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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q/A
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001
COMMISSION FILE NUMBER 0-20270
SAFLINK CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 95-4346070
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
11911 N.E.1st. Street, Suite B-304, Bellevue, Washington 98005
(Address of principal executive offices and zip code)
(425) 278-1100
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
There were 4,555,559 shares of SAFLINK Corporation's common stock
outstanding as of December 19 2001.
SAFLINK Corporation
FORM 10-Q/A
For the Quarter Ended June 30, 2001
INDEX
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
a. Condensed Consolidated Balance Sheets
as of June 30, 2001 and December 31, 2000........................................... 1
b. Condensed Consolidated Statements of Operations
for the three and six months ended June 30, 2001 and 2000........................... 2
c. Condensed Consolidated Statements of Cash Flows for the six months
ended June 30, 2001 and 2000........................................................ 3
d. Notes to Condensed Consolidated Financial Statements................................ 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Result of Operations.............................................. 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk...................... 22
Part II. Other Information
Item 1. Legal Proceedings............................................................... 23
Item 2. Changes in Securities........................................................... 23
Item 3. Defaults Upon Senior Securities................................................. 24
Item 6. Exhibits and Reports on Form 8-K................................................ 25
Signature..................................................................................... 27
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z PART 1 - FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS
SAFLINK CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
ASSETS June 30, December 31,
2001 2000
(In thousands)
Current assets:
Cash and cash equivalents $ 2,315 $ 1,108
Accounts receivable, net 64 153
Inventory 24 25
Investments 21 102
Prepaid expenses and other current assets 238 244
-------- ---------
Total current assets 2,662 1,632
Furniture and equipment, net 356 869
Intangible assets, net 4,439 5,344
Other assets - 152
-------- ---------
$ 7,457 $ 7,997
======== =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 1,099 $ 1,494
Accrued liabilities 505 693
Notes payable 1,135 2,437
Deferred revenue 151 286
-------- ---------
Total current liabilities 2,890 4,910
Convertible long-term debt, net of discount 1,506 1,485
Series E Convertible, Redeemable Preferred Stock 5,317 -
Warrants with cash redemption features 1,485 -
Warrants subject to registration 65 -
Stockholders' equity (deficit)
Common stock 45 37
Common stock issuable in asset purchase - 3,228
Deferred stock-based compensation (50) (81)
Additional paid-in capital 62,843 57,090
Accumulated deficit (66,644) (58,672)
-------- ---------
(3,806) 1,602
-------- ---------
$ 7,457 $ 7,997
======== =========
See accompanying notes to condensed consolidated financial statements.
1
SAFLINK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except share and per share data)
Three Months Ended June 30, Six months ended June 30,
------------------------------- ------------------------------
2001 2000 2001 2000
----------- ----------- ------------ -----------
Revenue:
Products and services:
Software $ 10 $ 329 $ 37 $ 469
Hardware 28 31 29 247
Services and other 83 103 228 163
----------- ----------- ----------- -----------
Total revenue 121 463 294 879
Cost of revenue:
Software 13 8 25 12
Hardware 27 20 28 199
Services and other 60 62 120 81
Amortization of intangibles 318 - 636 -
----------- ----------- ----------- -----------
418 90 809 292
----------- ----------- ----------- -----------
Gross profit 21 373 121 587
Operating expenses:
Product development 781 1,097 1,765 2,068
Amortization of intangible assets 122 - 244 -
Sales and marketing 213 424 388 869
Restructuring and relocation 873 112 873 200
General and administrative 1,208 730 2,410 1,394
----------- ----------- ----------- -----------
Total operating expenses 3,197 2,363 5,680 4,531
----------- ----------- ----------- -----------
Loss from operations before interest and
extraordinary item (3,494) (1,990) (6,195) (3,944)
Interest and other income 16 43 17 104
Interest expense (395) (669)
----------- ----------- ----------- -----------
Interest (expense) income and other income (379) 43 (652) 104
Loss from operations before extraordinary item (3,873) (1,947) (6,847) (3,840)
Extraordinary Item:
Gain from debt restructuring 360 - 360 -
----------- ----------- ----------- -----------
Net loss (3,513) (1,947) (6,487) (3,840)
Preferred stock dividend 1,485 125 1,485 248
----------- ----------- ----------- -----------
Net loss applicable to common stockholders $ (4,998) $ (2,072) $ (7,972) $ (4,088)
=========== =========== =========== ===========
Basic and diluted loss applicable to common stockholders
per common share before extraordinary item $ (1.19) $ (0.74) $ (1.86) $ (1.48)
Extraordinary item 0.08 - 0.08 -
----------- ----------- ----------- -----------
Basic and diluted loss per common share applicable to
common stockholders $ (1.11) $ (0.74) $ (1.78) $ (1.48)
=========== =========== =========== ===========
Weighted average number of basic and diluted common
shares 4,499,895 2,783,877 4,483,428 2,755,829
See accompanying notes to condensed consolidated financial statements.
2
SAFLINK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
Six months ended June 30,
2001 2000
---------------- ------------
Cash flows from operating activities:
Net loss $ (6,487) $ (3,840)
Adjustments to reconcile net loss to net cash used in operating
activities:
Stock-based compensation 47 109
Depreciation and amortization 1,089 87
Amortization of deferred financing costs 339 -
Beneficial conversion of bridge notes 232 -
Amortization of discount on note payable 21 -
Loss on disposal of fixed assets 387 -
Changes in assets and liabilities:
Accounts receivable 89 (170)
Inventory 1 4
Prepaid expenses and other current assets 6 (364)
Other assets 152 (53)
Accounts payable (395) 397
Accrued liabilities (188) -
Deferred revenue (135) 20
----------- -----------
Net cash used in operating activities (4,842) (3,810)
Cash flows from investing activities:
Purchases of furniture and equipment (59) (244)
Decrease in investments 81 -
----------- -----------
Net cash provided by (used in) investing activities 22 (244)
Cash flows from financing activities:
Proceeds from issuance of bridge notes and warrants 854 -
Proceeds from issuance of common stock upon exercise of
employee stock options and investor warrants 156 996
Proceeds from issuance of Series E Convertible Preferred Stock 5,207 -
Repayment of bridge notes (190) -
----------- -----------
Net cash provided by financing activities 6,027 996
----------- -----------
Net increase (decrease) in cash and cash equivalents 1,207 (3,058)
Cash and cash equivalents at beginning of period 1,108 5,335
----------- -----------
Cash and cash equivalents at end of period $ 2,315 $ 2,277
=========== ===========
Non cash financing and investing activities:
Preferred stock dividend $ 1,485 $ 248
See accompanying notes to condensed consolidated financial statements.
3
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Presentation
The accompanying consolidated financial statements are unaudited and
condensed and, therefore, do not contain certain information included in the
annual consolidated financial statements of SAFLINK Corporation and its wholly-
owned subsidiary, SAFLINK International, Inc., (the "Company" or "SAFLINK"). In
the opinion of management, all adjustments (consisting of normally recurring
items and others) it considers necessary for a fair presentation have been
included in the accompanying condensed consolidated financial statements.
The Company's condensed consolidated interim financial statements are not
necessarily indicative of results to be expected for a full fiscal year and
should be read in conjunction with its consolidated financial statements and the
notes thereto included in the Company's Annual Report on Form 10-K/A for the
fiscal year ended December 31, 2000, as filed with the Securities and Exchange
Commission (the "SEC") on June 22, 2001.
Certain items in the 2000 financial statements and the notes thereto have
been reclassified to conform to the 2001 presentation of such items. Certain
amounts presented in the interim financial statements for 2001 have been
reclassified from their initial classification in the Company's quarterly
financial statements previously filed with the SEC on Form 10-Q.
2. Investments
At June 30, 2001, investments consist of a $2,000 bank time certificate of
deposit pledged to secure a letter of credit in lieu of a security deposit
related to the lease of the Company's headquarters facility and a $19,000 bank
time certificate of deposit pledged to secure a credit card issued to the
Company. These investments are carried at cost.
3. Note Payable
On May 31, 2001, the Company issued an unsecured promissory note in the
amount of $135,000 for services rendered by a vendor. The note is due and
payable in full on June 7, 2002 and bears interest at the rate of 12%.
4. Stockholders' Equity
On March 20, 2001, the Company issued 728,572 shares of Common Stock to
Jotter Technologies Inc. as partial consideration for the intellectual property
and fixed assets acquired from Jotter pursuant to the December 15, 2000 asset
purchase agreement between Jotter and the Company.
For the six months ended June 30, 2001 the Company has issued 1,429 shares
of Common Stock upon exercise of stock options exercised by certain employees
pursuant to provisions of the Company's 1992 Stock Incentive Plan. The options
had an exercise price of $9.38 per share, which equaled fair value of the common
stock on the dates of grant.
