================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [NO FEE REQUIRED]
FOR THE FISCAL YEAR ENDED: DECEMBER 31, 2004
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from to
----------------- -----------------
COMMISSION FILE NO. 0-27432
CLEAN DIESEL TECHNOLOGIES, INC.
-------------------------------
(Exact name of registrant as specified in its charter)
Delaware 06-1393453
- ----------------------------------- -------------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation of organization) Identification Number)
SUITE 702, 300 ATLANTIC STREET
STAMFORD, CT 06901
(203) 327-7050
-------------------------------------------------------------
(Address and telephone number of principal executive offices)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK $0.05 PAR VALUE PER SHARE
--------------------------------------
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
----- -----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
-----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes No X
----- -----
Aggregate market value of the voting stock held by non-affiliates of the
registrant based on the average bid and asked prices as of March 22, 2005: $21.5
million.
Indicate number of shares outstanding of each of the registered classes of
Common Stock at March 15, 2005: 17,165,868 shares Common Stock, $0.05 par value.
DOCUMENTS INCORPORATED BY REFERENCE:
Certain portions of the Proxy Statement for the annual meeting of stockholders
to be held in 2005 are incorporated by reference into parts II, III and IV
hereof.
================================================================================
TABLE OF DEFINED TERMS
After-Treatment Device Engine pollutant emissions are generally reduced
by engine modifications, fuel specifications or
exhaust gas after-treatment. An after-treatment
device is a component used to reduce engine
pollutant emissions downstream of the combustion
chamber. Catalytic converters and particulate traps
are examples of after-treatment devices.
Alternative Fuel An alternative fuel is any fuel other than gasoline
and diesel fuels, such as methanol, ethanol,
compressed natural gas, and other gaseous fuels.
Generally, alternative fuels burn more cleanly and
result in less air pollution.
BUWAL Bundesamt fur Umwelt, Wald und Landschaft (Swiss
Agency for the Environment, Forest and Landscape).
Catalytic Converter A catalytic converter consists of a metal housing
filled with a ceramic or metallic honeycomb material
which is covered with a catalytic compound. The
presence of the catalytic converter in the engine
exhaust system breaks down the chemicals in the
exhaust and reduces harmful pollutant emissions.
CO Carbon monoxide is a colorless, odorless and
poisonous gas produced by the burning of fuels.
Automobiles are the primary source of carbon monoxide
pollution. When carbon monoxide enters the
bloodstream, it reduces the delivery of oxygen to the
body's organs and tissues. Health threats are most
serious for those who suffer from cardiovascular
disease, particularly those with angina or peripheral
vascular disease. Exposure to elevated carbon
monoxide levels can cause impairment of visual
perception, manual dexterity, learning ability and
performance of complex tasks.
CO2 Carbon dioxide is a colorless, odorless,
incombustible gas formed during respiration,
combustion and organic decomposition.
CWMF Catalyzed Wire Mesh Filter, a form of diesel
particulate filter.
Diesel Engine An engine that operates on diesel fuel and
principally relies on compression-ignition for engine
operation. The nonuse of a throttle during normal
operation is indicative of a diesel engine.
DOCs Diesel Oxidizing Catalysts - see "Oxidation
Catalyst."
DPFs Diesel Particulate Filters - see "Particulate Trap/
Filter."
FBC Fuel Borne Catalyst. A chemical compound of an
organic and a metal added to fuel to make a metal ash
that promotes the more complete combustion of soot
collected with it in a diesel particulate filter.
The primary metals usedare platinum, iron and cerium.
HC An exhaust and evaporative pollutant of hydrogen and
carbon atoms resulting from unburnt fuel. HC
contributes to the formation of ozone, which is
responsible for the choking, coughing and stinging
eyes associated with smog. Ozone damages lung
tissue, aggravates respiratory disease and makes
people susceptible to respiratory infections.
Children are especially vulnerable to ozone's
harmful effects, as are adults with existing disease.
NOx Oxides of nitrogen are a family of reactive gaseous
compounds that contribute to air pollution in both
urban and rural environments. Emissions of nitrogen
oxides are produced during the combustion of fuels at
hightemperatures. The primary sources of atmospheric
nitrogen oxides include highway sources (such as
light-duty and heavy-duty vehicles), nonroad sources
(such as construction and agricultural equipment, and
locomotives) and stationary sources (such as power
plants and industrial boilers). Nitrogen oxides are
an important precursor to both ozone and acid rain,
and may affect both terrestrial and aquatic
ecosystems.
Oxidation Catalyst A type of catalyst (catalytic converter) that
chemically converts hydrocarbons and carbon monoxide
to water vapor and carbon dioxide.
Particulate Trap/Filter An after-treatment device that filters or traps
diesel particulate matter from engine exhaust until
the trap becomes loaded so that a regeneration cycle
is implemented to burn off the trapped particulate
matter.
PFCs Platinum Fuel Catalysts. A form of fuel-borne
catalyst that employs platinum to control vehicle
exhaust emissions of hydrocarbons, carbon monoxide,
oxides of nitrogen and particulate matter.
2
PM Particulate matter includes dust, dirt, soot, smoke
and liquid droplets emitted directly into the air by
sources such as factories, power plants, cars,
engines, construction activity, fires and natural
windblown dust. Particles formed in the atmosphere
by condensation or the transformation of emitted gases
are also considered particulate matter.
Registration In the U.S., fuels and fuel additives are required to
be registered with federal, state or local
regulatory authorities for on-highway use before the
fuel/fuel additive may be "introduced into commerce."
The registration issued by the U.S. Environmental
Protection Agency specifically does not permit the
registrant to make any claims regarding the
registrant's fuel's diesel emissions reduction
performance.
Retrofit An engine "retrofit" includes (but is not limited to)
any of these activities:
adding of new/better pollution control after-treatment
equipment to certified engines;
upgrading a certified engine to a cleaner certified
configuration;
upgrading an uncertified engine to a cleaner
"certified-like" configuration;
converting of any engine to a cleaner fuel;
early replacement of older engines with newer
(presumably cleaner) engines (in lieu of
regular expected rebuilding); and
use of cleaner fuel and/or emission-reducing fuel
additive (without engine conversion).
SCR Selective Catalytic Reduction, a technology that
reduces emissions of nitrogen oxides and allows the
engine to be tuned for maximum fuel economy.
Ultra Low Sulfur Fuel Current EPA regulations specify that diesel test fuel
contain 300 - 500 ppm sulfur for highway engines and
300 - 4000 ppm sulfur for nonroad engines.
Significant reductions from these current sulfur
levels are necessary in order for many retrofit
technologies to provide meaningful, lasting emissions
reductions. The U.S. Environmental Protection Agency
has mandated sulfur reductions to 15 ppm beginning in
January 2006. In addition to enabling a wide array
of emissions control technologies, the use of ultra
low sulfur diesel alone reduces emissions of
particulate matter. Sulfate, a major constituent
of particulate matter, is produced as a byproduct of
burning diesel fuel containing sulfur. Reducing the
sulfur content of fuel in turn reduces sulfate
byproducts of combustion and therefore particulate
matter emissions.
Verification The U.S. Environmental Protection Agency established
the Environmental Technology Verification Program to
verify the performance of innovative environmental
technologies that can be used to monitor, prevent,
control and clean pollution. The verification program
provides credible, high-quality data on the
performance of innovative commercial environmental
technologies. In the market for diesel emission
reduction technologies, the EPA's Retrofit Technology
Verification Program is designed to encourage owners
of existing public and private fleets of diesel
powered vehicles and equipment to install new or
enhanced emissions control technologies on their
engines. Through the Retrofit Technology Verification
Process, the EPA qualifies manufacturers' retrofit
technologies to be posted on the Office of
Transportation and Air Quality (OTAQ's) Verified
Technology List. In order for manufacturers to
qualify, the manufacturer must undergo product testing
(under standardized protocols or other developed
protocols, including the appropriate federal test
procedures) to provide proof to federal, state and
local regulatory authorities that the manufacturer's
product does in fact perform as claimed.
VERT Verminderung der Emissionen von Real-Dieselmotoren im
Tunnelbau (Curtailing Emissions from Diesel Engines in
Tunnel Construction). A research program conducted
between 1994-2000, sponsored by Swiss, German and
Austrian occupational health authorities, which
developed performance criteria and specifications for
diesel particulate filters. VERT develops, tests and
certifies diesel particulate filter systems.
3
PART I
FORWARD-LOOKING STATEMENTS
Statements in this Form 10-K that are not historical facts, so-called
"forward-looking statements," are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Investors are cautioned
that all forward-looking statements involve risks and uncertainties, including
those detailed in Clean Diesel Technologies' filings with the Securities and
Exchange Commission. See "Risk Factors of the Business" in Item 1, "Business,"
and also Item 7, "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
ITEM 1. BUSINESS
GENERAL
Clean Diesel Technologies, Inc., a Delaware corporation with a principal
place of business at 300 Atlantic Street, Stamford, CT 06901, was formed in 1994
as a wholly owned subsidiary of Fuel-Tech N.V., incorporated under the laws of
the Netherlands Antilles (Fuel Tech), to develop technologies that reduce
harmful emissions from diesel engines while reducing fuel consumption and
improving fuel economy. CDT was spun-off by Fuel Tech in a rights offering in
December 1995. Over the past ten years, CDT has developed its technologies in
the areas of platinum fuel catalysts (PFCs) for emissions control and fuel
economy improvement in diesel engines, and nitrogen oxide (NOx) reduction
systems for control of NOx emissions from diesel engines.
CDT is now commercializing the Platinum Plus(R) fuel-borne catalyst (FBC),
a diesel fuel PFC additive, and the ARIS(R) 2000 NOx reduction system, an
advanced reagent injection system used in catalytic NOx reduction systems. CDT
has 26 U.S. patents issued and 12 U.S. patent applications pending, as well as
85 foreign patents issued and 61 foreign patent applications pending.
Increasingly, combustion engine development is influenced by concern over global
warming caused by carbon dioxide (CO2) emissions from fossil fuels and toxic
exhaust emissions. Because carbon dioxide results from the combustion of
fossil fuels, reducing fuel consumption is often cited as the primary way to
reduce carbon dioxide emissions. Diesel engines are as much as 40% more
fuel-efficient than gasoline engines. Thus, increased use of diesel engines
relative to gasoline engines is one way to reduce overall fuel consumption and
thereby significantly reduce carbon dioxide emissions. Diesel engines, however,
emit higher levels of two toxic pollutants than gasoline engines fitted with
catalytic converters, specifically, particulate matter (PM) and nitrogen oxides.
Both of these pollutants affect human health and also damage the environment.
TECHNOLOGIES AND PRODUCTS
CDT has succeeded in developing technologies and products that, when
combined with other after-treatment devices, can reduce particulate emissions
and nitrogen oxides from diesel engines to or below the emission levels of
natural gas engines, while also reducing fuel consumption. This results in a
reduction in fuel costs and greenhouse gas emissions, primarily carbon dioxide,
as well as a reduction in emissions of particulates, nitrogen oxides, carbon
monoxide and un-burnt hydrocarbons.
PLATINUM PLUS FBC
CDT has successfully developed and patented the Platinum Plus additive as a
diesel fuel soluble, fuel-borne catalyst, which contains minute amounts of
platinum and cerium catalysts and is used to improve combustion, reduce
emissions and improve the performance and reliability of emission control
equipment. Platinum Plus FBC takes the catalytic action into engine cylinders
where it improves combustion thereby reducing particulates, un-burnt
hydrocarbons and carbon monoxide emissions and improves fuel economy. Fleet
tests using Platinum Plus FBC have shown improvements in fuel economy of between
3% and 12%. Platinum Plus FBC can be used alone or with either regular or ultra
low-sulfur diesel fuel to reduce particulate emissions by 10% to 25% within the
engine while also improving the performance of diesel oxidation catalysts and
particulate filters (which trap up to 95% of particulates but in doing so become
clogged with soot) by burning off the soot particles at lower temperatures and
further reducing toxic emissions of carbon monoxide and un-burnt hydrocarbons.
From 1996 to 1999, CDT defined and managed several research and development
programs on platinum fuel catalysts which were conducted by Delft Technical
University (Netherlands), Ricardo Consulting Engineers (U.K.), Cummins Engine
Company (USA) and Southwest Research Institute (USA). Through a strategy of
using independent test houses, CDT's small technical team has been able to run
several programs on a cost effective basis while bringing in a wide range of
expertise. Most importantly, the results have been independently derived.
4
CDT completed the first stage of development of the Platinum Plus FBC in
1999. In December of that year, CDT received EPA registration for the Platinum
Plus FBC for use in bulk fuel by refiners, distributors and truck fleets. In
2000, CDT completed the certification protocol for particulate filters and
additives for use with particulate filters with VERT, the main recognized
authority in Europe that tests and verifies diesel particulate filters for
emissions and health effects. In 2001, the Swiss Authority BUWAL approved the
Platinum Plus fuel-borne catalyst for use with particulate filters. In 2002, the
U.S. Mining, Safety and Health Administration (MSHA) accepted the Platinum Plus
fuel-borne catalyst for use in mines, with or without diesel particulate filter
after-treatment.
In 2003, CDT received EPA verification for the Platinum Plus FBC and a
diesel-oxidation catalyst (the Purifier System). In June 2004, CDT received EPA
verification for the Catalyzed Wire Mesh Filter System, which combines the
Platinum Plus fuel borne catalysts with a catalyzed wire mesh filter (CWMF).
