UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
/X/ QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended January 31, 2006
// TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from__________ to __________
Commission file number: 0 - 32093
HIENERGY TECHNOLOGIES, INC.
---------------------------
(Exact name of small business issuer as specified in its charter)
Delaware 91-2022980
-------- ----------
State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization
1601B Alton Parkway, Irvine, California 92606
---------------------------------------------
(Address of principal executive offices)
(949) 757-0855
--------------
(Issuer's telephone number)
(Former name, former address and former fiscal year,
if changed since last report.)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the issuer was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes /X/ No / /
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: As of March 21, 2006, the issuer had
64,019,328 shares of Common Stock, par value $0.001 per share, issued and
outstanding.
Transitional Small Business Disclosure Format (Check one): Yes / / No /X/
HIENERGY TECHNOLOGIES, INC.
Index to
Quarterly Report on Form 10-QSB
For the Period Ended January 31, 2006
PART I - FINANCIAL INFORMATION
Page
----
PART I - FINANCIAL INFORMATION
Item 1 Financial Statements
Consolidated Balance Sheets as of April 30, 2005 and
January 31, 2006 (unaudited) 3
Consolidated Statements of Operations for the Nine Months
Ended January 31, 2006 and 2004 (unaudited) and for the
Period from August 21, 1995 (Inception) to January 31, 2006
(unaudited) 4
Consolidated Statements of Shareholders' Equity (deficit)
for the Period from August 21, 1995 (Inception) to January
31, 2006 (unaudited) 4
Consolidated Statements of Cash Flows for the Nine Months
Ended January 31, 2006 and 2004 (unaudited) and for the
Period from August 21, 1995 (Inception) to January 31, 2006
(unaudited) 5
Notes to the Consolidated Financial Statements (unaudited) 8
Item 2 Management's Discussion and Analysis and Plan of Operation 38
Item 3 Controls and Procedures 74
PART II - OTHER INFORMATION 75
Item 1 Legal Proceedings 75
Item 2 Changes in Securities 77
Item 3 Defaults Upon Senior Securities
Item 4 Submission of Matters to a Vote to Securities Holders 78
Item 5 Other Information 78
Item 6 Exhibits and Reports on Form 8-K 79
SIGNATURES
2
HIENERGY TECHNOLOGIES, INC. AND SUBSIDIARIES
(DEVELOPMENT STAGE COMPANIES)
CONSOLIDATED BALANCE SHEET
FOR THE PERIODS ENDED JANUARY 31, 2006 AND APRIL 30, 2005
- --------------------------------------------------------------------------------
January 31, April 30,
2006 2005
------------ ------------
CURRENT ASSETS
Cash and cash equivalents $ 372,897 $ 18,452
Accounts receivable -- 275,957
Inventory, net 934,668 808,650
Other current assets 241,163 381,829
------------ ------------
Total current assets 1,548,728 1,484,888
------------ ------------
PROPERTY AND EQUIPMENT, net 907,170 542,080
------------ ------------
TOTAL ASSETS $ 2,455,898 $ 2,026,968
============ ============
CURRENT LIABILITIES
Accounts payable 1,921,215 1,287,543
Accrued expenses 211,700 74,205
Accrued payroll and payroll taxes 530,835 436,865
Accrued interest 186,251 166,591
Capital lease obligations 11,127 2,039
Notes payable 7,125 37,125
Notes payable - related parties 85,000 99,000
Convertible notes payable 577,129 --
Convertible notes payable - related parties 448,722 673,083
Convertible notes payable subject to rescission rights -- 532,800
Common stock subject to rescission rights, 0 and 312,012 shares -- 199,560
Other current liabilities 707,445 200,000
------------ ------------
Total current liabilities 4,686,549 3,708,811
LONG-TERM CAPITAL LEASE OBLIGATIONS 8,106 3,556
Total liabilities 4,694,655 3,712,367
------------ ------------
SHAREHOLDERS' DEFICIT
Preferred stock, $0.001 par value 20,000,000 shares
authorized no shares outstanding $ -- $ --
Common stock. $0.001 par value 100,000,000 shares
authorized 64,019,328 and 45,817,315 shares issued and outstanding 64,019 45,817
Additional paid-in capital 35,571,670 29,521,570
Committed common stock, 330,094 and 1,378,604 shares, respectively 179,102 547,375
Deficit accumulated during the development stage (38,053,548) (31,800,161)
------------ ------------
Total shareholders' deficit (2,238,757) (1,685,399)
------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT $ 2,455,898 $ 2,026,968
============ ============
3
HIENERGY TECHNOLOGIES, INC. AND SUBSIDIARIES
(DEVELOPMENT STAGE COMPANIES)
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE NINE MONTHS ENDED JANUARY 31, 2006 AND 2005 AND
FOR THE PERIOD FROM AUGUST 21, 1995 (INCEPTION) TO JANUARY 31, 2006
- --------------------------------------------------------------------------------
For the
Period from
For the Three Months Ended For the Nine Months Ended August 21, 1995
---------------------------- ---------------------------- (Inception) to
January 31, January 31, January 31, January 31, January 31,
2006 2005 2006 2005 2006
(unaudited) (unaudited) (unaudited) (unaudited) (unaudited)
------------ ------------ ------------ ------------ ------------
OPERATING EXPENSES
General and administrative $ 1,084,349 $ 829,124 $ 3,152,153 $ 3,704,744 $ 23,747,043
Research and development 665,563 167,720 1,520,405 602,364 4,717,774
------------ ------------ ------------ ------------ ------------
TOTAL OPERATING EXPENSES 1,749,912 996,844 4,672,558 4,307,108 28,464,817
LOSS FROM OPERATIONS (1,749,912) (996,844) (4,672,558) (4,307,108) (28,464,817)
------------ ------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE)
Interest income 198 304 249 459 9,812
Other income -- -- 480 -- 2,623
Interest expense (123,786) (24,510) (295,549) (870,578) (1,771,228)
Financing expense -- -- -- -- (223,710)
Loss on disposal of property and equipment (13,583) -- (114,964) -- (114,964)
Loss on foreign currency transaction (1,403) -- (1,403) -- (1,403)
Penalty expense on issuance of
convertible promissory notes
as a penalty for late registration -- (20,000) (12,000) (26,000) (63,000)
Penalty expense on issuance of
common stock and warrants
as a penalty for late registration (152,233) (602,076) (1,157,642) (3,003,303) (5,983,644)
------------ ------------ ------------ ------------ ------------
Total other expense, net (290,807) (646,282) (1,580,829) (3,899,422) (8,145,514)
------------ ------------ ------------ ------------ ------------
LOSS BEFORE PROVISION FOR INCOME TAXES (2,040,719) (1,643,126) (6,253,387) (8,206,530) (36,610,331)
PROVISION FOR INCOME TAXES -- 1,686 -- 1,686 14,183
------------ ------------ ------------ ------------ ------------
NET LOSS $ (2,040,719) $ (1,644,812) $ (6,253,387) $ (8,208,216) $(36,624,514)
BENEFICIAL CONVERSION FEATURE GRANTED
ON PREFERRED STOCK -- -- -- -- (767,431)
PREFERRED STOCK DIVIDEND -- -- -- -- (661,603)
------------ ------------ ------------ ------------ ------------
NET LOSS AVAILABLE TO COMMON SHAREHOLDERS $ (2,040,719) $ (1,644,812) $ (6,253,387) $ (8,208,216) $(38,053,548)
============ ============ ============ ============ ============
Net loss per share $ (0.04) $ (0.04) $ (0.12) $ (0.24)
============ ============ ============ ============
BASIC AND DILUTED LOSS AVAILABLE TO
COMMON SHAREHOLDERS PER SHARE $ (0.04) $ (0.04) $ (0.12) $ (0.24)
============ ============ ============ ============
BASIC AND DILUTED WEIGHTED AVERAGE
COMMON SHARES OUTSTANDING 57,168,707 38,018,739 52,545,085 34,072,909
============ ============ ============ ============
4
HIENERGY TECHNOLOGIES, INC. AND SUBSIDIARIES
(DEVELOPMENT STAGE COMPANIES)
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED JANUARY 31, 2006 AND 2005 AND
FOR THE PERIOD FROM AUGUST 21, 1995 (INCEPTION) TO JANUARY 31, 2006
- --------------------------------------------------------------------------------
For the
Period from
For the Nine Months Ended August 21, 1995
---------------------------- (Inception) to
January 31, January 31, January 31,
2006 2005 2006
(unaudited) (unaudited) (unaudited)
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (6,253,387) $ (8,208,216) $(36,624,514)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities
Depreciation 243,319 157,816 700,236
Loss on inventory impairment 63,898 -- 63,898
Loss on disposal of property and equipment 114,964 -- 114,964
Issuance or committed issuance of common stock
for services rendered 271,931 493,465 5,535,255
Issuance or committed issuance of common stock
for contribution 16,250 -- 16,250
Common stock issued for legal settlement -- -- 13,440
Issuance of common stock as compensation expense
for services rendered from minority shareholders -- -- 18,923
Warrants issued or committed for services rendered 39,520 38,573 1,015,555
Financing expense in connection with the
issuance of warrants 106,904 -- 330,614
Expensing of stock options for services rendered 32,000 -- 2,379,640
Additional compensation to officer in the form of
convertible note payable - related party -- -- 42,171
Amortization of deferred compensation -- 399,055 1,646,192
Amortization of debt discount on convertible
notes payable 95,627 785,934 1,374,341
Issuance of convertible notes payable as a penalty for the
delayed registration of the underlying common stock 12,000 26,000 63,000
Issuance or committed issuance of common stock as a penalty
for the delayed registration of shares of common stock 449,448 1,844,614 3,755,936
Issuance or commitment to issue warrants as a penalty for the
delayed registration of the underlying common stock 708,194 1,158,690 2,227,222
(Increase) decrease in
Accounts receivable 275,957 (122,079) (2)
Inventory (333,285) (589,713) (1,141,935)
Other current assets 161,967 (237,528) (249,822)
Increase (decrease) in
Accounts payable 602,597 437,109 2,789,233
Accrued expenses 137,495 (28,548) 211,700
Accrued payroll and payroll taxes 93,970 31,778 952,588
Accrued interest 83,281 70,954 257,281
Other current liabilities 507,445 100,000 707,445
------------ ------------ ------------
Net cash used in operating activities $ (2,569,905) $ (3,642,096) $(13,800,389)
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment $ (552,452) $ (144,154) $ (1,540,507)
Sales of property and equipment 21,250 -- 21,250
------------ ------------ ------------
Net cash used in investing activities (531,202) (144,154) (1,519,257)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock in
private placement $ -- $ -- $ 3,547,406
Offering costs on issuance of common stock in
private placement -- -- (196,793)
Proceeds from issuance or committed issuance of common stock 1,620,000 2,352,156 6,315,424
Offering costs on issuance of common stock (117,485) (31,750) (257,253)
Proceeds from the issuance of preferred stock -- -- 979,301
Offering costs on issuance of preferred stock -- -- (178,902)
Proceeds from issuance of common stock subject
to rescission rights -- 880,000 1,355,000
Proceeds from issuance of common stock subject to buy-back -- -- 250,518
Proceeds from collection of subscription receivable for net
sales of common stock subject to buy-back -- -- 443,482
Recapitalization of reverse merger -- -- 14
Proceeds from exercise of stock options in subsidiary -- -- 7,164
Proceeds from bank overdraft -- -- --
Proceeds from issuance of common stock upon exercise
of warrants 1,487,127 -- 1,541,131
Proceeds from notes payable -- 59,000 59,000
Payment on capital lease obligations (4,090) -- (4,090)
Payment on notes payable (30,000) (8,482) (39,447)
Proceeds from issuance of notes payable - related parties -- 476,000 947,853
Payments on notes payable - related parties -- (260,934) (807,265)
Proceeds from convertible notes payable 600,000 100,000 700,000
Payments on convertible notes (100,000) -- (100,000)
Proceeds from convertible notes payable - related parties -- -- 55,400
Payments on convertible notes payable - related parties -- -- (35,400)
Proceeds from convertible notes payable
subject to rescission rights -- 300,000 685,000
Proceeds from collection of subscription receivable for
sale of convertible note payable sold subject to rescission rights -- 425,000 425,000
------------ ------------ ------------
Net cash provided by financing activities 3,455,552 4,290,990 15,692,543
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents 354,445 504,740 372,897
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 18,452 42,857 --
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 372,897 $ 547,597 $ 372,897
============ ============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Interest paid $ 8,944 $ 13,771 $ 26,908
============ ============ ============
Income taxes paid $ -- $ 800 $ 14,983
============ ============ ============
5
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue 458,359, 387,455, and 14,217,341 shares of common stock, respectively,
for services rendered or to be rendered. The shares of common stock were valued
at $290,391, $493,465, and $5,553,715, respectively.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue warrants to purchase 157,179, 100,000, and 1,435,408 shares of common
stock, respectively, for services rendered or to be rendered. The warrants were
valued at $42,362, $38,573, and $1,018,397, respectively.
Of the 458,359 common shares and warrants to purchase 157,179 common shares
either issued or committed during the nine months ended January 31, 2006,
154,359 common shares and warrants for 77,179 common shares related to prior
period services off-setting accounts payable in the amount of $70,820.
Of the $290,391 for shares issued or committed for services during the nine
months ended January 31, 2006, $18,460 remained capitalized as prepaid filing
fees as of January 31, 2006. Of the $42,362 for warrants issued for services
during the nine months ended January 31, 2006, $2,842 remained capitalized as
prepaid Edgar filing fees as of January 31, 2006.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued unsecured
convertible notes payable-related party, in exchange for accounts payable due to
former legal counsel of the Company of $0, $25,648, and $773,083, respectively.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company expensed $449,448,
$1,844,614, and $3,755,936, respectively, for the issuance or committed issuance
of 709,942, 1,732,945 and 3,607,699 shares of common stock, respectively, as a
penalty for the late registration of common stock.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued convertible
notes payable of $12,000, $26,000, and $63,000, respectively, as a penalty for
the late registration of common stock to be issued upon conversion of
convertible notes payable.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company expensed $708,194,
$1,158,690, and $2,227,222, respectively, for the issuance or committed issuance
of warrants to purchase 3,158,222, 1,701,204, and 5,814,300 shares of common
stock, respectively, as a penalty for the late registration of the common shares
underlying investor warrants.
During the nine months ended January 31, 2006, the Company issued 22,463 shares
of common stock upon the cashless exercise of warrants to purchase 64,583 shares
of common stock.
During the nine months ended January 31, 2006, the Company issued or committed
to issue 1,079,572 shares of common stock to investors, upon the conversion of
$553,612 of convertible notes payable plus accrued interest. Included in the
1,079,572 shares are 273,855 shares committed upon conversion of $271,217 of
convertible notes payable plus accrued interest and 178,173 shares committed and
valued at $106,904 for the induced conversion of the convertible note.
During the nine months ended January 31, 2006, the Company issued 32,820 shares
of common stock to an investor, upon the conversion of a promissory note payable
plus accrued interest in the amount of $14,769.
During the nine months ended January 31, 2006, the Company removed $199,560 of
current liabilities recorded from the sale of 312,012 common shares sold deemed
subject to rescission rights. The $199,560 of current liabilities was
reclassified to common stock and paid-in-capital.
6
During the nine months ended January 31, 2006, the Company reclassified $278,400
of convertible notes payable deemed subject to rescission rights to convertible
notes payable.
During the nine months ended January 31, 2006, the Company issued or committed
to issue 106,667 shares of common stock and warrants to purchase 324,444
additional shares as offering costs.
During the nine months ended January 31, 2006, the Company issued 452,029 shares
of common stock, committed in the prior year, to acquire the remaining
outstanding stock of Microdevices.
During the nine month ended January 31, 2006, the Company committed to issue
25,000 shares as a contribution to a non-profit organization.
During the nine months ended January 31, 2006, the Company recorded debt
discounts totaling $296,897 upon issuance of convertible notes payable in the
face amount of $600,000 with detachable warrants to purchase 450,000 common
shares.
During the nine months ended January 31, 2006, the Company entered into a
two-year operating lease for office equipment valued at $16,413. The lease was
amended in January 2006 with the addition of equipment increasing the monthly
payment to $817.64 from $749.49. Total remaining payments under the lease as of
January 31, 2006 are $16,353.
The accompanying notes are an integral part of these consolidated financial
statements.
7
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 1 - ORGANIZATION AND LINE OF BUSINESS
General
HiEnergy Technologies, Inc. ("HiEnergy", together with its subsidiaries, the
"Company") is a nuclear technologies-based company focused on the
commercialization of its initial proprietary, neutron-based, "stoichiometric"
sensor devices, including (i) the CarBomb Finder(TM) 3C4, a vehicle-borne
system, for the detection and identification of car bombs, (ii) the SIEGMA(TM)
3E3 and SIEGMA(TM) 3M3, portable suitcase-borne systems for the detection and
identification of home-made bombs, also known as Improvised Explosive Devices or
IEDs, (iii) the CarBomb Finder(TM) 3C5, an in-ground screening system for the
detection and identification of car bombs and (iv) the STARRAY(TM), an
all-terrain robot-borne IED detector. The Company is marketing its devices to
governmental and private entities and is negotiating licenses for distribution
of its devices with various industry partners in the United States and abroad.
To date, the Company has devoted the bulk of the Company's efforts and resources
to the research, design, testing and development of proprietary "stoichiometric"
or Atometer(TM) sensor devices and underlying technologies, and has yet to
generate meaningful revenues from the sale of any products using its
technologies.
The Company continues to focus on the research and development of additional
applications of its technologies and their further exploitation, both internally
and through collaboration with third parties. The Company is currently
developing prototypes in programs with the U.S. Department of Defense and the
U.S. Department of Homeland Security for other related uses of its core
technology. The Company entered into a cooperative development agreement with
the U.S. Transportation Security Administration to produce a proof of concept
which incorporates its SuperSenzor (TM) technology into a baggage screening
system. The Company's "stoichiometric" technology, or "Atometry" has been
incorporated into additional prototype applications which, if it is able to
raise the funds necessary to commercialize them, will be the next products the
Company attempts to launch: (i) a landmine detector, the Anti-Tank Landmine
Detector 7AT7; (ii) a palletized cargo explosive and contraband screening
system; (iv) an unexploded ordnance detector, Unexploded Ordnance Sensor 3UXO3,
which is also useful to detect IEDs; and (v) a device the Company calls a
"Refractorymeter", which can detect fissures or erosions in the ceramic lining
of oil cracking tanks.
HiEnergy was originally incorporated under the laws of the State of Washington
on March 22, 2000 under the name SLW Enterprises Inc. ("SLW") and was
redomiciled on October 22, 2002 as a Delaware corporation. At present, HiEnergy
has five wholly-owned subsidiaries, HiEnergy Defense, Inc., HiEnergy Mfg
Company, HiEnergy International Co., HiEnergy Europe, Ltd. and HiEnergy Leasing
Co. HiEnergy Defense, Inc. was incorporated under the laws of the State of
Delaware in July 2003 to focus on marketing military and defense applications of
the Company's technology within the Washington D.C. area from its office in
Alexandria, Virginia. HiEnergy Europe Ltd. was incorporated under the laws of
the State of Delaware in March 2004 and is presently not operating, but will
focus on marketing the Company's technology throughout the European Union.
HiEnergy Mfg Company was incorporated under the laws of the State of Delaware in
March 2005 and formed for the purpose of creating a separate entity for the
manufacturing and assembly of the Company's products. HiEnergy International Co.
was incorporated under the laws of the State of Delaware in July 2005, and was
formed for the purpose of creating a separate entity for the sales and servicing
of its products overseas, excluding Europe, and primarily the Middle East and
Africa. HiEnergy Leasing Co. was incorporated under the laws of the State of
Delaware in August 2005 and formed for the purpose of creating a business entity
to establish and administrate an equipment lease finance and equipment rental
operations.
Prior to January 2005, HiEnergy also had one majority-owned subsidiary, HiEnergy
Microdevices, Inc., which was incorporated in Delaware on August 21, 1995 and
was the vehicle through which "Atometry" or Stoitech(TM) was initially developed
by the Company's Chairman, Dr. Bogdan Maglich ("Microdevices"). As a result of a
short-form merger, which became effective on January 25, 2005, the Company
assumed all of Microdevices' assets and liabilities and Microdevices ceased to
exist as a separate entity as of that date.
RECAPITALIZATION BETWEEN HIENERGY AND SHAREHOLDERS OF MICRODEVICES
On April 25, 2002, SLW, which was then a "public shell company", was taken over
by the stockholders of Microdevices in a transaction commonly referred to as a
"reverse takeover". Under this transaction, which was structured as a voluntary
exchange of shares, the stockholders of Microdevices, including the Company's
Chairman, Dr. Bogdan Maglich, obtained the right to receive up to 64% percent of
the outstanding shares of SLW. The stockholders of SLW prior to the voluntary
share exchange retained, collectively, 36% of SLW. The reverse takeover was
accounted for as a re-capitalization of Microdevices for accounting purposes, in
a manner similar to a pooling of interests, with Microdevices as the accounting
acquirer (reverse acquisition). Since the Company (formerly SLW) was a "public
shell company", with limited assets and liabilities at the date of the
acquisition and no significant operations prior to the acquisition, no pro forma
information has been presented. As a result of the reverse takeover,
Microdevices became the Company's majority-owned subsidiary, and was later
merged with the Company in January 2005 in a short-form merger through which the
Company committed to issue 452,029 shares of common stock to the remaining
stockholders of HiEnergy Microdevices on the basis of 22.3524 HiEnergy shares
for 1 share of Microdevices (the same ratio that was used in the original
voluntary share exchange). Additionally, we may be required to issue up to
704,190 shares of the Company's common stock to former holders of options and
warrants of Microdevices who hold rights to purchase HiEnergy shares at $0.156
per share. These rights survived the merger and may be exercised any time before
April 25, 2007, subject to the payment of promissory notes representing the
purchase price.
8
NOTE 2 - GOING CONCERN
The accompanying consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America, which contemplate continuation of the Company as a going concern.
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company incurred net losses
available to common shareholders of approximately $6,253,387, $8,208,216 and
$38,053,548, respectively, and has had negative cash flows from operations of
approximately $13,800,389 for the period from August 21, 1995 (inception) to
January 31, 2006. In addition, the Company had an accumulated deficit of
$38,053,548 and was in the development stage as of January 31, 2006. These
factors raise substantial doubt about the Company's ability to continue as a
going concern.
Recovery of the Company's assets is dependent upon future events, the outcome of
which is indeterminable. Successful completion of the Company's development
program and its transition to the attainment of profitable operations is
dependent upon the Company achieving a level of sales adequate to support its
cost structure. In addition, realization of a major portion of the assets on the
accompanying balance sheets is dependent upon the Company's ability to meet its
financing requirements and the success of its plans to develop and sell its
products. The accompanying unaudited consolidated financial statements do not
include any adjustments relating to the recoverability and classification of
recorded asset amounts nor amounts and classification of liabilities that might
be necessary should the Company be unable to continue in existence.
In addition to the capital raised as of January 31, 2006 through private
placements, the Company is currently negotiating with certain investors to raise
additional capital through private placement offerings. Unless the Company
raises additional funds, either by debt or equity issuances, management believes
that its current cash on hand will be insufficient to cover its working capital
needs unless and until the Company's sales volume reaches a sufficient level to
cover operating expenses. Furthermore, the Company is involved in various
litigation matters. The effect of such litigation on the Company's financial
statements is indeterminable at this time.
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Representation
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with instructions for Form 10-QSB and Item 310 of
Regulation S-B. Accordingly, they do not include all the information and
footnotes required by generally accepted accounting principles for a complete
set of annual financial statements. The Company believes its disclosures are
adequate so that the information presented is not misleading. These consolidated
financial statements should be read with the annual audited financial statements
and the notes thereto included in the Company's Annual Report on Form 10-KSB for
the year ended April 30, 2005, and other reports filed with the SEC. In the
opinion of management, all adjustments (consisting of normal recurring
adjustments) considered necessary for a fair presentation of results of the
financial position and operations of the Company have been included in the
accompanying consolidated financial statements.
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements and
revenues and expenses during the reporting period, and actual results could
differ from those estimates. Results of operations for the nine months ended
January 31, 2006 are not necessarily indicative of the results that may be
expected for the fiscal year ending April 30, 2006, or for any other period.
9
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
HiEnergy and its wholly-owned subsidiaries, HiEnergy Defense Inc., HiEnergy
Europe Ltd., HiEnergy Mfg Company, HiEnergy International Co., HiEnergy Leasing
Co., and its former majority-owned subsidiary, HiEnergy Microdevices, Inc. All
significant inter-company accounts and transactions have been eliminated.
Development Stage Enterprise
The Company is a development stage company as defined in Statement of Financial
Accounting Standards ("SFAS") No. 7, "Accounting and Reporting by Development
Stage Enterprises." All losses accumulated since inception have been considered
as part of the Company's development stage activities.
Comprehensive Income
The Company presents comprehensive income in accordance with SFAS No. 130,
"Reporting Comprehensive Income." This statement establishes standards for
reporting comprehensive income and its components in a financial statement.
Comprehensive income as defined includes all changes in equity (net assets)
during a period from non-owner sources. Examples of items to be included in
comprehensive income, which are excluded from net income, include foreign
currency translation adjustments and unrealized gains and losses on
available-for-sale securities. Comprehensive income is not presented in the
Company's consolidated financial statements since it did not have any of the
components of comprehensive income in any period presented.
Cash and Cash Equivalents
Cash and cash equivalents consist of unrestricted balances only. The Company
considers all highly liquid investments with original maturities of three months
or less to be cash equivalents.
The Company maintains its cash deposits at a bank located in California.
Deposits at the bank are insured by the Federal Deposit Insurance Corporation
("FDIC") up to $100,000. From time to time, deposits at the bank exceed the
$100,000 FDIC insurance limit. The Company has not experienced any losses in
such accounts and believes it is not exposed to any significant risk on cash and
cash equivalents.
Accounts Receivable
Prior year accounts receivable consists of amounts due under governmental grants
billed as monthly reports and submitted detailing work performed under the
contracts and generally due in 30 to 60 days.
Other Current Assets
Other current assets consist primarily of capitalized insurance premiums,
prepaid consulting and services, and equipment deposits. Insurance premiums and
prepaid consulting and services are capitalized and amortized over the estimated
period for which such services are provided.
Property and Equipment
Property and equipment are stated at cost, less depreciation and amortization.
Expenditures for additions and major improvements are capitalized. Repair and
maintenance costs are expensed as incurred. When property and equipment are
retired or otherwise disposed of, the related cost and accumulated depreciation
are removed from the accounts. Gains or losses from retirements and disposals
are credited or charged to income. Depreciation and amortization are computed
using the straight-line method over the shorter of the estimated useful life of
the respective assets or terms of the related leases. The useful lives and lease
terms for depreciable assets are as follows:
Prototype Equipment 5 years
Laboratory Equipment 5 years
Furniture and Fixtures 5 years
Website Development 5 years
Leasehold Improvements 20 months
10
Long-Lived Assets
The carrying value of long-lived assets is reviewed for impairment whenever
events or changes in circumstances indicate the carrying value of such assets
may not be recoverable. Measurement of the impairment loss is based on the fair
value of the asset. Generally, fair value will be determined using valuation
techniques such as the present value of expected future cash flows.
Patents
The Company has filed several patent applications within and outside the United
States. The outcome is indeterminable. Patent costs, consisting mainly of legal
expenses, are expensed as incurred.
Valuation of Inventories
During the nine months ended January 31, 2006, the Company acquired components
in anticipation of future assembly and sale. The components have been recorded
at cost. The Company values its inventory at the lower of cost (first-in,
first-out method) or market. Total net inventory as of January 31, 2006 was
$934,668.
Fair Value of Financial Instruments
The carrying value of cash and cash equivalents, accounts receivable and
accounts payable approximate their fair values because of the short term
maturity of these instruments.
The fair value of the Company's debt, which consists of notes payable, notes
payable - related parties, convertible notes payable - related parties and
convertible notes payable deemed subject to rescission rights, is estimated on
the quoted market prices for the same or similar issues or on the current rates
offered to the Company for debt of the same remaining maturities. Such fair
value approximates the respective carrying values of its debt.
Convertible Notes Payable with Beneficial Conversion Features
The Company accounts for convertible notes payable ("CNP") with non-detachable
conversion options that are in-the-money ("beneficial conversion features"), at
the commitment date, in accordance with EITF Issue No. 98-5, "Accounting for
Convertible Securities with Beneficial Conversion Features or Contingently
Adjustable Conversion Ratios" and EITF Issue No. 00-27, "Application of Issue
No. 98-5 to Certain Convertible Instruments".
The Company has issued convertible notes payable with beneficial conversion
features, with and without detachable warrants. Where the Company has issued
convertible notes payable with beneficial conversion features without detachable
warrants the difference between the conversion price and the fair value of the
common stock, at the commitment date, is recorded as a debt discount and is
amortized to interest expense over the redemption period of the convertible note
payable, in accordance with EITF No.'s 98-5 and 00-27. The redemption period is
the shorter of the period to maturity, conversion, or other event which requires
the Company to rescind the convertible note payable.
Where the Company has issued convertible notes payable with beneficial
conversion features with detachable warrants, the Company allocates the proceeds
between the convertible note payable and the warrants using the relative fair
value of the individual elements at the time of issuance. The difference between
the conversion price, adjusted for the relative fair value of the convertible
notes payable, and the fair value of the common stock, which is limited to the
relative fair value of the convertible note payable, is recorded as a debt
discount. The relative fair value of the warrants is also recorded as a debt
discount. The total debt discount is amortized to interest expense over the
redemption period of the convertible note payable.
Penalties Associated with Late Registration of Common Stock
The Company has entered into Stock Purchase Agreements ("SPA") and Convertible
Note Purchase Agreements ("CNPA") that include provisions that require the
Company to register, as freely trading, the shares of common stock and the
shares of common stock issuable upon exercise of warrants or conversion of
convertible notes payable within certain deadlines, in a Registration Statement
on Form SB-2. Furthermore, if such shares of common stock are not registered
within certain deadlines, a penalty becomes payable or accruable in like
securities. The common stock, warrants and convertible notes payable (the
"penalty securities") issued for late registration are described in Notes 13, 19
and 20, and the commitment to issue such penalty securities is described in
Notes 18 and 21 to this Report.
11
The Company accounts for penalty securities issued as a penalty for late
registration as a penalty expense, which is recognized in the period the penalty
securities are earned. The fair value of the penalty securities is determined as
follows: common stock is valued at the fair value of the common stock on the
date earned; warrants have been valued using the Black-Scholes option-pricing
valuation model on the date earned; and convertible notes payable are valued at
the face value of the note on the date earned.
Cashless Exercise of Warrants
The Company has issued warrants to purchase common stock where the holder is
entitled to exercise the warrant via a cashless exercise, when the exercise
price is less than the fair value of the common stock. The Company accounts for
the issuance of common stock on the cashless exercise of warrants as a cost of
capital.
Research and Development Costs
The Company accounts for research and development costs in accordance with SFAS
No. 2, "Accounting for Research and Development Costs". Research and development
costs are charged to operations as incurred. As described in section 3.50 of the
Government Contract Audit Guide for Fixed-Price Best-Efforts Cost Sharing
Arrangements, amounts earned under the Company's grants and development
agreements with the U.S. Department of Defense and U.S. Department of Homeland
Security have been offset against research and development costs, in accordance
with the provisions of that section.
Stock-Based Compensation
The Company has adopted the provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation". In accordance with SFAS No. 123, the Company has
elected the disclosure-only provisions related to employee stock options and
follows the Accounting Principles Board Opinion (APB) No. 25 in accounting for
stock options issued to employees. Under APB No. 25, compensation expense, if
any, is recognized as the difference between the exercise price and the fair
value of the common stock on the measurement date, which is typically the date
of grant, and is recognized over the vesting period.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure". SFAS No. 148 amends SFAS No. 123 and
provides alternative methods of transition for a voluntary change to the fair
value based method of accounting for stock-based employee compensation. SFAS No.
148 also amends the disclosure requirements of SFAS No. 123 to require more
prominent and frequent disclosures in financial statements about the effects of
stock-based compensation. The Company adopted the disclosure requirements in the
third quarter of 2003.
The weighted average fair value of stock options granted during the nine months
ended January 31, 2006 was $0.30. Fair value was determined using the
Black-Scholes option-pricing model. For stock options granted during the nine
months ended January 31, 2006, the weighted average assumptions for grants were
a risk free interest rate of 4.04% an expected life of 2 years, volatility of
98% and dividend yield of 0%.
The following table compares net loss attributable to common stockholders and
loss per share for the nine months periods ended January 31, 2006 and January
31, 2005, as reported, to the pro forma amounts that would be recorded had
compensation expense for stock-based compensation been determined based on the
fair value on the grant dates consistent with the method of SFAS No. 123. The
presentation for the nine months ended January 31, 2005 has been adjusted to
reflect a warrant issued to the Company's then Controller which was expensed in
the period.
Nine months ended Nine months ended
January 31, 2006 January 31, 2005
---------------- ----------------
Net loss attributable to common stockholders (6,253,387) (8,208,216)
Stock-based employee compensation included in
reported net income, net of related tax effects 32,000 39,573
Total stock-based employee compensation expense
determined under fair value based methods for
all awards, net of related tax effects (954,748) (764,725)
------------ ------------
Pro forma net loss attributable to common stockholders (7,176,135) (8,933,368)
Basic loss per share:
As reported (0.12) (0.24)
Pro forma (0.14) (0.26)
Diluted loss per share:
As reported (0.12) (0.24)
Pro forma (0.14) (0.26)
12
Stock options and warrants issued to non-employees are accounted for in
accordance with SFAS No. 123, EITF Issue No. 96-18, "Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services", and related interpretations.
Warrants Issued As Financing and Offering Costs
The Company accounts for warrants issued to investors who purchased common stock
and to finders who arranged with third parties to invest in the Company's common
stock as offering costs. Such warrants are therefore accounted for as a cost of
capital.
Income Taxes
The Company accounts for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes," which requires the recognition of deferred tax
assets and liabilities for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this
method, deferred income taxes are recognized for the tax consequences in future
years of differences between the tax bases of assets and liabilities and their
financial reporting amounts at each year-end based on enacted tax laws and
statutory tax rates applicable to the periods in which the differences are
expected to affect taxable income. Valuation allowances are established, when
necessary, to reduce deferred tax assets to the amount expected to be realized.
The provision for income taxes represents the tax payable for the period and the
change during the period in deferred tax assets and liabilities.
Net Loss per Share
The Company calculates net loss per share in accordance with SFAS No. 128,
"Earnings per Share." Basic loss per share is computed by dividing the net loss
available to common shareholders by the weighted-average common shares
outstanding. Diluted loss per share is computed similar to basic loss per share
except that the denominator is increased to include the number of additional
common shares that would have been outstanding if the potential common shares
had been issued and if the additional common shares were dilutive. In the
calculation of basic net loss per share, the common stock deemed subject to
buy-back and the common stock deemed subject to rescission rights are not
considered to be equivalent to common stock and are excluded. Because the
Company has incurred net losses, basic and diluted loss per share is the same.
The following potential shares of common stock have been excluded from the
computation of diluted net loss per share for the periods presented because the
effect would have been anti-dilutive. The presentation as of January 31, 2005
has been adjusted to properly reflect 704,190 shares held by the Company to be
issued upon payment of outstanding promissory notes to former holders of
Microdevices options and warrants.
As of As of
January 31, 2006 January 31, 2005
---------------- ----------------
Stock Options 9,450,165 8,070,655
Warrants 14,052,844 18,676,653
Convertible notes payable and accrued interest - related
parties 560,929
765,137
Convertible notes payable and accrued interest 1,521,253 --
Convertible notes payable and accrued interest - deemed
subject to rescission rights --
1,185,552
Shares of common stock deemed subject to rescission rights -- 4,021,875
Shares of common stock deemed subject to buy-back rights -- 2,000,000
Shares held by Company to be issued upon
payment of outstanding promissory notes 704,190 704,190
---------- ----------
26,289,381 35,424,062
---------- ----------
13
Estimates
The preparation of financial statements requires management 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 of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
Recently Issued Accounting Pronouncements
In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error
Corrections" ("SFAS 154") which replaces Accounting Principles Board Opinions
No. 20 "Accounting Changes" and SFAS No. 3, "Reporting Accounting Changes in
Interim Financial Statements-An Amendment of APB Opinion No. 28." SFAS 154
provides guidance on the accounting for and reporting of accounting changes and
error corrections. It establishes retrospective application as the required
method for reporting a change in accounting principle and the reporting of a
correction of an error. SFAS 154 is effective for accounting changes and
corrections of errors made in fiscal years which begin after December 15, 2005,
and is required to be adopted by the Company in the first quarter of fiscal
2007. The Company is currently evaluating the effect that the adoption of SFAS
154 will have on its consolidated results of operations and financial condition
but does not expect it to have a material impact.
In July 2005, the Standards Board issued Statement of FASB Staff Position No.
150-5, which clarifies that warrants on shares that are redeemable or puttable
immediately upon exercise and warrants on shares that are redeemable or puttable
in the future qualify as liabilities under Financial Accounting Standards No.
150, Accounting for Certain Financial Instruments with Characteristics of Both
Liabilities and Equity ("FSP FAS 150-5"). The Company is currently evaluating
the effect that the adoption of FSP FAS 150-5 will have on its consolidated
results of operations and financial condition but does not expect it to have a
material impact.
NOTE 4 - RISKS AND UNCERTAINTIES
In addition to considering these risks and uncertainties, before making any
determination with respect to the Company, readers should refer to the other
information contained in this quarterly report for the period ended January 31,
2006 as filed on Form 10-QSB (the "Report"), and the Company's Annual Report
filed on Form 10-KSB for the year ended April 30, 2005, including the
information under the heading entitled "Risk Factors", as well as review the
disclosures contained in the Forward-Looking Statements at the front of this
Report.
