SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the
Securities Exchange Act of 1934
Amendment No. 3
Filed by the Registrant /X/
Filed by a Party other than the Registrant / /
Check the appropriate box:
/X/ Preliminary Proxy Statement
/ / Confidential, for Use of the Commission Only
(as permitted by Rule 14a-6(e)(2))
/ / Definitive Proxy Statement
/ / Definitive Additional Materials
/ / Soliciting Material Under Rule 14a-12
DIGITAL DESCRIPTOR SYSTEMS, INC.
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(Name of Registrant as Specified in Its Charter)
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(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
/X/ No fee required
/ / Fee computed on table below per Exchange Act Rules 14a-6(i)(1) and 0-11.
1) Title of each class of securities to which transaction applies:
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2) Aggregate number of securities to which transaction applies:
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3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (set forth the amount on which the
filing fee is calculated and state how it was determined):
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4) Proposed maximum aggregate value of transaction:
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5) Total fee paid:
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/ / Fee paid previously with preliminary materials.
/ / Check box if any part of the fee is offset as provided by Exchange Act Rule
0-11(a)(2) and identify the filing for which the offsetting fee was
paid previously. Identify the previous filing by registration statement
number, or the form or schedule and the date of its filing.
1) Amount Previously Paid:
___________________________________________________________________________
2) Form, Schedule or Registration Statement No.:
___________________________________________________________________________
3) Filing Party:
___________________________________________________________________________
4) Date Filed:
___________________________________________________________________________
DIGITAL DESCRIPTOR SYSTEMS, INC.
446 LINCOLN HIGHWAY
FAIRLESS HILLS, PA 19030
January 8, 2003
Dear Digital Descriptor Systems, Inc. Stockholder:
You are cordially invited to attend the Annual Meeting of Stockholders of
Digital Descriptor Systems, Inc., a Delaware Corporation ("DDSI") to be held on
March 11, 2003 at 10:00 a.m., local time, at DDSI Headquarters, 446 Lincoln
Highway, Fairless Hills, Pennsylvania 19030.
The matters proposed for consideration at the meeting are:
o the election of four directors;
o the increase in the number of authorized shares of our Common Stock from
150,000,000 to 750,000,000;
o to approve up to a 1 to 20 reverse stock split of all of Digital
Descriptor System Inc.'s authorized Common Stock;
o the ratification of the appointment of WithumSmith+Brown as our
independent accountants for the current fiscal year; and
o the transaction of such other business as may come before the meeting or
any adjournment thereof.
The accompanying Notice of Annual Meeting of Stockholders and Proxy Statement
discuss these matters in further detail. We urge you to review this information
carefully.
You will have an opportunity to discuss each item of business described in the
Notice of Annual Meeting of Stockholders and Proxy Statement and to ask
questions about us and our operations.
It is important that your shares be represented and voted at the Annual Meeting.
Whether you plan to attend the Annual Meeting or not, it is important that you
promptly complete, sign, date and return the enclosed Proxy card in accordance
with the instructions set forth on the card. This will ensure your proper
representation at the Annual Meeting.
I hope you will be able to attend the Annual Meeting and look forward to seeing
you on March 11, 2003.
Very truly yours,
Robert Gowell
Chairman of the Board
DIGITAL DESCRIPTOR SYSTEMS, INC.
446 LINCOLN HIGHWAY
FAIRLESS HILLS, PA 19030
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NOTICE OF ANNUAL MEETING
January 8, 2003
--------------------------------
The Annual Meeting of Stockholders of Digital Descriptor Systems, Inc. will
be held at DDSI Headquarters, 446 Lincoln Highway, Fairless Hills, Pennsylvania
on March 11, 2003 at 10:00 a.m., local time, for the following purposes:
1. To elect four directors to hold office until the next Annual Meeting of
Stockholders or until their successors are elected; and
2. To approve the action the Board has requested of increasing the stock
authorized to seven hundred fifty million (750,000,000) shares.
3. To approve an amendment to the Certificate of Incorporation in order to
provide for a stock combination (reverse split) of the Common Stock in an
exchange ratio to be approved by the Board, from one newly issued share
for each ten outstanding shares of Common Stock to one newly issued share
for each twenty outstanding shares of Common Stock
4. To approve the appointment of WithumSmith+Brown as auditors for Digital
Descriptor Systems, Inc.
5. To transact such other business as may properly come before the Annual
Meeting of Stockholders.
Holders of record of Common Stock at the close of business on January 10,
2003 are the only stockholders entitled to notice of and to vote at the Annual
Meeting of Stockholders.
Michael J. Pellegrino
Secretary
2
TABLE OF CONTENTS
Proxy Statement........................................................... 4
Proposal One: Election of Directors...................................... 6
Directors' Compensation................................................... 7
Board of Directors and Committee Meetings................................. 7
Board Committees.......................................................... 7
Certain Relationships and Related Transactions............................ 8
Executive Compensation.................................................... 8
Option Grants............................................................. 9
Security Ownership of Certain Beneficial Owners and Management............ 10
Proposal Two: Increase the Authorized Shares of Common Stock.............. 15
Proposal Three: Provide for a Reverse Split of the Common Stock.......... 17
Proposal Four: Appointment of Independent Auditors....................... 22
Other Matters............................................................. 24
Index to Financial Statements.............................................
Independent Auditors Reports........................................ F-1
Balance Sheets...................................................... F-3
Statements of Operations............................................ F-4
Statement of Shareholders' Equity (Deficiency)...................... F-5
Statements of Cash Flows............................................ F-6
Notes to Financial Statements....................................... F-8
Summary Financial Information....................................... F-19
Management's Discussion and Analysis or Plan of Operation........... F-20
Results of Operations............................................... F-20
3
DIGITAL DESCRIPTOR SYSTEMS, INC.
446 LINCOLN HIGHWAY
FAIRLESS HILLS, PA 19030
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PROXY STATEMENT
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January 8, 2003
This Proxy Statement and the accompanying Proxy card are furnished in
connection with the solicitation by the Board of Directors of Digital Descriptor
Systems, Inc. (the "Company") of proxies to be voted at the 2002 Annual Meeting
of Stockholders (the "Meeting"). The approximate mailing date of this Proxy
Statement is January 27, 2003. A Proxy may be revoked at any time before it is
voted at the meeting by submitting a later-dated Proxy or by giving written
notice of such revocation to the Secretary of the Company. If you do attend the
Meeting, you may vote by ballot at the meeting and cancel any Proxy previously
given.
When you sign and return the enclosed Proxy the shares represented thereby
will be voted for the nominees for director listed in the Proxy card, unless
otherwise indicated on the Proxy. The enclosed Proxy also permits you to
withhold authority for one or more nominees.
VOTING SECURITIES
All holders of record of the Company's Common Stock at the close of
business on January 10, 2003 are entitled to vote at the Meeting. Each share
entitles the holder to one vote. The persons appointed by the enclosed Proxy
card have advised the Board of Directors that it is their intention to vote at
the meeting and comply with the instructions on the Proxy cards received from
stockholders and, if no contrary instruction is indicated on the Proxy card, for
the election of the persons nominated to serve as directors and in accordance
with the recommendations of the Board of Directors on any other matter brought
before the meeting.
Voting of Proxies
When you sign, date and return the enclosed Proxy, the shares represented
by the Proxy will be voted in accordance with your directions. You can specify
your voting instructions by marking the appropriate boxes on the Proxy card. If
your Proxy card is signed and returned without specific voting instructions,
your shares of the Common Stock will be voted as recommended by the directors:
"FOR" the election of Robert Gowell, Vincent Moreno, Michael
Pellegrino and Anthony Shupin for directors;
"FOR" the approval to increase the stock authorized from one
hundred fifty million (150,000,000) to seven hundred fifty million
(750,000,000) shares.
"FOR" the approval to provide for a one time stock combination
(reverse split) of the Common Stock in an exchange ratio to be approved
by the Board, from one newly issued share for each ten outstanding
shares of Common Stock to one newly issued share for each twenty
outstanding shares of Common Stock
"FOR" the approval to appoint WithumSmith+Brown as auditors
for Digital Descriptor Systems, Inc.
4
You may revoke your Proxy at any time before it is voted at the Meeting by
submitting a later-dated proxy or by giving written notice of revocation to the
Secretary of the Company. If you do attend the Meeting, you may vote by ballot
at the Meeting and cancel any Proxy previously given.
Directors will be elected at the Meeting by a majority of the votes cast at
the meeting by the holders of shares represented in person or by Proxy.
Abstentions and broker non-votes are counted as shares present for determination
of a quorum, but are not counted as "For" or "Against" votes on any item to be
voted on and are not counted in determining the amount of shares voted on an
item.
The cost of all solicitation will be borne by the Company.
5
PROPOSAL ONE
ELECTION OF DIRECTORS
(Item 1 on the Proxy Card)
The Board of Directors is composed of four members. The Board of Directors
has the responsibility for establishing broad corporate policies and for
overseeing the overall performance of the Company. Each director is elected to
hold office until the next annual meeting of stockholders or until a director's
successor is elected and qualified or until a director's death, resignation or
removal.
The following summary information sets forth information concerning the
Company's directors and nominees:
Robert Gowell was appointed Co-Chairman and Chief Executive Officer on
January 25, 2002. He is a retired Deputy U.S. Marshal who has worked out of the
New York and Pennsylvania offices from 1991-2001 (10 years). He earned his B.S.
in Management and Finance from the City University of New York. He is currently
working on his MBA at Kutztown University.
Vincent Moreno provides DDSI with over 30 years of experience from a
technical and business environment, with the past 23 years at the executive
management level. He served as Vice President of Technology for ADP for 13 years
(1976 through 1989). For six years (from 1989 to 1995), as President and CEO, he
ran Mainstem Corporation, a national provider of software services. He was Vice
President of Operations at DDSI from 1996 to 1998 (2 years). Most recently (1998
to 2002, 4 years), he was President and General Manager of PayPlus Software,
Inc., a provider of payroll software to the Professional Employer Organization
marketplace. Mr. Moreno is adept in setting strategic direction and is
experienced in the reengineering of corporate operating units. As a member of
the board, he brings guidance, direction, and vision to the Companies' strategic
planning.
Michael Pellegrino joined the Company in 1995. On January 25, 2002 he was
appointed President, Chief Operating Officer and Chief Financial Officer,
Secretary and a Director of the Company. For eleven years prior (from 1984 to
1995), Mr. Pellegrino was Vice President and CFO of Software Shop Systems, Inc.
From 1979 to 1984 (5 years), he was a regional controller for Capital
Cities/ABS, and for seven years earlier (1972-1979) as Director of Financial
Systems for ADP. Mr. Pellegrino has a Bachelors degree in accounting from MSU
and a Masters in Finance from Rutgers University, after which he worked at
Touche Ross for 3 years.
Anthony Shupin's experience includes over 20 years of executive management,
sales and marketing management and project and program management with
technology computing, aerospace and professional services companies. As a
Business Development Executive in the Communications and Media practice at
Deloitte Consulting from 9/2000 to 9/2001, Mr. Shupin directed activities and
resources targeted at strategic global accounts. Prior to Deloitte, he served as
Vice President of John Richard Associates, Inc. a management consulting firm
specialized in telecommunications from 7/1999 to 9/2000. His background also
includes roles as Director of International Business Development at Space
Imaging for 10 years (from 1989 to 1999), L.P. where responsibilities included
supervising the International Groundstation Network and establishing global
strategic relationships concerning the acquisition and distribution of high
resolution satellite imagery. Mr. Shupin has also served as Vice President,
Sales and Marketing at Remark Industries, Inc. from 1986 to 1989 (3 years),
which marketed and manufactured products such as on-line lottery and electronic
gaming devices, medical monitoring and analysis devices. Prior to Remark
Industries, he held management and account management positions at Wang
Laboratories from 1981 to 1986 (5 years) and Xerox Corporation in Princeton, New
Jersey from 1978 to 1981 (3 years). A graduate of Colby College, Waterville,
Maine, Mr. Shupin has extended his education at Rutgers University, Cook College
in Geographic Information Systems and Remote Sensing training. He has been an
invited speaker at various international symposiums and has published articles
regarding market analysis and access, education and technical assessment.
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DIRECTORS' COMPENSATION
Directors will not receive compensation for their services as members of
the Board of Directors. Directors will receive reimbursement for expenses in
attending directors meetings where applicable. Under the 1996 Director Option
Plan, if approved by the stockholders, each director who is not an officer or
employee of the Company automatically receives a grant of an option to purchase
50,000 shares of the Company's Common Stock effective as of the date such person
becomes a director and thereafter a grant of an option to purchase 1,000 shares
of the Company's Common Stock on the date of each of the Company's regular
annual meeting if he or she has served on the Board of Directors for at least
six months.
BOARD OF DIRECTORS AND COMMITTEE MEETINGS
There were five (5) Board of Directors meetings held in year 2001 and six
(6) meetings held as of December 31, 2002. The directors had the option to
attend via conference call.
BOARD COMMITTEES
The Board of Directors has established three committees: the Compensation
Committee, the Stock Option Committee and the Audit Committee, each of which is
briefly described below. The Board of Directors has no other committees.
Compensation Committee
The Compensation Committee reviews and approves the Company's compensation
philosophy and programs covering executive officers and key management
employees. The Committee also determines compensation of officers and senior
employees of the Company, other than the President, and makes recommendations to
the Board of Directors concerning the compensation of the President of the
Company. The Compensation Committee also determines any grants of stock or stock
options under the Consultants and Advisors Plan to non-employee consultants and
advisors. The Compensation Committee did not meet in 2001.
On February 28, 2002 the Board of Directors appointed Robert Gowell,
Vincent Moreno and Anthony Shupin to the Compensation Committee. The
Compensation Committee has met once in 2002.
Stock Option Committee
The Stock Option Committee reviews and approves the Company's stock option
and stock purchase plans covering employees, including the implementation of new
plans if desirable. The Committee also determines grants of stock options under
the 1994 Stock Option Plan and the terms of stock options granted, including
number of shares covered by an option, the date of grant and the fixing of the
exercise price. The Stock Option Committee did not meet in 2001.
On February 28, 2002 the Board of Directors appointed Robert Gowell,
Vincent Moreno and Anthony Shupin to the Stock Option Committee.
Audit Committee
The Audit Committee meets with management to review the scope and results
of audits performed by the Company's independent accountants. The Committee also
meets with the independent auditors and with appropriate Company financial
personnel about internal controls and financial reporting. The Committee is the
agent of the Board of Directors in assuring the adequacy of the Company's
financial, accounting and reporting control processes. The Committee is also
responsible for recommending to the Board of Directors the appointment of the
Company's independent accountants.
The Audit Committee has reviewed and discussed the audited financial
statements with management.
7
The Audit Committee has discussed with the independent auditors the matters
required to be discussed by SAS 61, as may be modified or supplemented. The
items discussed were general accounting matters including proper treatment and
recording impairment of assets and deferred revenue calculation.
The Audit Committee has reviewed the written disclosures and the letter
from the independent accountants required by the Independence Standards Board
standard No. 1, as may be modified and supplemented, and has discussed with the
independent accountant the independent accountant's independence.
Based on the above review and discussions with management and the
independent accountant's, the Audit Committee recommended that the audited
financials be included in the Company Annual Report on Form 10K for the last
fiscal year for filing with the Commission.