On April 10, 2001 the Company announced that Jotter Technologies Inc. will
convert its outstanding remaining balance on the $1.7 million note, plus
accrued interest of $33,635 into
4
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SAFLINK common stock at $7.00 per share. The note had been issued to Jotter as
partial consideration for the assets acquired by SAFLINK in December 2000. Upon
conversion of the debt, Jotter will own 967,160 shares of SAFLINK common stock,
representing approximately 20.6% of the Company's currently outstanding common
stock after the issuance of the new shares. The shares issued to Jotter will be
held in escrow on behalf of Jotter and released in monthly distributions after
Jotter satisfies certain Canadian tax obligations related to the asset purchase.
The conversion of the note is subject to shareholder approval. As a result of
the agreement to convert the note into equity, the Company has reflected the
note as non-current in accordance with SFAS No. 6, Classification of Short-Term
Obligations Expected to Be Refinanced.
In April and May 2001 the Company received $440,000 of additional bridge
financing and $125,000 upon the exercise of warrants to purchase 35,715 shares
of common stock at $3.50 per share. The additional bridge funds were received
on substantially similar terms to those of the $2.9 million bridge financings
completed in November 2000 and March 2001. The Company issued unsecured notes,
which bear interest at 12% per annum and matured in May 2001. Holders of the
notes were entitled to participate in any financing undertaken by the Company
prior to the maturity date of the notes by electing to receive, in lieu of
repayment of the note and accrued interest, securities of the same class and on
the same terms as issued in that financing. The Company also issued warrants to
purchase 15,715 shares of common stock for $10.50 per share. The warrants were
fully vested on grant and are exercisable for sixty months from the issuance
date and expire at dates through May 31, 2006 at an exercise price of $10.50 per
share. The value allocated to the warrants resulted in a debt discount of
$26,000 that was being recognized as interest expense over the term of the
bridge notes. Additionally, by allocating value to the warrants, the debt
holders received a beneficial conversion feature that was to be recognized upon
consummation of the next financing. Bridge notes previously issued that were
entitled to participate in the financing that the Company undertook also
received a beneficial conversion feature upon consummation of the Series E
financing. The aggregate of the beneficial conversion feature recognized as
interest expense for the bridge note warrants totaled $232,000 for the three
months ended June 30, 2001. A total of $430,000 of these loans were converted in
the Series E Preferred Financing discussed below.
Series E Convertible Preferred Stock
On May 21, 2001, the Company authorized the issuance of up to 40,000 shares
of its Series E Convertible preferred stock, $0.01 par value. The Series E
convertible preferred stock has a liquidation preference of $200 per share and
is convertible into common stock at $1.40 per share. The Series E convertible
preferred stock has redemption features based on registration rights and certain
other events. As a result of certain of these redemption features that are
outside of the control of the Company, the Series E convertible preferred stock
has been reflected outside of stockholders' equity.
On June 5, 2001, the Company issued 40,000 shares of Series E convertible
preferred stock and common stock purchase warrants for an aggregate price of $8
million, including the conversion of certain bridge notes, in a private
placement to accredited investors. The Series E convertible preferred stock
issued in this transaction is convertible into 5,714,309 shares of Company
common stock at any
5
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
time until June 5, 2004. The preferred stock will not pay a dividend and holders
of the stock will have no voting rights other than the right to elect two
members of the Board of Directors and certain other protective voting rights. In
addition, investors received Series A warrants to purchase 5,714,309 shares of
common stock at $1.75 per share exercisable until June 5, 2002, after which the
exercise price will increase to $3.50 per share and will be exercisable until
June 5, 2006. Series B warrants to purchase approximately 639,376 shares of
common stock at $1.75 per share until the later of December 5, 2001 or 120 days
after the effective date of the registration of the common stock underlying such
warrants were issued to investors purchasing more than $1 million of Series E
convertible preferred stock. After allocation of the proceeds to the warrants
based upon the relative fair values of the preferred stock and the warrants, the
Company recorded a beneficial conversion feature in the form of a dividend on
the Series E convertible preferred stock in the amount of $1,485,000. In
accordance with EITF 98-5 and 00-27, the beneficial conversion feature was based
on the intrinsic value and calculated as the difference between the value
allocated to the preferred stock after the consideration of the warrants, and
the fair value of the common stock into which the preferred stock is
convertible. Pending receipt of stockholder approval of the financing, holders
of the Series E convertible preferred stock and warrants will not be able to
convert such securities into more than 19.99% of the number of shares of common
stock outstanding prior to the transaction.
Debt holders representing $2.3 million in bridge notes and accrued interest
at the time of closing exercised their right to participate in the financing.
RMS Limited Partnership agreed to extend its $1 million bridge note and accrued
interest for an additional 12 months and the Company agreed to apply 50% of any
proceeds received from the exercise of Series A and Series B warrants towards
principal and interest payments during the extension period. The remaining
$203,000 in outstanding bridge notes and accrued interest were repaid from the
proceeds of the financing.
On July 27, 2001, the Company entered into a modification agreement (the
"Modification Agreement") with certain purchasers of the Series E Preferred
Stock and Series A and B warrants (the "warrants") in order to amend certain
terms of the Securities Purchase Agreement and the Registration Rights Agreement
relating to the Preferred Stock and Warrants which were purchased on June 5,
2001 for an aggregate purchase price of $8.0 million (the "Financing"). Under
the Modification Agreement, the parties agreed to amend, among other things,
certain terms of the Certificate of Designation, Preferences and Rights of the
Series E preferred stock ("Certificate of Designation"), subject to stockholder
approval.
In particular, SAFLINK entered into the Modification Agreement to extend
certain dates by which SAFLINK had committed to meet obligations with respect to
the purchasers and to eliminate those features of the Preferred Stock and
Warrants that would prevent the proceeds from the Financing to be treated as
permanent equity for financial accounting purposes. These revisions, among other
things, modify the penalties imposed upon the Company in the event the Company
fails to register the common stock underlying the Preferred Stock and Warrants,
extend the deadline by which the Company must register this common stock, and
limit the existing rights of the holders of the Preferred Stock and certain
holders of the Warrants by allowing a cash or stock penalty to be paid only in
the event of certain types of acquisitions. Certain provisions of the
Modification Agreement became effective immediately upon execution by two-thirds
of the purchasers of the Preferred Stock; other provisions, including any
amendments to the Certificate of Designation, will only become effective upon
receipt of stockholder approval of the Financing, the reverse stock split, and
the amendment to the Certificate of Designation at the Company's next
stockholder meeting.
In connection with the financing, as modified, the Company has agreed to
seek stockholder approval at its next annual stockholders meeting for (i) the
issuance of common stock upon conversion of the Series E preferred stock and
warrants issued in the financing, (ii) a new stock option plan, (iii) a reverse
split of its common stock not less than 1:5 and no greater the 1:7, (iv) the
issuance of common stock to Jotter Technologies, Inc. upon conversion of the
remaining balance of the $1.7 million note payable plus accrued interest issued
to Jotter as partial consideration for the intellectual property and fixed
assets acquired from Jotter on December 15, 2000 and (v) amendment of the
Certificate of Designation.
Under the current terms of the financing, as modified, the Company agreed
to file a registration statement with the Securities and Exchange Commission to
register the shares of common stock issuable upon exercise of the warrants and
conversion of the preferred stock. If such registration statement is not
declared effective within 60 days of closing or by December 31, 2001 (depending
on the form of registration statement filed), such registration is suspended, or
the Company's common stock is not listed or included for quotation on Nasdaq or
another exchange after being so listed or included, the Company will be required
to pay a 1.5% cash penalty per month to the purchasers of the Series E preferred
stock and warrants. In addition, if the registration statement is not declared
effective by the Securities and Exchange Commission within 160 days after the
closing of this
6
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
transaction, holders of the Series E preferred stock will be entitled to redeem
for $250 per share in cash any of their then outstanding shares of Series E
preferred stock. Furthermore, the expiration dates and pricing of the Series A
and B Warrants may be adjusted depending on the timing of a registration
statement being declared effective. In the event the Company was merged or
acquired, the holders of the Series E preferred stock have a right to a cash
redemption of $250 per share and the holders of the Series A and B warrants have
a cash redemption right based on a Black-Scholes calculated formula amount. This
Black-Scholes calculated formula amount is estimated to be approximately $0.17
and $0.06 per share subject to Series A and B warrants, respectively, at June
30, 2001. Under the Modification Agreement, subject to stockholder approval of
certain proposals at the Company's next stockholder meeting, the above-mentioned
provision relating to a cash penalty in the event of a registation failure will
be modified so that the listing suspension penalty is eliminated and that upon a
registration failure the conversion price of the Series E Preferred Stock will
be reduced by 20% and reduced an additional 1.5% for each month thereafter the
registration failure continues. In addition, subject to stockholder approval of
certain proposals at the next stockholder meeting, the right of holders of the
Series E Preferred stock to require redemption in the event of a registration
failure will be eliminated. Moreover, subject to stockholders approval of
certain proposals at the next stockholder meeting, the existing rights of
holders of the Series E Preferred Stock and certain holders of the Series A and
B Warrants will be limited to allow cash or stock penalties to be paid only in
the event of certain types of acquisitions.
