SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2005 Commission file number: 0-28152
Affinity Technology Group, Inc.
(Exact name of registrant as specified in its charter)
Delaware 57-0991269
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Affinity Technology Group, Inc.
8807-A Two Notch Road
Columbia, SC 29223
(Address of principal executive offices)
(Zip code)
(803) 758-2511
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No ____
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes ____ No X
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
42,215,096 shares of Common Stock, $0.0001 par value, as of July 1, 2005.
AFFINITY TECHNOLOGY GROUP, INC. AND SUBSIDIARIES
INDEX
PAGE
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 2005 and
December 31, 2004..................................................... 3
Condensed Consolidated Statements of Operations for the three and
six months ended June 30, 2005 and 2004............................... 4
Condensed Consolidated Statements of Cash Flows for the six months
ended June 30, 2005 and 2004.......................................... 5
Notes to Condensed Consolidated Financial Statements................... 6
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations........................................... 13
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk....... 18
ITEM 4. Controls and Procedures.......................................... 18
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings................................................ 18
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds...... 19
ITEM 3. Defaults Upon Senior Securities.................................. 19
ITEM 4. Submission of Matters to a Vote of Security Holders.............. 20
ITEM 6. Exhibits......................................................... 20
Signature.................................................................. 20
Statements in this report (including Management's Discussion and Analysis
of Financial Condition and Results of Operations) that are not descriptions of
historical facts, such as statements about the Company's future prospects and
cash requirements, are forward-looking statements and are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
Actual results may vary due to risks and uncertainties, including the Company's
very limited capital resources and the possibility that it may be unable to
raise additional capital in amounts sufficient to permit it to continue
operations; the risk that the Company may lose all or part of the claims covered
by its patents as a result of existing and future challenges to its patents; the
risk that its patents may be subject to additional reexamination by the U.S.
Patent and Trademark Office or challenge by third parties; the possibility that
all or some of the holders of the convertible secured notes issued by the
Company may take action to collect the amounts outstanding under these notes;
the result of ongoing litigation; and unanticipated costs and expenses affecting
the Company's cash position. If the Company is not able to raise additional
capital, it may be forced to consider alternatives for winding down its
business, which may include offering its patents for sale or filing for
bankruptcy protection. Moreover, if any of the holders of the convertible notes
issued by the Company take action to collect the amounts owed by the Company
under these notes, the Company will be forced to consider alternatives for
winding down its business, which may include offering its patents for sale or
filing for bankruptcy protection. These and other factors discussed in the
Company's filings with the Securities and Exchange Commission, including the
information set forth under the caption "Business Risks" in Item 1 of the
Company's Annual Report on Form 10-K for the year ended December 31, 2004, may
cause actual results to differ materially from those anticipated.
2
Part I. Financial Information
Item 1. Financial Statements
Affinity Technology Group, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
June 30,
2005 December 31,
(Unaudited) 2004
-----------------------------
Assets
Current assets:
Cash and cash equivalents $ 26,429 $ 62,756
Prepaid expenses 27,796 47,235
-----------------------------
Total current assets 54,225 109,991
Property and equipment, net 7,249 11,249
-----------------------------
Total assets $ 61,474 $ 121,240
=============================
Liabilities and stockholders' deficiency
Current liabilities:
Accounts payable $ 74,401 $ 21,502
Accrued expenses 527,894 417,219
Convertible notes 1,231,336 1,181,336
Deferred revenue 5,882 14,706
-----------------------------
Total current liabilities 1,839,513 1,634,763
-----------------------------
Commitments and contingent liabilities
Stockholders' deficiency:
Common stock, par value $0.0001; authorized
60,000,000 shares, issued 44,383,104 and
44,230,910 shares at June 30, 2005 and December
31, 2004, respectively 4,438 4,423
Additional paid-in capital 70,695,797 70,665,373
Treasury Stock, at cost (2,168,008 shares at June
30, 2005 and December 31, 2004) (3,505,287) (3,505,287)
Accumulated deficit (68,972,987) (68,678,032)
-----------------------------
Total stockholders' deficiency (1,778,039) (1,513,523)
-----------------------------
Total liabilities and stockholders' deficiency $ 61,474 $ 121,240
=============================
See accompanying notes.
3
Affinity Technology Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations
(Unaudited)
Three months ended Six months ended
June 30, June 30,
2005 2004 2005 2004
--------------------------- ---------------------------
Revenues:
Patent license revenue $ 4,412 $ 4,412 $ 8,824 $ 258,824
-------------------------------------------------------
Costs and expenses:
Cost of revenues 441 441 882 63,382
General and administrative expenses 145,259 165,912 255,506 456,993
--------------------------- ---------------------------
Total cost and expenses 145,700 166,353 256,388 520,375
--------------------------- ---------------------------
Operating loss (141,288) (161,941) (247,564) (261,551)
Other income (expense):
Interest income - 493 61 1,195
Interest expense (24,042) (24,127) (47,452) (48,209)
--------------------------- ---------------------------
Net loss $ (165,330) $ (185,575) $ (294,955) $ (308,565)
=========================== ===========================
Net loss per share - basic and diluted: $ (0.00) $ (0.00) $ (0.01) $ (0.01)
=========================== ===========================
Shares used in computing net loss per share 42,215,096 41,871,628 42,187,348 41,868,056
=========================== ===========================
See accompanying notes.
4
Affinity Technology Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(Unaudited)
Six Months Ended
June 30,
2005 2004
--------------------------
Operating activities
Net loss $ (294,955) $ (308,565)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 4,000 4,187
Writedown of organizational costs - 1,147
Deferred revenue (8,824) (8,823)
Other - 3,500
Changes in current assets and liabilities:
Other current assets 19,439 (32,993)
Accounts payable and accrued expenses 169,013 37,418
--------------------------
Net cash used in operating activities (111,327) (304,129)
Investing activities
Purchases of property and equipment, net - (1,012)
--------------------------
Net cash used in investing activities - (1,012)
Financing activities
Proceeds from convertible notes 75,000 25,000
--------------------------
Net cash provided by financing activities 75,000 25,000
--------------------------
Net decrease in cash (36,327) (280,141)
Cash and cash equivalents at beginning of period 62,756 578,398
--------------------------
Cash and cash equivalents at end of period $ 26,429 $ 298,257
==========================
Supplemental cash flow information:
Income taxes paid $ - $ -
==========================
Interest paid $ - $ -
==========================
See accompanying notes.
5
Notes to Condensed Consolidated Financial Statements
1. The Company - Going Concern
Affinity Technology Group, Inc. (the "Company") was formed to develop and
market technologies that enable financial institutions and other businesses to
provide consumer financial services electronically with reduced or no human
intervention. Products and services previously offered by the Company include
its DeciSys/RT(R) loan processing system, which automated the processing and
consummation of consumer financial services transactions; the Affinity Automated
Loan Machine (the ALM), which allowed an applicant to apply for and, if
approved, obtain a loan in as little as ten minutes; the Mortgage ALM, which
allowed an applicant to apply for a mortgage loan; e-xpertLender(R), which
permitted a financial institution to make automated lending decisions through
its call centers and branches; iDEAL, which permitted automobile lenders to make
automobile lending decisions for loan applications originated at automobile
dealers; and rtDS, which permitted lenders to deliver credit decisions to
applicants over the Internet. Due to capital constraints, the Company has
suspended all efforts to further develop, market and operate these products and
services. The Company's last processing contract terminated in late 2002, and
the Company has no plans in the near term to engage in further sales or other
activities related to its products or services, other than to attempt to license
certain of the patents that it owns. Currently, the Company's business
activities consist exclusively of attempting to enter into license agreements
with third parties to license the Company's rights under certain of its patents.
