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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934 For the fiscal year ended March 31, 2004
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 0-20028
VALENCE TECHNOLOGY, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 77-0214673
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification Number)
6504 Bridge Point Parkway, Suite 415
Austin, Texas 78730
(Address of Principal Executive (Zip Code)
Offices)
(512) 527-2900
(Registrant's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Exchange Act:
Name of Each Exchange
Title of Each Class on Which Registered
None None
Securities registered under
Section 12(g) of the Act:
Common Stock, $.001 par value
(Title of Class)
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 the 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 Exchange Act Rule 12b-2).
Yes [X] No [ ]
The aggregate market value of the Registrant's voting stock held by
non-affiliates on September 30, 2003 was $148,344,749.*
As of June 8, 2004, there were 77,573,615 shares of common stock and 861 shares
of preferred stock outstanding.
*Excludes approximately 29,802,820 shares of common stock held by directors,
officers and holders of 5% or more of registrant's outstanding common stock at
September 30, 2003. Exclusion of shares held by any person should not be
construed to indicate that such person possesses the power, direct or indirect,
to direct or cause the direction of the management or policies of the
registrant, or that such person is controlled by or under common control with
the registrant.
1
FORWARD-LOOKING STATEMENTS
THIS ANNUAL REPORT ON FORM 10-K (THIS "FORM 10-K" OR THIS "REPORT")
CONTAINS STATEMENTS THAT CONSTITUTE "FORWARD-LOOKING STATEMENTS" WITHIN THE
MEANING OF SECTION 21E OF THE EXCHANGE ACT AND SECTION 27A OF THE SECURITIES
ACT. THE WORDS "EXPECT," "ESTIMATE," "ANTICIPATE," "PREDICT," "BELIEVE" AND
SIMILAR EXPRESSIONS AND VARIATIONS THEREOF ARE INTENDED TO IDENTIFY
FORWARD-LOOKING STATEMENTS. SUCH STATEMENTS APPEAR IN A NUMBER OF PLACES IN THIS
FILING AND INCLUDE STATEMENTS REGARDING THE INTENT, BELIEF OR CURRENT
EXPECTATIONS OF VALENCE TECHNOLOGY, INC. (THE "COMPANY," "VALENCE," "WE," OR
"US"),OUR DIRECTORS OR OFFICERS WITH RESPECT TO, AMONG OTHER THINGS (A) TRENDS
AFFECTING OUR FINANCIAL CONDITION OR RESULTS OF OPERATIONS, (B) OUR PRODUCT
DEVELOPMENT STRATEGIES,(C) TRENDS AFFECTING OUR MANUFACTURING CAPABILITIES, (D)
TRENDS AFFECTING THE COMMERCIAL ACCEPTABILITY OF OUR PRODUCTS AND (E) OUR
BUSINESS AND GROWTH STRATEGIES. OUR STOCKHOLDERS ARE CAUTIONED NOT TO PUT UNDUE
RELIANCE ON SUCH FORWARD-LOOKING STATEMENTS. SUCH FORWARD-LOOKING STATEMENTS ARE
NOT GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE RISKS AND UNCERTAINTIES, AND
ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE PROJECTED IN THIS REPORT, FOR
THE REASONS, AMONG OTHERS, DISCUSSED IN THE SECTIONS -- "MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS," AND "RISK
FACTORS." WE UNDERTAKE NO OBLIGATION TO PUBLICLY REVISE THESE FORWARD-LOOKING
STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES THAT ARISE AFTER THE DATE HEREOF.
PART I
ITEM 1. Business
OVERVIEW
Valence Technology, Inc. was founded in 1989. From 1989 through 2000, our
efforts were focused on developing and acquiring our battery technologies.
During 2001, with the appointment of Stephan B. Godevais as our Chief Executive
Officer and President, we initiated the transition of our business by broadening
our marketing and sales efforts to take advantage of our strengths in research
and development, which has fostered an extensive and worldwide portfolio of
issued and pending patents. With this strategic shift, we have commercialized
the industry's first phosphate based lithium-ion technology and have brought to
market several products utilizing this technology. Our mission is to drive the
wide adoption of high-performance, safe, low cost energy storage systems by
drawing on the numerous benefits of our latest battery technology, the extensive
experience of our management team and the significant market opportunity
available to us.
In February 2002, we unveiled our Saphion(R) technology, a lithium-ion
technology which utilizes a phosphate-based cathode material. Traditional
lithium-ion technology utilizes an oxide-based cathode material, which has
limited its adoption to small applications such as notebook computers, cellular
phones and personal digital assistants (PDAs) due to safety concerns related to
the manufacture of it in large applications. We believe that Saphion(R)
technology addresses the major weaknesses of this existing technology while
offering a solution that is competitive in cost and performance. We believe that
by incorporating a phosphate-based cathode material, our Saphion(R) technology
is able to offer greater thermal and electrochemical stability than traditional
lithium-ion technologies, which will facilitate its adoption in large
application markets not traditionally served by lithium-ion such as
telecommunications, vehicular, utility and motive power. Currently, we offer our
Saphion(R) technology in both a polymer and cylindrical construction. We believe
offering Saphion(R) technology in multiple constructions will provide us with
the ability to greatly increase the market potential of the technology.
We introduced our first product based on our Saphion(R) technology, the
N-Charge(TM) Power System, in February 2002. We have successfully developed
various channels for the sale and distribution of the N-Charge(TM) Power System,
including national and regional retailers, top tier computer manufacturers, and
national resellers. In February of 2004, we launched the second generation
N-Charge(TM) Power System II, currently being sold through some of our existing
channels. In February of 2003, we introduced our first large format energy
storage system powered by our Saphion(R) technology, the K-Charge(TM) Power
System. The K-Charge(TM) Power System is engineered specifically for large
format applications such as those required by the telecommunications, industrial
and utility markets. It is currently in the prototype stage and is being offered
to customers for evaluation and customization for specific product requirements.
In February of 2004, we also introduced a prototype of the U-Charge(TM) Power
System family of products. The U-Charge(TM) Power System is designed as a direct
replacement for lead acid battery systems, such as those utilized in
wheelchairs, scooters, vehicles and other motive power devices. This product is
in the prototype stage and samples are expected to be available for evaluation
by potential customers later in fiscal 2005.
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As part of our low cost manufacturing strategy, we have successfully
transitioned polymer cell manufacturing to China through our relationship with
Amperex Technology, Ltd., or ATL, a Hong Kong based battery manufacturer, and
have developed cylindrical cell and pack production operations in Asia through
the use of contract manufacturing arrangements. These achievements, along with
the closure of our manufacturing facility in Northern Ireland, will allow us to
capitalize on lower manufacturing costs and reduced working capital
requirements. Our research and development efforts are focused on completing the
development of our 2nd generation Saphion(R) technology, as well as developing
future materials based on the attributes that Saphion(R) technology provides.
STRATEGY
Our business strategy incorporates a balance of system sales and licensing,
and a manufacturing plan that leverages internal capabilities and partnerships
with contract manufacturers. We plan to drive the adoption of our Saphion(R)
technology by offering existing and new solutions that differentiate our own
products and end-users' products in both the large format and small format
markets. In addition, we will seek to expand the fields of use of our Saphion(R)
technology through the licensing of our intellectual property related to our
battery chemistries and manufacturing processes.
Key elements of our strategy include:
o DEVELOP AND MARKET POWER SOLUTIONS WITH WIDE APPLICATIONS THAT LEVERAGE THE
TECHNOLOGICAL ADVANTAGES OF OUR SAPHION(R)TECHNOLOGY. We launched our
initial product, the N-Charge(TM)Power System in the retail market in
February 2002. Development and commercialization of our N-Charge(TM)Power
System served to validate our Saphion(R)technology. However, it addresses a
niche, retail market and has limited consumer application. Our product
development and marketing efforts are focused on a series of large format
applications, such as our K-Charge(TM)Power System and U-Charge(TM)Power
System, and battery solutions that take full advantage of the technological
advantages of our Saphion(R)technology. We believe the potential for these
large format applications include a broad range of applications in the
telecommunications, utility, motive power, consumer appliance industries or
as a substitute for existing lead-acid batteries.
o EXECUTE A BALANCED LICENSING AND SYSTEM SALES APPROACH. We intend to drive
the adoption of our advanced Saphion(R)technology by designing solutions
that offer safety, performance and total cost of ownership advantages to
end-users' products. Additionally, we plan to leverage our understanding of
certain market segments to develop new, emerging markets for our
Saphion(R)lithium-ion technology solutions. We believe our best licensing
opportunities will exist following the successful commercialization of our
large-format applications (which are currently in the prototype stage) and
our 2nd generation Saphion technology (currently in development). We do not
expect any significant increase in our licensing revenue until after fiscal
2005 when we have been able to commercialize these technologies.
o IMPLEMENT A MANUFACTURING PLAN that utilizes contract manufacturing
capabilities. We have entered into an arrangement with ATL for the
manufacturing of our polymer batteries and have developed a relationship
with a cylindrical cell manufacturer and a battery pack assembler. We have
initiated relationships with additional partners for prismatic cell
construction and worldwide material production, as well. We believe this
manufacturing strategy will allow us to deliver a high quality, low cost
product which meets the needs of a broad range of customers and
applications.
o DEVELOP A GREATER PRESENCE IN ASIA that will allow us to capitalize on the
numerous cost advantages available to manufacturers in this region. We are
examining different avenues to facilitate a transition of additional
operations to Asia. In addition to enabling us to take advantage of the
numerous cost savings available to Asian manufacturers, this strategy will
allow us to maintain control of our intellectual property and operations
management.
o IMPLEMENT A PHASED APPROACH TO OUR BUSINESS STRATEGY. Our business strategy
has been implemented in three fluid phases, each building on the one
previous. During the initial phase, the focus was on the first generation
of our Saphion(R)technology in our patented polymer construction. During
this phase, we introduced the N-Charge(TM)Power System which has been sold
through national and regional retailers, top tier computer manufacturers
and national resellers, and our K-Charge(TM)Power System, a large format
application designed for the telecommunications and utility markets. In the
second phase of the business strategy, which defines our current
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operations, we have introduced a cylindrical battery construction utilizing
our first generation of Saphion(R)material, and we are completing the
development of our second generation Saphion(R)technology. This technology
will address different markets than those served by the first generation
Saphion(R)technology. We are currently working on the development of an
energy cylindrical cell and a power cylindrical cell. The applications for
the energy cell include electric vehicles, motive applications, notebook
computers, and consumer electronics. The applications for the power cell
include consumer appliances, such as power tools, and hybrid electric
vehicles. The second generation energy cells are expected to ramp over the
next few quarters, while the power cells are still under development. The
first generation Saphion(R)technology delivers a unique combination of
safety and cycle/service life attributes. The second generation
Saphion(R)technology is expected to deliver similar safety attributes with
greater energy and power density capabilities and a cycle life similar to
existing lithium-ion technologies. We are currently developing a third
product family, intended as a direct replacement for applications which
utilize lead acid batteries. This new family of products known as the
U-Charge(TM)Power System is expected to be launched later this year. During
this phase, we also will focus additional efforts toward our field of use
licensing strategy. The final phase of our business strategy will entail
the commercial production of Saphion(R)based energy solutions for the
vehicular, telecommunications and utility industries, with a continued
focus on marketing small format Saphion(R)solutions through our developed
sales channels, and the licensing of our battery chemistry and
manufacturing processes.
We believe our strategy will allow us to expand our market opportunity.
Through the sales of products based on our differentiated Saphion(R)
technology, and the establishment of Asian partnerships and future
operations in Asia to achieve the lowest possible costs, we believe we are
equipped to serve existing lithium-ion technology markets as well as open
doors to new market opportunities.
FISCAL 2004 HIGHLIGHTS AND RECENT EVENTS
o THE N-CHARGE(TM) POWER SYSTEM
o In February of 2004, Best Buy rolled out the second generation
N-Charge(TM) Power System II to its retail stores nationwide.
o In February of 2004, the second generation N-Charge(TM) Power
System II was launched at DEMO 2004. The N-Charge(TM) Power
System II is a universal battery which offers up to 10 hours of
additional notebook run-time, is modular in design and features a
universal tip system to support multiple mobile devices,
including notebook PCs, cell phones, DVD players and MP3 players.
o In December of 2003, we signed license & purchasing and reseller
agreements with Mobility Electronics, Inc. (Nasdaq/NMS: MOBE), to
integrate Valence's Saphion(R) lithium-ion technology with
Mobility's power technology to market a family of universal
batteries for electronic devices. We are utilizing Mobility's
Smart Tip technology in the N-Charge(TM) Power System II.
o In September 2003, we expanded our distribution channel for the
N-Charge(TM) Power System by adding three new regional retailers,
Fry's Electronics, Inc., J&R Music & Computer World and
Datavision Computer Video, Inc.
o In May 2003, the first generation N-Charge(TM) Power System was
selected for sale in Best Buy stores nationwide. Distribution
through Best Buy supplements our retail distribution through
Brookstone, CDW, and PC Connection.
o THE K-CHARGE(TM) POWER SYSTEM
o In June 2004, we signed an agreement granting Tyco Electronics
Power Systems, Inc. the exclusive right to resell our
K-Charge(TM) Power System to its telecommunications and utility
customers for a period of three years. The K-Charge(TM) Power
System will be privately labeled and marketed by Tyco Electronics
under its ELiTE RK brand. The agreement is conditioned on the
product meeting performance criteria and on Tyco Electronics
achieving specific quarterly volume requirements. Additionally,
sales and marketing, technical assistance and customer support
will be provided by Tyco Electronics.
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o In October of 2003, American Electric Power Service Corporation,
or AEP, one of the largest investor-owned electric utilities in
the United States, and Sandia National Laboratories, or Sandia, a
multiprogram laboratory funded by the U.S. Department of Energy,
issued a purchase order for K-Charge(TM) Power Systems to be
evaluated by AEP for use at a utility substation owned and
operated by AEP. Sandia provided funding for the evaluation
program.
o In May 2003, we shipped K-Charge(TM) Power Systems to Electric
Vehicles International for evaluation in electric delivery
vehicles. Subsequently, in January 2004, Electric Vehicles
International purchased additional K-Charge(TM) Power systems for
use in its electric delivery vehicles.
o THE U-CHARGE(TM) POWER SYSTEM
o In March 2004, Graham-Field Healthcare Products, a major
manufacturer and distributor of healthcare products signed an
agreement to evaluate the Saphion(R)-based U-Charge(TM) Power
System for use in power wheelchair products.
o In February 2004, we introduced a prototype of the U-Charge(TM)
Power System.
o MANUFACTURING RELATIONSHIPS
o In December 2003, we signed a manufacturing agreement with
Pacific Energytech. Co., Ltd., or PETC, a leading Taiwanese
manufacturer of lithium-ion rechargeable batteries, for the
production of cylindrical Saphion(R)technology cells.
o In December of 2003 we closed our manufacturing plant in Mallusk,
Northern Ireland, and completed the transition of our polymer
battery production from our Northern Ireland manufacturing
facility to our contract manufacturer, ATL.
SAPHION(R): THE NEXT-GENERATION IN LITHIUM-ION TECHNOLOGY
The driving force behind the introduction of lithium-ion technology to the
rechargeable battery industry was consumer demand for high energy, small battery
solutions to power portable electronic devices. Lithium-ion cobalt-oxide
technology was developed to meet that demand and represented a significant
advancement in battery technology. Today, however, the challenge is to find ways
to maintain costs and meet safety and environmental concerns, while increasing
energy density. Additionally, as a result of the safety concerns associated with
producing traditional Lithium-ion cobalt-oxide technology in large format
applications, many markets today remain served by antiquated technologies, such
as lead-acid and nickel metal hydride, which offer low energy density and
significant maintenance costs.
We believe our Saphion(R) technology, which utilizes a natural,
phosphate-based cathode in place of other less stable and more costly materials,
addresses the current challenges facing the rechargeable battery industry and
provides us with several competitive advantages. Key attributes of our
Saphion(R) technology include:
o INCREASED SAFETY. We believe that our Saphion(R)technology significantly
reduces the safety risks associated with cobalt-oxide based lithium-ion
technology. Our Saphion(R)technology utilizes less lithium than other
lithium-ion technologies. The unique chemical properties of phosphates
render them incombustible if mishandled during charging or discharging. As
a result, we believe Saphion(R) technology is more stable under overcharge
or short circuit conditions than existing lithium-ion technology and has
the ability to withstand higher temperatures and electrical stress. The
thermal and chemical stability inherent in our Saphion(R)technology enables
the creation of large, high energy density lithium-ion solutions.
o PERFORMANCE ADVANTAGES. We believe Saphion(R) technology offers several
performance advantages over the competing battery chemistries of lead-acid,
nickel cadmium, nickel metal-hydride and traditional lithium-ion
technologies, including high rate capability, long cycle life, long shelf
life, and lower total cost of ownership.
5
o High Energy Density. In its large format application, our Saphion
(R) technology exhibits an energy density which exceeds other
battery chemistries utilized in this market such as lead-acid,
nickel-metal hydride and nickel cadmium.
o Increased Cycle Life. Current testing of Saphion(R) technology
has yielded cycle life of 2000 cycles at 23(degree)C to 70% of
the battery's initial capacity, resulting in a longer life span.
o No Memory Effect and Maintenance Free. Saphion(R) technology does
not exhibit the "memory effect" of nickel cadmium and nickel
metal-hydride solutions and is maintenance free.
o LOWER COST. The phosphate material used in our Saphion(R)technology is
less expensive than the cobalt-oxide material used in competing
lithium-ion technologies. As a result, we believe that as we
manufacture batteries utilizing our Saphion(R)technology, we will be
able to do so with lower material costs. In addition, due to the
inherent safety associated with the phosphate-based materials used in
our Saphion(R)technology, we expect that batteries manufactured with
our Saphion(R) technology will not require the addition of costly
safety devices. Finally, the lower maintenance costs, long cycle life
and long service life associated with Saphion(R)technology, lead to a
lower total cost of ownership in numerous applications.
o FLEXIBILITY. Due to the stability of Saphion(R) technology, it can be
manufactured to fit small as well as large applications. Small applications
include those utilized in the mobile device applications, while large
applications include high energy, high power applications such as back-up
power systems and vehicles. Additionally, Saphion(R) technology is
available in both a polymer and cylindrical construction. In the future, we
plan to offer it in a prismatic construction as well.
o ENVIRONMENTAL FRIENDLINESS. Rechargeable batteries that contain
nickel-metal-hydride, nickel-cadmium and lead-acid raise environmental
concerns. Saphion(R) technology incorporates a natural, environmentally
friendly, phosphate-based cathode material.
COMPETITIVE STRENGTHS
We believe we are uniquely positioned for growth due to the following
competitive strengths:
o LEADING TECHNOLOGY. We believe our latest technological advancement, our
phosphate-based Saphion(R) lithium-ion technology, offers many performance
advantages over competing battery technologies. We believe the safety
advantages inherent to Saphion(R) technology allow for the creation of
large format lithium-ion energy systems. As the first company in the
battery industry to commercialize phosphates, we believe we have a
significant advantage in terms of time to market.
o NEW MARKET OPPORTUNITIES. We believe that Saphion(R) technology enables the
production of high energy density, large format batteries without the
safety concerns presented by cobalt-oxide based batteries. Consequently, we
believe that Saphion(R) technology energy systems can be designed in a wide
variety of products in markets not served by current lithium-ion
technology. We intend to be able to expand the market opportunity for
lithium-ion by designing our Saphion(R) technology into a wide variety of
products for the telecommunications, utility, motive power and vehicular
markets.
o REFINED STRATEGIC FOCUS. We have transitioned to a company capitalizing on
the results of our research and development by strengthening our sales and
marketing efforts. We are expanding our vision to become an energy solutions
company, and plan to enter markets previously not served by lithium-ion
solutions. Additionally, we have established a low cost manufacturing plan,
which includes leveraging internal capabilities as well as contract
manufacturing partnerships in low cost regions, and are pursuing the
transition of additional operations to Asia.
o EXPERIENCED MANAGEMENT TEAM. We have strengthened our management team with
several key people who have a broad base of experience in the high
technology industry. The leader of our team is Stephan Godevais, who has 20
years of management and marketing experience at Dell Computer Corporation,
Digital Equipment Corporation and Hewlett-Packard Company. Joe Lamoreux,
chief operating officer, is a veteran of the notebook industry with 21 years
of engineering and management experience in developing award-winning
products Lamoreux has also held executive and various management positions
in product development engineering at Dell, Compaq Computer Company and IBM.
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PRODUCTS
THE N-CHARGE(TM) POWER SYSTEM FAMILY
The N-Charge(TM) Power System Family includes two generations of a
universal, external battery for mobile devices featuring our Saphion(R)
technology. It is a stand-alone tool that provides easy-to-use, anytime,
anywhere power for a wide variety of portable electronic devices. The
N-Charge(TM) Power System allows users to charge two portable devices, such as a
notebook computer and a cell phone or PDA, simultaneously. Our N-Charge(TM)
Power System is available in commercial quantities and is currently offered
through major retailers, resellers and tier-one companies, as well as through or
own direct sales. We offer two generations of the N-Charge(TM) Power System,
with the following specifications:
N-CHARGE(TM) POWER SYSTEM I
Feature Model VNC-130 Model VNC-65
High power port voltage 15.3-24 V DC 15.3-24 V DC
Low power port voltage 5-12 V DC 5-12 V DC
Capacity 10 Ah 5 Ah
Energy 120-130 Wh 60-65 Wh
Charge time (typical) 3-4 hours 2-3hours
Thickness 13 mm 13 mm
Length 300 mm 300 mm
Width 230 mm 230 mm
Weight 1.35 kg .866 kg
Cycle Life > 600 to 70% capacity > 600 to 70% capacity
N-CHARGE(TM) POWER SYSTEM II
Base System Expansion Pack
Operating Voltage 15.3V/24V 15.3V/24V
Out power 90+ Watts 90+ Watts
Charge Time 3 hours 3 hours
Operating Temperature -20(degree)C to 60(degree)C -20(degree)C to 60(degree)C
Dimensions 248 mm x 93 mm x 20.5 mm 248 mm x 76 mm x 20.5 mm
Weight < 1.5 lbs. < 1.3 lbs.
THE K-CHARGE(TM) POWER SYSTEM
The K-Charge(TM) Power System is a large format energy storage system
designed for the telecommunications and utility industries. It features our
Saphion(R) technology in a large format battery application. Our K-Charge(TM)
Power System is currently in the prototype phase of development and samples are
under evaluation by potential customers. We anticipate commencing the commercial
distribution of K-Charge(TM) Power System in late fiscal 2005 with the move from
the prototype stage to the pilot stage for this product.
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Our K-Charge(TM) Power System has the following specifications:
Operating Voltage 48V
Energy 2.6 KWH (2.3 KWH WITH EXSITING INVENTORY)
Cycle Life > 2000 Cycles (80% Depth of Discharge)
Operating Temperature -20~60(degree)C (-4~140(degree)F)
(charge & disch.)
Dimensions 546mm x 295mm x 87.4mm (21.5in. x 11.61in. x 3.44in.)
Weight 30.4 Kg (67 Lb.)
THE U-CHARGE(TM) POWER SYSTEM
The U-Charge(TM) Power System is a Saphion(R) based family of products
designed to be a direct replacement for standard size lead acid batteries. This
large format energy storage system will be utilized in applications, such as
vehicles, wheelchairs, scooters and other motive devices. Our U-Charge(TM) Power
System is currently in the prototype stage of development and samples are
expected to be available for evaluation by potential customers later this fiscal
year.
SALES AND MARKETING
We currently have an in-house sales and marketing team consisting of
fifteen persons. Our Vice President of Sales resides in Chicago, Illinois. Other
members of the team reside in Darien, Connecticut; San Jose, California;
Raleigh, North Carolina; Atlanta, Georgia, Mallusk, Northern Ireland and Austin,
Texas.
Our N-Charge(TM) Power Systems are typically sold through standard purchase
orders through national retailers, distributors, value-added resellers, and
directly by our sales force and through our Web site. Our K-Charge(TM) and
U-Charge(TM) Power Systems, although still in the prototype stage, are marketed
and sold in a much different manner than our N-Charge(TM) Power Systems. The
K-Charge(TM) Power System is engineered specifically for large format
applications such as those required by the telecommunications and utility
markets. The U-Charge(TM) Power System is designed as a replacement for
lead-acid battery systems, such as those utilized in wheelchairs, scooters,
vehicles, and other motive devices. Generally, these products are customized to
a particular customer's application and will require a significant amount of
attention and commitment, including potentially capital outlays, by prospective
customers. We anticipate sales will typically be made through separately
negotiated supply agreements, rather than standard purchase orders. The approval
process is therefore long and can take a number of months, as illustrated by our
recently announced exclusive supply agreement with Tyco Electronics. Our
K-Charge(TM) and U-Charge(TM) Power Systems are expected to be sold in both
standard and custom configurations. In addition, we expect to design and sell
custom battery systems based on our Saphion(R) technology. We provide pack level
design and engineering services to assist the customer in configuring a product
that meets its needs.
We typically sell our products pursuant to standard purchase orders and
license our technology pursuant to separately negotiated license agreements.
Sales of our products are typically denominated in United States dollars.
Consequently, our sales historically have not been subject to currency
fluctuation risk.
MANUFACTURING
During fiscal 2004 we closed our Northern Ireland manufacturing facility
and now rely on contracts with third party manufacturers for all of our cell and
system manufacturing requirements. Our base Saphion(R) battery materials are
manufactured in Henderson, Nevada. Batteries configured in a polymer
construction are manufactured for us by ATL under a manufacturing contract.
Batteries configured in a cylindrical construction are manufactured for us by
Pacific Energy Technology Company, or PETC. Our products are assembled into
complete systems a contract manufacturer in Taiwan. We have multi-year contracts
with each of our manufacturing sources. However, we believe there are multiple
manufacturers of batteries that are capable of manufacturing our products to our
quality and cost specifications if we require changing or expanding our
manufacturing relationships. With these relationships we believe that we will
have sufficient capacity to meet or exceed the expected demand in fiscal 2005.
RESEARCH AND PRODUCT DEVELOPMENT
We conduct research and development and pilot production at our Henderson,
Nevada facility and fundamental material research in our facility in Oxford,
England. Our battery research and development group develops and improves the
existing technology, materials and processing methods and develops the next
generation of our battery
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technology. Our areas of expertise include: chemical engineering; process
control; safety; and anode, cathode and electrolyte chemistry and physics;
polymer and radiation chemistries; thin film technologies; coating technologies;
and analytical chemistry; and material science. Our research and development
efforts over the past year and ongoing have focused on three areas:
o DEVELOPMENT OF SAPHION(R)TECHNOLOGY IN CYLINDRICAL CONSTRUCTION.
During fiscal 2004 we reached large scale commercialization of our
first generation of Saphion(R)technology, which allowed production of
batteries utilizing the technology in a polymer construction. In the
fourth quarter of 2004, we completed development of
Saphion(R)technology utilizing a cylindrical construction, which
allows us to produce a greater variety of products and increases the
opportunity to introduce the technology to the marketplace. In the
fourth quarter of 2004, we launched production of our second
generation N-Charge(TM)systems utilizing cylindrical construction and
began shipping samples of cylindrical K-Charge(TM)systems
o DEVELOPMENT OF SECOND GENERATION OF SAPHION(R)TECHNOLOGY. We are
currently working on the development of an energy cylindrical cell and
a power cylindrical cell. The applications for the energy cell include
electric vehicles, motive applications, notebook computers, and
consumer electronics. The applications for the power cell include
consumer appliances, such as power tools, and hybrid electric
vehicles. The second generation energy cells are expected to ramp over
the next few quarters, while the power cells are still under
development. The second generation Saphion(R) technology is expected
to deliver similar safety attributes with greater energy and power
density capabilities than our first generation Saphion(R)technology
and a cycle life similar to existing lithium-ion technologies
o LARGE FORMAT APPLICATIONS FOR SAPHION(R) TECHNOLOGY. The benefits of
Saphion(R) technology have led to interest across a broad spectrum of
industries from potential customers for large format solutions. In
large format applications, Saphion(R) technology provides kilowatts of
safe, lithium-ion power that is long-lasting, reliable and maintenance
free. It offers excellent cycle life and run-time, and as a result has
attracted customers such as AEP, Tyco and Graham Field, who are
currently evaluating the product.
We intend to continuously improve our technology, and are currently
focusing on improving the energy density of our products. We are working to
advance these improvements into production. We also are working with new
materials to make further improvements to the performance of our products. We
believe the safety features of our technology and the ongoing improvement in the
performance of our batteries will allow us to maintain our competitive
advantage.
CUSTOMERS
To date, our existing purchase orders in commercial quantities are from a
limited number of customers. During fiscal 2004, Best Buy's purchase orders
contributed 30% of our total revenues. During fiscal 2003, two customers,
Alliant Techsystems Inc. and Pabion Corporation, Ltd., each contributed more
than 10% of total revenues. During fiscal 2002, four customers, Hanil Joint
Venture, Amperex Technology Limited, Alliant Techsystems Inc., and Samsung
Corporation, each contributed more than 10% of total revenues. We anticipate
that sales of our products to a limited number of key customers will continue to
account for a significant portion of our total revenues. Currently, we do not
have any long-term agreements with any of our customers.
COMPETITION
Competition in the battery industry is intense. In the rechargeable battery
market, the principal competitive technologies currently marketed are lead-acid,
nickel cadmium, nickel metal hydride, liquid lithium ion and lithium-ion polymer
batteries.
