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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2003 Commission file
number: 0-21683
GRAPHON CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 13-3899021
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
105 Cochrane Circle
Morgan Hill, California 95037
(Address of principal executive offices)
Registrant's telephone number: (800) 472-7466
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.0001 Par Value
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2)
Yes [ ] No [X]
The aggregate market value of the common equity of registrant held by
non-affiliates of the registrant as of June 30, 2003 was approximately
$3,480,200.
Number of shares of Common Stock outstanding as of March 19, 2004: 21,638,097
shares of Common Stock.
GRAPHON CORPORATION
FORM 10-K
Table of Contents
Page
PART I.
Item 1. Business 2
Item 2. Properties 8
Item 3. Legal Proceedings 8
Item 4. Submission of Matters to a Vote of Security Holders 8
PART II.
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 9
Item 6. Selected Financial Data 9
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operation 10
Item 7A. Quantitative and Qualitative Disclosures About
Market Risk 21
Item 8. Financial Statements and Supplementary Data 21
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 43
Item 9A. Controls and Procedures 43
PART III.
Item 10. Directors and Executive Officers of the Registrant 44
Item 11. Executive Compensation 45
Item 12. Security Ownership of Certain Beneficial Owners
and Management 46
Item 13. Certain Relationships and Related Transactions 48
Item 14. Principal Accounting Fees and Services 48
PART IV.
Item 15. Exhibits, Financial Statement Schedules, and Reports
on Form 8-K 50
SIGNATURES 51
FORWARD LOOKING INFORMATION
This report includes, in addition to historical information, "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. This Act provides a "safe harbor" for forward-looking statements to
encourage companies to provide prospective information about themselves so long
as they identify these statements as forward-looking and provide meaningful
cautionary statements identifying important factors that could cause actual
results to differ from the projected results. All statements other than
statements of historical fact we make in this report or in any document
incorporated by reference are forward-looking statements. In particular, the
statements regarding industry prospects and our future results of operations or
financial position are forward-looking statements. Such statements are based on
management's current expectations and are subject to a number of uncertainties
and risks that could cause actual results to differ significantly from those
described in the forward looking statements. Factors that may cause such a
difference include, but are not limited to, those discussed in "Management's
Discussion and Analysis of Financial Condition and Results of Operation," as
well as those discussed elsewhere in this report.
PART I
ITEM 1. BUSINESS
General
We are developers of business connectivity software, including Unix, Linux and
Windows server-based software, with an immediate focus on web-enabling
applications for use by independent software vendors (ISVs), application service
providers (ASPs), corporate enterprises, governmental and educational
institutions, and others.
Server-based computing, sometimes referred to as thin-client computing, is a
computing model where traditional desktop software applications are relocated to
run entirely on a server, or host computer. This centralized deployment and
management of applications reduces the complexity and total costs associated
with enterprise computing. Our software architecture provides application
developers with the ability to relocate applications traditionally run on the
desktop to a server, or host computer, where they can be run over a variety of
connections from remote locations to a variety of display devices. With our
server-based software, applications can be web enabled, without any modification
to the original application software required, allowing the applications to be
run from browsers or portals. Our server-based technology can web-enable a
variety of Unix, Linux or Windows applications.
Our headquarters are located at 105 Cochrane Circle, Morgan Hill, California,
95037 and our phone number is 1-800-GRAPHON (1-800-472-7466). Our Internet
website is http://www.graphon.com. The information on our website is not part of
this annual report. We also have offices in Concord, New Hampshire, Rolling
Hills Estates, California and Berkshire, England, United Kingdom.
You may read and copy any materials that we file with the SEC at the SEC's
Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. You may
obtain information on the operation of the Public Reference Room by calling the
SEC at 1-800-SEC-0330. The SEC also maintains an Internet website
(http://www.sec.gov) that contains reports, proxy and information statements,
and other information that we file electronically with the SEC from time to
time. Our filings with the SEC are linked to the Investors section of our
Internet website.
Industry Background
History
In the 1970s, software applications were executed on central mainframes and
typically accessed by low-cost display terminals. Information technology
departments were responsible for deploying, managing and supporting the
applications to create a reliable environment for users. In the 1980s, the PC
became the desktop of choice: empowering the user with flexibility, a graphical
user interface, and a multitude of productive and inexpensive applications. In
the 1990s, the desktop provided access to mainframe applications and databases,
which run on large, server computers. Throughout the computing evolution, the
modern desktop has become increasingly complex and costly to administer and
maintain. This situation is further worsened as organizations become more
decentralized with remote employees, and as their desire increases to become
more closely connected with vendors and customers through the Internet.
Lowering Total Cost of Ownership
PC software in general has grown dramatically in size and complexity in recent
years. As a result, the cost of supporting and maintaining PC desktops has
increased substantially. Industry analysts and enterprise users alike have begun
to recognize that the total cost of PC ownership, taking into account the
recurring cost of technical support, administration and end-user down time, has
become high, both in absolute terms and relative to the initial hardware
purchase price.
With increasing demands to control corporate computing costs, industry leaders
are developing technology to address total cost of ownership issues. One
approach, led by Sun Microsystems and IBM, utilizes Java-based network
computers, which operate by downloading small Java programs to the desktop,
which in turn are used for accessing server-based applications. Another approach
is Microsoft's Windows Terminal Services(TM), introduced in June 1998. It
permits server-based Windows applications to be accessed from Windows-based
network computers. Both initiatives are examples of server-based computing. They
simplify the desktop by moving the responsibility of running applications to a
central server, with the promise of lowering total cost of ownership.
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Enterprise Cross-Platform Computing
Today's enterprises contain a diverse collection of end user devices, each with
its particular operating system, processing power and connection type.
Consequently, it is becoming increasingly difficult to provide universal access
to business-critical applications across the enterprise. As a result,
organizations resort to emulation software, new hardware or costly application
rewrites in order to provide universal application access.
A common cross-platform problem for the enterprise is the need to access Unix or
Linux applications from a PC desktop. While Unix-based computers dominate the
enterprise applications market, Microsoft Windows-based PCs dominate the
enterprise desktop market. Since the early 1990s, enterprises have been striving
to connect desktop PCs to Unix applications over all types of connections,
including networks and standard phone lines. This effort, however, is complex
and costly. The primary solution to date is known as PC X Server software. PC X
Server software is a large software program that requires substantial memory and
processing resources on the desktop. Typically, PC X Server software is
difficult to install, configure and maintain. Enterprises are looking for
effective Unix connectivity software for PCs and non-PC desktops that is easier
and less expensive to administer and maintain.
Of course, businesses that run Linux or Unix on their end user devices require
access to the large number of applications written for the Microsoft operating
environment, such as Office 2003. Our technology enables Windows applications to
be published to any client device running our GoGlobal client software,
including: Linux, Unix, Windows and Macintosh desktops and devices.
Application Service Providers (ASPs)
With the ubiquitous nature of the Internet, new operational models and sales
channels are emerging. Traditional high-end software packages that were once too
expensive for many companies are now available for rent over the Internet. By
servicing customers through a centralized operation, rather than installing and
maintaining applications at each customer's site, ASPs play an important role in
addressing an enterprise's computing requirements. Today, ASPs are faced with
the difficult task of creating, or rewriting, applications to entertain the
broader market.
Remote Computing
The cost and complexity of contemporary enterprise computing has been further
complicated by the growth in remote access requirements. As business activities
become physically distributed, computer users have looked to portable computers
with remote access capabilities to stay connected in a highly dispersed work
environment. One problem facing remote computing over the Internet, or direct
telephone connections, is the slow speed of communication in contrast to the
high speed of internal corporate networks. Today, applications requiring remote
access must be tailored to the limited speed and lower reliability of remote
connections, further complicating the already significant challenge of
connecting desktop users to business-critical applications.
Our Approach
Our server-based software deploys, manages, supports and executes applications
entirely on the server computer and publishes their user interface efficiently
and instantaneously to desktop devices. The introduction of the Windows-based
version of our Bridges software, during 2000, enabled us to enter the Windows
application market. This allowed us to provide support for Windows applications
to both enterprise customers and to leverage independent software vendors (ISVs)
as a channel. During the fourth quarter of 2002 we introduced GO-Global for
Windows, a significant upgrade to our product offerings in the Windows market.
This new version has increased application compatibility, server scalability and
improved application performance over our previous version.
Our technology consists of three key components:
o The server component runs alongside the server-based application and is
responsible for intercepting user-specific information for display at the
desktop.
o The desktop component is responsible only for sending keystrokes and mouse
motion to the server. It also presents the application interface to the
desktop user. This keeps the desktop simple, or thin, as well as
independent of application requirements for resources, processing power
and operating systems.
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o Our protocol enables efficient communication over fast networks or slow
dial-up connections and allows applications to be accessed from remote
locations with network-like performance and responsiveness.
We believe that the major benefits of our technology are as follows:
o Lowers Total Cost of Ownership. Reducing information technology (IT)
costs is a primary goal of our products. Today, installing
enterprise applications is time-consuming, complex and expensive. It
typically requires administrators to manually install and support
diverse desktop configurations and interactions. Our server-based
software simplifies application management by enabling deployment,
administration and support from a central location. Installation and
updates are made only on the server, thereby avoiding desktop
software and operating system conflicts and minimizing at-the-desk
support.
o Web Enables Existing Applications. The Internet represents a
fundamental change in distributed computing. Organizations now
benefit from ubiquitous access to corporate resources by both local
and remote users. However, to fully exploit this opportunity,
organizations need to find a way to publish existing applications to
Internet enabled devices. Our technology is specifically targeted at
solving this problem. With GoGlobal, an organization can publish an
existing application to an Internet enabled device without the need
to rewrite the application. This reduces application development
costs while preserving the rich user interface so difficult to
replicate in a native Web application.
o Connects Diverse Computing Platforms. Today's computing
infrastructures are a mix of computing devices, network connections
and operating systems. Enterprise-wide application deployment is
problematic due to this heterogeneity, often requiring costly and
complex emulation software or application rewrites. For example,
Windows PCs typically may not access a company's Unix applications
without installing complex PC X Server software on each PC. Typical
PC X Servers are large and require an information technology
professional to properly install and configure each desktop. For
Macintosh, the choices are even fewer, requiring the addition of yet
another vendor product. For the newer technologies, such as tablet
PCs or handheld devices, application access will be challenging.
To rewrite an application for each different display device (be that a
desktop PC or tablet PC) and their many diverse operating systems is often
a difficult and time-consuming task. In addition to the development
expense, issues of desktop performance, data compatibility and support
costs often make this option prohibitive. Our products provide
organizations the ability to access applications from virtually all
devices, utilizing their existing computing infrastructure, without
rewriting a single line of code or changing or reconfiguring hardware.
This means that enterprises can maximize their investment in existing
technology and allow users to work in their preferred environment.
o Leverages Existing PCs and Deploys New Desktop Hardware. Our software
brings the benefits of server-based computing to users of existing PC
hardware, while simultaneously enabling enterprises to begin to take
advantage of and deploy many of the new, less complex network
computers. This assists organizations in maximizing their current
investment in hardware and software while, at the same time,
facilitating a manageable and cost effective transition to newer
devices.
o Efficient Protocol. Applications typically are designed for
network-connected desktops, which can put tremendous strain on
congested networks and may yield poor, sometimes unacceptable,
performance over remote connections. For ASPs, bandwidth typically
is the top recurring expense when web-enabling, or renting, access to
applications over the Internet. In the emerging wireless market,
bandwidth constraints limit application deployment. Our protocol
sends only keystrokes, mouse clicks and display updates over the
network resulting in minimal impact on bandwidth for application
deployment, thus lowering cost on a per user basis. Within the
enterprise, our protocol can extend the reach of business-critical
applications to many areas, including branch offices, telecommuters
and remote users over the Internet, phone lines or wireless
connections. This concept may be extended further to include vendors
and customers for increased flexibility, time-to-market and customer
satisfaction.
Products
We are dedicated to creating business connectivity technology that brings
Windows, Unix, and Linux applications to the web without modification. Our
customers include ISVs, Value-Added Resellers (VARs) and Fortune 1000
enterprises. By employing our technology, customers benefit from a very quick
time to market, overall cost savings via centralized computing, a client neutral
cross-platform solution, and high performance remote access.
Our product offerings include GoGlobal for Windows and GoGlobal for Unix.
4
GoGlobal for Windows allows access to Windows applications from remote locations
and a variety of connections, including the Internet and dial-up connections.
GoGlobal for Windows allows Windows applications to be run via a browser from
Windows or non-Windows devices, over many types of data connections, regardless
of the bandwidth or operating system. With GoGlobal for Windows, web enabling is
achieved without modifying the underlying Windows applications' code or
requiring costly add-ons.
GoGlobal for Unix web-enables Unix and Linux applications allowing them to be
run via a browser from many different display devices, over various types of
data connections, regardless of the bandwidth or operating systems being used.
GoGlobal for Unix web-enables individual Unix and Linux applications, or entire
desktops. When using GoGlobal for Unix, Unix and Linux web enabling is achieved
without modifying the underlying applications' code or requiring costly add-ons.
Target Markets
The target market for our products comprises organizations that need to access
Windows, Unix and/or Linux applications from a wide variety of devices, from
remote locations, including over the Internet, dial-up lines, and wireless
connections. This includes organizations, such as Fortune 1000 companies,
governmental and educational institutions, ISVs, VARs and ASPs. Our software is
designed to allow these enterprises to tailor the configuration of the end user
device for a particular purpose, rather than following a "one PC fits all," high
total cost of ownership model. Our opportunity within the marketplace is more
specifically broken down as follows:
o ISVs. By web-enabling their applications, software developers can
strengthen the value of their product offerings, opening up additional
revenue opportunities and securing greater satisfaction and loyalty from
their customers. We believe that ISVs who effectively address the web
computing needs of customers and the emerging ASP market will have a
competitive advantage in the marketplace.
By combining our products with desktop versions of their software
applications, our ISV customers have been able to accelerate the time to
market for web-enabled versions of their software applications without the
risks and delays associated with rewriting applications or using third
party solutions. Our technology quickly integrates with their existing
software applications without sacrificing the full-featured look and feel
of their original software application, thus providing ISVs with
out-of-the-box web-enabled versions of their software applications with
their own branding for licensed, volume distribution to their enterprise
customers.
o Enterprises Employing a Mix of Unix, Linux, Macintosh and Windows.
Most major enterprises employ a heterogeneous mix of computing
environments. Companies that utilize a mixed computing environment
require cross-platform connectivity solutions, like GoGlobal, that
will allow users to access applications from different client
devices. It has been estimated that PCs represent over 90% of
enterprise desktops. We believe that our products are well
positioned to exploit this opportunity and that our server-based
software products will significantly reduce the cost and complexity
of connecting PCs to various applications.
o Enterprises With Remote Computer Users. Remote computer users comprise one
of the fastest growing market segments in the computing industry.
Efficient remote access to applications has become an important part of
many enterprises' computing strategies. Our protocol is designed to enable
highly efficient low-bandwidth connections.
o ASPs. High-end software applications in the fields of human resources,
enterprise resource planning, enterprise relationship management and
others, historically have only been available to organizations able
to make large investments in capital and personnel. The Internet has
opened up global and mid-tier markets to vendors of this software who
may now offer it to a broader market on a rental basis. Our products
enable the vendors to provide Internet access to their applications
with minimal additional investment in development implementation.
o VARs. The VAR channel presents an additional sales force for our
products and services. In addition to creating broader awareness of
Go-Global, the VAR channel also provides integration and support
services for our current and potential customers. Our products allow
software resellers to offer a cost effective competitive alternative
for Server-Base Thin Client computing. In addition, reselling our
Go-Global software creates new revenue streams for our VARs through
professional services and maintenance renewals.
o Extended Enterprise Software Market. Extended enterprises allow access to
their computing resources to customers, suppliers, distributors and other
5
partners, thereby gaining flexibility in manufacturing and increasing
speed-to-market and customer satisfaction. For example, extended
enterprises may maintain decreased inventory via just-in-time,
vendor-managed inventory and related techniques.
The early adoption of extended enterprise solutions may be driven in part by
enterprises' need to exchange information over a wide variety of computing
platforms. We believe that our server-based software products, along with our
low-impact protocol, are well positioned to provide enabling solutions for
extended enterprise computing.
Strategic Relationships
We believe it is important to maintain our current strategic alliances and to
seek suitable new alliances in order to enhance shareholder value, improve our
technology and/or enhance our ability to penetrate relevant target markets. We
also are focusing on strategic relationships that have immediate revenue
generating potential, strengthen our position in the server-based software
market, add complementary capabilities and/or raise awareness of our products
and us.
In July 1999, we entered into a five-year, non-exclusive agreement with Alcatel
Italia, the Italian Division of Alcatel, the telecommunications, network systems
and services company. Pursuant to this agreement, Alcatel has licensed our
GoGlobal thin client PC X server software for inclusion with their Turn-key
Solution software, an optical networking system. Alcatel's customers are using
our server-based solution to access Alcatel's UNIX/X Network Management Systems
applications from T-based PCs. Alcatel has deployed GoGlobal internally to
provide their employees with high-speed network access to their own server-based
software over dial-up connections, local area networks (LANs) and wide area
networks (WANs). We anticipate renewing this agreement during 2004.
In February 2002 we signed a three-year, non-exclusive agreement with Agilent
Technologies, an international provider of technologies, solutions and services
to the communications, electronics, life sciences and chemical analysis
industries. Pursuant to this agreement, we licensed our Unix-based web-enabling
products to Agilent for inclusion in their Agilent OSS Web Center, an operations
support system that provides access to mission-critical applications remotely
via a secure Internet browser.
In December 2002, we agreed to an eighteen-month extension of our exclusive
distribution agreement with KitASP, a Japanese application service provider,
which was founded by companies within Japan's electronics and infrastructure
industries, including NTT DATA, Mitsubishi Electric, Omron, RICS, Toyo
Engineering and Hitachi. Pursuant to the original agreement, KitASP was granted
an exclusive right, within Japan, to distribute our web-enabling technology,
bundled with their ASP services, and to resell our software. The original
agreement provided for an optional second year, which was exercisable at our
discretion. As a result of the extension, KitASP's one-year exclusivity period
has been extended for an additional 18 months in lieu of the optional second
year that we had formerly held. We anticipate renewing the KitASP distribution
agreement during 2004.
In March 2003, we entered into a fourth consecutive one-year, non-exclusive
agreement with FrontRange, an international software and services company.
Pursuant to the original agreement, we licensed our Bridges for Windows
server-based software for integration with FrontRange's HEAT help desk software
system. FrontRange has private labeled and completely integrated Bridges for
Windows into its HEAT help desk software as iHEAT. As part of the 2003 renewal,
we have licensed our GoGlobal for Windows server-based software for integration
with both FrontRange's HEAT and its Client Relationship Management software
package Goldmine. We anticipate renewing the FrontRange agreement during 2004.