In conjunction with the Series E Preferred Stock financing, the Company
negotiated the following:
. Obligations totaling approximately $495,000 were forgiven or converted into
notes payable in consideration for receiving payment of remaining
outstanding amounts subsequent to the financing. In accordance with
Statement of Financial Accounting Standards No.15, Accounting by Debtors
and Creditors for Troubled Debt Restructuring, the forgiveness effectively
represents a modification of terms of the debt and signifies the
restructuring of debt. The gain realized on the restructuring is classified
as an extraordinary item in the accompanying statement of operations for
the three and six months ending June 30, 2001. Subsequent to the financing,
the reduced amounts were paid in full satisfaction of the obligations.
. After payment of a $100,000 lease termination fee, the terms of the lease
for the Company's corporate offices were modified to provide for a
month-to-month tenancy, terminable by either party upon 20 days notice. The
Company gave notice to terminate the lease and has entered into a new lease
agreement for its corporate headquarters (See Note 14). The Company also
modified the terms of warrants previously issued to its landlord by
reducing the exercise price on 3,572 warrants from $21.00 to $1.40 per
share, extended the original expiration date from May 18, 2005 to May 31,
2006 and granted registration rights to the warrant holder. Accordingly,
the Company has classified the $65,000 value associated with the warrants
outside of stockholders' equity. Once the registration rights obligation
has been satisfied, the amounts will be classified as stockholders' equity.
. Extension of the maturity date of the $1 million bridge note payable to RMS
Limited Partnership to May 12, 2002. In addition, the Company agreed to
apply 50% of any proceeds received from the exercise of warrants issued in
the Series E Preferred Stock financing towards principal and interest
payments during the extension period.
. Issuance of placement agent warrants to purchase 428,575 shares of common
stock for $1.40 per share exercisable until June 5, 2006. The estimated
value of the warrants of $566,000 has been treated as an offering cost and
offset against the proceeds received from the Series E Preferred Stock.
7
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Anovea Warrants
In conjunction with the breach of the Anovea license agreement due to
delinquent payments, the Company negotiated extensions of payment terms through
the issuance of 2,858 warrants to purchase common stock at an exercise price of
$7.00 per share at any time until April 20, 2003; 2,858 warrants to purchase
common stock at an exercise price of $7.00 per share at any time until April 30,
2003; and an additional 1,429 warrants to purchase common stock at an exercise
price of $3.50 per share at any time until May 31, 2003. Also, on May 31, 2001,
the 5,716 warrants issued on April 20, 2001 and April 30, 2001 were repriced to
$3.50 per share. As a result of the additional warrants issued and
modifications, the Company recorded a charge totaling approximately $17,000.
Bridge Loan Warrants
On April 13, 2001, the Company offered to reduce the exercise price on
warrants issued in conjunction with the November 2000 bridge notes from $10.50
per share to $3.50 per share for warrants exercised by April 20, 2001. A total
of 35,715 warrants were exercised at the reduced exercise price. The Company
recorded an additional $92,000 charge associated with the warrant modifications
during the three months ended June 30, 2001.
1992 Stock Incentive Plan
For the six months ended June 30, 2001 the Company has granted a total of
162,167 options under its 1992 Stock Incentive Plan. The options were granted
at the fair value of the stock on the date of the grant and had an original term
of 10 years.
8
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
2000 Stock Incentive Plan
On September 6, 2000, the Company's board of directors adopted, and on June
29, 2001, amended, subject to stockholder approval, the SAFLINK Corporation 2000
Stock Incentive Plan ("the 2000 Plan"). Through June 30, 2001 the Company has
granted a total of 428,222 options to employees and 17,143 options to directors
under the 2000 Plan. An additional 20,774 shares were granted to employees on
August 1, 2001 and 12,858 were granted to a consultant with identical terms. The
options were granted with an exercise price of $1.68, which equaled or exceeded
the fair value of the stock on the date of the grant and a term of 10 years from
the date of the grant. Although the 2000 Plan is subject to shareholder
approval, shareholders representing approximately 54% of the outstanding common
shares have indicated their intent to vote in favor of the proposal at the
upcoming shareholders meeting.
5. Restructuring
In conjunction with a corporate restructuring implemented immediately
following the closing of the Series E Preferred Stock financing, the Company
initiated a staff reduction. The Company terminated a total of twelve
development staff and two sales staff, in addition to the Chief Executive and
Chief Financial Officers. As part of the staff reduction, the Company has paid
approximately $344,000 under severance packages to certain employees.
Additionally, all terminated employees immediately vested in one-third of the
unvested options held by them on the date of their termination. Under their
severance agreements, the former Chief Executive Officer and former Chief
Financial Officer vested in all the remaining options granted to them. The
number of options that remain outstanding upon preparation totaled 195,834. The
expiration dates of these and any other vested options held by employees
terminated pursuant to the restructuring were extended to June 6, 2002. The
total number of options whose expiration dates were extended totaled 216,310.
The Company also incurred approximately $150,000 in lease termination related
costs including the payment of a $100,000 termination fee and expensed deferred
rent related to the lease of their corporate headquarters. In addition, the
Company wrote off approximately $379,000 of certain leasehold improvements and
other furniture and equipment in conjunction with the restructuring.
6. Significant Customers
Two customers accounted for approximately 38% and 37% of the Company's
revenues for the six months ended June 30, 2001. Two customers accounted for
approximately 35% and 23% of the Company's revenues for the six months ended
June 30, 2000. Two customers accounted for approximately 45% and 12% of the
Company's revenues for the quarter ended June 30, 2001. One customer accounted
for approximately 65% of the Company's revenues for the quarter ended June 30,
2000.
9
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
7. Comprehensive Loss
For the quarter and six months ended June 30, 2001, total comprehensive
losses were $3,513,000 and $6,487,000, respectively, which equaled the net loss
for the respective periods. For the quarter and six months ended June 30, 2000,
total comprehensive loss was $2,138,000 and $4,191,000, respectively which
consisted of a net loss of $1,947,000 and $3,840,000 and unrealized holding
losses on investments of $191,000 and $351,000, respectively.
8. Net Loss Per Share
In accordance with Statement of Financial Accounting Standard No. 128,
"Earnings Per Share", the Company has reported both basic and diluted net loss
per common share for each period presented. Basic net loss per common share is
computed on the basis of the weighted-average number of common shares
outstanding for the period. Diluted net loss per common share is computed on
the basis of the weighted-average number of common shares plus dilutive
potential common shares outstanding. Dilutive potential common shares are
calculated under the treasury stock method. Securities that could potentially
dilute basic income per share consist of outstanding stock options and warrants
and convertible preferred stock. Net loss available to common stockholders
includes net loss and preferred stock dividends. As the Company had a net loss
available to common stockholders in each of the periods presented, basic and
diluted net loss per common share are the same. All outstanding warrants and
stock options to purchase common shares were excluded because their effect was
anti-dilutive. Potential common shares consisted of options and warrants to
purchase approximately 7.4 million and 0.5 million common shares at June 30,
2001 and 2000, respectively, and preferred stock and long-term debt convertible
into approximately 6.0 and 0.9 million common shares at June 30, 2001 and 2000,
respectively.
9. Segment Information
Operating segments are revenue-producing components of the enterprise for
which separate financial information is produced internally for the Company's
management. Under this definition, the Company operated, for all periods
presented, as a single segment.
10. Legal Proceedings
On June 16, 1999, International Interest Group, Inc. filed suit against the
Company and Mr. J. Anthony Forstmann, a former director and chairman of SAFLINK,
in the Superior Court of the State of California for the County of Los Angeles
(Civil Action No.: BC212033). This lawsuit relates to the Company's alleged
failure to perform under the terms of a settlement agreement relating to a prior
lawsuit filed by IIG. The complaint alleged three causes of action: (i) the
Company's breach of contract with IIG causing IIG to sustain damages; (ii)
fraud; and (iii) recission by IIG against the Company and Mr. Forstmann. IIG's
cause of action for recission and IIG's cause of action for fraud were dismissed
with prejudice by the trial court during the first quarter of 2000. However,
the appellate court reinstated IIG's fraud cause of action in August 2000. On
November 7, 2000, IIG filed a third amended complaint adding causes of action
for fraud by concealment, negligent misrepresentation and breach of fiduciary
duties. IIG is seeking actual and consequential damages and
10
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
attorneys' fees in connection with its cause of action for breach of contract;
actual, consequential and punitive damages in connection with its fraud causes
of action and its breach of fiduciary duties cause of action; and actual and
consequential damages in connection with its negligent misrepresentation cause
of action. Each party to this action filed a motion for summary judgment with
the court on March 29, 2001, but the court has not ruled on such motions as of
August 15, 2001. Trial has been indefinitely stayed pending an interim appeal.
