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 March 31, 2003
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 for the period ended March 31, 2003, 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
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TABLE OF CONTENTS
Page
No.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheet as of March 31, 2003............3
Unaudited Condensed Consolidated Statements of Operations for
the three and six months ended March 31, 2003 and 2002.........................4
Unaudited Condensed Consolidated Statements of Cash Flows for
the six months ended March 31, 2003 and 2002...................................6
Notes to Unaudited Condensed Consolidated Financial Statements.................7
Item 2. Management's Discussion and Analysis or Plan of Operation.....................16
Item 3. Controls and Procedures.......................................................21
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds.....................................22
Item 6. Exhibits and Reports on Form 8-K..............................................22
Signatures..............................................................................24
2
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
REMOTEMDX, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(Unaudited)
March 31, 2003
------------------------
Assets
Current assets:
Cash $ 69,867
Accounts receivable, net of allowance for doubtful accounts of $233,000 70,936
Inventories 493,670
Prepaid expenses 20,590
------------------------
Total current assets 655,063
Property and equipment, net 33,937
Core technology, net 233,333
Goodwill 3,569,164
Other assets 1,372
------------------------
Total assets $ 4,492,869
========================
Liabilities and Stockholders' Deficit
Current liabilities:
Notes payable $ 3,081,278
Bank line of credit 551,475
Related-party convertible notes payable 500,000
Related-party notes payable 486,629
Related-party line of credit 1,334,630
Accounts payable 573,737
Accrued liabilities 436,003
Dividends payable 780,925
------------------------
Total current liabilities 7,744,677
------------------------
Commitments and contingencies
Redeemable common stock (see Note 8) 561,000
Stockholders' deficit:
Preferred stock:
Series A; 10% dividend, convertible, non-voting; $0.0001 par value; 30,000
shares designated; 3 25,207 shares outstanding (aggregate liquidation
preference of $1,105,681)
Series B; convertible; $0.0001 par value; 2,000,000 shares designated; 1,835,824
shares outstanding (aggregate liquidation preference of $2,507,472) 184
Common stock; $0.0001 par value; 50,000,000 shares authorized, 12,812,541 shares outstanding 1,281
Additional paid-in capital 54,613,431
Series A preferred stock subscription receivable - due from related party (338,300)
Accumulated deficit (58,089,407)
-------------------------
Total stockholders' deficit (3,812,808)
-------------------------
Total liabilities and stockholders' deficit $ 4,492,869
=========================
See accompanying notes to unaudited condensed
consolidated financial statements.
3
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended Six months ended
March 31, March 31,
--------------------------------- ------------------------------------------
2003 2002 2003 2002
---------------- ---------------- ------------------- ----------------------
Net sales $ 469,095 $ 2,601,519 $ 3,431,806 $ 4,889,770
Cost of goods sold 354,715 2,230,730 3,324,130 4,093,888
---------------- ---------------- ------------------- ----------------------
---------------- ---------------- ------------------- ----------------------
Gross profit 114,380 370,789 107,676 795,882
Research and development expenses (7,058) 93,657 98,061 279,408
Selling, general and administrative expenses 947,387 10,992,954 2,411,788 20,913,840
Amortization of core technology 46,666 46,666
93,333 93,333
---------------- ---------------- ------------------- ----------------------
---------------- ---------------- ------------------- ----------------------
Loss from operations (872,614) (10,762,488) (2,495,506) (20,490,699)
Other income (expense):
Interest income 1,394 5,369
215 1,915
Interest expense (158,426) (1,302,246) (411,337) (2,885,870)
---------------- ---------------- ------------------- ----------------------
---------------- ---------------- ------------------- ----------------------
Net loss (1,030,825) (12,062,819) (2,905,449) (23,371,200)
Dividends on Series A preferred stock (148,022) (123,928) (305,102) (244,833)
---------------- ---------------- ------------------- ----------------------
Net loss attributable to common stockholders $ (1,178,847) $ (12,186,747) $ (3,210,551) $ 23,616,033
================ ================ =================== ======================
Net loss per common share - basic and diluted $ (.09) $ (1.42) $ (.25) $ (2.81)
================ ================ =================== ======================
Weighted average shares - basic and diluted 12,664,000 8,590,000 12,761,000 8,410,000
================ ================ =================== ======================
See accompanying notes to unaudited condensed
consolidated financial statements.
