SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
VIKING SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
Copies of communications to:
Amy M. Trombly, Esq.
1320 Centre Street, Suite 202
Newton, MA 02459
Phone (617) 243-0060
Fax (617) 243-0066
Approximate date of commencement of proposed sale to the public: From time to time after this registration statement becomes effective.
If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933 check the following box: x
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
CALCULATION OF REGISTRATION FEE
(1) Pursuant to Rule 416(a) of the Securities Act of 1933, as amended, this registration statement shall be deemed to cover additional securities that may be offered or issued to prevent dilution resulting from stock splits, stock dividends or similar transactions.
(2) Estimated solely for the purpose of calculating the amount of the registration fee pursuant to Rule 457 of the Securities Act. The price per share and aggregate offering prices for the shares registered hereby are calculated on the basis of $0.30, which is the average of the high and low prices of the registrant’s common stock as reported on the Over-the-Counter Bulletin Board on May 24, 2011.
The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.
VIKING SYSTEMS, INC.
OFFERING UP TO 16,278,805 COMMON SHARES
This prospectus relates to the sale or other disposition of up to 16,278,805 shares of our common stock by selling stockholders. We are not selling any securities in this offering and therefore will not receive any proceeds from this offering. We may receive proceeds from the possible future exercise of warrants. All costs associated with this registration will be borne by us. Our common stock is traded on the Over-The-Counter Bulletin Board under the trading symbol “VKNG.OB.” On May 27, 2011, the last reported sale price of our common stock on the Over-The-Counter Bulletin Board was $0.35 per share.
THIS INVESTMENT INVOLVES A HIGH DEGREE OF RISK. YOU SHOULD PURCHASE
SECURITIES ONLY IF YOU CAN AFFORD A COMPLETE LOSS.
SEE “RISK FACTORS” BEGINNING ON PAGE 3.
You should rely only on the information provided in this prospectus or any supplement to this prospectus and information incorporated by reference. We have not authorized anyone else to provide you with different information. Neither the delivery of this prospectus nor any distribution of the shares of common stock pursuant to this prospectus shall, under any circumstances, create any implication that there has been no change in our affairs since the date of this prospectus.
Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.
Subject to Completion, the date of this Prospectus is May 31, 2011.
TABLE OF CONTENTS
VIKING SYSTEMS, INC.
The following information is a summary of the prospectus and it does not contain all of the information you should consider before making an investment decision. You should read the entire prospectus carefully, including the financial statements and the notes relating to the financial statements.
We incorporated under the laws of the State of Nevada in April 2004. In July 2006, we reincorporated under the laws of the State of Delaware. Our principal executive offices are located at 134 Flanders Road, Westborough, MA 01581. Our telephone number is (508) 366-3668. Our fiscal year end is December 31. Our website is www.vikingsystems.com. Information contained on our website does not constitute part of this prospectus.
We are a leading worldwide developer, manufacturer and marketer of visualization solutions for complex, minimally invasive surgery. We partner with medical device companies and healthcare facilities to provide surgeons with proprietary visualization systems enabling minimally invasive surgical procedures, which reduce patient trauma and recovery time. We sell the most recent version of our proprietary visualization system, called our 3DHD Vision System, under the Viking brand inside and outside the United States through our distributor network. Our 3DHD System is an advanced three dimensional, or 3D, vision system which employs a flat screen monitor and passive glasses. It is used by surgeons for complex minimally invasive laparoscopic surgery, with applications in urologic, gynecologic, bariatric, cardiac, neurologic and general surgery. We released our 3DHD Vision System in the fourth quarter of 2010 and shipped 15 systems in December 2010. These shipments included eleven distributor 3DHD demonstration systems and four 3DHD customer systems.
We also manufacture two dimensional, or 2D, digital cameras that are sold to third-party companies who sell to end users through their Original Design Manufacturer, or ODM, programs and Original Equipment Manufacturer, or OEM, programs. Our technology and know-how center on our core technical competencies in optics, digital imaging, sensors, and image management. Our focus is to deliver advanced visualization solutions to the surgical team, enhancing their capability and performance in complex minimally invasive surgical procedures.
SUMMARY FINANCIAL DATA
Because this is only a summary of our financial information, it does not contain all of the financial information that may be important to you. Therefore, you should carefully read all of the information in this prospectus and any prospectus supplement, including the financial statements and their explanatory notes and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” before making a decision to invest in our common stock. The information contained in the following summary is derived from our financial statements for the quarters ended March 31, 2011 and March 31, 2010, and the fiscal years ended December 31, 2010 and 2009.
On May 10, 2011, we closed on agreements with Clinton Magnolia Master Fund, Ltd. and other accredited investors for a private placement of 12,000,000 shares of our common stock, along with warrants to purchase up to 9,000,000 shares of our common stock. The warrants have an exercise price of $0.25 per share, subject to adjustment, and expire May 10, 2016.
Immediately prior to our entry into the purchase agreement with the investors, Clinton Magnolia Master Fund purchased Midsummer Investment Ltd.’s holdings in our Company in a third-party transaction, to include 7,223,457 shares of our common stock and warrants to acquire an additional 5,551,035 shares of our common stock at a price of $0.18 per share with an expiration date of January 4, 2013.
Pursuant to a Registration Rights Agreement dated May 5, 2011, as amended on May 26, 2011, we agreed to file one or more registration statements with the SEC to register for resale by the investors securities acquired in the purchase agreement for the transaction that closed May 10, 2011 plus the shares that may be issued upon exercise of the warrants that Clinton Magnolia Master Fund acquired from Midsummer Investment, subject to any cutbacks as required by guidance provided by the Staff of the SEC, promptly following the closing of the purchase and sale of the securities, but no later than sixty days after May 10, 2011.
We also agreed that if a registration statement covering the securities is not declared effective by the SEC prior to the earlier of (i) five (5) Business Days after the SEC shall have informed us that no review of the registration statement will be made or that the SEC has no further comments on the registration statement or (ii) the ninetieth day after the date the registration statement is first filed, then we will make will make pro rata payments to each investor, as liquidated damages and not as a penalty, in an amount equal to 1.0% of the aggregate amount invested by such investor for each 30-day period or pro rata for any portion thereof following the date by which such registration statement should have been effective, up to a cap of 3% of the amount invested by each investor to that investor in liquidated damages.
The selling stockholders who participated in the May 2011 offering are as follows:
USE OF PROCEEDS
We will not receive any proceeds from the sale or other disposition of our common stock by selling stockholders. We may receive proceeds from the exercise of warrants. We intend to use the proceeds from the exercise of warrants, if any, for working capital.
MARKET FOR THE SECURITIES
Our common stock is traded on the Over-The-Counter Bulletin Board, or OTCBB, under the symbol “VKNG.OB.”
Risks Related to Our Business
Investors who purchase shares of our common stock should be aware of the possibility of a total loss of their investment.
An investment in our common stock involves a substantial degree of risk. Before making an investment decision, you should give careful consideration to the risk factors described in this section in addition to the other information contained in this prospectus. You should invest in our Company only if you can afford to lose your entire investment.
The tight credit markets may adversely affect our future results of operations.
Our operations and performance depend to some degree on general economic conditions and their impact on our customers’ finances and purchase decisions. As a result of current economic events, potential customers may elect to defer purchases of capital equipment items, such as the products we manufacture and supply. Additionally, the credit markets and the financial services industry is only beginning to recover from a period of upheaval characterized by the bankruptcy, failure, collapse or sale of various financial institutions and an unprecedented level of intervention from the United States government. While the ultimate outcome of these events cannot be predicted, it may have a material adverse effect on our customers’ ability to fund their operations thus adversely impacting their ability to purchase our products or to pay for our products on a timely basis, if at all. These and other economic factors could have a material adverse effect on demand for our products, the collection of payments for our products and on our financial condition and operating results.
We will likely face significant competition which could adversely affect our revenues, results of operations and financial condition.
The market for medical products and services is highly competitive and new offerings and technologies are becoming available regularly. Many of our competitors are substantially larger than we are. In addition, they have longer operating histories and have materially greater financial and other resources than we do. If we cannot compete in the marketplace, we may have difficulty selling our products and generating revenues. Additionally, competition may drive down the prices of our products, which could adversely affect our cost of goods sold and our profitability, if any. We cannot guarantee that we will compete successfully against our potential competitors.
We depend upon our chief executive officer and other key personnel.
Our performance depends substantially on the performance of our Chief Executive Officer, Mr. John “Jed” Kennedy, and other key personnel. Our future success will depend to a large extent on retaining our employees and our ability to attract, train, retain and motivate sufficient qualified employees to fill vacancies created by attrition or expansion of our operations. The loss of the services of our Chief Executive Officer or any key personnel could have a material adverse effect on our business, revenues, and results of operations or financial condition.
Competition for talented personnel is intense, and we may not be able to continue to attract, train, retain or motivate other highly qualified technical and managerial personnel in the future. In addition, market conditions may require us to pay higher compensation to qualified management and technical personnel than we currently anticipate. Any inability to attract and retain qualified management and technical personnel in the future could have a material adverse effect on our business, prospects, financial condition, and/or results of operations.
We rely on a small number of customers and cannot be certain that they will consistently purchase our products in the future.
We had sales to three customers that accounted for at least 10% of our revenues in the year ended December 31, 2010. The customers accounted for 31%, 24% and 15% of our revenues, respectively. Sales to individual customers exceeding 10% of revenues in the year ended December 31, 2009 were to four customers who accounted for 32%, 21%, 20% and 12% of revenues, respectively. No other customer accounted for more than 10% of our revenues during those periods. Although success of our 3DHD Vision System may mitigate this factor, a small number of customers may continue to represent a significant portion of our total revenues in any given period. We cannot be certain that such customers will consistently purchase our products at any particular rate over any subsequent period. A loss of any of these customers could adversely affect our financial performance.
Healthcare policy changes, including recently passed healthcare reform legislation, may have a material adverse effect on our business, financial condition, results of operations and cash flows.
