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U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003, or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission File Number 1-11860
FOCUS Enhancements, Inc.
(Name of Small Business Issuer in its Charter)
Delaware 04-3144936
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1370 Dell Ave
Campbell, CA 95008
(Address of Principal Executive Offices)
(408) 866-8300
(Issuer's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of Act:
Title of Each Class
-------------------
Common Stock, $.01 par value
Name of Exchange on which Registered
------------------------------------
Nasdaq
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes: |X| No: |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes: |_| No: |X|
Based on the closing sales price as of June 30, 2003 (the last business day
of the registrant's most recently completed second quarter), the aggregate
market value of the voting stock held by non-affiliates of the registrant was
approximately $44,224,443.
As of March 10, 2004, there were 43,177,902 shares of common stock
outstanding.
Document Incorporated by Reference: None.
Part I
Item 1. Description of Business
Forward Looking Statements
Some of the statements contained or incorporated by reference in this Report,
including those relating to our strategy and other statements that are
predictive in nature, that depend upon or refer to future events or conditions,
or that include words such as "expects," "anticipates," "intends," "plans,"
"believes," "estimates" and similar expressions, are forward-looking statements
within the meaning of Section 21E of the Exchange Act. These statements are not
historical facts but instead represent only the Firm's expectations, estimates
and projections regarding future events. These statements are not guarantees of
future performance and involve certain risks and uncertainties that are
difficult to predict, which may include, but are not limited to, the factors
discussed in "Risk Factors" found elsewhere in this Report. The nature of our
business makes predicting the future trends of revenues difficult. Caution
should be used when extrapolating historical results to future periods.
Our actual results and financial condition may differ, perhaps materially, from
the anticipated results and financial condition in any such forward-looking
statements and, accordingly, readers are cautioned not to place undue reliance
on such statements. We undertake no obligation to update any forward-looking
statements, whether as a result of new information, future events or otherwise.
General
Incorporated in 1992, we develop and market proprietary video technology in
two areas: semiconductors and video systems. We market our products globally to
OEM Manufacturers, and dealers and distributors in the consumer and professional
channels. Our semiconductor products include several series of Application
Specific Integrated Circuit (ASICs) that process digital and analog video to be
used with televisions, computer motherboards, graphics cards, video conferencing
systems, Internet TV, media center and interactive TV applications. We market
our ASICs through semiconductor distribution channels. Our system products are
designed to provide solutions in PC-to-TV scan conversion, video presentation,
digital-video conversion, video production and home theater markets. We market
our system products through both consumer and professional channels. Our system
products include video scan converters, video mixers, character generators, and
video processors.
Since our inception, we have emphasized gaining market awareness for our
products and increasing our intellectual property through both internal market
and product development as well as through acquisition. In September of 1996, we
acquired TView, Inc., a developer of PC-to-TV video conversion semiconductor
technology. We believe the acquisition was a strategic milestone in our
transition to the video convergence market. In July of 1998 we acquired PC Video
Conversion, Inc., a manufacturer of professional high-end video conversion
products. We later restructured this entity into a Professional Products
Research & Development group and consolidated its operations into our corporate
headquarters.
Our PC-to-TV technology provides sharp, flicker-free, computer-generated
images on televisions for multimedia/business presentations, classroom/training
sessions, game playing and Internet browsing.
In January of 2001, we completed our merger with Videonics, Inc.
(previously NASDAQ: VDNX). Videonics, a leading designer of affordable,
high-quality, digital video post-production equipment, developed and marketed
products for the expanding markets of Internet production and streaming, desktop
video editing and video presentations. Following the merger, we have taken
advantage of the complementary strategic fit of the businesses to build
attractively priced digital video solutions for an expanded customer base.
After the merger, we put in place a new management team and executed a
restructuring plan, which has significantly reduced our post-merger staffing in
the areas of operations, marketing, customer support and finance. In September
2002, we closed our Chelmsford facility and Brett Moyer, our former Chief
Operating Officer moved from Chelmsford to Campbell, California to accept the
role as Focus' President and Chief Executive Officer.
On January 28, 2004, we announced that we had entered into an Agreement and
Plan of Reorganization (pursuant to Section 368(a)(1)(C) of the Internal Revenue
Code) to acquire substantially all the assets and assume certain liabilities of
Visual Circuits Corporation (Visual Circuits), located in Minneapolis,
Minnesota, solely in exchange for 3,805,453 shares of our voting common stock,
subject to certain adjustments. Founded in 1991, Visual Circuits is a leading
manufacturer and developer of integrated hardware, software and network products
that manage, schedule, distribute, store and present digital video in
commercial-market media applications. Visual Circuits' products are found
worldwide in retail, entertainment, education and healthcare facilities and
range from circuit boards to standard and high-definition network-storage media
2
appliances. Its products are sold primarily through system integrators and
commercial AV dealers. Visual Circuits' products are designed to serve both Pro
AV and IT requirements. The acquisition is subject to the approval of Visual
Circuits' shareholders. The acquisition is anticipated to close by April 30,
2004, and will require approval and a declaration of effectiveness by the SEC of
an S-4 registration statement covering the FOCUS Enhancements voting common
shares to be issued to Visual Circuits.
On March 2, 2004 we announced that we had completed the acquisition of COMO
Computer & Motion GmbH (COMO), located in Kiel, Germany, through the issuance of
approximately 795,000 shares of the our common stock. We may also issue an
additional approximately 46,000 shares of our common stock, to COMO's
shareholders in the event certain conditions are met at the end of fiscal 2004
and fiscal 2005. Founded in 1990, COMO manufactures and distributes digital
video solutions. COMO's key products are Digital Media Management Server
Systems, Hard Disk Video Recorder, Videomixer PCI Boards, and Videosignal
Transcoder. COMO products are sold worldwide and can be found in Broadcast and
Industrial Applications.
Our executive offices are located at 1370 Dell Avenue, Campbell, CA
95008-6604 and our Semiconductor Group is located at 22867 Northwest Bennett
Rd., Hillsboro, Oregon 97124. Focus' general telephone number is (408) 866-8300,
and our Worldwide Web address is http://www.Focusinfo.com. Information contained
on the Website is not part of this document.
Business Strategy
In 2003, we continued to concentrate on the Semiconductor and System
product groups. ASIC chip products are targeted for the scan conversion,
commercial television, video conferencing, media gateway and set top boxes for
the cable, Internet appliance, gaming, and home gateway industries. These are
industries that require the best video conversion technology available in the
market. We continue to design complete products for the professional audio video
and home theater markets using our proprietary software and ASIC designs to
deliver feature rich products to the market.
During the years ended December 31, 2002 and 2001, the Company only had
operations in the United States. During 2003, we established a semiconductor
sales office in Taiwan, with a total of two employees. Property plant and
equipment purchases to date have been insignificant. All orders taken by our
Taiwan sales office are approved by our U.S. headquarters and shipped from the
U.S.
The following table summarizes revenue by geographic area (in thousands):
2003 2002 2001
------- ------- -------
United States.................................. $21,066 $12,828 $18,170
Americas (excluding the United States)......... 208 288 837
Europe......................................... 1,745 1,513 1,323
Asia........................................... 3,556 2,683 2,978
------- ------- -------
Total..................................... $26,575 $17,312 $23,308
======= ======= =======
Our Products
We market two distinctive product lines: semiconductors and video system
products. Our system products (professional and consumer) target video
production and home entertainment and our semiconductor products target the
video convergence market.
Semiconductor Products
Our ASIC (Application Specific Integrated Circuit) chips are custom
designed for a specific application rather than a general-purpose chip like a
microprocessor. The use of ASIC chips improves performance over general-purpose
CPUs, because the chips are "hardwired" to do a specific job. Our products
provide solutions for customers who need high quality digital images on a
television screen. The PC-to-TV video convergence market exists as a result of
incompatibility between a PC's progressive scan image and the TV's interlace
image. Our ASIC products include the FS400, FS450, FS453/4 and FS460 series used
for scaling, mixing, blending, scan conversion, Internet TV and interactive TV
applications. These chips, due to their features and applicability, are used in
many of the Company's consumer systems products. The following is a listing of
the many applications for our chips:
o Media Centers
o Gaming Consoles
3
o Graphic Design and Animation Hardware
o Information Appliances
o Interactive Home Entertainment
o Interactive Television
o PC Video Out (TV-Ready PC's)
o Point of Sales Terminals
o Seamless Switchers
o Set Top Boxes
o Teleconferencing Systems
o Television Broadcast and Video Design
o Video Kiosks
o Web Appliances
o Automotive Video
The wide expanse of applications for our semiconductor products provides us
with the opportunity to grow our business.
In early 1999, we introduced our fourth generation proprietary NTSC/PAL
digital video co-processor technology to designers of video and large display
monitor products. Our FS400 series of ASICs has patented designs that
dramatically improve video quality while reducing cost for the manufacturer. Our
consumer electronics product line marketed under the TView brand uses the FS400
ASIC chip. The chips are marketed to manufacturers of video-conferencing
equipment and commercial television OEMs.
We began shipping the FS450, an advanced PC-to-TV co-processor, to OEM
customers in May of 2000. The FS450 chip incorporates a broadcast quality
encoder and programmable, flat, artifact-free scaling and an advanced 2D-flicker
filter. The FS450 is targeted for Internet set-top boxes, Cable/DVD Player
set-top boxes, Internet appliances, graphic cards and laptops.
In May of 2001, we launched the FS460, our second ASIC chip co-developed
with Intel. This ASIC was designed for Multimedia Gateways and Interactive
Television applications. It allows our customers to build products that merge
computer generated graphics with up to two other independent video sources into
one television signal. This allows products with interactive buttons to overlay
video, for PIP (picture in picture) and Program guide information to
simultaneously exist on the video screen, or to play games while maintaining
internet access and monitoring video. The chip allows user interaction with
on-screen content for applications such as advanced interactive TV, web surfing,
online games and e-commerce. The chip supports the European MHP standard, and is
a cost-effective solution for use with Intel architecture. The FS460 complements
Intel's graphic systems and is supported by the Intel 810, 815 and certain
future graphic chip-sets and is compatible with Intel Celeron processors, Intel
Pentium III processors and Intel Pentium IV processors.
In August of 2002, we announced the FS454. The FS454 is the latest chip in
the series, and was designed for use in the Microsoft Xbox. Microsoft funded
$2.1 million for the development of the FS454. In July of 2003, we began
production shipments of the FS454 to Microsoft, just in time to meet the
Microsoft's Xbox peak production period (August - November). Although we will
continue shipments into first quarter of 2004, shipments will be at
significantly reduced levels when compared to the third and fourth quarters of
2003. In January 2004, we were informed by Microsoft that we should not expect
further orders for the FS454. Shipments of the FS454 in 2003, which were
primarily to Microsoft, represented 37% of the Company's total net revenues. In
addition to compatibility with the Microsoft Xbox, the FS454 has broad
applications in other products that need TV-Out, such as PC's, media centers and
media adaptors. The chip provides normal TV and HDTV outputs, has a small
footprint, and has low power consumption for notebook PC requirements.
During 2003, we have been developing UltraWide Band (UWB) technology for
use in transmitting wireless video. We are a founding member of the Multiband
OFDM Alliance (MBOA), which announced the formation of the MBOA Special Interest
Group (SIG) at the Intel Developer Forum on February 18, 2004. We intend to
develop chips and system products for this emerging market. During 2003,
approximately 37% of our total research and development expenses have been
invested in developing UWB technology. The Company anticipates that it will
continue to invest a significant amount of its research and development efforts
in UWB technology over the next two years. Based on its current development
activities, the Company anticipates its first UWB production chip in the second
half of 2005.
4
System Products
Professional Products
The professional product line provides a broad range of digital video
solutions for the specialized video consumer, videographer and broadcast
professional. Our product line includes products in the categories of Video
Acquisition, Processing and Conversion, and Display and Distribution -- typical
steps associated with video content production. Specific product functionality
includes, recording video to disk, character generating, digital video mixing,
digital video file conversion, and format/resolution scaling.
Video Acquisition. FireStoreTM, is the first direct to disk converter that
can format the DV video format into an instantly editable format for all major
editing programs and record this to a standard an IEEE-1394 computer hard drive
at the time of acquisition. During the 2003, we broadened the FireStore product
line. In August 2003, we introduced the camera -mounted FireStore FS-3, and the
FireStore DRDV-5000 variation, which we manufacture for JVC Corporation. In
September 2003 we acquired DVUnlimited, a small Hungarian company to assimilate
their digital video file conversion programs into the FireStore line, as a suite
of utility software.
The FireStore DR-DV5000 DV disk recorder was given the Vidy Award for Best
of Show at this year's National Association of Broadcasters (NAB) Expo from the
Videography Division of United Entertainment Media, which includes Videography,
DigitalTV, Government Video and Digital Cinema magazines.
Processing and Conversion. Post-acquisition intermediate steps in the video
production process are served by our MXPro family of digital video mixers and
our TitleMaker video titling products.
Display and Distribution. On the presentation side of the Video production
workflow, our CenterStage video processors bring high quality video to front or
rear-projection, plasma, CRT, and LCD displays used in today's home theaters and
professional presentation rooms. The CenterStage CS-1 received the Scaler Of The
Year Award from The Perfect Vision magazine based on its performance, innovation
and value. The CenterStage CS-HD received the EXCITE Award, given for Excellence
in Custom-Install Products by CustomRetailer magazine.
These products are sold through a network of national and international
distributors in more than 90 countries worldwide.
Consumer Products
TView, our consumer line of scan converters, builds on PC-to-TV convergence
technology. The TView products, which are sub-categorized Gold, Silver and Micro
for performance and description, turn any standard television into a large
screen computer display. The product line targets presenters, educators,
trainers and the rapidly expanding gamers market. The iTView Mac, targets the
Apple iMac and eMac, and is our latest product release for these channels. The
majority of the products in the consumer line integrate the core technology
provided by our FS400 family of Semiconductors. The TView Gold product accepts
computer desktop resolutions up to 1600x1280 at millions of colors on both
Window and Mac platforms. Much like the professional products, the TView line is
offered in multiple forms including a portable version for mobile users.
Research and Development
We continue to invest heavily in research and development. Of the $4.3
million invested on research and development in 2003, approximately 56% was in
ASIC chip development and support activities, with the remainder to support new
products for the professional and home theater markets.
Intellectual Property and Proprietary Rights
As of March 10, 2004, we held four patents and one pending application
(combining five previous provisional patent applications) in the United States.
Certain of these patents have also been filed and issued in countries outside
the United States. Historically, we have relied principally upon a combination
of copyrights, common law trademarks and trade secret laws to protect the
proprietary rights to products that we market under the FOCUS, Videonics and
TView brand names.
Upon joining us, employees and consultants are required to execute
agreements providing for the non-disclosure of confidential information and the
assignment of proprietary know-how and inventions developed on our behalf. In
addition, we seek to protect trade secrets and know-how through contractual
restrictions with vendors and certain large customers.
5
There can be no assurance that these measures will adequately protect the
confidentiality of our proprietary information or that others will not
independently develop products or technology that are equivalent or superior to
ours.
Because of the rapid pace of technological innovation in our markets, we
believe that our success must generally rely upon the creative skills and
experience of our employees, the frequency of new product offerings and
enhancements, product pricing and performance features, a diversified marketing
strategy, and the quality and reliability of support services.
Marketing and Sales Strategy
Most electronic equipment manufacturers launch new technologies at industry
conferences such as COMDEX, the International Consumer Electronics Show (CES),
and the National Association of Broadcasters (NAB) Expo. In addition to
attending these events, we also visit major conferences in our target markets.
It is our experience that attendance at these conferences adds to our name
recognition and market acceptance.
In 2003, we continued to concentrate on the semiconductor and video system
product lines. While we believe that the semiconductor market offers the best
potential for future growth, we also recognize our video system products remain
an important and substantial contributor to our growth. Our semiconductor
products target the cable, Internet appliance, gaming and home entertainment
industries. We plan to continue our marketing efforts and vigorously pursue the
semiconductor market for its technology in 2004, building on our existing
agreements in the TV, PC, Video Conferencing and Internet appliance markets. We
also expect to concentrate our marketing efforts toward those OEMs which
dominate their respective markets and which have the manufacturing, sales and
distribution networks in place to capitalize on the forecasted growth for the
TV-to-PC convergence products over the next five years.
Distribution
In the United States and Canada, we market and sell our products through the
following channels:
o National resellers such as Micro Center, Fry's Electronics, and J&R
Music World;
o National distributors such as Ingram Micro, D&H Distributing and DBL
Distributing;
o Third-party mail order resellers such as B&H Photo and CDW;
o Video Value Added Resellers for ProAV Products;
o Direct to our customers via our Web site;
o Direct to our semiconductor customers, and
o Sales through OEM relationships
Internationally, our products are sold directly to certain large semiconductor
customers, resellers, independent mail order companies and system and
semiconductor distributors in numerous countries, including France, the United
Kingdom, Scandinavia, Germany, Switzerland, Italy, Australia, Mexico, Japan,
Taiwan, Hong Kong, China, Singapore, and the Republic of Korea.
Customer Support
We believe that our future success will depend, in part, upon the continued
strength of customer relationships. In an effort to ensure customer
satisfaction, we currently provide customer service and technical support
through a five-days-per-week "hot line" telephone service. We use 800 telephone
numbers for customer service and a local telephone number for technical support
(the customer pays for the phone charge on technical support). The customer
service and support lines are currently staffed by technicians who provide
advice free of charge to ensure customer satisfaction and obtain valuable
feedback on new product concepts. In order to educate our telephone support
personnel, we periodically conduct in-house training programs and seminars on
new products and technology advances in the industry.
We offer this same level of support for our entire domestic market
including direct market customers who purchase our products through computer
superstores or system integrators. Internationally, we also provide technical
support to international resellers and distributors who, in turn, give local
support to their customers.
We provide customers with a one to three-year warranty on all products and
will repair or replace a defective product still under warranty coverage. The
majority of defective product returns are repaired or replaced and returned to
customers within ten business days.
Our semiconductor group provides application support to its customers
through its own application engineers located both in the United States and in
Taiwan as well as through application engineers employed by our representatives
and distributors.
6
Competition
We currently compete with other developers of PC-to-TV conversion products
and of videographic integrated circuits. Although we believe that we are a
leader in the PC-to-TV conversion product marketplace, the video graphic
integrated circuit market is intensely competitive and characterized by rapid
technological innovations. This has resulted in new product introductions over
relatively short time periods with frequent advances in price/performance
ratios. Competitive factors in these markets include product performance,
functionality, product quality and reliability, as well as volume pricing
discounts, customer service, customer support, marketing capability, corporate
reputation, brand recognition and increases in relative price/performance ratios
for products serving these markets. In the PC-to-TV scan converter market, our
biggest competitor is AVerMedia. In the video graphic integrated circuits
market, we compete with Conexant, Philips, and Chrontel.
Many of our system products are marketed to professional broadcast studios,
post-production houses, video conferencing centers and the elite videographer.
Our system products compete for market share with Datavideo, Extron, and other
niche manufacturers.
Some of our competitors have greater technical and capital resources, more
marketing experience, and larger research and development staffs than we have in
the video graphic integrated circuits market. With an aggressive effort, our
competitors could severely affect our business.
We believe that we compete favorably on the basis of product quality and
technical benefits and features. We also believe we provide competitive pricing,
extended warranty coverage, and strong customer relationships, including
selling, servicing and after-market support for our finished products. However,
there can be no assurance that we will be able to compete successfully in the
future against existing companies or new entrants to the marketplace.
Manufacturing
We rely on subcontractors who operate under two different models in the
process of manufacturing our systems products. The first subcontractor type
utilizes components that we purchase and then send to the sub manufacturer who
in turn manufactures and tests board level subassemblies. The products that
incorporate these subassemblies are completed, tested and distributed at our
facility in Campbell, California. This model provides for higher margin and
control in a lower volume product
The second subcontractor type builds the entire product as designed and
specified by us for a fixed price. The second is a true turnkey manufacturer.
The turnkey house is responsible for component procurement, board level
assembly, product assembly, quality control testing and final pack-out. For
certain commercial PC-to-TV video conversion products, turnkey manufacturers
ship directly to the OEM customer and forward-shipping information to us for
billing. Non-turnkey manufacturing for system products is subcontracted to a
company located in Mexico.
We believe that the turnkey model is applicable to our higher-volume
products, and that it helps lower inventory and staffing. Our three turnkey
manufacturers accounted for approximately over 65% of our product manufacturing
capabilities in 2003. One manufacturer, based in Taiwan, supplies set top box
finished products. A manufacturer in Korea provides 100% of our ASIC production.
Another manufacturer in California supplies certain of our professional
products. Under the turnkey model, quality control is maintained through
standardized quality assurance practices at the build site and random testing of
finished products as they arrive at our fulfillment center. Management believes
that the turnkey model helps us to lower inventory and staff requirements,
maintain better quality control and product flexibility, achieve quicker product
turns and improved cash flow.
All customer returns are processed through our fulfillment center. Upon
receipt of a returned product, a trained technician tests the product to
diagnose the problem. If a product is found to be defective the unit is either
returned to the turnkey subcontractor for rework and repair or is repaired by us
and returned to the customer. The majority of defective product returns are
repaired or replaced and returned to customers within ten business days.
Personnel
As of December 31, 2003, we employed 77 people on a full-time basis, of
whom 25 are in research and development, 21 in marketing and sales, 3 in
customer support, 22 in operations, and 6 in finance and administration.
7
Backlog
At December 31, 2003, we had a backlog of approximately $1,076,000 for
products ordered by customers as compared to a backlog of $223,000 at December
31, 2002, an increase of $853,000 or 383%. We do not believe backlog for
products ordered by customers is a meaningful indicator of sales that can be
expected for a particular time period since the order patterns of our customers
in the past have demonstrated that backlog is episodic. See also Risk Factors
"Backlog should not be construed as indicative of future revenue or
performance."
Recent Developments
On January 28, 2004, we announced that we had entered into an Agreement and
Plan of Reorganization (pursuant to Section 368(a)(1)(C) of the Internal Revenue
Code) to acquire substantially all the assets and assume certain liabilities of
Visual Circuits Corporation (Visual Circuits), located in Minneapolis,
Minnesota, solely in exchange for 3,805,453 shares of our voting common stock,
subject to certain adjustments. Founded in 1991, Visual Circuits is a leading
manufacturer and developer of integrated hardware, software and network products
that manage, schedule, distribute, store and present digital video in
commercial-market media applications. Visual Circuits' products are found
worldwide in retail, entertainment, education and healthcare facilities and
range from circuit boards to standard and high-definition network-storage media
appliances. Its products are sold primarily through system integrators and
commercial AV dealers. Visual Circuits' products are designed to serve both Pro
AV and IT requirements. The acquisition is subject to the approval of Visual
Circuits' shareholders. The acquisition is anticipated to close by April 30,
2004, and will require approval and a declaration of effectiveness by the SEC of
an S-4 registration statement covering the FOCUS Enhancements voting common
shares to be issued to Visual Circuits.
On March 2, 2004 we announced that we had completed the acquisition of COMO
Computer & Motion GmbH (COMO), located in Kiel, Germany, through the issuance of
approximately 795,000 shares of the our common stock. We may also issue an
additional approximately 46,000 shares of our common stock, to COMO's
shareholders in the event certain conditions are met at the end of fiscal 2004
and fiscal 2005. Founded in 1990, COMO manufactures and distributes digital
video solutions. COMO's key products are Digital Media Management Server
Systems, Hard Disk Video Recorder, Videomixer PCI Boards, and Videosignal
Transcoder. COMO products are sold worldwide and can be found in Broadcast and
Industrial Applications.
These acquisitions will have a material impact on Focus' operations and
financial condition. We anticipate costs associated with these acquisitions,
including legal, accounting and associated finder's fees to exceed $400,000. It
is not possible at this time to predict the actual costs because of the ongoing
nature of the acquisitions. Furthermore, although it is not possible to
determine the amount, we expect increased compensation and general
administrative costs due to the acquisitions as we add employees and additional
offices. These costs should be offset somewhat by increased revenues, however,
it is not possible to determine the revenues that will be generated by the
acquisitions. For a further discussion these forward-looking statements and the
risks associated with the acquisitions, see "Item 7. Management's Discussion And
Analysis of Financial Condition and Results of Operation - Year ended December
31, 2003 compared to December 31, 2002 - Liquidity and Capital Resources," and
"-Risk Factors."
8
Item 2. Properties
Property Location and Primary Use Lease Expires Square Feet Monthly Rent
- --------------------------------- ------------- ----------- ------------
2 Milliston Rd. January 31, 2005 1,000 $ 945
Millis, MA
R&D
250 Village Sq. January 31, 2006 500 $ 1,350
Orinda, CA
R&D
22867 N.W. Bennet St December 31, 2005 7,400 $ 7,392
Hillsboro, OR
R&D
1370 Dell Avenue July 31, 2005 27,500 $27,500
Campbell, CA
Company Headquarters (Manufacturing, Sales, R&D, Marketing,
Customer Support, Administration)
- ---------------------
We believe that our existing facilities are adequate to meet current
requirements and that additional space, if needed, can be readily obtained on
comparable terms.
Item 3. Legal Proceedings
From time to time, we are party to certain other claims and legal
proceedings that arise in the ordinary course of business of which, in the
opinion of management, do not have a material adverse effect on our financial
position or results of operation.
Item 4. Submission Of Matters To A Vote Of Security Holders
At the Focus Annual Meeting of Stockholders on December 19, 2003, the following
proposals were approved:
Votes
----------------------------------------------------
For Withheld Abstained
--- -------- ---------
Election of the following as
a director of Focus:
Name Term
- ---- ----
William Coldrick (3 years) 37,798,727 2,380,751 780,207
Michael D'Addio (3 years) 38,979,726 1,199,752 780,207
The following directors' terms continued
after the meeting: Carl E. Berg, N.
William Jasper Jr., Timothy E. Mahoney
and Brett Moyer.
For Against Abstained
--- ------- ---------
Proposal to amend the Focus Enhancements
Inc., Certificate of Incorporation to
increase the number of shares of common
stock from 60,000,000 to 100,000,000. 35,874,934 4,233,727 70,817
Proposal to amend the Focus
Enhancements, Inc. 2002 Non-Qualified
Stock Option Plan. 5,517,477 4,485,446 78,695
Ratify the selection of Deloitte &
Touche LLP as Focus' accountants for the
year ending December 31, 2003. 39,868,768 158,133 152,577
9
Part II
Item 5. Market For Registrant's Common Equity And Related Stockholder Matters
(a) Trading in our common stock commenced on May 25, 1993 when we completed our
initial public offering. Since that time our common stock traded
principally on the Nasdaq SmallCap Market under the symbol "FCSE". The
following table sets forth the range of quarterly closing high and low bid
quotations for our common stock as reported by Nasdaq. The quotations
represent inter-dealer quotations without adjustment for retail markups,
markdowns or commissions, and may not necessarily represent actual
transactions. The closing price of our common stock on the Nasdaq SmallCap
Market on March 10, 2004 was $1.56 per share.