In conjunction with its product development activities, the Company applied
for and obtained three patents. The Company has been granted two patents
covering its fully-automated loan processing systems (U. S. Patents No.
5,870,721 and 5,940,811). In August 2000, the U.S. Patent and Trademark Office
issued to the Company a patent covering the fully-automated establishment of a
financial account, including credit accounts (U. S. Patent No. 6,105,007). In
addition, in 1997 the Company acquired a patent that covers the automated
processing of an insurance binder through a kiosk (U. S. Patent No. 5,537,315).
Both of the Company's patents covering fully automated loan processing
systems have been subject to reexamination by the U.S. Patent and Trademark
Office (the "PTO") due to challenges to such patents by third parties. On
January 28, 2003, the Company received a Reexamination Certificate (U. S. Patent
No. 5,870,721 C1) from the PTO which formally concluded the reexamination of U.
S. Patent No. 5,870,721. On March 30, 2005, the Company received a Notice of
Intent to Issue Ex Parte Reexamination Certificate from the PTO indicating that
the reexamination of its other loan processing patent (U. S. Patent No.
5,940,811) had been completed. The Company expects to receive the Reexamination
Certificate for this patent in due course.
On March 26, 2004, the Company was notified by Federated Department Stores,
Inc. ("Federated") and Ameritrade Holding Corporation ("Ameritrade") that they
had jointly filed a request with the PTO to reexamine U. S. Patent No.
6,105,007. On June 23, 2004, the Company received notification that the PTO had
granted the request for reexamination. The Company has lawsuits pending against
Federated and Ameritrade in the Columbia Division of the United States District
Court for the State of South Carolina (the "Columbia Federal Court") in which it
claims that both Federated and Ameritrade infringe U. S. Patent No. 6,105,007.
The Company has jointly, with Federated and Ameritrade, requested the Columbia
Federal Court to stay the lawsuits against Federated and Ameritrade pending
resolution of the reexamination of U. S. Patent No. 6,105,007. It is likely that
it will take an extended period of time to complete the reexamination
proceedings and the related litigation with Federated and Ameritrade. Moreover,
the reexamination of U. S. Patent No. 6,105,007 has adversely affected the
Company's patent licensing program and impeded its ability to raise additional
capital resources to continue its operations.
In November 2003, Household International, Inc. ("Household") filed a
declaratory judgment action against the Company in the United States District
Court in Wilmington, Delaware (the "Delaware Federal Court"). In its complaint
Household requested the Delaware Federal Court to rule that Household was not
infringing any of the claims of certain of the Company's patents (U.S. Patent
No. 5,870,721 C1, No. 5,940,811, and No. 6,105,007) and that these patents are
not valid. The Company filed counterclaims against Household claiming that
Household infringes U. S. Patent Nos. 5,870,721 C1, 5,940,811 and 6,105,007. The
Company also filed a motion with the Delaware Federal Court to transfer the case
to the Columbia Federal Court. In April 2004, the Delaware Federal Court granted
the Company's motion to transfer the case to Columbia Federal Court. As
discussed above, the PTO has granted the reexamination request filed by
Federated and Ameritrade relating to U. S. Patent No. 6,105,007.
6
The Company jointly, with Household, requested and received a stay of the
Household action from the Columbia Federal Court pending the resolution of the
PTO's reexamination of U. S. Patent No. 6,105,007.
It is possible that third parties may bring additional actions to contest
all or some of the Company's patents. The Company can make no assurances that it
will not lose all or some of the claims covered by its existing patents.
To date, the Company has generated substantial operating losses and has
been required to use a substantial amount of cash resources to fund its
operations. At June 30, 2005, the Company had cash and cash equivalents of
$26,429. In August 2005, the Company sold an additional $45,000 principal amount
of its convertible secured notes (the "notes"). The Company has informal
arrangements with certain vendors and officers under which these vendors and
officers have agreed to defer all or part of the amounts payable to them until
the Company has adequate resources to do so. The Company must raise additional
capital to fund accrued operating expenses and continue its operations. Unless
the Company raises additional capital, it will have to consider alternatives for
winding down its business, which may include offering its patents for sale or
filing for bankruptcy protection. Moreover, the Company currently does not have
the resources to repay the principal and accrued interest outstanding under its
convertible secured notes, which have become due and payable in full as
discussed in the following paragraphs. If any of the holders of these notes take
action to collect the amounts owed by the Company under these notes, the Company
will be forced to consider alternatives for winding down its business, which may
include offering its patents for sale or filing for bankruptcy protection.
In 2002 the Company initiated a convertible note program under which it is
authorized to issue up to $1,500,000 principal amount of its notes. To date, the
Company has issued an aggregate of $1,400,336 principal amount of notes under
this program, including $45,000 principal amount of notes issued in August 2005
as discussed above. These notes bear interest at 8%, are convertible into the
Company's common stock at a conversion rate of $.20 per share, and are secured
by the Company's equity interest in decisioning.com, Inc., which owns the
Company's patent portfolio. The outstanding notes include a note in the
principal amount of $125,000 acquired on June 3, 2002 by the Company's Chief
Executive Officer and a note in the principal amount of $100,000 acquired on
November 5, 2003 by a subsidiary of The South Financial Group, which owned
approximately 12% of the Company's outstanding capital stock. The full amount of
principal and interest under these notes generally becomes payable in full on
the second anniversary of the date on which these notes were issued. However,
under the terms of the notes, the full amount of principal and interest under
all notes becomes immediately due and payable in certain events, including
bankruptcy or similar proceedings involving the Company, a default in the
payment of principal and interest under any note, or a change in control of the
Company.
On June 2, 2004, notes with a principal amount of $756,336 became due and
payable. Additionally, on March 13, 2005 notes with a principal amount of
$200,000 became due and payable. The Company has had discussions with the
holders of these notes regarding the extension of the maturity date of these
notes. However, the Company has not been successful in reaching an agreement
with all of the holders of these notes regarding an extension of their maturity
date. Because the Company is currently in default regarding payment of principal
and interest due under certain of the notes, the full amount of principal and
interest outstanding under all notes has become due and payable. Accordingly,
the full amount of principal and accrued interest under all of these notes is
shown as a current liability of the Company as of June 30, 2005 and December 31,
2004. As of June 30, 2005, and December 31, 2004, the amount of principal and
accrued interest outstanding under all of the notes was $1,475,163 and
$1,383,149, respectively.
