As filed with the U.S. Securities and Exchange Commission on February __, 2006
Registration No. 333-______
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM SB-2/A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
SMARTIRE SYSTEMS INC.
(Name of small business issuer in its charter)
Yukon Territory 3714 Not Applicable
(State or jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification No.)
150-13151 Vanier Place, Richmond, British Columbia, V6V 2J1
(604) 276-9884
(Address and telephone number of principal executive offices)
150-13151 Vanier Place, Richmond, British Columbia, V6V 2J1
(604) 276-9884
(Address of principal place of business or
intended principal place of business)
Al Kozak
President and Chief Executive Officer
SmarTire Systems Inc.
150-13151 Vanier Place
Richmond, British Columbia, V6V 2J1
(604) 276-9884
(Name, address and telephone number of agent for service)
Copy to:
Michael L. Pflaum, Esq.
Michael D. Helsel, Esq.
Greenberg Traurig, LLP
MetLife Building
200 Park Avenue - 14th Floor
New York, New York 10166
Tel: (212) 801-9200; Fax: (212) 801-6400
Approximate date of proposed sale to the public: From time to time after the
effective date of this registration statement.
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. |_|
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. |_|
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. |_|
1
If delivery of the prospectus is expected to be made pursuant to Rule 434, check
the following box. |_|
CALCULATION OF REGISTRATION FEE
==========================================================================================================================
Title of each class of Amount to be Proposed maximum Proposed maximum Amount of
securities registered offering price aggregate offering registration
to be registered(1) per unit(2) price fee(3)
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying 10%
Convertible Debentures 850,000,000 shares(4) $0.066 $56,100,000.00 $ 6,602.97
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants issued with 10%
Convertible Debentures 62,500,000 shares(5) $0.066 $ 4,125,000.00 $ 485.51
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying 5%
Convertible Debenture 53,571,429 shares(6) $0.066 $ 3,535,714.31 $ 416.15
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying 5%
Convertible Debentures 5,416,667 shares(7) $0.066 $ 357,500.02 $ 42.08
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying Series
A 5% Convertible Preferred Stock 400,000,000 shares(8) $0.066 $ 26,400,000.00 $ 3,107.28
- --------------------------------------------------------------------------------------------------------------------------
Common Stock issued under Placement
Agent Agreement 75,188 shares(9) $0.066 $ 4,962.41 $ 0.58
- --------------------------------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants issued with Investor
Relations Agreements 1,250,000 shares(10) $0.066 $ 82,500.00 $ 9.71
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Total Registration Fee $ 10,664.29
- --------------------------------------------------------------------------------------------------------------------------
There were 289,646,656 shares of our common stock issued and outstanding as of
December 31, 2005.
(1) This registration statement will also cover any additional shares of common
stock that will become issuable to prevent dilution by reason of any stock
dividend, stock split or other similar transaction effected without receipt of
consideration that results in an increase in the number of outstanding shares of
our common stock.
(2) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) under the Securities Act of 1933, based upon the average
of the high ($0.070) and low ($0.061)prices of our common stock on the OTC
Bulletin Board on January 4, 2006.
(3) Fee calculated in accordance with Rule 457(c) of the Securities Act.
Estimated for the sole purpose of calculating the registration fee and based
upon the average quotation of the high and low price of our common stock on
January 4, 2006.
(4) Represents the common stock that may be issued upon the conversion of
principal and interest under the 10% convertible debentures, issued June 23,
2005 and maturing June 23, 2008, as amended and restated on December 30, 2005.
Holders of the 10% convertible debentures may not elect to receive cash payments
of interest during their term.
(5) Represents the common stock issuable upon the exercise of 62.5 million
common stock purchase warrants, that were amended and restated as of December
30, 2005 and expire on June 23, 2010.
(6) Represents the common stock that may be issued upon the conversion of
principal under the 5% convertible debenture, issued May 20, 2005 and maturing
May 20, 2006.
(7) Represents the common stock that may be issued upon the conversion or
redemption of principal under the 5% convertible debentures, issued December 15,
2004 and maturing December 15, 2007.
(8) Represents the common stock that may be issued upon the conversion of the
series A 5% convertible preferred stock issued on March 22, 2005.
(9) Represents the common stock issued to a selling stockholder under a
placement agent agreement, dated June 23, 2005, in connection with our $100
million Standby Equity Distribution Agreement.
(10) Represents the common stock issuable upon the exercise of 1.25 million
common stock purchase warrants under two investor relations agreements. One
million common stock purchase warrants were issued on December 1, 2005 and
expire on November 30, 2010; 250,000 common stock purchase warrants were issued
on July 1, 2004 and expire on June 30, 2009.
2
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES
AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE
A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT
SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE
SECURITIES ACT OF 1933, OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a),
MAY DETERMINE.
The information in this prospectus is not complete and may be changed. Our
selling stockholders may not sell these securities until the registration
statement filed with the Securities and Exchange Commission is effective. This
prospectus is not an offer to sell these securities, and it is not soliciting
offers to buy these securities in any state where the offer or sale is not
permitted.
PROSPECTUS
SUBJECT TO COMPLETION, DATED FEBRUARY __, 2006
1,372,813,284 SHARES OF COMMON STOCK OF
SMARTIRE SYSTEMS INC.
This prospectus relates to the sale of up to 1,372,813,284 shares of our common
stock by certain persons who beneficially own shares of our common stock,
including Cornell Capital Partners, L.P. Please refer to "Selling Stockholders"
beginning on page 12. We are not selling any shares of common stock in this
offering and therefore will not receive any proceeds from this offering. We did,
however, receive proceeds from the sale of 5% and 10% convertible debentures and
series A 5% convertible preferred stock. We will also receive the proceeds from
any common stock we issue to the selling stockholders upon exercise of the
warrants. We have used and expect to use the proceeds received from the sale of
5% and 10% convertible debentures, the 5% series A convertible preferred stock
and the exercise of the warrants for general working capital purposes and
repayments on our preferred stock and convertible debentures. See "Use of
Proceeds" beginning on page 16.
There were 289,646,656 shares of our common stock issued and outstanding as of
December 31, 2005.
The selling stockholders may offer to sell the shares of common stock being
offered in this prospectus at fixed prices, at prevailing market prices at the
time of sale, at varying prices or at negotiated prices. We will pay the
expenses of registering these shares.
Our common stock is quoted on the OTC Bulletin Board under the symbol "SMTR."
The high and low bid prices for shares of our common stock on January 4, 2006,
were $0.070 and $0.061 per share, respectively, based upon bids that represent
prices quoted by broker-dealers on the OTC Bulletin Board. These quotations
reflect inter-dealer prices, without retail mark-up, mark-down or commissions,
and may not represent actual transactions. The selling stockholders and any
broker-dealer executing sell orders on behalf of the selling stockholders may be
deemed to be "underwriters" within the meaning of the Securities Act of 1933.
Commissions received by any broker-dealer may be deemed to be underwriting
commissions under the Securities Act of 1933.
AN INVESTMENT IN THESE SECURITIES INVOLVES A HIGH DEGREE OF RISK.
PLEASE CAREFULLY REVIEW THE SECTION TITLED "RISK FACTORS" BEGINNING ON PAGE 8.
Neither the SEC nor any state securities commission has approved or disapproved
of these securities or passed upon the adequacy or accuracy of this prospectus.
Any representation to the contrary is a criminal offense.
The Date of This Prospectus is February __, 2006
In considering the acquisition of the common stock described in this prospectus,
you should rely only on the information contained in this prospectus. We have
not authorized anyone to provide you with information different from that
contained in this prospectus. This prospectus is not an offer to sell, or a
solicitation of an offer to buy, shares of common stock in any jurisdiction
where offers and sales would be unlawful. The information contained in this
prospectus is complete and accurate only as of the date on the front cover of
this prospectus, regardless of the time of delivery of this prospectus or of any
sale of the shares of common stock.
3
TABLE OF CONTENTS
Page
----
PROSPECTUS SUMMARY.............................................................5
THE OFFERING...................................................................8
SUMMARY FINANCIAL DATA.........................................................8
RISK FACTORS...................................................................9
SELLING STOCKHOLDERS..........................................................12
USE OF PROCEEDS...............................................................16
PLAN OF DISTRIBUTION..........................................................17
DILUTION......................................................................18
MARKET FOR OUR COMMON STOCK AND RELATED STOCKHOLDER MATTERS...................18
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.....................19
DESCRIPTION OF BUSINESS.......................................................30
MANAGEMENT....................................................................40
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT................47
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS................................48
DESCRIPTION OF SECURITIES.....................................................48
LEGAL MATTERS.................................................................57
INTEREST OF NAMED EXPERTS AND COUNSEL.........................................57
EXPERTS ......................................................................57
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE..........................................................57
WHERE YOU CAN FIND MORE INFORMATION...........................................58
INDEX TO CONSOLIDATED FINANCIAL INFORMATION..................................F-1
4
PROSPECTUS SUMMARY
You should read the following summary together with the more detailed
information contained elsewhere in this prospectus, including the section titled
"Risk Factors" and our Financial Statements and the notes to the Financial
Statements regarding us and the common stock described in this offering. Unless
the context otherwise requires, "we," "our," "us" and similar phrases refer to
SmarTire Systems Inc. and its subsidiaries. All dollar amounts refer to U.S.
dollars unless otherwise indicated.
Overview
We develop and market technically advanced tire pressure monitoring systems
(TPMSs) for the transportation and automotive industries that monitor tire
pressure and tire temperature. Our TPMSs are designed for improved vehicle
safety, performance, reliability and fuel efficiency.
Although we currently sell only TPMSs for passenger cars, buses, recreational
vehicles, trucks and motorcycles, our vision is to become a preeminent provider
of wireless sensing and control systems for the vehicle industry. Our vision may
be extended to three basic types of systems: sensing, control and system
applications.
On September 5, 2005 we achieved registration to ISO/TS 16949:2002, the quality
management standard for the automotive and commercial vehicle industry
industries. The certification applies to our design and manufacture of wireless
sensing and control systems for the global transportation industry. Registration
to ISO/TS 16949:2002, provides confidence to automotive original equipment
manufacturer (OEM) customers that we have implemented processes to ensure robust
and reliable systems that meet customer requirements throughout all levels of
the organization
On October 12, 2005 we entered into a seven year marketing and distribution
agreement with DANA Corporation (DANA) through its Heavy Vehicle Technology and
Systems Group. Under the marketing and distribution agreement DANA will market
and sell SmarTire's tire monitoring systems to OEM customers throughout North
America, Mexico, Australia and New Zealand. We and DANA will collaborate on
marketing opportunities to meet the needs of their global customers and markets.
DANA is a leading Tier I supplier in the design and manufacture of commercial
vehicle drive train components for medium and heavy duty vehicles for sale to
OEMs and associated original equipment service and the independent aftermarket.
On November 21, 2005 we entered into a manufacturing agreement with Vansco
Electronics LP (Vansco). Under the agreement, Vansco will manufacture key
subsystems for SmarTire's wireless gateway family of products. Vansco
specializes in the design and manufacturing of electronic, electro-mechanical
and electro-hydraulic controls and instrumentation and offers engineering design
expertise in system integration, hardware, software, wire harness and
electronics packaging. Vansco provides global sales, applications engineering,
design, manufacturing and service support.
We have three wholly owned subsidiaries, namely, SmarTire Technologies Inc.,
SmarTire USA Inc. and SmarTire Europe Limited. SmarTire Technologies Inc. was
incorporated on June 3, 1988 under the laws of the Province of British Columbia,
and was the original developer of our patented technology. SmarTire USA Inc., a
Delaware corporation incorporated on May 16, 1997, is our exclusive marketing
agency for SmarTire in North America. SmarTire Europe Limited, a United Kingdom
corporation incorporated on February 25, 1998, is our exclusive sales and
distribution operation for Europe.
We are a "foreign private issuer," as such term is defined in Rule 3b-4 under
the Securities Exchange Act of 1934, as amended. However, we have elected to
file Annual Reports on Form 10-KSB, Quarterly Reports on Form 10-QSB and Current
Reports on Form 8-K with the SEC, and are not subject to the proxy rules under
Section 14 of the Exchange Act.
5
Sensing Applications
Our vision is to commercialize a wide array of sensors that are compatible with
our TPMSs for the vehicle industry. We developed a receiver module with Vansco
that functions as a "wireless gateway" that we began shipping to customers in
August 2005. This module can wirelessly receive signals from up to 256 new
sensors in addition to signals from tire pressure sensors. The data from these
sensors can then be placed on the vehicle, bus or on a display module. This
ensures that the driver, maintenance group or monitoring agencies have access to
the sensor data as required. In addition to tire pressure monitoring, customers
would have the ability to access far more data on their vehicle. This translates
to a higher value proposition to the customer, while giving us the ability to
sell more products.
Control Applications
A natural evolution of our product family is to use the "wireless gateway"
module to not only receive signals from sensors but to act on the data received.
The basic premise is based on using sensors to interpret a condition and then
have the "wireless gateway" module send a control signal to a device to perform
a specified action based on the sensor output. For example, when the "wireless
gateway" module receives data from a tire sensor it can control a "horn" to
provide an audible warning, activate a lamp or provide information to a vehicle
display control.
System Applications
System applications are created by utilizing the information obtained from
vehicle sensors to provide a total solution to the owner of a vehicle or fleet
of vehicles. This means that the data generated by the sensors is gathered by
the "wireless gateway" module and integrated with the overall maintenance and
monitoring system utilized by the customer. This integration allows maintenance
staff, owners and drivers to access all relevant sensor information and
warnings.
Government Regulations
Our products are subject to regulation by the government agencies responsible
for radio frequencies in each country that our TPMSs will be sold. For example,
in the United States, approval must be received from the Federal Communications
Commission for each product. Some countries require additional governmental
approvals in certain circumstances. We believe that we have all of the necessary
governmental approvals for our current TPMSs in our intended market countries.
As each new TPMS is introduced to the market, we intend to apply for the
necessary approvals.
Our direct measurement TPMSs generally exceed the standard for tire pressure
monitoring established by the National Highway Transportation Safety
Administration (NHTSA). We believe that auto manufacturers must accelerate their
implementation plans in order to meet these new NHTSA regulations, which will
create additional opportunities to market our products to OEMs in the automobile
industry. In addition, although the Transportation Recall Enhancement,
Accountability, and Documentation Act of 2000 (TREAD Act) only applies to
passenger automobiles, we believe that other motor vehicles, including medium
and heavy trucks, buses and motorcycles will be impacted by this legislation in
subsequent years. We also believe that compliance with the TREAD Act by
European, Japanese, Chinese and other automakers will accelerate the adoption of
TPMSs globally.
It is difficult to predict the magnitude of the expected sales increase or the
exact timing of the increase since our products will continue to face
competition from other TPMSs manufactured by our competitors, and the timing of
additional legislative initiatives on tire safety, if any, in the United States
and abroad remains uncertain. We expect that as TPMSs become standard equipment
for new passenger vehicles, demand for TPMSs as dealer installed options and
aftermarket products will gradually decline.
Going Concern
Our consolidated financial statements have been prepared assuming we will
continue as a going concern. We have experienced net losses of $18,211,523 for
the three-months ended October 31, 2005 and $14,291,681 for the fiscal year
ended July 31, 2005. These factors, among other things, raise substantial doubt
about our ability to continue as a going concern. Our financial statements do
not include any adjustment that might result from the outcome of this
uncertainty. Assurances cannot be given that adequate financing can be obtained
to meet our capital needs. If we are unable to generate profits and unable to
continue to obtain financing to meet our working capital requirements, we may
have to curtail our business sharply or cease operations altogether. Our
continuation as a going concern is dependent upon our ability to generate
sufficient cash flow to meet our obligations on a timely basis to retain our
current financing, to obtain additional financing, and, ultimately, to attain
profitability. Should any of these events not occur, we will be adversely
affected and we may have to cease operations.
6
Recent Financings
On December 30, 2005, we, Starome Investments Limited, Xentennial Holdings
Limited, Staraim Enterprises Limited, Cornell Capital Partners, Highgate House
Funds and LCC Global entered into Amendment No.1 to the Securities Purchase
Agreement, dated June 23, 2005, pursuant to which we amended and restated the
10% convertible debentures issued on June 30, 2005, in an aggregate principal
amount of $30 million. The conversion price of the outstanding principal under
the 10% convertible debentures is equal to the lesser of (i) $0.1125 (subject to
adjustment as outlined below) and (ii) 95.5% of the lowest closing bid price of
our common stock during the five trading days immediately preceding the
conversion. The conversion price of accrued and unpaid interest under the 10%
convertible debentures is 95.5% of the average of the closing bid prices of our
common stock for the five trading days immediately preceding the conversion of
any such interest by a holder into shares of our common stock. In the event of
any issuances of shares of common stock or rights, options, warrants or
securities convertible or exercisable into common stock at a price per share of
common stock less than the conversion price of the 10% convertible debentures,
the $0.1125 fixed conversion price of such convertible debentures will be
reduced to the lower purchase price. In addition, the conversion price of the
10% convertible debentures will be subject to adjustment in connection with any
subdivision, stock split, combination of shares or recapitalization. No
adjustment will be made as a result of issuances and exercises of options to
purchase shares of common stock issued for compensatory purposes pursuant to any
of our stock option or stock purchase plans.
As of December 31, 2005, there was $30,500,000 in outstanding principal and
accrued and unpaid interest under the 10% convertible debentures.
Sales of our common stock in the public market following this offering could
significantly lower the market price of our common stock. For example, if
holders of our 10% convertible debentures convert the entire amount of
outstanding principal, we would issue a minimum of 266,666,667 shares of common
stock. We estimate that the conversion of all of the interest may result in the
issuance of an additional 40 to 50 million shares of common stock (depending on
when interest is converted into common stock and the conversion price of the
interest at the time of conversion), which, when aggregated with the shares
issuable upon conversion of principal, would more than double our total
outstanding shares of common stock. This assumes that the conversion of
principal will occur at a price per share equal to $0.1125, when in fact such
price may be significantly lower due to market conditions at the time of
conversion. The issuance by us of such a large number of shares of common stock
will cause significant dilution.
In connection with the restructuring, on December 30, 2005, we amended and
restated the warrants issued pursuant to the Securities Purchase Agreement,
dated June 23, 2005, which were (i) the two five-year warrants to purchase an
aggregate of 58,337,500 shares of our common stock, at an exercise price of
$0.16 per share to Cornell Capital Partners, as trustee for LCC Global, and (ii)
a five-year warrant to purchase 4,162,500 shares of our common stock, at an
exercise price of $0.16 per share to Highgate House Funds, as trustee for LCC
Global, to effect the transfer of (i) 1,668,750 common stock purchase warrants
to Starome Investments, (ii) 16,668,750 common stock purchase warrants to
Xentenial Holdings and (iii) 4,162,500 common stock purchase warrants to Staraim
Enterprises. If after December 30, 2005, we issue or sell any shares of common
stock for a consideration per share less than a price equal to the exercise
price in effect immediately prior to such issuance or sale, then immediately
after such issue or sale the exercise price then in effect will be reduced to an
amount equal to such consideration per share. No adjustment will be made for,
provided such security is issued at a price that is greater than or equal to the
arithmetic average of the closing bid prices of our common stock for the ten
consecutive trading days immediately preceding the date of issuance, any of the
following: (i) any issuance by us of securities in connection with a strategic
partnership or a joint venture (the primary purpose of which is not to raise
equity capital), (ii) any issuance by us of securities as consideration for a
merger or consolidation or the acquisition of a business, product, license, or
other assets of another person or entity, (iii) any shares of capital stock or
other securities exercisable for or convertible into shares of capital stock
pursuant to a commitment arising on or prior to the date hereof and (iv) options
to purchase shares of common stock, provided certain conditions are met.
Corporate History
We were incorporated under the laws of the Province of British Columbia as
TTC/Truck Tech Corp. in September 1987. We were initially formed to develop and
market remote data sensing, transmission and processing products incorporating
patented technologies to satisfy emerging market requirements in the
transportation industry.
In December 1998, our common stock commenced trading on the Nasdaq Capital
Market. In March 1999, we voluntarily delisted our common stock from trading on
the Vancouver Stock Exchange. On May 28, 2003, our common stock ceased trading
on the Nasdaq Capital Market and is now quoted on the OTC Bulletin Board.
We were continued under the Business Corporations Act (Yukon Territory)
effective February 6, 2003. As a result, our Memorandum and Articles, which
constituted our constitutional documents while we were a British Columbia
company, have been superseded and replaced by Articles of Continuance filed with
the Yukon Registrar of Corporations under Section 190 of the Business
Corporations Act (Yukon Territory) and Bylaw No. 1, being a bylaw adopted by our
Board of Directors relating generally to the transaction of the business and
affairs of our company. Our continuance as a Yukon corporation was approved by
special resolution adopted by our shareholders at an annual and extraordinary
general meeting held on December 12, 2002. Effective December 10, 2004, we filed
a certificate of amendment with the Yukon Registrar of Corporations to our
Articles of Incorporation to change the number of our authorized shares of
common stock from 300,000,000 shares to an unlimited number of shares and to
authorize the issuance of 100,000 shares of preferred stock. On March 18, 2005,
we filed Articles of Amendment to our Articles of Incorporation that set forth
all the rights and preferences of our series A 5% convertible preferred stock.
As of the date hereof, we have issued 25,000 shares of series A 5% convertible
preferred stock to Cornell Capital Partners.
Corporate Information
Our principal executive offices are located at 150-13151 Vanier Place, Richmond,
British Columbia, V6V 2J1, and our telephone number is (604) 276-9884. Our
website is located at www.smartire.com. We are a "foreign private issuer," as
such term is defined in Rule 3b-4 under the Securities Exchange Act of 1934.
However, we have elected to file Annual Reports on Form 10-KSB, Quarterly
Reports on Form 10-QSB and Current Reports on Form 8-K with the SEC. Our SEC
filings are generally available to the public from our website. Information on
our website is not, and should not be considered to be, part of this prospectus.
7
THE OFFERING
This prospectus covers the sale by the selling stockholders named in this
prospectus of up to 1,372,813,284 shares of our common stock as follows: (i)
850,000,000 shares of common stock issuable to selling stockholders upon the
conversion of principal and interest under the 10% convertible debentures dated
June 23, 2005, as amended and restated on December 30, 2005; (ii) 62,500,000
shares of common stock issuable to selling stockholders assuming the exercise of
outstanding common stock purchase warrants, that were amended and restated as of
December 30, 2005 and expire on June 23, 2010, at an exercise price of $0.16;
(iii) 53,571,429 shares of common stock issuable to a selling stockholder upon
the conversion of principal under the 5% convertible debenture dated May 20,
2005; (iv) 5,416,667 shares of common stock issuable to selling stockholders
upon the conversion of principal under our 5% convertible debentures dated
December 15, 2004; (v) 400,000,000 shares of common stock issuable to a selling
stockholder upon the conversion of our series A convertible preferred shares;
(vi) 75,188 shares of our common stock issued to a selling stockholder under a
placement agent agreement in connection with our old $160 million Standby Equity
Distribution Agreement; and (vii) 1,250,000 shares of common stock issuable to
two selling stockholders under investor relations agreements assuming the
exercise of outstanding common stock purchase warrants.
There were 289,646,656 shares of our common stock issued and outstanding as of
December 31, 2005.
Use of Proceeds
We will not receive any of the proceeds from the sale of the shares of common
stock being offered for sale by the selling stockholders. We did, however,
receive proceeds from the sale of 10% and 5% convertible debentures and series A
5% convertible preferred stock. We will also receive the proceeds from any
common stock we issue to the selling stockholders upon exercise of the warrants.
We have used and expect to use the proceeds received from the sale of 5% and 10%
convertible debentures, the 5% series A convertible preferred stock and the
exercise of the warrants for general working capital purposes and repayments on
our preferred stock and convertible debentures. See "Use of Proceeds" beginning
on page 16.
Risk Factors
An investment in these securities involves a high degree of risk. See "Risk
Factors" beginning on page 8.
SUMMARY FINANCIAL DATA
The summary financial data presented below is derived from and should be read in
conjunction with our audited consolidated financial statements for the years
ended July 31, 2005 and July 31, 2004 and our unaudited consolidated financial
statements for the three-month periods ended October 31, 2005 and October 31,
2004 (in each case including the notes to those financial statements), which are
included elsewhere in this prospectus along with the section entitled
"Management's Discussion and Analysis or Plan of Operation" beginning on page
18.
- -------------------------------------------------------------------------------------
For the 3-Month For the 3-Month
Period Ended Period Ended
October 31, 2005 October 31, 2004
(unaudited) (unaudited)
- -------------------------------------------------------------------------------------
Revenue $ 592,866 $ 301,169
- -------------------------------------------------------------------------------------
Net Loss for the Period $(18,211,523) $ (2,383,900)
- -------------------------------------------------------------------------------------
Loss Per Share - basic and diluted $ (.06) $ (0.02)
- -------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------
As at As at
October 31, 2005 October 31, 2004
(unaudited) (unaudited)
- -------------------------------------------------------------------------------------
Working Capital $ 2,908,820 $ 2,494,264
- -------------------------------------------------------------------------------------
Total Assets $ 14,807,327 $ 7,410,823
- -------------------------------------------------------------------------------------
Total Share Capital $ 67,223,869 $ 63,553,832
- -------------------------------------------------------------------------------------
Deficit $(93,343,673) $(61,402,156)
- -------------------------------------------------------------------------------------
Total Stockholders' Equity(Deficiency) $ (8,577,636) $ 5,341,326
- -------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------
For the Year Ended For the Year Ended
July 31, 2005 July 31, 2004
- -------------------------------------------------------------------------------------
Revenue $ 1,463,460 $ 1,658,279
- -------------------------------------------------------------------------------------
Net Loss for the Period $(14,291,681) $(10,987,026)
- -------------------------------------------------------------------------------------
Loss Per Share - basic and diluted $ (0.06) $ (0.13)
- -------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------
As at As at
July 31, 2005 July 31, 2004
- -------------------------------------------------------------------------------------
Working Capital $ 7,510,569 $ 732,405
- -------------------------------------------------------------------------------------
Total Assets $ 33,284,543 $ 6,937,128
- -------------------------------------------------------------------------------------
Total Share Capital $ 66,695,717 $ 58,368,020
- -------------------------------------------------------------------------------------
Deficit $(75,132,150) $(59,018,256)
- -------------------------------------------------------------------------------------
Total Stockholders' Equity $ 10,383,957 $ 3,466,216
- -------------------------------------------------------------------------------------
8
RISK FACTORS
An investment in our common stock involves a high degree of risk. You should
carefully consider the following material risks, together with the other
information contained in this prospectus, before you decide to buy our common
stock. If any of the following risks actually occur, our business, results of
operations and financial condition would likely suffer. In these circumstances,
the market price of our common stock could decline, and you may lose all or part
of your investment.
RISKS RELATED TO OUR BUSINESS
WE MAY NOT BE ABLE TO OBTAIN ADDITIONAL FINANCING THAT WE MAY REQUIRE TO FUND
OUR OPERATIONS.
As discussed under the heading, "Management's Discussion and Analysis -
Liquidity and Capital Resources," we may require additional financing to fund
our operations if holders of our convertible debentures do not convert such
debentures into shares of our common stock or we are unable to draw down on our
$100 million equity line of credit. We cannot draw down on the equity line of
credit until a registration statement covering the underlying shares of common
stock becomes effective and we will not file such a registration statement until
all of the outstanding principal and interest under the 10% convertible
debentures has been converted by the holders of such convertible debentures or
redeemed or paid in full by us. As of December 30, 2005, there was an aggregate
amount of $30,500,000 in outstanding principal and accrued and unpaid interest
under the 10% convertible debentures. The conversion by the debt holders or
redemption or payment in full of the 10% convertible debentures by us is
unlikely to occur before June 23, 2008. Regardless, business and economic
conditions may make it unfeasible or undesirable for us to draw down amounts
under the equity line of credit at every opportunity, and there can be no
assurance that we will ever be able to draw down on the equity line of credit.
See "Description of Securities - Standby Equity Distribution Agreement" for
further details regarding the equity line of credit.
In addition, there can be no assurance that additional financing will be
available to us when needed or, if available, that it can be obtained on
commercially reasonable terms. In addition, any additional equity financing may
involve substantial dilution to our stockholders. If we fail to raise sufficient
financing to meet our immediate cash needs, we will be forced to scale down or
perhaps even cease the operation of our business, which may result in the loss
of some or all of your investment in our common stock.
WE HAVE A HISTORY OF OPERATING LOSSES AND FLUCTUATING OPERATING RESULTS, WHICH
RAISE SUBSTANTIAL DOUBT ABOUT OUR ABILITY TO CONTINUE AS A GOING CONCERN.
Since inception through October 31, 2005, we have incurred aggregate losses of
$93,343,673. Our loss from operations for the three-month period ended October
31, 2005 was $18,211,523; our losses from operations for the fiscal years ended
July 31, 2005 and July 31, 2004 were $14,291,681 and $10,987,026 respectively.
There is no assurance that we will operate profitably or will generate positive
cash flow in the future. In addition, our operating results in the future may be
subject to significant fluctuations due to many factors not within our control,
such as the unpredictability of when customers will order products, the size of
customers' orders, the demand for our products, the level of competition or
general economic conditions.
Although we believe that revenues will increase, we also expect an increase in
development costs and operating costs. Consequently, we expect to incur
operating losses and negative cash flow until our products gain market
acceptance sufficient to generate a commercially viable and sustainable level of
sales, and/or additional products are developed and commercially released and
sales of such products made so that we are operating in a profitable manner.
The Auditors' Report on our July 31, 2005 consolidated financial statements
includes an additional comment for U.S. readers that states that there exists
substantial doubt about our ability to continue as a going concern. The
financial statements do not include any adjustments as a result of this
uncertainty.
THE 5% AND 10% CONVERTIBLE DEBENTURES PROVIDE FOR VARIOUS EVENTS OF DEFAULT THAT
WOULD ENTITLE THE HOLDERS TO REQUIRE US TO IMMEDIATELY ACCELERATE FULL REPAYMENT
OF ALL DEBENTURES OUTSTANDING AND ACCRUED INTEREST THEREON OR, NOTWITHSTANDING
ANY LIMITATIONS CONTAINED IN THE DEBENTURES AND/OR THE SECURITIES PURCHASE
AGREEMENT, TO CONVERT ALL DEBENTURES OUTSTANDING AND ACCRUED INTEREST THEREON
INTO SHARES OF OUR COMMON STOCK. IF AN EVENT OF DEFAULT OCCURS, WE MAY BE UNABLE
TO IMMEDIATELY REPAY THE AMOUNT OWED AND ANY REPAYMENT MAY LEAVE US WITH LITTLE
OR NO WORKING CAPITAL IN OUR BUSINESS.
Some of the events of default include matters over which we may have some,
little or no control. If a default occurs and we cannot pay the amounts payable
under the convertible debentures in cash (including any interest on such amounts
and any applicable late fees under the convertible debentures), the holders of
the debentures may protect and enforce their rights or remedies either by suit
in equity or by action at law, or both, whether for the specific performance of
any covenant, agreement or other provision contained in the convertible
debentures, in the related securities purchase agreement or in any document or
instrument delivered in connection with or pursuant to the convertible
debentures, or to enforce the payment of the outstanding convertible debentures
or any other legal or equitable right or remedy. In addition, any repayment that
we are required to make may leave us with little or no working capital in our
business. This would have an adverse effect on our continuing operations. Please
refer to "Description of Securities" for a description of the events of default
under the 5% and 10% convertible debentures and the consequences of such
defaults.
WE MAY EXPERIENCE SIGNIFICANT AND RAPID GROWTH IF WE ARE ABLE TO CAPITALIZE ON
THE EXPANSION OF THE TIRE MONITORING MARKET. IF WE ARE UNABLE TO HIRE AND TRAIN
STAFF TO HANDLE SALES AND MARKETING OF OUR PRODUCTS AND MANAGE OUR OPERATIONS,
SUCH GROWTH COULD MATERIALLY AND ADVERSELY AFFECT US.
We intend to proceed with initiatives intended to capitalize on the expansion of
the tire monitoring market that is occurring as a result of the enactment by the
U.S. government of the TREAD Act. This could potentially lead to significant and
rapid growth in the scope and complexity of our business. Any inability on our
part to manage such growth effectively will have a material adverse effect on
our product development, business, financial condition and results of
operations. Our ability to manage and sustain growth effectively will depend, in
part, on the ability of our management to implement appropriate management,
operational and financial systems and controls, and the ability of our
management to successfully hire, train, motivate and manage employees.
9
TECHNOLOGICAL CHANGES IN OUR INDUSTRY COULD RENDER OUR PRODUCTS NON-COMPETITIVE
OR OBSOLETE AND CONSEQUENTLY AFFECT OUR ABILITY TO GENERATE REVENUES.
The markets in which we operate are subject to technological change, evolving
industry standards and changes in customer demands. The introduction of products
embodying new technologies and the emergence of new industry standards could
render our existing products obsolete and unmarketable. Although we are
confident that our TPMS technology and products are technologically advanced and
currently competitive, we believe that our long-term success will depend upon
our ability to continuously develop new products and to enhance our current
products and introduce them promptly into the market. If we are not able to
develop and introduce new products, our business, financial condition and
results of operations could be adversely affected.
WE CARRY A REASONABLE AMOUNT OF PRODUCT LIABILITY INSURANCE. HOWEVER THERE CAN
BE NO ASSURANCE THAT OUR EXISTING INSURANCE COVERAGE WOULD BE ADEQUATE IN TERM
AND SCOPE TO PROTECT US AGAINST MATERIAL FINANCIAL EFFECTS IN THE EVENT OF A
SUCCESSFUL CLAIM.
We could be subject to claims in connection with the products that we sell.
There can be no assurance that we would have sufficient resources to satisfy any
liability resulting from any such claim, or that we would be able to have our
customers indemnify or insure us against any such liability. Although we have
product and directors and officers' liability insurance, there can be no
assurance that our insurance coverage would be adequate in term and scope to
protect us against material financial effects in the event of a successful
claim. We currently do not carry commercial general liability insurance
providing comprehensive product liability coverage in all instances. We may in
the future obtain such insurance provided it can be obtained at reasonable
prices. However, there can be no assurance that such coverage, if obtained,
would be adequate in term and scope to protect us. See "Description of Business
- - Liability Insurance" below.
SUBSTANTIALLY ALL OF OUR ASSETS AND A MAJORITY OF OUR OFFICERS ARE OUTSIDE THE
UNITED STATES, WITH THE RESULT THAT IT MAY BE DIFFICULT FOR INVESTORS TO ENFORCE
WITHIN THE UNITED STATES ANY JUDGMENTS OBTAINED AGAINST US OR ANY OF OUR
OFFICERS.
Substantially all of our assets are located outside the United States and we do
not currently maintain a permanent place of business within the United States.
In addition, a majority of our officers are nationals and/or residents of
countries other than the United States, and all or a substantial portion of such
persons' assets are located outside the United States. As a result, it may be
difficult for investors to enforce within the United States any judgments
obtained against us or our officers or directors, including judgments predicated
upon the civil liability provisions of the securities laws of the United States
or any state thereof.
THE LOSS OF ANY ONE OF OUR THREE MAJOR CUSTOMERS MAY MATERIALLY AND ADVERSELY
AFFECT US.
During the three months ended October 31, 2005, we earned 71% of our revenue
from our three largest customers. Accordingly, the loss of any one of our three
major customers may materially and adversely affect us. The loss of any major
customer, or significant reductions by any of them in buying our products, or
any inability on our part to collect accounts receivable from them, would
materially and adversely affect our business and results of operations.
WE MAY EXPERIENCE DIFFICULTY IN OBTAINING COMPONENTS AND RAW MATERIALS, AND WE
COULD BE MATERIALLY AND ADVERSELY AFFECTED AS A RESULT.
Our current products, and the products that we may provide in the future, embody
new technologies. Certain of the components and raw materials used in our
products are difficult to obtain and/or require purchase commitments to be made
by us far in advance of the manufacturing date. The inability to obtain
sufficient quantities of components or raw materials, or the inability to
forecast purchase requirements accurately, could adversely affect our business
and results of operations. Similarly, commitments to purchase components and raw
materials in excess of customer demand for our products could materially and
adversely affect our results of operations. See "Description of Business - Raw
Materials and Principal Suppliers" below.
THE LOSS OF ANY OF OUR CONTRACT MANUFACTURERS MAY MATERIALLY AND ADVERSELY
AFFECT US.
We contract the manufacture of our products to third parties. In certain cases,
we do not have an alternative source of manufacturing, and a suitable
replacement would be time-consuming and expensive to obtain. If, for any reason,
one of our third party manufacturers is unable or refuses to produce our
products, our business, financial condition and results of operations would be
materially and adversely affected. See " Description of Business - Raw Materials
and Principal Suppliers" below.
WE DEPEND TO A SIGNIFICANT EXTENT ON CERTAIN KEY PERSONNEL, THE LOSS OF ANY OF
WHOM MAY MATERIALLY AND ADVERSELY AFFECT OUR COMPANY.
Our success depends to a significant extent on the continued service of certain
key management personnel, including, Al Kozak, our President and Chief Executive
Officer, Jeff Finkelstein, our Chief Financial Officer, Dave Warkentin, our Vice
President of Sales and Marketing, Erwin Bartz, our Vice President of Product
Management, and Shawn Lammers, our Vice-President, Engineering. Robert Rudman,
our former President and Chief Executive Officer, remains as the Chairman of our
Board of Directors and serves as a consultant to us. The loss or interruption of
services from one or more of these personnel, for whatever reason, could have a
material adverse effect on us. In the event of the loss of services of such
personnel, no assurances can be given that we will be able to obtain the
services of adequate replacement personnel. We do not maintain key person
insurance on the lives of any of our officers or employees. See "Management"
below.
10
RISKS RELATED TO THIS OFFERING
FUTURE SALES BY OUR STOCKHOLDERS MAY CAUSE OUR STOCK PRICE TO DECLINE AND MAY
GREATLY REDUCE OUR ABILITY TO RAISE FUNDS IN NEW STOCK OFFERINGS.
Sales of our common stock in the public market following this offering could
lower the market price of our common stock. The selling stockholders intend to
sell in the public market 1,372,813,284 shares of common stock being registered
in this offering. That means that up to 1,372,813,284 shares may be sold
pursuant to this registration statement. Such sales may cause our stock price to
decline. Sales of our common stock in the public market may also make it more
difficult for us to sell equity securities or equity-related securities in the
future at a time and price that our management deems acceptable or at all.
THE SALE OF OUR STOCK UNDER THE 10% CONVERTIBLE DEBENTURES COULD ENCOURAGE SHORT
SALES BY THIRD PARTIES, WHICH MAY CONTRIBUTE TO THE FUTURE DECLINE OF OUR STOCK
PRICE.
In many circumstances the provision of financing based on floating-rate
convertible debentures has the potential to cause a significant downward
pressure on the price of common stock. This is especially the case if the shares
being sold into the market exceed the market's ability to absorb the increased
stock. Such an event could exert further downward pressure on the price of our
common stock. Even if we use the proceeds from the issuance of the 10%
convertible debentures to grow our revenues and profits or invest in assets that
are materially beneficial to us, the opportunity exists for short sellers and
others to contribute to the future decline of our stock price. If there are
significant short sales of stock, the price decline that would result from this
activity will cause the share price to decline more so, which, in turn, may
cause long holders of the stock to sell their shares thereby contributing to
sales of stock in the market. If there is an imbalance on the sell side of the
market of our stock, the price will likely decline.
OUR COMMON STOCK MAY BE AFFECTED BY LIMITED TRADING VOLUME AND MAY FLUCTUATE
SIGNIFICANTLY, WHICH MAY AFFECT OUR STOCKHOLDERS' ABILITY TO SELL SHARES OF OUR
COMMON STOCK.
Prior to this filing, there has been a limited public market for our common
stock and there can be no assurance that a more active trading market for our
common stock will develop. An absence of an active trading market could
adversely affect our shareholders' ability to sell our common stock within short
time periods, or possibly at all. Our common stock has experienced, and is
likely to experience in the future, significant price and volume fluctuations,
which could adversely affect the market price of our common stock without regard
to our operating performance. In addition, we believe that factors such as
quarterly fluctuations in our financial results and changes in the overall
economy or the condition of the financial markets could cause the price of our
common stock to fluctuate substantially. These fluctuations may also cause short
sellers to enter the market from time to time in the belief that we will have
poor results in the future. We cannot predict the actions of market participants
and, therefore, can offer no assurances that the market for our stock will be
stable or appreciate over time. The factors may negatively impact shareholders'
ability to sell shares of our common stock.
THE PRICE YOU PAY IN THIS OFFERING WILL FLUCTUATE AND MAY BE HIGHER OR LOWER
THAN THE PRICES PAID BY OTHER PEOPLE PARTICIPATING IN THIS OFFERING.
The price in this offering will fluctuate based on the prevailing market price
of the common stock on the OTC Bulletin Board. Accordingly, the price you pay in
this offering may be higher or lower than the prices paid by other people
participating in this offering.
RISKS RELATED TO OUR COMMON STOCK
WE DO NOT EXPECT TO PAY DIVIDENDS.
We have not paid dividends since inception on our common stock, and we do not
contemplate paying dividends in the foreseeable future on our common stock in
order to use all of our earnings, if any, to finance expansion of our business
plans.
OUR COMMON STOCK IS SUBJECT TO THE "PENNY STOCK" RULES OF THE SEC AND THE
TRADING MARKET IN OUR SECURITIES IS LIMITED, WHICH MAKES TRANSACTIONS IN OUR
STOCK CUMBERSOME AND MAY REDUCE THE VALUE OF AN INVESTMENT IN OUR STOCK.
The SEC has adopted Rule 15g-9 which establishes the definition of a "penny
stock," for the purposes relevant to us, as any equity security that has a
market price of less than $5.00 per share or with an exercise price of less than
$5.00 per share, subject to certain exceptions. For any transaction involving a
penny stock, unless exempt, the rules require:
o that a broker or dealer approve a person's account for transactions in
penny stocks; and
o the broker or dealer receive from the investor a written agreement to the
transaction, setting forth the identity and quantity of the penny stock to
be purchased.
In order to approve a person's account for transactions in penny stocks, the
broker or dealer must:
11
o obtain financial information and investment experience objectives of the
person; and
o make a reasonable determination that the transactions in penny stocks are
suitable for that person and the person has sufficient knowledge and
experience in financial matters to be capable of evaluating the risks of
transactions in penny stocks.
The broker or dealer must also deliver, prior to any transaction in a penny
stock, a disclosure schedule prescribed by the Commission relating to the penny
stock market, which, in highlight form:
o sets forth the basis on which the broker or dealer made the suitability
determination; and
o states that the broker or dealer received a signed, written agreement from
the investor prior to the transaction.
Brokers may be less willing to execute transactions in securities subject to the
"penny stock" rules. This may make it more difficult for investors to dispose of
our common stock and cause a decline in the market value of our stock.
Disclosure also must be made about the risks of investing in penny stocks in
both public offerings and in secondary trading and about the commissions payable
to both the broker-dealer and the registered representative, current quotations
for the securities and the rights and remedies available to an investor in cases
of fraud in penny stock transactions. Finally, monthly statements have to be
sent disclosing recent price information for the penny stock held in the account
and information on the limited market in penny stocks.
Please read this prospectus carefully. You should rely only on the information
contained in this prospectus. We have not authorized anyone to provide you with
different information. You should not assume that the information provided by
the prospectus is accurate as of any date other than the date on the front of
this prospectus.
FORWARD-LOOKING STATEMENTS
Included in this prospectus are "forward-looking" statements, as well as
historical information. Although we believe that the expectations reflected in
these forward-looking statements are reasonable, we can give no assurance that
the expectations reflected in these forward-looking statements will prove to be
correct. Our actual results could differ materially from those anticipated in
forward-looking statements as a result of certain factors, including matters
described in the section titled "Risk Factors." Forward-looking statements
include those that use forward-looking terminology, such as the words
"anticipate," "believe," "estimate," "expect," "intend," "may," "project,"
"plan," "will," "shall," "should," and similar expressions, including when used
in the negative. Although we believe that the expectations reflected in these
forward-looking statements are reasonable and achievable, these statements
involve risks and uncertainties and no assurance can be given that actual
results will be consistent with these forward-looking statements. Important
factors that could cause our actual results, performance or achievements to
differ from these forward-looking statements include the factors described in
the "Risk Factors" section and elsewhere in this prospectus.
All forward-looking statements attributable to us are expressly qualified in
their entirety by these and other factors. We undertake no obligation to update
or revise these forward-looking statements, whether to reflect events or
circumstances after the date initially filed or published, to reflect the
occurrence of unanticipated events or otherwise.
SELLING STOCKHOLDERS
The following table sets forth:
o the name and address of each selling stockholder;
o the number of shares of common stock beneficially owned before this
offering by the selling stockholders as of December 31, 2005;
o the percentage of our outstanding common stock beneficially owned by the
selling stockholders before this offering;
o the maximum number of shares of common stock that may be offered for the
account of the selling stockholders under this prospectus;
o the number of shares of common stock being registered in this offering;
and
o the amount and percentage of common stock that would be owned by the
selling stockholders after completion of the offering, assuming a sale of
all of the common stock that may be offered by this prospectus.
Except as noted below and elsewhere in this prospectus, the selling stockholders
have not, within the past three years, had any position, office or other
material relationship with us. Except as noted below, none of the selling
stockholders are members of the National Association of Securities Dealers, Inc.
12
Beneficial ownership is determined under the rules of the SEC. The number of
shares beneficially owned by a person includes shares of common stock underlying
warrants, stock options and other derivative securities to acquire our common
stock held by that person that are currently exercisable or convertible or
exercisable within 60 days after December 31, 2005. The shares issuable under
these securities are treated as outstanding for computing the percentage
ownership of the person holding these securities, but are not treated as
outstanding for the purposes of computing the percentage ownership of any other
person.
Overview
The selling stockholders may offer and sell, from time to time, any or all of
the common stock issued to them upon conversion or redemption of the 5% and 10%
convertible debentures, the series A 5% convertible preferred shares, or upon
exercise of the share purchase warrants. Because the selling stockholders may
offer all or only some portion of the 1,372,813,284 shares of common stock to be
registered, no estimate can be given as to the amount or percentage of these
shares of common stock that will be held by the selling stockholders upon
termination of the offering.
Common Shares Percentage of Common Shares Shares Registered Beneficial Ownership
Beneficially Owned Outstanding Issuable in this After this Offering(2)
by Selling Shares Upon Exercise or Offering -----------------------
Stockholder Beneficially Conversion of Number of Percent(3)
Before Owned Before Securities and Shares
Offering(1) Offering Forming Part of
Name of Selling Stockholder this Offering
- ------------------------------------------------------------------------------------------------------------------------------------
Cornell Capital Partners, L.P.
101 Hudson St-Suite 3606 15,212,470(4) 4.99%(4) 757,736,012(4) 757,736,012(4) None 0.0%
Jersey City NJ 07302
Hawk Associates, Inc.(5)
204 Ocean Drive 250,000(6) * 250,000(6) 250,000(6) None 0.0%
Tavernier, FL 33070
Staraim Enterprises Limited 15,212,470(7) 4.99% 60,829,167(7) 60,829,167(7) None 0.0%
Athalassas, 47
2nd Floor, Flat/Office 202
Strovolos, P.C. 2012
Nicosia, Cyprus
Xentennial Holdings Limited 15,212,470(8) 4.99% 243,335,417(8) 243,335,417(8) None 0.0%
Athalassas, 47
2nd Floor, Flat/Office 202
Strovolos, P.C. 2012
Nicosia, Cyprus
Newbridge Securities
Corporation(9) 75,188(10) * None 75,188(10) None 0.0%
1451 Cypress Creek Road, Suite 204
Fort Lauderdale, Florida 33309
Starome Investments Limited 15,212,470(11) 4.99% 608,335,417(11) 608,335,417(11) None 0.0%
Athalassas, 47
2nd Floor, Flat/Office 202
Strovolos, P.C. 2012
Nicosia, Cyprus
Bally, Jr., William A. & Mary C
39 Hidden Lake Drive 694,444(12) * 694,444(12) 694,444(12) None 0.0%
Burr Ridge, IL 60527
Luca, Minna
5532 Estate Oak Circle 1,388,889(13) * 1,388,889(13) 1,388,889(13) None 0.0%
Fort Lauderdale, FL 33312
Viola, Mary Ellen
294 Lone Hill Drive 2,777,778(14) * 2,777,778(14) 2,777,778(14) None 0.0%
Short Hills, NJ 07078
Luther, David H
100 Phlox Creek 277,778(15) * 277,778(15) 277,778(15) None 0.0%
Bristol, TN 37620
Hargiss, Jack
15115 Elk Creek Acres Road 277,778(16) * 277,778(16) 277,778(16) None 0.0%
Pine, CO 80470
* Represents less than 1% of outstanding shares of our common stock.
(1) Ownership as of December 31, 2005, for the selling stockholders based on
information provided by the selling stockholders or known to us.
(2) Because the selling stockholders may offer all or only some portion of the
shares of common stock to be registered, no estimate can be given as to
the amount or percentage of these shares of common stock that will be held
by the selling shareholder upon termination of the offering. Accordingly,
it is assumed that all of the shares of common stock offered pursuant to
this prospectus will be sold, although the selling stockholders are under
no obligation known to us to sell any shares of common stock at this time.
13
(3) A total of 289,646,656 shares of common stock were issued and outstanding
as of December 30, 2005.
(4) Represents (i) all of the common stock that potentially may be issued upon
the conversion of $4 million of 5% series A convertible preferred shares
in an aggregate amount of 400 million shares, (ii) all of the common stock
that potentially may be issued upon the conversion of $8 million under the
10% convertible debenture in an aggregate of 226,666,667 shares, (iii) all
of the common stock that may potentially be issued upon the conversion of
principal of $2 million under the 10% convertible debenture in an
aggregate of 56,666,667 shares, (iv) all of the common stock that
potentially may be issued upon the conversion of $1.5 million under a 5%
convertible debenture at a conversion price of $0.028 per share in an
aggregate of 53,571,429 shares, (v) all of the common stock that
potentially may be issued upon the exercise of 16,668,750 common share
purchase warrants issued to Xentennial Holdings Limited expiring June 23,
2010 at an exercise price of $0.16 per share and (vi) all of the common
stock that potentially may be issued upon the exercise of 4,162,500 common
share purchase warrants issued to Staraim Enterprises Limited expiring
June 23, 2010 at an exercise price of $0.16 per share. The 5% and 10%
convertible debentures and share purchase warrants contain contractual
restrictions on beneficial share ownership limiting Cornell Capital
Partners' beneficial ownership to 4.99% of our outstanding shares. Staraim
Enterprises Limited and Xentennial Holdings Limited are wholly owned by
Cornell Capital Partners, and thus, Cornell Capital Partners is deemed to
beneficially own all shares beneficially owned by Staraim Enterprises
Limited and Xentennial Holdings Limited. Cornell Capital Partners and its
affiliates, in the aggregate, cannot own more than 4.99% of our
outstanding shares of common stock. As Staraim Enterprises Limited and
Xentennial Holdings Limited are affiliates of Cornell Capital Partners,
Staraim Enterprises Limited Xentennial Holdings Limited and Cornell
Capital Partners cannot, collectively, own in excess of 4.99% of our
outstanding shares of common stock. Yorkville Advisors, the general
partner of Cornell Capital Partners may be deemed to beneficially own the
securities owned by Cornell Capital Partners. Mark A. Angelo, the Founder
and President of Cornell Capital Partners, makes the investment decisions
on behalf of Cornell Capital Partners, Xentennial Holdings Limited and
Staraim Enterprises Limited. See "Description of Securities" for further
details on the terms of the 5% and 10% convertible debentures.
(5) Hawk Associates, Inc. is a Florida investor relations firm that we engaged
on July 1, 2004 to provide investor relations, financial media relations
and other appropriate consulting and advisory services.
(6) Represents all of the common stock that potentially may be issued upon the
exercise of common share purchase warrants issued to the named selling
stockholder and maturing June 30, 2009 at an exercise price of $0.20 per
share.
(7) Represents (i) all of the common stock that may potentially be issued upon
the conversion of principal of $2 million under the 10% convertible
debenture maturing June 23, 2008 in an aggregate of 56,666,667 shares and
(ii) all of the common stock that potentially may be issued upon the
exercise of 4,162,500 common share purchase warrants issued to the named
selling stockholder and expiring June 23, 2010 at an exercise price of
$0.16 per share. The 10% convertible debentures and share purchase
warrants contain contractual restrictions on beneficial share ownership
limiting Staraim Enterprises Limited's beneficial ownership to 4.99% of
our outstanding shares. Staraim Enterprises Limited and Xentennial
Holdings Limited are wholly owned by Cornell Capital Partners, and thus,
Cornell Capital Partners is deemed to beneficially own all shares
beneficially owned by Staraim Enterprises Limited and Xentennial Holdings
Limited. Cornell Capital Partners and its affiliates, in the aggregate,
cannot own more than 4.99% of our outstanding shares of common stock. As
Staraim Enterprises Limited and Xentennial Holdings Limited are affiliates
of Cornell Capital Partners, Staraim Enterprises Limited, Xentennial
Holdings Limited and Cornell Capital Partners cannot, collectively, own in
excess of 4.99% of our outstanding shares of common stock. See
"Description of Securities" for further details regarding the 10%
convertible debentures and share purchase warrants.
(8) The $8 million 10% convertible debenture and 16,668,750 common share
purchase warrants were issued to Xentennial Holdings Limited. Thus,
Xentennial Holdings Limited may be deemed to beneficially own the
226,666,667 shares that may potentially be issued under the $8 million 10%
convertible debenture. The 10% convertible debentures and stock purchase
warrants contain contractual restrictions on beneficial share ownership
limiting Xentennial Holdings Limited's beneficial ownership to 4.99% of
our outstanding shares of common stock. Staraim Enterprises Limited and
Xentennial Holdings Limited are wholly owned by Cornell Capital Partners,
and thus, Cornell Capital Partners is deemed to beneficially own all
shares held by Staraim Enterprises Limited and Xentennial Holdings
Limited. Cornell Capital Partners and its affiliates, in the aggregate,
cannot own more than 4.99% of our outstanding shares of common stock. As
Staraim Enterprises Limited and Xentennial Holdings Limited are affiliates
of Cornell Capital Partners, Staraim Enterprises Limited, Xentennial
Holdings Limited and Cornell Capital Partners cannot, collectively, own in
excess of 4.99% of our outstanding shares of common stock. See
"Description of Securities" for further details regarding the 10%
convertible debentures and share purchase warrants.
(9) Newbridge Securities Corporation is a placement agent firm that we engaged
to act as the exclusive placement agent in connection with our 160 million
(replaced by our $100 million) Standby Equity Distribution Agreement.
