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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] Annual report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 For the fiscal year
ended March 31, 2002 or
[ ] Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 For the transition period
from __________ to __________
Commission file number 0-19566
EARTH SEARCH SCIENCES, INC.
(Exact name of registrant as specified in its charter)
Utah 87-0437723
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1729 Montana Highway 35, Kalispell, Montana 59901
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (406) 751-5200
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock
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 statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. X
Aggregate market value of Common Stock held by non-affiliates of the
Registrant at March 31, 2002: $18,091,759. For purposes of this calculation,
officers and directors are considered affiliates.
Number of shares of Common Stock outstanding at August 9, 2002: 176,513,248
Documents incorporated by reference.
This Form 10-K consists of 60 pages, which includes exhibits.
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TABLE OF CONTENTS
PART I......................................................................3
Item 1 - Business..........................................................3
Item 2 - Properties ......................................................10
Item 3 - Legal Proceedings................................................10
Item 4 - Submission of Matters to a Vote of Security Holders..............10
PART II.......................................................................10
Item 5 - Market for the Registrant's Common Stock Equity and
Related Shareholder Matters....................................10
Item 6 - Selected Financial Data..........................................13
Item 7 - Management's Discussion and Analysis of Financial Condition
and Results of Operations......................................14
Item 7A- Quantitative and Qualitative Disclosures About Market Risk.......21
Item 8 - Financial Statements and Supplementary Data......................22
Item 9 - Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure.........................22
PART III......................................................................22
Item 10 - Directors and Executive Officers of the Registrant...............23
Item 11 - Executive Compensation...........................................24
Item 12 - Security Ownership of Certain Beneficial Owners and
Management.....................................................26
Item 13 - Certain Relationships and Related Transactions...................27
PART IV.......................................................................28
Item 14 - Exhibits, Financial Statement Schedules, and Reports on
Form 8-K.......................................................28
SIGNATURES....................................................................31
2
PART I
ITEM 1. BUSINESS
ORGANIZATION
Earth Search Sciences, Inc. (the Company) was incorporated in 1984 under
the laws of the state of Utah.
CORPORATE FOCUS
The Company's mission is to commercially exploit the science of remote
sensing in a wide variety of industries around the globe. The science of remote
sensing includes acquiring, processing and interpreting imagery of the earth
captured from instruments deployed on aircraft or satellites. The advantages of
airborne and satellite remote sensing over other methods of gathering visual
information are that data can be collected better, faster and cheaper over
larger areas including sites inaccessible from the ground. By collecting data at
different times, changes can be detected that may be due to significant natural
or man-made processes. Detection of such changes can assist in
environmental/land use management. Remote sensing instruments measure reflected,
visible and infrared sunlight from the earth's surface over a spectral range
seven times broader than the human eye can see. This collected data can then be
digitally analyzed using personal computers. The digitally analyzed imagery can
provide information useful to a wide range of industries such as, but not
limited to, natural resource development (including oil and mineral exploration,
fisheries and forestry), land use development, environmental remediation and
monitoring, agriculture (including vegetation stress analysis), disaster
assessment, marine sciences and military sciences.
ORIGINAL BUSINESS PLAN
The Company acquired an imagery database obtained from the utilization of
remote sensing instruments owned and operated by third parties in 1987 and 1991
for the purpose of mineral exploration. Based on an analysis of obtained
imagery, the Company procured mining patents and land leases and sought partners
to develop several prospective mining properties. The Company entered into
several arrangements with mining entities for the development of some of the
Company's properties, but none of those arrangements resulted in the development
of operating mines. Due to the lack of capital to fund advance royalties, due
diligence requirements associated with the Company's mining properties and
changes in mining laws which required increased and more timely due diligence
expenditures, the Company opted to release virtually all of its mining
properties starting in 1991. The Company completed this divesture in 1994.
In 1991, the Company was invited to participate in the Visiting
Investigator Program (VIP) sponsored by the National Aeronautics and Space
Administration (NASA). In the VIP program, the Company sought to compare the
benefits of using an Airborne Visible and Infra-Red Imaging Spectrometer
(AVIRIS), along with other less advanced instruments, in locating geologic areas
of interest in a test area in Nevada. The results of that program were published
in January 1993. As a result of its participation in the program, the Company
acquired a large amount of unprocessed imagery data.
3
The Company recognized the need to refine existing remote sensing
technology in order to improve the economics of commercial remote sensing
applications. The Company decided to use hyperspectral remote sensing
instruments which expand the image resolution and, thus, the usefulness of
acquired imagery. To achieve its goal, the Company undertook the development of
a miniaturized hyperspectral remote sensing instrument, Probe 1, which is
designed to be used with cost effective and easily available aircraft. This
instrument has become known for its accuracy, reliability, and cost
effectiveness with the addition of geo-rectification capabilities and continued
efforts to automate much of the original processing steps.
CURRENT BUSINESS PLAN
The Company is evolving from a mineral exploration and research and
development organization into a leading provider of remote sensing services for
its own mineral and hydrocarbon exploration purposes, as archive data for future
resale to a variety of users, as well as for third party customers. On June 1,
1997, the Company took delivery of the first Probe 1 instrument. In its first
full year of commercial operation, the Company developed markets and generated
revenue from multiple clients. In August of 1999, the Company took delivery of
its second Probe 1 instrument. Since June 1, 1997, the Company has collected and
currently owns a substantial archive of Probe 1 hyperspectral imagery from
Kazakhstan, Australia, British Columbia, Ontario, Quebec, Chile, Peru, Mexico,
California, Nevada, Arizona, Idaho, Montana, Wyoming, Texas, Louisiana, Florida
and Utah. At the present time, the value of this data archive has not been
independently appraised and its value is not reflected in the Company's
financial statements.
The Company believes cost effective hyperspectral remote sensing and
imagery processing has tremendous potential in various global applications and
markets. The current ASPRS/NASA TEN-YEAR INDUSTRY FORECAST
(http://www.asprs.org/news.html) indicates that the remote sensing market has
been growing at a rate of 13% per year and the hyperspectral portion of that
market will be 12% by 2006 and worth approximately $440 million. To ensure its
maximum exposure to this market, the Company is establishing subsidiaries to
focus on hyperspectral remote sensing applications, marketing, and distribution
in key industries. Each subsidiary will focus on a specific sector of commercial
remote sensing and have a management team with relevant skills and expertise.
The Company will provide an exclusivity license for each subsidiary, provide use
of the Company's hyperspectral instruments, provide processing support, and
provide marketing and management support to each subsidiary. This strategy
creates a ready market for the Company, as well as will pay the Company a
royalty from any resource development that occurs as a result of the
subsidiaries' use of the Company's instruments and technology. Additional
capital will be raised for each subsidiary by means of private placements or
public offerings.
To complement its Probe 1 technology, the Company in fiscal 2000 acquired
Space Technology Development Corporation (STDC) and its ownership of satellite
based imagery technology (discussed below). STDC was acquired to obtain
ownership of a difficult to obtain commercial satellite license and
hyperspectral data stream from a space based instrument. The combination of a
high-resolution airborne Probe 1 system and the lower resolution, larger area
coverage achieved by satellite based imagery can provide a powerful capability.
The use of aircraft to collect large areas of remote sensing imagery throughout
the world is an expensive and time-consuming task. Satellite gathered data will
allow remote sensing customers to gather
4
imagery from any large area around the world, including those areas which
currently are inaccessible due to restrictions by foreign governments. This
imagery can then be processed to determine if a closer look using the Company's
airborne instruments is necessary or desirable. The joint use of satellite and
airborne remote sensing instruments can combine economical large area imagery
collection by the satellite instrument and high-resolution imagery collection of
target areas by the airborne instruments.
The Company recognizes the fragmented nature of the remote sensing industry
and its composition by a majority of very small companies. The Company's
long-term strategic plan is to create partnerships, strategic alliances, mergers
or acquisitions as the most expeditious and cost-effective way to consolidate
commercial hyperspectral remote sensing collections and services.
The Company's near-term plans are to continue pursuing:
(1)contracts that produce revenues from the application of remote sensing;
(2) the development of additional miniaturized remote sensing instruments;
(3) the integration of other advanced technology exploration instruments
with the Probe1;
(4) the development of promising mineral, oil and gas properties in which
the Company has an equity interest, identifying such properties by
utilizing its existing imagery database or acquiring such data; and
(5) the marketing of archived raw data through Terranet Inc.
The negative events of 2001, including the stock market decline and the
events of September 11, 2001, left the Company in a tenuous highly leveraged
position. Efforts were made to reduce overhead as quickly as possible, even
though it may have been detrimental to some longer-term expansion plans. The
Company is now poised to focus on its core business, the collection and
processing of airborne hyperspectral data, in a very cost effective manner. The
Company will operate with minimizing overhead and improving cash flow as
priorities.
ACQUISITION OF STDC AND CURRENT STATUS
In fiscal 2000, the Company acquired STDC of Alexandria, Virginia. The
Company acquired all the outstanding shares of STDC in exchange for four million
shares of the Company's common stock and the option to purchase another four
million shares at exercise prices ranging from $0.50 to $5.00 per share. The
Company's management viewed the acquisition of STDC and the Naval Earth Map
Observer (NEMO) project (discussed below) as a way to advance its long-range
strategic plan to become a vertically integrated service provider for clients
requiring precise identification of materials on the earth's surface from
satellite, airborne and ground platform instruments.
The principal partner of STDC for the NEMO project is the Naval Research
Laboratory (NRL), which operates under the direction of the Chief of the Office
of Naval Research. The NRL will modify, assemble and test the satellite and
prepare it for launch.
NEMO is a high performance, highly sensitive imaging and information
generating satellite. NEMO is designed to collect large volumes of 30 or
60-meter resolution hyperspectral data to spectrally identify and characterize
objects and collected 5-meter resolution panchromatic data for precise visual
interpretation of the imagery. NEMO provides the potential for mapping all of
the earth's landmass with 5-m panchromatic, 30-m and/or 60-m hyperspectral data
over its three-year mission life. NEMO has a design life of 5 years. The
original intent of the
5
Navy was to have the imagery NEMO can collect, but without the expense of owning
and operating a satellite.
Of keen interest to the Navy and commercial clients is NEMO's unique
ability to characterize the littoral regions of the world (i.e., water and
coastline areas within 50 km of shore). Specific areas of interest to the Navy
include bathymetry, water clarity, currents, oil slicks, bottom type,
atmospheric visibility, tides, bioluminescence, beach characterization,
underwater hazards, total column atmospheric water vapor and detection and
mapping of sub-visible cirrus.
Over the past year the financial markets have been very wary of any
investment. Thus, the Company has been unable to complete funding of the NEMO
project based on the risks of a launch and the unproven potential for revenues
from a hyperspectral satellite.
In May 2002, the Company received notification from the Office of Naval
Research (ONR) indicating that the performance period for the agreement with the
Navy for the NEMO project had ended and that is was time to initiate close-out
procedures, account for the distribution of Federal funds under the agreement
and to account for and dispose of all real property and equipment acquired under
the agreement. Further, the Navy has requested an audited record of all
distributions of Federal Funds made under this agreement. Until the audit is
complete, the ONR has decided not to reimburse STDC for certain invoices for
subcontract and vendor costs on the NEMO program even though these costs were
approved by the Naval Research Laboratory and the ONR for payment with
government funds. As of March 31, 2002, the Company has $1,105,995 of
receivables on its balance sheet from the ONR, of which $808,401 are outstanding
as of the date of this filing. The Company believes that the ONR will make
payment of the remaining receivables as soon as the audit is complete.
For over 2 years, the ONR has repeatedly reassured the Company that at a
minimum it will receive a negotiated amount of tasking and data stream from the
instrument if it is completed and successfully launched for the significant time
and investment made by the Company in the NEMO program, for the critical space
segment hardware assets securitized by the Company, and the commercial remote
sensing license held by the Company. The Company has tried unsuccessfully to
obtain written confirmation of these assurances given by the ONR to Company
management. Further, the Company has attempted to meet with the ONR to discuss
options for going forward and its investment to date in the NEMO program. Thus
far the Company has been unable to arrange a meeting and has been advised by the
ONR that no meeting will occur until the audit as described above is performed.
SFAS 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED
ASSETS TO BE DISPOSED OF, and APB Opinion 30, REPORTING THE RESULTS OF
OPERATIONS - REPORTING THE EFFECTS OF DISPOSAL OF A SEGMENT OF A BUSINESS, AND
EXTRAORDINARY, UNUSUAL AND INFREQUENTLY OCCURRING EVENTS AND TRANSACTIONS, is
the applicable accounting guidance for potential impairment of long-lived
assets. Based on the guidance of SFAS 121 and since the Company as yet has not
been able to receive any written confirmation from the ONR and the ONR will not
meet with the Company until the audit is complete, the Company has effectively
no ability to value future oriented negotiated settlement on the NEMO program.
Without such documentation of value, the Company provided in 2002 a loss from
impairment of $13,010,364, the amount the Company was carrying in construction
in progress for the NEMO program (see Notes 4 and 5 to the financial
statements.)
6
Management firmly believes that the ONR will honor their informal
representations to the Company to discuss future options and negotiate with the
Company for its investment to date, security in space segment hardware, and
critical remote sensing license.
FORMATION OF INTELLISPHERE TECHNOLOGIES, INC.
The Company created Intellisphere Technologies, Inc. as a potential holding
company for investors into STDC and the NEMO project.
FORMATION OF PETRO PROBE, INC.
The Company formed Petro Probe, Inc. to identify and develop potential
hydrocarbon properties by utilizing Probe 1 imagery integrated with other
exploration techniques. Petro Probe, Inc.'s strategy will entail capturing data
over areas of interest that the Company may later take an equity interest in, as
well as the sale of hyperspectral imagery and processing services to oil and gas
properties owned by third party customers. A primary objective in evaluating a
potential hydrocarbon resource project is to provide geologic mapping of outcrop
lithology and surface structure. The Probe 1 instrument is an excellent tool to
obtain this mapping. Probe 1 imagery can identify subtle features due to
topographic offset, vegetation change and/or soil alteration that play a major
role in forming hydrocarbon traps. Hyperspectral imagery can also aid in
petroleum exploration by detecting surface indicators of potential petroleum
reserves such as micro seepage.
Petro Probe, Inc.'s goal is to develop the competitive advantages of Probe
1 resource mapping capability, combining this with conventional hydrocarbon
exploration tools and then applying newer value-added technology, such as 3D
seismic to identify and acquire equity positions in oil and gas properties. 3D
seismic is the technology of measuring explosions to map subsurface geologic
structures.
From it's inception in 2000 through March 31, 2002, Petro Probe, Inc. has
acquired working interests in seven oil and gas projects in the U.S. The first
project acquired was the Louisiana West Scott Field Prospect, where an oil well
has been drilled and logged based on data from Probe 1 as well as other
exploration measurements.
In fiscal 2002, wells were drilled on three of Petro Probe, Inc.'s projects
and were determined to be unsuccessful. Petro Probe, Inc.'s working interests in
its seven (7) oil and gas projects offer them the right to participate in
drilling additional wells on the project lease acreage. Petro Probe Inc. will
determine whether or not to participate in additional drilling efforts on a case
by case basis. In fiscal 2003, Petro Probe expects to participate in the
drilling efforts on four of the oil and gas projects.
In prior years, Petro Probe, Inc. has surveyed targets for
hydrocarbon exploration in the oil and gas basins of Greater Green River Basin,
Wyoming, Paradox Basin, Utah, Texas, Montana, Lousisana and the Australian Basin
and is proceeding to further evaluation.
7
FORMATION OF GEO PROBE, INC.
The Company formed Geo Probe, Inc. to pursue geologically tailored
hyperspectral imaging services to mineral exploration companies and develop new
markets in geological applications. The same indicators that can be used to find
mineral deposits can also be used to monitor the environmental impact of active
and past-producing mines, mills, smelters, refineries and pipelines. Mineral
deposits are part of larger geological systems that typically have mineralogical
zonations that are mappable using Probe 1 imagery. In vegetated areas, the
subtle effects that bedrock geology has on plants can be measured to identify
hidden minerals. The Company's mapping agreement with Noranda, a major mining
company, expired in 2000. Therefore, Geo Probe, Inc's business focus will be to
use the Company's remote sensing instruments to globally survey any areas that
have promise for the location of minerals either for its own use or for third
party customers and to sell hyperspectral collection and processing services in
the geological hazards and environmental geology sectors.
Formation of Eco Probe, Inc.
The Company formed Eco Probe, Inc. to pursue hyperspectral remote sensing
applications in the environmental industry. The Company has taken an industrial
leadership role in working with U.S. government agencies such as the
Environmental Protection Agency, the Bureau of Land Management and the Office of
Surface Mining on setting up applications for commercial monitoring of
industries, forest inventory and health issues, slope stability assessment and
the spread of noxious weeds.
