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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002
COMMISSION FILE NUMBER 0-26068
ACACIA RESEARCH CORPORATION
---------------------------
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 95-4405754
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
500 NEWPORT CENTER DRIVE, NEWPORT BEACH, CA 92660
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (949) 480-8300
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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
filing requirements for the past 90 days. Yes [X] No [ ]
At May 10, 2002, the registrant had 19,629,376 shares of common stock,
$0.001 par value, issued and outstanding.
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ACACIA RESEARCH CORPORATION
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Unaudited Consolidated Balance Sheets as of
March 31, 2002 and December 31, 2001........................ 3
Unaudited Consolidated Statements of Operations and
Comprehensive Loss for the Three Months Ended
March 31, 2002 and 2001..................................... 4
Unaudited Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2002 and 2001.................. 5
Notes to Consolidated Financial Statements.................. 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............... 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk.. 25
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 26
Item 2. Changes in Securities....................................... 26
Item 3. Defaults Upon Senior Securities............................. 26
Item 4. Submission of Matters to a Vote of Security Holders......... 27
Item 5. Other Information........................................... 27
Item 6. Exhibits and Reports on Form 8-K............................ 27
SIGNATURES................................................................... 28
2
ACACIA RESEARCH CORPORATION
CONSOLIDATED BALANCE SHEETS
AS OF MARCH 31, 2002 AND DECEMBER 31, 2001
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
(UNAUDITED)
MARCH 31, DECEMBER 31,
2002 2001
---------- ----------
ASSETS
Current assets:
Cash and cash equivalents $ 50,123 $ 59,451
Short-term investments 25,643 25,110
Prepaid expenses, other receivables and other assets 2,795 1,613
---------- ----------
Total current assets 78,561 86,174
Property and equipment, net of accumulated depreciation 4,610 4,906
Investment in affiliate, at cost 3,000 3,000
Patents, net of accumulated amortization 11,406 11,855
Goodwill, net of accumulated amortization 4,627 4,627
Other assets 444 297
---------- ----------
$ 102,648 $ 110,859
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, accrued expenses and other $ 4,424 $ 5,756
Current portion of deferred revenues 7,772 7,088
Current portion of capital lease obligation 955 934
---------- ----------
Total current liabilities 13,151 13,778
Deferred income taxes 3,754 3,829
Deferred revenues, net of current portion 219 372
Capital lease obligation, net of current portion 1,598 1,845
---------- ----------
Total liabilities 18,722 19,824
---------- ----------
Minority interests 31,578 32,303
---------- ----------
Stockholders' equity:
Preferred stock, par value $0.001 per share;
20,000,000 shares authorized; no shares
issued or outstanding -- --
Common stock, par value $0.001 per share;
60,000,000 shares authorized; 19,629,376
and 19,592,459 shares issued and outstanding
as of March 31, 2002 and December 31,
2001, respectively 20 20
Additional paid-in capital 158,676 158,529
Warrants to purchase common stock 199 199
Comprehensive loss (108) (4)
Accumulated deficit (106,439) (100,012)
---------- ----------
Total stockholders' equity 52,348 58,732
---------- ----------
$ 102,648 $ 110,859
========== ==========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
3
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
(UNAUDITED)
THREE MONTHS ENDED
------------------------------
MARCH 31, 2002 MARCH 31, 2001
-------------- --------------
Revenues:
License fee income $ -- $ 2,440
Grant revenue 249 183
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Total revenues 249 2,623
------------- -------------
Operating expenses:
Research and development expenses (including
stock compensation charges of $421 and
$2,398 for the three months ended March
31, 2002 and 2001, respectively) 3,089 5,549
Marketing, general and administrative expenses
(including stock compensation charges of
$1,001 and $6,021 for the three months ended
March 31, 2002 and 2001, respectively) 5,073 12,242
Amortization of patents and goodwill 564 633
------------- -------------
Total operating expenses 8,726 18,424
------------- -------------
Operating loss (8,477) (15,801)
------------- -------------
Other (expense) income:
Interest income 406 1,195
Realized losses on short-term investments (553) --
Unrealized losses on short-term investments (322) --
Interest expense (63) --
Equity in losses of affiliate -- (55)
Other income 78 4
------------- -------------
Total other (expense) income (454) 1,144
------------- -------------
Loss from operations before income taxes and
minority interests (8,931) (14,657)
Benefit (provision) for income taxes 69 (13)
------------- -------------
Loss from operations before minority interests (8,862) (14,670)
Minority interests 2,435 5,191
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Net loss (6,427) (9,479)
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Unrealized (losses) gains on short-term investments (95) 39
Unrealized losses on foreign currency translation (9) --
------------- -------------
Comprehensive loss $ (6,531) $ (9,440)
============= =============
Loss per common share:
Basic $ (0.33) $ (0.50)
============= =============
Diluted $ (0.33) $ (0.50)
============= =============
Weighted average number of common and potential
common shares outstanding used in computation
of loss per share:
Basic and diluted 19,610,040 18,985,864
============= =============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
4
ACACIA RESEARCH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
---------------------
MARCH 31, MARCH 31,
2002 2001
--------- ---------
Cash flows from operating activities:
Net loss from continuing operations: $ (6,427) $ (9,479)
Adjustments to reconcile net loss from continuing
operations to net cash used in operating activities:
Depreciation and amortization 933 837
Equity in losses of affiliate -- 55
Minority interests in net loss (2,435) (5,191)
Stock-based compensation 1,422 8,419
Deferred tax benefit (75) (39)
Net purchases of trading securities (3,358) --
Unrealized losses on short-term investments 322 --
Other 45 182
Changes in assets and liabilities, net of effects of acquisitions:
Prepaid expenses, other receivables and other assets (1,322) (1,424)
Accounts payable, accrued expenses and other (1,085) 949
Deferred revenue 531 --
--------- ---------
Net cash used in operating activities for continuing operations (11,449) (5,691)
Net cash used in operating activities for discontinued operations (254) (1,325)
--------- ---------
Net cash used in operating activities (11,703) (7,016)
--------- ---------
Cash flows from investing activities:
Purchase of additional equity in consolidated subsidiaries -- (100)
Purchase of property and equipment (232) (1,517)
Purchase of short-term investments (4,540) --
Sale of short-term investments 6,878 5,813
Sale of property and equipment 98 10
Other (101) --
--------- ---------
Net cash provided by investing activities from
continuing operations 2,103 4,206
Net cash provided by investing activities from
discontinued operations -- 111
--------- ---------
Net cash provided by investing activities 2,103 4,317
--------- ---------
Cash flows from financing activities:
Proceeds from the exercise of stock options 214 1,026
Capital contributions from minority shareholders of subsidiaries 300 --
Proceeds from sale of common stock, net of issuance costs -- 18,361
Repayment of capital lease obligation (226) --
Other -- 128
--------- ---------
Net cash provided by financing activities 288 19,515
--------- ---------
(Decrease) increase in cash and cash equivalents (9,312) 16,816
--------- ---------
Cash and cash equivalents, beginning 59,451 35,953
Effect of exchange rate on cash (16) --
--------- ---------
Cash and cash equivalents, ending $ 50,123 $ 52,769
========= =========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
5
ACACIA RESEARCH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
BASIS OF PRESENTATION. The accompanying unaudited consolidated
financial statements have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain
information and footnotes required by generally accepted accounting principles
in annual financial statements are not included herein. These interim financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto for the year ended December 31, 2001 as reported by
us in our Annual Report on Form 10-K.
The consolidated financial statements of Acacia Research Corporation
include all adjustments of a normal recurring nature which, in the opinion of
management, are necessary for a fair presentation of our financial position as
of March 31, 2002 and results of operations and cash flows for the interim
periods presented. The results of operations for the three months ended March
31, 2002 are not necessarily indicative of the results to be expected for the
entire year.
Acacia Research Corporation ("Acacia" or "we") develops, licenses and
provides products for the media technology and life science sectors.
Acacia's media technologies business, collectively referred to as
"Acacia Media Technologies Group," owns intellectual property related to the
telecommunications field, including a television blanking system, also known as
the "V-chip," which it licenses to television manufacturers. In addition, Acacia
Media Technologies Group owns a worldwide portfolio of pioneering patents
relating to audio and video transmission and receiving systems, commonly known
as audio-on-demand and video-on-demand, used for distributing content via
various methods including computer networks, cable television systems and direct
broadcasting satellite systems. Acacia Media Technologies Group is responsible
for the development, licensing and protection of its intellectual property and
proprietary technologies. Our media technologies group continues to pursue both
licensing and strategic business alliances with leading companies in the rapidly
growing media technologies industry.
Acacia's life sciences business, collectively referred to as "Acacia
Life Sciences Group," is comprised of CombiMatrix Corporation ("CombiMatrix")
and Advanced Material Sciences, Inc. ("Advanced Material Sciences"). Our core
technology opportunity in the life sciences sector has been developed through
our majority-owned subsidiary, CombiMatrix. CombiMatrix is a life science
technology company with a proprietary system for rapid, cost competitive
creation of DNA and other compounds on a programmable semiconductor chip. This
proprietary technology has significant applications relating to genomic and
proteomic research. Our majority-owned subsidiary, Advanced Material Sciences,
holds the exclusive license for CombiMatrix's biological array processor
technology in certain fields of material sciences (see also Note 5).
We were incorporated on January 25, 1993 under the laws of the State of
California. In December 1999, we changed our state of incorporation from
California to Delaware. Acacia owns and operates emerging corporations with
intellectual property rights, certain of which are involved in developing new or
unproven technologies. There is no assurance that any or all such technologies
will be successful, and even if successful, that the development of such
technologies can be commercialized.
6
2. LOSS PER SHARE
Loss per share is presented on both a basic and diluted basis. A
reconciliation of the denominator of the basic loss per share computation to the
denominator of the diluted loss per share computation is as follows:
THREE MONTHS ENDED
-------------------------
MARCH 31, MARCH 31,
2002 2001
----------- -----------
Weighted Average Number of Common Shares
Outstanding Used in Computation of Basic EPS 19,610,040 18,985,864
Dilutive Effect of Outstanding Stock Options
and Warrants (a) -- --
----------- -----------
Weighted Average Number of Common and Potential
Common Shares Outstanding Used in Computation
of Diluted EPS 19,610,040 18,985,864
=========== ===========
------------------------------------------
(a) Potential common shares of 600,271 and 681,374 during the three months
ended March 31, 2002 and 2001, respectively, have been excluded from
the per share calculation because the effect of their inclusion would
be anti-dilutive.
3. RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations" ("SFAS No. 141"), and SFAS No. 142, "Goodwill and Other Intangible
Assets" ("SFAS No. 142"). SFAS No. 141 requires that the purchase method be used
for all business combinations initiated after June 30, 2001 and that certain
intangible assets acquired in a business combination be recognized apart from
goodwill. The adoption of SFAS No. 141 did not have a material effect on our
consolidated results of operations or financial position.
SFAS No. 142 requires goodwill to be tested for impairment under
certain circumstances, and written off when determined to be impaired, rather
than being amortized as previous standards required. SFAS No. 142 is effective
January 1, 2002. As a result of SFAS No. 142, we no longer amortize goodwill. In
lieu of amortization, we are required to perform an initial impairment review of
our goodwill in 2002 and an annual impairment review thereafter. The impact of
the non-amortization of goodwill for the three months ended March 31, 2002 and
2001 is as follows (in thousands):
THREE MONTHS ENDED
-----------------------------------
MARCH 31, 2002 MARCH 31, 2001
-------------- --------------
Reported net loss $ (6,427) $ (9,479)
Add back: goodwill amortization -- 243
-------------- --------------
Adjusted net loss $ (6,427) $ (9,236)
============== ==============
Loss per share (basic and diluted):
Reported net loss $ (0.33) $ (0.50)
Goodwill amortization -- 0.01
-------------- --------------
Adjusted net loss $ (0.33) $ (0.49)
============== ==============
We expect to complete our initial review of goodwill during the second
quarter of 2002. We currently do not expect to record an impairment charge upon
completion of the initial impairment review. However, there can be no assurance
that at the time the review is completed a material impairment charge will not
be recorded.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"), which addresses
financial accounting and reporting for the impairment of long-lived assets and
for long-lived assets to be disposed of. SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
7
Be Disposed Of." SFAS No. 144 also supersedes the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for segments of a
business to be disposed of. SFAS No. 144 also amends Accounting Research
Bulletin No. 51, "Consolidated Financial Statements," to eliminate the exception
to consolidation for a temporarily controlled subsidiary. SFAS No. 144 requires
long-lived assets to be tested for recoverability whenever events or changes in
circumstances indicate that its carrying amount may not be recoverable. In
conjunction with such tests, it may be necessary to review depreciation
estimates and methods as required by Accounting Principles Board ("APB") Opinion
No. 20, "Accounting Changes," or the amortization period as required by SFAS No.
142. The adoption of SFAS No. 144 did not have a material effect on our
consolidated results of operations or financial position.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections," ("SFAS No. 145") which is effective for transactions occurring
after May 15, 2002. SFAS No. 145 rescinds SFAS No. 4 and SFAS No. 64, which
addressed the accounting for gains and losses from extinguishment of debt. SFAS
No. 44 set forth industry-specific transitional guidance that did not apply to
us. SFAS No. 145 amends SFAS No. 13 to require that certain lease modifications
that have economic effects similar to sale-leaseback transactions be accounted
for in the same manner as sale-leaseback transactions. SFAS No. 145 also makes
technical corrections to certain existing pronouncements that are not
substantive in nature. We do not expect the adoption of SFAS No. 145 to have a
significant impact on our financial position or results of operations.
4. SEGMENT INFORMATION
Acacia has two reportable segments as follows:
ACACIA MEDIA TECHNOLOGIES GROUP - Acacia Media Technologies Group owns
intellectual property related to the telecommunications field, including a
television blanking system, also known as the "V-chip," which it licenses to
television manufacturers. In addition, our media technologies group owns a
worldwide portfolio of pioneering patents relating to audio and video
transmission and receiving systems, commonly known as audio-on-demand and
video-on-demand, used for distributing content via various methods including
computer networks, cable television systems and direct broadcasting satellite
systems.
ACACIA LIFE SCIENCES GROUP - Our majority-owned subsidiary,
CombiMatrix, is developing a proprietary biochip array processor system that
integrates semiconductor technology with new developments in biotechnology and
chemistry. Our majority-owned subsidiary, Advanced Material Sciences, holds the
exclusive license for CombiMatrix's biological array processor technology in
certain fields of material sciences (see also Note 5).
We evaluate segment performances based on revenue earned and cost
versus earnings potential of future completed products or services. Material
intercompany transactions and transfers have been eliminated in consolidation.
The accounting policies of the segments are the same as those described in our
Annual Report on Form 10-K. Corporate and other includes corporate costs,
certain assets and liabilities and other investment activities (including
certain intangibles recorded in connection with the acquisition of various
ownership interests in our subsidiaries), which are included in our consolidated
financial statements but are not allocated to the reportable segments.
We use the management approach, which designates the internal
organization that is used by management for making operating decisions and
assessing performance as the basis of our reportable segments. At December 31,
2001, our reporting segments were adjusted to include Soundview Technologies and
Acacia Media Technologies in our Acacia Media Technologies Group segment. In
addition, CombiMatrix and Advanced Material Sciences comprise our Acacia Life
Sciences Group segment. Segment information has been adjusted for all periods
presented.
8
The table below presents information about our reportable segments in
continuing operations for the three months ended March 31, 2002 and 2001:
ACACIA MEDIA ACACIA LIFE
TECHNOLOGIES SCIENCES CORPORATE
THREE MONTHS ENDED MARCH 31, 2002 GROUP GROUP AND OTHER TOTAL
- --------------------------------- ------------- ------------- ------------- -------------
Revenue $ -- $ 249,000 $ -- $ 249,000
Amortization of patents 20,000 -- 544,000 564,000
Other income -- -- 78,000 78,000
Interest income 8,000 250,000 148,000 406,000
Interest expense -- 60,000 3,000 63,000
Realized losses on investments -- -- 553,000 553,000
Unrealized losses on investments -- -- 322,000 322,000
Loss from continuing operations
before income taxes and
minority interests 373,000 5,652,000 2,906,000 8,931,000
Non-cash stock compensation charges -- 1,411,000 11,000 1,422,000
Segment assets 10,400,000 35,222,000 53,086,000 98,708,000
Investment in affiliate, at cost -- -- 3,000,000 3,000,000
Purchase of property and equipment -- 178,000 54,000 232,000
ACACIA MEDIA ACACIA LIFE
TECHNOLOGIES SCIENCES CORPORATE
THREE MONTHS ENDED MARCH 31, 2001 GROUP GROUP AND OTHER TOTAL
- --------------------------------- ------------- ------------- ------------- -------------
Revenue $ 2,390,000 $ 183,000 $ 50,000 $ 2,623,000
Amortization of patents and goodwill 5,000 -- 628,000 633,000
Other income -- -- 4,000 4,000
Interest income 4,000 733,000 458,000 1,195,000
Equity in losses of affiliate -- -- 55,000 55,000
(Income) loss from continuing
operations before income taxes
and minority interests (1,066,000) 12,997,000 2,726,000 14,657,000
Non-cash stock compensation charges -- 7,598,000 821,000 8,419,000
Segment assets 1,482,000 47,747,000 56,526,000 105,755,000
Investment in affiliate, at equity -- -- 291,000 291,000
Investment in affiliate, at cost -- -- 3,000,000 3,000,000
Purchase of property and equipment 4,000 1,476,000 37,000 1,517,000
Segment information excludes discontinued operations related to
Soundbreak.com as of and for the three months ended March 31, 2002 and 2001.
5. SUBSEQUENT EVENTS
On April 25, 2002, our majority-owned subsidiary, CombiMatrix,
purchased our interest in Advanced Material Sciences, a development stage
company that holds the exclusive license for CombiMatrix's biological array
processor technology in certain fields of material science. CombiMatrix issued
180,982 shares of its common stock in exchange for our 58% interest in Advanced
Material Sciences. As a result of the sale of our interest in Advanced Material
Sciences, CombiMatrix currently owns 87% of Advanced Material Sciences and the
remaining interests are owned by unaffiliated entities.
On May 7, 2002, we filed a Registration Statement on Form S-4 with the
Securities and Exchange Commission in connection with our plan to divide our
common stock into two new classes - new "CombiMatrix" stock, that would reflect
the performance of our subsidiary CombiMatrix, and new "Acacia Technologies"
stock, that would reflect the performance of Acacia's media technology
businesses. If the recapitalization plan is approved, Acacia Research
Corporation stockholders would receive shares of both of the new classes of
stock in exchange for the shares they now hold, and the new shares would be
separately traded NASDAQ listed public securities.
The Registration Statement also pertains to a proposal pursuant to
which we would acquire the minority stockholder interests in our majority-owned
subsidiary CombiMatrix. The proposed acquisition would be accomplished through a
merger in which the minority stockholders of CombiMatrix would receive shares of
our new "CombiMatrix" stock, in exchange for their existing shares of
CombiMatrix Corporation.
The proposed recapitalization and merger are subject to several
conditions, including, but not limited to, receipt of stockholder approval for
both companies, receipt of satisfactory tax opinions, approval for listing of
both of the new shares on NASDAQ and other customary conditions. Our
stockholders will receive a proxy describing the terms of the proposals prior
to being asked to vote upon and approve the recapitalization and merger at a
special meeting to be held to consider these matters.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT
You should read the following discussion and analysis in conjunction
with the consolidated financial statements and related notes thereto contained
elsewhere in this report. The information contained in this Quarterly Report on
Form 10-Q is not a complete description of our business or the risks associated
with an investment in our common stock. We urge you to carefully review and
consider the various disclosures made by us in this report and in our other
reports filed with the SEC, including our Annual Report on Form 10-K for the
year ended December 31, 2001 and our Registration Statement on Form S-4 filed
with the Securities and Exchange Commission on May 7, 2002, that discuss our
business in greater detail.
This report contains forward-looking statements within the meaning of
the "safe harbor" provisions of the Private Securities Litigation Reform Act of
1995. Reference is made in particular to the description of our plans and
objectives for future operations, assumptions underlying such plans and
objectives, and other forward-looking statements included in this report. Such
statements may be identified by the use of forward-looking terminology such as
"may," "will," "expect," "believe," "estimate," "anticipate," "intend,"
"continue," or similar terms, variations of such terms or the negative of such
terms. Such statements are based on management's current expectations and are
subject to a number of factors and uncertainties, which could cause actual
results to differ materially from those described in the forward-looking
statements. Such statements address future events and conditions concerning
product development, capital expenditures, earnings, litigation, regulatory
matters, markets for products and services, liquidity and capital resources and
accounting matters. Actual results in each case could differ materially from
those anticipated in such statements by reason of factors such as future
economic conditions, changes in consumer demand, legislative, regulatory and
competitive developments in markets in which we and our subsidiaries operate,
and other circumstances affecting anticipated revenues and costs. We expressly
disclaim any obligation or undertaking to release publicly any updates or
revisions to any forward-looking statements contained herein to reflect any
change in our expectations with regard thereto or any change in events,
conditions or circumstances on which any such statement is based. Additional
factors that could cause such results to differ materially from those described
in the forward-looking statements are set forth in connection with the
forward-looking statements.