The Company is a development stage company, and an investment, or maintaining an
ownership position, in its common stock is inherently risky. The Company
operates in a dynamic and highly competitive industry and, accordingly, can be
affected by a variety of factors. The most critical risks and uncertainties
relate to its ability to obtain financing to continue operations and fund
anticipated losses, as well as the timing and success of product introductions.
Some of these risks pertain to its business in general, and others are risks
which may only affect its common stock.
If any of the events described below were to occur, the Company's business,
prospects, sales efforts, financial condition, results of operations and/or cash
flow could be materially adversely affected:
o an inability to raise capital from the sale of equity or debt to
private investors or from government grants or development
contracts, in order to fund the Company's operations at current
levels;
o an inability to obtain, as and when needed, additional financing on
commercially reasonable terms;
o an inability to achieve profitability or positive cash flows;
o an inability to shift resources toward the implementation of the
Company's plan to commercialize, manufacture and market the
Company's initial prototype devices;
o an inability to transition the Company's prototypes into commercial
products meeting certain specifications which satisfy the demands of
prospective customers;
o an inability to develop and market viable products;
14
o an inability to control the damage done to the ability to sell
products and/or raise funds if product demonstrations or field
testing conducted by the Company are unsuccessful;
o an inability to reallocate resources successfully if initial product
lines prove unsuccessful;
o an inability to predict and control international risk that could
materially harm our business, including the threat of terrorism;
o an inability to continue as a going concern as previously noted by
the Company's independent auditors;
o an inability to manufacture, or contract for the manufacture of, the
Company's products in a scalable and cost-effective manner,
producing sufficient quantities on a timely basis under strict
quality guidelines and in compliance with regulatory requirements;
o an inability to defend against and resolve pending or future
litigation including any civil lawsuits, including the class action
suits, and certain disputes involving former consultants and
employees;
o an inability to reconcile any potential payroll tax and use tax
liabilities;
o an inability to maintain directors and officers insurance coverage
and other protections against legal claims;
o an inability to properly record and protect the Company's
intellectual property rights, and the inability to bring or defend
against claims of intellectual property infringement;
o an inability to recruit and maintain quality management, improve
internal controls of operations and attain optimal distribution of
executive powers within the Company;
o an inability to obtain approvals from the U.S. Nuclear Regulatory
Commission, U.S. Department of Commerce, U.S. Department of the
State, and any other state or federal regulatory agency if and as
applicable;
o changes in the regulatory and legislative environment affecting
governmental laws and licensing requirements, including without
limitation export restrictions and controls, which may affect the
ability of the Company to sell and support its products;
o risks associated with the budget processes of governmental agencies
and departments affecting the availability of future government
funding for future product development and procurement;
o risks associated with international sales including, but not limited
to, changes in domestic and foreign regulatory requirements,
political instability in targeted foreign markets, differences in
technology standards, possible foreign currency controls, longer
payment cycles and inadequate collection systems, fluctuations in
currency exchange rates, inconsistent intellectual property
protections among foreign jurisdictions, export restrictions,
tariffs, embargoes or other sales barriers, prejudicial employment
laws and business practices, difficulties in obtaining and managing
distributors, and potentially negative tax consequences;
o changes in pricing policies by the Company, its competitors or
suppliers, including possible decreases in the average selling
prices of the CarBomb Finder(TM), SIEGMA(TM) systems and future
products, due to promotional offerings, contracted discounts,
customer volume orders, and competitive pricing pressures;
o an inability to adapt to rapid technological change or shifts in
market needs;
o current or future dependence upon a limited number of suppliers for
certain component parts;
o an inability to anticipate and resolve problems with, or customer
service issues related to, unqualified variables in product
performance, dependability and usage, as well as maintenance
requirements that could affect market acceptance and perceptions
about the Company's products and after market service capabilities;
o product liability and related claims if products were to malfunction
or fail to detect substances such as explosives accurately, or at
all;
o a limited number of customers and an inability to identify and
address additional markets or applications for the Company's
technologies;
o sales cycle duration, which if protracted could result in not being
able to obtain sales orders;
o risks associated with special contracting requirements by
governmental agencies and the Company's ability to meet agency
certifications, such as those required by the TSA, regarding its
current or future products;
o the public's perception of the threats facing the population and
unrelated political circumstances, which may lead to significant
fluctuations in demand for the Company's products and services; and
o the economic and social impact of natural and manmade disasters
generally, as well as the impact of such circumstances on the
ability of the Company to maintain its business and operations in
the event it or its customers suffer irreparable harm or injury.
15
NOTE 5 - OTHER CURRENT ASSETS
Other current assets consisted of the following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Prepaid professional services $ 26,946 $ 44,553
Insurance premiums 62,114 10,060
Equipment deposits 144,103 311,042
Other 8,000 16,174
-------- --------
Total $241,163 $381,829
======== ========
NOTE 6 - INVENTORY
During the nine months ended January 31, 2006, the Company continued to acquire
components in anticipation of future assembly and sale. Total net inventory as
of January 31, 2006 was $934,668 compared to $808,650 as of April 30, 2005. The
Company values its inventory at the lower of cost or market. The Company
performs quality control reviews of its components and records inventory
impairment charges based upon specific identification of potentially defective
units. The Company generally does not maintain inventory reserves based on
obsolescence or risk of competition because the shelf life of its products is
long. However, if the Company's current assumptions about demand or obsolescence
were to change, additional charges may be needed, which could negatively impact
the Company's product gross margins. The Company's inventory impairment charges
were $63,898 and $0 for the nine month periods ended January 31, 2006 and 2005,
respectively.
SFAS 2, Accounting for Research and Development Costs, allows an enterprise to
draw from its normal inventory and convert the inventory for research and
development purposes. During the nine months ended January 31, 2006 and 2005,
the Company converted $143,369 and $0 of normal inventory for research and
development purposes, respectively.
NOTE 7 - PROPERTY AND EQUIPMENT
Property and equipment consisted of the following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Prototype equipment $ 968,701 $ 327,747
Laboratory equipment 348,350 535,110
Furniture and fixtures 90,983 70,587
Leasehold improvements 51,150 51,150
Web site development 14,400 14,400
---------- ----------
1,473,584 998,994
Less accumulated depreciation 566,414 456,914
---------- ----------
Total $ 907,170 $ 542,080
========== ==========
Depreciation and amortization expense for the nine months ended January 31, 2006
and 2005 and the period from August 21, 1995 (inception) to January 31, 2006,
was $243,319, $157,816, and $700,236, respectively.
NOTE 8 - ACCRUED PAYROLL AND PAYROLL TAXES
As of January 31, 2006, the Company's former subsidiary, Microdevices, has
completed its filing requirements for missing payroll tax returns for years 1998
through 2001 and is in the process of reviewing its requirements as to the
amendment of certain other previously filed payroll tax returns filed, as well
as related Forms W-2 and 1099, with respect to the issuance of shares of
Microdevices common stock to officers, employees, directors, legal advisors and
consultants for services rendered prior to April 30, 2002. In November 2005, a
Federal Tax Lien in the amount of $52,652 was filed in response to the Company's
filing of certain of these returns and in January 2006 a request for payment in
the amount of $24,236 was received upon filing the remaining return. The
combined amount of $76,888 will accrue interest until fully paid. The Company
has paid $7,857 towards this liability as of January 31, 2006, an additional
$20,781 thereafter, and has negotiated a payment plan for the remaining balance.
As of January 31, 2006, the Company has a remaining accrual of $425,007 for the
payroll tax liability, penalties and interest related to these returns.
16
Excluding the payroll tax liability mentioned above, the Company has accrued
payroll and payroll tax of $105,828 as of January 31, 2006, which includes
deferred salaries for certain employees.
NOTE 9 - CAPITAL LEASE OBLIGATIONS
Capital lease obligations consisted of the following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Capital lease for equipment, secured by the equipment with an effective
interest rate of 17.205% per annum through October 2007, with monthly
payments in the amount of $237 $ 4,099 $ 5,595
Capital lease for equipment, secured by the equipment, with an effective
interest rate of 8.99% per annum through October 2007, with monthly
payments in the amount of $817.64 15,134 --
------- -------
19,233 5,595
Less current portion $11,127 $ 2,039
------- -------
Long-term portion $ 8,106 $ 3,556
======= =======
NOTE 10 - NOTES PAYABLE
Notes payable consisted of the following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Notes payable to former employees for deferred compensation,
unsecured and bearing interest at 5% per annum 7,125 37,125
------- -------
7,125 37,125
Less current portion $ 7,125 $37,125
------- -------
Long-term portion $ -- $ --
======= =======
NOTE 11 - NOTES PAYABLE - RELATED PARTIES
Notes payable - related parties consisted of the following as of the periods
ended:
January 31, 2006 April 30, 2005
---------------- --------------
Notes payable to a shareholder of the Company, unsecured,
bearing interest at 10.5% per annum, or 15% per annum
upon default, and due on demand $40,000 $40,000
Note payable to a shareholder of the Company, unsecured,
bearing interest at 10.5% per annum, and due on demand 45,000 45,000
Note payable to former legal counsel of the Company, unsecured, bearing
interest at 5% per annum and due on demand
The note was subsequently converted into equity in June 2005 -- 14,000
------- -------
85,000 99,000
Less current portion 85,000 99,000
------- -------
Long-term portion $ -- $ --
======= =======
17
NOTE 12 - CONVERTIBLE NOTES PAYABLE - RELATED PARTIES
Convertible notes payable - related parties consisted of the following as of the
periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Convertible notes payable to former legal counsel of the Company,
unsecured, bearing interest at 10% per annum and due on demand. The
holder of the notes has the option to convert the principal and interest
into shares of common stock of the company at $1.00 per share at any
time. In October 2005, the Company induced conversion of $198,930 of the
notes, plus accrued interest, by reducing the conversion price to $0.60
per share $397,860 $596,790
Convertible note payable to former legal counsel of the Company,
unsecured, bearing interest at 10% per annum and due on demand. The
holder of the note has the option to convert the principal and interest
into shares of common stock of the company at $0.85 per share at any
time. In October 2005, the Company induced conversion of $12,744 of the
notes, plus accrued interest, by reducing the conversion price to $0.60
per share 25,488 38,232
Convertible note payable to former legal counsel of the Company,
unsecured, bearing interest at 10% per annum and due on demand The
holder of the note has the option to convert the principal and interest
into shares of common stock of the company at $1.00 per share at any
time. In October 2005, the Company induced conversion of $12,687 of the
notes, plus accrued interest, by reducing the conversion price to $0.60
per share 25,374 38,061
-------- --------
448,722 673,083
-------- --------
Less current portion 448,722 673,083
-------- --------
Long-term portion $ -- $ --
======== ========
18
NOTE 13 - CONVERTIBLE NOTES PAYABLE
Convertible notes payable consisted of the following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Convertible notes payable ("CNP"), unsecured, bearing interest at 5% per
annum and coupled with the proceeds allocated to the detachable
warrants, an estimated effective annual interest rate of 49%, due in
June 2006. The holder has the option to convert the principal and
accrued interest into shares of common stock at $0.45 per share at any
time until the later of the prepayment date or the maturity date. The
CNP were issued with detachable warrants to purchase shares of common
stock with a three and one-half year term as follows: 1,066,666 at $0.45
per share; 320,000 at $0.75 per share; and 192,000 shares at $1.25 per
share. The holder also has registration rights on the underlying shares,
and has received as penalties for the failure to register them (i)
additional detachable warrants to purchase up to 2% of the amount of
shares exercisable under the original warrants and (ii) additional CNP
equal to 2% of the original face amount, or principal balance, each
month until the securities became eligible for sale without registration
under Rule 144 $240,000 $ --
Convertible note payable, unsecured, bearing interest at 5% per annum due
in June 2006, issued as a penalty to holders as a result of the
Company's inability to file a registration statement within certain
specified deadlines, covering and reflecting the same terms as, the
convertible notes payable referenced above, with the exception of
penalties 38,400 --
Convertible notes payable ("CNP") to various investors, unsecured, bearing
interest of 10% per annum, and, coupled with the debt discount
attributable to the beneficial conversion feature and detachable
warrants, estimated effective annual interest rates in the range of 31%
to 74%, due in October and November 2006. The CNP were issued with
detachable warrants to purchase 400,000 shares of common stock at $0.80
per share with a three year term. The face value of the CNP is $500,000,
the recording of which reflects an unamortized debt discount of $201,271
for the relative values of the beneficial conversion feature and
detachable warrants. The note holders have the option to convert the
principal and accrued interest into shares of common stock at $0.60 per
share at any time until the later of the prepayment date or the maturity
date. Any outstanding balance of the CNP, plus any unpaid interest, will
be automatically exchanged into the next financing secured by the
Company in the amount of $2,500,000 or above, at a 10% discount. During
the Company's special warrant offer, 360,000 shares of common stock were
purchased upon exercise of the detachable warrants at a reduced exercise
price of $0.20 per share, with the remaining warrants forfeited 298,729 --
-------- -----------
577,129 --
-------- -----------
Less current portion $577,129 $ --
-------- -----------
Long-term portion $ -- $ --
======== ===========
In accordance with EITF No. 98-5, "Accounting for Convertible Securities with
Beneficial Conversion Features or Contingently Adjustable Conversion Ratios" and
EITF No. 00-27, "Application of Issue No. 98-5 to Certain Convertible
Instruments", the Company has evaluated its sale of the above convertible notes
payable with detachable warrants for the beneficial conversion features. The
Company has allocated the proceeds from the placement of the debt to the
warrants and the debt based on their relative pro-rated values.
19
NOTE 14 - CONVERTIBLE NOTES PAYABLE DEEMED SUBJECT TO RESCISSION RIGHTS
Convertible notes payable deemed subject to rescission rights consisted of the
following as of the periods ended:
January 31, 2006 April 30, 2005
---------------- --------------
Convertible notes payable ("CNP"), unsecured, bearing interest at 5% per
annum and coupled with the proceeds allocated to the detachable
warrants, an estimated effective annual interest rate of 49%, due in
June 2006 (excluding $10,000 due in January 2006). In June 2005, the
holders converted $70,000 of the CNP into shares of common stock. As of
January 31, 2006, the remaining $240,000 of CNP was reclassified as
convertible notes payable. The outstanding CNP is more fully described
in Note 13. $ -- $ 310,000
Convertible note payable, unsecured, bearing interest at 5% per annum due
in June 2006, issued as a penalty to holders as a result of the
Company's inability to file a registration statement within certain
specified deadlines. As of January 31, 2006, the CNP was reclassified as
convertible notes payable and is more fully described in Note 13. -- 37,800
Convertible note payable ("CNP"), unsecured, bearing interest at 5% per
annum, and, coupled with the proceeds allocated to the detachable
warrants, an estimated effective annual interest rate of 44%. The CNP
was due January 2006, convertible at $0.45 per share at any time before
maturity. The CNP included detachable warrants with a three and one-half
year term to purchase shares of common stock as follows: 411,111 at
$0.45 per share; 246,667 at $0.75 per share; 148,000 shares at $1.25 per
share and 123,333 shares at $1.50 per share. Said detachable warrants
issued in the first closing have since expired. In June 2005, the holder
converted all principle and accrued interest into common shares. The
holder has registration rights on the shares issued upon conversion, as
well as rights to a second closing for up to $400,000 of CNP prior to
filing a registration statement with similar terms. The shares issued
upon conversion have been deemed no longer subject to rescission. -- 185,000
-------- -----------
-- 532,800
-------- -----------
Less current portion $ -- $ 532,800
-------- -----------
Long-term portion $ -- $ --
======== ===========
The above convertible notes payable had been previously deemed subject to
integration having been sold during a period when the Company had on file a
registration statement with the SEC. Such a contemporaneous, private offering
may have resulted in a violation of certain federal securities laws concerning
the contemporaneous sale of securities by the Company at different terms, where
the effect of integration can be to destroy an exemption upon which a company
has relied in issuing its securities privately, which renders the transaction an
illegal unregistered public offering. If this is the case, the purchasers of
convertible notes payable may have had similar rescission rights available to
certain of the shareholders as described in Note 15 (See Note 15 for a full
description of the circumstances surrounding rescission rights of the
shareholders). Accordingly, the Company would have been required to pay each
rescinding holder of convertible notes payable the amount it received as
consideration, plus any interest with respect to such amount at the applicable
rate, and the securities would have been cancelled.
20
The Company has completed an independent investigation as to whether or not the
rescission rights continue to exist and, based upon legal advice it has received
as to the appropriate state and federal limitations periods pertaining to the
rescission obligations assumed, the Company has reclassified all convertible
notes payable deemed subject to rescission rights to convertible notes payable
as of January 31, 2006.
NOTE 15 - SALES OF COMMON STOCK DEEMED SUBJECT TO RESCISSION RIGHTS
During the period from September 3, 2003 through April 16, 2004, the Company had
on file with the SEC registration statements on Form SB-2 seeking to register
for public sale shares of its common stock. Of the shares to be registered, 5
million were shares to be newly issued for sale by the Company, and the
remainder was shares to be registered for resale for the account of selling
stockholders who purchased the Company's shares in private placements conducted
previously. On September 19, 2003, the Company withdrew the registration
statement containing the shares to be registered for the benefit of the Company,
and re-filed a registration statement solely seeking to register the shares of
the selling stockholders. On April 16 2004, this registration statement was also
withdrawn.
While the Company's registration statements were on file with the SEC, the
Company also raised capital through the sale of its securities in a private
placement to certain accredited investors. While it is true that rules and
regulations under the Securities Act of 1933 do not permit issuers such as the
Company to conduct a contemporaneous public offering on a continuous basis at
varying prices or a negotiable price, the only overlap occurred with respect to
shares to be registered for resale for the account of selling stockholders.
Although the Company, as an issuer, was not selling stock both publicly and
privately at the same time, the Company has been advised that it is possible
that the contemporaneous, private offering of the Company's securities by the
Company while the selling stockholders' shares were in registration with the SEC
may be deemed to be "integrated" under the federal securities laws of the United
States. Integration occurs where two offerings that are close in time are deemed
to constitute one, single offering, and the effect of integration can be to
destroy an exemption upon which a company has relied in issuing its securities
privately, which renders the transaction an illegal unregistered public
offering. In such event, the persons who purchased securities in such an
offering may be entitled to, in addition to any other penalties or fines which
may be assessed against the issuing company, the right to demand rescission of
the offering. In that case, the Company would be required to pay each rescinding
investor the amount it received as consideration for the illegal securities,
plus any interest accrued with respect to such amount at the applicable rate,
and the securities would be cancelled.
The Company has completed an independent investigation as to whether or not the
rescission rights continue to exist and, based upon legal advice we have
received as to the appropriate state and federal limitations periods pertaining
to the rescission obligations assumed, the Company has reclassified all of
4,132,008 shares of common stock sold deemed subject to rescission rights to
common stock and additional paid in capital, and eliminated the related current
liability. During the nine months period ended January 31, 2006, the Company
reclassified the 312,012 remaining shares deemed subject to rescission rights,
reported at fiscal year ended April 30, 2005, to common stock and additional
paid in capital, eliminating the recorded current liability for shares deemed
subject to rescission rights of $199,560, reported at fiscal year ended April
30, 2005.
NOTE 16 - RESEARCH AND DEVELOPMENT COSTS
To date, the Company has devoted the bulk of its efforts and resources to the
research, design, testing and development of sensor systems incorporating its
proprietary "stoichiometric" technologies for numerous governmental and
commercial applications and markets. The Company's technologies have the ability
to determine automatically, in a matter of tens of seconds and with a high
degree of accuracy, whether an object or container carries dangerous substances,
such as explosives, illicit drugs or biological agents, by deciphering the
chemical composition of select substances. Aside from its current applications,
management believes that its technologies have numerous other applications.
The Company's research and development expenses consist primarily of salaries
and benefits, facilities, depreciation, consulting services, supplies and
travel. The Company accounts for research and development costs in accordance
with SFAS No. 2, "Accounting for Research and Development Costs". Research and
development costs are charged to operations as incurred. As described in section
3.50 of the Government Contract Audit Guide for Fixed-Price Best-Efforts Cost
Sharing Arrangements, amounts earned under the Company's grants and development
agreements with the U.S. Department of Defense ("DoD") and U.S. Department of
Homeland Security (DHS) have been offset against research and development costs,
in accordance with the provisions of that section, in all periods presented.
Since inception, the Company has been able to obtain various governmental grants
and development contracts. During the fiscal years ended April 30, 2005 and
2004, the Company worked on different phases of two separate development
contracts with the DoD and the first stage of a cooperative research and
development agreement with the U.S. Transportation Security Administration (TSA)
agency of the DHS.
21
The Company completed the second year of Phase II of a Small Business Innovation
Research ("SBIR") contract awarded to it in August 2002 by the U.S. Army Night
Vision and Electronic Sensor Directorate ("NVESD"). Under the terms of the
contract, the Company is to develop and test its Anti-Tank Landmine Detector
7AT7(TM) over a two-year period, which was extended for one additional year at
the option of the U.S. Army. As of July 31, 2005, the Company earned $779,944
against the contract. If further research and development work is required upon
the expiration of Phase II, the Company has the ability to submit a request for
additional Phase II and/or Phase III funding, which the government would
consider based upon the Company's progress to date and the merits of the
project. The U.S. Army is under no obligation to continue to assist in funding
these research and development costs beyond Phase II or any subsequent
extension, or to purchase any of the Company's products, including the Anti-Tank
Landmine Detector 7AT7(TM), once the Company has completed development
activities. As of January 31, 2006, the Company had collected all receivables
due it in completion of Phase II.
In September 2004, the Company entered into a Cooperative Agreement with the
TSA. Under the agreement, the Company provided proof-of-concept for the
Company's "NextGen Checked Baggage Program (STOXOR)" over a nine month period.
The agreement provides funding in the amount of $367,141 for Stage 1, and an
additional $145,381 for Stage 2, if, at the conclusion of Stage 1, the TSA
elects to continue with the Company. There is no obligation for the TSA to fund
the Company's development efforts under this agreement beyond Stage 1 or to
purchase any of the Company's products once it has completed development
activities. As of January 31, 2006, the Company earned and collected $367,141 in
cooperative financing from the TSA to complete Stage 1.
On July 18, 2005, the Company executed a Time and Material Subcontract in the
amount of $333,688 with Integrated Concepts & Research Corporation (ICRC), which
was awarded as part of ICRC's Prime Contract Number DAAE07-02-C-L062 with the
United States Army Tank - Automotive and Armaments Command, Warren Michigan
(TACOM). Under the Subcontract, the Company will deliver one CarBomb Finder(TM)
head unit and provide the engineering and technical support necessary for its
integration in the SmarTruck II Multi-Mission Vehicle. The finished prototype is
expected to be field tested by the U.S. Army in mid 2006. As of date, the
Company has received payment in the amount of $222,716 for its performance to
date.
Below is a summary of research and development costs for the following periods:
Period from
August 21, 1995
(Inception) to
Nine months ended January 31, January 31,
---------------------------- -----------
2006 2005 2006
----------- ----------- -----------
Research and development costs $ 1,804,227 $ 998,582 $ 6,454,370
Grant proceeds earned (283,822) (396,218) (1,736,596)
----------- ----------- -----------
Net research and development costs $ 1,520,405 $ 602,364 $ 4,717,774
----------- ----------- -----------
NOTE 17 - RETIREMENT PLAN
In July 2005, the Company's Board of Directors approved a SIMPLE IRA Plan (the
"Plan"). Participation in the Plan is automatic for those employees who meet
eligibility requirements unless they decline participation. Under the Plan, the
Company provides matching contributions of up to 3% of each participating
employee's annual eligible compensation. The maximum employee contribution is
subject to regulatory limitations. The Plan expense included in loss from
continuing operations for the nine months ended January 31, 2006 was $26,439.
22
NOTE 18 - COMMITMENTS AND CONTINGENCIES
Consultancy Agreements and Contracts
In August 2004, the Company entered into an agreement with an engineering and
construction firm, which agreed to provide design and construction management
services to the Company in connection with a proposed manufacturing plant
capable of producing commercial quantities of the CarBomb Finder(TM). Under the
terms of the proposal, the engineering and management firm is responsible for
designing and implementing a facility which is suitable for its intended
purposes, including creating a flow process recommendation, designing the
optimum configuration for the facility, providing construction management,
assisting with supplier relationships, and reviewing transportation, laboratory
testing and other logistical issues. As of the date of the Report, the agreement
is no longer in effect and the Company has an accounts payable of $35,039.
In August 2004, the Company entered into a Teaming Agreement with a global
maintenance services firm which would allow for the Company to sub-contract
maintenance services and under which both parties would jointly bid on business.
In August 2004, the Company entered into a Retention Agreement with the
Company's current securities counsel, for legal services which include the
preparation and review of the Company's annual and quarterly reports, regulatory
filings and other assistance with corporate and contract needs as the Company
may request from time to time.
In January 2005, the Company entered into a retention agreement with an attorney
to act as special co-Counsel to the Company on discovery and litigation matters
related to the class action law suit filed against the Company. Pursuant to the
agreement, the Company paid the attorney a retainer of $5,000 with a commitment
to pay legal fees with cash, registered shares of common stock, or a combination
of both.
In April 2005, the Company entered into a subcontract with a global maintenance
and services company, in which the subcontractor as Exclusive Service Provider
will provide the Company with product support and aftermarket servicing,
including the installation, repair and preventative maintenance for all products
to be sold and deployed by the Company in the United States. Pursuant to the
subcontract, the Company will pay the contractor on an hourly basis for labor,
plus travel and expenses, and supply all necessary parts and technical support
to allow contractor to fulfill its obligations.
In April 2005, the Company entered into a retention agreement with a law firm to
act as special counsel to the Company on discovery and litigation matters
related to the arbitration between Isaac Yeffet of Yeffet Security Consultants
and the Company. Pursuant to the agreement, the Company paid the law firm a
retainer of $20,000 against which legal fees and costs associated with the
matter would be offset
In May 2005, the Company entered into a contract with a consultant for Edgar
filing services in which it prepays one year of services with 104,000 restricted
shares of its common stock. Pursuant to the agreement, the Company issued the
service provider a three year warrant to purchase 50,000 shares of its common
stock with an exercise price of $0.75 per share, as the shares had not been
filed for registration on or before June 30, 2005.
In June 2005, the Company entered into a contract with a consultant to provide
public media relations on a guaranteed placement basis. Under the contract, the
Company agrees to pay the consultant pursuant to a fixed fee schedule for
successful placements and media coverage incorporating the Company's products
and technologies.
In September 2005, the Company entered into a contract with a consultant to
provide investor relations. Under the contract, the Company agrees to pay the
consultant $2,000 per month and make timely reimbursements for any approved
expenses incurred.
In November 2005, the Company entered into an engagement letter with an attorney
to act as special counsel to the Company on discovery and litigation matters
related to the arbitration between HWH Enterprises and the Company. Pursuant to
the agreement, the Company will pay the attorney $200 per hour and agrees to
reimburse the attorney for any pre-approved expenses.
In November 2005, the Company engaged a research physicist as a scientific
advisor and consultant to the Company. Pursuant to the letter agreement, the
Company will pay the consultant an annual consultancy fee of approximately
(euro) $11,750 in cash and/or common stock of the Company payable in quarterly
installments. Either party may terminate the agreement at any time.
In November 2005, the Company entered into a reseller agreement with a leading
governmental sales organization related to non-exclusive rights to market and
resell the Company's products and services to federal, state and local
customers. The reseller agreement expires in six months but may be extended at
the sole option of the reseller.
23
In November 2005, the Company entered into a letter agreement with technology
management consultant in which the consultant will provide the Company with
advisory services as to business strategy, technology management and new
product/innovation development. The Company will pay the consultant a retainer
of $25,000, payable in restricted common stock of the Company. The agreement may
be terminated by any party with 60 days' written notice to the other.
In December 2005, the Company engaged a research physicist to serve as
scientific advisor and consultant to the Company. Pursuant to the letter
agreement, the consultant shall join the Scientific Advisory Board and provide
guidance as to the effectiveness and applicability of the Company's
counter-terror technologies in Israel, and the Company will issue the consultant
options to purchase 60,000 shares of common stock of the Company at $0.36 per
share, which shall vest on an annual basis. Either party may terminate the
agreement at any time.
In January 2006, the Company entered into a new contract with a consultant to
provide engineering services and production planning for a six month-month
period. Major terms of the agreement are as follows:
o The Company will pay the consultant cash remuneration of $4,000
and issue him restricted shares in the amount of $15,000 for each
month of services performed under the engagement.
o The Company will reimburse consultant for any pre-approved
expenses during the engagement.
o In the event the Company files a registration statement on S-8,
the Company will include restricted shares issued to the
consultant for resale and the Company has the option to prepay the
consultant's services with S-8 stock.
In January 2006, the Company entered into a Teaming Agreement with a
service-disabled veteran-owned (SDVO) sales organization under which both
parties would jointly bid on business relating to the integration and sale of
the Company's products and services to select federal agencies. The term of the
agreement is one year, unless extended by mutual agreements and may be
terminated at any time upon mutual written consent.
In January 2006, the Company entered into a reseller agreement with a
service-disabled veteran-owned (SDVO) related to the rights to market and resell
the Company's products and services to federal agencies and customers. The
Company agrees to work with no other qualified SDVO in the sales and marketing
of its products and services. The reseller agreement and related pricing expires
in one year unless extended by mutual agreements.
In January 2006, the Company entered into a joint marketing agreement with a
Swedish manufacturer of security products in which the parties agree to offer a
combination of their products and technologies for sale to prospective customers
in the United States and in Sweden. Pursuant to the agreement, the parties agree
to provide exclusive license for resale of their products and the Company agrees
to provide support as to advertising, media and press relations, dealer and
distributor support; training, technical data and product documentation; and
after-sale support, including maintenance, upgrades, and product enhancements.
Placement Agency Agreements
In September 2005, the Company entered into an exclusive agreement with a
placement agent to arrange for the sale of debt or equity securities. Major
terms of the agreement are as follows:
o The term of the agreement will be for one year or in the event the
placement agent has not completed financing of at least $2 million
in the first 30 days, the Company may cancel at any time with 5
days' written notice of cancellation.
o The Company will pay a retainer in the amount of $10,000 to be
deducted from any fees due under the agreement.
o The Company will pay a success fee equal to 10% of any of the
gross proceeds received by the Company derived from the efforts of
the placement agent for any amounts up to $3 million and 7% for
that amount in excess of $3 million, plus reimbursable expenses
not to exceed $10,000 without written approval of the Company.
o In connection with advisory services related to strategic
transactions, the Company shall pay the placement agent a cash fee
of 3% of the aggregate value/consideration received.
o The Company will issue the placement agent warrants to purchase 8%
of the amounts of securities placed with investors through the
efforts of the placement agent. The exercise price of the warrants
will be equal to the price at which the securities were placed.
The warrants vest immediately, expire four years from the date of
grant, and include "piggyback" registration rights.
o As part of the agreement, the Company executed a separate letter
indemnifying BHP and its related parties for services provided
under the engagement letter.
24
Employment Agreements
In January 2005, the Company entered into an employment agreement for the
employment of Roger W.A. Spillmann as Secretary and Vice President. This
agreement is still in effect; however, Mr. Spillmann now serves as the Company's
President and CEO. Major commitments in the agreement are as follows:
o The Company must pay its him an annual base salary of $200,000, of
which $140,000 will be payable in cash, and the remainder in
deferred compensation in the form of three notes, bearing interest
at 5% per annum, one due April 30, 2005, one due August 31, 2005,
and one due November 30, 2005
o The Company granted him a stock option to purchase 500,000 shares
of common stock which shall be exercisable at a price no greater
than the average trading price for the last thirty (30) days from
the issuance date. The option will be fully vested over a year
period on December 31, 2005.
o If the employment agreement is terminated by the Company without
cause, the Company must pay him on the termination date, severance
pay in an amount equal to six (6) months of the minimum annual
base salary.
o The Company will provide him with comprehensive family medical and
dental healthcare benefits.
Effective February 2005, the Company entered into an employment agreement with a
research scientist in which the Company committed to pay the research scientist
an annual base salary of $85,000 and employee stock options to purchase 35,000
shares of common stock on an annual basis, with equal vesting on a bi-annual
basis. Pursuant to the employment agreement, the Company committed to reimburse
the employee for relocation expenses up to $5,000 and provide standard medical
and dental healthcare benefits.
In March 2005, the Company entered into an employment agreement with its
Controller. Major commitments included in the agreement are as follows:
o The Company must pay its Controller an annual base salary of
$200,000, of which $125,000 will be payable in cash and/or stock,
and the remainder in deferred compensation in the form of three
notes, bearing interest at 5% per annum, one due April 6, 2005, one
due August 6, 2005 and one due January 6, 2006.
o The Company has the option to prepay services of its Controller
with common shares having a value equivalent to six (6) months of
the above stated salary in the event the Company files a
registration statement on S-8.
o The Company granted its Controller a stock option to purchase
500,000 shares of common stock with an exercise price of $0.72 per
share. The option became fully vested on July 6, 2005.
o If the employment agreement is terminated by the Company without
cause, the Company must pay its Controller on the termination
date, severance pay in an amount equal to six (6) months of the
minimum annual base salary.
o The Company will provide its Controller with comprehensive family
medical and dental healthcare benefits.
Effective October 2005 and revised December 2005, the Company entered into an
employment agreement with an executive assistant in which the Company committed
to pay the employee an annual base salary of $46,607 in cash. Pursuant to the
employment agreement, the employee will receive standard medical and dental
healthcare benefits and 50% tuition reimbursement, and upon six months of
continuous service may participate in the Company's stock option plan.
In October 2005, the Company entered into an employment agreement with a junior
research scientist in which the Company committed to pay the scientist an annual
base salary of $52,000 in cash and $24,000 in shares of common stock in equal
quarterly installments if the Company files a registration statement on Form
S-8. Pursuant to the employment agreement, the scientist may participate in the
Company's stock option plan and will receive standard medical and dental
healthcare benefits.
In December 2005, the Company entered into an employment agreement with a CAD
draftsman in which the Company committed to pay the employee an annual base
salary of $44,860 in cash. Pursuant to the employment agreement, upon sixty days
of employment the scientist will receive standard medical and dental healthcare
benefits and upon ninety days qualify for enrollment in the Company's IRA plan.
In December 2005, the Company entered into an employment agreement with a Senior
Projects Manager in which the Company committed to pay the employee an annual
base salary of $55,000 in cash and, after six months of continuous employment,
employee stock options to purchase 40,000 shares of common stock per year at the
market price on the issuance date, with equal vesting on a bi-annual basis.
Pursuant to the employment agreement, upon sixty days of employment the
scientist will receive standard medical and dental healthcare benefits and upon
ninety days qualify for enrollment in the Company's IRA plan.
In January 2006, the Company entered into an employment agreement with a senior
scientist in which the Company committed to pay the scientist an annual base
salary of $120,000 and, after six months of continuous employment, employee
stock options to purchase 35,000 shares of common stock per year at the market
price on the issuance date, with equal vesting on a bi-annual basis. Pursuant to
the employment agreement, upon sixty days of employment the scientist will
receive standard medical and dental healthcare benefits.
25
In December 2005, the Company entered into an employment agreement with a
software engineer in which the Company committed to pay the employee an annual
base salary of $75,000 and, after six months of continuous employment, employee
stock options to purchase 37,500 shares of common stock per year at the market
price on the issuance date, with equal vesting on a bi-annual basis. Pursuant to
the employment agreement, upon sixty days of employment the scientist will
receive standard medical and dental healthcare benefits and upon ninety days
qualify for enrollment in the Company's IRA plan.
Purchase and Sales Agreements
In April and May 2004, the Company issued a purchase order for neutron
generators at a total cost of approximately (euros) 678,000, approximately
$813,600. The Company had the option to lease these units from the vendor for up
to 12 months but has returned all units prior to the 12 month period due to
performance issues under the lease.
In May 2004, the Company ordered gamma radiation detectors and other components
for a total cost of $1,368,000. The Company began receiving the detectors and
components in May 2004 and continued to receive units at varying intervals. Due
to its decision to better balance inventory, the Company has halted delivery for
the remaining gamma radiation detectors until such time it receives orders
sufficient to justify adding detectors.
In November 2004, the Company issued a purchase order for two advanced neutron
generators at a total cost of approximately $335,000 for use in research and
development related to the Company's SuperSenszor(TM) program and the Company's
cooperative research agreement with the TSA. As of January 31, 2006, the Company
has paid for and received one of the generators and has made a non-refundable
deposit of $92,997 against the remaining unit with the balance due upon
acceptance following delivery.
In January 2005, the Company received an order for one SIEGMA(TM) system, along
with a down payment in the amount of $75,000, and a guarantee of the balance
upon delivery, from a company located in Tenerife, Canary Islands, Spain.
Payment of the balance in the amount of $227,000 is due upon testing and
acceptance of the unit, which has been postponed due to delays in the securing
by the purchaser of the appropriate licenses and end-used permits for local
regulatory bodies.
In February 2005 and in March 2005, the Company issued purchase orders in the
amount of $304,000 and $611,000, respectively, for robotic vehicles to be used
to facilitate remote deployment of its explosive detection devices. As of July
31, 2005, the Company received all of the robotic vehicles ordered. In October
and November 2005 the Company returned five of the units for a complete
cancellation of the amount owed for those units.