The industry consists of major domestic and international companies, which
have substantial financial, technical, marketing, sales, manufacturing,
distribution and other resources available to them. Our primary competitors who
have announced availability of either lithium-ion or lithium-ion polymer type
rechargeable battery products include Sony, Sanyo, Panasonic and Toshiba, among
others.
The performance characteristics of lithium-ion batteries, in particular,
have consistently improved over time as the market leaders have matured the
technology. Other contenders have recently emerged with a primary focus on price
9
competition. In addition, a number of companies are undertaking research in
other rechargeable battery technologies, including work on lithium-ion phosphate
technology. Nevertheless, we are continually evolving our technology to meet
these and other competitive threats.
We believe that we have important technological advantages over our
competitors in terms of our ability to compete in the rechargeable battery
market. We believe that our phosphate battery chemistry, construction and
manufacturing processes enable us to enter a wide range of markets that do not
currently use lithium-ion batteries. We believe that our next generation
materials will provide additional advantages in the areas of safety, cost, size
and energy density relative to competing products.
INTELLECTUAL PROPERTY
Our ability to compete effectively depends in part on our ability to
maintain the proprietary nature of our technology and manufacturing processes
through a combination of patent and trade secret protection, non-disclosure
agreements and cross-licensing agreements.
We rely on patent protection for certain designs and products. We hold
approximately 202 United States patents, which have expiration dates through
2022 and have about 58 patent applications pending in the United States. We
continually prepare new patent applications for filing in the United States. We
also actively pursue patent protection in certain foreign countries.
In addition to potential patent protection, we rely on the laws of unfair
competition and trade secrets to protect our proprietary rights. We attempt to
protect our trade secrets and other proprietary information through agreements
with customers and suppliers, proprietary information agreements with employees
and consultants and other security measures.
REGULATION
Before we commercially introduce our batteries into certain markets, we may
be required, or may decide to obtain approval of our materials and/or products
from one or more of the organizations engaged in regulating product safety.
These approvals could require significant time and resources from our technical
staff and, if redesign were necessary, could result in a delay in the
introduction of our products in those markets.
The United States Department of Transportation, or DOT, and the
International Air Transport Association, or IATA, regulate the shipment of
hazardous materials. The United Nations Committee of Experts for the
Transportation of Dangerous Goods has adopted amendments to the international
regulations for "lithium equivalency" tests to determine the aggregate lithium
content of lithium ion polymer batteries. In addition, IATA has adopted special
size limitations for applying exemptions to these batteries. Under IATA, our
N-Charge(TM) Power System (65) and N-Charge(TM) Power System II are exempt from
a class 9 designation for transportation. Our N-Charge(TM) Power System (130),
The K-Charge(TM) Power System and U-Charge(TM) Power System currently fall
within the level such that they are not exempt and require a class 9 designation
for transportation. The revised United Nations recommendations are not U.S. law
until such time as they are incorporated into the DOT Hazardous Material
Regulations. However, as a result of an incident during the summer of 1999,
involving another supplier of liquid cylindrical primary batteries that were
mishandled at Los Angeles International Airport, DOT had proposed new
regulations harmonizing with the UN regulations that have been withdrawn. It is
expected that DOT will publish revised proposed regulations. At present it is
not known when the revised regulations will be published for comment or their
content. We comply with all safety-packaging requirements worldwide and future
DOT or IATA regulations or enforcement policies could impose costly
transportation requirements. In addition, compliance with any new DOT and IATA
approval process could require significant time and resources from our technical
staff and if redesign were necessary, could delay the introduction of new
products.
The Nevada Occupational Safety and Health Administration and other
regulatory agencies have jurisdiction over the operation of our Henderson,
Nevada manufacturing facility and similar regulatory agencies have jurisdiction
over our Mallusk, Northern Ireland manufacturing facilities that may impact our
cost of closure. Because of the risks generally associated with the use of
flammable solvents and other hazardous materials, we expect rigorous enforcement
of applicable health and safety regulations. In addition, we currently are
regulated by the State Fire Marshall's office and local Fire Departments.
Frequent audits or changes in their regulations may cause unforeseen delays and
require significant time and resources from our technical staff.
10
The Clark County Air Pollution Control District has jurisdiction over our
Henderson, Nevada facility and annual audits and changes in regulations could
impact current permits affecting production or time constraints placed upon
personnel.
Federal, state and local regulations impose various environmental controls
on the storage, use and disposal of certain chemicals and metals used in the
manufacture of lithium-ion batteries. Although we believe that our activities
conform to current environmental regulations, any changes in these regulations
may impose costly equipment or other requirements. Our failure to adequately
control the discharge of hazardous wastes also may subject us to future
liabilities.
Recent analysis of our battery by Nevada Environmental Laboratories using
the criteria required by local landfills classified them as non-hazardous waste.
Other States and countries may have other criteria for their landfill
requirements, which could impact cost and handling issues for end product users.
HUMAN RESOURCES
As of June 8, 2004, we had a total of 116 regular full-time employees in
the United States at our Austin, Texas headquarters and our Henderson, Nevada
research and development facility. We have 37 total employees in the areas of
administration, sales, legal, marketing, finance, management information
systems, purchasing, quality control and shipping & receiving. We had 37 total
employees in the areas of engineering, facilities maintenance and environmental
health & safety. We had 42 total employees in the areas of research &
development and product development; product development includes mixing,
coating and assembly. In addition, as of June 8, 2004, our Dutch subsidiary had
28 regular full time employees in the areas of engineering and sales located in
Northern Ireland. None of our employees are covered by a collective bargaining
agreement, and we consider our relations with our employees to be good.
WEBSITE AVAILABILITY OF OUR REPORTS FILED WITH THE SECURITIES AND EXCHANGE
COMMISSION
We maintain a website with the address www.valence.com. We are not
including the information contained on our website as a part of, or
incorporating it by reference into, this annual report on Form 10-K. We make
available free of charge through our website our annual reports on Form 10-K,
quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments
to these reports, as soon as reasonably practicable after we electronically file
that material with, or furnish such material to, the Securities and Exchange
Commission.
ITEM 2. PROPERTIES
Our corporate offices are located in a leased facility in Austin, Texas.
Our joint venture owns a land license and began construction of a manufacturing
facility in Baoding, China. We rent a 55,000 square foot research and
development facility in Henderson, Nevada under a lease agreement.
Our Dutch subsidiary owns a manufacturing facility in Mallusk, Northern
Ireland, with approximately 155,000 square feet. As of March 31, 2004 we had
mortgages on the manufacturing facility of approximately $4,389,000 and
$2,036,000 that bear interest at an annual rate of 5.50% and 5.75%,
respectively. We have ceased manufacturing operations in this facility and
intend to sell it.
ITEM 3. LEGAL PROCEEDINGS
We are subject to various claims and litigation in the normal course of
business. In our opinion, all pending legal matters are either covered by
insurance or, if not insured, will not have a material adverse impact on our
consolidated financial statements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
11
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is quoted on the Nasdaq SmallCap Market under the symbol
"VLNC." The following table sets forth, for the periods indicated, the high and
low sale prices of our common stock, as reported by published financial sources:
FISCAL 2003: HIGH LOW
----- ------
Quarter ended June 30, 2002 3.17 1.28
Quarter ended September 30, 2002 1.86 0.45
Quarter ended December 31, 2002 2.49 0.50
Quarter ended March 31, 2003 2.20 1.20
FISCAL 2004:
Quarter ended June 30, 2003 4.65 2.16
Quarter ended September 30, 2003 4.23 2.67
Quarter ended December 31, 2003 4.48 3.15
Quarter ended March 31, 2004 6.30 3.50
FISCAL 2005:
Quarter ended June 30, 2004 (through June 8, 2004) 4.86 3.52
On June 8, 2004, the last reported sale price of our common shares on the
Nasdaq SmallCap Market was $4.01 per share. On that date, we had 77,573,615
shares of common stock outstanding held of record
We have never declared or paid any cash dividends on our common stock and
do not anticipate paying cash dividends in the foreseeable future.
The following table includes, as of March 31, 2004, information regarding
common stock authorized for issuance under our equity compensation plans:
- ------------------------------------------------------------------------------------------
NUMBER OF
NUMBER OF SECURITIES WEIGHTED-AVERAGE SECURITIES
TO BE ISSUED UPON EXERCISE PRICE OF REMAINING AVAILABLE
EXERCISE OF OUTSTANDING OR FUTURE ISSUANCE
OUTSTANDING OPTIONS, OPTIONS, WARRANTS UNDER EQUITY
PLAN CATEGORY WARRANTS AND RIGHTS AND RIGHTS COMPENSATION PLANS
- ------------------------------------------------------------------------------------------
Equity compensation
plans approved by
security holders 9,237,260 $5.06 900,378
Equity compensation
plans not approved by
security holders (1) 1,925,000 $6.45 -
Total 11,162,260 $5.30 900,378
- ------------------------------------------------------------------------------------------
- --------------
(1) Options to purchase 1,500,000 shares were granted to Stephan Godevais in
May 2001 pursuant to his employment agreement. The exercise price of his
options is $6.52 and they vest over four years. 25% of the options vested
in May 2002 and the remainder vest in 12 equal quarterly installments
during the term of his employment (1,125,000 shares vested as of June 14,
2004). The vesting accelerates and become immediately exercisable on the
date of a change of control of the Company (or if he has been terminated
without good cause or resigned for good reason). Options to purchase
225,000 shares were granted to Joseph Lamoreux in June 2001 pursuant to his
employment offer letter. The exercise price of his options is $7.18 and
they vest over four years. 25% of the options vested in June 2002 and the
remainder vest in 12 equal quarterly installments during the term of his
employment (168,752 shares vested as of June 14, 2004).
12
RECENT SALES OF UNREGISTERED SECURITIES
On March 5, 2004, we drew down $3 million from a commitment offered by Berg
& Berg. The proceeds were used to fund corporate operating needs and working
capital. Under the terms of the commitment, we issued Berg & Berg 594,766 shares
at the then-current market value of $5.04 per share, determined by the average
of the five prior days closing bid prices. Under Rule 144 of the Securities Act
of 1933, as amended, these shares are restricted from being traded by Berg &
Berg for a period of one year from the date of issuance, unless registered, and
thereafter must be traded only in compliance with the volume restrictions
imposed by this rule.
On April 19, 2004, we drew down $3 million from a commitment offered by
Berg & Berg. The proceeds were used to fund corporate operating needs and
working capital. Under the terms of the commitment, we issued Berg & Berg
710,900 shares at the then-current market value of $4.22 per share, determined
by the average of the five prior days closing bid prices. Under Rule 144 of the
Securities Act of 1933, as amended, these shares are restricted from being
traded by Berg & Berg for a period of one year from the date of issuance, unless
registered, and thereafter must be traded only in compliance with the volume
restrictions imposed by this rule.
On May 24, 2004, we drew down $3 million from a commitment offered by Berg
& Berg. The proceeds will be used to fund corporate operating needs and working
capital. Under the terms of the commitment, we issued Berg & Berg 829,187 shares
at the then-current market value of $3.62 per share, determined by the average
of the five prior days closing bid prices. Under Rule 144 of the Securities Act
of 1933, as amended, these shares are restricted from being traded by Berg &
Berg for a period of one year from the date of issuance, unless registered, and
thereafter must be traded only in compliance with the volume restrictions
imposed by this rule.
13
ITEM 6.
SELECTED FINANCIAL DATA
This section presents selected historical financial data of Valence
Technology, Inc. You should read carefully the consolidated financial statements
included in this report, including the notes to the consolidated financial
statements. We derived the statement of operations data for the years ended
March 31, 2002, 2003 and 2004 and balance sheet data as of March 31, 2003 and
2004 from the audited consolidated financial statements in this report. We
derived the statement of operations data for the years ended March 31, 2000 and
2001 and the balance sheet data as of March 31, 2000, 2001, and 2002 from
audited financial statements that are not included in this report.
FISCAL YEAR ENDED MARCH 31,
2000 2001 2002 2003 2004
---------- ----------- ----------- ----------- -----------
(in thousands, except per share data)
STATEMENT OF OPERATIONS DATA:
Revenue:
License and royalty revenue $ - $ 1,500 $ 3,203 $ 125 $ 963
Battery and system sales 1,518 7,191 1,671 2,432 8,483
---------- ----------- ----------- ----------- -----------
Total revenues 1,518 8,691 4,874 2,557 9,446
Cost of sales - 18,175 8,649 10,996 15,923
Gross profit (loss) 1,518 (9,484) (3,775) (8,439) (6,477)
Research and product development 19,000 8,516 9,681 9,293 8,638
Marketing 297 1,080 1,957 3,210 4,880
General and administrative 6,795 11,676 11,971 10,140 11,416
Depreciation and amortization 9,510 11,309 7,927 2,790 2,109
Gain (loss) on disposal of assets 583 15 147 (20) (21)
Restructuring charge - - - - 926
Contract settlement charge - - - - 3,046
Asset impairment charge - - 31,884 258 13,660
Factory startup costs 3,171 - - - -
---------- ----------- ----------- ----------- -----------
Total operating expenses 39,356 32,596 63,567 25,671 44,654
---------- ----------- ----------- ----------- -----------
Operating loss (37,838) (42,080) (67,342) (34,110) (51,131)
Minority interest - - - - 69
Cost of warrants - - - - (181)
Stockholder lawsuit (30,061) - - - -
Interest and other income 804 1,256 2,049 381 345
Interest expense (1,841) (2,332) (4,327) (4,172) (4,059)
Equity in loss of joint venture (210) (345) - - -
---------- ----------- ----------- ----------- -----------
Net loss (69,146) (43,501) (69,620) (37,901) (54,957)
---------- ----------- ----------- ----------- -----------
Dividends on preferred stock - - - - 162
Beneficial conversion feature and
accretion to redemption value on
preferred stock 560 591 - - 940
---------- ----------- ----------- ----------- -----------
Net loss available to common
stockholders $ (69,706) $ (44,092) $ (69,620) $ (37,901) $ (56,059)
========== =========== =========== =========== ===========
Net loss per share available to
common stockholders $ (2.28) $ (1.14) $ (1.53) $ (0.65) $ (0.77)
========== =========== =========== =========== ===========
Shares used in computing net loss
per share available to common
stockholders, basic and diluted 30,523 38,840 45,504 58,423 73,104
========== =========== =========== =========== ===========
14
MARCH 31,
--------------------------------------------------------------
2000 2001 2002 2003 2004
---------- ---------- ---------- ---------- ----------
(in thousands)
BALANCE SHEET DATA:
Cash and cash equivalents $ 24,556 $ 3,755 $ 623 $ 6,616 $ 2,692
Working capital (deficit) 16,007 5,684 (2,696) 4,023 (4,847)
Total assets 58,516 86,884 30,531 36,154 21,056
Long-term debt, principal 12,369 20,651 34,639 38,865 39,407
Accumulated deficit (223,582) (267,083) (336,703) (374,604) (429,724)
Total stockholders'
equity (deficit) 27,845 48,214 (15,863) (17,518) (56,794)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
THIS REPORT CONTAINS STATEMENTS THAT CONSTITUTE "FORWARD-LOOKING STATEMENTS"
WITHIN THE MEANING OF SECTION 21E OF THE EXCHANGE ACT AND SECTION 27A OF THE
SECURITIES ACT. THE WORDS "EXPECT," "ESTIMATE," "ANTICIPATE," "PREDICT,"
"BELIEVE" AND SIMILAR EXPRESSIONS AND VARIATIONS THEREOF ARE INTENDED TO
IDENTIFY FORWARD-LOOKING STATEMENTS. SUCH STATEMENTS APPEAR IN A NUMBER OF
PLACES IN THIS FILING AND INCLUDE STATEMENTS REGARDING THE INTENT, BELIEF OR
CURRENT EXPECTATIONS OF VALENCE TECHNOLOGY, INC. (THE "COMPANY," "VALENCE,"
"WE," OR "US"), OUR DIRECTORS OR OFFICERS WITH RESPECT TO, AMONG OTHER THINGS
(A) TRENDS AFFECTING OUR FINANCIAL CONDITION OR RESULTS OF OPERATIONS, (B) OUR
PRODUCT DEVELOPMENT STRATEGIES, (C) TRENDS AFFECTING OUR MANUFACTURING
CAPABILITIES, (D) TRENDS AFFECTING THE COMMERCIAL ACCEPTABILITY OF OUR PRODUCTS
AND,(E) OUR BUSINESS AND GROWTH STRATEGIES. OUR STOCKHOLDERS ARE CAUTIONED NOT
TO PUT UNDUE RELIANCE ON SUCH FORWARD-LOOKING STATEMENTS. SUCH FORWARD-LOOKING
STATEMENTS ARE NOT GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE RISKS AND
UNCERTAINTIES, AND ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE PROJECTED IN
THIS REPORT, FOR THE REASONS, AMONG OTHERS, DISCUSSED IN THE SECTIONS --
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS," AND "RISK FACTORS." THE FOLLOWING DISCUSSION SHOULD BE READ IN
CONJUNCTION WITH OUR FINANCIAL STATEMENTS AND RELATED NOTES, WHICH ARE PART OF
THIS REPORT OR INCORPORATED BY REFERENCE TO OUR REPORTS FILED WITH THE
COMMISSION. WE UNDERTAKE NO OBLIGATION TO PUBLICLY REVISE THESE FORWARD-LOOKING
STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES THAT ARISE AFTER THE DATE HEREOF.
OVERVIEW
We have commercialized the first phosphate-based lithium-ion technology and
have brought to market several products utilizing this technology. Our mission
is to drive the wide adoption of high-performance, safe, low cost energy storage
systems by drawing on the numerous benefits of our latest battery technology,
Saphion(R), the extensive experience of our management team and the significant
market opportunity available to us. The push behind the introduction of
Lithium-ion technology to the market was consumer demand for high-energy, small
battery solutions to power portable electronic devices. The battery industry,
consequently, focused on high-energy solutions at the expense of safety.
Additionally, due to safety concerns, lithium-ion technology has been limited in
adoption to small format applications. Our Saphion(R) technology, a phosphate
based cathode material, addresses the need for a safe lithium-ion solution,
especially in large-format applications.
Founded in 1989 as a research and development company, we currently possess
an extensive library of international patents. Prior to 2000, our efforts were
focused primarily on developing and acquiring battery technologies. During 2001,
with the addition of Stephan Godevais as Chief Executive Officer and President,
and recruitment of additional executive management talent, we developed and
initiated the implementation of a business plan to capitalize on the significant
market opportunity for safe, high-performance energy storage systems by
productizing and commercializing our technological innovations.
Our business plan and strategy focus on the generation of revenue from a
combination of product sales and licensing activities, while minimizing costs
through a manufacturing plan that utilizes partnerships with contract
manufacturers, as well as through the establishment of a fully-owned subsidiary
in a low cost region such as China. We plan to drive the adoption of our
Saphion(R) technology by offering existing and new solutions that differentiate
our own products and end-users' products in both the large format and small
format markets. In addition, we will seek to expand the fields of use of our
Saphion(R) technology through the licensing of our intellectual property related
to our battery chemistries and manufacturing processes.
15
To date, we have achieved the following successes in implementing our
business plan:
o Proven the feasibility of our technology;
o Launched new Saphion(R) technology based products, including our
N-Charge(TM) Power System family and our K-Charge(TM) Power System, which
meet market needs of a large customer base; and introduced our U-Charge(TM)
Power System family of products, which is intended to be a direct
replacement for existing lead acid battery solutions in the market today;
o Established relationships with top tier customers across many of the
target markets for our products, while continuing to build our brand
awareness in multiple channels.
o Closed our high cost manufacturing facility in Northern Ireland and
established key manufacturing partnerships in Asia to facilitate low cost,
quality production.
Our financial results through the fiscal 2004 were largely consistent with
our expected progress in our business. Most significantly, revenue grew by 269%
as compared to the prior year to $9.4 million. Additionally, we achieved
improvement of our negative gross margin and expanded our development and
channel launch of Saphion(R)-based products. Although progressing more slowly
than anticipated, we continued our efforts to transition our manufacturing to
low-cost regions, and incurred non-recurring expenses related to the
discontinuation of our manufacturing facility in Northern Ireland. We believe
our long-term success requires the transition of additional operations to Asia.
We are exploring a variety of different areas to achieve this transition and
generate additional cost savings during fiscal 2005. To support the transition
to China and help manage potential delays in product transitions and receiving
customer purchase orders, we have received an additional $20 million backup
equity funding commitment, which can be increased in certain circumstances, from
Carl Berg, a director and stockholder, to cover our fiscal 2005 cash
requirements. This commitment can be reduced if funds to support operational
needs are received from the sale of our Northern Ireland facility and equipment
or from other funding transactions.
Valence's business headquarters is located in Austin, Texas, our research
and development centers are in Henderson, Nevada and Oxford, England, and our
European sales and OEM manufacturing support center is in Mallusk, Northern
Ireland.
BASIS OF PRESENTATION, CRITICAL ACCOUNTING POLICIES AND ESTIMATES
We prepare our consolidated financial statements in conformity with generally
accepted accounting principles in the United States. The preparation of our
financial statements requires us to make estimates and assumptions that affect
reported amounts. We believe our most critical accounting policies and estimates
relate to revenue recognition, impairment of long-lived assets, and exit costs.
Our accounting policies are described in Note 3 of the Notes to Consolidated
Financial Statements. The following further describes the methods and
assumptions we use in our critical accounting policies and estimates:
REVENUE RECOGNITION: We generate revenues from sales of products including
batteries and battery systems, and from licensing fees and royalties per
technology license agreements. Product sales are recognized when all of the
following criteria are met: persuasive evidence of an arrangement exists,
delivery has occurred, seller's price to the buyer is fixed and determinable,
and collectibility is reasonably assured. Product shipments that are not
recognized as revenue during the period shipped, primarily product shipments to
resellers that are subject to right of return, are recorded as deferred revenue
and reflected as a liability on our balance sheet. For reseller shipments where
revenue recognition is deferred, we record revenue based upon the reseller
supplied reporting of sales to their end customers or their inventory reporting.
For direct customers, we estimate a return rate percentage based upon our
historical experience. We review this estimate on a quarterly basis. From time
to time we provide sales incentives in the form of rebates or other price
adjustments; these are recorded as reductions to revenue as incurred. Licensing
fees are recognized as revenue upon completion of an executed agreement and
delivery of licensed information, if there are no significant remaining vendor
obligations and collection of the related receivable is reasonably assured.
Royalty revenues are recognized upon licensee revenue reporting and when
collectibility is reasonably assured.
IMPAIRMENT OF LONG-LIVED ASSETS: We perform a review of long-lived tangible and
intangible assets for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable.
Recoverability of these assets is measured by comparison of their carrying
amounts to future undiscounted cash flows that the assets are expected to
generate. If long-lived assets are considered to be impaired, the impairment to
be recognized equals the amount by which the carrying value of the assets
exceeds its fair value and is recorded in the period the determination was made.
The estimated cash flows used in our impairment analyses reflect our assumptions
16
about average selling prices, royalties, sales volumes, product costs, operating
costs (including costs associated with our manufacturing transition to China),
disposal costs, and market conditions. These assumptions are sometimes
subjective and may require us to make estimates of matters that are uncertain.
Additionally, we use probability-weighted scenarios to incorporate the impact of
alternative outcomes, where applicable. See Notes to Consolidated Financial
Statements, Note 4, Impairment Charge, regarding impairment of tangible and
intangible assets.
EXIT COSTS: We incurred exit costs associated with the closure of our Northern
Ireland manufacturing facility. In accordance with, SFAS No. 146, "Accounting
for Costs Associated with Exit or Disposal Activities", we recognize liabilities
for costs associated with exit or disposal activities at fair value in the
period during which the liability is incurred. We estimate the liabilities
related to exit or disposal activities including lease termination costs,
compensation of staff, inventory obsolescence, costs to prepare assets for
disposal or sale, and other one-time expenses based upon our analysis of
individual transaction circumstances, agreements and commitments. Some
agreements may be revised, or actual results may be different from costs
reasonably estimated at the incurrence of the liability. In these cases,
additional costs or reduced costs are recorded in the period incurred, and
differences are disclosed in the footnotes to consolidated financial statements.
Costs associated with exit or disposal activities are included in restructuring
charges. See Notes to Consolidated Financial Statements, Note 20 Facility
Closing, regarding costs of closing our Northern Ireland facility.
CONTRACT SETTLEMENT CHARGE. During the second quarter of fiscal 2004, we
recorded a contract settlement charge of $3 million. Beginning in 1994, pursuant
to a Letter of Offer, we received employment and capital grants from the Ireland
Development Board, now known as Invest Northern Ireland, or INI, for our
Mallusk, Northern Ireland manufacturing facility. On August 13, 2003 we obtained
verbal assurance that we had reached an agreement in principle with the INI to
terminate the Letter of Offer. Pursuant to this proposed agreement, the INI
would unconditionally and irrevocably release us from all obligations,
liabilities, or claims under the Letter of Offer in exchange for $4.7 million of
restricted common stock, payable in three installments over three years. The INI
has not yet completed its formal approval processes for this agreement. If we do
not finalize the proposed agreement, our potential liability related to
termination of the Letter of Offer with INI would range from $1.7 to $7.7
million. We have previously accrued a $1.7 million liability with respect to the
INI claim, and recorded a $3.0 million contract settlement expense in our
September 30, 2003 fiscal quarter. We believe the $4.7 million liability
currently recorded is the best estimate of our liability to the INI.
17
RESULTS OF OPERATIONS
FISCAL YEARS ENDED MARCH 31, 2004 (FISCAL 2004), MARCH 31, 2003 (FISCAL 2003)
AND MARCH 31, 2002 (FISCAL 2002)
The following table summarizes the results of our operations for the past three
fiscal years:
FISCAL YEAR ENDED
-----------------------------------------------------------------
(Dollars in thousands) MARCH 31, 2004 %CHANGE MARCH 31, 2003 %CHANGE MARCH 31, 2002
Licensing and royalty revenue........... $ 963 670% $ 125 (96%) $ 3,203
Battery and system sales................ $ 8,483 249% $ 2,432 46% $ 1,671
-----------------------------------------------------------------
Total revenues.......................... $ 9,446 269% $ 2,557 (48%) $ 4,874
-----------------------------------------------------------------
Gross profit (loss)..................... $ (6,477) 23% $ (8,439) (124%) $ (3,775)
% of total revenue.................... -69% -330% -77%
Restructuring, settlement and impairment
charges............................ $ 17,632 6734% $ 258 (99%) $ 31,884
% of total revenue.................... 187% 10% 654%
Other operating expenses................ $ 27,022 6% $ 25,413 (20%) $ 31,683
% of total revenue.................... 286% 994% 650%
-----------------------------------------------------------------
Total operating expenses................ $ 44,654 74% $ 25,671 (60%) $ 63,574
-----------------------------------------------------------------
% of total revenue.................... 473% 1004% 1304%
Operating loss.......................... ($51,131) 50% $ (34,110) (49%) $ (67,349)
% of total revenue.................... -541% -1334% -1382%
-----------------------------------------------------------------
Net loss................................ ($54,957) 45% $ (37,901) (46%) $ (69,620)
=================================================================
% of total revenue.................... -582% -1482% -1428%
REVENUE GROWTH AND GROSS MARGIN IMPROVEMENT
BATTERY AND SYSTEM SALES: Battery and system sales totaled $8.483 million for
the year ended March 31, 2004, as compared to $2.432 million for the year ended
March 31, 2003, and $1.671 for the year ended March 31, 2002. Increases in
battery and system sales were primarily the result of establishing and growing
our retail and reseller channels for our N-Charge(TM) Power System product.
Product shipments to resellers that are subject to right of return are recorded
on the balance sheet as deferred revenue. We had $1.593 million in deferred
revenue on our balance sheet at March 31, 2004. We expect sales of the
N-Charge(TM) Power System to continue to grow moderately in fiscal 2005. We are
experiencing longer sales cycles for our large format products than initially
expected; however, we expect to see meaningful large format product sales by the
end of fiscal 2005.
LICENSING AND ROYALTY REVENUE: Licensing and royalty revenues relate to revenue
from licensing agreements for our technology. Fiscal year 2003 and 2004 license
and royalty revenue was primarily related to license fees and royalties payments
from Amperex Technology Limited, or ATL. During fiscal 2002, we expanded our
licensee base by adding ATL and also converted the Hanil Joint Venture to a
license agreement and initial license. We do not expect to receive additional
royalty amounts from the Hanil Joint Venture. We continue to pursue licensing of
both our process and chemistry patent portfolios. Our large format applications
(K-ChargeTM Power System and U-ChargeTM Power System) are currently in the
prototype phase and are expected to reach the pilot stage of development in late
fiscal 2005. We expect our 2nd generation Saphion(R) technology to begin
commercialization for energy applications later in fiscal 2005 and as a result
we do not anticipate significant licensing revenues in fiscal 2005.
GROSS PROFIT (LOSS): Gross profit (loss) as a percentage of revenue, or gross
margin, was (69%) for the year ended March 31, 2004 as compared to gross margin
of (330%) for the fiscal year ended March 31, 2003 and gross margin of (77%) for
the year ended March 31, 2002. Although we experienced improvement in fiscal
2004, we maintained a negative gross margin on our sales in all periods because
of insufficient production and sales volumes to facilitate the coverage of our
indirect and fixed manufacturing costs. We completed the closure of our Northern
Ireland manufacturing facility in fiscal 2004 and transition of battery
manufacturing to outsourced providers in Asia. We intend to transition
additional operations to Asia during fiscal 2005. We expect cost of sales to
continue to decrease as a percentage of sales as production volumes continue to
increase, and as we continue to implement our low cost manufacturing strategy.