The Audit Committee met once in 2001 and consisted of John Boyle, Robert
Gowell and Robert Martin. On February 28, 2002, the Board of Directors appointed
Robert Gowell, Vincent Moreno and Anthony Shupin to serve on the Audit
Committee. The Board of Directors has not adopted a written charter for the
audit committee. They met once in 2002.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During May 1996, the Company loaned Mr. Cohn $125,000. Interest is accrued
on this amount at one point over prime and was payable together with the
principal on August 13, 1999. Accrued interest on this loan was $40,525 at
December 31, 2000. Subsequently, the Company's Board of Directors agreed to
extend the maturity date of this note indefinitely. On February 22, 2002 Mr.
Cohn made a payment of $23,615.39. In 2001, due to uncertainty as to whether the
Company will collect the note, a reserve for uncollectable notes was recorded in
the amount of $177,400.
Compensation of Directors and Executive Officers
The following table summarizes the compensation earned and paid by the
Company to each Officer and to all Executive Officers as a group for services
rendered in all capacities during the year ended December 31, 2001:
Summary Compensation Table
Long Term Compensation
Annual Compensation Awards Payouts
(a) (b) (c) (d) (e) (f) (g) (h) (I)
Name Other Securities All
and Annual Restricted Underlying Other
Principal Compen Stock Options/ LTIP Compen
Position Year Salary Bonus sation($) Award($) Sar (#) Payouts($) sation ($)
Garrett Cohn*
President/CEO 1999 $160,000 0 0 0 0 0 0
Michael J.
Pellegrino
President & COO 2001 $110,000 0 0 0 0 0 0
Michael Ott**
V.P/ Director 2001 $110,000 0 0 0 0 0 0
Randy Hall***
V/P 2001 $ 73,500 0 0 0 0 0 0
*Mr. Cohn resigned as President and Chief Executive Officer effective
January 25, 2002.
Mr. Cohn resigned as Co-Chairman of the Board of Directors effective
July 23, 2002
**Mr. Ott resigned from the Company effective March 30, 2001
***Mr. Hall resigned from the Company effective October 18, 2002
8
Options/Sar Grants in Last Fiscal Year
- --------------------------------------
Number of % of Total
Securities Options/SARS
Underlying Granted to
Options/SARS Employees in Exercise or Base
Name Granted Fiscal Year Price ($/Sh) Expiration Date
- ---- ------------ ------------ ---------------- ---------------
Garrett U. Cohn*, CEO 0 N/A N/A N/A
Michael J. Pellegrino, CFO 0 N/A N/A N/A
Randy Hall**, VP Operations 0 N/A N/A N/A
Aggregated Option/Sar Exercises
*Mr. Cohn resigned as President and Chief Executive Officer effective
January 25, 2002.
Mr. Cohn resigned as Co-Chairman of the Board of Directors effective
July 23, 2002
**Mr. Hall resigned from the Company effective October 18, 2002
None exercised
Employment Agreements
Mr. Gowell was appointed as Chief Executive Officer effective January 25,
2002. He does not have an employment agreement and is not receiving any
compensation. Mr. Gowell has been associated with the company as an investor and
previous board member for over three years.
Garrett Cohn resigned as Co-Chairman and Director of the Board of Directors
effective July 23, 2002 for personal reasons. He resigned as President and Chief
Executive Officer effective January 25, 2002. In July, 1994 the Company entered
into a 5 year employment agreement with Mr. Cohn which entitled him to a base
salary of $150,000 per year which may at the Board of Directors discretion
adjust his base salary (but not below $150,000 per year) or grant a bonus.
Though past the five-year period, the present employment agreement is to remain
in affect until July 18, 2002. In the interim, Mr. Cohn was granted an increase
in his annual base salary of $10,000, making his new base salary $160,000. The
Company shall also furnish Mr. Cohn with an automobile and automobile expenses.
In addition, Mr. Cohn has received non accountable expense allowances of
$11,000, $49,713 and $81,450 in 2000, 1999 and 1998 respectively.
Michael J. Pellegrino, President, Chief Operating Office and Chief
Financial Officer. In March 2002, the Company entered into a two-year employment
agreement with Mr. Pellegrino, which entitled him to a base salary of $115,000
per year which may at the Board of Directors discretion adjust his base salary
(but not below $115,000 per year). Mr. Pellegrino is also entitled to
participate in the Annual Management Bonus Plan. As a participant in the Annual
Management Bonus Plan, Mr. Pellegrino will be eligible to receive bonuses, based
on performance, in any amount from 0% to 100% of the Base Salary. In addition,
Mr. Pellegrino shall participate in the Management Equity Incentive Plan. As a
participant in the Management Equity Incentive Plan, Mr. Pellegrino will be
eligible to receive options, which vest over a period of time from the date of
the option's issue, to purchase common shares of the Company. The Company shall
grant to Mr. Pellegrino, within ninety days of the date of the Agreement,
options to purchase such number of common shares of the Company equal to 1% of
the number of common shares of the Company outstanding on the date of the
Agreement (subject to the vesting and the satisfaction of the other terms and
conditions of such options). The Company may also grant to the Employee,
following the first anniversary of the date of the Agreement and at the sole
discretion of the Board of Directors, options to purchase such number of common
shares of the Company equal to 0.25% of the number of common shares of the
Company outstanding on the date of the Agreement (subject to the vesting and the
satisfaction of the other terms and conditions of such options). The Company
shall also furnish Mr. Pellegrino with an automobile and automobile expenses.
9
Michael Ott**, Vice President of Sales and Director. In July, 1998, the
Company entered into a two-year employment agreement with Mr. Ott, which
entitled him to a base salary of $110,000 per year which may at the Board of
Directors discretion adjust his base salary (but not below $110,000 per year).
Though past the two-year period, this employment agreement is to remain in
affect until a new employment agreement is drafted. Mr. Ott is also entitled to
participate in the Annual Management Bonus Plan. As a participant in the Annual
Management Bonus Plan, Mr. Ott will be eligible to receive bonuses, based on
performance, in any amount from 0% to 100% of the Base Salary. In addition, Mr.
Ott shall participate in the Management Equity Incentive Plan. As a participant
in the Management Equity Incentive Plan, Mr. Ott will be eligible to receive
options, which vest over a period of time from the date of the option's issue,
to purchase common shares of the Company. The Company shall grant to Mr. Ott,
within ninety days of the date of the Agreement, options to purchase such number
of common shares of the Company equal to 1% of the number of common shares of
the Company outstanding on the date of the Agreement (subject to the vesting and
the satisfaction of the other terms and conditions of such options). The Company
may also grant to the Employee, following the first anniversary of the date of
the Agreement and at the sole discretion of the Board of Directors, options to
purchase such number of common shares of the Company equal to 0.25% of the
number of common shares of the Company outstanding on the date of the Agreement
(subject to the vesting and the satisfaction of the other terms and conditions
of such options). **Mr. Ott resigned from the Company effective March 30, 2001
Randolph Hall, Vice President Sales. In March 2002, the Company entered
into a two-year employment agreement with Mr. Hall, which entitled him to a base
salary of $73,500 per year which may at the Board of Directors discretion adjust
his base salary (but not below $73,500 per year). Mr. Hall is also entitled to
participate in the Annual Management Bonus Plan. As a participant in the Annual
Management Bonus Plan, Mr. Hall will be eligible to receive bonuses, based on
performance, in any amount from 0% to 100% of the Base Salary. In addition, Mr.
Hall shall participate in the Management Equity Incentive Plan. As a participant
in the Management Equity Incentive Plan, Mr. Hall will be eligible to receive
options, which vest over a period of time from the date of the option's issue,
to purchase common shares of the Company. The Company shall grant to Mr. Hall,
within ninety days of the date of the Agreement, options to purchase such number
of common shares of the Company equal to 1% of the number of common shares of
the Company outstanding on the date of the Agreement (subject to the vesting and
the satisfaction of the other terms and conditions of such options). The Company
may also grant to the Employee, following the first anniversary of the date of
the Agreement and at the sole discretion of the Board of Directors, options to
purchase such number of common shares of the Company equal to 0.25% of the
number of common shares of the Company outstanding on the date of the Agreement
(subject to the vesting and the satisfaction of the other terms and conditions
of such options). The Company shall also furnish Mr. Hall with an automobile and
automobile expenses.
Mr. Hall resigned from the Company effective October 18, 2002.
Security Ownership of Certain Beneficial Owners and Management
The following table sets forth current information relating to the
beneficial ownership of the Common Stock of the Company by (i) each person
owning beneficially more than 5 percent of the outstanding shares of Common
Stock, (ii) each Director of the Company and (iii) all Executive Officers and
Directors of the Company as a group: Percentage of beneficial ownership is based
upon 61,351,387 shares of Common Stock outstanding at December 31, 2002.
10
Beneficial Ownership
Name and Address of Common Stock
Of Beneficial Owner No. of Shares
- ------------------- -------------
Garrett U. Cohn
Buffalo Grove, IL 60089 1,695,000(1) 2.76%
Michael Pellegrino
Brielle, NJ 08730 335,000 0.54%
Randolph Hall
Collegeville, PA 19426 398,000 0.64%
Robert P. Martin
Seattle, WA 98119 3,099,000(2) 5.05%
Robert Gowell
Allentown, PA 18104 96,300 0.02%
Norman Cohn
Radnor, PA 19087 840,000 1.36%
AJW Partners, LLC (4)
Roslyn, NY 11576 427,793,000(5) 88.0%(16)
New Millennium Capital Partners II (6)
Roslyn, NY 11576 427,793,000(7) 88.0%(16)
AJW Qualified Partners (8)
Roslyn, NY 11576 51,512,500(9) 46.0%(16)
AJW Offshore (10)
Roslyn, NY 11576 51,512,500(11) 46.0%(16)
Corey Ribotsky (12) 958,611,000(13) 94.0%(16)
Bristol Investment Fund, Ltd. (14)
Cayman Islands 280,000,000(15) 82.0%(16)
Paul Kessler and Diana Kessler (14) 280,000,000(15) 82.0%(16)
All Officers & Directors
As a Group 6,463,300(3) 9.16%
Total 620,254,800
________________________________________
(1) Garrett U. Cohn owns 60,000 shares of stock. In addition, Mr. Cohn has
the right to vote 840,000 shares of stock held of record by Norman Cohn pursuant
to a Voting Trust Agreement described below, and, as a result of such voting
rights, such shares are included in the shares shown as beneficially owned by
Garrett U. Cohn. Mr. Cohn resigned as President and Chief Executive Officer of
Digital Descriptor Systems effective January 25, 2002. He resigned as
Co-Chairman of the Board of Directors effective July 23, 2002
(2) Mr. Martin holds 2,399,000 in direct holdings and 700,000 in indirect
holdings. Mr. Martin resigned from the Board of Directors on January 3, 2002.
11
(3) Of the total Officers and Director's shares, 43,000 shares are options
which are 10 year options with a three-year vesting period, vesting 1/3 each
year with a strike price of thirty-three cents ($0.33). The remaining 1,275,000
options are 10 year options that are fully vested at varying strike prices.
(4) AJW Partners, LLC is a private investment fund that is structured as a
limited liability company whose members are the investors in the fund. The
managing member of the fund is SMS Group, LLC, a limited liability company,
which manages the operations of the fund (the "Management Company"). The manager
of the Management Company, Mr. Corey Ribotsky, is responsible for the operations
of the Management Company. As the control person of the shares owned by AJW
Partners, Mr. Ribotsky may be viewed as the beneficial owner of such shares
pursuant to Rule 13d-3 under the Securities Exchange Act of 1934.
(5) Concerning AJW Partrners: Assuming $427,793 of 12% Convertible
Debentures ($203,500 plus $44,290.50 interest dated March 9, 2001, $125,000 plus
$15,000 interest dated December 31, 2001, and $37,500 plus $2,502.50 interest
dated June 11, 2002) converted at fifty percent (50%) of stock price of $0.002.
AJW Partners is contractually obligated not to convert more than 4.9% at one
time, however, this provision may be waived by providing a sixty-one day notice.
(6) New Millennium Capital Partners II, LLC is a private investment fund
that is structured as a limited liability company whose members are the
investors in the fund. The managing member of the fund is First Street Manager
II, LLC, a limited liability company which manages the operations of the fund
(the "Management Company"). The manager of the Management company, Mr. Corey
Ribotsky, is responsible for the operations of the Management Company. As the
control person of the shares owned by New Millennium Capital Partners II, Mr.
Corey S. Ribotsky may be viewed as the beneficial owner of such shares pursuant
to Rule 13d-3 under the Securities Exchange Act of 1934.
(7) Concerning New Millennium Capital Partners II: Assuming $427,793 of 12%
Convertible Debentures ($203,500 plus $44,290.50 interest dated March 9, 2001,
$125,000 plus $15,000 interest dated December 31, 2001, and $37,500 plus
$2,502.50 interest dated June 11, 2002) converted at fifty percent (50%) of
stock price of $0.002. New Millennium Capital Partners II is contractually
obligated not to convert more than 4.9% at one time, however, this provision may
be waived by providing a sixty-one day notice.
(8) AJW Qualified Partners is a private investment fund whose members are
the investors in the fund. The managing member of the fund is AJW Manager, LLC,
a limited liability company, which manages the operations of the fund (the
"Management Company"). The manager of the Management Company, Mr. Corey
Ribotsky, is responsible for the operations of the Management Company. As the
control person of the shares owned by AJW Qualified Partners, Mr. Ribotsky may
be viewed as the beneficial owner of such shares pursuant to Rule 13d-3 under
the Securities Exchange Act of 1934.
(9) Concerning AJW Qualified Partners: Assuming $51,512.50 of 12%
Convertible Debentures ($50,000 plus $1,512.50 interest dated September 30,
2002) converted at fifty percent (50%) of stock price of $0.002. AJW Qualified
Partners is contractually obligated not to convert more than 4.9% at one time,
however, this provision may be waived by providing a sixty one day notice.
(10) AJW Offshore is a private investment fund whose members are the
investors in the fund. The managing member of the fund is First Street II, LLC,
a limited liability company, which manages the operations of the fund (the
"Management Company"). The manager of the Management Company, Mr. Corey
Ribotsky, is responsible for the operations of the Management Company. As the
control person of the shares owned by AJW Offshore, Mr. Ribotsky may be viewed
as the beneficial owner of such shares pursuant to Rule 13d-3 under the
Securities Exchange Act of 1934.
12
(11) Concerning AJW Offshore: Assuming $51,512.50 of 12% Convertible
Debentures ($50,000 plus $1,512.50 interest dated September 30, 2002) converted
at fifty percent (50%) of stock price of $0.002. AJW Offshore is contractually
obligated not to convert more than 4.9% at one time, however, this provision may
be waived by providing a sixty one day notice.
(12) As indicated in footnotes (4), (6), (8), and (10) above, Mr. Corey
Ribotsky is the manager of SMS Group, LLC, First Street manager II, LLC and AJW
Manager, LLC. These companies are limited liability companies and manage the
operations of the investment funds of AJW Partners, New Millennium Capital
Partners II, LLC, AJW Qualified Partners and AJW Offshore. As the control person
of the shares owned by AJW Partners, New Millennium Capital Partners II, LLC,
AJW Qualified Partners and AJW Offshore, Mr. Ribotsky may be viewed as the
beneficial owner of such shares pursuant to Rule 13d-3 under the Securities
Exchange Act of 1934.
