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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2002
[ ] 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: 000-23955
COMPUTERIZED THERMAL IMAGING, INC.
-----------------------------------------------------
(Exact name of Registrant as specified in its charter)
NEVADA 87-0458721
----------------------------------- -------------------------
(State or other jurisdiction of incorporation or (IRS Employer
organization) Identification No.)
Two Centerpointe Drive, Suite 450 Lake
Oswego, Oregon 97035
----------------------------------- ----------------
(Address of principal executive offices) (Zip Code)
(503) 594-1210
------------------------
(Registrant's telephone number, including area code)
Check whether the registrant (1) filed all reports required to be filed
by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for
such shorter period that the registrant was required to file such reports) and
(2) has been subject to such filing requirements for the past 90 days. Yes [X]
No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS: State the number of shares
outstanding of each of the issuer's classes of common equity, as of the latest
practicable date: Common stock, par value $0.001, of which 93,848,724 shares
were issued and outstanding as of February 10, 2003.
COMPUTERIZED THERMAL IMAGING, INC.
FORM 10-Q
QUARTERLY REPORT
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION
ITEM 1. Financial Statements..................................................3
Condensed Consolidated Balance Sheets as of December
31, 2002 and June 30, 2002 .......................................3
Condensed Consolidated Statements of Operations for the
three and six months ended December 31, 2002 and 2001
and for the period from inception on June 10, 1987 to
December 31, 2002 ................................................4
Condensed Consolidated Statements of Cash Flows for the
six months ended December 31, 2002 and 2001 and for the
period from inception on June 10, 1987 to December 31, 2002 ......5
Notes to Condensed Consolidated Financial Statements..............7
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................13
ITEM 3. Quantitative and Qualitative Disclosure of Market Risk...............26
ITEM 4. Controls and Procedures..............................................26
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings....................................................27
ITEM 2. Changes in Securities................................................28
ITEM 3. Defaults upon Senior Securities......................................29
ITEM 4. Submission of Matters to a Vote of Security Holders..................29
ITEM 5. Other Information....................................................30
ITEM 6. Exhibits and Reports on Form 8-K.....................................30
SIGNATURES....................................................................31
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COMPUTERIZED THERMAL IMAGING, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED BALANCE SHEETS
DECEMBER 31, JUNE 30,
ASSETS 2002 2002
(UNAUDITED)
CURRENT ASSETS:
Cash and cash equivalents $ 498,654 $ 936,796
Investments available for sale 2,450,126 8,002,969
Accounts receivable-trade, net (less allowance
for doubtful accounts of $31,083 and $96,15 for
December and June 2002, respectively) 523,571 47,145
Accounts receivable-other, net 45,966 116,617
Inventories 557,672 1,078,437
Prepaid expenses 339,711 514,444
Deferred Finance Costs 26,928 366,837
------------- -------------
Total current assets 4,442,628 11,063,245
------------- -------------
PROPERTY AND EQUIPMENT, Net 444,270 1,438,873
------------- -------------
INTANGIBLE ASSETS:
Intellectual property rights, net (less accumulated amortization:
December - $13,513; June - $10,994) 19,334 39,006
------------- -------------
TOTAL ASSETS $ 4,906,232 $ 12,541,124
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 687,634 $ 992,006
Accrued liabilities 850,490 1,426,072
Accrued settlement reserve 100,000 1,400,000
Convertible debenture 2,405,794 2,257,076
Deferred revenues 830,085 419,906
------------- -------------
Total current liabilities 4,874,003 6,495,060
------------- -------------
STOCKHOLDERS' EQUITY:
Convertible preferred stock, $5.00 par value, 3,000,000
shares authorized; issued-none -- --
Common stock, $.001 par value, 200,000,000 shares authorized,
86,067,945 and 83,004,313 issued and outstanding on
December 31, 2002 and June 30, 2002, respectively 86,068 83,004
Additional paid-in capital 89,678,278 88,644,442
Subscription receivable (237,288) --
Other comprehensive income 8,490 14,178
Deficit accumulated during the development stage (89,503,319) (82,695,560)
------------- -------------
Total stockholders' equity 32,229 6,046,064
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 4,906,232 $ 12,541,124
============= =============
The accompanying condensed notes are an integral part of these consolidated financial statements.
3
COMPUTERIZED THERMAL IMAGING, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
FROM
JUNE 10, 1987
THREE MONTH PERIOD ENDED SIX MONTH PERIOD ENDED (INCEPTION)
DECEMBER 31, DECEMBER 31, THROUGH
2002 2001 2002 2001 DECEMBER 31, 2002
------------- ------------- ------------- ------------- -------------
(RESTATED) (RESTATED)
INCOME:
Revenues $ 594,971 $ 235,688 $ 858,901 $ 442,940 $ 2,739,895
Cost of goods sold (748,004) (154,959) (952,381) (266,390) (2,157,633)
------------- ------------- ------------- ------------- -------------
GROSS MARGIN (153,033) 80,729 (93,480) 176,550 582,262
------------- ------------- ------------- ------------- -------------
OPERATING EXPENSES:
General and administrative 646,244 1,181,702 1,479,035 (843,939) 33,046,900
Litigation Settlements -- -- -- -- 2,697,434
Research and development 1,153,657 1,581,289 2,401,969 2,874,981 29,392,541
Marketing 387,077 1,055,716 995,592 1,279,929 7,911,925
Depreciation and amortization 175,994 388,087 339,578 774,653 4,955,213
Impairment loss 711,194 -- 711,194 -- 12,322,192
------------- ------------- ------------- ------------- -------------
Total operating expenses 3,074,166 4,206,794 5,927,368 4,085,624 90,326,205
------------- ------------- ------------- ------------- -------------
OPERATING LOSS (3,227,199) (4,126,065) (6,020,848) (3,909,074) (89,743,943)
------------- ------------- ------------- ------------- -------------
OTHER INCOME (EXPENSE):
Interest income 52,078 230,357 141,427 495,119 3,579,800
Interest expense (210,688) -- (928,338) -- (3,320,844)
Other -- -- -- -- 193,711
------------- ------------- ------------- ------------- -------------
Total other income (expense) (158,610) 230,357 (786,911) 495,119 452,667
------------- ------------- ------------- ------------- -------------
LOSS BEFORE EXTRAORDINARY ITEM (3,385,809) (3,895,708) (6,807,759) (3,413,955) (89,291,276)
EXTRAORDINARY GAIN ON
EXTINGUISHMENT OF DEBT -- -- -- -- 65,637
------------- ------------- ------------- ------------- -------------
NET LOSS (3,385,809) (3,895,708) (6,807,759) (3,413,955) (89,225,639)
OTHER COMPREHENSIVE INCOME (LOSS)
Unrealized gain (loss) on investments
available for sale (20,121) (20,128) (5,688) (40,396) 8,490
------------- ------------- ------------- ------------- -------------
TOTAL COMPREHENSIVE (LOSS) $ (3,405,930) $ (3,915,836) $ (6,813,447) $ (3,454,351) $(89,217,149)
============= ============= ============= ============= =============
WEIGHTED AVERAGE SHARES OUTSTANDING 83,489,455 82,803,263 83,312,419 80,438,548
============= ============= ============= =============
BASIC AND DILUTED LOSS PER COMMON SHARE $ (0.04) $ (0.05) $ (0.08) $ (0.04)
============= ============= ============= =============
The accompanying condensed notes are an integral part of these consolidated financial statements.
