Back to GetFilings.com
U.S. 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 MAY 31, 2003
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 0-22182
PATRIOT SCIENTIFIC CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 84-1070278
(State or other jurisdiction of (I.R.S. Empl. Ident. No.)
incorporation or organization)
10989 Via Frontera, San Diego, California 92127
----------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code): (858) 674-5000
--------------
Securities registered under Section 12(b) of the Exchange Act: NONE Securities
registered under Section 12(g) of the Exchange Act:
Common Stock, $.00001 par value
(Title of Class)
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 the 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. [ X ]
Indicate by check mark whether the registrant is an accelerated filer.
YES NO
--- ---
As of November 29, 2002, the last business day of Registrant's most recently
completed second fiscal quarter, there were 87,489,354 shares of Registrant's
Common Stock outstanding and the aggregate market value of Common Stock held by
non-affiliates of Registrant was $5,614,000 (based upon the closing price for
shares of Registrant's Common Stock as reported on the OTC Electronic Bulletin
Board system on November 29, 2002). Shares of Common Stock held by each officer,
director and holder of 5% or more of the outstanding Common Stock (including
shares with respect to which a holder has the right to acquire beneficial
ownership within 60 days) have been excluded in that such persons may be deemed
to be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
At August 28, 2003, 123,518,272 shares of common stock, par value $.00001 per
share (the registrant's only class of voting stock) were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE: None
TABLE OF CONTENTS
Page
PART I
ITEM 1. Description of Business 3
ITEM 2. Description of Property 13
ITEM 3. Legal Proceedings 13
ITEM 4. Submission of Matters to a Vote of Security Holders 13
PART II
ITEM 5. Market for Registrant's Common Equity and Related 13
Stockholder Matters
ITEM 6. Selected Consolidated Financial Data 14
ITEM 7. Management's Discussion and Analysis of Financial 15
Condition and Results of Operations
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk 25
ITEM 8. Financial Statements and Supplementary Data 25
ITEM 9. Changes in and Disagreements with Accountants on 26
Accounting and Financial Disclosure
PART III
ITEM 10. Directors, Executive Officers of the Registrant 26
ITEM 11. Executive Compensation 28
ITEM 12. Security Ownership of Certain Beneficial Owners and Management 31
ITEM 13. Certain Relationships and Related Transactions 33
ITEM 14. Controls and Procedures 34
ITEM 15. Principal Accountant Fees and Services 34
PART IV
ITEM 16. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 35
2
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K, including all documents incorporated by
reference, includes "forward-looking" statements within the meaning of Section
27A of the Securities Act and Section 21E of the Exchange Act and the Private
Securities Litigation Reform Act of 1995, and we desire to take advantage of the
"safe harbor" provisions thereof. Therefore, we are including this statement for
the express purpose of availing ourselves of the protections of such safe harbor
with respect to all of such forward-looking statements. The forward-looking
statements in this Report reflect our current views with respect to future
events and financial performance. These forward-looking statements are subject
to certain risks and uncertainties, including specifically the absence of
significant revenues, a history of losses, no assurance that technology can be
completed or that our completion will not be delayed, significant competition,
the uncertainty of patent and proprietary rights, uncertainty as to royalty
payments and indemnification risks, possible adverse effects of future sales of
shares on the market, trading risks of low-priced stocks and those other risks
and uncertainties discussed herein, that could cause actual results to differ
materially from historical results or those anticipated. In this report, the
words "anticipates," "believes," "expects," "intends," "future" and similar
expressions identify certain of the forward-looking statements. Readers are
cautioned not to place undue reliance on the forward-looking statements
contained herein, which speak only as of the date hereof. We undertake no
obligation to publicly revise these forward-looking statements to reflect events
or circumstances that may arise after the date hereof. All subsequent written
and oral forward-looking statements attributable to us or persons acting on our
behalf are expressly qualified in their entirety by this section.
PART I
ITEM 1. DESCRIPTION OF BUSINESS
THE COMPANY
Patriot Scientific Corporation was organized under Delaware law on
March 24, 1992, as the successor by merger to Patriot Financial Corporation, a
Colorado corporation incorporated on June 10, 1987. Our address is 10989 Via
Frontera, San Diego, California 92127, and our telephone number is (858)
674-5000. Our home page can be located on the World Wide Web at
http://www.ptsc.com.
We develop, market, and sell microprocessors, our technology behind the
microprocessors, and complementary products which enable computers and other
data processing devices to communicate. These products can be used to connect to
the Internet or other telecommunication networks. The microprocessor technology
product line accounted for approximately 25% of our revenue in fiscal 2003. The
balance of our 2003 revenue was generated from a communication product line
that, subsequent to a completed last buy program, is generating minimal revenue.
We also have a patent for special radar technology which, if fully developed,
may allow a potential licensee to penetrate the ground or structures to find
various objects. We also owned gas plasma antenna technology which we sold for
$250,000 in August 1999. We potentially could receive up to an additional
$250,000 from the sale of the gas plasma technology in the form of royalties.
Our strategy is to exploit our microprocessor technologies through product
sales, licensing, and strategic alliances.
3
In 1997, we emerged from the development stage primarily as a result of
the acquisition of Metacomp Inc. There can be no assurance that we can achieve
profitable operations, and we may need additional financial resources during the
next twelve months.
BACKGROUND
In February 1989, we completed our initial public offering under a
registration statement on Form S-18 under the Securities Act of 1933. This
offering raised gross proceeds of $50,000 and net proceeds of approximately
$28,640 upon the sale of 2,500,000 units at $.02 per unit. Each unit sold in the
public offering consisted of one common share and one Class A common stock
purchase warrant exercisable to acquire one share of common stock and one Class
B common stock purchase warrant. All Class A and Class B warrants have since
been exercised or have lapsed.
On May 12, 1992, we redomiciled ourselves from Colorado to Delaware by
merging into a wholly owned Delaware subsidiary, Patriot Scientific Corporation,
organized for that purpose. The reincorporation resulted in a reverse stock
split. Three shares of the Colorado corporation, par value $.00001, were
converted into one share of the Delaware corporation, par value $.00001. The
reincorporation also effected a change in our charter and bylaws and a name
change to Patriot Scientific Corporation.
In May 1993, we registered under the Securities Act of 1933 a total of
7,631,606 shares issuable upon the exercise of outstanding Class A and Class B
common stock purchase warrants. We received net proceeds of $3,343,915 upon the
exercise of those warrants and the issuance of 7,538,102 common shares. None of
such warrants remain outstanding.
Effective May 31, 1994, we entered into an asset purchase agreement and
plan of reorganization with nanoTronics Corporation located in Eagle Point,
Oregon and Helmut Falk. We issued a total of 8,500,000 restricted common shares
to nanoTronics to acquire certain microprocessor technology of nanoTronics. The
technology acquired was used to develop a sophisticated yet low cost
microprocessor. 5,000,000 of the shares were issued on a non-contingent basis,
and the remaining 3,500,000 shares were issued subject to the terms of an
earnout escrow arrangement, which concluded on May 31, 1999.
Effective December 26, 1996, we acquired 96.9% of the outstanding
shares of Metacomp, Inc., a California corporation, from 56 shareholders in
exchange for the issuance of 1,272,068 shares of our common stock. Based on the
closing price of our common stock of $1.375 on the date of the acquisition, the
price of the acquisition was $1,749,094. This business combination was accounted
for as a pooling-of-interests.
BUSINESS
ORGANIZATION AND CORPORATE DEVELOPMENT. Our business involves the
following technologies:
o Ignite microprocessor technology,
o high-speed data communications technology, and
o radar technology.
Due to a lack of funds to develop and commercialize JUICEtechnology, a
technology introduced to us in 2001, we assigned our rights in this
technology back to the inventor in April 2003.
The stages of development of our technologies is as follows:
o Ignite microprocessor. This technology is generating minor
amounts of revenue from the sale of development boards,
microprocessors and initial license fees related to the
microprocessor application. We run the technology on a
0.18-micron microprocessor, which is in current production. We
have ported the WindRiver VxWorks operating system and the Sun
Microsystems personalJava virtual machine to the microprocessor.
In addition, the technology is available for sale as intellectual
property which enables the prospective customer to incorporate
the microprocessor functions with other parties' applications to
arrive at a system on a chip solution. Although we anticipate the
Ignite technology to be our main product line, it currently
accounts for only 25% of our revenue in fiscal year 2003.
4
o High-speed data communications. Revenue from this technology was
phased out during fiscal year 2002 as a result of the products
reaching the end of their life cycles. During fiscal 2002 we
initiated a last time buy program and except for minor repeat
orders have discontinued to sell this product line. We have
decided to concentrate our efforts on the Ignite microprocessor
technology. Although the communications product line accounted
for approximately 75% of our fiscal year 2003 revenue, we
anticipate that the Ignite microprocessor will be our main
product line in the future.
o Radar and antenna. We sold the gas plasma antenna technology in
August 1999. Our radar technology has not generated any revenue
and we have suspended further development of this technology in
order to concentrate our resources on our Ignite products.
Due to our small size and staffing overlaps among the technologies,
certain personnel may work on any or all of our technologies from time to time.
During at least the last three years, we have focused the majority of
our efforts on the Ignite technology. The Ignite technology is targeted for the
embedded controller and Java language processor marketplaces.
INTERNET GROWTH AND THE EMERGENCE OF THE JAVA PROGRAMMING LANGUAGE. The
Internet is a global web of computer networks. This "network of networks" allows
computers connected to the Internet to "talk" to one another. The Internet
provides organizations and individuals with new means to conduct business.
Commercial uses of the Internet include business-to-business and
business-to-consumer transactions, product marketing, advertising,
entertainment, electronic publishing, electronic services and customer support.
We believe that organizations will also increasingly use the Internet and
private Intranet networks to improve communications, distribute information,
lower operating costs and change operations. Use of the Internet has grown
rapidly impacting computer hardware, software and peripheral industries. The
rapid growth in popularity of the Internet is in part due to continuing
penetration of computers and modems into U.S. households, growth of the
informational, entertainment and commercial applications and resources of the
Internet, the growing awareness of such resources among individuals, and the
increasing availability of user-friendly navigational and utility tools which
enable easier access to the Internet's resources.