(13) Concerning Corey Ribotsky: 958,611,000 shares represents the aggregate
beneficial shares owned of the four funds referenced in footnote (12) above. As
the control person for such funds, Mr. Ribotsky would also be considered the
beneficial owner of such shares. The shares beneficially owed are identified in
footnotes (5), (7), (9) and (11) above. There are no other parties involved with
these funds who would meet the definition of beneficial owner. The four funds
(and Mr. Ribotsky as the control person) contractually do not have the right to
own more that 4.9% in the aggregate and therefore would not fall within the
reporting requirements of Rule 13d-3 and Rule 16a-1.
(14) Bristol Investment Fund, Ltd. is a private investment fund, formed as
a Cayman Island company, whose shares are owned by its investors. Bristol
Investment Fund, Ltd., is managed by Bristol DLP, LLC (the "Management
Company"), which has voting and investment control over the shares owned by
Bristol Investment Fund, Ltd. Paul Kessler and Diana Kessler, the managing
members of the Management Company, are responsible for the operations of the
Management Company. As the control persons of the shares owned by Bristol
Investment Fund, Ltd., Paul Kessler and Diana Kessler may be viewed as the
beneficial owners of such shares pursuant to Rule 13d-3 under the Securities
Exchange Act of 1934. There are no other parties involved with these funds who
would meet the definition of benefical owner.
(15) Conerning Bristol Investment Fund, Ltd.: Assuming $280,000 of 12%
Convertible Debentures ($250,000 plus $30,000 interest dated December 31, 2001)
converted at fifty percent (50%) of stock price of $0.002. Bristol Investment
Fund, Ltd. is contractually obligated not to convert more than 4.9% at one time,
however, this provision may be waived by providing a sixty one day notice.
(16) At this time, the Company has 150,000,000 authorized shares.
Under the terms of the Voting Trust Agreement dated May 1, 1995, between
Norman Cohn and Garrett U. Cohn, as Trustee, Norman Cohn has transferred to the
trust 840,000 shares of Common Stock of the Company, representing all of the
shares of Common Stock owned by him. Under the terms of the Voting Trust
Agreement, Garrett U. Cohn, as the Trustee, has the right to vote the stock in
the Voting Trust, except as to certain actions, including, but not limited to,
any amendment to the certification of incorporation of the Company, merger or
sale of substantially all of the assets of the Company or any action which will
cause a dilution in the outstanding shares of Common Stock. The term of the
Voting Trust is 10 years and shall terminate in April 2005.
There are no arrangements known to the Company that at a later date may
result in a change in control of the Company.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Exchange Act requires our officers and directors, and
persons who own more than 10% of a registered class of our equity securities to
file reports of ownership and changes in ownership with the SEC and NASDAQ.
These persons are required by regulation of the SEC to furnish us with copies of
all Section 16(a) forms they file.
13
Based solely upon a review of the copies of such reports furnished to the
Company during and subsequent to the most recently completed fiscal year ended
December 31, 2001 by such persons, the Company believes that it is currently in
compliance for the fiscal year ended December 31, 2001 with all Section 16(a)
filing requirements applicable to the Company's directors, executive officers
and greater than ten percent shareholders.
Accountants
WithumSmith+Brown have been the independent public accountants of the
Company for the year ending December 31, 2001 to examine the Company's financial
statements and have been selected to be the independent public accountants for
the year ending December 31, 2002. One or more members of WithumSmith+Brown are
expected to be present at the Annual Meeting, to respond to questions and to
make a statement if they desire to do so.
14
PROPOSAL TWO
DIRECTORS' PROPOSAL TO INCREASE THE AUTHORIZED SHARES OF COMMON
STOCK FROM 150,000,000 TO 750,000,000
(Item 2 on the Proxy Card)
At the Annual Meeting, shareholders will be asked to approve and consent to
amend the Company's restated Certificate of Incorporation to increase the number
of authorized shares of Common Stock from 150,000,000 to 750,000,000 shares.
Possible unfavorable consequences of approving an increase in authorized
shares:
1. Potential for a change in ownership: With an increase in authorized
shares, current convertible note holders could convert their position
and gain enough shares to provide the note holders an opportunity to
elect new directors.
2. Dilution: An increase in authorized shares provides for the issuance of
more shares which most likely will dilute current shareholders
position.
3. Drop in stock price: An increase in authorized shares provides for the
issuance of more shares, such as in the conversion of notes, which most
likely result in a decrease in the market value of the stock.
Possible unfavorable consequences of not approving an increase in
authorized shares:
1. Without an increase in authorized shares, current note holders would be
unable to convert out and when the notes come due, DDSI would most
likely be unable to repay those notes, resulting in DDSI being in
default. The note holders could take legal action which could result in
DDSI shutting down operations.
2. Not approving an increase in authorized shares would make it difficult
for DDSI to look for and acquire with equity possible acquisitions.
3. Not approving an increase in authorized shares would make it difficult
for DDSI to look for and obtain future funding needs.
4. Not approving an increase in authorized shares would make the approval
of the proposal for a reverse split crucial.
The first reason for the increase in authorized shares is to ensure that
there is an adequate number of shares available for our convertible note holders
to exercise conversions. Once the number of authorized shares are increased,
there is a potential for a change in ownership in our company if the current
note holders were to convert the total value of their notes at one time. Such a
conversion could result in as much as 1,238,611,000 shares being issued at
current market prices, which would provide the note holders an opportunity to
elect new directors. The convertible note holders are contractually limited to
own no more than 4.9% of our outstanding stock, however, this limitation can be
waived by the note holders by giving a sixty-one day written notice to DDSI of
such action. Maintaining an ownership percentage below the 4.9% threshold would
normally require the convertible notes holders to sell the DDSI stock they
currently hold before converting debt for additional common stock. The cycle of
continuously converting debt and selling the common stock received may have the
consequence of limiting the ability of the market to increase the market price
of DDSI's stock or to prevent a possible decrease in the market price of DDSI's
Common Stock.
At the current market price at December 31, 2002 of $0.002, 1,238,611,000
shares of our Common Stock would be needed to convert $1,238,611 of 12%
Convertible Debentures ($407,000 plus $88,581 interest dated March 9, 2001,
$500,000 plus $60,000 interest dated December 31, 2001, $75,000 plus $5,005
interest dated June 11, 2002, and $100,000 plus $3,025 interest dated September
30, 2002) converted at fifty percent (50%) of the current stock price.
Though this proposal is not contingent upon approval of the proposal for a
reverse stock split, the failure to increase the number of authorized shares
would result in DDSI's inability to fulfill its contractual commitment to the
convertible note holders to increase its number of authorized shares. This
15
inability to convert the notes would trigger the default clause contained in the
notes. The default clause requires a cash payment which DDSI would not be able
to meet. Contractually DDSI would be obligated to pay the note holders a default
payment amounting to the then outstanding principal amount of the notes plus
accrued and unpaid interest on the unpaid principal amount of the note plus a
pro-rated default interest of 24% of the default payment amount. In addition,
DDSI may be subject to liquidated damages as a result of an inability to honor a
note holder's conversion request. The inability of DDSI to meet its contractual
obligations to the note holders would most likely result in some sort of legal
action from the note holders which would result in the shutdown of operations.
Note, the number of authorized shares is not affected by a reverse stock split.
DDSI's revenues have been insufficient to cover the cost of revenues and
operating expenses. Therefore, we have been dependent on private placements of
its common stock and issuance of convertible notes in order to sustain
operations. Until we can reach a breakeven cash flow, more common shares will
need to be sold to keep operations up and running. Therefore another reason for
the proposed amendment to authorize additional shares of Common Stock is to
facilitate the current raising of additional capital through the sale of
securities.
Lastly, a reason for the proposed amendment to the Certificate is to grant
options or other stock incentives to the Company's employees, have stock
available for a possible acquisition of another company or its business or
assets, or to seek to establish a strategic relationship with a corporate
partner.
If the amendment is approved by the stockholders, the Board of Directors
does not intend to solicit further stockholder approval prior to the issuance of
any additional shares of Common Stock, except as may be required by applicable
law
16
PROPOSAL THREE
APPROVE AN AMENDMENT TO COMPANY'S CERTIFICATE OF
INCORPORATION TO PROVIDE FOR A REVERSE SPLIT OF THE
COMMON STOCK
(Item 3 on the Proxy Card)
The Board has unanimously adopted resolutions proposing, declaring
advisable and recommending that stockholders authorize an amendment to the
Certificate of Incorporation to: (i) provide for a one time stock combination
(reverse split) of the Company's Common Stock in an exchange ratio to be
approved by the Board, from one (1) newly issued share for each ten (10)
outstanding shares of Common Stock to one (1) newly issued share for each twenty
(20) outstanding shares of Common Stock (the "Reverse Split"); and (ii) provide
that no fractional shares or scrip representing fractions of a share shall be
issued, but in lieu thereof, each fraction of a share that any stockholder would
otherwise be entitled to receive shall be rounded up to the nearest whole share.
There will be no change in the number of the Company's authorized shares of
Common Stock and no change in the par value of a share of Common Stock. This
Approval would only be effective up to and including December 31, 2003.
Factors to be Considered
We are requesting that you approve a one time reverse split ratio range to
provide DDSI the ability to pick the ratio that will best fit the needs of DDSI
and its shareholders based on certain factors at that point in time. The final
ratio chosen will take into consideration several factors including:
o whether the shareholders approved the proposal to increase the number of
authorized shares. If the authorized shares are not increased, a reverse
split of some magnitude would be necessary to provide for the operation of
DDSI. If the number of authorized shares is increased, a reverse split may
not be necessary because there will most likely be enough shares to
provide for the needs and growth of DDSI.
o the number of shares required to fully convert the outstanding convertible
notes.
o the level of outstanding shares that provide for acquisition targets in
the future; and
o the ratio, based on shareholder feedback, that would be acceptable.
Current shareholders should be aware that after a reverse split their
equity position in DDSI will not be affected. The reverse split may have an
initial effect of increasing our current market price per share resulting from
the reduction of the total number of shares outstanding, but there can be no
assurance of any favorable future effect on our stock price. Although DDSI's
decision to implement a reverse split is independent of the need to increase
authorized shares, the need for a reverse split would not be as urgent if an
increase in authorized shares were authorized because there would most likely be
enough shares available to provide for future needs and growth of DDSI. If the
increase in authorized shares is not approved, a reverse split would be required
to provide for continuing operations of DDSI. Lastly, a reverse split does not
affect the number of shares authorized.
Assuming the proposal for an increase in authorized shares was approved,
the most determinative factor that DDSI will consider in deciding whether to
implement a reverse split or in determining the magnitude of the reverse split,
would be how many shares will ultimately be required to trade out the
convertible note holders. If DDSI is able to pay off part of the balance or if
DDSI is able to maintain a higher stock price thus requiring significantly fewer
shares to retire the debt, the need for or the magnitude of a reverse split
would be diminished.
Once a stable number of outstanding common shares has been reached, a
reverse split ratio based on shareholder feedback would be of critical
importance. Shareholder support would be an important ingredient in the success
of a reverse split.
17
Lastly, but still an important factor would be, given the right
opportunity, what capitalization structure would be needed to attract an
acquisition or merger candidate in the future.
If the Reverse Split is approved, the Board will have authority, without
further stockholder approval, to effect the Reverse Split pursuant to which the
Company's outstanding shares (the "Old Shares") of Common Stock would be
exchanged for new shares (the "New Shares") of Common Stock, in an exchange
ratio to be approved by the Board, from one (1) New Share for each ten (10) to
twenty (20) Old Shares. The number of Old Shares for which each New Share is to
be exchanged is referred to as the "Exchange Number". The Exchange Number may,
within such range, be a whole number or a whole number and fraction of a whole
number.
The Board also reserves the right, notwithstanding stockholder approval and
without further action by stockholders, to not proceed with a Reverse Split if,
at any time prior to filing this amendment with the Secretary of State of the
State of Delaware, the Board, in its sole discretion, determines that the
Reverse Split is no longer in the best interests of the Company and its
stockholders. The Board may consider a variety of factors in determining whether
or not to implement the Reverse Split and in determining the Exchange Number
including, but not limited to, the approval by the stockholders of Proposal 2
which would increase the number of the authorized Common Stock, overall trends
in the stock market, recent changes and anticipated trends in the per share
market price of the Common Stock, business and transactional developments and
the Company's actual and projected financial performance.
Purposes of the Reverse Split
One purpose of the Reverse Split would be to increase the market price of
the Common Stock in order to facilitate conversion of our outstanding
convertible notes. Another purpose of the Reverse Split would be to increase the
usefulness of our Common Stock as a means to raise financing and as a possible
currency for acquisitions and other transactions. The Common Stock traded on The
NASDAQ OTC:BB at market prices ranging from approximately $0.0021 to
approximately $0.28 from July 1, 2001 through December 31, 2002. This range has
reduced the possibilities of using the Common Stock or instruments convertible
or exercisable into Common Stock in order to raise financing to support the
Company's operations and to increase the Company's net worth and as
consideration for potential acquisitions (which, when coupled with the Company's
need to deploy its available cash for operations, would make possible
acquisitions difficult to negotiate).
THERE CAN BE NO ASSURANCE, HOWEVER, THAT, EVEN AFTER CONSUMMATING THE REVERSE
SPLIT, THE COMPANY WILL BE ABLE TO MAINTAIN ITS MARKET PRICE PER SHARE AND THUS
UTILIZE ITS COMMON STOCK IN ORDER TO EFFECTUATE FINANCING OR ACQUISITION
TRANSACTIONS.
The Reverse Split will not change the proportionate equity interests of the
Company's stockholders, nor will the respective voting rights and other rights
of stockholders be altered, except for possible immaterial changes due to
rounding up to eliminate fractional shares. The Common Stock issued pursuant to
the Reverse Split will remain fully paid and non-assessable. The Company will
continue to be subject to the periodic reporting requirements of the Securities
Exchange Act of 1934, as amended.
Certain Effects of the Reverse Split
The following table illustrates the principal effects of the Reverse Split
to the 61,351,387 shares of Common Stock outstanding as of December 31, 2002:
18
Prior to After 1 for 10 After 1 for 20
Number of Shares Reverse Reverse Reverse
Stock Split Stock Split Stock Split
Common Stock:
Authorized....................................... 150,000,000 150,000,000 150,000,000
Outstanding (2).................................. 61,351,387 6,135,139 3,067,569
---------- --------- ---------
Available for Future
Issuance......................................... 88,648,613 143,864,861 146,932,431
Less Conversion of Convertible
Debentures....................................... 1,238,611,000(3) 61,930,550(4) 30,965,275(5)
Available for Future
Issuance......................................... (1,149,962,387) 81,934,311 115,967,156
COMMON SHARES
POST INCREASED AUTHORIZED:
- --------------------------
750,000,000 750,000,000 750,000,000
Common Stock
Authorized (1)...................................
Outstanding...................................... 61,351,387 6,135,139 3,067,569
---------- --------- ---------
Available for Future
Issuance......................................... 688,648,613 743,864,861 746,932,431
Less Conversion of Convertible
Debentures....................................... 1,238,611,000(3) 61,930,550(4) 30,965,275(5)
------------- ---------- ----------
Available for Future
Issuance......................................... (549,962,387) 681,934,311 715,967,156
(1) If Proposal # 2 were approved by the stockholders, there would be
750,000,000 shares of Common Stock authorized.
(2) Gives effect to the Reverse Split, excluding New Shares to be issued in
lieu of fractional shares. Stockholders should recognize that, if the Reverse
Split is effectuated, they will own a fewer number of shares than they presently
own (a number equal to the number of shares owned immediately prior to the
filing of the amendment regarding the Reverse Split divided by the Exchange
Number, as adjusted to include New Shares to be issued in lieu of fractional
shares).
