Information included in this Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act). This information may involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of Valley Forge Composite Technologies, Inc. (the Company, or VLYF), to be materially different from future results, performance or achievements expressed or implied by any forward-looking statements. Forward-looking statements, which involve assumptions and describe future plans, strategies and expectations of the Company, are generally identifiable by use of the words may, will, should, expect, anticipate, estimate, believe, intend, or project or the negative of these words or other variations on these words or comparable terminology. These forward-looking statements are based on assumptions that may be incorrect, and there can be no assurance that these projections included in these forward-looking statements will come to pass. Actual results of the Company could differ materially from those expressed or implied by the forward-looking statements as a result of various factors. Except as required by applicable laws, the Company has no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future.
Since its inception in November 1996, VLYF has positioned itself to develop and acquire advanced technologies. Between 1996 and 2010, the Company won numerous contracts to produce various momentum wheels and other mechanical devices for special applications, some in aerospace (Aerospace Products). Historically, and in 2010, all of the Companys sales have been derived from these momentum wheels and other mechanical devices and this continues to be true through the filing date of this Form 10-K. The Company generated Aerospace Products revenues of $3,202,815 in 2009, increasing revenues to $18,675,269 in 2010. The Aerospace Products were sold to two customers in 2010, both of which are multinational corporations. One customer was responsible for approximately $14,000,000 in sales, with the other customer purchasing approximately $4,000,000 of products. The Company assembles momentum wheels from components produced by subcontractors. The selling price typically ranges for $25,000 to $75,000 per unit. The Company purchases components from a variety of sources and engages in direct selling to its customers.
Since September 11, 2001 the Company has focused much of its energy on the development and commercialization of its counter-terrorism products. These products consist of an advanced detection capability for illicit narcotics, explosives, and bio-chemical weapons hidden in cargo containers, the THOR LVX photonuclear detection system (THOR), and a passenger weapons scanning device, ODIN. In late 2009, the Company and its partners completed the development of THOR in Russia, and the system has been demonstrated through testing conducted by P.N. Lebedev Physical Institute of the Russian Academy of Sciences (LPI) to be operational and performing to the Companys satisfaction.
Presently, and for the last nearly eight years, the Company has focused on the development of the THOR-LVX (THOR) Advanced Explosives Detection System and preparing for the manufacturing and distribution of THOR in the United States and other countries.
THOR components primarily consist of a high energy miniature particle accelerator generating 55 million electron volts (MeV), high sensitivity detectors, data collection systems and a database of photonuclear signatures from which substances can be identified. THOR operates by creating photo nuclear reactions in light elements, selectively screening out all but the operational isotopes found in modern day explosives and narcotics (which are carbon, nitrogen and oxygen), and identifying secondary gamma quanta that are unique to each such isotope. The photo nuclear reactions follow a precise pattern or unique signature that can be used to immediately identify the substance by automatically comparing the patterns or signatures to our database. THOR can also be enhanced with a fast neutron detector in order to detect fissile material.
The Company believes that THOR is unique and advanced relative to competitive technologies. To the best of the Companys knowledge, there is no existing device that can screen containers for explosives, drugs, micro organisms and nuclear materials, such as plutonium and weapons grade uranium, in a commercially viable manner, with the accuracy and effectiveness of THOR. Because of its small size and effectiveness at detecting explosive, narcotic and bio weapon substances contained in attempted concealment barriers, the THOR technology can be applied in many security contexts including external scanning of entire cargo or truck containers, scanning airport bags and for protecting high value targets. The digital data, produced in milli-seconds, can be instantly transmitted to the appropriate threat mitigation, assessment and knowledge dissemination authorities.
The Company is unaware of any other system capable of performing at the level Thor does. While others may have similar concepts, the Company believes it is the first to reduce it to practice. Accordingly, the Company estimates it has a significant time advantage over any competitor who may attempt to build and bring to market a system of similar size and function. THOR has over ten years of research and development behind its prototype. Each THOR unit is estimated to have an operational life of ten years. Thus, once THOR is introduced to the market and implemented in the field, the Company believes that THOR owners for several years are likely to be loyal repeat customers. In the meantime, the Company will be taking steps to improve THOR and to customize it for new applications.
Pursuant to a Cooperative Research and Development Agreement (CRADA), the Companys partners in developing THOR are the Lawrence Livermore National Laboratory (LLNL), a national laboratory owned by the United States government and designated the Center of Excellence for new explosives detection systems (EDS) technologies, and the P. N. Lebedev Physical Institute of the Russian Academy of Sciences (LPI), the premiere physics laboratory in the Russian Federation. The THOR development efforts have been sponsored, in part, by the United States Department of Energy (the US D.O.E.).
In 2009, the Company and its partners completed the development of THOR in Russia, and the system has been demonstrated through testing conducted by LPI to be operational and performing to the Companys satisfaction. In July 2010, LLNL released to the Company a Final Project Report under the CRADA, confirming that the technical objectives of the CRADA have been met. The Company is developing plans to assemble a THOR demonstration unit in the United States to facilitate its first commercial sale of THOR. The Company is currently engaged in marketing activity for THOR units. Thereafter, the Company will establish limited scale production, and then plan and implement full scale production.
The Company has entered into a Consulting and Services Agreement (CSA) with Idaho State University (ISU). The CSA establishes a framework under which ISU, through the Idaho Accelerator Center (IAC), could assemble a demonstration unit in Pocatello, Idaho. In order to begin that project, the CSA requires the Company to propose a series of work orders setting forth work tasks, deliverables, due dates, IACs compensation and other commercial terms. To date, no work orders have been issued or accepted.
In April, 2002, the Company entered into an Exclusive Rights Agreement (ERA) with P.N. Lebedev Physical Institute, Russian Academy of Sciences (LPI), granting the Company sole and exclusive rights to distribute, promote, market and sell the projects/products known as PNDEN in the United States of America and all countries throughout the world with the exception of the Russian Federation and countries of the Commonwealth of Independent States. The ERA defines PNDEN as the Photo- Nuclear Detector of Hidden Explosives and Narcotics, which is the basic technology associated with THOR. In August 2004, the ERA was amended to extend the term to expire on April 12, 2014.
In April 2003, the Company entered into a Cooperative Research and Development Agreement (CRADA) with the Regents of the University of California, who operate the Department of Energys (DOE) Lawrence Livermore National Laboratory (LLNL), to implement a collaborative effort between the Company, LLNL, LPI, and other Russian institutions to develop equipment and procedures for detecting explosive materials concealed in airline checked baggage and cargo. The Company, LLNL and LPI implemented the CRADA from April 2003 through its expiration on March 30, 2010. The CRADA involves the development of an accelerator-detector complex which is the basis for the Companys THOR LVX product. In July 2010, LLNL issued its final report (Report) pursuant to the CRADA. LLNL did not publically release the Report, but authorized the Company to issue a July 12, 2010 press release concerning the systems performance, which states, in part:
Technical objectives of the project included the development and automation of the accelerator-detector complex for high efficiency detection of hidden explosives. Data acquisition and a photonuclear signature database were created. The system was operated and tested albeit on a limited sample size. A technique for the time analysis of signals from latent targets was developed and tested. This resulted in the positive identification of carbon and/or nitrogen. These techniques detected measurable decay from the radioisotopes formed upon irradiation.
In accordance with the CRADA, LLNL and the Company have disclosed to each other the subject inventions which have been developed through the collaborative effort. The Company will have a non-exclusive, non-transferable, royalty-free license to use any such subject inventions for its own use in the field of detection of hidden explosives. The Company also had an exclusive first option for six months following the expiration of the CRADA to negotiate for greater rights in any such inventions, such as a royalty-bearing exclusive, transferrable, domestic and foreign license, and LLNL is obligated to negotiate that license in good faith with the Company. Although the six-month period has expired, due to delays in translating and prosecuting Russian patents, LLNL personnel have advised the Company that they intend to negotiate an exclusive license with the Company. The Company continues to communicate with LLNL and believes it will ultimately finalize a license agreement with LLNL. Any license granted to the Company will be subject to US D.O.E.s so-called march-in-rights to cause the invention to be commercialized and to a non-exclusive, nontransferable, irrevocable, paid-up license to practice the invention subject to the license or have the invention practiced throughout the world by or on behalf of the U.S. Government. Russian Patent Applications have been completed. The company hopes to complete an exclusive license with LLNL in the coming months.