4
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six months ended
March 31,
------------------------------------------
2003 2002
-------------------- --------------------
Cash flows from operating activities:
Net loss $ (2,905,449) $ (23,371,200)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 126,518 149,213
Bad debt expense 162,000 -
Loss on write-off of equipment charged to cost of sales 86,514 -
Amortization of discount on purchase obligation to former
SecureAlert shareholders 5,825 49,781
Amortization of deferred consulting and financing costs 400,000 238,785
Interest expense related to preferred stock issuances associated
with borrowings under related-party line of credit - 2,341,465
Common stock issued for services 289,934 414,108
Preferred stock issued to related parties for services - 2,324,341
Redeemable common stock issued for services - 165,000
Common stock options and warrants issued primarily to related parties
for services - 15,246,654
Changes in operating assets and liabilities:
Accounts receivable, net 549,210 (390,519)
Inventories 346,987 (618,618)
Other assets 1,834 -
Prepaid expenses (10,312) 31,332
Accounts payable (108,589) 311,527
Accrued liabilities 139,787 (124,586)
Deferred revenue (81,430) (59,761)
-------------------- --------------------
Net cash used in operating activities (1,159,171) (3,292,478)
-------------------- --------------------
Cash flows used in investing activities-
purchase of property and equipment - (8,658)
-------------------- --------------------
-------------------- --------------------
Cash flows from financing activities:
Payments on purchase obligations to former SecureAlert shareholders - (600,000)
Net borrowings under related-party line of credit 454,782 385,964
Net borrowings on bank line of credit (248,525) 1,256,413
Payments on related party notes (25,000) -
Proceeds from issuance of redeemable common stock - 96,000
Proceeds from issuance of Series B preferred stock, net of cash offering costs - 366,173
Proceeds from issuance of notes payable 1,110,908 2,683,720
Payments on notes payable (114,517) (896,146)
-------------------- --------------------
Net cash provided by financing activities 1,177,648 3,292,124
-------------------- --------------------
Net increase (decrease) in cash 18,477 (9,012)
Cash, beginning of period 51,390 59,977
-------------------- --------------------
Cash, end of period $ 69,867 $ 50,965
==================== ====================
See accompanying notes to unaudited condensed
consolidated financial statements.
5
REMOTEMDX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(Unaudited)
Six Months ended
March 31,
---------------------------------------------
2003 2002
(Unaudited) (Unaudited)
--------------------- ---------------------
Cash paid for interest and taxes:
Cash paid for income taxes $ - $ -
Cash paid for interest
57,801 311,814
Supplemental schedule of non-cash investing and financing activities:
Issuance of shares of common stock in exchange
for shares of Series A preferred stock 37 -
Reduction of related party line-of-credit in exchange for
exercise of common stock options 71,442 -
Conversion of accrued liability into note payable
- 250,000
Accrual of Preferred Series A stock dividends
305,102 244,833
Deferred financing costs paid for by issuance of redeemable
common shares 45,000 165,000
Deferred financing costs paid for by issuance of nonforfeitable
common stock - 300,000
Series A convertible debentures and related accrued
interest converted into shares of common stock - 59,811
Restricted cash received for debt
300,000 -
Series A preferred stock issued in lieu of cash dividends
17,374 -
Sale of net assets for assumption of liabilities and return
of common shares, detailed as follows:
Accounts payable and accrued liabilities assumed
(488,410) -
Bank line-of-credit assumed
(300,000) -
Obligation to SecureAlert relieved
(400,000) -
Accounts receivable sold
370,501 -
Inventory sold
539,706 -
Property and equipment, net of $80,331 accumulated
depreciation sold 183,484 -
Common stock returned (401,952 shares)
94,719 -
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, 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 six months ended March 31, 2003 and 2002 were generated primarily from
the sale of consumer electronics and to a lesser extent personal security
products and medical stains and reagents.
On January 1, 2003, the Company entered into an agreement with SecureAlert
Entertainment LLC ("SAE") granting it exclusive distribution rights to the
Company's consumer electronics products to the manufactured homes marketing
channel in North America. SAE is barred from marketing or distributing products
to the Personal Emergency Response System ("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. Prior to entering into this agreement, the Company recorded
sales and related cost of sales of its consumer electronics products on a gross
basis. As a result of this agreement in January 2003, the Company began
receiving a commission for all sales by SAE; therefore, from January 2003 to
June 2003, revenues were recorded on a net basis, rather than on a gross basis,
equal to the commission received. As a result of this change, the gross sales
and related cost of sales recorded from January to June 2003 declined
significantly.
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, 2002. The
results of operations for the six months ended March 31, 2003 are not
necessarily indicative of the results that may be expected for the fiscal year
ending September 30, 2003.