In 2001, Eco Probe, Inc. undertook hyperspectral surveys and performed
fieldwork in Florida for two vegetation-related projects. The primary goal is to
evaluate the effectiveness of hyperspectral remote sensing for identifying
diseased citrus trees. Citrus canker is a serious threat to the Florida citrus
industry. The second goal is to map the location of non-native invasive
vegetation species that are threatening the ecological systems of the Florida
Everglades. Analysis of the data for these projects is ongoing. With results
from these projects, Eco Probe, Inc. hopes to demonstrate the commercial
applicability of hyperspectral remote sensing in these agricultural and
environmental markets. Eco Probe, Inc. expects that environmental problems
caused by the spread of non-native noxious weeds such as loss of wildlife
habitat, soil erosion, diminished water quality, loss of fish habitat, and
reduced crop production will support a commercial demand for the use of Probe 1
hyperspectral data.
FORMATION OF TERRANET, INC.
The Company formed Terranet, Inc. as the Company's e-commerce content
provider to globally market and distribute its airborne and satellite imagery
over its internet and broadband imagery distribution system. This imagery can be
sold repeatedly to multiple end users. In addition to selling the Company's own
imagery, Terranet, Inc. will pursue the resale of imagery obtained from third
parties. Terranet, Inc. is preparing for a late-2002 launch. Its domain name on
the world wide web will be Earthmap.com. The first step will see a beta test
performed with a large focus group to test user familiarity issues.
FISCAL 2002 SIGNIFICANT PROJECTS
In fiscal 2002, the Company completed airborne hyperspectral surveys
primarily for local, state and federal governmental agencies. These projects
produced the majority of the Company's 2002 airborne revenue. These projects are
in emerging growth areas such as
8
hydrocarbon exploration, environmental damage assessments, land use planning and
noxious weed species detection. The imagery from these collections will be
available for resale on Terranet, Inc. The Company's agreement with the ONR
produced all the Satellite Development business segment revenue (see note 9 to
the financial statements.)
To date, gigabyte quantities of imagery have been collected by the Company.
These data tapes are being processed and the imagery is being examined for the
presence of mineral properties exhibiting the qualifications necessary to
establish them for candidacy as "royalty properties" under the agreement with
Noranda, a major mining company. A substantial backlog of collected imagery
exists, and the evaluation process continues to move forward. These additional
imagery data collections continue to expand and improve the commercial
applications of the Company's remote sensing library.
Several proposals have been developed to partner with private industry,
universities and state and federal agencies to develop, package and deliver
competitive advanced technology products and services. This approach provides
solutions to critical environmental restoration and waste management problems,
while furthering national business and technology goals.
BUSINESS SEGMENT INFORMATION
Included in the attached financial statements is business segment
information and financial information about geographic areas for the Company.
EMPLOYEES
As of March 31, 2002 the Company had 12 full-time employees and
consultants.
AVAILABLE INFORMATION
The Securities and Exchange Commission maintains an internet site at
http://www.sec.gov that contains reports and financial information filed by the
Company. The Company maintains an internet site at http://www.earthsearch.com
that contains information about the Company's business, markets and technology.
SEASONAL NATURE OF BUSINESS
The Company experiences the highest demand for its collection services
April through October in the Northern Hemisphere and October through April in
the Southern Hemisphere.
CUSTOMERS AND GEOGRAPHIC AREAS OF BUSINESS
In fiscal 2002, the Company operated its airborne hyperspectral sensors
under contracts with third parties in several areas around the United States. In
fiscal 2001 and 2000, the Company's sensors were operated in the United States
and abroad. Contracts to operate the sensors abroad for major mining companies
contributed $1,087,000 and $720,000 to revenue in 2001 and 2000. Contracts to
operate the sensors in the United States as an ecological, agricultural,
hydrocarbon, and target identification contributed approximately $460,000,
$81,000 and $143,000 to revenue in 2002, 2001, and 2000, respectively. STDC's
contract with the Office of Naval Research to design, build, and operate a
hyperspectral sensor mounted on a satellite
9
contributed approximately $4,235,000, $1,094,000, and $663,000 to revenue in
2002, 2001 and 2000. In fiscal 2002, projects with one client accounted for
approximately 84% of total revenue. In fiscal 2001, projects with three clients
accounted for approximately 68% of total revenue. In fiscal 2000, projects with
two clients accounted for approximately 89% of total revenue
ITEM 2. PROPERTIES
The Company leases its corporate headquarters from two officers of the
Company. Its headquarters consist of approximately 6,400 square feet of office
space in Kalispell, Montana. In addition, a wholly owned subsidiary leases
office space in Alexandria, Virginia and all of the furnishings from unrelated
third parties. The Company believes its offices are adequate to meet its needs
for the foreseeable future.
In addition, the Company owns working interests in seven (7) oil and gas
properties. (See Note 4 to the Notes to Consolidated Financial Statements).
ITEM 3. LEGAL PROCEEDINGS
In November 2000, Applied Science and Image Technology, Inc. (ASIT) sued
the Company in the Circuit Court of Baltimore County, Third Judicial Circuit of
Maryland, alleging breach of contract and other related causes of action. ASIT
alleges that the Company was required to deliver 500,000 shares of ESSI common
stock to ASIT on demand pursuant to a written contract between ASIT and the
Company in which ASIT agreed to perform certain services for the Company.
In May 2002, the Company filed counterclaims against ASIT for breach of
contract and unjust enrichment on the grounds that, despite the Company having
paid approximately $300,000 and transferring 500,000 of the Company common stock
to ASIT, ASIT failed to provide the Company with the products and services it
was contractually obligated to provide the Company. On June 12, 2002, ASIT moved
to dismiss ESSI's counterclaims on the grounds that they were untimely. That
motion is presently pending before the Court.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK EQUITY AND RELATED STOCKHOLDER
MATTERS
(a) Principal Market or Markets. The Company's common stock
trades in the over-the-counter market. The range of
reported high and low bid quotations for the Company's
common stock, as set forth below, reflect interdealer bid
prices, without retail markups, markdowns, commissions, or
adjustments as reported in the NASDAQ "pink sheets" and do
not represent actual transactions.
10
Quarter Ended High Low
------------- ---- ---
June 30, 2000 1.72 .75
September 30, 2000 .97 .44
December 31, 2000 .67 .31
March 31, 2001 .50 .28
June 30, 2001 .41 .19
September 30, 2001 .23 .09
December 31, 2001 .17 .11
March 31, 2002 .20 .07
(b) Approximate Number of Holders of Common Stock. The number
of record owners of the Company's $.001 par value common
stock at March 31, 2002 was approximately 1,080. This does
not include shareholders that hold stock in their accounts
at brokers/dealers.
(c) Dividends. Holders of the Company's common stock are
entitled to receive such dividends as may be declared by
the Company's Board of Directors. No dividends have been
paid with respect to the Company's common stock and no
dividends are anticipated to be paid in the foreseeable
future.
(d) In the last three years, the Company has made the following
sales of unregistered securities, all of which sales were
exempt from the registration requirements of the Securities
Act of 1933, as amended, pursuant to Section 4(2) or as
otherwise indicated:
RECENT SALES OF UNREGISTERED SECURITIES (1)
AMOUNT OF AMOUNT OF
SECURITIES PRICE PER TOTAL CASH SECURITIES PRICE PER TOTAL CASH
DATE SOLD SHARE($) PROCEEDS($) DATE SOLD SHARE($) PROCEEDS ($)
- -------- ---------- --------- ---------- --------- ---------- --------- -----------
4/15/99 88,597 0.10 (2) 5/27/99 300,000 0.08 (3)
8/18/99 100,000 0.09 (2) 8/18/99 100,000 0.09 (2)
10/8/99 1,300,000 0.15 (3) 10/8/99 367,845 0.12 (2)
10/8/99 100,000 0.19 (2) 10/8/99 300,000 0.21 (6)
10/8/99 1,500,000 0.11 (6) 10/20/99 350,000 0.10 (2)
10/28/99 92,172 0.19 (2) 10/28/99 300,000 0.19 (3)
11/1/99 625,000 0.08 50,000 (4) 11/1/99 125,000 0.08 (5)
12/6/99 19,728 0.20 (5) Various 3,768,344 0.45 1,695,755 (7)
12/14/99 4,147 0.20 (5) Various 651,551 0.38 247,589 (8)
12/15/99 7,895 0.20 (5) 12/15/99 3,948 0.20 (5)
12/20/99 4,000,000 0.35 (12) Various 7,199,561 0.38 2,735,833 (9)
12/22/99 8,229 0.20 (5) 12/22/99 22,273 0.20 (2)
12/22/99 13,889 0.20 (2) 12/22/99 148,889 0.20 (2)
12/23/99 6,578 0.29 (2) 12/23/99 272,916 0.18 (2)
12/31/99 6,052 0.29 (2) 12/31/99 111,111 0.45 50,000 (4)
2/1/00 1,000,000 0.50 500,000 (4) 1/11/00 407,800 0.05 (5)
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1/11/00 131,545 0.27 36,041 (4) 1/17/00 200,000 (10)
1/17/00 3,289 (10) 1/17/00 16,447 (10)
1/24/00 331,578 0.38 (11) 1/24/00 133,242 0.38 (11)
1/28/00 131,578 0.38 (11) 2/1/00 2,000,000 0.50 1,000,000 (4)
2/14/00 44,444 0.45 20,000 (4) 2/22/00 407,726 (10)
2/22/00 407,726 (10) 2/25/00 500,000 0.17 82,500 (4)
2/29/00 100,000 0.38 (2) 3/9/00 10,762 1.28 (2)
3/10/00 25,260 0.34 (2) 3/16/00 25,000 0.38 (2)
3/16/00 6,579 (10) 3/28/00 200,000 1.25 250,000 (4)
3/30/00 222,222 0.45 100,000 (4) 3/31/00 200,000 (10)
4/10/00 200,000 0.25 49,985 (4) 4/11/00 167,066 0.38 (11)
4/13/00 75,000 0.45 33,750 (4) 4/18/00 22,222 (10)
4/26/00 500,000 0.50 250,000 (4) 4/26/00 26,315 0.38 10,000 (4)
4/26/00 50,000 0.38 19,000 (4) 4/26/00 50,000 0.38 19,000 (4)
4/28/00 12,004 0.83 10,000 (4) 4/28/00 34,212 0.75 (5)
5/4/00 600,000 0.50 300,000 (4) 5/4/00 8,333 0.72 6,000 (4)
5/4/00 5,451 0.20 (5) 5/8/00 50,000 0.20 10,180 (4)
5/11/00 500,000 0.25 (10) 5/11/00 3,940 0.20 (5)
6/6/00 818,501 0.05 (5) 6/6/00 65,789 0.38 25,000 (4)
6/6/00 100,000 0.38 38,000 (4) 6/22/00 300,000 (10)
8/24/00 9,383 0.75 (2) 12/12/00 81,081 0.37 (2)
1/4/01 29,126 0.26 (2) 1/11/01 9,980,667 0.14 (5)
1/16/01 100,000 0.56 (3) 1/17/01 8,587,000 0.34 (6)
2/26/01 5,289,315 0.26 (5) 7/10/01 50,000 0.21 (2)
8/28/01 50,000 0.16 (2) 9/25/01 850,340 0.16 (11)
11/13/01 160,000 0.15 (3) 12/11/01 243,026 0.13 (6)
12/13/01 146,667 0.13 (6) 12/13/01 120,824 0.13 (6)
12/17/02 50,000 0.10 (2) 1/3/02 2,564,103 0.10 (6)
2/2/02 250,000 0.12 (2) 3/8/02 200,000 0.08 (3)
(1) Shares sold were common stock, par value $0.001.
(2) Consideration paid for the shares was consulting services.
(3) Shares issued for debt consideration.
(4) Sales of securities exempt from registration under Regulation D Rule 506.
(5) Shares exchanged pursuant to debt conversion.
(6) Consideration paid for the shares was employee and consultant services.
(7 Shares were sold to investors between December 14, 1999 and March 24, 2000
and were exempt from registration under Regulation D Rule 506.
(8) Shares sold to investors between December 21, 1999 and February 25, 2000
and were exempt from registration under Regulation D Rule 506.
(9) Shares sold to investors between December 29, 1999 and March 30, 2000 and
were exempt from registration under Regulation D Rule 506.
(10) Shares issued as commissions for stock sales.
(11) Shares issued in exchange for interests in oil and gas properties.
(12) Shares issued in exchange for stock of Space Technology Development
Corporation.
12
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table sets forth certain information on the Company's Equity
Compensation Plans. See Note 12 to the Notes to Consolidated Financial
Statements for additional information on equity compensation including material
terms of options granted that have not been approved by security holders.
(c)
Number of securities
(a) (b) remaining available for
Number of securities to be Weighted-average exercise future issuance under equity
issued upon exercise of price of outstanding compensation plans (excluding
outstanding options, warrants options, warrants and securities reflected in
Plan category and rights rights column (a)
- --------------------------------- ------------------------------- ---------------------------- -------------------------------
- --------------------------------- ------------------------------- ---------------------------- -------------------------------
Equity compensation plans - - -
approved by security holders (1)
Equity compensation plans not
approved by security holders (2) 23,938,000 $1.05 -
Total 23,938,000 $1.05 -
(1) The Company's stock options and warrants have not been approved by security
holders
(2) Excludes options for 4,000,000 shares issued as part of the acquisition of
STDC
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth certain selected financial data for each of
the last five fiscal years with respect to the Company and is qualified in its
entirety by reference to the Company's audited financial statements and notes
thereto. STDC was acquired by the Company on December 21, 1999. The results of
operations for 2002, 2001 and 2000 include the results of operation for STDC
from December 22, 1999 to March 31, 2002.
As of or for the fiscal year ended
2002 2001 2000 1999 1998
---------------------------------------------------------------------
Operating revenue $ 5,044,498 $ 2,678,986 $ 1,526,446 $ 881,006 $ 55,000
Net loss (16,797,081) (6,636,480) (5,177,983) (2,271,428) (5,849,999)
Net loss per common share (0.11) (0.05) (0.03) (0.03) (0.08)
Total assets 7,096,591 19,710,126 19,532,230 3,992,233 4,880,652
Long-term obligations 4,687,895 5,253,135 4,515,118 6,594,080 5,767,961
Stockholders' (deficit) equity (11,310,331) 2,346,846 2,663,656 (3,998,137) (3,005,765)
Cash dividends declared - - - - -
13
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Financial comparisons will be made between the fiscal years ended March 31,
2002 and 2001 and 2000.
RESULTS OF OPERATIONS
The Company recognized revenue of $5,044,498 in 2002 compared with
$2,678,986 and $1,526,446 in 2001 and 2000, respectively. The increase in
revenue in 2002 compared to 2001 is an increase in activity cost reimbursements
from the U.S. Navy for the NEMO project partially offset by a decrease in
revenue from airborne hyperspectral services. The increase in revenue in 2001
compared with 2000 is the beginning of revenue on oil and gas properties in 2001
of approximately $417,000 and a significant hyperspectral survey in Peru that
resulted in approximately $860,000 in revenue in 2001. In 2002, costs of
services provided was $ 5,342,983 compared with $1,777,437 and $1,796,412 in
2001 and 2000, respectively. Cost of services provided increased in 2002
compared to 2001 primarily due to an increase in activity cost reimbursements
from the U.S. Navy for the NEMO project.
Provision for loss on impairment of fixed assets was $13,010,364 in 2002
compared with $0 in 2001 and 2000. This loss in 2002 is due recognition of an
impairment of the NEMO asset previously carried in the construction in progress
account. Exploration costs in 2002 were $0 compared with $95,540 in 2001 and
$6,282 and in 2000. The increase in exploration costs in 2001 is primarily a
result of the Company's focus on utilization of the Probe for the Company's own
exploration projects in 2001, while in 2002 the Company didn't pursue
exploration projects for its own purposes. General and administrative costs were
$3,053,024 in 2002 compared with $3,854,000 and $2,397,484 in 2001 and 2000,
respectively. The reduction in costs in 2002 compared with 2001, reflects cost
reductions and staff reductions in 2002 compared with 2001. The increase in 2001
compared to 2000 is due to an entire year of STDC included in 2001 operations
compared with three months in 2000, or $1,458,662 and $233,397 in 2001 and 2000,
respectively of STDC costs included in general and administrative costs.