OVERVIEW
As used in this Form 10-Q, "we," "us," "our," "Acacia" and "Acacia
Research" refer to Acacia Research Corporation and its subsidiary companies.
Acacia Research Corporation, a Delaware corporation, was originally
incorporated in California in January 1993 and reincorporated in Delaware in
December 1999.
The following discussion is based primarily on our unaudited
consolidated balance sheet as of March 31, 2002, and on our unaudited
consolidated statement of operations for the period from January 1, 2002 to
March 31, 2002. The discussion compares the activities for the three months
ended March 31, 2002 to the activities for the three months ended March 31,
2001. This information should be read in conjunction with the accompanying
unaudited consolidated financial statements and notes thereto.
Acacia Research Corporation develops, licenses and provides products
for the media technology and life science sectors. Acacia's media technologies
and life sciences businesses are referred to as "Acacia Media Technologies
Group" and "Acacia Life Sciences Group," respectively. Acacia licenses its
V-chip technology to television manufacturers and owns pioneering technology for
digital streaming and audio and video-on-demand. We will continue to pursue both
licensing and strategic business alliances with leading companies in the rapidly
growing media technologies industry. Acacia's core technology opportunity in the
life science sector has been developed through our majority-owned subsidiary,
CombiMatrix Corporation ("CombiMatrix"), which is developing a proprietary
system for rapid, cost competitive creation of DNA and other compounds on a
programmable semiconductor chip.
10
In February 2002, CombiMatrix was awarded a six month $100,000 Phase I
National Institutes of Health grant for the development of its protein biochip
technology. The title of the grant is "Self-Assembling Protein Microchips." This
grant is in addition to a three-year Phase I SBIR grant and a two-year Phase II
SBIR grant from the U.S. Department of Defense for the development of
multiplexed chip based assays for chemical and biological warfare agent
detection.
On March 20, 2002, we announced that our board of directors approved a
plan to divide our common stock into two new classes of common stock: new
"CombiMatrix" common stock, that would reflect the performance of our
CombiMatrix subsidiary and all corporate assets, liabilities and related
transactions of Acacia Research Corporation attributed to the CombiMatrix
business, and new "Acacia Technologies" common stock, that would reflect the
performance of our media technology businesses, including Soundview
Technologies, Acacia Media Technologies and all corporate assets, liabilities,
and related transactions of Acacia Research Corporation attributed to the media
technology businesses. The plan is subject to several conditions including
shareholder approval. If the recapitalization proposal is approved and the other
conditions are satisfied, our stockholders would receive shares of both of the
new classes of stock in exchange for existing Acacia Research Corporation
shares. The new share classes are intended to be separately listed on the NASDAQ
National Market System under the symbols "CBMX" and "ACTG," respectively.
We also announced that our board of directors and CombiMatrix's board
of directors have approved an agreement for us to acquire the minority
stockholder interests in CombiMatrix. The proposed acquisition would be
accomplished through a merger in which the minority stockholders of CombiMatrix
would receive shares of the new Acacia Research Corporation "CombiMatrix" common
stock, in exchange for their existing shares. The proposed transaction will be
submitted to our stockholders and the stockholders of CombiMatrix for approval.
On May 7, 2002, we filed a registration statement with the Securities
and Exchange Commission related to the proposed recapitalization and merger
transactions discussed above.
In April 2002, CombiMatrix's Japanese subsidiary entered into a
technology access and purchase agreement in Japan with the Computational Biology
Research Center ("CBRC"), a division of the Japanese National Institute of
Advanced Industrial Science and Technology. The CBRC has purchased and installed
a CombiMatrix gene chip synthesizer and entered into a multi-year agreement to
purchase blank chips that will be used to synthesize custom gene chips. The
agreement also gives CBRC access to the CombiMatrix set of informatics tools to
help in their efforts to expand biotechnology related businesses in Japan.
RESULTS OF OPERATIONS
THREE MONTHS ENDED
------------------------------
MARCH 31, 2002 MARCH 31, 2001
-------------- --------------
Net revenues $ 249,000 $ 2,623,000
Research and development expenses (3,089,000) (5,549,000)
Marketing, general and administrative expenses (5,073,000) (12,242,000)
Amortization of patents and goodwill (564,000) (633,000)
Other (expense) income, net (454,000) 1,144,000
Benefit (provision) for income taxes 69,000 (13,000)
Minority interests 2,435,000 5,191,000
-------------- --------------
Net loss $ (6,427,000) $ (9,479,000)
============== ==============
11
COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 2002 TO THE THREE MONTHS ENDED
MARCH 31, 2001
LICENSE FEE INCOME. During the three months ended March 31, 2002,
license fee income was $0 as compared to $2.4 million in license fee income
during the three months ended March 31, 2001. The license fee income for the
three months ended March 31, 2001 resulted primarily from the settlement of
patent infringement litigation brought by Soundview Technologies and includes
license fee amounts received from television manufacturers with whom we executed
separate settlement and/or license agreements during the first quarter of 2001
and December 2000. Pursuant to the terms of the respective settlement and
license agreements with each of the television manufacturers, Soundview
Technologies granted to such manufacturers, non-exclusive licenses for its U.S.
Patent No. 4,554,584. Soundview Technologies did not execute any license or
settlement agreements during the first quarter of 2002. The Acacia Media
Technologies Group continues to pursue both licensing and strategic business
alliances with other television manufacturers and leading companies in the media
technologies industry.
Acacia Media Technologies Group's patent on the V-chip technology will
expire in July 2003, although the Acacia Media Technologies Group may still
collect revenues from the sale of televisions in the United States before that
date. The Acacia Media Technologies Group is beginning to license its digital
media transmission technology and is developing other technologies and products.
The eventual licensing and sale of these technologies is intended to replace the
revenue generated by licensing the V-chip technology. If we do not succeed in
developing such technologies or are unable to commercially license our existing
and future technologies, our financial condition may be adversely impacted.
GRANT REVENUE. During the three months ended March 31, 2002 and 2001,
grant revenue, all of which related to CombiMatrix, was $0.2 million. Grant
revenue during the first quarter of 2002 includes $91,000 in grant revenue from
CombiMatrix's continuing performance under its Phase II Small Business
Innovative Research Department of Defense contract, $141,000 in one-time
contract research and development revenues and $17,000 in revenue related to
performance under its Phase I National Institutes of Health grant. Grant revenue
for the three months ended March 31, 2001 related to CombiMatrix's continued
performance under the Phase II SBIR Department of Defense contract.
CombiMatrix was awarded the two-year $0.7 million SBIR Phase II
contract in January 2000 and we expect to recognize an additional $91,000 in
government grant revenue per quarter over the next two quarters in 2002. In
February 2002, CombiMatrix was awarded a six month $100,000 Phase I National
Institutes of Health grant for the development of its protein biochip
technology, of which $17,000 has been recognized as revenue in the first quarter
of 2002, and we expect to recognize the remaining portion of the grant over the
next two quarters in 2002.
RESEARCH AND DEVELOPMENT EXPENSES. During the three months ended March
31, 2002, research and development expense was $3.1 million, as compared to $5.5
million in the three months ended March 31, 2001. Research and development
expenses for both periods relate to CombiMatrix. The decrease in research and
development expense for 2002 as compared to the same period in 2001 was
primarily due to a decrease in non-cash stock compensation amortization
expenses, a reduction in the number of research and development personnel from
levels established in the first quarter of 2001, and the recording of
approximately $0.3 million in inventory write-offs in the three months ended
March 31, 2001.
During the three months ended March 31, 2002, research and development
expense included non-cash stock compensation charges totaling $0.4 million, as
compared to $2.4 million during the three months ended March 31, 2001. The
decrease in non-cash stock compensation charges included in research and
development expenses is primarily due to the forfeiture and cancellation of
certain options in the third and fourth quarters of 2001 and a reduction in
scheduled stock compensation amortization related to the accelerated method of
amortization utilized by us pursuant to FASB Interpretation No. 28, "Accounting
for Stock Appreciation Rights and Other Variable Stock Option or Award Plans"
("FIN No. 28"), which results in higher amounts of amortization in the early
vesting periods, and lower amounts of amortization in subsequent vesting
periods.
CombiMatrix's research and development activities during the third and
fourth quarters of 2001 and the first quarter of 2002, were focused on efforts
to further develop and enhance its microarray technology including increased
costs related to significant engineering efforts undertaken to productize its
technology. The majority of these efforts were driven by CombiMatrix's
obligations under the license and supply agreement with Roche Diagnostics GmbH,
executed in July 2001. These projects include development of production
microarray synthesis techniques, as well as higher density microarrays.
12
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES. We incurred marketing,
general and administrative expenses of $5.1 million ($2.9 million related to
CombiMatrix) during the three months ended March 31, 2002, as compared to $12.2
million ($8.3 million related to CombiMatrix) in the three months ended March
31, 2001. The decrease in marketing, general and administrative expenses for
2002 as compared to the same period in 2001 was primarily due to a decrease in
non-cash stock compensation expense. Marketing, general and administrative
expenses included $1.0 million, (primarily related to CombiMatrix) and $6.0
million ($5.2 million related to CombiMatrix) of non-cash stock compensation
charges for the three months ended March 31, 2002 and 2001, respectively. The
decrease in non-cash stock compensation charges included in marketing, general
and administrative expenses is primarily due to the forfeiture and cancellation
of certain options in the third and fourth quarters of 2001 and a reduction in
scheduled stock compensation amortization related to the accelerated method of
amortization utilized by us pursuant to FIN No. 28. CombiMatrix marketing,
general and administrative non-cash stock compensation amortization expense for
the three months ended March 31, 2002 are net of $0.7 million in stock
compensation expense reversal related to the forfeiture of certain unvested
stock options in the first quarter of 2002.
The decrease in marketing, general and administrative expenses for 2002
as compared to the same period in 2001 was also due to: a decrease in salaries
and benefits costs related to a decrease in headcount at Acacia corporate,
resulting from the closure and/or write-off of several of our early stage
investments at the end of 2000; a decrease in CombiMatrix's sales and marketing
head count and related expenses, recruitment and relocation expenses,
administrative head count and legal costs; and a decrease in legal fees incurred
related to Soundview Technologies' patent licensing and related infringement
settlements. Legal fees related to the license fee agreements executed with
television manufacturers are generally incurred on a contingency basis, based on
license fee payments received.
AMORTIZATION OF PATENTS AND GOODWILL. During the three months ended
March 31, 2002 and 2001, amortization expense relating to patents and goodwill
was $0.6 million. Amortization expense relating to patents and goodwill for the
three months ended March 31, 2002 excludes $0.2 million of amortization expense
pursuant to SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS No.