In September 2003, we amended our non-exclusive agreement with Compuware, an
international software and services company. Pursuant to this amendment, we
licensed, for three years, our GoGlobal for Windows server-based software for
inclusion with Compuware's UNIFACE software, a development and deployment
environment for enterprise customer-facing applications. Compuware's customers
are using our server-based solution to provide enterprise-level UNIFACE
applications over the Internet. Compuware has private labeled and completely
integrated GoGlobal for Windows into its UNIFACE deployment architecture as
UNIFACE Jti. Negotiations are currently underway with Compuware on a renewal
involving our latest Windows-based product, GoGlobal for Windows.
Sales, Marketing and Support
Our customers, to date, include Fortune 1000 enterprises, ISVs, VARs and large
governmental organizations. Sales to FrontRange and Alcatel generated
approximately 27.4% and 18.4%, respectively, of our revenues in 2003. Sales to
FrontRange, Verizon and Alcatel generated approximately 28.0%, 24.4% and 13.1%,
respectively, of our revenues in 2002. We consider FrontRange to be our most
significant customer.
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Our sales and marketing efforts will be focused on increasing product awareness
and demand among ISVs, Global 10,000 enterprises, and VARs who have a vertical
orientation or are focused on Unix, Linux or Windows environments. Current
marketing activities include direct mail, a targeted advertising campaign,
tradeshows, production of promotional materials, public relations and
maintaining an Internet presence for marketing and sales purposes.
Research and Development
Our research and development efforts currently are focused on developing new
products and further enhancing the functionality, performance and reliability of
existing products. We invested $1,797,200, $3,129,800 and $4,530,900 in research
and development in 2003, 2002 and 2001, respectively, including capitalized
software development costs of $282,200, $298,500 and $396,500, respectively. We
expect research and development expenditures in 2004 to approximate 2003 levels.
We have made significant investments in our protocol and in the performance and
development of our server-based software.
Competition
The server-based software market in which we participate is highly competitive.
We believe that we have significant advantages over our competitors, both in
product performance and market positioning. This market ranges from remote
access for a single PC user to server-based software for large numbers of users
over many different types of device and network connections. Our competitors
include manufacturers of conventional PC X server software. Competition is
expected from these and other companies in the server-based software market.
Competitive factors in our market space include; price, product quality,
functionality, product differentiation and breadth.
We believe our principal competitors for our current products include Citrix
Systems, Inc., Hummingbird Communications, Ltd., Tarantella, WRQ, Network
Computing Devices and NetManage. Citrix is the established leading vendor of
server-based computing software. Hummingbird is the established market leader in
PC X Servers. WRQ, Network Computing Devices, and NetManage also offer
traditional PC X Server software.
Operations
Our current staff performs all purchasing, order processing and shipping of our
products and accounting functions related to our operations. Production of
software masters, development of documentation, packaging designs, quality
control and testing are also performed by us. When required by a customer,
CD-ROM and floppy disk duplication, printing of documentation and packaging are
also accomplished through in-house means. We generally ship products
electronically immediately upon receipt of order. As a result, we have
relatively little backlog at any given time, and do not consider backlog a
significant indicator of future performance. Additionally, since virtually all
of our orders are currently being fulfilled electronically, we do not maintain
any prepackaged inventory.
Proprietary Technology
We rely primarily on trade secret protection, copyright law, confidentiality and
proprietary information agreements to protect our proprietary technology and
registered trademarks. The loss of any material trade secret, trademark, trade
name or copyright could have a material adverse effect on our results of
operations and financial condition. There can be no assurance that our efforts
to protect our proprietary technology rights will be successful.
Despite our precautions, it may be possible for unauthorized third parties to
copy portions of our products, or to obtain information we regard as
proprietary. We do not believe our products infringe on the rights of any third
parties, but there can be no assurance that third parties will not assert
infringement claims against us in the future, or that any such assertion will
not result in costly litigation or require us to obtain a license to proprietary
technology rights of such parties.
In November 1999, we acquired a U.S. patent for the remote display of Microsoft
Windows applications on Unix and Linux desktops with X Windows. As a result, we
believe that we have acquired patent protection and licensing rights for the
deployment of all Windows applications remoted, or displayed, over a network or
any other type of connection to any X Windows systems. This patent, which covers
our Bridges for Windows (formerly jBridge) technology, was originally developed
by a team of engineers formerly with Exodus Technology and hired by us in May
1998.
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Employees
As of March 18, 2004, we had a total of 25 employees, including six in
marketing, sales and support, 15 in research and development and four in
administration and finance. We believe our relationship with our employees is
good. No employees are covered by a collective bargaining agreement.
ITEM 2. PROPERTIES
We currently occupy approximately 500 square feet of office space in Morgan
Hill, California. The office space is rented pursuant to an oral month-to-month
lease, which became effective in September 2003. Rent on the Morgan Hill
facility is approximately $1,200 per month, which is inclusive of various fees
proportioned to us under the terms of the lease agreement.
During October 2003 we entered into a one-year lease for approximately 3,300
square feet of office space in Concord, New Hampshire. Rent on the Concord
facility is approximately $5,000 per month.
We also occupy leased facilities in Rolling Hills Estates, California and
Berkshire, England, United Kingdom. The Rolling Hills Estates and Berkshire
offices are very small and each are leased on a month-to-month basis. Rent on
the Rolling Hills Estates office is approximately $1,000 per month and the rent
on the Berkshire, England office, which fluctuates slightly depending on
exchange rates, is approximately $400 per month.
We believe our current facilities will be adequate to accommodate our needs for
the foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
We are currently not party to any legal proceedings that we believe will have a
material negative impact on our operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
Our 2003 Annual Meeting of Stockholders was held on December 30, 2003. At the
meeting, one director was reelected. The vote was as follows:
For Withheld
---------- ---------
Michael Volker 13,346,253 1,403,615
The following individuals continue in their capacity as directors: Robert
Dilworth, August Klein and Gordon Watson. Their current terms expire during
2004, 2004 and 2005, respectively.
The shareholders approved the increase in our stock option plan. The result of
the vote for the amendment of our 1998 Stock Option/Stock Issuance Plan to
increase the number of shares of common stock available thereunder from
3,655,400 to 4,455,400 was as follows:
For Against Abstain
--- ------- -------
3,553,848 1,879,947 11,831
Also at the meeting, the shareholders ratified the reappointment of BDO Seidman,
LLP as our independent auditors for fiscal 2003. The vote was as follows:
For Against Abstain
--- ------- -------
14,616,890 112,837 20,141
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The following table sets forth, for the periods indicated, the high and low
reported sales price of our common stock. From August 9, 2000 to May 27, 2002,
our common stock was quoted on the Nasdaq National Market System. From May 28,
2002 to March 26, 2003, our common stock was quoted on the Nasdaq SmallCap
Market System. Since March 27, 2003 our common stock has been quoted on the
Over-the-Counter Bulletin Board. Our common stock is quoted under the symbol
"GOJO."
Fiscal 2003 Fiscal 2002
------------- -------------
Quarter High Low High Low
----- ------ ------ -----
1st $0.28 $0.13 $ 0.80 $0.24
2nd $0.34 $0.13 $ 0.37 $0.15
3rd $0.28 $0.18 $ 0.52 $0.08
4th $0.28 $0.15 $ 0.29 $0.12
On March 18, 2004, there were approximately 148 holders of record of our common
stock. On March 18, 2004, the last reported sales price was $0.77.
We have never declared or paid dividends on our common stock. We do not
anticipate paying any cash dividends for the foreseeable future. We currently
intend to retain future earnings, if any, to finance operations and the
expansion of our business. Any future determination to pay cash dividends will
be at the discretion of our Board of Directors and will be dependent upon the
earnings, financial condition, operating results, capital requirements and other
factors as deemed necessary by the Board of Directors.
ITEM 6. SELECTED FINANCIAL DATA
The following selected historical financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operation" and our historical financial statements and the notes thereto
included elsewhere herein. Our selected historical financial data as of December
31, 2003, 2002, 2001, 2000, and 1999, and for the years ended December 31, 2003,
2002, 2001, 2000, and 1999 have been derived from our financial statements which
have been audited by BDO Seidman LLP, independent public accountants.
Statement of Operations Data:
Year Ended December 31,
2003 2002 2001 2000 1999
------------- -------------- ------------- ------------- --------------
(Amounts in thousands, except share and per share data)
Revenues $ 4,170 $ 3,535 $ 5,911 $ 7,567 $ 3,635
Costs of revenues 1,371 1,680 2,613 1,044 2,800
------------ -------------- ------------- ------------- --------------
Gross profit 2,799 1,855 3,298 6,523 835
------------ -------------- ------------- ------------- --------------
Operating expenses:
Selling and marketing 1,680 2,235 5,989 5,750 3,279
General and administrative 1,419 2,801 4,561 4,653 2,265
Research and development 1,515 2,831 4,134 4,060 2,467
Asset impairment loss - 914 4,501 - -
Restructuring charge 80 1,943 - - -
------------ -------------- ------------- ------------- --------------
Total operating expenses 4,694 10,724 19,185 14,463 8,011
------------ -------------- ------------- ------------- --------------
Loss from operations (1,895) (8,869) (15,887) (7,940) (7,176)
Other income (expense) net 8 77 410 (1,434) 144
------------ -------------- ------------- -------------- --------------
Loss before provision
for income taxes (1,887) (8,792) (15,477) (9,374) (7,032)
Provision for income taxes - - 1 1 1
------------ -------------- ------------- ------------- --------------
Net loss $ (1,887) $ (8,792) $ (15,478) $ (9,375) $ (7,033)
============ ============== ============= ============= ==============
Basic and diluted loss per share $ (0.11) $ (0.50) $ (0.97) $ (0.65) $ (0.71)
============ ============== ============= ============= ===============
Weighted average common
shares outstanding 16,607,328 17,465,099 16,007,763 14,396,435 9,950,120
============ ============== ============= ============= ==============
9
As of December 31,
2003 2002 2001 2000 1999
------------ -------------- ------------- ------------- --------------
(Amounts in thousands)
Working capital $ (145) $ 668 $ 6,173 $ 12,879 $ 11,701
Total assets 2,562 4,550 12,986 21,040 15,224
Total liabilities 1,715 1,820 1,660 1,983 842
Shareholders' equity 847 2,730 11,326 19,057 14,382
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
The following discussion should be read in conjunction with the consolidated
financial statements provided under Part II, ITEM 8 of this Annual Report on
Form 10-K.
Critical Accounting Policies. The preparation of financial statements and
related disclosures in conformity with accounting principles generally accepted
in the United States requires management to make judgments, assumptions and
estimates that effect the amounts reported in the Consolidated Financial
Statements and accompanying notes. The Summary of Significant Accounting
Policies appears in Part II, Item 8 - Financial Statements and Supplementary
Data, of this Form 10-K, which describes the significant accounting polices and
methods used in the preparation of the Consolidated Financial Statements.
Estimates are used for, but not limited to, the accounting for the allowance for
doubtful accounts, the impairment of intangible assets, contingencies and other
special charges and taxes. Actual results could differ materially from these
estimates. The following critical accounting policies are impacted significantly
by judgments, assumptions and estimates used in the preparation of the
Consolidated Financial Statements.
The recognition of revenue is based on our assessment of the facts and
circumstances of the sales transaction. In general, software license revenues
are recognized when a non-cancelable license agreement has been signed and the
customer acknowledges an unconditional obligation to pay, the software product
has been delivered, there are no uncertainties surrounding product acceptance,
the fees are fixed or determinable and collection is considered probable.
Delivery is considered to have occurred when title and risk of loss have been
transferred to the customer, which generally occurs when the media containing
the licensed programs is provided to a common carrier. In the case of electronic
delivery, delivery occurs when the customer is given access to the licensed
programs. If collectibility is not considered probable, revenue is recognized
when the fee is collected.
Under Statement of Position (SOP) 97-2, "Software Revenue Recognition," revenue
earned on software arrangements involving multiple elements is allocated to each
element arrangement based on the relative fair values of the elements. If there
is no evidence of the fair value for all the elements in a multiple element
arrangement, all revenue from the arrangement is deferred until such evidence
exists or until all elements are delivered. In accordance with SOP 97-2, we
recognize revenue from the sale of software licenses when all the following
conditions are met:
o Persuasive evidence of an arrangement exists;
o Delivery has occurred or services have been rendered;
o Our price to the customer is fixed or determinable; and
o Collectibility is reasonably assured.
The allowance for doubtful accounts is based on our assessment of the
collectibility of specific customer accounts and the aging of the accounts
receivable. If there is a deterioration of a major customer's credit worthiness
or actual defaults are higher than our historical experience, our estimates of
the recoverability of amounts due us could be adversely affected.
We perform impairment tests on our intangible assets on an annual basis and
between annual tests in certain circumstances. In response to changes in
industry and market conditions, we may strategically realign our resources and
consider restructuring, disposing of, or otherwise exiting businesses, which
could result in an impairment of intangible assets. During 2002 and 2001 we
recorded significant write-downs to the value of our intangible assets as a
result of the impairment tests performed. A significant consideration impacting
10
the results of the impairment tests was the substantial delay in getting our
most recently released Windows-based product upgrade, GoGlobal for Windows, into
marketable condition. The engineering delays we encountered resulted in a
substantial decrease in our revenue in both 2002 and 2001, which ultimately
caused us to consume almost all of our cash balances in our day-to-day
operations.
We are subject to the possibility of various loss contingencies arising in the
ordinary course of business. We consider the likelihood of the loss or
impairment of an asset or the incurrence of a liability as well as our ability
to reasonably estimate the amount of loss in determining loss contingencies. An
estimated loss contingency is accrued when it is probable that a liability has
been incurred or an asset has been impaired and the amount of the loss can be
reasonably estimated. We regularly evaluate current information available to us
to determine whether such accruals should be adjusted.
Results of Operations
The first table that follows sets forth our income statement data for the years
ended December 31, 2003 and 2002, respectively, and calculates the dollar change
and percentage change from 2002 to 2003 in the respective line items. The second
table that follows presents the same information for the years ended December
31, 2002 and 2001.
Year Ended
December 31,
------------------- Dollars Percentage
(Dollars in 000s) 2003 2002 Change Change
- ----------------- -------- -------- -------- -------
Revenue $ 4,170 $ 3,535 $ 635 18.0%
Cost of sales 1,371 1,680 (309) (18.4)
-------- -------- -------- -------
Gross Profit 2,799 1,855 944 50.9
-------- -------- -------- -------
Operating expenses:
Selling & marketing 1,680 2,235 (555) (24.8)
General & administrative 1,419 2,801 (1,382) (49.3)
Research & development 1,515 2,831 (1,316) (46.5)
Fixed assets impairment - 914 (914) (100.0)
Restructuring charge 80 1,943 (1,863) (95.9)
-------- -------- -------- -------
Total operating expenses 4,694 10,724 (6,030) (56.2)
-------- -------- -------- -------
Loss from operations (1,895) (8,869) 6,974 78.6
-------- -------- -------- -------
Other income (expense):
Interest & other income 13 153 (140) (91.5)
Interest & other expense (5) (76) 71 93.4
-------- -------- -------- -------
Total other income (expense) 8 77 (69) (89.6)
-------- -------- -------- -------
Loss before provision
for income taxes (1,887) (8,792) 6,905 78.5
Provision for income taxes - - - -
-------- -------- -------- -------
Net loss $ (1,887) $ (8,792) $ 6,905 78.5%
======== ======== ======== =======
Year Ended
December 31,
------------------- Dollars Percentage
(Dollars in 000s) 2002 2001 Change Change
- ----------------- -------- -------- -------- -------
Revenue $ 3,535 $ 5,911 $ (2,376) (40.2%)
Cost of sales 1,680 2,613 (933) (35.7)
-------- -------- -------- -------
Gross Profit 1,855 3,298 (1,433) (43.8)
-------- -------- -------- -------
Operating expenses:
Selling & marketing 2,235 5,989 (3,754) (62.7)
General & administrative 2,801 4,561 (1,760) (38.6)
Research & development 2,831 4,134 (1,303) (31.5)
Fixed assets impairment 914 4,501 (3,587) (79.7)
Restructuring charge 1,943 - 1,943 n/a
-------- -------- -------- -------
Total operating expenses 10,724 19,185 (8,461) (44.1)
-------- -------- -------- -------
11
Loss from operations (8,869) (15,887) 7,018 44.2
-------- -------- -------- -------
Other income (expense):
Interest & other income 153 516 (363) (70.4)
Interest & other expense (76) (65) (11) (16.9)
Loss on long-term investment - (41) 41 100.0
-------- -------- -------- -------
Total other income (expense) 77 410 (333) (81.2)
-------- -------- -------- -------
Loss before provision
for income taxes (8,792) (15,477) 6,685 43.2
Provision for income taxes - 1 (1) (100.0)
-------- -------- -------- -------
Net loss $ (8,792) $(15,478) $ 6,686 43.2%
======== ======== ======== =======
Revenues. Our revenues are primarily derived from product licensing fees. Other
sources of revenues include service fees from maintenance contracts and private
labeling fees. Private labeling fees are derived when we contractually agree to
allow a customer to brand our product with their name. Currently, we do not
generate a significant amount of revenue from private labeling transactions, nor
do we anticipate generating a significant amount of revenue from them during
2004. The increase in revenues in 2003 from 2002 was due primarily to increases
in product licensing fees and the revenue recognized from items previously
deferred, principally deferred maintenance revenue.
The decrease in revenues in 2002 from 2001 was due primarily to a decrease in
licensing fees derived from licensing our patented technology. During 2002 we
recognized $0 in patent licensing revenue as compared to approximately
$2,200,000 during 2001. We believe that the market for licensing our patented
technology is very limited, accordingly, we wrote the carrying value of our
patent down to $0 as part of our year end 2001 asset impairment write off. We do
not anticipate recognizing licensing revenue from our patent in the future.
We recognized approximately $1,649,000 of revenue from product licensing fees
for our Windows-based products during 2003 as compared with approximately
$1,394,200 during 2002, an increase of $254,800, or 18.3%. The increase was
primarily due to our customers' response to the release of the significantly
upgraded version of our Windows product, GoGlobal for Windows, during the fourth
quarter of 2002. We expect 2004 product licensing fee revenue from our
Windows-based products to exceed 2003 levels as we enhance and introduce
additional features to GoGlobal for Windows and increase our overall sales and
marketing efforts during 2004.
The amount of revenue we recognized from product licensing fees for our
Windows-based products in 2002 decreased from 2001, to approximately $1,394,200
as compared with $2,203,700, respectively, a decrease of $809,500, or 36.7%. The
decrease was principally due to the overall decrease in corporate spending
pervasive throughout the economy as well as the delay in releasing the upgraded
version of our Windows-based product, until the fourth quarter of 2002.