Under the terms of the note purchase agreement that governs the Company's
convertible note program, the Company previously was not permitted to issue any
additional notes if there was an existing default under any of the notes. As
discussed above, because the Company currently is in default regarding payment
of principal and interest due under certain of the notes, it was not permitted
to issue any additional notes under the note purchase agreement. In May 2005,
the note purchase agreement was amended to remove this provision. Following this
amendment, in May 2005 and August 2005 the Company issued an additional $75,000
and $45,000, respectively, principal amount of notes.
To remain viable, the Company must generate working capital through the
sale of patent licenses or by raising additional capital. To date, the Company
generally has been unable to enter into licensing agreements with potential
licensees upon terms that are acceptable to the Company. As discussed above, the
Company has been forced to become involved in litigation with alleged
infringers. The Company believes that these lawsuits may take an extended period
of time to complete, and no assurance can be given that the Company will have
the resources necessary to complete these lawsuits or that it will be successful
in obtaining a favorable outcome. Moreover, the ongoing reexamination of U. S.
Patent No. 6,105,007 will likely take an extended period of time to complete and
adversely affect the Company's ability to enter into other licensing agreements.
Accordingly, to remain viable it is critical that the Company raise additional
capital. The uncertainties of these litigation matters, the reexamination of U.
S. Patent No. 6,105,007, and other factors affecting the Company's short and
long-term liquidity discussed above have impeded and will likely continue to
impede the Company's ability to raise additional capital. To maintain the
minimal resources necessary to support its current operations, prosecute the
reexamination of U. S. Patent No. 6,105,007, and execute a patent licensing
strategy, the Company does not believe that substantial additional reductions in
its operating expenses are feasible. No assurances can be given that the Company
will be able to raise additional capital or generate working capital from its
patent licensing business.
7
The Company is a defendant in a lawsuit brought by Temple Ligon, who claims
that the Company breached an agreement to give him a 1% equity interest in the
Company in consideration of services he claims to have performed in 1993 and
1994 in conjunction with the formation of the Company. In January 2004, this
litigation resulted in a jury verdict against the Company of $382,148. Following
this verdict, the Company filed post-trial motions with the trial court in
which, among other things, it claimed that the jury verdict should be set aside.
On July 23, 2004, the trial judge granted the Company's motions, set aside the
jury verdict, and ordered entry of a judgment in favor of the Company. The
plaintiff has appealed the trial judge's ruling to the South Carolina Court of
Appeals. If the Company becomes obligated to pay more than an insignificant
amount of damages in connection with this litigation, it will be forced to
consider alternatives for winding down its business, which may include offering
its patents for sale or filing for bankruptcy protection.
There is substantial doubt about the Company's ability to continue as a
going concern. The financial statements do not include any adjustments to
reflect the possible future effects on the recoverability and classification of
assets or amounts and classification of liabilities that may result from this
uncertainty. However, management believes that any adjustments to reflect the
possible future effects on the recoverability and classification of assets and
amounts of liabilities would not materially change the Company's financial
position.
2. Basis of Presentation
The accompanying unaudited financial statements of the Company have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. The balance sheet at December 31, 2004 has been derived
from the audited consolidated financial statements at that date, but does not
include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements.
The accompanying unaudited condensed consolidated financial statements
reflect all adjustments (consisting of normal, recurring accruals) which, in the
opinion of management, are necessary for a fair presentation of the results for
the periods shown. The results of operations for such periods are not
necessarily indicative of the results expected for the full year or for any
future period. The accompanying financial statements should be read in
conjunction with the audited consolidated financial statements of the Company
for the year ended December 31, 2004.
In accordance with management's oversight of the Company's operations, the
Company conducts its business in one industry segment - financial services
technology (see Note 7).
3. New Accounting Standards
The following is a summary of recent authoritative pronouncements that
affect accounting, reporting, and disclosure of financial information by the
Company:
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based
Payments (SFAS 123R). This accounting standard, which is effective for interim
and annual periods beginning after January 1, 2006, requires the recognition of
compensation expense related to stock options under SFAS 123. The Company plans
to adopt SFAS 123R prospectively in the first quarter of 2006 with an
anticipated impact to earnings per share of less than $0.01 per share in 2006.
8
In November 2004, the FASB issued Statement of Financial Accounting
Standards No. 151, Inventory Costs (SFAS 151), an amendment of Accounting
Research Bulletin No. 43, Chapter 4, Inventory Pricing. This accounting
standard, which is effective for annual periods beginning after June 15, 2005,
requires that abnormal amounts of idle facility expense, freight, handling
costs, and wasted materials (spoilage) be recognized as current-period charges.
The adoption of SFAS 151 is not expected to have a material effect on the
Company's financial position or results of operations.
In December 2004, the FASB issued Statement of Financial Accounting
Standards No. 153 (SFAS 153), Exchanges of Nonmonetary Assets, an amendment of
Accounting Principles Board Opinion ("APB") No. 29, Accounting for Nonmonetary
Transactions (APB 29). SFAS 153 amends APB 29 to eliminate the exception for
nonmonetary exchanges of similar productive assets and replaces it with a
general exception for exchanges of nonmonetary assets that do not have
commercial substance. SFAS 153 specifies that a nonmonetary exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. This Statement is effective
for nonmonetary asset exchanges occurring in fiscal periods beginning after June
15, 2005. Earlier application is permitted for nonmonetary asset exchanges
occurring in fiscal periods beginning after the date SFAS 153 was issued.
Retroactive application is not permitted. Management believes that SFAS 153 will
not have a significant impact on the Company's financial position, results of
operations or cash flows.
Other accounting standards that have been issued or proposed by the FASB or
other standards-setting bodies that do not require adoption until a future date
are not expected to have a material impact on the Company's consolidated
financial statements upon adoption.
4. Stock Based Compensation
The Company accounts for stock options in accordance with APB Opinion No.
25, "Accounting for Stock Issued to Employees" ("APB 25"). Under APB 25, no
compensation expense is recognized for stock or stock options issued at fair
value. For stock options granted at exercise prices below the estimated fair
value, the Company records deferred compensation expense for the difference
between the exercise price of the shares and the estimated fair value. The
deferred compensation expense is amortized ratably over the vesting period of
the individual options. For performance based stock options, the Company records
compensation expense related to these options over the performance period.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock
Based Compensation" ("SFAS 123"), as amended by FASB Statements No. 148,
"Accounting for Stock-Based Compensation-Transition and Disclosure" ("SFAS
148"), provides an alternative to APB 25 in accounting for stock based
compensation issued to employees. SFAS 123 provides for a fair value based
method of accounting for employee stock options and similar equity instruments.
However, for companies that continue to account for stock based compensation
arrangements under APB 25, SFAS 123 requires disclosure of the pro forma effect
on net income and earnings per share as if the fair value based method
prescribed by SFAS 123 had been applied. Until the Company adopts SFAS 123R as
discussed above in Note 1, the Company intends to continue to account for stock
based compensation arrangements under APB No. 25 and has adopted the pro forma
disclosure requirements of SFAS 123.