18
OPERATING EXPENSES AND OVERHEAD COST MANAGEMENT: The following table summarizes
our operating expenses during each of the past three fiscal years:
(Dollars in thousands) MARCH 31, 2004 %CHANGE MARCH 31,2003 %CHANGE MARCH 31, 2002
Operating Expenses:
Research and product development....... $ 8,638 (7%) $ 9,293 (4%) $ 9,681
Marketing.............................. $ 4,880 52% $ 3,210 64% $ 1,957
General and administrative............. $ 11,416 13% $ 10,140 (15%) $ 11,971
Depreciation and amortization.......... $ 2,109 (24%) $ 2,790 (65%) $ 7,927
(Gain) loss on disposal of assets...... $ (21) 5% $ (20) (114%) $ 147
Restructuring charge................... $ 926 100% $ 0 0% $ 0
Contract settlement charge............. $ 3,046 100% $ 0 0% $ 0
Asset impairment charge................. $ 13,660 5195% $ 258 (99%) $ 31,884
---------------- --------------- --------------
Total Operating Expenses........... $ 44,654 74% $ 25,671 (60%) $ 63,567
================ =============== ==============
% of total revenue...................... 473% 1004% 1304%
We continued to focus on our operating expense management throughout fiscal
2004. Operating expenses as a percentage of revenue decreased to 473% versus
over 1000% in prior years. Of our operating expenses in fiscal 2004 and 2003,
$17.6 million and $258,000, respectively, related to the changes in our business
plan and subsequent closure of our Northern Ireland facility and the sale of our
Henderson, Nevada facility, representing 187% and 10% of revenue in each of
these fiscal years. We expect to continue to improve our operating expenses as a
percentage of sales during fiscal 2005. To help accomplish this objective, we
intend to transfer additional operations to Asia in fiscal 2005.
RESEARCH AND PRODUCT DEVELOPMENT. Research and product development expenses
consist primarily of personnel, equipment and materials to support our battery
and product research and development. The $655,000 or 7% decrease in research
and development expenses from fiscal 2003 to 2004 and $388,000 or 4% decrease
from fiscal 2002 to 2003 are due largely to a reduction in headcount and related
costs in our reorganization that took place in the third quarter of fiscal 2003,
offset by increases in development spending to expand the Saphion(R) family of
products. We expect to continue to achieve reductions in research and product
development expenses as we improve our product development efficiency and
transition portions of our development efforts to Asia.
MARKETING. Marketing expenses consist primarily of costs related to sales and
marketing personnel, public relations and promotional materials. The 52% and 64%
increases in marketing expenses during fiscal 2004 and fiscal 2003 respectively
were the result of increased staffing, advertising, and promotions to support
brand awareness and expansion of channels to sell our N-Charge(TM) Power System,
K-Charge(TM) Power System, U-Charge Power System, and other Saphion(R) products.
We expect marketing expenses to continue to grow as we expand and develop our
channels, launch additional Saphion(R) products, and continue our branding
efforts.
GENERAL AND ADMINISTRATIVE. General and administrative expenses consist
primarily of salaries and other related costs for finance, human resources,
accounting, information technology, legal, and corporate related expenses,
including our China joint venture. The $1.276 million or 13% increase in general
and administrative expenses from fiscal 2003 to fiscal 2004 were primarily the
result of the establishment and accounting consolidation of our joint venture,
increased regulatory and compliance costs, and retention bonuses for key
employees incurred in our Northern Ireland facility. The $1.831 million or 15%
decrease in general and administrative expenses from fiscal 2002 to 2003 relates
to lower legal expenses and lower recruiting and relocation expenses with
completion of relocation of the corporate office to Austin, Texas during fiscal
2002. The decrease is partially offset by an increase in insurance expense. We
have initiated negotiations to terminate our joint venture following our finding
of ongoing breaches of contractual obligations by Fengfan and our concerns
regarding protection of our intellectual property rights. We have terminated the
joint venture's technology license, and have ceased our contributions of
engineering expertise and capital equipment. The termination of the joint
venture will reduce general and administrative expenses, partially offset by the
related legal costs that we expect to incur. At this time, the Company's
management, after discussion with its legal counsel, believes that resolution of
the negotiations will not have a material impact on the financial condition of
the Company. The Company is seeking other manufacturing resources in the region.
19
OTHER COSTS RELATED TO OUR MANUFACTURING TRANSITION
IMPAIRMENT CHARGE: During the second quarter of fiscal 2004, we recorded an
impairment charge of approximately $13.7 million. The charge was recorded
pursuant to FASB Statement No. 144 "Accounting for Impairment or Disposal of
Long-Lived Assets". During the second quarter of fiscal 2004, we arrived at our
decision to transfer manufacturing from our Northern Ireland facility to
low-cost manufacturing regions, including China. Additionally, we continued to
progress in the development of our cylindrical battery technology and expect
continued emphasis on the licensing and manufacturing of our cylindrical
technology to the detriment of the licensing and manufacturing of our stacked
technology (which was the technology acquired from Telcordia in December 2000).
As a result of these developments, we determined that the future cash flows
expected to be generated from assets in our Northern Ireland facility and
intellectual property acquired in the Telcordia transaction in December 2000 did
not exceed their carrying value. The impairment charge was recorded against
property, plant, and equipment and intellectual property with a carrying value
of $19.5 million to recognize these assets at their fair value. Fair value was
determined based on estimated future cash flows to be generated by these assets,
discounted at our market rate of interest of 8%. During the fourth quarter of
fiscal 2003, we recorded an impairment charge of $258,000 on our property in
Henderson, Nevada related to the planned sale of this facility. We estimated
that the future cash flows expected from the sale of this facility were less
than the asset carrying value and adjusted the assets to their fair value
accordingly. During the third quarter of fiscal 2002, we recorded an impairment
charge of $31.9 million on assets in our Northern Ireland facility and
intellectual property acquired from Telcordia. The fiscal 2002 impairment charge
resulted from a redefinition of our business strategy and solidification of our
manufacturing plan and product mix. We determined that the future cash flows
expected to be generated from older manufacturing equipment in our Northern
Ireland facility and intellectual property acquired in the Telcordia transaction
in December 2000 did not exceed their carrying value. This determination
resulted in a net impairment charge against property, plant and equipment and
intellectual property to adjust these assets to their fair value.
CONTRACT SETTLEMENT CHARGE: During the second quarter of fiscal 2004, we
recorded a contract settlement charge of $3 million. Beginning in 1994, pursuant
to a Letter of Offer, we received employment and capital grants from the Ireland
Development Board, now known as Invest Northern Ireland, or INI, for our
Mallusk, Northern Ireland manufacturing facility. As a result of the planned
transition of manufacturing from the Mallusk facility to China and other low
cost manufacturing regions, and our desire to obtain unencumbered access to all
of its equipment for transfer to China or for sale, we sought to terminate this
relationship,, On August 13, 2003 we obtained assurance that we had reached an
agreement in principle with the INI to terminate the Letter of Offer. Pursuant
to this proposed agreement, the INI would unconditionally and irrevocably
release us from all obligations, liabilities, or claims under the Letter of
Offer in exchange for $4.7 million of restricted common stock, payable in three
installments over three years (with an agreement by INI not to short our common
stock at any time and not to trade the restricted common stock received for at
least one year from the respective payment dates). The INI has not yet completed
its formal approval processes for this agreement. If we do not finalize the
current agreement, our potential liability related to termination of the Letter
of Offer would range from $1.7 million to $7.7 million. We have previously
accrued a $1.7 million liability with respect to the INI claim, and recorded a
$3 million contract settlement expense in our September 30, 2003 fiscal quarter.
We believe the $4.7 million liability currently recorded is the best estimate of
our liability to the INI.
RESTRUCTURING CHARGE. In the third fiscal quarter of 2004, we recorded
restructuring charges of $926,000 related to the closing of our Northern Ireland
facility. During the third quarter of fiscal 2004, we completed the transition
of our battery production from our Northern Ireland manufacturing facility to
our OEM supplier. As of December 31, 2003, all production at our Northern
Ireland facility had ceased. Activities related to closing the facility and
preparing equipment for transition to China or for sale are expected to continue
into fiscal 2005. All inventory remaining at the conclusion of manufacturing
operations was determined to be obsolete and unusable by any of our battery
manufacturing sources. Raw materials inventory obsolescence expense of
approximately $178,000 and work in process inventory obsolescence expense of
approximately $517,000 were recorded as restructuring charges during the quarter
ended December 31, 2003. Remaining payment obligations for factory equipment
operating leases that extended beyond December 31, 2003 were approximately
$231,000. These lease payment obligations provide no economic benefit to us, and
contractual lease costs of approximately $231,000 were recorded as restructuring
charges during the quarter ended December 31, 2003.
DEPRECIATION AND AMORTIZATION, AND NON OPERATING INCOME AND EXPENSES
Depreciation and Amortization. The decreases in depreciation and amortization in
fiscal 2004 and fiscal 2003 resulted from the impairment charge to intellectual
property and property, plant, and equipment recorded in the second quarter of
fiscal 2004, the fourth quarter of fiscal 2003 and the third quarter of fiscal
2003.
20
INTEREST AND OTHER INCOME. Interest and other income totaled $345,000, $381,000,
and $2.049 million for fiscal years ended March 31, 2004, 2003, and 2002,
respectively. Interest during fiscal 2002 related primarily to interest earned
on investments acquired from West Coast Venture Capital in February 2001. These
assets were transferred to Berg & Berg as a reduction of our debt outstanding
during the fourth quarter of fiscal 2002.
INTEREST EXPENSE. Interest expense relates to mortgages on our Northern Ireland
facility as well as interest on our long-term debt to stockholder.
COST OF WARRANTS. In November 2003, we agreed to extend the time period in which
a warrant holder is able to exercise its warrants. The warrant exercise period
originally ended on July 27, 2003, and has been extended to July 27, 2004. The
non-cash expense related to the exercise period extension of $181,000 was
determined using the Black-Scholes model, with risk free rate of 1.04%, expected
life of 0.75 years, and volatility of 69.88. A total of 202,842 shares may be
purchased at an average exercise price of approximately $4.26 per share.
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY
At March 31, 2004, our principal sources of liquidity were cash and cash
equivalents of $2.7 million and $11 million available under financing
commitments with Berg & Berg Enterprises, LLC. The $11 million financing
commitment is in the form of an equity line of credit that allows the Company to
request Mr. Berg to purchase shares of common stock from time to time at the
then-current market value.
During the first quarter of fiscal 2005, we determined that in order to
reach our long-term objectives and minimize our fixed operating costs, we
require the transition of more of our operations to lower cost regions. In order
to achieve this plan, Mr. Berg has agreed to provide an additional $20 million
backup equity funding commitment. This commitment can be reduced by the amount
of net proceeds received from the sale of building or equipment from our
Mallusk, Northern Ireland facility or the amount of net proceeds in a debt or
equity transaction, and may be increased if necessary under certain
circumstances. This additional funding commitment will come in the form of an
equity line of credit and allow us to request Mr. Berg to purchase shares of
common stock from time to time at the then-current market value.
On June 2, 2003 we raised net proceeds of approximately $9.4 million
through the sale of 1,000 shares of newly issued Series C Redeemable Convertible
Preferred Stock to an unaffiliated investor. The Series C stock matures December
2, 2004 and carries a 2% annual dividend, paid quarterly in cash or shares of
common stock. On January 22, 2004, the holder of the Series C Stock converted
139 of its 1,000 shares with principal amount of $1.39 million including accrued
and unpaid dividends into 327,453 shares of common stock at the conversion price
of $4.25 per share. Our business plan contemplates conversion of all remaining
shares of Series C Stock prior to their maturity date. On the maturity date, we
are required to redeem for cash any unconverted shares of the Series C Stock at
their stated value plus any accrued and unpaid dividends. If the remaining
Series C Stock shares have not been converted by the maturity date, we may need
to raise additional debt or equity financing to facilitate any required
redemption. There can be no assurance that we could obtain the additional
financing.
Our current forecast projects that these sources of liquidity will be
sufficient for at least the twelve months following March 31, 2004. This
forecast assumes product sales during fiscal 2005 from our N-Charge(TM) Power
System, which are subject to seasonal fluctuations, of between $2.0 - $3.5
million per quarter, and additional revenues from volume shipments of our
large-format applications commencing in the fourth quarter of fiscal 2005. We
also anticipate further cash benefits from continued reductions in our operating
expenses and manufacturing costs, offset by small increases to capital
expenditures associated with our expected establishment of a presence in China.
21
Our cash requirements may vary materially from those now planned because of
changes in our operations, including the failure to achieve expected revenues,
greater than expected expenses, changes in OEM relationships, market conditions,
the failure to timely realize our product development goals and other adverse
development. In addition, we are subject to contingent obligations, including
the possible redemption of our outstanding Series C Preferred Stock and demand
for repayment of a portion or all of our existing grants.
Currently, we do not have sufficient sales and gross profit to generate the
cash flows required to meet our operating and capital needs. If during the next
twelve months our cash requirements increase, or our cash sources decline, we
would require additional debt or equity financing. In addition, unless we are
able to achieve substantially greater product sales or reduced expense over this
period, we will require additional debt or equity financing in fiscal 2006.
Currently we depend on Carl Berg's continued willingness to fund our operations.
Mr. Berg has made no commitments to provide any additional equity or debt
financing above his current contractual commitments, and there can be no
assurance that he or any of his affiliates will do so in the future.
Consequently, if we need additional debt or equity financing, we assume that we
will need to obtain such financing from parties other than Mr. Berg and his
affiliates. We are not currently aware of any available source for such debt or
equity financing and may not be able to arrange for such financing on favorable
terms or at all.
The following table summarizes our statement of cash flows for the fiscal
years ended March 31, 2004, 2003, and 2002:
FISCAL YEAR ENDED
-------------------------------------------------
(Dollars in thousands) MARCH 31, 2004 MARCH 31, 2003 MARCH 31, 2002
Net cash flows provided by (used in):
Operating activities..................... ($29,131) ($32,484) ($26,160)
Investing activities..................... ($3,305) ($706) ($8,793)
Financing activities..................... $28,357 $38,999 $32,402
Effect of foreign exchange rates......... $155 $184 ($581)
--------------- --------------- ---------------
Net (decrease)/increase in cash and cash
equivalents......................... ($3,924) $5,993 ($3,132)
=============== =============== ===============
The cash used for operating activities in all periods was primarily for
operating losses net of non-cash expenses as described above in the section
titled "Operating Expenses and Overhead Cost Management". Cash used for
operations during fiscal 2004 was lower than the comparable period in 2003
primarily from cash collected from deferred revenue shipments and other lower
net working capital requirements.
Purchases of property, plant and equipment in our joint venture were offset
by our sale of the Henderson, Nevada facility. During fiscal 2004 and fiscal
2003, $706,000 and $8.793 million were invested in property, plant and equipment
in our Northern Ireland facility, our Austin, Texas, and Henderson, Nevada
facilities.
The 2004 financing included $13 million from our Berg & Berg equity line,
$9.4 million from the issuance of Series C Stock, a note payable by our joint
venture for its land purchase, and a cash investment by Fengfan in our joint
venture of $4.5 million. The cash invested in our joint venture will be used
exclusively for its purposes.
As a result of the above, we had a net decrease in cash and cash
equivalents of $3.924 million during fiscal 2004, a net increase of $5.993
during fiscal 2003, and a net decrease of $3.132 million during fiscal 2002.
RELATED PARTY TRANSACTIONS
On June 10, 2003, Berg & Berg, an affiliate of Carl Berg, a director and
principal shareholder of ours, committed to provide us $10 million in fiscal
2004, increasing its total available remaining financing commitments to $14
million ($10 million under this new financing commitment and $4 million under a
then-existing commitment). Berg & Berg agreed to fund the $14 million
commitments by purchasing shares of common stock from time to time as requested
by us at the then-current market price. At March 31, 2004, $11 million remained
available under this financing commitment.
In March 2002, we obtained a $30 million equity line of credit with Berg &
Berg. At December 31, 2003, the equity line was fully drawn. The financing
commitment with Berg & Berg enabled us to access up to $5 million per quarter
(but no more than $30 million in the aggregate) in equity capital over the two
years following the date of the commitment. This commitment was approved by
stockholders at our 2002 annual meeting held on August 27, 2002. In exchange for
the amounts funded pursuant to this agreement, we have issued to Berg & Berg
restricted common stock at 85% of the average closing price of the Company's
common stock over the five trading days prior to the purchase date. We agreed to
register any shares we issued to Berg & Berg under this commitment.
22
On January 1, 1998, we granted options to Mr. Dawson, the Company's then
Chairman of the Board, Chief Executive Officer and President, an incentive stock
option to purchase 39,506 shares, which was granted pursuant to our 1990 Plan
(the "1990 Plan"). Also, an option to purchase 660,494 shares was granted
pursuant to our 1990 Plan and an option to purchase 300,000 shares was granted
outside of any of our equity plans, neither of which were incentive stock
options (the "Nonstatutory Options"). The exercise price of all three options is
$5.0625 per share, the fair market value on the date of the grant. Our
Compensation Committee approved the early exercise of the Nonstatutory Options
on March 5, 1998. The options permitted exercise by cash, shares, full recourse
notes or non-recourse notes secured by independent collateral. The Nonstatutory
Options were exercised on March 5, 1998 with non-recourse promissory notes in
the amounts of $3,343,750 ("Dawson Note One") and $1,518,750 ("Dawson Note Two")
(collectively, the "Dawson Notes") secured by the shares acquired upon exercise
plus 842,650 shares previously held by Mr. Dawson. As of March 31, 2004, amounts
of $3,548,487 and $1,612,683 were outstanding under Dawson Note One and Dawson
Note Two, respectively, and under each of the Dawson Notes, interest from the
Issuance Date accrues on unpaid principal at the rate of 5.69% per annum, or at
the maximum rate permissible by law, whichever is less.
In accordance with the Dawson Notes, interest is payable annually in
arrears. On June 10, 2004, we received an interest payment of approximately
$301,000, which paid interest up to March 4, 2004.
CAPITAL COMMITMENTS AND DEBT
At March 31, 2004, we had commitments for capital expenditures for the next
12 months of approximately $100,000 relating to the implementation of our
enterprise software system. We may require additional capital expenditures in
order to meet greater demand levels for our products than are currently
anticipated and/or to support our transition of operations to China.
Our cash obligations for short-term and long-term debt, net of unaccreted
discount consisted of:
(Dollars in thousands) March 31, 2004
-----------------
Note payable by joint venture for land $ 2,068
Mortgages on Northern Ireland facility, short-term 967
Mortgages on Northern Ireland facility, long-term 5,458
1998 long-term debt to Berg & Berg 14,950
2001 long-term debt to Berg & Berg 20,000
Interest on long-term debt 9,720
-----------------
Total long-term debt $ 53,163
=================
Repayment obligations of short-term and long-term debt principal are:
2005 2006 2007 2008 THEREAFTER TOTAL
---------- ---------- ---------- ---------- ---------- ----------
(dollars in thousands)
Principal repayment 3,035 35,977 1,081 1,145 2,205 43,443
If not converted to common stock prior to maturity, the redemption
obligation for the remaining Series C Preferred Stock is $8.6 million on
December 2, 2004.
The future sale of our facility in Northern Ireland will eliminate debt of
approximately $6.5 million. If cash flow from operations is not adequate to meet
debt obligations, additional debt or equity financing will be required. There
can be no assurance that we could obtain the additional financing.
23
INFLATION
Historically, our operations have not been materially affected by
inflation. However, our operations may be affected by inflation in the future.
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2003, SFAS No. 149 ("SFAS 149"), "Amendments of Statement 133 on
Derivative Instruments and Hedging Activities", was issued, which amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under FASB
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities". We adopted SFAS 149 in its second quarter of fiscal year 2004. The
adoption did not have a significant impact on our financial statements.
In May 2003, SFAS No. 150 ("SFAS 150"), "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity", was issued,
which establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. We
adopted SFAS 150 in its first quarter of fiscal year 2004. The adoption of SFAS
150 required our proposed contract settlement with Invest Northern Ireland,
which is payable in shares of our restricted common stock, to be recorded as a
liability.
In December 2003, the FASB issued FASB Interpretation No. 46R ("FIN 46R"),
a revision to FIN 46. FIN 46R clarifies some of the provisions of FIN 46 and
exempts certain entities from its requirements. Entities that have adopted FIN
46 prior to this effective date can continue to apply the provisions of FIN 46
until the effective date of FIN 46R, which is our first quarter of fiscal 2005.
We adopted FIN 46 at the beginning of the second quarter of fiscal 2004 and it
did not have a material impact on our financial statements. FIN 46R is not
expected to have a material impact on our financial statements.
TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS
The following table sets forth, as of March 31, 2004, our scheduled principal,
interest and other contractual annual cash obligations due for each of the
periods indicated below (in thousands):
PAYMENT DUE BY PERIOD
--------------------------------------------------------------
Less than More than
Contractual Obligations Total One Year 1 - 3 Years 3 - 5 Years 5 Years
- -------------------------- ---------- ---------- ---------- ---------- ----------
Note payable $ 2,068 $ 2,068 $ - $ - $ -
Long-term debt obligations 51,095 967 47,923 1,799 406
Operating lease obligations 1,419 535 764 120 -
Purchase obligations 4,136 4,136 - - -
Other long-term liabilities 4,789 1,753 3,036 - -
---------- ---------- ---------- ---------- ----------
Total $ 63,507 $ 9,459 $ 51,723 $ 1,919 $ 406
========== ========== ========== ========== ==========
RISK FACTORS
Cautionary Statements and Risk Factors
SEVERAL OF THE MATTERS DISCUSSED IN THIS REPORT CONTAIN FORWARD-LOOKING
STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. FACTORS ASSOCIATED WITH THE
FORWARD-LOOKING STATEMENTS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER FROM THOSE
PROJECTED OR FORECASTED IN THIS REPORT ARE INCLUDED IN THE STATEMENTS BELOW. IN
ADDITION TO OTHER INFORMATION CONTAINED IN THIS REPORT, YOU SHOULD CAREFULLY
CONSIDER THE FOLLOWING CAUTIONARY STATEMENTS AND RISK FACTORS. THE RISKS AND
UNCERTAINTIES DESCRIBED BELOW ARE NOT THE ONLY RISKS AND UNCERTAINTIES WE FACE.
ADDITIONAL RISKS AND UNCERTAINTIES
24
NOT PRESENTLY KNOWN TO US OR THAT WE CURRENTLY DEEM IMMATERIAL ALSO MAY IMPAIR
OUR BUSINESS OPERATIONS. IF ANY OF THE FOLLOWING RISKS ACTUALLY OCCUR, OUR
BUSINESS, FINANCIAL CONDITION, AND RESULTS OF OPERATIONS COULD SUFFER. IN THAT
EVENT, THE TRADING PRICE OF OUR COMMON STOCK COULD DECLINE, AND YOU MAY LOSE ALL
OR PART OF YOUR INVESTMENT IN OUR COMMON STOCK. THE RISKS DISCUSSED BELOW ALSO
INCLUDE FORWARD-LOOKING STATEMENTS AND OUR ACTUAL RESULTS MAY DIFFER
SUBSTANTIALLY FROM THOSE DISCUSSED IN THESE FORWARD-LOOKING STATEMENTS
RISKS RELATED TO OUR BUSINESS
WE MAY BE REQUIRED TO RAISE ADDITIONAL DEBT OR EQUITY FINANCING TO EXECUTE OUR
BUSINESS PLAN.
At March 31, 2004, our principal sources of liquidity were cash and cash
equivalents of $2.7 million and $11 million available under financing
commitments with Berg & Berg Enterprises, LLC. The $11 million financing
commitment is in the form of an equity line of credit that allows the Company to
request Mr. Berg to purchase shares of common stock from time to time at the
then-current market value.
During the first quarter of fiscal 2005, we determined that in order to
reach our long-term objectives and minimize our fixed operating costs, we
require the transition of more of our operations to lower cost regions. In order
to achieve this plan, Mr. Berg has agreed to provide an additional $20 million
backup equity funding commitment. This commitment can be reduced by the amount
of net proceeds received from the sale of building or equipment from our
Mallusk, Northern Ireland facility or the amount of net proceeds in a debt or
equity transaction, and may be increased if necessary under certain
circumstances. This additional funding commitment will come in the form of an
equity line of credit and allow us to request Mr. Berg to purchase shares of
common stock from time to time at the then-current market value.
On June 2, 2003 we raised net proceeds of approximately $9.4 million
through the sale of 1,000 shares of newly issued Series C Redeemable Convertible
Preferred Stock to an unaffiliated investor. The Series C stock matures December
2, 2004 and carries a 2% annual dividend, paid quarterly in cash or shares of
common stock. On January 22, 2004, the holder of the Series C Stock converted
139 of its 1,000 shares with principal amount of $1.39 million including accrued
and unpaid dividends into 327,453 shares of common stock at the conversion price
of $4.25 per share. Our business plan contemplates conversion of all remaining
shares of Series C Stock prior to their maturity date. On the maturity date, we
are required to redeem for cash any unconverted shares of the Series C Stock at
their stated value plus any accrued and unpaid dividends. If the remaining
Series C Stock shares have not been converted by the maturity date, we may need
to raise additional debt or equity financing to facilitate any required
redemption. There can be no assurance that we could obtain the additional
financing.
Our current forecast projects that these sources of liquidity will be
sufficient for at least the twelve months following March 31, 2004. This
forecast assumes product sales during fiscal 2005 from our N-Charge(TM) Power
System, which are subject to seasonal fluctuations, of between $2.0 - $3.5
million per quarter, and additional revenues from volume shipments of our
large-format applications commencing in the fourth quarter of fiscal 2005. We
also anticipate further cash benefits from continued reductions in our operating
expenses and manufacturing costs, offset by small increases to capital
expenditures associated with our expected establishment of a presence in China.
Our cash requirements may vary materially from those now planned because of
changes in our operations, including the failure to achieve expected revenues,
greater than expected expenses, changes in OEM relationships, market conditions,
the failure to timely realize our product development goals and other adverse
developments. In addition, we are subject to contingent obligations, including
the possible redemption of our outstanding Series C Preferred Stock and demand
for repayment of a portion or all of our existing grants.
Currently, we do not have sufficient sales and gross profit to generate the
cash flows required to meet our operating and capital needs. If during the next
twelve months our cash requirements increase, or our cash sources decline, we
would require additional debt or equity financing. In addition, unless we are
able to achieve substantially greater product sales or reduced expense over this
period, we will require additional debt or equity financing in fiscal 2006.
Currently we depend on Carl Berg's continued willingness to fund our operations.
Mr. Berg has made no commitments to provide any additional equity or debt
financing above his current contractual commitments, and there can be no
assurance that he or any of his affiliates will do so in the future.
Consequently, if we need additional debt or equity financing, we assume that we
will need to obtain such financing from parties other than Mr. Berg and his
affiliates. We
25
are not currently aware of any available source for such debt or equity
financing and may not be able to arrange for such financing on favorable terms
or at all.
OUR LIMITED FINANCIAL RESOURCES COULD MATERIALLY AFFECT OUR BUSINESS AND OUR
ABILITY TO COMMERCIALLY EXPLOIT OUR TECHNOLOGY. LIMITED FINANCIAL RESOURCES CAN
ADVERSELY AFFECT OUR ABILITY TO RESPOND TO UNANTICIPATED DEVELOPMENTS AND PLACE
US AT A COMPETITIVE DISADVANTAGE TO OUR COMPETITORS.
Currently, we do not have sufficient sales and gross profit to generate the cash
flows required to meet our operating and capital needs. Nor do we have committed
financing to provide for our operations for more than the next twelve months. As
a consequence, one of our primary objectives has been to reduce expenses and
overhead and thus limiting the resources available to the development and
commercialization of our technology. Our limited financial resources could
materially affect our ability, and the pace at which, we are able to
commercially exploit our Saphion technology. For example, it could:
o limit the research and development resources we are able to commit to
the further development of our technology and the development of
products that can be commercially exploited in our marketplace;
o limit the sales and marketing resources that we are able to commit to
the marketing of our technology;
o have an adverse impact on our ability to attract top-tier companies as
our technology and marketing partners;
o have an adverse impact on our ability to employ and retain qualified
employees with the skills and expertise necessary to implement our
business plan;
o make us more vulnerable to failure to achieve our forecasted results,
economic downturns, adverse industry conditions or catastrophic
external events;
o limit our ability to withstand competitive pressures and reduce our
flexibility in planning for, or responding to, changing business and
economic conditions; and
o place us at a competitive disadvantage to our competitors that have
greater financial resources than we have.
WE HAVE A HISTORY OF LOSSES, HAVE AN ACCUMULATED DEFICIT AND MAY NEVER ACHIEVE
OR SUSTAIN SIGNIFICANT REVENUES OR PROFITABILITY.
We have incurred operating losses each year since our inception in 1989 and had
an accumulated deficit of $429.7 million as of March 31, 2004. We had negative
working capital of $4.8 million as of March 31, 2004, and have sustained
recurring losses related primarily to the research and development and marketing
of our products combined with the lack of sufficient sales to provide for these
needs. We may continue to incur operating losses and negative cash flows during
fiscal 2005. We may never achieve or sustain sufficient revenues or
profitability in the future.
IF WE CONTINUE TO EXPERIENCE SIGNIFICANT LOSSES WE MAY BE UNABLE TO MAINTAIN
SUFFICIENT LIQUIDITY TO PROVIDE FOR OUR OPERATING NEEDS.
