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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended DECEMBER 31, 1997 or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number: 0-20815
INVISION TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-3123544
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7151 GATEWAY BOULEVARD, CALIFORNIA 94560
(Address of principal executive offices, including zip code)
(510) 739-2400
(Registrant's telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act:
NONE
Securities Registered Pursuant to Section 12(g) of the Act:
COMMON STOCK, $.001 PAR VALUE
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Based on the average of the closing bid and ask prices of $9.3125 on March
20, 1998, the aggregate market value of the voting stock held by
non-affiliates of the Registrant was $80,153,731. For purposes of this
computation, voting stock held by directors and executive officers of the
Registrant and stockholders holding 5% or more of the Registrant's
outstanding Common Stock has been excluded. Such exclusion is not intended,
and shall not be deemed, to be an admission that such directors, executive
officers and stockholders are affiliates of the Registrant.
On February 28, 1998, there were 12,026,731 shares of the Registrant's Common
Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement, which will be filed
with the Securities and Exchange Commission in connection with the
Registrant's Annual Meeting of Stockholders to be held May 28, 1998, are
incorporated by reference in Part III, Items 10, 11, 12 and 13 of this
report.
INVISION TECHNOLOGIES, INC.
TABLE OF CONTENTS
PAGE
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COVER PAGE
TABLE OF CONTENTS i
PART I. 1
Item 1. Business 1
Item 2. Properties 18
Item 3. Legal Proceedings 18
Item 4. Submission of Matters to a Vote of Security Holders 18
PART II. 19
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters 19
Item 6. Selected Financial Data 20
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 21
Item 8. Financial Statements and Supplementary Data 24
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 25
PART III. 25
Item 10. Directors and Executive Officers of the Registrant 25
Item 11. Executive Compensation 25
Item 12. Security Ownership of Certain Beneficial Owners and
Management 25
Item 13. Certain Relationships and Related Transactions 25
PART IV. 25
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 25
SIGNATURES 28
i
PART I.
ITEM 1. BUSINESS.
THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS WHICH INVOLVE
RISKS AND UNCERTAINTIES. WHEN USED IN THIS DISCUSSION, THE WORDS
"ANTICIPATE," "BELIEVE," "ESTIMATE," AND "EXPECT" AND SIMILAR EXPRESSIONS AS
THEY RELATE TO THE COMPANY OR ITS MANAGEMENT ARE INTENDED TO IDENTIFY SUCH
FORWARD-LOOKING STATEMENTS. THE COMPANY'S ACTUAL RESULTS, PERFORMANCE, OR
ACHIEVEMENTS COULD DIFFER MATERIALLY FROM THE RESULTS EXPRESSED IN, OR
IMPLIED BY, THESE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE OR
CONTRIBUTE TO SUCH DIFFERENCES INCLUDE RISKS RELATED TO MARKET ACCEPTANCE OF
THE COMPANY'S MAIN PRODUCT, FLUCTUATIONS IN THE COMPANY'S QUARTERLY AND
ANNUAL OPERATING RESULTS, THE LOSS OF ORDERS FOR THE COMPANY'S MAIN PRODUCT,
INCLUDING THE LOSS OF THE COMPANY'S ORDER FROM THE FAA OR THE FAILURE TO
OBTAIN ADDITIONAL ORDERS, LOSS OF ANY OF THE COMPANY'S SOLE SOURCE SUPPLIERS,
INTENSE COMPETITION, RELIANCE ON LARGE ORDERS, CONCENTRATION OF THE COMPANY'S
CUSTOMERS, RISKS RELATED TO THE LENGTHY SALES CYCLES FOR THE COMPANY'S
PRODUCTS, BUDGETING LIMITATIONS OF THE COMPANY'S CUSTOMERS AND PROSPECTIVE
CUSTOMERS, AS WELL AS THOSE DISCUSSED IN "--COMPETITION," "--BUSINESS RISKS"
AND IN "ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS" AND ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K.
GENERAL
InVision Technologies, Inc. ("InVision" or together with its
subsidiaries, the "Company") is the worldwide leader in explosive detection
technology. InVision develops, manufactures, markets and supports an
explosive detection system for civil aviation security based on advanced
computed tomography ("CT") technology. To date, the Company's CTX 5000 and
the recently released CTX 5500 (together, the "CTX 5000 Series") are the only
explosive detection system ("EDS") to be certified by the Federal Aviation
Administration ("FAA") for use in the inspection of checked luggage on
commercial flights. Historically, the FAA has been the leader in establishing
standards for aviation security worldwide, and the Company believes that
airports around the world will migrate over time towards security policies
consistent with those of the FAA. As a result, the Company believes that the
CTX 5000 Series is well positioned to become the industry standard. In
December 1996, the Company received an order from the FAA for 54 CTX 5000
systems to be installed at the busiest U.S. airports. For the years ended
December 31, 1997 and 1996, the Company had revenues of $56.4 million and
$15.8 million, respectively, and at December 31, 1997 had orders in backlog
in excess of approximately $32 million. As of December 31, 1997, 84 CTX 5000
systems had been shipped to 22 airports in twelve countries around the world.
The Company believes that the CTX 5000 Series is the only EDS capable of
detecting all types of explosives designated by the FAA to be a threat to
commercial aviation and that the CTX 5000 Series is superior to competing
systems by virtue of its advanced detection technology. The CTX 5000 Series
is capable of capturing and processing substantially more data than other
explosive detection systems. The Company believes that there are important
technological advantages that lead to the superiority of the CTX 5000 Series
over systems of the Company's primary competitors. By combining heightened
levels of data capture and threat resolution capabilities with simple user
interfaces, InVision's CTX 5000 Series is capable of providing high detection
and low false alarm rates, as well as advanced threat resolution capability
and increased operator efficiency.
The Company's objective is to become the dominant provider of explosive
detection systems worldwide and to extend its expertise in EDS technology to
address broader applications. Specific elements of the Company's growth
strategy are to enhance its technological leadership, expand its sales and
marketing organization, leverage its detection technology expertise to enter
new markets for detection, and selectively pursue strategic relationships and
acquisitions.
InVision was incorporated in Delaware in 1990. Its headquarters and
principal manufacturing facilities are located in Newark, California.
Quantum Magnetics, Inc. ("Quantum") was founded in 1987 to develop and
commercialize patented and proprietary technology for inspection, detection
and analysis of explosives and other materials based on
1
quadrupole resonance ("QR") technology, a form of magnetic resonance. Its
products, in the prototype stage, include devices to inspect checked and
carry-on luggage and cargo at airports and customs facilities, a small
scanner to detect explosives and illegal drugs in mail and other small
packages, and an advanced security system for the detection of liquid
explosives and flammables in sealed glass or plastic containers.
Quantum was acquired by InVision in 1997 in a pooling of interests
transaction. Quantum is located in San Diego, California.
INDUSTRY BACKGROUND
MARKET SIZE. There are over 600 airports worldwide providing scheduled
service for an aggregate of approximately 2.5 billion passengers per year. Of
these airports, over 400 are located in the United States, and a substantial
portion of the remainder are located in Europe and the Asia/Pacific region.
It is estimated that it will cost approximately $2.2 billion to equip the 76
largest airports in the United States with certified explosive detection
systems.
THE TERRORIST THREAT. In recent years, increased incidents of bombings
and airline terrorism have contributed to an enhanced perception of the
threat of terrorism among the general public. According to a report of the
President's Commission on Aviation Security and Terrorism dated May 15, 1990,
there were 41 bombings against civilian aviation targets worldwide between
1975 and 1989. According to Time Magazine, there were 10,222 bombings in the
United States between 1983 and 1993. According to a CBS poll conducted in
July 1996, airline passengers have expressed a willingness to pay more for
airline travel and endure delays if such actions will decrease the threat of
successful airline bombings.
THE EVOLUTION OF EXPLOSIVE DETECTION TECHNOLOGIES. In the 1970's, in
response to hijackings, airports worldwide began to install x-ray systems to
screen carry-on baggage for weapons such as guns and knives. In response to
the implementation of this technology, terrorists in some cases adopted the
tactic of airline bombings. The effort to develop automated explosive
detection capabilities was first established in the late 1970's by the FAA
and was predicated on the application of conventional x-ray technology.
However, until the advent of certified explosive detection systems in 1994,
the Company believes that EDS technology remained largely inadequate.
Following the bombing of Pan American Flight 103 over Lockerbie, Scotland in
December 1988, certain European countries hastened to implement explosive
detection capabilities based upon then-existing technologies. In order to
placate immediate public safety concerns, these conventional systems were
designed to process 100% of checked baggage. However, these conventional
systems were and continue to remain deficient in that they are unable to
reliably detect and identify all of the types and amounts of explosives
determined by the FAA to be a threat to civil aviation.
Several advanced explosive detection technologies have been developed to
attempt to address the need for effective explosive detection. These systems
include CT, dual energy x-ray, QR and trace detection. CT technology uses a
source of x-rays rotating around an object to create multiple two-dimensional
images, commonly know as "slices," of the density distribution of the
object's cross section and compares parameters derived from the analysis of
the density images to a database of explosives characteristics. Dual energy
x-ray systems measure the x-ray absorption properties of a bag's contents at
two different x-ray energies to determine if any of the contents have the
physical characteristics of explosive materials. QR is an electromagnetic
field based detection system which examines volume without imaging by using
radio frequencies to detect the chemical make-up of an object. Trace
detection equipment, known as "sniffers," detect particulate and chemical
traces of explosive materials collected by an operator by wiping or vacuuming
the bag under inspection. The only explosive detection system to be certified
by the FAA is InVision's CTX 5000 Series, which is based on CT technology.
THE EMERGENCE OF WORLDWIDE STANDARDS AND FAA CERTIFICATION. Throughout
the history of civil aviation, the FAA has been a leader in setting the
standards for aviation security worldwide. In the 1970's, the FAA first
established standards for worldwide security by setting guidelines for
screening of carry-on baggage for guns and knives. These standards were
subsequently mandated by the United Nations for adoption by all of its member
states, leading to the installation of over 7,000 detection systems
worldwide. Following the December
2
1988 bombing of Pan American Flight 103, the United States enacted the
Aviation Security Improvement Act of 1990 (the "Aviation Security Act"), in
response to which the FAA increased research and development funding for
advanced explosives detection technology. To date the FAA has spent over $150
million on such activities.
