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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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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, 1997 COMMISSION FILE NO. 0-19301
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COMMUNICATION INTELLIGENCE CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 94-2790442
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
275 SHORELINE DRIVE, SUITE 500 (650) 802-7888
REDWOOD SHORES, CALIFORNIA (Registrant's telephone 94065
(Address of principal executive number, including area (Zip Code)
offices) code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.01 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 into Part III of this Form 10-K or any amendment to
this Form 10-K. / /
The aggregate market value of the voting stock (Common Stock) held by
non-affiliates of the registrant as of March 23, 1998 was approximately
$39,984,065, based on the closing sale price of $1.1563 on such date, as
reported by the Nasdaq SmallCap Market-Registered Trademark-.
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes_X_ No___
The number of shares of Common Stock outstanding as of March 23, 1998 was
48,600,552.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive proxy statement to be delivered to
stockholders in connection with its Annual Meeting of Stockholders, expected to
be held on June 1, 1998, are incorporated by reference into Part III of this
Annual Report on Form 10-K.
A list of Exhibits to this Annual Report on Form 10-K begins on page 42.
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COMMUNICATION INTELLIGENCE CORPORATION*
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1997
TABLE OF CONTENTS
PAGE
-----
PART I..................................................................................................... 1
Item 1. Business........................................................................................... 1
Item 2. Properties......................................................................................... 7
Item 3. Legal Proceedings.................................................................................. 7
Item 4. Submission of Matters to a Vote of Security Holders................................................ 7
PART II.................................................................................................... 8
Item 5. Market For Registrant's Common Equity and Related Stockholder Matters.............................. 8
Item 6. Selected Financial Data............................................................................ 10
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................................................................ 11
Item 8. Financial Statements and Supplementary Data........................................................ 19
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure................................................................................. 41
PART III................................................................................................... 41
Item 10. Directors and Executive Officers of the Registrant................................................ 41
Item 11. Executive Compensation............................................................................ 41
Item 12. Security Ownership of Certain Beneficial Owners and Management.................................... 41
Item 13. Certain Relationships and Related Transactions.................................................... 41
PART IV.................................................................................................... 42
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.................................. 42
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* CIC-Registered Trademark- and its logo, Handwriter-Registered Trademark-,
MacHandwriter-Registered Trademark-, PenDOS-Registered Trademark-,
PenMAC-Registered Trademark-, INKshrINK-Registered Trademark-, Creativity
Tools-Registered Trademark- and YPad-Registered Trademark- are registered
trademarks of the Company. JOT-TM-, QuickNotes-TM-, Quick Notes-TM- Pro,
HRS-TM-, PenX-TM-, SigCheck-TM-, InkSentry-TM-, INKTOOLS-TM-, SIGVIEW-TM-
and Manta-TM- are trademarks of the Company. Applications for registration
for various trademarks are pending in the United States, France, Germany,
Italy, Japan, Spain and the United Kingdom. All other trademarks or brand
names appearing in this Annual Report on Form 10-K are the property of their
respective holders.
i
PART I
ITEM 1. BUSINESS
GENERAL
Communication Intelligence Corporation (the "Company" or "CIC") develops,
markets and licenses pen-input and biometric security software and technologies
for the computer, consumer electronics and communication markets. The Company's
products include multi-lingual character recognition software (JOT-TM- and
Handwriter-Registered Trademark- Recognition System), signature verification
software and biometric security development tools (SigCheck-TM- and
InkTools-TM-), and electronic ink compression and electronic note-taking
software (INKshrINK-Registered Trademark- and QuickNotes-TM-). CIC's products
are designed to increase the ease of use, functionality and security of a
variety of electronic devices from desktop PCs to smart cellular phones.
CIC is a technology leader in the growing market for pen-input and biometric
security software products. The Company is a leading supplier of pen computing
technologies, and currently has license agreements with more than twenty
hardware and software companies including Casio, Compaq, Fujitsu, Microsoft,
Mitsubishi, NEC, Nortel, (Northern Telecom), Symbol Technologies and Toshiba. In
addition, CIC has software distribution agreements with Annasoft Systems,
Hewlett Packard, Mobile Planet and MobileSoft.
In the fourth quarter of 1997, CIC hired Mr. Guido DiGregorio as its new
President and COO. Mr. DiGregorio has refocused the Company's business from a
combined hardware-software approach to a strategy based primarily on software
sales. The Company expects this change in strategy to allow for a significant
reduction in projected operating expenses for 1998 compared to 1997. The Company
has introduced cost-cutting measures which are designed to reduce expenses
without negatively impacting sales growth potential. This new strategy is
expected to accelerate the growth and development of net revenues.
The Company's new business strategy is two-pronged: (1) accelerate license
revenue growth of its pen-input software through its handheld PC, smart phone
and PC peripheral licensees, and (2) develop enterprise solution sales by
establishing relationships with systems integrators, value added resellers and
independent software vendors to increase the markets for CIC's biometric
security software in regulatory and security sensitive industries. The Company's
core philosophy is to leverage the capital, sales forces and existing markets of
its larger partners to establish and expand the market for CIC's products and
technology.
The Company owns 90% of a joint venture in the People's Republic of China
(the "Joint Venture"). The Joint Venture was formed to take advantage of the
large potential market for pen-input software, particularly Chinese character
recognition software, in China. The Chinese written language is comprised of
more than 10,000 written characters, making it extremely difficult and
inefficient to perform computer input with a keyboard. With CIC's Chinese
character recognition software, Chinese characters can be entered into a
computer with an electronic pen, naturally and easily. The Joint Venture
currently provides systems integration services to Chinese businesses,
government users and other joint ventures in the People's Republic of China and
is seeking strategic industry partners to market and distribute CIC's Chinese
language pen-input products.
HISTORY
The Company was initially incorporated in Delaware in October 1986 as a
wholly-owned subsidiary of a predecessor corporation (with the same name). The
Company has one wholly-owned operating subsidiary, CIC Japan, Inc. ("CIC
Japan"), incorporated in Japan in February 1984, and a 90%-owned joint venture,
Communication Intelligence Computer Corporation, Ltd., with the Ministry of
Electronic Industries of the Jiangsu Province, a provincial agency of the
People's Republic of China. The Joint Venture was formed in China in September
1993. In December 1997, the Company closed its sales office in Japan but will
continue software licensing and technical support activities in Japan from the
United States.
1
In each year since its inception, the Company has incurred losses. In July
1994, the Company filed a voluntary petition for reorganization and protection
under Chapter 11 of the United States Bankruptcy Code in the United States
Bankruptcy Court for the District of San Francisco primarily to restructure the
Company and its debt. On November 14, 1994, the Company's pre-petition creditors
approved, and the United States Bankruptcy Court confirmed, the Company's Plan
of Reorganization (the "Plan"), and the Company emerged from bankruptcy. The
Plan provided for the payment in full, in cash, of all allowed unsecured claims
of creditors while leaving secured creditors unimpaired by providing for their
payment in compliance with the original terms and conditions of their loans.
Creditors were paid in three approximately equal installments in February 1995,
1996, and 1997, respectively. In addition, under the Plan each holder of the
Company's then outstanding shares of common stock or convertible preferred stock
received one unit, which consisted of two shares of Common Stock and one Common
Stock purchase warrant, with an exercise price of $0.50 per share, in exchange
for each two shares of convertible preferred or common stock. All unexercised
warrants issued pursuant to the Plan expired in December 1994. Since July 1994,
the Company has consummated a number of debt and equity financings. For further
information concerning these transactions, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations-Liquidity and Capital
Resources."
CORE TECHNOLOGIES
The Company offers a wide range of software products for pen-based
computing, based on the Company's core handwriting recognition and related
technologies. The Company's core technologies are classified into two broad
categories: "Natural Input Technologies" and "Transaction and Communication
Enabling Technologies."
NATURAL INPUT TECHNOLOGIES. CIC's natural input technologies are designed
to allow users to interact with a computer or handheld device by using an
electronic pen as the sole input device or in conjunction with a keyboard. The
pen eliminates the need for a mouse as a navigational device. The Company
believes that pen-input enhances productivity and creativity because it is a
more natural means of input, facilitates editing and screen navigation, and
reduces the risk of repetitive stress illness.
TRANSACTION AND COMMUNICATION ENABLING TECHNOLOGIES. The Company's
transaction and communication enabling technologies are designed to provide a
cost-effective means for protecting electronic transactions, electronic files
and private communications. CIC believes that these technologies offer more
efficient methods to conduct transactions and provide more functional user
authentication and heightened data security. The Company's transaction and
communication enabling technologies have been fundamental in its development of
software for signature verification, data security, data compression and pen-
operating environments.
PRODUCTS
CIC's key products include the following:
- Handwriter-Registered Trademark- and JOT-TM- (character recognition
software)
- SigCheck-TM- (dynamic signature verification software)
- INKshrINK-Registered Trademark- (electronic ink data compression software)
- INKTOOLS-TM- (application development tools)
- QuickNotes-TM- (electronic note-taking software)
- PenX-TM- (pen-input operating environment for Windows-Registered
Trademark- '95 and NT)
- CIC Speller (provides universal spell checking in all Windows-Registered
Trademark- CE 2.0 applications)
2
Character recognition software analyzes the movement of an electronic pen
and converts these movements into the "ASCII" character text input by a
keyboard, allowing the pen to replace the keyboard for many computer uses. This
software is especially useful for portable electronic devices which are too
small to employ a keyboard, for people who have repetitive stress illness, and
for the input of ideographic script characters such as those used in written
Chinese and Japanese.
Dynamic signature verification software analyzes the image, speed, angle and
acceleration of a person's electronic signature. This analysis is a simple,
inexpensive, but extremely effective biometric security check. The numerous
possible commercial applications for this type of software include use as a
security device for electronic commercial transactions, electronic forms and
computer file and network security.
Electronic ink is used to fill out electronic forms, mark-up electronic
documents without printing a hard copy, and make electronic sketches and
drawings. However, electronic ink is a data type that is made up of pixels, not
text characters, and, unless compressed, takes up large amounts of computer
memory. Electronic ink compression software compresses and decompresses
electronic ink quickly and efficiently. This facilitates the storage and
transmission of electronic ink in a compressed state, which reduces transmission
time and the amount of computer memory necessary for storage, thus decreasing
the cost of use. Decompression is almost instantaneous, allowing for accurate
visual presentation on computer display screens without annoying delays.
The Company's products are marketed as either OEM licensed products or
enterprise solution products.
OEM LICENSED PRODUCTS. CIC currently licenses software products for
Windows-Registered Trademark- 3.x, Windows-Registered Trademark- '95 and
Windows-Registered Trademark- NT operating systems, as well as for the new
Windows-Registered Trademark- CE operating system for handheld PCs and palm PCs.
The Company's Handwriter-Registered Trademark- Recognition System (HRS-TM-) is
licensed for portable PCs utilizing the Windows-Registered Trademark- 3.x and
Windows-Registered Trademark- '95 operating systems, and is primarily used for
field force automation and in pen-input PC peripherals for desktop use. JOT-TM-,
QuickNotes-TM- and CIC Speller are licensed primarily for the new, smaller
classes of handheld PCs and palm PCs such as those that utilize the
Windows-Registered Trademark- CE operating system and handheld communicators
such as smart phones.
JOT-TM- 2.0 has been updated for Windows-Registered Trademark- CE 2.0. Other
features in this new release include an on-screen keyboard, boxed mode
recognition capability and an animated tutorial. CIC has also developed a scaled
down version of JOT-TM- which is bundled in Microsoft's CE operating system for
palm PCs.
QuickNotes-TM-, CIC's note-taking application for
Windows-Registered Trademark- CE, was also updated for
Windows-Registered Trademark- CE 2.0 and is currently available. QuickNotes-TM-
Pro now allows the user to print, fax and e-mail directly from QuickNotes-TM-,
and also includes the desktop companion, a full-featured note-taker for the
desktop PC.
In December 1997, the Company announced its first OEM license agreement for
JOT-TM- and INKshrINK-Registered Trademark- to be used in a new wireless
communication device that could be categorized as a "smart phone," a product
that combines the voice communication capability of a digital cellular telephone
with the data capabilities of a handheld PC.
ENTERPRISE SOLUTION PRODUCTS. CIC offers several products targeted for the
markets in the regulatory and security sensitive industries which require
workflow automation solutions, such as electronic form filing and network
communication. For these markets, CIC offers several products including
INKTOOLS-TM-, a high performance Windows-Registered Trademark- ('95 and NT)
software developer's kit for implementing systems using electronic ink and
handwritten signatures. INKTOOLS-TM- provides electronic ink capture and
display, signature verification and electronic ink compression. INKTOOLS-TM- 2.0
is a new release which incorporates ActiveX technology and enhanced Visual Basic
support for CIC's primary developer's tool kit, allowing signature capture and
verification within computer applications.
3
In 1997, CIC also developed PenX-TM-, a program for Microsoft's new Pen
Extensions-TM- operating environment for pen input. PenX-TM- fulfills the need
for 32 bit pen services for Microsoft Windows-Registered Trademark- '95 and NT.
Utilizing PenX-TM-, software developers can now build true 32 bit pen-input
applications.
The Company's products are marketed through various sales channels as well
as offered on the Internet via CIC's website at www.cic.com.
COPYRIGHTS, PATENTS AND TRADEMARKS
The Company relies on a combination of patents, copyrights, trademarks,
trade secrets and contractual provisions to protect its proprietary rights in
its products and technologies. There can be no assurance, however, that these
protections will be adequate or that the Company's competitors will not
independently develop technologies that are substantially equivalent or superior
to the Company's technologies. In addition, the laws of certain countries in
which the Company's products are licensed may not protect the Company's products
and intellectual property rights to the same extent as the laws of the United
States. Because of the rapid evolution of technology and uncertainties in
intellectual property law in the United States and internationally, there can be
no assurance that the Company's current or future products or technologies will
not be subject to infringement by others. The Company's licensees and
distributors have access to proprietary information of the Company, and there
can be no assurance that the measures taken by the Company to protect its
technologies, products and other proprietary rights will adequately protect it
against improper use. A substantial portion of the Company's technology and
know-how are trade secrets and are not protected by patent, trademark or
copyright laws. The Company has a policy of requiring its employees and
contractors to respect proprietary information through written agreements. The
Company also has a policy of requiring prospective business partners to enter
into non-disclosure agreements before any of the Company's proprietary
information is revealed to them.
The original character recognition technology processes employed in the
Company's products were developed and patented by SRI International ("SRI"), and
SRI assigned those patents to CIC (the "SRI Patents"). The SRI Patents have
expired. Other major elements of the Company's products and technologies were
developed by CIC, and are patented in the United States and overseas. The
Company does not believe that the expiration of the SRI Patents has had or will
have a significant impact on its operations since CIC has made significant
improvements to the original technology, and additional patents relating to such
technological improvements have been applied for or issued. Certain of the
Company's existing patents covering these improvements expire between 1998 and
2005. The Company is unable to predict at this time the impact to its business,
if any, from such expiration
CIC-Registered Trademark- and its logo, Handwriter-Registered Trademark-,
MacHandwriter-Registered Trademark-, PenDOS-Registered Trademark-,
PenMAC-Registered Trademark-, INKshrINK-Registered Trademark-, Creativity
Tool-Registered Trademark- and Y-Pad-Registered Trademark- are registered
trademarks of the Company. JOT-TM-, QuickNotes-TM-, QuickNotes-TM- Pro, HRS-TM-,
PenX-TM-, SigCheck-TM-, InkSentry-TM-, INKTOOLS-TM-, SIGVIEW-TM- and Manta-TM-
are trademarks of the Company. Applications for registration of various
trademarks are pending in the United States, France, Germany, Italy, Japan,
Spain and the United Kingdom. The Company intends to register its trademarks
generally in those jurisdictions where its products are or will be marketed in
the foreseeable future.
