SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
x ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2008
Commission File No. 000-10065
ADVANCE NANOTECH, INC.
Delaware | 20-1614256 | |
(State of Incorporation) | (I.R.S. Employer Identification No.) |
400 Rella Boulevard, Suite 160
Montebello, NY, 10901
(845) 533-4225
(Address and telephone number of principal executive offices)
Securities registered under Section 12(b) of the Exchange Act:
Title of each class | Name of each exchange on which registered | |
None | None |
Securities registered pursuant to Section 12(g) of the Exchange Act:
Common Stock, $.001 par value
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark if disclosure of delinquent filers pursuant to item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer o | Non-accelerated filer o | Smaller reporting company x | |||
(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
State the aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant: $9,094,732, based upon the average bid and asked price of the registrant’s common stock, $.001 par value, of $0.25 per share as of June 30, 2008 multiplied by the approximate number of shares of common stock (36,378,926) held by persons other than executive officers, directors and five percent stockholders of the registrant without conceding that any such person is an “affiliate” of the registrant for purposes of the federal securities laws. Our common stock is traded in the over-the-counter market and quoted on the Over-The-Counter Bulletin Board under the symbol “AVNA.”
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 55,407,572 at March 28, 2009.
DOCUMENTS INCORPORATED BY REFERENCE: Portions of Advance Nanotech, Inc.’s definitive Proxy Statement for the 2009 Annual Meeting of Stockholders are incorporated by reference in Part III of this Annual Report on Form 10-K.
ADVANCE NANOTECH, INC.
ANNUAL REPORT
ON FORM 10-K
INDEX
PAGE | ||||
PART I | ||||
Item 1. | Business | 1 | ||
Item 1A. | Risk Factors | 10 | ||
Item 1B. | Unresolved Staff Comments | 18 | ||
Item 2. | Properties | 18 | ||
Item 3. | Legal Proceedings | 18 | ||
Item 4. | Submission of Matters to a Vote of Security Holders | 18 | ||
PART II | ||||
Item 5. | Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities | 19 | ||
Item 6. | Selected Financial Data | 19 | ||
Item 7. | Management's Discussion and Analysis of Financial Condition and Results of Operations | 20 | ||
Item 7A. | Quantitative and Qualitative Disclosures About Market Risk | 24 | ||
Item 8. | Financial Statements and Supplementary Data | 24 | ||
Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure | 24 | ||
Item 9A(T). | Controls and Procedures | 24 | ||
Item 9B. | Other Information | 25 | ||
PART III | ||||
Item 10. | Directors, Executive Officers and Corporate Governance | 26 | ||
Item 11. | Executive Compensation | 29 | ||
Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | 29 | ||
Item 13. | Certain Relationships and Related Transactions, and Director Independence | 30 | ||
Item 14. | Principal Accounting Fees and Services | 30 | ||
PART IV | ||||
Item 15. | Exhibits, Financial Statement Schedules | 31 | ||
SIGNATURES | 33 | |||
FORWARD LOOKING STATEMENTS
This report contains certain forward-looking statements of our intentions, hopes, beliefs, expectations, strategies, and predictions with respect to future activities or other future events or conditions within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are usually identified by the use of words such as “believe,” “will,” “anticipate,” “estimate,” “expect,” “project,” “plan,” “intend,” “should,” “could,” or similar expressions. These statements are only predictions and involve known and unknown risks, uncertainties and other factors, including the risks outlined under Item 1A. “Risk Factors” and other sections of this report, that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements, express or implied by these forward-looking statements.
Although we believe that the assumptions underlying the forward-looking statements contained in this report are reasonable, any of the assumptions could be inaccurate, and, therefore, there can be no assurance that the forward-looking statements included in this report will prove to be accurate. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements in this report and any amendments to this report. We will not update these statements unless the securities laws require us to do so. Accordingly, you should not rely on forward-looking statements because they are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results to differ materially from those contemplated by the forward-looking statements.
WHERE YOU CAN FIND MORE INFORMATION
As a public company, we are required to file annually, quarterly and current reports, proxy statements and other information with the Securities and Exchange Commission, or SEC, or you may read and copy any of our materials on file with the SEC at the SEC's Public Reference Room at 100 F Street, N.E., Room 1580, Washington, D.C. 20549. Our filings are available to the public over the Internet at the SEC's website at http://www.sec.gov. Please call the SEC at 1-800-732-0330 for further information on the Public Reference Room. We also provide copies of our Forms 8-K, 10-K and 10-Q, Proxy Statement and Annual Report at no charge to investors upon request and make electronic copies of our most recently filed reports available through our website at www.owlstonenanotech.com as soon as reasonably practicable after filing such material with the SEC.
ITEM 1. BUSINESS
Unless otherwise noted, the terms "Advance Nanotech", the "Company", "we", "us", and "our" refer to the ongoing business operations of Advance Nanotech, Inc. and its subsidiaries, whether conducted through Advance Nanotech or a subsidiary of the company.
Overview
Current Operations
We are a development stage company seeking to commercialize novel chemical sensor products based on our proprietary and innovative gas sensing technology, developed by our Owlstone Nanotech, Inc. subsidiary. Our technology offers an attractive combination of small size, high sensitivity, low power consumption, reprogrammability, high chemical selectivity and low cost. Historically, we were developing several nanotechnologies. In December 2007, we decided to revise our strategy to focus our efforts principally on the commercialization of our chemical detection technology. As such, we determined to progressively divest ourselves of our other technologies and their respective subsidiaries, which we have substantially completed. Our operating business today is centered upon our Owlstone subsidiary and the ongoing commercialization of its products.
In the United States alone, the chemical sensor market is projected to surpass $5 billion by 2012, according to Freedonia Group, with additional opportunities in the military market. We have initially targeted the industrial and homeland defense sectors. In later stages, we plan to commercialize sensing products for the consumer, environmental monitoring and medical diagnostics markets. We are poised to benefit from powerful trends driving the demand for improved technologies within the chemical sensing arena, including substantial government and private sector investment in homeland security, regulatory emphasis on safety, and increasingly stringent environmental regulations.
The market for chemical sensing faces unique challenges in detecting hazardous substances in various forms and in a myriad of operating environments. In homeland defense, chemical sensors are used to detect chemical warfare agents and explosives to protect military personnel, government buildings and civilians. In industrial applications, chemical sensors monitor air quality for health and safety purposes and also provide vital information during manufacturing processes. The existing technologies for chemical sensors in these industries are outdated and are typically limited by physical size, sensitivity and/or reliability. We believe that these factors have led to unacceptable sample collections, uninspired deployment scenarios, high false-positive rates and, subsequently, a call to action by the U.S. Department of Defense for better solutions.
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Our Solution
Our sensing technology was specifically designed to meet the specifications set forth by the U.S. Department of Defense. The key element of the Owlstone sensor is a silicon chip that provides a chemical-sensing mechanism using Field Asymmetric Ion Mobility Spectrometry, or FAIMS, a variant of conventional Ion Mobility Spectrometry, or IMS. Our technology enables unprecedented miniaturization of sensors with superior analytical capability at a compelling cost advantage, the ability to be programmed and reprogrammed to detect a wide range of substances, and high selectivity and sensitivity. The Owlstone detector was conceived by Andrew Koehl who began the development of Owlstone’s fundamental technology in 2001. Mr. Koehl was later joined by Paul Boyle and David Ruiz-Alonso and, together, they developed the core technology. A summary of the benefits of our solution is as follows:
Unprecedented Miniaturization using Standard Manufacturing Techniques
The sheer size of current chemical sensing units limits their deployment and provides a specific challenge in sample collection. The small size of our detector enables flexible deployment and allows for the sensor to be moved into contact with the sample, a novel approach in many existing chemical sensing applications. In homeland defense, this means more comprehensive sensing through the use of distributed networks of sensors. In industrial applications, this means a sensor or a sensor network can be integrated directly into process control providing real-time monitoring of chemical composition, which saves companies both time and money. Our technology enables miniaturized and cost effective detectors with low power consumption through its proprietary chip. Despite the innovative and proprietary design of the chip, it is manufactured via standard silicon-based microchip fabrication, which reduces its manufacturing cost. This increases the number of potential applications such as weaving the chip into the lapel of every military uniform, which provides local chemical sensing at the individual troop level.
Software Reprogrammable Sensor
Most competing sensors are designed to detect a narrow set of substances and cannot be reprogrammed once deployed, thereby limiting their scope of use. To update a deployed sensor, additional costs are incurred due to the need to physically replace sensor modules that detect substances other than the ones they were originally intended to detect. The Owlstone sensor solves this problem through the modularity of the components that comprise its sensing system. The separation of the detector hardware from the software application containing the “intelligence” to distinguish chemical signatures allows the Owlstone sensor system to be reprogrammed without having to replace hardware. Whether the sensor is programmed to detect benzene or sarin, the underlying hardware remains the same; when coupled with a wireless device, the sensor can be updated remotely at the direction of the end user. This enables an installed base of Owlstone sensors to be remotely reprogrammed to detect additional substances or even new substances not yet developed. Given today’s dynamic terrorist threats, the ability to quickly and cost-effectively adapt to new hazards will be invaluable for applications, such as in airports and subway systems. In comparison to competing technologies, the Owlstone sensor allows for the specialization and mass production of a single set of hardware devices for use across the spectrum of applications. Owlstone’s approach creates a significant time-to-market advantage for new product creation: as new products or applications are desired, the fundamental hardware remains the same, thereby eliminating the need for customization of manufacturing.
Vast Reduction in False-Positives
A major problem with most existing detection systems is their cross-sensitivity to background interferants, which leads to false-positives. False-positives resulting from seemingly normal background interferants, such as perfumes, result in unnecessary and costly responses. The Owlstone sensor offers significant selectivity advantages over other micro-sensors currently being utilized by providing a more detailed chemical fingerprint, thereby resulting in a higher degree of confidence in the chemical identification process and a lower false-positive rate. In addition, a distributed network provides more points of analysis and further reduces spurious responses. Current development partnerships are focused on bringing to market chemical sensing devices for gases like benzene and formaldehyde, known as volatile organic compounds, or VOCs, at detection levels many times more sensitive than other technologies with much lower corresponding false-positive rates. These features of the Owlstone sensor enable applications where false-positive rates must be minimized. For example, it allows the deployment of sensors to mass transit systems and government buildings where common interferants are difficult to predict or control and currently result in disruptions in operations.
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Our Products
We are currently marketing two chemical sensing products, Tourist and Lonestar, and have partnered with various organizations to develop additional products based on our technology. Tourist is an evaluation platform currently being sold by Owlstone to select partners and customers. Our Lonestar product is a fully functional unit for certain applications in industrial markets as well as a test platform for partners providing a fully integrated and deployable chemical detection system. Lonestar was launched in July 2007, and we have commenced shipping units to end-users. In addition, we have also developed and shipped a third product called the Owlstone OVG-4, which is a system for generating trace concentration levels of chemicals and calibration gas standards for the purpose of testing and calibrating Owlstone and other sensor systems in both laboratory and field deployment.
We intend to keep our sales organization lean and are pursuing product-based strategies within markets that are characterized by high-volume, centralized procurements. In applications where procurement is fragmented, we intend to partner with existing market leaders that already possess distribution networks and infrastructure using either “component” supply or contract sales strategies and with other partners whose placement in a territory or market offers advantages, particularly if the territory is one in which we would not otherwise concentrate our own efforts.
Industry Overview
The market for chemical sensors in the United States for existing technologies is forecast to exceed approximately $5 billion by 2012, according to the Freedonia Group. This market forecast excludes military applications. Chemical sensing for military applications using existing technologies was forecast at $1.2 billion in 2008, according to Frost & Sullivan. This does not include markets formed by the introduction of new innovative technologies that enable expanded deployment scenarios. There are significant trends driving the demand for improved technologies within the chemical sensing market, including substantial government and private sector investment in homeland security, regulatory emphasis on safety, and increasingly stringent environmental regulations.
Unlike a product specifically tailored for a single vertical industry, chemical sensor technology spans many industries and applications. Chemical sensors can be found in the heating and air conditioning systems of buildings, production lines of many manufacturing facilities, server rooms of computer hosting facilities, on battlefields, in airports, in hospitals, in residential homes and in laboratories. They can be stand-alone devices whose sole purpose it is to detect a specific chemical or gas, or they can be integrated as a component into other products where chemical sensing is only one part of its mission.
Our initial focus is in the homeland defense and industrial markets for chemical sensing. Additional markets for potential growth include environmental, consumer and medical industries, all of which we intend to pursue as our Owlstone sensor technology gains momentum in its initial markets.
Homeland Defense Market
The homeland defense market has an obvious need for comprehensive integrated chemical sensing devices. Sensor technologies in the homeland defense market are commonly categorized by their end use application, falling within either the detection of chemicals, biologicals, radiation, nuclear or explosives, which are referred to as CBRNE. We are principally focused on the explosive and chemical sensor technologies.
The most mature market within CBRNE is the explosives market, which has wide acceptance and deployment across government and civilian entities. Ion Mobility Spectrometry, or IMS, has heretofore been the technology of choice for explosives because of its significant sensitivity to defined explosive threats. However, IMS-based technologies are bulky, costly and unreliable.
Chemical sensing, while showing the greatest potential and garnering much of the attention in homeland defense, has primarily been the domain of the military and first responders, leaving the general public and most government facilities unprotected. The chemical sensing market consists of three major segments: worn, handheld and 24/7 monitoring.
· | Worn Sensors: The worn sensor market has been redefined by U.S. military programs such as JCAD (Joint Chemical Agent Detector) and includes requirements that aggressively combine performance, size, weight and cost characteristics. The objective of JCAD is to develop and provide military services with a lightweight portable monitoring and chemical agent detector for ships, aircraft and individual war-fighting applications. |
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· | Handheld Sensors: The handheld sensor market is predominately driven by the use of chemical detection systems within first responders and the military. A mature marketplace with tens of thousands of systems currently deployed, opportunities are currently driven by the naturally occurring replacement cycle and the introduction of improved systems for use in mobile applications. The push for improved solutions will be increasingly driven by the integration of multiple technologies (e.g., photoionization detector and chemical detection) rather than the individual improvement of one detection technique. By combining chemical detection with an existing, established and standard first response instrument, we have the opportunity to redefine the handheld systems currently in this market and create an immediate replacement cycle opportunity. |
· | 24/7 Monitoring: 24/7 monitoring includes sensing systems with the purpose of protecting critical infrastructure on a continuous basis. The creation of governmental programs for the purpose of protecting critical infrastructure within mass transit systems and select government facilities has exposed the deficiencies of existing chemical sensing solutions. These deficiencies include ineffective sample collection, nuisance alarms and significant cost. For example, the introduction of chemical sensing into building protection has created scenarios where the requirement for proper sampling includes the addition of complex mechanical systems and the modification of building infrastructure. The result of these scenarios is a cost-prohibitive investment that leaves the market relegated to only the most high-profile facilities. Another challenge facing chemical sensing solutions is the presence of nuisance alarms as a result of common cleaning agents, such as bleach- or ammonia-based products. Current chemical sensing solutions offer little to no quantitative capabilities for the validation and management of nuisance alarms. |
Industrial Market
The industrial market is divided into process control and health and safety applications.
· | Process Control: Process control involves the monitoring of manufacturing processes to ensure quality control and consistency in manufacturing operations. For example, chemical sensors can be used by pharmaceutical, food processing and petrochemical companies to monitor manufacturing processes and react when inconsistencies are identified. In certain markets, there is an absence of detection-based process control sensors providing continuous information on chemical presence and composition. As a result of sample collection limitations, existing technologies do not offer real-time, continuous monitoring of process control and instead offer only a single “point-in-time” analysis. In-line monitoring provides companies with continuous quality control, thereby allowing users to immediately identify and rectify deviations from the intended process and save companies time and money. Our sensor is uniquely positioned to capitalize on these challenges through its flexible deployment and selectivity characteristics. |
· | Health and Safety: Health and safety detection systems are intended to protect personnel occupying industrial facilities from hazardous chemicals. There is a known deficiency with existing sensors in industrial environments with respect to the simultaneous detection of multiple gases and the detection and concurrent identification of specific substances (e.g., benzene). Our sensor has been demonstrated to detect a range of volatile organic compounds, including benzene, and has done so in the presence of complex mixtures and common interferants. |
Market Opportunity
While there are an array of chemical detection technologies to support a variety of markets and needs, available technologies often fall short of what is desired by end users. These technologies include IMS and sorbent materials technology.
Miniature sensors do exist in the market today, but they are limited based on their underlying technology. For example, current miniature chemical sensors, such as sorbent materials sensors, provide low performance and have several limitations such as:
· | they typically provide a simple “yes/no” response to the identification of individual gases; |
· | measurements can be adversely affected by slight changes in environmental variables, like fluctuations in temperature; |
· | the presence of chemicals unrelated to the target chemicals of interest, called interferants, can cause an erroneous response; |
· | they are typically pre-functionalized, meaning they are built to detect a certain chemical and cannot be reprogrammed to detect other chemicals if needed after deployment in the field; and |
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· | most miniature sensors on the market today target simple gases with a low molecular weight, leaving few solutions to sense more complex substances like benzene or formaldehyde. |
Higher performance instruments, such as those using IMS, also have their limitations:
· | they are large, costly and power hungry; |
· | they typically require high voltages and are difficult to assemble, leading to power, weight and cost deficiencies; and |
· | the sheer size and cost of such instruments precludes their use in many scenarios. IMS is commonly used in security applications for the detection of explosives and dangerous chemical agents but is too big and expensive to be used in mass battlefield deployment scenarios. |
The increasing emphasis on indoor air quality from government regulators and other organizations is leading to a need for innovative air quality monitoring equipment. There are a numbers of chemicals that can be present in domestic and office air which are damaging to health, including volatile organic compounds. While existing chemical sensors are capable of detecting volatile organic compounds, they are generally unable to differentiate between different chemicals and, therefore, cannot discriminate between harmful and harmless volatile organic compounds. Legislation to enforce air quality standards is already in place in Hong Kong, Japan, Korea and Malaysia, with Europe and the U.S. anticipated to follow suit. Current technology has yet to keep up with the legislation, as there is not an effective deployable solution to monitor air quality to ensure compliance.
As a result of limitations of existing technology solutions, there are several current market needs that cannot be met and demand a new approach to chemical sensing.
Benefits of Our Sensor
While the market for chemical sensing has been defined by existing technologies, we believe that the overall chemical sensing market will grow due to the availability of novel sensing products such as those that we are developing. Our proprietary design and use of Field Asymmetric Ion Mobility Spectrometry, or FAIMS, enables our chemical sensor to be brought to the sample, an approach that existing technologies do not permit due to size limitations. Our flexibility in deployment enhances the ability to utilize networked sensor systems within environments where it is difficult to obtain a proper sample for analysis.
The following outlines the combination of features that distinguish our technologies from our competition:
· | Small and Lightweight: Cutting-edge, micro-electromechanical systems and micro-fabrication techniques are used to integrate the spectrometer (or sensor) onto a silicon microchip, thereby enabling a new class of detection solutions with unprecedented analytical unit miniaturization capability. |
· | Cost Effective: Use of standard, micro-fabrication techniques makes it possible to manufacture in volume accurately and repeatedly at an extremely low cost. This affordability opens up the prospect of new applications and deployment scenarios, including disposable use for selective volatile chemical detection. |
· | Customizable and Reprogrammable: Because our technology relies on programmable intelligence rather than pre-functionalization, it is easily customized through software updates and can be dynamically reprogrammed remotely for new target applications even after commissioning. |
· | Rapid Analysis and Continuous Monitoring: Analysis and results are obtained in a fraction of a second, with the ability to measure the presence, absence or concentration of chemicals accurately, rapidly and continuously in real-time. |
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· | Sensitive: Ion-based detection offers the highest level of sensitivity, thereby enabling the detection of minute traces of targeted substances down to parts-per-billion levels so that compounds can be identified before they reach significant levels. This is especially important in prognostics and health management systems. |
· | Low Power: Integration onto a chip leads to low power consumption, which allows for battery operation. The “instant on” capability of our sensor means that it can be quickly cycled on and off to maximize battery lifetime. |
· | Reduced False-Positive Rate: By creating a complete “fingerprint” of a chemical and by operating in a distributed network environment, it is possible to dramatically reduce anomalous false-positives. |
· | Networkable: The addition of a drop-in wireless capability provides a networked sensor solution. This eases installation and facilitates deployment in an ad-hoc manner for remote monitoring applications. Networked sensors also provide greater coverage in obtaining samples from various locations within a desired environment. |
· | Durable: A semi-permeable membrane on the sensor excludes dust and dirt and allows continued operation in environments with high traffic, humidity or contamination. |
· | Long Life: There are no degradable materials used in manufacturing our sensor that would otherwise limit the lifetime of the sensor, thereby reducing overall maintenance costs. |
Our chemical sensing technology can be used wherever there is the need for a highly sensitive and selective method of detection. In addition, our low power requirements and potential for miniaturization and cost optimization creates further advantage and separation as compared to other available solutions. The following outlines potential applications of our sensors in various markets. While our initial focus is on the homeland defense and industrial markets, we believe that there is significant growth potential within these markets for novel deployments of chemical sensors.