Political, economic and regulatory influences are subjecting the healthcare industry to potential fundamental changes that could substantially affect our results of operations. Government and private sector initiatives to limit the growth of healthcare costs, including price regulation, competitive pricing, coverage and payment policies, comparative effectiveness of therapies, technology assessments and managed-care arrangements, are continuing in many countries where we do business, including the United States. These changes are causing the marketplace to put an increased emphasis on the delivery of more cost-effective treatments. Our strategic initiatives include measures to address this trend; however, there can be no assurance that any of our strategic measures will successfully address this trend.
The Patient Protection and Affordable Care Act and Health Care and Education Affordability Reconciliation Act of 2010 were enacted into law in the U.S. in March 2010. As a United States headquartered company with significant sales in the United States, this healthcare reform legislation has and will continue to materially impact us. Certain provisions of the legislation will not be effective for a number of years, there are many programs and requirements for which the details have not yet been fully established or consequences not fully understood, and it is unclear what the full impact of the legislation will be. The legislation imposes on medical device manufacturers a 2.3 percent excise tax on United States sales of Class I, II and III medical devices beginning in 2013. United States net sales represented 31 percent of our worldwide net sales in 2010 and, therefore, this tax burden may have a material, negative impact on our results of operations and our cash flows. Other provisions of this legislation, including Medicare provisions aimed at improving quality and decreasing costs, comparative effectiveness research, an independent payment advisory board, and pilot programs to evaluate alternative payment methodologies, could meaningfully change the way healthcare is developed and delivered, and may adversely affect our business and results of operations. Further, we cannot predict what healthcare programs and regulations will be ultimately implemented at the federal or state level, or the effect of any future legislation or regulation in the United States or internationally. However, any changes that lower reimbursements for our products or reduce medical procedure volumes could adversely affect our business and results of operations.
We are subject to significant domestic and international regulations and may not be able to obtain necessary regulatory clearances to sell our products.
The manufacture and sale of medical devices intended for commercial distribution are subject to extensive governmental regulation. Our failure to comply with regulatory requirements would jeopardize our ability to market our products. Noncompliance with applicable requirements can result in failure of the regulatory agency to grant pre-market clearance or approval for devices, withdrawal or suspension of approval, total or partial suspension of production, fines, injunctions, civil penalties, refunds, recall or seizure of products and criminal prosecution. Medical devices are regulated in the United States primarily by the FDA and, to a lesser extent, by state agencies. Sales of medical device products outside the United States are subject to foreign regulatory requirements that vary from country to country. Generally, medical devices require pre-market clearance or pre-market approval prior to commercial distribution. A determination that information available on the medical device is not sufficient to grant the needed clearance or approval will delay market introduction of the product. In addition, material changes or modifications to, and changes in intended use of, medical devices also are subject to FDA review and clearance or approval. The FDA regulates the research, testing, manufacture, safety, effectiveness, labeling, storage, record keeping, promotion and distribution of medical devices in the United States and the export of unapproved medical devices from the United States to other countries. The time required to obtain approvals required by foreign countries may be longer or shorter than that required for FDA clearance, and requirements for licensing may differ from FDA requirements. The current regulatory environment in Europe for medical devices differs significantly from that in the United States.
We must be able to adapt to rapidly changing technology trends and evolving industry standards or we risk our products becoming obsolete.
The medical device market in which we compete is characterized by intensive development efforts and rapidly advancing technology. Our future success will depend, in large part, upon our ability to anticipate and keep pace with advancing technology and competing innovations. We may not be successful in identifying, developing and marketing new products or enhancing our existing products. We believe that a number of large companies, with significantly greater financial, manufacturing, marketing, distribution and technical resources and experience than ours, are focusing on the development of visualization products for minimally invasive surgery.
Our operating results may be adversely affected by the level of reimbursements for surgical procedures using our products.
The level of payments for the surgical procedures, in which our products are involved, either by Medicare or private insurance companies may have a significant impact on future operating results. We could be adversely affected by changes in payment policies of government or private health care payers, particularly to the extent any such changes affect payment for the procedure in which our products are intended to be used. It is a continuing trend in United States health care for such payments to be under continual scrutiny and downward pressure. We believe that reimbursement in the future will be subject to increased restrictions, both in the United States and in foreign markets and that the overall escalating cost of medical products and services has led to and will continue to lead to increased pressures on the health care industry, both foreign and domestic, to reduce the cost of products and services, including products which we offer.
We expect that our products typically will be used by hospitals and surgical centers, which bill various third-party payers, such as governmental programs and private insurance plans, for the health care services provided to their patients. Third-party payers carefully review and increasingly challenge the prices charged for medical products and services or negotiate a flat rate fee in advance. Payment rates from private companies also vary depending on the procedure performed, the third-party payer, the insurance plan and other factors. Medicare compensates hospitals at a predetermined fixed amount for the costs associated with an in-patient hospitalization based on the patient’s discharge diagnosis and compensates physicians at a pre-determined fixed amount based on the procedure performed, regardless of the actual costs incurred by the hospital or physician in furnishing the care and unrelated to the specific devices or systems used in that procedure. Medicare and other third-party payers are increasingly scrutinizing whether to cover new products and the level of payment for new procedures. The flat fee reimbursement trend is causing hospitals to control costs strictly in the context of a managed care system in which health care providers contract to provide comprehensive health care for a fixed cost per person. We are unable to predict what changes will be made in the reimbursement methods utilized by such third-party payers.
If we obtain the necessary foreign regulatory registrations or approvals, market acceptance of our products in international markets would be dependent, in part, upon the acceptance by the prevailing health care financing system in each country. Health care financing systems in international markets vary significantly by country and include both government sponsored health care programs and private insurance. We cannot assure you that these financing systems will endorse the use of our products.
We may be subject to product liability claims and have limited insurance coverage.
By engaging in the medical devices business, we will face an inherent business risk of exposure to product liability claims in the event the use of our products results in personal injury or death. Also, in the event that any of our products proves to be defective, we may be required to recall or redesign such products. We will need to maintain adequate product liability insurance coverage. If we are able to maintain insurance, of which there can be no assurance, our coverage limits may not be adequate to protect us from any liabilities we might incur in connection with the development, manufacture and sale of our products. Product liability insurance is expensive and in the future may not be available to us on acceptable terms, if at all. A successful product liability claim or series of claims brought against us in excess of our insurance coverage or a product recall would negatively impact our business.
Risks Related to Our Common Stock
Our current directors and officers hold significant control over our common stock and they may be able to control our Company indefinitely.
Our officers and directors hold a significant amount of common stock, which may make it difficult to complete some corporate transactions without their support and may prevent a change in control. As of May 13, 2011, our directors and executive officers as a whole beneficially own approximately 9,522,727 shares or 13.2% of our outstanding common stock, and assuming that the warrants and options (exercisable as of 60 days from May 13, 2011) were exercised, may beneficially own approximately 24,863,519 shares or 28.3% of our outstanding common stock. Certain of our officers and directors disclaim beneficial ownership of certain shares included in the description above. The above-described significant stockholders may have considerable influence over the outcome of all matters submitted to our stockholders for approval, including the election of directors. In addition, this ownership could discourage the acquisition of our common stock by potential investors and could have an anti-takeover effect, possibly depressing the trading price of our common stock.
“Penny stock” rules may make buying or selling our securities difficult, which may make our stock less liquid and make it harder for investors to buy and sell our securities.
Our common stock currently trades on the Over-the-Counter Bulletin Board. If the market price per share of our common stock is less than $5.00, the shares may be “penny stocks” as defined in the Securities Exchange Act of 1934, as amended, referred to as the Exchange Act. As a result, an investor may find it more difficult to dispose of or obtain accurate quotations as to the price of these securities. In addition, “penny stock” rules adopted by the SEC under the Exchange Act subject the sale of these securities to regulations which impose sales practice requirements on broker-dealers. For example, broker-dealers selling penny stocks must, prior to effecting the transaction, provide their customers with a document that discloses the risks of investing in penny stocks.
Furthermore, if the person purchasing the securities is someone other than an accredited investor or an established customer of the broker-dealer, the broker-dealer must also approve the potential customer’s account by obtaining information concerning the customer’s financial situation, investment experience and investment objectives. The broker-dealer must also make a determination whether the customer has sufficient knowledge and experience in financial matters to be reasonably expected to be capable of evaluating the risk of transactions in penny stocks. Accordingly, the SEC’s rules may limit the number of potential purchasers of shares of our common stock. Moreover, various state securities laws impose restrictions on transferring “penny stocks,” and, as a result, investors in our securities may have their ability to sell their securities impaired.
If an active, liquid trading market for our common stock does not develop, you may not be able to sell your shares quickly or at or above the price you paid for it.
Although our common stock currently trades on the Over-the-Counter Bulletin Board, an active and liquid trading market for our common stock has not yet and may not ever develop or be sustained. You may not be able to sell your shares quickly or at or above the price you paid for our stock if trading in our stock is not active.
We do not expect to pay dividends in the foreseeable future.
We do not anticipate paying cash dividends on our common stock in the foreseeable future. Any payment of cash dividends will depend on our financial condition, results of operations, capital requirements and other factors and will be at the discretion of our board of directors.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements that involve risks and uncertainties. You should not place undue reliance on these forward-looking statements. Our actual results could differ materially from those anticipated in the forward-looking statements for many reasons, including the reasons described in our “Risk Factors” section. Although we believe the expectations reflected in the forward-looking statements are reasonable, they relate only to events as of the date on which the statements are made. We do not intend to update any of the forward-looking statements after the date of this prospectus to conform these statements to actual results or to changes in our expectations, except as required by law.
This prospectus relates to shares of our common stock that may be offered and sold from time to time by certain selling stockholders. We will not receive proceeds from the sale or other disposition of shares of common stock being sold by our selling stockholders. However, we may receive proceeds from the exercise of warrants. We cannot predict when or if the warrants will be exercised. It is possible that the warrants may expire and may never be exercised. If we receive proceeds from the exercise of warrants, we intend to use the proceeds for working capital.