142"), which requires goodwill to be tested for impairment under certain
circumstances, and written off when determined to be impaired, rather than being
amortized as previous standards required. The reduction in goodwill amortization
in the three months ended March 31, 2002 was offset by an increase in patent
amortization related to the increase in our ownership interest in Acacia Media
Technologies Corporation (formerly, "Greenwich Information Technologies," a
limited liability company) from 33% to 100% through the purchase of the
ownership interest of Acacia Media Technologies' other member in November 2001.
As a result of the purchase, we will be recording additional patent amortization
of $0.2 million on a quarterly basis over the related patents economic useful
lives (approximately 10 years) related to the intangibles identified in
connection with the application of the purchase method of accounting.
OTHER (EXPENSE) INCOME, NET. During the three months ended March 31,
2002, other expense, net (primarily comprised of interest income, realized and
unrealized gains and losses on trading securities, equity in losses of affiliate
and other) was $0.5 million as compared to $1.1 million in net other income in
2001.
INTEREST INCOME. During the three months ended March 31, 2002,
interest income was $0.4 million as compared to $1.2 million in the three months
ended March 31, 2001. The decrease in interest income during 2002 was primarily
due to the impact of a decrease in interest rates on our short-term investments
related to sharp interest rate cuts by the Federal Open Market Committee and
other external economic factors negatively impacting rates of return on
short-term investments occurring during the third and fourth quarters of 2001.
REALIZED LOSSES ON SHORT-TERM INVESTMENTS. During the three
months ended March 31, 2002, net realized losses on short-term investments was
$0.6 million as compared to no realized losses on short-term investments in the
three months ended March 31, 2001. The increase in realized losses on short-term
investments during 2001 was due to realized losses recorded on our short-term
investments classified as trading securities during the three months ended March
31, 2002. We did not invest in trading securities during the three months ended
March 31, 2001.
UNREALIZED LOSSES ON SHORT-TERM INVESTMENTS. During the three
months ended March 31, 2002, net unrealized loses were $0.3 million as compared
to no unrealized losses in the same period in 2001. The increase is due to the
classification of our investments in equity securities as trading securities
during 2002 pursuant to SFAS No. 115. In the first quarter of 2001, all of our
short-term investments were classified as available-for-sale and unrealized
gains and losses were recorded as a separate component of comprehensive income
(loss) in stockholders' equity until realized.
EQUITY IN LOSSES OF AFFILIATE. During the three months ended
March 31, 2002, equity in losses of affiliate was $0 as compared to $55,000 in
the three months ended March 31, 2001. Equity in losses of affiliate during the
three months ended March 31, 2001 was comprised of a loss of $55,000 for our
13
equity investment in Acacia Media Technologies. As of December 31, 2001, we no
longer account for any of our investments under the equity method as we directly
or indirectly own more that 50% of the outstanding voting securities of our
subsidiaries and, as a result, account for these investments under the
consolidation method of accounting.
MINORITY INTERESTS. Minority interests in the losses of consolidated
subsidiaries decreased to $2.4 million during the three months ended March 31,
2002 as compared to $5.2 million in the same period in 2001. Minority interests
in the losses of consolidated subsidiaries for the three months ended March 31,
2002 were primarily comprised of minority interests in the net losses of
CombiMatrix. Minority interests in the losses of consolidated subsidiaries for
the three months ended March 31, 2001 were comprised primarily of minority
interests in the net losses of CombiMatrix totaling $5.5 million. The decrease
is due to a reduction in CombiMatrix's net loss for the three months ended March
31, 2002 as compared to the same period in 2001.
NON-CASH STOCK COMPENSATION CHARGES
During the year ended December 31, 2000, our majority-owned subsidiary,
CombiMatrix, recorded deferred non-cash stock compensation charges aggregating
approximately $53.8 million in connection with the granting of stock options.
Pursuant to Acacia's policy, the stock options were granted at exercise prices
equal to the fair value of the underlying CombiMatrix stock on the date of grant
as determined by Acacia. However, such exercise prices were subsequently
determined to be below fair value due to a substantial step-up in the fair value
of CombiMatrix pursuant to a valuation provided by an investment banker in
contemplation of a potential CombiMatrix initial public offering in 2000. In
connection with the proposed CombiMatrix initial public offering and pursuant to
SEC rules and guidelines, we were required to reassess the value of stock
options issued during the one-year period preceding the potential initial public
offering and utilize the stepped-up fair value provided by the investment banker
for purposes of determining whether such stock option issuances were
compensatory, resulting in the calculation of the $53.8 million in deferred
non-cash stock compensation charges in 2000. Deferred non-cash stock
compensation charges are being amortized by CombiMatrix over the respective
option grant vesting periods, which range from one to four years. At March 31,
2002, remaining non-cash deferred stock compensation, net of past amortization,
and the impact of previous forfeitures and cancellations totaled $9.8 million.
The remaining deferred non-cash stock compensation balance as of March
31, 2002 related to stock options issued by CombiMatrix represents the future
non-cash deferred stock compensation expense that will be reflected in our
consolidated statements of operations and comprehensive loss as non-cash stock
compensation charges over the next eleven quarters from April 1, 2002 through
December 31, 2004 as follows:
FIRST SECOND THIRD FOURTH
YEAR QUARTER QUARTER QUARTER QUARTER TOTAL
---- --------- ----------- ----------- ----------- -----------
2002 $ -- $2,142,000 $2,003,000 $1,195,000 $5,340,000
2003 958,000 962,000 924,000 494,000 3,338,000
2004 352,000 347,000 317,000 73,000 1,089,000
-----------
$9,767,000
===========
Certain CombiMatrix unvested stock options were forfeited in 2002.
Pursuant to the provisions of APB No. 25 and related interpretations, the
reversal of previously recognized non-cash stock compensation expense on
forfeited unvested stock options, in the amount of $724,000 during the three
months ended March 31, 2002, has been reflected in the respective consolidated
statements of operations and comprehensive loss as a reduction in non-cash stock
compensation expense.
Non-cash deferred stock compensation expense scheduled to be recognized
in future periods reflected above may be impacted by certain subsequent stock
option transactions including modification of terms, cancellations, forfeitures
and other activity.
INFLATION
Inflation has not had a significant impact on Acacia Research
Corporation or our subsidiaries.
14
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2002, we had cash and short-term investments of $75.8
million on a consolidated basis, including discontinued operations, of which
Acacia Research Corporation, on a stand-alone basis, had $40.7 million. Working
capital was $65.4 million on a consolidated basis at March 31, 2002. There were
no significant financing activities for the three months ended March 31, 2002.
In February 2002, in conjunction with the relocation of our corporate
headquarters, we entered into a non-cancelable lease agreement to lease
approximately 7,143 square feet of office space in Newport Beach, California
through February 2007. Minimum annual rental commitments under this operating
lease are $255,000 in 2002; $286,000 in 2003; $295,000 in 2004; $303,000 in
2005; $312,000 in 2006; and $39,000 in 2007.
We have no significant commitments for capital expenditures in 2002.
Our minimum rental commitments, including CombiMatrix, on operating leases
related to continuing operations total $13.4 million through February 2007. We
have no committed lines of credit or other significant committed funding. We
anticipate that existing working capital reserves will provide sufficient funds
for our operating expenses for at least the next twelve months in the absence of
making any major new investments. We intend to seek additional financing to fund
new or existing businesses.
There can be no assurances that we will not encounter unforeseen
difficulties that may deplete our capital resources more rapidly than
anticipated. Any efforts to seek additional funding could be made through
equity, debt or other external financing and there can be no assurance that
additional funding will be available on favorable terms, if at all. Such
financing transactions may be dilutive to existing investors. If we fail to
obtain additional funding when needed, we may not be able to execute our
business plans and our business may suffer.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 141, "Business Combinations"
("SFAS No. 141"), and SFAS No. 142, "Goodwill and Other Intangible Assets"
("SFAS No. 142"). SFAS No. 141 requires that the purchase method be used for all
business combinations initiated after June 30, 2001 and that certain intangible
assets acquired in a business combination be recognized apart from goodwill. The
adoption of SFAS No. 141 did not have a material effect on our consolidated
results of operations or financial position.
SFAS No. 142 requires goodwill to be tested for impairment under
certain circumstances, and written off when determined to be impaired, rather
than being amortized as previous standards required. SFAS No. 142 is effective
January 1, 2002. As a result of SFAS No. 142, we will no longer amortize
goodwill. In lieu of amortization, we are required to perform an initial
impairment review of our goodwill in 2002 and an annual impairment review
thereafter. The impact of the non-amortization of goodwill for the three months
ended March 31, 2002 and 2001 is as follows (in thousands):
THREE MONTHS ENDED
-----------------------------------
MARCH 31, 2002 MARCH 31, 2001
-------------- --------------
Reported net loss $ (6,427) $ (9,479)
Add back: goodwill amortization -- 243
-------------- --------------
Adjusted net loss $ (6,427) $ (9,236)
============== ==============
Loss per share (basic and diluted):
Reported net loss $ (0.33) $ (0.50)
Goodwill amortization -- 0.01
-------------- --------------
Adjusted net loss $ (0.33) $ (0.49)
============== ==============
We expect to complete our initial review of goodwill during the second
quarter of 2002. We currently do not expect to record an impairment charge upon
completion of the initial impairment review. However, there can be no assurance
that at the time the review is completed a material impairment charge will not
be recorded.
15
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"), which addresses
financial accounting and reporting for the impairment of long-lived assets and
for long-lived assets to be disposed of. SFAS No. 144 supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of." SFAS No. 144 also supersedes the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions," for segments of a
business to be disposed of. SFAS No. 144 also amends ARB No. 51, "Consolidated
Financial Statements," to eliminate the exception to consolidation for a
temporarily controlled subsidiary. SFAS No. 144 requires long-lived assets to be
tested for recoverability whenever events or changes in circumstances indicate
that their carrying amounts may not be recoverable. In conjunction with such
tests, it may be necessary to review depreciation estimates and methods as
required by APB Opinion No. 20, "Accounting Changes," or the amortization period
as required by SFAS No. 142. The adoption of SFAS No. 144 did not have a
material effect on our consolidated results of operations or financial position.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections," ("SFAS No. 145") which is effective for transactions occurring
after May 15, 2002. SFAS No. 145 rescinds SFAS No. 4 and SFAS No. 64, which
addressed the accounting for gains and losses from extinguishment of debt. SFAS
No. 44 set forth industry-specific transitional guidance that did not apply to
us. SFAS No. 145 amends SFAS No. 13 to require that certain lease modifications
that have economic effects similar to sale-leaseback transactions be accounted
for in the same manner as sale-leaseback transactions. SFAS No. 145 also makes
technical corrections to certain existing pronouncements that are not
substantive in nature. We do not expect the adoption of SFAS No. 145 to have a
significant impact on our financial position or results of operations.