The Company may be required to take various forms of legal action from time
to time to protect its proprietary rights. Any litigation regarding claims
against the Company or claims made by the Company against others could result in
significant expense to the Company, divert the efforts of its technical and
management personnel and have a material adverse effect on the Company , whether
or not such litigation is ultimately resolved in favor of the Company. In the
event of an adverse result in any such litigation, the Company may be required
to expend significant resources to develop non-infringing technology or obtain
licenses from third parties. There can be no assurance that the Company would be
successful in such development or that any such licenses would be available on
commercially reasonable terms, if at all.
4
SEASONALITY OF BUSINESS
The Company has not experienced seasonal trends affecting sales of its
products or the development or licensing of its technologies.
MATERIAL CUSTOMERS
The Company operates in a single industry segment and historically its
revenues have been derived from a limited number of customers or other sources.
Three customers accounted for approximately 27%, 16%, and 15% of the Company's
revenues in 1997. Two customers accounted for approximately 11% and 10% of the
Company's revenues in 1996. One customer accounted for approximately 25% of the
Company's revenues in 1995. The loss of any significant customer or other source
of revenue could have a material adverse effect on the Company.
BACKLOG
Backlog for the Company's products is subject to rescheduling and
cancellation. As a result, the Company does not consider backlog to be a
reliable indicator of future sales. The Company had no significant backlog at
December 31, 1997, backlog of $195,000 at December 31, 1996, and no backlog at
December 31, 1995. Backlog consists of orders placed for the Company's products
by third-parties that have not been shipped as of December 31 due to third-party
shipping and delivery requirements. All backlog as of December 31, 1997 has been
shipped as of March 25, 1998.
COMPETITION
The personal computer and electronic handheld device markets are intensely
competitive and have attracted a number of major companies already established
in the personal computer and software industries. Certain competitors of the
Company have substantially greater financial and other resources than that of
the Company. The Company faces competition at a number of different levels.
Certain competitors have developed or are developing complete pen-based hardware
and software systems, while others have focused on different elements of such
systems, such as character recognition technology, pen-based operating systems
and environments, and pen-based applications. For example, IBM Corporation and
3COM Corporation currently offer pen-based portable computers incorporating
handwriting recognition technology at various levels of sophistication, and
Microsoft Corporation offers a handwriting recognition system and a pen-based
operating environment. There can be no assurance that competitors will not
succeed in developing products or technologies that are more effective, easier
to use or less expensive than the Company's products or technologies or that
would render the Company's products or technologies obsolete or non-competitive.
Competitors of the Company include certain of the Company's current and
potential strategic partners and customers who are developing or acquiring
alternative products and technologies to those offered by the Company. There can
be no assurance that companies with which the Company has established or will
establish distribution, license, product development or other strategic
relationships will not choose to market competitive technologies or products
developed internally or acquired from third parties. The Company's strategic
partners also have had access to proprietary information of the Company, and
there can be no assurance that the Company's confidentiality agreements with its
strategic partners will adequately protect it against the improper use of such
proprietary information.
JOINT VENTURE IN THE PEOPLE'S REPUBLIC OF CHINA
The Company currently owns 90% of a joint venture (the "Joint Venture") with
The Ministry of Electronic Industries of the Jiangsu Province, a provincial
agency of the People's Republic Of China (the "Agency"). The Joint Venture
currently provides system integration services to Chinese businesses, government
users and other joint ventures in the People's Republic of China and is seeking
strategic
5
industry partners to market and distribute CIC's Chinese language pen-input
products. Under the provisions of the Joint Venture agreement, the Company may
be required to contribute up to an aggregate of $5.4 million in cash to the
Joint Venture and is required to provide it with nonexclusive licenses to
technologies and certain distribution rights. The Agency is required to
contribute certain land use rights and provide other services to the Joint
Venture. As of December 31, 1997, the Company had contributed an aggregate of
$1.8 million in cash to the Joint Venture and provided it with nonexclusive
licenses to technologies and certain distribution rights and the Agency had
contributed certain land use rights. For further information, see "Management's
Discussion and Analysis of Financial Condition and Results of Operations--Joint
Venture in the People's Republic of China."
EMPLOYEES
As of March 25, 1998, the Company and its Joint Venture employed 88
full-time employees, 35 of which are in the United States and 53 of which are in
China, and 1 part-time employee in the United States. From time to time, the
Company also engages additional personnel on an as needed basis. The Company
believes it has good relations with its employees.
FOREIGN OPERATIONS
For the years ended December 31, 1997, 1996 and 1995, the Company's export
sales as a percentage of total revenues were approximately 40%, 7% and 6%,
respectively. The increase in export sales in 1997 is due to the recognition of
deferred royalty revenue from foreign customers for which the Company has no
further obligation to provide additional software or services. In conjunction
with the Company's current business strategy, all licensing activities for the
Company's software technologies will be conducted from the United States.
Accordingly, in December 1997, the Company closed its sales office in Japan. The
Company is subject to various risks in connection with its joint venture in the
People's Republic of China, including failure to receive annual license renewal,
inability to enforce the joint venture agreement, and various risks commonly
associated with doing business abroad. For further information see "Management's
Discussion and Analysis of Financial Condition and Results of Operations--Joint
Venture in the People's Republic of China."For further information, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Joint Venture in the People's Republic of China." For further
information, regarding the Company's foreign operations, see Notes to the
Company's audited consolidated financial statements provided in Part II, Item 8
of this Annual Report on Form 10-K.
YEAR 2000
Year 2000 issues arise because most computer systems and programs were
designed to handle only a two-digit year, not a four-digit year. Thus, the year
2000 could be interpreted as the year 1900 by such computer systems and
programs, resulting in the incorrect processing of data. The Company believes
that any such issues which may arise will not have a material adverse effect on
the Company's operations or capital resources. However, there can be no
assurance that the Company will not be materially adversely affected by Year
2000 issues.
FORWARD LOOKING STATEMENTS
Certain statements contained in this Annual Report on Form 10-K, including
without limitation, statements containing the words "believes", "anticipates",
"may", "intends", "expects" and words of similar import, constitute
"forward-looking" statements within the meaning of the Private Litigation Reform
Act of 1995. Such statements involve known and unknown risks, uncertainties and
other factors which may cause actual Company results to differ materially from
expectations. Such factors include the following: (1) technological,
engineering, manufacturing, quality control or other circumstances which could
delay the sale or shipment of the Company's products; (2) economic, business and
competitive conditions in the software industry and technological innovations
which could affect the Company's
6
business; and (3) the Company's ability to protect its trade secrets or other
proprietary rights, operate without infringing upon the proprietary rights of
others and prevent others from infringing on the proprietary rights of the
Company. Certain of these factors are discussed in more detail elsewhere in this
Annual Report on Form 10-K.
ITEM 2. PROPERTIES
The Company currently leases its principal facilities (the "Principal
Offices"), consisting of approximately 11,717 square feet, in Redwood Shores,
California, pursuant to a sub-lease that expires in 2001. In addition, the
Company sub-leases to third parties approximately 6,000 square feet of space
near the Principal Offices and is attempting to sub-let an additional 2,200
square feet. The Company originally leased the additional space in 1997 in order
to accommodate additional personnel hired by the Company in the last three
months of 1996 in connection with its increased marketing activities. Due to the
Company's current business strategy and other cost reduction programs, the
additional space is not required at this time. The Joint Venture leases
approximately 1,000 square feet in Nanjing, China. The Company anticipates that
its existing leases will be renegotiated as they expire or that alternative
properties can be leased on acceptable terms. The Company also believes that its
current facilities will be suitable for it to continue operations in the
forseeable future.
ITEM 3. LEGAL PROCEEDINGS
As of March 25, 1998, the Company was not a party to any legal proceeding
which, if adversely determined, would have a material adverse effect on its
business. In July 1994, the Company filed a petition for bankruptcy under
Chapter 11 of the United States Bankruptcy Code in order to restructure the
Company and its debt. In November 1994, the Plan was approved and confirmed and
the Company emerged from bankruptcy. See "Item 1. Business-History."
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
In connection with the November 1997 private placement of the Company's
Series B 5% Cumulative Convertible Preferred Stock (the "Series B Preferred
Stock"), the Company solicited the consent of the holders of its first series of
5% Cumulative Convertible Preferred Stock (the "Series A Preferred Stock") to
consent to amendments to the Certificate of Designations for the Series A
Preferred Stock (the "Designation") which would make the Series A Preferred
Stock PARI PASSU with the Series B Preferred Stock with respect to dividend and
liquidation rights.
On November 24, 1997, the Company solicited and received the written consent
to the aforementioned action of the holders of 276,070 shares of Series A
Preferred Stock, which constituted more than 75% of the then outstanding shares
of the Company's Series A Preferred Stock, as required by the Designation for
any amendment thereto. On November 25, 1997, the Company solicited holders of
the remaining 64,200 outstanding shares of Series A Preferred Stock, and on
December 3, 1997, received the consent of such holders to the aforementioned
action. Thus, as of December 3, 1997, the Company had received the written
consent of the holders of 340,270 shares of Series A Preferred Stock then
outstanding, constituting all of the then outstanding shares of Series A
Preferred Stock.
7
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is currently listed on the Nasdaq SmallCap Market
under the trading symbol "CICI." In September 1991, the Company's Common Stock
was first listed on the Nasdaq SmallCap Market, and in June 1993 it was listed
on the Nasdaq National Market. In July 1994 (during the Company's Chapter 11
reorganization proceedings), the Company's Common Stock was delisted for failure
to meet Nasdaq's continued listing requirements. From July 1994 to July 1996,
quotations concerning the Common Stock were reported on the OTC Bulletin Board.
In July 1996, the Company's Common Stock was relisted on The Nasdaq SmallCap
Market. The following table sets forth the high and low sale prices of the
Common Stock or the average bid and ask prices, as the case may be, for the
periods noted.
PRICE
PER SHARE
--------------------
YEAR PERIOD HIGH LOW
- --------- ------------------------------------------------------------------ --------- ---------
1996 First Quarter..................................................... $ 4.00 $ 2.62
Second Quarter.................................................... $ 6.81 $ 4.18
Third Quarter..................................................... $ 4.87 $ 2.81
Fourth Quarter.................................................... $ 3.00 $ 2.18
1997 First Quarter..................................................... $ 3.88 $ 1.81
Second Quarter.................................................... $ 2.53 $ 1.75
Third Quarter..................................................... $ 2.13 $ 1.13
Fourth Quarter.................................................... $ 2.75 $ 1.06
1998 First Quarter (through March 23, 1998)............................ $ 1.75 $ 1.09
As of March 25, 1998, the closing sale price of the Common Stock on the
Nasdaq SmallCap Market was $1.16 per share and there were approximately 650
registered holders of the Common Stock.
To date, the Company has not paid any dividends on its Common Stock and does
not anticipate paying dividends in the foreseeable future. The declaration and
payment of dividends on the Common Stock is at the discretion of the Board of
Directors and will depend on, among other things, the Company's operating
results, financial condition, capital requirements, contractual restrictions or
prohibitions with respect to the payment of dividends (such as those related to
the Series A and Series B Preferred Stock) and such other factors as the Board
of Directors may deem relevant. At March 25, 1998, the Company had 298,000
shares of Series A Preferred Stock and 240,000 shares of Series B Preferred
Stock issued and outstanding. Each holder of outstanding shares of the Series A
Preferred Stock and Series B Preferred Stock is entitled to receive, out of
funds legally available therefor, cumulative dividends on each share at the rate
of $1.25 per share per annum, compounded semi-annually and quarterly,
respectively, when payable (whether or not declared). Dividends with respect to
the Series A and Series B Preferred Stock may be paid in cash or additional
shares of Series A or Series B Preferred Stock, respectively (with each
additional share valued at $25.00 per share), at the Company's option. Dividends
must be paid with respect to the Series A Preferred Stock and Series B Preferred
Stock prior to any dividends being paid with respect to any other class of stock
ranking junior thereto. Finally, if any cash dividend is declared and paid in
cash to the holders of the Series B Preferred Stock, then the Company must give
notice to the holders of the Series A Preferred Stock of such fact, and the
holders of the Series A Preferred Stock will have the right to elect to receive
their next dividend payment in cash. No dividends on the Company's Common Stock
were declared by the Board in the two years ended December 31, 1997.
8
RECENT SALES OF UNREGISTERED SECURITIES
Effective as of November 26, 1997, the Company consummated a private
placement of 240,000 shares of Series B 5% Cumulative Convertible Preferred
Stock at a purchase price of $25.00 per share, and received in consideration
therefor $6,000,000 in gross cash proceeds. The Series B Preferred Stock was
sold to a group of 36 "accredited investors." The private placement was exempt
from registration under Section 4(2) of the Securities Act of 1933, and the
provisions of Regulation D promulgated thereunder.
Each share of Series B Preferred Stock is convertible by the holder into
shares of the Company's Common Stock at any time prior to the Forced Conversion
Date (as defined below) pursuant to a conversion formula determined by dividing
(i) the sum of $25.00 multiplied by the number of shares being converted, plus
accrued and unpaid dividends thereon and any default payments with respect
thereto, by (ii) a conversion price which is equal to the lower of $1.59 per
share or the average of the daily closing prices of the Company's Common Stock
for the three consecutive trading days immediately prior to the conversion date.
The holders of Series B Preferred Stock must convert all outstanding shares
thereof no later than November 24, 2000, or, at the Company's option, no later
than November 24, 2001 (the "Forced Conversion Date").
9
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data presented below as of December 31,
1997, 1996, 1995, 1994 and 1993 and for each of the years in the five-year
period ended December 31, 1997 are derived from the audited consolidated
financial statements of the Company. The consolidated financial statements as of
December 31, 1997 and 1996, and for each of the years in the three-year period
ended December 31, 1997, are included in Item 8 of this Form 10-K. The selected
financial data should be read in conjunction with the Company's audited
financial statements and the notes thereto and other portions of this Form 10-K
including "Business" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
YEAR ENDED DECEMBER 31,
-------------------------------------------------------
1997 1996 1995 1994 1993
---------- --------- --------- ---------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
STATEMENT OF OPERATIONS DATA:
Revenues.................................................. $ 5,516 $ 2,887 $ 2,314 $ 3,599 $ 2,595
Research and development expenses(1)...................... 2,492 1,756 1,355 2,062 3,380
Sales and marketing expenses.............................. 6,257 3,282 2,613 4,936 4,278
General and administrative expenses....................... 2,663 2,037 1,717 2,395 1,921
Loss from operations...................................... (11,627) (6,535) (5,534) (10,935) (8,564)
Net loss applicable to common stockholders(2)............. (16,940) (6,356) (5,595) (11,048) (8,299)
Basic and diluted loss per common share................... (0.37) (0.15) (0.16) (0.53) (0.44)
AS OF DECEMBER 31,
-------------------------------
1997 1996 1995 1994 1993
--------- --------- --------- --------- ----------
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments............. $ 5,485 $ 11,325 $ 7,459 $ 4,088 $ 5,305
Working capital (deficit)(3).................................. 2,721 8,284 3,763 (605) 1,907
Total assets.................................................. 7,491 13,503 9,776 6,171 10,158
Deferred revenue.............................................. 440 2,006 2,570 2,754 2,681
Long-term obligations......................................... 8 32 830 2,069 321
Redeemable securities(4)...................................... -- 9,417 -- -- --
Stockholders' equity (deficit)(5)............................. 3,989 (82) 4,010 (1,219) 4,689
- ------------------------
(1) Excludes software development costs capitalized in accordance with Statement
of Financial Accounting Standards No. 86.
(2) The Company's 1997 net loss includes a one-time, non-cash charge of $4.9
million related to the embedded yield on the Company's Series A Preferred
Stock issued in December 1996 due to the discounted conversion provisions of
such stock and the cumulative dividends of $1.25 per share, per annum on
Series A and Series B Preferred Stock.