In the homeland defense market, we believe that the following are some of the uses of our chemical sensors:
· | “temporary” battlefield detection network - air-dropping, disposable, small devices across a battlefield which would provide an intelligent, wireless network of chemical sensors that could alert central command about a chemical threat to protect troops; |
· | chemical sensor “button” - a small sensor can be worn by soldiers to create an immediate sensing device for soldiers to save time in seeking shelter or dawning chemical protection gear if needed; and |
· | nitrogen oxides monitor - monitoring of nitrogen oxides (NOx) concentrations in exhaust gas to ensure values do not exceed permissible limits; and |
· | cabin air quality sensor - detection of volatile organic compounds and other pollutants inside a car for cabin air quality management. |
In the consumer market, we believe that the following are some of the uses of our chemical sensors:
· | next generation smoke detectors for the home - smoke detectors that detect pre-combustion chemical signatures (i.e., “the smoke before the smoke before the fire”) to help alert occupants about fire dangers, thereby possibly preventing a fire before it occurs; and |
· | integrated gas monitors - the detection of smoke, carbon monoxide, radon, volatile organic compounds and other gases could all be integrated into a home network of sensors protecting families. |
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In the environmental applications market, we believe that the following are some of the uses of our chemical sensors:
· | Emissions monitor - monitor the emission of harmful industrial gases into the atmosphere that may damage the environment; |
· | detection of toxic industrial compounds - test for the release of toxic compounds, monitor decontamination efforts and confirm effective remediation of the chemical agent; and |
· | water quality monitor - monitor for contamination and toxicity to ensure the safety of drinking water supplies. |
In the medical applications market, we believe that the following are some of the uses of our chemical sensors:
· | Diagnostic instrument - analysis of breath or bodily fluids for non-invasive diagnosis or monitoring of disease; |
· | treatment monitor - analysis of breath or bodily fluids for non-invasive monitoring of treatment efficacy and progress; and |
· | anesthesia and respiratory monitor - detect exhaled anesthesia agents and other relevant indicators in the breath to minimize the response time of clinicians to vital signs. |
Our Technology
Hardware Component
Our microchip sensor sits at the center of each of our products. It enables quicker and more accurate chemical detection and analysis. The sensor has the ability to measure the presence, absence or concentration of chemicals accurately, rapidly and continuously for real-time analysis at the point of need. The silicon sensor can be tuned to detect a wide range of airborne or dissolved chemical agents in extremely small quantities. It works by using a proprietary form of Field Asymmetric Ion Mobility Spectrometry, or FAIMS, which is a sensitive and proven method of trace detection in which a chemical fingerprint is generated for each threat and is identified and classified using software. FAIMS is the evolution of IMS, which is the current method of choice for the detection of chemical warfare agents and explosives in the field.
In addition to our proprietary use of FAIMS, the Owlstone microchip chemical detection technology differs from previous generations of instrumentation in that micro- and nano-fabrication methods are used to integrate the spectrometer onto a silicon microchip. This leads to the following advantages: reduced size, lower cost, lower power consumption, and unprecedented performance-to-size ratio. Because standard semiconductor fabrication methods are used, parts can be mass produced at low cost, opening up opportunities for many exciting new applications for chemical detection such as mass deployment of sensors in “distributed network” configurations for military and industrial applications.
Unlike other miniature chemical sensor technologies that use pre-functionalization, our technology does not rely on exotic materials that must be custom-engineered for each application and degrade over time. Our sensor is easily customized to each application through software updates and can be dynamically reprogrammed for new signatures even after deployment. In addition, the use of chemically inert materials ensures a long shelf life.
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Software Component
Our technology relies on software intelligence to analyze the chemical fingerprint detected by the spectrometer on the microchip. The technology does not require pre-functionalization, a common requirement of other sensor technologies where the actual sensor is built only to detect a single substance. The sensor is a platform technology that can be used for many applications in many markets. It is adapted to each use through software rather than hardware changes. Thus, the core of the system remains the same between applications, but the software programmed into the device is different, thereby making it easy and quick to redevelop for new products in new markets. Our products can be updated for new chemical targets even after deployment in the field through software updates.
Because our technology uses multiple parameters to generate a spectrum, the resultant spectra, or fingerprints, are rich in information and allow a more accurate readout. Our technology can generate multidimensional spectroscopic images for analysis by using powerful image processing algorithms.
Competition
The market for chemical sensors is highly competitive, complex and fragmented, with many applications and many different competing technologies. Some companies are focused around specific industry niches, while others are focused around specific sensor types. Owlstone’s competitors can be segmented in two categories. First, chemical sensors relating to the technical methodology of detection; and second, direct corporate competitors in the FAIMS sensing space, which is the chosen technology deployment of Owlstone.
Intellectual Property
Our ability to successfully commercialize our products and technologies is significantly enhanced by our ability to secure strong intellectual property rights-generally patents-covering these products and technologies. The development and protection of intellectual property and proprietary technology is a key priority in our current and ongoing activities. As of March 31, 2009, we had been issued four U.S. patents. As of March 31, 2009, we had ten patent applications submitted and awaiting response and four patent applications pending submittal under PCT protection with the United States Patent and Trademark Office. In addition, we had six patent applications pending with European patent offices and four applications pending submittal, covering the key functional and operational features of our chemical detection technologies. Lastly, we had one patent issued in other jurisdictions with three applications submitted and four applications pending.
Government Approvals
In order to test, manufacture, distribute and market products for commercial use, we may need to satisfy mandatory procedures, licensing and safety and effectiveness standards established by our customers, including various regulatory bodies. Any adverse event, either before or after approval, can result in product liability claims against us, which could significantly and adversely impact our business, results of operations and the value of our common stock.
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Corporate History
We were originally formed as Colorado Gold & Silver, Inc., a Colorado corporation, on March 3, 1980, and subsequently changed our name to Dynamic I-T, Inc. and then in January 2004, changed our name to Artwork & Beyond, Inc., or Artwork. On October 1, 2004, Artwork entered into a share exchange agreement to acquire all of the issued and outstanding common stock of Advance Nanotech Holdings, Inc. pursuant to the terms and conditions set forth in the share exchange agreement. The acquisition transaction closed simultaneously with the execution of the share exchange agreement. Artwork and its affiliates were unrelated to the stockholders of Advance Nanotech Holdings, Inc. prior to the execution, delivery and performance of the share exchange agreement. As a result of this transaction (and certain capital transactions, including a reverse 100-to-1 stock split on October 5, 2005), control of Artwork was changed, with the former stockholders of Advance Nanotech Holdings, Inc. acquired approximately 99% of Artwork’s outstanding common stock. In addition, all of the officers and directors of Artwork prior to the transaction were replaced by designees of the former shareholders of Advance Nanotech Holdings, Inc., and Artwork’s corporate name was changed to “Advance Nanotech, Inc.” As a consequence of the change in control of Artwork resulting from these transactions, all prior business activities of Artwork were completely terminated, and Artwork adopted the business plan developed by Advance Nanotech Holdings, Inc. prior to the transaction. On October 5, 2004, the new Board of Directors approved the change of the issuer’s name to “Advance Nanotech, Inc. (a Colorado corporation),” or Advance Nanotech Colorado.
On June 19, 2006, Advance Nanotech Colorado merged with and into its newly-formed, wholly-owned subsidiary, Advance Nanotech, Inc., a Delaware corporation, or Advance Nanotech Delaware, in order to reincorporate in the State of Delaware. The reincorporation was approved by Advance Nanotech Colorado's shareholders on May 11, 2006. As a result of the reincorporation, our legal domicile is now Delaware. Each outstanding Advance Nanotech Colorado common share was automatically converted into one Advance Nanotech Delaware common share. As a result of the reincorporation, each outstanding option, right or warrant to acquire shares of Advance Nanotech Colorado common stock converted into an option, right or warrant to acquire an equal number of shares of Advance Nanotech Delaware common stock, with no further action required by any party, under the same terms and conditions as the original option, right or warrant.
On December 19, 2007, the Company entered into an exchange agreement (as amended, the “Exchange Agreement”) with certain stockholders (the “Owlstone Founders”) of its majority owned subsidiary Owlstone Nanotech, Inc. (“Owlstone”) to increase the Company's ownership interest in Owlstone. Pursuant to the Exchange Agreement, the Company on September 4, 2008 (i) issued 13,291,039 shares of its common stock to the Owlstone Founders in exchange for Owlstone shares representing approximately 24% of Owlstone that we did not already own and (ii) granted to the employees of Owlstone options to purchase in the aggregate 11,000,000 shares of common stock for $0.25 per shares in exchange for the cancellation of Owlstone options outstanding and the right to acquire further Owlstone option grants. The Company is also obligated under the Exchange Agreement (i) to issue in the aggregate 10,000,000 shares of restricted stock with a vesting schedule still to be determined and (ii) to offer to acquire the remaining shares of Owlstone common stock outstanding or issuable upon conversion of Owlstone convertible notes (representing approximately 26.21% of the remaining Owlstone shares) for in the aggregate up to 16,511,760 shares of our common stock and warrants to purchase 9,448,881 additional shares of our common stock for $0.30 per share.
Discontinued Operations
In November 2008, we de-listed Advance Display Technologies plc from the Plus Market Group in the United Kingdom as part of our strategy of divesting away from our non-core technologies and also shut down all our U.K. subsidiaries, except for Owlstone Limited, to further reduce operating costs. Therefore, the Company has discontinued operations of the following U.K. subsidiaries: Advance Nanotech Limited, Nanofed Limited, Cambridge Nanotechnology Limited, Bio-Nano Sensium Limited, Nano Solutions Limited, Advance Display Technologies plc, Advance Homeland Security plc. The operations and cash flows of these subsidiaries have been eliminated from the accounts of our ongoing operations and major classes of assets and liabilities related thereto have been segregated. The loss from discontinued operations and including the impairment of certain assets of discontinued operations have been reflected in the financial statements of this annual report.
As of March 28, 2009, we had 35 employees, including 32 full-time employees, on a consolidated basis.
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We are a development stage company and we have limited historical operations. We urge you to consider our likelihood of success and prospects in light of the risks, expenses and difficulties frequently encountered by entities at similar stages of development.
The following is a summary of certain risks we face. They are not the only risks we face. Additional risks of which we are not presently aware or that we currently believe are immaterial may also harm our business and results of operations. The trading price of our common stock could decline due to the occurrence of any of these risks, and investors could lose all or part of their investment. In assessing these risks, investors should also refer to the other information contained or incorporated by reference in our other filings with the Securities and Exchange Commission.
CERTAIN RISK FACTORS RELATING TO OUR BUSINESS
We may need to obtain additional funds in the near future, and, if we are unable to secure adequate funds on acceptable terms, we may be unable to support our business plan and be required to suspend operations.
We may need to obtain additional funds in the near-term, and may seek to do so by entering into one or more strategic arrangements, borrowing funds on a senior secured basis, conducting one or more private placements of equity securities, selling additional securities in a registered public offering, or through a combination of one or more of such alternatives. There can be no assurance that any additional funds will be available to us as and when required, or on terms that will be acceptable to us. If we are unable to obtain the funds required on a timely basis, we may not be able to fund our projects and the development of the businesses of our subsidiaries. In such event, we may be required to suspend our plan of operations. Moreover, even if the necessary funding is available to us, the issuance of additional securities would dilute the equity interests of our existing stockholders, perhaps substantially.
We have not generated significant revenue in the past and have not been profitable historically.
Since inception, we have generated revenue of $4,284,610 as of December 31, 2008. Given our strategy of developing unproven technologies in the chemical detection business, we do not expect to realize significant revenue from operations and achieve profitability before the end of 2009. However, the Company projects to be cash flow positive in the fourth quarter of 2009, assuming that our efforts to obtain additional funds are achieved. Any delays beyond the expected development periods for our technologies would prolong, and could increase the level of, our operating losses and negative operating cash flow. Many factors (including factors beyond our control) could result in a disparity between liquidity sources and cash needs, including those discussed below.
We are a development stage company, and our success is subject to the substantial risks inherent in the establishment of a new business venture.
Our business and operations should be considered to be in the development stage and subject to all of the risks inherent in the establishment of a new business venture. Accordingly, our intended business and operations may not prove to be successful in the near future, if at all. Any future success that we might enjoy will depend upon many factors, many of which may be beyond our control, or which cannot be predicted at this time. We may encounter unforeseen difficulties or delays in the implementation of our plan of operations, which could have a material adverse effect upon our financial condition, business prospects and operations and the value of an investment in our common stock. In November 2008, we refined our strategy to focus solely on chemical detection technologies and as a result de-listed one of our U.K. subsidiaries from the Plus Market exchange and discontinued operations of our noncore U.K. subsidiaries. Implementation of this strategy is still in its early stages.
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We will need to achieve commercial acceptance of the chemical detection technologies that we develop to obtain revenue and achieve profitability.
Chemical detection technologies are evolving rapidly, product life cycles are short and technologies can become obsolete. Even if our research efforts are successful, during the period before which our technology becomes commercially viable, superior competitive technologies may be introduced or customer needs may change, diminishing or extinguishing the commercial uses for our technologies.
The governmental and private sector markets into which we sell our products and the types of products sold in these markets are emerging. Our ability to grow will depend in part on the rate at which markets for our products develop and on our ability to adapt to emerging demands in these markets. Our ability to compete will depend on our ability to design, develop, manufacture, assemble, test, market, sell and support new products and enhancements quickly and cost effectively. We may lose our competitive position if we fail to innovate and develop new products quickly. In addition, geopolitical developments, terrorist attacks and government mandates may cause sharp fluctuations in the demand for our products. If, for any of these or other reasons, any of our technologies fail to gain acceptance in the market, we will not recoup our development costs, and we will have to attempt to develop new technologies and products, which could have a material adverse effect on our business, cash flows and results of operations.
We may need approval from our customers, including governmental authorities in the U.S. and other countries, to successfully realize commercial value from our activities.
In order to test, manufacture and market products for commercial use, we may need to satisfy mandatory procedures and safety and effectiveness standards established by our customers, including various regulatory bodies. Any adverse event, either before or after approval, can result in product liability claims against us, which could significantly and adversely impact our business, results of operations and the value of our common stock.
A substantial portion of our revenues currently depends on sales to the U.S. government and could be affected by changes in federal funding levels.
Agencies and departments of the U.S. government currently account for substantially all of our revenues from research and development contracts and grants. We are counting on significant revenues from U.S. government contracts for the foreseeable future. U.S. government programs are limited by budgetary constraints and are subject to uncertain future funding levels that could result in the termination of programs. A decline in security-related government spending, or a shift away from chemical detection programs that we address, could hurt our sales, put pressure on our prices and reduce our revenues and margins.
The U.S. government may terminate or modify its contracts with us.
We must comply with and are affected by laws and regulations relating to the formation, administration and performance of U.S. government contracts, which affect how we do business as a contractor and which may impose additional expenses on our business.
There are inherent risks in contracting with the U.S. government. The U.S. government can typically terminate, reduce orders under or otherwise modify any of its contracts with us for its convenience (i.e., without cause) whether or not we have failed to perform under the terms of the applicable contract. In such case, the government would not be required to pay us for the lost profits for the unperformed work. A termination arising out of our default could expose us to liability and harm our ability to compete for future contracts and orders. In addition to unfavorable termination provisions, our U.S. government contracts and related regulations contain provisions that allow the U.S. government to unilaterally suspend us from receiving new contracts pending resolution of alleged violations of procurement laws or regulations, reduce the value of existing contracts, issue modifications to a contract and control and potentially prohibit the export of our services and associated materials.
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We have limited sales and marketing capabilities and ultimately may not be successful in selling or marketing any technologies that we develop.
The creation of infrastructure to commercialize products is a difficult, expensive and time-consuming process. We currently focus our business on identifying and funding chemical detection technologies, and we have limited sales and marketing capabilities. We need to develop a stronger sales and marketing force with technical expertise and distribution capability or rely upon third parties to produce, sell and market our technologies on our behalf. To the extent that we enter into co-promotion or other licensing arrangements, any revenues to be received by us will be dependent on the efforts of third parties if we do not undertake to develop our own sales and marketing capabilities. The efforts of third parties may not be successful. We may not be able to establish direct or indirect sales and distribution capabilities or be successful in gaining market acceptance for proprietary products or for other products. Our failure to establish marketing and distribution capabilities or to enter into marketing and distribution arrangements with third parties could have a material adverse effect on our revenue and cash flows.
The lengthy sales cycles of our products may cause our revenues to fluctuate substantially.
Customers evaluating our products must often make very difficult choices about product capabilities and costs. Many of our customers buy our products to implement or enhance large projects. Our larger customers take longer to evaluate our products and place new orders. For these and other reasons, our products have long sales cycles. Sales are often delayed or cancelled for reasons that we cannot control. Delays and cancellations could significantly affect revenues reported for any given financial quarter.
We are dependent on third-party suppliers for component parts used in the assembly of our products.
We are dependent on third parties to supply many materials used by the technicians in our facilities. Because we rely on outside parties to supply certain critical components used in assembling our products, our business and financial viability are dependent on the regulatory compliance and timely and effective performance of these third parties. We depend on the quality of the products supplied to us over which we have limited control. We are also dependent on the strength, validity and terms of our various contracts with third-party suppliers.
We are dependent on third parties for the manufacture of our products and, therefore, will have limited control of the manufacturing process and related costs.
Any technologies that we successfully develop will require third-party assistance in manufacturing them. If we are unable to collaborate with outside parties capable of performing manufacturing operations, at acceptable costs, our effort to commercialize a particular technology may not prove successful. The efforts of those third parties may not be successful. We may not be able to establish relationships with third-parties to manufacture our products, or the cost thereof may result in our not generating a profit from the product. Any interruption or failure by these suppliers, distributors and collaboration partners to meet their obligations pursuant to various agreements with us could have a material adverse effect on our business, profitability and cash flows.
Failure to obtain and maintain approvals and permits from governmental and regulatory agencies, including with respect to use of radioactive materials, could have a material adverse effect on us.
In order for us to operate our chemical detection business, we need to register with, and obtain licenses from, the Nuclear Regulatory Commission in order to distribute and possess radioactive materials that we utilize in our products. We have no control over the outcome of the review and approval process. We do not know whether or when any such approvals, permits or licenses can be obtained, or whether or not any existing or potential interventions or other actions by third parties will interfere with our ability to obtain and maintain such permits, licenses or approvals. Failure to obtain and maintain any of these approvals, licenses and permits could have a material adverse effect on our business, results of operations, financial condition and prospects.
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We face competitive business conditions that a small business issuer may struggle with to gain a competitive position in the industry.
We face intense and ever-changing competition from other established companies in the chemical detection industry. Many of these companies are competitors who possess significantly greater financial, managerial, engineering, manufacturing and marketing resources. For example, our competitors include very large and experienced enterprises, including BAE Systems, plc, Canberra Industries, Inc., DRS Technologies, Inc., FLIR Systems Inc., General Electric Company, Goodrich Corporation, Honeywell International, Inc., ICX Technologies, Inc., L-3 Communications Holdings, Inc., RAE Systems, Inc., SAIC, Inc., Smiths Industries, Ltd. and United Technologies Corporation. Our competitors may successfully develop technologies that outperform our technologies, respond better to customer requirements, cost less or otherwise gain greater market acceptance. Our larger competitors may be able to better manage large or complex contracts, maintain a broader geographic presence, compete more effectively on price, or provide a greater level of customer support. Any of these competitors may be able to respond more quickly to new technology, market developments or pursue new sales opportunities more effectively than we can.
Given our small size, changing technology and our limited resources, the intensity of competition will likely continue for the foreseeable future. This may limit our ability to introduce and market our products, limit our ability to adequately price our planned products and services and, ultimately, limit our ability to generate sufficient sales revenues that would allow us to achieve profitability and positive cash flow.
Our success depends on the attraction and retention of senior management and technicians with relevant expertise.
Our future success will depend to a significant extent on the continued services of its key employees. The Owlstone detector was conceived by Andrew Koehl who began the development of Owlstone’s fundamental technology in 2001. Mr. Koehl was later joined by Paul Boyle and David Ruiz-Alonso and, together, they developed the core technology. We do not maintain key man life insurance for any executive officer. Our ability to execute our strategy also will depend on our ability to attract and retain qualified technicians and sales, marketing and additional managerial personnel. If we are unable to find, hire and retain qualified individuals, we could have difficulty implementing our business plan in a timely manner, or at all.
We are subject to the attendant risks of conducting business in foreign countries.
We conduct some business with companies located outside the U.S. As a result, we are subject to the attendant risks of conducting business in foreign countries, including:
· | difficulty in managing and evaluating technical progress of projects funded at research facilities of our strategic partners and/or collaborators internationally; |
· | difficulty in identifying, engaging, managing and retaining qualified local employees; |
· | difficulty in identifying and in establishing and maintaining relationships with strategic partners, research collaborators and suppliers of finished and unfinished goods and services; |
· | the potential burden of complying with a variety of foreign laws, trade standards and regulatory requirements, including import and export control laws, tariffs and other barriers; |
· | limited protection of our intellectual property and limited ability to enforce legal rights and remedies; and |
· | general geopolitical risks, such as political and economic instability and changes in diplomatic and trade relations. |
Our international operations expose us to risks associated with fluctuations in foreign currencies.
As part of our international operations, from time to time in the regular course of business, we convert dollars into foreign currencies and vice versa. The value of the dollar against other currencies is subject to market fluctuations, and the exchange rate may or may not be in our favor.
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Our business has inherent operational risks that cannot be adequately covered by insurance or indemnity, and our products and technologies may not qualify for protection under the SAFETY Act.
We may face unanticipated risks of legal liability for damages caused by the actual or alleged failure of technologies that we supply. Our products may be deployed in response to an emergency or terrorist attack, which may increase our exposure to third-party claims. Many of our technologies are unproven. We may face liabilities related to these products. While we have attempted to secure appropriate insurance coverage at appropriate cost, it is impossible to insure against all risks that inhere in our industry or guarantee that insurers may pay a particular claim, or that we will be able to maintain coverage at reasonable rates in the future. Substantial claims resulting from an accident in excess or not otherwise covered by indemnity or insurance could harm our financial condition and operating results. Our insurance policies also contain deductibles, limitations and exclusions which increase our costs in the event of a claim.
Under the “SAFETY Act” provisions of the Homeland Security Act of 2002, the U.S. government provides liability limitations and the “government contractor” defense applies if the Department of Homeland Security “designates” or “certifies” technologies or products as “qualified anti-terrorism technologies,” and if certain other conditions apply. We may seek to qualify some or all of our products and technologies under the SAFETY Act’s provisions in order to obtain such liability protections, but there is no guarantee that the U.S. Department of Homeland Security will designate or certify our products and technologies as a qualified anti-terrorism technology. To the extent we sell products without such qualification, we will not be entitled to the benefit of the SAFETY Act’s cap on tort liability or U.S. government indemnification. Any indemnification that the U.S. government may provide may not cover certain potential claims.
Nanotechnology-enabled products, such as those used in our chemical detection technologies, are new and may be viewed as being harmful to human health or the environment.
There is increasing public concern about the environmental and ethical implications of nanotechnology which could impede or delay market acceptance of products developed through these means. Nanotechnology-enabled products are mainly composed of materials such as carbon, silicon, silicon carbide, germanium, gallium arsenide, gallium nitride, cadmium selenide or indium phosphide. Because of the size, shape or composition of the nanostructures or because they may contain harmful elements, nanotechnology-enabled products could pose a safety risk to human health or the environment. The regulation and limitation of the kinds of materials used in or to develop nanotechnology-enabled products, or the regulation of the products themselves, could harm the commercialization of nanotechnology-enabled products and impair our ability to achieve revenue from the license of nanotechnology applications.
If export controls affecting our products are expanded, our business and operations will be adversely affected.
