SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
X Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended September 30,
1998 or
____ Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period
from___________to______________
Commission file number: 0-21013
XYBERNAUT CORPORATION
(Exact Name of registrant as specified in its charter)
Delaware 54-1799851
(State or other jurisdiction of
incorporation) (I.R.S. Employer Identification No.)
12701 Fair Lakes Circle, Fairfax, VA 22033
(Address of principal executive offices with zip code)
Registrant's telephone number, including area code: (703) 631-6925
N/A
(Former name, former address and former fiscal year, if changed since last
report)
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
-- --
APPLICABLE ONLY TO ISSUERS INVOLVED IN
BANKRUPTCY PROCEEDINGS DURING
THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
YES NO
-- --
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest date.
Class Outstanding at November 11, 1998
Common stock - $0.01 par value 20,752,729
INDEX
PAGE
----
COVER PAGE 1
INDEX......................................................................2
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Consolidated Balance Sheets.............................3
Consolidated Statements of Operations..................4
Consolidated Statements of Cash Flows...................5
Notes to Consolidated Financial Statements.............6
Item 2 - Management's Discussion and Analysis of
Results of Operations and Financial Conditions..........8
PART II - OTHER INFORMATION
Item 6 - Exhibits and Reports on Form 8-K........................19
SIGNATURES................................................................20
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XYBERNAUT CORPORATION
CONSOLIDATED BALANCE SHEETS
ASSETS September 30, 1998 December 31,
(unaudited) 1997
--------------------- ----------------------
Current assets:
Cash and cash equivalents $ 814,266 $ 952,366
Accounts receivable, net 256,729 216,767
Inventories, net 741,469 1,607,781
Prepaid and other current assets 697,152 334,245
--------------------- ----------------------
Total current assets 2,509,616 3,111,159
--------------------- ----------------------
Fixed assets:
Property and equipment, net 444,482 505,695
--------------------- ----------------------
Other assets:
Patent costs, net 490,667 384,422
Tooling costs, net 192,248 376,990
Other 190,484 153,351
--------------------- ----------------------
Total other assets 873,399 914,763
--------------------- ----------------------
Total assets $ 3,827,497 $ 4,531,617
===================== ======================
LIABILITIES AND
STOCKHOLDERS' EQUITY
Current liabilities:
Notes and loans payable $ - 19,530
Accounts payable 201,025 429,780
Accrued expenses 931,499 908,372
Deferred revenue 12,833 -
--------------------- ----------------------
Total current liabilities 1,145,357 1,357,682
--------------------- ----------------------
Total liabilities 1,145,357 1,357,682
--------------------- ----------------------
Commitments and contingencies
Stockholders' equity:
Preferred Stock, $.01 par value, 6,000,000 shares authorized; 3,000 shares
designated as Series A, 2,250 shares issued and outstanding as of December
31, 1997; 4,180 and 3,180 shares designated as Series B, 3,180 shares
issued and outstanding as of December 31, 1997; 375 shares designated as
Series C, 281.25 shares issued and outstanding as of September 30, 1998 273,566 4,193,355
Common stock, $.01 par value, 40,000,000 shares authorized;
20,208,506 and 14,360,515 issued and outstanding as of
September 30, 1998 and December 31, 1997, respectively 202,085 143,605
Additional paid-in capital 27,732,111 17,181,329
- (91,511)
Deferred compensation
(25,525,622) (18,252,843)
Accumulated deficit
--------------------- ----------------------
Total stockholders' equity 2,682,140 3,173,935
--------------------- ----------------------
Total liabilities and stockholders' equity $ 3,827,497 $ 4,531,617
===================== ======================
-3-
XYBERNAUT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended September 30, Nine Months Ended September 30,
----------------------------------------- ----------------------------------------
1998 1997 1998 1997
------------------ ------------------ ----------------- ------------------
Revenue:
Product sales and leases $ 259,043 $ 129,365 $ 615,904 $ 349,822
Consulting and license 227,000 1,839 257,000
------------------ ------------------ ----------------- ------------------
Total revenue 259,043 356,365 617,743 606,822
Cost of sales 794,793 169,588 1,174,269 583,157
------------------ ------------------ ----------------- ------------------
Gross profit (loss) (535,750) 186,777 (556,526) 23,665
Operating expenses:
Sales and marketing 934,513 1,010,118 2,085,660 2,529,151
General and administrative 1,181,938 933,128 2,799,817 2,639,263
Research and development 851,712 568,058 1,862,481 1,791,680
------------------ ------------------ ----------------- ------------------
Total operating expenses 2,968,163 2,511,304 6,747,958 6,960,094
------------------ ------------------ ----------------- ------------------
Operating loss (3,503,913) (2,324,527) (7,304,484) (6,936,429)
Other income, net 23,638 24,916 31,705 74,045
------------------ ------------------ ----------------- ------------------
Net loss (3,480,275) (2,299,611) (7,272,779) (6,862,384)
------------------ ------------------ ----------------- ------------------
Provision for preferred stock
dividends 5,469 37,500 5,469 37,500
Provision for accretion on
preferred stock beneficial
conversion feature - 164,634 - 164,634
------------------ ------------------ ----------------- ------------------
Net loss applicable to holders of
common stock $ (2,501,745) $ (7,278,249) $ (7,064,518)
$ (3,485,744)
================== ================== ================= ==================
Per common share (basic and
diluted):
Net loss before provision for
preferred stock dividends
accrued $ (0.18) $ (0.18) $ (0.43) $ (0.53)
Total provisions for preferred
stock dividends - (0.02) - (0.02)
------------------ ------------------ ----------------- ------------------