In May 2005, the Company entered into an Equipment Sales Agreement with a major
transit authority in connection with the purchase of two SIEGMA(TM) systems for
an aggregate sum of $603,104. Accordingly, on June 10, 2005, the Company
received Purchase Order No. 4500233769 from the Commonwealth of Pennsylvania in
the amount of $603,104. In September 2005, the Company received a down payment
in the amount of $375,581 and in January 2006, the Company received the balance
of the purchase order following completion of Factory Acceptance Test and launch
of customization and integration program. During the first six months, the
Company will provide the buyer with any upgrades made to the hardware and
software delivered as part of its cooperative sales program and one year of
maintenance and service.
Material Agreements
In January 2005, the Company entered into a non-binding Memorandum of
Understanding ("MOU") to form a joint venture company which will establish and
maintain an assembly, testing, sales and service center in Tenerife, Spain. The
parties intend that the joint venture company will provide for the construction
and/or build-out of an assembly, testing, and service center for the Company's
Stoitech(TM) explosive detection products, including the CarBomb Finder(TM) and
SIEGMA systems, as well as sell and market these products to private,
governmental and military clients, including NATO, throughout Spain and the
European Union on an exclusive basis, and throughout South America and Africa on
a non-exclusive basis, subject to certain conditions and exclusions. The Company
is currently working on completing definitive agreements related to the proposed
joint venture and had proposed the formation of a local commission to secure EU
governmental support.
26
Lease Agreement
In October 2002, the Company entered into a three-year operating lease agreement
with one of its directors at that time for its corporate offices in Irvine,
California. In October 2005, the Company extended the lease for an additional
year adding 2,265 square feet of space within the same building, bringing the
total building space to 13,262. The new space is being used for additional
offices, inventory storage, with space set aside for some product assembly. The
Company also has an option for additional space if needed for expanded assembly
or manufacturing. The addendum for one additional year provides for monthly rent
of $17,591. The Company also leases 2,400 feet of outdoor testing space which is
included in the monthly rent under the terms of the addendum. Rent expense for
the nine months ended January 31, 2006 was $140,433. The addendum to the lease
expires in October 2006 and the aggregate future minimum payment under the lease
agreements is $149,524.
Litigation
In May 2003, Barry Alter brought a lawsuit against the Company in the New Castle
County Court of Chancery in Delaware to recover the advancement of expenses in
the amount of $24,000 he allegedly incurred in response to an SEC investigation
which mirrored the Company's investigation by the SEC, and for which Mr. Alter
obtained separate legal counsel to represent him. That action was identified as
Civil Action No. 20320NC. On June 17, 2003, Mr. Alter notified the Company that
this action had been voluntarily dismissed without prejudice. However, to date,
there has been no settlement with Mr. Alter, and there can be no assurance that
the claims he asserted against the Company will not be resuscitated at some time
in the future.
The Company is currently arbitrating a dispute with its former consultant,
Yeffet Security Consultants, Inc. ("YSCI") and Isaac Yeffet, President of YSCI.
The Company entered into a three-year consulting agreement with YSCI in July
2002 whereby YSCI was to assist the Company with business development, product
and corporate image advertising, and access to government grants and purchases.
For its consulting service, the agreement provided that YSCI would be paid
$20,000 per month, plus 5% of any gross revenues collected in cash from
government grants or business and other third-party business that YSCI produced
for the Company.
In October 2003, the Company notified YSCI that it was terminating its contract.
In February 2004, YSCI filed a Demand for Arbitration, alleging that the Company
breached the consulting agreement and seeking to recover $450,000 in unpaid
consulting fees. In April 2004, YSCI amended its Demand for Arbitration to
include a claim for commissions that YSCI claims it is owed in connection with
investments made by individuals who purchased shares of the Company's stock. The
Amended Demand for Arbitration also seeks a determination as to whether Mr.
Yeffet is entitled to exercise options to purchase 500,000 shares of common
stock issued to him under the Company's Stock Option Agreement. In June 2004,
the Company filed an answer generally denying YSCI's allegations set forth in
the original and amended Demands for Arbitration. The Company also filed a cross
Demand for Arbitration seeking disgorgement of all monies paid to YCSI and
rescission of the consulting agreement and stock option agreement. Depositions
in this matter began in New Jersey on December 15, 2004 for the Company and in
January 2005 for YSCI. At present, the parties are exchanging discovery and
awaiting arbitration hearings to commence within the next 30 to 60 days. The
Company intends to defend itself vigorously in the arbitration. As of this date,
the Company and its legal counsel have made no other determination as to the
merits of, or possible defenses to, the arbitration.
Prior to its termination, YSCI was granted options to purchase 1,000,000 shares
of common stock with an exercise price of $1 per share and exercisable for six
years from the date of grant. Of these options, 500,000 vested immediately, and
the remaining 500,000 were to vest one year after the achievement of certain
milestones. The vested 500,000 stock options were valued at $761,000.
In January 2005, the Company was served with a Summons and Class Action
Complaint For Violations of Federal Securities Laws, which was filed on October
18, 2004, in the Federal District Court for the Southern District of California
under case number SACV04-1226 GLT. The Complaint filed named the Company and its
Chairman, among other named defendants, on behalf of a class of persons who
acquired the stock of the Company during the period from February 22, 2002
through July 8, 2004. In February 2005, plaintiff's counsel filed a First
Amended Complaint entitled and styled, "In re: HiEnergy Technologies, Inc.
Securities Litigation," Master File No. 8:04-CV-01226-DOC (JTLx), alleging
various violations of the Federal securities laws, generally asserting the same
claims involving Philip Gurian, Barry Alter, and the Company's failure to
disclose their various securities violations including, without limitation,
allegations of fraud. The First Amended Complaint seeks, among other things,
monetary damages, attorney's fees, costs, and declaratory relief. The Company
engaged two legal firms to vigorously defend itself in this matter and assess
the impact of the pending lawsuit. On Friday, March 25, 2005, the Company timely
filed responsive pleadings as well as Motions to Dismiss the Plaintiffs' First
Amended Complaint arguing that the Complaint failed to state a claim upon which
relief can be granted. On June 17, 2005, the Court issued an Order Granting the
Motions to Dismiss (the "Order"), finding that the Plaintiffs failed in the
First Amended Complaint to allege causation of loss resulting from any alleged
omissions and/or misrepresentations of the Company or Dr. Maglich, to sustain a
cause of action for securities fraud under ss.10(b) of the Exchange Act and Rule
10b-5 of the SEC, that the Plaintiffs had failed to plead actual reliance on any
allegedly false or misleading filings of the Company to sustain a claim under
ss.18 of the Exchange Act, and that the Plaintiffs had failed to allege a
primary violation of any securities laws to sustain a claim for a violation of
ss.20(a) of the Exchange Act. On July 5, 2005, the Plaintiffs filed a Second
Amended Complaint in compliance with the Court's Order. On October 24, 2005, the
Court issued a Minute Order granting in part and denying in part Motions to
Dismiss filed by the Company, finding that the Plaintiffs failed in the Second
Amended Complaint to sustain a cause of action for securities fraud under
ss.10(b) of the Exchange Act and Rule 10b-5 of the SEC against Dr. Maglich and
for claims that the Company filed false and misleading financial statements and
executed suspicious stock sales. On November 14, 2005, the Court held a
scheduling conference at which the Plaintiff informed the Company that it would
not file a Third Amended Complaint. In accordance with the Scheduling Order from
the Court, class representative motions are to be filed within 90 to 120 days
and pre-trial conference has been scheduled for September 11, 2007. Company
counsel will respond to any motions with appropriate challenges to its legal
sufficiency to state a claim upon which relief may be granted. As of date, the
costs to defend the class action have been substantial and it is unable to
predict an exact amount, or even a meaningful estimate, of the aggregate costs
that may be incurred, at this time.
27
In April 2005, a claim was filed against the Company with the 101st Judicial
District Court, Dallas County, Texas by Data Discovery Inc., ("DDI") (Civil
Action No. 3-05-CV-0949-M). DDI, representing one party of a dissolved
partnership, is seeking the collection on behalf of the partnership of $107,300
allegedly owed to it for services purported to have been fully-provided to the
Company. The Company engaged local counsel and filed, on May 10, 2005, a Notice
of Removal to move the case to federal court, and a Motion for Dismissal. In
July 2005, the District Court delivered a Memorandum Opinion and Order granting
the Company's Motion for Dismissal and ordered that within twenty days DDI amend
its suit to the satisfaction of the District Court, or the order will become a
dismissal with prejudice, which would bar DDI from filing any other suit against
the Company related to the subject matter of its current claim. In August 2005,
DDI filed a new lawsuit on behalf of the partnership which is expected to go
before the Court following an appropriate period for discovery. The costs of
defending against the Complaint could be substantial; however the Company is
unable to predict an exact amount, or even a meaningful estimate, at this time.
In October 2005, a claim was filed against the Company with the Supreme Court of
the County of New York, New York by HWH Enterprises ("HWH") (Index No.
603438/05). HWH is seeking collection of $101,621.18 allegedly owed to it for
its public relations services purported to have been provided to the Company
during the prior fiscal year. The Company engaged local counsel and intends to
defend itself and counsel will respond with appropriate challenges. As of this
date, the Company and its legal counsel have made no other determination as to
the merits of, or possible defenses to, the claim, and are unable to predict a
meaningful estimate of the costs of defending against the claim at this time.
In November 2005, a claim was filed against the Company with the District Court
of Orange County, California by SBI-USA ("SBI"). SBI is seeking collection of a
fee in the amount $50,000 allegedly owed to it for financial advisory services
purported to have been provided to the Company during the fiscal year ended
2003. The Company is in the process of engaging local counsel and intends to
defend itself and counsel will respond with appropriate challenges. As of this
date, the Company and its legal counsel have made no other determination as to
the merits of, or possible defenses to, the claim, and are unable to predict a
meaningful estimate of the costs of defending against the claim at this time.
In December 2005, a claim was filed against the Company with the County Court of
Dallas County by Lockwood Greene Engineers Inc. ("LGE") (Cause No.
cc-05-12059-b). LGE is seeking collection of a fee in the amount of $35,039
allegedly owed to it for engineering and construction services purported to have
been provided to the Company during the fiscal year ended 2005. The Company is
in the process of engaging local counsel and intends to defend itself and
counsel will respond with appropriate challenges. As of this date, the Company
and its legal counsel have made no other determination as to the merits of, or
possible defenses to, the claim, and are unable to predict a meaningful estimate
of the costs of defending against the claim at this time.
Potential Legal Actions
In December 2005, the Company received a letter from EADS North America, Inc.
("EADS") alleging breaches by the Company of a lease agreement between the
Company and EADS, dated April 29, 2004 (the "Lease"). Pursuant to the terms of
the Lease, EADS was to deliver ten neutron generators on a fixed schedule agreed
upon by both parties. The Company received four of the ten neutron generators
with significant delays due to production and support issues and ceased payments
pending resolution. Prior to the end of the Lease, the Company returned the four
generators it had received due to non-performance by EADS and sought termination
of the contract. The letter from EADS alleges that the Company failed to meet
its payment obligations, demands early termination payments, cancellation of
discounts and other charges unrecognized by the Company, and threatens
litigation in the event the Company fails to cure immediately. The Company has
fully reserved $239,017 for lease payments in accordance with terms of the lease
while it attempts to resolve the matter. As of this date, no legal action has
been filed by either party and the Company intends to defend itself against any
legal proceeding that may be brought by EADS on the basis indicated in this
letter. The Company is unable to predict a meaningful estimate of the costs of
defending itself against any possible legal action, should one be filed in the
future. The Company currently sources neutron generators from other trusted
vendors and its ability to manufacture its products has not been materially
impacted by this dispute.
28
Minority Shareholders
On January 25, 2005, Microdevices was effectively merged into the Company
through a short form merger effected by the Company and certified by the
Secretary of the State of Delaware, whereupon the Company assumed all assets and
liabilities of Microdevices. Under the terms of the merger, the Company issued
452,029 shares of common stock to the remaining stockholders of HiEnergy
Microdevices on the basis of 22.3524 HiEnergy shares for 1 share of HiEnergy
Microdevices (the same ratio that was used in the original voluntary share
exchange). Additionally, we may be required to issue up to 704,190 shares of the
Company's common stock to former holders of options and warrants of Microdevices
who hold rights to purchase HiEnergy shares at $0.156 per share. These rights
survived the merger and may be exercised any time before April 25, 2007, subject
to the payment of promissory notes representing the purchase price.
Convertible Notes Payable
As of January 31, 2006, the Company has outstanding $778,400 of convertible
notes payable ("CNP") issued to investors, which together with accrued interest
are convertible into 1,521,253 shares of common stock. The $778,400 of CNP
includes $500,000 of convertible notes issued by the Company to various
investors between September and November 2005, which bear interest at 10% per
annum (except if an event of default in which case they bear interest at the
default rate of 12% per annum from the default date until such default is cured
or waived) and are due in October and November 2006. The CNP were issued with
detachable warrants to purchase 400,000 shares of common stock with a three year
term at an exercise price of $0.80 per share. The holders have the option to
convert the principal and accrued interest into shares of common stock at a
conversion price of $0.60 per share at any time until the later of the
prepayment date or the maturity date. The Notes are senior to all of the
Company's existing indebtedness, other than any current or future accounts
receivable financing up to an aggregate face amount of $1,000,000. The CNP have
been recorded net a remaining unamortized debt discount of $201,271 for the
relative values of the beneficial conversion feature and detachable warrants.
The remainder of the $778,400 CNP consists of a $240,000 CNP issued in June 2004
and $38,400 of CNP issued as a penalty due to the Company's inability to file an
effective registration statement. The notes have two-year maturities in which
the holder of the notes has the option to convert the principal and accrued
interest into shares of common stock at a conversion price of $0.45 per share at
any time until the later of the prepayment date or the maturity date. The
conversion price is subject to adjustment for stock splits, stock dividends,
combinations, and other similar structural events. The CNP also had detachable
warrants to purchase shares of common stock with a three and one-half year term
following the registration date for prices between $0.45 and $1.25. The CNP and
detachable warrants have registration rights on the underlying shares, and in
certain cases, if the shares of common stock issuable upon conversion of the CNP
or exercise of the detachable warrants are not registered within certain
specified deadlines, the holders are due penalties in the form of (i) additional
CNP equal to 2% of the original face amount, or principal balance, and/or (ii)
additional detachable warrants to purchase 2% of the amount of shares
exercisable under the original warrants, for each subsequent month until a
registration statement is filed and maintained effective by the Company, or when
the penalties become impermissible as a matter of law as prescribed in the
instrument, or can be sold without registration under Rule 144.
In June 2005, a note holder converted $185,000 of convertible notes originally
purchased in January 2004, plus $11,932 of accrued interest into 437,627 shares.
The holder maintains an option to purchase an additional $400,000 worth of CNP,
which have detachable warrants to purchase a number of shares of common stock
which terminates prior to the filing of the Company's next registration
statement.
In July 2005, a note holder converted $70,000 of convertible notes, originally
purchased in January 2004 and $11,400 worth of convertible notes accrued as
penalties for the Company's failure to timely file a registration statement,
plus $3,739 of accrued interest into 189,917 shares.
29
Convertible Notes Payable - Related Parties
As of January 31, 2006, the Company has outstanding $448,722 of convertible
notes payable - related parties to its former legal counsel for conversion of
accounts payable which are unsecured, bearing interest at 10% per annum that
became due on demand in April 2005. The convertible notes payable - related
parties, together with accrued interest may be converted into 560,929 shares of
common parties at a conversion prices between $0.85 and $1.00 per share at any
time. The conversion price is subject to adjustment for stock splits, stock
dividends, combinations, and other similar structural events with respect to the
issuance of the Company's common stock. In October 2005, the related party
converted $224,361 of the convertible notes, plus $46,856 of accrued interest
into 452,028 common shares.
Penalty Securities
After August 2003, the Company entered into certain stock and convertible note
purchase agreements which contain a provision that requires the Company to (i)
register, as freely trading, the shares of common stock and the shares of common
stock issuable upon exercise of warrants or conversion of the convertible notes
payable within certain deadlines, in a Registration Statement on Form SB-2; and
(ii) pay or accrue a penalty in like securities if such shares of common stock
are not registered within the specified deadlines. In accordance with the
relevant registration rights provisions in these agreements, the Company has
paid or accrued penalties due purchasers in these offerings, because the Company
failed to meet the specified deadlines for having a Registration Statement on
Form SB-2 declared and maintained effective.
In December 2005 the Company's Board approved a special warrant offer allowing
investors to exercise their existing warrants at greatly reduced exercise
prices. In conjunction with this offer each participating investor forfeited any
right to receive penalties after November 2005. However, for investors who did
not participate in the special warrant offer, the Company remains obligated to
honor these registration rights and to issue additional securities as a result
of the related penalties, and it will incur additional financial costs or
penalties until such time as all registrable shares under the agreements have in
fact been registered or when the penalties become impermissible as a matter of
law as prescribed in the instrument or can be sold without registration under
Rule 144. The Company and its stockholders are subject to substantial dilution
as a result of the Company's inability to register shares as required by the
Company's agreements. The warrants to be issued as penalties whose underlying
shares are estimated below are exercisable at prices ranging from $0.45 to
$1.75.
For illustration purposes only, the table below estimates the approximate
amounts of penalty securities to be issued by the Company through April 30,
2006, on a monthly basis, in accordance with current agreements under which the
Company is, or may be, delinquent in satisfying its registration requirements:
Number of Shares
Shares of Common Underlying
Stock Warrants
---------------- ----------
Feb-06 12,132 174,790
Mar-06 12,132 177,602
Apr-06 12,132 180,414
------ -------
Total 36,396 532,806
------ -------
The above estimates reflect monthly amounts to be issued or committed and may
not correspond to amounts appearing elsewhere in this report due to accruals for
expense purposes.
Government Contract Commitments
The Company completed the second year of Phase II of a Small Business Innovation
Research ("SBIR") contract awarded to it in August 2002 by the U.S. Army Night
Vision and Electronic Sensor Directorate ("NVESD"). Under the terms of the
contract, the Company is to develop and test its Anti-Tank Landmine Detector
7AT7(TM) over a two-year period, which was extended for one additional year at
the option of the U.S. Army. As of January 31, 2006, the Company earned $779,944
against the contract. If further research and development work is required upon
the expiration of Phase II, the Company has the ability to submit a request for
additional Phase II and/or Phase III funding, which the government would
consider based upon the Company's progress to date and the merits of the
project. The U.S. Army is under no obligation to continue to assist in funding
these research and development costs beyond Phase II or any subsequent
extension, or to purchase any of the Company's products, including the Anti-Tank
Landmine Detector 7AT7(TM), once the Company has completed development
activities. Under the terms of the contract, the U.S. Army pays a portion of the
Company's research and development costs on a periodic basis during the term of
the contract, for which the Company is required to submit monthly written
reports detailing its progress. The Company recognizes the proceeds from the
contract as an offset against research and development expenses following the
submission of the monthly written reports. When the written report is accepted
by the U.S. Army, the Company usually receives payment in about 30 to 45 days.
As of January 31, 2006, the Company had collected all receivables due it in
completion of Phase II.
30
In September 2004, the Company entered into a Cooperative Agreement with the
U.S. Transportation Security Administration (TSA). Under the agreement, the
Company is to provide proof-of-concept for the Company's "NextGen Checked
Baggage Program (STOXOR)" over a nine month period, which may be extended at the
option of the TSA. The agreement provides funding in the amount of $367,141 for
Stage 1, and an additional $145,381 for Stage 2, if, at the conclusion of Stage
1, the TSA elected to continue with the Company. There is no obligation for the
TSA to fund the Company's development efforts under this agreement beyond the
Stage 1 funded amount or to purchase any of the Company's products once it has
completed development activities. The TSA will pay the Company's research and
development costs on a periodic basis during the term of the contract, for which
the Company is required to submit monthly written reports detailing its progress
under the contract. When the written report is accepted by the TSA, the Company
receives payment in about 30 to 45 days. Payments commenced in November 2004 and
the Company recognized the Stage 1 funding amount as an offset against research
and development expenses upon submission of the monthly written reports. As of
January 31, 2006, the Company had collected all receivables due it in completion
of Stage 1.
On July 18, 2005, the Company executed a Time and Material Subcontract in the
amount of $333,688 with Integrated Concepts & Research Corporation (ICRC), which
was awarded as part of ICRC's Prime Contract Number DAAE07-02-C-L062 with the
United States Army Tank - Automotive and Armaments Command, Warren Michigan
(TACOM). Under the Subcontract, the Company will deliver one CarBomb Finder(TM)
head unit and provide the engineering and technical support necessary for its
integration in the SmarTruck II Multi-Mission Vehicle. The finished prototype is
expected to be field tested by the U.S. Army in early 2006. As of date, the
Company has received payment in the amount of $222,716 for its performance.
Funding of the program was provided through a supplemental authorization of the
Defense Appropriations Act for Fiscal Year 2005. ICRC will pay the Company's
time and material costs on a periodic basis during the term of the contract, for
which the Company is required to submit monthly written reports detailing its
progress under the subcontract. The Company recognizes the proceeds from the
subcontract as an offset against research and development expenses following the
submission of the monthly written reports. Pursuant to the subcontract, when the
written report is accepted by ICRC, the Company receives payment in about 30 to
45 days, or no later than 5 days after payment by the U.S. Army Contracting
Officer to ICRC.
The Company's entitlement to the above-mentioned funding is conditioned upon its
compliance with the terms and conditions of the respective SBIR contract and
cooperative agreement, as well as applicable federal regulations, including
auditing of the expenditure of the resources for allowable purposes by grantor
agencies of the federal government or their designees. The Company believes that
any commitments or obligations that may arise from cost disallowance or
sanctions as a result of those audits are not expected to be material to its
financial statements.
Subsidiaries
In July 2005, the Company formed a wholly-owned subsidiary HiEnergy
International Co. In August 2005, the Company formed a wholly-owned subsidiary,
HiEnergy Leasing Co., for the purpose of creating a business entity to establish
and administrate an equipment lease finance and equipment rental operations.
NOTE 19 - COMMON STOCK
Common Stock Issued or Committed for Cash
During the nine months ended January 31, 2006 and 2005, and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue 3,564,447, 6,383,227 and 17,316,321 shares of common stock,
respectively, in exchange for cash of $1,620,000, $3,232,156 and $8,364,424,
respectively.
Common Stock Issued upon Exercise of Warrants
During the nine months ended January 31, 2006 the Company issued or committed to
issue 10,842,220 shares of common stock in exchange for cash of $1,487,127. The
issuance of these common shares was the result of a special warrant offer
approved by the Company's Board of directors in December 2005. Under the terms
of the offer, investors who has previously received warrants in conjunction with
their investments were allowed to exercise those warrants at greatly reduce
exercise prices. The average exercise price for the purchase of the 10,842,220
shares was $0.14. See "Note 20 - Stock Options and Warrants".
31
Offering Costs on Issuance of Common Stock for Cash
During the nine months ended January 31, 2006 and 2005, and the period from
August 21, 1995 (inception) to January 31, 2006, the Company incurred offering
costs of $117,485, $31,750 and $257,253, respectively. The current year period
includes $55,485 of offering costs related to the special warrant offer. Also
during the nine months ended January 31, 2006 the Company issued 106,667 shares
of common stock as offering costs.
Common Stock Issued or Committed for Services Rendered or to be Rendered
During the nine months ended January 31, 2006 and 2005, and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue 458,359, 387,455 and 14,217,341 shares of common stock, respectively,
in exchange for services rendered or to be rendered, valued at the fair market
of the common stock issued of $290,391, $493,465 and $5,553,715, respectively.
Included in the current period and inception-to-date amount remains $18,460 for
prepaid services which will be expensed in the final quarter of fiscal 2006.
Details of the services performed, in consideration for the common stock, during
the nine months ended January 31, 2006, are as follows:
o During the nine months ended January 31, 2006, 30,000 restricted
shares of common stock valued at $21,000 were issued to a
design/manufacturing consultant as compensation for services.
o During the nine months ended January 31, 2006, 104,000 restricted
shares of common stock valued at $73,840 were issued for prepaid
Edgar filing services, of which $55,380 was has been expensed with
the remaining balance of $18,460 a deposit to be applied against
future filing services.
o During the nine months ended January 31, 2006, 154,359 restricted
shares valued at $108,051 were issued or committed to settle
accounts payable of $70,820 for prior legal services. The
difference between the GAAP value of the shares and the accounts
payable balance of $37,231 was expensed in the current period.
o During the nine months ended January 31, 2006, the Company issued
or committed to issue a total of 170,000 restricted shares of
common stock valued at $87,500 to members of its Board of
Directors for their attendance at scheduled meetings. Each member
of the Company's board had received 5,000 shares of un-registered
common stock, then beginning in January 2006, 10,000 shares of
un-registered common stock for each meeting attended.
Common Stock Issued or Committed on the Conversion of Convertible Notes Payable
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue 1,079,572, 302,421 and 2,977,909 shares of common stock, respectively,
for the outstanding principal and accrued interest on convertible notes payable
balances of $553,612, $149,560 and $1,386,325, respectively. Included in both
the current period and inception-to-date shares are 178,173 shares issued to
induce the conversion of $271,217 of convertible notes payable plus accrued
interest. The extra shares resulted in an inducement charge of $106,904. The
inception-to-date shares also include 944,444 shares committed at the end of
fiscal-year 2004 for a subscription receivable collected at the beginning of
fiscal-year 2005 in the amount of $425,000.
Common Stock Issued on the Conversion of Promissory Notes
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued 32,820,
1,139,130 and 1,171,950 shares of common stock, respectively, for the settlement
of outstanding promissory notes and accrued interest in the aggregate amount of
$14,769, $524,000 and $538,769.
Common Stock Issued on the Cashless Exercise of Warrants
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued 22,463,
1,046,687 and 1,895,294 shares of common stock, respectively, on the cashless
exercise of warrants.
32
Common Stock Issued or Committed as a Penalty for Late Registration
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue 709,942, 1,732,945, and 3,607,699 shares of common stock, respectively,
as penalty expenses in the amount of $449,448, $1,844,614 and $3,755,936,
respectively, for the late registration of the Company's common stock. See "Note
18 - Commitments and Contingencies, Penalty Securities".
NOTE 20 - STOCK OPTIONS AND WARRANTS
Stock Options - General
The Company has adopted only the disclosure provisions of SFAS No. 123. It
applies APB Opinion No. 25 and related interpretations in accounting for its
plans and does not recognize compensation expense for its stock-based
compensation plans other than for restricted stock and options issued to outside
parties.
For purposes of computing the pro forma disclosures required by SFAS No. 123,
the fair value of each option granted to employees and directors is estimated
using the Black-Scholes option-pricing model. The Black-Scholes option valuation
model was developed for use in estimating the fair value of traded options,
which do not have vesting restrictions and are fully transferable. In addition,
option valuation models require the input of highly subjective assumptions,
including the expected stock price volatility. Because the Company's employee
stock options have characteristics significantly different from those of traded
options, and because changes in the subjective input assumptions can materially
affect the fair value estimate, in management's opinion, the existing models do
not necessarily provide a reliable single measure of the fair value of its
employee stock options.
The following summarizes the stock option and warrant transactions for employees
and other service providers:
Stock
Weighted Options Weighted Weighted
Average and Average Total Average
Stock Exercise Warrants Exercise Options Exercise
Options Price Non- Price And Price
Employee Per Share Employee per Share Warrants per Share
--------- -------- --------- -------- --------- --------
Outstanding,
August 21, 1995
(inception) to
April 30, 2001 2,482,011 $ 0.13 1,051 $ 0.28 2,483,062 $ 0.13
Granted 287,653 $ 0.20 346,373 $ 0.28 634,026 $ 0.24
--------- -------- --------- -------- --------- --------
Outstanding,
April 30, 2002 2,769,664 $ 0.14 347,424 $ 0.28 3,117,088 $ 0.16
--------- -------- --------- -------- --------- --------
Granted 3,461,755 $ 1.24 2,002,726 $ 2.02 5,464,481 $ 1.43
Canceled (2,264,208) $ 1.33 (1,051) $ 0.28 (2,265,259) $ 1.33
Outstanding,
April 30, 2003 3,967,211 $ 0.42 2,349,099 $ 1.76 6,316,310 $ 0.84
--------- -------- --------- -------- --------- --------
Granted 1,738,221 $ 1.03 1,029,000 $ 1.11 2,767,221 $ 1.01
Canceled (1,058,483) $ 1.42 (119,705) $ 0.36 (1,178,188) $ 1.31
Outstanding
April 30, 2004 4,646,949 $ 0.42 3,258,394 $ 1.61 7,905,343 $ 0.83
--------- -------- --------- -------- --------- --------
Granted 2,956,980 $ 0.76 100,000 $ 0.99 3,056,980 $ 0.77
Canceled (910,000) $ 1.08 (876,668) $ 2.79 (1,786,668) $ 1.92
--------- -------- --------- -------- --------- --------
Outstanding
April 30, 2005 6,693,929 $ 0.70 2,481,726 $ 1.17 9,175,655 $ 0.82
--------- -------- --------- -------- --------- --------
Granted 1,379,510 $ 0.56 177,179 $ 0.65 1,556,689 $ 0.57
Canceled (365,000) $ 0.79 -- $ -- (365,000) $ 0.79
Outstanding
January 31, 2006 7,708,439 $ 0.67 2,658,905 $ 1.13 10,367,344 $ 0.79
Exercisable
January 31, 2006 6,758,439 $ 0.63 2,138,905 $ 1.17 8,897,344 $ 0.76
--------- -------- --------- -------- --------- --------
33
The weighted-average remaining contractual life of the options and warrants
outstanding at January 31, 2006 was 4.23 years. The exercise prices of the
options and warrants outstanding at January 31, 2006 ranged from $0.01 to $2.95,
and information relating to these options and warrants is as follows:
Weighted- Weighted-
Weighted- Average Average
Average Exercise Exercise
Stock Stock Remaining Price of Price of
Range of Options & Options & Contractual Options & Options &
Exercise Warrants Warrants Life Warrants Warrants
Prices Outstanding Exercisable (years) Outstanding Exercisable
--------------- ---------------- --------------- -------------- ---------------- ---------------
$0.01 - $0.99 7,248,901 6,278,901 4.62 $ 0.47 $ 0.44
$1.00 - $1.99 2,184,454 1,684,454 3.70 $ 1.09 $ 1.12
$2.00 - $2.95 933,989 933,989 2.48 $ 2.54 $ 2.54
---------- ---------
10,367,344 8,897,344
========== =========
Option issued for service
During the nine months ended January 31, 2006 the Company issued an option to
purchase 20,000 common shares to a consultant. No expense has been recorded as
the option vests after 12 months.
Details of the option issued for services performed or to be performed during
the nine months ended January 31, 2006 are as follows:
No. of Shares 20,000
----------
Term Five Years
Compensation
value $2,263
Stock price on
commitment date $ 0.38
Exercise price $ 0.38
Expected life 1.0 years
Risk-free rate
of return 4.38%
Expected annual
volatility 72.26%
Annual rate of
dividends 0%
Services provided Consulting
Grant December 2005
Services
34
Warrants Issued or Committed to Investors and
Placement Agents in Private Placements
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue warrants to purchase 8,790,018, 10,451,261, and 28,833,314 shares of
common stock, respectively, to investors and placement agents in private
placements. In conjunction with the Company's special warrant offer, these
investors exercised warrants to purchase 10,842,220 common shares and forfeited
warrants to purchase an additional 6,423,337 common shares as of January 31,
2006.
Warrants Forfeited with Special Warrant Offer
In December 2005 the Company's Board of Directors approved a special warrant
offer whereby investors were allowed to exercise their existing warrants at
greatly reduced prices. This offer resulted in the exercise of warrants to
purchase 10,842,220 common shares at an average price of $0.14 per shares, see
"Note 19 - Common Stock". The terms of the special warrant offer required
participants to forfeit unexercised warrants to purchase common stock equal to
the number of shares they purchased to the extent of their remaining warrant
balances. In conjunction with the special warrant offer participants forfeited
warrants to purchase 6,423,337 common shares of which warrants to purchase
747,036 common shares had previously been issued as a penalty due to the
Company's inability to file an effective registration statement, see "Note 18 -
Commitment and Contingencies".
Warrants Issued or Committed for Services Rendered
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue warrants to purchase 157,179, 100,000, and 1,435,408 shares of common
stock, respectively, for services rendered. The warrants were valued at $42,362,
$38,573 and $1,018,397, respectively, which is the fair value as determined by
the Black-Scholes option pricing model. Warrants issued in the current period to
purchased 77,179 common shares were issued in conjunction with common stock to
settle accounts payable for prior legal services. As the GAAP valuation of the
common stock more than offset the accounts payable balance, the $22,531 value of
the warrants was expensed in the current period. A warrant was issued in the
current period to purchase 50,000 common shares valued $11,369 for prepaid Edgar
filing services, of which $8,527 of the amount has been expense and the
remaining $2,842 will be expensed in the final quarter of fiscal year 2006.
Details of the warrants issued for services performed or to be performed during
the nine months ended January 31, 2006 are as follows:
No. of Shares 50,000 77,179 30,000
---------- ---------- -----------
Grant June 2005 June 2005 June 2005
Term Three Years Five Years Three Years
Compensation
value $ 11,369 $ 22,531 $8,463
Stock price on
commitment date $ 0.65 $ 0.70 $0.70
Exercise price $ 0.75 $ 0.65 $0.68
Expected life 1.0 years 1.0 years 1.0 years
Risk-free rate
of return 3.51% 3.61% 3.61%
Expected annual
volatility 100% 100% 100%
Annual rate of
dividends 0% 0% 0%
Services provided Edgar Filing Prior Legal Manufact.
Services Fees Planning
35
Warrants Issued or Committed as Penalty for Late Registration
During the nine months ended January 31, 2006 and 2005 and the period from
August 21, 1995 (inception) to January 31, 2006, the Company issued or committed
to issue warrants to purchase 3,158,222, 1,701,204, and 5,814,300 shares of
common stock, respectively, as a penalty with a fair value of $708,194 ,
$1,158,690 and $2,227,222, respectively, for the late registration of the
Company's common stock. The fair values of the warrants were determined using
the Black-Scholes model. See "Note 18 - Commitments and Contingencies, Penalty
Securities".
Warrants Becoming Cashless as Penalty for Late Registration
During the nine months ended January 31, 2006, of the remaining warrants to
purchase 14,052,844 common shares, 1,951,244 became cashless due to the
Company's inability to file and maintain effective a registration statement
within certain specified deadlines. See "Note 18- Commitments and Contingencies,
Penalty Securities" and "Cashless Warrants" below.
Cashless Warrants
As of January 31, 2006, of the remaining warrants to purchase a total of
14,052,844 common shares, up to 5,863,466 can be purchased with cashless
exercise rights. If the closing price for the Company's shares is greater than
the exercise price, then the holders may exercise the warrant by a cashless
exercise. The number of shares to be received by the holders upon cashless
exercise is determined by the spread between the closing price of the Company's
common stock on the exercise date and the exercise price of the warrant, but
would not exceed the number of the underlying shares to the warrant so
exercised. These common shares would be issued to the holder with no proceeds to
the Company.
NOTE 21 - SUBSEQUENT EVENTS
Recent Sales and Issuances of Securities
In February 2006, the Company extended its special warrant offer to allow an
investor to exercise his warrants to purchase 611,892 common shares of stock for
$122,378.
Stock for Services
In February 2006, the Company committed to issue common shares to an engineering
consultant valued at $90,000 for consulting services. As of January 31, 2006,
$82,500 had been accrued for the consulting services.
Penalty Securities
In February 2006, the Company committed to issue 12,132 Shares and warrants to
purchase 174,790 Shares, of which a portion of the warrant values was accrued in
January 2006, at various exercise prices between $0.45 and $1.75, to various
holders of securities with registration rights as a penalty, due to the
Company's inability to file and maintain effective a registration statement
within certain specified deadlines.
Consultancy Agreements and Contracts
In February 2006, the Company engaged a research physicist as a scientific
advisor and consultant to the Company to pursue funded cooperative research and
development with NATO, IAEA, EU and local governments and certain marketing
activities. Pursuant to the letter agreement, the Company agrees to pay the
consultant a retainer of $40,000 in the form of stock of the Company and
reimburse any pre-approved expenses. Either party may terminate the agreement at
any time upon 60 days written notice to the other.
36
In February 2006, the Company executed an engagement letter with an independent
contractor to provide radiation licensing, certification, training and auditing
services. Major terms of the agreement are as follows:
o The Company agrees to pay $150 for each hour invoiced by the
consultant during the engagement in cash and/or stock of the
Company.
o The Company has the option to prepay the consultant's services
with stock with an obligation to file any shares issued for
services on a registration statement.
o The Company will reimburse consultant for any pre-approved
expenses.
In March 2006, the Company entered into a consultancy agreement with a senior
research scientist to provide software engineering, software documentation and
architecture for a six month-month period. Major terms of the agreement are as
follows:
o The Company will pay $60 for each hour invoiced by the consultant
during the engagement in cash and/or stock of the Company.
o The Company has the option to prepay the consultant's services
with stock with an obligation to file any shares issued for
services on a registration statement.
o The Company will reimburse consultant for any pre-approved
expenses during the engagement.
Potential Legal Actions
On January 24, 2006, personal legal counsel for our Chairman, Dr. Bogdan
Maglich, submitted a memorandum to the Company's Board of Directors alleging
that, despite our payment to Dr. Maglich of salary, bonuses, expenses and other
benefits, some of the provisions of his employment agreement had not been
implemented, resulting in an adverse financial impact to Dr. Maglich personally.
Dr. Maglich's legal counsel proposed to settle this claim for (i) cash or a
demand note in the amount of $66,569, (ii) $188,271 worth of common stock
registered for sale, and (iii) $232,785 of restricted common stock. On January
25, 2006, Dr. Maglich's personal legal counsel met with the Company's Board
during which meeting it was agreed that Dr. Maglich and the Company would
attempt to settle the claims. On February 9, 2006, Dr. Maglich's personal legal
counsel sent a letter to the Board stating that the failure to accede to Dr.
