UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
X Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Fiscal Year Ended December 31, 2003
___ Transaction report pursuant to Section 13 of 15(d) of the Securities
Exchange Act of 1934 For the transition period from ___ to ____
Commission File No. 0-19301
Communication Intelligence Corporation
(Exact name of registrant as specified in its charter)
Delaware 94-2790442
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
275 Shoreline Drive, Suite 500
Redwood Shores, California 94065
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(Address of principal executive (Zip Code)
offices)
Issuers telephone number, including area code: 650-802-7888
Securities registered under Section 12(b) of the Securities Exchange Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference into Part III of this Form 10-K or any amendment to
this Form 10-K. X
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Indicate by check mark whether the registrant is an accelerated filer (as
defined in rule 12b-2 of the Securities Exchange Act of 1934). Yes No X
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The aggregate market value of the voting stock (Common Stock) held by
non-affiliates of the registrant as of June 30, 2003 was approximately
$36,674,598 based on the closing sale price of $0.37 on such date, as reported
by the Nasdaq Over the Counter Market. The number of shares of Common Stock
outstanding as of the close of business on March 26, 2004 was 100,101,428.
Documents Incorporated by reference: The registrant has incorporated into
Part III of Form 10K, by reference, portions of its definitive proxy statement
for its 2004 annual meeting.
COMMUNICATION INTELLIGENCE CORPORATION
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2003
TABLE OF CONTENTS
Page
PART I................................................................... 3
Item 1. Business......................................................... 3
Item 2. Properties....................................................... 12
Item 3. Legal Proceedings................................................ 12
Item 4. Submission of Matters to a Vote of Security Holders.............. 12
PART II.................................................................. 12
Item 5. Market For Registrant's Common Equity and
Related Stockholder Matters...................................... 12
Item 6. Selected Financial Data.......................................... 13
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................................ 15
Item 7A. Quantitative and Qualitative Disclosures About Market Risk...... 25
Item 8. Financial Statements and Supplementary Data...................... 25
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure................................................. 25
Item 9A. Controls and Procedures......................................... 26
PART III................................................................. 26
Item 10. Directors and Executive Officers of the Registrant.............. 26
Item 11. Executive Compensation.......................................... 26
Item 12. Security Ownership of Certain Beneficial Owners and Management.. 26
Item 13. Certain Relationships and Related Transactions.................. 26
Item 14. Principal Accounting Fees and Services.......................... 26
PART IV.................................................................. 27
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K...27
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CIC(R)and its logo, Handwriter(R), Jot(R), InkTools(R)??, Sign-it(R)??,
WordComplete(R)?, and? INKshrINK(R)and The Power To Sign Online(R)are registered
trademarks of the Company. HRS(TM), InkSnap(TM), PenX(TM), QuickNotes(TM),
RecoEcho(TM),? Sign-On(TM)?? Speller(TM)and iSign(TM)?are trademarks of the
Company. Applications for registration of various trademarks are pending in the
United States, Europe and Asia. The Company intends to register its trademarks
generally in those jurisdictions where significant marketing of its products
will be undertaken in the foreseeable future.
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PART I
Item 1. Business
Unless otherwise stated all amounts in Parts I through Part IV are stated
in thousands ("000s").
General
Communication Intelligence Corporation (the Company or "CIC") is the
leading supplier of biometric signature verification and natural input software
and a leading supplier of electronic signature solutions focused on emerging,
high potential applications including paperless workflow, handheld computers,
smartphones and eCommerce, enabling the world with "The Power to Sign
Online(R)". CIC's products are designed to increase the ease of use,
functionality, and security of electronic devices and eBusiness processes. CIC
sells directly to OEMs and Enterprises and has products available through major
retail outlets such as, CompUSA, Staples, OfficeMax, and key integration/channel
partners or direct via our website. Industry leaders such as Charles Schwab,
Fujitsu, Handspring, IBM, Oracle, PalmSource, Prudential, Siebel Systems, Sony
Ericsson, Symbol and TVA have licensed the company's technology. CIC is
headquartered in Redwood Shores, California and has a joint venture, CICC, in
Nanjing, China. For more information, please visit our website at
http://www.cic.com (the information on our website, however, is not part of this
annual report).
Revenues for the year ended December 31, 2003 decreased 7% to $3.0 million
as compared to $3.3 million for the prior year. Revenue was negatively impacted
by the continuing weak economy and uncertainty of the geopolitical climate
throughout 2003 suppressing corporate confidence and delaying IT spending.
Despite difficult market conditions, eSignature revenue for the last six months
of 2003 increased approximately 90% over 2002, from $407,000 to $768,000 and the
2003 eSignature revenue for all of 2003 increased to $1.8 million from $1.6
million or 11% over 2002 revenues. This increase in 2003 eSignature revenue
virtually offset the decline in natural input revenue that was significantly
impacted by declining handheld computer and smartphone shipments and a decline
in retail related sales of our text entry products.
A November 2003 report by IDC indicates that IT spending will increase 5%
globally in 2004, pent up corporate IT demand having reached unprecedented
levels, and a November 2003 Goldman Sacks survey projects that the financial
services industry is the most likely to boost IT spending in 2004.
Segments
The Company's financial information is presented in two
segments--handwriting recognition software and systems integration. The
handwriting recognition segment is comprised of three revenue categories: OEM,
enterprise and online sales. All handwriting recognition software is developed
around the Company's core technology. Systems integration represents the sale
and installation of third party computer equipment and systems that use the
Company's software products. All systems integration revenue is generated
through the Company's joint venture.
Core Technologies
The Company's core technologies are classified into two broad categories:
"natural input technologies" and "transaction and communication enabling
technologies." These technologies include multilingual handwriting recognition
systems (Jot(R) and the Handwriter(R) Recognition System, referred to as
HRS(TM)), electronic signature, handwritten biometric signature verification,
cryptography, electronic ink recording tools (InkTools(R), Sign-it(R),
iSign(TM), SignatureWallet(TM) and Sign-on(TM)), and operating system extensions
that enable pen input (PenX(TM)). Other consumer and original equipment
manufacturer ("OEM") products include electronic notetaking (QuickNotes(TM), and
InkSnap(TM)) and software that can predict text input (WordComplete(R)).
Natural Input Technologies. CIC's natural input technologies are designed
to allow users to interact with a computer or handheld device by using an
electronic pen or "stylus" as the primary input device or in conjunction with a
keyboard. CIC's natural input offerings include multilingual handwriting
recognition systems, software keyboards, predictive text entry, and electronic
-3-
ink capture technologies. Many small handheld devices such as electronic
organizers, pagers and smart cellular phones do not have a keyboard. For such
devices, handwriting recognition and software keyboards offer the most viable
solutions for performing text entry and editing. CIC's predictive text entry
technology simplifies data entry even further by reducing the number of actual
letters required to be entered. The Company's ink capture technologies
facilitate the capture of electronic ink for notetaking, drawings or short
handwritten messages.
Transaction and Communication Enabling Technologies. The Company's
transaction and communication enabling technologies are designed to provide a
cost-effective means for securing electronic transactions, providing network and
device access control, and enabling workflow automation of traditional paper
form processing. CIC believes that these technologies offer more efficient
methods for conducting electronic transactions while providing more functional
user authentication and heightened data security. The Company's transaction and
communication enabling technologies have been fundamental in its development of
software for electronic signatures, handwritten biometric signature
verification, data security, and data compression.
Handwriting recognition segment products
Key Handwriting recognition segment products include the following:
Handwriter, Chinese Multi-lingual handwriting recognition software
Inktools A suite of application development tools
for electronic signatures, biometric signature
verification and cryptography
iSign Web based development tools for electronic signature
and biometric signature verification
PenX Operating systems extensions for the Windows operating
system that enables pen-based functionality and handwriting
QuickNote
and InkSnap Electronic handwritten notetaking software
Sign-it
and Sign-it
Server Electronic signatures for the enterprise market
Sign-On and
SignatureWallet Biometric Signature verification software for device
access and data protection
WordComplete Predictive text entry software
Products and upgrades for the Handwriting recognition products that were
introduced and first shipped in 2003 include the following:
iSign for Windows v2.1
InkTools for Windows v2.7
Jot for Palm OS v2.01 - v2.04
Sign-it for Acrobat v3.3 - v3.4
Japanese Sign-it for Acrobat v3.4
Sign-it for Word v4.1
Signature Wallet for Palm OS v2.0
WordComplete v3.0 - v3.03
Chinese Sign-it for Word v1.0
ChineseSign-it for Acrobat v1.0
Chinese Sign-it Server v1.0
Chinese OCX Tools w/ WPS & TIFF support
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Handwriting recognition software analyzes the individual strokes of
characters written with a pen/stylus and converts these stokes into
machine-readable text characters. This software is especially useful for
portable electronic devices that are too small to employ a keyboard, and for the
input of ideographic script characters such as those used in written Chinese and
Japanese. The Company currently has two recognition system offerings, Handwriter
and Jot. CIC's Handwriter Recognition System ("HRS(TM)") recognizes handwritten
input on Windows and Windows CE based pen computers and desktop PCs for either
English or simplified and traditional Chinese characters. HRS accurately
recognizes handwritten characters with no recognizer training required, so the
user can write naturally. HRS is a full-context recognizer that offers some
unique features such as automatic spacing between words and automatic
capitalization of the first letter of new sentences. HRS is also an integral
component of the Company's PenX software and Inktools Software Development Kit
("SDK") that is currently sold to consumers, OEMs and vertical market channel
partners.
Jot recognizes handwritten input and is specifically designed for small
devices. Unlike many recognizers that compete in the market for handheld data
input solutions, Jot offers a user interface that allows for the input of
natural upper and lowercase letters, standard punctuation and European languages
without requiring the user to memorize unique characters or symbols. This
recognizer offers rapid and accurate recognition without requiring the consumer
to spend time training the system. Jot has been licensed to such key OEMs as:
Microsoft, Sony Ericsson, Symbian, palmOne, PalmSource, National Semiconductor
and Vtech. Jot has been ported to many operating systems, including Palm OS,
Windows, Windows CE, VT-OS, EPOC, QNX, Linux and OS/9, and is currently under
development for others. The standard version of Jot, which is available through
OEM, Enterprise and Online product offerings, recognizes and supports input of
Roman-based Western European languages.
InkTools is an electronic signature and handwritten signature verification
software developers' kit that captures and analyzes the image, speed, stroke
sequence and acceleration of a person's handwritten electronic signature.
InkTools provides an effective and inexpensive handwriting security check for
immediate authentication. It also stores certain forensic elements of a
signature for use in determining whether a person actually electronically signed
a document. The InkTools kit also includes software libraries for industry
standard encryption and hashing to protect the sensitive nature of a user
signature. Commercial applications for this type of software include document
approval, verification of the identity of users participating in electronic
transactions and securing log-in access to computer systems or protected
networks. This software toolkit is used internally by CIC as the underlying
technology in its Sign-On, iSign, SignatureWallet and Sign-it products as well
as the integrated solutions provided by the Systems Integration operation of the
joint venture in China. It has been licensed to numerous key development
partners and end-users, including Chase Manhattan Bank, EDS, BNX, Siebel Systems
and Nationwide (UK).
Sign-On and SignatureWallet are product offerings that utilize the
Company's handwritten biometric signature verification technology to provide
access and data security on portable devices. This provides the additional level
of security needed for devices that are increasingly being used in business and
generally contain sensitive data. Currently available for the Palm 3.x or later,
Windows CE and Windows XP Tablet PC Edition operating systems, the product is
also being ported to other platforms.
Sign-it is a family of electronic signature products for recording
electronic signatures as they are being written as well as binding and verifying
electronic signatures within standard consumer applications. These products
combine the strengths of handwritten signatures and cryptography to process,
transact and create electronic documents with the same legal standing as a
traditional wet signature on paper in accordance with the Electronic Signature
in National and Global Commerce act. Organizations wishing to process electronic
forms requiring varying levels of security can reduce the need for paper forms
by adding electronic signature technologies to their workflow solution.
Currently, Sign-it is available for MS Word, AutoCAD and Adobe(R) Acrobat(R),
while support for additional application environments are in development.
iSign provides functionality similar to InkTools but was specifically
designed for web based architectures. The current product supports either a
Windows implementation with Internet Information Server and Internet Explorer or
Java implementations based on J2EE. The product was designed to meet the needs
of higher-end server products and a broad base of client systems, which can
range from Windows devices to PDAs.
-5-
Enterprise Revenues
The Company's Enterprise related revenue for the last six months of 2003
increased approximately 90% over 2002, from $407,000 to $768,000 and the total
2003 revenue increased to $1.8 million from $1.6 million, or 11% over 2002,
reflecting the increasing demand for CIC's eSignature solutions. The Company
believes that the increasing focus on corporate accountability, including a
growing demand for auditable business approval processes, is driving many
enterprises to add eTransactions to their priority deployments in 2004.
Enterprises that have licensed the Company's technology include the following:
Licensee Product(s) licensed Application of Products
--------------------- ------------------- -----------------------------------
Accelio Inktools E-Signature for mobile forms
Agricultural Bank of China InkTools E-signature for document automation
Al-Faris Multiple Reseller and integrator in the
Middle East focused on e-signatures
Allergan Sales Sign-It Clinical regulatory applications
Ameridial Inktools E-signature for internal
use documents
Assurant Group Sign-It Sales force automation, new
account openings
Audata, Limited Multiple Multiple applications focused
on paperless environment and
security
Baptist Health Inktools E-signature for patient records
BF Goodrich, Aircraft Sign-It E-signature for internal use;
Sensor Division documents
Canada Customs Sign-It E-signature for internal use
documents
Charles Schwab Sign-It New account openings
China Ministry of Railways InkTools E-signature for document automation
Decade Software PenX & InkTool Windows pen computer upgrades
E-Com Asia Pacific Pty Ltd. Multiple Regional reseller, multiple
applications
EDS InkTools Information assurance for network
and application security
Federal Reserve Bank Sign-On Biometric mobile device; access
security
FMC Corp. Sign-It E-signature for internal use
documents
First American Bank Sign-It E-signature for various financial
and internal documents
First Command Financial Sign-It E-signature for document automation
IA Systems InkTools E-signature for loan organization
ILI Technologies, (Ltd.) InkTools
& iSign Various e-signature applications
for the vertical markets in Israel
Industrial & Commercial InkTools E-signature for document automation
Bank of China
-6-
Licensee Product(s) licensed Application of Products
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Integrate Online InkTools Mortgage closing
Nanjing Agricultural Bureau InkTools E-signature for document
automation
National Healthcare Sign-It E-signature for document
automation
Nationwide Building Society InkTools E-signature for document
automation
Naval Surface Warfare InkTools E-signature for material center
receipts
Novabase Sign-It Systems integrator for various
vertical market
applications
Old Republic National Sign-It Title processing applications
Orange County, CA Sign-It Automate building permit process
PHT Corporation Sign-It Clinical trial documents
Physician WebLink Sign-It Automate patent enrollment
/ records / billing
Proware InkTools E-signature for judicial orders
Prudential Insurance Co. Sign-It EX E-Signature for mobile forms
PSC Communications Multiple Reseller and OEM partner in the
UK focused on
e-signature
PureEdge Sign-It E-signature for financial
documents
RecordsCenter.com InkTools Legal contracts and other
significant documents
St. Vincent's Hospital Multiple E-signature for document
automation
Siebel Multiple Sample delivery of regulated drugs
Siemens Medical Solutions Multiple E-signature for healthcare
Symbol Technologies Multiple Reseller for all major products
Tennessee Valley Authority Multiple E-signature for approval of
internal documents
Turner Construction/Oracle iSign E-signature for document
automation
Wisconsin Electric Power Sign-On Biometric mobile device; access
company security
A recent report by IDC indicates that IT spending will increase 5% globally
in 2004, pent up corporate IT demand having reached unprecedented levels, and a
year end Goldman Sacks survey projects that the financial services industry is
the most likely to boost IT spending in 2004.
OEM Revenues
OEM revenue representing the Company's natural input products for 2003
declined 18% versus the prior year, to $218 from $266, reflecting the continuing
depressed levels of shipments for both handheld computers and touch screen
enabled smartphones.
In early 2003, PalmSource announced that it had licensed CIC's Jot(R)
handwriting recognition software to replace Graffiti(R) as the standard and only
handwriting software on all new Palm Powered(R) devices. Under this agreement,
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"Graffiti 2 powered by Jot" is embedded by PalmSource in current versions of its
Palm OS(R) platform. The new Graffiti 2 handwriting software supports an
intuitive, more natural form of input, minimizing learning time for new users
and easing the transition for experienced users. Due to the continuing depressed
levels of handheld computer shipments throughout 2003 and existing OEM inventory
levels, the transition by OEMs to PalmSource's latest operating systems (with
Graffiti 2/Jot) was much slower than anticipated. CIC first received royalties
in the second quarter of 2003, representing less than 10% of total PalmSource OS
reported shipments with fourth quarter royalties reflecting approximately 70% of
total PalmSource OS reported shipments. It is projected that the transition to
Jot based PalmSource operating systems by OEM's will exceed 90% in the second
quarter of 2004 thereby providing CIC increased royalties from Palm Powered
devices being shipped. Industry estimates project that 2004 PalmSource shipments
will be up 14% over 2003.
