | | | |
| Director | | | | |
| | | | | |
By: | /s/ TONY CROSS | | Date | March 19, 2004 | |
|
| | | | |
| Tony Cross | | | | |
| Director | | | | |
