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EX-10.4 - EX-10.4 - SATCON TECHNOLOGY CORPa10-12807_1ex10d4.htm
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EX-10.3 - EX-10.3 - SATCON TECHNOLOGY CORPa10-12807_1ex10d3.htm
EX-10.1 - EX-10.1 - SATCON TECHNOLOGY CORPa10-12807_1ex10d1.htm
EX-10.2 - EX-10.2 - SATCON TECHNOLOGY CORPa10-12807_1ex10d2.htm
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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Quarterly Period Ended June 30, 2010

 

Commission File Number 1-11512

 


 

SATCON TECHNOLOGY CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware
(State or other jurisdiction of
incorporation or organization)

 

04-2857552
(IRS Employer Identification No.)

 

 

 

27 Drydock Avenue
Boston, Massachusetts
(Address of principal executive offices)

 

02210
(Zip Code)

 

(617) 897-2400
(Registrant’s telephone number, including area code)

 


 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ¨   No ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer x

 

 

 

Non-accelerated filer o
(Do not check if a smaller reporting company)

 

Smaller reporting company o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common Stock, $0.01 Par Value,

72,613,295 shares outstanding as of August 1, 2010.

 

 

 



Table of Contents

 

TABLE OF CONTENTS

 

 

Page

 

 

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements (Unaudited)

 

Financial Statements of Satcon Technology Corporation

 

Consolidated Balance Sheets

 

Consolidated Statements of Operations

 

Consolidated Statements of Changes in Stockholders’ Deficit

 

Consolidated Statements of Cash Flows

 

Notes to Interim Consolidated Financial Statements

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Item 4. Controls and Procedures

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

Item 1A. Risk Factors

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

Item 3. Defaults Upon Senior Securities

 

Item 5. Other Information

 

Item 6. Exhibits

 

Signatures

 

Exhibit Index

 

 



Table of Contents

 

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

 

SATCON TECHNOLOGY CORPORATION

CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

 

 

June 30,

 

December 31,

 

 

 

2010

 

2009

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

14,381,207

 

$

13,369,208

 

Restricted cash and cash equivalents

 

 

34,000

 

Accounts receivable, net of allowance of $1,154,187 and $196,909 at June 30, 2010 and December 31, 2009, respectively

 

28,545,956

 

17,577,640

 

Unbilled contract costs and fees

 

174,342

 

202,228

 

Inventory

 

18,685,977

 

11,898,571

 

Prepaid expenses and other current assets

 

2,192,588

 

717,535

 

Current assets of discontinued operations

 

 

35,004

 

 

 

 

 

 

 

Total current assets

 

63,980,070

 

43,834,186

 

Property and equipment, net

 

4,898,343

 

4,633,926

 

Non-current assets of discontinued operations

 

 

224,227

 

 

 

 

 

 

 

Total assets

 

$

68,878,413

 

$

48,692,339

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ DEFICIT

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Line of credit

 

$

9,360,912

 

$

3,000,000

 

Notes payable, current portion

 

615,690

 

 

Accounts payable

 

20,166,133

 

20,751,975

 

Accrued payroll and payroll related expenses

 

2,733,425

 

2,235,349

 

Other accrued expenses

 

3,802,181

 

2,710,568

 

Accrued restructuring costs

 

375,023

 

38,034

 

Deferred revenue, current portion

 

7,052,199

 

451,008

 

Current liabilities of discontinued operations

 

 

117,702

 

Total current liabilities

 

44,105,563

 

29,304,636

 

Warrant liabilities

 

4,446,742

 

4,976,774

 

Notes payable, net of current portion and discount of $1,070,637

 

10,313,673

 

 

Deferred revenue, net of current portion

 

7,407,674

 

5,531,413

 

Redeemable convertible Series B preferred stock (75 shares issued and outstanding at June 30, 2010 and December 31, 2009; face value $5,000 per share; liquidation preference at June 30, 2010 $375,000)

 

375,000

 

375,000

 

Other long-term liabilities

 

232,818

 

280,472

 

Total liabilities

 

66,881,470

 

40,468,295

 

Commitments and contingencies (Note H)

 

 

 

 

 

Redeemable convertible Series C preferred stock (25,000 shares issued and outstanding at June 30, 2010 and December 31, 2009, face value $1,000 per share, liquidation preference $28,219,863 and $27,600,000 at June 30, 2010 and December 31, 2009 respectively)

 

24,759,305

 

22,257,423

 

 

 

 

 

 

 

Stockholders’ deficit:

 

 

 

 

 

Common stock; $0.01 par value, 200,000,000 shares authorized; 72,126,226 and 70,567,781 shares issued and outstanding at June 30, 2010 and December 31, 2009, respectively

 

$

721,262

 

$

705,678

 

Additional paid-in capital

 

221,766,836

 

218,599,384

 

Accumulated deficit

 

(243,820,892

)

(231,656,734

)

Accumulated other comprehensive loss

 

(1,429,568

)

(1,681,707

)

Total stockholders’ deficit

 

(22,762,362

)

(14,033,379

)

Total liabilities and stockholders’ deficit

 

$

68,878,413

 

$

48,692,339

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

3



Table of Contents

 

SATCON TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENT OF OPERATIONS

(Unaudited)

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

June 30,
2010

 

July 4,
2009

 

 

 

 

 

 

 

 

 

 

 

Product revenue

 

$

27,627,473

 

$

7,627,619

 

$

42,359,952

 

$

21,007,468

 

 

 

 

 

 

 

 

 

 

 

Cost of product revenue

 

21,890,030

 

7,935,446

 

34,589,139

 

20,220,484

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

5,737,443

 

(307,827

)

7,770,813

 

786,984

 

 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Research and development

 

2,711,070

 

2,244,162

 

5,442,855

 

4,115,424

 

Selling, general and administrative

 

8,282,484

 

4,417,941

 

13,862,366

 

8,766,222

 

Restructuring charge

 

 

 

783,701

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses from continuing operations

 

10,993,554

 

6,662,103

 

20,088,922

 

12,881,646

 

 

 

 

 

 

 

 

 

 

 

Operating loss from continuing operations

 

(5,256,111

)

(6,969,930

)

(12,318,109

)

(12,094,662

)

 

 

 

 

 

 

 

 

 

 

Change in fair value of warrant liabilities

 

(857,965

)

1,776,137

 

231,013

 

(3,594,334

)

Other (loss) income, net

 

(251,043

)

(486,649

)

(319,458

)

(625,590

)

Interest income

 

10

 

1,836

 

185

 

5,567

 

Interest expense

 

(226,169

)

(137,823

)

(289,396

)

(220,184

)

Net loss from continuing operations

 

(6,591,278

)

(5,816,429

)

(12,695,765

)

(16,529,203

)

 

 

 

 

 

 

 

 

 

 

Gain on sale of discontinued operations, net

 

 

 

500,217

 

 

Income (loss) from discontinued operations, net

 

 

(16,511

)

31,390

 

(58,193

)

Net loss

 

(6,591,278

)

(5,832,940

)

(12,164,158

)

(16,587,396

)

 

 

 

 

 

 

 

 

 

 

Deemed dividend and accretion on Series C preferred stock

 

(1,538,934

)

(887,526

)

(2,808,125

)

(1,709,020

)

Dividend on Series C preferred stock

 

(368,697

)

(387,051

)

(723,757

)

(708,089

)

Net loss attributable to common stockholders

 

$

(8,498,909

)

$

(7,107,517

)

$

(15,696,040

)

$

(19,004,505

)

 

 

 

 

 

 

 

 

 

 

Net loss per weighted average share, basic and diluted:

 

 

 

 

 

 

 

 

 

From loss on continuing operations attributable to common stockholders

 

$

(0.12

)

$

(0.13

)

$

(0.22

)

$

(0.36

)

From loss on discontinued operations

 

 

 

 

 

From gain on sale of discontinued operations

 

 

 

 

 

Net loss attributable to common stockholders per weighted average share, basic and diluted

 

$

(0.12

)

$

(0.13

)

$

(0.22

)

$

(0.36

)

 

 

 

 

 

 

 

 

 

 

Weighted average number of common shares, basic and diluted

 

71,512,306

 

54,717,764

 

71,216,831

 

53,127,814

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

4



Table of Contents

 

SATCON TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ DEFICIT

For the six months ended June 30, 2010

(Unaudited)

 

 

 

Common
Shares

 

Common
Stock

 

Additional
Paid-in
Capital

 

Accumulated
Deficit

 

Accumulated
Other
Comprehensive
Loss

 

Total
Stockholders’
Deficit

 

Comprehensive
Loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2009

 

70,567,781

 

$

705,678

 

$

218,599,384

 

$

(231,656,734

)

$

(1,681,707

)

$

(14,033,379

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

 

 

 

(12,164,158

)

 

(12,164,158

)