The growth of the Internet and corporate Intranets is creating a demand
for hardware, software and peripherals. Software, such as Java, has been
developed to serve the requirements of Internet users.
Java is a programming language that was originally developed for
personal digital assistant devices and television set top boxes. It was formally
announced as an object-oriented language for the Internet in May 1995 by Sun
Microsystems Inc. A large number of major computer, software, browser and
on-line service provider companies have licensed the Java language. Accordingly,
Java is a fundamental platform for Internet related applications. A significant
number of Java applications, or applets, are now available on the Internet.
These applications not only enhance web pages but also perform many functions of
traditional computer software programs. Our Ignite technology lends itself to
potential markets in which the use of Java is prevalent.
With Java, data and programs do not have to be stored on the user's
computer, but can reside anywhere on the Internet to be called upon as needed.
Among its various attributes, two key features of Java are (1) its ability to
run on a variety of computer operating systems thus avoiding the problem of
incompatibility across networks, and (2) security, because Java enables the
construction of virus-resistant, tamper-resistant systems by using
resource-access control and public-key encryption. Because of Java's useful
features, it has also become a popular programming language for embedded
applications.
Since Java is designed to run on multiple types of devices and
operating systems, it allows developers to write a program once for many types
of operating systems, instead of having to write new versions for each type.
Java does this by interpreting a program's commands into something that a
particular type of computer can understand. This interpretive design runs
programs slower than if they were tailored for each type of computer and is
resulting in a need for specialized microprocessors and compilers to increase
Java's speed.
5
The growth of Java is causing a number of companies to consider it as a
basis for a new style of computing tailored to the Internet and not encumbered
by the limitations of, or requiring, traditional computer operating systems. The
concept is to design inexpensive access devices to communicate via the Internet.
OUR MICROPROCESSOR TECHNOLOGY.
General Background. In 1991, nanoTronics Corporation was formed and
acquired a base technology for an advanced microprocessor integrated on a single
computer chip. nanoTronics subsequently engaged in substantial technical
development and fabricated a first-generation microprocessor in early 1994.
Since the acquisition of the technology from nanoTronics, effective May
31, 1994, we have been engaged in enhancing the microprocessor design, adding
additional technical features to further modernize the design, and improving and
testing the new design. We initially fabricated a prototype 0.8-micron
microprocessor in May 1996. The next generation was a 0.5-micron microprocessor
that was delivered in September 1997. The 0.5-micron microprocessor was employed
in demonstrations for prospective customers and was shipped in limited numbers
to customers as an embedded microprocessor. In 1998 we introduced a 0.35-micron
microprocessor whose features included a reduction in size and improved
performance. In addition, in September 2000 we completed a VHDL model of this
technology which enables customers to purchase intellectual property
incorporating microprocessor functions with other parties' applications to
arrive at a system on a chip solution. By purchasing this software model,
customers can significantly reduce their time to market by simulating results as
opposed to trial and error commitment to silicon production. We currently have a
0.18-micron enhancement of silicon production for our Ignite microprocessor
technology.
Industry Background. The semiconductor logic market has three major
sectors:
o standard logic products,
o application specific standard products, and
o application specific integrated circuits.
Standard logic products, such as the Intel's X86 and Pentium and
Motorola's 680X0 microprocessor families, are neither application nor customer
specific. They are intended to be utilized by a large group of systems designers
for a broad range of applications. Because they are designed to be used in a
broad array of applications, they may not be cost effective for specific
applications. Application specific integrated circuits are designed to meet the
specific application of one customer. While cost effective for that application,
application specific integrated circuits require large sales volumes of that
application to recover their development costs. Application specific standard
processors are developed for one or more applications but are not generally
proprietary to one customer. Examples of these applications include modems,
cellular telephones, wireless communications, multimedia applications, facsimile
machines and local area networks. We have designed our microprocessor to be
combined with application specific software to serve as an embedded control
product for the application specific standard processor market sector.
Application specific standard processors are typically used in embedded
control systems by manufacturers to provide an integrated solution for
application specific control requirements. Such systems usually contain a
microprocessor or microcontroller, logic circuitry, memory and input/output
circuitry. Electronic system manufacturers combine one or more of these elements
to fit a specific application. The microprocessor provides the intelligence to
control the system. The logic circuitry provides functions specific to the end
application. The input/output circuitry may also be application specific or an
industry standard component. The memory element, if not on the microprocessor,
is usually a standard product used to store program instructions and data. In
the past, these functions have been executed through multiple integrated
circuits assembled on a printed circuit board. The requirements for reduced cost
and improved system performance have created market opportunities for
semiconductor suppliers to integrate some or all of these elements into a single
application specific standard processor or chip set, such as the Ignite family
of microprocessors. The Ignite family provides close integration of the
microprocessor and input/output function with the logic circuitry, thereby
providing an advanced application specific standard processor.
Embedded control systems enable manufacturers to differentiate their
products, replace less efficient electromechanical control devices, add product
functionality and reduce product costs. In addition, embedded control systems
facilitate the emergence of completely new classes of products. Embedded control
systems have been incorporated into thousands of products and subassemblies
6
worldwide, including automotive systems, remote controls, appliances, portable
computers and devices, cordless and cellular telephones, motor controls and many
other systems.
Microprocessors are generally available in 4-bit through 64-bit
architectures, which refers to the amount of data they can process. 4-bit
microprocessors are relatively inexpensive, typically less than $1.00 each.
Although they lack certain performance and features, they account for more than
40% of worldwide microcontroller volume. Also in general use today are 8-bit
architectures, generally costing $1.00 to $10.00 each and accounting for an
additional 40% of worldwide microcontroller volume. To date 16-bit, 32-bit and
64-bit architectures, with typical costs of over $10.00 each, have offered very
high performance, but are generally considered to be expensive for high-volume
embedded control applications. The use of 16-bit, 32-bit and 64-bit
architectures offers fewer internal limitations, making programming easier and
providing higher performance. Although generally more expensive per unit and
requiring more support logic and memory, these devices offer many advantages for
more sophisticated embedded control systems.
Electronic system designers, driven by competitive market forces, seek
semiconductor products with more intelligence, functionality and control that
can be used to reduce system costs and improve performance. For these needs, the
Ignite product family was designed to be a sophisticated 32-bit microprocessor
with advanced features. The Ignite product family uses a smaller number of
transistors compared to other RISC processors which results in less power
consumption and more economical prices compared to other embedded control
applications. This creates the opportunity for the development of new,
cost-effective applications.
Technology Description. Conventional high-performance microprocessors
are register-based with large register sets. These registers are directly
addressable storage locations requiring a complex architecture that consumes
costly silicon. This conventional architecture provides processing power for
computer applications but complicates and slows the execution of individual
instructions and increases silicon size, thereby increasing the microprocessor
cost.
Our technology is fundamentally different from most other
microprocessors in that the data is stored in groups. Our microprocessor employs
certain features of both register and stack designs. The resultant merged
stack-register architecture improves program execution for a wide range of
embedded applications. Our design combines two processors in one highly
integrated package, a microprocessing unit for performing conventional
processing tasks, and an input-output processor for performing input-output
functions. This replaces many dedicated peripheral functions supplied with other
processors. The microprocessor's design simplifies the manipulation of data. Our
architecture employs instructions that are shrunk from 32-bits to 8-bits. This
simplified instruction scheme improves execution speed for computer
instructions. Our architecture incorporates many on-chip system functions, thus
eliminating the requirement of support microprocessors and reducing system cost
to users.
The 0.8-micron microprocessor was designed to operate at a speed of
50Mhz; the 0.5-micron microprocessor at a speed of 100Mhz; the 0.35-micron
microprocessor at 150MHz; and the 0.18-micron to operate at speeds in excess of
300Mhz. They are all compatible with a wide range of memory technology from low
cost dynamic random access memory to high-speed static random access memory. The
microprocessors can be packaged in various surface-mount and die-form packaging.
There can be no assurance that the designed speed will be achieved with the
production model of the 0.18-micron microprocessor or future versions or that
all of the desired functions will perform as anticipated.
Our technology is not designed or targeted to compete with high-end
processors for use in personal computers. It is targeted for embedded control
applications. We believe that the features described above differentiate the
Ignite family from other 8-bit to 64-bit microprocessors targeted for embedded
control applications. Considering the reduced requirement for support
microprocessors, the Ignite family is intended to be available at a high volume
price that should be price competitive with high-end 8-bit microprocessor and
general 16-bit microprocessor systems but with higher performance (speed and
functional capability). The Ignite family has been designed to allow high-speed
and high-yield fabrication using generally available wafer fabrication
technology and facilities.
The Ignite Microprocessor as a Java Processor. We believe the Ignite
microprocessor architecture is capable of being an efficient and cost effective
Java programming language processor, because Java is designed to run on a
stack-oriented architecture and the Ignite architecture executes the virtual
stack machine internal to Java efficiently. Many Java operation codes or
instructions require only a single 8-bit Ignite family instruction to be
executed, providing a performance advantage over other more expensive processors
that require six or more 32-bit instructions to do the same task. This feature
allows the execution of Java programs with increased speed and reduced code size
thereby enabling lower system memory costs. In addition, the incorporation of
7
many on-chip system functions is expected to allow the Ignite family to perform
most of the other functions required of an Internet computer device or Java
accelerator, thereby eliminating components. Since Internet computers are
designed to be inexpensive appliances for Internet access, cost, speed and
performance are expected to be key requirements for designers. We believe the
Ignite technology can compete favorably on the basis of such requirements,
although there can be no assurance we can successfully exploit Java related
applications or that competitors will not create superior Java processors.
