UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended June 30, 2002
OR
( ) TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _____________ to _____________
Commission File Number 0-23153
REMOTEMDX, INC.
(Exact name of small business issuer as specified in its charter)
Utah 87-0543981
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
5095 West 2100 South
Salt Lake City, Utah 84120
(Address of principal executive offices)
(801) 974-9474
(Issuer's telephone number)
Check whether the issuer: (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the past 12 months (or such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes [X] No []
This report is prepared for the period ended June 30, 2002, but is filed as of
November 3, 2003. As of October 15, 2003, the issuer had issued and outstanding
25,256,975 shares of common stock, par value $0.0001.
Transitional Small Business Disclosure Format (Check One): Yes [ ] No [X]
TABLE OF CONTENTS
Page
No.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheet as of June 30, 2002..............................3
Unaudited Condensed Consolidated Statements of Operations for
the three and nine months ended June 30, 2002 and 2001..........................................4
Unaudited Condensed Consolidated Statements of Cash Flows for
the nine months ended June 30, 2002 and 2001....................................................5
Notes to Unaudited Condensed Consolidated Financial Statements..................................7
Item 2. Management's Discussion and Analysis or Plan of Operation......................................19
Item 3. Controls and Procedures........................................................................27
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds......................................................27
Item 6. Exhibits and Reports on Form 8-K...............................................................28
Signatures..............................................................................................30
2
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
REMOTEMDX, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(Unaudited)
June 30, 2002
-------------------
Assets
Current assets:
Cash $ 1,024,033
Accounts receivable, net of allowance for doubtful accounts of $75,000 918,575
Inventories 1,696,640
Prepaid expenses 74,505
-------------------
Total current assets 3,713,753
Property and equipment, net of accumulated depreciation and amortization of $521,920 353,145
Deposits 2,222
Core technology, net of accumulated amortization of $186,667 373,333
Goodwill 7,776,209
-------------------
Total assets $ 12,218,662
===================
Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Purchase obligation to former SecureAlert shareholders, net of discount of $17,306 $ 382,694
Notes payable 1,779,932
Bank line of credit 1,850,000
Related-party convertible notes payable 500,000
Related-party line of credit 909,450
Accounts payable 1,182,915
Accrued liabilities 391,672
Dividends payable 371,859
Deferred revenue 67,429
-------------------
Total current liabilities 7,435,951
-------------------
Commitments and contingencies
Redeemable common stock (See Note 9) 666,000
Stockholders' equity:
Preferred stock:
Series A; 10% dividend, convertible, non-voting; $0.0001 par value; 30,000
shares designated; 2 26,846 shares outstanding (aggregate liquidation
preference of $566,000)
Series B; convertible; $0.0001 par value; 2,000,000 shares designated; 1,835,824 shares 184
outstanding (aggregate liquidation preference of $5,507,472)
Common stock; $0.0001 par value; 50,000,000 shares authorized, 11,272,904
shares outstanding 1,127 Additional paid-in capital 53,605,775 Deferred
consulting costs (338,071) Series A preferred stock subscription receivable -
due from related party (338,300) Accumulated deficit (48,814,006)
--------------------
Total stockholders' equity 4,116,711
-------------------
Total liabilities and stockholders' equity $ 12,218,662
===================
See accompanying notes to unaudited condensed consolidated
financial statements.
3
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended Nine months ended
June 30, June 30,
-------------------------------------------------------------------
2002 2001 2002 2001
------------------ --------------- -------------- --------------
Net sales $ 3,029,664 $ 128,500 $ 7,919,434 $ 384,265
Cost of goods sold 2,617,258 108,969 6,711,146 267,544
------------------ --------------- -------------- --------------
Gross profit 412,406 19,531 1,208,288 116,721
Research and development expenses 119,921 81,043 399,329 263,612
Amortization of core technology 46,667 - 140,000 -
Selling, general and administrative expenses 3,329,761 802,785 24,243,601 2,796,845
------------------ --------------- -------------- --------------
Loss from operations (3,083,943) (864,297) (23,574,642) (2,943,736)
Other income (expense):
Interest income 4,029 1,389 9,398 5,294
Interest expense (654,801) (670,619) (3,540,671) (1,138,419)
------------------ --------------- -------------- --------------
Net loss (3,734,715) (1,533,527) (27,105,915) (4,076,861)
Dividends on Series A preferred stock (127,026) (57,350) (371,859) (2,660,303)
------------------ --------------- -------------- --------------
Net loss attributable to common stockholders $ (3,861,741) $ (1,590,877) $ (27,477,774) $ (6,737,164)
================== =============== ============== ==============
Net loss per common share - basic and diluted $ (.41) $ (.45) $ (3.05) $ (2.08)
================== =============== ============== ==============
Weighted average shares - basic and diluted 9,359,372 3,573,165 9,018,000 3,237,000
================== =============== ============== ==============
See accompanying notes to unaudited condensed consolidated
financial statements.
4
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine months ended
June 30,
------------------------------------
2002 2001
----------------- -----------------
Cash flows from operating activities:
Net loss $ (27,105,915) $ (4,076,861)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 228,741 20,576
Amortization of discount on purchase obligation to former
SecureAlert shareholders 66,753 -
Amortization of deferred consulting costs 384,929 -
Interest expense related to preferred stock warrants issued borrowings
under a related - party line of credit 2,341,465 -
Common stock issued for services 528,107 -
Redeemable common stock issued for services 315,000 -
Common stock and Preferred Series A stock options and warrants issued for
services 16,755,871 1,307,799
Preferred stock issued for services and financing costs 2,324,341 -
Interest expense related to the issuance of convertible debt - 1,092,250
Changes in operating assets and liabilities:
Accounts receivable, net (572,521) 14,833
Inventories (696,864) 2,206
Prepaid expenses and other assets (10,210) 198
Accounts payable 1,289 63,231
Accrued liabilities (510,515) 51,310
Deferred revenue (15,731) -
----------------- -----------------
Net cash used in operating activities (5,975,260) (1,524,458)
----------------- -----------------
Cash flows from investing activities:
Purchase of property and equipment (87,452) (6,527)
Advances to SecureAlert II, Inc. - (501,420)
----------------- -----------------
Net cash used in investing activities (87,452) (507,947)
----------------- -----------------
Cash flows from financing activities:
Payments on purchase obligations to former SecureAlert shareholders (800,000) -
Proceeds from convertible debentures - 545,000
Net borrowings under related-party line of credit 1,328,153 1,285,000
Net borrowings on bank line of credit 1,256,413 -
Proceeds from issuance of short-term notes payable 3,168,974 -
Payments on short-term notes payable (1,389,042) -
Proceeds from issuance of redeemable common stock 96,000 -
Proceeds from issuance of Series B preferred stock, net of cash offering costs 3,366,273 -
----------------- -----------------
Net cash provided by financing activities 7,026,768 1,830,000
----------------- -----------------
Net increase (decrease) in cash 964,056 (202,405)
Cash, beginning of period 59,977 278,421
----------------- -----------------
Cash, end of period $ 1,024,033 $ 76,016
================= =================
See accompanying notes to unaudited condensed
consolidated financial statements.
5
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONT'D)
(Unaudited)
Nine months ended
June 30,
------------------------------------
2002 2001
---------------- ------------------
Supplemental disclosure of cash flow information:
Cash paid for taxes $ - $ -
Cash paid for interest $ 243,750 -
Supplemental schedule of non-cash investing and financing activities: -
Series A convertible debentures and related accrued interest 107,314 -
converted into shares of common stock
Reduction of related party line of credit in exchange for exercise of common
stock options 434,700 -
Accrual of Series A preferred stock dividends 371,859 -
Deferred financing costs paid for by issuance of redeemable common stock 375,000 -
Deferred consulting costs resulting from issuance of nonforfeitable
common stock 348,000 -
Common stock exchanged for redeemable common stock 120,000
Issuance of common stock in exchange for conversion Series A Preferred Stock 226 -
See accompanying notes to unaudited condensed consolidated
financial statements.
6
REMOTEMDX, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
RemoteMDx, Inc. was originally incorporated in Utah in July 1995 under the name
Volu-Sol, Inc. ("Volu-Sol"), as a wholly owned subsidiary of Biomune Systems,
Inc. ("Biomune"). Biomune spun off Volu-Sol by distributing shares of Volu-Sol's
common stock as a stock dividend to the holders of the common stock of Biomune
(the "Distribution"). As a consequence of the Distribution, Volu-Sol commenced
operations as a separate, independent company in October 1997. Effective July
27, 2001, Volu-Sol changed its name to RemoteMDx, Inc. RemoteMDx, Inc. and its
subsidiaries are collectively referred to as the "Company".
The Company is a medical, technology-based remote personal safety, health
monitoring and diagnostic services company. The Company creates solutions for
real-time monitoring of personal safety, security, and health needs in
conjunction with national monitoring centers.
Historically, the Company's strategy was to capitalize on the global medical
diagnostic industry by providing "building block" stains and reagents. Although
the Company continues to conduct its medical stains and solutions business, over
the past two years, management has begun to pursue a more expanded role in the
medical diagnostic industry by providing innovative ways to manage patient
medical information as well as linking patients, physicians and payors through
remote health monitoring products. Additionally, through its acquisition of
SecureAlert II, Inc. ("SecureAlert") in July 2001(see Note 3), the Company is
engaged in the business of manufacturing and marketing mobile emergency and
personal security systems, and distributing consumer electronics products. The
Company's revenues for the nine months ended June 30, 2002 and 2001 were
generated primarily from the sale of consumer electronics and personal security
products and to a lesser extent from medical stains and reagents.
Basis of Presentation
The accompanying condensed consolidated financial statements of the Company have
been prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain information and
disclosures normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United States have been
condensed or omitted pursuant to such rules and regulations. These condensed
consolidated financial statements reflect all adjustments (consisting only of
normal recurring adjustments) that, in the opinion of management, are necessary
to present fairly the results of operations of the Company for the periods
presented. These condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and the notes thereto
included in the Company's Form 10-KSB for the year ended September 30, 2001. The
results of operations for the nine months ended June 30, 2002 are not
necessarily indicative of the results that may be expected for the fiscal year
ending September 30, 2002.
Going Concern
The Company has reoccurring net losses, has negative cash flows from operating
activities and has a working capital deficit and an accumulated deficit. These
factors raise substantial doubt about the Company's ability to continue as a
going concern. The financial statements do not include any adjustments that
might result from the outcome of this uncertainty
Management's plans with respect to this uncertainty include converting debt
obligations to equity and raising additional capital from the sale of equity
securities and plans to enhance revenues and cash flows from its operations by
increasing selling and marketing efforts related to new and existing products
and services.