In 1993, as required by the Aviation Security Act, the FAA adopted a
certification protocol regarding explosive detection systems for use on
checked baggage. The FAA certification process was developed to certify
equipment that, alone or as part of an integrated system, can detect under
realistic air carrier operating conditions the amounts, configurations and
types of explosive material which would be likely to be used to cause
catastrophic damage to commercial aircraft. To do so, the FAA contracted with
the National Academy of Sciences to establish a scientifically valid protocol
for certification. The FAA also consulted with a variety of public agencies,
including the Federal Bureau of Investigation and the Central Intelligence
Agency. The result of this collaboration was the establishment of a detection
protocol which focuses on (i) the categories of explosive substances to be
detected, (ii) the probability of detection by explosive category, (iii) the
minimum quantity of explosive that must be detectable, (iv) the number of
bags processed per hour, and (v) the maximum acceptable false alarm rates. To
date only one explosive detection system, InVision's CTX 5000 Series, has met
the requirements of the protocol and has been certified by the FAA. In order
to meet the throughput criteria established in the FAA protocol, the CTX 5000
Series has been certified with two units operating in parallel.
IMPLEMENTATION OF MULTI-LEVEL SCREENING PROCESSES. As the capabilities
of EDS technology have evolved and worldwide detection standards have become
more pervasive, certain airports around the world have sought to augment
their detection capabilities by implementing various multi-level screening
processes. To date, two distinct processes have become most prevalent: a
system first implemented by the BAA (the "BAA Approach"); and a system
endorsed by the FAA (the "FAA Approach"). Prior to the development of
certified detection technology and in recognition of the deficiencies of
existing x-ray technology in providing comprehensive detection, certain
European airports adopted the BAA Approach, which consists of the use of
several explosive detection systems operating in series in order to attempt
to increase detection rates while maintaining throughput rates.
The FAA Approach was developed following the advent of certified
detection technology. Currently, the FAA Approach is comprised of a process
of passenger "profiling" combined with the use of certified EDS equipment for
the detection of explosives in baggage deemed to be high risk. Profiling
involves an initial determination of whether a particular passenger
represents a high threat based on certain decision criteria which are
believed to be reasonable predictors of risk. Based on this determination, a
passenger's baggage may undergo a higher level of investigation, which will
in most cases involve the baggage being screened with the use of certified
EDS equipment. In contrast to the BAA Approach, in which the effectiveness of
the entire detection process is dependent on technologies with greater
emphasis on throughput than detection, the FAA Approach is predicated on the
use of high-detection technology and is focused on the ability to accurately
and effectively detect explosives and to identify individuals believed to
pose the greatest threat to civil aviation. The Company believes that the FAA
Approach, as it is currently being implemented at major airports throughout
the United States, will prove to be the more effective process in reducing
the dangers associated with the use of explosives against civil aviation.
THE GORE COMMISSION. In response to the crash of TWA Flight 800 off
Long Island, New York in July 1996, President Clinton announced the formation
of the White House Commission on Aviation Safety and Security, chaired by
Vice President Gore (the "Gore Commission"), to review airline and airport
security and oversee aviation safety. The Gore Commission concluded that "the
threat against civil aviation is changing and growing, and that the federal
government must lead the fight against it" and recommended that "the federal
government commit greater resources to improving aviation security." The
Gore Commission released its initial report in October 1996, and in October
1996 the United States enacted legislation which included a $144 million
appropriation for fiscal 1997 for the deployment of explosives detection
systems and other advanced security equipment for use by air carriers and
airport authorities. Of this amount, $52.2 million, or 36.2%, was allocated
to the purchase of certified CT technology. Although no money was
appropriated for the development of additional explosive detection systems in
fiscal 1998, the President's proposed budget for fiscal 1999 (which begins in
September 1998) contains $100 million for the purchase of additional systems.
This amount has not yet been approved by Congress or allocated among the
various manufacturers of EDS.
3
THE INVISION TECHNOLOGY ADVANTAGE
CT TECHNOLOGY
The Company believes that the CTX 5000 Series is the only EDS presently
capable of reliably detecting all types of explosives designated by the FAA
to be a threat to commercial aviation and that the CTX 5000 Series is
superior to competing systems by virtue of its advanced detection technology.
The Company's CTX 5000 Series employs CT technology which was pioneered
in the medical field in the 1970's and enhanced for use in explosive
detection by the Company's engineers in the 1990's. As its principal
detection vehicle, the CTX 5000 Series uses a source of x-rays rotating
around an object to create two-dimensional images of the density distribution
of the object's cross section. These cross-sectional images are commonly
known as "slices." The CTX 5000 Series is capable of measuring data from
several contiguous slices of an object in order to capture the 3-dimensional
characteristics of an object. The data gathered from the slices is used to
measure the physical characteristics of objects by determining their linear
attenuation coefficients (density), morphology (shape), and granularity
(uniformity). Once measured, each characteristic is automatically compared,
using sophisticated image processing algorithms, to a database of
characteristics of compounds used in explosive devices in order to assess the
threat. If an object is determined to contain the characteristics of an
explosive, additional slices of the object are collected in order to
determine the mass discriminates (quantity) of the threat. At this stage,
potential threats which cannot be cleared automatically by the CTX 5000
Series are submitted to an operator for threat resolution. The operator is
also presented with information regarding the presence of detonators, power
sources, proximity charges, metallic objects and other characteristics of a
potential bomb, and the suspicious objects are highlighted in different
colors.
The Company believes that there are three important technical
characteristics which lead to the superiority of the CTX 5000 Series over
systems of the Company's primary competitors, which are based on dual energy
technology. These characteristics are:
DATA QUALITY AND QUANTITY. Dual energy x-ray systems collect data from
one or two views of an object to determine the atomic number of materials
encountered during the scan. CT technology, with approximately 500 views per
slice, yields more data and is capable of measuring the density of an object.
While explosives have well defined density ranges which are generally
distinct from those of the contents of checked baggage, certain classes of
explosives have atomic numbers which are similar to those of many materials
found in checked baggage. As a result, the CTX 5000 Series is better able to
distinguish between explosives and the benign contents of checked baggage,
resulting in higher detection and lower false alarm rates.
THREE DIMENSIONAL DATA. CT technology's ability to render three
dimensional data concerning an object also contributes to its superior
detection compared to dual energy x-ray technology. By utilizing these data,
CT technology is able to map characteristics of an object, such as mass and
density, regardless of the object's position in the bag and the superposition
of other objects. Dual energy x-ray systems render only two dimensional data.
As a result, if multiple objects are superimposed over the potential
explosive, the system's ability to calculate the atomic number of the
potential explosive is diminished. Given the inherent limitations of the use
of atomic numbers as a parameter for explosive detection, this diminished
capacity with regard to stacked objects is particularly problematic.
ADVANCED THREAT RESOLUTION. Threat resolution refers to the process
following an alarm of determining whether checked baggage is safe or contains
a threat. Once an alarm occurs, the CTX 5000 Series presents its operators
with images and threat analysis tools that are unavailable in dual energy
systems. For example, the CTX 5000 Series simultaneously provides operators
with both x-ray images and CT images on separate screens. These data are
cross-referenced with each other to give the operator an overall image of a
suitcase and detailed CT information relating to the contents, and in
particular relating to the potential threat. In addition to the images, the
CTX 5000 Series provides an abundance of tools and data, designed to allow
operators to determine whether a bag is a threat requiring further action or
is safe to clear to the plane. One of these tools is the ability to take
additional slices to provide more data and focus in on the threat. In
contrast, dual energy x-ray systems display a single x-ray image of a
potential threat and have a limited ability to provide additional information
to an operator who suspects that an explosive is present.
4
InVision believes that the strengths of the CTX 5000 Series with respect
to these three important technical characteristics were central to the CTX
5000 Series meeting the stringent FAA standards for certification and to
gaining operational acceptance by the commercial aviation industry. In
addition, InVision believes that the limitations of competing technologies
with respect to these important characteristics will limit these
technologies' ability to attain the high detection and low false alarm rates
necessary to obtain FAA certification. However, there can be no assurance
that future technological innovations will not enable competing technologies
to overcome these limitations. As the only EDS to be certified by the FAA,
the Company believes its CTX 5000 Series is well positioned to be the
cornerstone of the advanced explosive detection process being promoted by the
FAA for implementation at airports around the world.
QR TECHNOLOGY
QR technology has a high detection rate for selected types of explosives
combined with one of the lowest false alarm rates for any type of technology.
In particular, QR technology has significant detection capabilities for
identifying components typically found in sheet explosive, which has been the
most difficult type of explosive to detect, as well as a military and plastic
explosives. Quadrupole resonance analysis is related to magnetic resonance
imaging ("MRI") technology commonly used in hospitals, but without a large
and expensive magnet. The characteristic signal emitted by each type of
explosive is unique and easily distinguished from harmless materials.
Different molecules have different resonance frequencies, even if they
contain the same atoms. QR directly measures the presence of the specific
target material, by identifying the explosive's characteristic signals. This
method is more accurate than other bulk detection systems which predict the
explosives presence by measuring object density or atomic number. These
capabilities can create a stand alone product for certain applications, such
as the carry-on baggage scanner the Company already offers through its
subsidiary, Quantum (the QSCAN-160), but also provide advantages when
combined with x-ray or CT explosive detection technologies. The Company
believes that systems combining these technologies based on different
physical principles will be more robust and more difficult to defeat than
single technology systems.
GROWTH STRATEGY
The Company's objective is to be the leading provider of explosive
detection systems worldwide and to extend its technology expertise to address
broader applications for detection. Specific elements of the Company's growth
strategy are to:
ENHANCE TECHNOLOGICAL LEADERSHIP. The Company believes that its
technological capabilities provide it with a significant competitive
advantage. Accordingly, the Company considers research and development to be
a vital part of its operating discipline, and continues to make substantial
investments to enhance the performance, functionality and reliability of its
CTX 5000 Series hardware and software. Among the Company's priorities in
enhancing its technological capabilities are to increase throughput rates
while maintaining certified detection capability and to increase threat
resolution capabilities. The Company is looking to QR technology with its
increased ability to detect certain types of explosives and its lower false
alarm rate as one way to achieve these goals. The Company has also sought to
continue to improve upon its original CT technology by developing the new CTX
5500, the first major upgrade to the CTX 5000, which is anticipated to be
shipped in 1998. See "--Product Development." In 1997, 1996 and 1995, the
Company spent $15.9 million, $7.7 million and $5.3 million (before
development contract offsets), respectively, for research and development to
improve the Company's technology.
EXPAND SALES AND MARKETING CAPABILITIES. The Company believes that its
sales and marketing capability is vital to achieving high levels of market
penetration for its systems. The objectives of the Company's sales force
include promoting broader acceptance for EDS technology worldwide and
emphasizing the importance of high detection rate EDS technology. Because
sales cycles for the CTX 5000 Series can be lengthy, the Company's sales and
marketing efforts are focused on developing and maintaining close working
relationships with key management personnel at regulatory authorities,
airports and airport authorities worldwide. As the market for certified
explosive detection technology expands, the Company intends to supplement its
sales and marketing capability by adding sales personnel in the U.S. and in
Asia, enhancing customer support capabilities in Europe
5
through the addition of systems integration expertise, and continuing to
educate governmental entities worldwide about the benefits of certified
detection and the advantages of the CTX 5000 Series.
