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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 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 0-2027
SAFLINK CORPORATION
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(Exact name of registrant as specified in its charter)
DELAWARE 95-4346070
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
18300 N.E. UNION HILL ROAD, SUITE 270
REDMOND, WASHINGTON 98052
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(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (425) 881-6766
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE PER SHARE
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(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
filing requirements for the past 90 days. YES [ X ] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [ ].
The aggregate market value of the voting stock held by non-affiliates
of the registrant, based upon the average bid and asked prices of such stock on
March 13, 2000, was $66,892,603. There were 19,452,738 shares of Common Stock
outstanding as of March 13, 2000.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of SAFLINK's definitive Proxy Statement for its Annual Meeting
of Stockholders to be filed with the Securities and Exchange Commission no later
than April 10, 2000, are incorporated by reference into Part III hereof.
ABOUT FORWARD-LOOKING STATEMENTS
Certain statements in this Annual Report on Form 10-K constitute
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995, that are not historical facts but rather reflect
our current expectations concerning future results and events. Words such as
"believes," "expects," "intends," "plans," "anticipates," "likely," "will,"
"may," "shall" and similar expressions are intended to identify such
forward-looking statements. Such forward-looking statements involve known and
unknown risks, uncertainties and other important factors that could cause the
actual results, performance or achievements of SAFLINK Corporation (or entities
in which we have interests), or industry results, to differ materially from
future results, performance or achievements expressed or implied by such
forward-looking statements.
Readers are cautioned not to place undue reliance on these
forward-looking statements which reflect management's view only as of the date
of this Annual Report on Form 10-K. SAFLINK undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements which
may be made to reflect events or circumstances after the date hereof or to
reflect the occurrence of unanticipated events, conditions or circumstances.
The risks, uncertainties and other factors that might cause such
differences are discussed in our Management's Discussion and Analysis of
Financial Condition and Results of Operations contained herein.
PART I
ITEM 1. BUSINESS
GENERAL
SAFLINK Corporation provides cost-effective software that may be
combined with a variety of biometric hardware collection devices to verify the
identity of a user accessing a computer network or the Internet. Our products
may be used to protect business and personal information and to replace
passwords and PINs in order to safeguard and simplify access to electronic
systems. Biometric technologies identify and authenticate an individual by using
a digital representation of a specific biological characteristic, such as a
fingerprint or voice, captured by a biometric capture device, transforming this
digital representation into a unique identifier, and then matching that
identifier against one previously captured. Because this process relies on
largely unalterable human characteristics, positive identification is achieved
independent of any information possessed by the individual seeking
authorization.
The process of identity authentication typically requires that a person
present for comparison one or more of the following factors:
o SOMETHING KNOWN such as a password, PIN, or mother's maiden name;
o SOMETHING CARRIED such as a token, card, or key; or
o SOMETHING PHYSICAL such as fingerprint, iris or voice pattern,
signature motion, facial shape or other biological or behavioral
characteristic.
Comparison of biological and behavioral characteristics has
historically been the most reliable and accurate of the three factors, but has
also been the most difficult and costly to implement in a fully automated
environment. However, recent advances in biometric collection technologies and
processing algorithms have increased the speed and accuracy and reduced the cost
of implementing biometrics in commercial environments. We believe that
individuals, web site operators and enterprises will increasingly use this
method of identity authentication.
Our software products are built upon our proprietary Secure
Authentication Facility (SAF) client/server architecture that allows users to
use any of a number of biometric technologies. Our products are based on
published open systems application programming interface (API) standards. In
December 1997, we introduced and demonstrated the first implementation of the
Human Authentication - Application Programming Interface (HA-API). HA-API was
the first API to allow software developers and technology suppliers to build
their products using a common interface standard. After developing HA-API under
contract to the United States Department of Defense, we released it into the
public domain and it is now supported by more than thirty biometric technology
providers and systems developers. We are also a contributor to other leading API
standards-setting bodies including the Bio-API Consortium and Intel's Common
Data Security Architecture (CDSA) User Authentication Services (UAS) draft
standard. We intend to make our products compliant with whatever API standard is
ultimately adopted by the biometrics industry.
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Our SAF brand is being positioned and promoted with selected biometric
technologies currently available in the marketplace including those from SecuGen
Corporation, Veridicom, Inc., and Identix, Inc. for fingerprint imaging; Lernout
& Hauspie Speech Products NV and ITT Industries, Inc. for speaker verification;
Visionics Corporation for facial recognition; and IriScan, Inc. and Sensar, Inc.
for iris recognition. We have tested and determined that additional biometric
technologies are operational with our software products and we intend to
continue to qualify and negotiate license arrangements with other leading
biometric technology suppliers in the industry.
RECENT DEVELOPMENTS
o In January 2000, we announced the creation of our Internet Products Group,
located in a new Redmond, Washington office, and the relocation of our
Enterprise Products Group to our Reston, Virginia office. We also announced
that we would be moving our headquarters to Redmond during the first
quarter of 2000. We estimate that we will incur relocation costs of
approximately $400,000 during the first half of 2000.
o In January 2000, Novell announced its newest security solution, Novell
Modular Authentication Service that enables users to authenticate directly
to the Novell Directory Service (NDS) using alternatives to passwords. With
Novell, we jointly announced that Novell would begin shipping our SAF
Module for NMAS (SAF/nmas) as a standard feature of Novell's new NMAS
product. Basic software components of the SAF/nmas product will be included
in the Novell product package with contact information and Internet links
to enable Novell's customers to download our various biometric plug-in
modules (such as speech verification) from our Web site to enable the
system to function fully.
o In January 2000, we teamed with Intel Corporation to provide the first
public demonstration of Intel's Common Data Security Architecture (CDSA)
security framework software working in conjunction with our Internet and
enterprise security biometric products. This "proof-of-concept"
demonstration was designed to show attendees of the RSA 2000 Security
Conference how Intel is expanding its CDSA security product to include
biometric technology as another form of authentication.
o In March 2000, we announced that U.S. Patent 6,028,950, FINGERPRINT
CONTROLLED SET-TOP BOX, which discloses a method for securing electronic
commerce transactions initiated via a television set-top box, had been
issued to us by the United States Patent and Trademark office.
MARKET OVERVIEW
As the information age evolves into an increasingly networked
environment, individuals and organizations are becoming more aware and concerned
about protecting the privacy and ensuring the security of information maintained
on personal computers, the Internet, and enterprise-wide systems. A number of
technologies and strategies have been developed to address this concern,
including new encryption methods, firewalls, intrusion detection tools, access
permission systems, passwords, identification cards or tokens, digital
certificates, and single sign-on applications. However, the effectiveness of
each of these new technologies and strategies is dependent upon the most
critical and vulnerable component of the security process: positive personal
identification and authentication of the individual seeking access.
With the ongoing growth of e-commerce, access points to the Internet
and enterprise networks have increased significantly, and now include corporate
desktops, home PCs, mobile laptops, and hand-held devices. Website operators and
organizations providing enterprise information systems can now utilize biometric
identification technology to secure access to restricted or sensitive
information
We believe that the market for biometric technologies used in
information security and data privacy applications is largely undeveloped.
However, there are several evolving factors that we believe will contribute to
the growth of this industry in the near-term:
o Highly publicized security breaches in computer networks and
Internet sites have been traced to the vulnerability of
password-based authentication systems.
o The growth of e-commerce as a medium for business and consumer
transactions mandates the implementation of technologies which
facilitate the positive identification of anonymous parties.
o The use of multiple passwords is inconvenient for users and
expensive for businesses to support.
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o Enterprise information technology (IT) priorities are reportedly
shifting from the completion of Y2K compliance to new information
assurance initiatives that are intended to enhance the privacy and
confidentiality of data under an organization's care, custody, and
control.
o The IT industry is beginning to utilize public key infrastructure
(PKI) as one solution for enhanced data security. We believe
biometrics is a complementary technology to PKI that can play an
important role in protecting the PKI certificate keys from
unauthorized access. For the most part, these keys are now
protected by simple PIN numbers and passwords.
o Industry leaders such as Novell, IBM, Intel, Compaq, and Apple are
actively supporting the integration of biometrics within their
systems.
o Rapidly falling prices for biometric collection devices
(fingerprint sensors, digital cameras, microphones, etc.) and
improvements in the accuracy, performance and user acceptance of
the technology have made integration of biometrics with desktop PCs
and portable computers a cost effective security alternative for
the commercial market. The proliferation of multimedia-ready PCs
makes voice identification virtually a no-cost hardware option for
the majority of potential users.
o New and even more powerful biometric technologies, such as silicon
chip-based fingerprint sensors and iris recognition cameras, are
also becoming commercially viable.
o Finally, there is a commitment from over 45 organizations working
in a unified fashion towards adoption of a single application
programming interface (API) standard to encourage widespread
implementation of biometrics. Industry standards will facilitate
the interoperability of different biometric technologies.
We believe that all these factors will create increasing demand for
Internet and enterprise security software products that utilize biometrics. We
believe that one of the largest potential markets for biometrics is business to
business (B2B) and business to consumer (B2C) transactions conducted over the
Internet. We believe that biometrics offers a low-cost, simple solution to
ensure the positive identification of users seeking access to restricted
Internet services.
PRODUCTS
Our software products use biometric technologies to improve network and
Internet security. Instead of being asked for a password, users are prompted for
their unique biometric characteristic using any one of a number of technologies.
We build software that will work with a variety of hardware devices. Our
products can be divided into two groups - Internet products and enterprise
products.
INTERNET PRODUCTS:
Our Internet products, SAFsite and SAFtyLatch, are designed to operate
in a non-domain environment and are built around an "Internet Client/Server"
model. We intend to make our client software ubiquitous over the Internet while
simultaneously promoting the availability of web-based content accessible via
these clients and SAF enabled web destinations.
o SAFSITE - Enables the integration of biometric authentication into web
applications developed from leading web rapid application development (RAD)
products such as Microsoft's InterDev, Allair's Cold Fusion, and
Pervasive's Tango. SAFsite manages centralized storage and matching of user
biometric credentials through its unique SAFserver(TM)component. SAFserver
provides a means of storing biometric templates on an encrypted and
physically secure database in close proximity to the web server resource.
The web server sends authentication requests and receives match results
from the SAFserver via a range of interface mechanisms that can be tailored
to the specific web environment. SAFsite also provides functionality
including browser plug-ins and extensions to support a wide range of
biometric capture devices and algorithms. An example of a site built using
SAFsite can be found at www.safbank.com, a demonstration site that mimics
an online bank requiring biometric authentication to access financial
account information.
o SAFTYLATCH - Provides local PC file protection and privacy through
encryption and biometric authentication. Future releases of SAFtyLatch are
expected to provide a complementary "front-end" to our SAFsite Internet
product by providing an easy client interface to SAF enabled web servers.