The Company was previously awarded a grant of over $1.8 million from the DOE for continued research, design, and production of the first THOR unit. The grant funds were allocated to the LLNL and have been reflected in the Company's financial statements in previous years as research and development costs. Historically, the Company has contributed research and development efforts, as required under the CRADA, and expenses to facilitate the commercialization of THOR. The Company anticipates incurring additional development costs associated with THOR under the CSA with Idaho State University, although no commitments have been made.
THOR materials and parts can be manufactured to the Companys specifications on an as needed basis from a variety of sources in the United States of America. The Company does not expect to encounter problems in acquiring the commercial quantities of components required to build THOR.
Each year millions of cargo containers arrive in the United States by ship, truck, and rail with no effective explosive and other threat detection systems currently available to inspect them. Ensuring the security of the maritime trade system is essential, both in the United States and internationally, given that an estimated 90 percent of the world's cargo moves by container. The Company believes that there is currently demand, both in the United States and internationally, for products that are able to accurately inspect these containers and that the market for these products will continue to be affected by the threat of terrorist incidents and efforts by governments and private industry to prevent them.
Technology licensing opportunities.
The Company believes that THORs capability to detect all typical chemical, nuclear, and bio weapon threats is well suited to assist the U. S. Department of Homeland Security, the United States Military, and certain foreign governments with ramping up efforts to protect ports, rail, truck, and airline cargo, high value assets, and ships from terrorists. We believe, but cannot guarantee, that the Companys license rights with respect to any subject inventions discovered under the CRADA would extend to using such subject inventions in the detection of all such threats.
The Companys successful production and sales of THOR may initially depend to a great extent on interest in THOR from the United States Government and select foreign markets. Following completion of the demonstration unit, the Company will continue to seek buyers worldwide both to increase THORs eventual market share and to reduce its potential dependence on any one customer.
The security and inspection market in which THOR will compete is highly competitive. The marketplace already includes a number of established competitors, many of which have significantly greater financial, technical and marketing resources than we have. These competitors likely also have more well established customer relationships and greater name recognition than we do, and will have operated in the industry for longer than us. All of these factors may affect our ability to successfully compete in the market, and these and other competitive pressures may materially and adversely affect our business, financial conditions and results of operations.
American Science and Engineering; GE Security; SAIC; CEIA; Nuctech; Morpho Detection Systems and others yet to be identified.
While the competition the Company and THOR will face will be intense and the challenges presented by this competition will be material, we believe that THOR will have a technological advantage over every known product in the industry available on the market today. The Company believes the THOR is more powerful than any known competitors products, can be made portable, and provides real time detection capability.
Traditional detection systems are based on X-rays of various low energy levels, including Nuclear Magnetic Resonance (NMR) and Quadropole Magnetic Resonance (QMR), or on low level gamma energies created by radioactive isotopes. It has been determined, however, that X-rays and lower level gamma energies lack sufficient strength to penetrate all barriers and are often absorbed or deflected before they can properly penetrate a container or identify its contents. THOR overcomes this problem by using a specialized particle accelerator to create high energy gamma rays that can penetrate virtually any cargo container and return a viable signal. The Company believes that THOR will have a competitive advantage over other products in the industry due to its specialized particle accelerator.
Typical research high energy particle accelerators are generally the size of a small warehouse and would not be suitable for use in the cargo inspection arena. But through decades of dedicated research, Russian scientists, many of whom have worked with the Company and LPI on the development of THOR, have developed a miniature particle accelerator approximately the size of a pool table. THOR utilizes this miniature particle accelerator to create the focused, high energy gamma rays that are necessary to accurately penetrate 8 feet through a cargo container and return a discernable signal. The detection energies generated by THOR are well in excess of the energies generated by typical EDS machines. As a comparison, typical EDS machines operate at 0.5 to 1.5 million electron volts (MeV). The Companys THOR generates 55 MeV.
To the Companys knowledge, only the THOR system can generate the necessary power levels and return signals to accurately determine the amount and exact chemical nature of explosives, drugs, or other illicit material in a sealed container in a commercially viable manner. According to multiple laboratory tests, the system effectively penetrates concealment media and performs to 99.6% accuracy.
THOR can be fully automated including the scanning and analysis of the nature and volume of explosive materials, devices or their components, meaning that no human operator is required for data interpretation, and it can be operated from a remote location. This reduces the operation costs of THOR compared to any other product. Also, THORs energy consumption is approximately 30 kilowatts vs. 50 kilowatts consumed by many other detection systems.
We have never built nor have we operated a THOR unit in the United States. While we believe that the materials, technology and labor needed to build a unit will be available at commercially reasonable costs, we do not know for certain just what the total cost will be. In addition, we do not know just what the operating costs of a THOR unit will be. We anticipate that we will be able to get a better understanding of those items if we are able to reach agreement with the Idaho Accelerator Center (under the Consulting and Services Agreement framework referenced above) to build and operate a unit. In addition, while we believe that the benefits offered by THOR will be both unique and of great value so customers will not be particularly price sensitive, we do not know whether we will be able to sell THOR units at a reasonable profit in excess of our costs.
The Company intends to sell THOR through direct sales means in the United States, Canada, and Europe. The Company has yet to determine its distribution strategy for the rest of the world. Presently there are no distribution agreements in effect; all such agreements have expired.
Government regulations may impact the market for THOR. Since many of the potential end users for THOR may be government agencies, the terms and conditions of procurement regulations may have a material effect on potential purchases of THOR by such agencies. For example, such terms and conditions would likely have a positive effect on sales efforts if they required the target inspection devices to perform to standards that THOR can achieve but many competing products cannot reach. If, conversely, factors other than performance criteria in which THOR has an advantage are emphasized, such terms and conditions may make our sales efforts more challenging. The Company cannot anticipate the terms and conditions that will apply to any specific procurement regulations applicable to potential sales of THOR to government agencies.
The Company has not yet sought any government approvals or other approvals required to comply with applicable electrical or safety codes required to manufacture, sell or operate THOR.
The Company intends to market THOR to prospective customers outside of the United States, and will need to have United States Department of State approval to export THOR to any foreign purchaser in addition to complying with regulations of the country into which we are exporting THOR.
The Company otherwise believes that government regulations will not have a material impact on the Companys production or sale of THOR units, and the Company does not anticipate any change to this in the future.
ODIN is a transmission X-ray system, producing medical type images of skeletons and organs that is similar to a technology used as the airport passenger weapons scanning system in several airports in Russia. The technology is not protected by patents outside of the Russian Federation; the Company has developed ODIN to improve and commercialize the technology for use in the United States and elsewhere outside of Russia.
The Company believes the ODIN technology, as compared against any system now in use in the United States, is more accurate (articles hidden inside or on the backside of a passenger are detected in a single scan with high resolution imaging), is fast , and is less inconvenient (passengers do not need to remove clothing or shoes). Between approximately April 2007 and February 2008, the Company developed a prototype of ODIN for employment at U.S. airports and passenger terminals. This prototype has similar functionality to the Russian technology, and is the product that the Company intends to market. In February 2008 ODIN passed independent radiation examination by the Radiation Safety Academy (RSA) and is certified by RSA as compliant under American National Standards Institute (ANSI) and the National Institute of Standards and Technology (NIST) standards for personnel security screening systems using x-ray or gamma radiation. Compliance with these ANSI/NIST standards means that ODIN is classified as uncontrolled and can be sold domestically and internationally. All X-ray exposure results for the operator, cabinet leakage, bystander exposure, and person being examined were well below U.S. Government guidelines and standards.
The Company is currently considering whether to manufacture ODIN directly, while licensing certain software or other non-owned technology, or entering into a joint venture to handle all manufacturing and marketing of ODIN. No decisions or commitments on this issue have yet been made.
Most ODIN materials and parts are available on an as needed basis from a variety of sources in the United States of America and Western Europe. Accordingly, the Company does not expect to encounter problems in acquiring the commercial quantities of components required to produce or maintain ODIN.
Because ODIN has both anti-terrorism and anti-crime applications, the potential ODIN market extends to include potentially every civilian application where quick, accurate, full-body non-intrusive personnel scanning is necessary. Applications could include use at schools, government offices, prison facilities, sports complexes, passenger cruise liners, airports, rail and bus terminals, corporate offices, and any number of other circumstances where security screening is important. However, a single ODIN unit requires ample floor and ceiling space and can be utilized only in suitable locations. ODIN units are competitively priced but are not inexpensive and therefore are suitable primarily for institutional and large enterprise applications.