We recognized approximately $1,523,100 of revenue from product licensing fees
for our Unix-based products during 2003 as compared with approximately
$1,547,800 during 2002, a decrease of $24,700, or 1.6%. During the fourth
quarter of 2002, we entered into a significant one-time transaction with a
customer that generated approximately $552,500 of Unix product licensing fee
revenue. Net of this transaction, 2003 revenue from Unix product licensing fees
increased by approximately $527,800, or 53.0%, from 2002 levels. Approximately
$300,000 of this increase has come from one long-standing Unix ISV customer. We
expect 2004 product licensing fee revenue from our Unix-based products to exceed
2003 levels as we enhance our Unix-based products and increase our overall sales
and marketing efforts during 2004.
We recognized approximately $1,547,800 of product licensing fees revenue from
our Unix-based products during 2002 as compared with approximately $1,222,300
during 2001, an increase of $325,500, or 26.6%. Net of the one-time transaction
described in the preceding paragraph, 2002 revenue from Unix product licensing
fees decreased by approximately $227,000, or 18.6%, from 2001 levels. This
decrease was principally due to the delay in introducing our GoGlobal for Unix
product until the second quarter of 2002, as well as the continued weakness in
the overall economy.
Our licensing fees have been realized from a limited number of customers. As
such, revenues from these products have varied from quarter to quarter
reflecting the aggregate demand of the individual customers. We expect our
quarterly licensing fees to continue to vary during 2004.
12
During 2003, we recognized approximately $830,900 of revenue from service fees
that had previously been deferred, an increase of $388,700, or 87.9%, from the
approximately $442,200 recognized during 2002. The $442,200 of revenue from
service fees that we recognized during 2002 was an increase of $158,200, or
55.7%, from the $284,000 we recognized during 2001. The main factor contributing
to the 2003 increase was the large Unix transaction that we entered into during
the fourth quarter of 2002, which was discussed elsewhere within this section.
That transaction included approximately $300,000 worth of service fees that are
being amortized over a three-year period. A negligible amount of deferred
service fees was recognized as revenue from this transaction during 2002 as
compared with approximately $100,000, or one full-year's worth, during 2003.
A general factor contributing to both the 2003 and 2002 increases in revenue
from service fees sold was the steady increase in their sales since December 31,
2001. Deferred revenue, as reported on our balance sheet, was $1,192,000,
$796,100 and $577,800 as of December 31, 2003, 2002 and 2001, respectively.
Growth in our deferred revenue balance is primarily indicative of the sale of
maintenance contracts. Revenue from maintenance contracts is recognized ratably
over the underlying service periods, which, in our case and depending on the
respective contract, can be either one, two, three or five years in length.
Although the deferred revenue balance reported as of December 31, 2001, 2002 and
2003, respectively, has continued to increase, the amount of revenue recognized
from service fees has also increased because of the high amount of maintenance
contracts carrying one-year service terms.
We anticipate that many of our customers will enter into, and periodically
renew, maintenance contracts to ensure continued product updates and support.
Revenue from deferred items was approximately 19.9%, 12.5% and 4.8% of revenue
in 2003, 2002 and 2001, respectively. We expect revenue from deferred items in
2004 to exceed 2003 levels.
Revenues from our three largest customers for 2003 represented approximately
27.4%, 18.4% and 9.2%, respectively, of total revenues. These three customers'
December 31, 2003 year-end accounts receivable balances represented
approximately 0.0%, 28.0% and 44.1% of reported net accounts receivable. By
March 18, 2004, we had collected the majority of these outstanding balances.
Revenues from our three largest customers for 2002 represented approximately
26.9%, 23.4% and 12.5%, respectively, of total revenues. These three customers'
December 31, 2002 year-end accounts receivable balances represented
approximately 0.0%, 0.0%, and 15.1% of reported net accounts receivable. By
March 21, 2003, we had collected the substantial majority of this outstanding
balance.
Cost of Revenues. Cost of revenues consists primarily of the amortization of
acquired technology and the amortization of capitalized technology developed
in-house. Research and development costs for new product development, after
technological feasibility is established, are recorded as "capitalized software"
on our balance sheet and subsequently amortized as cost of revenues over the
shorter of three years or the remaining estimated life of the products.
The decreases in cost of revenues in 2003 from 2002 and in 2002 from 2001 were
due to the write-downs of the estimated remaining carrying values of our
intangible assets that were recorded during the third quarter of 2002 as well as
the fourth quarter of 2001.
As more fully explained below under Asset Impairment Loss, during September 2002
and December 2001, we wrote down the historical cost of various components of
our purchased technology assets as part of our periodic assessments of asset
impairment. The amortization of our technology assets, as explained above, is
recorded as a component of Cost of Revenues. As a result of these write-downs
and that certain components of our intangible assets will become fully amortized
during 2004, we expect that our cost of revenues will be significantly lower in
2004 as compared with 2003. Cost of revenues were approximately 32.9%, 47.5% and
44.2%, of total revenues for the years 2003, 2002 and 2001, respectively.
Sales and Marketing Expenses. Sales and marketing expenses primarily consist of
salaries, sales commissions, non-cash compensation, travel expenses, trade show
related activities and promotional costs.
The decrease in sales and marketing expenses in 2003 from 2002 was primarily
caused by decreased human resources costs ($392,900), trade show activities and
promotional costs ($134,300) and travel and entertainment ($62,600). Partially
offsetting these decreases was an increase in outside consulting services
($115,800). The reasons for these changes were as follows:
o The decrease in human resources costs was the result of the
restructurings made in 2002.
o The decrease in trade shows activities and promotional costs was part
of our decision in 2002 to cut these costs to a minimal level while
using our remaining cash on strategic engineering initiatives.
o The decrease in travel and entertainment was due to the reductions in
head count in 2002 as well as prioritizing the engineering
initiatives over sales and marketing activities.
13
o The increase in outside consulting services reflected the hiring of a
marketing firm to assist with marketing efforts during 2003, once
various elements of the engineering initiatives reached completion.
The decrease in sales and marketing expense in 2002 from 2001 was primarily
caused by decreased human resources costs ($2,057,200), public relations
($399,300), the allocation of corporate overheads ($390,900), travel and
entertainment ($236,300), outside services ($197,400), recruitment, including
relocation ($155,500), and deferred compensation expense ($80,200). The reasons
for these decreases were as follows:
o The decreased human resources costs were the result of the
restructurings undertaken during 2002 and 2001. We reduced sales and
marketing headcount from 24 at year-end 2001 to nine at the end of
2002.
o Public relations costs were reduced as we elected not to renew our
contract with a public relations firm, upon its expiration during
2001.
o The allocation of corporate overheads was reduced as a result of the
headcount decrease as well as the overall lowered cost structure.
o Travel and entertainment expenses decreased primarily due to the
reduction in headcount.
o The decrease in outside services resulted from electing to not renew
a contract with a marketing services firm.
o The decrease in recruitment, including relocation, was a result of
the headcount reductions.
o The decrease in deferred compensation expense was because the amounts
previously deferred became fully amortized during 2002.
We expect that cumulative sales and marketing expenses in 2004 will be higher
than those incurred during 2003. Driving the higher expected costs during 2004
are planned expansions of the sales force and marketing efforts, including trade
show participation, direct mail campaigns and other advertising efforts. Sales
and marketing expenses were approximately 40.3%, 63.2% and 101.3% of total
revenues for the years 2003, 2002 and 2001, respectively.
General and Administrative Expenses. General and administrative expenses
primarily consist of salaries, legal and professional services, non-cash
compensation, insurance and bad debts expense.
The decrease in general and administrative expenses in 2003 from 2002 was
primarily caused by decreased outside services ($446,000), legal fees
($324,800), deferred compensation ($187,400), insurance ($158,600) travel and
entertainment ($141,000) and human resources costs ($173,100). The reasons for
these decreases were as follows:
o We abandoned the merger talks we had conducted throughout 2002 with
three related entities in the telecommunications industry, thus
reducing our needs for general and administrative outside services
during 2003. Also contributing to lower outside consulting fees
during 2003 were lower fees charged by our Interim Chief Executive
Officer.
o As a result of the abandonment of the merger talks, we also reduced
the need for legal services.
o The decrease in deferred compensatin expense was because the amounts
previously deferred became fully amortized during 2002.
o We discontinued our director's and officer's liability insurance
policy during 2003, hence insurance expense decreased.
o Travel and entertainment and human resource costs were lower in 2003
as a result of the reduction in headcount experienced as part of the
restructurings that occurred in 2002.
The decrease in general and administrative expense in 2002 from 2001 was
primarily caused by decreased compensation expense ($823,700), human resources
costs ($593,300), legal fees ($216,200), the allocation of corporate overheads
($179,800) and a decrease in the bad debts reserve ($299,700). Offsetting these
decreases was an increase in outside service ($592,200). The reasons for these
changes were as follows:
o Deferred compensation decreased in 2002 as the amounts that had been
previously deferred became fully amortized during 2002.
o Human resources costs decreased as a result of the 2002
restructurings. We reduced general and administrative headcount from
nine at year-end 2001 to four at year-end 2002.
14
o Lower legal fees were the result of settling the lawsuit with Citrix
during 2001, which was partially offset by legal fees incurred as
part of the merger negotiations that occurred during 2002.
o The allocation of corporate overheads reflected an overall lower cost
base and fewer employees in the allocation pool, both resulting from
the 2002 and 2001 restructurings.
o The decrease in the bad debts reserve was due to an overall lower
accounts receivable level as well as the collection of previously
written off accounts.
o These decreases were offset by increased outside services, which
resulted from consulting fees associated with the merger that was
under consideration in 2002 as well as the commencement of fees being
paid to our Interim Chief Executive Officer.
The ending balance of our allowance for doubtful accounts as of December 31,
2003, 2002 and 2001, was $46,800, $50,300 and $350,000, respectively. Bad debts
expense was $16,300, $31,600 and $250,000 for the years ended December 31, 2003,
2002 and 2001, respectively.
We anticipate that cumulative general and administrative expense in 2004 will be
lower than those incurred during 2003. General and administrative expenses were
approximately 34.0%, 79.2% and 77.2% of 2003, 2002 and 2001 total revenues,
respectively.
Research and Development Expenses. Research and development expenses consist
primarily of salaries and benefits paid to software engineers, payments to
contract programmers, and facility expenses related to our remotely located
engineering offices.
The decrease in research and development expense in 2003 from 2002 was primarily
caused by decreased human resources costs ($693,500), depreciation of fixed
assets ($130,100), rent ($113,000), the allocation of corporate overheads
($78,000), outside services ($38,100) and an increase in customer service costs
($144,600). The reasons for these changes were as follows:
o Human resources costs were decreased as a result of the 2002
restructuring. We began 2002 with 28 Research and development
employees and ended the year with 15. No changes were made to
research and development headcount during 2003.
o The decrease in depreciation expense was due to the timing of various
assets reaching the end of their useful lives, as well as an overall
decrease in the asset base that resulted from the 2002 and 2001
restructuring charges.
o The decrease in rent was primarily due to the negotiated settlement
of the lease on our former Bellevue, Washington engineering offices.
o The allocation of corporate overheads decreased as a result of the
headcount reductions as well as the overall lowered cost structure
resulting from the 2002 and 2001 restructurings.
o The reduction in outside services was primarily due to the
non-renewal of an engineering consultant's contract as the requested
work had been completed.
o Customer service costs consist primarily of wages and benefits paid to
various engineers and are charged to cost of sales. More engineering
time was spent providing customer service during 2003, as compared to
2002, consequently, more costs were charged to cost of sales than to
research and development.
The decrease in research and development expense in 2002 from 2001 was primarily
caused by decreased human resources costs ($839,100), outside services
($379,400) and an increase in customer service costs ($132,400). These decreases
were partially offset by a decrease in capitalized software development costs
($98, 100). The reasons for these changes were as follows:
o Human resources were decreased as a result of the 2002 and 2001
restructurings. We began 2001 with 35 research and development
employees and ended the year with 28. During 2002, we reduced
headcount further, to 15.
o The decrease in outside services resulted primarily from the
non-renewal of an engineering contract with an engineering consulting
firm that had completed the task for which they were engaged.
o Customer service costs increased, resulting from an increase in
maintenance contracts being purchased by our customers.
o Partially offsetting these decreases was a decrease in capitalized
software development costs. When these costs are capitalized, there
are reclassified from research and development expense to the
capitalized software account on the balance sheet. Consequently, a
reduction in capitalization causes expense to increase. We only
capitalize our software development costs when certain criteria are
met.
15
We believe that a significant level of investment for research and development
is required to remain competitive. Accordingly, during 2004 we will continue
working towards our goal of full maturity for our products through a combination
of in-house and contracted research and development efforts. We anticipate that
these efforts will include a combination of enhancing the functionality of our
current product offerings and adding additional features to them. Research and
development expense was approximately 36.3%, 80.1% and 70.0% of total revenues
for the years 2003, 2002 and 2001, respectively.
Asset Impairment Loss. During 2002 and 2001, we recorded impairment charges of
$914,000 and $4,500,900, respectively, against several of our intangible assets,
primarily capitalized technology assets. We review our long-lived assets for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Examples of events or
changes in circumstances that indicate that the recoverability of the carrying
amount of an asset should be addressed, including the following:
o A significant decrease in the market value of an asset;
o A significant change in the extent or manner in which an asset is used;
o A significant adverse change in the business climate that could affect
the value of an asset; and
o Current and historical operating or cash flow losses.
We believed that a review of our current carrying values to evaluate whether the
value of any of our long-lived technology assets had been impaired was
warranted, due to several factors, including:
o The challenges we faced in bringing our GoGlobal for Windows and
GoGlobal:XP products to maturity;
o The continued pervasive weakness in the world-wide economy;
o How we were incorporating and planning to incorporate each element of
the purchased technologies into our legacy technology;
o Our continued and historical operating and cash flow losses.
Based on studies of the various factors affecting asset impairment, as outlined
above, the following asset impairment charges were determined to be necessary in
order to reduce the carrying value of certain of these assets to our current
estimate of the present value of the expected future cash flows to be derived
from these assets:
Net Book Value Impairment Net Book Value
Before Impairment Write Down After Impairment
---------------- ------------- ---------------
2002 Impairment
Purchased Technology $ 2,145,200 $ 775,100 $ 1,370,100
Capitalized Software 277,800 138,900 138,900
---------------- ------------- ---------------
Totals $ 2,423,000 $ 914,000 $ 1,509,000
================ ============= ===============
2001 Impairment
Purchased Technology $ 7,283,300 $ 4,150,900 $ 3,132,400
Patent 350,000 350,000 -
---------------- ------------- ---------------
Totals $ 7,633,300 $ 4,500,900 $ 3,132,400
================ ============= ===============
We do not anticipate recording an asset impairment charge during 2004. The asset
impairment charges were approximately 0.0%, 25.9% and 76.2% of total revenues
for the years 2003, 2002 and 2001, respectively.
Restructuring charge. During 2002 we closed our Morgan Hill, California and
Bellevue Washington office locations as part of our strategic initiatives to
reduce operating costs. In conjunction with these closures, we reduced headcount
in all of our operating departments and wrote off the costs of leasehold
improvements and other assets that were abandoned. A summary of the
restructuring charges recorded during 2002 is as follows:
Ending Balance
Restructuring Cash Non-cash Restructuring
Category Charge Payments Charges Accrual
- -------- ------------- ------------- ------------- --------------
Year ended December 31, 2002:
Employee severance $ 831,000 $ (831,000) $ - $ -
Fixed assets abandonment 657,800 - (657,800) -
16
Minimum lease payments 443,800 (161,600) - 282,200
Other 10,200 (10,200) - -
------------- ------------- ------------- --------------
Totals $ 1,942,800 $ (1,002,800) $ (657,800) $ 282,200
============= ============= ============= ==============
During 2003 we negotiated settlements of the leases for our former offices in
Bellevue, Washington and Morgan Hill, California, which completed the
restructuring activities that had been approved under EITF 94-3 during 2002 and
had begun in 2002, as explained above. Additionally, we relocated our Morgan
Hill, California offices from 400 Cochrane Circle to 105 Cochrane Circle and
further disposed of certain assets that were no longer in service. To the extent
that the December 31, 2002 ending restructuring charge accrual balance was less
than the costs incurred for these activities, we recorded an additional
restructuring charge during 2003. A summary of the restructuring charges
recorded during 2003 is as follows:
Ending Balance
Restructuring Cash Non-cash Restructuring
Category Charge Payments Charges Accrual
- -------- ------------- ------------- ------------ --------------
Year ended December 31, 2003:
Opening accrual balance $ - $ - $ - $ 282,200
Fixed assets abandonment 42,200 - (42,200) -
Leases settlements - rent 36,800 (269,000) - (232,200)
Deposits forfeited 16,000 - (56,000) (40,000)
Commissions 12,000 (22,000) - (10,000)
Other (1) (26,900) - 26,900 -
------------- ------------- ------------ --------------
Totals $ 80,100 $ (291,000) $ (71,300) $ -
============= ============= ============ ==============
(1) Includes the write-off of deferred rent associated with the Morgan Hill
lease and other miscellaneous items.
During June 2003, we negotiated a buy out of the lease for our former
engineering offices in Bellevue, Washington. The total buy out price was
approximately $184,000 and consisted of a lump-sum cash payment of $144,000, the
forfeiture of an approximate $40,000 security deposit and a $10,000 commission
to the real estate broker who was involved in the transaction. It is estimated
that the buy out saved approximately $355,800 over what would have been the
remainder of the lease term.
During August 2003, we negotiated a buy out of the lease for our former
corporate offices in Morgan Hill, California. The total buy out price was
approximately $153,000 and consisted of a lump-sum cash payment of $125,000, the
forfeiture of an approximate $16,000 security deposit and a $12,000 commission
to the real estate broker who was involved in the transaction. It is estimated
that the buy out saved approximately $270,000 over what would have been the
remainder of the lease term.
The net aggregate amount of the annual lease payments made under all of our
leases in the years 2003, 2002 and 2001 was approximately $295,400, $525,700 and
$558,700, respectively.
Interest and Other Income. During 2003, 2002 and 2001, the primary component of
interest and other income was interest income derived on excess cash. Our excess
cash was held in relatively low-risk, highly liquid investments, such as U.S.
Government obligations, bank and/or corporate obligations rated "A" or higher by
independent rating agencies, such as Standard and Poors, or interest bearing
money market accounts with minimum net assets greater than or equal to one
billion U.S. dollars. The decreases in interest income in 2003 from 2002 and
2002 from 2001, was due to lower average cash and cash equivalents, and
available-for-sale securities balances in 2003 as compared with 2002, and 2002
as compared with 2001. Additionally, the decreases were reflective of a decrease
in our portfolio's average yield rate, which reflected the market's response to
the cuts and subsequent stabilization made in interest rates by the Federal
Reserve during these time periods.
The lower average cash and cash equivalents and available-for-sale securities
balances at year end 2003, 2002 and 2001, as compared with each respective
preceding year, is primarily due to the outflow of approximately $712,500,
$4,606,000 and $6,752,700, during each year, respectively, resulting from our
operations. As more fully explained under Liquidity and Capital Resources, we
have been consuming cash in our operations and have seen our cash reserves
continually decline for the past several years. Interest and other income was
approximately 0.3%, 4.3% and 8.7% of total revenues for the years 2003, 2002 and
2001, respectively.