There can be no assurance that the Company will be able to raise sufficient
capital to meet its working capital needs. In addition, there can be no
assurance that the operations will generate positive cash flows and that the
Company will be economically successful from increasing selling and marketing
efforts to introduce new products into the market. Further, the Company may be
unable to complete the development and successful commercialization of any new
remote health monitoring products.
7
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly or majority-owned subsidiaries. All significant inter-company
transactions have been eliminated in consolidation.
Intangible and Long-lived Assets
Intangible assets consist of goodwill and core technology. In accordance with
Statement of Financial Accounting Standards ("SFAS") No. 142, goodwill is not
amortized but is subject to an impairment test, which will be performed at least
annually. Through the impairment test, the fair value of the reporting unit to
which the goodwill is assigned will be compared with the reporting unit's
carrying amount, including goodwill. A second test to determine the amount of
impairment will be performed if the carrying amount of the reporting unit
exceeds the fair value. This test will result in allocating the fair value to
all of the assets and liabilities as if the reporting unit had been acquired and
comparing the resulting fair value of goodwill to the carrying amount. The
Company uses a market or income approach in determining the fair value of the
reporting unit. The Company has not yet tested its goodwill for impairment.
Subsequent to June 30, 2002 goodwill was tested for impairment and impaired as
of September 30, 2002 in the amount of $4,207,045.
The Company reviews its long-lived assets, other than goodwill, for impairment
when events or changes in circumstances indicate that the book value of an asset
may not be recoverable. The Company evaluates, at each balance sheet date,
whether events and circumstances have occurred which indicate possible
impairment. The Company uses an estimate of future undiscounted net cash flows
of the related asset or group of assets over the remaining life in measuring
whether the assets are recoverable. As of June 30, 2002, the Company does not
consider any of its other long-lived assets to be impaired.
Net Loss Per Common Share
Basic net loss per common share ("Basic EPS") is computed by dividing net loss
available to common stockholders by the weighted average number of common shares
outstanding during the period. Diluted net loss per common share ("Diluted EPS")
is computed by dividing net loss by the sum of the weighted-average number of
common shares outstanding and the weighted-average dilutive common share
equivalents then outstanding. The computation of Diluted EPS does not assume
exercise or conversion of securities that would have an anti-dilutive effect.
Common share equivalents consist of shares issuable upon the exercise of common
stock options and warrants, the conversion of the convertible debentures and
related accrued interest, and shares issuable upon conversion of preferred
stock. As of June 30, 2002 and 2001, there were approximately 19,732,000 and
14,180,000 outstanding common share equivalents, respectively, that were not
included in the computation of diluted net loss per common share as their effect
would be anti-dilutive.
Stock-Based Compensation
The Company has adopted the disclosure-only provisions of Statement of Financial
Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation.
Accordingly, no compensation cost has been recognized in the financial
statements for employees, except when the exercise price is below the market
price of the stock on the date of grant.
Revenue Recognition
The Company derives its revenue primarily from the sale of consumer electronics,
personal security products, and reagent stains. Revenue, less reserves for
returns, is recognized upon shipment to the customer. The Company records
reserves for estimated returns of defective product. Amounts received in advance
of shipment are recorded as deferred revenue. Shipping and handling fees are
included as part of net sales. The related freight costs and supplies directly
associated with shipping products to customers are included as a component of
cost of goods sold.
8
(2) ACQUISITION OF SECUREALERT AND RELATED TRANSACTIONS
On July 2, 2001, the Company consummated a merger agreement to acquire
SecureAlert, a Tennessee corporation engaged in the business of manufacturing
and selling home and personal security devices and other electronic devices. The
consideration for the acquisition consisted of 1,433,333 shares of common stock
with a fair value of $4,299,999 and $1,400,000 in cash. Of the acquisition
consideration, 233,333 shares of common stock and $200,000 in cash were
delivered upon consummating the merger agreement. The remaining 1,200,000 shares
and $1,200,000 in cash were to be delivered in installments on the last day of
each of six successive calendar quarters beginning September 30, 2001.
The Company failed to pay the required September 30, 2001 installment payments
of cash and shares. On October 15, 2001, the Company received a notice of
default. On November 30, 2001, the Company and the former SecureAlert
shareholders amended the merger agreement. The amended agreement required the
Company to (i) disburse the $200,000 and 200,000 share payments due originally
on September 30, 2001 on or before December 5, 2001, (ii) pay a fee of $10,000
to a former shareholder of SecureAlert on or before December 5, 2001, for the
extension through December 14, 2001 of the shareholder's letter of credit in the
amount of $202,000 securing the bank line of credit (see Note 5) and (iii)
distribute the $200,000 and 200,000 share payments originally due on December
31, 2001 on or before December 14, 2001, provided that if the Company could not
obtain a new line of credit replacing the then current bank line of credit, the
due date would be extended to December 31, 2001. In addition, Mr. David Derrick,
the Company's chief executive officer and chairman of the board of directors,
and Mr. James Dalton, a director of the Company, agreed to personally establish
a letter of credit in the principal amount of $800,000 in favor of the bank and
use their best efforts to obtain the release of the personal guarantees of four
of the former SecureAlert shareholders under a bank line of credit.
Additionally, the agreement, as amended, now provides that if in the event of
default, and if the former SecureAlert shareholders exercise their right to
receive the shares of SecureAlert, they will have one year from that date to
repay intercompany borrowings (approximately $2,461,000 at December 31, 2001)
less any amount then outstanding under an intercompany loan agreement ($400,000
at June 30, 2002). The obligation to repay this amount would be personally
guaranteed by four former SecureAlert shareholders.
Notwithstanding the above, the former shareholders of SecureAlert requested that
the required payments be made after December 31, 2001. During December 2001, the
Company deposited $210,000 of the required payments into an account for the
benefit of the former shareholders of SecureAlert. Subsequent to December 31,
2001, the Company made the required payments and satisfied all of the above
requirements of the amended agreement. The Company also timely paid the
commitments due March 31 and June 30, 2002. If the Company issues or sells any
shares of common stock through June 2003 for consideration which is less than
$3.00 per share, then the number of shares issuable to the former SecureAlert
shareholders will be increased to an amount equal to $4,299,999 divided by the
new per share value.
Subsequent to June 30, 2002, on December 31, 2002, the Company entered into an
agreement with the former shareholders of SecureAlert, which terminated all
employment and consulting agreements with former employees, shareholders, and
officers of SecureAlert. In addition, the purchase obligation due to former
SecureAlert shareholders was extinguished in the amount of $400,000. The former
SecureAlert shareholders agreed to modify the terms of certain notes due in the
aggregate of $500,000 in which payments of $40,000 per month are required
beginning March 11, 2003 until the notes are paid in full. In addition, the
former shareholders of SecureAlert agreed to waive their rights to the
anti-dilution provision in connection with the Company's original purchase of
SecureAlert. In exchange for these terms the Company has an obligation to pay an
entity, in which a former SecureAlert shareholder has a significant interest,
$180,000. This amount was secured by inventory of the Company valued at
approximately $180,000 and was subsequently paid in full.
Corresponding with termination of the former employee and shareholders of
SecureAlert, the Company modified its approach to its consumer electronics
business. Under its modified approach, on January 1, 2003 the Company entered
into a consumer electronics distribution agreement with SecureAlert
Entertainment, LLC, (SAE) an entity controlled by certain former shareholders of
Secure Alert, Inc., a wholly owned subsidiary of the Company.
Under the distribution agreement the Company granted a distribution right it
holds under an agreement with Philips and MemCorp to sell and distribute
consumer electronic products. The initial term of the agreement is for one year,
ending December 31, 2002, after which SAE may directly approach Philips and
MemCorp to obtain direct distribution rights for Magnavox-branded home security
products. Under the distribution agreement SAE acquired from the Company
payables and accrued liabilities in the amount of $488,410; assumed $300,000 of
the Sun Trust line of credit; acquired receivables due from prior sales of
9
consumer electronic products in the amount of $370,501; acquired consumer
electronic inventory in the amount of $539,706 and acquired equipment with a net
book value of $183,484. In exchange the Company received 401,952 shares of the
Company's common stock held by the former SecureAlert shareholders and
extinguished the remaining purchase obligation in connection with the original
purchase of SecureAlert in the amount of $400,000. These transactions resulted
in a net contribution to the Company in the amount of $94,759
The Company agreed to grant employment-based options to purchase up to an
aggregate of 1,000,000 shares of common stock to four former officers and
directors of SecureAlert and current employees of the Company. The options have
an exercise price of $3.00 per share and are exercisable over five years from
the date of vesting. Vesting was to occur on the date that SecureAlert achieved
$20,000,000 in aggregate gross revenues for the two-year period commencing on
July 2, 2001 and the number of shares issuable upon exercise of the options was
to be decreased by the amount that gross revenues were less than $20,000,000
divided by $3.00 per share. In addition, if SecureAlert had a loss for the
two-year period following July 2, 2001, the number of shares issuable upon
exercise of the options was to be decreased at the rate of one share for every
$3.00 of loss incurred. On November 30, 2001, the option terms were amended and
all options were immediately vested. Of these options 142,200 were granted to
non-employees and 857,800 were granted to employees of the Company. The Company
recognized expense of $343,545 (based on the Black Scholes Option Pricing Model)
related to the non-employee grants during the nine months ended June 30, 2002.
(3) INVENTORIES
Substantially all items included in inventory are finished goods and consist of
the following as of June 30, 2002:
Consumer electronics $ 558,275
Mobile emergency and personal security systems 1,091,524
Reagent stains 46,841
------------------------
$ 1,696,640
========================
(4) NOTES PAYABLE
Notes payable outstanding at June 30, 2002 were $1,779,932. Significant activity
related to notes payable during the nine months ended June 30, 2002, were as
follows:
During the nine months ended June 30, 2002, the Company entered into an
agreement with a consultant whereby the Company issued an $800,000 promissory
note as payment of $250,000 for services rendered and accrued prior to September
30, 2001 and for $550,000 in cash. The promissory note bears interest at a rate
of 22.5% per year and is due on September 30, 2002. Interest is payable monthly
commencing on November 1, 2001. If the Company fails to make the monthly
interest payments within 15 days of the due date, the entire principal balance
and accrued interest become immediately due and payable. The promissory note is
personally guaranteed by Messrs. Derrick and Dalton and collateralized by
1,000,000 shares of the Company's common stock held by them. As of June 30,
2002, $545,000 is outstanding under the promissory note. Furthermore, the
Company issued 100,000 shares of common stock valued at $300,000 to the
consultant for services to be performed through September 30, 2002. The value of
these shares was recorded as deferred consulting in the accompanying condensed
consolidated financial statements and is being amortized on a straight-line
basis over the term of service. On June 30, 2003 pursuant to an agreement dated
April 2, 2003, this note was assumed by David Derrick, James Dalton, and ADP
Management Corporation (ADP Management), an entity owned and controlled by Mr.