Online/Retail Revenues
Revenues from the Company's software sold directly through it's website,
(www.cic.com) and at the retail point of sale totaled $300 in 2003, 15% below
the $351 for the prior year, reflecting the continuing suppressed levels of
handheld computer shipments in 2003 as well as the overall decrease in consumer
spending both online and at retail stores due to the continuing weak economy.
Retail sales are generated through an agreement with Elibrium Inc., that
positions CIC's Palm OS based software offerings directly at the point of sale
at retailers including Comp USA, Staples, and Office Max, and from leading
online suppliers of software enhancements for Palm powered devices, Handango and
PalmGear.
China Handwriting Recognition Revenues
CIC China ("CICC"), 90% owned by CIC, was established over nine years ago
and is headquartered in Nanjing China. The Joint Venture is 10% owned by Jiangsu
Hongtu Electronics Group, the leading DVD supplier in the US with its APEX
brand, and a leading supplier of other high technology products and systems.
Revenue from CICC totaled $1.0 million in 2003, a decline of 18% over the
$1.2 million in the prior year. Revenue from eSignature based software increased
33% in 2003 over 2002, from $239 to $319, reflecting China's increasing demand
for office automation, their robust economy and CICC's channel strategy
implemented in the second quarter of 2003. This channel strategy leverages the
installed base of reference accounts to attract major channel partners who can
rapidly establish China-wide market coverage and penetration for CIC's
technology. Some key CIC China deployments in 2003 included Hudong-Zhonghua,
China's largest shipbuilder, SINOPEC, China's second largest oil producer and
the Shanghai Municipal Government.
System Integration Revenues
The growth in the eSignature based revenue was offset by the decrease in
system integration related revenue. Over the prior two years, CICC has emerged
as the leading supplier in Jiangsu Province of a fast growing mobile industry
application for regulated goods with an estimated 70% market share. The decline
in system integration revenue reflects the decision not to expand this business
to other provinces, which would require significant increases in base costs to
provide turn-key capabilities, but rather to focus on the emerging high
potential eSignature/ office automation market in China, leveraging channel
partners capabilities.
Marketing
Handwriting Recognition Segment
The Company's products are marketed through three sales approaches: OEM
sales, enterprise and online/retail sales. OEM sales efforts are aimed at
license revenues derived primarily from smart handheld device manufacturers.
Enterprise sales efforts are directed at both software providers and end-users.
Online/retail sales represent revenues generated from the Company's software
sold through its website and retail outlets.
-8-
OEM Licensed Products. The Company currently licenses software products for
Windows(R)3.x, Windows95, Windows'98, WindowsNT, WindowsCE, EPOC, QNX, VT-OS,
Palm and Linux. The Company also ports its products to other platforms to meet
the specifications of licensees. The Company's PenX, Sign-it, and Handwriter
Recognition System are licensed for portable PCs utilizing the, Windows98,
Windows NT, Windows 2000, Windows XP and WindowsCE operating systems and are
primarily used for field force automation and in pen-input PC peripherals for
desktop use. Jot, QuickNotes, Sign-On, WordComplete and the Company's software
keyboard are licensed primarily for the new, smaller classes of personal
computers that utilize the Windows CE operating systems and handheld
communicators such as smartphones and PDAs that use the Palm or Symbian
operating system.
Enterprise Solution Products. The Company offers several products targeted
at the broad enterprise market. The Company believes that this market could
benefit from workflow automation solutions using electronic signatures or
handwriting authentication such as new account openings, regulated document
submissions and device/network security. For these markets, the Company offers
several products, including InkTools, a high performance software developer's
kit for implementing systems using electronic ink and electronic signatures,
which is available for almost all major operating systems: it also offers iSign,
which provides the same functionality as InkTools but is specifically designed
for distributed application architectures and Sign-it, which is designed to
provide this functionality within the framework of the most common word
processing applications and electronic form publishing environments.
Online Product Offerings. The Company's Online Sales department is charged
with the sale of its shrink-wrapped software applications and tools. This
currently includes most of the Company's products and everyone from consumers to
software developers and corporations are customers. These products are sold
through retail outlets and over the Internet, on the Company's own website, and
by other Internet-based electronic resellers. Consumer versions of these
products are being sold for users of the Palm connected organizers and Windows
CE devices. Much of the growth in Online sales since 1998 was attributable to
sales of these products to users of Palm OS devices.
Systems Integration Segment
The Company's systems integration activity is confined to CIC China where
services are provided to Chinese enterprises and government users and other
joint ventures in the Peoples Republic of China involving the re-sale of desktop
computers, monitors, servers and other computer related products together with
customized software in mostly office automation and materials replenishment
planning applications. See China Revenue segment.
Copyrights, Patents and Trademarks
Handwriting Recognition Segment
The Company relies on a combination of patents, copyrights, trademarks,
trade secrecy and contractual provisions to protect its software offerings and
technologies. The Company has a policy of requiring its employees and
contractors to respect proprietary information through written agreements. The
Company also has a policy of requiring prospective business partners to enter
into non-disclosure agreements before disclosure of any of its proprietary
information.
Over the years, the Company has developed and patented major elements of
its software offerings and technologies. In addition, in October 2000 the
Company acquired, from PenOp, Inc. and its subsidiary, a significant patent
portfolio relevant to the markets in which the Company sells its products. The
Company's material patents and the years in which they each expire are as
follows:
Patent No. Expiration
------------------------------------ --------------------------------------
4718102 2005
5049862 2008
5544255 2013
5647017 2014
5818955 2015
-9-
Patent No. Expiration
------------------------------------ --------------------------------------
5933514 2016
6064751 2017
6091835 2017
6212295 2018
6381344 2019
6487310 2019
The Company believes that these patents provide a competitive advantage in
the electronic signature and handwriting recognition markets. The Company
believes the technology covered by the patents is unique and allows it to
produce superior products. The Company also believes these patents are very
broad in their coverage. The technology goes beyond the simple handwritten
signature and includes measuring electronically the manner in which the person
signs to ensure tamper resistance and security of the resultant documents and
the use of other systems for identifying an individual and using that
information to close a transaction. The Company believes that the patents are
sufficiently broad in coverage that any product with substantially similar
functionality will infringe its patents. Moreover, because the majority of these
patents do not expire for between 9 and 15 years from the date hereof, the
Company believes that it has sufficient time to develop new related technology,
which may be patentable, and to establish CIC as market leader in these product
areas. Accordingly, the Company believes that for a significant period of time
the patents will deter competitors from introducing competing products without
creating substantially different technology or licensing its technology.
The Company has an extensive list of registered and unregistered trademarks
and applications in the United States and other countries. The Company intends
to register its trademarks generally in those jurisdictions where significant
marketing of its products will be undertaken in the foreseeable future.
Systems Integration Segment
Systems integration does not rely to any material degree on the Company's
products and, therefore, its patents and their ultimate expiration do not
significantly impact the systems integration segment.
Material Customers
Handwriting Recognition Segment
Historically, the Company's handwriting recognition segment revenues have
been derived from a limited number of customers. One customer, a national
insurance company, accounted for 19% of total segment revenues for the year
ended December 31, 2003. One customer, Nationwide Building Society, accounted
for 11% of total segment revenues for the year ended December 31, 2002. One
customer, The Prudential Insurance Company of America accounted for 16% of total
segment revenues for the year ended December 31, 2001.
Systems Integration Segment
One customer, Fujitsu Ltd. accounted for 21% of total system integration
revenue for the year ended December 31, 2003. This same customer accounted for
30% and 16% of total segment revenues for the years ended December 31, 2002 and
2001, respectively.
Seasonality of Business
The Company believes that neither of its segments is subject to seasonal
fluctuations.
-10-
Backlog
Handwriting Recognition Segment
Backlog approximated $170 at December 31, 2003, representing advanced
payments on service maintenance agreements that are expected to be recognized
over the next twelve months. At December 31, 2002 and 2001, backlog approximated
$247 and $88, respectively, representing advanced payments on service
maintenance agreements and non-recurring engineering projects.
Systems Integration Segment
There was no backlog at December 31, 2003. At December 31, 2002, 2001,
backlog was approximately $34 and $178, respectively.
Competition
Handwriting Recognition Segment
The Company faces competition at different levels. Certain competitors,
e.g., PenPower Group, and Decuma AB, have developed or are developing software
offerings, which may compete directly with the Company's offerings. Most of the
Company's direct competitors, e.g., Microsoft Corporation, Silanis Technology,
Inc., and Advanced Recognition Technology, Inc., have focused on only one
element of such offerings, such as handwriting recognition technology, signature
capture/verification or pen-based operating environments or other pen-based
applications. The Company believes that it has a competitive advantage in some
cases due to its range of product offerings. There can be no assurance, however,
that competitors, including some with greater financial or other resources, will
not succeed in developing products or technologies that are more effective,
easier to use or less expensive than the Company's products or technologies that
would render its products or technologies obsolete or non-competitive.
Systems Integration Segment
The Company's Joint Venture competes with other systems integrators of
similar size (less than 100 employees) in China for small to mid-size enterprise
opportunities. The Company primarily competes on price and quality and breadth
of services for these opportunities. The Company believes that it is competitive
in its pricing and has been consistently recognized by its customers for its
high quality of service.
Employees
As of December 31, 2003, the Company employed an aggregate of 48 full-time
employees. The Company's handwriting recognition segment consisted of 40
employees, 18 of which are in the United States and 22 of which are in China.
The Company employed 8 full-time employees in its systems integration segment in
China. From time to time, the Company also utilizes additional personnel on an
as needed basis. The Company believes it has good relations with its employees.
None of the Company's employees are a party to a collective bargaining
agreement.
Geographic Areas
For the years ended December 31, 2003, 2002, and 2001, the Company's sales
in China as a percentage of total sales were 34%, 38% and 29%, respectively. For
the year ended December 31, 2003, 2002, and 2001, the Company's sales in the
United States as a percentage of total sales were 66%, 62% and 71%,
respectively. Included in the U.S. sales are export sales. For the years ended
December 31, 2003, 2002, and 2001, the Company's export sales as a percentage of
total revenues were approximately 14%, 12%, and 16%, respectively.
-11-
Forward Looking Statements
Certain statements contained in this Annual Report on Form 10-K, including
without limitation, statements containing the words "believes", "anticipates",
"hopes", "intends", "expects", and other words of similar import, constitute
"forward looking" statements within the meaning of the Private Litigation Reform
Act of 1995. Such statements involve known and unknown risks, uncertainties and
other factors that may cause actual events to differ materially from
expectations. Such factors include the following: (1) technological,
engineering, quality control or other circumstances which could delay the sale
or shipment of products; (2) economic, business, market and competitive
conditions in the software industry and technological innovations which could
affect the Company's business; (3) the Company's ability to protect its trade
secrets or other proprietary rights, operate without infringing upon the
proprietary rights of others or prevent others from infringing on the
proprietary rights of the Company; and (4) general economic and business
conditions and the availability of sufficient financing.
Item 2. Properties
The Company currently leases its principal facilities, consisting of
approximately 9,634 square feet, in Redwood Shores, California, pursuant to a
sub-lease that expires in 2006. The Joint Venture leases approximately 1,500
square feet in Nanjing, China. The Company believes that its current facilities
will be suitable to continue operations in the foreseeable future.
Item 3. Legal Proceedings
There were no legal proceeding pending at December 31, 2003.
Item 4. Submission of Matters to a Vote of Security Holders
None
PART II
Item 5. Market For Registrant's Common Equity and Related Stockholder Matters
The Company's common stock is listed on the NASDAQ Over the Counter
Bulletin Board ("OTC") under the trading symbol CICI.OB. Prior to March 14, 2003
it was listed on the Nasdaq SmallCap Market under the symbol CICI. The following
table sets forth the high and low sale prices of the common stock for the
periods noted.
Sale Price
Per Share
Year Period High Low
2002 First Quarter.............................. $ 1.18 $ 0.56
Second Quarter............................. $ 1.15 $ 0.63
Third Quarter.............................. $ 0.66 $ 0.24
Fourth Quarter............................. $ 0.50 $ 0.21
2003 First Quarter.............................. $ 0.53 $ 0.13
Second Quarter............................. $ 0.44 $ 0.15
Third Quarter.............................. $ 0.65 $ 0.34
Fourth Quarter............................. $ 0.45 $ 0.30
2004 First Quarter (through March 26, 2004)..... $ 1.10 $ 0.35
As of March 26, 2004, the closing sale price of the Common Stock on the
Nasdaq OTC was $0.65 per share and there were approximately 942 registered
holders of the Common Stock.
-12-
To date, the Company has not paid any dividends on its Common Stock and
does not anticipate paying dividends in the foreseeable future. The declaration
and payment of dividends on the Common Stock is at the discretion of the Board
of Directors and will depend on, among other things, the Company's operating
results, financial condition, capital requirements, contractual restrictions or
such other factors as the Board of Directors may deem relevant.
All securities sold during 2003 by the Company were either previously
reported on our form 10Qs filed with the Securities and Exchange Commission or
sold pursuant to registration statements filed under the Securities Act of 1933,
as amended.
During the three months ended December 31, 2003, the Company granted 30,000
and 25,000 stock options, respectively, to two employees with an exercise price
of $0.37 and $0.39 per share, respectively, under the Company's 1999 Stock
option Plan. During the years ended December 31, 2003,2002, and 2001,
respectively, the Company granted the following options to purchase Common Stock
to employees at the prices per share.
Approximate Exercise
Year Number of Shares Price Per Share
--------------------- ----------------------- ------------------------
2003 858 $0.32
2002 1,108 $0.60
2001 1,367 $1.21
The information required by Item 201(d) of Regulation S-K is incorporated
by reference to Note 6 ("Stockholders Equity") of Notes to Consolidated
Financial Statements for the Year Ended December 31,2003, pageF-17.
Item 6. Selected Financial Data
The selected consolidated financial data presented below as of December 31,
2003, 2002, 2001, 2000, and 1999 and for each of the years in the five-year
period ended December 31, 2003 are derived from the audited consolidated
financial statements of the Company. The consolidated financial statements as of
December 31, 2003 and 2002, and for each of the years in the three-year period
ended December 31, 2003, are included in Item 8 of this Form 10-K. The selected
consolidated financial data should be read in conjunction with the Company's
audited financial statements and the notes thereto and other portions of this
Form 10-K including "Business" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
Year Ended December 31,
------------------------------------------------
2003 2002 2001 2000 1999
------------------------------------------------
(In thousands, except per share amounts)
Statement of Operations Data:
Revenues...................... $3,034 $3,272 $5,947 $7,312 $ 6,518
Research and development
expenses(1).................. 1,302 1,485 1,808 1,603 1,363
Sales and marketing expenses.. 905 1,543 2,054 2,239 1,877
General and administrative
expenses..................... 2,219 2,424 2,791 2,181 1,683
Loss from operations.......... (2,157) (3,337) (2,946) (1,607) (1,722)
Net loss available to common
stockholders................. (2,345) (3,561) (3,215) (1,799) (1,740)
Basic and diluted loss
per share.................... (0.02) (0.04) (0.04) (0.02) (0.02)
-13-
As of December 31,
-----------------------------------------------
2003 2002 2001 2000 1999
-----------------------------------------------
(In thousands)
Balance Sheet Data:
Cash, cash equivalents
and restricted cash........... $1,039 $ 711 $ 2,588 $ 2,349 $ 2,374
Working capital(2)............. (2,895) 443 3,017 3,109 3,054
Total assets................... 7,215 7,168 10,072 11,302 4,963
Deferred revenue............... 165 165 88 61 35
Long-term obligations.......... 13 3,000 3,000 1,427 1,338
Stockholders' equity (3)....... 2,187 2,934 6,060 8,307 2,349
- -----------
(1) Excludes software development costs capitalized in accordance with
Statement of Financial Accounting Standards No. 86 of $20, and $20, for the
years ended December 31, 2001, and 2000, respectively. No software
development costs were capitalized in the years ended December 31, 2003 and
2002.
(2) Current liabilities used to calculate working capital at December 31, 2003,
2002, 2001, 2000, and 1999 include deferred revenue of $165, $165, $88,
$61, and $35, respectively.
(3) The Company has never paid dividends to the holders of its common stock.