LEVERAGE TECHNOLOGY EXPERTISE TO ENTER NEW MARKETS FOR DETECTION. The
Company believes that installations of advanced automated explosive detection
systems at airports will accelerate the adoption of this technology for
additional aviation applications such as screening of carry-on baggage and
trailer-mounted mobile units for inspections at remote location, as well as
for other security applications, including the detection of drugs, the
protection of government and private facilities, and the screening of mail.
Since the amount of government money spent in drug interdiction efforts far
surpasses the amount spent for the development of EDS technology, the Company
believes that drug detection applications afford significant market
opportunities for the application of InVision's certified detection
technology. The Company believes that its leadership in high detection
technology will be a competitive advantage as these markets develop. With
the acquisition of Quantum, the Company has also added powerful new tools to
its detection capabilities for potential applications such as postal, customs
and cargo inspection as well as airport security. QR technology can detect
currency, narcotics and other contraband in addition to explosives and
Quantum already has developed several products, in the prototype stage,
including devices to inspect carry-on luggage and cargo at airports and
customs facilities, a small scanner to detect explosives and illegal drugs in
the mail and other small packages, and an advanced system for the detection
of liquid explosives and flammables in sealed glass or plastic containers.
PURSUE STRATEGIC RELATIONSHIPS AND ACQUISITIONS. From time to time the
Company reviews strategic relationship opportunities, including potential
acquisitions, that would complement its existing product offerings, augment
its market coverage, enhance its technological capabilities or otherwise
offer growth opportunities. The Company believes that the CTX 5000 Series is
suited to the integration of applications which are direct extensions of its
strength in explosive detection technology. Pursuant to this strategy, the
Company has entered a strategic relationship with EG&G Astrophysics for the
development of an explosive detection system based upon a combination of the
CTX 5000 Series and EG&G's x-ray scanning technology. In addition, the
Company acquired Quantum in September 1997 to gain access to QR technology,
the application of which when applied to the explosive detection field,
either in a stand alone system or in combination with x-ray or CT, is still
largely in the development stage, but offers increased ability to detect
certain types of explosives and a lower false alarm rate.
PRODUCT DEVELOPMENT
The Company considers research and development to be a vital part of its
operating discipline and continues to dedicate substantial resources to
research and development to enhance the performance, functionality and
reliability of its CTX 5000 Series hardware and software. In particular, the
Company recognizes the need to improve certain of its system capabilities,
specifically related to throughput and gantry size, in order to accommodate
the breadth of market potential for EDS technology. At December 31, 1997 the
Company had 103 full-time employees engaged in research and development
activities, and also was using the services of approximately 20 specialized
contract employees and consultants in this area.
InVision's development efforts under the current FAA research grant are
primarily focused on increasing the speed (throughput) and decreasing the
manufacturing cost of the CTX 5000. InVision is also developing, in
conjunction with the FAA, improvements to the user-interface, inspection
algorithms, and operator on-line testing techniques. The first new product
resulting from these efforts is the CTX 5500, now in production. This new
system, which will also be available in upgrade-kit form to allow customers
to convert their existing CTX 5000 units, will offer increased throughput
and several other enhancements requested by customers. It relies on a
concept called Dynamic Screening,-TM- which continuously monitors bag flow
through an airport's conveyor system and the security status of each bag.
The CTX 5500 then uses this information to adapt its screening to meet the
specific threat and the demands of the airport. It also uses faster
computers, enhanced software and an improved operator interface which
includes the ability to test operators while they work. See "--Competition"
and "--Business Risks--No Assurance of Continued Certification; Risk of
Certification of Competing Technologies; Risk of Changing Standards."
In the EDS field Quantum is currently working to develop a product which
will combine QR and x-ray technologies into a more powerful detection device
than either technology offers alone by providing the ability
6
to detect a wider range of explosives with more reliability than x-ray but
with an ability to see images to assist with threat resolution that QR
technology alone does not offer. This project is in an early stage of
development.
In addition to EDS research and development, Quantum is also a leading
supplier of research and development services in the areas of electromagnetic
sensing and detection technologies to a number of government and
quasi-government agencies. Since 1994, Quantum has completed over 100
research and development programs for various federal government agencies and
private companies, establishing itself as a leading developer of novel
applications for electromagnetic sensing while developing substantial
proprietary know-how and patented technology. As part of these programs,
Quantum has formed research and development collaborations, totaling
approximately $21 million, with over 20 leading academic institutions and
research groups world-wide. Quantum continues to perform contract research
and development services in order to stay at the technical forefront of the
industry and to augment its product development. As of December 31, 1997
Quantum had a backlog of approximately $6.2 million in development contracts.
During the years ended December 31, 1997, 1996 and 1995, respectively,
the Company spent $15.9 million, $7.7 million and $5.3 million on research
and development activities, of which $8.5 million, $4.9 million and $3.1
million, respectively, was funded by the FAA and other agencies under
development contracts and grants. In order to fulfill the objectives of its
growth strategy, the Company intends to continue to invest heavily in product
development.
CUSTOMERS
In order to capitalize on the global opportunity for deployment of
explosive detection technology for civil aviation, the Company currently focuses
on three important markets: (i) installations at high profile U.S. airports,
(ii) installations at new airports under construction worldwide and (iii)
installations at international airports.
The following is a list of the airports which are employing InVision's CTX 5000
technology or have a product in the CTX 5000 Series on order as of December 31,
1997:
AIRPORT LOCATION OPERATED BY
John F. Kennedy International (1 unit) New York, New York El Al Israel Airlines
Hartsfield International (2 units) Atlanta, Georgia Delta Airlines
San Francisco International (1 unit) San Francisco, California United Airlines
Heathrow and Gatwick(4 units)(3 UNITS) London, England British Airport Authority
Manchester International (12 units) Manchester, England Manchester Airport
Brussels National (1 unit) Brussels, Belgium Brussels Airport
Schiphol Amsterdam Airport (2 units) Amsterdam (Netherlands) Amsterdam Airport
Narita International (1 unit) Tokyo, Japan A distributor
Ben Gurion International (6 units) Tel Aviv, Israel Israel Airports Authority
Nino Aquino International (2 units) Manila, Philippines Northwest Airlines
King Khaled International (1 unit) Riyadh, Saudi Arabia A distributor
Subang Kuala Lumpur International(6 units) Kuala Lumpur, Malaysia Kuala Lumpur Airport
Chiang Kai Shek (1 unit) Taiwan A distributor
Chek Lapkok (2 units)(2 UNITS) Hong Kong Hong Kong Airport Authority
Various (2 units)(1 UNIT) Various El Al Israel Airlines
French Airports (8 units) (4 UNITS) (1) France Direction Generale de L'Aviation
Civile
U.S. Airports (32 units) (22 UNITS) (1)(2) United States Various U.S. Airlines
CAPITALIZED ITEMS DENOTE NUMBER OF UNITS ON ORDER BUT NOT YET SHIPPED.
(1) For security reasons, the locations remain undisclosed.
(2) Under the FAA Contract
7
In December 1996, as an extension of legislation enacted upon the
recommendation of the Gore Commission, the Company received a $52.2 million
order for 54 CTX 5000 systems from the FAA. Under the terms of the FAA
contract as revised by the FAA, these systems are to be installed during 1997
and 1998 at the United States' busiest airports. As of December 31, 1997, 32
of these systems have been shipped. For reasons of security, the FAA will not
divulge the deployment schedule or locations of the systems at this time.
The FAA may cancel this contract at any time and for any reason, in which
case the FAA would only be obligated to pay for units delivered and to
reimburse the Company for costs incurred and commitments made by the Company
in order to fulfill the contract. In addition, the government has the option
to purchase up to 46 additional systems for 1998, bringing the total purchase
price under such contract, if such option is fully exercised, to $110.9
million. To date, this option has not been exercised and additional funds
for this purpose have not been authorized by Congress. See "--Industry
Background--The Gore Commission".
The Company believes that customer service and support are critical to its
success and has committed significant resources to these functions. Accordingly,
the Company provides a high level of customer support to assist in the site
planning, installation and integration of the Company's products into its
customer's facilities in addition to field service for maintaining the
reliability of the Company's products once installed. InVision's service
organization includes customer service engineers, product application
specialists, operator training engineers and technical support engineers. As of
December 31, 1997 InVision had 27 individuals employed in customer service and
support roles. InVision typically hires and trains its own support staff
throughout the world rather than relying on third-party maintenance services. In
addition to providing generally a one year parts and service warranty, InVision
offers fee-based primary and back-up service contracts to its customers to
provide system maintenance, ongoing technical support, documentation, training
and, under full service contracts, periodic software releases.
The Company believes that operator qualification and training is as
important to the explosives detection process as the CTX 5000 Series' automated
detection process. In this regard, the Company has developed and provides in
depth operator training and testing as a critical component of each sale and
installation. See "--Business Risks--Limited Field Operations; Dependence on
Operator Performance."
Quantum's products are still primarily in the prototype stage with the
first order for two QSCAN advanced technology systems to be delivered to the FAA
in 1998 for deployment in undisclosed locations.
SALES AND MARKETING
The Company markets its products both directly through internal sales
personnel and indirectly through authorized agents, distributors and systems
integrators. As of December 31, 1997, the Company employed a total of 15
people in sales and marketing. In North America, the Company markets its CTX
5000 Series primarily through direct sales personnel, which as of December
31, 1997 consisted of four individuals. Internationally, the Company utilizes
both a direct sales force and authorized agents to sell its products. As of
December 31, 1997, the Company had three direct international sales personnel
broadly covering Europe, Asia, and the Middle East (including one dedicated
to the sale of Quantum's QSCAN systems) and additional authorized agents
representing the Company in specific countries. For sales through its
authorized agents and distributors, the Company generally is directly
involved in developing proposal documents and negotiating contract terms.
During the fiscal years ended December 31, 1997, 1996 and 1995, international
sales represented 43.0%, 76.2% and 89.2%, respectively, of the Company's
revenues. See "--Business Risks--International Business; Risk of Change in
Foreign Regulations; Fluctuation in Exchange Rates."
Support for the direct and indirect sales representatives is provided by
product application specialists who assist in pre- and post-sale support. Such
support includes assistance in designing customer configurations, educating
customers on the system and technology and supporting the implementation and
integration process. In addition, the Company provides its sales representatives
with training, promotional literature, a multi-media presentation, videos and
competitive analysis.
The selling process often involves a team comprised of individuals from
sales, marketing, engineering, customer service and support, and senior
management. The team frequently engages in a multi-level sales effort
8
directed toward a variety of constituents, including government regulators,
the local airport operator or authority, systems and or conveyor integrators,
individual airlines and airline operating committees. The combination of the
high average selling prices, the time needed for various agencies to secure
funding for systems and the negotiation and execution of actual contracts
leads to a typical sales cycle lasting from six to twelve months, or more,
from initial contact with a customer. Often, local government regulators
become involved in the sales decision process or provide funds for the
purchase. For repeat orders from existing customers, the Company can often
expedite the sales cycle by utilizing existing contracts and contract
extensions and thereby avoid lengthy procurement processes. See "--Business
Risks--Dependence on Large Orders; Customer Concentrations; Lengthy Sales
Cycle" and "--Public Agency Contract and Budget Considerations."