Net loss applicable to holders
of common stock $ (0.18) $ (0.20) $ (0.43) $ (0.55)
Weighted average number of
common shares outstanding
(basic and diluted) 19,446,119 12,758,568 16,840,480 12,758,929
================== ================== ================= ==================
-4-
XYBERNAUT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOW
(UNAUDITED)
Nine Months Ended September 30,
--------------------------------------------
1998 1997
------------------- --------------------
Cash flows from operating activities
Net loss $ (7,272,779) $ (6,862,384)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 331,866 226,223
Gain on disposal of property and equipment (5,892) -
Provision for write-down of inventory 320,000 -
Provision for bad debts (18,697) -
Non cash charges for property and equipment 233,097
Non cash charges for tooling costs 299,266 -
Non cash charges for stock and options issued for services 91,511 -
Changes in assets and liabilities:
Inventories 220,961 (851,159)
Accounts receivable (21,265) 191,475
Prepaid and other current assets (362,907) (576,960)
Other assets (37,733) -
Accounts payable and accrued expenses (162,879) 312,582
Deferred revenue 12,833 (250,000)
------------------- --------------------
Net cash used in operating activities (6,372,618) (7,810,223)
------------------- --------------------
Cash flows from investing activities:
Proceeds from:
Sale of property and equipment 28,312 -
Payments for:
Acquisition of property and equipment (103,750) (331,896)
Acquisition of patents and related costs (202,715) (215,772)
Capitalization of tooling costs (114,524) (334,338)
------------------- --------------------
Net cash used in investing activities (392,677) (882,006)
------------------- --------------------
Cash flows from financing activities:
Proceeds from:
Preferred stock offerings 1,348,496 3,000,000
Common stock offerings 5,307,048
Payments for:
Notes and loans (19,530) 4,572
Initial public offering and debenture fees - (66,531)
Other (8,819) -
Net cash provided by financing activities 6,627,195 2,938,041
------------------- --------------------
Net decrease in cash and cash equivalents (138,100) (5,754,188)
Cash and cash equivalents, beginning of period 952,366 6,274,967
Cash and cash equivalents, end of period $ 814,266 $ 520,779
=================== ====================
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 2,526 $ 8,527
Supplemental disclosure of non-cash financing activities:
Common stock issued for preferred stock dividend requirements $ 85,266 $ -
====================
Common stock issued for services rendered $ 98,438 $ -
====================
Preferred stock dividends requirements $ 5,469 $ 37,500
=================== ====================
-5-
Notes to Consolidated Financial Statements
1. Basis of Presentation
We have prepared the accompanying unaudited, consolidated financial
statements in accordance with generally accepted accounting principles for
interim financial information and instructions to Form 10-QSB and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In our opinion, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
reflected in such financial statements. Please refer to our Annual Report on
Form 10-KSB for the complete financial statements. Results of operations for the
nine months ended September 30, 1998 are not necessarily indicative of results
of operations expected for the full year. Our fiscal year ends December 31.
2. Principles of Consolidation
The consolidated financial statements include our accounts and those of
our wholly-owned subsidiary, Tech International of Virginia Inc. ("Tech
Virginia"). We have eliminated all material intercompany accounts and
transactions.
3. New Accounting Pronouncements
The Financial Accounting Standards Board has issued two new standards
that become effective for reporting periods beginning after December 15, 1997.
SFAS No. 130, "Reporting Comprehensive Income", requires additional disclosures
with respect to certain changes in assets and liabilities that previously were
not required to be reported as results of operations for the period. SFAS No.
131, "Disclosures about Segments of an Enterprise and Related Information",
requires financial and descriptive information with respect to "operating
segments" of an entity based on the way management disaggregates the entity for
making internal operating decisions. There is no impact to our financial
statements from the adoption of these pronouncements.
In addition, the Financial Accounting Standards Board has issued, SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities", which
becomes effective for years beginning after June 15, 1999. SFAS No. 133 requires
that every derivative instrument be recorded in the balance sheet as either an
asset or a liability measured at its basic value. The statement requires that
changes in the derivative's fair value be recognized in earnings unless specific
hedge criteria are met. We believe that the effect of the adoption of SFAS No.
133 by us will not be material.
-6-
4. Preferred Stock
In January 1998, we placed 1,000 shares of Series B Preferred Stock and
received cash proceeds of approximately $974,000 from this issuance. In
connection with this placement and the placement of 3,000 shares of Series B
Preferred Stock in November 1997, the placement agent received (1) 50,000 shares
of Common Stock, (2) warrants to purchase 25,000 shares of Common Stock at
$2.1313 per share, and (3) warrants to purchase 75,000 shares of Common Stock at
$3.025 per share. During the nine months ended September 30, 1998, the holders
of the Series A and Series B Preferred Stock converted 2,250 shares of Series A
Preferred Stock and 4,180 shares of Series B Preferred Stock pursuant to their
respective terms. Such conversions resulted in the issuance of 4,878,074 shares
of Common Stock. As of the current date, the holders of the Preferred Stock have
converted all of the 3,000 shares of Series A Preferred Stock and 4,180 shares
of Series B Preferred Stock we issued. Such conversions resulted in the the
issuance of 1,958,984 and 3,172,239 shares of Common Stock, respectively.