We reported a net loss of $55.0 million for the fiscal year ended March 31, 2004
and a net loss of $37.9 million for the fiscal year ended March 31, 2003. If we
cannot achieve a competitive cost structure, achieve profitability and access
the capital markets on acceptable terms, we will be unable to fund our
obligations and sustain our operations.
OUR WORKING CAPITAL REQUIREMENTS MAY INCREASE BEYOND THOSE CURRENTLY
ANTICIPATED.
We have planned for an increase in sales and, if we experience sales in excess
of our plan, our working capital needs and capital expenditures would likely
increase from that currently anticipated. Our ability to meet this additional
customer demand would depend on our ability to arrange for additional equity or
debt financing since it is likely that cash flow from sales will lag behind
these increased working capital requirements.
OUR INDEBTEDNESS AND OTHER OBLIGATIONS ARE SUBSTANTIAL AND COULD MATERIALLY
AFFECT OUR BUSINESS AND OUR ABILITY TO INCUR ADDITIONAL DEBT TO FUND FUTURE
NEEDS.
26
We have now and will continue to have a significant amount of indebtedness and
other obligations. As of March 31, 2004, we had approximately $53 million of
total consolidated indebtedness. Our substantial indebtedness and other
obligations could negatively impact our operations in the future. For example,
it could:
o limit our ability to obtain additional financing for working capital,
capital expenditures, acquisitions and general corporate purposes;
o require us to dedicate a substantial portion of our cash flow from
operations to the payment of principal of, and interest on, our
indebtedness, thereby reducing the funds available to us for other
purposes;
o make us more vulnerable to failure to achieve our forecasted results,
economic downturns, adverse industry conditions or catastrophic
external events, limit our ability to withstand competitive pressures
and reduce our flexibility in planning for, or responding to, changing
business and economic conditions; and
o place us at a competitive disadvantage to our competitors that have
relatively less debt than we have.
ALL OF OUR ASSETS ARE PLEDGED AS COLLATERAL UNDER OUR LOAN AGREEMENTS. OUR
FAILURE TO MEET THE OBLIGATIONS UNDER OUR LOAN AGREEMENTS COULD RESULT IN
FORECLOSURE OF OUR ASSETS.
All of our assets are pledged as collateral under various loan agreements. If we
fail to meet our obligations pursuant to these loan agreements, our lenders may
declare all amounts borrowed from them to be due and payable together with
accrued and unpaid interest. If this were to occur, we would not have the
financial resources to repay our debt and these lenders could proceed against
our assets.
OUR BUSINESS WILL BE ADVERSELY AFFECTED IF OUR SAPHION(R) TECHNOLOGY BATTERIES
ARE NOT COMMERCIALLY ACCEPTED.
We are researching and developing batteries based upon phosphate chemistry. Our
batteries are designed and manufactured as components for other companies and
end-user customers. Our success depends on the acceptance of our batteries and
the products using our batteries in their markets. We may have technical issues
that arise that may affect the acceptance of our products by our customers.
Market acceptance may also depend on a variety of other factors, including
educating the target market regarding the benefits of our products. Market
acceptance and market share are also affected by the timing of market
introduction of competitive products. If our customers or we are unable to gain
any significant market acceptance for Saphion(R) technology based batteries, our
business will be adversely affected. It is too early to determine if Saphion(R)
technology based batteries will achieve significant market acceptance.
IF WE ARE UNABLE TO DEVELOP, MANUFACTURE AND MARKET PRODUCTS THAT GAIN WIDE
CUSTOMER ACCEPTANCE, OUR BUSINESS WILL BE ADVERSELY AFFECTED.
The process of developing our products is complex and uncertain, and failure to
anticipate customers' changing needs and to develop products that receive
widespread customer acceptance could significantly harm our results of
operations. We must make long-term investments and commit significant resources
before knowing whether our predictions will eventually result in products that
the market will accept. After a product is developed, we must be able to
manufacture sufficient volumes quickly and at low costs. To accomplish this, we
must accurately forecast volumes, mix of products and configurations that meet
customer requirements, and we may not succeed.
IF OUR PRODUCTS FAIL TO PERFORM AS EXPECTED, WE COULD LOSE EXISTING AND FUTURE
BUSINESS, AND OUR ABILITY TO DEVELOP, MARKET AND SELL OUR BATTERIES COULD BE
HARMED.
If our products when introduced do not perform as expected, our reputation could
be severely damaged, and we could lose existing or potential future business.
This performance failure may have the long-term effect of harming our ability to
develop, market and sell our products.
IN ADDITION TO BEING USED IN OUR OWN PRODUCT LINES, OUR CELLS ARE INTENDED TO BE
INCORPORATED INTO OTHER PRODUCTS. IF WE DO NOT FORM EFFECTIVE ARRANGEMENTS WITH
OEMS TO COMMERCIALIZE THESE PRODUCTS, OUR PROFITABILITY COULD BE IMPAIRED.
Our business strategy contemplates that we will be required to rely on
assistance from OEMs to gain market acceptance for our products. We therefore
will need to identify acceptable OEMs and enter into agreements with them. Once
we
27
identify acceptable OEMs and enter into agreements with them, we will need to
meet these companies' requirements by developing and introducing new products
and enhanced or modified versions of our existing products on a timely basis.
OEMs often require unique configurations or custom designs for batteries, which
must be developed and integrated into their product well before the product is
launched. This development process not only requires substantial lead-time
between the commencement of design efforts for a customized power system and the
commencement of volume shipments of the power system to the customer, but also
requires the cooperation and assistance of the OEMs for purposes of determining
the requirements for each specific application. We may have technical issues
that arise that may affect the acceptance of our products by OEMs. If we are
unable to design, develop, and introduce products that meet OEMs' requirements,
we may lose opportunities to enter into additional purchase orders and our
reputation may be damaged. As a result, we may not receive adequate assistance
from OEMs or pack assemblers to successfully commercialize our products, which
could impair our profitability.
FAILURE TO IMPLEMENT AN EFFECTIVE LICENSING BUSINESS STRATEGY WILL ADVERSELY
AFFECT OUR REVENUE, CASH FLOW, AND PROFITABILITY.
Our long-term business strategy anticipates achieving significant revenue from
the licensing of our intellectual property assets, such as our Saphion(R)
technology. We have not entered into any licensing agreements for our Saphion(R)
technology. Our future operating results could be adversely affected by a
variety of factors including:
o our ability to secure and maintain significant licensees of our
proprietary technology;
o the extent to which our future licensees successfully incorporate our
technology into their products;
o the acceptance of new or enhanced versions of our technology;
o the rate at which our licensees manufacture and distribute their
products to OEMs; and
o our ability to secure one-time license fees and ongoing royalties for
our technology from licensees.
Our future success will also depend on our ability to execute our licensing
operations simultaneously with our other business activities. If we fail to
substantially expand our licensing activities while maintaining our other
business activities, our results of operations and financial condition will be
adversely affected.
WE DEPEND ON A SMALL NUMBER OF CUSTOMERS FOR OUR REVENUES, AND OUR RESULTS OF
OPERATIONS AND FINANCIAL CONDITION COULD BE HARMED IF WE WERE TO LOSE THE
BUSINESS OF ANY ONE OF THEM.
To date, our existing purchase orders in commercial quantities are from a
limited number of customers. During fiscal 2004, one customer, Best Buy
contributed 30% of revenue. During fiscal 2003, two customers, Alliant
Techsystems Inc. and Pabion Corporation, Ltd., each contributed more than 10% of
total revenues. During fiscal 2002, four customers, Hanil Joint Venture, Amperex
Technology Limited, Alliant Techsystems Inc., and Samsung Corporation, each
contributed more than 10% of total revenues. For fiscal 2001, four customers,
Alliant Techsystems Inc., MicroEnergy Technologies Inc., Moltech Corporation,
and Qualcomm, each contributed more than 10% of total revenues. We anticipate
that sales of our products to a limited number of key customers will continue to
account for a significant portion of our total revenues. We do not have
long-term agreements with any of our customers and do not expect to enter into
any long-term agreements in the near future. As a result, we face the
substantial risk that one or more of the following events could occur:
o reduction, delay or cancellation of orders from a customer;
o development by a customer of other sources of supply;
o selection by a customer of devices manufactured by one of our
competitors for inclusion in future product generations;
o loss of a customer or a disruption in our sales and distribution
channels; or
o failure of a customer to make timely payment of our invoices.
28
If we were to lose one or more customers, or if we were to lose revenues due to
a customer's inability or refusal to continue to purchase our batteries, our
business, results of operations and financial condition could be harmed.
THE FACT THAT WE DEPEND ON A SOLE SOURCE SUPPLIER OR A LIMITED NUMBER OF
SUPPLIERS FOR KEY RAW MATERIALS MAY DELAY OUR PRODUCTION OF BATTERIES.
We depend on a sole source supplier or a limited number of suppliers for certain
key raw materials used in manufacturing and developing our power systems. We
generally purchase raw materials pursuant to purchase orders placed from time to
time and have no long-term contracts or other guaranteed supply arrangements
with our sole or limited source suppliers. As a result, our suppliers may not be
able to meet our requirements relative to specifications and volumes for key raw
materials, and we may not be able to locate alternative sources of supply at an
acceptable cost. In the past, we have experienced delays in product development
due to the delivery of nonconforming raw materials from our suppliers. If in the
future we are unable to obtain high quality raw materials in sufficient
quantities on competitive pricing terms and on a timely basis, it may delay
battery production, impede our ability to fulfill existing or future purchase
orders and harm our reputation and profitability.
WE HAVE FOUR KEY EXECUTIVES, THE LOSS OF ANY OF WHICH COULD HARM OUR BUSINESS.
Without qualified executives, we face the risk that we will not be able to
effectively run our business on a day-to-day basis or execute our long-term
business plan. We do not have key man life insurance policies with respect to
any of our key members of management.
OUR PLANNED RELOCATION OF CORE OPERATIONS TO CHINA IS A COMPLEX PROCESS THAT MAY
DIVERT MANAGEMENT ATTENTION, LEAD TO DISRUPTIONS IN OPERATIONS AND DELAY
IMPLEMENTATION OF OUR BUSINESS STRATEGY.
We are planning to relocate our core operations to China, which is a
time-consuming and complicated process. The relocation will require physically
moving and setting up operations as well as ensuring that we have adequate
staffing, including administrative and executive personnel. Some of our
employees may not wish to relocate and we will have to find suitable employees
in China. If the labor pool does not have adequate resources, we may have to
train personnel to perform necessary functions for our core operations. While we
intend to implement a plan to relocate our core operations that will minimize
disruption to our operations, if we are unable to do so, it could result in
service disruptions that would negatively affect our business and could reduce
our revenue and result in customer dissatisfaction. Furthermore, planning for
the relocation is also expected to divert the attention of our key management
personnel. We can provide no assurances that key management will not be
distracted by planning for our relocation. We can also provide no assurances
that we will be able to complete the relocation efficiently or effectively, or
that we will not experience service disruptions, loss in customers, or decreased
revenue as a result of the relocation. Additionally, some of our key employees,
including executives, may choose not to remain employed with us after the
relocation. The occurrence of any of the foregoing events affecting or resulting
from our move could harm our business.
OUR OXIDE-BASED BATTERIES, WHICH NOW COMPRISE A SMALL PORTION OF OUR AVAILABLE
PRODUCTS, CONTAIN POTENTIALLY DANGEROUS MATERIALS, WHICH COULD EXPOSE US TO
PRODUCT LIABILITY CLAIMS.
In the event of a short circuit or other physical damage to an oxide-based
battery, a reaction may result with excess heat or a gas being generated and
released. If the heat or gas is not properly released, the battery may be
flammable or potentially explosive. We could, therefore, be exposed to possible
product liability litigation. In addition, our batteries incorporate potentially
dangerous materials, including lithium. It is possible that these materials may
require special handling or those safety problems may develop in the future. If
the amounts of active materials in our batteries are not properly balanced and
if the charge/discharge system is not properly managed, a dangerous situation
may result. Battery pack assemblers using batteries incorporating technology
similar to ours include special safety circuitry within the battery to prevent
such a dangerous condition. We expect that our customers will have to use a
similar type of circuitry in connection with their use of our oxide-based
products.
WE EXPECT TO SELL A SIGNIFICANT PORTION OF OUR PRODUCTS TO AND DERIVE A
SIGNIFICANT PORTION OF OUR LICENSING REVENUES FROM CUSTOMERS LOCATED OUTSIDE THE
UNITED STATES. FOREIGN GOVERNMENT REGULATIONS, CURRENCY FLUCTUATIONS AND
INCREASED COSTS ASSOCIATED WITH INTERNATIONAL SALES COULD MAKE OUR PRODUCTS AND
LICENSES UNAFFORDABLE IN FOREIGN MARKETS, WHICH WOULD REDUCE OUR FUTURE
PROFITABILITY.
29
We expect that international sales of our products and licenses, as well as
licensing royalties, represent a significant portion of our sales potential.
International business can be subject to many inherent risks that are difficult
or impossible for us to predict or control, including:
o changes in foreign government regulations and technical standards,
including additional regulation of rechargeable batteries, technology, or
the transport of lithium and phosphate, which may reduce or eliminate our
ability to sell or license in certain markets;
o foreign governments may impose tariffs, quotas, and taxes on our batteries
or our import of technology into their countries;
o requirements or preferences of foreign nations for domestic products could
reduce demand for our batteries and our technology;
o fluctuations in currency exchange rates relative to the U.S. dollar could
make our batteries and our technology unaffordable to foreign purchasers
and licensees or more expensive compared to those of foreign manufacturers
and licensors;
o longer payment cycles typically associated with international sales and
potential difficulties in collecting accounts receivable may reduce the
future profitability of foreign sales and royalties;
o import and export licensing requirements in Northern Ireland or other
countries including China where we intend to conduct business may reduce or
eliminate our ability to sell or license in certain markets; and
o political and economic instability in Northern Ireland or other countries
including China where we intend to conduct business may reduce the demand
for our batteries and our technology or our ability to market our batteries
and our technology in those countries.
These risks may increase our costs of doing business internationally and reduce
our sales and royalties or future profitability.
WE MAY NEED TO EXPAND OUR EMPLOYEE BASE AND OPERATIONS IN ORDER TO EFFECTIVELY
DISTRIBUTE OUR PRODUCTS COMMERCIALLY, WHICH MAY STRAIN OUR MANAGEMENT AND
RESOURCES AND COULD HARM OUR BUSINESS.
To implement our growth strategy successfully, we will have to increase our
staff, primarily with personnel in sales, marketing, and product support
capabilities, as well as third party and direct distribution channels. However,
we face the risk that we may not be able to attract new employees to
sufficiently increase our staff or product support capabilities, or that we will
not be successful in our sales and marketing efforts. Failure in any of these
areas could impair our ability to execute our plans for growth and adversely
affect our future profitability.
COMPETITION FOR PERSONNEL, IN PARTICULAR FOR PRODUCT DEVELOPMENT AND PRODUCT
IMPLEMENTATION PERSONNEL, IS INTENSE, AND WE MAY HAVE DIFFICULTY ATTRACTING THE
PERSONNEL NECESSARY TO EFFECTIVELY OPERATE OUR BUSINESS.
We believe that our future success will depend in large part on our ability to
attract and retain highly skilled technical, managerial, and marketing personnel
who are familiar with and experienced in the battery industry. If we cannot
attract and retain experienced sales and marketing executives, we may not
achieve the visibility in the marketplace that we need to obtain purchase
orders, which would have the result of lowering our sales and earnings. We
compete in the market for personnel against numerous companies, including
larger, more established competitors who have significantly greater financial
resources than we do. We cannot be certain that we will be successful in
attracting and retaining the skilled personnel necessary to operate our business
effectively in the future.
INTERNATIONAL POLITICAL EVENTS AND THE THREAT OF ONGOING TERRORIST ACTIVITIES
COULD INTERRUPT MANUFACTURING OF OUR BATTERIES AND END USER PRODUCTS AT OUR OEMS
AND JOINT VENTURE, AND CAUSE US TO LOSE SALES AND MARKETING OPPORTUNITIES.
The terrorist attacks that took place in the United States on September 11,
2001, along with the U.S. military campaigns against terrorism in Iraq,
Afghanistan, and elsewhere, and continued violence in the Middle East have
created many economic and political uncertainties, some of which may materially
harm our business and revenues. International political instability resulting
from these events could temporarily or permanently disrupt our manufacturing of
batteries
30
and end-user products at our OEM facilities in Asia and elsewhere, and have an
immediate adverse impact on our business. Since September 11, 2001, some
economic commentators have indicated that spending on capital equipment of the
type that use our batteries has been weaker than spending in the economy as a
whole, and many of our customers are in industries that also are viewed as
under-performing the overall economy, such as the telecommunications,
industrial, and utility industries. The long-term effects of these events on our
customers, the market for our common stock, the markets for our products, and
the U.S. economy as a whole are uncertain. Terrorist activities could
temporarily or permanently interrupt our manufacturing, development, sales, and
marketing activities anywhere in the world. Any delays also could cause us to
lose sales and marketing opportunities, as potential customers would find other
vendors to meet their needs. The consequences of any additional terrorist
attacks, or any expanded armed conflicts are unpredictable, and we may not be
able to foresee events that could have an adverse effect on our markets or our
business.
IF WE ARE SUED ON A PRODUCT LIABILITY CLAIM, OUR INSURANCE POLICIES MAY NOT BE
SUFFICIENT.
Although we maintain general liability insurance and product liability
insurance, our insurance may not cover all potential types of product liability
claims to which manufacturers are exposed or may not be adequate to indemnify us
for all liability that may be imposed. Any imposition of liability that is not
covered by insurance or is in excess of our insurance coverage could harm our
business.
OUR FAILURE TO COST-EFFECTIVELY MANUFACTURE BATTERIES IN COMMERCIAL QUANTITIES,
WHICH SATISFY OUR CUSTOMERS' PRODUCT SPECIFICATIONS, COULD DAMAGE OUR CUSTOMER
RELATIONSHIPS AND RESULT IN SIGNIFICANT LOST BUSINESS OPPORTUNITIES FOR US.
To be successful, we must cost-effectively manufacture commercial quantities of
our batteries that meet customer specifications. To facilitate commercialization
of our products, we will need to further reduce our manufacturing costs, which
we intend to do through the effective utilization of manufacturing partners. We
currently manufacture our batteries and assemble our products in China and
Taiwan. We intend to transition additional operations to Asia over the course of
fiscal 2005. We have ceased production in our Northern Ireland manufacturing
facility and are attempting to sell the facility. As a consequence, we are
dependent on the performance of our manufacturing partners to manufacture and
deliver our products to our customers. If any of our manufacturing partners is
unable to continue to manufacture product in commercial quantities on a timely
and efficient basis, we could lose customers and adversely impact our ability to
attract future customers.
OUR PATENT APPLICATIONS MAY NOT RESULT IN ISSUED PATENTS, WHICH WOULD HAVE A
MATERIAL ADVERSE EFFECT ON OUR ABILITY TO COMMERCIALLY EXPLOIT OUR PRODUCTS.
Patent applications in the United States are maintained in secrecy until the
patents issue or are published. Since publication of discoveries in the
scientific or patent literature tends to lag behind actual discoveries by
several months, we cannot be certain that we were the first creator of
inventions covered by pending patent applications or the first to file patent
applications on these inventions. We also cannot be certain that our pending
patent applications will result in issued patents or that any of our issued
patents will afford protection against a competitor. In addition, patent
applications filed in foreign countries are subject to laws, rules and
procedures that differ from those of the United States, and thus we cannot be
certain that foreign patent applications related to issued U.S. patents will
issue. Furthermore, if these patent applications issue, some foreign countries
provide significantly less effective patent enforcement than in the United
States.
The status of patents involves complex legal and factual questions and the
breadth of claims allowed is uncertain. Accordingly, we cannot be certain that
the patent applications that we file will result in patents being issued, or
that our patents and any patents that may be issued to us in the future will
afford protection against competitors with similar technology. In addition,
patents issued to us may be infringed upon or designed around by others and
others may obtain patents that we need to license or design around, either of
which would increase costs and may adversely affect our operations.
IF WE CANNOT PROTECT OR ENFORCE OUR EXISTING INTELLECTUAL PROPERTY RIGHTS OR IF
OUR PENDING PATENT APPLICATIONS DO NOT RESULT IN ISSUED PATENTS, WE MAY LOSE THE
ADVANTAGES OF OUR RESEARCH AND MANUFACTURING SYSTEMS.
Our ability to compete successfully will depend on whether we can protect our
existing proprietary technology and manufacturing processes. We rely on a
combination of patent and trade secret protection, non-disclosure agreements and
cross-licensing agreements. These measures may not be adequate to safeguard the
proprietary technology underlying our batteries. Employees, consultants, and
others who participate in the development of our products may breach their
non-disclosure agreements with us, and
31
we may not have adequate remedies in the event of their breaches. In addition,
our competitors may be able to develop products that are equal or superior to
our products without infringing on any of our intellectual property rights. We
currently manufacture and export some of our products from China. The legal
regime protecting intellectual property rights in China is weak. Because the
Chinese legal system in general, and the intellectual property regime in
particular, are relatively weak, it is often difficult to enforce intellectual
property rights in China. In addition, there are other countries where effective
copyright, trademark and trade secret protection may be unavailable or limited.
Accordingly, we may not be able to effectively protect our intellectual property
rights outside of the United States.
We have established a program for intellectual property documentation and
protection in order to safeguard our technology base. We intend to vigorously
pursue enforcement and defense of our patents and our other proprietary rights.
We could incur significant expenses in preserving our proprietary rights, and
these costs could harm our financial condition. We also are attempting to expand
our intellectual property rights through our applications for new patents. We
cannot be certain that our pending patent applications will result in issued
patents or that our issued patents will afford us protection against a
competitor. Our inability to protect our existing proprietary technologies or to
develop new proprietary technologies may substantially impair our financial
condition and results of operations.
INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS BROUGHT AGAINST US COULD BE
TIME-CONSUMING AND EXPENSIVE TO DEFEND, AND IF ANY OF OUR PRODUCTS OR PROCESSES
IS FOUND TO BE INFRINGING, WE MAY NOT BE ABLE TO PROCURE LICENSES TO USE PATENTS
NECESSARY TO OUR BUSINESS AT REASONABLE TERMS, IF AT ALL.
In recent years, there has been significant litigation in the United States
involving patents and other intellectual property rights. While we currently are
not engaged in any intellectual property litigation or proceedings, we may
become involved in these proceedings in the future. In the future we may be
subject to claims or inquiries regarding our alleged unauthorized use of a third
party's intellectual property. An adverse outcome in litigation could force us
to do one or more of the following:
o stop selling, incorporating, or using our products that use the challenged
intellectual property;
o pay significant damages to third parties;
o obtain from the owners of the infringed intellectual property right a
license to sell or use the relevant technology, which license may not be
available on reasonable terms, or at all; or
o redesign those products or manufacturing processes that use the infringed
technology, which may not be economically or technologically feasible.
Whether or not an intellectual property litigation claim is valid, the cost of
responding to it, in terms of legal fees and expenses and the diversion of
management resources, could be expensive and harm our business.
RISKS ASSOCIATED WITH DOING BUSINESS IN CHINA
SINCE OUR PRODUCTS ARE MANUFACTURED IN CHINA AND WE INTEND TO TRANSFER
ADDITIONAL OPERATIONS TO CHINA, WE FACE RISKS IF CHINA LOSES NORMAL TRADE
Relations with the United States.
We manufacture and export our products from China. Our products sold in the
United States are currently not subject to U.S. import duties. On September 19,
2000, the United States Senate voted to permanently normalize trade with China,
which provides a favorable category of United States import duties. In addition,
on December 11, 2001 China was accepted into the World Trade Organization (WTO),
a global international organization of 144 countries that regulates
international trade. As a result of opposition to certain policies of the
Chinese government and China's growing trade surpluses with the United States,
there has been, and in the future may be, opposition to the extension of Normal
Trade Relations, or NTR, status for China. The loss of NTR status for China,
changes in current tariff structures or adoption in the Unites States of other
trade policies adverse to China could have an adverse effect on our business.
32
BECAUSE THE CHINESE LEGAL SYSTEM IN GENERAL, AND THE INTELLECTUAL PROPERTY
REGIME IN PARTICULAR, ARE RELATIVELY WEAK, WE MAY NOT BE ABLE TO ENFORCE
INTELLECTUAL PROPERTY RIGHTS IN CHINA AND ELSEWHERE.
We currently manufacture and export some of our products from China. The legal
regime protecting intellectual property rights in China is weak. Because the
Chinese legal system in general, and the intellectual property regime in
particular, are relatively weak, it is often difficult to enforce intellectual
property rights in China. In addition, there are other countries where effective
copyright, trademark and trade secret protection may be unavailable or limited.
Accordingly, we may not be able to effectively protect our intellectual property
rights outside of the United States.
ENFORCING AGREEMENTS AND LAWS IN CHINA IS DIFFICULT OR MAY BE IMPOSSIBLE AS
CHINA DOES NOT HAVE A COMPREHENSIVE SYSTEM OF LAWS.
We are dependent on our agreements with our Chinese manufacturing partners. In
addition, we are currently party to a dispute with our joint venture partner in
our unsuccessful Fengfan joint venture. Enforcement of agreements may be
sporadic and implementation and interpretation of laws may be inconsistent. The
Chinese judiciary is relatively inexperienced in interpreting agreements and
enforcing the laws, leading to a higher than usual degree of uncertainty as to
the outcome of any litigation. Even where adequate law exists in China, it may
be impossible to obtain swift and equitable enforcement of such law, or to
obtain enforcement of a judgment by a court of another jurisdiction.
THE GOVERNMENT OF CHINA MAY CHANGE OR EVEN REVERSE ITS POLICIES OF PROMOTING
PRIVATE INDUSTRY AND FOREIGN INVESTMENT, IN WHICH CASE OUR ASSETS AND OPERATIONS
MAY BE AT RISK.
We currently have relationships with manufacturers in China for the
production of our products and are examining transitioning our core operations
to China. We are pursuing the transfer of additional operations to China.
China is a socialist state, which since 1949 has been, and is expected to
continue to be, controlled by the Communist Party of China. Our existing and
planned operations in China are subject to the general risks of doing business
internationally and the specific risks related to the business, economic and
political conditions in China, which include the possibility that the central
government of China will change or even reverse its policies of promoting
private industry and foreign investment in China. Many of the current reforms
which support private business in China are unprecedented or experimental. Other
political, economic and social factors, such as political changes, changes in
the rates of economic growth, unemployment or inflation, or in the disparities
of per capita wealth among citizens of China and between regions within China,
could also lead to further readjustment of the government's reform measures. It
is not possible to predict whether the Chinese government will continue to be as
supportive of private business in China, nor is it possible to predict how
future reforms will affect our business.
THE GOVERNMENT OF CHINA CONTINUES TO EXERCISE SUBSTANTIAL CONTROL OVER THE
CHINESE ECONOMY WHICH COULD HAVE A NEGATIVE IMPACT ON OUR BUSINESS.
The government of China has exercised and continues to exercise substantial
control over virtually every section of the Chinese economy through regulation
and state ownership. China's continued commitment to reform and the development
of a vital private sector in that country have, to some extent, limited the
practical effects of the control currently exercised by the government over
individual enterprises. However, the economy continues to be subject to
significant government controls, which, if directed towards our business
activities, could have a significant adverse impact on us. For example, if the
government were to limit the number of foreign personnel who could work in the
country, or were to substantially increase taxes on foreign businesses or were
to impose any number of other possible types of limitations on our operations,
the impact would be significant.
CHANGES IN CHINA'S POLITICAL AND ECONOMIC POLICIES COULD HARM OUR BUSINESS.
The economy of China has historically been a planned economy subject to
governmental plans and quotas and has, in certain aspects, been transitioning to
a more market-oriented economy. Although we believe that the economic reform and
the macroeconomic measures adopted by the Chinese government have had a positive
effect on the economic development of China, we cannot predict the future
direction of these economic reforms or the effects these measures may have on
our business, financial position or results of operations. In addition, the
Chinese economy differs from the economies of most countries belonging to the
Organization for Economic Cooperation and Development, or OECD. These
differences include:
33
o economic structure;
o level of government involvement in the economy;
o level of development
o level of capital reinvestment;
o control of foreign exchange;
o methods of allocating resources; and
o balance of payments position.
As a result of these differences, our operations, including our current
manufacturing operations in China, may not develop in the same way or at the
same rate as might be expected if the Chinese economy were similar to the OECD
member countries.
BUSINESS PRACTICES IN CHINA MAY ENTAIL GREATER RISK AND DEPENDENCE UPON THE
PERSONAL RELATIONSHIPS OF SENIOR MANAGEMENT THAN IS COMMON IN NORTH AMERICA AND
THEREFORE SOME OF OUR AGREEMENTS WITH OTHER PARTIES IN CHINA COULD BE DIFFICULT
OR IMPOSSIBLE TO ENFORCE.