The U.S. government regulates the sale and shipment of numerous technologies by U.S. companies to foreign countries. We are developing products that might be useful for military and antiterrorism activities. Accordingly, U.S. government export regulations could restrict sales in other countries of any products that we develop. If the U.S. government places expanded export controls on our technology or products, our business, operations and results of operations could be materially and adversely affected. If the U.S. government determines that we have not complied with applicable export regulations with respect to products that we sell outside the U.S., we may face civil or criminal penalties in the form of fines or other punishment.
Export control laws may also inhibit the free interchange of technical discussions among our employees. Absent license authorization from the appropriate agency, technologies related to our military or dual-use products cannot be discussed with our foreign national employees who are not permanent residents, nor with our foreign subsidiaries. Licensing requirements may delay product development and other engineering or sales activities.
Our ability to protect our patents and other proprietary rights is uncertain, exposing us to the possible loss of a competitive advantage.
We have filed for patents and will continue to file patent applications. If a particular patent is not granted or we are unable to successfully prosecute a patent application, the value of the invention described in the patent would be diminished.
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Furthermore, even if these patents are granted, they may be difficult to enforce. Efforts to enforce our patent rights could be expensive, distracting for management, unsuccessful, cause our patents to be invalidated and frustrate commercialization of products. In addition, even if patents are issued and are enforceable, competitors may independently develop similar, superior or parallel technologies to any technology developed by us, or our technology may prove to infringe upon patents or rights owned by others. Thus, the patents held by or licensed to us may not afford us any meaningful competitive advantage.
Our inability to maintain our licenses and our intellectual property rights could have a material adverse effect on our business, financial condition and ability to implement our business plan. If we are unable to derive value from our licensed or owned intellectual property, our operations and results of operations could be materially and adversely affected.
The U.S. government’s right to use technology developed by us limits our intellectual property rights.
We seek to protect the competitive benefits we derive from our patents, proprietary information and other intellectual property. However, we do not have the right to prohibit the U.S. government from using certain technologies developed by us or to prohibit third-party companies, including our competitors, from using those technologies in providing products and services to the U.S. government. The U.S. government has the right to royalty-free use of technologies that we have developed under U.S. government contracts. We are free to commercially exploit those government-funded technologies and may assert our intellectual property rights to seek to block other non-government users thereof, but we may not successfully do so.
Our business may increasingly depend upon obtaining and maintaining required security clearances.
We may bid for U.S. government contracts that require our employees to maintain various levels of security clearances and require us to maintain certain facility security clearances in compliance with Department of Defense and other government requirements. Obtaining and maintaining security clearances for employees involves a lengthy process, and it is difficult to identify, recruit and retain employees who already hold security clearances. If our employees are unable to obtain or retain security clearances, or if our employees who hold security clearances stop working for us, we may face delays in fulfilling contracts, or be unable to fulfill or secure new contracts, with any customer involved in classified work. Any breach of security for which we are responsible could seriously harm our business, damage our reputation and make us ineligible to work on any classified programs.
We may divest assets to reflect changes in our strategy.
We have begun divesting businesses and assets which we have determined no longer fit our strategy. For example, in November 2008 we de-listed Advance Display Technologies plc from the Plus Market exchange in the U.K. In addition, we sold an equity interest in a business in December 2007 to redirect our efforts away from the development of early-stage nanotechnologies. We may undertake divestiture transactions when we believe there is a financial or strategic benefit to us in doing so. Such divestitures, should they occur, may result in losses. There may also be costs and liabilities that we incur or retain in connection with these divestitures. We may be unable to successfully divest non-strategic assets and, if we incorrectly evaluate the strategic fit and valuation of divested businesses or assets, we may forego opportunities that would otherwise have benefited our business.
A number of factors may cause our consolidated operating results to fluctuate on a quarterly or annual basis, which may make it difficult to predict our future operating results.
We expect our consolidated revenues and expenses to fluctuate, making it difficult to predict our future operating results. Factors that could cause our operating results to fluctuate include:
· | demand in the markets that we serve; |
· | our ability to define, design and release new products that meet customer needs, and to do so quickly and cost effectively; |
· | market acceptance of new and enhanced versions of our products; |
· | the forecasting, scheduling, rescheduling or cancellation of orders by our customers; |
· | the timing, performance and pricing of new product introductions by our competitors; |
· | variations in the performance of our businesses; |
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· | the timing and availability of adequate manufacturing capacity from our manufacturing suppliers; |
· | our ability to forecast demand in the markets that we serve; |
· | the mix of products that we sell; |
· | the length of our sales cycles; |
· | the lack of backlog of orders for our products; |
· | general economic conditions in the countries where we operate or our products are used; and |
· | changes in exchange rates, interest rates and tax rates. |
Any of the above factors, many of which are beyond our control, could significantly harm our business and results of operations. The results of a prior quarter or annual period should not be relied upon as an indicator of future operating performance.
CERTAIN RISK FACTORS RELATING TO OUR COMMON STOCK
The market for common stock is limited, and you may not be able to sell the shares of our common stock that you hold.
Our common stock is currently traded on the Over-The-Counter Bulletin Board, not on a national securities exchange. Therefore, our common stock can be thinly traded, and as such the market for purchases and sales of our common stock may at times be limited, which could cause the price of our common shares to rise or fall significantly. Accordingly, it may be difficult to sell shares of our common stock quickly without significantly depressing the value of the stock. Unless we are successful in developing investor interest in our stock, purchases or sales of our stock could result in major fluctuations in the price of the stock.
Stockholder interest in us may be substantially diluted as a result of the sale or issuance of additional securities pursuant to existing commitments and to fund our plan of operation.
Our certificate of incorporation authorizes us to issue an aggregate of 200,000,000 shares of common stock, on such terms and at such prices as our Board of Directors may determine. Issuances of additional shares of common stock would result in dilution of the percentage interest in our common stock of all stockholders ratably and might result in dilution in the tangible net book value of a share of our common stock, depending upon the price and other terms on which the additional shares are issued. In addition, the issuance of additional shares of common stock upon exercise of the warrants or stock options, or even the prospect of such issuance, may have an effect on the market for our common stock and may have an adverse impact on the price at which shares of our common stock trade.
As of March 28, 2009, we had 55,407,572 shares of common stock issued and outstanding. We had also issued warrants to purchase approximately 18,000,000 shares of our common stock, notes convertible into approximately 30,300,000 shares of our common stock. In addition, according to the Owlstone exchange, additional warrants and common stock to acquire up to approximately 26,000,000 shares of our common stock are anticipated to be issued. The Company filed with the Commission on Form S-8 the Company’s 2008 Equity Incentive Plan on September 24, 2008 (File No. 333-153654) in which a total of 40,462,293 shares were registered, which includes stock options exercisable into approximately 11,600,000 shares of our common stock, all of which remained outstanding, along with up to approximately 25,200,000 shares of our common stock for the Company’s 2008 Equity Incentive Plan. In addition, the Company accrued approximately 3,700,000 stock grants as a contingent liability remaining from the 2005 equity incentive plan and certain employee employment contracts which are scheduled to be issued and granted to certain employees. If all of these shares are issued and if all of our options and warrants currently outstanding and anticipated to be issued are exercised in full, the number of our outstanding shares of common stock would increase from approximately 55,407,572 as of March 28, 2009 to approximately 170,000,000, with approximately 30,000,000 authorized common shares remaining available to be issued under our certificate of incorporation. Furthermore, if all our warrants currently outstanding were to be exercised, it would generate additional working capital to the Company of approximately $5,400,000. There is no public market for our warrants or stock options. Nonetheless, exercise of a significant number of warrants and stock options, and the issuance of additional shares of our common stock, would be dilutive to existing stockholders.
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If securities or industry analysts do not publish research reports about our business or if they make adverse recommendations regarding an investment in our common stock, our stock price and trading volume may decline.
The trading market for our common stock will be influenced by the research reports that industry or securities analysts publish about our business. We do not currently have, and may never obtain, research coverage by industry or securities analysts. If no industry or securities analysts commence coverage of us, the trading price of our common stock could be negatively impacted. In the event we obtain industry or security analyst coverage, and if one or more of the analysts downgrade our stock or comment negatively on our prospects, our stock price would likely decline, or if one or more of these analysts cease to cover us or our industry or fails to publish reports about us regularly, our common stock could lose visibility in the financial markets, which could also cause our stock price or trading volume to decline.
We may be the subject of securities class action litigation due to future stock price volatility.
Our common stock price has fluctuated significantly since our inception in August 2004 and may continue to do so in the future. We expect that the market price of our common stock will likely continue to fluctuate significantly and remain highly volatile. We will not have control over the factors that cause such volatility. Historically, when the market price of a stock has been volatile, holders of that stock have often initiated securities class action litigation against the company that issued the stock. If any of our stockholders bring a similar lawsuit against us, we could incur substantial costs defending the lawsuit. The lawsuit could also divert the time and attention of our management from the operation of our business.
We do not intend to declare cash dividends on our common stock.
We will not distribute any cash to our stockholders until and unless we can develop sufficient funds from operations to meet our ongoing needs and implement our business plan. As a result, your only opportunity to achieve a return on your investment in us will be if the market price of our common stock appreciates and you sell your shares at a profit. The future market price for our common stock may never exceed the price that you pay for our common stock.
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Not applicable.
ITEM 2. PROPERTIES.
We do not own any interest in real property. We lease 2,450 square feet of office space in Montebello, New York for our corporate headquarters. Also, our majority-owned subsidiary Owlstone Limited leases 10,037 square feet of office and laboratory space in Cambridge, England. We believe that our leased space is adequate to meet our business needs for the foreseeable future and that, if such space were to become unavailable, we would be able to acquire other space that would be adequate for our business needs at comparable rent.
On May 6, 2008, Magnus Gittins, a former director of the Company and former President and Executive Chairman, filed a complaint with the Department of Labor titled Magnus R. E. Gittins v. Advance Nanotech, Inc., Case No. 2-4173-08-048. Mr. Gittins alleges Sarbanes-Oxley Act retaliatory termination of employment with the Company resulting from his informing the Audit Committee about purportedly inadequate and inaccurate disclosures provided by the Company’s majority-owned subsidiary, Owlstone Nanotech, Inc. Mr. Gittins requests relief in the form of reinstatement of employment and damages in the amount of not less than $10,000,000, the issuance of 650,000 shares of Company common stock, the issuance of 350,000 stock options, salary and benefits through September 10, 2008, attorneys’ fees and costs. The Company believes that the complaint made by Mr. Gittins is without merit and that it will not result in any material liability or have any materially adverse effect on the Company.
We are not aware of any other pending or threatened litigation against us that we expect will have a materially adverse effect on our business, financial condition, liquidity, or operating results. However, legal claims are inherently uncertain, and we cannot assure you that we will not be adversely affected in the future by legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
Our common stock is quoted on the Over-The-Counter Bulletin Board under the symbol AVNA.OB For the periods indicated, the following table sets forth the high and low bid prices per share of common stock. The below prices represent inter-dealer quotations without retail markup, markdown, or commission and may not necessarily represent actual transactions.
Year Ended December 31, | ||||||||
2008 | 2007 | |||||||
High | Low | High | Low | |||||
1st Quarter | 0.29 | 0.14 | 0.82 | 0.41 | ||||
2nd Quarter | 0.30 | 0.14 | 0.52 | 0.25 | ||||
3rd Quarter | 0.28 | 0.13 | 0.40 | 0.20 | ||||
4th Quarter | 0.18 | 0.06 | 0.38 | 0.20 | ||||
Holders
As of March 28, 2009, an aggregate of 55,407,572 shares of our common stock were issued and outstanding and were owned by approximately 2,474 holders of record, based on information provided by our transfer agent, Computershare Trust Company.
Dividends
The Company has never paid dividends on its common stock and does not anticipate to do so in the foreseeable future.
On October 9, 2008, we issued 521,437 shares of common stock to holders of the Company’s 8% Convertible Notes in payment of $79,309 in accrued interest on the Notes. The issuance of the shares was exempt from registration pursuant to Section 4(2) of the Securities Act and Rule 506 of Regulation D promulgated thereunder in that all of the holders of the Notes were “accredited investors” within the meaning of the Securities Act and Regulation D.
Repurchases of Equity Securities
We did not repurchase any shares of our common stock during fiscal 2008 or fiscal 2007.
Information Regarding Equity Compensation Plans
EQUITY INCENTIVE PLAN INFORMATION
We presently have a single plan for the granting of equity incentives to directors, employees and consultants - the 2008 Equity Incentive Plan, or the Plan. Stock grants and options to purchase common stock may be issued under the Plan. The Plan is intended to be a broad-based, long-term retention program that is intended to attract and retain talented employees, directors and consultants and align their interests with stockholder interests. The purpose of the Plan is to promote the success, and enhance the value, of the Company by aligning the interests of participants with those of our stockholders. Our Board adopted the Plan on September 23, 2008.
We have reserved 40,462,293 shares of our common stock for issuance pursuant to grants under the Plan. Under the Plan, participants may be granted shares of our common stock or options to purchase common stock. The Plan contains provisions allowing net exercise, cashless exercise and a holdback election for taxes payable upon grant of these awards. The Board delegated administration of the Plan to the Compensation Committee consisting of directors Joseph Peters, Virgil Wenger and Joseph Zappulla. The Compensation Committee will be responsible for recommendations to the Board of Directors for final approval of all grants made under the Plan.
The following table provides certain information as of December 31, 2008, with respect to all of the Company’s equity compensation plans in effect on that date.
Equity Compensation Plan Information | ||||||
Plan Category | Number of securities to be issued upon exercise of outstanding options, warrants and rights | Weighted average exercise price of outstanding options, warrants and rights | Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) | |||
(a) | (b) | (c) | ||||
Equity compensation plans approved by security holders | - | $ | - | - | ||
Equity compensation plans not approved by security holders | 11,622,845 | $ | 0.38 | 26,613,793 | ||
Total | 11,622,845 | 26,613,793 |
ITEM 6. SELECTED FINANCIAL DATA
Not applicable.
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Unless otherwise noted, the terms "Advance Nanotech", the "Company", "we", "us", and "our" refer to the ongoing business operations of Advance Nanotech, Inc. and its subsidiaries, whether conducted through Advance Nanotech or a subsidiary of the company.
Overview and Plan of Operations
Our efforts are principally focused on the development of chemical sensing products using our Owlstone technology. Owlstone has developed a chemical detector that has been incorporated into its lead product named Lonestar, which is currently being sold and used in the marketplace. This product was launched in July 2007 and has a growing customer base. Our plan of operations includes a strategic mixture of selling completely integrated products and supplying component parts to original equipment manufacturers, as is the case with our Lonestar product.. We intend to partner with market leaders to integrate our technologies into existing commercial applications, partner with contract manufacturers to bring our products directly to market and to partner with others whose placement in a territory or market offers advantages, particularly if the territory is one on which we would not otherwise concentrate our own efforts. We believe that this strategy positions us to best achieve the potential for our technologies in the most effective and time-sensitive manner.
Liquidity and Capital Resources
Cash Flows
Our operations have not historically generated positive cash flow. The Company has been in the development stage since its inception (August 17, 2004), has sustained losses and has used capital raised from the issuance of stock and convertible debt to fund its operations. Continuation of the Company as a going concern is dependent upon establishing and achieving profitable operations. The Company expects to continue to incur losses until it can generate sufficient revenue from existing and new business and achieve and maintain positive margins. Until then, the Company’s operations will require additional funds. (See Note A Going Concern section)
At December 31, 2008, the Company had a total of approximately $66,810 of cash and cash equivalents. Based upon the Company’s forecast of future revenues from its products, services and grants, in conjunction with the cash and cash equivalents on hand, the Company’s continued ability to operate is dependent upon obtaining additional funds. The Company is presently pursuing various options to generate additional funds, including, among others, strategic partnering arrangement, financing on a senior secured basis, and raising additional capital through the sale of securities. If the Company is unable to generate sufficient cash flow through sales or partnering arrangements or obtain additional financing through other means to support its operations and meet its obligations, the Company will be forced to consider the further restructuring of its operations, disposition of various assets, seeking protection from its creditors, or cessation of operations and liquidation.
The Company is actively exploring various debt and equity financing transactions. In addition, plans to generate additional revenue from operations could include co-development and co-funding of our products, licensing products for upfront and milestone payments, and applying for more government grants. We have initiated cost reduction programs and will continue to control and reduce expenses until funds from operations can support the growth of the business. Although the Company is exploring all opportunities to improve its financial condition within the next several months, there is no assurance that these programs will be successful.
Debt Obligations
In December 2007, the Company entered into subscription agreements (the “Subscription Agreements”) with selected institutional and accredited investors (the “Investors”) regarding the private placement of up to a maximum of $8,800,000 principal amount of 8% Senior Secured Convertible Notes (the “Notes”). Each Investor who subscribed to the Notes received 50% warrant coverage at $0.30 per share as common stock warrants (the “Warrants”). The private placement was made pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933 because the transaction complied with the requirements of Rule 506 of Regulation D promulgated under the Securities Act of 1933.
In connection with the transactions contemplated by the Subscription Agreements, the Company received gross proceeds of an aggregate of $6,700,000. However, because the Company did not have a sufficient number of authorized shares of its common stock, par value $0.001 par value per share (the “Common Stock”) to allow for conversion of the Notes, and exercise of the Warrants, representing the total amount of proceeds received, the Company issued Notes and Warrants for only that portion of the total proceeds that was allowed given the current capital structure of the Company. As a result, the Company issued Notes in December 2007 with an aggregate principal amount of $3,953,000 and Warrants convertible into 7,906,000 shares of Common Stock. The remainder of the proceeds received during the private placement was placed in escrow pending amendment of the Company’s certificate of incorporation to increase the number of authorized shares of Common Stock from 75,000,000 to 200,000,000. Upon obtaining approval of the charter amendment by the stockholders, on February 15, 2008, the Company issued additional Notes with an aggregate principal amount of $2,747,000 and Warrants convertible into 5,494,000 shares of Common Stock.
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The Notes mature in December 2010, three years after their date of issuance, and are convertible into shares of the Company’s Common Stock, at a price of $0.25 per share. The Notes constitute senior indebtedness of the Company and provide that no other indebtedness of the Company (excluding an additional $3,000,000 in debt, certain credit facility lines and trade payables incurred in the ordinary course of business) shall be incurred without the consent of the note holders. The Warrants are exercisable into shares of Common Stock until December 2012, five years after their date of issuance, at a price of $0.30 per share. The Notes and the Warrants each have anti-dilution provisions that provide for conversion or exercise price adjustments under certain circumstances.
On September 4, 2008, the Company entered into additional subscription agreements with selected institutional and accredited investors regarding the private placement of $1,146,000 principal amount of 8% Senior Secured Convertible Notes, increasing the total amount of notes issued to $7,846,000. Each investor who subscribed to the notes received 50% warrant coverage at $0.30 per share as common stock warrants. The Company issued investor warrants of 2,292,000 in relation to this issuance of notes. The private placement was made pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933 because the transaction complied with the requirements of Rule 506 of Regulation D promulgated under the Securities Act of 1933. Axiom Capital Management Inc. ("Axiom") acted as placement agent in connection with the private placement.
The notes mature in September 2011 and are convertible into shares of the Company's common stock, par value $0.001 par value per share, at a price of $0.25 per share. The notes constitute senior indebtedness of the Company and provide that no other indebtedness of the Company (excluding an additional $3,000,000 in debt, certain credit facility lines and trade payables incurred in the ordinary course of business) shall be incurred without the consent of the note holders. The warrants are exercisable into shares of common stock until September 2013 at a price of $0.30 per share. The notes and the warrants each have anti-dilution provisions that provide for conversion or exercise price adjustments under certain circumstances.
The obligations outstanding under the notes are secured by all of the Company's intellectual property, books and records and proceeds of the sale of its intellectual property owned directly by the Company, as well as all of its equity interests in its subsidiaries pursuant to that certain Security Agreement, dated December 19, 2007, between the Company and Axiom and the Collateral Agent Agreement, dated December 19, 2007, among the Company, Axiom and each of the investors named therein, copies of which were filed as Exhibits 10.16 and 10.17 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2007 and are incorporated herein by reference.
The subscription agreements require the Company to register the shares of common stock to be issued upon conversion of the Notes sold to the investors pursuant to the Subscription Agreements and exercise of the warrants and to use its commercially reasonable efforts to maintain the effectiveness of such registration until the earlier of (a) the date that all of such Common Stock has been sold by the Investors, or (b) the date that the Common Stock may be sold without volume restrictions under Rule 144.
The foregoing descriptions of the subscription agreement, notes and warrants are qualified in their entirety by the executed documents, forms of which are incorporated by reference to Exhibits 10.1, 10.2 and 10.3, respectively, to the Form 8-K filed on September 10, 2008.
As of September 30, 2008, in connection with the closings of the sale of convertible notes totaling $7,846,000, the Company paid cash fees to certain placement agents of approximately $600,000, and the Company issued placement agents warrants to purchase, in aggregate, 2,342,000 shares of common stock at $0.30 per share.
The fair value of the 2,292,000 investor warrants issued on September 4, 2008 and the 2,342,000 placement agent warrants issued in connection with the sale of the total $7,846,000 convertible note offering was also estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 4.14%, the contractual life of 5 years and volatility of 149%. In accordance with EITF No. 00-19, the estimated fair value of the 2,292,000 investor warrants and the 2,342,000 placement agent warrants, in the amount of $740,542, was recorded as a liability, with an offsetting charge to additional paid-in capital.
As of December 31, 2008, the fair value warrant liability for the investor warrants and the placement agent warrants issued in connection with the sale of the total $7,846,000 convertible note offering was revalued using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 2.69%, the contractual life of 4.25-5 years and volatility of 196%. In accordance with EITF No. 00-19, the estimated fair value of the investor warrants and the placement agent warrants, in the amount of $1,150,224, was recorded as a liability, with an offsetting charge to additional paid-in capital. The Company recognized a non-cash gain of $2,897,452 for this revaluation for the twelve month period ending December 31, 2008, which correlates to the decline in the Company’s share price of its common stock.
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Results of Operations
Year Ended December 31, 2008 Compared to Year Ended December 31, 2007
We generated revenues of $3,266,215 in the year ended December 31, 2008 compared to $512,350 for the year ended December 31, 2007, representing an increase of $2,753,865, or a multiple over five times. Increased revenues generated were a direct result of our subsidiary, Owlstone, shipping its Tourist, Lonestar and Vapor Generator products along with contracted, instructional and set-up services provided to customers as of December 31, 2008.