(12,164,158

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Issuance of warrants to Series C preferred stockholders

 

 

 

515,000

 

 

 

515,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beneficial conversion feature on Series C preferred stock

 

 

 

515,000

 

 

 

515,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Series C preferred stock deemed dividend

 

 

 

(515,000

)

 

 

(515,000

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock in connection with the exercise of stock options

 

838,144

 

8,381

 

1,117,587

 

 

 

1,125,968

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Issuance of common stock in connection with the exercise of warrants to purchase common stock

 

710,234

 

7,102

 

1,842,217

 

 

 

1,849,319

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Issuance of warrants in connection with subordinated debt financing

 

 

 

910,612

 

 

 

910,612

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accretion of Series C preferred stock to its redemption value

 

 

 

(2,293,125

)

 

 

(2,293,125

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividend on Series C preferred stock

 

 

 

(723,757

)

 

 

(723,757

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividend on Series B preferred stock

 

10,067

 

101

 

14,899

 

 

 

15,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Employee stock-based compensation

 

 

 

1,784,019

 

 

 

1,784,019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment

 

 

 

 

 

252,139

 

252,139

 

252,139

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive loss

 

 

 

 

 

 

 

$

(11,912,019

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2010

 

72,126,226

 

$

721,262

 

$

221,766,836

 

$

(243,820,892

)

$

(1,429,568

)

$

(22,762,362

)

 

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements

 

5



Table of Contents

 

SATCON TECHNOLOGY CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

Cash flows from operating activities:

 

 

 

 

 

Net loss

 

$

(12,164,158

)

$

(16,587,396

)

Net (income) loss from discontinued operations

 

(31,390

)

58,193

 

Gain on sale of discontinued operations

 

(500,217

)

 

Adjustments to reconcile net loss from continuing operations to net cash used in operating activities:

 

 

 

 

 

Depreciation and amortization

 

778,585

 

519,014

 

Provision for uncollectible accounts

 

951,055

 

9,964

 

Provision for excess and obsolete inventory

 

392,223

 

 

Non-cash compensation expense related to issuance of stock options and issuance of common stock to 401(k) Plan

 

1,802,376

 

1,526,379

 

Change in fair value of warrant liabilities

 

(231,013

)

3,594,334

 

Non-cash expense associated with the issuance of warrants

 

 

515,000

 

Non-cash interest expense

 

28,475

 

112,406

 

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(11,402,719

)

3,295,522

 

Unbilled contract costs and fees

 

27,886

 

184,977

 

Prepaid expenses and other assets

 

(1,467,409

)

81,939

 

Inventory

 

(6,701,797

)

5,191,014

 

Accounts payable

 

(1,073,210

)

(1,865,760

)

Accrued expenses and payroll

 

1,453,941

 

887,405

 

Accrued contract loss

 

 

(1,149,684

)

Accrued restructuring

 

323,521

 

(310,464

)

Deferred revenue, current and long term portion

 

8,225,794

 

(3,287,340

)

Other long term liabilities

 

(47,654

)

(365,023

)

Total adjustments

 

$

(6,939,946

)

$

8,939,683

 

Net cash used in operating activities in continuing operations

 

$

(19,635,711

)

$

(7,589,520

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Purchases of property and equipment

 

$

(973,481

)

$

(1,210,181

)

Net cash used in investing activities in continuing operations

 

$

(973,481

)

$

(1,210,181

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Net borrowings under line of credit

 

$

6,360,912

 

 

Net proceeds from notes payable

 

11,826,500

 

 

Net proceeds from public sale of common stock

 

 

21,513,225

 

Reduction of restricted cash

 

34,000

 

 

Net proceeds from exercise of options to purchase common stock

 

1,125,968

 

7,142

 

Net proceeds from exercise of warrants to purchase common stock

 

1,550,300

 

 

Net cash provided by financing activities in continuing operations

 

$

20,897,680

 

$

21,520,367

 

Cash flows from discontinued operations:

 

 

 

 

 

Net cash provided by (used in) operating activities of discontinued operations

 

$

(61,921

)

$

310,047

 

 

 

 

 

 

 

Net cash provided by investing activities of discontinued operations

 

$

716,700

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents from discontinued operations

 

$

654,779

 

$

310,047

 

Effects of foreign currency exchange rates on cash and cash equivalents

 

$

68,732

 

$

(94,623

)

Net increase in cash and cash equivalents

 

$

1,011,999

 

$

12,936,090

 

Cash and cash equivalents at beginning of period

 

$

13,369,208

 

$

9,957,716

 

Cash and cash equivalents at end of period

 

$

14,381,207

 

$

22,893,806

 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

6



Table of Contents

 

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

 

Non-cash Investing and Financing Activities:

 

 

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

Employee stock-based compensation (1)

 

$

1,784,019

 

$

1,530,524

 

Common stock issued related to 401(k) contributions

 

 

107,959

 

Accretion of redeemable convertible preferred stock discount and dividends

 

3,531,882

 

2,417,109

 

Issuance of warrants and beneficial conversion feature

 

515,000

 

 

Modification of warrants to purchase common stock

 

 

515,000

 

Common stock issued in lieu of dividends on redeemable convertible Series B preferred stock

 

15,000

 

71,370

 

Conversion of Series B Preferred Stock into common stock

 

 

1,075,000

 

Exercise of warrant liabilities for common stock

 

299,019

 

 

Adjustment to conversion price of Series B Preferred Stock

 

 

55,369

 

 

 

 

 

 

 

Interest and Income Taxes Paid:

 

 

 

 

 

Interest

 

$

260,919

 

$

107,778

 

Income taxes

 

 

 

 


(1) Includes $(18,357) and $48,646 related to discontinued operations for the six month periods ended June 30, 2010 and July 4, 2009, respectively.

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

7



Table of Contents

 

SATCON TECHNOLOGY CORPORATION

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2010 (“2010”) AND JULY 4, 2009 (“2009”)

(Unaudited)

 

Note A. Basis of Presentation

 

The accompanying unaudited consolidated financial statements include the accounts of Satcon and its wholly owned subsidiary (Satcon Power Systems Canada, Ltd.) and its discontinued operating subsidiaries (Satcon Applied Technology, Satcon Electronics, Inc. and Satcon Power Systems, Inc.) (collectively, the “Company”) as of June 30, 2010 and for the three and six months ended June 30, 2010 and July 4, 2009 and have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America for interim financial reporting and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. All intercompany accounts and transactions have been eliminated. These unaudited consolidated financial statements, which, in the opinion of management, reflect all adjustments (including normal recurring adjustments) necessary for a fair presentation, should be read in conjunction with the financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009. Operating results for the three and six months ended June 30, 2010 are not necessarily indicative of the results that may be expected for any future interim period or for the entire fiscal year.

 

Note B. Realization of Assets and Liquidity

 

The Company anticipates that its current cash along with the availability under its credit facility with Silicon Valley Bank and amounts received in the June 2010 subordinated debt financing will be sufficient to fund its operations through at least December 31, 2010. The Company has developed a business plan that envisions a significant increase in revenue from the results experienced in the recent past and that allows the Company to remain in compliance with the covenants of the credit facility. Although the Company believes it has developed a realistic business plan, there is no assurance that it can achieve these objectives. Accordingly, if the Company is unable to realize its business plan or does not remain in compliance with the covenants of the credit facility, the Company may need to raise additional funds in the future in order to sustain operations by selling equity or taking other actions to conserve its cash position, which could include selling of certain assets and incurring additional indebtedness, subject to the restrictions in the 2007 preferred stock financing and in the credit facility with Silicon Valley Bank and those restrictions contained within our subordinated debt instrument. Such actions would likely require the consent of the investors in the preferred stock financing (the “Investors”), Silicon Valley Bank and/or the lender of the subordinated debt, and there can be no assurance that such consents would be given. Furthermore, there can be no assurance that the Company will be able to raise such funds if they are required.

 

Note C. Significant Accounting Policies and Basis of Consolidation

 

There have been no material changes from the Significant Accounting Policies and Basis of Presentation previously disclosed in Part II, Item 8, contained within “Notes to Consolidated Financial Statements” of the Company’s Annual Report on Form 10-K for the fiscal year ending December 31, 2009.

 

Basis of Consolidation

 

The consolidated financial statements include the accounts of Satcon and its wholly owned subsidiary (Satcon Power Systems Canada, Ltd.) and its discontinued operating subsidiaries (Satcon Applied Technology, Satcon Electronics, Inc. and Satcon Power Systems, Inc.). All intercompany accounts and transactions have been eliminated in consolidation.