7
Going Concern
The Company has reoccurring net losses, has negative cash flows from operating
activities and has a working capital deficit, a stockholders' 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
Impairment of Long-Lived Assets
Goodwill is not amortized but is subject to an impairment test, which is
performed at least annually. Goodwill is related to the acquisition of
SecureAlert in July 2001. The Company tests goodwill for impairment at least
annually or when changes in circumstances may indicate impairment. Impairment is
measured by comparing the carrying value of the component unit to which goodwill
is assigned, namely the assets of its wholly owned subsidiary SecureAlert, Inc.
to the estimated fair value of the component unit using an income approach
method of estimated future cash flows. The estimated future cash flows include
those primarily related from mobile medical alert devices of the component unit.
If the carrying amount of the component unit including goodwill is determined to
exceed the estimated fair value of the component unit then an impairment is
recorded as the difference between the carrying value and the fair market value.
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 in
measuring whether the assets are recoverable.
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.
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. Had compensation cost for the Company's
stock option plans been determined based on the fair value at the grant date for
awards in fiscal year 2002 and 2001 consistent with the provisions of SFAS No.
123, the Company's approximate net loss and loss per share would have been the
pro forma amounts indicated below for the six months ended March 31:
8
Three months ended Six months ended
March 31, March 31,
2003 2002 2003 2002
------------------ ----------------- ------------------- ------------------------
Net loss - as reported $ (1,030,825) $ (12,062,819) $ (2,905,449) $ (23,371,200)
Deduct total stock based employee compensation
expense determined under fair value based
method for all awards, net of related taxes (68,310) - (68,310) (1,045,197)
------------------ ----------------- ------------------- ------------------------
Net loss - pro forma $ (1,099,135) $ (12,062,819) $ (2,973,759) $ (24,416,397)
------------------ ----------------- ------------------- ------------------------
------------------ ----------------- ------------------- ------------------------
Basic and diluted net loss per common share -
as reported $ (0.09) $ (1.42) $ (0.25) $ (2.81)
------------------ ----------------- ------------------- ------------------------
Basic and diluted net loss per common share -
pro forma $ (0.09) $ (1.42) $ (0.25) $ (2.83)
------------------ ----------------- ------------------- ------------------------
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes Option Pricing Model with the following assumptions:
Six Months Ended
March 31,
---------------------------------------
2003 2002
---------------------------------------
Expected dividend yield - -
Expected stock price volatility 146% 110%
Risk-free interest rate 4.75% 6%
Expected life of options 5 years 5 years
The weighted average fair value of options and warrants granted during the six
months ended March 31, 2003 and 2002, were $2.73 and $2.43, respectively.
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 March 31, 2003 and 2002, there were approximately 18,202,257and
14,664,531 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.
9
Revenue Recognition
The Company derives its revenue primarily from the sale of consumer electronics
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.
(2) INVENTORIES
Substantially all items included in inventory are finished goods and consist of
the following as of March 31, 2003:
Mobile emergency and personal security systems $ 450,828
Reagent stains 42,842
-----------------
$ 493,670
=================
(3) NOTES PAYABLE
Notes payable outstanding to individuals at March 31, 2003 were $3,081,278.
During the six months ended March 31, 2003 the Company issued notes payable of $
725,000 to a financing company 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 at $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. Additional significant borrowings under short-term obligations were
$85,807 from a financing company, which is also a significant shareholder,
bearing interest at 12% and unsecured; $300,000 from a relative of the Chief
Financial Officer of the Company, bearing interest at 12% and secured by 500,000
shares of common stock. Subsequent to March 31, 2003, all of these obligations
were assumed by ADP Management and converted to common stock as described in the
next paragraph.
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 Corporation (ADP Management), a company controlled by Mr. Derrick
and Mr. Dalton, whereby Dalton, Derrick and ADP Management agreed to continue to
assist the Company in its financing activities and assume short-term notes and
related interest of $2,613,975, including $700,000 of which the Company has not
yet been released by the holder of the note. In addition, the Company has
guaranteed $800,000 of short-term notes assumed by ADP Management, Derrick and
Dalton (see note 5).
Subsequent to March 31, 2003, the Company converted $400,000 of notes payable
along with accrued interest of $42,750 into 302,668 shares of the Company's
common stock.