9
Had compensation cost for options granted under the Company's stock-based
compensation plans been determined based on the fair value at the grant dates
consistent with SFAS 123, the Company's net income and earnings per share would
have changed to the pro forma amounts listed below:
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------------------------- -------------------------
Net loss:
As reported $ (165,330) $ (185,575) $ (294,955) $ (308,565)
Add: stock-based compensation expense
included in reported net income - - - -
Deduct: stock-based compensation expense
determined under the fair value based method
for all awards (1,339) (5,277) (4,802) (14,334)
------------------------- -------------------------
Pro forma net loss $ (166,669) $ (190,852) $ (299,757) $ (322,899)
========================= =========================
Net loss per common share:
As reported:
Basic and diluted $ (0.00) $ (0.00) $ (0.01) $ (0.01)
Pro forma:
Basic and diluted $ (0.00) $ (0.00) $ (0.01) $ (0.01)
The pro forma disclosures required by SFAS 123 regarding net loss and net
loss per share are stated as if the Company had accounted for stock options
using fair values. Compensation expense is recognized on a straight-line basis
over the vesting period of each option installment. Using the Black-Scholes
option-pricing model, the fair value at the date of grant for these options was
estimated using the following assumptions: expected volatility, 85% to 142%;
risk free rate of return, 1.99% to 6.60%; dividend yield, 0%; and expected
option life, 3 years.
The Black-Scholes and other option pricing models were developed for use in
estimating fair value of traded options, which have no vesting restrictions and
are fully transferable. In addition, option-pricing models require the input of
highly subjective assumptions. The Company's employee stock options have
characteristics significantly different than those of traded options, and
changes in the subjective assumptions can materially affect the fair value
estimate. Accordingly, in management's opinion, these existing models may not
necessarily provide a reliable single measure of the fair value of employee
stock options.
5. Net Loss Per Share of Common Stock
Net loss per share of Common Stock amounts presented on the face of the
consolidated statements of operations have been computed based on the weighted
average number of shares of Common Stock outstanding in accordance with the SFAS
No. 128, "Earnings Per Share." Stock warrants and stock options were not
included in the calculation of diluted loss per share because the Company has
experienced operating losses in all periods presented and, therefore, the effect
would be anti-dilutive.
6. Convertible Notes
The Company has issued convertible secured notes (the "notes") to certain
investors as part of its capital raising initiatives. As of June 30, 2005, the
Company had issued an aggregate of $1,355,336 in principal amount of notes under
this program. The notes bear interest at 8% and are collateralized by the
Company's equity interest in its wholly-owned subsidiary, decisioning.com.
decisioning.com is the Company's patent licensing subsidiary and owns the
Company's patent portfolio. The notes are convertible into the Company's common
stock at a conversion rate of $.20 per share. The Company may prepay the notes
subject to a prepayment penalty of 8% and 4% if the prepayment occurs within the
first twelve months or second twelve months, respectively. The full amount of
principal and interest under the notes generally becomes payable in full on the
second anniversary of the date on which these notes were issued. However, under
the terms of the notes, the full amount of principal and interest under all
notes becomes immediately due and payable in certain events, including
bankruptcy or similar proceedings involving the Company, a default in the
payment of principal and interest under any note, or a change in control of the
Company.
10
On June 2, 2004, notes with a principal amount of $756,336 became due and
payable. Additionally, on March 13, 2005 notes with a principal amount of
$200,000 became due and payable. The Company has had discussions with the
holders of these notes regarding the extension of the maturity date of these
notes. However, the Company has not been successful in reaching an agreement
with all of the holders of these notes regarding an extension of their maturity
date. Because the Company is currently in default regarding payment of principal
and interest due under certain of the notes, the full amount of principal and
interest outstanding under all notes has become due and payable. Accordingly,
the full amount of principal and accrued interest under all of these notes is
shown as a current liability of the Company as of June 30, 2005 and December 31,
2004. As of June 30, 2005, and December 31, 2004, the amount of principal and
accrued interest outstanding under all of the notes was $1,475,163 and
$1,383,149, respectively.
The notes issued by the Company include a note in the principal amount of
$125,000 issued in 2002 to the Company's Chairman and Chief Executive Officer
and a note in the principal amount of $100,000 issued in 2003 to a subsidiary of
The South Financial Group, which owned approximately 12% of the Company's
outstanding common stock.
The notes issued by the Company also include a note in the original
principal amount of $205,336 issued in 2002 to AMRO International, S.A. ("AMRO")
in satisfaction of the principal and accrued interest outstanding under a
convertible debenture previously issued to AMRO. To date, AMRO has converted
$124,000 principal amount and $18,081 accrued interest under its note into an
aggregate of 710,407 shares of the Company's common stock.
The contractual maturities of the principal of the Company's 8% convertible
notes are as follows:
June 30, December 31,
Maturity Date 2005 2004
----------------------- ----------------------------
June 2004 $ 706,336 $ 731,336
March 2005 200,000 200,000
August 2005 25,000 25,000
November 2005 150,000 150,000
December 2005 50,000 50,000
January 2006 25,000 25,000
May 2007 75,000 -
------------- -------------
1,231,336 1,181,336
Less: current portion (1,231,336) (1,181,336)
------------- -------------
Long-term portion $ - $ -
============= =============
7. Segment Information
The Company conducts its business within one industry segment - financial
services technology. To date, all revenues generated have been from transactions
with North American customers.
8. Commitments and Contingencies
The Company and its founder, Jeff Norris, are defendants in a lawsuit filed
by Temple Ligon on November 30, 1996 in the Court of Common Pleas for the County
of Richland in Columbia, South Carolina. Mr. Ligon claims, among other things,
that the Company and Mr. Norris breached an agreement to give him a 1% equity
interest in the Company in consideration of services Mr. Ligon claims to have
performed in 1993 and 1994 in conjunction with the formation of the Company, and
seeks monetary damages of $5,463,000. This lawsuit initially resulted in a jury
verdict against the Company of $68,000. However, Mr. Ligon subsequently
requested and was granted a new trial. In January 2004, this lawsuit resulted in
another jury verdict against the Company of $382,148. Following this verdict,
the Company filed post-trial motions with the trial court in which, among other
things, it claimed that the jury verdict should be set aside. On July 23, 2004,
the trial judge granted the Company's motions, set aside the jury verdict, and
ordered entry of a judgment in favor of the Company. Mr. Ligon has appealed the
trial judge's ruling to the South Carolina Court of Appeals. If the Company
becomes obligated to pay more than an insignificant amount of damages in
connection with this litigation, it will be forced to consider alternatives for
winding down its business, which may include offering its patents for sale or
filing for bankruptcy protection.
11
The Company is involved in three other lawsuits in which the Company has
alleged infringement by third parties of its patents.
9. Subsequent Events
In August 2005, the Company issued an additional $45,000 principal amount
of its convertible notes.
12
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
Statements in this report (including Management's Discussion and Analysis
of Financial Condition and Results of Operations) that are not descriptions of
historical facts, such as statements about the Company's future prospects and
cash requirements, are forward-looking statements and are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
Actual results may vary due to risks and uncertainties, including the Company's
very limited capital resources and the possibility that it may be unable to
raise additional capital in amounts sufficient to permit it to continue
operations; the risk that the Company may lose all or part of the claims covered
by its patents as a result of existing and future challenges to its patents; the
risk that its patents may be subject to additional reexamination by the U.S.