CDT has also applied to the California Air Resources Board (CARB) for
verification of this combination system. Verification is given for specific
engine groups, and the initial verification and applications are for older
engines (pre-1994 manufactured), which are higher emitters of particulates and
nitrogen oxides than newer engines. CDT recently received verification
extension for fuel-borne catalysts and diesel-oxidizing catalysts to cover
engines manufactured between 1994 and 2003. Verification is needed for the
end user of the Platinum Plus FBC to get emissions reduction credit from the
EPA's voluntary retrofit program or CARB's mandatory retrofit program. In the
U.S., truck fleets, municipalities and off-road equipment operators are
generally moving toward using only verified technologies when installing
retrofit emissions reduction systems.
Over the past several years, CDT has carried out 11 large fleet fuel
economy demonstration trials in the U.S. in a range of industries, including the
waste hauling, beverage, grocery and fuel delivery industries. The improvements
in fuel economy from using Platinum Plus FBC in these demonstrations ranged from
3% to 12%, with an average 7% improvement. The best results were generally
attributable to short-haul "stop-and-go" driving, as is generally the pattern
for local delivery vehicles, buses and garbage trucks. Lab engine test beds run
at both Cummins Engine Company and the Southwest Research Institute showed a 2%
to 8% improvement in fuel economy, respectively, which have been confirmed by
field testing programs. Platinum Plus FBC is effective with normal sulfur
diesel, ultra low sulfur diesel, arctic diesel (kerosene) and biodiesel. When
used with biodiesel and kerosene, Platinum Plus FBC prevents the normal increase
in nitrogen oxides associated with biodiesel.
ARIS 2000
The ARIS 2000 (Advanced Reagent Injection System) is the patented injection
system for the reduction of nitrogen oxide emissions from diesel engines. The
system comprises of a single fluid computer-controlled injector that provides
precise injection of nontoxic urea-based reagents into the exhaust of a
stationary or mobile engine, where the system then converts nitrogen oxides
across a catalyst to nitrogen and water vapor. The system has shown reduction
of nitrogen oxides of up to 90% and, on occasion, higher percentages on a steady
state operation and of up to 85% in transient operations. This process, known
as selective catalytic reduction (SCR), has been in use for many years in power
stations, and we believe it is well proven. The ARIS 2000 system is a miniature
version of the selective catalytic reduction injection system. The principal
advantage of the patented ARIS system is that compressed air is not required to
operate the system. The system is designed for high-volume production and is
very compact, with very few components, making it inherently cheaper to
manufacture, install and operate than the compressed air systems, which were
first developed for heavy-duty vehicles. The ARIS system may be used in both
stationary diesel engines for power generation and mobile diesel engines used in
trucks, buses, trains and boats.
THE MARKET AND THE REGULATORY ENVIRONMENT
CDT estimates that worldwide annual consumption of diesel fuel amounts to
approximately 200 billion USG, including approximately 50 billion in the United
States, 60 billion in Europe and 50 billion in Asia.
NEW DIESEL ENGINES
While engine manufacturers have, to date, generally met emissions
regulations by engine design changes (which tend to increase fuel consumption),
CDT believes that further reduction in emissions can be achieved best by using
combinations of cleaner-burning fuels and after-treatment systems such as
diesel-particulate filters and catalytic systems for reducing nitrogen oxides.
In the last several years, emissions regulations for new mobile diesel
engines in the major markets of North America, Asia and Europe have continued to
tighten and are now 40% to 90% lower than the mid-1980s regulations. Regulations
proposed through 2010 in the U.S., Europe and Asia are expected to reduce the
emissions level for new mobile diesel engines to 85 to 99% of the levels
5
mandated in the mid-1980s. The market for mobile NOx reduction systems is
expected by management to develop between 2005 and 2010. European engine
manufacturers have decided to use urea SCR in 2006, at least on heavy duty
vehicles and very likely on medium and light trucks in later years. There is a
clear preference to use a single fluid system for the medium and light trucks
which have no compressed air system. It also seems probable that European
manufacturers will adopt particulate filters to meet 2010 regulations which are
being formulated.
In May 2004 the U.S. Environmental Protection Agency (EPA) announced
proposals to regulate 'nonroad' engines. The regulations are planned to be
phased in from 2008 to 2014. Proposals include a wide range of construction
equipment, agricultural equipment, as well as railroad and marine applications.
CDT believes the U.S. market for diesel engines is poised for significant
growth because of the favorable fuel economy performance of diesel engines
coupled with the increased ability to effectively control particulate and
emissions of nitrogen oxides from such engines. Europe and Asia already use
significantly more mobile diesel engines, particularly for passenger and
light-duty vehicles. Most U.S. engine manufacturers have indicated that they
intend to use particulate filters, to meet new diesel vehicle regulations in
the 2007 to 2010 time period. European engine manufacturers have committed to
adopt urea-selective catalytic reduction by the 2007 to 2010 period. CDT
believes it is probable that both particulate filters and some emissions of
nitrogen oxides control technology will be required in Europe and the U.S. by
the 2010 to 2015 period.
EXISTING DIESEL ENGINES AND THE RETROFIT MARKET
While much of the regulatory pressure and the response from engine
manufacturers has been focused on reducing emissions from new engines, there is
increasing concern over pollution from existing diesel engines that have 20- to
30-year life cycles. CDT believes this trend underlies the growing interest in
the potential market that may exist for retrofitting diesel engines with
emissions reduction systems. Stationary diesel engines, construction equipment
and public transportation vehicles such as buses and commercial and municipal
truck fleets will all be included in such a retrofit diesel engine market.
In 1998, CARB declared diesel particulates to be toxic and in 2000 it
proposed reductions in particulate emissions from over one million existing
engines in California as well as more stringent controls for new engines. The
EPA stated its objective for retrofitting vehicles with particulate controls and
developed the Clean School Bus U.S.A program to reduce emissions on school buses
and the Smartway Transport Program to reduce both diesel emissions and fuel
consumption on over-the-road trucks.
COMPETITION
There is significant competition among companies that provide solutions for
pollutant emissions from diesel engines. Several companies market products that
compete directly with CDT's products and other companies offer products that
potential customers may consider to be acceptable alternatives. In addition,
newly developed products could be more effective and cost-efficient than CDT's
current products or those developed in the future.
CDT faces direct competition from companies with far greater financial,
technological, manufacturing and personnel resources, including Engelhard,
Donaldson, Fleetguard, Octel, Rhodia and Johnson Matthey. Moreover, many of
the current and potential future competitors have substantially more
engineering, sales and marketing capabilities and broader product lines than CDT
does. CDT also faces indirect competition in the form of alternative fuel
consumption vehicles such as those using methanol, hydrogen, ethanol and
electricity.
CDT believes that its technologies and products occupy a strong competitive
position relative to others in the diesel emissions reduction technology market.
Competition in verified particulate reduction systems for retrofit is from
catalyst systems suppliers like Johnson Matthey and Engelhard. These companies
employ systems that rely on much greater quantities of platinum and that have
the undesirable effect of increasing emissions of NO2, a component of NOx.
Competition for additive-based systems is from Lubrizol ECS in Canada and
Adastra (subsidiary of Associated Octel) in the U.K. Competition in the diesel
fuel additive market is from other additive suppliers such as Associated Octel,
who markets an iron product and Rhodia, who markets a cerium product. The
Platinum Plus FBC competes on performance in regenerating filters and lower
metal usage which results in less ash buildup on filters. Platinum Plus FBC
also offers better performance in terms of carbon monoxide reduction and
hydrocarbon reduction. In addition, Platinum Plus FBC is the only fuel additive
to provide fuel economy improvement. Finally, in the NOx control market,
competition is from other suppliers of reagent-based post-combustion NOx control
systems such as KleenAir Systems for retrofit and Robert Bosch for OEMs. Bosch
has stated that it will offer a single fluid system after 2007. CDT, however,
already has proprietary technology for a single fluid system, which requires no
compressed air and involves fewer components.
6
MARKET OPPORTUNITY
There are two principal market drivers for CDT's products: (i) reduction
in emissions and (ii) reduction in fuel consumption. Platinum Plus FBC is an
"enabling technology" that enables emission reductions from the engine itself
and enhances performance of the exhaust treatment system while improving fuel
economy. The continued tightening of clean air standards, emissions control
regulations, pressure for fuel efficiency and growing international awareness of
the greenhouse effect could provide CDT with substantial opportunities in local
markets throughout North America, Asia and Europe.
Without compromising the fuel economy benefits of diesel, a significant
reduction of particulate and NOx emissions can only be achieved by using
combinations of improved engine design, cleaner burning fuels and
after-treatment systems such as diesel particulate filters and catalytic
systems. The Platinum Plus FBC (which improves combustion catalytically and
enables higher performance of exhaust treatment devices) and the ARIS 2000
technology can form key components of both of these after-treatment systems.
The convergence of requirements for emissions compliance and the high cost
of fuel make the use of the products economical. With diesel fuel selling at
approximately $1.75 per USG, or more, in the United States as of December 2004,
a fuel savings of at least 3% corresponds to $0.05 per USG and effectively pays
the cost of dosing with Platinum Plus FBC by truck fleet operators. Platinum
Plus FBC in controlled fleet tests showed an average of 7% fuel economy
improvement. In Europe, where diesel fuel retails in some countries for as much
as $4.00 per USG because of the high tax on fuels, potential fuel economy
benefits are even more pronounced.
MARKETING STRATEGY AND COMMERCIALIZATION
The market for after-treatment systems for emissions control from diesel
engines is currently moving from the demonstration and development phase to a
commercialization phase. The only exception to this general trend is in the
market for passenger cars in France, where PSA Peugeot has taken the lead and
has already begun offering particulate filter systems with fuel-borne catalysts
on several of its models. EPA and CARB programs are only now beginning to
result in the creation of active markets for diesel emissions reduction
technologies and products. Thus, the market for diesel emissions reduction
technologies and products is relatively new. CDT expects opportunities and
demand for verified diesel emissions reduction technologies and products from
both larger companies with established distribution channels to the diesel
engine market and owners of existing public and private fleets of diesel-powered
vehicles. At the same time, engine manufacturers are looking to subsystem
suppliers to provide complete exhaust subsystems including particulate filters
and/or NOx abatement systems and eventually both.
It is an essential requirement of the U.S. retrofit market that emissions
control products and systems be verified under the EPA or CARB protocols to
qualify for credits within the EPA and CARB programs. Funding for these
emissions control products and systems is mostly limited to those products and
technologies that have already been verified. CDT has received verification
from the US EPA for two systems based upon the use of the Platinum Plus FBC.
The Platinum Plus Purifier System uses the FBC and a DOC for up to a 50%
particulate reduction. A second system is verified for up to 75% reduction and
uses a CWMF and the Platinum Plus FBC. CDT may seek to verify its Platinum
Plus FBC in combination with additional emissions control devices manufactured
by other vendors. CDT may receive royalties from sales of such devices in the
event sales of such devices include the Platinum Plus FBC product as part of the
devices' verification.
CDT currently manufactures and ships the Platinum Plus FBC product from a
toll blender in Pittsburg, Pennsylvania and from a small warehouse in Milford,
Connecticut. However, as demand for the product increases, CDT intends to
expand the manufacturing and shipping points by supplying platinum concentrate
to large chemical and additive manufacturing companies. These companies will
then blend and market the finished Platinum Plus FBC products to fuel suppliers
and end users.
CDT has licensed the ARIS 2000 NOx reduction technology in both the U.S.
and Japan. CDT plans to widen distribution to Europe and Asia by selling key
components with the technology licenses. CDT believes this strategy of
licensing the products and technologies represents the most efficient way to
gain widespread distribution quickly and to exploit demand for the technologies
in North America, Asia and Europe.
HEALTH EFFECTS AND REGISTRATION OF ADDITIVES
Metallic additives have come under scrutiny for their possible effects on
health. CDT registered its platinum additive in 1997 in both the U.S. and the
7
U.K. The platinum-cerium bimetallic additive required further registration in
the U.S. and that process involved a 1,000-hour engine test and extensive
emission measurements and analysis. The registration was completed in 1999 and
issued in December 1999.
Germany, Austria and Switzerland have set up a protocol (VERT) for
approving diesel particulate filters and additive systems used with them. CDT
completed the required tests under the VERT protocol in 2000 and in January
2001, the Swiss authority BUWAL approved the Platinum Plus FBC fuel additive for
use with a filter.
Engine tests in the U.S. and Switzerland show that 95 to 99% of the
catalyst metal introduced to the fuel by the FBC is retained within the engine
and exhaust after a filter and that the amount of platinum emitted from the use
of Platinum Plus FBC is roughly equivalent to platinum attrition from automotive
catalytic converters. In January 2005, the EPA asked for additional data on the
emission of minute amounts of Platinum from using the fuel borne catalyst and
whether a potentially allergenic platinum compound is found in the engine or
exhaust. Voluntary testing commenced in February to respond to EPA questions.
In December 1996, the United Kingdom Ministry of Health's Committee on
Toxicity reviewed the product and all the data submitted by CDT and stated "The
Committee is satisfied that the platinum emission from vehicles would not be in
an allergenic form and that the concentrations are well below those known to
cause human toxicity." In 1997, Radian Associates, an independent research
consulting firm, reviewed our data and the literature on platinum health effects
and concluded, "the use of Clean Diesel Technologies' Platinum containing diesel
fuel additive is not expected to have an adverse health effect on the population
under the condition reviewed." Radian also concluded that emissions of platinum
from the additive had a margin of safety ranging from 2,000 to 2,000,000 times
below workplace standards.