The Company believes that the ODIN is the best available personnel screening device and is more accurate and more efficient in detailing weapons and other contraband than any known competitors product. ODIN has been evaluated by several potential clients, but the Company has not made its first sale; so there is no way to estimate customer dependency at this time.
Like THOR, the domestic market in which ODIN will compete is highly competitive. The marketplace already includes a number of established competitors, many of which have significantly greater financial, technical and marketing resources than we have. These competitors likely also have more well established customer relationships and greater name recognition than we do, and will have operated in the industry for longer than us. In many instances, ODIN will be competing with many established systems for which the owners may not be willing or may be unable to justify incurring the significant per unit expense to replace their existing screening technology. We anticipate that the principal competitors against ODIN will be products manufactured by the following companies: Smiths Detection; OSI Systems, Inc.; L-3 CommunicationsSecurity and Detection Systems; American Science and Engineering; GE Security; SAIC; CEIA; and Nuctech.
Because of this significant domestic competition and concerns that the near medical quality image produced by ODIN that reveals the contours of the person being scanned may not mesh well with personal privacy cultural issues in the United States, we have historically focused significant marketing efforts abroad, and these marketing efforts will continue. The Company believes, however, that the domestic market is evolving in a manner that may be favorable to ODIN due to recent events, including the Christmas 2009 attempted terrorist attack by the underwear bomber. With the concerns presented by garment and implant bombs, the transmission X-ray generated by ODIN may be critical in safeguarding our airways. ODIN provides a near medical quality image that reveals the anatomy of the person being scanned. This is in sharp contrast with the nude like images generated by competitors.
ODIN also faces competition internationally from many sources, including the products serving the U.S. market and the similar system manufactured in Russia. While we are discussing a future business arrangement with the Russian manufacturer, there is no restriction from that manufacturer putting its units into competition with the Company in attempted sales of ODIN. However, potential international buyers have indicated to us that they prefer to buy from an American product from an American company.
Initially, the Company intended to sell ODIN through direct sales means in North America, Eurasia, India, and to some extent, South America. However, in light of the joint venture mentioned above, the Company is reevaluating its distribution and sales strategy for ODIN. In the event the Company enters into a joint venture, sales will be made through that entity. No decisions or commitments on this issue have yet been made.
The Company is currently considering whether to manufacture ODIN directly, while licensing certain software or other non-owned technology, or entering into a possible joint venture to handle all manufacturing and marketing of ODIN. No decisions or commitments on this issue have yet been made.
As with THOR, government regulations may impact the market for ODIN. To the extent end users are government agencies, the terms and conditions of procurement regulations may have a material effect on potential purchases of ODIN by such agencies. For example, such terms and conditions would likely have a positive effect on sales efforts if they required the target devices to perform to detection and resolution standards that ODIN can achieve but many competing products cannot reach. If, conversely, factors other than performance are emphasized, such terms and conditions may make our sales efforts more challenging. The Company cannot anticipate future terms and conditions that will apply to any specific procurement regulations applicable to potential sales of ODIN to government agencies. Current terms and conditions for purchasing Whole Body Imaging products were announced by the TSA in 2008.
The Company is familiar with those terms and conditions and believes ODIN sales are possible in light of the specifications and other terms and conditions established by the TSA. Efforts are underway for ODINs placement on the TSAs applicable Qualified Products List (QPL), but we do not know when or if ODIN will be placed on the QPL.
The United States (U.S.) Food and Drug Administrations (FDA) Center for Devices and Radiological Health (CDRH) is responsible for regulating radiation-emitting electronic products. The CDRH goal is to protect the public from hazardous and unnecessary exposure to radiation from electronic products. As required by law, the Company has submitted a product report concerning ODIN to the FDA and has received an acknowledgement letter that the report was received. An acknowledgement of receipt letter is not an approval of a product nor does it mean that a report is adequate. The FDA has established standards that manufacturers of radiation-emitting electronic products must meet. The Company believes that ODIN meets those standards and is required to self-certify that it does so. The FDA does not itself certify products. For a detailed explanation of the FDAs requirements, see:
The Company otherwise believes that government regulations will not have a material impact on the Companys production or sale of ODIN, and the Company does not anticipate any change to this in the future.
The Company estimates that during each of 2010 and 2009, it incurred no out of pocket research and development expenses with respect to THOR. The Company did provide in-kind research and development activities with respect to THOR, as required under the CRADA.
The Company estimates that during 2010 and 2009, it incurred $382 and $30, respectively, on research and development activities with respect to ODIN.
The Company has incurred no costs nor suffered any effects to maintain compliance with any environmental laws.
Food and other objects scanned with the THOR prototype have returned to below background radiation levels within approximately fifteen minutes. No long term effects were evidenced.
No environmental impact has been identified with respect to ODIN.
The Company has six current employees, of which two are executive managers, two are administrative and two are engineers,
Former Shell Company
During fiscal year 2006, Quetzal Capital 1, Inc. (Quetzal), a shell company domiciled in Florida, executed a share exchange agreement with the shareholders of Valley Forge Composite Technologies, Inc., a Pennsylvania corporation, whereby the shareholders of the Pennsylvania corporation took control of Quetzal, and the Pennsylvania corporation became a wholly-owned subsidiary of Quetzal. The share exchange transaction occurred on July 6, 2006. Quetzals common stock was registered pursuant to section 12(g) of the Exchange Act, on or about August 1, 2005.
As a result of the share exchange, Quetzals status as a shell corporation ceased, and the consolidated companys business was that of the Pennsylvania subsidiary. Simultaneously with the share exchange, the sole director of Quetzal resigned, and the Pennsylvania corporations management assumed control of Quetzal. Also on July 6, 2006, Quetzal changed its name to Valley Forge Composite Technologies, Inc., a Florida corporation. (Hereafter, in this Form 10-K, the consolidated operations of the parent and subsidiary will be referred to as the Company or VLYF). The Company has not materially reclassified, merged, consolidated, purchased or sold any significant amount of assets other than in the ordinary course of business, and the Company has not been the subject of any bankruptcy, receivership or similar proceedings.
ITEM 1A. RISK FACTORS.
Risks Relating to an Investment in the Company
Investment in our securities involves a high degree of risk. Investors should carefully consider the possibility that they may lose their entire investment. Given this possibility, we encourage investors to evaluate the following risk factors and all other information contained in this report and its attachments, in addition to other publicly available information in our reports filed with the Securities and Exchange Commission (SEC), before engaging in transactions in our securities. Any of the following risks, alone or together, could adversely affect our business, our financial condition, or the results of our operations, and therefore the value of your Company securities.
Because the Company had a net loss of $1,476,650, $2,038,623 and $1,848,755 for the years ended December 31, 2010, 2009 and 2008, respectively, we face a risk of insolvency
Until 2009, the Company had never earned substantial operating revenue. We have been dependent on equity and debt financing to pay operating costs and to cover operating losses
The auditors reports for our December 31, 2010, 2009, 2008, 2007 and 2006 financial statements include additional paragraphs that identify conditions which raise substantial doubt about our ability to continue as a going concern, which means that we may not be able to continue operations unless we obtain additional funding. The financial statements do not include any adjustments that might result from the outcome of this uncertainty
Risks Related to the Companys Business
There is substantial doubt about the Companys ability to continue as a going concern due to insufficient revenues to cover our operating costs.
Our independent auditors included a going concern paragraph in their reports issued in connection with their audits of our December 31, 2010, 2009, 2008, 2007 and 2006 financial statements. The auditors noted in their reports that the Company has suffered recurring losses from operations. The Company had accumulated deficits of $9,782,871 and $8,306,221 as of December 31, 2010 and 2009, respectively. The Company experienced comprehensive losses from operations of $1,481,029 and $2,038,623 for periods ending December 31, 2010 and 2009 respectively. These factors raise substantial doubt about our ability to continue as a going concern.
We incurred a net loss for the year end results for each of December 31, 2010 and 2009, respectively. To the extent that we do not generate revenue from the sale of THOR or ODIN units, or from other sources, then the Company may not have the ability to continue as a going concern. The financial statements which accompany this report do not include any adjustments that might result from the outcome of this uncertainty.
The sale of our ODIN personnel screening technology and THOR devices in foreign markets are dependent on the approvals of foreign governments, which are out of our control.