4
COMPUTERIZED THERMAL IMAGING, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FROM
SIX MONTHS ENDED INCEPTION
DECEMBER 31, THROUGH
----------------------------- DECEMBER 31,
2002 2001 2002
(RESTATED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (6,807,759) $ (3,413,955) $(89,225,639)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 339,578 774,653 4,955,213
Impairment loss and loss on disposition of assets 762,015 -- 12,373,013
Bond amortization 32,294 16,449 14,634
Amortization of bonds and deferred finance costs and
discounts on convertible debenture 560,514 -- 1,599,348
Common stock, warrants, and options issued
as compensation for services -- 20,230 9,639,920
Options extended beyond their expiration date -- -- 1,687,250
Common stock issued for interest expense -- -- 423,595
Stock-based compensation on options marked to market 7,280 (3,515,859) 347,075
Common stock issued to settle litigation -- -- 514,380
Options issued at discount to market to settle litigation -- -- 475,000
Options issued at discount to market as
compensation expense -- -- 226,586
Penalty on convertible debenture 286,110 -- 286,110
Common stock issued for failure to complete
timely registration -- -- 82,216
Common stock issued to 401(k) plan 21,883 -- 117,860
Extraordinary gain on extinguishment of debt -- -- (65,637)
Bad debt expense (65,032) 94,649 473,193
Changes in operating assets and liabilities:
Accounts receivable - trade (411,394) (321,319) (556,598)
Accounts receivable - other 70,651 312,307 219,946
Inventories 520,765 (475,282) (380,914)
Prepaid expenses 174,733 (47,010) (97,937)
Accounts payable (304,372) (867,700) 534,744
Accrued liabilities (477,515) 504,753 834,058
Accrued litigation settlement (1,300,000) -- 100,000
Deferred revenues and deposits 410,179 350,693 830,085
------------- ------------- -------------
Net cash used in operating activities (6,180,070) (6,567,391) (54,592,499)
------------- ------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of assets -- -- 4,790
Capital expenditures (87,318) (149,612) (2,794,736)
Acquisition of Thermal Imaging, Inc. common stock -- -- (100,000)
Purchase of software license -- -- (3,850,000)
Purchase of investments available for sale -- (10,648,642) (43,851,010)
Proceeds from redemption of investments available for sale 5,514,861 10,010,000 41,064,034
Acquisition of Bales Scientific common stock,
net of cash acquired -- -- (5,604,058)
------------- ------------- -------------
Net cash provided by (used in) investing activities 5,427,543 (788,254) (15,130,980)
------------- ------------- -------------
The accompanying condensed notes are an integral part of these consolidated financial statements. (Continued)
5
COMPUTERIZED THERMAL IMAGING, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED) (CONTINUED)
FROM
SIX MONTHS ENDED INCEPTION
DECEMBER 31, THROUGH
----------------------------- DECEMBER 31,
2002 2001 2002
------------- ------------- -------------
(RESTATED)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock and warrants,
net of offering costs $ 314,385 $ 1,620,580 $ 63,509,110
Advances to affiliate -- -- (107,864)
Advances from stockholders -- -- 2,320,738
Preferential dividend to a shareholder -- -- (79,000)
Proceeds from borrowing-net of finance
costs and penalties -- -- 5,756,339
Payments on debt -- -- (1,177,190)
------------- ------------- -------------
Net cash provided by financing activities 314,385 1,620,580 70,222,133
------------- ------------- -------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (438,142) (5,735,065) 498,654
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 936,796 7,810,285 --
------------- ------------- -------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 498,654 $ 2,075,220 $ 498,654
============= ============= =============
SUPPLEMENTAL CASH FLOW INFORMATION
Interest expense $ -- $ -- $ 8,770
Income taxes -- -- --
SUPPLEMENTAL SCHEDULE OF NON-CASH
FINANCING AND INVESTING ACTIVITIES
Common stock issued to redeem a portion of the
converible debenture and pay interest and penalty $ 456,064 $ -- $ 574,969
Common stock issued to individuals to acquire
minority interest of subsidiary -- -- 165,500.00
Common stock issued in consideration of Bales Scientific -- -- 5,500,000
Options issued at discount to market in connection
with offering -- -- 744,282
Stock offering costs capitalized -- -- (744,282)
Common stock issued for advances from shareholders -- -- 2,320,738
Common stock issued for notes payable, accrued
discount and interest -- -- 2,224,953
Common stock issued for convertible subordinated
debentures -- -- 640,660
Common stock issued for liabilities -- -- 50,000
Stock subscription receivable 237,288 -- 237,288
The accompanying condensed notes are an integral part of these consolidated financial statements.
6
COMPUTERIZED THERMAL IMAGING, INC.
(A Development Stage Company)
Notes to Condensed Consolidated Financial Statements
(UNAUDITED)
NOTE A. UNAUDITED FINANCIAL STATEMENTS AND BASIS OF PRESENTATION
The condensed consolidated financial statements for the three-month and
six-month periods ended December 31, 2002 and 2001 are unaudited. In the opinion
of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation for the periods presented have been
included. These interim statements should be read in conjunction with the
audited consolidated financial statements and footnotes thereto contained in the
Company's most recent Form 10-K. The consolidated results of operations for the
three-month and six-month periods ended December 31, 2002 and 2001 are not
necessarily indicative of the results to be expected for the full years.
Certain amounts from the prior period financial statements have been
reclassified to conform to current period presentation.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions, including for example, accounts receivable
allowances, inventory obsolescence reserves, deferred tax valuation allowances,
and reserves for pending or threatening litigation. These assumptions affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from these estimates.
The accompanying condensed consolidated financial statements have been
prepared assuming the Company will continue as a going concern. In its Annual
Report on Form 10-K for the year ended June 30, 2002, the Company reported that
its recurring losses from operations, negative cash flows from operations,
pending shareholder class-action lawsuits and denial of coverage for any
resulting claims by the Company's provider of directors and officers insurance,
forced redemption of the convertible debentures, the need for additional working
capital, and the possibility that the Company may not receive FDA approval for
its primary product raised substantial doubt about the Company's ability to
continue as a going concern. The accompanying consolidated financial statements
do not include any adjustments relating to the recoverability and classification
of recorded asset amounts or the amounts and classification of liabilities that
might be necessary if the Company is unable to continue as a going concern.
NOTE B. RECENTLY ISSUED ACCOUNTING STANDARDS
In October 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 147 (SFAS 147), ACQUISITIONS OF
CERTAIN FINANCIAL INSTITUTIONS. SFAS 147 provides that the guidance provided by
7
SFAS 141 BUSINESS COMBINATIONS, SFAS 142 GOODWILL AND OTHER INTANGIBLE ASSETS,
and SFAS 144 ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS will
apply to acquisitions of financial institutions (previously covered under
special industry guidance). The transition provisions of SFAS 147 are effective
on October 1, 2002. At this time we do not believe the adoption of SFAS 147 will
have any impact on the Company's consolidated financial statements.
In December 2002, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 148 (SFAS 148), ACCOUNTING FOR
STOCK-BASED COMPENSATION - TRANSITION AND DISCLOSURE, which amends Statement of
Financial Accounting Standards No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION.
SFAS 148 provides alternative methods of transition for a voluntary change to
the fair value based method of accounting for stock-based employee compensation
and requires more prominent and more frequent disclosures in the financial
statements of the effects of stock-based compensation. The provisions of SFAS
148 are effective for fiscal years ending after December 15, 2002 and the
interim disclosure provisions are effective for interim periods beginning after
December 15, 2002. The Company will provide the required interim and annual
disclosures beginning in the quarter ended March 31, 2003.
NOTE C. CONVERTIBLE DEBENTURE
On December 31, 2001, the Company entered into a financing agreement
(the "Agreement") with Beach Boulevard, LLC (the "Investor"), pursuant to which
the Company issued a 7 percent convertible debenture in the amount of $2.5
million (the "Convertible Debenture") and secured an equity line of credit (the
"Equity Line") that would allow the Company to sell up to $20 million in common
stock to the Investor at 94 percent of the market price, as defined by the
Agreement. Based on its original terms, the Convertible Debenture is due on
December 31, 2004. The terms of the Agreement permit the Investor to convert the
Convertible Debenture into 2,100,694 shares of common stock at a conversion
price of $1.44 per share at any time during the term of the Agreement. Interest
on the Convertible Debenture is due on the conversion date and is payable, at
the option of the Company, in cash.
In connection with the Agreement, the Company entered into a
registration rights agreement and subsequently filed a registration statement
with the SEC, which was declared effective on March 18, 2002. The Investor may
require the Company to redeem all or a portion of the Convertible Debenture if
the average closing bid price of the Company's common stock for the 90
consecutive trading days after the effective date of the registration statement
is less than $1.44 (a "Trigger Event"). The amount redeemable is equal to 111 %
of the principal balance of the Convertible Debenture and accrued interest (the
"Redeemable Balance"). If a Trigger Event occurs, the Investor is required to
provide notice to the Company of its election to force redemption and to specify
the date (the "Redemption Due Date") on which the Redeemable Balance is to be
paid. If the Company does not pay the Redeemable Balance in full by the
Redemption Due Date, the Company is required to issue registered unrestricted
shares of common stock pursuant to a series of mandatory put notices consistent
with the terms of the Equity Line. If the Redeemable Balance is not paid through
the mandatory puts within six months of the Investor's notice to force
redemption, the unpaid portion of the Redeemable Balance is required to be paid
8
immediately in cash. If the Company does not pay the Redeemable Balance within
five days, the Investor can require the Company to continue issuing puts at 75
percent of the three lowest bid prices from 10 trading days after a put is
issued.