Patent and Trademark Office or challenge by third parties; the possibility that
all or some of the holders of the convertible secured notes issued by the
Company may take action to collect the amounts outstanding under these notes;
the result of ongoing litigation; and unanticipated costs and expenses affecting
the Company's cash position. If the Company is not able to raise additional
capital, it may be forced to consider alternatives for winding down its
business, which may include offering its patents for sale or filing for
bankruptcy protection. Moreover, if any of the holders of the convertible notes
issued by the Company take action to collect the amounts owed by the Company
under these notes, the Company will be forced to consider alternatives for
winding down its business, which may include offering its patents for sale or
filing for bankruptcy protection. These and other factors discussed in the
Company's filings with the Securities and Exchange Commission, including the
information set forth under the caption "Business Risks" in Item 1 of the
Company's Annual Report on Form 10-K for the year ended December 31, 2004, may
cause actual results to differ materially from those anticipated.
Overview
Affinity Technology Group, Inc. (the "Company") was formed to develop and
market technologies that enable financial institutions and other businesses to
provide consumer financial services electronically with reduced or no human
intervention. Products and services previously offered by the Company include
its DeciSys/RT(R) loan processing system, which automated the processing and
consummation of consumer financial services transactions; the Affinity Automated
Loan Machine (the ALM), which allowed an applicant to apply for and, if
approved, obtain a loan in as little as ten minutes; the Mortgage ALM, which
allowed an applicant to apply for a mortgage loan; e-xpertLender(R), which
permitted a financial institution to make automated lending decisions through
its call centers and branches; iDEAL, which permitted automobile lenders to make
automobile lending decisions for loan applications originated at automobile
dealers; and rtDS, which permitted lenders to deliver credit decisions to
applicants over the Internet. Due to capital constraints, the Company has
suspended all efforts to further develop, market and operate these products and
services. The Company's last processing contract terminated in late 2002, and
the Company has no plans in the near term to engage in further sales or other
activities related to its products or services, other than to attempt to license
certain of the patents that it owns. Currently, the Company's business
activities consist exclusively of attempting to enter into license agreements
with third parties to license the Company's rights under certain of its patents.
In conjunction with its product development activities, the Company applied
for and obtained three patents. The Company has been granted two patents
covering its fully-automated loan processing systems (U. S. Patents No.
5,870,721 and 5,940,811). In August 2000, the U.S. Patent and Trademark Office
(the "PTO") issued to the Company a patent covering the fully-automated
establishment of a financial account, including credit accounts (U. S. Patent
No. 6,105,007). In addition, in 1997 the Company acquired a patent that covers
the automated processing of an insurance binder through a kiosk (U. S. Patent
No. 5,537,315).
Both of the Company's patents covering fully automated loan processing
systems have been subject to reexamination by the PTO due to challenges to such
patents by third parties. On January 28, 2003, the Company received a
Reexamination Certificate (U. S. Patent No. 5,870,721 C1) from the PTO which
formally concluded the reexamination of U. S. Patent No. 5,870,721. On March 30,
2005, the Company received a Notice of Intent to Issue Ex Parte Reexamination
Certificate from the PTO indicating that the reexamination of its other loan
processing patent (U. S. Patent No. 5,940,811) had been completed. The Company
expects to receive the Reexamination Certificate for this patent in due course.
13
On March 26, 2004, the Company was notified by Federated Department Stores,
Inc. ("Federated") and Ameritrade Holding Corporation ("Ameritrade") that they
had jointly filed a request with the PTO to reexamine U. S. Patent No.
6,105,007. On June 23, 2004, the Company received notification that the PTO had
granted the request for reexamination. The Company has lawsuits pending against
Federated and Ameritrade in the Columbia Division of the United States District
Court for the State of South Carolina (the "Columbia Federal Court") in which it
claims that both Federated and Ameritrade infringe U. S. Patent No. 6,105,007.
The Company has jointly, with Federated and Ameritrade, requested the Columbia
Federal Court to stay the lawsuits against Federated and Ameritrade pending
resolution of the reexamination of U. S. Patent No. 6,105,007. It is likely that
it will take an extended period of time to complete the reexamination
proceedings and the related litigation with Federated and Ameritrade. Moreover,
the reexamination of U. S. Patent No. 6,105,007 has adversely affected the
Company's patent licensing program and impeded its ability to raise additional
capital resources to continue its operations.
In November 2003, Household International, Inc. ("Household") filed a
declaratory judgment action against the Company in the United States District
Court in Wilmington, Delaware (the "Delaware Federal Court"). In its complaint
Household requested the Delaware Federal Court to rule that Household was not
infringing any of the claims of certain of the Company's patents (U.S. Patent
No. 5,870,721 C1, No. 5,940,811, and No. 6,105,007) and that these patents are
not valid. The Company filed counterclaims against Household claiming that
Household infringes U. S. Patent Nos. 5,870,721 C1, 5,940,811 and 6,105,007. The
Company also filed a motion with the Delaware Federal Court to transfer the case
to the Columbia Federal Court. In April 2004, the Delaware Federal Court granted
the Company's motion to transfer the case to Columbia Federal Court. As
discussed above, the PTO has granted the reexamination request filed by
Federated and Ameritrade relating to U. S. Patent No. 6,105,007. The Company
jointly, with Household, requested and received a stay of the Household action
from the Columbia Federal Court pending the resolution of the PTO's
reexamination of U. S. Patent No. 6,105,007.
It is possible that third parties may bring additional actions to contest
all or some of the Company's patents. The Company can make no assurances that it
will not lose all or some of the claims covered by its existing patents.
To date, the Company has generated substantial operating losses and has
been required to use a substantial amount of cash resources to fund its
operations. At June 30, 2005, the Company had cash and cash equivalents of
$26,429. On August 12, 2005, the Company sold an additional $45,000 principal
amount of its notes. The Company has informal arrangements with certain vendors
and officers under which these vendors and officers have agreed to defer all or
part of the amounts payable to them until the Company has adequate resources to
do so. The Company must raise additional capital to fund accrued operating
expenses and continue its operations. Unless the Company raises additional
capital, it will have to consider alternatives for winding down its business,
which may include offering its patents for sale or filing for bankruptcy
protection. Moreover, the Company currently does not have the resources to repay
the principal and accrued interest outstanding under its convertible secured
notes, which have become due and payable in full as discussed in the following
paragraphs. If any of the holders of these notes take action to collect the
amounts owed by the Company under these notes, the Company will be forced to
consider alternatives for winding down its business, which may include offering
its patents for sale or filing for bankruptcy protection.