(4) BANK LINE OF CREDIT
During the six months ended March 31, 2003, the Company entered into an
agreement with the former shareholders of SecureAlert in which the former
shareholders of SecureAlert assumed $300,000 of the line of credit. On March 11,
2003, the remaining balance of 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. The balance due on the line of credit as of March 31, 2003 is $551,475
(5) RELATED-PARTY LINE OF CREDIT
As of March 31, 2003, $1,334,630 in borrowings was outstanding under a line of
credit agreement with ADP Management an entity controlled by Mr. Derrick.
Through March 31, 2003, borrowings bore interest at the prime rate (4.25 percent
at March 31, 2003) and were due on December 31, 2003.
10
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.
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
share 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 three months ended December
31, 2001, resulting from ADP Management's cashless exercise of warrants. In
addition to the shares, 2,094 shares were issued to ADP Management for various
consulting and 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 six months ended March 31, 2003, the Company recorded interest
expense of $20,542 associated with the line of credit with ADP Management.
Subsequent to March 31, 2003, in connection with a raising of equity funds for
the Company, the Company entered into an agreement with Derrick, Dalton, and ADP
Management wherein ADP Management agreed to continue to assist the Company in
its financing activities and convert all existing debt owed to ADP Management to
common stock. This debt consisted of the following:
o $709,986 of amounts owed under the ADP Management line of credit
o $550,000 in restricted cash received in exchange for an increase in
the related party line of credit
11
o assumption of $2,613,975 of short-term notes payable including accrued
liabilities and interest, $700,000 of which the Company has not yet
been released by the original creditor; and $800,000 of which the
Company has remained a guarantor
o assumption of the contingent liability for 483,333 shares of
redeemable common stock at $2.00 per share, however, the Company has
not been released by the shareholder for this obligation.
In exchange for these assumptions and conversions, the Company assigned a
subscription receivable of $338,300 due from MK financial to ADP Management, and
issued 8,113,999 shares of the Company's common stock. In association with the
issuance of stock in this transaction the Company recorded a subscription
receivable for the unreleased debt of $700,000 and recognized an expense for ADP
Management services of approximately $846,000 based on the excess of the value
of the stock issued over the debt and interest relieved. The number of shares
ultimately retained by ADP Management is not known at this time as ADP
Management will continue to negotiate settlement of debts and obligations
assumed by it and use the shares allocated to it as consideration for such
settlements.
(6) RELATED-PARTY CONVERTIBLE PROMISSORY NOTES
In connection with the acquisition of SecureAlert in July 2001, 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. The promissory notes were amended during the three months ended December
31, 2002 to provide for payments of principal and accrued interest at a rate of
$20,000 per month until paid in full, commencing March 25, 2003; the remaining
balance on the notes continue to be convertible at the option of the holder at a
rate of $3.00 per share. The notes continue to bear interest at a rate of five
percent per year. During the six months ended March 31, 2003, the Company
recorded interest expense of $12,500 on these promissory notes.
(7) PREFERRED STOCK
Series A 10 % Convertible Non-Voting Preferred Stock
Each share of Series A Preferred Stock is convertible into 370 shares of common
stock. During the three months ended December 31, 2002, 1,010 shares of Series A
Preferred Stock were converted into 368,752 shares of common stock. As of
December 31, 2002, there were 25,207 shares of Series A Preferred Stock
outstanding, which represents 9,326,590 common stock equivalents at a conversion
rate of 370 for 1. Subsequent to December 31, 2002, 753 shares of Series A
Preferred Stock were converted into 278,610 shares of common stock.
The holders of the Series A Preferred Stock are entitled to dividends at the
rate of 10 percent 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 six months
ended March 31, 2003 and 2002, the Company recorded $305,102 and $244833,
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 percent 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 March 31, 2003, the Company has
not exercised its option to redeem shares of Series A Preferred Stock.
Warrants to Purchase Series A Preferred Stock
Effective in the first three months of fiscal year 2002 under the line of credit
agreement with ADP Management the Company was to grant ADP Management the right
to purchase one share of Series A Preferred Stock at an exercise price of $200
per share for each $200 advanced under the line of credit. The warrants were to
expire on December 31, 2002. The Series A Preferred Stock warrants included a
cashless exercise provision. This arrangement was amended by the Company and ADP
Management in March 2002, at which time all unexercised warrants at December 31,
2001 were terminated and the number of shares issuable upon the exercise of
warrants at December 31, 2001 was capped at 6,688 shares of Series A Preferred
Stock. The Company issued 7,228 Series A warrants during the three months ended
December 31, 2001, as part of this arrangement. These warrants were valued based
12
on the Black Scholes Option Pricing Model at $3.00 per common share, which
resulted in an expense of $1,778,013, of which $1,445,525 was allocated to
interest expense under the line of credit, and $332,488 was allocated to
compensation expense. In connection with the amendment to the line-of-credit
agreement, ADP Management was allowed to exercise 8,158 Series A Preferred Stock
warrants on a cashless method into 6,688 Shares of Series A Preferred Stock
during the nine months ended June 30, 2002. This cashless exercise resulted in
$5,416,812 of additional compensation expense during the period. All remaining
warrants resulting from the line of credit agreement that were outstanding as of
December 31, 2001 were terminated.