(10) Represents all of the common stock issued to the named selling stockholder
pursuant to the Placement Agent Agreement, dated May 20, 2005, among us,
Cornell Capital Partners and Newbridge Securities Corporation.
(11) Represents all of the common stock that may potentially be issued upon (i)
the conversion of the principal and interest under the $20 million 10%
convertible debenture, maturing on June 23, 2008, in an aggregate amount
of 566,666,667 shares and (ii) the exercise of 41,668,750 common share
purchase warrants issued to Starome Investments Limited and expiring June
23, 2010 at an exercise price of $0.16 per share. The 10% convertible
debentures and the common share purchase warrants contain contractual
restrictions on beneficial share ownership limiting Starome Investments
Limited's beneficial ownership to 4.99%. Michael Weiss makes all the
investment decisions on behalf of Starome Investments Limited.
14
(12) Represents all of the common stock that potentially may be issued upon the
conversion of $25,000 of 5% convertible debentures to the named selling
stockholder at a conversion price of $0.036 per share.
(13) Represents all of the common stock that potentially may be issued upon the
conversion of $50,000 of 5% convertible debentures to the named selling
stockholder at a conversion price of $0.036 per share.
(14) Represents all of the common stock that potentially may be issued upon the
conversion of $100,000 of 5% convertible debentures to the named selling
stockholder at a conversion price of $0.036 per share.
(15) Represents all of the common stock that potentially may be issued upon the
conversion of $10,000 of 5% convertible debentures to the named selling
stockholder at a conversion price of $0.036 per share.
(16) Represents all of the common stock that potentially may be issued upon the
conversion of $10,000 of 5% convertible debentures to the named selling
stockholder at a conversion price of $0.036 per share.
We first entered into a material relationship with Cornell Capital Partners on
November 21, 2002, when we closed the first tranche of a private placement of
convertible debentures to Cornell Capital. We realized gross proceeds of
$184,000 ($122,000 net of offering expenses) from the issuance of a debenture
having a face principal amount of $200,000 which was issued at an 8% discount.
On January 31, 2003, we closed the second tranche under the private placement
and realized gross proceeds of $184,000 ($152,000 net of offering expenses). The
second tranche also involved the sale of a debenture having a face principal
amount of $200,000, and was issued at an 8% discount. The convertible debentures
and interest were converted into 3,299,359 common shares.
In November 2002 we also arranged for a $5 million equity line of credit
facility. This facility, which was never drawn upon, was superseded and replaced
with another $5 million equity line of credit facility with Cornell Capital on
February 19, 2003 primarily because we decided to appoint a new placement agent.
Draw downs under the facility were subject to certain conditions and
limitations, including the requirement that the underlying shares of common
stock issuable to the investor under the facility shall have been registered on
an appropriate registration form under the Securities Act of 1933. The term of
the equity line of credit was 24 months. We did not taken any steps to file the
registration statement, and we did not draw down any portion of this facility.
Fees to arrange the equity line of credit were $300,000, $290,000 of which
represented a commitment fee that we paid by the issuance of 446,154 shares of
our common stock on December 4, 2002 and $10,000 of which represented a
placement agent fee that we paid by the issuance of 32,258 shares of our common
stock on February 24, 2003.
We did not enter into any additional financial arrangements with Cornell until
April 15, 2004. Since this time, Cornell Capital has financed the Company
through the issuance of various financial instruments as disclosed in our
financial statements for the year ended July 31, 2005.
In addition to the transactions described above, during the past three years, we
have entered into the following financial transactions with Cornell Capital:
On April 15, 2004, we received gross proceeds of $750,000 upon the issuance of
an unsecured short-term promissory note to Cornell Capital. The note bore
interest at a rate of 8% per annum and was repayable within 120 days of issuance
with accrued interest. As a commitment fee to loan the us money, Cornell
received $75,000.
On May 19, 2004, we received gross proceeds of $750,000 upon the issuance of an
unsecured short-term promissory note to Cornell Capital. The note bore interest
at a rate of 8% per annum and was repayable within 120 days of issuance with
accrued interest. As a commitment fee to loan the Company money, Cornell Capital
received $75,000.
On May 19, 2004, we entered into a Standby Equity Distribution Agreement with
Cornell Capital, in connection with a 24-month, $15 million equity line of
credit facility. The agreement contemplated the potential future issuance and
sale of up to $15 million of our common stock to Cornell Capital, subject to
certain restrictions and other obligations. As the underlying shares were
registered with the SEC, we were able to request advances totaling $3,475,000.
During fiscal 2004, we issued to Cornell Capital 14,370,835 shares of common
stock of which 10,861,220 were pursuant to three draw downs of $250,000 and
3,509,615 shares of common stock as a commitment fee under the $15 million
equity line of credit. In addition, we also issued, as a placement fee, 96,154
shares of our common stock to Newbridge Securities Corporation. During fiscal
2005, we issued an additional 78,887,710 shares of common stock to Cornell
Capital pursuant to nine draw downs totaling $2,725,000 from our $15 million
equity line of credit.
On November 16, 2004, the Company received gross proceeds of $250,000 upon the
issuance of an unsecured short-term promissory note to an accredited investor.
There were no fees associated with the note. The note bore interest at a rate of
12% per annum and was repayable on December 15, 2004.
On November 30, 2004, the Company received gross proceeds of $275,000 upon the
issuance of an unsecured short-term promissory note to Cornell Capital. The note
bore interest at a rate of 12% per annum and was repaid on December 30, 2004. As
a commitment fee, the holder of the note received $27,500.
15
On December 15, 2004, we received gross proceeds of $2,500,000 upon the issuance
of a three-year $2,500,000 5% convertible debenture to Cornell Capital. Proceeds
from this convertible debenture were used to redeem principal and interest of
$1,100,462 in outstanding promissory notes.
On February 9, 2005 we received gross proceeds of $350,000 upon the issuance of
an unsecured short-term promissory note to Cornell Capital. The note bore
interest at a rate of 10% per annum and was repayable within 30 days of issuance
with accrued interest. As a commitment fee to loan the Company money, the
Cornell Capital received $35,000.
On March 23, 2005, we issued 5% convertible preferred stock for gross proceeds
of $4,000,000. The proceeds were used to repay the $2,500,000 convertible
debenture entered into on December 15, 2004 and a $350,000 promissory note
entered into on February 9, 2004. We received net proceeds of $1,015,000, after
deducting the $2,850,000 that was previously funded, a $115,000 commitment fee
and legal fees in the amount of $20,000.
On May 20, 2005, we issued to Cornell Capital Partners a $1,500,000 one-year 5%
convertible debenture convertible into shares of our common stock at the option
of the holder at $0.028 per share. The 5% convertible debenture matures on May
20, 2006. Between April 25 and April 29, 2005, $1,100,000 of the convertible
debenture was placed in escrow with our lawyer. From escrow, $457,999 was paid
on April 27, 2005 to two debenture holders to redeem their convertible
debentures. In addition, between May 2, 2005 and May 23, 2005, we entered into
release, redemption and settlement agreements whereby we redeemed $675,615 of
discounted convertible debentures. Consideration consisted of $402,930 and the
issuance of 9,738,759 shares of our common stock which were issued at an
effective conversion price of $0.028 per share.
The $15 million equity line agreement was terminated on May 20, 2005 and
replaced with a $30 million equity line of credit facility.
On June 2, 2005, we issued 75,188 shares at an effective price of $0.133 per
share as payment for a $10,000 placement agency fee related to the equity line
of credit facility. On each advance date we shall pay to the Cornell Capital,
directly from the gross proceeds held in escrow, an amount equal to 5% of the
amount of each advance.
On June 23, 2005, we entered into a Securities Purchase Agreement with Cornell
Capital and Highgate House Funds and LCC Global Limited, a corporation organized
under the laws of Cyprus whereby we agreed to issue, for a purchase price of $30
million, (i) a 10% convertible debenture due June 23, 2008, with a principal
balance of $20 million, to Cornell Capital Partners, as trustee for LCC Global,
(ii) a 10% convertible debenture due June 23, 2008, with a principal balance of
$8 million, to Cornell Capital Partners, as trustee for LCC Global, and (iii) a
10% convertible debenture due June 23, 2008, with a principal balance of $2
million, to Highgate House Funds, as trustee for LCC Global. Of the $30 million,
Cornell Capital Partners retained (i) $16 million as a structuring fee, payable
to Yorkville Advisors, the general partner of Cornell Capital Partners, for the
$160 million Standby Equity Distribution Agreement, which was subsequently
terminated and replaced with a $100 million Standby Equity Distribution
Agreement and (ii) $3 million as a structuring fee, also payable to Yorkville
Advisors, for the 10% convertible debentures. Thus, on June 30, 2005, we
received aggregate proceeds from Cornell Capital Partners of $11 million. On
December 30, 2005, we, Cornell Capital Partners and Highgate House Funds amended
and restated the convertible debentures as described in more detail under
"Description of Securities" starting on page 48.
USE OF PROCEEDS
This prospectus relates to shares of our common stock that may be offered and
sold from time to time by certain selling stockholders. There will be no
proceeds to us from the sale of shares of common stock in this offering.
However, we did receive proceeds from the sale of our 5% series A convertible
preferred stock and the 5% and 10% convertible debentures.
5% Series A Convertible Preferred Stock. On March 23, 2005, we entered into an
Investment Agreement with Cornell Capital Partners in which we sold an aggregate
of $4 million of our series A 5% convertible preferred stock. The purchase price
was $4,000,000, of which $2,850,000 was previously funded pursuant to certain
transaction documents we entered into with Cornell Capital Partners. These
previous transaction documents were terminated by the parties on March 23, 2005.
On March 23, 2005, we received net proceeds of $1,015,000, after deducting the
$2,850,000 that was previously funded, a $115,000 commitment fee and legal fees
in the amount of $20,000.
5% Convertible Debentures. On May 20, 2005, we entered into a securities
purchase agreement with Cornell Capital Partners. In accordance with the
securities purchase agreement, we issued to Cornell Capital Partners, for a
purchase price of $1.5 million, a 5% convertible debenture that is convertible,
at the option of Cornell Capital Partners, into shares of our common stock. The
5% convertible debenture matures on May 20, 2006. Under the 5% convertible
debenture, we were required to make our first monthly recurring payment of
$125,000 on September 1, 2005. Cornell Capital Partners agreed to provide us
with an extension to January 1, 2006 to commence the monthly payments. The
majority of the proceeds from the 5% convertible debentures issued in May 2005
were used to redeem existing convertible debentures.
10% Convertible Debentures. On June 23, 2005, we entered into a Securities
Purchase Agreement with Cornell Capital Partners and Highgate House Funds and
LCC Global Limited, a corporation organized under the laws of Cyprus whereby we
agreed to issue, for a purchase price of $30 million, (i) a 10% convertible
debenture due June 23, 2008, with a principal balance of $20 million, to Cornell
Capital Partners, as trustee for LCC Global, (ii) a 10% convertible debenture
due June 23, 2008, with a principal balance of $8 million, to Cornell Capital
Partners, as trustee for LCC Global, and (iii) a 10% convertible debenture due
June 23, 2008, with a principal balance of $2 million, to Highgate House Funds,
as trustee for LCC Global. Of the $30 million, Cornell Capital Partners retained
(i) $16 million as a structuring fee, payable to Yorkville Advisors, the general
partner of Cornell Capital Partners, for the $160 million Standby Equity
Distribution Agreement, which was subsequently terminated and replaced with a
$100 million Standby Equity Distribution Agreement and (ii) $3 million as a
structuring fee, also payable to Yorkville Advisors, for the 10% convertible
debentures. Thus, on June 30, 2005, we received aggregate proceeds from Cornell
Capital Partners of $11 million. On December 30, 2005, we, Cornell Capital
Partners and Highgate House Funds amended and restated the convertible
debentures as described in more detail under "Description of Securities"
starting on page 48.
16
For illustrative purposes only, we have set forth below our intended use of
proceeds for the net proceeds we received from the sale of our 10% convertible
debentures.
Gross Proceeds $ 30,000,000
Fees on convertible debenture (3,000,000)
Fees on original $160 equity line of credit (16,000,000)
Structuring fees (50,000)
Legal fees (100,000)
------------
Net Proceeds $ 10,850,000
============
Intended use of Proceeds Minimum Maximum
------------ ------------
Bristol Investment Fund, Ltd. settlement payment $ 250,000 (i) $ 250,000 (i)
Marketing 2,550,000 3,000,000
Engineering research and development 3,000,000 3,750,000
Administration 3,300,000 4,500,000
Capital purchases 150,000 300,000
Debt repayments (ii)(iii) 1,500,000 2,500,000
General working capital 100,000 (3,450,000)
------------ ------------
10,850,000 10,850,000
------------ ------------
(i) Settlement agreement dated January 5, 2006 also included the issuance of 2
million shares of our common stock. The settlement is described in greater
detail under "Legal Proceedings" on page 40.
(ii) Includes $1 million of interest paid on our $30 million debentures on
October 31, 2005.
(iii) Principal payments on all of our outstanding debt and interest payable
under our 10% convertible debentures is convertible into shares of our
common stock.
PLAN OF DISTRIBUTION
The selling stockholders have advised us that the sale or distribution of our
common stock owned by the selling stockholders may be affected by the selling
stockholders as principals or through one or more underwriters, brokers, dealers
or agents from time to time in one or more transactions (which may involve
crosses or block transactions) (i) on the over-the-counter market or on any
other market in which the price of our shares of common stock are quoted or (ii)
in transactions otherwise than in the over-the-counter market or in any other
market on which the price of our shares of common stock are quoted. Any of such
transactions may be effected at market prices prevailing at the time of sale, at
prices related to such prevailing market prices, at varying prices determined at
the time of sale or at negotiated or fixed prices, in each case as determined by
the selling stockholders or by agreement between the selling stockholders and
underwriters, brokers, dealers or agents, or purchasers. If the selling
stockholders effect such transactions by selling their shares of common stock to
or through underwriters, brokers, dealers or agents, such underwriters, brokers,
dealers or agents may receive compensation in the form of discounts, concessions
or commissions from the selling stockholders or commissions from purchasers of
common stock for whom they may act as agent (which discounts, concessions or
commissions as to particular underwriters, brokers, dealers or agents may be in
excess of those customary in the types of transactions involved).
We will pay all of the expenses incident to the registration, offering and sale
of the shares of common stock to the public other than commissions, fees and
discounts of underwriters, brokers, dealers and agents. If any of these other
expenses exists, we expect the selling stockholders to pay these expenses. We
have agreed to indemnify Cornell Capital Partners, Highgate House Funds, Starome
Investments Limited, Xentennial Holdings Limited and Staraim Enterprises Limited
and their controlling persons against certain liabilities, including liabilities
under the Securities Act. We estimate that the expenses of the offering to be
borne by us will be approximately $134,731.62. The offering expenses consist of:
a SEC registration fee of $10,704.78, printing expenses of $1,000, accounting
fees of $20,000, legal fees of $100,000, transfer agent and registrar fees of
$2,000, fees and expenses for qualification under state securities laws of
$1,000 and miscellaneous expenses of $1,000. We will not receive any proceeds
from the sale of any of the shares of common stock by the selling stockholders.
We did, however, receive proceeds from the 10% convertible debentures we
originally issued to Cornell Capital Partners and Highgate House Funds.
We are registering 608,335,417 shares of our common stock on behalf of Starome
Investments Limited, and we are registering 757,736,012 shares of our common
stock on behalf of Cornell Capital Partners and its affiliates.
Cornell Capital Partners was formed in February 2000 as a Delaware limited
partnership. Cornell Capital Partners is a domestic hedge fund in the business
of investing in and financing public companies. Cornell Capital Partners does
not intend to make a market in our stock or to otherwise engage in stabilizing
or other transactions intended to help support the stock price. Cornell Capital
Partners' investment strategy is to make private investments in public equities
via structured transactions. Starome Investments Limited and Cornell Capital
Partners and its affiliates plan to sell securities from the conversion of the
debentures given SmarTire's trading volume and the ownership limitations.
Cornell Capital Partners has not formulated any more specific plans regarding
the sale of securities. Prospective investors should take these factors into
consideration before purchasing our common stock.
17
Under the securities laws of certain states, the shares of common stock may be
sold in such states only through registered or licensed brokers or dealers. The
selling stockholders are advised to ensure that any underwriters, brokers,
dealers or agents effecting transactions on behalf of the selling stockholders
are registered to sell securities in all fifty states. In addition, in certain
states the shares of common stock may not be sold unless the shares have been
registered or qualified for sale in such state or an exemption from registration
or qualification is available and we have complied with them.
The selling stockholders should be aware that the anti-manipulation provisions
of Regulation M under the Exchange Act will apply to purchases and sales of
shares of common stock by the selling stockholders, and that there are
restrictions on market-making activities by persons engaged in the distribution
of the shares. Under Registration M, the selling stockholders or their agents
may not bid for, purchase, or attempt to induce any person to bid for or
purchase, shares of our common stock while such selling stockholders are
distributing shares covered by this prospectus. The selling stockholders are
advised that if a particular offer of common stock is to be made on terms
constituting a material change from the information set forth above with respect
to the Plan of Distribution, then, to the extent required, a post-effective
amendment to the accompanying registration statement must be filed with the SEC.
DILUTION
Our net tangible book value as of October 31, 2005 was $(11,373,042) or $(0.04)
per share of common stock outstanding on October 31, 2005. Net tangible book
value per share is determined by dividing our tangible book value (i.e., total
assets less total intangible assets less total liabilities) by the number of
outstanding shares of our common stock. Since this offering is being made solely
by the selling stockholders and none of the proceeds will be paid to us, our
total assets less total intangible assets will be unaffected by this offering.
MARKET FOR OUR COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Market Information
On May 29, 2003, our common stock commenced quotation on the OTC Bulletin Board
under the symbol "SMTR."
Until May 28, 2003, our common stock was quoted on the Nasdaq Capital Market
under the symbol "SMTR." The following quotations obtained from Canada
Stockwatch reflect the high and low bids for our common stock based on
inter-dealer prices, without retail mark-up, mark-down or commission and may not
represent actual transactions. The high and low bid prices of our common stock
for the periods indicated below are as follows:
Quarter Ended High Low
December 31, 2005 $0.099 $0.061
October 31, 2005 $0.130 $0.075
July 31, 2005 $0.184 $0.088
April 30, 2005 $0.241 $0.022
January 31, 2005 $0.037 $0.026
October 31, 2004 $0.094 $ 0.03
July 31, 2004 $0.015 $ 0.07
April 30, 2004 $0.193 $ 0.10
January 31, 2004 $0.243 $0.165
October 31, 2003 $ 0.28 $0.135
July 31, 2003 $ 0.39 $0.135
April 30, 2003 $ 0.48 $ 0.07
January 31, 2003 $ 0.83 $ 0.31
October 31, 2002 $ 1.27 $ 0.42
July 31, 2002 $ 2.16 $ 0.88
April 30, 2002 $ 2.05 $ 1.75
As of December 31, 2005, we had 289,646,656 shares of common stock outstanding
and approximately 471 stockholders of record.
These bid prices represent prices quoted by broker-dealers on the OTC Bulletin
Board. The quotations reflect inter-dealer prices, without retail mark-up,
mark-down or commissions, and may not represent actual transactions.
18
Dividend Policy
Our Board of Directors is not obligated to declare a dividend. We have never
declared or paid dividends on our common stock, and we do not anticipate that we
will in the foreseeable future. We intend to retain future earnings, if any, for
use in our operations and the expansion of our business. Future dividends will
be subject to the discretion of our Board of Directors and will depend on, among
other things, future earnings, our operating and financial condition, our
capital requirements, general business conditions and other pertinent factors.
It is not anticipated that dividends will be paid in the foreseeable future.
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The following discussion of our financial condition, changes in financial
condition and results of operations for the three months ended October 31, 2005
should be read in conjunction with our most recent audited annual financial
statements for the financial year ended July 31, 2005, the unaudited interim
financial statements included herein, and, in each case, the related notes.
Our consolidated financial statements are stated in United States Dollars and
are prepared in accordance with United States Generally Accepted Accounting
Principles.
RESULTS OF OPERATIONS
Three months ended October 31, 2005 vs. Three months ended October 31, 2005
Revenue
Gross revenue for the three months ended October 31, 2005 increased to $592,866
from $301,169 for the three months ended October 31, 2004. The breakdown of the
sources of our gross revenue is as follows:
o Sales of aftermarket passenger car TPMSs increased to $65,173 for the
three months ended October 31, 2005 from $47,001 for the three months
ended October 31, 2004. It is difficult for us to predict what the volume
of sales of this product will be.
o Sales of OEM passenger car TPMSs increased to $223,321 for the three
months ended October 31, 2005 from $147,262 for the three months ended
October 31, 2004. The increase was primarily due to an increase in sales
to Aston Martin, Ford's flagship division. We anticipate sales of this
product to continue to increase as we are now on a third platform of Aston
Martin.
o Sales of aftermarket TPMSs for use on buses were $1,997 for the three
months ended October 31, 2005 compared to $0 for the three months ended
October 31, 2004. Although we anticipate increasing sales of this product,
it is difficult for us to predict what the volume of sales will be in this
market.
o Sales of OEM TPMSs for use on buses were $162,868 for the three months
ended October 31, 2005 compared to $0 for the three months ended October
31, 2004. We anticipate sales of this product to this market to continue
to increase.
o Sales of aftermarket motorcycle systems decreased to $7,357 for the three
months ended October 31, 2005 from $16,734 for the three months ended
October 31, 2004. As sales to this market are seasonal, we anticipate
sales to increase starting in January 2005, however it is difficult for us
to predict what the volume of sales will be in this market.
o Sales of aftermarket recreational vehicle TPMSs decreased to $37,912 for
the three months ended October 31, 2005 from $51,669 for the three months
ended October 31, 2004. We anticipate sales of this product to increase,
however it is difficult for us to predict what the volume of sales will
be.
o Sales of OEM recreational vehicle TPMSs increased to $52,943 for the three
months ended October 31, 2005 from $25,222 for the three months ended
October 31, 2004. We anticipate sales of this product to the OEM market to
continue to increase.
o Sales of aftermarket high pressure TPMSs for use on trucks were $6,158 for
the three months ended October 31, 2005 compared to $10,789 for the three
months ended October 31, 2004. The majority of these systems are currently
being used for test purposes. Although interest in this product is high,
it is difficult for us to predict what the volume of sales will be, as
this will depend primarily on market acceptance.
o Sales of OEM high pressure TPMSs for use on trucks vehicles were $3,750
for the three months ended October 31, 2005 compared to $0 for the three
months ended October 31, 2004. The majority of these systems are currently
being used for test purposes. Although interest in this product is high,
it is difficult for us to predict what the volume of sales will be, as
this will depend primarily on market acceptance.
o Sales of miscellaneous products were $31,387 for the three months ended
October 31, 2005 compared to $2,492 for the three months ended October 31,
2004.
19
Gross Margin
Gross margin on product sales increased to 28.5% for the three months ended
October 31, 2005 from 26.8% for the three months ended October 31, 2004.
Expenses
Expenses were $595,024 for the three months ended October 31, 2005. Excluding a
stock-based compensation recovery of $1,633,975, expenses increased to
$2,228,999 from $1,937,740 for the three months ended October 31, 2004. The
stock-based compensation recovery resulted as the market value of our vested
options decreased during the quarter as discussed in note 2 (b) (ii) to the
financial statements.
Engineering, research and development expenses for the three months ended
October 31, 2005 were negative ($33,445) due to a non-cash stock based
compensation recovery as more fully explained in note 2 (b) (ii) to the
financial statements. Excluding a stock-based compensation recovery of $641,196,
engineering, research and development expenses increased to $607,751 from
$501,685 for the three months ended October 31, 2004. The increase, excluding
the stock-based compensation recovery, was mainly due to an increase in the
number of employees in this department which resulted in a higher wage expense.
In addition we incurred higher rent and utility expenses as we leased additional
space to accommodate the increase in the number of employees in the department.
Marketing expenses for the three months ended October 31, 2005 were $416,208.
Excluding a stock-based compensation recovery of $38,482, marketing expenses
decreased to $454,690 from $496,787 for the three months ended October 31, 2004.
The decrease, excluding the stock-based compensation recovery as more fully
explained in the note 2 (b) (ii) to the financial statements was mainly a result
of lower travel expenses.
General and administrative expenses for the three months ended October 31, 2005,
were negative ($159,567) due to a non-cash stock based compensation recovery as
more fully explained in note 2 (b) (ii) to the financial statements. Excluding a
stock-based compensation recovery of $954,297, general and administration
expenses increased to $794,730 from $579,131 for the three months ended October
31, 2004. The increase, excluding the stock-based compensation recovery, was
primarily attributed to higher investor relation costs and higher professional
fees. The increase in professional fees was primarily due to the cost of legal
services incurred to defend against a lawsuit from a debenture holder and the
cost of restructuring the 10% convertible debentures originally issued on June
23, 2005 and amended and restated on December 30, 2005 and the $160 million
Standby Equity Distribution Agreement entered into in June 2005, with Cornell
Capital Partners.
Depreciation and amortization expense increased to $371,828 for the three months
ended October 31, 2005 from $360,137 for the three months ended October 31,
2004.
Interest and finance charges increased to $17,631,436 for the three months ended
October 31, 2005 from $585,021 for the three months ended October 31, 2004.
Interest and finance charges for the three months ended October 31, 2005
included a $16 million fee paid on June 23, 2005 for the $160 million Standby
Equity Distribution Agreement with Cornell Capital Partners plus related
professional fees and interest accretion on our convertible debentures and
preferred shares. On July 22, 2005, we filed a registration statement on Form
SB-2 with the SEC. We withdrew the registration statement on September 23, 2005
with the intent of restructuring the 10% convertible debentures and entering
into a new Standby Equity Distribution Agreement with Cornell Capital Partners
as described below.
As of December 30, 2005, we and Cornell Capital Partners terminated the $160
million Standby Equity Distribution Agreement and replaced it with a new $100
million Standby Equity Distribution Agreement. Under the terms of the $100
million Standby Equity Distribution Agreement, we cannot request advances until
the underlying shares of common stock are registered with the SEC. We will not
register the shares underlying the $100 million Standby Equity Distribution
Agreement until all of the outstanding principal and accrued and unpaid interest
on the 10% convertible debentures in the aggregate principal amount of $30
million have been either converted by the holders or paid in full by us, which
must occur on or before July 23, 2008. The term of the $100 million Standby
Equity Distribution Agreement is proposed to commence on the date a registration
statement covering the underlying shares becomes effective and will expire five
years after such date. Under the $100 million Standby Equity Distribution
Agreement, Cornell is entitled to retain 2.5% of each advance.
Excluding charges related to our Standby Equity Distribution Agreement, non-cash
interest expense for the three months ended October 31, 2005 was $612,081
compared to $557,962 during the three months ended October 31, 2004.
Interest and finance charges for the three months ended October 31, 2004
included $552,416 on our 8% and discounted convertible debentures and $23,267 on
our promissory notes.
Interest Income
Interest income of $73,446 was earned for the three months ended October 31,
2005 as compared to $484 for the three months ended October 31, 2004 and was the
result of higher average cash balances during the three months ended October 31,
2005.
Foreign exchange loss
A foreign exchange loss of $227,687 was incurred for the three months ended
October 31, 2005 as compared to a foreign exchange gain of $57,644 for the three
months ended October 31, 2004. Foreign exchange gains or losses are due to
fluctuations in currency exchange rates and are impossible to predict.
20
Fiscal Year Ended July 31, 2005 vs. Fiscal Year Ended July 31, 2004
Revenue
Gross revenue for the fiscal year ended July 31, 2005 decreased to $1,463,460
from $1,658,279 in our fiscal year ended July 31, 2004. This decrease in revenue
was a result of the following:
o Sales of aftermarket passenger car TPMSs decreased to $307,347 in fiscal
year 2005 from $1,087,395 in fiscal year 2004. The decrease in sales was
primarily due to a significant reduction in sales to our Chinese master
distributor. We forecast fiscal year 2006 sales of aftermarket car TPMSs
to approximate fiscal year 2005 sales of TPMSs.
o Sales of OEM passenger TPMSs increased to $572,485 in fiscal year 2005
from $166,202 in fiscal year 2004. The increase was primarily due to an
increase in sales to Aston Martin, Ford's flagship division. We forecast
sales of OEM TPMSs to increase substantially in fiscal year 2006 as we
anticipate higher sales to Aston Martin.
o Sales of aftermarket motorcycle systems increased to $111,875 in fiscal
year 2005 compared to $37,744 in fiscal year 2004. In August 2004, we
discovered that the sensor/transmitter may break during installation on
the subset of motorcycle rims with curved rim surfaces when the strap is
torqued to its required value. On September 14, 2004 we contacted the
National Highway Transportation Safety Administration (NHTSA) to determine
if a Safety Defect and Non Compliance Report was required and were advised
that this was necessary. Our remedy for the defect was to recall 100% of
affected sensor/transmitter items from the field and replace both recalled
and inventory sensor/transmitters with sensor/transmitters previously
manufactured by a different supplier that have been tested and known to
use plastics that provide the required mechanical properties. Additionally
to ensure that transmitters are used only on rims with flat drop center
wells (as originally designed for) and not curved, the additional
precautionary steps were taken:
o we added improved warnings and an instruction sheet to new products as
well as product in inventory at dealers and distributors that clarify flat
rim drop center well application only; and
o we removed TPMSs on motorcycles with rims with curved drop center wells.
At the end of fiscal year 2004, we estimated the cost of the recall to be
$67,000. Recall costs incurred to the end of July 2005 were $46,897. We have
made a provision in accounts payable for the additional $20,103 that we
anticipate incurring. In addition, we developed a solution to enable us to sell
our TPMSs on motorcycles with rims with curved drop center wells. We released
this enhanced product during April 2005. To date, the response to the recall by
our customers has been very positive. Although interest in the motorcycle
product by existing and potential customers remains positive, it is difficult
for us to predict what the volume of sales will be, as this will depend
primarily on market acceptance.
o Sales of aftermarket recreational TPMSs increased to $128,739 in fiscal
year 2005 from $118,357 in fiscal year 2004. Fiscal year 2004 sales
include sales of our high pressure transmitters that were released in our
fourth quarter and sales of low pressure sensors to monitor the wheels of
a towed vehicle or trailer that was introduced during our first quarter
ended October 31, 2003. Although it is difficult for us to predict what
the volume of sales will be, we anticipate a substantial increase in sales
during the next fiscal year.
o Sales of OEM recreational TPMSs were $230,216 in fiscal year 2005 compared
to $64,454 in fiscal year 2004. Although it is difficult for us to predict
what the volume of sales will be, we anticipate continued sales growth of
this product during the next fiscal year.
o Sales of TPMSs for use on trucks were $5,717 in fiscal year 2005 compared
to $22,733 in fiscal year 2004. The majority of these systems are
currently being used for test purposes. Although interest in this product
is high, it is difficult for us to predict what the volume of sales will
be, as this will depend primarily on market acceptance.
o Sales of aftermarket TPMSs for use on buses were $42,430 in fiscal 2005
compared to $42,406 in fiscal year 2004. Although it is difficult for us
to predict what the volume of sales will be, we anticipate a substantial
increase in sales of TPMSs for use on buses during the next fiscal year.
o Sales of OEM TPMSs for use on buses were $23,533 in fiscal year 2005
compared to $0 in fiscal year 2004. Although it is difficult for us to
predict what the volume of sales will be, we anticipate a substantial
increase in sales of OEM TPMSs for use on buses during next year as we
only commenced shipping TPMSs to Motorcoach Industries International in
July 2005.
o Revenue of $0 was recorded for engineering changes to modify our products
pursuant to our Manufacturing, Co-Marketing and Development Agreement with
Hyundai Autonet Co. Ltd. in fiscal year 2005 compared to $94,800 in the
fiscal year 2004. Revenue from engineering services is recognized on
services as they are rendered and pre-defined milestones are achieved.
o Sales of miscellaneous products were $41,118 in fiscal year 2005 compared
to $24,188 in fiscal year 2004.
21
Gross Margin
Gross margin on product sales decreased to -11.7% in fiscal year 2005 from 12.8%
in fiscal year 2004. The decrease in gross margin in fiscal year 2005 was due to
an inventory write-down of $500,000 for slow moving aftermarket passenger car
TPMSs. Without the inventory write-down, the gross margin would have increased
to 22% in fiscal year 2005. Factors that would have resulted in higher margins
if not for the inventory write-down are:
o the product mix of systems sold in fiscal year 2005 had higher gross
margins than the product mix of systems sold in fiscal year 2004; and
o the decrease in the value of the U.S. dollar against the Pound Sterling
increased our margins as a higher proportion of our sales during the
fiscal year 2005 were in Pound Sterling.
Expenses
Expenses increased to $12,288,528 in fiscal year 2005 from $7,186,287 in fiscal
year 2004, due to increases in marketing, engineering, research and development
expenses and depreciation and amortization expenses. The increase in expenses
was primarily due to a non-cash compensation expense of $4,279,653 which was
primarily a result of the increase in the value of outstanding employee stock
options. Excluding the non-cash compensation expense, expenses were $8,008,875
in fiscal year 2005.
Engineering, research and development expenses increased to $3,297,011 in fiscal
year 2005 from $1,654,690 in fiscal year 2004. Excluding the non-cash
compensation expense of $1,347,933, expenses in fiscal year 2005 were
$1,949,078, or an increase of $294,388 from fiscal year 2004. The increase was
primarily attributed to higher prototype development costs, an increase in the
number of engineering employees and engineering-related wages and the cost of
our TS16949 audit. TS16949 is the recognized quality standard within the
automotive industry. Wages included a non-cash expense of $74,833 related to the
issuance of common stock to senior engineering employees.
Marketing expenses increased to $2,540,730 in fiscal year 2005 from $1,821,122
in fiscal year 2004. Excluding the non-cash compensation expense of $813,545,
expenses in fiscal, year 2005 were $1,727,185 or a decrease of $93,937 from
fiscal year 2004. The decrease was a primarily a result of lower advertising and
promotion expenses and lower travel expenses. Wages included a non-cash expense
of $44,494 related to the issuance of common stock to a senior marketing
employee.
General and administrative expenses increased to $4,953,537 in fiscal year 2005
from $2,338,758 in fiscal year 2004. Excluding the non-cash compensation expense
of $2,118,175, expenses in fiscal year 2005 were $2,835,362 or an increase of
$496,604 from fiscal year 2004. The increase was primarily attributed to an
increase in bad debts, higher administration wages, insurance costs,
professional fees, wages and the cost of becoming compliant with the Sarbanes
Oxley Act of 2002. The increase in professional fees was primarily due to the
cost of legal services incurred to defend against a lawsuit from a debenture
holder. The major increase in administration wages was primarily due to a
non-cash expense related to the issuance of common stock to senior management
valued at $142,251. The increase was partially offset by lower investor relation
costs and lower travel costs.
Depreciation and amortization
Depreciation and amortization expense increased to $1,497,250 in fiscal year
2005 from $1,371,717 in fiscal year 2004. Depreciation and amortization expense
is expected to decrease next year with the full amortization of our OEM rights
to the commercial market.
Interest and finance charges
Interest and finance charges decreased to $3,730,481 in fiscal year 2005 from
$4,031,820 in fiscal year 2004. Interest and finance charges in fiscal year 2005
included non-cash interest of $3,524,805 compared to non-cash interest of
$3,842,107 in fiscal year 2004.
Interest income
Interest income increased to $39,241 in fiscal year 2005 from $5,873 in fiscal
year 2004. This increase was mainly due to the issuance of convertible
debentures in June 2005 that resulted in net proceeds of $10,950,000 to us.
Foreign exchange gain
A foreign exchange gain of $37,194 was earned in fiscal year 2005 as compared to
$12,492 in fiscal year 2004. Foreign exchange gains or losses are due to
fluctuations in currency exchange rates and are impossible to predict.
Gain on settlement of convertible debt
A gain on settlement of $1,822,033 on the settlement of convertible debt was
incurred in fiscal year 2005 as compared to $0 in fiscal year 2004.
22
Fiscal Year Ended July 31, 2004 vs. Fiscal Year Ended July 31, 2003
Revenue
Gross revenue in the fiscal year ended July 31, 2004 decreased to $1,658,279
from $1,802,596 in our fiscal year ended July 31, 2003. This decrease in revenue
was a result of the following:
o Sales of aftermarket passenger car TPMSs decreased to $1,087,395 in fiscal
year 2004 from $1,141,210 in fiscal year 2003.
o Sales of OEM passenger car TPMSs decreased to $166,202 in fiscal year 2004
from $174,880 in fiscal year 2003.
o Sales of aftermarket motorcycle TPMSs decreased to $37,744 in fiscal year
2004 compared to $183,589 in fiscal year 2003. We introduced a
substantially improved second generation motorcycle TPMS at the Indy
Motorcycle Dealers Show, held in Indianapolis, Indiana in mid-February
2004. During May 2004, this product became commercially available and we
began shipping it to our customers.
o Sales of aftermarket recreational vehicle TPMSs were $118,357 in fiscal
year 2004 compared to $26,383 in fiscal year 2003. These sales include
sales of our high pressure transmitters that were released in our fourth
quarter and sales of low pressure sensors to monitor the wheels of a towed
vehicle or trailer that was introduced during our first quarter ended
October 31, 2003.
o Sales of OEM recreational vehicle TPMSs were $64,454 in fiscal year 2004.
The majority of these sales occurred in the fourth quarter after the
release of our high pressure transmitters.
o Sales of aftermarket high pressure TPMSs for use on buses were $42,406 in
fiscal year 2004. All of these sales occurred in our fourth quarter after
the release of our high pressure transmitters.
o Sales of aftermarket high pressure TPMSs for use on commercial vehicles
were $22,733 in fiscal year 2004. Our customers purchased these systems in
the fourth quarter after the release our high pressure transmitters. The
majority of these systems are currently being used for test purposes.
o Sales of off-the-road (OTR) TPMSs were $1,088 in fiscal year 2004 compared
to $58,395 in fiscal year 2003. Our OTR TPMSs utilize a high-pressure
transmitter and is designed primarily for OTR heavy industrial
applications and commercial applications. The system may potentially be
used not only on large mining trucks, but also heavy mobile equipment
(such as tractors, wheeled loaders, graders and the like). Sales of our
OTR tire monitoring systems to date have been limited to those systems
which are designed for use on large mining trucks.
o Revenue of $94,800 was recorded for engineering changes to modify our
products pursuant to our Manufacturing, Co-Marketing and Development
Agreement with Hyundai Autonet Co. Ltd. in fiscal year 2004 compared to
$173,400 in the fiscal year 2003. Revenue is determined by the percentage
of completion method. Revenue from engineering services is recognized on
services as they are rendered and pre-defined milestones are achieved.
o Sales of the motorsport TPMSs decreased to $0 in fiscal year 2004 from
$44,739 in fiscal year 2003. As indicated above, we do not anticipate
further sales of our motorsport TPMSs as our exclusive motorsport
distributor, Pi Research of Cambridge, England, now manufactures and
markets their own system. Accordingly, we have discontinued production of
our motorsport TPMSs.
o Sales of miscellaneous products were $23,100 in fiscal year 2004 compared
to $0 in fiscal year 2003.
Gross Margin
Gross margin on product sales decreased to 12.8% in fiscal year 2004 from 23.0%
in fiscal year 2003. The decrease occurred due to the following factors:
o our product mix of systems sold in fiscal year 2004 had lower gross
margins than the product mix of systems sold in fiscal year 2003; and
o our provision for our motorcycle recall in the amount of $66,801 decreased
our fiscal year 2004 margin by 4%;
During our third quarter, we shifted the majority of our production to Hyundai
Autonet, and as we expected, our gross margin increased in our third and fourth
quarters, after excluding the cost of the motorcycle recall. Although we expect
that our gross margin will continue to increase in fiscal year 2005, this is
dependent on the cost of components and the sales contracts that we enter into.
Expenses
Expenses increased to $7,186,287 in fiscal year 2004 from $6,802,391 in fiscal
year 2003, as increases in marketing, engineering, research and development
expenses and depreciation and amortization were partially offset by a decrease
in general and administration expenses. Non-cash stock based compensation
expense was not significant in either fiscal year 2004 or fiscal year 2003.
Engineering, research and development expenses increased to $1,654,690 in fiscal
year 2004 from $1,177,935 in fiscal year 2003. This increase was primarily
attributed to an increase in prototype development expenses, an increase in
product testing on products that we have released in the current fiscal year, an
increase in the number of patents and approval applications, and an increase in
the number of engineering employees and engineering-related wages.
23
Marketing expenses increased to $1,821,122 in fiscal year 2004 from $1,448,326
in fiscal year 2003. The increase was primarily a result of an increase in
travel and higher marketing-related wages, which increased as a result of the
recruitment of a V.P. of Sales and Marketing. This increase was partially offset
by lower tradeshow expenditures. Trade show expenses in fiscal year 2003
included the cost of attending the Automechanika show, which is held in Europe
every two years. Fiscal year 2003 also included expenses of $130,000 in
connection with the termination of a management agreement; 50% of this amount or
$65,000 was booked as marketing expenses and 50% was booked as general and
administrative expenses.
General and administrative expenses decreased to $2,338,758 in fiscal year 2004
from $2,939,260 in fiscal year 2003. The decrease was primarily attributed to
lower professional fees, investor relation costs and administration wages.
Professional fees in fiscal year 2003 included an expense of $315,044 to settle
certain potential unquantified claims threatened by certain offshore investors
against us. Administrative wages decreased as there were fewer administrative
employees during fiscal year 2004 and as explained above, our general and
administrative expenses for the year ended July 31, 2003 include $65,000 that
was incurred in connection with the termination of a management contract. The
decrease was partially offset by an increase in insurance costs.
Depreciation and amortization
Depreciation and amortization expense increased to $1,371,717 in fiscal year
2004 from $1,236,870 in fiscal year 2003. Depreciation and amortization expense
is expected to remain at approximately its current level for the foreseeable
future.
Interest and finance charges
Interest and finance charges increased to $4,031,820 in fiscal year 2004 from
$3,722,505 in fiscal year 2003. Interest and finance charges in fiscal year 2004
included non-cash interest of $3,842,107 compared to non-cash interest of
$3,694,914 in fiscal year 2003.
Interest income
Interest income of $5,873 was earned in fiscal year 2004 as compared to $2,835
in fiscal year 2003. This increase was due to slightly higher average cash
balances maintained during fiscal year 2004.
Foreign exchange gain
A foreign exchange gain of $12,492 was earned in fiscal year 2004 as compared to
$192,201 in fiscal year 2003. Foreign exchange gains or losses are due to
fluctuations in currency exchange rates and are impossible to predict.
LIQUIDITY AND CAPITAL RESOURCES
CURRENT POSITION
We have continued to finance our activities primarily through the issuance and
sale of securities. We have incurred losses from operations in each year since
inception. As at October 31, 2005, we had an accumulated deficit of $93,343,673.
Our net loss for the three months ended October 31, 2005 was $18,211,523
compared to $2,383,900 for the three months ended October 31, 2004. As of
October 31, 2005, our stockholders' deficiency was $8,577,636 and we had working
capital of $2,908,820.
Our cash position, including short-term investments at October 31, 2005 was
$7,498,890 as compared to $10,059,763 at July 31, 2005. This decrease was due to
the net increase from our operating, financing and investing activities as
described below.
Our net loss of $18,211,253 for the three months ended October 31, 2005 includes
non-cash charges of $371,828 for depreciation and amortization and $16,755,917
for interest and finance charges as disclosed above under interest and finance
charges. Increases in non-cash working capital during this period amounted to
$372,366. Non-cash working capital changes included increases in accounts
receivable, prepaid expenses and accounts payable and accrued liabilities and a
decrease in inventory. The net cash used in operating activities for the three
months ended October 31, 2005 was $3,090,119. Of this amount, $900,000 was paid
in interest expense on our convertible debentures and approximately $600,000 was
paid for our annual insurance premiums. If we are unable to access our $100
million Standby Equity Distribution Agreement on a timely basis, we may require
subsequent financings to meet our operating cash flow requirements.
During the three months ended October 31, 2005, we also purchased certain
capital assets at an aggregate cost of $40,656.
During the three months ended October 31, 2005, we realized aggregate gross cash
proceeds of $135,800 as follows:
On October 20, 2005, a warrant holder exercised 1,100,000 warrants at an
exercise price of $0.10 for gross proceeds of $110,000.
During the three months ended October 31, 2005, 860,000 stock options were
exercised for gross proceeds of $25,800.
As of September 23, 2005 we were in violation of certain other convertible
debentures and preferred share agreements as we withdrew our registration
statement that was originally filed with the SEC on July 22, 2005. We received
waivers from all of our debt holders, other than the one debt holder with whom
we have reached a settlement, and all of our preferred shareholders, agreeing
that we are not in default of such convertible debentures and preferred share
agreements pending the filing of a new registration statement.
24
However, although we have a $100 million Standby Equity Distribution Agreement
with Cornell Capital Partners, it is uncertain when we will be permitted to draw
down on the Standby Equity Distribution Agreement during the period that the
outstanding principal and accrued and unpaid interest under the 10% convertible
debentures remain outstanding. As such, due to the uncertainty of our ability to
meet our current operating and capital expenses, in their report on the annual
consolidated financial statements for fiscal year 2005, our independent auditors
included additional comments in their Auditors' report indicating the existence
of substantial doubt about our ability to continue as a going concern. Our
consolidated financial statements contain additional note disclosures describing
the circumstances that led to this going concern uncertainty. The consolidated
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
As the continuation of our business is dependent upon the conversion by certain
holders of our outstanding convertible debentures into shares of our common
stock or, if such conversions do not occur or are not sufficient to
significantly decrease our outstanding repayment obligations, our ability to
drawn down on our $100 million equity line of credit, successful and sufficient
market acceptance of our current products and any new products that we may
introduce, the continuing successful development of our products and related
technologies, and, finally, achieving a profitable level of operations. The
issuance of additional equity securities by us could result in a significant
dilution in the equity interests of our current stockholders. Obtaining
commercial loans, assuming those loans would be available, will increase our
liabilities and future cash commitments.
Fiscal Year Ended July 31, 2005 and Fiscal Year Ended July 31, 2004
We have continued to finance our activities primarily through the issuance and
sale of securities. We have incurred losses from operations in each year since
inception. As at July 31, 2005, we had an accumulated deficit of $75,132,150.
Our net loss for fiscal year 2005 was $14,291,681 compared to $10,987,026 for
fiscal year 2004. As of July 31, 2005, our stockholders' equity was $10,383,957
and we had working capital of $7,510,569.
Our cash position at July 31, 2005 was $10,059,763 as compared to $76,670 at
July 31, 2004. This increase was due to the net increase from our operating,
financing and investing activities as described below.
Our net loss of $14,291,681 in fiscal year 2005 includes non-cash charges of
$1,497,250 for depreciation and amortization, $4,279,653 for compensation
expense, $500,000 for an inventory write-down, $3,524,805 for interest and
finance charges and a gain on settlement of debt of $1,822,033. Decreases in
non-cash working capital during this period amounted to $507,809. Non-cash
working capital changes included increases in inventory and accounts receivable
and decreases in prepaid expenses and in accounts payable and accrued
liabilities. The net cash used in operating activities in fiscal year 2005 was
$6,819,995. We may require subsequent financings to meet our operating cash flow
requirements.
During fiscal year 2005, we realized aggregate gross cash proceeds of
$42,595,017 as follows:
We issued 78,887,710 shares of common stock to Cornell Capital Partners LP
pursuant to nine draw downs totaling $2,725,000 from our $15 million equity line
of credit, which is described below.
On May 19, 2004, we entered into a Standby Equity Distribution Agreement with
Cornell Capital Partners, an accredited investor, in connection with a 24-month,
$15 million equity line of credit facility. This agreement was terminated on May
20, 2005 and replaced with a $30 million equity line of credit facility. The $30
million agreement was terminated on June 23, 2005 and replaced with a $160
million equity line of credit facility. The $160 million Standby Equity
Distribution Agreement was terminated on December 30, 2005 and replaced with a
new $100 million Standby Equity Distribution Agreement. The new Standby Equity
Distribution Agreement contemplates the potential future issuance and sale of up
to $100 million of our common stock to Cornell Capital Partners over five years
subject to certain restrictions and other obligations. On June 2, 2005, we
issued 75,188 shares at an effective price of $0.133 per share as payment for a
$10,000 placement agency fee related to the Standby Equity Distribution
Agreement. On each advance date we will pay to Cornell Capital Partners,
directly from the gross proceeds held in escrow, an amount equal to 2.5% of the
amount of each advance.
In addition we paid to Yorkville Advisors LLC a cash fee of $16 million directly
from the gross proceeds held in escrow from the closing of the convertible
debentures dated June 23, 2005. Yorkville Advisors LLC is the general partner of
Cornell Capital Partners. This cash fee was payment for the $160 million equity
line of credit facility.
Aggregate warrant proceeds of $618,217 were realized as follows:
On September 24, 2004, we and holders of the discounted convertible debentures
signed an agreement which provided for an immediate exercise of 18,226,274
warrants at $0.03 for gross proceeds of $546,788.
On May 5, 2005, a warrant holder exercised 714,286 warrants at an exercise price
of $0.10 for gross proceeds of $71,429.
On November 16, 2004 we received gross proceeds of $250,000 upon the issuance of
an unsecured short-term promissory note to an accredited investor. The note
bears interest at a rate of 12% per annum and was repayable within 30 days of
issuance with accrued interest.
25
On November 30, 2004 we received gross proceeds of $275,000 upon the issuance of
an unsecured short-term promissory note to an accredited investor. The note
bears interest at a rate of 12% per annum and was repayable within 30 days of
issuance with accrued interest. As a commitment fee to loan the Company money,
the holder of the note received $27,500.
On February 9, 2005 we received gross proceeds of $350,000 upon the issuance of
an unsecured short-term promissory note to an accredited investor. The note
bears interest at a rate of 10% per annum and was repayable within 30 days of
issuance with accrued interest. As a commitment fee to loan the Company money,
the holder of the note received $35,000.
On December 15, 2004, we received gross proceeds of $2,695,000 upon the issuance
of a three-year $2,500,000 5% convertible debenture and five two-year 5%
convertible debentures aggregating $195,000. Principal under the five 5%
convertible debentures that aggregate $195,000 may be converted by the holder in
whole or in part and from time to time at a conversion price equal to the lesser
of:
o $0.036 or;
o an amount equal to 80% of the lowest closing bid price of our common
stock, as quoted on Bloomberg, L.P., for the five trading days immediately
preceding the conversion date, subject to adjustment as provided for in
the debentures.
The outstanding principal under the convertible debentures bears interest at the
rate of 5% per annum, calculated on the basis of a 360-day year. Interest on the
debentures aggregating $195,000 is payable semi-annually beginning June 15, 2005
and every subsequent six month period that the principal balance remains unpaid.
On March 22, 2005, we issued 5% convertible preferred stock for gross proceeds
of $4,000,000. The proceeds were used to repay the $2,500,000 convertible
debenture entered into on December 15, 2004 and a $350,000 promissory note
entered into on February 9, 2004. Additional expenses related to this offering
were $20,000.
On May 20, 2005, we issued a $1,500,000 one-year 5% convertible debenture
convertible at the option of the holder at $0.028 per share. Between April 25
and April 29, 2005, $1,100,000 of the convertible debenture was placed in escrow
with our lawyer. From escrow, $457,999 was paid on April 27, 2005 to two
debenture holders to redeem their convertible debentures. In addition, between
May 2, 2005 and May 23, 2005, we entered into release, redemption and settlement
agreements whereby we redeemed $675,615 of discounted convertible debentures.
Consideration consisted of $402,930 and the issuance of 9,738,759 shares of
common stock which were issued at an effective conversion price of $0.028 per
share.
On June 23, 2005, we entered into a $160 million Standby Equity Distribution
Agreement and a $30 million Securities Purchase Agreement that resulted in net
proceeds of approximately $10.85 million to us. We paid Yorkville Advisors
Management a cash fee of $16 million in connection with the Standby Equity
Distribution Agreement, and we paid Cornell Capital Partners a cash fee of $3
million, and a cash structuring fee of $50,000 to Yorkville Advisors Management,
in connection with the Securities Purchase Agreement, out of the purchase price
paid by Cornell Capital Partners for the convertible debentures purchased
pursuant to the Securities Purchase Agreement. Refer to "Description of
Securities" for more details regarding the Standby Equity Distribution Agreement
and the Securities Purchase Agreement. We also issued 62.5 million warrants
exercisable at $0.16 per share (subject to adjustment pursuant to adjustment as
described below) with an expiry period of five years.
Although we have cash of approximately $6.35 million at December 31, 2005, as
discussed below under "Future Operations," we may require up to $2.35 million in
financing through the next twelve months in order to continue in business as a
going concern.
At January 31, 2005 and April 30, 2005, we were in violation of all existing
convertible debenture agreements. As a result of this violation, the Company
accreted interest to adjust the carrying value of all existing convertible
debentures to their redemption value.
As at April 30, 2005, we were in violation of a preferred share agreement as a
registration statement was not filed with the SEC on the date specified in the
agreement. We received an extension from the preferred shareholders to file a
registration statement by June 30, 2005 and received a waiver for any penalties.
As we filed a registration statement on July 22, 2005, we were not in violation
of any existing convertible debenture or preferred share agreements, other than
one holder of a discounted debenture in the amount of $91,726 who provided us
with notice of a summons with the Supreme Court of the State of New York.
However, as of September 23, 2005 we were in violation of the other convertible
debenture and preferred share agreements as we withdrew our registration
statement. We received waivers from all of our debt holders, other than the one
debt holder with whom we have reached a settlement, and all of our preferred
shareholders, agreeing that we are not in default pending the filing of a new
registration statement and the principal holder waives its rights under the
default provisions affected by this non-compliance. During fiscal year 2005, we
also purchased certain capital assets at an aggregate cost of $73,511.
However, although we have a $100 million Standby Equity Distribution Agreement
with Cornell Capital Partners, there are certain factors that may prevent us
from ever drawing down on it. As such, due to the uncertainty of our ability to
meet our current operating and capital expenses, in their report on the annual
consolidated financial statements for fiscal year 2005, our independent auditors
included additional comments in their Auditors' report indicating the existence
of substantial doubt about our ability to continue as a going concern. Our
consolidated financial statements contain additional note disclosures describing
the circumstances that led to this going concern uncertainty. The consolidated
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
26
As the continuation of our business is dependent upon the conversion by certain
holders of our outstanding convertible debentures into shares of our common
stock or, if such conversions do not occur or are not sufficient to
significantly decrease our outstanding repayment obligations, our ability to
draw down on our $100 million equity line of credit, successful and sufficient
market acceptance of our current products and any new products that we may
introduce, the continuing successful development of our products and related
technologies, and, finally, achieving a profitable level of operations. The
issuance of additional equity securities by us could result in a significant
dilution in the equity interests of our current stockholders. Obtaining
commercial loans, assuming those loans would be available, will increase our
liabilities and future cash commitments.