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ENTERPRISE PRODUCTS:
Our enterprise products are designed to operate on domain-based
networks and include:
o SAF2000 - A professional software suite that includes:
o SAF/NT-Integrates with the Microsoft Windows NT security
interface and enhances the password authentication provided by Windows
NT with a multi-biometric capability. SAF/nt is the foundation of the
SAF2000 product line, offering baseline multi-biometric log-on
capability for initial access to the Windows NT domain server from a
variety of Windows client workstations including those based on
Windows 95/98, Windows NT, or Windows 2000 operating systems.
o SAF/IIS - Integrates into the Microsoft Internet Information Server
(IIS), offering multi-biometric security to web resources accessed
through the combination of IIS and Microsoft's Internet Explorer.
o SAF/TNG - Integrates multi-biometric authentication with Computer
Associates' Unicenter TNG's Single Sign-On option. With SAF/tng, users
log on once using their biometric identification and gain access to
all network resources managed by Unicenter TNG.
o SAF/NETWARE - Integrated into the Novell NetWare NDS interface,
SAF/netware enhances the password authentication provided by NetWare
with a multi-biometric capability. SAF/netware also supports a mixed
environment of Windows NT and Novell servers within a corporate domain
infrastructure.
o SAF/ENTRUST - Provides a biometric authentication front-end to
Entrust's public key infrastructure (PKI) products. SAF/entrust
provides secure access to critical encryption keys by replacing the
standard password prompt with a range of biometric choices to provide
positive identification of the user when releasing their private key
for authentication, secure email, and digital signature transactions.
o SAF/TRANSACTIONS - For those situations where authentication is
required above and beyond initial domain or workstation log-on,
SAF/transactions provides an application interface that can be used to
insert transaction-level biometric authentication into any enterprise
client/server application.
o SAF/NMAS - Shipped as a bundled feature with NMAS, Novell's unique
framework that allows users to authenticate using different AND multiple
Novell Directory Service (NDS) authentication methods (including face,
finger, voice, signature, iris, tokens, smart cards, and passwords).
MARKETING AND DISTRIBUTION
We use both direct and indirect sales and marketing techniques to
market our products and services. Our direct sales efforts are limited to a web
site on the Internet (www.saflink.com) and pursuit of selected end-user and OEM
customers where suitable channel partners have not yet been identified. Our
indirect sales activities provide support to channel partners by geographic
region and vertical markets.
We market our products into the horizontal markets for data and network
security primarily through:
o Distributors
o Value-added distributors ("VADs");
o Value-added resellers ("VARs");
o Internet developers;
o Internet e-commerce service providers;
o Original equipment manufacturers ("OEMs"); and
o Strategic alliance partners.
We market our products into vertical markets - such as healthcare,
government and banking - primarily through:
o Systems integrators ("SIs");
o Value-added resellers ("VARs");
o Independent software vendors ("ISVs"); and
o Strategic alliance partners.
Our marketing goals include identifying potential resellers of our
products, creating awareness of our product offerings, generating leads for
follow-on sales and achieving significant order volume by disseminating
our products through multiple indirect distribution channels worldwide.
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We also sell our products through biometric technology reseller
partners who combine our enterprise software with their own proprietary
biometric technology and sell it through their own sales channels. We are also
actively engaged in establishing relationships with international distributors
that will carry our products and make them available to a broad audience of
secondary distributors and resellers within their markets. An example is Triton
Secure, Ltd. of Australia, which offers the full line of our products in
Australia and New Zealand.
Our products are priced on the basis of the number of biometric users
in the SAFServer(TM) database. As the number of users on the server database
increases, the price per user drops. Resellers purchase our products at a
favorable discount for resale at a price that provides an attractive gross
margin for the reseller. We believe that this pricing model is competitive and
cost-effective for the end user customer and is attractive to our resellers.
INTERNET PRODUCTS:
We intend to market our SAFsite product primarily through indirect
channels. For example, we have teamed with our technology reseller partner,
SecuGen Corporation, to provide a SAFsite-based Internet consumer banking
solution to ING Direct of Canada. We also intend to aggressively pursue those
value-added application developers that focus on Internet consumer and
E-business solutions with a goal of developing a network of Internet solutions
providers that will offer our SAFsite product as part of their web-based product
and development service offerings. We intend to market SAFtyLatch through the
retail channel, through original equipment manufacturer (OEM) agreements, and
through other broad-based distribution channels.
ENTERPRISE PRODUCTS:
We have a team of technology sales consultants who are located in
various regions of the country to identify, recruit, train and support a network
of resellers currently selling, installing, and servicing Novell and Microsoft
enterprise client/server network solutions. These resellers are characterized as
regional VARs that specialize in enterprise back office network solutions. They
generally provide a range of value-added services to their enterprise customers
including network component sales, network consulting, systems installation, and
network management services.
We believe that our enterprise security products are complementary to
the network technology products currently sold by these resellers. Our
enterprise products allow these resellers to add biometric authentication to the
network operating system without costly custom software development. To
complement our reseller strategy, we have established a "Premier Partner"
program that provides technical and sales training, marketing collateral,
marketing incentives, web site links and lead generation to our reseller
partners.
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LICENSED TECHNOLOGY
We have non-exclusive worldwide licenses to core biometric technology
from the following partners:
o SECUGEN CORPORATION - Fingerprint technology for standalone,
mouse-integrated, and keyboard-integrated peripherals with USB and LPT
interfaces.
o VERIDICOM, INC. - Fingerprint technology for standalone peripherals
with USB and LPT interfaces.
o IDENTIX, INC. - Fingerprint technology for standalone and
keyboard-integrated peripherals with an LPT interface.
o LERNOUT & HAUSPIE SPEECH PRODUCTS NV ("L&H") - Speaker verification
technology for text dependent technology modules that work with a
Windows sound card and microphone.
o ITT INDUSTRIES, INC. - Speaker verification technology for text
dependent, randomly generated phrase technology modules that work with
a Windows sound card and microphone.
o VISIONICS CORPORATION - Face recognition technology for modules that
work with a Video for Windows compatible desktop videoconferencing
camera.
We are able to provide a customer's choice of technology by combining
the appropriate biometric plug-in module with our API-compliant product
framework. The customer may also purchase API-compliant modules that will work
with our software from third parties. Our strategy is to evaluate, qualify, and
integrate select biometric technology available from new and current technology
vendors. We are in various stages of qualification of additional potential
technology partners.
COMPETITION
Some of the other companies which have also developed software products
that utilize biometric identification technology and are active in the United
States are: BioNetrix, Digital Persona, Inc., American Biometric Company,
Identix Inc., Keyware, Inc., and I/O Software, Inc. Our strategy is to
differentiate our products in the marketplace by offering products that are
competitively priced, multi-biometrics enabled, open standards based, and
scalable for large users.
We also expect to continue to face competition from non-biometric
technologies such as traditional passwords, token cards, smart cards or digital
certificates. While in some instances we will compete with these technologies,
our strategy is to integrate other factors of authentication into our products.
For example `digital certificates' provide a secure method of encrypting
messages and accessing services. However, the sender's certificate key is often
protected only by a password or PIN number. We currently offer SAF products that
support smart cards and digital certificates, and we intend to continue to
enhance these offerings.
As a non-exclusive licensee of biometric technologies, we also expect
to experience competition from other products and services incorporating the
technology that we license.
PATENTS AND TRADEMARKS
We hold four assigned patents covering fingerprint imaging technology
which we intend to utilize to enhance and create strategic relationships with
fingerprint technology companies, set-top hardware companies, and hand held
peripheral manufacturers that will promote/use SAF software products:
1. PATENT 5,546,471, ERGONOMIC FINGERPRINT READER APPARATUS issued August 13,
1996, provides for an ergonomic fingerprint acquisition device. This device
has two displaced surfaces that provide a natural grasping surface for the
hand. The natural grasping surface ensures that a broad fingerprint surface
area is applied with even pressure to the fingerprint reading device
itself. We believe that this invention solves one significant problem of
typical fingerprint capture devices; ensuring that the same finger is
placed in the same position, with consistent orientation and pressure, to
improve overall system performance by yielding a high quality fingerprint
image capture at time of registration and verification.
2. PATENT 5,596,454, UNEVEN SURFACE IMAGE TRANSFER APPARATUS issued January
21, 1997, provides for a high performance integrated optical system. We
believe that this invention solves one significant problem of typical
fingerprint capture devices: the large size of an optical element required
to acquire a high resolution, distortion-free image of a fingerprint.
Solving this problem dramatically reduces the physical footprint required
for any peripheral device or integrated application of a fingerprint
acquisition device. In addition, the invention specifies a single element
multiple lens solution that dramatically reduces production cost while
improving product reliability, durability and longevity.
3. PATENT 5,920,642: ERGONOMIC FINGERPRINT READER APPARATUS issued July 6,
1999, is directed to improvements in set-top box technology. The remote
control used with the set-top box captures fingerprint data and operator
account information
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and transmits them to the set-top box to be matched with stored fingerprint
data. The results are used to adjust an operator's preferences, modify the
provided level of service, or authorize a transaction against a specific
account.
4. PATENT 6,028,950: FINGERPRINT CONTROLLED SET-TOP BOX issued February 22,
2000, discloses a method for securing electronic commerce transactions
initiated via a television set-top box using a fingerprint and is a
continuation of Patent 5,920,642. The fingerprint can be acquired by a
device built into the set top box or by a device built into the remote
control unit. The stored fingerprint data of the customer can be stored in
the set top box, a central server, distributed remote server, smart card,
or other form of "portable data file." We believe that this invention
solves the problem of positively identifying customers making e-commerce
transactions from a home set top access terminal
In addition, we have pending applications for our SAF software. There
is no assurance that we will be granted any pending patents, that any patent
previously granted will prove enforceable, or that any competitive advantage
will exist for us because of such patents or patent applications.
We also rely on unpatented know-how, trade secrets and continuing
research and development. We may not have any protection from other parties who
independently develop the same know-how and trade secrets. Protection of our
proprietary products and services may be important to our business, and our
failure or inability to maintain such protection could have a material adverse
affect on our business, condition (financial or otherwise), results of
operations and prospects. Moreover, while we do not believe that the production
and sale of our proposed products or services infringe on rights of third
parties, if such is not the case, failure to obtain needed licenses from such
third parties could have a material adverse effect on our ability either to
complete the development of certain products or services or to produce and
market such products or services. Failure to obtain any such licenses could
adversely impact our business, condition (financial or otherwise), results of
operations and prospects.
We have no rights to patents or other intellectual property (including
any biometric software algorithms or biometric service provider (BSP) modules)
that we license from others, other than pursuant to our license of rights. The
competitive nature of our industry makes any patents and patent applications of
our licensors important to us. There is no assurance that any of the patent
applications of such licensors will be granted, that patents previously granted
will prove enforceable, or that any such patents or patent applications will
lead to any competitive advantage for us.
We have registered certain service marks and trademarks with the United
States Patent and Trademark Office. However, we have not registered certain
other trademarks and trade names which we use with the United States Patent and
Trademark Office nor in any foreign government trademark offices. With respect
to unregistered trademarks, we accompany the use of such trademarks with our
name to indicate the origin of the products to which they are applied, to
distinguish them from the products of competitors and to build goodwill in such
trademarks. Certain rights, however, are protected under the provisions of the
Lanham Act and under state law in respect to unregistered or common law
trademarks.
EMPLOYEES
As of March 13, 2000, we had 33 full-time employees and 8 full-time
contract employees compared to 22 full-time employees as of March 26, 1999. The
increase in staffing is part of our effort to capitalize on what we believe
will be a rapidly growing market for network and Internet security solutions. We
intend to continue to increase our staff to support our efforts to penetrate
this market. From time to time, we also utilize consultants for specific
assignments.
We are an employment-at-will employer and none of our employees are
represented by a labor union. We believe that our relationship with our
employees is good. We believe that our future success will depend in part on our
ability to both retain our existing technical and other personnel and to attract
and retain other qualified employees.
ITEM 2. PROPERTIES
We lease temporary space for our recently relocated principal executive
offices and our Internet Products Group. These facilities consist of
approximately 3,000 square feet located at 18300 N.E. Union Hill Road, Suite
270, Redmond, Washington 98052. We also lease approximately 3,400 square feet of
office space for our Enterprise Products Group in Reston, Virginia.