On July 25, 2002, the Investor notified the Company that a Trigger
Event had occurred and the Redeemable Balance of the Convertible Debenture
became due. On the date of the Trigger Event, the Redeemable Balance was
approximately $2,898,000, which included principal of approximately $2,500,000,
$111,000 of accrued interest and $287,000 of penalty. The Company elected to
satisfy the Redeemable Balance through a series of mandatory put notices based
on the terms of the Equity Line. The terms of the Equity Line provide for one
mandatory put per month and a maximum put amount per put equal to the lesser of
$500,000 or 125 percent of the weighted average trading volume of the Company's
common stock for the 20 days immediately preceding the date of the mandatory put
notice. Because of the average trading volume restriction, we have only made
modest debt repayments and have not been able to extinguish the debt entirely.
During the three months ended December 31, 2002, the Company issued
575,897 common shares through mandatory put notices and applied the proceeds of
$287,000 to redeem $187,473 of principal, $44,455 of accrued interest, and
$25,072 of penalty pursuant to requirements of the Equity Line. The Company also
issued 465,000 shares of common stock for $232,316 pursuant to the Equity Line,
which was used for general corporate purposes.
During the six months ended December 31, 2002, the Company issued
917,430 common shares through mandatory put notices and applied the proceeds of
$456,068 to redeem $312,802 of principal, $98,067 of accrued interest, and
$45,196 of penalty pursuant to requirements of the Equity Line. The Company also
issued 609,112 shares of common stock for $314,386 pursuant to the Equity Line.
The proceeds were for general corporate purposes.
On December 16, 2002, the Company issued a put to the Investor pursuant
to the Equity Line for $467,000 and issued 1,500,000 shares of common stock on
December 24, 2002 and the remaining 1,455,083 shares of common stock on January
3, 2003. As of December 31, 2002, the Company recorded a subscription receivable
of 237,288 related to the 1,500,000 shares issued on December 24, 2002. Based on
the remaining registered shares and current stock price, the Company can raise
approximately $450,000 from the Equity Line of Credit.
In connection with the Agreement, the Company issued the Investor
warrants for the purchase of 260,417 shares of common stock at $2.03 a share and
641,026 shares of common stock at $1.95 a share, which expire December 31, 2004
and December 31, 2007, respectively. The proceeds from the Debenture Offering
were allocated between the Convertible Debenture, the beneficial conversion
feature, and the warrants issued to the Investor. The Company also issued
separate warrants to an investment bank for the purchase of 100,000 shares of
common stock at $1.87 per share in connection with the Debenture Offering. The
fair market value of these warrants and other related financing costs have been
recorded as deferred financing costs. Because of the Trigger Event discussed in
the preceding paragraph, the deferred financing costs and discount on the
Convertible Debenture are being amortized over the six-month period ending
January 25, 2003.
9
On January 29, 2003, the Company received a Holder Redemption Notice
(the "Notice") from the Investor. The Notice, referencing the Debenture
Agreement, stated the Investor demands payment of the Current Redeemable
Balance. Pursuant to the Debenture Agreement, the Company had five days to pay
the balance in cash. Because the Company did not pay the Redeemable Balance as
requested by the Holder, the Company is now in default as defined by Section
6.c.ix of the Debenture Agreement. As a result of the default, the Investor may
convert the Redeemable Balance into shares of Common Stock at any time, at the
lower of the Fixed Conversion Price ($1.44) or 75 percent of the average of the
three lowest Closing Bid Prices during the ten trading days after a conversion
or put notice is delivered.
The Redeemable Balance on December 31, 2002 was approximately
$2,499,262. As of February 10, 2003, the Company has reduced the Redeemable
Balance to $1,804,816. Based on the current cash balance and obligations, stock
price and remaining registered shares, the Company may not be able to repay the
remaining Redeemable Balance through cash payments or through puts under the
Agreement without modifying the Agreement with Beach Boulevard. Furthermore,
there is no assurance that Beach Boulevard will modify the Agreement and
moreover, a modification of the Agreement may result in the Registration
Statement to no longer be available for resale of shares of common stock.
NOTE D. REVENUE RECOGNITION
The Company recognizes revenue from product sales when it has a firm
fixed price substantiated by a signed purchase order, the products have been
shipped, the Company has fulfilled all obligations contingent to the sale, and
collectibility is probable. If these conditions are not met, revenue is deferred
until all obligations and conditions are fulfilled. For example, if the Company
retains an obligation to install or provide software upgrades, revenue is
deferred until the product is installed or the software or the upgrade is
provided. The Company occasionally sells extended warranties, and revenue
related to these transactions is recognized ratably over the period of the
agreement as services are provided.
NOTE E. INVENTORIES
Inventories are stated at the lower-of-cost or market with cost
determined using first-in first-out. Inventories consist of the following:
DECEMBER 31, JUNE 30,
2002 2002
Raw materials $ 56,558 $ 490,464
Work-in process 11,070 102,178
Finished goods 490,044 485,795
----------- -----------
Total $ 557,672 $1,078,437
=========== ===========
10
Finished goods inventory at December 31, 2003, consists of
approximately $201,000 of finished goods ready for sale, $70,000 of finished
goods used for demonstration purposes ready for sale and $219,000 of deferred
costs relating to deferred revenue of $830,000 (approximately $123,000 of
deferred medical revenue and $707,000 of deferred industrial revenue).
Inventory and commitments are based upon future demand forecasts. In
the second quarter of fiscal 20032, inventory levels exceeded our forecast
requirements and we recorded an additional excess inventory charge of $390,000
in accordance with our policy.
NOTE F. INCOME TAXES
The Company accounts for income taxes using the liability method. Under
this method, the Company records deferred income taxes to reflect future year
tax consequences of temporary differences between the tax basis of assets and
liabilities and their financial statement amounts. The Company has reviewed its
net deferred tax assets, together with net operating loss carry-forwards, and
has provided a valuation allowance to reduce its net deferred tax assets to
their net realizable value.
NOTE G. STOCK WARRANTS, OPTIONS, AND RESTRICTED STOCK
In accordance with Accounting Principles Board Opinion (APB) No. 25
ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES FOR STOCK-BASED COMPENSATION, and
Financial Accounting Standards Board Interpretation No. 44, ACCOUNTING FOR
CERTAIN TRANSACTIONS INVOLVING STOCK COMPENSATION (AN INTERPRETATION OF APB 25),
during the three months and six months ended December 31, 2001, the Company
recorded a decrease to operating expenses of approximately $167,190 and
$3,515,859, respectively, related to stock-based compensation for variable stock
options. This non-cash adjustment represents changes in the difference between
the exercise price of certain stock options and the fair market value of the
underlying security (the Company's common stock). Because the value of a share
of the Company's stock at December 31, 2001, was less than the value of a share
at June 30, 2001, the Company recorded a decrease in previously recognized
expense.
NOTE H. CONTINGENCIES
Except as disclosed in our Form 10-K and in this report, the Company is
unaware of any material contingencies.
11
NOTE I. SEGMENTS
Management evaluates the Company as two distinct lines of business:
medical and industrial products and services. The following unaudited tables
describe operations for each product segment for the three-month periods
December 31, 2002 and 2001.
THREE MONTH PERIOD ENDED THREE MONTH PERIOD ENDED
DECEMBER 31, DECEMBER 31,
2002 2001
Medical Industrial Total Medical Industrial Total
Revenue $ 395,971 $ 199,000 $ 594,971 $ 231,445 $ 4,243 $ 235,688
Cost of Revenues (652,122) (95,882) (748,004) (153,599) (1,360) (154,959)
------------ ------------ ------------ ------------ ------------ ------------
Gross Margin (256,151) 103,118 (153,033) 77,846 2,883 80,729
General & Administration 523,458 122,786 646,244 957,179 224,523 1,181,702
Research & Development 818,062 335,595 1,153,657 1,336,000 245,289 1,581,289
Marketing 313,532 73,545 387,077 855,130 200,586 1,055,716
Depreciation and amortization 150,633 25,361 175,994 372,493 15,594 388,087
Impairments 540,558 170,636 711,194 -- -- --
------------ ------------ ------------ ------------ ------------ ------------
Total Operating Expense 2,346,243 727,923 3,074,166 3,520,802 685,992 4,206,794
Operating Loss $(2,602,394) $ (624,805) $(3,227,199) $(3,442,956) $ (683,109) $(4,126,065)
============ ============ ============ ============ ============ ============
SIX MONTH PERIOD ENDED SIX MONTH PERIOD ENDED
DECEMBER 31, DECEMBER 31,
2002 2001
Medical Industrial Total Medical Industrial Total
Revenue $ 646,901 $ 212,000 $ 858,901 $ 368,579 $ 74,361 $ 442,940
Cost of Revenues (851,828) (100,553) (952,381) (251,904) (14,486) (266,390)
------------ ------------ ------------ ------------ ------------ ------------
Gross Margin (204,927) 111,447 (93,480) 116,675 59,875 176,550
General & Administration 1,198,018 281,017 1,479,035 (683,591) (160,348) (843,939)
Research & Development 1,663,258 738,711 2,401,969 2,310,345 564,636 2,874,981
Marketing 806,430 189,162 995,592 1,036,742 243,187 1,279,929
Depreciation and amortization 289,438 50,140 339,578 753,037 21,616 774,653
Impairments 540,558 170,636 711,194 -- -- --
------------ ------------ ------------ ------------ ------------ ------------
Total Operating Expense 4,497,702 1,429,666 5,927,368 3,416,533 669,091 4,085,624
Operating Loss $(4,702,629) $(1,318,219) $(6,020,848) $(3,299,858) $ (609,216) $(3,909,074)
============ ============ ============ ============ ============ ============
NOTE K. FDA DEVELOPMENTS
The Company's medical imaging and treatment products are subject to
regulation by the U.S. Food and Drug Administration ("FDA"). Over the past few
years, the Company has sought approval for its Breast Cancer System through the
12
FDA's Pre-Market Approval process ("PMA"), which requires rigorous clinical
efficacy testing, manufacturing and other data. The Company utilized the FDA's
modular submission method and submitted its application for approval on five
modules for review.