Fiscal Year Ended July 31, 2004
We have continued to finance our activities primarily through the issuance and
sale of securities. We have incurred losses from operations in each year since
inception. As of July 31, 2004, we had an accumulated deficit of $59,018,256.
Our net loss for fiscal year 2004 was $10,987,026 compared to $9,914,629 for
fiscal year 2003. As of July 31, 2004, our stockholders' equity was $3,466,216
and we had working capital of $732,405.
Our cash position at July 31, 2004 was $112,951 as compared to $1,843,694 at
July 31, 2003. This decrease was due to the net decrease from our operating,
financing and investing activities as described below.
Our net loss of $10,987,026 for fiscal year 2004 includes non-cash charges of
$1,371,717 for depreciation and amortization, $3,842,107 for interest and
finance expense and $98,175 for shares and warrants issued for services
received. Decreases in non-cash working capital during this period amounted to
$1,860,812. Non-cash working capital changes included increases in inventory,
prepaid expenses and accounts payable and accrued liabilities and a decrease in
receivables. An increase in inventory of $2,391,749 accounted for the most
significant use of cash for working capital. This increase was primarily due to
the procurement of components for production builds at Hyundai Autonet Company,
Ltd. (HACO).
During fiscal year 2004, we realized aggregate gross cash proceeds of $7,170,265
from financing activities as described below.
On October 14, 2003, an employee exercised 79,400 employee stock options at
$0.20 per stock option.
On October 27, 2003, in order to encourage early exercise of a total of
10,769,231 warrants issued to the purchasers of our 7% convertible debentures,
we offered to reduce the exercise price of the warrants from $0.2645 per share
to $0.20 per share. The offer was open for acceptance by the warrant holders
until November 4, 2003. In consideration of the warrant holders' agreement to
immediately exercise their respective warrants, we offered to issue to the
participating warrant holders one additional warrant for each warrant that was
exercised. One of the warrant holders, Palisades Master Fund accepted our offer
and exercised a total of 3,290,596 outstanding warrants at the reduced exercise
price of $0.20 per share. On October 27, 2003, we issued a total of 3,290,596
five-year warrants to Palisades Master Fund, exercisable at an exercise price of
$0.20 per share, resulting in gross proceeds of $658,119. The additional
warrants were to be exercisable for a period of five years at an exercise price
of $0.20 per share.
On October 27, 2003, our former investment banker HPC Capital Management, also
agreed to immediately exercise 194,000 outstanding common stock purchase
warrants dated May 16, 2003, in consideration of receiving one additional
five-year warrant with an exercise price of $0.20 per share for each warrant so
exercised. Of the 194,000 warrants exercised by HPC Capital Management under
this arrangement, 180,000 were exercised at an exercise price of $0.13 per share
and 14,000 were exercised at an exercise price of $0.10 per share, resulting in
gross proceeds of $24,800.
On November 6, 2003, in order to encourage early exercise of the warrants by the
remaining three warrant holders, we offered to reduce the exercise price of the
remaining 7,478,635 warrants from $0.2645 per share to $0.1771 per share.
On December 24, 2003, we closed a private placement of discounted unsecured
convertible debentures in the aggregate principal amount of $3,493,590. We
issued the convertible debentures at a 22% original issue discount from the face
principal amount (based on a notional interest rate of 11% per annum for each
year of the two-year term of the debentures), resulting in gross proceeds of
$2,725,000, before the deduction of a $218,000 cash placement fee subsequently
paid to HPC Capital Management and other expenses of the offering. The
discounted convertible debentures do not otherwise bear interest, and will
mature on April 1, 2006. The outstanding principal amount of each debenture may
be converted at any time into shares of our common stock, in whole or in part,
at the option of the holder of the debenture at an original set price of $0.22
per share. As a result of anti-dilution provisions, the conversion price was
reduced to $0.028. The discounted convertible debentures are subject to
mandatory redemption in equal monthly payments, payable in cash. We may elect to
make the monthly redemption payments in shares of our common stock at a
conversion price equal to the lesser of (i) the set price of $0.22 per share
(subject to adjustment pursuant to the anti-dilution provisions contained in the
debentures) and (ii) 85% of the average of the closing prices of our common
stock for the 20 days immediately preceding the applicable monthly redemption
date, provided that certain conditions are met, including the condition that the
underlying shares of common stock will have been registered under the Securities
Act of 1933.
On February 5, 2004, we notified the holders of the discounted convertible
debentures that we had elected to effect the first monthly redemption payment in
shares, and that the election should continue for subsequent redemption periods
until revised. One of the holders of the discounted convertible debentures
exercised its right to receive its first monthly redemption payment, in the
amount of $14,583, in cash.
27
On April 15, 2004, we received gross proceeds of $750,000 upon the issuance of
an unsecured short-term promissory note to an accredited investor. The note
bears interest at a rate of 8% per annum and is repayable within 120 days of
issuance with accrued interest. As a commitment fee to loan us money, the holder
of the note received $75,000.
On April 28, 2004, we notified the debenture holders that we would make the
monthly redemption payments in cash commencing June 1, 2004 until otherwise
notified.
On April 30, 2004, 500,000 warrants were exercised at $0.104. Pursuant to the
anti-dilution provisions contained in certain warrants, the exercise price of
25,290,153 outstanding warrants was reduced to $0.104 per share, which was the
deemed price per share of the common stock that was issued to effect the April
1, 2004 redemption payment of our discounted convertible debentures maturing
April 1, 2006.
On May 19, 2004, we received gross proceeds of $750,000 upon the issuance of an
unsecured short-term promissory note to an accredited investor. The note bears
interest at a rate of 8% per annum and is repayable within 120 days of issuance
with accrued interest. As a commitment fee to loan us money, the holder of the
note received $75,000.
The net proceeds realized or to be realized by us from these transactions have
and are to be used for debt repayment, working capital and the purchase of
capital assets.
During fiscal year 2004, we also purchased certain capital assets at an
aggregate cost of $446,780. The majority of these capital assets were sent to
Hyundai Autonet in Korea to facilitate production of our aftermarket TPMSs for
passenger cars and motorcycles.
FUTURE OPERATIONS
Presently, our revenues are not sufficient to meet operating and capital
expenses. We have incurred operating losses since inception, and this is likely
to continue for the foreseeable future.
At December 30, 2005, we had cash and short-term investments of approximately
$6.35 million. We may require up to $2.35 million in financing through the next
twelve months in order to continue in business as a going concern because our
management projects that we will require $4.7 million to $8.7 million to fund
our debt repayment, ongoing operating expenses, working capital requirements and
litigation settlement through December 31, 2006, as detailed below.
Estimated Range
Marketing $ 1,700,000 $ 2,000,000
Engineering, research and development 2,000,000 2,500,000
General and administrative 2,200,000 3,000,000
Capital Purchases 100,000 200,000
Debt repayments (1) 500,000 1,500,000
General Working Capital (2) (1,800,000) (500,000)
----------- -----------
TOTAL $ 4,700,000 $ 8,700,000
=========== ===========
(1) Principal payments on all of our outstanding debt and interest payable
under our 10% convertible debentures is convertible into shares of our
common stock.
(2) Our working capital requirements are impacted by our inventory
requirements. Therefore, any increase in sales of our products will be
accompanied not only by an increase in revenues, but also by an increase
in our working capital requirements.
The continuation of our business is dependent upon obtaining further financing,
market acceptance of our current products and any new products that we may
introduce, the continuing successful development of our products and related
technologies, and, finally, achieving a profitable level of operations.
The issuance of additional equity securities by us could result in a significant
dilution in the equity interests of our current stockholders. Obtaining
commercial loans, assuming those loans would be available, will increase our
liabilities and future cash commitments.
28
APPLICATION OF CRITICAL ACCOUNTING POLICIES
Our consolidated financial statements and accompanying notes are prepared in
accordance with generally accepted accounting principles in the United States.
Preparing financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenue,
and expenses. These estimates and assumptions are affected by management's
application of accounting policies. We believe that understanding the basis and
nature of the estimates and assumptions involved with the following aspects of
our consolidated financial statements is critical to an understanding of our
financials.
Going Concern
We have incurred recurring operating losses and has a deficit of $93,343,673 and
working capital of $2,908,820 as at October 31, 2005. During the three months
ended October 31, 2005, we used cash of $3,149,869 in operating activities.
During fiscal year 2005, we realized gross cash proceeds of $42,595,017 (2004 -
$7,170,265) from financing activities, issued 62.5 million warrants and arranged
a $160.0 million (2004 - $15.0 million) equity line of credit (note 11(d)) to
fund our operations which was replaced on December 30, 2005, with a $100 million
Standby Equity Distribution Agreement. There can be no assurance that the
Company can draw down amounts under the equity line of credit as draw downs are
subject to an effective Registration Statement filed with the SEC. These
consolidated financial statements have been prepared on the going concern basis
which assumes that adequate sources of financing will be obtained as required
and that the Company's assets will be realized and liabilities settled in the
ordinary course of business. Accordingly, these consolidated financial
statements do not include any adjustments related to the recoverability of
assets and classification of assets and liabilities that might be necessary
should the Company be unable to continue as a going concern.
Inventory
Inventory is carried at the lower of cost, determined on a weighted average cost
method, and net realizable value. The determination of net realizable value is
based on several assumptions and estimates. We provide an allowance that we
consider to be reasonable for non-moving or slow moving inventory items and for
items with expected future realizable value lower than cost. These assumptions
and estimates may be inaccurate and may be revised.
The markets in which we compete are rapidly changing due to technological
developments and increasing focus on automotive safety. Other companies offer
products similar to those offered by us, and target the same customers as we do.
Many of these companies have substantially greater financial, marketing and
technical resources. We also anticipate that the competition within these
markets will increase as demand for the products escalates. It is possible that
new competitors or alliances among existing competitors may emerge and such
competitors may rapidly acquire significant market share and make it difficult
for us to sell our current inventory. All of these elements could reduce the net
realizable value of our inventory.
Warranty Obligations
On an ongoing basis, we record our best estimate of our warranty obligations and
product returns related to products sold. These estimates are made after the
consideration of contractual warranty obligations and historical experience.
Unforeseen events, including increased technological difficulties with products,
could occur that have not been anticipated in estimating the warranty provision.
Additional costs or estimates will be recognized as determinable.
Revenue Recognition
We recognize revenue when there is persuasive evidence of an arrangement, goods
are shipped and title passes, collection is probable, and the fee is fixed or
determinable. Customer acceptance is used as the criterion for revenue
recognition when the product sold does not have an established sales history to
allow management to reasonably estimate returns and future provisions.
Provisions are established for estimated product returns and warranty costs at
the time the revenue is recognized. We record deferred revenue when cash is
received in advance of the revenue recognition criteria being met. Revenue from
engineering services is recognized on services as they are rendered and
pre-defined milestones are achieved. Engineering services revenue for the fiscal
year were $0 (2004-$94,800 and 2003 -173,400).
Other Assets
Other assets are recorded at cost and are being amortized over five years on a
straight line basis. Other assets are comprised of licenses to manufacture and
sell TPMSs to the OEMs. On an ongoing basis, management assesses whether the
expected net recoverable amount of the licenses exceeds the book value of the
licenses. The net recoverable amount is determined on a projected cash flow
basis, undiscounted at an appropriate rate. Our belief is based on an
undiscounted cash flow analysis of management's current best estimate of
projected annual sales to the passenger vehicle and light truck OEM market plus
management's projected sales to the heavy truck OEM market. Although we expect
to generate cash flow from sales to the OEM marketplace, it is possible that we
will not generate cash flow from sales to the OEM marketplace in excess of net
book value, or that we will generate cash flow from sales to the OEM market in
future years after the other assets have been fully amortized.
29
Off-Balance Sheet Arrangements
We have not entered into any transaction, agreement or other contractual
arrangement with an entity unconsolidated with us under which we have:
o an obligation under a guarantee contract;
o a retained or contingent interest in assets transferred to the
unconsolidated entity or similar arrangement that serves as credit,
liquidity or market risk support to such entity for such assets;
o an obligation, including a contingent obligation, under a contract that
would be accounted for as a derivative instrument; or
o an obligation, including a contingent obligation, arising out of a
variable interest in an unconsolidated entity that is held by, and
material to, us where such entity provides financing, liquidity, market
risk or credit risk support to, or engages in leasing, hedging, or
research and development services with us.
DESCRIPTION OF BUSINESS
Overview
We develop and market technically advanced TPMSs for the transportation and
automotive industries that monitor tire pressure and tire temperature. Our TPMSs
are designed for improved vehicle safety, performance, reliability and fuel
efficiency. Although, 60% of our revenues in fiscal 2005 (76 % in fiscal 2004)
were earned from the sale of TPMSs for passenger cars, sales of our bus,
recreational, truck and motorcycle TPMSs increased as a percentage of our
overall revenues. Based on market demand, we anticipate an increase in our total
revenues and a continued increase in the percentage of our revenues from sales
of our TPMSs for the bus, recreational, truck and motorcycle markets during
fiscal 2006.
We have three wholly owned subsidiaries: SmarTire Technologies Inc., SmarTire
USA Inc. and SmarTire Europe Limited. SmarTire Technologies Inc. was
incorporated on June 3, 1988 under the laws of the Province of British Columbia,
and was the original developer of our patented technology. SmarTire USA Inc., a
Delaware corporation incorporated on May 16, 1997, is our exclusive marketing
agency for SmarTire in North America. SmarTire Europe Limited, a United Kingdom
corporation incorporated on February 25, 1998, is our exclusive sales and
distribution operation for Europe.
We are a "foreign private issuer," as such term is defined in Rule 3b-4 under
the Securities Exchange Act of 1934. However, we have elected to file Annual
Reports on Form 10-KSB, Quarterly Reports on Form 10-QSB and Current Reports on
Form 8-K with the SEC.
We currently sell TPMSs for passenger cars, buses, recreational vehicles, trucks
and motorcycles and our vision is to become a preeminent provider of wireless
sensing and control systems for the vehicle industry. Our vision may be extended
to three basic types of systems: sensing, control and system applications.
Sensing Applications
Our vision is to commercialize a wide array of sensors, compatible with our
TPMSs for the vehicle industry. We developed a receiver module with Vansco that
functions as a "wireless gateway" that we began shipping to customers in August
2005. This module can wirelessly receive signals from up to 256 new sensors in
addition to signals from tire pressure sensors. The data from these sensors can
then be placed on the vehicle bus or on a display module. This ensures that the
driver, maintenance group or monitoring agencies have access to the sensor data
as required. In addition to tire pressure monitoring, customers would have the
ability to access far more data on their vehicle. This translates to a higher
value proposition to the customer, while giving us the ability to sell more
products.
Control Applications
A natural evolution of our product family is to use the "wireless gateway"
module to not only receive signals from sensors but to act on the data received.
The basic premise is based on using sensors to interpret a condition and then
have the "wireless gateway" module send a control signal to a device to perform
a specified action based on the sensor output. For example, when the "wireless
gateway" module receives data from a tire sensor it can control a "horn" to
provide an audible warning, activate a lamp or provide information to a vehicle
display control.
We are currently evaluating a number of other control applications.
System Applications
System applications are created by utilizing the information obtained from
vehicle sensors to provide a total solution to the owner of a vehicle or fleet
of vehicles. This means that the data generated by the sensors is gathered by
the "wireless gateway" module and integrated with the overall maintenance and
monitoring system utilized by the customer. This integration allows maintenance
staff, owners and drivers to access all relevant sensor information and
warnings.
30
Corporate History
We were incorporated under the laws of the Province of British Columbia as
TTC/Truck Tech Corp. on September 8, 1987. We were initially formed to develop
and market remote data sensing, transmission and processing products
incorporating patented technologies to satisfy emerging market requirements in
the transportation industry.
We were continued under the Business Corporations Act (Yukon Territory)
effective February 6, 2003. As a result, our Memorandum and Articles that
constituted our constitutional documents while we were a British Columbia
company have been superseded and replaced by Articles of Continuance filed with
the Yukon Registrar of Corporations under section 190 of the Business
Corporations Act (Yukon Territory) and Bylaw No. 1, being a bylaw adopted by our
Board of Directors relating generally to the transaction of the business and
affairs of our company. Our continuance as a Yukon corporation was approved by
special resolution adopted by our shareholders at the annual and extraordinary
general meeting held on December 12, 2002. Effective December 10, 2004, we filed
a Certificate of Amendment with the Yukon Registrar of Corporations to our
Articles of Incorporation to increase the number of our authorized shares of
common stock from 300,000,000 shares to an unlimited number of shares. On March
18, 2005, we filed articles of amendment to our articles of incorporation which
set forth all the rights and preferences of the series A 5% convertible
preferred stock.
We completed our initial public offering on the Vancouver Stock Exchange (now
the TSX Venture Exchange) on September 11, 1989. On April 13, 1995, we changed
our name to UniComm Signal Inc. On December 24, 1997, we changed our name to
SmarTire Systems Inc. and effected a reverse stock split pursuant to which our
common stock was consolidated on a 1 for 8 basis. On December 16, 1998, our
common stock commenced trading on the NASDAQ Capital Market. On March 12, 1999,
we voluntarily delisted our common stock from trading on the Vancouver Stock
Exchange. On May 28, 2003, our common stock ceased trading on the NASDAQ Capital
Market and is now quoted on the OTC Bulletin Board.
On December 6, 1996, we acquired the Low Tire Pressure Warning Division of EPIC
Technologies, Inc. of Norwalk, Ohio. The assets that we acquired from EPIC
Technologies included specialized testing equipment, patents and certain
contractual rights, including the rights under a production program that EPIC
had established with Ford Motor Company. Under that production program, the Low
Tire Pressure Warning System that we acquired from EPIC Technologies was offered
by Ford Motor Company as an option on Lincoln Continentals until the end of
December 2001 when that particular model was discontinued.
Our acquisition of EPIC Technologies' Low Tire Pressure Warning Division
accelerated our entry into the passenger car market. Recognizing the emerging
demand for TPMSs in passenger cars and light trucks, we modified the new car
version of the technology that we had acquired from EPIC Technologies for use in
existing vehicles.
On April 20, 1998, we established a strategic alliance with TRW Inc., a large
U.S.-based automotive parts supplier. The strategic alliance was founded on four
agreements between the parties: an Equity Agreement, a Cooperation Engineering
Agreement, an Original Equipment Manufacturer License Agreement and a
Manufacturing Agreement. The agreements provided for joint engineering and
development activities between the parties, and TRW was granted exclusive
marketing and distribution rights for some of our products. In addition, TRW had
exclusive rights in the original equipment market for any tire monitoring
products that it developed jointly with us and we had exclusive rights in the
automotive aftermarket.
Effective August 31, 2001, we restructured our strategic alliance with TRW. As a
result of the restructuring, most of the agreements that we had entered into
with TRW in 1998 were cancelled. However, TRW retained its equity position in
our company. By ending our collaboration with TRW in product development and by
providing that neither we nor TRW will have exclusive rights to any products,
the restructuring effectively provided us with immediate access to all levels of
the global automotive and transportation industries.
Effective August 31, 2001, we restructured our strategic alliance with TRW. As a
result of the restructuring, most of the agreements that we had entered into
with TRW in 1998 were cancelled. However, TRW retained its equity position in
our company. By ending our collaboration with TRW in product development and by
providing that neither we nor TRW will have exclusive rights to any products,
the restructuring effectively provided us with immediate access to all levels of
the global automotive and transportation industries.
In December 2002, we entered into an eight-year supply commitment letter for
TPMSs to be offered as part of the OEM package on certain vehicles produced by
Aston Martin. We are committed to supply the systems in response to purchase
orders submitted by Aston Martin from time to time. Aston Martin initially
installed TPMSs on the V12 Vanquish. In September 2004, Aston Martin began
purchasing TPMSs for installation on its DB9 model that went into production in
2004. Aston Martin recently began purchasing TPMSs for installation on its V8
Vantage that went into production in 2005.
We completed the development and launch of our second generation TPMSs for the
passenger car and light truck market during the fiscal year ended July 31, 2001.
We introduced our motorcycle TPMSs for sale into the aftermarket in September
2002. In August 2004, we discovered that the sensor/transmitter may break during
installation on the subset of motorcycle rims with curved rim surfaces when the
strap is torqued to its required value. On September 14, 2004, we contacted the
National Highway Traffic Safety Administration ("NHTSA") to determine if a
Safety Defect and Non Compliance Report was required and we were advised that it
was necessary. Our remedy for the defect was to recall 100% of affected
sensor/transmitter items from the field and replace both recalled and inventory
sensor/transmitters with sensor/transmitters previously manufactured by a
different supplier that have been tested and known to use plastics that provide
the required mechanical properties. Additionally we wish to ensure that
transmitters are used only on rims with flat drop center wells (as originally
designed for) and not curved. We took the following additional precautionary
steps:
31
o we added improved warnings and instruction sheets to new product as well
as product in inventory at dealers and distributors that clarify flat rim
drop center well application only; and
o we removed TPMSs on motorcycles with rims with curved drop center wells.
At the end of fiscal 2004, we estimated the cost of the recall to be $67,000.
Recall costs incurred to the end of July 2005 were $46,897. We have made a
provision in accounts payable for the additional $20,103 that we anticipate
incurring. In addition, we developed a solution to enable us to sell our TPMSs
on motorcycles with rims with curved drop center wells. We released this
enhanced product during April 2005. To date, the response to the recall by our
customers has been very positive. Although interest in the motorcycle product by
existing and potential customers remains positive, it is difficult for us to
predict what the volume of sales will be, as this will depend primarily on
market acceptance.
In February 2003, we signed a manufacturing, co-marketing and development
agreement with Hyundai Autonet Company, Ltd. (HACO) an established Korean
automotive electronics supplier. Under this agreement, HACO and our company were
to co-develop, manufacture and distribute tire monitoring products to HACO,
original equipment vehicle manufacturers and the automotive aftermarket in
Korea. The agreement provided for the payment to us by HACO of a total of
$300,000 in fees, to cover the cost to develop a receiver and transmitter that
could be used in the Korean and Japanese markets. Total payments of $232,500
have been made to date. The remaining $65,000 was payable upon the launch of
these products in South Korea. We originally expected to receive an ongoing
revenue stream through the sales of proprietary components to HACO beginning in
early 2004. As at July 31, 2005, we had recorded an allowance for doubtful
accounts of $35,700 as we had recognized engineering service revenue of $268,200
and we did not have a firm launch date. We are currently negotiating a final
settlement with HACO as there is uncertainty as to whether the project will be
completed. In addition, we are having ongoing discussions with HACO with regards
to the marketing and co-development of TPMS.
In October 2003, we signed a contract manufacturing services agreement with
HACO. Under the terms of the agreement, HACO was to manufacture our proprietary
line of TPMSs for sale and distribution globally by SmarTire. HACO was purchased
by Hyundai Motor Company and Siemens (one of our competitors). On November 21,
2005, we and HACO mutually terminated our contract manufacturing agreement. This
termination was a result of HACO's acquisition by Hyundai Motor Company. The
termination has not impacted our business nor were there any costs related to
the termination.
As previously disclosed, we entered into a two-year agreement with Beijing Boom
Technology Co. Ltd in October, 2003, to act as a "master distributor" of our
TPMSs in mainland China. Although the agreement provided for a two-year term
ending on October 9, 2005 and automatic renewal for successive one-year terms
provided certain minimum purchase commitments were met, Beijing Boom Technology
has not purchased a material amount of product during fiscal 2005 nor do we
anticipate that they will purchase a significant amount of product in the future
as they are experiencing difficulties penetrating the Chinese market.
On September 5, 2005 we achieved registration to ISO/TS 16949:2002, the quality
management standard for the automotive and commercial vehicle industry
industries. The certification applies to our design and manufacture of wireless
sensing and control systems for the global transportation industry. We were
registered to ISO/TS 16949:2002 by VCA, an organization with more than 30 years
of automotive industry experience and a client base that includes the major
North American automotive companies and many of their Tier 1 suppliers.
This registration positions us to meet the quality requirements of new and
existing OEM customers. The cornerstone of the ISO/TS 16949:2002 registered
system is achievement recognition of our ability to meet customer requirements
throughout all levels of the organization. Registration to ISO/TS 16949:2002,
provides confidence to automotive OEM customers that we have implemented
processes to ensure robust and reliable systems that meet those requirements.
On October 12, 2005 we entered into a seven year Marketing and Distribution
agreement with DANA through its Heavy Vehicle Technology and Systems Group.
Under the contract DANA will market and sell SmarTire's tire monitoring systems
to OEM customers throughout North America, Mexico, Australia and New Zealand.
The companies will collaborate on marketing opportunities to meet the needs of
their global customers and markets. DANA is a leading Tier I supplier in the
design and manufacture of commercial vehicle drive train components for medium
and heavy duty vehicles for sale to original equipment manufacturers and
associated original equipment service and the independent aftermarket.
On November 21, 2005 we entered into a manufacturing agreement with Vansco.
Under the agreement, Vansco will manufacture key subsystems for SmarTire's
wireless gateway family of products. Vansco specializes in the design and
manufacture of electronic, electro-mechanical and electro-hydraulic controls and
instrumentation and offers engineering design expertise in system integration,
hardware, software, wire harness and electronics packaging. Vansco was founded
in 1978 by Ed and Terry Van Humbeck in Winnipeg, Canada. Focused on the global
heavy equipment market, it has more than 1000 employees and more than $200
million in sales. With the recent addition of the Morton, Illinois, plant,
Vansco will support its customer base from three North American plants and from
a more recent acquisition of a plant in Forssa, Finland. Vansco provides global
sales, applications engineering, design, manufacturing and service support. In
2004, Vansco was acquired by Kilmer Capital Partners and Borealis Private
Equity. Vansco serves a strong customer portfolio of top-tier, OEMs, many of
which are international leaders in their respective markets.
On November 21, 2005, we and HACO mutually terminated our contract manufacturing
agreement. This termination was a result of HACO's acquisition by Hyundai Motor
Company. The termination has not impacted our business nor were there any costs
of termination.
32
Government Regulations
Our products are subject to regulation by the government agencies responsible
for radio frequencies in each country that our TPMSs will be sold. For example,
in the United States, approval must be received from the Federal Communications
Commission for each product. Some countries require additional governmental
approvals in certain circumstances. For example, in the United Kingdom, all
electronic equipment to be installed in emergency and police vehicles must be
approved by the Vehicle Installation Development Group, a governmental body.
Also, as a practical matter, certain non-governmental approvals may be necessary
for market acceptance of our products in certain countries. For example, the
approval of TUV (an independent testing company) is considered necessary to
market our TPMSs in Germany.
We believe that we have all of the necessary governmental approvals for our
current TPMSs in our intended market countries. As each new TPMS is introduced
to the market, we intend to apply for the necessary approvals.
During our fiscal year ended July 31, 2001, the United States government enacted
the Transportation Recall Enhancement, Accountability, and Documentation Act of
2000, commonly known as the TREAD Act. This new legislation was implemented to
address perceived safety concerns resulting from poor tire maintenance, tread
separation and tire blowouts. The TREAD Act, among other things, requires that
the NHTSA develop rules and regulations that require all new passenger cars,
light trucks and multipurpose passenger vans sold after November 1, 2003 to have
TPMSs installed as standard equipment. The TREAD Act requires that TPMSs must be
capable of warning drivers if a tire is significantly under-inflated. The
mandated rules and regulations were scheduled to be finalized in November 2001
for implementation in 2003.
In July 2001, NHTSA published and circulated a Notice of Proposed Rule Making
that included provisions related to the tire monitoring requirements of the
TREAD Act. The Notice of Proposed Rule Making outlined the parameters of systems
that the NHTSA would consider compliant with the legislation and the proposed
periods for complying with the regulations. Two forms of tire monitoring
technologies were to be considered:
o Direct tire monitoring technologies are based on dedicated
sensor/transmitters located within the cavity of the tire that are usually
mounted on the wheel. The transmitter monitors and measures contained air
pressure and temperature within each tire and wirelessly transmits this
information to a receiver located in or around the instrument panel of the
vehicle. Our products are an example of a direct system.
o Indirect tire monitoring technologies typically work with the vehicle's
anti-lock brake system. Most indirect TPMSs compare each wheel's
rotational speed with the rotational speed of other wheels. If one tire
becomes significantly under-inflated while the others remain at proper
pressure, the indirect system eventually detects the problem because that
wheel's rotational speed is on average slightly higher than that of other
wheels.
In the Notice of Proposed Rule Making, the NHTSA concluded that direct
measurement systems have major advantages over indirect systems as they:
o actually measure the pressure in each tire and can detect when any tire or
combination of tires is under-inflated, including when all tires are
under-inflated;
o operate while the vehicle is stationary;
o are highly accurate and can detect small pressure losses, some even as low
as one pound per square inch;
o provide full time monitoring even when the vehicle is driven on bumpy
roads, has mismatched tires or has a tire out of balance or alignment;
o do not need substantial time to calibrate the system and reduce the very
real possibility for human error; and
o can tell the operator which tire is under-inflated.
On May 31, 2002, the NHTSA issued part one of a two-part final rule. Part one
established a new Federal Motor Vehicle Safety Standard that required a TPMS be
installed in passenger vehicles and light trucks to warn the driver when a tire
is below specified pressure levels. During the first year of the implementation
schedule, beginning November 1, 2003, at least 10% of each auto manufacturer's
total production was to be equipped with TPMSs. This requirement was to increase
to 35% during the second year, 65% by the third and 100% after October 31, 2006.
Part one of the NHTSA final rule contemplated two compliance options during the
period from November 1, 2003 to October 31, 2006. Under the first compliance
option, a vehicle's TPMSs must alert the driver if one or more tires, up to four
tires, are 25% or more under-inflated. Under the second compliance option, a
vehicle's TPMSs must alert the driver if any of the vehicle's tires is 30% or
more under-inflated. The second compliance option was adopted by the NHTSA
because indirect TPMSs are currently not capable of meeting the stricter
four-tire, 25% requirement under the first compliance option, and it was deemed
appropriate to permit manufacturers to continue to use current indirect TPMSs
while they work to improve those systems.
At the time that it issued the first part of its final rule, the NHTSA announced
that it would closely monitor the performance of indirect measurement TPMSs
under the second compliance option. We initially expected the NHTSA to issue the
second part of its final rule on or before March 1, 2005, and, at that time, to
announce whether indirect TPMSs based on anti-lock brake systems would be a
permissible compliance option under the TREAD Act after October 31, 2006.
However, due to the Court of Appeals ruling discussed below, we do not know
whether indirect TPMSs based on anti-lock brake systems would be a permissible
compliance option under the TREAD Act after October 31, 2006.
33
Three not-for-profit advocacy organizations, Public Citizen, Inc., New York
Public Interest Research Group and The Center for Auto Safety filed a petition
in United States Court of Appeals for the Second Circuit seeking review of the
NHTSA's final rule. The Secretary of Transportation was named as the respondent
in the matter, and the Alliance of Automobile Manufacturers was an intervener.
On August 6, 2003, the United States Court of Appeals, Second Circuit, granted
the petition for review, vacated the NHTSA's final rule, and remanded the matter
to the NHTSA for further rulemaking proceedings in a manner consistent with the
court decision.
The court stated that the NHTSA decision to adopt the second compliance option
was both contrary to law and arbitrary, but that the adoption of the first
compliance option was appropriate. In coming to this conclusion, the court found
that, according to the rule-making record, the one-tire, 30% under-inflation
standard contemplated by the second compliance option would allow automakers to
install indirect TPMSs that fail to warn drivers in approximately half of the
instances in which tires are significantly under-inflated, and that the
four-tire, 25% under-inflation standard contemplated by the first compliance
option would prevent more injuries, save more lives and be more cost-effective.
On September 10, 2004 the NHTSA issued a Notice of Proposed Rulemaking (NPRM)
document defining their current position. Comments on the proposed rulemaking
were to be received on or before 60 days after date of publication of the NPRM
in the Federal Register. The NHTSA proposed a new Federal Motor Vehicle Safety
Standard requirement for four tire, 25% under-inflation detection. The rule
proposed requirements for covered vehicles manufactured on or after September 1,
2005.
On April 7, 2005 the NHTSA released their final rule. The NHTSA is proposing the
lead time and phase in schedule described below.
Compliance with the final rule started on October 5, 2005. Subject to the
special provisions discussed below, the phase-in schedule is as follows:
o 20% of a vehicle manufacturer's light vehicle production is required to
comply with the standard during the period from October 5, 2005, to August
31, 2006;
o 70% must comply during the period from September 1, 2006 to August 31,
2007; and
o 100% of all light vehicles built on or after September 1, 2007 must
comply.
However, the NHTSA has deferred vehicle manufacturers' compliance with the new
system malfunction indicator light requirements until September 1, 2007. This
requirement is discussed below.
The NHTSA has also decided to encourage early compliance by permitting
carry-forward and carry-back credits. Vehicle manufacturers can earn
carry-forward credits for compliant vehicles produced in excess of the phase-in
requirements that are manufactured between April 8, 2005 and the conclusion of
the phase-in. However, beginning September 1, 2007, all covered vehicles would
be required to comply with the standard, without regard to any earlier carry
forward credits. It will not be permissible for a dealer to install tires on a
new vehicle that would take the vehicle out of compliance with the TPMS
standard. With carry-back credits, manufacturers may defer compliance with a
part or all of the certification requirements under the standard for the first
period of the phase-in, provided they certify a correspondingly increased number
of vehicles during the second period of the phase-in.
Special provisions related to the phase-in include:
o The NHTSA has excluded multi-stage manufacturers and alterers from the
requirements of the phase-in and has extended by one year the time for
compliance by those manufacturers (i.e., until September 1, 2008).
o The final rule also excludes small volume manufacturers (i.e.,
manufacturers producing less than 5,000 vehicles for sale in the U.S.
market in one year) from the phase-in, requiring vehicles produced by such
manufacturers to comply with the standard on September 1, 2007.
Requirements of the final rule are summarized as follows: New Federal Motor
Vehicle Safety Standard 138 requires passenger cars, multi-purpose passenger
vehicles, trucks, and buses with a gross vehicle weight rating of 4,536 kg
(10,000 pounds) or less, except those with dual wheels on an axle, to be
equipped with a TPMS to alert the driver when one or more of the vehicle's
tires, up to a total of all four tires, is significantly under-inflated.
Specifically, the TPMS must warn the driver when the pressure in one or more of
the vehicle's tires is 25% or more below the vehicle manufacturer's recommended
cold inflation pressure, or a minimum level of pressure specified in the
standard, whichever pressure is higher. Under the new standard, if any tire
drops below the standard's activation threshold, the TPMS is required to provide
the low tire pressure warning by illuminating a yellow telltale within 20
minutes of additional travel within a speed range of 50-100 km/hr. This telltale
must remain illuminated (and re-illuminate upon subsequent vehicle start-ups)
until the under-inflation condition has been corrected.
Some additional details of the final rule are as follows:
34
o The TPMSs to be used would be required to include a system malfunction
indicator (provided either by a separate telltale or a combined low tire
pressure/malfunction indicator telltale) that would alert the driver in
situations in which the TPMS is unable to detect low tire pressure. This
malfunction indicator is required to detect incompatible replacement
tires, as well as other system faults. Similar to the low tire pressure
warning, the system is required to trigger a TPMS malfunction warning
telltale within 20 minutes of additional travel within a speed range of
50-100 km/hr after such a malfunction occurs. This malfunction indicator
light telltale must remain illuminated (and re-illuminate upon subsequent
vehicle start-ups) until the TPMS malfunction has been corrected.
o A specific test course (i.e., the Southern loop of the tread wear test
course, San Angelo, Texas), which is both objective and representative of
a range of driving conditions, would be required to be used.
o The TPMSs would not be required to monitor the spare tire (if provided)
either when it is stowed or when it is installed on the vehicle.
o For vehicles certified under the standard, vehicle manufacturers would be
required to provide in the owners manual an explanation of the purpose of
the low tire pressure warning telltale, the potential consequences of
significantly under-inflated tires, the meaning of the telltale when it is
illuminated, and what action the driver should take when the telltale is
illuminated.
On June 6, 2005, a lawsuit was filed in the U.S. Court of Appeals for the
District of Columbia by Public Citizen, the Goodyear Tire & Rubber Company,
Bridgestone Firestone North American Tire, Cooper Tire & Rubber Co., Pirelli and
the Tire Industry Association.
The plaintiffs allege that the NHTSA rule, issued in April 2005, doesn't require
tire pressure monitoring systems to operate with replacement tires and that this
is a dangerous omission given that an estimated 61 percent of passenger and 54
percent of light truck mileage occurs on replacement tires. Under the rule, a
malfunction light will come on to alert motorists that the system is not working
with the tires. The plaintiffs allege that not only would this undermine public
confidence in the systems, but it would likely lead to consumers ignoring the
warning light or having it disabled.
Our direct measurement TPMS generally exceeds the standard for tire pressure
monitoring established by the NHTSA. We believe that auto manufacturers must
accelerate their implementation plans in order to meet these new NHTSA
regulations, which will create additional opportunities to market our products
to OEMs in the automobile industry. In addition, although the TREAD Act only
applies to passenger automobiles, we believe that other motor vehicles,
including medium and heavy trucks, buses and motorcycles will be impacted by
this legislation in subsequent years. We also believe that compliance with the
TREAD Act by European, Japanese, Chinese and other automakers will accelerate
the adoption of TPMSs globally.
It is difficult to predict the magnitude of the expected sales increase or the
exact timing of the increase since our products will continue to face
competition from other TPMSs manufactured by our competitors, and the timing of
additional legislative initiatives on tire safety, if any, in the United States
and abroad remains uncertain. We expect that as TPMSs become standard equipment
for new passenger vehicles, demand for TPMSs as dealer installed options and
aftermarket products will gradually decline.
Strategic Relationships
Our strategy includes the establishment of alliances to assist in the
development and marketing of our products and technologies. Key strategic
alliances include:
Alligator Ventilfabrik GmbH. On December 10, 1999, we entered into an agreement
to develop valve stem designs and tire monitoring electronic packaging for new
market applications and new tire monitoring technologies with Alligator
Ventilfabrik GmbH. Based in Giengen, Germany, Alligator currently supplies us
with valve stems that allow the attachment of tire monitoring sensors inside the
tire.
Vansco Electronics LP. On September 12, 2003, we entered into a development and
supply agreement with Vansco. This agreement provided for the merging of
Vansco's vehicle communication expertise with our proven radio frequency
technology to create a high sensitivity, weatherproof, J1939 controller area
network (CAN), chassis-mounted receiver. Vansco manufacturers this receiver for
us.
GE Nova Sensor. In 2004, our application specific integrated sensor (ASIS)
procurement strategy was refined to begin procuring the high and low pressure
ASIS's from GE Novasensor.
DANA Corporation. On October 12, 2005 we entered into a seven year Marketing and
Distribution agreement with DANA through its Heavy Vehicle Technology and
Systems Group. Under the contract DANA will market and sell SmarTire's tire
monitoring systems to OEM customers throughout North America, Mexico, Australia
and New Zealand. The companies will collaborate on marketing opportunities to
meet the needs of their global customers and markets. DANA is a leading Tier I
supplier in the design and manufacture of commercial vehicle drive train
components for medium and heavy duty vehicles for sale to OEMs and associated
original equipment service and the independent aftermarket.
Products
Our active tire monitoring systems generally include several key components:
pressure and temperature sensor/transmitters mounted inside the tires, a
receiver module mounted either on the vehicle chassis and cab that collects the
information from the sensor/transmitters wirelessly, and a display device that
communicates tire temperature and pressure information, alert conditions and
location of alerts to the driver. We have developed tire monitoring systems for
the passenger car, motorcycle, recreational, bus and the commercial vehicle
market sector.
35
Passenger Car
Using sophisticated in wheel sensors, advanced displays and state-of-the-art
wireless technology, we have developed tire monitoring products for cars, light
trucks, sport utility vehicles and multi purpose vans. We offer three display
options to suit a variety of vehicles styles, dashboard configurations and
consumer needs. Our full function displays can also be individually programmed
to suit specific vehicle applications.
Our products come with four tire transmitters, one for each wheel position. The
lightweight transmitter is secured on the wheel with a steel strap and is
identified by colour coded rings on the tire valve. The transmitters are
uniquely programmed to transmit to our receiver that has four colour-coded
warning lights corresponding to the colour-coded valve rings. Installation of
our transmitters should be done by qualified tire professionals.
Valve mount transmitters are also available for original equipment and car
accessory applications.
We offer a basic display that provides two levels of pressure warnings to the
driver in the event of pressure loss through both an audible alarm and a red
illuminated light indicating the affected tire. For drivers wanting more
detailed tire monitoring data, we offer a full function display or a full
function remote display. These products offer digital pressure and temperature
information through a fully programmable liquid crystal display ("LCD"). The
full function displays automatically identify the nature and location of
pressure or temperature irregularities and allows the driver to read the tire
temperature and pressure status by scrolling through each tire position.
Motorcycle
Our TPMS for motorcycles acts as an early warning device by actively monitoring
a motorcycle's tire pressure and temperature.
Our display is small, weatherproof and very easy to see. The ultra bright alert
icon warns of a tire problem before it becomes dangerous.
Our strap mounted sensors use advanced wireless technology to transmit
temperature and pressure data while the motorcycle is in motion. The sensors are
light weight and do not affect the normal balancing of the tire.
The display can be mounted virtually anywhere on the bike in easy view of the
rider.
Recreation Vehicles (RV) and Bus
SmarTire for RVs is a TPMS specifically designed to meet the unique needs of
RVs. It constantly monitors your tires and warns of a tire problem before it
becomes dangerous. Our high pressure sensor/transmitters are mounted securely to
the rim using stainless steel straps.
The graphic display is mounted in view of the driver providing real-time tire
information. If a problem occurs, both an audible and visual warning alerts the
driver to the condition. Towed vehicle or trailer tires can be monitored by
simply adding low pressure sensors to the wheels. In-wheel sensors constantly
monitor tire pressure and temperature. Tire data is transmitted wirelessly to
the receiver. The receiver can monitor up to 20 wheel positions and is able to
handle the most complex RV and towed vehicle/trailer configurations.
The product is sold in both preconfigured kits for aftermarket installation as
well as in bulk quantities to support OEMs.
Commercial Vehicles including Trucks and Trailers
The SmartWave brand will apply to all products developed under our wireless
gateway architecture focused on the commercial vehicle industry. Under the
SmartWave brand, the company will initially introduce three versions of its tire
pressure and monitoring systems to meet the varying needs of fleet customers.
The first version provides basic safety features, while the second includes
additional functions that enable fleets to achieve savings in fuel and tire
costs. The third product will provide off vehicle communications to fleets'
service centers. It will also provide additional information such as tire
history, diagnostic and prognostic information that we believe will further
increase the value of the OEMs products to their customers. We are evaluating
additional wireless sensing and control applications that will use the same
architecture to provide value where traditional wired solutions are not
competitive or are difficult to implement.
We believe SmartWave creates revenue generating opportunities for OEMs and their
dealer channels. SmartWave is a wireless platform based on industry standard
tools, service platforms and pre-defined system components that we believe will
increase the OEMs value to their customers.
Product Development
Our technology provides drivers with real time information regarding tire
pressure and temperature changes. This information provides the consumer and
commercial markets with improved vehicle safety, performance and fuel economy.
Our products have been engineered and designed for universal application. The
sensor/transmitter can be installed on virtually any tire and wheel combination.
Each sensor/transmitter contains a custom ASIS. A receiver unit and optional
display modules mounted in the vehicle provides appropriate alarm indications
with optional graphical readout.
The custom ASIS is a single micro-electronic package containing pressure and
temperature sensing elements and a digital logic state machine that functions as
the brains of the sensor/transmitter. This chip is robust in design, optimizes
battery life and provides various modes of sensing and communicating that ensure
faster transmission of data when problems occur. Packaged on a miniaturized
circuit board with the ASIS are various components and our radio frequency
technology. Using this wireless radio frequency technology, the data is
transmitted through the tire to a remote receiver.
36
Our products feature transmitter options providing different installation
choices for various automotive applications. A strap-mounted transmitter
attached to the wheel offers the most universal installation for a wide range of
tire and wheel assemblies. A valve-mounted transmitter attached to the base of
the valve offers an adjustable, secure in-tire installation for specific
wheel/rim profiles. Once installed, the sensor/transmitters do not require
ongoing maintenance. The sensor/transmitters communicate to remote receivers and
the data is displayed inside the vehicle. We have developed three display
options for the aftermarket (basic, integrated full function and remote full
function) as well as telltale lights, switch blanks and digital displays for OEM
and port of entry applications.
We developed OEM passenger car solutions to support the level of demand that our
management anticipates from potential customers in this market sector. The OEM
transmitter features a 50% size and weight reduction over our current generation
transmitter, as well as innovative new mounting options including bonding
directly to the wheel as well as a more innovative valve mount approach. We are
currently marketing our existing products to small and medium sized OEMs.
We introduced our motorcycle TPMSs for sale into the aftermarket in September
2002. We introduced a substantially improved second generation motorcycle TPMS
at the Indy Motorcycle Dealers Show, held in Indianapolis, Indiana in
mid-February 2004. During May 2004, this product became commercially available
and we began shipping it to our customers. As discussed under "Corporate
History" above, we encountered a component defect issue as well as an
application issue with curved rims and initiated a recall in September 2004. We
have corrected the component defect issue and are currently shipping TPMSs for
motorcycles that address the issue of rims with curved drop center wells.
On September 12, 2003, we entered into a development agreement with Vansco Ltd.
This agreement provides for the merging of Vansco's vehicle communication
expertise with our proven radio frequency technology to create a high
sensitivity, weatherproof, J1939 CAN, chassis-mounted receiver. The J1939 CAN is
the most widely used communication standard in commercial vehicles today,
allowing for multiplexing, receiving and transmitting of signals from various
sources. When CAN technology is combined with our high pressure sensors, we
anticipate that this joint development effort will result in a new TPMS targeted
directly at OEMs of commercial trucks, buses, agricultural, construction and
recreational vehicles. In November 2004, design validation testing and the
initial pilot build of 300 units was completed. The product has completed design
validation testing and has received regulatory radio approvals in Europe and
North America. Production validation testing has now been completed. Vansco has
now begun to manufacture the product for us. We currently sell this product to
our lead customer for this product, Motor Coach Industries.
Our recreational vehicle and bus TPMSs consist of strap mounted transmitters
mounted inside the tires, rugged receivers mounted in the cab or on the chassis,
stand alone graphical displays or warning lights, and antennas mounted on the
chassis. Our system can also be integrated with existing OEM in- vehicle
displays.
On October 10, 2003 we entered into a Co-Marketing and Development Agreement
with Haldex Brake Products Ltd., and a related Supply Agreement with Haldex.
Under the terms of the Co-Marketing and Development Agreement, we were to engage
in a joint development program to integrate our TPMSs with Haldex's brake
systems, with the view to creating a commercial high pressure TPMS for marketing
and resale by Haldex. We anticipated that any new products that result from our
collaboration with Haldex would be targeted at both OEMs and aftermarket
applications for trailers. As Haldex requested a hold in the joint development
program until the end of October 2005 due to a lack of technical resources on
their part and the fact that the agreement between our companies has changed
scope considerably since we began this program, we have asked for a release from
the current contract. Haldex has not yet provided us with the release.
During July 2004, we successfully completed the initial prototype test phase of
a new battery-less tire pressure and temperature monitoring system. With the
automotive industry in search of a tire monitoring technology that does not rely
on batteries, we believe that our next generation of TPMSs could set a new
standard. Current tire pressure monitoring systems use battery power to transmit
pressure and temperature information from sensors inside the tires to a receiver
located within the vehicle. Our new technology involves a passive sensor inside
each tire that is energized by an antenna located within each wheel arch. It
offers significant improvements over current battery powered tire monitoring
technologies. Elimination of the battery in the sensor greatly reduces its
weight, size and cost. Sensor life and reliability are increased and battery
disposal issues are eliminated, creating an environmentally "green" solution.
This new approach to tire monitoring allows tires to be rotated or changed
without re-programming the system. It also tracks tire revolutions, a critical
variable in predicting tire life. We have slowed our development of a
battery-less system to focus our development on supplying products required in
the commercial market.
Marketing
SmarTire USA and SmarTire Europe currently market our TPMSs in North America,
Europe, South Africa and Australia.
As a result of the enactment of the TREAD Act, we substantially changed our
marketing strategy to take advantage of OEM business for vehicles manufactured
or imported into the United States. We expect that, as TPMSs become standard
equipment for new passenger vehicles in the United States over the next few
years, demand for TPMSs will increase on a worldwide basis.
The TREAD Act, which mandated tire monitoring for all new passenger cars, is
accelerating the acceptance of wireless systems for the vehicle industry. We
believe the convergence of wireless and wired networks will enable SmarTire's
wireless technology to interface with existing wired vehicle networks,
particularly in commercial vehicles including trucks, buses, recreational and
off-road vehicles. We anticipate this legislation will be expanded to cover
these vehicles. Based on discussions with our customers, including DANA, we
forecast the use of wireless technology will rapidly expand from tire pressure
monitoring to applications such as brake monitoring, alarm and security systems,
vehicle maintenance and other sensing and control applications.
37
Our current marketing strategy focuses on sales of our TPMSs for OEM
applications in the commercial, recreational and industrial markets. In
approaching the OEM market, we expect to position ourselves as a wireless
gateway system provider by providing multiple applications beyond TPMSs. Our
strategy is to provide high quality products to the OEM market which incorporate
the highest level of technology possible, at a competitive price. We also plan
to supply the OEM aftermarket through strategic channel partnerships.
Competition
Tire monitoring products can generally be divided between two basic types:
direct technology and indirect monitoring technologies. As described in the
NHTSA's report, and discussed above under the heading "Description of Business -
Government Regulations," direct tire monitoring technology such as that employed
in our products currently provides substantial advantages over indirect
monitoring technology. However, several of our competitors and potential
competitors have long and established relationships with automobile OEMs and
suppliers, which may make it difficult for us to compete in the OEM market.
Additionally, automobile manufacturers may elect to develop their own TPMSs to
comply with the TREAD Act.
Our main competitors with respect to direct TPMSs include the following:
o Schrader Bridgeport claims to be the world's largest producer of tire
valves and tire-pressure measurement equipment with over $140 million in
annual sales. Schrader has been in the passenger car TPMS market since
1996 and their systems have been used by various OEMs. As a transmitter
supplier, Schrader has mainly teamed with separate receiver suppliers to
acquire OEM contracts. Current TPMS business appears to be restricted to
the passenger car OEMs.
o BorgWarner acquired BERU in February 2005. BERU previously acquired Doduco
and its tire monitoring technology. The company has been supplying TPMSs
primarily as an option to vehicle manufacturers based mainly in Germany.
To our knowledge, the system requires the use of transmitters attached to
the valve stem (inside the tire/wheel assembly), receiving antennas at
each of the wheel wells, wiring harness for conveying data to the receiver
and some form of in-dash display. This system has been developed primarily
for the OEM market for passenger car applications. BorgWarner has recently
started promoting a commercial vehicle TPMS.
o Pacific Industrial Co. Ltd., a Japanese company, has developed a product
that measures the air pressure in each tire and sends the data to a
receiver mounted inside a vehicle. The products are available on a few
vehicles manufactured in Asia, some of which are imported into North
America. We believe that Pacific Industrial's products resemble the
BorgWarner approach to tire monitoring with additional antennas and wiring
harnesses.
o TRW Automotive U.S. LLC is a producer of safety and security systems for
the global automotive market. It supplies advanced technology products and
services to the automotive markets. From December 1998 to August 2001, we
and TRW jointly developed advanced tire monitoring technology and each has
access to this technology, which encompasses some of our current products.
During this period, we and TRW jointly developed a common application
specific integrated sensor chip which we use for some of our existing
products.
o Siemens Automotive AG is a producer and large supplier of high-tech
automotive electronic systems. Siemens Automotive's product portfolio
focuses on electronic modules and systems including anti-lock brake
systems and airbag electronics. Siemens Automotive has entered the market
and offers direct TPMSs to OEMs.
o Wabco is a producer of ABS braking products for the commercial vehicle
industry. Wabco jointly developed their IVTM system with Michelin for
commercial vehicles. The system consists of externally mounted
wheel-fitted modules which regularly measure and transmit tire inflation
pressure, via an electronic control unit, to an in-cabin dashboard display
monitor. Equipped with visual and acoustic warning signals, the display
can warn drivers of abnormally low tire pressure, slow leaks and
punctures.
Indirect Competition
For passenger cars, there are several indirect monitoring or anti-lock brake
systems, either available on the market or in prototype stages. To our
knowledge, none of these prototype systems currently meet the proposed
guidelines set out in the September 10, 2004 NHTSA's NPRM. Given the substantial
advantages of direct monitoring technology, we do not believe that indirect
monitoring technology will be a significant competitor in the short term.
However, it is likely that the performance of indirect TPMSs will continue to
improve, and they will likely benefit from the fact that they are the least
expensive way of complying with TPMS standards for vehicles already equipped
with anti-lock braking systems.
One potential future development that could affect the market for both passenger
car and commercial vehicle tire monitoring is the development of a "smart chip."
This is a computer chip that could transmit data and would be manufactured into
tires. We believe that Goodyear and Bridgestone/Firestone have both completed
some development of such a computer chip.
38
Raw Materials and Principal Suppliers
We contract the manufacture of our products to third parties. These
manufacturers normally provide turnkey operations whereby the manufacturer is
responsible for purchasing the component parts for our TPMSs. Presently, we
purchase component parts and deliver them to our contract manufacturers. We also
purchase component parts on our own account for engineering and prototype
development purposes. Certain of the components and raw materials used in our
products are difficult to obtain and/or require purchase commitments far in
advance of the manufacturing date. At present, our relationships with our
current suppliers are generally good and we expect that the suppliers will be
able to meet the anticipated demand for our products through fiscal year 2006.
Dependence on Certain Customers
Due to the early stage development of the tire pressure market in general and
for our Company, we are still dependent on major customers. During fiscal 2005
we earned 37% of our revenue from Aston Martin. We expect that this dependence
will be reduced as we start to realize sales through our relationships with new
customers and through our strategic alliances, including our alliance with DANA.
Proprietary Protection
Our intellectual property is important to protecting our competitive advantage
and expanding our TPMS market share. We rely on a combination of patents, trade
secret laws, confidentiality procedures and contractual provisions to protect
our intellectual property.