Interest and Other Expense. Interest and other expense consists primarily of the
cost of accrued interest on bonds and other investments that we purchased with
our excess cash. The decrease in 2003 from 2002 was primarily due to our
discontinuance of purchasing bonds with our excess cash. The increase in 2002
from 2001 was primarily due to faster rollovers of investments, as we required
more readily available cash to finance our operations. The faster rollovers were
17
reflective of the shorter time frame that we decided to keep the excess cash
invested. These increases were partially offset by cumulative marked-to-market
gains recorded on the value of the securities held in our investment account.
Interest and other expense was approximately 0.1%, 2.2% and 1.1% of total
revenues for the years 2003, 2002 and 2001, respectively.
Provision for Income Taxes. At December 31, 2002, we had approximately
$36,625,000 in federal net operating loss carryforwards. The federal net
operating loss carryforwards will expire at various times from 2007 through
2020, if not utilized. In addition, the Tax Reform Act of 1986 contains
provisions that may limit the net operating loss carryforwards available for use
in any given period upon the occurrence of various events, including a
significant change in ownership interests. In 1998, we experienced a "change of
ownership" as defined by the provisions of the Tax Reform Act of 1986. As such,
our utilization of our net operating loss carryforwards through 1998 will be
limited to approximately $400,000 per year until such carryforwards are fully
utilized or expire.
Liquidity and Capital Resources
We have suffered recurring losses and have absorbed significant cash in our
operating activities. Further, we have limited alternative sources of financing
available to fund any additional cash required for our operations or otherwise.
These matters raise substantial doubt about our ability to continue as a going
concern. Our plan in regard to these matters is described below. The
consolidated financial statements included in this report do not include any
adjustments that might result from the outcome of this uncertainty.
In January 2004, we raised $1,150,000 through the private placement of 5,000,000
shares of our common stock and five-year warrants to purchase 2,500,000 shares
of our common stock at an exercise price of $0.33 per shares (the "private
placement"). Net proceeds of approximately $975,000 were available for operating
needs after the payment of commissions, legal and other fees associated with the
private placement.
We are continuing to operate the business on a cash basis by striving to bring
our cash expenditures in line with our revenues. We are simultaneously looking
at ways to improve or maintain our revenue stream. Additionally, we continue to
review potential merger opportunities as they present themselves to us and at
such time as a merger might make financial sense and add value for our
shareholders, we will pursue that merger opportunity. We anticipate increasing
our sales and marketing and research and development expenditures during 2004 as
we believe further development of these areas are critical to our ability to
continue our business as a going concern. We believe that improving or
maintaining our current revenue stream, coupled with our cash on hand, including
the cash raised in the private placement, will support these planned increases
during 2004.
During 2003 we used $712,500 of cash from our operating activities that related
primarily to our net loss of $1,886,600, offset by non-cash items including
depreciation and amortization, totaling $1,248,400, and the non-cash portion of
the restructuring charge of $42,200. Operating cash outflow was generated by an
aggregate decrease in cash from operating assets and liabilities of $115,600,
which was partially offset by a $3,500 decrease in our provision for doubtful
accounts.
Depreciation and amortization primarily relates to our purchased technology, as
outlined above in Costs of Revenues. Also included in depreciation and
amortization is the amortization of deferred compensation expense related to
non-cash compensation paid to various third parties, primarily consultants, who
provide us services. This amortization is recorded as sales and marketing
expense or general and administrative expense, depending on the nature of the
underlying services provided.
The cash outflow generated from aggregated operating assets and liabilities was
primarily due to the reductions in both accounts payable and accrued expenses as
of year-end 2003 as compared to year-end 2002. These decreases both primarily
resulted from the continued cost-cutting measures we enacted throughout 2003.
We are exploring options available to increase revenues and to find alternative
sources of financing our operations. If we were unsuccessful in identifying and
implementing such options, we would face a severe constraint on our ability to
sustain operations in a manner that would create future growth and viability,
and we may need to cease operations entirely.
During 2003 we consumed $225,700 of cash in our investing activities that
included the capitalization of software development costs, totaling $282,200,
which were partially offset by a decrease in other assets of $58,100. The
decrease in other assets was primarily attributable to the approximate $40,000
and $16,000 deposits we forfeited upon the settlement of our lease obligations
for our former engineering facility in Bellevue, Washington, and corporate
offices in Morgan Hill, California, respectively, as explained elsewhere within
this section.
18
The capitalized software development costs were incurred in the development of
GoGlobal for Windows, our latest Windows-based product upgrade.
As of December 31, 2003, cash and cash equivalents were approximately
$1,025,500. We anticipate that our cash and cash equivalents as of December 31,
2003, together with anticipated revenue from operations, cost savings from the
2003 and 2002 restructuring charges, the 2002 asset impairment charges and the
approximate $975,000 we raised in the private placement will be sufficient to
meet our working capital and capital expenditure needs through the next twelve
months. We have no material capital expenditure commitments for the next twelve
months. However, due to the inherent uncertainties associated with predicting
future operations, there can be no assurances that such anticipated revenue and
cumulative operational savings will ultimately be realized during the next
twelve months.
During October 2003 we entered into a one-year lease for the period November 1,
2003 through October 31, 2004, for approximately 3,300 square feet of office
space in Concord, New Hampshire. Rent on the Concord facility is approximately
$5,000 per month, consequently, we are committed to making rental payments on
this facility totaling approximately $50,000 in 2004.
New Accounting Pronouncements
In November 2002, the Financial Accounting Standards Board (FASB) issued
Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for
Guarantees, including Indirect Guarantees of Indebtedness of Others," (FIN 45)
which clarifies disclosure and recognition/measurement requirements related to
certain guarantees. The disclosure requirements are effective for financial
statements issued after December 31, 2002 and the recognition/measurement
requirements are effective on a prospective basis for guarantees issued or
modified after December 31, 2002. The application of the requirements of FIN 45
did not have a material impact on our financial position or results of
operations.
In December 2002, the FASB issued Statement No. 148, " Accounting for
Stock-Based Compensation - Transition and Disclosure." (SFAS 148) This Statement
amends SFAS 123, "Stock-Based Compensation," (SFAS 123) to provide alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. Additionally, SFAS 148 amends
the disclosure requirements of SFAS 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. SFAS 148 is effective for financial statements for fiscal years ended
after December 31, 2002. In compliance with SFAS 148 we have elected to continue
to follow the intrinsic value method in accounting for our stock-based employee
compensation arrangement as defined by Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employee" (APB 25).
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities," (FIN 46) which addresses consolidation by a
business of variable interest entities in which it is the primary beneficiary.
FIN 46 is effective immediately for certain disclosure requirements and for
variable interest entities created after January 1, 2003, and in the first
fiscal year or interim period beginning after June 15, 2003 for all other
variable interest entities. It is expected that the adoption of FIN 46 will not
have a material impact on our consolidated results of operations or financial
position.
In April 2003, the FASB issued Statement No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities" (SFAS 149). This statement amends
and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities" (SFAS 133). This statement is effective for contracts entered into
or modified after June 30, 2003, for hedging relationships designated after June
30, 2003, and to certain preexisting contracts. It is expected that the adoption
of SFAS 149 will not have a material impact on our consolidated results of
operations or financial position.
In May 2003, the FASB issued Statement No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity" (SFAS
150). This statement establishes standards for how an issuer classifies and
measures in its financial position certain financial instruments with
characteristics of both liabilities and equity. In accordance with this
standard, financial instruments that embody obligations for the issuer are
required to be classified as liabilities. SFAS 150 generally is effective for
financial instruments created or modified after May 31, 2003, and otherwise
effective at the beginning of the first interim period beginning after June 15,
2003. It is expected that the adoption of SFAS 150 will not have a material
impact on our consolidated results of operations or financial position.
19
In December 2003, the SEC issued Staff Accounting Bulletin ("SAB") No. 104,
"Revenue Recognition," (SAB 104) which codifies, revised and rescinds certain
sections of SAB No. 101, "Revenue Recognition," (SAB 101) in order to make this
interpretive guidance consistent with current authoritative guidance. The
changes noted in SAB 104 did not have a material impact on our consolidated
results of operations or financial position.
Risk Factors
The risks and uncertainties described below are not the only ones facing our
company. Additional risks and uncertainties not presently known to us, or risks
that we do not consider significant, may also impair our business. This document
also contains forward-looking statements that involve risks and uncertainties,
and actual results may differ materially from the results we discuss in the
forward-looking statements. If any of the following risks actually occur, they
could have a severe negative impact on our financial results and stock price.
We Have A History Of Operating Losses And Expect These Losses To
Continue, At Least For The Near Future.
We have experienced significant losses since we began operations. We expect to
continue to incur losses at least for the near future. We incurred net losses of
approximately $1,886,600, $8,792,500 and $15,478,000 for the years ended
December 31, 2003, 2002 and 2001, respectively. We expect our expenses to
increase as we have planned to increase our sales and marketing efforts,
however, we cannot give assurance that revenues will increase sufficiently to
exceed costs. If revenues grow more slowly than anticipated, or if operating
expenses exceed expectations, we may not become profitable. Even if we become
profitable, we may be unable to sustain profitability.
Our Operating Results In One Or More Future Periods Are Likely To
Fluctuate Significantly And May Fail To Meet Or Exceed The Expectations
Of Securities Analysts Or Investors.
Our operating results are likely to fluctuate significantly in the future on a
quarterly and on an annual basis due to a number of factors, many of which are
outside our control. Factors that could cause our revenues to fluctuate include
the following:
o The degree of success of our recently introduced products;
o Variations in the timing of and shipments of our products;
o Variations in the size of orders by our customers;
o Increased competition; o The proportion of overall revenues derived from
different sales channels such as distributors, original equipment
manufacturers (OEMs) and others;
o Changes in our pricing policies or those of our competitors;
o The financial stability of major customers;
o New product introductions or enhancements by us or by competitors;
o Delays in the introduction of products or product enhancements by us or
by competitors;
o The degree of success of new products;
o Any changes in operating expenses; and
o General economic conditions and economic conditions specific to the
software industry.
In addition, our royalty and license revenues are impacted by fluctuations in
OEM licensing activity from quarter to quarter, which may involve one-time
royalty payments and license fees. Our expense levels are based, in part, on
expected future orders and sales; therefore, if orders and sales levels are
below expectations, our operating results are likely to be materially adversely
affected. Additionally, because significant portions of our expenses are fixed,
a reduction in sales levels may disproportionately affect our net income. Also,
we may reduce prices or increase spending in response to competition or to
pursue new market opportunities. Because of these factors, our operating results
in one or more future periods may fail to meet or exceed the expectations of
securities analysts or investors. In that event, the trading price of our common
stock would likely be affected.
We May Not Be Successful In Attracting And Retaining Key Management Or
Other Personnel.
Our success and business strategy is also dependent in large part on our ability
to attract and retain key management and other personnel. The loss of the
services of one or more members of our management group and other key personnel,
including our interim Chief Executive Officer, may have a material adverse
effect on our business.
20
Our Failure To Adequately Protect Our Proprietary Rights May Adversely
Affect Us.
Our commercial success is dependent, in large part, upon our ability to protect
our proprietary rights. We rely on a combination of patent, copyright and
trademark laws, and on trade secrets and confidentiality provisions and other
contractual provisions to protect our proprietary rights. These measures afford
only limited protection. We cannot assure you that measures we have taken will
be adequate to protect us from misappropriation or infringement of our
intellectual property. Despite our efforts to protect proprietary rights, it may
be possible for unauthorized third parties to copy aspects of our products or
obtain and use information that we regard as proprietary. In addition, the laws
of some foreign countries do not protect our intellectual property rights as
fully as do the laws of the United States. Furthermore, we cannot assure you
that the existence of any proprietary rights will prevent the development of
competitive products. The infringement upon, or loss of any proprietary rights,
or the development of competitive products despite such proprietary rights,
could have a material adverse effect on our business.
We Face Risks Of Claims From Third Parties For Intellectual Property
Infringement That Could Adversely Affect Our Business.
At any time, we may receive communications from third parties asserting that
features or content of our products may infringe upon their intellectual
property rights. Any such claims, with or without merit, and regardless of their
outcome, may be time consuming and costly to defend. We may not have sufficient
resources to defend such claims and they could divert management's attention and
resources, cause product shipment delays or require us to enter into new royalty
or licensing agreements. New royalty or licensing agreements may not be
available on beneficial terms, and may not be available at all. If a successful
infringement claim is brought against us and we fail to license the infringed or
similar technology, our business could be materially adversely affected.
Our Business Significantly Benefits From Strategic Relationships And
There Can Be No Assurance That Such Relationships Will Continue In The
Future.
Our business and strategy relies to a significant extent on our strategic
relationships with other companies. There is no assurance that we will be able
to maintain or develop any of these relationships or to replace them in the
event any of these relationships are terminated. In addition, any failure to
renew or extend any licenses between any third party and us may adversely affect
our business.
Because Our Market Is New And Emerging, We Cannot Accurately Predict
Its Future Growth Rate Or Its Ultimate Size, And Widespread Acceptance
Of Our Products Is Uncertain.
The market for business infrastructure software, which enables programs to be
accessed and run with minimal memory resident on a desktop computer or remote
user device, still is emerging, and we cannot assure you that our products will
receive broad-based market acceptance or that this market will continue to grow.
Additionally, we cannot accurately predict our market's future growth rate or
its ultimate size. Even if business infrastructure software products achieve
market acceptance and the market for these products grows, we cannot assure you
that we will have a significant share of that market. If we fail to achieve a
significant share of the business infrastructure software market, or if such
market does not grow as anticipated, our business, results of operations and
financial condition may be adversely affected.
We Rely On Indirect Distribution Channels For Our Products And May Not
Be Able To Retain Existing Reseller Relationships Or To Develop New
Reseller Relationships.
Our products primarily are sold through several distribution channels. An
integral part of our strategy is to strengthen our relationships with resellers
such as OEMs, systems integrators, value-added resellers, distributors and other
vendors to encourage these parties to recommend or distribute our products and
to add resellers both domestically and internationally. We currently invest, and
intend to continue to invest, significant resources to expand our sales and
marketing capabilities. We cannot assure you that we will be able to attract
and/or retain resellers to market our products effectively. Our inability to
attract resellers and the loss of any current reseller relationships could have
a material adverse effect on our business, results of operations and financial
condition. Additionally, we cannot assure you that resellers will devote enough
resources to provide effective sales and marketing support to our products.
Our Failure To Manage Expanding Operations Could Adversely Affect Us.
To exploit the emerging business infrastructure software market, we must rapidly
execute our business strategy and further develop products while managing our
anticipated growth in operations. To manage our growth, we must:
21
o Continue to implement and improve our operational, financial and
management information systems;
o Hire and train additional qualified personnel;
o Continue to expand and upgrade core technologies; and
o Effectively manage multiple relationships with various licensees,
consultants, strategic and technological partners and other third
parties.
We cannot assure you that our systems, procedures, personnel or controls will be
adequate to support our operations or that management will be able to execute
strategies rapidly enough to exploit the market for our products and services.
Our failure to manage growth effectively or execute strategies rapidly could
have a material adverse effect on our business, financial condition and results
of operations.
The Market In Which We Participate Is Highly Competitive And Has More
Established Competitors.