On December 10, 2002, the Company presented the Breast Cancer System
2100(TM) ("BCS") to the FDA's Radiological Devices Panel ("Panel"), which
recommended by a vote of 4 to 3 against recommending approval of the BCS to the
FDA. On January 23, 2003, the FDA sent the Company a letter concurring with the
panel's recommendation. The letter provided specific actions the Company could
take in order to obtain FDA approval in the future including: a) performing a
new clinical study, (b) modifying the indication for use, (c) performing a
reproducibility study to take into account variations encountered in clinical
practice, and (d) providing a validated daily quality assurance procedure; that
if successfully completed may make the Company's PMA approvable with the FDA.
The Company is working with the FDA's Ombudsman to appeal the FDA's decision to
the Medical Dispute Resolution Panel and has engaged in lobbying efforts to
address this issue at the executive level. We cannot guarantee whether or when
the FDA will approve the BCS. As noted below, the failure to obtain FDA approval
is an event that has raised significant concern about whether the Company may
continue as a going concern.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This document, and the documents incorporated by reference, contain
forward-looking statements within the meaning of the Securities Act of 1933 and
Securities Exchange Act of 1934. Forward-looking statements involve known and
unknown risks, uncertainties and other factors which may cause the actual
results, performance or achievements of the Company to be materially different
from any expected results, performance or achievements. When used in this
document the words "expects", "anticipates," "intends," "plans," "may,"
"believes," "seeks," "estimates," and similar expressions generally identify
forward-looking statements. All forward-looking statements included in this
document are based on information available to the Company on the date hereof,
and we assume no obligation to update any forward-looking statements except to
the extent required under applicable securities laws.
The following discussion and analysis of our consolidated financial
condition and results of operations should be read in conjunction with our
Audited Consolidated Financial Statements and Notes thereto contained in our
Form 10-K for the fiscal year ended June 30, 2002.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements and related disclosure in
conformity with accounting principles generally accepted in the United States of
America and our discussion and analysis of our financial condition and results
of operation requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities, the disclosure of contingent
assets and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
13
We believe the following are our most important accounting policies.
That is, they are both important to the portrayal of our financial condition and
results, and they require management to make judgments and estimates about
matters that are inherently uncertain.
CASH AND CASH EQUIVALENTS - Cash and cash equivalents include cash in
checking accounts and short-term highly liquid investments with an original
maturity of three months or less.
REVENUE RECOGNITION--The Company recognizes revenue from its product
sales upon shipment of products when persuasive evidence of an agreement exists,
delivery of the product has occurred, no significant Company obligations remain,
the price or fee is fixed or determinable, and collectibility is probable. If
these conditions are not met, revenue is deferred until such obligations and
conditions are fulfilled. If the Company retains an ongoing obligation under a
sales arrangement, revenue is deferred until all the Company's obligations are
fulfilled. Warranty revenue is recognized ratably over the period of the
agreement as services are provided.
RESEARCH AND DEVELOPMENT EXPENSES--The Company expenses as incurred the
direct, indirect, and purchased research and development costs associated with
its products.
IMPAIRMENT OF LONG-LIVED ASSETS--The Company evaluates its long-lived
assets for impairment whenever events or changes in circumstances indicate that
the carrying amount of such assets or intangibles may not be recoverable.
Recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future undiscounted net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.
TRENDS/UNCERTAINTIES AFFECTING CONTINUING OPERATIONS
We are exposed to the opportunities and risks usually associated with
marketing and manufacturing novel products, including staff recruiting and
retaining staff, market acceptance of our products, product warranty, bad debts,
and inventory obsolescence. We expect to earn revenues from the sale of our
products, but there is no guarantee that these revenues will recover all the
costs of marketing, selling and manufacturing our products.
Our marketing efforts rely upon building relationships with
manufacturers, medical equipment dealers, physicians and clinical investigators.
We reach our target markets by attending trade shows and conferences, making
direct sales calls, and by sponsoring clinics, where we introduce and
demonstrate our products. We believe marketing medical products through trade
shows, conference presentations, direct mail, and inside sales augmented with
dealers, provides a low cost, high leverage approach to diagnostic imaging and
pain management practitioners. To the extent possible, we plan to continue
investing resources in these programs, although we there can be no assurance
they will lead to market acceptance of our products.
We organize clinical studies with institutions and practitioners to
obtain user feedback and to secure technical papers for training and marketing
14
purposes. These strategies represent a significant investment of time and
resources and have provided useful information; however, there can be no
guarantee that these strategies will lead to market acceptance of our products.
To date, we have had limited operating revenues from the sale of our
products and services. We cannot assure you that we will achieve profitability
in the future. Our immediate priority is to reconcile issues presented to us by
the FDA Advisory Panel on December 10, 2002. At this time, we are unsure how
much time and additional financing we will require to resolve these issues with
the FDA, which raises concern about the Company's ability to continue as a going
concern.
RISK FACTORS
INVESTMENT IN SHARES OF OUR COMMON STOCK IS SUBJECT TO A NUMBER OF RISK FACTORS
THAT, IF REALIZED OR COME TO FRUITION, MAY ADVERSELY AFFECT THE COMPANY'S
PROFITABILITY AND THE VALUE OF THESE SHARES WHILE HELD BY OUR SHAREHOLDERS.
THE FAILURE TO OBTAIN FDA APPROVAL OF OUR BREAST CANCER SYSTEM (BCS) HAS HAD A
MATERIAL ADVERSE IMPACT ON THE COMPANY.
We represented the BCS to a FDA Advisory Panel on December 10, 2002,
and the Panel voted against recommending approval of the BCS. On January 23,
2003, the FDA concurred with the recommendation made by the Panel and issued a
letter to notify us. The FDA's decision to disapprove the BCS has and may
continue to adversely affect the value of our common stock and may jeopardize
our ability to continue operation as a going concern. Unless we are able to
persuade the FDA to modify its position or acquire the additional financing that
would allow us to take the steps suggested by the FDA to receive approval, we
are unlikely to generate funds from operations to continue as a going concern.
We may have to substantially change our operations, including the sale of our
assets.
WE ARE INVOLVED IN SUBSTANTIAL SHAREHOLDER LITIGATION, WHICH MAY HAVE AN ADVERSE
IMPACT ON US AND OUR SHAREHOLDERS.
In 2002, five different lawsuits were filed against us in the United
States District Court in Oregon. The five lawsuits were consolidated into a
single lawsuit. Each suit makes substantially the same allegations: the Company
misled shareholders regarding such things as FDA approval and other matters,
which the plaintiffs believe caused significant damage to the shareholders
holding shares of our common stock at the time of these alleged
misrepresentations and omissions. We believe the allegations are without merit
and intend to defend them vigorously. Defending these lawsuits, which we believe
will be consolidated into a single lawsuit, will require additional legal
expenses to defend, may make fund raising more difficult if not impossible and
will distract certain members of management from day to day operations.
Moreover, our insurance carrier has denied coverage for the plaintiffs'
claims and, accordingly, has indicated it will not cover the costs of defending
the claims and will not pay any resulting damages we may suffer if the
plaintiffs are successful. We have retained insurance counsel to advise us in
this matter, which is in its early stages.
15
Finally, under our bylaws and contractual agreements, we are required
to indemnify our current and former officers and directors who are parties to
the litigation by providing legal defense through our attorneys (or reimbursing
them for their own attorneys) and covering all damages they may suffer if the
plaintiffs are successful.
All of these financial impacts may have an adverse impact on the value of our
common stock and our ability to continue operations as a going concern.