In May 1998, we placed 375 shares of Series C Preferred Stock and
received cash proceeds of $375,000 from this issuance. During the nine months
ended September 30, 1998, the holders of the Series C Preferred Stock converted
93.75 of such shares resulting in the issuance of 23,741 shares of Common Stock.
5. Commitment
We entered into a Memorandum of Understanding ("MOU") with Sony Digital
Products ("SODP") on May 14, 1998. Under that agreement, we are obligated to
reimburse SODP Yen 100 million over a ten month period commencing April 1998.
These payments are reimbursements to SODP for engineering and development of our
Mobile Assistant IV(TM). Through September 1998, we have remitted to SODP Yen 40
million under the MOU in accordance with the payment terms. We will remit the
balance of the payments and recognize the related expense as the services are
provided to us by SODP.
6. Subsequent Events
In October 1998, we entered into a financing agreement with an investor
pursuant to which, we may, at our option, sell between $2,700,000 and $5,400,000
of Common Stock to the investor during the period from October 8, 1998 to
November 15, 1998. As of November 13, 1998, we have issued 488,343 shares of
unregistered Common Stock under that financing agreement from which we received
$2,000,000 in gross proceeds. In connection with such financing agreement, we
also issued warrants to purchase up to 12,500 shares of stock at $9.58 per share
and 12,500 shares of stock at $9.09 per share. Those warrants are exercisable at
any time starting six months after the closing and ending five years after
closing. The placement agent for this transaction received a cash fee of 6%.
-7-
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION.
Overview
Our Company was incorporated as a Virginia company in October 1990 and
commenced active operations in November 1992 as Computer Products & Services,
Inc. to develop, manufacture and sell mobile computing systems. Since commencing
operations, we have incurred significant operating losses. In April 1996, we
merged with Xybernaut Corporation, a Delaware corporation, in order to change
our name and reincorporate in Delaware. In July 1996, we successfully completed
an initial public offering ("IPO") of our Common Stock and Warrants which are
traded on the NASDAQ SmallCap Market.
The first product we commercialized was the proprietary portable computer
technology and related software applications embodied in its Mobile Assistant(R)
Series. The first product in this series was introduced in 1994 and used "486"
based technology ("486 System") that was produced in a limited quantity and is
no longer being manufactured. We have based our product development on the
expectation that continued improvements in software for operating systems,
applications and speech recognition software will require continued improvements
in the performance and capabilities of the Mobile Assistant(R) Series. Based on
this expectation, we undertook a product development program that resulted in
the second product offering in the Mobile Assistant(R) Series. We introduced
this product, which uses "586" based technology ("Mobile Assistant(R) II
System"), on a preproduction basis in January 1997. During the third quarter of
1997 we introduced a third system which uses a Pentium(R) processor running at
133 MHZ ("133P System"). We tailored the 133P System for those customers who
require additional processing capacity for their applications, such as a
body-worn server for wireless LAN applications, and also for those customers
using new continuous speech recognition or phonetic recognition software that
require higher processing speeds, such as that available from IBM Corporation,
Dragon Systems, Inc., and Texas Instruments, among others. In the third quarter
of 1998, we commenced production of the next-generation MMX Pentium(R) Mobile
Assistant(R) IV ("MA IV"), which uses a Pentium chipset known as the "Tillamook"
that runs at up to 266 MHZ.
We are developing additional software products for use on the Mobile
Assistant and other personal computers. In the third quarter of 1997, we
announced the introduction of linkAssist(TM), a software product which provides
a "windows" style graphical user interface with speech navigation that allows
data stored in almost any format, such as commonly-used word processing,
spreadsheet, data base, graphics or media files, to be linked to most any
application without altering the original data. We have also announced
webAssist(TM), a software product that allows voice navigation of HTML document
links such as those found on the World Wide Web and Intranets.
We have derived our revenues from sales of the Mobile Assistant(R)
Series and from consulting services related to the Mobile Assistant(R),
application software for the Mobile Assistant(R), and other computer platforms.
During the three months ended September 30, 1998, we derived all of our
-8-
revenues from sales of the Mobile Assistant(R). For the three months ended
September 30, 1997, we derived approximately 36% of our revenues from sales of
the Mobile Assistant(R) and 64% of our revenues from consulting services and
licensing revenues. In the future, we expect to derive additional revenues from
the sale of software and additional optional components of the Mobile
Assistant(R) Series.
We recognize revenues from sales to customers, VARs and OEMs when
products are shipped. Our sales agreements generally do not involve any
significant obligations to customers subsequent to delivery except as provided
in separate service or support agreements. We will recognize revenues from
future software sales in accordance with Statement of Position No. 97-2. Cost of
sales include the cost of components for the Mobile Assistant(R) Series, direct
labor, direct materials, overhead allocations, inventory obsolescence charges,
amortization of tooling costs and shipping costs.