(3) Current liabilities used to calculate working capital at December 31, 1997,
1996, 1995, 1994, and 1993 include deferred revenue of $440,000, $2,006,000,
$2,570,000, $2,754,000, and $2,681,000, respectively.
(4) Refer to Note 4 to the consolidated financial statements included in Item 8
of this Form 10-K.
(5) The Company has never paid dividends to the holders of its common stock.
10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
HISTORY. The Company was initially incorporated in Delaware in October
1986. In each year since its inception, the Company has incurred losses. For the
five-year period ended December 31, 1997, losses aggregated approximately $43
million and, at December 31, 1997, the Company's accumulated deficit was
approximately $66 million. In July 1994, the Company filed a petition for
reorganization and protection under Chapter 11 of the United States Bankruptcy
Code in order to restructure the Company and its debt. In November, 1994, the
Company's pre-petition creditors approved, and the United States Bankruptcy
Court confirmed, the Company's Plan of Reorganization and the Company emerged
from bankruptcy. See "Item 1. Business--History."
REVENUE RECOGNITION. Revenue from retail product sales is recognized upon
sell through, while revenue from other product sales is recognized upon
shipment, provided that no significant obligations remain and that collection of
the resulting receivable is likely. The Company provides for estimated sales
returns at the time of shipment.
License revenues are recognized when the software has been delivered and all
significant obligations have been met. Royalty revenues are recognized as
products are licensed and sold by licensees. Under the terms of an agreement
with IBM Corporation, the Company is obligated to share with IBM certain
revenues from third parties when earned.
Development contracts revenue is generated primarily from systems
integration services and research grants. Revenue is recognized in accordance
with the terms of the grants and agreements, generally when collection is
probable and related costs have been incurred. Systems integration revenue is
generally recognized upon customer acceptance and fulfillment of all significant
obligations under the contract.
SOURCES OF REVENUES. To date, the Company's revenues have been derived
principally from end-users, manufacturers, retailers and distributors of
computer products in North America, Europe and the Pacific Rim. The Company
performs periodic credit evaluations of its customers and does not require
collateral. The Company maintains reserves for potential credit losses.
Historically, such losses have been insignificant and within management's
expectations.
SOFTWARE DEVELOPMENT COSTS. Software development costs are accounted for in
accordance with Statement of Financial Accounting Standards No. 86, "Accounting
for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed"
("SFAS 86"). Under SFAS 86, capitalization of software development costs begins
upon the establishment of technological feasibility, subject to net realizable
value considerations. In the Company's case, capitalization commences upon the
completion of a working model and generally ends upon the release of the
product. As of December 31, 1997, 1996 and 1995, such costs were insignificant.
SIGNIFICANT CUSTOMERS. Three customers accounted for approximately 27%,
16%, and 15%, respectively, of the Company's revenues in 1997. Two customers
accounted for 11% and 10%, respectively, of revenues in 1996. One customer
accounted for 25% of revenues in 1995.
RESEARCH AND DEVELOPMENT. Research and development costs are charged to
expense as incurred.
FOREIGN CURRENCY TRANSLATION. The Company considers the functional
currencies of CIC Japan and the Joint Venture to be the respective local
currencies and, accordingly, gains and losses from the translation of the local
foreign currency financial statements are included as a component of "cumulative
foreign currency translation adjustment" in the Company's consolidated balance
sheets included in this Annual Report on Form 10-K. Foreign currency assets and
liabilities are translated into U.S. dollars at the end-of-period exchange
rates. Revenues and expenses are translated at the average exchange rates in
effect during each period.
11
Net foreign currency transaction gains and losses are included as components
of "interest income and other income (expense), net" in the Company's
consolidated statements of operations included in this Annual Report on Form
10-K. The Company recorded a net foreign currency transaction loss of $101,000
and gains of $59,000 and $53,000 for the years ended December 31, 1997, 1996 and
1995, respectively.
RESEARCH GRANT. In November 1993, CIC received a two-year grant under the
Advanced Technology Program sponsored by the National Institute of Standards and
Technology. The amount of the first and second year awards were $810,000 and
$670,000, respectively. The Company recognized $91,000 and $590,000 as
development contracts revenue under this grant for the years ended December 31,
1996 and 1995, respectively.
NET OPERATING LOSS CARRYFORWARDS. Utilization of the Company's net
operating losses may be subject to an annual limitation due to the ownership
change limitations provided by the Internal Revenue Code of 1986 and similar
state provisions. As a result, a portion of the Company's net operating loss
carryforwards may not be available to offset future taxable income. The Company
has provided a full valuation allowance for deferred tax assets at December 31,
1997 of $17,073,000 based upon the Company's history of losses.
RESTATEMENT OF 1997 QUARTERLY RESULTS. In January 1998, the Company
restated the previously issued financial statements for the first, second and
third quarters of 1997. The display of the net loss per common share and the
components thereof in the Company's unaudited condensed consolidated statements
of operations for each of these quarters was restated to reflect the non-cash
charge for the embedded yield on convertible preferred stock due to the discount
conversion feature provided on such stock and cumulative dividends on the
convertible preferred stock. The Company believes that the restatements were in
accordance with the accounting treatment of the embedded discount on convertible
preferred stock as announced by the Securities and Exchange Commission at the
March 13, 1997 meeting of the Financial Accounting Standards Board's Emerging
Issues Task Force.
RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997 AND DECEMBER 31, 1996
REVENUES. The Company's product sales for the year ended December 31, 1997
increased $1,655,000, or 104%, to $3,246,000 from $1,591,000 for the prior year.
The increase was due to increased sales with respect to the hardware and
software components involved in the systems integration activities of the Joint
Venture ($1,475,000 for 1997 compared to $1,273,000 for 1996), and increases in
sales of the Company's Handwriter-Registered Trademark- product ($1,858,000 in
1997 compared to $345,000 in 1996). This increase in
Handwriter-Registered Trademark- product revenue resulted from the Company's
sales primarily through the retail market. Though significant, the increase in
retail sales was materially less than management's expectations and the Company
expects to change its strategy in the retail channel during 1998 by supplying
the software technologies of its Handwriter-Registered Trademark- products to
tablet manufacturers with a greater presence in the retail channel.
Revenues from license and royalty fees for the year ended December 31, 1997
increased by $1,026,000, or 126%, to $1,842,000 from $816,000 for the prior
year. The increase was primarily attributable to the recognition of
approximately $1,424,000 (compared to $412,000 in the prior year) of previously
deferred royalty revenues that were recognized on agreements for which the
Company has no further obligations to deliver additional software or services.
Revenues from development contracts for 1997 decreased 11% to $428,000 from
$480,000 for the prior year due primarily to reductions in non-recurring
engineering revenues. Revenues from development contracts are primarily
attributable to grants awarded by the National Institute of Standards and
Technology and The National Science Foundation. Grant revenues increased
slightly to $253,000 in 1997 from $246,000 in 1996.
COST OF SALES. Cost of sales is comprised of costs from product sales,
licensing and royalty fees and development contracts. Cost of product sales in
1997 consisted primarily of cost of materials, approximately $1,236,000 of which
related to the hardware and software components involved in the systems
12
integration activities of the Joint Venture and the remainder of which related
to material and other costs of the Company's Handwriter-Registered Trademark-
product sales. Cost of product sales increased 188% to $5,458,000 from
$1,894,000 in the prior year. In the fourth quarter of 1997, the Company wrote
down its Handwriter-Registered Trademark-products finished goods inventory by
approximately $1,600,000 due to the pending withdrawal of its
Handwriter-Registered Trademark- product from the retail market in the first
quarter of 1998. In addition, the Company charged product cost of sales
approximately $300,000 in the fourth quarter of 1997, related to non-cancelable
manufacturing license agreements entered into in 1997. License and royalties
costs, decreased by approximately $50,000, or 27%, to $132,000 in 1997 from
$182,000 in 1996. This decrease in license and royalty costs related primarily
to decreases in capitalized software amortization offset by increases in
personnel and related costs associated with software product maintenance. Costs
incurred in connection with development contracts revenue are expensed as
incurred, and decreased 23% in 1997 compared to the prior year, commensurate
with the reduction in development contracts revenue in the same period.
GROSS MARGIN. Gross margins declined 176% to a negative margin of $347,000
in 1997 compared to a positive margin of $456,000 in the prior year. This
decrease was primarily due to the write-offs of Handwriter-Registered Trademark-
inventory and non-cancelable manufacturing licenses as discussed above.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased $688,000, or 41%, to $2,360,000 compared to $1,672,000 in the prior
year. Salaries and wages increased $356,000, or 29%, to $1,596,000 compared to
$1,240,000 during the prior year. This increase is due to additional staffing
required for the development of new products and the continued development of
the Chinese character recognition system. Outside engineering costs increased
$86,000, or 121%, to $157,000 compared to $71,000 in the prior year. This
increase is due to the development of a new pen for the Company's
Handwriter-Registered Trademark- products and enhancements to the digitizer used
in the Handwriter-Registered Trademark- Manta-TM- product. Other costs,
including facilities and related expenses, increased $246,000, or 68%, to
$607,000 from $361,000 in the prior year. This increase is due to the increase
in staffing required to accommodate the Company's development programs.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased 91% to
$6,257,000 in 1997 compared to $3,282,000 in the prior year. Salaries, wages and
related costs increased by $850,000, or 58%, to $2,303,000 compared to
$1,453,000 in the prior year, due to increased staffing as the Company pursued
sales efforts in the corporate and retail markets. Travel and related expenses
increased by $72,000, or 18%, to $478,000 compared to $406,000 in the prior
year. This increase is due to the geographic locations and number of corporate
and retail sites serviced by the Company's sales force. In addition to the
Company's sales force, outside services particular to the retail market were
used to augment the retail site visits. The cost of these services increased
consulting service expenses by $93,000, or 32%, to $379,000 compared to $286,000
in the prior year. Advertising and promotion expense increased $1,362,000, or
178%, to $2,128,000 compared to $766,000 in the same period in the prior year.
This increase is due to the costs associated with in-store product positioning
and advertising in the retail channel. Other costs (including facilities and
related costs, recruiting and training materials costs) associated with the
combined corporate and retail effort increased $599,000, or 162%, over the prior
year.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $626,000, or 31%, to $2,663,000 compared to $2,037,000 in the prior
year. Professional services increased $345,000, or 295%, to $462,000 compared to
$117,000 in the prior year. This increase is due to services rendered by a
management consulting firm related to a study of the Company's overall method of
operations and allocation of personnel in various capacities within the
organization. Legal fees increased $200,000, or 124%, to $362,000 compared to
$162,000 in the prior year. This increase is primarily due to the registration
statements filed during the year related to prior financings and registration
rights agreements. Other costs, including travel and related expenses,
recruiting and facilities allocations, increased by $206,000, or 21%, to
$1,180,000 compared to $974,000 in the prior year. This increase is primarily
due to costs incurred in recruiting a new President and COO and an increase in
investor relations services. These increases were offset by a decrease in
salaries and related costs of $126,000, or 16%, to $658,000 compared to $784,000
in
13
the prior year. This decrease resulted from the transfer of personnel to other
departments in support of the marketing efforts.
INTEREST INCOME AND OTHER INCOME (EXPENSE), NET. Interest income and other
income (expense) net increased in 1997 due to a one-time, non-cash charge of
$484,000 for 300,000 warrants issued on March 28, 1997, and effective as of
December 31, 1996, to holders of 100% of the then issued and outstanding Series
A Preferred Stock in exchange for the execution of a waiver to certain
provisions of the registration rights agreement entered into in connection with
the private placement of Series A Preferred Stock in December 1996 (Note 4).
INTEREST EXPENSE. Interest expense decreased in 1997 compared to the prior
year due to the final payment in February 1997 of the pre-petition liabilities.
EMBEDDED YIELD ON PREFERRED STOCK. The embedded yield on preferred stock
results from the discount feature provided on the conversion price of the Series
A Preferred Stock into Common Stock. The embedded yield totaling $4,376,000 was
recognized from the issuance date of December 31, 1996 through July 1, 1997, the
date on which the Series A Preferred Stock first became convertible.
PREFERRED STOCK DIVIDENDS. Preferred stock dividends relate to cumulative
dividends of $1.25 per share, per annum, compounded semi-annually, whether or
not declared, on the Series A and Series B Preferred Stock.
YEARS ENDED DECEMBER 31, 1996 AND DECEMBER 31, 1995
REVENUES. The Company's product sales for the year ended December 31, 1996
increased by 30% to $1,591,000 from $1,220,000 for the prior year. The increase
was due to increased sales with respect to the hardware and software components
involved in the system integration activities of the Joint Venture ($1,273,000
for 1996 compared to $571,000 for 1995), offset by reductions in sales of the
Company's Handwriter-Registered Trademark- product in 1996 as compared to the
prior year. This decline in Handwriter-Registered Trademark- product revenue
resulted from the Company's decision to reduce its sales through distributor and
catalog resellers and place increased focus on the retail market. However,
significant increases in retail sales did not materialize in 1996. In January
1997, CompUSA began offering the Company's Handwriter-Registered Trademark-
products nationwide in all of its stores and through CompUSA's website.
Revenues from license and royalty fees for the year ended December 31, 1996
increased by 244% to $816,000 from $237,000 for the prior year. The increase was
primarily attributable to the recognition of approximately $412,000 of
previously deferred royalty revenues that were recognized on agreements for
which the Company has no further obligations to deliver additional software or
services and to increased shipment volumes reported by two of the Company's
licensees.
Revenues from development contracts for 1996 decreased by 44% to $480,000
from $857,000 for the prior year. Revenues from development contracts are
primarily attributable to grants awarded by the National Institute of Standards
and Technology (the "NIST") and The National Science Foundation. Grant revenues
declined by 60% to $256,000 for 1996 from $653,000 for 1995. The decline in
grant revenues resulted from the expiration of the NIST grant in January 1996.
COST OF SALES. Cost of sales is comprised of costs from product sales,
licensing and royalty fees and development contracts. Cost of product sales in
1996 consisted primarily of cost of materials, approximately $1,223,000 of which
related to the hardware and software components involved in the systems
integration activities of the Joint Venture and the remainder of which related
to material costs of the Company's Handwriter-Registered Trademark- product
sales. License and royalties decreased by approximately $32,000 to $182,000 for
1996 from $214,000 for 1995 primarily due to reductions in the amortization of
capitalized software development costs of $48,000 for 1996 as compared to the
prior year. This decrease in license and royalty costs was offset by additional
personnel costs in connection with software product maintenance. Costs incurred
in connection with development contracts revenue are expensed as incurred and
decreased
14
56% in 1996 as compared to the prior year, commensurate with the reduction in
development contracts revenue in the same period.
GROSS MARGIN. Gross margins increased 456% to $456,000 for 1996 from
$82,000 in the prior year. The increase was primarily due to the increase in
license and royalty revenues discussed above.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased by 30% to $1,672,000 for the year ended December 31, 1996 from
$1,286,000 for the prior year. This increase was primarily attributable to
continued in-house development of the Chinese character recognition system, the
research and development of which was funded through the NIST grant in 1995 and
consequently was included as a component of cost of development contracts in
that period. Research and development staff and related costs in 1996 were
consistent with staff and related costs incurred in 1995.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased 26% to
$3,282,000 for the year ended December 31, 1996 as compared to $2,613,000 for
the prior year. This increase was primarily due to increases in staffing, travel
and related costs and sales consulting expenses resulting from the Company's
focus on the retail market in 1996.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased 19% to $2,037,000 for the year ended December 31, 1996 as compared to
$1,717,000 for the prior year. This increase resulted largely from increased
consulting and stockholder relations costs in 1996. The increase in consulting
costs of $73,000 over the prior year resulted from financial advisory services
rendered by a director of the Company and increased premiums on directors and
officers liability insurance, and personnel and personnel-related costs in 1996.