Research and development costs for the year ended December 31, 2008 compared to the year ended December 31, 2007 were relatively flat at $2,233,829 and $2,253,750, respectively. Research and development costs relate directly to the Owlstone Nanotech, Inc. majority owned subsidiary.
General and administrative expenses for the year ended December 31, 2008 compared to the year ended December 31, 2007 were $6,101,880 and $6,356,403, respectively, representing a decrease of $254,523, or 4%. Non-cash related expenses for the year ended December 31, 2008 were approximately $1,700,000. Non-cash expenses include costs related to FAS123R options, employee and Board of Directors equity grants, equity options and grants and warrants for consultants in lieu-of-cash. General and administrative expenses for the year ended December 31, 2008 included:
· | an increase in legal, accounting and SEC filing fees of approximately $205,000; | |
· | an increase in facilities cost of approximately $250,000; | |
· | an increase in business license fees for our products and Board of Director fees of approximately $50,000; and | |
· | an increase in Owlstone salespeople salaries of approximately $163,000 | |
which were offset by: | ||
· | a decrease in general consulting costs of approximately $200,000; and | |
· | a decrease in non-cash equity & option awards of approximately $1,000,000. |
Interest and other income for the year ended December 31, 2008 and for the year ended December 31, 2007 was $3,572,591 and $2,110,588, respectively, representing an increase of $1,462,003 from 2007. The increase in other income was a direct result of the revaluation of the warrant liability due to the decline in the share price of the Company’s common stock. The Company recognized a non-cash gain of $2,897,452 for this revaluation. This was offset by a decrease in other income due to the forgiveness of accounts payable in 2008 of $171,465 compared to $469,928 in 2007. For 2008, other income also included a research and development tax credit from the Company’s Owlstone subsidiary of approximately $406,000 from the UK government. In addition, the Company received approximately $35,000 of rent income from the sublease of its New York City offices prior to assignment of the lease. For 2007, other income also includes grant income of $146,331 as well as a gain from sale of investment of $937,836. The gain on the sale of investment related to the sale of the Company’s investment in Singular ID in Singapore. Interest income increased by $10,196 for the same period in 2008 compared to 2007. This increase was a result of our increased cash and cash equivalents maintained in our short-term money market account, which was invested as a result of the net proceeds raised at the end of 2007 and beginning of 2008 in convertible notes. Cash decreased throughout 2008 as a result of our need to continue funding operations. All of our cash reserves had been invested in liquid securities at large financial institutions.
Interest and other expenses for the year ended December 31, 2008 and for the year ended December 31, 2007 was $766,315 and $73,788, respectively, representing an increase of $692,527 from 2007. The increase in interest expense correlates to the increase in convertible notes that the Company issued and the corresponding interest expense obligation on those notes. In addition, the Company recognized a non-cash late registration cost of $122,303 for the year ended December 31, 2008 and also incurred a non-cash gain of $2,897,452, during the same period, for the re-valuation of the Company’s warrant liability driven by the decline in the price of the Company’s common stock.
The Company had a loss from operations of $6,165,266 for the year ended December 31, 2008, compared to $8,223,291 for the comparable period in 2007, representing a decrease of $2,058,025, or approximately 25%. The Company had a loss from continuing operations of $2,469,669 for the year ended December 31, 2008, compared to $4,736,582 for the comparable period in 2007, representing a decrease of $2,266,913, or approximately 48%. We had a net loss of $4,055,374 for the year ended December 31, 2008 compared to $4,644,230 for the comparable period in 2007, representing a decrease of $588,856, or approximately 13%. The decrease in Net Loss for 2008 is a result of the non-cash gain of the warrant liability revaluation of $2,897,452 which is off-set by the losses from discontinued operations of $1,585,705. Revenue increased by $2,753,865 while operating expenses decreased by $274,444, and the Company had a gain of $1,011,624 from minority interest related to subsidiaries’ losses for the year ended December 31, 2008. For the twelve months of 2008, the Company had a loss from continuing operations of $0.06 cents per share, compared with a loss of $0.13 cents per share for the same twelve month period in 2007.
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Year Ended December 31, 2007 Compared to Year Ended December 31, 2006
We generated revenues of $512,350 in the year ended December 31, 2007 compared to $506,045 for the year ended December 31, 2006. Revenues generated were a direct result of our subsidiary, Owlstone, shipping its Tourist, Lonestar and Vapor Generator products along with instructional and set-up services provided to customers as of December 31, 2007.
Research and development costs for the year ended December 31, 2007, compared to the year ended December 31, 2006, were $2,399,979 and $6,105,311, respectively, representing a decrease of $3,705,332, or 60.7%. This decrease is attributable to the cancellation or suspension of a significant portion of our project portfolio. Research and development costs include costs associated with the projects as shown in the table below.
Project | 2007 | 2006 | Change From Prior Year | |||||||||
Owlstone Nanotech, Inc. (1) | $ | 2,252,022 | $ | 1,626,886 | $ | 625,136 | ||||||
NanoFED Ltd (2) | — | 737,180 | (737,180 | ) | ||||||||
Bio-Nano Sensium Technologies Ltd (1) | — | — | — | |||||||||
Cambridge Nanotechnology Ltd (3) | — | 952,476 | (952,476 | ) | ||||||||
Nano Solutions Ltd (4) | — | 1,746,367 | (1,746,367 | ) | ||||||||
Centre of Advanced Photonics & Electronics (5) | — | 914,091 | (914,091 | ) | ||||||||
Advance Nanotech (6) | 147,957 | 128,311 | 19,646 | |||||||||
Total | $ | 2,399,979 | $ | 6,105,311 | $ | (3,705,332 | ) | |||||
(1) | Developing three nanotechnologies |
(2) | Developing two nanotechnologies |
(3) | Developing seven nanotechnologies |
(4) | Developing five nanotechnologies |
(5) | Developing six nanotechnologies, one of which was exclusively funded by us and five of which were funded by us in partnerships with Dow Corning Limited, Alps Electric Company and Ericsson Marconi Corporation. |
(6) | Management expenses related to projects |
Our Singular ID technology was not included in the table above because our minority interest in the entity owning the technology was accounted for using the cost method. On December 28, 2007, the Company sold its 8.8% equity interest in Singapore-based Singular ID Pte Ltd. for $1.19 million.
General and administrative expenses for the year ended December 31, 2007 and for the year ended December 31, 2006 were $7,615,276 and $13,356,539, respectively, representing a decrease of $5,741,263, or 42.9%. The decrease in general and administrative expenses for the year was a result of:
· | a decrease in consulting, marketing and legal expenses of approximately $2 million dollars; | |
· | a decrease in non-cash expenses related to our 2005 Equity Incentive Plan being fully issued of approximately $2.2 million; | |
· | an increase in payroll and employee related expenses driven by additional headcount at Owlstone of approximately $1 million; | |
· | an increase in banking and lending costs of approximately $754,000 relating to the NAB Ventures Credit Facility; | |
· | a decrease in travel expenses of approximately $240,000 due to reduction in personnel; | |
· | decreases in rent, office expenses, VAT taxes and other administrative expenses. |
Interest and other income for the year ended December 31, 2007 and for the year ended December 31, 2006 was $2,643,714 and $151,412, respectively, representing an increase of $2,492,302 from 2006. The increase in other income of $2,620,618 resulted from the Company’s forgiveness of previously incurred accounts payable for Research and Development programs that were canceled with our collaboration partners. Interest Income decreased by $128,316 from 2006. This decrease was a result of our decreasing cash and cash equivalents maintained in our short-term money market account, which was invested as a result of the net proceeds raised in the 2005 private placements. Cash decreased as a result of our need to continue funding operations. All of our cash reserves had been invested in liquid securities at large financial institutions.
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As of December 31, 2008, we had no material off-balance sheet arrangements.
ITEM 7A. QUANITITATIVE AND QUALITATIVE DISLCOSURES ABOUT MARKET RISK.
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements, along with the notes thereto and the report of the Company's independent registered public accounting firm thereon, required to be filed in response to this Item 8 begin on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
ITEM 9A(T). CONTROLS AND PROCEDURES.
(a) Evaluation of disclosure controls and procedures
As of December 31, 2008, our management carried out an evaluation under the supervision and with the participation of our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 ("Exchange Act"). Disclosure controls are controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this Form 10-K, is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
As described below under Management's Report on Internal Control over Financial Reporting, our management has identified and reported to our audit committee and Mendoza Berger & Company LLP, our independent registered public accounting firm, a material weakness in our internal control over financial reporting. As a result of this material weakness, our CEO and CFO have concluded that, as of December 31, 2008, our disclosure controls and procedures were not effective. However, as more fully explained below, management believes, based on its knowledge, that (1) this report does not contain any untrue statement of a material fact or omit a material fact necessary to make the statements made not misleading with respect to the period covered by this report, and (2) the financial statements, and other financial information included in this report, fairly present in all material respects our financial condition, results of operations and cash flows for the years and periods then ended.
(b) Management's Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rule 13a-15(f) or 15d-15(f) promulgated under the Exchange Act as a process designed by, or under the supervision of, the company's principal executive and principal financial officers and effected by the company's board of directors, management and other personnel, 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 and includes those policies and procedures that:
· | pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the company; | |
· | provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. 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 | |
· | 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. |
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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of our internal control over financial reporting as of December 31, 2008. In making this assessment, the company's management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company's annual or interim financial statements will not be prevented or detected on a timely basis. In performing the assessment, management has identified the following control deficiency that we have concluded is a material weakness in both the design and operating effectiveness of internal control over financial reporting as of December 31, 2008.
· | Insufficient resources, systems and controls in the accounting and finance function, including weakness in the oversight of our majority owned subsidiary in the U.K., Owlstone Limited, due to lack of personnel and resources. |
Our management made multiple changes to improve our internal control over financial reporting throughout the organization in 2008; Improvements included improved communications and reporting between subsidiaries and the Company. However, our main operating subsidiary, Owlstone Limited, has a separate and non-integrated accounting system which increases complexity of consolidation and financial reporting and also limits the amount of visibility to local transactional detail at the parent company level. Since manual trial balances have to be prepared and mapped to the parent’s chart of accounts, there are inherent risks of potential misclassifications that may result in a material misstatement. The Company and the subsidiary, Owlstone Limited, are aware of this inadequacy and have implemented additional controls to minimize the risk of errors in consolidation and in the Company’s external financial reports. In addition, the Company and subsidiary are in the process of sourcing a senior level Financial Controller/Finance Director in the U.K. to oversee day-to-day operations and provide local oversight, subsidiary reporting and local technical expertise directly to the Chief Financial Officer in the United States. Key changes for the Company going forward will be the design and implementation of additional internal controls over the accounting and oversight of all subsidiaries, including enhancing our accounting systems, processes, policies and procedures that continue past December 31, 2008 and were initially applied in the preparation of our 2008 consolidated financial statements. In connection with the initial operation of these controls, we identified and recorded a number of adjustments to our 2008 consolidated financial statements and related disclosures, prior to including them in this report.
As a result of the material weakness described above, management has concluded that, as of December 31, 2008, our system of internal control over financial reporting was not effective based on the criteria in Internal Control-Integrated Framework.
In light of this conclusion and as part of the preparation of this report, we have applied compensating procedures and processes as necessary to ensure the reliability of our financial reporting. Accordingly, management believes, based on its knowledge, that (1) this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made not misleading with respect to the period covered by this report, and (2) the financial statements, and other financial information included in this report, fairly present in all material respects our financial condition, results of operations and cash flows for the years and periods then ended.
This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this annual report.
(c) Changes in Internal Control over Financial Reporting
During the year ended December 31, 2008, we identified a material weakness with the accounting of our majority owned subsidiary and with the internal controls associated with oversight of this subsidiary. We intend to further develop and re-design controls over Owlstone Limited throughout the first quarter and beyond in 2009 including assigning responsibility for execution of the controls throughout various levels of our organization and focusing on increasing the precision, speed and efficiency of the controls. The Company plans to hire a senior level Financial Controller/Finance Director in the U.K. to provide oversight, improve internal financial controls and provide local accounting expertise for the Company. During the period from inception (August 17, 2004) to December 31, 2008 and during the fourth quarter of 2008, there were no other changes in our internal control over financial reporting which have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B. OTHER INFORMATION.
None
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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
For additional information required by Item 10 with respect to our executive officers and directors, including our audit committee and audit committee financial experts, procedures by which stockholders may recommend nominees to our board of directors, and compliance with Section 16(a) of the Securities Exchange Act of 1934, see the information set forth under the captions “PROPOSAL 1–ELECTION OF DIRECTORS,” “CORPORATE GOVERNANCE” and “SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE” appearing in the 2009 Proxy Statement, which information is incorporated by reference into this Annual Report on Form 10-K.
All of our employees, officers and directors are subject to our Code of Business Conduct and Ethics Policy, which is filed as Exhibit 14.1 to this Form 10-K. The ethics policy meets the code of ethics requirements of the SEC. If any material provisions of our Code of Business Conduct and Ethics Policy are waived for our Chief Executive Officer or senior financial officers, or if any substantive changes are made to our policy as they relate to any director or executive officer, we will disclose that fact on our website within four (4) business days. In addition, any other material amendment of our Code of Business Conduct and Ethics Policy will be so disclosed.
MANAGEMENT
Our directors and executive officers as of March 28, 2009, are as follows:
Age | Positions with the Company | |||
Bret Bader | 42 | Chief Executive Officer | ||
Thomas P. Finn | 43 | Chief Financial Officer and Secretary | ||
Andrew J. Cosentino | 54 | Non-Executive Chairman of the Board and Director | ||
Jon Buttles | 34 | Director | ||
Lee J. Cole | 48 | Director | ||
Peter Gammel | 48 | Director | ||
Joseph Peters | 51 | Director | ||
Peter Rugg | 61 | Director | ||
Virgil E. Wenger | 78 | Director | ||
Joseph Zappulla | 51 | Director | ||
Douglas Zorn | 58 | Director |
Bret Bader, Chief Executive Officer
Thomas P. Finn, Chief Financial Officer and Secretary
Thomas Finn has served as our Chief Financial Officer since October 2005, having joined us in February 2005 as our Financial Controller. Prior to joining us, Mr. Finn was employed by Purdue Pharmaceutical L.P., and its independent associated companies in various capacities, as an internal auditor from January 2004 to February 2005. As an independent consultant focused on improving controls, procedures and operations, Mr. Finn served positions as interim CFO, controller or auditor for various start-up companies from May 2000 to January 2004. Mr. Finn worked as a senior accountant for six years with IBM Corporation until May 2000. Mr. Finn holds a Bachelor of Business Administration in Finance from the University of Massachusetts at Amherst and a Masters of Business Administration in International Business from the Helsinki School of Economics in Helsinki, Finland.
Andrew Cosentino, Chairman of the Board and Director
Andrew Cosentino is a Yale graduate with 30 years of experience in structuring, negotiating and consummating strategic transactions for, and advising on other matters integral to the businesses of, public and private companies ranging from early growth phase companies to mature industry leaders, as well as investment banking firms and funds, worldwide. Through 2003, he practiced law, and was a partner in major U.S. law firms. Since then, he has been a high level advisor to public and private companies, venture companies and private equity funds. He is a director and executive officer of Inflect Technologies plc, a company engaged in development of novel technologies, and of First London Securities, plc, a London-based merchant banking firm. Andrew is also a non-executive director of Nviro Cleantech plc, a company engaged in development and commercialization of clean technologies; Prize Mobile Group plc, a company engaged in developing and selling customized mobile reward games; and Greenwich Water Polo, Inc., a not-for-profit corporation engaged in operating youth aquatics programs.
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Jon Buttles, Director
Jon Buttles is the founder and managing partner of Core Equity Group LLC, a financial advisory and strategic consulting firm focused on building, financing and growing emerging technologies companies. Prior to Core Equity Group LLC, Jon was managing director at SBI USA LLC, a boutique investment bank formerly affiliated with SOFTBANK Japan, where he led banking transactions in the public and private banking sectors across a diverse set of industries. Prior to SBI USA, Jon worked at Monument Advisors Inc, a middle market private equity boutique managing a mezzanine fund and a leveraged buyout fund. Jon has a strong base of corporate finance experience in technology investment banking, public and private placements, leveraged buy-outs, private equity fund management and mergers and acquisitions. Jon is a director of Inflect Technologies Limited, a company engaged in development of novel technologies, and a director of Ophthaltec Limited, a company engaged in the business of detection, diagnosis, and treatment of eye disease.
Lee J. Cole, Director
Mr. Cole has served as our director since October 2005 and formerly served as Chairman of the Board from October 2004 to April 2006. Mr. Cole served as the interim Acting Chief Executive Officer of the Company from April 28, 2008 to September 4, 2008. Since 1998, Mr. Cole has been a principal with Tech Capital Group, a technology consulting and investment firm that has investments in private and public information and healthcare technology companies. Mr. Cole has also been a director since June 2004 of Enhance Biotech, Inc., an OTC-traded developer of lifestyle drug pharmaceuticals, and a director since December 2002 of Electronic Game Card, Inc., an OTC-traded developer and designer of gaming devices, serving as the interim Chief Executive Officer for that company from January 2006 to February 1, 2009.
Peter Gammel, Director
Peter Gammel has over 20 years experience in new product and funding development, intellectual property investment, and team building and management. His extensive technical expertise coverers single electron devices, superconducting devices, MEMS and RF acoustic wave devices. He has more than 200 referred technical publications and has over 25 patents issued and in process.
Peter serves as CTO at SiGe Semiconductor. Previous positions include VP engineering at a venture backed start-up company, CTO of Advance Nanotech Inc., CTO of Agere Systems' analog products business unit, and research director at Bell Laboratories (Alcatel-Lucent). He holds a PhD in physics from Cornell University and Bachelor of Science degrees in physics and mathematics from Massachusetts Institute of Technology (MIT).
Joseph Peters, Director
Mr. Peters has served as our director since January 2008. Mr. Peters served President George W. Bush as the Assistant Deputy Director for State and Local Affairs of the White House’s Drug Policy Office (commonly referred to as the Drug Czar’s Office), where his duties included supervision of the country’s High Intensity Drug Trafficking Area (HIDTA) Program. Mr. Peters also served as the Drug Czar’s Liaison to the White House Office of Homeland Security and Governor Tom Ridge. Previously, Mr. Peters joined the Clinton White House to direct the country’s 26 HIDTAs, with an annual budget of a quarter billion dollars. Mr. Peters also represented the White House Drug Czar’s office with police, prosecutors, governors, mayors and many non-governmental organizations.
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Mr. Peters was named as a special organized crime prosecutor with the U.S. Department of Justice and received its “John Marshall Award” from U.S. Attorney General Dick Thornburg. Mr. Peters began his career as a State prosecutor when he joined the Pennsylvania Attorney General’s office in 1983. He later served as a Chief Deputy Attorney General of the Organized Crime Section, and in 1989 was named the first Executive Deputy Attorney General of the newly created Drug Law Division. In that capacity, Mr. Peters oversaw the activities of 56 operational drug task forces throughout the State, involving approximately 760 local police departments with 4,500 law enforcement officers. Mr. Peters consults to national and international law enforcement organizations on narco-terrorism and related intelligence and prosecution issues. He is a member of the International Association of Chiefs of Police (IACP), where he sits on their Terrorism Committee. Mr. Peters serves as President and Director of MSGI Security Solutions, Inc (MSGI.OB) since 2004. Mr. Peters also serves on the Board of Directors of Vigicomm Inc. since 2007.
Peter Rugg, Director
Mr. Rugg has served as our director since October 2005. Mr. Rugg, a Senior Partner of Tatum, LLC, an executive services firm, has been employed as a partner of that firm for over five years. Mr. Rugg has more than 30 years of diversified business experience with special competence in capital structure, and creative financing alternatives and general management of small and medium sized companies. Prior to Tatum, Mr. Rugg was Senior Vice President and Chief Financial Officer of Triton Energy, a NYSE listed international oil and gas exploration and development company that was subsequently sold to Amerada Hess. Before that he had a 23 year career in corporate finance with JP Morgan. Over his long career, he has managed public company financial reporting, investor relations, tax compliance and audit, budget and planning, and information technology systems, human resources, operations, and business development. Mr. Rugg also serves as a director of Celsia Technogies, Inc. (CLST, PK) since July 2005, and Nviro Cleantech, plc (NVR, London AIM) beginning in July 2006. He sits on several private and non-profit boards.
Virgil E. Wenger, Director
Mr. Wenger has served as our director since October 2005. Mr. Wenger, a CPA, retired as a partner of Ernst & Young LLP in 1990 after a 37-year career with the firm. Since 1990, Mr. Wenger has continued his business activities as an independent consultant. Since 1992, Mr. Wenger has served as a Trustee of the Pittsburgh & West Virginia Railroad, an American Stock Exchange listed company. Since 2005, Mr. Wenger has served as Chief Financial Officer of Shareholder Intelligence Services, LLC, a provider to publicly traded companies of information about their shareholders and trading activity. Mr. Wenger is a graduate of the University of Kansas and the Harvard Business School’s Advanced Management Program. He is the father-in-law of our CFO and Secretary, Thomas P. Finn.
Joseph M. Zappulla, Director
Mr. Zappulla, who serves as chairman of the Audit Committee and on the Compensation Committee, has over 25 years of executive management experience in financial operations, investment banking, mergers and acquisitions, investment analysis, capital raising, corporate development and strategic planning and budgeting. Mr. Zappulla founded in 1999 and serves as CEO of Grannus Financial Advisors, Inc., a strategic consulting firm on matters such as financial operational review, corporate governance, investor relations, capital raising, mergers and acquisitions, and general business needs. Prior to Grannus, Mr. Zappulla served as a director for Mabon Securities engaged to help turn-around the 100 year brokerage firm. In this role, he also managed strategic planning, compliance, and internal audit. Earlier, he served as member of the U.S. equities management team at S.G.Warburg and Co. directing the firm’s institutional equities effort worldwide, as well as its finance and administration, treasury operations, and accounting in the U.S. For nearly 10 years, Mr. Zappulla worked at Donaldson, Lufkin and Jenrette in its institutional equities division in varying capacities from trading to management, including strategic planning and budgeting and financial administration. He began his career at American Express Co. as an analyst, where he spent two years analyzing financial operations and markets. He holds an MBA from Suffolk University (Boston, MA) and is currently FINRA Registered Series 7, 24 and 63.