In 2002, the U.S. Mining Safety and Health Administration (MSHA) accepted
the use of Platinum Plus FBC with particulate filters and also allowed its use
in all fuel used in underground mining, even without filters.
In October 2003, the EPA verified the Platinum Plus FBC Purifier System,
which is the first time the EPA has verified a metal catalyst additive-based
system.
On January 31, 2005 CDT announced it had initiated independent tests to
address recent questions from the EPA on the use of its fuel borne catalyst.
Due to growing commercial interest in its diesel emission control products,
testing is being conducted to confirm that the minute amounts of platinum
emitted from vehicles using the fuel borne catalyst do not form potentially
allergenic compounds in the engine or exhaust. The tests are expected to
provide results in March 2005 for review with EPA.
CDT is confident that if allergens are formed, they would be well below a
level that could cause any concern. CDT's verified systems reduce diesel
particulate emissions by 40 to 75 percent. As with most platinum-based emission
control systems used in cars and trucks, some traces of platinum are emitted.
CDT believes the tests will show that it is not in an allergenic form.
SOURCES OF SUPPLY
Platinum and cerium are the principal raw materials used in the production
of the Platinum Plus fuel borne catalyst. These metals are generally available
from multiple sources in the market place. CDT does not anticipate a shortage
in the supply of the raw materials used in the production of the FBC in the
foreseeable future. While CDT has outsourcing arrangements with two companies
in the precious metal refining industry to procure this precious metal, there
are no fixed commitments with these parties to provide supplies and CDT may make
procurement arrangements with others to fulfill the raw materials requirements.
In the past, CDT manufactured the product internally but now considers
outsourcing of the manufacturing process to a precious metal refinery to be more
cost effective.
RESEARCH AND DEVELOPMENT
During 2004, CDT employed several individuals in engineering and product
development. During the years ended December 31, 2004, 2003, and 2002, the
research and development expenses, exclusive of patent costs, totaled
approximately $506,000, $855,000, $693,000, respectively. The 2004 decrease can
be attributed to the higher testing expense in 2003 and 2002 related to EPA and
CARB verification programs. CDT expenses all research and development costs as
incurred.
8
PROTECTION OF PROPRIETARY INFORMATION
CDT holds the rights to a number of patents and patent applications
pending. There can be no assurance that pending patent applications will be
approved or that the issued patents or pending applications will not be
challenged or circumvented by competitors. Certain critical technology
incorporated in the products is protected by trademark and trade secret laws and
confidentiality and licensing agreements. There can be no assurance that such
protection will prove adequate or that CDT will have adequate remedies for
disclosure of the trade secrets or violations of the intellectual property
rights.
INSURANCE
CDT maintains coverage for the customary risks inherent in its operations.
Although CDT believes the insurance policies to be adequate in the amount and
coverage for the current operations, no assurance can be given that this
coverage will, in fact, be or continue to be available in adequate amounts, or
at a reasonable cost or that such insurance will be adequate to cover any future
claims.
EMPLOYEES
CDT has twelve full-time employees. In addition, one executive officer of
Fuel Tech provides management and legal services to CDT on an "as needed" basis
pursuant to a Management and Services Agreement with Fuel Tech Inc. CDT also
retains several outside technical consultants and marketing agents for specific
projects related to platinum, engines and NOx reduction and fuel additive
selling.
CDT enjoys good relations with its employees and is not a party to any
labor management agreements.
RISK FACTORS OF THE BUSINESS
Investors in Clean Diesel Technologies should be mindful of the following
risk factors relative to Clean Diesel Technologies' business:
CDT HAS INCURRED LOSSES IN THE PAST AND EXPECTS TO INCUR LOSSES IN THE FUTURE.
Prior to 2000, Clean Diesel Technologies was a development stage business
and has incurred losses since inception totaling $29,415,000 (excluding the
effect of non-cash preferred stock dividends). At the date of this report,
Clean Diesel Technologies has cash resources estimated to be sufficient for its
needs into the first quarter of 2006.
CDT has had minimal revenues through December 31, 2004 and expects to
continue to incur operating losses at least through 2005. There can be no
assurance that CDT will achieve or sustain significant revenues or profitability
in the future. See the text below under the captions "Liquidity and Sources of
Capital" in Item 7, "Management's Discussion and Analysis of Financial Condition
and Results of Operations," elsewhere herein.
CDT FACES CONSTANT CHANGES IN GOVERNMENTAL STANDARDS BY WHICH ITS PRODUCTS ARE
EVALUATED.
CDT believes that, due to the constant focus on the environment and clean
air standards throughout the world, a requirement in the future to adhere to new
and more stringent regulations both domestically and abroad is possible as
governmental agencies seek to improve standards required for certification of
products intended to promote clean air. In the event CDT's products fail to
meet these ever-changing standards, some or all of the products may become
obsolete.
FUTURE GROWTH OF CDT'S BUSINESS DEPENDS IN PART ON ENFORCEMENT OF EXISTING
EMISSIONS-RELATED ENVIRONMENTAL REGULATIONS AND FURTHER TIGHTENING OF EMISSION
STANDARDS WORLDWIDE.
CDT expects that the future business growth will be driven, in part, by the
enforcement of existing emissions-related environmental regulations and
tightening of emissions standards worldwide. If such standards do not continue
to become stricter or are loosened or are not enforced by governmental
authorities, it could have a material adverse effect on business, operating
results, financial condition and long-term prospects.
THE POSSIBILITY OF NEW METAL STANDARDS OR LOWER ENVIRONMENTAL LIMITS FOR
PLATINUM OR CERIUM EXISTS.
New standards or environmental limits on the use of platinum and / or
cerium metal by a governmental agency could adversely affect the ability of CDT
to use its Platinum Plus FBC in some applications. In addition CARB will likely
require "multimedia" analysis of the FBC. The EPA could require a "Tier III"
test of the Platinum Plus FBC at any time.
9
CDT FACES COMPETITION AND TECHNOLOGICAL ADVANCES BY COMPETITORS.
There is significant competition among companies that provide solutions for
pollutant emissions from diesel engines. Several companies market products that
compete directly with CDT's products. Other companies offer products that
potential customers may consider to be acceptable alternatives to CDT's products
and services. CDT faces direct competition from companies with far greater
financial, technological, manufacturing and personnel resources, including
Engelhard, Donaldson, Fleetguard, Octel, Rhodia and Johnson Matthey. Newly
developed products could be more effective and cost efficient than CDT's current
or future products. Many of the current and potential future competitors have
substantially more engineering, sales and marketing capabilities and broader
product lines than CDT does. CDT also faces indirect competition in the form of
alternative fuel consumption vehicles such as those using methanol, hydrogen,
ethanol and electricity.
CDT DEPENDS ON INTELLECTUAL PROPERTY AND THE FAILURE TO PROTECT THE INTELLECTUAL
PROPERTY COULD ADVERSELY AFFECT FUTURE GROWTH AND SUCCESS.
CDT relies on patent, trademark and copyright law, trade secret protection,
and confidentiality and other agreements with employees, customers, partners and
others to protect its intellectual property. However, some of the intellectual
property is not covered by any patent or patent application, and, despite
precautions, it may be possible for third parties to obtain and use the
intellectual property without authorization.
CDT does not know whether any patents will be issued from the pending or
future patent applications or whether the scope of the issued patents is
sufficiently broad to protect the technologies or processes. Moreover, patent
applications and issued patents may be challenged or invalidated. CDT could
incur substantial costs in prosecuting or defending patent infringement suits.
Furthermore, the laws of some foreign countries may not protect intellectual
property rights to the same extent as do the laws of the United States.
Some of the key patents, including the fundamental platinum additive
patent, will expire during the period 2005-2008. However, CDT believes that
other longer lived patents, including those for platinum additives in
combination with after-treatment devices, will provide adequate protection of
the proprietary technology, but there can be no assurances CDT will be
successful in protecting the proprietary technology.
As part of the confidentiality procedures, CDT generally has entered into
nondisclosure agreements with employees, consultants and corporate partners and
has attempted to control access to and distribution of the technologies,
documentation and other proprietary information. CDT plans to continue these
procedures. Despite these procedures, third parties could copy or otherwise
obtain and make unauthorized use of the technologies or independently develop
similar technologies. The steps that have been taken and that may occur in the
future might not prevent misappropriation of the solutions or technologies,
particularly in foreign countries where laws or law enforcement practices may
not protect the proprietary rights as fully as in the United States.
There can be no assurance that CDT will be successful in protecting its
proprietary rights. Any infringement on any of the intellectual rights could
have an adverse effect on the ability to develop and sell successfully
commercially competitive systems and components.
IF THIRD PARTIES CLAIM THAT THE PRODUCTS INFRINGE UPON THEIR INTELLECTUAL
PROPERTY RIGHTS, CDT MAY BE FORCED TO EXPEND SIGNIFICANT FINANCIAL RESOURCES AND
MANAGEMENT TIME LITIGATING SUCH CLAIMS AND THE OPERATING RESULTS COULD SUFFER.
Third parties may claim that the products and systems infringe upon
third-party patents and other intellectual property rights. Identifying
third-party patent rights can be particularly difficult, especially since patent
applications are not published until 18 months after their filing dates. In the
event a competitor were to challenge the patents, or assert that the products or
processes infringe its patent or other intellectual property rights, CDT could
incur substantial litigation costs, be forced to make expensive product
modifications, pay substantial damages, or even be forced to cease some
operations. Third-party infringement claims, regardless of their outcome, would
not only drain financial resources but also divert the time and effort of
management and could result in customers or potential customers deferring or
limiting their purchase or use of the affected products or services until
resolution of the litigation.
AN EXTENDED INTERRUPTION OF THE SUPPLY OR A SUBSTANTIAL INCREASE IN THE PRICE OF
PLATINUM COULD HAVE AN ADVERSE EFFECT ON BUSINESS.
The cost of platinum or the processing cost associated with converting the
metal may have a direct impact on the future pricing and profitability of the
Platinum Plus FBC. Although in the future, CDT intends to minimize this risk
through various purchasing and hedging strategies, there can be no assurance
that this will be successful. A shortage in the supply of platinum or a
10
significant prolonged increase in the price of platinum, in each case, could
have a material adverse effect on the business, operating results and financial
condition.
FAILURE TO ATTRACT AND RETAIN KEY PERSONNEL COULD HAVE A MATERIAL ADVERSE EFFECT
ON FUTURE SUCCESS.
CDT's success will depend, in large part, on the ability to retain current
key personnel, attract and retain additional qualified management, scientific,
and manufacturing personnel, and develop and maintain relationships with
research institutions and other outside consultants. The loss of key personnel
or the inability to hire or retain qualified personnel, or the failure to
assimilate effectively such personnel could have a material adverse effect on
the business, operating results and financial condition.
CDT'S RESULTS MAY FLUCTUATE DUE TO CERTAIN REGULATORY, MARKETING AND COMPETITIVE
FACTORS FROM WHICH CDT HAS LITTLE OR NO CONTROL OVER.
The factors listed below, some of which CDT cannot control, may cause the
revenues and results of operations to fluctuate significantly:
- Actions taken by regulatory bodies relating to the verification or
registration of the products.
- The extent to which the Platinum Plus FBC and ARIS 2000 NOx reduction
products obtain market acceptance.
- The timing and size of customer purchases.
- Customer concerns about the stability of the business which could cause
them to seek alternatives to CDT's product.
CDT IS CURRENTLY DEPENDENT ON A FEW MAJOR CUSTOMERS FOR A SIGNIFICANT PORTION OF
REVENUES AND THE REVENUES COULD DECLINE IF CDT IS UNABLE TO MAINTAIN OR DEVELOP
RELATIONSHIPS WITH CURRENT OR POTENTIAL CUSTOMERS.
A few customers currently account for a significant portion of revenues.
For the three-year period ended December 31, 2004, two customers accounted for
approximately 53% of revenues. The majority of the revenues received from these
two customers consisted of license fees and ARIS hardware purchases. CDT
intends to establish long-term relationships with existing customers and
continue to expand its customer base. While CDT diligently seeks to become less
dependent on any single customer, it is likely that certain contractual
relationships may result in one or more customers contributing to a significant
portion of the revenue in any given year for the foreseeable future. The loss
of one or more of these significant customers may result in a material adverse
effect on revenues, the ability to become profitable or the ability to continue
the business operations.
CDT DEPENDS ON THE MARKETABILITY OF TWO PRIMARY PRODUCTS - PLATINUM PLUS FBC AND
ARIS SYSTEMS.
The Platinum Plus fuel borne catalyst and ARIS 2000 advanced reagent
injection system for selective catalytic reduction are the two primary products.
Failure of either product to achieve market acceptance may limit the company's
growth potential. CDT may have to cease operations if both of the primary
products fail to achieve market acceptance and/or fail to generate significant
revenues. Additionally, the marketability of the products is dependent upon
obtaining verifications from agencies such as the EPA, CARB, or similar European
agencies as well as the effectiveness of the products in relation to various
environmental regulations in the many jurisdictions in which CDT markets and
sells its products.
CDT MAY NOT BE ABLE TO SUCCESSFULLY MARKET NEW PRODUCTS THAT ARE DEVELOPED AND
OR OBTAIN DIRECT OR INDIRECT VERIFICATION OR APPROVALS OF THE NEW PRODUCTS.