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ITEM 3. LEGAL PROCEEDINGS.
On May 13, 1999, Anthony Calandra (the "Plaintiff") filed suit against
us and J. Anthony Forstmann, a director and former chairman of SAFLINK in the
United States District Court Middle District of Florida Tampa Division (Civil
Action No. 99-1135-CIV-T-25E). The amended complaint alleged that (i) we granted
to the Plaintiff a right to purchase 150,000 shares of our common stock for $.20
per share, (ii) we refused to honor the option, and (iii) we erroneously took
the position that the option was to be adjusted for a one for six reverse split
of our common stock. This suit was dismissed with prejudice in February 2000.
On June 16, 1999, International Interest Group, Inc. ("IIG") filed suit
against us and Mr. Forstmann in the Superior Court of the State of California
for the County of Los Angeles (Civil Action No.: BC212033). This lawsuit relates
to our alleged failure to perform under the terms of a settlement agreement
relating to another lawsuit filed by IIG. The complaint alleges three causes of
action: (i) our breach of contract with IIG causing IIG to sustain damages in
excess of $1.0 million; (ii) fraud; (iii) recission by IIG against us and Mr.
Forstmann. On the first and second causes of action, IIG has asked the court for
actual contract damages, consequential damages, and attorney fees and costs
incurred in the prosecution of these actions. On the second cause of action, IIG
has also asked for punitive damages. On the third cause of action, IIG has asked
for a judicial order of recission restoring to IIG all rights, causes, claims
and remedies in the lawsuit. On all causes of action, IIG seeks all recoverable
costs of suit incurred, prejudgment interest on all causes of action, and other
relief the court deems just and proper. The second and third causes of action
have been dismissed with prejudice. We do not believe the remaining claims have
any merit and we intend to vigorously defend ourselves in this lawsuit.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our common stock has been listed on the Nasdaq SmallCap Market since
April 27, 1993 (NASDAQ:ESAF). There is presently a limited public trading market
for our common stock. There is no assurance that a viable public market for our
shares will develop in the future or, if one develops, that such a market will
be sustained.
The following table sets forth the range of high and low bid quotations
for our common stock as reported on the SmallCap Market for each full quarterly
period from January 1, 1998 through December 31, 1999 and for the period January
1, 2000 through March 13, 2000. Such quotations have been adjusted for the May
27, 1998 1 for 6 reverse split of our common stock and represent prices between
dealers without adjustment for retail markups, markdowns or commissions, and may
not necessarily represent actual transactions.
COMMON STOCK BID PRICE
-------------------------
HIGH LOW
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1998
First Quarter $ 6.187 $ 1.687
Second Quarter 4.875 1.250
Third Quarter 3.813 0.875
Fourth Quarter 2.125 0.250
1999
First Quarter 4.500 0.875
Second Quarter 2.688 1.000
Third Quarter 1.813 0.813
Fourth Quarter 2.156 1.125
2000
First Quarter (through March 13, 2000) 8.750 2.000
On March 13, 2000 the closing bid price of our common stock as reported
on the SmallCap Market was $6.531. As of March 13, 2000 there were approximately
333 record holders of our common stock. As of March 9, 2000 there were
approximately 7,404 beneficial holders of our common stock.
Since our incorporation, we have not paid or declared dividends on our
common stock, nor do we intend to pay or declare cash dividends on our common
stock in the foreseeable future.
9
ITEM 6. SELECTED FINANCIAL DATA
(in thousands except per share data)
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------
SUMMARY OPERATING DATA 1999 1998 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------
Revenue $ 1,303 $ 4,920 $ 1,585 $ 2,305 $ 401
Net loss (3,927) (1,384) (7,424) (7,340) (5,070)
Preferred stock deemed dividend -- -- 1,470 1,412 --
Preferred stock dividend and accretion 104 278 350 303 --
Net loss attributable to common stockholders (4,031) (1,662) (9,244) (9,055) (5,070)
Net loss per common share (0.23) (0.23) (1.57) (1.93) (1.31)
Weighted average number of common shares 17,541 7,216 5,875 4,680 3,873
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------
SUMMARY BALANCE SHEET DATA 1999 1998 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------
Total assets $ 6,782 $ 2,685 $ 2,578 $ 2,832 $ 1,600
Total liabilities 1,184 716 1,807 1,348 510
Stockholders' equity 5,598 1,969 771 1,484 1,090
10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATING ACTIVITIES
We incurred net losses of approximately $3.9 million for fiscal 1999,
$1.4 million for fiscal 1998 and $7.4 million for fiscal 1997, primarily due to
our efforts in developing and marketing our biometric software products.
Approximately $786,000 or 60% of total revenue was from commercial software
sales during 1999 compared to $3.4 million or 69% in 1998. The following
discussion presents certain changes in our revenue and operating expenses which
have occurred between fiscal years 1999 and 1998, and between fiscal years 1998
and 1997 and should be read in conjunction with our Consolidated Financial
Statements, including the notes thereto, and Selected Financial Data included
elsewhere in this Form 10-K.
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
REVENUE AND COST OF REVENUE
Revenue for the year ended December 31, 1999 decreased by approximately
$3.6 million, from approximately $4.9 million for the year ended December 31,
1998 to approximately $1.3 million for the year ended December 31, 1999. This
decrease was primarily due to the lack of a 1999 transaction comparable to the
sale of approximately $3.5 million of prepaid licenses to XL Vision, Inc. during
1998 coupled with a reduction in post contract services revenue of approximately
$443,000 due to the Company's decision to divest itself of contracts to manage
the identification and authentication aspects of the Connecticut and New Jersey
welfare systems in early 1999.
The approximately $763,000 decrease in cost of revenue was primarily
attributable to the reduction in revenue.
Gross profit decreased to $944,000 or 75% of revenue during 1999 from
$3.8 million or 77% of revenue in 1998 primarily due to the change in the mix of
product revenues.
OPERATING EXPENSES
Operating expenses for 1999 decreased by approximately $369,000, from
approximately $5.3 million for the year ended December 31, 1998 to approximately
$4.9 million for the year ended December 31, 1999. This decrease was primarily
due to decreases in commissions and depreciation as well as the expiration of
our obligation to make minimum royalty payments of $125,000 per quarter to
Cogent Systems, Inc. These decreases were partially offset by increased
operating costs associated with personnel increases initiated during the fourth
quarter of 1999. The following table provides a breakdown of the dollar and
percentage changes in operating expenses:
CHANGES IN OPERATING EXPENSES
-----------------------------
(000S) PERCENT
----- -----
Product development $ 93 7%
Sales and marketing (226) (15)
Minimum royalties (125) (25)
General and administrative (111) (1)
----- -----
$(369) (7)%
===== =====
PRODUCT DEVELOPMENT
The increase in product development expenses was primarily due to a
fourth quarter increase of approximately $238,000 as we added staff to enhance
current products and develop new products to meet anticipated demand for our
products as organizations begin to redirect their information technology
expenditures from Y2K remediation efforts to enhanced Internet and network
security solutions. We expect significant additional increases in product
development expenses as we expand our product development efforts in 2000.
11
SALES AND MARKETING
The decrease in sales and marketing expenses was primarily due to the
lack of commissions comparable to the approximately $351,000 commission paid on
sales to XL Vision in 1998. This reduction was partially offset by increases in
travel and entertainment and advertising expenses as we increased our efforts to
promote our Internet and network security products beginning in 2000. We expect
significant additional increases in sales and marketing expenses as we expand
our sales and marketing activities in 2000.
GENERAL AND ADMINISTRATIVE
The decrease in general administrative expense was centered in
depreciation expense and was primarily due to the final write-off of assets
acquired for research and development activities in prior years. We expect
certain general and administrative costs to increase as we add infrastructure to
support our increased product development and sales and marketing activities.
INTEREST AND OTHER INCOME
The $82,000 decrease in interest and other income was primarily due to
a $91,000 decrease in gain on sale of certain fixed assets, partially offset by
an increase in interest income due to higher cash available for investment in
interest-bearing overnight repurchase agreements.
OPERATING EXPENSE ANALYSIS BY FUNCTIONAL ACTIVITY
The following table provides an analysis of the 1999 over 1998 change in total
operating expense by functional category:
CHANGES IN OPERATING EXPENSES
-----------------------------
(000S) % CHANGE
----- -----
Compensation and related benefits $ 283 15%
Legal and professional services (37) (6)
Travel and entertainment 30 11
Advertising and promotion 92 40
Telephone and Internet (42) (21)
Commission (351) (100)
Depreciation (333) (59)
Other (11) --
----- -----
$(369) (7)%
===== =====
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
REVENUE AND COST OF REVENUE
Revenue for the year ended December 31, 1998 increased by approximately
$3.3 million over revenue for the year ended December 31, 1997. This increase
was primarily due to the sale of approximately $4.0 million of software licenses
and related services to XL Vision in 1998, partially offset by decreases in
software sales and services to miscellaneous other customers. Approximately $3.4
million or 69% of total revenue was from commercial software sales during 1998
compared to $294,000 or 19% in 1997 resulting from our shift to focusing on
software based solutions during 1998.
Government related project revenue, including both PCS and product
revenue, associated with the States of New Jersey and Connecticut welfare
control systems increased to approximately $627,000 in 1998 from approximately
$535,000 in 1997 as the result of a system expansion installed for the State of
New Jersey in 1998. As part of our increased focus on commercial software
development and sales, we entered into agreements during the first quarter of
1999 to (i) transfer our contractual responsibilities for the management of the
identification and authentication aspects of the Connecticut welfare system to
the prime contractor, Polaroid Corporation, and (ii) sell our software and
transfer the contractual responsibilities for the management of the
identification and authentication aspects of the New Jersey welfare system to a
third party contractor, Image Computing Incorporated. These new resellers have
agreed to purchase software support through the balance of 1999.
The approximately $378,000 increase in cost of revenue was primarily
attributable to the sale of approximately $335,000 of hardware to XL Vision, at
cost, as part of the agreement making XL Vision a master reseller to the
healthcare market.
12
Gross profit increased to $3.8 million or 77% of revenue during 1998
from $841,000 or 53% of revenue in 1997 primarily due to the change in product
mix to primarily software sales in 1998.
OPERATING EXPENSES
Operating expenses for 1998 decreased by approximately $3.2 million
from 1997 primarily due to (i) the expense reduction plan implemented in late
1997, (ii) the sale of our healthcare line of business to XL Vision in 1998, and
(iii) the elimination of expenses outside our current strategic focus on
indirect sales and marketing of software products. The following table provides
a breakdown of the dollar and percentage changes in operating expenses:
Changes In Operating Expenses
-----------------------------
(000S) % CHANGE
------- --------
Product development $ (939) (42)%
Sales and marketing (1,252) (45)
General and administrative (973) (33)
------- -------
$(3,164) (37)%
======= =======
PRODUCT DEVELOPMENT
The decrease in product development expenses was primarily due to
reductions in employee expense, travel and professional consulting services
related to hardware and the elimination of expenditures outside of our current
strategic focus. We expect to continue to incur product development costs as we
develop additional products and enhance existing products.
SALES AND MARKETING
The decrease in sales and marketing expenses was primarily due to
reductions in employee expense, travel, professional consulting services and
advertising, partially offset by a one-time commission paid in connection with
the XL Vision transactions. As part of the current strategic focus, we sold our
healthcare line of business, eliminated a portion of our other sales and
marketing staff and closed certain offices shifting such sales and marketing
efforts and costs to certain of our strategic partners.