Derrick, and converted into shares of the Company's common stock see note 6
below.
During the nine months ended June 30, 2002, the Company entered into an
agreement with a company whereby the Company borrowed $1,543,974, with interest
payable at 10% per year and repayable in six monthly installments of $264,886.
The borrowings are secured by certain of the Company's inventory. Two officers
of the Company personally guaranteed the borrowings; however, Messrs. Derrick
and Dalton indemnify the two officers from their personal guarantees. One of the
two officers has a three-percent ownership interest in the lending company. As
of June 30, 2002, $534,932 remains outstanding under the agreement. Subsequent
to June 30, 2002, the above payment terms were modified such that the
outstanding amount is repayable in 12 monthly installments of $91,734, and has
been paid in full.
10
During the nine months ended June 30, 2002, the Company entered into various
note agreements with individuals totaling $950,000. The balance of these notes
at June 30, 2002 was $700,000. These notes bear interest at 18%; $250,000 mature
on September 30, 2002, $200,000 mature on August 31, 2002 and the remaining
$250,000 matured on May 30, 2002 and were in default. On June 30, 2003, $400,000
of these notes, including accrued interest, was converted into common stock at
approximately $1.50 per share. Of the remaining $300,000, $25,000 had been paid
with the balance in default.
(5) BANK LINE OF CREDIT
As of June 30, 2002, the Company had $1,850,000 outstanding under a line of
credit agreement with SunTrust Bank. Borrowings under the line of credit were
limited to the lesser of $600,000 or a borrowing base equal to the sum of 60% of
the Company's current accounts receivable, as defined in the agreement, plus 40%
of the Company's current inventory, as defined in the agreement. The interest
rate associated with the line of credit was the 30-day average LIBOR rate plus
2.15% (4.22% as of June 30, 2002) and borrowings were due January 31, 2002.
Additionally, the agreement required the Company to maintain certain financial
and non-financial covenants and required the bank's consent to certain
transactions, including transactions between SecureAlert and the Company. During
the nine months ended June 30, 2002, the Company renegotiated this line of
credit to increase the borrowing base to $1,850,000. Additionally, the due date
of the line of credit was extended to July 1, 2002 and all financial covenants
were removed. The amended line of credit requires that borrowings are
collateralized by certificates of deposit and personal letters of credit as
discussed below.
During the nine months ended June 30, 2002, a trust, whose trustee is the
brother of an executive officer of the Company, provided a $300,000 letter of
credit as collateral for the line of credit. The trust's letter of credit
originally expired on June 30, 2002. The Company and the trust entered into an
amended agreement extending the date of the letter of credit to December 31,
2002. As consideration for establishing the letter of credit, the Company issued
15,000 shares of common stock to the trust. Upon extension of the letter of
credit, the Company issued an additional 15,000 shares to the trust. The trust
has the option, but not the obligation, to require the Company to repurchase
these shares on December 31, 2002 at a price of $3.00 per share (see Note 9).
The value of these shares ($45,000) was recorded as a deferred financing cost
and as redeemable common stock in the accompanying condensed consolidated
balance sheet as of June 30, 2002. The deferred financing costs are being
amortized as interest expense over the term of the letter of credit. In the
event that the bank draws on the letter of credit, the Company will repay the
amount drawn together with interest thereon at a rate of 12% per year until paid
in full.
In December 2001, Mr. Derrick assigned two certificates of deposit in the
aggregate amount of $500,000 as collateral for the line of credit.
During the nine months ended June 30, 2002, Tom Natale, the President of the
Company, assigned a certificate of deposit in the amount of $100,000 as
collateral for the line of credit. This assignment was extended from June 30,
2002 to December 31, 2002. As consideration for the assignment and the
subsequent extension, the Company issued 5,000 shares of its common stock to Mr.
Natale.
During the nine months ended June 30, 2002, one of the former shareholders of
SecureAlert, established two letters of credit in the aggregate amount of
$402,000 as collateral for the line of credit. A letter of credit in the amount
of $202,000 was subsequently extended from June 30, 2002 to December 31, 2002,
and the second letter of credit in the amount of $200,000 was extended from
August 30, 2002 to December 31, 2002. As consideration for establishing the
letters of credit and the subsequent extension, the Company issued 20,000 shares
of its common stock to the individual. The individual also received warrants to
purchase 10,000 shares of the Company's common stock at an exercise price of
$3.00 per share. These warrants expire on December 31, 2006.
During the nine months ended June 30, 2002, a relative of an employee of the
Company assigned two certificates of deposit in the aggregate amount of $200,000
as collateral for the line of credit. This assignment was extended from June 30,
2002 to December 31, 2002. As consideration for the assignment and the
subsequent extension, the Company issued 10,000 shares of its common stock to
the individual.
During the nine months ended June 30, 2002, an individual established a letter
of credit in the amount of $100,000 as collateral for the line of credit. This
letter of credit was extended from July 31, 2002 to December 31, 2002. As
11
consideration for establishing the letter of credit and extending the due date,
the Company issued 5,000 shares of its common stock to the individual.
Each of the three individuals noted above has the option, but not the
obligation, to require the Company to repurchase the shares issued to them in
connection with these transactions at the end of six months from the date of the
assignment of their respective certificate of deposit or letter of credit, at a
price of $3.00 per share. In the event that the bank draws on the letter of
credit or asserts a claim against the certificates of deposit, the Company will
repay the amount drawn or claimed together with interest thereon at a rate of
12% per year until paid in full. Additionally, the assignments are secured by
the assets of the Company.
During the nine months ended June 30, 2002, a shareholder of the Company
established a letter of credit with a bank in the amount of $250,000 as
collateral for the line of credit. This letter of credit was extended from
August 1, 2002 to March 31, 2003 and is personally guaranteed by the
shareholder, however, Messrs. Derrick and Dalton have agreed to indemnify the
shareholder from his personal guarantee. As consideration for the guarantee and
extension of the expiration date, the Company issued 15,000 shares of its common
stock to the individual.
The value of the shares and warrants issued to the above individuals for
establishing letters of credit or assigning certificates of deposit, will be
recorded as deferred financing cost and amortized as interest expense over the
respective term of the letter of credit or assignment.
Subsequent to June 30, 2002, the SunTrust line of credit was refinanced through
a note due to Zions First National Bank. The new note bears interest at prime
plus .25%, matures on March 11, 2004, and is secured by certificates of deposit.
(6) RELATED-PARTY LINE OF CREDIT
As of June 30, 2002, $909,450 in borrowings was outstanding under a line of
credit agreement with ADP Management, an entity controlled by Mr. Derrick.
Through June 30, 2002, borrowings bore interest at the prime rate (4.65% at June
30, 2002) and were due on December 31, 2002.
Under the original terms of this line of credit, the Company was required to
issue to ADP Management a warrant to purchase one share of Series A Preferred
Stock at a price of $200 per share for every $200 in principal loaned under the
line of credit. The warrants included a cashless exercise provision. Based on
the terms of the line of credit and a common stock value of $3.00 per share,
upon a cashless exercise of the warrants ADP Management had the ability to
receive 0.82 shares of Series A Preferred Stock or approximately 303 shares of
common stock for each $200 advanced under the line of credit, assuming
conversion of the Series A preferred shares. Despite the fact that a portion of
the borrowings were repaid within a relatively short period of time, the Company
was obligated to issue warrants to ADP Management to purchase up to 6,688 shares
of Series A Preferred Stock as described above.
In March 2002, the Company and ADP Management entered into an amendment to the
line of credit agreement, effective December 31, 2001. The independent members
of the Company's Board of Directors negotiated the amendment on behalf of the
Company. The amendment terminated the obligation to grant warrants to purchase
shares of Series A Preferred Stock, capped at 6,668 the number of shares of
Series A Preferred Stock issuable upon conversion or under warrants granted at
December 31, 2001 and canceled all unexercised warrants to purchase shares of
Series A Preferred Stock. The Company borrowed $1,445,526 under the ADP
Management line of credit agreement through December 31, 2001. In connection
with these borrowings ADP Management was granted warrants to purchase 7,228
shares of Series A preferred stock at an exercise price of $200 per share. These
warrants were determined to have a value of $1,778,013 based on the Black
Scholes Option Pricing Model and a $3.00 per common share price. Of this amount,
$1,445,526 was recorded as interest expense and the remaining $332,488 was
recorded as compensation expense due to the fact that ADP Management is
principally owned and controlled by David Derrick, Chief Executive Officer and
Chairman of the Board, and James Dalton, the Company's President and Vice
Chairman of the Board of Directors. As of December 31, 2001, ADP Management
exercised its warrants under the cashless exercise provision and received 6,688
shares. The cashless exercise resulted in additional compensation expense of
$5,416,812 based on the common stock conversion rate of Series A shares and a
$3.00 per common share price. The 6,688 shares of Series A Preferred Stock
include shares issued to ADP Management during the six months ended December 31,
2001, resulting from ADP Management's exercise of warrants. In addition to the
shares, 2,094 shares were issued to ADP Management for various consulting and
12
financial services. These shares have been recorded as outstanding in the
accompanying condensed consolidated financial statements as of December 31,
2001.
Additionally, the amendment extended the due date of amounts advanced under the
loan agreement from December 31, 2001 to December 31, 2002, and provided that
ADP Management would advance the balance of approximately ($600,000) to the
Company no later than March 31, 2002. Under the amended and extended agreement,
borrowings and guarantees do not bear interest. In consideration of ADP
Management making the additional advances as required by the amended agreement,
the Company granted to ADP Management warrants to purchase 3,450,000 shares of
common stock at an exercise price equivalent to the conversion price of the
Series A Preferred Stock issuable pursuant to the warrants originally provided
for under the line of credit prior to amendment. This exercise price is the
equivalent of $0.54 per share. These warrants do not have a cashless exercise
feature and expire March 31, 2007. The value of these options, based on the
Black Scholes Option Pricing Model at a $3.00 per common share price, was
determined to be $9,666,439. Of this amount, $895,940, which equaled the total
additional borrowings under the amended agreement, was recorded as interest
expense, and the remaining $8,770,499 was recorded as compensation expense due
to the related party nature of the transaction. The amendment also provides that
ADP Management will convert all of its shares of Series A Preferred Stock into
shares of common stock based upon the current conversion terms of the Series A
Preferred Stock.
During the nine months ended June 30, 2002, the Company recorded interest
expense of $2,341,465 associated with the line of credit with ADP Management.
This amount includes $2,341,465 in non-cash interest expense related to the
6,668 shares of Series A Preferred Stock issued under the line of credit.