While the Company expects that a Reverse Split will result in an increase
in the market price of the Common Stock, there can be no assurance that the
Reverse Split will increase the market price of the Common Stock by a multiple
equal to the Exchange Number or result in a permanent increase in the market
price (which is dependent upon many factors, including the Company's performance
and prospects). Also, should the market price of the Company's Common Stock
decline after the Reverse Split, the percentage decline may be greater than
would be the case in the absence of the Reverse Split.
Furthermore, the possibility exists that liquidity in the market price of
the Common Stock could be adversely affected by the reduced number of shares
that would be outstanding after the Reverse Split. In addition, the Reverse
Split will increase the number of stockholders of the Company who own odd-lots
(less than 100 shares). Stockholders who hold odd-lots typically will experience
an increase in the cost of selling their shares, as well as greater difficulty
in effecting such sales. Consequently, there can be no assurance that the
Reverse Split will achieve the desired results that have been outlined above.
19
(3) Assuming $1,238,611 of 12% Convertible Debentures ($407,000 plus
$88,581 interest dated March 9, 2001, $500,000 plus $60,000 interest dated
December 31, 2001, $75,000 plus $5,005 interest dated June 11, 2002, and
$100,000 plus $3,025 interest dated September 30, 2002) converted at fifty
percent (50%) of stock price of $0.002.
(4) Assuming $1,238,611 of 12% Convertible Debentures ($407,000 plus
$88,581 interest dated March 9, 2001, $500,000 plus $60,000 interest dated
December 31, 2001, $75,000 plus $5,005 interest dated June 11, 2002, and
$100,000 plus $3,025 interest dated September 30, 2002) converted at fifty
percent (50%) of stock price of $0.02. Note that the stock price of $0.02 is the
correct mathematical calculation of the post split stock price, however a stock
price generally decreases after a reverse split is effectuated. See footnote two
above.
(5) Assuming $1,238,611 of 12% Convertible Debentures ($407,000 plus
$88,581 interest dated March 9, 2001, $500,000 plus $60,000 interest dated
December 31, 2001, $75,000 plus $5,005 interest dated June 11, 2002, and
$100,000 plus $3,025 interest dated September 30, 2002) converted at fifty
percent (50%) of stock price of $0.04. Note that the stock price of $0.04 is the
correct mathematical calculation of the post split stock price, however a stock
price generally decreases after a reverse split is effectuated. See footnote two
above.
Stockholders should also recognize that, as indicated in the foregoing
table, there would be an increase in the number of shares, which the Company
will be able to issue from authorized but un-issued shares of Common Stock. As a
result of any issuance of shares, the equity and voting rights of holders of
outstanding shares may be diluted.
Procedure for Effecting Reverse Split and Exchange of Stock Certificates
If this amendment is approved by the Company's stockholders, and if the
Board determines that a Reverse Split is in the best interests of the Company
and its stockholders, the Company will file the amendment with the Secretary of
State of the State of Delaware at such time as the Board has determined the
appropriate Exchange Number and the appropriate Effective Time for such split.
The Board may delay effecting the Reverse Split no later than December 31, 2003
without re-soliciting stockholder approval. The Reverse Split will become
effective on the date of filing the amendment at the time specified in the
amendment (the "Effective Time"). Beginning at the Effective Time, each
certificate representing Old Shares will be deemed for all corporate purposes to
evidence ownership of New Shares.
As soon as practicable after the Effective Time, stockholders will be
notified that the Reverse Split has been effected and of the exact Exchange
Number. The Company expects that its transfer agent will act as exchange agent
(the "Exchange Agent") for purposes of implementing the exchange of stock
certificates. Holders of Old Shares will be asked to surrender to the Exchange
Agent certificates representing Old Shares in exchange for certificates
representing New Shares in accordance with the procedures to be set forth in a
letter of transmittal to be sent by the Exchange Agent. No new certificates will
be issued to a stockholder until such stockholder has surrendered such
stockholder's outstanding certificate(s) together with the properly completed
and executed letter of transmittal to the Exchange Agent. Any Old Shares
submitted for transfer, whether pursuant to a sale or other disposition, or
otherwise, will automatically be exchanged for New Shares at the exchange ratio.
Stockholders should not destroy any stock certificate and should not submit any
certificate until requested to do so by the Company or the Exchange Agent.
20
Fractional Shares
No scrip or fractional certificates will be issued in connection with the
Reverse Split. Any fraction of a share that any stockholders of record otherwise
would be entitled to receive shall be rounded up to the nearest whole share.
No Dissenter's Rights
Under Delaware's law, stockholders are not entitled to dissenter's rights
with respect to the proposed amendment.
Federal Income Tax Consequences of the Reverse Split
The following is a summary of certain material U.S. federal income tax
consequences of the Reverse Split and does not purport to be complete. It does
not discuss any state, local, foreign or minimum income or other U.S. federal
tax consequences. Also, it does not address the tax consequences to holders that
are subject to special tax rules, such as banks, insurance companies, regulated
investment companies, personal holding companies, foreign entities, nonresident
alien individuals, broker-dealers and tax-exempt entities. The discussion is
based on the provisions of the U.S. federal income tax law as of the date
hereof, which is subject to change retroactively as well as prospectively. This
summary also assumes that the Old Shares were, and the New Shares will be, held
as a "capital asset," as defined in the Code (generally, property held for
investment). The tax treatment of a stockholder may vary depending upon the
particular facts and circumstances of such stockholder. Each stockholder should
consult with such stockholder's own tax advisor with respect to the consequences
of the Reverse Split.
The Reverse Split is an isolated transaction and is not part of a plan to
periodically increase any stockholder's proportionate interest in the assets or
earnings and profits of the Company. As a result, no gain or loss should be
recognized by a stockholder of the Company upon such stockholder's exchange of
Old Shares for New Shares pursuant to the Reverse Split. The aggregate tax basis
of the New Shares received in the Reverse Split will be the same as the
stockholder's aggregate tax basis in the Old Shares exchanged therefore. The
stockholder's holding period for the New Shares will include the period during
which the stockholder held the Old Shares surrendered in the Reverse Split.
21
PROPOSAL FOUR
THE APPOINTMENT OF WITHUMSMITH+BROWN AS AUDITORS FOR DIGITAL
DESCRIPTOR SYSTEMS, INC.
(Item 4 on the Proxy Card)
The Board of Directors of the Company has selected WithumSmith+Brown to
audit the consolidated financial statements of the Company and its subsidiaries
for the fiscal year ending December 31, 2002. WithumSmith+Brown has served in
this capacity since February 4, 2002. Representatives of WithumSmith+Brown are
expected to be present at the Annual Meeting and will be available to respond to
appropriate questions of stockholders and to make a statement if they desire.
The affirmative vote of a majority of the votes cast on this proposal will
constitute ratification of the appointment of WithumSmith+Brown.
The Board of Directors is submitting the approval of WithumSmith+Brown to
stockholders as a matter of good corporate practice, although it is not required
to do so. Should the stockholders fail to provide such ratification, the Board
of Directors will reconsider its approval of WithumSmith+Brown as the Company's
independent public accountants for the year ended December 31, 2002. Even if the
selection is ratified, the Board of Directors, in its discretion, may direct the
appointment of a new independent accounting firm at any time during the fiscal
year if the Board of Directors feels that such a change would be in the best
interests of the Company and its stockholders.
Audit Fees
The aggregate fees billed by WithumSmith+Brown for professional services
rendered for the audit of the Company's annual financial statements for the
fiscal year ended December 31, 2001 were $34,000.
All Other Fees
The were no other aggregate fees billed for services rendered by
WithumSmith+Brown, other than for services covered by the preceding two
paragraphs for the fiscal year ended December 31, 2001.
The Audit Committee has considered and determined that the services
provided by WithumSmith+Brown are compatible with WithumSmith+Brown maintaining
its independence.
Changes In and Disagreements With Accountants on Accounting and Financial
Disclosure
A Form 8-K was filed on February 7, 2002, and subsequently amended on
February 19, 2002, respectively, reporting a change in accounting firms.
o Ernst & Young LLP was previously the independent auditors for Digital
Descriptor Systems, Inc. (DDSI). On February 4, 2002, Ernst & Young LLP
resigned as independent auditors and WithumSmith+Brown, PC was engaged
as independent auditors. The decision to change was based on financial
considerations and was approved by the audit committee and the full
Board of Directors of DDSI.
o The audit reports of Ernst & Young LLP on the financial statements of
DDSI as of and for the fiscal years ended December 31, 2000 and 1999 did
not contain an adverse opinion or disclaimer of opinion and were not
qualified or modified as to uncertainty, audit scope or accounting
principles, except that such reports were modified with respect to
DDSI's ability to continue as a going concern.
22
o During DDSI's two most recent fiscal years ended December 31, 2000, and
the subsequent interim period ending February 4, 2002, there were no
disagreements between DDSI and Ernst & Young LLP on any matter of
accounting principles or practices, financial statement disclosure, or
auditing scope and procedures, which if not resolved to the satisfaction
of Ernst & Young would have caused Ernst & Young to make reference to
the matter in their report. DDSI has requested Ernst & Young to furnish
it a letter addressed to the Commission stating whether it agrees with
the above statements. A copy of that letter, dated February 19, 2002, is
filed as Exhibit 16 to the Form 8-K, Amendment No. 1.
o There were no other "reportable events" as that term is described in
Item 304(a)(1)(v) of Regulation S-K occurring within DDSI's two most
recent fiscal years and the subsequent interim period ending February 4,
2002.
o During DDSI's two most recent fiscal years ended December 31, 2001 and
the subsequent interim period through February 4, 2002, DDSI did not
consult with WithumSmith+Brown, PC regarding any of the matters or
events set forth in Item 304 (a)(2)(i) and (ii) of Regulations S-K.
23
OTHER MATTERS
The Board of Directors of the Company does not intend to bring any other
matters before the Annual Meeting and does not know of any other matter that may
be brought before the Annual Meeting.
Submission of 2003 Stockholder Proposals
Proposals of stockholders that are intended to be presented at the Annual
Meeting in 2003 must be received by the Secretary of Digital Descriptor Systems,
Inc., 446 Lincoln Highway, Fairless Hills, Pennsylvania 19030, not later than
June 30, 2003 to be considered for inclusion in the Company's 2003 Proxy
material.
A copy of the Company's Form 10-KSB may be obtained by written request from
Michael Pellegrino, President and Chief Operating Officer, at the Company, 446
Lincoln Highway, Fairless Hills, Pennsylvania 19030.
The above Notice and Proxy Statement are sent by order of the Board of
Directors.
By order of the Directors
Michael J. Pellegrino
Secretary
Dated: January 8, 2003
24
DIGITAL DESCRIPTOR SYSTEMS, INC.
FINANCIAL STATEMENTS
DECEMBER 31, 2001 and 2000
DIGITAL DESCRIPTOR SYSTEMS, INC.
CONTENTS TO FINANCIAL STATEMENTS
DECEMBER 31, 2001 and 2000
Contents
Independent Auditors' Reports: F-1
Audited Financial Statements
Balance Sheets F-3
Statements of Operations F-4
Statements of Shareholders' Equity (Deficiency) F-5
Statements of Cash Flows F-6
Notes to Financial Statements F-8
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders,
Digital Descriptor Systems, Inc.
We have audited the accompanying balance sheet of Digital Descriptor Systems,
Inc., as of December 31, 2001, and the related statements of operations,
shareholders' equity (deficiency) and cash flows for the year then ended. 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 audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. 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 audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Digital Descriptor Systems,
Inc. as of December 31, 2001, and the results of its operations and its cash
flows for the year then ended in conformity with accounting principles generally
accepted in the United States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As more fully described in Note 2 to
the financial statements, the Company has never been profitable and continues to
incur losses from operations and anticipates that it will require additional
debt and/or equity financing in 2002, which may not be readily available. These
conditions raise substantial doubt about the Company's ability to continue as a
going concern. Management's plans in regard to these matters are also described
in Note 2. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
/s/WithumSmith+Brown
Newtown, Pennsylvania
March 23, 2002
Report of Independent Auditors
The Board of Directors and Shareholders
Digital Descriptor Systems, Inc.
We have audited the accompanying balance sheet of Digital Descriptor Systems,
Inc. as of December 31, 2000, and the related statements of operations,
shareholders' equity, and cash flows for the year then ended. 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 audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. 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 audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Digital Descriptor Systems,
Inc. as of December 31, 2000, and the results of its operations and its cash
flows for the year then ended, in conformity with accounting principles
generally accepted in the United States.
The accompanying financial statements have been prepared assuming that Digital
Descriptor Systems, Inc. will continue as a going concern. As discussed in Note
2 to the financial statements, the Company has never been profitable and
continues to incur losses from operations and anticipates that it will require
additional debt and/or equity financing in 2001, which may not be readily
available. These matters raise substantial doubt about the Company's ability to
continue as a going concern. Management's plans relating to these matters are
described in Note 2. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
March 23, 2001
DIGITAL DESCRIPTOR SYSTEMS, INC.
BALANCE SHEETS
ASSETS December 31 September 30
2001 2000 2002
---- ---- ----
Current Assets: (Audited) (Unaudited)
Cash $ 435,662 $ 202,877 $ 102,865
Restricted cash 5,969 10,452 1,051
Investment - 1,000 -
Accounts receivable, less allowance
for uncollectible accounts of $87,930 and $114,000
in 2001 and 2000, and $74,410l(unaudited) in 2002, respectively 107,948 526,292 7,820
Inventory 5,665 22,596 160,676
Prepaid expenses 267,534 8,698 153,696
Advance - employees - - 200,176
Debt discount and deferred financing costs 807,014 228,500 160,562
------------ ------------ ------------
Total current assets 1,629,792 1,000,415 647,688
Note Receivable - Former Officer, Less Allowance
for Uncollectible Notes of $177,400 and $-0-
in 2001 and 2000, and $157,753 (unaudited) in 2002, respectively - 165,525 -
Software Development Costs - 413,604 -
Furniture and Equipment, Net 37,090 172,046 15,772
Deposits and Other Assets 24,395 31,454 24,395
------------ ------------ ------------
TOTAL ASSETS $ 1,691,277 $ 1,783,044 $ 687,855
============ ============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIENCY)
Current Liabilities:
Accounts payable $ 418,764 $ 481,163 $ 369,054
Accrued expenses 175,742 189,209 212,692
Accrued payroll and related withholdings - - 289,247
Deferred income 854,618 854,787 497,943
Current portion of equipment loan 7,211 7,147 7,260
Convertible debentures 965,000 200,000 1,106,731
------------ ------------ ------------
Total Current Liabilities 2,421,335 1,732,306 2,482,927
Equipment Loan, Net of Current Portion 20,066 28,626 14,615
------------ ------------ ------------
Total Liabilities 2,441,401 1,760,932 2,497,542
Shareholders' Equity (Deficiency):
Preferred stock, $.01 par value: authorized shares - 1,000,000;
issued and outstanding shares - none - - -
Common stock, $.001 par value: authorized shares - 150,000,000;
issued and outstanding shares - 48,045,610 at December 31, 2001
and 58,156,490 at September 30, 2002 48,045 20,011 58,156
Additional paid-in capital 16,726,819 14,544,579 16,782,748
Accumulated deficit (17,524,988) (14,542,478) (18,650,591)
------------ ------------ ------------
Total Shareholders' Equity (Deficiency) (750,124) 22,112 (1,809,687)
------------ ------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIENCY) $ 1,691,277 $ 1,783,044 $ 687,855
============ ============ ============
The Notes to Financial Statements are an integral part of these statements.