The market we participate in is intensely competitive, rapidly evolving and
subject to technological changes. We expect competition to increase as other
companies introduce additional competitive products. In order to compete
effectively, we must continually develop and market new and enhanced products
and market those products at competitive prices. As markets for our products
continue to develop, additional companies, including companies in the computer
hardware, software and networking industries with significant market presence,
may enter the markets in which we compete and further intensify competition. A
number of our current and potential competitors have longer operating histories,
greater name recognition and significantly greater financial, sales, technical,
marketing and other resources than we do. We cannot assure you that our
competitors will not develop and market competitive products that will offer
superior price or performance features or that new competitors will not enter
our markets and offer such products. We believe that we will need to invest
increasing financial resources in research and development to remain competitive
in the future. Such financial resources may not be available to us at the time
or times that we need them, or upon terms acceptable to us. We cannot assure you
that we will be able to establish and maintain a significant market position in
the face of our competition and our failure to do so would adversely affect our
business.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are currently not exposed to any significant financial market risks from
changes in foreign currency exchange rates or changes in interest rates and do
not use derivative financial instruments. A substantial majority of our revenue
and capital spending is transacted in U.S. dollars. However, in the future, we
may enter into transactions in other currencies. An adverse change in exchange
rates would result in a decline in income before taxes, assuming that each
exchange rate would change in the same direction relative to the U.S. dollar. In
addition to the direct effects of changes in exchange rates, such changes
typically affect the volume of sales or foreign currency sales price as
competitors' products become more or less attractive.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Consolidated Financial Statements
Page
Report of Independent Certified Public Accountants........................... 23
Consolidated Balance Sheets as of December 31, 2003 and 2002................. 24
Consolidated Statements of Operations and Comprehensive Loss for
the Years Ended December 31, 2003, 2002, and 2001...........................25
Consolidated Statements of Shareholders' Equity for the Years Ended
December 31, 2003, 2002 and 2001................. ..........................26
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2003, 2002 and 2001............................................27
Summary of Significant Accounting Policies....................................28
Notes to Consolidated Financial Statements....................................31
Report of Independent Certified Public Accountants on
Supplemental Schedule.......................................................41
Supplemental Schedule II......................................................42
22
Report of Independent Certified Public Accountants
To the Board of Directors and Shareholders of GraphOn Corporation
We have audited the accompanying consolidated balance sheets of GraphOn
Corporation and Subsidiary (the Company) as of December 31, 2003 and 2002, and
the related consolidated statements of operations and comprehensive loss,
shareholders' equity, and cash flows for each of the three years in the period
ended December 31, 2003. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of GraphOn Corporation
and Subsidiary as of December 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2003 in conformity with accounting principles generally accepted in
the United States of America.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the settlement of
liabilities in the normal course of business. As discussed in Note 1 to the
financial statements, the Company has suffered recurring losses and has absorbed
significant cash in its operating activities. Further, the Company has limited
alternative sources of financing available to fund any additional cash required
for its operations or otherwise. These matters raise substantial doubt about the
ability of the Company to continue as a going concern. Management's plan in
regard to these matters is also described in Note 1. The accompanying financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
/s/ BDO Seidman, LLP
BDO Seidman, LLP
San Jose, California
February 23, 2004
23
GraphOn Corporation
Consolidated Balance Sheets
December 31, 2003 2002
- ------------ ------------ ------------
CURRENT ASSETS
Cash and cash equivalents ................................. $ 1,025,500 $ 1,958,200
Accounts receivable, net of allowance for doubtful accounts
of $46,800 and $50,300 ................................... 521,100 337,900
Prepaid expenses and other current assets ................. 23,100 192,000
------------ ------------
TOTAL CURRENT ASSETS ........................................... 1,569,700 2,488,100
------------ ------------
Property and equipment, net .................................... 144,800 421,900
Purchased technology, net ...................................... 335,000 1,163,100
Capitalized software, net ...................................... 500,600 406,500
Other assets ................................................... 11,900 70,000
------------ ------------
TOTAL ASSETS ................................................... $ 2,562,000 $ 4,549,600
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable .......................................... $ 52,300 $ 228,700
Accrued liabilities ....................................... 470,800 795,100
Deferred revenue .......................................... 1,192,000 796,100
------------ ------------
TOTAL CURRENT LIABILITIES ...................................... 1,715,100 1,819,900
------------ ------------
Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, $0.01 par value, 5,000,000 shares
authorized, no shares issued and outstanding ............ - -
Common stock, $0.0001 par value, 45,000,000 shares
authorized, 16,618,459 and 16,580,719 shares
issued and outstanding ................................. 1,700 1,700
Additional paid-in capital ................................ 45,985,300 45,982,500
Notes receivable .......................................... (50,300) (50,300)
Accumulated other comprehensive loss ...................... (1,400) (2,400)
Accumulated deficit ....................................... (45,088,400) (43,201,800)
------------ ------------
TOTAL SHAREHOLDERS' EQUITY ..................................... 846,900 2,729,700
------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ..................... $ 2,562,000 $ 4,549,600
============ ============
See accompanying summary of significant accounting policies and
notes to consolidated financial statements
24
GraphOn Corporation
Consolidated Statements of Operations and Comprehensive Loss
Years Ended December 31, 2003 2002 2001
- ------------------------ ------------ ------------ -------------
Revenue:
Product licenses ......................... $ 3,172,100 $ 2,942,000 $ 3,426,000
Service fees ............................. 830,900 442,200 284,000
Other .................................... 167,300 150,800 2,200,700
------------ ------------ ------------
Total Revenue ............................ 4,170,300 3,535,000 5,910,700
------------ ------------ ------------
Cost of Revenue:
Product costs ............................ 1,017,300 1,470,200 2,510,800
Service costs ............................ 354,300 209,700 101,800
------------ ------------ ------------
Total Cost of Revenue .................... 1,371,600 1,679,900 2,612,600
------------ ------------ ------------
Gross Profit ............................. 2,798,700 1,855,100 3,298,100
------------ ------------ ------------
Operating Expenses
Selling and marketing .................... 1,679,800 2,235,100 5,989,400
General and administrative ............... 1,419,100 2,801,000 4,560,800
Research and development ................. 1,515,000 2,831,300 4,134,400
Asset impairment loss .................... - 914,000 4,500,900
Restructuring charges .................... 80,100 1,942,800 -
------------ ------------ ------------
Total Operating Expenses ............... 4,694,000 10,724,200 19,185,500
------------ ------------ ------------
Loss From Operations ........................ (1,895,300) (8,869,100) (15,887,400)
------------ ------------ ------------
Other Income (Expense)
Interest and other income ................ 13,000 152,500 516,100
Interest and other expense ............... (4,300) (75,900) (64,800)
Loss on long-term investment.............. - - (41,100)
------------ ------------ ------------
Total Other Income (Expense) ........... 8,700 76,600 410,200
------------ ------------ ------------
Loss Before Provision for Income Taxes ...... (1,886,600) (8,792,500) (15,477,200)
Provision for Income Taxes .................. - - 800
------------ ------------ ------------
Net Loss .................................... (1,886,600) (8,792,500) (15,478,000)
Other Comprehensive Income (Loss), net of tax
Unrealized holding gain (loss)
on investment .......................... - (7,500) 200
Foreign currency translation adjustment .. 1,000 3,600 (600)
------------ ------------ ------------
Comprehensive Loss .......................... $ (1,885,600) $ (8,796,400) $(15,478,400)
============ ============ ============
Basic and Diluted Loss per Common Share ..... $ (0.11) $ (0.50) $ (0.97)
============ ============ ============
Weighted Average Common Shares Outstanding .. 16,607,328 17,465,099 16,007,763
============ ============ ============
See accompanying summary of significant accounting policies and
notes to consolidated financial statements
25
GraphOn Corporation
Consolidated Statements of Shareholders' Equity
Accumulated
Additional Other
Common Stock Paid-in Deferred Notes Comprehensive Accumulated
Shares Amount Capital Compensation Receivable Income(Loss) Deficit Totals
---------- ------- ----------- ------------ ---------- ------------ ------------ -----------
Balances, December 31, 2000.... 14,671,175 $ 1,500 $39,116,000 $(1,131,600) $ - $ 1,900 $(18,931,300) $19,056,500
Issuance of common stock due to
the exercise of options....... 52,199 - 37,000 - - - - 37,000
Employee stock purchases....... 64,958 - 152,900 - - - - 152,900
Issuance of common stock to
acquire technology............ 2,500,000 200 6,499,800 - - - - 6,500,000
Deferred compensation related to
stock options and warrants.... - - 120,200 (120,200) - - - -
Amortization of deferred
compensation.................. - - - 1,058,000 - - - 1,058,000
Change in market value of
available-for-sale securities. - - - - - 200 - 200
Foreign currency translation
adjustment.................... - - - - - (600) - (600)
Net Loss....................... - - - - - - (15,478,000) (15,478,000)
---------- ------- ----------- ------------ ---------- ------------ ------------ -----------
Balances, December 31, 2001.... 17,288,332 1,700 45,925,900 (193,800) - 1,500 (34,409,300) 11,326,000
Issuance of common stock due to
the exercise of options....... 200,000 200 50,000 - (50,000) - - 200
Employee stock purchases....... 25,720 - 6,400 - - - - 6,400
Noncash redemption of common
stock......................... (933,333) (200) 200 - - - - -
Amortization of deferred
compensation.................. - - - 193,800 - - - 193,800
Accrued interest receivable.... - - - - (300) - - (300)
Change in market value of
available-for-sale securities. - - - - - (7,500) - (7,500)
Foreign currency translation... - - - - - 3,600 - 3,600
Net Loss ...................... - - - - - - (8,792,500) (8,792,500)
---------- ------- ----------- ------------ ---------- ------------ ------------ -----------
Balances, December 31, 2002.... 16,580,719 1,700 45,982,500 - (50,300) (2,400) (43,201,800) 2,729,700
Employee stock purchases....... 37,740 - 2,800 - - - - 2,800
Foreign currency translation... - - - - - 1,000 - 1,000
Net Loss....................... - - - - - - (1,886,600) (1,886,600)
---------- ------- ----------- ------------ ---------- ------------ ------------ -----------
Balances, December 31, 2003.... 16,618,459 $ 1,700 $45,985,300 $ - $ (50,300) $ (1,400) $(45,088,400) $ 846,900
========== ======= =========== ============ ========== ============ ============ ===========
See accompanying summary of significant accounting policies and notes to consolidated financial statements
26
GraphOn Corporation
Consolidated Statements of Cash Flows
Years ended December 31, 2003 2002 2001
- ------------------------ ------------ ------------ ------------
Cash Flows From Operating Activities:
Net loss ...................................... $ (1,886,600) $ (8,792,500) $(15,478,000)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization ................. 1,248,400 1,892,000 3,051,800
Non-cash restructuring charges................. 42,200 657,800 -
Asset impairment loss ......................... - 914,000 4,500,900
Loss on disposal of fixed assets .............. 4,300 400 110,000
Amortization of deferred compensation ......... - 193,800 1,058,000
Charges to provision for doubtful accounts .... 16,300 31,600 250,000
Reductions to provision for doubtful accounts.. (19,800) (331,300) -
Loss on long-term investment .................. - - 41,100
Changes in operating assets and liabilities:
Accounts receivable ......................... (179,700) 582,200 (121,200)
Prepaid expenses and other assets ........... 168,900 59,300 94,500
Accounts payable ............................ (176,400) (91,200) (41,600)
Accrued expenses ............................ (324,300) 59,600 (647,000)
Deferred revenue ............................ 395,900 218,300 428,800
------------ ------------ ------------
Net cash used in operating activities: ........... (710,800) (4,606,000) (6,752,700)
------------ ------------ ------------
Cash Flows From Investing Activities:
Capitalization of software
development costs ........................... (282,200) (298,500) (396,500)
Capital expenditures .......................... (1,600) (82,900) (596,500)
Other assets .................................. 58,100 1,600 (37,200)
Purchase of available-for-sale securities ..... - (768,300) (4,779,900)
Proceeds from sale of available-
for-sale securities ......................... - 3,776,300 7,338,900
Investment in related party ................... - - (103,700)
Proceeds from dissolution of joint
venture - related party ..................... - - 954,500
------------ ------------ ------------
Net cash provided by (used in) investing
activities: ................................... (225,700) 2,628,200 2,379,600
------------ ------------ ------------
Cash Flows From Financing Activities:
Net proceeds from issuance of
common stock ................................ 2,800 - 189,900
Proceeds from note payable .................... - - 131,200
Repayment of note payable ..................... - (26,600) (194,900)
------------ ------------ ------------
Net cash provided by financing activities: ....... 2,800 (20,200) 126,200
------------ ------------ ------------
Effect of exchange rate fluctuations on
cash and cash equivalents ................... 1,000 3,600 (600)
------------ ------------ ------------
Net Decrease in Cash
and Cash Equivalents .......................... (932,700) (1,994,400) (4,247,500)
Cash and Cash Equivalents:
Beginning of year ........................... 1,958,200 3,952,600 8,200,100
------------ ------------ ------------
End of year ................................. $ 1,025,500 $ 1,958,200 $ 3,952,600
============ ============ ============
See accompanying summary of significant accounting policies
and notes to consolidated financial statements
27
GraphOn Corporation
Summary of Significant Accounting Policies
The Company. GraphOn Corporation (the Company) was incorporated in the state of
Delaware in July of 1999. The Company's headquarters are currently in Morgan
Hill, California. The Company develops, markets, sells and supports business
infrastructure software that empowers a diverse range of desktop computing
devices (desktops) to access server-based Windows, Unix and Linux applications
from any location, over network or Internet connections. The Company has a
wholly owned inactive subsidiary in the United Kingdom.
Basis of Presentation and Use of Estimates. In the Company's opinion, the
consolidated financial statements presented herein include all necessary
adjustments, consisting of only normal recurring adjustments, except for the
restructuring and asset impairment charges, as discussed below, to fairly state
the Company's financial position, results of operations and cash flows for the
periods indicated. The preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that 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 materially
from those estimates.
Cash and Cash Equivalents. The Company considers all highly liquid investments
purchased with original maturities of three months or less to be cash
equivalents.
Marketable Securities. Under Statement of Financial Accounting Standards
(SFAS) No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," securities are classified and accounted for as follows:
o Debt securities that the enterprise has the positive intent and ability
to hold to maturity are classified as held-to-maturity securities and
reported at amortized cost.
o Debt and equity securities that are bought and held principally for the
purpose of selling them in the near term are classified as trading
securities and reported at fair value, with unrealized gains and losses
included in earnings.
o Debt and equity securities not classified as either held-to-maturity
securities or trading securities are classified as available-for-sale
securities and reported at fair value, with unrealized gains and losses
excluded from earnings and reported in a separate component of
shareholders' equity.
Property and Equipment. Property and equipment are stated at cost. Depreciation
is calculated using the straight-line method over the estimated useful lives of
the respective assets, generally three to seven years. Amortization of leasehold
improvements is calculated using the straight-line method over the lesser of the
lease term or useful lives of the respective assets, generally seven years.
Purchased Technology. Purchased technology is amortized on a straight-line basis
over the expected life of the related technology or five years, whichever is
less.
Capitalized Software Costs. Under the criteria set forth in SFAS No. 86,
"Accounting for the Cost of Computer Software to be Sold, Leased or Otherwise
Marketed," (SFAS 86) development costs incurred in the research and development
of new software products are expensed as incurred until technological
feasibility, in the form of a working model, has been established, at which time
such costs are capitalized until the product is available for general release to
customers. Capitalized costs are amortized to cost of sales based on either
estimated current and future revenue for each product or straight-line
amortization over the shorter of three years or the remaining estimated life of
the product, whichever produces the higher expense for the period. As of
December 31, 2003 and 2002, capitalized costs aggregated $719,500 and
$1,198,100, with accumulated amortization of $218,200 and $791,600,
respectively.
Revenue. Software license revenues are recognized when a non-cancelable license
agreement has been signed and the customer acknowledges an unconditional
obligation to pay, the software product has been delivered, there are no
uncertainties surrounding product acceptance, the fees are fixed or determinable
and collection is considered probable. Delivery is considered to have occurred
when title and risk of loss have been transferred to the customer, which
generally occurs when the media containing the licensed programs is provided to
a common carrier. In the case of electronic delivery, delivery occurs when the
customer is given access to the licensed programs. If collectibility is not
considered probable, revenue is recognized when the fee is collected.
Statement of Position (SOP) 97-2, "Software Revenue Recognition," (SOP 97-2), as
amended, generally requires revenue earned on software arrangements involving
multiple elements to be allocated to each element based on the relative fair
values of the elements. Revenue recognized from multiple-element arrangements is
28
allocated to undelivered elements of the arrangement, such as maintenance,
support and professional services, based on the relative fair values of the
elements specific to the Company. The Company's determination of fair value of
each element in multi-element arrangements is based on vendor-specific objective
evidence ("VSOE"). The Company limits its assessment of VSOE for each element to
either the price charged when the same element is sold separately or the price
established by management, having the relevant authority to do so, for an
element not yet sold separately.
The Company allocates revenue to each element in a multiple-element arrangement
based on the element's respective fair value, with the fair value determined by
the price charged when that element is sold separately. Specifically, the
Company determines the fair value of the maintenance portion of the arrangement
based on the normal pricing of the maintenance charged to clients and the
professional services portion of the arrangement based on hourly rates which the
Company charges for these services when sold separately from software. If
evidence of fair value of all undelivered elements exists but evidence does not
exist for one or more delivered elements, then revenue is recognized using the
residual method. Under the residual method, the fair value of the undelivered
elements is deferred and the remaining portion of the arrangement fee is
recognized as revenue. The proportion of revenue recognized upon delivery may
vary from quarter to quarter depending upon the mix of licensing arrangements,
perpetual or term-based, and the determination of VSOE of fair value for
undelivered elements.
Service revenues consists of fees generated from the sale of maintenance
contracts and are recognized as revenue ratably over the term of the maintenance
contract.
Advertising Costs. The cost of advertising is expensed as incurred. Advertising
costs for the years ended December 31, 2003, 2002 and 2001, were approximately
$4,000, $114,300 and $94,900, respectively. Advertising consists primarily of
various printed material.
Income Taxes. Under SFAS No. 109, "Accounting for Income Taxes," (SFAS 109)
deferred income taxes are recognized for the tax consequences of temporary
differences between the financial statement and income tax bases of assets,
liabilities and carryforwards using enacted tax rates. Valuation allowances are
established when necessary, to reduce deferred tax assets to the amount expected
to be realized. Realization is dependent upon future pre-tax earnings, the
reversal of temporary differences between book and tax income, and the expected
tax rates in effect in future periods.
Fair Value of Financial Instruments. The Company used the following methods and
assumptions in estimating the fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amount reported on the balance sheet
for cash and cash equivalents approximates fair value.
Available-for-sale securities: The fair values of available-for-sale
securities are based on quoted market prices.
Short-term debt: The fair value of short-term debt is estimated based on
current interest notes available to the Company for debt instruments with
similar terms and maturities.
As of December 31, 2003 and 2002, the fair values of the Company's financial
instruments approximate their historical carrying amounts.
Long-Lived Assets. Long-lived assets are assessed for possible impairment
whenever events or changes in circumstances indicate that the carrying amounts
may not be recoverable, or whenever the Company has committed to a plan to
dispose of the assets. Measurement of the impairment loss is based on the fair
value of the assets. Generally, the Company determines fair value based on
appraisals, current market value, comparable sales value, and undiscounted
future cash flows as appropriate. Assets to be held and used affected by such
impairment loss are depreciated or amortized at their new carrying amount over
the remaining estimated life; assets to be sold or otherwise disposed of are not
subject to further depreciation or amortization.
Restructuring Charges. Charges related to the restructuring of the Company's
operations are estimated, accrued and expensed in the period in which the Board
of Directors has committed to and approved a restructuring plan. The
restructuring accrual is reduced in any period in which one or more of the
planned restructuring activities occur. The restructuring accrual is adjusted
for material differences between the actual cost of a restructuring activity and
the estimated cost of the restructuring activity in the period the actual cost
becomes known. The Company followed EITF 94-3 for restructuring plans entered
into prior to January 1, 2003. The Company currently follows FASB No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities," (SFAS 146)
for restructuring plans entered into on, or after, January 1, 2003.
Stock-Based Incentive Programs. The Company accounts for its stock-based
incentive programs using the intrinsic value method, as prescribed by APB 25 and
interpretations thereof (collectively APB 25). Accordingly, the Company records
deferred compensation expense costs related to its employee stock options when
the market price of the underlying stock exceeds the exercise price of each
option on the date of grant. The Company records and measures deferred
29
compensation for stock options granted to non-employees, other than members of
the board, at their fair value. Deferred compensation is expensed on a
straight-line basis over the vesting period of the related stock option for
options issued to employees. Deferred compensation is expensed on a
straight-line basis over the shorter of the vesting period of the related stock
option or the contractual period of service for option grants to non-employees.
The Company did not grant any stock options at exercise prices below the fair
market value of the Company's common stock on the grant date during the years
ended December 31, 2003, 2002 and 2001.
As of December 31, 2003, the Company's deferred compensation balance was $0. The
accompanying statement of operations reflects stock-based compensation expense
of $0, $193,800 and $1,058,000 for the years ended December 31, 2003, 2002 and
2001, respectively.
An alternative to the intrinsic value method of accounting for stock-based
compensation is the fair value approach prescribed by SFAS 123, as amended by
SFAS 148 (hereinafter collectively referred to as SFAS 123). If the Company
followed the fair value approach, the Company would be required to record
deferred compensation based on the fair value of the stock option at the date of
grant. The fair value of the stock option must be computed using an
option-pricing model, such as the Black-Scholes option valuation method, at the
date of grant. The deferred compensation calculated under the fair value method
would then be amortized over the respective vesting period of the stock option.
Under SFAS 123, the Company's pro forma net loss and the basic and diluted net
loss per common share would have been adjusted to the pro forma amounts below.