During 2001, the Board of Directors approved the issuance of 8,587,000
shares against options as a performance based stock bonus. The issuance of these
shares resulted in non-cash compensation expense of $2,926,781. In 2000, the
Company recognized non-cash compensation expense of $1,608,001 for the vesting
of options. Of this amount, $1,593,600 relates to performance options issued to
officers of the Company in 1997. At the time these options were granted, the
officer's salaries was deferred and the Company's common stock price was
approximately $0.48 These options allow the officers to purchase restricted
shares in the Company at exercise prices ranging from $.50 per share to $2.50
per share, for up to 24 months after vesting. The vesting of these options is
dependent on the Company's stock price reaching certain prices and maintaining
that level for a specified number of days. In 2000, 3,000,000 of options met the
performance criteria and resulted in the recording of $1,593,600 of compensation
expense. In 2002 and 2001, no options met the performance criteria and thus no
compensation expense was recorded.
Interest income in 2002 was $4,813 compared to $98,436 and $38,821 in 2001
and 2000, respectively. The decrease in 2002 compared with 2001 reflects smaller
outstanding interest earning cash balances. The increase in 2001 compared with
2000, was due to $73,721 in interest
14
from STDC in 2001 compared to $23,425 in 2000. In 2002, the Company recognized
interest expense of $760,730 compared to $1,035,856 and $1,136,995 in 2001 and
2000, respectively. The decrease in interest expense over the prior year is a
result of the Company's conversion of convertible notes to equity in the fourth
quarter of 2001.
In 2002, the Company recorded minority interest in losses of consolidated
subsidiaries of $335,333 compared to $290,336 and $202,565 in 2001 and 2000. In
2000, ESSI Probe 1 LC, a consolidated subsidiary with a 50% minority interest
took delivery of the second Probe instrument and started operations. ESSI Probe
1 LC minority interest loss for a full year of operations was $308,738 and
$270,252 in 2002 and 2001, respectively.
The Company recognized a net loss of $16,797,081 in fiscal 2002 compared
with a net loss of $6,636,480 and $5,177,983 in 2001 and 2000, respectively. The
loss on a per share basis was $0.11, $0.05, and $0.05 in fiscal 2002, 2001, and
2000, respectively. Included in the loss in 2002, 2001 and 2000 is a loss of
$14,251,858, $1,822,434 and $879,250 or $0.09, $0.01 and $.01 per share,
respectively, from the operations of STDC. The operations of STDC in 2002
reflect a $13,010,364 provision for loss on NEMO fixed asset.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its activities to date with a combination of cash
flow from operations and the use of equity securities and promissory notes.
During 2002, the Company signed a definitive agreement with an investor for an
equity line of up to $10,000,000 for one year with an extension option for a
second year. The terms of the equity line are that the Company, after the
effectiveness of a registration statement, at its option can sell its registered
shares of common stock to the investor on a monthly basis. The maximum amount of
funds that can be raised in any month is $1,500,000 limited by a calculation
based on the average volume of the stock for the preceding month and the price
of the stock. The stock will be sold at 88% of the average of the lowest five
(5) trading days over the ten (10) days of trading immediately proceeding the
sale date. Subsequent to March 31, 2002, the Company made its first drawdown on
the equity line and raised $150,000 from the sale of its common stock.
Net cash used in operating activities was $492,063 in 2002, resulting
primarily from payments for salaries and services and changes in current assets
and liabilities. Of the $16,797,081 net loss in 2002, approximately $14,675,423
was non cash items. Net cash used in operating activities was $1,525,414 in
2001, resulting primarily from payments for salaries and services and changes in
current assets and liabilities. Of the $6,636,480 net loss in 2001,
approximately $4,373,473 was non cash items. Net cash used in operating
activities was $3,343,109 in 2000, resulting primarily from payments for
salaries and services and changes in current assets and liabilities. Of the
$5,177,983 net loss in 2000, approximately $2,707,589 was non cash items.
Capital expenditures for March 31, 2002 were primarily for purchases of new
computer equipment, purchases of working interests in mining properties and
payments on a subsidiary's satellite hyperspectral instrument.
Capital expenditures for March 31, 2001 were primarily for payments on
airborne hyperspectral instruments and purchases of new computer equipment,
purchases of working interests in mining properties, purchase of an airplane
specially equipped for flying the Company's hyperspectral instruments and
payments on a subsidiary's satellite hyperspectral instrument.
15
At March 31, 2002 and 2001, the Company had cash of $66,681and $367,902 and
a working deficit of $12,295,035 and $10,750,323, respectively.
The Company does not intend to pay cash dividends to the holders of its
common stock and intends to retain future earnings to finance the expansion and
development of its business.
Under the original agreement with the ONR, STDC needed to raise private
industry funds of approximately $125,000,000 in order to complete, launch and
operate the hyperspectral imaging satellite and instrument. Subsequent to March
31, 2002, STDC received notification from the ONR that it would not be giving
STDC an extension to its current agreement. After the audit of the Federal funds
expended on the NEMO program, STDC and the ONR have agreed to meet to discuss
options for going forward. The success of STDC and payment of approximately
$7,596,683 of STDC accounts payable due subcontractors and vendors on the NEMO
program, is dependent on the Company and ONR negotiating plans for going forward
and additional funds being identified either commercially or under governmental
programs to complete and launch the NEMO satellite and sensor.
The Company believes that funds generated from its operations, together
with future borrowings and the equity line will be adequate to meet the
Company's anticipated cash needs during the immediate term.
There can be no assurance that additional capital beyond the amounts
currently forecasted by the Company will be required or that any such required
additional capital will be available on reasonable terms, at such time or times
as required by the Company.
The total number of employees and consultants employed by the Company now
numbers twelve people.
Factors that have an adverse impact on the natural resources or energy
industry may adversely affect our results of operations. A substantial
percentage of our gross profit and operating income is derived from our airborne
hyperspectral services business segment. Our airborne hyperspectral operations
are focused, in part, on discovering potential deposits of hydrocarbons and
minerals. Therefore, our business is directly affected by economic factors and
other trends that affect our customers in the energy and natural commodities
industries, including a possible decrease in the cost of energy or projected
market growth that may not materialize or be sustainable. When these economic
and other factors depress the price of energy, they tend to reduce the overall
customer demand for natural resources development services, which decreases our
operating income. Economic and other factors that might affect the energy
industry may have an adverse impact on our results of operations.
SIGNIFICANT ACCOUNTING POLICIES
In October 2001, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 144 (SFAS 144), ACCOUNTING FOR THE
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. SFAS 144 supersedes SFAS 121,
ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE
DISPOSED OF, and APB Opinion 30, REPORTING
16
THE RESULTS OF OPERATIONS - REPORTING THE EFFECTS OF DISPOSAL OF A SEGMENT OF A
BUSINESS, AND EXTRAORDINARY, UNUSUAL AND INFREQUENTLY OCCURRING EVENTS AND
TRANSACTIONS, for segments of a business to be disposed of. SFAS 144 is
effective for fiscal years beginning after December 15, 2001. The Company is
currently evaluating the potential effect of the initial application of SFAS 144
on its consolidated financial statements.
The Company uses the successful efforts method to account for its oil and
gas properties. Under this method, it capitalizes costs incurred for property
acquisition, exploration, and drilling related to its oil and gas properties.
Once the project is completed, and, if oil or gas is located, costs capitalized
to date on the specific project are amortized under the unit-of-production
method as revenue is recognized. Capitalized costs for unsuccessful projects
will be expensed when that determination is made.
Unproved oil and gas properties that are individually significant are
periodically assessed for impairment of value, and a loss is recognized at the
time of impairment by providing an impairment allowance. Other unproved
properties are amortized based on the Company's experience of successful
drilling and average holding period. Capitalized costs of producing oil and gas
properties, after considering estimated dismantlement and abandonment costs and
estimated salvage values, are depreciated and depleted by the unit-of production
method.
STDC receives funds in the form of grants from the U.S. Navy to construct
its satellite and to manage the NEMO program. The grants are considered
cost-reimbursement instruments under Office of Management and Budget (OMB)
circulars. As allowable government-reimbursable costs are incurred, STDC
recognizes a proportionate share of revenue. Government funds received in excess
of government-reimbursable costs are deferred until reimbursable costs are
incurred. Subcontract and vendor costs incurred under the NEMO program that are
to be paid with industry raised funds are capitalized in the account
construction in progress.
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. The Company evaluates long-lived assets to determine potential
impairment by comparing the carrying amount to the undiscounted estimated future
cash flows of the related assets. In fiscal 2002, based on such review, the
Company established a provision for loss on the NEMO program of $13,010,364 (see
Note 5 to attached financial statements.)
In fiscal 2002, the Company changed its method of accounting for the sales
of stock by its subsidiaries to account for these sales as increases in
additional paid-in capital instead of as an increase to minority interest in the
accompanying consolidated financial statements. Management believes that because
of the developing nature of operations of the subsidiaries with minority
interest, the new method of accounting will provide more meaningful information
concerning sales of stock by its subsidiaries and, correspondingly, the minority
interest liability account. The Company recognized an increase in additional
paid-in capital of $1,707,868, as a cumulative effect on prior years of this
change in account principles.
FUTURE OPERATIONS
The Company will focus on expanding its markets for remote sensing services
by marketing its remote sensing imagery collection services and value added
imagery processing. In addition, in the mineral and hydrocarbon resource
exploration areas the Company will
17
operate its remote sensing instruments for its own use and secure equity
interests in promising properties identified from the remote sensing imagery.
The Company is also evaluating a strategy of flying a wide variety of urban and
environmental targets and marketing that data to multiple customers. Further,
previously collected imagery will be analyzed and processed to aid in the
Company's decisions to take new or additional equity interests in prospective
properties.
Management believes that a significant market opportunity exists for a
company that can combine satellite and airborne hyperspectral remote sensing
data and custom design the best and most efficient solutions to geological,
environmental, defense, and survelliance problems. It is this belief that led
the Company to acquire STDC. The Company believes that successful negotiation
with the ONR for a data stream and tasking from the NEMO hyperspectral
instrument and successful launch and deployement of NEMO, will place the Company
in an excellent position to provide comprehensive satellite and airborne
hyperspectral remote sensing services to an industry that is expected to
experience significant growth over the next several years. Further, the revenue
from combining and customizing satellite and airborne hyperspectral data will
not be encumbered with depreciation from the satellite due to the recognition of
the impairment loss noted above. In addition, with the reduction of staff and
overhead at the STDC headquarters, the Company would be very well position to
show significant revenue growth with a strong gross margin.
Further, the Company will continue to look for equity funding to develop
additional instruments including handheld, as well as airborne spectrometers.
The Company has entered into an agreement to use an Inertial Measurement
Unit (IMU) provided by The Boeing Corporation. Use of the IMU will enable the
Company to more accurately geoposition its Probe 1 hyperspectral data and assist
in the insertion of its data into a customer's Geographical Information System
(GIS) database. In addition, collection of field spectra using the Company's
field spectrometer provides customers both ground and airborne spectral
information that can be incorporated into a customer's GIS to provide a custom,
leading edge information product.
The Company will seek to acquire revenue-producing companies in the natural
resources and environmental monitoring field.
Through teaming with other firms, the Company will identify additional
technology applications for remote sensing. Management intends to pursue
additional markets for its imagery databases, which would generate operating
revenues and improve cash flows.
ADDITIONAL RISK FACTORS THAT COULD AFFECT LIQUIDITY, OPERATING RESULTS AND
MARKET PRICE OF STOCK
RISKS RELATED TO OUR INDUSTRY
Competitive pressures may adversely affect our operating revenues. The
Company has numerous competitors in the remote sensing services (airborne
hyperspectral services) and natural resource development industries. Competition
in the remote sensing industry comes from several primary sources. Our principal
competitors in the natural resource development industry include traditional
exploration companies using a variety of other technologies. Some of our
competitors in both remote sensing and natural resource development have
substantially greater financial and other resources than the Company.
Competitive pressures in either industry may materially adversely affect our
operating revenues and in turn, our business and financial condition.
18
The Company may need to expend significant capital to keep pace with
technological developments in our industry. The remote sensing industry (as well
as the computing industry instrumental in processing the raw data) is constantly
undergoing development and change and it is likely that new technology, whether
embodied in new equipment or techniques, will be introduced in the future. In
order to keep pace with any new developments, the Company may need to expend
significant capital to develop or purchase new equipment or to train our
employees in the new techniques. The Company is pursuing financing to develop
additional remote sensing instruments; however, we may not be able to raise
sufficient funds, and if the Company does so, there is no guaranty that the new
instruments will out perform instruments used by our competitors. In addition,
the Company's ability to raise needed capital may be influenced by general
economic conditions and the strength of capital markets.
The Company may incur significant expenses to comply with new or more
stringent governmental regulation. The sale of our imagery is regulated by the
Department of Commerce. Although the Company (through its acquisition of STDC)
has acquired a Department of Commerce (DOC) Remote Sensing License that permits
the Company to market globally hyperspectral and panchromatic imagery, there is
no guarantee that the government will not impose restrictions on sales if the
quality of our imagery increases with new technology that, for example, allows
increased resolution. Because our license was the first issued DOC Remote
Sensing License, the Company cannot anticipate how the DOC specifically will
treat our license or how the airborne remote sensing industry will be regulated
in the future.
RISKS RELATED TO OUR BUSINESS
The loss of our key customers could have a material adverse effect on us.
In prior years, mining company exploration contributed a significant amount of
revenue to the Company. In 2002, the depressed condition of mineral prices has
severely curtailed mining company budgets and thus their use of the Company's
hyperspectral technology for exploration. In 2002, revenue recorded on cost
reimbursements for the NEMO project accounted for approximately 84% of revenue.
The Company is pursuing contracts that produce revenues from additional
applications of hyperspectral remote sensing technology and are discussing
additional options for the NEMO project with the ONR. In the future, however,
the Company may not receive significant contracts, and options with the ONR may
not materialize. Our results of operations may be materially adversely affected.
The Company may not realize our anticipated return on capital commitments
made to expand our capabilities. The Company purchased an aircraft, additional
satellite and airborne hyperspectral instruments, as well as oil and gas
property rights. The aircraft and airborne hyperspectral instruments were
purchased to increase our capacity to conduct airborne surveys. If the Company
does not experience continued demand for our remote sensing services, the
Company may incur significant expense without generating corresponding revenues.
The oil and gas property rights were acquired in order to exploit suspected
natural resources located within certain properties. If these properties do not
contain sufficient natural resources to warrant exploitation, the Company may
incur significant expenses without generating corresponding revenues.
19
In addition, from time to time, the Company expects to make significant
capital expenditures to implement new processes and to increase both efficiency
and capacity. Some of these projects may require additional training for our
employees and not all projects may be implemented as anticipated. If any of
these projects do not achieve the anticipated increase in efficiency or
capacity, our returns on these capital expenditures may not be as expected.
The Company may need additional financing for working capital, acquisitions
and capital expenditures, and such financing may not be available on terms
acceptable to us. A key element of our strategy has been, and continues to be,
internal growth and growth through the acquisition of other companies engaged in
commercial hyperspectral remote sensing. In order to grow internally, the
Company may need to make significant capital expenditures and may need to obtain
additional capital to do so. Our ability to grow is dependent upon, and may be
limited by, among other things, our capital structure, the price of our stock
and our existing financing arrangements. If additional funding sources are
needed, the Company may not be able to obtain the additional capital necessary
to pursue our internal growth and acquisition strategy or, if the Company can
obtain additional financing, the additional financing may not be on financial
terms that are satisfactory to us.
The Company's continued involvement on the NEMO Project and successful
negotiations with the ONR may not materialize. The operating agreement with the
ONR was not renewed in April 2002. Although the Company is trying to pursue
restructuring options with the ONR and the Company firmly believes the ONR will
negotiate at a minimum a data stream and tasking on the NEMO instrument, the
Company cannot guaranty that future options with the ONR will be worked out or
that the Company will receive anything for its investment in the NEMO project.
The Company cannot guarantee that the satellite will be properly completed,
launched and set into orbit. Although the satellite has an expected lifetime of
five years, the Company cannot guarantee that the satellite will not be rendered
inoperable sooner.
The Company's database of spectral information may not be marketable or may
not garner a price, which makes processing or analyzing the data economically
reasonable. The Company has a substantial archive of Probe 1 hyperspectral
imagery that was not gathered under contract with a client. The Company
continues to gather hyperspectral imagery without having sold the rights to that
data. The collection process requires variable as well as fixed expenditures
that must be recouped though marketing the collected data. Although we do not
carry the value of our existing Phase 1 hyperspectral archives as an asset on
our balance sheet, the future success of the Company depends to some extent upon
our ability to market this archived data.
Cancellations, reductions or delays in customer orders may adversely affect
our results of operations. Our overall operating results are affected by many
factors, including the timing of survey contracts from large clients, the timing
of capital expenditures to increase our capacity for gathering data in
anticipation of future sales of products and services, and the weather which can
affect whether or not a customers target of interest can be collected at a
certain stage of vegetal growth. A large portion of our operating expenses are
relatively fixed; however, a significant portion of our expenses relating to
airborne surveys are variable. Because several of our operating divisions and
subsidiaries are new businesses and have not obtained long-term commitments from
our clients, we must anticipate the future demand for our services based upon
our discussions with clients. Cancellations, reductions or delays in orders by a
client or group of clients could have a material adverse effect on our business,
financial condition and results of operations.