Maglich's demands and provide him with certain other requested benefits, could
be viewed as a constructive termination and entitle Dr. Maglich to two years
severance pay pursuant to his employment agreement and "result in other
significant effects on the Company." On February 17, 2006, the Company's Board
of Directors removed Dr. Bogdan Maglich from his position as our Chief Executive
Officer and suspended him from his duties as Chairman of the Board, Treasurer
and Chief Scientific Officer. The period of the suspension continues until the
Board has determined the best course of action in the interest of the Company.
On February 17, 2006, Dr. Maglich's legal counsel further stated to the Board
that his suspension as Chairman and from his other executive duties could
constitute a constructive termination.
The Company's management has completed a preliminary evaluation of Dr. Maglich's
claims, and does not believe that it owes him the amount of additional
compensation and benefits that he has demanded. In February 2006, the Company
retained special litigation counsel expert in these matters to represent its
interests and intends to vigorously contest Dr. Maglich's allegations. The costs
of defending any legal action that might possibly be brought against the Company
by Dr. Maglich could be substantial; however the Company is unable to predict an
exact amount, or even a meaningful estimate, at this time.
Change in Directors or Principal Officers
In February 2006, the Company's Board of Directors took the following actions:
o The Board removed Dr. Bogdan Maglich from his positions as the
Company's Chief Executive Officer as well as
suspended him from his duties as its Chairman of the Board,
Chief Scientific Officer and Treasurer.
o The Board elected William Nitze and Peter LeBeau as Interim Chairman
and Vice Chairman respectively.
o The Board elected Roger W.A. Spillmann as the Company's new Chief
Executive Officer to replace Dr. Maglich in that capacity.
o The Board appointed Roger W.A. Spillmann and Colonel William J.
Lacey, Jr. as Directors to fill vacancies on the Board.
In March 2006, the Board elected our President and CEO, Roger W.A. Spillmann, to
serve as Treasurer of the Company, replacing Dr. Bogdan Maglich as Treasurer.
37
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Any reference to "we," "us" and "our" herein shall mean HiEnergy Technologies,
Inc., together with its consolidated subsidiaries, HiEnergy Defense, Inc.,
HiEnergy Mfg Company, HiEnergy International Co., HiEnergy Europe, Ltd.,
HiEnergy Leasing Co., and its former subsidiary, HiEnergy Microdevices, Inc.
FORWARD LOOKING STATEMENTS
This quarterly report on Form 10-QSB (the "Report"), the other reports,
statements, and information that we have previously filed or that we may
subsequently file with the Securities and Exchange Commission, and public
announcements that we have previously made or may subsequently make include, may
include, incorporate by reference, or may incorporate by reference, certain
statements that may be deemed to be "forward-looking statements". These
forward-looking statements relate to such matters as, among other things, our
anticipated financial performance, business prospects, technological
developments, new products, future distribution or license rights, international
expansion, possible strategic alternatives, new business concepts, capital
expenditures, consumer trends, and similar matters.
Forward looking statements necessarily involve known and unknown risks,
uncertainties and other factors that may cause our actual results, levels of
activity, performance, or achievements to be materially different from any
future results, levels of activity, performance, or achievement expressed or
implied by such forward-looking statements. Readers are cautioned to review
carefully the discussion concerning these and other risks which can materially
affect our business, operations, financial condition and future prospects, which
is found under the heading Risk Factors at the end of this Item 2 and in "Note 4
- - Risks and Uncertainties" to our unaudited Consolidated Financial Statements.
In some cases, you can identify forward-looking statements by terminology such
as "may," "will," "should," "could," "intend," "expect," "anticipate," "assume",
"hope", "plan," "believe," "seek," "estimate," "predict," "approximate,"
"potential," "continue", or the negative of such terms. Statements including
these words and variations of such words, and other similar expressions, are
forward-looking statements. Although we believe that the expectations reflected
in the forward-looking statements are reasonable based upon our knowledge of our
business, we cannot absolutely predict or guarantee our future results, levels
of activity, performance, or achievements. Moreover, neither we nor any other
person assumes responsibility for the accuracy and completeness of such
statements.
We note that a variety of factors could cause our actual results and experience
to differ materially from the anticipated results or other expectations
expressed in our forward-looking statements. The risks and uncertainties that
may affect the operations, performance, development and results of our business
include, but are not limited to, the following: changes in consumer spending
patterns; changes in consumer preferences and overall economic conditions; the
impact of competition and pricing; the financial condition of the suppliers and
manufacturers from whom we source our components; economic and political
instability in foreign countries or restrictive actions by the governments of
foreign countries in which suppliers and manufacturers from whom we source
products are located or in which we may actually conduct or intend to expand our
business; changes in tax laws, or the laws and regulations governing direct or
network marketing organizations; our ability to hire, train and retain a
consistent supply of reliable and effective participants in our direct or
network marketing operation; general economic, business and social conditions in
the United States and in countries from which we may source products, supplies
or customers; the costs of complying with changes in applicable labor laws or
requirements, including without limitation with respect to health care; changes
in interest rates; the cost of insurance, shipping and postage, energy, fuel and
other business utilities; the reliability, longevity and performance of our
licensors and others from whom we derive intellectual property or distribution
rights in our business; the risk of non-payment by, and/or insolvency or
bankruptcy of, customers and others owing indebtedness to us; threats or acts of
terrorism or war; and strikes, work stoppages or slow downs by unions affecting
businesses which have an impact our ability to conduct our own business
operations.
Forward-looking statements that we make, or that are made by others on our
behalf with our knowledge and express permission, are based on knowledge of our
business and the environment in which we operate, but because of the factors
listed above, actual results may differ from those in the forward-looking
statements. Consequently, these cautionary statements qualify all of the
forward-looking statements we make herein. We cannot assure the reader that the
results or developments anticipated by us will be realized or, even if
substantially realized, that those results or developments will result in the
expected consequences for us or affect us, our business or our operations in the
way we expect. We caution readers not to place undue reliance on these
forward-looking statements, which speak only as of their dates, or on any
subsequent written and oral forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirety by these
cautionary statements. We do not undertake any obligation to release publicly
any revisions to such forward-looking statements to reflect events or
circumstances after the date hereof or thereof or to reflect the occurrence of
unanticipated events.
38
Readers should also note that the safe harbor for forward-looking statements,
provided by, among other federal regulations, Section 21E of the Exchange Act,
are unavailable to issuers of penny stocks. As we have issued securities at a
price below $5.00 per share, our shares are considered penny stocks and such
safe harbors are therefore unavailable to us.
GENERAL
The following discussion and analysis of our financial condition and plan of
operation should be read in conjunction with the unaudited Consolidated
Financial Statements and accompanying Notes and the other financial information
appearing elsewhere herein. Certain statements contained herein may constitute
forward-looking statements, as discussed at the beginning of this Item 2. Our
actual results could differ materially from the results anticipated in the
forward-looking statements as a result of a variety of factors, including those
discussed in our filings with the Securities and Exchange Commission and as
discussed in the sections under the heading Risk Factors at the end of this Item
2 and in "Note 4 - Risks and Uncertainties" to our unaudited Consolidated
Financial Statements.
OVERVIEW OF COMPANY
HiEnergy Technologies, Inc. ("HiEnergy", together with its subsidiaries, the
"Company") is a nuclear technologies-based company focused on the
commercialization of its initial proprietary, neutron-based, "stoichiometric"
sensor devices, including (i) our CarBomb Finder(TM) 3C4, a vehicle-borne
system, for the detection and identification of car bombs, (ii) our SIEGMA(TM)
3E3 and SIEGMA(TM) 3M3, portable suitcase-borne systems for the detection and
identification of home-made bombs, also known as Improvised Explosive Devices or
IEDs, (iii) our CarBomb Finder(TM) 3C5, an in-ground screening system for the
detection and identification of car bombs and (iv) our STARRAY(TM), an
all-terrain robot-borne IED detector. We are marketing our devices to
governmental and private entities and are negotiating licenses for distribution
of our devices with various industry partners. To date, we have devoted the bulk
of our efforts and resources to the research, design, testing and development of
our proprietary "stoichiometric" or Atometer(TM) sensor devices and underlying
technologies, and have yet to generate meaningful revenues from the sale of any
products using its technologies.
We also continue to focus on the research and development of additional
applications of our technologies and their further exploitation, both internally
and through collaboration with third parties. We are currently developing
prototypes in programs with the U.S. Department of Defense and the U.S.
Department of Homeland Security for other related uses of our core technology.
We entered into a funded cooperative development agreement with the U.S.
Transportation Security Administration to produce a proof of concept which
incorporates our SuperSenzor (TM) technology into a baggage screening system.
Our "stoichiometric" technology, or "Stoitech(TM)", or "Atometry" has been
incorporated into additional prototype applications which, if we are able to
raise the funds necessary to commercialize them, will be the next products we
attempt to launch: (i) a landmine detector, the Anti-Tank Landmine Detector
7AT7; (ii) a palletized cargo explosive and contraband screening system; (iv) an
unexploded ordnance detector, Unexploded Ordnance Sensor 3UXO3, which is also
useful to detect IEDs; and (v) a device the Company calls a "Refractorymeter",
which can detect fissures or erosions in the ceramic lining of oil cracking
tanks.
HiEnergy was originally incorporated under the laws of the State of Washington
on March 22, 2000 under the name SLW Enterprises Inc. ("SLW") and was
redomiciled on October 22, 2002 as a Delaware corporation. At present, we have
five wholly-owned subsidiaries, HiEnergy Defense, Inc., HiEnergy Mfg Company,
HiEnergy International Co., HiEnergy Europe, Ltd., and HiEnergy Leasing Co.
HiEnergy Defense, Inc. was incorporated under the laws of the State of Delaware
in July 2003 to focus on marketing military and defense applications of our
technology within the Washington D.C. area from its office in Alexandria,
Virginia. HiEnergy Europe Ltd. was incorporated under the laws of the State of
Delaware in March 2004 and is presently not operating, but will focus on
marketing our technology throughout the European Union. HiEnergy Mfg Company was
incorporated under the laws of the State of Delaware in March 2005 and formed
for the purpose of creating a separate entity for the manufacturing and assembly
of our products. HiEnergy International Co. was incorporated under the laws of
the State of Delaware in July 2005 and was formed for the purpose of creating a
separate entity for the sales and servicing of our products overseas, excluding
Europe, and primarily the Middle East and Africa. HiEnergy Leasing Co. was
incorporated under the laws of the State of Delaware in August 2005 and formed
for the purpose of creating a business entity to establish and administrate an
equipment lease finance and equipment rental operations.
39
Prior to January 2005, we also had one majority-owned subsidiary, HiEnergy
Microdevices, Inc., which was incorporated in Delaware on August 21, 1995 and
was the vehicle through which Stoitech(TM) was initially developed by our
Chairman, Dr. Bogdan Maglich ("Microdevices", and together with HiEnergy Europe,
Ltd., HiEnergy Defense, Inc., HiEnergy Mfg Company, HiEnergy International Co.
and HiEnergy Leasing Co., the "Subsidiaries"). As a result of a short-form
merger, which became effective on January 25, 2005, we assumed all of
Microdevices' assets and liabilities and Microdevices ceased to exist as a
separate entity as of that date.
On April 25, 2002, SLW Enterprises, Inc., which was then a "public shell
company", was taken over by the shareholders of Microdevices, including our
Chairman, Dr. Bogdan Maglich, pursuant to a voluntary share exchange whereby the
shareholders of Microdevices exchanged 92% of the outstanding shares of
Microdevices for approximately 64% of the outstanding shares of SLW. The costs
of this "reverse takeover" transaction were approximately $451,000, and were
expensed as a general and administration expense in the periods incurred.
Our common shares currently trade on the National Association of Securities
Dealers ("NASD") Over-the-Counter Bulletin Board ("OTCBB") under the symbol
"HIET".
BASIS OF PRESENTATION
For accounting purposes, the reverse takeover by Microdevices of HiEnergy was
accounted for as a re-capitalization of Microdevices in a manner similar to a
pooling of interests, with Microdevices as the accounting acquirer (reverse
acquisition). Since HiEnergy (formerly SLW) was a "public shell company", with
no material assets and liabilities at the date of the acquisition and no
significant operations prior to the acquisition, no pro forma information has
been presented.
We have prepared our accompanying unaudited Consolidated Financial Statements on
a going-concern basis in accordance with accounting principles generally
accepted in the United States of America. This going-concern basis of
presentation assumes that we will continue operations for the foreseeable future
and will be able to realize our assets and discharge our liabilities and
commitments in the normal course of business. As described in Risk Factors:
Risks Related to Our Business at the end of this Item 2, there is substantial
uncertainty about our ability to continue as a going concern. Our financial
statements do not include adjustments that might result from the outcome of this
uncertainty.
The accompanying unaudited Consolidated Financial Statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with instructions for Form 10-QSB and Item 310 of
Regulation S-B. Accordingly, they do not include all the information and
footnotes required by generally accepted accounting principles for a complete
set of annual financial statements. We believe our disclosures are adequate so
that the information presented is not misleading. These accompanying unaudited
Consolidated Financial Statements should be read with our annual audited
financial statements and the notes thereto included in our Annual Report on Form
10-KSB for the year ended April 30, 2005, and other reports filed with the SEC.
In our opinion, all adjustments (consisting of normal recurring adjustments)
considered necessary for a fair presentation of results of the financial
position and the operations have been included in the accompanying unaudited
Consolidated Financial Statements. Results of operations for the nine months
ended January 31, 2006 are not necessarily indicative of the results that may be
expected for the fiscal year ending April 30, 2006, or for any other period.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of our financial condition and results of operations
are based on our unaudited Consolidated Financial Statements and accompanying
Notes and the other financial information appearing elsewhere in this Report,
which have been prepared in accordance with accounting principles generally
accepted in the United States of America. The preparation of these financial
statements requires us to make estimates and judgments that affect the reported
amounts of assets, liabilities and expenses, and related disclosure of
contingent assets and liabilities. On an ongoing basis, we evaluate our
estimates. We base our estimates on assumptions that we believe to be reasonable
under the circumstances, the results of which form the basis of making judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates
under different assumptions or conditions.
Long-lived Assets
Property and equipment are recorded at cost and depreciated using the
straight-line method over an estimated life of five years. Determining the
estimated life of our property and equipment requires judgment and changes to
the estimated life could materially impact the amount of depreciation expense
recognized in the statement of operations and the amount recognized as property
and equipment in the consolidated balance sheet.
40
Stock-based Compensation
We account for stock-based awards to employees and directors using the intrinsic
value method of accounting in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25"). Under
the intrinsic value method, where the exercise price of our employee stock
options equals or exceeds the market price of the underlying stock on the date
of grant, no compensation expense is recognized in our Consolidated Statements
of Operations.
Where the exercise price of our employee stock options is less than the market
price of the underlying stock on the date of grant ("in-the-money"),
compensation expense is recorded in our Consolidated Statement of Operations.
From August 21, 1995 (inception) until April 25, 2002 (date of reverse
takeover), the fair value of the common stock was determined by calculating the
weighted average price at which we sold the stock in the month or nearest the
month the stock option was issued. For subsequent periods, the fair value of our
common stock was the quoted market price of the common stock at closing on the
date an instrument was granted.
We account for stock options and warrants issued to non-employees in accordance
with SFAS No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"),
EITF Issue No. 96-18, "Accounting for Equity Instruments That Are Issued to
Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services" ("EITF 96-18"), and related interpretations.
The application of SFAS No. 123 in determining the fair value of the equity
instruments granted requires judgment, including as to the expected life, stock
price volatility for stock options and warrants, and expected dividends. Changes
in any of these factors could materially impact the amount of expense recognized
in the consolidated statement of operations for goods and services received from
non-employees.
Research and Development Costs
We account for research and development costs in accordance with SFAS No. 2,
"Accounting for Research and Development Costs". Research and development costs
are charged to operations as incurred. As described in section 3.50 of the
Government Contract Audit Guide for Fixed-Price Best-Efforts Cost Sharing
Arrangements, amounts earned under our development contracts with the U.S.
Department of Defense and U.S. Department of Homeland Security have been offset
against research and development costs, in accordance with the provisions of
that section, in all periods presented.
THREE MONTHS ENDED JANUARY 31, 2006 COMPARED TO THREE MONTHS ENDED
JANUARY 31, 2005
For the three months ended January 31, 2006, we incurred a net loss of $
$2,041,000, as compared to a net loss of $1,645,000 for the three months ended
January 31, 2005. Included in the losses are equity based expenses of $405,000
and $703,000, respectively.
Operating Expenses
GENERAL AND ADMINISTRATION
General and administration expenses were $1,084,000 for the three months ended
January 31, 2006, an increase of $255,000 from the prior year. In lieu of cash,
we have often engaged service providers by offering common stock, warrants,
options and convertible notes payable ("CNP") as compensation. Through various
arrangements, these providers have provided services such as business
development, business and financial consulting, Edgar filing services, legal and
other professional services, and directorship. Some warrants and options have
been issued and expensed, but then subsequently forfeited causing no dilution to
us. The major components of general and administration expenses, both cash and
equity, are as follows:
41
Three Months Ended January 31, 2006 Three Months Ended January 31, 2005
---------------------------------------- ----------------------------------------
Cash & Equity Cash & Equity
Accrued Based Accrued Based Increase/
Expenses Compensation Total Expenses Compensation Total (Decrease)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Salaries & related $ 314,000 $ -- $ 314,000 $ 183,000 $ -- $ 183,000 $ 131,000
Consulting 43,000 57,000 100,000 117,000 40,000 157,000 (57,000)
Legal fees 238,000 -- 238,000 107,000 -- 107,000 131,000
Accounting fees 40,000 -- 40,000 30,000 -- 30,000 10,000
Investor & public
relations 46,000 -- 46,000 58,000 -- 58,000 (12,000)
Insurance 95,000 -- 95,000 45,000 -- 45,000 50,000
Travel 81,000 -- 81,000 65,000 -- 65,000 16,000
Other 149,000 21,000 170,000 124,000 60,000 184,000 (14,000)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total $1,006,000 $ 78,000 $1,084,000 $ 729,000 $ 100,000 $ 829,000 $ 255,000
========== ========== ========== ========== ========== ========== ==========
For the three months ended January 31, 2006, as compared to the prior year
period, salary and related expense increased $131,000. This increase was
primarily due the hiring of additional administrative personnel, expanded
benefits including the establishment of investment retirement accounts, as well
as supplemental salary increases and non-recurring incentives. We also hired
over the last year two senior personnel, including Roger W.A. Spillmann (who was
hired as Secretary and Vice President but currently serves as our President,
CEO, Treasurer and Corporate Secretary) in January 2005 and our Controller in
March 2005. Both had served as consultants from July 2004 until their conversion
to employees, filling vacancies left by employees who received comparable lower
wages. This increase in employee wages for both new hires has had a
corresponding decrease in consultancy expense with their conversion, as related
below. We expect salaries and benefits expense to stay the same during the
remainder of fiscal 2006, decrease in the first half of fiscal year 2007 as we
execute our restructuring plan, and then increase the second half of fiscal 2007
with the hiring of additional administrative personnel to provide greater
support toward our public reporting requirements, internal controls, sales and
marketing activities, and other legal and financial matters related to our
commercialization objectives.
Consulting expenses for the three months ended January 31, 2006 decreased
$57,000 from the prior year period. This decrease was off-set by a $17,000
increase in equity-based compensation due to the issuance of common shares for
director fees at Board meetings. Excluding equity-based compensation, consulting
expenses decreased $74,000 and was primarily attributable to a reduction in the
reliance on outside legal and accounting services with the conversion of legal
and financial consultants to employees as discussed above. The reduction was
off-set by an accrual, which may be paid with stock, for a consultant providing
radiation licensing and certification, training and compliance guidance with
regard to the product manufacturing, sales and operation. While we expect cash
compensation consulting expenses to remain low and total consulting expenses to
remain steady for the remainder of fiscal year 2006, we do anticipate an
increase into fiscal year 2007 as we accelerate our efforts to bring our product
to market and may have to offer equity based compensation opportunistically in
an effort to conserve cash.
Legal fees increased $131,000 for the three months ended January 31, 2006 as
compared to the prior year period. Although we have accomplished savings by
internalizing many corporate and regulatory functions and reducing our reliance
on outside corporate legal services, these savings have been outpaced by an
increase in litigation expense related to our defense of a class action law suit
and other pending legal matters disclosed in this Report. We aim to settle most
if not all of these pending litigation matters and expect litigation expense to
remain high for the remainder of fiscal year 2006 and then decrease during
fiscal year 2007. Corporate legal expenses are also expected to remain high as
we pursue the filing of registration statements for stock issued to employees,
consultants and investors, and proxy materials associated with our next
shareholders' meeting, and then decrease during fiscal year 2007.
Accounting fees increased $10,000 for the three months ended January 31, 2006
from the prior year period; however, year-to-date accounting fees have
significantly decreased. As with legal fees, we accomplished savings by
internalizing many accounting functions. We also established a more normalized
accounting activity and made significant improvements in our internal reviews.
Consequently, accounting expense decreased significantly in the second half of
fiscal year 2005 compared to prior year periods, and the savings trend continued
into fiscal year 2006. During the three months ended January 31, 2006, we
increased accounting staff in order to further reduce external accounting costs
and improve and generate efficiencies in our financial controls. For the
remainder of fiscal 2006, we expect accounting fees to decrease slightly with
the improvements we have accomplished, but remain higher than the norm as we
pursue the filing of registration statements for stock issued to employees,
consultants and investors.
42
Investor and public relations expense decreased $12,000 for the three months
ended January 31, 2006 as compared to the prior year period. During the fiscal
year 2005, we had redirected resources toward more immediate concerns, such as
product development, the funding of internal operations, and expenditures
related to legal and regulatory matters, and had internalized many investor
relations and shareholder services. In June 2005, we entered into a
cost-effective contract with a consultant to provide public media relations on a
guaranteed placement basis and most recently engaged an outside consultant to
provide investor relations services. In August 2005, we entered into a
cost-effective consultancy agreement with an investor relations firm at $2,000
per month. We anticipate investor and public relations expense to remain steady
through the remainder of fiscal year 2006, but increase steadily in fiscal year
2007 as we seek to develop increased awareness among the investor community.
Insurance expense increased by $50,000 for the three months ended January 31,
2006 over the prior year period. This increase was primarily attributable to an
overall increase in premiums for health insurance as well a an increase for new
hires, and increased workers compensation premiums. In May 2005, we renewed our
Directors and Officers liability policy for an additional year. Without a
substantial cost increase, we were able to increase our coverage from $2,000,000
to $3,000,000. While we do not anticipate an increase in insurance expense for
the remainder of fiscal year 2006, we do expect an increase in fiscal year 2007
as a result of expanding operations, including health insurance, product
liability insurance, and the renewal of our Directors and Officers policy.
Travel expenses increased by $16,000 for the three months ended January 31, 2006
over the prior year period. The increase was attributed primarily to increased
travel to demonstrate, field test and support our prototypes and products. We
have improved our administration of costs for offsite demonstrations and have
reduced the personnel requirement for demonstrations to one or two scientific
staff and one or two sales representatives. Further, we are conducting all
demonstrations with our suitcase-borne system which is more cost effective to
ship than our vehicle system, and have placed significant emphasis on the
domestic market and have limited demonstrations overseas as part of our new
capital prioritization policy. We expect that travel expenses for the remainder
of fiscal year 2006 and into fiscal year 2007 will remain high as our sales and
marketing personnel continue to attend numerous key industry conferences and
trade shows, management continues to meet with investors, consultants and
potential strategic partners, and general business activity increases in
connection with our commercialization objectives.
Other expenses for the three months ended January 31, 2006 decreased $14,000 to
$170,000 as compared to the prior year period amount of $184,000. Excluding
equity-based compensation expenses for filing services, other expenses increased
$25,000 due primarily to business development expenses, marketing expenses, and
payments to outside sales representatives upon receipt of payments towards two
of our SIGMA units. Savings were achieved in other areas such as, sponsor /
participant fees and contributions to industry symposiums and related events,
postage and delivery expense, stock transfer agent services, telecommunications,
office equipment and supplies, and licenses and permits. While we do not
anticipate other expenses to increase for the remainder of fiscal 2006, we do
expect an increase in fiscal year 2007 as our general business activity
accelerates in connection with our commercialization objectives and heightened
need for marketing and business development.
Research and Development
Net research and development expenses for the three month period ended January
31, 2006 increased $498,000 from the prior year period. Excluding grant income,
which decreased $214,000, from the prior fiscal year, research and development
expenses increased $284,000. Included in this increase is an accrual of $83,000
of equity based compensation for product development consultation. The major
components of research and development expenses are as follows:
Three Months Ended January 31, 2006 Three Months Ended January 31, 2005
----------------------------------- -----------------------------------
Cash & Equity Cash & Equity
Accrued Based Accrued Based Increase/
Expenses Compensation Total Expenses Compensation Total (Decrease)
-------- ------------ ----- -------- ------------ ----- ----------
Salaries & related $ 207,000 $ -- $ 207,000 $ 199,000 $ -- $ 199,000 $ 8,000
Consultants 57,000 83,000 140,000 50,000 -- 50,000 90,000
Supplies 42,000 -- 42,000 20,000 -- 20,000 22,000
Travel 2,000 -- 2,000 -- -- -- 2,000
Depreciation 72,000 -- 72,000 54,000 -- 54,000 18,000
Other 203,000 -- 203,000 59,000 -- 59,000 144,000
Grant Income -- -- -- (214,000) -- (214,000) 214,000
--------- --------- --------- --------- ------- --------- ---------
Total $ 583,000 $ 83,000 $ 666,000 $ 168,000 $ -- $ 210,000 $ 498,000
========= ========= ========= ========= ======= ========= =========
43
Salaries and related for research and development activities increased $8,000
for the three months ended January 31, 2006 as compared to the prior year
period, primarily due to two new hires to our research and development team,
expanded benefits including the establishment of investment retirement accounts,
as well as supplemental salary increases and non-recurring incentives. For the
remainder or fiscal year 2006 and into the first half of fiscal year 2007, we
expect decreases in research and development salaries and benefits as we execute
our restructuring plan. Further, we aim to focus on our core domestic market and
product development, and intend to limit any non-core research activities until
we have secured the grants and funding necessary to offset expenses attributed
to such.
Consulting expenses for the three months ended January 31, 2006 increased
$90,000. This increase reflects an accrual of $83,000 in equity based
compensation for production and engineering consulting services provided by a
full-time consultant under contract beginning in September 2005 and extending
into July 2006. Generally, we have reduced our reliance on paying for services
with restricted equity instruments because of the significant discounting
required to compensate for their illiquidity. While we expect consulting
expenses to remain steady for the remainder of fiscal year 2006, we do
anticipate an increase into fiscal year 2007 as we accelerate our efforts to
bring our product to market and may have to offer equity based compensation
opportunistically in an effort to conserve cash.
Supply expense increased $22,000 for the three months ended January 31, 2006 as
compared to the prior year period due to increased activity to commercialize our
prototype. In light of an acceleration of our commercialization efforts and an
increase in our grant application and cooperative development activity, related
supply expense should increase for the remainder of fiscal 2006 and into fiscal
year 2007. However, we intend to continue focusing on the completion and
advancement of our product commercialization and will direct most resources
toward that objective.
For the three months ended January 31, 2006, depreciation expense increased by
$18,000 as we have continued to purchase equipment for research and development
activities. Cumulatively, these additions have increased depreciation expense.
In light of our expected increase in research and development activities as we
advance and/or develop prototypes and make technology improvements, we expect
further research and development equipment purchases. Accordingly, depreciation
expense should increase going forward as we continue to expense current
equipment and increase our capital expenditures year over year.
Other research and development expenses for the three months ended January 31,
2006 increased $144,000 as compared to the prior year period. The increase was
primarily comprised of expenses of $80,000 incurred with the acquisition of key
research and development equipment under an operating lease. Due to contract
performance issues, we returned the equipment prior to the end of the lease and
are negotiating final payment terms. Other expenses include insurance premiums,
increasing with new hires, inventory impairment charges, as well as building
lease costs, increasing with an extension in October 2005 of our facility lease
for an additional year with a corresponding increase in both square footage and
cost per square foot. Accordingly, we expect other research and development
expenses to remain steady for the remainder of fiscal year 2006, with the
decrease in expense with the cancellation of the operating lease being offset by
the increase for insurance and building lease costs.
We have completed the second year of Phase II of a Small Business Innovation
Research ("SBIR") contract awarded to us in August 2002 by the U.S. Army Night
Vision and Electronic Sensor Directorate ("NVESD"). Under the terms of the
contract, we are to develop and test its Anti-Tank Landmine Detector 7AT7(TM)
over a two-year period, which was extended for one additional year at the option
of the U.S. Army. As of January 31, 2006, we have earned $779,944 against the
contract. If further research and development work is required upon the
expiration of Phase II, we have the ability to submit a request for additional
Phase II and/or Phase III funding, which the government would consider based
upon our progress to date and the merits of the project. The U.S. Army is under
no obligation to continue to assist in funding these research and development
costs beyond Phase II or any subsequent extension, or to purchase any of our
products, including the Anti-Tank Landmine Detector 7AT7(TM), once we have
completed the development activities. Under the terms of the contract, the U.S.
Army pays a portion of our research and development costs on a periodic basis
during the term of the contract, for which we are required to submit monthly
written reports detailing its progress. We recognize the proceeds from the
contract as an offset against research and development expenses following the
submission of the monthly written reports. When the written report is accepted
by the U.S. Army, we usually receive payment in about 30 to 45 days. As of
January 31, 2006, we collected all receivables due us in completion of Phase II.
44
In September 2004, we entered into a Cooperative Agreement with the U.S.
Transportation Security Administration (TSA). Under the agreement, we are to
provide proof-of-concept for the Company's "NextGen Checked Baggage Program
(STOXOR)" over a nine month period, which may be extended at the option of the
TSA. The agreement provides funding in the amount of $367,141 for Stage 1, and
an additional $145,381 for Stage 2, if, at the conclusion of Stage 1, the TSA
elects to continue with us. As of January 31, 2006, we have earned $367,141 in
cooperative financing from the TSA to complete Stage 1. There is no obligation
for the TSA to fund our development efforts under this agreement beyond the
Stage 1 funded amount or to purchase any of our products once we have completed
the development activities. The TSA will pay our research and development costs
on a periodic basis during the term of the contract, for which we are required
to submit monthly written reports detailing our progress under the contract.
When the written report is accepted by the TSA, we receive payment in about 30
to 45 days. Payments commenced in November 2004 and we recognize the Stage 1
funding amount as an offset against research and development expenses upon
submission of the monthly written reports. As of January 31, 2006, we collected
all receivables due it in completion of Stage 1.
On July 18, 2005, we executed a Time and Material Subcontract in the amount of
$333,688 with Integrated Concepts & Research Corporation (ICRC), which was
awarded as part of ICRC's Prime Contract Number DAAE07-02-C-L062 with the United
States Army Tank - Automotive and Armaments Command, Warren Michigan (TACOM).
Under the Subcontract, we will deliver one CarBomb Finder(TM) head unit and
provide the engineering and technical support necessary for its integration in
the SmarTruck Multi-Mission Vehicle platform. The finished prototype is expected
to be field tested by the U.S. Army in early 2006. As of date, we have received
payment in the amount of $222,716 for performance to date. ICRC will pay the
Company's time and material costs on a periodic basis during the term of the
contract, for which the Company is required to submit monthly written reports
detailing its progress under the subcontract. The Company recognizes the
proceeds from the subcontract as an offset against research and development
expenses following the submission of the monthly written reports. Pursuant to
the subcontract, when the written report is accepted by ICRC, we receive payment
in about 30 to 45 days, or no later than 5 days after payment by the U.S. Army
Contracting Officer to ICRC.
Depreciation
Total depreciation expense for the three months ended January 31, 2006 and 2004
was $77,000 and $55,000, respectively. The increase in depreciation expense
reflects additional equipment put into service during the proceeding and
intervening period.
Interest Expense and Income
Interest expense for the three months ended January 31, 2006 increased to
$124,000 from $25,000 for the prior year period. Included in the current year
period is $66,000 for the amortization of the debt discount recorded with the
issuance of $500,000 of convertible notes payable during the current fiscal year
and $25,000 of debt discount expensed when $100,000 of CNP was redeemed shortly
following its issuance. The debt discount was calculated based on the beneficial
conversion feature of the notes and the detachable warrants issued with the
notes. Under GAAP accounting rules the debt discount associated with a
convertible note payable is amortized over the term of the note. The value of
detachable warrants was determined using the Black-Scholes pricing model. Other
interest expense for the three months ended January 31, 2006 was generated as
the remaining $449,000 of CNP issued to our former legal counsel for services in
prior years, the $500,000 of CNP issued in the current year and the $278,000 of
CNP issued to an investor in the prior fiscal year, bear interest rates per
annum of 10%, 10% and 5%, respectively.
Interest income for the three-month periods ended January 31, 2006 and 2005 was
minimal.
Other Expenses
During the three months ended January 31, 2006, we wrote-off property, plant and
equipment with a book value of $68,000 and recorded a loss on the disposal of
$14,000. During the three months ended January 31, 2006, we recorded a $1,400
charge due to foreign currency transaction losses.
Penalties on Debt and Equity Issuances
We have issued as penalties, CNP, common stock, and warrants to certain holders
of CNP, common stock and warrants with registration rights, as a result of our
inability to file and maintain an effective a registration statement within
certain specified deadlines. The penalties will stop accruing on all of the
instruments once a registration statement covering the instruments is filed and
maintained effective, or when the penalties become impermissible as a matter of
law as prescribed in the instrument.
In December 2005, our Board of Directors approved a special warrant re-pricing
offer for investors whereby participants were allowed to exercise their existing
warrants at greatly reduced prices under the condition, among others, that they
forfeit any claim to the right for future penalties on all securities, resulting
from our inability to file and maintain an effective registration statement or
otherwise. With the participation of a significant number of warrant holders
under the special warrant offer, we have significantly reduced future penalties
on all securities issued to investors.
45
During the three months ended January 31, 2006, the Company issued or committed
to issue 147,044 shares of common stock as penalty expenses valued in the amount
of $77,000 for the late registration of common stock. Although greatly reduced,
certain holders of unregistered common stock who did not participate in the
special warrant offer still continue to receive or accrue each month, as
applicable, additional shares calculated as a percentage of the original number
of shares purchased.
For the three months ended January 31, 2006, we recorded $75,000 as a penalty
expense upon amending warrants to provide for the purchase of an additional
734,165 common shares as penalties to these investors. Although greatly reduced,
certain investors will continue to receive each month, amendments to their
warrants to increase the number of shares underlying each original warrant. The
fair value of these warrants was determined using the Black-Scholes model. Since
all holders of CNP participated in the special warrant offer, the Company no
longer accrues any penalties to holders of CNP.
For the three months ended January 31, 2005, we recorded penalty expenses in the
amount of $285,000, $318,000, and $20,000, against the issuance of 309,920
common shares, amended warrants to purchase and additional 650,540 common shares
and $20,000 of CNP as penalties, respectively. The fair value of the warrants
was determined using the Black-Scholes model.
NINE MONTHS ENDED JANUARY 31, 2006 COMPARED TO NINE MONTHS ENDED
JANUARY 31, 2005
For the nine months ended January 31, 2006, we incurred a net loss of $
$6,253,000, as compared to a net loss of $8,208,000 for the nine months ended
January 31, 2005. Included in the losses are equity based expenses of $1,732,000
and $4,720,000, respectively.
Operating Expenses
GENERAL AND ADMINISTRATION
General and administration expenses were $3,152,000 for the nine months ended
January 31, 2006, a decrease of $553,000 from the prior year. In lieu of cash,
we have often engaged service providers by offering common stock, warrants,
options and convertible notes payable ("CNP") as compensation. Through various
arrangements, these providers have provided services such as business
development, business and financial consulting, Edgar services, legal and other
professional services, and directorship. Some warrants and options have been
issued and expensed, but then subsequently forfeited causing no dilution to us.
The major components of general and administration expenses, both cash and
equity, are as follows:
Nine months Ended January 31, 2006 Nine months Ended January 31, 2005
---------------------------------------- ----------------------------------------
Cash & Equity Cash & Equity
Accrued Based Accrued Based Increase/
Expenses Compensation Total Expenses Compensation Total (Decrease)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Salaries and related $ 855,000 $ 32,000 $ 887,000 $ 522,000 $ 39,000 $ 561,000 $ 326,000
Consulting 65,000 88,000 153,000 323,000 321,000 644,000 (491,000)
Legal fees 549,000 60,000 609,000 527,000 390,000 917,000 (308,000)
Accounting fees 232,000 -- 232,000 428,000 -- 428,000 (196,000)
Investor & public
relations 153,000 -- 153,000 187,000 -- 187,000 (34,000)
Insurance 190,000 -- 190,000 131,000 -- 131,000 59,000
Travel 299,000 -- 299,000 281,000 -- 281,000 18,000
Other 549,000 80,000 629,000 376,000 180,000 556,000 73,000
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total $2,892,000 $ 260,000 $3,152,000 $2,775,000 $ 930,000 $3,705,000 $ (553,000)
========== ========== ========== ========== ========== ========== ==========
46
For the nine months ended January 31, 2006, as compared to the prior year
period, salary and related expense increased $326,000. This increase was
primarily due the hiring of additional administrative personnel, expanded
benefits including the establishment of investment retirement accounts, as well
as supplemental salary increases and non-recurring incentives. We also hired
over the last year two senior personnel, including our Roger W.A. Spillmann (who
was hired as Secretary and Vice President but now serves as our President, CEO,
Treasurer and Corporate Secretary) in January 2005 and our Controller in March
2005. Both had served as consultants from July 2004 until their conversion to
employees, filling vacancies left by employees who received comparable lower
wages. This increase in employee wages for both new hires has had a
corresponding decrease in consultancy expense with their conversion, as related
below. We expect salaries and benefits expense to stay the same during the
remainder of fiscal 2006, decrease in the first half of fiscal year 2007 as we
execute our restructuring plan, and then increase the second half of fiscal 2007
with the hiring of additional administrative personnel to provide greater
support toward our public reporting requirements, internal controls, sales and
marketing activities, and other legal and financial matters related to our
commercialization objectives.