2003 2002 2001
-------------- -------------- --------------
Net loss:
As reported $ (1,886,600) $ (8,792,500) $ (15,478,000)
Add: stock-based compensation
expense included in reported net loss,
net of related tax effects
Non-employees - 193,800 1,058,000
Employees - - -
-------------- -------------- --------------
Subtotal - 193,800 1,058,000
-------------- -------------- --------------
Deduct: total stock-based compensation
determined under fair value-based
method for all accounts,
net of related tax effects
Non-employees - (193,800) (1,058,000)
Employees (265,300) (1,531,400) (2,694,000)
-------------- -------------- --------------
Pro forma $ (2,151,900) $ (10,323,900) $ (18,172,000)
-------------- -------------- --------------
Basic and diluted loss per share
As reported $ (0.11) $ (0.50) $ (0.97)
Pro forma $ (0.13) $ (0.59) $ (1.14)
Earnings Per Share of Common Stock. SFAS No. 128, "Earnings Per Share," (SFAS
128) provides for the calculation of basic and diluted earnings per share. Basic
earnings per share includes no dilution and is computed by dividing income
available to common shareholders by the weighted-average number of common shares
outstanding for the period. Diluted earnings per share reflects the potential
dilution of securities by adding other common stock equivalents, including
common stock options, warrants and redeemable convertible preferred stock, in
the weighted average number of common shares outstanding for a period, if
dilutive. Potentially dilutive securities have been excluded from the
computation, as their effect is antidilutive. For the years ended December 31,
2003, 2002 and 2001, 2,104,483, 2,584,307 and 3,765,232 shares, respectively, of
common stock equivalents were excluded from the computation of diluted earnings
per share since their effect would be antidilutive.
Comprehensive Income. SFAS No. 130, "Reporting Comprehensive Income," (SFAS 130)
establishes standards for reporting comprehensive income and its components in a
financial statement that is displayed with the same prominence as other
financial statements. Comprehensive income, as defined, includes all changes in
equity (net assets) during the period from non-owner sources. Examples of items
30
to be included in comprehensive income, which are excluded from net income,
include foreign currency translation adjustments and unrealizable gain/loss of
available-for-sale securities. The individual components of comprehensive income
(loss) are reflected in the statements of shareholders' equity. As of December
31, 2003, 2002 and 2001, accumulated other comprehensive loss was comprised of
foreign currency translation loss and the cumulative change in the market value
of the available-for-sale securities.
Adoption of New Accounting Pronouncements. In November 2002, the FASB issued FIN
45, which clarifies disclosure and recognition/measurement requirements related
to certain guarantees. The disclosure requirements are effective for financial
statements issued after December 31, 2002 and the recognition/measurement
requirements are effective on a prospective basis for guarantees issued or
modified after December 31, 2002. The application of the requirements of FIN 45
did not have a material impact on financial position or results of operations.
In November 2002, the FASB's EITF reached a final consensus on Issue No. 00-21,
which is effective for revenue arrangements entered into in fiscal periods
beginning after June 15, 2003. Under EITF Issue No. 00-21, revenue arrangements
with multiple deliverables are required to be divided into separate units of
accounting under certain circumstances. The adoption of EITF Issue No. 00-21 did
not have a material impact on the Company's consolidated results of operations
or financial position.
In December 2002, the FASB issued SFAS 148. This Statement amends SFAS 123 to
provide alternative methods of transition for a voluntary change to the fair
value based method of accounting for stock-based employee compensation.
Additionally, SFAS 148 amends the disclosure requirements of SFAS 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. SFAS 148 is effective for financial statements
for fiscal years ended after December 31, 2002. In compliance with SFAS 148 the
Company has elected to continue to follow the intrinsic value method in
accounting for its stock-based employee compensation arrangement as defined by
APB 25 and has made the applicable disclosure in Note 8 to the financial
statements.
In January 2003, the FASB issued FIN 46, which addresses consolidation by a
business of variable interest entities in which it is the primary beneficiary.
FIN 46 is effective immediately for certain disclosure requirements and for
variable interest entities created after January 1, 2003, and in the first
fiscal year or interim period beginning after June 15, 2003 for all other
variable interest entities. It is expected that the adoption of FIN 46 will not
have a material impact on the Company's consolidated results of operations or
financial position.
In April 2003, the FASB issued SFAS 149. This statement amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities under SFAS 133. This
statement is effective for contracts entered into or modified after June 30,
2003, for hedging relationships designated after June 30, 2003, and to certain
preexisting contracts. It is expected that the adoption of SFAS 149 will not
have a material impact on the Company's consolidated results of operations or
financial position.
In May 2003, the FASB issued SFAS 150. This statement establishes standards for
how an issuer classifies and measures in its financial position certain
financial instruments with characteristics of both liabilities and equity. In
accordance with this standard, financial instruments that embody obligations for
the issuer are required to be classified as liabilities. SFAS 150 generally is
effective for financial instruments created or modified after May 31, 2003, and
otherwise effective at the beginning of the first interim period beginning after
June 15, 2003. It is expected that the adoption of SFAS 150 will not have a
material impact on the Company's consolidated results of operations or financial
position.
In December 2003, the SEC issued SAB 104 that codified, revised and rescinded
certain sections of SAB 101 in order to make this interpretive guidance
consistent with current authoritative guidance. The changes noted in SAB 104 did
not have a material impact on the Company's consolidated results of operations
or financial position.
Reclassifications. Certain amounts in the prior years' financial statements have
been reclassified to conform to the current year's presentation.
Notes to Consolidated Financial Statements
1. Future Prospects.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the settlement of
liabilities in the normal course of business. The Company has suffered recurring
losses and has absorbed significant cash in its operating activities. Further,
31
the Company has limited alternative sources of financing available to fund any
additional cash required for its operations or otherwise. These matters raise
substantial doubt about the ability of the Company to continue as a going
concern. The accompanying financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
The Company continues to operate the business on a cash basis by striving to
bring cash expenditures in line with revenues. The Company is simultaneously
looking at ways to improve or maintain its revenue stream. Additionally, the
Company continues to review potential merger opportunities as they present
themselves and at such time as a merger might make financial sense and add value
for the shareholders, the Company will pursue that merger opportunity. The
Company anticipates increasing its sales and marketing and research and
development expenditures during 2004 as it believes further development of these
areas are critical to its ability to continue its business as a going concern.
The Company believes that improving or maintaining its current revenue stream,
coupled with its cash on hand, including the cash raised in the private
placement (Note 2), will support these planned increases during 2004.
On March 19, 2003, the Company received a Nasdaq Staff Determination letter
indicating that it fails to comply with the $1.00 minimum closing bid price per
share requirement for continued listing as set forth in Marketplace Rule
4310(c)(4) and that its securities are, therefore, subject to delisting from the
Nasdaq SmallCap Market. The Company's shares were ultimately delisted from the
Nasdaq SmallCap Market on March 26, 2003 and have been quoted on the
Over-the-Counter Bulletin Board since March 27, 2003.
2. Subsequent Event.
On January 29, 2004, the Company raised in a private offering a total of
$1,150,000 through the sale of 5,000,000 shares of common stock and 5-year
warrants to purchase 2,500,000 shares of common stock at an exercise price of
$0.33 per share. The Company estimates that commissions and professional
services fees, including legal fees, associated with the private offering would
approximate $175,000, thus netting proceeds of approximately $975,000 for
operating purposes.
3. Property and Equipment.
Property and equipment consisted of the following:
December 31, 2003 2002
------------ ------------ ------------
Equipment $ 875,000 $ 976,100
Furniture and fixtures 231,500 266,200
Leasehold improvements 30,400 30,400
------------ ------------
1,136,900 1,272,700
Less: accumulated depreciation
and amortization 992,100 850,800
------------ ------------
$ 144,800 $ 421,900
============ ============
The Company substantially reduced its operations during 2002, including the
removal from service and write-off of significant portions of its property and
equipment as part of its restructuring charges. (See Note 7).
4. Purchased Technology.
Purchased technology consisted of the following:
December 31, 2003 2002
------------ ------------ ------------
Purchased technology (Note 6) $ 1,370,100 $ 7,915,700
Less: accumulated amortization 1,035,100 6,752,600
------------ ------------
$ 335,000 $ 1,163,100
============ ============
The decreases in the balances of purchased technology and related accumulated
amortization in 2003 from 2002 is the result of the asset impairment charges
(Note 6) recorded during 2002 and 2001. Purchased technology will be fully
amortized during 2004.
Pursuant to SFAS No. 142, "Goodwill and Other Intangible Assets," (SFAS 142)
during 2003 the Company conducted periodic tests for asset impairment. As of
December 31, 2003 the Company does not have any intangible assets with
indefinite useful lives, or any goodwill on its balance sheet. Intangible assets
are comprised of acquired technology and technology developed in-house, both of
32
which have been incorporated into one or more products. As such, all intangible
assets are being amortized to cost of revenues over the estimated useful lives
of the underlying products, or three years, whichever is shorter.
5. Accrued Liabilities.
Accrued liabilities consisted of the following:
December 31, 2003 2002
------------ ---------- ----------
Payroll and related liabilities $ 305,200 $ 304,500
Professional fees 118,300 123,800
Restructuring charge (Note 7) - 282,200
Accrued taxes 24,400 18,700
Other 22,900 65,900
---------- ----------
$ 470,800 $ 795,100
========== ==========
6. Asset Impairment Charge.
During 2002 and 2001, the Company recorded impairment charges of $914,000 and
$4,500,900, respectively, against several intangible assets, primarily
capitalized technology assets. The review of long-lived assets for impairment
occurs whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. Examples of events or changes in
circumstances that indicate that the recoverability of the carrying amount of an
asset should be addressed include the following:
o A significant decrease in the market value of an asset;
o A significant change in the extent or manner in which an asset is used;
o A significant adverse change in the business climate that could affect
the value of an asset; and
o Current and historical operating or cash flow losses.
The Company believed that a review of the current carrying values to evaluate
whether the value of any of its long-lived technology assets had been impaired
was warranted, due to several factors, including:
o The challenges faced in bringing the GoGlobal for Windows and
GoGlobal:XP products to maturity;
o The continued pervasive weakness in the world-wide economy;
o How the Company was incorporating and planning to incorporate each
element of the purchased technologies into its legacy technology; and
o The Company's continued and historical operating and cash flow losses.
Based on studies of the various factors affecting asset impairment, as outlined
above, the following asset impairment charges were determined to be necessary in
order to reduce the carrying value of certain of these assets to the Company's
current estimate of the present value of the expected future cash flows to be
derived from these assets:
Net Book Value Impairment Net Book Value
2002 Impairment Before Impairment Write Down After Impairment
-------------------- ------------------ ------------- ----------------
Purchased Technology $ 2,145,200 $ 775,100 $ 1,370,100
Capitalized Software 277,800 138,900 138,900
------------------ ------------- ----------------
Totals $ 2,423,000 $ 914,000 $ 1,509,000
================== ============= ================
2001 Impairment
--------------------
Purchased Technology $ 7,283,300 $ 4,150,900 $ 3,132,400
Patent 350,000 350,000 -
------------------ ------------- ----------------
Totals $ 7,633,300 $ 4,500,900 $ 3,132,400
================== ============= ================
The Company reassessed the carrying values of its intangible assets as of
December 31, 2003 and determined that no further impairment of those assets had
occurred. The asset impairment charges were approximately 0.0%, 25.9%, and 76.2%
of total revenues for the years 2003, 2002, and 2001, respectively.
33
7. Restructuring Charges.
During 2002 the Company closed its Morgan Hill, California and Bellevue
Washington office locations as part of its strategic initiatives to reduce
operating costs. In conjunction with these closures, headcount was reduced in
all operating departments and the costs of leasehold improvements and other
assets that were abandoned were written off. A summary of the restructuring
charges recorded during 2002 is as follows:
Ending Balance
Restructuring Cash Non-cash Restructuring
Category Charge Payments Charges Accrual
-------- ------------- ------------- ----------- --------------
Year ended December 31, 2002:
Employee severance $ 831,000 $ (831,000) $ - $ -
Fixed assets abandonment 657,800 - (657,800) -
Minimum lease payments 443,800 (161,600) - 282,200
Other 10,200 (10,200) - -
------------ ------------- ----------- --------------
Totals $ 1,942,800 $ (1,002,800) $ (657,800) $ 282,200
============ ============= =========== ==============
During 2003 the Company negotiated settlements of the leases for its former
offices in Bellevue, Washington and Morgan Hill, California, which completed the
restructuring activities that had been approved under EITF 94-3 during 2002 and
had begun in 2002, as explained above. Additionally, the Company relocated its
Morgan Hill, California offices from 400 Cochrane Circle to 105 Cochrane Circle
and further disposed of certain assets that were no longer in service. To the
extent that the December 31, 2002 ending restructuring charge accrual balance
was less than the costs incurred for these activities, an additional
restructuring charge was recorded during 2003. A summary of the restructuring
charges recorded during 2003 is as follows:
Ending Balance
Restructuring Cash Non-cash Restructuring
Category Charge Payments Charges Accrual
-------- ------------- ------------- ----------- --------------
Year ended December 31, 2003:
Opening accrual balance $ - $ - $ - $ 282,200
Fixed assets abandonment 42,200 - (42,200) -
Leases settlements - rent 36,800 (269,000) - (232,200)
Deposits forfeited 16,000 - (56,000) (40,000)
Commissions 12,000 (22,000) - (10,000)
Other (1) (26,900) - 26,900 -
------------- ------------- ----------- --------------
Totals $ 80,100 $ (291,000) $ (71,300) $ -
============= ============= =========== ==============
(1) Includes the write-off of deferred rent associated with the Morgan Hill
lease and other miscellaneous items.
During June 2003, the Company negotiated a buy out of the lease for its former
engineering offices in Bellevue, Washington. The total buy out price was
approximately $184,000 and consisted of a lump-sum cash payment of $144,000, the
forfeiture of an approximate $40,000 security deposit and a $10,000 commission
to the real estate broker who was involved in the transaction. It is estimated
that the buy out saved approximately $355,800 over what would have been the
remainder of the lease term.
During August 2003, the Company negotiated a buy out of the lease for its former
corporate offices in Morgan Hill, California. The total buy out price was
approximately $153,000 and consisted of a lump-sum cash payment of $125,000, the
forfeiture of an approximate $16,000 security deposit and a $12,000 commission
to the real estate broker who was involved in the transaction. It is estimated
that the buy out saved approximately $270,000 over what would have been the
remainder of the lease term.
8. Stockholders' Equity.
Common Stock. During 2003, the Company issued 37,740 shares of common stock to
employees in connection with the Employee Stock Purchase Plan, resulting in net
cash proceeds of $2,800.
During 2002 the Company issued 100,000 shares of common stock to each of two
directors who exercised options granted under the Company's 1998 Stock
Option/Stock Issuance Plan. Each of the two directors exercising the options
issued a $25,000 promissory note to the Company to pay for the options. The
notes are for a term of three years, are due on or before March 5, 2005 and bear
semi-annual interest at 2.67% per annum, which is equal to the applicable
34
federal short-term interest rate in effect at the time the promissory notes were
signed. In the event of default, the Company can take back all 100,000 of the
shares of common stock so issued. Additionally, during 2002, the Company issued
25,720 shares of common stock to employees in connection with the Employee Stock
Purchase Plan, resulting in net cash proceeds of $6,400.
During 2001, the Company issued options and warrants to various third parties in
exchange for services provided. Using the Black-Scholes option-pricing model,
the Company capitalized $120,200 as deferred compensation. The following
assumptions were used for pricing the options and warrants: dividend yield of 0,
expected volatility of 60%, risk-free interest rate of 5.25%, and expected life
of one year. During 2002 and 2001, the Company amortized $23,900 and $96,300,
respectively, of deferred compensation related to the issuance of the options
and warrants to these various third parties.
In June 2001, the Company issued 2,500,000 shares of common stock to Menta
Software in connection with the acquisition of software technology, which was
assigned a historical cost of $6,500,000 based on the then fair market value of
the common stock. In an extemporaneous transaction in June of 2001, the Company
licensed its patented technology to Menta Software in a transaction valued at
$2,000,000, of which $600,000 was paid in cash. In December 2002, the Company
accepted 933,333 shares of its common stock from Menta Software in full
settlement of the outstanding $1,400,000 due the Company from Menta Software
under the terms of the June 2001 patented technology licensing agreement. Also
during 2001, the Company issued 64,958 shares of common stock to employees in
connection with the Employee Stock Purchase Plan resulting in net cash proceeds
of $152,900.
Stock Purchase Warrants. As of December 31, 2003, the following common stock
warrants were issued and outstanding:
Shares subject Exercise Expiration
Issued with respect to: to Warrant Price Date
- ----------------------- ---------- ----- ----
Convertible notes 83,640 $ 1.79 01/06
Private placement 373,049 $ 1.79 01/06
IPO Directors Class A 111,667 $ 5.50 07/04
IPO Directors Class B 180,000 $ 7.50 07/04
Consulting Services 50,000 $ 1.00 04/04
Consulting Services 125,000 $ 1.75 04/04
1996 Stock Option Plan. In May 1996 the Company's 1996 Stock Option Plan (the 96
Plan) was adopted by the board and approved by the stockholders. The 96 Plan is
restricted to employees, including officers, and to non-employee directors. As
of December 31, 2003 the Company is authorized to issue up to 187,500 shares of
its common stock in accordance with the terms of the 96 Plan.
Under the 96 Plan the exercise price of options granted is either at least equal
to the fair market value of the Company's common stock on the date of the grant
or, in the case when the grant is to a holder of more than 10% of the Company's
common stock, at least 110% of the fair market value of the Company's common
stock on the date of the grant. As of December 31, 2003, options to purchase
27,625 shares of common stock were outstanding, 538 options had been exercised
and options to purchase 159,337 shares of common stock remained available for
further issuance under the 96 Plan.
1998 Stock Option/Stock Issuance Plan. In June 1998 the Company's 1998 Stock
Option/Stock Issuance Plan (the 98 Plan) was adopted by the board and approved
by the stockholders. Pursuant to the terms on the 98 Plan, options or stock may
be granted and issued, respectively, to officers and other employees,
non-employee board members and independent consultants who render services to
the Company. As of December 31, 2003 the Company is authorized to issue up to
4,455,400 options or stock in accordance with the terms of the 98 Plan, as
amended.
Under the 98 Plan the exercise price of options granted is to be not less than
85% of the fair market value of the Company's common stock on the date of the
grant. The purchase price of stock issued under the 98 Plan shall also not be
less than 85% of the fair market value of the Company's stock on the date of
issuance or as a bonus for past services rendered to the Company. As of December
31, 2003, options to purchase 2,067,358 shares of common stock were outstanding,
323,904 options had been exercised, 248,157 shares of common stock had been
issued directly under the 98 Plan and 1,856,539 shares remained available for
grant/issuance. The Company did not issue any direct shares under the 98 Plan in
2003, 2002, or 2001 and does not anticipate issuing shares in 2004.
Supplemental Stock Option Plan. In May 2000, the board approved a supplement
(the Supplemental Plan) to the 98 Plan. Pursuant to the terms of the
Supplemental Plan, options are restricted to employees who are neither Officers
nor Directors at the grant date. As of December 31, 2003 the Company is
authorized to issue up to 400,000 shares in accordance with the terms of the
Supplemental Plan.
35
Under the Supplemental Plan the exercise price of options granted is to be not
less than 85% of the fair market value of the Company's common stock on the date
of the grant or, in the case when the grant is to a holder of more than 10% of
the Company's common stock, at least 110% of the fair market value of the
Company's common stock on the date of the grant. As of December 31, 2003,
options to purchase 9,500 shares of common stock were outstanding, no options
had been exercised and options to purchase 390,500 shares of common stock
remained available for further issuance under the 96 Plan.