RISK FACTORS
Set forth below and elsewhere in this Quarterly Report and in the other
documents we file with the Securities and Exchange Commission are risks and
uncertainties that could cause our actual results to differ materially from the
results contemplated by the forward-looking statements contained in this
Quarterly Report.
BECAUSE OUR BUSINESS OPERATIONS ARE SUBJECT TO MANY INHERENT AND UNCONTROLLABLE
RISKS, WE MAY NOT SUCCEED.
We have significant economic interests in our subsidiary companies. Our
business operations are subject to numerous risks, challenges, expenses and
uncertainties inherent in the establishment of new business enterprises. Many of
these risks and challenges are subject to outside influences over which we have
no control, including:
o our subsidiary companies' products and services face uncertain market
acceptance;
o technological advances may make our subsidiary companies' products and
services obsolete or less competitive;
o competition;
o increases in operating costs, including costs for supplies, personnel
and equipment;
o the availability and cost of capital;
o general economic conditions; and
o governmental regulation that excessively restricts our subsidiary
companies' businesses.
We cannot assure you that our subsidiary companies will be able to
market any product or service on a commercial scale, that our subsidiary
companies will ever achieve or maintain profitable operations or that they, or
we, will be able to remain in business.
BECAUSE OF THE RISKS INHERENT IN INVESTING IN EMERGING COMPANIES, INCLUDING THE
LACK OF OPERATING HISTORIES AND UNPROVEN TECHNOLOGIES AND PRODUCTS, WE MAY INCUR
SUBSTANTIAL LOSSES.
Investing in emerging companies carries a high degree of risk,
including difficulties in selecting ventures with viable business plans and
acceptable likelihoods of success and future profitability. There is a high
probability of loss associated with investments in emerging companies. We must
also dedicate significant amounts of financial resources, management attention
and personnel to identify and develop each new business opportunity without any
assurance that these expenditures will prove fruitful.
16
We generally invest in start-up ventures with no operating histories,
unproven technologies and products and, in some cases, without experienced
management. We may not be successful in developing these start-up ventures.
Because of the uncertainties and risks associated with such start-up ventures,
we could experience substantial losses associated with failed ventures.
In addition, the market for venture capital in the United States is
increasingly competitive. As a result, we may lose business opportunities and
may need to accept financing and equity investments on less favorable terms.
Also, we may be unable to participate in additional ventures because we lack the
financial resources to provide them with full funding. We, as well as our
subsidiary companies, may need to depend on external financing to provide
sufficient capital.
WE HAVE A HISTORY OF LOSSES AND EXPECT TO INCUR ADDITIONAL LOSSES IN THE FUTURE.
We have sustained substantial losses since our inception resulting in
an accumulated deficit of $106.4 million (including a reclassification of
accumulated deficit in the amount of $21.7 million to permanent capital
representing the fair value of the ten percent (10%) stock dividend paid in
2001) on a consolidated basis, including operating losses of $43.2 million in
2001 and $8.5 million in the first quarter of 2002. We may never become
profitable or if we do, we may never be able to sustain profitability. We expect
to incur significant research and development, marketing, general and
administrative expenses. As a result, we expect to incur significant losses for
the foreseeable future.
TECHNOLOGY COMPANY STOCK PRICES ARE ESPECIALLY VOLATILE, AND THIS VOLATILITY MAY
DEPRESS OUR STOCK PRICE.
Our common stock, which is quoted on the NASDAQ National Market System,
has experienced significant price and volume fluctuations. Additionally, the
stock market generally, and the stock prices of technology companies,
specifically, have been very volatile. The market price of our common stock may
fluctuate significantly in response to a number of factors beyond our control,
including:
o changes in financial estimates by securities analysts;
o our failure to meet the expectations of securities analysts;
o announcements by us, our customers, our subsidiaries or our
competitors;
o changes in market valuations of similar companies;
o changes in accounting rules and regulations; and
o future sales of our common stock by our existing stockholders.
BECAUSE OUR OPERATING RESULTS HAVE FLUCTUATED SIGNIFICANTLY AND MAY CONTINUE TO
DO SO IN THE FUTURE, OUR STOCK PRICE MAY BE VERY VOLATILE.
Our operating results may vary significantly from quarter to quarter
due to a variety of factors, including:
o the operating results of our current and future subsidiary companies;
o the nature and timing of our investments in new subsidiary companies;
o our decisions to acquire or divest interests in our current and future
subsidiaries, which may create changes in losses or income and
amortization of goodwill;
o changes in our methods of accounting for our current and future
subsidiaries, which may cause us to recognize gains or losses under
applicable accounting rules;
o the timing of the sales of equity interests in our current and future
subsidiary companies;
o our ability to effectively manage our growth and the growth of our
subsidiary companies;
o general economic conditions; and
o the cost of future acquisitions, which may increase due to intense
competition from other potential acquirers of technology-related
companies or ideas.
We have incurred and expect to continue to incur significant expenses
in pursuing and developing new business ventures. To date, we have lacked a
consistent source of recurring revenue. Each of the factors we have described
may cause our stock to be more volatile than the stock of other companies.
BECAUSE OUR SUBSIDIARY COMPANIES MAY NOT GENERATE ANY REVENUES, AND OPERATING
RESULTS FROM OUR SUBSIDIARY COMPANIES MAY FLUCTUATE SIGNIFICANTLY, OUR OWN
OPERATING RESULTS MAY BE NEGATIVELY AFFECTED.
Our operating results may be materially impacted by the operating
results of our subsidiary companies. We cannot assure that these companies will
be able to meet their anticipated working capital needs to develop their
17
products and services. If they fail to properly develop these products and
services, they will be unable to generate meaningful product sales. We
anticipate that our operating results are likely to vary significantly as a
result of a number of factors, including:
o the timing of new product introductions by each subsidiary company;
o the stage of development of the business of each subsidiary company;
o the technical feasibility of each subsidiary company's technologies and
techniques;
o the novelty of the technology owned by our subsidiary companies;
o the accuracy, effectiveness and reliability of products developed by
our subsidiary companies;
o the level of product acceptance;
o the strength of each subsidiary company's intellectual property rights;
o the ability of each subsidiary company to avoid infringing the
intellectual property rights of others;
o each subsidiary company's ability to exploit and commercialize its
technology;
o the volume and timing of orders received and product line maturation;
o the impact of price competition; and
o each subsidiary company's ability to access distribution channels.
Many of these factors are beyond our subsidiary companies' control. We
cannot provide any assurance that any subsidiary company will experience growth
in the future or be profitable on an operating basis in any future period.
A LACK OF MARKET ACCEPTANCE OF OUR SUBSIDIARY COMPANIES' PRODUCTS WILL RESULT IN
OPERATING LOSSES.
Each of our subsidiary companies is developing new technologies and
products, as further detailed below. To the extent any of these technologies and
products are not accepted by their respective markets, we will incur operating
losses.
COMBIMATRIX. CombiMatrix is developing a proprietary biochip microarray
processor system that integrates semiconductor technology with new developments
in biotechnology and chemistry. Although CombiMatrix has been awarded three
research grants sponsored by different U.S. governmental agencies, CombiMatrix
is a developmental-stage company without any significant current revenues. Its
current activities relate almost exclusively to research and development.
CombiMatrix must conduct additional testing before any of its products will be
ready for sale. Because the technologies critical to the success of this
industry are in their infancy, we cannot assure you that CombiMatrix will be
able to successfully implement its technologies. If its technologies are
successful, CombiMatrix intends to pursue collaborations with pharmaceutical
companies for activities such as screening potential drug compounds. We cannot
assure you that CombiMatrix, even if successful in developing its technologies,
would be able to successfully implement collaborative efforts with
pharmaceutical companies and create commercially successful products. Even if
CombiMatrix develops commercially viable products, it has no experience
manufacturing, marketing, pricing or selling products in the volumes that would
be required for commercial success. This inexperience could hinder CombiMatrix's
ability to profit from any viable products it may develop.
SOUNDVIEW TECHNOLOGIES. Soundview Technologies was formed to
commercialize patent rights of a method of video and audio blanking technology,
also known as V-chip technology, that screens objectionable television
programming and blocks it from the viewer. Although Soundview Technologies has
licensed its technology to certain television manufacturers, we cannot assure
you that it will continue to be profitable.
ACACIA MEDIA TECHNOLOGIES (FORMERLY KNOWN AS GREENWICH INFORMATION
TECHNOLOGIES LLC). Acacia Media Technologies owns a worldwide portfolio of
pioneering patents relating to audio and video transmission and receiving
systems, commonly known as audio-on-demand and video-on-demand, used for
distributing content via various methods including computer networks, cable
television systems and direct broadcasting satellite systems The market for
information-on-demand systems has only recently begun to develop and is rapidly
evolving. Demand and market acceptance for information-on-demand systems are
subject to substantial uncertainty and risk. We cannot predict whether, or how
fast, this market will grow or how long it can be sustained. To date, Acacia
Media Technologies has yet to license any of its technology. It is uncertain if
and to what extent Acacia Media Technologies will be able to profitably market
and license its rights to the information-on-demand technology.
THE EXPANSION OF COMBIMATRIX'S PRODUCT LINES MAY SUBJECT IT TO REGULATION BY THE
FDA AND FOREIGN REGULATORY AUTHORITIES, WHICH COULD PREVENT OR DELAY THE
INTRODUCTION OF NEW PRODUCTS.
If CombiMatrix manufactures, markets or sells any products for any
regulated clinical or diagnostic applications, those products will be subject to
extensive governmental regulation as medical devices in by the FDA and in other
18
countries by corresponding foreign regulatory authorities. The process of
obtaining and maintaining required regulatory clearances and approvals is
lengthy, expensive and uncertain. Products that CombiMatrix manufactures,
markets or sells for research purposes only are not subject to governmental
regulations as medical devices or as analyte specific reagents to aid in disease
diagnosis. We believe that CombiMatrix's success will depend upon commercial
sales of improved versions of products, certain of which cannot be marketed in
the United States and other regulated markets unless and until CombiMatrix
obtains clearance or approval from the FDA and its foreign counterparts, as the
case may be. There can be no assurance that these approvals will be received on
a timely basis, or at all, and delays or failures in receiving these approvals
may limit our ability to benefit from new CombiMatrix products.
ETHICAL, SOCIAL, POLITICAL AND LEGAL ISSUES CONCERNING GENOMIC RESEARCH AND
TESTING MAY RESULT IN REGULATIONS RESTRICTING THE USE OF COMBIMATRIX'S
TECHNOLOGY OR REDUCE DEMAND FOR ITS PRODUCTS.