The Company does not believe the claims have any merit and it intends to
vigorously defend itself in this lawsuit.
11. Recently Issued Accounting Pronouncements
The Financial Accounting Standards Board (FASB) issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, in June 1998. This
statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the balance sheet and measure
those instruments at fair value. If certain conditions are met, a derivative may
be specifically designated as a hedge. The accounting for changes in the fair
value of a derivative depends on the intended use of the derivative and the
resulting designation. SFAS No. 133, as amended, is effective for all fiscal
quarters of fiscal years beginning after June 15, 2000. The adoption of this
statement on January 1, 2001 did not have an impact on the consolidated
financial statements.
In July 2001, the FASB issued Statement No. 141, Business Combinations, and
Statement No. 142, Goodwill and Other Intangible Assets. Statement No. 141
requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001 and is applicable to all purchase
method business combinations completed after June 30, 2001. Statement No. 141
also specifies criteria intangible assets acquired in a purchase method business
combination must meet to be recognized and reported apart from goodwill, noting
that any purchase price allocable to an assembled workforce may not be accounted
for separately. Statement No. 142 will require that goodwill and intangible
assets with indefinite useful lives no longer be amortized, but instead tested
for impairment at least annually in accordance with the provisions of Statement
No. 142. Statement No. 142 will also require that intangible assets with
definite useful lives be amortized over their respective estimated useful lives
to their estimated residual values, and reviewed for impairment in accordance
with SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of.
The Company is required to adopt the provisions of Statement No.141
immediately and Statement No. 142 effective January 1, 2002. Goodwill and
intangible assets acquired in business combinations completed before July 1,
2001 will continue to be amortized prior to the adoption of Statement No. 142.
Statement No. 141 will require upon adoption of Statement No. 142, that the
Company evaluate its existing intangible assets and goodwill that were acquired
in a prior purchase business combination, and to make any necessary
reclassifications in order to conform with the new criteria in Statement No. 141
for recognition apart from goodwill. Upon adoption of Statement No. 142, the
Company will be required to reassess the useful lives and residual values of all
intangible assets
11
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
acquired in purchase business combinations, and make any necessary amortization
period adjustments by the end of the first interim period after adoption. In
addition, to the extent an intangible asset is identified as having an
indefinite useful life, the Company will be required to test the intangible
asset for impairment in accordance with the provisions of Statement No. 142
within the first interim period. Any impairment loss will be measured as of the
date of adoption and recognized as the cumulative effect of a change in
accounting principle in the first interim period.
In connection with the transitional goodwill impairment evaluation,
Statement No. 142 will require the Company to perform an assessment of whether
there is an indication that goodwill is impaired as of the date of adoption. To
accomplish this the Company must identify its reporting units and determine the
carrying value of each reporting unit by assigning the assets and liabilities,
including the existing goodwill and intangible assets, to those reporting units
as of the date of adoption. The Company will then have up to six months from
the date of adoption to determine the fair value of each reporting unit and
compare it to the reporting unit's carrying amount. To the extent a reporting
unit's carrying amount exceeds its fair value, an indication exists that the
reporting unit's goodwill may be impaired and the Company must perform the
second step of the transitional impairment test. In the second step, the
Company must compare the implied fair value of the reporting unit's goodwill,
determined by allocating the reporting unit's fair value to all of it assets
(recognized and unrecognized) and liabilities in a manner similar to a purchase
price allocation in accordance with Statement No. 141, to its carrying amount,
both of which would be measured as of the date of adoption. This second step
is required to be completed as soon as possible, but no later than the end of
the year of adoption. Any transitional impairment loss will be recognized as
the cumulative effect of a change in accounting principle in the Company's
statement of earnings.
As of the date of adoption, the Company expects to have no unamortized
goodwill and unamortized identifiable intangible assets in the amount of
$4,439,000 which will be subject to the transition provisions of Statement Nos.
141 and 142. Amortization expense related to intangible assets was $112,000 and
$897,000 for the year ended December 31, 2000 and the six months ended June 30,
2001, respectively. Because of the extensive effort needed to comply with
adopting Statement Nos. 141 and 142, it is not practicable to reasonably
estimate the impact of adopting these Statements on the Company's financial
statements at the date of this report, including whether any transitional
impairment losses will be required to be recognized as the cumulative effect of
a change in accounting principle.
12. NASDAQ Proceedings
On April 20, 2001 the Company announced that it received a Nasdaq Staff
Determination on April 16, 2001 indicating that the Company failed to comply
with the minimum bid price requirement for continued listing set forth in
Marketplace Rule 4310(c)(4), and that its securities were, therefore, subject to
delisting from The Nasdaq SmallCap Market. On May 31, 2001 the Nasdaq Stock
Market suspended trading in the Company's common stock due to the inclusion of a
disclaimer opinion with respect to financial statements required to be certified
by the Company's independent accountants in the Company's Form 10-K. On June 7,
2001, the Company appeared at a hearing before a Nasdaq Listing Qualifications
Panel to appeal the Staff Determination. The Hearing
12
SAFLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Panel requested additional information, which the Company provided. On August 8,
2001, the Hearing Panel notified the Company that the Company had not met the
minimum bid price and net tangible asset/shareholder equity requirements of the
Nasdaq Marketplace Rules and that the Company's securities were delisted
effective with the open of the market on August 9, 2001. The Company is
considering an appeal of this determination. The stock is presently being quoted
on the Pink Sheets inter dealer quotation service under the symbol ESAF. The
Company is pursuing a listing on the Over The Counter Bulletin Board ("OTCBB").
There can be no assurances that the Company will obtain a listing on the OTCBB
or that any appeal proceedings will result in a relisting of the Company's
securities on the Nasdaq SmallCap Market.
13. Going Concern
The Company incurred net losses of $9.0 million, $3.9 million and $1.4
million and used cash of $7.2 million, $3.6 million and $723,000 in operating
activities in 2000, 1999, and 1998, respectively. The Company incurred
additional net losses of approximately $3.5 million and $6.5 million for the
quarter and six months ended June 30, 2001 and used cash of $4.8 million in
operating activities for six months ended June 30, 2001 compared to losses of
approximately $2.0 million and $3.8 million and used cash of $3.8 million for
the prior year comparable periods. At June 30, 2001, the Company has a net
working capital deficiency of $228,000 and has an accumulated deficit of $66.6
million. Although the Company has obtained proceeds from the Series E Preferred
Stock Financing, additional funding of at least $6.0 million is needed to
maintain its current level of operations through June 30, 2002. The Company must
seek additional funding available to it through the exercise of Series A and B
warrants issued in conjunction with the Series E Preferred Stock Financing. The
exercise of these warrants will be conditioned upon the price of the Company's
common stock being at sufficient levels to induce the Series A and B warrant
holders to exercise.
There can be no assurance that the Company will be able to raise additional
capital, achieve profitability, or generate cash from operations. If the
Company is unable to obtain additional financing in the near term, it will be
forced to severely curtail or possibly discontinue operations. The accompanying
financial statements have been prepared on the basis that the Company will be
able to meet its obligations as they become due and continue as a going concern.
14. Subsequent Events
On July 16, 2001 the Company entered into a lease agreement for office
space for its corporate headquarters and on August 6, moved its headquarters
from Redmond, Washington to Bellevue, Washington. The lease term is through
March 2003 with payments of approximately $9,300 per month for 17 months
beginning in November 2001 and provides rent concessions for the first two and a
half months of the Company's occupancy.
The Company has made certain advances totaling approximately $65,000 to
Jotter Technologies, Inc., subsequent to June 30, 2001 in return for an
unsecured promissory note dated August 16, 2001. The Company acquired the
assets of Jotter Technologies, Inc. in December 2000. Certain members of the
board of directors of Jotter Technologies, Inc. are either an officer or
director of the Company. The note is payable in full including accrued interest
on February 12, 2002 and bears interest at 12% per year.
At the Company's stockholders' meeting held on September 24, 2001, the
stockholders approved a reverse stock split of between seven-to-one and ten-to-
one with the exact ratio to be determined at the discretion of the Board of
Directors. The Board of Directors met on October 2, 2001 and determined the
ratio for the split to be seven-to-one. The effective date for the reverse stock
split was November 19, 2001. All stockholders of record as of that date received
one share of common stock for every seven shares owned of Company common stock.
Fractional interests were rounded to the next highest share. All share and per
share amounts have been restated in all periods presented to reflect the effects
of the reverse split. In addition, the Company's stock ticker symbol was changed
to SFLK effective November 19, 2001 as a result of the reverse stock split.
See the Company's 10-Q for the Quarter Ended September 30, 2001 for
Additional Subsequent events.