We hold several patents for our current technologies, which are listed below:
o United States Patent 5,231,872 addresses the technology in our tire
monitoring product. It was issued on August 3, 1993 and expires August 3,
2010.
o United States Patent 5,285,189 addresses the technology in our abnormal
tire condition warning system. It was issued on February 8, 1994 and
expires February 8, 2011. We purchased this patent from EPIC Technologies,
Inc. in December 1996.
o United States Patent 5,335,540 addresses the technology in our tire
monitoring product. It was issued on August 9, 1994 and expires August 9,
2011.
o United States Patent 5,559,484 addresses certain technology in our data
logging tire monitor with condition predictive capabilities and integrity
checking. It was issued on September 24, 1996 and expires September 24,
2013. We purchased this patent from EPIC Technologies in December 1996.
o United States Patent 5,945,908 addresses certain other technology in our
data logging tire monitor with condition predictive capabilities and
integrity checking. It was issued on August 31, 1999 and expires on August
31, 2016. We purchased this patent from EPIC Technologies in December
1996.
o United States Patent 6,357,883 addresses the technology for a wheel
component with a cavity for mounting a housing for measurement apparatus.
It was issued on March 19, 2002 and expires March 19, 2019.
o United States Patent 6,805,000 addresses the technology for a wheel
component with a cavity for mounting a housing for measurement apparatus.
It was issued on October 25, 2004 and expires October 25, 2021.
In addition to our patents, we also have access to a number of other patents
under our license agreements with TRW. We restructured our strategic alliance
with TRW effective August 31, 2001. As part of the restructuring, we received a
royalty-free license from TRW to utilize technology developed during the term of
the Cooperative Engineering Agreement that is patented, now or in the future, by
TRW. We have granted a parallel royalty-free license to TRW.
Research and Development
We spent the following amounts on engineering, research and development
activities during the fiscal years ended July 31, 2005, 2004 and 2003:
2005 - $3,297,011 ($1,949,078 excluding non-cash stock-based compensation
expense)
2004 - $1,654,690
2003 - $1,177,935
We expect that our annual research and development expenses will continue to
increase as we work to integrate our current products into vehicle platforms of
various OEMs seeking to satisfy the needs of their customers and as we initiate
work on new products that complement our wireless gateway strategy.
39
Costs of Compliance with any Environmental Laws
Although we are required to comply with environmental laws regarding the
disposal of certain hazardous materials, the cost of compliance is not
significant. While not required, we plan to become ISO 14001:2004 registered by
the end of calendar 2006 (Environmental System Registration) to comply with the
requests of our customers. We anticipate the cost of registration will be
$100,000-$200,000.
Liability Insurance
Our business involves exposure to potential product liability risks that are
inherent in our products. Although we have not experienced any product liability
claims to date, any such claims may have a material adverse impact on us. See
"Risk Factors - Risks Related To Our Business." Although we have product and
directors and officers' liability insurance, there can be no assurance that our
insurance coverage would be adequate in term and scope to protect us against
material financial effects in the event of a successful claim. We currently do
not carry commercial general liability insurance providing comprehensive product
liability coverage in all instances. We may in the future obtain such insurance
provided it can be obtained at reasonable prices.
Number of Total Employees and Number of Full-time Employees
At December 30, 2005, we had 51 full-time employees, one part-time employee and
one consultant, 11 of who are in marketing, 28 of whom are in engineering,
research and development and 12 of whom are administrative and executive
personnel. There is no collective bargaining agreement in place.
Legal Proceedings
On April 21, 2005, Bristol Investment Fund, Ltd., a holder of our discounted
debentures in the amount of $91,726, commenced a lawsuit in the Supreme Court of
New York against us, essentially alleging that we wrongfully refused to honor
its request to convert the debt into 9,268,875 shares of our common stock. The
lawsuit sought an order compelling us to pay $4,393,360 plus interest from April
25, 2005 for damages and attorneys fees.
On January 5, 2006, we entered into a Settlement Agreement and Mutual Release
with Bristol Investment Fund, Ltd. In connection with the Agreement and Mutual
Release, we issued (i) a bank check in the amount of $228,000 payable to
"Bristol Investment Fund, Ltd. representing $250,000, less $22,000 in Canadian
withholding taxes"; (ii) 2,000,000 shares of our common stock (the "Bristol
Shares") in certificates of 1,000,000 shares each; and (iii) an executed
Stipulation of Discontinuance with prejudice. Bristol Investment Fund, Ltd.
further agreed that no sale of the Bristol Shares will be made before January
16, 2006 and that no more than 1,000,000 of the Bristol Shares may be sold
before February 16, 2006. Bristol Investment Fund, Ltd. further acknowledged
that the discounted debenture has been paid in full and no further sums are due
thereunder.
MANAGEMENT
Executive Officers and Directors
The following table shows the positions held by our board of directors and
executive officers, and their ages as of December 31, 2005:
Name Age Position
- ---- --- --------
Robert Rudman 58 Director, Chairman of the Board
Al Kozak 56 President and Chief Executive Officer
Jeff Finkelstein 44 Chief Financial Officer
David Warkentin 48 Vice President, Sales and Marketing
Erwin Bartz 44 Vice President, Business Development
Shawn Lammers 38 Vice President, Engineering
William Cronin 58 Director
Martin Gannon 53 Director
Johnny Christiansen 50 Director
Business Experience
The following is a brief account of the education and business experience during
at least the past five years of each director, executive officer and key
employee, indicating the principal occupation during that period, and the name
and principal business of the organization in which such occupation and
employment were carried out.
William Cronin has been a director since June, 2001 and previously served as a
director from November 17, 1995 to April 25, 1998. Since 1986, Mr. Cronin has
been the owner of Madison Financial Services, a registered investment adviser
firm located in Madison, Connecticut, specializing in tax, pension investing
planning strategies and portfolio management.
40
Martin Gannon joined our company as a director on February 3, 2003. Mr. Gannon
has been a Certified Public Accountant since 1973. He has been a partner and the
vice president of the accounting firm of Barron Gannon & Co., P.C. since 1982.
In his advisory role to his clientele, he has assisted companies from their
inception to maturity.
Johnny Christiansen joined our company as a director on August 14, 2003. Mr.
Christiansen resides in Norway and has served as a consultant for various
private companies since 2003. He has a strong knowledge of our business and
industry as he served as the President of SensoNor asa from 1999-2002. SensoNor
is a Norwegian company and a leading provider of tire monitoring, airbag and
rollover sensors for the automotive industry. During Mr. Christiansen's tenure
as its President, SensoNor raised more than $100 million in financing and signed
contracts for more than $400 million. Before 1999, Mr. Christiansen served as a
director of various companies, including Davis AS, Kongsberg Norcontrol Systems,
Norcontrol Training AS and Norcontrol Automation AS.
Robert Rudman has been a director since September, 1993. Mr. Rudman joined our
company in March, 1993 as the Chief Financial Officer after serving as an
independent financial consultant for several months. He was appointed Chief
Executive Officer of our company on January 19, 1996, and served as President
from January 19, 1996 to June 4, 1999, when he was appointed Chairman of the
Board. Mr. Rudman was reappointed President of our company effective April 1,
2000. On June 30, 2005 he resigned as President and Chief Executive Officer and
entered into a consulting agreement with our company. He is a Chartered
Accountant with 15 years of experience assisting public companies listed
primarily on the Vancouver Stock Exchange (now the TSX Venture Exchange). Prior
to joining our company, Mr. Rudman was manager of a California-based sales
contract financing firm. Previously, he was a partner in a consulting firm
providing professional assistance to publicly traded companies. Mr. Rudman
became a Chartered Accountant in 1974 and worked with Laventhol & Horwath and
Price Waterhouse & Co. in Winnipeg, Manitoba.
Jeff Finkelstein was formally appointed as our Chief Financial Officer in
October 2002. He is a Chartered Accountant and is responsible for all financial
and related functions for our company, including finance, treasury, accounting,
taxation, legal, management information systems and administration. Mr.
Finkelstein was promoted to Acting Chief Financial Officer of our company in May
2002, and served as our controller since February 22, 1999. From 1996 to 1999,
he served as controller of Golden Knight Resources Inc., a Toronto Stock
Exchange listed public company, and Silver Standard Resources, a listed public
company.
Erwin Bartz was appointed Vice President of Business Development in August 2003.
He has overall responsibility for defining product strategies and roadmaps as
well as developing strategic alliances. He was formerly our Director, Technical
Operations since January 2001 with responsibility for overall technical
operations including engineering and manufacturing. Mr. Bartz is a Professional
Engineer with 19 years of engineering experience. Prior to joining our company,
Mr. Bartz spent ten years as Manager of Engineering and Manufacturing at Finning
(Canada), the Caterpillar dealer for British Columbia, Alberta, United Kingdom
and Chile, with corporate responsibility for engineering, product review, heavy
manufacturing and new equipment preparation.
Al Kozak joined us as Chief Operating Officer on May 1, 2002. He was
subsequently appointed to our Board of Directors on November 20, 2002. On June
30, 2005, Mr. Kozak was appointed as President and Chief Executive Officer. On
August 29, 2005, Mr. Kozak voluntarily resigned as a director to increase the
independence of the board. Mr. Kozak is a seasoned executive with strong
operational management and business development experience in fast-paced, high
growth, technology companies. From May 2000 to April 2001, Mr. Kozak was the
President and founder of Siwash Ventures where he assembled an advisory board of
senior executives from the Vancouver area to analyze and recommend investment
and business development strategies to technology companies. From 1992 to 1998
he held the position of President with Digital Courier International, Inc., an
industry extranet that networked over 7,000 radio stations, 1500 advertising and
400 production facilities. Following the sale by Digital Courier International
of its assets and technology to Digital Generations Systems Inc. in 1998, Mr.
Kozak was appointed by Digital Generations Systems as its VP, Marketing and
Business Development and served in that capacity for two years.
Shawn Lammers has been with us since our inception in 1987. He currently serves
as the Vice President Engineering and is responsible for the development of the
patented remote sensing technology utilized in SmarTire's products. He has been
the chief engineer in respect to the design, development and production of our
passenger car tire monitoring system, the commercial vehicle tire monitoring
system and the industrial equipment tire monitoring systems. He has developed
software for MS-DOS, Windows, UNIX Workstations and Amiga platforms.
David Warkentin joined the Company on August 8, 2005, as Vice President of Sales
and Marketing. During 2004 and 2005, Mr. Warkentin was the Vice President of
Sales of Intrinsyc Software, a company that provides engineering services to
wireless mobile device makers as well as licensable software for the wireless
telephone handset market. From 2000 until 2004, Mr. Warkentin was the Director
of Sales for Silent Witness Enterprises, a company that manufactures security
cameras and digital video recorders targeted to the financial, educational and
corrections markets. Also during 2000, Mr. Warkentin was the North American
Sales Manager for Digital Dispatch Systems, and was responsible for a sales team
selling mobile dispatch hardware and software solutions directly to end-users.
The directors of our Company are elected at each annual general meeting and hold
office until the next annual general meeting or until their successors are
appointed.
41
Family Relationships
There are no family relationships between any of our directors or executive
officers.
Involvement In Certain Legal Proceedings
None of our directors, executive officers, promoters or control persons have
been involved in any of the following events during the past five years:
o any bankruptcy petition filed by or against any business of which such
person was a general partner or executive officer either at the time of
the bankruptcy or within two years prior to that time;
o any conviction in a criminal proceeding or being subject to a pending
criminal proceeding (excluding traffic violations and other minor
offences);
o been subject to any order, judgment, or decree, not subsequently reversed,
suspended or vacated, of any court of competent jurisdiction, permanently
or temporarily enjoining, barring, suspending or otherwise limiting his
involvement in any type of business, securities or banking activities; or
o been found by a court of competent jurisdiction (in a civil action), the
Commission or the Commodity Futures Trading Commission to have violated a
federal or state securities or commodities law, and the judgment has not
been reversed, suspended, or vacated.
Audit Committee Financial Expert
Our Board of Directors has determined that Martin Gannon, a member of the audit
committee, qualifies as an "audit committee financial expert" as such term is
defined by Regulation S-B of the Securities Exchange Act of 1934, as amended.
Our Board of Directors has also determined that Mr. Gannon is independent as
such term is used in Item 7(d)(3)(iv) of Schedule 14A under the Securities
Exchange Act of 1934, as amended.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires our officers and
directors, and persons who own more than 10% of our common stock, to file
reports of ownership and changes in ownership with the SEC. Officers, directors
and greater than 10% shareholders are required by SEC regulations to furnish us
with copies of all Section 16(a) forms they file.
Based solely on our review of the copies of such forms received by us, or
written representations from certain reporting persons, we believe that during
the year ended July 31, 2005, all filing requirements applicable to our
executive officers and directors and greater than 10% shareholders were complied
with.
Code of Ethics
The Company has a Code of Business Conduct and Ethics Compliance Program which
was approved and adopted by our Board of Directors on October 3, 2003.
Executive Compensation
The following table sets forth, for the years indicated, particulars of
compensation awarded to, earned by or paid to:
o our chief executive officer;
o each of our four most highly compensated executive officers who were
serving as executive officers at the end of the most recently completed
fiscal year and whose total salary and bonus exceeds $100,000 per year;
and
o any additional individuals for whom disclosure would have been provided
immediately above but for the fact that the individual was not serving as
an executive officer of our company at the end of the most recently
completed fiscal year; (the Named Executive Officers) are set out in the
summary compensation table below.
During fiscal 2005, six individuals served as our executive officers at various
times: Robert Rudman, Al Kozak, Jeff Finkelstein, Erwin Bartz, Shawn Lammers,
and John Taylor-Wilson. Mr. Taylor-Wilson earned less than $100,000 in total
salary and bonuses during fiscal 2005, and, therefore, is not considered a
"Named Executive Officer."
42
Summary Compensation Table
=================================================================================================================================
SUMMARY COMPENSATION TABLE
- ---------------------------------------------------------------------------------------------------------------------------------
Annual Compensation Long Term Compensation
- ---------------------------------------------------------------------------------------------------------------------------------
Awards Payouts
- ---------------------------------------------------------------------------------------------------------------------------------
Name and Year Salary Bonus Other Securities Restricted LTIP All Other
Principal Annual Underlying Shares or Payouts Compensation
Position Compen- Options/ Restricted
sation(1) SARs
Share
Granted
Units
(#)
- ---------------------------------------------------------------------------------------------------------------------------------
Robert Rudman 2005 $215,568 $67,417(2) $0 5,840,000 $0 $0 $49,847(3)
Chairman 2004 $217,478 $0 $0 1,079,500 $0 $0 $0
(Former 2003 $194,543 $0 $0 232,000 $0 $0 $0
President and
Chief
Executive
Officer)
- ---------------------------------------------------------------------------------------------------------------------------------
Al Kozak 2005 $177,162 $44,495(4) $0 4,540,000 $0 $0 $0
President and 2004 $164,983 $0 $0 683,000 $0 $0 $0
Chief 2003 $147,585 $0 $0 111,000 $0 $0 $0
Executive
Officer
(Former Chief
Operating
Officer)
- ---------------------------------------------------------------------------------------------------------------------------------
Jeff 2005 $125,748 $30,338(5) $0 3,000,000 $0 $0 $0
Finkelstein 2004 $ 97,490 $0 $0 329,610 $0 $0 $0
Chief 2003 $ 82,788 $0 $0 70,000 $0 $0 $0
Financial
Officer
- ---------------------------------------------------------------------------------------------------------------------------------
Erwin Bartz 2005 $130,053 $88,991(5) $0 3,000,000 $0 $0 $0
Vice- 2004 $121,113 $0 $0 390,000 $0 $0 $0
President, 2003 $108,341 $0 $0 55,000 $0 $0 $5,826(6)
Product
Management
- ---------------------------------------------------------------------------------------------------------------------------------
Shawn Lammers 2005 $120,452 $30,338(5) $0 3,000,000 $0 $0 $0
Vice- 2004 $108,739 $0 $0 332,600 $0 $0 $0
President, 2003 $ 94,589 $0 $0 15,100 $0 $0 $0
Engineering
=================================================================================================================================
* The average of the closing foreign exchange rates for fiscal 2005, as
calculated by using the reported daily rates posted by the Federal Reserve
Bank of New York, was CDN$1.2418 to every US$1.00. For the purposes of
this table, executive compensation paid in Canadian currency to the Named
Executive Officers has been converted into United States currency at the
rate of CDN$1.2418 to every US$1.00
(1) The value of perquisites and other personal benefits, securities and
property for the Named Executive Officers that do not exceed the lesser of
$50,000 or 10% of the total of the annual salary and bonus is not reported
herein.
(2) Represents the market value of 2,247,244 common shares issued as a stock
bonus.
(3) Represents consulting fees of $20,000 earned after Mr. Rudman's
resignation as President and Chief Executive Officer and $29,847 in
vacation pay paid.
(4) Represents the market value of 1,483,181 common shares issued as a stock
bonus.
(5) Represents the market value of 1,011,260 common shares issued as a stock
bonus.
(6) Mr. Bartz earned sales commissions of $5,826 in fiscal 2003.
The following table sets forth for each of the Named Executive Officers certain
information concerning stock options granted to them during fiscal year 2005. We
have never issued stock appreciation rights. We grant options that generally
vest immediately at an exercise price equal to the fair market value of a share
of common stock as determined by its closing price on the OTC Bulletin Board.
Until May 28, 2003, the exercise price was determined by its closing price on
the Nasdaq Capital Market. The term of each option granted is generally five
years from the date of grant. Options may terminate before their expiration
dates if the optionee's status as an employee is terminated or upon the
optionee's death or disability.
43
Options/SAR Grants in the Last Fiscal Year
Number of Securities % of Total
Name Underlying Options/SARS Granted Exercise Price Expiration Date
Options/SARS Granted to Employees in ($/share)
(#) Fiscal Year
- -----------------------------------------------------------------------------------------------------------------
Robert Rudman 5,840,000 14.41% $0.03 December 19, 2009
Al Kozak 4,540,000 11.20% $0.03 December 19, 2009
Erwin Bartz 3,000,000 7.40% $0.03 December 19, 2009
Shawn Lammers 3,000,000 7.40% $0.03 December 19, 2009
Jeff Finkelstein 3,000,000 7.40% $0.03 December 19, 2009
The following table sets forth for each Named Executive Officer certain
information concerning the number of shares subject to both exercisable and
unexercisable stock options as of July 31, 2005. The values for "in-the-money"
options are calculated by determining the difference between the fair market
value of the securities underlying the options as of June 30, 2005 ($0.142 per
share) and the exercise price of the individual's options. No Named Executive
Officer exercised options during fiscal 2005.
Aggregated Option/SAR Exercises in Last Fiscal Year and FY-End Option/SAR Values
Name Shares Value Number of Securities Value of Unexercised
Acquired on Realized Underlying Unexercised In-the-Money Options/SARs at
Exercise (#) ($) Options/SARs at FY-End (#) FY-End ($)
Exercisable/Unexercisable Exercisable/Unexercisable
- ---------------------------------------------------------------------------------------------------------
Robert Rudman None None 7,409,000 747,520
7,409,000 None Exercisable
Exercisable
Al Kozak None None 5,466,000 581,120
5,466,000 None Exercisable
Exercisable
Erwin Bartz None None 3,555,000 384,000
3,555,000 None Exercisable
Exercisable
Shawn Lammers None None 3,392,700 384,000
3,392,700 None Exercisable
Exercisable
Jeff Finkelstein None None 3,417,200 384,000
3,417,200 None Exercisable
Exercisable
Employment Contracts and Termination of Employment and Change in Control
Arrangements
Effective August 1, 1999, our Board of Directors approved a new management
agreement with Shawn Lammers, which calls for payment of a base salary of
CDN$120,000 (approximately $103,000) per annum subject to increase from time to
time plus incentive compensation as determined by our incentive compensation
plan. Effective August 1, 2000, Mr. Lammers' salary was increased to CDN$127,200
(approximately $110,000) per annum. Effective August 1, 2001, Mr. Lammers'
salary was increased to CDN$135,000 (approximately $116,000) per annum.
Effective August 1, 2002, Mr. Lammers' salary was increased to CDN$141,000
(approximately $122,000) per annum. Effective August 1, 2003, Mr. Lammers'
salary was increased to CDN$145,000 (approximately $125,000) per annum.
Effective December 6, 2003, Mr. Lammers' salary was increased to CDN$152,000
(approximately $131,000) per annum. Effective January, 1, 2006, Mr. Lammers'
salary was increased to CDN$155,496 (approximately $134,000) per annum. Our
incentive compensation plan expired on July 31, 2002. The agreement with Mr.
Lammers requires us to pay a termination allowance in the event of the
termination of Mr. Lammers' employment other than for just cause. The
termination allowance is equal to the annual salary. On February 3, 2005 we
amended Mr. Lammers' management agreement whereby in the event that the
employment of Mr. Lammers is terminated within 12 months of an acquisition,
hostile takeover or merger, and the termination is without cause, we, at our
option, will either (i) pay upon termination an amount equal to the salary
payable to Mr. Lammers of one year from the date of termination plus one month
for each year of employment up to a maximum of two years or (ii) pay upon
termination an amount equal to the salary payable on the termination date.
44
Effective January 3, 2001, our Board of Directors approved a new management
agreement with Erwin Bartz that calls for payment of a base salary of
CDN$150,000 (approximately $129,000) per annum subject to increase from time to
time plus incentive compensation as determined by our incentive compensation
plan. Effective August 1, 2001, Mr. Bartz's salary was increased to CDN$155,000
(approximately $134,000) per annum. Effective August 1, 2002, Mr. Bartz's salary
was increased to CDN$161,500 (approximately $139,000) per annum plus a
commission based on sales to and margins in the passenger car vehicle market.
This commission plan was not continued into fiscal 2004. Our incentive
compensation plan expired on July 31, 2002. The agreement with Mr. Bartz
requires us to pay a termination allowance in the event of the termination of
Mr. Bartz's employment other than for just cause. The termination allowance is
equal to the annual salary. On February 3, 2005, we amended Mr. Bartz's
management agreement whereby in the event that the employment of Mr. Bartz is
terminated within 12 months of an acquisition, hostile takeover or merger, and
the termination is without cause, we, at our option, will either (i) pay upon
termination an amount equal to the salary payable to Mr. Bartz of one year from
the date of termination plus one month for each year of employment up to a
maximum of two years or (ii) pay upon termination an amount equal to the salary
payable on the termination date.
Effective May 1, 2002, our Board of Directors approved a new management
agreement with Al Kozak, which calls for payment of a base salary of CDN$220,000
(approximately $190,000) per annum subject to increase from time to time plus
incentive compensation as determined by our incentive compensation plan. Our
incentive compensation plan expired on July 31, 2002. The agreement with Mr.
Kozak requires us to pay a termination allowance in the event of the termination
of Mr. Kozak's employment except for just cause. The termination allowance is
equal to the annual salary. On February 3, 2005 we amended Mr. Kozak's
management agreement whereby in the event that the employment of Mr. Kozak is
terminated within 12 months of an acquisition, hostile takeover or merger, and
the termination is without cause, we, at our option, will either (i) pay upon
termination an amount equal to the salary payable to Mr. Kozak of one year from
the date of termination plus one month for each year of employment up to a
maximum of two-and-a-half years or (ii) pay upon termination an amount equal to
the salary payable on the termination date. On June 30, 2005, Mr. Kozak was
elected by our Board of Directors as our new President and Chief Executive
Officer. On August 29, 2005 Mr. Kozak voluntarily resigned as a director to
increase the independence of the board. Effective January, 1, 2006, Mr. Kozak's
salary was increased to CDN$231,000 (approximately $199,000) per annum.
Effective October 23, 2002, our Board of Directors approved a management
agreement with Jeff Finkelstein, which calls for the payment of a base salary of
CDN$120,000 (approximately $103,000) per annum subject to increase from time to
time. Effective August 1, 2003, Mr. Finkelstein's salary was increased to
CDN$130,000 (approximately $112,000) per annum. Effective December 6, 2004, Mr.
Finkelstein's salary was increased to CDN$170,000 (approximately $138,000) per
annum. Effective January, 1, 2006, Mr. Finkelstein's salary was increased to
CDN$175,540 (approximately $151,000) per annum. This agreement with Mr.
Finkelstein requires us to pay a termination allowance in the event of the
termination of Mr. Finkelstein other than for just cause. The termination
allowance is equal to the annual salary.
On February 3, 2005 we amended Mr. Finkelstein's management agreement whereby in
the event that the employment of Mr. Finkelstein is terminated within 12 months
of an acquisition, hostile takeover or merger, and the termination is without
cause, we, at our option, will either (i) pay upon termination an amount equal
to the salary payable to Mr. Finkelstein of one year from the date of
termination plus one month for each year of employment up to a maximum of
two-and-a-half years or (ii) pay upon termination an amount equal to the salary
payable on the termination date.
Effective March 31, 2003, as a temporary measure to help preserve our working
capital, each of the Named Executive Officers verbally agreed to a 20% reduction
in the cash that he may receive as his base salary under his management
agreement. We agreed to periodically issue shares of our common stock to each of
the Named Executive Officers to make up the balance of the base salary that he
would otherwise be entitled to receive in cash. On July 18, 2003, the 20% in
salary that we had withheld since March 31, 2003 was paid in cash to the Named
Executive Officers and the 20% reduction in cash was cancelled.
Effective August 11, 2003, our Board of Directors approved a management
agreement with John Taylor-Wilson that calls for payment of a base salary of
CDN$140,000 (approximately $121,000) per annum plus quarterly commissions
ranging from 5% to 100% of the base salary amount if certain predetermined
performance criteria in connection with his duties as Vice President Sales and
Marketing are met. Pursuant to the agreement, we also issued to Mr.
Taylor-Wilson a total of 450,000 stock options pursuant to our 2002 Stock
Incentive Plan (Non-U.S.), exercisable for five years at an exercise price equal
to 115% of the 10 day average closing price for our common stock as at August
13, 2003. Mr. Taylor-Wilson was terminated on October 14, 2004 and we paid him
severance of CDN$32,308 (approximately $26,000).
On June 30, 2005, Robert Rudman resigned from his position as our President and
Chief Executive Officer. He remains Chairman of our Board of Directors and has
entered into a consulting agreement, dated as of June 30, 2005, with us.
Pursuant to the consulting agreement, Mr. Rudman will provide certain specified
consulting services to us for a monthly fee of $20,000. The consulting agreement
will terminate on June 30, 2006 unless renewed by mutual agreement of the
parties.
Effective August 8, 2005, the Company's Board of Directors approved a management
agreement with David Warkentin, which calls for payment of a base salary of
CDN$130,000 (approximately $112,000) per annum plus quarterly commissions
ranging from 5% to 100% of the base salary amount if certain predetermined
performance criteria in connection with his duties as Vice President Sales and
Marketing are met. Mr. Warkentin may, with the approval of the Company's
compensation committee, elect to receive his salary, commission and termination
allowance, if any, in such number of Common Shares as will be determined based
on the five day average closing price for the Company's Common Shares. Pursuant
to the agreement, the Company also issued to Mr. Warkentin a total of 2,000,000
stock options pursuant to the Company's 2004 Stock Incentive Plan (Non-U.S.),
exercisable for five years at an exercise price equal to $0.16. Such options
will vest over two years at an exercise price per share equal to $0.16 per
share. Fifty percent of the options granted will vest one year from the date of
the option agreement and the remaining fifty percent will vest two years from
the date of the option agreement. The options will terminate, to the extent not
previously exercised, five years after the date of the option agreement.
45
The agreement is subject to the following termination provisions:
In the event of Mr. Warkentin's termination for any reason other than for just
cause after three months and within six months of the effective date of the
management agreement, we must either continue to pay Mr. Warkentin's salary and
provide benefits until three months from the date of termination or pay three
months' salary in lieu of notice. In the event of termination for any reason
other than for just cause six months after the effective date of the management
agreement, but within twelve months of the effective date of the management
agreement, we must either continue to pay Mr. Warkentin's salary and provide the
benefits until six months from the date of termination or pay six months' salary
in lieu of notice. In the event of termination for any reason other than for
just cause twelve months after the effective date of the management agreement,
but within twenty-four months of the effective date of the management agreement,
we must either continue to pay Mr. Warkentin's salary and provide the benefits
until nine months from the date of termination or pay nine months' salary in
lieu of notice. In the event of termination for any reason other than for just
cause twenty-four months after the effective date of the management agreement,
we must either continue to pay Mr. Warkentin's salary and provide the benefits
until twelve months from the date of termination or pay twelve months' salary in
lieu of notice. Any stock options that have been granted but that have not yet
vested shall immediately terminate, and vested options may be exercised for a
period of 30 days only after the final payment.
Notwithstanding anything else in the management agreement, in the event that Mr.
Warkentin's employment is terminated within eighteen months of an acquisition, a
hostile takeover or a merger and the termination is without cause, we must
either continue to pay the salary under the management agreement and provide
benefits until the termination date or pay upon termination an amount equal to
the salary payable to the termination date in lieu of notice. Any stock options
that have been granted but that have not yet vested shall immediately vest at
the date of the final payment of termination amounts, and may be exercised for a
period of 30 days only after the final payment.
Other than as discussed above, we have no plans or arrangements in respect of
remuneration received or that may be received by Named Executive Officers of our
company in fiscal 2005 to compensate such officers in the event of termination
of employment (as a result of resignation, retirement, change of control) or a
change of responsibilities following a change of control, where the value of
such compensation exceeds $100,000 per Named Executive Officer.
OTHER COMPENSATION PLANS APPLICABLE TO DIRECTORS AND EXECUTIVE OFFICERS
Directors and executive officers have received from time to time incentive stock
options to purchase Common Shares as awarded by the Board of Directors in
consultation with the Compensation Committee.
Effective November 2, 2004 the Company revised its formal directors'
compensation policy whereby directors are compensated for all meetings that they
attend in person at the rate of $1,500 per day, which includes travel time to
and from each meeting, and for all meetings that they participate by
teleconference or other electronic means at the rate of $500 per day. Directors
who participate in a meeting of any committee of the Board of Directors are
entitled to compensation at the rate of $500 per day for attendance in person,
and at the rate of $300 per day for participation by teleconference or other
electronic means. Such fees are payable only if the meeting of the Board or of a
committee of the Board, as the case may be, is more than one-half hour in
duration. Directors are also entitled to reimbursement for reasonable travel and
other out-of-pocket expenses incurred in connection with attendance at meetings
of the Board of Directors.
The Company's Board of Directors may award special remuneration to any director
undertaking any extraordinary services on behalf of the Company other than
services ordinarily required of a director. Other than as indicated below, no
director received and/or accrued any compensation for his services as a
director, including committee participation and/or extraordinary assignments.
There are no arrangements or plans in which the Company provides pension,
retirement or similar benefits for directors or executive officers.
Stock Incentive Plans
We have adopted 12 formal stock incentive plans, two of which were approved by
our shareholders at our 1998 Annual General Meeting, two of which were approved
at our 2000 Annual General Meeting, two of which were adopted at our 2002 Annual
General Meeting, two of which were adopted by our Board of Directors on August
11, 2003, one of which was adopted by our Board of Directors on December 17,
2004, one of which was approved by our shareholders at our 2004 Annual General
Meeting, one of which was adopted by our Board of Directors on December 8, 2005
and one of which was approved by our shareholders at our 2005 Annual General
Meeting. Five of the stock incentive plans provide for awards to eligible
employees of our company or of any related entity who are resident in the United
States and/or subject to taxation in the United States; the other five stock
incentive plans provide for awards to all other eligible employees of our
company or of any related entity.
On December 8, 2005, our Board of Directors approved an additional formal stock
incentive plan (the "2005 Non-US Stock Incentive Plan") that provides for the
granting to eligible employees such incentive awards as the Board of Directors
or a committee of the Board of Directors appointed to administer the 2005 US
Stock Incentive Plan may from time to time approve, provided that (i) the awards
may consist of (A) shares of common stock or cash, or a combination of shares of
common stock, cash or other securities, earned in whole or in part upon the
attainment of performance criteria that may from time to time be established by
the Board of Directors or by a committee of the Board of Directors, or (B) stock
options, stock appreciation rights, restricted stock and/or certain other rights
and benefits; and (ii) the maximum number of shares of common stock that will be
issuable pursuant to all awards granted under the 2005 Non-US Stock Incentive
Plan is 25 million.
46
On December 9, 2005, our shareholders approved an additional formal stock
incentive plan (the "2005 US Stock Incentive Plan") that provides for the
granting to eligible employees such incentive awards as the Board of Directors
or a committee of the Board of Directors appointed to administer the 2005 US
Stock Incentive Plan may from time to time approve, provided that (i) the awards
may consist of (A) shares of common stock or cash, or a combination of common
stock, cash or other securities, earned in whole or in part upon the attainment
of performance criteria that may from time to time be established by the Board
of Directors or by a committee of the Board of Directors, or (B) stock options,
stock appreciation rights, restricted stock and/or certain other rights and
benefits; and (ii) the maximum number of shares of common stock that will be
issuable pursuant to all awards granted under the 2005 US Stock Incentive Plan
is 10 million.
To date, we have granted to directors, officers, employees and consultants
incentive stock options to purchase shares of our common stock subject to and in
accordance with the prevailing policies of the stock exchange on which our
shares were then listed. Options are granted based on the assessment by our
Board of Directors and/or compensation committee of the optionee's past and
present contribution to our success. These options are not transferable and are
exercisable from the date granted until the earliest of (i) such number of years
(up to 10 years) from the date of the grant, or (ii) such number of days
following the death of the optionee as is specified in each optionee's option
agreement.
Other than the management agreements, the advisory agreements and the stock
incentive plans discussed herein, we presently have no material bonus or profit
sharing plans pursuant to which cash or non-cash compensation is or may be paid
to our directors or executive officers.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information regarding the number of shares of our
common stock beneficially owned on December 31, 2005 by:
o each person who is known by us to beneficially own 5% or more of our
common stock;
o each of our directors and named executive officers; and
o all of our directors and named executive officers as a group.
Beneficial ownership is determined in accordance with the rules of the SEC and
generally includes voting or investment power with respect to securities. Shares
of our common stock which may be acquired upon exercise of stock options or
warrants which are currently exercisable or which become exercisable within 60
days after the date indicated in the table are deemed beneficially owned by the
optionees. Subject to any applicable community property laws, the persons or
entities named in the table above have sole voting and investment power with
respect to all shares indicated as beneficially owned by them.
Amount and
Name and Address of Nature of
Beneficial Owner Beneficial
Owner Percent of Class
- ------------------------------------------------- ------------ ----------------
William Cronin
180 Concord Drive 2,929,746(2) 1.01%
Madison, Connecticut, USA 06443
Martin Gannon
1275 Post Road 2,685,000(3) *
Fairfield, Connecticut, USA 06824
Johnny Christiansen
Spurvestien 24 2,050,000(4) *
3189 Horten, Norway
Robert Rudman
4100 North Ocean Drive, Suite 401, Singer 11,020,411(5) 3.72%
Island, West Palm Beach, Florida, USA 33404
Al Kozak
25841 116 Avenue 6,949,181(6) 2.36%
Maple Ridge, BC V4R 1Z6
Jeff Finkelstein
3460 Regent Street 4,434,210(7) 1.52%
Richmond, BC V7E 2N1
Erwin Bartz
21 Arrow-Wood Place 4,566,260(8) 1.56%
Port Moody, BC V3H 4E9
Shawn Lammers
3460 Regent Street 4,385,479(9) 1.50%
Richmond, BC V7E 2N1
David Warkentin 0 *
20580 Powell Ave.
Maple Ridge, B.C. V2X 3G1
Directors and Executive Officers as a Group 39,020,287(10) 12.01%
47
* Represents less than 1% of our outstanding stock
(1) Based on 289,646,656 shares of common stock issued and outstanding as of
December 31, 2005. Beneficial ownership is determined in accordance with
the rules of the SEC and generally includes voting or investment power
with respect to securities. Except as otherwise indicated, we believe that
the beneficial owners of the common stock listed above, based on
information furnished by such owners, have sole investment and voting
power with respect to such shares, subject to community property laws
where applicable.
(2) Includes options to acquire up to 2,842,500 shares of common stock
exercisable within 60 days.
(3) Includes options to acquire up to 2,675,100 shares of common stock
exercisable within 60 days.
(4) Includes options to acquire up to 2,050,000 shares of common stock
exercisable within 60 days.
(5) Includes 10,257 shares of common stock owned by Mr. Rudman's wife. Mr.
Rudman has sole voting and dispositive power over such shares. Includes
options to acquire up to 8,741,500 shares of common stock exercisable
within 60 days.
(6) Includes options to acquire up to 5,466,000 shares of common stock
exercisable within 60 days.
(7) Includes options to acquire up to 3,417,200 shares of common stock
exercisable within 60 days.
(8) Includes options to acquire up to 3,555,000 shares of common stock
exercisable within 60 days.
(9) Includes options to acquire up to 3,372,700 shares of common stock
exercisable within 60 days.
(10) Includes options to acquire up to 32,120,000 Common Shares exercisable
within 60 days.
Changes in Control
We are unaware of any contract or other arrangement the operation of which may
at a subsequent date result in a change of control of our company, other than
the conversion of our outstanding convertible debentures and the exercise of our
outstanding warrants in certain circumstances.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Other than as listed below, we have not been a party to any transaction,
proposed transaction, or series of transactions in which the amount involved
exceeds or equals $60,000, and in which, to our knowledge, any of our directors,
officers, five percent beneficial security holders, or any member of the
immediate family of the foregoing persons has had or will have a direct or
indirect material interest.
Mr. Christiansen, a director of our company is a principal in Visionaire AS.
During the six months ended January 31, 2005, we incurred expenses of $60,000
for a research report prepared by Visionaire AS on various sensor applications.
The promoters of our company are our directors and officers.
DESCRIPTION OF SECURITIES
Our authorized capital stock consists of an unlimited number of shares of common
stock, no par value, and 100,000 shares of preferred stock, no par value. Of the
preferred stock, 25,000 shares have been designed as series A 5% convertible
preferred stock. We have assumed that the holders of the convertible debentures
will convert substantially all of the outstanding principal and interest under
the $30 million 10% convertible debentures during their three year term. If the
holders convert all of the $30 million in outstanding principal, we would be
required to issue to such holders at least 266,666,667 shares of common stock,
assuming a fixed conversion price of $0.1125. We estimate that conversion of all
of the interest could result in the issuance of an additional 40 million to 50
million shares of our common stock. We believe that the conversion of principal
and interest on the 10% convertible debentures will result in the issuance of
approximately 300 million to 350 million shares of our common stock. We are
confident that we will execute on our business plan to stimulate
48
profitability through rapid growth, whether organically or through acquisitions
or strategic partnerships. We believe that despite dilution that will arise from
conversion of the 10% convertible debentures, our stock price will increase
above the fixed conversion price of $0.1125 and adjustments to the conversion
price of the 10% convertible debentures, as described above, will not be
required. However, we acknowledge that we may not be able to fully execute our
business plan for the reasons discussed in this registration statement, and also
realize that the price of our common stock may fluctuate as a result of risks
entirely outside of our control, such as fluctuating interest rates and that we
have no control over the timing of a holder's decision to convert principal and
interest under the 10% convertible debentures. For these reasons, we have
assumed that the price of our common stock could be lower than the fixed
conversion price of $0.1125 when conversion of the 10% convertible debentures
occurs, which would require us to issue a greater number of shares of our common
stock. We agreed to register 850 million shares of our common stock because we
have experienced volatility in the price of our common stock, and as a result of
the risks described above and elsewhere in this registration statement, we may
be required to issue shares of our common stock at a price that may be
potentially lower than the assumed conversion price of $0.1125.
As of December 31, 2005, there were issued and outstanding:
o 289,646,656 shares of common stock;
o 25,000 shares of series A 5% convertible preferred stock, currently
convertible into 400 million shares of common stock;
o stock options to purchase 67,812,802 shares of common stock at an average
weighted per share price of $0.12; and
o warrants to purchase 64,888,141 shares of common stock at a weighted
average per share price of $0.16.
The following summary of the material provisions of our securities, articles of
incorporation and by-law is qualified by reference to the provisions of our
articles of incorporation and by-law and the forms of securities included as
exhibits to the registration statement of which this prospectus is a part.
Common Stock
The holders of our common stock are entitled to one vote per share. The holders
of common stock are entitled to receive dividends, if any, as may be declared by
our board of directors out of legally available funds. Upon a liquidation,
dissolution or winding-up, the holders of common stock are entitled to share pro
rata in any distribution of our assets after payment of liabilities. The holders
of our common stock have no pre-emptive rights. There are no conversion,
redemption, sinking fund or similar provisions regarding our common stock.
Holders of shares of our common stock are subject to rules adopted by the SEC
that regulate broker-dealer practices in connection with transactions in "penny
stocks." Please refer to "Risk Factors - Risks Related to Our Common Stock" for
more information regarding transactions in "penny stocks."
Series A 5% Convertible Preferred Stock
On March 22, 2005, we entered into an Investment Agreement with Cornell Capital
Partners, L.P. in which we sold an aggregate of $4 million of our series A 5%
convertible preferred stock, no par value. $2.85 million of the $4 million had
already been funded pursuant to certain transaction documents we previously
entered into with Cornell Capital Partners. These transaction documents were
terminated by the parties on March 23, 2005, and we received net proceeds of
$1,015,000, after deducting the $2.85 million that had been previously funded, a
$115,000 commitment fee and legal fees in the amount of $20,000. We issued
25,000 shares of the preferred stock to Cornell Capital Partners in a private
placement. Each share of preferred stock has a stated value of $160.
Conversion. Holders of the preferred stock are entitled, at any time after the
date of issuance, to convert their shares into such number of fully paid and
non-assessable shares of our common stock, equal to the quotient of $160 divided
by $0.01 per share. The conversion price is adjustable in the event of any stock
split or reverse stock split, stock dividend, reclassification of common stock,
recapitalization, merger or consolidation. In addition, the conversion price of
the preferred stock will be adjusted if we spin off or otherwise divest a
material part of our business or operations or dispose all or a portion of our
assets.
Dividends. Holders of the preferred stock are entitled to receive dividends or
distributions on a pro rata basis according to their holdings of the preferred
stock, when and if declared by our board of directors, in the amount of 5.0% per
year. Dividends will be paid in cash and are cumulative. No cash dividends or
distributions will be declared or paid or set apart for payment on our common
stock in any calendar year unless cash dividends or distributions on the
preferred stock for such calendar year are likewise declared and paid or set
apart for payment. No declared and unpaid dividends will bear or accrue
interest.
Liquidation Preference. Upon our liquidation, dissolution, or winding-up,
whether voluntary or involuntary, before any distribution or payment is made to
any of the holders of our common stock or any series of preferred stock, holders
of the preferred stock are entitled to receive out of our assets, an amount
equal to $160 per share of the preferred stock plus all declared and unpaid
dividends thereon, for each share of the preferred stock held by such holder.
49
Redemption. We may redeem up to 80% of the preferred stock by paying to the
holder cash equal to 120% of the liquidation preference, which is defined as
$160 per share of the preferred stock plus all declared and unpaid dividends
thereon, for each share of the preferred stock held by such holder on the
redemption payment date. On December 22, 2006, to the extent Cornell Capital
Partners has not converted in full the preferred stock, we must pay to Cornell
Capital Partners the sum of $4 million, together with accrued dividends at the
rate of 12% per year (computed on the basis of a 365-day year and the actual
days elapsed) to redeem its outstanding shares of preferred stock.
Registration Rights. In addition, on March 22, 2005, we entered into a
Registration Rights Agreement with Cornell Capital Partners under which we
agreed to file a registration statement within 30 days after the closing date
for the purpose of registering 400,000,000 shares of common stock issuable upon
the conversion of the preferred stock. In addition, we are obligated to use our
best efforts to cause such registration statement to be declared effective by
the SEC no later than 120 days after the filing thereof and to insure that the
registration statement remains in effect until all of the shares of common stock
issuable upon conversion of the preferred stock have been sold. On October 7,
2005, Cornell Capital Partners agreed that we are not in default pending the
filing of a new registration statement and that they waived their rights under
the default provisions affected by this non-compliance.
5% Convertible Bridge Debentures
On December 15, 2004, we closed a private placement of 5% convertible debentures
to five investors, for gross proceeds of $195,000.
Interest and Maturity. The outstanding principal under the convertible
debentures bears interest at the rate of 5% per annum, payable in cash
semi-annually beginning six months from the date of the last closing of the
offering in arrears. All principal, and all accrued and unpaid interest, under
the convertible debentures will be due and payable at maturity two years from
the date in which the selling stockholder's funds are disbursed to us.
Conversion Provisions, Conversion Price and Adjustments. Principal under
convertible debentures in the aggregate principal amount of $195,000 may be
converted by the holder in whole or in part and from time to time at a
conversion price equal to the lesser of (i) 120% of the closing bid price of the
common stock as reported by Bloomberg, L.P. for the trading day immediately
preceding the date that the holder's funds representing the net amount due to us
from the purchase price is transmitted by wire transfer or otherwise to or for
the benefit of us, or (ii) 80% of the lowest closing prices for the 5 trading
days preceding the date on which the notice of conversion is sent via facsimile
to us. Due to anti-dilution provisions in the debentures the exercise price of
the convertible debentures was reduced to $0.028 per share on March 23, 2005 as
a result of the issuance of convertible preferred shares.
Each of the convertible debentures contains a contractual restriction on
beneficial share ownership. It provides that the holder may not convert
convertible debentures, or receive shares of our common stock as payment of
interest, to the extent that the conversion or the receipt of the interest
payment would result in the holder, together with its affiliates, beneficially
owning in excess of 4.99% of our then issued and outstanding shares of common
stock.
Each convertible debenture is subject to anti-dilution protection upon the
occurrence of certain events, as follows:
o the conversion price will be reduced proportionately if we increase the
number of our outstanding shares of common stock as a result of a stock
dividend or any other distribution on, or payable in, shares of our common
stock, a subdivision of our common stock, or a combination or
reclassification of our common stock;
o the conversion price will be reduced proportionately if we issue rights,
options or warrants to all holders of our common stock (but not to holders
of the convertible debentures) entitling them to purchase shares of our
common stock (or any equity, debt or other instrument that is at any time
over its life convertible into or exchangeable for our common stock) at a
price per share that is less than the closing bid price for our common
stock on the record date established for the purposes of determining our
stockholders who would be entitled to receive such rights, options or
warrants;
o if we or any of our subsidiaries offers, sells or otherwise disposes of or
issues any of our common stock (or any equity, debt or other instrument
that is at any time over its life convertible into or exchangeable for our
common stock) at an effective price per share that is less than the
conversion price, the conversion price will be reduced to equal such
effective price;
o if we or any of our subsidiaries grants any option entitling the holder of
the option to purchase any of our common stock (or any equity, debt or
other instrument that is at any time over its life convertible into or
exchangeable for our common stock) at an effective price per share that is
less than the conversion price, the conversion price will be reduced to
equal such effective price;
o if we or any of our subsidiaries offers, sells or grants any right to
reprice outstanding securities at an effective price per share that is
less than the conversion price, the conversion price will be reduced to
equal such effective price;
o if we reclassify our outstanding shares of common stock, or if we
participate in any compulsory share exchange transaction pursuant to which
all of our outstanding shares of common stock will be converted into other
securities, cash or property, then each holder of a convertible debenture
will have the right, at its option, to (i) convert the then outstanding
principal amount of the convertible debenture, together with accrued but
unpaid interest and any other amounts then owing in respect of the
convertible debenture, into the shares of stock or other securities, cash
and property that would have been receivable by the holder as a result of
such reclassification or share exchange transaction if the holder had
converted the convertible debenture immediately prior to the
reclassification or share exchange transaction or (ii) to require us to
pay to the holder of the convertible debenture the mandatory prepayment
amount equal to 120% of the outstanding principal amount, plus all accrued
and unpaid interest and any other amounts then owing in respect of the
convertible debenture;
50
o if we consolidate or merge with another company or other entity, or if we
sell or transfer all or substantially all of our assets, then upon the
subsequent conversion of a convertible debenture, the debenture holder
will have the right to receive, for each share of our common stock that
would have been issuable to the debenture holder upon such conversion
absent such consolidation, merger or asset transaction, the same kind and
amount of securities, cash or property as the debenture holder would have
been entitled to receive if the debenture holder had been the holder of
one share of our common stock immediately prior to the consolidation,
merger or asset transaction; and
o if we or any other person, association, partnership or entity completes
any tender offer or exchange offer whereby the holders of our common stock
are permitted to tender or exchange their common stock for other
securities, cash or property, the debenture holder will have the right to
receive, for each share of our common stock that would have been issuable
to the debenture holder upon such conversion absent such tender offer or
exchange offer, the same kind and amount of securities, cash or property
as the debenture holder would have been entitled to receive if the
debenture holder had been the holder of one share of our common stock
immediately prior to the tender offer or exchange offer.
Right of Redemption and Redemption Warrants. At our option, we shall have the
right to redeem, with 3 business days advance written notice to the holders.
During that time they may elect to convert up to all of their convertible
debentures, in whole or part, at 120% of the face value of each convertible
debenture and the holder shall receive 50,000 redemption warrants for every
$100,000 redeemed. However, we will not have the redemption right prior to the
effective registration of the shares underlying the convertible debentures.
The redemption warrants are exercisable at 120% of the closing bid price on our
common stock as reported by Bloomberg, L.P. for the trading day immediately
preceding the closing date. The redemption warrants will be exercisable until
two years from the date of issuance.
Registration Rights. We agreed to file a registration statement that includes
all the shares of our common stock underlying the convertible debentures. If a
registration statement is not (i) filed within 30 days from our 2004 annual
meeting of shareholders, (ii) declared effective within 120 days of filing or
(iii) within 3 business days of receipt by us of written or oral communication
from the SEC that the registration statement will not be reviewed or that the
SEC has no further comments, or (iv) the registration statement is filed and
effective but thereafter ceases to be effective (without being effected within
15 business days with a replacement or amendment thereto), then the debenture
holders will receive an amount equal to 1% for the first 30 days or part thereof
pending such non-registration event and 2% for each 30 days or part thereof, of
the purchase price of the debenture remaining unconverted and purchase price of
shares issued upon conversion of the debenture owned by such holder. We are
currently in default as a registration statement was not effectively filed with
the SEC 30 days after our annual general meeting. As of the date hereof, we have
not been, nor do we expect to be, contacted by any holders of 5% convertible
bridge debentures with respect to any rights they may have as a result of this
default.
5% Convertible Debenture
On May 27, 2005, we closed on a $1.5 million Securities Purchase Agreement with
Cornell Capital Partners. In accordance with the Securities Purchase Agreement,
we issued, pursuant to Rule 506 of Regulation D under the Securities Act, for a
purchase price of $1.5 million, a 5% convertible debenture due May 20, 2006, to
Cornell Capital Partners, with principal payments commencing on October 1, 2005
and interest payments commencing on August 1, 2005. The outstanding principal
under the convertible debenture bears interest at the rate of 5% per annum,
calculated on the basis of a 360-day year.
Interest and Maturity. With respect to the convertible debentures issued to
Cornell Capital Partners, principal will be due and payable in 12 equal
installments. The installments of principal were due and payable commencing on
October 1, 2005 and subsequent installments were due and payable on the first
day of each calendar month thereafter until the outstanding principal balance is
paid in full. However, Cornell Capital Partners granted us an extention to April
1, 2006 to commence making these principal and interest payments. Interest on
the outstanding principal balance is due and payable monthly, in arrears,
commencing on August 1, 2005 and will continue to be payable on the first day of
each calendar month thereafter that any amounts under the convertible debenture
remain payable.
Conversion Provisions; Conversion Price and Adjustments. The remaining principal
under the convertible debentures may be converted by Cornell Capital Partners or
Highgate House Funds, as applicable, in whole or in part and from time to time
into shares of our common stock at a conversion price of $0.028 per share,
subject to adjustment as described below.
In the event of any issuances of shares of common stock or rights, options,
warrants or securities convertible or exercisable into common stock at a price
per share of common stock less than the conversion price of the convertible
debentures, the conversion price of such convertible debentures will be reduced
to the lower purchase price. In addition, the conversion price of the
convertible debentures will be subject to adjustment in connection with any
subdivision, stock split, combination of shares or recapitalization. No
adjustment will be made as a result of issuances and exercises of options to
purchase shares of common stock issued for compensatory purposes pursuant to any
of our stock option or stock purchase plans.
Events of Default. The 5% convertible debenture provides for various events of
default that would entitle the holders to require us to immediately repay 100%
of the outstanding principal amount, plus accrued and unpaid interest, in cash,
or shares of our common stock with a conversion price reduced to $0.014. If an
event of default occurs, we may be unable to immediately repay the amount owed,
and any repayment may leave us with little or no working capital in our
business.
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We will be considered in default of the 5% convertible debenture if any of the
following events, among others, occurs:
o we fail to pay any amount due under a convertible debenture and such
failure to pay remains uncured for 10 days;
o we fail to observe or perform any other covenant, agreement or warranty
contained in, or otherwise commit any breach or default of any provision
of the 10% convertible debentures;
o we or any of our subsidiaries become bankrupt or insolvent;
o we breach any of our obligations under any other debt or credit agreements
involving an amount exceeding $250,000;
o our common stock ceases to be eligible for quotation on the principal
market for our common stock (currently the OTC Bulletin Board), and fails
to be quoted or listed for trading on another principal market (defined to
mean the OTC Bulletin Board, the New York Stock Exchange, American Stock
Exchange, the NASDAQ Small-Cap Market or the NASDAQ National Market)
within 20 trading days;
o we or any subsidiary experiences a change of control;
o we fail to file a registration statement with the SEC or such registration
statement is not declared effective by the SEC within 120 days after
filing;
o if the effectiveness of the registration statement lapses for any reason
or the holder of the convertible debentures is not permitted to resell the
underlying shares of common stock, in either case, for more than five
trading days or an aggregate of eight trading days;
o we fail to deliver common stock certificates to a holder prior to the
fifth trading day after a conversion date or we fail to provide notice to
a holder of our intention not to comply with requests for conversions of
the convertible debentures; or
o we fail to deliver the payment in cash pursuant to a "buy-in" within three
days after notice is claimed delivered. A "buy-in" occurs if we fail to
issue shares of Common Stock within five trading days after a notice of
conversion is received and the holder requesting conversion purchases (in
an open market transaction or otherwise) Common Stock to deliver in
satisfaction of a sale by such holder of the underlying shares of Common
Stock that the holder anticipated receiving upon such conversion.
Limitation on Beneficial Ownership. The convertible debenture contains a
contractual restriction on beneficial share ownership. It provides that Cornell
Capital Partners may not convert the convertible debentures, or receive shares
of our common stock as payment of interest, to the extent that the conversion or
the receipt of the interest payment would result in Cornell Capital Partners,
together with its respective affiliates, beneficially owning in excess of 4.99%
of our then issued and outstanding shares of common stock.