-14-
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Unless otherwise stated herein, all figures in this MD& A section are
stated in thousands ("000s").
Overview
The Company was initially incorporated in Delaware in October 1986. In each
year since its inception, the Company has incurred losses. For the five-year
period ended December 31, 2003, operating losses aggregated approximately $12
million and at December 31, 2003, the Company's accumulated deficit was
approximately $82 million.
New Accounting Pronouncements
See note 1, Notes to Financial Statements included under Part IV. Item 15.
Critical Accounting Policies
The preparation of financial statements and related disclosures in
conformity with accounting principles generally accepted in the United States of
America requires management to make judgments, assumptions and estimates that
affect the amounts reported in the Company's consolidated financial statements
and the accompanying notes. The amounts of assets and liabilities reported in
its balance sheets and the amounts of revenues and expenses reported for each
period presented are affected by these estimates and assumptions which are used
for, but not limited to, revenue recognition, allowance for doubtful accounts,
intangible asset impairments, inventory, customer base, software development
costs research and development costs, foreign currency translation and net
operating loss carryforwards. Actual results may differ from these estimates.
The following critical accounting policies are significantly affected by
judgments, assumptions and estimates used by the Company's management in the
preparation of the consolidated financial statements.
Revenue is recognized when earned in accordance with applicable accounting
standards, including AICPA Statement of Position ("SOP") No. 97-2, Software
Revenue Recognition, as amended, Staff Accounting Bulletins 101 ("SAB 101") and
the interpretive guidance issued by the Securities and Exchange Commission and
EITF issue 00-21 of the FASB's Emerging Issues Task Force. The Company
recognizes revenues from sales of software products upon shipment, provided that
persuasive evidence of an arrangement exists, collection is determined to be
probable, all nonrecurring engineering work necessary to enable the Company
products to function within the customer's application has been completed and
the Company's product has been delivered according to specifications. Revenue
from service subscriptions is recognized as costs are incurred or over the
service period. Software license agreements may contain multiple elements,
including upgrades and enhancements, products deliverable on a when and if
available basis and post contract support.
Revenue from software license agreements is recognized upon delivery of the
software, provided that persuasive evidence of an arrangement exists, collection
is determined to be probable, all nonrecurring engineering work necessary to
enable the Company's products to function within the customer's application has
been completed and the Company has delivered its product according to contract
specifications. Deferred revenue is recorded for upgrades, enhancements and
post-contract support, which is paid for in addition to license fees, and is
recognized as costs are incurred or over the support period. Vendor specific
objective evidence of the fair value for multiple element software license
agreements is determined by the price charged for the same element when sold
separately or the price determined by management having the relevant authority
when the element is not yet sold separately. The price established by management
for the element not yet sold separately will not change prior to separate
introduction of that element into the marketplace.
Revenue from system integration activities, which represents the sale and
installation of third party computer equipment and limited related consulting
services, is recognized upon installation of the third party hardware and/or
software as projects are short term in nature, provided that a contract exists,
collectibility of the receivable is reasonably assured and the system is
functioning according to specifications. Service subscription revenues
-15-
associated with the system integration activities are recognized as costs are
incurred or over the service period which ever is longer.
The allowance for doubtful accounts is based on the Company's assessment of
the collectibility of specific customer accounts and an assessment of
international, political and economic risk as well as the aging of the accounts
receivable. If there is a change in actual defaults from the Company's
historical experience, the Company's estimates of recoverability of amounts due
it could be affected and the Company would adjust the allowance accordingly.
The Company performs intangible asset impairment analyses on a quarterly
basis in accordance with the guidance in Statement of Financial Accounting
Standard No. 142, Goodwill and Other Intangible Assets ("SFAS No. 142") and
Financial Accounting Standard No. 144, Accounting for the Impairment or Disposal
of Long Lived Assets ("SFAS No. 144"). The Company uses SFAS 144 in response to
changes in industry and market conditions that affects its patents, the Company
then determines if an impairment of its assets has occurred. The Company
reassess the lives of its patents and tests for impairment quarterly in order to
determine whether the book value of each patent exceeds the fair value of each
patent. Fair value is determined by estimating future cash flows from the
products that are and will be protected by the patents and considering the
following additional factors:
o whether there are legal, regulatory or contractual provisions known to it
that limit the useful life of each patent to less than the assigned useful
life;
o whether the Company needs to incur material costs or make modifications in
order for it to continue to be able to realize the protection afforded by
the patents;
o whether any effects of obsolescence or significant competitive pressure on
the Company's current or future products are expected to reduce the
anticipated cash flow from the products covered by the patents;
o whether demand for products utilizing the patented technology will
diminish, remain stable or increase; and
o whether the current markets for the products based on the patented
technology will remain constant or will grow over the useful lives assigned
to the patents.
Customer Base. To date, the Company's revenues have been derived
principally from end-users, manufacturers, retailers and distributors of
computer products in North America, Europe and the Pacific Rim. The Company
performs periodic credit evaluations of its customers and does not require
collateral. The Company maintains reserves for potential credit losses.
Historically, such losses have been insignificant and within management's
expectations.
Software Development Costs. Software development costs are accounted for in
accordance with Statement of Financial Accounting Standards No. 86, "Accounting
for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed"
("SFAS 86"). Under SFAS 86, capitalization of software development costs begins
upon the establishment of technological feasibility, subject to net realizable
value considerations. The costs capitalized include the coding and testing of
the product after the technological feasibility has been established and ends
upon the release of the product. The capitalized costs are amortized to cost of
sales on a straight-line basis over the estimated life of the product, generally
three years. As of December 31, 2003, 2002 and 2001, such costs were
insignificant.
Research and Development Costs. Research and development costs are charged
to expense as incurred.
Foreign Currency Translation. The Company considers the functional currency
of the Joint Venture to be the respective local currency and, accordingly, gains
and losses from the translation of the local foreign currency financial
statements are included as a component of "accumulated other comprehensive loss"
in the Company's consolidated balance sheets. Foreign currency assets and
liabilities are translated into U.S. dollars at exchange rates prevailing at the
end of the period, except for long-term assets and liabilities that are
-16-
translated at historical exchange rates. Revenues and expenses are translated at
the average exchange rates in effect during each period, except for those
expenses included in balance sheet accounts, which are translated at historical
exchange rates. Net foreign currency transaction gains and losses are included
as components of "interest income and other income (expense), net" in the
Company's consolidated statements of operations. Due to the stability of the
currency in China, net foreign currency transaction gains and losses were not
material for the year ended December 31, 2003, 2002 and 2001, respectively.
Net Operating Loss Carryforwards. Utilization of the Company's net
operating losses may be subject to an annual limitation due to the ownership
change limitations provided by the Internal Revenue Code of 1986 and similar
state provisions. As a result, a portion of the Company's net operating loss
carryforwards may not be available to offset future taxable income. The Company
has provided a full valuation allowance for deferred tax assets at December 31,
2003 of $27 million based upon the Company's history of losses.
Segments
The Company reports in two segments: handwriting recognition and systems
integration. For purposes of Management Discussion and Analysis, handwriting
recognition includes online/retail revenues and corporate sales, including
enterprise and original equipment manufacturers ("OEM") revenues. All
handwriting recognition software is developed around the Company's core
technology. Handwriting recognition product revenues are generated through the
Company's web site and a direct sales force to individual or enterprise end
users. The Company also licenses a version of its handwriting recognition
software to OEM's. The handwriting recognition software is included as part of
the OEM's product offering. From time to time, the Company is required to
develop an interface (port) for its software to run on a new customer's hardware
platform or within the customer's software operating system. The development
contract revenues are included in the handwriting recognition segment. System
integration represents the sale and installation of third party computer
equipment and systems that utilize the Company's products. System integration
sales are derived through a direct sales force that then develops a system to
utilize the Company's software based on the customer's requirements. Systems
integration sales are accomplished solely through the Company's Joint Venture.
Results of Operations
The following table provides unaudited financial information for each of
the Company's two segments.
Years Ended December 31,
2003 2002 2001
------------ ----------- ------------
Handwriting recognition
Online/retail $ 300 $ 351 $ 913
Corporate 1,703 1,667 2,958
Nonrecurring Maintenance fees
(net)--M10 (previously PenOp) - - 352
China 319 239 323
------------ ------------ -----------
Total Handwriting recognition $ 2,322 $ 2,257 $ 4,546
Systems integration
China Total Systems integration $ 712 $ 1,015 $ 1,401
------------ ------------ -----------
Total revenues $ 3,034 $ 3,272 $ 5,947
------------ ------------ -----------
Cost of Sales
Handwriting recognition $ 141 $ 423 $ 1,149
Systems integration 624 734 1,091
------------ ------------ -----------
Total cost of sales $ 765 $ 1,157 $ 2,240
Operating cost and expenses
Research and development $ 1,302 $ 1,485 $ 1,808
-17-
Years Ended December 31,
2003 2002 2001
----------- ------------ -----------
Sales and Marketing 905 1,543 2,054
General and administrative 2,219 2,424 2,791
----------- ------------ -----------
Total operating costs and expenses $ 4,426 $ 5,452 $ 6,653
----------- ------------ -----------
Interest and other income (expense)
net, and minority interest $ (188) $ (224) $ (269)
----------- ------------ -----------
Net loss $ (2,345) $ (3,561) $ (3,215)
=========== ============ ===========
Amortization of intangible assets
Cost of sales $ 14 $ 14 $ 12
General and administrative 379 378 440
----------- ------------ -----------
Total amortization of intangible
assets (See note 1) $ 393 $ 392 $ 452
=========== ============ ===========
Years Ended December 31, 2003 and December 31, 2002
Revenues
Handwriting recognition segment. Handwriting recognition segment revenues
include online/retail, corporate and China software sales. Handwriting
recognition segment revenues increased 3%, or $65, to $2,322 for the twelve
months ended December 31, 2003 as compared to $2,257 in the comparable prior
year.
Online/retail revenues declined 15%, or $51, for the twelve months ended
December 31, 2003, compared to the prior year. In November of 2002, PalmSource
replaced Graffiti(R) with CIC's Jot as the standard and only handwriting
software on all new Palm PoweredTM devices. The Company believed that future
online/retail revenues would increase due to the Palm license agreement, as Palm
operating system users were expected to upgrade the software on their devices to
the Company's Jot product. The Company did experience increases in online/retail
revenues in the first and second quarters of 2003 that it believed were the
result of the Palm announcement. The increases were short lived and the Company
believes that the increase in online/retail revenues were not sustained due to
economic conditions and significantly reduced consumer spending. The Company
does not anticipate that it will experience significant increases in its
Online/Retail revenues in the near future.
Corporate revenues increased 2%, or $36, over the twelve months ended
December 31, 2003, compared to the prior year. OEM revenues for natural input
products included in corporate sales decreased 18%, or $48, over the twelve
months ended December 31, 2003, compared to the prior year. This decrease was
primarily due to decreases in the amount of royalty reported by two of the
Company's licensees. The Company believes OEM revenues will increase in 2004 as
Palm Source shipments of the older operating system are replaced with their new
operating system incorporating the Company's Jot product. Despite Palm's
prediction of declines in projected shipments of its products, the Company
believes new agreements signed with Symbol Technologies, Inc. and VeriFone will
offset any downturn in Palm unit shipments and lead to increased OEM revenues in
2004. Enterprise sales included in corporate sales increased 6%, or $84, during
the twelve months ended December 31, 2003, compared to the prior year. The
increase in enterprise revenues was due to an increase in orders in 2003
compared to 2002. The Company believes that enterprise revenues will increase in
2004 due to the relationships it has established with new channel partners and
value added resellers.
Software sales in China increased 33%, or $80, over the twelve months ended
December 31, 2003, compared to the prior year. The increase is due to the
continued sales efforts focused on establishing China-wide channel partners to
accelerate sales growth implemented in the second quarter of 2003.
Systems integration Segment. System integration segment revenue declined
30%, or $303, to $712 during the twelve months ended December 31, 2003, compared
to $1,015 in the prior year. The Company believes that the SARS related health
-18-
crises in China in the first half of 2003 negatively impacted system integration
revenues and further hampered the implementation of its plans to expand its
system integration sales efforts into other provinces in China. The decrease
also reflects the need for the Joint Venture to expand sales coverage from a
traditional focus on the local Nanjing and Jiangsu Province markets to other
provinces within China. The potential return of SARS during the winter and early
spring months may again negatively impact system integration revenues due to
customer contact required during the selling and installation phase of the
system integration revenue cycle.
Cost of Sales.
Handwriting recognition segment cost of sales includes royalty and import
tax payments, third party hardware costs, direct mail costs, engineering direct
costs and amortization of intangible assets excluding patents. Cost of sales for
the handwriting recognition segment decreased 67%, or $282, to $141 for the
twelve months ended December 31, 2003 compared to $423 in the prior year period.
Online/retail cost of sales decreases 93%, or $242, to $17 for the twelve
months ended December 31, 2003 compared to $259 in the comparable prior year
period. The decrease was due primarily to the elimination of the direct mail
campaign and related costs as a result of reductions in the number of names
available and a poor sales close rate. The Company does not anticipate a
material increase in costs associated with online/retail sales and has no plans
to reinstate the direct mail program in the foreseeable future.
Enterprise and OEM cost of sales decreased 69%, or $66, to $30 for the
twelve months ended December 31, 2003 compared to $96 in the prior year. The
decrease was due primarily to the lower volume of third party hardware sales and
engineering development costs associated with sales compared to the same period
last year.
Handwriting recognition segment cost of sales for software sold in China
increased 38%, or $26, to $94 for the twelve months ended December 31, 2003
compared to $68 in the prior year period. The increase is due to a higher
component of third party hardware included with the sales during the first half
of 2003 compared to the first half of 2002. The Company anticipates that third
party hardware sales associated with the software sold in China will increase in
the future due to the method of selling software solutions in China.
Systems integration segment cost of sales decreased 15%, or $110, to $624,
for the twelve months ended December 31, 2003 compared to $734 in the prior year
period. The decrease in costs was due primarily to the lower sales volumes. The
cost of sales as a percentage of sales was 88% in 2003 compared to 64% in the
prior year period. The Company took a one time charge of $38 to cost of goods
sold for older inventory associated with the System Integration segment in the
fourth quarter of 2003. The Company believes that systems integration cost of
sales will remain at the higher percentage of sales as the Joint Venture expands
its sales territories into other provinces where competition will become a more
significant factor.
Operating expenses
Research and Development Expenses. Research and Development expense
decreased 12%, or $183, to $1,302 for the twelve months ended December 31, 2003,
as compared to $1,485 in the prior year period. Engineering expenses consist
primarily of salaries and related costs, outside engineering, maintenance items,
and allocated facilities expenses. Salaries and related expense declined 13%, or
$126, to $828 for the year ended December 31, 2003, as compared to $954 in the
prior year period, due primarily to the reduction in head count of two
engineers. Outside engineering cost and expenses declined 68%, or $67, to $31
for the year ended December 31, 2003, compared to $98 in the prior year periods.
The decline is due primarily to a reduction in the use of outside engineering
services compared to the prior year. Other engineering expenses decreased 6%, or
$28, to $442 for the twelve months ended December 31, 2003 as compared to $470
in the prior year period. The decrease is primarily due to lower maintenance and
depreciation expense compared to the prior year periods. Engineering costs
transferred to cost of sales decreased $38 due to less development contract work
performed in 2003 as compared to 2002. The Company believes that the reductions
in engineering head count and expenses will not have an adverse effect on its
product engineering and development efforts. The Company draws on the
engineering capabilities of the Joint Venture as required and, maintains a
relationship with an outside engineering group familiar with its products. These
two resources can be engaged on an as needed basis to fill future engineering
requirements.
-19-
Sales and Marketing Expenses. Sales and marketing expenses declined 41% or
$638, to $905 for the year ended December 31, 2003, compared to $1,543, for the
comparable period in the prior year. Sales and marketing expenses consist of
salaries, commissions and related expenses, professional services, advertising
and promotion, general office and allocated facilities expenses. Salaries and
related expenses declined 46%, or $288 for the year ended December 31, 2003,
compared to the prior year period. The decline in salaries and related expense
is due primarily to the actions taken in the prior year, in the face of the
declining economic environment and reduced IT spending, which resulted in a
reduction of three sales persons during the first three quarters of 2003
compared to the prior year. The Company continues to roll out a channel strategy
for its handwriting recognition segment intended to increase the amount of
market coverage by utilizing the sales force of the channel partners. The
Company continues to sign new partner agreements in both the US and China. The
Company believes these channel partners will produce increasing revenues in the
near term. Professional services declined 89%, or $65, during the year ended
December 31, 2003, compared to the prior year period. The decline is primarily
due to $37 in outside commission expense and $14 in salaries expense paid to an
outside sales consultant during the prior year. Advertising expense decreased
100%, or $112, for the year ended December 31, 2003, compared to the prior year
period. This decrease is due to the discontinuance of in-the-box advertising for
the Company's natural input products during 2003, as compared to the prior year
period. Commission expense decreased 24%, or $34, to $100 for the year ended
December 31, 2003, compared to $134 in the comparable period in the prior year.