The business culture of China is, in some respects, different from the business
culture in Western countries and may present some difficulty for Western
investors reviewing contractual relationships among companies in China and
evaluating the merits of an investment. Personal relationships among business
principals of companies and business entities in China are very significant in
the business culture. In some cases, because so much reliance is based upon
personal relationships, written contracts among businesses in China may be less
detailed and specific than is commonly accepted for similar written agreements
in Western countries. In some cases, material terms of an understanding are not
contained in the written agreement but exist as oral agreements only. In other
cases, the terms of transactions which may involve material amounts of money are
not documented at all. In addition, in contrast to Western business practices
where a written agreement specifically defines the terms, rights and obligations
of the parties in a legally binding and enforceable manner, the parties to a
written agreement in China may view that agreement more as a starting point for
an ongoing business relationship which will evolve and require ongoing
modification. As a result, written agreements in China may appear to the Western
reader to look more like outline agreements that precede a formal written
agreement. While these documents may appear incomplete or unenforceable to a
Western reader, the parties to the agreement in the PRC may feel that they have
a more complete understanding than is apparent to someone who is only reading
the written agreement without having attended the negotiations. As a result,
contractual arrangements in China may be more difficult to review and
understand. Also, despite legal developments in China over the past 20 years,
adequate laws, comparable with Western standards, do not exist in all areas and
it is unclear how many of our business arrangements would be interpreted or
enforced by a court in China.
IF THE RELATIONSHIP BETWEEN CHINA AND THE UNITED STATES DETERIORATES, THE
GOVERNMENT OF CHINA COULD ADVERSELY CHANGE ITS POLICIES WITH RESPECT TO U.S.
INVESTMENT IN COMPANIES IN CHINA.
Our business may be adversely affected by the diplomatic and political
relationships between the United States and China. These influences may
adversely affect our ability to operate in China. If the relationship between
the United States and China were to materially deteriorate, it could negatively
affect our ability to control our operations and relationships in China, enforce
any agreements we have with Chinese manufacturers or otherwise deal with any
assets or investments we may have in China.
OUR OPERATIONS COULD BE MATERIALLY INTERRUPTED, AND WE MAY SUFFER A LARGE AMOUNT
OF LOSS, IN THE CASE OF FIRE, CASUALTY OR THEFT AT ONE OF OUR MANUFACTURING OR
OTHER FACILITIES.
34
Our products are manufactured by Chinese manufacturers through contractual
relationships. In addition, we are pursuing a strategy of expanding our
operations in China. Firefighting and disaster relief or assistance in China is
substandard by Western standards. Consistent with common practice in China for
companies the size of us and our business partners in China, neither we nor
they, to our knowledge, maintain fire, casualty, theft insurance or business
interruption insurance. In the event of a loss of revenue or material damage to,
or loss of, the manufacturing plants where our products are currently produced,
or, in the future, where are other operations, including manufacturing, will
occur, due to fire, casualty, theft, severe weather, flood or other cause, we
would be forced to replace any assets lost in such disaster without the benefit
of insurance and our financial position could be materially compromised or we
might have to cease doing business. Also, consistent with customary business
practices among enterprises in China, we do not carry business interruption
insurance.
THE SYSTEM OF TAXATION IN CHINA IS UNCERTAIN AND SUBJECT TO UNPREDICTABLE CHANGE
THAT COULD AFFECT OUR PROFITABILITY.
Many tax rules are not published in China and those that are published can be
ambiguous and contradictory leaving a considerable amount of discretion to local
tax authorities. China currently offers tax and other preferential incentives to
encourage foreign investment. However, the country's tax regime is undergoing
review and there is no assurance that such tax and other incentives will
continue to be made available. Currently, China levies a 10% withholding tax on
profit allocations (i.e., dividends) received from Chinese-foreign joint
ventures. If we enter into a joint venture with a Chinese company as part of our
strategy to reduce costs, such a joint venture may be considered a
Chinese-foreign joint venture if the majority of its equity interests are owned
by a foreign shareholder. A temporary exemption from this withholding tax has
been granted to foreign investors. However, there is no indication when this
exemption will end.
IT IS UNCERTAIN WHETHER WE WILL BE ABLE TO RECOVER VALUE ADDED TAXES IMPOSED BY
THE CHINESE TAXING AUTHORITIES.
China's turnover tax system consists of value-added tax, consumption tax and
business tax. Export sales are exempted under VAT rules and an exporter who
incurs input VAT on purchase or manufacture of goods should be able to claim a
refund from Chinese tax authorities. However, due to a reduction in the VAT
export refund rate of some goods, exporters might bear part of the VAT they
incurred in conjunction with the exported goods. In 2003, changes to the Chinese
Value Added Tax system were announced affecting the recoverability of input VAT
beginning January 1, 2004. Our VAT expense will depend on the reaction of both
our suppliers and customers. Continued efforts by the Chinese government to
increase tax revenues could result in revisions to tax laws or their
interpretation, which could increase our VAT and various tax liabilities.
ANY RECURRENCE OF SEVERE ACUTE RESPIRATORY SYNDROME, OR SARS, OR ANOTHER
WIDESPREAD PUBLIC HEALTH PROBLEM, COULD ADVERSELY AFFECT OUR BUSINESS AND
RESULTS OF OPERATIONS.
A renewed outbreak of SARS or another widespread public health problem in China,
where we have moved our manufacturing operations and may move additional
operations, could have a negative effect on our operations. Our operations may
be impacted by a number of health-related factors, including the following:
o quarantines or closures of some of our manufacturing or other
facilities which would severely disrupt our operations; or
o the sickness or death of key officers or employees of our
manufacturing or other facilities.
Any of the foregoing events or other unforeseen consequences of public health
problems in China could adversely affect our business and results of operations.
OUR PRODUCTION AND SHIPPING CAPABILITIES COULD BE ADVERSELY AFFECTED BY ONGOING
TENSIONS BETWEEN THE CHINESE AND TAIWANESE GOVERNMENTS.
35
Key components of our products are manufactured in China and assembled in Taiwan
into end products or systems. In the event that Taiwan does not adopt a plan for
unifying with China, the Chinese government has threatened military action
against Taiwan. As of yet, Taiwan has not indicated that it intends to propose
and adopt a reunification plan. If an invasion by China were to occur, the
ability of our manufacturing and assembly partners could be adversely affected,
potentially limiting our production capabilities. An invasion could also lead to
sanctions or military action by the United States and/or European countries,
which could further adversely affect our business.
Risks Associated with Our Industry
IF COMPETING TECHNOLOGIES THAT OUTPERFORM OUR BATTERIES WERE DEVELOPED AND
SUCCESSFULLY INTRODUCED, THEN OUR PRODUCTS MIGHT NOT BE ABLE TO COMPETE
EFFECTIVELY IN OUR TARGETED MARKET SEGMENTS.
Rapid and ongoing changes in technology and product standards could quickly
render our products less competitive, or even obsolete. Other companies are
seeking to enhance traditional battery technologies, such as lead acid and
nickel cadmium or have recently introduced or are developing batteries based on
nickel metal-hydride, liquid Lithium-ion and other emerging and potential
technologies. These competitors are engaged in significant development work on
these various battery systems, and we believe that much of this effort is
focused on achieving higher energy densities for low power applications such as
portable electronics. One or more new, higher energy rechargeable battery
technologies could be introduced which could be directly competitive with, or
superior to, our technology. The capabilities of many of these competing
technologies have improved over the past several years. Competing technologies
that outperform our batteries could be developed and successfully introduced,
and as a result, there is a risk that our products may not be able to compete
effectively in our targeted market segments.
We have invested in research and development of next-generation technology in
energy solutions. If we are not successful in developing and commercially
exploiting new energy solutions based on new materials, or we experience delays
in the development and exploitation of new energy solutions, compared to our
competitors, our future growth and revenues will be adversely affected.
OUR PRINCIPAL COMPETITORS HAVE GREATER FINANCIAL AND MARKETING RESOURCES THAN WE
DO AND THEY MAY THEREFORE DEVELOP BATTERIES SIMILAR OR SUPERIOR TO OURS OR
OTHERWISE COMPETE MORE SUCCESSFULLY THAN WE DO.
Competition in the rechargeable battery industry is intense. The industry
consists of major domestic and international companies, most of which have
financial, technical, marketing, sales, manufacturing, distribution and other
resources substantially greater than ours. There is a risk that other companies
may develop batteries similar or superior to ours. In addition, many of these
companies have name recognition, established positions in the market, and
long-standing relationships with OEMs and other customers. We believe that our
primary competitors are existing suppliers of liquid Lithium-ion, competing
polymer and, in some cases, nickel metal-hydride batteries. These suppliers
include Sanyo, Matsushita Industrial Co., Ltd. (Panasonic), Sony, Toshiba, SAFT
and Electrovaya. Most of these companies are very large and have substantial
resources and market presence. We expect that we will compete against
manufacturers of other types of batteries in our targeted application segments,
which include laptops, cellular telephones, and personal digital assistant
products, on the basis of performance, size and shape, cost, and ease of
recycling. There is also a risk that we may not be able to compete successfully
against manufacturers of other types of batteries in any of our targeted
applications.
LAWS REGULATING THE MANUFACTURE OR TRANSPORTATION OF BATTERIES MAY BE ENACTED
WHICH COULD RESULT IN A DELAY IN THE PRODUCTION OF OUR BATTERIES OR THE
IMPOSITION OF ADDITIONAL COSTS THAT COULD HARM OUR ABILITY TO BE PROFITABLE.
At the present time, international, federal, state, or local law does not
directly regulate the storage, use, and disposal of the component parts of our
batteries. However, laws and regulations may be enacted in the future, which
could impose environmental, health and safety controls on the storage, use, and
disposal of certain chemicals and metals used in the manufacture of lithium
polymer batteries. Satisfying any future laws or regulations could require
significant time and resources from our technical staff and possible redesign
which may result in substantial expenditures and delays in the production of our
product, all of which could harm our business and reduce our future
profitability. The transportation of lithium and lithium-ion batteries is
regulated both internationally and domestically. Under recently revised United
Nations recommendations and as adopted by the International Air Transport
Association (IATA), our N-ChargeTM Power System (Model VNC-65) and N-ChargeTM
Power System II are exempt from a Class 9 designation for transportation, while
our N-ChargeTM Power System (Model VNC-130), our K-Charge(TM) Power System, and
U-Charge(TM) Power System currently fall within the level such that they are not
exempt and require a class 9 designation for transportation. The revised United
Nations recommendations are not U.S. law until such time as they are
36
incorporated into the DOT Hazardous Material Regulations. However, DOT has
proposed new regulations harmonizing with the U.N. guidelines. At present it is
not known if or when the proposed regulations would be adopted by the United
States. While we fall under the equivalency levels for the United States and
comply with all safety packaging requirements worldwide, future DOT or IATA
regulations or enforcement policies could impose costly transportation
requirements. In addition, compliance with any new DOT and IATA approval process
could require significant time and resources from our technical staff and, if
redesign were necessary, could delay the introduction of new products.
GENERAL RISKS ASSOCIATED WITH STOCK OWNERSHIP
CORPORATE INSIDERS OR THEIR AFFILIATES WILL BE ABLE TO EXERCISE SIGNIFICANT
CONTROL OVER MATTERS REQUIRING STOCKHOLDER APPROVAL THAT MIGHT NOT BE IN THE
BEST INTERESTS OF OUR STOCKHOLDERS AS A WHOLE.
As of June 8, 2004, our officers, directors and their affiliates as a group
beneficially owned approximately 38.4% of our outstanding common stock. Carl
Berg, one of our directors, beneficially owns approximately 35.2% of our
outstanding common stock. As a result, these stockholders will be able to
exercise significant control over all matters requiring stockholder approval,
including the election of directors and the approval of significant corporate
transactions, which could delay or prevent someone from acquiring or merging
with us. The interest of our officers and directors, when acting in their
capacity as stockholders, may lead them to:
o vote for the election of directors who agree with the incumbent
officers' or directors' preferred corporate policy; or
o oppose or support significant corporate transactions when these
transactions further their interests as incumbent officers or
directors, even if these interests diverge from their interests as
stockholders per se and thus from the interests of other stockholders.
SOME PROVISIONS OF OUR CHARTER DOCUMENTS MAY MAKE TAKEOVER ATTEMPTS DIFFICULT,
WHICH COULD DEPRESS THE PRICE OF OUR STOCK AND LIMIT THE PRICE THAT POTENTIAL
ACQUIRERS MAY BE WILLING TO PAY FOR OUR COMMON STOCK.
Our board of directors has the authority, without any action by the outside
stockholders, to issue additional shares of our preferred stock, which shares
may be given superior voting, liquidation, distribution and other rights as
compared to those of our common stock. The rights of the holders of our capital
stock will be subject to, and may be adversely affected by, the rights of the
holders of any preferred stock that may be issued in the future. The issuance of
additional shares of preferred stock could have the effect of making it more
difficult for a third party to acquire a majority of our outstanding voting
stock. These provisions may have the effect of delaying, deferring or preventing
a change in control, may discourage bids for our common stock at a premium over
its market price, may decrease the market price, and may infringe upon the
voting and other rights of the holders of our common stock.
AT ANY GIVEN TIME WE MIGHT NOT MEET THE CONTINUED LISTING REQUIREMENTS OF THE
NASDAQ SMALLCAP MARKET.
Given the volatility of our stock and trends in the stock market in general, at
any given time we might not meet the continued listing requirements of The
Nasdaq SmallCap Market. Among other requirements, Nasdaq requires the minimum
bid price of a company's registered shares to be $1.00. On June 8, 2004, the
closing price of our common stock was $4.01. In addition, in order to comply
with the listing requirements of the NASDAQ SmallCap Market, effective with our
2004 annual meeting of stockholders, we may need to add an additional director
to our board of directors that is "independent" as defined by those rules.
Because of our financial condition, we are having difficulty identifying a
suitable candidate. If we are not able to maintain the requirements for
continued listing on The NASDAQ SmallCap Market, it could have a materially
adverse effect on the price and liquidity of our common stock.
OUR STOCK PRICE IS VOLATILE, WHICH COULD RESULT IN A LOSS OF YOUR INVESTMENT.
The market price of our common stock has been and is likely to continue to be
highly volatile. Factors that may have a significant effect on the market price
of our common stock include the following:
o fluctuation in our operating results;
o announcements of technological innovations or new commercial products
by us or our competitors;
o failure to achieve operating results projected by securities analysts;
37
o governmental regulation;
o developments in our patent or other proprietary rights or our
competitors' developments;
o our relationships with current or future collaborative partners; and
o other factors and events beyond our control.
In addition, the stock market in general has experienced extreme volatility that
often has been unrelated to the operating performance of particular companies.
These broad market and industry fluctuations may adversely affect the trading
price of our common stock, regardless of our actual operating performance.
As a result of this potential stock price volatility, investors may be unable to
sell their shares of our common stock at or above the cost of their purchase
prices. In addition, companies that have experienced volatility in the market
price of their stock have been the object of securities class action litigation.
If we were the subject of securities class action litigation, this could result
in substantial costs, a diversion of our management's attention and resources
and harm to our business and financial condition.
FUTURE SALES OF CURRENTLY OUTSTANDING SHARES COULD ADVERSELY AFFECT OUR STOCK
PRICE.
The market price of our common stock could drop as a result of sales of a large
number of shares in the market or in response to the perception that these sales
could occur. In addition these sales might make it more difficult for us to sell
equity or equity-related securities in the future at a time and price that we
deem appropriate. We had outstanding 75,961,826 shares of common stock as of
March 31, 2004. In addition, at March 31, 2004, we had 12,715,124 shares of our
common stock reserved for issuance under warrants and stock option plans. In
connection with the potential conversion of the Series C Convertible Preferred
Stock issued on June 2, 2003, we expect that we may need to issue up to an
additional 2,025,882 shares of our common stock (based on a conversion price of
$4.25) and up to 352,900 shares upon exercise of the related warrant issued on
June 2, 2003. To fulfill our obligations to INI, based on our proposed
settlement, we would issue 915,496 shares of our common stock at its current
market price.
WE DO NOT INTEND TO PAY DIVIDENDS ON OUR COMMON STOCK, AND THEREFORE
STOCKHOLDERS WILL BE ABLE TO RECOVER THEIR INVESTMENT IN OUR COMMON STOCK, IF AT
ALL, ONLY BY SELLING THE SHARES OF OUR STOCK THAT THEY HOLD.
Some investors favor companies that pay dividends on common stock. We have never
declared or paid any cash dividends on our common stock. We currently intend to
retain any future earnings for funding growth and we do not anticipate paying
cash dividends on our common stock in the foreseeable future. Because we may not
pay dividends, a return on an investment in our stock likely depends on the
ability to sell our stock at a profit.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We considered the provisions of Financial Reporting Release No. 48,
"Disclosures of Accounting Policies for Derivative Financial Instruments and
Derivative Commodity Instruments, and Disclosures of Quantitative and
Qualitative Information about Market Risk Inherent in Derivative Commodity
Instruments." We had no holdings of derivative financial or commodity
instruments at December 31, 2003. However, we are exposed to financial market
risks, including changes in foreign currency exchange rates and interest rates.
We have long-term debt in the form of two building mortgages, which bear
interest at adjustable rates based on the Bank of England base rate plus 1.5%
and 1.75% (5.50% and 5.75%, respectively, at March 31, 2004). We also have
long-term debt in the form of two loans, which mature in September 2005, to a
stockholder. The first loan has an adjustable rate of interest at 1% above the
lender's borrowing rate (9% at March 31, 2004) and the second loan has a fixed
interest rate of 8%. The table below presents principal amounts by fiscal year
for our long-term debt.
38
2005 2006 2007 2008 THEREAFTER TOTAL
---------- ---------- ---------- ---------- ---------- ----------
(dollars in thousands)
Liabilities:
Fixed rate debt: -- 20,000 -- -- -- 20,000
Variable rate debt 967 15,977 1,081 1,145 2,205 21,375
Based on borrowing rates currently available to us for loans with similar terms,
the carrying value of our debt obligations approximates fair value.
ITEM 8 FINANCIAL STATEMENTS
The Company's Consolidated Financial Statements and notes thereto appear on
pages F-3 through F-22.
ITEM 9 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
None.
ITEM 9A CONTROLS AND PROCEDURES
As of the end of the period covered by this annual report, we conducted an
evaluation, under the supervision and with the participation of the Company's
management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Rule 13a-15 and 15d-15 of the Securities Exchange Act of
1934, as amended (the "Exchange Act"). Based on this evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that our disclosure
controls and procedures are effective at the reasonable assurance level and
designed to ensure that information required to be disclosed by us in the
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the Commission's
rules and forms. There were no significant changes in the Company's internal
controls or in other factors that could significantly affect these controls
subsequent to the date of their evaluation.
Our management, including our Chief Executive Officer and our Chief
Financial Officer, does not expect that our disclosure controls or our internal
controls will prevent all error and all fraud. A control system, no matter how
well designed and operated, can provide only reasonable, not absolute, assurance
that the control system's objectives will be met. Further, the design of a
control system must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within the Company have been detected. These inherent limitations include
the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake. Controls can also be
circumvented by the individual acts of some persons, by collusion of two or more
people or by management override of the controls. Because of the inherent
limitations in a cost-effective control system, misstatements due to error or
fraud may occur and not be detected.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Our Chief Executive Officer and Chief Financial Officer, along with the
other members of management, evaluate our disclosure controls and procedures as
of the end of the period covered by our reports filed pursuant to the Exchange
Act. Our Chief Executive Officer and Chief Financial Officer have concluded that
the disclosure controls and procedures are effective in alerting the Chief
Executive Officer and Chief Financial Officer on a timely basis to material
information relating to the Company and its consolidated subsidiaries required
to be included in our periodic and other filings with the Commission.
39
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT.
DIRECTORS AND EXECUTIVE OFFICERS
The following persons serve as our directors:
DIRECTORS AGE PRESENT POSITION
Carl E. Berg (1)(2)................... 66 Director
Stephan B. Godevais................... 42 Director and Chairman of the Board
Bert C. Roberts (1)................... 61 Director
Alan F. Shugart (1)(2)................ 73 Director
(1) Member of the Audit Committee
(2) Member of the Compensation Committee
The following persons serve as our executive officers:
EXECUTIVE OFFICERS AGE PRESENT POSITION
Stephan B. Godevais................... 42 President and Chief Executive Officer
Joseph F. Lamoreux.................... 42 Chief Operating Officer
Kevin W. Mischnick.................... 37 Vice President of Finance and Assistant Secretary
Roger A. Williams..................... 56 General Counsel and Assistant Secretary
The following persons are significant employees:
SIGNIFICANT EMPLOYEES AGE PRESENT POSITION
David St. Angelo...................... 44 Vice President of Large Format Energy Solutions
Kevin Brennan......................... 35 Vice President of Sales
Our executive officers are appointed by and serve at the discretion of the
Board. There are no family relationships between any director and/or any
executive officer.
CARL E. BERG. Mr. Berg helped found us and has served on the Board since
September 1991. For more than 30 years, Mr. Berg has been a major Silicon Valley
industrial real estate developer and a private venture capital investor. Mr.
Berg also serves as the director of Mission West Properties, Inc., Monolithic
Systems, Inc. and Focus Enhancements, Inc. Mr. Berg holds a Bachelor of Arts
degree in Business Administration from the University of New Mexico.
STEPHAN B. GODEVAIS. Mr. Godevais joined us in May 2001 and is currently our
Chairman of the Board of Directors, Chief Executive Officer, and President. From
December 1997 to April 2001, Mr. Godevais served as a Vice President at Dell
Computer Corporation where he led Dell's desktop and notebook product lines for
consumers and small businesses. During his tenure at Dell, Mr. Godevais launched
the company's Inspiron division, growing it into a multi-billion dollar business
and introduced the first 15-inch notebook in the industry, sustaining its
position as a market leader from 1998 to 2000. Prior to Dell, Mr. Godevais
managed the worldwide notebook business of Digital Equipment Corporation. From
December 1994 to November 1997, Mr. Godevais served in several positions,
including General Manager and Vice President, at Digital. Mr. Godevais also
spent ten years at Hewlett Packard Company, where he held positions in marketing
for various product and field organizations. Mr. Godevais holds a business
management degree from the Institut d'Etudes Politiques de Paris.
BERT C. ROBERTS, JR. Mr. Roberts originally joined us as a director in 1992 and
served until 1993 prior to rejoining us as a director in 1998. Mr. Roberts
served as Chairman and Chief Executive Officer of MCI, a telecommunications
company from 1992 until 1998, after having served as President and Chief
Operating Officer since 1985. Mr. Roberts serves on the boards of Johns Hopkins
University and CaPCURE (a cancer research funding organization). Mr. Roberts
holds a Bachelor of Science in Engineering from Johns Hopkins University.
40
ALAN F. SHUGART. Mr. Shugart joined us as a director in March 1992. Mr. Shugart
was the Chief Executive Officer and a director of Seagate Technology, Inc., a
technology development and manufacturing company, since its inception in 1979
until July 1998. Mr. Shugart also served as Seagate's President from 1979 to
1983 and from September 1991 to July 1998. Additionally, Mr. Shugart served as
Chairman of the Board of Seagate from 1979 until September 1991, and from
October 1992 to July 1998. Mr. Shugart currently serves as a director of Sandisk
Corporation (a manufacturer of digital flash memory chips) and Cypress
Semiconductor Corporation. Mr. Shugart holds a Bachelor of Science in
Engineering - Physics from the University of Redlands.
JOSEPH F. LAMOREUX. Mr. Lamoreux joined us in July 2001 and serves as our Chief
Operating Officer. From May 1997 to May 2001, Mr. Lamoreux worked at Dell
Computer Corporation, where he held several positions, including Director of
Notebook Supply Chain Management, Director of Notebook Engineering and Director
of Engineering, Inspiron. From May 1997 to January 1999, Mr. Lamoreux served as
Director of the Portable PC Division at Compaq Computer Corporation. Mr.
Lamoreux holds a Bachelor of Science degree in Mechanical Engineering from North
Carolina State University.
KEVIN W. MISCHNICK. Mr. Mischnick joined us in July 2001 as our Vice President
of Finance. From November 2000 to March 2001, he served as Vice President of
Finance at CarOrder, Inc., an internet automobile dealership. From March 1997 to
October 2000, he served as Vice President of Finance for AMFM, Inc., a radio
broadcasting company, and one of its predecessor companies where he was
responsible for all aspects of treasury and cash management systems. During
other tenures at AMFM and one of its predecessor companies, Mr. Mischnick
completed multiple public equity and debt offerings and gained experience in
Securities and Exchange Commission reporting. From August 1990 to March 1997, he
served in various positions at Ernst & Young LLP, including Audit Manager. He is
a certified public accountant and holds a Bachelor of Business Administration
degree in Accounting from Texas Tech University.
ROGER WILLIAMS. Mr. Williams joined us in April 2001 and serves as our General
Counsel and Assistant Secretary. Mr. Williams has been a practicing intellectual
property attorney for 27 years, having practiced in both private and corporate
positions. From 1991 to 2001, Mr. Williams served as Chief Patent Counsel and
Associate General Counsel for the pharmaceutical company G.D. Searle & Co. Mr.
Williams has his Juris Doctorate degree from Drake University Law School and a
Bachelor of Science in Chemistry from Western Illinois University. He is a
member of the California and Indiana Bars.
DAVID ST. ANGELO. Mr. St. Angelo joined us in September 2001 as Vice President
of Large Format Energy Solutions. Prior to joining us, Mr. St. Angelo served as
program controller for the Multimedia Systems Division of the technology company
Motorola Inc. from 1998 to 2001, during which he steered the definition, design,
development and commercialization of the division's advanced set-top box product
line. From 1994 to 1998 Mr. St. Angelo held various positions including
applications manager, site manager, and applications engineer at Eaton
Corporation's semiconductor division. Prior to joining Eaton, Mr. St. Angelo was
with the energy company Mobil Solar Energy Corporation, from 1988 to 1994, where
he held positions in technology transfer, research and product development. He
holds a Bachelor of Science in Chemical Engineering from the University of
Massachusetts and a Master of Science in Electrical Engineering from
Northeastern University.
KEVIN BRENNAN. Mr. Brennan joined us in December 2000 and serves as Vice
President of Sales. Mr. Brennan has over 14 years experience in the battery
industry. Prior to joining us, he served as Corporate Sales and Marketing
Manager for Mold-Tech Plastics Inc., a private company that manufactures DC
powered battery chargers and cable assemblies. He was responsible for redefining
the marketing direction of the company, setting up an Asian sourcing out of Hong
Kong, and restructuring sales to profitability. Prior to joining Mold-Tech, Mr.
Brennan worked as the Corporate Sales Manager for International Components
Corporation, a designer and manufacturer of battery chargers for various mobile
devices, from 1991 to 1996. Mr. Brennan holds a Bachelor of Science in Marketing
from De Paul University in Chicago, IL, where he resides today.
AUDIT COMMITTEE FINANCIAL EXPERT
On behalf of the Board, the Audit Committee is responsible for providing
an independent, objective review of our auditing, accounting and financial
reporting process, public reports and disclosures, and system of internal
controls regarding financial accounting. We currently do not have a financial
expert on our audit committee.
41
CODE OF ETHICS
We have adopted a Code of Ethics and Business Conduct applicable to all of
our employees, including our Chief Executive Officer, Chief Financial Officer,
Principal Accounting Officer and all other senior financial executives, and to
our directors when acting in their capacity as directors. Our Code of Ethics and
Business Conduct is designed to set the standards of business conduct and ethics
and to help directors and employees resolve ethical issues. The purpose of our
Code of Ethics and Business Conduct is to ensure to the greatest possible extent
that our business is conducted in a consistently legal and ethical manner.
Employees may submit concerns or complaints regarding audit, accounting,
internal controls or other ethical issues on a confidential basis by means of a
toll-free telephone call or an anonymous email. We investigate all concerns and
complaints. Copies of our Code of Business Conduct and Ethics are available to
investors upon written request. Any such request should be sent by mail to
Valence Technology, Inc., 6504 Bridge Point Parkway, Suite 415, Austin, Texas
78730, Attn: General Counsel or should be made by telephone by calling General
Counsel at (888) 825-3623.
We intend to disclose on our website amendments to, or waivers from, any
provision of our Code of Ethics and Business Conduct that apply to our Chief
Executive Officer, Chief Financial Officer, Principal Accounting Officer and
persons performing similar functions and amendments to, or waivers from, any
provision which relates to any element of our Code of Ethics and Business
Conduct described in Item 406(b) of Regulation S-K.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Exchange Act requires our directors, officers (including a
person performing a principal policy-making function) and persons who own more
than 10% of a registered class of our equity securities to file with the
Commission initial reports of ownership and reports of changes in ownership of
our common stock and other equity securities of ours. Directors, officers and
10% holders are required by Commission regulations to send us copies of all of
the Section 16(a) reports they file. Based solely upon a review of the copies of
the forms sent to us and the representations made by the reporting persons to
us, we believe that during the fiscal year ended March 31, 2004, our directors,
officers and 10% holders complied with all filing requirements under Section
16(a) of the Exchange Act.
ITEM 11. EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION TABLE
The following table sets forth, as to the Chief Executive Officer and as to each
of the other four most highly compensated executive officers whose compensation
exceeded $100,000 during fiscal 2004 (referred to as the named executive
officers), information concerning all compensation paid for services to us in
all capacities for each of the three years ended March 31 indicated below.