CDT plans to market other emissions reduction devices used in combination
with the Platinum Plus fuel borne catalyst and ARIS 2000 injector. There are
numerous development and verification issues that may preclude the introduction
of these products into commercial sale. If CDT is unable to demonstrate the
feasibility of these products or obtain verification or approval for the
products from agencies such as the EPA, CARB or similar European agencies, CDT
may have to abandon the products or alter the business plan. Such modifications
to the business plan will likely delay achievement of milestones related to
revenue increases and achievement of profitability.
NO ASSURANCES OF ADDITIONAL FUNDING
Clean Diesel Technologies may seek additional funding in the form of a
private or public offering of additional shares of equity securities. Any
offering of such securities would result in dilution to the stockholders of
Clean Diesel Technologies. The ability of CDT to consummate financing will
depend on the status of CDT's marketing programs and commercialization progress,
as well as conditions then prevailing in the relevant capital markets. There can
be no assurance that such funding will be available if needed, or on acceptable
11
terms. In the event that CDT needs additional funds and is unable to raise such
funds, CDT may be required to delay, scale back, or severely curtail its
operations or otherwise impede its ongoing commercialization, which could have a
material adverse effect on the business, operating results, financial condition
and long-term prospects. See the text below under the captions "Liquidity and
Sources of Capital" in Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations," elsewhere herein.
CURRENCY FLUCTUATIONS COULD IMPACT FINANCIAL PERFORMANCE.
The majority of recent activities have been in the U.S. However, CDT plans
to increase activities in Europe and Asia, and thus potential for currency
exposure exists. CDT intends to manage the risk to such exposure, if any, by
entering into foreign currency futures and options contracts. There can be no
assurance that currency fluctuation will not have a significant effect on the
operations in the future.
CDT HAS NOT AND DOES NOT INTEND TO PAY DIVIDENDS ON THE COMMON STOCK SHARES.
CDT has not paid dividends on its common stock since inception, and does
not intend to pay any dividends to the holders of common stock in the
foreseeable future. CDT intends to reinvest earnings, if any, in the
development and expansion of the business.
THE PRICE OF THE COMMON STOCK SHARES MAY BE ADVERSELY AFFECTED BY THE SALE OF A
SIGNIFICANT NUMBER OF NEW SHARES.
The sale, or availability for sale, of substantial amounts of common stock,
including shares issued upon exercise of outstanding options and warrants, or in
the event that CDT elects to sell shares of common stock in the future to fund
continuing operations, in the public market or a private placement, or the
perception by the market that these sales could occur, could adversely affect
the market price of the common stock and could impair the ability to raise
additional capital through the sale of equity securities or debt financing. The
perceived risk of dilution may cause the existing stockholders and other holders
to sell their shares of stock, which would contribute to a decrease in the stock
price. In that regard, significant downward pressure on the trading price of
CDT's common stock may also cause investors to engage in short sales, which
would further contribute to significant downward pressure on the trading price
of the stock.
CDT'S COMMON STOCK IS CURRENTLY TRADED ON THE OVER-THE COUNTER MARKET AND THE
ALTERNATIVE INVESTMENT MARKET OF THE LONDON EXCHANGE AND AN INVESTOR'S ABILITY
TO TRADE THE STOCK MAY BE LIMITED BY TRADING VOLUME AND PRICE VOLATILITY.
The trading volume in CDT's common stock has been relatively limited. A
consistently active trading market for its common stock may not continue on the
OTC market or on the Alternative Investment Market of the London Stock Exchange.
The average daily trading volume in the common stock on the OTC market for the
month ended January, 2005 was approximately 750 shares. The average daily
trading volume in the common stock on Alternative Investment Market of the
London Stock Exchange for the month ended January, 2005 was approximately 1,700
shares.
There has been significant volatility in the market prices of publicly
traded shares of emerging growth technology companies, including CDT. Factors
such as announcements of technical developments, verifications, establishment of
distribution agreements, significant sales orders, changes in governmental
regulation and developments in patent or proprietary rights may have a
significant effect on the market price of CDT's common stock. In addition,
there has been a low average daily trading volume of the common stock. To the
extent this trading pattern continues, the price of the common stock may
fluctuate significantly as a result of relatively minor changes in demand for
such shares and sales of stock by holders.
ITEM 2. PROPERTIES
FACILITIES
Clean Diesel Technologies has a 5 year lease expiring in March 2009 for
3,925 square feet of administrative office space at 300 Atlantic Street,
Stamford, Connecticut. The annual cost of the lease including rent, utilities
and parking is approximately $123,000. CDT has a month to month lease for 400
feet of office space outside London, UK. Monthly costs including utilities, is
approximately $2,300. Clean Diesel Technologies also leases 2,750 square feet
of warehouse space in Milford Connecticut. The annual cost of the lease
excluding utilities is estimated at $19,000 and runs through July 2008.
PATENTS AND TECHNOLOGY ASSIGNMENTS
CDT's technology is comprised of patents, patent applications, trade or
service marks, data, and know-how. This technology was acquired by assignment
from Fuel Tech or developed internally. The assignment agreement provides for
12
annual royalties of 2.5% of gross revenues derived from the sale of the Platinum
Plus FBC, commencing in 1998 and terminating in 2008. Clean Diesel Technologies
may at any time terminate this royalty obligation by payment to Fuel Tech of
amounts in 2005 of $4.4 million, in 2006 of $3.3 million, in 2007 of $2.2
million or $1.1 million in 2008. CDT, as owner, maintains the technology at its
expense.
During 2004, Clean Diesel Technologies filed 5 additional US patent
applications and 7 foreign patent applications. Clean Diesel Technologies now
has a total of 26 US patents granted and 85 foreign patents. There are currently
12 US and 61 foreign patent applications pending. The patents expire in various
years through 2022. These patents and patent applications cover the means of
controlling the four principal emissions from diesel engines (NOx, particulates,
CO, and HC).
ITEM 3. LEGAL PROCEEDINGS
Clean Diesel Technologies is not involved in any legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no submissions of matter to a vote of security holders in the
fourth quarter of 2004.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY,RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
COMMON STOCK
Clean Diesel Technologies' Common Stock is traded in the US on the
over-the-counter (OTC) market and on the London Stock Exchange through the
Alternative Investment Market (AIM). Reports of transactions of Clean Diesel
Technologies' shares are available on the OTC Electronic Bulletin Board (Symbol
CDTI) and on the AIM (Symbol CDT and CDTS). At March 15, 2005 there are 400
registered holders and approximately 600 beneficial holders of Common Stock.
No dividends have been paid on CDT's Common Stock and Clean Diesel
Technologies does not intend to pay dividends on these shares in the foreseeable
future.
OTC LONDON STOCK EXCHANGE
BULLETIN BOARD AIM
(IN US$) (IN GBP)
STOCK PRICE DATE: HIGH LOW HIGH LOW
- ----------------- --------------- ---------------------- ------------ ------------
1st Quarter 2003 3.00 1.40 1.54 1.10
2nd Quarter 2003. 2.40 1.41 1.48 1.25
3rd Quarter 2003 2.00 1.50 1.35 1.05
4th Quarter 2003 4.70 1.85 2.55 0.95
1st Quarter 2004 3.38 2.80 1.90 1.35
2nd Quarter 2004. 2.90 2.00 1.45 1.18
3rd Quarter 2004 3.19 2.00 1.30 0.86
4th Quarter 2004 3.60 1.50 1.40 0.90
SALES AND USES OF UNREGISTERED SECURITIES DURING THE PERIOD
Pursuant to a Regulation S exemption with respect to an offshore placement,
Clean Diesel Technologies sold, effective October 8, 2004, 426,500 shares of its
Common Stock. The price of the Common Stock was 1.025 sterling (GBP) per share
(approximately $1.83 per share). The proceeds of the Common Stock issuance,
$754,000, net of $25,000 in expenses and including $135,400 of exchanged
deferred salary for the retired CEO, will be used for the general corporate
purposes of Clean Diesel Technologies.
Pursuant to a Regulation S exemption with respect to an offshore placement,
Clean Diesel Technologies sold, effective September 28, 2004, 1,000,000 shares
of its Common Stock. The price of the Common Stock was 1.025 sterling (GBP) per
share (approximately $1.83 per share). The proceeds of the Common Stock
issuance, $1.789 million, net of $65,000 in expenses, will be used for the
general corporate purposes of Clean Diesel Technologies.
ITEM 6. SELECTED FINANCIAL DATA
13
Clean Diesel Technologies was incorporated on January 19, 1994, as a wholly
owned subsidiary of Fuel Tech. Effective December 12, 1995, Fuel Tech completed
a Rights Offering of CDT's Common Stock, with Fuel Tech retaining a 27.6%
ownership interest in Clean Diesel Technologies. In 2004 and 2003, CDT obtained
$2.5 million and $7.5 million of proceeds, respectively, through private
placement sales of its Common Stock. As a result of the additional stock
transactions, Fuel Tech's 1,825,119 shares of CDT's Common Stock represent
approximately a 10.6% interest in Clean Diesel Technologies at December 31,
2004.
As discussed elsewhere herein, prior to 2000, Clean Diesel Technologies was
a development stage business. The following selected data are derived from the
financial statements of CDT. The data should be read in conjunction with the
financial statements, related notes and other financial information herein.
FOR THE YEARS ENDED DECEMBER 31,
------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
STATEMENTS OF OPERATIONS DATA (in thousands, except per share data)
Additive revenue $ 299 $ 212 $ 40 $ 114 $ 114
Hardware revenue 369 161 102 62 85
License and royalty revenue 54 194 299 1,424 383
-------- -------- -------- -------- --------
Total revenues 722 567 441 1,600 582
COSTS AND EXPENSES:
Cost of revenue 455 219 86 117 133
General and administrative 3,962 2,695 2,291 1,858 1,799
Research and development 506 855 693 365 534
Patent amortization and other expense 90 58 43 196 152
-------- -------- -------- -------- --------
Loss from operations (4,291) (3,260) (2,672) (936) (2,036)
Foreign currency exchange gain 101 -- -- -- --
Interest income/(expense), net 47 15 30 (170) 35
-------- -------- -------- -------- --------
Loss before preferred stock dividend (4,143) (3,245) (2,642) (1,106) (2,001)
Preferred Stock Dividend (non-cash) -- -- -- (621) (712)
Preferred Stock conversion premium -- -- -- (1,276) --
-------- -------- -------- -------- --------
Net loss attributable to common stockholders $(4,143) $(3,245) $(2,642) $(3,003) $(2,713)
======== ======== ======== ======== ========
Basic and diluted loss per common share $ (0.26) $ (0.26) $ (0.23) $ (1.08) $ (1.03)
Weighted-average shares outstanding 16,071 12,721 11,419 2,777 2,631
Cash dividends paid $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00
DECEMBER 31,
--------------------------------------
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
BALANCE SHEET DATA (in thousands)
Current assets $4,868 $7,023 $2,757 $4,612 $ 965
Total assets 5,513 7,441 2,979 4,658 1,057
Current liabilities 391 868 223 808 400
Long-term liabilities 0 0 418 368 808
Working capital 4,477 6,155 2,534 3,804 565
Stockholders' equity (deficit) 5,122 6,573 2,338 3,482 (151)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Prior to 2000, Clean Diesel Technologies was a development stage enterprise and
its efforts were devoted to the research and development of platinum fuel
catalysts and nitrogen oxide reduction technologies to reduce emissions from
diesel engines. During December 1999, CDT received its EPA registration for its
platinum-cerium product and in early 2000
14
completed its first commercial sales; accordingly, in the opinion of management,
Clean Diesel Technologies was no longer a development stage enterprise.
Although the Company has been unable to generate positive cash flows, it has
made significant progress in commercializing its technologies.
RESULTS OF OPERATIONS
2004 VERSUS 2003
Revenues and cost of revenue were $722,000 and $455,000, respectively, in
2004 versus $567,000 and $219,000, respectively, in 2003. The 2004 revenues
consist of the following:
(in thousands) 2004 2003 2002
----- ----- -----
REVENUE:
Additive $ 299 $ 212 $ 40
Hardware 369 161 102
License & royalty 54 194 299
-------------------
Total revenue $ 722 $ 567 $ 441
In the foregoing table "Additive" includes the Platinum Plus FBC products
and concentrate; "Hardware" includes the EPA verified Purifier System, ARIS
injectors and dosing systems.
CDT received EPA verification of its Purifier System (FBC and DOC) in
October 2003, and a second verification for its catalyzed wire mesh filter
system (FBC and CWMF) in June 2004. Clean Diesel Technologies has applied for
verification for emission reduction by CARB for the CWMF/FBC system as well. The
Platinum Plus FBC is registered with the EPA.
Additive revenue has increased as a result of successful demonstration
programs and sales of the verified Purifier System which requires the use of the
Platinum Plus FBC. The increase in hardware sales is primarily the result of
the EPA- sponsored State of Maine school bus retrofit program and increased ARIS
injector sales to Mitsui.
Clean Diesel Technologies identified a market opportunity for urea
selective catalytic reduction (SCR) systems for use with stationary diesel
engines primarily for power generation. The ARIS 2000 is a single-fluid
injection and metering system complete with an electronic control unit that can
be integrated with engine electronic and diagnostic systems. CDT's business
strategy is to license the ARIS 2000 NOx reduction system to other companies for
an up-front fee for the technology and information transfer and a separate
on-going royalty per unit payment. CDT currently has an exclusive license
agreement for both stationary and mobile ARIS applications with Mitsui Ltd for
Japan. CDT has a non-exclusive license for both stationary and mobile ARIS
applications in the United States with Combustion Components Associates of
Monroe Connecticut. CDT previously had an ARIS stationary license agreement for
North America with the RJM Corporation of Norwalk connecticut, but as of August
2004 RJM was out of business and the ARIS license reverted back to CDT. CDT
believes that the ARIS 2000 system can most effectively be commercialized
through licensing several companies with a related business in these markets.