BACKLOG
The Company measures its backlog of system revenues as orders for which
contracts or purchase orders have been signed, but which have not yet been
shipped and for which revenues have not yet been recognized. The Company
includes in its backlog only those customer orders which are scheduled for
delivery within the next 18 months. The Company typically ships its products
within three to twelve months after receiving an order. However, such
shipments may be affected by delays which occur in the delivery of components
to the Company or customers' readiness to accept delivery for reasons of site
preparation or otherwise. At December 31, 1997, the Company's system revenues
backlog was approximately $32 million.
A majority of the Company's backlog as of December 31, 1997 is expected
to be shipped during the next six months. Any failure of the Company to meet
an agreed upon schedule could lead to the cancellation of the related order.
Variations in the size, complexity and delivery requirements of the customer
order may result in substantial fluctuations in backlog from period to
period. The Company believes that it is important for competitive reasons and
to better satisfy customer requirements to reduce order lead times and
expects that the Company's backlog may decrease on a relative basis over
time. In addition, all orders are subject to cancellation or delay by the
customer and, accordingly, there can be no assurance that such backlog will
eventually result in revenues. For these reasons, the Company believes that
backlog cannot be considered a meaningful indicator of the Company's
performance on an annual or quarterly basis.
MANUFACTURING
The Company seeks to focus its manufacturing resources on activities
which emphasize the Company's core competencies and distinctive value. The
Company's manufacturing operations consist primarily of: materials
management; assembly, test and quality control of parts and components
subassemblies; and final system testing. Using the Company's designs and
specifications, subcontractors assemble mechanical and electrical
sub-components. The Company performs final assembly and test of systems,
including configuration to customers orders and testing with current release
software, prior to shipment. The Company's manufacturing organization has
expertise in mechanical, electrical, electronic and software assembly and
testing. In addition, because quality and reliability over the life of the
Company's products are vital to customer satisfaction and repeat purchases,
the Company believes its quality assurance program to be a key component of
its business strategy.
The Company generally purchases major contracted assemblies from single
source suppliers in order to ensure high quality, prompt delivery and low
cost. The Company reviews its single source procurements on a case by case
basis and began to qualify second sources for certain contracted assemblies
in 1996. The Company purchases components, materials and electro-mechanical
subsystems from single source suppliers pursuant to purchase orders placed
from time to time in the ordinary course of business and has no guaranteed
supply arrangements with such suppliers. Although to date the Company has not
experienced any significant delays in obtaining any of its single source
assemblies, there can be no assurance that the Company will not face
shortages of one or more of these systems in the future. See "--Business
Risks--Dependence on Suppliers."
The Company outsources certain manufacturing processes, including
standard and build-to-print fabricated parts such as mechanical
sub-assemblies, sheet metal fabrication, cables and assembled printed circuit
boards. This strategy enables the Company to leverage product development,
manufacturing and management
9
resources while retaining greater control over product delivery, final
product configuration and timing of new product introductions, all of which
the Company believes are critical to exceeding customer expectations.
COMPETITION
The market for explosive detection systems is intensely competitive and
is characterized by continuously developing technology and frequent
introductions of new products and features. The Company expects competition
to increase as other companies introduce additional and more competitive
products in the EDS market and as the Company develops additional
capabilities and enhancements for the CTX 5000 Series and new applications
for its certified technology. Historically, the principal competitors in the
market for explosive detection systems have been the Company, Vivid
Technologies, Inc., EG&G Astrophysics, Heimann Systems GmbH, Thermedics
Detection Inc., and Barringer Technologies Inc. Each of these competitors
provides EDS solutions and products for use in the inspection of checked
luggage, although to date only the Company's CTX 5000 Series has been
certified by the FAA. The Company is aware of certain major corporations
competing in other markets that intend to enter the EDS market. In
particular, in January 1996 Lockheed Martin Corporation received a grant in
the amount of approximately $8.5 million from the FAA for the design and
development of a certified CT-based EDS over a two-year period, which it
transferred to its newly-formed spin-out, L-3 Communications Corporation
("L-3"), in May 1997. Announcements of currently planned or other new
products may cause customers to delay their purchasing decisions for EDS
products, which could have a material adverse effect on the Company's
business, financial condition or results of operations. Each of the Company's
competitors may have substantially greater financial resources than the
Company. There can be no assurance that the Company will be able to compete
successfully with its competitors or with new entrants to the EDS market.
The Company believes that its ability to compete in the EDS market is
based upon such factors as: product performance, functionality, quality and
features; quality of customer support services, documentation and training;
and the capability of the technology to appeal to broader applications beyond
the inspection of checked baggage. Although the Company believes that the CTX
5000 Series is superior to its competitors' products in its explosive
detection capability and accuracy, the CTX 5000 Series must also compete on
the basis of price, throughput, the ability to handle all sizes of baggage,
and the ease of integration into existing baggage handling systems. Certain
of the Company's competitors may have an advantage over the Company's
existing technology with respect to these factors. Currently, the CTX 5000
Series has an average selling price of approximately $1.0 million, compared
to substantially lower prices for systems offered by the Company's
competitors; has a throughput rate of approximately 300 bags per hour ("bph")
(up to 400 bph for the CTX 5500), compared to rates claimed to exceed 1,000
bph by certain of the Company's competitors; has a gantry size which limits
the ability of the unit to accept all sizes of baggage; and requires that the
baggage remain still while being scanned, making it difficult to integrate
into the continuously moving baggage handling systems found in most airports.
There can be no assurance that the Company will be successful in convincing
potential customers that the CTX 5000 Series is superior to other systems
given all of the necessary performance criteria, that new systems with
comparable or greater performance, lower price and faster or equivalent
throughput will not be introduced, or that, if such products are introduced,
customers will not delay or cancel existing or future orders for the
Company's system. Further, there can be no assurance that the Company will be
able to enhance the CTX 5000 Series to better compete on the basis of cost,
throughput, accommodation of baggage size and ease of integration, or that
the Company will otherwise be able to compete successfully with existing or
new competitors. The failure of the Company to develop such enhancements or
otherwise successfully compete in the EDS market for any of the above reasons
would have a material adverse effect on the Company's business, financial
condition or results of operations.
INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS
The Company's performance depends in part upon its proprietary
technology. In the United States, InVision relies upon patents, copyrights
and trade secrets for the protection of the proprietary elements of the CTX
5000 Series and InVision's CT technology. There can be no assurance, however,
that InVision could enforce such patents, trade secrets or copyrights.
InVision has two United States patents for automatic concealed object
detection systems using a pre-scan stage which expire in the years 2010 and
2011 (the "Patents"). There can be no assurance that the Patents would be
effective in preventing CT-based competition. In accordance with certain
10
Federal Acquisition Regulations included in InVision's development contract,
dated September 27, 1991, with the FAA (the "FAA R&D Contract"), the United
States Government has rights to use certain of InVision's proprietary
technology developed after the award of the FAA R&D Contract and funded by
the FAA R&D Contract. The U.S. Government may use such rights to produce or
have produced for the U.S. Government competing products using InVision's CT
technology. In the event that the U.S. Government were to exercise these
rights, InVision's exclusivity in supplying the U.S. Government with
certified CT-based explosive detection systems could be materially adversely
affected.
Outside the United States, the time period for filing foreign
counterparts of the Patents has expired, and InVision has not sought or
obtained patent protection (except to the extent of licenses held under
patents owned by Imatron Inc. ("Imatron") and has relied to date primarily on
software copyrights and trade secrets for the protection of its proprietary
technology. The absence of a foreign counterparts to the Patents could
adversely affect the InVision's ability to prevent a competitor from using
technology similar to technology used in the CTX 5000 Series.
InVision also holds an exclusive, worldwide, perpetual and fully-paid
license from Imatron (obtained in connection with the formation of InVision)
under Imatron's patents and know-how to develop, manufacture and sell (a)
systems for the inspection of mail, freight, parcels and baggage, and (b)
compact medical scanner products for military field applications based on a
different type of CT technology than is currently incorporated in the
Company's CTX 5000 Series. InVision, in exchange, granted to Imatron an
exclusive, worldwide, perpetual and fully-paid license under InVision's
Patents or future patents and know-how to permit Imatron to utilize such
technology in medical scanner products (other than compact medical scanner
products for military field applications). Imatron is a manufacturer of
medical scanning systems and holds a portfolio of CT patents.
In the United States, Quantum relies upon licenses, patents, copyrights
and trade secrets, held by Quantum for the protection of the proprietary
elements of its QSCAN products, other QR development stage products and its
ability to obtain research and development contracts in the areas of
electromagnetic sensing and detection. In connection with its QR technology,
Quantum utilizes three key QR patents from the Naval Research Laboratory and
has been granted a ten-year exclusive license, with seven years remaining,
to commercialize the technology. Additionally, Quantum has been granted
several key patents, with additional patents pending, and has developed a
significant amount of know-how in the magnetic sensing and detection areas.
These patents and know-how enable field deployable security systems to be
designed and cost-effectively manufactured. The intellectual property and
proprietary rights held by Quantum are subject to the same risks and
uncertainties as those held directly by InVision, as described above.
The Company generally enters into confidentiality agreements with each
of its employees, and on a case-by-case basis enters into similar agreements
with distributors, customers, and potential customers. In addition, the
Company limits access to distribution of its software, documentation and
other proprietary information. There can be no assurance that these
agreements will not be breached, that the Company will have adequate remedies
for any breach, or that the Company's trade secrets will not otherwise become
known to or independently developed by others. There can be no assurance that
the steps taken by the Company to protect its proprietary technology will be
adequate or that its competitors will not be able to develop similar,
functionally equivalent or superior technology.
Although the Company believes that its intellectual property rights are
valuable, the Company also believes that because of the rapid pace of
technological change in the industry, factors such as innovative skills,
technical expertise, the ability to adapt quickly to new technologies and
evolving customer requirements, product support, and customer relations are
of greater competitive significance.
EMPLOYEES
As of December 31, 1997, InVision directly employed 194 people, of whom
64 were primarily engaged in research and development activities, 44 in
marketing and sales, customer support and field service, 55 in manufacturing
and 31 in administration and finance. In addition, InVision utilized the
services of 33 full-time consultants and temporary employees in 1997.
Quantum employed 54 people, primarily in research and
11
development, and utilized the services of 13 full-time consultants and
temporary employees during the same period. Management believes that
InVision's and Quantum's relationships with their employees are good.