Based upon information available to us as of May 19, 2011, the following table sets forth the names of the selling stockholders, the number of shares owned, the number of shares registered by this registration statement and the number and percent of outstanding shares that the selling stockholders will own, assuming all of the shares are sold. The information provided in the table and discussions below has been obtained from the selling stockholders. The selling stockholders may have sold, transferred or otherwise disposed of, or may sell, transfer or otherwise dispose of, at any time or from time to time since the date on which it provided the information regarding the shares beneficially owned, all or a portion of the shares of common stock beneficially owned in transactions exempt from the registration requirements of the Securities Act of 1933. As used in this prospectus, “selling stockholder” includes donees, pledgees, transferees or other successors-in-interest selling shares received from the named selling stockholder as a gift, pledge, distribution or other transfer. Unless otherwise noted, each person or group identified possesses sole voting and investment power with respect to the shares, subject to community property laws where applicable.
* Percentage of shares owned after the offering does not exceed one percent.
(1) Includes common stock beneficially owned including shares being registered by this prospectus. This column excludes shares that may be acquired upon exercise of warrants.
(2) Based on 72,382,598 shares outstanding as of May 19, 2011.
(3) Includes shares that may be issued upon exercise of warrants.
(4) These numbers assume the selling stockholders sell all of their shares being registered in this registration statement and do not exercise any warrants, and they do not sell any of the other common stock they own on May 19, 2011 that is not included in this registration statement.
(5) Clinton Magnolia Master Fund, Ltd. is a Cayman Islands exempted company. Clinton Group, Inc. is the investment manager of Clinton Magnolia Master Fund, and consequently has voting control and investment discretion over securities held by Clinton Magnolia Master Fund. By virtue of his direct and indirect control of Clinton Magnolia Master Fund and Clinton Group, George Hall, as chief investment officer and president of Clinton Group, is deemed to have voting power and investment power over these securities and may be deemed to beneficially own any securities owned by Clinton Group and Clinton Magnolia Master Fund. On May 10, 2011, Clinton Magnolia Master Fund purchased 6,800,000 shares of our common stock, and warrants to purchase up to 5,100,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In a third party transaction with Midsummer Investment Ltd. dated May 4, 2011, Clinton Magnolia acquired 7,223,457 shares of our common stock and warrants to purchase up to 5,551,035 shares of our common stock at an exercise price of $0.18 per share and an expiration date of January 4, 2013. We are registering the 6,800,000 shares of our common stock that it acquired on May 10, 2011. The shares being registered for Clinton Magnolia Master Fund include shares exercisable upon exercise of warrants. We are registering 2,424,657 of the 5,100,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that it also acquired on May 10, 2011.
(6) DAFNA LifeScience Market Neutral, Ltd. is a Cayman Islands exempted company. DAFNA Capital Management, LLC is the investment adviser of DAFNA LifeScience Market Neutral. DAFNA Capital Management, in its capacity as investment adviser to DAFNA LifeScience Market Neutral, may be deemed to be the beneficial owner of the shares owned by DAFNA LifeScience Market Neutral, as in its capacity as investment adviser, it has the power to dispose, direct the disposition of, and vote the shares owned by DAFNA LifeScience Market Neutral. Nathan Fischel and Fariba Ghodsian are part-owners of DAFNA Capital Management and managing members. As controlling persons of DAFNA Capital Management, they may be deemed to beneficially own the shares of our common stock owned by DAFNA LifeScience Market Neutral. On May 10, 2011, DAFNA LifeScience Market Neutral purchased 840,000 shares of our common stock, and warrants to purchase up to 630,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In this registration statement, we are registering the 840,000 shares of our common stock that it acquired on May 10, 2011. The shares being registered for DAFNA LifeScience Market Neutral also includes shares exercisable upon exercise of warrants. We are registering 299,516 of the 630,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that it also acquired on May 10, 2011.
(7) DAFNA LifeScience Select, Ltd. is a Cayman Islands exempted company. DAFNA Capital Management, LLC is the investment adviser of DAFNA LifeScience Select. DAFNA Capital Management, in its capacity as investment adviser to DAFNA LifeScience Select, may be deemed to be the beneficial owner of the shares owned by DAFNA LifeScience Select, as in its capacity as investment adviser, it has the power to dispose, direct the disposition of, and vote the shares owned by DAFNA LifeScience Select. Nathan Fischel and Fariba Ghodsian are part-owners of DAFNA Capital Management and managing members. As controlling persons of DAFNA Capital Management, they may be deemed to beneficially own the shares of our common stock owned by DAFNA LifeScience Select. On May 10, 2011, DAFNA LifeScience Select purchased 2,120,000 shares of our common stock, and warrants to purchase up to 1,590,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In this registration statement, we are registering the 2,120,000 shares of our common stock that it acquired on May 10, 2011. The shares being registered for DAFNA LifeScience Select also includes shares exercisable upon exercise of warrants. We are registering 755,922 of the 1,590,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that it also acquired on May 10, 2011.
(8) DAFNA LifeScience, Ltd. is a Cayman Islands exempted company. DAFNA Capital Management, LLC is the investment adviser of DAFNA LifeScience. DAFNA Capital Management, in its capacity as investment adviser to DAFNA LifeScience, may be deemed to be the beneficial owner of the shares owned by DAFNA LifeScience, as in its capacity as investment adviser, it has the power to dispose, direct the disposition of, and vote the shares owned by DAFNA LifeScience. Nathan Fischel and Fariba Ghodsian are part-owners of DAFNA Capital Management and managing members. As controlling persons of DAFNA Capital Management, they may be deemed to beneficially own the shares of our common stock owned by DAFNA LifeScience. On May 10, 2011, DAFNA LifeScience purchased 1,040,000 shares of our common stock, and warrants to purchase up to 780,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In this registration statement, we are registering the 1,040,000 shares of our common stock that it acquired on May 10, 2011. The shares being registered for DAFNA LifeScience also includes shares exercisable upon exercise of warrants. We are registering 370,830 of the 780,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that it also acquired on May 10, 2011.
(9) Pergament Multi-Strategy Opportunities, LP is a Delaware limited partnership. Steven J. Brown is the Portfolio Manager of Pergament Multi-Strategy Opportunities, LP and has voting and investment power over the shares. On May 10, 2011, Pergament Multi-Strategy Opportunities purchased 1,000,000 shares of our common stock, and warrants to purchase up to 750,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In this registration statement, we are registering the 1,000,000 shares of our common stock that it acquired on May 10, 2011. The shares being registered for Pergament Multi-Strategy Opportunities also includes shares exercisable upon exercise of warrants. We are registering 356,567 of the 750,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that it also acquired on May 10, 2011.
(10) Steven J. Brown has sole voting and investment power over the shares. On May 10, 2011, Mr. Brown purchased 200,000 shares of our common stock, and warrants to purchase up to 150,000 shares of our common stock at an exercise price of $0.25 and an expiration date of May 10, 2016. In this registration statement, we are registering the 200,000 shares of our common stock that he acquired on May 10, 2011. The shares being registered for Mr. Brown also includes shares exercisable upon exercise of warrants. We are registering 71,313 of the 150,000 shares of our common stock issuable upon the exercise of warrants, with an exercise price of $0.25 and an expiration date of May 10, 2016, that he also acquired on May 10, 2011.
Relationships and Arrangement with Selling Stockholders, Affiliates and Parties with Whom Any Selling Stockholders Have Contractual Relationships
As of May 19, 2011, other than the May 2011 offering, in the past three years, we have not had relationships or arrangements with the selling stockholders, or affiliates of a selling stockholder.
Method for Determining the Number of Shares Being Registered Hereunder
As negotiated among us and the investors, pursuant to terms of the transaction documents entered into by the parties on May 10, 2011, as amended on May 26, 2011, we are registering 16,278,805 shares of our common stock as follows:
PLAN OF DISTRIBUTION
We are registering the shares of common stock previously issued and issuable upon exercise of the warrants to permit the resale of the shares of common stock by the selling shareholders. We will not receive any of the proceeds from the sale by the selling shareholders of the shares of common stock. We will bear all fees and expenses incident to our obligation to register the shares of common stock.
The selling shareholders, which as used herein includes donees, pledgees, transferees or other successors-in-interest selling shares of common stock or interests in shares of common stock received after the date of this prospectus from a selling shareholder as a gift, pledge, partnership distribution or other transfer, may, from time to time, sell, transfer or otherwise dispose of any or all of their shares of common stock or interests in shares of common stock on any stock exchange, market or trading facility on which the shares are traded or in private transactions. These dispositions may be at fixed prices, at prevailing market prices at the time of sale, at prices related to the prevailing market price, at varying prices determined at the time of sale, or at negotiated prices.
The selling shareholders may use any one or more of the following methods when disposing of shares or interests therein:
If the selling shareholders effect such transactions by selling shares of common stock to or through underwriters, broker-dealers or agents, such underwriters, broker-dealers or agents may receive commissions in the form of discounts, concessions or commissions from the selling shareholders or commissions from purchasers of the shares of common stock for whom they may act as agent or to whom they may sell as principal (which discounts, concessions or commissions as to particular underwriters, broker-dealers or agents may be in excess of those customary in the types of transactions involved). The selling shareholders may, from time to time, pledge or grant a security interest in some or all of the shares of common stock owned by them and, if they default in the performance of their secured obligations, the pledgees or secured parties may offer and sell the shares of common stock, from time to time, under this prospectus, or under an amendment to this prospectus under Rule 424(b)(3) or other applicable provision of the Securities Act amending the list of selling shareholders to include the pledgee, transferee or other successors in interest as selling shareholders under this prospectus. The selling shareholders also may transfer the shares of common stock in other circumstances, in which case the transferees, pledgees or other successors in interest will be the selling beneficial owners for purposes of this prospectus.