We have ported the Java operating environment to the Ignite family,
which currently uses the C programming language for software support. We are a
licensee of Sun Microsystems Inc. This enables us to develop and distribute
products based on Sun's personalJava, a platform on which to run Java
applications. We have also licensed from Wind River an operating system,
VxWorks, and entered into a relationship with Forth Inc. whereby Forth will
provide software support and operating system development tools for the Forth
Programming language. We believe this solution is competitive in the Java
virtual machine and embedded applications markets. We believe that, if the
implementation is successfully completed, the Ignite I family will be
competitive with Java microprocessors announced by competitors. However, there
can be no assurance of successful implementation of this package of software or
of a market for an Ignite family Java microprocessor.
Stage of Development. In early 1994, nanoTronics initiated production
of a first generation of wafers at a contract fabrication facility using 6 inch
wafers employing 0.8-micron double-metal CMOS technology. After the May 31, 1994
acquisition, we improved the original design, added new features and performed
simulations and tests of the improved designs. In October 1995, a run of six
wafers of second generation 0.8-micron microprocessors was fabricated by a
contract fabrication facility. Subsequently, we tested these microprocessors,
while completing a C computer language compiler and preparing application
development tools. The compiler and application development tools are necessary
to enable system designers to program the Ignite family for specific
applications. We made corrections to the design suggested by the testing of
prototype units and produced an additional run of second generation
microprocessors from remaining wafers in May 1996. In July 1996, we employed
these microprocessors in demonstration boards for use by developers and
prospective customers and licensees.
In December 1997, we completed development of and started shipping a
0.5-micron microprocessor based on the Ignite technology and found that
0.5-micron double-metal CMOS technology improved operating speed, reduced power
requirements, reduced physical size and reduced fabrication cost. In May 1998,
we began a production run of a 0.35-micron microprocessor that further increased
operating speed and cost performance over the previous generations of the Ignite
family of microprocessors.
At each stage of development, microprocessors require extensive testing
to ascertain performance limitations and the extent and nature of errors (bugs),
if any. When significant limitations or errors are discovered, additional rounds
of design modifications and fabrication are required prior to having functional
and demonstrable microprocessors for prospective customers and licensees.
Although our 0.5 and 0.35-micron microprocessors have been sent to prospective
customers in anticipation of production orders, there can be no assurance that
we, during our continued testing of these products, will not identify errors
requiring additional rounds of design and fabrication prior to commercial
production. Additional delays could have an adverse effect on the marketability
of our technology and financial condition.
In September 2000, we completed the VHDL soft-core version of the
Ignite microprocessor family. The hardware design inside a microprocessor, or
silicon device, can be represented as a software program. This, in essence,
replaces the old style of designing microprocessors using schematics. VHDL is
the predominant software language used to design semiconductors. In addition to
the design aspects, VHDL also contains sophisticated simulation tools that allow
the designer to simulate the functionality of the entire design before
committing to silicon. Also VHDL enables a designer to easily modify and enhance
the design. A design represented in VHDL goes through a synthesis process
whereby it is converted to the most basic element of a design, logical gates.
This gate level representation in turn is used with computer aided engineering
tools to translate the design into the most fundamental component of
semiconductors, transistors. The characteristics of the transistors can be given
as a library to a foundry. Therefore, a design represented in VHDL is technology
and foundry independent and can be targeted for any given transistor geometry
(such as 0.18, 0.25, or 0.35- micron) for any foundry of choice.
8
We have developed marketing materials, product manuals and application
development tools for use by licensees and customers. The manuals and tools are
necessary to enable system designers to quickly and easily program the Ignite
family for specific applications.
We believe that the Ignite family is ready for licensing or sale and
that any additional changes encountered in current testing will be minor and can
be made during subsequent production runs of Ignite family microprocessors for
customers, when and if orders are obtained. We also believe the core technology
is ready for licensing for use by others to develop custom microprocessors.
Business Strategy. The increasing demand for embedded control has made
the market for microprocessors one of the largest segments of the semiconductor
logic market. This demand will drive the need for embedded processors. Our
strategy does not entail competing directly with suppliers who have multiple
microprocessor types addressing all parts of the embedded systems market, but on
identifying certain market niches that the Ignite would best address due to its
low cost, low power consumption, small number of transistors and higher
performance.
Because of the above factors, we intend to focus the majority of our
efforts on the embedded microprocessor business, a market without an established
base of microprocessor products and for which we believe the Ignite has
desirable technical and market advantages.
We believe that our architecture is suited for controller applications
requiring high performance and low system cost, such as smart cards, cell
phones, printers, video terminals, robotics, motion controllers, industrial
controllers, digital communication devices, video games, kiosks, cable and
satellite modems and TV set top boxes. We expect that early licensing of the
technology and product applications will focus on embedded control.
We have three international representatives for foreign markets and are
addressing the domestic market with an in-house business development person. We
also have a strategic alliance with an outside microprocessor design house.
We believe the appropriate approach for us initially lies in a balanced
effort of cultivating licensees and developing specific product enhancement
partnerships, producing original equipment manufactured products, and providing
technical support to third parties on a contract basis. The overall balance of
these approaches will be monitored and modified as we attempt to ascertain and
capitalize on the highly dynamic and competitive embedded microprocessor market.
There can be no assurance that we can successfully exploit our microprocessor
technology.
Subject to the availability of financial and personnel resources, while
we are commercializing the Ignite family and the core technology, our strategy
is to also design and develop future versions of the microprocessor with more
demanding sub-micron technology and with more features. However, our resources
are limited, and there can be no assurance that we will be able to continue
microprocessor enhancement.
Initial fabrications of the 0.8-micron and 0.5-micron processors were
performed by contract fabrication facilities. The 0.35-micron microprocessor was
fabricated by a contract fabrication facility that had agreed to provide
production quantities for our customers. We have completed work with a contract
fabrication facility and our design house partner to produce a 0.18-micron
version of the Ignite. There can be no assurance fabrication facilities will be
available to produce the Ignite family in the future. However, since there are a
large number of fabrication facilities with the capability to produce the Ignite
family of microprocessors, we believe microprocessors can be produced on a
contract basis. Industry shortages of fabrication facilities that may exist and
are predicted to exist in the future are generally limited to the more demanding
architectures. If a shortage of fabrication facilities develops, it could have a
material adverse effect on our financial condition.
Competition. The semiconductor industry is intensely competitive and
has been characterized by price erosion, rapid technological change and foreign
competition in many markets. The industry consists of major domestic and
international semiconductor companies, most of which have greater financial,
technical, marketing, distribution, development and other resources than ours.
The market for microprocessors and for embedded control applications is at least
as competitive.
9
While our strategy is to target high-volume licensees and
microprocessor customers requiring more sophisticated but low-cost, low-power
consumption devices, we can still expect significant competition. We may also
elect to develop embedded control system products utilizing our own architecture
or by contract for other manufacturers.
We expect that the Ignite family, if successfully commercialized in the
embedded controller market, will compete with a variety of 16/64-bit
microprocessors including those based on intellectual property from ARM and MIPS
and microprocessors from Hitachi, Motorola and IBM. As a Java processor, we
expect our Ignite family will compete with a broad range of microprocessors
including those incorporating co-processor accelerator technology. The producers
of these microprocessors have significantly greater resources than ours.
A new entrant, such as ours, is at a competitive disadvantage compared
to these and other established producers. A number of factors contribute to
this, including:
o the lack of product performance experience,
o lack of experience by customers in using application development
systems,
o no record of technical service and support, and
o limited marketing and sales capabilities.
JUICETECHNOLOGY
During 2001 we introduced a technology to enhance the users experience
of the wireless internet by expanding the capabilities of his device (either a
cell phone, PDA, smart phone or pocket PC). By varying the speed at which the
microprocessor processes information, the device could have presented
information in a richer format than was available from current technologies and,
additionally, doing so with less drain on the device's battery. Due to a lack of
funds to develop and commercialize JUICEtechnology, we assigned our rights in
this technology back to the inventor in April 2003.
HIGH SPEED DATA COMMUNICATIONS PRODUCTS.
The communication products that reached the end of their life cycles
are:
VME Product Line - a line of intelligent high-speed communications
engines in a virtual memory European form factor. Some of our
customers for these products included the military as well as
large satellite based data communications companies.
Atcomm2/4 Product Line - an intelligent two or four channel
product that was used for high-speed data communications.
Except for minor repeat orders, we no longer support this product line.
We have disposed of or fully reserved the communication product line inventory
and are concentrating our efforts and resources on Ignite.
RADAR AND ANTENNA TECHNOLOGY.
General Background. We commenced active development of our ground
penetrating radar technology in April 1992. By May 1993, we were able to
demonstrate the sensing, processing and crude visualization of images from our
technology, and by May 1994 we had completed our prototype device. Since May
1994, we have focused our efforts and limited financial resources on the
microprocessor technology and communication products, effectively suspending
development and marketing efforts related to ground penetrating radar.
Gas Antenna Technology Description.
We sold our gas plasma technology in August 1999.
RESEARCH AND DEVELOPMENT. Our current development efforts are focused
on improvement of and additional features for the Ignite family microprocessor.
The development of this technology has taken longer than anticipated and could
10
be subject to additional delays. Therefore, there can be no assurance of timely
or successful marketing of this technology.
We incurred research and development expenditures of $723,287,
$1,372,421 and $2,218,433 for our fiscal years ended May 31, 2003, 2002 and
2001. The majority of these expenditures have been devoted to our microprocessor
technology. We believe that technical advances are essential to our success and
expect that we will continue to expend substantial funds on research and
development of our technology. However, there can be no assurance that such
research and development efforts will result in the design and development of a
competitive technology in a timely manner.
LICENSES, PATENTS, TRADE SECRETS AND OTHER PROPRIETARY RIGHTS. We rely
on a combination of patents, copyright and trademark laws, trade secrets,
software security measures, license agreements and nondisclosure agreements to
protect our proprietary technologies. Our policy is to seek the issuance of
patents that we consider important to our business to protect inventions and
technology that support our microprocessor technology.