Common Stock
-------------------------
High Bid Low Bid
-------- -------
Calendar 2003 Quotations
Fourth Quarter $4.20 $1.85
Third Quarter 2.75 1.30
Second Quarter 1.46 0.60
First Quarter 1.35 0.50
Calendar 2002 Quotations
Fourth Quarter $1.69 $1.01
Third Quarter 1.70 1.01
Second Quarter 1.84 1.25
First Quarter 2.12 1.11
Calendar 2001 Quotations
Fourth Quarter $1.89 $0.77
Third Quarter 1.19 0.79
Second Quarter 1.42 0.72
First Quarter 1.78 0.75
As of March 10, 2004, Focus had approximately 175 holders of record and
43,177,902 shares of common stock outstanding on that date. As of March 10,
2004, approximately 10,000 stockholders held Focus voting common stock in street
name. It is not possible to determine the actual number of beneficial owners who
may be the underlying holders of such shares.
We have not declared nor paid any cash dividends on our common stock since
our inception. We intend to retain future earnings, if any, for use in our
business.
(b) See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operation - Stock Issuances," for a description of securities we sold
during fiscal 2003 pursuant to one or more exemptions from registration under
the Securities Act of 1933, as amended.
Except as indicated therein, we relied on one or more exemptions from
registration under the Securities Act of 1933, as amended (the "Securities
Act"), for each of the foregoing transactions, including without limitation the
exemption provided by Section 4(2) of the Securities Act. We used all of the net
cash proceeds raised by the sale of unregistered securities to repay
indebtedness and for working capital.
10
Item 6. Selected Financial Data
The following table presents selected historical financial data of Focus for the
periods indicated. The financial data for each of the five fiscal years in the
period ended December 31, 2003 have been derived from the audited consolidated
financial statements of Focus for such periods. The data should be read in
conjunction with the consolidated financial statements, related notes and other
financial information of Focus in this Form 10-K.
In thousands, except per share data.
Year Ended December 31,
--------------------------------------------------------
2003 2002 2001 2000 1999
------- ------- ------- ------- -------
Statement of Operations Data:
Net revenues...................................... $26,575 $17,312 $23,308 $15,233 $17,183
Cost of revenues.................................. 17,428 11,015 14,837 11,836(1) 10,544(1)
Gross profit...................................... 9,147 6,297 8,471 3,397 6,639
Total operating expenses.......................... 10,889 12,041 14,830 13,090(2) 7,806
Loss from operations.............................. (1,742) (5,744) (6,359) (9,693) (1,167)
Net loss.......................................... (1,698) (5,957) (6,658) (12,029) (1,480)
Balance Sheet Data:
Total Assets...................................... 16,100 12,034 18,097 9,781 15,015
Long term debt and capital lease.................. 3,867 3,868 4,057 2,528 428
Total Liabilities................................. 8,148 7,790 12,384 10,198 5,808
Accumulated Deficit............................... (63,021) (61,323) (55,366) (48,708) (36,679)
Total Stockholders' Equity (Deficit).............. 7,952 4,244 5,713 (417) 9,207
Per Share Data:
Net Loss ......................................... (0.04) (0.17) (0.21) (0.48) (0.08)
Book Value Per Share.............................. 0.19 0.11 0.17 (0.02) 0.38
Weighted average number of shares outstanding..... 39,121 35,697 31,702 25,225 18,744
- ----------------
(1) Included in cost of revenues are inventory obsolescence charges of
$1,532,000 for 2000 and $906,000 for 1999.
(2) Included in operating expenses for the year 2000, are:
a) $594,000 of legal and accounting fees associated with a special
investigation
b) $724,000 in restructuring expense for closure of the Company's
Morgan Hill facility
c) $2,289,000 for the write-down of capitalized software
d) $2,147,772 in a legal judgment expense associated with CRA Systems
Inc.
11
Item 7. Management's Discussion And Analysis Of Financial Condition And Results
Of Operations
Certain Factors That May Affect Future Results
Discussions of certain matters in this Annual Report on Form 10-K may
constitute forward-looking statements within the meaning of the Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities and
Exchange Act of 1934, as amended (the "Exchange Act"), and as such, may involve
risks and uncertainties. Forward-looking statements, which are based on certain
assumptions and describe future plans, strategies, and expectations, are
generally identifiable by the use of words or phrases such as "believe", "plan",
"expect", "intend", "anticipate", "estimate", "project", "forecast", "may
increase", "may fluctuate", "may improve" and similar expressions or future or
conditional verbs such as "will", "should", "would", and "could".
In particular, statements contained in this document which are not
historical facts (including, but not limited to, statements concerning
anticipated revenues, anticipated operating expense levels, potential new
products and orders, and such expense levels relative to our total revenues)
constitute forward looking statements and are made under the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. Our actual
results of operations and financial condition have varied and may in the future
vary significantly from those stated in any forward looking statements. Factors
that may cause such differences include, without limitation, the availability of
capital to fund our future cash needs, reliance on major customers, history of
operating losses, market acceptance of our products, technological obsolescence,
competition, component supply problems and protection of proprietary
information, as well as the accuracy of our internal estimates of revenue and
operating expense levels. For a discussion of these factors and some of the
factors that might cause such a difference see also " - Risks Factors." These
factors should be considered in evaluating the forward-looking statements, and
undue reliance should not be placed on such statements. We do not undertake, and
specifically disclaim any obligation, to update any forward-looking statements
to reflect occurrences or unanticipated events or circumstances after the date
of such statements.
Critical Accounting Policies
The following discussion and analysis of our financial condition and
results of operations are based upon our consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of contingent
liabilities. On an on-going basis, we evaluate our estimates, including those
related to contract revenues, customer programs and incentives, product returns,
accounts receivable allowances, inventory valuation allowances, deferred tax
asset valuation allowances, recoverability of capitalized software development
costs, the value of equity instruments issued for services, the recoverability
of goodwill and other intangibles related to acquisitions, contingencies and
litigation. We base our estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions.
We believe the following critical accounting policies affect the more
significant judgments and estimates used in the preparation of our consolidated
financial statements. We record estimated reductions to revenue for product
returns based primarily on historical return rates, return policies and price
protection arrangements. In addition, we sometimes accept returns for stock
balancing and negotiate accommodations to customers, which includes price
discounts, credits and returns when demand for specific products fall below
expectations. If market conditions were to decline, we could experience an
increase in the volume of returns. Beginning in 2001 we recognized contract
revenue and profit as work progressed on a long-term, fixed price contract using
the percentage-of-completion method, which relies on estimates of total expected
contract revenue and costs. We followed this method since reasonably dependable
estimates of the revenue and costs applicable to various stages of the contract
could be made. Recognized revenues and profit are subject to revisions as the
contract progresses to completion. Revisions in profit estimates are charged to
income in the period in which the facts that give rise to the revision become
known. We maintain allowances for doubtful accounts for estimated losses
resulting from the inability of our customers to make required payments. We
assess collectibility based on a number of factors, including credit-worthiness
and past transaction history with the customer. Although collateral is generally
not requested, the Company, in certain situations, will require confirmed
letters of credit or cash in advance of shipping to its customers. If the
financial condition of our customers were to deteriorate, resulting in an
impairment of their ability to make payments, additional allowances may be
required. We provide for the estimated cost of product warranties at the time
revenue is recognized. While we engage in product quality programs and
processes, including actively monitoring and evaluating the quality of its
component suppliers, our warranty obligation is affected by product
12
failure rates. Should actual product failure rates differ from our estimates,
revisions to the estimated warranty liability would be required. We write down
our inventory for estimated obsolescence or unmarketable inventory equal to the
difference between the cost of inventory and the estimated market value based
upon assumptions about future demand and market conditions. If actual market
conditions are less favorable than our projections, additional inventory
write-downs may be required. Our policy on capitalized software costs determines
the timing of our recognition of certain development costs. In addition, this
policy determines whether the cost is classified as development expense or cost
of revenues. We use professional judgment in determining whether development
costs meet the criteria for immediate expense or capitalization. Our business
acquisitions have resulted in goodwill and other intangible assets, which affect
the amount of future period amortization expense and possible impairment expense
that we will incur. In assessing the recoverability of our goodwill and other
intangibles we must make assumptions regarding estimated future cash flows and
other factors to determine the fair value of the respective assets. If these
estimates or their related assumptions change in the future, we may be required
to record impairment charges for these assets not previously recorded. We
performed our annual impairment assessment of goodwill in the fourth quarter of
2003. We record a valuation allowance to reduce our deferred tax assets to the
amount that is more likely than not to be realized. In the event we were to
determine that we would be able to realize deferred tax assets in the future in
excess of the net recorded amount, an adjustment to the deferred tax asset would
increase income in the period such determination was made.
Year ended December 31, 2003 compared to December 31, 2002
The following table sets forth, for the periods indicated, income and
expense items included in the Consolidated Statements of Operations, expressed
as a percentage of net sales (amounts in thousands, except percentages):
December 31, % of December 31, % of Percent
2003 Sales 2002 Sales Change Change
-------- ----- -------- ------ -------- ------
Net revenues ...................... $ 26,575 100% $ 17,312 100% $ 9,263 54%
Cost of revenues .................. 17,428 66 11,015 64 6,413 58
-------- --- -------- --- -------- ----
Gross profit ...................... 9,147 34 6,297 36 2,850 45
-------- --- -------- --- -------- ----
Operating expenses:
Sales, marketing and support .... 4,313 16 4,878 28 (565) (12)
General and administrative ...... 1,751 7 2,103 12 (352) (17)
Research and development ........ 4,277 16 4,022 23 255 6
Amortization .................... 577 2 942 5 (365) (39)
Restructuring (recovery) expense (29) -- 96 1 (125) (130)
-------- --- -------- --- -------- ----
Total operating expenses .......... 10,889 41 12,041 70 (1,152) (10)
-------- --- -------- --- -------- ----
Loss from operations .............. (1,742) (7) (5,744) (33) 4,002 (70)
-------- --- -------- --- -------- ----
Interest expense .................. (200) (1) (246) (1) 46 (19)
Interest income ................... 7 -- 2 -- 5 250
Other expense ..................... -- -- (336) (2) 336 100
Other income ...................... 239 1 357 2 (118) (33)
-------- --- -------- --- -------- ----
Loss before income taxes .......... (1,696) (6) (5,967) (34) 4,271 (72)
-------- --- -------- --- -------- ----
Income tax expense (benefit) ...... 2 -- (10) -- 12 (120)
-------- --- -------- --- -------- ----
Net loss ........................ $ (1,698) (6)% $ (5,957) (34)% $ 4,259 (71)%
======== === ======== ==== ======== ====
Net Revenues
Net revenues for the year ended December 31, 2003 were $26,575,000 as
compared with $17,312,000 for the year ended December 31, 2002, an increase of
$9,263,000, or 54%.
For the year ended December 31, 2003, net sales of system products
(professional and consumer) to distributors, retailers and VAR's were
approximately $13,986,000 as compared to $14,401,000 in 2002, a decrease of
$415,000 or 2%. The decrease between comparison periods is primarily the result
of a decrease in sales of our consumer products as a result of reduced
educational spending due to budgetary constraints at the state and local level
and the discontinuance of sales of certain of our products. Our systems business
has decreased as a result of the discontinuance of certain of our older products
as a result of obsolete components but has been offset by increased sales of the
Company's newest product introductions, including FireStore.
13
For the year ended December 31, 2003, net sales of semiconductor products
to distributors and OEM customers, which includes contract revenues, were
approximately $12,589,000 as compared to $2,911,000 for the same period in 2002,
an increase of $9,678,000 or 332%. The increase in semiconductor sales for the
year comparison periods is primarily attributable to sales of our FS454
semiconductor chip, which were primarily to Microsoft, a significant customer.
Sales of our FS454 accounted for approximately $9,918,000 or 37% of the
Company's total revenue for the year ended December 31, 2003. No such product
sales were made to Microsoft in the year ended December 31, 2002. Offsetting the
increase in revenues between comparison periods was a decrease in contract
revenues of $759,000 as the Company completed the development of an Application
Specific Integrated Circuit (ASIC) for the same significant customer that began
in June 2001 and finished in June 2002. Under this development contract the
Company recorded total revenues of $2.1 million. In January 2004, the Company
issued a press release indicating that it does not expect further orders from
Microsoft with respect to the FS454 semiconductor chip. See Risk Factors - " We
depend on a few customers for a high percentage of our revenues and the loss or
failure to pay of any one of these customers could result in a substantial
decline in our revenues and profits".
As of December 31, 2003, the Company had a sales order backlog of
approximately $1,076,000 compared to $223,000 as of December 31, 2002, an
increase of $853,000. Backlog consists primarily of semiconductor chip orders,
including FS454 orders from Microsoft. The increase between December 31, 2003
and December 31, 2002 is primarily the result of FS454 orders from Microsoft.
See Risk Factors - "Backlog should not be construed as indicative of future
revenue or performance".
See also "Liquidity and Capital Resources" regarding recent acquisition
activity.
Cost of Revenues
Cost of revenues were $17,428,000, or 66% of net revenues, for the year
ended December 31, 2003, as compared with $11,015,000, or 64% of net revenues,
for the year ended December 31, 2002. Included in cost of revenues for 2002, are
costs of $499,000 related to contract revenues.
The Company's gross profit margin as a percentage of net revenues for the
years 2003 and 2002 was 34% and 36%, respectively. Although the Company had
anticipated higher margins in 2003 when compared to 2002, because of below
average gross margin business the Company conducted with one of its significant
customers, as mentioned above, this did not occur. This significant customer
represented approximately 37% of the Company's revenues for 2003. Sales to this
customer were made at a gross profit margin percentage of less than 30%,
primarily as a result of volume discounts provided.
Sales, Marketing and Support Expenses
Sales, marketing and support expenses were $4,313,000, or 16% of net
revenues, for the year ended December 31, 2003, as compared with $4,878,000, or
28% of net revenues, for the year ended December 31, 2002, a decrease of
$565,000 or 12%.
The decrease in sales, marketing and support expenses is primarily the
result of reduced advertising and tradeshow expenses as the Company reduced its
expenses to accommodate its tight cash position.
General and Administrative Expenses
General and administrative expenses for the year ended December 31, 2003
were $1,751,000 or 7% of net revenues, as compared with $2,103,000 or 12% of net
revenues for the year ended December 31, 2002, a decrease of $352,000 or 17%.
The decrease in general and administrative expense for the year ended
December 31, 2003 is primarily attributable to reduced personnel expenditures
and consulting expenses. Personnel expenditures are lower year over year as the
Company's Chief Executive Officer retired in September 2002 and was replaced by
the Company's Chief Operating Officer. This resulted in reduced executive
compensation in 2003. For the year ended December 31, 2002, the Company also
incurred moving expenses of approximately $65,000 associated with the relocation
of the Chief Operating Officer to California and charges of approximately
$238,000 associated with the issuance of warrants in connection with consulting
services.
For a discussion of pending and recent acquisitions, and their potential
impact on the Company's financial condition and results of operations, see
"-Risk Factors" and "Item 1. Description of Business - Recent Developments."
14
Research and Development Expenses
Research and development expenses for the year ended December 31, 2003
were approximately $4,277,000 or 16% of net revenues, as compared with
$4,022,000 or 23% of net revenues, for year ended December 31, 2002, an increase
of $255,000 or 6%.
The increase in research and development expenses between the comparison
periods is primarily because no engineering work was performed under contract
for the year ended December 31, 2003 and, as such, no research and development
personnel expenses were allocated from research and development expenses to
costs of revenues during such period. For the year ended December 31, 2002,
costs related to contract revenues, which included research and development
personnel expenses totaled $499,000.
Amortization Expense
Amortization expenses for the year ended December 31, 2003 were $577,000
or 2% of net revenues, as compared with $942,000 or 5% of net revenues, for the
year ended December 31, 2002, a decrease of $365,000 or 39%.
The decrease in terms of absolute dollars and as a percentage of net
revenues is primarily the result of the Company's completing amortization of its
remaining capitalized software development expenses. As of December 31, 2003, no
impairment of goodwill had been recognized.
Restructuring Expense
For the year ended December 31, 2003, the Company reduced its
restructuring expense accrual by $29,000 as it was able to settle amounts due on
the closure of its Chelmsford facility for an amount less than originally
estimated.
For the year ended December 31, 2002, the Company recorded restructuring
expenses totaling $96,000 related to the closure of its Chelmsford, MA,
facility. This amount is comprised of the remaining lease obligations and
property fees for the Chelmsford facility.
Interest Expense
Interest expense for the year ended December 31, 2003 was $200,000, or 1%
of net revenues, as compared to $246,000 or 1% of net revenues for the year
ended December 31, 2002, a decrease of $46,000.
The decrease in interest expense is primarily attributable to lower
interest rates and a decrease in debt obligations.
Other Expense
Other expense for the year ended December 31, 2002 was $336,000 (none for
the year ended December 31, 2003), which was primarily comprised of a charge of
$334,000 related to the repricing of warrants associated with the termination of
an equity line of credit.
Other Income
Other income for the year ended December 31, 2003 was $239,000, as
compared $357,000 for the year ended December 31, 2002, a decrease of $118,000.
Other income for the year ended December 31, 2003 and 2002 are primarily
attributable to the settlement of debts to various trade vendors for less than
original amounts accrued.
15
Year ended December 31, 2002 compared to December 30, 2001
The following table sets forth, for the periods indicated, income and
expense items included in the Consolidated Statements of Operations, expressed
as a percentage of net sales (amounts in thousands, except percentages):
December 31, % of December 31, % of Percent
2002 Sales 2001 Sales Change Change
-------- ----- --------- ----- ------- ------
Net revenues $ 17,312 100% $ 23,308 100% $(5,996) (26)%
Cost of revenues..................... 11,015 64 14,837 64 (3,822) (26)
-------- ----- --------- ----- ------- ------
Gross profit......................... 6,297 36 8,471 36 (2,174) (26)
-------- ----- --------- ----- ------- ------
Operating expenses:
Sales, marketing and support....... 4,878 28 5,989 26 (1,111) (19)
General and administrative......... 2,103 12 2,191 9 (88) (4)
Research and development........... 4,022 23 3,352 14 670 20
Amortization....................... 942 5 2,760 12 (1,818) (66)
Restructuring Expense.............. 96 1 33 -- 63 191
Write-off of in-process technology. -- -- 505 2 (505) 100
-------- ----- --------- ----- ------- ------
Total operating expenses............. 12,041 70 14,830 64 (2,789) (19)
-------- ----- --------- ----- ------- ------
Loss from operations................. (5,744) (33) (6,359) (27) 615 (10)
-------- ----- --------- ----- ------- ------
Interest expense..................... (246) (1) (323) (1) 77 (24)
Interest income...................... 2 -- 16 -- (14) (88)
Other expense........................ (336) (2) (438) (2) 102 (23)
Other income......................... 357 2 446 2 (89) (20)
-------- ----- --------- ----- ------- ------
Loss before income taxes............. (5,967) (34) (6,658) (29) 691 (10)
-------- ----- --------- ----- ------- ------
Income tax benefit (10) -- -- -- (10) n/a
-------- ----- --------- ----- ------- ------
Net loss........................... $ (5,957) (34)% $ (6,658) (29)% $ 701 (11)%
======== ===== ========= ===== ======= ======
Net Revenues
Net revenues for the year ended December 31, 2002 were $17,312,000 as
compared with $23,308,000 for the year ended December 31, 2001, a decrease of
$5,996,000, or 26%.
For the year ended December 31, 2002, net sales of system products
(professional and consumer) to distributors, retailers and VAR's were
approximately $14,401,000 as compared to $19,519,000 in 2001, a decrease of
$5,118,000 or 26%. Overall sales of our system products has been trending lower
as a result of a reduction of nationwide computer sales, decreased educational
spending, a decrease in business to business sales as a result of the slowdown
in the economy and the Company's discontinuance of sales of its products to
certain retail accounts.
For the year ended December 31, 2002, net sales of semiconductor products
to distributors and OEM customers, which includes contract revenues, were
approximately $2,911,000 as compared to $3,789,000 for the same period in 2001,
a decrease of $878,000 or 23% The decrease in OEM sales is primarily
attributable to a decrease in contract revenues as the Company reported contract
revenues of $759,000 for the year ended December 31, 2002, a decrease of
$633,000 from the $1,392,000 the Company reported for the year ended December
31, 2001. In addition, semiconductor sales have declined due primarily to a
decrease in scan converter sales as a result of the slowdown in the economy.
As of December 31, 2002, the Company had a sales order backlog of
approximately $223,000.
Cost of Revenues
Cost of revenues were $11,015,000, or 64% of net revenues, for the year
ended December 31, 2002, as compared with $14,837,000, or 64% of net revenues,
for the year ended December 31, 2001. Included in cost of revenues are $499,000
and $1,110,000 of costs related contract revenues for the years ended December
31, 2002 and 2001, respectively. The Company's gross profit margin as a
percentage of net revenues for the years 2002 and 2001 was 36%.
16
Sales, Marketing and Support Expenses
Sales, marketing and support expenses were $4,878,000, or 28% of net
revenues, for the year ended December 31, 2002, as compared with $5,989,000, or
26% of net revenues, for the year ended December 31, 2001, a decrease of
$1,111,000 or 19%.
The decrease in sales, marketing and support expenses is primarily the
result of reduced personnel expenditures including payroll, and travel expenses
as we reduced our full time sales, marketing and support personnel from 31
employees at December 31, 2001 to 21 employees at December 31, 2002, decreased
commissions primarily as a result of decreased revenue and revisions to our
commission structure, and reduced marketing expenses as we adjusted our
advertising and tradeshow expenses to better match our revenue.
General and Administrative Expenses
General and administrative expenses for the year ended December 31, 2002
were $2,103,000 or 12% of net revenues, as compared with $2,191,000 or 9% of net
revenues for the year ended December 31, 2001, a decrease of $88,000 or 4%.
The decrease in general and administrative expense for the year ended
December 31, 2002 is primarily attributable to reduced personnel expenditures
including payroll, and travel expenses as we reduced our full time general and
administrative personnel from nine employees at December 31, 2001 to four
employees at December 31, 2002, reduced legal expenses, and the receipt of an
insurance deductible refund of $100,000. The decrease was partially offset by
charges of approximately $238,000 associated with the issuance of warrants in
connection with consulting services and increased investor relations expenses as
we hired an outside investor relations firm beginning in March 2002.
Research and Development Expenses
Research and development expenses for the year ended December 31, 2002
were approximately $4,022,000 or 23% of net revenues, as compared with
$3,352,000 or 14% of net revenues, for year ended December 31, 2001, an increase
of $670,000 or 20%.
The increase in research and development expenses was due primarily to a
reduction in engineering work performed under contract and, as such, less
research and development personnel expenses were allocated to costs of sales
than in the prior year.
Amortization Expense
Amortization expense for the year ended December 31, 2002 was $942,000 or
5% of net revenues, as compared with $2,760,000 or 12% of net revenues, for the
year ended December 31, 2001, a decrease of $1,818,000 or 66%.
The decrease in terms of absolute dollars and as a percentage of net
revenues is primarily due to the Company's adoption of FAS 142 on January 1,
2002, under which goodwill and assembled workforce is no longer amortized. On a
pro forma basis had the amortization of goodwill and the assembled workforce
intangible asset ceased on January 1, 2001, the Company's amortization expense
for the year ended December 31, 2001, would have decreased by $1,880,000, and
the Company would have reported a net loss of $4,778,000 or $0.15 per share. As
of December 31, 2002, no impairment of goodwill had been recognized.
Restructuring Expense
For the year ended December 31, 2002, the Company recorded restructuring
expenses totaling $96,000 related to the closure of its Chelmsford, MA,
facility. This amount is comprised of the remaining lease obligations and
property fees for the Chelmsford facility.
For the year ended December 31, 2001, the Company recorded restructuring
expenses totaling $33,000 related to the closure of its Wilmington, MA,
facility.
17
Write-off of In-Process Technology
In connection with the acquisition of Videonics during the first quarter
of 2001, the Company recorded a charge for purchased in-process technology of
$505,000.
Interest Expense
Interest expense for the year ended December 31, 2002 was $246,000, or 1%
of net revenues, as compared to $323,000 or 1% of net revenues for the year
ended December 31, 2001, a decrease of $77,000.
The decrease in interest expense is primarily attributable to lower
interest rates and a decrease in debt obligations.
Other Expense
Other expense for the year ended December 31, 2002 was $336,000, as
compared $438,000 for the year ended December 31, 2001, a decrease of $102,000.
Other expense for the year ended December 31, 2002 is primarily comprised
of a charge of $334,000 related to the repricing of warrants associated with the
termination of an equity line of credit. Other expense for the year ended
December 31, 2001 is primarily attributable to charges of $438,000 associated
with the untimely registering of AMRO Investment International's shares. See
"Note 12.-Stockholders Equity - Common Stock on page F-19 for more information."
Other Income
Other income for the year ended December 31, 2002 was $357,000, as
compared $446,000 for the year ended December 31, 2001, a decrease of $89,000.
Other income for the year ended December 31, 2002 and 2001 are primarily
attributable to the settlement of debts for less than original amounts accrued
Liquidity and Capital Resources
As of December 31,
2003 2002
------ ------
(In thousands)
Cash and cash equivalents................................. $3,731 $1,310
Net cash used in operating activities..................... (2,614) (5,004)
Net cash provided by (used in) investing activities....... (277) 2,297
Net cash provided by financing activities................. 5,312 3,568
The accompanying consolidated financial statements have been prepared on
a going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. For the years
ended December 31, 2003, 2002 and 2001, the Company incurred net losses of
$1,698,000, $5,957,000 and $6,658,000, and reported net cash used in operating
activities of $2,614,000, $5,004,000 and $3,452,000, respectively. These factors
indicate that the Company may potentially be unable to continue as a going
concern.
The consolidated financial statements do not include any adjustments
relating to the recoverability and classification of recorded asset amounts or
the amounts and classification of liabilities that might be necessary should the
Company be unable to continue as a going concern. The Company's continuation as
a going concern is dependent upon its ability to generate sufficient cash flows
to meet its obligations on a timely basis, to obtain additional financing as may
be required, and ultimately to return to profitability and significant positive
cash flows.
Since inception, the Company has financed its operations primarily
through the public and private sale of common stock, proceeds from the exercise
of options and warrants, short-term borrowing from private lenders, and
favorable credit arrangements with vendors and suppliers. We do not have a bank
line of credit.