 

Revenue Recognition

 

The Company recognizes revenue from product sales in accordance with Staff Accounting Bulletin (SAB) No. 104, Revenue Recognition. Product revenue is recognized when there is persuasive evidence of an arrangement, the fee is fixed or determinable, delivery of the product to the customer has occurred and the Company has determined that collection of the fee is probable. Title to the product passes upon shipment of the product, as the products are typically shipped FOB shipping point, unless otherwise agreed upon in advance with the customer. If the product requires installation to be performed by the Company, all revenue related to the product is deferred and recognized upon the completion of the installation. If the product requires specific customer acceptance, revenue is deferred until customer acceptance occurs or the acceptance provisions lapse, unless the Company can objectively and reliably demonstrate that the criteria specified in the acceptance provisions are satisfied. When appropriate the Company provides for a warranty reserve at the time the product revenue is recognized. If a contract involves the provisions of multiple elements and the elements qualify for

 

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separation, total estimated contract revenue is allocated to each element based on the relative fair value of each element provided. The amount of revenue allocated to each element is limited to the amount that is not contingent upon the delivery of another element in the future. Revenue is recognized on each element as described above.

 

Cost of product revenue includes materials, labor and overhead.

 

Deferred revenue consists of cash received for extended product warranties, preventative maintenance plans and up-time guarantee programs. Deferred revenue also consists of amounts billed to customers in advance of services performed, product shipped or installation completed. When an item is deferred for revenue recognition purposes, the deferred revenue is recorded as a liability and the deferred costs are recorded as a component of inventory in the consolidated balance sheets.

 

Unbilled Contract Costs and Fees and Funded Research and Development Costs in Excess of Billings

 

Unbilled contract costs and fees represent revenue recognized in excess of amounts billed due to contractual provisions or deferred costs that have not been recognized as revenue or billed to the customer.

 

Cash and Cash Equivalents

 

Cash and cash equivalents include demand deposits and highly-liquid investments with maturities of three months or less when acquired. Cash equivalents are stated at cost, which approximates market value. At June 30, 2010 and December 31, 2009, the Company has restricted cash of $0 and $34,000, respectively.

 

Accounts Receivable

 

Accounts receivable are reduced by an allowance for amounts that may become uncollectible in the future. The estimated allowance for uncollectible amounts is based primarily on a specific analysis of accounts in the receivable portfolio and historical write-off experience. While management believes the allowance to be adequate, if the financial condition of our customers were to deteriorate, resulting in impairment of their ability to make payments, additional allowances may be required.

 

Inventory

 

Inventory is stated at the lower of cost or market and costs are determined based on the first-in, first-out method of accounting and include material, labor and manufacturing overhead costs. The Company periodically reviews quantities of inventory on hand and compares these amounts to expected usage of each particular product or product line. The Company records, as a charge to cost of product revenue, any amounts required to reduce the carrying value to net realizable value.

 

Foreign Currency Translation

 

As of April 1, 2010, the Company determined that the functional currency of its foreign subsidiary is the US dollar. As the functional currency changed from the foreign currency to the reporting currency, the translation adjustments as of April 1, 2010 remains as a component of accumulated other comprehensive income (loss). Prior to this determination, the functional currency had been the local currency, assets and liabilities were translated at the rates in effect at the balance sheet date, while stockholders’ equity (deficit) including the long-term portion of intercompany advances is translated at historical rates. Statements of operations and cash flow amounts are translated at the average rate for the period. Translation adjustments were included as a component of accumulated other comprehensive income (loss). Foreign currency gains and losses were a charge of $0.3 million and a gain of $0.1 million for the three months ended June 30, 2010 and July 4, 2009, respectively. Foreign currency gains and losses were a charge of $0.4 million and $0.1 million for the six months ended June 30, 2010 and July 4, 2009, respectively. All foreign currency transaction gains and losses are recorded as a component of other income (expense).

 

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 financial statements and the reported amounts of revenue and expenses during the period reported. Management believes the most significant estimates include the net realizable value of accounts receivable and inventory, warranty provisions, the recoverability of long-lived assets, the recoverability of deferred tax assets and the fair value of equity and financial instruments. Actual results could differ from these estimates.

 

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Income Taxes

 

The Company accounts for income taxes utilizing the asset and liability method for accounting and reporting for income taxes. Under this method, deferred tax assets and deferred tax liabilities are recognized based on temporary differences between the financial reporting and income tax basis of assets and liabilities using statutory rates. In addition, the Company is required to establish a valuation allowance against net deferred tax assets if, based upon the available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.

 

The Company is required to recognize the tax benefits of uncertain tax positions only where the position is “more likely than not” to be sustained assuming examination by tax authorities. The amount recognized is the amount that represents the largest amount of tax benefit that is greater than 50% likely of being ultimately realized. A liability is recognized for any benefit claimed, or expected to be claimed, in a tax return in excess of the benefit recorded in the financial statements, along with any interest and penalties (if applicable) on that excess. In addition, the Company is required to provide a tabular reconciliation of the change in the aggregate unrecognized tax benefits claimed, or expected to be claimed, in tax returns and disclosure relating to the accrued interest and penalties for unrecognized tax benefits. Discussion is also required for those uncertain tax positions where it is reasonably possible that the estimate of the tax benefit will change significantly in the next twelve months.

 

As of December 31, 2009, the Company had federal and state net operating losses (“NOL”) carry forwards and federal and state R&D credit carry forwards, which may be available to offset future federal and state income tax liabilities which expire at various dates through 2030. Utilization of the NOL and R&D credit carry forwards may be subject to a substantial annual limitation due to ownership change limitations that have occurred previously or that could occur in the future provided by Section 382 of the Internal Revenue Code of 1986, as well as similar state and foreign provisions. These ownership changes may limit the amount of NOL and R&D credit carry forwards that can be utilized annually to offset future taxable income and tax, respectively. In general, an ownership change, as defined by Section 382, results from transactions increasing the ownership of certain shareholders or public groups in the stock of a corporation by more than 50 percentage points over a rolling three-year period. Since the Company’s formation, the Company has raised capital through the issuance of capital stock on several occasions (both pre and post initial public offering) which, combined with the purchasing shareholders’ subsequent disposition of those shares, may have resulted in a change of control, as defined by Section 382, or could result in a change of control in the future upon subsequent disposition. The Company has not currently completed a study to assess whether a change of control has occurred or whether there have been multiple changes of control since the Company’s formation due to the significant complexity and cost associated with such study. If the Company has experienced a change of control at any time since Company formation, utilization of its NOL or R&D credit carry forwards would be subject to an annual limitation under Section 382 which is determined by first multiplying the value of our stock at the time of the ownership change by the applicable long-term tax-exempt rate, and then could be subject to additional adjustments, as required. Any limitation may result in expiration of a portion of the NOL or R&D credit carry forwards before utilization. Further, until a study is completed and any limitation known, no amounts are being presented as an uncertain tax position. The Company does not expect to have any taxable income for the foreseeable future. The Company has a full valuation allowance against the net operating losses and credits.

 

The tax years 1994 through 2009 remain open to examination by major taxing jurisdictions to which the Company is subject, which are primarily in the United States, as carryforward attributes generated in years past may still be adjusted upon examination by the Internal Revenue Service or state tax authorities if they are or will be used in a future period. The Company is currently not under examination by the Internal Revenue Service or any other jurisdiction for any tax years. The Company did not recognize any interest and penalties associated with unrecognized tax benefits in the accompanying financial statements. The Company would record any such interest and penalties as a component of interest expense. The Company does not expect any material changes to the unrecognized benefits within 12 months of the reporting date.

 

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Accounting for Stock-based Compensation

 

The Company has several stock-based employee compensation plans, as well as stock options issued outside of such plans as an inducement to engage new executives. Stock-based compensation cost is measured at the grant date based on the value of the award and is recognized as expense over the service period.

 

The Company uses the Black-Scholes valuation model for valuing options. This model incorporates several assumptions, including volatility, expected life and discount rate. The Company uses historical volatility as it believes it is more reflective of market conditions and a better indicator of volatility. The Company uses historical information in the calculation of expected life for its “plain-vanilla” option grants. If the Company determines that another method used to estimate expected volatility is more reasonable than the Company’s current methods, or if another method for calculating these input assumptions is prescribed by authoritative guidance, the fair value calculated for share-based awards could change significantly. Higher volatility and longer expected lives would result in an increase to share-based compensation determined at the date of grant.