In 2002 the Company initiated a convertible note program under which it is
authorized to issue up to $1,500,000 principal amount of its notes. To date, the
Company has issued an aggregate of $1,400,336 principal amount of notes under
this program, including $45,000 principal amount of notes issued in August 2005
as discussed above. These notes bear interest at 8%, are convertible into the
Company's common stock at a conversion rate of $.20 per share, and are secured
by the Company's equity interest in decisioning.com, Inc., which owns the
Company's patent portfolio. The outstanding notes include a note in the
principal amount of $125,000 acquired on June 3, 2002 by the Company's Chief
Executive Officer and a note in the principal amount of $100,000 acquired on
November 5, 2003 by a subsidiary of The South Financial Group, which owned
approximately 12% of the Company's outstanding capital stock. Principal and
interest under these notes generally becomes payable in full on the second
anniversary of the date on which these notes were issued. However, under the
terms of the notes, the full amount of principal and interest under all notes
becomes immediately due and payable in certain events, including bankruptcy or
similar proceedings involving the Company, a default in the payment of principal
and interest under any note, or a change in control of the Company.
14
On June 2, 2004, notes with a principal amount of $756,336 became due and
payable. Additionally, on March 13, 2005 notes with a principal amount of
$200,000 became due and payable. The Company has had discussions with the
holders of these notes regarding the extension of the maturity date of these
notes. However, the Company has not been successful in reaching an agreement
with all of the holders of these notes regarding an extension of their maturity
date. Because the Company is currently in default regarding payment of principal
and interest due under certain of the notes, the full amount of principal and
interest outstanding under all notes has become due and payable. Accordingly,
the full amount of principal and accrued interest under all of these notes is
shown as a current liability of the Company as of June 30, 2005 and December 31,
2004. As of June 30, 2005, and December 31, 2004, the amount of principal and
accrued interest outstanding under all of the notes was $1,475,163 and
$1,383,149, respectively.
Under the terms of the note purchase agreement that governs the Company's
convertible note program, the Company previously was not permitted to issue any
additional notes if there was an existing default under any of the notes. As
discussed above, because the Company currently is in default regarding payment
of principal and interest due under certain of the notes, it was not permitted
to issue any additional notes under the note purchase agreement. In May 2005,
the note purchase agreement was amended to remove this provision. Following this
amendment, in May 2005 and August 2005 the Company issued an additional $75,000
and $45,000, respectively, principal amount of notes.
To remain viable, the Company must generate working capital through the
sale of patent licenses or by raising additional capital. To date, the Company
generally has been unable to enter into licensing agreements with potential
licensees upon terms that are acceptable to the Company. As discussed above, the
Company has been forced to become involved in litigation with alleged
infringers. The Company believes that these lawsuits may take an extended period
of time to complete, and no assurance can be given that the Company will have
the resources necessary to complete these lawsuits or that it will be successful
in obtaining a favorable outcome. Moreover, the ongoing reexamination of U. S.
Patent No. 6,105,007 will likely take an extended period of time to complete and
adversely affect the Company's ability to enter into other licensing agreements.
Accordingly, to remain viable it is critical that the Company raise additional
capital. The uncertainties of these litigation matters, the reexamination of U.
S. Patent No. 6,105,007, and other factors affecting the Company's short and
long-term liquidity discussed above have impeded and will likely continue to
impede the Company's ability to raise additional capital. To maintain the
minimal resources necessary to support its current operations, prosecute the
reexamination of U. S. Patent No. 6,105,007, and execute a patent licensing
strategy, the Company does not believe that substantial additional reductions in
its operating expenses are feasible. No assurances can be given that the Company
will be able to raise additional capital or generate working capital from its
patent licensing business.
The Company is a defendant in a lawsuit brought by Temple Ligon, who claims
that the Company breached an agreement to give him a 1% equity interest in the
Company in consideration of services he claims to have performed in 1993 and
1994 in conjunction with the formation of the Company. In January 2004, this
litigation resulted in a jury verdict against the Company of $382,148. Following
this verdict, the Company filed post-trial motions with the trial court in
which, among other things, it claimed that the jury verdict should be set aside.
On July 23, 2004, the trial judge granted the Company's motions, set aside the
jury verdict, and ordered entry of a judgment in favor of the Company. The
plaintiff has appealed the trial judge's ruling to the South Carolina Court of
Appeals. If the Company becomes obligated to pay more than an insignificant
amount of damages in connection with this litigation, it will be forced to
consider alternatives for winding down its business, which may include offering
its patents for sale or filing for bankruptcy protection.
Critical Accounting Policies
The Company applies certain accounting policies, which are critical to
understanding the Company's results of operations and the information presented
in the condensed consolidated financial statements. We consider critical
accounting policies to be those that require more significant judgments and
estimates in the preparation of our financial statements, the most critical of
which pertains to the valuation reserve on net deferred tax assets. The Company
records a valuation allowance to reduce its deferred tax assets to the amount
that it estimates is more likely than not to be realized. As of June 30, 2005
and December 31, 2004, the Company recorded a valuation allowance that reduced
its deferred tax assets to equal its deferred tax liability.
15
Results of Operations
Revenues
Patent license revenue. The Company recognized patent licensing revenues of
$4,412 and $8,824 for the three and six month periods ended June 30, 2005,
respectively, compared to $4,412 and $258,824 in the corresponding periods in
2004. During the three and six month periods ended June 30, 2005, and June 30,
2004, the Company recognized $4,412 and $8,824, respectively, related to a
three-year license agreement entered into in 2002. Of the revenues recognized
during the six-month period ended June 30, 2004, $250,000 was related to a
settlement agreement entered into in January 2004 with an institution that
formerly maintained a system that permitted consumers to apply for credit cards
over the Internet. These revenues are not recurring.
Costs and Expenses
Cost of revenues. Cost of revenues for the three and six month periods
ended June 30, 2005 was $441 and $882, respectively, compared to $441 and
$63,382 for the corresponding periods in 2004. Cost of revenues consists of
commissions paid to the Company's patent licensing representatives. The decrease
in cost of revenues during the six months ended June 30, 2005 compared to the
corresponding period in 2004 is attributable to a settlement agreement entered
into in the first quarter of 2004 for which commissions of $62,500 were paid to
the Company's patent licensing representatives.
General and administrative expenses. General and administrative expenses
totaled $145,259 and $255,506 for the three and six month periods ended June 30,
2005, respectively, compared to $165,912 and $456,993 in the corresponding
periods in 2004. The decrease of $20,653 for the three month period ended June
30, 2005, compared to the same period in 2004 was primarily attributable to
legal fees and related expenses incurred in 2004 in conjunction with the
Company's patent licensing litigation and general business matters. The decrease
of $201,487 for the six month period ended June 30, 2005, compared to the same
period in 2004 was primarily attributable to legal fees and related expenses
incurred in 2004 in conjunction with the Temple Ligon trial, the Company's
patent infringement litigation and general business matters.
Interest expense. Interest expense for the three and six month periods
ended June 30, 2005, was $24,042 and $47,452, respectively, compared to $24,127
and $48,209 for the corresponding periods in 2004. Interest expense is related
to the Company's convertible notes which accrue interest at 8%. Convertible note
principal outstanding at June 30, 2005, December 31, 2004, and June 30, 2004
totaled $1,231,336, $1,181,336, and $1,206,336, respectively.
Liquidity and Capital Resources
The Company has generated net losses of $68,972,987 since its inception and
has financed its operations primarily through net proceeds from its initial
public offering in May 1996 and cash generated from operations and other
financing transactions. Net proceeds from the Company's initial public offering
were $60,088,516.