In connection with the sale of our common stock or interests therein, the selling shareholders may enter into hedging transactions with broker-dealers or other financial institutions, which may in turn engage in short sales of the common stock in the course of hedging the positions they assume. The selling shareholders may also sell shares of our common stock short and deliver these securities to close out their short positions, or loan or pledge the common stock to broker-dealers that in turn may sell these securities. The selling shareholders may also enter into option or other transactions with broker-dealers or other financial institutions or the creation of one or more derivative securities which require the delivery to such broker-dealer or other financial institution of shares offered by this prospectus, which shares such broker-dealer or other financial institution may resell pursuant to this prospectus (as supplemented or amended to reflect such transaction).
The aggregate proceeds to the selling shareholders from the sale of the common stock offered by them will be the purchase price of the common stock less discounts or commissions, if any. Each of the selling shareholders reserves the right to accept and, together with their agents from time to time, to reject, in whole or in part, any proposed purchase of common stock to be made directly or through agents. We will not receive any of the proceeds from this offering. Upon any exercise of the warrants by payment of cash, however, we will receive the exercise price of the warrants.
The selling shareholders also may resell all or a portion of the shares in open market transactions in reliance upon Rule 144 under the Securities Act, provided that they meet the criteria and conform to the requirements of that rule.
Any underwriters, broker-dealers or agents that participate in the sale of the common stock or interests therein may be “underwriters” within the meaning of Section 2(11) of the Securities Act. Any discounts, commissions, concessions or profit they earn on any resale of the shares may be underwriting discounts and commissions under the Securities Act. Selling shareholders who are “underwriters” within the meaning of Section 2(11) of the Securities Act will be subject to the prospectus delivery requirements of the Securities Act.
To the extent required, the shares of our common stock to be sold, the names of the selling shareholders, the respective purchase prices and public offering prices, the names of any agents, dealer or underwriter, any applicable commissions or discounts with respect to a particular offer will be set forth in an accompanying prospectus supplement or, if appropriate, a post-effective amendment to the registration statement that includes this prospectus.
In order to comply with the securities laws of some states, if applicable, the common stock may be sold in these jurisdictions only through registered or licensed brokers or dealers. In addition, in some states, the common stock may not be sold unless it has been registered or qualified for sale or an exemption from registration or qualification requirements is available and is complied with.
We have advised the selling shareholders that the anti-manipulation rules of Regulation M under the Exchange Act may apply to sales of shares in the market and to the activities of the selling shareholders and their affiliates. In addition, to the extent applicable we will make copies of this prospectus (as it may be supplemented or amended from time to time) available to the selling shareholders for the purpose of satisfying the prospectus delivery requirements of the Securities Act. The selling shareholders may indemnify any broker-dealer that participates in transactions involving the sale of the shares against certain liabilities, including liabilities arising under the Securities Act.
We have agreed to indemnify the selling shareholders against liabilities, including liabilities under the Securities Act and state securities laws, relating to the registration of the shares offered by this prospectus.
The following description of our capital stock and provisions of our Certificate of Incorporation, as Amended, and our By-laws is only a summary. You should also refer to our Certificate of Incorporation, a copy of which is incorporated by reference as an exhibit to the registration statement of which this prospectus is a part, and our By-laws, a copy of which is incorporated by reference as an exhibit to the registration statement of which this prospectus is a part.
We are authorized to issue 400,000,000 shares of common stock, par value $0.001.
Each holder of our common stock is entitled to one vote for each share held on all matters submitted to a vote of our stockholders. Subject to preferences that may apply to shares of preferred stock outstanding at the time, the holders of outstanding shares of our common stock are entitled to receive dividends out of assets legally available at the times and in the amounts that our board of directors may determine from time to time. The holders of common stock are not entitled to preemptive or subscription rights, nor do they have cumulative voting rights. Each outstanding share of common stock is, and all shares of common stock to be issued in this offering when they are paid for will be, fully paid and non-assessable.
No expert or counsel named in this prospectus as having prepared or certified any part of this prospectus or having given an opinion upon the validity of the securities being registered or upon other legal matters in connection with the registration or offering of the common stock was employed for such purpose on a contingency basis, or had, or is to receive, in connection with this offering, a substantial interest, direct or indirect, in us or any of our subsidiaries, nor was any such person connected with us or any of our subsidiaries as a promoter, managing or principal underwriter, voting trustee, director, officer, or employee.
We are a leading worldwide developer, manufacturer and marketer of visualization solutions for complex, minimally invasive surgery. We partner with medical device companies and healthcare facilities to provide surgeons with proprietary visualization systems enabling minimally invasive surgical procedures, which reduce patient trauma and recovery time.
We sell the most recent version of our proprietary visualization system, called our 3DHD Vision System, under the Viking brand inside and outside the United States through our distributor network. Our 3DHD System is an advanced three dimensional, or 3D, vision system which employs a flat screen monitor and passive glasses. It is used by surgeons for complex minimally invasive laparoscopic surgery, with applications in urologic, gynecologic, bariatric, cardiac, neurologic and general surgery. We released our 3DHD Vision System in the fourth quarter of 2010 and shipped 15 systems in December 2010. These shipments included eleven distributor 3DHD demonstration systems and four 3DHD customer systems.
We also manufacture two dimensional, or 2D, digital cameras that are sold to third-party companies who sell to end users through their Original Design Manufacturer, or ODM, programs and Original Equipment Manufacturer, or OEM, programs.
Our technology and know-how center on our core technical competencies in optics, digital imaging, sensors, and image management. Our focus is to deliver advanced visualization solutions to the surgical team, enhancing their capability and performance in complex minimally-invasive surgical procedures.
As of December 31, 2010, we believe that more than 100 of our proprietary 3Di visualization systems and a handful of our 3DHD Vision Systems were in service worldwide. Moreover, we have sold more than 2,000 2D digital cameras to ODM/OEM partners, including Boston Scientific Corporation and Medtronic, Inc. Our ODM products are jointly designed with our partners to meet their exact specifications for their particular market.
We commenced our current business operations in April 2004, when we acquired a proprietary 2D and 3D surgical visualization business, or the Visualization Assets, and a digital platform for surgical information delivery, called Infomatix™, from Vista Medical Technologies, Inc.
Effective July 25, 2006, we changed our domicile from the State of Nevada to the State of Delaware by way of a reincorporation merger. Our Certificate of Incorporation, as Amended, and Bylaws as a Delaware corporation are similar to the Articles of Incorporation and Bylaws that we had as a Nevada Corporation.
Since the acquisition of the assets from Vista in 2004, we have taken many actions to commercialize the technology, including the following:
PRODUCT AND TECHNOLOGY OVERVIEW
Our two primary product lines are the 3DHD Vision Systems sold through our distributor network inside and outside of the United States and our line of 2D digital cameras and components sold to our ODM/OEM partners.
Viking 3DHD Vision System
We believe that the Viking 3DHD Vision System provides the most advanced laparoscopic vision system on the market today, offering surgeons a variety of 3D endoscopes to choose from to suit their particular needs. We believe that by offering different three dimensional optical lens systems that all minimally invasive surgical procedures and surgeons can have the solution that meets their particular demanding visualization needs without compromise. When these proprietary endoscopes are coupled to our “state of the art” 3DHD camera system, the user views a live 3DHD image on a passive 3DHD display which also allows any other individual in the operating room the ability to see the image by wearing a pair of lightweight passive glasses. A completely passive viewing system means elimination of the user’s fatigue which is often associated with active (shuttered glasses) displays. The system is simple to use with virtually no learning curve since it was designed to integrate seamlessly into operating rooms that are currently equipped with older 2D systems. The system enables all minimally invasive laparoscopic procedures to be performed in 3D, providing the surgeons with accurate depth perception that allows for even the most complex surgical maneuvers to be performed confidently by providing the surgeon with an accurate three dimensional view of the anatomy. The system can also deliver a high definition 2D image for those rare instances when a surgeon prefers 2D.
There are five key components to the Viking 3DHD Vision System:
Endoscopes: We offer 6 different laparoscopes for the surgeon to choose from to meet his or her particular needs, including:
3DHD Camera heads: Three different high definition camera heads are available to match up with the three styles of endoscopes. All of the camera heads are lightweight and compact with simple user friendly interfaces for mating the scopes to the camera heads.
3DHD Control Unit: The heart of the system is the high definition universal camera control unit which recognizes which of the camera heads is plugged in and optimizes settings to simplify the setup so the surgeon can focus on what is important: the patient and the procedure. The camera can also be customized to meet individual surgeon’s requirements through an easy to understand user interface.
3DHD Light Source: The system is equipped with a 300 watt xenon light source which provides high intensity light equivalent to natural sunlight assuring the most precise possible color rendition of tissue which is critical to surgeons for accurate diagnosis and intervention in laparoscopic procedures.
3DHD Display: Our 3DHD Vision System offers the highest quality 3DHD medical grade display. The display is a completely passive system with a circular micropolarizer film layer which, when viewed through light weight polarized eyewear, provides the viewer with an incredible 3DHD view of the surgical field.
Visualization Solutions for OEM Customers
We also supply 2D digital cameras and components for several procedure-specific medical device manufacturers such as Medtronic, Boston Scientific, B. Braun Medical, Inc., and Richard Wolf Medical Instruments Corporation. As the procedural business of our customers continues to shift to minimally invasive techniques, we intend to introduce new products, services and capabilities to respond to this important business segment. We are committed to the growth of our OEM business and believe our engineering capabilities and advanced technologies make us an ideal partner of choice for companies operating in this sector.
Under the right circumstance, we would consider supplying our 3DHD Vision System on an OEM basis. We have had several preliminary discussions with companies in this regard.
We had three individual customers that accounted for at least 10% of our revenues in the year ended December 31, 2010.
BUSINESS AND MARKET OPPORTUNITY
We Offer FDA-Cleared, Advanced and Affordable 3D Surgical Visualization Technology.