13
SAFLINK CORPORATION
MANAGMENT'S DISCUSSION AND ANALYSIS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Factors That May Affect Future Results
Except for the historical information contained herein, certain of the
matters discussed in this quarterly report are "forward-looking statements" as
defined in Section 21E of the Securities Exchange Act of 1934, as amended, which
involve certain risks and uncertainties which could cause actual results to
differ materially from those discussed herein. In addition to other information
contained in this quarterly report, the following factors, among others, may
have affected, and in the future could affect our actual results and could cause
future results to differ materially from those in any forward looking statements
made by or on behalf of the Company. Factors that could cause future results to
differ from expectations include, but are not limited to, the following:
. our need for additional funds to continue operations;
. control of the Company;
. our limited operating history and substantial accumulated net losses;
. technological and market uncertainty;
. rapid changes in technology;
. competition;
. our dependence upon software licensors;
. our ability to retain key employees and to attract high quality new
employees;
. shares eligible for future sale could adversely affect our ability to
raise capital and the market price for our stock;
. there is a limited public market for our common stock;
. the market price for our stock has been and may continue to be volatile;
. our exploration of an acquisition strategy with which the Company has no
experience;
. our dependence on significant growth in the biometrics market which is a
developing market;
. our marketing partners' ability to promote our products; and
. our failure to pay dividends.
These factors are discussed in greater detail in our Annual Report on Form 10-
K/A filed with the SEC on June 22, 2001.
A. Recent Events
As a result of $100,000 in bridge loan financing obtained in December
2001, the company believes it has sufficient funds to continue operations
through December 31, 2001. The Company is seeking to raise additional funds for
its short- and long-term operational needs by means of further bridge financing
and the exercise of outstanding warrants, but there can be no assurance that the
Company will be able to obtain such funds.
On April 20, 2001 the Company announced that it received a Nasdaq
Staff Determination on April 16, 2001 indicating that the Company failed to
comply with the minimum bid price requirement for continued listing set forth
in Marketplace Rule 4310(c)(4), and that its securities were, therefore,
subject to delisting from The Nasdaq SmallCap Market. On May 31, 2001 the
Nasdaq Stock Market suspended trading in the Company's common stock due to the
inclusion of a disclaimer opinion with respect to financial statements
required to be certified by the Company's independent accountants in the
Company's Form 10-K. On June 7, 2001, the Company appeared at a hearing before
a Nasdaq Listing Qualifications Panel to appeal the Staff Determination. The
Hearing Panel requested additional information, which the Company provided. On
August 8, 2001, the Hearing Panel notified the Company that the Company had
not
14
SAFLINK CORPORATION
MANAGMENT'S DISCUSSION AND ANALYSIS
met the minimum bid price and net tangible asset/shareholder equity requirements
of the Nasdaq Marketplace Rules and that the Company's securities were delisted
effective with the open of the market on August 9, 2001. The Company is
considering an appeal of this determination. The stock is presently being quoted
on the Pink Sheets inter dealer quotation service under the symbol ESAF. The
Company is pursuing a listing on the Over The Counter Bulletin Board ("OTCBB").
There can be no assurances that the Company will obtain a listing on the OTCBB
or that any appeal proceedings will result in a relisting of the Company's
securities on the Nasdaq SmallCap Market.
In May 2001, we announced that we received $440,000 of additional bridge
financing in April and May 2001. Such funds were received on substantially
similar terms to those of the $2.9 million bridge financing completed in
November 2000 and March 2001. We issued unsecured notes, which bear interest at
12% per annum and mature in May 2001. Holders of the notes will be entitled to
participate in any financing that we undertake prior to the maturity date of the
notes by electing to receive, in lieu of repayment of the note and accrued
interest, securities of the same class and on the same terms as issued in that
financing. We also issued warrants to purchase 15,715 shares of common stock
for $10.50 per share. In April 2001, we received $125,000 upon the exercise of
warrants to purchase 35,715 shares of Common Stock at $3.50 per share.
On June 5, 2001, the Company issued 40,000 shares of Series E convertible
preferred stock and common stock purchase warrants for an aggregate price of $8
million, including the conversion of certain bridge notes, in a private
placement to accredited investors. The Series E convertible preferred stock
issued in this transaction is convertible into 5,714,309 shares of Company
common stock at any time until June 5, 2004. The preferred stock will not pay a
dividend and holders of the stock will have no voting rights other than the
right to elect two members of the Board of Directors and certain protective
voting rights. In addition, investors received Series A warrants to purchase
5,714,309 shares of common stock at $1.75 per share exercisable until June 5,
2002, after which the exercise price will increase to $3.50 per share and will
be exercisable until June 5, 2006. Series B warrants to purchase approximately
639,376 shares of common stock at $1.75 per share until the later of December 5,
2001 or 120 days after the effective date of the registration of the common
stock underlying such warrants were issued to investors purchasing more than $1
million of Series E convertible preferred stock. After allocation of the
proceeds to the warrants based upon the relative fair values of the preferred
stock and the warrants, the Company recorded a beneficial conversion feature in
the form of a dividend on the Series E convertible preferred stock in the amount
of $1,485,000. In accordance with EITF 98-5 and 00-27, the beneficial conversion
feature was based on the intrinsic value and calculated as the difference
between the value allocated to the preferred stock after the consideration of
the warrants, and the fair value of the common stock into which the preferred
stock is convertible. Pending receipt of stockholder approval of the financing,
holders of the Series E convertible preferred stock and warrants will not be
able to convert such securities into more than 19.99% of the number of shares of
common stock outstanding prior to the transaction.
15
SAFLINK CORPORATION
MANAGMENT'S DISCUSSION AND ANALYSIS
Debt holders representing $2.3 million in bridge notes and accrued interest
at the time of closing exercised their right to participate in the financing.
RMS Limited Partnership agreed to extend its $1 million bridge note and accrued
interest for an additional 12 months and the Company agreed to apply 50% of any
proceeds received from the exercise of Series A and Series B warrants towards
principal and interest payments during the extension period. The remaining
$203,000 in outstanding bridge notes and accrued interest were repaid from the
proceeds of the financing.
On July 27, 2001, the Company entered into a modification agreement (the
"Modification Agreement") with certain purchasers of the Series E Preferred
Stock and Series A and B warrants (the "warrants") in order to amend certain
terms of the Securities Purchase Agreement and the Registration Rights Agreement
relating to the Preferred Stock and Warrants which were purchased on June 5,
2001 for an aggregate purchase price of $8.0 million (the "Financing"). Under
the Modification Agreement, the parties agreed to amend, among other things,
certain terms of the Certificate of Designation, Preferences and Rights of the
Series E preferred stock ("Certificates of Designation"), subject to stockholder
approval.
In particular, SAFLINK entered into the Modification Agreement to extend
certain dates by which SAFLINK had committed to meet obligations with respect to
the purchasers and to eliminate those features of the Preferred Stock and
Warrants that would prevent the proceeds from the Financing to be treated as
permanent equity for financial accounting purposes. These revisions, among other
things, narrow the existing penalties for the Company in the event the Company
fails to register the common stock underlying the Preferred Stock and Warrants,
extend the deadline by which the Company must register this common stock, and
limit the existing rights of the holders of the Preferred Stock and certain
holders of the Warrants by allowing a cash or stock penalty to be paid only in
the event of certain types of acquisitions. Certain provisions of the
Modification Agreement became effective immediately upon execution by two-thirds
of the purchasers of the Preferred Stock; other provisions, including any
amendments to the Certificate of Designation, will only become effective upon
receipt of stockholder approval of the Financing, the reverse stock split, and
the amendment to the Certificate of Designation at the Company's next
stockholder meeting.
In connection with the financing, as modified, the Company has agreed to
seek stockholder approval at its next annual stockholders meeting for (i) the
issuance of common stock upon conversion of the Series E preferred stock and
warrants issued in the financing, (ii) a new stock option plan, (iii) a reverse
split of its common stock sufficient to allow the Company to meet NASDAQ
continued listing requirements (and in any event not less than 1:5), (iv)
the issuance of common stock to Jotter Technologies, Inc. upon conversion of the
balance of the $1.7 million note payable issued to Jotter as partial
consideration for the intellectual property and fixed assets acquired from
Jotter on December 15, 2000, and (v) amendment of the Certificate of
Designation.