INTEREST INCOME AND OTHER INCOME (EXPENSE), NET. Interest income and other
income (expense), net for 1996 increased to $278,000 of income in 1996 compared
to $203,000 of income in the prior year. This increase is primarily due to
interest income earned on the Company's cash and short-term investments.
INTEREST EXPENSE. Interest expense for 1996 decreased to $99,000 compared
to $264,000 in the prior year. This decrease is the result of reduced interest
expenses associated with the reduction of pre-petition liabilities and
short-term debt during 1996.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents at December 31, 1997 totaled $5,485,000 compared
to cash and cash equivalents of $10,573,000 at December 31, 1996. This decrease
was primarily attributable to the $11,740,000 of cash used in operations, offset
by the $146,000 of cash provided by investing activities in 1997 and the
$6,504,000 of cash provided by financing activities. In 1997, the effect of
exchange rate changes on cash was immaterial.
At December 31, 1997, current liabilities, which include deferred revenue,
were $3,494,000. Deferred revenue, totaling $440,000 at December 31, 1997,
primarily reflects non-refundable advance royalty fees received from the
Company's licensees which are generally recognized as revenue by the Company in
the period in which licensees report that products incorporating the Company's
software have been shipped or when no significant obligation to provide
additional software or services exists. As such, the period over which such
deferred revenue will be recognized as revenue is uncertain because the Company
cannot presently determine either the timing or volume of future shipments by
its licensees. Under the terms of the Company's agreement with IBM Corporation,
the Company is obligated to share certain royalties from third parties with IBM
when earned.
As of December 31, 1997, the Company's principal source of liquidity was its
cash and cash equivalents of $5,485,000. Although there can be no assurance, the
Company believes that its cash and cash equivalents, will be sufficient to fund
planned operations for at least the next twelve months. However, if the Company
is unable to generate adequate cash flow from sales, or if expenditures required
to achieve the Company's plans are greater than expected, the Company may need
to obtain additional
15
funds or reduce discretionary spending. There can be no assurance that
additional funds will be available when needed, or if available will be on
favorable terms or in the amounts required by the Company. If adequate funds are
not available when needed, the Company may be required to delay, scale back or
eliminate some or all of its marketing and development efforts or other
operations, which will have a material adverse effect on the Company's business,
results of operations and prospects.
JOINT VENTURE IN THE PEOPLE'S REPUBLIC OF CHINA. The Company currently owns
90% of a joint venture (the "Joint Venture") with The Ministry of Electronic
Industries of the Jiangsu Province, a provincial agency of the People's Republic
Of China (the "Agency"). Under the provisions of the Joint Venture agreement,
the Company may be required to contribute up to an aggregate of $5.4 million in
cash to the Joint Venture and is required to provide it with nonexclusive
licenses to technologies and certain distribution rights. The Agency is required
to contribute certain land use rights and provide other services to the Joint
Venture. As of December 31, 1997, the Company had contributed an aggregate of
$1.8 million in cash to the Joint Venture and provided it with nonexclusive
licenses to technologies and certain distribution rights, and the Agency had
contributed certain land use rights. The Company believes that any future cash
contributions required to be made to the Joint Venture will be paid from its
working capital or proceeds from additional financings, if any. There can be no
assurance that the Company will be able to fund the balance of any required cash
contributions to the Joint Venture, that the Joint Venture will be successful in
developing or selling integrated computer systems or other products to the Asian
market or that the Company will realize any significant benefits from its
contributions to the Joint Venture. The Joint Venture is subject to the annual
licensing requirements of the Chinese government. The Joint Venture's business
license expired on March 3, 1998, but was extended to April 3, 1998 pending
review of renewal documents. There can be no assurance, however, that its
license will be renewed beyond April 3, 1998. The failure of the Joint Venture
to receive a renewal of its license may adversely affect any expected benefits
to be derived from the Company's ownership interests in the Joint Venture. In
addition, because of the legal and political system in China, there can be no
assurance that the Agency's obligations to the Joint Venture can be enforced.
Finally, the Company's investment in the Joint Venture is subject to risks of
doing business abroad, including fluctuations in the value of currencies, export
duties, import controls and trade barriers (including quotas), restrictions on
the transfer of funds, longer payment cycles, greater difficulty in accounts
receivable collections, burdens of complying with foreign laws and political and
economic instability.
PREFERRED STOCK FINANCINGS. The Company's authorized shares of preferred
stock may be issued in one or more series, and shares of each series will have
the rights and preferences as determined by the Board of Directors in
authorizing the issuance of that particular series. In designating any series of
preferred stock, the Board of Directors may, without further action by holders
of Common Stock, determine the number of shares constituting that series, the
dividend rights or rates, conversion rights, voting rights (which may be greater
or lesser than the voting rights of the holders of the Common Stock), rights and
terms of redemption (including any sinking fund provisions) and liquidation
preferences of such series. Holders of any series of preferred stock may have
priority claims to dividends and distributions upon liquidation of the Company
and other preferences over the holders of the Common Stock.
In December 1996, the Company completed a private placement of 450,000
shares of redeemable convertible preferred stock (the "December 1996 Private
Placement") at $25.00 per share to certain institutional and other investors. Of
the aggregate 450,000 shares sold, 70,200 shares of redeemable convertible
preferred stock were issued in exchange for 390,000 shares of Common Stock,
originally issued in an earlier private placement. The net proceeds to the
Company from the remaining 379,800 shares of redeemable convertible preferred
stock sold were approximately $7,662,000, net of cash issuance costs of
$1,100,000 and $733,000 of value ascribed to 337,500 warrants to purchase Common
Stock issued to the placement agent. The warrants expire five years from the
date of issuance and have an exercise price of $2.50 per share, subject to
adjustment for anti-dilution. The fair value ascribed to the warrants was
estimated on the date of issuance using the Black-Scholes pricing model with the
following assumptions:
16
risk-free interest rate of 6.07%; expected life of 5 years; expected volatility
of 104%; and expected dividend yield of 0%. See Note 4 to the Company's
consolidated and audited financial statements.
On November 26, 1997, the Company completed a private placement of 240,000
shares of Series B Preferred Stock (the "November 1997 Private Placement") at
$25.00 per share to certain investors. The net proceeds to the Company from the
240,000 shares of Series B Preferred stock sold was approximately $5,859,000,
net of cash issuance costs of $141,000.
At January 2, 1998, there were approximately 324,825 shares of Series A
Preferred Stock and 240,000 shares of Series B Preferred Stock issued and
outstanding.
- OPTIONAL AND AUTOMATIC CONVERSION. Each share of Series A and Series B
Preferred Stock is convertible by the holders into shares of Common Stock at any
time. In addition, all outstanding shares of Series A Preferred Stock will be
automatically converted into shares of Common Stock on December 31, 1999,
subject to the satisfaction of certain conditions and events by the Company, or
later under certain circumstances. All outstanding shares of Series B Preferred
Stock will be automatically converted into shares of Common Stock on November
25, 2000, or at the Company's option, up to one year later.
Generally, the number of shares of Common Stock to be issued upon conversion
of the Series A Preferred Stock is determined by dividing (i) the sum of $25
multiplied by the number of shares being converted, plus accrued and unpaid
dividends thereon and any unpaid default payments, by (ii) a conversion price
(as determined in the certificate of designations for such shares) which is
approximately 72% of the then applicable market price of the Common Stock. The
then applicable market price generally will be determined as follows: (i) if the
holder giving the conversion notice has sold the shares of Common Stock issuable
upon conversion, the market price will be the weighted average of the actual
selling price at which the holder converting has sold the shares of Common Stock
(which may not be less than the lowest trading price on the date of such trade
as reported by the Nasdaq SmallCap Market), net of normal and customary
commissions and underwriting or dealer spreads, or (ii) if the holder giving the
conversion notice has not sold the shares of Common Stock issuable upon
conversion, the market price will be the average of the daily mean between the
low trading price and the closing price of the Common Stock for each of the
three consecutive trading days prior to the conversion date. The conversion
price is also subject to adjustment for customary dilutive events such as stock
splits, stock dividends, reorganizations and certain mergers.
Generally, the number of shares of Common Stock to be issued upon conversion
of the Series B Preferred Stock is determined by dividing (i) the sum of $25
multiplied by the number of shares being converted, plus accrued and unpaid
dividends thereon and any unpaid default payments, by (ii) a conversion price
(as determined in the certificate of designations for such shares) equal to the
lower of (a) the average market price of the Common Stock, or (b) $1.59 per
share. The average market price generally will be the average of the daily
closing prices of the Common Stock for the three consecutive trading days prior
to the conversion date. The conversion price is also subject to adjustment for
customary dilutive events such as stock splits, stock dividends, reorganizations
and certain mergers.
If the average market price of the Common Stock on January 5, 1998 of $1.28
per share was used to determine the number of shares issuable upon conversion of
all of the shares of Series A and Series B Preferred Stock outstanding as of the
same date, the Company would be obligated to issue an aggregate of approximately
13,569,434 shares of Common Stock. There is no limitation on the number of
shares of Common Stock that the Company may be required to issue in connection
with the conversion of the Series A and Series B Preferred Stock. The number of
shares of Common Stock issuable upon conversion of, or otherwise with respect
to, the shares of Series A and Series B Preferred Stock is subject to
adjustment, and will likely be different than the amount estimated herein. The
exact number is dependant upon factors which the Company is unable to predict at
this time, including the future market price of the Common Stock.
17
- DEFAULT PAYMENTS. Pursuant to the Series A Registration Rights Agreement
entered into in connection with the sale of the Series A Preferred Stock, the
Company is required to pay to each holder a default payment in an amount equal
to 3% of the liquidation preference of the Series A Preferred Stock held for any
part of each 30-day period in which (i) the Company fails, refuses or is unable
to cause the securities covered by the Registration Statement related to the
shares of Common Stock issuable upon conversion of the Series A Preferred Stock
(the "1997 Registration Statement") to be listed on the exchange on which the
Common Stock is traded, (ii) any holder's ability to sell the securities covered
by the 1997 Registration Statement is suspended for more than sixty days in the
aggregate, or (iii) the Company does not have a sufficient number of shares of
Common Stock available to effect conversion of the Series A Preferred Stock. Any
default payment which the Company is required to make may have a material
adverse effect on the Company and, if such payment is made by the issuance of
additional shares, may further dilute the ownership interests of the holders of
the Common Stock.
ACCOUNTS RECEIVABLE FINANCING. In October 1997, the Company entered into an
accounts receivable financing agreement whereby the Company has the ability to
factor its accounts receivable in accordance with the terms of the agreement.
The maximum credit available to the Company under the agreement is $1,500,000,
with an advance rate of 80% of the eligible accounts receivable which are less
than 90 days old. The term of the agreement is twelve months with annual
renewals. A financing fee of 2.1% per month applies to the outstanding balance
based on the face value of each invoice. The line of credit is secured by a
blanket first priority lien on all Company assets with the exception of its
intellectual property. As of December 31, 1997, the Company had financed
approximately $425,000 of its accounts receivable under this agreement and had
approximately $1,075,000 of additional financing available. The amounts financed
on accounts receivable at December 31, 1997 were repaid in January 1998.
OPERATING LEASE COMMITMENTS. The Company leases facilities in the United
States and China. The Company's rental expense for the year ended December 31,
1997 was approximately $892,000. Sublease income was approximately $128,000 for
the year ended December 31, 1997. Future minimum lease payments under
non-cancelable operating leases are expected to be approximately $617,000,
$603,000, 620,000 and $558,000 for the years ending December 31, 1998, 1999,
2000 and 2001, respectively. The Company's rent expense is expected to be
reduced by approximately $167,000 in 1998 in connection with the subleases.
VOLATILITY OF STOCK PRICE
The Company's future earnings and stock price may be subject to significant
volatility. The public stock markets have experienced significant volatility in
stock prices in recent years. The stock prices of technology companies have
experienced particularly high volatility, including, at times, severe price
changes that are unrelated or disproportional to the operating performance of
such companies. The trading price of the Company's Common Stock could be subject
to wide fluctuations in response to, among other factors, quarter-to-quarter
variations in operating results, announcements of technological innovations or
new products by the Company or its competitors, announcements of new strategic
relationships by the Company or its competitors, general conditions in the
computer industry or the global economy generally, or market volatility
unrelated to the Company's business and operating results.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's audited consolidated financial statements for the years ended
December 31, 1997, 1996 and 1995 begin on page 19 of this Annual Report on Form
10-K.
18
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Communication Intelligence Corporation
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, stockholders' equity (deficit) and of
cash flows present fairly, in all material respects, the financial position of
Communication Intelligence Corporation and its subsidiaries at December 31, 1997
and 1996, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 1997, in conformity with
generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
Our audits of the consolidated financial statements of Communication
Intelligence Corporation also included an audit of the Financial Statement
Schedule listed in the index appearing under Item 14(a)(2) for each of the three
years in the period ended December 31, 1997. In our opinion, the Financial
Statement Schedule presents fairly, in all material respects, the information
set forth therein when read in conjunction with the related consolidated
financial statements.
PRICE WATERHOUSE LLP
San Jose, CA
March 25, 1998
19
COMMUNICATION INTELLIGENCE CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PAR VALUE AMOUNTS)
DECEMBER 31,
----------------------
1997 1996
---------- ----------
ASSETS
Current assets:
Cash and cash equivalents............................................................... $ 5,485 $ 10,573
Short-term investments.................................................................. -- 752
Accounts receivable, net of allowance of $46 and $85 in 1997 and 1996, respectively..... 362 376
Inventories............................................................................. 193 529
Prepaid expenses and other current assets............................................... 175 190
---------- ----------
Total current assets...................................................................... 6,215 12,420
Note receivable from officer.............................................................. 210 210
Property and equipment, net............................................................... 798 537
Other assets.............................................................................. 268 336
---------- ----------
Total assets............................................................................ $ 7,491 $ 13,503
---------- ----------
---------- ----------
LIABILITIES, REDEEMABLE SECURITIES, AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Short-term debt......................................................................... $ 490 $ --
Accounts payable........................................................................ 1,059 367
Pre-petition liabilities................................................................ -- 878
Accrued compensation.................................................................... 446 339
Other accrued liabilities............................................................... 1,059 546
Deferred revenue........................................................................ 440 2,006
---------- ----------
Total current liabilities................................................................. 3,494 4,136
---------- ----------
Other liabilities......................................................................... 8 32
Commitments (Note 6)......................................................................