 

The Company recognized the full impact of its share-based compensation plans in the consolidated financial statements for the three and six months ended June 30, 2010 and July 4, 2009 and did not capitalize any such costs on the consolidated balance sheets, as such costs that qualified for capitalization were not material. The following table presents share-based compensation expense included in the Company’s consolidated statement of operations:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

June 30,
2010

 

July 4,
2009

 

Cost of product revenue

 

$

62,012

 

$

38,135

 

$

112,625

 

$

86,763

 

Research and development

 

128,234

 

85,061

 

222,417

 

169,535

 

Selling, general and administrative expenses

 

891,413

 

702,430

 

1,467,334

 

1,225,580

 

 

 

 

 

 

 

 

 

 

 

Share based compensation expense from continuing operations before tax

 

1,081,659

 

825,626

 

1,802,376

 

1,481,878

 

 

 

 

 

 

 

 

 

 

 

Share based compensation expense from discontinued operations

 

 

22,581

 

(18,357

)

48,646

 

 

 

 

 

 

 

 

 

 

 

Total share based compensation expense before tax

 

1,081,659

 

848,207

 

1,784,019

 

1,530,524

 

 

 

 

 

 

 

 

 

 

 

Income tax benefit

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net share-based compensation expense

 

$

1,081,659

 

$

848,207

 

$

1,784,019

 

$

1,530,524

 

 

Compensation expense associated with the granting of stock options to employees is being recognized on a straight-line basis over the service period of the option. In instances where the actual compensation expense would be greater than that calculated using the straight-line method, the actual compensation expense is recorded in that period.

 

The weighted average grant date fair value of options granted during the three and six months ended June 30, 2010 and July 4, 2009 were $2.49 and $1.93 and $2.38 and $1.96, respectively, per option. The fair value of each stock option is estimated on the date of the grant using the Black-Scholes option-pricing model with the following range of assumptions:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30, 2010

 

July 4, 2009

 

June 30, 2010

 

July 4, 2009

 

Assumptions:

 

 

 

 

 

 

 

 

 

Expected life

 

5.0 to 5.6 (1)

 

5.0 to 6.25 years (1)

 

5.0 to 6.25 years (1)

 

5.0 to 6.25 years (1)

 

Expected volatility ranging from

 

72.4% to 76.5% (2)

 

72.9% - 82.96%(2)

 

72.4% to 76.5% (2)

 

72.9% - 82.96% (2)

 

Dividends

 

none

 

none

 

none

 

none

 

Risk-free interest rate

 

1.10% (3)

 

1.50% (3)

 

1.10% to 2.50% (3)

 

1.50% to 2.00% (3)

 

Forfeiture Rate (4)

 

0% to 6.25%

 

0% to 6.25%

 

0% to 6.25%

 

0% to 6.25%

 

 


(1)

The option life for the three months ended June 30, 2010 was determined using actual option experience. Prior to March 31, 2010, the option life was determined using the simplified method for estimating expected option life, which qualify as “plain-vanilla” options

(2)

The stock volatility for each grant is measured using the weighted average of historical daily price changes of the Company’s common stock over the most recent period equal to the expected option life of the grant, the historical short term trend of the option and other factors, such as expected changes in volatility arising from planned changes in the Company’s business

 

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operations.

(3)

The risk-free interest rate for each grant is equal to the U.S. Treasury yield curve in effect at the time of grant for instruments with a similar expected life.

(4)

The estimated forfeiture rate for each option grant is between 0% - 6.25%. The Company periodically reviews the estimated forfeiture rate, in light of actual experience.

 

At June 30, 2010 approximately $9.2 million in unrecognized compensation expense remains to be recognized over a weighted average period of 2.2 years. The table below summaries the recognition of the deferred compensation expense associated with employee stock options over the next four years as follows:

 

 

 

Non Cash

 

 

 

Stock-Based

 

 

 

Compensation

 

Calendar Years Ending December 31,

 

Expense

 

 

 

 

 

2010

 

$

1,812,681

 

2011

 

3,608,461

 

2012

 

2,247,464

 

2013

 

1,250,034

 

2014

 

238,822

 

 

 

 

 

Total

 

$

9,157,462

 

 

Concentration of Credit Risk

 

Financial instruments that subject the Company to concentrations of credit risk principally consist of cash equivalents, trade accounts receivable, unbilled contract costs and deposits in bank accounts. The Company deposits its cash and invests in short-term investments primarily through a national commercial bank. Deposits in excess of amounts insured by the Federal Deposit Insurance Corporation (FDIC) are exposed to loss in the event of nonperformance by the institution. The Company has cash deposits in excess of the FDIC insurance coverage.

 

The Company’s trade accounts receivable and unbilled contract costs and fees are primarily from sales to commercial customers and to a lesser extent U.S. government agencies. The Company does not require collateral and has not historically experienced significant credit losses related to receivables, letters of credit or unbilled contract costs and fees from individual customers or groups of customers in any particular industry or geographic area.

 

Significant customers are defined as those customers that account for 10% or more of total net revenue in a fiscal year or 10% or more of accounts receivable and unbilled contract costs and fees at the end of a fiscal period. For the three and six months ended June 30, 2010, there were two customers and two customers that were deemed significant with regards to revenue, respectively. For the three and six months ended June 30, 2010, these customers accounted for approximately 30.1%, or approximately $8.3 million and approximately 25.1%, or approximately $10.6 million, of revenue. At June 30, 2010, there was one customer that was deemed significant with regards to accounts receivable. At June 30, 2010, this customer accounted for approximately 14.8%, or approximately $4.4 million, of accounts receivable. For the three and six months ended July 4, 2009, there were three and four customers that were deemed significant with regards to revenue. For the three months ended July 4, 2009, these customers accounted for approximately 42%, or approximately $3.9 million, of revenue. For the six months ended July 4, 2009, these customers accounted for approximately 54% or approximately $13.1 million, of revenue. At July 4, 2009, there are three customers that were deemed significant with regards to accounts receivable. At July 4, 2009, these customers accounted for approximately 51%, or approximately $4.5 million, of accounts receivable.

 

Research and Development Costs

 

The Company expenses research and development costs as incurred. Cost of research and development and other revenue includes costs incurred in connection with both funded research and development and other revenue arrangements and unfunded research and development activities.

 

Comprehensive Income (Loss)

 

Comprehensive income (loss) includes net loss and foreign currency translation adjustments prior to the changing of the functional currency in Canada to the US dollar.

 

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Fair Value of Financial Instruments

 

The Company’s financial instruments consist of cash equivalents, accounts receivable, unbilled contract costs and fees, warrants to purchase shares of common stock, accounts payable and the line of credit. The estimated fair values of these financial instruments approximate their carrying values at June 30, 2010 and December 31, 2009. The estimated fair values have been determined through information obtained from market sources and management estimates. The Company’s warrant liability is recorded at fair value. See “Fair Value Measurements” below.

 

Fair Value Measurements

 

The Company’s financial assets and liabilities are measured using inputs from the three levels of fair value hierarchy which are as follows:

 

Level 1 - Quoted prices in active markets for identical assets or liabilities.

Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis as of June 30, 2010 are as follows:

 

 

 

Fair Value Measurements at Reporting Date Using

 

 

 

 

 

Quoted Prices

 

 

 

 

 

 

 

 

 

in Active

 

Significant

 

 

 

 

 

 

 

Markets for

 

Other

 

Significant

 

 

 

Balance as of

 

Identical

 

Observable

 

Unobservable

 

 

 

June 30,

 

Assets

 

Inputs

 

Inputs

 

Description

 

2010

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

Money market funds (2)

 

$

 

$

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

 

$

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

Warrant liabilities (1)

 

$

4,446,742

 

$

 

$

4,446,742

 

$

 

 

 

 

 

 

 

 

 

 

 

Total Liabilities

 

$

4,446,742

 

$

 

$

4,446,742

 

$

 

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis as of December 31, 2009 are as follows:

 

 

 

 

Fair Value Measurements at Reporting Date Using

 

 

 

 

 

Quoted Prices

 

 

 

 

 

 

 

 

 

in Active

 

Significant

 

 

 

 

 

 

 

Markets for

 

Other

 

Significant

 

 

 

Balance as of

 

Identical

 

Observable

 

Unobservable

 

 

 

December 31,

 

Assets

 

Inputs

 

Inputs

 

Description

 

2009

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

Money market funds (2)

 

$

10,003,805

 

$

10,003,805

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

10,003,805

 

$

10,003,805

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

Warrant liabilities (1)

 

$

4,976,774

 

$

 

$

4,976,774

 

$

 

 

 

 

 

 

 

 

 

 

 

Total Liabilities

 

$

4,976,774

 

$

 

$

4,976,774

 

$

 

 

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(1)          The Company’s Level 2 financial assets, consist of long term investor warrant liabilities comprised of the Warrant As, Warrant Cs, the Series C Preferred Warrants and the placement agent warrants. The Warrant As and Warrant Cs are being fair valued utilizing a binomial lattice model and the placement agent warrants and the Series C Preferred Warrants are being fair valued using the Black-Scholes option pricing model. (see Note J. Convertible Debt Instruments and Warrant Liabilities-Valuation — Methodology and Significant Assumptions; Note K - Redeemable Convertible Series B and Series C Preferred Stock; and “Warrant Liabilities” below).

(2)          Included as a component of cash and cash equivalents on accompanying consolidated balance sheets.