We have six U.S. patents issued dating back to 1989 on the
microprocessor technology. We have one microprocessor technology patent pending
in five European countries and one patent issued in Japan and may file
additional applications under international treaties depending on an evaluation
of the costs and anticipated benefits that may be obtained by expanding possible
patent coverage. In addition, we have one U.S. patent issued on the ground
penetrating radar technology and one U.S. patent issued on one of the
communications products.
In addition to such factors as innovation, technological expertise and
experienced personnel, we believe that a strong patent position is becoming
increasingly important to compete effectively in the semiconductor industry. It
may become necessary or desirable in the future for us to obtain patent and
technology licenses from other companies relating to certain technology that may
be employed in future products or processes. To date, we have not received
notices of claimed infringement of patents based on our existing processes or
products; but, due to the nature of the industry, we may receive such claims in
the future.
We believe that we may have claims against other semiconductor
companies and companies that use semiconductors with capabilities in excess of
125 MHz in their products. In 2003 we initiated contacts with companies we
believe are infringing on methodologies covered by our patents. If discussions
with potential infringers do not result in favorable business relationships, we
may resort to legal actions to enforce our patents. However, there can be no
assurance that we will be successful in enforcing any potential patent claims
against larger competitors.
Based on the asset purchase agreement and plan of reorganization
between Patriot, nanoTronics and Mr. Falk, we were the recipients of a number of
warranties and indemnities. We believe nanoTronics has been liquidated and, due
to Mr. Falk's death in July 1995, we may be limited in our ability to obtain
satisfaction should we have any future claims against nanoTronics or its
successor, the Falk Family Estate.
We have entered into the following licenses related to the
microprocessor technology:
o Sierra Systems. In June 1994, we entered into an agreement with
Sierra Systems whereby we could provide the C programming
language on the Ignite. We currently provide development boards
with the C programming language.
o Sun Microsystems Inc. In June 1997, we entered into an agreement
with Sun Microsystems, Inc. which enabled us to develop and
distribute products based on Sun's Java's technology. In June
1998, we exercised an option under that agreement to license from
Sun, personalJava, a smaller platform on which to run Java
applications that did not include an operating system. We
determined that personalJava was better suited to the markets
available to the Ignite. We have ported personalJava to the
Ignite.
o Wind River. In July 1997, we entered into an agreement with Wind
River that provided us with a license for an operating system,
VxWorks, to be used in conjunction with personalJava. We have
ported VxWorks to the Ignite.
11
o Forth Inc. In July 1997, we entered into a license agreement with
Forth Inc. whereby Forth will provide software support and
operating system development tools for the Forth programming
language.
We had one U.S. patent on our gas plasma antenna technology that was
sold in August 1999.
We have one U.S. patent on our ground penetrating radar technology. No
foreign application has been made. There are a large number of patents owned by
others in the radar field generally and in the field of ground penetrating radar
specifically. Accordingly, although we are not aware of any possible
infringement and have not received any notices of claimed infringement, we may
receive such claims in the future.
There can be no assurance that any patents will be issued from pending
or future applications or that any patents that are issued will provide
meaningful protection or other commercial advantages to us. Although we intend
to protect our rights vigorously, there can be no assurance that these measures
will be successful.
We generally require all of our employees and consultants, including
our management, to sign a non-disclosure and invention assignment agreement upon
employment with us.
MARKETING AND DISTRIBUTION. Our products are marketed through a
combination of direct sales and distributors. Approximate sales by principal
geographic area (as a percentage of sales) for fiscal years ended May 31 were as
follows:
2003 2002 2001
---- ---- ----
Domestic sales 91% 99% 75%
Foreign sales
Asia - % - % 7%
Europe 9% 1% 6%
North America - % - % 12%
----- ---- ----
Total sales 100% 100% 100%
==== ==== ====
All of our operating assets are located within the United States. While
sales to certain geographic areas generally vary from year to year, we do not
expect that changes in the geographic composition of sales will have a material
adverse effect on operations.
DEPENDENCE UPON SINGLE CUSTOMERS. Ten percent (10%) or more of our
consolidated net sales were derived from shipments to the following customers
for the fiscal years ended May 31as follows:
2003 2002 2001
---- ---- ----
Long Wave, Inc. $43,000 $ - $ -
General Dynamics 23,000 - -
Centratech 15,000 - -
Advanced Relay 15,000 151,000 -
Schindler - 59,000 -
Raytheon - - 88,000
SAIC - - 41,000
Spellcaster - - 40,000
All of the above sales were shipped against multiple purchase orders
from each customer.
We had no backlog as of May 31, 2003 or 2002.
12
EMPLOYEES. We currently have eight personnel. Four persons are employed
in research and development, one in marketing and sales and three are engaged in
general and administrative activities. We also engage additional consultants and
part-time persons as needed from time to time.
Our future success depends in significant part upon the continued
service of our key technical and senior management personnel. The competition
for highly qualified personnel is intense, and there can be no assurance that we
will be able to retain our key managerial and technical employees or that we
will be able to attract and retain additional highly qualified technical and
managerial personnel in the future. None of our employees is represented by a
labor union, and we consider our relations with our employees to be good. None
of our employees is covered by key man life insurance policies.
GOVERNMENT REGULATION. To our knowledge, our products are not subject
to governmental regulation by any federal, state or local agencies that would
affect the manufacture, sale or use of our products, other than occupational
health and safety laws and labor laws which are generally applicable to most
companies. We cannot, of course, predict what sort of regulations of this type
may be imposed in the future but do not anticipate any unusual difficulties in
complying with governmental regulations which may be adopted in the future.
We have not incurred costs associated with environmental laws and do
not anticipate such laws will have any significant effect on our future
business.
ITEM 2. DESCRIPTION OF PROPERTY
We have one 10,300 square foot office located at 10989 Via Frontera,
San Diego, California. The facility is leased through July 2006. In July 2002,
we sublet approximately 5,000 square feet of our facility to an independent
third party. The term of the sublease coincides with the remaining term of our
lease. The reduced floor space provides adequate and suitable facilities for all
of our corporate functions.
ITEM 3. LEGAL PROCEEDINGS
In January 1999, we were sued in the Superior Court of San Diego
County, California by the Fish Family Trust, a co-inventor of the original
ShBoom technology. The suit also named as defendants nanoTronics and Gloria
Felcyn on behalf of the Falk Family Trust. The suit sought a judgment for
damages, a rescission of the Technology Transfer Agreement and a restoration of
the technology to the co-inventor. In March 1999, we joined with nanoTronics and
Gloria Felcyn and filed our response and cross-complaint against the Fish Family
Trust. In November 2000, the judge issued a summary ruling in favor of the
defendants on all counts. The Fish Family Trust filed an appeal in January 2001.
In June 2003, the Appellate Court confirmed the trial court's ruling, thereby,
bringing the dispute to a favorable conclusion.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our Common Stock is traded in the over-the-counter market and is quoted
on the NASD OTC Bulletin Board system maintained by the National Association of
Securities Dealers, Inc. Prices reported represent prices between dealers, do
not include markups, markdowns or commissions and do not necessarily represent
actual transactions. The market for our shares has been sporadic and at times
very limited.
13
The following table sets forth the high and low closing bid quotations
for the Common Stock for the fiscal years ended May 31, 2003 and 2002.
BID QUOTATIONS
HIGH LOW
Fiscal Year Ended May 31, 2003
First Quarter $0.08 $0.06
Second Quarter $0.14 $0.04
Third Quarter $0.09 $0.04
Fourth Quarter $0.09 $0.04
Fiscal Year Ended May 31, 2002
First Quarter $0.53 $0.25
Second Quarter $0.25 $0.10
Third Quarter $0.15 $0.07
Fourth Quarter $0.14 $0.07
We have approximately 550 shareholders of record as of May 31, 2003.
Because most of our common stock is held by brokers and other institutions on
behalf of stockholders, we are unable to estimate the total number of
stockholders represented by these record holders. We have never paid a cash
dividend on our common stock and do not expect to pay one in the foreseeable
future.
RECENT SALE OF UNREGISTERED SECURITIES
During the fourth fiscal quarter ended May 31, 2003, we offered and
sold the following common stock for cash without registration under the
Securities Act of 1933, as amended, and exemption for such sale from
registration under the Act is claimed in reliance upon the exemption provided by
Section 4(2) thereof on the basis that such offer and sale was a transaction not
involving any public offering. Appropriate precautions against transfer have
been taken, including the placing of a restrictive legend on the certificate
evidencing such securities. The sale was effected without the aid of
underwriters, and no sales commissions were paid.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
You should read the selected consolidated financial data set forth
below in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and our consolidated financial statements
and the notes to those statements included elsewhere in this report. The
selected consolidated financial data set forth below for the fiscal years ended
May 31, 2003, 2002, 2001, 2000, and 1999 have been derived from our consolidated
financial statements which have been audited by Nation Smith Hermes Diamond,
independent auditors, for the years ended May 31, 2003 and 2002 and BDO Seidman,
LLP, independent auditors, for the preceding three years.