EXECUTIVE OFFICERS
The following sets forth certain information regarding the Company's
executive officers as of January 3, 1998:
NAME AGE POSITION
---- --- --------
Dr. Sergio Magistri 44 President, Chief Executive Officer and
Director
Curtis P. DiSibio 41 Senior Vice President, Finance and
Administration and Chief Financial Officer
David M. Pillor 43 Senior Vice President, Sales and Marketing
Horst Bruening 49 Vice President, Engineering
DR. SERGIO MAGISTRI has served as President, Chief Executive Officer and
Director of InVision since December 1992. From June 1991 to November 1992, he
was a Project Manager with AGIE, Switzerland, a manufacturer of high
precision tooling equipment, responsible for all aspects of a family of new
products for high precision electro-erosion machining with sub-micron
precision. From 1988 to June 1991, Dr. Magistri was a consultant to high
technology companies, including FI.M.A.I. Holding, S.A. As a consultant to
FI.M.A.I., Dr. Magistri was involved in the formation of InVision and the
development of its business plan and of its technology. From 1983 to 1988,
Dr. Magistri held various positions with Imatron Inc. ("Imatron"), a CT
medical scanner company, including as an Engineering Physicist and Manager of
Advanced Reconstruction Systems, and Director of Computer Engineering. Dr.
Magistri holds a degree in Electrical Engineering and a doctorate in
Biomedical Engineering from the Swiss Institute of Technology, Zurich,
Switzerland.
CURTIS P. DISIBIO has served as Vice President, Finance and
Administration of InVision since April 1991 (Senior Vice President since
August 1997) and Chief Financial Officer since March 1993. From 1980 to 1986,
Mr. DiSibio worked in public accounting. In 1986 Mr. DiSibio served as
controller of Trilogy Systems Corporation ("Trilogy"), a development stage
mainframe computer company, and was involved in the sale of Trilogy's
operations to Digital Equipment Corporation. From 1987 to 1990, Mr. DiSibio
held various positions including Treasurer and Chief Financial Officer of
ELXSI Corporation, a publicly traded mini-super computer company which
Trilogy had acquired. Mr. DiSibio received a Masters degree in Business
Administration degree from Santa Clara University.
DAVID M. PILLOR joined InVision in July 1994 as Vice President, Sales
and Marketing, and has served as Senior Vice President, Sales and Marketing
since November 1995. From 1988 to July 1994, Mr. Pillor held various
positions including Area Sales Manager, National Sales Manager and Vice
President of Sales of Technomed International, a medical products company.
Mr. Pillor holds a Bachelor of Science degree in Chemistry from the
University of Maryland.
HORST BRUENING joined InVision in December 1997 as Vice President,
Engineering. From 1991 to 1995, on behalf of Siemens A.G., Medical
Engineering Group, a German company, Dr. Bruening managed a joint
development project between Siemens and Imatron. From 1995 to July 1997, Dr.
Bruening was Vice President for Angiography and X-ray at Seimens and was Vice
President of Research and Development from July to October, 1997. Dr.
Bruening holds a doctorate in physics for experimental work with
electromagnetic radiation detection from the University of Freiburg in
Germany.
BUSINESS RISKS
IN ADDITION TO THE RISKS SET FORTH IN "--COMPETITION," "--INTELLECTUAL
PROPERTY AND PROPRIETARY RIGHTS" AND THE OTHER PORTIONS OF THIS "ITEM 1.
BUSINESS," AN INVESTMENT IN THE COMPANY HAS THESE ADDITIONAL RISKS:
12
HISTORY OF LOSSES; NO ASSURANCE OF CONTINUED PROFITABILITY. The Company
commenced operations in September 1990, remained in the development stage
through 1994 and received its first revenues from product sales in the first
quarter of 1995. The Company has experienced net losses for each year from
inception through December 31, 1996. The year ended December 31, 1997 was the
Company's first year of profitability. As of December 31, 1997, the Company
had an accumulated deficit of approximately $17.6 million. Although the
Company has recently been profitable on a quarterly and annual basis, there
can be no assurance that the Company will maintain profitability on a
quarterly and annual basis. The Company significantly expanded its
manufacturing, research and development, sales and marketing, and
administrative capabilities in 1997 to meet the increased demand for its
product. The increase in the Company's operating expenses caused by this
expansion could have a material adverse effect on the Company's business,
financial condition or results of operations if revenues do not increase at
an equal or greater rate. See "Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations--Liquidity and Capital
Resources."
SINGLE PRODUCT; UNCERTAINTY OF MARKET ACCEPTANCE. The CTX 5000 Series
currently is the only product line offered by the Company and the Company
derives substantially all of its revenues from the sale of CTX 5000 Series
units. The Company's orders to date have been received from a limited number
of customers and the substantial majority of these have been from a single
customer, the FAA. The commercial success of the CTX 5000 Series will depend
upon its acceptance by domestic and international airports, government
agencies and airlines as a useful and cost-effective alternative to less
expensive, higher throughput (i.e. bags per hour) competing products
employing different technologies. The large capital commitment (approximately
$1.0 million each) required to purchase units in the CTX 5000 Series may
limit the marketability of the CTX 5000 Series. In addition, the Company's
failure to compete successfully with respect to throughput, the ability to
scan all sizes of baggage, the ease of integration of the CTX 5000 Series
into existing baggage handling systems and other factors could delay, limit
or prevent market acceptance of the CTX 5000 Series. Moreover, the market for
EDS technology is largely undeveloped, and the Company believes that the
overall demand for EDS technology will depend significantly upon public
perception of the risk of terrorist attacks. There can be no assurance that
the public will perceive the threat of terrorist bombings to be substantial
or that the airline industry and governmental agencies will actively pursue
EDS technology. As a result, there can be no assurance the Company will be
able to achieve market penetration, revenue growth or profitability. See
"--Competition" and "--Industry Background."
FLUCTUATIONS IN OPERATING RESULTS. The Company's past operating results
have been, and its future operating results will be, subject to fluctuations
resulting from a number of factors, including: the timing and size of orders
from, and shipments to, major customers; budgeting and purchasing cycles of
its customers; delays in product shipments caused by custom requirements of
customers or ability of the customer to accept shipment; the timing of
enhancements to the CTX 5000 Series by InVision or introduction of new
products by it or its competitors; changes in pricing policies by InVision,
its competitors or suppliers, including possible decreases in average selling
prices of the CTX 5000 Series in response to competitive pressures; the
proportion of revenues derived from competitive bid processes; the mix
between sales to domestic and international customers; market acceptance of
enhanced versions of the CTX 5000 Series; the availability and cost of key
components; and fluctuations in general economic conditions. InVision also
may choose to reduce prices or to increase spending in response to
competition or to pursue new market opportunities, all of which may have a
material adverse effect on InVision's business, financial condition or
results of operations. InVision's systems revenues in any period are derived
from sales of multiple CTX 5000 Series systems to a limited number of
customers and are recognized upon shipment which, in view of the high sales
price of units in the CTX 5000 Series, causes minor variations in the number
of orders, or the timing of shipments, to substantially affect the Company's
quarterly revenues. Because a significant portion of the Company's quarterly
operating expenses are, and will continue to be, relatively fixed in nature,
such revenue fluctuations will cause the Company's quarterly and annual
operating results to vary substantially. Accordingly, the Company believes
that period-to-period comparisons of its results of operations are not
meaningful and cannot be relied upon as indicators of future performance.
Because of all of the foregoing factors, the Company's operating results may
be below the expectations of public market analysts and investors in some
future quarters, which would likely result in a decline in the trading price
of the Common Stock.
DEPENDENCE ON SUPPLIERS. Certain key components used in the Company's
products have been designed by the Company to its specifications and are
currently available only from one or a limited number of suppliers.
13
The Company currently does not have long-term agreements with these
suppliers. Moreover, in view of the high cost of many of these components,
the Company does not maintain significant inventories of some necessary
components. If the Company's suppliers were to experience financial,
operational, production or quality assurance difficulties, the supply of
components to the Company would be reduced or interrupted. In the event that
a supplier were to cease operations, discontinue a product or withhold supply
for any reason, the Company may be unable to acquire such product from
alternative sources within a reasonable period of time. The Company also
uses a variety of independent third party manufacturers and subassemblers.
The inability of the Company to develop alternative sources for single or
sole source components, to find alternative third party manufacturers or
subassemblers, or to obtain sufficient quantities of these components could
result in delays or interruptions in product shipments, which could have a
material adverse effect on the Company's business, financial condition or
results of operations.
DEPENDENCE ON LARGE ORDERS; CUSTOMER CONCENTRATIONS; LENGTHY SALES
CYCLE. In any given fiscal year, the Company's revenues have principally
consisted, and the Company believes will continue to consist, of orders of
multiple units from a limited number of customers. While the number of
individual customers may vary from period to period, the Company is
nevertheless dependent upon these multiple orders for a substantial portion
of its revenues. There can be no assurance that the Company will obtain such
multiple orders on a consistent basis. During the year ended December 31,
1997, approximately $50.2 million, or 89.0%, of the Company's revenues were
generated from sales to the Company's five largest customers. During the year
ended December 31, 1996, revenues from the Company's six largest customers
were approximately $14.0 million, or 88.4%, of the Company's revenues. To
date, all orders from United States customers have been entirely funded by
the FAA, and the Company's largest sales contract to date, for 54 CTX 5000
systems, is with the FAA. There can be no assurance that such funding or
sales will continue in the future. The Company's inability to obtain
sufficient multiple orders or the failure of the FAA to continue such
purchases or funding would have a material adverse effect on the Company's
business, financial condition or results of operations. Moreover, the timing
and shipment of such orders could cause the operating results in any quarter
to differ from the projections of securities analysts, which could adversely
affect the trading price of the Common Stock. Losses arising from customer
disputes regarding shipping schedules, product condition or performance, or
the Company's inability to collect accounts receivable from any major
customer could also have a material adverse effect on the Company's business,
financial condition or results of operations. See "--Industry Background--The
Gore Commission."
The Company's revenues depend in significant part upon the decision of a
government agency to upgrade and expand existing facilities, alter workflows
and hire additional technical expertise in addition to procuring the CTX 5000
Series, all of which involve a significant capital commitment as well as
significant future support costs. The sales cycle of the CTX 5000 Series is
often lengthy due to the protracted approval process that typically
accompanies large capital expenditures and the time required to manufacture
the CTX 5000 Series and install and assimilate the CTX 5000 Series.
Typically, six to twelve months may elapse between a new customer's initial
evaluation of the Company's systems and the execution of a contract. Another
three months to a year may elapse prior to shipment of the CTX 5000 Series as
the customer site is prepared and the CTX 5000 Series is manufactured. During
this period the Company expends substantial funds and management resources
but recognizes no associated revenue. See "--Fluctuations in Operating
Results," "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations--Overview."