20
The Company's acquisition strategy exposes us to risks, including the risk
that we may not be able to successfully integrate acquired businesses. The
Company's ability to grow by acquisition is dependent upon, among other things,
the availability of suitable acquisition candidates. Growth by acquisition
involves risks that could adversely affect our operating results, including
difficulties in integrating the operations and personnel of acquired companies,
the potential amortization of acquired intangible assets and the potential loss
of key employees of acquired companies. The Company may not be able to
consummate acquisitions on satisfactory terms or, if any acquisitions are
consummated, satisfactorily integrate these acquired businesses.
The unavailability of skilled personnel may have an adverse effect on our
operations. From time to time, the Company or some of our operating divisions
and subsidiaries may experience difficulties in attracting and retaining skilled
personnel to process and interpret the substantial volume of imagery data that
is already collected or is expected to be collected in the future. The Company's
ability to operate successfully could be jeopardized if we are unable to attract
and retain a sufficient number of skilled personnel to conduct our business.
OUTLOOK
This Report on Form 10-K, including the foregoing discussion in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," and other reports hereafter filed by the Company with the
Securities and Exchange Commission may contain "forward looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995. The
Act provides a "safe harbor" for forward-looking statements to encourage
companies to provide prospective information about themselves so long as they
identify these statements as forward-looking and provide meaningful cautionary
statements identifying important factors that could cause actual results to
differ from the projected results. All statements other than statements of
historical fact the Company makes in this Report on Form 10-K and such other
reports filed with the Securities and Exchange Commission are forward-looking.
In particular, statements regarding industry prospects, future OEM sales by the
Company, the adequacy of existing manufacturing resources, the Company's
continued expansion in foreign markets and the Company's future results of
operations or financial position are forward-looking statements. Words such as
"anticipates", "expects", "intends", "plans", "believes", "seeks", "estimates"
and similar expressions identify forward-looking statements. But the absence of
these words does not mean the statement is not forward-looking. The Company
cannot guarantee any of the forward-looking statements, which are subject to
risks, uncertainties and assumptions that are difficult to predict. Actual
results may differ materially from those the Company forecasts in
forward-looking statements due to a variety of factors, including those set
forth above under the heading "Additional Risk Factors that could Affect
Operating Results and Market Price of Stock" and elsewhere in this Report. The
Company does not intend to update any forward-looking statements due to new
information, future events or otherwise.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable
21
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary data required by this Item are
included on pages F-1 to F-21 of this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On May 25, 2001, the Board of Directors of the Company dismissed the
Company's accountants, PricewaterhouseCoopers LLP. PricewaterhouseCoopers LLP
served as the Company's auditor beginning with the fiscal year ended March 31,
2000. The Board of Directors has appointed Grant Thornton LLP as the Company's
auditor for the year ended March 31, 2001. Grant Thornton's office is located at
701 Pike Street Suite 1500 Seattle, Washington 98101.
The report of PricewaterhouseCoopers LLP on the financial statements for
year ended 2000 contained no adverse opinion or disclaimer of opinion and was
not qualified or modified as to uncertainty, audit scope or accounting principle
except for the inclusion in the report of an explanatory paragraph regarding the
Company's ability to continue as a going concern.
In connection with its audit for the fiscal year ended March 31, 2000, and
through May 25, 2001, there have been no disagreements with
PricewaterhouseCoopers LLP on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure, which
disagreements if not resolved to the satisfaction of PricewaterhouseCoopers LLP
would have caused them to make reference thereto in their report on the
financial statements for such years.
During the fiscal year ended March 31, 2000, and through May 25, 2001,
there have been no reportable events (as defined in Regulation S-K Item
304(a)(1)(v)).
The Company has requested that PricewaterhouseCoopers LLP furnish it with a
letter addressed to the SEC stating whether or not it agrees with the above
statements. A copy of such letter, dated May 25, 2001, was filed as Exhibit 16.1
the Company's Form 8-K filed June 1, 2001.
22
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information with respect to
the executive officers of the Company for fiscal 2000 to the present.
NAME AGE POSITION
Larry F. Vance 67 Chairman and Chief Executive Officer
John W. Peel, III 56 Former Chief Executive Officer
John J. Sciuto 59 Former President
Rory J. Stevens 44 Chief Financial Officer
Tami J. Story 39 Secretary/Treasurer
Larry F. Vance served as Chief Executive Officer of the Company from 1985
until April 8, 1995. Since April 8, 1995, Mr. Vance has served as Chairman of
the Company. Mr. Vance is also a director of the Company and has been a
full-time employee of the Company since 1985. Mr. Vance's training is in
business and marketing. He served in a management capacity for the 3M companies,
IBM, and Computer Usage Corporation prior to founding the Company.
John W. Peel, III joined the Company as Chief Executive Officer in April
1995 and has been a director of the Company since 1995. Prior to joining the
Company, Dr. Peel served six and-one-half years as Senior Vice President of
Tetra Tech, Inc., a major publicly held environmental remediation-consulting
firm. Dr. Peel holds a Bachelor of Sciences in Biology from Millsaps College, a
Master of Sciences in Parasitology and Invertebrate Zoology from the University
of Mississippi and a Ph.D. in Environmental Health/Health Physics from Purdue
University. On May 28, 2002, Dr. Peel resigned from his officer and director
position with the Company and subsidiaries including STDC. The position of Chief
Executive Officer is now held by Mr. Vance.
John J. Sciuto joined the company as President on May 1, 2001. Prior to
joining the company, Mr. Sciuto served fourteen years with Comptek Research, a
publicly traded defense electronics and information technology company. Prior to
joining Comptek, Mr. Sciuto was the Director at EW Systems with Engineering
Research Associates of McLean, VA from 1983 to 1986. Mr. Sciuto holds a Bachelor
of Applied Science Degree in Aviation Electronics from Troy State University and
is a 1991 graduate of Stanford University's Senior Executive Institute for the
Management of High Technology Companies. On February 28, 2002, Mr. Sciuto left
the Company.
Rory J. Stevens, a certified public accountant (CPA), became a director of
the Company in 1994 and joined the Company as Chief Financial Officer in January
2000. Prior to joining the Company, Mr. Stevens was employed by Chiyoda
International Corporation, an engineering and construction company, for eleven
years, the last six years as corporate controller. Mr. Stevens holds a Bachelor
of Business Administration from Boise State University and a Master of Business
Administration and Masters of Professional Accounting from the University of
Washington.
Tami J. Story served in an administrative support capacity for the Company
from 1991 until April 1993. Since April 1993, Ms. Story has served as Secretary
and Treasurer of the
23
Company. Ms. Story also serves as a director of the Company. Ms. Story holds a
degree with a major in Nursing and a minor in Business Administration.
Information with respect to directors of the Company will be included under
"Election of Directors" in the Company's definitive proxy statement for its 2002
annual meeting of shareholders, to be filed not later than 120 days after the
end of the fiscal year covered by this Report, and is incorporated herein by
reference. Information with respect to executive officers of the Company is
included under Item 4(a) of Part I of this Report.
Based solely on a review of copies of reports received by the Company from
persons required to file reports of ownership and changes on ownership pursuant
to Section 16(a) of the Securities Exchange Act of 1934, the Company believes
that all of its executive officers and directors complied with applicable filing
requirements for the fiscal year ended March 31, 2002.
ITEM 11. EXECUTIVE COMPENSATION
Table below summarizes information on Executives and Directors compensation
SUMMARY COMPENSATION TABLE
Long-Term
Annual Compensation Awards Compensation Payouts
----------------------------------------- ------------------------- --------------------- ------------
Securities
Other Annual Restricted underlying LTIP All other
Name and Fiscal Compensation Stock Stock Option options/SARS payouts Compensation
Principal Position Year Salary($) Bonus($) ($) Award(s)($) Grants (#) ($) ($)
- ----------------------- ----------------------------------------- ------------------------- --------------------- ------------
Larry Vance/Chairman(1) 2002 160,000 - - - - - - -
2001 160,000 - - 875,000(4) - - - -
2000 160,000 - 157,500(2) - 10,000,000 - - -
John Peel/CEO(1) 2002 150,000 - - - - - - -
2001 150,000 - - 875,000(4) - - - -
2000 150,000 - - - 10,000,000 - - -
John Scuito, President 2002 300,000 - - - - - - -
(1)(5)
Rory J. Stevens/CFO 2002 125,000 - - - - - - -
(1)(3)
2001 125,000 - - 218,750(4) - - - -
2000 125,000 - - - 2,500,000 - - -
Tami J. Story/Secretary 2002 80,000 - - - - - - -
and Treasurer(1)
2001 80,000 - - 437,500(4) - - - -
2000 80,000 - 63,000(2) - 5,000,000 - - -
(1) Salary was deferred unless cash flow allowed payment.
(2) In 1997, the Chairman and Secretary relinquished deferred salary in order to
entice a third party to invest in the Company. As the investment didn't
materialize, in fiscal 2000 the Company treated 1,500,000 ($0.105 exercise
price) and 300,000 ($0.21 exercise price) of the Chairman's and
Secretary/Treasurer's options, respectively, as paid in full to offset the
deferred salary previously foregone.
(3) The CFO joined the Company in January 2000 and has been a director of the
Company since 1994.
(4) In 2001, the Board of Directors approved the issuance of 6,875,000
restrictive shares to officers as a stock bonus. Outstanding officer options
were reduced by 6,875,000.
(5) Employment with Company terminated on February 28, 2002.
24
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES
Number of securities Value of Unexercised
underlying unexercised In-the Money Options
options at FY-End at FY-End ($)
Shares Acquired Value Realized
Name on Exercise ($) Exercisable/Unexercisable Exercisable/Unexercisable
- ------------------------------------------------------------------------------------------------------
Larry Vance - - 4,500,000/3,000,000(1) 0/0
John Peel - - 4,500,000/3,000,000(1) 0/0
Rory J. Stevens - - 375,000/1,500,000(1) 0/0
Tami Story - - 750,000/3,000,000(1) 0/0
(1) Exercise prices range from $0.21 - $2.50 per share.
EMPLOYMENT CONTRACTS
In October 28, 2000, the Company entered into an employment agreement with
Mr. Larry Vance. Pursuant to the agreement, the Company will pay Mr. Vance an
annual salary of $160,000. In the event of termination of Mr. Vance without
cause or due to a change in control, the Company will pay Mr. Vance two years of
annual salary. Mr. Vance's options and vesting criteria are described above and
in Note 11 to the attached consolidated financial statements.
On October 28, 2000, the Company entered into an employment agreement with
Dr. John Peel. Pursuant to the agreement, the Company will pay Dr. Peel an
annual salary of $150,000. In the event of termination of Dr. Peel without cause
or due to a change in control, the Company will pay Dr. Peel two years of annual
salary. Dr Peel's options and vesting criteria are described above and in Note
11 to the attached annual financial statements. As of May 28, 2002, the Board of
Directors accepted the resignation of Dr. Peel as Chief Executive Officer,
Director of the Company, and as an officer and director of subsidiaries of the
Company, including STDC. The Company issued 3,574,273 of common shares of the
Company to Dr. Peel as payment in full for all deferred wages including interest
totaling $461,141.
On October 28, 2000, the Company entered into an employment agreement with
Mr. Rory Stevens. Pursuant to the agreement, the Company will pay Mr. Stevens an
annual salary of $125,000. In the event of termination of Mr. Stevens without
cause or due to a change in control, the Company will pay Mr. Stevens two years
of annual salary. Mr. Stevens 's options and vesting criteria are described
above and in Note 11 to the attached annual financial statements.
On October 28, 2000, the Company entered into an employment agreement with
Ms. Tami Story. Pursuant to the agreement, the Company will pay Ms. Story an
annual salary of $80,000. In the event of termination of Ms. Story without cause
or due to a change in control, the Company will pay Ms. Story two years of
annual salary. Ms. Story 's options and vesting criteria are described above and
in Note 11 to the attached consolidated financial statements.
On May 1, 2001, the Company entered into an employment agreement with Mr.
John J. Sciuto. Pursuant to the agreement, the Company will pay Mr. Sciuto an
annual salary of $300,000. Mr Sciuto can earn options in the Company and equity
in a newly formed subsidiary
25
as certain performance milestones are achieved. In the event Mr. Sciuto is
terminated without cause or due to a change of control and he has successfully
achieved certain milestones, then the Company will pay Mr. Sciuto a severance
equal to one-half years salary if a minimum of $5,000,000 in equity has been
raised into a newly formed subsidiary and two years salary if a minimum of
$10,000,000 has been raised into a newly formed subsidiary. Mr Sciuto's left the
Company as of February 28, 2002 without meeting any of the performance criteria
detailed in his employment contract noted above.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding ownership of
the Company's Common Stock as of June 15, 2002 by each person known by the
Company to own beneficially more than five percent of the Common Stock and by
all directors and officers and as a group:
Amount and nature of Percent of
Name and address of beneficial owner beneficial ownership (1) class
- ------------------------------------- -------------------------- ------------
Larry Vance 14,765,003(2)(3)(4) 9.13%
P.O. Box 763
Lakeside, MT 59922
John Peel 9,004,273(3) 5.22%
100 North Pitt Street, Suite 403
Alexandria, VA 22314
Rory J. Stevens 955,000(6) 0.55%
455 Orchard Ridge Road
Kalispell, MT 59901
Tami Story 2,365,169(5) 1.37%
P.O. Box 763
Lakeside, MT 59901
Dr. Jan Arnett 9,150,830(4) 14.95%
42-07 30th Avenue
Astoria, MT 11103
Monte Meltzer 12,119,367 7.02%
8531 W. Howell Rd
Bethesda, MD 20817
All directors and officers 8,085,172(7) 10.05%
- -----------------
(1) All shares are held directly with sole voting and investment power unless
otherwise indicated.
(2) Includes 1,775,000 shares held by Universal Search Technology, a private
company owned by Mr. Vance.
(3) Includes 4,500,000 options, which are exercisable on March 31, 2002.
(4) Excludes 17,663,842 shares held by Accuprobe. General Petroleum, Inc.
(GPI), a company previously wholly-owned by Mr. Vance, and Accuprobe, a
company previously wholly-owned by Dr. Arnett, have entered into an
agreement whereby Dr. Arnett has exchanged his 100% ownership of Accuprobe
for a percentage of the shares of GPI. Currently, all requirements of the
26
transaction have not been met, but even if the transaction is completed,
Mr. Vance will own 25% of the outstanding capital stock of GPI and Dr.
Arnett will own 33% of the outstanding stock of GPI and neither Mr. Vance
nor Dr. Arnett will likely have control over the disposition or voting
power of the Earth Search shares owned by Accuprobe.
(5) Includes 750,000 options, which are exercisable on March 31, 2002.
(6) Includes 375,000 options, which are exercisable on March 31, 2002.
(7) John Peel resigned as an Officer and Director of the Company effective May
28, 2002 and shares owned by him are excluded.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During fiscal 2002, General Petroleum, Inc. (GPI) a company previously
wholly-owned by an officer and director of the Company entered into an agreement
with Accuprobe, lessor to the Company of a hyperspectral instrument (see Note 3
to the consolidated financial statements). The agreement requires the former
sole shareholder of Accuprobe to transfer 100% of his equity in Accuprobe to GPI
in exchange for equity in GPI. Presently, not all of the requirements of the
agreement have been met. Also during fiscal 2002, GPI exchanged a portion of its
equity for the 50% interest in the ESSI 1 LC owned by an outside party. It is
the intention of ESSI and GPI to enter into an agreement in fiscal 2003 to allow
ESSI to purchase and own 100% of both hyperspectral instruments.
In fiscal 2001, the Company entered into a lease for its office in
Kalispell, Montana. The lease is with two officers of the Company and is for a
term of 5 years with minimum monthly payments of $6,400.
27
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) Financial Statements filed as part of this Report Page in this Report
Report of Independent Accountants F-1 - F-2
Consolidated Balance Sheet at March 31, 2002 and
2001 F-3
Consolidated Statement of Loss for the Years
Ended March 31, 2002, 2001 and 2000 F-4
Consolidated Statement of Redeemable Common
Stock And Nonredeemable Shareholders' Equity
(Deficit) for the Years Ended March 31, 2002,
2001 and 2000 F-5
Consolidated Statement of Cash Flows for the Years
Ended March 31, 2002, 2001 and 2000 F-6
Notes to Consolidated Financial Statements F-7 - F-25
(a)(2) Financial Statement Schedules None
(a)(3) Exhibits
2.1 Agreement and Plan of Merger by and among Earth Search Sciences, Inc.,
ESS Acquisition Corp., Space Technology Development Corporation and the
shareholders of Space Technology Development Corporation, dated
December 21, 1999 (Incorporated by reference to Exhibit 2.1 to the
Registrant's Form 10-K for fiscal year ended March 31, 2000).