Redeemable convertible preferred stock, $.01 par value; 600 shares authorized; 450 shares
issued and outstanding in 1996 (Notes 4 and 10)......................................... -- 9,417
Stockholders' equity (deficit):
Convertible preferred stock, $.01 par value, 10,000 shares authorized; 569 issued and
outstanding in 1997 (Notes 4 and 10).................................................. 6 --
Common stock, $.01 par value; 80,000 shares authorized; 47,430 and 41,901 shares issued
and outstanding in 1997 and 1996, respectively........................................ 474 419
Additional paid-in capital.............................................................. 69,955 54,015
Accumulated deficit..................................................................... (66,347) (54,347)
Cumulative foreign currency translation adjustment...................................... (99) (169)
---------- ----------
Total stockholders' equity (deficit) (Notes 4 and 10)..................................... 3,989 (82)
---------- ----------
Total liabilities, redeemable securities and stockholders' equity (deficit)
(Notes 4 and 10)...................................................................... $ 7,491 $ 13,503
---------- ----------
---------- ----------
See accompanying Notes to Consolidated Financial Statements
20
COMMUNICATION INTELLIGENCE CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31,
--------------------------------
1997 1996 1995
---------- --------- ---------
Revenues:
Product........................................................................ $ 3,246 $ 1,591 $ 1,220
License and royalty............................................................ 1,842 816 237
Development contracts.......................................................... 428 480 857
---------- --------- ---------
5,516 2,887 2,314
Operating costs and expenses:
Cost of sales:
Product...................................................................... 5,458 1,894 1,206
License and royalty.......................................................... 132 182 214
Development contracts........................................................ 273 355 812
Research and development....................................................... 2,360 1,672 1,286
Sales and marketing............................................................ 6,257 3,282 2,613
General and administrative..................................................... 2,663 2,037 1,717
---------- --------- ---------
17,143 9,422 7,848
Loss from operations............................................................. (11,627) (6,535) (5,534)
Interest income and other income (expense), net.................................. (322) 278 203
Interest expense................................................................. (51) (99) (264)
---------- --------- ---------
Net loss......................................................................... (12,000) (6,356) (5,595)
Embedded yield on preferred stock (Note 4)....................................... (4,376) -- --
Preferred stock dividend (Note 4)................................................ (564) -- --
---------- --------- ---------
Net loss applicable to common stockholders....................................... $ (16,940) $ (6,356) $ (5,595)
---------- --------- ---------
---------- --------- ---------
Basic loss per share............................................................. $ (0.37) $ (0.15) $ (0.16)
---------- --------- ---------
---------- --------- ---------
Diluted loss per share........................................................... $ (0.37) $ (0.15) $ (0.16)
---------- --------- ---------
---------- --------- ---------
Weighted average common shares................................................... 45,370 41,265 34,621
---------- --------- ---------
---------- --------- ---------
See accompanying Notes to Consolidated Financial Statements
21
COMMUNICATION INTELLIGENCE CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
SERIES SERIES
A B
CONVERTIBLE CONVERTIBLE ADDITIONAL
PREFERRED PREFERRED COMMON PAID-IN ACCUMULATED
STOCK STOCK STOCK CAPITAL DEFICIT
--------------- --------------- ----------- ----------- ------------
Balances as of December 31, 1994............... $ -- $ -- $ 337 $ 40,878 $ (42,396)
----- ----- ----- ----------- ------------
Exercise of options for 654 shares of Common
Stock........................................ -- -- 6 288 --
Issuance of 5,500 shares of Common Stock to
investors for cash, net of issuance costs of
$185*........................................ -- -- 55 10,285 --
Issuance of 217 shares of Common Stock to
vendor for pre-petition liabilities*......... -- -- 2 186 --
Issuance of warrants to purchase 1,563 shares
of Common Stock in connection with a bridge
loan*........................................ -- -- -- 50 --
Foreign currency translation adjustment........ -- -- -- -- --
Net loss....................................... -- -- -- -- (5,595)
----- ----- ----- ----------- ------------
Balances as of December 31, 1995............... -- -- 400 51,687 (47,991)
Exercise of options for 1,403 shares of Common
Stock........................................ -- -- 14 664 --
Exercise of warrants for 100 shares of Common
Stock........................................ -- -- 1 49 --
Issuance of 796 shares of Common Stock to
investors for cash, net of issuance costs of
$292......................................... -- -- 8 2,400 --
Exchange of 390 shares of Common Stock for 70
shares of redeemable convertible preferred
stock........................................ -- -- (4) (1,751) --
Issuance of warrants to purchase Common Stock
in connection with the June and December
Private Placements........................... -- -- -- 844 --
Issuance of 100 options to consultants for
services..................................... -- -- -- 122 --
Foreign currency translation adjustment........ -- -- -- -- --
Net loss....................................... -- -- -- -- (6,356)
----- ----- ----- ----------- ------------
Balances as of December 31, 1996............... -- -- 419 54,015 (54,347)
Exercise of options and warrants for 3,092
shares of Common Stock....................... -- -- 31 135 --
Issuance of 50 options to consultants for
services..................................... -- -- -- 75 --
Conversion of redeemable convertible preferred
stock into 450 shares of Series A Preferred
Stock........................................ 5 -- -- 9,412 --
Issuance of warrants to purchase 300 shares of
Common Stock in connection with the waiver of
redemption rights on Series A Preferred
Stock........................................ -- -- -- 484 --
Conversion of 121 shares of Series A Preferred
Stock into 2,437 shares of Common Stock...... (1) -- 24 (23) --
Issuance of 240 Series B Preferred Stock net of
issuance costs of $141....................... -- 2 -- 5,857 --
Foreign currency translation adjustment........ -- -- -- -- --
Net loss....................................... -- -- -- -- (12,000)
----- ----- ----- ----------- ------------
Balances as of December 31, 1997............... $ 4 $ 2 $ 474 $ 69,955 $ (66,347)
----- ----- ----- ----------- ------------
----- ----- ----- ----------- ------------
CUMULATIVE
FOREIGN
CURRENCY
TRANSLATION
ADJUSTMENT
-------------
Balances as of December 31, 1994............... $ (38)
-----
Exercise of options for 654 shares of Common
Stock........................................ --
Issuance of 5,500 shares of Common Stock to
investors for cash, net of issuance costs of
$185*........................................ --
Issuance of 217 shares of Common Stock to
vendor for pre-petition liabilities*......... --
Issuance of warrants to purchase 1,563 shares
of Common Stock in connection with a bridge
loan*........................................ --
Foreign currency translation adjustment........ (48)
Net loss....................................... --
-----
Balances as of December 31, 1995............... (86)
Exercise of options for 1,403 shares of Common
Stock........................................ --
Exercise of warrants for 100 shares of Common
Stock........................................ --
Issuance of 796 shares of Common Stock to
investors for cash, net of issuance costs of
$292......................................... --
Exchange of 390 shares of Common Stock for 70
shares of redeemable convertible preferred
stock........................................ --
Issuance of warrants to purchase Common Stock
in connection with the June and December
Private Placements........................... --
Issuance of 100 options to consultants for
services..................................... --
Foreign currency translation adjustment........ (83)
Net loss....................................... --
-----
Balances as of December 31, 1996............... (169)
Exercise of options and warrants for 3,092
shares of Common Stock....................... --
Issuance of 50 options to consultants for
services..................................... --
Conversion of redeemable convertible preferred
stock into 450 shares of Series A Preferred
Stock........................................ --
Issuance of warrants to purchase 300 shares of
Common Stock in connection with the waiver of
redemption rights on Series A Preferred
Stock........................................ --
Conversion of 121 shares of Series A Preferred
Stock into 2,437 shares of Common Stock...... --
Issuance of 240 Series B Preferred Stock net of
issuance costs of $141....................... --
Foreign currency translation adjustment........ 70
Net loss....................................... --
-----
Balances as of December 31, 1997............... $ (99)
-----
-----
- ------------------------
* Relates to Plan of Reorganization (see Note 4).
See accompanying Notes to Consolidated Financial Statements
22
COMMUNICATION INTELLIGENCE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31,
--------------------------------
1997 1996 1995
---------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss......................................................................... $ (12,000) $ (6,356) $ (5,595)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization.................................................. 347 353 387
Warrant issuance costs......................................................... 484 -- 50
Equity securities issued for services.......................................... 75 122 --
Loss on disposal of property and equipment..................................... 32 -- --
Changes in operating assets and liabilities:
Accounts receivable.......................................................... 15 5 (180)
Inventories.................................................................. 317 (284) (27)
Prepaid expenses and other current assets.................................... 15 209 (195)
Other assets................................................................. (32) 213 (55)
Accounts payable............................................................. 692 (67) 129
Pre-petition liabilities..................................................... (878) (766) (1,207)
Accrued compensation......................................................... 107 57 38
Other accrued liabilities.................................................... 623 (285) (58)
Deferred revenue............................................................. (1,537) (564) (184)
---------- --------- ---------
Net cash used in operating activities............................................ (11,740) (7,363) (6,897)
---------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales and maturities of short-term investments..................... 8,782 14,276 --
Purchase of short-term investments............................................... (8,035) (13,493) (1,535)
Acquisition of property and equipment............................................ (601) (358) (144)
Capitalized software costs....................................................... -- -- (20)
---------- --------- ---------
Net cash provided by (used in) investing activities.............................. 146 425 (1,699)
---------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of short-term debt and notes payable...................... 525 -- 2,530
Principal payments on short-term debt and notes payable.......................... (35) (30) (2,618)
Principal payments on capital lease obligations.................................. (11) (34) (66)
Proceeds from issuance of redeemable convertible preferred stock and warrants,
net of cash issuance costs..................................................... -- 8,395 --
Proceeds from issuance of Series B Convertible Preferred Stock, net of cash
issuance costs................................................................. 5,859 -- --
Proceeds from exercise of stock options.......................................... 166 -- --
Proceeds from issuance of common stock and warrants, net of cash issuance
costs.......................................................................... -- 3,247 10,634
---------- --------- ---------
Net cash provided by financing activities........................................ 6,504 11,578 10,480
---------- --------- ---------
Effect of exchange rate changes on cash.......................................... 2 9 (48)
---------- --------- ---------
Net increase (decrease) in cash and cash equivalents............................. (5,088) 4,649 1,836
Cash and cash equivalents at beginning of year................................... 10,573 5,924 4,088
---------- --------- ---------
Cash and cash equivalents at end of year......................................... $ 5,485 $ 10,573 $ 5,924
---------- --------- ---------
---------- --------- ---------
See accompanying Notes to Consolidated Financial Statements
23
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
THE COMPANY
The corporate mission of Communication Intelligence Corporation (the
"Company" or "CIC") is to develop and market natural pen-input computer
interfaces and handwriting recognition-based security technologies and products
to satisfy the emerging markets for pen-based computing and electronic commerce.
These emerging markets for CIC's products include all areas of personal
computing, as well as electronic commerce and communications.
The Company's research and development activities have given rise to
numerous technologies and products. The Company's core technologies are
classified into two broad categories: "Natural Input Technologies" and
"Transaction and Communication Enabling Technologies". CIC's natural input
technologies are designed to allow users to interact with a computer or handheld
device through use of a pen. Such products include the Company's multi-lingual
Handwriter-Registered Trademark- Recognition System, and its
Handwriter-Registered Trademark- for Windows-Registered Trademark- family of
desktop computing products. CIC's transaction and communication enabling
technologies provide a means for protecting electronic transactions and
discretionary communications. CIC has developed products for dynamic signature
verification, electronic ink data compression and encryption and a suite of
development tools and applications which the Company believes could increase the
functionality of its core products and facilitate their integration into
original equipment manufacturers' ("OEM") hardware products and computer systems
and networks.
Through its majority-owned joint venture in China (the "Joint Venture"), the
Company provides system integration services and markets its pen-based business
computer systems to Chinese businesses, government users and other joint
ventures.
For the five-year period ended December 31, 1997, the Company incurred
aggregate losses of $43,000, and, at December 31, 1997, the Company's
accumulated deficit was approximately $66,000. The Company has primarily funded
these losses through the sale of equity and debt securities.
As of December 31, 1997, the Company's principal source of liquidity was its
cash and cash equivalents of $5,485. Although there can be no assurance, the
Company believes that its cash and cash equivalents will be sufficient to fund
planned operations for at least the next twelve months. However, if the Company
is unable to generate adequate cash flow from sales, or if expenditures required
to achieve the Company's plans are greater than expected, the Company may need
to obtain additional funds or reduce discretionary spending. Management believes
that it will be able to reduce discretionary spending if required.
BASIS OF CONSOLIDATION
The accompanying consolidated financial statements are prepared in
accordance with generally accepted accounting principles, and include the
accounts of CIC, its wholly-owned subsidiary in Japan, CIC Japan, Inc., and its
majority-owned Joint Venture in the People's Republic of China. All intercompany
accounts and transactions are eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and
24
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (CONTINUED)
liabilities, and disclosure of contingent assets and liabilities, at the date of
the financial statements, as well as the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from these
estimates.
FINANCIAL PRESENTATION
Certain prior period amounts have been reclassified to conform with the 1997
financial statement presentation.
PLAN OF REORGANIZATION AND PRE-PETITION LIABILITIES
On July 18, 1994, the Company filed a voluntary petition for reorganization
and protection under Chapter 11 of the U. S. Bankruptcy Code (the "Bankruptcy
Code") in the United States Bankruptcy Court, San Francisco District. Neither
CIC's consolidated foreign subsidiary nor the Joint Venture filed petitions for
reorganization. On September 28, 1994, the Company filed a Disclosure Statement
and Plan of Reorganization (the "Plan") in the United States Bankruptcy Court,
San Francisco District. The Plan was approved by the creditors on November 14,
1994, and the Company emerged from Chapter 11 protection on that date.
The Plan provided for the payment in full, in cash, of all allowed unsecured
claims of creditors while leaving secured creditors unimpaired by providing for
their payment in compliance with the original terms and conditions of their
loans. Unsecured creditors were paid in three approximately equal installments
in each of February 1995, 1996 and 1997. Pursuant to the Plan, amounts
outstanding after February 1995 accrue simple interest at 8% per annum through
February 1996 and 10% per annum thereafter through February 1997. The Plan also
approved certain warrant offerings and stock purchase agreements as described in
Note 4.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments, including cash
and cash equivalents, short-term investments, accounts receivable, short-term
debt, accounts payable, accrued compensation, other accrued liabilities and
obligations under capital leases, approximate fair value due to their short
maturities.
CASH AND CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
The Company considers all highly liquid investments with a maturity at the
date of purchase of three months or less to be cash equivalents.
Short-term investments are classified as "available-for-sale." For all
periods presented, cost of investments approximated fair market value.
Unrealized gains and losses at December 31, 1997 and 1996 and realized gains and
losses for the year ended December 31, 1997, 1996 and 1995 on such investments
were not material. The cost of securities sold is based on the specific
identification method.
25
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (CONTINUED)
The Company's cash, cash equivalents and short-term investments at December
31, consist of the following:
1997 1996
--------- ---------
Cash in bank............................................................. $ 1,160 $ 9,483
Commercial paper......................................................... 2,330 1,088
Money markets............................................................ 1,004 2
Corporate debt securities................................................ 991 --
--------- ---------
Cash and cash equivalents............................................ $ 5,485 $ 10,573
--------- ---------
--------- ---------
Corporate debt securities................................................ $ -- $ 252
Other debt securities.................................................... -- 500
--------- ---------
Short-term investments............................................... $ -- $ 752
--------- ---------
--------- ---------
Corporate debt securities at December 31, 1996 mature in less than one year
and are included in short-term investments. Other debt securities at December
31, 1996 consisted of securities not due at a single maturity date.
CONCENTRATIONS OF CREDIT RISK
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist primarily of cash and cash equivalents,
short-term investments and accounts receivable. The Company maintains its cash,
cash equivalents and short-term investments with various financial institutions.
This diversification of risk is consistent with Company policy to maintain
liquidity and ensure the safety of principal. At December 31, 1997, the Joint
Venture had approximately $595 in cash accounts held by a financial institution
in the People's Republic of China. These deposits are not covered by any federal
deposit insurance program that is comparable to the programs applicable to U.S.
deposits.
To date, accounts receivable have been derived principally from revenues
earned from end users, manufacturers, retailers and distributors of computer
products in North America, Europe and the Pacific Rim. The Company performs
periodic credit evaluations of its customers, and does not require collateral.
The Company maintains reserves for potential credit losses; historically, such
losses have been insignificant and within management's expectations.
One customer accounted for 24% of outstanding accounts receivable at
December 31, 1997. Two customers accounted for 34% and 13%, respectively, of
outstanding accounts receivable at December 31, 1996.