F-3
DIGITAL DESCRIPTOR SYSTEMS, INC.
STATEMENTS OF OPERATIONS
Year Ended December 31 Nine Months Ended September 30
2001 2000 2002 2001
---- ---- ---- ----
(Audited) (Unaudited)
Revenues:
Software $ 938,654 $ 2,060,499 $ 439,390 $ 591,066
Hardware 94,350 229,525 63,984 68,325
Maintenance 520,837 583,349 454,469 396,674
Consulting 68,863 91,249 55,468
Other 104,003 61,836 30,208 41,268
----------- ----------- ----------- -----------
Total Revenues 1,726,707 3,026,458 988,051 1,152,801
Costs and Expenses:
Cost of revenues 708,703 1,615,286 376,860 434,510
General and administrative 1,705,242 1,843,336 723,373 1,320,601
Sales and marketing 454,169 917,381 75,505 362,605
Research and development 383,217 536,350 168,091 284,818
Write-off of software development costs 413,604 - - -
Provision for doubtful note receivable - former officer 177,400 - - -
Depreciation 138,452 162,330 21,318 189,055
Interest and amortization of deferred debt costs 753,029 1,775 772,809 484,281
Other (income) expense, net (24,599) (19,948) (24,302) (20,288)
----------- ----------- ----------- -----------
Total Costs and Expenses 4,709,217 5,056,510 2,113,654 3,055,582
----------- ----------- ----------- -----------
Net Loss $(2,982,510) $(2,030,052) $(1,125,603) $(1,902,781)
=========== =========== =========== ===========
Net Loss Per Common Share (Basic and Diluted) $ (0.12) $ (0.11) $ (0.02) $ (0.09)
=========== =========== =========== ===========
Weighted Average Number of Common Shares Outstanding:
Basic and Diluted 24,436,773 18,557,547 55,297,784 21,708,767
=========== =========== =========== ===========
The Notes to Financial Statements are an integral part of these statements.
F-4
DIGITAL DESCRIPTOR SYSTEMS, INC.
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIENCY)
FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2000 AND THE NINE MONTHS ENDED SEPTEMBER 30, 2002
Common Stock
---------------------- Additional
Shares Amount Paid-in Capital
---------- ------- ---------------
Balance at December 31, 1999 14,380,127 $ 4,380 $12,957,544
Issuance of common shares in connection
with a Reg. A Offering, net of offering
costs 4,426,485 4,426 1,159,640
Issuance of common stock for services 1,205,000 1,205 259,895
Debt discount relating to the beneficial
conversion feature on convertible
debentures and issuance of warrants - - 167,500
Amortization of unearned compensation - - -
Net loss - - -
---------- ------- -----------
Balance at December 31, 2000 20,011,612 20,011 14,544,579
Issuance of common shares in connection
with a Reg. A Offering, net of offering
costs 7,999,996 8,000 221,000
Issuance of common stock for services 4,328,831 4,329 409,993
Conversions of convertible debentures to
common stock 15,705,171 15,705 494,747
Debt discount relating to the beneficial
conversion feature on convertible
debentures and issuance of warrants - - 1,056,500
Net loss - - -
---------- ------- -----------
Balance at December 31, 2001 48,045,610 48,045 16,726,819
Issuance of common stock for services 360,000 360 14,040
Conversions of convertible debentures to
common stock (unaudited) 4,659,968 4,660 27,711
Net loss - - -
---------- ------- -----------
Balance at March 31, 2002 (Unaudited) 53,065,578 53,065 16,768,570
Conversions of convertible debentures to
common stock (unaudited) 5,090,912 5,091 14,178
Net loss - - -
---------- ------- -----------
Balance at June 30, 2002 (Unaudited) 58,156,490 58,156 16,782,748
Conversions of convertible debentures to
common stock (unaudited) - - -
Net loss - - -
---------- ------- -----------
Balance at September 30, 2002 (unaudited 58,156,490 58.156 16,782,748
[RESTUBBED TABLE]
Shareholders'
Unearned Accumulated Equity
Compensation Deficit (Deficiency)
------------ ------------ -----------
Balance at December 31, 1999 $(14,000) $(12,512,426) $ 445,498
Issuance of common shares in connection
with a Reg. A Offering, net of offering
costs - - 1,164,066
Issuance of common stock for services - - 261,100
Debt discount relating to the beneficial
conversion feature on convertible
debentures and issuance of warrants - - 167,500
Amortization of unearned compensation 14,000 - 14,000
Net loss - (2,030,052) (2,030,052)
-------- ------------ -----------
Balance at December 31, 2000 - (14,542,478) 22,112
Issuance of common shares in connection
with a Reg. A Offering, net of offering
costs - - 229,000
Issuance of common stock for services - - 414,322
Conversions of convertible debentures to
common stock - - 510,452
Debt discount relating to the beneficial
conversion feature on convertible
debentures and issuance of warrants - - 1,056,500
Net loss - (2,982,510) (2,982,510)
-------- ------------ -----------
Balance at December 31, 2001 - (17,524,988) (750,124)
Issuance of common stock for services - 14,400
Conversions of convertible debentures to
common stock (unaudited) 32,371
Net loss - (464,831) (464,831)
-------- ------------ -----------
Balance at March 31, 2002 (Unaudited) - (17,989,819) (1,168,184)
Conversions of convertible debentures to
common stock (unaudited) 19,269
Net loss - (431,689) (431,689)
-------- ------------ -----------
Balance at June 30, 2002 (Unaudited) - (18,421,508) (1,580,604)
Conversions of convertible debentures to
common stock (unaudited) - - -
Net loss - - -
-------- ------------ -----------
Balance at September 30, 2002 (unaudited - (18,650,591) (1,809,688)
F-5
DIGITAL DESCRIPTOR SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
Year Ended December 31
2001 2000
---- ----
(Audited)
---------
Cash Flows from Operating Activities:
Net loss $(2,982,510) $(2,030,052)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation 138,452 162,330
Write-off of software development costs 413,604 -
Provision for doubtful note receivable - former officer 177,400 -
Compensation expense in connection with issuance of Common Stock
Common stock issued for services received 414,322 261,100
Amortization of deferred financing costs and debt discounts related
to the issuance of warrants and the beneficial conversion
feature of convertible debentures 676,486 -
Accrued interest converted into Common Stock - -
Amortization of unearned compensation - 14,000
Changes in assets and liabilities:
Accounts receivable 418,344 330,303
Inventory 16,931 26,097
Prepaid expenses, deposits and other assets (251,777) (19,219)
Advances - employees - -
Accounts payable (62,399) 360,026
Accrued expenses 21,985 24,395
Accrued payroll and related withholdings - -
Deferred income (169) (463,147)
----------- -----------
Net Cash Used in Operating Activities (1,019,331) (1,334,167)
Cash Flows from Investing Activities:
Proceeds from sale of investment 1,000 -
Purchase of furniture and equipment (3,496) (30,325)
(Increase) Decrease in note receivable - former officer (11,875) (11,875)
(Increase) Decrease in restricted cash 4,483 99,548
----------- -----------
Net Cash Provided by (Used in) Investing Activities (9,888) 57,348
Cash Flows from Financing Activities:
Net proceeds from issuance of common stock 229,000 1,164,066
Proceeds from the issuance of convertible debentures 1,056,500 139,000
Payment of convertible debentures (15,000) -
Deferred financing costs - -
Repayment of equipment loan (8,496) (593)
----------- -----------
Net Cash Provided by Financing Activities 1,262,004 1,302,473
----------- -----------
Net Increase (Decrease) in Cash 232,785 25,654
Cash at Beginning of Year/Period 202,877 177,223
----------- -----------
Cash at End of Year/Period $ 435,662 $ 202,877
=========== ===========
[RESTUBBED TABLE]
Nine Months Ended September 30
2002 2001
---- ----
(unaudited)
-----------
Cash Flows from Operating Activities:
Net loss $(1,125,603) $(1,902,781)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation 21,318 189,055
Write-off of software development costs - -
Provision for doubtful note receivable - former officer - -
Compensation expense in connection with issuance of Common Stock - 266,781
Common stock issued for services received 14,400 -
Amortization of deferred financing costs and debt discounts related
to the issuance of warrants and the beneficial conversion
feature of convertible debentures 684,201 440,444
Accrued interest converted into Common Stock - 5,077
Amortization of unearned compensation - -
Changes in assets and liabilities:
Accounts receivable 100,128 (29,439)
Inventory (8,333) (25,391)
Prepaid expenses, deposits and other assets 106,858 (319,797)
Advances - employees (200,716) -
Accounts payable (49,710) 175,877
Accrued expenses 55,323 (19,906)
Accrued payroll and related withholdings 289,247 -
Deferred income (356,675) 548,349
----------- -----------
Net Cash Used in Operating Activities (469,562) (671,731)
Cash Flows from Investing Activities:
Proceeds from sale of investment - -
Purchase of furniture and equipment - (3,766)
(Increase) Decrease in note receivable - former officer - (8,906)
(Increase) Decrease in restricted cash 4,918 10,452
----------- -----------
Net Cash Provided by (Used in) Investing Activities 4,918 (2,220)
Cash Flows from Financing Activities:
Net proceeds from issuance of common stock - -
Proceeds from the issuance of convertible debentures 175,000 755,000
Payment of convertible debentures - -
Deferred financing costs (37,750) (121,000)
Repayment of equipment loan (5,402) (5,354)
----------- -----------
Net Cash Provided by Financing Activities 131,848 628,646
----------- -----------
Net Increase (Decrease) in Cash (332,796) (45,305)
Cash at Beginning of Year/Period 435,661 202,877
----------- -----------
Cash at End of Year/Period $ 102,865 $ 157,572
=========== ===========
The Notes to Financial Statements are an integral part of these statements.
F-6
DIGITAL DESCRIPTOR SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
Year Ended December 31 Nine Months Ended September 30
2001 2000 2002 2001
---- ---- ---- ----
(unaudited)
Supplemental Disclosure of Cash Flow Information:
- -------------------------------------------------
Cash paid during the year for:
Interest $ 7,263 $ 1,775 $ 3,694 $ 5,036
========== ======== ======= ========
Income taxes $ - $ - $ - $ -
========== ======== ======= ========
Supplemental Disclosure of Non-Cash Investing
and Financing Activities:
Acquisition of equipment with loan $ - $ 36,366 $ - $ -
========== ======== ======= ========
Debt discount relating to the issuance of warrants
and the beneficial conversion features of convertible debt $1,056,500 $167,500 $ - $ -
========== ======== ======= ========
Conversion of debentures and accrued
interest into common stock $ 510,452 $ - $51,640 $155,077
========== ======== ======= ========
The Notes to Financial Statements are an integral part of these statements.
F-7
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
Note 1 - Description of Business:
- ---------------------------------
Digital Descriptor Systems, Inc. (the "Company") incorporated in
Delaware in 1994, develops, assembles and markets computer
installations consisting of hardware and software, which capture video
and scanned images, link the digitized images to text and store the
images and text on a computer database and transmit this information to
remote locations. The principal product of the Company is the
Compu-Capture Law Enforcement Program, which is marketed to law
enforcement agencies and jail facilities and generated the majority of
the Company's revenues during the years ended December 31, 2001 and
2000, and for the nine months ended September 30, 2002 and 2001.
Substantially all of the Company's revenues are derived principally
from state and local governments.
Note 2 - Summary of Significant Accounting Policies:
- ----------------------------------------------------
Significant accounting policies followed by the Company in the
preparation of the accompanying financial statements are summarized
below:
A. Basis of Financial Statement Presentation
--------------------------------------------
The financial statements of the Company have been prepared assuming
the Company will continue as a going concern, which contemplates the
realization of assets and the satisfaction of liabilities in the
normal course of business. The Company has never been profitable and
has incurred substantial losses from operations of $2,982,510 and
$2,030,052 for the years ended December 31, 2001 and 2000,
respectively and, $1,125,603 and $1,902,781 for the nine months
ended September 30, 2002 and 2001, respectively. The Company expects
that losses from operations will continue through 2002 and the
Company anticipates that it will require additional financing in
2002, which may not be readily available. These factors raise
substantial doubt about the Company's ability to continue as a going
concern. The Company's plans include expanding the sale and
acceptance of its core business solutions by hiring additional sales
resources and increased marketing activities. The Company is also
pursuing FBI Certification and introduction to the marketplace of
the Compu-Scan 3000 fingerprint-capturing device. However, there can
be no assurances that the Company will be successful in their
efforts to generate profitable operations. The financial statements
do not include any adjustments that might result from the outcome of
this uncertainty. Financial presentation may have been changed due
to reclassifications of certain items.
B. Use of Estimates
-------------------
The preparation of the financial statements in conformity with
generally accepted accounting principles 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
revenues and expenses during the reported period. Actual results
could differ from those estimates.
C. Interim Financial Information
--------------------------------
The financial statements and disclosures included herein for the
nine months ended September 30, 2002 and 2001 are unaudited. These
financial statements and disclosures have been prepared by the
Company in accordance with accounting principles generally accepted
in the United States for interim financial information. Accordingly,
they do not include all of the information and footnotes required by
accounting principles generally accepted in the United States for
complete financial statements. In the opinion of management, all
adjustments (consisting of adjustments of a normal and recurring
nature) considered necessary have been included. Operating results
for the nine month periods ended September 30, 2002 and 2001 are not
necessarily indicative of the results that may be expected for the
year ended December 31, 2002.
D. Inventory
------------
Inventory is valued at the lower of cost (determined on a first-in,
first-out basis) or market.
F-8
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
E. Revenue Recognition
----------------------
The Company derives revenue from the sale of hardware, software,
post customer support (PCS), and other related services. PCS
includes telephone support, bug fixes, and rights to upgrades on a
when-and-if-available basis. Other related services include basic
consulting and training. Included with the hardware is software that
is not considered to be incidental. Revenue from transactions with
customers where the software component is not considered to be
incidental is allocated between the hardware and software components
based on the relative fair value of the respective components.
The Company also derives revenue from the sale of software without a
related hardware component. Revenue allocable to software components
is further allocated to the individual deliverable elements of the
software portion of the arrangement such as PCS and other services.
In arrangements that include rights to PCS for the software and/or
other services, the software component arrangement fee is allocated
among each deliverable based on the relative fair value of each of
the deliverables determined using vendor-specific objective
evidence, which has been established by the separate sales of these
deliverables.
The Company recognizes the revenue allocable to hardware and
software licenses upon delivery of the product to the end-user,
unless the fee is not fixed or determinable or collectibility is not
probable. If collectibility is not considered probable, revenue is
recognized when the fee is collected. Revenue allocable to PCS is
recognized on a straight-line basis over the period the PCS is
provided. Revenue allocable to other services is recognized as the
services are provided.
F. Property and Equipment
-------------------------
Property and equipment are stated at cost. Depreciation and
amortization is computed using the straight-line method over the
estimated useful lives of related assets. Depreciable lives of the
Company's property and equipment are presented below:
Years
Furniture and fixtures 5
Computer equipment 2
Vehicles 3
Leasehold improvements Estimated useful life of
the asset or term of the
lease whichever is shorter
Repair and maintenance costs are expensed when incurred, while
additions and improvements are capitalized. The cost and related
accumulated depreciation or amortization of assets sold or retired
is eliminated from the accounts and any gains or losses are
reflected in income.