To date, the Company has generated substantial operating losses and has
been required to use a substantial amount of cash resources to fund its
operations. At June 30, 2005, the Company had cash and cash equivalents of
$26,429. On August 12, 2005, the Company sold an additional $45,000 principal
amount of its notes. The Company has informal arrangements with certain vendors
and officers under which these vendors and officers have agreed to defer all or
part of the amounts payable to them until the Company has adequate resources to
do so. The Company must raise additional capital to fund accrued operating
expenses and continue its operations. Unless the Company raises additional
capital it will have to consider alternatives for winding down its business,
which may include offering its patents for sale or filing for bankruptcy
protection. Moreover, the Company currently does not have the resources to repay
the principal and accrued interest outstanding under its convertible secured
notes, which have become due and payable in full as discussed in the following
paragraphs. If any of the holders of these notes takes action to collect the
amounts owed by the Company under these notes, the Company will be forced to
consider alternatives for winding down its business, which may include offering
its patents for sale or filing for bankruptcy protection.
16
In 2002 the Company initiated a convertible note program under which it is
authorized to issue up to $1,500,000 principal amount of its notes. To date, the
Company has issued an aggregate of $1,400,336 principal amount of convertible
secured notes under this program, including $45,000 principal amount of notes
issued in August 2005 as discussed above. These notes bear interest at 8%, are
convertible into the Company's common stock at a conversion rate of $.20 per
share, and are secured by the Company's equity interest in decisioning.com,
Inc., which owns the Company's patent portfolio. The outstanding notes include a
note in the principal amount of $125,000 acquired on June 3, 2002 by the
Company's Chief Executive Officer and a note in the principal amount of $100,000
acquired on November 5, 2003 by a subsidiary of The South Financial Group, which
owned approximately 12% of the Company's outstanding capital stock. The full
amount of principal and interest under these notes generally becomes payable in
full on the second anniversary of the date on which these notes were issued.
However, under the terms of the notes, the full amount of principal and interest
under all notes becomes immediately due and payable in certain events, including
bankruptcy or similar proceedings involving the Company, a default in the
payment of principal and interest under any note, or a change in control of the
Company.
On June 2, 2004, notes with a principal amount of $756,336 became due and
payable. Additionally, on March 13, 2005 notes with a principal amount of
$200,000 became due and payable. The Company has had discussions with the
holders of these notes regarding the extension of the maturity date of these
notes. However, the Company has not been successful in reaching an agreement
with all of the holders of these notes regarding an extension of their maturity
date. Because the Company is currently in default regarding payment of principal
and interest due under certain of the notes, the full amount of principal and
interest outstanding under all notes has become due and payable. Accordingly,
the full amount of principal and accrued interest under all of these notes is
shown as a current liability of the Company as of June 30, 2005 and December 31,
2004. As of June 30, 2005, and December 31, 2004, the amount of principal and
accrued interest outstanding under all of the notes was $1,475,163 and
$1,383,149, respectively.
Under the terms of the note purchase agreement that governs the Company's
convertible note program, the Company previously was not permitted to issue any
additional notes if there was an existing default under any of the notes. As
discussed above, because the Company currently is in default regarding payment
of principal and interest due under certain of the notes, it was not permitted
to issue any additional notes under the note purchase agreement. In May 2005,
the note purchase agreement was amended to remove this provision. Following this
amendment, in May 2005 and August 2005 the Company issued an additional $75,000
and $45,000, respectively, principal amount of notes.
To remain viable, the Company must generate working capital through the
sale of patent licenses or by raising additional capital. To date, the Company
generally has been unable to enter into licensing agreements with potential
licensees upon terms that are acceptable to the Company. As discussed above, the
Company has been forced to become involved in litigation with alleged
infringers. The Company believes that these lawsuits may take an extended period
of time to complete, and no assurance can be given that the Company will have
the resources necessary to complete these lawsuits or that it will be successful
in obtaining a favorable outcome. Moreover, the ongoing reexamination of U. S.
Patent No. 6,105,007 will likely take an extended period of time to complete and
adversely affect the Company's ability to enter into other licensing agreements.
Accordingly, to remain viable it is critical that the Company raise additional
capital. The uncertainties of these litigation matters, the reexamination of U.
S. Patent No. 6,105,007, and other factors affecting the Company's short and
long-term liquidity discussed above have impeded and will likely continue to
impede the Company's ability to raise additional capital. To maintain the
minimal resources necessary to support its current operations, prosecute the
reexamination of U. S. Patent No. 6,105,007, and execute a patent licensing
strategy, the Company does not believe that substantial additional reductions in
its operating expenses are feasible. No assurances can be given that the Company
will be able to raise additional capital or generate working capital from its
patent licensing business.
Net cash used during the six months ended June 30, 2005, to fund operations
was approximately $111,000, compared to approximately $304,000 used to fund
operations for the same period in 2004. The decrease in cash used to fund
operations in the first six months of 2005 primarily reflects increased deferral
in the payment of certain operating expenses, which is reflected as an increase
in accounts payable and accrued expenses on the June 30, 2005 balance sheet
compared to the December 31, 2004 balances, and a reduction in prepaid expenses
during the six- month period. At June 30, 2005 cash and liquid investments were
$26,429, as compared to $62,756 at December 31, 2004. At June 30, 2005 working
capital was a deficit of $1,785,288 as compared to a deficit of $1,524,772 at
December 31, 2004.
17
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company does not believe that its current business exposes it to
significant market risk for changes in interest rates.
Item 4. Controls and Procedures
The Company has carried out an evaluation, under the supervision and with
the participation of the Company's Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures as defined in Rule 13a-15 of the Securities
Exchange Act of 1934 (the "Exchange Act"). Based upon that evaluation, the
Company's Chief Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures were effective as of June 30, 2005,
in recording, processing, summarizing and reporting information required to be
disclosed by the Company (including consolidated subsidiaries) in the Company's
Exchange Act filings.
There were no changes in the Company's internal controls over financial
reporting that occurred during the Company's most recent fiscal quarter that
materially affected, or are reasonably likely to materially affect, the
Company's internal controls over financial reporting.
Part II. Other Information
Item 5 is not applicable.
Item 1. Legal Proceedings
The Company and its founder, Jeff Norris, are defendants in a lawsuit filed
by Temple Ligon on November 30, 1996 in the Court of Common Pleas for the County
of Richland in Columbia, South Carolina. Mr. Ligon claims, among other things,
that the Company and Mr. Norris breached an agreement to give him a 1% equity
interest in the Company in consideration of services Mr. Ligon claims to have
performed in 1993 and 1994 in conjunction with the formation of the Company, and
seeks monetary damages of $5,463,000. This lawsuit initially resulted in a jury
verdict against the Company of $68,000. However, Mr. Ligon subsequently
requested and was granted a new trial. In January 2004, this lawsuit resulted in
another jury verdict against the Company of $382,148. Following this verdict,
the Company filed post-trial motions with the trial court in which, among other
things, it claimed that the jury verdict should be set aside. On July 23, 2004,
the trial judge granted the Company's motions, set aside the jury verdict, and
ordered entry of a judgment in favor of the Company. Mr. Ligon has appealed the
trial judge's ruling to the South Carolina Court of Appeals. If the Company
becomes obligated to pay more than an insignificant amount of damages in
connection with this litigation, it will be forced to consider alternatives for
winding down its business, which may include offering its patents for sale or
filing for bankruptcy protection.