The Companys ODIN personnel screening device and THOR units are being marketed for sale in foreign countries. Obtaining the permission of foreign governments has been challenging and slow. Certain countries in the Middle East prohibit non-Muslims from doing business directly with their governments, and we are required to negotiate with government-authorized middle men. This adds an additional layer of bureaucracy that we must penetrate in order to sell our products. Additionally, selling THOR outside the United States requires an export license from the Department of State. The Department of State may decline to issue such licenses, especially for sales to certain countries.
Personal privacy concerns may impact sales of ODIN in the United States.
Personal privacy issues may impact sales of ODIN in the United States and certain other countries. This is because the prototype ODIN provides a near medical quality image that reveals the contours of the person being scanned. In February 2011, the Transportation Security Administration announced that it was testing new software on its advanced imaging technology machines that enhances privacy by eliminating passenger-specific images and instead auto-detects potential threat items and indicates their location on a generic outline of a person. We have not yet developed software of that type for ODIN. Even though the transmission X-ray and near medical quality image generated by ODIN may be useful in safeguarding our airways against threats posed by garment and implant bombs, there is no guaranty that concerns over personal privacy issues will not cause potential customers to not consider purchasing and utilizing ODIN.
Delays in the introduction of THOR and ODIN may have significantly impacted our ability to compete for market share for these technologies.
Because we have not sold any THOR or ODIN units, other vendors of less sophisticated but competing screening technologies may be selling their products and limiting our potential market share. Due to budgetary concerns or other factors, such customers may not be interested in purchasing THOR or ODIN units when they become available until their existing units are retired. This may impact our ability to penetrate the screening technology market when we are ready to do so.
Because we do not have an exclusive license to develop or market or distribute Express Inspection using our private label ODIN, we compete against the manufacturer and possibly other competitors who may have units with similar functionality and may be redeveloping them for commercial use.
The manufacturer of the whole body scanner called Express Inspection, which offers similar functionality to ODIN, is in Russia. To our knowledge, no other person or entity outside of Russia or China possesses an Express Inspection unit or possesses an exclusive license to develop or distribute this product in any geographic region other than the Russian Federation or China. Nevertheless, we do not have any exclusive rights with respect to Express Inspection, and it is possible that potential competitors could acquire and develop an Express Inspection unit and compete against us. We have encountered one instance where the Express Inspection manufacturer directly competed with us for an ODIN purchase and sale contract.
Our Ability to Market Body Scanning Technology Products May Depend on Execution of Third Party Agreements or Additional Development
As noted earlier, the Company is currently considering whether to manufacture ODIN directly or entering into a joint venture to handle all manufacturing and marketing of ODIN. In the event that the Company is unsuccessful in completing a joint venture, the Company will need to develop other software or utilize a fundamentally different alternative technology that it is considering. The Company is currently negotiating a joint venture agreement and the other parties have recently insisted that it be signed promptly. While we anticipate that we would be able to reach agreement on the joint venture agreement, we are unable to predict whether that will happen as quickly as the other parties have requested or whether the other parties will, in fact, decline to continue to pursue the joint venture if it is not signed promptly. If we are unable to enter into a joint venture our ability to continue to market ODIN or other body scanning technology will be impaired or, at a minimum, delayed.
Because our sales of Aerospace Products are concentrated among a few customers, our sales levels could dramatically drop on short or no notice.
With sales limited to a few customers, the Companys sales volume is vulnerable to drastic shifts should one or more customers sever the business relationship.
We face aggressive competition in many areas of business. If we do not compete effectively, our business will be harmed.
We expect to face aggressive competition from numerous competitors with respect to both THOR and ODIN. In both cases, competition is likely to be based primarily on such factors as product performance, functionality and quality, cost, prior customer relationships, technological capabilities of the product, price, certification by government authorities, local market presence and breadth of sales and service organization. We may not be able to compete effectively with all of our competitors. In addition to existing competitors, new competitors may emerge, and THOR and/or ODIN may be threatened by new technologies or market trends that reduce the value of these products.
Demand for our products may not materialize or continue.
The September 11, 2001 terrorist attacks, the war on terror, and the creation of the U.S. Department of Homeland Security have created increased interest in and demand for security and inspection systems and products. However, we are not certain whether the level of demand will continue to be as high as it is now. We do not know what solutions will continue to be adopted by the U.S. Department of Homeland Security, the U.S. Department of Defense, and similar agencies in other countries and whether our products will be a part of those solutions. Additionally, should our products be considered as a part of the future security solutions, it is unclear what the level may be and how quickly funding to purchase our products may be made available. These factors may adversely impact us and create unpredictability in revenues and operating results.
If operators of our security and inspection systems fail to detect weapons, explosives or other devices that are used to commit a terrorist act, we could be exposed to product liability and related claims for which we may not have adequate insurance coverage.
Our business exposes us to potential product liability risks from the development, manufacturing, and sale of THOR and ODIN. Our prospective customers will use our products to help them detect items that could be used in performing terrorist acts or other crimes. ODIN may require that an operator interpret an image of suspicious items within a bag, parcel, container or other vessel, and the training, reliability and competence of the operator will be crucial to the detection of suspicious items. We could be held liable if an operator using our equipment failed to detect a suspicious item that was used in a terrorist act or other crime.
Furthermore, both THOR and ODIN are advanced mechanical and electronic devices and therefore can malfunction. In addition, there are also many other factors beyond our control that could lead to liability claims should an act of terrorism occur. It is very difficult to obtain commercial insurance against the risk of such liability. It is very likely that, should we be found liable following a major act of terrorism, our insurance would not fully cover the claims for damages.
Our revenues are dependent on orders of security and inspection systems, which may have lengthy and unpredictable sales cycles.
Our sales of THOR and ODIN units may often depend upon the decision of governmental agencies to upgrade or expand existing airports, border crossing inspection sites, seaport inspection sites and other security installations. Any such sales may be subject to delays, lobbying pressures, political forces, procedural requirements, and other uncertainties and conditions that are inherent in the government procurement process.
We are dependent on key personnel, specifically Louis J. Brothers and Larry K. Wilhide, and have no employment agreements with them.
We are a company with key employees and are dependent on the services of Louis J. Brothers, our president, and Larry K. Wilhide, our vice-president. Messrs. Brothers and Wilhide are equal shareholders and their combined voting rights are equal to 62.4% of our outstanding common stock. We do not have employment agreements with them, and losing either of their services would likely have an adverse effect on our ability to conduct business. Messrs. Brothers and Wilhide serve as Officers and Directors of the Company. Messrs. Brothers and Wilhide are our founders. Both men have contributed to the survival and growth of the Company for fifteen years. Mr. Brothers government and scientific contacts are essential to the Companys ability to diversify its product line, including our ability to license, develop, and market future additional products unrelated to the THOR technology. Mr. Wilhides engineering and drafting capabilities are essential to our ability to manufacture the technology that we license or develop. Therefore, there is a risk that if either Mr. Brothers or Mr. Wilhide left the Company, there is no guarantee that we could survive.
We cannot predict our future capital needs and may not be able to secure additional funding.
We may need to raise additional funds within the next twelve months in order to fund our installation of manufacturing facilities and distribution network. If we are unable to achieve sufficient free cash flow from sales of Aerospace Products, customer deposits or other sources, we will likely need to raise additional funds through the sale of equity securities, or debt convertible to equity securities, to public or private investors, which could result in a dilution of ownership interests by the holders of our common stock. Also, we cannot assure you that we will be able to obtain the funding we deem necessary to sustain our operations.
Our success depends on our ability to attract and retain key employees in order to support our existing business and future expansion.
We continue to actively recruit qualified candidates to fill key positions within the Company. There is substantial competition for experienced personnel. We will compete for experienced personnel with companies who have substantially greater financial resources than we do. If we fail to attract, motivate and retain qualified personnel, it could harm our business and limit our ability to be successful.
The Costs to Produce and Operate THOR, and the Price at which We May Be Able to Sell it are Uncertain
We have never built nor have we operated a THOR unit in the United States. While we believe that the materials, technology and labor needed to build a unit will be available at commercially reasonable costs, we do not know for certain just what the total cost will be. In addition, we do not know just what the operating costs of a THOR unit will be. We anticipate that we will be able to get a better understanding of those items if we are able to reach agreement with the Idaho Accelerator Center (under the Consulting and Services Agreement framework referenced above) to build and operate a unit. In addition, while we believe that the benefits offered by THOR will be both unique and of great value so customers will not be particularly price sensitive, we do not know whether we will be able to sell THOR units at a reasonable profit in excess of our costs.