In the case that CombiMatrix or its customers manufacture, market or
sell a regulated diagnostic product, ethical, social and legal concerns about
genomic testing and genomic research could result in regulations restricting
CombiMatrix's or its customers' activities. For example, the potential
availability of testing for genetic predispositions has raised issues regarding
the use and confidentiality of information obtained from this testing. Some
states in the United States have enacted legislation restricting the use of
information derived from genomic testing, and the United States Congress and
some foreign governments are considering similar legislation. Restrictions on
CombiMatrix or its customers could result in a reduction of sales, if any, and
harm our financial results.
AS COMBIMATRIX'S OPERATIONS EXPAND, ITS COSTS TO COMPLY WITH ENVIRONMENTAL LAWS
AND REGULATIONS WILL INCREASE; FAILURE TO COMPLY WITH THESE LAWS AND REGULATIONS
COULD EXPOSE COMBIMATRIX TO SUBSTANTIAL LIABILITIES AND HARM OUR FINANCIAL
RESULTS.
CombiMatrix's operations involve the use, transportation, storage and
disposal of hazardous substances, and as a result, it is subject to
environmental and health and safety laws and regulations. As CombiMatrix expands
its operations, its use of hazardous substances will increase and lead to
additional and more stringent requirements. The cost to comply with these and
any future environmental and health and safety regulations could be substantial.
In addition, CombiMatrix's failure to comply with laws and regulations, and any
releases of hazardous substances by it into the environment, or at disposal
sites used by it, could expose CombiMatrix to substantial liability in the form
of fines, penalties, remediation costs and other damages, or could lead to a
curtailment or shut down of CombiMatrix's operations. These types of events, if
they occur, would adversely impact our financial results.
COMBIMATRIX MAY BE EXPOSED TO LIABILITY DUE TO PRODUCT DEFECTS.
If CombiMatrix commences testing, manufacturing and selling of
regulated diagnostic products, it will be exposed to potential product liability
claims inherent in such activities. When desirable, CombiMatrix intends to
acquire additional insurance for clinical liability risks. CombiMatrix may not
be able to obtain such insurance or general product liability insurance on
acceptable terms or at reasonable costs. In addition, such insurance may not
provide sufficient amounts of coverage for all potential liabilities. A product
liability claim or recall could materially and adversely affect CombiMatrix's
business, financial condition and results of operations.
BECAUSE EACH SUBSIDIARY COMPANY'S SUCCESS GREATLY DEPENDS ON ITS ABILITY TO
DEVELOP AND MARKET NEW PRODUCTS AND SERVICES AND TO RESPOND TO THE RAPID CHANGES
IN TECHNOLOGY AND DISTRIBUTION CHANNELS, WE CANNOT ASSURE YOU THAT OUR
SUBSIDIARY COMPANIES WILL BE SUCCESSFUL IN THE FUTURE.
The markets for each subsidiary company's products are marked by
extensive competition, rapidly changing technology, frequent product and service
improvements and evolving industry standards. We cannot assure you that the
existing or future products and services of our subsidiary companies will be
successful or profitable. We also cannot assure you that competitors' products,
services or technologies will not render our subsidiary companies' products and
services non-competitive or obsolete.
Our success will depend on our subsidiary companies' ability to adapt
to this rapidly evolving marketplace and to develop and market new products and
services or enhance existing ones to meet changing customer demands. Our
subsidiary companies may be unable to adequately adapt products and services or
acquire new products and services that can compete successfully. In addition,
our subsidiary companies may be unable to establish and maintain distribution
channels.
19
IF WE, OR OUR SUBSIDIARIES, ENCOUNTER UNFORESEEN DIFFICULTIES AND CANNOT OBTAIN
ADDITIONAL FUNDING ON FAVORABLE TERMS, OUR BUSINESS MAY SUFFER.
As of March 31, 2002, we had cash and short-term investments of $75.8
million on our consolidated financial statements. However, portions of these
funds were held by certain of our consolidated subsidiaries and thus are
restricted to their individual use.
To date, our subsidiary companies have relied primarily upon selling
equity securities, including sales to and loans from us, to generate the funds
needed to finance implementing their plans of operations. Our subsidiary
companies may be required to obtain additional financing through bank
borrowings, debt or equity financings or otherwise, which would require us to
make additional investments or face a dilution of our equity interests.
We cannot assure that we will not encounter unforeseen difficulties
that may deplete our capital resources more rapidly than anticipated. Any
efforts to seek additional funds could be made through equity, debt or other
external financings. However, we cannot assure that additional funding will be
available on favorable terms, if at all. If we fail to obtain additional funding
when needed for our subsidiary companies and ourselves, we may not be able to
execute our business plans and our business may suffer.
OUR BUSINESS MAY BE HARMED IF MARKET AND OTHER CONDITIONS ADVERSELY AFFECT OUR
ABILITY TO DISPOSE OF CERTAIN ASSETS AT FAVORABLE PRICES.
An element of our business plan involves disposing of, in public
offerings or private transactions, our subsidiary companies and future partner
companies, or portions of assets thereof, to the extent such assets are no
longer consistent with our business plan. If we sell any such subsidiary
companies or assets, the price we receive will depend upon market and other
conditions. Therefore, we may not be able to sell at favorable prices. Market
and other conditions beyond our control affect:
o our ability to effect these sales;
o the timing of these sales; and
o the amount of proceeds from these sales.
In some instances, we may not be able to sell some or any of these
assets due to poor market and other conditions. As a result, we may be adversely
affected because we will be unable to dispose of assets or may receive a lesser
amount for our assets than we believe is favorable.
FAILURE TO EFFECTIVELY MANAGE OUR GROWTH COULD PLACE STRAINS ON OUR MANAGERIAL,
OPERATIONAL AND FINANCIAL RESOURCES AND COULD ADVERSELY AFFECT OUR BUSINESS AND
OPERATING RESULTS.
Our growth has placed, and is expected to continue to place, a
significant strain on our managerial, operational and financial resources.
Further, as the number of our subsidiary companies and their respective
businesses grow, we will be required to manage multiple relationships. Any
further growth by us or our subsidiary companies or an increase in the number of
our strategic relationships will increase this strain on our managerial,
operational and financial resources. This strain may inhibit our ability to
achieve the rapid execution necessary to successfully implement our business
plan. In addition, our future success depends on our ability to expand our
organization to match the growth of our business and our subsidiaries.
OUR FUTURE SUCCESS DEPENDS IN PART ON THE CONTINUED SERVICE OF OUR KEY
EXECUTIVES, AND THE LOSS OF ANY OF THESE KEY EXECUTIVES COULD ADVERSELY AFFECT
OUR BUSINESS AND OPERATING RESULTS.
Our success depends in part upon the continued service of our executive
officers, particularly Paul R. Ryan, our Chairman and Chief Executive Officer
and Robert L. Harris, II, our President. Neither Mr. Ryan nor Mr. Harris has an
employment or non-competition agreement with us. The loss of either of these key
individuals would be detrimental to our ongoing operations and prospects.
20
OUR FUTURE SUCCESS AND THE SUCCESS OF OUR SUBSIDIARY COMPANIES DEPENDS ON OUR
AND THEIR ABILITIES TO ATTRACT AND RETAIN QUALIFIED TECHNICAL PERSONNEL AND
QUALIFIED MANAGEMENT AND MARKETING TEAMS. FAILURE TO DO SO WOULD HARM OUR
ONGOING OPERATIONS AND BUSINESS PROSPECTS.
We believe that our success will depend on continued employment by us
and our subsidiary companies of senior management and key technical personnel.
Our subsidiary companies will need to attract, retain and motivate qualified
management personnel to execute their current business plans and to successfully
develop commercially viable products and services. Competition for qualified
personnel is intense and we cannot assure you that we will successfully retain
our existing key employees or attract and retain any additional personnel we may
require.
Each of our subsidiary companies has key executives upon whom we
significantly depend, and the success of those subsidiary companies depends on
their ability to retain and motivate those individuals.
OUR SUBSIDIARY COMPANIES FACE INTENSE COMPETITION, OFTEN AGAINST COMPETITORS
WITH LONGER HISTORIES, GREATER NAME RECOGNITION AND MORE EXPERIENCE IN RESEARCH
AND DEVELOPMENT. OUR FAILURE TO COMPETE EFFECTIVELY COULD HARM OUR BUSINESS.
Each of our subsidiary companies faces intense competition. Many of the
competitors to our subsidiary companies have greater financial, marketing and
other resources. In addition, a number of competitors may have greater brand
recognition and longer operating histories than our subsidiary companies. Our
subsidiary companies' individual risks are regarding competition further
described below.
COMBIMATRIX. The pharmaceutical and biotechnology industries are
subject to intense competition and rapid and significant technological change.
CombiMatrix anticipates that it will face increased competition in the future as
new companies enter the market and advanced technologies become available. Many
of these competitors have more experience in research and development than
CombiMatrix. Technological advances or entirely different approaches developed
by one or more of CombiMatrix's competitors could render CombiMatrix's processes
obsolete or uneconomical. The existing approaches of CombiMatrix's competitors
or new approaches or technology developed by CombiMatrix's competitors may be
more effective than those developed by CombiMatrix.
SOUNDVIEW TECHNOLOGIES. Other companies may develop competing
technologies that offer better or less expensive alternatives to the V-chip
offered by Soundview Technologies. Many potential competitors, including
television manufacturers, have significantly greater resources. In addition, the
outcome of Soundview Technologies' pending litigation against television
manufacturers is uncertain.
ACACIA MEDIA TECHNOLOGIES. Other companies may develop competing
technologies that offer better or less expensive alternatives to the
information-on-demand technology offered by Acacia Media Technologies. In the
event a competing technology emerges, Acacia Media Technologies would expect
substantial competition.
WE CANNOT ASSURE THAT WE WILL BE ABLE TO EFFECTIVELY PROTECT OUR SUBSIDIARY
COMPANIES' PROPRIETARY TECHNOLOGY, AND WE COULD ALSO BE SUBJECT TO INFRINGEMENT
CLAIMS.
The success of our subsidiary companies relies, to varying degrees, on
proprietary rights and their protection or exclusivity. Although reasonable
efforts will be taken to protect their proprietary rights, the complexity of
international trade secret, copyright, trademark and patent law, and common law,
coupled with limited resources and the demands of quick delivery of products and
services to market, create risk that these efforts will prove inadequate. From
time to time, we may be subject to third-party claims in the ordinary course of
business, including claims of alleged infringement of proprietary rights by us
and our subsidiary companies. Any such claims may damage our business by
subjecting us and our subsidiary companies to significant liability for damage
and invalidating proprietary rights, with or without merit, and could subject
our subsidiary companies to costly litigation and the diversion of their
technical and management personnel. In the event of any adverse ruling in any
intellectual property litigation, we could be required to:
o pay substantial damages;
o cease the manufacturing, use and sale of certain products;
o discontinue the use of certain process technologies; and
o obtain a license from a third-party claiming infringement, which might
not be available on reasonable terms, if at all.