(7) RELATED-PARTY CONVERTIBLE PROMISSORY NOTES
In connection with the acquisition of SecureAlert (see Note 2), the Company
assumed two promissory notes payable to former SecureAlert shareholders each
with a principal balance of $250,000, and the Company granted each of the note
holders the right, at any time prior to July 2, 2002, to convert their note into
83,333 shares of the Company's common stock, or to be paid $250,000 on July 2,
2002. This date was extended until December 31, 2002. The promissory notes bear
interest at a rate of 5% per year and are due December 31, 2002. During the nine
months ended June 30, 2002, the Company recorded interest expense of $9,450 on
these promissory notes. The term of these notes were subsequently renegotiated
(see note 2).
(8) PREFERRED STOCK
Series A 10 % Convertible Non-Voting Preferred Stock
During the nine months ended June 30, 2002, the Company issued 6,688 shares of
Series A Preferred Stock related to the cashless exercise of warrants issued in
connection with the line of credit with ADP Management. This cashless exercise
resulted in additional compensation expense of $5,416,812 based on the common
stock conversion rate of Series A shares and a $3.00 per common share price. An
additional 2,094 Series A shares were also issued to ADP Management in
connection with obtaining financing and consulting arrangements for the Company.
These shares resulted in $2,324,340 of compensation expense based on the common
stock conversion rate of Series A shares and a $3.00 per common share price.
During the nine months ended June 30, 2002, 6,117 shares of Series A Preferred
Stock owned by ADP Management were converted into 2,258,547 shares of common
stock. As of June 30, 2002, there were 26,846 shares of Series A Preferred Stock
outstanding, which represents 9,933,020 common stock equivalents at a conversion
rate of approximately 370 for 1.
The holders of the Series A Preferred Stock are entitled to dividends at the
rate of 10% per year on the stated value of the Series A Preferred Stock (or
$200 per share), payable in cash or in additional shares of Series A Preferred
Stock at the discretion of the board of directors. Dividends are fully
cumulative and accrue from the date of original issuance. During the nine months
ended June 30, 2002 and 2001, the Company recorded $371,859 and $152,920,
respectively, in dividends on Series A Preferred Stock.
The Company may, at its option, redeem up to two-thirds of the total number of
shares of Series A Preferred Stock at a redemption price of 133% of the stated
value of Series A Preferred Stock; however, the Company may designate a
different and lower redemption price for all shares of Series A Preferred Stock
called for redemption by the Company. Through June 30, 2002, the Company has not
exercised its option to redeem shares of Series A Preferred Stock.
13
Series B Convertible Preferred Stock
During the nine months ended June 30, 2002, the Company sold 1,135,823 shares of
Series B Preferred Stock for $3,366,273. Of these issuances 1,000,000 were sold
to Matsushita Electric Works, Ltd., a Japanese corporation ("MEW"). MEW was
granted an anti-dilution right on the common stock conversion feature of the
1,000,000 Series B shares it purchased. If the Company shall at any time during
a two-year period (beginning April 2002) issue or sell its common stock or any
security exercisable into common stock for an equivalent value of less than
$3.00 per share, then the conversion price of the 1,000,000 Series B shares into
common stock will be adjusted to the common stock equivalent value of those
securities sold. These anti-dilution rights are expected by management to be
waived, but no assurance can be given that management will be successful in
obtaining a waiver from MEW. Shares of Series B Preferred Stock are convertible
into shares of common stock on a 1-for-1 basis. The Company may redeem the
Series B Preferred Stock at its option at any time. The redemption price will be
a minimum of 110% of the conversion price at the date of redemption.
(9) COMMON STOCK
During the nine months ended June 30, 2002, the Company issued 3,431,319 shares
of common stock as follows:
o 292,036 shares were issued for services rendered or to be rendered
o 2,258,547 shares were issued upon the conversion of 6,117 shares of
Series A Preferred Stock
o 35,735 shares were issued as the result of the conversion of
convertible debentures
o 40,000 shares were issued in exchange for redeemable common stock, and
o 805,001 shares were issued upon exercising of options.
Common Stock Subject to Redemption
Of the shares of common stock outstanding at June 30, 2002, 222,000 shares of
common stock are subject to redemption as follows: (1) the holder of 32,000 of
these shares has the option to require the repurchase of these shares at a price
of $3.00 per share by giving notice of exercise of this option in writing to the
Company within a 60-day period commencing at the end of nine months from date of
issuance. This option automatically expires if it is not exercised within the
60-day period; (2) 135,000 shares were redeemable after December 31, 2003
through January 15, 2004, so long as the Company is not traded in the
over-the-counter market or on a recognized exchange and the holder can readily
sell the shares at $3.00 or more per share; and (3) the holder of 55,000 shares
has the option to require the Company to repurchase these shares between June
30, 2002 and August 31, 2002, at a price of $3.00 per share. Subsequently these
put options were extended to December 31, 2003.
Common Stock Options and Warrants
During the nine months ended June 30, 2002, the Company granted 920,361 options
to purchase the Company's common stock to consultants or outside parties for
services. The Company recognized approximately $2,236,072 of expense related to
these issuances based on a $3.00 common share price. During the nine months
ended June 30, 2002, the Company issued 3,450,000 options at an exercise price
of $.54 to ADP Management, a company under common control by David Derrick,
Chief Executive Officer and Chairman of the Board of Directors, and James
Dalton, the Company's President and Vice Chairman member of the Board of
Directors. The options were issued in connection with a $2 million line of
credit provided to the Company, and extension of current debts owed by the
Company to ADP Management. The issuance of these options resulted in $895,940 of
interest expense and $8,770,499 of compensation expense based on the Black
Scholes Option Pricing Model with an estimated common share price of $3.00. In
addition the Company granted employees or directors of the Company 1,312,800
options to purchase the Company's stock at $3.00 per share with contractual
lives of 5 years.
During the quarter ended June 30, 2002, the Company issued warrants to an
investor for the purchase of 1,000,000 shares of common stock at a price of
$3.00 per share in connection with the purchase of Series B Preferred Stock.
These warrants expire in April 2007.
14
(10) SEGMENT INFORMATION
As a result of the acquisition of SecureAlert in July 2001 (see Note 2), the
Company is organized into two business segments based primarily on the nature of
the Company's products. The Reagents segment is engaged in the business of
manufacturing and marketing medical diagnostic stains, solutions and related
equipment to hospitals and medical testing labs. The SecureAlert segment is
engaged in the business of developing, distributing and marketing mobile
emergency and personal security systems to distributors and consumers, and
distributing consumer electronics products to the manufactured home market.
Other (unallocated) loss consists of research and development, selling, general
and administrative expenses related to the Company's corporate activities,
including remote health monitoring and market and business development
activities.
The following table reflects certain financial information relating to each
reportable segment for each of the three-month periods ended June 30, 2002 and
2001:
2002 2001
------------------ ----------------
Net sales:
SecureAlert:
Consumer electronics $ 4,527,605 -
Mobile emergency and personal security systems 527,583 -
------------------ ----------------
5,055,188 -
Reagents 262,725 128,500
------------------ ----------------
$ 5,317,913 128,500
================== ================
Net income (loss):
SecureAlert (1,290,168) -
Reagents (13,155) 48,555
Other (unallocated) (2,431,392) (1,582,082)
------------------ ------------------
------------------ ------------------
- $ (3,734,715) (1,533,527)
------------------ ------------------
The following table reflects certain financial information relating to each
reportable segment for each of the nine-month periods ended June 30, 2002 and
2001:
2002 2001
----------------------------------
Net sales:
SecureAlert
Consumer electronics $ 6,917201 $ -
Mobile emergency and personal
security systems 586,267 -
----------------- ---------------
7,503,468 -
Reagents 415,966 384,265
----------------- ---------------
$ 7,919,434 $ 384,265
----------------- ---------------
Net income (loss):
SecureAlert $ (1,957,253) $ 0-
Reagents 10,002 (25,398)
Other (unallocated) (25,158,664) (4,051,463)
----------------- ---------------
$ (27,105,915) $ (4,076,861)
----------------- ---------------
Identifiable assets:
SecureAlert including goodwill and
Intangibles of 8,149,542 (net) $ 10,998,714
Reagents 160,978
Other (unallocated) 1,058,970
------------------
$ 12,218,662
------------------
15
(11) RECENT ACCOUNTING PRONOUNCEMENTS
In April 2002, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This statement requires the classification of gains or losses from
the extinguishment of debt to meet the criteria of Accounting Principles Board
Opinion No. 30 before they can be classified as extraordinary in the income
statement. As a result, companies that use debt extinguishment as part of their
risk management cannot classify the gain or loss from that extinguishment as
extraordinary. The statement also requires sale-leaseback accounting for certain
lease modifications that have economic effects similar to sale-leaseback
transactions. The adoption of SFAS No. 145 did not have a material impact on the
Company's financial position or operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." This standard, which is effective for exit or
disposal activities initiated after December 31, 2002, provides new guidance on
the recognition, measurement and reporting of costs associated with these
activities. The standard requires companies to recognize costs associated with
exit or disposal activities when they are incurred rather than at the date the
Company commits to an exit or disposal plan. The adoption of SFAS No. 146 by the
Company is not expected to have a material impact on the Company's financial
position or future operations.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others" (FIN No. 45). FIN No. 45 requires certain guarantees to
be recorded at fair value, which is different from current practice to record a
liability only when a loss is probable and reasonably estimable, as those terms
are defined in FASB Statement No. 5, "Accounting for Contingencies". FIN No. 45
also requires the Company to make significant new disclosures about guarantees.
The disclosure requirements of FIN No. 45 are effective for the Company in the
first quarter of fiscal year 2003. FIN No. 45's initial recognition and initial
measurement provisions are applicable on a prospective basis to guarantees
issued or modified after December 31, 2002. The Company's previous accounting
for guarantees issued prior to the date of the initial application of FIN No. 45
will not be revised or restated to reflect the provisions of FIN No. 45.
Management is evaluating the potential impact that the adoption of FIN No. 45
might have on its consolidated financial position, results of operations or cash
flows.
In December 2002, the FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation-Transition and Disclosure-an amendment of FASB Statement No. 123,"
which is effective for all fiscal years ending after December 15, 2002. SFAS No.
148 provides alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee compensation
under SFAS No. 123 from the intrinsic value based method of accounting
prescribed by Accounting Principles Board Opinion No. 25. SFAS 148 also changes
the disclosure requirements of SFAS 123, requiring a more prominent disclosure
of the pro-forma effect of the fair value based method of accounting for
stock-based compensation. The adoption of SFAS No. 148 by the Company is not
expected to have a material impact on the Company's financial position or future
operations
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Ethics" (FIN No. 46), which addresses consolidation by
business enterprises of variable interest entities. FIN No. 46 clarifies the
application of Accounting Research Bulletin No. 51, "Consolidated Financial
Statements", to certain entities in which equity investors do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. FIN No. 46 applies
immediately to variable interest entities created after January 31, 2003, and to
variable interest entities in which an enterprise obtains an interest after that
date. It applies in the first fiscal year or interim period beginning after June
15, 2003, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2003. Management is evaluating the
potential impact that FIN 46 might have on the Company's financial condition or
results of operation. The Company does not expect to identify any variable
interest entities that must be consolidated. In the event a variable interest
entity is identified, this pronouncement may have a material impact on the
Company's financial condition or results of operations.