 

Warrant Liabilities

 

On January 1, 2009, the Company adopted ASC 815-40-15 relating to evaluating whether an instrument is considered indexed to an entity’s own stock. The Company’s evaluation of the Series C Preferred Stock Warrants determined that the 19,799,023 Series C Preferred Stock Warrants did not qualify for a scope exception under ASC 815-40-15 as they were determined not to be indexed to the Company’s stock as prescribed by ASC 815-40-15. As a result, on the date of adoption, January 1, 2009, the Company reclassified these warrants from additional paid in capital to warrant liabilities through a cumulative effect of a change in accounting principle. The initial value of the warrant liability at adoption was $22,041,541.

 

For the period through July 3, 2009, the Company recorded a charge to change in fair value of warrants of approximately $3.2 million for the increase in the fair value related to these warrants during the period. The warrants did not qualify for hedge accounting, and as such, all subsequent changes in the fair value of these warrants were recognized currently in earnings until such time as the warrants were modified in the manner described below, or exercised or expired. These common stock purchase warrants do not trade in an active securities market, and as such, the Company estimated the fair value of these warrants using the Black-Scholes option pricing model using the following assumptions:

 

 

 

January 1, 2009

 

April 4, 2009

 

July 3, 2009

 

Assumptions:

 

 

 

 

 

 

 

Expected life

 

5.9 – 6.7 years

 

5.6 – 6.5 years

 

5.4 – 6.2 years

 

Expected volatility

 

80% - 85%

 

75% - 85%

 

75% - 80%

 

Dividends

 

none

 

none

 

none

 

Risk-free interest rate

 

1.69% - 1.83%

 

2.06% - 2.35%

 

2.56% - 2.87%

 

 

On July 3, 2009, the Company modified certain provisions contained within the Series C Preferred Stock Warrants. Under the terms of the original Series C Preferred Stock Warrants (prior to their modification), in addition to standard anti-dilution protection for stock splits or dividends, stock combinations, mergers, liquidation or similar events, the exercise price and number of shares issuable upon exercise of these warrants were subject to adjustment in the event of certain dilutive issuances (the “Dilutive Issuance Provision”). Upon each adjustment of the exercise price pursuant to the Dilutive Issuance Provision, the number of shares subject to the warrant were also to be adjusted by multiplying the current exercise price prior to the adjustment by the number of shares subject to the warrant and dividing the product by the exercise price resulting from the adjustment. The Dilutive Issuance Provision was modified to (i) limit the instances in which a dilutive issuance will cause an adjustment to the exercise price of the warrants and (ii) eliminate the provision that correspondingly increased the number of shares underlying the warrants in the event of a dilutive issuance that causes an adjustment to the exercise price. As a result of this modification these warrants were determined to be equity instruments by the Company, as they now qualify for the scope exception under ASC 815-40-15. Previously the warrants, due to the adoption of the provisions of ASC 815-40, were accounted for as a derivative liability. The Company is no longer required to mark these warrants to fair value each quarter. See Note J. Convertible Debt Instruments and Warrant Liabilities.

 

In addition, the Company determined the fair value of the investor warrants (the Warrant As and Warrant Cs) and placement agent warrants using valuation models it considers to be appropriate. The Company’s stock price has the most significant influence on the fair value of its warrants. An increase in the Company’s common stock price would cause the fair values of the warrants to increase, because the exercise price of the warrants is fixed at $1.815 per share and result in a charge to our statement of operations. A decrease in the Company’s stock price would likewise cause the fair value of the warrants to decrease and result in a credit to our statement of operations. See Note J. for valuation discussion.

 

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Redeemable Convertible Series B Preferred Stock

 

The Company initially accounted for its issuance of Series B Preferred Stock and associated warrants by allocating the proceeds received net of transaction costs based on the relative fair value of the Series B Preferred Stock and the warrants issued to the investors, and then to any beneficial conversion rights contained in the convertible redeemable preferred securities. The Company determined the initial value of the Series B Preferred Stock and investor warrants using valuation models it considers to be appropriate. The Series B Preferred Stock is classified within the liability section of the Company’s balance sheet. To the extent that the Series B Preferred Stock is subject to a remeasurement event or is otherwise modified, the Series B Preferred Stock will be reclassified to temporary equity.

 

Redeemable Convertible Series C Preferred Stock

 

The Company initially accounted for its issuance of Series C Preferred Stock and associated warrants by allocating the proceeds received net of transaction costs based on the relative fair value of the Series C Preferred Stock and the warrants issued to the Investors, and then to any beneficial conversion rights contained in the convertible redeemable preferred securities. The Series C Preferred Stock is classified as temporary equity on the balance sheet. The Company determined the initial value of the Series C Preferred Stock and investor warrants using valuation models it considers to be appropriate. The Company is using the effective interest method to accrete the carrying value of the Series C Preferred Stock through the earliest possible redemption date (November 8, 2011), at which time the value of the Series C Preferred Stock would be $30.0 million or 120% of its face value and dividends.

 

Note D. Discontinued Operations

 

On January 10, 2010, the Company sold its Applied Technology business unit for approximately $0.7 million in cash, net of closing costs. Prior to the sale the Applied Technology business unit was reported by the Company as its own operating segment. Operations associated with the Applied Technology business unit have been classified as discontinued operations in the accompanying consolidated statements of operations, and cash flows associated with this segment are included in cash flows from discontinued operations in the consolidated statements of cash flows. The Company evaluated the assets of the Applied Technology business unit and as of December 31, 2009 has classified them as held for sale. The Company recorded a gain on the sale of the Applied Technology business unit of approximately $0.5 million in its results of operations for the six months ended June 30, 2010.

 

Net sales from discontinued operations were $0.1 million and $3.0 million for the six months ended June 30, 2010 and July 4, 2009, respectively. Net income (loss) from discontinued operations was income of approximately $31,000 for the six months ended June 30, 2010 and a net loss of approximately $17,000 and $58,000 for the three and six months ended July 4, 2009, respectively.

 

The Company has not allocated interest to discontinued operations. The Company has eliminated all intercompany activity associated with discontinued operations.

 

The net assets of the Applied Technology division as December 31, 2009 consisted of the following, which have been reclassified in the accompanying consolidated balance sheets:

 

 

 

December 31,
2009

 

Prepaid expenses

 

$

35,004

 

Current assets of discontinued operations

 

$

35,004

 

Property and equipment, net

 

$

56,076

 

Goodwill other long-term assets

 

$

168,151

 

Non-current assets of discontinued operations

 

$

224,227

 

Accrued payroll and related expenses

 

$

117,702

 

Current liabilities of discontinued operations

 

$

117,702

 

Long-term liabilities of discontinued operations

 

$

 

 

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Table of Contents

 

Note E. Loss per Share

 

The following is the reconciliation of the numerators and denominators of the basic and diluted loss per share computations:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

June 30,
2010

 

July 4,
2009

 

Loss from continuing operations

 

$

(6,591,278

)

$

(5,816,429

)

$

(12,695,765

)

$

(16,529,203

)

 

 

 

 

 

 

 

 

 

 

Income (loss) from discontinued operations

 

 

(16,511

)

31,390

 

(58,193

)

Gain on sale of discontinued operations

 

 

 

500,217

 

 

Accretion and dividends and deemed dividends on Series C Preferred Stock

 

(1,907,631

)

(1,274,577

)

(3,531,882

)

(2,417,109

)

Net loss attributable to common shareholders

 

$

(8,498,909

)

$

(7,107,517

)

$

(15,696,040

)

$

(19,004,505

)

Basic and diluted:

 

 

 

 

 

 

 

 

 

Common shares outstanding, beginning of period

 

71,193,322

 

51,549,472

 

70,567,781

 

51,479,821

 

Weighted average common shares issued during the period

 

318,984

 

3,168,292

 

649,050

 

1,647,993

 

Weighted average shares outstanding—basic and diluted

 

71,512,306

 

54,717,764

 

71,216,831

 

53,127,814

 

 

 

 

 

 

 

 

 

 

 

Net loss per weighted average share, basic and diluted:

 

 

 

 

 

 

 

 

 

From loss on continuing operations attributable to common stockholders

 

$

(0.12

)

$

(0.13

)

$

(0.22

)

$

(0.36

)

From gain (loss) on discontinued operations

 

 

 

 

 

From gain on sale of discontinued operations

 

 

 

 

 

Net loss per weighted average share, basic and diluted

 

$

(0.12

)

$

(0.13

)

$

(0.22

)

$

(0.36

)

 

As of June 30, 2010 and July 4, 2009, shares of common stock issuable upon the exercise of options and warrants were excluded from the diluted average common shares outstanding, as their effect would have been antidilutive.  In addition, shares of common stock issuable upon the conversion of Series B Preferred Stock and Series C Preferred Stock and related dividends were excluded from the diluted weighted average common shares outstanding as their effect would also have been antidilutive.   Basic earnings per share excludes dilution and is computed by dividing income attributable to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company, except when the effect would be antidilutive.