Series B Convertible Preferred Stock
In March 2002 the Company sold 135,823 shares of Series B Preferred Stock for
$366,273.
In April 2002, the Company sold 1,000,000 shares of Series B Preferred Stock for
$3,000,000 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.
The Company may redeem the Series B Preferred Stock at its option at any time.
The redemption price will be a minimum of 110 percent of the conversion price at
the date of redemption.
(8) COMMON STOCK
During the six months ended March 31, 2003, the Company issued 597,600 shares of
common stock as follows:
o 96,547 shares were issued for services rendered of $289,935
o 368,752 shares were issued upon the conversion of 1,010 shares of
Series A Preferred Stock (see Note 9)
o 132,301 shares were issued for reduction of $71,442 of the related
party line of credit in connection with the exercise of 132,301common
stock warrants
o The Company reacquired 401,952 shares of its common stock from former
SecureAlert Shareholders (see note 9).
Common Stock Subject to Redemption
Of the shares of common stock outstanding at March 31, 2003, 187,000 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. This option has been extended until August 5, 2003; and (2) the
holder of 155,000 shares has the option, subsequent to June 30, 2003, to require
the repurchase of these shares at a price of $3.00 per share, however, if the
common stock is then traded in the over-the-counter market or on a recognized
exchange and the holder can readily and efficiently sell the shares at $3.00 or
more per share, this put option will terminate on December 31, 2003. All other
put options granted by the Company were also extended to December 31, 2003.
Common Stock Options and Warrants
During the six months ended March 31, 2003, the Company granted options to: (1)
employees for the purchase of a total of 25,000; (These options have an exercise
price of $3.00 per share, expire five years from the date of grant and are
13
immediately exercisable.) As of March 31, 2003, options and warrants to purchase
a total of 198,333 shares of common stock with a weighted average exercise price
of $2.75 per share remain outstanding.
(9) REACQUISITION OF COMMON STOCK AND EXTINGUISHMENT OF SECUREALERT PURCHASE
OBLIGATION.
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. 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 and was paid in full subsequent to the end of
the quarter.
Corresponding with the 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 the former shareholders of
SecureAlert, Inc., a wholly owned subsidiary of the Company.
Under the distribution agreement the Company has granted 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,
ending December 31, 2003, 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 assumed 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 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
reacquisition contribution to the Company in the amount of $94,759.
(10) SEGMENT INFORMATION
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 March 31, 2003 and
2002:
14
Three Months
Ended March 31,
------------------------------------------
2003 2002
--------------------- --------------------
Net sales:
SecureAlert:
Consumer electronics $ 274,307 $ 2,260,891
Mobile emergency and personal security systems 51,643 187,387
--------------------- --------------------
325,950 2,448,278
Reagents 143,145 153,241
--------------------- --------------------
$ $
469,095 2,601,519
===================== ====================
Net income (loss):
SecureAlert 107,833 (228,865)
Reagents 17,236 52,991
Other (unallocated) (1,155,894) (11,886,945)
--------------------- --------------------
$ (1,030,825)$ (12,062,819)
--------------------- --------------------
The following table reflects certain financial information relating to each
reportable segment for each of the six-month periods ended March 31, 2003 and
2002:
Six Months
Ended March 31,
------------------------------------------
2003 2002
--------------------- --------------------
Net sales:
SecureAlert:
Consumer electronics $ 2,976,527 $ 4,311,666
Mobile emergency and personal security systems 184,784 290,414
--------------------- --------------------
3,161,311 4,608,080
Reagents 270,495 287,690
--------------------- --------------------
$ 3,431,806 $ 4,889,770
===================== ====================
Net income (loss):
SecureAlert $ (808,742) $ (667,085)
Reagents 18,656 23,157
Other (unallocated) (2,115,363) (22,727,272)
--------------------- --------------------
$ (2,905,449) $ (23,371,200)
Identifiable assets:
SecureAlert (including goodwill of $3,569,164) 4,258,836
Reagents 130,347
Other (unallocated) 103,686
---------------------
$ 4,492,869
=====================
(11) RECENT ACCOUNTING PRONOUNCEMENTS
In April 2002, the Financial Accounting Standards Board ("FASB") issued 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.