16
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." SFAS No. 149 amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities". This
Statement is effective for contracts entered into or modified after June 30,
2003, with certain exceptions, and for hedging relationships designated after
June 30, 2003, with certain exceptions, and for hedging relationships designated
after June 30, 2003. Management is currently evaluating the effect that the
adoption of SFAS No. 149 may have, but believes it will not have a material
effect on its results of operations and financial position.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." This new
statement changes the accounting for certain financial instruments that, under
previous guidance, issuers could account for as equity or classifications
between liabilities and equity in a section that has been known as "mezzanine
capital." It requires that those certain instruments be classified as
liabilities in balance sheets. Most of the guidance in SFAS 150 is effective for
all financial instruments entered into or modified after May 31, 2003.
Management anticipates that the adoption of SFAS No. 150 may have a material
impact on the Company's consolidated financial statements if in the future the
Company issues mandatorily redeemable preferred stock. Such mandatorily
redeemable preferred stock, previously included as "mezzanine capital", would be
included as a liability in accordance with SFAS 150.
(12) SUBSEQUENT EVENTS
In October 2002 and June 2003, the Company issued notes payable to a financing
company, which is a principal shareholder of the Company in the amount $85,808
and $250,000, respectively. These notes bear interest at 12%, mature on March
31, 2003 for those issued in October 2002 and September for the note issued in
June 2003 and are unsecured. On June 30, 2003, David Derrick, James Dalton and
ADP Management agreed to assume the notes and convert them into common shares
pursuant to the April 2, 2003 agreement with the Company as noted above.
On November 1, 2002 and February 13, 2003 the Company issued notes payable of
$550,000 and $175,000 to a financing company totaling $725,000 bearing interest
in the amount of 12%, and secured by the assets of the Company. On June 30, 2003
the Company converted the notes into 483,333 common shares (a $1.50 per share)
which are redeemable at the option of the holder at $2.00 per share after
December 31, 2003 based on certain conditions.
On December 31, 2002 the Company entered into an agreement with the former
shareholders of SecureAlert which terminated all employment and consulting
agreements with former employees, shareholders, and officers of SecureAlert. In
addition, the purchase obligation due to former SecureAlert shareholders was
extinguished in the amount of $400,000. The former SecureAlert shareholders
agreed to modify the terms of the notes due in the aggregate of $500,000 (see
Note 6) in which payments of $40,000 per month are required beginning March 11,
2003 until the notes are paid in full. In addition, the former shareholders of
SecureAlert agreed to waive their rights to the anti-dilution provision in
connection with the Company's original purchase of SecureAlert (see Note 3). The
Company has an obligation to pay an entity, in which a former SecureAlert
shareholder is a shareholder, $180,000. This amount was secured by inventory of
the Company valued at approximately $180,000.
Corresponding with the termination of the former shareholders of SecureAlert,
the Company modified its approach to its consumer electronics business. Under
its modified approach, on January 1, 2003 the Company entered into a consumer
electronics distribution agreement with SecureAlert Entertainment, LLC, (SAE) an
entity controlled by the former shareholders of Secure Alert, Inc., a wholly
owned subsidiary of the Company.
Under the distribution agreement the Company has sold a right of distribution it
holds under an agreement with Philips and MemCorp to sell and distribute
consumer electronic products. The initial term of the agreement is for one year
after which SAE may directly approach Philips and MemCorp to obtain direct
distribution rights for Magnavox-branded home security products. Under the
distribution agreement SAE acquired from the Company payables and accrued
liabilities in the amount of $488,410; assumed $300,000 of the Sun Trust line of
credit; acquired receivables due from prior sales of consumer electronic
products in the amount of $370,501; acquired consumer electronic inventory in
the amount of $539,706 and acquired equipment with a net book value of $183,484.
In exchange the Company received 400,000 shares of the Company's common stock
17
held by the former SecureAlert shareholders and the extinguishment of the
remaining purchase obligation in connection with the SecureAlert purchase as
noted above.
Because the Company is not deemed to be the principal in the transaction through
June 30, 2003, revenues related to consumer electronic sales will be recorded
net of cost of sales. On June 30, 2003, the Company amended its distribution
agreement with SAE whereon the Company assumed additional risks and rewards and
fulfillment responsibilities to SAE.
On March 3, 2003, the Company converted 58,333 shares of its common stock to
redeemable common stock to an individual. The individual has the option, but not
the obligation, to put the shares back to the Company at $3.00 per share
beginning on September 30, 2003 through October 15. 2003. The term was
subsequently extended to December 31, 2003.
On March 11, 2003, the SunTrust line of credit was refinanced through a note due
to Zions First National Bank. The new note bears interest at prime plus .25%,
matures on March 11, 2004, and is secured by certificates of deposit.
On April 2, 2003 in connection with a raising of equity funds for the Company,
the Company entered into an agreement with Mr. David G. Derrick, the Company's
Chief Executive Officer and Chairman of the Board of Directors, and James
Dalton, the Company's President and Vice Chairman of the Board of Directors, and
ADP Management, whereby Dalton, Derrick and ADP Management agreed to continue to
assist the Company in its financing activities and convert existing debt owed to
ADP Management of $709,986 and debt which ADP Management assumed from the
Company of $3,163,975, including $700,000 of which the Company has not been
released by the original creditor. In addition, on June 24, 2003, the Company
converted $725,000 of debt into 483,333 shares of redeemable common stock.
The put obligation associated with the redeemable common stock was assumed by
ADP Management. However, the original holder has not released the company from
the potential put obligation. In addition, ADP Management also agreed to assume
the subscription receivable due from MK financial in the amount of $338,300. In
exchange for these assumptions and conversions the Company issued 8,113,999
shares of the Company's common stock. In association with the issuance of stock
in this transaction the Company recognized an expense for ADP Management
services of approximately $846,000. The number of shares ultimately retained by
ADP Management is not known at this time as ADP Management will continue to
negotiate settlement of the debts and obligations assumed by it and use the
shares allocated to it as consideration for such settlements.
On April 4, the Company sold 185,000 shares to an investor for $100,000.
Concurrently with this transaction, the Company granted the investors the
option, but not the obligation, to put the shares back to the Company at $.54
per share after September 30, 2003, if certain conditions have not been
satisfied. The exercise date of this put option was subsequently extended to
December 31, 2003.
On May 7, 2003, the Company sold 100,000 shares to several investors for
$150,000. Concurrently with this transaction, the Company granted the investors
the option, but not the obligation, to put the shares back to the Company at
$1.50 per share after December 31, 2003, if certain conditions have not been
satisfied.
On June 25, 2003, the Company entered into a consulting agreement with an
individual who has provided debt financing to the Company. The consulting
agreement shall continue through April 30, 2004 and requires 100,000 shares
issued as compensation and a monthly fee of $3,900 per month.
On June 30, 2003 the Company converted $442,750 of short-term notes payable
including accrued interest and penalties into 302,668 shares of the Company's
common stock.
In September 2003, the Company also borrowed $475,000 from third party lenders
that can be converted into common stock of the Company at $1.50 per share at the
option of the lender.
In October 2003, Company entered into a settlement agreement with a creditor
pursuant to which it agreed to pay the principal amount owing under a promissory
note in the amount of $500,000 in two instalments on or before October 31, 2003
and November 15, 2003, respectively, and to issue 168,979 restricted shares of
common stock in lieu of accrued interest through October 31, 2003, as payment in
full. (See Note 4.)
18
Item 2. Management's Discussion and Analysis or Plan of Operation
Introduction
RemoteMDx is a technology-based remote personal safety, medical, health
monitoring and diagnostic services company. The Company creates solutions for
real-time monitoring of personal safety, security, and health needs. The Company
contracts with national monitoring centers for the delivery of monitoring
services. The Company was incorporated in Utah in July 1995 under the name
Volu-Sol, Inc., as a wholly owned subsidiary of Biomune Systems, Inc.
("Biomune"). Biomune spun off the Company by distributing shares of the
Company's common stock pro rata as a stock dividend to the holders of the common
stock of Biomune (the "Distribution"). As a consequence of the Distribution,
RemoteMDx commenced operations as a separate, independent, publicly held company
in October 1997.
The Company has been engaged in the business of manufacturing and marketing
medical diagnostic stains, solutions and related equipment for over 10 years.
The Company continues to conduct its medical stains and solutions business
through a wholly owned subsidiary, Volu-Sol Reagents Corporation ("Reagents"),
and operates its remote health monitoring and diagnostic business under the
names "Remote Medical Diagnostics" and "RemoteMDx." The Company also owns
SecureAlert, Inc. ("SecureAlert"), a wholly owned subsidiary engaged in the
business of manufacturing and marketing mobile emergency and personal security
systems, and consumer electronics products.
Business Strategy
Historically, the Company's strategy was to capitalize on the global medical
diagnostic industry by providing "building block" stains and reagents and
growing through the selective acquisition of complementary businesses, devices
and product lines. Over the past two years, management began to pursue a more
expanded role in the medical diagnostic industry by developing innovative ways
to manage patient medical information as well as linking patients, physicians
and payors through remote monitoring devices. To reflect this new emphasis, the
Company changed its corporate name to "RemoteMDx, Inc." and acquired SecureAlert
II, Inc. ("SecureAlert II") in July 2001.
New Business Direction
Under its new business direction, RemoteMDx specializes in providing personal
security and monitoring products and services to meet the needs of a rapidly
growing elderly population. The RemoteMDx family of products and services
offered under the Magnavox(R) brands includes both wireless and wired modes of
connecting the elderly by the touch of a single button with emergency services,
doctors, healthcare providers and loved ones. By utilizing global positioning
satellite or "GPS" technology, the Company's Pal Services(TM) response center
can locate the person in distress and dispatch the closest emergency services to
the caller's location. In addition, through the Company's HomePal(TM) products,
Pal Services(TM) is designing products to monitor the vital signs of its
clientele on a daily basis and report to care providers if their health is
within given parameters.