21
CombiMatrix, Acacia Media Technologies and Soundview Technologies
depend largely on the protection of enforceable patent rights. Collectively,
they have more than 45 applications pending with the U.S. Patent and Trademark
Office and other major foreign country or region (e.g. Europe) patent offices,
seeking protection for their core technologies and or related product
applications and processes, and have 32 patents or rights to patents that have
been issued or granted. We cannot assure you that the pending patent
applications will be issued or granted, that third-parties will not infringe, or
attempt to invalidate these intellectual property rights or that certain aspects
of their intellectual property will not be engineered-around by third-parties
without violating the patent rights of CombiMatrix, Acacia Media Technologies or
Soundview Technologies. For Acacia Media Technologies and Soundview
Technologies, intellectual property constitutes their only significant assets.
Existing patents owned by our subsidiary companies and any future
issued patents may not be sufficiently broad to prevent others from practicing
our subsidiary companies' technologies or developing competitive technologies.
In addition, others may oppose or invalidate our subsidiary companies' patents
and those patents may fail to provide a competitive advantage. Enforcing our
subsidiary companies' intellectual property rights may be difficult, costly and
time consuming and ultimately may not be successful.
Many of our subsidiary companies also hold licenses from third-parties,
and it is possible that they could become subject to infringement actions based
upon such licenses. Our subsidiary companies generally obtain representations as
to the origin and ownership of such licensed content. However, this may not
adequately protect them.
Our subsidiary companies also enter into confidentiality agreements
with third-parties and generally limit access to information relating to their
proprietary rights. Despite these precautions, third-parties may be able to gain
access to and use their proprietary rights to develop competing technologies and
products with similar or better features and prices. Any substantial
unauthorized use of our subsidiary companies' proprietary rights could
materially and adversely affect their business and operational results.
Since some genetic sequences are patented, CombiMatrix intends to
secure indemnification from its customers in the case of any inadvertent
synthesis of a patented genetic sequence in preparing its biological array
processors. This indemnity will not protect CombiMatrix from being joined or
held liable in any litigation involving a claim for misappropriation of
unlicensed rights and will not protect CombiMatrix against awards of substantial
damages if a customer is unwilling or unable to honor an indemnity obligation.
In such an event, CombiMatrix would be required to devote substantial time to
defending the litigation and might be required to expend substantial funds
defending itself or in the satisfaction of damage awards if our customer refuses
or is unable to honor its indemnity obligations. This could materially and
adversely affect CombiMatrix's business and operational results.
PENDING LAWSUITS INVOLVING SOUNDVIEW TECHNOLOGIES AND COMBIMATRIX COULD
ADVERSELY AFFECT THE BUSINESS, RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS OF
THOSE SUBSIDIARIES.
In 2000, Soundview Technologies filed a federal patent infringement and
antitrust lawsuit against certain television manufacturers, the Consumer
Electronics Manufacturers Association and the Electronics Industries Alliance
d/b/a/ Consumer Electronics Association in the United States District Court for
the Eastern District of Virginia, alleging that television sets utilizing
certain content blocking technology (commonly known as the "V-chip") and sold in
the United States infringe Soundview Technologies' Patent No. 4,554,584. The
case is now pending in the U.S. District Court for the District of Connecticut
against Sony Corporation of America, Inc., Sony Electronics, Inc., the
Electronics Industries Alliance d/b/a/ Consumer Electronics Association, the
Consumer Electronics Manufacturers Association, Mitsubishi Digital Electronics
America, Inc., Mitsubishi Electronics America, Inc., Toshiba America Consumer
Products, Inc. and Sharp Electronics Corporation. However, no assurance can be
given that Soundview Technologies will prevail in this action or that the
television manufacturers will be required to pay royalties to Soundview
Technologies. If Soundview Technologies does not prevail in this litigation, its
business, results of operations and financial condition would be materially
adversely affected.
On November 28, 2000, Nanogen, Inc. ("Nanogen") filed a complaint
against CombiMatrix and Donald D. Montgomery, Ph.D., a former employee of
Nanogen and an officer and director of CombiMatrix, in the United States
District Court for the Southern District of California. Nanogen alleges breach
of contract, trade secret misappropriation and that U. S. Patent No. 6,093,302
and other proprietary information belonging to CombiMatrix are instead the
property of Nanogen. CombiMatrix and Dr. Montgomery both deny, and intend to
vigorously defend against, the claims in the lawsuit. Accordingly, on December
15, 2000, CombiMatrix and Dr. Montgomery filed a motion to dismiss the lawsuit,
which was denied in part and granted in part on February 1, 2001. On March 9,
2001, CombiMatrix and Dr. Montgomery filed a counterclaim, alleging breach of
express covenants not to sue or otherwise interfere with Dr. Montgomery arising
22
out of a release signed by Nanogen in 1996. On April 4, 2001, Nanogen filed a
motion to dismiss the counterclaim, which the court denied in its entirety on
July 27, 2001. Fact discovery is ongoing and is scheduled to close on June 3,
2002. CombiMatrix intends to vigorously defend the lawsuit and pursue the
counterclaim. Although we believe that Nanogen's claims are without merit, we
cannot predict the outcome of the litigation. If Nanogen prevails in its lawsuit
against CombiMatrix, CombiMatrix's business, results of operations and financial
condition could be materially adversely affected.
BECAUSE WE HAVE A LIMITED OPERATING HISTORY, WE CANNOT ASSURE THAT OUR
OPERATIONS WILL BE PROFITABLE.
We commenced operations in 1993 and, accordingly, have a limited
operating history. In addition, many of our subsidiary companies are in the
early stages of development and have limited operating histories. You should
consider our prospects in light of the risks, expenses and difficulties
frequently encountered by companies with such limited operating histories. Since
we have a limited operating history, we cannot assure you that our operations
will be profitable or that we will generate sufficient revenues to meet our
expenditures and support our activities.
During the quarter ended March 31, 2002, we had an operating loss of
approximately $8.5 million and a net loss of approximately $6.4 million. If we
continue to incur operating losses, we may not have enough money to expand our
business and our subsidiary companies' businesses in the future.
OUR LACK OF CONTROL OVER DECISION-MAKING AND DAY-TO-DAY OPERATIONS AT CERTAIN
SUBSIDIARY COMPANIES MEANS THAT WE CANNOT PREVENT THEM FROM TAKING ACTIONS THAT
WE BELIEVE MAY RESULT IN ADVERSE CONSEQUENCES.
We currently own a 4.9% interest in Advanced Data Exchange and have no
board of director representation. Additional rounds of equity financing may
further dilute our interest in Advanced Data Exchange. We do not have the
ability to control decision-making at Advanced Data Exchange.
WE MAY INCUR SIGNIFICANT COSTS TO AVOID INVESTMENT COMPANY STATUS AND MAY SUFFER
ADVERSE CONSEQUENCES IF DEEMED TO BE AN INVESTMENT COMPANY.
We may incur significant costs to avoid investment company status and
may suffer other adverse consequences if deemed to be an investment company
under the Investment Company Act. Some of our equity investments may constitute
investment securities under the Investment Company Act. A company may be deemed
to be an investment company if it owns investment securities with a value
exceeding 40% of its total assets, subject to certain exclusions. Investment
companies are subject to registration under, and compliance with, the Investment
Company Act unless a particular exclusion or regulatory safe harbor applies. If
we are deemed an investment company, we would become subject to the requirements
of the Investment Company Act. As a consequence, we would be prohibited from
engaging in business or issuing securities as we have in the past and might be
subject to civil and criminal penalties for noncompliance. In addition, certain
of our contracts might be voidable, and a court-appointed receiver could take
control of us and liquidate our business.
Although we believe our investment securities currently comprise less
than 40% of our assets, fluctuations in the value of these securities or of our
other assets may cause this limit to be exceeded. This would require us to
attempt to reduce our investment securities as a percentage of our total assets.
This reduction can be attempted in a number of ways, including the disposition
of investment securities and the acquisition of non-investment security assets.
If we sell investment securities, we may sell them sooner than we otherwise
would. These sales may be at depressed prices and we may never realize
anticipated benefits from, or may incur losses on, these investments. Some
investments may not be sold due to contractual or legal restrictions or the
inability to locate a suitable buyer. Moreover, we may incur tax liabilities
when we sell assets. We may also be unable to purchase additional investment
securities that may be important to our operating strategy. If we decide to
acquire non-investment security assets, we may not be able to identify and
acquire suitable assets and businesses.
THE AVAILABILITY OF SHARES FOR SALE IN THE FUTURE COULD REDUCE THE MARKET PRICE
OF OUR COMMON STOCK.
In the future, we may issue securities to raise cash for acquisitions.
We may also pay for interests in additional subsidiary companies by using a
combination of cash and our common stock or just our common stock. We may also
issue securities convertible into our common stock. Any of these events may
dilute your ownership interest in us and have an adverse impact on the price of
our common stock.
In addition, sales of a substantial amount of our common stock in the
public market, or the perception that these sales may occur, could reduce the
market price of our common stock. This could also impair our ability to raise
additional capital through the sale of our securities.
23
BECAUSE SOME OF OUR FACILITIES ARE LOCATED IN CALIFORNIA, WE COULD BE ADVERSELY
AFFECTED BY ROLLING BLACKOUTS OR A MAJOR EARTHQUAKE.
Our facilities, excluding CombiMatrix, are primarily located in
California. California experienced an energy shortage in 2001, and as a result,
several cities were subject to rolling blackouts. In the event we experience
rolling blackouts or other loss or reduction of electrical power, our operations
could be adversely impacted.
Additionally, in the event of a major earthquake, our facilities could
be significantly damaged or destroyed and result in a material adverse loss to
us and some of our subsidiary companies. We have not obtained and do not
presently intend to obtain earthquake insurance or business interruption
coverage.
DELAWARE LAW AND OUR CHARTER DOCUMENTS CONTAIN PROVISIONS THAT COULD DISCOURAGE
OR PREVENT A POTENTIAL TAKEOVER OF ACACIA THAT MIGHT OTHERWISE RESULT IN OUR
STOCKHOLDERS RECEIVING A PREMIUM OVER THE MARKET PRICE OF THEIR SHARES.