PUBLIC AGENCY CONTRACT AND BUDGET CONSIDERATIONS. Substantially all of
InVision's customers and a high percentage of Quantum's research and
development customers to date have been public agencies or quasi-public
agencies. In contracting with public agencies, the Company is subject to
public agency contract requirements which vary from jurisdiction to
jurisdiction and which are subject to budgetary processes and expenditure
constraints. Budgetary allocations for explosive detection systems are
dependent, in part, upon governmental policies which fluctuate from time to
time in response to political and other factors, including the public's
perception of the threat of commercial airline bombings. Many domestic and
foreign government agencies have experienced budget deficits that have led to
decreased capital expenditures in certain areas. The Company's results of
operations may be subject to substantial period-to-period fluctuations as a
result of these and other factors affecting capital spending. A reduction of
funding for explosive detection technology deployment could materially and
adversely affect the Company's business, financial condition or results of
operations. Future sales to public agencies will depend, in part, on the
Company's ability to meet public agency
14
contract requirements, certain of which may be onerous or even impossible for
the Company to satisfy. In addition, public agency contracts are frequently
awarded only after formal competitive bidding processes, which have been and
may continue to be protracted, and typically contain provisions that permit
cancellation in the event that funds are unavailable to the public agency.
There can be no assurance that the Company will be awarded any of the
contracts for which its products are bid or, if awarded, that substantial
delays or cancellations of purchases will not result from protests initiated
by losing bidders. See "--Sales and Marketing."
LIMITED FIELD OPERATIONS; DEPENDENCE ON OPERATOR PERFORMANCE. As of
December 31, 1997, 84 CTX 5000 systems had been shipped to 22 airports in
twelve countries around the world. A majority of these units were installed
since January 1997, and the Company's customers have only limited experience
with the operation of the CTX 5000 in high-volume airport operations. Many
of the factors necessary to make the overall baggage scanning system a
success, such as the CTX 5000's integration with the baggage handling system,
ongoing system maintenance and the performance of operators, are beyond the
control of the Company. In particular, once the CTX 5000 identifies a
threat, the operator must make a determination whether the threat is actual
or a false alarm and, therefore, whether or not to allow the bag to continue
onto the aircraft. Unsatisfactory performance of operators can lead to
reduced efficacy of the CTX 5000 Series. The failure of the CTX 5000 Series
to perform successfully in deployments, whether due to the limited experience
of the Company's customers with the CTX 5000 Series, operator error or any
other reason, may have an adverse effect on the market's perception of the
efficacy of the CTX 5000 Series, which in turn could have a material adverse
effect on the Company's business, financial condition or results of
operations.
MANAGEMENT OF GROWTH. As of December 31, 1997, the Company had produced
a total of 84 CTX 5000 systems and had not sustained then current production
levels for any significant period of time. As a result of the FAA's order of
54 CTX 5000 systems, the Company substantially increased its rate of
manufacture of the CTX 5000 in 1997, which has placed significant demands on
the Company's management, working capital and financial and management
control systems. Failure to continue to upgrade the Company's operating,
management and financial control systems when necessary, or difficulties
encountered during such upgrades, could have a material adverse effect on the
Company's business, financial condition or results of operations. The
continued success of the increase in production capability will depend in
part upon the Company's ability to continue to improve and expand its
engineering and technical resources and to attract, retain and motivate key
personnel. The failure of the Company to maintain such production capability
or to increase its revenues sufficiently to compensate for the increase in
operating expenses resulting from the recent or any future expansion would
have a material adverse effect on the Company's business, financial condition
or results of operations. To accommodate the recent increase in the
manufacturing rate, the Company has entered into a lease for a new,
substantially larger, manufacturing facility. The operations of this new
facility also requires the Company to incur substantially larger fixed costs
than it has experienced in the past. Failure of the FAA to perform under the
December 1996 purchase contract, or failure to maintain an order rate
sufficient to fully utilize this new manufacturing facility each could have a
material adverse effect on the Company's business, financial condition or
results of operations. See "--Industry Background--The Gore Commission,"
"--Manufacturing" and "Item 2. Properties."
NO ASSURANCE OF CONTINUED CERTIFICATION; RISK OF CERTIFICATION OF
COMPETING TECHNOLOGIES; RISK OF CHANGING STANDARDS. The FAA has the
responsibility for setting and maintaining performance standards for
explosive detection systems for all U.S. airlines, both in the United States
and abroad. The FAA Final Criteria for Certification of EDS, published in
September 1993, requires, among other things, a throughput of 450 bph for an
explosive detection system. The Company's CTX 5000 currently has been tested
by the FAA at less than 450 bph and therefore has not been certified as a
single unit. The CTX 5000, when combined in a system consisting of two
units, was certified by the FAA in 1994. To date no other EDS has been
certified by the FAA, although the CTX 5500 is awaiting certification. There
currently is no requirement that U.S. airlines or airports (or international
airlines or airports) deploy FAA-certified explosive detection systems or
that U.S. airlines or airports (or most international airlines or airports)
deploy explosive detection systems at all. Should the standards be lowered,
resulting in other lower priced or higher throughput explosive detection
systems becoming certified, or should other competitive systems otherwise
become certified, the Company would lose a significant competitive advantage.
Under such circumstances, there can be no assurance that the Company's
product would be able to compete successfully with these systems.
Accordingly, the certification by the FAA of any competing EDS could have a
material adverse effect on the Company's business, financial condition or
15
results of operations. In addition, should the FAA increase its certification
standards, there can be no assurance that the CTX 5000 Series would meet such
standards. See "--Industry Background." The Company intends to continue to
modify the CTX 5000 Series in an effort to make throughput enhancements, cost
reductions and other modifications to the CTX 5000 Series based upon the
availability of adequate funds. Any such modifications, including the
planned addition of QR technology to the system, or updated versions of the
CTX 5000 may require FAA approval in order to retain certification or may
require re-certification. There can be no assurance that any such
modifications will be approved or, if required, certified by the FAA, and the
failure to gain approval or certification for such products could have a
material adverse effect on the Company's business, financial condition or
results of operations. The Company believes that its long-term success will
depend in part upon its ability to manufacture an EDS that meets or exceeds
the throughput standards of the FAA Final Certification Criteria without
being combined with another unit. See "--Product Development."
COMPETITION FOR FAA GRANTS. The U.S. Government currently plays an
important role in funding the development of EDS technology and sponsoring
its deployment in U.S. airports. Through December 31, 1997, the Company had
received $10.6 million from FAA grants and contracts, and expects to receive
an additional $1.5 million for further throughput enhancement and cost
reduction activities in 1998. The Company is also aware that Lockheed Martin
Corporation was awarded a grant of approximately $8.5 million in January 1996
from the FAA, subsequently transferred to its spin-out, L-3, for the design
and development of a CT-based EDS over a two-year period. There can be no
assurance that additional research and development funds from the FAA will
become available in the future or that the Company will receive any such
additional funds. Failure by the FAA to continue to sponsor the Company's
technology could have a material adverse effect on the Company's business,
financial condition or results of operations. In addition, the grant to L-3
and any future grants to the Company's other competitors may improve such
competitors' ability to develop and market high detection EDS technology and
cause the Company's customers to delay any purchase decisions, which could
have a material adverse effect on the Company's ability to market the CTX
5000 Series and on the Company's business, financial condition or results of
operations. See "--Product Development."
DEPENDENCE ON PROPRIETARY TECHNOLOGY. The Company in the past has
received, and from time to time in the future may receive, communications
from third parties alleging infringements by the Company or one of its
suppliers of patents or other intellectual proprietary rights owned by such
third parties. There can be no assurance that any infringement claims (or
claims for indemnification resulting from infringement claims against third
parties, such as customers) will not be asserted against the Company. If the
Company's product is found to infringe a patent, a court may grant an
injunction to prevent making, selling or using the product in the applicable
country. Protracted litigation may be necessary to defend the Company against
alleged infringement of others' rights. Irrespective of the validity or
success of such claims, defense of such claims could result in significant
costs to the Company and the diversion of time and effort by management,
either of which by itself could have a material adverse effect on the
business, financial condition or results of operations of the Company.
Further, adverse determinations in such litigation could result in the
Company's loss of proprietary rights, subject the Company to significant
liabilities (including treble damages in certain circumstances), or prevent
the Company from selling its products. If infringement claims are asserted
against the Company, the Company may seek to obtain a license of such third
party's intellectual property rights, which may not be available under
reasonable terms or at all. In addition, litigation may be necessary to
enforce patents issued to or licensed exclusively to the Company and to
protect trade secrets or know-how owned or licensed by the Company and,
whether or not the Company is successful in defending such intellectual
property, the Company could incur significant costs and divert considerable
management and key technician time and effort with respect to the prosecution
of such litigation, either of which by itself could have a material adverse
effect on the business, financial condition or results of operations of the
Company. See "--Intellectual Property and Proprietary Rights."
INTERNATIONAL BUSINESS; RISK OF CHANGE IN FOREIGN REGULATIONS;
FLUCTUATION IN EXCHANGE RATES. The Company markets its products to customers
outside of the United States and, accordingly, is exposed to the risks of
international business operations, including unexpected changes in regulatory
requirements, changes in foreign control legislation, possible foreign
currency controls, uncertain ability to protect and utilize its intellectual
property in foreign jurisdictions, currency exchange rate fluctuations or
devaluation, tariffs or other barriers, difficulties in staffing and managing
foreign operations, difficulties in obtaining and managing vendors and
distributors, and potentially negative tax consequences. International sales
are subject to certain inherent risks including tariffs, embargoes and other
trade barriers, staffing and operating foreign sales and service operations
16
and collecting accounts receivable. The Company is also subject to risks
associated with regulations relating to the import and export of high
technology products. The Company cannot predict whether quotas, duties, taxes
or other charges or restrictions upon the importation or exportation of the
Company's products in the future will be implemented by the United States or
any other country. Fluctuations in currency exchange rates could cause the
Company's products to become relatively more expensive to customers in a
particular country, leading to a reduction in sales or profitability in that
country. There can be no assurance that any of these factors will not have a
material adverse effect on the Company's business, financial condition or
results of operations.
PRODUCT LIABILITY RISKS; RISK OF FAILURE TO DETECT EXPLOSIVES;
AVAILABILITY OF INSURANCE. The Company's business exposes it to potential
product liability risks which are inherent in the manufacturing and sale of
explosive detection systems. There are many factors beyond the control of the
Company that could lead to liability claims, such as the reliability of the
customer's operators, the training of the operators after the initial
installation and training period, and the maintenance of the units by the
customers. For these and other reasons, including software and hardware
limitations and malfunctions of the CTX 5000 Series, there can be no
assurance that the systems will detect all explosives hidden in the luggage
scanned. The Company does not believe that it would be liable for any such
claims, but the cost of defending any such claims would be significant and
any adverse determination may be in excess of the Company's insurance
coverage. Moreover, the failure of the CTX 5000 Series to detect an explosive
would also result in negative publicity which could have a material adverse
effect on sales and may cause customers to cancel orders already placed,
either of which could have a material adverse effect on the Company's
business, financial condition or results of operations. Many of the Company's
customers require the Company to maintain insurance at certain levels. The
Company currently has product liability insurance in the amount of $150
million. There can be no assurance that additional insurance coverage, if
required by customers or otherwise, could be obtained on acceptable terms, if
at all.