RemoteMDx's next generation product being developed through its strategic
alliance with Battelle Memorial Institute ("Battelle"), is a wireless,
wristwatch-type monitoring device equipped with GPS technology that is designed
to be worn at all times by persons suffering from chronic health problems. This
device, known as "PalWatch(TM)" unobtrusively takes the vital signs of the
wearer and transmits the data wirelessly to a health care provider regardless of
where the wearer is located. The PalWatch enables the care provider to remind
the patient to take medications and provides monitoring capabilities in case of
emergencies. Voice contact can be established with the monitoring center at the
touch of a single button when vital signs are outside of established parameters
or in case of emergencies. The PalWatch gives the chronically ill patient the
safety and mobility to live a more normal life while being in constant contact
with health care providers. It also provides the assurance that a live personal
assistant is available to help if the wearer encounters an emergency.
The Company plans to be among the first to provide a combination of emergency
response systems and remote monitoring of the chronically ill. RemoteMDx plans
to implement a quality technological solution to promote efficiency in an
industry that is failing to do so. It is expected that RemoteMDx's technology
products and services will provide more timely capture of patient condition data
leading to earlier and more cost effective treatments. This should result in
improved patient satisfaction and outcomes through consistent and convenient
access to healthcare, while creating a portable electronic trail to a patient's
medical history. This in turn is expected to lower the cost of patient and
physician interaction, reducing costs for healthcare payors and providers.
19
The Company's SecureAlert subsidiary sells mobile and personal security systems,
as well as consumer electronics products from the subsidiary's headquarters in
Knoxville, Tennessee. During the nine months ended June 30, 2002, SecureAlert
began distribution of its new emergency cellular devices with global positioning
satellite ("GPS") technology, the MobilePAL+GPS(TM). Other mobile security
products include the 911Phone and related services. New applications of the core
technology will also be introduced during fiscal year 2002, including technology
and services for remote monitoring of the chronically ill. Currently,
SecureAlert generates a majority of its revenues from the sale of consumer
electronics. SecureAlert expects that by the end of fiscal year 2002 its product
mix will be approximately evenly divided between consumer electronics and mobile
and personal security products and services.
Special Note Regarding Forward-looking Information
Certain statements in this Item 2 - "Management's Discussion and Analysis or
Plan of Operation" are "forward-looking statements" within the meaning of the
Securities Exchange Act of 1934 (the "Exchange Act"). For this purpose, any
statements contained or incorporated in this report that are not statements of
historical fact may be deemed to be forward-looking statements. The words,
"believes," "will," "plans," "anticipates," "expects" and similar expressions
are intended to identify forward-looking statements. A number of important
factors could cause the actual results of the Company to differ materially from
those anticipated by forward-looking statements. These factors include those set
forth under the caption "Risk Factors" in Item 6 - "Management's Discussion and
Analysis or Plan of Operation" in the Company's Annual Report on Form 10-KSB for
the year ended September 30, 2001.
Critical Accounting Policies
The accounting policies that are considered by the Company to be significant in
determining the results of operations and its financial position are explained
below. The Company believes that the accounting principles utilized by it
conform to generally accepted accounting principles in the United States of
America.
The preparation of consolidated financial statements requires management to make
significant estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses. By their nature, these judgments are subject
to an inherent degree of uncertainty. On an on-going basis, the Company
evaluates its estimates, including those related to bad debts, inventories,
intangible assets, warranty obligations, product liability, revenue, and income
taxes. The Company bases its estimates on historical experience and other facts
and circumstances that are believed to be reasonable, and the results form the
basis for making judgments about the carrying value of assets and liabilities.
The actual results may differ from these estimates under different assumptions
or conditions.
With respect to inventory reserves, revenue recognition and allowance for
doubtful accounts, the Company applies the following critical accounting
policies in the preparation of its financial statements:
Inventory Reserves
The nature of the Company's business requires it to maintain sufficient
inventory on hand at all times to meet the requirements of its customers. The
Company records finished goods inventory at the lower of standard cost, which
approximates actual costs (first-in, first-out) or market. Raw materials are
stated at the lower of cost (first-in, first-out), or market. General inventory
reserves are maintained for the possible impairment of the inventory. Impairment
may be a result of slow moving or excess inventory, product obsolescence or
changes in the valuation of the inventory. In determining the adequacy of its
reserves, the Company analyzes the following, among other things:
o Current inventory quantities on hand;
o Product acceptance in the marketplace;
o Customer demand;
o Historical sales;
o Forecast sales;
o Product obsolescence; and
20
o Technological innovations.
Any modifications to these estimates of reserves are reflected in the cost of
goods sold within the statement of operations during the period in which such
modifications are determined necessary by management.
Revenue Recognition
The Company derives revenue primarily from the sale of consumer electronics and
reagent stains. Under applicable accounting principles, revenue, less reserves
for returns, is recognized upon shipment to the customer. From the date of the
acquisition of SecureAlert in July 2001 through June 30, 2003, and for the year
periods ended June 30, 2003, the provision for sales returns was not material.
Amounts received in advance of shipment are recorded as deferred revenue.
Shipping and handling fees are included as part of net sales. The related
freight costs and supplies directly associated with shipping products to
customers are included as a component of cost of goods sold.
Impairment of Long-lived Assets
Under applicable accounting principles, the Company does not amortize goodwill.
Goodwill is subject to an impairment test, which is performed at least annually.
The Company's goodwill is related to the acquisition of SecureAlert in July
2001. During the year ended September 30, 2002 the Company tested goodwill for
impairment by comparing the carrying value of the assets of its wholly owned
subsidiary SecureAlert, to the estimated fair value of those assets. The fair
value was determined using an income approach of estimated future cash flows.
The estimated future cash flows include those primarily related from mobile
medical alert devices. The carrying amount including goodwill was determined to
exceed the estimated fair value. Therefore the Company recognized an impairment
of goodwill in 2002.
The Company reviews its long-lived assets, other than goodwill, for impairment
when events or changes in circumstances indicate that the book value of an asset
may not be recoverable. The Company evaluates, at each balance sheet date,
whether events and circumstances have occurred which indicate possible
impairment. The Company uses an estimate of future undiscounted net cash flows
of the related asset or group of assets over the estimated remaining life of in
measuring whether the assets are recoverable.
Accounting for Stock-based Compensation
The Company accounts for stock-based compensation issued to employees and
directors under Accounting Principles Board Opinion ("APB") No. 25, "Accounting
for Stock Issued to Employees," and related interpretations. Under APB No. 25,
compensation related to stock options, if any, is recorded if an option's
exercise price on the measurement date is below the fair value of the company's
common stock and amortized to expense over the vesting period. Compensation
expense for stock awards or purchases, if any, is recognized if the award or
purchase price on the measurement date is below the fair value of the common
stock and is recognized on the date of award or purchase. Statement of Financial
Accounting Standards ("SFAS") No. 123, "Accounting for Stock Based
Compensation," requires pro forma information regarding net loss and net loss
per common share as if the company had accounted for its stock options granted
under the fair value method.
The Company accounts for stock-based compensation issued to persons other than
employees using the fair value method in accordance with SFAS No. 123 and
related interpretations. Under SFAS No. 123, stock-based compensation is
determined as either the fair value of the consideration received or the fair
value of the equity instruments issued, whichever is more reliably measurable.
The measurement date for these issuances is the earlier of either the date at
which a commitment for performance by the recipient to earn the equity
instruments is reached or the date at which the recipient's performance is
complete.
Allowance for Doubtful Accounts
The Company must make estimates of the collectability of accounts receivables.
In doing so, the Company analyze accounts receivable and historical bad debts,
customer credit-worthiness, current economic trends and changes in customer
payment patterns when evaluating the adequacy of the allowance for doubtful
accounts.
21
Three months ended June 30, 2002 Compared to Three months ended June 30, 2001
Net Sales
For the three months ended June 30, 2002, the Company had net sales of
$3,029,664 compared to $128,500 for the three months ended June 30, 2001, an
increase of $2,901,164. The increase in net sales resulted primarily from the
acquisition of SecureAlert in July 2001. SecureAlert had net sales of $2,901,388
during the three months ended June 30, 2002. These sales consisted of $2,749,902
of consumer electronics and $151,486 of mobile emergency and personal security
systems. Reagents had revenues for the three months ended June 30, 2002 of
$128,276, relatively unchanged from the prior year fiscal period. The Company
anticipates that Reagents' sales will decrease in the future as a percentage of
total sales.
Cost of Goods Sold
For the three months ended June 30, 2002, the Company had cost of goods sold of
$2,617,258 compared to $108,969 for the three months ended June 30, 2001, an
increase of $2,508,289. The increase in cost of sales resulted primarily from
the acquisition of SecureAlert. SecureAlert's cost of goods sold totaled
$2,538,485 or 87% of SecureAlert's net sales during the three months ended June
30, 2002. Reagents' cost of goods sold totaled $78,773 or 61% of Reagent's net
sales for the three months ended June 30, 2002, compared to $108,969 or 62% of
Reagent's net sales for the same period during the prior fiscal year. The
decrease as a percentage of net sales was primarily due to decreased materials
costs, wages and overhead costs.
Research and Development Expenses
For the three months ended June 30, 2002, the Company incurred research and
development expenses of $119,921 compared to $81,043 for the three months ended
June 30, 2001. During the three months ended June 30, 2002, research and
development expenses consisted primarily of expenses associated with the
development of SecureAlert's personal security devices, and related services.
Amortization of Core Technology
Core technology primarily represents patents in the area of remote security and
medical alert devices received in the acquisition of SecureAlert. Core
technology is amortized using the straight-line method over an estimated useful
life of three years and totaled $46,667 for the three months ended June 30,
2002.
Selling, General and Administrative Expenses
During the three months ended June 30, 2002, the Company incurred selling,
general and administrative expenses of $3,329,761 compared to $802,785 for the
three months ended June 30, 2001, an increase of $2,526,976. This increase
relates primarily to the following: (1) approximately $911,390 of selling,
general and administrative expenses from SecureAlert, (2) approximately
$1,410,325 of options valued at $3 per share to consultants for services, and
(3) approximately $1,008,046 related to additional legal, accounting and
consulting fees.
Interest Income and Expense
During the three months ended June 30, 2002, the Company incurred interest
expense of $654,801. This amount consists primarily of non-cash interest expense
of $544,601 related to preferred stock issuances under a related-party line of
credit, together with approximately $16,972 in amortization of a discount on the
purchase obligation to former shareholders of SecureAlert and approximately
$527,629 in interest related to other borrowings.
Nine months ended June 30, 2002 Compared to Nine months ended June 30, 2001
Net Sales
For the nine months ended June 30, 2002, the Company had net sales of $7,919,434
compared to $384,265 for the nine months ended June 30, 2001, an increase of
$7,535,169. The increase in net sales resulted primarily from the acquisition of
SecureAlert in July 2001. SecureAlert had net sales of $7,503,468 during the
nine months ended June 30, 2002. These sales consisted of $6,917,201 of consumer
22
electronics and $586,267 of mobile emergency and personal security systems.