15
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 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. The Company does not expect
to identify any variable interest entities that must be consolidated. In the
event a variable interest entity is identified, the Company may expect the
requirements of FIN No. 46 to have a material impact on its financial condition
or results of 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. The
Company does not expect the adoption of FIN No. 45 to have a material impact on
its consolidated financial position, results of operations or cash flows.
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
16
redeemable preferred stock, previously included as "mezzanine capital", would be
included as a liability in accordance with SFAS 150.
(12) SUBSEQUENT EVENTS
This report is filed in November 2003. Subsequent to March 31, 2003, the
following significant events occurred:
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, a company controlled by Mr. Derrick and Mr. Dalton, 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 $600,000 of which the Company has not been released by the original
creditor. In addition the Company assumed $725,000 of debt (which was converted
into 483,333 shares of redeemable common stock on June 24, 2003 by the original
holder).
ADP Management assumed the put obligation associated with the redeemable common
stock. 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 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 term of this 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 amended its distribution agreement with SAE 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 after
December 31, 2003.
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 lenders.
Item 2 - Management's Discussion and Analysis or Plan of Operation
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
17
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, 2002.
Critical Accounting Policies
In Note 1 to the audited financial statements for the fiscal year ended
September 30, 2002 included in its Form 10-KSB, the Company discusses those
accounting policies that are considered to be significant in determining the
results of operations and its financial position. 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 record 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
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 September 30, 2002, and for the
period ended March 31, 2003, the provision for sales returns was not material.
Amounts received in advance of shipment are recorded as deferred revenue.
18
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 evaluate, 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 collectibility of accounts receivable. 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.
Three months ended March 31, 2003 Compared to Three months ended March 31, 2002
Net Sales
During the three months ended March 31, 2003, net sales were $469,095 compared
to $2,601,519 for the three months ended March 31, 2002, a decrease of
$2,132,424. The decrease in net sales resulted primarily from the outsourcing of
consumer products and certain telematic products distribution commencing in
January 2003. The Company believes that the net income to the Company under this
arrangement is approximately the same despite the decrease in gross revenues.
SecureAlert had net sales of $325,950 during the three months ended March 31,
2003. These sales consisted of consumer electronics and of mobile emergency and
personal security systems. Reagents had revenues for the three months ended
March 31, 2003 of $143,145, 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.
19
Cost of Goods Sold
During the three months ended March 31, 2003, cost of goods sold were $354,715
compared to cost of goods sold of $2,230,730 during the three months ended March
31, 2002, a decrease of $1,876,015. The decrease in cost of sales resulted
primarily from outsourcing of consumer products and certain telematic products
distribution commencing in January 2003. The Company believes that the net
income to the Company under this arrangement is approximately the same despite
the decrease in gross revenues. SecureAlert's cost of goods sold totaled
$270,745 or 83% of SecureAlert's net sales during the three months ended March
31, 2003, compared to $2,137,672 and 87% for the same period in the prior year.
Reagents' cost of goods sold totaled $83,970 or 59% of Reagent's net sales for
the three months ended March 31, 2003, compared to $73,058 or 61% of Reagent's
net sales for the same period during the prior fiscal year. The increase as a
percentage of net sales was primarily due to increased materials costs, wages
and overhead costs.
Research and Development Expenses
For the three months ended March 31, 2003, the Company had previously expensed
research and development expenses, but the Company has renegotiated these
expenses with vendors from approximately $86,000 to $78,433, realizing a cost
reduction of approximately $7,567; additional expenses incurred totaled $509.
Therefore, net research and development expenses for the period were a credit of
$7,058. Expenses in 2002 consisted primarily of expenses associated with the
development of SecureAlert's personal security devices.
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 $46,666 for the three months ended March 31,
2003.
Selling, General and Administrative Expenses
During the three months ended March 31, 2003, selling, general and
administrative expenses were $947,387 compared to selling, general and
administrative expenses in the prior year period of $10,992,945, a decrease of
$10,045,558. This decrease relates primarily to the outsourcing of consumer
electronics product distribution beginning January 2003. In addition, amounts
allocated to selling, general, and administrative expenses in the three months
ended March 31, 2003 included non-cash consideration of approximately $373,000
paid in the form of common stock and options granted to related parties,
consultants and creditors in lieu of cash compensation and as consideration for
services provided to the Company as compared to approximately $8,000,000 for the
three months ended March 31, 2002.