Under the current terms of the financing, as modified, the Company agreed
to file a registration statement with the Securities and Exchange Commission to
register the shares of common stock issuable upon exercise of the warrants and
conversion of the preferred stock. If such registration statement is not
declared effective within 60 days of closing or by December 31, 2001, (depending
on the form of registration statement filed), such registration is suspended, or
the Company's common stock is not listed or included for quotation on Nasdaq or
another exchange after being so listed or included, the Company will be required
to pay a 1.5% cash penalty per month to the purchasers of the Series E preferred
stock and warrants. In addition, if the registration statement is not declared
effective by the Securities and Exchange Commission within 160 days after the
closing of this transaction, holders of the Series E preferred stock will be
entitled to redeem for $250 per share in cash any of their then outstanding
shares of Series E preferred stock. Furthermore, the expiration dates and
pricing of the Series A and B Warrants may be adjusted depending on the timing
of a registration statement being declared effective. In the event the Company
was merged or acquired, the holders of the Series E preferred stock have a right
to a cash redemption of $250 per share and the holders of the Series A and B
warrants have a cash redemption right based on a Black-Scholes calculated
formula amount. This Black-Scholes calculated formula amount is estimated to be
approximately $0.17 and $0.06 per share for the Series A and B warrants,
respectively, at June 30, 2001. Under the Modification Agreement, subject to
stockholder approval of certain proposals at the Company's next stockholder
meeting, the above-mentioned provision relating to a cash penalty in the event
of a registration failure will be modified so that the listing suspension
penalty is eliminated and that upon a registration failure the conversion price
of the Series E Preferred Stock will be reduced by 20% and reduced an additional
1.5% for each month thereafter the registration failure continues. In addition,
subject to stockholder approval of certain proposals at the next stockholder
meeting, the right of holders of the Series E Preferred Stock to require
redemption in the event of a registration failure will be eliminated. Moreover,
subject to stockholder approval of certain proposals at the next stockholder
meeting, the existing rights of holders of the Series E Preferred Stock and
certain holders of the Series A and B Warrants will be limited to allow cash or
stock penalties to be paid only in the event of certain types of acquisitions.
In conjunction with the Series E Preferred Stock financing, the Company
negotiated the following:
. Obligations totaling approximately $495,000 were forgiven or converted into
notes payable in consideration for receiving payment of remaining
outstanding amounts subsequent to the financing. In accordance with
Statement of Financial Accounting Standards No.15, Accounting by Debtors
and Creditors for Troubled Debt Restructuring, the forgiveness effectively
represents a modification of terms of the debt and signifies the
restructuring of debt. The gain realized on the restructuring is classified
as an extraordinary item in the accompanying
16
SAFLINK CORPORATION
MANAGMENT'S DISCUSSION AND ANALYSIS
statement of operations for the three and six months ending June 30, 2001.
Subsequent to the financing, the reduced amounts were paid in full
satisfaction of the obligations.
. After payment of a $100,000 lease termination fee, the terms of the lease
for the Company's corporate offices were modified to provide for a
month-to-month tenancy, terminable by either party upon 20 days notice. The
Company gave notice to terminate the lease and has entered into a new lease
agreement for its corporate headquarters (See Note 14). The Company also
modified the terms of warrants previously issued to its landlord by
reducing the exercise price on 3,572 warrants from $21.00 to $1.40 per
share, extended the original expiration date from May 18, 2005 to May 31,
2006 and granted registration rights to the warrant holder. Accordingly,
the Company has classified the $65,000 value associated with the warrants
outside of stockholders' equity. Once the registration rights obligation
has been satisfied, the amounts will be classified as stockholders' equity.
. Extension of the maturity date of the $1 million bridge note payable to RMS
Limited Partnership to May 12, 2002. In addition, the Company agreed to
apply 50% of any proceeds received from the exercise of warrants issued in
the Series E Preferred Stock financing towards principal and interest
payments during the extension period.
. Issuance of placement agent warrants to purchase 428,575 shares of common
stock for $1.40 per share exercisable until June 5, 2006. The estimated
value of the warrants of $566,000 has been treated as an offering cost and
offset against the proceeds received from the Series E Preferred Stock.
17
SAFLINK CORPORATION
MANAGMENT'S DISCUSSION AND ANALYSIS
The Company has made certain advances totaling approximately $65,000 to
Jotter Technologies, Inc., subsequent to June 30, 2001 in return for an
unsecured promissory note dated August 16, 2001. The Company acquired the
assets of Jotter Technologies, Inc. in December 2000. Certain members of the
board of directors of Jotter Technologies, Inc. are either an officer or
director of the Company. The note is payable in full including accrued interest
on February 12, 2002 and bears interest at 12% per year.
B. Results of Operating Activities
The Company incurred net losses attributable to common stockholders of
approximately $5.0 million and $8.0 million for the three-month and six-month
periods ended June 30, 2001, respectively as compared to losses of approximately
$2.1 million and $4.1 million for the prior year comparable periods. The
increase in net loss attributable to common stockholders for the three months
ended June 30, 2001 of $2,926,000 was primarily due to increases in professional
services related to the Company's financial difficulties and fund raising
efforts ($283,000) and amortization of intangible assets acquired from Jotter
Technologies in December 2000 ($457,000), and increases in restructuring and
relocation expenses ($761,000) partially offset by decreases in personnel
expense ($341,000). Sales and marketing expenses decreased to $213,000 for the
quarter ended June 30, 2001 from $424,000 for the quarter ended June 30, 2000
due a lack of cash available to fund marketing efforts. We incurred net interest
expense of $379,000 on bridge loans and the loan payable to Jotter for the
quarter ended June 30, 2001 compared to interest and other income of $43,000 for
the quarter ended June 30, 2000. Additionally, after allocation of the proceeds
of our Series E preferred stock financing based upon the relative fair values of
the preferred stock and the warrants, we recorded a beneficial conversion
feature in the form of a dividend on the Series E convertible preferred stock in
the amount of $1,485,000. The beneficial conversion feature was based on the
intrinsic value and calculated as the difference between the value allocated to
the preferred stock after the consideration of the warrants, and the fair value
of the common stock into which the preferred stock is convertible. The increase
in net loss attributable to common stockholders for the six months ended June
30, 2001 of $3,884,000 was primarily due to increases in professional services
related to the Company's financial difficulties and fund raising efforts
($670,000) and amortization of intangible assets acquired from Jotter
Technologies in December 2000 ($897,000), and increases in restructuring and
relocation expenses ($673,000) partially offset by decreases in personnel
expense ($537,000). Sales and marketing expenses decreased to $388,000 for the
six months ended June 30, 2001 from $869,000 for the six months ended June 30,
2000 due a lack of cash. We incurred net interest expense of $652,000 on bridge
loans and the loan payable to Jotter for the quarter ended June 30, 2001
compared to interest and other income of $104,000 for the six months ended June
30, 2000.
The primary effect of the acquisition of Jotter on our operations is the
increase in the amortization of intangible assets related to the acquisition for
the six months ended June 30, 2001 in the amount of approximately $862,000. In
addition, we incurred interest expense related to the Jotter note in the amount
of approximately $33,000 for the six months ended June 30, 2001. We also added a
total of 21 staff with a monthly cost of approximately $100,000. We discontinued
development of the Jotter technology and transitioned the development efforts
related to our biometric software to the Jotter staff in early 2001, thus the
costs associated with Jotter and its technology are not specifically
identifiable. We recognized no revenue from sales of Jotter technology for the
six months ended June 30, 2001. Future direct revenues derived from the Jotter
technology will be dependent on the availability of funding for further
development and marketing efforts. Management has postponed these efforts in
order to focus our resources on the development and marketing of our products in
the corporate enterprise network environment. Subsequent to the impairment
charges noted below, we do not expect ongoing costs related to the acquisition
to be significant.
During the quarter ended September 30, 2001, SAFLINK performed an
impairment assessment of intangible assets recorded in connaction with the
Jotter acquisition. The assessment was performed primarily due to
o the fluctuations and declines in our stock price,
o the continuous decline in the technology sector,
o the belief that this trend may continue for an indefinite period, and
o a change in our strategic direction that limits further integration
and development of the Jotter technology into our current and
anticipated product offerings due to current resource limitations.
As a result, present expectation related to the Jotter technology indicate
significant under performance as compared to original plans, and estimated
future cash flows related to this technology have been determined to be
negligible. We determined that the carrying value of the intangible assets was
not recoverable and recognized an impairment loss during the quarter ended
September 30, 2001, of approximately $4.2 million relating to the remaining net
carrying value of the intangible assets acquired. The impairment charge is
comprised of approximately $3.1 million of developed product technology,
approximately $600,000 of assembled workforce and approximately $500,000 of
sales channel customer relationships. Management determined the amount of the
impairment charge by comparing the carrying value of the intangible assets to
their fair value. Management determined the fair value of the development
product technology and sales channel customer relationships intangible assets
based on the discounted cash flow methodology, which is based upon converting
expected future cash flows to present value using a discount rate reflecting
SAFLINK's average cost of funds. The assembled workforce intangible asset fair
value was determined using a replacement cost approach, which is based on the
price a company would pay to replace the workforce.
Revenue and Cost of Revenue
Revenue of $121,000 for the three months ended June 30, 2000 decreased
approximately $342,000 (74%) from revenue of approximately $463,000 for the
three months ended June 30, 2000 while revenue of $294,000 for the six months
ended June 30, 2001 decreased approximately $585,000 (67%) from revenue of
$879,000 for the six months ended June 30, 2000. Our ability to close new
business during the quarter and six months ended June 30, 2001 was seriously
reduced by the lack of funds available for sales and marketing activities.