Douglas Zorn, Director
Mr. Zorn has served as our director since March 2007. Mr. Zorn is the founder of three start-up companies. Mr. Zorn is the founder and a director of US Wireless Data, Inc. (d/b/a StarVox Communications), a Voice-Over-Internet-Protocol (VoIP) communication company, where he has also served as the Chairman and President since June 2004 to the present. Mr. Zorn also founded and served as President, CEO and Chairman of Appiant Technologies, Inc., a communications software company from April 1994 to February 2003, and as COO of Monterey Telecommunications Corporation, an OEM wireless switch manufacturer from March 1992 to March 1994. Mr. Zorn also served as Vice President and CFO of Centigram Communications Corporation, a designer, manufacturer and marketer of integrated systems, from April 1985 to February 1992. Mr. Zorn is a certified public accountant who holds a Masters in Business Administration from Santa Clara University.
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For information required by Item 11 with respect to executive compensation, see the information set forth under the captions “EXECUTIVE COMPENSATION” and “CORPORATE GOVERNANCE” in the 2009 Proxy Statement, which information is incorporated by reference into this Annual Report on Form 10-K
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
For information required by Item 12 with respect to the security ownership of certain beneficial owners and management, see the information set forth under the caption “SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT” in the 2009 Proxy Statement, which information is incorporated by reference into this Annual Report on Form 10-K.
EQUITY INCENTIVE PLAN INFORMATION
We presently have a single plan for the granting of equity incentives to directors, employees and consultants - the 2008 Equity Incentive Plan, or the Plan. Stock grants and options to purchase common stock may be issued under the Plan. The Plan is intended to be a broad-based, long-term retention program that is intended to attract and retain talented employees, directors and consultants and align their interests with stockholder interests. The purpose of the Plan is to promote the success, and enhance the value, of the Company by aligning the interests of participants with those of our stockholders. Our Board adopted the Plan on September 23, 2008.
We have reserved 40,462,293 shares of our common stock for issuance pursuant to grants under the Plan. Under the Plan, participants may be granted shares of our common stock or options to purchase common stock. The Plan contains provisions allowing net exercise, cashless exercise and a holdback election for taxes payable upon grant of these awards. The Board delegated administration of the Plan to the Compensation Committee consisting of directors Joseph Peters, Virgil Wenger and Joseph Zappulla. The Compensation Committee will be responsible for recommendations to the Board of Directors for final approval of all grants made under the Plan.
Information about our 2008 Equity Incentive Plan information as of December 31, 2008 is as follows:
Number of securities to be issued upon exercise of outstanding options, warrants and rights | Weighted-average exercise price of outstanding options, warrants and rights | Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) | ||||
(a) | (b) | (c) | ||||
Equity compensation plans approved by security holders | ||||||
Equity compensation plans not approved by security holders | 11,622,845 | $ | 0.38 | 26,613,793 | ||
Total | 11,622,845 | $ | 0.38 | 26,613,793 |
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For information required by Item 13 with respect to certain relationships and related transactions and the independence of our directors and nominees, see the information set forth under the caption “CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS” in the 2009 Proxy Statement, which information is incorporated by reference into this Annual Report on Form 10-K.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
For information required by Item 14 with respect to principal accounting fees and services, see the information set forth under the caption “Proposal 2- RATIFICATION OF THE APPOINTMENT OF MENDOZA BERGER & COMPANY, L.L.P. AS INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM” in the 2009 Proxy Statement, which information is incorporated by reference into this Annual Report on Form 10-K.
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ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Financial Statements, Financial Statement Schedules and Exhibits.
(1) See Index to Financial Statements located on page F-1.
All consolidated financial statement schedules have been omitted because they are not required, and are not applicable, or the required information has been included elsewhere within this Form 10-K.
(3) Exhibits
Exhibit No. | Document Description | |
2.1 | Agreement and Plan of Merger, dated as of May 11, 2006, by and between Advance Nanotech Inc., a Colorado corporation, and Advance Nanotech Inc., a Delaware corporation (incorporated by reference to Exhibit 2.1 to Form 8-K dated June 19, 2006 and filed June 20, 2006). | |
2.2 | Exchange Agreement, dated December 19, 2007, by and among Bret Bader, Mark Brennan, Paul Boyle, Andrew Koehl, David Ruiz-Alonso and the Company (incorporated by reference to Exhibit 2.2 to Form 10-K filed by the Company on March 31, 2008). | |
2.3 | Exchange Agreement Amendment No. 1, dated May 28, 2008, between the Company and the other parties thereto (incorporated by reference to Exhibit 10.1 to Form 8-K filed by the Company on May 28, 2008). | |
2.4 | Exchange Agreement Amendment No. 2, dated September 4, 2008, between the Company and the other parties thereto (incorporated by reference to Exhibit 10.4 to Form 8-K filed by the Company on September 10, 2008). | |
2.5 | Agreement, dated December 18, 2007, between the Company, the other vendors party thereto and Bilcare Singapore Pte Limited (incorporated by reference to Exhibit 2.3 to Form 10-K filed by the Company on March 31, 2008). | |
3.1 | Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to Form 10-K filed by the Company on March 31, 2008). | |
3.2 | Certificate of Amendment of Certificate of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to Form 8-K dated February 12, 2007 and filed February 15, 2007). | |
3.3 | Company’s Bylaws (incorporated by reference to Exhibit 3.2 to Form 8-K dated June 19, 2006 and filed June 20, 2006). |
4.1 | Forms of Investor Warrant (incorporated by reference to Exhibit 10.7 to Form 8-K dated January 20, 2005 and filed January 26, 2005, and to Exhibit 10.12 to Form 8-K dated February 28, 2005 and filed March 4, 2005). | |
4.2 | Form of Placement Agent Warrant (incorporated by reference to Exhibit 10.8 to Form 8-K dated January 20, 2005 and filed January 26, 2005, and to Exhibit to 10.13 to Form 8-K dated February 28, 2005 and filed March 4, 2005). | |
4.3 | Form of Investor and Placement Agent Warrant Agreement consent letter to amend the exercise price pursuant to the Securities and Purchase Agreement dated as of October 13, 2006 (incorporated by reference to Exhibit 10.22 to Form 10-KSB filed by the Company on March 30, 2007). | |
4.4 | Form of Common Stock Purchase Warrant (incorporated by reference to Exhibit 4.41 to Form 10-K filed by the Company on March 31, 2008). | |
4.5 | Form of Senior Secured Convertible Note (incorporated by reference to Exhibit 4.5 to Form 10-K filed by the Company on March 31, 2008). | |
4.6 | Form of Common Stock Purchase Warrant (incorporated by reference to Exhibit 10.3 to Form 8-K filed by the Company on September 10, 2008). | |
4.7 | Form of Senior Secured Convertible Note (incorporated by reference to Exhibit 10.2 to Form 8-K filed by the Company on September 10, 2008). | |
10.1 | Loan Management Account Agreement, by and between the Company and Merrill Lynch Bank USA (incorporated by reference to Exhibit 10.1 to Form 10-QSB filed by the Company on November 14, 2007). | |
10.2* | 2008 Equity Incentive Plan and related agreements (incorporated by reference to Exhibit 10.1 to Form 8-K dated and filed by the Company on September 4, 2009). | |
10.3* | Form of Stock Option Agreement (incorporated by reference to Exhibit 10.2 to Form 8-K dated and filed by the Company on September 4, 2009). |
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Exhibit No. | Document Description | |
10.4* | 2005 Equity Incentive Plan and related agreements (incorporated by reference to Exhibit 10.1 to Form 8-K dated and filed by the Company on December 29, 2005). | |
10.5* | Amended and Restated 2005 Equity Incentive Plan and related agreements (incorporated by reference to Exhibit 10.8 to Form 10-QSB filed by the Company on May 15, 2006). | |
10.6* | Form of Director Compensation and Confidential Information Agreement (incorporated by reference to Exhibit 10.6 to Form 8-K filed by the Company on September 10, 2008). | |
10.7* | Employment Agreement dated September 4, 2008 by and between the Company and Bret Bader (incorporated by reference to Exhibit 10.5 to Form 8-KB filed by the Company on September 10, 2008). | |
10.8* | Amended and Restated Employment Agreement dated November 13, 2008 by and between the Company and Thomas P. Finn (incorporated by reference to Exhibit 10.1 to Form 10-Q filed by the Company on November 14, 2008). | |
10.9 | Form of Subscription Agreement, dated December 19 and 21, 2007, between the Company and the subscribers thereto (incorporated by reference to Exhibit 3.1 to Form 10-K filed by the Company on March 31, 2008). | |
10.10 | Pledge and Security Agreement, dated December 19, 2007, between the Company and Axiom Capital Management, Inc (incorporated by reference to Exhibit 3.1 to Form 10-K filed by the Company on March 31, 2008). | |
10.11 | Collateral Agent Agreement, dated December 19, 2007, among Axiom Capital Management, Inc. and the parties thereto (incorporated by reference to Exhibit 3.1 to Form 10-K filed by the Company on March 31, 2008). | |
10.12 | Form of Subscription Agreement, dated September 4, 2008, between the Company and the subscribers thereto (incorporated by reference to Exhibit 10.1 to Form 8-K filed by the Company on September 10, 2008). | |
14.1w | Code of Business conduct and Ethics Policy | |
21.1 | Subsidiaries of the Registrant (Direct or Indirect) Advance Nanotech Singapore Pte. Limited (a Singapore corporation) Owlstone Nanotech, Inc. (a Delaware corporation) Owlstone |
23.1 w | Consent of Mendoza Berger & Company, LLP | |
31.1 w | Certification of Chief Executive Officer (Principal Executive Officer) pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act, as amended. | |
31.2 w | Certification of Chief Financial Officer (Principal Financial Officer) pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act, as amended. | |
32.1 w | Certification by Principal Executive Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |
32.2 w | Certification by Principal Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
* | Management contract or compensation plan, contract or arrangement. |
w | Filed herewith. |
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Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, on this 31st day of March 2009.
ADVANCE NANOTECH, INC.
/S/ BRET BADER | |
BRET BADER CHIEF EXECUTIVE OFFICER |
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Pursuant to the requirements of the Securities Exchange Act of 1934, this Report on Form 10-K has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
SIGNATURE | TITLE | DATE | ||
/S/ BRET BADER | Chief Executive Officer (Principal Executive officer ) | March 31, 2009 | ||
Bret Bader | ||||
/S/ THOMAS P. FINN | Chief Financial Officer (Principal Financial Officer) | March 31, 2009 | ||
Thomas P. Finn | and (Principal Accounting Officer) | |||
/S/ ANDREW J. COSENTINO | Non-Executive Chairman and Director | March 31, 2009 | ||
Andrew J. Cosentino | ||||
/S/ JON BUTTLES | Director | March 31, 2009 | ||
Jon Buttles | ||||
/S/ LEE J. COLE | Director | March 31, 2009 | ||
Lee J. Cole | ||||
/S/ PETER GAMMEL | Director | March 31, 2009 | ||
Peter Gammel | ||||
/S/ JOSEPH PETERS | Director | March 31, 2009 | ||
Joseph Peters | ||||
/S/ PETER RUGG | Director | March 31, 2009 | ||
Peter Rugg | ||||
/S/ VIRGIL E. WENGER | Director | March 31, 2009 | ||
Virgil E. Wenger | ||||
/S/ JOSEPH ZAPPULLA | Director | March 31, 2009 | ||
Joseph Zappulla | ||||
/S/ DOUGLAS ZORN | Director | March 31, 2009 | ||
Douglas Zorn |
��
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INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm. | F-2 |
Consolidated Balance Sheets of Advance Nanotech, Inc. and Subsidiaries, as of December 31, 2008 and 2007. | F-3 |
Consolidated Statements of Operations and Comprehensive Loss of Advance Nanotech, Inc. and Subsidiaries for the year ended December 31, 2008 and 2007 and for the period from August 17, 2004 (inception) through December 31, 2008. | F-4 |
Consolidated Statement of Stockholders' Equity (Deficit) of Advance Nanotech, Inc. and Subsidiaries for the period from August 17, 2004 (inception) through December 31, 2008. | F-5 |
Consolidated Statements of Cash Flows of Advance Nanotech, Inc. and Subsidiaries for the years ended December 31, 2008 and 2007 and the period from August 17, 2004 (inception) through December 31, 2008. | F-6 |
Notes to Consolidated Financial Statements of Advance Nanotech, Inc. and Subsidiaries. | F-7 |
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Advance Nanotech, Inc.
We have audited the accompanying consolidated balance sheets of Advance Nanotech, Inc., as of December 31, 2008 and 2007, and the related consolidated statements of operations and comprehensive loss, changes in stockholders’ equity (deficit) and cash flows for the years then ended and for the period from inception (April 17, 2004) through December 31, 2008. 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. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Advance Nanotech, Inc. as of December 31, 2008 and 2007, and the results of its operations and its cash flows for the years then ended and for the period from inception (August 17, 2004) through December 31, 2008 in conformity with accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note A to the consolidated financial statements, the Company has suffered recurring losses from operations that raise substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note A. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
Mendoza Berger & Company, LLP
/S/ MENDOZA BERGER & COMPANY, LLP
Irvine, California
March 30, 2009
F-2
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED BALANCE SHEETS
December 31, | December 31, | ||||||||
ASSETS | 2008 | 2007 | |||||||
CURRENT ASSETS | |||||||||
Cash and cash equivalents | $ | 66,810 | $ | 1,867,626 | |||||
Restricted cash | - | 77,557 | |||||||
Prepaid expenses and other current assets | 201,524 | 148,641 | |||||||
Accounts receivable | 511,213 | 1,325,080 | |||||||
Inventory | 221,376 | 74,672 | |||||||
VAT tax refund receivable | 23,476 | 40,352 | |||||||
Current assets of discontinued operations | - | 779,149 | |||||||
TOTAL CURRENT ASSETS | 1,024,399 | 4,313,077 | |||||||
Property plant and equipment, net | 282,076 | 242,005 | |||||||
Patents | 569,835 | 516,513 | |||||||
Deferred financing costs of discontinued operations | - | 801,620 | |||||||
Intangibles of discontinued operations | - | 119,868 | |||||||
TOTAL ASSETS | $ | 1,876,310 | $ | 5,993,083 | |||||
CURRENT LIABILITIES | |||||||||
Accounts payable | $ | 1,107,614 | $ | 693,168 | |||||
Accrued expenses | 1,120,248 | 987,840 | |||||||
Deferred equity compensation | 61,001 | 345,268 | |||||||
Deferred revenue | - | 38,279 | |||||||
Capital lease obligation, current portion | 8,561 | 21,483 | |||||||
Current liabilities of discontinued operations | 326,617 | 980,412 | |||||||
TOTAL CURRENT LIABILITIES | 2,624,041 | 3,066,450 | |||||||
Convertible notes payable | 9,905,623 | 6,294,105 | |||||||
Common stock warrants | 1,150,224 | 2,184,266 | |||||||
Capital lease obligation, net of current portion | 5,318 | 13,879 | |||||||
Other liabilities of discontinued operations | - | 334,001 | |||||||
TOTAL LIABILITIES | 13,685,206 | 11,892,701 | |||||||
Minority interests in subsidiaries | 6,201,034 | 6,854,191 | |||||||
STOCKHOLDERS' EQUITY / (DEFICIT) | |||||||||
Preferred stock; $0.001 par value; 25,000,000 shares authorized; 0 shares issued and outstanding in 2008 and 2007, respectively | - | - | |||||||
Common stock; $0.001 par value; 200,000,000 shares authorized; 53,590,459 and 36,595,686 shares issued and outstanding in 2008 and 2007, respectively | 53,591 | 36,596 | |||||||
Additional paid in capital | 17,287,151 | 16,128,733 | |||||||
Warrant valuation | 662,200 | 2,708,358 | |||||||
Accumulated other comprehensive income (loss) | (1,131,389 | ) | (801,386 | ) | |||||
Deficit accumulated during development stage | (34,881,483 | ) | (30,826,109 | ) | |||||
TOTAL STOCKHOLDERS' DEFICIT | (18,009,930 | ) | (12,753,808 | ) | |||||
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 1,876,310 | $ | 5,993,083 |
The accompanying notes are an integral part of these financial statements.
F-3
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
Year ended December 31, 2008 | Year ended December 31, 2007 | Period from August 17, 2004 (Date of inception) to December 31, 2008 | ||||||||||
Revenue- product | $ | 981,481 | $ | 185,496 | $ | 1,427,362 | ||||||
Revenue- service | 2,284,734 | 326,854 | 2,857,248 | |||||||||
Total net revenue | 3,266,215 | 512,350 | 4,284,610 | |||||||||
Cost of sales | (1,095,772 | ) | (125,488 | ) | (1,372,711 | ) | ||||||
Gross margin | 2,170,443 | 386,862 | 2,911,899 | |||||||||
Research and development | (2,233,829 | ) | (2,253,750 | ) | (8,513,661 | ) | ||||||
Selling, general and administrative | (6,101,880 | ) | (6,356,403 | ) | (32,449,841 | ) | ||||||
Total operating expenses | (8,335,709 | ) | (8,610,153 | ) | (40,963,502 | ) | ||||||
Loss from operations | (6,165,266 | ) | (8,223,291 | ) | (38,051,603 | ) | ||||||
Other income/ (expense) | ||||||||||||
Interest income | 18,629 | 8,433 | 378,066 | |||||||||
Grant income | - | 146,331 | 198,831 | |||||||||
Gain on sale of investment | - | 937,836 | 937,836 | |||||||||
Forgiveness of accounts payable | 171,465 | 469,928 | 641,393 | |||||||||
Other Income | 485,045 | 548,060 | 1,047,768 | |||||||||
Interest expense | (766,315 | ) | (73,788 | ) | (885,358 | ) | ||||||
Fair value of warrants gain | 2,897,452 | - | 11,636,595 | |||||||||
Accrued late registration costs | (122,303 | ) | - | (2,447,496 | ) | |||||||
Loss before minority interest | $ | (3,481,293 | ) | $ | (6,186,491 | ) | $ | (26,543,968 | ) | |||
Minority interest in net loss of subsidiary | 1,011,624 | 1,449,909 | 5,164,766 | |||||||||
Loss from continuing operations | $ | (2,469,669 | ) | $ | (4,736,582 | ) | $ | (21,379,202 | ) | |||
Loss from discontinued operations | (1,585,705 | ) | 92,352 | (13,502,281 | ) | |||||||
Provision for income taxes | - | - | - | |||||||||
Net loss | $ | (4,055,374 | ) | $ | (4,644,230 | ) | $ | (34,881,483 | ) | |||
Foreign currency translation adjustment loss | (330,003 | ) | (320,606 | ) | (1,131,389 | ) | ||||||
Comprehensive loss | $ | (4,385,377 | ) | $ | (4,964,836 | ) | $ | (36,012,872 | ) | |||
Loss per share from continuing operations- basic and diluted | $ | (0.06 | ) | $ | (0.13 | ) | $ | (0.65 | ) | |||
Loss per share from discontinued operations- basic and diluted | $ | (0.04 | ) | $ | (0.00 | ) | $ | (0.42 | ) | |||
Net loss per share - basic and diluted | $ | (0.10 | ) | $ | (0.13 | ) | $ | (1.07 | ) | |||
Comprehensive loss per share- basic and diluted | $ | (0.11 | ) | $ | (0.14 | ) | $ | (1.09 | ) | |||
Weighted average shares outstanding- basic and diluted | 41,224,811 | 35,906,842 | 32,721,806 |
The accompanying notes are an integral part of these financial statements.