Interest Income and Expense
During the three months ended March 31, 2003, interest expense was $158,426.
This amount consists primarily of non-cash interest expense of $97,935 related
to common stock issuances under various note obligations.
Six months ended March 31, 2003 Compared to Six months ended March 31, 2002
Net Sales
Net sales during the six months ended March 31, 2003 were $3,431,806 compared to
net sales of $4,889,770 during the six months ended March 31, 2002, a decrease
of $1,457,964. The decrease in net sales resulted primarily from outsourcing of
consumer products and certain telematic products distribution commencing in
January 2003. The Company believes that the net income to the Company under this
arrangement is approximately the same despite the decrease in gross revenues.
SecureAlert had net sales of $3,161,311 during the six months ended March 31,
2003. These sales consisted of $2,976,527 of consumer electronics and $184,784
of mobile emergency and personal security systems. Reagents had revenues for the
six months ended March 31, 2003 of $270,495, 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. During the six months ended March
31, 2003, the Company had sales to three significant customers. The most
significant customer accounted for 41% of the Company sales. The other customers
accounted for 14% and 9%, respectively.
20
Cost of Goods Sold
During the six months ended March 31, 2003, cost of goods sold was $3,324,130
compared to $4,093,888 during the six months ended March 31, 2002, a decrease of
$769,758. The decrease in cost of sales resulted primarily from outsourcing of
consumer products and certain telematic products distribution commencing in
January 2003. The Company believes that the net income to the Company under this
arrangement is approximately the same despite the decrease in gross revenues.
SecureAlert's cost of goods sold was $3,158,256 or 99% of net sales in the six
months ended March 31, 2003, compared to $3,903,521 and 85% during the same
period one year ago. Reagents' cost of goods sold totaled $165,874 or 61% during
the six months ended March 31, 2003, compared to $190,367 or 66% of net sales
during the same period in the prior fiscal year. The increase as a percentage of
net sales was primarily due to increased materials costs, wages and overhead
costs.
Research and Development Expenses
During the six months ended March 31, 2003 and 2002, research and development
expense was $98,061 and $279,408, respectively, and consisted primarily of
expenses associated with the development of SecureAlert's personal security
devices, and related services. The decrease in 2003 was attributed mainly to
less cash resources available to allocate to research and development.
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 $93,333 for the six months ended March 31, 2003.
Selling, General and Administrative Expenses
During the six months ended March 31, 2003, selling, general and administrative
expenses totaled $2,411,788 compared to $20,913,840 during the six months ended
March 31, 2002. This is a decrease of $18,502,052. This decrease relates
primarily to the outsourcing of consumer electronics product distribution
beginning January 2003. In addition, amounts allocated to selling, general, and
administrative expenses in the six months ended March 31, 2003 included non-cash
consideration of approximately $601,000 paid in the form of common stock and
options granted to consultants and creditors in lieu of cash compensation and as
consideration for services provided to the Company as compared to approximately
$18,400,000, which includes related party expenses of $16,844,000 for the six
months ended March 31, 2002.
Interest Income and Expense
During the six months ended March 31, 2003, interest expense totaled $411,337.
This amount consists primarily of non-cash interest expense of $350,846 related
to common stock issuances under various note obligations.
Liquidity and Capital Resources
The Company currently is unable to finance its operations solely from cash flows
from operating activities. During the six months ended March 31, 2003, the
Company financed its operations primarily through borrowings from a related
party and the sale of equity securities.
As of March 31, 2003, the Company had cash of $69,867 and a working capital
deficit of $7,089,614 compared to cash of $51,390 and a working capital deficit
of $5,150,881 at September 30, 2002. This change is primarily the result of cash
used in operations of $1,159,171.
During the six months ended March 31, 2003, operating activities used cash of
$1,159,171 compared to cash of $3,292,478 used during the six months ended March
31, 2002. This decrease relates primarily to the outsourcing of consumer
electronics product distribution beginning January 2003.
Investing activities for the six months ended March 31, 2003 used no cash for
the six months ended March 31, 2003.
21
Financing activities during the six months ended March 31, 2003 provided cash of
$1,177,648 compared to cash of $3,292,124 during the six months ended March 31,
2002. During the six months ended March 31, 2003, the Company received cash of
$1,110,908 from the issuance of notes payable and $454,782 from net borrowings
from a related party. This cash was decreased by $114,517 for payments on notes
payable, $25,000 for payment on related party note, and by net borrowings of
$248,525 on a bank line of credit.