 

The table below summarizes the actual number of options and warrants and convertible preferred stock that were excluded from the calculation above due to their effect being antidilutive:

 

 

 

June 30,
2010

 

July 4,
2009

 

Common Stock issuable upon the exercise of:

 

 

 

 

 

Options

 

12,446,133

 

11,169,620

 

Warrants

 

24,929,322

 

25,730,932

 

Total Options and Warrants excluded

 

37,375,455

 

36,900,552

 

 

 

 

 

 

 

Common Stock issuable upon the conversion of redeemable convertible Series B Preferred Stock

 

251,678

 

251,678

 

Common Stock issuable upon the conversion of redeemable convertible Series C Preferred Stock

 

27,134,484

 

25,945,732

 

 

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Table of Contents

 

The table below details out shares of common stock underlying securities for which the securities would have been considered dilutive at June 30, 2010 and July 4, 2009, had the Company not been in a loss position:

 

 

 

# of Underlying Common Shares

 

 

 

June 30,
2010

 

July 4,
2009

 

Employee stock options

 

12,037,633

 

3,141,950

 

Warrants to purchase common stock

 

24,929,322

 

20,330,537

 

Series B Convertible Preferred Stock

 

251,678

 

251,678

 

Series C Convertible Preferred Stock

 

27,134,484

 

25,945,732

 

Total

 

64,353,117

 

49,669,897

 

 

Note F. Inventory

 

Inventory components at the end of each period were as follows:

 

 

 

June 30,
2010

 

December 31,
2009

 

Raw material

 

$

7,862,041

 

$

7,268,446

 

Work-in-process

 

3,772,906

 

2,588,205

 

Finished goods

 

7,051,030

 

2,041,920

 

 

 

$

18,685,977

 

$

11,898,571

 

 

Note G. Legal Matters

 

From time to time, the Company is a party to routine litigation and proceedings in the ordinary course of business.

 

The Company is not aware of any current or pending litigation in which the Company is or may be a party that it believes could materially adversely affect the results of operations or financial condition.

 

Note H. Commitments and Contingencies

 

Operating Leases

 

The Company leases its facilities under various operating leases that expire through October 2016.

 

Future minimum annual rentals under lease agreements at June 30, 2010 are as follows:

 

Fiscal Year

 

 

 

2010

 

$

652,555

 

2011

 

967,947

 

2012

 

424,960

 

2013

 

243,525

 

2014

 

251,643

 

thereafter

 

411,287

 

Total

 

$

2,951,917

 

 

Letters of Credit:

 

The Company utilized a standby letter of credit to satisfy a security deposit requirement and in some instances utilizes a standby letter of credit to satisfy warranty commitments. Outstanding standby letters of credit as of June 30, 2010 and December 31, 2009 were $0 and $34,000, respectively.  The Company is required to pledge cash as collateral on these outstanding letters of credit. As of June 30, 2010 and December 31, 2009, the cash pledged as collateral for these letters of credit was $0 and $34,000, respectively, and is included in restricted cash and cash equivalents on the consolidated balance sheets.

 

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Employment Agreements

 

The Company’s employment arrangements with its current Chief Executive Officer and Chief Financial Officer provide that if the executive’s employment is terminated by the Company without cause or is constructively terminated within one year following a “change of control” transaction, his salary and medical benefits will be continued for one year thereafter subject to his execution of a release agreement with the Company.

 

Line of Credit

 

On February 26, 2008, the Company entered into a Loan and Security Agreement (the “Loan Agreement”) with Silicon Valley Bank (the “Bank”).  Under the terms of the Loan Agreement, the Bank agreed to provide the Company with a credit line up to $10.0 million.  The Company’s obligations under the Loan Agreement are secured by substantially all of the assets of the Company and advances under the Loan Agreement are limited to 80% of eligible receivables and the lesser of 25% of the value of the Company’s eligible inventory, as defined, or $1.0 million.  Interest on outstanding borrowings accrues at a rate per annum equal to the Prime Rate plus one percent (1.0%) per annum, as defined, or the LIBOR Rate plus three and three quarter percent (3.75%) per annum.  The Loan Agreement contains certain financial covenants relating to tangible net worth, as defined, which the Company must satisfy in order to borrow under the agreement.  In addition, the Company agreed to pay to the Bank a collateral monitoring fee of $750 per month and agreed to the following additional terms: (i) $50,000 commitment fee, $25,000 to be paid at signing of the Loan Agreement and $25,000 to be paid on the one year anniversary of the  Loan Agreement; (ii) an unused line fee in the amount of 0.5% per annum of the average unused portion of the revolving line; and (iii) an early termination fee of 0.5% of the total credit line if the Company terminates the Loan Agreement prior to 12 months from the Loan Agreement’s effective date.

 

On February 18, 2010, the Company entered into the Fourth Loan Modification Agreement with the Bank.  The Fourth Loan Modification modified the term of the Loan Agreement to originally expire on March 19, 2010.

 

On March 10, 2010, the Company entered into the Fifth Loan Modification Agreement with the Bank. The Fifth Loan Modification Agreement amended certain provisions of the Loan Agreement. Among other modifications and amendments, (i) the term of the Loan Agreement has been extended to October 18, 2011, (ii) the Company’s tangible net worth covenant, as defined, has been set at approximately $7.5 million and (iii) the Company’s liquidity covenant, as defined, has been set at approximately $4.0 million.   In addition to the above, pursuant to the terms of the Fifth Loan Modification Agreement, the Bank provided the Company two additional tranches of term debt each in a maximum principal amount of $1,000,000, which, if drawn down, would reduce availability under the revolving credit line.  The Company paid a modification fee of $37,500 in connection with the Fifth Loan Modification Agreement.

 

On April 22, 2010, the Company entered into the Sixth Loan Modification Agreement with the Bank providing for a new $5,000,000 non-formula sublimit within its overall $10,000,000 borrowing facility.  This new sublimit provides the Company with working capital borrowing capacity in excess of the amount that would otherwise be available under its existing formula based on accounts receivable.  The availability of the new sublimit was to be reduced by $2,500,000 on June 29, 2010 and was subject to the Company meeting prescribed liquidity, tangible net worth and other covenants.

 

On June 16, 2010, the Company entered into the Seventh Loan Modification Agreement with the Bank that reduced the existing $5,000,000 non-formula sub limit of the borrowing facility to $2,500,000 as of July 1, 2010 and $0 as of August 30, 2010.  The Company will continue to be able to borrow up to $10,000,000 from the Bank under the Loan Agreement on a formula basis.

 

As of June 30, 2010 and December 31, 2009, the Company had $9.4 million and $3.0 million outstanding under the Loan Agreement and the Bank’s prime rate was 4%.  The rate used was the Bank’s prime rate of 4% plus 1% (or 5% at June 30, 2010 and December 31, 2009).   The Company’s non-formula based borrowings interest rate at June 30, 2010 was 8%.

 

The Company has certain financial covenants under the Loan Agreement.  At June 30, 2010, the Company’s most restrictive covenant under the line of credit was a minimum tangible net worth covenant, as defined, which was set at approximately $14.0 million.  At June 30, 2010, the Company’s minimum tangible net worth, as defined, was approximately $18.5 million.  The Company also has a liquidity covenant, as defined, which was set at approximately $4.0 million.  As of June 30, 2010, the Company’s liquidity, as defined, was approximately $14.4 million, which exceeded the covenant requirement.  As of June 30, 2010, the Company had $0.1 million available under the line of credit.