GENERAL AND ADMINISTRATIVE
The decrease in general and administrative expense was primarily due to
the accrual of $450,000 of settlement costs related to the IIG lawsuit in 1997
compared to $157,000 of such costs in 1998 as well as decreases in employee
expense, travel, outside consulting, telephone and legal and professional
expense. We expect certain general and administrative costs to increase if sales
of our products increase.
INTEREST AND OTHER INCOME
This decrease in interest and other income was primarily due to a
$150,000 write-off of obsolete assets and a $136,000 reduction in interest
income due to lower cash balances partially offset by a $200,000 gain on sale of
assets transferred to XL Vision during 1998.
13
OPERATING EXPENSE ANALYSIS BY FUNCTIONAL ACTIVITY
The following table provides an analysis of the 1998 over 1997 change
in total operating expense by functional category:
CHANGES IN OPERATING EXPENSES
-----------------------------
(000S) % CHANGE
------- --------
Compensation and related benefits $(1,688) (48)%
Legal and professional services (506) (64)
Consulting (441) (55)
Travel and entertainment (443) (64)
Advertising and promotion (218) (48)
Telephone and Internet (80) (29)
Commission 351 *
Other (139) (7)
------- -------
$(3,164) (37)%
======= =======
* Not meaningful
YEAR 2000 EXPOSURE
The Year 2000 problem was the result of computer programs being written
using two digits (rather than four) to define the applicable year. Programs that
have time-sensitive software may recognize a date using "00" as the year 1900
rather than 2000, which could result in miscalculations or system failures. We
recognized the need to ensure that our operations would not be adversely
impacted by Year 2000 software failures and therefore took appropriate action to
address the potential impact of the Year 2000 problem. We have not experienced,
and we do not expect to experience, any systems failures or other losses as a
result of the Y2K problem and addressing potential problems did not have a
material adverse impact on our business, condition (financial or otherwise),
results of operations, prospects, or cash flows.
LIQUIDITY AND CAPITAL RESOURCES
Cash and working capital as of December 31, 1999 were approximately
$5.3 million and $5.4 million, respectively, as compared to cash and working
capital of approximately $1.7 million and $1.5 million, respectively, as of
December 31, 1998. The increase was primarily due to the issuance of 1,681,670
shares of Common Stock, and warrants to purchase 840,835 shares of Common Stock
at $1.00 per share, for $2,102,000 on July 23, 1999 and the issuance of 100,000
shares of Series D Preferred Stock to RMS Limited Partnership (See "Factor that
May Affect Future Results - Several stockholders have the ability to control the
vote of our stock" below) for an aggregate purchase price of $5.0 million on
November 9, 1999, partially offset by operating losses. We expended cash at a
rate of approximately $300,000 per month during the last three months of 1999.
Cash as of March 13, 2000 was approximately $4.8 million. Cash and
working capital as of February 29, 2000 were approximately $4.8 million and $4.9
million, respectively. The decrease from December 31, 1999, was primarily due to
net operating expenses, partially offset by proceeds of approximately $700,000
from the exercise of common stock options and warrants.
In an effort to minimize our net cash expenditure rate during 1998 and
1999, we continued a plan to reduce operating expenses which was initiated in
September 1997. This plan included, among other things, closing certain
corporate facilities outside our Tampa headquarters and reducing the number of
employees. We used cash of approximately $3.6 million for operating activities
in 1999 compared to approximately $723,000 in 1998. The increased use of cash
was primarily due to the sale of prepaid software licenses to one customer that
generated approximately $4.0 million in cash in 1998 with no comparable
transaction in 1999.
We expended net cash at a rate of approximately $600,000 per month
(excluding approximately $700,000 of proceeds from the exercise of common stock
options and warrants) during January and February of 2000. We believe that our
existing working capital, together with anticipated cash flows from sales under
current contracts will be sufficient to meet our expected working capital needs
into the year 2001.
Absent a significant increase in sales, which itself may require a
significant increase in working capital, we will require significant additional
funds to continue our operations into the year 2001. The options we are
reviewing to obtain
14
additional financing include, but are not limited to, the sale and issuance of
stock, the sale and issuance of debt, the sale of certain of our assets and
entering into an additional strategic relationship or relationships to either
obtain the needed funding or to create what we believe would be a better
opportunity to obtain such funds. In addition, we are seeking to raise
additional capital to accelerate our product development and sales and marketing
efforts as well as to redeem the Series D convertible preferred stock. It is
possible that any such additional infusion of capital would be in the form of
the sale and issuance of additional shares of our common stock or securities
that are convertible into our common stock, which would substantially increase
the number of shares of common stock outstanding on a fully-diluted basis. The
failure to obtain such additional funds could cause us to cease or curtail
operations. Even if such additional funding is obtained, there is no assurance
that we will be able to generate significant sales of our products or services,
or, if we are able to consummate significant sales, that any such sales would be
profitable.
FACTORS THAT MAY AFFECT FUTURE RESULTS
In addition to other information contained in this Annual Report on
Form 10-K, the following factors, among others, sometimes have affected, and in
the future could affect our actual results and could cause future results to
differ materially from those in any forward looking statements made by us or on
our behalf. Factors that could cause future results to differ from expectations
include, but are not limited to the following: our need for additional funds,
our limited operating history and substantial accumulated net losses, control of
SAFLINK, the Nasdaq SmallCap Market eligibility and maintenance requirements,
technological and market uncertainty, competition, our dependence upon software
licensors, our dependence on key employees, volatility of the market price of
our common stock, our acquisition strategy, growth in the biometric technology
market and acceptance of our products in these markets, failure of our marketing
partners to promote our products, and our dividend policy.
WE WILL NEED ADDITIONAL FUNDS TO MAINTAIN OUR OPERATIONS AND THE TERMS OF THE
ADDITIONAL FINANCING MAY RESTRICT OUR OPERATIONS.
We believe that our existing working capital, together with anticipated
cash flows from sales from current contracts may be insufficient to meet our
expected working capital needs beyond the year 2000. We also expect to make
continued investments in researching, developing and engineering our systems,
software and products to remain competitive. If we need additional working
capital and are not generating sufficient additional profitable sales of our
products or services, we may need to issue additional shares of common stock or
securities that are convertible into common stock. Our issuances of these
securities could dilute the interests of stockholders. Additional financing may
be unavailable to us or only available on terms unacceptable to us. The terms of
available financing may restrict our operations.
WE HAVE A LIMITED OPERATING HISTORY DURING WHICH WE HAVE ACCUMULATED SUBSTANTIAL
NET LOSSES AND WE MAY SUSTAIN SUBSTANTIAL LOSSES IN THE FUTURE.
From our commencement of business in October 1991, we have been
principally engaged in organizational, developmental and marketing activities.
Through December 31, 1999, we have reported an accumulated net loss of
approximately $49.4 million. We have continued to accumulate losses after
December 31, 1999 to date and we may be unable to generate significant revenues
or any net income in the future.
SEVERAL STOCKHOLDERS HAVE THE ABILITY TO CONTROL THE VOTE OF OUR STOCK
RMS Limited Partnership, a Nevada limited partnership controlled by Roy
M. Speer ("RMS") and Francis R. Santangelo, acting together, are in a position
immediately to exercise significant control over the general affairs of SAFLINK,
to control the vote on any matters presented to stockholders and to direct the
business and policies of SAFLINK. As of March 13, 2000, RMS and Mr. Santangelo
beneficially owned approximately 41.5% and 3.6% of our common stock,
respectively. Mr. Santangelo and RMS are parties to a certain stockholders'
voting agreement pursuant to which they agreed to vote certain shares for
directors nominated by RMS, and not to vote in favor of certain specified
actions unless agreed to by RMS. In addition, RMS owns 100,000 shares of our
Series D Preferred Stock which are convertible into approximately 3.6 million
shares of our common stock and, if converted, would result in RMS beneficially
owning approximately 50.6% of our then outstanding common stock.
OUR COMMON STOCK COULD BE DELISTED FROM THE NASDAQ SMALLCAP MARKET IF WE FAIL TO
COMPLY WITH THE ELIGIBILITY AND MAINTENANCE REQUIREMENTS
During 1999, we received letters from The Nasdaq Stock Market, Inc.
notifying us that our common stock was not in compliance with Nasdaq Marketplace
Rule 4310 (c)(4) ("Rule 4310(c)(4)"), which requires us to maintain a $1.00
minimum
15
bid price for our common stock. We believe that as of March 13, 2000, we are in
compliance with the minimum bid price requirement set forth in Rule 4310(c)(4).
Also during 1999, we received letters from Nasdaq notifying us that our
common stock was not in compliance with Nasdaq Marketplace Rule 4310 (c)(2)
("Rule 4310(c)(2)"), which requires us to (i) maintain net tangible assets of $2
million; (ii) maintain a market capitalization of $35 million; or (iii) have
recorded net income of $500,000 in the most recently completed fiscal year or in
two of the three most recently completed fiscal years. We believe that as of
March 13, 2000, we are in compliance with Rule 4310(c)(2).
There is no assurance that we will be in compliance with Rule
4310(c)(4) or Rule 4310(c)(2) at any time in the future or that our common stock
will not be delisted from the SmallCap Market. If our common stock was delisted
from the SmallCap Market, it would adversely affect (i) the prices of such
securities, (ii) the ability of holders to sell them, and (iii) our ability to
raise additional funds, especially in the public markets.
TECHNOLOGICAL AND MARKET UNCERTAINTY MAY LIMIT OUR ABILITY TO PRODUCE AND SELL
OUR PRODUCTS AND SERVICES
Various problems may impede the development, production, distribution
and marketing of our products and services. We may be limited by our financial
and technical abilities in trying to solve these problems. More advanced or
alternate technology employed by competitors that is unavailable to us could
give those competitors a significant advantage over us. It is possible that
products and services developed by our competitors will significantly limit the
potential market for our products and services or render our products and
services obsolete. In addition, laws, rules, regulations or industry standards
may be adopted which would require us to modify our products or services or
which may otherwise materially adversely affect us.
RAPID CHANGES IN TECHNOLOGY MAY REQUIRE US TO MODIFY OUR PRODUCTS AND SERVICES
Technology employed in our industry is subject to rapid change. Our
future success will depend upon our ability to keep pace with a changing
marketplace. We will have to integrate new technology into our software and
introduce a variety of new products and product enhancements to address the
changing needs of the marketplace.
WE MAY NOT BE ABLE TO SUCCESSFULLY COMPETE IN THE HIGHLY COMPETITIVE MARKET FOR
NETWORK AND INTERNET SECURITY SOFTWARE
We compete in the highly competitive market for network and Internet
security software and we expect this competition to intensify as the biometric
industry continues to develop. This security market is dominated by more
traditional non-biometric identification and authentication techniques, such as
cards, keys, passwords and personal information. A number of other companies
currently offer systems in the United States incorporating biometric
authentication methods. In addition, several other companies produce or are
developing other biometric technologies which may compete with us and our
technology and may be integrated into authentication products and services that
are competitive with those we offer. Some examples of these technologies are:
identification by eye retina blood vessel patterns, hand geometry and signature
analysis. We compete with companies that have substantially greater resources
than us and are better equipped than us. We may be unable to compete
successfully against these companies or their products and services.
Announcements and advances by our competitors concerning new products or
features, governmental or other contracts and developments or disputes relative
to patents or proprietary rights may also have an adverse material impact on our
business, results of operations and prospects.