Fees. We paid to Yorkville Advisors Management a cash fee of $150,000, and a
cash structuring fee of $10,000, in connection with the Securities Purchase
Agreement out of the purchase price paid by Cornell Capital Partners for the
convertible debenture.
Registration Rights. In connection with the execution of the Securities Purchase
Agreement, on May 20, 2005, we entered into a Registration Rights Agreement with
Cornell Capital Partners pursuant to which we agreed to prepare and file, no
later than 45 days after the date of the Registration Rights Agreement, with the
SEC a registration statement on Form S-1 or SB-2 (or, if we are then eligible,
on Form S-3) under the Securities Act of 1933, as amended, for the resale by the
investor of 53,571,429 shares of our common stock to be issued upon conversion
of the convertible debenture. Cornell Capital Partners has granted us an
extension until January 1, 2005 to file the registration statement.
10% Convertible Debentures
On June 30, 2005, we closed a $30 million securities purchase agreement with
Cornell Capital Partners, Highgate House Funds, Ltd. and LCC Global Limited. In
accordance with the securities purchase agreement, we issued, for a purchase
price of $30 million, (i) a 10% convertible debenture due June 23, 2008, with a
principal balance of $20 million, to Cornell Capital Partners, in trust for LCC
Global, (ii) a 10% convertible debenture due June 23, 2008, with a principal
balance of $8 million, to Cornell Capital Partners, in trust for LCC Global, and
(iii) a 10% convertible debenture due June 23, 2008, with a principal balance of
$2 million, to Highgate House Funds, in trust for LCC Global. We paid to
Yorkville Advisors LLC, the general partner of Cornell Capital Partners, a cash
structuring fee of $3 million in connection with this transaction.
On December 30, 2005, we, Starome Investments Limited, Xentennial Holdings
Limited, Staraim Enterprises Limited, Cornell Capital Partners, Highgate House
Funds and LCC Global entered into Amendment No.1 to the Securities and Purchase
Agreement pursuant to which we amended and restated the 10% convertible
debentures in an aggregate principal amount of $30 million. We amended and
restated the 10% convertible debentures to (i) modify the terms of such 10%
convertible debentures, (ii) effect the transfer by (A) Cornell Capital Partners
and LCC Global to Starome Investments, a corporation organized under the laws of
Cyprus, of the 10% convertible debenture with the principal balance of $20
million, (B) Cornell Capital Partners and LCC Global to Xentennial Holdings, a
corporation organized under the laws of Cyprus, of the 10% convertible debenture
with the principal balance of $8 million and (iii) effect the transfer by
Highgate House Funds and LCC Global to Staraim Enterprises, a corporation
organized under the laws of Cyprus, of the 10% convertible debenture with the
principal balance of $2 million ((i), (ii) and (iii) above being referred to as
the Restructuring). The following material amendments were made to each of the
10% convertible debentures in connection with the Restructuring:
52
o The holders of the 10% convertible debentures agreed to eliminate our
obligation to make recurring payments in cash of principal and interest
during the term of the 10% convertible debentures. Such holders may
convert outstanding principal and accrued and unpaid interest under the
10% convertible debentures at any time into shares of our common stock,
subject to a 4.99% beneficial ownership limitation. On June 23, 2008, any
outstanding principal and accrued and unpaid interest under the 10%
convertible debentures must be converted by the holders of the 10%
convertible debentures into shares of our common stock; provided, however,
that to the extent such conversion would cause any holder to exceed the
4.99% beneficial ownership limitation, we must pay such excess amount in
cash. Holders of the 10% convertible debentures may not elect to receive
cash payments of interest during their term.
o We agreed to change the conversion price of the outstanding principal
under the 10% convertible debentures from a fixed price of $0.1125 to a
price equal to the lesser of (i) $0.1125 (subject to adjustment) and (ii)
95.5% of the lowest closing bid price of our common stock during the five
trading days immediately preceding the conversion.
o The conversion price of accrued and unpaid interest under the 10%
convertible debentures is 95.5% of the average of the closing bid prices
of our common stock for the five trading days immediately preceding the
conversion of any such interest by a holder into shares of our common
stock.
o The holders of the 10% convertible debentures agreed to permit us to
redeem at any time all or any portion of the outstanding principal and
accrued interest under the 10% convertible debentures provided that the
closing bid price of our stock is less than $0.1125. We must pay a 20%
redemption premium on any amounts being redeemed and must issue to the
holder of the 10% convertible debenture being redeemed a five-year warrant
to purchase $1 million shares of our Common Stock for every $100,000
redeemed. The "redemption warrant" will be exercisable on a cash basis at
an exercise price of 110% of the closing bid price of our Common Stock on
the date we provide notice of our intent to redeem.
As of December 31, 2005, there was $30,500,000 in outstanding principal and
accrued and unpaid interest under the 10% convertible debentures.
Maturity and Interest. On June 23, 2008, the holders of the 10% convertible
debentures will be required to convert all outstanding amounts of principal and
accrued and unpaid interest into shares of our common stock; provided, however,
that to the extent such conversion would cause any holder to exceed the 4.99%
beneficial ownership limitation, we must pay such excess amount in cash.
Interest will accrue on the outstanding principal at an annual rate equal to 10%
from June 23, 2005. Interest will be calculated on the basis of a 360-day year.
Conversion Provisions; Conversion Price and Adjustments. The conversion price of
the outstanding principal under the 10% convertible debentures is equal to the
lesser of (i) $0.1125 (subject to adjustment as outlined below) and (ii) 95.5%
of the lowest closing bid price of our common stock during the five trading days
immediately preceding the conversion. The conversion price of accrued and unpaid
interest under the 10% convertible debentures is 95.5% of the average of the
closing bid prices of our common stock for the five trading days immediately
preceding the conversion of any such interest by a holder into shares of our
common stock.
In the event of any issuances of shares of common stock or rights, options,
warrants or securities convertible or exercisable into common stock at a price
per share of common stock less than the conversion price of the convertible
debentures, the $0.1125 fixed conversion price of such convertible debentures
will be reduced to the lower purchase price. In addition, the conversion price
of the 10% convertible debentures will be subject to adjustment in connection
with any subdivision, stock split, combination of shares or recapitalization. No
adjustment will be made as a result of issuances and exercises of options to
purchase shares of common stock issued for compensatory purposes pursuant to any
of our stock option or stock purchase plans.
Right of Redemption and Redemption Warrants. We may redeem at any time all or
any portion of the outstanding principal and accrued interest under the 10%
convertible debentures provided that the closing bid price of our stock is less
than $0.1125. We must pay a 20% redemption premium on any amounts being redeemed
in addition the amount of the redemption. The holder of the convertible
debenture under which amounts are being redeemed will be entitled to receive
1,000,000 redemption warrants for every $100,000 redeemed. The redemption
warrants are exercisable at 110% of the closing bid price on our common stock as
reported by Bloomberg, L.P. for the trading day immediately preceding the
redemption. The redemption warrants will be exercisable until five years from
the date of issuance.
Events of Default. The 10% convertible debentures provide for various events of
default that would entitle the holders to require us to immediately repay 100%
of the outstanding principal amount, plus accrued and unpaid interest, in cash,
or shares of our common stock. If an event of default occurs, we may be unable
to immediately repay the amount owed, and any repayment may leave us with little
or no working capital in our business.
We will be considered in default of the 10% convertible debentures if any of the
following events, among others, occurs:
o we fail to pay any amount due under a convertible debenture and such
failure to pay remains uncured for 10 days;
o we fail to observe or perform any other covenant, agreement or warranty
contained in, or otherwise commit any breach or default of any provision
of the 10% convertible debentures;
o we or any of our subsidiaries become bankrupt or insolvent;
53
o we breach any of our obligations under any other debt or credit agreements
involving an amount exceeding $250,000;
o our common stock ceases to be eligible for quotation on the principal
market for our common stock (currently the OTC Bulletin Board), and fails
to be quoted or listed for trading on another principal market (defined to
mean the OTC Bulletin Board, the New York Stock Exchange, American Stock
Exchange, the NASDAQ Small-Cap Market or the NASDAQ National Market)
within 20 trading days;
o we or any subsidiary experiences a change of control;
o we fail to file a registration statement with the SEC or such registration
statement is not declared effective by the SEC within 120 days after
filing;
o if the effectiveness of the registration statement lapses for any reason
or the holder of the convertible debentures is not permitted to resell the
underlying shares of common stock, in either case, for more than five
trading days or an aggregate of eight trading days;
o we fail to deliver common stock certificates to a holder prior to the
fifth trading day after a conversion date or we fail to provide notice to
a holder of our intention not to comply with requests for conversions of
the convertible debentures; or
o we fail to deliver the payment in cash pursuant to a "buy-in" within three
days after notice is claimed delivered. A "buy-in" occurs if we fail to
issue shares of Common Stock within five trading days after a notice of
conversion is received and the holder requesting conversion purchases (in
an open market transaction or otherwise) Common Stock to deliver in
satisfaction of a sale by such holder of the underlying shares of Common
Stock that the holder anticipated receiving upon such conversion.
Limitation on Beneficial Ownership. The convertible debentures contain a
contractual restriction on beneficial share ownership. They provide that Starome
Investments Limited, Xentennial Holdings Limited or Staraim Enterprises Limited
may not convert the convertible debentures, or receive shares of our common
stock as payment of interest, to the extent that the conversion or the receipt
of the interest payment would result in Starome Investments Limited, Xentennial
Holdings Limited or Staraim Enterprises Limited, together with their respective
affiliates, beneficially owning in excess of 4.99% of our then issued and
outstanding shares of common stock.
Fees. We paid to Cornell Capital Partners a cash fee of $3 million, and a cash
structuring fee of $50,000 to Yorkville Advisors, in connection with the
Securities Purchase Agreement out of the purchase price paid by Cornell Capital
Partners for the 10% convertible debentures.
Registration Rights. In connection with the execution of the Securities Purchase
Agreement, on June 23, 2005, we entered into a Registration Rights Agreement
with Cornell Capital Partners, Highgate House Funds, Ltd. and LCC Global
Limited. In connection with the Restructuring on December 30, 2005, we, Starome
Investments Limited, Xentennial Holdings Limited and Staraim Enterprises
Limited, entered into an Amended and Restated Registration Rights Agreement.
Pursuant to the Amended and Restated Registration Rights Agreement we agreed to
prepare and file, no later than 30 days after the date of the Amended and
Restated Registration Rights Agreement, with the SEC a registration statement on
Form S-1 or SB-2 (or, if we are then eligible, on Form S-3) under the Securities
Act of 1933, for the resale by the holders of the 10% convertible debentures of
850 million shares of our common stock to be issued upon conversion of the
convertible debentures.
Standby Equity Distribution Agreement
On June 23, 2005, we entered into the $160 million Standby Equity Distribution
Agreement with Cornell Capital Partners for the future issuance and purchase of
shares of our common stock. This Standby Equity Distribution Agreement
established what is sometimes referred to as an equity line of credit or an
equity draw down facility and replaced our previous $30 million Standby Equity
Distribution Agreement, which was terminated by the parties on June 23, 2005. We
paid to Yorkville Advisors, LLC, the general partner of Cornell Capital
Partners, a cash fee of $16 million in connection with the Standby Equity
Distribution Agreement.
We entered into the $30 million convertible debentures and the $160 million
Standby Equity Distribution Agreement for the following business reasons:
1) given that large OEMs that have been testing our products support their
products to their customers for 10 to 15 years, we were unlikely to obtain
contracts with these OEMs unless we could demonstrate that we had the
financial resources to ensure that we would be a going concern and that we
could supply these OEMs with product throughout the product lifecycle;
2) the convertible debentures provided us with a net cash infusion of
approximately $11 million which has enabled us to ensure we have
sufficient resources to execute on our business plan. This cash infusion
also provided evidence to our customers and suppliers that we would be a
going concern for the next one to two years; and
3) we believed the Standby Equity Distribution Agreement was necessary to
provide our customers and suppliers with evidence that we would be a going
concern for at least the next five years and would provide us with the
necessary capital to execute our business plan, including any inorganic
growth, such as acquisitions.
Multiple debentures and warrants were provided to Cornell Capital Partners as we
understood that Cornell Capital Partners' intent at the time we entered into the
debenture agreements was to assign the $20 million debenture and related
warrants to a third party. We could not wait for the third party to enter into a
separate agreement with us because we required the cash at that time as we had
less than a month of cash-on-hand prior to entering into the debenture
agreements.
54
The conversion price of the debentures was based on good faith negotiations
between us and Cornell Capital Partners, which took into consideration the
market price, volume and volatility of our common stock at the time of the
negotiations. The exercise price of the warrants was also based on good faith
negotiations between us and Cornell Partners, which took into consideration the
market price, volume and volatility of our common stock at the time of the
negotiations. In addition, the $16 million fee paid in connection with the
issuance by Cornell Capital Partners of the Standby Equity Distribution
Agreement was negotiated between Cornell Capital Partners and us. The purpose of
the fee was to compensate Cornell Capital Partners for agreeing to irrevocably
commit up to $160 million of its own capital to us for a period of up to five
years. We were informed by various financial advisors that such a five year
commitment on the part of Cornell Capital Partners, as opposed to a more
customary two or three year commitment, was extraordinary in that it would
effectively ensure that for a period of five years, we would have access to
sufficient capital necessary to execute our aggressive business plan of
enhancing profitability through growth and would eliminate any need for us to
obtain additional financing from outside sources.
On December 30, 2005, we and Cornell Capital Partners terminated the $160
million Standby Equity Distribution Agreement, originally entered into on June
23, 2005, and replaced it with a new $100 million Standby Equity Distribution
Agreement (the "$100 million Standby Equity Distribution Agreement"). We may not
request advances under the $100 million Standby Equity Distribution Agreement
until the underlying shares of our common stock are registered with the SEC, and
we will not register such underlying shares until all of the outstanding
principal and accrued and unpaid interest on the amended and restated 10%
convertible debentures have been either converted by the holders or redeemed or
paid in full by us, which must occur on or before July 23, 2008. The term of the
$100 million Standby Equity Distribution Agreement will commence on the date a
registration statement covering the underlying shares becomes effective and will
expire five years after such date. Under the old $160 million Standby Equity
Distribution Agreement, Cornell Capital Partners was entitled to retain 5% of
each advance requested by us. In consideration for the reduction of the amount
available to us under the new $100 Standby Equity Distribution Agreement,
Cornell Capital Partners agreed to reduce this 5% advance fee to 2.5% of each
advance.
We may request advances under the $100 million Standby Equity Distribution
Agreement once the underlying shares are registered with the SEC. Once the
registration statement covering the underlying shares of common stock becomes
effective, we may request an advance every seven trading days. The amount of
each advance is subject to a maximum amount of $3 million every seven trading
days. A closing will be held six trading days after such written notice at which
time we will deliver shares of common stock and Cornell Capital Partners will
pay the advance amount. For each share of common stock purchased under the
equity line of credit, Cornell Capital Partners will pay 98% of the lowest
closing bid price on the OTC Bulletin Board or other principal market on which
our common stock is traded for the five days immediately following the notice
date. We may continue to request advances until Cornell Capital Partners has
advanced $100 million or 5 years have elapsed from the date a registration
statement covering the underlying shares of common stock becomes effective,
provided that we file either an amendment to the then effective registration
statement or a new registration statement is declared effective after the 24th
and 48th month after the effective date, whichever occurs first.
Under the $100 million Standby Equity Distribution Agreement, Cornell Capital
Partners may not own more than 9.9% of our outstanding common stock at any time.
Because Cornell Capital Partners can repeatedly acquire and sell shares, this
limitation does not limit the potential dilutive effect or the total number of
shares that Cornell Capital Partners may receive under the $100 million Standby
Equity Distribution Agreement.
The following conditions must be satisfied before Cornell Capital Partners is
obligated to purchase any common shares under any draw down notice that we may
deliver from time to time under the $100 million Standby Equity Distribution
Agreement:
o a registration statement for the shares must be declared effective by the
SEC and must remain effective and available as of the draw down settlement
date for making resales of the common shares purchased by Cornell Capital
Partners;
o there must be no statute, rule, regulation, executive order, decree,
ruling or injunction which would prohibit the consummation of any of the
transactions contemplated by the $100 million Standby Equity Distribution
Agreement;
o there must be no material action, suit or proceeding before any arbitrator
or any governmental authority against us or any of our subsidiaries, or
against any of the officers, directors or affiliates of our company or any
of our subsidiaries, in respect of the $100 million Standby Equity
Distribution Agreement or in respect of the transactions contemplated by
the $100 million Standby Equity Distribution Agreement;
o trading in our common stock must not have been suspended by the SEC or by
the regulators of the principal market for our common stock (currently the
OTC Bulletin Board); and
o the principal market for our common stock must not have instituted, or
otherwise been made subject to, a general suspension or limitation on the
trading of securities through its facilities at any time prior to delivery
of our draw down notice.
During the term of the $100 million Standby Equity Distribution Agreement, we
may request advances of up to $3 million upon giving notice of not less than
five trading days. We may request such advances every five trading days until
the advances aggregate to $100 million.
55
During the term of the $100 million Standby Equity Distribution Agreement,
subject to certain exceptions for issuances resulting from prior commitments, we
cannot, without the prior consent of Cornell Capital Partners:
o issue or sell any common stock or preferred stock with or without
consideration;
o issue or sell any preferred stock, warrant, option, right, contract, call,
or other security or instrument granting the holder thereof the right to
acquire common stock with or without consideration,
o enter into any security instrument granting the holder a security interest
in any of our assets; or
o file any registration statements on Form S-8.
Provided we give Cornell Capital Partners two days prior written notice, the
foregoing restrictions will exclude options, warrants or other securities
convertible or exchangeable into shares of our common stock that were
outstanding prior to December 30, 2005.
Cornell Capital Partners, and each of its directors, officers, partners,
employees and agents, is entitled to customary indemnification from us for any
losses or liabilities suffered by any such person based upon material
misstatements or omissions from the $100 million Standby Equity Distribution
Agreement, registration statement and the prospectus, except as they relate to
information supplied by Cornell Capital Partners to us for inclusion in the
registration statement and prospectus.
During fiscal year 2005, SmarTire terminated and replaced the following equity
lines of credit with Cornell Capital Partners:
o The $15 million Standby Equity Distribution Agreement entered into
on May 19, 2004 was terminated on May 20, 2005 and replaced with a
$30 million Standby Equity Distribution Agreement. The $15 million
Standby Equity Distribution Agreement was replaced by the $30
million Standby Distribution Agreement because SmarTire determined
that, at the time of termination, the balance of approximately $11.5
million remaining under the $15 million Standby Equity Distribution
Agreement and its remaining life of approximately one year were
insufficient to fund SmarTire's long term business plans.
o The two-year $30 million Standby Equity Distribution Agreement was
terminated on June 23, 2005 and replaced with a $160 million Standby
Equity Distribution Agreement. SmarTire entered into this new $160
million Standby Equity Distribution Agreement for a variety of
reasons:
o to ensure that SmarTire would have access to sufficient
capital on both short and long term basis to enable it to
implement and excute its aggressive business plan of enhancing
profitability through rapid growth whether organically or
through acquisitions or strategic partnerships;
o to eradicate SmarTire's need to expend management's time and
SmarTire's resources seeking, negotiating and finalizing short
and long term financing to enable member of management to
focus on executing SmarTire's business plan; and
o to provided evidence to its prospective large original
equipment manufacturer customers and current suppliers that
SmarTire would have the financial resources to be a going
concern for the long-term and be able to service its debt.
o SmarTire entered into the new $100 million Standby Equity
Distribution Agreement based on:
o comments received from the SEC to our registration statement
that was withdrawn on September 23, 2005; and
o a reevaluation of our financing needs and business plan for
the next five years in connection with the restructuring of
our 10% convertible debentures, in which we were able to
negotiate the elimination of our obligation to make cash
payments of principal and interest under the 10% convertible
debentures and a reduction in the advance fees payable to
Cornell Capital Partners under the equity line of credit from
5% to 2.5%.
In connection with the Standby Equity Distribution Agreement, SmarTire Systems,
Inc., Newbridge Securities Corporation and Cornell Capital Partners entered into
a placement agent agreement on December 30, 2005.
SmarTire engaged Newbridge to act as its exclusive placement agent in connection
with the Standby Equity Distribution Agreement dated as of December 30, 2005,
pursuant to which SmarTire may issue and sell to the Cornell Capital Partners,
up to $100 million of SmarTire's common stock. Newbridge's services consisted of
reviewing the terms of the Standby Equity Distribution Agreement and advising
SmarTire with respect to those terms.
SmarTire issued to Newbridge 75,188 shares SmarTire's common stock as
compensation for its services. Newbridge is entitled to "piggy-back"
registration rights, which shall be triggered upon registration of any shares of
common stock issued to Cornell Capital Partners under the Standby Equity
Distribution Agreement.
Warrants Issued to Holders of 10% Convertible Debentures
Warrants Issued to Holders of 10% Convertible Debentures. Under the Securities
Purchase Agreement, dated June 23, 2005, we issued (i) to Cornell Capital
Partners, as trustee for LCC Global, two five-year warrants to purchase an
aggregate of 58,337,500 shares of our common stock, at an exercise price of
$0.16 per share and (ii) to Highgate House Funds, as trustee for LCC Global, a
five-year warrant to purchase 4,162,500 shares of our common stock, at an
exercise price of $0.16 per share.
In connection with the restructuring, on December 30, 2005, we amended and
restated the warrants to effect the transfer of (i) 1,668,750 common stock
purchase warrants to Starome Investments, (ii) 16,668,750 common stock purchase
warrants to Xentenial Holdings and (iii) 4,162,500 common stock purchase
warrants to Staraim Enterprises. Starome Investments Limited, Xentennial
Holdings Limited and Staraim Enterprises Limited will not be entitled to
exercise the warrants for a number of shares of our common stock if such
exercise would cause the aggregate number of shares of our common stock
beneficially owned by Starome Investments Limited, Xentennial Holdings Limited
and Staraim Enterprises Limited, and their respective affiliates to exceed
4.99%, respectively of the outstanding shares of our common stock following such
exercise, except within 60 days of the expiration date of the warrants.
Registration Rights. In connection with the execution of the Securities Purchase
Agreement, on June 23, 2005, we entered into a Registration Rights Agreement
with Cornell Capital Partners, Highgate House Funds, Ltd. and LCC Global
Limited. In connection with the Restructuring on December 30, 2005, we, Starome
Investments Limited, Xentennial Holdings Limited and Staraim Enterprises
Limited, entered into an Amended and Restated Registration Rights Agreement.
Pursuant to the Amended and Restated Registration Rights Agreement we agreed to
prepare and file, no later than 30 days after the date of the Amended and
Restated Registration Rights Agreement, with the SEC a registration statement on
Form S-1 or SB-2 (or, if we are then eligible, on Form S-3) under the Securities
Act of 1933, for the resale by the holders of the warrants 62.5 million shares
of our common stock to be issued upon exercise of the holders' warrants.
Anti-dilution protections. If after December 30, 2005, we issue or sell any
shares of common stock, or securities convertible into shares of common stock,
for consideration per share less than a price equal to the exercise price in
effect immediately prior to such issuance or sale, then immediately after such
issue or sale the exercise price will be reduced to an amount equal to such
consideration per share. No adjustment will be made for, provided such security
is issued at a price that is greater than or equal to the arithmetic average of
the closing bid prices of the Common Stock for the ten consecutive trading days
immediately preceding the date of issuance, any of the following: (i) any
issuance by us of securities in connection with a strategic partnership or a
joint venture, (ii) any issuance by us of securities as consideration for a
merger or consolidation or the acquisition of a business, product, license, or
other assets of another person or entity, (iii) any shares of capital stock or
other securities exercisable for or convertible into shares of capital stock
pursuant to a commitment arising on or prior to the date hereof and (iv) options
to purchase shares of common stock, provided certain conditions are met. The
warrants also have customary anti-dilution protection for reclassifications,
stock splits and combinations.
Warrants Issued to Investor Relations Firms
Warrants Issued to AGORA Investor Relations Corp(Agora). In consideration for
its provisions of investor relations services under an investor relations
agreement, we issued to AGORA three-year warrants on 1,000,000 shares of our
common stock priced at $0.16 with full piggyback rights and were to be
registered with the company's next registration statement after November 30,
2005. The warrants will expire on October 31, 2008 and are not excercisable
until October 31, 2006.
Warrants Issued to Hawk Associates, Inc. In consideration for its provisions of
investor relations services under an investor relations agreement, we issued to
Hawk Associates, Inc. five-year warrants on 250,000 shares of our common stock
priced at $0.20 with full piggyback rights and were to be registered with the
company's next registration statement after July 1, 2004. The warrants will
expire at midnight on June 30, 2009.
56
Market Information
Our common stock is quoted on the OTC Bulletin Board under the trading symbol
"SMTR." The high and low bid prices for our common stock at the close of
business on December 30, 2005, as reported by the OTC Bulletin Board, were $.084
and $.077 per share, respectively.
Transfer Agent
Our common shares are issued in registered form. Pacific Corporate Trust Company
(10th Floor, 625 Howe Street, Vancouver, British Columbia, V6C 3B8 (telephone:
(604) 689-9853, facsimile (604) 689-8144)) is the registrar and transfer agent
for our common shares.
Indemnification Provisions
Bylaw. Under our Bylaw, subject to the Business Corporations Act (Yukon
Territory) and subject to court approval in certain circumstances, we must
indemnify:
o each of our current or former directors and officers;
o any person who acts or has acted at our request as a director or officer
of a corporation of which we are or were a shareholder or creditor; and
o any such indemnified person's heirs and legal representatives, against all
costs, charges and expenses, including any amount paid to settle an action
or satisfy a judgment, reasonably incurred by him or her in respect of any
civil, criminal or administrative action or proceeding to which he or she
is made a party by reason of serving or having served as a director or
officer of our company or such corporation, if (i) he or she acted
honestly and in good faith with a view to the best interests of our
company and (ii) in the case of a criminal or administrative action or
proceeding that is enforced by a monetary penalty, he or she had
reasonable grounds for believing his or her conduct was lawful.
Business Corporations Act (Yukon Territory). Section 126 of the Business
Corporations Act (Yukon Territory) provides that, in any event, any of the
foregoing persons is entitled to be indemnified by us in respect of all costs,
charges and expenses reasonably incurred by him or her in connection with the
defense of any civil, criminal or administrative action or proceeding to which
he or she is made a party by reason of being or having been a director or
officer of our company or a corporation of which we are or were a shareholder or
creditor, if he or she (i) was substantially successful on the merits in his or
her defense of the action or proceeding, (ii) is fairly and reasonably entitled
to indemnity, (iii) acted honestly and in good faith with a view to the best
interests of our company and (iv) in the case of a criminal or administrative
action or proceeding that is enforced by a monetary penalty, he or she had
reasonable grounds for believing his or her conduct was lawful.
Securities Act. Insofar as indemnification for liabilities arising under the
Securities Act might be permitted to directors, officers or persons controlling
our company under the provisions described above, we have been informed that in
the opinion of the SEC such indemnification is against public policy as
expressed in the Securities Act and is therefore unenforceable.
LEGAL MATTERS
The validity of the shares of common stock offered by the selling stockholders
will be passed upon for us by our counsel, Greenberg Traurig, LLP, New York, New
York.
INTEREST OF NAMED EXPERTS AND COUNSEL
No expert or counsel named in this prospectus as having prepared or certified
any part of this prospectus or having given an opinion upon the validity of the
securities being registered or upon other legal matters in connection with the
registration or offering of the common stock was employed on a contingency basis
or had, or is to receive, in connection with the offering, a substantial
interest, directly or indirectly, in the registrant or any of its parents or
subsidiaries. Nor was any such person connected with the registrant or any of
its parents, subsidiaries as a promoter, managing or principal underwriter,
voting trustee, director, officer or employee.
EXPERTS
The consolidated financial statements of SmarTire Systems Inc. as of July 31,
2005 and 2004, and for each of the years in the three-year period ended July 31,
2005, filed with this prospectus and registration statement have been included
herein in reliance upon the report of KPMG LLP, independent registered public
accounting firm, appearing elsewhere herein, and upon the authority of said firm
as experts in accounting and auditing. The audit report covering the July 31,
2005 consolidated financial statements includes additional comments for United
States readers that states that conditions and events exist that cast
substantial doubt about the Company's ability to continue as a going concern.
The consolidated financial statements do not include any adjustments that might
result from the outcome of that uncertainty.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
We have had no disagreements on any matter of accounting principles or
practices, financial statement disclosure, or auditing scope or procedures with
any of our accountants for the year ended July 31, 2005. We have not had any
changes in nor have we had any disagreements, whether or not resolved, with our
accountants on accounting and financial disclosures during our two recent fiscal
years or any later interim period.
57
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission a registration
statement on Form SB-2, under the Securities Act with respect to the securities
offered under this prospectus. This prospectus, which forms a part of that
registration statement, does not contain all information included in the
registration statement. Certain information is omitted and you should refer to
the registration statement and its exhibits. With respect to references made in
this prospectus to any contract or other document of SmarTire, the references
are not necessarily complete and you should refer to the exhibits attached to
the registration statement for copies of the actual contract or document. You
may also read and copy any materials we file with the Securities and Exchange
Commission at the SEC's public reference room at 450 Fifth Street N.W.,
Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further
information on the operation of the public reference rooms.
We are a "foreign private issuer," as such term is defined in Rule 3b-4 under
the Securities Exchange Act of 1934. However, we have elected to file Annual
Reports on Form 10-KSB, Quarterly Reports on Form 10-QSB and Current Reports on
Form 8-K with the SEC. Our SEC filings are generally available to the public
from our website. Information on our website is not, and should not be
considered to be, part of this prospectus. Our SEC filings are also available to
the public from commercial document retrieval services. Information contained on
our website is not incorporated by reference, and should not be considered part
of, this prospectus. You may also request a copy of our filings at no cost by
writing or telephoning us at: SmarTire Systems Inc. 150-13151 Vanier Place
Richmond, British Columbia, V6V 2J1 Attention: Jeff Finkelstein, Chief Financial
Officer, (604) 276-9884.
NO FINDER, DEALER, SALES PERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION IN CONNECTION WITH THIS OFFERING OTHER
THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION
OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY SMARTIRE
SYSTEMS INC. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A
SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED HEREBY BY ANYONE
IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN
WHICH THE PERSON MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO OR
TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER
THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS
CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE OF THIS PROSPECTUS.
58
INDEX TO CONSOLIDATED FINANCIAL INFORMATION
Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM F-2
CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED JULY 31, 2005 AND 2004
Consolidated Balance Sheets for the years ended July 31, 2005 and 2004 F-3
Consolidated Statements of Operations for the years ended July 31, 2005, 2004 and 2003 F-4
Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Loss for the years F-5
ended July 31, 2005, 2004 and 2003
Consolidated Statements of Cash Flows for the years ended July 31, 2005, 2004 and 2003 F-7
Notes to Consolidated Financial Statements for the years ended July 31, 2005, 2004 and 2003 F-8
INTERIM CONSOLIDATED FINANCIAL STATEMENTS FOR THE THREE MONTHS ENDED OCTOBER 31, 2005 AND 2004 F-43
Interim Consolidated Balance Sheets for the three months ended October 31, 2005 and the year F-44
ended July 31, 2005
Interim Consolidated Statements of Operations for the three months ended October 31, 2005 and 2004 F-45
Consolidated Statements of Stockholders' Equity, (Deficiency) and Comprehensive Loss for the three F-46
months ended October 31, 2005 year and the year ended July 31, 2005
Interim Consolidated Statements of Cash Flows for the three months ended October 31, 2005 and 2004 F-47
Notes to the Interim Consolidated Financial Statements for the three months ended October 31, 2005 F-48
and 2004
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders of SmarTire Systems Inc.
We have audited the consolidated balance sheets of SmarTire Systems Inc. as at
July 31, 2005 and 2004 and the consolidated statements of operations,
stockholders' equity and comprehensive loss and cash flows for each of the years
in the three year period ended July 31, 2005. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with Canadian generally accepted auditing
standards and the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform an audit to
obtain reasonable assurance whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Company as at
July 31, 2005 and 2004 and the results of its operations and its cash flows for
each of the years in the three year period ended July 31, 2005 in accordance
with U.S. generally accepted accounting principles.
/s/ KPMG LLP
Chartered Accountants
Vancouver, Canada
September 16, 2005, except for note 19(b) which is as of September 23, 2005
COMMENTS BY AUDITOR FOR U.S. READERS ON CANADA - U.S. REPORTING DIFFERENCE
In the United States, reporting standards for auditors require the addition of
an explanatory paragraph (following the opinion paragraph) when the financial
statements are affected by conditions and events that cast substantial doubt on
the Company's ability to continue as a going concern, such as those described in
note 2 to the financial statements. Our report to the shareholders dated
September 16, 2005 except for note 19(b) which is as of September 23, 2005 is
expressed in accordance with Canadian reporting standards which do not permit a
reference to such events and conditions in the report of independent registered
public accounting firm when these are adequately disclosed in the financial
statements.
/s/ KPMG LLP
Chartered Accountants
Vancouver, Canada
September 16, 2005, except for note 19(b) which is as of September 23, 2005
F-2
SMARTIRE SYSTEMS INC.
Consolidated Balance Sheets
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
July 31, 2005 and 2004
2005 2004
------------ ------------
Assets
Current assets:
Cash and cash equivalents $ 10,059,763 $ 76,670
Receivables, net of allowance for doubtful accounts
of $50,750 (2004 - nil) 275,789 259,508
Inventory (note 4) 2,798,747 3,245,807
Prepaid expenses 158,188 225,758
------------ ------------
13,292,487 3,807,743
Capital assets (note 5) 716,763 824,616
Deferred financing costs (note 12) 18,209,280 157,020
Other assets (note 6) 1,066,013 2,147,749
------------ ------------
$ 33,284,543 $ 6,937,128
============ ============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable and accrued liabilities (note 7) $ 915,334 $ 1,293,251
Deferred revenue -- 10,830
Promissory notes payable (note 8) -- 1,500,000
Current portion of convertible debentures 4,866,584 271,257
------------ ------------
5,781,918 3,075,338
Convertible debentures, net of equity portion of $10,111,082
(2004 - $1,955,356) (note 9) 17,118,667 395,574
Preferred shares, net of equity portion of $3,999,999, subject
to mandatory redemption (July 31, 2004 - nil) (note 10) 1 --
Stockholders' equity:
Share capital (note 11):
Common shares, without par value:
Unlimited shares authorized (2004 - 300,000,000)
278,562,884 shares issued and outstanding
(2004 - 103,130,761) 66,695,717 58,368,020
Additional paid-in capital 18,691,497 4,417,323
Deficit (75,132,150) (59,018,256)
Accumulated other comprehensive loss 128,893 (300,871)
------------ ------------
10,383,957 3,466,216
------------ ------------
$ 33,284,543 $ 6,937,128
============ ============
Going concern (note 2)
Commitments and contingencies (notes 9(b) and 18) Subsequent events (note 20)
See accompanying notes to consolidated financial statements.
Approved on behalf of the Board
/s/ Robert Rudman Director /s/ Bill Cronin Director
- -------------------- ---------------
Robert V. Rudman Bill Cronin
F-3
SMARTIRE SYSTEMS INC.
Consolidated Statements of Operations
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
2005 2004 2003
------------- ------------- -------------
Revenue $ 1,463,460 $ 1,658,279 $ 1,802,596
Cost of goods sold (including in the year ended July
31, 2005 inventory write-down of $500,000) 1,634,780 1,445,563 1,387,365
------------- ------------- -------------
(171,320) 212,716 415,231
Expenses:
Depreciation and amortization 1,497,250 1,371,717 1,236,870
Engineering, research and development 3,297,011 1,654,690 1,177,935
General and administrative 4,953,537 2,338,758 2,939,260
Marketing 2,540,730 1,821,122 1,448,326
------------- ------------- -------------
12,288,528 7,186,287 6,802,391
------------- ------------- -------------
Loss from operations (12,459,848) (6,973,571) (6,387,160)
Other earnings (expenses):
Interest income 39,241 5,873 2,835
Net interest and financing expense (note 13) (3,730,481) (4,031,820) (3,722,505)
Foreign exchange gain 37,194 12,492 192,201
Gain on settlement of convertible debt (note 9(c)) 1,822,033 -- --
------------- ------------- -------------
(1,832,013) (4,013,455) (3,527,469)
------------- ------------- -------------
Loss for the year $ (14,291,681) $ (10,987,026) $ (9,914,629)
============= ============= =============
Basic and diluted loss per share $ (0.06) $ (0.13) $ (0.37)
Weighted average number of common shares used in
the computation of basic and diluted loss per
share (note 17) 222,981,341 83,356,095 26,771,427
============= ============= =============
See accompanying notes to consolidated financial statements.
F-4
SMARTIRE SYSTEMS INC.
Consolidated Statements of Stockholders' Equity and Comprehensive Loss
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
Common shares Additional Deferred
-------------------------- paid-in stock
Shares Amount capital compensation Deficit
----------- ----------- ----------- ------------ -----------
$ $ $ $
Balance at July 31, 2002 18,711,369 42,514,482 885,461 (17,005) (38,116,601)
=========== =========== =========== =========== ===========
Issuance of common shares for cash upon private
placements, net of issuance costs of $289,172 6,964,286 1,810,828 -- -- --
Intrinsic value of beneficial conversion feature
of convertible debentures plus fair value of
warrants issued -- -- 5,157,521 -- --
Conversion of convertible debenture and accrued
interest to common shares net of issuance
costs of $628,526 24,381,133 3,024,395 -- -- --
Exercise of warrants for cash, net of issuance
costs of $61,060 3,300,000 298,940 -- -- --
Issuance of shares as fees on equity line of
credit 478,412 300,000 -- -- --
Fair value of agent's warrants issued on private
placements and convertible debentures -- -- 502,367 -- --
Debt settlement through issuance of common shares 353,865 77,850 -- -- --
Issuance of shares and repricing of warrants to
settle a potential claim 850,000 178,500 136,544 -- --
Compensation expense -- -- -- 17,005 --
Loss for the period -- -- -- -- (9,914,629)
Translation adjustment -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance at July 31, 2003 55,039,065 48,204,995 6,681,893 -- (48,031,230)
=========== =========== =========== =========== ===========
Accumulated
other
comprehensive Stockholders' Comprehensive
loss equity income (loss)
-------------- -------------- --------------
$ $ $
Balance at July 31, 2002 (977,291) 4,289,046 (7,000,269)
============== ============== ==============
Issuance of common shares for cash upon private
placements, net of issuance costs of $289,172 -- 1,810,828 --
Intrinsic value of beneficial conversion feature
of convertible debentures plus fair value of
warrants issued -- 5,157,521 --
Conversion of convertible debenture and accrued
interest to common shares net of issuance
costs of $628,526 -- 3,024,395 --
Exercise of warrants for cash, net of issuance
costs of $61,060 -- 298,940 --
Issuance of shares as fees on equity line of
credit -- 300,000 --
Fair value of agent's warrants issued on private
placements and convertible debentures -- 502,367 --
Debt settlement through issuance of common shares -- 77,850 --
Issuance of shares and repricing of warrants to
settle a potential claim -- 315,044 --
Compensation expense -- 17,005 --
Loss for the period -- (9,914,629) (9,914,629)
Translation adjustment 408,937 408,937 408,937
-------------- -------------- --------------
Balance at July 31, 2003 (568,354) 6,287,304 (9,505,692)
============== ============== ==============
See accompanying notes to consolidated financial statements
F-5
SMARTIRE SYSTEMS INC.
Consolidated Statements of Stockholders' Equity and Comprehensive Loss
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
Accumulated
Common shares Additional other
------------------------ paid-in comprehensive
Shares Amount capital Deficit loss
----------- ---------- ----------- ------------ --------------
$ $ $ $
Balance as at July 31, 2003 55,039,065 48,204,995 6,681,893 (48,031,230) (568,354)
=========== ========== =========== ============ ==============
Exercise of stock options for cash (note 11 (e)) 79,400 15,880 -- -- --
Intrinsic value of beneficial conversion feature of
convertible debentures plus fair value of warrants
issued (note 9) -- -- 2,457,023 -- --
Conversion of convertible debentures and accrued
interest to common shares allocated pro-rata
between additional paid-in-capital and common
shares, net of issuance costs of $156,133 (note 8) 20,882,076 5,344,961 (2,788,277) -- --
Exercise of warrants for cash, net of issuance costs
of $78,370 (note 11(f)) 12,463,231 3,702,985 (1,601,970) -- --
Issuance of shares and warrants as fees for
services received (note 11(c)) 200,000 34,800 63,375 -- --
Fair value of agent's warrants issued on private
placement of convertible debentures (note 8(b)) -- -- 15,699 -- --
Issuance of shares as fees on equity line of credit
(note 11 (d)) 3,605,769 375,000 (375,000) -- --
Cash cost incurred for equity line (note 11(d)) -- -- (35,420) -- --
Shares issued upon draw downs on equity line of
credit, net of issuance cost of $60,601 (note 11(d)) 10,861,220 689,399 -- -- --
Loss for the period -- -- -- (10,987,026) --
Translation adjustment -- -- -- -- 267,483
----------- ---------- ----------- ------------ --------------
Balance at July 31, 2004 103,130,761 58,368,020 4,417,323 (59,018,256) (300,871)
=========== ========== =========== ============ ==============
Exercise of stock options for cash (note 11(e)) 6,059,998 787,800 (606,000) -- --
Conversion of convertible debentures and accrued
interest to common shares allocated pro-rata
between additional paid-in-capital and common shares 51,340,389 2,147,293 (648,644) -- --
(note 9)
Intrinsic value of beneficial conversion feature of
convertible debt (note 9) -- -- 11,005,243 -- --
Settlement of convertible debt (note 9(c)) -- -- (677,966) (1,822,033)
Intrinsic value of beneficial conversion feature of
preferred shares (note 10) -- -- 3,999,999 -- --
Financing cost related to preferred shares (note 10) -- -- (145,000) --
Financing cost related to convertible debentures
(note 9) -- -- (1,038,037) -- --
Exercise of warrants for cash, net of issuance
costs of $46,872 (note 11(e)(ii)) 18,940,560 1,588,643 (1,017,299) -- --
Cash-less exercise of warrants (note 11 (b)(ii)) 13,364,073 1,026,617 (1,026,617) --
Shares issued upon draw downs on equity line, net of
issuance cost of $515,170 (note 11(b)(i)) 78,887,710 2,505,766 410,420 -- --
Shares issued as placement fees on equity line of
credit (note 11(d)) 75,188 10,000 -- -- --
Shares issued as compensation for services (note 11(c)) 6,764,205 261,578 -- -- --
Compensation expense (note 3(o)) -- -- 4,018,075 -- --
Loss for the period -- -- -- (14,291,861) --
Translation adjustment -- -- -- -- 429,764
----------- ---------- ----------- ------------ --------------
Balance at July 31, 2005 278,562,884 66,695,717 18,691,497 (75,132,150) 128,893
=========== ========== =========== ============ ==============
Stockholders' Comprehensive
equity income (loss)
-------------- --------------
$ $
Balance as at July 31, 2003 6,287,304 (9,505,692)
============== ==============
Exercise of stock options for cash (note 11 (e)) 15,880 --
Intrinsic value of beneficial conversion feature of
convertible debentures plus fair value of warrants
issued (note 9) 2,457,023 --
Conversion of convertible debentures and accrued
interest to common shares allocated pro-rata
between additional paid-in-capital and common
shares, net of issuance costs of $156,133 (note 8) 2,556,684 --
Exercise of warrants for cash, net of issuance costs
of $78,370 (note 11(f)) 2,101,015 --
Issuance of shares and warrants as fees for
services received (note 11(c)) 98,175 --
Fair value of agent's warrants issued on private
placement of convertible debentures (note 8(b)) 15,699 --
Issuance of shares as fees on equity line of credit
(note 11 (d)) -- --
Cash cost incurred for equity line (note 11(d)) (35,420) --
Shares issued upon draw downs on equity line of
credit, net of issuance cost of $60,601 (note 11(d)) 689,399 --
Loss for the period (10,987,026) (10,987,026)
Translation adjustment 267,483 267,483
-------------- --------------
Balance at July 31, 2004 3,466,216 (10,719,543)
============== ==============
Exercise of stock options for cash (note 11(e)) 181,800 --
Conversion of convertible debentures and accrued
interest to common shares allocated pro-rata
between additional paid-in-capital and common shares 1,498,649 --
(note 9)
Intrinsic value of beneficial conversion feature of
convertible debt (note 9) 11,005,243 --
Settlement of convertible debt (note 9(c)) (2,499,999) --
Intrinsic value of beneficial conversion feature of
preferred shares (note 10) 3,999,999 --
Financing cost related to preferred shares (note 10) (145,000) --
Financing cost related to convertible debentures
(note 9) (1,038,037) --
Exercise of warrants for cash, net of issuance
costs of $46,872 (note 11(e)(ii)) 571,344 --
Cash-less exercise of warrants (note 11 (b)(ii)) -- --
Shares issued upon draw downs on equity line, net of
issuance cost of $515,170 (note 11(b)(i)) 2,916,186 --
Shares issued as placement fees on equity line of
credit (note 11(d)) 10,000 --
Shares issued as compensation for services (note 11(c)) 261,578 --
Compensation expense (note 3(o)) 4,018,075 --
Loss for the period (14,291,861) (14,291,861)
Translation adjustment 429,764 429,764
-------------- --------------
Balance at July 31, 2005 10,383,957 (13,862,097)
============== ==============
See accompanying notes to consolidated financial statements.
F-6
SMARTIRE SYSTEMS INC.
Consolidated Statements of Cash Flows
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
2005 2004 2003
------------ ------------ ------------
Cash provided used for:
Operating activities:
Loss for the year $(14,291,861) $(10,987,026) $ (9,914,629)
Items not affecting cash:
Depreciation and amortization 1,497,250 1,371,717 1,236,870
Stock-compensation expense 4,279,653 -- 17,005
Non-cash interest, penalties and finance charges 3,524,805 3,842,107 3,694,914
Inventory write-down 500,000 -- --
Issuance of shares and warrants for services received -- 98,175 --
Issuance of shares and repricing of warrants to
settle a potential claim -- -- 315,044
Gain on settlement of convertible debt (note 9(c)) (1,822,033) -- --
Change in non-cash working capital:
Receivables (44,507) 170,127 (182,366)
Deferred revenue -- -- 9,423
Deferred financing expense -- -- (5,000)
Inventory (67,943) (2,391,749) 594,333
Prepaid expenses 82,153 (50,265) 240,861
Accounts payable and accrued liabilities (477,512) 374,794 (434,556)
------------ ------------ ------------
Net cash used in operating activities (6,819,995) (7,572,120) (4,428,101)
Investing activities:
Purchase of capital assets (73,511) (446,780) (62,978)
------------ ------------ ------------
Net cash used in investing activities (73,511) (446,780) (62,978)
Financing activities:
Cash received on exercise of stock options 181,800 15,880 --
Cash received on issuance of common shares -- -- 2,100,000
Cash received on exercise of warrants (note 11) 618,217 2,179,385 360,000
Proceeds from equity line of credit (note 11) 2,725,000 750,000 --
Proceeds from convertible debentures (note 9) 34,195,000 2,725,000 5,618,000
Proceeds from preferred shares (note 10) 4,000,000 -- --
Proceeds from promissory notes (note 8) 875,000 1,500,000 250,000
Repayment of convertible debentures (note 9) (3,360,930) -- --
Financing costs (19,989,564) (626,696) (886,799)
Repayment of promissory notes (note 8) (2,375,000) (305,715) (1,600,000)
------------ ------------ ------------
Net cash provided by financing activities 16,869,523 6,237,854 5,841,201
Effect of exchange rate differences on cash
and cash equivalents 7,076 14,022 (32,396)
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents 9,983,093 (1,767,024) 1,317,726
Cash and cash equivalents, beginning of year 76,670 1,843,694 525,968
------------ ------------ ------------
Cash and cash equivalents, end of year $ 10,059,763 $ 76,670 $ 1,843,694
============ ============ ============
Supplementary information:
Interest and finance charges paid $ 235,593 $ 189,713 $ 27,591
Non-cash investing and financing activities:
Conversion of convertible debentures to common shares 1,475,517 2,556,684 3,024,395
Fair value of agents warrants issued in conjunction
with private placements -- 15,699 502,367
Settlement of debt through issuance of common shares -- -- 77,850
Issuance of shares as consideration for equity line
of credit 2,725,000 375,000 300,000
Financing costs included in accounts payable -- 52,859 30,000
Shares issued for services 261,578 -- --
============ ============ ============
See accompanying notes to consolidated financial statements.
F-7
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
1. Operations:
The Company and its subsidiaries develop and market products incorporating
wireless data transmission and processing technologies, primarily for the
automotive and transportation industries. The Company's primary product is a
wireless tire monitoring system which it currently markets for use on passenger
vehicles, motorcycles, recreational vehicles, trucks, buses and other pneumatic
tire applications. All sales of its product are made in this industry segment.
2. Going concern:
The Company has incurred recurring operating losses and has a deficit of
$75,132,150 and working capital of $7,510,569 as at July 31, 2005. During the
year ended July 31, 2005, the Company used cash of $6,893,506 in operating and
investing activities.
During fiscal 2005, the Company realized gross cash proceeds of $42,595,017
(2004 - $7,170,265) from financing activities, issued 62.5 million warrants and
arranged a $160.0 million (2004 - $15.0 million) equity line of credit (note
11(d)) to fund its operations.
The Company may require additional financing to fund its operations as there can
be no assurance that the Company can draw down amounts under the equity line of
credit as drawdowns are subject to an effective Registration Statement filed
with the SEC. Such a registration statement is not yet effective (note 19(b)).
These consolidated financial statements have been prepared on the going concern
basis which assumes that adequate sources of financing will be obtained as
required and that the Company's assets will be realized and liabilities settled
in the ordinary course of business. Accordingly, these consolidated financial
statements do not include any adjustments related to the recoverability of
assets and classification of assets and liabilities that might be necessary
should the Company be unable to continue as a going concern.
3. Significant accounting policies:
(a) Basis of presentation:
These consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries, SmarTire USA Inc., SmarTire Europe Limited, and
SmarTire Technologies Inc. All intercompany balances and transactions have been
eliminated.
(b) Research and development costs:
Research and development costs are expensed as incurred. Equipment used in
research and development is capitalized only if it has an alternative future
use.
(c) Cash and cash equivalents:
Cash and cash equivalents includes investments in short-term investments with a
term to maturity when acquired of 90 days or less.
F-8
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
Cash and cash equivalents included in the statements of cash flows is comprised
of the following amounts:
2005 2004 2003
----------- ----------- -----------
Cash on hand and balances with banks $10,059,763 $ 76,670 $ 264,628
Cash equivalents -- -- 1,554,066
----------- ----------- -----------
$10,059,763 $ 76,670 $ 1,818,694
=========== =========== ===========
(d) Inventory:
Inventory of raw materials are recorded at the lower of cost, determined on a
first-in, first-out basis, and net realizable value. Inventory of finished goods
and work-in progress are recorded at the lower of average cost and net
realizable value. Average cost is determined using the weighted-average method
and includes invoice cost, duties and freight where applicable plus direct
labour applied to the product and an applicable share of manufacturing overhead.
A provision for obsolescence for slow moving inventory items is estimated by
management based on historical and expected future sales and is included in cost
of goods sold.
(e) Capital assets:
Capital assets are recorded at cost. Depreciation of computer hardware and
software and office and shop equipment is provided for on the declining balance
basis at 30% per annum. Leasehold improvements are depreciated over the lesser
of their useful lives or the term of the lease.
(f) Deferred financing costs:
Deferred financing costs include cash payments made by the Company in
conjunction with various financing instruments and placements. The fees
associated with the convertible debentures are amortized over the respective
terms of the convertible debentures. Fees related to the Standby Equity
Distribution Agreement (Standby Equity Distribution Agreement) will be amortized
into additional paid-in capital as the Company draws on the Standby Equity
Distribution Agreement.
(g) Other assets:
Other assets include the license to manufacture and sell tire monitoring systems
to the original equipment vehicle manufacturers (note 6). Other assets are
recorded at cost and are being amortized over five years on a straight-line
basis.
F-9
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
(h) Impairment of long-lived assets:
The Company monitors the recoverability of long-lived assets, based on estimates
using factors such as expected future asset utilization, business climate and
future undiscounted cash flows expected to result from the use of the related
assets or to be realized on sale. The Company recognizes an impairment loss if
the projected undiscounted future cash flows are less than the carrying amount.
The amount of the impairment charge, if any, is measured equal to the excess of
the carrying value over the expected future cash flows discounted using the
Company's average cost of funds.
(i) Revenue recognition:
The Company recognizes revenue when there is persuasive evidence of an
arrangement, goods are shipped and title passes, collection is probable, and the
fee is fixed or determinable. Customer acceptance is used as the criterion for
revenue recognition when the product sold does not have an established sales
history to allow management to reasonably estimate returns and future
provisions. Provisions are established for estimated product returns and
warranty costs at the time the revenue is recognized. The Company records
deferred revenue when cash is received in advance of the revenue recognition
criteria being met. Revenue from engineering services is recognized on services
as they are rendered and pre-defined milestones are achieved. Engineering
services revenue for the year were nil (2004-$94,800 and 2003 - $173,400).
(j) Loss per share:
Basic loss per share computations are based on the weighted average number of
shares outstanding during the year. If in a period the Company has outstanding
dilutive stock options and warrants, diluted loss per share is calculated using
the treasury stock method.
(k) Income taxes:
The Company accounts for income taxes in accordance with the asset and liability
method. Under this method, deferred income taxes are recognized for the future
income tax consequences attributable to differences between the financial
statement carrying amounts and their respective income tax bases and for loss
and tax credit carryforwards. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which temporary differences are expected to be recovered or settled. The effect
on deferred income tax assets and liabilities of a change in tax rates is
recognized in income in the period of enactment. Deferred income tax assets are
evaluated and if their realization is not considered to be "more likely than
not", a valuation allowance is provided.
(l) Warranty costs:
The Company accrues warranty costs upon the recognition of related revenue,
based on its best estimates, with reference to past experience. See note 17(b).
F-10
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
(m) Foreign currency translation:
The Company's functional or primary operating currency is the Canadian dollar.
The Company's financial statements are prepared in Canadian dollars before
translation to the US dollar reporting currency. The Company translates
transactions in currencies other than the Canadian dollar at the exchange rate
in effect on the transaction date. Monetary assets and liabilities denominated
in a currency other than the Canadian dollar are translated at the exchange
rates in effect at the balance sheet date. The resulting exchange gains and
losses are recognized in earnings.