The decrease in commission expense is due primarily to an increase in OEM
revenues which are considered house accounts and have no commission due on the
revenue compared to the prior year. Other expenses including travel, general
office and allocated facilities expenses declined $140 in 2003 as compared to
2002 due to reduced head count.
General and Administrative Expenses. General and administrative expenses
decreased 8%, or $205, to $2,219, for the year ended December 31, 2003, compared
to $2,424 in the prior year period. General and administrative expense consists
of salaries, professional fees, investor relations expenses, patent amortization
and office and allocated facilities costs. Salaries and wages increased 3%, or
$24, for the year ended December 31, 2003, compared to the same period last
year, due primarily to salary increases. Professional service expenses which
include consulting, legal and outside accounting fees, decreased 21%, or $128,
to $468 compared to $596 in the comparable prior year. The decrease was due
primarily to a decreases in legal fees during the twelve months ended December
31, 2003 compared to the prior year. Other administrative expenses decreased 2%,
or $18, during the year ended December 31, 2003, compared to the prior year
period. The decrease was due primarily to reduced spending.
Interest Income and Other Income (Expense), Net. Interest income and other
income (expense), net increased $18 to $1 income for the year ended December 31,
2003, compared to the prior year period. The increase in income was due to the
refund of value added tax from 2002 received by the Joint Venture and the
elimination of credit card fees as a result of outsourcing the Company's web
store at the end of the first quarter of 2003.
Interest expense. Interest expense remained constant at $205 for the years
ended December 31, 2003 and 2002, respectively. Despite the decrease in the
interest rates during the current year, the increase of $750 in short term debt
and resultant interest expense offset the decline over the prior year.
Years Ended December 31, 2002 and December 31, 2001
Revenues
Handwriting recognition segment. Handwriting recognition segment revenues
include online/retail, corporate and China software sales. Handwriting
recognition segment revenues declined 51%, or $2,332, to $2,214 for the twelve
months ended December 31, 2002, as compared to $4,546 in the comparable prior
year.
Online/retail revenues declined 62% or $562 for the twelve months ended
December 2002, compared to the prior year. This decrease was primarily due to
the curtailment of the direct mail campaign at the end of the second quarter
-20-
2002 due to the reduced availability of new names and poor sales close rate
compared to the prior year. In November 2002, PalmSource replaced Graffiti(R)
with CIC's Jot as the standard and only handwriting software on all new Palm
PoweredTM devices. The Company believes future online/retail revenues will
increase due to the Palm license agreement as Palm operating system users are
expected to upgrade the software on their devices to the Company's Jot product.
Due to the current economic conditions and poor consumer spending the timing and
amount of the anticipated increase in online/retail revenues are difficult to
predict.
Corporate revenues decreased 44%, or $1,291, over the twelve months ended
December 31, 2002 compared to the prior year. OEM revenues included in corporate
sales decreased 68%, or $782, over the twelve months ended December 31, 2002,
compared to the prior year. This decrease was primarily due to a decrease in the
amount of royalty reported by two of the Company's licensees located in the
Pacific Rim and reduced development contract revenue recognized as compared to
the prior year. The Company believes OEM revenues will increase in 2003 due to
Palm Source's replacement of Graffiti(R) with the Company's Jot product as the
standard and only handwriting software on all new Palm PoweredTM devices. The
poor economy and Palm's prediction of declines in projected shipments of its
products may limit or defer the Company's anticipated increases in OEM revenues
to later in 2003. Enterprise sales included in corporate sales decreased 28%, or
$509, during the twelve months ended December 31, 2002, compared to the prior
year. The Company believes the decrease was due to the reduced IT spending
resulting from the weak economy.
The Company previously engaged in a transaction with PenOp to provide
nonrecurring maintenance services from pre-existing PenOp contracts in the
aggregate amount of $1.5 million, of which $877 was recorded (net) in the three
months ended December 31, 2000. During the twelve months ended December 31,
2001, the Company recognized $352 in nonrecurring maintenance fees net of
expenses of $48.
Software sales in China declined 39%, or $127, over the twelve months ended
December 31, 2002, compared to the prior year. The decrease resulted from
competitive pressures from local Chinese companies with similar types of
software offerings. See Competition Handwriting Recognition Segment.
Systems integration Segment. System integration segment revenue declined
24%, or $343, during the twelve months ended December 31, 2002, compared to the
prior year. The decrease was primarily due to a decrease in sales to two
customers compared to the prior year and an increase in competition from small
local Chinese companies. See Competition System Integration Segment.
Cost of Sales.
Handwriting recognition segment. Handwriting recognition segment cost of
sales include online/retail, corporate and China software sales costs. Such
costs are made up of royalty and import tax payments, third party hardware
costs, direct mail costs, amortization of intangible assets excluding patents
and engineering direct costs. Cost of sales for the handwriting recognition
segment decreased 63%, or $726, during the twelve months ended December 31,
2002, compared to the prior year.
Online/retail cost of sales decreases 68% or $546 during the current year
compared to the twelve months ended December 31, 2001. The decrease was due to
the elimination of direct mailing campaign and related costs as a result of
reductions in the number of names available and a poor sales close rate.
Enterprise and OEM cost of sales decreased 67%, or $193, during the twelve
months ended December 31, 2002, compared to the prior year. The decrease was due
to the lower sales volumes of products requiring third party hardware and
reduction in OEM technology import tax and engineering development costs over
the twelve months ended December 31, 2002 as compared to the prior year.
China handwriting recognition segment cost of sales increased 24%, or $13,
during the twelve months ended December 31, 2002, compared to the prior year.
The increase is due primarily to third party hardware costs associated with the
sale of the software compared to the prior year.
-21-
Systems integration segment.
China Systems integration segment cost of sales declined 33%, or $357, for
the twelve months ended December 31, 2002, as compared to the prior year. The
decrease was due primarily to the 24% decline in revenues between the
twelve-month comparable periods as discussed above.
Operating expenses
Research and Development Expenses. Research and development expenses
decreased 18%, or $323, to $1,485 for the year ended December 31, 2002, as
compared to $1,808 in the prior year. Engineering expenses consist primarily of
salaries and related costs, outside engineering, maintenance items, and
allocated facilities expenses. These expenses are offset by the capitalization
of software development costs and direct costs associated with nonrecurring
engineering contracts charged to cost of sales. The decrease was due primarily
to the 71%, or $245, reduction in outside engineering costs associated with the
assimilation of the PenOp intellectual property into the Company's products. In
addition, salaries and related expenses decreased $123, or 11%, due to the
reduction in head count of a total of three engineers compared to the
twelve-month period of the prior year. Software development costs capitalized in
2002 declined 100% or $20 compared to 2001. Direct costs associated with
nonrecurring engineering contracts charged to cost of sales declined 64%, or $68
during the twelve months ended December 31, 2002 as compared to the twelve
months in the prior year. Travel, maintenance and allocated facilities expenses
declined $43 in 2002 as compared to the twelve months in 2001. These decreases
were due to reduced activity and spending resulting from lower sales experienced
in 2002, compared to the twelve months in 2001.
Sales and Marketing Expenses. Sales and marketing expenses declined 25%, or
$511, to $1,543 for the twelve months ended December 31, 2002, compared to
$2,054 for the twelve months in 2001. Sales and marketing expenses consist of
salaries, commissions and related expenses, professional services, advertising
and promotion, general office and allocated facilities expenses. The decrease
was primarily due to 57%, or $245, decrease in professional services and
advertising expenses for the twelve months ended December 31, 2002 compared to
the prior year period. The decrease was due to non-recurring expense of a
marketing study completed in the prior year and the reduction in resource guide
advertisements included in the box that accompanies third party handheld
devices. Salaries, commissions and related expenses declined 10%, or $85, in
2002 compared to the twelve months ended December 31, 2001. The decrease was due
to a reduction in personal of two sales persons in the third quarter of 2002, as
the Company attempted to trim expenses in response to a weakening economy.
Allocated facilities and general office expenses decreased 23%, or $180, during
the twelve months ended December 31, 2002 as compared to the prior year. The
decrease was primarily due to the one time charge in 2001 in recruiting costs
and a decrease in the allocated facilities expenses compared to the twelve
months ended December 31, 2001. The Company's sales efforts have been directed
towards customers that have previously purchased products and currently have
pilot programs in process utilizing the Company's software. These customers are
expected to purchase additional software products once they have completed their
studies and implement their software solutions. The Company believes that an
improving economy and the current number of customer pilot programs nearing
completion will provide future revenues over a period of time sufficient to
allow us to timely expand the Company's sales efforts to generate the potential
new demand.
General and Administrative Expenses. General and administrative expenses
decreased 13%, or $368, to $2,424 for the twelve months ended December 31, 2002,
compared to $2,791 in the prior year. General and administrative expense
consists of salaries, professional fees, investor relations expenses, patent
amortization and office and allocated facilities costs. The decrease was
primarily due to lower professional service fees resulting from the resignation
of the former Chairman of the Board and the elimination of $159 in related
salary and office fees and $51 in other professional fees. In addition investor
relations expenses decreased 47%, or $172, compared to the twelve months ended
December 31, 2001. The decrease was due to nonrecouring expenses in 2001 related
to an aborted financing and reductions in the costs associated with shareholder
communications. Other office expenses and allocated facilities expenses
decreased 5%, or $53, over the twelve months ended December 31, 2002 compared to
the prior year. These reductions were offset by an 11%, or $67, increase in
payroll and related cost associated with salary increases.
-22-
Interest Income and Other Income (Expense), Net
Interest and other income (expense) net decreased 16%, or $45, over the
twelve months ended December 31, 2002 compared to the prior year. The decrease
was primarily due to the decrease in the interest rate paid on the Company's
$3,000 debt over the year.
Liquidity and Capital Resources
Cash and cash equivalents at December 31, 2003 totaled $1,039, compared to
cash and cash equivalents of $711 at December 31, 2002. This increase was
primarily attributable to $2,353 provided by financing activities. These cash
inflows were offset by $1,995 of cash used in operations, and $30 of cash used
in investing activities. The effect of exchange rate changes on cash was
immaterial. The cash used in operations was primarily due to the loss of $1,843,
net of a loss on the disposal of fixed assets, provision for inventory
obsolescence and depreciation and amortization of $502, and an increase in
accounts receivable of $265 and reductions to other accrued liabilities of $87.
These outflows were offset by reductions to inventories, prepaid expenses and
other assets of $108, and increases in accounts payable and accrued compensation
of $92. The cash used in investing activities of $30 was to purchase computer
equipment and third party software for internal use. The $2,353 provided by
financing activities consisted primarily of $1,589 in proceeds from the sale of
common stock through the equity line of credit, an increase in long-term debt
related party of $24 which was used to replace the van by the Joint Venture in
China, and through the issuance of short-term debt of $750 with Cornell Capital
Partners Ltd.. These cash inflows were offset by $7 in payments on capital lease
obligations and $3 in payments of long-term debt, related party.
Financing.
On December 19, 2003, the Company, in connection with the equity line of
credit discussed below, borrowed $750 from Cornell Capital Partners, LP. The
proceeds of the loan were used for working capital purposes. The loan is secured
by shares of the Company's common stock held in escrow. The promissory note was
due and payable in seven installments, commencing January 19, 2004 and ending on
March 1, 2004, and could be paid in cash or shares of the company's common
stock. The Company has the option to delay the commencement of the installment
payments for an unlimited number of 30 day periods for an amount equal to 2% of
the principal amount owed on or before the beginning of the current option
period. The 2% fee may be made in cash or shares of common stock. Any delay in
the commencement date will result in an equal delay in the due date of the note.
If the note is not paid in full when due, the outstanding principal owed shall
be due and payable in full together with interest at the rate of 2% per annum
commencing from the due date.
Subsequent to December 31, 2003, the Company exercised its right to delay
the commencement of the installment payments by paying the 2% fee discussed
above. Such fees aggregated $38 were paid in cash and expensed. The company
intends to repay the loan by issuing shares of its Common stock.
In June 2003 the Company's joint venture borrowed from one of its directors
approximately $24 denominated in U. S. dollars to purchase a replacement van
used in the Company's operations. The note bears interest at the rate of 5% per
annum and is due in June 2006.
In July 2002, the Company negotiated a Line of Credit Agreement expiring
two years from the date of an effective registration statement with Cornell
Capital Partners, LP ("Line of Credit") (see Note 1, to the Financial Statements
"Equity Line of Credit Agreement"). The Company may periodically issue and sell
shares of its common stock for a total purchase price of $15 million, subject to
the number of shares available for issuance and the purchase price of such
shares. The maximum amount of each advance is $1 million in any 30-day period.
The Company must pay to Cornell Capital Partners, L.P. an advance fee equal to
6.5% of the amount of each advance. The Company filed a Registration Statement
on Form S-1 covering approximately 24 million shares for use under the equity
line of credit. On February 13, 2003, the Form S-1 was declared effective. The
Company intends to use the proceeds from the equity line to repay short-term
debt and for working capital purposes to the extent that future cash flows from
operations fall short of the Company's requirements.
The Company is required to keep the registration statement effective until
the earlier of when the investor has sold all of the shares acquired under the
Line of Credit or the investor is able to resell the shares under Rule 144
without regard to the volume limitations set forth in that rule. At all times,
the registration statement must cover, at a minimum, the number of shares issued
under the Line of Credit. The Company is required to fulfill its reporting
obligations under the Securities Exchange Act of 1934, as amended, and otherwise
take whatever steps are necessary to enable the investor to resell the shares
acquired under the Line of Credit without restriction. Finally, the Company has
agreed to indemnify the investor for any damages the investor may suffer as a
result of misstatements or omissions, other than misstatements or omissions
attributable to the investor. Since the inception of the credit line the Company
has borrowed $2,750 less a 6.5% financing fee from Cornell Capital Partners, LP.
As of December 31, 2003, $2,000 has been repaid through the sale of the
Company's common stock pursuant to the terms of the equity line of credit.
-23-
On June 19, 2001, the Company consummated a three-year $3 million financing
(the "Loan") with a charitable remainder annuity trust of which the trustee is a
former director and former officer of the Company (the "Trust"). The proceeds of
the Loan were used to refinance $1,500 of indebtedness outstanding to the Trust
pursuant to a loan made by the Trust to the Company in October 1999, and for
working capital purposes. The Loan bears interest at the rate of 2% over the
prime rate publicly announced by Citibank N. A. from time to time, which was
6.00% per annum at December 31, 2003, and is due June 18, 2004. The Loan may be
pre-paid by the Company in whole or in part at any time without penalty, subject
to the right of the Trust to convert the outstanding principal amount of the
Loan into shares of common stock. Pursuant to the terms of the Loan, the Trust
has the option, at any time prior to maturity, to convert all or any portion of
the outstanding principal amount of the Loan into shares of common stock of the
Company at a conversion price of $2.00 per share, subject to adjustment upon the
occurrence of certain events. If, prior to maturity of the Loan, the Company
consummates one or more financings providing $5 million or more in gross
proceeds, the Company is required to apply 50% of the proceeds in excess of $5
million to the then outstanding principal amount of the Loan. The Loan is
secured by a first priority security interest in and lien on all of the
Company's assets as now owned or hereafter acquired by the Company. In
connection with the Loan, the Company entered into a registration rights
agreement with the Trust which obligates the Company to file a registration
statement with the Securities and Exchange Commission covering the sale of the
shares of the Company's common stock issuable upon conversion of the Loan if it
receives a demand by the holder of the Loan to do so, and to use its reasonable
best efforts to cause such registration statement to become effective.
Contractual Obligations.
The Company had the following material commitments as of December 31, 2003
Payments due by periods
- ------------------------------ ----------------------------------------------
Less than One to Four to After
Contractual obligations Total One year three five five
years years years
- ------------------------------ -------- --------- -------- ------- -------
Short term debt (1) $ 3,750 $ 3,750 $ - $ - $ -
Long term-debt 21 8 13 - -
Capital Lease Obligations 30 8 22 - -
Operating lease commitments (2) 1,157 419 739 - -
-------- -------- ------- ------- --------
Total contractual cash obligations $ 4,958 $ 4,185 $ 774 $ - $ -
======== ======== ======= ======== ========
1. Three million of short-term debt may be pre-paid by the Company in whole or
in part at any time without penalty, subject to the right to convert the
outstanding principal amount into shares of common stock at a conversion
price of $2.00 per share, subject to adjustment upon the occurrence of
certain events. The remaining $750 in short-term debt may be repaid in cash
or shares of the Company's common stock.