WE ARE DEPENDENT ON LICENSES OF SOFTWARE FROM THIRD PARTIES
We have licensed rights to biometric technologies under agreements with
software algorithm suppliers including ITT Industries, Inc., Learnout & Hauspie
Speech Products N.V., Veridicom, Inc. and Visionics Corporation. These rights
may be terminated if we fail to pay required license fees or commit any other
material breach of these agreements. While we believe we are not in default of
these agreements as of the date of this report, there is no assurance that
defaults will not occur in the future or that we will make the minimum royalty
payments required under these agreements. Our products can be and are sold
without the biometric technology we have licensed. However, any loss of our
license rights could substantially impair or entirely preclude our ability to
compete with products including this technology.
16
OUR SUCCESS IS DEPENDENT ON OUR ABILITY TO RETAIN KEY EMPLOYEES AND TO ATTRACT
HIGH QUALITY NEW EMPLOYEES
All of our employees have "at-will" employment agreements and may leave
without notice. We rely heavily on stock options to provide a meaningful
retention incentive to existing and new employees. As of March 13, 2000,
unvested options held by senior management and all other employees are 655,222
and 759,756, respectively, which represent a 2.2% and a 2.6% ownership interest
in our company on a fully diluted basis. The inability to offer competitive
compensation packages including continued stock option awards could have a
material adverse effect on our recruiting and retention of key employees. As of
March 13, 2000, there were 577,358 shares of common stock available for issuance
under our stock option plan and there is no assurance that stockholders will
approve an amendment to the plan to increase the number of shares that may be
awarded.
SHARES ELIGIBLE FOR FUTURE SALE COULD ADVERSELY AFFECT OUR ABILITY TO RAISE
CAPITAL AND THE MARKET PRICE FOR OUR STOCK
As of March 13, 2000, 19,452,738 shares of our common stock were
outstanding, of which substantially all may be resold in the public market
immediately. In addition, the remaining shares of common stock are available for
resale in the public market under Rule 144. Sales of shares of our common stock
in the public market or the perception that sales would occur could adversely
affect the market price of our common stock. These sales or perceptions of
possible sales could also impair our future ability to raise capital. In part as
a result of sales or the perception of the possibility of sales of common stock,
the market price for our common stock is likely to be volatile. It is possible
that this volatility will have an adverse effect on the market price of the
common stock.
THERE IS A LIMITED PUBLIC MARKET FOR OUR COMMON STOCK AND WE CANNOT ASSURE YOU
THAT THERE WILL BE ACTIVE PUBLIC TRADING FOR OUR COMMON STOCK IN THE FUTURE
There is a limited public market for our common stock. The average
daily trading volume of our common stock on the NASDAQ SmallCap Market over the
past five years has been approximately 48, 396shares. The public trading market
for our common stock has been limited, and the market price for our common stock
may not necessarily reflect our value. There may not be any active public
trading market for our common stock in the future.
THE MARKET PRICE OF OUR COMMON STOCK HAS BEEN AND MAY CONTINUE TO BE VOLATILE
The market price of our common stock has been volatile and may be
volatile in the future. The market price of our common stock may be impacted by
events related to technology companies generally. Factors and events, including
the following, may contribute to volatility and may have a significant impact on
the market price of our common stock:
o our announcements or announcements by our competitors concerning new
product developments, governmental contracts or other contracts;
o developments or disputes relating to patents or proprietary rights;
and
o potential governmental regulation.
WE ARE EXPLORING IMPLEMENTING AN ACQUISITION STRATEGY WITH WHICH WE HAVE NO
EXPERIENCE
We are exploring a growth strategy that could include acquisitions of
companies involved in related businesses including e-commerce and the Internet.
We may not identify appropriate targets and we may not consummate any
transactions. Any growth may result in significant dilution to our existing
stockholders by the issuance of equity-based securities. Any acquisitions would
place substantial demands on our management, working capital and financial and
management control systems. Success of any future expansion plans will depend in
part upon our ability to integrate the new business segments and to continue to
improve and expand management and financial control systems and to attract,
retain and motivate personnel equipped to manage corporate changes. We cannot be
sure that we will successfully manage these risks. If we fail to adequately
manage the growth of the business, it could have a severe negative impact on our
financial results and stock price.
17
OUR SUCCESS WILL BE DEPENDENT ON SIGNIFICANT GROWTH IN THE BIOMETRIC MARKET AND
BROAD ACCEPTANCE OF PRODUCTS IN THESE MARKETS
All of our revenues are derived from the sale of products and services
that utilize biometric technologies. Our software products represent a new
approach to identity verification, which has only been used in limited
applications to date. Biometric security products have not gained widespread
commercial acceptance. Our success depends on the development and expansion of
markets for biometric products both domestically and internationally. Further,
our products may not achieve sufficient market acceptance to ensure our
viability. In addition, we cannot accurately predict the future growth rate of
this industry or the ultimate size of the biometric technology market. The
expansion of the market for our products depends on a number of factors
including:
o the cost, performance and reliability of our products and the products
of our competitors;
o customers' perception of the benefits of these products;
o public perceptions of the intrusiveness of these products and the
manner in which firms are using the biometric information collected;
o public perceptions regarding the confidentiality of private
information; and
o marketing efforts and publicity regarding these products.
The use of biometric products for some applications has been objected
to on civil liberties grounds. Legislation has been proposed to regulate the use
of biometric security products partly in response to these objections.
IF OUR MARKETING PARTNERS FAIL TO PROMOTE OUR PRODUCTS, WE MAY NOT BE ABLE TO
GENERATE SUFFICIENT REVENUE
A significant portion of our revenues are expected to come from sales
to marketing partners such as original equipment manufacturers, distributors,
value-added distributors and resellers. Some of these relationships are
formalized in agreements; however, these agreements are often terminable with
little or no notice or penalty and may be subject to periodic amendment. The
failure of our marketing partners to promote our products would severely limit
our ability to generate revenue. We cannot control the amount and timing of
resources that such marketing partners devote to their activities on our behalf
and there is a risk that these parties may not actively promote our products. We
intend to continue to seek strategic relationships to distribute and sell some
of our products. However, we may be unable to negotiate acceptable distribution
relationships in the future and cannot predict whether current or future
distribution relationships will be successful.
WE HAVE NEVER PAID AND DO NOT EXPECT TO PAY DIVIDENDS
We have not previously paid any dividends on our common stock and we
intend to follow a policy of retaining all of our cash flow from operations, if
any, to finance the development and expansion of our business.
18
ITEM 7(a). QUALATIVE AND QUANTITIVE DISCLOSURE ABOUT MARKET RISK
We are exposed to market risk from changes in interest rates. We do
not use any hedging transactions or any financial instruments for trading
purposes and we are not a party to any leveraged derivatives.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Index to Financial Statements.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Information concerning our directors and officers is included in
the definitive Proxy Statement for our 2000 Annual Meeting of Stockholders,
which is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION.
Information concerning our executives' compensation is included in
the definitive Proxy Statement for our 2000 Annual Meeting of Stockholders,
which is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information required to be disclosed hereunder is included in the
definitive Proxy Statement for our 2000 Annual Meeting of Stockholders, which is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTONS.
Information required to be disclosed hereunder is included in the
definitive Proxy Statement for our Annual Meeting of Stockholders, which is
incorporated herein by reference.
19
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this Annual Report on Form
10-K:
(1) Consolidated Financial Statements
The financial statements filed as a part of this report are listed in the "Index
to Financial Statements".
(2) Financial Statement Schedules
All schedules have been omitted because they are either not applicable, not
material or the required information has been given in the financial statements
or in notes to the financial statements.
(b) Reports on 8-K
During the fourth quarter of 1999, we filed one report on Form 8-K on
November 12, 1999.
(c) Exhibits
EXHIBIT
NO. DESCRIPTION
- --- -----------
3.1 Articles of Incorporation, as amended to date, of the Company
(incorporated by reference to Exhibit 3.1 of the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 1992).
3.1.1 Certificate of Amendment of Certificate of Incorporation (incorporated
by reference to Exhibit 3.1.1 of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 1999).
3.2 By-laws of the Company (incorporated by reference to Exhibit 3.3 of the
Company's Annual Report on Form 10-K for the fiscal year ended December
31, 1991).
3.3 Certificate of Amendment to Certificate of Incorporation of the
Company, dated as of July 2, 1996 (incorporated by reference to Exhibit
3.3 of the Company's Annual Report on Form 10-K for year ended December
31, 1996).
3.4 Certificate of Amendment to Certificate of Incorporation of the
Company, dated as of May 26, 1998 (incorporated by reference to Exhibit
3.4 of the Company's Annual Report on Form 10-K for the year ended
December 31, 1998).
4.1 Certificate of the Voting Powers, Designations, Preferences, Rights,
Qualifications, Limitations and Restrictions of the Series A Preferred
Stock of the Company (incorporated by reference to Exhibit 4.1 of the
Company's Quarterly Report on Form 10-Q for the period ended March 31,
1997).
4.2 Certificate of Designation, Preferences and Rights of Series D
Preferred Stock (incorporated by reference to Exhibit 4 of the
Company's Current Report on Form 8-K, dated November 12, 1999).
10.1 Agreement and Plan of Merger dated as of December 24,1991 between the
Company, Topsearch and Top Search Merging Corp. (incorporated by
reference to the Company's Current Report on Form 8-K, dated December
24, 1991).
10.2 Stock Subscription Agreement by and between The National Registry Inc.
and RMS Limited Partnership, dated November 9, 1999 (incorporated by
reference to Exhibit 4 of the Company's Current Report of Form 8-K,
dated November 12, 1999).
10.4 License Agreement, dated as of April 1, 1992, by and between Cogent
Systems, Inc. and the Company (confidential treatment requested)
(incorporated by reference to Exhibit 10.1 of the Company's Quarterly
Report on Form 10-Q for the period ended March 31, 1992).
20
10.5 Stock Purchase Agreement, dated as of April 28, 1992, by and between
Home Shopping Network and the Company (incorporated by reference to
Exhibit 10.2 of the Company's Quarterly Report on Form 10-Q for the
period ended March 31, 1992).
10.6 Stock Incentive Plan (incorporated by reference to Exhibit 10.6 of the
Company's Annual Report on Form 10-K for the fiscal year ended December
31, 1992).
10.10 Letter of Intent, dated as of March 9, 1995 (incorporated by reference
from the Exhibits to the Company's Report on Form 8-K, dated March 1,
1995).
10.11 Stock Purchase Agreement, dated as of March 14, 1995, by and among the
Company, RMS Limited Partnership ("RMS") and Francis R. Santangelo
(incorporated by reference from the Exhibits to the Company's Current
Report on Form 8-K, dated March 14, 1995).
10.14 Stockholder's Voting Agreement, dated as of March 14, 1995, by and
between J. Anthony Forstmann, RMS and Francis R. Santangelo
(incorporated by reference from the Exhibits to the Company's Current
Report on Form 8-K, dated March 14, 1995).
10.15 First Amended and Restated Stockholders Voting Agreement as of June 25,
1999, by and between J. Anthony Forstmann, RMS and Francis R.
Santangelo (incorporated by reference from Schedule 13D/A, dated June
30, 1999).
10.18 Form of Warrant, dated February 5, 1997 (incorporated by reference to
Exhibit 10.2 of the Company's Current Report on Form 8-K, dated
February 6, 1997).