If we are not able to successfully protect our intellectual property, our ability to capitalize on the value of the THOR technology may be impaired.
We do not own the THOR technology, and our ability to use and capitalize on the value of the THOR technology depends on entirely on our rights to do so under the CRADA and the ERA. The CRADA does not guarantee that we will have any permanent or exclusive right to utilize the THOR technology. We are actively pursuing and attempting to maximize our rights under the CRADA, but there is no guarantee that we will be able to secure rights that provide the desired level of intellectual property protection.
Even though we believe that there is no competitor currently close to being able to introduce a security technology with the capability and accuracy of the THOR technology, it is possible that imitators may appear who may create adaptive technologies that achieve similar results to THOR. It is also possible that LLNL, as the owner of the THOR technology under the CRADA, under certain circumstances may provide a third party with a license to utilize the THOR technology.
Moreover, regardless of any rights we secure under the CRADA, the CRADA provides that (i) the United States government and its agencies retain a nonexclusive, nontransferable, irrevocable paid-up license to practice or have practiced for or on behalf of the government the THOR technology throughout the world; and (ii) the US Department of Energy retains march-in rights with respect to the THOR technology. According to the US D.O.E., such march-in rights have never been exercised.
We have tried to minimize the deconstruction and adaptation of the THOR technology by potential competitors. We are currently engaged in discussions with LLNL regarding potential inventions resulting from the CRADA, and expect that patent protection will be pursued.
Our products and technologies may not qualify for protection under the SAFETY Act.
Under the SAFETY Act provisions of The Homeland Security Act of 2002, the federal government provides liability limitations and the government contractor defense applies if the Department of Homeland Security designates or certifies technologies or products as qualified anti-terrorism technologies, and if certain other conditions apply. We may seek to qualify some or all of our products and technologies under the SAFETY Acts provisions in order to obtain such liability protections, but there is no guarantee that the U.S. Department of Homeland Security will designate or certify our products and technologies as a qualified anti-
terrorism technology. To the extent we sell products not designated as qualified anti-terrorism technology, we will not be entitled to the benefit of the SAFETY Acts cap on tort liability or U.S. government indemnification. Any indemnification that the U.S. government may provide may not cover certain potential claims.
We do Business Outside of the United States Which Subjects Us to Risks Associated with International Activities.
A portion of the sales of our Aerospace Products are to customers outside the United States. We also expect that there may be substantial markets outside the United States for sales of our ODIN and THOR products. Prospective customers for ODIN and THOR include foreign governments. The future success of our international operations may also be adversely affected by risks associated with international activities, including economic and labor conditions, political instability, risk of war, expropriation, termination, renegotiation or modification of existing contracts, tax laws (including host-country import-export, excise and income taxes and United States taxes on foreign subsidiaries). Changes in exchange rates may also adversely affect our future results of operations and financial condition.
In addition, to the extent we engage in operations and activities outside the United States, we are subject to the Foreign Corrupt Practices Act (FCPA), which generally prohibits U.S. companies and their intermediaries from making corrupt payments to foreign officials or their agents for the purpose of obtaining or keeping business or otherwise obtaining favorable treatment, and requires companies to maintain adequate record-keeping and internal accounting practices to accurately reflect the transactions of the company. The FCPA applies to companies, individual directors, officers, employees and agents. Under the FCPA, U.S. companies may be held liable for actions taken by strategic or local partners or representatives. Violation of the FCPA could result in substantial civil and/or criminal penalties.
While we do not believe that we have violated the FCPA, if the SEC and/or the Department of Justice (DOJ) conclude that we have, they could assert that there have been multiple violations of the FCPA, which could lead to multiple fines. The amount of any fines or monetary penalties would depend on, among other factors, the amount, timing, nature and scope of any improper payments, whether any such payments were authorized by or made with knowledge of the Company or its affiliates, the amount of gross pecuniary gain or loss involved, and the level of cooperation provided to the government authorities during the investigations. Negotiated dispositions of these types of violations also frequently result in an acknowledgement of wrongdoing by the entity and the appointment of a monitor on terms agreed upon with the SEC and DOJ to review and monitor current and future business practices, including the retention of agents, with the goal of assuring future FCPA compliance. Other potential consequences could be significant and include suspension or debarment of our ability to contract with governmental agencies of the United States and of foreign countries. Any determination that we have violated the FCPA could result in sanctions that could have a material adverse effect on our business, prospects, operations, financial condition and cash flow.
A shareholder has threatened to send a letter to the Board demanding the removal of certain officers of the Company and other relief
A shareholder claiming to represent a group of shareholders has threatened to send a letter to the Board of Directors (and file the letter with the SEC as part of a Schedule 13D), demanding that certain officers of the Company be removed and further demanding additional information regarding compensation, the appointment of an interim CEO approved by the shareholder group and an analysis of any possible criminal activity, the basis for which is unspecified. The shareholder, who claims to not yet be represented by counsel, further demands that unless he receives a response from an independent committee of the Board, he will file a class action lawsuit. The Company is unable to predict what actions, if any, this shareholder and others associated with him might take.
Risks Related to Investment
We expect the price of our common stock to be volatile. As a result, investors could suffer greater market losses than they might experience with a more stable stock.
The stock markets generally, and the Over-The-Counter (OTC) Bulletin Board in particular, have experienced extreme price and volume fluctuations that are often unrelated and disproportionate to the operating performance of a particular company. For example, since the beginning of 2009 our stock went from a low price of about 8 cents per share to a high price of approximately $2.86 per share and closed on March 25, 2011 around $1.22 per share. Certain shareholders have expressed concern over the marked decline in the stock price. These market fluctuations, as well as general economic, political and market conditions such as recessions or interest rate or international currency fluctuations, may adversely affect the market for the common stock of the Company. In the past, class action litigation has often been brought against companies after periods of volatility in the market price of their securities. If such a class action suit is brought against the Company, it could result in substantial costs and a diversion of managements attention and resources, which would hurt business operations.
Our stock value is dependent on our ability to generate net cash flows.
A large portion of any potential return on our common stock will be dependent on our ability to generate net cash flows. If we cannot operate our business at a net profit, there will be no return on shareholders equity, and this could result in a loss of share value. No assurance can be given that we will be able to operate at a net profit now or in the future.
Our common stock value may decline after the exercise of warrants or from the Companys future capital raising events.
As of December 31, 2010, there are 1,428,574 Class D warrants and 1,300,000 Class F warrants outstanding that remain unexercised. It is our belief that warrant holders may begin to exercise their warrants and sell their underlying shares at such time (if any): when the Company begins selling its ODIN units, when the Company receives its first contract to sell THOR LVX units; or upon the occurrence of other factors triggering warrant exercises, provided that the price of our common stock exceeds the strike price on outstanding warrants. Regardless of the conditions or events that trigger the exercise of the warrants, if a large warrant exercise event occurs, there will certainly be an increase in supply of our common stock available and a corresponding downward pressure on our stock price. The sales may also make it more difficult for the Company or its investors to sell current securities in the future at a time and price that the Company or its current investors deem acceptable or even to sell such securities at all. The risk factors discussed in this Risk Factors section may significantly affect the market price of our stock. A low price of our stock may result in many brokerage firms declining to deal in our stock. Even if a buyer finds a broker willing to effect a transaction in our common stock, the combination of brokerage commissions, state transfer taxes, if any, and other selling costs may exceed the selling price. Further, many lending institutions will not permit the use of this stock as collateral for loans. Thus, investors may be unable to sell or otherwise realize the value of their investments in our securities.
In addition to the outstanding warrants discussed above, we also previously issued a total of 3,000,000 Class A Warrants at an exercise price per share to Coast to Coast Equity Group, Inc. (CTCEG) as follows: 1,000,000 shares at the exercise price of $1.00 per share, 1,000,000 shares at the exercise price of $1.50 per share and 1,000,000 shares at the exercise price of $2.00 per share. CTCEG assigned its right to purchase 200,000 shares at the exercise price of $1.00 per share to a third party, who purchased 200,000 shares, leaving 2,800,000 in Class A Warrants. Those warrants expired by their terms on May 14, 2009, but CTCEG has taken the position that, along with certain related agreements, they were extended until May 14, 2010 by the Company. The Company is currently in litigation with CTCEG which includes a claim by CTCEG that the warrants did not expire until May 14, 2010 and the Company cannot provide any assurance that CTCEG will not prevail and then
exercise those warrants. However, the Company believes the class A warrants expired because the Warrant Agreement was never modified in writing to extend the warrants expiration date, as is required by the Warrant Agreements terms. The financial statements included in this Form 10-K were prepared as if such warrants were no longer outstanding.