2. The operating lease commenced on November 1, 2002. The cost of the lease
will increase approximately 3% per annum over the term of the lease, which
expires on October 31, 2006.
-24-
The Company leases facilities in the United States and China totaling
approximately 11,100 square feet. The Company's rental expense for the years
ended December 31, 2003, 2002 and 2001 was approximately $450, $418, and $443,
respectively. Sublease income was approximately $35 and $104 for the years ended
December 31, 2001 and 2000, respectively. In addition to the base rent in the
United States, the Company pays a percentage of the increase, if any, in
operating cost incurred by the landlord in such year over the operating expenses
incurred by the landlord in the base year. The Company believes the leased
offices will be adequate for the Company's needs over the term of the lease.
As of December 31, 2003, the Company's principal source of liquidity was
its cash and cash equivalents of $1,039. In each year since the Company's
inception the Company has incurred losses. Although there can be no assurance,
the Company believes that its current cash and resources, together with the
expected revenue levels, will provide sufficient funds for planned operations
for at least the next twelve months. However, if the Company is unable to
generate adequate cash flow from sales, or if expenditures required achieving
the Company's plans are greater than expected, the Company may need to obtain
additional funds or reduce discretionary spending. There can be no assurance
that additional funds will be available when needed, or if available will be on
favorable terms or in the amounts the Company may required. If adequate funds
are not available when needed, the Company may be required to delay, scale back
or eliminate some or all of its marketing and development efforts or other
operations, which could have a material adverse effect on the Company's
business, results of operations and prospects.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk. The Company has an investment portfolio of fixed income
securities that are classified as cash equivalents. These securities, like all
fixed income instruments, are subject to interest rate risk and will fall in
value if the market interest rates increase. The Company attempts to limit this
exposure by investing primarily in short-term securities. The Company did not
enter into any short-term security investments during the twelve months ended
December 31, 2003. Foreign Currency Risk. The Company operates a subsidiary in
China and from time to time makes certain capital equipment or other purchases
denominated in foreign currencies. As a result, the Company's cash flows and
earnings are exposed to fluctuations in interest rates and foreign currency
exchange rates. The Company attempts to limit these exposures through
operational strategies and generally has not hedged currency exposures.
Future Results and Stock Price Risk. The Company's stock price may be
subject to significant volatility. The public stock markets have experienced
significant volatility in stock prices in recent years. The stock prices of
technology companies have experienced particularly high volatility, including,
at times, severe price changes that are unrelated or disproportionate to the
operating performance of such companies. The trading price of the Company's
common stock could be subject to wide fluctuations in response to, among other
factors, quarter-to-quarter variations in operating results, announcements of
technological innovations or new products by the Company or its competitors,
announcements of new strategic relationships by the Company or its competitors,
general conditions in the computer industry or the global economy generally, or
market volatility unrelated to the Company's business and operating results.
Item 8. Financial Statements and Supplementary Data
The Company's audited consolidated financial statements for the years ended
December 31, 2003, 2002, and 2001 begin on page F-1 of this Annual Report on
Form 10-K, and is incorporated into this item by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
-25-
Item 9A. Controls and Procedures
Under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, the Company has evaluated the effectiveness of the design and operation
of its disclosure controls and procedures pursuant to applicable rules under the
Securities Exchange Act of 1934, as amended, within 90 days of the date of this
report. Based on that evaluation, the Company's Chief Executive Officer and
Chief Financial Officer have concluded that these disclosure controls and
procedures are effective. There were no significant changes in the Company's
internal controls or in other factors that could significantly affect internal
controls subsequent to the date of their evaluation.
PART III
Item 10. Directors and Executive Officers of the Registrant
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders to be held on June 21, 2004. The definitive proxy statement is to
be filed with the Commission not later than 120 days after the end of the
physical year covered by this report.
Item 11. Executive Compensation
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders to be held on June 21, 2004, and is incorporated into this item by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders to be held on June 21, 2004, and is incorporated into this item by
reference.
Item 13. Certain Relationships and Related Transactions
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders to be held on June 21, 2004, and is incorporated into this item by
reference.
Item 14. Principal Accounting Fees and Services
Information with respect to this Item is incorporated by reference to the
Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders to be held on June 21, 2004, and is incorporated into this item by
reference.
-26-
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
Index to Financial Statements
Page
(a)(1) Financial Statements
Report of Stonefield Josephson, Inc., Independent Auditors..... F-1
Consolidated Balance Sheets at December 31, 2003 and 2002...... F-2
Consolidated Statements of Operations for the years
ended December 31, 2003, 2002, and 2001........................ F-3
Consolidated Statements of Changes in Stockholders' Equity
(Deficit) for the years ended December 31, 2003, 2002 and 2001.. F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 2003, 2002 and 2001............................... F-5
Notes to Consolidated Financial Statements..................... F-6
(a)(2) Financial Statement Schedule
Schedule II Valuation and Qualifying Accounts and Reserves..... S-1
(b) Reports on Form 8-K
Current Report on Form 8-K, incorporated by reference, dated October 30,
2003, with respect to:
1. The Company's financial results for the quarter ended September 30, 2003.
(c) Exhibits
Exhibit Document
Number
2.0 Second Amended Plan of Reorganization of the Company, incorporated
herein by reference to the Company's Form 8-K filed October 24,
1994.
2.1 Orderly Liquidation Valuation, Exhibit F to the Second Amended
Plan of Reorganization, incorporated herein by reference to the
Company's Form 8-K filed October 19, 1994.
2.2 Order Confirming Plan of Reorganization, incorporated herein by
reference to the Company's Form 8-K filed November 14, 1994.
3.1 Certificate of Incorporation of the Company, as amended,
incorporated herein by reference to Exhibits 3.1, 3.2, 3.3 and 3.4
to the Company's Registration Statement on Form 10 (File No.
0-19301).
3.2 Certificate of Amendment to the Company's Certificate of
Incorporation (authorizing the reclassification of the Class A
Common Stock and Class B Common Stock into one class of Common
Stock) as filed with the Delaware Secretary of State's office on
November 1, 1991, incorporated herein by reference to Exhibit 3 to
Amendment 1 on Form 8 to the Company's Form 8-A (File No.
0-19301).
3.3 By-laws of the Company adopted on October 6, 1986, incorporated
herein by reference to Exhibit 3.5 to the Company's Registration
Statement on Form 10 (File No. 0-19301).
4.1 1984 Stock Option Plan of the Company, as amended and restated as
of October 15, 1987 and as amended by resolutions of the
stockholders of the Company passed on August 15, 1989 and October
8, 1990 to increase the aggregate shares covered thereby to
1,000,000, incorporated herein by reference to Exhibit 4.4 to the
Company's Registration Statement on Form 10 (File No. 0-19301).
4.2 Form of Stock Option Grant under 1984 Stock Option Plan,
incorporated herein by reference to Exhibit 4.5 to the Company's
Registration Statement on Form 10 (File No. 0-19301).
-27-
4.3 1991 Stock Option Plan of the Company, incorporated herein by
reference to Exhibit 4.5 of the Company's Form S-1 dated December
23, 1991 (Registration No. 33-43879).
4.4 1991 Non-Discretionary Stock Option Plan, incorporated herein by
reference to Exhibit 4.6 of the Company's Form S-1 dated December
23, 1991 (Registration No. 33-43879).
4.5 Form of Incentive Stock Option Grant under 1991 Stock Option Plan,
incorporated herein by reference to Exhibit 4.7 of the Company's
Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.6 Form of Non-Qualified Stock Option Grant under 1991 Stock Option
Plan, incorporated herein by reference to Exhibit 4.8 of the
Company's Form S-1 dated December 23, 1991 (Registration No.
33-43879).
4.7 Form of Stock Option Grant under 1991 Non-Discretionary Stock
Option Plan, incorporated herein by reference to Exhibit 4.9 of
the Company's Form S-1 dated December 23, 1991 (Registration No.
33-43879).
4.8 1994 Stock Option Plan, incorporated herein by reference to
Exhibit G of the Company's Second Amended Disclosure Statement
filed on Form 8-K dated October 19, 1994 and approved by
shareholders on November 14, 1994.
4.9 Form of Warrant of the Company dated March 28, 1997 issued in
connection with the Waiver by and among the Company and the
signatories thereto, incorporated herein by reference to Exhibit
4.9 of the Company's 1996 Form 10-K (File No. 0-19301).
4.10 1999 Stock Option Plan, incorporated herein by reference to
Exhibit A of the Company's Definitive Proxy Statement filed on May
4, 1999 and approved by shareholders on June 7, 1999.
.
+10.1 Licensing and Development Agreement for Use and Marketing of
Program Materials dated September 25, 1992 between the Company and
International Business Machines Corporation, incorporated herein
by reference to Exhibit 10.13 of the Company's 1992 Form 10-K
(File No. 0-19301)
10.2 Standby Stock Purchase Agreement between the Company and Philip
Sassower dated October 3, 1994, incorporated herein by reference
to Exhibit 10.13 of the Company's 1994 Form 10-K (File No.
0-19301)
10.3 Form of Subscription Agreement between the Company and the
Purchasers, dated November 28, 1995, incorporated herein by
reference to Exhibit 1 of the Company's Form 8-K dated November
28, 1995.
10.4 Form of Registration Rights Agreement between the Company and the
Purchasers, dated November 28, 1995, incorporated herein by
reference to Exhibit 1 of the Company's Form 8-K dated November
28, 1995.
10.5 Form of Warrant of the Company issued to Libra Investments, Inc.
on November 28, 1995, incorporated herein by reference to Exhibit
1 of the Company's Form 8-K dated November 28, 1995.
10.6 Form of Registration Rights Agreement between the Company and
Libra Investments, Inc., dated November 28, 1995, incorporated
herein by reference to Exhibit 1 of the Company's Form 8-K dated
November 28, 1995.
10.7 Form of Subscription Agreement between the Company and various
investors, dated June 13, 1996, incorporated herein by reference
to Exhibit 1 of the Company's Form 8-K dated June 27, 1996.
10.8 Form of Registration Rights Agreement between the Company and
various investors, dated June 13, 1996, incorporated herein by
reference to Exhibit 2 of the Company's Form 8-K dated June 27,
1996.
10.9 Form of Preferred Stock Investment Agreement, dated as of December
31, 1996, between the Company and the investors listed on Schedule
1 thereto, incorporated herein by reference to Exhibit 1 of the
Company's Form 8-K dated December 31, 1996.
10.10 Form of Registration Rights Agreement between the Company and the
Investors Listed on Schedule 1 thereto, incorporated herein by
reference to Exhibit 2 of the Company's Form 8-K dated December
31, 1996.
10.11 Form of Certificate of Designation of the Company with respect to
the 5% Cumulative Convertible Preferred Stock, incorporated herein
by reference to Exhibit 3 of the Company's Form 8-K dated December
31, 1996.
-28-
10.12 Waiver, dated March 26, 1997, effective December 31, 1996, by and
among the Company and the signatories thereto, incorporated herein
by reference to Exhibit 10.19 of the Company's 1996 Form 10-K
(File No. 0-19301).
10.13 Form of Subscription Agreement between the Company and each
subscriber, dated as of November 25, 1997, incorporated herein by
reference to Exhibit 10.1 of the Company's Form 8-K dated December
3, 1997.
10.14 Certificate of Designations of the Company with respect to the
Series B 5% Cumulative Convertible Preferred Stock, incorporated
herein by reference to Exhibit 10.2 of the Company's Form 8-K
dated November 13, 1997.
10.15 Form of Registration Rights Agreement, by and among the Company
and the signatories thereto, dated as of November 25, 1997,
incorporated herein by reference to Exhibit 10.3 to the Company's
Form 8-K dated November 13, 1997.
10.16 Amendment to the Company's Certificate of Designation with respect
to the 5% Cumulative Convertible Preferred Stock dated June 12,
1998, incorporated herein by reference to Exhibit 10.23 of the
Company's 1998 Form 10-K (File No. 0-19301).
10.17 Amendment to the Company's Amended and Restated Certificate of
Incorporation dated June 12, 1998 incorporated herein by reference
to Exhibit 10.24 of the Company's 1998 Form 10-K (File No.
0-19301).
10.18 Employment Agreement dated August 14, 1998 between James Dao and
the Company incorporated herein by reference to Exhibit 10.25 of
the Company's 1998 Form 10-K (File No. 0-19301).
++10.19 Software Development and License Agreement dated December 4, 1998
between Ericsson Mobile Communications AB and the Company
incorporated herein by reference to Exhibit 10.26 of the Company's
1998 Form 10-K (File No. 0-19301).
10.20 Loan and Warrant Agreement dated October 20, 1999 between the
Company and the Philip S. Sassower 1996 Charitable Remainder
Annuity Trust.
10-21 Asset Purchase Agreement between the Company and PenOp Ltd and
PenOp Inc. incorporated herein by reference to the Company's Form
8-K dated October 6, 2000.
10-22 Loan Agreement dated June 19, 2001 between the Company and the
Philip S. Sassower 1996 Charitable Remainder Annuity Trust.
10-23 Equity Line of Credit Agreement between the Company and Cornell
Capital Partners, LP, incorporated by reference to the Company's
Registration Statement on Form S1 dated February 13, 2003 (File
No. 333-103157)
14.00 Code of Ethics
*21.1 Schedule of Subsidiaries.
*23.1 Consent of Stonefield Josephson, Accountancy Corporation,
Independent Accountants.
31.1 Certification of Company's Chief Executive Officer pursuant
to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 Certificate of Company's Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to 18
USC Section 1750, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18
USC Section 1750, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
+ Confidential treatment of certain portions of this exhibit have been
previously granted pursuant to a request for confidentiality dated March
29, 1993, filed pursuant to the Securities Exchange Act of 1934.
* Filed herewith.
++ Confidential treatment of certain portions of this exhibit have been
requested from the SEC pursuant to a request for confidentiality dated
March 30, 1999, filed pursuant to the Securities and Exchange Act of 1934.
-29-
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned; thereunto duly authorized, in the City of Redwood
Shores, State of California, on March 28, 2003.
COMMUNICATION INTELLIGENCE CORP.
By: /s/ Francis V. Dane
-----------------------------------------------
Francis V. Dane
(Principal Financial Officer and Officer Duly
Authorized to Sign on Behalf of the Registrant)
-30-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of Registrant
and in the capacities indicated on March 28, 2003.
Signature Title
/s/ Guido DiGregorio Chairman, President and Chief Executive Officer
- -------------------- (Principal Executive Officer)
Guido DiGregorio
/s/ Francis V. Dane Chief Legal Officer and Chief Financial Officer
- -------------------- (Principal Financial and Accounting Officer)
Francis V. Dane
/s/ Michael Farese Director
- --------------------
Michael Farese
/s/ Louis P.Panetta Director
- --------------------
Louis P.Panetta
/s/ Chien Bor Sung Director
- --------------------
Chien Bor Sung
/s/ David Welch Director
- --------------------
David Welch
-31-
Independent Auditors' Report
Board of Directors and Stockholders of
Communication Intelligence Corporation
Redwood Shores, California
We have audited the accompanying consolidated balance sheets of Communication
Intelligence Corporation and its subsidiary ("the Company") as of December 31,
2003 and 2002 and the related consolidated statements of operations, changes in
stockholders' equity, cash flows and financial statement schedule for each of
the three years in the period ended December 31, 2003, as listed in the index
appearing under Item 15(a)(1) and (2) of this Annual Report on Form 10-K. These
consolidated financial statements and financial statement schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements and financial statement
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and the disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Communication Intelligence Corporation and its subsidiary as of December 31,
2003, and 2002 and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 2003, in conformity with
accounting principles generally accepted in the United States of America. Also
in our opinion, the related financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company's significant recurring operating
losses, working capital deficit, accumulated deficit and negative cash flows
from operations raise substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
Note 1. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
STONEFIELD JOSEPHSON INC.