18
SAFLINK CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
The approximately $328,000 and $517,000 increases in cost of revenue
for the three and six months ended June 30, 2001 was primarily attributable to
amortization of the intangible assets acquired in conjunction with the Jotter
acquisition in the amount of $318,000 and $636,000 for the three and six months
ended June 30, 2001 for which there is no prior year comparable expense.
The Company's gross margin (deficit) percentages for the three and six
month periods ended June 30, 2001 were approximately (245%) and (175%),
respectively compared to approximately 81% and 67% for the comparable periods of
the prior year. The decreases for the three and six months ended June 30, 2001
are primarily due to changes in the product mix as the Company sold higher
levels of software in the comparable previous year periods and the amortization
of the intangible assets of Jotter mentioned previously.
Operating Expenses
Total operating expenses for the three months ended June 30, 2001 increased
approximately $834,000 (35%) to approximately $3.2 million from approximately
$2.4 million for the same period in 2000. Included in the three month results
are approximately $0.9 million of restructuring costs consisting of lease
termination costs ($150,000) the write off of certain leasehold improvements and
fixed assets ($379,000), and severance costs related to terminated employees,
($344,000). The Company reduced its workforce in June 2000 by approximately 42%
and terminated the lease for its corporate headquarters in its efforts to reduce
its operating costs. The remaining difference was primarily due to increases in
professional services related to the Company's Nasdaq proceedings and additional
public company related costs somewhat offset by decreases in sales and marketing
and product development costs.
Total operating expenses for the six months ended June 30, 2001 increased
approximately $1.1 million (25%) to approximately $5.7 million from
approximately $4.5 million for the comparable prior year period. The increase is
due primarily to the restructuring costs mentioned in the preceding paragraph
($0.9 million). The remaining increase of approximately $300,000 was primarily
due to increases in professional services related to the Company's Nasdaq
proceedings and additional public company related costs somewhat offset by
decreases in sales and marketing and product development costs.
The following table provides a breakdown of the dollar and percentage
changes in operating expenses for the three and six months ended June 30, 2001,
as compared to the same periods in 2000:
Three Months Six Months
(Dollars in thousands) Increase Increase Increase Increase
(Decrease) (Decrease) (Decrease) (Decrease)
-------------- -------------- -------------- --------------
Product development $ (316) (29%) $ (303) (15)%
Amortization of intangible assets 122 *N/M 244 *N/M
Sales and marketing (211) (50) (481) (55)
Restructuring and relocation 761 679 673 337
General and administrative 478 65 1,016 73
-------------- -------------- -------------- --------------
$ 834 35% $1,149 25%
============== ============== ============== ==============
*N/M - Not meaningful
19
SAFLINK CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
Product Development -The decrease in product development costs for both the
quarter and six months ended June 30, 2001 is primarily due to the decrease in
external contractors used in development by the Company. The Company has reduced
its staff by approximately 13 staff members in product development during June
2001, that we expect will provide cost reductions in the amount of approximately
$70,000 per month. We expect to continue to incur product development expenses,
but at a reduced level for the near term, in order to conserve cash as we focus
our efforts on consummating sales of existing products to identified sales
prospects.
Sales and Marketing - The decrease in sales and marketing expenses for both the
quarter and six months ended June 30, 2001 was primarily due to decreases in
employee expenses, travel, and advertising expenses due to our need to conserve
cash while we focused our efforts on securing needed working capital. We
decreased the staff by two staff members in June 2001 resulting in ongoing
savings of approximately $13,000 per month. The sales cycle for our products has
taken longer to develop than management anticipated due to, among other things,
the lack of industry standards and acceptance by the commercial market, the cost
of hardware associated with the technology, and the extended period of time
potential customers require to test, evaluate and pilot applications. However,
we believe that a convergence of factors, including recent decreases in hardware
costs as well as the development of industry standards, will lead to greater
market acceptance of biometric security solutions in the foreseeable future.
While we intend to maintain tight control over sales and marketing expenses in
the near term as we focus our efforts to consummate sales to currently
identified prospects, we expect our sales and marketing expenses to increase
over the longer term as the market for our products and services develops.
General and Administrative - The increase in general and administrative expenses
for the quarter and six months ended June 30, 2001 was primarily due to
increases in professional services related to the Company's financial
difficulties and fund raising efforts. The Company has implemented a concerted
cost reduction effort while it focuses its efforts on consummating sales to
already identified sales prospects.
B. Liquidity and Capital Resources
Working Capital
As a result of $100,000 in bridge loan financing obtained in December 2001, the
company believes it has sufficient funds to continue operations through December
31, 2001. The Company is seeking to raise additional funds for its short- and
long-term operational needs by means of further bridge financing and the
exercise of outstanding warrants, but there can be no assurance that the Company
will be able to obtain such funds.
Cash and working capital (deficit) as of June 30, 2001 were approximately
$2.3 million and $(228,000), respectively, compared to approximately $1.1
million and $(3.3 million), respectively, as of December 31, 2000. The increase
in the Company's cash and working capital as of June 30, 2001 compared to
December 31, 2000 was primarily due to the receipt of proceeds from the Series E
Preferred Stock Financing offset by payments and settlements to vendors and net
operating losses, partially offset by proceeds of approximately $125,000 from
the exercise of warrants and approximately $31,000 upon the exercise of employee
stock options during the six months ended June 30, 2001.
We expended cash in our operations, including capital expenditures and debt
repayments, during the six months ended June 30, 2001 at the rate of
approximately $850,000 per month. For the three months ended September 30, 2001,
our rate of cash utilization has been reduced to approximately $550,000 per
month due to reductions in staffing levels, reductions in rent expense and
curtailing of overhead. Our anticipated cash needs to fund our working capital
and debt service requirements are anticipated to be approximately $9.0 million
through December 31, 2002. To date, we have had no success in raising these
funds. Additionally, the terms of our recent financing prohibit us from raising
additional capital by selling equity securities that are discounted or that have
a variable conversion price until 180 days after the effective date of the
registration statement of which this prospectus forms a part. After December 31,
2002, our need for additional liquidity will be primarily to fund our working
capital requirements. In the next three to six months, we anticipate that
additional funding will be available through the exercise of the outstanding
warrants relating to the Series E financing. The exercise of the warrants will
depend upon the price of our common stock being at a sufficient level to induce
the Series A and Series B warrant holders to exercise. We are also exploring the
possibility of a business combination with a partner with adequate resources to
sustain our operations. In the longer term, a combination of additional debt or
equity financing and revenue growth will be required to sustain our operations.
If we are unable to obtain sufficient additional funding through the exercise of
warrants, or execution of a business combination, we will need to significantly
curtail or discontinue our operations.
Even though our recent financing is completed, we will require significant
additional funds to continue our operations into the year 2002. We do not
believe that our existing working capital, together with anticipated cash flows
from sales under current contracts will be sufficient to meet our working
capital needs for the next twelve months. Options we are reviewing to obtain
such additional financing include, but are not limited to the receipt of
proceeds from outstanding warrants, the sale and issuance of additional stock,
the sale and issuance of debt, the sale of certain of our assets and entering
into an additional strategic relationship or relationships to either obtain the
needed funding or to create what we believe would be a better opportunity to
obtain such funds. The failure to obtain such additional funds could cause us to
curtail operations. Even if such additional funding is obtained, there is no
assurance that we will be able to generate significant sales of our products or
services, or, if we are able to consummate signficant sales, that any such sales
would be profitable.
20
SAFLINK CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
Dividends
Since our incorporation, we have not paid or declared dividends on our
Common Stock, nor do we intend to pay or declare cash dividends on our Common
Stock in the forseeable future.
21
SAFLINK CORPORATION
QUANTITIVE AND QUALITATIVE DISCLOSURES
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market rate risk for changes in interest rates relates
primarily to the $21,000 time certificates of deposit included in our investment
portfolio. Investments in fixed rate earning instruments carry a degree of
interest rate risk as their fair market value may be adversely impacted due to a
rise in interest rates. As a result, our future investment income may fall
short of expectations due to changes in interest rates. We do not use any
hedging transactions or any financial instruments for trading purposes and we
are not a party to any leveraged derivatives.
The Company maintains an office and currently has 8 employees located in
Canada. Expenses related to this office are incurred in its local currency. As
exchange rates vary, transaction gains or losses will be incurred and may vary
from expectations and adversely impact overall profitability. If in 2001, the
US dollar uniformly changes in strength by 10% relative to the currency of the
foreign operations, our operating results would likely not be significantly
affected.