UNCERTAINTY OF PRODUCT DEVELOPMENT. The Company's success will depend
upon its ability to enhance its existing products, and to develop new
products to meet regulatory and customer requirements and to achieve market
acceptance. The enhancement and development of these products will be subject
to all of the risks associated with new product development, including
unanticipated delays, expenses, technical problems or other difficulties that
could result in the abandonment or substantial change in the
commercialization of these enhancements or new products. Given the
uncertainties inherent with product development and introduction, there can
be no assurance that the Company will be successful in introducing products
or product enhancements, including products that meet FAA certification
standards, on a timely basis, if at all, or that the Company will be able to
market successfully these products and product enhancements once developed.
RISKS ASSOCIATED WITH POTENTIAL ACQUISITIONS. An element of the
Company's strategy is to review acquisition prospects that would complement
its existing product offerings, augment its market coverage, enhance its
technological capabilities or otherwise offer growth opportunities. Future
acquisitions by the Company could result in potentially dilutive issuances of
equity securities, the incurrence of debt and contingent liabilities, and
amortization expenses related to goodwill and other intangible assets, any of
which could materially adversely affect the Company's business, financial
condition or results of operations. Acquisitions entail numerous risks,
including difficulties in the assimilation of acquired operations,
technologies and products, diversion of management's attention from other
business concerns, risks of entering markets in which the Company has no or
limited prior experience and potential loss of key employees of acquired
organizations. The Company's management has limited experience in
assimilating acquired organizations. No assurance can be given as to the
ability of the Company to successfully integrate any businesses, products,
technologies or personnel that might be acquired in the future, and the
failure of the Company to do so could have a material adverse effect on the
Company's business, financial condition or results of operations.
CONCENTRATION OF OWNERSHIP; CONTROL BY MANAGEMENT. As of December 31,
1997, the Company's principal stockholder, HARAX Holding, S.A. ("HARAX"), and
its affiliates held approximately 21.8% of the Company's Common Stock, and
the present directors and executive officers of the Company and their
affiliates, in the aggregate, beneficially owned approximately 13.5% of the
outstanding Common Stock, in each case including shares issuable pursuant to
stock options exercisable within 60 days of December 31, 1997. Consequently,
HARAX together with the Company's directors and executive officers, acting in
concert, have the ability to significantly affect the election of the
Company's directors and have a significant effect on the outcome of
17
corporate actions requiring stockholder approval. In addition, HARAX, acting
alone, has the power to significantly affect matters relating to the
Company's affairs and business.
ANTI-TAKEOVER PROVISIONS. The Company's Restated Certificate of
Incorporation contains certain provisions that may discourage bids for the
Company. This could limit the price that certain investors might be willing
to pay in the future for shares of the Common Stock.
YEAR 2000 COMPLIANCE. The CTX 5000 Series contains installed computer
systems and software products which are coded to accept only two digit
entries in the date code field. Beginning in the year 2000, these date code
fields will need to accept four digit entries to distinguish 21st century
dates from 20th century dates. While uncertainty exists concerning the
potential effects associated with such compliance, the Company does not
believe that year 2000 compliance will result in a material adverse effect on
its financial condition or results of operations.
VOLATILITY OF STOCK PRICE. Since the Company's initial public offering
in April 1996, the price of the Company's Common Stock has fluctuated widely,
with sales on The Nasdaq Stock Market ranging from, on a post-split basis,
$4.63 to $17.88. See "Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters." The market price of the shares of Common
Stock, like that of the common stock of many other high technology companies,
is highly volatile. The Company believes that factors such as the crash of
TWA Flight 800, the Gore Commission report and the entering into of the FAA
contract for 54 CTX 5000 systems have greatly affected the fluctuation in the
Company's Common Stock trading price. In the future such events, as well as
announcements of technological innovations or new products by the Company or
its competitors and general market conditions, may have a significant effect
on the market price of the Common Stock. In addition, in recent years the
stock market in general, and the market for small capitalization stocks in
particular, has experienced extreme price fluctuations which have often been
unrelated to the operating performance of affected companies. Such
fluctuations could adversely affect the market price of the Company's Common
Stock.
ITEM 2. PROPERTIES.
In March 1997, the Company entered into a lease for a new principal
corporate office and manufacturing facility in Newark, California, which
consists of approximately 95,000 square feet under a lease which expires in
May 2007. The Company has an option to extend the lease for five years. The
initial base rent under this lease is approximately $672,000 per year.
InVision relocated to this new facility in October 1997. Management believes
that the new facilities will be sufficient to satisfy InVision's
administrative and manufacturing needs for the foreseeable future.
InVision's former manufacturing facility produced approximately five systems
per month, which was the practical maximum capacity of that facility. The new
facility has a capacity in excess of 15 systems per month before
implementation of activities for manufacturing cycle time reduction and
multiple shifts.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, the Company may be involved in litigation, including
litigation relating to claims arising out of its operations in the normal
course of business. The Company is not currently a party to any legal
proceedings, the adverse outcome of which, in the Company management's
opinion, individually or in aggregate would have a material adverse effect on
the Company's business, financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
18
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
MARKET INFORMATION
On April 23, 1996, the Company's Common Stock commenced trading on the
Nasdaq SmallCap Market under the symbol "INVN". Prior to that date, there
was no public market for the Common Stock. On May 15, 1997, the Company's
Common Stock commenced trading on the Nasdaq National Market and ceased to
trade on the Nasdaq SmallCap Market. The following table sets forth, for the
periods indicated, the high and low bid quotations of the the Company Common
Stock as reported on the Nasdaq SmallCap Market/Nasdaq National Market giving
effect to the Company's 2-for-1 stock split effected on February 7, 1997 as
if the stock split had occurred on April 23, 1996. These over-the-counter
quotations reflect inter-dealer prices, without retail markup, markdown or
commission, and may not necessarily represent the sales prices in actual
transactions.
THE NASDAQ
STOCK MARKET
------------
HIGH LOW
---- ----
1996
- -----
Second quarter (from April 23, 1996) $ 6 5/8 $ 5 5/8
Third quarter 17 1/16 4 5/8
Fourth quarter 17 5/16 10 7/8
1997
- -----
First quarter $ 17 5/8 $13 5/8
Second quarter 16 3/4 12 1/16
Third quarter 16 7/8 12 7/8
Fourth quarter 14 5/8 6 15/16
On March 20, 1998, the last sale price of the Company Common Stock on the
Nasdaq National Market was $9.375 per share. On February 28, 1997 there were
approximately 270 stockholders of record of the Company Common Stock.
DIVIDENDS
The Company has never declared or paid cash dividends on its Common
Stock and it is currently the intention of the Board of Directors not to pay
cash dividends in the foreseeable future. The Company plans to retain
earnings, if any, to finance its operations. In addition, the Company's bank
credit facility prohibits the payment of dividends without the lender's
consent.
RECENT SALES OF UNREGISTERED SECURITIES
From January 1, 1997 through December 31, 1997, the Company neither sold
nor issued any unregistered securities.
19
ITEM 6. SELECTED FINANCIAL DATA.
SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth for the periods and the dates indicated
certain financial data which should be read in conjunction with "Item
7. Management's Discussion and Analysis of Financial Condition and Results
of Operations" and the consolidated financial statements and notes thereto
included elsewhere herein. In September 1997, InVision acquired Quantum in a
stock-for-stock transaction accounted for as a pooling of interests,
accordingly all prior periods have been restated to include Quantum's
results.
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------
1993 1994 1995 1996 1997
---- ---- ---- ---- -----
(In thousands, except per share data)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues $ -- $ -- $ 9,066 $ 15,841 $ 56,427
Cost of revenues -- -- 6,777 9,736 28,027
-------- -------- --------- --------- ----------
Gross profit -- -- 2,289 6,105 28,400
-------- -------- --------- --------- ----------
Operating expenses:
Research and development (1) 1,138 1,155 2,247 2,801 7,375
Sales and marketing 541 812 2,182 3,800 6,130
General and administrative 1,487 1,556 2,307 3,768 6,193
Acquisition costs -- -- -- -- 685
-------- -------- --------- --------- ----------
Total operating expenses 3,166 3,523 6,736 10,369 20,383
-------- -------- --------- --------- ----------
Income (loss) from operations (3,166) (3,523) (4,447)(2) (4,264)(2) 8,017
Interest expense (288) (429) (482) (1,599)(3) (428)
Interest and other income, net 6 7 34 187 242
-------- -------- --------- --------- ----------
Income (loss) before provision for income taxes (3,448) (3,945) (4,895) (5,676) 7,831
Provision for income taxes -- -- -- -- 1,192
-------- -------- --------- --------- ----------
Net income (loss) $ (3,448) $ (3,945) $ (4,895) $ (5,676) $ 6,639
-------- -------- --------- --------- ----------
-------- -------- --------- --------- ----------
Net income (loss) per share (4):
Basic $ (28.26) $ (25.45) $ (19.98) $ (0.90) $ 0.60
Diluted $ (28.26) $ (25.45) $ (19.98) $ (0.90) $ 0.55
Weighted average shares outstanding:
Basic 122 155 245 6,338 11,141
Diluted 122 155 245 6,338 12,166
DECEMBER 31,
-----------------------------------------------------------------------
1993 1994 1995 1996 1997
---- ---- ---- ---- -----
(In thousands)
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments $ 250 $ 2,328 $ 3,715 $ 2,471 $ 19,190
Working capital (deficit) (5,026) (5,319) (2,785) 6,875 31,172
Total assets 2,750 5,388 9,863 16,949 57,251
Long-term liabilities -- -- 95 144 1,336
Total stockholders' equity (deficit) (4,185) (4,573) (1,619) 8,875 38,816
- ------------------------------
(1) Net of amounts reimbursed under development agreements with governmental
and private institutions of $3.9 million, $3.3 million, $3.1 million, $4.9
million, and $8.5 million, respectively, during 1993, 1994, 1995, 1996 and
1997. See Note 5 of Notes to Consolidated Financial Statements.
(2) The Company recorded non-cash charges related to grants of stock options
having exercise prices below the fair market value on the date of grant to
employees and directors in the amounts of $362,000, $494,000 and $425,000
respectively, in 1995, 1996 and 1997. See Note 8 of Notes to Consolidated
Financial Statements.
(3) The Company recorded a non-cash charge resulting from amortization of a
discount in connection with Warrants in the amount of $1.3 million in 1996.