Clean Diesel Technologies is actively seeking additional ARIS licensees for both
mobile and stationary applications in the US, Europe and Asia.
General and administrative expenses increased to $3,962,000 in 2004 from
$2,695,000 in 2003 as summarized in the following table:
(in thousands) 2004 2003 2002
------ ------ ------
Compensation and benefits $2,535 $1,650 $1,335
Occupancy 420 320 265
Professional 740 425 325
Other 267 300 366
------ ------ ------
Total general and administrative expenses $3,962 $2,695 $2,291
Compensation and benefit expense increased as of the result of several
staff additions in the US and Europe related to increased sales and marketing
efforts and a new CEO. Occupancy increased in 2004 as a result of the European
activity. Professional fees also increased primarily due to the SEC secondary
registration process and fund-raising, which was terminated in the fall of 2004.
15
Research and development expenses decreased to $506,000 in 2004 from
$855,000 in 2003. The decrease in research and development in 2004 is due to the
2003 verification testing relating to CARB and EPA testing and the transition to
commercial selling efforts in 2004.
Patent amortization and other costs increased to $90,000 in 2004 versus
$58,000 in 2003. The 2004 increase is related to writing off some patents in
2004 and the higher amortization related to prior years' capitalized costs.
Interest income increased to $47,000 in 2004 from $15,000 in 2003 due to
the higher amount of invested funds related to the November 2003 fund-raising.
RESULTS OF OPERATIONS
2003 VERSUS 2002
Revenues and cost of product sales were $567,000 and $219,000,
respectively, in 2003 versus $441,000 and $86,000, respectively, in 2002. The
2003 revenues consist of Platinum Plus sales, ARIS 2000 system sales, ARIS
license revenue and royalties, and miscellaneous equipment sales.
CDT received EPA verification of its Purifier System (FBC and DOC) in
October 2003, and has completed a second verification program with the EPA for
the FBC and Mitsui CWMF and is waiting for final verification results from the
EPA to be posted. Clean Diesel Technologies has applied for verification for
emission reduction by CARB as well. The Platinum Plus FBC is registered with the
EPA. In 2003, sales of the platinum-cerium additive totaled $212,000. Based on
initial trial results and licensing agreements, ongoing revenues from sales of
its Platinum Plus additives are expected from distributors, refiners, additive
marketing companies and fleets.
Clean Diesel Technologies identified a market opportunity for urea
selective catalytic reduction (SCR) systems for use with stationary diesel
engines primarily for power generation. The ARIS 2000 is a single-fluid
injection and metering system complete with an electronic control unit that can
be integrated with engine electronic and diagnostic systems. CDT has licensed
the ARIS 2000 system for stationary diesel engines in North, South and Central
America to the RJM Corporation on a non-exclusive basis and completed a
stationary license agreement with Mitsui for Japan on an exclusive basis. In
December 2002 Clean Diesel Technologies completed an additional exclusive
license agreement with Mitsui Ltd for the mobile ARIS technology in Japan. In
2003 CDT completed an ARIS mobile license with Combustion Components Associates
for the US market. Total sales of ARIS systems (included in Hardware) and
license/royalties of the ARIS 2000 in 2003 were $111,000 and $194,000,
respectively, versus $102,000 and $299,000 in 2002, respectively. CDT and its
licensees have sold and installed over 175 systems. CDT believes that the ARIS
2000 NOx reduction system has applications for both stationary engines and
mobile engines. While the ARIS system for stationary use is being sold
commercially, the ARIS system for mobile applications needs further development
from the present prototype stage. CDT believes that the ARIS 2000 system can
most effectively be commercialized through licensing several companies with a
related business in these markets. Clean Diesel Technologies is actively
seeking to license the mobile ARIS technology in the US and Europe and the
stationary technology in the US, Europe and Asia.
General and administrative expenses increased to $2,695,000 in 2003 from
$2,291,000 in 2002. The increase is the result of an increase in staff expense
and marketing and travel relating to the increased sales effort in marketing
CDT's technologies. The increase is also related to higher professional fees
including the effects of exchange rates, associated with being listed on AIM.
Research and development expenses increased to $855,000 in 2003 from $693,000 in
2002. The increase in research and development in 2003 is due to the development
of new applications for CDT's technologies and for verification testing relating
to CARB and EPA certification.
Patent filing and maintenance expenses increased to $58,000 in 2003 versus
$43,000 in 2002. The increase is attributable to the write-off of some patents
in non-viable countries and the resultant charge to income of the related asset
amounts, which had been capitalized. Clean Diesel Technologies capitalizes the
expenses related to filing each patent and then amortizes the expense over the
remaining life of the patent.
Interest income decreased to $15,000 in 2003 from $39,000 in 2002 due to
the decrease in funds used for operations. Interest expense decreased to $0 in
2003 from $9,000 in 2002 as a result of using equity to fund operations.
LIQUIDITY AND SOURCES OF CAPITAL
Prior to 2000, Clean Diesel Technologies was primarily engaged in research
and development and has incurred losses since inception aggregating $29,415,000
(excluding the effect of the preferred stock dividends). CDT expects to incur
losses through the foreseeable future as it further pursues its
commercialization efforts. Although CDT has begun selling limited quantities of
16
Platinum Plus additive and Purifier Systems and generating ARIS licensing and
royalties, revenue to date has been insufficient to cover operating expenses,
and Clean Diesel Technologies continues to be dependent upon sources other than
operations to finance its working capital requirements.
For the years ended 2004, 2003 and 2002, Clean Diesel Technologies used
cash of $4,312,000, $2,744,000 and $2,836,000, respectively, in operating
activities.
At December 31, 2004, and December 31, 2003, Clean Diesel Technologies had
cash and cash equivalents of $4,265,000 and $6,515,000, respectively. The
decrease in cash and cash equivalents in 2004 from 2003 was due to the use of
funds in 2004, partially offset by fund raising. Working capital decreased to
$4,477,000 at December 31, 2004, from $6,155,000 at December 31, 2003. CDT
anticipates incurring additional losses through at least 2005 as it further
pursues its commercialization efforts. At the date of this report, Clean Diesel
Technologies has cash resources estimated to be sufficient for its needs into
the first quarter of 2006.
In October 2004, Clean Diesel Technologies received $754,000 (net of
$25,000 in expenses) through a private placement of 426,500 shares of its Common
Stock on AIM. As part of the transaction, retired CEO Jeremy Peter-Hoblyn
exchanged his deferred salary of $135,400 for 73,587 shares of CDT common stock.
In September 2004, Clean Diesel Technologies received $1.789 million (net
of $65,000 in expenses) through a private placement of 1,000,000 shares of its
common stock on AIM.
In December 2003, Clean Diesel Technologies received $3.583 million (net of
$170,000 in expenses) through a private placement of 1,282,600 shares of its
common stock on AIM.
In September 2003, Clean Diesel Technologies received $3.866 million (net
of $39,000 in expenses) through a private placement of 2,395,597 shares of its
common stock on AIM.
In October 2002, Clean Diesel Technologies received $1.356 million (net of
$69,000 in expenses) through a private placement of 704,349 shares of its common
stock on AIM.
In December 2001, Clean Diesel Technologies received $3.721 million (net of
expenses) through a private placement of 2,580,664 shares of its common stock.
In conjunction with the private placement, CDT converted all of its Series A
preferred stock to common stock. All of CDT's common stock shares were
registered to trade on the AIM of the London Stock Exchange.
In April 2003, Clean Diesel Technologies completed a non-exclusive license
agreement with Combustion Component Associates Inc. (CCA) of Monroe,
Connecticut, for the mobile ARIS technology in the US. Under terms of the
agreement CCA agreed to pay CDT a nonrefundable $150,000 license fee and
committed to spend an additional $100,000 in developing, testing and
demonstrating ARIS mobile prototypes. CDT recognized the $150,000 license
revenue in the second quarter of 2003, as there are no ongoing services required
to be performed by CDT.
In September 2004, CCA was granted an additional limited two-year
non-exclusive ARIS stationary license for the US market. The license fee is due
at the end of a two-year trial period. Similar to the other ARIS license
agreements for stationary applications, a per unit royalty of approximately
$1,500 (based on percentage of sales price) is due for each system. CDT did
not receive any revenue from this license in 2004.
In December 2002, Clean Diesel Technologies completed an additional
exclusive license agreement with Mitsui for the mobile ARIS technology for
Japan. Under terms of the agreement Mitsui agreed to pay CDT a $250,000 license
fee and Mitsui committed to spend an additional $200,000 in developing, testing
and demonstrating ARIS mobile prototypes. CDT recognized the $250,000 of license
revenue in the fourth quarter of 2002.
In August 2001, Clean Diesel Technologies completed a license agreement
with Mitsui for CDT's ARIS 2000 NOx control system for all stationary diesel
power generators in Japan. Under the agreement, CDT received nonrefundable
up-front license payments of $495,000 and will receive ongoing standard
royalties of $1,500 to $2,500 on each system sold by Mitsui. Mitsui also had an
option to license the ARIS technology for mobile applications in Japan for an
additional license fee.
17
FUTURE CONTRACTUAL OBLIGATIONS
Less than 1 to 3 4 to 5 Over 5
(in thousands) Total 1 year years years years
------ ---------- ------- ------- ------
Operating Leases $ 595 $ 142 $ 422 $ 31 -
Deferred compensation and
pension benefits - - - - -
------ ---------- ------- ------- ------
Total $ 595 $ 142 $ 422 $ 31 -
The operating lease consists of a five-year lease for administrative space
in Stamford, Connecticut and a four-year lease for warehouse space in Milford,
Connecticut. The deferred compensation and pension benefit plans for the
Company's retired CEO were settled in 2004 and are more fully discussed in Note
7 to the Financial Statements.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results can differ from those estimates. The
Company believes that of its significant accounting policies (see Note 1 to the
Financial Statements), the following may involve a higher degree of judgment and
complexity.
REVENUE RECOGNITION
Clean Diesel Technologies generates revenue from the sale of additive
including the Platinum Plus FBC products and concentrate; "hardware" including
the EPA verified Purifier System, ARIS injectors and dosing systems; and license
and royalty fees from the ARIS 2000 system.
Clean Diesel Technologies' shipping terms are FOB shipping point and CDT
recognizes revenue when its products are shipped unless the purchase order or
contract specifically requires the Company to provide installation for hardware
purchases. For hardware projects where CDT is responsible for installation
either directly or indirectly (third party contractor), revenue is recognized
when the hardware is installed and or accepted if the project requires
inspection/acceptance.
The Company sells to end-user fleets, municipalities and construction
companies as well as fuel resellers, additive distribution companies and
emission reduction companies.
License revenue is recognized when the license agreement is entered into,
the license period commences, the technology rights, information and know-how
have been transferred to the licensee and CDT does not have any ongoing
responsibilities or performance requirements and collection is reasonably
assured. Royalty income is recognized when earned.
RESEARCH AND DEVELOPMENT COSTS
Costs relating to the research, development and testing of products are
charged to operations as they are incurred. These costs include test programs,
salary and benefits, consultancy fees, materials and certain testing equipment.
PATENT EXPENSE
CDT capitalizes all direct incremental costs associated with initial patent
filing costs and amortizes the cost over the estimated remaining life of such
patent. Patents are reviewed regularly and the remaining carrying amount of any
patents deemed not commercial or cost effective, are written off.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the opinion of management, with the exception of exposure to
fluctuations in the cost of platinum, CDT is not subject to any significant
market risk exposure. See "Risk Factors of the Business - Platinum Price" in
Item 1, "Business."
Clean Diesel Technologies generally receives most income in United States
dollars. CDT typically makes several monthly payments in various foreign
currencies for salary expense, patent expenses, product tests and registration,
local marketing and promotion, and consultants.
18
NEW ACCOUNTING PRONOUNCEMENTS
FASB Statement 123 (Revision 2004), "Share-Based Payment," was issued in
December 2004 and is effective as of the beginning of the first interim or
annual reporting periods that begin after June 15, 2005. The new statement
requires all share-based payments to employees to be recognized in the financial
statements based on their fair values on the grant date. Such cost is to be
recognized over the period during which an employee is required to provide
service in exchange for the award, which is usually the vesting period. CDT
currently accounts for its share-based payments to employees under the intrinsic
value method of accounting set forth in Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees." Additionally, CDT complies with
the stock-based employer compensation disclosure requirements of FASB Statement
No. 123 as amended. The Company has not yet completed its evaluation of the
effect adopting the new standard will have on its financial statements.
19
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
Clean Diesel Technologies, Inc.
We have audited the accompanying balance sheets of Clean Diesel Technologies,
Inc. as of December 31, 2004 and 2003 and the related statements of operations,
changes in stockholders' equity and cash flows for each of the two years in the
period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Clean Diesel Technologies, Inc.
as of December 31, 2004 and 2003 and the results of its operations and its cash
flows for each of the two years in the period ended December 31, 2004 in
conformity with U.S. generally accepted accounting principles.
Eisner LLP
New York, New York
January 26, 2005
20
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Clean Diesel Technologies, Inc.