Employee Stock Purchase Plan. In February 2000, the Employee Stock Purchase Plan
(ESPP) was adopted by the board and approved by the stockholders in June 2000.
The ESPP provides for the purchase of shares of the Company's common stock by
eligible employees, including officers, at semi-annual intervals through payroll
deductions. No participant may purchase more than $25,000 worth of common stock
under the ESPP in one calendar year or more than 2,000 shares on any purchase
date. Purchase rights may not be granted to an employee who immediately after
the grant would own or hold options or other rights to purchase stock and
cumulatively possess 5% or more of the total combined voting power or value of
common stock of the Company.
Pursuant to the terms of the ESPP, shares of common stock are offered through a
series of successive offering periods, each with a maximum duration of six
months beginning on the first business day of February and August each year. The
purchase price of the common stock purchased under the ESPP is equal to 85% of
the lower of the fair market value of such shares on the start date of an
offering period or the fair market value of such shares on the last day of such
offering period. As of December 31, 2003, 128,418 shares of common stock have
been purchased through the ESPP and 71,582 are available for future purchase.
Employee Stock Option Exchange Program. On June 24, 2003, the Company announced
a voluntary stock option exchange program for its employees who were not
executive officers or members of its Board of Directors. Under the terms of the
exchange program, eligible employees had the opportunity, if they so chose, to
cancel any of their outstanding unexercised options to purchase Company common
stock that had an exercise price greater than or equal to $0.50 in exchange for
an equal number of new options to be granted at a future date. As of July 23,
2003, the closing date of the exchange program, 578,935 options were exchanged
by eligible employees and cancelled. All options so cancelled were considered
available for reissuance on December 31, 2003, as reported elsewhere in this
footnote. On January 26, 2004 participating employees were granted new options
in an amount equal to the amount they had tendered for exchange. All the new
options were granted at an exercise price of $0.41, the fair market value on the
grant date.
A summary of the status of the Company's stock option plans as of December 31,
2003, 2002, and 2001, and changes during the years then ended is presented in
the following table:
Options Outstanding
----------------------------------------------------------------------
December 31, 2003 December 31, 2002 December 31, 2001
--------------------- ---------------------- -----------------------
Wtd. Avg. Wtd. Avg. Wtd. Avg.
Shares Ex. Price Shares Ex. Price Shares Ex. Price
--------- ---------- ---------- ---------- ----------- ----------
Beginning 2,584,307 $ 3.05 2,541,200 $ 4.32 2,179,489 $ 5.42
Granted 207,500 $ 0.18 1,193,000 $ 0.17 1,045,150 $ 1.30
Exercised - $ - (200,000) $ 0.25 (23,627) $ 1.51
Forfeited (687,324) $ 3.95 (949,893) $ 3.45 (659,812) $ 3.27
--------- ---------- ---------- ---------- ----------- ----------
Ending 2,104,483 $ 2.47 2,584,307 $ 3.05 2,541,200 $ 4.32
========= ========== ========== ========== =========== ==========
Exercisable at
year-end 2,104,483 $ 2.47 2,584,307 $ 3.05 2,541,200 $ 4.32
========= ========== ========== ========== =========== ==========
Weighted-average fair value
of options granted during
the period: $ 0.10 $ 0.09 $ 0.73
========== ========== ==========
The following table summarizes information about stock options outstanding as of
December 31, 2003:
36
Options Outstanding
------------------------------------- Options Exercisable
Wtd. Avg. ----------------------
Number Remaining Number
Range of Outstanding Contractual Wtd. Avg. Exercisable Wtd. Avg.
Ex. Price at 12/31/03 Life Ex. Price at 12/31/03 Ex. Price
-------------- ----------- ----------- --------- ----------- ---------
$ 0.01 - 3.00 1,612,595 8.19 yrs. $ 0.52 1,612,595 $ 0.52
$ 3.01 - 7.00 306,888 5.83 yrs. $ 6.13 306,888 $ 6.13
$ 7.01 - 10.00 50,000 6.29 yrs. $ 7.31 50,000 $ 7.31
$10.01 - 16.00 135,000 6.13 yrs. $ 15.62 135,000 $ 15.62
----------- --------- ----------- ---------
2,104,483 $ 2.47 2,104,483 $ 2.47
=========== ========= =========== =========
SFAS No. 123 requires the Company to provide pro forma information regarding net
(loss) income and (loss) earnings per share as if compensation cost for the
stock option plan had been determined in accordance with the fair value-based
method prescribed in SFAS No.123 throughout the year. The Company estimated the
fair value of stock options at the grant date by using the Black-Scholes option
pricing-model with the following weighted average assumptions used for grants in
2003, 2002 and 2001, respectively: dividend yield (all years) of 0; expected
volatility of 60%, 60%, and 60%; risk-free interest rate of 2.50%, 2.50% and
5.25 %; and expected lives of five, five, and five years, respectively, for all
plan options.
9. Income Taxes.
The provision for income taxes for the year ended December 31, 2001 consists of
minimum state taxes. There is no provision for income taxes for either of the
years ended December 31, 2003 or 2002.
The following summarizes the differences between income tax expense and the
amount computed applying the federal income tax rate of 34%:
December 31, 2003 2002 2001
- ------------ ----------- ----------- -----------
Federal income tax at
statutory rate $ (641,400) $(2,989,400) $(5,262,500)
State income taxes, net
of federal benefit (97,100) (556,200) (902,400)
Tax benefit not
currently recognizable 706,300 3,475,800 6,260,300
Research and development
Credit - (100,000) (100,000)
Other 32,200 30,200 5,400
----------- ----------- -----------
Provision for income taxes $ - $ - $ 800
=========== =========== ===========
Deferred income taxes and benefits result from temporary timing differences in
the recognition of certain expense and income items for tax and financial
reporting purposes, as follows:
December 31, 2003 2002
- ------------ ------------ ------------
Net operating loss carryforwards $ 15,402,700 $ 13,376,300
Tax credit carryforwards 654,500 627,500
Capitalized software (199,700) (161,900)
Depreciation and amortization 593,200 1,886,800
Reserves not currently deductible 404,800 420,600
Deferred compensation 1,202,700 1,202,600
------------ ------------
Total deferred tax asset 18,058,200 17,351,900
Valuation allowance (18,058,200) (17,351,900)
------------ ------------
Net deferred tax asset $ - $ -
============ ============
The Company has net operating loss carryforwards available to reduce future
taxable income, if any, of approximately $42,627,000 and $15,586,000 for Federal
and California income tax purposes, respectively. The benefits from these
carryforwards expire at various times from 2004 through 2022. As of December 31,
2003, the Company cannot determine that it is more likely than not that these
carryforwards and other deferred tax assets will be realized, and accordingly,
the Company has fully reserved for these deferred tax assets. Furthermore,
37
approximately $1,202,700 of the valuation allowance related to the amortization
of deferred compensation will be credited to equity upon its reversal.
In 1998 the Company experienced a "change of ownership" as defined by the
provisions of the Tax Reform Act of 1986. As such, utilization of the Company's
net operating loss carryforwards through 1998 will be limited to approximately
$400,000 per year until such carryforwards are fully utilized or expire.
10. Concentration of Credit Risk.
Financial instruments, which potentially subject the Company to concentration of
credit risk, consist principally of cash and cash equivalents, and trade
receivables. The Company places cash and cash equivalents with high quality
financial institutions and, by policy, limits the amount of credit exposure to
any one financial institution. As of December 31, 2002, the Company had
approximately $925,500 of cash and cash equivalents with financial institutions,
in excess of FDIC insurance limits.
For the year ended December 31, 2003, sales to the Company's three largest
customers accounted for approximately 27.4%, 18.4% and 9.2% of total revenues,
respectively, with related accounts receivable as of December 31, 2003 of $0,
$145,900 and $230,000, respectively. Approximately $0, $139,200 and $150,000 of
the outstanding balances, respectively, had been collected through March 17,
2004. For the year ended December 31, 2002, these three customers accounted for
approximately 26.9%, 12.5% and 3.0% of total revenues, respectively, with
related accounts receivable as of December 31, 2002 of $0, $58,800 and $4,600,
respectively. Approximately $0, $52,400 and $0,000 outstanding balance was
collected by March 21, 2003, respectively.
For the year ended December 31, 2002, sales to the Company's three largest
customers accounted for approximately 26.9%, 23.4% and 12.5% of total revenues,
respectively, with related accounts receivable as of December 31, 2002 of $0, $0
and $58,800, respectively. Approximately $52,400 of the outstanding balance had
been collected through March 21, 2003. For the year ended December 31, 2001,
these three customers accounted for approximately 24.5%, 0.0% and 6.1% of total
revenues, respectively, with related accounts receivable as of December 31, 2001
of $270,000, $0, and $182,900, respectively. The $270,000 outstanding balance
was collected during January 2001 and approximately $143,200 of the $182,900
outstanding balance was collected by March 31, 2002.
For the year ended December 31, 2001, sales to the Company's three largest
customers accounted for approximately 25.2%, 24.5% and 9.5% of total revenues,
respectively, with related accounts receivable as of December 31, 2001 of $0,
$270,000, and $0, respectively. The outstanding balance was collected during
February 2002. For the year ended December 31, 2000, these three customers
accounted for approximately 0.0%, 14.4% and 0.0% of total revenues,
respectively, with related accounts receivable as of December 31, 2000 of $0,
$150,000, and $0, respectively. The outstanding balance was collected during
January 2001.
Accounts receivable are derived from many customers in various industries. The
Company believes any risk of loss is reduced due to the diversity of customers
and geographic sales areas. The Company performs credit evaluations of
customers' financial condition whenever necessary, and generally does not
require cash collateral or other security to support customer receivables.
11. Commitments and Contingencies.
Operating Leases. In October 2003, the Company entered into a one-year operating
lease for an approximate 3,300 square foot facility in New Hampshire. Monthly
rental payments for this facility are approximately $5,000.
During 2003, the Company successfully negotiated settlement of the underlying
leases to its previously vacated facilities in Bellevue, Washington and Morgan
Hill, California. The Company no longer leases office space in Washington. The
Company has leased space in Morgan Hill since September 1, 2003, the effective
date of the settlement of the previous lease, on a month-to-month basis. Monthly
rental payments for this facility, inclusive of shared occupancy costs, are
approximately $1,200.
The Company also occupies leased facilities in Rolling Hills Estates, California
and Berkshire, England, United Kingdom. The Rolling Hills Estates and Berkshire
offices are very small and each are leased on a month-to-month basis. Rent on
the Rolling Hills Estates office is approximately $1,000 per month and the rent
on the Berkshire, England office, which fluctuates slightly depending on
exchange rates, is approximately $400 per month.
Future minimum lease payments under all leases in effect as of December 31, 2003
are as follows:
38
Year Payments
---- --------
2004 $ 50,000
2005 and thereafter $ -
Commitments. On January 29, 2004, the Company completed a private placement of
common stock and common stock purchase warrants in which Mr. Orin Hirschman
purchased 3,043,478 shares of common stock and warrants to purchase 1,521,739
shares of common stock (representing in the aggregate 19.7% of the Company's
outstanding shares of common stock as of March 18, 2004). As a condition of the
sale, the Company entered into an Investment Advisory Agreement with Mr.
Hirschman, pursuant to which it was agreed that in the event the Company
completes a transaction with a third party introduced by Mr. Hirschman, the
Company shall pay to Mr. Hirschman 5% of the value of that transaction. The
agreement expires on January 29, 2007.
Prior Bankruptcy. GraphOn Corporation (a predecessor company) filed a Voluntary
Petition for Relief under Chapter 11 of the Bankruptcy Code in November 1991 and
may be required to pay up to $964,000 to a creditor. To date, the Company has
not received any claims related to the bankruptcy. There can be no assurance
that future claims will not arise from the predecessor company's creditors or
that a former creditor may assert a claim relating to royalties earned from
subsequent licenses, which could be costly and could have a material effect on
the Company's business, financial condition and/or results of operations.
Contingencies. Under its Amended and Restated Certificate of Incorporation and
Amended and Restated Bylaws and certain agreements with officers and directors,
the Company has agreed to indemnify its officers and directors for certain
events or occurrences arising as a result of the officer or director's serving
in such capacity. Generally, the term of the indemnification period is for the
officer's or director's lifetime. The maximum potential amount of future
payments the Company could be required to make under these indemnification
agreements is unlimited as the Company does not currently have a directors and
officers liability insurance policy that limits its exposure and enables it to
recover a portion of any future amounts paid. The Company believes the estimated
fair value of these indemnification agreements is minimal and has no liabilities
recorded for these agreements as of December 31, 2003.
The Company enters into indemnification provisions under (i) its agreements with
other companies in its ordinary course of business, including contractors and
customers and (ii) its agreements with investors. Under these provisions, the
Company generally indemnifies and holds harmless the indemnified party for
losses suffered or incurred by the indemnified party as a result of the
Company's activities or, in some cases, as a result of the indemnified party's
activities under the agreement. These indemnification provisions often include
indemnifications relating to representations made by the Company with regard to
intellectual property rights, and often survive termination of the underlying
agreement. The maximum potential amount of future payments the Company could be
required to make under these indemnification provisions is unlimited. The
Company has not incurred material costs to defend lawsuits or settle claims
related to these indemnification agreements. As a result, the Company believes
the estimated fair value of these agreements is minimal. Accordingly, the
Company has no liabilities recorded for these agreements as of December 31,
2003.
The Company's software license agreements also generally include a performance
guarantee that the Company's software products will substantially operate as
described in the applicable program documentation for a period of 90 days after
delivery. The Company also generally warrants that services that the Company
performs will be provided in a manner consistent with reasonably applicable
industry standards. To date, the Company has not incurred any material costs
associated with these warranties.
12. Employee 401(k) Plan.
In December 1998, the Company adopted a 401(k) Plan (the Plan) to provide
retirement benefits for employees. As allowed under Section 401(k) of the
Internal Revenue Code, the Plan provides tax-deferred salary deductions for
eligible employees. Employees may contribute up to 15% of their annual
compensation to the Plan, limited to a maximum annual amount as set periodically
by the Internal Revenue Service. In addition, the Company may make
discretionary/matching contributions. During 2003, 2002 and 2001, the Company
contributed a total of $27,200, $52,400 and $44,700 to the Plan, respectively.
13. Supplemental Disclosure of Cash Flow Information.
The following is supplemental disclosure for the statements of cash flows.
Years Ended December 31, 2003 2002 2001
- ------------------------ ------ ------ -----------
Cash Paid:
- ----------
Income Taxes $ - $ - $ 800
Interest $ - $ 200 $ 5,800
39
Noncash Investing and Financing Activities:
- -------------------------------------------
Stock and warrants issued for
purchased technology and
other assets $ - $ - $ 6,500,000
During 2002, the Company accepted 933,333 shares of its common stock from Menta
Software as full settlement of the outstanding $1,400,000 due the Company under
the terms of the patent license agreement the Company entered into with Menta
Software in May 2001.
14. Quarterly Information (Unaudited).
The summarized quarterly financial data presented below reflect all adjustments,
which, except as discussed below, in the opinion of management, are of a normal
and recurring nature necessary to present fairly the results of operations for
the periods presented. In 2002 and 2001, the Company recorded asset impairment
charges of $914,000 and $4,500,000, respectively, against several of its
intangible assets, as discussed in Note 6. Also, during 2003 and 2002, the
Company recorded non-recurring restructuring charges of $80,100 and $1,942,800
related to the closure of certain office locations and other cost reduction
measures, as discussed in Note 7.
In thousands, except per share data.
Year ended First Second Third Fourth Full
December 31, 2003 Quarter Quarter Quarter Quarter Year
- ----------------- ------- ------- ------- ------- -------
Total revenues $ 1,044 $ 1,175 $ 1,086 $ 865 $ 4,170
Gross profit 720 832 773 474 2,799
Restructuring charge - - (80) - (80)
Operating loss (386) (416) (514) (579) (1,895)
Net loss (380) (418) (511) (578) (1,887)
Basic and diluted
loss per common share (0.02) (0.03) (0.03) (0.03) (0.11)
Year ended First Second Third Fourth Full
December 31, 2002 Quarter Quarter Quarter Quarter Year
- ----------------- ------- ------- ------- ------- -------
Total revenues $ 586 $ 525 $ 837 $ 1,587 $ 3,535
Gross profit 131 64 382 1,278 1,855
Asset impairment charge - - (914) - (914)
Restructuring charge (1,490) - (453) - (1,943)
Operating loss (3,625) (2,174) (2,992) (78) (8,869)
Net loss (3,591) (2,148) (2,981) (73) (8,793)
Basic and diluted
loss per common share (0.21) (0.12) (0.17) (0.00) (0.50)
40
Report of Independent Certified Public Accountants on Supplemental Schedule
To the Board of Directors and Shareholders of GraphOn Corporation
The audits referred to in our report dated February 23, 2004 (which report
contains an explanatory paragraph regarding the ability of GraphOn Corporation
and Subsidiary to continue as a going concern) relating to the consolidated
financial statements of GraphOn Corporation and Subsidiary, which is contained
in Item 8 of this Form 10-K, included the audit of the financial statement
schedule listed in the accompanying index. This financial statement schedule is
the responsibility of the Company's management. Our responsibility is to express
an opinion on this financial statement schedule based upon our audits.
In our opinion such consolidated financial statement schedule presents fairly,
in all material respects, the information set forth therein.
/s/ BDO Seidman, LLP
BDO Seidman, LLP
San Jose, California
February 23, 2004
41
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Balance Charged
at to costs Balance
Beginning and at end of
Description of period expenses Deductions period
- ----------- ---------- ---------- ---------- ---------
Allowance for Doubtful accounts:
2003 $ 50,300 $ 16,300 $ 19,800 $ 46,800
2002 $ 350,000 $ 31,600 $ 331,300 $ 50,300
2001 $ 100,000 $ 250,000 $ - $ 350,000
42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Our management carried out an evaluation, with the participation of our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of our
disclosure controls and procedures as of December 31, 2003. Based upon that
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures were effective to ensure that
information required to be disclosed by us in reports that we file or submit
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported, within the time periods specified in the rules and forms of the
Securities and Exchange Commission.
There has not been any change in our internal control over financial reporting
in connection with the evaluation required by Rule 13a-15(d) under the Exchange
Act that occurred during the quarter ended December 31, 2003 that has materially
affected, or is reasonably likely to materially affect, our internal control
over financial reporting.
43
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Executive Officers and Directors of the Registrant
Set forth below is information concerning each of our directors and
executive officers as of March 18, 2004.