Consulting expenses for the nine months ended January 31, 2006 decreased
$491,000 from the prior year period. This decrease was attributable to a
decrease of $233,000 in equity-based compensation from $321,000 to $88,000 for
the nine months ended January 31, 2006. The prior year period equity-based
compensation was due to the issuance of common shares for various consulting
services, as well as for director fees, while the current year period only
includes shares for directors' fees. Excluding the equity-based compensation,
consulting expenses decreased $256,000 and was primarily attributable to the
conversion of consultants to employees, as discussed above. Generally, we have
reduced our reliance on paying for services with restricted equity instruments
because of the significant discounting required to compensate for their
illiquidity. While we expect cash compensation consulting expenses to remain low
and total consulting expenses to remain steady for the remainder of fiscal year
2006, we do anticipate an increase into fiscal year 2007 as we accelerate our
efforts to bring our product to market and may have to offer equity based
compensation opportunistically in an effort to conserve cash.
Legal fees decreased $308,000 for the nine months ended January 31, 2006 as
compared to the prior year period. The decrease was primarily due to our reduced
reliance on the issuance of equity-based compensation, which was $390,000 for
the prior year period as compared to $60,000 for the current year period. The
$60,000 of equity-based compensation expense incurred for the nine months ended
January 31, 2006 represents the excess cost of having settled certain
outstanding accounts payable to a related party for legal services. Excluding
equity-based compensation, legal fees increased $22,000. Although we have been
able to accomplish savings by internalizing many corporate and regulatory
functions and reducing our reliance on outside corporate legal services, these
savings have been outpaced by an increase in litigation expense related to our
defense of a class action law suit and other pending legal matters disclosed in
this Report. We aim to settle most if not all of these pending litigation
matters and expect litigation expense to remain high for the remainder of fiscal
year 2006 and then decrease during fiscal year 2007. Corporate legal expenses
are also expected to remain high as we pursue the filing of registration
statements for stock issued to employees, consultants and investors, and proxy
materials associated with our next shareholders' meeting, and then decrease
during fiscal year 2007.
Accounting fees decreased $196,000 for the nine months ended January 31, 2006 as
compared to the prior year period. This decrease was due to a reduction in
accounting activity. Accounting fees began decreasing significantly in the
second half of fiscal year 2005 compared to prior year periods, and continued
the savings trend throughout fiscal year 2006. The savings is the result of
normalized accounting activity and improvements to, and efficiencies achieved,
in our internal reviews. We have increased accounting staff in order to further
reduce external accounting costs and improve and generate efficiencies in our
financial controls. For the remainder of fiscal 2006, we expect accounting fees
to decrease slightly with the improvements we have accomplished, but remain
higher than the norm as we pursue the filing of registration statements for
stock issued to employees, consultants and investors.
Investor and public relations expense decreased $34,000 for the nine months
ended January 31, 2006 as compared to the prior year period. During the fiscal
year 2005, we had redirected resources toward more immediate concerns, such as
product development, the funding of internal operations, and expenditures
related to legal and regulatory matters, and had internalized many investor
relations and shareholder services. In June 2005, we entered into a
cost-effective contract with a consultant to provide public media relations on a
success fee basis and most recently engaged an outside consultant to provide
investor relations services. In August 2005, we entered into a cost-effective
consultancy agreement with an investor relations firm at $2,000 per month. We
anticipate investor and public relations expense to remain steady through the
remainder of fiscal year 2006, but increase steadily in fiscal year 2007 as we
seek to develop increased awareness among the investor community.
Insurance expense increased by $59,000 for the nine months ended January 31,
2006 over the prior year period. This increase was primarily attributable to an
overall increase for health insurance premiums as well as an increase for new
hires, and increased workers compensation premiums. In May 2005, we renewed our
Directors and Officers liability policy for an additional year. Without a
substantial cost increase, we were able to increase our coverage from $2,000,000
to $3,000,000. While we do not anticipate an increase in insurance expense for
the remainder of fiscal year 2006, we do expect an increase in fiscal year 2007
as a result of expanding operations, including health insurance, product
liability insurance, and the renewal of our Directors and Officers policy.
47
Travel expenses increased nominally by $18,000 for the nine months ended January
31, 2006 over the prior year period. In spite of expanding operations and
increased outside sales activity, we only experienced a slight increase
primarily due to our better administration of costs for offsite demonstrations.
During the prior year period, we incurred significant costs with regards to a
demonstration of our CarBomb Finder(TM) prototype in Istanbul, Turkey, which was
attended by a team of scientific personnel and required expedited shipments of
heavy equipment and materials utilized in the demonstration. We have since
improved our administration of costs for offsite demonstrations and have reduced
the personnel requirement for demonstrations to one or two scientific staff and
one or two sales representatives. Further, we are conducting all demonstrations
with our suitcase-borne system which is more cost effective to ship than our
vehicle system, and have placed significant emphasis on the domestic market and
have limited demonstrations overseas as part of our new capital prioritization
policy. We expect that travel expenses for the remainder of fiscal year 2006 and
into fiscal year 2007 will remain high as our sales and marketing personnel
continue to attend numerous key industry conferences and trade shows, management
continues to meet with investors, consultants and potential strategic partners,
and general business activity increases in connection with our commercialization
objectives.
Other expenses for the nine months ended January 31, 2006 increased $73,000 to
$629,000 as compared to the prior year period amount of $556,000. Excluding
equity-based compensation expenses for Edgar filing fees of $80,000 for the
current year period compared to $180,000 for the prior year period, other
expenses increased $173,000. The increase was attributed to business development
expenses of $75,000, marketing expenses of $24,000, and payments to outside
sales representatives of $80,000 upon receipt of a $603,000 deposit towards the
purchase of two of our SIGMA units. Savings were achieved in other areas such
as, sponsor/participant fees and contributions to industry symposiums and
related events, stock transfer agent services, telecommunications, office
equipment and supplies, and licenses and permits. While we do not anticipate
other expenses to increase for the remainder of fiscal 2006, we do expect an
increase in fiscal year 2007 as our general business activity accelerates in
connection with our commercialization objectives and heightened need for
marketing and business development.
Research and Development
Net research and development expenses for the nine month period ended January
31, 2006 increased $918,000 from the prior year period. Excluding grant income,
which decreased $112,000, from the prior fiscal year, research and development
expenses increased $806,000. Excluding equity-based expenses, net research and
development expenses increased $694,000. During the nine month period ended
January 31, 2006, we have issued or contracted to issue, equity-based
compensation to service providers in lieu of cash. The major components of
research and development expenses are as follows:
Nine months Ended January 31, 2006 Nine months Ended January 31, 2005
---------------------------------------- ----------------------------------------
Cash & Equity Cash & Equity
Accrued Based Accrued Based Increase/
Expenses Compensation Total Expenses Compensation Total (Decrease)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Salaries & related $ 588,000 $ -- $ 588,000 $ 508,000 $ -- $ 508,000 $ 80,000
Consultants 275,000 112,000 387,000 134,000 -- 134,000 253,000
Supplies 110,000 -- 110,000 61,000 -- 61,000 49,000
Travel 2,000 -- 2,000 13,000 -- 13,000 (11,000)
Depreciation 217,000 -- 217,000 136,000 -- 136,000 81,000
Other 500,000 -- 500,000 146,000 -- 146,000 354,000
Grant Income (284,000) -- (284,000) (396,000) -- (396,000) 112,000
----------- ----------- ----------- ----------- ----------- ----------- -----------
Total $ 1,408,000 $ 112,000 $ 1,520,000 $ 602,000 $ -- $ 602,000 $ 918,000
=========== =========== =========== =========== =========== =========== ===========
Salaries and related for research and development activities increased $80,000
for the nine months ended January 31, 2006 as compared to the prior year period.
This increase was due to normal increases as well as the hiring of one research
scientist in February 2005 and two new hires to our research and development
team, expanded benefits including the establishment of investment retirement
accounts, as well as supplemental salary increases and non-recurring incentives.
For the remainder of fiscal year 2006 and into the first half of fiscal year
2007, we expect decreases in research and development salaries and benefits as
we execute our restructuring plan. Further, we aim to focus on our core domestic
market and product development, and intend to limit any non-core research
activities until we have secured the grants and funding necessary to offset
expenses attributed to such.
48
Consulting expenses for the nine months ended January 31, 2006 increased
$253,000 from $134,000 to $387,000. Part of the $253,000 increase in consulting
expense was due to issuance of common stock valued at $21,000, a warrant valued
at $8,000, and the expectation to settle an accrual of $83,000 for consulting
services with common stock. Excluding the equity-based compensation, consulting
expenses increased $141,000 over the prior year period. The increase was
primarily due to increased research and development activity in efforts to bring
our product to market. We do anticipate an increase in consulting expenses as we
increase our efforts to bring our product to market and continue to offer equity
based compensation for production and engineering consultants in an effort to
conserve cash.
Supply expense increased $49,000 for the nine months ended January 31, 2006 as
compared to the prior year period due to increased activity to commercialize our
prototype. In light of an acceleration of our commercialization efforts and an
increase in our grant application and cooperative development activity, related
supply expense should increase for the remainder of fiscal 2006 and into fiscal
year 2007. However, we intend to continue focusing on the completion and
advancement of our product commercialization and will direct most resources
toward that objective.
Travel expenses decreased $11,000 for the nine months ended January 31, 2006 as
compared to the prior year period as our scientists were more involved in onsite
research and development during the current year period than the prior year
period. We expect travel expenses to reamin high for the remainder of fiscal
year 2006 and into fiscal year 2007, with increased activity, anticipated
co-development programs and offsite testing.
For the nine months ended January 31, 2006, depreciation expense increased by
$81,000 as we have continued to purchase equipment for research and development
activities. Cumulatively, these additions have increased depreciation expense.
Also included in the current year period is $17,000 of catch-up depreciation
expense from the transfer of $143,000 of equipment during the period that was
originally recorded as inventory. In light of our expected increase in research
and development activities as we advance and/or develop prototypes and make
technology improvements, we expect further research and development equipment
purchases. Accordingly, depreciation expense should increase going forward as we
continue to expense current equipment and increase our capital expenditures year
over year.
Other research and development expenses for the nine months ended January 31,
2006 increased $354,000 compared to the prior year period. The increase was
primarily comprised of expenses of $233,000 incurred with the acquisition of key
research and development equipment under an operating lease. Due to contract
performance issues, we returned the equipment prior to the end of the lease and
are negotiating final payment terms. Other expenses include insurance premiums,
increasing with new hires, inventory impairment charges, as well as building
lease costs, increasing with an extension in October 2005 of our facility lease
for an additional year with a corresponding increase in both square footage and
cost per square foot. Accordingly, we expect other research and development
expenses to remain steady for the remainder of fiscal year 2006, with the
decrease in expense with the cancellation of the operating lease being offset by
the increase of insurance and building lease costs.
We have completed the second year of Phase II of a Small Business Innovation
Research ("SBIR") contract awarded to us in August 2002 by the U.S. Army Night
Vision and Electronic Sensor Directorate ("NVESD"). Under the terms of the
contract, we are to develop and test its Anti-Tank Landmine Detector 7AT7(TM)
over a two-year period, which was extended for one additional year at the option
of the U.S. Army. As of January 31, 2006, we have earned $779,944 against the
contract. If further research and development work is required upon the
expiration of Phase II, we have the ability to submit a request for additional
Phase II and/or Phase III funding, which the government would consider based
upon our progress to date and the merits of the project. The U.S. Army is under
no obligation to continue to assist in funding these research and development
costs beyond Phase II or any subsequent extension, or to purchase any of our
products, including the Anti-Tank Landmine Detector 7AT7(TM), once we have
completed the development activities. Under the terms of the contract, the U.S.
Army pays a portion of our research and development costs on a periodic basis
during the term of the contract, for which we are required to submit monthly
written reports detailing its progress. We recognize the proceeds from the
contract as an offset against research and development expenses following the
submission of the monthly written reports. When the written report is accepted
by the U.S. Army, we usually receive payment in about 30 to 45 days. As of
January 31, 2006, we collected all receivables due us in completion of Phase II.
49
In September 2004, we entered into a Cooperative Agreement with the U.S.
Transportation Security Administration (TSA). Under the agreement, we are to
provide proof-of-concept for the Company's "NextGen Checked Baggage Program
(STOXOR)" over a nine month period, which may be extended at the option of the
TSA. The agreement provides funding in the amount of $367,141 for Stage 1, and
an additional $145,381 for Stage 2, if, at the conclusion of Stage 1, the TSA
elects to continue with us. As of January 31, 2006, we have earned $367,141 in
cooperative financing from the TSA to complete Stage 1. There is no obligation
for the TSA to fund our development efforts under this agreement beyond the
Stage 1 funded amount or to purchase any of our products once we have completed
the development activities. The TSA will pay our research and development costs
on a periodic basis during the term of the contract, for which we are required
to submit monthly written reports detailing our progress under the contract.
When the written report is accepted by the TSA, we receive payment in about 30
to 45 days. Payments commenced in November 2004 and we recognize the Stage 1
funding amount as an offset against research and development expenses upon
submission of the monthly written reports. As of January 31, 2006, we collected
all receivables due it in completion of Stage 1.
On July 18, 2005, we executed a Time and Material Subcontract in the amount of
$333,688 with Integrated Concepts & Research Corporation (ICRC), which was
awarded as part of ICRC's Prime Contract Number DAAE07-02-C-L062 with the United
States Army Tank - Automotive and Armaments Command, Warren Michigan (TACOM).
Under the Subcontract, we will deliver one CarBomb Finder(TM) head unit and
provide the engineering and technical support necessary for its integration in
the SmarTruck Multi-Mission Vehicle platform. The finished prototype is expected
to be field tested by the U.S. Army early 2006. As of date, we have received
payment in the amount of $222,716 for performance to date. ICRC will pay the
Company's time and material costs on a periodic basis during the term of the
contract, for which the Company is required to submit monthly written reports
detailing its progress under the subcontract. The Company recognizes the
proceeds from the subcontract as an offset against research and development
expenses following the submission of the monthly written reports. Pursuant to
the subcontract, when the written report is accepted by ICRC, we receive the
remaining payments in about 30 to 45 days, or no later than 5 days after payment
by the U.S. Army Contracting Officer to ICRC.
Depreciation
Total depreciation expense for the nine months ended January 31, 2006 and 2005
was $243,000 and $158,000, respectively. The increase in depreciation expense
reflects additional equipment put into service during the proceeding and
intervening period. Also included in the current year period is $17,000 of
catch-up depreciation expense from the transfer of $143,000 of equipment during
the period that was originally recorded as inventory.
Interest Expense and Income
Interest expense for the nine months ended January 31, 2006 decreased to
$296,000 from $871,000 for the prior year period. Most of the prior year period
expense was due to immediate expensing of the debt discount from the beneficial
conversion feature of the notes and the detachable warrants issued in
conjunction with convertible notes payable. The full amount of the debt discount
was expensed in the period as the notes were deemed subject to rescission
rights, as discussed elsewhere in this report, or converted. Of the $871,000
total interest expense, $786,000 was attributed to immediate expensing of debt
discounts. The debt discount was proportionately allocated based on the
intrinsic value of the convertible note and the fair value of the detachable
warrants capped by the proceeds received. The intrinsic value of the beneficial
conversion feature was determined by taking the spread between the market price
of the common stock at the date of issuance and the conversion price, multiplied
by the number of shares underlying the CNP. The fair value of the warrants was
determined using the Black-Scholes model.
Interest expense for the nine months ended January 31, 2006 included a charge of
$107,000 for the inducement to convert $224,000 of an aggregate of $673,000 of
CNP issued in a prior period to our former legal counsel for services. In
addition, $71,000 of debt discount was amortized related to $500,000 of newly
issued CNP to investors and $25,000 of debt discount was expensed following the
subsequent redemption of $100,000 of CNP shortly following its issuance to an
investor. The debt discounts for the newly issued CNP were due to the beneficial
conversion feature of the notes and the detachable warrants issued with the
notes. The remaining interest was generated on the CNP balances to our legal
counsel, the $500,000 of CNP issued in the current year, and $278,000 of CNP
issued to an investor in the prior period, which bear interest rates per annum
of 10%, 10%, and 5%, respectively.
Interest income for the nine-month periods ended January 31, 2006 and 2005 was
minimal.
50
Other Expenses
During the nine months ended January 31, 2006, we disposed of property, plant
and equipment either by sale or write-off with book value of $264,000. We
received $21,000 of proceeds and recorded a loss on the disposal of $115,000.
During the nine months ended January 31, 2006, we recorded a charge of $1,400
due to foreign currency exchange loss.
Penalties on Debt and Equity Issuances
We have issued as penalties, CNP, common stock, and warrants to certain holders
of CNP, common stock and warrants with registration rights, as a result of our
inability to file and maintain effective a registration statement within
certain specified deadlines. The penalties will stop accruing on all of the
instruments once a registration statement covering the instruments is filed and
maintained effective, or when the penalties become impermissible as a matter of
law as prescribed in the instrument.
In December 2005, our Board of Directors approved a special warrant re-pricing
offer for investors whereby participants were allowed to exercise their existing
warrants at greatly reduced prices under the condition, among others, that they
forfeit any claim to the right for future penalties on all securities, resulting
from our inability to file and maintain an effective registration statement or
otherwise. With the participation of a significant number of warrant holders
under the special warrant offer, we have significantly reduced future penalties
on all securities issued to investors.
During the nine months ended January 31, 2006, the Company issued or committed
to issue 709,942 shares of common stock as penalty expenses in the amount of
$449,000 for the late registration of common stock. Although greatly reduced,
certain holders of unregistered common stock who did not participate in the
special warrant offer still continue to receive or accrue each month, as
applicable, additional shares calculated as a percentage of the original number
of shares purchased.
For the nine months ended January 31, 2006, we recorded $708,000 as penalty
expense upon amending warrants to provide for the purchase of an additional
3,158,222 common shares as penalties for these investors. Although greatly
reduced, certain investors will continue to receive each month, amendments to
their warrants to increase the number of shares underlying each original
warrant. The fair value of these warrants was determined using the Black-Scholes
model. Although greatly reduced, certain investors will continue to receive each
month, amendments to their warrants to increase the number of shares underlying
each original warrant.
For the nine months ended January 31, 2006, we recorded $12,000 as a penalty
expense upon issuance of CNP with a face value of $12,000 as penalties for our
delayed registration statement. Since all holders of CNP participated in the
special warrant offer, the Company no longer accrues any penalties to holders of
CNP.
For the nine months ended January 31, 2005, we recorded penalty expenses in the
amount of $1,845,000, $1,159,000, and $26,000, against the issuance of 1,732,945
common shares, amended warrants to purchase an additional 1,701,204 common
shares and $26,000 of CNP as penalties, respectively. The fair value of the
warrants was determined using the Black-Scholes model.
LIQUIDITY AND CAPITAL RESOURCES
As of January 31, 2006, we had $373,000 in cash.
Other current assets, as of January 31, 2006 decreased to $241,000 from $382,000
as of prior year end and consisted primarily of $62,000 of capitalized insurance
premiums, $144,000 in deposits for an advanced neutron generator and other
equipment and $21,000 of capitalized equity compensation for prepaid Edgar
filing services. The decrease was due to the receipt of an advanced neutron
generator for with a value of $115,000.
During the nine months ended January 31, 2006, our sources of cash were as
follows:
Amount
-----------
Sales or commitments of common stock $ 1,620,000
Sales of convertible notes payable, net 500,000
Exercise of warrants 1,487,000
Offering costs (117,000)
Customer deposits 603,000
Grant proceeds 284,000
-----------
$ 4,377,000
-----------
51
As of January 31, 2006, accounts payable increased to $1,921,000, an increase of
$634,000 from April 30, 2005. This increase was primarily due to the purchase of
R&D equipment as well as leased R&D equipment. Because we continue to operate
under a tightened cash position, which has resulted in delays to our making
payments to some service providers and vendors, we have adopted a policy to
mitigate the risks of high stock inventories and growing accounts payable,
especially in the event of any unexpected delays or difficulties introducing our
products into the marketplace. For the remainder of fiscal year 2006, we foresee
accounts payable remaining high as we will require significant cash conservation
measures and until we raise sufficient capital or generate cash flow to
significantly pay down balances.
Accrued expenses of $212,000 as of January 31, 2006 consisted of $43,000 for an
equipment operating lease, a fee payable to an investment bank, and consulting
fees accrued to be paid with common stock.
As of January 31, 2006, we continue to carry an estimated payroll tax liability
of $425,000 for stock compensation (in the form of Microdevices shares) given
for services rendered by officers, employees, directors, legal advisors and
consultants during the period from June 1997 through February 2002. See "Note 8
- - Accrued Payroll and Payroll Taxes" to our unaudited Consolidated Financial
Statements. Excluding the payroll tax liability mentioned above, as of January
31, 2006, we have accrued payroll and payroll tax of $106,000, which includes
deferred salaries for certain employees.
As of January 31, 2006, we were delinquent on notes payable totaling $85,000
with a shareholder and related party. The notes payable have been due on demand
since November 1997; however, no demand has been received.
As of January 31, 2006, we have outstanding unsecured convertible promissory
notes totaling $449,000 to our former legal counsel. During the nine months
ended January 31, 2006, $224,000 of the original $673,000 of convertible notes
was converted. The legal fees were expensed as a general and administration
expense in the periods incurred. The remaining notes bear 10% interest and are
due on demand. As of January 31, 2006, no demand has been received on these
notes, but we anticipate a conversion of the notes into shares of our commons
stock.
Between September and November, 2005, we sold $600,000 of CNP to various
investors, of which $100,000 was subsequently repaid, with the investor using
the money to purchase common shares upon exercise of warrants under the special
warrant offer. The remaining CNP bear interest at 10% per annum (except if an
event of default in which case they bear interest at the default rate of 12% per
annum from the default date until such default is cured or waived) and are due
in October and November 2006. The remaining $500,000 of CNP were issued with
detachable warrants to purchase 400,000 shares of common stock with a three year
term at an exercise price of $0.80 per share. During the Company's special
warrant offer, 360,000 shares of common stock were purchased upon exercise of
the detachable warrants at a reduced exercise price of $0.20 per share, with the
remaining warrants forfeited. The redeemed note was issued with detachable
warrants which were forfeited under our special warrant offer. The CNP holders
have the option to convert the principal and accrued interest into shares of
common stock at a conversion price of $0.60 per share at any time until the
later of the prepayment date or the maturity date. Further, the outstanding
balance of the remaining CNP, plus any unpaid interest, will be automatically
exchanged into the next financing secured by the Company in the amount of
$2,500,000 or above, at a 10% discount. The Notes are senior to all of the
Company's existing indebtedness, other than any current or future accounts
receivable financing up to an aggregate face amount of $1,000,000.
In June 2004, we sold $300,000 of CNP to Richard Melnick and Sherbrooke Partners
LLC in connection with the exercise of an option to a second closing obtained in
January 2004. As of January 31, 2006, $240,000 of the CNP held by Richard
Melnick remains currently outstanding and based upon legal advice we have
received as to the appropriate state and federal limitations periods pertaining
to the rescission obligations assumed, we reclassified the $240,000 of CNP
deemed subject to rescission rights to convertible notes payable. The notes when
combined with $38,400 of CNP issued as penalties for late registration and
accrued interest as of January 31, 2006 are convertible into 665,055 shares of
our common stock. The CNP have a two year term and bear interest at 5%, and when
coupled with the proceeds allocated to the detachable warrants have an estimated
effective annual interest rate of 49%. They are convertible into common stock at
$0.45 per share. The outstanding CNP also contain warrants to purchase common
stock with a six and one-half year term as follows: 1,066,666 at $0.45 per
share; 320,000 at $0.75 per share; and 192,000 shares at $1.25 per share. The
CNP holders also have registration rights on the underlying shares and since the
securities were not registered by us before October 30, 2004, the investors have
received as penalties, additional detachable warrants to purchase 2% of the
amount of shares exercisable under the original warrants and CNP equal to 2% of
the principal balance of the original CNP, for each subsequent month through
June 2005, when the securities became saleable under Rule 144. See "Note 13 -
Convertible Notes Payable" to our unaudited Consolidated Financial Statements.
52
Pursuant to the terms of a note purchase agreement as described in "Note 12 -
Convertible Notes Payable - Related Parties" to our unaudited Consolidated
Financial Statements, Nicholas J. Yocca has the option to purchase an additional
$400,000 worth of CNP prior to the filing of a registration statement, which
have detachable warrants to purchase a number of shares of common stock as
follows: (i) a warrant to purchase common stock at $0.45 per share, for the
number of shares of common stock that could be purchased at that price with an
amount in cash equal to the face amount or principal balance of the CNP; (ii) a
warrant to purchase common stock at $0.75 per share, for the number of shares of
common stock that could be purchased at that price with an amount in cash equal
to the face amount or principal balance of the CNP; (iii) a warrant to purchase
common stock at $1.25 per share, for the number of shares of common stock that
could be purchased at that price with an amount in cash equal to the face amount
or principal balance of the CNP; and (iv) a warrant to purchase common stock at
$1.50 per share, for the number of shares of common stock that could be
purchased at that price with an amount in cash equal to the face amount or
principal balance of the CNP. The warrants expire between 120 days and three and
one-half years after issuance. The holder also has registration rights on the
underlying shares but is not entitled to receive penalties for delays or failure
to register the underlying shares. In order to preserve his registration rights,
the investor must make additional purchases before the filing of the
registration statement incorporating the underlying shares. In June 2005, Mr.
Yocca elected to convert $185,000 of CNP originally purchased in January 2004,
plus $11,932 of accrued interest, into 437,627 shares of our common stock. The
detachable warrants issued in the first closing to Mr. Yocca have since expired.
During the nine month period ended January 31, 2006, we reclassified the
remaining 312,012 shares deemed subject to rescission rights, reported at fiscal
year ended April 30, 2005, to common stock and additional paid in capital,
eliminating the recorded current liability for shares deemed subject to
rescission rights of $199,560.
As of January 31, 2006, we had total current liabilities of approximately $4.7
million, greatly exceeding our cash on hand. While we anticipate cash inflows
from purchases from customers, we currently do not have any significant
commitments. Unless and until orders reach a sufficient level to cover operating
expenses and our liabilities, we are required to continue to sell equity or debt
instruments in order to pay present liabilities and fund on-going operations. If
we cannot attract investment or generate revenues, our ability to grow may be
severely hindered and we may not be able to continue as a going concern.
In April and May 2004, we issued purchase orders for $2.2 million to two vendors
for the purchase of components for our bomb detection units. In April 2004, we
ordered neutron generators at a cost of approximately $814,000. We leased four
units under this order, which have since been returned and we are currently
negotiating termination of the lease, as a better source has been secured. In
May 2004, we ordered gamma ray detectors and other components for $1,368,000 and
received partial delivery. We are currently negotiating amendments to this
purchase order.
In November 2004, the Company issued a purchase order for two advanced neutron
generators at a total cost of approximately $335,000 for use in research and
development related to our SuperSenzor(TM) program and the Company's cooperative
research agreement with the TSA. As of January 31, 2006, the Company has paid
for and received one of the generators and has made a non-refundable deposit of
$92,997 against the remaining unit, with the balance due upon acceptance
following delivery.
In February 2005 and in March 2005, we issued purchase orders in the amount of
$304,000 and $611,000, respectively, for the purchase of remotely controlled
robotic vehicles to be used to facilitate the transportation of our explosive
detecting technology to suspicious targets. The orders were issued based on
indications from potential buyers in the U.S. Military and Middle East that they
would require a remote robotic deployment capability if they were to purchase
our devices. As of July 31, 2005, we had received all of the robotic vehicles
ordered, then later returned five of the units for a complete cancellation of
the amount owed for those units.
In April 2005, we revised our financial requirements for calendar 2005 from a
range of $5 to $10 million to a range of $8 to $10 million. The need to revise
our estimates was prompted by delays in our product launch of the CarBomb
Finder(TM) system, a shift in our priorities and resources toward accelerating
the commercialization of the SIEGMA(TM) 3E3, and the inability to eliminate the
high costs associated with regulatory and legal issues facing us. Aside from
diverting a tremendous amount of resources that otherwise would have gone toward
product development and other working capital purposes, the regulatory and legal
issues disclosed in our filings have been a major barrier to our raising more
substantial cost-effective capital.
As to the status of efforts to raise $8 to $10 million, representing our revised
financial requirements, we have raised through private placements to accredited
investors and institutional investors a total of approximately $8.1 million in
proceeds from financing activities from May 2004 to January 31, 2006, including
$1.5 million from the exercise of warrants under our special warrant re-pricing
offer through January 31, 2006. Additionally, we earned $610,000 from grants and
other governmental funding for the fiscal year ended April 2005. In October
2005, we received grant proceeds in the amount of $222,000 for performance under
a subcontract with ICRC, which provides for an additional $112,000 in grant
proceeds upon the delivery of one CarBomb Finder(TM) head unit to the U.S. Army.
Further, we received full payment in the amount of $603,000 against an order of
two SIEGMA(TM) 3E3 systems from Southeastern Pennsylvania Transportation
Authority (SEPTA). In September 2005, the Company entered into a subcontract
with a defense technology organization which entitles it to receive a
performance payment of $33,600. Lastly, we currently maintain a deposit against
an order by Compania de Aprovisionamiento Especifico S.L. of Tenerife, Spain for
one SIEGMA(TM) 3E3 system and expect to collect the balance of $227,000 upon
delivery. In September 2005, we engaged a placement agent to provide certain
advisory and placement services in connection with securing financing. Although
we have been able to raise capital through self-managed private placements of
our equity, we currently do not have an institutional commitment for the
additional capital necessary as of the date of this Report.
53
Until such time as we can (i) generate sufficient sales revenues to fund
operations and research and development costs; and/or (ii) leverage our
financial and developmental capabilities through strategic partnerships which
provide financial support; and/or (iii) receive significant governmental grants,
cooperative funding or purchase contracts, we will be required to raise an
additional $3 to 4 million through the sale of securities to cover estimated
expenditures for the remainder of calendar 2006, subject to the successful
implementation of our restructuring plan and the reduction of operating
expenses.
As to strategic partnerships, we entered into a non-binding Memorandum of
Understanding on January 28, 2005 to form a joint venture company to be located
in Tenerife, Spain, which is intended to serve as a complementary platform for
sales and distribution into the European and other markets, and provide up to $3
million in paid-in capital by investors. As part of our new capital
prioritization which has increased our focus on the domestic market and limited
our overseas activities, we now expect the formation of the joint venture to be
carried to the end of the current calendar year. Although the transaction
described in the press release dated December 9, 2003 did not transpire as
contemplated at that time, our efforts and relationships made in Spain are
expected to beneficially serve the development, funding and growth of the joint
venture. We intend to explore and pursue other joint ventures such as the one in
Spain, which provide for the contribution of capital and resources from a
strategic partner to develop an assigned territory and accomplish the
certification, importing, licensing, permitting, maintenance and service of our
products overseas, in exchange for a regional license from us for the assembly,
sale, and marketing of our products in certain markets. Such arrangements can
also reduce the capital requirements necessary for us to build and maintain the
infrastructure necessary to manufacture and support our products outside North
America.
54
PLAN OF OPERATION
Our continuing corporate objective for the remainder of fiscal year 2006 is to
commercialize and bring to market the CarBomb Finder(TM) 3C4 and SIEGMA(TM)
systems, as well as new prototypes incorporating our proprietary
"stoichiometric" technologies, including the STARRAY(TM), an all-terrain
robot-borne IED detector, and our in-ground explosives detection and
identification device, the CarBomb Finder(TM) 3C5. Additionally, we expect to
continue with research and development activities focused on the design, testing
and development of sensor systems incorporating our core technologies for other
governmental and commercial applications and markets.
We continue to see an increase in significant positive feedback as to the
potential demand for our explosives identification and detection products and
have correspondingly increased, and directed greater resources toward, the
direct and indirect sales and marketing of our products both domestically and
overseas. As of the date of this Report, we have developed a strategic sales and
marketing plan and have expanded our relationship with distributors and
resellers specializing in the security and anti-terrorism industry, defense
industry consultants, as well as potential strategic partners in developing some
key geographic markets and verticals. In November 2005, we executed a strategic
reseller agreement with GTSI Corp. to offer our products and services to
federal, state and local governmental organizations through their purchasing
vehicles and are in the process of expanding our reseller program. In January
2006, we executed a reseller agreement and teaming agreement with
Williams-Sterling, a service-disabled veteran-owned (SDVO) sales organization
and integrator to offer our products and services to federal agencies and
customers under key sole source and restricted competition purchasing vehicles.
We have also entered into a memorandum of understanding to form a joint venture
which is intended to serve as a complementary platform for sales and
distribution into the European and other markets, as well as reduce the capital
requirements necessary for us to build and maintain the infrastructure necessary
to manufacture and support our products outside North America. The joint
venture, as contemplated, provides for the contribution of capital and resources
from a strategic partner to develop an assigned territory and accomplish the
certification, importing, licensing, permitting, maintenance and service of our
products overseas, in exchange for a regional license from HiEnergy for the
assembly, sale, and marketing of our products in certain markets. We are
currently working through an E.U. commission comprised of local Spanish
officials and industry sponsors to secure local and regional governmental
support and to resolve other considerations required for the joint venture, or
similar business formation, to move forward.
For the remainder of fiscal year 2006, we intend to continue to accelerate and
enhance our pre-market and aftermarket efforts, which address the warranty,
service, maintenance, certification, licensing, export policy, product liability
and customer service elements of our commercialization strategy. We have entered
into a teaming agreement with a global maintenance company, submitted our
technology for coverage under the Safety Act to address product liability
issues, and have engaged outside specialists involved in certification,
inspection, and risk management. In December 2005, we launched new program, the
Equipment Technical Assistance Program (ETAP), an integrated suite of services
available to buyers which includes hands-on equipment and operator training,
local equipment support, including calibration, maintenance and servicing, and
radiation safety certification and licensing. In January 2006, we formed a
strategic relationship with a specialized service and consultancy organization
to provide ongoing radiation licensing, certification, training and auditing
services. We intend to negotiate and enter into additional outsourcing
relationships with the overall objective of providing a uniform and
uncompromising package of product and customer support.
In order to be able to complete the commercialization cycle, we have determined
it necessary to field test the first class of our products through cooperative
sales initiatives which are intended to accelerate our in-field assessment of
our explosive detection systems and software architecture for user operability
and stability, as well as provide us with critical feedback and suggested design
improvements based on each program participant's specific operational needs. We
have commenced one such program for the introduction of the first 5 to 10 units
of our SIEGMA(TM) system with our initial deliveries to Southeastern
Pennsylvania Transportation Authority (SEPTA), for which we have on local
assignment technical and engineering personnel to perform necessary
customization and integration services. The program is expected to stimulate
sales by allowing us to bring our first commercial product to market more
effectively and efficiently, enhance our products to better satisfy the needs of
the public transit industry, and test our aftermarket service capabilities.
During the remainder of 2006, we will offer similar programs to other early
adopters in the first responder community, including emergency response teams,
bomb squads and explosive ordnance disposal units from a wide array of federal,
state, municipal and local agencies around the United States.
During the remainder of fiscal year 2006, we will continue to direct the greater
portion of our production budget to our SIEGMA(TM) system, which management has
prioritized in response to the positive reception from the industry,
specifically airport and transit system operators. In January 2005, we received
our first order for one SIEGMA(TM) 3E3, followed by the order of two systems
from SEPTA in June 2005. The systems have been assembled in our Irvine, CA
facility, completed factory acceptance testing and are being field tested by the
customer this quarter. As for our vehicle-borne CarBomb Finder(TM) 3C4, we have
upgraded the delivery platform design and are making enhancements to the vehicle
assembly with the assistance of integration partners. In October 2005, we
announced the order of one CarBomb Finder(TM) by the U.S. Army under a
subcontract providing for the integration of our system in the Army's SmarTruck
Multi-Mission Vehicle platform, which is expected to be delivered by fiscal year
end.
55
Initial assembly of orders is being performed at our research and development
facility located in Irvine, CA. Assembly at this facility will be limited, and
we may be required to outsource certain functions and/or hire additional
technicians as needed. Based on preliminary marketing data suggesting a strong
demand for commercial versions of our explosion detection devices, we anticipate
the need to scale production to meet that demand. Previously, we have studied
locations to serve as our principal assembly facility in various states and have
met with both local and state officials as part of this assessment. We have
estimated that the construction and/or build-out costs related to a
manufacturing facility fall between $1 million and $2.5 million, which costs are
expected to be supplemented by local municipalities and state agencies in the
form of monetary incentives offered to locate a facility to their respective
areas. As of the date of this report, we have not selected a site to locate a
facility and are unsure whether or not we will be able to meet the criteria
necessary to attract local municipalities and state suitors.