18
In 2003, net cash used in operating activities consisted primarily of a
net loss of $1,698,000 adjusted for depreciation and amortization of $743,000
and other income associated with the settlement of debt totaling $239,000, an
increase in accounts payable of $363,000 an increase in accrued liabilities of
$279,000 offset by an increase in accounts receivable totaling $757,000,
primarily related to the increase in revenues associated with sales of the FS454
to Microsoft, and an increase in inventory totaling $1,143,000, primarily
related to inventory positions in the Company's newest products including the
FS454 and FireStore. In 2002, net cash used in operating activities consisted
primarily of a net loss of $5,957,000 adjusted for depreciation and amortization
of $1,226,000, deferred compensation expense of $122,000, general and
administrative expenses associated with the issuance of stock and warrants for
consulting and other services totaling $238,000, other income associated with
settlement of debt totaling $311,000, other expense associated with repricing
and acceleration of warrants totaling $350,000, a decrease in accounts
receivable totaling $1,686,000, a decrease in inventory totaling $1,659,000
offset by a decrease in accounts payable of $1,795,000 and the payment of a
legal judgment totaling $2,073,000. In 2001, net cash used in operating
activities consisted primarily of a net loss of $6,658,000 adjusted for
depreciation and amortization of $3,166,000, the write-off of in-process
technology related to the acquisition of Videonics totaling $505,000, deferred
compensation expense of $113,000, other expense associated with a delayed
registration of $438,000, a decrease in account payable totaling $178,000 and an
increase in accounts receivable of $1,378,000 offset partially by an decrease in
inventories of $590,000.
In January 2004, we were informed that the Company should not expect
further orders of the FS454 from Microsoft. This customer represented 37% of the
Company's revenues for the year ended December 31, 2003 and 64% and 40% of the
Company's revenues for the third and fourth quarter of 2003, respectively. The
Company recorded gross margins as a percentage of sales, before commissions and
selling expenses below 30% to this customer. The loss of this customer will have
a material adverse effect on the Company's revenues, operating profit and
liquidity, especially when compared to the third and fourth quarter of 2003, as
the Company began its initial shipments to the customer in the third quarter of
2003 and continued sales through the fourth quarter for the customer's seasonal
holiday sales. However, as the product was manufactured by one of our contract
manufacturers, we were able to meet the customer's requirements without an
increase in our staffing and operations. Although there can be no assurances, we
do not anticipate any significant adjustments to the Company's staffing or
operations or significant adjustments to the carrying value of our FS454
inventory, as a result of this loss.
Net cash used in investing activities for the year ended December 31,
2003 was $277,000 as compared to net cash provided by investing activities for
the years ended December 31, 2002 and 2001 of $2,297,000 and 1,397,000,
respectively. In 2003, net cash used in investing activities was related to the
purchase of property and equipment of $122,000, the acquisition of developed
technology from DVUnlimited, which resulted in a net cash outflow of $57,000 and
costs incurred with the pending acquisition of Visual Circuits Corporation and
COMO Computer and Motion GmbH of $98,000. In 2002, cash provided in investing
activities was principally from the decrease in restricted collateral deposit of
$2,363,000, offset by the purchase of property and equipment of $66,000. In
2001, cash was provided by a reduction in restricted certificates of deposit of
approximately $1,263,000 and net cash of $360,000 provided through the
acquisition of Videonics on January 16, 2001, offset partially by additions of
$196,000 to property and equipment. The acquisition of Videonics was accounted
for as a purchase and made through the issuance of approximately 5,135,000
shares of the Company's common stock.
Net cash provided from financing activities for the years ended December
31, 2003, 2002 and 2001 was $5,312,000, $3,568,000 and $2,152,000, respectively.
In 2003, the Company received $1,920,000 in net proceeds from private offerings
of common stock and $3,436,000 from the exercise of common stock options and
warrants offset by $44,000 of capital lease obligation repayments. In 2002, the
Company received $3,121,000 in net proceeds from private offerings of common
stock and $634,000 from the exercise of common stock options and warrants which
were partially offset by $145,000 in repayments on convertible notes to a
stockholder. In 2001, cash provided by financing activities occurred primarily
from the issuance of notes payable to a stockholder and director of the Company
of $2,650,000 and from the exercise of options and warrants of $199,000 offset
by repayments of $400,000 to a bank and costs incurred in registration of common
stock of $182,000.
As of December 31, 2003, the Company had working capital of $5,696,000 as
compared to working capital of $1,551,000 at December 31, 2002, an increase of
$4,145,000.
The Company has incurred losses and negative cash flows from operations
in each of the three years ended December 31, 2003 and as such has been
dependent upon raising money for short and long-term cash needs through debt,
proceeds from the exercise of options and warrants, and the sale of common stock
in private placements as discussed above.
19
At December 31, 2003, the Company owed Carl Berg, a Company director and
shareholder, approximately $4.4 million in principal and accrued interest on
various notes. In September 2003, Mr. Berg agreed to convert such debt and
accrued interest into preferred and common stock on conversion terms agreed to
more than two years ago. As of December 31, 2003, the conversion would result in
the issuance of approximately 2,201,139 shares of common stock and 1,257 shares
of preferred stock convertible into an additional 1,257,000 shares of common
stock. The conversion is expected to be completed as soon as practical, but in
no event sooner than March 15, 2004. See "Note 8 - Notes Payable" beginning on
page F-15 for more information.
Additionally, in December 2002, Mr. Berg provided Samsung Semiconductor
Inc., the Company's contracted ASIC manufacturer, with a personal guarantee to
secure the Company's working capital requirements for ASIC purchase order
fulfillment. Mr. Berg agreed to provide the personal guarantee on the Company's
behalf without additional cost or collateral, as Mr. Berg maintains a secured
priority interest in substantially all the Company's assets. At December 31,
2003, the Company owed Samsung $562,000, under net 30 terms.
In addition to regularly reviewing its cost structure, management is
continually reviewing its product lines to identify how to enhance existing or
create new distribution channels. During 2003, the Company released several new
products. Many of these new products are expected to take hold in their
respective markets and provide additional revenue to the Company in 2004.
Additionally, although no assurances can be given, the Company expects to
release three more new products in 2004. There can be no assurances as to the
amount of revenue these new products will produce. Even if the Company's new
products are introduced as planned and are modestly successful, the Company
anticipates that its continued significant investment in research and
development, primarily in the area of Ultra Wideband will require the Company to
find a partner to fund a portion of the continued development and or raise
additional funds to support its working capital needs and meet existing debt
obligations.
There is no assurance that management's plans will be successful or if
successful, that they will result in the Company continuing as a going concern.
During the year ended December 31, 2003, Focus raised a significant
amount of its working capital through the issuance of its common stock. In July
2003, Focus sold 2,200,000 shares of its common stock in a private placement to
two independent third parties, receiving net proceeds of approximately
$1,920,000. The shares were sold at a 20% discount to the 5-day average closing
bid prices of our common stock prior to closing. In connection with the private
placement, Focus also issued warrants to purchase 467,500 shares of its common
stock at an exercise price of $1.44 per share.
Ultimate future capital requirements will depend on many factors,
including cash flow from operations, continued progress in research and
development programs, competing technological and market developments, and our
ability to market our products successfully. Additionally, subsequent to
December 31, 2003, the Company has announced the acquisition of COMO and its
intent to acquire Visual Circuits. The costs associated with these acquisitions,
including legal, accounting and associated finder's fees, are expected to exceed
$400,000. The Company believes that it is likely that additional financings will
be required in 2004 as the Company continues to implement its business plan. As
of December 31, 2003, the Company had no commitments from any other sources to
provide additional equity or debt financing. As such, there can be no assurance
that sufficient funds will be raised. Moreover, any equity financing would
result in dilution to our then-existing stockholders and any additional debt
financing may result in higher interest expense.
20
Summary of Certain Contractual Obligations as of December 31, 2003
Amount of Commitment Expiration Per Period (in thousands)
---------------------------------------------------------
Less Than After 5
Total 1 year 2-3 Years 4-5 Years Years
------- ------- --------- --------- ------
Notes payable to stockholder(1) $ 3,867 $ -- $3,867 $ -- $ --
Operating leases 788 468 $ 318 2 --
------- ------ ------ ----- ----
Total $ 4,655 $ 468 $4,185 $ 2 $ --
======= ====== ====== ===== ====
- ----------------------
(1) In September 2003, Mr. Berg agreed to convert his approximately $3.9
million of debt and $500,000 of accrued interest into preferred and common
stock on conversion terms agreed to more than two years ago. As of December
31, 2003, the conversion would result in the issuance of approximately
2,201,139 shares of common stock and 1,257 shares of preferred stock,
convertible into 1,257,000 shares of common stock. The conversion is
expected to occur in March 2004.
Stock Issuances
Although we have been successful in the past in raising sufficient
capital to fund our operations, there can be no assurance that we will achieve
sustained profitability or obtain sufficient financing in the future to provide
the liquidity necessary for us to continue operations.
On July 2, 2003, we completed the sale of 2,200,000 shares of our common
stock in a private placement to two independent third party accredited
investors, receiving proceeds of approximately $1,920,000, net of offering costs
of $280,000. The shares were sold at an approximate 20% discount to the 5-day
average closing bid prices of our common stock prior to closing. In connection
with the private placement, we issued warrants to the two investors and a
placement agent to purchase a total of 467,500 shares of common stock at an
exercise price of $1.44 per share. No compensation expense was recorded given
that the warrants were issued in connection with the issuance of common stock.
The securities issued in connection with this transaction were subsequently
registered on a Form S-3, deemed effective on September 17, 2003. Such proceeds
were used for general corporate purposes.
Effects of Inflation and Seasonality
We believe that inflation has not had a significant impact on our sales
or operating results. Our business generally has a modestly stronger second and
third quarter seasonality. In 2003, our third quarter was accentuated by
Microsoft's holiday production schedule.
Recent Accounting Pronouncements
In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities ("SFAS No. 146"), which addresses
accounting for restructuring and similar costs. SFAS No. 146 supersedes previous
accounting guidance, principally Emerging Issues Task Force ("EITF") Issue No.
94-3, Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)
("EITF 94-3"). SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is incurred
and that the liability should initially be measured and recorded at fair value.
Under EITF 94-3, a liability for an exit cost was recognized at the date of the
Company's commitment to an exit plan. The Company adopted the provisions of SFAS
No. 146 for restructuring activities initiated after December 31, 2002.
Accordingly, SFAS No. 146 may affect the timing of recognizing future
restructuring costs as well as the amounts recognized.
In November 2002, the FASB issued FASB Interpretation No. 45, Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others ("FIN 45"). FIN 45 requires that upon
issuance of a guarantee, the guarantor must recognize a liability for the fair
value of the obligation it assumes under that guarantee. The Company adopted the
disclosure requirements of FIN 45 in the current year. The recognition and
measurement provisions will be applied to guarantees issued or modified after
December 31, 2002. The adoption did not have a material effect on the Company
operating results or financial condition.
The FASB issued FIN 46, Consolidation of Variable Interest Entities in
January 2003, and a revised interpretation of FIN 46 ("FIN 46-R") in December
2003. FIN 46, as modified by FIN 46-R, requires certain variable interest
entities to be consolidated by the primary beneficiary of the entity if the
equity investors in the entity do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entity to
finance its activities without additional subordinated financial support from
other parties. The Company has not invested in any
21
entities it believes are variable interest entities for which the Company is the
primary beneficiary. As such, the Company does not expect the adoption of FIN
46, as modified by FIN 46-R to have an impact on its financial position or
results of operations.
In April 2003 the FASB issued SFAS No. 149, Amendment of Statement No. 133
on Derivative Instruments and Hedging Activities. This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts. The
Statement clarifies under what circumstances a contract with an initial net
investment meets the characteristic of a derivative, clarifies when a derivative
contains a financing component, amends the definition of an underlying
derivative to conform it to language used in FASB Interpretation FIN No. 45, and
amends certain other existing pronouncements. SFAS No. 149 is effective for
contracts entered into or modified after June 30, 2003 and for hedging
relationships designated after June 30, 2003. All provisions of the Statement,
except those related to forward purchases or sales of "when-issued" securities,
should be applied prospectively. The Company is currently evaluating the impact
of adopting SFAS No. 149. However, the Company does not believe that it has
entered into any contracts that would fall within the scope of SFAS No. 149.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity. This Statement
establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity. This
Statement is effective for financial instruments entered into or modified after
May 31, 2003, and otherwise effective at the beginning of the first interim
period beginning after June 15, 2003. The Company currently has no financial
instruments which meet these requirements.
In December 2003, the Securities Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 104, Revenue Recognition (SAB 104), which codifies,
revises and rescinds certain sections of SAB 101, Revenue Recognition in
Financial Statements, in order to make this interpretive guidance consistent
with current authoritative accounting and auditing guidance and SEC rules and
regulations. The adoption did not have a material effect on the Company's
operating results or financial condition.
Risk Factors
You should carefully consider the following risks relating to our
business and our common stock, together with the other information described
elsewhere in this prospectus. If any of the following risks actually occur, our
business, results of operations and financial condition could be materially
affected, the trading price of our common stock could decline, and you might
lose all or part of your investment.
Risks Related to Our Business
We have a long history of operating losses.
As of December 31, 2003, we had an accumulated deficit of $63,021,000. We
incurred net losses of $1,698,000, $5,957,000, and $6,658,000 for the years
ended December 31, 2003, 2002 and 2001, respectively. There can be no assurance
that we will become profitable. Additionally, our auditors have included an
explanatory paragraph in their report on our financial statements for the year
ended December 31, 2003 that recurring losses from operations and our
accumulated deficit raise substantial doubt about our ability to continue as a
going concern. The financial statements do not include any adjustments that
might result from the outcome of that uncertainty.
A significant portion of our revenues are from products that are designed for
consumer goods that have seasonal sales.
A significant portion of our revenues are subject to risks associated
with the sales of certain end products at retail that are seasonal, with a
majority of retail sales occurring during the period of September through
December. As a result, our annual operating results with respect to sales of
semiconductor chips designed into newly introduced products, including
Microsoft's Xbox depend, in large part, on sales during the relatively brief
holiday season. In January 2004, we announced that we did not expect further
orders from Microsoft with respect to Xbox. See "We depend on a few customers
for a high percentage of our revenues and the loss or failure to pay of any one
of these customers could result in a substantial decline in our revenues and
profits" for further information.
22
We may need to raise additional capital, which will result in further dilution
of existing and future stockholders.
Historically, we have met our short-and long-term extra cash needs
through debt and the sale of common stock in private placements because cash
flow from operations has been insufficient to fund our operations. Set forth
below is information regarding net proceeds received recently:
Private Offerings Of Issuance of Exercise of Stock
Common Stock Debt Options and Warrants
------------ ---- --------------------
Fiscal 2003 $1,920,000 -- $3,437,000
Fiscal 2002 $3,121,000 -- $625,000
Fiscal 2001 -- $2,650,000 $199,000
Future capital requirements will depend on many factors, including cash
flow from operations, continued progress in research and development programs,
competing technological and market developments, and our ability to market our
products successfully. If we require additional equity or debt financing in the
future, there can be no assurance that sufficient funds will be raised.
Moreover, any equity financing or convertible debt would result in dilution to
our then-existing stockholders and could have a negative effect on the market
price of our common stock. Furthermore, any additional debt financing may result
in higher interest expense.
We anticipate costs associated pending and recently announced
acquisitions, including legal, accounting and associated finder's fees to exceed
$400,000. Furthermore, because these businesses are not currently profitable,
additional cash may be needed to fund operations. Therefore, we believe
additional financings will be required in 2004. As of December 31, 2003, we did
not have any commitments from any other sources to provide additional equity or
debt financing.
In the event we are unable to raise additional capital, we may not be
able to fund our operations, which could result in the inability to execute our
current business plan.
We are dependent upon a significant stockholder to meet our interim financing
needs.
We have relied upon the ability of Carl Berg, a director and significant
owner of the Company's common stock for interim financing needs. As of December
31, 2003, we had an aggregate of approximately $4.4 million in debt and accrued
interest outstanding to Mr. Berg. Additionally, Mr. Berg has provided Samsung
Semiconductor Inc., our contracted ASIC manufacturer, with a personal guarantee
to secure our working capital requirements for ASIC purchase order fulfillment.
There can be no assurances that Mr. Berg will continue to provide such interim
financing or personal guarantees, should we need additional funds or increased
credit facilities with its vendors.
We have a significant amount of convertible securities that will dilute existing
stockholders upon conversion.
At December 31, 2003, we had 42,303,185 and 1,904 shares of common and
preferred shares issued and outstanding, respectively, and 429,500 warrants and
5,188,150 options that are exercisable into shares of common stock. The 1,904
shares of preferred stock are convertible into 1,904,000 shares of the Company's
voting common stock. Furthermore, we may grant 1,523,045 additional stock
options to our employees, officers, directors and consultants under our current
stock option plans. We also may issue additional shares in acquisitions. Any
additional grant of options under existing or future plans or issuance of shares
in connection with an acquisition will further dilute existing stockholders.
In addition, in September 2003, Mr. Berg agreed to convert his
approximate $4.4 million of debt and accrued interest into preferred and common
stock on conversion terms agreed to more than two years ago. As of December 31,
2003, the conversion would result in the issuance of approximately 2,201,136
shares of common stock and 1,257 shares of preferred stock convertible into an
additional 1,257,000 shares of common stock. Due to a recently negotiated sale
of a portion of Mr. Berg's position in Focus to an institutional investor, the
conversion is expected to be completed as soon as practical, but in no event
sooner than March 15, 2004, which is six months from the date of the recent
sale, the earliest date permitted by SEC Section 16(b) and appropriate
securities laws.
23
Any acquisitions of companies or technologies by us, including our proposed
acquisition of Visual Circuits' assets, and recently announced acquisition of
COMO Computer and Motion GmbH may result in distraction of our management and
disruptions to our business.
We may acquire or make investments in complementary businesses,
technologies, services or products if appropriate opportunities arise, as was
the case in January 2004 when we announced that we had entered into a definitive
agreement to acquire substantially all the assets of Visual Circuits
Corporation, and in March 2004 when we announced that we had acquired the stock
of COMO Computer & Motion GmbH. From time to time, we may engage in discussions
and negotiations with companies regarding the possibility of its acquiring or
investing in their businesses, products, services or technologies. We may not be
able to identify suitable acquisition or investment candidates in the future, or
if we do identify suitable candidates, we may not be able to make such
acquisitions or investments on commercially acceptable terms or at all. If we
acquire or invest in another company, we could have difficulty assimilating that
company's personnel, operations, technology or products and service offerings.
In addition, the key personnel of the acquired company may decide not to work
for us. These difficulties could disrupt our ongoing business, distract our
management and employees, increase our expenses and adversely affect the results
of operations. Furthermore, we may incur indebtedness or issue equity securities
to pay for any future acquisitions and/or pay for the legal, accounting or
finders fees, typically associated with an acquisition. The issuance of equity
securities could be dilutive to our existing stockholders. In addition, the
accounting treatment for any acquisition transaction may result in significant
goodwill, which, if impaired, will negatively affect our consolidated results of
operations.
We rely on certain vendors for a significant portion of our manufacturing.
Approximately 65% of the components for our products are manufactured on
a turnkey basis by three vendors, Furthertech Company Ltd., Samsung
Semiconductor Inc., and Asemtec Corporation. In addition, certain of our
products are assembled by a single vendor in Mexico. If these vendors experience
production or shipping problems for any reason, we in turn could experience
delays in the production and shipping of the Company's products, which would
have an adverse effect on its results of operations.
We are dependent on our suppliers.
We purchase all of the Company's parts from outside suppliers and from
time to time experience delays in obtaining some components or peripheral
devices. Additionally, we are dependent on sole source suppliers for certain
components. There can be no assurance that labor problems, supply shortages or
product discontinuations will not occur in the future which could significantly
increase the cost, or delay shipment, of our products, which in turn could
adversely affect our results of operations.
We depend on a few customers for a high percentage of our revenues and the loss
or failure to pay of any one of these customers could result in a substantial
decline in our revenues and profits.
For the year ended December 31, 2003, one customer represented 37% of our
total revenues and 24% of our accounts receivable as of December 31, 2003. We
presently have no reason to believe that this customer lacks the financial
resources to pay. We do not have long-term contracts requiring any customer to
purchase any minimum amount of products. There can be no assurance that we will
continue to receive orders of the same magnitude as in the past from existing
customers or will be able to market our current or proposed products to new
customers. However, the loss of any major customers, the failure of any such
identified customer to pay us, or to discontinue issuance of additional purchase
orders would have a material adverse effect on our revenues, results of
operation, and business as a whole absent the timely replacement of the
associated revenues and profit margins associated with such business.
Furthermore, many of our products are dependent upon the overall success of our
customers' products, over which we often have no control. To that point, in
January 2004, we were informed that we should not expect further FS454 chip
orders from Microsoft for the Xbox. FS454 orders, which were primarily to
Microsoft, represented 37% of our revenues for the year ended December 31, 2003
and 64% and 40% of our revenues for the third and fourth quarters of 2003,
respectively. The loss of Microsoft orders for the FS454 will have a material
adverse effect on our revenues and operating profit, especially when compared to
the third and fourth quarter of 2003, as we began our initial shipments to the
customer in the third quarters of 2003 and continued sales through the fourth
quarter for the customer's seasonal holiday sales. However, as the product was
manufactured by one of our contract manufacturers, we were able to meet the
customer's requirements without an increase in our staffing and operations.
Although there can be no assurances, we do not anticipate any significant
adjustments to our staffing or operations or significant adjustments to the
carrying value of our FS454 inventory, as a result of this loss.
24
Backlog should not be construed as indicative of future revenue or performance.
In the past we have experienced quarterly fluctuations in operating
results due to the contractual nature of our business and the consequent timing
of product orders. In addition, we have historically operated with a small
amount of backlog and accordingly its revenues in any quarter have been
substantially dependent upon orders booked in that quarter. However, as of
December 31, 2003, our total backlog was approximately $1,076,000 compared to
$223,000 at December 31, 2002. There can be no assurance that the rate of growth
in backlog will continue. For example, on January 28, 2004, we announced that we
did not expect further orders from Microsoft with respect to Xbox. This will
significantly decrease backlog in the near-term. Furthermore, only a small
portion of our backlog is fully funded and many of its customers have the
ability to delay delivery or cancel contracts, therefore, there can be no
assurance that orders comprising the backlog will be realized as revenue. In any
event, quarterly sales and operating results will continue to be affected by the
volume and timing of contracts received and performed within the quarter, which
are difficult to forecast. Any significant deferral or cancellation of a
contract could have a material adverse effect on our operating results in any
particular period. Because of these factors, the period-to-period comparisons of
our operating results are not necessarily indicative of future performances.
Our quarterly financial results are subject to significant fluctuations.
We have been unable in the past to accurately forecast its operating
expenses or revenues. Revenues currently depend heavily on volatile customer
purchasing patterns. If actual revenues are less than projected revenues, we may
be unable to reduce expenses proportionately, and its operating results, cash
flows and liquidity would likely be adversely affected.
Our products may become obsolete very quickly.
The computer peripheral markets are characterized by extensive research
and development and rapid technological change resulting in short product life
cycles. Development by others of new or improved products, processes or
technologies may make our products or proposed products obsolete or less
competitive. We must devote substantial efforts and financial resources to
enhance our existing products and to develop new products. There can be no
assurance that we will succeed with these efforts.
We may not be able to protect our proprietary information.
As of December 31, 2003, we held four patents and one pending application
(combining five previous provisional patent applications) in the United States.
Certain of these patents have also been filed and issued in countries outside
the United States. We treat our technical data as confidential and rely on
internal non-disclosure safeguards, including confidentiality agreements with
employees, and on laws protecting trade secrets, to protect its proprietary
information. There can be no assurance that these measures will adequately
protect the confidentiality of our proprietary information or prove valuable in
light of future technological developments.
Delays in product development could adversely affect our market position or
customer relationships.
We have experienced delays in product development in the past and may
experience similar delays in the future. Given the short product life cycles in
the markets for our products, any delay or unanticipated difficulty associated
with new product introductions or product enhancements could cause us to lose
customers and damage its competitive position. Prior delays have resulted from
numerous factors, such as:
o changing product specifications;
o difficulties in hiring and retaining necessary personnel;
o difficulties in reallocating engineering resources and other
resource limitations;
o difficulties with independent contractors;
o changing market or competitive product requirements;
o unanticipated engineering complexity;
o undetected errors or failures in software and hardware; and
25
o delays in the acceptance or shipment of products by customers.
If we are unable to respond to rapid technological change in a timely manner,
then we may lose customers to our competitors.
To remain competitive, we must continue to enhance and improve the
responsiveness, functionality and features of our products. Our industry is
characterized by rapid technological change, changes in user and customer
requirements and preferences and frequent new product and service introductions.
If competitors introduce products and services embodying new technologies, or if
new industry standards and practices emerge, then our existing proprietary
technology and systems may become obsolete. Future success will depend on our
ability to do the following:
o both license and internally develop leading technologies useful in
its business;
o enhance existing technologies;
o develop new services and technology that address the increasingly
sophisticated and varied needs of prospective customers; and
o respond to technological advances and emerging industry standards
and practices on a cost-effective and timely basis.
Developing proprietary technology entails significant technical and
business risks. We may use new technologies ineffectively, or we may fail to
adapt proprietary technology and transaction processing systems to customer
requirements or emerging industry standards. If we face material delays in
introducing new services, products and enhancements, then our customers may
forego the use of our services and use those of our competitors.
During much of the first half of 2003, our common stock did not meet the minimum
bid price requirement to remain listed on the Nasdaq SmallCap Market. If we were
to be delisted, it could make trading in our stock more difficult.
Our voting common stock is traded on the Nasdaq SmallCap Market. There
are various quantitative listing requirements for a company to remain listed on
the Nasdaq SmallCap Market.
We are required to maintain a minimum bid price of $1.00 per share for
our common stock. Between January 1, 2003 and December 31, 2003, Focus voting
common stock closed below $1.00 a share on 64 of 252 trading days. On March 18,
2003, we were notified by the Nasdaq that our common stock did not meet the
minimum bid price requirement to remain listed on the Nasdaq SmallCap Market.
However, on May 21, 2003, we received notification from Nasdaq that we had
regained compliance and the matter was closed.
We must maintain stockholders' equity of $2,500,000. At December 31,
2003, we had total stockholders' equity of $7,952,000. To the extent we incur
net losses and do not raise additional capital, our stockholders' equity will be
reduced.
If we fail to meet these Nasdaq SmallCap requirements, our common stock
could be delisted, eliminating the only established trading market for our
shares. Any sales of our voting common stock at a discount to market may reduce
the trading price of its common stock to a level below the Nasdaq minimum bid
price requirement.
In the event we are delisted from Nasdaq, we would be forced to list our
shares on the OTC Electronic Bulletin Board or some other quotation medium, such
as pink sheets, depending on our ability to meet the specific listing
requirements of those quotation systems. As a result an investor might find it
more difficult to dispose of, or to obtain accurate price quotations for, such
shares. Delisting might also reduce the visibility, liquidity, and price of our
voting common stock.
Our common stock price is volatile.