See Note 6 of Notes to Consolidated Financial Statements.
(4) See Note 2 of Notes to Consolidated Financial Statements for an explanation
of the method used to compute per share amounts.
20
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS WHICH
INVOLVE RISKS AND UNCERTAINTIES. WHEN USED IN THIS DISCUSSION, THE WORDS
"ANTICIPATE," "BELIEVE," "ESTIMATE," AND "EXPECT" AND SIMILAR EXPRESSIONS AS
THEY RELATE TO THE COMPANY OR ITS MANAGEMENT ARE INTENDED TO IDENTIFY SUCH
FORWARD-LOOKING STATEMENTS. THE COMPANY'S ACTUAL RESULTS, PERFORMANCE OR
ACHIEVEMENTS COULD DIFFER MATERIALLY FROM THE RESULTS EXPRESSED IN, OR
IMPLIED BY, THESE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE OR
CONTRIBUTE TO SUCH DIFFERENCES INCLUDE RISKS RELATED TO MARKET ACCEPTANCE OF
THE COMPANY'S CURRENT PRODUCTS AND NEW PRODUCTS IN DEVELOPMENT, FLUCTUATIONS
IN THE COMPANY'S QUARTERLY AND ANNUAL OPERATING RESULTS, THE LOSS OF ORDERS
OF THE COMPANY'S PRODUCTS, INCLUDING THE LOSS OF THE COMPANY'S ORDER FROM THE
FAA OR THE FAILURE TO OBTAIN ADDITIONAL ORDERS, LOSS OF ANY OF THE COMPANY'S
SOLE SOURCE SUPPLIERS, INTENSE COMPETITION, RELIANCE ON LARGE ORDERS,
CONCENTRATION OF THE COMPANY'S CUSTOMERS, RISKS RELATED TO THE LENGTHY SALES
CYCLES FOR THE COMPANY'S PRODUCTS, BUDGETING LIMITATIONS OF THE COMPANY'S
CUSTOMERS AND PROSPECTIVE CUSTOMERS, AS WELL AS THOSE DISCUSSED IN "ITEM
1--BUSINESS" AND MORE PARTICULARLY IN THE "BUSINESS RISKS" SECTION THEREOF.
OVERVIEW
InVision designs, manufactures and markets an explosive detection system
based on advanced CT technology. InVision was formed in September 1990 to
design and develop the CTX 5000 and remained in the development stage through
December 1994. In June 1994, InVision received its first commercial order for
a CTX 5000 system from the Brussels International Airport in Belgium, and
since such time has received orders for a total of 120 systems, of which a
total of 84 had been shipped as of December 31, 1997. For the fiscal year
ended December 31, 1997, the Company had revenues of $56.4 million, and at
December 31, 1997 had orders in backlog of approximately $32 million.
On September 30, 1997, InVision acquired Quantum, a privately-held
developer of explosives detection equipment based on quadrupole resonance
technology. The transaction has been accounted for as a pooling of interests
in the quarter ended September 30, 1997; therefore, all prior periods have
been restated to include Quantum's results. Quantum is currently a
development stage company with products in the prototype stage and a recent
order from the FAA to supply two QSCAN-500 advanced technology systems with
an option for three more units. Quantum is also a leading supplier of
research and development services in the area of electromagnetic sensing and
detection technologies to a number of government agencies.
The Company considers research and development to be a vital part of its
operating discipline and continues to dedicate substantial resources to
research to enhance the performance, functionality and reliability of its CTX
5000 Series hardware and software. At December 31, 1997, the Company had 103
full-time employees engaged in research and development activities, and also
was using the services of approximately 20 specialized contract employees and
consultants in this area. Beginning in 1991, total research and development
expenditures by the Company have been partially offset by amounts reimbursed
under development contracts and grants. The Company believes that investment
in research and development in absolute dollars will increase substantially
to meet its future needs regardless of the level of funding received from
development contracts. During the year ended December 31, 1997, the Company
spent $15.9 million on research and development activities, of which $8.5
million was funded under development contracts and grants. To the extent that
development contracts and grant receipts decline in the future, research and
development expenses borne by the Company would increase, and the Company
expects that its results of operations would be adversely impacted.
The Company markets its products both directly through internal sales
personnel and indirectly through authorized agents, distributors and systems
integrators. In the United States, the Company markets its CTX 5000 Series
primarily through direct sales personnel. Internationally, the Company
utilizes both a direct sales force and authorized agents to sell its
products. During the years ended December 31, 1997 and 1996, international
sales represented 44.9% and 76.2%, respectively, of the Company's revenues.
The sales cycle of the CTX 5000 Series is often lengthy due to the
protracted approval process that typically accompanies large capital
expenditures and the time required to manufacture the CTX 5000 Series and
install and assimilate the CTX 5000 Series. Typically, six to twelve months
may elapse between a new customer's initial evaluation of the Company's
systems and the execution of a contract. Another three months to a year may
elapse prior to shipment of the CTX 5000 Series as the customer site is
prepared and the CTX 5000 Series is manufactured. During this period the
Company expends substantial funds and management resources but recognizes no
associated revenue.
The Company recognizes revenue on shipment unless extended acceptance
criteria exist, in which case revenue is recognized upon achievement of such
acceptance criteria. The Company typically requires customer
21
deposits in advance of shipment on customer purchase orders. Provision for
estimated installation, training and warranty costs is recorded at the time
revenue is recognized. Systems typically carry a one-year warranty.
RESULTS OF OPERATIONS
The following table sets forth certain income and expenditure items from the
Company's consolidated statement of operations expressed as a percentage of
revenues for the periods indicated.
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996 1997
---- ---- ----
Revenues 100.0% 100.0% 100.0%
Cost of revenues 74.8 61.5 49.7
------ ------ ------
Gross profit 25.2 38.5 50.3
------ ------ ------
Operating expenses:
Research and development 24.8 17.7 13.1
Sales and marketing 24.1 24.0 10.8
General and administrative 25.4 23.8 11.0
Acquisition Costs -- -- 1.2
------ ------ ------
Total operating expenses 74.3 65.5 36.1
------ ------ ------
Loss from operations (49.1) (27.0) 14.2
Interest expense (5.3) (10.1) (0.8)
Interest and other income, net 0.4 1.2 0.5
------ ------ ------
Income (loss) before provision for income tax (54.0) (35.9) 13.9
Provision for income taxes -- -- 2.1
------ ------ ------
Net income (loss) (54.0)% (35.9)% 11.8%
------ ------ ------
------ ------ ------
COMPARISON OF FISCAL YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
REVENUES. The Company's revenues are comprised of system revenues, which
include sales of the CTX 5000, accessories, installation and configuration,
and maintenance related to product support. Quantum research and development
contracts were reported as revenues prior to the acquisition by InVision.
All Quantum research and development revenues have been restated as a
reduction to research and development expense in accordance with the
Company's policy. The Company typically ships against a backlog of orders
for its product. The Backlog as of December 31, 1997 decreased approximately
45% to $32 million from approximately $58 million as of December 31, 1996.
The Backlog as of December 31, 1995 was approximately $5.7 million.
Revenues increased by 257% to $56.4 million in 1997 from $15.8 million in
1996. The increase in 1997 revenues is attributable to increased sales of the
CTX 5000, reflecting a 211.1% increase in unit shipments to 56 units in 1997
from 18 units in 1996 and, to a lesser extent, changes in product
configuration leading to an increase in the average selling price per unit
and sales of add-on products to current customers and the commencement of
significant maintenance related revenues. The revenues were $9.1 million in
1995, the first year in which sales of the CTX 5000 occurred due to lower
unit sales of the CTX 5000.
GROSS PROFIT. Cost of revenues primarily consists of purchased materials
procured for use in the assembly of the Company's products, as well as
manufacturing labor, overhead and warranty costs. In any given period the
Company's gross profit may be affected by several factors, including revenue
mix, product configuration, location of the installation, and complexity of
integration into various airport environments.
Gross profit increased by 365% to $28.4 million in 1997 from $6.1 million
in 1996, and gross profit increased 167% to $6.1 million in 1996 from $2.3
million in 1995. Gross margins were 50.3% in 1997, 38.5% in 1996 and 25.2%
in 1995. The increase in gross margins was primarily caused by lower unit
costs resulting from increased manufacturing efficiency and reduced overhead
cost per unit due to increased volume, as well as
22
changes in product configurations leading to an increase in the average selling
price. Increased operating efficiencies resulting from a larger installed
base also reduced the average cost of maintenance and warranty service.
RESEARCH AND DEVELOPMENT. Research and development expenditures consist
primarily of compensation paid to personnel engaged in research and
development activities, amounts paid for outside services, and costs of
materials utilized in the development of hardware products, including
prototype units. All software and hardware development costs are expensed as
incurred. Beginning in 1991, total research and development expenditures by
the Company have been partially offset by amounts reimbursed under
development contracts and grants. The Company believes that investment in
research and development in absolute dollars will increase substantially to
meet its future needs regardless of the level of funding received from the
development contracts.
Total research and development expenditures increased by 106% to $15.9
million in 1997 from $7.7 million in 1996 and by 45% in 1996 from $5.3
million in 1995. Of these amounts, $8.5 million, $4.9 million and $3.1
million, respectively, were funded by research and development contracts and
grants in 1997, 1996 and 1995. As a percentage of revenues, total research
and development expenditures (before funding offsets) declined to
approximately 28.2% in 1997 from 48.7% in 1996 and from 58.2% in 1995. The
increase in absolute dollar expenditures reflects the effects of personnel
additions, costs of prototype development, efforts to increase throughput and
develop systems for more effective airport integration, and conceptual
design. Research and development expense (net of funding) as a percentage of
revenues declined to approximately 13.0% in 1997 from 17.7% in 1996 and from
24.8% in 1995.
SALES AND MARKETING. Sales and marketing expenses consist primarily of
compensation paid to direct and indirect sales and marketing personnel,
payments to consultants, travel related to the sales process, and other
selling and distribution costs.
Sales and marketing expenses increased by 61.3% to $6.1 million in 1997
from $3.8 million in 1996 and by 74.2% in 1996 from $2.1 million in 1995. As
a percentage of revenues, sales and marketing expenses declined to 10.8% in
1997 from 24.0% in 1996. The increased levels of expenditures in absolute
dollars for 1997 and 1996 reflect increased selling costs associated with the
higher unit sales, including foreign travel, trade shows, public relations
and commissions.
GENERAL AND ADMINISTRATIVE. General and administrative expenses consist
primarily of compensation paid to administrative personnel, including
directors, payments to consultants, professional service fees, insurance,
travel and other general expenses.
General and administrative expenses increased by 64.4% to $6.2 million in
1997 from $3.8 million in 1996 and by 63.3% in 1996 from $2.3 million in
1995. As a percentage of revenues, general and administrative expense