3.1 Articles of Incorporation, as amended (Incorporated by reference to
Exhibit 3.1 to the Registrant's Forms 10-K for the fiscal years ended
March 31, 1995 and March 31, 1996).
3.2 Bylaws (Incorporated by reference to Exhibit 3.2 to the Registrants'
Form 10-K for the fiscal year ended March 31, 1995).
4.1 See exhibits 3.1 and 3.2.
10.1 Memorandum of Understanding between the Registrant and Applied Signal
and Imaging Technology, Inc. dated May 27, 1996 (Incorporated by
reference to Exhibit 10.1 to the Registrant's Form 10-K for fiscal year
ended March 31, 1996).
10.2 Contract of Sale and Leaseback dated June 10, 1997 between Registrant
and Accuprobe, Inc. (Incorporated by reference to Exhibit 10.2 to the
Registrant's Form 10-K for fiscal year ended March 31, 2000).
10.3 Operating Agreement of ESSI Probe1 LC, dated June 3, 1997 (Incorporated
by reference to Exhibit 10.3 to the Registrant's Form 10-K for fiscal
year ended March 31, 2000).
28
10.4 Hyperspectral Technology License Agreement between Earth Search
Sciences, Inc. and Noranda Mining and Exploration, Inc. made as of
December 16, 1997 (Incorporated by reference to the Registrant's for
8-K filed on February 6, 1998).
10.5 Agreement between the Office of Naval Research and Space Technology
Development Corporation Agreement for NAVY EARTHMAP OBSERVER (NEMO)
dated December 10, 1997 (Incorporated by reference to Exhibit 10.5 to
the Registrant's Form 10-K for fiscal year ended March 31, 2000).
10.6 Sales Contract between Science Applications International Corp. and
Space Technology Development Corp. Dated: 30 March 1998, Contract No.:
STDC-98-NEMO-0003 (Incorporated by reference to Exhibit 10.6 to the
Registrant's Form 10-K for fiscal year ended March 31, 2000).
10.7 Sales Contract between Science Applications International Corp. and
Space Technology Development Corp. Dated: 30 March 1998, Contract No.:
STDC-98-NEMO-004 (Incorporated by reference to Exhibit 10.7 to the
Registrant's Form 10-K for fiscal year ended March 31, 2000).
10.8 Sales Contract between Space Systems/Loral (SS/L) and Space Technology
Development Corporation (STDC). Dated 21 January 1999, Contract Number:
STDC-98-NEMO-0001 (Incorporated by reference to Exhibit 10.8 to the
Registrant's Form 10-K for fiscal year ended March 31, 2000).
10.9 Sales Contract between Litton Systems, Inc., Amecom Division (Litton
Amecom) and Space Technology Development Corp. (STDC). Date 29 October
1998, Contract Number: STDC-98-NEMO-0009 (Incorporated by reference to
Exhibit 10.9 to the Registrant's Form 10-K for fiscal year ended March
31, 2000).
10.10 Common Stock Purchase Agreement between Alpha Venture Capital, Inc. and
Earth Search Sciences, Inc. (ESSI). Dated May 23, 2001. (Incorporated
by reference to Exhibit 10.10 to the Registrant's Form 10-K for fiscal
year ended March 31, 2001).
10.11 Registration Rights Agreement between Alpha Venture Capital, Inc. and
Earth Search Sciences, Inc. (ESSI). Dated May 23, 2001. (Incorporated
by reference to Exhibit 10.11 to the Registrant's Form 10-K for fiscal
year ended March 31, 2001).
10.12 Common Stock Purchase Warrant A between Alpha Venture Capital, Inc. and
Earth Search Sciences, Inc. (ESSI). Dated May 23, 2001. (Incorporated
by reference to Exhibit 10.12 to the Registrant's Form 10-K for fiscal
year ended March 31, 2001).
10.13 Common Stock Purchase Warrant B between Alpha Venture Capital, Inc. and
Earth Search Sciences, Inc. (ESSI). Dated May 23, 2001. (Incorporated
by reference to Exhibit 10.13 to the Registrant's Form 10-K for fiscal
year ended March 31, 2001).
29
10.14 Larry F. Vance employment agreement (Incorporated by reference to
Exhibit 10.1 to the Registrant's Form 10-Q for fiscal quarter ended
December 31, 2000).
10.15 John W. Peel employment agreement (Incorporated by reference to Exhibit
10.2 to the Registrant's Form 10-Q for fiscal quarter ended December
31, 2000).
10.16 Rory J. Stevens employment agreement (Incorporated by reference to
Exhibit 10.3 to the Registrant's Form 10-Q for fiscal quarter ended
December 31, 2000).
10.17 Tami J. Story employment agreement (Incorporated by reference to
Exhibit 10.4 to the Registrant's Form 10-Q for fiscal quarter ended
December 31, 2000).
10.18 John J. Sciuto employment agreement (Incorporated by reference to
Exhibit 10.18 to the Registrant's Form 10-K for fiscal year ended March
31, 2001).
16.1 Consent of Independent accountants re Registration Statement on Form
No. S-1 (No. 333-66100).
16.2 Statement under oath of Principal Executive Officer and Principal
Financial Officer regarding facts and circumstances relating to
exchange act filings.
16.3 Letter re change in certifying accountant (Incorporated by reference to
Exhibit 16.1 to the Registrant's form 8-K filed on May 25, 2001).
21.1.1 List of Subsidiaries (Incorporated by reference to Exhibit
21.1.1 to the Registrant's Form 10-K for fiscal year ended
March 31, 2000)
(b) The Registrant filed the Following Reports on Form 8-K during the
quarter ended March 31, 2001:
Date of Report Item Reported
-------------- -------------
May 28, 2002 5
30
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
EARTH SEARCH SCIENCES, INC.
By /s/ Larry F. Vance
---------------------------------
Larry F. Vance
Chairman
Date: August 9, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE
/s/ Larry F Vance Chairman and Director
- ------------------------
Larry F. Vance
Date: August 9, 2002
/s/ Rory J. Stevens Chief Financial Officer and Director
- ------------------------
Rory J. Stevens
Date: August 9, 2002
/s/ Tami Story Corporate Secretary and Treasurer and Director
- ------------------------
Tami J. Story
Date: August 9, 2002
31
Report of Independent Certified Public Accountants
--------------------------------------------------
Board of Directors and Shareholders
Earth Search Sciences, Inc.
We have audited the accompanying consolidated balance sheets of Earth Search
Sciences, Inc. (the Company) as of March 31, 2002 and 2001, and the related
consolidated statements of operations, redeemable common stock and changes in
nonredeemable shareholders' (deficit) equity, and cash flows for the years then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Earth Search
Sciences, Inc. as of March 31, 2002 and 2001, and the consolidated results of
its operations and its consolidated cash flows for the years then ended, in
conformity with accounting principles generally accepted in the United States of
America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As shown in the financial statements,
the Company incurred a net loss of $16,797,081 during the year ended March 31,
2002, and, as of that date, the Company's current liabilities exceeded its
current assets by $12,295,035. In addition, the Company is uncertain as to the
future of a subsidiary's joint satellite development project with a governmental
agency (note 5). These factors, among others, as discussed in note 1 to the
financial statements, raise substantial doubt about the Company's ability to
continue as a going concern. Management's plans in regard to these matters are
also described in note 1. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
As discussed in note 2, the Company changed its method in accounting for sales
of stock by its subsidiaries.
/s/ GRANT THORNTON LLP
Seattle, Washington
June 5, 2002
Report of Independent Accountants
To the Board of Directors and
Shareholders of Earth Search Sciences, Inc.
In our opinion, the accompanying consolidated statements of loss, of redeemable
common stock and changes in nonredeemable shareholders' equity (deficit) and of
cash flows present fairly, in all material respects, the results of Earth Search
Sciences, Inc. and its subsidiaries results of operations and their cash flows
for the year ended March 31, 2000 in conformity with accounting principles
generally accepted in the United States of America. 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 audit. We
conducted our audit of these statements in accordance with auditing standards
generally accepted in the United States of America, 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 audit provides a reasonable basis for our opinion.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
financial statements, the Company has incurred recurring losses from operations
and has a net capital deficiency that raises substantial doubt about its ability
to continue as a going concern. Management's plans in regard to these matters
are also described in Note 1. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
/s/ PricewaterhouseCoopers LLP
Portland, Oregon
June 9, 2000
EARTH SEARCH SCIENCES, INC.
CONSOLIDATED BALANCE SHEETS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
2002 2001
------------ ------------
Assets
Current assets:
Cash $ 66,681 $ 367,902
Accounts receivable, net 1,205,175 900,531
Other current assets 134,155 73,408
------------ ------------
Total current assets 1,406,011 1,341,841
Property and equipment, net 5,690,580 18,368,285
------------ ------------
Total assets $ 7,096,591 $ 19,710,126
============ ============
Liabilities and Shareholders' (Deficit) Equity
Current liabilities:
Notes payable $ 440,387 $ 352,425
Capital lease obligation 3,277,415 3,058,603
Deferred officer's compensation 461,141 --
Accounts
payable 8,620,402 7,216,731
Accrued expenses 212,773 107,422
Accrued interest 498,928 356,983
Investor deposit 190,000 1,000,000
------------ ------------
Total current liabilities 13,701,046 12,092,164
Long-term liabilities:
Notes payable less current portion 1,033,698 --
Shareholder loans 1,256,844 825,844
Deferred officers' compensation 2,177,594 2,178,195
Minority interest 219,759 2,249,096
------------ ------------
Total liabilities 18,388,941 17,345,299
Commitments and contingencies -- --
Redeemable common stock, $.001 par value 17,981 17,981
Nonredeemable shareholders' (deficit) equity:
Series A preferred stock; 200,000 shares authorized,
issued and outstanding; liquidation preference $1,000,000 1,000,000 1,000,000
Common stock, $.001 par value; 200,000,000 shares
authorized; 158,775,576 and 154,090,616 shares,
respectively, issued and outstanding 158,776 154,091
Additional paid-in capital 32,697,066 29,561,847
Treasury stock (200,000) (200,000)
Accumulated deficit (44,966,173) (28,169,092)
------------ ------------
(11,310,331) 2,346,846
------------ ------------
Total liabilities and shareholders' (deficit) equity $ 7,096,591 $ 19,710,126
============ ============
The accompanying notes are an integral part of these financial statements.
EARTH SEARCH SCIENCES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000
- --------------------------------------------------------------------------------
2002 2001 2000
------------- ------------- -------------
Revenue $ 5,044,498 $ 2,678,986 $ 1,526,446
Costs of revenue 5,342,983 1,777,437 1,796,412
------------- ------------- -------------
Gross margin (298,485) 901,549 (269,966)
Expenses:
Asset impairment 13,010,364 -- --
General and administrative 3,053,024 3,854,000 2,397,484
Non-cash compensation 14,624 2,941,405 1,608,001
Exploration -- 95,540 6,282
------------- ------------- -------------
16,078,012 6,890,945 4,011,767
------------- ------------- -------------
Loss from operations (16,376,497) (5,989,396) (4,281,733)
Other income (expense)
Interest income 4,813 98,436 38,821
Interest expense (760,730) (1,035,856) (1,136,995)
Other expense -- -- (641)
------------- ------------- -------------
Loss before minority interest (17,132,414) (6,926,816) (5,380,548)
Minority interest in losses of consolidated subsidiaries 335,333 290,336 202,565
------------- ------------- -------------
Net loss $ (16,797,081) $ (6,636,480) $ (5,177,983)
============= ============= =============
Shares applicable to basic and diluted loss per share 155,553,912 135,941,012 107,778,285
Basic and diluted loss per share $ (0.11) $ (0.05) $ (0.05)
The accompanying notes are an integral part of these financial statements.
EARTH SEARCH SCIENCES, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE COMMON STOCK AND
CHANGES IN NONREDEEMABLE SHAREHOLDERS' (DEFICIT) EQUITY
MARCH 31, 2002, 2001 AND 2000
- -----------------------------------------------------------------------------------------------------------------------------
Nonredeemable Shareholders' (Deficit) Equity
-----------------------------------------------
Redeemable
Common Stock Perferred Stock Common Stock
--------------------- ---------------------- ----------------------
Description Shares Amount Shares Amount Shares Amount
- ---------------------------------------------------- --------- --------- --------- ---------- ----------- --------
Balance at March 31, 1999 725,914 $ 117,845 200,000 $1,000,000 97,411,367 $ 97,411
Issuance of common stock for services rendered -- -- -- -- 3,344,687 3,345
Issuance of common stock for cash -- -- -- -- 17,708,175 17,708
Issuance of stock subscription -- -- -- -- -- --
Issuance of shares in lieu of interest payment -- -- -- -- 1,900,000 1,900
Issuance of shares for loan conversions -- -- -- -- 849,663 850
Issuance of shares for acquisition of STDC -- -- -- -- 4,000,000 4,000
Issuance of shares for interests in mineral properties -- -- -- -- 596,398 596
Shares no longer subject to redeemtion (591,754) (96,111) -- -- 591,754 592
Non cash compensation expense -- -- -- -- -- --
Net Loss -- -- -- -- -- --
--------- --------- --------- ---------- ----------- --------
Balance at March 31, 2000 134,160 21,734 200,000 1,000,000 126,402,044 126,402
--------- --------- --------- ---------- ----------- --------
Issuance of common stock for services rendered -- -- -- -- 576,024 576
Issuance of common stock for cash -- -- -- -- 2,037,441 2,037
Issuance of shares for loan and interest conversions -- -- -- -- 16,097,874 16,099
Issuance of shares for interests in mineral properties -- -- -- -- 167,066 167
Issuance of common stock for exercise of options -- -- -- -- 200,000 200
Non-cash compensation expense -- -- -- -- -- --
Shares no longer subject to redeemtion (23,167) (3,753) -- -- 23,167 23
Issuance of stock for bonus -- -- -- -- 8,587,000 8,587
Net Loss -- -- -- -- -- --
--------- --------- --------- ---------- ----------- --------
Balance at March 31, 2001 110,993 17,981 200,000 1,000,000 154,090,616 154,091
--------- --------- --------- ---------- ----------- --------
Cummulative effect on prior years of change in
accounting for sales of stock by subsidiaries -- -- -- -- -- --
Issuance of common stock for services rendered -- -- -- -- 3,474,620 3,475
Issuance of shares for loan extension -- -- -- -- 360,000 360
Issuance of shares for interests in mineral properties -- -- -- -- 850,340 850
Allocation of investor deposit to subsidiary stock -- -- -- -- -- --
Non-cash compensation expense -- -- -- -- -- --
Net Loss -- -- -- -- -- --
--------- --------- --------- ---------- ----------- --------
Balance at March 31, 2002 110,993 $ 17,981 200,000 $1,000,000 158,775,576 $158,776
========= ========= ========= ========== =========== ========
EARTH SEARCH SCIENCES, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE COMMON STOCK AND
CHANGES IN NONREDEEMABLE SHAREHOLDERS' (DEFICIT) EQUITY
MARCH 31, 2002, 2001 AND 2000 (continued)
Nonredeemable Shareholders' (Deficit) Equity
---------------------------------------------------
Additional Common
paid-in Stock Accumulated Treasury
Description capital Subscribed Deficit stock Total
- ---------------------------------------------------- ----------- ---------- ------------ --------- ------------
Balance at March 31, 1999 $11,459,081 -- $(16,354,629) $(200,000) $ (3,998,137)
Issuance of common stock for services rendered 466,129 -- -- 469,474
Issuance of common stock for cash 6,767,718 -- -- 6,785,426
Issuance of stock subscription 363,000 -- -- 363,000
Issuance of shares in lieu of interest payment 271,850 -- -- 273,750
Issuance of shares for loan conversions 88,328 -- -- 89,178
Issuance of shares for acquisition of STDC 1,924,203 -- -- 1,928,203
Issuance of shares for interests in mineral properties 226,036 -- -- 226,632
Shares no longer subject to redeemtion 95,520 -- -- 96,112
Non cash compensation expense 1,608,001 -- -- 1,608,001
Net Loss -- (5,177,983) -- (5,177,983)
----------- ---------- ------------ --------- ------------
Balance at March 31, 2000 22,906,866 363,000 (21,532,612) (200,000) 2,663,656
----------- ---------- ------------ --------- ------------
Issuance of common stock for services rendered 125,701 -- -- 126,277
Issuance of common stock for cash 718,892 (363,000) -- -- 357,929
Issuance of shares for loan and interest conversions 2,760,737 -- -- 2,776,836
Issuance of shares for interests in mineral properties 63,318 -- -- 63,485
Issuance of common stock for exercise of options 49,785 -- -- 49,985
Non-cash compensation expense 14,624 -- -- 14,624
Shares no longer subject to redeemtion 3,730 -- -- 3,753
Issuance of stock for bonus 2,918,194 -- -- 2,926,781
Net Loss -- (6,636,480) -- (6,636,480)
----------- ---------- ------------ --------- ------------
Balance at March 31, 2001 29,561,847 -- (28,169,092) (200,000) 2,346,846
----------- ---------- ------------ --------- ------------
Cummulative effect on prior years of change in
accounting for sales of stock by subsidiaries 1,707,868 -- -- 1,707,868
Issuance of common stock for services rendered 371,801 -- -- 375,276
Issuance of shares for loan extension 55,640 -- -- 56,000
Issuance of shares for interests in mineral properties 249,150 -- -- 250,000
Allocation of investor deposit to subsidiary stock 736,136 -- -- 736,136
Non-cash compensation expense 14,624 -- -- 14,624
Net Loss -- (16,797,081) -- (16,797,081)
----------- ---------- ------------ --------- ------------
Balance at March 31, 2002 $32,697,066 -- $(44,966,173) $(200,000) $(11,310,331)
=========== ========== ============ ========= ============
EARTH SEARCH SCIENCES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED MARCH 2002, 2001 AND 2000
- --------------------------------------------------------------------------------
2002 2001 2000
------------ ------------ ------------
Cash flows from operating activities:
Net loss $(16,797,081) $ (6,636,480) $ (5,177,983)
Adjustments to reconcile net loss to net cash used in
operating activities:
Non cash compensation expense 14,624 2,941,405 1,608,001
Common stock issued for services and interest expense 431,276 568,347 743,224
Loss attributed to minority interest (335,333) (290,336) (202,565)
Depreciation, amortization and depletion 529,111 576,350 356,364
Write off capitalized costs on oil and gas properties 690,048 -- --
Asset impairment 13,010,364 -- --
Amortization of lease discount -- -- 485,622
Allowance for doubtful accounts -- 287,371 33,912
Changes in assets and liabilities
Accounts receivable (304,644) (754,193) (406,645)
Other current assets (60,747) 296,565 (266,577)
Accounts payable and accrued expenses 1,509,022 1,036,605 (829,394)
Accrued interest 360,757 308,603 104,452
Unearned revenue -- -- (121,986)
Deferred officers compensation 460,540 140,349 330,466
------------ ------------ ------------
Net cash used in operating activities (492,063) (1,525,414) (3,343,109)
------------ ------------ ------------
Cash flow from investing activities:
Capital expenditures (1,361,818) (6,272,164) (456,545)
Net cash acquired from acquisition of STDC -- -- 168,046
------------ ------------ ------------
Net cash used in investing activities (1,361,818) (6,272,164) (288,499)
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from notes payable 1,153,692 250,000 2,324,983
Repayments on notes payable (32,032) (25,000) (10,593)
Payment of investor deposit -- 1,000,000 --
Repayments on capital lease obligation -- (250,000) --
Proceeds from shareholder loans 431,000 141,000 333,602
Repayments on shareholder loans -- -- (312,883)
Proceeds from sale of common stock -- 407,914 6,785,426
Proceeds from common stock subscribed -- -- 363,000
Proceeds from sale of common stock of subsidiaries -- 522,004 219,993
------------ ------------ ------------
Net cash provided by financing activities 1,552,660 2,045,918 9,703,528
------------ ------------ ------------
Net (decrease) increase in cash (301,221) (5,751,660) 6,071,920
Cash at beginning of period 367,902 6,119,562 47,642
------------ ------------ ------------
Cash at end of period $ 66,681 $ 367,902 $ 6,119,562
============ ============ ============
Interest paid $ 148,389 $ 4,818 $ 22,798
============ ============ ============
The accompanying notes are an integral part of these financial statements.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
1. SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
The business of Earth Search Sciences, Inc. ("the Company") is the collection of
high value hyperspectral imagery of the earth's surface utilizing the Company's
proprietary hyperspectral imaging sensors, principally in North America. This
imagery is either sold to end users via contracts to collect the information,
collected for the Company's own exploration purposes, or to be sold to third
parties through its web based e-commerce site. The Company also performs a range
of imagery processing services. Information collected by the sensor has
applications in natural resources development, environmental monitoring and
remediation, wildlife habitat monitoring, hydrocarbon exploration and
development, agricultural assessment and planning, including weed species
identification, land use planning, forestry monitoring and planning and target
identification for defense surveillance.