Amounts reported in Canadian dollars have been translated into US dollars as
follows: assets and liabilities are translated into US dollars at the rate of
exchange in effect at the balance sheet date and revenue and expense items are
translated at the average rates for the period. Unrealized gains and losses
resulting from the translation into the reporting currency are accumulated in
accumulated other comprehensive loss, a separate component of stockholders'
equity.
(n) Use of estimates:
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management at the
date of the financial statements to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts to revenues and expenses during the reporting period. Significant areas
requiring the use of estimates include estimating the net realizable value of
inventory, the future cash flows for assessing the net recoverable amount of
long-lived assets, stock-based compensation, product returns and accrued
liabilities. Actual results may differ from those estimates.
(o) Stock-based compensation:
The Company has elected under FAS 123, Accounting for Stock-based Compensation,
to account for employee stock options using the intrinsic value method. This
method is described in Accounting Principles Board ("APB") Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations. As the
Company grants stock options with an exercise price not less than the market
value of the underlying common shares on the date of grant, no compensation
expense is required to be recognized under APB 25 for fixed plan awards.
If the exercise price of an employee stock option award is not fixed in the
functional currency of the Company or in the currency the employee is paid, the
award is accounted for as a variable award until the award is exercised,
forfeited, or expires unexercised. The Company measures compensation as the
amount by which the quoted market value of the common shares of the Company's
stock covered by the grant exceeds the option price, with changes in the market
price included in the measurement of loss.
F-11
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
FAS 123 uses the fair value method of calculating the cost of stock option
grants. Had compensation cost for employee stock options been determined by this
method, net loss and net loss per share would have been as follows:
2005 2004 2003
------------ ------------ ------------
Net loss:
As reported $(14,291,861) $(10,987,026) $ (9,914,629)
Stock-based compensation expense
recognized using intrinsic value
method (variable award) 4,018,075 -- 17,005
Stock-based compensation expense
determined under fair value based
method for all awards (1,101,411) (1,291,736) (738,339)
------------ ------------ ------------
Pro forma $(11,375,197) $(12,278,762) $(10,635,963)
============ ============ ============
Basic and diluted loss per share:
As reported (0.06) (0.13) (0.37)
Pro forma (0.05) (0.15) (0.40)
============ ============ ============
The Company recognizes compensation expense on a straight-line basis over the
vesting period beginning on the date the stock option is granted.
The fair value of each option and warrant granted is estimated on the date of
grant using the Black-Scholes option valuation model with the following range of
weighted average assumptions.
2005 2004 2003
---------- ---------- ----------
Expected dividend yield 0% 0% 0%
Expected stock price volatility 137-147% 139-152% 128-155%
Risk-free interest rate 3.54-4.11% 3.28-4.08% 3.6-4.3%
Expected life of options and warrants 5 years 3-5 years 2-5 years
========== ========== ==========
Weighted-average fair values of options granted during the year are as follows:
2005 2004 2003
------- ------- -------
Options whose exercise price at date of grant:
Equals the market price of stock $ 0.03 $ 0.07 $ 0.72
Exceeds the market price of stock 0.02 0.16 0.94
======= ======= =======
F-12
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
The Company recognizes compensation expense for stock options, common stock and
other instruments issued to non-employees for services received based upon the
fair value of the equity instruments issued as the services are performed and
the instrument is earned.
(p) Fair value of financial assets and liabilities:
Carrying amounts of certain of the Company's financial instruments, including
cash and cash equivalents, accounts receivable, accounts payable and accrued
liabilities, approximate their fair value due to their short maturities. It was
not practicable to estimate the fair value of the convertible debentures and the
redeemable preferred shares, as they are not publicly traded or quoted and an
active and liquid market does not exist for investments with similar terms,
risks and other features. These instruments are convertible into the Company's
common shares that currently trade in a limited volume relative to the number of
shares that are issued and outstanding. The underlying value of the Company is
dependent on future sales, income and product development that are, at least in
part, outside of the Company's control. The existence of doubt about the
Company's ability to continue as a going concern results in uncertainty about
the future, and certain of the instruments are held by related parties.
Information as to the terms, including the determination of carrying values,
interest rates and maturity dates are set out in notes 9 and 10.
(q) Comprehensive income:
Under SFAS 130, Reporting Comprehensive Income, the Company is required to
report comprehensive income, which includes net loss as well as changes in
equity from non-owner sources. The other changes in equity included in
comprehensive income for the periods presented comprise the foreign currency
cumulative translation adjustments. Accumulated other comprehensive loss is
presented in the consolidated statements of stockholders' equity and
comprehensive loss.
(r) Recent accounting pronouncements:
In May 2005, the FASB issued Statement of Financial Accounting Standard No. 154,
"Accounting Changes and Error Corrections - A Replacement of APB Opinion No. 20
and FASB Statement No. 3" ("SFAS No. 154"), that changes the reporting of
certain accounting changes specified in APB Opinion No. 20, "Accounting Changes"
("ABP 20"). APB 20 required that most changes in accounting principle be
recognized by including in net income of the period of the change the cumulative
effect of changing to a new accounting principle. SFAS No. 154 requires
retrospective application for changes in accounting principle, unless it is
impracticable to determine either the cumulative effect or the period-specific
effects of the change. When it is impracticable to determine the period-specific
effects of an accounting change on one or more individual prior periods
presented, SFAS No. 154 requires that the new accounting policy be applied to
the balances of assets and liabilities as of the beginning of the earliest
period for which retrospective application is practicable and that a
corresponding adjustment be made to the opening balance of retained earnings (or
other appropriate balance sheet caption) for that period.
F-13
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
(r) Recent accounting pronouncements (continued):
When it is impracticable for an entity to determine the cumulative effect of
applying a change in accounting principle to all prior periods, SFAS No. 154
requires the new accounting principle to be applied as if it were made
prospectively from the earliest date practicable. SFAS No. 154 is effective for
accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. The adoption of SFAS No. 154 may have a material impact
on the presentation of the Company's financial position or results of operations
in the event that a material change in accounting principle or correction of
error occurs.
In December 2004, the FASB issued Statement of Financial Accounting Standard No.
123 (Revised 2004), "Share-Based Payment" ("SFAS No. 123R") that requires that
the compensation cost relating to share-based payment transactions be recognized
in financial statements. That cost will be measured based on the fair value of
the equity or liability instruments issued. The scope of SFAS No. 123R includes
a wide range of share-based compensation arrangements including share options,
restricted share plans, performance-based awards, share appreciation rights and
employee share purchase plans. SFAS No. 123R replaces SFAS No. 123 and
supersedes APB No. 25. SFAS No. 123, as originally issued in 1995, established
as preferable a fair-value-based method of accounting for share-based payment
transactions with employees. However, that statement permitted entities the
option of continuing to apply the guidance in APB No. 25 as long as the
footnotes to the financial statements disclosed what net income would have been
had the preferable fair-value-based method been used. The Company has not yet
determined the affect that the adoption of this new statement will have on the
Company's historical financial position or results of operations, however it is
expected to include the increase in compensation expense for equity and
liability instruments issued to directors and employees of the company in the
future.
In December 2004, the FASB issued Statement of Financial Accounting Standard No.
153, " Exchanges of Non-monetary Assets - an Amendment of APB Opinion No. 29"
("SFAS No. 153"), that amends APB Opinion No. 29, "Accounting for Non-monetary
Transactions" ("APB No. 29"). The amendments made by SFAS No. 153 are based on
the principle that exchanges of non-monetary assets should be measured based on
the fair value of the assets exchanged. Further, the amendments eliminate the
narrow exception for non-monetary exchanges of similar productive assets and
replace it with a broader exception for exchanges of non-monetary assets that do
not have "commercial substance." Previously, APB No. 29 required that the
accounting for an exchange of a productive asset for a similar productive asset
or an equivalent interest in the same or similar productive asset should be
based on the recorded amount of the asset relinquished. The provisions in SFAS
No. 153 are effective for non-monetary asset exchanges occurring in fiscal
periods beginning after June 15, 2005. The Company does not expect the adoption
of SFAS No. 153 to have a material impact on the Company's financial position or
results of operations.
F-14
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
3. Significant accounting policies (continued):
In December 2004, the FASB issued Statement of Financial Accounting Standard No.
151, "Inventory Costs" ("SFAS No. 151"), that requires abnormal amounts of
inventory costs related to idle facility, freight handling and wasted material
expenses to be recognized as current period charges. Additionally, SFAS No. 151
requires that the allocation of fixed production overhead to the costs of
conversion be based on the normal capacity of the production facilities. The
standard is effective for fiscal years beginning after June 15, 2005. The
Company does not expect the adoption of SFAS No. 151 to have a material impact
on the Company' s financial position or results of operations.
4. Inventory:
2005 2004
---------- ----------
Raw materials $1,362,608 $1,515,438
Work in progress 45,332 554,421
Finished goods 1,390,807 1,175,948
---------- ----------
$2,798,747 $3,245,807
========== ==========
5. Capital assets:
Accumulated Net book
2005 Cost amortization Value
------------------------------ ------------ ------------ ------------
Computer hardware and software $ 803,638 $ 623,123 $ 180,515
Office and shop equipment 1,477,329 1,027,230 450,099
Leasehold improvements 224,901 138,752 86,149
------------ ------------ ------------
$ 2,505,868 $ 1,789,105 $ 716,763
============ ============ ============
Accumulated Net book
2004 Cost amortization Value
------------------------------ ------------ ------------ ------------
Computer hardware and software $ 697,178 $ 509,980 $ 187,198
Office and shop equipment 1,336,068 786,049 550,019
Leasehold improvements 207,327 119,928 87,399
------------ ------------ ------------
$ 2,240,573 $ 1,415,957 $ 824,616
============ ============ ============
F-15
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
6. Other assets:
On December 13, 2000, the Company entered into an Assignment and Amendment
Agreement with TRW Inc. ("TRW") that transferred to the Company the license to
manufacture and sell tire pressure monitoring systems to the original equipment
vehicle manufacturers of most medium and heavy duty trucks. Consideration
consisted of 490,072 shares of common stock valued at $1,337,500, based on the
market value of the Company's stock at the date of purchase, plus cash of
$400,000.
On August 31, 2001, the Company and TRW entered into an agreement to restructure
their strategic alliance. Under the terms of restructuring, the Company and TRW
agreed to terminate a number of agreements. The Company has the right to
manufacture and sell tire pressure monitoring systems to the original equipment
vehicle manufacturers market ("OEM"). Consideration consisted of a promissory
note of $2.8 million, carrying an interest rate of 6% per annum plus cash of
$500,000. The balance of principal in the amount of $1,350,000 owed at July 31,
2002 was repaid during fiscal 2003 and interest of $97,542 on this balance was
forgiven by TRW.
The rights are being amortized over five years on a straight-line basis.
Accumulated Net book
2005 Cost amortization Value
--------------------------------------- ------------ ------------ ------------
OEM - most medium and heavy duty trucks $ 1,737,500 $ 1,574,381 $ 163,119
OEM - all other vehicles 3,300,000 2,397,106 902,894
------------ ------------ ------------
$ 5,037,500 $ 3,971,487 $ 1,066,013
============ ============ ============
Accumulated Net book
2004 Cost amortization Value
--------------------------------------- ------------ ------------ ------------
OEM - most medium and heavy duty trucks $ 1,737,500 $ 1,190,402 $ 547,098
OEM - all other vehicles 3,300,000 1,699,349 1,600,651
------------ ------------ ------------
$ 5,037,500 $ 2,889,751 $ 2,147,749
============ ============ ============
Management believes that the net book value of its other assets of $1,066,013 as
at July 31, 2005 is recoverable based on expectations of future cash flows from
the Company's future sales of tire pressure monitoring systems. Management's
belief is based on an undiscounted cash flow analysis of management's current
best estimate of projected annual sales to the passenger vehicle and light truck
OEM market plus management's projected sales to the medium and heavy truck OEM
market.
F-16
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
7. Accounts payable and accrued liabilities:
2005 2004
---------- ----------
Accounts payable $ 311,296 $ 888,652
Accrued liabilities 232,629 351,718
Interest payable on convertible debentures 371,409 52,881
---------- ----------
$ 915,334 $1,293,251
========== ==========
8. Promissory notes:
(a) During the year ended July 31, 2004, the Company received total gross
proceeds of $1,500,000 upon the issuance of two unsecured short-term promissory
notes of $750,000 each, to an accredited investor. Each note bore interest at a
rate of 8% per annum and was repayable on August 13, 2004 and September 16, 2004
respectively. As a commitment fee, the holder of the notes received a total of
$150,000.
(b) During the year ended July 31, 2005, the Company received gross proceeds of
$875,000 as follows:
i. On November 16, 2004, the Company received gross proceeds of $250,000 upon
the issuance of an unsecured short-term promissory note to an accredited
investor. There were no fees on the note. The note bore interest at a rate of
12% per annum and was repayable on December 15, 2004.
ii. On November 30, 2004, the Company received gross proceeds of $275,000 upon
the issuance of an unsecured short-term promissory note to an accredited
investor. The note bore interest at a rate of 12% per annum and was repaid on
December 30, 2004. As a commitment fee, the holder of the note received $27,500.
iii. On February 9, 2005, the Company received gross proceeds of $350,000 upon
the issuance of an unsecured short-term promissory note to an accredited
investor. The note bore interest at a rate of 10% per annum and was repaid on
March 16, 2005. As a commitment fee, the holder of the note received $35,000.
(c) During the year ended July 31, 2005, the Company repaid all of its
outstanding promissory notes. In total, the Company repaid $2,375,000 of
principal and $61,462 in interest on its promissory notes.
F-17
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures:
Redemption Balance to
value Debt be accreted
of debt component to debt
------------ ------------ ------------
Balance as at July 31, 2003 $ 1,966,667 $ 3 $ 1,966,664
Issuance of 11% discounted convertible
debentures (b) 3,493,590 1,036,567 2,457,023
Discount in convertible debentures (b) -- (768,590) 768,590
Cash repayment of discounted
convertible debentures (b) (305,715) (305,715) --
Conversion of 8% and 7% convertible
debentures into common shares (a) (1,691,667) (1,691,667) --
Conversion of discounted convertible
debentures into common shares (b) (840,688) (840,688) --
Accretion of deemed debt discount to
interest expense (b) -- 3,236,921 (3,236,921)
------------ ------------ ------------
Balance as at July 31, 2004 2,622,187 666,831 1,955,356
New issuances:
5% convertible debentures (c) 2,695,000 1,964,153 730,847
5% convertible debentures (d) 1,500,000 1 1,499,999
10% convertible debenture (e) 30,000,000 21,225,601 8,774,399
Redemptions/repayments:
5% convertible debenture (c) (2,500,000) (1,822,033) (677,967)
Discounted convertible debentures (b) (860,929) (860,929) --
Withholding taxes paid (12,667) (12,667) --
Conversions:
8% convertible debenture (a) (160,000) (160,000) --
Discounted convertible debentures (b) (1,315,517) (1,315,517) --
Interest accretion:
8% convertible debentures (a) -- 274,999 (274,999)
Discounted convertible debentures (b) -- 1,680,357 (1,680,357)
5% convertible debentures (c) -- 52,881 (52,881)
10% convertible debentures (e) -- 163,315 (163,315)
Penalties and other incurred:
Discounted convertible debentures (b) 128,259 128,259 --
------------ ------------ ------------
Balance as at July 31, 2005 32,096,333 21,985,251 10,111,082
Less: Current portion of convertible debentures 8,109,666 4,866,584 3,243,082
------------ ------------ ------------
$ 23,986,667 $ 17,118,667 $ 6,868,000
============ ============ ============
F-18
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
As at July 31, 2005 the following convertible debentures with respective
redemption values were outstanding:
i) $115,000 of the 8% convertible debentures issued on July 17, 2003;
ii) $286,333 of the convertible debentures issued at a 22% original discount
from the face principal amount on December 24, 2003;
iii) $195,000 of the 5% convertible debenture issued on December 15, 2004;
iv) $1,500,000 of the 5% convertible debenture issued on May 27, 2005;
v) $30,000,000 of the 10% convertible debentures issued on June 23, 2005.
At January 31, 2005 and April 30, 2005, the Company was in violation of all
existing convertible debenture agreements. As a result of this violation, the
Company accreted interest to adjust the carrying value of all existing
convertible debentures to their redemption value. As at July 31, 2005, the
Company was in compliance with all terms and conditions of all existing
convertible debentures. However, subsequent to year-end, the Company was in
violation of certain terms of its convertible debentures and preferred shares.
The Company has taken certain steps to remedy these violations (note 19(b)).
(a) $1,700,000 - 8% convertible debenture and $2,800,000 - 7% convertible
debenture issued on June 17, 2003.
On June 17, 2003, the Company closed a private placement of 7% convertible
debentures in three 8 tranches pursuant to Rule 506 of Regulation D under the
Securities Act of 1933, for gross proceeds of $2,800,000. On July 17, 2003, the
Company closed another private placement of 8% convertible debentures pursuant
to Rule 506 of Regulation D under the Securities Act of 1933, for gross proceeds
of $1,700,000. Net cash proceeds from the convertible debentures were
$4,016,978.
In connection with the offering of the convertible debentures, the Company
issued 23,846,153 common share purchase warrants which were to expire between
July 17, 2008 and November 10, 2008. These warrants were exercised during the
year ended July 31, 2005. Advisors to the transactions received a cash
commission of $360,000 and 180,000 share purchase warrants: 112,000 share
purchase warrants for a period of five years, and 68,000 share purchase warrants
for a period of three years. The fair value of these warrants at the date of
grant was estimated at $77,640 using the Black-Scholes option valuation model
using weighted average assumptions as disclosed in note 3(o). Additional
expenses related to this offering were $123,022 plus 100,000 share purchase
warrants exercisable at a price of $0.135 per share for a period of five years.
The financing cost will be amortized over the lesser of the life of the
convertible debentures or the date of redemption or conversion into common
shares.
F-19
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
Interest on the debentures is payable quarterly on March 1, June 1, September 1
and December 1, and at maturity, in cash or, at the Company's option, in shares
of the Company's common stock at an interest conversion price equal to 90% of
the lesser of the average closing bid price during the 20 trading days
immediately preceding the interest payment date, or the average closing bid
price during the 20 trading days immediately preceding the date on which the
shares are issued if such shares are issued and delivered after the interest
payment date. The Company's right to elect to pay accrued interest in shares of
its common stock is subject to certain conditions, including the requirement
that there shall be an effective registration statement qualifying the resale of
the common stock to be issued to the holders of the convertible debentures in
lieu of a cash interest payment. All overdue accrued and unpaid interest under
the convertible debentures will be subject to a late fee at the rate of 18% per
annum.
The Company may not prepay any portion of the principal amount on any
convertible debenture without the prior written consent of the holder of the
debenture.
The Company will be considered in default of the convertible debentures if
certain events occur. Once an event of default occurs, the holder of a
convertible debenture can elect the Company to immediately repay a mandatory
prepayment amount as outlined in the agreement.
If an event of default occurs, the holder of a convertible debenture can elect
to require the Company to immediately repay a mandatory prepayment amount equal
to the greater of:
i) 120% of the principal amount of the debenture, plus all accrued and unpaid
interest and any other amounts outstanding in respect of the debenture; or
ii) 120% of the principal amount of the debenture, plus all accrued and unpaid
interest and any other amounts outstanding
in respect of the debenture, divided by the conversion price of the debenture,
and multiplied by the greater of:
a. the last reported closing bid price for our common stock on the date on which
the payment is due, or
b. the last reported closing bid price for our common stock on the date on which
the payment actually paid.
F-20
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
For accounting purposes, the proceeds from the issuance of these convertible
debentures were primarily allocated to the fair value of warrants issued and the
beneficial conversion feature. The fair value of the warrants was calculated
using the Black Scholes option model using assumptions as disclosed in note
3(o). The remaining value of the proceeds of $3 was allocated to debt and is
being accreted to the redemption value of the convertible debentures over the
period from the date of issuance to the initial maturity dates of May 19, 2005
and July 16, 2006.
During the year ended July 31, 2004, $1,691,667 of principal and $41,270 of
interest were converted into common shares resulting in the issuance of
13,601,799 common shares. Interest accretion of $1,732,935 was charged in the
statement of operations as interest expense upon conversion of convertible
debentures.
During the year ended July 31, 2005, $160,000 of principal and interest and were
converted into common shares resulting in the issuance of 6,106,143 common
shares. Interest accretion of $274,999 was charged in the statement of
operations as interest expense upon conversion of the convertible debentures.
(b) $3,493,590 - 11% discounted convertible debentures issued on December 24,
2003 On December 24, 2003, the Company closed a private placement of discounted
unsecured convertible debentures in the aggregate principal amount of
$3,493,590. The Company also issued 7,939,978 warrants exercisable at $0.25
(subject to adjustment pursuant to the anti-dilution provisions contained in the
warrants) with an expiry period of 5 years. The Company issued the convertible
debentures at a 22% original issue discount from the face principal amount
(based on a notional interest rate of 11% per annum for each year of the
two-year term of the debentures), resulting in gross proceeds of $2,725,000. The
discount of $768,590 has been netted against the face value of debentures and is
being amortized over the maturity period. Advisors to the transaction received a
cash commission of $218,000 and 109,000 three year share purchase warrants
exercisable at a price of $0.25 each (subject to adjustment pursuant to the
anti-dilution provisions contained in the warrants). The fair value of these
warrants at the date of grant was estimated at $15,699. The fair value of these
warrants was estimated on the date of issuance using the Black-Scholes option
valuation model using the volatility 141%, risk free interest rate 3.28%,
expected life of warrants 3 years. In addition, expenses of $46,894 for
professional fees related to this transaction were incurred. The discounted
convertible debentures do not otherwise bear interest, and will mature on April
1, 2006. The outstanding principal amount of each debenture may be converted at
any time into shares of the Company's common stock, in whole or in part, at the
option of the holder of the debenture at a set price of $0.22 per share (subject
to adjustment pursuant to the anti-dilution provisions contained in the
debentures). The Company was to make the monthly redemption payments of $145,566
over two years in cash unless during the twenty trading day prior notice period
immediately prior to the applicable monthly redemption date the Company
irrevocably notifies the holder that it will issue underlying shares in lieu of
cash at a conversion price equal to the lesser of:
F-21
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
(i) the set price of $0.22 per share (subject to adjustment pursuant to the
anti-dilution provisions contained in the debentures), and
(ii) 85% of the average of the closing prices of the Company's common stock for
twenty days immediately preceding the applicable monthly redemption date,
provided that certain conditions are met, including the condition that the
underlying shares of common stock shall have been registered under the
Securities Act of 1933, as amended.
For accounting purposes, the proceeds from the issuance of these convertible
debentures were allocated to the fair value of the warrants issued and the
intrinsic value of the beneficial conversion feature which amounted to $861,351
and $1,595,672, respectively. The fair value of the warrants was calculated
using the Black-Scholes option valuation model using assumptions consistent with
those disclosed in note 3(o). The remaining proceeds of $1,036,567 was allocated
to debt and is being accreted to the redemption value of the convertible
debentures over the maturity period. Monthly redemption payments for February,
March, April and May 2004 were made in shares of the Company, except for one
cash payment of $14,583. Monthly redemption payments of $145,566 for each of
June and July were made in cash. During the year ended July 31, 2004, holders of
discounted convertible debentures also converted $273,000 of convertible
debentures into common shares. This resulted in additional interest accretion of
$240,085. During the year ended July 31, 2004, interest accretion of $1,206,762
was charged to the statement of operations as interest expense.
During August 2004, the Company defaulted on payments to holders of its
discounted convertible debentures. In response to the default, certain debenture
holders filed legal actions against the Company. On September 24, 2004, the
Company and holders of the discounted convertible debentures signed an agreement
which provided for: withdrawal of legal action; an immediate exercise of
18,226,274 warrants at $0.03 for gross proceeds to the Company of $546,788;
conversion of $734,388 of discounted debentures into 24,479,630 common shares; a
lock-up provision that establishes a daily limit on the number of shares that
can be traded by the debenture holders. In addition, the holders of $308,444 of
discounted debentures converted these debentures to common shares. Between April
27, 2005 and May 23, 2005, the company entered into redemption, release and
settlement agreements with holders of the Company's discounted convertible
debentures. Pursuant to such redemptions, the Company made cash payments of
$860,929 (including a 20% premium amounting to $76,333), and issued 9,738,759
shares of common stock which were issued at an effective conversion price of
$0.028 per share.
F-22
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
On April 21, 2005, one holder of this discounted debenture in the amount of
$91,726 provided the Company with notice of a summons with the Supreme Court of
the State of New York. The holder is alleging that the Company wrongfully
refused to honor its request to convert this debt into 9,268,875 common shares
of the Company. The holder is seeking $4,393,360 plus interest from April 25,
2005 and attorneys fees. It is not possible to determine whether the debenture
holder will be successful in their legal action. The Company has recorded a
liability of $128,259 which includes the outstanding principal, premium and
penalties.
During the year ended July 31, 2005, $2,631,033 of principal was converted into
common shares resulting in the issuance of 45,234,246 common shares. Interest
accretion of $1,680,357 was charged to the statement of operations as interest
expense upon conversion of the discounted convertible debentures.
(c) $195,000 - 5% convertible debentures and $2,500,000 - 5% convertible
debenture issued on December 15, 2004
On December 15, 2004 the Company closed two private placements of 5% convertible
debentures, $195,000 maturing on December 15, 2006 and $2,500,000 maturing on
December 15, 2007, for gross proceeds of $2,695,000 and net cash proceeds of
$2,394,644. Advisors to the transactions received cash commissions of $279,250.
Additional expenses related to these offerings were $21,106. The financing cost
was recorded as deferred financing costs and was amortized over the lesser of
the life of the convertible debenture or the date of redemption or conversion
into common shares.
Principal under the convertible debentures is convertible at the option of the
holder as per terms of the agreement.
The Company also has the right to redeem the convertible debentures, in whole or
in part, at 120% of the face value of each convertible debenture. The investor
is to receive 50,000 redemption warrants for every $100,000 redeemed.
For accounting purposes, the Company calculated the intrinsic value of the
beneficial conversion feature amounting to $730,847 and recorded it as
additional paid-in capital. The remaining value of $1,964,153 is recorded as a
liability and will be accreted to its aggregate face value of $2,695,000 over
the maturity period.
Interest on the remaining principal under the convertible debentures that
aggregate $195,000 is payable semi-annually beginning June 15, 2005 and every
subsequent six month period that the principal balance remains unpaid. During
the year, the Company accreted the original assigned debt component to its full
face value, resulting in interest expense of $52,881 being charged to the
statement of operations.
F-23
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
On December 15, 2004, SmarTire issued a $2.5 million convertible debenture for
gross proceeds of $2.5 million and net proceeds of $2.2 million. This debenture
was redeemable in whole or in part, at 120% of the face value. For every
$100,000 redeemed, the investor was to receive 50,000 redemption warrants. The
redemption warrants, if issued, were to be exercisable at 120% of the closing
bid price on our as reported by Bloomberg, L.P. for the trading day immediately
preceding the Closing Date.
On issuance of the debenture, under EITF 98-5, SmarTire calculated the intrinsic
value of the beneficial conversion feature as $677,996 and recorded it as
additional paid in capital with the remaining value classified as a liability On
March 22, 2005, the debenture was repaid for $2.5 million from the proceeds from
the issuance of 25,000 mandatory redeemable, convertible preferred stock for
which SmarTire received gross proceeds of $4 million. No redemption warrants
were issued as the preferred shares were issued to the same investor as the $2.5
million convertible debenture. Under EITF 00-27, Issue 12(b), the reacquisition
price allocated to the convertible feature was $2,499,999 (based on a share
price at the reacquisition date of $0.034 and the $0.01 conversion price). The
remaining amount of the reacquisition proceeds of $1 was allocated to the
liability. The difference between the $1,822,004 carrying value of the liability
and the allocated reacquisition proceeds of $1 was recognized as a gain in the
income statement.
The gain on the settlement of the liability portion of the convertible debenture
was recorded in the income statement under APB 26, paragraph 21.
(d) $1,500,000 - 5% convertible debenture issued on May 20, 2005
On May 20, 2005, the Company entered into a Securities Purchase Agreement to
issue a $1,500,000 5% debenture convertible at the option of the holder at
$0.028 per share that matures on September 1, 2006. Principal will be due and
payable in 12 equal installments of $125,000 commencing October 1, 2005 and
subsequent installments will be due and payable on the first day of each
calendar month thereafter until the outstanding principal balance is paid in
full. Interest on the outstanding principal balance is due and payable monthly,
in arrears, commencing on August 1, 2005 and will continue to be payable on the
first day of each calendar month thereafter that any amounts under the
convertible debenture remain payable. Between April 25 and 29, 2005, funds for
$1,100,000 of the convertible debenture were placed in escrow with the Company's
legal council. From escrow, $457,999 was paid on April 27, 2005 to two debenture
holders to redeem their convertible debentures.
For accounting purposes, the Company calculated the intrinsic value of the
beneficial conversion feature amounting to $1,499,999 and recorded it as
additional paid-in capital. The remaining $1 is recorded as a liability and
accreted to its face value of $1,500,000 over the maturity period.
(e) $30,000,000 - 10% convertible debentures issued on June 23, 2005
On June 30, 2005, the Company closed a private placement of unsecured
convertible debentures in the aggregate principal amount of $30.0 million. The
Company paid a cash fee of $3.0 million for the convertible debentures and a
cash structuring fee of $50,000 in connection with the Securities Purchase
Agreement. The Company also issued 62.5 million warrants exercisable at $0.16
per share (subject to adjustment pursuant to adjustment as described below) with
an expiry period of five years. The fair value of these warrants at the date of
grant was estimated at $4,676,087. The fair value of these warrants was
estimated using the Black-Scholes option valuation model using assumptions
consistent with those disclosed in not 3 (o). The convertible debentures bear
interest at 10% per annum, calculated on the basis of a 360-day year, and will
mature on June 23, 2008. The outstanding principal amount of each debenture may
be converted into shares of the Company's common stock, in whole or in part, at
the option of the holder of the debenture at a set price of $0.1125 per share
(subject to a adjustment as described below).
F-24
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
The debenture repayment terms are as follows:
(i) 10% convertible debenture due June 23, 2008, with a principal balance of
$20.0 million, with principal and interest payments commencing on November 1,
2005 and subsequent installments due and payable on the first day of each
calendar month thereafter until the outstanding principal balance is paid in
full or the full $20.0 million convertible debenture is converted in full. In
lieu of making an interest payment in cash, the Company may elect to make
interest payments in shares of its common stock, the value of which would be the
closing bid price of its common stock on the date the interest payment is due.
Upon any full conversion by the investor of all of the principal and interest
due under the convertible debenture, all of the payment obligations shall
terminate.
(ii) 10% convertible debenture due June 23, 2008, with a principal balance of
$8.0 million, with interest payments commencing on July 23, 2005 and subsequent
installments due and payable on the first day of each calendar month thereafter
until the outstanding principal balance is paid in full, or the full $8.0
million convertible debenture is converted in full. Principal shall be due and
payable in five equal installments commencing on June 23, 2006 and subsequent
installments shall be due and payable every six months thereafter on the 23rd
day of each calendar month until the outstanding principal balance is paid in
full or the full $8.0 million convertible debenture is converted in full. In
lieu of making an interest payment in cash, the Company may elect to make
interest payments in shares of its common stock, the value of which would be the
closing bid price of its common stock on the date the interest payment is due.
Upon any full conversion by the investor of all the principal and interest due
under the convertible debenture, all of the payment obligations shall terminate.
(iii) 10% convertible debenture due June 23, 2008, with a principal balance of
$2.0 million, with interest payments commencing on July 23, 2005 and subsequent
installments due and payable on the first day of each calendar month thereafter
until the outstanding principal balance is paid in full or the full $2.0 million
convertible debenture is converted in full. Principal shall be due and payable
in five equal installments commencing on June 23, 2006 and subsequent
installments shall be due and payable every six months thereafter on the 23rd
day of each calendar month until the outstanding principal balance is paid in
full or the full $2.0 million convertible debenture is converted in full. In
lieu of making an interest payment in cash, the Company may elect to make
interest payments in shares of its common stock, the value of which would be the
closing bid price of its common stock on the date the interest payment is due.
Upon any full conversion by the investor of all the principal and interest due
under the convertible debenture, all of the payment obligations shall terminate.
F-25
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
In the event of any issuances of shares of common stock or rights, options,
warrants or securities convertible or exercisable into common stock at a price
per share of common stock less than the conversion price of the convertible
debentures or exercise price of the warrants, the conversion price of such
convertible debentures and warrants will be reduced to the lower purchase price.
In addition, the conversion price of the convertible debentures and warrants
will be subject to adjustment in connection with any subdivision, stock split,
combination of shares or recapitalization. No adjustment will be made as a
result of exercises of options, issued prior to June 23, 2005, to purchase
shares of common stock issued for compensatory purposes pursuant to any of our
stock option or stock purchase plans.
The 10% convertible debentures provide for various events of default that would
entitle the holders to require the Company to immediately repay 100% of the
outstanding principal amounts, plus accrued and unpaid interest, in cash, or
shares of the Company's common stock with a conversion price reduced to 20% of
the volume weighted average price of the Company's shares of common stock on
June 30, 2005. If an event of default occurs, the Company may be unable to
immediately repay the amount owed, and any repayment may leave the Company with
little or no working capital in its business.
The Company will be considered in default of the 10% convertible debentures if
any of the following events, among others, occurs:
(i) Failure to pay any amount due under a convertible debenture and such failure
to pay remains uncured for 10 days;
(ii) Failure to observe or perform any other covenant, agreement or warranty
contained in, or otherwise commit any breach or default of any provision of the
10% convertible debentures;
(iii) The Company or any of its subsidiaries become bankrupt or insolvent;
(iv) Breach any of the Company's obligations under any other debt or credit
agreements involving an amount exceeding $250,000;
(v) The Company's common stock ceases to be eligible for quotation on the
principal market for its common stock (currently the OTC Bulletin Board), and
fails to be quoted or listed for trading on another principal market (defined to
mean the OTC Bulletin Board, the New York Stock Exchange, American Stock
Exchange, the NASDAQ Small-Cap Market or the NASDAQ National Market) within 20
trading days;
(vi) The Company or any subsidiary experiences a change of control;
(vii) The Company fails to file a registration statement within 60 days from
June 23, 2005 with the Securities and Exchange Commission and such registration
statement is not declared effective by the SEC within 120 days after filing;
F-26
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
9. Convertible debentures (continued):
(viii) If the effectiveness of the registration statement lapses for any reason
or the holder of the convertible debentures is not permitted to resell the
underlying shares of common stock, in either case, for more than five trading
days or an aggregate of eight trading days and;
(ix) Failure to deliver common stock certificates to a holder prior to the fifth
trading day after a conversion date or we fail to provide notice to a holder of
our intention not to comply with requests for conversions of the convertible
debentures; or failure to deliver the payment in cash pursuant to a `buy-in'
within three days after notice is claimed delivered. A "buy-in" occurs if we
fail to issue shares of Common Stock within five trading days after a notice of
conversion is received and the holder requesting conversion purchases (in an
open market transaction or otherwise) Common Stock to deliver in satisfaction of
a sale by such holder of the underlying shares of Common Stock that the holder
anticipated receiving upon such conversion.
The convertible debentures contain a contractual restriction on beneficial share
ownership. They provide that the debenture holders may not convert the
convertible debentures, or receive shares of the Company's common stock as
payment of interest, to the extent that the conversion or receipt of the
interest payment would result in the debenture holders, together with their
respective affiliates, beneficially owning in excess 4.99% of the Company's then
issued and outstanding shares of common stock.
In connection with the execution of the Securities Purchase Agreement, on June
23, 2005, the Company entered into a Registration Rights Agreement with Cornell
Capital Partners and Highgate House Funds pursuant to which the Company agreed
to prepare and file, no later than 60 days after the date of the Registration
Rights Agreement, with the Securities and Exchange Commission a registration
statement on Form S-1 or SB-2 (or, if they are then eligible on Form S-3) under
the Securities Act of 1933, as amended, for the resale by the investors of
266,666,666 shares of the Company's common stock to be issued upon conversion of
the convertible debentures and 62.5 million shares of the Company's common stock
to be issued upon exercise of the investors' warrants.
For accounting purposes, the proceeds from the issuance of these convertible
debentures were allocated to the fair value of the warrants issued and the
intrinsic value of the beneficial conversion feature which amounts to $4,676,089
and $4,098,310 respectively. The fair value of the warrants was calculated using
the Black-Scholes option valuation model using assumptions consistent with those
disclosed in note 3(o). The remaining proceeds of $21,225,601 were allocated to
debt and is being accreted to the redemption value of the convertible debenture
over the maturity period.
Of the total financing fee of $3,050,000, $2,165,500 was charged to deferred
financing costs and $884,500 was charged to additional paid in capital. These
financing fees will be amortized over the lesser of the life of the convertible
debenture and the date of redemption or conversion into common shares.
During the year ended July 31, 2005, the Company recorded $163,315 of interest
expense relating to interest accretion and charged it to the statement of
operations.
F-27
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
10. Preferred shares subject to mandatory redemptions:
On March 22, 2005, the Company closed a private placement of 25,000 5%
convertible Class A preferred shares for gross proceeds of $4,000,000 and net
cash proceeds of $3,865,000. Advisors to the transactions received cash
commission of $115,000. Additional expenses related to this offering were
$20,000. Proceeds of $2,850,000 from this financing were used to settle
$2,500,000 convertible debenture entered into on December 15, 2004 and a
$350,000 promissory note entered into on February 9, 2004.
Principal under convertible preferred shares may be converted into common shares
by the holder in whole or in part from time to time at a conversion price of
$0.01. Upon providing 3 business days advance written notice to holders, during
which time the holder may elect to convert up to all of their convertible
preferred stock, the Company may redeem up to 80% of the convertible preferred
stock, in whole or in part, at 120% of the face value. The $4,000,000
convertible preferred stock is due and payable at maturity on December 22, 2006.
The holders of the preferred shares are entitled to receive dividends or
distributions on a pro rata basis according to their holdings of the preferred
shares when and if declared by our board of directors, in the amount of 5.0% per
year. Dividends will be paid in cash and are cumulative. No declared and unpaid
dividends will bear or accrue interest. Upon the Company's liquidation,
dissolution, or winding-up, whether voluntary or involuntary, before any
distribution or payment is made to any of the holders of common stock or any
series of preferred stock, holders of the preferred shares are entitled to
receive out of the Company's assets, an amount equal to $160 per share of the
preferred share, plus all declared and unpaid dividends thereon, for each share
of the preferred share held by the holder. Under the Registration Rights
Agreements for the preferred shares, the Company will be considered in default
of the preferred shares, if the Company fails to file a registration statement
with the SEC within 30 days from the date of the agreement of March 22, 2005 and
such registration statement is not declared effective by the SEC within 120 days
after filing.
While the legal form of this financial instrument is that of preferred shares,
due to the mandatory redemption on December 22, 2006, the substance of the
instrument is that of a financial liability. For accounting purposes, these
shares are considered to have both a debt and equity component. The equity
component is related to the intrinsic value of the beneficial conversion feature
at the issuance of the instrument and it equaled $3,999,999. The equity
component value is recorded as additional paid-in capital. The remaining value
of $1 is recorded as a liability. The carrying value of the liability portion is
being accreted to its retraction value of $4,000,000, over a period from the
date of issuance to its maturity date of December 22, 2006. Interest accretion
is charged to the statement of operations as interest expense. Total financing
costs of $145,000 was charged to additional paid-in capital as substantially all
the value of preferred shares is treated as equity.
F-28
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital:
(a) Authorized:
On December 10, 2004, the Company's authorized common share capital was
increased to an unlimited number of shares (2004 - 300,000,000) pursuant to a
special resolution of the shareholders adopted at the annual and special annual
meeting of the Company held on December 10, 2004. The Company also has 100,000
preferred shares authorized for issuance, of which 25,000 were issued during the
year (note 10).
On March 18, 2005, the Company filed articles of amendment to its articles of
incorporation that set forth all the rights and preferences of its series A 5%
convertible preferred stock.
(b) Common share and unit offerings:
During the year ended July 31, 2005, the Company received financing from the
drawdown on the equity line as the Company issued 78,887,710 shares at effective
prices ranging from $0.028 to $0.05 per share pursuant to the $15 million
Standby Equity Distribution Agreement for gross proceeds of $2,725,000 and net
proceeds of $2,584,250. In addition, $78,484 was reclassified from additional
paid-in capital to share financing expense to record the proportionate share of
costs on the equity line against the gross amount of draw downs. The issuance of
these shares reduced the set price that the holders of the discounted and 8%
convertible debentures can convert the convertible debentures into common stock
and the exercise price of 14,612,907 warrants outstanding to $0.028.
(c) During the year ended July 31, 2004, 200,000 common shares with a fair
market value of $0.174 per share, 300,000 share purchase warrants with an
exercise price of $0.17 per share and 250,000 share purchase warrants with an
exercise price of $0.20 per share were issued for services received. The fair
value of these warrants at the date of grant was estimated at $63,375. The fair
value of these warrants was estimated on the date of issuance using the
Black-Scholes option valuation model using the weighted average assumptions
consistent with those as described in note 3(o). Fair value of common shares and
warrants of $98,175 has been exercised.
On January 19, 2005, the Company issued 5,752,945 shares of common stock to
certain members of senior management of the Company for services rendered. The
fair value of the shares at the date of issuance was $0.03 per share amounting
to $172,588. In addition, on June 21, 2005, the Company issued 1,011,260 shares
of common stock to a certain member of senior management of the Company for
services rendered. The fair value of the shares at the date of issuance was
$0.088 per share amounting to $88,990.
On May 19, 2004, the Company arranged a $15 million Standby Equity Distribution
Agreement from a private investment company, Cornell Capital partners, LP. The
agreement provided for the Company to, at its discretion, draw down $500,000
every seven business days, subject to an effective registration statement. In
consideration for each draw down, the Company will sell shares of common stock
at a 2% discount to the lowest closing bid prices for the 5 trading days after
an advance notice is given by the Company. In addition, 5% of each advance will
be retained by Cornell Capital as a commission.
F-29
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital (continued):
(d) Standby equity distribution agreements:
On June 1, 2004, the Company filed a registration statement with the Securities
and Exchange Commission to register the $15 million equity line of credit that
was declared effective on June 14, 2004. On June 1, 2004, the Company issued
3,605,769 shares at an effective price of $0.104 per share as payment for the
$365,000 commitment fee and $10,000 placement agency fee related to the Standby
Equity Distribution Agreement. The Company also incurred additional costs of
$35,420 in fees to prepare and file the registration statement. During the year
ended July 31, 2004, the Company effected three draw downs of $250,000 each at
prices of $0.090, $0.065 and $0.059, which resulted in the issuance of
10,861,220 common shares and net proceeds of $689,399. In addition, the Company
incurred an additional $60,000 as a financing expense to advisors of the Standby
Equity Distribution Agreement. On May 19, 2005, this $15.0 million Standby
Equity Distribution Agreement was terminated by the parties.
On May 20, 2005, the Company entered into a Standby Equity Distribution
Agreement with Cornell Capital which provides for the potential issuance and
sale of up to $30.0 million of the Company's common stock to Cornell Capital.
This $30.0 million Standby Equity Distribution Agreement was terminated by the
parties on June 23, 2005 and replaced with a $160.0 million equity line of
credit.
Under the terms of the $160.0 million equity line of credit, the Company, at its
sole discretion, may draw down on this facility, from time to time over a period
of 24 months (or a five-year period if the Company files either an amendment to
the then effective registration statement or a new registration statement is
declared effective after the 24th and 48th month after June 23, 2005) after the
effective date of registration statement to be filed with Securities and
Exchange Commission or until Cornell Capital purchases $160.0 million of shares
of our common stock, whichever occurs first. As at the date of these financial
statements the Company does not have an effective registration statement (note
19(b)). As such, the Company cannot currently draw on this facility.
For each share of common stock purchased under the Standby Equity Distribution
Agreement, Cornell Capital will pay 98% of the lowest closing bid price of our
common stock on the OTC Bulletin Board for the five trading days immediately
following the date of the notice for the draw down. The amount of each advance
is subject to a maximum of $3.0 million per advance, with a minimum of five
trading days between advances. Cornell Capital intends to sell the shares
purchased under the Standby Equity Distribution Agreement at the then prevailing
market price. In addition, Cornell Capital may deduct the amount of any fees,
expenses and disbursements that the Company has not paid from any advance.
F-30
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital (continued):
In addition, the Company paid Yorkville Advisors Management, LLC, the general
partner of Cornell Capital a cash fee of $16.0 million in connection with the
$160.0 million Standby Equity Distribution Agreement.
On June 2, 2005, the Company issued 75,188 shares at an effective price of
$0.133 per share as payment for a $10,000 placement agency fee related to the
Standby Equity Distribution Agreement. The Company also incurred additional
costs of $74,086 to prepare and file the registration statement. These
additional costs are being treated as deferred financing costs (note 12).
(e) Stock-based compensations plans:
At July 31, 2005, the Company had eight stock-based compensation plans that are
described below:
(i) Under the "2000 US Stock Incentive Plan" the Company may grant options to
its employees for up to 200,000 common shares.
(ii) Under the "2000 Stock Incentive Plan" the Company may grant options to its
employees for up to 800,000 common shares.
(iii) Under the "2002 US Stock Incentive Plan" the Company may grant options to
its employees for up to 100,000 common shares.
(iv) Under the "2002 Stock Incentive Plan" the Company may grant options to its
employees for up to 900,000 common shares.
(v) Under the "2003 US Stock Incentive Plan" the Company may grant options to
its employees for up to 2,000,000 common shares.
(vi) Under the "2003 Stock Incentive Plan" the Company may grant options to its
employees for up to 8,000,000 common shares.
(vii) Under the "2004 US Stock Incentive Plan" the Company may grant options to
its employees for up to 3,000,000 common shares.
(viii) Under the "2004 Stock Incentive Plan" the Company may grant options to
its employees for up to 50,000,000 common shares.
The options currently outstanding under the "2003 and 2004 US Stock Incentive
Plan" and the "2003 and 2004 Stock Incentive Plan" generally vest immediately.
The options currently outstanding under the "2000 and 2002 Stock Incentive Plan"
generally vest from two to four years, with the first 20% to 33% vesting at the
date of grant and the balance vesting annually at each anniversary date of the
grant thereafter. The exercise price of each option is based on the fair value
of the common stock at the date of grant. These options have a five year term.
F-31
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital (continued):
2005 2004 2003
----------------------- ---------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------- -------- ---------- -------- --------- --------
Outstanding, beginning of year 8,469,800 $ 0.63 1,714,400 $ 2.54 1,677,250 $ 3.08
Options granted 40,520,000 0.03 9,169,600 0.20 778,300 1.42
Options exercised (6,059,998) (0.03) (79,400) (0.20) -- --
Options forfeited (957,000) (1.01) (2,334,800) (0.38) (741,150) (2.80)
----------- -------- ---------- -------- --------- --------
Outstanding, end of year 41,972,802 $ 0.13 8,469,800 $ 0.63 1,714,400 $ 2.54
=========== ======== ========== ======== ========= ========
Options outstanding Options exercisable
----------------------------------- ----------------------
Weighted
average Weighted Weighted
remaining average average
Range of Number contractual exercise Number exercise
exercise prices of shares life price exercisable price
- --------------- ---------- ----------- -------- ----------- --------
$0.03 - 0.04 34,260,002 4.42 $ 0.03 34,060,002 $ 0.03
$0.085 - 0.20 6,410,600 3.13 0.20 6,210,600 0.20
$0.52 - 1.00 136,134 2.46 0.60 136,134 0.60
$1.16 - 8.11 1,166,066 1.39 2.64 1,166,066 2.64
- --------------- ---------- ----------- -------- ----------- --------
$0.85 - 6.76 41,972,802 4.13 $ 0.13 41,572,802 $ 0.13
=============== ========== =========== ======== =========== ========
Where options issued after January 18, 2001 have an exercise price in a currency
that is not either the (a) functional currency of the Company, or (b) the
currency in which the employee is paid, the options are to be accounted for as
variable plan options and compensation expense will be recorded equal to changes
in the market value of the underlying common shares at each reporting period.
The Company normally grants options in U.S. dollars when the functional currency
of the Company is the Canadian dollar. Most employees of the Company are paid in
either Canadian dollars or British pounds sterling. Accordingly, these employee
options are considered to be variable options.
The compensation expense for these variable options for the year ended July 31,
2005 is $4,018,075 (2004 - nil; 2003 - nil) and is recognized in the financial
statements as engineering, research and development, general and administrative
or marketing expense, based on the classification of the employee's salaries. In
addition, compensation expense is recognized to the extent that options are
granted having an exercise price less than the market price of the underlying
common stock on the date of grant.
F-32
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital (continued):
(f) Warrants:
As at July 31, 2005, warrants outstanding were exercisable for 64,988,141 (2004
- - 37,483,485) common shares of the Company. The warrants entitle the holders to
purchase common shares of the Company at prices ranging from $0.10 to $2.80 per
share and expire on various dates until June 22, 2010.
The exercise price of warrants issued were not less than the market price of the
Company's common shares at the date of issuance.
2005 2004 2003
------------------------ ------------------------ ------------------------
Weighted- Weighted- Weighted-
average average average
exercise exercise exercise
Shares price Shares price Shares price
----------- --------- ----------- --------- ----------- ---------
Outstanding, beginning of year 37,483,485 $ 0.20 32,154,507 $ 0.38 2,030,317 $ 3.13
Issued 62,500,000 0.16 19,562,209 0.21 33,543,907 0.27
Exercised (34,884,744) 0.03 (12,463,231) 0.25 (3,300,000) 0.11
Expired (110,600) 1.70 (1,770,000) 3.30 (119,717) 2.00
----------- --------- ----------- --------- ----------- ---------
Oustanding, end of year 64,988,141 $ 0.16 37,483,485 $ 0.20 32,154,507 $ 0.38
=========== ========= =========== ========= =========== =========
On September 24, 2004, the holders of the discounted convertible debentures
exercised 18,226,274 warrants at $0.03 for gross proceeds of $546,788, and net
proceeds of $499,916. The fair value of these warrants of $1,017,299 initially
recorded as additional paid-in-capital is reclassified to share capital on
exercise of warrants. On May 5, 2005, a warrant holder exercised 714,286
warrants at an exercise price of $0.10 for gross proceeds of $71,429.
In addition, during the year, the Company received notices of a cashless warrant
exercise from certain holders of the convertible debentures to exercise their
outstanding 15,944,184 warrants. The exercise price of these warrants ranged
from $0.028 to $0.10, for a fair value of $1,026,617. In response, the Company
issued 13,364,073 shares of common stock to the warrant holders.
For the year ended July 31, 2004, the Company realized gross cash proceeds of
$2,179,385 and net cash proceeds of $2,101,015 from the exercise of warrants as
follows:
(i) On April 30, 2004, 500,000 warrants were exercised at $0.104 resulting in
gross cash proceeds of $52,000 and net cash proceeds of $49,920.
F-33
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
11. Share capital (continued):
(ii) On October 27, 2003, the Company offered warrant holders who were issued
warrants with an exercise price of $0.2645 on May 15, 2003 in connection with
the convertible debenture a reduction in their exercise price to $0.20 plus one
additional warrant at $0.20 if they exercised their warrants. A total of
3,290,596 warrants were exercised. In addition, the Company granted 194,000
additional warrants exercisable at a price of $0.20 per share for five years to
a shareholder who also exercised their warrants. On November 6, 2003, the
exercise price of the 7,478,635 warrants initially granted at $0.2645 were
reduced to $0.1771 and were exercised for gross proceeds of $1,324,466.
(iii) During October and November 2003, the fair value of the 10,963,231
warrants of $1,601,970 initially recorded as additional paid in capital was
reclassified to share capital on exercise of the warrants.
(iv) On May 20, 2004, the Company realized gross cash proceeds of $120,000 from
the exercise of 1,000,000 warrants at an exercise price of $0.12 per share.
12. Deferred financing costs:
2005 2004
------------ ------------
$160 million equity line of credit (note 11 (d))
Commitment fee $ 16,000,000 $ --
Professional fees 74,086 --
Agent placement fee 10,000 --
------------ ------------
16,084,086 --
$30 million 10% convertible debentures (note 9)
Commissions 2,130,000 --
Professional fees 35,500 --
------------ ------------
2,165,500 --
Discounted convertible debenture (note 9)
Commissions 218,000 218,000
Fair value of agents warrants 15,699 15,699
Professional fees 46,894 46,894
------------ ------------
280,593 280,593
------------ ------------
18,530,179 280,593
Amortization (320,899) (123,573)
------------ ------------
------------ ------------
$ 18,209,280 $ 157,020
============ ============
The deferred charges related to the discounted convertible debenture are being
amortized over the maturity period. During the year, $197,326 (2004 - $123,573)
was amortized and charged to interest expense. The fees with respect to the
$160.0 million equity line of credit have been deferred pending completion of
the registration statement process.
F-34
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
13. Net interest and financing expenses:
--------------------------------------------------------------------------------------------
2005 2004 2003
------------------------------------------
Interest accreted on convertible debentures $1,823,026 $ 578,363 $3,317,457
Short-term debt interest expense and finance
charges 112,274 1,206,762 3,513
Interest paid on convertible debentures 942,892 1,777,721 101,535
Amortization of deferred financing fees 852,289 468,974 300,000
------------------------------------------
$3,730,481 $4,031,820 $3,722,505
--------------------------------------------------------------------------------------------
14. Financial instruments:
(a) Credit risk:
The majority of the Company's activities are concentrated in the automotive
industry and sales are primarily to a few major customers (note 18). To reduce
credit risk, management performs ongoing credit evaluations of its customers'
financial condition. The Company maintains reserves for potential credit losses
based on a risk assessment of its customers.
(b) Foreign currency risk:
The Company operates internationally which gives rise to the risk that cash
flows may be adversely impacted by exchange rate fluctuations. To July 31, 2005,
the Company has not entered into derivatives or other hedging instruments to
mitigate its foreign exchange risk.
15. Related party transactions:
(a) Cornell Capital is considered a related party from a financial perspective
due to the number and size of the financial transactions that were entered into
with the Company during the year ended July 31, 2005. Cornell Capital does not
have influence over the Company's operating or investing activities. During the
year ended July 31, 2005, the Company paid fees of $19,658,134 to Cornell
Capital and its affiliates (2004-$571,500) and the Company had the following
financial instruments outstanding with Cornell Capital as at July 31, 2005:
Financial Instrument Amount
- ------------------------------------- --------------
Standby equity distribution agreement $160.0 million
Preferred shares $4.0 million
Convertible debentures $31.5 million
(b) During the year ended July 31, 2005, the Company incurred expenses of
$60,000 (2004 - nil; 2003 - nil) for a research report to a company in which a
director of the Company has significant influence.