Certified Public Accountants
Santa Monica, California
February 20, 2004
F-1
Communication Intelligence Corporation
Consolidated Balance Sheets
(In thousands, except par value amounts)
December 31,
---------------------------------
2003 2002
---------------------------------
Assets
Current assets:
Cash and cash equivalents.................. $ 1,039 $ 711
Accounts receivable, net of allowances
of $256 and $243 at December 31, 2003
and 2002, respectively..................... 742 477
Inventories................................ 47 113
Prepaid expenses and other current assets.. 177 244
--------------- ---------------
Total current assets.................. 2,005 1,545
Property and equipment, net................... 138 159
Patents....................................... 5,042 5,421
Other assets.................................. 30 43
--------------- ---------------
Total assets.......................... $ 7,215 $ 7,168
=============== ===============
Liabilities and Stockholders' Equity
Current liabilities:
Short-term debt - related party............. $ 3,008 $ -
Short-term debt - other..................... 750 -
Accounts payable............................ 243 160
Accrued compensation........................ 259 250
Other accrued liabilities................... 475 527
Deferred revenue............................ 165 165
--------------- ---------------
Total current liabilities............. 4,900 1,102
Long-term debt - related party................ 13 3,000
Minority interest............................. 115 132
Commitments
Stockholders' equity:
Common stock, $.01 par value; 125,000
shares authorized; 100,102 and 91,481
shares issued and outstanding at December 31,
2003 and 2002, respectively................. 1,001 915
Additional paid-in capital.................. 83,528 82,025
Accumulated deficit.......................... (82,164) (79,819)
Accumulated other comprehensive loss......... (178) (187)
--------------- ---------------
Total stockholders' equity..................... 2,187 2,934
--------------- ---------------
Total liabilities and stockholders' equity.. $ 7,215 $ 7,168
=============== ===============
The accompanying notes form an integral part of
these Consolidated Financial Statements
F-2
Communication Intelligence Corporation
Consolidated Statements of Operations
(In thousands, except per share amounts)
Years ended December 31,
-----------------------------------------
2003 2002 2001
-----------------------------------------
Revenues:
Online.............................. $ 300 $ 351 $ 913
Corporate........................... 1,703 1,667 2,958
Nonrecurring maintenance
fees - M10 (Previously PenOp)...... - - 352
China............................... 1,031 1,254 1,724
----------- ----------- ------------
3,034 3,272 5,947
----------- ----------- ------------
Operating costs and expenses:
Cost of sales:
Online........................... 17 259 805
Corporate........................ 30 96 290
China............................ 718 802 1,145
Research and development........... 1,302 1,485 1,808
Sales and marketing................ 905 1,543 2,054
General and administrative......... 2,219 2,424 2,791
---------- ----------- -----------
5,191 6,609 8,893
---------- ----------- -----------
Loss from operations.................. (2,157) (3,337) (2,946)
Interest income and other
income (expense), net................. 1 (17) 16
Interest expense...................... (205) (205) (282)
Minority interest..................... 16 (2) (3)
----------- ----------- -----------
Net loss.............................. $ (2,345) $ (3,561) $ (3,215)
=========== =========== ===========
Basic and diluted loss per share...... $ (0.02) $ (0.04) $ (0.04)
=========== =========== ===========
Weighted average shares............... 97,436 91,298 90,571
=========== =========== ===========
The accompanying notes form an integral part of
these Consolidated Financial Statements
F-3
Communication Intelligence Corporation
Consolidated Statements of Changes in Stockholders' Equity
(In thousands)
Accumulated
Additional Other
Common Common Paid-In Accum. Comprehensive
Shares Stock Capital Deficit Loss Total
-----------------------------------------------------
Balances as of December
31, 2000..................89,667 $ 897 $ 80,656 $(73,043) $ (203) $ 8,307
-----------------------------------------------------
Exercise of options for
1,176 shares of Common
Stock 1,176 11 892 - - 903
Issuance of 68 shares of
Common Stock in exchange
for services 68 1 57 - - 58
Foreign currency translation
adjustment - - - 7 - 7
Net loss (3,215) (3,215)
-----------------------------------------------------
Balances as of December 31,
2001.....................90,911 $909 $ 81,605 $(76,258) $ (196) $ 6,060
-----------------------------------------------------
Exercise of options for 570
shares of Common Stock..... 570 $ 6 $ 420 $ $ $ 426
Foreign currency translation
adjustment................. 9 9
Net loss..................... (3,561) (3,561)
-----------------------------------------------------
Balances as of
December 31, 2002 91,481 $ 915 $ 82,025 $(79,819) $ (187) $ 2,934
.......................
-----------------------------------------------------
Sale of Common 8,621 shares
through Cornell Capital
net of expenses.......... 8,621 $ 86 $ 1,503 $ $ $ 1,589
Foreign currency translation
adjustment................. 9 9
Net loss..................... (2,345) (2,345)
-----------------------------------------------------
Balances as of December 31,
2003....................100,102 $1,001 $ 83,528 $(82,164) $ (178) $ 2,187
-----------------------------------------------------
The accompanying notes form an integral part of
these Consolidated Financial Statements
F-4
Communication Intelligence Corporation
Consolidated Statements of Cash Flows
(In thousands)
Years ended December 31,
------------------------------------
2003 2002 2001
------------------------------------
Cash flows from operating activities
Net loss.......................................$ (2,345) $ (3,561) $ (3,215)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization................ 456 467 687
Equity securities issued for services........ - - 58
Non-cash compensation........................ - - 46
Loss on disposal of property and equipment... 8 6 -
Provision for inventory obsolescence......... 38 - -
Changes in operating assets and liabilities
Accounts receivable, net................... (265) 566 717
Inventories................................ 28 16 42
Prepaid expenses and other current assets.. 67 (105) 135
Other assets............................... 13 156 (14)
Accounts payable........................... 83 (46) (469)
Accrued compensation....................... 9 42 (55)
Other accrued liabilities.................. (87) 295 (117)
Deferred revenue........................... - 77 26
---------- ---------- ----------
Net cash used in operating activities.......... (1,995) (2,087) (2,159)
---------- ----------- ---------
Cash flows from investing activities
Acquisition of property and equipment.......... (30) (30) (58)
---------- ----------- ---------
Net cash used in investing activities.......... (30) (30) (58)
---------- ----------- ---------
Cash flows from financing activities
Proceeds from issuance of short-term debt...... 750 - 181
Proceeds from issuance of long-term debt -
related party.................................. 24 - 3,000
Principal payments on short-term debt.......... - (181) (1,620)
Principal payments on long-term debt -
related party................................. (3) - -
Principal payments on capital lease
obligations.................................... (7) (5) (8)
Proceeds from issuance of common stock, ....... 2,000 - -
Offering costs................................. (411) - -
Proceeds from exercise of stock options........ - 426 903
---------- --------- ---------
Net cash provided by (used in)
financing activities........................... 2,353 240 2,456
---------- --------- ---------
Net increase (decrease) in cash and
cash equivalents.............................. 328 (1,877) 239
Cash and cash equivalents at beginning
of year....................................... 711 2,588 2,349
---------- ---------- ---------
Cash and cash equivalents at end of year........$ 1,039 $ 711 $ 2,588
========== ========== =========
The accompanying notes form an integral part of
these Consolidated Financial Statements
F-5
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies
The Company
Communication Intelligence Corporation and its Joint Venture (the "Company"
or "CIC") develops and markets natural input and biometric electronic signature
solutions aimed at the emerging markets such as, e-commerce, wireless
Internet/information devices, and corporate security. These emerging markets for
CIC's products include all areas of personal computing, as well as electronic
commerce and communications.
The Company's research and development activities have given rise to
numerous technologies and products. The Company's core technologies are
classified into two broad categories: "natural input technologies" and
"transaction and communication enabling technologies". CIC's natural input
technologies are designed to allow users to interact with a computer or handheld
device through the use of an electronic pen or "stylus". Such products include
the Company's multi-lingual Handwriter(R) Recognition System, and its
Handwriter(R) for Windows(R) family of desktop computing products. CIC's
transaction and communication enabling technologies provide a means for
protecting electronic transactions and discretionary communications. CIC has
developed products for dynamic signature verification, electronic ink data
compression and encryption and a suite of development tools and applications
which the Company believes could increase the functionality of its core products
and facilitate their integration into original equipment manufacturers' ("OEM")
hardware products and computer systems and networks.
Through its 90% owned joint venture, Communication Intelligence Computer
Corporation, in China (the "Joint Venture"), the Company provides system
integration services and markets its pen-based business computer systems to
Chinese businesses, government users and other joint ventures.
For the five-year period ended December 31, 2003, the Company incurred
aggregate losses of $12,600 and, at December 31, 2003, the Company's accumulated
deficit was approximately $82,164 and its current liabilities exceeded its
current assets by $2,908. In addition, the Company had negative cash flows from
operations of $1,995, $2,087 and $2,159 for the years ended December 31, 2003,
2002 and 2001, respectively. These factors raise substantial doubt about the
Company's ability to continue as a going concern. The Company has primarily
funded these losses through the sale of debt and equity securities.
Going Concern
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. The Company has suffered recurring
losses from operations that raise a doubt about its ability to continue as a
going concern.
The Company filed a registration statement with the Securities and Exchange
Commission in February 2003 in order to obtain funding from equity financing.
However, there can be no assurance that the Company will have adequate capital
resources to fund planned operations or that any additional funds will be
available to the Company when needed, or if available, will be available on
favorable terms or in amounts required by the Company. If the Company is unable
to obtain adequate capital resources to fund operations, it may be required to
delay, scale back or eliminate some or all of its operations, which may have a
material adverse effect on the Company's business, results of operations and
ability to operate as a going concern. The consolidated financial statements do
not include any adjustments that might result from the outcome of this
uncertainty.
Basis of Consolidation
The accompanying consolidated financial statements are prepared in
accordance with generally accepted accounting principles in the United States of
America, and include the accounts of CIC and its 90% owned Joint Venture in the
People's Republic of China. All inter-company accounts and transactions have
been eliminated. All amounts shown in the accompanying consolidated financial
statement are in thousands of dollars except per share amounts.
F-6
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
Nature of Business, Basis of Presentation and Summary of Significant Accounting
Policies (continued)
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, revenue
recognition, allowance for doubtful accounts, long lived assets impairment,
inventory, and disclosure of contingent assets and liabilities, at the date of
the financial statements, as well as the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from these
estimates.
Fair Value of Financial Instruments
The carrying amounts of the Company's financial instruments, including cash
and cash equivalents, accounts receivable, accounts payable, short-term debt and
long-term debt approximate fair value due to their short maturities.
Cash and Cash Equivalents
The Company considers all highly liquid investments with maturity at the
date of purchase of three months or less to be cash equivalents.
The Company's cash and cash equivalents, at December 31, consisted of
the following:
2003 2002
----------- ------------
Cash in bank....................................... $ 110 $ 260
Money market funds................................. 929 451
----------- ------------
Cash and cash equivalents............... ........ $ 1,039 $ 711
=========== ============
Concentrations of Credit Risk
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist primarily of cash, cash equivalents, and
accounts receivable. The Company maintains its cash and cash equivalents with
various financial institutions. This diversification of risk is consistent with
Company policy to maintain liquidity, and mitigate against risk of loss as to
principal. Although such amounts may exceed the F. D. I. C. limits, the Company
limits the amount of credit exposure with any one financial institution and
believes that no significant concentration of credit risk exists with respect to
cash and cash equivalents.
At December 31, 2003, the Joint Venture had approximately $92 in cash
accounts held by a financial institution in the People's Republic of China. The
Joint Venture deposits are not covered by any federal deposit insurance program
that is comparable to the programs applicable to U.S. deposits.
To date, accounts receivable have been derived principally from revenues
earned from end users, manufacturers, retailers and distributors of computer
products in North America, Europe and the Pacific Rim. The Company performs
periodic credit evaluations of its customers, and does not require collateral.
The Company maintains reserves for potential credit losses; historically, such
losses have been insignificant and within management's expectations.
The allowance for doubtful accounts is based on the Company's assessment of
the collectibility of specific customer accounts and an assessment of
international, political and economic risk as well as the aging of the accounts
receivable. If there is a change in actual defaults from the Company's
historical experience, the Company's estimates of recoverability of amounts due
it could be affected and the Company will adjust the allowance accordingly.
F-7
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Inventories
Inventories are stated at the lower of cost or market, cost being
determined using the first-in first-out ("FIFO") method. Cost principally
includes direct materials. At December 31, 2003 and 2002, inventories consisted
of finished goods. At December 31, 2003 the Company recorded a provision of $38
to System Integration Cost of Sales for older obsolete inventory.
Property and Equipment, Net
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the related assets,
ranging from three to five years. Leasehold improvements are amortized over
their estimated useful lives, not to exceed the term of the related lease. The
cost of additions and improvements is capitalized, while maintenance and repairs
are charged to expense as incurred. Depreciation expense was $63, $75 and $163
for the year ended December 31, 2003, 2002 and 2001, respectively. The Chinese
Joint Venture disposed of certain assets at cost of $76 and $36 in 2003 and
2002, respectively.
Property and equipment, net at December 31, consists of the following:
2003 2002
------------ ------------
Machinery and equipment............................. $1,247 $1,273
Office furniture and fixtures....................... 432 432
Leasehold improvements.............................. 84 84
Purchased software.................................. 218 216
------------ ------------
1,981 2,005
Less accumulated depreciation and amortization...... (1,843) (1,846)
------------ ------------
$ 138 $ 159
============ ============
Included in property and equipment, as of December 31, 2003 and 2002, are
$82 and $82, respectively, of assets acquired under capital leases. Accumulated
depreciation on such assets totaled $52 and $44 at December 31, 2003 and 2002,
respectively.
Patents
On October 6, 2000, the Company acquired certain assets of PenOp Limited
("PenOp") and its subsidiary PenOp Inc. pursuant to an asset purchase agreement
dated as of September 29, 2000. Patents are stated at cost less accumulated
amortization which in Management's opinion represents fair value. Amortization
is computed using the straight-line method over the estimated lives of the
related assets, ranging from five to seventeen years. Amortization expense was
$379, $378 and $440 for the years ended December 31, 2003, 2002 and 2001,
respectively.
The nature of the underlying technology of each material patent is as follows:
o Patent numbers 5544255, 5647017, 5818955 and 6064751 involve (a) the
electronic capture of a handwritten signature utilizing an electronic
tablet device on a standard computer system within an electronic document,
(b) the verification of the identity of the person providing the
electronic signature through comparison of stored signature measurements,
and (c) a system to determine whether an electronic document has been
modified after signature.
F-8
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Patents (continued)
o Patent number 6091835 involves all of the foregoing and the recording of
the electronic execution of a document regardless of whether execution
occurs through a handwritten signature, voice pattern, fingerprint or
other identifiable means.
Patents, net at December 31, consists of the following:
Expiration Life 2003 2002
---------- ---- ------------ ------------
Patent (Various)................ Various 5 $ 9 $ 9
Patent (Various)................ Various 7 476 476
5544255......................... 2013 13 93 93
5647017......................... 2014 14 187 187
5818955........................ 2015 15 373 373
6064751........................ 2017 17 1,213 1,213
6091835........................ 2017 17 4,394 4,394
------------ ------------
6,745 6,745
Less accumulated amortization.. (1,703) (1,324)
------------ ------------
$ 5,042 $ 5,421
============ ============
Amortization expense for the years ending December 31, 2004, 2005, 2006,
2007, and 2008 are estimated to be $379, $379, $379, $379 and $379,
respectively. The patents identified, as "various" are technically narrow or
dated patents that the company believes are not material.
The useful lives assigned to the patents are based upon the following
assumptions and conclusions:
o The estimated cash flow from products based upon each patent are expected to
exceed the value assigned to each patent;
o There are no legal, regulatory or contractual provisions known to the
Company that limit the useful life of each patent to less than the
assigned useful life;
o No additional material costs need to be incurred or modifications made in
order for the Company to continue to be able to realize the protection
afforded by the patents, and
o The Company does not foresee any effects of obsolescence or significant
competitive pressure on its current or future products, anticipates
increasing demand for products utilizing the patented technology, and
believes that the current markets for its products based on the patented
technology will remain constant or will grow over the useful lives
assigned to the patents because of a legal, regulatory and business
environment encouraging the use of electronic signatures.
The Company performs intangible asset impairment analyses on a quarterly
basis in accordance with the guidance in Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142") and
Statement of Financial Accounting Standards No. 144, "Accounting for the
Impairment or Disposal of Long Lived Assets" ("SFAS 144"). The Company uses SFAS
144 in response to changes in industry and market conditions that affects its
patents; the Company then determines if an impairment of its assets has
occurred. The Company reassesses the lives of its patents and test for
impairment quarterly in order to determine whether the book value of each patent
exceeds the fair value of each patent. Fair value is determined by estimating
future cash flows from the products that are and will be protected by the
patents and considering the additional factors listed in Critical Accounting
Policies in Item 7 of this Form 10-K.
F-9
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Long-Lived Assets
The Company evaluates the recoverability of its long-lived assets whenever
circumstances or events indicate such assets might be impaired. The Company
would recognize an impairment reserve in the event the net book value of such
assets exceeded the future undiscounted cash flows attributable to such assets.
No such reserves have been recorded in the three years ended December 31, 2003.