The market price for our voting common stock is volatile and has
fluctuated significantly to date. For example, between January 1, 2003 and
December 31, 2003, the per share price has fluctuated between $0.50 and $4.20
per share, closing at $1.56 at March 10, 2004. The trading price of our voting
common stock is likely to continue to be highly volatile and subject to wide
fluctuations in response to factors including the following:
26
o actual or anticipated variations in our quarterly operating
results;
o announcements of technological innovations, new sales formats or
new products or services by Focus or its competitors;
o cyclical nature of consumer products using our technology;
o changes in financial estimates by us or securities analysts;
o changes in the economic performance and/or market valuations of
other multi-media, video scan companies;
o announcements by us of significant acquisitions, strategic
partnerships, joint ventures or capital commitments;
o additions or departures of key personnel;
o additions or losses of significant customers; and
o sales of common stock or issuance of other dilutive securities.
In addition, the securities markets have experienced extreme price and
volume fluctuations, and the market prices of the securities of technology
companies have been especially volatile. These broad market and industry factors
may adversely affect the market price of common stock, regardless of actual
operating performance. In the past, following periods of volatility in the
market price of stock, many companies have been the object of securities class
action litigation, including us. If we are sued in a securities class action,
then it could result in additional substantial costs and a diversion of
management's attention and resources.
Risks Related to Our Industry
International sales are subject to significant risk.
Our revenues from outside the United States are subject to inherent risks
related thereto, including currency rate fluctuations, the general economic and
political conditions in each country. There can be no assurance that the
economic crisis and currency issues currently being experienced in certain parts
of the world will not reduce demand for our products and therefore have a
material adverse effect on our revenue or operating results.
Our business is very competitive.
The computer peripheral markets are extremely competitive and are
characterized by significant price erosion over the life of a product. We
currently compete with other developers of video conversion products and with
video-graphic integrated circuit developers. Many of our competitors have
greater market recognition and greater financial, technical, marketing and human
resources. Although we are not currently aware of any announcements by our
competitors that would have a material impact on its operations, there can be no
assurance that we will be able to compete successfully against existing
companies or new entrants to the marketplace.
The video production equipment market is highly competitive and is
characterized by rapid technological change, new product development and
obsolescence, evolving industry standards and significant price erosion over the
life of a product. Competition is fragmented with several hundred manufacturers
supplying a variety of products to this market. We anticipate increased
competition in the video post-production equipment market from both existing
manufacturers and new market entrants. Increased competition could result in
price reductions, reduced margins and loss of market share, any of which could
materially and adversely affect our business, financial condition and results of
operations. There can be no assurance that we will be able to compete
successfully against current and future competitors in this market.
Often our competitors have greater financial, technical, marketing, sales
and customer support resources, greater name recognition and larger installed
customer bases than we possess. In addition, some of our competitors also offer
a wide variety of video equipment, including professional video tape recorders,
video cameras and other related equipment. In some cases, these competitors may
have a competitive advantage based upon their ability to bundle their equipment
in certain large system sales.
27
We are exposed to general economic conditions that have resulted in
significantly reduced sales levels. If such adverse economic conditions were to
continue or worsen, our business, financial condition and operating results
could be adversely impacted.
If the adverse economic conditions in the State of California, the United
States and throughout the world economy continue or worsen, we may continue to
experience a material adverse impact on our business, operating results, and
financial condition. We continue to take actions and charges to reduce our cost
of sales and operating expenses in order to address these adverse conditions. A
prolonged continuation or worsening of sales trends may require additional
actions and charges to reduce cost of sales and operating expenses in subsequent
quarters. We may be unable to reduce cost of sales and operating expenses at a
rate and to a level consistent with such a future adverse sales environment. If
we must undertake further expense reductions, we may incur significant
incremental special charges associated with such expense reductions that are
disproportionate to sales, thereby adversely affecting our business, financial
condition and operating results. Continuing weakness in the economy could
decrease demand for our products, increase delinquencies in payments and
otherwise have an adverse impact on our business.
Recent corporate bankruptcies, accounting irregularities, and alleged insider
wrong doings have negatively affected general confidence in the stock markets
and the economy, further depressing the stock market and causing the U.S.
Congress to enact sweeping legislation.
In an effort to address these growing investor concerns, the U.S.
Congress passed, and on July 30, 2002, President Bush signed into law, the
Sarbanes-Oxley Act of 2002. This sweeping legislation primarily impacts
investors, the public accounting profession, public companies, including
corporate duties and responsibilities, and securities analysts. Some highlights
include establishment of a new independent oversight board for public accounting
firms, enhanced disclosure and internal control requirements for public
companies and their insiders, required certification by CEO's and CFO's of SEC
financial filings, prohibitions on certain loans to offices and directors,
efforts to curb potential securities analysts' conflicts of interest, forfeiture
of profits by certain insiders in the event financial statements are restated,
enhanced board audit committee requirements, whistleblower protections, and
enhanced civil and criminal penalties for violations of securities laws. Such
legislation and subsequent regulations will increase the costs of securities law
compliance for publicly traded companies such as us.
Continued terrorism threats and hostilities in the Middle East have had a
negative impact on the U.S. economy.
The adverse consequences of war and the effects of terrorism have had a
negative affect on the U.S. economy. Further conflicts in the Middle East could
negatively impact our ability to raise additional funds if needed and our
revenues will be adversely affected if consumers and businesses continue to cut
back spending.
The spread of severe acute respiratory syndrome or other viruses may have a
negative impact on our business and results of operations.
The recent outbreak of severe acute respiratory syndrome, or SARS, which
has had particular impact in China, Hong Kong, and Singapore, could continue to
have a negative effect on our operations. Our operations may be impacted by a
number of world health-related factors, including, among other things,
disrupting operations at our turnkey manufacturer and certain of our
distributors and customers located in those areas. If SARS or other viral
strains re-emerge in the future, our international and domestic sales and
operations could be harmed.
28
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest rate risk
Our exposure to market risk for changes in interest rates relates
primarily to our deposits in money market funds, included within cash and cash
equivalents on our consolidated balance sheets, and our long-term debt. We place
our deposits in money market funds with high credit quality commercial banks.
At December 31, 2003, we had three promissory notes payable to Carl Berg,
a Company director and shareholder, totaling $3,867,000, bearing interest at
prime plus 1%. If short-term interest rates were to increase 100 basis points
(100 basis points equals 1%), the increased interest expense associated with
these promissory notes would not have a material impact on our net loss and cash
flows.
The table below presents the carrying value, market value and related
weighted average interest rates for our cash equivalents and long-term debt as
of December 31, 2003 (in thousands except for average interest rates):
Carrying Market Average
Value Value Interest Rate
----- ----- -------------
Cash and cash equivalents - variable rate.... $3,731 $3,731 0.6%
Promissory notes payable - prime plus 1%..... $3,867 $3,867 5.0%
Foreign currency risk
At December 31, 2003, cash and cash equivalents included approximately
$359,000 on deposit at a commercial bank in Germany. Our ultimate realized gain
or loss with respect to currency fluctuations is depended upon the currency
exchange rates. Gains or losses related to foreign exchange currency
transactions were not material for the years ended December 31, 2003, 2002 and
2001.
Item 8. Financial Statements and Supplementary Data
The Company's consolidated financial statements and the related report of
independent accountants are presented on pages F-1 to F-27 of this Annual Report
in Form 10-K. The consolidated financial statements filed in this Item 7 are as
follows:
Page
----
Independent Auditors' Report....................................................................... F-1
Consolidated Balance Sheets as of 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 Stockholders' Equity 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
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
None
Item 9A. Controls and Procedures
Management of the Company, with the participation of the President and
Chief Executive Officer and the Chief Financial Officer of Focus (its principal
executive officer and principal financial officer, respectively), evaluated
Focus' disclosure controls and procedures as of the end of the fiscal year
covered by this Report.
Based on that evaluation, the President and Chief Executive Officer and
the Chief Financial Officer have concluded that, as of the end of the fiscal
year covered by this Report, Focus' disclosure controls and procedures are
effective to ensure that information required to be disclosed by Focus in the
reports filed or submitted by it under the Securities Exchange Act of 1934, as
amended, is recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms, and include controls and procedures
designed to ensure that information required to be disclosed by Focus in such
reports is accumulated and communicated to the Focus' management,
29
including the President and Chief Executive Officer and the Chief Financial
Officer of Focus, as appropriate to allow timely decisions regarding required
disclosure.
There was no change in Focus' internal control over financial reporting
that occurred during Focus' fourth fiscal quarter of 2003 that has materially
affected, or is reasonably likely to materially affect, Focus' internal control
over financial reporting.
Item 10. Directors and Executive Officers of the Registered
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
our directors and executive officers, and persons who own more than 10% of a
registered class of our equity securities, to file initial reports of ownership
and reports of changes in ownership with the SEC. Such persons are required by
SEC regulations to furnish us with copies of all Section 16(a) forms they file.
Based solely on our review of the copies of such forms received by it or
written representations from certain reporting persons, that no other reports
were required, we believe that all filing requirements applicable to Focus'
officers, directors, and greater than 10% beneficial owners were complied with
during this year ended December 31, 2003.
Management
Our executive officers and directors as of December 31, 2003 are as follows:
Name (1) Age Position
-------- --- --------
N. William Jasper, Jr. (2) 56 Chairman of the Board
Brett A. Moyer 45 Director, President and Chief
Executive Officer
Carl E. Berg 66 Director
William B. Coldrick (2)(3) 61 Vice Chairman of the Board
Michael L. D'Addio 59 Director
Tommy Eng (4) 45 Director
Timothy E. Mahoney (3) 47 Director
Jeffrey A. Burt 50 Vice President of Operations
Thomas M. Hamilton 54 Executive Vice President and General
Manager of the Focus Semiconductor
Group
Gary L. Williams 37 Secretary, Vice President of Finance
and Chief Financial Officer
- -------------------
(1) Each member of our board of directors generally serves for a three-year
term and until their successors are elected and qualified.
(2) Member of the Audit Committee.
(3) Member of the Compensation Committee.
(4) Mr. Eng joined the Board of Directors on January 30, 2004.
30
Directors
N. William Jasper, Jr. has served as Chairman of the Board of Directors
since December 20, 2002. Mr. Jasper became a member of our Board of Directors on
March 6, 2001, in connection with the Videonics acquisition. Mr. Jasper served
as a member of the Videonics Board of Directors since August 1993. Mr. Jasper
has been the President and Chief Executive Officer of Dolby Laboratories, Inc.,
a private signal processing technology company located in San Francisco,
California since 1983. Mr. Jasper's term expires at the 2004 annual meeting.
Brett A. Moyer, joined us in May 1997. On September 30, 2002 he assumed
the role as President and Chief Executive Officer and became a member of our
Board of Directors. From May 1997 to September 29, 2002, Mr. Moyer severed as
our Executive Vice President and Chief Operating Officer. From February 1986 to
April 1997, Mr. Moyer worked at Zenith Electronics Corporation, Glenview, IL,
where he was most recently the Vice President and General Manager of Zenith's
Commercial Products Division. Mr. Moyer has also served as Vice President of
Sales Planning and Operations at Zenith where he was responsible for
forecasting, customer service, distribution, MIS, and regional credit
operations. Mr. Moyer has a Bachelor of Arts in Economics from Beloit College in
Wisconsin and a Masters of International Management with a concentration in
finance and accounting from The American Graduate School of International
Management (Thunderbird). Mr. Moyer's term expires in 2005.
Carl E. Berg, a co-founder of Videonics, served on Videonics' Board of
Directors since June 1987. In connection with the Videonics acquisition, Mr.
Berg became one of our directors on March 6, 2001. Mr. Berg is currently Chief
Executive Officer and a director for Mission West Properties, a real estate
investment company located in Cupertino, CA. Mr. Berg is also a member of the
Board of Directors of Valence Technology, Inc., and Monolithic System Technology
Inc. Mr. Berg's term expires at the 2004 annual meeting. See also "Certain
Relationships and Related Parties."
William B. Coldrick, has served as our Director since January 1993 and
Executive Vice President from July 1994 to May 1995. Mr. Coldrick is currently a
principal of Enterprise Development Partners, a consulting firm serving emerging
growth companies that he founded in April 1998. From July 1996 to April 1998,
Mr. Coldrick was Group Vice President and General Manager of Worldwide Field
Operations for the Computer Systems Division of Unisys Corp. From 1982 to 1992,
Mr. Coldrick served with Apple Computer Inc. in several senior executive
positions including Senior Vice President of Apple USA from 1990 to 1992. Prior
to joining Apple Computer Inc. Mr. Coldrick held several sales and marketing
management positions with Honeywell Inc. from 1968 to 1982. Mr. Coldrick holds a
Bachelor of Science degree in Marketing from Iona College in New Rochelle, New
York. Mr. Coldrick also serves on the Board of Directors of AESP, a computer
hardware company located in North Miami, Florida. Mr. Coldrick's term expires in
2006.
Michael L. D'Addio joined us on January 16, 2001, in connection with
the acquisition of Videonics Inc., and served as our President, Chief Executive
Officer and Director. On September 30, 2002 Mr. D'Addio voluntarily resigned as
President and Chief Executive Officer. Mr. D'Addio is currently President and
Chief Executive Officer of Coaxsys, Inc., a new network technology company
located in Los Gatos, California. Mr. D'Addio was a co-founder of Videonics, and
had served as Chief Executive Officer and Chairman of the Board of Directors
since Videonics' inception in July 1986. In addition Mr. D'Addio served as
Videonics' President from July 1986 until November 1997. From May 1979 through
November 1985 he served as President, Chief Executive Officer and Chairman of
the Board of Directors of Corvus Systems, a manufacturer of small computers and
networking systems. Mr. D'Addio holds an A.B. degree in Mathematics from
Northeastern University. Mr. D'Addio's term expires in 2006.
Tommy Eng, has served as our Director since January 2004. Mr. Eng is
the Vice Chairman and founder of Tera Systems, a private electronic design
automation (EDA) company. Mr. Eng's career includes various management and
engineering positions of increasing responsibilities. Prior to founding Tera
Systems in 1996, he was the General Manager of the Advanced IC Design Automation
and Design Consultation division of Mentor Graphics. Previous to Mentor
Graphics, Eng was the General Manager of the IC Design Services and EDA Software
division of Silicon Compiler Systems. Eng also has held various technical staff
positions at ATT Bell Laboratories developing microprocessors, network switches,
and IC design tools. Mr. Eng holds a MS in Electrical Engineering from the
University of California, Berkeley. Mr. Eng's term expires in 2005.
Timothy E. Mahoney, has served as our Director since March 1997. He has
more than 20 years of experience in the computing industry. Mr. Mahoney founded
Union Atlantic LC, in 1994, a consulting company for emerging technology
companies and in 1999 became Chairman and COO of vFinance, Inc., the parent
company of Union Atlantic, LC and vFinance Investments, Inc. He earned a BA in
computer science and business from West Virginia University and an MBA from
George Washington University. Mr. Mahoney's term expires at the 2004 annual
meeting. See also "Certain Relationships and Related Parties."
31
Non-Director Executive Officers
Jeffrey A. Burt, joined us to serve as our Vice President of Operations
on January 16, 2001 in connection with the acquisition of Videonics, Inc. Mr.
Burt was Vice President of Operations of Videonics since April 1992. From August
1991 to March 1992, Mr. Burt served Videonics as its Materials Manager. Prior to
that time, from October 1990 until July 1991, Mr. Burt acted as a consultant to
Videonics in the area of materials management. From May 1989 to October 1990,
Mr. Burt served as the Director of Manufacturing of On Command Video. Mr. Burt
holds a B.A. degree in Economics from the University of Wisconsin at Whitewater.
Thomas M. Hamilton, joined us in September 1996 and in July 2001
assumed the role of Executive Vice President and General Manager of the Focus
Semiconductor Group. From September 1996 to July 2001, Mr. Hamilton served as
Vice President of Engineering and our Chief Technical Officer. From 1992 to
1996, Mr. Hamilton was President, Chief Executive Officer and Co-Founder of
TView, Inc., a company acquired by us. From 1985 to 1990, Mr. Hamilton was Vice
President of Engineering of TSSI. From 1973 to 1985, Mr. Hamilton held a variety
of engineering and marketing management positions at Tektronix, Inc. Mr.
Hamilton has a BS in Mathematics from Oregon State University.
Gary L. Williams, joined us as our Secretary, Vice President of Finance
& CFO on January 16, 2001 in connection with the acquisition of Videonics Inc.
Mr. Williams had served Videonics as its Vice President of Finance, Chief
Financial Officer and Secretary since February 1999. From February 1995 to
January 1999, Mr. Williams served as Videonics' Controller. From July 1994 to
January 1995, he served as Controller for Western Micro Technology, a publicly
traded company in the electronics distribution business. From January 1990 to
June 1994, Mr. Williams worked in public accounting for Coopers & Lybrand LLP.
Mr. Williams is a Certified Public Accountant and has a Bachelors Degree in
Business Administration, with an emphasis in Accounting from San Diego State
University.
Audit Committee
The audit committee of the board is composed of three (3) members and
operates under a written charter adopted by the board of directors. The audit
committee currently consists of Messrs. Berg, Coldrick, and Jasper. All three
members are "independent," as defined by the Nasdaq current listing standards.
The Board has determined that Mr. Jasper is an audit committee financial expert.
Code of Ethics
We maintain a code of ethics that applies to our principal executive
officer, principal financial officer, controller, or persons performing similar
functions. Any waiver of the code must be approved by the Audit Committee and
must be disclosed in accordance with SEC and Nasdaq rules. During the second
quarter of 2004, we expect to adopt and have publicly available a code of
conduct applicable to directors, officers and employees in accordance with
Nasdaq rules.
32
Item 11. Executive Compensation
The following table summarizes the compensation we paid or accrued for
services rendered for the years ended December 31, 2003, 2002 and 2001, to our
Chief Executive Officer and each of the other most highly compensated executive
officers who earned more than $100,000 in salary and bonus for the year ended
December 31, 2003.
Summary Compensation Table
Long-Term
Compensation Other
Annual Compensation(1)(2) Options(3) Compensation
------------------------------------- ----------------- -----------------
Name and
Principal Position Year Salary ($) Bonus($)
- ------------------ ---- ---------- --------
Brett A. Moyer(4) 2003 $206,847 $25,241 202,239 $10,008(8)
President & Chief Executive 2002 $164,673 $ 7,846(5) 350,000 $64,510(6)
Officer 2001 $155,000 $91,133(5) -- --
Thomas M. Hamilton 2003 $163,077 $34,789 36,567 --
Executive Vice President and 2002 $156,154 $12,500 95,000 --
General Manager, 2001 $140,000 -- -- --
Semiconductor Group
Jeffrey A. Burt 2003 $168,172 $10,000 26,119 $ 400(7)
Vice President of Operations 2002 $161,826 -- 25,000 $ 400(7)
2001 $158,654 -- -- $ 400(7)
Gary L. Williams 2003 $167,885 $19,200 36,567 $ 400(7)
Secretary, Vice President of 2002 $152,135 $11,666 25,000 $ 400(7)
Finance and Chief Financial 2001 $144,231 -- -- $ 400(7)
Officer
- ----------------------
(1) Includes salary and bonus payments earned by the named officers in the
year indicated, for services rendered in such year, which were paid in the
following year.
(2) Excludes perquisites and other personal benefits, the aggregate annual
amount of which for each officer was less than the lesser of $50,000 or
10% of the total salary and bonus reported.
(3) Long-term compensation table reflects the grant of non-qualified and
incentive stock options granted to the named persons in each of the
periods indicated.
(4) Mr. Moyer assumed the role of President and Chief Executive Officer on
September 30, 2002. See also "- 2002 Non Qualified Stock Option Plan."
(5) Includes compensation based on sales commissions.
(6) Relocation expenses paid by the Company for Mr. Moyer's move from
Massachusetts to California.
(7) Company discretionary 401(k) contribution.
(8) Remaining relocation expenses paid by the Company for Mr. Moyer's move
($9,608) and Company 401(k) contribution ($400)
33
Existing Equity Compensation Plan Information
At (c)
December 31, 2003 Number of securities
(a) (b) remaining available for
Number of securities to be Weighted-average future issuance under
issued upon exercise of exercise price of equity compensation plans
outstanding options, outstanding options, (excluding securities
Plan Category warrants and rights warrants and rights reflected in column (a))
------------- ------------------- ------------------- ------------------------
Equity compensation plans approved by
security holders (1) 5,188,150 $1.07 1,523,045
(1) Focus does not maintain any equity compensation plans that were not
submitted to, and approved by, its stockholders.
2002 Non-Qualified Stock Option Plan
On September 24, 2003, the Board of Directors of Focus amended the 2002
Non-Qualified Stock Option Plan (the "2002 Plan") which authorized the grant of
options to purchase up to an aggregate of 2,200,000 (previously 1,000,000)
shares of common stock. On December 19, 2003 the Company's stockholder's
approved the Amended 2002 Plan. Options granted under this plan generally vest
over a period of three years. As of March 10, 2004, 737,100 options had been
granted from the Amended 2002 Plan. This included 150,000 options to purchase
common stock granted to Mr. Moyer in accordance with his employment contract.
Option/SAR Grants in 2003
The following tables sets forth as to the Chief Executive Officer and
each of the other executive officers named in the Summary Compensation Table,
certain information with respect to options to purchase shares of our common
stock as of and for the year ended December 31, 2003.
Potential Realizable
Number of Value at Assumed Annual
Securities % of Total Rates of Stock Price
Underlying Options/ Exercise Or Appreciation
Options/ SARs Granted Base Price for Option Term
SARs Granted to Employees ($/per ---------------------
Name (#) in 2003(1) Share) Exp. Date 5% 10%
------------ ------------ ------------ --------- -------- --------
Brett A. Moyer 150,000 15.2% $0.75 3/31/13 $31,082 $ 68,682
Brett A. Moyer 52,239 5.3% $1.57 7/22/13 $51,579 $130,711
Jeffrey A. Burt 26,119 2.6% $1.57 7/22/13 $25,789 $ 65,354
Thomas M. Hamilton 36,567 3.7% $1.57 7/22/13 $36,105 $ 91,497
Gary L. Williams 36,567 3.7% $1.57 7/22/13 $36,105 $ 91,497
(1) Focus granted options to purchase a total of 989,558 shares of common
stock to employees and directors in 2003.
The following table sets forth information concerning options exercised
during fiscal year 2003 and the value of unexercised options as of December 31,
2003 held by the executives named in the Summary Compensation Table above.
34
Aggregated Option/SAR Exercises in 2003 and Fiscal Year-End Option/SAR Values
Value of Unexercised
Number of Securities In-the-Money
Shares Underlying Unexercised Options/SARs at
Acquired on Value Options/SARs at Year-End Year-End(1)
Exercise Realized ------------------------------ ----------------------------
(#) ($) Exercisable Unexercisable Exercisable Unexercisable
------- -------- ----------- ------------- ----------- -------------
Brett A. Moyer 179,999 $148,625 410,314 351,295 $525,096 $385,070
Jeffrey A. Burt 97,875 $147,954 104,277 49,067 $126,756 $47,961
Thomas M. Hamilton 41,666 $43,379 322,302 84,265 $394,422 $72,725
Gary L. Williams 25,000 $44,500 210,989 49,606 $283,012 $39,826
- -----------------
(1) Value is based on the difference between option exercise price and the
closing price as quoted on The Nasdaq SmallCap Market at the close of
trading on December 31, 2003 ($2.17) multiplied by the number of shares
underlying the option.
Employment Agreements
Brett Moyer is party to an employment contract with us effective September
30, 2002. Pursuant to this employment contract, Mr. Moyer serves as our Chief
Executive Officer and President. In addition, in connection with the employment
agreement, Mr. Moyer was granted at total of 500,000 options to purchase shares
of Common Stock at prices of $0.75 and $1.15 per share, the then fair market
values. The options vest over a three year period at 2.77% per month. Under the
employment contract, these options accelerate, so as to be immediately
exercisable if Mr. Moyer is terminated without cause during the term of the
contract. The employment contract provides for incentive bonuses of up to
$110,000 as determined by our Board of Directors and employee benefits,
including health and disability insurance, in accordance with our policies. The
initial term of the agreement is for two years and would terminate on August 6,
2004. Mr. Moyer's contract will automatically renew for an additional one year
period unless terminated by either party 30 days prior to the end of the initial
term.
Thomas Hamilton is party to an employment contract with us effective October
17, 1996, as amended to date, which renews automatically after December 31,
1998, for one-year terms, subject to certain termination provisions. This
employment contract requires the acceleration of vesting of all options held by
Mr. Hamilton so as to be immediately exercisable if Mr. Hamilton is terminated
without cause during the term of the contract. The employment contract provides
for bonuses as determined by our Board of Directors and employee benefits,
including health and disability insurance, in accordance with Focus' policies.
Mr. Burt and Mr. Williams have entered into Key Employee Agreements to
provide for the acceleration of option vesting under certain circumstances upon
a change in control as defined in those respective agreements.
Compensation of Directors
Our non-employee directors are reimbursed for out of pocket expenses
incurred in attending board meetings. No director who is an employee receives
separate compensation for services rendered as a director. Non-employee
directors are eligible to participate in our stock option plans. An aggregate of
125,000 options to purchase an equal number of shares at an average exercise
price of $1.57 per share were granted to our non-employee Directors during the
year ended December 31, 2003. All of the options are subject to various vesting
provisions.
Repricing of Stock Options
On September 1, 1998, we repriced all employee and director options under
all plans to $1.22 per share for those options priced in excess of this value.
This price represented the closing market price of our common stock on September
1, 1998.
35
Stock Option Plans
We maintain various stock option plans for the benefit of our officers,
directors and employees. A total of 1,523,045 options were available for
issuance under the plans as of December 31, 2003. For additional discussion of
the plans and awards thereunder see Note 12 "Stockholders Equity - Common Stock"
beginning on page F-19.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Shareholder Matters
The following table sets forth information, as of March 10, 2004, regarding
the shares of our Common Stock beneficially owned by those stockholders of Focus
known to management to beneficially own more than five percent (5%) of our
Common Stock, each of our directors, nominees and executive officers, as well as
all directors and executive officers as a group. Except as noted, we believe
each person has sole voting and investment power with respect to the shares
shown subject to applicable community property laws.
"Beneficial ownership" is a technical term broadly defined by the SEC to
mean more than ownership in the usual sense. For example, you beneficially own
our Common Stock not only if you hold it directly, but also indirectly, if you,
through a relationship, contract or understanding, have, or share, the power to
vote the stock, to sell the stock or have the right to acquire the stock.
Percentage of beneficial ownership based on 43,177,902 shares of our Common
Stock, 1,904 shares of Series B Preferred Stock converted into 1,904,000 shares
of our common stock and 2,176,592 shares issuable pursuant to beneficially owned
options, detailed below, that are exercisable as of March 10, 2004, or within 60
days thereafter.