16. Income taxes:
(a) Effective tax rate:
The effective income tax rates differ from the Canadian statutory rates for the
following reasons:
2005 2004 2003
----------- ----------- -----------
Canadian statutory tax rate 35.6% 36.4% 38.5%
Computed tax expense $(5,087,838) $(3,999,277) $(3,817,132)
Foreign losses tax affected at lower rates 103,937 5,162 192,027
Reduction in effective tax rates -- (339,481) --
Permanent and other differences 2,941,029 1,352,012 387,870
Change in valuation allowance 2,042,872 2,981,584 3,237,235
----------- ----------- -----------
$ -- $ -- $ --
=========== =========== ===========
F-35
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
16. Income taxes (continued):
(b) Deferred tax assets and liabilities:
2005 2004
------------ ------------
Deferred tax assets:
Fixed and other assets, accounting
depreciation in excess of tax $ 1,642,001 $ 1,220,775
Loss carryforwards 17,812,576 16,534,418
Scientific research and development expenses 413,060 382,971
Share issue costs 721,844 549,499
Others 178,261 37,207
------------ ------------
Total gross deferred tax assets 20,767,742 18,724,870
Valuation allowance (20,767,742) (18,724,870)
------------ ------------
Net deferred tax assets $ -- $ --
============ ============
In assessing the realizability of future tax assets, Management considers
whether it is more likely than not that some portion or all of the future tax
assets will be realized. The ultimate realization of the future tax assets is
dependent upon the generation of future taxable income during the periods in
which those temporary differences become deductible.
For Canadian tax purposes, the Company has approximately $33,600,000 of
non-capital losses for income tax purposes available at July 31, 2005 to reduce
taxable income of future years. These losses will expire as follows:
2006 $ 8,200,000
2007 200,000
2008 4,700,000
2009 6,000,000
2010 5,300,000
2011 6,000,000
2012 3,200,000
$33,600,000
Additionally, for Canadian tax purposes, the Company has scientific research and
development expenditures of $1,160,000 available to reduce future taxable income
indefinitely.
F-36
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
16. Income taxes (continued):
For United States tax purposes, the Company has approximately $6,200,000 of net
operating losses for income tax purposes available at July 31, 2005 to reduce
taxable income of future years. These losses will expire as follows:
2012 $ 100,000
2013 1,000,000
2019 1,800,000
2020 1,300,000
2021 400,000
2022 800,000
2023 300,000
2024 400,000
2025 100,000
$6,200,000
For United Kingdom tax purposes, the Company has approximately $11,100,000 of
non-capital losses for income tax purposes available at July 31, 2005 to reduce
taxable income of future years. These losses may be carried forward
indefinitely.
17. Earnings (loss) per share:
The weighted average number of shares outstanding used in the computation of
earnings (loss) per share were as follows:
-------------------------------------------------------------------------------------------------
2005 2004 2003
-------------------------------------------------------------------------------------------------
Weighted-average shares used in computation of 222,981,341 83,356,095 26,771,427
basic earnings (loss) per share
Potentially dilutive securities excluded in
calculation of loss per share 846,988,048 98,697,014 48,997,115
-------------------------------------------------------------------------------------------------
Diluted loss per share has not been presented since the Company is in a loss
position and the effect of the Company's stock options, debentures and warrants
are anti-dilutive.
18. Commitments and contingencies:
(a) The Company is committed to the following payments under operating leases,
and service agreements for premises and certain equipment and consultants:
2006 1,308,227
2007 498,351
2008 449,424
2009 447,858
2010 444,968
2011 111,007
F-37
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
18. Commitments and contingencies (continued):
(b) Product warranties:
The Company provides for estimated warranty costs at the time of product sale.
Warranty expense accruals are based on best estimate with reference to
historical claims experience. As warranty estimates are based on forecasts,
actual claim costs may differ from amounts provided. An analysis of changes in
liability for product warranties follows:
Balance, August 1, 2003 $ 20,438
Provision increase 85,934
Expenditures (16,512)
--------
Balance, July 31, 2004 89,860
Provision increase 15,856
Expenditures (55,276)
--------
Balance, July 31, 2005 $ 50,440
========
19. Segmented information:
The Company operates in the wireless tire monitoring technology industry.
Management of the Company makes decisions about allocating resources based on
this one operating segment. Geographic information is as follows:
Revenue from external customers:
Revenue from
external customers
------------------------------------------
2005 2004 2003
---------- ---------- ----------
United Kingdom $ 746,889 $ 225,517 $ 261,905
United States 520,615 651,089 509,228
China 15,998 514,365 243,866
Italy -- -- 391,169
Other 179,958 267,308 396,428
---------- ---------- ----------
$1,463,460 $1,658,279 $1,802,596
========== ========== ==========
As at July 31, 2005, 52% (2004-53%) of the Company's fixed assets were in
Canada, 18% (2004-17%) were in Europe and 30% were in Korea (2004-30%).
Major customers, representing 10% or more of total sales, include:
2005 2004 2003
-------- -------- --------
Customer A $546,423 $ <10% $ <10%
Customer B 234,244 <10% <10%
Customer C <10% 484,433 <10%
Customer D <10% <10% 391,169
F-38
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
20. Subsequent events:
(a) Subsequent to year-end the holder of the 8% convertible debenture converted
the balance of its $115,000 and interest thereon into common shares of the
Company.
(b) On September 23, 2005 the Company formally requested that a Registration
Statement on Form SB-2 previously filed with the SEC on July 22, 2005 be
withdrawn. The Registration Statement was not previously declared effective by
the SEC and no securities were sold pursuant to the Registration Statement. The
Company's decision to withdraw the Registration Statement resulted in the
non-compliance of certain terms and conditions of the outstanding convertible
debentures and preferred share agreements. The principal holder has, in writing
by date of October 7, 2005, agreed that the Company is not in default of these
agreements pending the filing of a new registration statement and the principal
holder waives its rights under the default provisions affected by this
non-compliance.
21. Contingencies
The Company has settled a series of discounted convertible debentures with the
exception of one with a carrying value of $91,726. On April 21, 2005, one holder
of this discounted debenture in the amount of $91,726 provided the Company with
notice of a summons with the Supreme Court of the State of New York. The holder
is alleging that the Company wrongfully refused to honor its request to convert
this debt into 9,268,875 common shares of the Company. The holder is seeking
$4,393,360 plus interest from April 25, 2005 and attorneys fees. It is not
possible to determine whether the debenture holder will be successful in their
legal action. The Company has recorded a liability of $128,259 which includes
the outstanding principal, premium and penalties.
22. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices:
These consolidated financial statements have been prepared in accordance with
accounting principles and practices generally accepted in the United States
("U.S. GAAP") which differ in certain respects from those principles and
practices that the Company would have followed had its consolidated financial
statements been prepared in accordance with accounting principles and practices
generally accepted in Canada ("Canadian GAAP").
(a) Under U.S. GAAP, the adoption of U.S. dollar in 2001 as reporting currency
was implemented retroactively, such that prior period financial statements were
translated under the current rate method using foreign exchange rates in effect
on those dates. Under Canadian GAAP, a change in reporting currency is
implemented by translating all prior year financial statement amounts at the
foreign exchange rate on the date of change in reporting currency, which was
July 31, 2001. As a result, there is a difference in share capital, deficit and
cumulative translation adjustment amount under Canadian GAAP as compared to U.S.
GAAP.
F-39
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
22. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices continued:
(b) Under U.S. GAAP, the Company has elected to continue to apply the guidance
set out in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees" ("APB 25") and related interpretation in accounting for its
employee stock option. As the Company grants options with an exercise price not
less than the market value of the underlying common shares on the date of grant,
no compensation expense is required to be recognized under APB 25. If the
exercise price of employee stock option award is not fixed in the functional
currency of the Company or in the currency the employee is paid, the award is
accounted for as variable award until the award is exercised, forfeited, or
expires unexercised. The Company measures compensation expense as the amount by
which the quoted market value of the common shares of the Company's common stock
covered by the grant exceeds the option price, with changes in the market price
included in the measurement of loss.
Prior to 2003, under Canadian GAAP, no compensation was recorded for employee
options. Subsequent to August 1, 2003, the Company elected to use the fair-value
based method under Canadian GAAP, on a prospective basis, to record compensation
expense for options. Had the Company determined compensation expense for option
grants made to employees after July 31, 2002 based on the fair values at grant
dates of the stock options consistent with the fair value method, the Company's
loss and loss per share would have been as follows:
2005 2004 2003
------------- ------------- -------------
Net loss:
As reported in accordance with Canadian GAAP $ (12,037,306) $ (9,082,381) $ (6,552,235)
Stock-based compensation expense
included in reported net loss 1,089,282 1,130,170 --
Stock-based compensation expense
determined under fair value
based method for all awards (1,101,411) (1,257,378) (458,819)
------------- ------------- -------------
Pro forma $ (12,049,435) $ (9,209,589) $ (7,011,05)
============= ============= =============
Basic and diluted loss per share:
As reported $ (0.05) $ (0.11) $ (0.24)
Pro forma (0.05) (0.11) (0.26)
============= ============= =============
F-40
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
22. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices (continued):
(c) Under U.S. GAAP, the proceeds from the issuance of convertible debentures
with detachable warrants are allocated to the fair value of warrants issued and
intrinsic value of beneficial conversion feature. The remaining proceeds are
allocated to debt which is being accreted to the redemption value of the
convertible debentures over the maturity period. On the date of conversion of
debt to equity, the difference between the carrying amount and redemption amount
is charged to statement of operations as interest expense.
Under Canadian GAAP, the proceeds from the issuance of convertible debentures
with detachable warrants are allocated to the warrants issued and the conversion
feature based on their fair values. The remaining proceeds are allocated to debt
which is then being accreted to the redemption value of the convertible
debentures over the maturity period. On the date of conversion of debt to
equity, the carrying value of debt is reclassified to equity with no additional
interest accretion. When the Company has the option of repaying the convertible
debentures in cash or its common shares, the entire principal amount of is
recorded as equity. The principal equity is accreted to the redemption value of
the convertible debentures over the maturity period and is charged to deficit.
(d) Under U.S. GAAP, the discount on convertible debt is netted against the
value of debenture, and debt issuance cost is recorded as deferred financing
cost and is amortized over the maturity period. Under Canadian GAAP, the
discount is recorded as deferred financing cost and is being amortized over the
maturity period. Debt issuance cost is charged to equity.
(e) For U.S. GAAP, on settlement of a debenture, a gain was recorded in the
statement of operations of $1,822,033 and a charge to retained earnings was
recorded for the same amount (note 9(c)). For Canadian GAAP, no gain arises,
since the carrying value of liability and equity component of the debenture is
the same as the allocated fair values between liability and equity of the
consideration paid.
2005 2004
----------------------------- -----------------------------
Consolidated Canadian Canadian
balance sheets GAAP U.S. GAAP GAAP U.S. GAAP
- ------------------------------------ ------------ ------------ ------------ ------------
Current assets $ 13,292,487 $ 13,292,487 $ 3,807,743 $ 3,807,743
Capital assets 716,763 716,763 824,616 824,616
Deferred financing costs (d) 16,206,086 18,209,280 443,016 157,020
Other assets 1,066,013 1,066,013 2,147,749 2,147,749
Current liabilities (c) 1,649,690 5,781,918 2,804,081 3,075,338
Long term convertible debentures (c) 1,272,123 17,118,667 1 395,574
Preferred shares subject to
mandatory redemption 1 1 -- --
Stockholders' equity 28,359,535 10,383,957 4,419,042 3,466,216
============ ============ ============ ============
F-41
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Years ended July 31, 2005, 2004 and 2003
22. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices (continued):
2005 2004 2003
------------ ------------ ------------
Net loss in accordance with US GAAP $(14,291,861) $(10,987,026) $ (9,914,629)
Effects of difference in accounting for:
Stock based compensation expense under
US GAAP (b) 4,018,075 -- 17,005
Stock based compensation
(recovery) under Canadian GAAP (b) (1,089,282) (1,130,170) --
Interest accretion and amortization
of debenture finance costs recorded
under US GAAP (c)(d) 2,689,712 3,360,389 3,359,977
Interest accretion and amortization
of debenture finance cost under
Canadian GAAP (d) (1,541,917) (325,574) (14,588)
Gain on settlement of convertible debt (d) (1,822,033) -- --
------------ ------------ ------------
Net loss in accordance with
Canadian GAAP (12,037,306) (9,082,381) (6,552,235)
Beginning deficit in accordance
with Canadian GAAP (51,971,332) (41,762,812) (35,210,577)
Interest on convertible debentures
and amortization of financing charges (d) (1,055,763) (1,126,239) --
------------ ------------ ------------
Ending deficit in accordance with
Canadian GAAP (65,064,401) (51,971,332) (41,762,812)
============ ============ ============
Basic and diluted loss per
share (in accordance with Canadian GAAP) (0.05) (0.11) (0.24)
23. Comparative figures:
Certain figures have been reclassified to conform to the financial presentation
adopted for the current year.
F-42
Consolidated Financial Statements
Unaudited
(Expressed in United States dollars)
In accordance with United States Generally Accepted Accounting Principles
SMARTIRE SYSTEMS INC.
Three months ended October 31, 2005 and 2004
F-43
SMARTIRE SYSTEMS INC.
Consolidated Balance Sheets
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
=======================================================================================================
October 31, 2005 July 31, 2005
- -------------------------------------------------------------------------------------------------------
(Unaudited)
Assets
Current assets:
Cash and cash equivalents $ 4,230,525 $ 10,059,763
Short term investments (note 2(a)) 3,268,365 --
Receivables, net of allowance for doubtful accounts
of $62,131 (July 31, 2005 - $50,750) 503,055 275,789
Inventory 2,594,527 2,798,747
Prepaid expenses 665,522 158,188
- ------------------------------------------------------------------------------------------------------
11,261,994 13,292,487
Capital assets 749,927 716,763
Deferred financing costs (note 4) 2,016,029 18,209,280
Other assets 779,377 1,066,013
- ------------------------------------------------------------------------------------------------------
$ 14,807,327 $ 33,284,543
======================================================================================================
Liabilities and Stockholders' Equity (Deficiency)
Current liabilities:
Accounts payable and accrued liabilities $ 984,753 $ 915,334
Current portion of convertible debentures 7,368,421 4,866,584
- ------------------------------------------------------------------------------------------------------
8,353,174 5,781,918
Convertible debentures, net of equity portion of $9,501,997
(July 31, 2005 - $10,111,082) (note 5) 15,031,476 17,118,667
Preferred shares, net of equity portion of $3,999,687, subject to
mandatory redemption (July 31, 2005 - $3,999,999) 313 1
Stockholders' equity (deficiency):
Share capital (note 6)
Common shares, without par value:
Unlimited shares authorized
287,646,656 shares issued and outstanding 67,223,869 66,695,717
(July 31, 2005 - 278,562,884)
Additional paid-in capital 16,983,397 18,691,497
Deficit (93,343,673) (75,132,150)
Accumulated other comprehensive income 558,771 128,893
- ------------------------------------------------------------------------------------------------------
(8,577,636) 10,383,957
- ------------------------------------------------------------------------------------------------------
$ 14,807,327 33,284,543
======================================================================================================
Contingencies (note 8)
Subsequent events (note 10)
See accompanying notes to consolidated financial statements.
Approved on behalf of the Board
/s/ Robert Rudman /s/ Martin Gannon
- --------------------------- ---------------------------
Robert Rudman, Director Martin Gannon, Director
F-44
SMARTIRE SYSTEMS INC.
Consolidated Statement of Operations
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
(Unaudited)
====================================================================================
2005 2004
- ------------------------------------------------------------------------------------
Revenue $ 592,866 $ 301,169
Cost of goods sold 423,688 220,436
- ------------------------------------------------------------------------------------
169,178 80,733
Expenses:
Depreciation and amortization 371,828 360,137
Engineering, research and development (note 2(b)) (33,445) 501,685
General and administrative (note 2(b)) (159,567) 579,131
Marketing (note 2(b)) 416,208 496,787
- ------------------------------------------------------------------------------------
595,024 1,937,740
- ------------------------------------------------------------------------------------
Loss from operations $ (425,846) $ (1,857,007)
Other earnings (expenses):
Interest income 73,446 484
Net interest and financing expense (note 4) (17,631,436) (585,021)
Foreign exchange gain (loss) (227,687) 57,644
- ------------------------------------------------------------------------------------
$ (17,785,677) $ (526,893)
- ------------------------------------------------------------------------------------
Loss for the period (18,211,523) (2,383,900)
====================================================================================
Basic and diluted loss per share $ (0.06) $ (0.02)
Weighted average number of common shares used in
the computation of basic and diluted loss per share 282,633,998 152,905,430
====================================================================================
See accompanying notes to consolidated financial statements.
F-45
SMARTIRE SYSTEMS INC.
Consolidated Statement of Stockholders' Equity (Deficiency) and Comprehensive
Loss
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 (unaudited) and year ended July 31, 2005
=================================================================================================================================
Common Shares Additional
---------------------- paid-in
Shares Amount capital Deficit
- ---------------------------------------------------------------------------------------------------------------------------------
$ $ $ $
Balance as at July 31, 2004 103,130,761 58,368,020 4,417,323 (59,018,256)
=================================================================================================================================
Exercise of stock options for cash 6,059,998 787,800 (606,000) --
Conversion of convertible debentures and accrued interest to common
shares allocated pro-rata between additional paid-in-capital and common
shares 51,340,389 2,147,293 (648,644) --
Intrinsic value of beneficial conversion feature of convertible debt -- -- 11,005,243 --
Settlement of convertible debt -- -- (677,966) (1,822,033)
Intrinsic value of beneficial conversion feature of preferred shares -- -- 3,999,999 --
Financing cost related to preferred shares -- -- (145,000) --
Financing cost related to convertible debentures -- -- (1,038,037) --
Exercise of warrants for cash - net of issuance costs of $46,872 18,940,560 1,588,643 (1,017,299) --
Cash-less exercise of warrants 13,364,073 1,026,617 (1,026,617) --
Shares issued upon draw downs on equity line, net of issuance costs of
$515,170 78,887,710 2,505,766 410,420 --
Shares issued as placement fees on equity line of credit 75,188 10,000 -- --
Shares issued as compensation for services 6,764,205 261,578 -- --
Compensation expense -- -- 4,018,075 --
Loss for the period -- -- -- (14,291,861)
Translation adjustment -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Balance as at July 31, 2005 278,562,884 66,695,717 18,691,497 (75,132,150)
=================================================================================================================================
Exercise of stock options for cash 860,000 111,800 (86,000) --
Exercise of warrants for cash 1,100,000 110,000 -- --
Conversion of convertible debentures and accrued interest to
common shares allocated pro-rata between additional paid-in
capital and common shares 7,123,772 306,352 (92,286) --
Stock-based compensation recovery -- -- (1,633,975) --
Amortization of financing fees -- -- 104,161 --
Loss for the period -- -- -- (18,211,523)
Translation adjustment -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------------
Balance as at October 31, 2005 287,646,656 67,223,869 16,983,397 (93,343,673)
=================================================================================================================================
=====================================================================================================================
Accumulated
other Stockholders'
comprehensive equity Comprehensive
income (loss) (deficiency) loss
- ---------------------------------------------------------------------------------------------------------------------
$ $ $
Balance as at July 31, 2004 (300,871) 3,466,216 (10,719,543)
=====================================================================================================================
Exercise of stock options for cash -- 181,800 --
Conversion of convertible debentures and accrued interest to common
shares allocated pro-rata between additional paid-in-capital and common
shares -- 1,498,649 --
Intrinsic value of beneficial conversion feature of convertible debt -- 11,005,243 --
Settlement of convertible debt -- (2,499,999) --
Intrinsic value of beneficial conversion feature of preferred shares -- 3,999,999 --
Financing cost related to preferred shares -- (145,000) --
Financing cost related to convertible debentures -- (1,038,037) --
Exercise of warrants for cash - net of issuance costs of $46,872 -- 571,344 --
Cash-less exercise of warrants -- -- --
Shares issued upon draw downs on equity line, net of issuance costs of
$515,170 -- 2,916,186 --
Shares issued as placement fees on equity line of credit -- 10,000 --
Shares issued as compensation for services -- 261,578 --
Compensation expense -- 4,018,075 --
Loss for the period -- (14,291,861) (14,291,861)
Translation adjustment 429,764 429,764 429,764
- ---------------------------------------------------------------------------------------------------------------------
Balance as at July 31, 2005 128,893 10,383,957 (13,862,097)
=====================================================================================================================
Exercise of stock options for cash -- 25,800 --
Exercise of warrants for cash -- 110,000 --
Conversion of convertible debentures and accrued interest to
common shares allocated pro-rata between additional paid-in
capital and common shares -- 214,066 --
Stock-based compensation recovery -- (1,633,975) --
Amortization of financing fees -- 104,161 --
Loss for the period -- (18,211,523) (18,211,523)
Translation adjustment 429,878 429,878 429,878
- ---------------------------------------------------------------------------------------------------------------------
Balance as at October 31, 2005 558,771 (8,577,636) (17,781,645)
=====================================================================================================================
See accompanying notes to consolidated financial statements.
F-46
SMARTIRE SYSTEMS INC.
Consolidated Statement of Cash Flows
(Expressed in United States dollars)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
(Unaudited)
==================================================================================================
2005 2004
- --------------------------------------------------------------------------------------------------
Cash provided (used for):
Operating activities:
Loss for the period $(18,211,523) $ (2,383,900)
Items not affecting cash:
Depreciation and amortization 371,828 360,137
Stock-based compensation recovery (1,633,975) --
Non-cash interest and finance charges 16,696,167 557,962
Change in non-cash working capital:
Receivables (203,748) (2,824)
Inventory 291,871 24,549
Prepaid expenses (499,555) (184,673)
Accounts payable and accrued liabilities 39,066 (338,191)
- --------------------------------------------------------------------------------------------------
Net cash used in operating activities (3,149,869) (1,966,940)
Investing activities:
Purchase of capital assets (40,656) (15,157)
Purchase of short-term investments (3,250,000) --
- --------------------------------------------------------------------------------------------------
Net cash used in investing activities (3,290,656) (15,157)
Financing activities:
Cash received on exercise of stock options 25,800 --
Cash received on exercise of warrants 110,000 546,788
Proceeds from equity line of credit -- 2,725,000
Financing costs -- (187,622)
Repayment of promissory notes -- (935,317)
- --------------------------------------------------------------------------------------------------
Net cash provided by financing activities 135,800 2,148,849
Effect of exchange rate difference on cash and cash equivalents 475,487 (47,753)
- --------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents (5,829,238) 118,999
Cash and cash equivalents, beginning of year 10,059,763 112,951
- --------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $ 4,230,525 $ 231,950
==================================================================================================
Supplementary information:
Interest and finance charges paid $ 935,269 $ 54,475
Non-cash investing and financing activities:
Conversion of convertible debentures to common shares 306,352 734,388
==================================================================================================
See accompanying notes to consolidated financial statements.
F-47
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
1. Interim financial statements:
The consolidated financial statements include the accounts of the parent company
and our subsidiaries after elimination of all inter-company balances and
transactions. All subsidiaries are 100% owned.
The unaudited consolidated financial statements included herein have been
prepared in accordance with accounting principles generally accepted in the
United States (generally accepted accounting principles) for interim financial
information and with the instructions for Form 10-QSB and Article 10 of
Regulation S-X. Certain information and footnote disclosures normally included
in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules and
regulations. In the opinion of management all adjustments, including normal
recurring adjustments, necessary for a fair presentation of the interim periods
presented have been included. The interim results are not necessarily indicative
of the operating results expected for the full fiscal year ending on July 31,
2006.
Our consolidated financial statements have been prepared on the assumption that
the Company will continue as a going concern, which contemplates the realization
of assets and liquidation of liabilities in the normal course of business. The
Report of the Independent Registered Public Accounting Firm on the financial
statements of the Company as of and for the fiscal year ended July 31, 2005
included in Form 10-KSB contained an explanatory paragraph that expresses
substantial doubt about our ability to continue as a going concern. The
financial statements do not include any adjustments to reflect the possible
future effects on the recoverability and classification of assets or the amounts
and classification of liabilities that may result from the outcome of this
uncertainty.
As of October 31, 2005, the Company had an accumulated deficit of $93,343,673
and incurred a net loss of $18,211,523 for the three-month period ended October
31, 2005. As of October 31, 2005 the Company had cash and cash equivalents and
short-term investments of $7,498,890, working capital of $2,908,820, a current
ratio of 1.35, total assets of $14,807,327, total liabilities of $23,384,963,
and a stockholders' deficiency of $8,577,636.
The Company may require additional financing to fund its operations as there can
be no assurance that the Company can draw down amounts under the equity line of
credit as drawdowns are subject to an effective Registration Statement filed
with the SEC. Such a registration statement is not yet effective (note 10(b)).
These consolidated financial statements have been prepared on the going concern
basis which assumes that adequate sources of financing will be obtained as
required and that the Company's assets will be realized and liabilities settled
in the ordinary course of business. Accordingly, these consolidated financial
statements do not include any adjustments related to the recoverability of
assets and classification of assets and liabilities that might be necessary
should the Company be unable to continue as a going concern.
Interim unaudited financial results should be read in conjunction with the
audited financial statements included in the SEC Report on Form 10-KSB, for the
period ended July 31, 2005.
F-48
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
2. Significant accounting policies:
(a) Short-term investments:
Short-term investments are comprised of term deposits with varying maturities
from 91 days to 12 months. All short-term investments are classified as
held-to-maturity and are recorded at cost including accrued interest, which
approximates fair market value, with changes going to the statement of
operations.
(b) Stock-based compensation:
i. The Company has elected under FAS 123, Accounting for Stock-based
Compensation, to account for employee stock options using the intrinsic value
method. This method is described in Accounting Principles Board ("APB") Opinion
No. 25, Accounting for Stock Issued to Employees, and related interpretations.
As the Company grants stock options with an exercise price not less than the
market value of the underlying common shares on the date of grant, no
compensation expense is required to be recognized under APB 25 for fixed plan
awards. If the exercise price of employee stock option award is not fixed in the
functional currency of the Company or in the currency the employee is paid, the
award is accounted for as a variable award until the award is exercised,
forfeited, or expires unexercised. The Company measures compensation as the
amount by which the quoted market value of the common shares of the Company's
stock covered by the grant exceeds the option price, with changes in the market
price included in the measurement of loss.
In accordance with FAS 148, the following table illustrates the effect on net
loss and net loss per share as if the Company had applied the fair value
recognition provisions of FAS 123. Because options vest over several years and
additional option grants are expected to be made in future years, the pro forma
results are not representative of the pro forma results for future periods.
============================================================================================
Three months ended
----------------------------
October 31, October 31,
2005 2004
- --------------------------------------------------------------------------------------------
Net loss:
As reported
$(18,211,523) $ (2,383,900)
Stock-based compensation expense
recognized using intrinsic value method (variable award) -- --
Stock-based compensation expense determined under
fair value method for all awards (18,151) (6,377)
- --------------------------------------------------------------------------------------------
Pro forma $(18,229,674) $ (2,390,277)
============================================================================================
Basic and diluted loss per share:
As reported $ (0.06) $ (0.02)
Pro forma (0.06) (0.02)
- --------------------------------------------------------------------------------------------
The Company recognizes compensation expense on a straight-line basis over the
vesting period beginning on the date the stock option is granted.
F-49
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
2. Significant accounting policies (continued):
The fair value of each option and warrant granted is estimated on the date of
grant using the Black-Scholes option valuation model with the following weighted
average assumptions.
================================================================================
October 31, October 31,
2005 2004
- --------------------------------------------------------------------------------
Expected dividend yield 0% 0%
Expected stock price volatility 145% 137%
Risk-free interest rate 3.50% 4.11%
Expected life options and warrants 5 years 5 years
- --------------------------------------------------------------------------------
The Company recognizes compensation expense for stock options, common stock and
other instruments issued to non-employees for services received based upon the
fair value of the equity instruments issued as the services are performed and
the instrument is earned.
ii. The Company recorded a $1,633,975 (2004 - nil) recovery of stock
compensation expense for variable awards which reduced engineering, research and
development expenses by $641,196 (2004 - nil), general and administrative
expenses by $954,297 (2004 - nil) and marketing expenses by $38,482 (2004 -
nil).
(c) Recent accounting pronouncements:
In December 2004, the FASB issued FASB Statement No. 123 (revised 2004),
Share-Based Payment, which addresses the accounting for transactions in which an
entity exchanges its equity instruments for goods or services, with a primary
focus on transactions in which an entity obtains employee services in
share-based payment transactions. This Statement is a revision to Statement 123
and supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and
its related implementation guidance. The Company has not yet determined the
effect that the adoption of this new statement will have on the Company's
historical financial position or results of operations. This statement will be
effective for the Company as of August 1, 2006.
3. Standby equity distribution agreements:
On June 23, 2005, the Company entered into a $160.0 million equity line of
credit with Cornell Capital. Subsequent to October 31, 2005, the Company entered
into negotiations to restructure the $160.0 million equity line of credit with a
$100.0 million equity line of credit as described in note 10 (b).
On September 23, 2005, the Company formally requested that the Registration
Statement on Form SB-2 previously filed with the SEC on July 22, 2005 be
withdrawn. The Registration Statement was not previously declared effective by
the SEC and no securities were sold pursuant to the Registration Statement. As
at the date of these financial statements the Company does not have an effective
registration statement. As such, the Company cannot currently draw down on the
$160.0 million equity line of credit (note 10(b)).
F-50
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
4. Deferred financing costs:
As at July 31, 2005, the Company had deferred $16,084,086 of financing costs
relating to its $160.0 million equity line of credit. As described in note 3 and
10(b), the Company has withdrawn the Registration Statement previously filed
with the SEC. As a result of the withdrawal of the registration statement the
Company does not have the ability to draw down on the $160.0 million equity line
of credit. As disclosed in note 10(b), it is currently not determinable when the
Company will be able to draw down on the equity line. For the three months ended
October 31, 2005, the Company has charged $16,084,086 (2004 - nil) to the
statement of operations as interest and financing expense.
5. Convertible debentures:
- ------------------------------------------------------------------------------------------------------
Redemption Balance to be
value of debt Debt component accreted to debt
- ------------------------------------------------------------------------------------------------------
Balance as at July 31, 2005 $ 32,096,333 $ 21,985,251 $ 10,111,082
- ------------------------------------------------------------------------------------------------------
Conversions:
8% convertible debenture (115,000) (115,000) --
Discounted convertible debenture (79,439) (79,439) --
Interest accretion:
10% convertible debentures -- 608,364 (608,364)
5% convertible debentures -- 721 (721)
- ------------------------------------------------------------------------------------------------------
Balance as at October 31, 2005 $ 31,901,894 $ 22,399,897 $ 9,501,997
Less: Current portion of convertible debentures 11,401,894 7,368,421 4,033,473
- ------------------------------------------------------------------------------------------------------
$ 20,500,000 $ 15,031,476 $ 5,468,524
- ------------------------------------------------------------------------------------------------------
As at October 31, 2005 the following convertible debentures with respective
redemption values were outstanding:
(a) $206,894 of the convertible debentures issued at a 22% original discount
from the face principal amount on December 24, 2003;
(b) $195,000 of the 5% convertible debenture issued on December 15, 2004;
(c) $1,500,000 of the 5% convertible debenture issued on May 20, 2005;
(d) $30,000,000 of the 10% convertible debentures issued on June 23, 2005.
F-51
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
5. Convertible debentures (continued):
As at October 31, 2005, the Company was in arrears on payments of principal and
interest under its 5% convertible debenture issued on May 20, 2005 in the amount
of $125,000 and $36,193 in principal and interest respectively. The Company has
obtained an extension from the principal holder to defer all principal and
interest payments under this convertible debenture until January 1, 2006.
During the three months ended October 31, 2005, holders of the 8% convertible
debentures converted the remaining $115,000 of principal and $19,627 of accrued
interest into 4,286,665 common shares of the Company, and holders of the
discounted convertible debenture converted $79,439 of principal into 2,837,107
common shares of the Company.
At October 31, 2005 the Company was in violation of certain terms of its
convertible debentures. The principal holder has, in writing by date of October
31, 2005, agreed that the Company is not in default of these agreements pending
the filing of a new registration statement by January 31, 2006 and the principal
holder waives its rights under the default provisions affected by this
non-compliance.
6. Share capital:
Authorized:
Unlimited number of common shares with no par value 100,000 preferred shares,
issuable in series
Common shares issued and fully paid:
- --------------------------------------------------------------------------------------------------------
Number of
shares Amount
- --------------------------------------------------------------------------------------------------------
Balance at July 31, 2005 278,562,884 $ 66,695,717
Common shares issued upon conversion of convertible debentures 7,123,772 306,352
Common shares issued upon exercise of warrants 1,100,000 110,000
Common shares issued on exercise of employee stock options 860,000 111,800
- --------------------------------------------------------------------------------------------------------
Balance at October 31, 2005 287,646,656 $ 67,223,869
- --------------------------------------------------------------------------------------------------------
7. Segmented information:
The Company operates in the wireless vehicle industry. Management of the Company
makes decisions about allocating resources based on this one operating segment.
Geographic information is as follows:
F-52
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
7. Segmented information (continued):
Revenue from external customers:
- --------------------------------------------------------------------------------
Three months ended
----------------------------------------
October 31, 2005 October 31, 2004
- --------------------------------------------------------------------------------
United Kingdom $246,560 $158,439
United States 344,771 113,355
Other 1,535 29,375
- --------------------------------------------------------------------------------
$592,866 $301,169
- --------------------------------------------------------------------------------
As at October 31, 2005, 83% (July 31, 2005-52%) of the Company's fixed assets
were in Canada, 17% (July 31, 2005 - 18%) were in Europe and nil were in Korea
(July 31, 2005 - 30%). Major customers, representing 10% or more of total sales,
include:
- --------------------------------------------------------------------------------
Three months ended
----------------------------------------
October 31, 2005 October 31, 2004
- --------------------------------------------------------------------------------
Customer A $194,126 $134,427
Customer B 158,174 --
Customer C 63,305 52,828
- --------------------------------------------------------------------------------
8. Contingencies:
During the year ended July 31, 2005 the Company settled a series of discounted
convertible debentures with the exception of one with a carrying value of
$91,726. On April 21, 2005, one holder of this discounted debenture in the
amount of $91,726 provided the Company with notice of a summons with the Supreme
Court of the State of New York. The holder is alleging that the Company
wrongfully refused to honor its request to convert this debt into 9,268,875
common shares of the Company. The holder is seeking $4,393,360 plus interest
from April 25, 2005 and attorneys fees. It is not possible to determine whether
the debenture holder will be successful in their legal action. The Company has
recorded a liability of $128,259 which includes the outstanding principal,
premium and penalties. The Company is vigorously defending against this legal
action.
F-53
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
9. Related party transactions:
(a) During the three months ended October 31, 2005, the Company paid $900,000
(net of $100,000 of withholding taxes) in interest payments to Cornell Capital
for interest due on the $30,000,000 convertible debentures. Cornell Capital is
considered a related party from a financial perspective due to the number and
size of the financial transactions that have been entered into with the Company.
Cornell Capital does not have influence over the Company's operating or
investing activities.
(b) During the three months ended October 31, 2005, the Company paid $60,000
(2004 - nil) in consulting fees to the Company's Chairman pursuant to a
consulting agreement entered into on June 30, 2005.
10. Subsequent events:
(a) $30,000,000, 10% convertible debentures entered into June 23, 2005:
As of December 15, 2005, the Company was in negotiations to restructure an
aggregate of $30 million debentures entered into on June 23, 2005, as follows:
(i) Principal and interest repayments due in cash to be eliminated;
(ii) Debentures to be convertible into shares of Common Stock at the option of
the Holder at the lesser of $0.1125 and a 4.5% discount to market. Market is
based on the lowest Closing Bid Price of the Common Stock for the five (5)
trading days immediately preceding the date the conversion notice is provided;
(iii) If at the end of the three year term, the debentures are not fully
converted, the debenture holder must convert the balance due into shares of the
Company up to their 4.9% limit. The remaining balance to be due in cash by the
Company;
(iv) Interest to be convertible into shares of the Company's Common Stock and is
calculated as ninety-five and one-half percent (95.5%) of the 5 day average of
the Closing Bid Price of the Common Stock for the five (5) trading days
immediately preceding the date the interest conversion is made;
(v) The Company to be provided the right to redeem the convertible debentures
option with three (3) business days advance written notice at a 20% premium a
portion or all amounts outstanding under the debentures prior to the Maturity
Date provided that our Closing Bid Price as reported by Bloomberg, LP, is less
than the Fixed Conversion Price at the time of the Redemption Notice. The
Debenture holder shall receive a warrant to purchase one million (1,000,000)
shares of the Company's Common Stock for every One Hundred Thousand Dollars
($100,000) redeemed, pro rata (the "Warrant"). The Warrant shall be exercisable
on a "cash basis" and have an exercise price of one hundred ten percent (110%)
of the Closing Bid Price of our Common Stock on the date the Company provides
the Redemption Notice.
F-54
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
10. Subsequent events (continued):
(b) $160 million Standby Equity Distribution Agreement:
As of December 15, 2005, the Company was in negotiations to terminate its $160.0
million Standby Equity Distribution Agreement ("Standby Equity Distribution
Agreement") and enter into a new $100.0 million Standby Equity Distribution
Agreement with Cornell Capital. Terms of the new agreement are to be the same as
the previous agreement except for the following:
(i) Term of the agreement is to be five years from the date of effectiveness;
(ii) Fees on draw downs to be reduced to 2.5% from 5%;
(iii) The registration statement to be filed on a date mutually agreed to by the
Company and the Investor.
Based on comments received from the SEC, the Company has not registered the
equity line of credit. The Company may not request advances under the $100
million equity line of credit until the underlying shares of its common stock
are registered with the SEC and it will not register such underlying shares
until all of the outstanding principal and accrued and unpaid interest on the
10% convertible debentures have been either converted by the holders or paid in
full by the Company, which must occur on or before July 23, 2008. The term of
the proposed $100 million Standby Equity Distribution Agreement is to commence
on the date a registration statement covering the underlying shares becomes
effective and will expire five years after such date. Due to the uncertainty as
to when the Company will be able to access its equity line, it has expensed fees
related to the $160 million equity line of credit.
11. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices:
These consolidated financial statements have been prepared in accordance with
accounting principles and practices generally accepted in the United States ("US
GAAP") which differ in certain respects from those principles and practices that
the Company would have followed had its consolidated financial statements been
prepared in accordance with accounting principles and practices generally
accepted in Canada ("Canadian GAAP").
(a) Under U.S. GAAP, the adoption of U.S. dollar in 2001 as reporting currency
was implemented retroactively, such that prior period financial statements were
translated under the current rate method using foreign exchange rates in effect
on those dates. Under Canadian GAAP, a change in reporting currency is
implemented by translating all prior year financial statement amounts at the
foreign exchange rate on the date of change in reporting currency, which was
July 31, 2001. As a result, there is a difference in share capital, deficit and
cumulative translation adjustment amount under Canadian GAAP as compared to US
GAAP.
F-55
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
11. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices (continued):
(b) Under U.S. GAAP, the Company has elected to continue to apply the guidance
set out in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees" ("APB 25") and related interpretation in accounting for its
employee stock option. As the Company grants options with an exercise price not
less than the market value of the underlying common shares on the date of grant,
no compensation expense is required to be recognized under APB 25. If the
exercise price of employee stock option award is not fixed in the functional
currency of the Company or in the currency the employee is paid, the award is
accounted for as variable award until the award is exercised, forfeited, or
expires unexercised. The Company measures compensation expense as the amount by
which the quoted market value of the common shares of the Company's common stock
covered by the grant exceeds the option price, with changes in the market price
included in the measurement of loss.
Prior to 2003, under Canadian GAAP, no compensation was recorded for employee
options. Subsequent to August 1, 2003, the Company elected to use the fair-value
based method under Canadian GAAP, on a prospective basis, to record compensation
expense for options. Had the Company determined compensation expense for option
grants made to employees after July 31, 2002 based on the fair values at grant
dates of the stock options consistent with the fair value method, the Company's
loss and loss per share would have been as follows:
- -------------------------------------------------------------------------------------------
Three months ended
---------------------------------------
October 31, 2005 October 31, 2004
- -------------------------------------------------------------------------------------------
Net loss:
In accordance with Canadian GAAP (note 11(d)) $(17,987,635) $ (1,972,007)
Stock-based compensation expense included
in reported net loss 18,151 9,788
Stock-based compensation expense determined
under fair value based method for all awards (18,151) (6,377)
- -------------------------------------------------------------------------------------------
Pro forma $(17,987,635) $ (1,968,596)
- -------------------------------------------------------------------------------------------
Basic and diluted loss per share:
As reported $ (0.06) $ (0.01)
Pro forma (0.06) (0.01)
- -------------------------------------------------------------------------------------------
F-56
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
11. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices (continued):
(c) Under U.S. GAAP, the proceeds from the issuance of convertible debentures
with detachable warrants are allocated to the fair value of warrants issued and
intrinsic value of beneficial conversion feature. The remaining proceeds are
allocated to debt which is being accreted to the redemption value of the
convertible debentures over the maturity period. On the date of conversion of
debt to equity, the difference between the carrying amount and redemption amount
is charged to statement of operations as interest expense.
Under Canadian GAAP, the proceeds from the issuance of convertible debentures
with detachable warrants are allocated to the warrants issued and the beneficial
conversion feature based on their fair values. The remaining proceeds are
allocated to debt which is then being accreted to the redemption value of the
convertible debentures over the maturity period. On the date of conversion of
debt to equity, the carrying value of debt is reclassified to equity with no
additional interest accretion. When the Company has the option of repaying the
convertible debentures in cash or its common shares, the entire principal amount
of is recorded as equity. The principal equity is accreted to the redemption
value of the convertible debentures over the maturity period and is charged to
deficit.
F-57
SMARTIRE SYSTEMS INC.
Notes to Consolidated Financial Statements
(Expressed in United States dollars)
(Unaudited)
(Prepared in accordance with U.S. generally accepted accounting principles)
Three months ended October 31, 2005 and 2004
11. Differences between Canadian and United States Generally Accepted Accounting
Principles and Practices (continued):
(d) Under U.S. GAAP, the discount on convertible debt is netted against the
value of debenture, and debt issuance cost is recorded as deferred financing
cost and is amortized over the maturity period. Under Canadian GAAP, the
discount is recorded as deferred financing cost and is being amortized over the
maturity period. Debt issuance cost is charged to equity.
- ----------------------------------------------------------------------------------------------------------
October 31, 2005 July 31, 2005
-------------------------------------------------------------------
Canadian Canadian
Consolidated balance sheets GAAP U.S. GAAP GAAP U.S. GAAP
- ----------------------------------------------------------------------------------------------------------
Current assets $ 11,261,994 $ 11,261,994 $ 13,292,487 $ 13,292,487
Capital assets 749,927 749,927 716,763 716,763
Deferred financing costs 115,850 2,016,029 16,206,086 18,209,280
Other assets 779,377 779,377 1,066,013 1,066,013
Current liabilities 1,643,888 8,353,174 1,649,690 5,781,918
Long term convertible debentures 1,519,951 15,031,476 1,272,123 17,118,667
Preferred shares subject to
mandatory redemption 313 313 1 1
Stockholders' equity (deficiency) $ 9,742,996 $ (8,577,636) $ 28,359,535 $ 10,383,957
- ----------------------------------------------------------------------------------------------------------
Three months ended
------------------------------
October 31, October 31,
Consolidated statement of operations and deficit: 2005 2004
- ----------------------------------------------------------------------------------------------------------
Net loss in accordance with U.S. GAAP $(18,211,523) $ (2,383,900)
Effects of difference in accounting for:
Stock based compensation expense under U.S. GAAP -- --
Stock based compensation (recovery) under Canadian GAAP (18,151) (9,788)
Interest accretion and amortization of debenture finance costs
recorded under U.S. GAAP 17,631,436 552,416
Interest accretion and amortization of debenture finance costs
under Canadian GAAP (17,389,397) (130,737)
- ----------------------------------------------------------------------------------------------------------
Net loss in accordance with Canadian GAAP (17,987,635) (1,972,009)
Beginning deficit in accordance with Canadian GAAP (65,064,401) (51,971,332)
Interest on convertible debentures and amortization of finance
charges -- (393,907)
- ----------------------------------------------------------------------------------------------------------
Ending deficit in accordance with Canadian GAAP (83,052,036) (54,337,248)
- ----------------------------------------------------------------------------------------------------------
Basic and diluted loss per share
(in accordance with Canadian GAAP) $ (0.06) $ (0.01)
- ----------------------------------------------------------------------------------------------------------
F-58
PART II - INFORMATION NOT REQUIRED IN PROSPECTUS
Item 24 INDEMNIFICATION OF DIRECTORS AND OFFICERS
On January 5, 2006, we issued 2,000,000 shares of our common stock to Bristo
Investment Fund Ltd. pursuant to a settlement agreement and mutual release
pursuant to Rule 506 of Regulation D under the Securities Act.
Under our Bylaw, subject to the Business Corporations Act (Yukon Territory) and
subject to court approval in certain circumstances, we must indemnify each of
our current or former directors and officers, and any a person who acts or has
acted at our request as a director or officer of a corporation of which we are
or were a shareholder or creditor, and any such indemnified person's heirs and
legal representatives, against all costs, charges and expenses, including any
amount paid to settle an action or satisfy a judgment, reasonably incurred by
him or her in respect of any civil, criminal or administrative action or
proceeding to which he or she is made a party by reason of serving or having
served as a director or officer of our company or such corporation, if: (a) he
or she acted honestly and in good faith with a view to the best interests of our
company; and (b) in the case of a criminal or administrative action or
proceeding that is enforced by a monetary penalty, he or she had reasonable
grounds for believing his or her conduct was lawful.
Under section 126 of the Business Corporations Act (Yukon Territory), court
approval is required for us to indemnify any of the foregoing persons in respect
of an action by or on behalf of our company, or by or on behalf of any
corporation of which we are or were a shareholder or creditor, to procure a
judgment in our or its favor, as the case may be. Court approval may be granted
for us to indemnify any such person against all costs, charges and expenses
reasonably incurred by him or her in connection with the action only if: (a) he
or she acted honestly and in good faith with a view to the best interests of our
company; and (b) in the case of a criminal or administrative action or
proceeding that is enforced by a monetary penalty, he or she had reasonable
grounds for believing that his or her conduct was lawful.
Section 126 of the Business Corporations Act (Yukon Territory) goes on to
provide that, in any event, any of the foregoing persons is entitled to be
indemnified by us in respect of all costs, charges and expenses reasonably
incurred by him or her in connection with the defence of any civil, criminal or
administrative action or proceeding to which he or she is made a party by reason
of being or having been a director or officer of our company or a corporation of
which we are or were a shareholder or creditor, if he or she: (a) was
substantially successful on the merits in his or her defence of the action or
proceeding; (b) is fairly and reasonably entitled to indemnity, (c) acted
honestly and in good faith with a view to the best interests of our company; and
(d) in the case of a criminal or administrative action or proceeding that is
enforced by a monetary penalty, he or she had reasonable grounds for believing
his or her conduct was lawful.
Insofar as indemnification for liabilities arising under the Securities Act
might be permitted to directors, officers or persons controlling our company
under the provisions described above, we have been informed that in the opinion
of the SEC such indemnification is against public policy as expressed in the
Securities Act and is therefore unenforceable.
Item 25 OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the costs and expenses payable by us in
connection with the issuance and distribution of the securities being registered
hereunder. No expenses shall be borne by the selling stockholder. All of the
amounts shown are estimates, except for the SEC Registration Fees.
SEC registration fees $10,664.29
Printing and engraving expenses $ 1,000(1)
Accounting fees and expenses $ 20,000(1)
Legal fees and expenses $100,000(1)
Transfer agent and registrar fees $ 2,000(1)
Fees and expenses for qualification under state $ 1,000(1)
securities laws
Miscellaneous $ 1,000(1)
Total $135,664.29
(1) We have estimated these amounts
II-1
Item 26 RECENT SALES OF UNREGISTERED SECURITIES
On January 5, 2006, we issued 2,000,000 shares of our common stock to Bristol
Investment Fund Ltd. pursuant to a settlement agreement and mutual release
pursuant to Rule 506 of Regulation D under the Securities Act.
By conversion notice dated October 26, 2005, Crescent International Ltd. elected
to convert $79,439 of its discounted convertible debentures. In response, we
issued 2,837,107 shares of our common stock to pursuant to Rule 506 of
Regulation D under the Securities Act.
By notice of a warrant exercise dated October 20, 2005, Simon Archdale elected
to exercise 1,100,000 warrants. In response, we issued 1,100,000 shares of our
common stock to pursuant to Regulation S under the Securities Act.
By conversion notice dated August 23, 2005, Crescent International Ltd. elected
to convert $115,000 of its 8% convertible debentures plus accrued interest of
$19,626.67. In response, we issued 4,286,665 shares of our common stock to
Crescent International Ltd. pursuant to Rule 506 of Regulation D under the
Securities Act.
On June 30, 2005, we closed a $30 million securities purchase agreement with
Cornell Capital Partners, Highgate House Funds, Ltd. and LCC Global Limited, a
corporation organized under the laws of Cyprus. In accordance with the
securities purchase agreement, we issued, for a purchase price of $30 million,
(i) a 10% convertible debenture due June 23, 2008, with a principal balance of
$20 million, to Cornell Capital Partners, in trust for LCC Global, (ii) a 10%
convertible debenture due June 23, 2008, with a principal balance of $8 million,
to Cornell Capital Partners, in trust for LCC Global, and (iii) a 10%
convertible debenture due June 23, 2008, with a principal balance of $2 million,
to Highgate House Funds, in trust for LCC Global. We paid to Yorkville Advisors
LLC, the general partner of Cornell Capital Partners, a cash structuring fee of
$3 million in connection with this transaction.
On December 30, 2005, we, Starome Investments Limited, Xentennial Holdings
Limited, Staraim Enterprises Limited, Cornell Capital Partners, Highgate House
Funds and LCC Global amended and restated the 10% convertible debentures in an
aggregate principal amount of $30 million. We amended and restated the 10%
convertible debentures to (i) modify the terms of such 10% convertible
debentures, (ii) effect the transfer by (A) Cornell Capital Partners and LCC
Global to Starome Investments, a corporation organized under the laws of Cyprus,
of the 10% convertible debenture with the principal balance of $20 million, (B)
Cornell Capital Partners and LCC Global to Xentennial Holdings, a corporation
organized under the laws of Cyprus, of the 10% convertible debenture with the
principal balance of $8 million and (iii) effect the transfer by Highgate House
Funds and LCC Global to Staraim Enterprises, a corporation organized under the
laws of Cyprus, of the 10% convertible debenture with the principal balance of
$2 million.
On June 2, 2005, we issued 75,188 shares of our common stock to Newbridge
Securities Corporation as a placement agent fee on the Standby Equity
Distribution Agreement entered into on May 23, 2005.
On May 27, 2005, we closed a Securities Purchase Agreement with Cornell Capital
Partners, L.P., an accredited investor, in which Cornell Capital Partners agreed
to lend a principal amount of $1,500,000 to us in exchange for our 5%
convertible debenture. We issued the convertible debenture to the investor
pursuant to Rule 506 of Regulation D as promulgated under the Securities Act of
1933, as amended (the "Act"), and/or Section 4(2) of the Act.
By notice of a warrant exercise dated May 12, 2005, William Page elected to
exercise 81,327 warrants. In response, we issued 32,889 shares of our common
stock to pursuant to Rule 506 of Regulation D under the Securities Act.
On May 11, 2005, we issued 1,495,195 shares of our common stock pursuant to a
redemption, settlement and release agreement with Goldplate Investment Partners
pursuant to Rule 506 of Regulation D under the Securities Act.
By notice of a warrant exercise dated May 5, 2005, Morval Bank & Trust Cayman,
Ltd, elected to exercise 714,286 warrants. In response, we issued 714,286 shares
of our common stock to pursuant to Regulation S under the Securities Act.
On May 4, 2005, we issued 10,641,670 shares of our common stock pursuant to a
redemption, settlement and release agreement with Alpha Capital
Aktiengesellschaftt pursuant to Rule 506 of Regulation D under the Securities
Act.
On May 2, 2005, we issued 4,143,268 shares of our common stock pursuant to a
redemption, settlement and release agreement with Gamma Opportunity Capital
Partners pursuant to Rule 506 of Regulation D under the Securities Act.
By notice of a cashless warrant exercise dated April 28, 2005, Crescent
International Ltd. elected to exercise 3,846,154 warrants. In response, we
issued 3,205,128 shares of our common stock to Crescent International Ltd.
pursuant to Rule 506 of Regulation D under the Securities Act.
By notice of a cashless warrant exercise dated April 25, 2005, HPC Capital
Management elected to exercise 250,000 warrants. In response, we issued 197,368
shares of our common stock to HPC Capital Management pursuant to Rule 506 of
Regulation D under the Securities Act.
By notice of a cashless warrant exercise dated April 25, 2005, Talisman
Management Limited elected to exercise 1,000,000 warrants. In response, we
issued 789,474 shares of our common stock to Talisman Management Limited
pursuant to Rule 506 of Regulation D under the Securities Act.
II-2
By notice of a cashless warrant exercise dated April 25, 2005, Palisades Master
Fund, L.P. elected to exercise 3,290,596 warrants. In response, we issued
2,597,839 shares of our common stock to Palisades Master Fund, L.P. pursuant to
Rule 506 of Regulation D under the Securities Act.
By conversion notice dated April 20, 2005, Crescent International Ltd. elected
to convert $59,700 of convertible debentures. In response, we issued 2,132,143
shares of our common stock to Crescent International Ltd. pursuant to Rule 506
of Regulation D under the Securities Act.
By conversion notice dated April 20, 2005, Palisades Master Fund, L.P. elected
to convert $3,864 of convertible debentures. In response, we issued 138,000
shares of our common stock to Palisades Master Fund., L.P. pursuant to Rule 506
of Regulation D under the Securities Act.
By conversion notice dated April 20, 2005, Goldplate Investment Partners elected
to convert $66,080 of convertible debentures. In response, we issued 2,360,000
shares of our common stock to the debenture holder pursuant to Rule 506 of
Regulation D under the Securities Act.