We intend to continue expenditures on research and development of
additional hardware and software products. Research and development activities
consist primarily of personnel engaged in the research and design of new
products, test components, consulting fees and equipment costs required to
conduct our development activities. Software development costs are expensed as
incurred until technological feasibility is established in accordance with
Statement of Financial Accounting Standards No. 86 (SFAS No. 86, Accounting for
the Costs of Computer Software to be Sold, Leased or Otherwise Marketed), after
which any additional costs are capitalized until the software is ready for
release. We started limited shipments of our linkAssist(TM) software late in the
year ended December 31, 1997, but the costs eligible for capitalization under
SFAS were immaterial during this period and were not capitalized. We expect such
costs to be immaterial during the coming fiscal year. Research and development
expenses for the three months ended September 30, 1998 and 1997 were $851,712
and $568,058, respectively, none of which was capitalized.
Our consolidated financial statements, for all periods presented,
include the results of operations of Tech Virginia, our wholly-owned subsidiary
that supplies software and consulting services to the United States government
and others. In July 1996, we exercised our option to purchase all of the capital
stock of Tech Virginia. We completed payments under this option during the year
ended December 31, 1997. The consolidated financial statements contain
eliminations for all material transactions between Tech Virginia and our company
for all periods presented.
Our consolidated financial statements do not contain a provision for
income tax expense due to the net operating losses incurred since inception.
Subject to realization, we have generated net operating losses that can be used
to offset taxable operating income in the future. Our future operations, if
profitable, will be subject to income tax expense not previously incurred. At
September 30, 1998, we had approximately $14,900,000 of net operating loss carry
forwards for federal income tax purposes that expire beginning in 2013. The use
of these carry forwards may be limited in any one year under Internal Revenue
Code Section 382 if significant ownership changes occur.
-9-
The Year 2000 Issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of our
computer programs that have date-sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
Based on a recent assessment, we determined that we will be required to
modify or replace portions of our software so that our computer systems will
properly utilize dates beyond December 31, 1999. We believe that we can mitigate
the Year 2000 Issue with modifications to existing software and conversions to
new software. However, if we fail to make such modifications and conversions, or
if we do not make them on a timely basis, the Year 2000 Issue could have a
material impact on our operations.
We have contacted all of our significant suppliers and large customers
to determine the possible effect on our operations of their inability or failure
to remediate their own Year 2000 Issue. Our estimate of the costs to remediate
our Year 2000 issue is based on presently available information. However, we
cannot guarantee that the systems of other companies on which our systems rely
will be timely converted, or that a failure to convert by another company, or a
conversion that is incompatible with our systems, would not have material
adverse effect on our operations. We have no exposure to contingencies related
to the Year 2000 Issue for the products we have sold.
We will utilize both internal and external resources to reprogram, or
replace, and test the software for Year 2000 modifications. We plan to complete
the Year 2000 project within six months and estimate the total remaining cost of
the Year 2000 project at $6,000. Approximately $1,700 of the total project cost
is attributable to the purchase of new software which will be capitalized. The
remaining $4,300, which will be expensed as incurred over the next six months,
is not expected to have a material effect on our results of operations. To date,
we have incurred and expensed approximately $1,000 related to our Year 2000
project.
Our estimates of the date of completion and cost of our Year 2000
project are based on our best estimates, which we derived utilizing numerous
assumptions of future events including the continued availability of certain
resources, third party modification plans and other factors. The costs and
completion date of our Year 2000 project could differ materially from our
estimates due to the lack of availability and cost of personnel trained in this
area, our ability to locate and correct all relevant computer codes, and similar
uncertainties.
-10-
Results of Operations
The following table sets forth items from the Consolidated Statements
of Operations as a percentage of revenues:
Three Months Ended Nine Months Ended
9/30/98 9/30/97 9/30/98 9/30/97
----------------- --------------- ---------------- ----------------
Revenues 100.0% 100.0% 100.0% 100.0%
Cost of sales 306.8% 47.6% 190.1% 96.1%
----------------- --------------- ---------------- ----------------
Gross margin (206.8)% 52.4% (90.1)% 3.9%
Operating expenses:
Sales & marketing 360.7% 283.5% 337.6% 416.8%
General & administrative 456.3% 261.8% 453.2% 434.9%
Research & development 328.8% 159.4% 301.5% 295.3%
----------------- --------------- ---------------- ----------------
Total operating expense 1,145.8% 704.7% 1,092.3% 1,147.0%
Other income 9.1% 7.0% 5.1% 12.2%
----------------- --------------- ---------------- ----------------
Net loss (1,343.5%) (645.3%) (1,177.3%) (1,130.9%)
----------------- --------------- ---------------- ----------------
Provisions for preferred stock 2.1% 56.7% 0.9% 33.3%
----------------- --------------- ---------------- ----------------
Net loss applicable to holders
of common stock (1,345.6%) (702.0%) (1,178.2%) 1,164.2%)
================= ================ ================ =================
THREE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Revenues. Total revenues for the three months ended September 30, 1998
were $259,043, a decrease of $97,322, or 27%, compared to $356,365 for the
corresponding period in 1997. Product revenues for the three months ended
September 30, 1998 were $259,043, an increase of $129,678 or 100%, compared to
$129,365 for the corresponding period in 1997. The increase in product revenues
for the three months ended September 30, 1998 was related to the higher number
of 133P Systems that were sold during that period compared to the corresponding
period in 1997. There was no consulting and license revenues for the three
months ended September 30, 1998 compared to $227,000 for the corresponding
period in 1997. In 1997 we recognized licensing revenue of $210,000. This
represented the remaining balance of deferred licensing revenue with Rockwell
International, one of our licensees. Revenue recognition resulted because
Rockwell International elected to discontinue operating under our license
agreement due to a restructuring of their business operations.