26
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (CONTINUED)
INVENTORIES
Inventories are stated at the lower of cost or market, cost being determined
using the first-in first-out (FIFO) method. Cost principally includes direct
materials. At December 31, inventories consist of the following:
1997 1996
--------- ---------
Raw materials.............................................................. $ -- $ 59
Finished goods............................................................. 193 470
--------- ---------
$ 193 $ 529
--------- ---------
--------- ---------
The Company currently believes that a significant portion of the
Handwriter-Registered Trademark- inventory will not be realized in the near
term, and, accordingly, the Company has provided net realizable value reserves
of approximately $1,600 on its Handwriter-Registered Trademark- inventory at
December 31, 1997. In 1996 the Company had net realizable value reserves of
approximately $1,085, primarily related to its Japanese
Handwriter-Registered Trademark- products.
PROPERTY AND EQUIPMENT, NET
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the related assets,
ranging from three to five years. Leasehold improvements are amortized over
their estimated useful lives, not to exceed the term of the related lease. The
cost of additions and improvements is capitalized, while maintenance and repairs
are charged to expense as incurred.
Property and equipment, net at December 31, consists of the following:
1997 1996
--------- ---------
Machinery and equipment.................................................... $ 2,160 $ 1,978
Office furniture and fixtures.............................................. 535 420
Leasehold improvements..................................................... 99 43
Purchased software......................................................... 124 103
--------- ---------
2,918 2,544
Less accumulated depreciation and amortization............................. (2,120) (2,007)
--------- ---------
$ 798 $ 537
--------- ---------
--------- ---------
Included in property and equipment as of December 31, 1997 and 1996 is $34
and $31, respectively, of assets acquired under capital leases, net of
accumulated depreciation of $24 and $24, respectively. Depreciation and
amortization expense was approximately $347, $177 and $185 for the years ended
December 31, 1997, 1996 and 1995, respectively.
SOFTWARE DEVELOPMENT COSTS
Software development costs are accounted for in accordance with Statement of
Financial Accounting Standards No. 86, "Accounting for the Costs of Computer
Software to be Sold, Leased or Otherwise
27
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (CONTINUED)
Marketed" ("SFAS 86"). Under SFAS 86, capitalization of software development
costs begins upon the establishment of technological feasibility, subject to net
realizable value considerations. In the Company's case, capitalization commences
upon the completion of a working model and ends on general product release. As
of December 31, 1997 and 1996, such costs were insignificant and are included as
a component of "other assets" in the accompanying consolidated balance sheets.
There was no amortization expense related to capitalized software development
costs in 1997. Amortization expense, including amounts written down to net
realizable value, was approximately $98 and $157 for 1996, and 1995,
respectively.
STOCK-BASED COMPENSATION
Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"). The Company has elected to continue to use the intrinsic value based
method of Accounting Principles Board Opinion No. 25, as allowed under SFAS 123,
to account for its employee stock-based compensation plans (see Note 4).
REVENUE RECOGNITION
Revenue from retail product sales is recognized upon sell through, while
revenue from other product sales is recognized upon shipment provided that no
significant obligations remain and the collection of the resulting receivable is
probable. The Company provides for estimated sales returns at the time of
shipment.
License revenues are recognized when the software has been delivered and
when all significant obligations have been met. Royalty revenues are recognized
as products are licensed/sold by licensees. Under the terms of an agreement with
IBM, the Company is obligated to share with IBM certain revenues from third
parties when earned. Deferred revenue in the accompanying balance sheets
reflects nonrefundable advance royalty fees received from the Company's
licensees in advance of revenue recognition.
Development contracts revenue is generated primarily from systems
integration services, non-recurring engineering activities and research grants
from government agencies. Revenue is recognized in accordance with the terms of
the grants and agreements, generally when collection is probable and related
costs have been incurred. System integration revenue is generally recognized
upon customer acceptance and fulfillment of all significant obligations under
the contract.
Three customers accounted for 27%, 16% and 15%, respectively, of revenues in
1997. Two customers accounted for 11% and 10%, respectively, of revenues in
1996. One customer accounted for 25% of revenues in 1995.
RESEARCH AND DEVELOPMENT
Research and development costs are charged to expense as incurred.
NET LOSS PER SHARE
Effective December 31, 1997, the Company adopted the provisions of Statement
of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128").
SFAS 128 requires the disclosure of both basic earnings per share, which is
based on the weighted average number of common shares
28
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (CONTINUED)
outstanding, and diluted earnings per share, which is based on the weighted
average number of common shares and dilutive potential common shares
outstanding. All prior year earnings per share data have been restated to
reflect the provisions of SFAS 128. Potential common shares, including
outstanding convertible preferred stock, stock options and warrants, have been
excluded from the calculation of diluted earnings per share for all periods
presented as their effect is anti-dilutive. Per share results of operations are
reduced by the amortization of the beneficial conversion rate on the Series A
Preferred Stock and the cumulative dividend requirements earned by the preferred
stockholders (see Note 4).
FOREIGN CURRENCY TRANSLATION
The Company considers the functional currency of its Japanese subsidiary and
the Chinese Joint Venture to be the respective local currency and, accordingly,
gains and losses from the translation of the local foreign currency financial
statements are included as a component of "cumulative foreign currency
translation adjustment" in the accompanying consolidated balance sheets. Foreign
currency assets and liabilities are translated into U.S. dollars at the
end-of-period exchange rates. Revenues and expenses are translated at the
average exchange rates in effect during each period.
Net foreign currency transaction gains and losses are included as components
of "interest income and other income (expense), net" in the accompanying
consolidated statements of operations. The Company recorded a net foreign
currency transaction loss of $101 and gains of $59 and $53 for the years ended
December 31, 1997, 1996 and 1995, respectively.
INCOME TAXES
Deferred tax assets and liabilities are recognized for the expected tax
consequences of temporary differences between the tax bases of assets and
liabilities and their financial statement reported amounts and for tax loss and
credit carryforwards. A valuation allowance is provided against deferred tax
assets for which it is more likely than not that the asset will not be realized.
2. CHINESE JOINT VENTURE
The Company currently owns 90% of a joint venture (the "Joint Venture") with
The Ministry of Electronic Industries of the Jiangsu Province, a provincial
agency of the People's Republic of China (the "Agency"). Under the provisions of
a joint venture agreement, the Company may be required to contribute up to an
aggregate of $5,400 in cash to the Joint Venture and is required to provide it
with non-exclusive licenses to technologies and certain distribution rights. The
Agency is required to contribute certain land use rights and provide other
services to the Joint Venture. As of December 31, 1997, the Company had
contributed an aggregate of $1,800 in cash to the Joint Venture and provided it
with non-exclusive licenses to technologies and certain distribution rights and
the Agency had contributed certain land use rights. The Company believes that
any future cash contributions required to be made to the Joint Venture will be
paid from its working capital or proceeds from additional financings, if any.
The Joint Venture is subject to the annual licensing requirements of the Chinese
government. The Joint Venture's business license expired on March 3, 1998 but
was extended to April 3, 1998 pending review of renewal documents. There can be
no assurance, however, that its license will be renewed beyond April 3, 1998.
The failure of the Joint Venture
29
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
2. CHINESE JOINT VENTURE (CONTINUED)
to receive a renewal of its license may adversely affect the Company's ownership
interests in the Joint Venture.
3. DEBT
In May 1997, the Company purchased office furniture and a security system
with an approximate value of $209 from a third party. The Company paid $100 in
cash and signed an unsecured note for $109 due in monthly installments through
May 1998. The note bears interest on the unpaid balance at a rate of 10% per
annum. At December 31, 1997, $65 was outstanding under this note.
In October 1997, the Company entered into an accounts receivable financing
agreement under which the Company has the ability to factor its accounts
receivable in accordance with the terms of the agreement. The maximum credit
available to the Company under the agreement is $1,500, with an advance rate of
80% of the eligible accounts receivable which are less than 90 days old. The
term of the agreement is twelve months with annual renewals. A financing fee of
2.1% per month applies to the outstanding balance based on the face value of
each invoice. The line of credit is secured by a blanket first priority lien on
all Company assets with the exception of intellectual property. As of December
31, 1997, the Company had financed approximately $425 of its accounts receivable
under this agreement and had approximately $1,075 of additional financing
available. The amounts financed on accounts receivable at December 31, 1997 were
repaid in cash in January 1998.
4. STOCKHOLDERS' EQUITY
PRIVATE PLACEMENT
In June 1996, the Company completed a private placement (the "June Private
Placement") of 600 shares of the Company's Common Stock, at a price of $4.50 per
share to certain institutional and other investors (collectively, the
"Subscribers"). The net proceeds to the Company were approximately $2,408, net
of cash issuance costs of $181 and $111 of value ascribed to 30 warrants to
purchase common stock issued to the placement agent in the June Private
Placement. The warrants expire five years from the date of issuance and have an
exercise price of $4.50 per share, subject to adjustments for anti-dilution. The
fair value ascribed to the warrants was estimated on the date of issuance using
the Black-Scholes pricing model with the following assumptions: risk-free
interest rate of 6.69%; expected life of 5 years; expected volatility of 102%;
and expected dividend yield of 0%. The Company agreed to register the securities
which were issued in conjunction with the June Private Placement and which may
be issued upon exercise of the placements agent's warrants. The Registration
Statement on Form S-3 filed by the Company to effect the registration of these
securities was declared effective on December 24, 1996 (the "Effective Date").
Pursuant to the June Private Placement agreement, the Company agreed to
issue additional shares (the "Extra Shares") of its common stock to the
Subscribers if the average of the daily closing prices of the Company's Common
Stock for the twenty business days prior to two business days before the
Effective Date was less than $4.50 per share. In December 1996, the Company
issued 196 Extra Shares for no additional consideration to the Subscribers who
did not exchange shares of Common Stock which they purchased in the private
placement for the Company's Series A Preferred Stock (as defined below). The
Registration Statement on Form S-3 filed by the Company in connection with the
June Private Placement also effected the registration of the Extra Shares.
30
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
CONVERTIBLE PREFERRED STOCK
In December 1996, the Company completed a private placement (the "December
Private Placement") of 450 shares of redeemable convertible preferred stock (the
"Series A Preferred Stock") at $25.00 per share to certain institutional and
other investors. Of the aggregate 450 shares sold, 70 shares of Series A
Preferred Stock were issued in exchange for 390 shares of common stock
originally issued in the June Private Placement. The net proceeds to the Company
from the remaining 380 shares of Series A Preferred Stock sold were
approximately $7,662, net of cash issuance costs of $1,100 and $733 of value
ascribed to 338 warrants to purchase common stock issued to the placement agent.
The warrants expire five years from the date of issuance and have an exercise
price of $2.50 per share, subject to adjustment for anti-dilution. The fair
value ascribed to the warrants was estimated on the date of issuance using the
Black-Scholes pricing model with the following assumptions: risk-free interest
rate of 6.07%; expected life of 5 years; expected volatility of 104%; and
expected dividend yield of 0%.
On March 28, 1997, and effective as of December 31, 1996, holders
constituting 100% of the issued and outstanding Series A Preferred Stock
executed a waiver to certain provisions of the Registration Rights Agreement
(the "Agreement") entered into in connection with the December 1996 Private
Placement. Under the waiver, these holders irrevocably waived any redemption
obligations of the Company with respect to the Series A Preferred Stock in
exchange for the issuance to such holders of 300 warrants to purchase the
Company's common stock, allocated amongst the holders on a pro-rata basis. The
warrants expire five years from the date of issuance and have an exercise price
of $2.00 per share, subject to adjustment for anti-dilution. The Company has
ascribed a value of $484 to these warrants, which was recorded as an expense in
the Company's statement of operations during the first quarter of 1997. The fair
value ascribed to the warrants was estimated on the date of issuance using the
Black-Scholes pricing model with the following assumptions: risk-free interest
rate of 6.60%; expected life of 5 years; expected volatility of 104%; and
expected dividend yield of 0%. As a result of the aforementioned waiver, the
shares of Series A Preferred Stock which were classified as redeemable
securities at December 31, 1996 were reclassified as convertible preferred stock
at March 31, 1997 and, as such, are included in stockholders' equity at December
31, 1997.
On November 26, 1997, the Company completed a private placement of 240
shares of Series B Preferred Stock (the "November Private Placement") at $25.00
per share to certain investors. The net proceeds to the Company from the sale of
the 240 shares of Series B Preferred Stock was approximately $5,859, net of cash
issuance costs of $141.
OPTIONAL AND AUTOMATIC CONVERSION. Each share of Series A Preferred Stock
and Series B Preferred Stock is convertible by the holder into shares of the
Company's common stock at any time. In addition, all outstanding Series A
Preferred Stock will be automatically converted into shares of Common Stock on
December 31, 1999, subject to the satisfaction of certain conditions and events
by the Company, or later under certain circumstances. All outstanding shares of
Series B Preferred Stock will be automatically converted into shares of Common
Stock on November 25, 2000, or at the Company's option, up to one year later.
The number of shares of Common Stock to be issued upon conversion of the
Series A Preferred Stock is determined by dividing (i) the sum of $25.00
multiplied by the number of shares being converted, plus accrued and unpaid
dividends and any unpaid default payments thereon, by (ii) a conversion price
which is
31
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
approximately 72% of the then applicable market price of the Company's Common
Stock (the "Conversion Price"). As a consequence, the effect of this beneficial
conversion rate, determined as being the difference between the lowest possible
conversion rate at December 31, 1996 and the fair value of the Common Stock at
that date is deemed to be a benefit to the holders of the Series A Preferred
Stock earned over the period from issuance through July 1, 1997, the date on
which the Series A Preferred Stock first became convertible.
The number of shares of Common Stock to be issued upon conversion of the
Series B Preferred Stock is determined by dividing (i) the sum of $25.00
multiplied by the number of shares being converted, plus accrued and unpaid
dividends and any unpaid default payments thereon, by (ii) a conversion price
equal to the lower of (a) the average market price of the Common Stock, or (b)
$1.59 per share. The average market price generally means the average of the
daily closing prices of the Common Stock for the three consecutive trading days
prior to the conversion date.
DIVIDENDS. Each holder of outstanding shares of the Series A Preferred
Stock and Series B Preferred Stock is entitled to receive, out of funds legally
available therefor, cumulative dividends on each share at the rate of $1.25 per
share per annum, compounded semi-annually and quarterly, respectively, when
payable (whether or not declared). The dividends may be paid in cash or
additional shares of preferred stock (with each additional share valued at
$25.00 per share), at the Company's option. Dividends must be paid on the Series
A Preferred Stock and Series B Preferred Stock prior to any dividends being paid
on any other class of stock ranking junior thereto. If any cash dividend is
declared and paid in cash to the holders of the Series B Preferred Stock, then
the Company must give notice to the holders of the Series A Preferred Stock of
such fact, and the holders of the Series A Preferred Stock will have the right
to elect to receive their next dividend payment in cash. No dividends on Common
Stock were declared or paid by the Board through December 31, 1997.
COMMON STOCK OPTIONS
The Company adopted two stock option plans in 1991 (the 1991 Stock Option
Plan and the 1991 Non-discretionary Plan, collectively, the "1991 Plans").
Incentive and non-qualified options under the 1991 plans may be granted to
employees, officers, and consultants of the Company. As amended, there are 2,050
shares of common stock authorized for issuance under the 1991 plans.
In conjunction with the approval of the Company's plan of reorganization,
the Company adopted the 1994 Stock Option Plan (the "1994 Plan"). The 1994 Plan
allows directors, officers and employees to be eligible for grants of incentive
and non-qualified stock options. In May 1997, the stockholders approved an
increase of 1,000 shares to the number of shares authorized for issuance under
the 1994 Plan. Accordingly, a total of 6,000 shares of common stock are
authorized for issuance under the 1994 Plan. The exercise prices of options
under the 1994 Plan are determined by a committee of the Board of Directors,
but, in the case of an incentive stock option, the exercise price may not be
less than 100% of the fair market value of the underlying common stock on the
date of grant. Non-qualified options may not have an exercise price of less than
85% of the fair market value of the underlying common stock on the date of
grant. Options generally vest over four years. For those options which vest over
four years, 20% of the total options granted vest on the first anniversary of
the date of grant, and an additional 20%, 20%, and 40% of the total options
granted vest on the second, third, and fourth anniversaries of the date of
grant, respectively. Options are generally exercisable over a period not to
exceed seven years.