We may also enter the capital markets to raise money by selling securities. The number of shares that could be issued for our immediate capital requirements could lead to a large number of shares being placed on the market which could exert a downward trend on the price per share. If the supply created by these events exceeds the demand for purchase of the shares the market price for the shares of common stock will decline.
The number of shares to be made available in the registered offering could encourage short sales by third parties, which could contribute to a future decline in the price of our stock.
In our circumstances, the provision of a large number of common shares to be issued upon the exercise of warrants or sold outright by existing shareholders has the potential to cause a significant downward pressure on the price of common stock, such as ours. This would be especially true if the shares being placed into the market exceeds the markets ability to take up the increased number of shares or if the Company has not performed in such a manner to encourage additional investment in the market place. Such events could place further downward pressure on the price of the common stock. As a result of the number of shares that could be made available on the market, an opportunity exists for short sellers and others to contribute to the future decline of our stock price. Persons engaged in short-sales first sell shares that they do not own and, thereafter, purchase shares to cover their previous sales. To the extent the stock price declines between the time the person sells the shares and subsequently purchases the shares, the person engaging in short-sales will profit from the transaction, and the greater the decline in the stock price the greater the profit to the person engaging in such short-sales. If there are significant short-sales of our stock, the price decline that would result from this activity will cause our share price to decline even further, which could cause any existing shareholders of our stock to sell their shares creating additional downward pressure on the price of the shares. It is not possible to predict how much the share price may decline should a short sale occur. In the case of some companies that have been subjected to short-sales the stock price has dropped to near zero. This could happen to our securities.
Our stock may be subject to significant restrictions on resale due to federal penny stock regulations.
Our common stock differs from many stocks because it has been a penny stock. The SEC has adopted a number of rules to regulate penny stocks. These rules require that a broker or dealer, prior to entering into a transaction with a customer, must furnish certain information related to the penny stock. The information that must be disclosed includes quotes on the bid and offer, any form of compensation to be received by the broker in connection with the transaction and information related to any cash compensation paid to any person associated with the broker or dealer.
These rules may affect your ability to sell our shares in any market that may develop for our stock. Should a market for our stock develop among dealers, it may be inactive. Investors in penny stocks are often unable to sell stock back to the dealer that sold it to them. The mark-ups or commissions charged by broker-dealers may be greater than any profit a seller can make. Because of large dealer spreads, investors may be unable to sell the stock immediately back to the dealer at the same price the dealer sold it to them. In some cases, the stock value may fall quickly. Investors may be unable to gain any profit from any sale of the stock, if they can sell it at all.
Potential investors should be aware that, according to the SEC Release No. 34-29093, the market for penny stocks has suffered in recent years from patterns of fraud and abuse. These patterns include
control of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer:
manipulation of prices through prearranged matching of purchases and sales and false and misleading press releases;
boiler room practices involving high pressure sales tactics and unrealistic price projections by inexperienced sales persons;
excessive and undisclosed bid-ask differentials and markups by selling broker-dealers; and
the wholesale dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, along with the inevitable collapse of those prices with consequent investor losses.
Investors must contact a broker-dealer to trade Over-the-Counter Bulletin Board or Pink Sheet securities. As a result, investors may not be able to buy or sell our securities at the times they may wish.
Even though our common stock is presently quoted on the OTC Bulletin Board, our investors may not be able to sell securities when and in the manner that they wish. Because there are no automated systems for negotiating trades on the OTC Bulletin Board, they are often conducted via telephone. In times of heavy market volume, the limitations of this process may result in a significant increase in the time it takes to execute investor orders. When investors place market orders to buy or sell a specific number of shares at the current market price it is possible for the price of a stock to go up or down significantly during the lapse of time between placing a market order and its execution.
Our warrants may not develop a trading market before their time of expiration.
Only our common stock is traded in the over-the-counter market. We are not aware of any over-the-counter market for our warrants, although a private sale of our warrants has occurred. In the event a warrant is acquired by a new purchaser, that purchaser may not be able to resell the warrant, and, if the purchaser does not exercise the warrant before the expiration date then in effect, the purchaser will suffer a complete capital loss of his or her entire investment in the warrant.
If we fail to remain current on the reporting requirements that apply to us, we could be removed from the OTC Bulletin Board, which would limit the ability of broker-dealers to sell our securities and the ability of stockholders to sell their securities.
Companies with securities quoted on the OTC Bulletin Board must be reporting issuers under Section 12 of the Exchange Act, and must be current in their reports under Section 13 of the Exchange Act, in order to maintain price quotation privileges on the OTC Bulletin Board. If we fail to remain current on our reporting requirements, shares of our common stock could be removed from quotation on the OTC Bulletin Board. As a result of that removal, the market liquidity for our securities could be severely adversely affected by limiting the ability of broker-dealers to sell our securities and the ability of stockholders to sell their securities in the secondary market.
We may be exposed to potential risks relating to our internal controls over financial reporting and our ability to have our independent registered public accounting firm attest to these controls.
Our independent auditors have communicated to management their findings that material weaknesses exist in our internal controls over financial reporting as follows: 1) lack of segregation of duties; 2) lack of qualified accounting personnel working as direct employees. We are investigating how best to correct the material weaknesses identified. In the event we become a so-called accelerated filer for SEC reporting purposes, we would be required to obtain and file with the SEC an attestation report on our internal controls from auditors. To obtain such a report, we would need to correct the material weaknesses currently identified in our internal controls.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
ITEM 2. DESCRIPTION OF PROPERTY.
The Company does not own or lease a manufacturing facility for production of THOR, but it intends to build, lease or otherwise acquire at least one assembly facility in the United States for that purpose. The Company has located several suitable sites and once a demonstration unit has been completed and is functioning in the United States, the Company intends to commence negotiations for a lease and / or facility construction.
The Companys projection for the timing of production is dependent on receiving necessary government approvals to commence production, the Companys ability to build or obtain at least one suitable production facility, and the ability to obtain additional capital if necessary to meet then current production goals. Initial market demand for THOR will determine the Companys labor and physical plant requirements.
The Companys headquarters office operates from leased space. The Company leases 2,985 square feet of office space located at 50 E. River Center Boulevard, Suite 820, Covington, Kentucky. The term of the lease is for five years beginning on the first day of September, 2006 and ending on the last day of August, 2011. The annual base rent increases every 12 months starting at approximately $40,484 and ending at approximately $53,730. Under the terms of the lease, additional rent for operating expenses of the building shall also be payable by the Company at a pro rata share deemed to be 0.928%. These expenses are anticipated to increase at a rate of 3% per year. Minimum annual lease payments are: $43,387 for 2007; $49,680 for 2008; $51,163 for 2009; $52,695 for 2010; and $35,820 for 2011. Therefore, the Companys minimum cumulative lease obligation is $232,745 for the full five year lease period. The Company has not decided whether it will vacate the premises upon expiration of the lease or seek to renew the lease terms.
On December 1, 2007, the Company entered into a lease of 2,700 square feet of rentable space located at 1895 Airport Exchange Blvd, Building A, Erlanger, Kentucky. The lease expired at the end of 2010 but was extended one year to the end of 2011.
Under the terms of the lease, the Company shall pay additional rent to cover operating expenses of the property of approximately $349 per month. Rent expense for the period ended December 31, 2010 and 2009 was $97,407 and $101,814.
In the opinion of Management, the Companys property and equipment are adequately insured under its existing insurance policy.
ITEM 3. LEGAL PROCEEDINGS.
William A. Rothstein vs. Valley Forge Composite Technologies, Inc., a Florida corporation, and Louis J. Brothers, Civil Action No. 09-0918071 Toomey (UT 3d Jud. Dist.)