Percentage of
Number of Shares Outstanding
Name Beneficially Owned Common Stock(1)
---- ------------------ ---------------
Brett A. Moyer(2)...................................... 521,495 1.1%
Carl E. Berg(3)........................................ 2,024,585 4.3
William B. Coldrick(4)................................. 218,203 *
Michael L. D'Addio(5).................................. 940,766 2.0
Tommy Eng (6).......................................... 4,168 *
N. William Jasper, Jr.(7).............................. 168,929 *
Timothy E. Mahoney(8).................................. 13,195 *
Jeffrey A. Burt(9)..................................... 123,339 *
Thomas M. Hamilton(10)................................. 345,559 *
Gary L. Williams (11).................................. 222,754 *
All executive officers and directors as a group (10
persons)(12)....................................... 4,582,993 9.7%
- ------------
* Less than 1% of the outstanding common stock.
(1) Unless otherwise indicated, each person possesses sole voting and
investment power with respect to the shares. (2) Includes 40,100 shares of
common stock held directly by Mr. Moyer. Includes 481,395 shares issuable
pursuant to outstanding stock options that are exercisable at March 10,
2004, or within 60 days thereafter.
(3) Includes 1,904 shares of preferred stock held directly by Mr. Berg that
are convertible into 1,904,000 shares of our common stock. Includes
120,585 shares issuable pursuant to outstanding stock options that are
exercisable at March 10, 2004, or within 60 days thereafter. Does not
include shares to be received on conversion of debt and accrued interest.
See "Liquidity and Capital Resources".
(4) Includes 7,369 shares of common stock held directly or indirectly by Mr.
Coldrick. Includes 210,834 shares issuable pursuant to outstanding stock
options that are exercisable at March 10, 2004, or within 60 days
thereafter.
(5) Includes 419,932 shares of common stock held directly or indirectly by Mr.
D'Addio. Includes 520,834 shares issuable pursuant to outstanding stock
options that are exercisable at March 10, 2004, or within 60 days
thereafter.
(6) Includes 4,168 shares issuable pursuant to outstanding stock options that
are exercisable at March 10, 2004, or within 60 days thereafter.
(7) Includes 29,000 shares of common stock held directly or indirectly by Mr.
Jasper. Includes 139,929 shares issuable pursuant to outstanding stock
options that are exercisable at March 10, 2004, or within 60 days
thereafter.
(8) Includes 13,195 shares issuable pursuant to outstanding stock options that
are exercisable at March 10, 2004, or within 60 days thereafter.
36
(9) Includes 123,339 shares issuable pursuant to outstanding stock options
that are exercisable at March 10, 2004, or within 60 days thereafter.
(10) Includes 6,000 shares of common stock held directly by Mr. Hamilton.
Includes 339,559 shares issuable pursuant to outstanding stock options
that are exercisable at March 10, 2004, or within 60 days thereafter.
(11) Includes 222,754 shares issuable pursuant to outstanding stock options
that are exercisable at March 10, 2004, or within 60 days thereafter.
(12) Includes 2,176,592 shares issuable pursuant to options and warrants to
purchase common stock exercisable at March 10, 2004, or within 60 days
thereafter.
Item 13. Certain Relationships and Related Transactions
vFinance, Inc.
Timothy Mahoney, who is a Focus director, is a principal of vFinance,
Inc., the parent of vFinance Capital L.C. and a partner of Union Atlantic L.C.
For the year ended December 31, 2001, the Company issued to vFinance Capital
L.C. 243,833 shares of its common stock in lieu of investment banking fees in
connection with the acquisition of Videonics in January 2001, and 79,444 shares
of our common stock were issued to vFinance, Inc. for payment under and
settlement for the termination of a Management and Financial Consulting
Agreement between Focus and Union Atlantic L.C. and vFinance Capital L.C. In
addition, vFinance and its affiliates were issued 47,055 shares of common stock
pursuant to a price protection provision. Had vFinance, Inc. or any of its
affiliates publicly sold its shares of common stock in the market at a price
below $1.03, Focus would have been required to issue to vFinance, Inc.
additional unregistered shares to make up any shortfalls between the market
price at the time the shares were sold and $1.03. At December 31, 2002, the
price protection provision had expired and the Company was under no further
obligations to vFinance. Consequently, vFinance, Inc. returned the 47,055 shares
of common stock in the first quarter of 2003.
In addition, pursuant to an agreement dated December 27, 2001, vFinance
received a warrant to purchase 25,000 shares of the Company's common stock at a
per share exercise price of $1.54 per share. For such compensation, vFinance
provided the Company with non-exclusive financial advisory services for a period
of 12 months.
During the quarter ended March 31, 2002, in connection with its efforts
to find investors in the private placement completed on January 11, 2002,
vFinance Investments Inc. received from us $275,000 in cash and a warrant to
purchase 123,690 shares of our common stock at $1.36 per share.
During the quarter ended December 31, 2002, in connection with its
efforts to find investors in the private placement completed on November 25,
2002, vFinance Investments Inc. received from us $70,000 in cash and warrants to
purchase 40,000 shares of our common stock at $1.20 per share.
In February 2003, the Company engaged vFinance Investments, Inc. to
assist the Company with the preparation of a strategic business plan. Tim
Mahoney, a member of the Company's Board of Directors, is the Chairman and COO
of vFinance, Inc., the parent company to vFinance Investments. In connection
with the preparation of the business plan, the Company incurred consulting
expenses of $50,000 during 2003, which is included in general and administrative
expenses.
The Company also engaged vFinance Investments Inc., from July 1, 2003
to December 31, 2003, to act as the Company's exclusive financial advisor, for
the purpose of merger and acquisition services. In connection with such
financial advisory services, the Company incurred consulting expenses of $45,000
for the year ended December 31, 2003, which is included in general and
administrative expenses. If vFinance Investments assists in the successful
completion of a qualifying transaction under the engagement, the Company will
pay vFinance Investments a success fee depending on the total value of the
transaction of (i) no less than $100,000 and up to 2% of the total value of the
transaction; and (ii) no less than 30,000 and up to 80,000 shares of the
Company's common stock. See "Note 18 - Subsequent Events on page F-27 for more
information."
In connection with its efforts to find investors for the Company in the
private placement completed on July 2, 2003, vFinance Investments Inc. received
$137,500 and out-of-pocket expenses, including legal fees, of $27,500. All such
cash payments to vFinance Investments Inc., were recorded as reductions of the
proceeds received from the private placements.
37
Carl Berg
Carl Berg, a Focus director and stockholder and previous director and
stockholder of Videonics Inc., had a $1,035,000 loan outstanding to Videonics
Inc., that we assumed on January 16, 2001 in connection with the merger. This
unsecured loan accrued interest at 8% per year, and was due on January 16, 2002.
Accrued interest was payable at maturity. On May 7, 2001, Focus and Mr. Berg
agreed to the conversion of $1,035,000 of the outstanding principal balance and
all accrued interest into 1,012 shares of Series B Preferred Stock.
Additionally, Carl Berg, loaned us $2,362,494 on October 26, 2000, to
collateralize a $2,362,494 bond posted in connection with the CRA litigation
(see "CRA Systems, Inc."). The promissory note had a term of three years and
bears interest at a rate of prime plus 1% (5.00% at December 31, 2003). Interest
earned on the restricted collateral deposit was payable to Mr. Berg. The
interest payable by us to Mr. Berg was reduced by the amount of interest earned
on the restricted collateral deposit. The principal amount of the note was
originally due on October 26, 2003, but was amended on November 25, 2003, to
provide for an extension of the maturity date to January 25, 2005, with interest
to be paid quarterly. Under certain circumstances, including at the election of
Mr. Berg and Focus, the promissory note and any accrued and unpaid interest is
convertible into shares of the Focus common stock at a conversion price of $1.25
which represented the average closing bid and ask price of our common stock on
the day preceding the agreement. The promissory note is secured by a security
agreement in favor of Mr. Berg granting him a first priority security interest,
over substantially all of our assets. On May 7, 2001, $46,000 of outstanding
interest due under the note was converted into 38 shares of Series B Preferred
Stock. In February 2002, in connection with the settlement of the CRA Systems
Inc. case, the bond was liquidated and excess proceeds of $145,000 were used to
pay down a portion of this note. As of December 31, 2003 we had unpaid principal
and accrued interest due under the note totaling approximately $2,509,000.
On February 28, 2001, Carl Berg agreed to loan us $2.0 million to
support our working capital needs, bearing interest at a rate of prime plus 1%.
The principal amount of the note will be due at the end of its term, with
interest to be paid quarterly. On April 24, 2001, the note was amended to
provide that under certain circumstances, including at the election of Mr. Berg
and Focus, the promissory note and any accrued and unpaid interest is
convertible into shares of the Company's preferred stock at a conversion price
of $1,190 per share which represented 1,000 (each share of preferred is
convertible into 1,000 shares of common) multiplied by 125% of the trailing
30-day average of the Company's common stock ending April 23, 2001. The
promissory note is secured by a security agreement in favor of Mr. Berg granting
him a security interest in first priority over substantially all of our assets.
On May 7, 2001, Focus and Mr. Berg agreed to the conversion of $1,000,000 of the
outstanding principal balance and $16,000 of accrued interest into 854 shares of
Series B Preferred Stock. On November 25, 2003, the note was amended to provide
for an extension of the maturity date for the remaining principal balance of
$1,000,000, from the maturity date of October 26, 2003 to January 25, 2005. As
of December 31, 2003 we had principal and accrued interest due under the note
totaling approximately $1,160,000.
On June 29, 2001, we issued a convertible promissory note to Mr. Berg
in the amount up to $650,000 to support the Company's working capital needs. The
promissory note had an original due date of January 3, 2003 which was extended
to January 25, 2005 and bears interest at a rate of prime plus 1%. The principal
amount of the note will be due at the end of its term, with interest to be paid
quarterly. The note provides that at the election of Mr. Berg and Focus, the
promissory note and any accrued and unpaid interest is convertible into shares
of the Company's Series C Preferred Stock at a conversion price of $1,560 per
share which represented 1,000 (each share of preferred is convertible into 1,000
shares of common) multiplied by 125% of the trailing 30-day average of Focus'
common stock ending June 28, 2001. The promissory note is secured by a security
agreement in favor of Mr. Berg granting him a security interest in first
priority over substantially all of our assets. As of December 31, 2003 we had
principal and accrued interest due under the note totaling approximately
$744,000.
Additionally, in December 2002, Mr. Berg provided Samsung Semiconductor
Inc., the Company's contracted ASIC manufacturer, with a personal guarantee to
secure the Company's working capital requirements for ASIC purchase order
fulfillment. Mr. Berg agreed to provide the personal guarantee on the Company's
behalf without additional cost or collateral, as Mr. Berg maintains a secured
priority interest in substantially all the Company's assets. At December 31,
2003, the Company owed Samsung $562,000, under net 30 terms.
At December 31, 2003, the Company owed Carl Berg, approximately $4.4
million in principal and accrued interest on the various aforementioned notes.
In September 2003, Mr. Berg agreed to convert such debt and accrued interest
into preferred and common stock on conversion terms agreed to more than two
years ago. As of December 31, 2003, the conversion would result in the issuance
of approximately 2,201,139 shares of common stock and 1,257 shares of preferred
stock convertible into an additional 1,257,000 shares of common stock. The
conversion is expected to be completed as soon as practical, but in no event
sooner than March 15, 2004.
38
All material affiliate transactions and loans between Focus and its
officers, directors, principal stockholders or other affiliates are made or
entered into on terms that are no less favorable to such individuals than would
be obtained from, or given to, unaffiliated third parties and are approved by a
majority of the board of directors who do not have an interest in the
transactions and who have access, at Focus' expense to Focus' or independent
legal counsel.
Item 14. Principal Accountant Fees and Services
The following table sets forth the aggregate audit fees and non-audit
related fees that Focus incurred for services provided by Deloitte & Touche, LLP
during the fiscal years ended December 31, 2003 and 2002. The table lists audit
fees, financial information systems design and implementation fees, and all
other fees. All services rendered by Deloitte & Touche, LLP during the fiscal
years ended December 31, 2003 and 2002 were furnished at customary rates and
terms.
Fiscal Year Ended
December 31,
---------------------------
2003 2002
-------- --------
Audit fees ............................... $166,375 $153,778
Audit-related fees ....................... 0 0
Tax fees ................................. 0 0
All other fees ........................... 9,125 8,350
-------- --------
Total ................................. $175,500 $162,128
======== ========
Audit fees include only fees that are customary under generally accepted
auditing standards and are the aggregate fees Focus incurred for professional
services rendered for the audit of Focus' annual financial statements for fiscal
year ended December 31, 2003 and the reviews of the financial statements
included in Focus' Quarterly Reports on Forms 10-QSB and 10-Q for the fiscal
year ended December 31, 2003.
All other fees include assistance with the Company's various filings
including the Company's registration statement filings on Form S-3 related to
securities offerings. The Audit Committee has determined that the provision of
non-audit services by Deloitte is compatible with maintaining Deloitte's
independence. During fiscal year 2003, the Audit Committee approved in advance
all audit and non-audit services provided by Deloitte.
39
Item 15. Exhibits Financial Statement Schedules and Reports On Form 8-K
(a) Exhibits
The following exhibits, required by Item 601 of Regulation S-B, are
filed as a part of this Annual Report on Form 10-K or are incorporated
by reference to previous filings as indicated by the footnote
immediately following the exhibit. Exhibit numbers, where applicable,
in the left column correspond to those of Item 601 of Regulation S.
Exhibit No. Description
2.1 Agreement and Plan of Merger dated as of August 30, 2000 among
Focus, Videonics, and PC Video Conversion (1)
2.2 Agreement and Plan of Reorganization dated as of January 27, 2004 by
and between Focus and Visual Circuits Corporation (22)
3.1 Second Restated Certificate of Incorporation of Focus (2)
3.2 Certificate of Amendment to Second Restated Certificate of
Incorporation of Focus (3)
3.3 Certificate of Amendment to Second Restated Certificate of
Incorporation of Focus dated July 25, 1997 (4)
3.4 Restated Bylaws of Focus (2)
3.5 Certificate of Designation - Series B Preferred Stock (5)
3.6 Certificate of Amendment to Second Restated Certificate of
Incorporation of Focus dated January 16, 2001 (19)
3.7 Certificate of Amendment to Second Amended and Restated Certificate
of Incorporation of Focus dated January 8, 2003 (19)
3.8 Certificate of Amendment to Second Amended and Restated Certificate
of Incorporation of Focus dated March 12, 2004 *
3.9 Certificate of Designation - Series C Preferred Stock *
4.1 Specimen certificate for Common Stock of Focus (2)
4.2 Specimen certificate for Redeemable Common Stock Purchase Warrant
(2)
4.3 Form of Warrant issued to various investors pursuant to Amendment
No. 1 to Stock Subscription Agreement dated April 1996 (6)
4.4 Form of Warrant issued to the placement agent in the March 1997
Offering (6)
4.5 Form of Warrant dated September 10, 1997 issued to designees of the
placement agent (7)
4.6 Form of Stock Purchase Warrant issued to AMRO International, S.A.
(included as Exhibit A to the Common Stock and Warrants Purchase
Agreement - see Exhibit 10.2) (8)
4.7 Stock Purchase Warrant issued to Union Atlantic, L.C. (9)
4.8 Form of Common Stock Purchase Warrant dated January 11, 2002 issued
by Focus to five Investors (10)
4.9 Common Stock Purchase Warrant dated December 27, 2001 issued by
Focus to vFinance (10)
4.10 Warrant issued to vFinance dated November 25, 2002 (19)
4.11 Form of Warrant to Investors dated July 1, 2003 (21)
10.1 1997 Director Stock Option Plan (11)
10.2 Common Stock and Warrants Purchase Agreement with AMRO
International, S.A. (8)
10.3 Common Stock and Warrant Purchase Agreement, as amended, with BNC
Bach International Ltd., Inc. (9)
10.4 Form of Registration Rights Agreement with BNC Bach International
Ltd., Inc. (included as Exhibit B to the Common Stock and Warrant
Purchase Agreement (9)
10.5 Agreement between Union Atlantic, L.C. and FOCUS Enhancements, Inc.
confirming Reorganization Agreement to issue warrant in exchange for
fee reduction (9)
40
10.6 Common Stock Warrant and Purchase Agreement with AMRO International,
S.A. dated June 9, 2000 (8)
10.7 Promissory Note, dated October 26, 2000, from Focus Enhancements,
Inc. to Carl Berg (12)
10.8 Security Agreement dated October 26, 2000, between Focus
Enhancements, Inc. and Carl Berg (12)
10.9 2000 Non-Qualified Stock Option Plan (13)
10.10 Amendment No. 1 to Secured Promissory Note dated April 24, 2001
issue by Focus to Carl Berg (excludes exhibits B and C) (5)
10.11 Registration Rights Agreement dated May 1, 2001 between Focus and
Carl Berg (5)
10.12 Promissory note issued to Carl Berg dated June 29, 2001 (14)
10.13 Termination Agreement between Focus and Euston dated January 11,
2002 (10)
10.14 Form of Common Stock and Warrant Purchase Agreement with four
investors dated January 11, 2002 (10)
10.15 Form of Registration Rights Agreement with four investors dated
January 11, 2002 (10)
10.16 1998 Non-Qualified Stock Option Plan (15)
10.17 Third Addendum to Lease Dated July 6, 1994, by and between H-K
Associates (Lessor) and Focus Enhancements, Inc. (Lessee) for
premises At 1370 Dell Ave, Campbell, California (16)
10.18 Employment agreement between Focus Enhancements and Brett Moyer (17)
10.19 2002 Non-Qualified Stock Option Plan (18)
10.20 Common Stock Purchase Agreement with two investors dated November
25, 2002 (excludes annexes) (19)
10.21 Registration Rights Agreement with two investors dated November 25,
2002 (19)
10.22 Extension of Notes Payable between the Company and Carl Berg dated
April 28, 2003 (20)
10.23 Common Stock and Warrant Purchase Agreement (excluding exhibits)
with two investors dated July 1, 2003 (21)
10.24 Registration Rights Agreement with two investors dated July 1, 2003
(21)
14 Code of Ethics *
23.1 Consent of Deloitte & Touche LLP *
31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 by CEO*
31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 by CFO*
32.1 Certification Pursuant to 18 U.S.C. Section 1350 by CEO*
32.2 Certification Pursuant to 18 U.S.C. Section 1350 by CFO*
- ----------------------
* Included.
1. Filed as an exhibit to Focus' Current Report on Form 8-K dated
September 8, 2000, and incorporated herein by reference.
2. Filed as an exhibit to Focus' Registration Statement on Form SB-2
(No. 33-60248-B) and incorporated herein by reference.
3. Filed as an exhibit to Focus' Form 10-QSB for the period ended
September 30, 1995, and incorporated herein by reference.
4. Filed as an exhibit to Focus' Form 10-QSB dated August 14, 1997, and
incorporated herein by reference.
5. Filed as an exhibit to Focus' Amended Registration Statement on Form
SB-2 (No. 333-55178) filed on August 9, 2001 as amended,
incorporated herein by reference.
6. Filed as an exhibit to Focus' Registration Statement on Form S-3
(No. 333-26911) filed with the Commission on May 12, 1997, and
incorporated herein by reference.
7. Filed as an exhibit to Focus' Form 8-K dated September 10, 1997, and
incorporated herein by reference.
41
8. Filed as an exhibit to Focus' Registration Statements on Form S-3
(No. 333-81177) filed with the Commission on June 21, 1999, and
incorporated herein by reference.
9. Filed as an exhibit to Focus' Registration Statement on Form S-3
(No. 333-94621) filed with the Commission on January 13, 2000, and
incorporated herein by reference.
10. Filed as an exhibit to Focus' Amendment No. 3 to Registration
Statement on Form SB-2 (No. 333-55178) filed on January 23, 2002,
and incorporated herein by reference.
11. Filed as an exhibit to Focus' Registration Statement on Form S-8
(No. 333-33243) filed with the Commission on August 8, 1997, and
incorporated herein by reference.
12. Filed as an exhibit to Focus' Current Report on Form 8-K dated
October 31, 2000, as amended by Focus' Current Report on Form 8-K/A
dated November 2, 2000, and incorporated herein by reference.
13. Filed as an exhibit to Focus' Form S-8 (No. 333-57762) filed with
the Commission on March 28, 2001, and incorporated herein by
reference.
14. Filed as an exhibit to Focus' Amendment No. 4 to Registration
Statement on Form SB-2 (No. 333-55178) filed on February 11, 2002,
and incorporated herein by reference.
15. Filed as an exhibit to Focus' Form S-8 (No. 333-89770) filed with
the Commission on June 4, 2002, and incorporated herein by
reference.
16. Filed as an exhibit to Focus' Form l0-QSB dated August 14, 2002, and
incorporated herein by reference.
17. Filed as an exhibit to Focus' Form l0-QSB dated November 14, 2002,
and incorporated herein by reference.
18. Filed as Appendix B to Focus' Definitive Proxy Statement filed with
the Commission on November 13, 2002, and incorporated herein by
reference.
19. Filed as an exhibit to Focus' Form 10-KSB dated March 31, 2003, and
incorporated herein by reference.
20. Filed as an exhibit to Focus' Form 10-QSB filed with the SEC on May
9, 2003, and incorporated herein by reference.
21. Filed as an exhibit to Focus' Registration Statement on Form S-3
filed with the SEC on August 21, 2003, and subsequently amended, and
incorporated herein by reference.
22. Filed as an exhibit to Focus' Registration Statement on Form S-4
filed with the SEC on February 18, 2004, and incorporated herein by
reference.
(b) Reports on Form 8-K
On November 4, 2003, Focus Enhancements, Inc. issued a press release
announcing its third quarter 2003 results.
On December 24, 2003, Focus Enhancements, Inc. issued a press
release stating that on December 19, 2003, at Focus Enhancements,
Inc. Annual Stockholder's Meeting, Bill Coldrick and Michael D'Addio
were elected as directors to serve until 2006 and the Stockholders
passed the following proposals:
o An amendment to the Articles of Incorporation increasing the
number of authorized shares of Common Stock from 60,000,000 to
100,000,000;
o An amendment to the 2002 Non-Qualified Stock Option Plan
increasing the number of shares of Common Stock available for
grant from 1,000,000 to 2,200,000; and
o The ratification of Deloitte & Touche, LLP as the Company's
independent auditors for the year ending December 31, 2003.
42
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Focus Enhancements, Inc.
Campbell, CA
We have audited the accompanying consolidated balance sheets of Focus
Enhancements, Inc. and subsidiaries (the "Company") as of December 31, 2003 and
2002, and the related statements of operations, stockholders' equity, and cash
flows for each of the three years in the period ended December 31, 2003. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements 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 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, such consolidated financial statements present fairly,
in all material respects, the financial position of the Company at December 31,
2003 and 2002, and the results of its operations and its 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.
The accompanying financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note 2 to the
financial statements, the Company's recurring losses from operations and
accumulated deficit raise substantial doubt about its ability to continue as a
going concern. Management's plans concerning these matters are also described in
Note 2. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
As discussed in Note 1, in 2002 the Company changed its method of
accounting for goodwill and other intangible assets to conform to Statement of
Financial Accounting Standards No. 142, "Goodwill and Other intangible Assets".
DELOITTE & TOUCHE LLP
San Jose, California
March 15, 2004
F-1
Focus Enhancements, Inc.
Consolidated Balance Sheets
(in thousands, except share data)
December 31,
-----------------------
2003 2002
-------- --------
ASSETS
Current assets:
Cash and cash equivalents $ 3,731 $ 1,310
Accounts receivable, net of allowances of $384 and $402 at
December 31, 2003 and 2002, respectively 2,385 1,628
Inventories 3,493 2,350
Prepaid expenses and other current assets 368 185
-------- --------
Total current assets 9,977 5,473
Property and equipment, net 146 191
Capitalized software development costs -- 40
Other assets, net 151 86
Intangible assets, net 635 1,053
Goodwill, net 5,191 5,191
-------- --------
Total assets $ 16,100 $ 12,034
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Obligations under capital leases, current portion $ -- $ 44
Accounts payable 2,292 1,860
Accrued liabilities 1,989 2,018
-------- --------
Total current liabilities 4,281 3,922
Convertible notes payable to shareholder 3,867 3,867
Obligations under capital leases, non-current -- 1
-------- --------
Total liabilities 8,148 7,790
-------- --------
Commitments and contingencies (Note 11)
Stockholders' equity
Preferred stock, $.01 par value; authorized 3,000,000 shares; 1,904 shares
issued at December 31, 2003 and 2002 (aggregate liquidation
preference $2,267) -- --
Common stock, $.01 par value; 100,000,000 shares authorized, 42,800,240 and
37,560,537 shares issued at December 31, 2003 and 2002, respectively 428 376
Additional paid-in capital 71,295 65,940
Accumulated deficit (63,021) (61,323)
Deferred compensation and price protection -- (49)
Treasury stock at cost, 497,500 and 450,000 shares at December 31, 2003
and 2002, respectively (750) (700)
-------- --------
Total stockholders' equity 7,952 4,244
-------- --------
Total liabilities and stockholders' equity $ 16,100 $ 12,034
======== ========
The accompanying notes are an integral part
of the consolidated financial statements.
F-2
Focus Enhancements, Inc.
Consolidated Statements of Operations
(in thousands, except per share data)
Years ended December 31,
--------------------------------------
2003 2002 2001
-------- -------- --------
Net product revenues $ 26,575 $ 16,553 $ 21,916
Contract revenues -- 759 1,392
-------- -------- --------
Total net revenues 26,575 17,312 23,308
Costs of revenues:
Products 17,428 10,516 13,727
Contract -- 499 1,110
-------- -------- --------
Total costs of revenues 17,428 11,015 14,837
-------- -------- --------
Gross profit 9,147 6,297 8,471
-------- -------- --------
Operating expenses:
Sales, marketing and support 4,313 4,878 5,989
General and administrative 1,751 2,103 2,191
Research and development 4,277 4,022 3,352
Amortization of intangible assets 577 942 2,760
Restructuring (recovery) expense (29) 96 33
In-process research and development -- -- 505
-------- -------- --------
Total operating expenses 10,889 12,041 14,830
-------- -------- --------
Loss from operations (1,742) (5,744) (6,359)
Interest expense (200) (246) (323)
Interest income 7 2 16
Other expense -- (336) (438)
Other income 239 357 446
-------- -------- --------
Loss before income taxes (1,696) (5,967) (6,658)
Income tax expense (benefit) 2 (10) --
-------- -------- --------
Net loss $ (1,698) $ (5,957) $ (6,658)
======== ======== ========
Loss per common share:
Basic $ (0.04) $ (0.17) $ (0.21)
======== ======== ========
Diluted $ (0.04) $ (0.17) $ (0.21)
======== ======== ========
Weighted average common shares outstanding:
Basic 39,121 35,697 31,702
======== ======== ========
Diluted 39,121 35,697 31,702
======== ======== ========
The accompanying notes are an integral part
of the consolidated financial statements.