We believe our technology is at the forefront of advanced 3D visualization solutions for complex minimally invasive surgeries. As minimally invasive surgeries gain popularity with both physicians and patients due to improved outcomes, faster recovery times and lower post-operative care costs, surgeons seek tools and techniques that make procedures faster, easier and/or safer. We believe that there are currently no comparable, FDA-cleared, 3D visualization systems on the market at our price points.
There are Significant Clinical and Workflow Benefits Associated with Improved Surgical Visualization.
Our 3Di System provides the surgical team significant clinical and workflow benefits not currently available from 2D visualization systems. Our solution provides the benefits of natural 3D vision by providing depth perception cues and a sense of spatial relativity. The image is not a computer model or digital rendering; it is stereoscopic vision that closely approximates the surgeon’s visual acuity in open surgery. This is particularly important in complex and lengthy minimally invasive procedures that require safe and precise navigation of a patient’s anatomy. In addition, the 3D system provides a field of view that is more immersive than traditional two dimensional views.
The Practical Benefits of our 3DHD System Expand Market Opportunities in an Environment that Places a Premium on Innovative Technologies.
We believe that the clinical benefits and potential applications of 3D visualization technology provide us with attractive market opportunities. The 3DHD Vision System combines the visual benefits of an open procedure with the clinical outcomes associated with minimally-invasive surgery and enables more complicated surgical procedures to be performed using less invasive techniques. It expands the market or procedures available for use by these systems. Moreover, in addition to our current procedural focus, there are several other procedural specialties that offer significant expansion opportunities for the technology. The expansion segments include:
Our ODM/OEM Business Provides Recurring Revenues
The ODM/OEM business has provided us with a recurring source of revenue and has been a source of growth. We are the strategic visualization supplier and partner for several leading procedure-specific medical device manufacturers such as B. Braun, Richard Wolf, Boston Scientific and Medtronic. We have sold over two thousand 2D digital cameras, accessories and unique visualization solutions to our ODM/OEM partners, and in 2010 and 2009 ODM/OEM sales accounted for approximately $6,481,000 and $5,547,000 in revenue, respectively.
OUR PRIMARY MARKET
We believe the primary market for our products is for use during complex, minimally invasive surgery that relies heavily on the use of endoscopic instruments, enabling instrumentation and visualization technologies. We believe that the key growth drivers in minimally invasive surgery include the following:
We believe that the clinical benefits and broad potential application of 3D visualization technology provide us with an attractive, potentially high growth market. The 3DHD Vision System combines the visual benefits with the opportunity for rapid recovery associated with minimally invasive techniques. The technology itself is believed to be a driver of expanding procedural applications.
MARKET SEGMENTATION, COMPETITION AND PRODUCT POSITIONING OF 3Di SYSTEM
Although competition exists for aspects of our visualization product line, we believe that no other single company offers a complete and independent 3D visualization and information solution specifically directed at complex minimally invasive procedures. In addition, we are not aware of any other true stand alone 3D systems that have been cleared for marketing in surgical applications by the FDA.
We believe the current worldwide market for surgical vision systems is $2 billion per year and comprises approximately 30,000 systems annually. Prices of 2D vision systems range from $20,000 to $80,000. Over the last few years, the market has expanded by shifting most of the annual placements to higher priced high definition vision systems. We believe that recent 3D technology announcements and developments in the consumer non-medical market will accelerate adoption of high definition 3D vision systems in the medical market.
The number of minimally invasive surgical procedures performed each year continues to grow. Additionally, trends aimed at improving minimally invasive surgical procedures are resulting in demand for tools and technologies that allow surgeons to reduce the size and number of entry points utilized to perform procedures. We believe that providing surgeons with natural depth perception through a high definition 3D vision system is an essential element in improving minimally invasive surgical procedures. These advancements in surgical procedures are aimed at improving the quality of patient care and patient outcomes.
A separate high end segment of the visualization technology market is fully immersive 3D-vision-enabled robotics (for example, Intuitive Surgical’s proprietary daVinci System) which generally sells for up to $1,500,000 per system and requires disposables that cost the hospital up to an estimated $1,500 to $3,000 per procedure. We do not compete in this segment. Although the robotic technologies provided by companies such as Intuitive Surgical incorporate 3D vision capabilities into their systems, our products are not in direct competition with these products. Rather, our strategy is to offer standalone 3D vision capability at a substantially lower price. Depending on configuration, our 3DHD Vision System is priced at approximately $100,000 to end customers.
Our 3DHD solution provides a higher level of technical sophistication than 2D for minimally invasive surgery procedures, without the high cost and technical complexity of a robotic solution. Due to improvements in technology combined with the trends in 3D adoption in the consumer market, we believe that the adoption rate of 3D vision systems in the medical market will greatly accelerate now that our 3DHD vision system has been released. Contributing to such expected increase in adoption is the fact that our 3DHD Vision System has a lower cost and selling price than our predecessor 3Di system and therefore is more competitively priced in relation to existing 2D high definition systems. We believe that a 5% penetration of world vision system unit placements, or approximately 1,400 systems per year, could results in sales for our 3D technology to be in excess of $100 million annually. Currently, Karl Storz GmbH, Stryker Corporation, Olympus, Inc., Conmed Corporation, Richard Wolf and Smith & Nephew PLC are key suppliers of 2D vision systems to the medical market.
OEM MARKET DEVELOPMENT
We anticipate the trend of converting open surgical procedures to minimally invasive techniques will continue to grow for the foreseeable future. The common element of minimally invasive techniques is that the surgeon must rely on a means other than direct visualization to operate effectively. We believe we are uniquely positioned to provide a broad range of direct visualization solutions to the OEM marketplace. We believe we will be able to leverage our long-standing customer relationships and build our customer list by adding stable, brand name companies as well as emerging companies developing novel techniques to our customer list further enabling the conversion to minimally invasive techniques with all types of visualization solutions.
SALES AND MARKETING
Our global sales and marketing effort is designed to drive adoption and to develop a premium Viking branded image for our products. We focus on implementing a multi-tiered sales initiative, developing the market segments of interest and building relationships with key opinion leaders and academic centers.
In the United States, we primarily sell through distributors who have been granted rights to sell the 3DHD Vision System in particular geographic areas. Where we do not have distributor coverage in the United States, we sell our product directly through our Westborough, Massachusetts location under the direction of a long-service senior sales executive and support staff. This group develops customer contacts, demonstrates equipment and follows up on completed sales transactions to assure customer satisfaction. These efforts are supported by technical resources from our Westborough, MA headquarters and manufacturing facility. With the recent commercial release of our 3DHD Vision Systems, we plan to continue to increase our distribution capability in the United States by indentifying additional distribution partners for those geographic regions within the country where we do not have independent coverage.
Outside the United States, we have agreements in place with distributors to distribute our 3DHD Vision Systems in portions of Europe, Asia, the Middle East, Mexico and South America. These sales are supported by a senior sales executive based in the United States and our personnel in Westborough, MA.
Our marketing strategy includes exposure through trade shows, encouraging clinical studies and publications, and working with prominent academic healthcare institutions on new product development opportunities. Our marketing objective is to create premium brand recognition for our solutions, which we believe will support growth of 3D system placements.
With our predecessor 3Di system, we experienced the most success in the specialty segments of urology, bariatrics and laparoscopic gynecology. Using urology as an example, we believe that the adoption drivers are compelling for a number of reasons, including the following:
Our operations are located in Westborough, Massachusetts. Our President and Chief Executive Officer, John “Jed” Kennedy, oversees a staff of 23 full-time employees and several consultants. These personnel provide us with production capability, product development, quality assurance, regulatory affairs, marketing, technical and sales support, and administrative functions.
Production processes that are conducted at our Westborough facility include final assembly, test and integration services of surgical video systems. Equipment used in the production and engineering process consists of benches, custom fixtures, test equipment and hand tools. We outsource all fabrication operations. There is currently floor space capacity to build and ship planned OEM shipments, as well as to build a substantial number of 3DHD systems per year. We believe that additional skilled labor and facility space is readily available in the local market as production volume increases.
We utilize sole source component technology from Matsushita Panasonic, Toshiba, Sony and Henke-Sass Wolf. We maintain a good relationship with all three suppliers and it has been their policy to notify us well in advance of the end of life of a particular component so that we are able to make the necessary final orders and/or design modifications to support the replacement technology.
All development projects are performed in compliance with FDA guidelines and the Medical Device Directive, the regulatory requirements of the European Union for medical devices. Our policies and procedures have been audited and found to be compliant by the regulatory agencies for both the United States and Europe. All products have been tested and approved to safety standards established by the International Electrotechnical Commission and by Intertek ETL, a nationally recognized testing laboratory in the United States.
Our Westborough facility is FDA compliant and ISO 13485 certified.
Our product development priorities include supporting the development phase of new OEM customer programs, supporting the clinical expansion process, upgrading and enhancing our core platform products, and developing new products to expand our product line. We are dedicated to providing the highest quality and best video image on the market, in addition to delivering that image in 3D. During 2010 and 2009, we incurred $1,398,067 and $578,861, respectively on research and development related expenses. We did not receive any customer reimbursement of our research and development expenses.
The following initiatives are most important to our product development roadmap:
“Viking” Brand Product Development:
We continue to evaluate technologies and refine the pathway for future generations of our system. While we improve visualization, we intend also to explore providing a complete advanced minimally invasive surgical solution rather than a visualization only system.
OEM Product Development
For the OEM market, we have developed improved 2D high definition products to enhance image quality.
In the fourth quarter of 2009, we completed development work of a 3DHD visualization system for a robotic surgical company under a development contract that provided us approximately $800,000 of total revenue beginning in late 2007 and ending in 2009. It was both the parties’ stated intentions in the development agreement that this development agreement would lead to a multi-year supply agreement whereby we would manufacture and supply products to the other party. The development agreement has ended. The other party has not informed us of any decision to deploy, or not to deploy, the completed visualization system and no discussions regarding a manufacturing contract have occurred. Due to the passage of time since completion of the development contract, it does not appear likely that we will be awarded a manufacturing contract for the developed visualization system.