YEARS ENDED MAY 31,
----------------------------------------------------------------------------------
2003 2002 2001 2000 1999
--------------- --------------- -------------- -------------- --------------
STATEMENTS OF OPERATIONS DATA:
Revenue:
Sales $ 123,903 $ 358,809 $ 337,384 $ 716,960 $ 1,134,545
--------------- --------------- -------------- -------------- --------------
Costs and expenses:
Cost of sales 18,660 393,980 544,320 725,008 711,195
Research and development 723,287 1,372,421 2,218,433 3,170,166 2,149,361
Selling, general and administrative 1,821,902 2,708,579 2,588,579 3,501,128 2,015,058
--------------- --------------- -------------- -------------- --------------
Total costs and expenses 2,563,849 4,474,980 5,351,332 7,396,302 4,875,614
--------------- --------------- -------------- -------------- --------------
Operating loss (2,439,946) (4,116,171) (5,013,948) (6,679,342) (3,741,069)
Other income (expense), net (1,448,353) (1,370,880) 45,045 (809,366) (535,387)
--------------- --------------- -------------- -------------- --------------
Net loss $ (3,888,299) $ (5,487,051) $ (4,968,903) $ (7,488,708) $ (4,276,456)
=============== =============== ============== ============== ==============
Basic and diluted loss per common share $ (0.04) $ (0.08) $ (0.09) $ (0.17) $ (0.11)
Weighted average number of shares-
basic and diluted 93,791,470 66,810,028 53,433,788 44,156,418 38,042,734
MAY 31,
----------------------------------------------------------------------------------
2003 2002 2001 2000 1999
--------------- --------------- -------------- -------------- --------------
BALANCE SHEET DATA:
Cash and cash equivalents $ 32,663 $ 88,108 $ 464,350 $ 2,100,242 $ 35,813
Working capital (deficiency) (1,457,003) (918,768) 328,605 1,769,340 (1,545,055)
Total assets 465,234 934,526 1,543,693 2,733,148 1,145,027
Long-term obligations, net of current
maturities 290,436 331,929 - - -
Total stockholders' equity (deficit) (1,411,764) (444,825) 922,388 2,209,882 (981,234)
14
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Our Results of Operations have been and may continue to be subject to
significant variations. The results for a particular period may vary due to a
number of factors. These include:
o the overall state of the semiconductor industry,
o the development status of and demand for our products,
o economic conditions in our markets,
o the timing of orders,
o the timing of expenditures in anticipation of future sales,
o the mix of products sold by us,
o the introduction of new products,
o product enhancements by us or our competitors, and
o pricing and other competitive conditions.
15
CRITICAL ACCOUNTING POLICIES
We believe that the following represent our critical accounting
policies:
Property, Equipment and Depreciation
Property and equipment are stated at cost. Depreciation is computed
over the estimated useful life of three to five years using the straight-line
method. Long-lived assets and certain identifiable intangibles to be held and
used by the Company are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. We continuously evaluate the recoverability of our long-lived
assets based on estimated future cash flows from and the estimated fair value of
such long-lived assets, and provide for impairment if such undiscounted cash
flows are insufficient to recover the carrying amount of the long-lived asset.
Patents and Trademarks
Patents and trademarks are carried at cost less accumulated
amortization and are amortized over their estimated useful lives of four years.
The carrying value of patents and trademarks is periodically reviewed and
impairments, if any, are recognized when the expected future benefit to be
derived from an individual intangible asset is less than its carrying value.
Revenue Recognition
We recognize revenue on the shipment to our customers of communication
products, microprocessor integrated chips and evaluation boards. We also derive
revenue from fees for the transfer of proven and reusable intellectual property
components or the performance of engineering services. We enter into licensing
agreements that will provide licensees the right to incorporate our intellectual
property components in their products with terms and conditions that will vary
by licensee. Generally, these payments will include a nonrefundable technology
license fee, which will be payable upon the transfer of intellectual property,
or a nonrefundable engineering service fee, which generally will be payable upon
achievement of defined milestones. In addition, we anticipate these agreements
will include royalty payments, which will be payable upon sale of a licensee's
product, and maintenance and limited support fees. We will classify all revenue
that involves the future sale of a licensee's products as royalty revenue.
Royalty revenue will be generally recognized in the quarter in which a report is
received from a licensee detailing the shipments of products incorporating our
intellectual property components (i.e., in the quarter following the sale of
licensed product by the licensee). We will classify all revenue that does not
involve the future sale of a licensee's products, primarily license fees and
engineering service fees and maintenance and support fees, as contract revenue.
License fees will be recognized upon the execution of the license agreement and
transfer of intellectual property, provided no further significant performance
obligations exist and collectibility is deemed probable. Fees related to
engineering services contracts, which will be performed on a best efforts basis
and for which we will receive periodic milestone payments, will be recognized as
revenue over the estimated development period, using a cost-based percentage of
completion method. Annual maintenance and support fees, which will be renewable
by the licensee, will be classified as contract revenue and will be amortized
over the period of support, generally 12 months.
Research and Development Costs
Research and development costs are expensed as incurred.
Stock Options
The Company applies Accounting Principles Board ("APB") Opinion 25,
"Accounting for Stock Issued to Employees," and related Interpretations in
accounting for all stock option plans. Under APB Opinion 25, compensation cost
has been recognized for stock options granted to employees when the option price
is less than the market price of the underlying common stock on the date of
grant.
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation," requires the Company to provide pro forma information
regarding net income as if compensation cost for the Company's stock option
plans had been determined in accordance with the fair value based method
prescribed in SFAS No. 123. To provide the required pro forma information, the
Company estimates the fair value of each stock option at the grant date by using
the Black-Scholes option-pricing model.
16
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates. During the year ended May 31, 2002, based upon information
then available, we revised our estimates regarding the recovery of our
inventories. As a result, we increased existing reserves for obsolescence by
$111,381.
RESULTS OF OPERATIONS FOR THE YEARS ENDED MAY 31, 2003, 2002 AND 2001
OUR NET SALES IN FISCAL 2003, 2002 AND 2001 WERE AS FOLLOWS:
Fiscal Year Amount % Change from the Previous Fiscal Year
----------- ------ --------------------------------------
2003 $ 123,903 Decrease of 65.5%
2002 $ 358,809 Increase of 6.3%
2001 $ 337,384
Net sales. Net sales for the year ended May 31, 2003 decreased over the
previous year as a result of minimal sales for the communications products all
of which reached the end of their life cycles and only minimal sales of the
microprocessor products. Net sales for the year ended May 31, 2002 increased
slightly over the previous year as a result of a last buy program for the
communications products. We have stopped production of our communications
products and are now concentrating on the microprocessor product line. We
anticipate only minor, if any, future communication product revenue. We have not
been successful in selling this line and have liquidated substantially all of
the inventory related thereto. Future sales will be derived from sales of
microprocessors and licensing of microprocessor technology.
OUR COST OF SALES IN FISCAL 2003, 2002 AND 2001 WERE AS FOLLOWS:
Fiscal Year Amount % Change from the % of Net Sales
----------- ------- Previous Fiscal Year --------------
--------------------
2003 $ 18,660 Decrease of 95.3% 15.1%
2002 $ 393,980 Decrease of 27.6% 109.8%
2001 $ 544,320 161.3%
Cost of sales. Cost of sales as a percentage of net sales decreased
significantly in the fiscal year ended May 31, 2003 compared to the previous
fiscal year. This reduction was a result of the end of production of our
communication products and the elimination of manufacturing and overhead costs
necessary to support that product line. Cost of sales as a percentage of net
sales decreased in the fiscal year ended May 31, 2002 compared to the previous
fiscal year. This decrease was due to a reduction in fixed manufacturing
overhead as a result of cost cutting programs instituted in conjunction with the
completion of the communication product line during the current fiscal year.
OUR RESEARCH AND DEVELOPMENT EXPENSES IN FISCAL 2003, 2002 AND 2001
WERE AS FOLLOWS:
Fiscal Year Amount % Change from the Previous Fiscal Year
----------- ------ --------------------------------------
2003 $ 723,287 Decrease of 47.3%
2002 $1,372,421 Decrease of 38.1%
2001 $2,218,433
Research and development expenses decreased during the fiscal year
ended May 31, 2003 compared to the previous fiscal year. This decrease was due
primarily to a reduction of approximately $428,000 in personnel costs and a
$143,000 reduction in the costs of outside consultants. Research and development
expenses decreased during the fiscal year ended May 31, 2002 compared to the
previous fiscal year. This decrease was due primarily to a reduction of
17
approximately $406,000 in personnel costs, a $221, 000 reduction in the costs of
outside consultants and a reduction in software maintenance costs of $77,000.
The reductions in costs were as a result of a cost cutting program initiated
during the first half of the 2002 fiscal year.
OUR SELLING, GENERAL AND ADMINISTRATIVE EXPENSES IN FISCAL 2003, 2002
AND 2001 WERE AS FOLLOWS:
Fiscal Year Amount % Change from the Previous Fiscal Year
----------- ------ --------------------------------------
2003 $1,821,902 Decrease of 32.7%
2002 $2,708,579 Increase of 4.6%
2001 $2,588,579
Selling, general and administrative expenses decreased during the
fiscal year ended May 31, 2003, compared to the previous fiscal year. This
decrease was due primarily to a reduction of approximately $519,000 in personnel
costs, $178,000 in consulting expenses and $134,000 in professional expenses.
The reductions in costs were as a result of a cost cutting program initiated
during the first half of the 2002 fiscal year. Selling, general and
administrative expenses increased during the fiscal year ended May 31, 2002.
This increase was due primarily to approximately $294,000 of legal, accounting
and shareholder costs associated with several registrations of securities and
two shareholder meetings, non-cash compensation of $105,000 related to services
provided to support our merger and acquisition activities, offset by reductions
in consulting expenses of $286,000.
OUR OTHER INCOME (EXPENSES) IN FISCAL 2003, 2002 AND 2001 WERE AS
FOLLOWS:
Fiscal Year Amount % Change from the Previous Fiscal Year
----------- ------ --------------------------------------
2003 $(1,448,353) Not meaningful
2002 $(1,370,880) Not meaningful
2001 $ 45,045
Other income (expense) increased for the fiscal year ended May 31, 2003
compared to the previous fiscal year. This change resulted primarily from the
recognition of non-cash interest expense of approximately $1,305,000 related to
the amortization of the debt discount associated with the issuance of warrants
under the convertible debentures and interest expense of $144,000 related to our
debt. Other income (expense) changed significantly for the fiscal year ended May
31, 2002 compared to the previous fiscal year. This change resulted primarily
from the recognition of non-cash interest expense of approximately $1,324,000
related to the amortization of the debt discount associated with the issuance of
warrants under the secured note payable, convertible debentures, and equity line
of credit and interest expense related to the excess of the market price over
the carrying value of the common shares sold to Swartz for which the proceeds
were applied to the note payable balance.
LIQUIDITY AND CAPITAL RESOURCES
In connection with their report on our consolidated financial
statements as of and for the year ended May 31, 2003, Nation Smith Hermes
Diamond, our independent certified public accountants, expressed substantial
doubt about our ability to continue as a going concern because of recurring net
losses and negative cash flow from operations.