32
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
In May 1994, the Board of Directors approved a resolution to reprice
outstanding stock options. The repricing occurred on July 11, 1994, resulting in
the cancellation of 1,029 original options and the granting of an equivalent
number of new options at an exercise price of $0.50 per share, the then current
price of the common stock. Other than the change in the exercise price, the new
options were granted on the same terms and conditions as the canceled options.
In December 1994, for services rendered prior to and during the Company's
Chapter 11 proceedings, options to purchase 180 shares of common stock at $0.50
per share were granted to three directors of the Company under non-plan option
agreements. In addition, a non-plan option to purchase 100 shares of common
stock at $0.50 per share was granted on December 28, 1994 to a newly elected
director and Chairman of the Finance Committee. The non-plan options generally
vest over four years. For those non-plan options which vest over four years, 20%
of the total non-plan options granted vest on the first anniversary of the date
of grant and an additional 20%, 20%, and 40% of the total non-plan options
granted vest on the second, third, and fourth anniversaries of the date of
grant, respectively. Non-plan options are generally exercisable over a period
not to exceed seven years. As of December 31, 1997, 545 non-plan options were
outstanding with a remaining contractual life of 3.9 years and a weighted
average exercise price of $0.65 per share. Of such non-plan options, 358 were
exercisable at December 31, 1997 with a weighted average exercise price of $0.50
per share. The newly elected director also received an option, vesting one year
from date of grant, to purchase 50 shares of common stock at an exercise price
of $0.50 per share pursuant to the Company's 1991 Non-discretionary Plan.
On June 1, 1994, the Company negotiated with employees to reduce their
salaries through August 31, 1994. Those employees who agreed to continue their
employment at the reduced wage were granted certain option rights to purchase
common stock (the "Options"). Options to purchase 2,210 shares of common stock
were granted at an average exercise price of $0.57 per share under this
arrangement, of which 377 Options were granted to officers under the 1991 Stock
Option Plan, with the remaining Options granted outside of the plan. The Options
were immediately exercisable and have a term of seven years from the date of
grant. As of December 31, 1997, 29 Options had been exercised at a weighted
average exercise price of $0.58 per share and 22 Options with a weighted average
exercise price of $0.83 per share had been forfeited. The following table
summarizes information about the Options outstanding and exercisable at December
31, 1997 which were granted outside of the 1991 Stock Option Plan:
WEIGHTED AVERAGE
--------------------------------
OPTIONS REMAINING
OUTSTANDING AND CONTRACTUAL
RANGE OF EXERCISE PRICES EXERCISABLE LIFE (YEARS) EXERCISE PRICE
- ------------------------------------------------ ------------------- --------------- ---------------
$0.30-$0.45..................................... 277 3.6 $ 0.34
$0.46-$0.69..................................... 169 3.6 $ 0.60
$0.70-$1.05..................................... 55 3.5 $ 0.81
$1.06-$1.14..................................... 48 3.5 $ 1.14
---
549
---
---
33
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
Information with respect to the Company's 1984 Plan, the 1991 Plans and the
1994 Plan is summarized below:
YEAR ENDED DECEMBER 31,
--------------------------------------------------------
1997 1996
---------------------------- --------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
SHARES EXERCISE PRICE SHARES EXERCISE PRICE
----------- --------------- --------- ---------------
Outstanding at beginning of period................. 5,022 $ 0.98 5,655 $ 0.54
Granted............................................ 1,540 $ 1.66 891 $ 3.00
Exercised.......................................... (295) $ 0.51 (1,070) $ 0.52
Forfeited.......................................... (251) $ 1.63 (454) $ 0.50
----- ---------
Outstanding at period end.......................... 6,016 $ 1.15 5,022 $ 0.98
----- ---------
----- ---------
Options exercisable at period end.................. 2,666 $ 0.79 2,001 $ 0.66
----- ---------
----- ---------
Weighted average grant-date fair value of options
granted during the period........................ $ 1.29 $ 2.14
----- ---------
----- ---------
The following table summarizes information about employee and director stock
options outstanding under the 1984 Plan, the 1991 Plans and the 1994 Plan at
December 31, 1997:
WEIGHTED AVERAGE
--------------------------------------------
OPTIONS REMAINING
RANGE OF EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE (YEARS) EXERCISE PRICE
- ----------------------------------------- ------------- --------------------------- ---------------
$0.50.................................... 3,452 3.7 $ 0.50
$0.51-$2.00.............................. 1,261 6.5 $ 1.31
$2.01-$2.99.............................. 708 6.0 $ 2.46
$3.00.................................... 575 5.6 $ 3.00
$3.01-$6.20.............................. 20 5.1 $ 3.66
-----
6,016
-----
-----
The following table summarizes information about employee and director stock
options exercisable under the 1984 Plan, the 1991 Plans and the 1994 Plan at
December 31, 1997:
WEIGHTED
OPTIONS AVERAGE
RANGE OF EXERCISE PRICES EXERCISABLE EXERCISE PRICE
- ------------------------------------------------------------------ ------------- ---------------
$0.50............................................................. 2,230 $ 0.50
$0.51-$2.00....................................................... 144 $ 0.91
$2.01-$2.99....................................................... 93 $ 2.60
$3.00............................................................. 179 $ 3.00
$3.01-$6.20....................................................... 20 $ 3.66
-----
2,666
-----
-----
34
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
Had compensation cost for the Company's option plans been determined based
on the fair value of the options at the date of grant, as prescribed by SFAS
123, the Company's net loss applicable to common stockholders and basic and
diluted loss per share would have been as follows:
YEAR ENDED DECEMBER
31,
---------------------
1997 1996
---------- ---------
Net loss
As reported...................................................... $ (16,940) $ (6,356)
Pro forma........................................................ $ (18,024) $ (6,840)
Basic and diluted loss per share
As reported...................................................... $ (0.37) $ (0.15)
Pro forma........................................................ $ (0.40) $ (0.17)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions used for grants during the applicable period; risk-free interest
rate of 6.2% for options granted during the year ended December 31, 1997 and
6.6% for options granted during the year ended December 31, 1996; an expected
life of 5 years and 4 years for the years ended December 31, 1997 and 1996,
respectively; expected volatility of 100% for both periods and dividend yield of
0% for both periods. Because options generally vest over four years and the
Company expects to make additional option grants each year, the Company believes
that the above pro forma disclosures are not representative of the pro forma
effects on reported results of operations to be expected in future periods.
WARRANTS
In December 1994, a director of the Company was granted warrants to purchase
100 shares of common stock at $0.50 per share. The warrants were granted in
connection with a bridge loan. The warrants to purchase 100 shares of common
stock were exercised in December 1996.
In September 1994, in connection with a $1,000 bridge loan provided to the
Company by an investor (who became a director), the Company granted to the
investor warrants to purchase 2,000 shares of common stock at an exercise price
of $0.50 per share. In January 1997, the Company issued approximately 1,686
shares of common stock in connection with the net exercise of the warrants by
the investor's assignee.
In June 1995, the Company entered into a financing agreement with the
investor providing for loans to the Company of up to $2,500. Upon signing the
agreement, the Company issued to the investor 625 warrants to purchase common
stock, and, in each month in which the loan was available, the Company was
obligated to issue to the investor 156 warrants to purchase shares of common
stock. Under the financing agreement, a total of 1,563 warrants to purchase
common stock were issued to the investor at an exercise price of $1.00 per
share. In January 1997, the Company issued approximately 1,073 shares of common
stock in connection with the investor's net exercise of the aforementioned
warrants.
On March 28, 1997, and effective as of December 31, 1996, holders
constituting 100% of the issued and outstanding shares of Series A Preferred
Stock executed a waiver to certain provisions of the registration rights
agreement (the "Agreement") entered into in connection with the December 1996
Private Placement. Under the waiver, these holders irrevocably waived any
redemption obligation of the
35
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
4. STOCKHOLDERS' EQUITY (CONTINUED)
Company with respect to its Series A Preferred Stock in exchange for the
issuance to the holders of 300 warrants to purchase the Company's common stock,
allocated amongst the holders on a pro-rata basis. The warrants expire five
years from the date of issuance and have an exercise price of $2.00 per share,
subject to adjustment for anti-dilution. The Company has ascribed a value of
$484 to these warrants, which was recorded as an expense in the Company's
statement of operations during the first quarter of 1997. The fair value
ascribed to the warrants was estimated on the date of issuance using the
Black-Scholes pricing model with the following assumptions: risk-free interest
rate of 6.60%; expected life of 5 years; expected volatility of 104%; and
expected dividend yield of 0%. As a result of the aforementioned waiver, the
shares of Series A Preferred Stock which were classified as redeemable
securities at December 31, 1996 were reclassified as convertible preferred stock
at March 31, 1997 and, as such, are included in stockholders' equity at December
31, 1997.
Warrants to purchase 905 shares of common stock were outstanding as of
December 31, 1997, and have a weighted average remaining contractual life of 3.8
years and a weighted average exercise price of $2.27 per share.
As of December 31, 1997, 8,014 shares of common stock were reserved for
issuance upon exercise of outstanding options and warrants on that date.
5. RELATED PARTY TRANSACTIONS
In April 1994, the Company loaned $210 to the Company's then Chief Executive
Officer in exchange for a note, secured by shares of the Company's Common Stock,
bearing interest at the highest marginal rate per annum applicable to the
Company's borrowings or the highest rate allowable by law (10% per annum at
December 31, 1997).
During 1997, a director of the Company increased his time commitment to the
Company for which he received $150 in 1997, including fees for office expenses.
The Company paid the same director $100 in consulting fees in 1996 and $100 in
placement fees in 1995.
36
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
6. COMMITMENTS
OPERATING LEASE COMMITMENTS
The Company currently leases its principal facilities (the "Principal
Offices"), consisting of approximately 11,717 square feet, in Redwood Shores,
California, pursuant to a sub-lease that expires in 2001. In addition, the
Company sub-leases to third parties approximately 6,000 square feet of space
near the Principal Offices and is attempting to sub-let an additional 2,200
square feet. The Company originally leased the additional space in 1997 in order
to accommodate additional personnel hired by the Company in the last three
months of 1996 in connection with its increased marketing activities. Due to the
Company's current business strategy and other cost reduction programs, the
additional space is not required at this time. The Joint Venture leases
approximately 1,000 square feet in Nanjing, China. In addition to monthly rent,
the U.S. facilities are subject to additional rental payments for utilities and
other costs above the base amount. Facilities rent expense was approximately
$892, $346 and $224 in 1997, 1996, and 1995, respectively. Sublease income was
approximately $128 for the year ended December 31, 1997.
Future minimum lease payments under noncancelable operating leases are
approximately $617, $603, $620 and $558 for the years ending December 31, 1998,
1999, 2000, and 2001, respectively. The Company's rent expense is expected to be
reduced by approximately $167 in 1998 in connection with the subleases described
above. Future minimum payments required under capital leases, which expire in
1998, are insignificant at December 31, 1997.
7. INCOME TAXES
As of December 31, 1997, the Company had federal net operating loss
carryforwards available to reduce taxable income through 2012 of approximately
$45,000. The Company also had federal research and investment tax credit
carryforwards of approximately $323 which expire at various dates through 2010.
Deferred tax assets and liabilities at December 31, consist of the
following:
1997 1996
--------- ---------
Deferred tax assets:
Net operating loss carryforwards......................................... $ 15,459 $ 14,362
Credit carryforwards..................................................... 323 368
Deferred income.......................................................... 149 682
Other, net............................................................... 1,142 758
--------- ---------
Total deferred tax assets................................................ 17,073 16,170
--------- ---------
17,073 16,170
Valuation allowance...................................................... (17,073) (16,170)
--------- ---------
Net deferred tax assets.................................................. $ -- $ --
--------- ---------
--------- ---------
A full valuation allowance has been established for the Company's net
deferred tax assets since the realization of such assets through the generation
of future taxable income is uncertain.
Under the Tax Reform Act of 1986, the amounts of, and the benefit from, net
operating losses and tax credit carryforwards may be impaired or limited in
certain circumstances. These circumstances include, but are not limited to, a
cumulative stock ownership change of greater than 50%, as defined, over a three
year
37
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
7. INCOME TAXES (CONTINUED)
period. During 1997, the Company experienced stock ownership changes which could
limit the utilization of its net operating loss and research and investment tax
credit carryforwards in future periods.
8. FOREIGN OPERATIONS
The Company's export sales were 40%, 7%, and 6% of total revenues in 1997,
1996, and 1995, respectively. The increase in export sales is due to the
recognition as revenue of deferred royalties from foreign customers for which
the Company has no further obligation to provide additional software or
services. Information regarding foreign operations for the year ended December
31, 1997 is as follows:
UNITED
STATES JAPAN CHINA ELIMINATIONS TOTAL
------------ --------- --------- ------------ ----------
YEAR ENDED DECEMBER 31, 1995
Sales to unaffiliated customers........................ $ 1,515 $ 49 $ 755 $ (5) $ 2,314
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Intercompany transfers................................. $ -- $ -- $ -- $ -- $ --
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Loss from operations................................... $ (5,061) $ (387) $ (142) $ 56 $ (5,534)
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Identifiable assets.................................... $ 19,438 $ 234 $ 1,654 $ (11,550) $ 9,776
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
YEAR ENDED DECEMBER 31, 1996
Sales to unaffiliated customers........................ $ 1,389 $ 11 $ 1,497 $ (10) $ 2,887
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Intercompany transfers................................. $ -- $ -- $ -- $ -- $ --
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Loss from operations................................... $ (6,060) $ (370) $ (116) $ 11 $ (6,535)
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Identifiable assets.................................... $ 23,676 $ 224 $ 1,451 $ (11,848) $ 13,503
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
YEAR ENDED DECEMBER 31, 1997
Sales to unaffiliated customers........................ $ 4,128 $ 1 $ 1,476 $ (89) $ 5,516
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Intercompany transfers................................. $ -- $ -- $ -- $ -- $ --
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Loss from operations................................... $ (10,840) $ (723) $ (18) $ (46) $ (11,627)
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
Identifiable assets.................................... $ 19,698 $ 10 $ 3,799 $ (16,016) $ 7,491
------------ --------- --------- ------------ ----------
------------ --------- --------- ------------ ----------
38
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
9. STATEMENT OF CASH FLOWS DATA
DECEMBER 31,
-------------------------------
1997 1996 1995
--------- --------- ---------
Schedule of non-cash transactions:
Conversion of redeemable convertible preferred stock into Series A Preferred
Stock............................................................................ $ 9,417 $ -- $ --
--------- --------- ---------
--------- --------- ---------
Issuance of warrants to purchase common stock in connection with the June and
December Private Placements...................................................... $ -- $ 844 $ --
--------- --------- ---------
--------- --------- ---------
Common stock exchanged for redeemable convertible preferred stock in the December
Private Placement................................................................ $ -- $ 1,755 $ --
--------- --------- ---------
--------- --------- ---------
Issuance of common stock in exchange for pre-petition liabilities.................. $ -- $ -- $ 188
--------- --------- ---------
--------- --------- ---------
Supplemental disclosure of cash flow information:
Interest paid in 1997, 1996, and 1995 was $106, $215, and $154, respectively.
10. PROFORMA PRESENTATION OF 1996 STOCKHOLDERS' EQUITY
On March 28, 1997, and effective as of December 31, 1996, holders
constituting 100% of the issued and outstanding shares of Series A Preferred
Stock executed a waiver to certain provisions of the Registration Rights
Agreement (the "Agreement") entered into in connection with the December Private
Placement, which irrevocably waived such holders' rights to any redemption (see
Note 4) in exchange for the issuance to the holders of 300 warrants to purchase
the Company's common stock, allocated amongst the holders on a pro-rata basis.