Name Age Position
--------------- --- --------------------------------------
Robert Dilworth 62 Chairman of the Board of Directors and
Chief Executive Officer (Interim)
William Swain 63 Chief Financial Officer and Secretary
August P. Klein 67 Director
Michael Volker 55 Director
Gordon Watson 68 Director
Robert Dilworth has served as one of our directors since July 1998 and was
appointed Chairman in December 1999. In January 2002, Mr. Dilworth was appointed
Interim Chief Executive Officer upon the termination, by mutual agreement, of
our former Chief Executive Officer, Walter Keller. From 1987 to 1998 he served
as the Chief Executive Officer and Chairman of the Board of Metricom, Inc., a
leading provider of wireless data communication and network solutions. Prior to
joining Metricom, from 1985 to 1988, Mr. Dilworth served as President of Zenith
Data Systems Corporation, a microcomputer manufacturer. Earlier positions
included Chief Executive Officer and President of Morrow Designs, Chief
Executive Officer of Ultramagnetics, Group Marketing and Sales Director of
Varian Associates Instruments Group, Director of Minicomputer Systems at Sperry
Univac and Vice President of Finance and Administration at Varian Data Machines.
Mr. Dilworth is also a director of eOn Communications, Mobility Electronics,
Transcept Corporation, Yummy Interactive and Get2Chip.com, Inc.
William Swain has served as our Chief Financial Officer and Secretary since
March 2000. Mr. Swain was a consultant from August 1998 until February 2000,
working with entrepreneurs in the technology industry in connection with the
start-up and financing of new business opportunities. Mr. Swain was Chief
Financial Officer and Secretary of Metricom Inc., from January 1988 until June
1997, during which time he was instrumental in private financings as well as
Metricom's initial public offering and subsequent public financing activities.
He continued as Senior Vice President of Administration with Metricom from June
1997 until July 1998. Prior to joining Metricom, Mr. Swain held senior financial
positions with leading companies in the computer industry, including Morrow
Designs, Varian Associates and Univac. Mr. Swain holds a Bachelors degree in
Business Administration from California State University of Los Angeles and is a
Certified Public Accountant in the State of California.
August P. Klein has served as one of our directors since August 1998. Mr. Klein
has been, since 1995, the founder, Chief Executive Officer and Chairman of the
Board of JSK Corporation. From 1989 to 1993, Mr. Klein was founder and Chief
Executive Officer of Uniquest, Inc., an object-oriented application software
company. From 1984 to 1988, Mr. Klein served as Chief Executive Officer of
Masscomp, Inc., a developer of high performance real time mission critical
systems and Unix-based applications. Mr. Klein has served as Group Vice
President, Serial Printers at Data Products Corporation and President and Chief
Executive Officer at Integral Data Systems, a manufacturer of personal computer
printers. From 1957 to 1982, he was General Manager of the Retail Distribution
Business Unit and Director of Systems Marketing at IBM. Mr. Klein is a director
of QuickSite Corporation and has served as a trustee of the Computer Museum in
Boston, Massachusetts since 1988. Mr. Klein holds a B.S. in Mathematics from St.
Vincent's College.
Michael Volker has served as one of our directors since July 2001. Mr. Volker
has been, since 1996, Director of the Industry Liaison Office, which has primary
responsibility for the transfer of technology at Simon Fraser University. From
1996 to 2001, Mr. Volker was Chairman of the Vancouver Enterprise Forum, a
non-profit organization dedicated to the development of British Columbia's
technology enterprises. From 1991 to 1996, Mr. Volker was Chief Executive
Officer and Chairman of the Board of Directors of RDM Corporation, a publicly
listed company Mr. Volker founded in 1987. RDM is a developer of specialized
hardware and software products for both Internet electronic commerce and paper
payment processing. From 1988 to 1992, Mr. Volker was Executive Director of BC
Advances Systems Institute, a hi-tech research institute, and currently
continues as a Trustee of BC as well a member of various charitable and
educational boards. Prior to 1988, Mr. Volker had been active in various early
stage businesses as a founder, investor, director and officer. Mr. Volker holds
a Master of Applied Science and a Professional Engineer designation from the
University of Waterloo.
Gordon Watson founded Watson Consulting, LLC, a consulting company for early
stage technology companies, in 1997, and has served as its President since its
inception. From 1996 to 1997 he served as Western Regional Director, Lotus
Consulting of Lotus Development Corporation. Prior to joining Lotus Development
Corporation, from 1988 to 1996, Mr. Watson held various positions with Platinum
44
Technology, Incorporated, most recently serving as Vice President Business
Development, Distributed Solutions. Earlier positions include Senior Vice
President of Sales for Local Data, Incorporated, President, Troy Division, Data
Card Corporation, and Vice President and General Manager, Minicomputer Division,
Computer Automation, Incorporated. Mr. Watson also held various executive and
director level positions with TRW, Incorporated, Varian Data Machines, and
Computer Usage Company. Mr. Watson holds a BS degree in electrical engineering
from the University of California at Los Angeles. Mr. Watson is also a director
of DPAC Technologies, and SoftwarePROSe, Inc.
Our Board of Directors has an audit committee consisting of three directors, all
of whom are independent as defined by the listing standards of The Nasdaq Stock
Market. The current members of the audit committee are August P. Klein
(committee chairman), Michael Volker and Gordon Watson. Our Board of Directors
has determined that Mr. Klein meets the SEC's definition of an audit committee
financial expert.
Our Board of Directors has adopted a Code of Ethics applicable to all of our
employees, including our chief executive officer, chief financial officer and
controller. This code of ethics has been filed as an exhibit to this annual
report on Form 10-K.
All executive officers serve at the discretion of the Board of Directors.
Compliance With Section 16(a) of the Securities Exchange Act
Section 16(a) of the Securities Exchange Act of 1934 requires our officers and
directors, as well as those persons who own more than 10% of our common stock,
to file reports of ownership and changes in ownership with the SEC. These
persons are required by SEC rule to furnish us with copies of all Section 16(a)
forms they file.
Based solely on our review of the copies of such forms, or written
representations from certain reporting persons that no such forms were required,
we believe that during the year ended December 31, 2003, all filing requirements
applicable to our officers, directors and greater than 10% owners of our common
stock were complied with.
ITEM 11. EXECUTIVE COMPENSATION
Summary Compensation Table. The following table sets forth information for the
fiscal years ended December 31, 2003, 2002 and 2001 concerning compensation we
paid to our Chief Executive Officer and our other executive officers whose total
annual salary and bonus exceeded $100,000 for the year ended December 31, 2003.
Long-term Compensation
-----------------------------------
Annual Compensation Awards Payouts
-------------------------------- ------------------------- ---------
Name and Other Restricted Securities All
Principal Annual Stock Underlying LTIP Other
Position Year Salary Bonus Compensation Awards Options Payouts Compensation
- ------------------------ ------ --------- ------- -------------- ------------ ------------ ---------- --------------
Robert Dilworth 2003 $ 129,000 - - - 40,000 - -
Chairman of the Board 2002 $ 256,000 - - - 100,000 - -
Chief Executive Officer 2001 - - - - 60,000 - -
(Interim) (1)
- ------------------------ ------ --------- ------- -------------- ------------ ------------ ---------- --------------
(1) Mr. Dilworth began as Chief Executive Officer (Interim) during January 2002.
As an interim Chief Executive Officer, Mr. Dilworth is compensated as a
consultant and not an employee, consequently; he is eligible to receive
compensation for his services as a director.
Option Grants in Last Fiscal Year. The following table shows the stock option
grants made to the executive officers named in the Summary Compensation Table
during the 2003 fiscal year:
45
Potential Realizable Value
at Assumed Annual Rates
Number of Shares of Percent of Total of Stock Appreciaiton for
Common Stock Underlying Options Granted to Exercise Expiration Option Term
Name Options Granted Employees in Fiscal Year Price (1) Date 5% 10%
- ---------------- ------------------------- ------------------------- ----------- ------------ --------------------------
Robert Dilworth 40,000 88.9% $ 0.18 05/05/13 $ 93,600 $ 122,400
- ----------------- ------------------------ ------------------------- ----------- ------------ --------------------------
(1) Options were granted at an exercise price equal to the fair market value
of our common stock, as determined by the closing sales price reported on
the Over-the-Counter Bulletin Board on the date of grant.
Fiscal Year-End Option Values. The following table shows information with
respect to unexercised stock options held by the executive officers named in the
Summary Compensation Table as of December 31, 2003. No options held by such
individuals were exercised during 2003.
Number of Securities Underlying Value of Unexercised In-The-Money
Unexercised Options at Fiscal Options at Fiscal
Year-End (1) Year-End (2)
------------------------------- ---------------------------------
Name Exercisable Unexercisable Exercisable Unexercisable
- ----------------- ------------------------------- ---------------------------------
Robert Dilworth 400,000 - $ 8,000 -
- ----------------- ------------------------------- ---------------------------------
(1) Shares issued upon exercise of the options are subject to our repurchase,
which right lapses in 33 equal monthly installments beginning three months
after the date of the grant.
(2) The value of the in-the-money options was calculated as the difference
between the exercise price of the options and $0.20, the fair market value
of our common stock as of December 31, 2003, multiplied by the number of
in-the-money options outstanding.
Compensation of Directors. During the year ended December 31, 2003, directors
who were not otherwise our employees were compensated at the rate of $1,000 for
attendance at each meeting of our board, $500 for attendance at each meeting of
a board committee, and a $1,500 quarterly retainer. Additionally, outside
directors are granted stock options periodically, typically on a yearly basis.
In the aggregate, our outside directors received options to purchase 120,000
shares of our common stock during 2003 at an average exercise price of $0.18 per
share.
Compensation Committee Interlocks and Insider Participation. During the year
ended December 31, 2003, the Compensation Committee was comprised of Robert
Dilworth, our Interim Chief Executive Officer and Chairman of the Board, and
August Klein, a non-employee director.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information, as of March 18, 2004, with
respect to the beneficial ownership of shares of our common stock held by:
o each director;
o each person known by us to beneficially own 5% or more of our
common stock;
o each executive officer named in the summary compensation table; and
o all directors and executive officers as a group:
Unless otherwise indicated, the address for each stockholder is c/o GraphOn
Corporation, 105 Cochrane Circle, Morgan Hill, California 95023.
46
- ------------------------------------ ------------------------------------ --------------------
Number of Shares of Common Stock
Name and Address Beneficial Owner Beneficially Owned (1) Percent of Class
- ------------------------------------ ------------------------------------ --------------------
Orin Hirschman 4,565,217 (2) 19.7%
6006 Berkeley Avenue
Baltimore, MD 21209
- ------------------------------------ ------------------------------------ --------------------
Corel Corporation 1,193,824 (3) 5.5%
1600 Carling Avenue
Ottawa, Ontario
K1Z 8R7, Canada
- ------------------------------------ ------------------------------------ --------------------
Robert Dilworth 453,820 (4) 2.1%
- ------------------------------------ ------------------------------------ --------------------
August P. Klein 223,260 (5) 1.0%
- ------------------------------------ ------------------------------------ --------------------
Michael Volker 140,700 (6) *
- ------------------------------------ ------------------------------------ --------------------
Gordon Watson 80,000 (7) *
- ------------------------------------ ------------------------------------ --------------------
William Swain 435,000 (8) 2.0%
- ------------------------------------ ------------------------------------ --------------------
All current executive officers and 1,340,780 (9) 5.9%
Directors as a group (5 persons)
- ------------------------------------ ------------------------------------ --------------------
* Denotes less than 1%.
(1) As used in this table, beneficial ownership means the sole or shared power
to vote, or direct the voting of, a security, or the sole or shared power
to invest or dispose, or direct the investment or disposition, of a
security. Except as otherwise indicated, all persons named herein have
sole voting power and investment power with respect to their respective
shares of our common stock, except to the extent that authority is shared
by spouses under applicable law, and record and beneficial ownership with
respect to their respective shares of our common stock. With respect to
each stockholder, any shares issuable upon exercise within 60 days of all
options held by such stockholder as of March 18, 2004 are deemed
outstanding for computing the percentage of the person holding such
options, but are not deemed outstanding for computing the percentage of
any other person. Percentage ownership of our common stock is based on
21,638,097 shares of our common stock outstanding as of March 18, 2004.
(2) Based on information contained in a Schedule 13D filed by Orin Hirschman
on February 10, 2004. Includes 1,521,739 shares of common stock issuable
upon the exercise of outstanding options.
(3) Based on information contained in a Schedule 13D filed by Corel
Corporation on June 26, 2000.
(4) Includes 400,000 shares of common stock issuable upon the exercise of
outstanding options.
(5) Includes 72,500 shares of common stock issuable upon the exercise of
outstanding options.
(6) Includes 50,000 shares of common stock issuable upon the exercise of
outstanding options.
(7) Includes 80,000 shares of common stock issuable upon the exercise of
outstanding options.
(8) Includes 420,000 shares of common stock issuable upon the exercise of
outstanding options.
(9) Includes 1,022,500 shares of common stock issuable upon the exercise of
outstanding options.
Equity Compensation Plan Information. The following table sets forth information
related to all of our equity compensation plans as of December 31, 2003:
47
Number of Securities to be
Issued Upon Exercise of Weighted Average Exercise Number of Securities
Outstanding Options, Price of Outstanding Remaining Available for
Plan Category Warrants and Rights Options, Warrants and Rights Future Issuance
- ------------------------------- --------------------------- ------------------------------ -------------------------
Equity compensation plans
approved by security holders:
Stock option plans 2,094,983 $ 2.47 2,015,876
Employee stock purchase plan (1) (1) (1)
- ------------------------------- --------------------------- ------------------------------ -------------------------
Equity compensation plans not
approved by security holders:
Stock option plan (2) 9,500 $ 1.32 390,500
- ------------------------------- --------------------------- ------------------------------ -------------------------
Total 2,104,483 $ 2.47 2,406,376
- ------------------------------- --------------------------- ------------------------------ -------------------------
(1) Under terms of the employee stock purchase plan ( ESPP), employees who
participate in the plan are eligible to purchase shares of common stock.
As of December 31, 2003, 128,418 shares had been purchased through the
ESPP, at an average cost of $1.28 per share and 71,582 shares are
available for future purchase.
(2) On April 30, 2000 our board approved a supplemental stock option plan.
Participation in the supplemental plan is limited to those employees who
are, at the time of the option grant, neither officers nor directors. The
supplemental plan was initially authorized to issue options for up to
400,000 shares of common stock. The exercise price per share is subject to
the following provisions:
o The exercise price per share shall not be less than 85% of the fair
market value per share of common stock on the option grant date.
o If the person to whom the option is granted is a 10% shareholder,
then the exercise price per share shall not be less than 110% of the
fair market value per share of common stock on the option grant date.
All options granted are immediately exercisable by the optionee. The
options vest, ratably, over a 33-month period, however no options vest
until after three months from the date of the option grant. The exercise
price is immediately due upon exercise of the option. The supplemental
plan shall terminate no later than April 30, 2010.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On January 29, 2004, we completed a private placement of our common stock and
common stock purchase warrants in which Mr. Orin Hirschman purchased 3,043,478
shares of our common stock and warrants to purchase 1,521,739 shares of our
common stock (representing in the aggregate 19.7% of our outstanding shares of
common stock as of March 18, 2004). As a condition of the sale, we entered into
an Investment Advisory Agreement with Mr. Hirschman, pursuant to which we agreed
that in the event we complete a transaction with a third party introduced by Mr.
Hirschman, we shall pay to Mr. Hirschman 5% of the value of that transaction.
The agreement expires on January 29, 2007.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Fees for professional services provided by our independent auditors in each of
the last two fiscal years, in each of the following categories are as follows:
Category 2003 2002
-------- ------------- -------------
Audit fees $ 105,000 $ 103,000
Audit - related fees - 4,700
Tax fees 25,500 12,800
Other fees - -
------------- -------------
Totals $ 130,500 $ 120,500
============= =============
48
Fees for audit services include fees associated with our annual audit, the
annual statutory audit of our UK subsidiary, the reviews of our quarterly
reports on Form 10-Q, and assistance with and review of documents filed with the
Securities and Exchange Commission. Audit-related fees were incurred for
consultations regarding revenue recognition rules and interpretations as they
related to the financial reporting of certain transactions. Tax fees included
tax compliance and tax consultations.
The audit committee has adopted a policy that requires advance approval of all
audit, audit-related, tax services and other services performed by our
independent auditor. The policy provides for pre-approval by the audit committee
of specifically defined audit and non-audit services. Unless the specific
service has been previously pre-approved with respect to that year, the audit
committee must approve the permitted service before the independent auditor is
engaged to perform it.
49
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
(1) Financial statements filed as part of this report are listed on the
"Index to Consolidated Financial Statements" at page 22 herein.
(2) Financial Statement Schedules. The applicable financial statement
schedules required under Regulation S-X have been included
beginning on page 23 of this report, as follows:
i. Report of Independent Certified Public Accountants on Financial
Statement Schedule: page 23
ii. Schedule II - Valuation and Qualifying Accounts: page 42
(b) Reports on Form 8-K: The Company filed no reports with the Securities and
Exchange Commission on Form 8-K during the fourth quarter of the year ended
December 31, 2003.
(c) Exhibits.
Exhibit
Number Description of Exhibit
- ------- ----------------------
2.1 Agreement and Plan of Merger and Reorganization dated as of
February 1, 1999, between registrant and GraphOn Corporation, a
California corporation (1)
3.1 Amended and Restated Certificate of Incorporation of Registrant (1)
3.2 Amended and Restated Bylaws of Registrant (1)
4.1 Form of certificate evidencing shares of common stock of
Registrant (2)
4.2 Form of Warrant issued by Registrant on January 29, 2004
4.3 Investors Rights Agreement, dated January 29, 2004, by and among
Registrant and the investors named therein
10.1 1996 Stock Option Plan of Registrant (2)
10.2 1998 Stock Option/Stock Issuance Plan of Registrant (1)
10.3 Supplemental Stock Option Agreement, dated as of June 23, 2000 (3)
10.4 Employee Stock Purchase Plan of Registrant (3)
10.5 Lease Agreement between Registrant and Central United Life Insurance,
dated as of October 24, 2003
10.6 Financial Advisory Agreement, dated January 29, 2004, by and between
Registrant and Orin Hirschman
14.1 Code of Ethics
23.1 Consent of BDO Seidman, LLP
31.1 Rule 13a-14(a)/15d-14(a) Certifications
32.1 Section 1350 Certifications
(1) Incorporated by reference from Registrant's Form S-4, file number
333-76333.
(2) Incorporated by reference from Registrant's Form S-1, file number
333-11165.
(3) Incorporated by reference from Registrant's Form S-8, file number
333-40174.
50
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
GRAPHON CORPORATION
Date: March 30, 2004 By: /s/ William Swain
-----------------
William Swain
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Name Title
/s/ Robert Dilworth Chairman of the Board and
- ------------------- Interim Chief Executive Officer
Robert Dilworth (Principal Executive Officer)
March 30, 2004
/s/ William Swain Chief Financial Officer and Secretary
- ----------------- (Principal Financial Officer and
William Swain Principal Accounting Officer)
March 30, 2004
/s/ August P. Klein Director
- -------------------
August P. Klein
March 30, 2004
/s/ Michael Volker Director
- ------------------
Michael Volker
March 30, 2004
/s/ Gordon Watson Director
- -----------------
Gordon Watson
March 30, 2004