We believe that the opportunity exists for us to supply 3D vision systems to other surgical robotic and/or device companies interested in visualization for use with robotic systems and for use with advanced hand held articulating surgical instruments. We have had discussions with several such companies and are evaluating opportunities to broaden the market for our 3DHD visualization system.
Our technology base was built through internal research and development and by license and acquisition. We hold fourteen patents and have submitted five additional patent applications. We also hold non-exclusive license rights to four U.S. patents and four international patents.
On August 5, 2008, we licensed our patent portfolio to Intuitive Surgical, Inc. pursuant to an exclusive license agreement. The license agreement provides Intuitive Surgical with perpetual, exclusive rights to use all of our then held patents in the medical robotics field, as defined in the license agreement. We maintained the right to sell non-stereoscopic products and our then current stereoscopic products that utilize the licensed patents in the medical robotics field. We received $1 million for the license. Our currently marketed 3DHD Visualization System does not incorporate any of the patents licensed to Intuitive Surgical, Inc.
QUALITY ASSURANCE AND REGULATORY AFFAIRS
All of the medical devices we develop are regulated by the FDA in the United States. The nature of the FDA requirements applicable to medical devices depends on their classification by the FDA. Our current products are classified as Class II medical devices. A device classified as a Class II device usually requires, at a minimum, FDA 510(k) clearance. The 3DHD System was cleared to be marketed in the United States via 510(k) number K101810 on August 30, 2010.
Our regulatory function is managed internally and supported by a regulatory affairs consultant with over 15 years of experience in the medical device industry. The consultant also acts as our management representative as required by the Medical Device Directive. Additionally, we have two full-time employees performing quality control functions. To comply with quality requirements, we rely on our suppliers’ quality systems and ISO registrations as well as historical data to support our material acceptance.
We use the following criteria to prioritize and guide the decision making process in our quality organization:
Our Westborough, MA facility was the subject of a routine surveillance audit by the FDA in August 2009. No adverse findings were noted. To ensure our compliance with ISO standards, “European Notified Body” inspections of our facility occur annually. Our last Notified Body review was in June 2010 and resulted in a recommendation that we maintain our certification.
Governmental Regulation of Medical Devices
The manufacture and sale of medical devices intended for commercial distribution are subject to extensive governmental regulation in the United States. Medical devices are regulated in the United States primarily by the FDA and, to a lesser extent, by certain state agencies. Generally, medical devices require pre-market clearance or pre-market approval prior to commercial distribution. In addition, certain material changes or modifications to, and changes in the intended use of, medical devices also are subject to FDA review and clearance or approval. The FDA regulates the research, testing, manufacture, safety, effectiveness, labeling, storage, record keeping, promotion and distribution of medical devices in the United States and the export of unapproved medical devices from the United States to other countries. Non-compliance with applicable requirements can result in failure of the government to grant pre-market clearance or approval for devices, withdrawal or suspension of approval, total or partial suspension of production, fines, injunctions, civil penalties, refunds, recall or seizure of products and criminal prosecution.
In the United States, medical devices are classified into one of three classes, Class I, II or III, on the basis of the controls deemed by the FDA to be necessary to reasonably ensure their safety and effectiveness. Our current products are classified as Class II devices.
Class I devices are subject to general controls, such as establishment registration and product listing, labeling, adulteration and misbranding provisions and medical device reporting requirements and, unless exempt, to pre-market notification and adherence to “good manufacturing practice” standards. Class II devices are subject to general controls and special controls, such as performance standards, post-market surveillance, patient registries and FDA guidelines. Generally, Class III devices are those that must receive pre-market approval by the FDA to ensure their safety and effectiveness. Examples of Class III products include life-sustaining, life-supporting and implantable or new devices which have not been found to be substantially equivalent to legally marketed devices. Class III devices ordinarily require clinical testing to ensure safety and effectiveness and FDA clearance prior to marketing and distribution. The FDA also has the authority to require clinical testing of Class I and Class II devices. A pre-market approval application must be filed if a proposed device is not substantially equivalent to a legally marketed predicate device or if it is a Class III device for which the FDA has called for such application. A pre-market approval application typically takes several years to be approved by the FDA.
Generally, before a new device can be introduced into the market in the United States, the manufacturer or distributor must obtain FDA clearance of a 510(k) notification or submission and approval of a pre-market approval application. If a medical device manufacturer or distributor can establish that a device is “substantially equivalent” to a legally marketed Class I or Class II device, or to a Class III device for which the FDA has not called for a pre-market approval, the manufacturer or distributor may market the device upon receipt of an FDA order determining such a device substantially equivalent to a predicate device. The 510(k) notification may need to be supported by appropriate performance, clinical or testing data establishing the claim of substantial equivalence. The FDA requires a rigorous demonstration of substantial equivalence.
Following submission of the 510(k) notification, the manufacturer or distributor may not place the device into commercial distribution until an FDA substantial equivalence order permitting the marketing of a device is received by the person who submitted the 510(k) notification. At this time, the FDA typically responds to the submission of a 510(k) notification within 90 to 200 days. An FDA letter may declare that the device is substantially equivalent to a legally marketed device and allow the proposed device to be marketed in the United States. The FDA, however, may determine that the proposed device is not substantially equivalent or require further information, including clinical data, to make a determination regarding substantial equivalence. Such determination or request for additional information will delay market introduction of the product that is the subject of the 510(k) notification.
Investigational Device Exemption Application
All clinical investigations involving the use of an unapproved or uncleared device on humans to determine the safety or effectiveness of the device must be conducted in accordance with the FDA’s investigational device exemption regulations. If the device presents a “significant risk,” the manufacturer or distributor of the device is required to file an investigational device exemption application with the FDA prior to commencing human clinical trials. This application must be supported by data, typically the result of animal and bench testing. If the application is approved by the FDA, human clinical trials may begin at a specific number of investigational sites with a maximum number of patients, as approved by the FDA. If the device presents a “non-significant risk,” approval by an institutional review board prior to commencing human clinical trials is required, as well as compliance with labeling, record keeping, monitoring and other requirements. However, the FDA can disagree with a non-significant risk device finding.
Any products which we manufacture or distribute are subject to continuing regulation by the FDA, which includes record keeping requirements, reporting of adverse experience with the use of the device, “good manufacturing” requirements and post-market surveillance, and may include post-market registry and other actions deemed necessary by the FDA. A new 510(k), pre-market approval or pre-market approval supplement is also required when a medical device manufacturer makes a change or modification to a legally marketed device that could significantly affect the safety or effectiveness of the device, or where there is a major change or modification in the intended use of the device or a new indication for use of the device. When any change or modification is made to a device or its intended use, the manufacturer is expected to make the initial determination as to whether the change or modification is of a kind that would necessitate the filing of a new 510(k), pre-market approval or pre-market approval supplement.
The sale of medical device products outside of the United States is subject to foreign regulatory requirements that vary from country to country. The time required to obtain approvals required by foreign countries may be longer or shorter than that required for FDA clearance, and requirements for licensing may differ from FDA requirements. Our failure to comply with regulatory requirements would jeopardize our ability to market our products. The current regulatory environment in Europe for medical devices differs significantly from that in the United States. Since June 1998, all medical devices sold in the European Union must bear the CE mark. Devices are now classified by manufacturers according to the risks they represent with a classification system giving Class III as the highest risk devices and Class I as the lowest. Once the device has been classified, the manufacturer can follow one of a series of conformity assessment routes, typically through a registered quality system, and demonstrate compliance to a “European Notified Body.” After that, the CE mark may be applied to the device. Maintenance of the system is ensured through annual on-site audits by the notified body and a post-market surveillance system requiring the manufacturer to submit serious complaints to the appropriate governmental authority.
As of May 10, 2011, we have 24 full time employees. None of our employees are represented by a collective bargaining agreement, nor have we experienced work stoppages. We believe our relations with our employees are good.
We lease an 18,210 square foot facility in Westborough, Massachusetts. This facility houses our corporate headquarters, manufacturing, and research and development. The lease expires on September 30, 2015. Depending upon our rate of growth, we believe that we may need to obtain additional operating space prior to the end of the lease. We believe that we will be able to obtain additional space prior to the lease expiration and that upon expiration, we will be able to renew, extend or obtain additional space, as needed, on commercially reasonable terms when our lease ends.
We may be involved from time to time in ordinary litigation, negotiation and settlement matters that will not have a material effect on our operations or finances. We are not aware of any pending or threatened litigation against us or our officers and directors in their capacity as such that could have a material impact on our operations or finances.
Our common stock is quoted on the OTCBB under the symbol “VKNG.OB.” The following table sets forth the high and low closing prices for our common stock for each quarter during the last two fiscal years. The prices reported below reflect inter-dealer prices and are without adjustments for retail markups, markdowns or commissions, and may not necessarily represent actual transactions.
As of May 19, 2011, we had approximately 120 holders of record of our common stock.
We did not pay any dividends during the year ended December 31, 2010.
We have not paid any cash dividends on our common stock since our inception and do not anticipate or contemplate paying dividends in the foreseeable future.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Viking Systems, Inc.
We have audited the accompanying balance sheets of Viking Systems, Inc. as of December 31, 2010 and 2009, and the related statements of operations, stockholders’ equity, and cash flows for the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.
We conducted our audits 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 was not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that were appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s 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 presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Viking Systems, Inc. as of December 31, 2010 and 2009, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
/s/ SQUAR, MILNER, PETERSON, MIRANDA & WILLIAMSON, LLP
Newport Beach, California
February 24, 2011
VIKING SYSTEMS, INC.
December 31, 2010 and 2009
See accompanying notes to the financial statements.
VIKING SYSTEMS, INC.
Statements of Operations
Years Ended December 31, 2010 and 2009
See accompanying notes to the financial statements.
VIKING SYSTEMS, INC.