Software Development Costs
Software development costs are accounted for in accordance with Statement
of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer
Software to be Sold, Leased or Otherwise Marketed" ("SFAS 86"). Under SFAS 86,
capitalization of software development costs begins upon the establishment of
technological feasibility, subject to net realizable value considerations. The
costs capitalized include the coding and testing of the product after the
technological feasibility has been established and ends upon the release of the
product. The capitalized costs are amortized to cost of sales on a straight-line
basis over the estimated life of the product, generally three years. As of
December 31, 2003, 2002, and 2001, such costs were insignificant.
Stock-Based Compensation
Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"). The Company has elected to continue to use the intrinsic value based
method of Accounting Principles Board Opinion No. 25,"Accounting for Stock
Issued to Employees", as allowed under SFAS 123, to account for its employee
stock-based compensation plans. The Company complies with the disclosure
provisions of SFAS 123.
Revenue Recognition
Revenue is recognized when earned in accordance with applicable accounting
standards, including AICPA Statement of Position ("SOP") No. 97-2, "Software
Revenue Recognition", as amended, Staff Accounting Bulletins 101, "Revenue
Recognition in Financial Statements" ("SAB 101"), and the interpretive guidance
issued by the Securities and Exchange Commission and EITF issue number 00-21,
"Accounting for Revenue Arrangements with Multiple Elements", of the FASB's
Emerging Issues Task Force. The Company recognizes revenues from sales of
software products upon shipment, provided that persuasive evidence of an
arrangement exists, collection is determined to be probable, all non-recurring
engineering work necessary to enable the Company's product to function within
the customer's application has been completed and the Company's product has been
delivered according to specifications. Revenue from service subscriptions is
recognized as costs are incurred or over the service period which-ever is
longer.
Software license agreements may contain multiple elements, including
upgrades and enhancements, products deliverable on a when and if available basis
and post contract support. Revenue from software license agreements is
recognized upon delivery of the software, provided that persuasive evidence of
an arrangement exists, collection is determined to be probable, all nonrecurring
engineering work necessary to enable the Company's products to function within
the customer's application has been completed, and the Company has delivered its
product according to specifications. Deferred revenue is recorded for upgrades,
enhancements and post contract support, which is paid for in addition to license
fees, and is recognized as costs are incurred or over the support period
which-ever is longer. Vendor specific objective evidence of the fair value for
multiple element software license agreements is determined by the price charged
for the same element when sold separately or the price determined by management
having the relevant authority when an element is not yet sold separately. The
price established by management for the element not yet sold separately will not
change prior to separate introduction of that element into the marketplace.
Revenue from system integration activities, which represents the sale and
installation of third party computer equipment and limited related consulting
F-10
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Revenue Recognition (continued)
services which requires little modification or customization to the software, is
recognized upon installation as projects are short term in nature, provided
persuasive evidence of an arrangement exists, collection of the resulting
receivable is probable and the system is functioning according to
specifications. Service subscription revenues associated with the system
integration activities are recognized as costs are incurred or over the service
period which-ever is longer.
The online/retail sales category includes sales of software made directly
from the Company's website, which are downloaded either directly by a reseller
or to a customer of such reseller. In both cases, the reseller reports the
number of units sold each month by submitting payment and a royalty report. The
reseller receives a percentage of each sale. The Company allows the on-line
resellers a right of return or right of offset. The number of units reported is
net of any product returns from prior months. The Company recognizes revenues on
the net amount reported by the resellers each month. The Company has a limited
number of resellers for its software available through the Company's website.
The online/retail sales category also includes sales made through retail
establishments under the Elibrium agreement. Revenue from software product sales
through retail are recognized upon notification from Elibrium of the number of
units sold through Elibrium's retail customers provided collection of the
resulting receivable is reasonably assured.
Major Customers
Handwriting Recognition Segment. Historically, the Company's handwriting
recognition segment revenues have been derived from a limited number of
customers. One customer, a major insurance company, accounted for 19% of total
segment revenue for the year ended December 31, 2003. One customer, Nationwide
Building Society, accounted for 11% of total segment revenues for the year ended
December 31, 2002. One customer, The Prudential Insurance Company of America
accounted for 16% of total segment revenues for the year ended December 31,
2001.
Systems Integration Segment. One customer, Fujitsu Ltd., accounted for 21%
of total system integration revenue for the year ended December 31, 2003. This
same customer accounted for 30%, and 16% of total segment revenues for the years
ended December 31, 2002 and 2001, respectively.
One customer accounted for 14% of total revenues for the year ended
December 31, 2003. One customer accounted for 10% of total revenues for the year
ended December 31, 2002. One customer accounted for 13% of total revenues for
the year ended December 31, 2001.
Research and Development
Research and development costs are charged to expense as incurred.
Advertising
The Company expenses advertising costs as incurred. Advertising expense for
the years ended December 31, 2003, 2002, and 2001 was $0, $112 and $203,
respectively.
F-11
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Net Loss Per Share
The Company calculates earnings per share under the provisions of Statement
of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128").
SFAS 128 requires the disclosure of both basic earnings per share, which is
based on the weighted average number of shares outstanding, and diluted earnings
per share, which is based on the weighted average number of shares and dilutive
potential shares outstanding. For the years ended December 31, 2003, 2002 and
2001, potential equivalent shares excluded from the calculation of diluted
earnings per share, as their effect is not dilutive, include stock options of
5,911, 6,452 and 7,027 of equivalent shares. There were no warrants outstanding
at December 31, 2003 or 2002. Warrants excluded from the calculation in 2001
were 237 equivalent shares.
Foreign Currency Translation
The Company considers the functional currency of the Joint Venture to be
the local currency and, accordingly, gains and losses from the translation of
the local foreign currency financial statements are included as a component of
"accumulated other comprehensive loss" in the accompanying consolidated balance
sheets. Foreign currency assets and liabilities are translated into U.S. dollars
at the end-of-period exchange rates except for long-term assets and liabilities,
which are translated at historical exchange rates. Revenues and expenses are
translated at the average exchange rates in effect during each period except for
those expenses related to balance sheet amounts which are translated at
historical exchange rates.
Net foreign currency transaction gains and losses are included in "Interest
income and other income (expense), net" in the accompanying consolidated
statements of operations. Foreign currency transaction gains in 2003, 2002 and
2001 were insignificant.
Income Taxes
Deferred tax assets and liabilities are recognized for the expected tax
consequences of temporary differences between the tax bases of assets and
liabilities and their financial statement reported amounts and for tax loss and
credit carryforwards. A valuation allowance is provided against deferred tax
assets when it is determined to be more likely than not that the deferred tax
asset will not be realized.
Acquisition of Assets From PenOp
On October 6, 2000, a wholly-owned subsidiary of the Company, (the
"Buyer"), acquired certain assets of PenOp Limited ("PenOp") and its subsidiary
PenOp Inc., (collectively, the "Sellers") pursuant to an asset purchase
agreement dated as of September 29, 2000, by and among Buyer and the Sellers for
4.7 million shares of common stock (the "Transaction Shares") of the Company
(the "Acquisition"). The Company ascribed a value of $5,728 to the assets, which
will be charged to income over the estimated lives of the assets, five to
seventeen years.
Pursuant to the asset purchase agreement, the Company agreed to use
reasonable efforts to file a registration statement under the Securities Act of
1933, as amended (the "Act"), covering the sale of the Transaction Shares no
later than thirty (30) days from closing and to use reasonable efforts to have
the registration statement declared effective as soon as practicable thereafter.
The registration statement was declared effective on November 22, 2000.
Subsequent to the closing, an officer and Chairman of the Board of the
Company at that time, and his designees, purchased in a private transaction an
aggregate of 1,713,728 shares of common stock received by Sellers in connection
with the Acquisition for $3.3 million.
F-12
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
1. Nature of Business, Basis of Presentation and Summary of Significant
Accounting Policies (continued)
Equity Line of Credit Agreement
In July 2002, the Company negotiated a Line of Credit agreement with
Cornell Capital Partners, LP expiring two years from the effective date of the
related registration statement (i.e. February 14, 2005). The Company may
periodically issue and sell shares of its common stock and/or borrow funds up to
an aggregate amount of $15,000, subject to the number of shares available for
issuance and the purchase price of such shares. As of December 31, 2003, the
Company had received $2,000 gross ($1,589 net of related costs) for
approximately 8,621 shares. There is approximately 16,000 shares available for
issuance against the Line of Credit at December 31, 2003. In addition, in 2003
the Company borrowed $750 pursuant to the Line of Credit agreement (See Note 4).
When the Company requests an advance under the Line of Credit, Cornell
Capital Partners, L.P. will purchase shares of common stock of the Company for
100% of the "Market Price" of its stock (less a 6.5% advance fee). Market Price
is defined as the lowest volume weighted average price of the Company's common
stock as reported by Bloomberg, LP, calculated over four of the five trading
days after the Company requests an advance. The maximum amount of each advance
may not exceed $1 million in any 30-day period. In addition, in no event shall
the number of shares issuable to Cornell Capital Partners, LP cause Cornell to
own in excess of 9.9% of the then outstanding shares of the Company's common
stock. On each advance date, the Company must pay to Cornell Capital Partners,
L.P. an advance fee equal to 6.5% of the amount of each advance. Closing is held
six (6) trading days after such written notice, at which time the Company
delivers shares of common stock and Cornell Capital Partners, L.P. pays the
advance amount. Cornell Capital Partners, L.P. cannot transfer its interest in
the Line of Credit to any other person and cannot engage in short sales of
shares of common stock acquired under the Line of Credit.
Recent Pronouncements
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" (FIN 46). FIN 46 changes the criteria by which one
company includes another entity in its consolidated financial statements.
Previously, the criteria were based on control through voting interest. FIN 46
requires a variable interest entity to be consolidated by a company if that
company is subject to a majority of the risk of loss from the variable interest
entity's activities or entitled to receive a majority of the entity's residual
returns or both. A company that consolidates a variable interest entity is
called the primary beneficiary of that entity. The consolidation requirements of
FIN 46 apply immediately to variable interest entities created after January 31,
2003. The consolidation requirements apply to older entities in the first fiscal
year or interim period beginning after June 15, 2003. Certain of the disclosure
requirements apply in all financial statements issued after January 31, 2003,
regardless of when the variable interest entity was established.
During October 2003, the FASB deferred the effective date for applying the
provisions of FIN 46 until the end of the first interim or annual period ending
after December 31, 2003 if the variable interest was created prior to February
1, 2003 and the public entity has not issued financial statements reporting that
variable interest entity in accordance with FIN 46.
On December 24, 2003, the FASB issued FASB Interpretation No. 46 (Revised
December 2003), "Consolidation of Variable Interest Entities," (FIN-46R)
primarily to clarify the required accounting for interests in variable interest
entities. FIN-46R replaces FIN-46 that was issued in January 2003. FIN-46R
exempts certain entities from its requirements and provides for special
effective dates for entities that have fully or partially applied FIN-46 as of
December 24, 2003. In certain situations, entities have the option of applying
or continuing to apply FIN-46 for a short period of time before applying
FIN-46R. While FIN-46R modifies or clarifies various provisions of FIN-46, it
also incorporates many FASB Staff Positions previously issued by the FASB.
Management is currently assessing the impact, if any, FIN 46 may have on the
Company; however, management does not believe there will be any material impact
to the Company's financial position, results of operations or liquidity
resulting from the adoption of this interpretation.
F-13
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." SFAS 149 amends and clarifies
financial accounting and reporting of derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under SFAS 133, "Accounting for
Derivative Instruments and Hedging Activities." This Statement is effective for
contracts entered into or modified after June 30, 2003, except for certain
hedging relationships designated after June 30, 2003. The adoption of this
Statement did not have a material impact on the Company's financial position,
results of operations, or cash flows.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
150 establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. It
requires that issuers classify a financial instrument that is within its scope
as a liability (or an asset in some circumstances). With certain exceptions,
this Statement is effective for financial instruments entered into or modified
after May 31, 2003, and otherwise is effective at the beginning of the first
interim period beginning after June 15, 2003. The adoption of this Statement did
not have a material impact on the Company's financial position, results of
operations, or cash flows.
In December 2003, the FASB issued SFAS No. 132 (Revised 2003) "Employers'
Disclosures about Pensions and Other Postretirement Benefits" (SFAS 132R). This
standard replaces SFAS 132 of the same title which was previously issued in
February 1998. SFAS 132R was issued in response to concerns expressed by
financial statement users about their need for more transparency of pension
information. The revised standard increases the existing GAAP disclosures for
defined benefit pension plans and other defined benefit postretirement plans.
However, it does not change the measurement or recognition of those plans as
required under: SFAS 87, "Employers' Accounting for Pensions"; SFAS 88,
"Employers' Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits"; and SFAS 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions." Specifically, the
revised standard requires companies to provide additional disclosures about
pension plan assets, benefit obligations, cash flows, and benefit costs of
defined benefit pension plans and other defined benefit postretirement plans.
Also, for the first time, companies are required to provide a breakdown of plan
assets by category, such as debt, equity and real estate, and to provide certain
expected rates of return and target allocation percentages for these asset
categories. The revised SFAS132R is effective for financial statements with
fiscal years ending after December 15, 2003 and for interim periods beginning
after December 15, 2003. The adoption of this Statement did not have a material
impact on the Company's financial position, results of operations, or cash
flows.
In December 2003, the Staff of the Securities and Exchange Commission (SEC)
issued Staff Accounting Bulletin (SAB) No. 104, "Revenue Recognition," which
supersedes SAB No. 101, "Revenue Recognition in Financial Statements." The
primary purpose of SAB No. 104 is to rescind accounting guidance contained in
SAB No. 101 and the SEC's "Revenue Recognition in Financial Statements
Frequently Asked Questions and Answers" related to multiple element revenue
arrangements. The Company does not expect the issuance of SAB No. 104 to
significantly impact its current revenue recognition policies.
2. Chinese Joint Venture
The Company currently owns 90% of a joint venture (the "Joint Venture")
with the Jiangsu Hongtu Electronics Group, a provincial agency of the People's
Republic of China (the "Agency"). In June 1998, the registered capital of the
Joint Venture was reduced from $10,000 to $2,550. As of December 31, 2003, the
Company had contributed an aggregate of $1,800 in cash to the Joint Venture and
provided it with non-exclusive licenses to technologies and certain distribution
rights and the Agency had contributed certain land use rights. Following the
reduction in registered capital of the Joint Venture, neither the Company nor
the Agency is required to make further contributions to the Joint Venture. Prior
to the reduction in the amount of registered capital, the Joint Venture was
subject to the annual licensing requirements of the Chinese government.
Concurrent with the reduction in registered capital, the Joint Venture's
business license has been renewed through October 18, 2043.
F-14
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
3. Comprehensive Income
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
130"). The Company adopted SFAS 130 effective January 1, 1998. SFAS 130 requires
that all items recognized under accounting standards as components of
comprehensive earnings be reported in an annual statement that is displayed with
the same prominence as other annual financial statements. SFAS 130 also requires
that an entity classify items as other comprehensive earnings by their nature in
an annual financial statement. For example, other comprehensive earnings may
include foreign currency translation adjustments, minimum pension liability
adjustments, and unrealized gains and losses on marketable securities classified
as available-for-sale.
The accumulated other comprehensive loss at December 31, 2003 and 2002
consisted of cumulative foreign currency translation adjustments.
4. Short-term Debt - other
On December 19, 2003, the Company borrowed $750 from Cornell Capital
Partners, LP. The proceeds of the loan were used for working capital purposes.
The loan is secured by 4,621 shares of the Company's common stock held in
escrow. The promissory note is due and payable in seven installments, commencing
January 19, 2004 and ending on March 1, 2004, and may be paid in cash or shares
of the company's common stock. The Company has the option to delay the
commencement of the installment payments for an unlimited number of 30 day
periods for an amount equal to 2% of the principal amount owed on or before the
beginning of the current option period. The 2% payment may be made in cash or
shares of common stock. Any delay in the commencement date will result in an
equal delay in the due date of the note. If the note is not paid in full when
due, the outstanding principal owed shall be due and payable in full together
with interest at the rate of 2% per annum commencing from the due date.
Subsequent to December 31, 2003, the Company exercised its right to delay
the commencement of the installment payments by paying the 2% fee discussed
above. Such fees aggregated $38 were paid in cash and expensed. The company
intends to repay the loan by issuing shares of its Common stock.