At May 31, 2003, we had deficit working capital of $1,457,003 and cash
and cash equivalents of $32,663. We have historically funded our operations
primarily through the issuance of securities and debt financings. Cash and cash
equivalents decreased $55,445 during the year ended May 31, 2003 due to net cash
used in operations of $1,885,762 offset by funds generated primarily from the
issuance of convertible debentures of $1,507,000 and short term notes payable of
$180,000. The net cash used in operations was $1,855,762 for the year ended May
31, 2003 compared to $3,632,534 for the corresponding period of the previous
fiscal year. The decrease in cash required in operations was due primarily to a
$1,400,801 reduction in net loss as adjusted to reconcile to cash used in
operating activities coupled with a $299,529 change in prepaid expenses and
other assets between the two periods. Cash used in investing activities was
$2,194 for the year ended May 31, 2003 compared to $146,156 for the
corresponding period of the previous fiscal year. This decrease was the result
of a paydown of $60,000 on a note receivable coupled with a $83,962 reduction in
additions to property, equipment and patents. Cash provided by financing
activities was $1,832,511 for the year ended May 31, 2003 compared to $3,402,448
18
for the corresponding period of the previous fiscal year. This decrease was
primarily the result of a reduced issuance of common stock of $759,255 during
the current fiscal year compared to the previous fiscal year coupled with a
reduction in the issuance of notes payable and convertible debentures of
$611,000 and the sale of accounts receivable of $123,881.
We estimate our current cash requirements to sustain our operations
through August 2004 to be $2.1 million. Since we are no longer supporting the
communications product line, we are assuming that there will be no
communications product revenue. We have a note payable to Swartz Private Equity,
LLC ("Swartz") of $635,276 at May 31, 2003 which is due March 1, 2004. We also
have convertible debentures with a group of investors as of May 31, 2003
aggregating $1,165,000 and advances of $50,000 on a convertible debenture that
closed subsequent to May 31, 2003. At the option of the debenture holders, they
may purchase additional debentures up to $1 million at any time during the next
two years as long as the price of our common stock is in excess of $0.20 per
share. During the year ended May 31, 2003, we obtained $120,350 from the sale of
equity to several private investors and $180,000 from short term notes entered
into with a related party. Subsequent to May 31, 2003, we obtained an additional
$422,500 from the issuance of convertible debentures net of advances discussed
above, $50,100 from the exercise of a warrant, $10,000 from a loan issued to a
related party, and $31,000 from the sale of common stock.
If the optional amounts under the convertible debentures are not raised
in sufficient amounts, then we may not have funds sufficient to meet our cash
requirements. In such circumstances, we may need to secure additional short-term
debt, private placement debt and/or equity financings with individual or
institutional investors. In addition, we may need to make additional cost
reductions if our cash requirements cannot be met from external sources. We
expect that the $2.1 million requirement will be provided by:
o additional debt and/or equity financings; and
o proceeds from the exercise of outstanding stock options and warrants.
In addition, we have formulated additional cost reduction plans which
can be implemented if the required funds are not obtainable. We also have a
$400,000 accounts receivable factoring agreement with our bank. As of May 31,
2003 there was a balance due under the factoring agreement of $3,811.
We anticipate our future revenue to be derived primarily from the sale
of licenses and royalties. To receive this revenue, we may require additional
equipment, fabrication, components and supplies during the next twelve months to
support potential customer requirements and further develop our technologies.
Product introductions such as those currently underway for the Ignite I may
require significant product launch, marketing personnel and other expenditures
that cannot be currently estimated. Further, if expanded development is
commenced or new generations of microprocessor technology are accelerated beyond
current plans, additional expenditures we cannot currently estimate, may be
required. It is possible therefore, that higher levels of expenditures may be
required than we currently contemplate resulting from changes in development
plans or as required to support new developments or commercialization activities
or otherwise.
If we are unable to obtain the necessary funds, we could be forced to
substantially curtail or cease operations which would have a material adverse
effect on our business. Further, there can be no assurance that we will be able
to timely receive shareholder approval to increase the number of authorized
shares or that required funds, if available, will be available on attractive
terms or that they will not have a significantly dilutive effect on our existing
shareholders. As such, there is substantial doubt about our ability to continue
as a going concern. The consolidated financial statements do not include any
adjustments to reflect the possible future effects on the recoverability and
classification of assets or the amounts and classification of liabilities that
may result from our possible inability to continue as a going concern.
$25 MILLION EQUITY LINE OF CREDIT
Overview. On September 17, 2001, we entered into an investment
agreement with Swartz. The investment agreement entitles us to issue and sell
our common stock to Swartz for up to an aggregate of $25 million from time to
time during a three-year period following the effective date of the registration
statement. This is also referred to as a put right. We filed a registration
statement on Form S-1 on October 11, 2001 that was declared effective on
November 5, 2001 for 15,000,000 shares of our common stock which we issued to
19
Swartz during the fiscal year ended May 31, 2002. There remains approximately
$24 million available under this line conditioned on us filing one or more
additional registration statements. As of May 31, 2003, we have not filed a
statement requesting the registration of additional shares to put to Swartz
under the $25 million equity line of credit.
Put Rights. In order to invoke a put right, we must have an effective
registration statement on file with the SEC registering the resale of the common
shares which may be issued as a consequence of the invocation of that put right.
Additionally, we must give at least ten but not more than twenty business days
advance notice to Swartz of the date on which we intend to exercise a particular
put right, and we must indicate the number of shares of common stock we intend
to sell to Swartz. At our option, we may also designate a maximum dollar amount
of common stock (not to exceed $3 million) which we will sell to Swartz during
the put and/or a minimum purchase price per common share at which Swartz may
purchase shares during the put. The number of common shares sold to Swartz may
not exceed 20% of the aggregate daily reported trading volume during each of two
consecutive ten business day periods beginning on the business day immediately
following the day we invoked the put right.
The price Swartz will pay for each share of common stock sold in a put
is equal to the lesser of (i) the market price for each of the two consecutive
ten business day periods beginning on the business day immediately following the
day we invoked the put right minus $0.10, or (ii) X percent of the market price
for each of the two ten day periods, where, X is equal to 90% if the market
price is below $2.00 and 93% if market price is equal to or greater than $2.00.
Market price is defined as the lowest closing bid price for the common stock
during each of the two consecutive ten business day periods. However, the
purchase price may not be less than the designated minimum per share price, if
any, that we indicated in our notice.
Limitations and Conditions Precedent to Our Put Rights. We may
not initiate a put if, as of the proposed date of such put:
o we have issued shares of our common stock that have been paid for
by Swartz and the amount of proceeds we have received is equal to
the maximum offering amount;
o the registration statement covering the resale of the shares
becomes ineffective or unavailable for use;
o our common stock is not actively trading on the OTC Bulletin
Board, the Nasdaq Small Cap Market, the Nasdaq National Market,
the American Stock Exchange, or the New York Stock Exchange, or
is suspended or delisted with respect to the trading on such
market or exchange.
If any of the following events occur during the pricing period for a
put, the volume accrual shall cease. For the put, the pricing period shall be
adjusted to end 10 business days after the date that we notify Swartz of the
event, and any minimum price per share we specified shall not apply to the put:
o we have announced or implemented a stock split or combination of
our common stock between the advanced put notice date and the end
of the pricing period;
o we have paid a common stock dividend or made any other
distribution of our common stock between the advanced put notice
date and the end of the pricing period;
o we have made a distribution to the holders of our common stock or
of all or any portion of our assets or evidences of indebtedness
between the put notice date and the end of the pricing period;
o we have consummated a major transaction (including a transaction,
which constitutes a change of control) between the advance put
notice date and the end of the pricing period, the registration
statement covering the resale of the shares becomes ineffective
or unavailable for use, or our stock becomes delisted for trading
on our then primary exchange; or
o we discover the existence of facts that cause us to believe that
the registration statement contains an untrue statement or omits
to state a material fact.
20
Short Sales. Swartz and its affiliates are prohibited from engaging in
short sales of our common stock unless they have received a put notice and the
amount of shares involved in a short sale does not exceed the number of shares
specified in the put notice.
Shareholder Approval. We may currently issue more than 20% of our
outstanding shares under the investment agreement. If we become listed on the
Nasdaq Small Cap Market or Nasdaq National Market, then we must get shareholder
approval to issue more than 20% of our outstanding shares. Since we are
currently a bulletin board company, we do not need shareholder approval.
Termination of Investment Agreement. We may also terminate our right to
initiate further puts or terminate the investment agreement by providing Swartz
with notice of such intention to terminate; however, any such termination will
not affect any other rights or obligations we have concerning the investment
agreement or any related agreement.
Restrictive Covenants. During the term of the investment agreement and
for a period of two months thereafter, we are prohibited from certain
transactions. These include the issuance of any debt or equity securities in a
private transaction which are convertible or exercisable into shares of common
stock at a price based on the trading price of the common stock at any time
after the initial issuance of such securities or with a fixed conversion or
exercise price subject to adjustment without obtaining Swartz's prior written
approval.
Right of First Refusal. Swartz has a right of first refusal to purchase
any variable priced securities offered by us in any private transaction which
closes on or prior to two months after the termination of the investment
agreement and a right of participation for any equity securities offered by us
in any private transaction which closes on or prior to two months after the
termination of the investment agreement.
Swartz's Right of Indemnification. We are obligated to indemnify Swartz
(including their stockholders, officers, directors, employees and agents) from
all liability and losses resulting from any misrepresentations or breaches we
made in connection with the investment agreement, our registration rights
agreement, other related agreements, or the registration statement.