In March 2005, we formed a wholly-owned subsidiary, HiEnergy Mfg Company, in
order to create a semi-autonomous division to develop and manage the
infrastructure, policies and controls for the manufacture and assembly of the
SIEGMA(TM) and CarBomb Finder(TM) systems. . In June 2005, we also hired a
consultant for three months experienced in strategic planning and financial and
operational management to help us establish and refine a production system which
includes supplier relations, material handling, manufacturing processes, labor
force capabilities, and distribution systems. Further, in September 2005, we
engaged an engineering and production consultant with substantial experience to
build the internal mechanisms necessary to engineer, package and deliver our
core technologies in the most cost effective manner, as well as develop a
product test plan and quality control procedures. During the remainder of fiscal
year 2006 and into 2007, we will continue to incorporate the business practices,
management philosophies and technology tools necessary to optimize product
design and engineering to allow for the easiest production, fastest assembly,
best quality/reliability, and shortest time to market of our systems.
In February 2006, in a bid to accelerate our transition from a research and
development company to a commercial manufacturing and sales organization, we
restructured management beginning with the election by our Board of a new
President/CEO who is charged with designing and implementing a new
organizational model which focuses on capital prioritization, productivity and
accountability with the aim of better positioning ourselves and creating an
enterprise that is scalable in line with future revenue growth. We have also
instituted changes in the management and direction of our R&D Department to
allow for more efficient and cost effective product and technology development.
We have also created a new Integrated Product Engineering and Manufacturing
Department which will work in coordination with R&D faithful to the production
process consisting of product inception, engineering, design, manufacture and
post-deliver follow-up and support, and guided by lean manufacturing and
concurrent engineering principles. As we institute these changes and advance a
restructuring plan that focuses on operational efficiencies and expense
controls, we believe that general and administrative costs and productivity will
show improvement in the remainder of fiscal year 2006 and into 2007.
In line with our commercialization activities, we will continue to increase
inventory during fiscal year 2006 and into fiscal 2007 of those core components
and parts that have greater delivery lead-times from vendors to prevent
potentially harmful delays in our product delivery cycle. Although we remain
adverse to building inventories, in light of the lead-times and the perceived
demand for our products, we have estimated that in order to meet, and properly
manage the sales cycle of, anticipated orders, we will require at any one time
sufficient components to deliver at least 5 to 10 units of our explosive
detection systems to buyers. In order to control inventory risk, we will
continue to identify and seek to engage additional sources of components in
order to reduce, limit or eliminate our exposure to single-source suppliers and
protracted delivery schedules. We have entered discussions with various vendors
and are in the process of securing commitments for volume discounting and to
shorten production times in anticipation of an increase in sales volume.
In light of an increase in our grant application activity and current and
anticipated cooperative and research development agreements, we plan to continue
to focus on the research and development of additional applications of our
technologies and the further exploitation of our technology assets both
internally and through collaboration with third parties. We also intend to build
upon our investments in the base units and core technologies upon which our
explosives identification and detection prototypes are based, as well as
introduce more sophisticated applications and configurations. We will use the
proceeds of existing government grants, new grants and/or research and
development contracts, together with other available funds, to accomplish these
objectives. Further, we intend to continue to work on expanding the number of
explosive substances that can be detected and identified by our systems, so as
to provide the customer with the most effective, reliable and adaptable tools
possible.
56
Materials and production costs for our explosive identification units will be
significant in remainder of fiscal year 2006 and fiscal year 2007. Working
capital requirements and inventories are also expected to grow in remainder of
fiscal year 2006 and fiscal year 2007, as necessary components are purchased.
Initial sales are projected to be at or near cost with margins expected to
improve significantly with the elimination of non-recurring engineering costs,
the realization of economies of scale attendant to the opening of our production
facility or the outlay of the assembly function to a manufacturing partner, and
the increased demand anticipated with the introduction of our products into the
marketplace. As we proceed with our commercialization phase of our products and
expand our operating structures, enhancements to corporate management will also
be necessary and we anticipate increases in personnel requirements throughout
our organization. An off-site production facility, when operational, will
require the hiring or contracting of approximately 20 new personnel. We also
anticipate the need to hire individuals to manage the product engineering,
manufacturing and distribution functions, and to fill and upgrade key executive
positions in fiscal year 2006, including, among others, a Chief Financial
Officer. Other areas that may require additional personnel include sales and
marketing, customer service and human resources. As funds are available, we also
anticipate hiring additional skilled personnel, such as advanced engineering
professionals, as part of a product development team that can operate and manage
projects with minimal supervision, additional scientists, and experienced
technicians. Our current facilities will be adequate to conduct our
administrative, research and development activities as well as initial assembly
and distribution.
The estimated total costs to commercialize our current product line, excluding
contributions received through research and development grants, is approximately
$1.5 million, including inventory procurement and ancillary costs associated
with concept development, market assessment and validation, prototype
development and production of field testing units, but excluding the build out
of a dedicated manufacturing facility. We are currently seeking a larger capital
infusion in the range of $3 to $4 million which is our total estimated financial
requirement for calendar year 2006 and includes the above commercialization
costs, administrative and operational costs, including personnel and consultant
expenses, property and materials, and accounting/reporting and legal expenses.
To reduce the burden, we seek to cut overhead, including personnel,
accounting/reporting, and legal costs. While there can be no assurance, we are
hopeful that improvements to our internal systems and the settling of pending
legal matters during this period will improve our condition as a going concern.
Historically, we have financed operations with periodic cash infusions through
various financing vehicles. The uncertainties of securing financing have limited
our capacity to make greater investments in research and development, inventory
and component procurement, and human resources, as well as the commercialization
of our products. In an attempt to control dilution, we have been securing
financing on a quarterly or rolling basis to take advantage of any favorable
pricing that our stock may experience as we progress through the implementation
of our business plan. We aim to reduce our dependency on the sale of our
securities in funding working capital through proceeds from other sources, such
as pre-sales, sales, additional development grants, government contracts, the
formation of joint ventures, and from more traditional funding, such as working
lines of credit, receivables financing and purchase order/asset based lending.
Although we have been able to raise capital through self-managed private
placements of our equity, we currently do not have a firm institutional
commitment to raise the additional capital necessary as of the date of this
Report.
57
RISK FACTORS
We are a development stage company, and an investment, or maintaining an
ownership position, in our common stock is inherently risky. Some of these risks
pertain to our business in general, and others are risks which would only affect
our common stock. The price of our common stock could decline and/or remain
adversely affected due to any of these risks, and investors could lose all or
part of an investment in our company as a result of any of these risks coming to
pass. Readers of this Report should, in addition to considering these risks
carefully, refer to the other information contained in this Report, including
disclosures in our financial statements and all related notes, before making any
determination with respect to our stock. If any of the events described below
were to occur, our business, prospects, financial condition, or results of
operations or cash flow could be materially adversely affected. When we say that
something could or will have a material adverse effect on it, we mean that it
could or will have one or more of these effects. We also refer readers to the
information at the front of this Report, discussing the impact of
Forward-Looking Statements on the descriptions contained in this Report and
included in the Risk Factors discussed below.
Risks Related To Our Business
General Business Risks
We have a history of losses and an accumulated shareholders' deficit of
$38,053,548 as of January 31, 2006, and we may never achieve profitability.
We have not generated any revenue from operations, and we have incurred net
losses available to common shareholders every year since our inception,
including $6,253,387 for the nine months ended January 31, 2006, as compared to
$8,208,216 for the prior year period, and $38,053,548 for the period from August
21, 1995 (inception) through January 31, 2006. We expect that our operating
expenses will increase in the near term, due in part to investments that we
intend to make in connection with our plans to commercialize, manufacture and
market our initial prototype devices: the CarBomb Finder(TM) and SIEGMA(TM). To
achieve profitability, we will need to generate significant revenue, while
achieving reasonable costs and expense levels. We may not be able to generate
enough revenue to achieve profitability. If we cannot achieve or sustain
profitability, we may not be able to fund our expected cash needs or continue
our operations.
We will need additional capital to meet our operating needs, and additional
capital may not be available on favorable terms or at all.
During the period from May 1, 2004 through January 31, 2006, excluding sources
or uses from working capital, we have experienced average monthly negative cash
flows from operations of approximately $400,000 with no revenues. As such, we
must continually raise capital from the sale of equity or the placement of debt
to private investors, or from government grants or development contracts, in
order to fund our operations at current levels or at all. Our ability to raise
additional funds in the public and private markets will be adversely affected if
the results of our business operation are not favorable, or if the
commercialization of the CarBomb Finder(TM) and SIEGMA(TM) is poorly received or
fails altogether.
Although we intend to seek additional funding through corporate collaborations
or from loans or investments from new or existing stockholders, additional
capital may not be available to us and, even if available, it may not be on
terms which our Board of Directors would be willing to accept. If we cannot
obtain the capital we need to fund our operations on terms which we can accept,
we may be required to curtail our operations significantly, or cease our
operations altogether, which would have a material adverse effect on our
business, our operations and our financial condition.
As a development stage company with an unproven business strategy, we may not
be able to achieve positive cash flows and our limited history of operations
makes evaluation of our business and prospects difficult.
While we have developed prototypes of our CarBomb Finder(TM) and SIEGMA(TM)
systems, and are introducing our first commercial products, which include the
CarBomb Finder(TM) 3C4 and the SIEGMA(TM) 3E3, except for the orders placed by
our exclusive distributor in the Middle East, EEMCO, which is owned by one of
our Directors, Compania de Aprovisionamiento Especifico S.L. of Spain, and
Southeastern Pennsylvania Transportation Authority (SEPTA), we have no sales.
Because of the few orders and the fact that the markets of the CarBomb
Finder(TM) and SIEGMA(TM) remain largely untested and undefined in general, we
are still classified as a development stage company with a limited operating
history.
Since April 25, 2002, we have focused our resources on the development of
products using our proprietary stoichiometric technology. We believe that we are
the only company working on a commercial product using stoichiometric
technology, and so there is no proven market for our products once development
is complete. To date, we have no commercialization experience with our
technology, and it is difficult to evaluate our prospects for sustained growth
and profitability. Our future success is more uncertain than if we had a more
established and proven history of operations and greater experience in executing
similar business strategies. Furthermore, it is expected that our current
business and marketing approach will be modified from time to time, as we
continue to assess the markets and applications for our technology as well as
evaluate prospective customer interest. No assurance can be made that the
current strategies or any future changes in our business model, and the
marketing of products, will be met with success. For the last two fiscal years
we have not generated any significant revenues and, as a result, we have limited
resources and our potential ability to generate and maintain income also remains
unproven.
58
The commercial viability of the CarBomb Finder(TM) and SIEGMA(TM) is unproven,
and may never be realized.
To the best of our knowledge, as of the date of this Report, no customer,
industry partner or governmental entity has used a CarBomb Finder(TM) device to
detect explosives, other than in demonstrations. We have not had independent
testing of the CarBomb Finder(TM) device to rate or certify its functionality in
explosive detection, nor have we commissioned an independent market or research
study to determine its market potential. Consequently, the commercial viability
of the CarBomb Finder(TM) and SIEGMA(TM) is unproven at this time. We also are
unable at this time to qualify the amount and frequency of maintenance to be
required by the CarBomb Finder(TM) and SIEGMA(TM), as we have no reference data
regarding real world use of the devices and we have limited experience in
causing, or simulating, extensive usage. A significant increase in the amount of
maintenance required to keep the devices operating may result in unforeseen
problems or customer dissatisfaction. If this were to occur, prospective
customers could very well perceive that there are reliability problems with our
products, which could reduce the demand for our products. If commercial
opportunities are not realized from the use of the CarBomb Finder(TM) and
SIEGMA(TM) systems and we have difficulty attracting and maintaining customers,
our ability to generate revenues will be adversely affected. We also have not
had the ability to undertake extensive testing in real-world situations, and
cannot with certainty explain how the device would be impacted by severe
weather, burning or excessive heat, a wartime environment, various topographies
or other circumstances which maybe of particular importance to certain
prospective customers or in certain regions. Without internal data in respect of
these kinds of testing, customers may be reluctant to spend the funds necessary
to purchase our CarBomb Finder(TM), SIEGMA(TM), or any of our other prototype
developments, and the sales cycle may be longer than we have anticipated or may
not materialize at all, either of which events would have a materially adverse
effect on our business, operations and financial condition.
From time to time we may demonstrate our products to potential customers
and/or sources of funding, and any failures in these demonstrations could have
a materially adverse impact upon our ability to sell our products, and on our
business and financial condition generally.
As a defense products company, we are sometimes requested or required to
demonstrate, pilot or field test our technologies and our products at varying
product stages, which may be in front of potential purchasers of the products,
and/or sources of grant or private equity funding. To the extent that any
product or technology may not work in the manner in which it is intended, such
prospective purchasers and/or funding sources may lose confidence in our
products and technology, and may determine not to purchase any products or fund
any developments. If a demonstration should not work successfully at any time
when large numbers of people are present, the news could spread within the
homeland defense industry we are working in, especially among the relatively
small universe of large potential governmental agencies and other organizations
who are likely purchasers of our products. If that were to happen, it could have
a materially adverse effect upon our ability to make sales of our products, as
well as on our overall business operations and financial condition.
We have limited resources to devote to product development and
commercialization. If the commercialization of the CarBomb Finder(TM) and
SIEGMA(TM) systems proves unsuccessful, any reallocation of resources could
substantially harm our business.
Our business strategy is to develop, manufacture and market products
incorporating our stoichiometric technology to address initially the security
and counter-terrorism market and the chemical and petrochemical industry control
market. Our current and primary objective is to commercialize our proprietary
CarBomb Finder(TM) and SIEGMA(TM) systems. We believe that in the near term our
revenue growth and profitability, if any, will substantially depend upon several
factors, including the following:
o our ability to raise additional capital to manufacture and market
our current prototype devices, the CarBomb Finder(TM) and
SIEGMA(TM);
o our ability to raise additional capital for general and
administrative costs relating to our operations;
o our ability to manufacture the CarBomb Finder(TM) and SIEGMA(TM)
systems in commercial quantities, at a reasonable profit margin;
59
o receipt of any requisite approvals from the Nuclear Regulatory
Commission (NRC), the Department of State, the Department of
Commerce, the Department of Defense, and similar state or foreign
authorities, as applicable;
o market acceptance of the CarBomb Finder(TM) and SIEGMA(TM) and
after-market satisfaction related to performance and maintenance
issues;
o legislative or other government actions driven, in part, by the
public's perception of the threats facing the population and
unrelated political circumstances, which may leading to
significant fluctuations in demand for our products and services;
o the availability and cost of key components for the CarBomb
Finder(TM) and SIEGMA(TM);
o the timing of completion of acceptance testing for the CarBomb
Finder(TM) and SIEGMA(TM); and
o changes in pricing policies by us, our competitors or our
suppliers, including possible decreases in average selling prices
of the CarBomb Finder(TM) and SIEGMA(TM), caused by promotional
offerings, customer volume orders, or competitive pricing
pressures.
We have introduced our systems, the CarBomb Finder(TM) 3C4 and SIEGMA(TM) 3E3
only recently, and all other applications of our technology are at prototype or
earlier development stages. These include, at present, our CarBomb Finder(TM)
3C5, STARRAY(TM), Anti-Tank Landmine Detector 7AT7, Unexploded Ordnance Sensor
3UXO3, Refractorymeter and a Palletized Cargo Scanner. For the nine months ended
January 31, 2006, we incurred expenses of $1,520,405 or 33% of total operating
expenses on research and development, and we incurred expenses of $3,152,153 or
67% of total operating expenses on general and administrative expenses. We
anticipate an increase in general and administrative expenses due to additional
operating expenses demanded for commercialization of the CarBomb Finder(TM) and
SIEGMA(TM) systems. We anticipate research and development costs to stay
approximately at the same level, to the extent that independent testing of the
CarBomb Finder(TM) and SIEGMA(TM) systems will be required in order to obtain
approvals from regulatory authorities or gain better market acceptance by
industry partners or governmental officials.
If we fail to commercialize the CarBomb Finder(TM) 3C4 and SIEGMA(TM) 3E3, we
will have no other products to sell until we complete their development and
commercialization, which will require additional capital and time. As a result,
our ability to generate revenues will decrease, which could substantially harm
our business. Because we have limited resources to devote to product development
and commercialization, any reallocation of resources to the commercialization of
the CarBomb Finder(TM) 3C4 and SIEGMA(TM) 3E3 that proves unsuccessful may delay
or jeopardize the development of other products. The development of new products
may require time and financial resources much greater than what we currently
anticipate and, despite significant investments in research and development, may
not yield commercially successful products. The development of our products for
the detection of explosives, illicit drugs, biological agents and other
contraband is highly complex.
Due to our losses and accumulated deficit, our auditors have raised concerns
about our ability to continue as a going concern.
Our independent certified public accountants qualified their opinion contained
in our consolidated financial statements as of and for the nine months ended
January 31, 2006, and all subsequent periods, to include an explanatory
paragraph related to our ability to continue as a going concern, stating that
"the Company had negative cash flows from operations of $13,800,389 for the
period from August 21, 1995 (inception) to January 31, 2006,. In addition, the
Company had an accumulated deficit of $38,053,548 and was in the development
stage as of January 31, 2006. These factors raise substantial doubt about the
Company's ability to continue as a going concern." The auditors recognize that
the cash flow uncertainty makes their basic assumptions about value uncertain.
When it seems uncertain whether an asset will be used in a "going concern" or
sold at auction, the auditors assume that the business is a "going concern" for
purposes of all their work, and then they disclose that there is material
uncertainty about that assumption. It is definitely a consequence of our
negative cash flows from operations that we continually need additional cash. At
any time, a serious deficiency in cash flows could occur and it is not always
possible or convenient to raise additional capital. A problem in raising capital
could result in temporary or permanent insolvency and consequently potential
lawsuits by unpaid creditors and perhaps closure of the business. All of these
things are possibilities. It is certain, in any case, that analysts and
investors view unfavorably any report of independent auditors expressing
substantial doubt about a company's ability to continue as a going concern.
Consequently, we urge potential investors to review the report of our
independent certified public accountants and our consolidated financial
statements before making a decision to invest in us, and not to invest in our
common stock unless they can afford the potential loss of their entire
investment.
60
Companies which possess much greater financial and other resources and have
more manufacturing, marketing, sales and distribution experience than we have,
may develop a technology which competes effectively with our stoichiometric
technology, and we may be unable to capture or maintain market share.
Based upon our review of the industry, we believe that no other company today
markets a technology which is similar to or competitive with our stoichiometric
technology used in our CarBomb Finder(TM) and SIEGMA(TM) systems, and the other
prototype devices referenced in this Report. The market for explosives and
contraband detection equipment generally is dominated by a few very large
corporations (or their subsidiaries), which have greater access to capital,
manpower, technical expertise, distribution channels and other elements which
would give them a huge competitive advantage over us were they to begin to
compete in our market. Our ability to market our technology as "unique" is
dependent upon the fact that these larger, better-established companies do not
have the ability to determine the exact identity, amount and weight of each
element their equipment detects. If one of these competitors was to throw
sufficient capital and other resources at developing a competitive technology,
notwithstanding our efforts to secure protection of our core intellectual
property rights, they might be able to do so, in which case it would be very
difficult for us to compete and we might not be able to maintain our existing
market share as of that point, or capture any additional market share, with our
products. Furthermore, if one of these competitors were to develop a technology
which was viewed as an improvement over our existing technology, our ability to
maintain any segment of the neutron-based detection market might disappear
altogether, which would have a materially adverse effect upon our business,
operations and financial condition.
It is possible that competitors may introduce new technologies before we do,
allowing them to offer similar or more effective products at more competitive
prices. Any number of future technological developments could:
o adversely impact our competitive position;
o require write-downs of obsolete technology;
o require us to discontinue production of obsolete products before
we can recover any or all of our related research, development and
commercialization expenses; or
o require significant capital expenditures beyond those currently
contemplated.
We cannot assure investors that we will be able to achieve the technological
advances to remain competitive and profitable, that new products and services
will be developed and manufactured on schedule or on a cost-effective basis,
that anticipated markets will exist or develop for new products or services, or
that any marketed product will not become technologically obsolete.
We depend on key management and personnel and may not be able to hire or
retain additional key managers, employees and technical and scientific
personnel when needed.
Our future success will be due, in part, to the continued services of our senior
management team. The loss of services by one or more members of our management
and scientific teams could negatively affect our business and development
strategies. If we were to lose members of our scientific team and we may be
harmed by the loss. In order to meet our objectives, we will need to recruit
additional members for our senior management team. We also anticipate hiring
additional skilled personnel, such as advanced engineering professionals, as
part of a product development team that could be self sufficient and operate
with minimal supervision. As a result, our future growth and success will depend
in large part upon our need and ability to attract and retain qualified
personnel.
We are unable to predict the impact that the continuing threat of terrorism
and the responses to that threat by military, government, business and the
public may have on our financial condition and ability to continue to
implement the government sales portion of our business plan.
The terrorist attacks in the U.S. and other countries have brought devastation
to many people, shaken consumer confidence and disrupted commerce throughout the
world. The continuing threat of terrorism and heightened security measures, as
well as current and any future military and civil action in response to such
threat, may cause significant disruption to the global economy, including
widespread recession. We are unable to predict whether the continuing threat of
terrorism or the responses to such threat will interfere with our efforts to
raise additional capital to fund our operations through the development stage.
If we are unable to raise sufficient capital due to economic conditions, we may
be unable to finalize development of our detection systems under government
contracts and to bring them to military, civil or commercial markets as planned.
61
Our business may be subject to international risks that could materially harm
our business.
We are pursuing various international business opportunities, including
opportunities in Turkey, Spain and the Middle East. We anticipate a number of
additional risks associated with our international activities, which could
adversely affect our business including, among others, the following:
o changes in domestic and foreign regulatory requirements;
o political instability in the countries where we sell products;
o differences in technology standards;
o foreign currency controls;
o longer payment cycles and inadequate collection system;
o fluctuations in currency exchange rates;
o inconsistent intellectual property protections in foreign
jurisdictions;
o export restrictions, tariffs, embargoes or other barriers;
o prejudicial employment laws and business practices;
o difficulties in obtaining and managing distributors; and
o potentially negative tax consequences.
Manufacturing Risks
We have no manufacturing experience and our ability to successfully execute a
manufacturing plan is untested.
In order to be successful, we must be able to manufacture, or contract for the
manufacture of CarBomb Finder(TM) and SIEGMA(TM) systems in a scalable and cost
effective manner, producing sufficient quantities on a timely basis, under
strict quality guidelines and in compliance with regulatory requirements. To
date, we have not manufactured any CarBomb Finder(TM) or SIEGMA(TM) systems for
commercial sale, nor have we contracted with any third parties to manufacture
the product for us. In order to move toward commercial production, in August
2004, we retained engineering and construction consultants to develop a detailed
conceptual plan for a manufacturing facility, and in March 2005, we formed
HiEnergy Mfg Company in order to create a semi-autonomous division to develop
and manage the infrastructure, policies and controls for the manufacture and
assembly of CarBomb Finder(TM) and SIEGMA(TM) systems. We anticipate that we
will need to make a substantial capital investment and recruit qualified
personnel in order to build, equip and/or operate any manufacturing facility.
Although we have not yet determined the timing as to the construction or
build-out of a manufacturing facility, we intend to begin the initial phases of
production of the first 10 CarBomb Finder(TM) and/or SIEGMA(TM) systems at our
facilities in Irvine and to continue this effort during fiscal year 2006, or
until either a manufacturing facility is constructed and/or equipped or an
outsourced manufacturing contract is secured.
Our manufacturing strategy, as contemplated, depends on the following:
o the ability to raise additional capital to cover the costs of
constructing and equipping a facility and for the manufacturing of
the CarBomb Finder(TM) and SIEGMA(TM) systems in quantities
necessary to meet anticipated demand should approval by regulatory
authorities be obtained;
o the ability to manufacture products that have minimal and
acceptable defects;
o the ability to obtain product liability insurance;
o the ability to obtain approvals from any applicable state or
federal regulatory agencies;
o unexpected changes in regulatory requirements;
o inadequate protection of intellectual property; and
o risks of fire, earthquake, or other man-made or natural acts
affecting manufacturing facilities.
Any of these factors, or the failure to execute them, could delay the
manufacturing and commercialization of the CarBomb Finder(TM) and SIEGMA(TM)
systems, lead to higher costs, irreparably damage our reputation with future
customers due to factors such as quality control or delays in order fulfillment,
and result in our being unable to effectively sell the CarBomb Finder(TM) and
SIEGMA(TM) systems and substantially harm our business.
62
Before we can afford to have our own manufacturing facility, or engage a
third-party to manufacture units for us on an OEM basis, we must manufacture
the initial units we sell in our laboratory facility with limited staff on a
one-off basis, which renders us unable to create any manufacturing
efficiencies or to realize a profit from the resulting sales. If we are not
able successfully to transition our manufacturing to full-scale commercial
production, it will have a materially adverse effect on our business and
financial condition.
We anticipate that at least the first 10 units of our CarBomb Finder(TM) and/or
SIEGMA(TM) systems which we may be able to sell will have to be manufactured
in-house, one at a time, with limited staff and resources, and without the
ability to take advantage of the economic efficiencies which we would expect if
our product is successfully launched and can be manufactured at higher numbers
in full production. We may never reach that level of production and, if we
don't, then our manufacturing efforts will not produce any profit for us or our
stockholders, and we may potentially have to sell units at a loss (if our cost
of goods, including manufacturing of each unit, exceeds the purchase price we
are able to charge our customers for these initial units). If we cannot convert
our commercial manufacturing operation into a profit center for our company, it
will have a materially adverse impact on our business and operations, and our
overall financial condition.
We rely substantially on third-party suppliers and depend upon a limited number
of suppliers of one of our components for our CarBomb Finder(TM) and SIEGMA(TM)
systems (the gamma ray detector). The inability to obtain parts from these
suppliers on a timely basis and the loss of product or delays in product
availability from one or more third-party suppliers could substantially harm our
business.
We currently rely on third-party suppliers for various parts of the CarBomb
Finder(TM) and SIEGMA(TM) devices, including neutron generators with custom
modifications and certain sub-assemblies. We have placed orders for these key
components for the first 10 CarBomb Finder(TM) and/or SIEGMA(TM) systems from a
small number of sources. For example, we obtain the standard sealed tube neutron
generators we use from Thermo MF Physics, on a purchase order basis.
We believe that alternative sources for these components in the event of a delay
or interruption in supply would be readily available on a timely basis, however,
any inability by us to find alternative sources of key components, alternative
third party manufacturers or sub-assemblers, or sufficient quantities of these
key components, would impair our ability to manufacture and sell the CarBomb
Finder(TM) and SIEGMA(TM) and result in delays or interruptions in shipments,
which could cause current or potential customers to seek out competitors. In
addition, if we are unable to pay for these components on a timely basis, or
cannot arrange sufficient available credit, our third-party suppliers may delay
or cease shipments, which would also impair our ability to manufacture and sell
the CarBomb Finder(TM) and SIEGMA(TM). We currently do not have long-term
agreements with any of these suppliers. Furthermore, in view of the high cost of
many key components, we would strive to avoid excess supplies. If our suppliers
experience financial, operational, production or quality assurance difficulties,
or our sole source suppliers are acquired or otherwise influenced by our
competitors, the supply of components to us would be reduced or interrupted. In
the event that a supplier ceases operations, discontinues a product or withholds
or interrupts supply for any reason, we may be unable to acquire the product
from alternative sources within a reasonable period of time, which would impair
our ability to manufacture and sell the CarBomb Finder(TM) and SIEGMA(TM) and
cause substantial harm to our business.
Interruptions, delays or cost increases affecting our materials, parts,
equipment or suppliers may adversely affect our manufacturing operations.
Our manufacturing operations depend upon obtaining adequate supplies of
materials, parts and equipment on a timely basis from third parties. In
particular, there are few manufacturers worldwide of particle accelerators and
gamma ray detectors; sophisticated and expensive equipment which are the key
components of our products. Our reliance on third party suppliers limits our
control over product delivery schedules or product quality. Our results of
operations could be adversely affected if we are unable to obtain adequate
supplies of materials, parts and equipment of adequate quality in a timely
manner or if the costs of materials, parts or equipment increase significantly.
From time to time, suppliers may extend lead times, limit supplies or increase
prices due to capacity constraints or other factors. In the event that any of
our suppliers were to experience financial, operational, production or quality
assurance difficulties resulting in a reduction or interruption in supply to us,
our operating results could suffer until alternate suppliers, if any, were to
become available.
Our competitors could purchase the same components from our suppliers and
attempt to copy our products to the extent not covered by patents or other
intellectual property rights.
We, like most companies, purchase components for our products from third party
suppliers. We have patent applications pending that are directed to various
combinations of some of these components, but do not cover any of these
components separately. Competitors could purchase the same components from the
same suppliers and assemble similar products to the extent not protected by our
patent or other intellectual property rights. We cannot assure you that our
competitors will not independently develop comparable or superior technologies
using similar or identical components or that our competitors will not obtain
unauthorized access to our proprietary technology and utilize it where we have
no patents or where our patents do not cover the competitor's technology. Areas
of the world where we do not have patent applications include, for instance, the
Middle East, Russia, Africa, and South America. We believe that we have applied
for patents in countries, which constitute the largest markets for our products,
and we intend to expand our patent portfolio. We have applied for patents in the
United States, the European Union, Canada, and Japan and as improvements are
made we intend to file also elsewhere for any potential patent protection. See
the discussion under the heading Intellectual Property Risks.
63
We may be unable to secure anticipated governmental funding for future
products; we are currently unable to obtain an SBA Certificate of Competency.
We plan to apply for several government contracts for the development of future
projects in the future; however, such contracts may not be obtained. We have
successfully obtained a total of seven government development contracts to date
from the U.S. Department of Defense, U.S. Department of Energy and U.S. Customs
Service to finance our research and development. These contracts may be denied
for reasons that include funding of the program, our financial position and
abilities, or for other reasons. We cannot assure investors that additional
government research and development contracts or funding will become available
in the future or that we will receive any additional funds due under previously
secured contracts. If the government discontinues its sponsorship for our
technology, we would have to raise or divert additional capital for product
development, which could adversely affect our business. Furthermore, we are
aware that competitors and potential competitors in the explosive detection
market have also received development grants. Any future grants to competitors
or potential competitors may improve their ability to develop and market
advanced detection products that could compete with our technologies.
In the past, we failed to receive a research grant from the U.S. Navy as a
result of our inability to obtain a Certificate of Competency from the U.S.
Small Business Administration certifying our financial condition as being
adequate to responsibly complete the grant work if it were awarded to us. Due to
our financial condition, we were not awarded the requisite Certificate of
Competency, nor was the Small Business Administration's determination reversed
in June, 2003 when we requested reconsideration of this decision. Management
believes that, in our present condition, the requirement to obtain Certificates
of Competency will continue to be a bar to our ability to win certain government
grants in the future, and is seeking the additional capital necessary to meet
the minimum competency requirements for the projects in which it desires to
participate. It is impossible to state how much money is necessary to obtain a
Certificate of Competency, because it varies from grant to grant and we have
never received a specific dollar amount that would need to be obtained in order
to qualify. However, management intends to raise two to three million dollars in
additional equity capitalization, following the filing of this Report, and
believes that with that additional capitalization it should be able to meet its
operating plans, including seeking additional research and development grants
requiring a Certificate of Competency. There can be no assurance that we will
ever obtain the additional equity capitalization that we need to obtain
Certificates of Competency in respect of any given grant opportunity or, even if
we do, that we will be awarded any research and development grants.
Governmental agencies have special contracting requirements, which create
additional risks.
In contracting with governmental agencies, we are subject to public agency
contract requirements that vary from jurisdiction to jurisdiction. Any potential
sales to public agencies will depend, in part, on our ability to satisfy their
contract requirements, which may be difficult or impossible in certain cases.
Moreover, government contracts typically contain unilateral termination
provisions unfavorable to us and are subject to discretionary auditing and
modification by the government, which subject us to additional risks. The U.S.
government may terminate any of its contracts with us either for its convenience
or if we default by failing to perform in accordance with the contract schedule
and terms. Nonetheless, termination for convenience provisions generally enable
us to recover only our costs incurred or committed, and settlement expenses and
profit on the work completed prior to termination. Termination for default
provisions do not permit such recoveries and make us liable for excess costs
incurred by the U.S. government in procuring undelivered items from another
source. Any potential contracts with foreign governmental agencies or bodies may
contain similar provisions.
Consequently, our backlog on government contracts cannot be deemed a true
indicator of our future revenues. The government's termination of one or more of
the contracts for products under development would harm our business. In
addition, U.S. government contracts are conditioned upon the continuing
availability of Congressional appropriations, which are readdressed on an annual
basis. Consequently, our contracts with certain government agencies generally
are only funded in part at the outset and commit additional monies only as
Congress makes appropriations for future periods. The inability or failure by
the government in funding one or more of the contracts for our products under
development would harm our business.
In addition, contracts with governmental agencies are frequently awarded through
a formal bidding processes, which can be often protracted and contain
cancellation provisions in the event said public agency loses its funding. There
can be no assurance that we will be awarded any of the contracts for which our
products will be bid and even if we are awarded contracts, substantial delays or
cancellations of purchases could result from complaints filed by competing
bidders.
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If our losses continue into the future, our business and our stockholders will
be adversely affected. We are therefore reducing our dependence on governmental
customers, which can require longer than average lead times before sales are
made.
We have incurred net losses since our inception. For the nine months ended
January 31, 2006, we reported net losses available to common shareholders of
$6,253,387 as compared to a net loss available to common shareholders of
approximately $8,208,216 for the nine months ended January 31, 2005. Our
accumulated deficit through January 31, 2006 is $38,053,548. We expect that our
losses will continue into fiscal year 2007. We estimate that our aggregate
financial requirements will be between $3,000,000 and $4,000,000 for the fiscal
year, until we can generate sufficient revenues from sales to cover our
operating costs. One of the factors for the continuation of such anticipated
losses is that we are highly dependent on governmental customers, which
typically require long lead times before sales are made.
Marketing Risks
A failure to establish and maintain relationships with industry partners may
harm our business.
Our success will depend in part on establishing and maintaining relationships
with industry partners. Our ability to produce and market the CarBomb Finder(TM)
and SIEGMA(TM) devices is dependent upon our ability to establish and maintain
satisfactory relationships with other companies and individuals. We may not be
able to enter into relationships with these companies on commercially reasonable
terms or at all. Even if we establish such relationships, not all may result in
benefits for our company.
We may grant third parties substantial marketing rights to the CarBomb
Finder(TM) and SIEGMA(TM) devices in an important market. If the third parties
are unsuccessful in marketing the CarBomb Finder(TM) and SIEGMA(TM), our
marketing plan in the relevant territory could be jeopardized or interrupted.
We have entered into an exclusive distribution agreement for the initial model
of our CarBomb Finder(TM) with an equipment marketing company, EEMCO, for our
marketing and sales efforts in 11 countries in the Middle East and North Africa.
EEMCO is owned by a director of our company, Harb Al-Zuhair. This agreement
covers one of our primary anticipated regional markets, and so our success in
penetrating this marketplace will depend, in large part, on EEMCO's ability to
make sales within its territory. Provided that it has met its minimum sales
requirement to maintain exclusivity for any country within its territory (which
is a minimum of four sales in each country within the territory by August 2005),
we will not be able to offer marketing rights to our prototype CarBomb
Finder(TM) to any other entity to make sales within that specific territory.
Although we have the right to terminate the agreement upon 60 days notice for
any reason, or immediately if there is a material breach, there may be
significant costs associated with extricating ourselves from the agreement and
market share could be compromised if a smooth transition to another distributor
is not made.
Intellectual Property Risks
We may not be able to protect our intellectual property and may infringe on
the intellectual property rights of others.
The protection of our intellectual property and the establishment of patents and
other proprietary rights are important to our success and our competitive
position. Accordingly, we devote substantial resources to the establishment and
protection of intellectual property through various methods such as patents and
patent applications, trademarks, copyrights, confidentiality and non-disclosure
agreements. We also rely on trade secrets, proprietary methodologies and
continuing technological innovation to remain competitive. We have taken
measures to protect our trade secrets and know-how, including the use of
confidentiality agreements with our employees. However, it is possible that
these agreements may be breached and that the available remedies for any breach
will not be sufficient to compensate us for damages incurred.
We currently have pending patent and provisional patent applications in the
United States and various foreign countries. There can be no assurance that our
patent applications will result in the issuance of any patents, or that the
claims allowed under any patents held by us will be sufficiently broad to
protect our technology against competition from third parties with similar
technologies or products. Moreover, we can give no assurance that others will
not assert rights in, or ownership of, patents and other proprietary rights we
may establish, or acquire or that we will be able to successfully resolve such
conflicts. In addition, we cannot assure investors that any patents issued to us
will not be challenged, invalidated or circumvented or that the rights granted
under these patents will provide a competitive advantage to us. Moreover, the
laws of some foreign countries do not protect intellectual property rights to
the same extent as the laws of the United States, and therefore we could
experience various obstacles and significant costs in protecting our
intellectual property rights in foreign countries. If we are unable to obtain or
maintain these protections, we may be unable to prevent third parties from using
our intellectual property.
65
In the operation of our business, it is inevitable that certain employees,
consultants, vendors, current or prospective customers, distributors, government
officials, investors and other persons having a business relationship with us
will come in contact from time to time with certain of our trade secrets and
other proprietary information. Although we use reasonable efforts to ensure that
such persons sign confidentiality agreements with us, or otherwise respect the
proprietary and confidential nature of this information, our ability to protect
our rights depends upon us being aware that proprietary information has been or
may be misused and, even if we are aware of such fact, our ability further
depends upon having the resources necessary to compel such person not to misuse
such information, which may require costly legal proceedings which we may not be
able to afford at the time. If that were to be the case, our inability to
protect our proprietary and confidential trade secrets and information could
impair or destroy our ability to continue to claim proprietary rights in such
information, and/or could allow our competitors to access such information to
their competitive advantage and at our expense, either of which results could
have a materially adverse effect upon our business, operations and financial
condition, as well as the value of some or all of our intellectual property
rights in general.
Information relating to any invention that is invented under a Small Business
Innovation Research contract may become public at some future time.