 

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Table of Contents

 

Notes Payable

 

On June 16, 2010, the Company entered into a Venture Loan and Security Agreement with Compass Horizon Funding Company LLC (the “Lender”) pursuant to which the Lender has loaned the Company $12,000,000 (the “Subordinated Loan”).  After the Lender’s closing fees and expenses, the net proceeds to the Company were $11,826,500.  Interest on the Subordinated Loan will accrue at a rate per annum equal to 12.58%.  The Subordinated Loan is subordinated to up to $15,000,000 of senior indebtedness, provided that from and after August 31, 2010, the senior indebtedness cannot exceed an amount equal to 80% of the Company’s accounts receivable plus 40% of its inventory.  The Subordinated Loan is to be repaid over 42 months following the closing.  During the first 9 months after the closing the Company is only required to pay interest on the Subordinated Loan and thereafter the Subordinated Loan will be repaid in 33 substantially equal monthly installments of interest and principal.  In connection with the Subordinated Loan, the Company has issued to the Lender five year warrants to acquire up to an aggregate of 591,716 shares of the Company’s common stock at an exercise price of $2.4336 per share (which was the 20-day trailing volume weighted average price of the Company’s common stock).  The relative fair value of the warrants was $0.9 million and will be recorded as interest expense over the term of the loan.   The Company estimated the fair value of the warrants using the Black-Scholes option pricing model using the following assumptions:

 

 

 

June 16, 2010

 

Assumptions:

 

 

 

Expected life

 

5 years

 

Expected volatility

 

74.9%

 

Dividends

 

none

 

Risk-free interest rate

 

2.0%

 

 

The Subordinated Loan is to be repaid over 42 months as follows:

 

Fiscal Year

 

Principal
Repayment

 

2010

 

$

 

2011

 

2,541,720

 

2012

 

4,233,191

 

2013

 

4,797,531

 

2014

 

427,558

 

Total

 

$

12,000,000

 

 

Note I. Product Warranties

 

The Company provides a warranty to its customers for most of its products sold.  In general the Company’s warranties are for one year after the sale of the non-photovoltaic product and five years for photovoltaic inverter product sales.  The Company reviews its warranty liability quarterly.    The Company’s estimate for product warranties is based on an analysis of actual expenses by specific product line and estimated future costs related to warranty.  Factors taken into consideration when evaluating the Company’s warranty reserve are (i) historical claims for each product, (ii) the development stage of the product, (iii) volume increases, (iv) life of warranty and (v) other factors.  To the extent actual experience differs from the Company’s estimate, the provision for product warranties will be adjusted in future periods.  Such differences may be significant.

 

Accrued warranty is included in other accrued expenses on the Company’s Consolidated Balance Sheets.  The following is a summary of the Company’s accrued warranty activity for the following periods:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,
2010

 

July 4,
2009

 

June 30,
2010

 

July 4,
2009

 

Balance at beginning of period

 

$

2,221,885

 

$

1,939,255

 

$

1,869,579

 

$

1,982,087

 

Provision

 

855,898

 

336,153

 

1,385,517

 

835,461

 

Usage

 

(234,924

)

(237,516

)

(412,237

)

(779,656

)

Balance at end of period

 

$

2,842,859

 

$

2,037,892

 

$

2,842,859

 

$

2,037,892

 

 

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Table of Contents

 

Note J. Convertible Debt Instruments and Warrant Liabilities

 

Features of the Convertible Notes and Warrants

 

On July 19, 2006, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with the purchasers named therein (the “Purchasers”) in connection with the private placement (the “Private Placement”) of:

 

·                  $12,000,000 aggregate principal amount of senior secured convertible notes (the “Convertible Notes”), convertible into shares of the Company’s common stock at a conversion price of $1.65 per share;

 

·                  Warrant As to purchase up to an aggregate of 3,636,368 shares of the Company’s common stock at a price of $1.815 per share for a period beginning six months from the date of such warrants and ending on the seventh anniversary of the date of such warrants; and

 

·                  Warrant Bs to purchase up to an aggregate of 3,636,368 shares of the Company’s common stock at a price of $1.68 per share for a period of 90 trading days beginning the later of six months from the date of such warrants and the date the Securities and Exchange Commission (the “SEC”) declares effective a shelf registration statement covering the resale of the common stock underlying the securities issued in the Private Placement (the “Registration Statement”); to the extent the Warrant Bs are exercised, the Purchasers were entitled to receive additional warrants (the Warrant Cs), as described below.  Because the registration statement was declared effective on September 27, 2006, these warrants were originally exercisable for the 90 trading day period beginning six months from the date of such warrants (i.e. until May 30, 2007). On December 20, 2006 the Warrant Bs were amended to extend the expiration date of the Warrant Bs issued in the Private Placement from May 30, 2007 to August 31, 2007. The Warrant Bs were exercised in full on July 17, 2007 for $1.31 per share.  See further discussion below related to the exercise of the Warrant Bs and the issuance of Warrant Cs to the holders as a result of such exercise.

 

On November 7, 2007, the Convertible Notes were retired by cash redemption.

 

Additionally, with respect to the common stock underlying the Warrant Cs issued in July 2007 upon exercise of the Warrant Bs, the Company was also obligated to (i) file a registration statement covering the resale of such common stock with the SEC within 30 days following the issuance of the Warrant Cs (which it has satisfied), (ii) use its best efforts to cause such registration statement to be declared effective within 60 days following the issuance of the Warrant Cs (or 90 days in the event of a review of such registration statement by the SEC) (which it has satisfied as such registration statement was declared effective on September 11, 2007) and (iii) use its best efforts to keep such registration statement effective until the earlier of (x) the fifth anniversary of the effective date of the registration statement, (y) the date all of the securities covered by the registration statement have been publicly sold and (z) the date all of the securities covered by the registration statement may be sold without restriction under SEC Rule 144.

 

Warrant As

 

The Warrant As originally entitled the holders thereof to purchase up to an aggregate of 3,636,368 shares of the Company’s common stock at a price of $1.815 per share for a period beginning six months from the date of such warrants and ending on the seventh anniversary of the date of such warrants.  The period prior to six months from the date of the warrants is hereinafter referred to as the “non-exercise period.” The exercise price and the number of shares underlying these warrants are subject to adjustment for stock splits, stock dividends, combinations, distributions of assets or evidence of indebtedness, mergers, consolidations, sales of all or substantially all assets, tender offers, exchange offers, reclassifications or compulsory share exchanges.

 

If a change of control of the Company occurs, as defined, the holders may elect to require the Company to purchase the Warrant As for a purchase price equal to the Black-Scholes value of the remaining unexercised portion of each Warrant A.

 

For so long as any Warrant As remain outstanding, the Company may not issue any common stock or common stock equivalents at a price per share less than $1.65. In the event of a breach of this provision, the holders may elect to require the Company to purchase the Warrant As for a purchase price equal to the Black-Scholes value of the remaining unexercised portion of each Warrant A.  As a result of the November 8, 2007 and December 20, 2007 preferred stock financing, as described in Note K below, the holders were entitled for a limited period of time (45 days after each issuance) to exercise this right.  During the fourth quarter of fiscal 2007, the Company paid approximately $1.4 million to redeem Warrant As representing 1,242,426 shares of common stock.  During the first quarter of fiscal 2008, the Company paid approximately $0.4 million to redeem Warrant As representing 303,031 shares of common stock.  See table below for assumptions used in valuing the warrants redeemed.  As of June 30, 2010 and December 31, 2009, Warrant As to purchase 1,877,426 and, 2,090,911 shares of common stock were outstanding,

 

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Table of Contents

 

respectively.  During the six month period ended June 30, 2010, warrants to purchase 213,485 shares of common stock were exercised.

 

If following the later of (i) the effective date of the Registration Statement and (ii) the six month anniversary of the issuance date, the volume weighted average price per share of our common stock for any 20 consecutive trading days exceeds 200% of the exercise price, then, if certain conditions are satisfied, including the Equity Conditions, the Company may require the holders of the Warrant As to exercise up to 50% of the unexercised portions of such warrants. If following the 24 month anniversary of the issuance date, the volume weighted average price per share of our common stock for any 20 consecutive trading days exceeds 300% of the exercise price, then, if certain equity conditions are satisfied, the Company may require the holders of the Warrant As to exercise all or any part of the unexercised portions of such warrants.

 

Warrant Bs

 

The Warrant Bs entitled the holders thereof to purchase up to an aggregate of 3,636,368 shares of the Company’s common stock at a price of $1.68 per share for a period of 90 trading days beginning the later of six months from the date of such warrants and the date the SEC declares effective the Registration Statement.  As noted above, as a result of an amendment, the expiration date of the Warrant Bs was extended to August 31, 2007.

 

On July 17, 2007, the holders of the Warrant Bs exercised such warrants in full, acquiring 3,636,638 shares of common stock at $1.31 per share.  The Company received proceeds of approximately $4.8 million.  To entice the holders of the Warrant Bs to exercise such warrants the Company reduced the exercise price from $1.68 to $1.31 per share.  As a result of reducing the exercise price the Company recorded a charge to operations in its fiscal third quarter ending September 29, 2007 related to the warrant modification of approximately $0.9 million to change in fair value of the Convertible Notes and warrants on the accompanying statement of operations.  Pursuant to the original terms of the Warrant Bs, upon exercise of the Warrant Bs, the warrant holders were entitled to receive additional warrants (“Warrant Cs”) to purchase a number of shares of common stock equal to 50% of the number of shares of common stock purchased upon exercise of the Warrant Bs.  As a result of the full exercise of the Warrant Bs, the holders received Warrant Cs to purchase 1,818,187 shares of common stock at an exercise price of $1.815 per share for a period beginning six months from the date of such warrants and ending on the seventh anniversary of the date of such warrants.