Provisions of Delaware law and our certificate of incorporation and
bylaws could make more difficult the acquisition of Acacia by means of a tender
offer, proxy contest or otherwise, and the removal of incumbent officers and
directors. These provisions include:
o Section 203 of the Delaware General Corporation Law, which prohibits a
merger with a 15%-or-greater stockholder, such as a party that has
completed a successful tender offer, until three years after that party
became a 15%-or-greater stockholder;
o amendment of our bylaws by the stockholders requires a two-thirds
approval of the outstanding shares;
o the authorization in our certificate of incorporation of undesignated
preferred stock, which could be issued without stockholder approval in
a manner designed to prevent or discourage a takeover;
o provisions in our bylaws eliminating stockholders' rights to call a
special meeting of stockholders, which could make it more difficult for
stockholders to wage a proxy contest for control of our board of
directors or to vote to repeal any of the anti-takeover provisions
contained in our certificate of incorporation and bylaws; and
o the division of our board of directors into three classes with
staggered terms for each class, which could make it more difficult for
an outsider to gain control of our board of directors.
Such potential obstacles to a takeover could adversely affect the
ability of our stockholders to receive a premium price for their stock in the
event another company wants to acquire us.
WE ARE AT RISK OF SECURITIES CLASS ACTION LITIGATION DUE TO STOCK PRICE
VOLATILITY.
In the past, securities class action litigation has often been brought
against a company following periods of volatility in the market price of its
securities. Due to the potential volatility of our stock price, we may be the
target of such litigation in the future. Securities litigation could result in
substantial costs and divert management's attention and resources, which could
seriously harm our business, financial condition and results of operations.
WE INTEND TO DIVIDE OUR COMMON STOCK INTO TWO NEW CLASSES AND TO ACQUIRE THE
MINORITY STOCKHOLDER INTERESTS IN COMBIMATRIX.
On March 20, 2002, we announced our intention to divide our common
stock into two new classes: one that would reflect the performance of our
CombiMatrix subsidiary, and another that would reflect the performance of our
media technologies business, including Soundview Technologies and Acacia Media
Technologies. We also announced our intention to acquire the minority
stockholder interests in CombiMatrix. If these proposals are approved by our
stockholders, our operating results could be negatively affected by various
factors related to the recapitalization and acquisition, including: difficulty
obtaining or meeting conditions imposed for any necessary legal, governmental
and administrative approvals for the transactions; costs related to the
transactions; fluctuating stock market levels that could cause the new stock
classes to be less than our current stock value; the failure of the stock market
to ascribe value to our new business structure; and the failure of Acacia to
realize anticipated benefits of these transactions.
24
WE MAY NOT COMPLETE THE RECAPITALIZATION OF OUR STOCK OR THE ACQUISITION OF THE
MINORITY STOCKHOLDER INTERESTS IN COMBIMATRIX.
Both the recapitalization of our stock and the acquisition of the
remaining minority interests in CombiMatrix are subject to several conditions,
including the approval of our stockholders, approval for listing of both of the
new share classes on the NASDAQ National Market and other customary conditions.
As a result, there cannot be any assurance that the recapitalization of our
stock or the acquisition of the minority stockholder interests in CombiMatrix
will be completed. If either event does not occur, we expect to continue to
operate under our current operating structure. This would prevent us from
realizing the possible benefits that the recapitalization and the acquisition
would provide to us.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
HIGH-GRADE CORPORATE BONDS, COMMERCIAL PAPER, U.S. GOVERNMENT
SECURITIES AND MONEY MARKET ACCOUNTS. Our exposure to market risk includes
interest income sensitivity, which is affected by changes in the general level
of United States interest rates, particularly because a significant portion of
our investments are in short-term debt securities issued by United States
corporations and institutional money market funds. The primary objective of our
investment activities is to preserve principal while at the same time maximizing
the income we receive without significantly increasing risk. To minimize risk,
we maintain a portfolio of cash, cash equivalents and short-term investments in
a variety of investment-grade securities and with a variety of issuers,
including corporate notes, commercial paper and money market funds. Due to the
nature of our short-term investments, we believe that we are not subject to any
material market risk exposure.
MARKETABLE EQUITY SECURITIES. We conduct a portion of our investing
activity through a limited partnership, of which a wholly-owned subsidiary of
ours is the general partner. As a result of the significant control that we
exercise over the limited partnership, the assets and liabilities and results of
operations have been consolidated by us at March 31, 2002. We maintain an
investment portfolio of common stock in several publicly held companies. These
common stock investments are classified as trading securities and are recorded
on the balance sheet at their fair value, with unrealized gains and losses
reported in the consolidated statement of operations. We are exposed to equity
price risk on our portfolio of marketable equity securities. As of March 31,
2002, our total equity holdings in publicly traded companies were valued at $7.4
million compared to $4.4 million at December 31, 2001. We believe that it is
reasonably possible that the fair values of these securities could experience
significant fluctuations in the near term.
Subsequent to March 31, 2002, we transferred the majority of our
investment funds previously held in marketable securities to money market
accounts. The actual fair value deterioration of March 31, 2002 marketable
equity security positions was approximately 12% or $0.9 million. The following
table represents the potential decrease in fair value of our remaining
marketable equity securities as of May 10, 2002 that are sensitive to changes in
the stock market. Fair value deteriorations of minus 50%, 35% and 15% were
selected based on the probability of their occurrence.
Potential decrease to the value of securities given X% decrease in each
stock's price:
FAIR VALUE AS OF
(50%) (35%) (15%) MAY 10, 2002
--------- --------- --------- ---------
Marketable equity securities $ 497,000 $ 348,000 $ 149,000 $ 994,000
========= ========= ========= =========
OTHER
We also hold a minority investment in a private company, Advanced Data
Exchange. This investment is included in long-term assets and is carried at
cost. We monitor our long-term minority investments in private companies for
impairment and make appropriate reductions in carrying value when an
other-than-temporary decline in fair value is determined to exist.
25
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
SOUNDVIEW TECHNOLOGIES
On April 5, 2000, Soundview Technologies filed a federal patent
infringement and antitrust lawsuit against Sony Corporation of America, Philips
Electronics North America Corporation, the Consumer Electronics Manufacturers
Association and the Electronics Industries Alliance d/b/a Consumer Electronics
Association in the United States District Court for the Eastern District of
Virginia, alleging that television sets utilizing certain content blocking
technology (commonly known as the "V-chip") and sold in the United States
infringe Soundview Technologies' U.S. Patent No. 4,554,584. The case is now
pending in the U.S. District Court for the District of Connecticut against Sony
Corporation of America, Inc., Sony Electronics, Inc., the Electronics Industries
Alliance d/b/a Consumer Electronics Association, the Consumer Electronics
Manufacturers Association, Mitsubishi Digital Electronics America, Inc.,
Mitsubishi Electronics America, Inc., Toshiba America Consumer Products, Inc.
and Sharp Electronics Corporation. However, no assurance can be given that
Soundview Technologies will prevail in this action or that the television
manufacturers will be required to pay royalties to Soundview Technologies.
During 2001, Soundview Technologies entered into separate confidential
settlement and/or license agreements with Hitachi America Ltd., Pioneer
Electronics (USA) Incorporated, Samsung Electronics, LG Electronics, Inc.,
Daewoo Electronics Corporation of America, Sanyo Manufacturing Corporation,
Funai Electric Co., Ltd., JVC Americas Corporation, Thomson Multimedia, Inc.,
Orion Electric Co., Ltd. and Matsushita Electric Industrial Co., Ltd. whereby
Soundview Technologies will receive payments and grant non-exclusive licenses of
its V-chip patent. In 2000, Soundview Technologies settled its lawsuit with
Philips Electronics North America Corporation.
COMBIMATRIX
On November 28, 2000, Nanogen, Inc., or Nanogen, filed a complaint in
the United States District Court for the Southern District of California against
CombiMatrix and Donald D. Montgomery, Ph.D., Senior Vice President, Chief
Technology Officer and a director of CombiMatrix. Dr. Montgomery was employed by
Nanogen as a senior research scientist between May 1994 and August 1995. The
Nanogen complaint alleges, among other things, breach of contract, trade secret
misappropriation and that U.S. Patent No. 6,093,302 and other proprietary
information belonging to CombiMatrix are instead the property of Nanogen. The
complaint seeks, among other things, correction of inventorship on the patent,
the assignment of rights in the patent and pending patent applications to
Nanogen, an injunction preventing disclosure of trade secrets, damages for trade
secret misappropriation and the imposition of a constructive trust. On December
15, 2000, CombiMatrix and Dr. Montgomery filed a motion to dismiss the lawsuit,
which was denied in part and granted in part on February 1, 2001. On March 9,
2001, CombiMatrix and Dr. Montgomery filed a counterclaim, alleging breach of
express covenants not to sue or otherwise interfere with Dr. Montgomery arising
out of a release signed by Nanogen in 1996. On April 4, 2001, Nanogen filed a
motion to dismiss the counterclaim, which the court denied in its entirety on
July 27, 2001. Fact discovery is ongoing and is scheduled to close on June 3,
2002. CombiMatrix intends to vigorously defend the lawsuit and pursue the
counterclaim. Although we believe that Nanogen's claims are without merit, we
cannot predict the outcome of the litigation.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
26
PART II--OTHER INFORMATION -- (CONTINUED)
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
10.1* First Amendment dated November 30, 2001, to the License and Supply
Agreement dated as of July 1, 2001, between CombiMatrix Corporation
and Roche Diagnostics GmbH
- -----------------------------------------
* Confidential treatment for portions of this exhibit has been requested
pursuant to the Securities Exchange Act of 1934.
(b) Reports on Form 8-K.
On March 6, 2002, Acacia filed a Current Report on Form 8-K to report
results for the fourth quarter and fiscal year end of 2001.
On March 21, 2002, Acacia filed a Current Report on Form 8-K to report
that its board of directors approved a plan of recapitalization and merger,
subject to several conditions, including stockholder approval.
On May 10, 2002, Acacia Filed a Current Report on Form 8-K to report
results for the first quarter of 2002.
27
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ACACIA RESEARCH CORPORATION
By: /S/ Paul Ryan
----------------------------------------------
Paul Ryan
Chief Executive Officer (Authorized Signatory)
By: /S/ Clayton J. Haynes
----------------------------------------------
Clayton J. Haynes
Chief Financial Officer /Treasurer
(Principal Financial Officer)
Date: May 15, 2002
28
EXHIBIT INDEX
EXHIBIT
NUMBER EXHIBIT
- ------ -------
10.1* First Amendment dated November 30, 2001, to License and Supply
Agreement dated as of July 1, 2001 by and between CombiMatrix
Corporation and Roche Diagnostics GmbH
- ---------------
* Confidential treatment for portions of this exhibit has been requested
pursuant to the Securities Exchange Act of 1934.
29