F-3
Focus Enhancements, Inc.
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 2003, 2002 and 2001
(in thousands)
Additional
Common Stock Preferred Stock Paid-in
Shares Amount Shares Amount Capital
------ ------- ------ ------ ----------
Balance at December 31, 2000 26,350 $ 264 -- $ -- $ 48,727
Issuance of common stock upon exercise of
stock options 352 4 195
Issuance of common stock in connection with
Videonics acquisition 5,135 51 7,908
Assumption of vested options in connection
with Videonics acquisition 854
Issuance of common stock to investment
banker in connection with Videonics acquisition 244 2 249
Common stock issued for expenses associated
with delayed registration 597 6 582
Common stock issued for consulting and other
services 79 1 129
Common stock issued in settlement of accrued
liabilities and notes payable 619 6 604
Issuance of preferred stock from conversion
of note payable to shareholder 2 2,266
Deferred compensation in connection with
Videonics acquisition 235
Amortization of deferred compensation
Costs related to pending registration of
private offerings of common stock (182)
Deferred price protection on common stock
issued for consulting services 47 49
Net loss
------ ------- ---- ------ --------
Balance at December 31, 2001 33,423 334 2 -- 61,616
------ ------- ---- ------ --------
Issuance of common stock upon exercise of
stock options 604 6 440
Issuance of common stock upon exercise of warrants 283 3 185
Issuance of common stock from private
offerings, net of issuance costs of $397,000 3,235 32 3,089
Warrants issued in connection with consulting
services 238
Repricing of Euston warrants 334
Common stock issued in settlement of accounts
payable 16 1 22
Stock compensation associated with
acceleration of option vesting 16
Amortization of deferred compensation
Net loss
------ ------- ---- ------ --------
Balance at December 31, 2002 37,561 376 2 -- 65,940
------ ------- ---- ------ --------
Issuance of common stock from private
offerings, net of issuance costs of $280,000 2,200 22 1,898
Issuance of common stock in connection with
DVUnlimited acquisition 19 -- 50
Issuance of common stock upon exercise of
stock options 2,110 21 2,119
Issuance of common stock upon exercise of warrants 910 9 1,288
Settlement of price protection shares
Net loss
------ ------- ---- ------ --------
Balance at December 31, 2003 42,800 $ 428 2 $ -- $ 71,295
====== ======= ==== ====== ========
Deferred Total
Compensation Shareholders
Accumulated and Price Treasury Equity
Deficit Protection Stock (Deficit)
--------- --------- --------- -----------
Balance at December 31, 2000 $ (48,708) $ -- $ (700) $ (417)
Issuance of common stock upon exercise of
stock options 199
Issuance of common stock in connection with
Videonics acquisition 7,959
Assumption of vested options in connection
with Videonics acquisition 854
Issuance of common stock to investment
banker in connection with Videonics acquisition 251
Common stock issued for expenses associated
with delayed registration 588
Common stock issued for consulting and other
services 130
Common stock issued in settlement of accrued
liabilities and notes payable 610
Issuance of preferred stock from conversion
of note payable to shareholder 2,266
Deferred compensation in connection with
Videonics acquisition (235) --
Amortization of deferred compensation 113 113
Costs related to pending registration of
private offerings of common stock (182)
Deferred price protection on common stock
issued for consulting services (49) --
Net loss (6,658) (6,658)
---------- ------- --------- --------
Balance at December 31, 2001 (55,366) (171) (700) 5,713
---------- ------- --------- --------
Issuance of common stock upon exercise of
stock options 446
Issuance of common stock upon exercise of warrants 188
Issuance of common stock from private
offerings, net of issuance costs of $397,000 3,121
Warrants issued in connection with consulting
services 238
Repricing of Euston warrants 334
Common stock issued in settlement of accounts
payable 23
Stock compensation associated with
acceleration of option vesting 16
Amortization of deferred compensation 122 122
Net loss (5,957) (5,957)
---------- ------- --------- --------
Balance at December 31, 2002 (61,323) (49) (700) 4,244
---------- ------- --------- --------
Issuance of common stock from private
offerings, net of issuance costs of $280,000 1,920
Issuance of common stock in connection with
DVUnlimited acquisition 50
Issuance of common stock upon exercise of
stock options 2,140
Issuance of common stock upon exercise of warrants 1,297
Settlement of price protection shares 49 (50) (1)
Net loss (1,698) (1,698)
---------- ------- --------- --------
Balance at December 31, 2003 $ (63,021) $ -- $ (750) $ 7,952
========== ======= ========= ========
The accompanying notes are an integral part
of the consolidated financial statements.
F-4
Focus Enhancements, Inc.
Consolidated Statements Of Cash Flows
(in thousands)
Year Ended December 31,
-----------------------------
2003 2002 2001
------- ------- -------
Cash flows from operating activities:
Net loss $(1,698) $(5,957) $(6,658)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 743 1,226 3,166
Deferred compensation expense -- 122 113
In-process research and development -- -- 505
Stock and warrants issued for consulting and other services -- 238 97
Stock issued for expenses associated with delayed registration -- -- 438
Gain on debt settlement (239) (311) --
Loss on sales of fixed assets -- 1 --
Expense associated with repricing and acceleration of options and -- 350 --
warrants
Changes in operating assets and liabilities, net of the effects of
acquisitions:
Decrease (increase) in accounts receivable (757) 1,686 (1,378)
Decrease (increase) in inventories (1,143) 1,659 590
Decrease (increase) in prepaid expenses and other assets (162) 55 (8)
Increase (decrease) in accounts payable 363 (1,795) (178)
Increase (decrease) in accrued liabilities 279 (205) (63)
Decrease in accrued legal judgment -- (2,073) (76)
------- ------- -------
Net cash used in operating activities (2,614) (5,004) (3,452)
------- ------- -------
Cash flows from investing activities:
Decrease in restricted certificates of deposit -- -- 1,263
Additions to property and equipment (122) (66) (196)
Decrease in restricted collateral deposits -- 2,363 --
Acquisition of developed technology (57) -- --
Merger costs related to pending acquisitions (98) -- --
Net cash from acquisition of Videonics -- -- 360
Additions to capitalized software development costs -- -- (30)
------- ------- -------
Net cash (used in) provided by investing activities (277) 2,297 1,397
------- ------- -------
Cash flows from financing activities:
Payments on notes payable and long-term debt -- -- (400)
Proceeds from convertible notes payable to shareholder -- -- 2,650
Payments on convertible notes payable to shareholder -- (145) --
Payments under capital lease obligations (45) (42) (115)
Costs related to registration of private offerings of common stock -- -- (182)
Net proceeds from private offerings of common stock 1,920 3,121 --
Net proceeds from exercise of common stock options and warrants 3,437 634 199
------- ------- -------
Net cash provided by financing activities 5,312 3,568 2,152
------- ------- -------
Net increase in cash and cash equivalents 2,421 861 97
Cash and cash equivalents at beginning of year 1,310 449 352
------- ------- -------
Cash and cash equivalents at end of year $ 3,731 $ 1,310 $ 449
======= ======= =======
Supplemental Cash Flow Information:
Interest paid $ 4 $ 11 $ 16
Taxes paid 2 -- --
Acquisition of DVUnlimited, for common stock 50 -- --
Acquisition of Videonics, Inc., for common stock and options -- -- 8,813
Conversion of note payable to shareholder to preferred stock -- -- 2,266
Common stock issued in settlement of accounts payable -- 23 65
Conversion of accrued liabilities and notes payable to common stock -- -- 578
Stock issued for expenses associated with delayed registration -- -- 150
Issuance of common stock to investment banker in connection with
Videonics acquisition -- -- 251
The accompanying notes are an integral part
of the consolidated financial statements.
F-5
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Business of the Company. FOCUS Enhancements, Inc. (the "Company" "FOCUS")
develops and markets proprietary video technology in two areas: video systems
and semiconductors. With regards to its video system's business, the Company
designs solutions in PC-to-TV scan conversion, video presentation, digital-video
conversion, video production and home theater markets. The Company markets its
products globally through both consumer and professional channels. The Company's
video system products include: video scan converters, application controllers,
video mixers, character generators and video processors. Semiconductor products
include several series of Application Specific Integrated Circuits ("ASICs")
that process digital video data to be used with analog devices such as
televisions. The Company's ASICs are utilized in a variety of applications
including computer motherboards, graphics cards, video conferencing systems,
Internet TV and interactive TV applications.
Over 65% of the components for the Company's products are manufactured on a
turnkey basis by three vendors, Furthertech Company, Ltd., Samsung Semiconductor
Inc., and Asemtec Corporation. In the event that these vendors were to cease
supplying the Company, management believes that alternative turnkey
manufacturers for the Company's products could be secured. However, the Company
would most likely experience delays in the shipments of its products.
The video technology market is characterized by extensive research and
development and rapid technological change resulting in product life cycles for
certain of the Company's products that are as short as eighteen to twenty-four
months. Development by others of new or improved products, processes or
technologies may make the Company's products or proposed products obsolete or
less competitive. Management believes it necessary to devote substantial efforts
and financial resources to enhance its existing products and to develop new
products. There can be no assurance that the Company will succeed with these
efforts.
Basis of Presentation. The consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiary PC Video Conversion,
Inc. All intercompany accounts and transactions have been eliminated upon
consolidation.
Business Combinations. The acquisition of Videonics, Inc. (Note 3) was
accounted for under the purchase method of accounting, and the consolidated
financial statements include the results of operations of Videonics from the
date of acquisition. The net assets of Videonics were recorded at their fair
value at the date of acquisition with the excess of the purchase price over such
fair values allocated to goodwill.
Use of Estimates. The process of preparing financial statements in
conformity with accounting principles generally accepted in the United States of
America requires the use of estimates and assumptions regarding certain types of
assets, liabilities, revenues and expenses. Actual results may differ from
estimated amounts. Significant estimates used in preparing these financial
statements are related primarily to accounts receivable allowances, stock
balancing allowances, inventory valuation allowances, recoverability of
capitalized software development costs, deferred tax asset valuation allowances,
the value of equity instruments issued for services and the recoverability of
goodwill and other intangibles related to acquisitions. It is at least
reasonably possible that the estimates will change within the next year.
Financial Instruments. The carrying amounts reflected in the consolidated
balance sheets for cash, certificates of deposit, receivables and accounts
payable approximate the respective fair values due to the short-term maturity of
these instruments. Long-term debt approximates fair value as these instruments
bear interest at terms that would be available through similar transactions with
other third parties.
Cash and Cash Equivalents. The Company considers all highly liquid
investments purchased with an original maturity of three months or less to be
cash equivalents.
Revenue and Cost Recognition. Revenue consists primarily of sales of
products to original equipment manufacturers ("OEMs"), dealers and distributors.
The Company recognizes revenues, net of discounts, upon shipment of product (as
title transfers upon shipment), when a purchase order has been received, the
sales price is fixed and determinable, collection of the resulting receivable is
probable, and all significant obligations have been met. A provision is made to
estimate customer returns, which is reflected as a reduction of trade
receivables, and estimated warranty repair/replacement costs at the time a sale
is recorded. A limited number of distributor agreements contain rights to return
slow moving inventory or discontinued products held in inventory by the
distributor that have not sold through to an end user.
F-6
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
The Company sells software that is embedded with some of its products.
Revenue from the software embedded with products less reserves for returns, is
generally recognized upon shipment to the customer. Revenue from post delivery
customer support, which consists primarily of telephone support, is recognized
upon shipment of the software, as the support is included in the selling price
of the software, is not offered separately, and the cost of the support is
insignificant.
The Company defers revenue recognition relating to consigned sales until the
distributor sells through such products to the end customer, or if sell through
information is not available from the distributor, when cash is received from
the distributors. Receipt of cash from those distributors which do not provide
sell through information has historically been indicative of sell through to an
end user by that distributor. Management is not aware of any circumstances that
would require the return of cash to a distributor, once payment from a
distributor has been received. Consignment inventory at December 31, 2003
totaled approximately $18,000. Consignment inventory at December 31, 2002, was
not material.
Contract revenues are recognized on the percentage-of-completion method,
measured by the percentage of costs incurred to date to estimated total costs
for the contract. This method is used because management considers expended
labor hours to be the best available measure of progress on the contract. As of
December 31, 2003 and 2002, there were no contract receivables. Contract costs
include all direct material and labor costs and those indirect costs related to
contract performance, such as indirect labor, supplies, tools, repairs, and
depreciation costs. Contract costs for the years ended December 31, 2002 and
2001 totaled $499,000 and $1,110,000, respectively (included within costs of
revenues in the accompanying consolidated statement of operations). The Company
did not record contract revenues nor did it incur costs associated with contract
revenues in 2003.
Price Protection and Rebates. The Company has agreements with certain of its
customers which, in the event of a price decrease, allow those customers
(subject to certain limitations) credit equal to the difference between the
price originally paid and the new decreased price on units either in the
customers' inventories on the date of the price decrease, or on the number of
units shipped to the customer for a specified time period prior to the price
decrease. When a price decrease is anticipated, the Company establishes reserves
against gross trade receivables for estimated amounts to be reimbursed to
qualifying customers. In addition, the Company records reserves at the time of
shipment for rebates.
Concentration of Credit Risk. Financial instruments that potentially subject
the Company to significant concentrations of credit risk consist principally of
cash and cash equivalents and trade accounts receivable.
The Company's customer base is dispersed across many different geographic
areas throughout the world and consists principally of OEM's, distributors and
dealers in the electronics industry. The Company performs ongoing credit
evaluations of its customers and maintains an allowance for potential credit
losses. Management assesses collectibility based on a number of factors,
including credit-worthiness and past transaction history with the customer.
Although collateral is generally not requested, the Company, in certain
situations, will require confirmed letters of credit or cash in advance of
shipping to its customers.
As of December 31, 2003, one customer and one distributor represented
approximately 24% and 17%, respectively, of the Company's accounts receivable.
As of December 31, 2002, two distributors represented approximately 31% of the
Company's accounts receivable (21% and 10% respectively), while a customer
represented an additional 10% of the Company's accounts receivable. The Company
provides credit to customers in the normal course of business with terms
generally ranging between 30 to 90 days. The Company does not usually require
collateral for trade receivables, but attempts to limit credit risk through its
customer credit evaluation process.
The Company maintains its bank accounts with high quality financial
institutions to minimize credit risk, however, the Company's balances may
periodically exceed federal deposit insurance limits.
Inventories. Inventories are stated at the lower of standard cost (which
approximates actual cost on a first-in, first-out basis) or net realizable
value. The Company periodically reviews its inventories for potential slow
moving or obsolete items and provides valuation allowances for specific items,
as appropriate.
Property and Equipment. Property and equipment are recorded at cost and
depreciated using the straight-line method over the estimated useful lives of
the related assets as set forth below. The Company evaluates property and
equipment for impairment whenever events or changes in circumstances indicate
that the carrying amount of the asset may not be recoverable. When the sum of
the undiscounted future net cash flows expected to result from the use of the
asset and its
F-7
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
eventual disposition is less than its carrying amount, an impairment loss would
be measured based on the discounted cash flows compared to the carrying amount.
No impairment charge for property and equipment has been recorded in 2003, 2002
or 2001.
Category Depreciation Period
-------- -------------------
Equipment 3-5 years
Tooling 2 years
Furniture and fixtures 5 years
Purchased software 1-3 years
Leasehold improvements Lesser of 5 years or the term of the lease
Capitalized Software. Certain software development costs are capitalized
when incurred under Statement of Financial Accounting Standards No. 86.
Capitalization of software development costs begins upon the establishment of
technological feasibility. The establishment of technological feasibility and
the ongoing assessment of recoverability of capitalized software development
costs require considerable judgment by management with respect to certain
external factors, including, but not limited to, technological feasibility,
anticipated future gross revenues, estimated economic life, and changes in
software and hardware technologies. Capitalized software development costs are
amortized based on the greater of: the ratio of the current gross revenues for a
product to the total current and anticipated future gross revenues for the
product, or the straight-line basis over the estimated useful life of the asset
commencing on the date the product is released. No software development costs
were capitalized in 2002 or 2003. Amortization of capitalized software
development costs totaled $40,000, $339,000 and $379,000, respectively for the
years ended December 31, 2003, 2002 and 2001.
The Company continuously assesses the recoverability of its capitalized
software development costs, considering anticipated future gross revenues,
estimated economic life, and changes in software and hardware technologies.
Goodwill and Intangible Assets. The Company reviews long-lived assets and
certain identifiable intangibles to be held and used for impairment whenever
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. Management evaluates possible impairment of long-lived
assets using estimates of undiscounted future cash flows. Impairment loss to be
recognized is measured as the amount by which the carrying amount of the asset
exceeds the fair value of the asset. Management evaluates the fair value of
long-lived assets and intangibles using primarily the estimated discounted
future cash flows method. Effective January 1, 2002, the Company adopted
Statement of Financial Accounting Standard (SFAS) No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets (SFAS No. 144). SFAS No. 144 removes
goodwill from its scope and retains the requirements of SFAS No. 121 to (a)
recognize an impairment loss only if the carrying amount of the long-lived asset
is not recoverable from its undiscounted cash flows and (b) measure an
impairment loss as the difference between the carrying amount and the fair value
of the asset. There was no effect from the adoption of SFAS No. 144.
Effective January 1, 2002, the Company adopted SFAS No. 142, Goodwill and
Other Intangibles. Under SFAS No. 142, goodwill is no longer subject to
amortization. Rather, SFAS No. 142 requires that intangible assets deemed to
have an indefinite useful life be reviewed for impairment upon adoption of SFAS
No. 142 and at least annually thereafter. The Company completed its annual
impairment review during the fourth quarter of 2003. Management determined that
goodwill did not appear to be impaired at either the transitional or annual
review dates. Under SFAS No. 142, goodwill impairment may exist if the net book
value of a reporting unit exceeds its estimated fair value.
Intangible assets, consisting of the rights and title to Videonics' existing
technology, tradename, assembled workforce and other intangible assets
associated with the acquisition of Videonics (Note 3), are amortized using the
straight-line basis over their estimated useful lives ranging from three to four
years. In 2002, in connection with the adoption of SFAS No. 142, the Company
ceased amortization of the assembled workforce intangible asset associated with
the acquisition of Videonics, and reclassified to goodwill the net carrying
amount of the intangible asset, in the amount of $537,000.
F-8
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Goodwill includes both the carrying amount of goodwill and assembled
workforce less accumulated amortization, as follows (in thousands):
December 31, 2003 December 31, 2002
----------------- -----------------
Carrying amount:
Goodwill $ 8,344 $ 8,344
Assembled workforce 899 899
------- -------
Gross carrying amount of goodwill 9,243 9,243
Less accumulated amortization:
Goodwill (3,690) (3,690)
Assembled workforce (362) (362)
------- -------
Net carrying amount of goodwill $ 5,191 $ 5,191
======= =======
The following table provides a summary of the carrying amounts of other
intangible assets that will continue to be amortized (in thousands).
December 31, 2003 December 31, 2002
----------------- -----------------
Carrying amount:
Existing technology $ 1,995 $ 1,888
Tradename 176 176
------- -------
Gross carrying amount 2,171 2,064
Less accumulated amortization:
Existing technology (1,406) (925)
Tradename (130) (86)
------- -------
Net carrying amount $ 635 $ 1,053
======= =======
Amortization expense for the years ending December 31, 2004, 2005 and 2006 is
expected to be $552,000, $57,000, and $26,000, respectively.
The following table represents the impact on net loss and basic and diluted
loss per share from the reduction of amortization of goodwill as if SFAS No.
142 was adopted on January 1, 2001:
Years ended December 31,
------------------------------------
(in thousands, except for per share amounts) 2003 2002 2001
-------- -------- --------
Reported net loss $ (1,698) $ (5,957) $ (6,658)
Workforce amortization -- -- 287
Goodwill amortization -- -- 1,593
-------- -------- --------
Adjusted net loss $ (1,698) $ (5,957) $ (4,778)
-------- -------- --------
Basic and diluted loss per share:
Reported basic and diluted loss per share $ (0.04) $ (0.17) $ (0.21)
Workforce amortization per share -- -- 0.01
Goodwill amortization per share -- -- 0.05
-------- -------- --------
Adjusted basic and diluted loss per share $ (0.04) $ (0.17) $ (0.15)
-------- -------- --------
Common and common equivalent shares used in calculation:
Basic and diluted 39,121 35,697 31,702
Advertising and Sales Promotion Costs. Advertising and sales promotion costs
are expensed as incurred. Advertising costs consist primarily of magazine
advertisements, agency fees and other direct production costs. Advertising and
sales promotion costs totaled approximately $411,000, $519,000 and $926,000 for
the years ended December 31, 2003, 2002 and 2001, respectively.
Legal Fees. Legal fees are charged to expense in the period the legal
services are performed.
Research and Development. Research and development costs are expensed as
incurred.
F-9
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Product Warranty Costs. The Company's warranty period for its products is
generally one to three years. The Company accrues for warranty costs based on
estimated warranty return rates and costs to repair (Note 5).
Income Taxes. The Company accounts for income taxes under the liability
method. Under the liability method, deferred tax assets and liabilities are
determined based on differences between financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse. The Company
is required to adjust its deferred tax liabilities in the period when tax rates
or the provisions of the income tax laws change. Valuation allowances are
established when necessary to reduce deferred tax assets to amounts that more
likely than not are expected to be realized.
Deferred Compensation. Deferred compensation represents the intrinsic value
of unvested stock options at the consummation date of the Videonics acquisition
that were granted by the Company in exchange for stock options held by the
employees of Videonics. Amortization of deferred compensation is charged to
operations over the vesting period of the options.
Deferred Price Protection on Common Stock. Deferred price protection on
common stock pertains to 47,055 shares of common stock issued to vFinance, Inc.
(formerly Union Atlantic Capital L.C.) in connection with a price protection
arrangement executed with vFinance in 2001 (see Note 17). Such shares were
recorded based on their fair value at the date of issuance. The price protection
provision expired unused in 2002 and the Company was under no further
obligations to vFinance, Inc. Consequently, vFinance, Inc returned the 47,055
shares of common stock in the first quarter of 2003.
Stock Compensation Plans. SFAS No. 123, Accounting for Stock-Based
Compensation encourages all entities to adopt a fair value based method of
accounting for employee stock compensation plans, whereby compensation cost is
measured at the grant date based on the fair value of the award which is
recognized over the service period, which is usually the vesting period.
However, it also allows an entity to continue to measure compensation cost for
those plans using the intrinsic value based method of accounting prescribed by
Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees, whereby compensation cost is the excess, if any, of the quoted market
price of the stock at the grant date (or other measurement date) over the amount
an employee must pay to acquire the stock. Stock options issued under the
Company's stock option plans have no intrinsic value at the grant date,
accordingly, under APB Opinion No. 25, no compensation cost is recognized. The
Company has elected to continue with the accounting prescribed in APB Opinion
No. 25 and, as a result, must make pro forma disclosures of net income and
earnings per share and other disclosures as if the fair value based method of
accounting had been applied.
The Company applies APB Opinion No. 25 and related interpretations in
accounting for stock options. Accordingly, no compensation cost has been
recognized for stock options issued to employees. Had compensation cost for the
Company's stock-based compensation plans and non- plan stock options outstanding
been determined based on the fair value at the grant dates for awards under
those plans consistent with the method prescribed by SFAS No. 123, the Company's
net loss and loss per share would have been adjusted to the pro forma amounts
indicated below (in thousands except per share data):
Years ended December 31,
---------------------------------------
2003 2002 2001
--------- ---------- ----------
Net loss reported under APB 25 $ (1,698) $ (5,957) $ (6,658)
Add: Stock-based employee compensation
expense included in reported net loss -- 122 113
Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all awards (951) (1,104) (1,342)
--------- ---------- ----------
Pro forma net loss $ (2,649) $ (6,939) $ (7,887)
========= ========== ==========
Basic loss per share, as reported $ (0.04) $ (0.17) $ (0.21)
Basic loss per share, pro forma $ (0.07) $ (0.19) $ (0.25)
Diluted loss per share, as reported $ (0.04) $ (0.17) $ (0.21)
Diluted loss per share, pro forma $ (0.07) $ (0.19) $ (0.25)
F-10
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Common stock equivalents have been excluded from all calculations of loss per
share and pro forma loss per share in 2003, 2002 and 2001 because the effect of
including them would be anti-dilutive. The fair value of each grant is estimated
on the date of the grant using the Black-Scholes option-pricing model with the
following weighted-average assumptions used for grants in 2003, 2002 and 2001,
respectively; dividend yield of 0.0%; expected volatility of 93%-128%, 130% and
100%, risk-free interest rates of 2.4%-2.7%, 3.1%-4.4% and 3.9%-4.9% and
expected lives of 3.0-5.0 years, 5.0 years and 5.0 years.
Net Income (Loss) Per Share. The Company calculates earnings per share in
accordance with SFAS No. 128 Earnings Per Share. Basic earnings per share
represents income available to common stock divided by the weighted-average
number of common shares outstanding during the period. Diluted earnings per
share reflects additional common shares that would have been outstanding if
dilutive potential common shares had been issued, as well as any adjustment to
income that would result from the assumed conversion. Potential common shares
that may be issued by the Company relate to convertible debt and outstanding
stock options and warrants. The number of common shares that would be issued
under outstanding options and warrants is determined using the treasury stock
method. The assumed conversion of debt, outstanding dilutive stock options and
warrants would increase the shares outstanding but would not require an
adjustment to income (loss) per share as a result of the conversion. Diluted net
loss per share was the same as basic net loss per share for all periods
presented since the effect of any potentially dilutive securities is excluded,
as they are anti-dilutive due to the Company's net loss.
Comprehensive Income. Certain Financial Accounting Standards Board (FASB)
statements require entities to report specific changes in assets and
liabilities, such as unrealized gains and losses on available-for-sale
securities and foreign currency items, as a separate component of the equity
section of the balance sheet. Such items, along with net income, are components
of comprehensive income. There was no accumulated comprehensive income at
December 31, 2003, 2002 and 2001, and no differences between net income (loss)
and comprehensive income (loss) for the years ended December 31, 2003, 2002 and
2001.
Recent Accounting Pronouncements.
In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities ("SFAS No. 146"), which addresses accounting
for restructuring and similar costs. SFAS No. 146 supersedes previous accounting
guidance, principally Emerging Issues Task Force ("EITF") Issue No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (Including Certain Costs Incurred in a Restructuring) ("EITF
94-3"). SFAS No. 146 requires that the liability for costs associated with an
exit or disposal activity be recognized when the liability is incurred and that
the liability should initially be measured and recorded at fair value. Under
EITF 94-3, a liability for an exit cost was recognized at the date of the
Company's commitment to an exit plan. The Company adopted the provisions of SFAS
No. 146 for restructuring activities initiated after December 31, 2002.
Accordingly, SFAS No. 146 may affect the timing of recognizing future
restructuring costs as well as the amounts recognized.