Waiver and Agreement. On March 12, 2002, we entered into an amended
waiver and agreement with Swartz which replaced and superseded all previous
waivers and agreements. This amended waiver and agreement extended the time of
the put beyond twenty days and redefined the price of the put to be the lesser
of the factor of (a) the volume weighted average price per share, as defined by
Bloomberg L.P., for each day of the put multiplied by .70 or (b) the volume
weighted average price per share minus $0.05 multiplied by 20% of the acceptable
daily volume as defined in the waiver. At the discretion of Swartz, the 20%
daily volume limitation could be increased up to 30% of the daily volume. In
addition, the amended waiver and agreement increased the intended put share
amount for the first put to 14,100,000 shares, which is the total number of
shares we had registered so far under the $25 million equity line of credit. On
May 30, 2002 we closed the first put under the $25 million equity line of credit
by applying the proceeds of $926,924 to the secured note payable discussed
below.
Warrants. In connection with closing the $25 million equity line of
credit, we issued to Swartz a commitment warrant to purchase 900,000 shares of
our common stock as discussed further in Note 6 to the consolidated financial
statements. This warrant was valued on the issuance date using the Black-Scholes
pricing model and the value was recorded as a debt discount.
SECURED NOTE PAYABLE
On March 12, 2002, we replaced and superceded a previously issued
Secured Promissory Note with Swartz with an Amended Secured Promissory Note and
Agreement with an effective date of October 9, 2001, an Addendum to Amended
Secured Promissory Note dated March 12, 2002 and an Antidilution Agreement and
Addendum to Warrants dated March 19, 2003. The amended note, which originally
was to mature on January 9, 2003, has been extended to March 1, 2004 and amounts
outstanding under the note bear interest at the rate of 5% per annum. Per the
antidilution agreement, principal and interest payments are deferred until March
1, 2004.
As part of the consideration for entering into the above amended note,
we agreed to issue warrants to Swartz related to each advance against the note.
In connection with each advance, we issued to Swartz a warrant to purchase a
21
number of shares of common stock equal to the amount of the advance multiplied
by 8.25 at an initial exercise price equal to the lesser of (a) the factor of
the average of the volume weighted average price per share, as defined by
Bloomberg L.P., for each trading day in the period beginning on the date of the
previous advance and ending on the trading day immediately preceding the date of
the current advance multiplied by .70 or (b) the volume weighted average price
per share minus $0.05. In addition, we were obligated under the addendum to the
note to issue to Swartz warrants equal to 20% of the common stock issued between
March 12, 2002 and April 1, 2003 and we are obligated under the antidilution
agreement to issue to Swartz warrants equal to 30% of the common stock issued
subsequent to April 1, 2003 to any parties other than Swartz. In addition, we
agreed to extend the expiration date to December 31, 2006 on certain warrants
that were to expire previous to December 31, 2006. In exchange for these
concessions, Swartz agreed to extend the due date to March 1, 2004 on a note for
$635,276 net of accrued interest and unreserved 20,007,350 shares that have been
reserved for the exercise of warrants for a period the sooner of 1) March 19,
2004, or 2) 90 days after the date on which our common stock exceeds $0.375 for
10 consecutive trading days.
As of May 31, 2003 we issued warrants to purchase up to 18,243,712
shares of our common stock in accordance with the amended note agreements and
antidilution agreement. The warrants issued were valued using the Black-Scholes
pricing model based on the expected fair value at issuance and the estimated
fair value was also recorded as debt discount.
The note is secured by our assets.
All debt discounts were amortized as additional interest expense over
the initial term of the note payable. As of May 31, 2003, $1,107,238 had been
reflected as debt discount of which $917,722 and $189,516 was amortized to
interest expense during the years ended May 31, 2002 and 2003, respectively.
Advances against the note $1,790,000
Less amount applied against $30 million equity line of credit (227,800)
Less amount applied against $25 million equity line of credit (926,924)
Less debt discount
Total 1,107,238
Amount amortized to expense (1,107,238) -
------------ ----------
Note payable at May 31, 2003 $ 635,276
==========
On November 9, 2001, an offset of $227,800 from the sale of 2,500,000 shares of
common stock was applied against the final put under a $30 million equity line
of credit.
On May 30, 2002, an offset of $926,924 from the sale of 14,100,000 shares of
common stock was applied against the first and only put under the $25 million
equity line of credit discussed above.
8% CONVERTIBLE DEBENTURES
Overview. From April 23, 2002 through August 26, 2003, we sold an
aggregate of $2,437,500 of 8% convertible debentures to a group of eleven
investors. The convertible debentures entitle the debenture holder to convert
the principal and unpaid accrued interest into our common stock for two years
from the date of closing. In addition, the debenture holders received warrants
exercisable into a number of our common shares.
Number of Shares Debentures May Be Converted Into. The debentures can
be converted into a number of our common shares at conversion prices that
initially equaled $0.041 to $0.10289 per share.
Resets of Conversion Price and Conversion Shares. A reset date occurs
on each three month anniversary of the closing date of each debenture and on the
date the registration statement becomes effective, October 29, 2002 for the
first $1,000,000 of principal, March 7, 2003 for the second $605,000 of
principal and June 26, 2003 for the third $510,000 of principal. If the volume
weighted average price for our common stock for the ten days previous to the
reset date is less than the conversion price in effect at the time of the reset
date, then the number of common shares issuable to the selling shareholder on
conversion will be increased. If the conversion price is reset, the debenture
can be converted into a number of our common shares based on the following
calculation: the amount of the debenture plus any unpaid accrued interest
22
divided by the reset conversion price which shall equal the volume weighted
average price for our common stock for the ten days previous to the reset date.
On October 29, 2002, the date the registration statement for the first
$1,000,000 of principal became effective, the conversion prices were reset to
$0.04457 from initial conversion prices ranging from $0.08616 to $0.10289. On
March 7, 2003, the date the registration statement for the second $605,000 of
principal became effective, the conversion prices were reset to $0.04722 from
initial conversion prices ranging from $0.05126 to $0.0727. On June 26, 2003,
the date the registration statement for the third $510,000 of principal became
effective, the conversion prices for debentures with initial conversion prices
of $0.065 were reset to $0.06346.
Warrants. Concurrent with the issuance of the convertible debentures,
we issued to the debenture holders warrants to purchase up to 33,471,953 shares
of our common stock. These warrants are exercisable for five years from the date
of issuance at either initial negotiated exercise prices or prices equal to 115%
of the volume weighted average price for our common stock for the ten days
previous to the debenture date. The warrant exercise price is subject to being
reset on each six month anniversary of its issuance.
Options to Purchase Additional Debentures. Subject to the price of our
common stock being equal to or greater than $0.20 per share and a two year
limitation, the debenture holders may purchase additional debentures equal to
the value of their initial debentures. The price at which the optional
additional debentures could be converted would initially equal 115% of the
volume weighted average price for our common stock for the ten days previous to
the date on which the optional additional debentures were closed. The optional
additional debentures would carry the same warrant amounts and reset privileges
as the initial debentures.
Shareholder Approval. We may currently issue more than 20% of our
outstanding shares under the convertible debentures. If we become listed on the
NASDAQ Small Cap Market or NASDAQ National Market, then we must get shareholder
approval to issue more than 20% of our outstanding shares. Since we are
currently a bulletin board company, we do not need shareholder approval.
Restrictive Covenants. For a period of 18 months from the date of the
debentures, we are prohibited from certain transactions. These include the
issuance of any debt or equity securities in a private transaction which are
convertible or exercisable into shares of common stock at a price based on the
trading price of the common stock at any time after the initial issuance of such
securities; the issuance of any debt or equity securities with a fixed
conversion or exercise price subject to adjustment; and any private equity line
type agreements without obtaining the debenture holders' prior written approval.
Right of First Refusal. The debenture holders have a right of first
refusal to purchase or participate in any equity securities offered by us in any
private transaction which closes on or prior to the date that is two years after
the issue date of each debenture.
Registration Rights. We are responsible for registering the resale of
the shares of our common stock which will be issued on the conversion of the
debentures. On October 29, 2002, a registration statement covering the first
$1,000,000 of debentures was declared effective by the Securities and Exchange
Commission. On March 7, 2003, a registration statement covering the second
$605,000 of debentures was declared effective by the Securities and Exchange
Commission. On June 26, 2003, a registration statement covering the third
$510,000 of debentures was declared effective by the Securities and Exchange
Commission.
23
The convertible debentures are secured by our assets.
Convertbile debenture dated April 23, 2002 $ 225,000
Convertbile debentures dated June 10, 2002 775,000
Convertbile debenture dated August 23, 2002 175,000
Convertbile debentures dated October 29, 2002 180,000
Convertbile debenture dated December 16, 2002 100,000
Convertbile debenture dated January 24, 2003 150,000
Convertbile debenture dated March 24, 2003 162,500
Convertbile debenture dated April 15, 2003 10,000
Convertbile debenture dated May 20, 2003 187,500
Advances against debenture issued subsequent to May 31, 2003 50,000
Less amounts converted to common stock (800,000)
Less debt discount
Total discounts recorded $ 1,965,000
Amount amortized to expense (624,922)
Amount cancelled on conversion (527,067) (813,011)
------------- ----------------
Convertible debentures at May 31, 2003 401,989
Less current portion 121,879
----------------
Long term portion $ 280,110
================
NEW ACCOUNTING PRONOUNCEMENTS
In December 2002, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standard ("SFAS") No. 148, "Accounting
for Stock-Based Compensation-Transition and Disclosure-an amendment of SFAS No.
123." SFAS No. 148 amends the disclosures in both annual and interim financial
statements about the method of accounting for stock-based employee compensation
and the effect of the method used on reported results. SFAS No. 148 is effective
for fiscal years ending after December 15, 2002 and is effective for interim
periods beginning after December 15, 2002. The Company's adoption of SFAS No.