The Company has four wholly owned subsidiaries: Skywatch Exploration, Inc.,
Polyspectrum Imaging, Inc., Geoprobe, Inc., and STDC, Inc. ("STDC"). In
addition, there are five partially owned consolidated subsidiaries: Earth Search
Resources, Inc., Eco Probe, Inc., ESSI Probe 1 LC, Petro Probe, Inc. and
Terranet, Inc. As of March 31, 2002, Earth Search Resources, Inc., and Skywatch
Exploration, Inc. are inactive. The 50% owned subsidiary ESSI Probe 1 LC was
formed as a joint venture to own and operate hyperspectral instruments.
Polyspectrum Imaging, Inc. was formed to develop, design, engineer, explore the
feasibility of and construct additional airborne instruments.
The majority owned Petro Probe, Inc. was formed to identify and develop
hydrocarbon properties by utilizing the Company's hyperspectral instruments,
hydrocarbon geologists, and imagery processors. At March 31, 2002, Petro Probe,
Inc. holds interest in seven oil and gas projects.
In fiscal 2000, Terranet, Inc. was formed as the Company's internet based global
information and imagery distribution system. The system is to provide high value
added data packages, tailored for end users that can be downloaded over the
Company's high-speed delivery system. It is through the use of this high-speed
delivery system that information can be provided to a wide customer base using
high-speed broadband delivery of imagery and video. Terranet, Inc. is expected
to begin operations in fiscal 2003.
The Company entered into an Agreement and Plan of Merger ("Agreement") with STDC
dated November 15, 1999. Under the Agreement, the Company exchanged 4,000,000
shares of its common stock and options to purchase an additional 4,000,000
shares of its common stock at exercise prices ranging from $0.50 to $5.00 per
share for all of the shares of common stock of STDC. The merger was finalized as
of December 21, 1999 and was accounted for under the purchase method of
accounting at a cost of $1,928,203. The excess of the cost of STDC over the
historical cost of STDC net assets is allocated to the value of a satellite
included in construction in progress. STDC results of operations for the period
December 22, 1999 through March 31, 2000 are included in the Company's results
of operations for the year ended March 31, 2000. In fiscal 2002 and 2001, a full
year of STDC results of operations are consolidated with the Company.
STDC, in cooperation with the Department of the Navy's Office of Naval Research
(ONR) and several commercial partners, have worked on developing a
remote-sensing instrument to be mounted on a satellite, Naval EarthMap Observer
(NEMO). The instrument is designed to, upon launch and deployment, provide
imagery for applications in natural resources development, environmental
monitoring and remediation, wildlife habitat monitoring, hydrocarbon exploration
and development,
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
agricultural assessment and planning, including weed species identification,
land use planning, forestry monitoring and planning and defense surveillance
markets throughout the world. See further discussion of recent NEMO project
developments at note 5.
In fiscal 2002, the Company operated its airborne hyperspectral sensors under
contracts with third parties in several areas around the United States. In
fiscal 2001 and 2000, the Company's sensors were operated in the United States
and abroad. Contracts to operate the sensors abroad for major mining companies
contributed $1,087,000 and $720,000 to revenue in 2001 and 2000. Contracts to
operate the sensors in the United States as an ecological, agricultural,
hydrocarbon, and target identification contributed approximately $460,000,
$81,000 and $143,000 to revenue in 2002, 2001, and 2000, respectively. STDC's
contract with the Office of Naval Research to design, build, and operate a
hyperspectral sensor mounted on a satellite contributed approximately
$4,235,000, $1,094,000, and $663,000 to revenue in 2002, 2001 and 2000. In
fiscal 2002, projects with one client accounted for approximately 84% of total
revenue. In fiscal 2001, projects with three clients accounted for approximately
68% of total revenue. In fiscal 2000, projects with two clients accounted for
approximately 89% of total revenue.
GOING CONCERN
The Company is experiencing working capital deficiencies because it has incurred
operating losses. In addition, the Company is uncertain as to the future of the
NEMO project (note 5). The Company has operated with funds received from the
sale of its common stock and the issuance of notes. The ability of the Company
to continue as a going concern is dependent upon continued debt or equity
financings until or unless the Company is able to generate operating revenues to
sustain ongoing operations.
The Company plans to increase the number of revenue producing services through
the use of additional hyperspectral sensors and has entered into an agreement
for an equity line (see note 13). There can be no assurance that the Company can
raise the necessary funds to continue as a going concern.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Earth Search
Sciences, Inc. and its subsidiaries. All significant intercompany transactions
have been eliminated. Beginning in 2002, the Company's change of ownership in
its subsidiaries as a result of the sale of its subsidiaries common stock is
recorded in additional paid-in capital in the Company's financial statements. In
prior years, these changes of ownership were recorded as increases in minority
interest. The Company's financial statements reflect minority interests in
subsidiaries for non-controlling interest held by third parties in Earth Search
Resources, Inc., Eco Probe, Inc., ESSI Probe 1 LC, Petro Probe, Inc. and
Terranet, Inc.
OIL AND GAS PROPERTIES
The Company uses the successful efforts method to account for its oil and gas
properties. Under this method, it capitalizes costs incurred for property
acquisition, exploration, and drilling related to its oil and gas properties.
Once the project is completed, and, if oil or gas is located, costs capitalized
to date on the specific project are amortized under the unit-of-production
method as revenue is recognized. Capitalized costs for unsuccessful projects
will be expensed when that determination is made.
Based on the agreements for the working interests in oil and gas properties, the
Company will proportionately share in future revenues as well as future
operating and drilling costs. Unproved oil and gas properties that are
individually significant are periodically assessed for impairment of value, and
a loss is recognized at the time of impairment by providing an impairment
allowance.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
Other unproved properties are amortized based on the Company's experience of
successful drilling and average holding period. Capitalized costs of producing
oil and gas properties, after considering estimated dismantlement and
abandonment costs and estimated salvage values, are depreciated and depleted by
the unit-of-production method.
REVENUE RECOGNITION
The Company recognizes revenue and costs as services are rendered under contract
for airborne hyperspectral services and imaging processing services.
STDC receives funds in the form of grants from the U.S. Navy to construct its
satellite and to manage the NEMO program. The grants are considered
cost-reimbursement instruments under Office of Management and Budget (OMB)
circulars. As allowable government-reimbursable costs are incurred, STDC
recognizes a proportionate share of revenue. Government funds received in excess
of government-reimbursable costs are deferred until reimbursable costs are
incurred.
ACCOUNTS RECEIVABLE
The majority of the Company's accounts receivable are due from the ONR and are
considered fully collectible (see note 5). Accounts receivable from other
sources are net of a valuation reserve that represents an estimate of amounts
considered uncollectible. The Company established an allowance for doubtful
accounts totaling $138,972 and $158,912 as of March 31, 2002 and 2001,
respectively.
RESEARCH AND DEVELOPMENT COSTS AND EXPLORATION COSTS
Research and development costs and exploration costs from using hyperspectral
instruments to map areas of interest to the Company are expensed as incurred.
DEPRECIATION AND AMORTIZATION
The Company recognizes depreciation on its property and equipment using the
straight-line method over estimated useful lives ranging from five years for
computers and software, vehicles and equipment to ten years for the two
hyperspectral sensors. The second generation probe included in construction in
progress will be depreciated from the time it is placed into service. The ATM
imagery database is fully depreciated. Satellite construction in progress
represents only the Company's direct investment in the construction of the
satellite and an allocation of the excess of the purchase price of STDC over the
net book value of STDC assets. Upon successful launch and deployment of the
satellite, the total costs incurred will be depreciated over a five year period,
which is the expected life of the satellite.
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. The Company evaluates long-lived assets to determine potential
impairment by comparing the carrying amount to the undiscounted estimated future
cash flows of the related assets. In fiscal 2002, based on such review, the
Company incurred an asset impairment on the NEMO project of $13,010,364 (see
note 5).
INCOME TAXES
Deferred income taxes are recognized for the tax consequences in future years of
differences between the tax basis of assets and liabilities and their financial
reporting amounts based on enacted tax laws and statutory tax rates applicable
to the period in which the differences are expected to affect taxable income.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
Valuation allowances are established, when necessary, to reduce deferred tax
assets to the amount expected to be realized.
MINORITY INTEREST
Profit and losses from subsidiaries with minority interest are allocated to the
minority interest liability account based on the percentage of minority interest
ownership. Once losses applicable to the minority interest in the subsidiary
exceed the minority interest in the equity capital of the subsidiary, then no
additional losses will be allocated to the minority interest liability account.
COMMON STOCK
Common stock issued for other than cash consideration is reflected in the
accompanying financial statements at estimated fair value on the date of issue.
TREASURY STOCK
Treasury stock is recorded at cost. Sales of treasury stock at amounts in excess
of or below cost, net of selling expenses, have been recorded as
increases/decreases in additional paid-in capital.
NET LOSS PER COMMON SHARE
Net loss per common share has been computed based on the weighted average number
of the Company's common shares outstanding. Common stock equivalents have not
been considered in the diluted net loss per share calculation because their
effect on net loss per share is anti-dilutive. Exercisable stock option and
warrant shares outstanding as of March 31, 2002, 2001 and 2000 totaled
19,575,000, 19,575,000, and 32,850,000, respectively.
CHANGES IN CLASSIFICATION
Certain reclassifications have been made to the fiscal 2001 and 2000 financial
statements to conform with the financial statement presentation for fiscal 2002.
Such reclassifications had no effect on the Company's results of operations or
shareholders' equity.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
FINANCIAL INSTRUMENTS
The Company records financial instruments at cost, which approximates fair
value, unless otherwise stated.
RECENTLY ISSUED ACCOUNTING STANDARDS
In October 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 144 (SFAS 144), ACCOUNTING FOR THE IMPAIRMENT
OR DISPOSAL OF LONG-LIVED ASSETS. SFAS 144 supersedes SFAS 121, ACCOUNTING FOR
THE IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF, and
APB Opinion 30, REPORTING THE RESULTS OF OPERATIONS - REPORTING THE EFFECTS OF
DISPOSAL OF A SEGMENT OF A BUSINESS, AND EXTRAORDINARY, UNUSUAL AND INFREQUENTLY
OCCURRING EVENTS
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
AND TRANSACTIONS, for segments of a business to be disposed of. SFAS 144 is
effective for fiscal years beginning after December 15, 2001. The Company is
currently evaluating the potential effect of the initial application of SFAS 144
on its consolidated financial statements.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." This Statement addresses financial accounting
and reporting for costs associated with exit or disposal activities and
nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)." The Company
will be required to adopt this statement for exit or disposal activities that
are initiated after December 31, 2002. The Company is currently evaluating the
potential effect of the initial application of SFAS 146 on its consolidated
financial statements.
2. CHANGES IN ACCOUNTING FOR SALES OF STOCK BY SUBSIDIARIES
In fiscal 2002, the Company changed its method of accounting for the sales of
stock by its subsidiaries to account for these sales as increases in additional
paid-in capital instead of as an increase to minority interest in the
accompanying consolidated financial statements. Management believes that because
of the developing nature of operations of the subsidiaries with minority
interest, the new method of accounting will provide more meaningful information
concerning sales of stock by its subsidiaries and, correspondingly, the minority
interest liability account. The Company recognized an increase in additional
paid-in capital of $1,707,868, as a cumulative effect on prior years of this
change in account principles.
3. SUPPLEMENTAL CASH FLOW INFORMATION
Year ended March 31,
2002 2001 2000
---------- ---------- ----------
Non-cash financing and investing activities:
Notes payable and interest converted into common stock $ -- $2,776,836 $ 89,178
Common stock issued in lieu of interest payments -- -- 273,750
Issuance of shares for mineral properties 250,000 63,485 226,632
Issuance of shares for acquisition of STDC -- -- 1,928,203
Allocation of investor deposit to subsidiary stock 736,136 -- --
Allocation of investor deposit to minority interest 13,864 -- --
Allocation of investor deposit to mineral property 60,000 -- --
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
March 31,
2002 2001
------------ ------------
Mineral properties (A) $ 1,293,746 $ 1,363,785
ATM imagery database 134,000 134,000
Computers and software 303,784 297,639
Vehicles and equipment 1,089,270 1,054,468
Hyperspectral instruments (B) 4,058,000 4,058,000
Construction in progress (C) 900,000 13,019,501
------------ ------------
7,778,800 19,927,393
Accumulated depreciation, amortization
and depletion (2,088,220) (1,559,108)
------------ ------------
$ 5,690,580 $ 18,368,285
============ ============
(A) In fiscal 2001, the Company acquired working interests in two
additional oil and gas properties for $555,406 and the issuance of
167,066 shares of its common stock valued at $63,485. In fiscal
2002, the Company paid $680,008 on existing properties and one new
property by issuing 850,340 shares of stock valued at $250,000 and
paid $430,008 with working capital.