G. Long-Lived Assets
--------------------
The Company evaluates impairment of its intangible and other
long-lived assets in accordance with Statement of Financial
Accounting Standards No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." In
making such determination, management compares the estimated future
cash flows, on an undiscounted basis, of the underlying operations
or assets with their carrying value to determine if any impairment
exists. If impairment exists, any adjustment is determined by
comparing the carrying amount to the fair value of the impaired
asset.
F-9
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
Note 2 - Summary of Significant Accounting Policies (Cont'd):
H. Software Development Costs
-----------------------------
The Company capitalizes software development costs after
technological feasibility of the software is established and through
the product's availability for general release to the Company's
customers. Technological feasibility of the Company's software
development costs is determined when the planning, designing,
coding, and testing activities are completed, and the Company has
established that the product can be produced to meet its design
specifications. All costs incurred in the research and development
of new software products and costs incurred prior to the
establishment of technological feasibility are expensed as incurred.
During 1999, $413,604 was capitalized as software development costs
in connection with the Company's new product entitled Compu-Scan, a
computerized inkless fingerprint device. During 2000, the Company
submitted this product for approval to the FBI. In 2001, due to
uncertainty as to whether the Company will be able to obtain funding
needed to complete development and the FBI approval process, the
Company wrote down the asset to a net realizable value of $-0-.
I. Income Taxes
---------------
The Company provides for income taxes under the liability method.
Deferred income taxes differences result from differences in the
timing of recognition by the Company of certain expenses, the
periods of depreciation of certain assets and net operating loss
carryforwards.
J. Accounting for Stock Options
-------------------------------
Financial Accounting Standards Board issued Statement No. 123 (SFAS
123), "Accounting for Stock-Based Compensation." SFAS 123 provides
companies with a choice to follow the provisions of SFAS 123 in
determination of stock-based compensation expense or to continue
with the provisions of Accounting Principles Board Opinion No. 25
(APB 25). The Company has elected to follow the provisions of APB
25. Under APB 25, if the exercise price of the Company stock options
equals or exceeds the market price of the underlying Common Stock on
the date of grant, no compensation expense is recognized. The effect
of applying SFAS 123 to the Company's stock-based awards results in
net loss and net loss per common share that are disclosed on a pro
forma basis in Note 9.
K. Net Loss Per Common Share
----------------------------
Basic loss per share is calculated by dividing the net loss by the
weighted average common shares outstanding for the period. Diluted
loss per share is calculated by dividing the net loss by the
weighted average common shares outstanding of the period plus the
dilutive effect of common stock equivalents. No exercise of common
stock equivalents were assumed during any period because the assumed
exercise of these securities would be anti-dilutive.
L. Concentration of Credit Risk
-------------------------------
Financial instruments which potentially subject the Company to a
concentration of credit risk principally consist of cash and
accounts receivable. Concentration of credit risk, with respect to
accounts receivable, is limited due to the Company's credit
evaluation process. The Company does not require collateral from its
customers. The Company sells its principal products to end users and
distributors principally in the United States.
M. Fair Value of Financial Instruments
--------------------------------------
The carrying value of cash and cash equivalents, accounts
receivable, note receivable, and accounts payable, accrued expenses
and convertible debentures approximates their fair value based on
the liquidity of these financial instruments or based on their
short-term nature.
F-10
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
N. Impact of Recent Accounting Pronouncements
---------------------------------------------
In August 2001, the FASB issued SFAS No. 144 "Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses
financial accounting and reporting for the impairment or disposal of
long-lived assets and supercedes SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets to be Disposed Of. Statement 144 is
effective for the Company beginning on January 1, 2002. The Company
does not expect that the adoption of SFAS No. 144 will have a
significant impact on the Company's financial position or results of
operations.
In June 2001, the FASB issued SFAS No. 141, Business Combinations,
and No. 142 Goodwill and Other Intangible Assets, effective for
fiscal years' beginning after December 15, 2001. Under the new rules
goodwill and intangible assets deemed to have indefinite lives will
no longer be amortized but will be subject to annual impairment
tests in accordance with the Statements. Other intangible assets
will continue to be amortized over their useful lives. The adoption
of this statement will not have a significant impact on the
Company's financial position or results of operations.
In June 1999, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 133,
"Accounting for Derivatives and Hedging Activities" (SFAS 133),
which established accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in
other contracts (collectively referred to as derivatives), and for
hedging activities. SFAS 133 is effective for fiscal years beginning
after June 15, 2000. Under SFAS 133, accounting for changes in fair
value of a derivative depends on its intended use and destination.
The Company adopted SFAS 133 during the first quarter of 2001. The
adoption did not have a significant impact on the Company's
financial position or results of operations.
F-11
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
Note 3 - Note Receivable - Former Officer:
- ------------------------------------------
During 1996, the Company loaned the former President (departed
January 25, 2002) of the Company $125,000 evidenced by a promissory
note. The note bore interest at the prime rate plus 1%, and was
payable together with the principal on August 13, 1999. The
Company's Board of Directors agreed to extend the maturity date of
this note indefinitely. At December 31, 2001 and 2000, and March 31,
2002, accrued interest, included in the note receivable in the
accompanying balance sheet was $52,400, $40,525 and $32,753
(unaudited), respectively. In 2001, due to uncertainty as to whether
the Company will collect the note, a reserve for uncollectible notes
was recorded in the amount of $177,400. In the first quarter of
2002, the Company received $19,647 of payments (unaudited) on the
loan.
Note 4 - Furniture and Equipment:
- ---------------------------------
Furniture and equipment consists of the following:
December 31
------------------------------ September 30, 2002
2001 2000 (Unaudited)
---- ---- ------------------
Furniture and fixtures $ 186,705 $ 186,705 $186,705
Computer equipment 274,945 271,449 274,945
Vehicles 59,049 59,049 59,049
Leasehold improvements 34,977 34,977 34,977
----------- ----------- --------
555,676 552,180 555,676
Less accumulated depreciation 518,586 380,134 539,904
----------- ----------- --------
$ 37,090 $ 172,046 $ 15,772
=========== =========== ========
Depreciation and amortization included as a charge to operations
amounted to $138,452 and $162,330 for the years ended December 31,
2001 and 2000, and $21,318 and $189,055 for the nine months ended
September 30, 2002 and 2001, respectively.
Note 5 - Convertible Debentures:
- --------------------------------
On September 30, 2002, DDSI issued two convertible debentures for an
aggregate amount of $100,000, with simple interest accruing at the
annual rate of 12%. These debentures are due September 30, 2003.
Interest payable on the Debentures shall be paid quarterly
commencing December 31, 2002. The holders shall have the right to
convert the principal amount and interest due under the debentures
into shares of DDSI's common stock. The conversion price in effect
on any Conversion Date shall be the lesser of (1) $.005 and (2) 50%
of the average of the lowest three inter-day sales prices of the
Common Stock during the twenty Trading Days immediately preceding
the applicable Conversion Date.
During April through June 2002, $19,269 (unaudited) of the
convertible debentures issued in March 2001 were converted into
5,090,912 (unaudited) shares of Common Stock. In addition, in June
2002, a 12% convertible promissory note for $75,000 was issued to
two investors. The conversion price is (i) 50% of the average of the
lowest three inter-day sales prices, or (ii) if the common stock is
then traded on the OTC Bulletin Board or Pink Sheets, the prices
asked by any person or entity acting as a market maker in the common
stock during the twenty trading days immediately preceding the
relevant date upon which a conversion is effected.
During January through March 2002, $14,000 (unaudited) of the
convertible debentures issued in March 2001 were converted into
2,456,140 (unaudited) shares of Common Stock. Additionally, accrued
interest of $18,371 (unaudited) relating to these notes was
converted into an additional 2,203,828 (unaudited) shares of Common
Stock.
F-12
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
On December 31, 2001 the Company issued three convertible debentures
for an aggregate amount of $500,000. The debentures are due December
31, 2002 and accrue interest at the rate of 12% per annum. Interest
on the debentures shall be paid quarterly commencing March 31, 2002.
The holders have the right to convert the principal amount plus
accrued interest into shares of the Company's common stock at any
time through maturity. The conversion price in effect on any
Conversion Date shall be the lesser of $.043 per share or 50% of the
average of the lowest three inter-day sales prices during the twenty
Trading Days immediately preceding the applicable Conversion Date.
The Company also issued common stock purchase warrants for the right
to purchase 1,500,000 shares of common stock of the Company at an
exercise price per share equal to the lesser of $.02 or the average
of the lowest three inter-day sales prices during the twenty Trading
Days immediately prior to exercise. The estimated fair value of the
warrants of $37,500 and the intrinsic value of the beneficial
conversion feature of $385,000 have been allocated to paid-in
capital. This resulting debt discount plus $77,500 of financing
charges is being amortized on a straight-line basis over the term of
the debentures. The debentures are collateralized by substantially
all of the Company's assets.
During September 2001, the Company issued two convertible debentures
for an aggregate amount of $400,000. These debentures are due on
September 30, 2002 and accrue interest at the rate of 12% per annum.
Interest on the debentures shall be paid quarterly commencing
December 31, 2001. The holders have the right to convert the
principal amount plus accrued interest into shares of the Company's
common stock at any time through maturity. The conversion price in
effect on any Conversion Date shall be the lesser of $.08 per share
or 50% of the average of the lowest three inter-day sales prices
during the ten Trading Days immediately preceding the applicable
Conversion Date. The Company also issued common stock purchase
warrants for the right to purchase 800,000 shares of common stock of
the Company at an exercise price per share equal to the lesser of
$.36 or the average of the lowest three closing sales prices for the
common stock during the twenty Trading Days immediately prior to
exercise. The estimated fair value of the warrants of $48,000 and
the intrinsic value of the beneficial conversion feature of $262,000
have been allocated to paid-in capital. This resulting debt discount
plus $90,000 of financing charges is being amortized on a
straight-line basis over the term of the debentures. The debentures
are collateralized by substantially all of the Company's assets.
During April 2001 and May 2001, the Company issued three convertible
notes for an aggregate amount of $155,000 and accrue interest at the
rate of 10% per annum. Interest on the debentures shall be paid
quarterly commencing June 30, 2001. The holders have the right to
convert the principal amount plus accrued interest into shares of
the Company's common stock thirty days prior to the maturity date.
The conversion price in effect on any Conversion Date shall be an
amount equal to 50% of the mean average price of the common stock
for the ten trading days prior to notice of conversion. The
intrinsic value of the beneficial conversion feature of $155,000 has
been allocated to paid-in capital. This resulting debt discount is
being amortized on a straight-line basis over the term of the
debentures. The debentures are collateralized by substantially all
of the Company's assets. During September 2001, $115,000 of the
notes were converted into 1,498,540 shares of free trading common
stock and 1,252,069 shares of restricted stock at conversion prices
ranging between of $.03895 and $.034 per share. In addition, $5,078
of accrued interest related to the debentures was converted into
132,827 shares of common stock. On the conversion date, the
unamortized portion of the debt discount related to the converted
debt, in the amount of $11,329, was charged to interest expense. In
October 2001, $15,000 of the convertible debentures were paid. The
parties have entered into an agreement to extend the maturity date
of the remaining balance of $25,000 for another year.
During March 2001, the Company issued two convertible debentures for
an aggregate amount of $200,000 with a maturity date of March 4,
2002. The debentures accrue interest at the rate of 12% per annum.
The holders have the right to convert the principal amount plus
accrued interest into shares of the Company's common stock at any
time through maturity. The conversion price in effect on any
Conversion Date shall be the lesser of $.08 per share or 50% of the
average of the lowest three inter-day sales prices during the ten
Trading Days immediately preceding the applicable Conversion Date.
F-13
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
The Company also issued common stock purchase warrants for the right
to purchase 200,000 shares of common stock of the Company at an
exercise price per share equal to the lesser of $.36 or the average
of the lowest three closing sales prices during the twenty Trading
Days immediately prior to the date of exercise. The estimated fair
value of the warrants of $64,000 and the intrinsic value of the
beneficial conversion feature of $105,000 have been allocated to
paid-in capital. This resulting debt discount plus $31,000 of
financing charges is being amortized on a straight-line basis over
the term of the debentures. The debentures are collateralized by
substantially all of the Company's assets. During November 2001
through December 2001, $160,000 of the debentures were converted
into 6,309,526 shares of common stock. On the conversion date, the
unamortized portion of the debt discount and deferred financing
costs related to the converted debt, in the amount of $40,479, was
charged to interest expense.
During December 2000, the Company issued $200,000 of convertible
debentures to two investors. The debentures accrue interest at 12%
per annum. The holder has the right to convert the debentures to
common shares at any time through maturity at a conversion price the
lessor of: $0.08 per share or 50% of the average of the lowest three
trading prices during the 20 days preceding the conversion date. The
debenture holders also received warrants to purchase 400,000 common
shares at an exercise price of $0.036 per share at any time before
December 28, 2003. The estimated fair value of the warrants of
$40,000 and the intrinsic value of the beneficial conversion feature
of $127,500 have been allocated to paid-in capital. This resulting
debt discount plus the $61,000 of financing charges was amortized on
a straight-line basis over the term of the debentures. During
September 2001 through November 2001 the debentures in the amount of
$200,000 were converted into 5,241,754 shares of common stock. In
addition, $30,374 of accrued interest related to the debentures was
converted into 1,012,494 shares of common stock. On the conversion
date, the unamortized portion of the debt discount and deferred
financing costs related to the converted debt, in the amount of
$41,756, was charged to interest expense.
Note 6 - Equipment Loan
- -----------------------
During 2000, the Company entered into a $36,366 automobile loan,
maturing in November 2005. The loan requires monthly installments of
$620, including interest at .9%. The loan is collateralized by the
automobile. Future maturities of the loan are as follows:
2002 $ 7,211
2003 7,276
2004 7,342
2005 5,448
2006 and Thereafter -
---------
$ 27,277
=========
Note 7 - Income Taxes:
- ----------------------
At December 31, 2001, the Company had federal net operating loss
carryforwards of approximately $11,124,000 to offset future federal
taxable income expiring in various years through 2021. The Company
also has state net operating loss carryforwards of approximately
$621,500 to offset future state taxable income expiring in various
years through 2021.
The timing and extent in which the Company can utilize future tax
deductions in any year may be limited by provisions of the Internal
Revenue Code regarding changes in ownership of corporations due to
certain ownership changes of the Company.
F-14
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
The tax effects of temporary differences that give rise to
significant portions of deferred tax assets and deferred tax
liabilities at December 31, 2001 and 2000 are as follows:
2001 2000
---- ----
Deferred tax assets:
Net operating loss carryforwards $ 3,838,269 $ 3,453,113
Bad debt reserves 37,810 43,519
Inventory reserves 1,868 200
Accrued expenses - 1,755
Depreciation 67,848 -
----------- -----------
Total deferred tax assets 3,945,795 3,498,587
Deferred tax liabilities:
Software development - (157,441)
Depreciation - (22,914)
----------- -----------
Total deferred tax asset 3,945,795 3,318,232
Valuation allowance (3,945,795) (3,318,232)
----------- -----------
Net deferred tax asset $ - $ -
=========== ===========
Note 8 - Commitments and Contingencies:
- ---------------------------------------
The Company is a defendant in a lawsuit filed by Accusoft
Corporation. Accusoft Corporation is seeking the termination of
certain license agreements and a preliminary injunction enjoining
the Company from using the above licenses in the sales of their
products. The ultimate outcome of this litigation cannot presently
be determined. However, in management's opinion, the likelihood of a
material adverse outcome is remote. Accordingly, adjustments, that
might result from the resolution of this matter, if any, have not
been reflected in the financial statements.