We have audited the statements of operations, stockholders' equity, and cash
flows of Clean Diesel Technologies, Inc for the year ended December 31, 2002.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the results of its operations and its cash flows of Clean
Diesel Technologies, Inc. for the year ended December 31, 2002, in conformity
with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
Stamford, Connecticut
January 24, 2003
CLEAN DIESEL TECHNOLOGIES, INC.
BALANCE SHEETS (IN THOUSANDS EXCEPT SHARE DATA)
DECEMBER 31,
----------------------------------------------
2004 2003
---------------------- ----------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 4,265 $ 6,515
Accounts receivable, net of allowance of $12 and $3 in 2004 and
2003, respectively 145 115
Inventories 387 320
Other current assets 71 73
---------------------- ----------------------
TOTAL CURRENT ASSETS 4,868 7,023
Patents, net 418 274
Fixed assets, net of accumulated depreciation of $188 in 2004 and
$123 in 2003, respectively 200 126
Other assets 27 18
---------------------- ----------------------
TOTAL ASSETS $ 5,513 $ 7,441
====================== ======================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Deferred compensation and pension benefits $ -- $ 441
Accounts payable and accrued expenses 391 427
---------------------- ----------------------
TOTAL CURRENT LIABILITIES 391 868
STOCKHOLDERS' EQUITY:
Preferred stock, par value $0.05 per share,
authorized 80,000, no shares issued and outstanding -- --
Common stock, par value $0.05 per share, authorized
30,000,000 shares, issued and outstanding 17,165,868
and 15,679,337 shares, respectively 858 784
Additional paid-in capital 38,431 35,813
Accumulated deficit (34,167) (30,024)
---------------------- ----------------------
TOTAL STOCKHOLDERS' EQUITY 5,122 6,573
---------------------- ----------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 5,513 $ 7,441
====================== ======================
See accompanying notes.
21
CLEAN DIESEL TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS (IN THOUSANDS EXCEPT PER SHARE DATA)
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------------------------------------------
Revenue: 2004 2003 2002
---------------------- ---------------------- ----------------------
Additive revenue $ 299 $ 212 $ 40
Hardware revenue 369 161 102
License and royalty revenue 54 194 299
---------------------- ---------------------- ----------------------
Total revenue 722 567 441
Costs and expenses:
Cost of revenue 455 219 86
General and administrative 3,962 2,695 2,291
Research and development 506 855 693
Patent amortization and other expense 90 58 43
---------------------- ---------------------- ----------------------
Loss from operations (4,291) (3,260) (2,672)
Other income (expense):
Foreign currency exchange gain 101 -- --
Interest income 47 15 39
Interest expense -- -- (9)
---------------------- ---------------------- ----------------------
Net loss attributable to common stockholders $ (4,143) $ (3,245) $ (2,642)
====================== ====================== ======================
BASIC AND DILUTED LOSS PER COMMON SHARE
ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (0.26) $ (0.26) $ (0.23)
====================== ====================== ======================
WEIGHTED-AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING 16,071 12,721 11,419
====================== ====================== ======================
See accompanying notes.
22
CLEAN DIESEL TECHNOLOGIES, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT) (IN THOUSANDS)
Series A Convertible Total
Preferred Stock Common Stock Additional Stockholders'
--------------- ------------ Paid-In Accumulated Equity
Shares Amount Shares Amount Capital Deficit (Deficit)
=========== ============ =========== ============ ============ ============ ============
Balance at December 31, 2001 -- $ -- 11,214 $ 561 $ 27,058 $ (24,137) $ 3,482
Net loss for year -- -- -- -- -- (2,642) (2,642)
Issuance of common stock
warrants -- -- -- -- 95 -- 95
Payment of directors' fees in
common stock -- -- 23 1 46 -- 47
Exercise of warrants -- -- 27 1 (1) -- --
Issuance of common stock -- -- 654 33 1,224 -- 1,257
Issuance of common stock -- -- 50 2 97 -- 99
----------- ------------ ----------- ------------ ------------ ------------ -------------
Balance at December 31, 2002 -- $ -- 11,968 $ 598 $ 28,519 $ (26,779) $ 2,338
Net loss for year -- -- -- -- -- (3,245) (3,245)
Exercise of warrants -- -- 17 1 (1) -- --
Issuance of common stock -- -- 2,396 120 3,746 -- 3,866
Payment of directors' fees in
common stock -- -- 13 1 26 -- 27
Issuance of common stock -- -- 1,283 64 3,519 -- 3,583
Exercise of warrants -- -- 2 -- 4 -- 4
----------- ------------ ----------- ------------ ------------ ------------ -------------
Balance at December 31, 2003 -- $ -- 15,679 $ 784 $ 35,813 $ (30,024) $ 6,573
Net loss for year -- -- -- -- -- (4,143) (4,143)
Options exercised -- -- 34 2 87 -- 89
Issuance of common stock -- -- 1,000 50 1,739 -- 1,789
Payment of directors' fees in
common stock -- -- 26 1 56 -- 57
Issuance of common stock -- -- 427 21 733 -- 754
Broker fee credit from 2003 3 3
BALANCE AT DECEMBER 31, 2004 -- $ -- 17,166 $ 858 $ 38,431 $ (34,167) $ 5,122
=========== ============ =========== ============ ============ ============ ============
See accompanying notes.
23
CLEAN DIESEL TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOW (IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------------------------
2004 2003 2002
------------------------- ------------------------- ---------------------
OPERATING ACTIVITIES
Net loss $ (4,143) $ (3,245) $ (2,642)
Adjustments to reconcile net loss to cash
used in operating
activities:
Depreciation and amortization 132 81 26
Bad debt and Inventory write-off 19 -- --
Amortization of deferred financing costs -- -- 8
Compensatory stock warrant -- -- 95
Non-cash compensation expense for stock options 88 -- --
Changes in operating assets and liabilities:
Accounts receivable (40) 169 (87)
Inventories (76) (6) (18)
Other current assets and security deposits (7) 3 20
Deferred compensation and pension benefits (306) -- --
Accounts payable and accrued expenses 21 254 (238)
------------------------- ------------------------- ---------------------
Net cash used in operating activities (4,312) (2,744) (2,836)
------------------------- ------------------------- ---------------------
INVESTING ACTIVITIES
Patent costs (186) (192) (122)
Purchase of fixed assets (164) (85) (88)
------------------------- ------------------------- ---------------------
Net cash used in investing activities (350) (277) (210)
------------------------- ------------------------- ---------------------
FINANCING ACTIVITIES
Proceeds from exercise of stock options and warrants 1 4 --
Proceeds from broker fee credit 3 -- --
Repayment of term loans -- -- (250)
Proceeds from issuance of common stock, net 2,408 7,449 1,356
------------------------- ------------------------- ---------------------
Net cash provided by financing activities 2,412 7,453 1,106
------------------------- ------------------------- ---------------------
NET (DECREASE)/INCREASE IN CASH AND CASH EQUIVALENTS
CASH EQUIVALENTS (2,250) 4,432 (1,940)
Cash and cash equivalents at beginning of the year 6,515 2,083 4,023
------------------------- ------------------------- ---------------------
CASH AND CASH EQUIVALENTS AT END OF THE YEAR $ 4,265 $ 6,515 $ 2,083
========================= ========================= =====================
NON-CASH FINANCING ACTIVITIES
Payment of accrued directors fees in common stock $ 57 $ 28 $ 47
Stock issued as payment for deferred compensation 135 -- --
See accompanying notes.
24
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS
1. BUSINESS
Clean Diesel Technologies, Inc. ("CDT"), located in Stamford Connecticut
was incorporated in the State of Delaware on January 19, 1994, as a wholly owned
subsidiary of Fuel-Tech N.V. ("Fuel Tech"). Effective December 12, 1995, Fuel
Tech completed a rights offering of CDT's common stock, and reduced its
ownership in CDT's common stock to 27.6%. As a result of additional equity
offerings in subsequent years, Fuel Tech currently holds a 10.6% interest in CDT
as of December 31, 2004.
Clean Diesel Technologies is a specialty chemical and energy technology
company supplying fuel additives and proprietary systems to reduce harmful
emissions from internal combustion engines while improving fuel economy. Over
the past several years the Company has filed patents, developed its technologies
and is now commercializing Platinum Plus, a fuel borne catalyst (FBC); the
Purifier System, which includes the FBC combined with a traditional diesel
oxidation catalyst; the FBC/catalyzed wire mesh (CWMF) system; and the ARIS 2000
NOx reduction system through a direct sales and licensing distribution strategy.
CDT is developing a network of licensed distributors to sell and market its
patented Platinum Plus FBC, EPA verified Purifier System and the EPA verified
FBC/CWMF system. CDT continues to market and sell the FBC, Purifier and CWMF
systems to key corporate fleets to generate demand for its technologies. CDT's
strategy for the ARIS 2000 NOx reduction system is to continue licensing the
patented technology to engineering and automotive companies for an up-front
license fee and an ongoing royalty. The success of CDT's technologies will
depend upon the commercialization opportunities of the technologies,
governmental regulations, and corresponding foreign and state agencies. CDT's
raw materials are maintained off site and the majority of its blending and
manufacturing is performed by third parties.
2. SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of the financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
RECLASSIFICATION
Certain prior- year balances have been reclassified in order to conform to
the current year's presentation.
CASH AND CASH EQUIVALENTS AND FINANCIAL INSTRUMENTS
Clean Diesel Technologies considers all highly liquid investments with
original maturities of three months or less when purchased to be cash
equivalents. At December 31, 2004, substantially all of CDT's cash and cash
equivalents were on deposit with two financial institutions. All financial
instruments are reflected in the accompanying balance sheets at amounts that
approximate fair market value.
FOREIGN CURRENCY
The US dollar is considered the functional currency for CDT. CDT maintains
a UK bank account for its UK representative office. Foreign currency
translation gains or losses are recognized in the period incurred, which is
included in other income (expense) in the accompanying statements of operations.
CDT recorded a foreign currency gain of $101,000 on its UK bank holdings as of
December 31, 2004.
INVENTORIES
Inventories are stated at the lower of cost or market and consist of the
following:
(in thousands) 2004 2003
----- -----
Finished Platinum Plus FBC $ 142 $ 73
Platinum concentrate/metal 150 171
25
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
Hardware (ARIS and Purifier) 77 56
Other 18 20
----- -----
Total inventory $ 387 $ 320
REVENUE RECOGNITION
Clean Diesel Technologies generates revenue from the sale of additives
including the Platinum Plus FBC products and concentrate; hardware including the
EPA verified Purifier System, ARIS injectors and dosing systems; and license and
royalty fees from the ARIS 2000 System.
CDT shipping terms are FOB shipping point and revenue is recognized when
its products are shipped and collections are reasonably assured unless the
purchase order or contract specifically requires CDT to provide installation for
hardware purchases. For hardware projects where CDT is responsible for
installation either directly or indirectly (third-party contractor), revenue is
recognized when the hardware is installed and/or accepted if the project
requires inspection/acceptance.
CDT sells to end-user fleets, municipalities and construction companies as
well as fuel resellers, additive distribution companies, and emission reduction
companies. Two customers represent 53% of 2004, 2003 and 2002 total revenue and
one customer accounts for 23% and 65% of the December 31, 2004 and 2003 accounts
receivable balance, respectively.
During the third quarter of 2004, the RJM Corporation ceased operations and
consequently their ARIS stationary license for the North American market
reverted back to CDT and thus CDT will not receive any future royalties from
RJM. CDT had previously received and recognized $1.1 million in license revenue
from RJM in 2000 and 2001 for the exclusive ARIS stationary license in the North
American market.
License revenue is recognized when the license agreement is entered into,
the license period commences, the technology rights, information and know-how
have been transferred to the licensee and CDT does not have any ongoing
responsibilities or performance requirements and collection is reasonably
assured. Royalty income is recognized when earned.
In August 2001, Clean Diesel Technologies completed an exclusive license
agreement with Mitsui Ltd for CDT's ARIS 2000 NOx control system for all
stationary diesel power generators in Japan for the remaining life of the
patents, through 2018. Under the agreement, CDT received a nonrefundable
up-front license payment of $495,000, and will receive ongoing standard
royalties of between $1,500 and $2,500 on each system sold by Mitsui. CDT
recognized the license payment as revenue in 2001, as there are no significant
ongoing services to be performed by CDT.
In December 2002, Clean Diesel Technologies completed an additional
exclusive license agreement with Mitsui for the mobile ARIS technology for Japan
for the remaining life of the patents, through 2018. Under terms of the
agreement Mitsui agreed to pay CDT a $250,000 license fee and Mitsui committed
to spend an additional $200,000 in developing, testing and demonstrating ARIS
mobile prototypes. CDT recognized the $250,000 license revenue in the fourth
quarter of 2002.
In April 2003, Clean Diesel Technologies completed a non-exclusive license
agreement with Combustion Component Associates Inc. (CCA) of Monroe,
Connecticut, for the mobile ARIS technology in the US for the remaining life of
the patents, through 2018. Under terms of the agreement CCA agreed to pay CDT a
$150,000 non-refundable license fee and the licensee committed to spend an
additional $100,000 in developing, testing and demonstrating ARIS mobile
prototypes. CDT will also receive ongoing royalty payments on a per unit basis.
CDT recognized the $150,000 license revenue in the second quarter of 2003, as
there are no significant ongoing services required to be performed by CDT.
In September 2004, CCA was granted a limited two-year non-exclusive ARIS
stationary license for the US market. The license fee of $150,000 is due by the
end of a two-year trial period. Similar to the other ARIS license agreements for
stationary applications, a per unit royalty of approximately $1,500 (based on
percentage of sales price) is due for each ARIS system sold. CDT did not
recognize any revenue from this license in 2004.