Cost of sales. The cost of goods sold for the three months ended
September 30, 1998 was $794,793, an increase of $625,205, or 369%, compared to
$169,588 for the corresponding period in 1997. The increase was due to charges
of approximately $320,000 to reduce the carrying value of the 133P Systems to
estimated market value and approximately $160,000 related to the write-off of
certain capitalized tooling costs related to the 133P Systems in 1998. These
reductions were based on our recognition that the MA IV System will supercede
the 133P System resulting in the need to recognize obsolescence associated with
the older line.
-11-
Sales and marketing. Sales and marketing expenses for the three months
ended September 30, 1998 were $934,513, a decrease of $75,605, or 7%, compared
to $1,010,118 for the corresponding period in 1997. The decrease was due to a
change in the compensation structure for sales personnel that resulted in lower
base salaries and a reduction in travel related expenses due to the
centralization of sales staff.
General and administrative. General and administrative expenses for the
three months ended September 30, 1998 were $1,181,938, an increase of $248,810,
or 27%, compared with $933,128 for the corresponding period in 1997. This
increase resulted primarily from a charge of approximately $230,000 related to
the write-off of software that had no further remaining value to us. The
remaining increase is due activities related to discussions regarding certain
strategic partnerships and international operations.
Research and development. Research and development expenses for the
three months ended September 30, 1998 were $851,712, an increase of $283,654, or
50%, compared with $568,058 for the corresponding period in 1997. This increase
is primarily the result of increased development expenses for the Mobile
Assistant(R) IV System.
Other income, net. Other income for the three months ended September
30, 1998 was $23,638, a decrease of $1,278, or 5%, compared with $24,916 for the
corresponding period in 1997.
Dividend on preferred stock, and deemed dividend accretion on preferred
stock. We issued our Series A Preferred Stock on June 30, 1997. The Series A
Preferred Stock accrued dividends at 5% per annum on the outstanding principal
amount. We issued our Series B Preferred Stock on November 11, 1997. The Series
B Preferred Stock accrued dividends at 4% per annum on the outstanding principal
amount. We issued our Series C Preferred Stock on May 15, 1998. The Series C
Preferred Stock accrues dividends at 5% per annum on the outstanding principal
amount. For the three months ended September 30, 1998, the amount of accrued
dividend was $5,469, a decrease of $32,031, or 85% for the corresponding period
in 1997. In accordance with the Emerging Issues Task Force report titled
"Accounting for the Issuance of Convertible Preferred Stock and Debt Securities
with a Nondetachable Conversion Feature," a deemed dividend was assumed for the
Series A and Series B Preferred Stock, which was accreted periodically as
portions of the Series A and Series B Preferred Stock were converted into Common
Stock. The amount of this accretion for the three months ended September 30,
1998 was $0 a decrease of $164,634 or 100%, compared to $164,634 for the
corresponding period in 1997. Additional paid in capital was reduced by the
amount of accretion and preferred stock was increased by the amount of
accretion, resulting in no impact on the overall amount of stockholder's equity.
Net loss attributable to holders of common stock. As a result of the
factors described above, the net loss attributable to Common Stock for the three
months ended September 30, 1998 was $3,485,744, an increase of $983,999, or 39%,
compared to $2,501,745 for the corresponding period in 1997. Although we were
subject to taxation during the three months ended September 30,
-12-
1998 and 1997, we incurred net losses during these periods and no provision for
income taxes was made.
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Revenues. Total revenues for the nine months ended September 30, 1998
were $617,743, an increase of $10,921, or 2%, compared to $606,822 for the
corresponding period in 1997. Product revenues for the nine months ended
September 30, 1998 were $615,904, an increase of $266,082, or 76%, compared to
$349,822 for the corresponding period in 1997. The increase in product revenues
for the nine months ended September 30, 1998 was related to the higher number of
133P Systems that were sold during that period, compared to the lower number of
486, 586 and 133P Systems that were sold in the corresponding period in 1997.
Consulting and license revenues for the nine months ended September 30, 1998
were $1,839 a decrease of $255,161 or 99%, compared to $257,000 for the
corresponding period in 1997. In 1997 we recognized licensing revenue of
$210,000. This represented the remaining balance of deferred licensing revenue
with Rockwell International, one of our licensees. Revenue recognition resulted
because Rockwell International elected to discontinue operating under our
license agreement due to a restructuring of their business operations.