148 did not have a material effect on the Company's financial position or
results of operations.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." This interpretation elaborates on the
disclosures required in financial statements concerning obligations under
certain guarantees. It also clarifies the requirements related to the
recognition of liabilities by a guarantor at the inception of certain
guarantees. The disclosure requirements of this interpretation were effective on
December 31, 2002. We adopted the recognition provisions of the interpretation
in the quarter ended February 28, 2003. The adoption of this interpretation did
not impact our financial position or results of operations.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities, an interpretation of ARB No. 51." This
interpretation provides guidance on: 1) the identification of entities for which
control is achieved through means other than through voting rights, known as
"variable interest entities" (VIEs); and 2) which business enterprise is the
primary beneficiary and when it should consolidate the VIE. This new model for
consolidation applies to entities: 1) where the equity investors (if any) do not
have a controlling financial interest; or 2) whose equity investment at risk is
insufficient to finance that entity's activities without receiving additional
subordinated financial support from other parties. In addition, this
interpretation requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. This interpretation is effective for all new VIEs created or
acquired after January 31, 2003. For VIEs created or acquired prior to February
1, 2003, the provisions of the interpretation must be applied no later than the
beginning of the first interim or annual reporting period beginning after June
15, 2003. Certain disclosures are effective immediately. The adoption of this
interpretation did not impact our financial position or results of operations.
In April 2003 the FASB issued SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities." SFAS No. 149 amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under SFAS
24
No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS
No. 149 requires that contracts with comparable characteristics be accounted for
similarly. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003, and for hedging relationships designated after June 30,
2003. The adoption of this Statement is not expected to have a material effect
on the consolidated financial statements
In May 2003 the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
No. 150 establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. It
requires that an issuer classify a financial instrument that is within its scope
as a liability (or an asset in some circumstances). SFAS No. 150 is effective
for financial instruments entered into or modified after May 31, 2003, and
otherwise is effective at the beginning of the first interim period beginning
after June 15, 2003, except for mandatorily redeemable financial instruments of
nonpublic entities. The adoption of this Statement is not expected to have a
material effect on the consolidated financial statements.
TAX LOSS CARRYFORWARDS
Deferred income taxes are provided for temporary differences in
recognizing certain income and expense items for financial and tax reporting
purposes. Deferred tax assets consist primarily of income tax benefits from net
operating loss carry-forwards. A valuation allowance has been recorded to fully
offset the deferred tax asset as it is more likely than not that the assets will
not be utilized. The valuation allowance increased approximately $845,000 in the
year ended May 31, 2003, from $13,446,000 at May 31, 2002 to $14,291,000 at May
31, 2003.
ITEM 7A. QUANITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We are exposed to interest rate risk on investments of our excess cash.
The primary objective of our investment activities is to preserve capital. To
achieve this objective and minimize the exposure due to adverse shifts in
interest rates, we invest from time to time in high quality short-term maturity
commercial paper and money market funds operated by reputable financial
institutions in the United States. Due to the nature of our investments, we
believe that we do not have a material interest rate exposure.
As of May 31, 2003, our notes payable to corporations and individuals
totaling $2 million bore interest at fixed rates of 5% to 8%. Our capital lease
obligation totaling $16,731 is discounted at a fixed rate of interest of 22.7%.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The following table presents selected unaudited quarterly information
for fiscal 2003 and 2002
FIRST SECOND THIRD FOURTH
Quarter Quarter Quarter Quarter
----------------- ------------------ ---------------- -----------------
Fiscal 2003:
Total revenues $ 39,889 $ 5,160 $ 41,390 $ 37,464
Operating loss (661,408) (743,271) (514,883) (520,384)
Net loss (943,441) (1,077,288) (842,661) (1,024,909)
Net loss per basic and diluted share $ (0.01) $ (0.01) $ (0.01) $ (0.01)
Fiscal 2002:
Total revenues $ 314,500 $ 7,389 $ 4,620 $ 32,300
Operating loss (1,039,217) (1,292,564) (964,703) (819,687)
Net loss (1,046,970) (1,558,602) (1,260,676) (1,620,803)
Net loss per basic and diluted share $ (0.02) $ (0.02) $ (0.02) $ (0.02)
Also see Part IV, Item 14(a).
25
The financial statements required by this item begin on page F-1 with
the index to consolidated financial statements.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Effective May 20, 2002, the client-auditor relationship between Patriot
Scientific Corporation (the "Company") and BDO Seidman, LLP ("BDO") ceased. The
Company dismissed BDO on May 20, 2002 as part of its cost reduction program
which was initiated earlier in that fiscal year.
The change in certifying accountants was approved by the Company's
board of directors.
BDO's reports on the consolidated financial statements of the Company
for each of the past two years did not contain an adverse opinion or a
disclaimer of opinion, nor were qualified as to any uncertainty in audit scope
or accounting principle; however the audit opinion of BDO on the Company's most
recent consolidated financial statements as of and for the period ending May 31,
2001 was modified to include an explanatory paragraph which contained a
statement that the Company's recurring losses from operations and negative cash
flows raised substantial doubt about the Company's ability to continue as a
going concern.
During the two years ended May 31, 2001 and the subsequent interim
periods preceding the date of the dismissal of BDO on May 20, 2002, there were
no disagreements with BDO on any matters of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure, which
disagreement(s), if not resolved to the satisfaction of BDO, would have caused
the former accountant to make a reference to the subject matter of the
disagreement(s) in connection with its reports covering such periods.
During the two years ended May 31, 2001 and the subsequent interim
periods preceding the date of the dismissal of BDO on May 20, 2002, there were
no "reportable events" (hereinafter defined) requiring disclosure pursuant to
Item 304 (a) (1) (v) of Regulation S-K. As used herein, the term "reportable
events" means any of the items listed in paragraphs (a) (1) (v) (A) - (D) of
Item 304 of Regulation S-K.
Effective May 20, 2002, the Company engaged Nation Smith Hermes
Diamond, a professional corporation, which is a member of the BDO Seidman
Alliance ("Nation") , as its independent accountants. During the two years ended
May 31, 2001 and the subsequent interim periods preceding the effective date of
the engagement of May 20, 2002, neither the Company nor anyone on its behalf
consulted Nation regarding either the application of accounting principles to a
specified transaction, either completed or proposed, or the type of audit
opinion that might be rendered on the Company's consolidated financial
statements, nor has Nation provided to the Company a written report or oral
advice regarding such principles or audit opinion.
The Company requested that BDO furnish it with a letter addressed to
the Securities and Exchange Commission stating whether or not it agrees with the
above statements. A copy of the letter from BDO dated June 4, 2002 was filed as
Exhibit 16.1 to the Form 8-K/A filed June 5, 2002.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table and biographical summaries set forth information,
including principal occupation and business experience, about our directors and
the executive officers at June 1, 2003:
NAME AGE POSITION AND OFFICES DIRECTOR SINCE
- ---- --- -------------------- --------------
Donald R. Bernier 61 Chairman and Director January 1995
David H. Pohl 65 Director April 2001
Jeffrey Wallin 55 President and CEO n/a
Lowell W. Giffhorn 56 Executive Vice President, CFO, Secretary and August 1999
Director
Carlton M. Johnson, Jr. 43 Director August 2001
Helmut Falk, Jr. 46 Director December 1997
Gloria Felcyn 56 Director October 2002
Joey Maitra 53 Vice President Engineering n/a
Patrick Nunally 39 Vice President and CTO n/a
26
BIOGRAPHICAL INFORMATION
DONALD R. BERNIER. Mr. Bernier was appointed Chairman of the Board on
August 5, 2001. Since 1971, Mr. Bernier has been the owner and President of
Compunetics Incorporated, a Troy, Michigan-based electronics firm of which he is
the founder. Compunetics engages in contract research and development,
specializing in microelectronics primarily for the automotive industry.
DAVID H. POHL. Mr. Pohl has served on our board of directors since
April 2001, and served as an officer of the Company from January 2001 to March
2002. Except for his service with PTSC, Mr. Pohl has been in the private
practice of law counseling business clients since 1997, and from 1995 to 1996
was Special Counsel to the Ohio Attorney General. Previously, he was a senior
attorney with a large U.S. law firm, and held positions as a senior officer and
general counsel in large financial services corporations. Mr. Pohl earned a J.D.
degree in 1962 from the Ohio State University College of Law, and also holds a
BS in Administrative Sciences from Ohio State.
JEFFREY E. WALLIN. Mr. Wallin has served as our Chief Executive Officer
and President since March 2002. Since 1999, Mr. Wallin was president of SDMC
Inc., a consulting company serving the multimedia system integration and
communications markets. From 1996 to 1999, Mr. Wallin was President and CEO of
TV/COM International, a division of Hyundai that developed and manufactured
end-to-end digital communications systems. Previously Mr. Wallin held senior
level management positions with Snell & Wilcox, General Instrument, now a major
division of Motorola, and Teledyne Corporation. Mr. Wallin obtained a B.S.
degree from Bemidji State University in 1970.
LOWELL W. GIFFHORN. Mr. Giffhorn was the principal in his own financial
management consulting firm from August 1996 until joining Patriot as Chief
Financial Officer (CFO) in May 1997. Mr. Giffhorn has served on our board of
directors since August 1999. From June 1992 to August 1996 and from September
1987 to June 1990 he was the CFO of Sym-Tek Systems, Inc. and Vice President of
Finance for its successor, Sym-Tek Inc., a major supplier of capital equipment
to the semiconductor industry. Mr. Giffhorn obtained a M.B.A. degree from
National University in 1975 and he obtained a B.S. in Accountancy from the
University of Illinois in 1969. Mr. Giffhorn is also a director and chairman of
the audit committee of DND Technologies, Inc., a publicly held company.
CARLTON M. JOHNSON, JR. Mr. Johnson was appointed a Director on August
5, 2001. Mr. Johnson is in-house legal counsel for Swartz Investments, LLC, a
position he has held since June 1996. Mr. Johnson has practiced law in Alabama
since 1986, Florida since 1988, and Georgia since 1997. He has been a
shareholder in the Pensacola, Florida AV rated law firm of Smith, Sauer, DeMaria
& Johnson and as President-Elect of the 500 member Escambia-Santa Rosa Bar
Association. He also served on the Florida Bar Young Lawyers Division Board of
Governors. Mr. Johnson earned a degree in History/Political Science at Auburn
University and Juris Doctor at Samford University - Cumberland School of Law.
Mr. Johnson is also a director and member