Annual Compensation Long-Term Compensation Awards
---------------------- -------------------------------
Name and Principal Position Fiscal Year Salary Bonus Securities Underlying Options
- --------------------------- ----------- ---------- ---------- -------------------------------
Stephan B. Godevais 2004 $ 500,000 $ - -
Chairman of the Board, Chief 2003 $ 500,000 $ - 350,000
Executive Officer and 2002 $ 442,528 $ - 1,500,300
President
Joseph F. Lamoreux 2004 $ 202,308 50,000
Chief Operating Officer 2003 $ 200,000 $ - 195,000
2002 $ 165,495 $ - 225,300
Terry Standefer 2004 $ 166,154 -
Formerly Vice President 2003 $ 180,000 $ - 250,000
of Worldwide Operations 2002 $ 98,563 $ - 200,300
Kevin W. Mischnick 2004 $ 147,115 $ - -
Vice President of Finance 2003 $ 135,000 $ 33,750 74,652
and Assistant Secretary 2002 $ 93,002 $ - 120,300
Roger A. Williams 2004 $ 180,000 -
General Counsel and 2003 $ 180,000 $ - 83,334
Assistant Secretary 2002 $ 164,709 $ - 120,300
42
OPTION GRANTS IN LAST FISCAL YEAR
The following table shows for the fiscal year ended March 31, 2004, certain
information regarding options granted to, exercised by, and held at year-end by
the named executive officers:
INDIVIDUAL GRANTS
----------------------------------------------------
NUMBER OF POTENTIAL REALIZABLE VALUE
SECURITIES PERCENT OF TOTAL AT ASSUMED ANNUAL RATES
UNDERLYING OPTIONS GRANTED EXERCISE OF STOCK PRICE APPRECIATION
OPTIONS TO EMPLOYEES IN FOR BASE EXPIRATION FOR OPTION TERM (2)
NAME GRANTED (#) FISCAL YEAR (1) PRICE ($/SH) DATE 5% 10%
- ------------------- ------------ --------------- ------------ ---------- ------------- -------------
Stephan B. Godevais None
JOSEPH F. LAMOREUX 50,000 (3) 56.93% $3.74 12/15/2013 $117,603 $298,030
TERRY STANDEFER (4) None
KEVIN W. MISCHNICK None
ROGER A. WILLIAMS None
- ---------------
(1) Options to purchase an aggregate of 625,500 shares were granted to
employees in fiscal year 2004.
(2) The potential realizable value is calculated based on the term of the
option at its time of grant, 10 years, compounded annually. It is
calculated by assuming that the stock price on the date of grant
appreciates at the indicated annual rate, compounded annually for the
entire term of the option and that the option is exercised and sold on the
last day of its term for the appreciated stock price. No gain to the
optionee is possible unless the stock price increases over the option term,
which will benefit all stockholders. These amounts are calculated pursuant
to applicable requirements of the Commission and do not represent a
forecast of the future appreciation of our common stock.
(3) These options vest in 16 equal quarterly installments from the grant date,
December 15, 2003.
(4) Effective January 1, 2004, Mr. Standefer no longer serves as Vice President
of Worldwide Operations of Valence Technology, Inc.
43
AGGREGATED OPTION EXERCISES IN
LAST FISCAL YEAR, AND FISCAL YEAR END OPTION VALUES
The following table shows (i) the number of shares acquired and value realized
from option exercises by each of the named executive officers during the fiscal
year ended March 31, 2004 and (ii) the number and value of the unexercised
options held by each of the named executive officers on March 31, 2004:
SHARES NUMBER OF SECURITIES UNDERLYIVALUE OF UNEXERCISED
ACQUIRED UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS
ON VALUE FISCAL YEAR-END (#) AT FISCAL YEAR-END ($) (1)
EXERCISE REALIZED ------------------------------------------------------
NAME (#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ------------------ ---------- ---------- ----------- -------------- ----------- --------------
Stephan B. Godevais -- -- 1,290,925 559,375 $ 399,133 $ 451,063
Joseph F. Lamoreux -- -- 235,619 234,681 $ 205,423 $ 350,772
Terry Standefer (2) -- -- 237,800 212,500 $ 270,070 $ 422,125
Kevin W. Mischnick -- -- 115,615 79,337 $ 117,200 $ 147,833
Roger A. Williams -- -- 129,285 74,349 $ 119,629 $ 148,091
- --------------
(1) Based on the last reported sales price of our common stock on the Nasdaq
SmallCap Market on March 31, 2004 ($4.47), less the exercise price of the
options multiplied by the number of shares underlying the option.
(2) Effective January 1, 2004, Mr. Standefer no longer serves as Vice President
of Worldwide Operations of Valence Technology, Inc.
EMPLOYMENT AGREEMENTS
Effective May 2, 2001, and renewed in August 2003, we entered into an employment
agreement with Stephan B. Godevais pursuant to which we retained Mr. Godevais as
Chief Executive Officer and President at a salary of $500,000 per year. The
Board reviews his salary on January 1 of each year and may (in its sole
discretion) increase, but not decrease, his salary.
Under his employment agreement, we granted Mr. Godevais stock options to
purchase an aggregate of 1,500,000 shares of common stock at an exercise price
of $6.52 per share, vesting over a period of four years.
We agreed to nominate Mr. Godevais to the Board for the entire period of his
employment as Chief Executive Officer and President and to use our best efforts
to cause our stockholders to cast their votes in favor of his continued election
to the Board. Mr. Godevais agreed to resign from the Board when he no longer
serves as Chief Executive Officer and President.
Mr. Godevais is entitled to a lump sum payment of $500,000 and continued group
health insurance coverage for one year following termination if within the first
two years of the employment agreement renewal any of the following occurs:
o A liquidation or change in control occurred (excluding an acquisition
by Carl Berg or his affiliated companies of more than 50% of our
voting stock, which will not constitute a change of control);
o We terminated Mr. Godevais' employment for any reason other than for
cause; or
o Mr. Godevais resigned for good reason.
Effective September 18, 2003, we entered into an employment agreement with
Joseph Lamoreux pursuant to which we retained Mr. Lamoreux as Chief Operating
Officer at a salary of $230,000 per year. The Board reviews his salary annually
on January 1 and may, at its sole discretion, increase, but not decrease, his
salary.
44
Mr. Lamoreux is entitled to a lump sum payment of $100,000 and continued group
health insurance coverage for six months following termination if within the
subsequent two years of his employment any of the following occurs:
o A liquidation or change in control occurs (excluding an acquisition by
Carl Berg or his affiliated companies of more than 50% of our voting
stock, which will not constitute a change of control);
o Termination of Mr. Lamoreux's employment for any reason other than for
cause; or
o Mr. Lamoreux resigns for good reason.
We have employment offer letters with each of our named executive officers that
stipulate the initial salaries of each officer and the number of options to
which the officer was initially entitled. Each letter specifies that either the
employee or we, with or without cause, may terminate the employment at any time.
DIRECTORS' COMPENSATION. Our non-employee directors receive no cash
compensation, but are eligible for reimbursement for their expenses incurred in
connection with attendance at Board meetings in accordance with Company policy.
Directors who are employees do not receive separate compensation for their
services as directors, but are eligible to receive stock options under our 2000
Stock Option Plan.
Each of our non-employee directors receives stock option grants pursuant to the
1996 Non-Employee Directors' Stock Option Plan, which we refer to as the
Directors' Plan. Only non-employee directors or an affiliate of those directors
as defined in the Internal Revenue Code (the "Code") are eligible to receive
options under the Directors' Plan. The plan provides that new directors will
receive initial stock options to purchase 100,000 shares of common stock upon
election to the Board. The per share exercise price for these options will be
the fair market value of a share of our common stock on the day the options are
granted. These options will vest one-fifth on the first and second anniversaries
of the date of grant of the options, and equal quarterly installments over the
next three years. A director who had not received options upon becoming a
director, received stock options to purchase 100,000 shares on the date of the
adoption of the Directors' Plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION. During the fiscal
year ended March 31, 2004, the Compensation Committee consisted of Messrs.
Shugart and Berg.
In July 1990, we entered into a loan agreement with Baccarat Electronics, Inc.
Baccarat subsequently assigned all of its rights, duties and obligations under
that agreement, as the same has been amended from time to time, to Berg & Berg,
a company controlled by Carl Berg, a principal stockholder and one of our
directors. The loan agreement, as amended, allowed us to borrow, prepay and
re-borrow up to $15.0 million under a promissory note on a revolving basis. The
loan bears interest at one percent over the interest rate on the lender's
principal line of credit each year (approximately 9% at March 31, 2004).
Effective December 31, 2001, we further amended the loan agreement to provide
that Berg & Berg has no further obligations to loan or advance funds to us under
this loan agreement, as amended. As of March 31, 2004, the principal balance and
accrued and unpaid interest owing under the July 1990 loan agreement, as
amended, totaled $18,413,832. By amendment dated February 11, 2002, Berg & Berg
agreed to extend the maturity date of the loan from August 30, 2002 to September
30, 2005. In fiscal 1998 and 1999, we issued warrants to purchase 594,031 shares
of our common stock to Berg & Berg in conjunction with the amended loan
agreement. The fair value of these warrants, totaling approximately $2,158,679,
has been reflected as additional consideration for the loan from Baccarat.
In October 2001, we entered into a loan agreement with Berg & Berg. Under the
terms of the loan agreement, Berg & Berg agreed to advance us up to $20.0
million between the date of the loan agreement and September 30, 2003. Interest
on the loans accrues at 8.0% per annum, and all outstanding amounts with respect
to the loans are due and payable on September 30, 2005. As of March 31, 2004,
the principal balance and accrued and unpaid interest owing under this loan
agreement totaled $26,100,588. In conjunction with the loan agreement, Berg &
Berg received a warrant to purchase 1,402,743 shares of our common stock at an
exercise price of $3.208 per share. The warrants are immediately exercisable and
expire on October 5, 2005.
In March 2002, we obtained a $30 million equity line of credit with Berg & Berg.
The equity line is fully drawn. Our financing commitment from Berg & Berg
enabled us to access up to $5 million per quarter in equity capital. In exchange
for the amounts funded pursuant to this agreement, we have issued to Berg & Berg
restricted common stock at 85% of the average closing price of our common stock
over the five trading days prior to the purchase date. We have agreed to
register the shares issued to Berg & Berg under this commitment.
45
On June 10, 2003 Berg & Berg committed to provide an additional $10 million
equity commitment to supplement an existing $4 million commitment. We drew down
$3 million under this commitment on each of March 5, April 19, and May 24, 2004
at the then-current market value of our common stock.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
EQUITY COMPENSATION PLANS
The following table summarizes information about the equity securities
authorized for issuance under our compensation plans as of March 31, 2004. For a
description of these plans, please see Note 15, Stockholders' Equity (Deficit),
in our consolidated financial statements.
NUMBER OF SECURITIES NUMBER OF SECURITIES
TO BE ISSUED UPON WEIGHTED-AVERAGE REMAINING AVAILABLE
EXERCISE OF OUTSTANDING EXERCISE PRICE OF FOR FUTURE ISSUANCE
OPTIONS, WARRANTS AND OUTSTANDING OPTIONS, UNDER EQUITY
PLAN CATEGORY RIGHTS WARRANTS AND RIGHTS COMPENSATION PLANS
- -------------------------------- ------------------------ ---------------------- -----------------------
Equity compensation plans
approved by security holders 9,237,260 $5.06 900,378
Equity compensation plans not
approved by security holders (1) 1,925,000 $6.45 -
Total 11,162,260 $5.30 900,378
- -------------
(1) Options to purchase 1,500,000 shares were granted to Stephan Godevais in
May 2001 pursuant to his employment agreement. The exercise price of his
options is $6.52 and they vest over four years. 25% of the options vested
in May 2002 and the remainder vest in 12 equal quarterly installments
during the term of his employment (1,125,000 shares vested as of June 14,
2004). The vesting accelerates and become immediately exercisable on the
date of a change of control of the Company (or if he has been terminated
without good cause or resigned for good reason). Options to purchase
225,000 shares were granted to Joseph Lamoreux in June 2001 pursuant to his
employment offer letter. The exercise price of his options is $7.18 and
they vest over four years. 25% of the options vested in June 2002 and the
remainder vest in 12 equal quarterly installments during the term of his
employment (168,752 shares vested as of June 14, 2004).
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information regarding beneficial ownership of our
common stock as of June 8, 2004, by:
o Each of our directors;
o Each of the named executive officers;
o All directors and executive officers as a group; and
o All other stockholders known by us to beneficially own more than 5% of
the outstanding common stock.
Beneficial ownership is determined in accordance with the rules of the
Commission. In computing the number of shares beneficially owned by a person and
the percentage ownership of that person, shares of common stock subject to
options held by that person that are currently exercisable or exercisable within
60 days of the date as of which this information is provided, and not subject to
repurchase as of that date, are deemed outstanding. These shares, however, are
not deemed outstanding for the purposes of computing the percentage ownership of
any other person.
Except as indicated in the notes to this table, and except pursuant to
applicable community property laws, each stockholder named in the table has sole
voting and investment power with respect to the shares shown as beneficially
owned by them. Percentage ownership is based on 77,573,615 shares of common
stock outstanding on June 8, 2004.
46
Unless otherwise indicated, the address for each of the stockholders listed
below is c/o Valence Technology, Inc., 6504 Bridge Point Parkway, Suite 415,
Austin, Texas 78730.
Beneficial Ownership(1)
------------------------------
Number of Percent of
Beneficial Owner Shares (#) Total (%)
- ----------------------------------------------------------- ------------ ------------
Carl E. Berg (2)
10050 Bandley Drive, Cupertino, CA 95014 28,006,164 35.2%
1981 Kara Ann Berg Trust, Clyde J. Berg, Trustee; and
Clyde J. Berg
10050 Bandley Drive, Cupertino, CA 95014 (3) 8,604,270 11.1%
Alan F. Shugart (4) 543,310 *
Bert C. Roberts, Jr. (5) 509,583 *
Stephan B. Godevais (6) 1,752,800 2.2%
Joseph F. Lamoreux (7) 263,738 *
Terry Standefer (7) 253,425 *
Kevin W. Mischnick (7) 129,750 *
Roger A. Williams (8) 155,842 *
All directors and executive officers as a group (7
persons) (9) 31,361,187 38.4%
* Indicates less than one percent.
- -----------------
(1) This table is based upon information supplied by officers, directors and
principal stockholders and Schedules 13D and 13G filed with the Commission.
Unless otherwise indicated in the footnotes to this table and subject to
community property laws where applicable, each of the stockholders named in
this table has sole voting and investment power with respect to the shares
indicated as beneficially owned. Applicable percentage ownership is based
on 77,573,615 shares of common stock outstanding on June 8, 2004, adjusted
as required by rules promulgated by the Commission.
(2) Includes 350,000 shares held directly by Mr. Berg; 304,930 shares issuable
upon exercise of options held by Mr. Berg that are exercisable within 60
days of June 8, 2004; 1,525,506 shares held by Berg & Berg Enterprises 401K
Plan FBO Carl E. Berg, of which Mr. Berg is the Trustee; 94,000 shares held
by Berg &Berg Profit Sharing Plan U/A 1/1/80 FBO Carl E. Berg Basic
Transfer, of which Mr. Berg is the Trustee 21,984,474 shares and 1,612,400
shares issuable upon exercise of warrants held by Berg & Berg Enterprises,
LLC, of which Mr. Berg is the sole manager; 2,134,853 shares held by West
Coast Venture Capital, Inc.(WCVC); and. Mr. Berg has sole voting and
dispositive power with respect to 2,274,436 shares and shared voting and
dispositive power with respect to 25,731,457 shares. Berg & Berg has no
sole voting and dispositive power with respect to any shares and has shared
voting and dispositive power with respect to 23,596,874 shares. WCVC has no
sole voting and dispositive power with respect to any shares and has shared
voting and dispositive power with respect to 2,134,853 shares.
(3) Based on information contained in a Schedule 13G filed jointly by 1981 Kara
Ann Berg Trust, Clyde J. Berg, Trustee and Clyde J. Berg with the SEC on
February 14, 2003. The Trust has no sole voting and dispositive power with
respect to any shares and has shared voting and dispositive power with
respect to 8,129,270 shares. Clyde J. Berg has sole voting and dispositive
power with respect to 475,000 shares and shared voting and dispositive
power with respect to 8,129,270 shares.
(4) Includes 202,000 shares held by Mr. Shugart and 341,310 shares issuable
upon exercise of options that are exercisable within 60 days of June 8,
2004.
(5) Includes 100,000 shares held by Mr. Roberts, 100,000 shares held indirectly
through various entities, 10,000 shares held by his spouse and 299,583
shares issuable upon exercise of options that are exercisable within 60
days of June 8, 2004.
(6) Includes 365,000 shares held by Mr. Godevais and 1,387,800 shares issuable
upon exercise of options that are exercisable within 60 days of June 8,
2004.
47
(7) All shares are issuable upon exercise of options that are exercisable
within 60 days of June 8, 2004.
(8) Includes 12,000 shares held by Mr. Williams and 143,842 shares are issuable
upon exercise of options that are exercisable within 60 days of June 8,
2004.
(9) Includes 4,483,353 shares issuable upon exercise of options and warrants
that are exercisable within 60 days of June 8, 2004.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None, except for certain transactions with Carl E. Berg described in Item 11
Executive Compensation; Compensation Committee Interlocks and Insider
Participation.
48
PART IV
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The following table sets forth the aggregate fees billed to the Company for
fiscal 2004 and 2003 by Deloitte & Touche LLP:
Year Ended March 31,
----------------------- Percentage of Services
2004 2003 2004 2003
---------- ---------- ---------- ----------
Audit fees $ 164,000 $ 188,000 67% 48%
Audit-related fees 9,500 - 4% -
Tax fees 71,000 200,000 29% 52%
All other fees - - - -
---------- ---------- ---------- ----------
Total fees $ 244,500 $388,000 100% 100%
========== ========== ========== ==========
"Audit Fees" billed during fiscal 2004 and 2003 were for professional
services rendered for the audit of our financial statements. "Audit-Related
Fees" for fiscal 2004 were for services related to accounting consultation and
review of a Form S-3 filed with the Securities and Exchange Commission. "Tax
Fees" consist of fees billed for professional services rendered for tax
compliance, tax advice, and tax planning.
The Audit Committee has adopted a policy for the pre-approval of all audit
and non-audit services to be performed for the Company by its independent
registered public accounting firm. The Audit Committee has considered the role
of Deloitte & Touche LLP in providing audit, audit-related and tax services to
the Company and has concluded that such services are compatible with Deloitte &
Touche LLP's role as the Company's independent registered public accounting
firm. .
ITEM 15. EXHIBITS, FINANCIAL STATEMENTS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K.
(a) (1) FINANCIAL STATEMENTS - See Index to Consolidated
Financial Statements of this Annual Report on Form 10-K.
(2) FINANCIAL STATEMENT SCHEDULES - All financial statement
schedules have been omitted because they are not applicable
or are not required, or because the information required to
be set forth therein is included in the Consolidated
Financial Statements or Notes thereto.
(3) EXHIBITS - See Exhibit Index on pages 42-44 of this Annual
Report on Form 10-K.
(b) The Company filed the following reports on Form 8-K during
the last quarter of the period for which this Annual Report
on Form 10-K covers:
(i) Form 8-K filed February 12, 2004 reporting under Items
7 and 12
(ii) Form 8-K filed March 9, 2004, reporting under Item 5..
(c) See Exhibit Index on pages 42-44 of this Form 10-K Annual Report.
(d) None.
49
EXHIBIT INDEX
Exhibit No. Description
3.1 (1) Second Restated Certificate of Incorporation of the Company.
3.2 (6) Amendment to the Second Restated Certificate of Incorporation of the Company.
3.3 (16) Certificate of Designations, Preferences and Rights of Series C
Convertible Preferred Stock.
3.4 (13) Second Amended and Restated Bylaws of the Company.
4.1 (3) Form of Warrant to Baccarat Electronics, Inc.
4.2 (4) Form of Warrant to Placement Agent (Gemini Capital, LLC).
4.5 (10) Warrant dated January 4, 2002 to Berg & Berg Enterprises, LLC.
4.6 (16) Warrant to Purchase Common Stock, issued June 2, 2003 (to Riverview
Group, LLC)
4.7 (1) Loan Agreement between the Company and Baccarat Electronics, Inc., dated
July 17, 1990
4.8 (1) Amendment No. 1 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated March 15, 1991 (subsequently transferred to Berg
& Berg Enterprises, LLC).
4.9 (1) Amendment No. 2 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated March 24, 1992 (subsequently transferred to Berg
& Berg Enterprises, LLC).
4.10 (1) Amendment No. 3 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated August 17, 1992 (subsequently transferred to
Berg & Berg Enterprises, LLC).
4.11 Amendment No. 4 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated September 1, 1997 (subsequently transferred to
Berg & Berg Enterprises, LLC).
4.12 (3) Amendment No. 5 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated July 17, 1998 (subsequently transferred to Berg
& Berg Enterprises, LLC).
4.13 Amendment No. 6 to Loan Agreement between the Company and Baccarat
Electronics, Inc., dated November 27, 2000 (subsequently transferred to
Berg & Berg Enterprises, LLC).
4.14 (13) Second Amended Promissory Note dated November 27, 2000 issued by the
Company to Baccarat Electronics, Inc. (subsequently transferred to Berg &
Berg Enterprises, LLC).
4.15 (10) Amendment No. 7 to Original Loan Agreement between the Company and Berg &
Berg Enterprises, LLC (previously with Baccarat Electronics, Inc.), dated
October 10, 2001.
4.16 (13) Amendment No. 8 to Original Loan Agreement and Amendment to Second
Amended Promissory Note between the Company and Berg & Berg Enterprises,
LLC (previously with Baccarat Electronics, Inc.), dated February 11, 2002.
4.17 (10) Loan Agreement dated October 5, 2001 between the Company and Berg & Berg
Enterprises, LLC.
4.18 (10) Security Agreement dated October 5, 2001 between the Company and Berg &
Berg Enterprises, LLC.
4.19 (10) Promissory Note dated October 5, 2001 issued by the Company to Berg &
Berg Enterprises, LLC.
4.20 (14) Amendment to Loan Agreements with Berg & Berg dated November 8, 2002
(Amendment No. 1 to October 5, 2001 Loan Agreement and Amendment No. 9 to
1990 Baccarat Loan Agreement).
10.1 (2)* 1990 Stock Option Plan as amended on October 3, 1997.
10.2 (5) 1996 Non-Employee Directors' Stock Option Plan as amended on October 3, 1997.
10.3 (15) Valence Technology, Inc. Amended and Restated 2000 Stock Option Plan.
10.4 (9) Employment Agreement with Stephan B. Godevais dated May 2, 2001.
10.5 Employment Offer Letter with Joseph Lamoreux dated May 21, 2001.
10.6 (13) Option Agreement for Stephan Godevais dated May 2, 2001.
50
10.7 (13) Option Agreement for Joseph Lamoreux dated June 4, 2001.
10.8 (13) Option Agreement for Terry Standefer dated August 20, 2001.
10.9 (8) Form of Indemnification Agreement entered into between the Company and
its Directors and Officers.
10.10 (9) Registration Rights Agreement with West Coast Venture Capital, Inc. (the
1981 Kara Ann Berg Trust) dated January 13, 2001.
10.11 (11) Financing commitment letter agreement between the Company and Berg &
Berg Enterprises, LLC dated March 12, 2002.
10.12 (17) Waiver of Conditions of Equity Line of Credit
(identified herein as Exhibit 10.11) from Berg & Berg
Enterprises, LLC to the Company dated May 30, 2003.
10.13 (12) Letter Agreement and Release between the Company and Berg & Berg
Enterprises, LLC dated March 31, 2002.
10.14 (17) Commitment Letter from Berg & Berg Enterprises, LLC to the Company dated
June 9, 2003.
10.15 (16) Securities Purchase Agreement dated June 2, 2003 (between the Company and
the Riverview Group LLC).
10.16 (16) Registration Rights Agreement dated June 2, 2003 (with Riverview Group, LLC).
10.17 (18) Joint Venture Contract with Fengfan Group Limited Liability Company dated
July 8, 2003.
10.18 (19) Contract for Technology Investment with Baoding Fengfan Group Limited
Liability Company and Baoding Fengfan-Valence Battery Co., Ltd. dated
July 8, 2003.
10.19 (20) Export Sales Contract with Baoding Fengfan-Valence Battery Co., Ltd.
dated July 8, 2003.
10.20 (21) Equipment Contribution Contract with Baoding Fengfan Group Limited
Liability Company dated July 8, 2003.
10.21 (22) Amended Employment Agreement with Stephan Godevais dated September 15, 2003.
10.22 (23) Amended Employment Agreement with Joseph Lamoreux dated September 18, 2003.
10.23 (24) Amended Employment Agreement with Terry Standefer dated September 18, 2003.
10.24 (25) Purchase and Sale Agreement and Escrow Instructions between Valence
Technology Nevada, Inc. and Mars Partners, dated August 8, 2003.
21.1 List of subsidiaries of the Company.
23.1 Consent of Independent Registered Public Accounting Firm.
24.1 (26) Powers of Attorney.
24.2 Powers of Attorney.
31.1 Certification of Stephan B. Godevais, Principal Executive Officer, pursuant
to Rule 13a-14 and 15d-14 of the Securities Exchange Act of 1934.
31.2 Certification of Kevin W. Mischnick, Principal Financial Officer, pursuant
to Rule 13a-14 and 15d-14 of the Securities Exchange Act of 1934.
32.1 Certification of Stephan B. Godevais, Principal Financial Officer and Kevin
W. Mischnick, Principal Financial Officer, pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.1 Certifications pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(1) Incorporated by reference to the exhibit so described in the
Company's Registration Statement on Form S-1 (File No.
33-46765), as amended, filed with the Securities and Exchange
Commission on March 27, 1992.
(2) Incorporated by reference to the exhibit so described in the
Company's Registration Statement on Form S-8 (File No.
333-43203) filed with the Securities and Exchange Commission
on December 24, 1997.
(3) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated July 27, 1998, and
filed with the Securities and Exchange Commission on August
4, 1998.
(4) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated December 11, 1998,
and filed with the Securities and Exchange Commission on
December 21, 1998.
(5) Incorporated by reference to the exhibit so described in the
Company's Registration Statement on Form S-8 (File No.
333-74595) filed with the Securities and Exchange Commission
on March 17, 1999.
51
(6) Incorporated by reference to the exhibit so described in the
Company's Schedule 14A filed with the Securities and Exchange
Commission on January 28, 2000.
(7) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated June 22, 2000, and
filed with the Securities and Exchange Commission on June 29, 2000.
(8) Incorporated by reference to the exhibit so described in the
Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 2000, filed with the Securities and Exchange
Commission on June 29, 2000.
(9) Incorporated by reference to the exhibit so described in the
Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 2001, filed with the Securities and Exchange
Commission on July 2, 2001.
(10) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended December 31, 2001, filed with the Securities
and Exchange Commission on February 19, 2002.
(11) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated March 20, 2002,
and filed with the Securities and Exchange Commission on
March 22, 2002.
(12) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated March 31, 2002,
and filed with the Securities and Exchange Commission on
April 15, 2002.
(13) Incorporated by reference to the exhibit so described in the
Company's Annual Report on Form 10-K for the fiscal year
ended March 31, 2002, filed with the Securities and Exchange
Commission on July 1, 2002.
(14) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2002, filed with the Securities
and Exchange Commission on November 14, 2002.
(15) Incorporated by reference to the exhibit so described in the
Company's Registration Statement on Form S-8 (File No.
333-101708) filed with the Securities and Exchange Commission
on December 6, 2002.
(16) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated June 2, 2003, and
filed with the Securities and Exchange Commission on June 3,
2003.
(17) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K dated May 30, 2003, and
filed with the Securities and Exchange Commission on June 11,
2003.
(18) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(19) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(20) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(21) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(22) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
52
(23) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(24) Incorporated by reference to the exhibit so described in the
Company's Quarterly Report on Form 10-Q for the fiscal
quarter ended September 30, 2003, filed with the Securities
and Exchange Commission on November 14, 2003.
(25) Incorporated by reference to the exhibit so described in the
Company's Current Report on Form 8-K, dated December 12,
2003, filed with the Securities and Exchange Commission on
December 17, 2003.
(26) Included in signature page.
* Portions of the text have been omitted. A separate filing of
such omitted text has been made with the Securities and
Exchange Commission as part of the Company's Application for
confidential treatment.
53
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, Registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
VALENCE TECHNOLOGY, INC.
Dated: June 18, 2004 By:/s/ Stephen B. Godevais
-----------------------------------
Stephan B. Godevais
Chief Executive Officer, President
and Chairman of the Board
POWER OF ATTORNEY
Each person whose signature appears below constitutes and appoints Stephan
B. Godevais and Kevin W. Mischnick, and each of them, as his true and lawful
attorneys-in-fact and agents with full power of substitution and resubstitution,
for him and his name, place and stead, in any and all capacities, to sign any or
all amendments to this Annual Report on Form 10-K and to file the same, with all
exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done in and about the
foregoing, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, or either of them, or their substitutes, may lawfully do or cause to be
done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
Registrant and in the capacities and on the dates indicated.
Name Position Date
- ------------------------------------- ---------------------------------- -------------------
Chief Executive Officer,
President and Chairman of the
Board (Principal Executive
/s/ Stephen B. Godevais Officer) June 18, 2004
- -------------------------------------
Stephan B. Godevais
Vice President of Finance
(Principal Financial and
/s/ Kevin W. Mischnick Accounting Officer)
- -------------------------------------
Kevin W. Mischnick June 18, 2004
/s/ Carl E. Berg Director June 18, 2004
- -------------------------------------
Carl E. Berg
/s/ Bert C. Roberts, Jr.* Director June 18, 2004
- -------------------------------------
Bert C. Roberts, Jr.