Cost of sales. The cost of goods sold for the nine months ended
September 30, 1998 was $1,174,269, a increase of $591,112, or 101%, compared to
$583,157 for the corresponding period in 1997. The increase was due to charges
of approximately $320,000 to reduce the carrying value of the 133P Systems to
estimated market value and approximately $160,000 related to the write-off of
certain capitalized tooling costs related to the 133P Systems in 1998. These
reductions were based on our recognition that the MA IV System will supercede
the 133P System resulting in the need to recognize obsolescence associated with
the older line. The remaining increase was due to increased sales. These were
offset by non-recurring charges in 1997 of approximately $97,000 of parts for
586 Systems that were replaced and written off, and by a full reserve for
obsolescence of approximately $225,000 for the remaining computing units used in
486 Systems that we believed to be saleable, but whose value is uncertain given
changes in technology and advances in the market.
Sales and marketing expenses. Sales and marketing expenses for the nine
months ended September 30, 1998 were $2,085,660, a decrease of $443,491, or 18%,
compared to $2,529,151 for the corresponding period in 1997. This decrease was
due to a change in the compensation structure for sales personnel that resulted
in lower base salaries and a reduction in travel related expenses due to the
centralization of sales staff.
General and administrative expenses. General and administrative
expenses for the nine months ended September 30, 1998 were $2,799,817, an
increase of $160,554, or 6%, compared to $2,639,263 for the corresponding period
in 1997. This increase resulted primarily from a charge of approximately
$230,000 related to the write-off of software that had no further remaining
value to us. The remaining increase is due to activities related to discussions
regarding certain strategic
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partnerships and international operations. These were offset by reductions in
personnel and related occupancy expenses, along with a decrease in related
travel expenses.
Research and development expenses. Research and development expenses
for the nine months ended September 30, 1998 were $1,862,481, an increase of
$70,801, or 4%, compared to $1,791,680 for the corresponding period in 1997.
This increase is the primarily the result of increased development expenses for
the Mobile Assistant IV System.
Other income, net. Other income for the nine months ended September 30,
1998 was $31,704, a decrease of $42,341, or 57%, compared to $74,045 for the
corresponding period in 1997. This decrease is the result of reduced interest
income from the lower average cash balances in the nine months ended September
30, 1998 than for the corresponding period in 1997, which reflected the interest
income on proceeds from the Company's initial public offering that was completed
in July 1996.
Dividend on preferred stock, and deemed dividend accretion on preferred
stock. We issued our Series A Preferred Stock on June 30, 1997. The Series A
Preferred Stock accrued dividends at 5% per annum on the outstanding principal
amount. We issued our Series B Preferred Stock on November 11, 1997. The Series
B Preferred Stock accrued dividends at 4% per annum on the outstanding principal
amount. We issued our Series C Preferred Stock on May 15, 1998. The Series C
Preferred Stock accrues dividends at 5% per annum on the outstanding principal
amount. For the nine months ended September 30, 1998, the amount of accrued
dividend was $5,469, a decrease of $32,031, or 85% for the corresponding period
in 1997. In accordance with the Emerging Issues Task Force report titled
"Accounting for the Issuance of Convertible Preferred Stock and Debt Securities
with a Nondetachable Conversion Feature," a deemed dividend was assumed for the
Series A and Series B Preferred Stock, which was accreted periodically as
portions of the Series A and Series B Preferred Stock were converted into Common
Stock. The amount of this accretion for the nine months ended September 30, 1998
was $0 a decrease of $164,634 or 100%, compared to $164,634 for the
corresponding period in 1997. Additional paid in capital was reduced by the
amount of accretion and preferred stock was increased by the amount of
accretion, resulting in no impact on the overall amount of stockholder's equity.
Net loss attributable to holders of common stock. As a result of the
factors described above, the net loss for the nine months ended September 30,
1998 was $7,278,249, an increase of $213,731, or 3% compared to $7,064,518 for
the corresponding period in 1997. Although we were subject to taxation during
the nine months ended September 30, 1998 and 1997, we incurred net losses during
these periods and no provision for taxes was made.
Liquidity and Capital Resources
Since our inception until the completion of our initial public
offering, we have financed our operations from the private sale of our
securities, from vendor credit and from short-term loans received from
management, stockholders and others.
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From October 1994 to August 1995, we raised approximately $1,243,000
from the private sale of shares of Common Stock at $6.00 per share. In November
1995, we raised $1,505,000 through the private placement of convertible
debentures and in April 1996, we raised $1,000,000 through a second private
placement of convertible debentures. We received approximately $2,140,000 from
these financings net of offering costs. We carried the placement fees in respect
of these financings as interest-bearing loans that we repaid from the proceeds
of our initial public offering. We realized gross proceeds of approximately
$13,280,000 and net proceeds of approximately $10,840,000 after related
expenses.
On June 30, 1997, we completed a $3 million private placement of 3,180
shares of Series A Preferred Stock, par value $0.01 per share ("Series A
Preferred Stock"), from which we realized gross proceeds of $3,000,000 and net
proceeds of approximately $2,762,000 after related expenses. The holders of the
Series A Preferred Stock converted all of such shares resulting in the issuance
of 1,958,984 shares of Common Stock.
On November 12, 1997, we completed a $3 million private placement of
3,000 shares of Series B Preferred Stock, par value $0.01 per share ("Series B
Preferred Stock"), from which we realized gross proceeds of $3,180,000 and net
proceeds of approximately $2,950,000 after related expenses. On February 23,
1998, we completed a follow-on placement of Series B Preferred Stock and
realized gross proceeds of $1,000,000 and net proceeds of approximately $990,000
after related expenses. The holders of the Series B Preferred Stock converted
all of such shares resulting in the issuance of 3,172,239 shares of Common
Stock.