In fiscal 2001, one of the oil and gas properties with capitalized
costs totaling approximately $250,000 began production. The Company
recognized $348,873 and $417,319 in revenue from that property in
fiscal 2002 and 2001, respectively. Capitalized costs for that
project amortized under the unit-of-production method were $58,614
and $34,633 in fiscal 2002 and 2001, respectively.
In fiscal 2002, the Company wrote-off $690,048 of previously
capitalized costs on three oil and gas drillings that were
determined to be uneconomical wells. In addition, the Company sold a
partial interest in another of the properties for $60,000.
Based on an outside engineering study dated May 2001, the current
producing well had initial estimated reserves of 20.1 billion cubic
feet of natural gas and 17,000 barrels of oil. The well has produced
6.9 billion cubic feet of natural gas and 15,800 barrels of oil as
of March 31, 2002. The Company's interest in the discounted net cash
flows from this well is estimated to be $661,000 as of March 31,
2002 based on prices for natural gas and oil as of March 31, 2002.
The estimates of proved and proved developed reserve quantities and
related standardized measure of discounted net cash flow are
estimates only, and do not purport to reflect realizable values or
fair market values of the Company's reserves. The Company emphasizes
that reserve estimates are inherently imprecise and that estimates
of new discoveries are more imprecise that those of producing oil
and gas properties. Accordingly, these estimates are expected to
change as future information becomes available.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
Proved reserves are estimated reserves of crude oil (including
condensate and natural gas liquids) and natural gas that geological
and engineering data demonstrate with reasonable certainty to be
recoverable in the future years from known reservoirs under existing
economic and operating conditions. Proved developed reserves are
those expected to be recovered through existing well, equipment, and
operating methods.
The standardized measure of discounted future net cash flows is
computed by applying year-end prices of oil and gas (with
consideration of price changes only to the extent provided by
contractual arrangements) to the estimated future production of
proved oil and gas reserves, less estimated future expenditures
(based on year-end costs) to be incurred in developing and producing
the proved reserves, less estimated future income tax expenses
(based on year-end statutory tax rates, with consideration of future
tax rates already legislated) to be incurred on pretax net cash
flows less tax basis of the properties and available credits, and
assuming continuation of existing economic conditions. The estimated
future net cash flows are then discounted using a rate of 10 percent
a year to reflect the estimated timing of the future cash flows.
(B) The Company entered into a sale-leaseback of a hyperspectral
instrument in 1997. The instrument was sold for $2,500,000 and
leased back under the following terms: 1) the Company will lease the
instrument for $250,000 per year bearing interest at the prime rate
plus 2% through June 2007; 2) at any time during the above lease
period but no later than April 10, 2000, the Company could
repurchase the instrument for $3,500,000 net of any lease payments;
3) at any time prior to the repurchase, the lessor may convert the
remaining obligation into shares of the Companys subsidiary's common
stock at a conversion rate of 40% of the stock's then fair market
value. In the event the Company is not the operator at the time of
exercise of the option, the lessee shall substitute comparable
equity securities or other rights subject to reasonable approval of
lessor; 4) the Company issued to lessor 1,000,000 unregistered
shares of the Company's common stock and warrants to purchase an
additional 1,000,000 unregistered shares of the Company's common
stock at an exercise price of $2 per share; and 5) the lessor will
receive certain royalty rights to revenues generated from mineral
sites identified by the instrument. The Company recorded a capital
lease obligation of $3,500,000 (net of a debt discount of
$1,375,000) and $375,000 in shareholders' equity related to the
shares of common stock and stock purchase warrants issued in
conjunction with the above transaction.
In fiscal 2001, the Company issued a promissory note for $250,000
for the third lease payment due on April 2001. This note was later
converted to common stock per the terms of the note.
The cost of the equipment under capital leases is $2,100,000 with
related accumulated depreciation of $945,000 and $875,000 at March
31, 2002 and 2001, respectively.
The Company did not repurchase the hyperspectral instrument as of
April 10, 2002. The total liability of $3,277,415, which includes
$527,414 of accrued interest, is currently due as the Company
anticipates repurchase of the instrument within the next twelve
months (see note 15).
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
In fiscal 2000, the Company completed purchase and received its
second hyperspectral instrument. The capitalized cost of the
instrument is $1,958,000 with accumulated depreciation of $489,500
and $233,700 as of March 31, 2002 and 2001, respectively.
(C) Included in construction in progress at March 31, 2001 is
$12,119,501 of costs and allocated purchase price related to the
development of a remote sensing instrument and satellite. Additional
costs of $890,863 were incurred during fiscal 2002. In 2002, the
Company's agreement with the ONR was terminated and the Company
recognized an impairment loss of $13,010,364 (see note 5). At March
31, 2002, the remaining $900,000 balance represents development
costs of the second generation hyperspectral instrument, which the
Company anticipates completing during fiscal 2003.
5. NAVAL EARTHMAP OBSERVER (NEMO) PROJECT
In May 2002, the Company received notification from the ONR indicating
that the performance period for the agreement governing the NEMO project
had ended and that is was time to initiate close-out procedures, which
include accounting for the distributions of federal funds under the
agreement and accounting for and disposing of all real property and
equipment acquired under the agreement. Further, the ONR requested the
Company to provide an audited record of all distributions of federal and
non-federal funds under the agreement. The Company is waiting for an audit
date to be set by the ONR and the Defense Contract Audit Agency.
Management believes that after the close-out procedures and the related
audit of project distributions, the Company may enter into a new agreement
with the ONR relating to the NEMO project. Further, management believes
that given the Company's significant contribution to the NEMO project to
date, any future agreement with the ONR would most likely include
appropriate compensation and reimbursement. The ONR is unwilling to
formally discuss this possibility until after the completion of the
close-out audit.
Given the uncertainty surrounding the future of the NEMO project, the
Company reevaluated the carrying value of the costs incurred in the
development of the remote sensing instrument and satellite. Under the
direction of current accounting pronouncements, the Company determined
that the asset was impaired and recognized a loss on the long-lived asset
of $13,010,364 as of March 31, 2002.
As of March 31, 2002, accounts receivables include $1,105,995 due from the
ONR as reimbursement for certain subcontract costs, which the Company
believes were approved by the ONR for payment with federal funds. The ONR
has questioned $649,839 of this balance and refuses reimbursement until
the conclusion of the NEMO project close-out audit. Management is
confident that the Company has accounted for the disbursements of federal
funds properly, but it is possible that the amount in question may not
ultimately be reimbursed by the ONR.
Included in accounts payable as of March 31, 2002 is $ 7,596,683 of
accounts payable to NEMO subcontractors and vendors. $1,105,995 of these
payables are matched by the $1,105,995 of accounts receivable due from the
ONR. The remaining accounts payable of $6,490,688 are obligations of STDC
to NEMO subcontractors and vendors that are to be paid with funds raised
into
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
STDC from industry sources. The related costs were capitalized in the
construction in process account and are part of the $13,010,364 impairment
loss recognized in 2002.
6. NOTES PAYABLE
Notes payable consist of $396,117 in unsecured promissory notes with
rights of conversion. The terms of these debt instruments are typically
for an initial period of ninety days or one year and are renewable at
maturity for one year. The notes bear interest at rates ranging from 10%
to 12.5%. Holders of the notes at their option have the right to convert
the principal amount plus interest into restricted shares of the Company's
common stock, subject to the terms of the promissory notes. As of March
31, 2002 and 2001, accrued interest on these notes payable aggregated
$98,742 and $62,651, respectively, and has been included in accrued
interest in the accompanying consolidated balance sheets.
In fiscal 2002, the Company and its Petro Probe subsidiary secured a
$1,200,000 loan from an outside party maturing on June 15, 2003. Payments
totaling $18,011 are due monthly with the unpaid principal balance
accruing interest at 15%. The Company and its subsidiary have an option to
renew the loan for an additional year for a loan extension fee. The loan
is collateralized with a security interest in the Company's airplane, a
hyperspectral sensor, working interest in an oil and gas property and a
deposit made out of loan proceeds and held at a financial services
company. $44,270 of this loan is included in current liabilities, and the
balance of $1,033,698, net of deposit held, is included in long-term
liabilities.
In fiscal 2001, $2,776,836 of notes outstanding plus accrued interest were
converted into common stock at the agreed upon conversion rates.
7. SHAREHOLDER LOANS
The Company has financed its operations in part by funds received from
advances by shareholders. These advances are in the form of unsecured
promissory notes and bear interest at rates ranging from 8% to 10%. As of
March 31, 2002 and 2001, interest accrued on such advances aggregated
$400,186 and $294,332, respectively, and has been included in accrued
interest in the accompanying consolidated balance sheets.
Shareholder loans are reflected as a noncurrent liability in the
accompanying consolidated financial statements due to: a) the undefined
terms of repayments, b) the inability of the Company to repay the advances
unless and until it achieves positive cash flow, and c) the possibility
that the obligations will be satisfied through the issuance of shares of
the Company's common stock. The Company does not anticipate repayment of
the loans during the fiscal 2003.
8. DEFERRED OFFICERS' COMPENSATION
Deferred compensation consists of the cumulative unpaid compensation due
to corporate officers (Chairman, Chief Executive Officer, Chief Financial
Officer and Secretary). The Company recorded net deferred officer
compensation, accrued payroll taxes and accrued interest of $460,541,
$140,349, and $425,104 during the fiscal years ended March 31, 2002, 2001
and 2000, respectively, and included these amounts in general and
administrative expenses. The Company is accruing interest on
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
the deferred compensation balances at a rate of 8.5%, compounded
quarterly. The Company is making full salary payments to the Chairman,
Chief Executive Officer, Chief Financial Officer and Secretary as cash
flow allows. The Company anticipates repayments of a portion of these
amounts during fiscal 2003 (see note 16).
9. BUSINESS SEGMENT INFORMATION
The major activities of the Company and its subsidiaries are broken down
into an Airborne Hyperspectral Services business segment, a Satellite
Development business segment, an Oil and Gas property business segment and
an Other Industries business segment. The Airborne Hyperspectral Services
segment and Satellite Development segment will utilize remote sensing
instruments to earn revenue from the sale of hyperspectral imagery. The
current Satellite Development business segment revenue is from a cost
reimbursement contract with the U.S. Navy for the construction of the NEMO
project. Transactions between the business segments are loans, interest,
and management fees based on an allocation of incurred costs for general
and administrative expenses. As the consolidated group is operating at a
net loss position, no income tax expense or benefit is provided.
Business Segment Information for Fiscal Year 2002
Airborne Adjustments
Hyperspectral Satellite Oil and Gas Other and
Services Development Properties Industries Eliminations Combined
------------ ------------ ------------ ------------ ------------ ------------
Revenue $ 460,306 $ 4,235,319 $ 348,873 -- -- $ 5,044,498
============ ============ ============ ============ ============ ============
Operating Income (Loss) $ (450,835) $(14,728,729) $ (733,424) $ (463,509) -- $(16,376,497)
============ ============ ============ ============ ============ ============
Interest income 2,129 2,684 -- -- -- 4,813
Interest expense (281,175) (479,555) -- -- -- (760,730)
Income from continuing operations
before income taxes and minority
interests -- -- -- -- -- (17,132,414)
Identifiable assets at 3/31/2002 $ 4,557,206 $ 1,176,938 $ 1,251,374 $ 111,073 -- $ 7,096,591
============ ============ ============ ============ ============ ============
Total Assets at 3/31/2002 $ 7,096,591
============
Depreciation and amortization for
the period ended 3/31/2002 $ 468,774 $ -- $ 58,615 $ 1,723 -- $ 529,112
============ ============ ============ ============ ============ ============
Capital expenditures for the
period ended 3/31/2002 $ 40,946 $ 890,863 $ 680,009 $ -- -- $ 1,611,818
============ ============ ============ ============ ============ ============
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
Business Segment Information for Fiscal Year 2001
Airborne Adjustments
Hyperspectral Satellite Oil and Gas Other and
Services Development Properties Industries Eliminations Combined
------------ ------------ ------------ ------------ ------------ ------------
Revenue $ 1,167,741 $ 1,093,926 $ 417,319 -- -- $ 2,678,986
============ ============ ============ ============ ============ ============
Operating Income (Loss) $ (4,166,052) $ (1,324,622) $ 39,064 $ (537,786) -- $ (5,989,396)
============ ============ ============ ============ ============ ============
Interest income 24,715 73,721 -- -- -- 98,436
Interest expense (464,323) (571,533) -- -- -- (1,035,856)
Income from continuing operations
before income taxes and minority
interests -- -- -- -- -- (6,926,816)
Identifiable assets at 3/31/2001 $ 4,934,159 $ 13,091,253 $ 1,570,357 $ 114,357 -- $ 19,710,126
============ ============ ============ ============ ============ ============
Total Assets at 3/31/2001 -- -- -- -- -- $ 19,710,126
============
Depreciation and amortization
for the period ended 3/31/2001 $ 538,419 $ 1,575 $ 34,633 $ 1,723 -- $ 576,350
============ ============ ============ ============ ============ ============
Capital expenditures for the
period ended 3/31/2001 $ 1,624,647 $ 3,666,100 $ 939,153 $ 105,750 -- $ 6,335,650
============ ============ ============ ============ ============ ============
Business Segment Information for Fiscal Year 2001
Airborne Adjustments
Hyperspectral Satellite Oil and Gas Other and
Services Development Properties Industries Eliminations Combined
------------ ------------ ------------ ------------ ------------ ------------
Revenue $ 863,655 $ 662,791 $ -- $ -- $ -- $ 1,526,446
============ ============ ============ ============ ============ ============
Operating Income (Loss) $ (2,933,764) $ (740,392) $ (143,843) $ (372,938) $ (90,796) $ (4,281,733)
============ ============ ============ ============ ============ ============
Interest income 15,396 23,425 -- -- -- 38,821
Interest expense (1,066,149) (161,642) -- -- 90,796 (1,136,995)
Other expense (641) -- -- -- -- (641)
Income from continuing operations
before income taxes and minority
interests -- -- -- -- -- (5,380,548)
Identifiable assets at 3/31/2000 $ 7,235,839 $ 11,825,838 $ 452,142 $ 18,411 -- $ 19,532,230
============ ============ ============ ============ ============ ============
Total Assets at 3/31/2000 -- -- -- -- -- $ 19,532,230
============
Depreciation and amortization for
the period ended 3/31/2000
$ 355,502 $ -- $ -- $ 862 -- $ 356,364
============ ============ ============ ============ ============ ============
Capital expenditures for the
period ended 3/31/2000 $ 253,084 $ 2,595,677 $ 421,632 $ 8,616 -- $ 3,279,009
============ ============ ============ ============ ============ ============
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
10. QUARTERLY FINANCIAL DATA (UNAUDITED):
Fiscal 2002
First Second Third Fourth
------------- ------------- ------------- -------------
Revenue $ 1,522,069 $ 977,679 $ 1,603,999 $ 940,751
Gross margin (353,857) 114,267 160,774 (219,669)
Loss before minority interest (1,199,779) (1,152,276) (750,494) (17,117,790)
Net loss $ (1,085,520) $ (1,076,308) $ (674,003) $ (13,946,626)
Shares applicable to basic and diluted loss per
share 154,201,609 154,219,439 155,142,599 158,560,321
Basic and diluted loss per share $ (0.01) $ (0.01) $ (0.00) $ (0.09)
Fiscal 2001
First Second Third Fourth
------------- ------------- ------------- -------------
Revenue $ 463,014 $ 259,863 $ 1,159,048 $ 797,061
Gross margin (518,350) (66,035) 650,450 835,484
Loss before minority interest (1,507,523) (1,296,457) (3,570,273) (552,563)
Net loss $ (1,435,247) $ (1,225,342) $ (3,505,087) $ (470,804)
Shares applicable to basic and diluted loss per
share 128,179,335 130,112,623 134,509,211 146,471,805
Basic and diluted loss per share $ (0.01) $ (0.01) $ (0.03) $ (0.00)
Fiscal 2000
First Second Third Fourth
------------- ------------- ------------- -------------
Revenue $ 101,784 $ 238,317 $ 79,678 $ 1,106,667
Gross margin 27,741 12,964 (62,247) (248,424)
Loss before minority interest (347,460) (726,078) (1,293,270) (3,013,740)
Net loss $ (548,830) $ (726,078) $ (1,293,270) $ (2,609,805)
Shares applicable to basic and diluted loss per
share 98,327,779 98,610,500 104,354,564 117,972,227
Basic and diluted loss per share $ (0.01) $ (0.01) $ (0.01) $ (0.02)
11. INCOME TAXES
The Company recorded no provision for income taxes in fiscal 2002, 2001
and 2000 due to the operating losses incurred from inception to date.