The Company leases certain facilities, vehicles and office equipment
under non-cancelable operating lease agreements that expire at
various dates through 2005. Future minimum lease payments at
December 31, 2001 are as follows:
2002 $ 118,194
2003 118,194
2004 118,486
2005 56,462
2006 and thereafter -
----------
$ 411,336
==========
Rental expense under such operating leases was approximately
$104,100 and $126,000 during the years ended December 31, 2001 and
2000, respectively.
Note 9 - Stock Option and Other Plans:
- --------------------------------------
The Company maintains the 1994 Restated Stock Option Plan (the 1994
Plan) pursuant to which the Company reserved 5,000,000 shares of
common stock. The options granted have a term of ten years and are
issued at or above the fair market value of the underlying shares on
the grant date. The Company also maintains the 1996 Director Option
Plan (the Director Plan) pursuant to which the Company reserved
200,000 shares of common stock. Under the Director Plan, each
outside director is automatically granted an option to purchase
15,000 shares of common stock (first option) upon adoption of the
Director Plan or the date such person becomes a director. Every year
thereafter, each outside director is automatically granted an option
to purchase 1,000 shares (subsequent option) on each date of the
annual meeting if a minimum of six months were served on the Board
of Directors. Options granted under the Director Plan are issued at
or above the fair market value of the underlying shares on the grant
date. A portion of the first option vests at the six-month
anniversary of the date of the grant and continues over a four-year
period. Subsequent options vest on the first anniversary of the
grant date. The options expire ten years from the date of the grant.
F-15
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
Note 9 - Stock Option and Other Plans (Cont'd):
The following is a summary of option activity under all plans:
Weighted
1996 Total Average
Director Number of Exercise
1994 Plan Plan Nonqualified Options Price
--------------------------------------------------------------------------
Outstanding at December 31, 1999 179,000 33,182 896,500 1,109,312 $.33-$3.81
Granted 843,000 - - 843,000 .10
Expired - - (7,500) (7,500) .37
--------------------------------------------------------------------------
Outstanding at December 31, 2000 1,022,000 33,812 889,000 1,944,812 $.10-$3.81
Granted - - - - -
Expired (103,500) ( 7,500) ( 208,000) (319,000) $.10-$3.81
--------------------------------------------------------------------------
Outstanding at December 31, 2001
and September 30, 2002 918,500 26,312 681,000 1,625,812 $.10-$3.81
==========================================================================
Exercisable options at
December 31, 2001
and September 30, 2002 918,500 26,312 681,000 1,625,812
=========================================================
At December 31, 2001, the remaining contractual life of outstanding
options was 8 years.
Pro forma information regarding net loss and net loss per common
share determined as if the Company accounted for stock options
granted under the fair value method of SFAS 123 is as follows:
December 31 September 30
----------------------------------- --------------------------
2001 2000 2002 2001
---- ---- ---- ----
(Unaudited) (Unaudited)
Net loss:
As reported $(2,982,510) $(2,030,052) $1,125,603 $1,902,781
Pro forma $(2,993,559) $(2,103,563) $1,136,652 $1,865,975
Net loss per share:
As reported $(.12) $(.11) $(.02) $(.09)
Pro forma $(.12) $(.12) $(.02) $(.09)
The Company estimated the fair value of stock options at the date of
grant by using a Black Scholes option pricing model with the
following weighted-average assumptions for grants in 2000 as
follows: risk-free interest rate of 5.5% for all years; expected
life of the option of 5 years; no expected cash dividend payments on
common stock, and volatility factors of the expected market price of
the Company's common stock of: 1.033. The weighted average estimated
fair value of stock options granted during 2000 was $.01. There were
no options issued in 2001.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. As noted above, the
Company's stock options are vested over an extended period. In
addition, option models require the input of highly subjective
assumptions including future stock price volatility. Because the
Company's stock options have characteristics significantly different
from those of traded options, and because changes in the subjective
assumptions can materially affect the fair value estimates, in
management's opinion, the Black-Scholes model does not necessarily
provide a reliable measure of the fair value of the Company's stock
options.
F-16
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
During 1997, the Company adopted the Consultants and Advisors
Compensation Plan (the Plan). Persons eligible under this Plan
include any consultant or advisor of the Company who has provided
bona fide services to the Company, except for services provided in
connection with the offer or sale of securities in an equity
transaction. The Company reserved 300,000 shares of common stock for
issuance under this Plan of which 211,357 shares have been awarded
through December 31, 2000. Awards may be granted in the form of
stock options or stock grants. No awards shall be made after
December 31, 2001. The Company has not awarded any stock options or
stock grants under this Plan since 1998.
Note 10 - Equity Transactions:
- ------------------------------
During October 2001 through December 2001, the Company received
$229,000 net of $11,000 of issuance costs, from the issuance of
7,999,996 shares of common stock at $.03 per share via subscription
agreements to various individuals.
During 2001 and 2000, the Company issued 4,328,831 and 1,205,000
shares, respectively, of restrictive common stock for services
received. The Company recorded a charge for the issuance of such
shares during 2001 and 2000 of $414,322 and $261,100, respectively,
based on the fair market value of the Company's common stock on the
date of the stock grant.
In connection with the Company's initial public offering in 1995,
the Company issued to each unit holder one Redeemable Class A
Warrant and one Redeemable Class B Warrant. The Warrants were
immediately detachable and separately transferable. Each Class A
Warrant entitled the holder to purchase one share of common stock
for $6.00 subject to adjustment, during the four-year period
commencing one year from the date of the offering. Each Class B
Warrant entitled the holder to purchase one share of common stock
for $7.25 subject to adjustment, during the four-year period
commencing one year from the date of the offering. The Class A and
Class B Warrants are subject to redemption by the Company at any
time, (within thirty days notice) at $.10 per warrant provided that
the per share closing bid price of the common stock exceeds 175% of
the exercise price for the Class A Warrant, and 200% of the exercise
price for the Class B Warrant, for at least 20 consecutive trading
days. During July 2000, the Company's Board of Directors reduced the
exercise price of the Class A Warrants from $6.00 to $1.00, and
reduced the exercise price of the Class B Warrants from $7.50 to
$1.50. The expiration date for the Class A and Class B Warrants was
extended from August 15, 2000 to August 15, 2002. At December 31,
2001 and 2000, there were 1,483,750 Redeemable Class A Warrants
outstanding and 1,483,750 Redeemable Class B Warrants outstanding.
During July 1994, the Chairman excercised rights to purchase 119,999
shares of Common Stock at $.001 per share in connection with an
employment agreement. The Company recorded $120,000 in unearned
compensation, based on the fair value of the restricted stock at the
date of issuance. Such unearned compensation has amortized to
expense in the statement of operations over the period of the
employment agreement. Amortization expense of $-0- and $14,000 was
recorded during the years ended December 31, 2001 and 2000,
respectively.
At December 31, 2001, the Company has the following common shares
reserved for issuance:
Common stock options available to grant 4,255,188
Common stock options outstanding 1,625,812
Common stock purchase rights 119,999
Class A warrants outstanding 1,483,750
Class B warrants outstanding 1,483,750
Common stock available for grant:
Employee stock purchase plan 100,000
Consultants and advisors compensation plan 88,643
Convertible debentures 12,846,668
----------
Total 22,003,810
==========
F-17
DIGITAL DESCRIPTOR SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
Note 11 - Subsequent Events:
On January 19, 2002 the Company received a letter from a shareholder
threatening legal action pursuant to an October 2001 private
placement offering. The letter from the shareholder alleged false
and misleading statements were made by the Company in relation to
convertible debenture funding and that the convertible debt was not
properly approved by the board. The Company believes that the
allegations are without merit. Currently no legal action has been
filed, however, the Company intends to vigorously defend itself
against such allegations if they are pursued.
During January 2002, the Company issued 360,000 shares of restricted
common stock for consulting services received. Such shares were
valued at the fair market value on the date the shares were granted.
During January 2002, the Company issued 1,500,000 shares of common
stock in payment of $12,600 accrued interest on convertible
debentures. During February 2002, the Company issued 703,828 shares
of common stock in payment of $5,771 of accrued interest on
convertible debentures.
During February 2002, $14,000 of debentures were converted into
2,456,140 shares of common stock.
In April 2002, the Company entered into an agreement to extend the
maturity date of the convertible debentures issued in March 2001 in
the amount of $200,000 with a maturity date of March 4, 2002 for an
additional year.
Note 12 - Subsequent Events (unaudited)
- ---------------------------------------
During October 2002, $5,333 of convertible debentures issued in
December 2001, were converted into 3,194,897 shares of common stock.
On September 30, 2002, DDSI issued two convertible debentures for an
aggregate amount of $100,000, with simple interest accruing at the
annual rate of 12%. These debentures are due September 30, 2003.
Interest payable on the Debentures shall be paid quarterly
commencing December 31, 2002. The holders shall have the right to
convert the principal amount and interest due under the debentures
into shares of DDSI's common stock. The conversion price in effect
on any Conversion Date shall be the lesser of (1) $.005 and (2) 50%
of the average of the lowest three inter-day sales prices of the
Common Stock during the twenty Trading Days immediately preceding
the applicable Conversion Date.
During April through June 2002, $19,269 of the convertible
debentures issued in March 2001 were converted into 5,090,912 shares
of Common Stock. In addition, In June 2002, a 12% convertible
promissory note for $75,000 was issued to two investors. The
conversion price is (i) 50% of the average of the lowest three
inter-day sales prices, or (ii) if the common stock is then traded
on the OTC Bulletin Board or Pink Sheets, the prices asked by any
person or entity acting as a market maker in the common stock during
the twenty trading days immediately preceding the relevant date upon
which a conversion is effected.
F-18
Summary Financial Information
The summary historical financial data should be read in conjunction with the
financial statements (and notes thereto) of our Company and the "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this Proxy Statement.
Year ended December 31 Nine Months Ended September 30
2001 2000 2002 2001
------------------------------ --------------------------------
(Audited) (Unaudited)
Net sales $ 1,726,707 $ 3,026,458 $ 988,051 $ 1,152,800
Cost of revenues 708,703 1,615,286 376,860 269,788
General and administrative 1,705,242 1,843,336 723,373 1,320,601
Sales and marketing 454,169 917,381 75,505 362,605
Research and development 383,217 536,350 168,091 284,818
Write-off of software development costs 413,604 - - -
Provision for doubtful note receivable -
former officer 177,400 - - -
Depreciation 138,452 162,330 21,318 189,055
Interest & amortization of deferred
debt costs 753,029 1,775 772,809 484,281
Other (income) expense, net (24,599) (19,948) (24,302) (20,288)
------------------------------ --------------------------------
Net Loss $(2,982,510) $(2,030,052) $(1,125,603) $(1,902,781)
============================== ================================
Weighted average Common
Shares outstanding 24,436,773 18,557,547 55,297,784 21,708,767
============================== ================================
Basic loss per share $ (0.12) $ (0.11) $ (0.02) $ (0.09)
============================== ================================
Current Assets $ 1,629,792 $ 1,000,415 $ 647,688 $ 1,629,792
Total Assets $ 1,691,277 $ 1,783,044 $ 687,855 $ 1,691,277
Current Liabilities $ 2,421,335 $ 1,732,306 $ 2,482,927 $ 2,421,335
Total Liabilities $ 2,441,401 $ 1,760,932 $ 2,497,542 $ 2,441,401
Shareholders' equity (deficit) $ (750,124) $ 22,112 $(1,809,687) $ (750,124)
F-19
Management's Discussion and Analysis or Plan of Operation
Plan of Operations
- ------------------
The short-term objectives of DDSI are the following:
1. The short-term objective of DDSI is to continue to expand the sale and
acceptance of its core solutions by offering new and synergistic biometric
(a measurable, physical characteristic or personal behavioral trait used to
recognize the identity, or verify the claimed identity, of an individual)
(i.e. FMS) security products to its installed base in the criminal justice
market. The Company's objective is to expand with these, and additional
products, into much larger commercial and federal markets.
DDSI's long-term objectives are as follows:
1. To seek additional products to sell into its basic business
market--Criminal Justice -- so that DDSI can generate sales adequate enough
to allow for profits. New products include FMS (Fingerprint Matching
System), and Identify on Demand.
2. Continue pursuing the FBI certification of the Compu-Scan 3000 fingerprint
capturing device. This would include redesigning the slap unit of the
Compu-Scan to capture a palm print as well as a fingerprint. In addition
consideration will be given to the creation of a contactless single digit
reader that would not require FBI certification. There is no guarantee that
the company will be able to raise sufficient funding to complete this
project or that it will ever be able to meet FBI certification
DDSI believes that it will not reach profitability until the year 2003. Over the
next twelve months, management is of the opinion that sufficient working capital
will be obtained from operations and external financing to meet the Company's
liabilities and commitments as they become payable. DDSI has in the past
successfully relied on private placements of common stock securities, bank debt,
loans from private investors and the exercise of common stock warrants in order
to sustain operations. If DDSI is unable to obtain additional funding in the
future, it may be forced to curtail or terminate operations.
DDSI is doing the following in its effort to reach profitability:
o Cut costs in areas that add the least value to DDSI.
o Derive funds through investigating business alliances with other
companies who may wish to license the Compu-Scan device or o the FMS
SDK (software developers kit).
o Increase revenues through the introduction of Compu-Capture,
specifically towards kindergarden through twelfth grades, for the
creation of ID cards.
o Increase revenues through the introduction of a scaled down version of
our Compu-Capture product.
Results of Operations
- ---------------------
Nine Months September 30, 2002 Compared to the Nine Months
Ended September 30, 2001
- ----------------------------------------------------------
Revenues for the nine months ended September 30, 2002 of $988,051 decreased
$164,750 or 14% from the nine months ended September 30, 2001. DDSI generates
its revenues through software licenses, hardware, post customer support
arrangements and other services. The decrease in DDSI's revenue is attributed to
discontinued sales of the SI-3000 product line at the end of the first quarter
in 2001. SI-3000 products' largest revenue impact was in software sales. These
revenues are included in deferred revenue until the job has been completed and
F-20
"signed-off" by the client. Once that job is completed, revenue is then
recognized on the income statement. During the first nine months of 2002, DDSI
recognized revenue of $211,500 from software sales and software maintenance
agreements from previous installations of SI-3000. Maintenance revenues
increased $57,795 or 14% from the nine months ended September 30, 2001 primarily
due to an increase in DDSI's customer's service and additional stations being
purchased by customers which include software maintenance agreements.
Cost of goods for the period ended September 30, 2002 was $376,860 a decrease of
$57,650 or 13% from the same period, prior year. The decrease was attributable
to the decrease in SI-3000 projects. Cost of goods sold as a percentage of
revenue for the period ended September 30, 2002 was 38% of total revenues,
versus 38% in the same period a year earlier.
Costs and expenses decreased $938,604 or 34% during the nine months ended
September 30, 2002 versus the nine months ended September 30, 2001. The decrease
is due primarily to the cost containment efforts of the Company. This decrease
was offset by an increase in interest and amortization of deferred debt cost of
$772,809 in connection with the convertible debentures issued in 2001. All other
expenses of the Company experienced decreases for the nine months ended
September 30, 2002 versus the nine months ended September 30, 2001.