WE NEED ADDITIONAL FINANCING AND, IF WE ARE UNABLE TO GET ADDITIONAL FINANCING,
WE MAY HAVE TO MATERIALLY CHANGE OUR OPERATIONS, WHICH COULD ADVERSELY AFFECT
OUR RESULTS FROM OPERATIONS AND SHAREHOLDER VALUE.
As of December 31, 2002, our working capital, excluding deferred
revenue, was $398,000. We have suffered recurring losses from our operations,
have been denied FDA approval for our BCS, and we have ongoing lawsuits, all of
which substantially raise doubt about our ability to raise additional capital.
We have thus far been unsuccessful in generating any interest from the
investment community in making an investment in the Company. There is no
assurance that capital will be available from any source or, if available, upon
acceptable terms and conditions.
We expect that if we are able to raise additional capital, we will use
a combination of equity and debt securities and instruments. The sale of equity
securities could dilute our existing shareholders, and borrowings from third
parties could result in assets being pledged as collateral and loan terms that
could adversely affect our ability to continue operations as a going concern and
affect the price of our common stock.
OTHER RISK FACTORS.
The above mentioned risk factors should be read in conjunction with our
Audited Consolidated Financial Statements, Notes thereto and risk factors
contained in our Form 10-K for the fiscal year ended June 30, 2002.
GENERAL
Computerized Thermal Imaging, Inc. ("we", "us", "our", "CTI", "the
Company") designs, manufactures and markets thermal imaging devices and services
used for clinical diagnosis, pain management and industrial
testing. The Company markets its products through an internal sales
force and a network of independent distributors.
The Company has developed thermal imaging technology and equipment and
methods for applying our proprietary technology. We believe our thermal imaging
systems generate data, difficult to obtain or not available using other imaging
methods, which is useful to health care providers in the detection of certain
diseases and disorders and useful to the industry for product quality testing.
16
Our research indicates that our equipment and technology is useful in
studying and diagnosing breast cancer, which is the most common cancer in women
after skin cancers. Our research and development efforts led to the creation of
our BCS. We are seeking FDA pre-market approval for this system as an adjunct
to mammography and clinical examinations, for use as a painless and non-invasive
technique for acquiring clinical information. To receive PMA approval, we must
establish the BCS's ability to consistently distinguish between malignant and
benign tissue and thereby reduce the number of benign breast biopsies
performed. We have received acceptance on four of five modules required for PMA
approval. We submitted the fifth module, which includes clinical trial results
and efficacy claims, during June 2001.
We represented the BCS to the FDA's Radiological Devices Panel on
December 10, 2002, and the Panel voted against recommending approval of the BCS.
On January 23, 2003, the FDA concurred with the recommendation made by the Panel
and issued a letter to the Company to disapprove the BCS. The FDA's decision to
disapprove the BCS is based on technical and statistical issues regarding the
clinical trial and analysis of the clinical trial data. The FDA's letter states
specific actions we could take to put the PMA into an approvable form including:
a) performing a new pre-market clinical study, (b) modifying the indication for
use, (c) performing a reproducibility study to take into account variations
encountered in clinical practice, and (d) providing a validated daily quality
assurance procedure. We are pursuing an appeal of the FDA's action utilizing the
FDA's Ombudsman to appeal the FDA's decision to the Medical Dispute Resolution
Panel and have engaged in lobbying efforts.
We are publicly traded on the American Stock Exchange under the symbol
"CIO". On February 4, 2003, we had approximately 92 million shares of common
stock outstanding held by approximately 26,000 shareholders, primarily
individuals. In addition to common stock outstanding, we have approximately
14.75 million shares of common stock underlying warrants and options that remain
unexercised. On a fully diluted basis, we have approximately 100.8 million
common shares outstanding, 28 percent of which are beneficially owned by
insiders and affiliates. Other than our wholly-owned subsidiary, Bales
Scientific, Inc., we have no other interest in any other entity.
The Company uses capital to pay general corporate expenses, including
salaries, manufacturing costs, professional fees, clinical trials and technical
support costs, and general and administrative expenses. To date, the Company has
funded its business activities with funds raised through the private placement
of common stock, debt and warrants and the exercise of warrants and options.
17
RESULTS OF OPERATIONS
QUARTER ENDED DECEMBER 31, 2002, COMPARED TO QUARTER ENDED DECEMBER 31, 2001,
(ROUNDED IN THOUSANDS).
REVENUES
Revenues for the quarter ended December 31, 2002 increased $359,000 or
152%, from the same period last year to $595,000; $396,000 resulted from the
sale of pain management products and the $199,000 from the sale of industrial
products and services.
During the quarter ended December 31, 2002, medical segment revenues
increased $165,000, or 71%, from the same period last year to $396,000. During
the quarter ended December 31, 2001, medical segment revenues were $231,000.
During the quarter ended December 31, 2002, industrial segment
revenues increased $195,000 from the same period last year to $199,000. During
the quarter ended December 31, 2001, industrial segment revenues were $4,000.
This increase is the result of the sale of an industrial testing product and
related products compared to providing turbine testing services.
COSTS AND EXPENSES
General and administrative expenses for the quarter ended December 31,
2002, were $646,000 compared to $1,182,000 for the same period last year, a
decrease of $536,000, or 45%. Excluding a non-cash compensation benefit in the
quarter ended December 31, 2001 of $124,000, general and administrative expenses
decreased $660,000, or 51%. This decrease is primarily a result of 1) a $306,000
decrease in wages resulting from reducing staffing levels and a reduction of
$180,000 in accrued incentive compensation; 2) an $84,000 decrease in
professional services and legal expense; 3) a $175,000 decrease in settlement
charges; and 4) a $117,000 decrease in administrative expense. These decreases
relate to our effort to curtail expenses. If we can obtain FDA approval or
funding to facilitate the steps suggested by the FDA, our expense level will
increase.
Research and development expenses for the quarter ended December 31,
2002 were $1,154,000 compared to $1,581,000 for the same period last year
resulting in a decrease of $427,000, or 27%. Excluding a non-cash compensation
expense of $34,000 in the quarter ended December 31, 2001, research and
development expenses decreased $393,000, or 25%. The decrease is primarily a
result of: 1) a $280,000 decrease in wages related to reducing staffing levels
and a $90,000 reduction in accrued incentive compensation; 2) a $75,000 decrease
in research and development related to the development of the BCS and other pain
management products; 3) a $73,000 decrease in clinical study expenses for the
BCS and pain management products; and 4) a $30,000 decrease in administrative
costs. This reduction in expenses was partially offset by a $30,000 increase in
legal patent expenses. These decreases relate to our effort to curtail expenses.
If we can obtain FDA approval or funding to facilitate the steps suggested by
the FDA, our expense level will increase.
18
Marketing expenses for the quarter ended December 31, 2002 were
$387,000 compared to $1,056,000 for the same period last year resulting in a
decrease of $669,000, or 63% from the same three-month period in 2001. Excluding
a stock compensation benefit of $20,000 for the quarter ended December 31, 2001,
marketing expenses decreased $689,000, or 64%. The decrease is primarily a
result of: 1) a $74,000 decrease in wages related to reducing staffing levels
and a $33,000 reduction in accrued incentive compensation; and 2) a $622,000
decrease in advertising and marketing related to discontinuing most marketing
and advertising activities including the reduction of an $81,000 in a marketing
accrual for professional marketing services and tradeshow activities. These
decreases relate to our efforts to curtail expenses.
Depreciation and amortization expense for the quarter ended December
31, 2002 decreased $212,000, or 55% from the same quarter in 2001 to $176,000.
During Fiscal 2002, we amortized our goodwill ratably over 10 years; however, we
wrote off essentially all of our intangible assets during the fourth quarter of
our 2002 fiscal year.
Impairment loss for the quarter ended December 31, 2002 was $711,000.
Because of our limited cash balances, history of sustained losses and the FDA's
decision to disapprove the BCS, we reviewed our fixed assets and impaired them
to their estimated net realizable value.
OTHER INCOME
Net interest income for the quarter ended December 31, 2002 decreased
$389,000 from the same quarter of 2001 to a net expense of $159,000. This
decrease resulted from: 1) a $39,000 interest expense charge related to interest
on the balance of the debenture; 2) a $172,000 charge from amortization of
deferred finance cost and beneficial conversion feature discount on the
debenture over the life of the mandatory put period; and 3) lower yields and
decreased balances in marketable securities available for sale.
NET INCOME/(LOSS)
As a result of the foregoing, we recorded a net loss of ($3,386,000)
for the quarter ended December 31, 2002, compared to a net loss of ($3,896,000)
for the quarter ended December 31, 2001.