Reagents had revenues for the nine months ended June 30, 2002 of $415,966,
relatively unchanged from the prior year fiscal period. The Company anticipates
that Reagents' sales will decrease in the future as a percentage of total sales.
Cost of Goods Sold
For the nine months ended June 30, 2002, the Company had cost of goods sold of
$6,711,146 compared to $267,544 for the nine months ended June 30, 2001, an
increase of $6,443,602. The increase in cost of sales resulted primarily from
the acquisition of SecureAlert. SecureAlert's cost of goods sold totaled
$6,442,006 or 86% of SecureAlert's net sales during the nine months ended June
30, 2002. Reagents' cost of goods sold totaled $269,140 or 65% of Reagent's net
sales for the nine months ended June 30, 2002, compared to $267,544 or 70% of
Reagent's net sales for the same period during the prior fiscal year. The
decrease as a percentage of net sales was primarily due to a decrease in
materials costs, wages and overhead costs.
Research and Development Expenses
For the nine months ended June 30, 2002, the Company incurred research and
development expenses of $399,329 compared to $263,612 for the period ended June
30, 2001. During the nine months ended June 30, 2002, the increase in research
and development expenses consisted primarily of expenses associated with the
development of SecureAlert's personal security devices, and related services and
common stock options valued at $68,799 that were granted to a consultant.
Amortization of Core Technology
Core technology primarily represents patents in the area of remote security and
medical alert devices received in the acquisition of SecureAlert. Core
technology is amortized using the straight-line method over an estimated useful
life of three years and totaled $140,000 for the nine months ended June 30,
2002.
Selling, General and Administrative Expenses
During the nine months ended June 30, 2002, the Company incurred selling,
general and administrative expenses of $24,243,601 compared to $2,796,845 for
the nine months ended June 30, 2001, an increase of $21,446,756. This increase
relates primarily to warrants and stock issued to ADP Management in connection
with financing and consultation compensation and the cashless exercise of Series
A Preferred Stock warrants. Total expense relating to issuances of equity to ADP
Management which is included in general administrative expense was $16,844,139
for the nine months ended June 30, 2002. In addition, approximately $2,236,000
of recorded expenses related to the issuance of warrants to other consultants
valued at $3 per share to various consultants for services. The remaining
increase is due to legal and accounting fee which were approximately $1,200,000;
an increase general operating overhead of about $737,000; an increase in
salaries of $200,000 primarily related to increases in personnel and
approximately $230,000 of increased travel and other expenses. These increases
were offset in part by a decrease of $33,000 in directors' fees.
Interest Income and Expense
During the nine months ended June 30, 2002, the Company incurred interest
expense of $3,540,671. This amount consists primarily of non-cash interest
expense of $3,118,657 related to preferred stock issuances under a related-party
line of credit, together with approximately $39,275 in amortization of a
discount on the purchase obligation to former shareholders of SecureAlert and
approximately $382,739 in interest related to other borrowings.
Liquidity and Capital Resources
The Company currently is unable to finance its operations solely from cash flows
from operating activities. During the nine months ended June 30, 2002, the
Company financed its operations primarily through borrowings from a related
party and the sale of equity securities.
As of June 30, 2002, the Company had cash of $1,024,033 and a working capital
deficit of $3,722,198 compared to cash of $59,977 and a working capital deficit
of $2,865,119 at September 30, 2001. This change is primarily the result of cash
used in operations of $5,975,260.
23
During the nine months ended June 30, 2002, the Company's operating activities
used cash of $5,975,260 compared to cash of $1,524,458 used during the nine
months ended June 30, 2001. The increase was primarily a result of the cash used
to fund operating costs of SecureAlert. Increased costs included legal and
accounting, travel, general administrative and debt financing costs.
The Company's investing activities for the nine months ended June 30, 2002 used
$87,452 to purchase property and equipment.
The Company's financing activities during the nine months ended June 30, 2002
provided cash of $7,026,768 compared to $1,830,000 during the nine months ended
June 30, 2001. During the nine months ended June 30, 2002, the Company received
cash of $96,000 from the issuance of redeemable common stock, $1,433,932 from
the issuance of notes payable and $1,328,153 from net borrowings from a related
party. This cash was increased by net borrowings of $1,256,413 on the Company's
line of credit with SunTrust. All of the financing activities for the nine
months ended June 30, 2001 were provided by the related party line of credit.
The Company incurred a net loss of $27,105,915 and had negative cash flows from
operating activities of $5,975,260 during the nine months ended June 30, 2002.
As of June 30, 2002, the Company had a working capital deficit of $3,727,197,
net tangible stockholders' equity deficit of $4,116,711 and an accumulated
deficit of $48,814,006, compared to a working capital deficit of $2,865,119, a
net tangible stockholders' deficit of $2,683,057 and an accumulated deficit of
$21,708,091 at September 30, 2001. These factors, as well as the risk factors
set out in the Company's annual report on Form 10-KSB for the year ended
September 30, 2001, raise substantial doubt about the Company's ability to
continue as a going concern. The unaudited condensed consolidated financial
statements included in this report do not include any adjustments that might
result from the outcome of this uncertainty.
Management's plans with respect to this uncertainty include raising additional
capital from the sale of debt and equity securities. In furtherance of this
plan, during the quarter ended June 30, 2002, the Company raised additional debt
financing from Mr. Derrick and his affiliates, increased its borrowings under a
line of credit with SunTrust, and sold 1,000,000 shares of Series B Preferred
Stock to investors for net proceeds of approximately $3,000,000. The Company
also plans to enhance revenues and cash flows from the SecureAlert operation by
increasing its selling and marketing efforts related to existing products and
services. There can be no assurance that the Company will be able to raise
sufficient capital to meet its working capital needs over the next twelve
months, which include $400,000 in cash to fund the balance of the purchase
obligation associated with the Company's acquisition of SecureAlert. In
addition, there can be no assurance that the SecureAlert operations will improve
and generate positive cash flows from operating activities and that it will be
successful introducing new products into the market. Further, the Company may be
unable to complete the development and successful commercialization of any
remote health monitoring products.
In February 2001, the Company entered into a loan agreement with ADP Management,
a Utah corporation owned and controlled by David Derrick, the Company's CEO and
Chairman and Jim Dalton, the Company's President and Vice Chairman. The loan
agreement was amended in March 2001 and again in June 2001. During 2001, the
agreement provided that the Company could borrow up to $3,000,000. For the nine
months ended June 30, 2002, borrowings under this arrangement totaled $1,872,822
and repayments totaled $1,490,999. The amount outstanding at June 30, 2002 was
$401,964. Prior to December 31, 2001, the Company granted to ADP Management the
option to purchase one share of Series A Preferred Stock for every $200 in
principal loaned under the line of credit, which option included a cashless
exercise feature. Through June 1, 2001, the borrowings bore interest at 12% per
year. Subsequent to June 1, 2001, borrowings bore interest at the prime rate
(4.75% at December 31, 2001). Borrowings under the arrangement were due on
December 31, 2001.
Effective December 31, 2001, the Company and ADP Management entered into an
extension and modification of the loan agreement. The extension and modification
was negotiated on behalf of the Company by the audit committee of the board of
directors and was approved unanimously by the board of directors, with Messrs.
Derrick, Dalton and Kirton abstaining. The amendment (1) extended the date for
repayment of all amounts advanced under the loan agreement to December 31, 2002;
(2) provided that ADP Management would loan or facilitate credit to the Company
of up to $2,000,000 before March 31, 2002; (3) provided that amounts borrowed
after December 31, 2001 do not bear interest; (4) capped at 6,688 the number of
shares of Series A Preferred Stock issued with respect to amounts advanced or
guaranteed as of December 31, 2001; (5) required that all shares of Series A
Preferred Stock issued to ADP Management be converted into shares of common
stock; (6) cancelled all unexercised warrants for the purchase of Series A
Preferred Stock at December 31, 2001; and (7) provided that if ADP Management
24
extended the remaining $600,000 available under the agreement by March 31, 2002,
the Company would grant ADP Management warrants for the purchase of 3,450,000
shares of common stock at an exercise price that is equivalent to the conversion
price of the Series A Preferred Stock issuable under the loan agreement prior to
amendment. That price is the equivalent of $0.54 per common share. The warrants
expire March 31, 2007 and do not have a cashless exercise provision.
During the nine months ended June 30, 2002, the Company recorded interest
expense of $1,539,530 associated with this line of credit. This amount includes
$1,531,775 in non-cash interest expense related to the Series A Preferred Stock
warrants.
SecureAlert has a line of credit agreement with SunTrust. As of June 30, 2002,
the Company had $1,850,000 outstanding under this line of credit. During the
quarter ended March 31, 2002, SecureAlert and SunTrust entered into an amended
and restated revolving promissory note. As amended, SecureAlert may borrow up to
$1,850,000 under the note, with accrued interest due in monthly installments
beginning in February 2002. The due date of this line of credit was extended to
July 1, 2002. The borrowings under the amended line of credit agreement are
collateralized by certificates of deposit and personal letters of credit from
several parties, including several shareholders and officers and a $250,000
letter of credit from a bank that is guaranteed by a shareholder. See Note 6 to
the Company's unaudited condensed consolidated financial statements included in
this report.
Recent Developments
Agreements with former Employees and Consultants
After determining that the Company would focus its business on remote medical
and personal security monitoring products and services, the Company entered into
an agreement with Brian Boling, Tim Welch, Jim Steinmeyer and Ron Bishop and
their respective affiliates to provide for the termination of employment and
consulting agreements, the assignment of property and other rights. Under this
agreement, effective January 1, 2003, these parties agreed to terminate their
respective consulting agreements with the Company and its affiliates, returned
400,000 shares of common stock issued in the acquisition of SecureAlert,
forfeited payments under the merger agreement totaling $300,000, and forfeited
accrued vacation and sick pay. The Company transferred to a newly formed entity
owned and controlled by these former employees and consultants, equipment and
inventory and the Company assigned accounts receivable to cover assumed
liabilities in connection with the distribution of product under a distribution
agreement described below.
Bishop Agreement
Effective December 31, 2002, the Company entered into an agreement with Ron
Bishop, a former consultant of the Company, to terminate consulting agreements
pursuant to which he had agreed to assist in the development of GPS and
monitoring technology and related services. The Company agreed to issue 65,000
restricted shares of common stock and the Company granted an option to Mr.
Bishop for the purchase of 20,000 common shares at $3.00 per share. Bishop
agreed to complete programming on product interfaces and other products for the
Company and granted the Company a perpetual royalty-free license to certain
software used in the Company's GPS products and monitoring centers.
Natale Agreement
On February 28, 2003, the Company entered into an agreement with Tom Natale, who
had been serving as the President of the Company. Under the terms of the
agreement, which was subsequently amended and extended through October 2003, Mr.