A portion of our research and development costs relating to the development of
our advanced SuperSenzor technology for anti-tank landmine identification
purposes is being funded under a Small Business Innovation Research ("SBIR")
contract. This development work essentially involves the incorporation of
sophisticated directional features into our core MiniSenzor technology. To date,
none of the funding we have received from SBIR grants has been utilized for the
development of technology which was incorporated in any patent we have filed
for, or otherwise comprises a portion of our proprietary rights in our
technology. However, in the future it is conceivable that we could undertake a
material technology development utilizing funding from an SBIR grant, in whole
or in part. If that were to occur, there is a risk that the concerns addressed
below could become applicable.
If an invention is developed under an SBIR contract, it must be reported to the
granting agency. The U.S. federal government has royalty-free rights when
purchasing the products from our federal government SBIR contracts. We
nevertheless own the data and title to the products resulting from those
contracts and are permitted to obtain patent protection. The U.S. federal
government does not contractually undertake to protect data or inventions from
public disclosure beyond four years after the term of an SBIR contract.
Therefore, our competitors possibly could gain access to certain information
relating to our SuperSenzor advancements or any other technologies we develop
under SBIR contracts. The U.S. government however, has no rights over our
patents because the inventions were developed prior to the SBIR contracts. Also,
the U.S. federal government might create competition by utilizing its own right
and license to any technology developed under the SBIR contract if it is not
being developed by the inventor. The U.S. government in exercising these rights
to produce or have produced for the U.S. government competing products using the
technology developed under the SBIR, could limit the marketability of our
products. Furthermore, if we were to participate in research and development
projects jointly with one of the U.S. or foreign military branches, where the
relevant government is deemed to be the owner of the resulting technology, we
may be foreclosed from using, or protecting as our own, technology which we
helped to develop and which could otherwise be eligible for patent protection if
we had developed it independently. Accordingly, technology which we develop
could end up becoming used by our competitors and against us. If either of these
events were to occur, it might lessen the value of that technology, or of our
company, to prospective future investors or candidates for our acquisition,
which could have a material effect upon the market for our shares.
Litigation as to enforcement or defense against claims of intellectual
property infringement could be expensive, and any judgment against us may
prevent us from selling our products.
We may be called upon to enforce our protections against intellectual property
and trade secrets, or to determine the validity and scope of the proprietary
rights of others. Any subsequent litigation, regardless of the outcome, could be
costly and divert the efforts of key management and technical and scientific
personnel. Both domestic and international competitors may have pre-existing
claims and patents against intellectual property that may prevent, limit or
interfere with our ability to manufacture and sell our products. As of this
date, we have not conducted an independent review of patents issued to third
parties. Because of the market opportunity we perceive, companies possessing
technology rights, which they believe we may be infringing upon, will be
motivated to assert claims of infringement against us. Any adverse outcome in
the defense of an infringement matter could subject us to significant
liabilities to third parties, require disputed rights to be licensed from third
parties, or prohibit us from selling our products.
66
Regulatory and Legal Risks
The CarBomb Finder(TM), SIEGMA(TM), and any future products in development
utilizing our technology would be subject to radiation safety regulations and
licensing requirements. Complying with these requirements may result in delays
in the deployment and customer utilization of the CarBomb Finder(TM),
SIEGMA(TM), and future products.
Our CarBomb Finder(TM), SIEGMA(TM), and any future products in development
utilize a process that results in neutron radiation. As a potential manufacturer
of a fast neutron emitting device, we and our customers must comply with
applicable governmental laws and regulations and licensing requirements, which
may include those promulgated by the U.S. Nuclear Regulatory Commission ("NRC")
and the U.S. Food and Drug Administration ("FDA"), governing the design and
operation of our products, including appropriate radiation shielding. Although
fast neutron radiation demonstrates some properties different than other forms
of radiation, we do not believe that fast neutron radiation presents any
difficulties or creates any risks beyond those ordinarily encountered in
connection with the fabrication and operation of other forms of radiation
emitting devices commonly used in the general population, such as x-ray
equipment. Further, we believe that the design and incorporation of appropriate
shielding in our products and the development of appropriate operating
procedures in view of their intended use are, as an engineering and public
safety matter, relatively straight-forward matters. Nevertheless, compliance
with these rules and regulations and licensing requirements entails additional
expense, effort and time in bringing our products to market.
The manufacture and sale of devices which emit radiation are subject to the
regulatory controls and standards of various domestic and foreign jurisdictions.
These regulations may become more restrictive as policies, guidelines and
standards change, and our activities as to current and future products may be
curtailed or interrupted.
Currently, our prototype CarBomb Finder(TM), SIEGMA(TM) and other devices
incorporating our stoichiometric technology for detection purposes utilize a
sealed tube neutron generator to create the stream of fast neutrons which is
emitted from the device. These generators are off-the-shelf neutron generators
which do not require licensing by the NRC or other regulatory body to
manufacture. However, if we were to customize our own proprietary neutron
generator for use with our products, such new generator would be subject to
review and licensing by the NRC, and potentially by any other jurisdiction in
which we may manufacture or sell our products in the future. Currently, the end
users of our devices may be required to obtain NRC and other permits in order to
operate them. There can be no assurance that the need to obtain end-user
permits, and/or to comply with any future regulations which may be adopted by
the NRC or other U.S. or foreign regulatory bodies will not limit, or be a bar,
to our potential customers purchasing our products. Furthermore, the imposition
of stricter permitting regulations on the manufacturing of devices that utilize
the sealed tube neutron generator, or the increase in regulatory requirements if
we were to develop our own customized neutron source, could be prohibitively
expensive or adversely affect our ability to manufacture our devices as
currently contemplated, which could have a materially adverse effect upon our
future sales and financial condition.
If current Export Administration Act regulations were to change, or if our
devices are purchased in countries which are viewed as a threat to regional
stability, we could become subjected to the more stringent rules of the U.S.
Department of State, and certain currently permissible sales activities could be
limited or prohibited altogether.
Although we have not submitted a formal commodity classification request to the
BIS, we believe the CarBomb Finder(TM) and SIEGMA(TM) would most likely be
classified under ECCN 2A983, and subject to export control regulations
administered by the U.S. Department of Commerce, Bureau of Industry and Security
("BIS"). Accordingly, sales of our currently anticipated products to countries
which are not restricted pursuant to the BIS' listings for "Region Stability
(RS-2)", "Anti-Terrorism (AT-1)", and/or "Non-Proliferation (NP-1)", require no
special licensing. Sales to other countries will require licenses to be obtained
for export, but we expect that we would fall into the category of items
receiving "favorable consideration" due to the non-aggressive nature of our
planned products. However, future sales to countries of concern, future products
we may develop, or future changes in the existing federal regulations governing
the administration of export controls by the U.S. Department of Commerce, may
require us to obtain federal licensing, or become subject to more stringent
rules of the U.S. Department of State. There can be no guarantee that we will be
able to obtain such licenses at that time, or if we can that costs of doing so
will not be prohibitive or significantly our poll of available customers.
67
If future products, such as the CarBomb Finder(TM) and SIEGMA(TM), fail to
detect or confirm explosives, we could be exposed to product liability and
related claims and may fail to achieve market acceptance.
Inherent in the manufacturing, sale and maintenance of explosive detection
products are potential product liability risks. If our products malfunction, it
is possible that explosive material could pass undetected through our products,
which could lead to product liability claims. There are also many other factors
beyond our control that could lead to liability claims, such as the reliability
and competence of the customer's operators and the training of the operators.
The cost of defending product liability claims brought against us could be
significant and any adverse determination may result in liabilities in excess of
insurance coverage. We do not currently maintain product liability insurance,
but we anticipate obtaining product liability insurance as soon as it is
necessary. We also intend to address product liability issues by pursuing the
designation and certification of our products by the U.S. Department of Homeland
Security (" DHS") as Qualified Anti-Terrorism Technologies ("QATTs") and relying
upon certain protections provided for under The Support Anti-terrorism by
Fostering Effective Technologies Act of 2002, Public Law 107-296 (the "Safety
Act"). We cannot be certain that we will be able to attain on acceptable terms,
if at all, insurance coverage sufficient to contain liabilities in a meaningful
way, or qualify our products and services as QATTs under the Safety Act. In
addition, the failure of any product to detect explosives, even if due to
operator error and not to the mechanical failure of a product, could result in
public and customer perception that our products are ineffective. In the event
we are held liable for a claim against which we do not have insurance or for
damages exceeding our levels of insurance coverage, or which even if insured
results in significant adverse publicity against us or our products, we may be
required to make substantial payments and lose or fail to achieve market
acceptance.
If investors rely on projections or estimates we may make, they could assert in
a legal proceeding that we issued false or misleading statements about our
company. If they were able to prevail successfully in any such proceeding, it
could have a materially adverse impact on our business, operations, and
financial condition, as well as the market for our public securities.
The Company may from time to time make projections as to the sale of its units
or the growth of its business. These are considered forward looking statements
and the Company advises investors to not rely on these projections in making any
determination whether or not to invest in, or maintain an investment in our
stock. However, to the extent that any investor has so relied, and if the
investor can prove that any misstatements we have made were intentional or
reckless, that such investor's reliance on these misstatements was reasonable,
and that the investor has suffered actual damages as a result of such reliance,
than such investor may have a cause of action against us. If any investor were
to prevail in making such assertions in any legal proceeding, it could have a
materially adverse impact on our business, operations, and financial condition,
as well as the market for our public securities.
We may owe indemnification obligations to our current and former directors and
officers.
Our certificate of incorporation and bylaws contain provisions that provide for
indemnification of officers and directors, in each instance to the maximum
extent permitted by law. To the extent indemnification for liabilities arising
under the Securities Act may be permitted to directors, officers and controlling
persons of HiEnergy Technologies under the above provisions, or otherwise, we
have been advised that in the opinion of the SEC such indemnification is against
public policy as expressed in the Securities Act, and is therefore
unenforceable. In May 2003, former director Barry Alter engaged his own separate
legal counsel with respect to the SEC investigation regarding SLW Enterprises,
and demanded that we advance him in excess of $24,000 in connection with the
investigation that the SEC has conducted. We did not advance him these expenses,
and he brought an action against us in Delaware seeking payment of his costs and
expenses, then subsequently informed us that the action had been voluntarily
dismissed without prejudice. Mr. Alter could make further demands for
advancement of expenses, and the voluntary dismissal of his action does not
prevent him from initiating a new action to recover past, present, and future
expenses from us. A stockholder's investment in our company may be adversely
affected to the extent that we pay costs of settlement and damage awards against
directors or officers under the indemnification provisions of the certificate of
incorporation and bylaws. The impact on a stockholder's investment in terms of
the costs of defending a lawsuit on behalf of a director or officer may also
deter us from bringing suit against former directors or officers. Claims for
indemnification under our certificate of incorporation or bylaws may also
dissuade us from bringing lawsuits against current or former directors or
officers.
Current and prior stockholders who purchased our shares could attempt to
assert claims against us if our disclosures they relied upon in making such
purchases are deemed inadequate.
Facts related to Mr. Gregory Gilbert and a separate investigation by the SEC
involving persons suspected of stock manipulation were not known to us and were
not disclosed in sales materials or filings with the SEC until February 2003. We
do not believe that the information was material to the value of our company,
and we believe that we have valid defenses against liability under the
Securities Act of 1933, the Securities Exchange Act of 1934 and other state and
federal securities laws. However, if a court decides to the contrary, we could
be subject to liability under the Securities Act and/or under the Securities
Exchange Act. Additionally, we may have liability under certain U.S. state
securities laws, which laws may apply similar or different standards as the
federal laws. In such case, we would pursue all of our rights and remedies, if
any, against our former officers and directors to the extent, if any, they were
culpable. We have disclosed these matters to our stockholders and the public
and, therefore, purchasers of shares of our common stock subsequent to our
making such disclosure in February 2003 would have no cause of action for our
previously having failed to ascertain and disclose such facts.
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Our former director's outside legal proceedings were not promptly disclosed to
the public.
Mr. Gregory F. Gilbert, a former director of the Company, was involved in
several legal proceedings that were not disclosed by us in various reports with
the SEC until we became aware of them in February 2003. Details of these legal
proceedings are available in filings subsequent to that date. Stockholders could
potentially assert that we acted negligently in failing to uncover a personal
involvement of a director in such legal proceedings. Any related litigation
could result in significant financial penalties and could have a negative effect
on our financial condition.
Corporate Risks
We have identified weaknesses in our internal controls which may affect our
ability to comply with our public company reporting obligations, and any lack of
compliance with these reporting obligations could give rise to potential
regulatory and/or shareholder actions that could have a material adverse effect
upon our business and financial condition, and the market value of our stock,
Although our management has concluded that while our system of disclosure
controls and procedures were effective in meeting our disclosure obligations
under the federal securities laws, two weaknesses exist: (i) a lack of
segregation of duties and (ii) a lack of a more systemic and formal approach to
the conduct of our corporate, financial and business affairs. These weaknesses
result primarily from a lack of capital and human resources. Although we plan to
hire additional personnel, we can offer no assurances that we will be
successful. If we are unsuccessful in strengthening our system of disclosure
controls and procedures, and if as a result we were to fail to disclose timely
material items as required under the Securities Exchange Act, it could give rise
to potential regulatory and/or shareholder actions, which could have a material
adverse effect on our business and financial condition, and on the market value
of our shares
We may have increasing difficulty to attract and retain outside members of our
board of directors.
The directors and management of publicly traded corporations are increasingly
concerned with the extent of their personal exposure and liability with regard
to lawsuits and stockholder claims, as well as governmental and creditor claims
which may be made against them in connection with their positions with
publicly-held companies. Outside directors are also becoming increasingly
concerned with the availability of directors and officers' liability insurance
and a carrier's ability to pay on a timely basis the costs incurred in defending
stockholder claims. Director's and officer's liability insurance has recently
become much more expensive and difficult to obtain than it had been. If we are
unable to continue obtaining directors and officer's liability insurance at
affordable rates, it may become increasingly more difficult to attract and
retain qualified outside directors to serve on our Board. It is anticipated that
the fees of directors will rise in response to increased exposure to such risks.
We may have insufficient amounts of, or may be otherwise unable to draw from,
directors' and officers' liability insurance.
Although we have obtained, and paid premiums for, levels of directors' and
officers' liability insurance to cover legal challenges where we may have
indemnification obligations to persons serving in such capacities on behalf of
our company, our insurance carrier may not pay all claims which we tender to it
under our policy. Even if they do honor claims which we may make at the maximum
levels required under our policy, the amounts of insurance which we can afford
to maintain at any given time may be insufficient to cover the amount of any
claims for indemnification made against us by our current or former officers or
directors. Furthermore, the policies of insurance which we currently or may in
future maintain normally do not fund amounts which we may pay out in defense
costs or indemnification directly, but rather will reimburse us for amounts
which we must pay up front, and normally only after significant deductible
amounts are paid for which we would not be reimbursed. Accordingly, if we were
to be required to fund expensive litigation involving our present or former
officers or directors, and/or to pay them amounts as indemnification which we
may owe to them, and to the extent that such amounts exceed the amount of
reimbursement we are able successfully to obtain from our relevant carriers, it
could have a materially adverse effect upon our business, operations and
financial condition.
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Elimination of monetary liability of our current and former directors may
discourage lawsuits against directors.
Our certificate of incorporation and bylaws contain provisions that eliminate or
limit the liability of our corporate directors for monetary damages to the
maximum extent permitted by law. These provisions may discourage stockholders
from bringing a lawsuit against directors and officers for breaches of fiduciary
duty, and may also reduce the likelihood of derivative litigation against
directors and officers even though such action, if successful, might otherwise
have benefited the stockholders.
RISKS RELATED TO OUR STOCK
We will pay accruing penalties to certain holders of our securities based on
our failure to register their securities.
After August 2003, we entered into certain agreements for the purchase of
certain shares of stock, convertible notes and warrants in private transactions.
The terms of these securities purchase agreements require us to register the
shares of common stock, and the underlying shares of common stock issuable upon
exercise of the warrants and/or conversion of the convertible notes, with the
SEC for public trading as of certain dates which are specified in each purchase
agreement. If the subject securities are not registered within the dates
specified in the applicable agreement, we must pay (or accrue, as the case may
be) a penalty through the issuance of like securities. In accordance with the
relevant provisions in these securities purchase agreements, we have paid or
accrued penalties due purchasers in these offerings because we failed to meet
the specified deadlines for having a Registration Statement on Form SB-2
declared and maintained effective. Some of these penalties began to accrue as of
October 15, 2003, and we are obligated to continue to issue and pay these
securities as penalties until all of our obligations under the applicable
registration rights provisions in our agreements are satisfied in full, or the
penalties become impermissible or unenforceable as a matter of law or when the
securities can be sold pursuant to Rule 144.
The amount of the penalties paid or accrued as a result of the defaults
described above for the nine months ended January 31, 2006 is 709,942 shares of
common stock, $12,000 in aggregate face amount of additional convertible notes,
and warrants to purchase an additional 3,158,222 shares of common stock. Our
existing stockholders have suffered, and will continue to suffer, substantial
dilution as a result of the issuance and payment of these securities as
penalties. Such dilution can have a material and adverse impact upon the actual
and perceived value of our shares, which can be a depressive force upon the
price of our stock at market and cause losses for our existing stockholders, as
well as render it much more difficult for us to raise additional equity capital
in the future.
Our common stock price is subject to significant volatility, which could result
in substantial losses for investors and litigation against us.
From February 27, 2002, when trading in our shares commenced, through the date
of this Report, the high and low closing bid prices of our common stock were
$3.10 and $0.30, respectively. The market price of our common stock may exhibit
significant fluctuations in the future in response to various factors, many of
which are beyond our control and include:
o variations in our quarterly financial results, which variations
could result from, among other things, the availability of
funding;
o changes in market valuations of similar companies and stock market
price and volume fluctuations generally;
o economic conditions specific to the industries in which we
operate;
o legislative and regulatory developments related to homeland
security and industry controls;
o announcements by us or our competitors of new or enhanced
products, technologies or services, and the formation or
cancellation of significant contracts, acquisition, strategic
relationships, joint ventures or capital commitments;
o changes in key customer and supplier relationships;
o recommendations of research analysts and guidance;
o additions or departures of key management or scientific personnel;
and
o future sales of our common stock or other debt or equity
securities.
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If our operating results in future quarters fall below the expectations of
market makers, securities analysts and investors, the price of our common stock
will likely decline, perhaps substantially. In the past, plaintiffs have often
initiated securities class action suits against a company following periods of
volatility in the market price of its securities. We may, in the future, be the
target of similar litigation. Securities litigation could result in substantial
costs and liabilities, and could divert management's attention and resources.
Additionally, the stock market has periodically experienced significant price
and volume fluctuations that have particularly affected the market prices of
common stock of technology companies. These changes have been generally
unrelated to the operating performance or fundamentals of particular companies.
These broad market fluctuations may also negatively affect the market price of
our common stock and the notes.
We may not be able to pay an accrued payroll tax liability.
As of January 31, 2006, we have accrued and recorded a payroll tax liability of
$425,007 for stock compensation given during the period from June 1997 through
February 2002. The stock given during this period was HiEnergy Microdevices
stock, which in April 2002 was exchanged, in a transaction treated as a reverse
takeover. Because, at the time, HiEnergy Microdevices was a closely-held
corporation with negative net worth, no marketable product, no meaningful
revenue potential and no dividend paying capacity, the value originally assigned
to the stock was nil.
We identified a public sale of the closely-held HiEnergy Microdevices stock
where a HiEnergy Microdevices shareholder filed for chapter 7 bankruptcy
protections and his stock was sold by the bankruptcy trustee in February 2002.
We have calculated the payroll tax liability by treating this sale as an arms
length transaction and recognizing employment taxes, withholding requirements,
penalties and interest. We engaged tax advisors regarding the nature of our
obligations, and we are working toward reconciling this liability.
If we are unable to obtain the capital resources necessary to resolve this
liability quickly, the penalties and interest associated with it will continue
to accrue and we may be subject to liens and encumbrances until any obligation
remains outstanding. Many of our research and development funds are the result
of federal grants, and to the extent we are delinquent in the payment of accrued
federal taxes, we may be precluded from receiving such grants in the future.
Either of these results could have a materially adverse effect upon our
business, operations and financial condition.
There is a risk of dilution resulting from continued issuances of securities
to management, employees, consultants, and related parties which may reduce
the market price of our common stock, and may also lead to difficulty in
obtaining additional equity capital.
We issued options to purchase 421,980 shares of our common stock to our
Chairman, Dr. Bogdan Maglich in fiscal year 2005 and options to purchase 529,510
shares in fiscal year 2006 for services rendered as our Chief Executive Officer
and Chief Scientific Officer, pursuant to his employment contract. Also,
pursuant to the terms of various other agreements entered into by the Company,
we also issued or committed to issue options to purchase 2,535,000 shares and
options to purchase 850,000 shares in fiscal years 2005 and 2006, respectively,
to other employees and directors. In fiscal year 2005 we issued a warrant to
purchase 100,000 shares to our former controller. As to consultants, in fiscal
year 2006 we issued or committed to issue options or warrants to purchase
177,179 shares. Likewise, we issued notes payable to our former legal counsel
during fiscal years 2003 and 2004 that are convertible into 560,929 shares of
common stock as of January 31, 2006. Continued issuances of securities of this
magnitude may have a dilutive effect on the market price for our common stock
and of the percentages of ownership of stockholders, if the options and warrants
are exercised, or the notes are converted. The terms upon which we will be able
to obtain additional equity capital could also be adversely affected.
We plan to issue a significant number of additional equity securities in the
future and that will dilute the percentage ownership of the present holders or
purchasers of our common stock.
There were 64,019,328 shares of our common stock outstanding as of January 31,
2006, which does not include 25,585,191 new shares we have committed to issue
upon exercise of options and warrants and convertible notes. We also may be
required to issue up to 704,190 shares of our common stock to former holders of
options and warrants of HiEnergy Microdevices who hold rights to purchase our
shares of common stock at $0.156 per share. These rights survived the short-form
merger completed in January 2005, and may be exercised any time before April 25,
2007, subject to the payment of promissory notes representing the purchase
price. If we issue all of the shares underlying currently outstanding warrants
and options currently in-the money and convertible notes, this will result in
approximately 9% dilution, based on the January 31, 2006 stock price, of the
ownership interest of holders of our common stock. If all currently outstanding
warrants, options and convertible notes were immediately exercised and
converted, we would receive approximately $689,407 in cash and approximately
$1,368,518 in forgiveness of indebtedness. Under our current business plan, we
must also raise funds in part by issuing new equity securities, which would have
a dilutive effect on the percentage ownership of stockholders. The shares issued
in such transactions could be very large and may even exceed the number of
shares issued and outstanding today, which would significantly decrease the
percentage ownership of current stockholders. Our requirement for new equity
capital for the financing of operating deficits will continue until we
successfully commercialize a product and achieve a sufficient level of positive
operating cash flow. Possible costs that would require funding include
investments in capital equipment, technology and research and development,
marketing initiatives, inventory, accounts receivable and human resources, as
well as financial contributions toward potential joint ventures, acquisitions,
collaborative projects and other general corporate purposes.
71
We may be required to sell restricted equity securities at prices less than the
market price for unrestricted shares. We have thus far sold restricted equity
securities at prices less than prevailing market prices of our stock and have
issued convertible debt. When the shares that are issuable in connection with
those securities become available for public sale, the additional supply of
shares may adversely affect the market price of our common stock. Also, our
anticipated private financings and the exercise or conversion of securities
outstanding may dilute the voting or other rights of other holders at the time,
or be prior and senior or receive rights that the holders of common stock do not
have, which could reduce the economic value of our common stock. Further, we
have sold through private placements, warrants that have cashless exercise
provisions, in which the holder shall receive a net number of shares based upon
the share price on the trading day preceding the exercise date of the warrant if
the underlying shares of warrants with cashless exercise provisions are not
registered under an effective registration statement by a certain date. At
present we have outstanding warrants to purchase a total of 5,863,466 shares
which may be exercised by means of a cashless exercise. Accordingly, in the
event there is a large spread between the exercise price and the share price on
the trading day of our common stock, a cashless exercise of warrants could
result in a significant amount of additional shares.
Because our stock is not listed on a national securities exchange, you may
find it difficult to dispose of or obtain quotations for our common stock.
Our common stock has been traded under the symbol "HIET" on the OTC Bulletin
Board since May 3, 2002 and previously under the symbol "SLWE" from February 22,
2002 through May 3, 2002. Because our stock trades on the OTC Bulletin Board
rather than on a national securities exchange or NASDAQ, you may find it
difficult to either dispose of, or to obtain quotations as to the price of, our
common stock. Once we meet applicable listing requirements and qualifications,
we intend to apply for listing of our stock on a national securities exchange.
Because we are subject to the "penny stock" rules, the level of trading
activity in our stock may be reduced.
Broker-dealer practices in connection with transactions in "penny stocks" are
regulated by penny stock rules adopted by the Securities and Exchange
Commission. Penny stocks, like shares of our common stock, generally are equity
securities with a price of less than $5.00, other than securities registered on
some national securities exchanges or quoted on NASDAQ. The penny stock rules
require a broker-dealer, prior to a transaction in a penny stock not otherwise
exempt from the rules, to deliver a standardized risk disclosure document that
provides information about penny stocks and the nature and level of risks in the
penny stock market. The broker-dealer also must provide the customer with
current bid and offer quotations for the penny stock, the compensation of the
broker-dealer and its salesperson in the transaction, and, if the broker-dealer
is the sole market maker, the broker-dealer must disclose this fact and the
broker-dealer's presumed control over the market, and monthly account statements
showing the market value of each penny stock held in the customer's account. In
addition, broker-dealers who sell these securities to persons other than
established customers and "accredited investors" must make a special written
determination that the penny stock is a suitable investment for the purchaser
and receive the purchaser's written agreement to the transaction. Consequently,
these requirements may have the effect of reducing the level of trading
activity, if any, in the secondary market for a security subject to the penny
stock rules, and investors in our common stock may find it difficult to sell
their shares. We would like to raise financing in an amount that might qualify
us for a time for an AMEX listing and a NASDAQ small cap listing. However, doing
so would be very dilutive of existing stockholders.
Should persons engage in short sales of our common stock, including sales of
shares to be issued upon exercise of warrants and options, the price of our
common stock may decline.
Selling short is a technique used by a stockholder to take advantage of an
anticipated decline in the price of a security. A significant number of short
sales or a large volume of other sales within a relatively short period of time
can create downward pressure on the market price of a security. Further sales of
common stock issued upon exercise of our warrants and options could cause even
greater declines in the price of our common stock due to the number of
additional shares available in the market, which could encourage short sales
that could further undermine the value of our common stock. You could,
therefore, experience a decline in the value of your investment as a result of
short sales of our common stock. As of January 2005, our shares have appeared on
the "Threshold Security List" published in connection with Regulation SHO, which
may indicate questionable shorting activity involving our securities. We have
also learned that our listing on the Berlin-Bremen Stock Exchange ("BBSE") by a
third-party poses a risk to our stock and provides an avenue for such short
trading activity by providing a loophole in the short sales regulations adopted
by the National Association of Securities Dealers. The loophole is applicable to
those shares traded in the U.S. stock market and listed for trading on a foreign
stock market, such as the BBSE, and purportedly held in foreign brokerage
accounts. While we have taken steps to effectuate the delisting of our stock
from the BBSE, under the rules of that exchange an issuer does not necessarily
have the right to compel such delisting and, accordingly, there can be no
assurance if or when our stock might be delisted from the BBSE. If our stock
were not promptly delisted from the BBSE, it could have a materially adverse
effect upon the price of our shares in the market and increase price volatility,
which could in turn affect our ability to raise needed capital, which could have
a materially adverse effect upon our business, operations and financial
condition.
72
Delaware law and our charter documents contain provisions that could
discourage or prevent a potential takeover of our company that might otherwise
result in our stockholders receiving a premium over the market price for their
shares.
Provisions of Delaware law and our certificate of incorporation and bylaws could
make an acquisition of us by means of a tender offer, a proxy contest, or
otherwise, and the removal of incumbent officers and directors, more difficult.
These provisions include:
o Section 203 of the Delaware General Corporation Law, which
prohibits a merger with a 15%-or-greater stockholder, including a
party that has completed a successful tender offer, until three
years after that party became a 15%-or-greater stockholder; and
o the authorization in our certificate of incorporation of
undesignated preferred stock, which could be issued without any
further vote or action by our stockholders, in a manner designed
to prevent or discourage a takeover or provide preferences for the
investor ahead of holders of common stock.
Furthermore, preferred stock may have other rights, including economic rights
senior to the common stock, and, as a result, the issuance of preferred stock
could adversely affect the market value of our common stock.
73
ITEM 3. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Disclosure controls and procedures are designed to ensure that information
required to be disclosed in our reports filed or submitted under the Securities
Exchange Act of 1934 (the "Exchange Act") is recorded, processed, summarized and
reported, within the time periods specified in the SEC's rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed in our
reports filed under the Exchange Act is accumulated and communicated to
management to allow timely decisions regarding required disclosure.
As required by Rule 13a-15 under the Exchange Act, we carried out an evaluation
of the effectiveness of the design and operation of our disclosure controls and
procedures as of January 31, 2006, being the date of our most recently completed
fiscal quarter. This evaluation was carried out by Roger W.A. Spillmann in his
capacity as our Chief Executive Officer and Treasurer. Based upon that
evaluation, Roger Spillmann concluded that our disclosure controls and
procedures were effective in meeting our requirements as to the disclosure of
material information in our reports filed under the Exchange Act. However, two
areas of weakness were identified in the evaluation: (i) a lack of segregation
of duties due to understaffing and (ii) a lack of a more systematic and formal
approach to the conduct of our corporate, financial and business affairs. These
weaknesses, which we continue to experience, are primarily the result of a
general lack of capital and human resources dedicated to make the improvements
necessary for timelier reporting and disclosure with less reliance on internal
auditing. Currently, Roger Spillmann serves simultaneously as our Chief
Executive Officer, President, Treasurer and Secretary. In order to further
segregate the duties of our officer positions, we are attempting to recruit
additional officers as well as other employees experienced with the
implementation and evaluation of disclosure controls and procedures for timely
financial reporting. However, we can offer no assurance that we will
successfully recruit such employees, as our ability to do so is limited by our
available capital resources.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
In connection with Roger Spillmann's evaluation of our disclosure controls and
procedures as of January 31, 2006, as described above, Mr. Spillmann also
determined that during our most recent fiscal quarter, there has been no change
in our internal control over financial reporting (as defined in Rule 13a-15(f)
or 15d-15(f) under the Exchange Act) that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.
74
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
BARRY ALTER
On May 27, 2003, Mr. Alter brought a lawsuit against us in the New Castle County
Court of Chancery in Delaware to recover the advancement of expenses in the
amount of $20,000 he allegedly incurred and future expenses he would incur in
response to an SEC investigation which mirrored our investigation by the SEC,
and for which Mr. Alter obtained separate legal counsel to represent him. That
action was identified as Civil Action No. 20320NC. On June 17, 2003, Mr. Alter
notified us that this action had been voluntarily dismissed without prejudice.
However, to the date of this Report there has been no settlement of our dispute
with Mr. Alter, and there can be no assurance that the claims he asserted
against us will not be resuscitated at some time in the future.
YEFFET SECURITY CONSULTANTS, INC.
HiEnergy is currently arbitrating a dispute with a former consultant, Yeffet
Security Consultants, Inc. ("YSCI"). We entered into a consulting agreement with
YSCI in July 2002. Under the terms of this agreement, YSCI was to provide
consulting services to us to further our marketing and business objectives. On
October 29, 2003, we notified Yeffet Security Consultants that we were
terminating its contract on the grounds of inadequate performance. YSCI alleged
that we breached the consulting agreement and is seeking to recover $449,540.91.
We deny this allegation and intend to defend it vigorously in arbitration.
Depositions in this matter began for us in New Jersey on December 15, 2004 and
for YSCI in January 2005. As of this date, we and our legal counsel have made no
other determination as to the merits of, or possible defenses to, the
arbitration.
FILED COMPLAINTS
In January 2005, we were served with a Summons and Class Action Complaint for
Violations of Federal Securities Laws, which was filed on October 18, 2004, in
the Federal District Court for the Southern District of California under case
number SACV04-1226 GLT. The Complaint filed named HiEnergy and its Chairman, Dr.
Bogdan C. Maglich, among other named defendants, on behalf of a class of persons
who acquired our stock during the period from February 22, 2002 through July 8,
2004. In February 2005, plaintiff's counsel filed a First Amended Complaint
entitled and styled, "In re: HiEnergy Technologies, Inc. Securities Litigation,"
Master File No. 8:04-CV-01226-DOC (JTLx), alleging various violations of the
federal securities laws, generally asserting the same claims involving Philip
Gurian, Barry Alter, and our purported failure to disclose their various
securities violations including, without limitation, allegations of fraud. The
First Amended Complaint seeks, among other things, monetary damages, attorney's
fees, costs, and declaratory relief. We engaged two legal firms to vigorously
defend us in this matter and assess the impact of the pending lawsuit. On
Friday, March 25, 2005, we timely filed responsive pleadings as well as Motions
to Dismiss the Plaintiffs' First Amended Complaint arguing that the Complaint
failed to state a claim upon which relief can be granted. On June 17, 2005, the
Court issued an Order Granting the Motions to Dismiss (the "Order"), finding
that the Plaintiffs failed in the First Amended Complaint to allege causation of
loss resulting from any alleged omissions and/or misrepresentations of HiEnergy
or Dr. Maglich, to sustain a cause of action for securities fraud under ss.10(b)
of the Exchange Act and Rule 10b-5 of the SEC, that the Plaintiffs had failed to
plead actual reliance on any allegedly false or misleading filings of HiEnergy
to sustain a claim under ss.18 of the Exchange Act, and that the Plaintiffs had
failed to allege a primary violation of any securities laws to sustain a claim
for a violation of ss.20(a) of the Exchange Act. On July 5, 2005, the Plaintiffs
filed a Second Amended Complaint in compliance with the Court's Order. On
October 24, 2005, the Court issued a Minute Order granting in part and denying
in part our Motions to Dismiss, finding that the Plaintiffs failed in the Second
Amended Complaint to sustain a cause of action for securities fraud under
ss.10(b) of the Exchange Act and Rule 10b-5 of the SEC against Dr. Maglich and
for claims that we filed false and misleading financial statements and executed
suspicious stock sales. On November 14, 2005, the Court held a scheduling
conference at which the Plaintiff informed us that it would not file a Third
Amended Complaint. In accordance with the Scheduling Order from the Court, class
representative motions are to be filed within 90 to 120 days and pre-trial
conference has been scheduled for September 11, 2007. Our counsel will respond
to any motions with appropriate challenges to its legal sufficiency to state a
claim upon which relief may be granted. As of date, the costs to defend the
class action have been substantial and it is unable to predict an exact amount,
or even a meaningful estimate, of the aggregate costs that may be incurred, at
this time.
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In April 2005, a claim was filed against us with the 101st Judicial District
Court, Dallas County, Texas by Data Discovery Inc. ("DDI") (Civil Action No.
3-05-CV-0949-M). DDI, representing one party of a dissolved partnership, is
seeking the collection of $107,300 allegedly owed to the partnership for
services purported to have been fully-provided to us. We engaged local counsel
and filed on May 10, 2005, a Notice of Removal to move the case to federal
court, and a Motion for Dismissal. In July 2005, the District Court delivered a
Memorandum Opinion and Order granting our Motion for Dismissal and ordered that
within twenty days DDI amend its suit to the satisfaction of the District Court,
or the order will become a dismissal with prejudice, which would bar DDI from
filing any other suit against us related to the matters within its claim. In
August 2005, DDI filed a new lawsuit on behalf of the partnership which is
expected to go before the Court following an appropriate period for discovery.
Our counsel will respond to the allegations in any further pleading with
appropriate challenges to its legal sufficiency to state a claim upon which
relief may be granted. The costs of defending against the Complaint could be
substantial; however we are unable to predict an exact amount, or even a
meaningful estimate, at this time.
In October 2005, a claim was filed against us with the Supreme Court of the
County of New York, New York by HWH Enterprises ("HWH") (Civil Action No. (Index
No. 603438/05). HWH is seeking collection of $101,621.18 allegedly owed to it
for public relations services purported to have been provided to us during the
prior fiscal year. We have engaged local counsel and intend to defend ourselves
and our counsel will respond with appropriate challenges. As of this date, the
Company and its legal counsel have made no other determination as to the merits
of, or possible defenses to, the claim, and are unable to predict a meaningful
estimate of the costs of defending against the claim at this time.
In November 2005, a claim was filed against the Company with the District Court
of Orange County, California by SBI-USA ("SBI"). SBI is seeking collection of a
fee in the amount $50,000 allegedly owed to it for financial advisory services
purported to have been provided to the Company during the fiscal year ended
2003. The Company is in the process of engaging local counsel and intends to
defend itself and will respond with appropriate challenges. As of this date, the
Company and its legal counsel have made no other determination as to the merits
of, or possible defenses to, the claim, and are unable to predict a meaningful
estimate of the costs of defending against the claim at this time.
In December 2005, a claim was filed against the Company with the County Court of
Dallas County by Lockwood Greene Engineers Inc. ("LGE") (Cause No.
cc-05-12059-b). LGE is seeking collection of a fee in the amount of $35,039
allegedly owed to it for engineering and construction services purported to have
been provided to the Company during the fiscal year ended 2005. The Company is
in the process of engaging local counsel and intends to defend itself and
counsel will respond with appropriate challenges. As of this date, the Company
and its legal counsel have made no other determination as to the merits of, or
possible defenses to, the claim, and are unable to predict a meaningful estimate
of the costs of defending against the claim at this time.