F-4
ADVANCE NANOTECH, INC AND SUBSIDIARIES
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY/ (DEFICIT)
FROM INCEPTION (AUGUST 17, 2004) TO DECEMBER 31, 2008
Deficit | Accumulated | |||||||||||||||||||||
Common | Additional | Accumulated | Other | Total | ||||||||||||||||||
Stock | Preferred | Paid In | Warrant | During | Comprehensive | Stockholders' | ||||||||||||||||
Shares | Amount | Stock | Capital | Valuation | Development | Income/(Loss) | Equity | |||||||||||||||
Initial capitalization | 200,000 | $ | 200 | $ | (200 | ) | $ | - | $ | - | $ | - | $ | - | ||||||||
Acquisition shares, net of financing costs | 19,352,778 | 19,353 | (444,353 | ) | (425,000 | ) | ||||||||||||||||
Shares issued at $1/share | 1,500,000 | 1,500 | 1,498,500 | 1,500,000 | ||||||||||||||||||
Shares issued for cash | 112,500 | 112 | 224,888 | 225,000 | ||||||||||||||||||
Net loss | (1,585,858 | ) | (1,585,858 | ) | ||||||||||||||||||
Foreign currency translation | 19,828 | 19,828 | ||||||||||||||||||||
Balance as of December 31, 2004 | 21,165,278 | 21,165 | - | 1,278,835 | (1,585,858 | ) | 19,828 | (266,030 | ) | |||||||||||||
Shares issued in connection with private placement, net of financing costs | 11,666,123 | 11,667 | 20,569,193 | 20,580,860 | ||||||||||||||||||
Shares issued as late registration penalty | 384,943 | 386 | 2,324,807 | 2,325,193 | ||||||||||||||||||
Shares issued from cashless warrant conversions | 71,549 | 71 | (71 | ) | - | |||||||||||||||||
Shares issued for services | 265,000 | 265 | 2,182,235 | 2,182,500 | ||||||||||||||||||
Common stock warrants | (10,140,471 | ) | 10,140,471 | - | ||||||||||||||||||
Placement agent warrants | (1,925,996 | ) | 1,925,996 | - | ||||||||||||||||||
Fair value of warrant gain / (loss) | (8,739,143 | ) | (8,739,143 | ) | ||||||||||||||||||
Net loss | (8,367,182 | ) | (8,367,182 | ) | ||||||||||||||||||
Foreign currency translation | (217,682 | ) | (217,682 | ) | ||||||||||||||||||
Balance as of December 31, 2005 | 33,552,893 | 33,554 | - | 5,549,389 | 12,066,467 | (9,953,040 | ) | (197,854 | ) | 7,498,516 | ||||||||||||
Warrants issued for services | 157,708 | 157,708 | ||||||||||||||||||||
Shares issued for services | 95,000 | 95 | 88,905 | 89,000 | ||||||||||||||||||
Shares issued to employees | 723,569 | 723 | 982,354 | 983,077 | ||||||||||||||||||
Stock options issued (FAS 123R) | 962,542 | 962,542 | ||||||||||||||||||||
Common stock warrants | 5,203,445 | (5,203,445 | ) | - | ||||||||||||||||||
Placement agent warrants | 1,119,906 | (1,119,906 | ) | - | ||||||||||||||||||
Net loss | (16,228,839 | ) | (16,228,839 | ) | ||||||||||||||||||
Foreign currency translation | (282,926 | ) | (282,926 | ) | ||||||||||||||||||
Balance as of December 31, 2006 | 34,371,462 | 34,372 | - | 14,064,249 | 5,743,116 | (26,181,879 | ) | (480,780 | ) | (6,820,922 | ) | |||||||||||
Warrants issued in connection with private placement | (2,184,266 | ) | (2,184,266 | ) | ||||||||||||||||||
Placement costs relating to private placement | (567,755 | ) | (567,755 | ) | ||||||||||||||||||
Shares issued to consultants for services | 1,100,000 | 1,100 | 438,900 | 440,000 | ||||||||||||||||||
Shares issued to employees | 1,124,224 | 1,124 | 593,946 | 595,070 | ||||||||||||||||||
Stock options issued-FAS123R | 748,901 | 748,901 | ||||||||||||||||||||
Common stock warrants | 3,034,758 | (3,034,758 | ) | - | ||||||||||||||||||
Net loss | (4,644,230 | ) | (4,644,230 | ) | ||||||||||||||||||
Foreign currency translation | (320,606 | ) | (320,606 | ) | ||||||||||||||||||
Balance as of December 31, 2007 | 36,595,686 | 36,596 | - | 16,128,733 | 2,708,358 | (30,826,109 | ) | (801,386 | ) | (12,753,808 | ) | |||||||||||
Warrants issued in connection with private placement | (1,590,250 | ) | (1,590,250 | ) | ||||||||||||||||||
Placement costs relating to private placement | (896,427 | ) | (896,427 | ) | ||||||||||||||||||
Shares issued to consultants for services | 89,192 | 89 | 11,506 | 11,595 | ||||||||||||||||||
Warrants issued to consultants for services | - | - | 255,191 | 255,191 | ||||||||||||||||||
Shares issued on conversion of notes | 985,888 | 986 | 244,814 | 245,800 | ||||||||||||||||||
Shares issued in connection with Owlstone Exchange | 13,291,039 | 13,291 | (13,291 | ) | - | |||||||||||||||||
Shares issued for interest paid on convertible notes | 518,749 | 519 | 78,120 | 78,639 | ||||||||||||||||||
Shares issued as late registration penalty | 364,551 | 365 | 87,854 | 88,219 | ||||||||||||||||||
Shares issued to employees | 1,745,354 | 1,745 | 219,568 | 221,313 | ||||||||||||||||||
Stock options issued-FAS123R | - | - | 715,175 | 715,175 | ||||||||||||||||||
Common stock warrants | - | - | 2,046,158 | (2,046,158 | ) | - | ||||||||||||||||
Net Loss | (4,055,374) | (4,055,374 | ) | |||||||||||||||||||
Foreign currency translation | (330,003 | ) | (330,003 | ) | ||||||||||||||||||
Balance as of December 31, 2008 | 53,590,459 | 53,591 | - | 17,287,151 | 662,200 | (34,881,483 | ) | (1,131,389 | ) | (18,009,930 | ) | |||||||||||
The accompanying notes are an integral part of these financial statements.
F-5
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED STATEMENTS OF CASH FLOWS
Period from | ||||||||||||
August 17, 2004 | ||||||||||||
Year ended | Year ended | (Date of inception) | ||||||||||
December 31, 2008 | December 31, 2007 | December 31, 2008 | ||||||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||||||
Net loss | $ | (2,469,669 | ) | $ | (4,736,582 | ) | $ | (21,379,202 | ) | |||
Adjustments to reconcile net loss to cash flows | ||||||||||||
used in operating activities | ||||||||||||
Depreciation | 132,353 | 131,206 | 428,193 | |||||||||
Loss from discontinued operations | (1,585,705 | ) | 92,352 | (13,502,280 | ) | |||||||
Fair value of warrant liability | (2,897,452 | ) | - | (11,636,595 | ) | |||||||
Common stock issued for services | 11,595 | 440,000 | 2,723,095 | |||||||||
Common stock issued to employees | 221,313 | 595,070 | 1,799,461 | |||||||||
Common stock issued for interest on convertible note | 78,639 | - | 78,639 | |||||||||
Common stock issued on conversion of notes | 245,800 | - | 245,800 | |||||||||
Stock options issued to employees | 715,175 | 748,901 | 2,426,618 | |||||||||
Warrants issued for services | 255,191 | - | 412,899 | |||||||||
Accrued late registration costs | 122,303 | - | 2,447,496 | |||||||||
Gain on sale of investment | - | (937,836 | ) | (937,836 | ) | |||||||
Forgiveness of accounts payable | (171,465 | ) | (469,928 | ) | (641,393 | ) | ||||||
Changes in operating assets and liabilities | ||||||||||||
Decrease (increase) in restricted cash | 77,557 | (33 | ) | - | ||||||||
Increase in prepayments and other | (52,883 | ) | (128,072 | ) | (222,092 | ) | ||||||
Decrease (increase) in accounts receivable | 813,867 | (1,087,422 | ) | (511,213 | ) | |||||||
Decrease (increase) in grants receivable | - | 146,373 | - | |||||||||
Decrease (increase) in inventory | (146,704 | ) | 813 | (221,376 | ) | |||||||
Decrease (increase) in VAT receivable | 16,876 | 107,409 | (23,476 | ) | ||||||||
Increase (decrease) in accounts payable | 585,911 | 123,224 | 1,749,007 | |||||||||
Increase (decrease) in accrued expenses | 132,408 | 390,878 | 1,120,248 | |||||||||
Increase (decrease) in deferred revenue | (38,279 | ) | (108,094 | ) | - | |||||||
Increase (decrease) in deferred equity compensation | (284,267 | ) | (150,390 | ) | 61,001 | |||||||
NET CASH USED IN CONTINUING OPERATING ACTIVITIES | (4,237,434 | ) | (4,842,132 | ) | (35,583,006 | ) | ||||||
NET CASH USED IN DISCONTINUED OPERATIONS | (533,928 | ) | (872,398 | ) | 326,617 | |||||||
NET CASH USED IN OPERATING ACTIVITIES | (4,771,362 | ) | (5,714,530 | ) | (35,256,389 | ) | ||||||
CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||||||
Purchase of property plant and equipment | (179,147 | ) | (22,488 | ) | (710,269 | ) | ||||||
Development of patent technology | (53,322 | ) | (146,417 | ) | (569,835 | ) | ||||||
Investment | - | 1,133,466 | 937,836 | |||||||||
Minority investment in subsidiary | (653,156 | ) | 358,098 | 6,201,035 | ||||||||
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES | (885,625 | ) | 1,322,659 | 5,858,767 | ||||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||||||
Capital lease obligations, net | (21,483 | ) | (22,365 | ) | 13,879 | |||||||
Proceeds from issuance of common stock ($1 round) | - | - | 1,500,000 | |||||||||
Proceeds from issuance of common stock | - | - | 20,805,860 | |||||||||
Proceeds from issuance of convertible notes | 3,857,318 | 6,294,105 | 10,151,423 | |||||||||
Financing fees on issuance of notes | (896,427 | ) | (567,755 | ) | (1,464,182 | ) | ||||||
Financing fees on merger shares issued | - | (425,000 | ) | |||||||||
NET CASH PROVIDED BY FINANCING ACTIVITIES FROM CONTINUING OPERATIONS | 2,939,408 | 5,703,985 | 30,581,980 | |||||||||
NET CASH PROVIDED BY FINANCING ACTIVITIES FROM DISCONTINUED OPERATIONS | 1,246,766 | 514,273 | - | |||||||||
NET CASH PROVIDED BY FINANCING ACTIVITIES | 4,186,174 | 6,218,258 | 30,581,980 | |||||||||
Effect of exchange rates on cash and equivalents | (330,003 | ) | (320,606 | ) | (1,131,389 | ) | ||||||
NET INCREASE (DECREASE) IN CASH | (1,800,816 | ) | 1,505,781 | 66,810 | ||||||||
CASH AT BEGINNING OF PERIOD | 1,867,626 | 361,845 | - | |||||||||
CASH AT END OF PERIOD | $ | 66,810 | $ | 1,867,626 | $ | 66,810 | ||||||
Supplemental disclosure of cash flow information: | ||||||||||||
Cash paid for interest | $ | 357,713 | $ | 15,552 | $ | 406,053 | ||||||
Conversion of amounts due on related party credit facility to common stock | $ | - | $ | - | $ | 1,500,000 | ||||||
Convertible notes issued as repayment of loan and accounts payable | $ | 602,000 | $ | 354,000 | $ | 956.000 |
The accompanying notes are an integral part of these financial statements.
F-6
ADVANCE NANOTECH, INC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2008
NOTE A - ORGANIZATION, NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Corporate History
We were originally formed as Colorado Gold & Silver, Inc., a Colorado corporation, on March 3, 1980, and subsequently changed our name to Dynamic I-T, Inc. and then in January 2004, changed our name to Artwork & Beyond, Inc., or Artwork. On October 1, 2004, Artwork entered into a share exchange agreement to acquire all of the issued and outstanding common stock of Advance Nanotech Holdings, Inc. pursuant to the terms and conditions set forth in the share exchange agreement. The acquisition transaction closed simultaneously with the execution of the share exchange agreement. Artwork and its affiliates were unrelated to the stockholders of Advance Nanotech Holdings, Inc. prior to the execution, delivery and performance of the share exchange agreement. As a result of this transaction (and certain capital transactions, including a reverse 100-to-1 stock split on October 5, 2005), control of Artwork was changed, with the former stockholders of Advance Nanotech Holdings, Inc. acquired approximately 99% of Artwork’s outstanding common stock. In addition, all of the officers and directors of Artwork prior to the transaction were replaced by designees of the former shareholders of Advance Nanotech Holdings, Inc., and Artwork’s corporate name was changed to “Advance Nanotech, Inc.” As a consequence of the change in control of Artwork resulting from these transactions, all prior business activities of Artwork were completely terminated, and Artwork adopted the business plan developed by Advance Nanotech Holdings, Inc. prior to the transaction. On October 5, 2004, the new Board of Directors approved the change of the issuer’s name to “Advance Nanotech, Inc. (a Colorado corporation),” or Advance Nanotech Colorado.
On June 19, 2006, Advance Nanotech Colorado merged with and into its newly-formed, wholly-owned subsidiary, Advance Nanotech, Inc., a Delaware corporation, or Advance Nanotech Delaware, in order to reincorporate in the State of Delaware. The reincorporation was approved by Advance Nanotech Colorado's shareholders on May 11, 2006. As a result of the reincorporation, our legal domicile is now Delaware. Each outstanding Advance Nanotech Colorado common share was automatically converted into one Advance Nanotech Delaware common share. As a result of the reincorporation, each outstanding option, right or warrant to acquire shares of Advance Nanotech Colorado common stock converted into an option, right or warrant to acquire an equal number of shares of Advance Nanotech Delaware common stock, with no further action required by any party, under the same terms and conditions as the original option, right or warrant.
On December 19, 2007, the Company entered into an exchange agreement (as amended, the “Exchange Agreement”) with certain stockholders (the “Owlstone Founders”) of its majority owned subsidiary Owlstone Nanotech, Inc. (“Owlstone”) to increase the Company's ownership interest in Owlstone. Pursuant to the Exchange Agreement, the Company on September 4, 2008 (i) issued 13,291,039 shares of its common stock to the Owlstone Founders in exchange for Owlstone shares representing approximately 24% of Owlstone that we did not already own and (ii) granted to the employees of Owlstone options to purchase in the aggregate 11,000,000 shares of common stock for $0.25 per shares in exchange for the cancellation of Owlstone options outstanding and the right to acquire further Owlstone option grants. The Company is also obligated under the Exchange Agreement (i) to issue in the aggregate 10,000,000 shares of restricted stock with a vesting schedule still to be determined and (ii) to offer to acquire the remaining shares of Owlstone common stock outstanding or issuable upon conversion of Owlstone convertible notes (representing approximately 26.21% of the remaining Owlstone shares) for in the aggregate up to 16,511,760 shares of our common stock and warrants to purchase 9,448,881 additional shares of our common stock for $0.30 per share.
Discontinued Operations
In November 2008, we de-listed Advance Display Technologies plc from the Plus Market Group in the United Kingdom as part of our strategy of divesting away from our non-core technologies and also shut down all our U.K. subsidiaries, except for Owlstone Limited, to further reduce operating costs. Therefore, the Company has discontinued operations of the following U.K. subsidiaries: Advance Nanotech Limited, Nanofed Limited, Cambridge Nanotechnology Limited, Bio-Nano Sensium Limited, Nano Solutions Limited, Advance Display Technologies plc, Advance Homeland Security plc. The operations and cash flows of these subsidiaries have been eliminated from the accounts of our ongoing operations and major classes of assets and liabilities related thereto have been segregated. The losses from discontinued operations, including the impairment of certain assets of discontinued operations, have been reflected in the financial statements of this annual report.
F-7
Current Operations
We are a development stage company seeking to commercialize novel chemical sensor products based on our proprietary and innovative gas sensing technology, developed by our Owlstone Nanotech, Inc. subsidiary. Our technology offers an attractive combination of small size, high sensitivity, low power consumption, reprogrammability, high chemical selectivity and low cost. Historically, we were developing several nanotechnologies. In December 2007, we decided to revise our strategy and to focus our efforts, principally, on the commercialization of our chemical detection technology. As such, we have determined to progressively divest ourselves of our other technologies and their respective subsidiaries, which we have substantially completed. Our operating business today is centered upon our Owlstone subsidiary and the ongoing commercialization of its products.
In the United States alone, the chemical sensor market is projected to surpass $5 billion by 2012, according to Freedonia Group, with additional opportunities in the military market. We have initially targeted the industrial and homeland defense sectors. In later stages, we plan to commercialize sensing products for the consumer, environmental monitoring and medical diagnostics markets. We are poised to benefit from powerful trends driving the demand for improved technologies within the chemical sensing arena, including substantial government and private sector investment in homeland security, regulatory emphasis on safety, and increasingly stringent environmental regulations.
The market for chemical sensing faces unique challenges in detecting hazardous substances in various forms and in a myriad of operating environments. In homeland defense, chemical sensors are used to detect chemical warfare agents and explosives to protect military personnel, government buildings and civilians. In industrial applications, chemical sensors monitor air quality for health and safety purposes and also provide vital information during manufacturing processes. The existing technologies for chemical sensors in these industries are outdated and are typically limited by physical size, sensitivity and/or reliability. We believe that these factors have led to unacceptable sample collections, uninspired deployment scenarios, high false-positive rates and, subsequently, a call to action by the U.S. Department of Defense for better solutions.
Our Solution
Our sensing technology was specifically designed to meet the specifications set forth by the U.S. Department of Defense. The key element of the Owlstone sensor is a silicon chip that provides a chemical-sensing mechanism using Field Asymmetric Ion Mobility Spectrometry, or FAIMS, a variant of conventional Ion Mobility Spectrometry, or IMS. Our technology enables unprecedented miniaturization of sensors with superior analytical capability at a compelling cost advantage, the ability to be programmed and reprogrammed to detect a wide range of substances, and high selectivity and sensitivity. The Owlstone detector was conceived by Andrew Koehl who began the development of Owlstone’s fundamental technology in 2001. Mr. Koehl was later joined by Paul Boyle and David Ruiz-Alonso and, together, they developed the core technology.
Our Products
We are currently marketing two chemical sensing products: Tourist and Lonestar. Tourist is an evaluation platform currently being sold by Owlstone to select partners and customers. Our Lonestar product is a fully functional unit for certain applications in industrial markets as well as a test platform for partners providing a fully integrated and deployable chemical detection system. Lonestar was launched in July 2007, and we have commenced shipping units to end-users. In addition, we have also developed and shipped a third product called the Owlstone OVG-4, which is a system for generating trace concentration levels of chemicals and calibration gas standards.
We intend to keep our sales organization lean and are pursuing product-based strategies within markets that are characterized by high-volume, centralized procurements. In applications where procurement is fragmented, we intend to partner with existing market leaders that already possess distribution networks and infrastructure using either “component” supply or contract sales strategies and with other partners whose placement in a territory or market offers advantages, particularly if the territory is one in which we would not otherwise concentrate our own efforts.
SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION AND USE OF ESTIMATES
The presentation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.
F-8
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements of continuing operations include the accounts of Advance Nanotech, Inc., Owlstone Nanotech, Inc., Owlstone Limited and Advance Nanotech (Singapore) Pte Ltd. (the "Company"). The consolidated financial statements of discontinued operations include Advance Nanotech Ltd, Bio-Nano Sensium Limited, Advance Display Technologies plc, Nanofed Limited, Cambridge Nanotechnology Limited, Nano Solutions Limited and Advance Homeland Security plc (the “Discontinued Group”).
Minority stockholders of Owlstone Nanotech, Inc. (15.97%), Advance Nanotech (Singapore) Pte Ltd (10%), Bio-Nano Sensium Limited (45%), Nano Solutions Limited (25%) and Advance Display Technologies plc (7.1%) are not required to fund losses; accordingly no losses have been allocated to them. All inter-company accounts and transactions have been eliminated in consolidation and minority interests were accounted for in the consolidated statements of operations and the balance sheets.
GOING CONCERN
The accompanying consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States of America, contemplates the continuation of the Company as a going concern. The Company has been in the development stage since its inception (August 17, 2004), has sustained losses and has used capital raised from the issuance of stock and convertible debt to fund its operations. Continuation of the Company as a going concern is dependent upon establishing and achieving profitable operations. The Company expects to continue to incur losses until it can generate sufficient revenue from existing and new business and achieve and maintain positive margins. Until then, the Company’s operations will require additional funds.
At December 31, 2008, the Company had a total of approximately $66,810 of cash and cash equivalents. Based upon the Company’s forecast of future revenues from its products, services and grants, in conjunction with the cash and cash equivalents on hand, the Company’s continued ability to operate is dependent upon obtaining additional funds. The Company is presently pursuing various options to generate additional funds, including, among others, strategic partnering arrangements, financing on a senior secured basis, and raising additional capital through the sale of securities. If the Company is unable to generate sufficient cash flow through sales or partnering arrangements or obtain additional financing through other means to support its operations and meet its obligations, the Company will be forced to consider the further restructuring of its operations, disposition of various assets, seeking protection from its creditors, or cessation of operations and liquidation.
The Company is actively exploring various debt and equity financing transactions. Other plans to generate additional revenue from operations could include co-development and co-funding of its products, licensing products for upfront and milestone payments, and applying for more government grants. The Company has initiated cost reduction programs and will continue to closely manage expenses until funds from operations can support the growth of the business. Although the Company is exploring all opportunities to improve its financial condition, there is no assurance that these programs will be successful. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
CONCENTRATION OF CREDIT RISK
The Company's future results of operations involve a number of risks and uncertainties, including those described in the Company’s annual report on Form 10-K under Item 1A. “Risk Factors.” The Company is potentially subject to concentrations of credit risk, which consist principally of cash and cash equivalents. The cash and cash equivalent balances at December 31, 2007 are principally held by two institutions in the US and two banks in the UK. Each US financial institution insures our aggregated accounts with the Federal Deposit Insurance Corporation ("FDIC"), up to $250,000. At December 31, 2008, the Company had uninsured cash deposits in excess of or not covered by the Federal Deposit Insurance Corporation insurance limit of approximately $50,000, held by a non U.S. Bank in the U.K.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include investments in liquid instruments having maturity of three months or less at the time of purchase. The Company had restricted cash as a result of placing the security deposit related to our principal executive offices in New York in a standby letter of credit account. The Company is entitled to all of the interest earned on the account and receives unrestricted access to both the cash and interest at the end of the lease term or upon assignment of the lease.
RESEARCH AND DEVELOPMENT
Research and development costs are clearly identified and are expensed as incurred in accordance with FASB statement No. 2, "Accounting for Research and Development Costs."
F-9
FOREIGN CURRENCY TRANSLATION
The Company's primary functional currencies are the United States Dollar (USD$) and the Great Britain Pound (GBP£). Assets and liabilities are translated using the exchange rates in effect at the balance sheet date. Expenses are translated at the average exchange rates in effect during the period. Translation gains and losses not reflected in earnings are reported in accumulated other comprehensive income/loss in stockholders' equity.
EARNINGS / LOSS PER SHARE
The Company computes basic earnings (loss) per share using the weighted average number of common shares outstanding during the period in accordance with Statement of Financial Standards No. 128, “Earnings Per Share” ("SFAS 128") which specifies the compilation, presentation, and disclosure requirements for income per share for entities with publicly held common stock or instruments which are potentially common stock. Under SFAS No. 128, diluted earnings (loss) per share are computed using the weighted average number of common shares outstanding and the dilutive potential common shares outstanding during the period. Dilutive potential common shares primarily consist of stock options and warrants issued by the Company. For the years ended December 31, 2008 and 2007, the effect of the options and warrants were anti-dilutive.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities-an amendment of FASB Statement No. 133” (“SFAS No. 161”). SFAS No. 161 changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under Statement No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. This disclosure better conveys the purpose of derivative use in terms of the risks that the entity is intending to manage. Disclosing the fair values of derivative instruments and their gains and losses in a tabular format should provide a more complete picture of the location in an entity’s financial statements of both the derivative positions existing at period end and the effect of using derivatives during the reporting period. Disclosing information about credit-risk-related contingent features should provide information on the potential effect on an entity’s liquidity from using derivatives. The provisions of SFAS No. 161 are effective for fiscal years beginning after November 15, 2008. SFAS No. 161 will be effective for the Company on January 1, 2009. The Company is currently evaluating the impact of the adoption of SFAS No. 161 may have on its consolidated financial statement disclosures.
In April 2008, the FASB issued FSP No. 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP 142-3”). FSP 142-3 amends the factors to be considered in developing renewal or extension assumptions used to determine the useful life of intangible assets under SFAS No. 142, “Goodwill and Other Intangible Assets”. Its intent is to improve the consistency between the useful life of an intangible asset and the period of expected cash flows used to measure its fair value. This FSP is effective prospectively for intangible assets acquired or renewed after January 1, 2009. We do not expect FSP 142-3 to have a material impact on our accounting for future acquisitions of intangible assets.