In November 2002, the FASB issued FASB Interpretation No. 45, Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others ("FIN 45"). FIN 45 requires that upon
issuance of a guarantee, the guarantor must recognize a liability for the fair
value of the obligation it assumes under that guarantee. The Company adopted the
disclosure requirements of FIN 45 in the current year. The recognition and
measurement provisions will be applied to guarantees issued or modified after
December 31, 2002. The adoption did not have a material effect on the Company
operating results or financial condition.
The FASB issued FIN 46, Consolidation of Variable Interest Entities in
January 2003, and a revised interpretation of FIN 46 ("FIN 46-R") in December
2003. FIN 46, as modified by FIN 46-R, requires certain variable interest
entities to be consolidated by the primary beneficiary of the entity if the
equity investors in the entity do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entity to
finance its activities without additional subordinated financial support from
other parties. The Company has not invested in any entities it believes are
variable interest entities for which the Company is the primary beneficiary. As
such, the Company does not expect the adoption of FIN 46, as modified by FIN
46-R to have an impact on its financial position or results of operations.
In April 2003 the FASB issued SFAS No. 149, Amendment of Statement No. 133
on Derivative Instruments and Hedging Activities. This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts. The
Statement clarifies under what circumstances
F-11
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
a contract with an initial net investment meets the characteristic of a
derivative, clarifies when a derivative contains a financing component, amends
the definition of an underlying derivative to conform it to language used in
FASB Interpretation FIN No. 45, and amends certain other existing
pronouncements. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003 and for hedging relationships designated after June 30,
2003. All provisions of the Statement, except those related to forward purchases
or sales of "when-issued" securities, should be applied prospectively. The
Company is currently evaluating the impact of adopting SFAS No. 149. However,
the Company does not believe that it has entered into any contracts that would
fall within the scope of SFAS No. 149.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity. This Statement
establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity. This
Statement is effective for financial instruments entered into or modified after
May 31, 2003, and otherwise effective at the beginning of the first interim
period beginning after June 15, 2003. The Company currently has no financial
instruments which meet these requirements.
In December 2003, the Securities Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 104, Revenue Recognition (SAB 104), which codifies,
revises and rescinds certain sections of SAB 101, Revenue Recognition in
Financial Statements, in order to make this interpretive guidance consistent
with current authoritative accounting and auditing guidance and SEC rules and
regulations. The adoption did not have a material effect on the Company's
operating results or financial condition.
2. Management's Plans
The accompanying consolidated financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. For the years
ended December 31, 2003, 2002 and 2001, the Company incurred a net loss of
$1,698,000, $5,957,000 and $6,658,000, and net cash used in operating activities
totaled $2,614,000, $5,004,000 and $3,452,000, respectively. Additionally, in
January 2004, the Company was informed by a significant customer that it should
not expect further orders for the Company's FS454 product. Shipments of the
FS454, which were primarily to this significant customer, represented 37% of the
Company's total net revenues for the year ended December 31, 2003. These factors
indicate that the Company may potentially be unable to continue as a going
concern.
The consolidated financial statements do not include any adjustments
relating to the recoverability and classification of recorded asset amounts or
the amounts and classification of liabilities that might be necessary should the
Company be unable to continue as a going concern. The Company's continuation as
a going concern is dependent upon its ability to generate sufficient cash flows
to meet its obligations on a timely basis, to obtain additional financing as may
be required, and ultimately to return to profitability and significant positive
cash flows.
The Company has historically met cash needs from the proceeds of debt, the
sale of common stock in private placements, and the exercise of stock options
and warrants. Management continues to assess its product lines in light of
technology trends and economic conditions, to identify how to enhance existing
product lines or create new distribution channels. In addition, although no
assurances can be given, the Company is developing and expects to release three
new products during 2004.
Even if the Company's new products are introduced as planned and are
modestly successful, the Company anticipates that its continued significant
investment in research and development, primarily in the area of Ultra Wideband,
will require the Company to find a partner to fund a portion of the continued
development and or raise additional funds to support its working capital needs
and meet existing debt obligations.
There is no assurance that management's plans will be successful or if
successful, that they will result in the Company continuing as a going concern.
3. Acquisitions
DVUnlimited
In September 2003, the Company acquired the intangible assets of
DVUnlimited, a sole proprietorship, located in Budapest, Hungary. The total
purchase price was $107,000, consisting of cash, common stock and related legal
costs. The acquisition was accounted for using the purchase method of accounting
and the entire purchase price was allocated to developed technology, which will
be amortized on a straight-line basis over a period of three years.
F-12
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Videonics
On January 16, 2001, Focus acquired all of the outstanding shares of
Videonics Inc. ("Videonics") in a transaction accounted for using the purchase
method of accounting. Focus issued 0.87 shares of its common stock for each
issued and outstanding share of Videonics common stock on the closing date.
Based on the exchange ratio, a total of approximately 5,135,000 shares were
issued. Focus incurred approximately $637,000 in acquisition expenses, including
financial advisory and legal fees and other direct transaction costs, which were
included as a component of the purchase price. Such amount included 243,833
shares of Focus common stock valued at $251,000 issued to vFinance Capital
(formerly Union Atlantic Capital) for payment of financial advisory services.
Videonics was a designer and manufacturer of digital video post-production
equipment products that edit and mix raw video footage, add special effects and
titles, and process audio and video signals. Videonics' products are used by
videographers, business, industry, education and videophiles; they are also used
in the broadcast, cable, video presentation and video conferencing markets.
The purchase price was allocated to the assets acquired and liabilities
assumed based on their estimated fair values as follows (in thousands):
Value of common shares issued to Videonics shareholders $7,959
Assumption of Videonics options 854
Estimated transaction costs 637
------
Total purchase price $9,450
------
Tangible assets acquired $3,384
Intangible assets acquired:
Existing technology 1,888
Assembled workforce 899
Tradename 176
In-process research and development 505
Liabilities assumed (3,373)
------
Excess of cost over fair value (goodwill) $5,971
======
Accounting principles generally accepted in the United States of America
require purchased in-process research and development with no alternative future
use to be recorded and charged to expense in the period acquired. Accordingly,
the results of operations for the year ended December 31, 2001, include the
write-off of $505,000 of purchased in-process research and development.
4. Selected Quarterly Data and Fourth Quarter Adjustments (Unaudited)
Quarterly Results of Operations
2003 2002
---------------------------------- ----------------------------------
(in thousands, except per share data) Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
------ ------ ------ ------ ------ ------ ------ ------
Net revenues $4,090 $4,301 $10,762 $7,422 $4,758 $4,512 $ 4,091 $ 3,951
Gross profit 1,687 1,861 3,293 2,306 1,725 1,606 1,432 1,534
Operating income (loss) (916) (814) 571 (582) (1,547) (1,526) (1,487) (1,184)
Net income (loss) (969) (770) 532 (490) (1,654) (1,512) (1,544) (1,247)
Net income (loss) per share - basic $(0.03) $(0.02) $ 0.01 $(0.01) $(0.05) $(0.04) $ (0.04) $ (0.03)
Net income (loss) per share - diluted $(0.03) $(0.02) $ 0.01 $(0.01) $(0.05) $(0.04) $ (0.04) $ (0.03)
Shares used in computing:
Basic 37,108 37,184 40,159 42,031 35,009 35,500 35,777 36,504
Diluted 37,108 37,184 48,755 42,031 35,009 35,500 35,777 36,504
Fourth Quarter Adjustments
Included in the fourth quarter net losses for 2003, 2002 and 2001, were
charges to inventory obsolescence of $87,000, $87,000 and $250,000,
respectively. Additionally, in the fourth quarter of 2003, after filing its Form
10-Q for
F-13
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
the quarter ended September 30, 2003, the Company found a data entry error in
its third quarter results, which resulted in the understatement of costs of
revenues and overstatement of net income for the third quarter by $100,000, or
less than $.01 per share. The error was corrected in the fourth quarter of 2003
as the Company's Board of Directors determined that it was not material to the
operating results of either quarter.
5. Significant Reserves
A summary of the activity in the significant reserves relating to doubtful
accounts receivable, sales returns and inventory valuation is as follows (in
thousands):
Accounts Receivable Reserve
Additions
----------------------------
Beginning Videonics Charged to Ending
Year Ended December 31, Balance Acquisition Operations Reductions Balance
- ----------------------- ------- ----------- ---------- ---------- -------
2003 $ 156 $ -- $ 210 $ 178 $ 188
2002 $ 328 $ -- $ 89 $ 261 $ 156
2001 $ 522 $ 117 $ 36 $ 347 $ 328
Sales Returns Reserve
Additions
----------------------------
Beginning Videonics Charged to Ending
Year Ended December 31, Balance Acquisition Operations Reductions Balance
----------------------- ------- ----------- ---------- ---------- -------
2003 $ 246 $ -- $ 545 $ 595 $ 196
2002 $ 338 $ -- $ 1,071 $ 1,163 $ 246
2001 $ 520 $ 184 $ 1,188 $ 1,554 $ 338
Inventory Reserve
Beginning Charged to Ending
Year Ended December 31, Balance Operations Reductions Balance
----------------------- ------- ---------- ---------- -------
2003 $ 1,028 $ 99 $ 875* $ 252
2002 $ 819 $ 337 $ 128 $ 1,028
2001 $ 753 $ 586 $ 520 $ 819
(*) Includes $868,000 of reserves associated with the write-off in
2003 of fully-reserved inventory items included within inventory
at December 31, 2002.
Warranty Reserve
Beginning Videonics Charged to Ending
Year Ended December 31, Balance Acquisition Operations Reductions Balance
----------------------- ------- ----------- ---------- ---------- -------
2003 $ 74 $ -- $ 26 $ 41 $ 59
2002 $ 121 $ -- $ 61 $ 108 $ 74
2001 $ 90 $ 52 $ 61 $ 82 $ 121
6. Inventories
Inventories at December 31 consist of the following (in thousands):
2003 2002
-------- --------
Raw materials $ 2,048 $ 1,383
Work in process 72 116
Finished goods 1,373 851
-------- --------
Total $ 3,493 $ 2,350
======== ========
The Company periodically reviews its inventories for excess and obsolete
inventory items and adjusts carrying costs to estimated net realizable values
when they are determined to be less than cost. As a result of this inventory
F-14
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
review, the Company charged approximately $99,000, $337,000 and $586,000 to cost
of revenues for the years ended December 31, 2003, 2002 and 2001, respectively.
7. Property and Equipment
Property and equipment at December 31 consist of the following (in
thousands):
December 31,
-------------------------
2003 2002
---------- ----------
Equipment $ 900 $ 795
Tooling 683 676
Furniture and fixtures 40 40
Leasehold improvements 167 167
Purchased software 500 490
---------- ----------
2,290 2,168
Less accumulated depreciation and amortization (2,144) (1,977)
---------- ----------
Property and equipment, net $ 146 $ 191
========== ==========
Depreciation and amortization expense related to property and equipment for
the years ended December 31, 2003, 2002 and 2001 totaled $170,000, $285,000 and
$413,000, respectively.
8. Notes Payable
Purchase of PC Video Conversion, Inc.
On July 29, 1998, the Company issued a $1,000,000 note payable to Steve
Wood in conjunction with the acquisition of PC Video Conversion, Inc. ("PC
Video") providing for the payment of principal and interest at 3.5 % over a
period of 36 months. Mr. Wood was the Vice President of Pro AV engineering,
former sole stockholder of PC Video and manager of the Company's Morgan Hill, CA
facility.
On July 28, 2000, the Company entered into a separation agreement with Mr.
Wood following the closure of the Company's Morgan Hill facility in June 2000.
As part of the separation agreement, Mr. Wood remained a consultant until an
upgrade to one of the Company's Pro AV products was completed. In return, Mr.
Wood received a right to convert the outstanding balance of $427,000 due under
the promissory note into common stock of the Company following stockholder
approval of the increase to the number of shares of authorized common stock of
the Company. The Company's stockholders approved the increase to the authorized
common stock on January 12, 2001 and shortly thereafter, Mr. Wood agreed to
convert the promissory note into 468,322 shares of the Company's common stock
based on the average trading price of the common stock for the five day period
preceding January 12, 2001. On June 27, 2001, the Company issued the 468,322
shares of common stock to Mr. Wood.
Convertible Notes Payable to Stockholder
Convertible Promissory Notes
On October 26, 2000, Carl Berg, a Company director and shareholder, loaned
the Company $2,362,494 to collateralize a $2,362,494 bond posted in connection
with the CRA litigation (see "CRA Systems, Inc."). The promissory note has a
term of three years and bears interest at a rate of prime plus 1% (5.00% at
December 31, 2003). Interest earned on the restricted collateral deposit is
payable to Mr. Berg. The interest payable by the Company to Mr. Berg is reduced
by the amount of interest earned on the restricted collateral deposit. The
principal amount of the note was originally due on October 26, 2003, but was
amended on November 25, 2003, to provide for an extension of the maturity date
to January 25, 2005, with interest to be paid quarterly. Under certain
circumstances, including at the election of Mr. Berg and the Company, the
promissory note and any accrued and unpaid interest is convertible into shares
of the Company's common stock at a conversion price of $1.25 which represented
the average closing bid and ask price of the Company's common stock on the day
preceding the agreement. The promissory note is secured by a security agreement
in favor of Mr. Berg granting him a first priority security interest over
substantially all of the assets of the Company. On May 7, 2001, $46,000 of
outstanding interest due under the note was converted into 38 shares of Series B
Preferred Stock. In February 2002, in connection with the settlement of the CRA
Systems Inc. case, the bond was liquidated and excess proceeds of $145,000 were
used to pay down a portion of this note. As of December 31, 2003 the Company had
unpaid principal and accrued interest due under the note totaling approximately
$2,509,000.
F-15
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
On February 28, 2001, Carl Berg agreed to loan the Company $2.0 million to
support the Company's working capital needs, bearing interest at a rate of prime
plus 1%. The principal amount of the note will be due at the end of its term,
with interest to be paid quarterly. On April 24, 2001, the note was amended to
provide that under certain circumstances, including at the election of Mr. Berg
and the Company, the promissory note and any accrued and unpaid interest is
convertible into shares of the Company's preferred stock at a conversion price
of $1,190 per share, which represented 1,000 (each share of preferred is
convertible into 1,000 shares of common) multiplied by 125% of the trailing
30-day average of the Company's common stock ending April 23, 2001. The
promissory note is secured by a security agreement in favor of Mr. Berg granting
him a security interest in first priority over substantially all of the assets
of the Company. On May 7, 2001, the Company and Mr. Berg agreed to the
conversion of $1,000,000 of the outstanding principal balance and $16,000 of
accrued interest into 854 shares of Series B Preferred Stock. On November 25,
2003, the note was amended to provide for an extension of the maturity date for
the remaining principal balance of $1,000,000, to January 25, 2005. As of
December 31, 2003 the Company had principal and accrued interest due under the
note totaling approximately $1,160,000.
On June 29, 2001, the Company issued a convertible promissory note to Mr.
Berg in the amount up to $650,000 to support the Company's working capital
needs. The promissory note had an original due date of January 3, 2003 which was
extended to January 25, 2005 and bears interest at a rate of prime plus 1%. The
principal amount of the note will be due at the end of its term, with interest
to be paid quarterly. The note provides that at the election of Mr. Berg and the
Company, the promissory note and any accrued and unpaid interest is convertible
into shares of the Company's Series C Preferred Stock at a conversion price of
$1,560 per share which represented 1,000 (each share of preferred is convertible
into 1,000 shares of common) multiplied by 125% of the trailing 30-day average
of the Company's common stock ending June 28, 2001. The promissory note is
secured by a security agreement in favor of Mr. Berg granting him a security
interest in first priority over substantially all of the assets of the Company.
As of December 31, 2003 the Company had principal and accrued interest due under
the note totaling approximately $744,000.
At December 31, 2003, the Company owed Carl Berg, approximately $4.4
million in principal and accrued interest on the various aforementioned notes.
In September 2003, Mr. Berg agreed to convert such debt and accrued interest
into preferred and common stock on conversion terms agreed to more than two
years ago. As of December 31, 2003, the conversion would result in the issuance
of approximately 2,201,139 shares of common stock and 1,257 shares of preferred
stock convertible into an additional 1,257,000 shares of common stock. The
conversion is expected to be completed as soon as practical, but in no event
sooner than March 15, 2004.
9. Other Expense
Warrant Repricing
On July 28, 2000, the Company entered into an equity line of credit
agreement with Euston Investments Holdings Limited ("Euston"). On January 11,
2002, Focus and Euston mutually agreed to terminate the agreement. As
consideration for terminating the agreement, the exercise price of Euston's
warrants to purchase 250,000 shares of Focus common stock was reduced from
$1.625 to $0.75 per share. The Company recorded a charge to other expense of
approximately $334,000 in the quarter ended March 31, 2002 based on the fair
value of the repriced warrants. See also "Note 12. Stockholders Equity - Common
Stock" for further detail.
Delayed Registration Expense
During the year ended December 31, 2001, the Company recognized
approximately $438,000 of other expense as a result of delays in registering
1,400,000 shares of common stock issued to an investor in connection with a
private placement in June 2000, in which the Company received gross proceeds of
$1,500,000. At December 31, 2001 no further expenses were anticipated in
connection with this financing as the Company entered into an agreement with the
investor which suspended further charges if the Company registered all
outstanding shares issued to the investor by March 31, 2002. The Company
completed the registration of such shares on February 12, 2002.
F-16
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
10. Other Income
During the years ended December 31, 2003, 2002 and 2001, the Company
recognized a total of $239,000, $311,000 and $374,000 respectively, of other
income in connection with the settlement and release of certain obligations that
had been previously recorded in accrued liabilities and accounts payable.
11. Commitments and Contingencies
Leases
The Company leases office facilities and certain equipment under operating
leases. Under the lease agreements, the Company is obligated to pay for
utilities, taxes, insurance and maintenance. Total rent expense for the years
ended December 31, 2003, 2002 and 2001 was approximately $504,000, $606,000 and
$709,000, respectively.
Minimum lease commitments at December 31, 2003 are as follows (in
thousands):
Operating Leases
----------------
2004 $ 468
2005 318
2006 2
2007 --
2008 --
-------
Total minimum lease payments $ 788
-------
Included in the minimum operating lease commitments for 2004 is $6,000 of
minimum rent obligations associated with the Company's Chelmsford, MA facility
which the Company vacated in September 2002. See "Restructuring Expenses" for
further discussion.
Employment Agreements
The Company has employment agreements with certain corporate officers. The
agreements are generally one to three years in length and provide for minimum
salary levels. These agreements include severance payments of approximately one
to two times each officer's annual compensation.
Restricted Collateral Deposit
In connection with the CRA Systems, Inc. ("CRA") judgment discussed below,
the Company posted a bond in the amount of $2,362,494 to suspend any enforcement
of the judgment, pending appeal. Carl Berg obtained the bond on the Company's
behalf in exchange for a secured convertible note in the same amount as
described in "Convertible Notes Payable to Stockholder" above. The bond was
irrevocable and was collateralized by a certificate of deposit in the amount of
$2,363,000. In February, 2002, the Company utilized the bond to pay CRA Systems
Inc., $2,216,000 in accordance with the judgment, consisting of the accrued
legal judgment of $2,073,000 and accrued interest related thereto of $143,000.
See "CRA Systems Inc." for further discussion.
Purchase Commitment
The Company entered into an agreement, as amended in 2000, with Advanced
Electronics Support Products, Inc. ("AESP") to purchase a minimum of $2,500,000
of cables and other products from AESP by March 29, 2001. In return, the Company
received certain pricing commitments over the term of the master purchase
agreement. In the event that the Company did not purchase at least $2,500,000 of
cables and other products during the term of the master purchase agreement the
Company was obligated to pay AESP an amount equal to 20% of the difference
between $2,500,000 and the aggregate amount of purchases. At December 31, 2000,
the Company recorded a purchasing obligation liability in the amount of $225,000
as it had not yet met its minimum purchase obligation. On June 26, 2001, the
Company and AESP entered into a settlement agreement thereby terminating the
agreement in exchange for 150,000 shares of the Company's common stock. The
Company recorded the issuance of such stock at its then current market value of
$153,000.
F-17
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Restructuring Expenses
On September 30, 2002, the Company closed its Chelmsford, MA office,
resulting in a $96,000 restructuring charge, and furloughed 7% of its personnel.
In December 2002, the Company terminated those furloughed employees and recorded
a severance accrual of $26,000. In the second quarter of 2003, the Company was
able to settle amounts due on the closure of its Chelmsford facility for $29,000
less than originally estimated. At December 31, 2003, $26,000 of the
restructuring reserve remained.
Litigation
Class Action Suits
Focus and one of its former directors were named as defendants in a
securities class action filed in United States District Court for the District
of Massachusetts. The complaint included a class of stockholders who purchased
Focus shares during the period from July 17, 1997 to February 19, 1999. The
complaint was initially filed in November of 1999 and was been amended several
times. The complaint alleged violations of the federal securities laws and
sought unspecified monetary damages.
In December 2001 the parties reached an agreement in principle to settle
this case and in May 2002 the case was settled and a final judgment was entered
by the United States District Court. The settlement was funded entirely by
proceeds from defendants' insurance carrier and the case is now closed.
CRA Systems, Inc.
In 1996 Focus entered into an agreement with CRA Systems, Inc., a Texas
corporation, the terms and nature of which were subsequently disputed by the
parties. Focus contended that the transaction was simply a sale of inventory for
which it was never paid. CRA contended otherwise. CRA brought suit against Focus
on September 21, 1998, for breach of contract and other claims, contending that
Focus grossly exaggerated the demand for the product and the margin of profit
that was available to CRA regarding this project. CRA sought to recover
out-of-pocket losses exceeding $100,000 and lost profits of $400,000 to
$1,000,000. The case was removed to the US District Court for the Western
District of Texas, Waco, Texas. A jury trial in May 2000 in that court resulted
in a verdict in favor of CRA for $848,000 actual damages and $1,000,000 punitive
damages. On October 10, 2000, the court rendered a judgment in favor of CRA for
actual damages, punitive damages, attorney's fees, costs, and interest. In
connection with this judgment, Focus recorded an expense of $2,147,722 in the
period ended September 30, 2000. The court overruled the motion for new trial
that Focus filed, and Focus appealed the judgment to the U.S. Court of Appeals
for the Fifth Circuit in New Orleans, Louisiana. On October 27, 2000, Focus
submitted a bond in the approximate amount of $2.3 million (being the
approximate amount of the judgment plus 10% to cover interest and costs of CRA)
and the U.S. District Court granted a stay of any enforcement of the judgment
pending appeal. The Court of Appeals held oral argument on December 3, 2001. On
January 3, 2002, the Court of Appeals affirmed the judgment awarded to CRA
virtually in its entirety. Focus had already recorded a charge to operations to
establish a legal reserve for such amount during the third quarter of 2000.
Therefore, in February 2002, Focus utilized the bond to pay CRA $2,215,600 in
accordance with the judgment. Excess bond proceeds of $145,000 were used to pay
down a Convertible Note Payable to Mr. Berg. See "See Note 8. Notes Payable -
Convertible Notes Payable to Stockholder" for further discussion. This case is
now closed.
Indemnification agreements
The Company enters into standard indemnification agreements with its
customers and certain other business partners in the ordinary course of
business. These agreements include provisions for indemnifying the customer
against any claim brought by a third party to the extent any such claim alleges
that the Company's product infringes a patent, copyright or trademark, or
misappropriates a trade secret, of that third party. The agreements generally
limit the scope of the available remedies in a variety of industry-standard
methods, including but not limited to product usage and geography-based
limitations, a right to control the defense or settlement of any claim, and a
right to replace or modify the infringing products to make them noninfringing.
The Company has not incurred significant expenses related to these
indemnification agreements and no material claims for such indemnifications are
outstanding as of December 31, 2003. As a result, the Company believes the
estimated fair value of these indemnification agreements, if any, to be de
minimus; accordingly, no liability has been recorded with respect to such
indemnifications as of December 31, 2003.
F-18
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
General
From time to time, the Company is party to certain other claims and legal
proceedings that arise in the ordinary course of business which, in the opinion
of management, will not have a material adverse effect on the Company's
financial position or results of operation.
12. Stockholders' Equity
Preferred Stock
On April 24, 2001, the Company's board of directors adopted a Certificate
of Designation whereby a total of 2,000 shares of Series B Preferred Stock,
$0.01 par value per share, are reserved for issuance. Each share has a
liquidation preference in the amount of $1,190.48 plus all accrued or declared
but unpaid dividends. Cash dividends on the stock are non-cumulative and are
paid at the option of the board of directors. If paid, the rate shall be seven
percent per annum. The board does not presently intend to pay dividends on the
stock. At the option of the holder, each share is convertible into 1,000 shares
of the Company's common stock.
On November 12, 2001, the Company's board of directors adopted a
Certificate of Designation whereby a total of 500 shares of Series C Preferred
Stock, $0.01 par value per share, are reserved for issuance. Each share has a
liquidation preference in the amount of $1,560.00 plus all accrued or declared
but unpaid dividends. Cash dividends on the stock are non-cumulative and are
paid at the option of the board of directors. If paid, the rate shall be seven
percent per annum. The board does not presently intend to pay dividends on the
stock. At the option of the holder, each share is convertible into 1,000 shares
of the Company's common stock.
The Company is obligated, under certain circumstances, including at the
election of Mr. Berg and Focus, to convert the outstanding balances of
convertible notes payable to Mr. Berg, and any unpaid interest, into shares of
Focus preferred stock. As of December 31, 2003, approximately 1,257 shares of
preferred stock were subject to issuance to Mr. Berg pursuant to the convertible
notes payable agreements. See "See Note 8. Notes Payable - Convertible Notes
Payable to Stockholder."
Common Stock
On December 19, 2003, the stockholders of the Company approved an increase
to the authorized common shares from 60,000,000 to 100,000,000. This increase
was recommended and approved by the Company's Board of Directors to ensure that
sufficient shares are available for issuance under the Company's Amended 2002
Non Qualified Stock Option Plan (2,200,000 shares) and for issuances associated
with potential acquisitions, private placements and services provided by
non-employees.
For the year ended December 31, 2003, the Company issued at various times,
an additional 3,020,472 shares of common stock resulting from other exercises of
options and warrants, receiving cash of approximately $3,437,000.
On July 2, 2003, the Company completed the sale of 2,200,000 shares of its
common stock in a private placement to two independent third parties, receiving
proceeds of approximately $1,920,000, net of offering costs of $280,000. The
shares were sold at an approximate 20% discount to the 5-day average closing bid
prices of the Company's common stock prior to closing. In connection with the
private placement, the Company issued warrants to the two investors and a
placement agent to purchase a total of 467,500 shares of common stock at an
exercise price of $1.44 per share. No compensation expense was recorded given
that the warrants were issued in connection with the issuance of common stock.
For the year ended December 31, 2002, the Company issued at various times,
an additional 886,847 shares of common stock resulting from other exercises of
options and warrants, receiving cash of approximately $634,000.