For the quarter ended December 31, 2002, the loss attributable to
common shareholders was $3,386,000, or ($0.04) per share, compared to a loss
attributable to common shareholders of $3,896,000, or ($0.05) per share, for the
quarter ended December 31, 2001.
19
SIX MONTHS ENDED DECEMBER 31, 2002 COMPARED TO SIX MONTHS ENDED DECEMBER 31,
2001 (ROUNDED IN THOUSANDS).
REVENUES
Revenues for the six months ended December 31, 2002 increased $416,000
from the same period last year to $859,000, $647,000 resulted from the sale of
pain management products and the $212,000 from the sale of industrial products
and services.
During the six months ended December 31, 2002, medical segment revenues
were $647,000 compared to $369,000 from the same period last year resulting in
an increase of $278,000, or 75%. This increase in medical sales is a result of
increased foreign sales and increased sales activity overall due to decreasing
the per-unit sales price of our products.
During the six months ended December 31, 2002, industrial segment
revenues were $212,000 compared to $74,000 from the same period last year
resulting in an increase of $138,000, or 186%,. This increase is the result of
the sale of an industrial testing product and related products compared to
providing turbine testing services.
COSTS AND EXPENSES
General and administrative expenses for the six months ended December
31, 2002 were $1,479,000 compared to a benefit of $844,000 for the same period
last year. General and administrative expenses for the six months increased
$2,323,000 from the same six month period in 2001. Excluding a non-cash
compensation expense of $7,000 and a benefit of $2,912,000 in the six month
period ended December 31, 2002 and 2001 respectively, general and administrative
expenses decreased $596,000. This decrease is primarily a result of: 1) a
$220,000 decrease in wages resulting from staff reductions and a reduction of
$180,000 in accrued incentive compensation; 2) a $256,000 decrease in
administrative expenses; 3) a $175,000 decrease in settlement charges; and 4) a
$81,000 decrease in travel expenses. This reduction in expense was partially
offset by a $167,000 increase in professional services and legal expenses. These
decreases relate to our effort to curtail expenses. If we can obtain FDA
approval or funding to facilitate the steps suggested by the FDA, our expense
level will increase.
Research and development expenses for the six months ended December 31,
2002 were $2,402,000 compared to $2,875,000 for the same period last year,
resulting in a decrease of $473,000, or 16%. Excluding a non-cash compensation
benefit of $168,000 in the six months ending December 31, 2001, research and
development expenses decreased $641,000. The decrease is primarily a result of:
1) a $271,000 decrease in wages related to staff reductions and a related
$90,000 decrease in accrued incentive compensation; 2) a $260,000 decrease in
research and development expenses related to the development of the BCS and
other pain management products; 3) a $75,000 decrease in industrial research and
development expenses; 4) a $123,000 decrease in clinical study expenses for the
BCS and pain management products; and 5) a $30,000 decrease in administrative
costs. This reduction in expenses was partially offset by a $64,000 increase in
legal and regulatory expenses. These decreases relate to our effort to curtail
expenses. If we can obtain FDA approval or funding to facilitate the steps
suggested by the FDA, our expense level will increase.
20
Marketing expenses for the six months ended December 31, 2002 were
$996,000, compared to $1,280,000 for the same period last year, resulting in a
decrease of $284,000, or 22%. Excluding a non-cash compensation benefit of
$378,000 for the six months period ended December 31, 2001, marketing expenses
decreased $662,000, or 40%. The decrease is primarily a result of a $728,000
decrease in advertising and marketing expenses related to discontinuing most
related activities, including the reduction of $81,000 to a marketing reserve
accrued for professional services and tradeshow activities. These expenses were
partially offset by a $41,000 increase in administrative costs. These decreases
relate to our efforts to curtail expenses.
Depreciation and amortization expense for the six months ended December
31, 2002 decreased $435,000, or 56%, from the same six months in 2001 to
$340,000. During fiscal 2002, we amortized our goodwill ratably over 10 years,
however; we wrote off essentially all of our intangible assets during the fourth
quarter of our 2002 fiscal year.
Impairment loss for the six months ended December 31, 2002 was
$711,000. Because of our limited cash balances, history of sustained losses and
the FDA's decision to disapprove the BCS, we reviewed our fixed assets and
impaired them to their estimated realizable value.
OTHER INCOME
Net interest income for the six months ended December 31, 2002
decreased $1,282,000 from the same six months of 2001, to a net expense of
$787,000. This decrease resulted from: 1) a $82,000 interest expense charge
related to interest on the balance of the debenture; 2) a $560,000 charge from
amortization of deferred finance cost and beneficial conversion feature discount
on the debenture over the life of the mandatory put period; 3) a $286,000 charge
to interest expense recorded to increase the redeemable balance of the debenture
by 11% pursuant to provisions of the Convertible Debenture (see Agreement with
Beach Boulevard LLC, below); and 4) lower yields and decreased balances in
marketable securities available for sale.
NET INCOME/(LOSS)
As a result of the foregoing, we recorded a net loss of $6,808,000 for
the six months ended December 31, 2002, compared to a net loss of $3,414,000 for
the six months ended December 31, 2001. Excluding a non-cash compensation, the
net loss was $6,801,000 for the six month period ended December 31, 2002,
compared to $6,872,000 for the same period in 2001, a decrease of $71,000.
For the six months ended December 31, 2002 the loss attributable to
common shareholders was $6,808,000, or ($0.08) per share, compared to a loss
attributable to common shareholders of $3,414,000, or ($0.04) per share, for the
six months ended December 31, 2001.
21
LIQUIDITY AND CAPITAL RESOURCES
SOURCES AND USES OF LIQUIDITY
Our sources of funds used for operations have historically come from
issuing common stock, options and warrants, revenues generated from operations,
sale of marketable securities, interest earned from marketable securities
available for sale and debt assumption.
Our cash requirements include, but are not limited to, general
corporate expenses including office salaries and expenses, lease payments on
office space, legal and accounting fees for litigation and to comply with
securities registration and reporting requirements, costs of clinical trials and
technical support, FDA consulting expenses, procurement of inventory and
technical support, FDA consulting expenses, procurement of inventory and
manufacturing expenses, and research and development of our medical and
industrial applications.
Net cash used in operating activities for the six months ended December
31, 2002 was $6,180,000 compared to $6,567,000 for the six months ended December
31, 2001. The decrease in cash used in operating activity was primarily a result
our efforts to decrease our cash outlays offset by litigation settlements paid
during the six months ended December 31, 2002.
Net cash provided by investing activities for the six months ended
December 31, 2002 was $5,428,000 compared to net cash used in investing
activities of $788,000 in the six months ended December 31, 2001. Net cash
provided by and used in investing activities primarily relates to selling
securities to fund operations or using cash to purchase securities
available-for-sale.
Net cash provided by financing activities was $314,000 in the six
months ended December 31, 2002 compared to $1,621,000 during the six months
ended December 31, 2001. Net cash provided by financing activities for the six
months ended December 31, 2002 was from selling stock to Beach Boulevard, LLC
pursuant to the Equity Line. Net cash provided from financing activities for the
six months ended December 31, 2001 was primarily from the exercise of employee
options and investor warrants.
As a result of the foregoing, the net cash outflow decreased by
$438,000 in the six months ended December 31, 2002 compared to a $5,735,000
decrease in the six months ended December 31, 2001.
Cash and cash equivalents at the end of the six months ended December
31, 2002 were $499,000 compared to $2,075,220 for the six months ended December
31, 2001.
The following table summarizes the Company's contractual obligations
and commitments to make future payments:
22
Payments due by period
Total Less than 1 year 1-2 years After 3 years
Operating Leases $ 743,277 $ 309,703 $ 203,170 $ 230,404
Convertible debenture net of conversion privilege 2,428,114 2,428,114 -- --
Interest on Debenture 71,148 71,148 -- --
----------- ----------- ----------- -----------
Total $3,242,539 $2,808,965 $ 203,170 $ 230,404
=========== =========== =========== ===========
AGREEMENT WITH BEACH BOULEVARD LLC
On December 31, 2001, the Company entered into a financing agreement
(the "Agreement") with Beach Boulevard, LLC (the "Investor"), pursuant to which
the Company issued a 7% convertible debenture in the amount of $2.5 million (the
"Convertible Debenture") and secured an equity line of credit (the "Equity
Line") that would allow the Company to sell up to $20 million in common stock to
the Investor at 94% of the market price, as defined by the Agreement. Based on
its original terms, the Convertible Debenture is due on December 31, 2004. The
terms of the Agreement permit the Investor to convert the Convertible Debenture
into 2,100,694 shares of common stock at a conversion price of $1.44 per share
at any time during the term of the Agreement. Interest on the Convertible
Debenture is due on the conversion date and is payable, at the option of the
Company, in cash.