In May 2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162 identifies a consistent framework, or hierarchy, for selecting accounting principles to be used in preparing financial statements that are presented in conformity with U.S. generally accepted accounting principles for nongovernmental entities (the “Hierarchy”). The Hierarchy within SFAS No. 162 is consistent with that previously defined in the AICPA Statement on Auditing Standards No. 69, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles” (“SAS 69”). SFAS No. 162 is effective 60 days following the United States Securities and Exchange Commission’s (the “SEC”) approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles”. The adoption of SFAS No. 162 will not have a material effect on the financial statements because the Company has utilized the guidance within SAS 69.
F-10
In May 2008, the FASB issued SFAS No. 163, “Accounting for Financial Guarantee Insurance Contracts—an interpretation of FASB Statement No. 60” (“SFAS No. 163”). SFAS No. 163 requires recognition of an insurance claim liability prior to an event of default when there is evidence that credit deterioration has occurred in an insured financial obligation. SFAS No. 163 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and all interim periods within those fiscal years. Early application is not permitted. The Company’s adoption of SFAS No. 163 will not have a material effect on the financial statements.
On May 9, 2008, the FASB issued FASB Staff Position No. APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP APB 14-1”). FSP APB 14-1 clarifies that convertible debt instruments that may be settled in cash upon conversion (including partial cash settlement) are not addressed by paragraph 12 of APB Opinion No. 14, “Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants”. Additionally, FSP APB 14-1 specifies that issuers of such instruments should separately account for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. FSP APB14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. FSP APB 14-1 will be effective for the Company on January 1, 2009. The adoption of FSP APB 14-1 is not expected to have a material impact on our consolidated results of operations or financial position.
On June 16, 2008, the FASB issued FASB Staff Position No. EITF 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities” (“FSP No. EITF 03-6-1”). FSP EITF 03-6-1 addresses the question of whether instruments granted in share-based payment transactions are participating securities prior to vesting. FSP EITF 03-6-1 indicates that unvested share-based payment awards that contain rights to dividend payments should be included in earnings per share calculations. The guidance will be effective for fiscal years beginning after December 15, 2008. FSP EITF 03-6-1 will be effective for the Company on January 1, 2009. The adoption of FSP EITF 03-6-1 is not expected to have a material impact on our consolidated results of operations or financial position.
In June 2008, the FASB issued EITF Issue 07-5, “Determining whether an Instrument (or Embedded Feature) is indexed to an Entity’s Own Stock” (“EITF 07-5”). EITF No. 07-5 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early application is not permitted. Paragraph 11(a) of SFAS No. 133 “Accounting for Derivatives and Hedging Activities”, specifies that a contract that would otherwise meet the definition of a derivative but is both (a) indexed to the Company’s own stock and (b) classified in stockholders’ equity in the statement of financial position would not be considered a derivative financial instrument. EITF 07-5 provides a new two-step model to be applied in determining whether a financial instrument or an embedded feature is indexed to an issuer’s own stock and thus able to qualify for the SFAS No. 133 paragraph 11(a) scope exception. EITF 07-5 is effective for us on January 1, 2009. The adoption of EITF 07-5 is not expected to have a material impact on our consolidated financial statements.
In June 2008, the FASB issued FSP EITF 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities” (“FSP 03-6-1”). FSP 03-6-1 clarifies that unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and are to be included in the computation of earnings per share under the two-class method described in SFAS No. 128, “Earnings Per Share”. This FSP is effective for us on January 1, 2009 and requires all prior-period earnings per share data that are presented to be adjusted retrospectively. We do not expect FSP 03-6-1 to have a material impact on our earnings per share calculations.
In October 2008, the FASB issued FSP No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP 157-3”). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. As it relates to our financial assets and liabilities recognized or disclosed at fair value in our financial statements on a recurring basis (at least annually), the adoption of FSP 157-3 did not have a material impact on our consolidated financial statements.
In December 2008, the FASB issued FASB Staff Position FAS 140-4 and FIN 46(R)-8, “Disclosures by Public Entities (Enterprises) About Transfers of Financial Assets and Interest in Variable Interest Entities” (“FSP 140-4”). FSP 140-4 requires additional disclosure about transfers of financial assets and an enterprise’s involvement with variable interest entities. FSP 140-4 is effective for the first reporting period ending after December 15, 2008. FSP 140-4 is not expected to have a material impact on our consolidated financial statements.
F-11
In December 2007, the Emerging Issues Task Force (“EITF”) of the FASB reached a consensus on Issue No. 07-1, “Accounting for Collaborative Arrangements” (“EITF 07-1”). The EITF finalized the definition of a collaborative arrangement and concluded that revenues and costs incurred with third parties in connection with collaborative arrangements would be presented gross or net based on the criteria in EITF 99-19 and other accounting literature. Based on the nature of the arrangement, payments to or from collaborators would be evaluated and its terms, the nature of the entity’s business, and whether those payments are within the scope of other accounting literature would be presented.
Companies are also required to disclose the nature and purpose of collaborative arrangements along with the accounting policies and the classification of significant financial-statement amounts related to the arrangements. Activities in the arrangement conducted in a separate legal entity should be accounted for under other accounting literature; however, required disclosure under EITF 07-1 applies to the entire collaborative agreement. This Issue is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years, and is to be applied retrospectively to all periods presented for all collaborative arrangements existing as of the effective date. We do not expect this will have a significant impact on our financial statements.
In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (“SFAS No. 141(R)”), which replaces SFAS No. 141, “Business Combinations”, and requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions. This Statement also requires the acquirer in a business combination achieved in stages to recognize the identifiable assets and liabilities, as well as the non-controlling interest in the acquiree, at the full amounts of their fair values. SFAS No. 141(R) makes various other amendments to authoritative literature intended to provide additional guidance or to confirm the guidance in that literature to that provided in this Statement. This Statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. We do not expect this will have a significant impact on our financial statements.
In December 2007, FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“SFAS No. 160”), which amends Accounting Research Bulletin No. 51, “Consolidated Financial Statements”, to improve the relevance, comparability, and transparency of the financial information that a reporting entity provides in its consolidated financial statements. SFAS No. 160 establishes accounting and reporting standards that require the ownership interests in subsidiaries not held by the parent to be clearly identified, labeled and presented in the consolidated statement of financial position within equity, but separate from the parent’s equity. This statement also requires the amount of consolidated net income attributable to the parent and to the non-controlling interest to be clearly identified and presented on the face of the consolidated statement of income. Changes in a parent’s ownership interest while the parent retains its controlling financial interest must be accounted for consistently, and when a subsidiary is deconsolidated, any retained non-controlling equity investment in the former subsidiary must be initially measured at fair value. The gain or loss on the deconsolidation of the subsidiary is measured using the fair value of any non-controlling equity investment. The Statement also requires entities to provide sufficient disclosures that clearly identify and distinguish between the interests of the parent and the interests of the non-controlling owners. This Statement applies prospectively to all entities that prepare consolidated financial statements and applies prospectively for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. We do not expect this will have a significant impact on our financial statements.
In June 2007, the EITF of the FASB reached a consensus on Issue No. 07-3, “Accounting for Nonrefundable Advance Payments for Goods or Services Received for Use in Future Research and Development Activities” (“EITF 07-3”). EITF 07-3 requires that non-refundable advance payments for goods or services that will be used or rendered for future research and development activities should be deferred and capitalized. As the related goods are delivered or the services are performed, or when the goods or services are no longer expected to be provided, the deferred amounts would be recognized as an expense. This Issue is effective for financial statements issued for fiscal years beginning after December 15, 2007. This consensus is to be applied prospectively for new contracts entered into on or after the effective date. The pronouncement is not expected to have a material effect on our financial statements.
F-12
RECLASSIFICATIONS
Certain reclassifications have been made to the 2007 financial statements in order to conform to the current presentation.
NOTE B- PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, net of accumulated depreciation. Property and equipment are depreciated on a straight-line basis over their estimated useful lives, which range from 3 to 5 years.
Estimated | December 31, | December 31, | ||||||||
Asset Description | Useful Life | 2008 | 2007 | |||||||
Furniture and Fixtures | 3-5years | $ | 184,662 | $ | 62,444 | |||||
Office Equipment | 3-5years | 72,165 | 58,377 | |||||||
Computers | 3years | 113,341 | 109,480 | |||||||
Software | 3years | 59,387 | 59,387 | |||||||
Plant and Machinery | 5years | 284,755 | 252,198 | |||||||
714,310 | 541,886 | |||||||||
Less: accumulated depreciation | (432,234 | ) | (299,881 | ) | ||||||
Net Property and equipment | $ | 282,076 | $ | 242,005 |
The Company recorded depreciation of $132,353 and $131,206 for the years ended December 31, 2008 and 2007, respectively.
Maintenance and repairs are expensed as incurred and were $22,878 and $14,161 for the years ended December 31, 2008 and 2007, respectively.
F-13
NOTE C- INTANGIBLE ASSETS
The Company capitalizes internally developed assets related to certain costs associated with patents. These costs include legal and registration fees needed to apply for and secure patents. As of December 31, 2008 and 2007, the Company had capitalized internally developed patents of $569,835 and $516,513, respectively. The Company has not yet recorded amortization expense related to the patents because the patents are not subject to amortization until issued and placed in use. Intangible assets will be amortized in accordance with Statement of Financial Accounting Standards No. 142, “ Goodwill and Other Intangible Assets,” ("SFAS 142") using the straight-line method over the shorter of their estimated useful lives or remaining legal life. The Company expenses any administrative costs related to the legal work on these patents. Intangible assets acquired from other enterprises or individuals in an “arms length” transaction are recorded at cost.
Our ability to successfully commercialize our products and technologies is significantly enhanced by our ability to secure strong intellectual property rights-generally patents-covering these products and technologies. The development and protection of intellectual property and proprietary technology is a key priority in our current and ongoing activities. As of December 31, 2008, we had been issued three U.S. patents. As of March 31, 2009, we had one additional U.S. Patent issued and we had ten patent applications submitted and awaiting response and four patent applications pending submittal under PCT protection with the United States Patent and Trademark Office. In addition, we had six patent applications pending with European patent offices and four applications pending submittal, covering the key functional and operational features of our chemical detection technologies. Lastly, we had one patent issued in other jurisdictions with three applications submitted and four applications pending.
NOTE D - INVESTMENT IN SUBSIDIARY
On July 28, 2005, Advance Nanotech Singapore Pte Ltd., a subsidiary of Advance Nanotech, Inc., acquired a 12.08% equity stake in Singular ID Pte Ltd for an investment of SGD$300,000 or approximately $207,510. As a result of subsequent equity financings, Advance Nanotech Singapore Pte Ltd.’s equity stake in Singular ID was reduced to 8.8% prior to its sale in December 2007. On December 28, 2007, the Company sold its 8.8% equity interest in Singapore-based Singular ID Pte Ltd. for $1.19 million and as a result, realized a gain of $937,836.
The Company did not exercise significant influence over the entity and carried the investment at cost. The Company recorded its investment in Singular ID in accordance with FASB No. 115, “Accounting for Certain Investments in Debt and Equity Securities”, using the cost method. The original investment under the cost method is accounted for in the same manner as marketable equity securities and recorded on the parent company’s balance sheet at original cost measured by the fair market value of the consideration given. There were no adjustments or impairment charges to the fair market value from acquisition through the period ending December 31, 2008.
NOTE E - MINORITY INTERESTS IN SUBSIDIARIES
Minority interest in subsidiary represents the minority stockholders’ proportionate share of the equity of:
· | Owlstone Nanotech, Inc. - At December 31, 2008, the Company owned 87.03% of Owlstone’s outstanding shares, which also represented its percentage of voting control. | |
· | Advance Display Technologies plc- At December 31, 2008, the Company owned 92.9% of Advance Display Technologies’ outstanding shares, which also represented its percentage of voting control. | |
· | Advance Nanotech Singapore Pte. Ltd.- At December 31, 2008, the Company owned 90.0% of Advance Nanotech Singapore Pte. Ltd.’s outstanding shares, which also represented its percentage of voting control. | |
· | Bio-Nano Sensium Technologies Ltd.- At December 31, 2008, the Company owned 55.0% of Bio-Nano Sensium Technologies Ltd.’s outstanding shares, which also represented its percentage of voting control. | |
· | Nano Solutions Ltd.- At December 31, 2008, the Company owned 75.0% of Nano Solutions Ltd.’s outstanding shares, which also represented its percentage of voting control. |
The Company’s percentage of controlling interest requires that operations be included in the consolidated financial statements. The percentage of equity interest that is not owned by the Company is shown as “Minority interests in subsidiaries” in the consolidated balance sheets and “Minority interest in net loss of subsidiary” in the consolidated statements of operations.
F-14
In November 2008, we de-listed Advance Display Technologies plc from the Plus Market Group in the United Kingdom as part of our strategy of divesting away from our non-core technologies and also shut down all our U.K. subsidiaries, except for Owlstone Limited, to further reduce operating costs. Therefore, the Company has discontinued operations of the following U.K. subsidiaries: Advance Nanotech Limited, Nanofed Limited, Cambridge Nanotechnology Limited, Bio-Nano Sensium Limited, Nano Solutions Limited, Advance Display Technologies plc, and Advance Homeland Security plc.
NOTE F- REVENUE RECOGNITION
Revenue from product sales, net of estimated provisions, will be recognized when the merchandise is shipped to an unrelated third party, as provided in Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements” (SAB104”). Accordingly, revenue is recognized when all four of the following criteria are met:
· | persuasive evidence that an arrangement exists; | |
· | delivery of the products has occurred; | |
· | the selling price is both fixed and determinable; and | |
· | collectability is reasonably probable. |
As of December 31, 2008 and 2007, the Company has recognized revenue of $3,266,215 and $512,350, respectively.
Revenues generated were a direct result of our subsidiary, Owlstone Nanotech, Inc., shipping its Lonestar and Owlstone Vapor Generators (“OVG”) products, along with instructional and engineering services provided to customers as of December 31, 2008.
Owlstone Nanotech, Inc. has obtained other purchase orders for its products and contracted services. Owlstone revenues include both product sales and service revenue from industrial partners. Service revenue includes contracted research and development or engineering work for specific customers.
Our customers consist primarily of governmental agencies and large manufacturers and wholesalers who sell directly into retail channels. Provisions for sales discounts and estimates for damaged product returns and exchanges will be established as a reduction of product sales revenues at the time revenues are recognized.
F-15
NOTE G - STOCKHOLDERS' EQUITY
1. Common Stock
At the Company's Special Meeting of Stockholders held on February 12, 2008, the stockholders of the Company voted in favor of an amendment to the Certificate of Incorporation of the Company to increase the number of authorized shares of the Company's common stock from 75,000,000 to 200,000,000. At December 31, 2008, 53,590,459 shares of common stock were outstanding.
2. Preferred Stock
On June 19, 2006, the Company created a class of "blank check" preferred stock, par value $0.001 per share, consisting of 25,000,000 shares. The term "blank check" preferred stock refers to stock for which the designations, preferences, conversion rights, and cumulative, relative, participating, optional or other rights, including voting rights, qualifications, limitations or restrictions thereof, are determined by the Board of Directors (“Board”). As such, the Board will be entitled to authorize the creation and issuance of 25,000,000 shares of preferred stock in one or more series with such limitations and restrictions as may be determined in the sole discretion of the Board, with no further authorization by stockholders required for the creation and issuance of the preferred stock. Any preferred stock issued would have priority over the common stock upon liquidation and might have priority rights as to dividends, voting and other features. Accordingly, the issuance of preferred stock could decrease the amount of earnings and assets allocable to or available for distribution to holders of common stock and adversely affect the rights and powers, including voting rights, of the common stock. As of December 31, 2008, there were no shares of preferred stock issued or outstanding.
3. Fiscal Year 2007 Stockholders’ Equity Transactions (See NOTE H for stock-based compensation equity transaction disclosure)
Restricted stock, stock options and warrants issued to non-employees are recorded at their fair value as determined in accordance with SFAS No. 123, “Share-Based Payment” and Emerging Issues Task Force (“EITF”) No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring or in Conjunction With Selling Goods or Services”, and recognized over the related service period.
4. Warrant Re-pricing
On September 30, 2008, the Company had automatically re-priced the warrants granted to the placement agent issued in 2005 as a result of the fourth closing of the 8% Convertible Note financing that occurred on September 4, 2008 as follows:
# Warrants | New Price | ||||
Agent Warrants | 192,502 | $ | 0.91 | ||
Agent Warrants | 720,815 | $ | 0.57 |
The above re-pricing was a result of anti-dilution provisions in the 2005 investor and agent warrants. The revised exercise price was out-of-the money on the measurement date because the closing stock price on September 30, 2008 was $0.18.
On September 30, 2008, the Company reclassified a loss for 2008 of $2,844 to additional paid in capital on the September re-pricing of the placement agent warrant valuation. The loss was a result of using a Black Scholes pricing model to determine the fair value. There was no statement of operations effect for the re-pricing of the warrants because they were priced “out-of-the-money” and as such would not contain a beneficial conversion feature to record. The reclassification remained in stockholders’ equity.
On February 15, 2008, the Company automatically re-priced the warrants granted to the placement agent issued in 2005 as a result of the third closing of the 8% Convertible Note financing that occurred on February 15, 2008 as follows:
# Warrants | New Price | ||||
Investor Warrants- (Expired as of March 31, 2008) | 2,382,125 | $ | 1.67 | ||
Investor Warrants- (Expired as of March 31, 2008) | 3,507,200 | $ | 0.67 | ||
Agent Warrants | 192,502 | $ | 1.07 | ||
Agent Warrants | 720,815 | $ | 0.67 |
F-16
The above re-pricing was a result of anti-dilution provisions in the 2005 investor and agent warrants. The revised exercise price was out-of-the money on the measurement date because the closing stock price on March 31, 2008 was $0.18. There have been no other adjustments to the warrants’ original terms as discussed above. Subsequent to the February 15, 2008 re-pricing, as of March 31, 2008, all the 2005 investor warrants expired. These warrants were issued to the investors based upon arms-length negotiations and accounted for as part of the equity transaction related to the private placements in 2005 as discussed above.
On March 31, 2008, the Company reclassified a gain of $2,043,315 to additional paid in capital on the February 15, 2008 re-pricing of the warrant valuation. The gain was a result of using a Black Scholes pricing model to determine the fair value. There is no income statement effect for the re-pricing of the warrants because they were priced “out-of-the-money” and as such would not contain a beneficial conversion feature to record. The reclassification remained in stockholders’ equity.
5. Warrants
The following table summarizes information about our warrants: |
Warrants Summary | Weighted Average Exercise Price | ||||||||
December 31, 2007 | 14,824,173 | $ | 0.73 | ||||||
Granted | 12,691,317 | (a ) (c) (d) (e) | $ | 0.33 | |||||
Exercised | - | - | |||||||
Cancelled or Forfeited | (6,802,642 | ) | (b) (c) (d) | $ | 1.12 | ||||
December 31, 2008 | 20,712,848 | $ | 0.32 |
(a) | As of March 31, 2008, the Company issued 5,494,000 investor warrants in relation to the 8% Convertible Note offering. The fair value of the warrants issued was estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 4.31%, the contractual life of 5 years and volatility of 138%. In accordance with EITF No. 00-19, the estimated fair value of the warrants, in the amount of $849,708, was recorded as a liability, with an offsetting charge to additional paid-in capital. | |
(b) | As of March 31, 2008, the 2005 Investor warrants totaling 5,889,325 expired according to the terms of the warrants. | |
(c) | As of June 30, 2008, 1,650,000 warrants were issued to a consultant for services to be performed in 2008. The warrant valuation for these warrants was estimated using the Black-Scholes option pricing model. The estimated fair value of the warrants was $255,191 which was expensed in 2008. | |
(d) | As of September 30, 2008, the Company issued 2,292,000 investor warrants in relation to the 8% Convertible Note offering. The fair value of the warrants issued was estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 4.14%, the contractual life of 5 years and volatility of 149%. In accordance with EITF No. 00-19, the estimated fair value of the warrants, in the amount of $366,276, was recorded as a liability, with an offsetting charge to additional paid-in capital. | |
(e) | As of September 30, 2008, the Company issued 2,342,000 placement agent warrants in relation to the 8% Convertible Note offering. The fair value of the warrants issued was estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 4.14%, the contractual life of 5 years and volatility of 149%. In accordance with EITF No. 00-19, the estimated fair value of the warrants, in the amount of $374,266, was recorded as a liability, with an offsetting charge to additional paid-in capital. | |
(f) | As of September 30, 2008, the Company had re-priced 913,317 placement agent warrants, relating to the 2005 private placement, to purchase 192,502 shares to a new exercise price of $0.91. The revised exercise price was out-of-the money on the measurement date because the closing stock price on September 30, 2008 was $0.18. | |
F-17
On August 28, 2008, the Board of Directors of Advance Nanotech, Inc. adopted the Advance Nanotech, Inc. 2008 Equity Incentive Plan (the "2008 Plan"). The aggregate number of shares of Common Stock that may be issued under the Plan shall be the sum of i) 10% of the fully diluted shares of the Company (the "2008 Equity Plan Shares"), subject to adjustment as set forth in the 2008 Equity Incentive Plan, ii) securities under the Old Plan as necessary, and iii) the shares and options as defined in the Exchange Agreement for the issuance of the a) AVNA Exchange Shares, b) the AVNA Restricted Stock shares, c) the AVNA Options, and such shares are hereby reserved for issuance out of the authorized but previously unissued Shares. Employees, service providers and non-employee directors of the Company and its affiliates are eligible to receive stock options, restricted stock, performance awards and other stock- or performance-based awards. Incentive stock options may be granted only to employees. The Plan will continue until the earlier of the termination of the Plan by the board of directors or ten years after the effective date.
The 2008 Plan will be administered by a committee of the Board of Directors of the Company. The 2008 Plan is currently being administered by the Company's compensation committee which is comprised of three directors who are "independent directors" within the meaning of the NASDAQ listing requirements. The compensation committee may determine the specific terms and conditions of all Awards (as defined in the 2008 Plan) granted under the 2008 Plan, including, without limitation, the number of shares subject to each Award, the price to be paid for the shares and the vesting criteria, if any. The compensation committee has discretion to make all determinations necessary or advisable for the administration of the 2008 Plan.
The foregoing description of the 2008 Plan is qualified in its entirety by the terms and provisions of the 2008 Plan that was executed, a copy of which is incorporated by reference to Exhibit 10.1 to Form 8-K filed on September 4, 2008. The Board of Directors also adopted a form of stock option agreements under the 2008 Plan, a form of which is incorporated by reference to Exhibit 10.2 to Form 8-K filed on September 4, 2008.