/s/ Alan F. Shugart Director June 18, 2004
- -------------------------------------
Alan F. Shugart
*By /s/ Kevin W. Mischnick
- --------------------------------------
Kevin W. Mischnick
Attorney-in-Fact
54
VALENCE TECHNOLOGY, INC. AND SUBSIDIARIES
Index to Consolidated Financial Statements
VALENCE TECHNOLOGY, INC. AND SUBSIDIARIES
Pages
Consolidated Financial Statements:
Report of Independent Registered Public Accounting Firm......................................F-2
Consolidated Balance Sheets as of March 31, 2004 and March 31, 2003..........................F-3
Consolidated Financial Statements
for the years ending March 31, 2004, March 31, 2003
and March 31, 2002:
Consolidated Statements of Operations and Comprehensive Loss..........................F-4
Consolidated Statements of Stockholders' Equity (Deficit).............................F-5
Consolidated Statements of Cash Flows.................................................F-6
Notes to Consolidated Financial Statements............................................F-7 to F-22
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Valence Technology, Inc. and subsidiaries
Austin, Texas
We have audited the accompanying consolidated balance sheets of Valence
Technology, Inc. and subsidiaries (the "Company") as of March 31, 2004 and 2003,
and the related consolidated statements of operations and comprehensive loss,
stockholders' equity (deficit), and cash flows for the three years then ended.
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 standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. 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 as of March 31, 2004
and 2003, and the results of its operations and its cash flows for each of the
three years ended March 31, 2004, in conformity with accounting principles
generally accepted in the United States of America.
As discussed in Note 3 to the financial statements, the Company changed its
method of accounting for goodwill and other intangible assets as of April 1,
2002 upon the adoption of Statement of Financial Accounting Standard No. 142,
"Goodwill and Other Intangible Assets."
/s/ Deloitte & Touche LLP
- -----------------------------
Deloitte & Touche LLP
Austin, Texas
June 14, 2004
F-2
VALENCE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)
March 31, 2004 March 31, 2003
---------------- ---------------
ASSETS
Current assets:
Cash and cash equivalents $ 2,692 $ 6,616
Trade receivables, net of allowance of $98 and $130, respectively 1,477 1,218
Inventory 3,318 2,757
Prepaid and other current assets 837 1,495
---------------- ---------------
Total current assets 8,324 12,086
Property, plant and equipment, net 12,218 14,279
Intellectual property, net 514 9,789
---------------- ---------------
Total assets $ 21,056 $ 36,154
================ ===============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Note payable $ 2,068 $ -
Current portion of long-term debt 967 810
Accounts payable 3,235 3,511
Accrued expenses 3,555 2,013
Deferred revenue 1,593 14
Grant payable - short term 1,753 1,715
---------------- ---------------
Total current liabilities 13,171 8,063
Grant payable - long term 3,036 -
Long-term interest payable to stockholder 9,720 6,744
Long-term debt, less current portion 5,458 5,623
Long-term debt to stockholder 33,949 33,242
---------------- ---------------
Total liabilities 65,334 53,672
---------------- ---------------
Minority interest in joint venture 4,484 -
Commitments and contingencies
Redeemable convertible preferred stock, $0.001 par value, 1,000 shares
authorized, 861 issued and outstanding
at March 31, 2004, liquidation value $8,610 8,032 -
Stockholders' equity (deficit):
Common stock, $0.001 par value, 100,000,000 shares authorized;
75,961,826 and 71,722,794 shares issued and outstanding, respectively 76 72
Additional paid-in capital 382,282 366,518
Deferred compensation (226) (181)
Notes receivable from stockholder (5,161) (5,161)
Accumulated deficit (429,724) (374,604)
Accumulated other comprehensive loss (4,041) (4,162)
---------------- ---------------
Total stockholders' equity (deficit) (56,794) (17,518)
---------------- ---------------
Total liabilities, preferred stock and stockholders' equity (deficit) $ 21,056 $ 36,154
================ ===============
The accompanying notes are an integral part of these consolidated financial statements.
F-3
Years Ended
----------------------------------------------------
March 31, 2004 March 31, 2003 March 31, 2002
----------------- -------------- --------------
Revenue:
Licensing and royalty revenue $ 963 $ 125 $ 3,203
Battery and system sales 8,483 2,432 1,671
----------------- -------------- --------------
Total revenues 9,446 2,557 4,874
Cost of sales 15,923 10,996 8,649
Gross profit (loss) (6,477) (8,439) (3,775)
Operating expenses:
Research and product development 8,638 9,293 9,681
Marketing 4,880 3,210 1,957
General and administrative 11,416 10,140 11,971
Depreciation and amortization 2,109 2,790 7,927
(Gain)/loss on disposal of assets (21) (20) 147
Restructuring charge 926 - -
Contract settlement charge 3,046 - -
Asset impairment charge 13,660 258 31,884
----------------- -------------- --------------
Total operating expenses 44,654 25,671 63,567
----------------- -------------- --------------
Operating loss (51,131) (34,110) (67,342)
Minority interest in joint venture 69 - -
Cost of warrants (181) - -
Interest and other income 345 381 2,049
Interest expense (4,059) (4,172) (4,327)
----------------- -------------- --------------
Net loss (54,957) (37,901) (69,620)
Dividends on preferred stock 162 - -
Preferred stock accretion 940 - -
----------------- -------------- --------------
Net loss available to common stockholders $ (56,059) $ (37,901) $ (69,620)
================= ============== ==============
Other comprehensive loss:
Net loss $ (54,957) $ (37,901) $ (69,620)
Change in foreign currency translation adjustments 121 92 (117)
----------------- -------------- --------------
Comprehensive loss $ (54,836) $ (37,809) $ (69,737)
================= ============== ==============
Net loss per share available to common stockholders $ (0.77) $ (0.65) $ (1.53)
================= ============== ==============
Shares used in computing net loss per share available
to common stockholders, basic and diluted 73,104 58,423 45,504
================= ============== ==============
The accompanying notes are an integral part of these consolidated financial statements.
F-4
VALENCE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
for the years ended March 31, 2004, 2003, and 2002
(in thousands, except per share amounts)
Notes Accumulated
Additional Receivable Other
Common Stock Paid-in Deferred from Accumulated Comprehensive
Shares Amount Capital Compensation Stockholder Deficit Loss Totals
--------- -------- ------------ --------- ----------- ------------ ---------- -----------
Balances, March 31, 2001 44,422 $ 44 $ 325,103 $ - $ (5,713) $ (267,083) $ (4,137) $ 48,214
Exercise of stock options at
$3.13 to $4.94 per share 39 1 172 173
Conversion of preferred stock 1,109 1 2,735 2,736
Issuance of common stock warrants 2,768 2,768
Stock compensation 260 260
Interest receivable from stockholder (277) (277)
Net Loss (69,620) (69,620)
Change in translation adjustment (117) (117)
--------- -------- ------------ --------- ----------- ------------ ---------- -----------
Balances, March 31, 2002 45,570 $ 46 $ 331,038 $ - $ (5,990) $ (336,703) $ (4,254) $ (15,863)
Sale of stock to private investors 26,153 26 35,106 35,132
Modification of stock option 374 (374) -
Stock compensation 193 193
Interest receivable from stockholder (278) (278)
Payment of accrued interest on note
receivable from stockholder 1,107 1,107
Net Loss (37,901) (37,901)
Change in translation adjustment 92 92
--------- -------- ------------ --------- ----------- ------------ ---------- -----------
Balances, March 31, 2003 71,723 $ 72 $ 366,518 $ (181) $ (5,161) $ (374,604)# $ (4,162) $ (17,518)
Sale of stock to private investors 3,664 4 12,991 12,995
Exercise of stock options at $0.63
to $4.94 per share 247 416 416
Conversion of preferred stock 327 1,391 (1) 1,390
Modification of stock option 738 (738) -
Stock compensation 36 693 729
Interest receivable from stockholder (277) (277)
Payment of accrued interest on note
receivable from stockholder 277 277
Dividends on preferred stock (162) (162)
Issuance of common stock warrants 1,132 1,132
Accretion of warrants (940) (940)
Net loss (54,957) (54,957)
Change in translation adjustment 121 121
--------- -------- ------------ --------- ----------- ------------ ---------- -----------
Balances, March 31, 2004 75,961 $ 76 $ 382,282 $ (226) $ (5,161) $ (429,724) $ (4,041) $ (56,794)
The accompanying notes are an integral part of these consolidated financial statements.
F-5
VALENCE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Years Ended
---------------------------------------------
March 31, 2004 March 31, 2003 March 31, 2002
--------------- -------------- ---------------
Cash flows from operating activities:
Net loss $ (54,957) $ (37,901) $ (69,620)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 2,109 2,790 7,927
Bad debt expense (recoveries) (31) (182) 312
Accretion of debt discount and other 724 924 1,003
Impairment charge 13,660 258 31,884
Contract settlement charge 3,046 - -
Restructuring charge 926 - -
Cost of warrants 181 - -
(Gain) loss on disposal of property, plant, & equipment (21) (20) 147
Compensation related to the issuance of stock options 729 193 260
Interest income on shareholder note receivable - (277) (277)
Reserve for obsolete inventory 120 326 -
Minority interest in joint venture (69) - -
Changes in operating assets and liabilities:
Trade receivables (228) (674) 2,288
Inventory (1,376) (492) 2,243
Prepaid and other current assets 731 115 253
Accounts payable (413) 857 (2,868)
Accrued expenses and long-term interest 4,160 1,599 2,788
Deferred revenue 1,578 - (2,500)
------------- ------------- -------------
Net cash used in operating activities (29,131) (32,484) (26,160)
------------- ------------- -------------
Cash flows from investing activities:
Purchases of property, plant & equipment (5,990) (726) (8,947)
Proceeds from disposal of property, plant & equipment 2,685 20 -
Proceeds from investments - - 154
------------- ------------- -------------
Net cash used in investing activities (3,305) (706) (8,793)
------------- ------------- -------------
Cash flows from financing activities:
Proceeds from note payable 2,068 - -
Proceeds from long-term debt - 4,671 34,065
Payments of long-term debt (959) (804) (1,836)
Dividends paid (116) - -
Proceeds from issuance of preferred stock,
net of issuance costs 9,416 - -
Proceeds from stock option exercises 416 - 173
Proceeds from issuance of common stock and warrants,
net of issuance costs 17,532 35,132 -
------------- ------------- -------------
Net cash provided by financing activities 28,357 38,999 32,402
------------- ------------- -------------
Effect of foreign exchange rates on cash
and cash equivalents 155 184 (581)
------------- ------------- -------------
Increase (decrease) in cash and cash equivalents (3,924) 5,993 (3,132)
Cash and cash equivalents, beginning of year 6,616 623 3,755
------------- ------------- -------------
Cash and cash equivalents, end of year $ 2,692 $ 6,616 $ 623
============= ============= =============
Supplemental Information:
Interest paid 345 269 366
Noncash investing and financing activities:
Fair value of warrants issued in connection with long-term debt
to stockholder - - 2,768
Conversion of preferred stock to common stock 1,390 - 2,736
Exchange of long-term debt and accrued interest expense
for West Coast Venture Capital assets and accrued interest income - - 18,485
The accompanying notes are an integral part of these consolidated financial statements.
F-6
1. BUSINESS AND BUSINESS STRATEGY:
Valence Technology, Inc. (with its subsidiaries, "the Company") was founded
in 1989. From 1989 through 2000, the Company's efforts were focused on
developing and acquiring battery technologies. With the appointment of
Stephan B. Godevais as its Chief Executive Officer and President, the
Company initiated the transition of its business by broadening its
marketing and sales efforts to take advantage of its strengths in research
and development. With this strategic shift, the Company has commercialized
the industry's first phosphate based lithium-ion technology and brought to
market several products utilizing this technology. The Company's mission is
to drive the wide adoption of high-performance, safe, low cost energy
storage systems by drawing on the numerous benefits of its latest battery
technology, the extensive experience of its management team, and the
significant market opportunity available to it.
In February 2002, the Company unveiled its Saphion(R) technology, a
lithium-ion technology which utilizes a phosphate-based cathode material.
The Company believes that by incorporating a phosphate-based cathode
material, its Saphion(R) technology is able to offer greater thermal and
electrochemical stability than traditional lithium-ion technologies. The
Company believes that the safety characteristics of Saphion(R) technology
will enable it to be designed into a wide variety of products in both
existing lithium-ion markets as well as markets not served by current
lithium-ion solutions. These markets include, among others, notebook
accessories, consumer appliances, vehicles, utility and the
telecommunications sectors.
The Company's business strategy incorporates a balance of system sales and
licensing, and a manufacturing plan that leverages internal capabilities
and partnerships with contract manufacturers. The market for Saphion(R)
technology will be developed through the Company's own product launches,
such as the N-Charge(TM) Power System, K-Charge(TM) Power System, and
U-Charge(TM) Power System, and through products designed by others. The
Company plans to maximize the adoption of Saphion(R) technology by offering
it in small and large format applications and polymer, cylindrical, and
prismatic constructions. In addition, the Company will seek to expand the
fields of use of its Saphion(R) technology through the licensing of its
intellectual property related to its battery chemistries and manufacturing
processes. The Company's strategy will be implemented in three fluid
phases, each building on the one previous, with its own specific technology
and market focus.
2. LIQUIDITY AND CAPITAL RESOURCES:
At March 31, 2004, the Company's principal sources of liquidity were cash
and cash equivalents of $2.7 million and $11 million available under
financing commitments with Berg & Berg Enterprises, LLC. The $11 million
financing commitment is in the form of an equity line of credit that allows
the Company to request Mr. Berg to purchase shares of common stock from
time to time at the then-current market value.
During the first quarter of fiscal 2005, the Company determined that in
order to reach its long-term objectives and minimize its fixed operating
costs, the Company requires the transition of more of its operations to
lower cost regions. In order to achieve this plan, Mr. Berg has agreed to
provide an additional $20 million backup equity funding commitment. This
commitment can be reduced by the amount of net proceeds received from the
sale of building or equipment from the Company's Mallusk, Northern Ireland
facility or the amount of net proceeds in a debt or equity transaction, and
may be increased if necessary under certain circumstances. This additional
funding commitment will come in the form of an equity line of credit and
allow the Company to request Mr. Berg to purchase shares of common stock
from time to time at the then-current market value.
On June 2, 2003 the Company raised net proceeds of approximately $9.4
million through the sale of 1,000 shares of newly issued Series C
Redeemable Convertible Preferred Stock to an unaffiliated investor. The
Series C stock matures December 2, 2004 and carries a 2% annual dividend,
paid quarterly in cash or shares of common stock. On January 22, 2004, the
holder of the Series C Stock converted 139 of its 1,000 shares with
principal amount of $1.39 million including accrued and unpaid dividends
into 327,453 shares of common stock at the conversion price of $4.25 per
share. The Company's business plan contemplates conversion of all remaining
shares of Series C Stock prior to their maturity date. On the maturity
date, the Company is required to redeem for cash any unconverted shares of
the Series C Stock at their stated value plus any accrued and unpaid
dividends. If the remaining Series C Stock shares have not been converted
by the maturity date, the Company may need to raise additional debt or
equity financing to facilitate any required redemption. There can be no
assurance that the Company could obtain the additional financing.
F-7
The Company's current forecast projects that these sources of liquidity
will be sufficient for at least the twelve months following March 31, 2004.
This forecast assumes product sales during fiscal 2005 from our
N-Charge(TM) Power System, which are subject to seasonal fluctuations, of
between $2.0 - $3.5 million per quarter, and additional revenues from
volume shipments of our large-format applications commencing in the fourth
quarter of fiscal 2005. The Company also anticipates further cash benefits
from continued reductions in operating expenses and manufacturing costs,
offset by small increases to capital expenditures associated with the
Company's expected establishment of a presence in China.
The Company's cash requirements may vary materially from those now planned
because of changes in its operations, including the failure to achieve
expected revenues, greater than expected expenses, changes in OEM
relationships, market conditions, the failure to timely realize its product
development goals, and other adverse developments. In addition, the Company
is subject to contingent obligations, including the possible redemption of
the Company's outstanding Series C Preferred Stock and demand for repayment
of a portion or all of the Company's existing grants.
Currently, the Company does not have sufficient sales and gross profit to
generate the cash flows required to meet its operating and capital needs.
If during the next twelve months the Company's cash requirements increase,
or its cash sources decline, the Company would require additional debt or
equity financing. In addition, unless the Company is able to achieve
substantially greater product sales or reduced expense over this period, it
will require additional debt or equity financing in fiscal 2006. Currently
the Company depends on Carl Berg's continued willingness to fund its
operations. Mr. Berg has made no commitments to provide any additional
equity or debt financing above his current contractual commitments, and
there can be no assurance that he or any of his affiliates will do so in
the future. Consequently, if the Company needs additional debt or equity
financing, the Company assumes that it will need to obtain such financing
from parties other than Mr. Berg and his affiliates. The Company is not
currently aware of any available source for such debt or equity financing
and may not be able to arrange for such financing on favorable terms or at
all.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
USE OF ESTIMATES:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and the disclosure of contingent assets
and liabilities at the date of the financial statements, as well as the
revenues and expenses for the period. Actual results could differ from
those estimates.
PRINCIPLES OF CONSOLIDATION:
The consolidated financial statements include the accounts of the Company,
its wholly-owned subsidiaries, and its majority-owned joint venture.
Significant intercompany balances and transactions are eliminated upon
consolidation.
RECLASSIFICATION:
Reclassifications of certain prior-year amounts have been made to conform
to the current-year presentation.
REVENUE RECOGNITION:
Revenues are generated from sales of products including batteries and
battery systems, and from licensing fees and royalties per technology
license agreements. Product sales are recognized when all of the following
criteria are met: persuasive evidence of an arrangement exists, delivery
has occurred, seller's price to the buyer is fixed and determinable, and
collectibility is reasonably assured. Product shipments that are not
recognized as revenue during the period shipped, primarily product
shipments to resellers that are subject to right of return, are recorded as
deferred revenue and reflected as a liability on the Company's balance
sheet. For reseller shipments where revenue recognition is deferred, the
Company records revenue based upon resellers' supplied reporting of sales
to end customers or their inventory reporting. For direct customers, the
Company estimates a return rate percentage based upon its historical
experience. The Company reviews this estimate on a quarterly basis. From
time to time the Company provides sales incentives in the form of rebates
or other price adjustments; these are recorded as reductions to revenue as
incurred. Licensing fees are recognized as revenue upon completion of an
executed agreement and delivery of licensed information, if there are no
significant
F-8
remaining vendor obligations and collection of the related receivable is
reasonably assured. Royalty revenues are recognized upon licensee revenue
reporting and when collectibility is reasonably assured.
CONCENTRATION OF CREDIT RISK:
Financial instruments that potentially subject the Company to
concentrations of credit risk are primarily accounts receivable and cash
and cash equivalents. The Company provides an allowance for doubtful
accounts based upon the expected collectibility of accounts receivable.
Credit losses to date have been within the Company's estimates.
Cash and cash equivalents are invested in deposits with a major financial
institution. The Company has not experienced any losses on its deposits of
cash and cash equivalents. Management believes that the financial
institution is financially sound and, accordingly, minimal credit risk
exists.
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.
INVENTORY:
Inventory is stated at the lower of cost (determined using the first-in,
first out method) or market.
FAIR VALUE OF FINANCIAL INSTRUMENTS:
Financial instruments that potentially subject the Company to an interest
and credit risk consist of cash and cash equivalents, trade receivables,
accounts payable, and accrued expenses, the carrying value of which are a
reasonable estimate of their fair values due to their short maturities.
Based on borrowing rates currently available to the Company for loans with
similar terms, the carrying value of its debt obligations and grant payable
approximate fair value.
INVESTMENTS:
The Company accounts for its investments in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain
Investments in Debt and Equity Securities". Under SFAS No. 115, the Company
classifies its securities as held-to-maturity. Held to maturity securities
are those investments in which the Company has the ability and intent to
hold the security until maturity. Held to maturity securities are recorded
at amortized cost, which approximates market value. As of March 31, 2004,
the Company had no held to maturity securities. Dividend and interest
income are recognized in the period earned.
PROPERTY, PLANT AND EQUIPMENT:
Property and equipment are stated at cost and depreciated on the
straight-line method over their estimated useful lives, generally three to
five years. Leasehold improvements are amortized over the lesser of their
estimated useful life, generally five years, or the remaining lease term.
Expenditures for renewals and betterments are capitalized; repairs and
maintenance are charged to expense as incurred. The cost and accumulated
depreciation of assets sold or otherwise disposed of are removed from the
accounts and any gain or loss thereon is reflected in operations.
IMPAIRMENT OF LONG-LIVED ASSETS:
The Company performs a review of long-lived tangible and intangible assets
for impairment whenever events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable. Recoverability of
these assets is measured by comparison of their carrying amounts to future
undiscounted cash flows that the assets are expected to generate. If
long-lived assets are considered to be impaired, the impairment to be
recognized equals the amount by
F-9
which the carrying value of the assets exceeds its fair value and is
recorded in the period the determination was made. See Note 4 Impairment
Charge regarding impairment of tangible and intangible assets.
INTELLECTUAL PROPERTY:
Intellectual properties acquired consist of patents and are recorded at
cost based on the market value of the common stock used in their
acquisition. The costs are amortized over the estimated remaining life of
the patents. See Note 4, Impairment Charge.
RESEARCH AND DEVELOPMENT:
Research and development costs are expensed as incurred.
WARRANTY:
The Company records warranty liabilities at the time of sale for the
estimated costs that may be incurred under its basic limited warranty. The
warranty terms and conditions generally provide for replacement of
defective products. Factors that affect the Company's warranty liability
include the number of units currently under warranty, historical and
anticipated rates of warranty claims on those units, and cost per claim to
satisfy the Company's warranty obligation. Each quarter, the Company
re-evaluates its estimates to assess the adequacy of its recorded warranty
liabilities and adjusts the amounts as necessary. See Note 13, Commitments
and Contingencies.
SHIPPING AND HANDLING COSTS:
In accordance with Emerging Issues Task Force No. 00-10, "Accounting for
Shipping and Handling Fees and Costs", the Company recognizes as revenue
amounts billed to customers related to shipping and handling, with related
expenses recorded as a component of cost of sales.
ADVERTISING COSTS:
Advertising costs are charged to expense as incurred. Advertising expenses
for fiscal 2004, 2003, and 2002, were $1.3 million, $611,000, and $18,000,
respectively.
FOREIGN CURRENCY:
The assets and liabilities of the Company's foreign subsidiaries have been
translated to U.S. dollars using the exchange rate in effect at the balance
sheet date. Results of operations have been translated using the average
exchange rate during the year. Resulting translation adjustments have been
recorded as a separate component of stockholders' equity (deficit) as
accumulated other comprehensive loss. Foreign currency transaction gains
and losses are included in the consolidated statement of operations as they
occur.
STOCK-BASED COMPENSATION:
The Company accounts for equity instruments issued to non-employees in
accordance with the provisions of SFAS No. 123 ("SFAS 123"), "Accounting
for Stock-Based Compensation," as amended by SFAS No. 148 ("SFAS 148"),
"Accounting for Stock-Based Compensation - Transition and Disclosure - an
amendment of FASB Statement No. 123," and consensus of the Emerging Issues
Task Force No. 96-18, "Accounting for Equity Instruments with Variable
Terms That Are Issued for Consideration Other Than Employee Services." The
Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion No.
25 ("APB No. 25"), "Accounting for Stock Issued to Employees" and complies
with the disclosure provisions of SFAS 123, as amended by SFAS 148. Had
compensation expense for the stock plans been determined based on the fair
value at the grant date for options granted in 2004, 2003, and 2002
consistent with the provisions of SFAS 123, as amended by SFAS 148, the pro
forma net loss would have been reported as follows (in thousands):
F-10
2004 2003 2002
------------------------------
Net loss available to stockholders - as reported $(56,059)$ (37,901) $(69,620)
Add: stock-based compensation expense, net related taxes (5,426) (6,806) (7,595)
------- ------- -------
Net loss available to stockholders - pro forma (61,485) (44,707) (77,215)
Net loss available to stockholders per share - as reported (0.77) (0.65) (1.53)
Net loss available to stockholders per share, basic and
diluted - pro forma (0.84) (0.77) (1.70)
The fair value of each option grant is estimated at the date of grant using the
Black-Scholes pricing model with the following weighted average assumptions for
grants in fiscal years 2004, 2003, and 2002:
2004 2003 2002
-----------------------------------
Risk-free Interest Rate 2.84% 2.85% 4.25%
Expected Life 5.0 years 4.71 years 4.81 years
Volatility 106.74% 106.52% 90.62%
Dividend Yield - - -
COMPREHENSIVE INCOME/LOSS:
Comprehensive income/loss is the change in stockholder's equity (deficit) from
foreign currency translation gains and losses.
NEW ACCOUNTING STANDARDS:
In April 2003, SFAS No. 149 ("SFAS 149"), "Amendments of Statement 133 on
Derivative Instruments and Hedging Activities", was issued, which amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under FASB
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities". The Company adopted SFAS 149 in its second quarter of fiscal year
2004. The adoption did not have a significant impact on its financial
statements.
In May 2003, SFAS No. 150 ("SFAS 150"), "Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity", was issued,
which establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. The
Company adopted SFAS 150 in its first quarter of fiscal year 2004. The adoption
of SFAS 150 required the Company's proposed contract settlement with Invest
Northern Ireland (Note 12), which is payable in shares of the Company's
restricted common stock, to be recorded as a liability.
In December 2003, the FASB issued FASB Interpretation No. 46R ("FIN 46R"), a
revision to FIN 46. FIN 46R clarifies some of the provisions of FIN 46 and
exempts certain entities from its requirements. Entities that have adopted FIN
46 prior to this effective date can continue to apply the provisions of FIN 46
until the effective date of FIN 46R, which is the first quarter of fiscal 2005
for the Company. The Company adopted FIN 46 at the beginning of the second
quarter of fiscal 2004 and it did not have a material impact on the Company's
financial statements. FIN 46R is not expected to have a material impact on the
Company's financial statements.
INCOME TAXES:
The Company utilizes the liability method to account for income taxes where
deferred tax assets or liabilities are determined based on the differences
between the financial reporting and tax reporting bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to affect taxable income. Valuation allowances are
established when necessary to reduce deferred tax assets to the amounts expected
to be realized.
NET LOSS PER SHARE:
Net loss per share is computed by dividing the net loss by the weighted average
shares of common stock outstanding during the period. The dilutive effect of the
options and warrants to purchase common stock are excluded from the computation
of diluted net loss per share, since their effect is antidilutive. The
antidilutive instruments excluded from the diluted net loss per share
computation at March 31 were as follows:
F-11
2004 2003 2002
------------ ----------- ------------
Shares reserved for conversion of Series C preferred stock 2,026,000 - -
Common stock options 8,694,000 8,920,000 6,426,000
Warrants to purchase common stock 2,469,000 3,237,000 3,237,000
------------ ----------- ------------
Total 13,189,000 12,157,000 9,663,000
============ =========== ============
4. IMPAIRMENT CHARGE:
During the quarter ended December 31, 2001, the Company refined its
business strategy to focus its efforts on the development of its
Saphion(TM) technology and solidified its manufacturing plan and product
mix, accordingly. As a result, the Company evaluated the ongoing value of
the property, plant and equipment in its Northern Ireland manufacturing
facility and the intellectual property acquired from Telcordia in December
2000. The Company determined that assets with a carrying amount of
approximately $53.2 million were impaired and wrote them down by
approximately $31.9 million to their fair value. Fair value was based on
estimated future cash flows to be generated by these assets, discounted at
the Company's market rate of interest. The useful lives for property, plant
and equipment in the Northern Ireland manufacturing facility were unchanged
as a result of the impairment.
During the quarter ended March 31, 2003, the Company recorded an impairment
charge of $258,000 on the property in Henderson, Nevada related to the
planned sale of this facility. The Company estimated that the expected
future cash flows related to the facility were less than the asset carrying
value of $3 million and adjusted the assets to their fair value
accordingly. Fair value was based upon quoted market price for the
facility.
An impairment charge of approximately $13.7 million was recorded during the
fiscal quarter ended September 30, 2003. The charge was recorded pursuant
to FASB Statement No. 144, "Accounting for Impairment or Disposal of
Long-Lived Assets." During the second quarter of fiscal 2004 the Company
completed qualification of its OEM manufacturer in China, ATL, for
Saphion(R) products. In addition, the Company announced the formation of a
manufacturing joint venture in China with Fengfan Group, Ltd. The Company
has transitioned all manufacturing from its Northern Ireland facility to
China and other low-cost manufacturing regions as of December 31, 2003, and
has ceased all manufacturing operations in its Northern Ireland facility as
of the end of calendar 2003. The Company also experienced progress on the
development of cylindrical battery construction technology and now expects
greater emphasis on the licensing of cylindrical technology to the
detriment of the licensing of stacked technology (which was the technology
acquired from Telcordia in December 2000). As a result of these
developments, the Company determined that the future cash flows expected to
be generated from its Northern Ireland facility and stacked technology
intellectual property acquired in the Telcordia transaction in December
2000 did not exceed their carrying value. This determination resulted in
the net impairment charge against property, plant, and equipment and
intellectual property to record these assets at their fair value. The
Company determined that assets with a carrying amount of approximately
$19.5 million should be written down by approximately $13.7 million to
their fair value. Fair value was based on estimated future cash flows to be
generated by these assets, discounted at the Company's market rate of
interest of 8%.