Statements of Stockholders’ Equity
Years Ended December 31, 2009 and 2010
See accompanying notes to the financial statements.
VIKING SYSTEMS, INC.
Statements of Cash Flows
Years Ended December 31, 2010 and 2009
See accompanying notes to the financial statements.
VIKING SYSTEMS, INC.
Statements of Cash Flows
Non-cash, investing and financing activities:
During the year ended December 31, 2010, the Company:
During the year ended December 31, 2009, the Company:
See accompanying notes to the financial statements.
VIKING SYSTEMS, INC.
Notes to Financial Statements
Organization and Business
Viking Systems, Inc., (“Viking” or the “Company”) was organized as a corporation in the state of Nevada on May 28, 1998, for the purpose of providing training and curriculum for the information technology industry. During 2001, Viking changed its business focus to the development of software applications, hardware sales and leasing, and training and support. As of December 31, 2002, Viking discontinued its operations. During 2004, Viking purchased the assets of the visualization technology business of Vista Medical Technologies Inc. (“Vista”), a Delaware Corporation, involved in the development, manufacture, and sale of visualization devices for the medical market. The assets acquired from Vista formed the new business direction of Viking in 2004 and are integral to the current ongoing business. Effective July 25, 2006, the Company changed its domicile from the State of Nevada to the State of Delaware by way of a reincorporation merger. Its Certificate of Incorporation and Bylaws as a Delaware corporation are similar to the Articles of Incorporation and Bylaws that the Company had as a Nevada Corporation.
Basis of Presentation
The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
The Company has incurred net losses and negative cash flows from operations. Based upon its current projection of future orders, management believes that its current cash position and available financing provide sufficient resources and operating flexibility through at least the next twelve months.
However, there can be no assurance that projected revenue growth and improvement in operating results will occur or that the Company will successfully implement its plans. In the event cash flow from operations is not sufficient, additional sources of financing will be required in order to maintain the Company’s current operations. Whereas management believes it will have access to other financing sources, no assurance can be given that such additional sources of financing will be available on acceptable terms, on a timely basis or at all.
Cash and Cash Equivalents
Viking considers all highly liquid instruments with an original maturity of three months or less to be cash equivalents.
The Company’s financial instruments as of December 31, 2010 and 2009 consist primarily of cash and cash equivalents, accounts receivable and accounts payable. The recorded values of cash and cash equivalents, accounts receivable and accounts payable approximate their fair values based on their short-term nature.
Financial instruments which potentially subject Viking to concentration of credit risk consist primarily of accounts receivable, cash and cash equivalents. In the normal course of business, Viking provides credit terms to its customers. Accordingly, Viking performs ongoing credit evaluations of its customers and maintains allowances for possible losses which, when realized, have been within the range of management’s expectations. Viking had accounts receivable due from two customers representing greater than 10% of total accounts receivable at December 31, 2010 amounting to $339,120 and $106,000. Viking had accounts receivable due from two customers representing greater than 10% of total accounts receivable at December 31, 2009 amounting to $124,000, and $259,000.
Viking maintains its cash and cash equivalents in deposit accounts some of which may at times be uninsured or may exceed the current Federal Deposit Insurance Corporation insurance limits. Viking has not experienced any losses in such accounts.
Accounts receivable are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis. Specific reserves are estimated by management based on certain assumptions and variables, including the customer’s financial condition, age of the customer’s receivables, and changes in payment histories. As of December 31, 2010 and December 31, 2009, allowance for doubtful accounts receivable of $0 and $171,576, respectively were considered necessary.
Inventories are stated at the lower of cost or market. Cost is determined using the standard cost which approximates the weighted average method. Work-in-process and finished goods are stated at the lower of the accumulated manufacturing costs or market. Viking reduces the stated value of its inventory for obsolescence or impairment in an amount equal to the difference between the cost of the inventory and the estimated market value, based upon assumptions about future demand and market conditions. If actual future demand or market conditions are less favorable than those projected by management, additional reductions in stated value may be required.
Impairment of Long Lived Assets and Intangible Assets with Finite Lives
Property and equipment and intangible assets with finite lives are amortized using the straight line method over their estimated useful lives. These assets are assessed for potential impairment when there is evidence that events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Conditions that would indicate impairment and trigger an assessment include, but are not limited to, a significant adverse change in the legal factors or business climate that could affect the value of an asset, an adverse action or assessment by a regulator or a current expectation that, more likely than not, a long-lived asset will be sold or otherwise disposed of significantly before the end of its previously estimated useful life. If, upon assessment, the carrying amount of an asset exceeds its estimated fair value, an impairment charge is recognized for the amount by which the carrying amount of the asset exceeds its estimated fair value of the asset.
Property and Equipment
Property and equipment are recorded at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the useful lives of the assets, which range from one to four years. Expenditures for maintenance and repairs are expensed when incurred and betterments are capitalized. Gains and losses on sale of property and equipment are reflected in operations.
Derivative Financial Instruments
The Company does not use derivative instruments to hedge exposures to cash flow, market or foreign currency risk.
Freestanding warrants issued by the Company in connection with the issuance or sale of debt and equity instruments are considered to be derivative instruments, and are evaluated to determine whether the fair value of warrants issued is required to be classified as equity or as a derivative liability.
The Company’s revenues are derived from the sale of surgical visualization technology products to end users, distributors and original equipment manufacturers. Revenue from the sale of products is recognized when evidence of an arrangement exists, the product has been shipped, the selling price is fixed or determinable, collection is reasonably assured and when both title and risk of loss transfer to the customer, provided that no significant obligations remain. The significant terms of the Company’s sales arrangements typically include upfront payments or credit terms not to exceed 60 days depending upon the credit worthiness of the customer. The arrangements do not include right of return or price concessions and the Company’s post shipment obligations typically are limited to standard warranty for product defects.
For the sale of products and services as part of a multiple-element arrangement, the Company allocates revenue from multiple-element arrangements to the elements based on the relative fair value of each element. Revenue associated with undelivered elements is deferred and recorded when delivery occurs.
Shipping and Handling Costs
Shipping and handling costs are classified as selling and marketing expenses. For the years ended December 31, 2010 and 2009, shipping and handling expense was $38,363 and $21,819, respectively.
Viking accounts for income taxes using the asset and liability method. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recognized against deferred tax assets when it is more likely than not that the assets will not be realized.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Loss Per Common and Common Share Equivalent
The computation of basic and diluted loss per common share is computed using the weighted average number of common shares outstanding during the year.
Due to the net losses for the year ended December 31, 2010 and 2009, potentially dilutive securities have been excluded in the calculation of diluted loss per share because their inclusion would be anti-dilutive. Accordingly, basic and diluted loss per share are the same for each respective year.
The following potentially dilutive common shares were excluded from the calculation of diluted net loss per common share because their effect was anti-dilutive for the periods presented:
The Company uses the Black-Scholes option valuation model to estimate the fair value of its stock options at the date of grant. The Black-Scholes option valuation model requires the input of subjective assumptions to calculate the value of stock options. The Company uses historical data among other information to estimate the expected price volatility, the expected annual dividend, the expected option life and the expected forfeiture rate. The grant date estimated fair value is recognized over the period during which an employee is required to provide service in exchange for the award, which is generally the option vesting period.
Certain reclassifications have been made to prior years’ financial statements to conform to the current year presentation. These reclassifications had no effect on previously reported results of operations or accumulated deficit.
Inventories consist of the following at December 31:
Property and equipment consists of the following at December 31:
Depreciation expense was $89,220 and $187,834 for the years ended December 31, 2010 and 2009, respectively. During 2010 and 2009 demonstration equipment with net book values of $14,822 and $15,685, respectively, was reclassified from property and equipment to inventory and subsequently sold.
Intangible assets consist of the following at December 31:
In November 2006, as part of a Technology Transfer and Settlement Agreement, the Company paid $350,000 for the ownership of intellectual property including fourteen patents and non-exclusive license rights to four U.S. patents and four international patents.
These assets are being amortized over five years using the straight line method. Amortization expense amounted to $70,000 for both 2010 and 2009. The estimated amortization expense for the future years is $70,000 for 2011.
During 2009, the Company licensed one of its patents to a third party through December 2009. The license is for use outside the medical products field. The third party had previously licensed this patent through December 2006. The license fee of $125,000 is included in other income for the year ended December 31, 2009.
Accrued expenses consist of the following at December 31:
As of December 31, 2010 and 2009, the Company had deferred revenue of $55,119 and $359,027, respectively, which consisted of sales for which all elements of the agreements were not completed and for service plan agreements that are deferred until the service period has occurred.
The components of the 2010 and 2009 provision for federal and state income tax benefit (expense) are summarized below:
The difference between income taxes at statutory rates and the amount presented in the financial statements is a result of the following:
Deferred income tax benefit reflects the impact of timing differences between amounts of assets and liabilities for financial reporting purposes and amounts as measured by income tax laws. Deferred tax assets are as follows at December 31,
In July 2006, the FASB issued guidance relating to uncertain tax positions which clarifies the accounting for income taxes by prescribing a minimum probability threshold that a tax position must meet before a financial statement benefit is recognized. The minimum threshold is defined as a tax position that is more likely than not to be sustained upon examination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The tax benefit to be recognized is measured as the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. The Company adopted this guidance on income taxes at the beginning of fiscal year 2007. Upon adoption, the Company had no unrecognized tax benefits, and there were no material changes during the years ended December 31, 2010 and 2009.
As of December 31, 2010, the Company had not yet completed its analysis of the deferred tax assets for its net operating losses of approximately $21 million and research and development credits of approximately $381,000 generated through 2010. The future utilization of the Company’s net operating loss and research and development credit carryforwards to offset future taxable income may be subject to an annual limitation as a result of ownership changes that may have occurred previously or that could occur in the future. The Company has not yet determined whether such an ownership change has occurred. In order to make this determination, the Company will need to complete a Section 382 analysis regarding the limitation of the net operating loss and research and development credits. Until this analysis has been performed, the Company has removed the deferred tax assets associated with these carryforwards from its deferred tax asset schedule and has recorded a corresponding decrease to their valuation allowance.