In April 1998, we entered into an equity line of credit agreement from
which we received an initial gross amount of $1,000,000 in exchange for Common
Stock. Under this line of equity, we have the right, but not the obligation, to
obtain up to an additional $10,000,000 in a series of equity drawdowns based on
terms and conditions specified in the line of credit. In connection with this
line of equity, we issued five-year warrants to purchase up to 40,000 shares of
stock at $1.76 per share and 20,000 shares of stock at $2.81 per share at any
time starting six months after closing. The placement agent for this transaction
received a cash fee of 5% and 50,000 shares of unregistered stock.
In May 1998, we completed a $750,000 private placement of 375 shares of
Series C Preferred Stock, par value $0.01 per share ("Series C Preferred Stock")
and 110,294 shares of Common Stock. The Series C Preferred Stock has a stated
value of $1,000 per share. A holder of the Series C Preferred Stock is entitled
to receive, if and when declared, a dividend equal to 5% of the stated value per
share per annum, payable in shares of Common Stock or in cash, payable upon
conversion of the Series C Preferred Stock. The Certificate of Designation of
the Series C Preferred Stock provides us with several redemption options and
allows for the periodic conversion of portions of unredeemed Series C Preferred
Stock over a two-year period ending May 15, 2000. The holders of the Series C
Preferred Stock have converted 93.75 of such shares resulting in the issuance of
23,741 shares of
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Common Stock. Any Series C Preferred Stock outstanding on May 15, 2000 must be
converted into Common Stock at that date.
In June 1998, we completed a $1,000,000 private placement in which we
issued 153,846 unregistered shares of Common Stock at a price of $6.50 per
share.
In June 1998, we amended and exercised a put option in the aggregate
principal amount of $3,000,000 under the April 1998 private equity line of
credit agreement mentioned above. In connection with such action, we issued
545,454 shares of Common Stock. Such shares are subject to restrictions on
resale for a period of nine months and to repricing upon occurrences of certain
conditions. In addition, we issued five-year warrants to purchase up to 300,000
shares of Common Stock at a price of $5.25 per share.
In September 1998, we entered into a financing arrangement with an
investor pursuant to which, we may, at our option, sell up to $31,200,000 of
Common Stock to the investor during a twelve month period. The investor may
exercise a call option for an additional $31,200,000. In order to utilize the
financing arrangement, we must have an effective registration statement covering
the shares to be issued in the financing. On October 1, 1998, we filed a
registration statement covering a portion of the shares issuable under the
financing.
In October 1998, we entered into a financing agreement with an investor
pursuant to which, we may, at our option, sell between $2,700,000 and $5,400,000
of Common Stock to the investor during the period from October 8, 1998 to
November 15, 1998. We have issued 488,343 shares of unregistered Common Stock
under this financing agreement from which we have received $1,100,000 in gross
proceeds.
We used cash of $6,372,618 in our operating activities for the nine
months ended September 30, 1998. This amount was primarily the result of a
$7,272,780 net loss, an increase in prepaid expenses of $362,907 and a decrease
in accounts payable and accrued expenses of $162,879. These were offset by
depreciation and amortization of $331,866, a non-cash charge for the write-down
of inventory of $320,000, a non-cash charge for property and equipment of
$233,097, a non-cash charge for tooling costs of $299,266, and a net decrease in
inventories of $220,961. We used cash of $392,677 in our investing activities
for the nine months ended September 30, 1998 which included $202,715 related to
patents, $114,524 in capitalized tooling costs and $103,750 for the acquisition
of property and equipment. We received proceeds of $6,627,195 from our financing
activities for the nine months ended September 30, 1998 which primarily
consisted of $5,307,048 from our issuance of Common Stock, net of related fees
and $1,348,496 from our issuance of Series B and Series C Preferred Stock, net
of related fees. As a result cash and cash equivalents on hand as of September
30, 1998 were $814,266, a decrease of $138,100 from the $952,366 of cash and
cash equivalents on hand as of December 31, 1997.
We used cash of $7,810,233 in our operating activities for the nine
months ended September 30, 1997. This amount was primarily the result of a
$6,862,384 net loss, an increase in inventories
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of $851,159 largely related to the production of the Mobile Assistant II System,
the 133P System and our head mounted display, an increase in prepaid and other
current assets of $576,960 and the reduction in deferred licensing revenue of
$250,000. These were offset by depreciation and amortization expense of
$226,223, a reduction in receivables of $191,475 and an increase of payables and
accrued expenses of $312,582. We used cash of $882,006 in our investing
activities for the nine months ended September 30, 1997. This included $331,896
for the acquisition of property and equipment, $334,338 in capitalized costs
related to the production of the Mobile Assistant II System, the 133P System and
our head mounted display, and $215,772 related to patents. We received proceeds
of $2,938,041 from our financing activities for the nine months ended September
30, 1998 from the placement of our Series A Preferred Stock. As a result cash
and cash equivalents on hand as of September 30, 1997 were $520,779, a decrease
of $5,754,188 from the $6,274,967 of cash and cash equivalents on hand as of
December 31, 1996.
At September 30, 1998, we had no material capital commitments and
working capital of $1,364,259.