22
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
On June 16, 1999, International Interest Group, Inc. filed suit against the
Company and Mr. J. Anthony Forstmann, a former director and chairman of SAFLINK,
in the Superior Court of the State of California for the County of Los Angeles
(Civil Action No.: BC212033). This lawsuit relates to the Company's alleged
failure to perform under the terms of a settlement agreement relating to a prior
lawsuit filed by IIG. The complaint alleged three causes of action: (i) the
Company's breach of contract with IIG causing IIG to sustain damages; (ii)
fraud; and (iii) rescission by IIG against the Company and Mr. Forstmann. IIG's
cause of action for rescission and IIG's cause of action for fraud were
dismissed with prejudice by the trial court during the first quarter of 2000.
However, the appellate court reinstated IIG's fraud cause of action in August
2000. On November 7, 2000, IIG filed a third amended complaint adding causes of
action for fraud by concealment, negligent misrepresentation and breach of
fiduciary duties. IIG is seeking actual and consequential damages and
attorneys' fees in connection with its cause of action for breach of contract;
actual, consequential and punitive damages in connection with its fraud causes
of action and its breach of fiduciary duties cause of action; and actual and
consequential damages in connection with its negligent misrepresentation cause
of action. Each party to this action filed a motion for summary judgment with
the court on March 29, 2001, but the court has not ruled on such motions as of
August 9, 2001. Trial has been indefinitely stayed pending an interim appeal.
The Company does not believe the claims have any merit and it intends to
vigorously defend itself in this lawsuit.
Item 2. Changes in Securities
On March 13, 2001, the Company issued 728,572 shares of its Common Stock
to Jotter Technologies Inc. pursuant to the December 15, 2000 asset purchase
agreement between Jotter and the Company. The shares were issued pursuant to an
exemption by reason of Regulation D of the Securities Act of 1933, as amended.
The issuance was made without general solicitation of advertising. The investor
was a sophisticated investor with access to all relevant information.
On March 13, 2001, the Company issued a warrant to purchase up to 8,929
shares of its Common Stock, $.01 par value, as partial consideration for a
bridge loan. The warrant was fully vested on grant and is exercisable until
June 30, 2006. The exercise price of $10.50 per share was greater than the
closing price of the Common Stock on the date of grant. The warrant was issued
pursuant to an exemption by reason of Section 4(2) of the Securities Act of
1933, as amended. The issuance was made without general solicitation or
advertising. The investor was a sophisticated investor with access to all
relevant information.
On March 21, 2001, the Company issued warrants to purchase up to 2,456
shares of its Common Stock, $.01 par value, as partial consideration for two
bridge loans. The warrants were fully vested on grant and are exercisable until
June 30, 2006. The exercise price of $10.50 per share was greater than the
closing price of the Common Stock on the date of grants. The warrants were
issued pursuant to an exemption by reason of Section 4(2) of the Securities Act
of 1933, as amended. The issuance was made without general solicitation or
advertising. The investors were sophisticated investors with access to all
relevant information.
23
On March 21, 2001, the Company issued 5,358 shares of its Common Stock,
$.01 par value, for proceeds of $18,750 upon exercise of investor warrants. The
shares were issued pursuant to an exemption by reason of Section 4(2) of the
Securities Act of 1933, as amended. The issuance was made without general
solicitation or advertising. The investors were sophisticated investors with
access to all relevant information
On March 29, 2001, the Company issued a warrant to purchase up to 1,608
shares of its Common Stock, $.01 par value, as partial consideration for a
bridge loan. The warrant was fully vested on grant and is exercisable until
June 30, 2006. The exercise price of $10.50 per share was greater than the
closing price of the Common Stock on the date of grant. The warrant was issued
pursuant to an exemption by reason of Section 4(2) of the Securities Act of
1933, as amended. The issuance was made without general solicitation or
advertising. The investor was a sophisticated investor with access to all
relevant information.
On May 21, 2001 the Company announced that it had issued warrants to
purchase up to 15,715 shares of its Common Stock, $.01 par value as partial
consideration for a bridge loan. The warrants were fully vested on grant and
are exercisable through dates ending June 30, 2006. The exercise price of $10.50
per share was greater than the closing price of the Common Stock on the date of
grant. The warrant was issued pursuant to an exemption by reason of Section 4(2)
of the Securities Act of 1933, as amended. The issuance was made without general
solicitation or advertising. The investor was a sophisticated investor with
access to all relevant information.
On June 5, 2001, the Company issued 40,000 shares of Series E convertible
preferred stock and common stock purchase warrants for an aggregate price of $8
million, including the conversion of approximately $2.3 million in bridge notes
and accrued interest, in a private placement to accredited investors. The shares
were issued pursuant to an exemption by reason of Regulation D of the Securities
Act of 1933, as amended. The issuance was made without general solicitation or
advertising.The Series E convertible preferred stock issued in this transaction
is convertible into 5,714,309 shares of Company common stock at any time until
June 5, 2004. The preferred stock will not pay a dividend and holders of the
stock will have no voting rights other than the right to elect two members of
the Board of Directors. In addition, investors received Series A warrants to
purchase 5,714,309 shares of common stock at $1.75 per share exercisable until
June 5, 2002, after which the purchase price will increase to $3.50 per share
and will be exercisable until June 5, 2006. Series B warrants to purchase
approximately 639,376 shares of common stock at $1.75 per share until the
later of December 5, 2001 or 120 days after the effective date of the
registration of the common stock underlying such warrants were issued to
investors purchasing more than $1 million of Series E convertible preferred
stock.
In connection with the Series E financing, the Company issued placement
agent warrants to accredited investors to purchase 428,575 shares of common
stock at $1.40 per share exercisable until June 5, 2006. The warrants were
issued pursuant to an exemption by reason of Section 4(2) of the Securities Act
of 1933, as amended. The issuance was made without a general solicitation or
advertising.
In May 2001, the Company issued 35,715 shares of common stock to SDS
Merchant Fund, L.P. ("SDS") in consideration for $125,000 received from the
exercise of warrants issued to SDS in the November 2000 bridge financing. The
issuance was made pursuant to an exemption by reason of Section 4(2) of the
Securities Act of 1933. The issuance was made without general solicitation or
advertising. SDS is a sophisticated investor with access to all relevant
information.
In conjunction with the breach of the Anovea license agreement due to
delinquent payments, the Company negotiated extensions of payment terms through
the issuance of 2,858 warrants to purchase common stock at an exercise price of
$7.00 per share at any time until April 20, 2003; 2,858 warrants to purchase
common stock at an exercise price of $7.00 per share at any time until April 30,
2003; and an additional 1,429 warrants to purchase common stock at an exercise
price of $3.50 per share at any time until May 31, 2003. Also, on May 31, 2001,
the 5,716 warrants issued on April 20, 2001 and April 30, 2001 were repriced to
$3.50 per share.
Item 3. Defaults Upon Senior Securities
None.
24
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
3(i) Certificate of Designation, Preferences and Rights of Series E Preferred
Stock (incorporated by reference to the SAFLINK Corp. Form 10-K/A, dated
June 22, 2001).
10.1 Form of Securities Purchase Agreement by and between SAFLINK Corporation
and purchasers of Series E Preferred Stock, Dated June 5, 2001*
10.2 Form of Registration Rights Agreement by and between SAFLINK Corporation
and purchasers of Series E Preferred Stock, dated June 5, 2001*
10.3 Form of Series A Warrant dated June 5, 2001*
10.4 Form of Series B Warrant dated June 5, 2001*
10.5 Stockholders Voting Agreement dated May 25, 2001, by and between RMS and
Jotter (incorporated by reference to the Jotter Schedule 13D/A, dated June
15, 2001).
10.6 Severance Agreement, dated December 10,1998,as amended on May
15,2001,between SAFLINK Corporation and Jeffrey P. Anthony (incorporated by
reference to the SAFLINK Corp. Form 10-K/A, dated June 22, 2001).
10.7 Severance Agreement, dated January 5,2000,as amended on May 15,2001,between
SAFLINK Corporation and James W. Shepperd (incorporated by reference to the
SAFLINK Corp. Form 10-K/A, dated June 22, 2001).
10.8 Form of Modification Agreement dated July 27, 2001 between SAFLINK and
certain purchasers.*
10.9 Sublease Agreement dated July 16, 2001 between Motorola, Inc and SAFLINK
Corporation.*
* - previously filed
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K on April 19, 2001 regarding
the receipt of additional bridge financing.
The Company filed a Current Report on Form 8-K on June 6, 2001 regarding
the issuance 40,000 shares of a newly designated Series E convertible preferred
stock and common stock purchase warrants for an aggregate price of $8 million in
a private placement to accredited investors.
25
The Company filed a Current Report on Form 8-K on July 2, 2001 regarding
the consent of KPMG LLP.
The Company filed a Current Report on Form 8-K on August 20, 2001 regarding
the Modification Agreement and notification of delisting.
26
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.
SAFLINK CORPORATION
DATE: December 20, 2001 BY: /s/ STEVEN OYER
--------------------------------
Steven Oyer
Interim Chief Financial Officer
(Principal Financial Officer and
Principal Accounting Officer)
27