Shares Granted to Employees
During 2007, the Company granted 2,224,224 shares of common stock to various employees and non-employee consultants and directors pursuant to the 2005 Plan and certain contractual employment agreements. The grants vested immediately upon grant. The Company estimated that the fair market value of these stock grants was approximately $1,035,070.
As of December 31, 2008, there were 26,613,793 shares that had not been issued under the 2008 Equity Incentive Plan.
The Company accounts for employee stock option grants in accordance with SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123(R)”). SFAS 123(R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS 123(R) requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost will be recognized over the period during which an employee is required to provide service in exchange for the award - the requisite service period (usually the vesting period). No compensation cost is recognized for equity instruments for which employees do not render the requisite service.
F-18
In December 2004, the FASB issued SFAS No. 123(R)”). This statement revises SFAS No. 123, “Accounting for Stock-Based Compensation,” which provided alternative methods of disclosure for stock-based employee compensation. It also supersedes APB Opinion No. 25 “Accounting for Stock Issued to Employees” (“APB 25”) and its related implementation guidance. SFAS 123(R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS 123(R) requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award (with limited exceptions). That cost will be recognized over the period during which an employee is required to provide service in exchange for the award - the requisite service period (usually the vesting period). No compensation cost is recognized for equity instruments for which employees do not render the requisite service. SFAS 123(R) eliminates the alternative to use APB 25’s intrinsic value method of accounting that was provided in SFAS 123 as originally issued. Under APB 25, issuing stock options to employees generally resulted in recognition of no compensation cost. The effective date for SFAS 123(R) for public entities that file as smaller reporting companies began on January 1, 2006. Compensation cost is recognized on or after the required effective date for the portion of outstanding awards for which the requisite service has not yet been rendered, based on the grant-date fair value of those awards calculated under SFAS 123(R) for either recognition or pro forma disclosures. The Company accounts for stock options in accordance with SFAS 123 and has also elected to adopt the disclosure only provisions of SFAS No. 148, “Accounting for Stock Based Compensation-Transition and Disclosure.”
Number of Options | Weighted Average Exercise Price | |||||||
Balance, December 31, 2007 | 1,352,027 | 2.29 | ||||||
Granted | 11,367,266 | 0.25 | ||||||
Exercised | - | - | ||||||
Cancelled or forfeited | (1,096,448 | ) | 1.47 | |||||
Balance, December 31, 2008 | 11,622,845 | 0.39 |
Range of Exercise Prices | Number Outstanding as of December 31, 2008 | Average Remaining Contractual Life | Weighted Average Exercise Price | Compensation Cost Recorded as of December 31, 2008 | Compensation Cost Yet to be Recorded | |||||||||||
$0.25 | 11,340,343 | 8.74 | $ | 0.25 | $ | 241,500 | $ | - | ||||||||
$2.03-$3.50 | 280,000 | 1.17 | 2.24 | 2,029,895 | - | |||||||||||
$20.00-80.00 | 488 | 1.13 | 70.26 | - | - | |||||||||||
$100.00-200.00 | 663 | 0.58 | 160.34 | - | - | |||||||||||
$700.00 | 1,351 | 0.68 | 700.00 | - | - |
F-19
NOTE I- FAIR VALUE ACCOUNTING
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 FAS 157, assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
Total | Level 1 | Level 2 | Level 3 | |||||||||||||
Assets | ||||||||||||||||
Cash equivalents | $ | - | $ | - | $ | - | $ | - | ||||||||
$ | - | $ | - | $ | - | $ | - | |||||||||
Liabilities | ||||||||||||||||
Detachable warrants | $ | 1,150,224 | $ | - | $ | - | $ | 1,150,224 | ||||||||
$ | 1,150,224 | - | - | $ | 1,150,224 |
The Company had no financial assets that were classified within the fair value hierarchy as of the period ending December 31, 2008.
The Company's detachable warrants were valued using pricing models, and the Company generally uses similar models to value similar instruments. Where possible, the Company verifies the values produced by its pricing models to market prices. Valuation models require a variety of inputs, including contractual terms, market prices, yield curves, credit spreads, measures of volatility, and correlations of such inputs. These financial liabilities do not trade in liquid markets, and as such, model inputs cannot generally be verified and do involve significant management judgment. Such instruments are typically classified within Level 3 of the fair value hierarchy.
The table below sets forth a summary of changes in the fair value of the Company's Level 3 financial liabilities (detachable warrants) for the three months ended December 31, 2008.
Balance at beginning of period, September 30, 2008 | $ | 2,795,762 | ||
Change in fair value of warrants | (1,645,537 | ) | ||
Fair value of warrants issued or accrued during the period | - | |||
Balance at end of period, December 31, 2008 | $ | 1,150,225 |
The total amount of the changes in fair value for the twelve month period was a non-cash gain of $2,897,452 and was included in net loss as a result of changes in the Company's stock price in 2008.
F-20
1. Leases
As of December 31, 2008, the Company had the following lease commitments:
Operating | Capital | |||||||
Year ending December 31, | Leases | Leases | ||||||
2008 | 61,477 | 3,752 | ||||||
2009 | 245,908 | 9,361 | ||||||
2010 | 188,655 | 5,460 | ||||||
2011 | 24,806 | - | ||||||
Thereafter | - | - | ||||||
Amounts representing interest | - | (1,257 | ) | |||||
Total principal payments | $ | 520,846 | $ | 17,316 |
The Company previously leased 3,569 square feet of general office space for its principal executive offices at 600 Lexington Avenue, 29th Floor, New York, New York 10022 for base rent of approximately $15,706 per month. These facilities were the center for all of our administrative functions in the United States. On September 30, 2008, the Company assigned the entire lease for the premises located at 600 Lexington Avenue to Meredith Financial Group (“MFG”). MFG is an affiliate of a director of the Company, Lee Cole. Under the terms of the assignment, MFG assumes all cost of the lease with the Landlord and in the event of default by MFG, the Company may be held liable by the Landlord for the remaining term of the lease which expires on September 13, 2010.
Effective June 23, 2008, the Company’s indirectly owned subsidiary, Owlstone Ltd., entered into a five-year lease agreement for Unit 127/136 Cambridge Science Park, Milton Road, Cambridge (UK). The unit has approximately 10,037 square feet which is sufficient for all of the operations of the subsidiary. The monthly rent is approximately $28,716 (GPB £15,800), payable quarterly in advance beginning December 24, 2008.
The Company’s indirectly owned subsidiary Owlstone Nanotech, Ltd. has terminated three leased offices in Cambridge (UK) in 2008. The Cambridge (UK) offices were located at St. John’s Innovation Centre, Cowley Road, Cambridge, CB4 0WS. All three leases were on a month-to-month basis and the subsidiary terminated with a 30-day notification.
The Company has a defined contribution 401(k) Plan whereby the Company can make discretionary matches to employee contributions. The Company has not made any contributions to the 401(k) Plan as of December 31, 2008.
NOTE K -INCOME TAXES
Income taxes are recorded in accordance with SFAS No. 109, “Accounting for Income Taxes.” This statement requires the recognition of deferred tax assets and liabilities to reflect the future tax consequences of events that have been recognized in the financial statements or tax returns. Measurement of the deferred items is based on enacted tax laws. In the event the future consequences of differences between financial reporting bases and tax bases of the Company’s assets and liabilities result in a deferred tax assets, SFAS No. 109 requires an evaluation of the probability of being able to realize the future benefits indicated by such assets. A valuation allowance related to a deferred tax asset is recorded when it is more likely than not that some portion or the entire deferred tax asset will not be realized.
The Company is subject to the income tax laws in the United States of America and the United Kingdom. As of December 31, 2008 and 2007, the Company had net operating loss carry forwards for income tax reporting purposes of approximately $31,922,000 and $28,384,000, respectively that may be offset against future taxable income through 2027. Current tax laws such as IRC §382 limit the amount of loss available to be offset against future taxable income when a substantial change in ownership occurs. Therefore, the amount available to offset future taxable income may be limited. No tax benefit has been reported in the consolidated financial statements because the Company believes there is no assurance the carry forwards will be used. Potential tax benefits of the loss carry forwards are offset by valuation allowance of the same amount.
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Income tax expense has not been recognized for the years ended December 31, 2008 and 2007 and no taxes were payable at December 31, 2008 or 2007, because the Company has incurred losses since its inception. Owlstone Ltd., the Company’s subsidiary, is subject to federal and provincial taxes in the United Kingdom and Advance Nanotech are subject to United States federal taxes.
The components of the Company’s net operating losses for the years ended December 31, 2008 and 2007 were:
2008 | 2007 | |||||||
United States of America | $ | (1,002,000 | ) | $ | (2,542,000 | ) | ||
United Kingdom | (1,016,000) | (2,923,000 | ) | |||||
$ | (2,018,000 | ) | $ | (5,465,000 | ) | |||
As of December 31, 2008 and 2007 the Company had the following deferred tax assets that primarily relate to net operating losses. A 100% valuation allowance has been established, as management believes it is more likely than not that the deferred tax assets will not be realized.
2008 | 2007 | |||||||
Federal loss carryforwards (@ 34%) | $ | 6,855,000 | $ | 5,998,000 | ||||
State loss carryforwards (@ 8.5%) | 1,711,000 | 1,500,000 | ||||||
Foreign loss carryforwards (@ 25%) | 2,940,000 | 2,686,000 | ||||||
11,506,000 | 10,184,000 | |||||||
Less: valuation allowance | (11,506,000 | ) | (10,184,000 | ) | ||||
$ | - | $ | - | |||||
The Company’s valuation allowance increased during 2008 and 2007 by $1,322,000 and $1,811,000, respectively.
The Company had the following net operating loss carryforwards (“NOL’s”) at December 31:
2008 | 2007 | |||||||
United States of America | $ | 20,162,000 | $ | 17,640,000 | ||||
United Kingdom | 11,760,000 | 10,744,000 | ||||||
$ | 31,922,000 | $ | 28,384,000 | |||||
F-22
NOTE L - RELATED PARTY TRANSACTIONS
The Company previously leased 3,569 square feet of general office space for its principal executive offices at 600 Lexington Avenue, 29th Floor, New York, New York 10022 for base rent of approximately $15,706 per month. These facilities were the center for all of our administrative functions in the United States. The lease was due to expire on September 13, 2010. On September 30, 2008, the Company assigned the entire lease for the premises located at 600 Lexington Avenue to Meredith Financial Group (“MFG”). MFG is an affiliate of a director of the Company, Lee Cole. Under the terms of the assignment, MFG assumes all cost of the lease with the Landlord.
NOTE M - CONVERTIBLE NOTES PAYABLE
In connection with the private placement, we received gross proceeds of an aggregate of $6,700,000. However, because we did not have a sufficient number of authorized shares of our common stock to allow for conversion of the notes and exercise of the warrants, representing the total amount of proceeds received, we issued notes and warrants in December 2007 for only that portion of the total proceeds that was allowed given our current capital structure. As a result, we issued notes with a principal face amount of $3,953,000 and warrants convertible into 7,906,000 shares of our common stock. The remainder of the proceeds received during the private placement was held in escrow as of December 31, 2007 pursuant to the terms of an escrow agreement, pending amendment of our certificate of incorporation to increase the number of our authorized shares of common stock from 75,000,000 to 200,000,000. This charter amendment was approved by our stockholders in February 2008. Upon obtaining approval of the charter amendment by the stockholders on February 15, 2008, the Company issued notes with a principal face amount of $2,747,000 and warrants convertible into 5,494,000 shares of common stock.
Pursuant to the terms of the registration rights agreement entered into in connection with the December 2007 8% Convertible Note offering, the Company was required to pay a penalty if it failed to file with the SEC a registration statement under the Securities Act of 1933, as amended, covering the common stock underlying the notes purchased and the common stock underlying the issued warrants. The fair value of the 7,906,000 warrants issued in connection with the December 2007 offering was estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of 4.46%, the contractual life of 5 years and volatility of 138%. In accordance with EITF No. 00-19, "Accounting for Derivative Financial Instruments Indexed to and Potentially Settled in a Company’s Own Stock, ” the estimated fair value of the warrants, in the amount of $2,184,266, was recorded as a liability, with an offsetting charge to additional paid-in capital.
The fair value of the 5,494,000 warrants issued upon obtaining approval of the charter amendment in connection with the December 2007 offering was also estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of $4.31%, the contractual life of 5 years and volatility of 138%. In accordance with EITF No. 00-19, the estimated fair value of the 5,494,000 investor warrants, in the amount of $849,708, was recorded as a liability, with an offsetting charge to additional paid-in capital.
As of September 30, 2008, the fair value of the warrant liability was re-valued according to EITF No. 00-19 as of the end of the current period. The Company recorded a gain for the nine-month period ended September 30, 2008 of $400,343 which was recorded as non-operating income in the Company's consolidated statement of operations.
On July 24, 2008, the Company was notified by the Securities Exchange Commission that the Form S-1 Registration (No. 333-148780) statement, filed on January 22, 2008, was declared effective. As of September 30, 2008, in accordance with the registration rights agreement for the shares registered in the Form S-1 registration, the Company issued late registration costs in the amount of $88,219.
F-23
On September 4, 2008, the Company entered into additional subscription agreements with selected institutional and accredited investors regarding the private placement of $1,146,000 principal amount of 8% Senior Secured Convertible Notes, increasing the total amount of notes issued to $7,846,000. Each investor who subscribed to the notes received 50% warrant coverage at $0.30 per share as common stock warrants. The Company issued investor warrants of 2,292,000 in relation to this issuance of notes. The private placement was made pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933 because the transaction complied with the requirements of Rule 506 of Regulation D promulgated under the Securities Act of 1933. Axiom Capital Management Inc. ("Axiom") acted as placement agent in connection with the private placement.
The notes mature in September 2011 and are convertible into shares of the Company's common stock, par value $0.001 par value per share, at a price of $0.25 per share. The notes constitute senior indebtedness of the Company and provide that no other indebtedness of the Company (excluding an additional $3,000,000 in debt, certain credit facility lines and trade payables incurred in the ordinary course of business) shall be incurred without the consent of the note holders. The warrants are exercisable into shares of common stock until September 2013 at a price of $0.30 per share. The notes and the warrants each have anti-dilution provisions that provide for conversion or exercise price adjustments under certain circumstances.
The obligations outstanding under the notes are secured by all of the Company's intellectual property, books and records and proceeds of the sale of its intellectual property owned directly by the Company, as well as all of its equity interests in its subsidiaries pursuant to that certain Security Agreement, dated December 19, 2007, between the Company and Axiom and the Collateral Agent Agreement, dated December 19, 2007, among the Company, Axiom and each of the investors named therein, copies of which were filed as Exhibits 10.16 and 10.17 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2007 and are incorporated herein by reference.
The subscription agreements require the Company to register the shares of common stock to be issued upon conversion of the Notes sold to the investors pursuant to the Subscription Agreements and exercise of the warrants and to use its commercially reasonable efforts to maintain the effectiveness of such registration until the earlier of (a) the date that all of such Common Stock has been sold by the Investors, or (b) the date that the Common Stock may be sold without volume restrictions under Rule 144.
The foregoing descriptions of the subscription agreement, notes and warrants are qualified in their entirety by the executed documents, forms of which are incorporated by reference to Exhibits 10.1, 10.2 and 10.3, respectively, to the Form 8-K filed on September 10, 2008.
As of September 30, 2008, in connection with the closings of the sale of convertible notes totaling $7,846,000, the Company paid cash fees to certain placement agents in the aggregate of approximately $600,000, and the Company issued placement agents warrants to purchase, in aggregate, 2,342,000 shares of common stock at $0.30 per share. The warrants are exercisable into shares of our common stock for a period of five years from the date they are issued at a price of $0.30 per share.
The fair value of the 2,292,000 investor warrants issued on September 4, 2008 and the 2,342,000 placement agent warrants issued in connection with the sale of the total $7,846,000 convertible note offering was also estimated using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of $4.14%, the contractual life of 5 years and volatility of 149%. In accordance with EITF No. 00-19, the estimated fair value of the 2,292,000 investor warrants and the 2,342,000 placement agent warrants, in the amount of $740,542, was recorded as a liability, with an offsetting charge to additional paid-in capital.
As of December 31, 2008, the fair value warrant liability for the investor warrants and the placement agent warrants issued in connection with the sale of the total $7,846,000 convertible note offering was revalued using the Black-Scholes option pricing model with the following assumptions: no dividend yield, risk-free interest rate of $2.69%, the contractual life of 4.25-5 years and volatility of 196%. In accordance with EITF No. 00-19, the estimated fair value of the investor warrants and the placement agent warrants, in the amount of $1,150,224, was recorded as a liability, with an offsetting charge to additional paid-in capital. The Company recognized a non-cash gain of $2,897,452 for this revaluation for the twelve month period ending December 31, 2008, which correlates to the decline in the Company’s share price of its common stock.
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NOTE N - FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair Value Measurements
On January 1, 2008, the Company adopted SFAS No. 157 (SFAS 157), Fair Value Measurements. SFAS 157 relates to financial assets and financial liabilities. In February 2008, the FASB issued FASB Staff Position (FSP) No. FAS 157-2, Effective Date of FASB Statement No. 157, which delayed the effective date of SFAS 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on at least an annual basis, until January 1, 2009 for calendar year-end entities.
SFAS 157 defines fair value, establishes a framework for measuring fair value in accounting principles generally accepted in the United States of America (GAAP), and expands disclosures about fair value measurements. The provisions of this standard apply to other accounting pronouncements that require or permit fair value measurements and are to be applied prospectively with limited exceptions.
SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. This standard is now the single source in GAAP for the definition of fair value, except for the fair value of leased property as defined in SFAS 13. SFAS 157 establishes a fair value hierarchy that distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity’s own assumptions, about market participant assumptions, that are developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy under SFAS 157 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 - Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly, including quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates); and inputs that are derived principally from or corroborated by observable market data by correlation or other means. |
• | Level 3 - Inputs that are both significant to the fair value measurement and unobservable. These inputs rely on management's own assumptions about the assumptions that market participants would use in pricing the asset or liability. (The unobservable inputs are developed based on the best information available in the circumstances and may include the Company's own data.) |
The following table presents the Company's fair value hierarchy for those financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2008 and 2007:
December 31, 2008 | December 31, 2007 | |||||||||||||||||||
Level | Fair Value | Carrying Amount | Fair Value | Carrying Amount | ||||||||||||||||
Financial Assets | ||||||||||||||||||||
Cash and cash equivalents | 2 | $ | 66,810 | $ | 66,810 | $ | 1,867,626 | $ | 1,867,626 | |||||||||||
Restricted cash | 2 | - | - | 77,557 | 77,557 | |||||||||||||||
Prepaid expenses and other | 3 | 201,524 | 201,524 | 148,641 | 148,641 | |||||||||||||||
Accounts receivable | 2 | 511,213 | 511,213 | 1,325,080 | 1,325,080 | |||||||||||||||
VAT receivable | 2 | 23,476 | 23,476 | 40,352 | 40,352 | |||||||||||||||
Financial Liabilities | ||||||||||||||||||||
Accounts payable | 2 | 1,107,614 | 1,107,614 | 693,168 | 693,168 | |||||||||||||||
Accrued expenses | 3 | 1,120,248 | 1,120,248 | 987,840 | 987,840 |
Fair Value Option
On January 1, 2008, the Company adopted SFAS No. 159 (SFAS 159), The Fair Value Option for Financial Assets and Financial Liabilities. SFAS 159 provides a fair value option election that allows entities to irrevocably elect fair value as the initial and subsequent measurement attribute for certain financial assets and liabilities. Changes in fair value are recognized in earnings as they occur for those assets and liabilities for which the election is made. The election is made on an instrument by instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of accounting for that instrument. The adoption of SFAS 159 did not have a material impact on the Company’s financial statements as the Company did not elect the fair value option for any of its financial assets or liabilities.
F-25
NOTE O – DISCONTINUED OPERATIONS
On November 14, 2008, the Company ceased operations of its U.K. subsidiaries as follows: Advance Display Technologies plc, Advance Nanotech Limited, Nano Solutions Limited, Nanofed Limited, Bio Nano Sensium Limited, Cambridge Nanotechnology Limited and Advance Homeland Security plc “the Discontinued Group”. Accordingly, the results of operations of these entities are reported as loss from discontinued operations in the consolidated statement of income.
The Company does not expect to derive any revenues from the Discontinued Group in the future and does not expect to incur any significant ongoing operating expenses.
Results for discontinued operations were as follows:
Loss from Discontinued Operations | ||||||||||||||||||||
�� | ||||||||||||||||||||
2008 | 2007 | 2006 | 2005 | 2004 | ||||||||||||||||
Advance Display Technologies plc gain (loss) | (1,576,022 | ) | (379,879 | ) | (3,652,621 | ) | (2,502,451 | ) | (89,729 | ) | ||||||||||
Advance Nanotech Limited gain (loss) | (13,683 | ) | (65,186 | ) | (210,852 | ) | (93,969 | ) | (246,563 | ) | ||||||||||
Bio Nano-Sensium Limited gain (loss) | 7,411 | (5,995 | ) | (12,180 | ) | (1,567,874 | ) | 0 | ||||||||||||
Nano Solutions Limited gain (loss) | (3,411 | ) | 543,413 | (1,764,968 | ) | (1,471,209 | ) | (396,512 | ) | |||||||||||
Loss from discontinued operations | (1,585,705 | ) | (92,352 | ) | (5,640,621 | ) | (5,635,503 | ) | (732,804 | ) |
Assets and Liabilities of discontinued operations were comprised of the following at December 31, 2008 and December 31, 2007:
2008 | 2007 | |||||||
Property Plant and Equipment | - | - | ||||||
Deferred Financing Costs, current portion | - | 779,149 | ||||||
Deferred Financing Costs, long term portion | - | 801,620 | ||||||
Intangibles | - | 119,868 | ||||||
- | 1,700,637 | |||||||
Accounts payable | 84,845 | 598,714 | ||||||
Accrued expenses and other | 241,772 | 381,698 | ||||||
Loans payable – other liabilities | - | 334,001 | ||||||
326,617 | 1,314,413 | |||||||
In connection with management’s strategic decision to discontinue the operations of its non-revenue subsidiaries, the Company wrote off and expensed the remaining financing costs related to capital raised through its ADT plc subsidiary and took an impairment write-off of the intangible assets primarily related to patents that were no longer to be maintained.
NOTE P - - SUBSEQUENT EVENTS
None
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