5. Short-term and Long-term Debt - related party
Short-term debt - related party
On June 19, 2001, the Company consummated a three-year $3,000 financing
(the "Loan") with a charitable remainder annuity trust, a trustee of which was
then a director and officer of the Company (the "Trust"). The proceeds of the
Loan were used to refinance $1,500 of indebtedness outstanding to the Trust
pursuant to a loan made by the Trust to the Company in October 1999 and for
working capital purposes. The Loan is secured by a first priority security
interest in all of the Company's assets as now owned or hereafter acquired by
the Company. The Loan bears interest at the rate of 2% over the prime rate
publicly announced by Citibank N. A. from time to time, which was 6.00% per
annum at December 31, 2003, and is due June 18, 2004. As of December 31, 2003
the Loan was classified as short-term debt. The Loan may be pre-paid by the
Company in whole or in part at any time without penalty, subject to the right of
the Trust to convert the outstanding principal amount of the Loan into shares of
common stock. Pursuant to the terms of the Loan, the Trust has the option, at
any time prior to maturity, to convert all or any portion of the outstanding
principal amount of the Loan into shares of common stock of the Company at a
conversion price of $2.00 per share, subject to adjustment upon the occurrence
of certain events. If, prior to maturity of the Loan, the Company consummates
one or more financings providing $5 million or more in gross proceeds, the
Company is required to apply 50% of the proceeds in excess of $5 million to the
then outstanding principal amount of the Loan.
In connection with the Loan, the Company entered into a registration rights
agreement with the Trust which obligates the Company to file a registration
statement with the Securities and Exchange Commission covering the sale of the
shares of the Company's common stock issuable upon conversion of the Loan if it
receives a demand by the holder of the Loan to do so, and to use its reasonable
best efforts to cause such registration statement to become effective. The Trust
has made no demand of the Company to file such registration statement as of
December 31, 2003.
F-15
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
5. Short-term and Long-term Debt - related party (continued)
Short-term debt - related party
In 2002, $16 and in 2001, $150 in consulting fees, including office
expenses, were paid to a party who, at that time, was a director and Chairman of
the Board.
The weighted average interest rate was 6.8%, 6.8% and 8.8% for the years
ended December 31, 2003, 2002, and 2001, respectively.
Interest expense for the years ended December 31, 2003, 2002, and 2001 was
$205, $205, and $282, respectively. Interest expense associated with related
party debt was $183, $200 and $274 for the years ended December 31, 2003, 2002
and 2001, respectively.
Long-term debt - related party
In June 2003 the Company's Joint Venture borrowed from one of its directors
approximately $24 denominated in U. S. dollars to purchase a replacement van
used in the Company's operations. The note bears interest at the rate of 5% per
annum, and is due in June 2006. Principal payments on long term debt are $8, $8,
and $5 for the years ended December 31, 2004, 2005, and 2006, respectively.
6. Stockholders' Equity
Common Stock Options
In 1994 the Company adopted the 1994 Stock Option Plan (the "1994 Plan").
Under1994 Plan directors, officers and employees are eligible for grants of
incentive and non-qualified stock options. In May 1997, the stockholders
approved an increase of 1,000 shares to the number of shares authorized for
issuance under the 1994 Plan. Accordingly, a total of 6,000 shares of Common
Stock are authorized for issuance under the 1994 Plan. The exercise prices of
options under the 1994 Plan are determined by a committee of the Board of
Directors, but, in the case of an incentive stock option, the exercise price may
not be less than 100% of the fair market value of the underlying Common Stock on
the date of grant. Non-qualified options may not have an exercise price of less
than 85% of the fair market value of the underlying Common Stock on the date of
grant. Options under the 1994 Plan are generally exercisable over a period not
to exceed seven years and vest quarterly over three years. At December 31, 2003,
there were 596 options available for grant under the 1994 Plan. As of December
31, 2003, 994 plan options were outstanding and exercisable with a weighted
average exercise price of $0.85 per share.
The Company has issued non-plan options to its employees and directors. The
non-plan options vest over four years or prorata quarterly over three years. For
those non-plan options which vest over four years, 20% of the total non-plan
options granted vest on the first anniversary of the date of grant and an
additional 20%, 20%, and 40% of the total non-plan options granted vest on the
second, third, and fourth anniversaries of the date of grant, respectively.
Non-plan options are generally exercisable over a period not to exceed seven
years. As of December 31, 2003, 3,115 non-plan options were outstanding and
exercisable with a weighted average exercise price of $0.84 per share.
In June 1999, the Company adopted and the shareholders approved a stock
option plan (the "1999 Plan"). Incentive and non-qualified options under the
1999 Plan may be granted to employees, officers, and consultants of the Company.
There are 4,000 shares of Common Stock authorized for issuance under the 1999
Plan. The options have a seven year life and generally vest quarterly over three
years. At December 31, 2003, there were 2,130 shares available for future grants
As of December 31, 2003, 1,802 plan options were outstanding and 1,089 plan
options were exercisable with a weighted average exercise price of $0.79 per
share.
F-16
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
Information with respect to the Company's 1994 Plan and the 1999 Plan is
summarized below:
Year Ended December 31,
-------------------------------------------
2003 2002
--------------------- ------------------
Weighted Weighted
Average Average
Shares Exercise Exercise
Price Shares Price
-------------------------------------------
Outstanding at beginning of period.. 3,337 $1.26 3,442 $1.48
Granted............................. 858 $0.32 1,108 $0.60
Exercised........................... - $0.00 (169) $0.75
Forfeited........................... (1,399) $1.83 (1,044) $1.34
----------- ---------
Outstanding at period end........... 2,796 $0.71 3,337 $1.27
=========== =========
Options exercisable at period end.... 2,083 $0.81 2,422 $1.36
=========== =========
Weighted average grant-date
fair value of options granted
during the period.................... $0.27 $0.60
=========== =========
The following table summarizes information about stock options outstanding under
the 1994 Plan and the 1999 Plan at December 31, 2003:
Weighted Average
-------------------------------------------
Remaining
Options Contractual Life
Range of Exercise Prices Outstanding (Years) Exercise Price
- -------------------------------------------------------------------------------
$0.00 - $0.50.................. 848 7.0 $0.31
$0.51 - $2.00.................. 1,899 3.9 $0.83
$2.01 - $2.99.................. 8 0.1 $2.75
$3.00 - $7.50.................. 41 5.1 $3.37
--------------
2,796
==============
The following table summarizes information about stock options exercisable
under the 1994 Plan and the 1999 Plan at December 31, 2003:
Weighted
Options Average
Range of Exercise Prices Exercisable Exercise Price
------------------------------------------
$0.00 - $0.50................. 318 $0.31
$0.51 - $2.00................. 1716 $0.84
$2.01 - $2.99................. 8 $2.75
$3.00 - $7.50................. 41 $3.37
-------------------
2,083
===================
F-17
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123") as amended by Statement of Financial Accounting Standards No. 148,
"Accounting for Stock-Based Compensation-Transition and Disclosures-an Amendment
of FASB Statement No. 123". The Company has elected to continue to use the
intrinsic value based method of Accounting Principles Board Opinion No. 25, as
allowed under SFAS 123, to account for its employee stock-based compensation
plans. The Company complies with the disclosure provisions of SFAS 123.
Had compensation cost for the Company's option plans been determined based
on the fair value of the options at the date of grant, as prescribed by SFAS
123, the Company's net loss available to common stockholders and basic and
diluted net loss per share available to stockholders would have been as follows
for the year ended December 31:
2003 2002 2001
------------------------------------
Net loss as reported....................... $ (2,298) $ (3,561) $ (3,215)
Add: Stock-based employee compensation
expense included in reported results
of operations, net of related tax effects - - -
Deduct: Total stock-based employee
compensation expense determined under
fair value-based method for all awards, net
of related tax effects (380) (795) (1,528)
-----------------------------------
Pro forma net loss...................... $ (2,678) $ (4,356) $ (4,743)
====================================
Basic and diluted net loss per share
available to stockholders:
As reported.............................. $ (0.02) $ (0.04) $ (0.04)
Pro forma................................ $ (0.03) $ (0.05) $ (0.05)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions used for grants during the applicable periods: risk-free interest
rate of 2.37% for 2003, 2.26% for 2002, and 4.1% for 2001, an expected life of
6.65 years for 2003, 8.6 years for 2002, and 6.0 years for 2001, expected
volatility of 100% for all periods and dividend yield of 0% for all periods.
The Company expects to make additional option grants each year. The Company
believes the above pro forma disclosures are not representative of the pro forma
effects on reported results of operations to be expected in future periods.
As of December 31, 2003, 5,911 shares of Common Stock were reserved for
issuance upon exercise of outstanding options.
Warrants
At December 31, 2003 there were no warrants outstanding.
7. Commitments
Operating Lease Commitments
The Company currently leases 9,634 square feet, its principal facilities,
(the "Principal Offices) in Redwood Shores, California, pursuant to a sublease
that expires in 2006. In addition, the Company subleased to third parties
certain space adjacent to the Principal Offices through August 2001. The Joint
Venture leases approximately 1,500 square feet in Nanjing, China. In addition to
monthly rent, the U.S. facilities are subject to additional rental payments for
utilities and other costs above the base amount. Facilities rent expense was
approximately $450, $418, and $443, in 2003, 2002, and 2001, respectively.
Sublease income was approximately $35, for the year ended December 31, 2001.
Future minimum lease payments under noncancelable operating leases are
approximately, $419, $380, and $358 for the years ending December 31, 2004, 2005
and 2006, respectively. The Company's rent expense was
F-18
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
Operating Lease Commitments (continued)
reduced by approximately $35 in 2001 in connection with the subleases
described above. Future minimum payments required under capital leases, which
expire in 2007, were insignificant at December 31, 2003.
8. Income Taxes
As of December 31, 2003, the Company had federal net operating loss
carryforwards available to reduce taxable income through 2013 of approximately
$69,463. The Company also had federal research and investment tax credit
carryforwards of approximately $315 that expire at various dates through 2010.
Deferred tax assets and liabilities at December 31, consist of the
following:
2003 2002
----------------------------
Deferred tax assets:
Net operating loss carryforwards............ $ 27,785 $ 26,857
Credit carryforwards................ ....... 315 315
Deferred income............................. 67 40
Other, net.................................. 933 945
----------------------------
Total deferred tax assets................... 29,100 28,157
----------------------------
Valuation allowance......................... (29,100) (28,157)
----------------------------
Net deferred tax assets..................... $ - $ -
============================
Income tax (benefit) differs from the expected statutory rate as follows:
2003 2002 2001
Expected income tax benefit $ (799) $ (1,211) $ (1,093)
State income tax net of Federal (144) (214) (193)
benefit
Loss write off of foreign investment - (4,357) -
Change in valuation allowance 943 5,782 (1,286)
----------- ------------ -------------
Income tax benefit $ - $ - $ -
=========== ============ =============
A full valuation allowance has been established for the Company's net
deferred tax assets since the realization of such assets through the generation
of future taxable income is uncertain.
Under the Tax Reform Act of 1986, the amounts of, and the benefit from, net
operating losses and tax credit carryforwards may be impaired or limited in
certain circumstances. These circumstances include, but are not limited to, a
cumulative stock ownership change of greater than 50%, as defined, over a
three-year period. During 1997, the Company experienced stock ownership changes
which could limit the utilization of its net operating loss and research and
investment tax credit carryforwards in future periods.
9. Segment Information
Statement of Financial Accounting Standards No. 131, "Disclosures About
Segments of an Enterprise and Related Information" ("SFAS 131") establishes
standards for related disclosures about products and services, geographic areas
and major customers. The Company's information has been stratified into two
segments - Handwriting Recognition Software and Systems Integration.
The accounting policies followed by the segments are the same as those
described in the "Summary of Significant Accounting Policies." Segment data
includes revenues, as well as allocated corporate-headquarters costs charged to
each of the operating segments.
F-19
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
9. Segment Information (continued)
The Company identifies reportable segments by classifying revenues into two
categories Handwriting Recognition and System Integration. Handwriting
recognition software is an aggregate of three revenue categories, OEM,
Enterprise and Online sales. All handwriting recognition software is developed
around the Company's core technology. System integration represents the sale and
installation of third party computer equipment and systems that utilize the
Company's products. All sales below represent sales to external customers.
The table below presents information about reporting segments for the years
ended December 31:
Handwriting Systems
Recognition Integration Total
--------------- -------------- --------------
2003 Revenues $ 2,322 $ 712 $ 3,034
Loss from operations $ (2,106) $ (51) $ (2,157)
Total assets $ 6,294 $ 921 $ 7,215
Depreciation and
amortization $ 438 $ 18 $ 456
2002 Revenues $ 2,214 $ 1,015 $ 3,272
Loss from operations $ (3,307) $ (30) $ (3,337)
Total assets $ 6,181 $ 1,005 $ 7,186
Depreciation and
amortization $ 450 $ 17 $ 467
2001 Revenues $ 4,546 $ 1,401 $ 5,947
Loss from operations $ (2,842) $ (104) $ (2,946)
Total assets $ 8,662 $ 1,410 $ 10,072
Depreciation and
amortization $ 662 $ 25 $ 687
The following table represents revenues and long-lived asset information by
geographic location for the period ended December 31:
Revenues Long Lived Assets
------------------------------- ------------------------------------
2003 2002 2001 2003 2002 2001
--------- -------- -------- --------- --------- -----------
U.S. $ 2,003 $ 2,018 $ 4,223 $ 5109 $ 5,549 $ 5,916
China 1,031 1,254 1,724 71 31 44
--------- -------- -------- --------- ---------- -----------
Total $ 3,034 $ 3,272 $ 5,947 $ 5,180 $ 5,580 $ 5,960
========= ======== ======== ========= ========== ===========
Interest expense is related solely to Handwriting recognition segment and
was $205, $205, and $282, for the years ended December 31, 2003, 2002, and 2001,
respectively.
The Company's export sales from U.S. operations were 14%, 12%, and 16% of
total revenues in 2003, 2002, and 2001, respectively.
F-20
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
10. Statement of Cash Flows Data
December 31,
-------------------------------------
2003 2002 2001
Schedule of non-cash transactions:
Inventory reserve provision............. $ 38 $ - $ -
Non-cash compensation................... $ - $ - $ 46
Equity securities issued for services.... $ - $ - $ 58
10. Statement of Cash Flows Data (continued)
Supplemental disclosure of cash flow information:
Interest paid in 2003, 2002, and 2001 was $209, $212, and $196,
respectively.
11. Employee Benefit Plans
The Company sponsors a 401(k) defined contribution plan covering all
employees meeting certain eligibility requirements. Contributions made by the
Company are determined annually by the Board of Directors. To date, the Company
has made no contributions to this plan.
12. Quarterly information (Unaudited)
The summarized quarterly financial data presented below, in the opinion of
Management, reflects all adjustments which are of a normal and recurring nature
necessary to present fairly the results of operations for the periods presented.
First Second Third Fourth
Quarter Quarter Quarter Quarter Total
--------- -------- -------- -------- ---------
2003 Unaudited
Net sales $ 1,108 $ 572 $ 936 $ 418 $ 3,034
Gross profit $ 875 $ 450 $ 704 $ 240 $ 2,269
Loss before income
taxes, and minority
interest $ (310) $ (693) $ (470) $(888) $(2,361)
Net loss $ (310) $ (690) $ (472) $(873) $(2,345)
Basic and diluted loss
per share $ (0.01) $(0.01) $(0.01) $(0.01) $ (0.02)
2002 Unaudited
Net sales $ 1,157 $1,111 $ 525 $ 479 $ 3,272
Gross profit $ 716 $ 808 $ 321 $ 270 $ 2,115
Loss before income
taxes, and minority
interest $ (688) $(670) $(1,068) $(1,133) $(3,559)
Net loss $ (688) $(671) $(1,070) $ (1,132) $(3,561)
Basic and diluted loss
per share
$(0.01) $(0.01) $(0.01) $ (0.01) $(0.04)
F-21
Communication Intelligence Corporation
Notes to Consolidated Financial Statements
(In thousands)
12. Quarterly information (Unaudited) (continued)
First Second Third Fourth
Quarter Quarter Quarter Quarter Total
---------- ---------- --------- ----------- ---------
2001 Unaudited
Net sales $ 1,618 $1,903 $ 915 $1,511 $ 5,947
Gross profit $ 996 $1,201 $ 459 $1,051 $ 3,707
Loss before income
taxes, and minority
interest $(741) $(691) $(1,228) $(552) $(3,212)
Net loss $(741) $(693) $(1,229) $(552) $(3,215)
Basic and diluted loss
per share $(0.01) $(0.01) $(0.01) $(0.01) $(0.04)
F-22
SCHEDULE II
Communication Intelligence Corporation
Valuation and Qualifying Accounts and Reserves
(In thousands)
Years Ended December 31, 2001, 2002, and 2003
Balance Charged to Balance
At Beginning Costs and At End
Of Period Expense Deductions Of Period
------------------------------------------------
Year ended December 31, 2001:
Accounts receivable reserves.. $118 $160 $ - $278
Year ended December 31, 2002:
Accounts receivable reserves.. $278 $129 $ (164) $243
Year ended December 31, 2003
Accounts receivable reserves.. $243 $25 $ (12) $256
S-1