Unaudited pro forma stockholders' equity at December 31, 1996, adjusted to
reflect the reclassification of redeemable convertible preferred stock to
convertible preferred stock and the issuance of the related warrants, is as
follows:
HISTORICAL ADJUSTMENTS PRO FORMA
----------- ----------- -----------
Redeemable convertible preferred stock....................................... $ 9,417 $ (9,417) $
----------- ----------- -----------
Stockholders' equity (deficit)
Convertible preferred stock................................................ -- 5 5
Common stock............................................................... 419 -- 419
Additional paid-in capital................................................. 54,015 9,896 63,911
Accumulated deficit........................................................ (54,347) (484) (54,831)
Cumulative foreign currency translation adjustment......................... (169) -- (169)
----------- ----------- -----------
Total stockholders' equity (deficit)......................................... $ (82) $ 9,417 $ 9,335
----------- ----------- -----------
----------- ----------- -----------
39
COMMUNICATION INTELLIGENCE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
11. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS
130"). SFAS 130 establishes standards for the reporting of comprehensive income
and its components in a full set of general-purpose financial statements for
periods beginning after December 15, 1997. Reclassification of financial
statements for earlier periods for comparative purposes is required. The Company
will adopt SFAS 130 in 1998 and does not expect such adoption to have a material
effect on its consolidated financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures About Segments of An
Enterprise and Related Information" ("SFAS 131"). SFAS 131 revises information
regarding the reporting of operating segments and is required to be adopted in
periods beginning after December 15, 1997. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. The Company will adopt SFAS 131 in 1998 and does not expect such
adoption to have a material effect on its consolidated financial statements.
In October 1997, the Accounting Standards Executive Committee of The
American Institute of Certified Public Accountants issued Statement of Practice
97-2 "Software Revenue Recognition" ("SOP 97-2"). SOP 97-2 provides guidance on
generally accepted accounting principles for recognition of revenue on software
transactions. This SOP supersedes SOP 91-1 and is effective for fiscal years
beginning after December 15, 1997. The Company will adopt SOP 97-2 in 1998 and
does not expect such adoption to have a material effect on its consolidated
financial statements.
40
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On August 2, 1996, the Company received a letter from KPMG Peat Marwick LLP
("Peat Marwick") stating that it was resigning as auditor of the Company. Peat
Marwick advised the Company that it was resigning as the Company's auditor
following discussions between Peat Marwick and the Staff of the Securities and
Exchange Commission regarding the independence of Peat Marwick in light of the
consulting services provided to the Company at that time by KPMG BayMark Capital
LLC.
In connection with the audit conducted in respect of the year ended December
31, 1995, and during subsequent periods through August 2, 1996, there were no
disagreements between the Company and Peat Marwick on any matter of accounting
principles or practices, financial statement disclosure, auditing scope or
procedures, which disagreements, if not resolved to their satisfaction, would
have caused them to make reference in connection with their opinion to the
subject matter of the disagreement. In addition, the audit report of Peat
Marwick on the consolidated financial statements of the Company as of and for
the year ended December 31, 1995 did not contain any adverse opinion or
disclaimer of opinion, nor was it qualified or modified as to uncertainty, audit
scope or accounting principles.
On August 14, 1996, the Company retained Price Waterhouse LLP ("PW") as the
Company's independent accountants to audit the Company's financial statements.
During the two years ended December 31, 1995 and during the subsequent period
ended August 14, 1996, neither the Company nor anyone on its behalf consulted PW
regarding (i) the application of accounting principles to any transaction,
either completed or proposed, or (ii) the type of audit opinion that might be
rendered by PW on the Company's financial statements.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information with respect to this Item is incorporated herein by reference to
the Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders expected to be held on June 1, 1998.
ITEM 11. EXECUTIVE COMPENSATION
Information with respect to this Item is incorporated herein by reference to
the Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders expected to be held on June 1, 1998.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information with respect to this Item is incorporated herein by reference to
the Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders expected to be held on June 1, 1998.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information with respect to this Item is incorporated herein by reference to
the Company's definitive proxy statement with respect to its Annual Meeting of
Stockholders expected to be held on June 1, 1998.
41
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
INDEX TO FINANCIAL STATEMENTS
PAGE
-----
(a)(1) Financial Statements
Report of Price Waterhouse LLP, Independent Accountants........................................... 19
Consolidated Balance Sheets at December 31, 1997 and 1996......................................... 20
Consolidated Statements of Operations for the years ended December 31, 1997, 1996, and 1995....... 21
Consolidated Statements of Changes in Stockholders' Equity (Deficit) for the years ended December
31, 1997, 1996 and 1995......................................................................... 22
Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995........ 23
Notes to Consolidated Financial Statements........................................................ 24
(a)(2) Financial Statement Schedule
Schedule II--Valuation and Qualifying Accounts and Reserves....................................... S-1
(b) Reports on Form 8-K
In December 1997, the Company filed a current report on Form 8-K dated
November 3, 1997, reporting the consummation of the private placement of 240,000
shares of Series B Preferred Stock and the appointment of its new President and
COO.
(c) Exhibits
EXHIBIT
NUMBER DOCUMENT
- --------- -------------------------------------------------------------------------------------------------------
2.0 Second Amended Plan of Reorganization of the Company, incorporated herein by reference to the Company's
Form 8-K filed October 24, 1994.
2.1 Orderly Liquidation Valuation, Exhibit F to the Second Amended Plan of Reorganization, incorporated
herein by reference to the Company's Form 8-K filed October 19, 1994.
2.2 Order Confirming Plan of Reorganization, incorporated herein by reference to the Company's Form 8-K
filed November 14, 1994.
3.1 Certificate of Incorporation of the Company, as amended, incorporated herein by reference to Exhibits
3.1, 3.2, 3.3 and 3.4 to the Company's Registration Statement on Form 10 (File No. 0-19301).
3.2 Certificate of Amendment to the Company's Certificate of Incorporation (authorizing the
reclassification of the Class A Common Stock and Class B Common Stock into one class of Common Stock)
as filed with the Delaware Secretary of State's office on November 1, 1991, incorporated herein by
reference to Exhibit 3 to Amendment 1 on Form 8 to the Company's Form 8-A (File No. 0-19301).
3.3 By-laws of the Company adopted on October 6, 1986, incorporated herein by reference to Exhibit 3.5 to
the Company's Registration Statement on Form 10 (File No. 0-19301).
4.1 1984 Stock Option Plan of the Company, as amended and restated as of October 15, 1987 and as amended by
resolutions of the stockholders of the Company passed on August 15, 1989 and October 8, 1990 to
increase the aggregate shares covered thereby to 1,000,000, incorporated herein by reference to Exhibit
4.4 to the Company's Registration Statement on Form 10 (File No. 0-19301).
42
EXHIBIT
NUMBER DOCUMENT
- --------- -------------------------------------------------------------------------------------------------------
4.2 Form of Stock Option Grant under 1984 Stock Option Plan, incorporated herein by reference to Exhibit
4.5 to the Company's Registration Statement on Form 10 (File No. 0-19301).
4.3 1991 Stock Option Plan of the Company, incorporated herein by reference to Exhibit 4.5 of the Company's
Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.4 1991 Non-Discretionary Stock Option Plan, incorporated herein by reference to Exhibit 4.6 of the
Company's Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.5 Form of Incentive Stock Option Grant under 1991 Stock Option Plan, incorporated herein by reference to
Exhibit 4.7 of the Company's Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.6 Form of Non-Qualified Stock Option Grant under 1991 Stock Option Plan, incorporated herein by reference
to Exhibit 4.8 of the Company's Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.7 Form of Stock Option Grant under 1991 Non-Discretionary Stock Option Plan, incorporated herein by
reference to Exhibit 4.9 of the Company's Form S-1 dated December 23, 1991 (Registration No. 33-43879).
4.8 1994 Stock Option Plan, incorporated herein by reference to Exhibit G of the Company's Second Amended
Disclosure Statement filed on Form 8-K dated October 19, 1994 and approved by shareholders on November
14, 1994.
4.9 Form of Warrant of the Company dated March 28, 1997 issued in connection with the Waiver by and among
the Company and the signatories thereto, incorporated herein by reference to Exhibit 4.9 of the
Company's 1996 Form 10-K (File No. 0-19301).
10.1 License Agreement effective July 1, 1990 between the Company and NCR GmbH, incorporated herein by
reference to Exhibit 10.5 to the Company's Registration Statement on Form 10 (File No. 0-19301).
10.2 Description of Termination Agreement with James Dao, incorporated herein by reference to Exhibit 10.11
to the Company's Registration Statement on Form 10 (File No. 0-19301).
10.3 License Agreement dated October 1, 1991 between the Company and Samsung Electronics Co., Ltd.,
incorporated herein by reference to Exhibit 10.9 of the Company's Form S-1 dated December 23, 1991
(Registration No. 33-43879).
+10.4 License Agreement dated June 16, 1992 between the Company and NEC Corporation, incorporated herein by
reference to Exhibit 10.12 of the Company's 1992 Form 10-K (File No. 0-19301)
+10.5 Licensing and Development Agreement for Use and Marketing of Program Materials dated September 25, 1992
between the Company and International Business Machines Corporation, incorporated herein by reference
to Exhibit 10.13 of the Company's 1992 Form 10-K (File No. 0-19301)
+10.6 OEM License Agreement dated December 15, 1992 between the Company and Seiko-Epson Corporation,
incorporated herein by reference to Exhibit 10.14 of the Company's 1992 Form 10-K (File No. 0-19301)
*10.7 OEM Agreement dated August 13, 1993 between CalComp, Inc. and the Company, incorporated herein by
reference to Exhibit 10.13 of the Company's 1993 Form 10-K (File No. 0-19301)
10.8 Standby Stock Purchase Agreement between the Company and Philip Sassower dated October 3, 1994,
incorporated herein by reference to Exhibit 10.13 of the Company's 1994 Form 10-K (File No. 0-19301)
10.9 Engagement Letter between the Company and Libra Investments, Inc. dated November 2, 1995, incorporated
herein by reference to Exhibit 1 of the Company's Form 8-K dated November 28, 1995.
43
EXHIBIT
NUMBER DOCUMENT
- --------- -------------------------------------------------------------------------------------------------------
10.10 Form of Subscription Agreement between the Company and the Purchasers, dated November 28, 1995,
incorporated herein by reference to Exhibit 1 of the Company's Form 8-K dated November 28, 1995.
10.11 Form of Registration Rights Agreement between the Company and the Purchasers, dated November 28, 1995,
incorporated herein by reference to Exhibit 1 of the Company's Form 8-K dated November 28, 1995.
10.12 Form of Warrant of the Company issued to Libra Investments, Inc. on November 28, 1995, incorporated
herein by reference to Exhibit 1 of the Company's Form 8-K dated November 28, 1995.
10.13 Form of Registration Rights Agreement between the Company and Libra Investments, Inc., dated November
28, 1995, incorporated herein by reference to Exhibit 1 of the Company's Form 8-K dated November 28,
1995.
10.14 Form of Subscription Agreement between the Company and various investors, dated June 13, 1996,
incorporated herein by reference to Exhibit 1 of the Company's Form 8-K dated June 27, 1996.
10.15 Form of Registration Rights Agreement between the Company and various investors, dated June 13, 1996,
incorporated herein by reference to Exhibit 2 of the Company's Form 8-K dated June 27, 1996.
10.16 Form of Preferred Stock Investment Agreement, dated as of December 31, 1996, between the Company and
the investors listed on Schedule 1 thereto, incorporated herein by reference to Exhibit 1 of the
Company's Form 8-K dated December 31, 1996.
10.17 Form of Registration Rights Agreement between the Company and the Investors Listed on Schedule 1
thereto, incorporated herein by reference to Exhibit 2 of the Company's Form 8-K dated December 31,
1996.
10.18 Form of Certificate of Designation of the Company with respect to the 5% Cumulative Convertible
Preferred Stock, incorporated herein by reference to Exhibit 3 of the Company's Form 8-K dated December
31, 1996.
10.19 Waiver, dated March 26, 1997, effective December 31, 1996, by and among the Company and the signatories
thereto, incorporated herein by reference to Exhibit 10.19 of the Company's 1996 Form 10-K (File No.
0-19301).
10.20 Form of Subscription Agreement between the Company and each subscriber, dated as of November 25, 1997,
incorporated herein by reference to Exhibit 10.1 of the Company's Form 8-K dated December 3, 1997.
10.21 Certificate of Designations of the Company with respect to the Series B 5% Cumulative Convertible
Preferred Stock, incorporated herein by reference to Exhibit 10.2 of the Company's Form 8-K dated
November 13, 1997.
10.22 Form of Registration Rights Agreement, by and among the Company and the signatories thereto, dated as
of November 25, 1997, incorporated herein by reference to Exhibit 10.3 to the Company's Form 8-K dated
November 13, 1997.
21.1 Schedule of Subsidiaries incorporated herein by reference to Exhibit 21.1 of the Company's 1996 Form
10-K (File No. 0-19301).
**23.1 Consent of Price Waterhouse LLP, Independent Accountants (S-3).
**23.2 Consent of Price Waterhouse LLP, Independent Accountants (S-8).
**27.1 Financial Data Schedule.
- ------------------------
+ Confidential treatment of certain portions of this exhibit have been
previously granted pursuant to a request for confidentiality dated March 29,
1993, filed pursuant to the Securities Exchange Act of 1934.
* Confidential treatment of certain portions of this exhibit have been
previously granted pursuant to a request for confidentiality dated March 30,
1994, filed pursuant to the Securities Exchange Act of 1934.
** Filed herewith.
44
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, in the City of Redwood
Shores, State of California, on March 30, 1998.
COMMUNICATION INTELLIGENCE CORP.
By: /S/ GUIDO DIGREGORIO
-----------------------------------------
Guido DiGregorio
President and Chief Operating 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 Registrant
and in the capacities indicated on March 30, 1998.
SIGNATURE TITLE
- ------------------------------ ---------------------------
/s/ JAMES DAO Chairman of the Board and
- ------------------------------ Co-Chief Executive
James Dao Officer
Director, President and
/s/ GUIDO DIGREGORIO Chief Operating Officer
- ------------------------------ (Principal Executive
Guido DiGregorio Officer)
/s/ CRAIG M. HUTCHISON Controller
- ------------------------------ (Acting Principal Financial
Craig M. Hutchison and Accounting Officer)
/s/ PHILIP S. SASSOWER Director and Co-Chief
- ------------------------------ Executive Officer
Philip S. Sassower
/s/ DONALD R. SCHEUCH Director
- ------------------------------
Donald R. Scheuch
Director
- ------------------------------
Chien Bor Sung
45
SCHEDULE II
COMMUNICATION INTELLIGENCE CORPORATION
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
YEARS ENDED DECEMBER 31, 1995, 1996, 1997
(IN THOUSANDS)
BALANCE CHARGED TO BALANCE
AT BEGINNING COSTS AND AT END
OF PERIOD EXPENSE DEDUCTIONS OF PERIOD
--------------- ------------- ----------- -------------
Year ended December 31, 1995:
Accounts receivable reserves................................... $ 74 $ 96 $ (94) $ 76
--- ----- ----- ---
--- ----- ----- ---
Year ended December 31, 1996:
Accounts receivable reserves................................... $ 76 $ 74 $ (65) $ 85
--- ----- ----- ---
--- ----- ----- ---
Year ended December 31, 1997:
Accounts receivable reserves................................... $ 85 $ 195 $ (234) $ 46
--- ----- ----- ---
--- ----- ----- ---
S-1