On January 11, 2002, the Company completed the sale of 2,434,490 shares of
its common stock in a private placement to four independent third parties,
receiving proceeds of approximately $2,436,000, net of offering costs of
$314,000. Additionally, the Company incurred $182,000 of costs during 2001 in
connection with this offering (including costs associated with the subsequent
registration of the shares), resulting in total offering costs of $496,000. The
shares were sold at a 20% discount to the 20-day average closing bid prices of
the Company's common stock as of December 27, 2001, the date an agreement in
principle was reached by the parties. In connection with the private placement,
the Company issued warrants to the four investors to purchase a total of 367,140
shares of common stock at an exercise price of $1.36 per share. Additionally, in
connection with the efforts of vFinance Investments Inc. to find
F-19
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
investors in the private placement, the Company issued warrants to vFinance
Investments Inc. to purchase a total of 123,690 shares of common stock at an
exercise price of $1.36 per share. See also, "Note 17. Related Party
Transactions."
On March 1, 2002, the Company issued warrants to purchase 270,000 shares of
common stock as compensation to three unrelated parties for consulting services
in the areas of investment advisory, investor relations and public relation
services. The warrants are exercisable for a period of two to three years at
exercise prices ranging from $1.35 to $1.50 per share. The Company recorded
charges of approximately $238,000 for the quarter ended March 31, 2002 based on
the fair value of the warrants. Such amounts were recorded as general and
administrative expenses and the fair value of the warrants were calculated using
the Black-Scholes option pricing model with the following assumptions:
contractual term of 2 to 3 years, volatility of 136% to 143%, risk free interest
rate of 2.9% to 3.6%, and no dividends during the term of the warrant.
On November 25, 2002, the Company completed the sale of 800,000 shares of
its common stock in a private placement to two independent third parties,
receiving proceeds of approximately $685,000, net of offering costs of $83,000.
The shares were sold at an approximate 20% discount to the 20-day average
closing bid prices of the Company's common stock as of November 24, 2002, the
date an agreement in principle was reached by the parties. Additionally, in
connection with the efforts of vFinance Investments Inc. to find investors in
the private placement, the Company issued warrants to vFinance Investments Inc.
to purchase a total of 40,000 shares of common stock at an exercise price of
$1.20 per share. See also, "Note 17. Related Party Transactions."
On June 9, 2000, the Company entered into a financing agreement resulting
in $1,500,000 in gross proceeds from the sale of 1,400,000 shares of common
stock and the issuance of a warrant to purchase an additional 140,000 shares of
common stock in a private placement, to an unaffiliated accredited investor. The
warrant is exercisable until June 30, 2005 at a per-share exercise price of
$1.625. In addition, Union Atlantic Capital, L.C. received a warrant to purchase
45,000 shares of common stock as compensation for brokering the private
placement. The warrant is exercisable until June 30, 2005 at a per-share
exercise price of $1.625. In accordance with its obligations under the
agreement, the Company incurred damages of 2% per month of the gross proceeds
until its registration of the shares purchased by the investor. The investor
agreed to exchange the gross amount of calculated damages for additional common
stock of Focus based on an exchange rate of 0.68. At December 31, 2001, the
Company had issued approximately 597,000 shares of common stock and recorded
expenses during the years ended December 31, 2001 and 2000 of $438,000 and
$150,000 respectively, associated with the delays in registration. At December
31, 2001 no further expenses were anticipated in connection with this financing
as the Company entered into an agreement with the investor which suspended
further charges if the Company registered all outstanding shares issued to the
investor by March 31, 2002. The Company completed the registration of such
shares on February 12, 2002.
On July 28, 2000, the Company entered into an equity line of credit
agreement with Euston Investments Holdings Limited ("Euston"), for the future
issuance and purchase of up to 4,000,000 shares of the Company's common stock at
a 10% discount. In lieu of providing Euston with a minimum aggregate drawdown
commitment, the Company issued to Euston a stock purchase warrant to purchase
250,000 shares of common stock with an exercise price of $1.625. The warrant
expires June 12, 2005. The Company had sought to register such shares under a
Registration Statement on Form SB-2. However, before the registration statement
was declared effective, on January 11, 2002, Focus and Euston mutually agreed to
terminate the agreement. As consideration for terminating the agreement, the
exercise price of Euston's warrants to purchase 250,000 shares of Focus common
stock was reduced from $1.625 to $0.75 per share. As a result of the repricing
the Company incurred a $334,000 charge to other expense in the first quarter of
2002. The charge was computed using the Black-Scholes model with assumptions of
a risk-free rate of interest of 2.9%, expected volatility of 130%, a dividend
yield of 0.0% and an expected remaining life of 1.4 years.
For the year ended December 31, 2001, the Company issued at various times,
an additional 351,850 shares of common stock resulting from other exercises of
options and warrants, receiving cash of approximately $199,000.
On December 27, 2001, the Company issued warrants to purchase 25,000 shares
of common stock as compensation to vFinance Inc. for investment advisory
services. The warrants are exercisable until December 27, 2004 at an exercise
price of $1.54 per share. The Company recorded charges of approximately $19,000
for the year ended December 31, 2001 based on the fair value of the warrants.
The aggregate fair value of all warrants issued in connection with
compensation for financial advisory and other services charged to operations in
2002 and 2001 was calculated at approximately $238,000 and $19,000, respectively
(none for 2003). The Company has calculated the fair value of the warrants using
the Black-Scholes model and the following assumptions:
F-20
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
2003 2002 2001
---- ---- ----
Risk-free rate of interest n/a 2.9 -3.6% 3.8%
Average computed life of warrants n/a 2-3 years 3 years
Dividend yield n/a 0.0% 0.0%
Volatility of common stock n/a 136%-143% 100%
As of December 31, 2003, the Company was obligated under certain
circumstances, to issue the following additional shares of common stock:
Warrants to purchase common stock 429,500
Options to purchase common stock 5,188,150
Notes payable convertible into common stock 2,201,139
Preferred Stock convertible into common stock 1,904,000
---------
Total shares of common stock obligated, under
certain circumstances, to issue 9,722,789
=========
Common Stock Purchase Warrants
Common stock warrant activity is summarized as follows:
2003 2002 2001
------------------------- ------------------------ -----------------------
Grant Grant Grant
Price Price Price
Shares Range Shares Range Shares Range
--------- ------------- ------- ------------- ------- -------------
Warrants outstanding at beginning of year 1,174,569 $1.20 - $4.12 843,079 $0.75 - $4.12 910,429 $1.06 - $4.21
Warrants granted 467,500 $1.44 677,140 $1.20 - $1.50 25,000 $1.54
Videonics additions -- -- -- -- 82,650 $0.75
Warrants exercised (910,140) $1.20 - $1.63 (283,250) $0.75 -- --
Warrants canceled (302,429) $1.54 - $4.21 (62,400) $0.75 - $3.00 (175,000) $1.25 - $2.07
---------- --------- --------
Warrants outstanding and exercisable at end of year 429,500 $1.54 - $4.21 1,174,569 $1.20 - $4.12 843,079 $0.75 - $4.12
========= ========= ========
Weighted average fair value of
warrants granted during the year $0.96 $1.40 $0.75
1992 Stock Option Plan
The Company's 1992 Stock Option Plan (the "Plan") provides for the granting
of incentive and non-qualified options to purchase up to approximately 1,800,000
shares of common stock. Incentive stock options may be granted to employees of
the Company. Non-qualified options may be granted to employees, directors or
consultants of the Company. Incentive stock options may not be granted at a
price less than 100% (110% in certain cases) of the fair-market value of common
stock at date of grant. Non-qualified options may not be granted at a price less
than 85% of fair-market value of common stock at date of grant. As of December
31, 2003, all options granted under the Plan were issued at market value at the
date of grant. Additionally, no further options are available for grant under
the Plan. Options generally vest annually over a three-year period and are
exercisable over a five-year period from date of grant. The term of each option
under the Plan is for a period not exceeding ten years from date of grant. As of
December 31, 2003, options under the Plan to purchase 485,945 shares of the
Company's common stock were outstanding with exercise prices of $1.00 to $1.28
per share.
1997 Director Stock Option Plan
In 1997, the Board of Directors adopted the 1997 Director Stock Option Plan
(the "1997 Director Plan"), which authorized the grant of options to purchase up
to an aggregate of 1,000,000 shares of common stock. The exercise price per
share of options granted under the 1997 Director Plan was 100% of the market
value of the common stock of the Company on the date of grant. Options granted
under the 1997 Director Plan are exercisable over a five-year period with
vesting determined at varying amounts over a three year period. As of December
31, 2003, options under the 1997 Director Plan to purchase 174,574 shares of the
Company's common stock were outstanding with an exercise price between $ 1.15
and $1.22 per share.
F-21
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
1998 Stock Option Plan
In 1998 the Company adopted the 1998 Non-qualified Stock Option Plan (the
"1998 NQSO Plan") which authorized the grant of options to purchase up to an
aggregate of 1,250,000 shares of common stock. The exercise price per share of
options granted under the 1998 NQSO Plan was 100% of the market value of the
common stock of the Company on the date of grant. Options granted under the 1998
NQSO Plan are exercisable over a five-year period with vesting determined at
varying amounts over a three year period. As of December 31, 2003, options under
the 1998 NQSO Plan to purchase 407,328 shares of the Company's common stock were
outstanding with an exercise price between $1.15 and $1.28 per share.
2000 Non-Qualified Option Plan
On April 27, 2000, the Board of Directors of Focus adopted the 2000
Non-Qualified Stock Option Plan (the "2000 Plan"). On August 15, 2000 the
maximum number of options available under the 2000 Plan was increased from
3,000,000 to 5,000,000. On December 28, 2000 the Company's stockholders approved
the 2000 Plan. Options under the 2000 Plan may be granted to employees,
directors or consultants of the Company. The exercise price per share of options
granted under the 2000 Plan is 100% of the market value of the common stock of
the Company on the date of grant. The 2000 Plan requires that options granted
will expire five years from the date of grant. Each option granted under the
2000 Plan first becomes exercisable upon time periods set by the Compensation
Committee of the Focus Board of Directors. With respect to non-executive officer
employees, eight and one third percent (8 1/3%) of the shares vest every three
months from grant date. Options issued to the Focus Board of Directors and the
executive officers under the 2000 Plan, shall vest in equal amounts, occurring
monthly over a 3 year period or upon the occurrence of certain events.
On January 16, 2001 in connection with the acquisition of Videonics,
options outstanding under the Videonics 1987 Stock Option Plan and the 1996
Amended Stock Option Plan were exchanged for Focus 2000 Plan options to purchase
common stock. Focus issued 0.87 shares of Focus options for each issued and
outstanding share of Videonics options on the closing date. Based on the
exchange ratio, a total of 1,117,597 shares were issued. Such options retained
their original vesting periods of three to four years and are canceled 90 days
after termination of employment. As of December 31, 2003, options under the 2000
Plan, including those converted in connection with the Videonics merger, to
purchase 2,810,107 shares of the Company's common stock were outstanding with an
exercise price between $0.56 and $1.57.
2002 Non-Qualified Option Plan
On October 30, 2002, the Board of Directors of Focus adopted the 2002
Non-Qualified Stock Option Plan (the "2002 Plan"). The 2002 Plan was approved by
Company's stockholders on December 20, 2002. On September 24, 2003 the maximum
number of options available under the 2002 Plan was increased from 1,000,000 to
2,200,000. On December 19, 2003 the Company's stockholders approved the
amendment to the 2002 Plan. Options under the 2002 Plan may be granted to
employees, directors or consultants of the Company. The exercise price per share
of options granted under the 2002 Plan is 100% of the market value of the common
stock of the Company on the date of grant. The 2002 Plan requires that options
granted will expire ten years from the date of grant. Each option granted under
the 2002 Plan first becomes exercisable upon time periods set by the
Compensation Committee of the Focus Board of Directors. With respect to
non-executive officer employees, eight and one third percent (8 1/3%) of the
shares vest every three months from grant date. Options issued to the Focus
Board of Directors and the executive officers under the 2002 Plan, shall vest in
equal amounts, occurring monthly over a 3 year period or upon the occurrence of
certain events. As of December 31, 2003, options under the 2002 Plan to purchase
682,019 shares of the Company's common stock were outstanding with an exercise
price between $0.75 and $2.20 per share.
F-22
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
Summary of Outstanding Stock Options
A summary of the status of the Company's outstanding stock options as of
December 31, 2003, 2002 and 2001, and the changes during the years then ended,
is presented below:
2003 2002 2001
--------------------- --------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
--------- ----- --------- ----- --------- -----
Options outstanding at beginning of year 6,431,199 $1.00 6,144,456 $0.94 5,110,977 $0.88
Options granted 989,558 $1.42 1,242,774 $1.20 1,084,415 $0.97
Videonics additions -- $ -- -- $ -- 1,117,597 $0.93
Options exercised (2,110,332) $1.01 (603,597) $0.74 (351,850) $1.07
Options canceled (122,275) $1.26 (352,434) $1.11 (816,683) $0.93
--------- --------- ---------
Options outstanding at end of year 5,188,150 $1.07 6,431,199 $1.00 6,144,456 $0.94
========= ========= =========
Options exercisable at end of year 3,574,603 $0.97 4,517,579 $1.00 3,696,779 $1.05
========= ========= =========
Weighted average fair value of
options granted during the year $1.24 $0.91 $0.74
At December 31, 2003, options available for grant under all plans totaled
1,523,045.
Information pertaining to options outstanding at December 31, 2003 is as
follows:
Options Outstanding Options Exercisable
-------------------------------------- ------------------------
Weighted Weighted Weighted
Average Average Average
Range of Remaining Exercise Exercise
Exercise Prices Outstanding Life Price Exercisable Price
- --------------- ----------- ------- ------- ----------- --------
$0.43 - $0.57 1,303,821 3.1 yrs $0.56 1,272,012 $0.56
$0.72 - $1.22 2,217,906 3.0 yrs $1.03 1,520,116 $1.03
$1.28 - $2.87 1,655,980 5.0 yrs $1.50 772,032 $1.45
$5.75 - $10.21 10,443 3.3 yrs $7.42 10,443 $7.42
--------- ---------
Outstanding at December 31, 2003 5,188,150 3.6 yrs $1.07 3,574,603 $0.97
========= =========
13. Net Loss Per Share
In accordance with the disclosure requirements of SFAS 128, a
reconciliation of the numerator and denominator of basic and diluted net loss
per share is provided as follows (in thousands, except per share amounts):
2003 2002 2001
-------- -------- ---------
Numerator - basic and diluted
Net loss $ (1,698) $ (5,957) $ (6,658)
-------- -------- ---------
Net loss available to common stockholders (1,698) (5,957) (6,658)
-------- -------- ---------
Denominator - basic and diluted
Weighted average common shares 39,121 35,697 31,702
-------- -------- ---------
Basic and diluted net loss per share
outstanding $ (0.04) $ (0.17) $ (0.21)
-------- -------- ---------
The following table summarizes common stock equivalents that are not
included in the denominator used in the diluted net loss per share calculation
because to do so would be antidilutive for the years ended December 31, 2003,
2002 and 2001:
2003 2002 2001
--------- --------- ---------
Conversion of notes payable to shareholder 2,201,139 1,917,471 1,936,000
Options to purchase common stock 5,188,150 6,431,199 6,101,733
Warrants to purchase common stock 429,500 1,174,569 692,650
--------- --------- ---------
Total common stock equivalents 7,818,789 9,523,239 8,730,383
========= ========= =========
F-23
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
14. Income Taxes
The differences between the provision (benefit) for income taxes from the
benefit computed by applying the statutory Federal income tax rate are as
follows (in thousands):
Years ended December 31,
--------------------------------------
2003 2002 2001
------- ------- --------
Benefit computed at statutory rate (34%) $ (577) $(2,027) $(2,264)
State income tax, net of federal tax (241) 173 (388)
Increase in valuation allowance on deferred
tax assets 1,128 2,117 1,104
Current year research credits (140) -- --
Research credit true-up (177) -- --
Non-deductible goodwill -- -- 574
In process research and development -- -- 201
Deferred compensation -- 42 45
Nondeductible registration expenses -- -- 174
Capital loss -- (92) --
Other 9 (223) 554
------- ------- --------
$ 2 $ (10) $ --
======= ======= ========
The net deferred tax asset consists of the following (in thousands):
2003 2002 2001
--------- ---------- ---------
Net deferred tax asset $ 26,339 $ 23,939 $ 21,822
Valuation allowance on deferred tax asset (26,339) (23,939) (21,822)
--------- ---------- ---------
Net deferred tax asset $ -- $ -- $ --
========= ========== =========
The tax effects of each type of income and expense item that give rise to
deferred taxes are as follows (in thousands):
December 31,
----------------------------------------
2003 2002 2001
-------- -------- --------
Net operating loss carryforward $ 23,537 $ 21,410 $ 19,799
Income tax credit carryforward 734 273 273
Tax basis in excess of book basis of fixed assets 205 216 298
Book inventory cost less than tax basis 249 783 471
Reserve for bad debts 75 62 91
Tax basis in subsidiaries in excess of book value 915 915 991
Deferred research and development cost 501 126 688
Other accruals 350 590 284
Capitalized software development costs (16) (16) (162)
Intangible assets (211) (420) (911)
-------- -------- --------
26,339 23,939 21,822
Valuation allowance on deferred tax asset 26,339 (23,939) (21,822)
-------- -------- --------
Net deferred tax asset $ -- $ -- $ --
======== ======== ========
A summary of the change in the valuation allowance on deferred tax assets
is as follows (in thousands):
Years Ended December 31,
-----------------------------------
2003 2002 2001
------- ------- -------
Balance at beginning of year $23,939 $21,822 $17,369
Purchase adjustment associated with Videonics
merger -- -- 3,349
Addition to the allowance for deferred tax assets 2,400 2,117 1,104
------- ------- -------
Balance at end of year $26,339 $23,939 $21,822
======= ======= =======
F-24
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
At December 31, 2003, the Company has the following carryforwards available
for income tax purposes (in thousands):
Federal net operating loss carryforwards expiring in various
amounts through 2023 $ 62,351
==========
State net operating loss carryforwards expiring in various
amounts through 2008 $ 40,099
==========
Credit for research activities $ 812
==========
Due to the uncertainty surrounding the realization of these favorable tax
attributes, the Company has placed a valuation allowance against its otherwise
recognizable net deferred tax assets. Current federal and state tax laws include
substantial restrictions on the utilization of tax credits in the event of an
"ownership change" of a corporation, as provided in Section 382 of the Internal
Revenue Code. Accordingly, utilization of the Company's net operating losses and
tax credits will be limited.
15. Segment Information
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information," establishes standards for disclosures about operating segments,
products and services, geographic areas and major customers. The Company is
organized and operates in one reportable segment which consists of the
development, manufacturing, marketing and sale of computer enhancement devices
for personal computers and televisions. The Company's chief operating
decision-maker is its chief executive officer.
During the years ended December 31, 2002 and 2001, the Company only had
operations in the United States. However, during 2003, the Company established a
semiconductor sales office in Taiwan, with a total of two employees. Property
plant and equipment purchases to date have been insignificant. All orders taken
by the Company's Taiwan sales office are approved by the Company's U.S.
headquarters and shipped from the U.S.
For the year ended December 31, 2003 one customer represented 37% of the
Company's total net revenues. For the years ended December 31, 2002 and 2001,
one distributor represented 11% and 12%, respectively, of the Company's total
net revenues.
The following table summarizes revenue by geographic area, based on
customer billing address, for the years ended December 31, 2003, 2002 and 2001
(in thousands):
2003 2002 2001
---------- ---------- ----------
United States $ 21,066 $ 12,828 $ 18,170
Americas (excluding the United States) 208 288 837
Europe 1,745 1,513 1,323
Asia 3,556 2,683 2,978
---------- ---------- ----------
Total $ 26,575 $ 17,312 $ 23,308
========== ========== ==========
The following table summarizes revenue by customer channel for the years
ended December 31, 2003, 2002 and 2001 (in thousands):
2003 2002 2001
----------- ----------- -----------
System product revenue $ 13,986 $ 14,401 $ 19,519
Semiconductor product revenue including
contract revenue 12,589 2,911 3,789
----------- ----------- -----------
Total $ 26,575 $ 17,312 $ 23,308
=========== =========== ===========
Revenue is the only operating measure that is directly determinable by
channel.
F-25
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
16. Employee Benefit Plan
Effective July 1, 1998, the Company implemented a Section 401(k) Profit
Sharing Plan (the "401(k) Plan") for all eligible employees. The Company may
make discretionary contributions to the 401(k) Plan. Employees are permitted to
make elective deferrals of up to 15% of employee compensation and employee
contributions to the 401(k) Plan are fully vested at all times. Depending on the
Plan, Company contributions either become vested over a period of five years or
are vested immediately. For the years ended December 31, 2003, 2002 and 2001,
the Company made contributions of approximately $23,000, $19,000 and $20,000,
respectively.
17. Related Party Transactions
Timothy Mahoney, who is a Focus director, is a principal of vFinance, Inc.,
the parent of vFinance Capital L.C. and a partner of Union Atlantic L.C. For the
year ended December 31, 2001, the Company issued to vFinance Capital L.C.
243,833 shares of its common stock in lieu of investment banking fees in
connection with the acquisition of Videonics in January 2001, and 79,444 shares
of its common stock were issued to vFinance, Inc. for payment under and
settlement for the termination of a Management and Financial Consulting
Agreement between Focus and Union Atlantic L.C. and vFinance Capital L.C. In
addition, vFinance and its affiliates were issued 47,055 shares of common stock
pursuant to a price protection provision. However, the price protection
provision expired in 2002 and the Company was under no further obligations to
vFinance. Consequently, vFinance, Inc returned the 47,055 shares of common stock
in the first quarter of 2003.
In addition, pursuant to an agreement dated December 27, 2001, vFinance
received a warrant to purchase 25,000 shares of the Company's common stock at a
per share exercise price of $1.54 per share. For such compensation, vFinance
will provided the Company with non-exclusive financial advisory services for a
period of 12 months.
During the quarter ended March 31, 2002, in connection with its efforts to
find investors in the private placement completed on January 11, 2002, vFinance
Investments Inc. received from the Company $275,000 in cash and a warrant to
purchase 123,690 shares of common stock of Focus at $1.36 per share.
During the quarter ended December 31, 2002, in connection with its efforts
to find investors in the private placement completed on November 25, 2002,
vFinance Investments Inc. received from the Company $70,000 in cash and warrants
to purchase 40,000 shares of common stock of Focus at $1.20 per share.
In February 2003, the Company engaged vFinance Investments, Inc. to assist
the Company with the preparation of a strategic business plan. Tim Mahoney, a
member of the Company's Board of Directors, is the Chairman and COO of vFinance,
Inc., the parent company of vFinance Investments. In connection with the
preparation of the business plan, the Company incurred consulting expenses of
$50,000 during 2003, which is included in general and administrative expenses.
The Company engaged vFinance Investments Inc., from July 1, 2003 to
December 31, 2003, to act as the Company's exclusive financial advisor, for the
purpose of merger and acquisition services. In connection with such financial
advisory services, the Company incurred consulting expenses of $45,000 for the
year ended December 31, 2003, which is included in general and administrative
expenses. If vFinance Investments assists in the successful completion of a
qualifying transaction under the engagement, the Company will pay vFinance
Investments a success fee depending on the total value of the transaction of (i)
no less than $100,000 and up to 2% of the total value of the transaction; and
(ii) no less than 30,000 and up to 80,000 shares of the Company's common stock.
In connection with its efforts to find investors for the Company in the
private placement completed on July 2, 2003, vFinance Investments Inc. received
$137,500 and out-of-pocket expenses, including legal fees, of $27,500. All such
cash payments to vFinance Investments Inc., were recorded as reductions of the
proceeds received from the private placements.
In December 2002, Carl Berg, a Company director and shareholder, provided
Samsung Semiconductor Inc., the Company's contracted ASIC manufacturer, with a
personal guarantee to secure the Company's working capital requirements for ASIC
purchase order fulfillment. Mr. Berg agreed to provide the personal guarantee on
the Company's behalf without additional cost or collateral, as Mr. Berg
maintains a secured priority interest in substantially all the Company's assets.
At December 31, 2003, the Company owed Samsung $562,000 under net 30 terms.
F-26
Focus Enhancements, Inc.
Notes To Consolidated Financial Statements
18. Subsequent Events
On January 28, 2004, the Company announced that it had entered into an
Agreement and Plan of Reorganization to acquire substantially all the assets and
assume certain liabilities of Visual Circuits Corporation (Visual Circuits),
located in Minneapolis, Minnesota, solely in exchange for 3,805,453 shares of
the Company's voting common stock, subject to certain adjustments. Founded in
1991, Visual Circuits is a manufacturer and developer of integrated hardware,
software and network products that manage, schedule, distribute, store and
present digital video in commercial-market media applications. The acquisition
is subject to the approval of Visual Circuits' shareholders, is anticipated to
close by April 30, 2004, and will require approval and a declaration of
effectiveness by the Securities and Exchange Commission of a Form S-4
registration statement covering the Company's voting common shares to be issued
to Visual Circuits.
On March 2, 2004 the Company announced that it had completed the
acquisition of COMO Computer & Motion GmbH (COMO), located in Kiel, Germany,
through the issuance of approximately 795,000 shares of the Company's common
stock. The Company may also issue an additional approximately 46,000 shares of
common stock to COMO's shareholders, in the event certain conditions are met at
the end of fiscal 2004 and fiscal 2005. Founded in 1990, COMO manufactures and
distributes digital video solutions. In connection with this transaction, the
Company will pay to vFinance Investments, Inc., a success fee of $100,000 and
30,000 shares of the Company's common stock.
F-27
Signatures
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report on Form 10-K to be signed on
its behalf by the undersigned, thereunto duly authorized.
FOCUS ENHANCEMENTS, INC.
By: /s/ Brett Moyer
--------------------------------
Brett Moyer, President & CEO
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the Registrant and in the capacities and on
the dates indicated.
Signature Title Date
--------- ----- ----
/s/ N. William Jasper, Jr. Chairman of the Board March 15, 2004
--------------------------
N. William Jasper, Jr.
/s/ Brett A. Moyer President, Chief Executive March 15, 2004
-------------------------- Officer and Director
Brett A. Moyer
/s/ Gary L. Williams Principal Accounting Officer March 15, 2004
-------------------------- Vice President of Finance
Gary L. Williams and CFO
/s/ Carl E. Berg Director March 15, 2004
--------------------------
Carl E. Berg
/s/ William B. Coldrick Director March 15, 2004
--------------------------
William B. Coldrick
Director March 15, 2004
--------------------------
Michael D'Addio
/s/ Tommy Eng Director March 15, 2004
--------------------------
Tommy Eng
/s/ Timothy E. Mahoney Director March 15, 2004
--------------------------
Timothy E. Mahoney