Natale and the Company mutually agreed to terminate Mr. Natale's employment
contract. Mr. Natale will be paid a monthly consulting fee of $5,000 and receive
health benefits from the Company through November 2003. A bonus payment of
$30,000 is payable in October 2003. Mr. Natale also entered into a nondisclosure
and confidentiality agreement relating to the Company's technology, including
trade secrets and other intellectual property. In a separate agreement entered
into June 30, 2003, Mr. Natale assigned to the Company a $100,000 certificate of
deposit previously pledged as collateral for the Company's line of credit at a
bank. In consideration of the assignment, the Company agreed to release and
indemnify Mr. Natale from further liability under the line of credit and agreed
to pay back interest of $8,000 and to issue to Mr. Natale 7,500 shares of common
stock and warrants to purchase 7,500 shares of common stock at a price of $3.00
per share. Mr. Natale also received a $100,000 promissory note payable to him
jointly and severally by David Derrick, James Dalton, and ADP Management. ADP
25
Management assumed the liability associated with this note and the Company is
under no further obligation.
Liady Agreement
In an agreement entered into June 30, 2003, Ms. Liady assigned to the Company a
$100,000 certificate of deposit previously pledged as collateral for the
Company's line of credit at a bank. In consideration of the assignment, the
Company agreed to release and indemnify Ms. Liady from further liability under
the line of credit and agreed to pay back interest of $2,500 and to issue to Ms.
Liady 5,000 shares of common stock and warrants to purchase 5,000 shares of
common stock at a price of $3.00 per share. Ms. Liady also received a $100,000
promissory note payable to her jointly and severally by David Derrick, James
Dalton, and ADP Management. ADP Management assumed the liability associated with
this note and the Company is under no further obligation.
Consumer Electronics Distribution
On January 1, 2003, the Company entered into an agreement with SecureAlert
Entertainment LLC granting it exclusive distribution rights to the Company's
consumer electronics products to the manufactured homes marketing channel in
North America. In consideration of the grant of exclusive rights in the
agreement, SecureAlert Entertainment agreed to make all payments to Mr. Bishop
under his several agreements with the Company and to purchase inventory from the
Company. In addition, former SecureAlert II shareholders waived their right to
and returned to the Company for cancellation 400,000 shares of common stock
issued in the merger of SecureAlert II. SecureAlert Entertainment is barred from
marketing or distributing products to the PERS and home medical or personal
health monitoring markets and is bound by a five-year post-termination covenant
against competing with the Company in any market. The agreement was subsequently
amended in June 2003 to clarify the pricing of products as well as policies
regarding the Company's responsibility for warranty service, returns, and
delivery of product; purchases are made only by submission of orders to the
Company and title to products passes upon shipment. The agreement expires
December 31, 2003. If the agreement expires without extension or if a new
distributor is not engaged, the Company expects revenues from the sale of
consumer electronics products to decline substantially after December 31, 2003.
Telematics Distribution
The Company entered into an agreement with SecureAlert Telematics Corporation
for the distribution of the Company's telematics and mobile GPS products. In
connection with this agreement, the Company acknowledged Mr. Bishop's role in
the development of the underlying GPS technology included in the MobilePAL
products and agreed to assign a patent application relating to that technology
to Mr. Bishop (Patent App. 10/202,769). SecureAlert Telematics will pay the
Company a royalty in the amount of 10% of net revenue from all customer sales
and services for a period of seven years from the date of activation of all
products and services sold by SecureAlert Telematics during the three-year term
of the agreement. The parties also agreed that during the first six months of
the agreement SecureAlert Telematics would have use of the Company's monitoring
center without additional charge and that the parties would share in the cost of
the monitoring center thereafter during the balance of the term of the agreement
until such time as SecureAlert Telematics could establish its own center. The
products that are subject to this agreement are the MobilePAL and TravelPAL
products sold to specific channels identified by the agreement. SecureAlert
Telematics is barred from selling in the PERS and personal and home health
monitoring markets.
Debt Restructuring
During the quarter ended June 30, 2003, the Audit Committee of the board of
directors approved a debt-restructuring package proposed by ADP Management,
David Derrick and James Dalton. By agreement dated April 2, 2003, the Company
and ADP Management, Mr. Derrick and Mr. Dalton agreed to the following primary
terms:
o Derrick and Dalton agreed to negotiate with significant creditors of
the Company to restructure outstanding debt.
o The Company would issue a total of 8,900,000 shares of common stock
for the purpose of restructuring its debt under this package.
o The preferred method of restructuring the debt would be the conversion
26
of the debt into common shares at prices negotiated on behalf of the
Company by Derrick and Dalton.
o If and to the extent that Derrick and Dalton would assume certain debt
held by creditors unwilling to convert such obligations directly into
equity the shares otherwise issuable in conversion of the assumed debt
would be issued to Derrick and Dalton in consideration of their
assumption of the debt and the release of the Company of all liability
for such debt by the creditor.
o ADP Management would convert all amounts owing to it after all other
creditors have either converted or assigned their notes as described
above for the remaining shares, if any.
o The Company would compensate Derrick and Dalton for personal
guarantees and assumptions of corporate debt and obligations.
o Mr. Derrick would assign certificates of deposit to the Company
securing a line of credit with a bank.
As of June 30, 2003, under the provisions of this agreement the Company:
o Converted $1,167,750 of principal and accrued interest into 786,001
shares of common stock at $1.50 per share.
o Was released from debt obligations to third parties totaling
$2,613,975 in principal and accrued interest assumed by ADP
Management, Derrick and Dalton and converted these obligations into
common stock
o Settled all obligations and guarantees of ADP Management, Derrick and
Dalton, including $709,986 of principal and accrued interest owing to
ADP Management and converted these obligations into common stock, and
o Received from ADP Management assignment of $550,000 of certificates of
deposit securing a line of credit with a bank.
The total debt relief provided to the Company as a result of these transactions
was approximately $4,342,000. ADP Management also committed to assume an
additional $700,000 of debt upon release of the Company by the note holder. The
total number of shares issued in connection with this transaction was 8,416,667
of which 8,113,999 were issued to ADP Management in connection with its
assumption of debt, guarantees, and agreement to indemnify the Company described
above. The number of shares ultimately retained by ADP Management is not known
at this time as ADP Management will continue to negotiate settlement of the
debts and obligations assumed by it and use the shares allocated to it as
consideration for such settlements.
Item 3. Controls and Procedures
Evaluation of Disclosure Controls and Procedures. Based upon their review, the
Company's principal executive officer and principal financial officer have
concluded that the current disclosure controls and procedures (as defined in
Exchange Act Rules 240.13a-14(c) and 15d-14(c)) are effective in providing the
material information required to be disclosed in the reports the Company files
or submits under the Exchange Act. Their review was completed as of a date
within 90 days before the filing date of this quarterly report
Changes in Internal Controls. There have been no significant changes in the
Company's internal controls or in other factors that could significantly affect
internal controls subsequent to the date the Company carried out this
evaluation.
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds
During the nine months ended June 30, 2002, the Company issued 3,381,317 shares
of common stock without registration of the offer and sale of the securities
under the Securities Act of 1933, as amended, as follows:
o 142,036 shares were issued for services rendered or to be rendered,
27
o 2,258,547 shares were issued upon the conversion of 6,117 shares of
Series A Preferred Stock (see Note 10),
o 35,733 shares were issued as the result of the conversion of
convertible debentures (see Note 8),
o 140,000 shares were issued for financing costs from notes and
redeemable common stock, and
o 805,001 shares were issued upon exercising of options.
In each of these transactions the securities were issued to individuals or
entities that were "accredited investors" as that term is used in Rule 501 under
Regulation D of the Securities Act. The issuance of the securities was
accomplished without registration under the Securities Act in reliance on the
exemptions from the registration requirements of the Securities Act afforded by
Section 4(2) and Rule 506 of Regulation D under the Securities Act.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits Required by Item 601 of Regulation S-B
Exhibit Number Title of Document
10.01Distribution and Separation Agreement (incorporated by reference to the
Company's Registration Statement and Amendments thereto on Form 10-SB,
effective December 1, 1997).
10.021997 Stock Incentive Plan of the Company, (incorporated by reference to
the Company's Registration Statement and Amendments thereto on Form 10-SB,
effective December 1, 1997).
10.031997 Transition Plan (incorporated by reference to the Company's
Registration Statement and Amendments thereto on Form 10-SB, effective
December 1, 1997).
10.04Securities Purchase Agreement for $1,200,000 of Series A Preferred Stock
(incorporated by reference to the Company's Registration Statement and
Amendments thereto on Form 10-SB, effective December 1, 1997)
10.05Securities Purchase Agreements with ADP Management and James Dalton
(previously filed)
10.06Agreement and Plan of Merger (SecureAlert) (previously filed as exhibit to
Current Report on Form 8-K)
10.07Loan Agreement (as amended) dated June 2001 between ADP Management and the
Company (incorporated by reference to the Company's annual report on Form
10-KSB for the year ended September 30, 2001)
10.08Amended and Restated Loan and Security Agreement (SunTrust Bank and
SecureAlert), dated August 3, 2001 (incorporated by reference to the
Company's annual report on Form 10-KSB for the year ended September 30,
2001)
10.09Amended and Restated Loan and Security Agreement (SunTrust Bank and
SecureAlert), dated January 24, 2002 (filed as an exhibit to the Company's
quarterly report on Form 10-QSB for the quarter ended December 31, 2001)
10.10Amended and Restated Loan and Security Agreement (SunTrust Bank and
SecureAlert) dated March 1, 2002 (filed as an exhibit to the Company's
quarterly report on Form 10-QSB for the quarter ended December 31, 2001)
10.11Loan Agreement (as amended and extended) dated March 5, 2002 between ADP
Management and the Company, effective December 31, 2001 (filed as an
exhibit to the Company's quarterly report on Form 10-QSB for the quarter
ended December 31, 2001)
28
10.12License Agreement between RemoteMDx, Inc. and SecureAlert, Inc. as
licensor and Matsushita Electric Works, Ltd., as licensee, (April 12, 2002)
(previously filed)
31.1 Certification of President and Chief Executive Officer under Section 302 of
Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer under Section 302 of
Sarbanes-Oxley Act of 2002
32 Certification under Section 906 of the Sarbanes-Oxley Act of 2002 (18
U.S.C. SECTION 1350)
(b) Reports on Form 8-K
During the quarter ended June 30, 2002, the Company filed one report on Form 8-K
to report the dismissal of Arthur Andersen LP.
29
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report, as amended, to be signed on its behalf by the undersigned,
thereunto duly authorized.
REMOTEMDX, INC.
Date: October 30, 2003 By: /s/ David G. Derrick
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David G. Derrick,
Chief Executive Officer
Date: October 30, 2003 By: /s/ Michael G. Acton
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Michael G. Acton,
Principal Accounting Officer