 

Warrant Cs

 

As discussed above, upon the exercise of the Warrant Bs, the holders were entitled to receive additional warrants (the “Warrant Cs”).  The Warrant Cs originally entitled the holders thereof to purchase up to an aggregate of 1,818,187 shares of our common stock at a price of $1.815 per share for a period beginning six months from the date of such warrants and ending on the seventh anniversary of the date of such warrants.  The period prior to six months from the date of the warrants is hereinafter referred to as the “non-exercise period.” The exercise price and the number of shares underlying these warrants are subject to adjustment for stock splits, stock dividends, combinations, distributions of assets or evidence of indebtedness, mergers, consolidations, sales of all or substantially all assets, tender offers, exchange offers, reclassifications or compulsory share exchanges.

 

If a change of control of the Company occurs, as defined, the holders may elect to require the Company to purchase the Warrant Cs for a purchase price equal to the Black-Scholes value of the remaining unexercised portion of each Warrant C.

 

For so long as any Warrant Cs remain outstanding, the Company may not issue any common stock or common stock equivalents at a price per share less $1.65. In the event of a breach of this provision, the holders may elect to require the Company to purchase the Warrant Cs for a purchase price equal to the Black-Scholes value of the remaining unexercised portion of each Warrant C. As a result of the November 8, 2007 and December 20, 2007 preferred stock financing, as described in Note K below, the holders were entitled for a limited period of time (45 days after each issuance) to exercise this right.  During the fourth quarter of fiscal 2007, the Company paid approximately $0.7 million to redeem Warrant Cs representing 621,215 shares of common stock.  During the quarter ended March 29, 2008, the Company paid approximately $0.2 million to redeem Warrant Cs representing 151,516 shares of common stock. See table below for assumptions used in valuing the warrants redeemed.  As of June 30, 2010 and December 31, 2009, Warrant Cs to purchase 946,971 and 1,045,456 shares of common stock were outstanding, respectively.  During the six month period ended June 30, 2010, warrants to purchase 98,485 shares of common stock were exercised.

 

If following the later of (i) the effective date of the Registration Statement and (ii) the six month anniversary of the issuance date, the volume weighted average price per share of our common stock for any 20 consecutive trading days exceeds 200% of the exercise price, then, if certain conditions are satisfied, including the Equity Conditions, the Company may require the holders of the Warrant Cs to exercise up to 50% of the unexercised portions of such warrants. If following the 24 month anniversary of the issuance date, the volume weighted average price per share of our common stock for any 20 consecutive trading days exceeds 300% of the

 

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Table of Contents

 

exercise price, then, if certain equity conditions are satisfied, the Company may require the holders of the Warrant Cs to exercise all or any part of the unexercised portions of such warrants.

 

Placement Agent Warrants

 

First Albany Capital (“FAC”) acted as placement agent in connection with the Private Placement. In addition to a cash transaction fee, FAC or its designees were entitled to receive five-year warrants to purchase 218,182 shares of the Company’s common stock at an exercise price of $1.87 per share. These warrants will be callable after the second anniversary of the closing of the Private Placement if the 20-day volume weighted average price per share of the Company’s common stock exceeds 175% of the exercise price. At the direction of FAC, these Placement Agent warrants were issued to First Albany Companies Inc., the parent of FAC.  As of June 30, 2010 and December 31, 2009, Placement Agent warrants to purchase 218,182 shares of common stock were outstanding, respectively.

 

Accounting for the Warrants

 

Upon issuance, the Warrant As, Warrant Bs and Warrant Cs, along with the Placement Agent Warrants (together the “Warrants”), did not meet the requirements for equity classification, because such warrants (a) must be settled in registered shares, (b) are subject to substantial liquidated damages if the Company is unable to maintain the effectiveness of the resale registration of the shares and (c) provide a cash-out election using a Black-Scholes valuation under various circumstances.  Therefore these Warrants are required to be accounted for as freestanding derivative instruments.  Changes in fair value are recognized as either a gain or loss in the statement of operations under the caption “Change in fair value of notes and warrants.”

 

Upon issuance, the Company allocated $2.7 million of the initial proceeds to the Warrants and immediately marked them to fair value resulting in a derivative liability of $4.9 million and a charge to other expense of $2.2 million.  As of June 30, 2010 and July 4, 2009, the remaining outstanding Warrants have been marked to fair value resulting in a derivative liability of $4.4 million and $5.0 million, respectively.

 

A summary of the changes in the fair value of the warrant liabilities:

 

Balance at December 31, 2008

 

$

2,407,438

 

 

 

 

 

Reclassification of Series C Preferred Stock Warrants to liabilities (2)

 

22,041,541

 

Fair value adjustment (1)

 

5,370,471

 

Balance at April 4, 2009

 

$

29,819,450

 

Fair value adjustment (1)

 

(1,776,137

)

Reclassification of Series C Preferred Stock Warrants to equity (2)

 

(25,193,785

)

Balance at July 4, 2009

 

$

2,849,528

 

 

Balance at December 31, 2009

 

$

4,976,774

 

Warrants exercised

 

(175,328

)

Fair value adjustment (1)

 

(1,088,978

)

Balance at March 31, 2010

 

$

3,712,468

 

Warrants exercised

 

(123,691

)

Fair value adjustment (1)

 

857,965

 

Balance at June 30, 2010

 

$

4,446,742

 

 


(1)          Amounts included in change in fair value of warrant liabilities on consolidated statement of operations.

(2)          On July 3, 2009, the Company modified certain provisions contained within the common stock purchase warrants issued in connection with the Series C Preferred Stock financing.  See Note C. Significant Accounting Policies and Basis of Consolidation — Warrant Liabilities for a description of the modifications.  As a result of these modifications 19,799,022 of the Company’s issued and outstanding common stock purchase warrants, previously treated as a derivative liability on January 1, 2009 will now be treated as equity pursuant to the derivative treatment exemptions afforded the Company.  In addition, as a result of this modification, the Company will no longer be required to mark these warrants to their fair value each quarter.

 

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Table of Contents

 

Valuation - Methodology and Significant Assumptions

 

The valuation of derivative instruments utilizes certain estimates and judgments that affect the fair value of the instruments. Fair values for the Company’s derivatives are estimated by utilizing valuation models that consider current and expected stock prices, volatility, dividends, forward yield curves and discount rates.  Such amounts and the recognition of such amounts are subject to significant estimates which may change in the future. (See Note C for valuation related to Series C Preferred Stock Warrants).

 

In estimating the fair value of the Warrants the following methods and significant input assumptions were applied:

 

Methods

 

·                  A binomial lattice model was utilized to estimate the fair value of Warrant As and Warrant Cs on the dates in the corresponding table below, as well as the fair value of the Placement Agent Warrants on the dates in the corresponding table below.  The binomial model considers the key features of the Warrants, and is subject to the significant assumptions discussed below.  First, a discrete simulation of the Company’s stock price was conducted at each node and throughout the expected life of the instrument.  Second, an analysis of the higher of a holding position (i.e., fair value of a future node value discounted using an applicable discount rate) or exercise position was conducted relative to each node, which considers the non-exercise period, until a final fair value of the instrument is concluded at the node representing the valuation date.  This model requires the following key inputs with respect to the Company and/or instrument:

 

 

 

Warrant As

 

Input

 

Dec. 31,
2008

 

Apr. 4,
2009

 

Jul. 4
2009

 

Oct. 3
2009

 

Dec. 31, 2009

 

Jan. 7,
2010

 

Jan. 14,
2010

 

Mar. 31, 2010

 

April 26,
2010

 

May 12,
2010

 

June 30,
2010

 

Quoted Stock Price

 

$

1.55

 

$

1.88

 

$

1.80

 

$

2.01

 

$

2.82

 

$

2.78

 

$

2.77

 

$

2.42

 

$

2.88

 

$

2.74

 

$

2.86

 

Exercise Price

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

$

1.815

 

Time to Maturity (in years)

 

4.6

 

4.3

 

4.0

 

3.8

 

3.6

 

3.6

 

3.6

 

3.3

 

3.2

 

3.2

 

3.0

 

Stock Volatility

 

73

%

75

%

75

%

75

%

75

%

75

%

75

%

75

%

75

%

75

%

75

%

Risk-Free Rate

 

1.44

%

1.69

%

1.98

%

1.72

%

2.00

%

1.74

%

1.74

%

1.74

%

1.0

%

1.0

%

1.0

%

Dividend Rate

 

0

%

0

%

0

%

0

%

0

%

0

%

0

%

0

%

0

%

0

%

0

%

Non-Exercise Period

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

N/A

 

 

 

 

Warrant Cs (1)

 

Input

 

Dec. 31,
2008

 

Apr. 4,
2009

 

Jul. 4
2009

 

Oct 3
2009

 

Dec. 31,
2009

 

Jan. 14,
2010

 

Mar. 31, 2010

 

June 30,
2010

 

Quoted Stock Price

 

$

1.55

 

$

1.88

 

$

1.80

 

$

2.01

 

$

2.82

 

$

2.77