5. INVENTORY:
Inventory consisted of the following (in thousands) at:
MARCH 31,
-----------------------
2004 2003
---------- ----------
Raw materials $ 317 $ 1,163
Work in process 1,330 1,385
Finished goods 1,671 209
---------- ----------
Total inventory $ 3,318 $ 2,757
========== ==========
6. OTHER CURRENT ASSETS:
Other current assets consisted of the following (in thousands) at:
F-12
March 31,
-----------------------
2004 2003
---------- ----------
Other receivables $ 101 $ 217
Deposits 73 115
Prepaid insurance 351 646
Other prepaids 312 517
---------- ----------
Total other current assets $ 837 $ 1,495
========== ==========
7. INTELLECTUAL PROPERTY:
Intellectual property consisting of stacked battery construction technology
acquired from Telcordia Technologies, Inc. in December 2000 is amortized
over five years. Intellectual property, net of accumulated amortization and
impairment, consisted of the following (in thousands) at:
March 31,
----------------------------
2004 2003
------------- ------------
Intellectual property before impairment $ 13,602 $ 13,602
Less: accumulated amortization (4,594) (3,813)
Less: Impairment (8,494) -
------------- ------------
Intellectual property, net $ 514 $ 9,789
============= ============
Amortization expense was approximately $781, $1,450 and $1,803 for the
fiscal years ended March 31, 2004, 2003 and 2002, respectively.
Amortization expense on intellectual property at March 31, 2004 will be
$114 for fiscal years 2005 through 2008 and $58 for fiscal year 2009.
8. PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment, net of impairment, consisted of the
following (in thousands) at:
March 31,
2004 2003
--------------- -------------
Building and land $ 15,726 $ 14,573
Leasehold improvements 50 47
Machinery and equipment 8,446 10,287
Office and computer equipment 957 845
Construction in progress 2,490 2,725
--------------- -------------
Total cost 27,669 28,477
Less: accumulated depreciation (15,451) (14,198)
--------------- -------------
Total cost, net of impairment and depreciation $ 12,218 $ 14,279
=============== =============
9. ACCRUED EXPENSES:
Accrued expenses consisted of the following (in thousands) at:
F-13
March 31,
------------------------
2004 2003
----------- ----------
Accrued compensation $ 1,104 $ 1,220
Professional services 243 320
Warranty reserve 490 123
Other accrued expenses 1,718 350
----------- ----------
Total accrued expenses $ 3,555 $ 2,013
=========== ==========
10. NOTE PAYABLE:
In January 2004, the Company's joint venture purchased a land permit for its
facility for a price of approximately $3.2 million, consisting of approximately
$1.1 million in cash and a $2.1 million in a note payable due sixty days from
purchase. The joint venture has not made scheduled payments on this note. See
Note 19, Joint Venture.
11. LONG-TERM DEBT:
Long-term debt consisted of the following (in thousands) at:
March 31,
-----------------------
2004 2003
---------- ----------
Facility loans $ 6,425 $ 6,433
Less amounts due within one year (967) (810)
---------- ----------
Long-term debt, less current portion $ 5,458 $ 5,623
========== ==========
In May 2001, the Company purchased an additional building, adjacent to its
existing Northern Ireland facility, for a purchase price of $2.09 million.
This 10-year facility term loan bears interest at an adjustable interest
rate based on the Bank of England base rate plus 1.75% (5.75% at March 31,
2004) on the outstanding principal. The Company makes monthly payments of
$19,000 and quarterly payments of accrued interest. The outstanding
principal balance as of March 31, 2004 and March 31, 2003 was $2.036
million and $ 2.022 million, respectively. The related building is
collateral for the loan.
In April 2000, the Company obtained a 15-year facility loan for its
Northern Ireland main factory building. The Company makes monthly principal
payments of approximately $32,000 and monthly payments of accrued interest.
This facility term loan bears interest at an adjustable rate based on the
Bank of England base rate plus 1.5% (5.50% at March 31, 2004) on the
outstanding principal. In August 2000, the Company borrowed an additional
$2.874 million for the construction of a factory extension. The Company
makes semi-annual payments of approximately $185,000 and semi-annual
payments of accrued interest. The loan bears interest at an adjustable rate
based on the Bank of England plus 1.5% (5.50% at March 31, 2004). The
outstanding principal balance as of March 31, 2004 and March 31, 2003 was
$4.389 million and $4.411 million, respectively.
Principal payments on long-term debt at March 31, 2004 are due as follows
(in thousands):
Fiscal Year
- ------------
2005 $ 967
2006 1,027
2007 1,081
2008 1,145
2009 1,128
Thereafter 1,077
-------
$6,425
=======
DEBT TO STOCKHOLDER CONSISTED OF THE FOLLOWING (IN THOUSANDS):
F-14
March 31,
-----------------------
2004 2003
---------- ----------
2001 loan balance $ 20,000 $ 20,000
1998 loan balance 14,950 14,950
Unaccreted debt discount (1,001) (1,708)
---------- ----------
Balance at year-end $ 33,949 $ 33,242
========== ==========
Principal payments of debt to stockholder are as follows (in thousands):
2004 2005 2006 2007 2008
--------------------------------------------------
2001 loan - - $ 20,000 - -
1998 loan - - 14,950 - -
--------------------------------------------------
Total - - $ 34,950 - -
--------------------------------------------------
In October 2001, the Company entered into a loan agreement ("2001 Loan")
with Berg & Berg. Under the terms of the agreement, Berg & Berg agreed to
advance the Company funds of up to $20 million between the date of the
agreement and September 30, 2003. Interest on the 2001 Loan accrues at 8.0%
per annum, payable from time to time, and all outstanding amounts with
respect to the loans are due and payable on September 30, 2005. On November
8, 2002 the Company and Berg & Berg amended an affirmative covenant in the
agreement to acknowledge the Nasdaq SmallCap Market as an acceptable market
for the listing of the Company's Common Stock. As of March 31, 2004,
accrued interest on the loan totaled $3.464 million, which is included in
long-term interest. In conjunction with the 2001 Loan, Berg & Berg received
a warrant to purchase 1,402,743 shares of the Company's common stock at the
price of $3.208 per share. The warrants were exercisable beginning on the
date they were issued and expire on August 30, 2005. The fair value
assigned to these warrants, totaling approximately $2.768 million has been
reflected as additional consideration for the debt financing, recorded as a
discount on the debt and accreted as interest expense over the life of the
loan. The warrants were valued using the Black-Scholes method using the
assumptions of a life of 47 months, 100% volatility, and a risk free rate
of 5.5%. Through March 31, 2004, a total of $1.767 million has been
accreted and included as interest expense. The amounts charged to interest
expense on the outstanding balance of the loan for the fiscal years ended
March 31, 2004, 2003, and 2002 were $1.627 million, $1.465 million, and
$373,000, respectively. Interest payments on the loan are currently being
deferred, and are recorded as long-term interest.
In July 1998, the Company entered into an amended loan agreement ("1998
Loan") with Berg & Berg that allows the Company to borrow, prepay and
re-borrow up to $10 million principal under a promissory note on a
revolving basis. In November 2000, the 1998 Loan agreement was amended to
increase the maximum amount to $15 million. As of March 31, 2004, the
Company had an outstanding balance of $14.95 million under the 1998 Loan
agreement. The loan bears interest at one percent over lender's borrowing
rate (approximately 9.0% at March 31, 2004). Effective December 31, 2001,
the Company and the lender agreed to extend the loan's maturity date from
August 30, 2002 to September 30, 2005. On November 8, 2002 the Company and
Berg & Berg amended an affirmative covenant in the agreement to acknowledge
the Nasdaq SmallCap Market as an acceptable market for the listing of the
Company's Common Stock. As of March 31, 2004, accrued interest on the loan
totaled $6.1 million, which is included in long-term interest. In fiscal
1999, the Company issued warrants to purchase 594,031 shares of common
stock to Berg & Berg in conjunction with the 1998 Loan agreement, as
amended. The warrants were valued using the Black Scholes valuation method
and had an average weighted fair value of approximately $3.63 per warrant
at the time of issuance. The fair value of these warrants, totaling
approximately $2.159 million, has been reflected as additional
consideration for the debt financing, recorded as a discount on the debt
and accreted as interest expense to be amortized over the life of the line
of credit. As of March 31, 2004, a total of $2.159 million has been
accreted. The amounts charged to interest expense for each of the fiscal
years ended on March 31, 2004, 2003, and 2002 were $1.349 million. Interest
payments on the loan are currently being deferred, and are recorded as
long-term interest.
12. GRANT AGREEMENTS
Beginning in 1994, the Company received employment and capital grants from
the Ireland Development Board, now known as Invest Northern Ireland, or
INI, for its Mallusk, Northern Ireland manufacturing facility. As a result
of the
F-15
planned transition of manufacturing from the Mallusk facility to China and
other low cost manufacturing regions, and the Company's desire to obtain
unencumbered access to all of its equipment for transfer or for sale, on
August 13, 2003, the Company obtained verbal assurance that it had reached
an agreement with INI to terminate the Letter of Offer. Pursuant to this
proposed agreement, the INI would unconditionally and irrevocably release
the Company from all obligations, liabilities, or claims under the Letter
of Offer in exchange for $4.7 million of restricted common stock, payable
in three installments over three years. The INI has not yet completed its
final and formal approval of this agreement. However, in recent
conversations, the INI asserted that the proposed settlement is still
suitable to the INI. Based on the proposed settlement agreement, the
Company recorded an additional liability of $3.0 million in its fiscal
quarter ended September 30, 2003, which increased the total recorded
liability to $4.7 million. Although a range of the potential liability is
expected to be $1.7 million to $7.7 million, the Company believes that the
amount previously recorded remains the best estimate of the potential
liability to the INI for settlement and termination of the Letter of Offer.
13. COMMITMENTS AND CONTINGENCIES:
LEASES:
Total rent expense for the years ended March 31, 2004, 2003 and 2002 was
approximately $885,000, $662,000, and $635,000, respectively. Future
minimum payments on leases for years following March 31, 2004 (in
thousands) are:
Fiscal Year
- ------------
2005 $ 535
2006 287
2007 240
2008 237
2009 120
On December 12, 2003, the Company closed the sale of its Henderson, Nevada
building and land with net book value of $2.664 million for net proceeds of
$2.685 million. A gain of $21,000 was recorded on the sale. The Company is
leasing the facility month-to-month for $20,000 per month.
WARRANTIES:
The Company has established a warranty reserve in connection with the sale
of N-Charge(TM) Power Systems covering a 12-month warranty period during
which the Company would provide a replacement unit to any customer
returning a purchased product because of a product performance issue. The
Company has established its initial product warranty reserves as 10% of
N-Charge(TM) Power System sales. The Company will adjust the percentage
based on actual experience for future warranty provisions. In addition, the
Company has established a reserve for its 30-day right of return policy
under which a customer may return a purchased N-Charge(TM) Power System.
The Company has estimated its right of return liability as 5% of the
previous month's N-Charge(TM) Power System sales.
Product warranty liabilities at March 31, 2004 and the year ended March 31,
2003 are as follows (in thousands):
March 31,
--------------------------
2004 2003
------------ ------------
Beginning balance $ 123 $ 35
Less: claims (445) (26)
Less: returns (34) -
Plus: accruals 846 114
------------ ------------
Ending balance $ 490 $ 123
============ ============
F-16
LITIGATION:
The Company is subject to various claims and litigation in the normal
course of business. In the opinion of management, all pending legal matters
are either covered by insurance or, if not insured, will not have a
material adverse impact on the Company's consolidated financial statements.
14. SERIES C REDEEMABLE CONVERTIBLE PREFERRED STOCK:
On June 2, 2003, the Company issued 1,000 shares of Series C Redeemable
Convertible Preferred stock ("Series C") and warrants to purchase the
Company's common stock for $10,000 per share, raising net proceeds of
$9.416 million. Holders of the Series C stock are entitled to receive
dividends at an annual rate of 2%, paid quarterly in cash or common stock.
The Series C stock is convertible to the Company's common stock at $4.25
per share, which represents a premium of 11.3% over the closing price of
the Company's common stock on May 22, 2003, the date at which the financial
terms of the placement were set. The Company has the right to force
conversion of the Series C preferred stock if the average of the volume
weighted average price of the Company's common stock for a ten consecutive
day trading period is at or above $6.38. The Series C stock matures on
December 2, 2004, unless converted to the Company's common stock prior to
that date. The costs of issuance of the Series C stock were $584,000,
consisting of investment banking and legal fees. These costs were deducted
from the gross proceeds.
In connection with the issue of the Series C stock, the Company issued to
the Series C holder a warrant to purchase 352,900 shares of the Company's
common stock. The warrant is exercisable at a purchase price of $5.00 per
share and expires in June 2008. The warrant was valued using the
Black-Scholes valuation model. The warrant was recorded to additional paid
in capital at its relative fair value to the Series C stock at $933,000.
Accretion to the redemption value of $8.6 million is being recorded over
the eighteen-month period of the Series C stock.
On January 22, 2004, the holder of the Series C Redeemable Convertible
Preferred Stock converted 139 of its 1,000 shares with principal amount of
$1.39 million, including accrued and unpaid dividends, into 327,453 shares
of the Company's common stock at the conversion price of $4.25 per share.
15. STOCKHOLDERS' EQUITY (DEFICIT):
STOCK OPTIONS AND WARRANTS:
The Company has a stock option plan (the "1990 Plan") under which options
granted may be incentive stock options or supplemental stock options.
Options are to be granted at a price not less than fair market value
(incentive options) or 85% of fair market value (supplemental options) on
the date of grant. The options vest as determined by the Board of Directors
and are generally exercisable over a five-year period. Unvested options are
canceled and returned to the 1990 Plan upon an employee's termination.
Generally, vested options, not exercised within three months of
termination, are also canceled and returned to the Plan. The 1990 Plan
terminated on July 17, 2000, and as such options may not be granted after
that date. Options granted prior to July 17, 2000 expire no later than ten
years from the date of grant.
In February 1996, the Board of Directors adopted a stock plan for outside
Directors (the "1996 Non-Employee Director's Stock Option Plan"). The plan
provides that new directors will receive an initial stock option of 100,000
shares of common stock upon their election to the Board. The exercise price
for this initial option will be the fair market value on the day it is
granted. This initial option will vest one-fifth on the first and second
anniversaries of the grant of the option, and quarterly over the next three
years. A director who had not received an option upon becoming a director
will receive an initial stock option of 100,000 shares on the date of the
adoption of the plan. During fiscal years 2003 and 2004, no shares were
granted under this plan. As of March 31, 2004, a total of 21,260 shares
remained available for grant under this plan.
In October 1997, the Board of Directors adopted the 1997 Non-Officer Stock
Option Plan (the "1997 Plan"). The Company may grant options to non-officer
employees and consultants under the 1997 Plan. Options are to be granted at
a price not less than fair market value (incentive options) on the date of
grant. The options vest as determined by the Board of Directors, generally
quarterly over a four-year period. The options expire no later than ten
years from the date of grant. Unvested options are canceled and returned to
the 1997 Plan upon an employee's termination. Vested options, not exercised
within three months of termination, also are canceled and returned to the
1997 Plan. During fiscal year 2004, a total of 131,000 shares were granted
under this plan. At March 31, 2004, the Company had 86,282 shares available
for grant under the 1997 Plan.
F-17
In January 2000, the Board of Directors adopted the 2000 Stock Option Plan
(the "2000 Plan"). The Company may grant incentive stock options to
employees and nonstatutory stock options to non-employee members of the
Board of Directors and consultants under the 2000 Plan. Options are to be
granted at a price not less than fair market value on the date of grant. In
the case of an incentive stock option granted to an employee who owns stock
possessing more than 10% of the total combined voting power of all classes
of stock of the Company or any affiliate, the option is to be granted at a
price not less than 110% of the fair market value on the date of grant. The
options are exercisable as determined by the Board of Directors, generally
over a four-year period. The options expire no later than ten years from
the date of grant. Unvested options are canceled and returned to the 2000
Plan upon an employee's termination. Vested options, not exercised within
three months of termination, also are canceled and returned to the 2000
Plan. During fiscal year 2004, a total of 494,500 shares were granted under
this plan. At March 31, 2004, the Company had 792,836 shares available for
grant under the 2000 Plan.
Aggregate option activity is as follows (shares in thousands):
Outstanding Options
-----------------------------
Number of Weighted Avg.
Shares Exercise Price
---------
Balance, March 31, 2002 7,024 $7.58
---------
Granted 3,160 $1.67
Exercised 0 $0.00
Canceled (1,264) $6.24
---------
Balance, March 31, 2003 8,920 $5.68
---------
Granted 626 $4.34
Exercised (246) $1.68
Canceled (606) $5.41
---------
Balance, March 31, 2004 8,694 $5.73
=========
At March 31, 2004, 2003, and 2002, vested options to purchase 5,699,000,
4,225,000, and 2,455,000 shares, respectively, were unexercised.
The following table summarizes information about fixed stock options
outstanding at March 31, 2004 (shares in thousands):
Options Outstanding Options Exercisable
- ------------------------------------------------------------------ ----------------------------
Weighted Average Weighted Weighted
Range of Number Remaining Average Number Average
Exercise Prices Outstanding Contractual Life(years)Exercise Price Exercisable Exercise Price
- ---------------- ------------ ---------------------- ------------- ---------- ----------------
$0.63 - $0.83 166 8.49 $0.68 72 $0.69
$1.30 - $1.94 1,545 8.71 1.51 474 1.52
$2.06 - $2.99 615 8.14 2.27 291 2.26
$3.10 - $4.62 1,488 7.21 3.98 871 4.01
$4.75 - $7.12 3,377 6.35 6.07 2,599 6.12
$7.16 - $10.06 849 6.06 7.84 764 7.87
$11.31 - $15.75 208 6.39 13.99 201 14.08
$17.12 - $23.56 342 6.19 19.16 324 19.24
$29.28 - $34.62 104 5.92 32.83 104 32.83
------------ ---------------------- ------------- ---------- ----------------
8,694 7.05 $5.73 5,700 $6.91
At March 31, 2004, the Company has reserved approximately 12,715,000 shares of
common stock for the exercise of stock options and warrants.
F-18
16. SIGNIFICANT CUSTOMERS:
In the year ended March 31, 2004, 30% of revenue and 37% of trade
receivables were from one customer. Revenues from three significant
customers represented a total of 26% of total revenues for the year ended
March 31, 2003 and a total of 69% of the trade accounts receivable at March
31, 2003. For fiscal year 2002, six customers represented 83% of total
revenues for the year and 65% of trade accounts receivable at March 31,
2002.
17. INCOME TAXES:
There was no recorded income tax benefit related to the losses of fiscal
years 2004, 2003 or 2002 due to the uncertainty of the Company generating
taxable income to utilize its net operating loss carryforwards. The
provision for income taxes differs from the amount computed by applying the
federal statutory rate of 34% to the loss before income taxes as follows:
The components of the net deferred tax asset as of March 31, 2004 and 2003
were as follows (in thousands):
Year Ended March 31,
-------------------------------------
2004 2003 2002
----------- ----------- -----------
Federal tax benefit at statutory rate $ (18,685) $ (12,886) $ (23,671)
Rate differential - foreign 888 403 1,324
State tax provision (371) (435) -
Expenses not deductible for tax (39) 20 31
Research and experimentation credit (306) (175) (285)
Foreign losses not available as carryforward 6,001 4,247 7,721
Change in valuation allowance 12,512 8,826 14,880
----------- ----------- -----------
Tax provision $ - $ - $ -
=========== =========== ===========
The components of the net deferred tax asset as of March 31, 2004 and 2003 were
as follows (in thousands):
March 31,
2004 2003
---------- ----------
Current assets:
Accrued liabilities $ 366 $ 185
Valuation allowance (366) (185)
---------- ----------
- -
========== ==========
Non-current assets:
Depreciation and amortization 854 828
Research and experimentation credit carryforwards 1,753 1,447
Net operating loss carryforwards - Federal 58,086 51,677
Net operating loss carryforwards - Foreign 47,590 42,132
Impairment reserve 968 654
Imputed interest 1,207 1,207
Valuation allowance (110,458) (97,945)
---------- ----------
$ - $ -
========== ==========
At March 31, 2004 the Company had federal net operating loss carryforwards
available to reduce future taxable income of approximately $168.0 million.
The carryforwards expire from 2007 to 2023, if not used before such time to
offset future taxable income.
F-19
For federal tax purposes, the Company's net operating loss carryforwards
are subject to certain limitations on annual utilization because of changes
in ownership, as defined by federal tax law. The Company also has foreign
operating loss carryforwards available to reduce future foreign income of
approximately $154.8 million.
18. EMPLOYEE BENEFIT PLAN:
The Company has a 401(k) plan (the "Plan") as allowed under Section 401(k)
of the Internal Revenue Code. The Plan provides for the tax deferral of
compensation by all eligible employees. All United States employees meeting
certain minimum age and service requirements are eligible to participate
under the Plan.
Under the Plan, participants may voluntarily defer up to 25% of their paid
compensation, subject to specified annual limitations. The Plan does not
provide for, and the Company has not made, contributions under the Plan.
19. JOINT VENTURE:
On July 9, 2003, Boading Fengfan-Valence Battery Company, a joint venture
between the Company and Fengfan Group, Ltd. ("Fengfan") was formed. The
purpose of the joint venture was to provide low cost manufacturing of the
Company's Saphion(R) Lithium-ion batteries. Under the terms of the joint
venture agreement, the Company was to contribute 51% of the joint venture's
registered capital, consisting of capital equipment, a nonexclusive license
to its technology, and engineering expertise. Fengfan was to contribute 49%
of the joint venture's registered capital, consisting of the cash required
to fund the joint venture for the first two years, and also to acquire the
land and facility needed for manufacturing operations.
The consolidated financial statements include the consolidation of the
balance sheet, results of operations, and cash flows of the joint venture
as of March 31, 2004. During the year ended March 31, 2004, Fengfan
contributed approximately $4.5 million in cash to the joint venture, while
the Company began its contribution of technology and engineering expertise.
As of March 31, 2004, the joint venture had initiated construction of its
Baoding, China facility, established its interim offices, and hired and
trained staff. Net operating expenses for the year ended March 31, 2004
were approximately $150,000. The joint venture's assets at March 31, 2004
included cash of approximately $900,000, which is exclusively for the joint
venture's requirements, a land license of approximately $3.2 million, and
construction in progress of approximately $2 million. The joint venture's
liabilities at March 31, 2004 were a note payable of approximately $2.1
million and accrued expenses of approximately $60,000.
However due to many timing delays, management differences and concerns
regarding the Company's intellectual property, the Company has initiated
negotiations to terminate the joint venture. In so doing, both parties to
the joint venture have demanded compensation for costs and losses. At this
time, the Company's management, after discussion with its legal counsel,
believes that resolution of the negotiations will not have a material
impact on the financial condition of the Company. The Company is seeking
other manufacturing sources in the region.
20. FACILITY CLOSING:
On August 13, 2003, the Company announced successful qualification of its
OEM manufacturer in China, ATL, for Saphion(R) products. Additionally, the
Company announced its plans to transition manufacturing from its Northern
Ireland facility to China and other low-cost manufacturing regions. As of
March 31, 2004, the Company had completed the transition of manufacturing
to ATL and other manufacturers. The Company started moving its
manufacturing equipment from Northern Ireland to its joint venture in China
(Note 19) in its fiscal quarter ending March 31, 2004.
As of December 31, 2003, all production at the Northern Ireland facility
had ceased. Activities related to closing the facility and preparing
equipment for transition to the Company's contract manufacturers or for
sale are expected to continue in fiscal 2005. All inventory remaining at
the conclusion of manufacturing operations was determined to be obsolete
and unusable by any of the Company's battery manufacturing sources. Raw
materials inventory obsolescence expense of approximately $178,000 and work
in process inventory obsolescence expense of approximately $517,000 were
recorded as restructuring charges during the quarter ended December 31,
2003. Remaining payment obligations for factory equipment operating leases
that extended beyond December 31, 2003 were approximately $231,000. These
lease payment obligations provide no economic benefit to the Company, and
contractual lease costs of approximately
F-20
$231,000 were recorded as restructuring charges during the quarter ended
December 31, 2003. When the Northern Ireland manufacturing transition was
initiated, an incentive payment plan was established for certain employees.
The employees earned the bonus, which was paid in January 2004, if they
were in good standing on December 31, 2003. The cost of this bonus plan was
$352,000 and was charged to general and administrative expense during the
quarter ended December 31, 2003.
Liabilities related to restructuring at March 31, 2004 consisted of
inactive operating leases of approximately $146,000.
21. RELATED PARTY TRANSACTIONS:
On June 10, 2003, Berg & Berg, an affiliate of Carl Berg, a director and
principal shareholder in the Company, committed to provide the Company $10
million in fiscal 2004, increasing its total available remaining financing
commitments to $14 million ($10 million under this new financing commitment
and $4 million under a then-existing commitment). Berg & Berg will fund
the $14 million commitments by purchasing shares of common stock from time
to time as requested by the Company at the then-current market price. At
March 31, 2004, $11 million remained available under this financing
commitment.
In March 2002, the Company obtained a $30 million equity line of credit
with Berg & Berg, an affiliate of Carl Berg, a director and principal
shareholder in the Company. At December 31, 2003, the equity line was fully
drawn. The Company's financing commitment with Berg & Berg enabled it to
access up to $5 million per quarter (but no more than $30 million in the
aggregate) in equity capital over the two years following the date of the
commitment. This commitment was approved by stockholders at the Company's
2002 annual meeting held on August 27, 2002. In exchange for the amounts
funded pursuant to this agreement, the Company has issued to Berg & Berg
restricted common stock at 85% of the average closing price of the
Company's common stock over the five trading days prior to the purchase
date. The Company has agreed to register any shares it issues to Berg &
Berg under this commitment.
On January 1, 1998, the Company granted options to Mr. Dawson, the
Company's then Chairman of the Board, Chief Executive Officer and
President, an incentive stock option to purchase 39,506 shares, which was
granted pursuant to the Company's 1990 Plan (the "1990 Plan"). Also, an
option to purchase 660,494 shares was granted pursuant to the Company's
1990 Plan and an option to purchase 300,000 shares was granted outside of
any equity plan of the Company, neither of which were incentive stock
options (the "Nonstatutory Options"). The exercise price of all three
options is $5.0625 per share, the fair market value on the date of the
grant. The Compensation Committee of the Company approved the early
exercise of the Nonstatutory Options on March 5, 1998. The options
permitted exercise by cash, shares, full recourse notes or non-recourse
notes secured by independent collateral. The Nonstatutory Options were
exercised on March 5, 1998 with non-recourse promissory notes in the
amounts of $3,343,750 ("Dawson Note One") and $1,518,750 ("Dawson Note
Two") (collectively, the "Dawson Notes") secured by the shares acquired
upon exercise plus 842,650 shares previously held by Mr. Dawson. As of
March 31, 2004, amounts of $3,548,487 and $1,612,683 were outstanding under
Dawson Note One and Dawson Note Two, respectively, and under each of the
Dawson Notes, interest from the Issuance Date accrues on unpaid principal
at the rate of 5.69% per annum, or at the maximum rate permissible by law,
whichever is less.
In accordance with the Dawson Notes, interest is payable annually in
arrears. As of March 31, 2004, interest of approximately $301,000 was
unpaid.
22. GEOGRAPHIC INFORMATION:
The Company conducts its business in two geographic segments.
Long-lived asset information by geographic area at March 31, 2004 and 2003
is as follows (in thousands):
March 31,
-----------------------
2004 2003
---------- ----------
United States $ 1,656 $ 4,930
International 11,076 19,138
---------- ----------
Total $ 12,732 $ 24,068
========== ==========
F-21
Revenues by geographic area for the years ended March 31, 2004, 2003 and
2002 are as follows (in thousands):
2004 2003 2002
---------- ---------- ----------
United States $ 7,229 $ 1,726 $ 1,876
International 2,217 831 2,998
---------- ---------- ----------
Total $ 9,446 $ 2,557 $ 4,874
========== ========== ==========
23. QUARTERLY FINANCIAL DATA (UNAUDITED)
1st Qtr 2nd Qtr 3rd Qtr 4th Qtr Total
---------- ---------- ---------- ---------- ----------
Year Ended March 31, 2004
- ----------------------------
Revenue $ 1,631 $ 2,345 $ 2,678 $ 2,792 $ 9,446
Operating loss (8,457) (25,017) (9,796) (7,860) (51,130)
Net loss available to
common stockholders (9,505) (26,102) (11,106) (9,346) (56,059)
Basic and diluted EPS(1) (0.13) (0.36) (0.15) (0.12) (0.77)
Year Ended March 31, 2003
- ----------------------------
Revenue $ 509 $ 260 $ 638 $ 1,150 $ 2,557
Operating loss (8,652) (8,689) (7,663) (9,106) (34,110)
Net loss available to
common stockholders (9,659) (9,613) (8,563) (10,066) (37,901)
Basic and diluted EPS(1) (0.19) (0.19) (0.14) (0.13) (0.65)
- -----------
(1) The sum of Basic and Diluted EPS for the four quarters may differ from the
annual EPS due to the required method of computing weighted average number
of shares in the respective periods.
24. SUBSEQUENT EVENT
During the first quarter of fiscal 2005, the Company determined that in order to
reach its long-term objectives and minimize its fixed operating costs, the
Company requires the transition of more of its operations to lower cost regions.
In order to achieve this plan, Mr. Carl Berg, a director and stockholder, has
agreed to provide an additional $20 million backup equity funding commitment.
This commitment can be reduced by the amount of net proceeds received from the
sale of building or equipment from the Company's Mallusk, Northern Ireland
facility or the amount of net proceeds in a debt or equity transaction, and may
be increased if necessary under certain circumstances. This additional funding
commitment will come in the form of an equity line of credit and allow the
Company to request Mr. Berg to purchase shares of common stock from time to time
at the then-current market value.
F-22