The Company incurred a net loss of $2,905,449 and had negative cash flows from
operations of $1,159,171 during the six months ended March 31, 2003. As of March
31, 2003, the Company had a working capital deficit of $7,089,614 net tangible
stockholders' deficit of $7,615,305 and an accumulated deficit of $58,089,407,
compared to a working capital deficit of $5,150,881, a net tangible
stockholders' deficit of $1,430,725 and an accumulated deficit of $53,183,951 at
September 30, 2002. 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, 2002,
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.
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
percent per year. Subsequent to June 1, 2001, borrowings bore interest at the
prime rate (4.75 percent 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 June 30, 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
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 six months ended March 31, 2003, the Company recorded interest
expense of $20,542 associated with this line of credit.
SecureAlert has a line of credit agreement with a bank. As of March 31, 2003,
the Company had $551,475 outstanding under this line of credit. As amended,
SecureAlert may borrow up to $550,000 under the note, with accrued interest due
in monthly installments. The due date of this line of credit is March 31, 2004.
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. See Note 4 to the Company's
unaudited condensed consolidated financial statements included in this report.
There is no assurance that the Company will be successful in its plans to raise
capital, convert debt to equity, or meet its current financial obligations.
There has been no adjustment in the financial statements for these
uncertainties.
22
Recent Developments
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. The principal terms of this proposal are as
follows:
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
of the debt into common shares at prices negotiated on behalf of the
Company by Derrick and Dalton.
o Derrick and Dalton would assume the debt held by those creditors
unwilling to convert such obligations directly into equity and the
shares otherwise issuable in conversion of the 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 of corporate debt and obligations in the principal amount
of more than $5,000,000.
o Unexpired and unexercised options and warrants for the purchase of
common stock held by Derrick, Dalton and ADP Management would be
transferred to third parties or exercised to provide funding to us.
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 The Company 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 the 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. The
number of shares ultimately retained by ADP Management is not known at this time
as ADP Management will continue to negotiate settlement of 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, as of
March 31, 2003, the Company's principal executive officer and principal
financial officer have concluded that the current disclosure controls and
23
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 file or submit under the Exchange Act.
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 three months ended March 31, 2003, the Company issued 598,100 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 96,547 shares for services rendered or to be rendered of $289,935
o 385,852 shares upon the conversion of 1,010 shares of Series A
Preferred Stock, and
o 115,701 shares upon the conversion of stock options to reduce a
related-party note in the amount of $62,479.
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
3.01 Articles of Incorporation (incorporated by reference to the Company's
Registration Statement and Amendments thereto on Form 10-SB, effective
December 1, 1997).
3.01(1) Amendment to Articles of Incorporation for Change of Name (previously
filed)
3.01(2) Amendment to Articles of Incorporation Amending Rights and Preferences
of Series A Preferred Stock (previously filed)
3.01(3) Amendment to Articles of Incorporation Adopting Designation of Rights
and Preferences of Series B Preferred Stock (previously filed)
3.01(4) Certificate of Amendment to the Designation of Rights and Preferences
Related to Series A 10% Cumulative Convertible Preferred Stock of
RemoteMDx, Inc. (incorporated by reference to the Company's annual report
on Form 10-KSB for the year ended September 30, 2001)
3.02 Bylaws (incorporated by reference to the Company's Registration Statement
on Form 10-SB, effective December 1, 1997)
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).
24
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)
10.12License Agreement between RemoteMDx, Inc. and SecureAlert, Inc. as
licensor and Matsushita Electric Works, Ltd., as licensee, (April 12, 2002)
Agreement with SecureAlert Entertainment, LLC, with amendments (January and
June 2003) (previously filed)
10.13Agreement with SAE (incorporated by reference to the Company's quarterly
report on Form 10-QSB for the quarter ended December 31, 2002)
10.14Agreement between the Company and SecureAlert Telematics, Inc.
(incorporated by reference to the Company's quarterly report on Form 10-QSB
for the quarter ended December 31, 2002)
10.15Amendments to SAE Agreement, filed herewith
10.16Agreement with ADP Management, Derrick and Dalton (April 2003), filed
herewith
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 March 31, 2003, the Company filed no reports on Form
8-K.
25
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 31, 2003 By: /s/ David G. Derrick
----------------------------------------------------
David G. Derrick,
Chief Executive Officer
Date: October 31, 2003 By: /s/ Michael G. Acton
----------------------------------------------------
Michael G. Acton,
Principal Accounting Officer