On October 30, 2009, the Company and its president and director Louis J. Brothers were both named as defendants in a civil complaint filed on that date in the Third Judicial District Court in and for Salt Lake County, Utah by shareholder William A. Rothstein. The complaint has been served on Mr. Brothers and the Company. The five-count complaint alleges that the defendants committed fraud, violated the Utah Uniform Securities Act (Ut. Code Ann. §61-1-1, et seq.), made negligent misrepresentations, breached a fiduciary duty to shareholders, and breached a settlement agreement and seeks unspecified compensatory and punitive damages and attorneys fees. The complaint alleges that Mr. Brothers misrepresented the timetable in which the Companys THOR LVX technology would receive government approvals and the number of Department of Energy employees working on the THOR project and thereby induced plaintiffs to invest in the Companys securities in 2006. The Company and Mr. Brothers filed a motion to dismiss the complaint based upon the Utah courts lack of personal jurisdiction over the Company and Brothers. The Honorable Judge Kate Toomey denied the motion to dismiss on December 13, 2010; Mr. Brothers and the Company filed an answer to the complaint denying all claims. The Company cannot provide any assurances on the outcome of the matter.
Coast To Coast Equity Group, Inc. vs. Valley Forge Composite Technologies, Inc., a Florida corporation, and Lou Brothers, Civil Action No. 090A-11229 (Fla. 12 th Jud. Cir.)
On November 11, 2009, the Company and its president and director Louis J. Brothers were served with a civil complaint naming both of them as defendants. The complaint was filed on or about October 28, 2009 in circuit court in Manatee County, Florida by shareholder and creditor Coast To Coast Equity Group, Inc. ("CTCEG") The complaint alleges that the defendants breached a consulting services agreement by not reimbursing plaintiff for $44,495.18 in expenses, committed fraud, pleaded for the rescission of a standby equity agreement in the amount of $500,000, violated the Florida Securities and Investor Protection Act (Fla. Stat. §517.301), made negligent misrepresentations, and breached a fiduciary duty to shareholders and seeks damages in excess of $15,000 and attorney's fees. As it pertains to non-contract claims, the complaint alleges that Mr. Brothers misrepresented the distribution rights that the Company had to its ODIN product and misused plaintiff's proceeds which were to be allocated towards the purchase of an ODIN unit.
A Motion to Dismiss was filed in response to the Complaint. A Consent Order was entered on Jan. 14, 2010, allowing CTCEG to file an Amended Complaint. A Motion to Dismiss was filed in response to the Amended Complaint. On May 20, 2010, the Court granted CTCEG leave to file a third amended complaint, which abandons the claims in the original complaint except for breach of contract based on allegations of failure to pay expenses under the above referenced consulting agreement. The First Amended Complaint ("Complaint") alleges failure to pay a $42,000 promissory note payable to CTCEG. (This claim has been resolved and will be dismissed with prejudice.)
The Complaint also contains a claim for breach of the 2006 Warrant Agreement in that the Company failed to issue stock for warrants which the Company contends expired in May, 2009. The Complaint contains a claim for promissory estoppel, alleging that Mr. Brothers orally, and in SEC filings, agreed to extend the Warrant Agreement and is estopped to deny such promises. A claim for non-dilution damages is also included, based on allegations that the 2006 Registration Rights Agreement was also extended to May 2010 and CTCEG is therefore entitled to have additional shares issued because the Company sold additional stock in 2008 and 2009. The Complaint contains a claim for promissory estoppel, alleging that Mr. Brothers orally, and in SEC filings, agreed to extend the Registration Rights Agreement and is estopped to deny such promises. The last claim is for tortious interference with a contractual relationship, alleging Mr. Brothers, presumably in his individual capacity, interfered with CTCEG's contractual rights under the Warrant Agreement, Registration Rights Agreement and Consulting Agreement.
The Company and Mr. Brothers deny all allegations and have filed an Answer and Affirmative Defenses; raising numerous defenses to the claims. They also intend to file applicable counterclaims and possible third party claims, but they cannot provide assurances as to the outcome of the matter.
George Frudakis vs. Valley Forge Composite Technologies, Inc., a Florida corporation, and Lou Brothers, Civil Action No. 2010 CA-04230 (Fla. 12 th Jud. Cir.)
On or about May 7, 2010, George Frudakis commenced the above titled action against the Company and Lou Brothers. The Complaint sets forth the exact same causes of action as in the Coast to Coast Equity Group, Inc. vs. Valley Forge Composite Technologies, Inc. and Lou Brothers, described above, with the exception that the Frudakis matter does not include a claim for breach of contract based upon the Consulting Agreement. The Company and Brothers deny all allegations and have filed a motion to dismiss the complaint and a motion to consolidate the Frudakis and Coast to Coast cases into a single proceeding. The Court has granted a motion to consolidate the cases for discovery purposes and has reserved as to consolidation for trial. The Company and Lou Brothers intend to file appropriate Affirmative Defenses and Counterclaims, and possible third-party claims, in the event the Court denies the Motion to Dismiss. However, the Company cannot provide assurances as to the outcome of the matter.
Arbitration Claim filed by Advanced Technology Development, Inc.
During the period between July 9th and 13th of 2010, the Company, Louis J. Brothers and Larry K. Wilhide were served by mail courier with a Statement of Claim (Statement) filed with the American Arbitration Association by Advanced Technology Development, Inc. (ATD). Summarizing in general terms, ATDs arbitration claims one through four are based upon allegations the Company failed to perform or pay ATD for goods pursuant to two separate supply contracts. Claims five through eight are based upon the Companys activities in the promotion and sale of the ODIN imaging device. Claims nine through thirteen are based upon the Companys alleged misuse of ATDs ULDRIS mark. The final claim seeks injunctive relief. The nature of the claims is discussed in greater detail in the Subsequent Events discussion of the Companys Form 10-Q filed for the second quarter of 2010.
The parties agreed to the appointment of Phillip D. ONeil, Jr. as the Sole Arbitrator and are presently conducting limited discovery in accordance with arbitration rules. The arbitration hearing is scheduled for April 27, 2011.
Quotations reflect inter-dealer prices, without retail mark-up, mark-down, or commissions and may not represent actual transactions.
(1) On September 13, 2010, the Board of Directors issued 4,050,000 stock options to key employees and consultants pursuant to the 2008 Equity Incentive Plan previously approved by the stockholders.
During 2009 and 2008, we sold securities in various private, unregistered transactions. Neither the Company nor any person acting on its behalf offered or sold securities by any form of general solicitation or general advertising. The purchasers were known to management or were known to business associates of management. No underwriting discounts or commissions were paid to any party by the Company.
On May 27, 2009 the Company issued 1,900,000 shares of common stock to MKM Master Opportunity Fund and individual investors for $237,500 in cash. On May 27, 2009, the Company also granted to MKM and individual investors seven-year Class F Warrants to purchase 1,900,000 shares of common stock at a price of $0.20. These sales were conducted in a private transaction exempt from registration pursuant to pursuant to Section 4(2) of the Securities Act and Regulation D Rule 506.
On August 10, 2009 the Company issued 800,000 shares of common stock to individual investors for $100,000 in cash ($92,000 net of expenses). On August 10, 2009, the Company also granted to such investors seven-year Class G Warrants to purchase 800,000 shares of common stock at a price of $0.20. These sales were conducted in a private transaction exempt from registration pursuant to pursuant to Section 4(2) of the Securities Act and Regulation D Rule 506.
As previously disclosed, between 2006 and 2009, the Company has issued Class A, B, C, D, E, F, and G warrants. The Company on occasion has previously referred to Class C, Class D, Class F, and Class G warrants as Series C, Series D, Series F and Series G warrants, respectively. These warrants were issued in a private transaction exempt from registration pursuant to pursuant to Section 4(2) of the Securities Act and Regulation D Rule 506.
Our Class A warrants expired on May 14, 2009. Language in prior filings inadvertently and mistakenly implied that these warrants had been extended until May 13, 2010, but no such extension was ever effected in writing, as is required by the Warrant Agreement dated July 6, 2006. CTCEG, the holder of those warrants, believes that the expiration date of those warrants was extended and has attempted to exercise those Warrants. The Company rejected that attempt and the matter is currently in litigation.
Our Class B warrants expired on April 4, 2009.
The sole person to whom we issued Class E warrants, Mr. Daniel Katz, agreed to forego his right to receive such warrants, pursuant to a settlement agreement described in our current report on Form 8-K filed on March 13, 2009.
None of the remaining outstanding warrants has a market at the present time. The Class C, D, F and G warrants are restricted securities and are assignable by the buyers in transactions compliant with exemptions from registration under the Securities Act and the rules promulgated thereunder.
The Company may offer additional securities as our capital requirements dictate or as suitable funding opportunities present themselves.