In connection with the Agreement, the Company entered into a
registration rights agreement and subsequently filed a registration statement
with the SEC, which was declared effective on March 18, 2002. The Investor may
require the Company to redeem all or a portion of the Convertible Debenture if
the average closing bid price of the Company's common stock for the 90
consecutive trading days after the effective date of the registration statement
is less than $1.44 (a "Trigger Event"). The amount redeemable is equal to 111 %
of the principal balance of the Convertible Debenture and accrued interest (the
"Redeemable Balance"). If a Trigger Event occurs, the Investor is required to
provide notice to the Company of its election to force redemption and to specify
the date (the "Redemption Due Date") on which the Redeemable Balance is to be
paid. If the Company does not pay the Redeemable Balance in full by the
Redemption Due Date, the Company is required to issue registered unrestricted
shares of common stock pursuant to a series of mandatory put notices consistent
with the terms of the Equity Line. If the Redeemable Balance is not paid through
the mandatory puts within six months of the Investor's notice to force
redemption, the unpaid portion of the Redeemable Balance is required to be paid
immediately in cash. If the Company does not pay the Redeemable Balance within
five days, the Investor can require the Company to continue issuing puts at 75
percent of the three lowest bid prices from 10 trading days after a put is
issued.
On July 25, 2002, the Investor notified the Company that a Trigger
Event had occurred and the Redeemable Balance of the Convertible Debenture
became due. On the date of the Trigger Event, the Redeemable Balance was
approximately $2,898,000, which included principal of approximately $2,500,000,
$111,000 of accrued interest and $287,000 of penalty. The Company elected to
satisfy the Redeemable Balance through a series of mandatory put notices based
23
on the terms of the Equity Line. The terms of the Equity Line provide for one
mandatory put per month and a maximum put amount per put equal to the lesser of
$500,000 or 125 percent of the weighted average trading volume of the Company's
common stock for the 20 days immediately preceding the date of the mandatory put
notice. Because of the average trading volume restriction, we have only made
modest debt repayments and have not been able to extinguish the debt entirely.
During the three months ended December 31, 2002, the Company issued
575,897 common shares through mandatory put notices and applied the proceeds of
$287,000 to redeem $187,473 of principal, $44,455 of accrued interest, and
$25,072 of penalty pursuant to requirements of the Equity Line. The Company also
issued 465,000 shares of common stock for $232,316 pursuant to the Equity Line,
which were used for general corporate purposes.
During the six months ended December 31, 2002, the Company issued
917,430 common shares through mandatory put notices and applied the proceeds of
$456,068 to redeem $312,802 of principal, $98,067 of accrued interest, and
$45,196 of penalty pursuant to requirements of the Equity Line. The Company also
issued 609,112 shares of common stock for $314,386 pursuant to the Equity Line.
The proceeds were used for general corporate purposes.
On December 16, 2002, the Company issued a put to the Investor pursuant
to the Equity Line for $467,000 and issued 1,500,000 shares of common stock on
December 24, 2002 and the remaining 1,455,083 shares of common stock on January
3, 2003. As of December 31, 2002, the Company recorded a subscription receivable
of 237,288 related to the 1,500,000 shares issued on December 24, 2002. Based on
the remaining registered shares and current stock price, the Company can raise
approximately $450,000 from the Equity Line of Credit.
In connection with the Agreement, the Company issued the Investor
warrants for the purchase of 260,417 shares of common stock at $2.03 a share and
641,026 shares of common stock at $1.95 a share, which expire December 31, 2004
and December 31, 2007, respectively. The proceeds from the Debenture Offering
were allocated between the Convertible Debenture, the beneficial conversion
feature, and the warrants issued to the Investor. The Company also issued
separate warrants to an investment bank for the purchase of 100,000 shares of
common stock at $1.87 per share in connection with the Debenture Offering. The
fair market value of these warrants and other related financing costs have been
recorded as deferred financing costs. Because of the Trigger Event discussed in
the preceding paragraph, the deferred financing costs and discount on the
Convertible Debenture are being amortized over the six-month period ending
January 25, 2003.
On January 29, 2003, the Company received a Holder Redemption Notice
(the "Notice") from the Investor. The Notice, referencing the Debenture
Agreement, stated the Investor demands payment of the Current Redeemable
Balance. Pursuant to the Debenture Agreement, the Company had five days to pay
the balance in cash. Because the Company did not pay the Redeemable Balance as
requested by the Holder, the Company is now in default as defined by Section
6.c.ix of the Debenture Agreement. As a result of the default, the Investor may
convert the Redeemable Balance into shares of Common Stock at any time, at the
lower of the Fixed Conversion Price ($1.44) or 75 percent of the average of the
three lowest Closing Bid Prices during the ten trading days after a conversion
or put notice is delivered.
24
On December 31, 2002, the Redeemable Balance outstanding was
approximately $2,499,262. As of February 10, 2003, the Company has reduced the
Redeemable Balance to $1,804,816. Based on the current cash balance and
obligations, stock price and remaining registered shares, the Company may not be
able to repay the remaining Redeemable Balance through cash payments or through
puts under the Agreement without modifying the Agreement with Beach Boulevard.
Furthermore, there is no assurance Beach Boulevard will modify the Agreement and
moreover, a significant modification of the Agreement may result in the need to
issue a new registration statement for the resale of common stock.
CAPITAL REQUIREMENTS/PLAN OF OPERATION
Our capital requirements may vary from our estimates and depend upon
numerous factors including, but not limited to: a) progress in our research and
development programs; b) results of pre-clinical and clinical testing; c) costs
of technology; d) time and costs involved in obtaining regulatory approvals; e)
costs of filing, defending and enforcing any patent claims and other
intellectual property rights; f) the economic impact of developments in
competing technology and our markets; g) competing technological and market
developments; h) the terms of any new collaborative, licensing and other
arrangements that we may establish; and i) litigation costs.
Since inception, we have generated significant losses from operations
and, although we have generated some revenues, we are still a development stage
enterprise. While we have taken actions to reduce our expenses and cash
consumption, we expect to incur additional operating losses. Our working capital
requirements in the foreseeable future will depend on a variety of factors and
assumptions. In particular, that we can acquire additional financing through
additional equity and/or debt financings or through the sale of assets or
intellectual property during fiscal year 2003. If additional funds are raised
through the issuance of equity securities, our stockholders may experience
significant dilution that would aversely affect the price of our common stock.
Furthermore, there can be no assurance that additional financing will be
available when needed or at all, or that if available, such financing will be on
terms favorable to us or our stockholders. If financing is not available when
required or is not available on acceptable terms, we may be required to curtail
our operating plan and may not continue operations as a going concern.
On December 10, 2002, and the FDA's Advisory Panel voted to not
recommend approval of the BCS. On January 23, 2003, the FDA concurred with the
recommendation made by the Panel and issued a letter. The FDA's decision to
disapprove the BCS is based on technical and statistical issues regarding the
clinical trial and analysis of the clinical trial data. The FDA letter states
specific actions the Company could take to put the PMA into an approvable form,
including a new pre-market clinical study, extensive analysis of existing
clinical information, and revised indications for use of the device. Taking such
actions, however, will require additional capital and may require that we
substantially change our operations, including the sale or our assets.
In 2002, the Company is in ongoing litigation from a class-action
lawsuit filed against us in the United States District Court in Oregon. The
Company believes the allegations are without merit and intends to defend them
vigorously. However, defending these lawsuits, which have been consolidated into
a single lawsuit, requires
25
additional legal expenses, has made fundraising more difficult if not impossible
and will distract certain members of management from day-to-day operations.
Moreover, our insurance carrier has denied there is insurance coverage
for the plaintiff's claims and, accordingly, has indicated it will not cover the
costs of defending the claims or pay any resulting damages we may suffer if the
plaintiff's are successful. We have retained insurance counsel who is in the
process of evaluating the amended consolidated complaint.
Finally, under our bylaws and contractual agreements we are required to
indemnify our current and former officers and directors who are a party to the
litigation by providing legal defense through our or their own attorneys and
covering all damages they may suffer if the plaintiffs are successful.
We do not have sufficient capital to cover: 1) the expected costs of
additional clinical studies as required by the FDA; 2) the potential damages of
the shareholder litigation without insurance coverage; or 3) to fund our
business plans over the next year. We will have to obtain additional capital
through issuance of securities, assumption of loans, sale of assets or sale of
intellectual property. Furthermore, these factors have made it difficult if not
impossible to raise the required capital needed to continue operations. If we
are not successful, we will have to scale back our business plans and may have
to discontinue operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are a development stage enterprise. We believe we are not subject to
market risks beyond ordinary economic risks, such as interest rate fluctuation
and inflation.