We anticipate that our working capital requirements and operating
expenses will increase as we expand production and sales of the Mobile
Assistant(R), and expand our full sales, service and marketing functions, and
develop the support structure for these activities. The timing of increases in
personnel and other expenses, the amount of working capital consumed by
operations, marketing and rollout expenses for the MA IV, and competitive
pressures on gross margins will impact the magnitude and timing of the our cash
requirements. To meet working capital needs, we entered into a financing
arrangement with an investor. In the event such financing arrangement is
terminated, we may also exercise an existing put option to sell up to $7,000,000
of Common Stock under the April 1998 Private Equity Line of Credit Agreement. In
addition, we intend to use funds from operations, and may obtain a working
capital line of credit and/or complete additional financings, if necessary. We
believe that additional funding arrangements are readily available to us and the
execution of any such arrangement will depend on timing, market conditions and
the final terms and conditions of such arrangements. We will begin full
production of the MA IV model of the Mobile Assistant(R) beginning in the
quarter ending December 31, 1998 and expect receivables from sales of the MA IV
to provide collateral for borrowing facilities at that point. Although we can
provide no assurance that such facilities will be available, we intend to seek
to establish secured borrowing facilities at such time as appropriate collateral
is available. We believe that the combination of cash on hand, operating cash
flow, and outside funding will provide sufficient liquidity to meet our cash
requirements until at least September 1999. However, we can provide no assurance
that we can or will obtain sufficient funds from operations or from a working
capital line of credit or from closing additional financings on terms acceptable
to us.
Possible Impact on Near-Term Revenues
We have agreements with third-party suppliers to manufacture and supply
the body-worn computing unit, the HMD and the batteries for the 133P and the MA
IV. We have substantially curtailed production of the computing unit for the
133P pending the introduction of the MA IV in
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the fourth quarter. As expected, revenue growth has been modest for the first
three quarters of the year ending December 31, 1998. Significant revenue growth
is expected in the fourth quarter when MA IV suppliers commence full scale
production and those units are sold in volume. Delays, for any reason, in the
commencement of full-scale production of the MA IV units may adversely affect
revenues for the year ending December 31, 1998.
Exchange rates for some local currencies in countries where we operate
may fluctuate in relation to the U.S. dollar. Such fluctuations may have an
adverse effect on our earnings when local currencies are translated into U.S.
dollars.
Possible Non-Cash Future Charge
As a condition to our initial public offering, certain of our
stockholders, primarily officers and directors, deposited an aggregate of
1,800,000 shares of Common Stock into an escrow account (the "Escrowed Shares").
The Escrowed Shares are subject to the following terms and conditions:
o The Escrowed Shares will be released incrementally over a
three-year period only in the event our gross revenues and
earnings (loss) per share for the 12-month periods ending
September 30, 1997, 1998 and 1999 equal or exceed certain
gross revenue and earnings (loss) per share targets.
o If such per share targets are not met in any of the relevant
12-month periods and the price of the Common Stock does not
meet or exceed agreed upon price levels, certain amounts of
the Escrowed Shares will be returned to us for each period and
canceled.
o All the Escrowed Shares will be returned to the stockholders
if the closing price of the Common Stock as reported on The
Nasdaq SmallCap Market following this offering equals or
exceeds $11.00 for 25 consecutive trading days or 30 out of 35
consecutive trading days during the period ending September
30, 1999.
The difference between the initial offering price and the market value
(at the time of release) of any Escrowed Shares released will be deemed to be an
additional compensation expense. Such expense, depending on the price per share,
may have the effect of reducing or eliminating any earnings per share and could
have a negative effect on the market price for our Common Stock.
We did not meet the targets for escrow release for September 30, 1997
and September 30, 1998. As a result, 300,000 and 750,000 shares, respectively,
were canceled from the escrow pool resulting in a reduction of 2.1% and 3.6% of
our outstanding shares of Common Stock.
Since we have reported losses, our loss per share is calculated using
outstanding shares less shares held in escrow to avoid antidilution. Therefore,
the cancellation of shares from escrow does not affect the reported loss per
share.
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Certain statements in the foregoing Management's Discussion and
Analysis (the "MD&A") are not historical facts or information and certain other
statements in the MD&A are forward-looking statements within the meaning of The
Private Securities Litigation Reform Act of 1995 (the "Act"). In particular,
when used in the preceding discussion, the words "believes, expects, or intends
to" and similar conditional expressions are intended to identify forward-looking
statements within the meaning of the Act and are subject to the safe harbor
created by the Act. Such statements are subject to certain risks and
uncertainties and actual results could differ materially from those expressed in
any of the forward-looking statements. Such risks and uncertainties include, but
are not limited to, conditions in the general acceptance of our products and
technologies, competitive factors, the ability to successfully complete
additional financings and other risks described in our SEC reports and filings.
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PART II - OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
a) EXHIBITS:
27.1 Financial Data Schedule
b) REPORTS ON FORM 8-K
No reports on form 8-K were filed during the quarterly period ended
September 30, 1998.
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SIGNATURES
Pursuant to the requirements 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.
XYBERNAUT CORPORATION
/s/ Maarten R. Heybroek
-----------------------
By: Maarten R. Heybroek
Chief Operating Officer and
Chief Financial Officer
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