POTENTIAL LEGAL ACTIONS
In December 2005, we received a letter from EADS North America, Inc. ("EADS")
alleging that we breached a lease agreement between us and EADS, dated April 29,
2004 (the "Lease"). Pursuant to the terms of the Lease, EADS was to deliver ten
neutron generators on a fixed schedule agreed upon by both parties. We received
four of the ten neutron generators with significant delays due to production and
support issues and ceased payments pending resolution. Prior to the end of the
Lease, we returned the four generators that we had received due to
non-performance by EADS and sought termination of the contract. The letter from
EADS alleges that we failed to meet our payment obligations, demands early
termination payments, cancellation of discounts and other charges unrecognized
by us, and threatens litigation in the event we fail to cure immediately. We
have fully reserved $239,017 for lease payments in accordance with terms of the
lease while we attempt to resolve the matter. As of this date, no legal action
has been filed by either party and we intend to defend ourselves against any
legal proceeding that may be brought by EADS on the basis indicated in this
letter. We are unable to predict a meaningful estimate of the costs of defending
ourselves against any possible legal action, should one be filed in the future.
We currently source neutron generators from other trusted vendors and our
ability to manufacture our products has not been materially impacted by this
dispute.
On January 24, 2006, personal legal counsel for our Chairman, Dr. Bogdan
Maglich, submitted a memorandum to our Board of Directors alleging that, despite
our payment to Dr. Maglich of salary, bonuses, expenses and other benefits, some
of the provisions of his employment agreement had not been implemented,
resulting in an adverse financial impact to Dr. Maglich personally. Dr.
Maglich's legal counsel proposed to settle this claim for (i) cash or a demand
note in the amount of $66,569, (ii) $188,271 worth of common stock registered
for sale, and (iii) $232,785 of restricted common stock. On January 25, 2006,
Dr. Maglich's personal legal counsel met with the Board during which meeting it
was agreed that Dr. Maglich and the company would attempt to settle the claims.
On February 9, 2006, Dr. Maglich's personal legal counsel sent a letter to the
Board stating that the failure to accede to Dr. Maglich's demands and provide
him with certain other requested benefits, could be viewed as a constructive
termination and entitle Dr. Maglich to two years severance pay pursuant to his
employment agreement and "result in other significant effects on the Company."
Additionally, on February 17, 2006, Dr. Maglich's legal counsel stated to the
Board that his suspension as Chairman and from his other executive duties could
constitute a constructive termination.
Our management has completed a preliminary evaluation of Dr. Maglich's claims,
and does not believe that we owe him the amount of additional compensation and
benefits that he has demanded. We have retained a special litigation firm expert
in these matters to represent our interests and intend to vigorously contest Dr.
Maglich's allegations. The costs of defending any legal action that might
possibly be brought against us by Dr. Maglich could be substantial; however we
are unable to predict an exact amount, or even a meaningful estimate, at this
time.
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ITEM 2. CHANGES IN SECURITIES
SET FORTH BELOW IS INFORMATION REGARDING THE ISSUANCE AND SALE OF UNREGISTERED
SECURITIES IN THE QUARTER ENDED JANUARY 31, 2006.
o In January 2006, we issued or committed to issue 12,132 shares of our
common stock, par value $0.001 ("Shares") and warrants to purchase
204,381 Shares at various exercise prices between $0.45 and $1.75, to
various holders of securities with registration rights as a penalty, due
to our inability to file and maintain effective a registration statement
within certain specified deadlines. We believe the issuances of these
securities are exempt under Regulation D and/or Section 4(2) of the
Securities Act.
o In January 2006, we issued or committed to issue 100,000 Shares to the
independent members of our Board of Directors, as compensation for
meeting attendance, each board member receiving 10,000 shares per
meeting. We believe the issuances of these securities are exempt under
Section 4(2) of the Securities Act.
o In January 2006, we issued or committed to issue 4,735,501 Shares in
exchange for $670,245 upon the exercise of warrants by accredited
investors. We believe the issuances of these securities are exempt from
registration pursuant to Sections 4(2) and 3(a)(9) of the Securities Act
of 1933, as amended, and/or Regulation D Act.
o In January 2006, we issued 35,000 Shares previously committed in the
prior year period, to a holder of securities with registration rights as
a penalty, due to our inability to file and maintain effective a
registration statement within certain specified deadlines. We believe
the issuances of these securities are exempt under Section Regulation D
and/or Section 4(2) of the Securities Act.
o In December 2005, we issued or committed to issue 36,132 Shares and
warrants to purchase 200,456 Shares at various exercise prices between
$0.45 and $1.75, to various holders of securities with registration
rights as a penalty, due to our inability to file and maintain effective
a registration statement within certain specified deadlines. We believe
the issuances of these securities are exempt under Regulation D and/or
Section 4(2) of the Securities Act.
o In December 2005, we issued or committed to issue 25,000 Shares to the
independent members of our Board of Directors, as compensation for
meeting attendance, each board member receiving 5,000 shares per
meeting. We believe the issuances of these securities are exempt under
Section 4(2) of the Securities Act.
o In December 2005, we issued or committed to issue 6,106,719 Shares in
exchange for $816,882 upon the exercise of warrants by accredited
investors. We believe the issuances of these securities are exempt under
Regulation D and/or Section 4(2) of the Securities Act.
o In December 2005, we issued 150,741 Shares previously committed in the
prior year period, to various holders of securities with registration
rights as a penalty, due to our inability to file and maintain effective
a registration statement within certain specified deadlines. We believe
the issuances of these securities are exempt under Section Regulation D
and/or Section 4(2) of the Securities Act.
o In November 2005, we issued $100,000 of convertible notes payable and
warrants to purchase 50,000 Shares at $0.75 per shares in exchange for
$100,000 in cash to an accredited investor, which was subsequently
redeemed in December 2005. We believe the issuances of these securities
are exempt under Regulation D and/or Section 4(2) of the Securities Act.
o In November 2005, we issued $200,000 of convertible notes payable and
warrants to purchase 160,000 Shares at $0.80 per shares in exchange for
$200,000 in cash to various accredited investors. We believe the
issuances of these securities are exempt under Regulation D and/or
Section 4(2) of the Securities Act.
o In November 2005, we issued or committed to issue 98,780 shares of our
common stock, par value $0.001 ("Shares") and warrants to purchase
361,558 Shares at various exercise prices between $0.45 and $1.75, to
various holders of securities with registration rights as a penalty, due
to our inability to file and maintain effective a registration statement
within certain specified deadlines. We believe the issuances of these
securities are exempt under Regulation D and/or Section 4(2) of the
Securities Act.
o In November 2005, we issued 10,685 Shares previously committed in the
prior year period, to various holders of securities with registration
rights as a penalty, due to our inability to file and maintain effective
a registration statement within certain specified deadlines. We believe
the issuances of these securities are exempt under Regulation D and/or
Section 4(2) of the Securities Act.
77
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS OT A VOTE OF SECURITES HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
78
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A). EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
- -------------- -----------
ITEM 6. EXHIBITS
EXHIBIT INDEX
EXHIBIT DESCRIPTION
NUMBER
2.1 (1) Voluntary Share Exchange Agreement by and between HiEnergy
Technologies, Inc. and HiEnergy Microdevices, Inc. dated
March 22, 2002
2.2 (5) Agreement and Plan of Merger dated October 18, 2002 by and
between the Registrant and its wholly owned subsidiary,
HiEnergy Technologies, Inc., a Delaware corporation
3.1 (5) Certificate of Incorporation of HiEnergy Technologies, Inc.,
a Delaware corporation, filed on October 17, 2002
3.2 (5) Bylaws of HiEnergy Technologies, Inc., a Delaware
corporation, adopted on October 18, 2002
3.3 (10) Certificate of Elimination of Series A Convertible Preferred
Stock
4.1.1 (5) Specimen Common Stock Certificate
4.2 (1) Form of Registration Rights Agreement between the Registrant
and each April 2002 Private Placement Common Stock Investor.
See also Exhibit 10.55 Form of Subscription Agreement
between the Registrant and each April 2002 Private Placement
Common Stock investor.
4.3 (1) Form of Amendment No. 1 to Registration Rights Agreement
between the Registrant and each April 2002 Private Placement
Common Stock Investor
4.4 (3) Warrant Certificate issued to Rheal Cote by HiEnergy
Technologies, Inc. dated June 3, 2002
4.4.1 (5) Form of Registration Rights Agreement between the Registrant
and each June 2002 Private Placement Common Stock investor.
See also Exhibit 10.24 Form of Subscription Agreement
between the Registrant and each June 2002 Private Placement
Common Stock investor.
4.5 (5) Registration Rights Agreement dated July 12, 2002 between
the Registrant and Isaac Yeffet
4.6 (5) Registration Rights Agreement dated August 19, 2002 between
the Registrant and Primoris Group Inc.
4.7 (5) Registration Rights Agreement dated October 7, 2002 between
the Registrant and Series A Convertible Preferred Stock
Investors.
4.8 (5) Form of Warrant Certificate dated October 7, 2002 issued by
the Registrant to each Series A Convertible Preferred Stock
investor
4.9 (5) Form of Registration Rights Agreement between the Registrant
and each October 2002 Private Placement Common Stock
Investor
4.10 (5) Form of Warrant Certificate issued by the Registrant to each
October 2002 Private Placement Common Stock investor
4.11 (35) HiEnergy Technologies, Inc. Special Warrant Offer dated
December 13, 2005
10.1 (5) Lease Agreement dated August 15, 2002 between the Registrant
and Del Mar Avionics
10.1.1 (10) Addendum to Original Lease Agreement dated August 15, 2002,
between the Registrant and Del Mar Avionics dated July 1,
2003
10.1.2 (16) Addendum No. 2 to Original Lease Agreement dated August 15,
2002, between the Registrant and Del Mar Avionics dated
January 1, 2004.
10.1.3 (16) Addendum No. 3 to Original Lease Agreement dated August 15,
2002, between the Registrant and Del Mar Avionics dated
January 20, 2004.
10.3 (4) Stock Option Agreement between Isaac Yeffet and HiEnergy
Technologies, Inc. dated July 12, 2002
10.4 (4) Letter Agreement between H.C. Wainwright & Co., Inc. and
HiEnergy Technologies, Inc. dated August 8, 2002
10.4.1 (3) Award Contract between HiEnergy Microdevices, Inc. and the
U.S. Department of Defense dated February 12, 2002
10.5 (3) Employment Agreement between HiEnergy Microdevices, Inc. and
Dr. Bogdan C. Maglich dated March 6, 2002*
10.6 (3) Assignment and Assumption of Employment Agreement between
HiEnergy Technologies, Inc., HiEnergy Microdevices, Inc. and
Dr. Bogdan C. Maglich dated July 16, 2002*
79
10.7 (3) Stock Option Agreement between Dr. Bogdan C. Maglich and
HiEnergy Technologies, Inc. effective April 24, 2002*
10.8 (3) Consulting Agreement between Yeffet Security Consultant,
Inc. and HiEnergy Technologies, Inc. dated July 12, 2002
10.9 (5) Amended and Restated Nonqualified Stock Option dated July
12, 2002 issued by the Registrant to Isaac Yeffet
10.11 (5) Consulting Agreement dated August 1, 2002 between the
Registrant and Primoris Group Inc.
10.12 (5) Amendment No. 1 to the Consulting Agreement dated August 19,
2002 between the Registrant and Primoris Group Inc.
10.13 (5) Nonqualified Stock Option (Warrant) dated August 1, 2002
issued by the Registrant to Primoris Group Inc.
10.15 (5) Letter Employment Agreement dated February 26, 2002 between
HiEnergy Microdevices, Inc. and Michal Levy*
10.16 (5) Assignment, Assumption and Amendment of Employment Agreement
dated September 17, 2002 by and among the Registrant,
HiEnergy Microdevices, Inc. and Michal Levy*
10.17 (5) Nonqualified Stock Option dated September 17, 2002 issued by
the Registrant to Michal Levy*
10.17.1 (6) Form of Warrant Certificate dated August 11, 2002 issued by
the Registrant to H.C. Wainwright & Co., Inc. and Assigns
10.18 (5) Nonqualified Stock Option dated September 25, 2002
issued by the Registrant to Chapin E. Wilson
10.18 (6) Form of Warrant Certificate dated October 7, 2002 issued by
the Registrant to H.C. Wainwright &Co., Inc.
10.19 (6) Form of Warrant Certificate dated October 31, 2002 issued by
the Registrant to H.C. Wainwright &Co., Inc.
10.19 (5) Nonqualified Stock Option dated September 25, 2002 issued by
the Registrant to Derek W. Woolston
10.20 (5) Employment Agreement dated September 25, 2002 between the
Registrant and Tom Pascoe*
10.21 (5) Nonqualified Stock Option effective September 25, 2002
issued by the Registrant to Tom Pascoe*
10.22 (16) Series A Convertible Preferred Stock Purchase Agreement
dated October 7, 2002 between the Registrant and the Series
A Convertible Preferred Stock investors.
10.23 (16) Consulting Agreement dated September 25, 2002 between the
Registrant and Barry Alter*
10.24 (5) Form of Subscription Agreement between the Registrant and
each June 2002 Private Placement Common Stock investor. See
also Exhibit 4.4.1 Form of Registration Rights Agreement
between the Registrant and each June 2002 Private Placement
Common Stock investor.
10.25 (5) Form of Subscription Agreement between the Registrant and
each October 2002 Private Placement Common Stock investor.
10.26 (7) Warrant Certificate dated December 9, 2002 issued by the
Registrant to Wolfe Axelrod Weinberger Associates LLC.
10.29 (16) Termination Agreement dated November 27, 2002 between
HiEnergy Technologies, Inc. and H.C. Wainwright & Co., Inc.
10.30 (7) Termination Agreement dated December 2, 2002 between
HiEnergy Technologies, Inc. and Wolfe Axelrod Weinberger
Associates LLC.
10.31 (7) Form of Warrant Certificate dated December 9, 2002 issued by
the Registrant to H.C. Wainwright & Co., Inc. and Assigns.
10.32 (16) Placement Agent Agreement dated December 16, 2002 between
HiEnergy Technologies, Inc. and Seabury Transportation
Advisors LLC.
10.32.1 (10) Letter dated July 2003 terminating agreement with Seabury
Transportation Advisors, LLC.
10.33 (7) Nonqualified Stock Option dated December 19, 2002 issued by
HiEnergy Technologies, Inc. to Chapin E. Wilson.
10.34 (7) Nonqualified Stock Option dated December 19, 2002 issued by
HiEnergy Technologies, Inc. to Derek W. Woolston.
10.35 (7) Settlement Agreement dated January 15, 2003 between HiEnergy
Technologies, Inc. and Keith Cowan.
80
10.36 (7) Settlement Agreement dated February 14, 2003 among HiEnergy
Technologies, Inc., Columbus Group/cFour Partners, Robert W.
Bellano and Shaun Corrales. See also Exhibit 10.37 Form of
Warrant Certificate dated February 17, 2003 between HiEnergy
Technologies, Inc. and the principals of Columbus
Group/cFour Partners.
10.37 (7) Form of Warrant Certificate dated February 17, 2003 between
HiEnergy Technologies, Inc. and the principals of Columbus
Group/cFour Partners. See also Exhibit 10.36 Settlement
Agreement dated February 14, 2003 among HiEnergy
Technologies, Inc., Columbus Group/cFour Partners, Robert W.
Bellano and Shaun Corrales.
10.38 (16) Award Contract dated January 15, 2003 by the U.S. Department
of Defense to HiEnergy Technologies, Inc.
10.39 (8) Letter Agreement dated November 18, 2002 between HiEnergy
Technologies, Inc. and HWH Enterprises, Inc.
10.40.1 (9) Client Fee Agreement between HiEnergy Technologies and
Yocca, Patch & Yocca, LLP
10.40.2 (9) Form of Promissory Note between HiEnergy Technologies, Inc.
and Yocca, Patch & Yocca, LLP
10.40.3 (12) Amendment of the Promissory Note issued to Yocca, Patch &
Yocca, LLP
10.41 (9) Jenkins Capital Management LLC Private Placement Agreement
dated April 22, 2003
10.42 (9) Vertical Ventures Investments LLC Stock Purchase Agreement
dated April 23, 2003. See also Exhibit 10.72 Form of Escrow
Agreement.
10.43 (9) Greenwich Growth Fund Limited Stock Purchase Agreement dated
April 28, 2003. See also Exhibit 10.72 Form of Escrow
Agreement.
10.44 (9) Consulting Agreement dated April 15, 2003, between HiEnergy
Technologies, Inc. and Charles Van Musscher
10.45 (9) Letter Agreement between HiEnergy Technologies, Inc. and
Roth Investor Relations
10.46 (9) Stock Option Agreement between Bogdan C. Maglich and
HiEnergy Technologies, Inc. dated February 11, 2003*
10.47 (10) HiEnergy Technologies, Inc. 2003 Stock Option Plan*
10.48 (10) HiEnergy Technologies, Inc. Form of Stock Option Agreement*
10.49 (10) Yocca, Patch & Yocca, LLP Stock Purchase Agreement dated
June 16, 2003
10.50 (10) Richard Melnick Stock Purchase Agreement dated June 18,
2003. See also Exhibit 10.72 Form of Escrow Agreement.
10.51 (10) Jeffrey Herman Stock Purchase Agreement dated June 23, 2003.
See also Exhibit 10.72 Form of Escrow Agreement.
10.52 (10) Form of Stock Purchase Agreement dated August 5-29, 2003
between HiEnergy Technologies, Inc. and the purchasers of
common stock and warrants. See also Exhibit 10.72 Form of
Escrow Agreement.
10.53 (10) Form of Warrant Certificate dated August 8-29, 2003 between
HiEnergy Technologies, Inc. and the purchasers of common
stock and warrants
10.53.1 (13) Form of Amendment of Warrant dated December 15, 2003 between
HiEnergy Technologies, Inc. and the purchasers of common
stock and warrants
10.54 (10) International Distribution Agreement between the Registrant
and Electronic Equipment Marketing Company (EEMCO) dated
July 25, 2003
10.55 (10) Form of Subscription Agreement between the Registrant and
each April 2002 Private Placement Common Stock investor. See
also Exhibit 4.2 Form of Registration Rights Agreement
between the Registrant and each April 2002 Private Placement
Common Stock investor.
10.56 (16) Form of Amendment No. 1 to Subscription Agreement between
the Registrant and each April 2002 Private Placement Common
Stock investor
10.57 (11) Memorandum of Understanding between HiEnergy Technologies,
Inc. and Aeropuertos Espanoles y Navegacion Aerea, Edificio
La Piovera - Peonias dated October 6, 2003
10.58 (12) Form of Stock Purchase Agreement dated October 15 - December
2, 2003 between HiEnergy Technologies, Inc. and the
purchasers of common stock and warrants. See also Exhibit
10.72 Form of Escrow Agreement.
10.59 (12) Form of Warrant Agreement dated October 28 - December 2,
2003 between HiEnergy Technologies, Inc. and the purchasers
of common stock and warrants.
10.60 (16) Letter Agreement between SBI - USA LLC and HiEnergy
Technologies, Inc. dated August 1, 2003
10.61 (14) Promissory Note issued to Bogdan Maglich by HiEnergy
Technologies, Inc.
10.62 (14) Note Purchase Agreement dated January 16, 2004 between
HiEnergy Technologies, Inc. and Platinum Partners Value Fund
LP, with attached Form of Convertible Note and Warrant
81
10.63 (14) Note Purchase Agreement dated January 31, 2004 between
HiEnergy Technologies, Inc. and Richard Melnick with
attached Form of Convertible Note and Warrant
10.64 (14) Stock Purchase Agreement dated February 9, 2004 between
HiEnergy Technologies, Inc. and Bullbear Capital Partners,
LLC with attached Form of Warrant
10.65 (14) Letter Agreement between KCSA Public Relations Worldwide and
HiEnergy Technologies, Inc. dated January 6, 2003
10.66 (14) Assignment of Patent Rights by Dr. Bogdan C. Maglich to
HiEnergy Microdevices, Inc. dated March 26, 2002.
10.66.1 (14) Assignment of Patent Rights from HiEnergy Microdevices, Inc.
to HiEnergy Technologies, Inc. dated November 17, 2003.
10.67 (14) Assignment of Patent Rights by Dr. Bogdan C. Maglich to
HiEnergy Technologies, Inc. dated November 17, 2003
10.68 (14) Employment Agreement between HiEnergy Technologies, Inc. and
Ioana C. Nicodin dated February 3, 2004
10.69 (14) Note Purchase Agreement dated January 28, 2004 between
HiEnergy Technologies, Inc. and Nicholas J. Yocca with
attached Form of Convertible Note and Warrant
10.70 (15) Form of Consent and Waiver from April 2003 purchasers of
common stock.
10.71 (15) Form of Release from June 2003 purchasers of common stock.
10.72 (16) Form of Escrow Agreement utilized in connection with the
Stock Purchase Agreements filed as Exhibits 10.50, 10.51,
10.52 and 10.58.
10.73 (19) Employment Letter dated April 12, 2004 between Sean Moore
and HiEnergy Technologies, Inc.
10.74 (19) Proposal for Detailed Concept Design Services dated June 7,
2004 between Lockwood Greene Engineering & Construction and
HiEnergy Technologies, Inc.
10.75 (19) Employment letter dated July 26, 2004 between Jim Hertzog
and HiEnergy Technologies, Inc.
10.76 (19) Engagement Agreement dated July 27, 2004 between Pacific
Summit Securities and HiEnergy Technologies, Inc.
10.77 (19) Teaming Agreement dated August 4, 2004 between HiEnergy
Technologies, Inc. and Siemens Maintenance Services, LLC
10.78 (20) Consulting Agreement dated July 22, 2004 between Greg Henkel
and HiEnergy Technologies, Inc.
10.79 (21) Form of Stock Purchase Agreement and Warrant dated October
18, 2004 - December 15, 2004 issued in connection with the
sale of restricted shares to various accredited investors
and HiEnergy Technologies, Inc.
10.80 (21) Form of Debt Conversion Agreement and Warrant between
Maglich Family Holdings and HiEnergy Technologies, dated
November 19, 2004
10.81 (24) Amendment to Share Purchase Agreement dated January 24, 2005
between HiEnergy Technologies, Inc. and Bull Bear Capital
Partners, LLC
10.82 (23) Employment letter dated November 22, 2004 between Roger
Spillmann and HiEnergy Technologies, Inc.
10.83 (22) Consulting Agreement dated November 22, 2004 between Don
Abbe and HiEnergy Technologies, Inc.
10.84 (25) Proposal for Preliminary Manufacturing Facility Assessment
Consulting Services dated April 13, 2004 between HiEnergy
Technologies, Inc. and Lockwood Greene Engineering &
Construction (filed in its entirety)
10.85 (25) Promissory Note dated January 15, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.86 (25) Promissory Note dated January 15, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.87 (25) Promissory Note dated January 15, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.88 (25) Promissory Note dated March 15, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.89 (25) Promissory Note dated April 5, 2004 issued to Bogdan Maglich
by HiEnergy Technologies, Inc.
10.90 (25) Promissory Note dated April 15, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.91 (25) Promissory Note dated April 29, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.92 (25) Promissory Note dated August 3, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.93 (25) Promissory Note dated August 4, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.94 (25) Promissory Note dated August 10, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.95 (25) Promissory Note dated August 18, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.96 (25) Promissory Note dated August 25, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
10.97 (25) Promissory Note dated August 30, 2004 issued to Bogdan
Maglich by HiEnergy Technologies, Inc.
82
10.98 (25) Proposal for Detailed Concept Design Services between
HiEnergy Technologies, Inc. and Lockwood Greene Engineering
& Construction dated June 7, 2004
10.99 (25) Consulting Agreement between HiEnergy Technologies, Inc. and
Greg Henkel dated July 22, 2004
10.100 (25) Consulting Agreement between HiEnergy Technologies, Inc. and
Jim Hertzog dated July 26, 2004
10.101 (25) Engagement letter between HiEnergy Technologies, Inc. and
Pacific Summit Securities dated July 27, 2004
10.102 (25) Employment letter dated April 12, 2004 between Sean Moore
and HiEnergy Technologies, Inc.
10.103 (25) Teaming Agreement between HiEnergy Technologies, Inc. and
Siemens Maintenance Services, LLC dated August 4, 2004
10.104 (25) Retention Agreement between HiEnergy Technologies, Inc. and
Pellettieri, Rabstein and Altman dated November 11, 2004
10.105 (25) Retention Agreement between HiEnergy Technologies, Inc. and
Feldhake Roquemore LLP dated January 12, 2005
10.106 (26) Form of Stock Purchase Agreement dated March 22, 2005 and
issued in connection with the sale of restricted shares to
various accredited investors and HiEnergy Technologies, Inc.
10.107 (26) Form of Warrant to Purchase Shares of Common Stock of
HiEnergy Technologies, Inc. dated March 22, 2005 and issued
in connection with the sale of restricted shares to various
accredited investors
10.108 (26) Form of Stock Purchase Agreement dated April 2005 and issued
in connection with the sale of restricted shares to various
accredited investors and HiEnergy Technologies, Inc.
10.109 (26) Form of Warrant to Purchase Shares of Common Stock of
HiEnergy Technologies, Inc. dated April 2005 and issued in
connection with the sale of restricted shares to various
accredited investors.
10.110 (26) Form of Stock Purchase Agreement for the period from May 16,
2005 through July 12, 2005 and issued in connection with the
sale of restricted shares to various accredited investors.
10.111 (26) Form of Warrant to Purchase Shares of Common Stock of
HiEnergy Technologies, Inc. for the period from May 16, 2005
through July 12, 2005 and issued in connection with the sale
of restricted shares to various accredited investors.
10.112 (26) Form of Debt Conversion Agreement between Nicholas J. Yocca
and HiEnergy Technologies, Inc., dated May 13, 2005.
10.113 (26) Debt Conversion Agreement between David R. Baker and
HiEnergy Technologies, Inc., dated July 15, 2005, and form
of detachable warrant.
10.114 (26) Debt Conversion Agreement between Baker, Johnston & Wilson
LLP and HiEnergy Technologies, Inc., dated July 15, 2005,
and form of detachable warrant.
10.115 (26) Agreement between Mason, Griffin & Pierson and HiEnergy
Technologies, Inc., dated April 29, 2005.
10.116 (26) Subcontract Agreement between Siemens Maintenance Services
LLC and HiEnergy Technologies, Inc., dated April 15, 2005
10.117 (26) Agreement between Vintage Filings, LLC and HiEnergy
Technologies, Inc., dated May 1, 2005.
10.118 (26) Engagement Letter between Henry S. Sprintz and HiEnergy
Technologies, dated June 20, 2005.
10.119 (26) Employment Agreement between Gregory C. Henkel, Controller,
and HiEnergy Technologies, Inc., dated March 1, 2005.
10.120 (26) Equipment Sales Agreement between Southeastern Pennsylvania
Transportation Authority and HiEnergy Technologies, Inc.,
dated June 6, 2005.
10.121 (26) Time and Material Subcontract between Integrated Concepts &
Research Corporation and HiEnergy Technologies, dated July
18, 2005.
10.122 (26) International Distribution Agreement between Electronic
Equipment Marketing Company (EEMCO) and HiEnergy
Technologies, dated July 25, 2003
10.123 (27) Form of Stock Purchase Agreement dated July 26, 2005 and
issued in connection with the sale of restricted shares to
various accredited investors.
10.124 (27) Form of Warrant to Purchase Shares of Common Stock of
HiEnergy Technologies, Inc. dated July 26, 2005 and issued
in connection with the sale of restricted shares to various
accredited investors.
10.125 (29) Engagement Letter between Vladimir Stanich and HiEnergy
Technologies, dated September 9, 2005.
83
10.126 (29) Independent Contractor Agreement between Metaskill, Inc. and
HiEnergy Technologies, dated September 15, 2005.
10.127 (32) Form of Senior Convertible Bridge Note and Warrant issued in
connection with the sale of restricted shares to various
accredited investors.
10.128 (34) Secured Convertible Promissory Note issued to First Regional
Bank, CFBO Bruce Steinberg Roth IRA dated November 18, 2005.
10.129 (34) Warrant to Purchase Shares of Common Stock of HiEnergy
Technologies, Inc. dated November 18, 2005 issued to Bruce
Steinberg Roth IRA.
10.130 (34) Assignment of Accounts Receivable issued by HiEnergy
Technologies, Inc. to First Regional Bank, CFBO Bruce
Steinberg Roth IRA dated November 18, 2005.
10.131 (34) Memorandum of Understanding between Williams-Sterling, Inc.
and HiEnergy Technologies dated November 16, 2005.
10.132 (34) Reseller Agreement between GTSI Corp. and HiEnergy
Technologies, Inc. dated November 18, 2005.
10.133 + (34) Cooperative Agreement between Transportation Security
Administration and HiEnergy Technologies, Inc. dated
September 27, 2004
10.134 (34) Addendum No. 4 to Original Lease Agreement dated August 15,
2002, between the Registrant and Del Mar Avionics dated
October 14, 2005
10.135 (34) Placement Agent Agreement between Burnham Hill Partners and
HiEnergy Technologies, Inc. dated September 26, 2005.
10.136* International Distribution Agreement between HiEnergy
Technologies, Inc. and Electronic Equipment Marketing
Company (EEMCO) dated July 25, 2003, as amended on August
27, 2003.
10.137* Award Contract between HiEnergy Microdevices, Inc. and the
U.S. Department of Defense dated February 12, 2002 (filed in
its entirety)
10.138* Assignment of Patent Rights by Dr. Bogdan C. Maglich to
HiEnergy Microdevices, Inc. dated March 26, 2002 (filed in
its entirety).
10.139* Assignment of Patent Rights by Dr. Bogdan C. Maglich to
HiEnergy Technologies, Inc. dated November 17, 2003 (filed
in its entirety)
10.140* Form of Convertible Promissory Note issued to Yocca, Patch &
Yocca, LLP and/or Nicholas J. Yocca
10.141* Form of Promissory Note issued to Maglich Family Holdings,
Inc.
10.142* Debt Conversion Agreement with form of Warrant to purchase
shares of common stock of HiEnergy Technologies, Inc. dated
October 27, 2004 between HiEnergy Technologies, Inc. and
Maglich Family Holdings, Inc.
10.143* Assignment of Patent Rights by Dr. Bogdan C. Maglich to
HiEnergy Technologies, Inc. dated November 17, 2003 (filed
in its entirety)
10.144* Assignment of Patent Rights by Dr. Kevin Mckinny to HiEnergy
Technologies, Inc. dated November 17, 2003 (filed in its
entirety)
10.145* Teaming Agreement between HiEnergy Technologies, Inc. and
Williams-Sterling, Inc. dated effective January 30, 2006
10.146* Reseller Agreement between HiEnergy Technologies, Inc. and
Williams-Sterling, Inc. dated effective January 30, 2006
10.147* Joint Marketing Agreement between HiEnergy Technologies,
Inc. and Laseroptronix, AB dated January 15, 2006
10.148* Engagement Letter between HiEnergy Technologies, Inc. and
Dr. Vladivoj Valkovic dated February 16, 2006
10.149* Independent Contractor Agreement between HiEnergy
Technologies, Inc. and Radiation Safety Academy dated
February 8, 2006
14.1 (9) Code of Ethics for Senior Financial Officers of HiEnergy
Technologies, Inc.
16.1 (1) Letter of Manning Elliott
21.1 (9) List of Subsidiaries
21.2 (26) List of Subsidiaries
31.1* Certification of Chief Executive Officer and Treasurer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of Chief Executive Officer and Treasurer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
84
+ Portions of this exhibit have been omitted pursuant to an Application
for Confidential Treatment filed by the Company with the Securities and
Exchange Commission pursuant to the Rules of the Exchange Act.
* Filed herewith
(1) Filed on May 10, 2002 as an exhibit to HiEnergy Technologies' report on
Form 8-K dated April 25, 2002 and incorporated herein by reference.
(2) Filed on June 2, 2000 as an exhibit to HiEnergy Technologies'
registration statement on Form SB-2 (File No. 333-38536) and
incorporated herein by reference.
(3) Filed on July 29, 2002 as an exhibit to HiEnergy Technologies' annual
report on Form 10-KSB for the fiscal year ended April 30, 2002, and
incorporated herein by reference.
(4) Filed on September 20, 2002 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the fiscal quarter ended October
31, 2002, and incorporated herein by reference.
(5) Filed on November 6, 2002 as an exhibit to HiEnergy Technologies'
registration statement on Form SB-2 and incorporated herein by
reference.
(6) Filed on December 16, 2002 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the fiscal quarter ended October
31, 2002, and incorporated herein by reference.
(7) Filed on February 25, 2003 as an exhibit to HiEnergy Technologies'
registration statement on Form SB-2/A (File No. 333-101055) and
incorporated herein by reference.
(8) Filed on March 24, 2003 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the fiscal quarter ended January
31, 2003, and incorporated herein by reference.
(9) Filed on August 8, 2003 as an exhibit to HiEnergy Technologies' annual
report on Form 10-KSB for the fiscal year ended April 30, 2003, and
incorporated herein by reference.
(10) Filed on September 19, 2003 as an exhibit to HiEnergy Technologies'
registration statement on Form SB-2 (File No. 333-108934) and
incorporated herein by reference.
(11) Filed on October 8, 2003 as an exhibit to HiEnergy Technologies' report
on Form 8-K dated October 7, 2003 and incorporated herein by reference.
(12) Filed on December 16, 2003 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the fiscal quarter ended January
31, 2004, and incorporated herein by reference.
(13) Filed on December 24, 2003 as an exhibit to Pre-Effective Amendment No.
1 to HiEnergy Technologies' registration statement on Form SB-2 (File
No. 333-108934) and incorporated herein by reference.
(14) Filed on February 25, 2004 as a like numbered exhibit to HiEnergy
Technologies' current report on Form 8-K dated February 24, 2004 and
incorporated herein by reference.
(15) Filed on March 25, 2004 as an exhibit to HiEnergy Technologies'
Pre-Effective Amendment No 2 registration statement on Form SB-2 (File
No. 333-108934) and incorporated herein by reference.
(16) Filed on April 12, 2004 as a like numbered exhibit to HiEnergy
Technologies' current report on Form 8-K/A dated April 9, 2004 and
incorporated herein by reference.
85
(17) Filed on May 17, 2004 as a like numbered exhibit to HiEnergy
Technologies' current report on Form 8-K dated May 17, 2004 and
incorporated herein by reference.
(19) Filed on May 21, 2004 as a like numbered exhibit to HiEnergy
Technologies' current report on Form 8-K dated May 21, 2004 and
incorporated herein by reference.
(20) Filed on September 14, 2004 as a like numbered exhibit to HiEnergy
Technologies' annual report on Form 10-KSB for the fiscal year ended
April 30, 2004 and incorporated herein by reference.
(21) Filed on October 20, 2004 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the quarter ended October 31, 2004,
and incorporated herein by reference.
(22) Filed on November 30, 2004 as exhibit 99.1 to HiEnergy Technologies'
current report on Form 8-K dated November 30, 2004 and incorporated
herein by reference.
(23) Filed on December 17, 2004 as Exhibit 10.80 to HiEnergy Technologies'
quarterly report on Form 10-QSB for the quarter ended October 31, 2004
and incorporated herein by reference.
(24) Filed on January 11, 2005 as Exhibit 99.3 to HiEnergy Technologies'
current report on Form 8-K dated January 7, 2005 and incorporated
herein by reference.
(25) Filed on February 2, 2005 as Exhibit 10.81 to HiEnergy Technologies'
current report on Form 8-K dated January 27, 2005 and incorporated
herein by reference.
(25) Filed on March 17, 2005 as a like numbered exhibit to HiEnergy
Technologies' quarterly report on Form 10-QSB for the quarter ended
January 31, 2005 and incorporated herein by reference.
(26) Filed on July 27, 2005 as a like numbered exhibit to HiEnergy
Technologies' amendment to its annual report on Form 10-KSB for the
fiscal year ended April 30, 2004 and incorporated herein by reference.
(27) Filed on August 15, 2005 as a like numbered exhibit to HiEnergy
Technologies' annual report on Form 10-KSB for the fiscal year ended
April 30, 2005 and incorporated herein by reference.
(28) Filed on September 6, 2005 as an exhibit to HiEnergy Technologies'
report on Form 8-K dated September 2, 2005 and incorporated herein by
reference.
(29) Filed on September 19, 2005 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the quarter ended July 31, 2005 and
incorporated herein by reference.
(30) Filed on October 11, 2005 as an exhibit to HiEnergy Technologies'
report on Form 8-K dated October 11, 2005 and incorporated herein by
reference.
(31) Filed on October 24, 2005 as an exhibit to HiEnergy Technologies'
report on Form 8-K dated October 20, 2005 and incorporated herein by
reference.
(32) Filed on November 17, 2005 as an exhibit to HiEnergy Technologies'
report on Form 8-K dated November 17, 2005 and incorporated herein by
reference.
(33) Filed on November 30, 2005 as an exhibit to HiEnergy Technologies'
report on Form 8-K dated November 30, 2005 and incorporated herein by
reference.
(34) Filed on December 16, 2005 as an exhibit to HiEnergy Technologies'
quarterly report on Form 10-QSB for the quarter ended October 31, 2005
and incorporated herein by reference.
(35) Filed on January 3, 2006 as an exhibit to HiEnergy Technologies' report
on Form 8-K dated December 23, 2005 and incorporated herein by
reference.
86
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
HIENERGY TECHNOLOGIES, INC.
Date: March 22, 2006 By: /s/ Roger W.A. Spillmann
-------------- -----------------------------------
Roger W.A. Spillmann,
Chief Executive Officer, President,
and Treasurer
(Principal Executive Officer and
Principal Financial Officer)
87