At December 31, 2002, we had invested approximately $2.9 million in
cash and available-for-sale marketable securities including investments in
United States government securities and corporate bonds. Although we believe the
issuers of these marketable securities are solvent and are favorably rated by
recognized rating agencies, there is the risk that such issuers may not have
sufficient liquid assets to satisfy their obligations at the time such
obligations become due. If such were to occur, we may not be able to recover the
full amount of our investment.
Each of our marketable securities has a fixed rate of interest.
Accordingly, a change in market interest rates may result in an increase or
decrease in the market value of our marketable securities. If we liquidate any
of our marketable securities prior to the time of their maturity, we could
receive less than the face value of the security.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the filing date of this report, the Company
carried out an evaluation, under the supervision and with the participation of
the Company's management, including the Company's Chief Executive Officer and
Chief Financial Officer, of the effectiveness of our disclosure controls and
procedures, as defined in Rules 13a-14 and 15d-14 under the Securities and
Exchange Act of 1934, as amended. Based on that evaluation, the Chief Executive
26
Officer and Chief Financial Officer have concluded that the Company's disclosure
controls and procedures are effective to ensure that information required to be
disclosed by the Company in reports that it files or submits under the
Securities Exchange Act of 1934, as amended, is recorded, processed, summarized
and reported within the time periods specified in Securities and Exchange
Commission rules and forms. There have been no significant changes in the
Company's internal controls or in other factors that could significantly affect
these disclosure controls, subsequent to the date of this evaluation.
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
SALAH AL-HASAWI ADVISORY SERVICES CLAIM
- ---------------------------------------
On March 29, 2000, Salah Al-Hasawi ("Plaintiff"), a citizen and
resident of Kuwait, filed an action in the United States District Court for the
Southern District of New York, against us and our former Chief Executive
Officer, alleging violations under Section 10(b) of the Securities Exchange Act
of 1934 and Rule 10b-5 promulgated thereunder, for commissions allegedly due to
Plaintiff in connection with the private placement of our securities. Shortly
thereafter, the Plaintiffs lawsuit was dismissed without prejudice and on April
12, 2000, the Plaintiff filed a similar complaint in the United States District
Court for the District of Utah. Plaintiff seeks specified damages of $15.5
million, attorney fees and unspecified damages pursuant to five separate causes
of action including breach of contract, fraud and unjust enrichment.
We have denied all of Plaintiffs claims and have affirmatively alleged
that all amounts due have been paid in full. We are currently engaged in
discovery and no trial date has yet been set.
SHAREHOLDER SECURITIES LITIGATION
- ---------------------------------
A lawsuit filed against us in the United States District Court in
Oregon alleges the Company misled shareholders regarding such things as FDA
approval and other matters, which the plaintiffs believe caused significant
damage to the shareholders holding shares of our common stock at the time of
these alleged misrepresentations and omissions. On September 24, 2002, the Court
appointed a lead plaintiff and consolidated these lawsuits into a single action;
and on November 5, 2002, the plaintiffs filed an amended consolidated complaint
against the Company and certain current and former officers. The Company filed a
motion to dismiss the litigation on December 19, 2002. The plaintiffs responded
on February 4, 2003, and the Company will reply by March 1, 2003. The court has
scheduled a hearing on the Company's motion to dismiss for March 24, 2003.
27
Moreover, our insurance carrier has denied coverage for the plaintiffs'
claims and, accordingly, has indicated it will not cover the costs of defending
the claims or pay any resulting damages we may suffer if the plaintiffs are
successful. We have retained counsel to evaluate the question of insurance
coverage regarding the plaintiffs claims set out in their amended consolidated
complaint. There can be no assurance the Company will be successful in obtaining
Director & Officer's coverage for this litigation.
Finally, under our bylaws and contractual agreements we are required to
indemnify our current and former officers and directors who are parties to the
litigation by providing legal defense through our attorneys (or reimbursing them
for their own attorneys) and covering all damages they may suffer if the
plaintiffs are successful.
OTHER LEGAL PROCEEDINGS
- -----------------------
On December 12, 2002 the Company was issued a subpoena to deliver
certain documents to the grand jury for the U.S. District Court for the Southern
District of New York. A subpoena was also served on the Chairman, Richard V.
Secord. The documents requested relate to corporate documents and records as
well as activities occurring over the period of the period from July 1, 2002
until the date the documents are produced. Both the Company subpoena and the
Chairman's subpoena request information that relates primarily to activities and
events surrounding or relating to the application to the Food and Drug
Administration for Pre Market Approval of the CTI Breast Imaging System.
On December 12, 2002 the Company also received a letter from the U.S.
Securities and Exchange Commission (SEC) requesting information and on February
3, 2003 the Company received a subpoena from the SEC requesting certain
documents. The information and documents requested relate to the same
information as described above. The Company has not been named as a defendant or
subject of any administrative proceeding or inquiry.
ITEM 2. CHANGES IN SECURITIES
None
28
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
On January 29, 2003, the Company received a Holder Redemption Notice
(the "Notice") from Beach Boulevard, LLC. The Notice demands payment of the
Current Redeemable Balance. Because the Company has not fully paid the
Redeemable Balance as requested by Beach Boulevard, LLC, the Company is now in
default (See Note C to the Consolidated Financial Statements for a further
explanation).
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
ANNUAL SHAREHOLDER MEETING. On December 12, 2002, we held our Annual Shareholder
Meeting. Proposals I, II and III were approved. The results are as follows:
Proposal I
The following Directors were elected to serve a one-year term:
- ---------------------------------------- -------------------------------------- --------------------------------------
DIRECTOR FOR AUTHORITY WITHHELD
-------- --- ------------------
- ---------------------------------------- -------------------------------------- --------------------------------------
Richard V. Secord 61,706,091 1,924,134
- ---------------------------------------- -------------------------------------- --------------------------------------
John M. Brenna 61,913,295 1,716,930
- ---------------------------------------- -------------------------------------- --------------------------------------
Harry C. Aderholt 63,142,459 487,766
- ---------------------------------------- -------------------------------------- --------------------------------------
Milton R. Geilmann 62,007,177 1,623,048
- ---------------------------------------- -------------------------------------- --------------------------------------
Brent M. Pratley, M.D. 63,222,573 407,652
- ---------------------------------------- -------------------------------------- --------------------------------------
Robert L. Simmons, M.D. 63,256,592 373,633
- ---------------------------------------- -------------------------------------- --------------------------------------
Proposal II
The proposal to amend the 1997 Stock Option and Restricted Stock Plan to1)
extend participation in the Plan to directors and specified consultants, 2)
eliminate the vesting schedule prescribed by the Plan in preference to vesting
schedule as determined within the discretion of the Board of Directors,
and 3) provide that the Plan be governed under Oregon law was approved as
follows:
- ---------------------------------------- ------------------------------------- -------------------------------------
FOR AGAINST ABSTAIN
--- ------- -------
- ---------------------------------------- ------------------------------------- -------------------------------------
60,540,082 2,532,065 558,108
- ---------------------------------------- ------------------------------------- -------------------------------------
Proposal III
The proposal to ratify the selection of Deloitte & Touche, LLP as independent
accountants for the fiscal year ending June 30, 2003 was approved as follows.
- ---------------------------------------- ------------------------------------- -------------------------------------
FOR AGAINST ABSTAIN
--- ------- -------
- ---------------------------------------- ------------------------------------- -------------------------------------
63,036,806 230,930 362,489
- ---------------------------------------- ------------------------------------- -------------------------------------
29
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
(1) These exhibits are filed as part of this Form 10-Q.
Exhibit No. Identification of Exhibit
- ----------- -------------------------
10.1 1997 Stock Option and Restricted Stock Plan as amended
(incorporated by reference to Form 14a Definitive Proxy
Statement filed on November 8, 2002).
99.1 Certification of Computerized Thermal Imaging, Inc. Chief
Executive and Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Computerized Thermal Imaging, Inc. Chief
Executive and Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
(b) REPORTS ON FORM 8-K
Report on Form 8-K filed October 24, 2002 reporting notice of
annual shareholder meeting.
Report on Form 8-K filed February 10, 2003 reporting a change
in Certifying Accountants.
30
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
COMPUTERIZED THERMAL IMAGING, INC.
(Registrant)
/s/ Richard V. Secord
Dated: February 18, 2003 ----------------------------------------------
Richard V. Secord
Chairman & Chief Executive Officer
/s/ Bernard J. Brady
Dated: February 18, 2003 ----------------------------------------------
Bernard J. Brady
Chief Financial Officer, Secretary & Treasurer
31