26
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
GEOGRAPHIC INFORMATION
CDT sells its Platinum Plus additives and licenses its ARIS systems
throughout the world. A geographic breakdown of revenue consists of the
following:
(in thousands) 2004 2003 2002
----- ----- -----
REVENUE:
US $ 468 $ 364 $ 70
UK/Europe 2 9 39
Asia 252 194 332
----- ----- -----
Total Revenue $ 722 $ 567 $ 441
Foreign assets held by Clean Diesel Technologies consist of capitalized
foreign patents net of accumulated amortization and are as follows:
(in thousands) 2004 2003
----- -----
US patents, net $ 79 $ 64
Foreign patents, net 339 210
----- -----
Total patents, net $ 418 $ 274
PATENT EXPENSE
CDT capitalizes all direct incremental costs associated with initial patent
filing costs and amortizes the cost over the estimated remaining life of such
patent. Patents are reviewed regularly and the remaining carrying value of any
patents deemed not commercial or cost effective, are written off. The
expiration dates of CDT's patents, in numerous countries throughout the world,
ranges from 2005 to 2022.
RESEARCH AND DEVELOPMENT COSTS
Costs relating to the research, development and testing of products are
charged to operations as they are incurred. These costs include test programs,
salary and benefits, consultancy fees, materials and certain testing equipment.
GENERAL AND ADMINISTRATIVE EXPENSE
General and administrative expense is summarized as the following:
(in thousands) 2004 2003 2002
------ ------ ------
Compensation and benefits $2,535 $1,650 $1,335
Occupancy 420 320 265
Professional 740 425 325
Other 267 300 366
------ ------ ------
Total general and administrative expense $3,962 $2,695 $2,291
STOCK-BASED COMPENSATION
Clean Diesel Technologies accounts for employee/director stock option
grants in accordance with Accounting Principles Board (APB) Opinion No. 25,
"Accounting for Stock Issued to Employees" and its related interpretations.
Under CDT's current plan, options may be granted at not less than the fair
market value on the date of grant and therefore no compensation expense is
recognized for the stock options granted to employees.
If compensation expense for CDT's plan had been determined based on the
fair value at the grant dates for awards under its plan, consistent with the
method described in SFAS No. 123 as amended, CDT's net loss and basic and
diluted loss per common share would have been as follows on a pro forma basis:
27
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2004 2003 2002
-------- -------- --------
Net loss attributable to common stockholders as reported $(4,143) $(3,245) $(2,642)
Add: Stock-based compensation expense included in reported
net loss, net of related tax effects 88 -- --
Deduct: Total stock-based employee compensation expense
determined under fair value-based method for all awards,
net of related tax effects (826) (1,176) (591)
----------------------------
Pro forma net loss attributable to common stockholders $(4,881) $(4,421) $(3,233)
Net loss per share attributable to common stockholders:
Basic and diluted net loss per common share-as reported $ (0.26) $ (0.26) $ (0.23)
Basic and diluted per common share-pro forma $ (0.30) $ (0.35) $ (0.28)
In accordance with the provisions of SFAS No. 123, for purposes of the pro
forma disclosure the estimated fair value of the options is amortized over the
option vesting period. The application of the pro forma disclosures presented
above is not representative of the effects SFAS No. 123 may have on operating
results and earnings (loss) per share in future years due to the timing of stock
option grants and considering that options vest over a period of three years.
The fair value of each option grant, for pro forma disclosure purposes, was
estimated based on the date of grant using the modified Black-Scholes
option-pricing model with the following weighted-average assumptions:
2004 2003 2002
-------- -------- --------
Expected dividend yield 0.0% 0.0% 0.0%
Risk-free interest rate 4.2% 4.1% 4.85%
Expected volatility 99.4% 99.4% 94.2%
Expected life of option 4 YEARS 4 years 4 years
The weighted-average fair value per option granted was calculated as $1.39,
$2.10 and $2.01 in 2004, 2003 and 2002, respectively.
BASIC AND DILUTED LOSS PER COMMON SHARE
Basic and diluted loss per share is calculated in accordance with SFAS No.
128, "Earnings Per Share". Basic loss per share is computed by dividing net
loss by the weighted-average shares outstanding during the reporting period.
Diluted loss per share is computed similar to basic earnings per share except
that the weighted-average shares outstanding are increased to include additional
shares from the assumed exercise of stock options and warrants, if dilutive
using the treasury stock method. CDT's computation of diluted net loss per
share for 2004, 2003 and 2002 does not include common share equivalents
associated with 2,668,000, 2,248,000 and 1,567,000 options, respectively, and
532,000, 557,000 and 379,000 warrants, respectively, as the result would be
anti-dilutive.
3. INCOME TAXES
The Company follows the liability method of accounting for income taxes.
Such method requires recognition of deferred tax liabilities and assets for the
expected future tax consequences of events that have been included in the
financial statements or tax returns. Deferred tax liabilities and assets are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted tax rates in effect for the year in
which the differences are expected to reverse.
At December 31, 2004 Clean Diesel Technologies had tax losses available for
offset against future years' taxable income of approximately $27.1 million,
expiring between 2009 and 2024. Temporary differences were insignificant as of
such dates. CDT has provided a full valuation allowance to reduce the related
deferred tax asset to zero because of the uncertainty relating to realizing
these tax benefits in the future.
28
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
Under the provisions of the United States Tax Reform Act of 1986,
utilization of CDT's US federal tax loss carry forwards for the period prior to
December 12, 1995 may be limited as a result of the ownership change in excess
of 50% related to the 1995 Fuel Tech Rights Offering. Losses subsequent to the
aforementioned date may be limited due to cumulative ownership changes in any
three-year period.
4. STOCKHOLDERS' EQUITY
During 2004, Clean Diesel Technologies received proceeds of $2.4 million
(net of expenses) through two private placements totaling approximately 1.4
million shares of its common stock on the AIM of the London Stock Exchange. In
2003 proceeds of $7.5 million (net of expenses) through two private placements
totaling approximately 3.7 million shares of its common stock on the AIM of the
London Stock Exchange were received. In 2002, CDT received proceeds of
approximately $1.4 million (net of expenses) through a private placement of
approximately 0.7 million shares of its common stock on the AIM of the London
Stock Exchange.
In July 2004, October 2003 and May 2002, CDT issued 26,031, 13,276 and
22,658 shares, respectively, of common stock to its Board of Directors in lieu
of approximately $56,500, $27,500 and $46,800 of directors' fees pertaining to
their services for the years ended December 31, 2003, 2002 and 2001. The share
price used represented the average of CDT's quarter-end high and low trading
prices. Such directors' fees had been accrued and charged to expense during
2003, 2002 and 2001.
5. STOCK OPTIONS AND WARRANTS
Clean Diesel Technologies maintains a stock award plan, the 1994 Incentive
Plan (the "Plan"). Under the Plan, awards may be granted to participants in the
form of incentive stock options, non-qualified stock options, stock appreciation
rights, restricted stock, performance awards, bonuses, or other forms of
share-based or non-share-based awards, or combinations thereof. CDT grants
awards at fair market value on the date of grant with expiration dates of
typically 10 years. Participants in the Plan may include CDT's directors,
officers, employees, consultants and advisors (except consultants or advisors in
capital-raising transactions) as the directors determine are key to the success
of the business. The percentage of outstanding common shares of CDT used to
determine the maximum number of awards to participants is 17.5%. In general,
the policy of the Board was to grant stock options vesting in three equal
portions on the first through third anniversaries of the grant date for grants
prior to 1997, and in equal portions on the grant date and the first and second
anniversaries of the grant date for grants awarded after 1997.
The following table presents a summary of CDT's stock option activity and
related information for the years ended December 31:
2004 2003 2002
-------------------------------------------------------- ---------------------------
OPTIONS WEIGHTED-AVERAGE OPTIONS WEIGHTED-AVERAGE OPTIONS WEIGHTED-AVERAGE
(000'S) EXERCISE PRICE (000'S) EXERCISE PRICE (000'S) EXERCISE PRICE
-------------------------------------------------------- ---------------------------
Outstanding, beginning
of year 2,248 $ 2.45 1,567 $ 2.60 1,139 $ 2.48
Granted 469 1.97 681 2.12 470 2.94
Exercised 49 1.22 -- -- -- --
Forfeited -- -- -- -- (42) 2.97
-------------------------------------------------------- ---------------------------
Outstanding, end
of year 2,668 $ 2.39 2,248 $ 2.45 1.567 $ 2.60
======================================================== ===========================
Exercisable, end
of year 2,197 $ 2.47 1,711 $ 2.49 1,220 $ 2.56
Weighted-average fair value of
options granted during the year $ 1.39 $ 2.10 $ 2.01
29
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
The following table summarizes information about stock options outstanding
at December 31, 2004:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
- ------------------------------------------------------------------------------- -------------------------------------
WEIGHTED-AVERAGE
RANGE OF NUMBER OF REMAINING CONTRACTUAL WEIGHTED-AVERAGE NUMBER OF WEIGHTED-AVERAGE
EXERCISE PRICES OPTIONS LIFE IN YEARS EXERCISE PRICE OPTIONS EXERCISE PRICE
- ------------------------------------------------------------------------------- --------------------------------------
$ .20 - $2.49 1,527,937 7.52 $ 1.72 1,133,600 $ 1.68
2.50 - 4.63 1,081,000 6.44 3.10 1,004,001 3.11
5.63 - 6.82 59,450 1.05 6.72 59,450 6.72
- -----------------------------------------------------------------------------------------------------------------------
$ .20 - $6.82 2,668,387 6.94 $ 2.39 2,197,051 $ 2.47
In 2004, employees exercised approximately 48,000 options in a cashless
exercise resulting in the Company issuing approximately 33,000 shares of its
common stock. CDT recorded a charge to operations of $88,000 with a
corresponding increase in additional paid-in capital, representing the market
value of the common stock issued.
In February 2001, in consideration of their performing investor relations
on behalf of Clean Diesel Technologies in the UK, CDT granted Equity Development
Limited two 50,000 blocks of warrants at $1.50 per share. The first 50,000
block of warrants has a one- year term and vests when CDT's stock price remains
above $2.50 for seven consecutive days. The second 50,000 block of warrants has
a term of two years and vests when CDT's stock price remains above $3.00 for
seven consecutive days. The value of such warrants was $119,500 and charged to
earnings in 2001. In 2002, as a result of the warrants becoming vested, CDT
charged to earnings an additional $95,000 for the 100,000 warrants.
In conjunction with the September 2003 stock offering, CDT granted the
private placement investors 230,240 warrants (approximately one warrant for each
10 shares of common stock purchased) at the same $1.63 price as the common stock
issued.
The following table presents a summary of CDT warrant activity and related
information for the years ended December 31:
CDT Warrants
2004 2003 2002
-------------------------- -------------------------- --------------------------
Warrants EXERCISE PRICE Warrants EXERCISE PRICE Warrants EXERCISE PRICE
(000'S) PER SHARE (000'S) PER SHARE (000'S) PER SHARE
--------- --------------- --------- --------------- --------- ---------------
Outstanding, beginning
of year 557 $ 1.50 - 10.00 379 $ 1.50 - 10.00 429 $ 1.50 - 10.00
Granted -- -- 230 $ 1.63 -- --
Exercised -- -- 19 $ 1.50 - 2.00 50 $ 1.50 - 2.00
Forfeited 25 $ 10.00 33 -- --
----------------------------------------------------------------------------------
Outstanding, end of year 532 $ 1.50 - 3.00 557 $ 1.50 - 10.00 379 $ 1.50 - 10.00
==================================================================================
WARRANTS OUTSTANDING WARRANTS EXERCISABLE
- ---------------------------------------------------------------------------- ---------------------------------------
WEIGHTED-AVERAGE
RANGE OF NUMBER OF REMAINING YEARS WEIGHTED-AVERAGE WEIGHTED-AVERAGE
EXERCISE PRICES WARRANTS EXERCISE LIFE EXERCISE PRICE EXERCISABLE PRICE
- ---------------------------------------------------------------------------- ---------------------------------------
1.50 - $2.00 466,908 6.58 $ 1.73 466,908 $ 1.73
2.25 - 3.00 64,825 3.41 2.54 64,825 2.54
- ---------------------------------------------------------------------------- ---------------------------------------
1.50 - $3.00 531,733 6.19 $ 1.82 531,733 $ 1.82
6. COMMITMENTS
Clean Diesel Technologies is obligated under a sublease agreement for its
principal office through March 2009 and through July 2008 for its warehouse
space. Annual rent including utilities for the administrative space is $123,000
30
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
and $19,000 for the warehouse space (excluding utilities). For the years ended
December 31, 2004, 2003 and 2002, rental expense approximated $128,800, $110,500
and $112,100, respectively.
Effective October 28, 1994, Fuel Tech granted two licenses to Clean Diesel
Technologies for all patents and rights associated with its platinum fuel
catalyst technology. Effective November 24, 1997, the licenses were canceled
and Fuel Tech assigned to CDT all such patents and rights on terms substantially
similar to the licenses. In exchange for the assignment, CDT will pay Fuel Tech
a royalty of 2.5% of its annual gross revenue from sales of the platinum fuel
catalysts commencing in 1998. The royalty obligation expires in 2008. CDT may
terminate the royalty obligation to Fuel Tech by payment of $4.4 million in
2005, $3.3 million in 2006, $2.2 million in 2007 or $1.1 million in 2008. CDT
as assignee and owner will maintain the technology at its own expense. Royalties
incurred in 2004, 2003 and 2002 amounted to $7,450, $4,800 and $800,
respectively. Royalties payable to Fuel Tech at December 31, 2004, 2003 and
2002 were $7,450, $4,800 and $800, respectively.