On March 23, 2005, we closed on a transaction pursuant to which we entered into
an Investment Agreement dated as of March 22, 2005 with one accredited investor
in which we sold an aggregate of $4,000,000 of our Series A 5% Convertible
preferred stock, no par value per share). The purchase price was $4,000,000, of
which $2,850,000 was previously funded pursuant to certain transaction documents
we previously entered into with the investor. These transaction documents were
terminated by the parties on March 23, 2005 (see Item 1.02 below). On March 23,
2005, we received net proceeds of $1,015,000, after deducting the $2,850,000
which was previously funded, a $115,000 commitment fee and legal fees in the
amount of $20,000. We issued the preferred stock to the investor pursuant to
Rule 506 of Regulation D as promulgated under the Securities Act of 1933, as
amended (the "Act"), and/or Section 4(2) of the Act.
By conversion notice dated March 21, 2005, a holder of discounted convertible
debentures (described below) elected to convert $65,800 of outstanding under the
convertible debentures under rule 144. In response, we issued 2,350,000 shares
of our common stock to the debenture holder pursuant to Rule 506 of Regulation D
under the Securities Act of 1933, as amended.
By conversion notice dated March 18, 2005, a holder of discounted convertible
debentures (described below) elected to convert $30,000 of outstanding under the
convertible debentures under rule 144. In response, we issued 1,071,429 shares
of our common stock to the debenture holder pursuant to Rule 506 of Regulation D
under the Securities Act of 1933, as amended.
By conversion notice dated March 11, 2005, a holder of discounted convertible
debentures (described below) elected to convert $20,000 of outstanding under the
convertible debentures under rule 144. In response, we issued 714,286 shares of
our common stock to the debenture holder pursuant to Rule 506 of Regulation D
under the Securities Act of 1933, as amended.
By conversion notice dated January 20, 2005, a holder of discounted convertible
debentures (described below) elected to convert $63,000 of outstanding principal
under the convertible debentures under rule 144. In response, we issued
2,250,000 shares of our common stock to the debenture holder pursuant to Rule
506 of Regulation D under the Securities Act of 1933, as amended.
By conversion notice dated January 3, 2005, a holder of 8% convertible
debentures (described below) elected to convert $30,000 of principal and $3,573
in accrued interest outstanding under the convertible debentures under rule 144.
In response, we issued 1,200,337 shares of our common stock to the debenture
holder pursuant to Rule 506 of Regulation D under the Securities Act of 1933, as
amended.
On December 15, 2004, we closed on a transaction pursuant to which the Company
entered into a Subscription Agreement with several accredited investors in which
the investors agreed to lend a principal amount of $195,000 to us in exchange
for our 5% convertible debentures. We issued the convertible debentures to the
investors pursuant to Rule 506 of Regulation D as promulgated under the
Securities Act of 1933, as amended (the "Act"), and/or Section 4(2) of the Act.
On December 15, 2004 we entered into a Securities Purchase Agreement with
Cornell Capital Partners, L.P., an accredited investor, in which the investor
agreed to lend a principal amount of $2,500,000 to us in exchange for our 5%
convertible debenture. We issued the convertible debenture to the investor
pursuant to Rule 506 of Regulation D as promulgated under the Securities Act of
1933, as amended (the "Act"), and/or Section 4(2) of the Act.
By conversion notice dated December 2, 2004, a holder of 8% convertible
debentures (described below) elected to convert $30,000 of principal and $3,359
in accrued interest outstanding under the convertible debentures under rule 144.
In response, we issued 1,188,095 shares of our common stock to the debenture
holder pursuant to Rule 506 of Regulation D under the Securities Act of 1933, as
amended.
On October 25, 2004, we issued 7,500,000 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.03 per share, in payment
of a $225,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On October 14, 2004, we issued 10,714,286 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.028 per share, in
payment of a $300,000 draw down on the equity line of credit. We relied on Rule
506 of Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect
this issuance.
On October 5, 2004, we issued 12,500,000 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.032 per share, in
payment of a $400,000 draw down on the equity line of credit. We relied on Rule
506 of Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect
this issuance.
II-3
On September 27, 2004, we issued 12,500,000 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.04 per share, in payment
of a $500,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
Between September 22, 2004 and October 4, 2004, we issued 56,833,691 shares to
the escrow agent of the holders of the discounted convertible debentures of
which 14,127,787 shares were returned to treasury. 18,226,274 of these shares
were issued pursuant to the exercise of warrants at a price of $0.03 per share
and 24,479,630 were issued at an effective price of $0.03 per share to repay a
portion of the discounted convertible debenture. We relied on section 3(a)(9)
and/or section 4(2) of the Securities Act of 1933 in issuing these shares.
Between September 17, 2004 and September 22, 2004, we issued 16,667,667 shares
of our common stock to the purchaser in a standby equity facility at a price of
$0.03 per share, in payment of a $500,000 draw down on the equity line of
credit. We relied on Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933 to effect this issuance.
On September 8, 2004, we issued 6,756,757 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.037 per share, in
payment of a $250,000 draw down on the equity line of credit. We relied on Rule
506 of Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect
this issuance.
On August 30, 2004, we issued 6,250,000 shares of our common stock to the
purchaser in a standby equity facility at a price of $0.04 per share, in payment
of a $250,000 draw down on the equity line of credit and 58,824 shares of common
stock as a result of a miscalculation of shares necessary to close the Advance
Notice dated August 13, 2004. We relied on Rule 506 of Regulation D and/or
Section 4(2) of the Securities Act of 1933 to effect this issuance.
On August 20, 2004, we issued 2,941,176 shares of our common stock to the
purchaser in a standby equity facility at a price of $.051 per share, in payment
of a $150,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On August 9, 2004, we issued 3,000,000 shares of our common stock to the
purchaser in a standby equity facility at a price of $.050 per share, in payment
of a $150,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On July 21, 2004, we issued 4,237,288 shares of our common stock to the
purchaser in a standby equity facility at a price of $.059 per share, in payment
of a $250,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On July 12, 2004, we issued 3,846,154 shares of our common stock to the
purchaser in a standby equity facility at a price of $.065 per share, in payment
of a $250,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On July 1, 2004, we issued to Hawk Associates, Inc., a warrant to purchase up to
250,000 shares of our common stock, exercisable at any time during the five-year
period ending on June 30, 2009, at an exercise price of $0.20 per share. We
issued these warrants pursuant to Rule 506 and/or section 4(2) of the Securities
Act of 1933, in partial payment of an engagement fee.
On June 22, 2004, we issued 2,777,778 shares of our common stock to the
purchaser in a standby equity facility at a price of $.09 per share, in payment
of a $250,000 draw down on the equity line of credit. We relied on Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933 to effect this
issuance.
On June 1, 2004, we issued a total of 1,399,676 shares of our common stock, at a
deemed issue price of $0.104 per share, to the holders of the discounted
convertible debentures (described below), upon exercise of our right to effect
payment of the first monthly redemption amount due under the discounted
convertible debentures in shares of our common stock. We relied on section
3(a)(9) and/or section 4(2) of the Securities Act of 1933 in issuing these
shares.
On May 25, 2004, we issued 3,509,615 shares of our common stock to the purchaser
in standby equity facility at a deemed price of $0.104 per share, in payment of
a commitment fee and 96,154 shares of our common stock as a placement fee. We
relied on Rule 506 of Regulation D and/or Section 4(2) of the Securities Act of
1933 to effect this issuance.
By conversion notice effective June 17, 2004, a holder of discounted convertible
debentures elected to convert $50,000 outstanding under the convertible
debentures. In response, we issued 480,769 shares of our common stock to the
debenture holder relying on section 3(a)(9) of the Securities Act of 1933.
II-4
By conversion notice effective June 14, 2004, holders of discounted convertible
debentures elected to convert $208,000 outstanding under the convertible
debentures. In response, we issued 2,000,000 shares of our common stock to the
debentures holder relying on section 3(a)(9) of the Securities Act of 1933.
By conversion notice effective June 8, 2004, a holder of 8% convertible
debentures (described below) elected to convert $50,000 of principal and $3,633
in accrued interest outstanding under the convertible debentures. In response,
we issued 521,444 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933. We also issued 192,307 shares of
our common stock to the debenture holder relying on section 3(a)(9) of the
Securities Act of 1933 that were owed from the April 15, 2004 conversion notice
(described below).
On May 25, 2004, 3,509,615 shares of our common stock were issued as a
commitment fee ($365,000) and 96,154 shares of our common stock were issued as a
placement fee ($10,000) to arrange a $15 million equity line of credit.
On May 19, 2004, we entered into a $15 million Standby Equity Distribution
Agreement with selling stockholder relying on Rule 506 of Regulation D and/or
Section 4(2) of the Securities Act of 1933. We may draw down the facility at its
discretion provided that each draw down is at least seven trading days apart,
and the maximum amount that may be drawn down at any one time is limited to
$500,000 and advance notice is required. The term of the equity line of credit
is 24 months. At the time of draw down against the line of credit we will issue
common shares equal to that amount advanced divided by 98% of the lowest bid
price on the five consecutive days after the date of notice. On each date of
advance of funds, we are to pay 5% placement fee. We may draw down the facility
at its discretion upon effectiveness of the registration statement to be filed
in the appropriate form under the Securities Act of 1933 for the purpose of
registering the shares issuable upon the draw down of the credit facility.
On April 30, 2004, 500,000 warrants were exercised at an exercise price of
$0.104 per share to a non-U.S. person upon exercise of warrants previously
granted to it. The shares were issued in an offshore transaction relying on
Regulation S under the Securities Act of 1933.
By conversion notice effective April 15, 2004, a holder of 8% convertible
debentures (described below) elected to convert $100,000 of principal and $6,067
in accrued interest outstanding under the convertible debentures. In response,
we issued 823,680 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
On April 2, 2004, we issued a total of 1,399,676 shares of our common stock, at
a deemed issue price of $0.1040 per share, to the holders of the discounted
convertible debentures (described below), upon exercise of our right to effect
payment of the first monthly redemption amount due under the discounted
convertible debentures in shares of our common stock. We relied on section
3(a)(9) and/or section 4(2) of the Securities Act of 1933 in issuing these
shares.
On March 2, 2004, we issued a total of 1,033,851 shares of our common stock, at
a deemed issue price of $0.1408 per share, to the holders of the discounted
convertible debentures (described below), upon exercise of our right to effect
payment of the first monthly redemption amount due under the discounted
convertible debentures in shares of our common stock. We relied on section
3(a)(9) and/or section 4(2) of the Securities Act of 1933 in issuing these
shares.
On February 3, 2004, we issued a total of 812,045 shares of our common stock, at
a deemed issue price of $0.1613 per share, to six of the holders of the
discounted convertible debentures (described below), upon exercise of our right
to effect payment of the first monthly redemption amount due under the
discounted convertible debentures in shares of our common stock. We relied on
section 3(a)(9) and/or section 4(2) of the Securities Act of 1933 in issuing
these shares.
By conversion notice effective January 27, 2004, a holder of 8% convertible
debentures (described below) elected to convert $84,000 of principal and $3,621
in accrued interest outstanding under the convertible debentures. In response,
we issued 667,331 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated January 12, 2004, a holder of 8% convertible
debentures (described below) elected to convert $130,000 of principal and $5,171
in accrued interest outstanding under the convertible debentures. In response,
we issued 1,030,965 shares of our common stock to the debenture holder relying
on section 3(a)(9) of the Securities Act of 1933.
On December 24, 2003, we closed a private placement of discounted convertible
debentures in the aggregate principal amount of $3,493,590, maturing April 1,
2006, to seven accredited investors pursuant to Rule 506 and/or section 4(2) of
the Securities Act of 1933, for gross proceeds of $2,725,000. Principal under
each discounted convertible debenture may be converted by the holder in whole or
in part and from time to time at a conversion price of $0.22 per share, subject
to adjustment as set forth in the convertible debentures. The discounted
convertible debentures are subject to mandatory redemption in equal monthly
payments. We may elect to make the monthly redemption payments in shares of our
common stock at a conversion price equal to the lesser of (a) the set price of
$0.22 per share (subject to adjustment pursuant to the anti-dilution provisions
contained in the debentures), and (b) 85% of the average of the 20 closing
prices of our common stock immediately preceding the applicable monthly
redemption date, provided that certain conditions are met. In connection with
this private placement, each purchaser of discounted convertible debentures also
received a warrant to purchase that number of shares of our common stock equal
to 50% the principal amount of such purchaser's convertible debentures divided
by the set conversion price of $0.22 per share. Warrants to purchase an
aggregate total of 7,939,978 shares of our common stock were issued, and are
exercisable until December 24, 2006 at an exercise price of $0.25 per share.
II-5
On December 24, 2003, we issued to HPC Capital Management, a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934, a
warrant to purchase up to 109,000 shares of our common stock, exercisable until
December 24, 2006, at an exercise price of $0.25 per share. We issued these
warrants pursuant to Rule 506 and/or section 4(2) of the Securities Act of 1933,
in partial payment of placement fee in connection with the private placement of
the discounted convertible debentures.
On November 10, 2003, in consideration for their agreement to immediately
exercise a total of 7,478,635 outstanding warrants at a reduced exercise price
of $0.1771 per share, we issued to three of the four purchasers of our 7%
convertible debentures (described below), a total of 7,478,635 additional
warrants exercisable for a period of five years at an exercise price of $0.1771
per share. The outstanding warrants that were exercised were originally issued
with an exercise price of $0.2645 per share. We issued a total of 7,478,635
shares of our common stock upon the exercise of the outstanding warrants for
gross proceeds of $1,324,466, and the 7,478,635 additional warrants, pursuant to
Rule 506 and/or section 4(2) of the Securities Act of 1933. Each of the
purchasers represented that it is an "accredited investor" as defined in Rule
501 of the Securities Act of 1933.
On October 27, 2003, in consideration for its agreement to immediately exercise
a total of 3,290,596 outstanding warrants at a reduced exercise price of $0.20
per share, we issued to one of the four purchasers of the 7% convertible
debentures, Palisades Master Fund, a total of 3,290,596 additional warrants
exercisable for a period of five years at an exercise price of $0.20 per share.
The outstanding warrants that were exercised were originally issued with an
exercise price of $0.2645 per share. We issued a total of 3,290,596 shares of
our common stock upon the exercise of the outstanding warrants for gross
proceeds of $658,119, and the 3,290,596 additional warrants, pursuant to Rule
506 and/or section 4(2) of the Securities Act of 1933. The purchaser represented
that it is an "accredited investor" as defined in Rule 501 of the Securities Act
of 1933. In light of the reduced exercise price of the additional warrants
issued to the other three warrant holders, we subsequently agreed to reduce the
exercise price of the 3,290,596 additional warrants issued to Palisades Master
Fund, and the exercise price of 194,000 warrants previously issued to HPC
Capital Management, from $0.20 to $0.1771 per share. All other terms of the
warrants, including their expiry date, remain the same. In addition, we paid
$75,354.65 to Palisades Master Fund as an early participation bonus, being an
amount equal to the difference between the aggregate exercise price that
Palisades Master Fund paid upon the exercise of its 3,290,596 outstanding
warrants at $0.20 per share and the aggregate exercise price that Palisades
Master Fund would have paid if it had had the benefit of the reduced exercise
price of $0.1771 per share.
On October 27, 2003, in consideration of its agreement to immediately exercise a
total of 194,000 outstanding warrants, we issued to HPC Capital Management, a
broker dealer registered pursuant to section 15 of the Securities Exchange Act
of 1934, a total of 194,000 additional warrants, exercisable for a period of
five years at an exercise price of $0.20 per share. We issued these warrants
pursuant to Rule 506 and/or section 4(2) of the Securities Act of 1933. HPC
Capital Management represented that it is an "accredited investor" as defined in
Rule 501 of the Securities Act of 1933.
By conversion notice dated October 21, 2003, a holder of 8% convertible
debentures (described below) elected to convert $75,000 of principal and $1,600
in accrued interest outstanding under the convertible debentures. In response,
we issued 585,525 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated October 10, 2003, a holder of 7% convertible
debentures (described below) elected to convert $66,667 of principal and $1,503
in accrued interest outstanding under the convertible debentures. In response,
we issued 522,626 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated October 9, 2003, a holder of 8% convertible
debentures (described below) elected to convert $300,000 of principal and $5,333
in accrued interest outstanding under the convertible debentures. In response,
we issued 2,343,858 shares of our common stock to the debenture holder relying
on section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated October 6, 2003, a holder of 8% convertible
debentures (described below) elected to convert $156,000 of principal and $2,808
in accrued interest outstanding under the convertible debentures. In response,
we issued 1,219,366 shares of our common stock to the debenture holder relying
on section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated October 3, 2003, a holder of 7% convertible
debentures (described below) elected to convert $100,000 of principal and $2,119
in accrued interest outstanding under the convertible debentures. In response,
we issued 784,164 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933
By conversion notice dated October 1, 2003, a holder of 8% convertible
debentures (described below) elected to convert $200,000 of principal and $3,778
in accrued interest outstanding under the convertible debentures. In response,
we issued 1,562,763 shares of our common stock to the debenture holder relying
on section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated September 24, 2003, a holder of 8% convertible
debentures (described below) elected to convert $100,000 of principal and $2,061
in accrued interest outstanding under the convertible debentures. In response,
we issued 783,930 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
By conversion notice dated September 10, 2003, a holder of 7% convertible
debentures (described below) elected to convert $130,000 of principal and $1,560
in accrued interest outstanding under the convertible debentures. In response,
we issued 1,010,612 shares of our common stock to the debenture holder relying
on section 3(a)(9) of the Securities Act of 1933.
II-6
By conversion notices dated September 9, 2003 and September 10, 2003, a holder
of 7% convertible debentures (described below) elected to convert $70,000 and
$50,000 of principal and $840 and $611 in accrued interest outstanding under the
convertible debentures. In response, we issued 932,769 shares of our common
stock to the debenture holder relying on section 3(a)(9) of the Securities Act
of 1933.
By conversion notice dated August 27, 2003, a holder of 7% convertible
debentures (described below) elected to convert $80,000 of principal and $764 in
accrued interest outstanding under the convertible debentures. In response, we
issued 620,694 shares of our common stock to the debenture holder relying on
section 3(a)(9) of the Securities Act of 1933.
On August 15, 2003, we issued to Epoch Financial Group, Inc., an accredited
investor, a warrant to purchase up to 300,000 shares of our common stock,
exercisable at any time during the five-year period ending on August 15, 2008,
at an exercise price of $0.17 per share. We issued these warrants pursuant to
Rule 506 and/or section 4(2) of the Securities Act of 1933, in partial payment
of an engagement fee.
On August 14, 2003, we issued to HPC Capital Management, a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934, a
total of 200,000 fully-paid and non-assessable shares of our common stock at a
deemed price of $0.17 per share. We issued these shares pursuant to Rule 506
and/or section 4(2) of the Securities Act of 1933, in partial payment of an
engagement fee.
By conversion notice dated July 30, 2003, a holder of 7% convertible debentures
(described below) elected to convert $50,000 of principal and $486 in accrued
interest outstanding under the convertible debentures. In response, we issued
391,674 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notice dated July 28, 2003, a holder of 7% convertible debentures
(described below) elected to convert $300,000 of principal and $2,392 in accrued
interest outstanding under the convertible debentures. In response, we issued
2,323,648 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
On July 25, 2003, we issued at the direction of West Sussex Trading, Inc. a
total of 224,000 warrants to three accredited investors in partial payment of
placement fees, relying on Rule 506 of Regulation D, Section 4(2) of the
Securities Act of 1933 and/or Regulation S under the Securities Act of 1933.
Each warrant is exercisable until July 25, 2008 at an exercise price of $0.10
per share.
On July 23, 2003, we entered into a $15 million equity line of credit facility
with an accredited investor relying on Rule 506 of Regulation D and/or Section
4(2) of the Securities Act of 1933. We may, in our discretion, draw down amounts
under the facility from time to time, subject to various conditions and certain
limitations. We will receive the proceeds of each draw down under the equity
line of credit facility in payment for shares of our common stock, to be issued
to the investor in two tranches for each draw down. The number of shares of our
common stock so issuable will be determined with reference to a draw down
pricing period of 20 consecutive trading days, as specified in the draw down
notice, subject to a threshold price to be designated by us in connection with
the draw down as the lowest price at which we will sell shares of common stock
to the investor. Each draw down will be limited to the greater of: (a) $300,000
and (b) 12.5% of the average of the daily volume weighted average prices of our
common stock during the 30-day period preceding the draw down notice, multiplied
by the total aggregate trading volume of our common stock during such 30-day
period; subject to a minimum draw down amount of $300,000. Only one draw down is
permitted under the equity line during each draw down pricing period of 20
consecutive trading days, and there must be at least six trading days between
each draw down pricing period. We may not draw down the facility unless the
shares issuable upon the draw down of the credit facility have been registered
on an effective registration statement filed in the appropriate form under the
Securities Act of 1933.
On July 22, 2003, relying on Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933, we issued to the investor under the $15 million equity
line of credit, as a commitment fee, a warrant to purchase up to 1,000,000
shares of our common stock, exercisable until July 23, 2006 at an exercise price
of $0.1955 per share.
On July 22, 2003, we issued to HPC Capital Management, a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934, a
warrant to purchase up to 250,000 shares of our common stock, exercisable until
July 23, 2006, at an exercise price of $0.1955 per share. We issued these
warrants pursuant to Rule 506 and/or section 4(2) of the Securities Act of 1933,
in partial payment of placement fee in connection with the $15 million equity
line of credit.
On July 17, 2003, we closed a private placement of 8% convertible debentures to
four accredited investors pursuant to Rule 506 and/or section 4(2) of the
Securities Act of 1933, for gross proceeds of $1,700,000. Principal under the
convertible debentures in the aggregate principal amount of $1,700,000 may be
converted by the holder in whole or in part and from time to time at a
conversion price of $0.13 per share, and interest may be converted at a price
per share equal to 90% of the average closing bid price of our common stock
during the 20 trading days immediately preceding the conversion date, in each
case subject to adjustment as set forth in the convertible debentures. In
connection with this private placement, each of the purchasers of the 8%
convertible debentures also received warrants to purchase that number of shares
of our common stock determined by dividing the principal amount of such
purchaser's convertible debentures by the base conversion price of $0.13 per
share, for an aggregate total of 13,076,922 warrants exercisable until July 17,
2008 at $0.1771 per share.
On July 17, 2003, we issued to HPC Capital Management, a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934, a
warrant to purchase up to 68,000 shares of our common stock, exercisable until
July 17, 2008, at an exercise price of $0.1771 per share. We issued these
warrants pursuant to Rule 506 and/or section 4(2) of the Securities Act of 1933,
in partial payment of placement fee in connection with the private placement of
8% convertible debentures.
II-7
By conversion notice dated July 14, 2003, a holder of 7% convertible debentures
(described below) elected to convert $200,000 of principal and $1,180 in accrued
interest outstanding under the convertible debentures. In response, we issued
1,540,205 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notice dated July 11, 2003, a holder of 7% convertible debentures
(described below) elected to convert $305,555 of principal and $2,258 in accrued
interest outstanding under the convertible debentures. In response, we issued
2,366,124 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notice dated July 10, 2003, a holder of 7% convertible debentures
(described below) elected to convert $279,167 of principal and $1,628 in accrued
interest outstanding under the convertible debentures. In response, we issued
2,166,062 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notice dated June 30, 2003, a holder of 7% convertible debentures
(described below) elected to convert $200,000 of principal and $1,580 in accrued
interest outstanding under the convertible debentures. In response, we issued
1,543,469 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notices dated June 17, 2003, three holders of 7% convertible
debentures (described below) elected to convert a total of $356,111 of principal
and $957 in accrued interest outstanding under the convertible debentures. In
response, we issued a total of 2,729,486 shares of our common stock to the
debenture holders relying on Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933.
By conversion notice dated June 12, 2003, a holder of 7% convertible debentures
(described below) elected to convert $260,000 of principal and $358 in accrued
interest outstanding under the convertible debentures. In response, we issued
2,008,821 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
By conversion notices dated June 11, 2003, two holders of 7% convertible
debentures (described below) elected to convert a total of $387,500 of principal
and $1,249 in accrued interest outstanding under the convertible debentures. In
response, we issued a total of 2,988,859 shares of our common stock to the
debenture holders relying on Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933.
By conversion notice dated June 9, 2003, a holder of 7% convertible debentures
(described below) elected to convert $195,000 of principal and $758 in accrued
interest outstanding under the convertible debentures. In response, we issued
1,505,754 shares of our common stock to the debenture holder relying on Rule 506
of Regulation D and/or Section 4(2) of the Securities Act of 1933.
On May 27, 2003, we issued 1,050,000 shares of common stock to a non-U.S. person
upon exercise of warrants previously granted to it. The shares were issued in an
offshore transaction relying on Regulation S under the Securities Act of 1933.
On May 27, 2003, we issued to Impact Capital Partners Limited, a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934,
warrants to purchase up to an aggregate of 168,325 shares of our common stock,
exercisable at any time during the five-year period ending on May 27, 2008, at
exercise prices of: (a) with respect to 23,881 warrants, $0.74 per share; (b)
with respect to 44,444 warrants, $0.40 per share; and (c) with respect to
100,000 warrants, $0.22 per share. We issued these warrants pursuant to Rule 506
and/or section 4(2) under the Securities Act of 1933, in partial payment of a
placement fee in connection with the private placement of certain convertible
debentures and the issuance of a short-term secured promissory note to Selling
stockholder.
On May 15, 2003, June 11, 2003 and June 17, 2003, we closed the constituent
tranches of a three-tranche private placement of 7% convertible debentures to
four accredited investors pursuant to Rule 506 and/or section 4(2) of the
Securities Act of 1933, for gross proceeds of $2,800,000. Principal under the
convertible debentures in the aggregate principal amount of $2,800,000 may be
converted by the holder in whole or in part and from time to time at a
conversion price of $0.13 per share, and interest may be converted at a price
per share equal to 90% of the average closing bid price of our common stock
during the 20 trading days immediately preceding the conversion date, in each
case subject to adjustment as set forth in the convertible debentures. In
connection with this private placement, each of the purchasers of the 7%
convertible debentures also received warrants to purchase that number of shares
of our common stock determined by dividing 50% of the principal amount of such
purchaser's convertible debentures by the base conversion price of $0.13 per
share, for an aggregate total of 10,769,231 warrants exercisable until May 19,
2008 at $0.2645 per share.
By conversion notice dated May 16, 2003, Cornell Capital Partners elected to
convert $100,000 of principal and $5,854.02 in accrued interest outstanding
under certain convertible debentures (described below) that were issued on
November 21, 2002 and January 31, 2003. The conversion price was $0.20. In
response, we issued 529,270 shares to Cornell Capital Partners relying on
Section 4(2) of the Securities Act of 1933.
On May 15, 2003, we issued to HPC Capital Management, a broker dealer registered
pursuant to section 15 of the Securities Exchange Act of 1934, a warrant to
purchase up to 112,000 shares of our common stock, exercisable at any time
during the five-year period ending on May 15, 2008, at an exercise price of
$0.13 per share. We also issued to HPC Capital Management a warrant to purchase
up to 14,000 shares of our common stock exercisable at any time until May 15,
2008 at an exercise price of $0.10 per share. We issued these warrants pursuant
to Rule 506 and/or section 4(2) of the Securities Act of 1933, in partial
payment of placement fees: (a) with reference to the warrant to purchase up to
112,000 shares of common stock, in connection with the private placement of the
7% convertible debentures; and (b) with reference to the warrant to purchase up
to 14,000 shares of our common stock, in connection with a private placement of
3,500,000 units (each consisting of one common share and one-half of a
non-transferable share purchase warrant), issued on March 31, 2003 at a price of
$0.10 per unit in an offshore transaction pursuant to Regulation S under the
Securities Act of 1933.
II-8
On May 15, 2003, we issued to Dunwoody Brokerage Services, Inc., a broker dealer
registered pursuant to section 15 of the Securities Exchange Act of 1934, a
warrant to purchase up to 100,000 shares of our common stock, exercisable at any
time during the five-year period ending on May 15, 2008, at an exercise price of
$0.135 per share. We issued these warrants pursuant to Rule 506 and/or section
4(2) under the Securities Act of 1933, in partial payment of a placement fee in
connection with the private placement of the 7% convertible debentures.
By conversion notice dated May 14, 2003, Cornell Capital Partners elected to
convert $125,000 of principal outstanding under certain convertible debentures
(described below) that were issued on November 21, 2002 and January 31, 2003.
The conversion price was $0.20. In response, we issued 625,000 shares to Cornell
Capital Partners relying on Section 4(2) of the Securities Act of 1933.
On May 7, 2003, we issued at the direction of West Sussex Trading, Inc. a total
of 40,000 warrants to three accredited investors in partial payment of placement
fees in connection with the private placement of 500,000 units on May 5, 2003
described below, relying on Rule 506 of Regulation D, Section 4(2) of the
Securities Act of 1933 and/or Regulation S under the Securities Act of 1933.
Each warrant is exercisable until May 7, 2008 at an exercise price of $0.10 per
share.
On May 7, 2003, we issued at the direction of West Sussex Trading, Inc. a total
of 57,143 warrants to four accredited investors in partial payment of placement
fees, relying on Rule 506 of Regulation D, Section 4(2) of the Securities Act of
1933 and/or Regulation S under the Securities Act of 1933. Each warrant is
exercisable until May 7, 2008 at an exercise price of $0.35 per share.
On May 5, 2003, we issued 500,000 units at a price of $0.10 per unit in an
offshore transaction pursuant to Regulation S under the Securities Act of 1933.
We realized gross cash proceeds of $50,000 from this private placement. Each
unit consists of one share of our common stock and two non-transferable share
purchase warrants. Each whole warrant entitles the holder to purchase an
additional share of our common stock at a price of $0.12 per share until April
30, 2004. In connection with this private placement, we have paid placement and
advisory fees of $4,000.
On May 6, 2003, we issued 850,000 shares at a deemed price of $0.21 per share to
an accredited investor and, as disclosed below, we repriced 1,000,000 warrants
previously issued to the investor on December 20, 2002, thereby reducing the
exercise price of the warrant from $0.70 per share to $0.10 per share. An
aggregate of 3,614,286 additional warrants previously issued to four other
investors in connection with the offshore private placements effected by us on
November 4, 2002, December 20, 2002 and February 14, 2003 (each of which are
discussed below), were also repriced to have an exercise price of $0.10 per
share. These transactions were all effected pursuant to Regulation S under the
Securities Act of 1933, and were effected in consideration of certain releases
provided by the investors to our company in respect of certain potential
unquantified claims threatened by the investors against our company.
On March 31, 2003, we issued 3,500,000 units at a price of $0.10 per unit in an
offshore transaction pursuant to Regulation S under the Securities Act of 1933.
Each unit consists of one common share and one-half of a non-transferable share
purchase warrant. Each whole warrant entitles the holder to purchase an
additional share of our common stock at a price of US$0.16 per share until March
31, 2005. We have paid a placement fee of $28,000 in connection with this
private placement.
By conversion notice dated March 14, 2003, Cornell Capital Partners elected to
convert $125,000 of principal outstanding under the convertible debentures that
were issued on November 21, 2002. The conversion price was $0.064, which is
equal to 80% of the lowest closing bid price for the five day period prior to
March 14, 2003. On March 20, 2003, we issued 1,953,125 shares to Cornell Capital
Partners relying on Section 4(2) of the Securities Act of 1933.
On April 3, 2003, we issued to Ian Bateman a total of 353,865 shares of our
common stock at a deemed price of $0.17 per share, in partial payment and
settlement of our obligation to pay him a termination allowance in connection
with the termination of his management agreement, without cause, on October 15,
2002. We issued these shares to Mr. Bateman in an offshore transaction pursuant
to Regulation S under the Securities Act of 1933.
On February 24, 2003, we issued 32,258 shares of our common stock to the
placement agent that we have engaged in connection with the $5 million equity
line of credit facility described below, as a commitment fee in consideration of
the placement agent's agreement to act in such capacity. We issued the shares to
the placement agent, an accredited investor, at a deemed price of $0.31 per
share relying on Rule 506 and/or Section 4(2) of the Securities Act of 1933.
On February 19, 2003, we entered into a $5 million equity line of credit
facility with an accredited investor relying on Rule 506 of Regulation D and/or
Section 4(2) of the Securities Act of 1933. This replaces and supersedes the
equity line of credit facility we entered into on November 21, 2002. We may draw
down the facility at its discretion provided that each draw down is at least
seven trading days apart, and the maximum amount that may be drawn down at any
one time is limited to $70,000 and advance notice is required. The term of the
equity line of credit is 24 months. At the time of draw down against the line of
credit we will issue common shares equal to that amount advanced divided by 99%
of the stock price on the five consecutive days after the date of notice. On
each date of advance of funds, we are to pay 1.5% of the advanced fund as a
commission. On the date of the execution of the contract, we issued shares worth
$300,000 based on the trading price of our stock on that day. We may draw down
the facility at its discretion upon effectiveness of the registration statement
to be filed in the appropriate form under the Securities Act of 1933 for the
purpose of registering the shares issuable upon the draw down of the credit
facility.
II-9
On February 14, 2003, we issued 714,286 units at a price of $0.35 per unit in an
offshore transaction pursuant to Regulation S under the Securities Act of 1933.
Each unit consists of one common share and one share purchase warrant. Each
warrant entitles the holder to purchase one additional common share at an
exercise price of $0.42 per share until February 13, 2006. Effective May 6,
2003, these warrants were repriced at $0.10 per share. Advisors to the private
placement are entitled to a commission of $20,000 plus 57,143 purchase warrants
exercisable at $0.35 per share until February 13, 2008. Of the 57,143 share
purchase warrants, 9,524 were issued pursuant to one accredited person pursuant
to Regulation D, Section 4(6) and/or Section 4(2) of the Securities Act of 1933
and 47,619 were issued to three persons in an offshore transaction pursuant to
Regulation S of the Securities Act of 1933.
On February 12, 2003, Cornell Capital Partners elected to convert $40,000 of
principal outstanding under the convertible debentures that were issued on
November 21, 2002. The conversion price was $0.256, which is equal to 80% of the
lowest closing bid price for the five day period prior to February 12, 2003. We
issued 156,250 shares to Cornell Capital Partners relying on Rule 506 and/or
Section 4(2) of the Securities Act of 1933.
On February 10, 2003, Cornell Capital Partners elected to convert $10,000 of
principal outstanding under the convertible debentures that were issued on
November 21, 2002. The conversion price was $0.28, which is equal to 80% of the
lowest closing bid price for the five day period prior to February 10, 2003. We
issued 35,714 shares to Cornell Capital Partners relying on Rule 506 and/or
Section 4(2) of the Securities Act of 1933.
On February 3, 2003, we granted stock options to purchase an aggregate of up to
26,300 shares of our common stock at $0.37 per share. The options have a five
year term and were granted to two of our directors in reliance upon Rule 506 of
Regulation D and/or Section 4(2) of the Securities Act of 1933.
On January 31, 2003, we issued a convertible debenture to a selling stockholder,
an accredited investor, relying on Rule 506 of Regulation D and/or Section 4(2)
of the Securities Act of 1933. This constituted the second and final tranche of
a $400,000 private placement effected by us pursuant to a Securities Purchase
Agreement dated November 21, 2002. We issued a single convertible debenture
maturing November 21, 2004 and having a face principal amount of $200,000. The
convertible debenture was issued at an 8% discount, for gross proceeds of
$184,000. Our obligations under the convertible debentures were secured against
all of our present and after-acquired personal property, assets and undertaking.
Such security interest was subordinated to the security interest previously
granted by us to TRW Inc. in all of our present and after-acquired personal
property, assets and undertaking.
On January 30, 2003, we granted stock options to purchase an aggregate of up to
118,000 shares of our common stock. 114,000 options vest immediately and if
exercised before January 30, 2004 the exercise price is $0.36, if exercised
after January 30, 2004 but before January 30, 2005 the exercise price is $0.43
and if exercised after January 30, 2005, the exercise price is $0.52. Of the
other 4,000 options, 1,334 vest immediately at an exercise price of $0.36, 1,333
vest on January 2, 2004 at an exercise price of $0.43 and 1,333 vest on January
2, 2005 at an exercise price of $0.52. The options have a five year term and
were granted to five of our directors, officers and/or employees in reliance
upon either Regulation S or Rule 506 of Regulation D and/or Section 4(2) of the
Securities Act of 1933.
On January 15, 2003, we issued 300,000 share purchase warrants in payment of a
placement fee related to the private placement of units on November 4, 2002 and
December 20, 2002. We issued 236,667 warrants in an offshore transaction to
three non-U.S. persons in reliance upon Regulation S of the Securities Act of
1933. We issued 63,333 warrants to one accredited person pursuant to Regulation
D, Section 4(6) and/or Section 4(2) of the Securities Act of 1933. 160,000 of
the warrants are exercisable at $0.50 per share until November 4, 2007, 60,000
of the warrants are exercisable at $0.67 until December 15, 2007 and 80,000 of
the warrants are exercisable at $0.70 per share until December 15, 2007.
On January 2, 2003, we granted stock options to acquire an aggregate of up to
18,000 shares of our common stock. 6,000 of the options are exercisable at $1.00
per share, 6,000 vest on January 2, 2004 and are exercisable at $1.20 per share
and 6,000 vest on January 2, 2005 and are exercisable at $1.44 per share. The
options have a five year term and were granted to an employee in reliance on
Regulation S and/or Section 4(2) of the Securities Act of 1933.
On December 20, 2002, we issued 750,000 units at a price of $0.67 per unit in an
offshore transaction pursuant to Regulation S under the Securities Act of 1933.
Each unit consists of one common share and one share purchase warrant. Each
warrant entitles the holder to purchase one additional common share at an
exercise price of $0.85 per share until December 15, 2005. Effective May 6,
2003, these warrants were repriced at $0.10 per share. Advisors to the private
placement were paid placement and advisory fees of $40,000.
On December 20, 2002, we issued 1,000,000 units at a price of $0.70 per unit in
an offshore transaction pursuant to Regulation S under the Securities Act of
1933. Each unit consists of one common share and one share purchase warrant.
Each warrant entitles the holder to purchase one additional common share at an
exercise price of $0.70 per share until December 15, 2005. Effective May 6,
2003, these warrants were repriced at $0.10 per share. Advisors to the private
placement were paid placement and advisory fees of $56,000.
II-10
Item 27 EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
- ------- ---------------------------------------------------------------------
3.1 Certificate of Incorporation of TTC/Truck Tech Corp. dated September
8, 1987 (1)
3.2 Memorandum and Articles of TTC/Truck Tech Corp. (1)
3.3 Memorandum of TTC/Truck Tech Corp. dated September 2, 1987 (1)
3.4 Altered Memorandum of TTC/Truck Tech Corp. dated October 25, 1991 (1)
3.5 Certificate of Change of Name from TTC/Truck Tech Corp. to UniComm
Signal Inc. dated April 13, 1994.(1)
3.6 Certificate of Change of Name from UniComm Signal Inc. to SmarTire
Systems Inc. dated December 24, 1997.(1)
3.7 Special Resolution and Altered Memorandum of UniComm Signal Inc.
dated October 28, 1994.(1)
3.8 Special Resolution and Altered Memorandum of UniComm Signal Inc.
dated January 17, 1997.(1)
3.9 Special Resolution and Altered Memorandum of SmarTire Systems Inc.
dated November 17, 1995.(1)
3.10 Special Resolution and Altered Memorandum of SmarTire Systems Inc.
dated January 16, 1998.(1)
3.11 Special Resolution and Altered Memorandum of SmarTire Systems Inc.
dated December 5, 2000.(2)
3.12 Substituted Articles of SmarTire Systems Inc. adopted December 5,
2000.(2)
3.13 Articles of Continuance, dated January 29, 2003 and effective
February 6, 2003.(3)
3.14 Certificate of Amendment issued to SmarTire Systems Inc. by the Yukon
Registrar of Corporations effective December 15, 2003 and attached
Articles of Amendment of SmarTire Systems Inc. dated December 11,
2003.(4)
3.15 Certificate of Registration of Restated Articles issued to SmarTire
Systems Inc. by the Yukon Registrar of Corporations effective
December 15, 2003, and attached Restated Articles of Incorporation of
SmarTire Systems Inc. dated December 11, 2003.(4)
3.16 By-Law No. 1, dated February 6, 2003.(3)
10.1 Standby Equity Distribution Agreement dated May 19, 2004.(5)
10.2 Registration Rights Agreement dated May 19, 2004.(5)
10.3 Escrow Agreement with Cornell Capital Partners, LP.(5)
10.4 Dealer and Supply Agreement between SmarTire Systems Inc, Chu Chang
International Ltd, Beijing Boom Technology Co. Ltd. dated as of June
3, 2004.(6)
II-11
10.5 Forbearance and Escrow Agreement dated as of September 24, 2004.(7)
10.6 Promissory note dated as of November 16, 2004 with Cornell Capital
Partners, LP.(8)
10.7 Promissory note dated as of November 16, 2004 with Cornell Capital
Partners, LP.(8)
10.8 Form of Subscription Agreement and Prospective Purchaser
Questionnaire of SmarTire Systems Inc.(9)
10.9 Form of 5% Convertible Debenture SmarTire Systems Inc.(9)
10.10 Form of Redemption Warrant of SmarTire Systems Inc.(9)
10.11 Securities Purchase Agreement dated December 15, 2004 by and between
SmarTire Systems, Inc. and Cornell Capital Partners, L.P.(9)
10.12 Registration Rights Agreement dated December 15, 2004 by and between
SmarTire Systems, Inc. and Cornell Capital Partners, L.P.(9)
10.13 Form of 5% Convertible Debenture SmarTire Systems Inc.(9)
10.14 Form of Common Stock Purchase Warrant of SmarTire Systems Inc.(9)
10.15 2004 Non-US US Stock Incentive Plan of SmarTire Systems Inc.(9)
10.16 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Robert Rudman.(10)
10.17 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Allan Kozak.(10)
10.18 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Jeff Finkelstein.(10)
10.19 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Erwin Bartz.(10)
10.20 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Shawn Lammers.(10)
10.21 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and William Cronin.(10)
10.22 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Martin Gannon.(10)
10.23 Amendment Agreement dated February 3, 2005 between SmarTire Systems
Inc. and Johnny Christiansen.(10)
10.24 Registration Rights Agreement dated as of March 22, 2005 by and
between SmarTire Systems, Inc. and Cornell Capital Partners, L.P.(11)
10.25 Investment Agreement dated as of March 22, 2005 by and between
SmarTire Systems, Inc. and Cornell Capital Partners, L.P.(11)(12)
10.26 Termination Agreement dated as of March 22, 2005 by and between
SmarTire Systems, Inc. and Cornell Capital Partners, L.P.(11)
10.27 Redemption, settlement and release agreement dated April 27, 2005 by
and between SmarTire Systems Inc. and Palisades Master Fund, L.P. and
PEF Advisors, Ltd.(13)
II-12
10.28 Redemption, settlement and release agreement dated May 2, 2005 by and
between SmarTire Systems Inc. and Gamma Opportunity Partners.(13)
10.29 Redemption, settlement and release agreement dated May 4, 2005 by and
between SmarTire Systems Inc. and Alpha Capital Aktiengesellschaftt,
L.P.(13)
10.30 Redemption, settlement and release agreement dated May 13, 2005 by
and between SmarTire Systems Inc. and Crescent International Ltd.(13)
10.31 Redemption, settlement and release agreement dated May 23, 2005 by
and between SmarTire Systems Inc. and Goldplate Investment
Partners.(13)
10.32 Registration Rights Agreement dated as of May 22, 2005 by and between
SmarTire Systems Inc. and Cornell Capital Partners.(13)
10.33 Standby Equity Distribution Agreement dated as of May 22, 2005 by and
between SmarTire Systems Inc. and Cornell Capital Partners LP.(13)
10.34 Investor Registration Rights Agreement dated as of May 22, 2005 by
and between SmarTire Systems Inc. and Cornell Capital Partners LP.
(13)
10.35 Amended and Restated Convertible Debenture dated as of June 10, 2005
by and between SmarTire Systems Inc. and Cornell Capital Partners
LP.(13)
10.36 Securities Purchase Agreement dated as of May 22, 2005 by and between
SmarTire Systems Inc. and Cornell Capital Partners LP.(13)
10.37 Standby Equity Distribution Agreement, dated as of June 23, 2005,
between SmarTire Systems Inc. and Cornell Capital Partners, LP.(14)
10.38 Securities Purchase Agreement, dated as of June 23, 2005, among
SmarTire Systems Inc., Cornell Capital Partners, LP and Highgate
House Funds, Ltd.(14)
10.39 Investor Registration Rights Agreement, dated as of June 23, 2005,
among SmarTire Systems Inc., Cornell Capital Partners, LP and
Highgate House Funds, Ltd.(14)
10.40 Convertible Debenture, dated as of June 23, 2005, with a principal
balance of $20 million, issued by SmarTire Systems Inc. to Cornell
Capital Partners, LP as trustee for LCC Global Limited(14)
10.41 Convertible Debenture, dated as of June 23, 2005, with a principal
balance of $8 million, issued by SmarTire Systems Inc. to Cornell
Capital Partners, LP as trustee for LCC Global Limited(14)
10.42 Convertible Debenture, dated as of June 23, 2005, with a principal
balance of $2 million, issued by SmarTire Systems Inc. to Highgate
House Funds, Ltd. as trustee for LCC Global Limited(14)
10.43 Warrant to purchase 58,337,500 shares of Common Stock, dated as of
June 23, 2005, issued by SmarTire Systems Inc. to Cornell Capital
Partners, LP(14)
10.44 Warrant to purchase 4,162,500 shares of Common Stock, dated as of
June 23, 2005, issued by SmarTire Systems Inc. to Highgate House
Funds, Ltd.(14)
II-13
10.45 Marketing and Distribution Agreement, dated October 12, 2005, between
DANA Corporation and SmarTire Systems Inc.(15)
10.46 Agreement for Electronic Manufacturing Services, dated November 16,
2005, between Vansco Electronics LP and SmarTire Systems Inc.(15)
10.47 Amendment No. 1 to Securities Purchase Agreement, dated as of
December 30, 2005, among SmarTire Systems Inc., Cornell Capital
Partners, LP, Highgate House Funds, Ltd., LCC Global Limited, Starome
Investments Limited, Xentennial Investments Limited and Staraim
Investments Limited**
10.48 Amended and Restated Investor Registration Rights Agreement, dated as
of December 30, 2005, among SmarTire Systems Inc., Starome
Investments Limited, Xentennial Investments Limited and Staraim
Investments Limited**
10.49 Amended and Restated Convertible Debenture, dated as of December 30,
2005, with a principal balance of $20 million, issued by SmarTire
Systems Inc. to Starome Investments Limited**
10.50 Amended and Restated Convertible Debenture, dated as of December 30,
2005, with a principal balance of $8 million, issued by SmarTire
Systems Inc. to Xentennial Investments Limited**
10.51 Amended and Restated Convertible Debenture, dated as of December 30,
2005, with a principal balance of $2 million, issued by SmarTire
Systems Inc. to Staraim Investments Limited**
10.52 Amended and Restated Warrant to purchase 41,668,750 shares of common
stock, dated as of December 30, 2005 issued by SmarTire Systems Inc.
to Starome Investments Limited**
10.53 Amended and Restated Warrant to purchase 16,668,750 shares of common
stock, dated as of December 30, 2005 issued by SmarTire Systems Inc.
to Xentennial Holdings Limited**
10.54 Amended and Restated Warrant to purchase 4,162,500 shares of common
stock, dated as of December 30, 2005 issued by SmarTire Systems Inc.
to Staraim Investments Limited**
10.55 Investor Relations Agreement between AGORA Investor Relations Corp
and SmarTire Systems Inc. dated as of November 1, 2005**
10.56 Settlement Agreement and Mutual Release dated January 5, 2006 between
SmarTire Systems Inc. and Bristol Investment Fund Ltd. **
10.57 Standby Equity Distribution Agreement of December 30, 2005 between
SmarTire Systems Inc. and Cornell Capital Partners**
10.58 Termination Agreement $160 million Standby Equity Distribution
Agreement of December 30, 2005 between SmarTire Systems Inc. and
Cornell Capital Partners**
10.59 Registration Rights Agreement of December 30, 2005 between SmarTire
Systems Inc. and Cornell Capital Partners**
10.60* Agreement for Electronic Manufacturing Services dated November 16,
2005 between SmarTire Systems and Vansco Electronics L.P.
10.61 Placement Agent Agreement dated December 30, 2005 amongst SmarTire
Systems Inc., Newbridge Securities Corporation and Cornell Capital
Partners***
14.1 Code of Business Conduct and Ethics Compliance Program.(15)
21.1 SmarTire Technologies Inc.
21.2 SmarTire USA Inc.
21.3 SmarTire Europe Limited.
23.1 Consent of KPMG LLP.***
24.1 Power of Attorney (contained on the signature pages of this
registration statement).
99.1 Waiver Letter from Crescent International Ltd. to SmarTire Systems
Inc. dated October 20, 2005***
99.2 Waiver Letter from Cornell Capital Partners to SmarTire Systems Inc.
dated October 7, 2005***
99.3 Waiver Letter from Cornell Capital Partners to SmarTire Systems Inc.
dated October 31, 2005***
* Portions of this exhibit have been omitted pursuant to a request for
confidential treatment pursuant to Rule 406 under the Securities Act of
1933, as amended, and 17 C.F.R. 200.80(b)(4), and in accordance with Staff
Legal Bulletin No. 1 (with Addendum) dated February 28, 1977 (Addendum
dated July 11, 2001), of the Commission's Division of Corporation Finance.
** Previously filed on January 11, 2006.
*** Filed herewith.
II-14
(1) Incorporated by reference to SmarTire Systems Inc.'s Form 10-KSB filed
with the Securities and Exchange Commission on August 18, 1998.
(2) Incorporated by reference to SmarTire Systems Inc.'s definitive Proxy
Statement and Information Circular on Schedule 14A filed with the
Securities and Exchange Commission on October 31, 2000.
(3) Incorporated by reference to SmarTire Systems Inc.'s Form SB-2 filed with
the Securities and Exchange Commission on January 23, 2003.
(4) Incorporated by reference to SmarTire Systems Inc.'s Form 8-K filed with
the Securities and Exchange Commission on December 23, 2003.
(5) Incorporated by reference to SmarTire Systems Inc.'s Form SB-2 filed with
the Securities Exchange Commission on June 2, 2004.
(6) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on June 15, 2004.
(7) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on October 1, 2004.
(8) Incorporated by reference to SmarTire Systems Inc.'s Form 10-QSB filed
with the Securities and Exchange Commission on December 14, 2004.
(9) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on December 21, 2004.
(10) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on February 9, 2005.
(11) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on March 29, 2005.
(12) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on April 1, 2005, as amended.
(13) Incorporated by reference to SmarTire Systems Inc.'s Form 10-QSB filed
with the Securities and Exchange Commission on June 14, 2005.
(14) Incorporated by reference to SmarTire Systems Inc.'s 8-K filed with the
Securities Exchange Commission on June 30, 2005.
(15) Incorporated by reference to SmarTire Systems Inc.'s Form 10-QSB filed
with the Securities and Exchange Commission on December 15, 2005.
II-15
Item 28 UNDERTAKINGS
The undersigned Company hereby undertakes that it will:
(1) file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement to include:
(a) any prospectus required by Section 10(a)(3) of the Securities Act;
(b) reflect in the prospectus any facts or events which, individually or
together, represent a fundamental change in the information in the registration
statement. Notwithstanding the foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of securities offered would not
exceed that which was registered) and any deviation from the low or high end of
the estimated maximum offering range may be reflected in the form of prospectus
filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than a 20% change in the aggregate
offering price set forth in the "Calculation of Registration Fee" table in the
effective registration statement;
(c) any additional or changed material information with respect to the plan of
distribution not previously disclosed in the registration statement;
(d) updated financial and other information in a shelf prospectus in accordance
with the age of financial statements provisions under Item 8.A of Form 20-F; and
(e) consistent with Rules 430B and 430C, information in prospectus supplements
deemed part of and included in registration statements and that, consistent with
Rule 430B, new effective dates as to the Company and underwriter that will occur
in respect of prospectuses related to certain shelf takedowns.
(2) for the purpose of determining any liability under the Securities Act, each
of the post-effective amendment shall be deemed to be a new registration
statement relating to the securities offered therein, and the offering of the
securities at that time shall be deemed to be the initial bona fide offering
thereof; and
(3) remove from registration by means of a post-effective amendment any of the
securities being registered which remain unsold at the termination of the
offering.
Insofar as indemnification for liabilities arising under the Securities Act may
be permitted to directors, officers and controlling persons of SmarTire pursuant
to the foregoing provisions, or otherwise, SmarTire has been advised that in the
opinion of the Commission that type of indemnification is against public policy
as expressed in the Securities Act and is, therefore, unenforceable. In the
event that a claim for indemnification against said liabilities (other than the
payment by SmarTire of expenses incurred or paid by a director, officer or
controlling person of SmarTire in the successful defense of any action, suit or
proceeding) is asserted by the director, officer or controlling person in
connection with the securities being registered, SmarTire will, unless in the
opinion of our counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Securities
Act and will be governed by the final adjudication of the issue.
For purposes of determining any liability under the Securities Act, the
information omitted from the form of prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form of
prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act shall be deemed to be part of this registration
statement as of the time it was declared effective.
II-16
SIGNATURES
In accordance with the requirements of the Securities Act, the registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements of filing on Form SB-2 and authorized this registration statement
to be signed on its behalf by the undersigned, in the City of Richmond, British
Columbia on February 24, 2006.
SMARTIRE SYSTEMS INC.
/s/ Al Kozak
- ------------------------------------------------------------------
By: Al Kozak, President and Chief Executive Officer
/s/ Jeff Finkelstein
- ------------------------------------------------------------------
By: Jeff Finkelstein, Chief Financial Officer,
Principal Financial Officer and Principal Accounting Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person who signature appears below
constitutes and appoints Robert Rudman as his true and lawful attorney-in-fact
and agent, with full power of substitution and re-substitution, for him and in
his name, place and stead, in any and all capacities, to sign any and all
amendments (including post-effective amendments) to this registration statement,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorney-in-fact and agent, full power and authority to do and perform each
and every act and thing requisite and necessary to be done in connection
therewith, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorney-in-fact and agent
or any of them, or of their substitute or substitutes, may lawfully do or cause
to be done by virtue hereof.
Pursuant to the requirements of the Securities Act, this registration statement
has been signed by the following persons in the capacities and on the dates
stated.
SIGNATURES
/s/ Robert Rudman
- ------------------------------------------------------------------
Robert Rudman, Chairman and Director
February 24, 2006
/s/ William Cronin
- ------------------------------------------------------------------
William Cronin, Director
February 24, 2006
/s/ Johnny Christiansen
- ------------------------------------------------------------------
Johnny Christiansen, Director
February 24, 2006
/s/ Martin Gannon
- ------------------------------------------------------------------
Martin Gannon, Director
February 24, 2006
II-17