General and Administrative expenses for the nine month period ending September
30, 2002 was $723,373 versus $1,320,601 for the same period prior year for a
decrease of $597,228 or 45%. This decrease was mainly attributable to a decrease
in salaries and related payroll expenses of $170,606, a prior year charge in
miscellaneous of $266,780 for services paid in stock, a decrease in accounting
fees of $68,812, a decrease in insurance costs of $22,344, and miscellaneous
items for $55,000.
Sales and Marketing expenses decreased $287,100 for the nine-month period ended
September 30, 2002 from $362,605 (2001) to$75,505 (2002) or a 79% decrease. This
decrease was mainly attributable to a decrease in salaries, commissions,
benefits and payroll taxes in the aggregate of $167,034, travel expenses of
$47,361, a decrease in public relations / advertising costs of $18,380, a
reduction in trade show expenses of $4,303, a decrease in hiring expenses of
$36,300, a cost cut in computer expenses of $5,529 and miscellaneous items for
$8,152.
Research and development for the nine months ended September 30, 2002 was
$168,091 compared to $284,818 for the same period prior year for a decrease of
$116,727, which was due in part to a decrease in research and development
consulting costs of $15,099. Also contributing to the overall decrease was the
decline in salaries, benefits and payroll taxes in the aggregate of $69,433,
travel expenses by $27,630 and miscellaneous items of $4,100.
The net loss for the Company decreased 41% for the nine months ending September
30, 2002 to ($1,128,926) from ($1,902,781) for the nine months ending September
30, 2001. This was principally due to the decrease in expenses during the
period.
Net cash used in operating activities for the nine months ended September 30,
2002 and 2001 was ($469,562) and ($671,731), respectively. The decrease in cash
used from operating activities in the nine months ended September 30, 2002
versus 2001 of $202,169 was principally due to the decrease in net loss for the
nine months.
Net cash provided by (used in) investing activities nine months ended September
30, 2002 and 2001 was $4,918 and $(2,220) respectively, reflecting a change of
$7,138. This change is due to lack of purchases of furniture and equipment for
the nine months ended September 30, 2002 as compared to the same period prior
year.
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Net cash provided by financing activities was $131,848 and $628,646 for the nine
months ended September 30, 2002 and 2001, respectively, reflecting a decrease of
496,798. This decrease was principally due to decrease in proceeds from issuance
of convertible debenture.
Three Months September 30, 2002 Compared to the Three Months Ended
September 30, 2001
- -------------------------------------------------------------------
Revenues for the three months ended September 30, 2002 of $573,892 versus three
months ended September 30, 2001 of $427,543 increased $146,349 or 34%. As
indicated above, the Company generates its revenues through software licenses,
hardware, post customer support arrangements and other services. The increase in
the Company's revenue is attributed to the completion of an SI-3000 project.
Maintenance revenues increased $12,121 or 9% from the three months ended
September 30, 2001 primarily due to an increase in the Company's customers
entering into such arrangements and the revenue sharing agreement with Itx on
maintenance of the SI-3000 product. Other revenues consist of sales of supplies
that the Company makes available to its customers, such as wristbands, ID cards
and print packs. More customers ordered such items in the three months ended
September 30, 2002 versus 2001. Cost of goods increased $130,125 or 79% due to
the completion of the SI-3000 project; whereas there was less SI-3000 activity
during the same period in 2001. Cost of goods consisted of 51% of total revenues
for 2002; whereas cost of goods in 2001 consisted of 39% of the revenues.
Costs and expenses decreased $256,334 or 41% during the three months ended
September 30, 2002 versus the three months ended September 30, 2001. The
decrease is due to reduction of general and administrative related expenses such
as stock for services ($80,250), salaries ($40,844), insurance costs ($9,989). A
decrease of ($37,776) in the sales and marketing departments was a result of
lower costs. The research and development department also contributed to the
overall decrease in reducing consulting costs of ($86,426).
The net loss for the Company decreased 61% for the three months ending September
30, 2002 to ($232,406) from ($599,138) for the three months ending September 30,
2001. This was principally due to the decrease in cost of goods and overall
operating costs during the period.
Year Ended December 31, 2001 versus Year Ended December 31, 2000
- ----------------------------------------------------------------
Revenues for the year ended December 31, 2001 of $1,726,707 decreased by 43%
from 2000. The Company generates its revenues through software licenses,
hardware, post customer support arrangements and other services. The decrease in
the Company's revenue for software and hardware during the period is attributed
to a decrease in the sales of the SI-3000 product, which the Company has ceased
to actively sell. Maintenance revenues decreased $62,512 or 11% from the year
ended December 31, 2000 primarily due to a decrease in the Company's customers
entering into such arrangements and the revenue sharing agreement with Itx on
maintenance of the SI-3000 product line. Since Itx provided the support, there
was a 90/10 revenue split. The 10% payment to DDSI covers the Company's
accounting and administrative efforts. DDSI has an arms length relationship with
Itx and does not have a relationship with any of its officers or directors. DDSI
has an agreement with Itx whereby if one of DDSI's FMS clients contracts for
maintenance, Itx provides the maintenance. Other revenues consist of sales of
supplies that the Company makes available to its customers, such as wristbands,
ID cards and print packs. More customers ordered such items in the year ended
December 31, 2001 versus December 31, 2000, which accounted for the modest
increase. Cost of goods decreased $906,583 or 56% due to the decrease in
revenues and was reduced to 41% of total revenues from 53% in the same period a
year earlier. Both the lower cost of sales and the higher gross margin are
attributed to the decrease in sales of the SI-3000.
Operating Costs and expenses decreased $754,439 or 23% during the year ended
December 31, 2001 versus the year ended December 31, 2000. The decrease is due
primarily to the strict cost containment measures the Company has put in place
and the reorganization of the sales department. Non-operating expenses increased
$413,604 due to the write-off of capitalized software development costs related
F-22
to the Compu-Scan device. Other expenses also increased $900,125 due to interest
expense in connection with the convertible debentures issued in 2001 and the
provision for doubtful note receivable of former officer recorded in 2001. The
increase in other expenses of $900,125 for the year ending December 31, 2001
versus the year ending December 2000 was attributable to $530,780 of the
amortization of beneficial conversion costs related to the convertible
debentures, $184,945 in amortization of debt discounts, $177,400 in allowance
for ex-officer loan, and $7,000 in late charges.
General and Administrative for the twelve month period December 31, 2001 was
$1,705,242 versus $1,843,336 for the same period prior year for a decrease of
$138,094 or 7.5%. This decrease was mainly attributable to a decrease in
salaries of $56,110 and a prior year charge in miscellaneous of $84,808 for
services paid in stock.
Sales and Marketing and Research and Development expenses decreased $463,167 for
the twelve-month period December 31, 2001 from $917,381, or 50%. This decrease
was mainly attributable to a decrease in salaries and commissions of $333,337,
travel expenses of $158,259 offset by an increase in public relations of
$35,250.
Research and Development decreased $153,133 for the twelve month period ended
December 31, 2001 or 28.5% for the same period prior year. The decrease was
mainly attributable to a reduction in professional consulting of $145,889 plus a
reduction in travel & entertainment of $9,034.
Other expenses increased $1,313,729 due to the following: 1) a $413,604 charge
due to the write-off of capitalized software development costs related to the
Compu-Scan device, 2) a $580,780 charge for below market beneficial debt
conversion costs, 3) $184,945 in amortization of debt discounts, 3) $7,000 in
late fees, and 4) a $177,400 charge to bad debt.
The net loss for the Company increased 47% for the year ending December 31, 2001
to $2,982,510 from $2,030,052 for the year ending December 31, 2000. This was
principally due to the decrease in revenues for the period.
Net cash used in operating activities for the years ended December 31, 2001 and
2000 was $1,019,331 and $1,334,167, respectively. The change in cash from
operating activities in 2001 versus 2000 of $314,836 was principally due to the
increase in the net loss for the year ended December 31, 2001 versus 2000 of
$952,451 as well as due to amortization of debt discount of $676,486 for the
year ended December 31, 2001, offset by other changes in operating assets and
liabilities.
Net cash provided by (used in) investing activities was $(9,888) and $57,348 for
the years ended December 31, 2001 and 2000, respectively, reflecting a change of
$(67,236). This change is due to lesser purchases of furniture and equipment in
the year ended December 31, 2001, and less cash being released from restriction
in 2001.
Net cash provided by financing activities was $1,262,004 and $1,302,473 for the
years ended December 31, 2001 and 2000, respectively, reflecting a change of
$42,469. This decrease was principally due to only $229,000 in net proceeds
received from the issuance of the Company's common stock in 2001, versus
$1,164,066 received in 2000. The Company received net proceeds of $1,056,000
from the issuance of convertible debentures during the year ended December 31,
2001.
Year Ended December 31, 2000 versus Year Ended December 31, 1999
- ----------------------------------------------------------------
Revenues for the year ended December 31, 2000, $3,026,458, increased by 6% from
1999. The Company attributes this to the fact that the SI-3000 product line had
an increase in sales and the upgrade to Compu-Capture was completed. The Company
generates its revenues through software licenses, hardware, post customer
support arrangements and other services. The increase in the Company's software
F-23
fees during the period is attributed to the continued increase in the sales of
the SI-3000 product. Maintenance revenues increased $44,315 or 8% from the prior
period primarily due to an increase in the Company's customers entering into
such arrangements. Other revenues consist of sales of supplies that the Company
makes available to its customers, such as wristbands, ID cards and print packs.
Fewer customers ordered such items in the year ended December 31, 2000 versus
1999, which accounted for the decrease of $97,878 or 61%. The Company's gross
profit decreased 24% during the year ending December 31, 2000 versus the year
ending December 31, 1999, due to an increase in sales of the SI-3000 product
line which has lower margins. Overall the gross profit percentage per sale
decreased 19%.
Costs and expenses increased $376,455 or 12% during the year ended December 31,
2000 versus the year ended December 31, 1999. This increase is due to an
increase in general and administrative expenses in the amount of $249,490.
Additionally, research and development costs increased in the amount of $106,751
due principally to the continued upgrading of the Company's core software
packages to 32 bit code. Costs of revenues during this period increased as a
result of the corresponding increase in revenues as described above.
The net loss for the Company increased 68% for the year ending December 31, 2000
to $2,030,052 from $1,205,517 for the year ending December 31, 1999. This was
principally due to a lower percentage increase of revenues than the percentage
increase of costs and expenses during the year.
Net cash used in operating activities for the years ended December 31, 2000 and
1999 was $1,334,167 and $866,542, respectively. The change in cash from
operating activities of $467,625 was principally due to the increase in the net
loss for 2000.
Net cash provided by (used in) investing activities was $57,348 and ($699,570)
for the years ended December 31, 2000 and 1999 respectively, reflecting a change
of $756,918. This change was a result of decreased software development costs of
$413,604 in 2000, the purchase of furniture and equipment of $30,325 and
proceeds from the sale of restricted cash of $99,548.
Net cash provided by financing activities was $1,302,473 and $1,664,716 for the
years ended December 31, 2000 and 1999, respectively, reflecting a change of
$362,243. This decrease was principally due to less proceeds received from the
issuance of the Company's common stock in the 2000 year.
Liquidity and Capital Resources
- -------------------------------
The Company's revenues have been insufficient to cover the cost of revenues and
operating expenses. Therefore, the Company has been dependent on private
placements of its common stock and issuance of convertible notes in order to
sustain operations. In addition, there can be no assurances that the proceeds
from private or other capital will continue to be available, or that revenues
will increase to meet the Company's cash needs, or that a sufficient amount of
the Company's common stock or other securities can or will be sold or that any
common stock purchase options/warrants will be exercised to fund the operating
needs of the Company.
Over the next twelve months, management is of the opinion that sufficient
working capital will be obtained from operations and external financing to meet
the Company's liabilities and commitments as they become payable. DDSI has in
the past relied on private placements of common stock securities, and loans from
private investors to sustain operations. However, if DDSI is unable to obtain
additional funding in the future, it may be forced to curtail or terminate
operations.
DDSI is doing the following in its effort to reach profitability and positive
cash flow:
F-24
o Cut costs in areas that add the least value to DDSI.
o Derive funds through investigating business alliances with other companies
who may wish to license the Compu-Scan device or the FMS SDK (software
developers kit).
o Increase revenues through the introduction of Compu-Capture in the
education industry, specifically towards kindergarten through twelfth
grades, for the creation of ID cards.
o Increase revenues through the introduction of a scaled down version of our
Compu-Capture product.
December 31, 2001 and December 31, 2000
At December 31, 2001, the Company had assets of $1,691,277 compared to
$1,783,044 on December 31, 2000, a decrease of $91,767 and shareholder
deficiency of $(750,124) on December 31, 2001 compared to shareholder equity of
$22,112 on December 31, 2000, a decrease of $772,236. This decrease in
shareholder equity for the year ended December 31, 2001 resulted from the net
loss for the year ended December 31, 2001 of $2,982,510, offset by the issuance
of common stock and the debt discounts related to the issuance of convertible
debentures.
As of December 31, 2001, the Company had a negative working capital of $791,543,
a change of $59,652 from a negative working capital of $731,891 at December 31,
2000, which was primarily a result of an increase in cash, prepaid expenses and
debt discount as well as a decrease in accounts receivable with an overall
increase netting $647,308 and a decrease in accounts payable and accrued
expenses with increases in convertible debentures with the net result of
$689,134. The increase in prepaid expenses is attributable to prepaid SI-3000
costs as of December 31, 2001. The prepaid SI-3000 expenses represent cash
payments for software - $139,095, hardware - $13,422, sub-contractors - $68,140
and software maintenance - $38,178 paid by the Company in advance of and/or
during the installation of the SI-3000 product. The costs remain in prepaid
expenses until there is customer acceptance of the fully installed system, which
is evidenced by the signature of the customer. Once acceptance from the customer
is obtained, prepaid costs and the related deferred income are reduced and
recognized as expense and revenue, respectively. Although the Company stopped
selling the SI-3000 product during the second quarter of 2001, prepaid expenses
related to the SI-3000 increased because installation and customer acceptance of
the SI-3000 can take in excess of two years, and the Company is still in the
process of fulfilling contracts related to customer orders placed prior to the
date the Company stopped selling the SI-3000. The Company has no control over
the time frame as to when the installation and customer acceptance takes place.
This issue is in the hands of Itx as they are the ones to determine installation
dates. Also to be taken into consideration is additional time needed to resolve
any problems that may be encountered by Itx with its installation of the SI-3000
product. As of December 31, 2001, The Company had prepaid expenses of
approximately $260,000 for SI-3000 installation projects which had not yet
commenced or were in progress, compared to $-0- prepaid SI-3000 costs at
December 31, 2000 as similar contracts with these prepayments did not exist at
December 31, 2000. The Company expects to substantially fulfill all SI-3000
orders by Year Ended 2003 at which time the costs and related deferred revenue
will be recognized.
The Company expects that its monthly operating expenses should not exceed
$80,000 per month which it believes it can maintain until such time as
profitability and cash flow are sufficient to cover these monthly expenses.
Until the above can be attained the Company will have to seek additional
funding.
DDSI's monthly operating expenses are about $80,000 per month. Of this $61,000
is covered by operations and $19,000 is covered by outside financing. If unable
to sustain outside financing, DDSI would need $60,000 per month to maintain
operations on a bare bones basis.
F-25