11 Statement re: Computation of Earning per Share (see note 9 of Notes to
Financial Statements)
23 Consent of Ernst & Young LLP
27 Financial Data Schedule
21
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
SAFLINK CORPORATION
(REGISTRANT)
Date: March 22, 2000 By: /s/ JEFFREY P. ANTHONY
----------------------------------------------------
Jeffrey P. Anthony
President, Chief Executive Officer and Director
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints James W. Shepperd his true and lawful
attorney-in-fact and agent, with full power of substitution and resubstitution
for him and in his name, place and stead, in any and all capacities, to sign any
and all amendments to this Annual Report on Form 10-K, and all documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorney-in-fact and agent, full power and authority to do and perform each
and every act and thing requisite and necessary to be done in and about the
premises, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorney-in-fact and
agent, or his substitute or 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.
SIGNATURES
- ----------
/s/ JEFFREY P. ANTHONY President, Chief Executive Officer March 22, 2000
- ------------------------------------ and Director (Principal Executive
Jeffrey P. Anthony Officer)
/s/ JAMES W. SHEPPERD Chief Financial Officer (Principal March 22, 2000
- ------------------------------------ Financial Officer and Principal
James W. Shepperd Accounting Officer)
/s/ HECTOR J. ALCALDE Director March 22, 2000
- ------------------------------------
Hector J. Alcalde
/s/ FRANK M. DEVINE Director March 22, 2000
- ------------------------------------
Frank M. Devine
/s/ DONALD C. KLOSTERMAN Director March 22, 2000
- ------------------------------------
Donald C. Klosterman
/s/ ROBERT J. ROSENBLATT Director March 22, 2000
- ------------------------------------
Robert J. Rosenblatt
/s/ FRANCIS R. SANTANGELO Director March 22, 2000
- ------------------------------------
Francis R. Santangelo
22
INDEX TO FINANCIAL STATEMENTS
PAGE
NUMBER
------
Report of Independent Certified Public Accountants F-1
Consolidated Balance Sheets as of December 31, 1999 and December 31, 1998 F-2
Consolidated Statements of Operations for each of the three years in the
period ended December 31, 1999 F-4
Consolidated Statements of Stockholders' Equity for each of the
three years in the period ended December 31, 1999 F-5
Consolidated Statements of Cash Flows for each of the three years in the
period ended December 31, 1999 F-8
Notes to Consolidated Financial Statements F-9
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Stockholders and Board of Directors
SAFLINK Corporation
We have audited the accompanying consolidated balance sheets of SAFLINK
Corporation (formerly The National Registry, Inc.) and subsidiary as of December
31, 1999 and 1998, and the related consolidated statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1999. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the 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, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
SAFLINK Corporation and subsidiary at December 31, 1999 and 1998, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1999 in conformity with accounting
principles generally accepted in the United States.
/s/ Ernst & Young LLP
Tampa, Florida
February 25, 2000
F-1
SAFLINK CORPORATION
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
1999 1998
-------- --------
(IN THOUSANDS)
ASSETS
Current Assets:
Cash and cash equivalents $ 5,335 $ 1,736
Accounts receivable, net of allowance for
doubtful accounts of $13,000 and $27,000 respectively 180 149
Inventory 38 37
Investments, principally in available-for-sale securities 739 --
Prepaid royalties 209 200
Other 77 97
-------- --------
Total current assets 6,578 2,219
Furniture and equipment - net 204 361
Investment -- 105
-------- --------
$ 6,782 $ 2,685
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 296 $ 189
Accrued professional fees 102 105
Accrued other 204 117
Deferred revenue 582 305
-------- --------
Total current liabilities 1,184 716
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value convertible:
Authorized - 1,000,000 shares
Series A - Liquidation preference $100 per share,
100,000 shares issued and outstanding as of
December 31, 1999 and 1998, respectively 1 1
Series D - Liquidation preference $50 per share,
100,000 and 0 shares issued and outstanding as of
December 31, 1999 and 1998, respectively 1 --
Common stock, $.01 par value:
Authorized - 50,000,000 and 25,000,000 shares as of
December 31, 1999 and 1998, respectively
Issued and outstanding - 18,620,656 and 16,677,005 as of
December 31, 1999 and 1998, respectively 186 167
Additional paid-in capital 54,577 47,138
Accumulated other comprehensive income 201 --
Accumulated deficit (49,368) (45,337)
-------- --------
Total stockholders' equity 5,598 1,969
-------- --------
$ 6,782 $ 2,685
======== ========
SEE ACCOMPANYING NOTES
F-2
SAFLINK CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
1999 1998 1997
-------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Products and services revenue:
Software $ 786 $ 3,517 $ 315
Hardware 313 355 143
Services 109 510 592
-------- -------- --------
1,208 4,382 1,050
Post contract services revenue 95 538 535
-------- -------- --------
Total revenue 1,303 4,920 1,585
Cost of products and services revenue 312 810 388
Cost of post contract services revenue 47 312 356
-------- -------- --------
Total cost of revenue 359 1,122 744
-------- -------- --------
Gross profit 944 3,798 841
Operating expenses:
Product development 1,375 1,282 2,221
Sales and marketing 1,332 1,558 2,810
Minimum royalty payments 375 500 500
General and administrative 1,815 1,950 2,923
-------- -------- --------
4,897 5,290 8,454
Interest and other income 26 108 189
-------- -------- --------
Net loss (3,927) (1,384) (7,424)
Preferred stock deemed dividend -- -- 1,470
Preferred stock dividend and accretion 104 278 350
-------- -------- --------
Net loss attributable to common stockholders $ (4,031) $ (1,662) $ (9,244)
======== ======== ========
Basic and diluted loss per common share $ (0.23) $ (0.23) $ (1.57)
Weighted average number of common shares outstanding 17,541 7,216 5,875
SEE ACCOMPANYING NOTES.
F-3
SAFLINK CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
ACCUMULATED
OTHER
COMMON STOCK PREFERRED STOCK ADDITIONAL COMPRE-
------------------- ------------------- PAID-IN HENSIVE ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL INCOME DEFICIT TOTAL
-------- -------- -------- -------- -------- -------- -------- --------
Balance at December 31, 1996 5,734 $ 57 100 $ 1 $ 35,857 $ -- $(34,431) $ 1,484
Issuance of Series C preferred
stock at $20 per share, net of
offering costs -- -- 350 4 5,723 -- -- 5,727
Issuance of common stock warrants -- -- -- -- 660 -- -- 660
Series C preferred stock dividend at
6% -- -- -- -- 350 -- (350) --
Series C preferred stock deemed
dividend -- -- -- -- 1,470 -- (1,470) --
Conversion of Series C preferred
stock 560 6 (90) (1) (5) -- -- --
Expense related to stock option
plans -- -- -- -- 94 -- -- 94
Cancellation of compensatory
stock options -- -- -- -- (105) -- -- (105)
Issuance of common stock upon
exercise of stock options at
various prices 14 -- -- -- 11 -- -- 11
Issuance of common stock for services 48 1 -- -- 323 -- -- 324
Net loss -- -- -- -- -- -- (7,424) (7,424)
-------- -------- -------- -------- -------- -------- -------- --------
Balance at December 31, 1997 6,356 64 360 4 44,378 -- (43,675) 771
Conversion of Series C preferred
stock 10,280 103 (260) (3) (100) -- -- --
Common stock and warrants issued
for legal settlement 41 -- -- -- 307 -- 307
Series C preferred stock dividend at
6% -- -- -- -- 278 -- (278) --
Issuance of warrants for services -- -- -- -- 168 -- -- 168
Issuance of stock options for
services -- -- -- -- 78 -- -- 78
Expense related to stock option plans -- -- -- -- 29 -- -- 29
Capital contribution -- -- -- -- 2,000 -- -- 2,000
Net loss -- -- -- -- -- -- (1,384) (1,384)
-------- -------- -------- -------- -------- -------- -------- --------
Balance at December 31, 1998 16,677 167 100 1 47,138 -- (45,337) 1,969
Net loss -- -- -- -- -- -- (3,927) (3,927)
Comprehensive income:
Net unrealized gains on
securities available for
sale -- -- -- -- -- 212 -- 212
Net foreign currency translation
adjustments -- -- -- -- -- (11) -- (11)
-------- -------- -------- -------- -------- -------- -------- --------
Total comprehensive income (loss) -- -- -- -- -- 201 (3,927) (3,726)
Issuance of Series D preferred
stock, net of offering costs of
$33,000, at $50,000 per share -- -- 100 1 4,966 -- -- 4,967
Issuance of units of common stock
and common stock purchase
warrants at $1.25 per unit, net
of offering costs of $28,000 1,682 17 -- -- 2,057 -- -- 2,074
Issuance of common stock upon
exercise of stock options at
various prices 261 2 -- -- 296 -- -- 298
Issuance of stock options for
services -- -- -- -- 16 -- -- 16
Series D preferred stock dividend
at 6% and accretion of fees -- -- -- -- 104 -- (104) --
-------- -------- -------- -------- -------- -------- -------- --------
Balance at December 31, 1999 18,620 $ 186 200 $ 2 $ 54,577 $ 201 $(49,368) $ 5,598
======== ======== ======== ======== ======== ======== ======== ========
SEE ACCOMPANYING NOTES
F-4
SAFLINK Corporation
Consolidated Statements of Cash Flows
YEAR ENDED DECEMBER 31,
1999 1998 1997
------- ------- -------
(IN THOUSANDS)
CASH USED IN OPERATING ACTIVITIES
Net loss $(3,927) $(1,384) $(7,424)
Adjustments to reconcile net loss to net cash used in operating
activities
Compensation (benefit) applicable to stock option grants -- 29 (11)
Depreciation 239 587 649
Provision for bad debts 13 27 --
Provision for inventory obsolesence 18 -- --
Issuance of common stock, stock options and warrants for services 16 246 324
Issuance of stock and warrants for legal settlement -- 307 --
Loss (gain) on sale of fixed assets 17 (57) (41)
Changes in operating assets and liabilities:
Accounts receivable (44) 274 (12)
Inventory (19) 325 (362)
Prepaid expenses (9) 2 (73)
Other assets 20 12 12
Accounts payable 107 (488) 309
Accrued expenses 84 (734) (24)
Deferred revenue (156) 131 174
------- ------- -------
Net cash used in operating activities (3,641) (723) (6,479)
CASH PROVIDED BY (USED) IN INVESTING ACTIVITIES
Purchase of equipment (105) (52) (610)
Proceeds from the sale of assets 6 213 75
------- ------- -------
Net cash provided by (used) in investing activities (99) 161 (535)
CASH PROVIDED BY FINANCING ACTIVITIES
Proceeds from capital contribution -- 2,000 --
Proceeds from issuance of preferred stock 4,967 -- 6,387
Proceeds from issuance of common stock 2,372 -- 11
------- ------- -------
Net cash provided by financing activities 7,339 2,000 6,398
------- ------- -------
Net increase (decrease) in cash and cash equivalents 3,599 1,438 (616)
Cash and cash equivalents at beginning of period 1,736 298 914
------- ------- -------
Cash and cash equivalents at end of period $ 5,335 $ 1,736 $ 298
======= ======= =======
SUPPLEMENTAL CASH FLOW INFORMATION Noncash investing activities:
Change in market value of investment available for sale $ 201 $ -- $ --
Investment in marketable equity securities received in
Exchange for marketing rights $ 433 $ -- $ --
SEE ACCOMPANYING NOTES.
F-5
SAFLINK Corporation
Notes to Consolidated Financial Statements
1. THE COMPANY
SAFLINK Corporation (formerly The National Registry, Inc.), a Delaware
corporation organized on October 23,1991, and its wholly-owned subsidiary,
SAFLINK International, Inc. (a Delaware corporation organized on June 25, 1998),
("SAFLINK" or the "Company"), provides a suite of Internet and enterprise
security software products that utilize biometric technologies to replace
passwords or other user authentication methods for accessing information over
the Internet, on personal computers, or in networked computing environments.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of SAFLINK
Corporation and its wholly-owned subsidiary, SAFLINK International, Inc. All
intercompany accounts and transactions have been eliminated.