7. RELATED PARTY TRANSACTIONS
In January 2002, the remaining $250,000 of a $1,000,000 term loan was
repaid to Fuel Tech.
Clean Diesel Technologies has a Management and Services Agreement with Fuel
Tech. The agreement requires CDT to reimburse Fuel Tech for management, services
and administrative expenses incurred on behalf of CDT. CDT agreed to pay Fuel
Tech a fee equal to an additional 3 to10% of the costs paid on CDT's behalf,
dependent upon the nature of the costs incurred. One Fuel Tech officer/director
serves as an officer/director of Clean Diesel Technologies. The financial
statements include charges from Fuel Tech of certain management and
administrative costs, which approximate $69,000, $69,000 and $69,000 for the
years ended December 31, 2004, 2003 and 2002, respectively.
Clean Diesel Technologies had a deferred salary plan with its former Chief
Executive Officer in which he deferred $62,500 of his annual salary until CDT
reaches $5 million in revenue. This agreement was terminated in March 2001 and
the executive's salary was returned to full pay. In October 2004 as part of
CDT's private placement on the AIM exchange, the former CEO exchanged all of his
outstanding $135,400 of deferred compensation for 73,587 shares of CDT's common
stock. The balance at December 31, 2004 and 2003 for this plan was $0 and
$135,400, respectively.
Clean Diesel Technologies made annual pension payments or accruals pursuant
to a deferred compensation plan on behalf of its former Chief Executive Officer.
The former CEO also agreed to defer payment of the deferred compensation plan
until the Company reached $5 million in revenue or he retired. In June 2003 the
CEO elected to discontinue his deferred compensation plan. For the three years
ended December 31, 2004, $0, $22,900 and $50,000 of expense was recognized each
year in connection with the plan. In September 2004, the CEO retired and in
October 2004 the full $305,600 balance was paid. At December 31, 2004 and
2003, total obligations were $0 and $305,600, respectively, pertaining to this
plan.
8. MARKETING AND JOINT DEVELOPMENT AGREEMENTS
Clean Diesel Technologies and AMBAC International reached an agreement in
December 1997 under which the parties will jointly share in the cost of
development of the ARIS injector for urea SCR (selective catalytic reduction).
CDT holds the exclusive marketing rights to the injector for a period of five
years subject to certain minimum purchases of injectors from AMBAC. CDT agreed
to purchase injectors exclusively from AMBAC until November 3, 2002 or to pay
AMBAC for 50% of AMBAC's development cost and a royalty on injectors made
elsewhere for CDT. No rights or licenses have been granted by either party to
the other on patents or inventions conceived prior to the agreement. However,
the parties have filed a joint patent on the specific ARIS injector. CDT has
retained all rights to its underlying patents including the fundamental
return-flow injection concept on which the US Patent Office has granted CDT a
patent.
31
CLEAN DIESEL TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
9. RECENT ACCOUNTING PRONOUNCEMENTS
FASB Statement 123 (Revision 2004), "Share-Based Payment," was issued in
December 2004 and is effective as of the beginning of the first interim or
annual reporting periods that begin after June 15, 2005. The new statement
requires all share-based payments to employees to be recognized in the financial
statements based on their fair values on the grant date. Such cost is to be
recognized over the period during which an employee is required to provide
service in exchange for the award, which is usually the vesting period. CDT has
not yet completed its evaluation of the effect adoption of the new standard will
have on the financial statements.
10. QUARTERLY FINANCIAL DATA (UNAUDITED)
(IN THOUSANDS EXCEPT PER SHARE DATA)
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
Ended 3/31/04 Ended 6/30/04 Ended 9/30/04 Ended 12/31/04 Total Year
Unaudited Unaudited Unaudited Unaudited 2004
--------------- --------------- --------------- ---------------- ------------
TOTAL REVENUE $ 194 $ 93 $ 241 $ 194 $ 722
GROSS PROFIT * 62 40 92 73 267
NET LOSS ATTRIBUTABLE TO
COMMON STOCKHOLDERS (808) (885) (1,243) (1,207) (4,143)
BASIC NET LOSS PER COMMON
SHARE (0.05) (0.06) (0.08) (0.07) (0.26)
DILUTED NET LOSS PER COMMON
SHARE (0.05) (0.06) (0.08) (0.07) (0.26)
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
Ended 3/31/03 Ended 6/30/03 Ended 9/30/03 Ended 12/31/03 Total Year
Unaudited Unaudited Unaudited Unaudited 2003
--------------- --------------- --------------- ---------------- ------------
Total revenue $ 96 $ 283 $ 99 $ 89 $ 567
Gross profit * 39 219 52 38 348
Net loss attributable to
common stockholders (907) (585) (664) (1,089) (3,245)
Basic net loss per common
share (0.08) (0.05) (0.05) (0.08) (0.26)
Diluted net loss per common
share (0.08) (0.05) (0.05) (0.08) (0.26)
- --------------------------------------------------------------------------------------------------------------
Note: The sum of the quarters' earnings per share may not equal the full-year
per share amounts
* Gross profit is defined as total revenue less cost of revenue.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
Item 9A. Controls and Procedures
As of the date of this filing, an evaluation was performed under the
supervision and with the participation of the Company's management, including
its CEO and CFO, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on that evaluation, the
Company's management, including its CEO and CFO concluded that the Company's
disclosure controls and procedures were effective as of December 31, 2004.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect internal controls subsequent to
December 31, 2004.
Item 9B. Other Information
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
32
Information regarding directors and executive officers of CDT will be set
forth under the captions "Election of Directors", "Directors and Executive
Officers of Clean Diesel Technologies" and "Committees of the Board" in CDT's
Proxy Statement related to the 2005 annual meeting of stockholders (the "Proxy
Statement") and is incorporated by reference herein.
Clean Diesel has adopted a code of Ethics and Business Conduct (the "Code")
that applies to all employees, officers and Directors, including the Chief
Executive Officer, Chief Financial Officer and Controller. A copy of the code
is available free of charge on written or telephone request to the Secretary of
the Company at the address or telephone number of the Company set out in Clean
Diesel's annual report to Stockholders.
ITEM 11. EXECUTIVE COMPENSATION
Information required by this item will be set forth under the caption
"Executive Compensation" in the Proxy Statement and is incorporated by reference
herein excluding, however, the information under the captions "Report of the
Board of Directors on Executive Compensation" and "Performance Graph," which is
not incorporated by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Information required by this item will be set forth under the caption
"Principal Stockholders and Stock Ownership of Management" in the Proxy
Statement and is incorporated by reference herein.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this item will be set forth under the captions
"Compensation Committee Interlocks and Insider Participation" and "Certain
Relationships and Related Transactions" in the Proxy Statement and is
incorporated by reference herein.
ITEM 14. Principle Accountant Fees and Services
Information required by this item will be set forth under the caption
"Audit Fees" in the Proxy Statement and is incorporated by reference herein.
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(A) (1) FINANCIAL STATEMENTS
The Financial Statements identified below and required by Part II,
Item 8 of this Form 10-K are set forth above.
Reports of Independent Registered Public Accounting Firms
Balance Sheets as of December 31, 2004, and 2003
Statements of Operations for the years ended December 31, 2004,
2003, and 2002
Statements of Changes in Stockholders' Equity for the years
ended December 31, 2004, 2003, and 2002
Statements of Cash Flows for the years ended December 31, 2004,
2003, and 2002
(2) FINANCIAL STATEMENT SCHEDULES Schedules have been omitted because
of the absence of the conditions under which they are required
or because the required information where material is shown in the
financial statements or the notes thereto.
33
(B) EXHIBITS
The following exhibits are incorporated by reference number indicated as filed
herewith. Portions of Exhibits 10 (o) and 10(p) have been omitted pursuant to a
request for confidential treatment.
*3(i)(a) Restated Certificate of Incorporation of June 18, 2004.
*3(i)(b) Certificate of Elimination of Series A Convertible Preferred
Stock of June 18, 2004.
*3(ii) By-Laws.
**4 Specimen Stock Certificate, Common Stock.
***10(a) Assignment of Intellectual Property Rights Fuel Tech N.V. to
Platinum Plus, Inc. As of November 5, 1997.
***10(b) Assignment of Intellectual Property Rights by Fuel Tech, Inc.
to Clean Diesel Technologies, Inc. as of November 5, 1997.
***10(c) Assignment Agreement as of November 5, 1997 among Platinum
Plus, Inc., Fuel-Tech N.V. and Clean Diesel Technologies, Inc.
****10(d) 1994 Incentive Plan as amended through August 8, 1996.
*****10(e) Amendment of Section 5.1 of 1994 Incentive Plan, effective
June 9, 1999.
*10(f) Amendment of Section 6.11 of 1994 Incentive Plan, effective
June 11, 2004.
*10(g) Form of Incentive Stock Option Agreement.
*10(h) Form of Non-Qualified Stock Option Agreement.
*10(i) Form of Non-Executive Director Stock Option Agreement.
+10(j) Management Services Agreement between Clean Diesel
Technologies, Inc., Fuel Tech, Inc. and Fuel-Tech N.V. as of
June 1, 1996.
++10(k) Office Premises Lease of January 29, 2004.
***10(l) Registration Rights Agreement between Clean Diesel
Technologies, Inc. and Fuel-Tech N.V. of November 5, 1997.
+++10(m) Registration Rights Agreement between Clean Diesel
Technologies, Inc. and Fuel-Tech N.V. of March 24, 1997.
++++10(n) Registration Rights Agreement between Clean Diesel
Technologies, Inc. and the holders of Series A Convertible
Preferred Stock as of November 11, 1998.
++10(o) License Agreement of July 13, 2001 between Clean Diesel
Technologies, Inc. and Mitsui Co., Ltd as amended by Amendment
No. 1 of December 18, 2002.
++10(p) License Agreement of March 31, 2003 between Clean Diesel
Technologies, Inc. and Combustion Components Associates, Inc.
+++10(q) Agreement by and between Jeremy D. Peter-Hoblyn and Clean
Diesel Technologies, Inc. Dated as of December 2, 1996.
++10(r) Amendment No. 1 dated as of September 30 2002 to Employment
Agreement between Jeremy D. Peter-Hoblyn and Clean Diesel
Technologies, Inc., dated as of December 2, 1966.
+++10(s) Agreement by and between James M. Valentine and Clean Diesel
Technologies, Inc. dated as of September 12, 1997.
++10(t) Agreement by and between David W. Whitwell and Clean Diesel
Technologies, Inc. dated as of March 1, 2001.
++10(u) Agreement by and between R. Glen Reid and Clean Diesel
Technologies, Inc. dated as of April 1, 2002.
@10(s) Agreement by and between Bernhard Steiner and Clean Diesel
Technologies, Inc., dated as of September 13, 2004.
#11 Statement re Computation of Per Share Earnings.
#14 Codes of Ethics and Business Conduct
#23(a) Consent of Eisner LLP.
#23(b) Consent of Ernst & Young LLP.
- - - - - - - - - - - - - - - -
# Filed herewith.
* Previously filed as Exhibit to Registration Statement on Form
S-8 (No. 333-117057) of July 1, 2004.
** Previously filed as Exhibit to Registration Statement on Form
S-1 (No. 33-95840) of August 16, 1995.
*** Previously filed as Exhibit to Form 10-K for the year ended
December 31, 1997.
**** Previously filed as Exhibit to Form 10-K for the year ended
December 31, 1996.
***** Previously filed as Exhibit to Form 10-K for the year ended
December 31, 2000.
+ Previously filed as Exhibit to Form 10-Q for the period ended
September 30, 1996.
++ Previously filed as Exhibit to Form 10-Q for period ended June
30, 2004.
34
+++ Previously filed as Exhibit to Registration Statement on Form
S-1 of August 7, 1998.
++++ Previously filed as Exhibit to Form 10-Q for the period ended
September 30, 1998.
@ Previously filed as Exhibit to Form 8-K of July 30, 2004.
35
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Clean Diesel Technologies, Inc. has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized.
CLEAN DIESEL TECHNOLOGIES, INC.
March 29, 2005 By: /s/ Bernhard Steiner
- ---------------------- -------------------------------------
Date Bernhard Steiner
Chief Executive Officer and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, the
following persons on behalf of Clean Diesel Technologies, Inc. and in the
capacities and on the date indicated have duly signed this report below.
/s/ Bernhard Steiner Chief Executive Officer and Director
--------------------------- (principal executive officer)
Bernhard Steiner
/s/ David W. Whitwell Chief Financial Officer, Vice President, and
--------------------------- Treasurer
David W. Whitwell (principal financial and accounting officer)
s/ Jeremy D. Peter-Hoblyn Director
--------------------------
Jeremy D. Peter-Hoblyn
/s/ John A. de Havilland Director
---------------------------
John A. de Havilland
/s/ Derek R. Gray Director, Non-Executive Chairman of the Board
--------------------------- of Directors
Derek R. Gray
/s/ Charles W. Grinnell Director, Vice President, and Corporate
--------------------------- Secretary
Charles W. Grinnell
/s/ James M. Valentine Director and President
---------------------------
James M. Valentine
Dated: March 29, 2005
36