In June 2003, the Company filed a lawsuit against Federated Department
Stores, Inc., and certain of its subsidiaries alleging that Federated has
infringed one of the Company's patents (U. S. Patent No. 6,105,007). In
September 2003, the Company filed a similar lawsuit against Ameritrade Holding
Corporation and its subsidiary, Ameritrade, Inc., alleging infringement of the
same patent. Both lawsuits were filed in the United States District Court in
Columbia, South Carolina, and both seek unspecified damages. On March 26, 2004,
the Company was notified by Federated and Ameritrade that they had jointly filed
a request with the PTO to reexamine U. S. Patent No. 6,105,007. On June 23,
2004, the Company received notification that the PTO had granted the request for
reexamination. The Company has jointly, with Federated and Ameritrade, requested
the Court to stay the lawsuits against Federated and Ameritrade pending
resolution of the reexamination of U. S. Patent No. 6,105,007. It is likely that
it will take an extended period of time to complete the reexamination
proceedings and the related litigation with Federated and Ameritrade. Moreover,
the reexamination of U. S. Patent No. 6,105,007 will likely have a material
adverse effect on the Company's patent licensing program and its ability to
attract additional capital resources in order to continue its operations.
18
In November 2003, Household International, Inc. ("Household") filed a
declaratory judgment action against the Company in United States District Court
in Wilmington, Delaware (the "Delaware Federal Court"). In its complaint
Household requested the Delaware Federal Court to rule that Household was not
infringing any of the claims of certain of the Company's patents (U.S. Patent
No. 5,870,721 C1, No. 5,940,811, and No. 6,105,007) and that these patents are
not valid. The Company filed counterclaims against Household claiming that
Household infringes U. S. Patent Nos. 5,870,721 C1, 5,940,811 and 6,105,007. The
Company also filed a motion with the Delaware Federal Court to transfer the case
to the Columbia Federal Court. In April 2004, the Delaware Federal Court granted
the Company's motion to transfer the case to Columbia Federal Court. As
discussed previously, the PTO has granted the reexamination request filed by
Federated and Ameritrade relating to U. S. Patent No. 6,105,007. The Company
jointly, with Household, requested and received a stay of the Household action
from the Columbia Federal Court pending the resolution of the PTO's
reexamination of U. S. Patent No. 6,105,007.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(a) On May 6, 2005, the Company issued $75,000 principal amount of its
convertible secured notes for cash in a transaction exempt from
registration pursuant to Section 4(2) of the Securities Act of 1933.
These notes are convertible into shares of common stock of the Company
at a price of $0.20 per share.
On August 12, 2005, the Company issued $45,000 principal amount of its
convertible secured notes for cash in a transaction exempt from
registration pursuant to Section 4(2) of the Securities Act of 1933.
These notes are convertible into shares of common stock of the Company
at a price of $0.20 per share.
(b) Not applicable.
(c) Not applicable.
Item 3. Defaults Upon Senior Securities
In 2002 the Company initiated a convertible note program under which it is
authorized to issue up to $1,500,000 principal amount of its notes. To date, the
Company has issued an aggregate of $1,400,336 principal amount of convertible
secured notes under this program, including $45,000 principal amount of notes
issued by the Company in August 2005. These notes bear interest at 8%, are
convertible into the Company's common stock at a conversion rate of $.20 per
share, and are secured by the Company's equity interest in decisioning.com,
Inc., which owns the Company's patent portfolio. The full amount of principal
and interest under these notes generally becomes payable in full on the second
anniversary of the date on which these notes were issued. However, under the
terms of the notes, the full amount of principal and interest under all notes
becomes immediately due and payable in certain events, including bankruptcy or
similar proceedings involving the Company, a default in the payment of principal
and interest under any note, or a change in control of the Company.
On June 2, 2004, notes with a principal amount of $756,336 became due and
payable. Additionally, on March 13, 2005 notes with a principal amount of
$200,000 became due and payable. The Company has had discussions with the
holders of these notes regarding the extension of the maturity date of these
notes. However, the Company has not been successful in reaching an agreement
with all of the holders of these notes regarding an extension of their maturity
date. Because the Company is currently in default regarding payment of principal
and interest due under certain of the notes, the full amount of principal and
interest outstanding under all notes has become due and payable. Accordingly,
the full amount of principal and accrued interest under all of these notes is
shown as a current liability of the Company as of June 30, 2005 and December 31,
2004. As of the date of this report, the amount of principal and accrued
interest outstanding under all of the notes was $1,532,516.
If any of the holders of these notes take action to collect the amounts
owed by the Company under these notes, the Company will be forced to consider
alternatives for winding down its business, which may include offering its
patents for sale or filing for bankruptcy protection.
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Item 4. Submission of Matters to a Vote of Security Holders
The 2005 Annual Meeting of Stockholders of Affinity Technology Group, Inc.,
was held on May 26, 2005 (the "Annual Meeting"). At the Annual Meeting, Joseph
A. Boyle, Wade H. Britt III, Robert M. Price, and Peter R. Wilson were duly
elected to the Board of Directors of the Company. The appointment of Scott
McElveen LLP as independent auditors for the year ending December 31, 2005, was
also ratified. Votes cast by the stockholders of the Company at the Annual
Meeting are as follows:
- --------------------------------------------------------------------------------
Nominees for Director Shares Voted in Favor Shares Withheld Broker Non-Votes
- --------------------------------------------------------------------------------
Joseph A. Boyle 39,551,649 981,715 -
- --------------------------------------------------------------------------------
Wade H. Britt III 39,572,844 960,520 -
- --------------------------------------------------------------------------------
Robert M. Price 39,697,352 836,012 -
- --------------------------------------------------------------------------------
Peter R. Wilson 40,017,674 515,690 -
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Ratification of the selection of Scott McElveen LLP
- --------------------------------------------------------------------------------
Shares Voted In Favor Shares Voted Against Shares Abstaining Broker Non-Votes
- --------------------------------------------------------------------------------
39,886,698 627,059 19,607 -
- --------------------------------------------------------------------------------
Item 6. Exhibits
Exhibit Number Description
3.1 Certificate of Incorporation of Affinity Technology Group,
Inc., which is hereby incorporated by reference to Exhibit
3.1 to the Registration Statement on Form S-1 of Affinity
Technology Group, Inc. (File No. 333-1170).
3.2 Bylaws of Affinity Technology Group, Inc., which is hereby
incorporated by reference to Exhibit 3.2 to the Registration
Statement on Form S-1 of Affinity Technology Group, Inc.
(File No. 333-1170).
31 Rule 13a-14(a) 15d-14(a) Certifications
32 Section 1350 Certifications
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Affinity Technology Group, Inc.
By: /s/ Joseph A. Boyle
-------------------
Joseph A. Boyle
Chairman, President, Chief Executive Officer and Chief Financial Officer
(principal executive and financial officer)
Date: August 15, 2005
20