REVENUE RECOGNITION
During 1999, 1998 and 1997, operating revenue was derived from the sale
of the Company's software and hardware products, the performance of programming
and integration services, and, through the first quarter of 1999, post contract
customer support (PCS) for the welfare fraud systems in the states of
Connecticut and New Jersey. Effective January 1, 1998, the Company adopted
American Institute of Certified Public Accountants' Statement of Position No.
97-2, SOFTWARE REVENUE RECOGNITION (SOP 97-2). SOP 97-2 provides for the
recognition of revenue when product is shipped and programming and integration
services are performed, provided no significant obligations remain and
collection of the receivable is deemed probable. Revenue for elements not
delivered, including PCS revenue, is deferred and recognized as delivered or
ratably over the life of the service period of the related contract. Adoption of
this Statement did not have a significant impact on the Company's results of
operations.
MAJOR CUSTOMERS
Two customers accounted for approximately 46% and 18%, respectively, of
the Company's 1999 revenue. Approximately 80% of the Company's 1998 revenue was
from the sale of software licenses and related services to one customer. No
other individual customer accounted for significant sales in 1998. Three
customers accounted for approximately 21%, 18%, and 12%, respectively, of 1997
revenue.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash in bank and overnight
investments in repurchase agreements collateralized by United States Government
or United States Government Agency obligations.
MANAGEMENT OF CREDIT RISK
The Company is subject to concentrations of credit risk from its cash
investments. The Company's credit risk is managed through monitoring the
stability of the financial institutions utilized and diversification of its
financial resources. The Company's financial instruments consist of cash and
cash equivalents, overnight investments in repurchase agreements, accounts
receivable and investment in a bank time certificate of deposit and accounts
payable. The fair value of these instruments approximates their carrying value
based on the current rate offered to the Company for similar instruments.
F-6
INVENTORY
Inventory is comprised of computer hardware purchased in connection
with the installation of the Company's biometric products. Inventories are
stated at the lower of cost, on a first-in, first-out basis, or market.
INVESTMENTS
Investments consist of a bank certificate of deposit and publicly
traded equity securities. The equity securities are classified as
available-for-sale and are recorded at market value using the specific
identification method. Unrealized gains and losses are reflected in other
comprehensive income.
SOFTWARE DEVELOPMENT COSTS
The Company expenses costs associated with the development of software
as incurred until technological feasibility is established.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company reviews its long-lived assets for impairment when events or
changes in circumstances indicate that the carrying value of such assets may not
be recoverable. This review consists of a comparison of the carrying value of
the asset with the asset's expected future undiscounted cash flows without
interest costs. Estimates of expected future cash flows represent management's
best estimate based on reasonable and supportable assumptions and projections.
If the expected future cash flow exceeds the carrying value of the asset, no
impairment is recognized. If the carrying value of the asset exceeds the
expected future cash flows, an impairment exists and is measured by the excess
of the carrying value over the fair value of the asset. No impairments have been
recorded.
FURNITURE AND EQUIPMENT
Furniture and equipment are recorded at cost. Depreciation is provided
using the straight-line method over the following estimated useful lives of the
assets:
YEARS
-------
Computer equipment and software 1 to 3
Office furniture, equipment and other 3 to 10
ADVERTISING COSTS
The Company expenses advertising costs as incurred. Advertising expense
was approximately $298,000, $228,000, and $443,000 in 1999, 1998, and 1997
respectively.
INCOME TAXES
Income taxes have been provided for using the liability method in
accordance with the provisions of Statement of Financial Accounting Standards
No. 109, ACCOUNTING FOR INCOME TAXES.
STOCK BASED COMPENSATION
The Company accounts for employee stock-based compensation in
accordance with the provisions of Accounting Principles Board Opinion No. 25,
ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES and related Interpretations, because
the Company believes the alternative fair value accounting provided under
Statement of Financial Accounting Standards No. 123, ACCOUNTING FOR STOCK-BASED
COMPENSATION (SFAS 123), requires the use of option valuation models that were
not developed in valuing employees stock options. Accordingly, in cases where
exercise prices equal or exceed fair market value, the Company recognizes no
compensation expense for stock option grants. In cases where exercise prices are
less than fair market value, compensation expense is recognized over the period
of performance or the vesting period.
F-7
The Company accounts for non-employee stock-based compensation in
accordance with SFAS 123. Pro forma financial information, assuming that the
Company had adopted the measurement standards of SFAS 123 for all stock-based
compensation, is included in Note 6.
NET LOSS PER COMMON SHARE
Net loss per common share was computed by dividing the net loss
attributable to common stockholders by the weighted average number of common
shares outstanding during the period. Common stock equivalents, relating to
convertible Series A preferred stock, convertible Series C preferred stock,
convertible Series D preferred stock and exercise of certain stock options and
warrants were not included in this calculation due to their anti-dilutive
effect.
SEGMENT REPORTING
Operating segments are revenue-producing components of the enterprise
for which separate financial information is produced internally for the
Company's management. Under this definition, the Company operated, for all
periods presented, as a single segment.
COMPREHENSIVE INCOME
The Company reports comprehensive income in accordance with the
provisions of Statement of Financial Accounting Standards No. 130, REPORTING
COMPREHENSIVE INCOME, which requires that total comprehensive income be
disclosed with equal prominence as net income. Comprehensive income is defined
as changes in stockholders' equity exclusive of transactions with owners such as
capital contributions and dividends. Comprehensive income is presented in the
Consolidated Statement of Stockholders' Equity.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform with the
1999 presentation.
3. FURNITURE AND EQUIPMENT
Furniture and equipment consists of the following (in thousands):
DECEMBER 31,
1999 1998
------- -------
Computer equipment and software $ 1,006 $ 1,259
Office furniture, equipment and other 218 208
------- -------
1,224 1,467
Less: accumulated depreciation (1,020) (1,106)
------- -------
$ 204 $ 361
======= =======
Depreciation expense amounted to $239,000 in 1999, $587,000 in 1998 and
$649,000 in 1997.
During 1999, the Company disposed of various fixed assets that were no
longer in use. The net book value of these assets at the time of disposal, of
approximately $17,000, is reflected as a component of general and administrative
expense in the Consolidated Statement of Operations.
4. TECHNOLOGY LICENSES
The Company has acquired certain rights to biometric identification and
authentication software (the "Licensed Technology") under agreements with
software algorithm suppliers including ITT Industries, Inc., Lernout & Hauspie
Speech Products NV, Veridicom, Inc. and Visionics Corporation that may be
terminated in the event the Company fails to pay license fees (including minimum
specified payments) or commits any other material breach of any covenant of such
agreements. Minimum payments in the amount of $190,000 were prepaid during 1999
and are being expenses in accordance with the terms of the license agreements.
F-8
5. INCOME TAXES
As of December 31, 1999, the Company had net operating loss
carryforwards of approximately $36.8 million for federal income tax purposes
which expire at various dates through 2019. The difference between the net
operating loss carryforward for federal income tax purposes and the deficit
accumulated for financial reporting arises primarily from temporary differences
associated with the Company's start-up expenses which were capitalized for
income tax purposes and beginning January 1995, are being ratably amortized to
expense over a 60-month period.
These temporary differences and net operating loss carryforwards give
rise to a deferred tax asset of approximately $14.0 million and $12.4 million as
of December 31, 1999 and 1998, respectively, based on a combined federal and
state statutory rate of 37.7% in 1999 and 34.6% in 1998. Due to the uncertainty
of achieving taxable income sufficient to realize the deferred tax asset, a
valuation allowance of $14.0 million and $12.4 million was recorded as of
December 31, 1999 and 1998, respectively, which fully offsets the deferred tax
asset.
The future utilization of the tax benefit carryforward items is subject
to an annual limitation when a cumulative change in stock ownership of more that
50% occurs over a three year period. The Company believes that such a change has
occurred, and that it is possible that taxable income and income taxes in future
years, which would otherwise be offset by net operating losses and reduced by
tax credits, will not be offset or reduced and, therefore, income tax
liabilities will be incurred. The potential tax benefits of these carryforwards
at December 31, 1999 and 1998 of approximately $13.9 million and $11.1 million,
respectively, have been fully reserved in the financial statements due to the
uncertainty of realization. Tax benefits will be recognized in future years and
when such benefits are judged to be realizable.
An analysis of the reasons for the variations from the expected federal
corporate income tax rate of 34% and the effective rates provided is as follows:
1999 1998 1997
------ ------ ------
Tax benefit computed (34.0%) (34.0%) (34.0%)
State tax, net of federal benefit (3.7) (3.6) (3.7)
Nondeductible items (meals and entertainment) 0.1 0.5 0.1
Change in valuation allowance 37.6 37.1 37.6
------ ------ ------
Effective tax rate 0.0% 0.0% 0.0%
====== ====== ======
6. STOCKHOLDERS' EQUITY
PREFERRED STOCK
The Series A preferred stock is convertible at the option of the holder
and will automatically be converted into 2,600,532 shares of common stock, or
approximately 6% of the common stock of the Company (after giving effect to such
conversion), upon the satisfaction of certain conditions.
On February 6, 1997, the Company completed an equity financing (the
"Series C Preferred Stock Private Placement") pursuant to which two accredited
investment funds purchased an aggregate of 350,000 shares of the Company's
Series C Preferred Stock, $.01 par value per share (the "Series C Preferred
Stock"), for an aggregate purchase price of $7 million before commissions and
expenses which totaled approximately $613,000. Shares of Series C Preferred
Stock were convertible at the option of the holder into shares of common stock,
based upon a defined conversion formula. The Series C Preferred Stock carried a
six percent per annum accretion which the Company treated as a dividend
resulting in a charge to accumulated deficit and a credit to additional paid-in
capital. The Company recorded accretion of $278,000 and $350,000 during 1998 and
1997, respectively. It also recorded, during 1997, a deemed dividend of $1.5
million attributable to the recognition of the market discount that the holders
received upon conversion into Common Stock. 90,250 shares of Series C Preferred
Stock were converted into 560,653 shares of Common Stock, including 23,442
shares attributable to accrued dividends, during 1997. The remaining 259,750
shares of Series C Preferred Stock were converted into 10,279,513 shares of
Common Stock, including 1,010,743 shares attributable to accrued dividends,
during 1998.
On November 9, 1999 the Company issued 100,000 shares of Series D
Preferred Stock to RMS Limited Partnership ("RMS") for an aggregate purchase
price of $5,000,000. The holder has the right to convert the Series D Preferred
Stock into that number of shares of the Company's Common Stock realized by
dividing the aggregate purchase price plus any accrued and unpaid dividends by
the applicable conversion price. The initial conversion price is equal to $1.39
per share and is subject to customary anti-dilution provisions. Accordingly, at
December 31, 1999, the Series D may currently be converted into 3.6 million
shares of Common Stock. The Company has the right, but not the obligation, to
redeem the Series D Preferred Stock
F-9
for $50 per share plus accrued dividends at any time prior to conversion. All
shares of the Series D Preferred Stock issued and outstanding as of November 9,
2004 will be automatically converted into shares of Common Stock at the then
applicable conversion price. The Series D Preferred Stock carries a 10% per
annum cumulative dividend, payable in cash if the Company is profitable, with
any unpaid dividends payable in shares of Common Stock upon conversion. The
shares of Series D Preferred Stock have no voting rights except as required by
law and have a liquidation preference of $50 per share plus unpaid dividends.