The Company recognizes interest and/or penalties related to uncertain tax positions in income tax expenses. To the extent accrued interest and penalties do not ultimately become payable, amounts accrued will be reduced and reflected as a reduction of the overall income tax provision in the period that such determination is made. There was no interest or penalties related to income tax matters during the years ended December 31, 2010 and 2009.
The Company reduces its deferred tax assets by a valuation allowance if, based on the weight of available evidence, it is not more likely than not that all or a portion of the deferred tax assets will be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary difference become deductible. Management has provided a valuation allowance in the amount of $844,000 as of December 31, 2010 due to the uncertainty of the future realization of the deferred tax asset.
Viking leases its Westborough, MA facility under a non-cancelable operating lease agreement expiring on September 30, 2015. Future minimum lease payments through September 2015 are as follows:
For the years ended December 31, 2010 and December 31, 2009 rent expense was $246,000 and $245,835, respectively.
On January 7, 2010, the Company, entered into an investment agreement (the “Investment Agreement”) with Dutchess Opportunity Fund II, LP (“Dutchess”). Pursuant to the Investment Agreement, Dutchess committed to purchase up to $5,000,000 of the Company’s common stock over thirty-six months subject to certain conditions.
The Company may draw on the facility from time to time, as and when it determines appropriate in accordance with the terms and conditions of the Investment Agreement. The purchase price is 96% of the lowest daily volume weighted average price (“VWAP”) of the Company’s common stock during the 5 consecutive trading day period beginning on the trading day immediately following the date of delivery of the applicable put notice. The amount that the Company is entitled to put in on any one notice shall be any amount up to the greater of 1) 200% of the average daily volume of the common stock for the 3 trading days prior to the applicable put notice date, multiplied by the average of the 3 daily closing prices immediately preceding the date of the put or 2) $100,000. Dutchess is not obligated to purchase shares if its total number of shares beneficially held at that time would exceed 4.99% of the number of shares of the Company’s outstanding common stock as determined in accordance with Rule 13d-1 of the Securities Exchange Act of 1934, as amended. In addition, the Company is not permitted to draw on the facility unless there is an effective registration statement to cover the resale of the shares.
Pursuant to the terms of a Registration Rights Agreement between the Company and Dutchess, the Company was obligated to file a registration statement with the SEC to register the resale by the Investor of 15,000,000 shares of the common stock underlying the Investment Agreement on or before 21 calendar days of the date of the Registration Rights Agreement. The Company filed the required registration statement and it was declared effective on February 12, 2010.
During the year ended December 31, 2010, the Company sold 10,970,068 shares under this Investment Agreement for $2,842,173 for an average per share price of $0.293. As a result, the Company may put up to an additional 4,029,932 shares to Dutchess under the effective registration statement. Depending upon the price per share of any additional transactions under the Investment Agreement, the Company may need to register additional shares if management elects to access the full $5,000,000 committed by Dutchess. Direct incremental costs of $51,600, of which $14,590 were incurred and recorded during 2009, were incurred in connection with establishing the Investment Agreement and have been recorded as a reduction to additional paid-in capital.
Common Stock Options
During the quarter ended March 31, 2008, shareholders approved the Viking Systems, Inc. 2008 Equity Incentive Plan (the “2008 Equity Plan”), and the Viking Systems, Inc. 2008 Non-Employee Directors’ Stock Option Plan (the “Directors’ Plan”). In December 2009, the Board of Directors approved an amendment to the 2008 Equity Plan to increase the number of shares available under such plan by 2,800,000 shares. The maximum number of shares that may be issued pursuant to the 2008 Equity Plan is 9,520,000 shares plus such number of shares that are issuable pursuant to awards outstanding under the 2004 Plan as of the effective date and which would have otherwise reverted to the share reserve of the 2004 Plan. The Company has reserved a total of 1,500,000 shares of its common stock for issuance under the Directors’ Plan. During the year ended December 31, 2010, 1,975,000 options were granted under the 2008 Equity Plan and 112,500 options were granted under the Directors’ Plan. At December 31, 2010, 710,000 shares remain available for grant under the 2008 Equity Plan and 1,116,500 shares remain available under the Directors’ Plan.
The Company measures the cost of employee and director services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized over the period during which an employee or director is required to provide service in exchange for the award-the requisite service period. The Company determines the grant-date fair value of employee and director share options using the Black-Scholes option-pricing model. The Company determines the value of equity instruments issued to non employees in exchange for services to be provided using the fair value of the services or the fair value of the equity instruments issued, whichever is more reliably measurable.
During the year ended December 31, 2010 and 2009, the Company recorded $412,147 and $592,350 respectively, in non-cash stock-based compensation expense. As of December 31, 2010, there was approximately $569,000 in total unrecognized compensation costs related to unvested options, which is expected to be recognized over a weighted average period of approximately 2.4 years.
During the year ended December 31, 2010, 2,087,500 stock options were granted with a weighted average exercise price of $0.27 per share based on the quoted market price on the day of grant. The valuation of stock options granted to employees and directors as determined using the Black-Scholes valuation model was approximately $339,000. The value of stock options granted to non employees during 2010 in exchange for services that were valued based on the value of the services to be received was $84,000. The fair value of stock options granted to employees and directors during 2010 estimated using the Black-Scholes model incorporated the following assumptions: volatility of 223% - 231%, expected life of 7 years, risk-free interest rate of 3.3%, and expected dividend yield of 0%. Volatility is based on the historical volatility of the Company's common stock. The expected life of employee stock options is based on the average of the vesting period and contractual life. The risk free interest rate is based on the U.S. Treasury constant maturity rate for the expected life of the stock option.
During the year ended December 2009, William Bopp, Chairman and then Chief Executive Officer surrendered all 2,100,000 of his outstanding stock options. In connection with the surrender of these stock options the Company recognized the remaining non-cash stock option compensation of $169,495 related to these stock options.
A summary of stock option activity for the years ended December 31, 2009 and 2010 is as follows:
A summary of non-vested stock option activity for the year ended December 31, 2010 is as follows:
Those options exercisable at December 31, 2010 range in price from $0.01 to $25.00. The weighted average grant date fair value for options granted for during 2010 and 2009 amounted to $0.27 and $0.011, respectively.
The following table summarizes warrants to purchase common stock outstanding for the years ended December 31, 2009 and 2010:
We had three individual customers that accounted for at least 10% of our revenues in the year ended December 31, 2010.
Sales were as follows:
The Company utilizes components and sub-assemblies produced by outside suppliers, some of which are sourced from a single supplier. The Company maintains a good relationship with our sole source suppliers and it has been their policy to notify us well in advance of the end of life of a particular component so that we are able to make the necessary final orders and/or design modifications to support the replacement technology. However, if shortages of critical components occur, or quality problems arise, then production schedules could be significantly delayed or costs significantly increased, which could in turn have a material adverse effect on the Company’s financial condition, results of operation and cash flows.
Segment and Related Information
The Company presents its business as one reportable segment due to the similarity in nature of products sold and customer markets. The Company’s Chief Executive Officer reviews financial information on our visualization products on a consolidated basis. The Company is in the business of designing manufacturing and selling visualization systems for the medical market for use in minimally invasive surgical procedures. Substantially all of the Company’s revenues are derived from sales of visualization systems and related services.
The following table summarizes revenues by geographic region. Revenues are attributed to countries based on customer location.
In the normal course of business, the Company is party to a variety of agreements pursuant to which it may be obligated to indemnify the other party. It is not possible to predict the maximum potential amount of future payments under these types of agreements due to the conditional nature of the Company’s obligations and the unique facts and circumstances involved in each particular agreement. Historically, payments made by the Company under these types of agreements have not had a material effect on its business, results of operations or financial condition.
In conjunction with the conversion of $4,750,000 of convertible notes into common stock in 2006, Viking agreed to file a registration statement covering the shares of common stock issued upon such conversion and covering the warrants originally issued with those notes. Such shares and warrants were not registered. Effective June 2006, Viking offered to pay to note holders, who elect to receive it, a registration delay fee of one percent per month of their initial principal balance. At December 31, 2007, the Company had accrued $434,214 related to this matter. Effective February 15, 2008, the Securities and Exchange Commission made revisions to its rules regarding the trading of restricted securities. Additionally, certain holders of the convertible notes did not respond to the Company’s 2006 proposal to pay a delay fee related to this proposed filing. The Company has reversed amounts accrued related to parties that did not respond to the 2006 proposal and ceased accruing further delay fees effective February 15, 2008. At December 31, 2010 and 2009, the Company has accrued $161,574 related to this matter.
Viking has also entered into a royalty agreement with a medical device company. The royalty agreement requires payments of 4% of sales that use their intellectual property. As of December 31, 2010 and 2009, Viking had accrued royalties related to this agreement of approximately $37,000 and $36,000, respectively. During 2010 and 2009, Viking did not pay any royalties under this agreement.
Adopted Accounting Pronouncements
New Accounting Pronouncements
In September 2009, the FASB issued ASU 2009-13, “Multiple-Deliverable Revenue Arrangements—a consensus of the FASB Emerging Issues Task Force” (“ASU 2009-13”). ASU 2009-13 updates the existing multiple-element revenue arrangements guidance currently included under ASC 605-25 and primarily provides two significant changes: 1) eliminates the need for objective and reliable evidence of the fair value for the undelivered element in order for a delivered item to be treated as a separate unit of accounting, and 2) eliminates the residual method to allocate the arrangement consideration. In addition, this guidance expands the disclosure requirements for revenue recognition. ASU 2009-13 will be effective for the first annual reporting period beginning on or after June 15, 2010, with early adoption permitted provided that the revised guidance is retroactively applied to the beginning of the year of adoption. The Company is currently assessing the future impact of this new accounting update to its financial statements.
VIKING SYSTEMS, INC.