Repurchases of Securities by the Company
ITEM 6. SELECTED FINANCIAL DATA.
ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
This Management's Discussion and Analysis or Plan of Operation (MD&A) contains forward-looking statements that involve known and unknown risks, significant uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed, or implied, by those forward-looking statements. You can identify forward-looking statements by the use of the words may, will, should, could, expects, plans, anticipates, believes, estimates, predicts, intends, potential, proposed, or continue or the negative of those terms. These statements are only predictions. In evaluating these statements, you should specifically consider various factors, including the risk factors outlined below. These factors may cause our actual results to differ materially from any forward-looking statements. Although we believe that the exceptions reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. We undertake no obligation to revise or update publicly any forward-looking statements for any reason.
We believe that the impact of inflation and changing prices on our net sales and revenues and on income from continuing operations has been inconsequential.
Liquidity and Capital Resources
Between January 1, 2010 and December 31, 2010, our capital requirements have largely been met through sales of products other than THOR or ODIN. We recorded sales of $18,675,269 from the sale of various products in 2010. We anticipate that income from sales of such products will be sufficient to finance our ongoing capital requirements in 2011. To the extent we make sales of ODIN or THOR systems in 2011, we expect to negotiate customer deposits sufficient to provide us with the working capital needed to build the related systems. However, it is uncertain whether customers will agree to such terms in purchasing either product. The following liquidity events describe the amounts and sources of our capital resources and describe how we have paid our expenses.
We have incurred losses for the past two fiscal years and had a comprehensive loss of $1,481,029 for the year ended December 31, 2010.
Historically, we have relied on revenues, debt financing and sales of our common stock to satisfy our cash requirements. For the year ended December 31, 2010, we received cash proceeds of $16,782,487 from sales of various products, $335,365 from customer deposits, and $245,714 from amounts paid to exercise warrants resulting in the issuance of common stock. For the year ended December 31, 2009 we received cash proceeds of $3,103,615 from revenues, $858,400 from deferred revenues and $337,500 from sales of our common stock.
For the year ended December 31, 2010 we issued 6,631,854 shares of our common stock primarily as the result of the exercise of previously issued warrants and note conversions. For the year ended December 31, 2009 we issued 3,273,571 shares of our common stock.
Management intends to finance our 2011 operations primarily with the revenue from product sales. Any cash shortfalls will be addressed through equity, debt financing or commercial loans, if available. Management expects revenues will be realized to support operations in 2011. We may need to continue to raise additional capital, both internally and externally, to cover cash shortfalls and to compete in our markets. These operating costs include cost of sales, general and administrative expenses, salaries and benefits and professional fees. We have sufficient contracts in place to meet our expected cash requirements for 2011. We anticipate that any capital raised in 2011 will be primarily for the purpose of expanding operations.
Commitments and Contingent Liabilities
The Company leases office and warehouse spaces in Covington, KY and Erlanger, KY under a five-year and a 12 month non-cancelable operating lease, expiring August 2011 and December 2011, respectively. Base rent is $5,807 per month with an annual rent escalator of 3%. At December 31, 2010, future minimum payments for operating leases related to our office and manufacturing facilities were $53,370 through December, 2011.
Our total current liabilities increased to $3,378,922 at December 31, 2010 compared to $2,334,561 at December 31, 2009. Our total current liabilities at December 31, 2010 included accounts payable of $2,029,425, accrued expenses of $30,886, deferred revenue of $1,193,765, and a loan from shareholder of $124,846.
Results of Operations
The following discussions are based on the audited condensed consolidated financial statements of Valley Forge Composite Technologies and its subsidiaries. These charts and discussions summarize our financial statements for the year ended December 31, 2010, and 2009, and should be read in conjunction with the financial statements, and notes thereto, included with the Companys Form 10-K for the year ended December 31, 2010.
To date, no revenues have been attributable to sales from ODIN or THOR. All sales for 2010 and 2009 have been for Aerospace Products. We have experienced a significant increase in revenues in 2010 due to an increase in efforts in this area.
Our operating expenses have generally increased for the year ended December 31, 2010, compared with the year ended December 31, 2009. The major components of our operating expenses consisted of selling and administrative expenses, share-based payments and warrant expense. For the years ended December 31, 2010 and 2009, our selling and administrative expenses were $1,596,780 and $1,168,642; our share-based payment expenses were $1,864,279 and $32,550; and the warrant expense was $-0- and $446,223. Share-based payments increased primarily due to stock options granted in September 2010.
The Company recognizes revenue when persuasive evidence of a customer or distributor arrangement exists, shipment of goods to the customer occurs, the price is fixed or determinable and collection is reasonably assured.
For future sales of ODIN and THOR, it is expected customer acceptance, which may include testing, will also be required for revenue recognition. In May 2010, the Company issued a press release indicating sales through Valley Forge Imaging Systems. The products sold were for aerospace imaging applications and were not an ODIN device. Accordingly, the Company later determined to account for these revenues as aerospace sales.
Our total operating expense was $3,461,059 and $1,647,415 for the year ended December 31, 2010 and 2009.
Our average monthly cost of operations from January 2010 through December 2010 was approximately $288,000. Excluding aggregate non-cash charges of $68,530 for depreciation, and $1,864,279 for share-based payments, our average monthly cost of operations from January 2010 through December 2010 was approximately $127,000.
As of December 31, 2010, we had $585,549 in cash remaining as well as $504,063 of marketable securities.
At this rate, and barring any material changes to our capital requirements, we anticipate being able to sustain our operations for eight months, at which time we will have to obtain additional capital funding in the absence of obtaining additional cash from other sources. Our ability to sustain ourselves on our current cash position depends almost entirely on: (1) how long the government approval process may take and how high the initial market demand is for the THOR system, and (2) how long it takes to realize revenue from any sales of ODIN units; and (3) whether additional cash infusions are obtained via the exercise of outstanding warrants or from other sources or continued sales of our standard products. While the receipt of purchase orders for THOR units will dictate our major production needs, the timing of the government approval process is largely out of our control. Likewise, in the fourth quarter of 2009, we placed a unit with ODIN components in a foreign country for the purpose of demonstration and sales. That demonstration unit has been returned, no sales occurred, although the unit performed according to specifications, and we do not have a forecast of how long it may take to realize revenues from any sales of such units.
Other than for general operational and payroll expenses, which may also include the payment of additional research and development and marketing expenses, the Companys day-to-day operations are not expected to change materially until such time as we obtain the necessary government approvals to commence production and then the delivery of the first commercial THOR devices or sales orders for any ODIN units. We do not anticipate having significant additional research and development expenses during the next twelve months, but such expenses may be necessary to facilitate the obtaining of U.S. Government approvals before we can commence production of the THOR system or to facilitate the execution of new contracts.
In the coming months, the Company will refine its estimates of its capital requirements based on any quantities of THOR and ODIN units ordered and the terms of any license the Company is able to negotiate with Lawrence Livermore National Laboratories. See the discussion in Item 5, Other Information.
The Company made a $25,000 payment to Mr. Brothers on January 24, 2011 as partial repayment of a promissory note evidencing a loan Mr. Brothers made to the Company.
Valley Forge Composite Technologies, Inc.
We have audited the accompanying consolidated balance sheet of Valley Forge Composite Technologies, Inc. and subsidiaries (the Company) as of December 31, 2010 and the related consolidated statements of operations, shareholders equity, and cash flows for the year then ended. The Companys management is responsible for these consolidated financial statements. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the companys internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Valley Forge Composite Technologies, Inc. and subsidiaries at December 31, 2010, and the results of their operations and their cash flows for the year then ended, in conformity with U.S. generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has incurred net losses since inception, which raise substantial doubt about its ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
We have audited the consolidated balance sheet of Valley Forge Composite Technologies, Inc. as of December 31, 2009 and 2008 and the related consolidated statements of operations, stockholders equity and cash flows for the years ending December 31, 2009 and 2008. These consolidated financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the schedule of accounts receivable is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the schedule of accounts receivable. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Valley Forge Composite Technologies, Inc. as of December 31, 2009 and 2008, the results of operations, stockholders equity and its cash flows for the years ending December 31, 2009 and 2008 in conformity with generally accepted accounting principles in the United States of America.
The accompanying financial statements have been prepared assuming the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has incurred net losses since inception, which raise substantial doubt about its ability to continue as a going concern. The financial statements do not include any adjustment that might result from the outcome of this uncertainty.