COMMON STOCK
The holders of Common Stock are entitled to receive ratably such
dividends, if any, as may be declared by the Board of Directors from funds
legally available for the payment of dividends. In the event of liquidation or
dissolution of the Company, the holders of Common Stock are entitled to share
ratably in all assets of the Company remaining (i) after provision for payment
of liabilities, (ii) after holders of the convertible Series A preferred stock
receive a liquidation preference of $100 per share or an aggregate liquidation
preference of $10 million and (iii) after holders of the convertible Series D
preferred stock receive a liquidation preference of $50 per share (or an
aggregate liquidation preference of $5 million) plus accrued dividends.
During 1998, the Company issued 41,667 shares of Common Stock, as well
as warrants to purchase 75,000 shares of Common Stock for $3.38 per share, to
International Interest Group, Inc. ("IIG") as part of the settlement of a
lawsuit filed by IIG on February 13,1997.
The Company issued units consisting of Common Stock and warrants to
purchase Common Stock, for a total of 1,681,670 shares of Common Stock and
840,835 warrants, at $1.25 per share, for $2,102,000 on July 23, 1999. The
warrants may be exercised, for $1.00 per share, by the holders at any time until
July 23, 2001.
STOCK OPTIONS
The Company maintains an employee stock incentive plan (the "Plan") for
officers, directors and key employees under which 4,000,000 shares of Common
Stock were reserved for issuance as of December 31, 1999. In addition, the
Company has granted, outside of the Plan, options to purchase an aggregate of
695,000 shares of Common Stock to certain employees. Options currently granted
by the Company generally have a contractual life of 10 years and vest over a
three year period. Additionally, from time to time, the Company will grant stock
options to non-employees in exchange for services rendered. During 1999, a total
of 165,000 options were issued to contractors at an average exercise price of
$1.58. Expense recorded related to these non-employee grants during 1999 was
estimated using the Black-Scholes valuation model and amounted to $16,000, which
represents the vested portion of such options. A total of 247,917 options were
outstanding to non-employees at December 31, 1999.
Certain options, including 1999 option grants to employees who agreed
to relocate from Tampa to either Redmond, Washington or Reston, Virginia, were
granted with exercise prices less than the market price of the underlying stock
on grant date and the Company has recorded compensation expense for these
options. Compensation related to stock options is measured as of the grant date.
The difference between market value of the options, at time of issuance, and
their exercise price is charged to stockholders' equity and amortized to expense
over the options' vesting periods. The Company recognized $4,000, $29,000, and
$94,000 as compensation expense in 1999, 1998 and 1997 respectively, relating to
compensatory options/grants.
F-10
Disclosure of pro forma information regarding net loss and loss per
share is required by SFAS No. 123. If compensation expense related to employee
stock options issued under the Plan had been determined based on the fair values
at the grant dates consistent with the method of accounting prescribed by SFAS
No 123, the Company's net loss attributable to common stockholders and loss per
common share would have been as follows:
1999 1998 1997
------- ------- -------
(IN THOUSANDS EXCEPT PER SHARE DATA)
Pro forma net loss attributable to common stockholders $(4,385) $(4,558) $(9,840)
Pro forma loss per common share (0.25) (0.63) (1.68)
The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model based on the following weighted
average assumptions: risk-free interest rates of 6.0% for 1999, 5.0% for 1998
and 6.5% for 1997; no dividends; volatility factors of the expected market price
of the Company's Common Stock of 1.294 for 1999, 1.273 for 1998, and 1.063 for
1997; and a weighted-average expected life of 6.3 years for 1999, 3.0 years for
1998 and 4.5 years for 1997.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options, which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.
A summary of the Company's stock option activity, and related
information for the years ended December 31, follows:
1999 1998 1997
---------------------- ---------------------- -----------------------
WEIGHTED- WEIGHTED- WEIGHTED
AVERAGE AVERAGE AVERAGE
OPTIONS EXERCISE OPTIONS EXERCISE OPTIONS EXERCISE
(000) PRICE (000) PRICE (000) PRICE
-------- -------- -------- -------- -------- ---------
Outstanding - beginning of year 2,308 $ 2.24 757 $ 8.34 816 $ 8.52
Granted 1,560 1.63 1,993 1.82 41 7.08
Exercised (187) 1.18 -- -- (14) .84
Cancelled/Expired (326) 4.33 (442) 8.11 (86) 10.32
-------- -------- --------
Outstanding - end of year 3,355 1.81 2,308 2.24 757 8.34
======== ======== ========
Exercisable at end of year 1,943 1.88 1,348 3.12 608 8.34
======== ======== ========
Weighted-average fair value of
options granted during the year 2.44 1.38 7.08
Exercise prices for options outstanding as of December 31, 1999 ranged
from $0.64 to $4.68. The weighted-average remaining contractual life of those
options is 8.8 years. As of December 31, 1999, approximately 751,000 shares were
available for future grant under the Plan.
WARRANTS
During 1998, the Company recognized $335,000 of expense related to the
issuance of 121,875 warrants to purchase Common Stock. This expense was computed
using the Black-Scholes pricing model and assumptions discussed under options
above. These warrants were issued in connection with the IIG settlement (75,000
warrants) and to consultants in exchange for services (48,875 warrants).
In connection with the 1996 Series B Preferred Stock Private Placement,
the Company issued warrants to purchase 47,431 shares of common stock at an
exercise price of $15.18 per share. Such warrants are exercisable at any time
and expire in January 2001. The Company has also agreed to certain registration
rights with respect to such warrants.
F-11
In connection with the 1997 Series C Preferred Stock Private Placement,
the Company issued warrants to purchase up to 90,000 shares of Common Stock at
an exercise price of $15.68 per share, subject to certain adjustments from time
to time. Such warrants are exercisable at any time and expire in January 2001.
The Company has also agreed to certain registration rights with respect to such
warrants.
CAPITAL CONTRIBUTION
On December 17, 1998, RMS Limited Partnership ("RMS"), Francis R.
Santangelo ("Santangelo") and Clearwater Fund III, L.P. ("Clearwater") entered
into a stock purchase agreement pursuant to which RMS and Santangelo agreed to
purchase 195,500 and 34,500 shares, respectively, of the Series C Convertible
Preferred Stock (the "Series C Preferred") of the Company from Clearwater in
exchange for $1.0 million cash and 1 million shares of the Common shares
received upon conversion of the Series C Preferred. Upon consummation of the
purchase of the Preferred Stock, RMS and Santangelo converted all of their
respective shares of Series C Preferred into 8,264,138 and 1,458,377 shares,
respectively, of Common Stock (representing approximately 49.6% and 8.7% of the
then issued and outstanding shares of Common Stock). After the issuance of such
shares of Common Stock and the delivery of the applicable shares of Common Stock
to Clearwater, RMS and Santangelo were the beneficial owners of 8,080,805 and
1,308,377 shares of Common Stock, respectively, representing approximately 48.5%
and 7.8%, respectively, of the then issued and outstanding shares of Common
Stock. As a result of the foregoing transactions, RMS and Santangelo effectively
acquired control of the Company through the ability to control the vote on most
if not all matters to be determined by the stockholders of the Company,
including, without limitation, the election of the directors of the Company.
Also as a part of this transaction, RMS and Santangelo agreed to contribute $2.0
million to the Company to fund working capital needs without the issuance of any
additional securities. The Company received these funds on December 30, 1998.
As of December 31, 1999 RMS Limited Partnership was the holder of
8,021,305 shares (43.1%) of the Company's outstanding Common Stock and, based
upon a voting agreement between RMS, J. Anthony Forstmann and Francis R.
Sangangelo, had the ability to vote 10,013,015 shares (53.8%) of the Company's
outstanding Common Stock. If RMS were to convert the Series D Preferred Stock
into Common Stock it would hold 11,621,305 shares (52.3%), and would have the
ability to vote 13,613,015 shares (61.2%), of the Company's then outstanding
Common Stock.
7. COMMITMENTS AND CONTINGENCIES
The Company leases office space and equipment under various
non-cancelable operating leases. The lease obligation related to office space is
secured by a pledged bank time certificate of deposit. Future minimum payments
under these lease commitments are as follows:
YEAR ENDING
DECEMBER 31,
------------------------------------------------
(IN THOUSANDS)
2000 $ 127
2001 93
2002 33
2003 --
2004 --
------
$ 253
======
Rent expense was $261,000, $266,000, and $272,000 for 1999, 1998, and
1997, respectively.
8. DEFINED CONTRIBUTION RETIREMENT PLAN
The Company offers an employee benefit plan pursuant to Section 401(k)
of the Internal Revenue Code covering substantially all employees. Matching
employer contributions are set at the discretion of the Board of Directors.
There were no employer contributions made for 1999, 1998, or 1997.
F-12
9. EARNINGS PER SHARE
The following tables sets forth the computation of basic and diluted
loss per common share:
1999 1998 1997
-------- -------- --------
Numerator: (IN THOUSANDS)
Net loss $ (3,927) $ (1,384) $ (7,424)
Preferred Stock deemed dividend -- -- 1,470
Preferred Stock dividend and accretion 104 278 350
-------- -------- --------
Net loss attributable to common stockholders $ (4,031) $ (1,662) (9,244)
======== ======== ========
Denominator:
Weighted average number of shares
outstanding of Common Stock 17,541 7,216 5,875
======== ======== ========
Net loss per common share $ (.23) $ (.23) $ (1.57)
======== ======== ========
Net loss per common share was computed by dividing net loss
attributable to common stockholders by the weighted average number of common
shares outstanding during the period.
Common stock equivalents, relating to convertible Series A Preferred
Stock, convertible Series D Preferred Stock, stock options and warrants are not
included in this calculation due to their anti-dilutive effect.
10. LITIGATION
On May 13, 1999, Anthony Calandra (the "Plaintiff") filed suit against
the Company and J. Anthony Forstmann, a director and former chairman of the
Company, (collectively, the "Defendants") in the United States District Court
Middle District of Florida Tampa Division (Civil Action No. 99-1135-CIV-T-25E).
The amended complaint alleged that (i) the Company granted to the Plaintiff a
right to purchase 150,000 shares of common stock of the Company at $.20 per
share, (ii) the Company refused to honor the option, and (iii) the Company
erroneously took the position that the option was to be adjusted for a one for
six reverse split of the stock. This suit was dismissed with prejudice in
February 2000.
On June 16, 1999, International Interest Group, Inc. ("IIG") filed suit
against the Company and Mr. Forstmann in the Superior Court of the State of
California for the County of Los Angeles (Civil Action No.: BC212033). This
lawsuit relates to the alleged failure of the Company to perform under the terms
of a settlement agreement relating to another lawsuit filed by IIG. The
complaint alleges three causes of action: (i) the Company's breach of contract
with IIG causing IIG to sustain damages in excess of $1.0 million; (ii) fraud;
(iii) recission by IIG against the Company and Mr. Forstmann. On the first and
second causes of action, IIG has asked the court for actual contract damages,
consequential damages, and attorney fees and costs incurred in the prosecution
of these actions. On the second cause of action, IIG has also asked for punitive
damages. On the third cause of action, IIG has asked for a judicial order of
recission restoring to IIG all rights, causes, claims and remedies in the
lawsuit. On all causes of action, IIG seeks all recoverable costs of suit
incurred, prejudgment interest on all causes of action, and other relief the
court deems just and proper. The second and third causes of action have been
dismissed with prejudice. The Company does not believe the remaining claims have
any merit and it intends to vigorously defend itself in this lawsuit.
F-13