The tax effect of temporary differences between financial reporting and
the tax bases of assets and liabilities relate to the following:
March 31,
2002 2001
------------ ------------
Net operating loss carryforwards $ 13,445,538 $ 7,793,843
Other net deferred tax assets 1,158,986 1,127,703
------------ ------------
Gross deferred tax assets 14,604,524 8,921,546
Deferred tax assets valuation allowance (14,604,524) (8,921,546)
------------ ------------
$ -- $ --
============ ============
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
The deferred tax asset has been fully reserved because the Company cannot
anticipate future taxable income to realize the potential benefits of the
gross deferred tax asset.
The benefit for income taxes differs from the amount computed using the
statutory federal income tax rate as follows:
Year ended March 31,
2002 2001 2000
----------- ----------- -----------
Income tax benefits at statutory rate $ 5,706,035 $ 2,654,593 $ 2,058,593
Decrease in benefit resulting from:
Permanent differences and other (23,057) (43,472) 103,830
Increase in valuation allowance (5,682,978) (2,611,121) (2,162,423)
----------- ----------- -----------
$ -- $ -- $ --
=========== =========== ===========
The Company has net tax operating loss carryforwards at March 31, 2002 of
approximately $39,545,700. Such carry forwards may be used to offset
taxable income, if any, in future years through their expiration in 2003
through 2022. Future expiration of tax loss carryforwards, if not
utilized, are as follows: 2003, $104,696; 2004, $176,084; 2005, $225,957;
2006, $143,645; and 2007, $714,994 and thereafter, $38,180,324. The annual
amount of tax loss carryforward, which can be utilized, may be limited due
to the substantial changes in the Company's ownership as defined by
section 382 of the Internal Revenue Code, which may occur in the future.
Such limitations could result in the expiration of a part of the loss
carryforwards before their utilization.
12. OFFICER AND DIRECTOR STOCK OPTIONS
In August 1997, the Board of Directors granted performance based options
to the Company's Chairman, President and Chief Executive Officer to each
purchase 5,000,000 shares of the Company's restricted stock at exercise
prices ranging from $0.50 per share to $2.50 per share and to the
Company's Secretary to purchase 1,000,000 shares of the Company's
restricted stock at an exercise price of $0.50 per share. All of these
performance based stock options are exercisable for a period of 24 months
from the date of vesting. The options will be deemed vested for each
individual if that individual is employed by the Company on the first date
on which the closing market price of the Company's common stock equals or
exceeds the price per share performance targets for 30 consecutive days.
The specific vesting criteria for these options are described below:
When and if the closing market price of common stock equals or exceeds
each of the following prices $0.50, $1.00, $1.50, $2.00 and $2.50 per
share for 30 consecutive days, each of the three individuals shall become
fully vested with an option to purchase 1,000,000 shares of common stock
for each milestone at a price equal to the milestone price of $0.50,
$1.00, $1.50, $2.00 and $2.50 per share, exercisable for a period of 24
months from the date of vesting.
In fiscal 2000, the Company's common stock maintained a price that
resulted in the vesting of the above options with the $1.00 exercise
price. As a result of the vesting of these options, the Company recognized
non-cash compensation expense of $1,593,600 in fiscal 2000. As of March
31, 2002, no additional options were vested.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
During fiscal 2000, the Board of Directors issued options to a new
employee to purchase 650,000 shares of the Company's common stock with an
exercise price below fair value. In fiscal 2002, 2001 and 2000, the
Company recognized $14,624 $14,624 and $14,401, respectively, of non-cash
compensation expense related to these options.
During fiscal 2001, the Board of Directors approved performance based
bonuses in the form of options to the officers of the Company. The
specific vesting criteria for these options are described below:
10% of options shall be considered vested and bonused as paid in full
shares for past services to the Company; 15% of all options shall become
vested and paid in full when the Company is successful in obtaining a
commitment from a strategic partner, financial institution, reputable
investment banker or other source in raising capital sufficient to fund
the NEMO program; 20% vested and paid in full when successful in raising
gross capital of at least $6,000,000; 20% vested and paid in full when
successful in raising gross capital of at least $30,000,000; 20% vested
and paid in full when successful in raising gross capital of at least
$100,000,000; and 15% vested and paid in full in the event the NEMO
program is successfully funded
During fiscal 2001, the Board of Directors approved the issuance of
8,587,000 shares against options as a stock bonus. The Company reduced
options outstanding by 8,587,000 and recorded non-cash compensation
expense of $2,926,781.
The Company has adopted the disclosure requirements of Statement of
Financial Accounting Standard No. 123 ("FAS 123"), Accounting for
Stock-Based Compensation. This statement allows companies to choose
whether to account for stock-based compensation under the intrinsic method
as prescribed by Accounting Principles Board Opinion No. 25 ("APB 25") or
to use a fair value method described in FAS 123. The Company continues to
follow the provisions of APB 25. No compensation cost has been recognized
on the Company's stock option grants except as described previously, as
the options include an exercise price equal to or exceeding the fair value
on the date of grant.
Prior to fiscal 2002, the Company granted two individuals a combined total
of 1,687,500 stock options, which vest after certain pre-established
performance criteria have been met. As of March 31, 2002, the Board had
not determined the criteria. Therefore, these options are considered to be
non-vested.
In fiscal 2002, no stock options were granted. The Company has determined
that the pro forma effects of applying FAS 123 in 2002 is immaterial. The
proforma effect in 2001 and 2000 would increase the net loss by
approximately $986,000 and $1,044,000, respectively. The fair value was
determined using the Black-Scholes option pricing model using the
following weighted-average assumptions:
Fiscal Fiscal Fiscal
2002 2001 2000
---- ---- ----
Risk-free interest rate N/A 5.59% 5.63%
Expected dividend yield N/A -- --
Expected lives N/A 2.54 4.78
Expected volatility N/A 131% 128%
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
The following table summarizes the employee stock option transactions
described above.
Shares
under Weighted-average
option exercise price
----------- ----------
Balance, March 31,1999 30,500,000 $ 0.90
Options granted 5,650,000 0.20
Options cancelled -- --
Options exercised (1,800,000) 0.12
----------- ----------
Balance, March 31,2000 34,350,000 0.83
Options granted 4,750,000 0.49
Options cancelled (4,500,000) 0.46
Options exercised (8,787,000) 0.27
----------- ----------
Balance, March 31,2001 25,813,000 1.01
Options granted -- --
Options cancelled (1,875,000) 0.50
Options exercised -- --
----------- ----------
Balance, March 31,2002 23,938,000 $ 1.05
=========== ==========
The weighted average per share fair value of options granted during fiscal
years 2001 and 2000 was $0.31 and $0.11, respectively.
In fiscal 2000, the Company exchanged 4,000,000 shares of its common stock
and options to purchase an additional 4,000,000 shares of its common
stock, at exercise prices ranging from $0.50 to $5.00 per share, for all
of the shares of common stock of STDC.
The following table summarizes information about employee stock options
and the options issued as part of the acquisition of STDC outstanding at
March 31, 2002.
Options Outstanding
-------------------------------------------------
Weighted
average
Exercise Number remaining Number
price outstanding contractual life exercisable
-------- ------------ ---------------- ----------------
(Years)
0.07 150,000 0.67 150,000
0.14 488,000 2.50 362,500
0.21 5,375,000 3.69 5,375,000
0.30 1,500,000 0.59 1,500,000
0.50 4,475,000 0.80 2,787,500
0.75 250,000 1.76 250,000
0.84 112,500 1.16 112,500
1.00 3,537,500 0.89 3,537,500
1.50 3,550,000 0.79 500,000
2.00 4,250,000 1.27 1,250,000
2.50 3,000,000 0.33 --
3.00 750,000 3.50 750,000
4.00 250,000 3.50 250,000
5.00 250,000 3.50 250,000
----------- -----------
27,938,000 17,075,000
=========== ===========
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
13. REDEEMABLE COMMON STOCK AND NONREDEEMABLE SHAREHOLDERS' EQUITY
REDEEMABLE COMMON STOCK
Included in redeemable common stock are amounts related to a potential
rescission offer related to certain shares sold in the state of Idaho (see
note 14). During fiscal 2001 and 2000, 23,167 and 591,754 shares of
redeemable stock were sold by the original investors and thus reclassified
as common stock and additional paid in capital.
PREFERRED STOCK
During the year ended March 31, 1998, the Company issued 200,000 shares of
its Series A preferred stock; 100,000 of these shares were issued as a
result of the conversion of a note payable. Each share of the Company's
Series A preferred stock is convertible into five shares of the Company's
common stock. The preferred stock has liquidation preference in the amount
of $5.00 per share or $1,000,000. The preferred stock is redeemable by the
Company and has no voting rights. In addition, the recipient of the
preferred stock was granted warrants as discussed below to purchase an
additional 1,000,000 shares of the Company's common stock. As such,
2,000,000 shares of the Company's common stock have been reserved for
issuance upon the conversion of the Series A preferred stock and exercise
of the warrants.
TREASURY STOCK
In fiscal 1999, the Company received into treasury 1,000,000 shares of
redeemable common stock previously issued to a vendor as payment for a
hyperspectral instrument contract that was subsequently cancelled. The
Company subsequently reissued 500,000 of these shares to a third party
during fiscal 1999.
STOCK WARRANTS
During fiscal 1998, warrants to purchase 3,000,000 shares of the Company's
common stock were granted to investors of the Company with exercise prices
ranging from $1.30 to $2.00 per share and expire 3 to 5 years after
issuance. In both fiscal 2002 and 2001, 1,000,000 of these warrants
expired.
In conjunction with the equity line, the Company issued warrants to the
investor to purchase 1,500,000 shares of the Company's common stock for 5
years at a price equal to the lesser of 95% of an average stock price
after the definitive documents were signed or 95% of the market price at
the date of effectiveness of the registration statement. The Company
determined the estimated fair value of these warrants to be immaterial,
and, as such, did not record the deferred financing cost asset. Additional
warrants up to 1,500,000 will be issued pro rata as the equity line is
used. The price of these additional warrants will be based on the market
price immediately following sale to the investor.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
PRIVATE PLACEMENT OF TERRANET, INC. COMMON STOCK
In fiscal 2000, Terranet, Inc., issued 62,965 shares of its common stock
at approximately $3.00 per share. This transaction increased minority
interest by $189,493 (see note 2).
PRIVATE PLACEMENT OF PETRO PROBE, INC. COMMON STOCK
In fiscal 2001 and 2000, Petro Probe, Inc., issued 22,332 and 10,166
shares, respectively, of its common stock at approximately $3.00 per
share. This transaction increased minority interest by $67,000 and
$30,500, respectively (see note 2). In fiscal 2002, 250,000 shares of
Petro Probe stock were allocated against investor deposit. This
transaction increased minority interest by $13,864 and additional paid-in
capital by $736,136.
PRIVATE PLACEMENT OF ECO PROBE, INC. COMMON STOCK
In fiscal 2001, Eco Probe, Inc., issued 151,667 shares of its common stock
at approximately $3.00 per share. This transaction increased minority
interest by $445,004 (see note 2).
In fiscal 2000, warrants to purchase 100,000 shares of either Petro Probe
or Terranet at $3.00 per share for two years and 100,000 shares of either
Petro Probe or Terranet at $5.00 per share for five years were issued to a
consultant of the Company. In Fiscal 2002, 100,000 of these warrants
expired.
EQUITY LINE
In fiscal 2002, the Company signed a definitive agreement with an
investor for an equity line of up to $10,000,000 for one year with an
extension option for another year. The terms of the equity line are that
the Company, after the effectiveness of a registration statement, at its
option can sell its registered common shares to the investor on a monthly
basis. The maximum amount of funds that can be raised in any month is
$1,500,000 limited by a calculation based on the average volume of the
stock for the preceding month and the price of the stock. In conjunction
with this agreement, the Company placed 5,500,000 shares of common stock
into an escrow account for possible future sales to the investor. These
shares are excluded from the net loss per share computation. Subsequent to
March 31, 2002, the Company made its first sale of 1,739,332 common shares
to the investor for $150,000.
14. COMMITMENT AND CONTINGENCIES
CONTRACTUAL COMMITMENTS
As of March 31, 2002, the Company has outstanding purchase orders,
commitments, and contracts with future milestone payments totaling
$2,350,000.
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
- --------------------------------------------------------------------------------
OPERATING RENT
Future minimum rental payments and sublease rental income to be received
under non-cancelable leases with initial terms in excess of one year are
as follows at March 31, 2002:
Year ending Total Sublease Rental
March 31 Commitments (Income) Net Rent
-------------- ----------------- ------------------ ----------------
2003 $ 209,299 $ (24,726) $ 184,573
2004 129,492 (2,061) 127,431
2005 114,391 -- 114,391
2006 34,770 -- 34,770
----------------- ------------------ ----------------
$ 487,952 $ (26,787) $ 461,165
================= ================== ================
Rental expense for office space included in operations for the fiscal
years ended March 31, 2002, 2001, and 2000 is $167,290, $132,529, and
$30,341, respectively. In fiscal 2001, the Company entered into a lease
for its office in Kalispell, Montana. The lease is with two officers of
the Company and is for a term of 5 years with minimum monthly payments of
$6,400.
LITIGATION
In fiscal 1997, the Company settled its lawsuit with the Idaho Department
of Finance. As a result of the settlement, the Company agreed to proceed
with a rescission offer to certain Idaho residents who invested in the
Company at $0.16 to $0.18 per share at which they originally purchased the
Company's common stock. In fiscal 2001, 23,167 shares of the Company's
common stock subject to rescission were sold by such Idaho investors. In
conjunction with the rescission settlement, $17,981 related to 110,993
shares of common stock have been recorded in redeemable common stock as of
March 31, 2002 and 2001.
In November 2000, a lawsuit was filed against the Company by a vendor. The
vendor alleges that the Company has not paid them 500,000 shares of the
Company's stock, which it is owed pursuant to a written contract between
the vendor and the Company in which the vendor agreed to perform certain
services for the Company in return for cash and the Company's common
stock. The relief sought by the vendor in the lawsuit includes significant
compensatory and punitive damages; however, the Company believes that it
will be able to settle the lawsuit for less than the relief sought. The
Company has recorded a contingency loss accrual of $185,000. It is
management's opinion that the loss accrual is their best estimate of the
potential liability and associated legal costs of the dispute.
In May 2002, the Company filed counterclaims against the vendor for breach
of contract and unjust enrichment on the grounds that, despite the Company
having paid approximately $300,000 and transferring 500,000 of the
Company's common stock to the vendor, the vendor failed to provide the
Company with the products and services it was contractually obligated to
provide. The vendor's response to these counterclaims is due in June 2002.
15. RELATED PARTY TRANSACTIONS
During fiscal 1998, the Company entered into various agreements with an
international mining company, which is a shareholder. The agreements
executed between the Company and the mining company provide, under certain
restrictions, an exclusive license to use Probe 1 for commercial mining
purposes. The agreements have a three-year term, with an automatic
three-year renewal
EARTH SEARCH SCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2002 AND 2001
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unless the agreements are terminated by either party at the end of the
initial three-year period. In December 2000, the agreement was terminated
and the Company is reviewing its options under their agreement. Under the
terms of the agreements, the Company was guaranteed minimum services work
of $750,000 in year one, $2,000,000 in year two, $3,000,000 in year three,
and $3,000,000 in each subsequent year. The Company has not recorded the
difference between committed revenue under the agreement and actual
revenue. In year one, the Company earned $810,000 in revenue with direct
costs of $652,000 on missions flown under this contract. In year two, the
Company earned $511,000 in revenue with direct costs of $331,000 on
missions flown under this contract. In year three the Company earned
$631,000 in revenue with direct costs of $397,824 under this contract.
Furthermore, the agreement grants the Company net smelter royalties
ranging from 1.5% to 2.5% of revenues on properties subsequently owned or
optioned by the mining company. 200,000 shares of the Company's Series A
preferred stock were issued to the mining company and an affiliate for
consideration equal to $1,000,000; furthermore, the mining company and
affiliate were granted warrants to purchase 1,000,000 shares of the
Company's common stock at a price of $2.00 per share.
During fiscal 2002, General Petroleum, Inc. (GPI) a company previously
wholly-owned by an officer and director of the Company entered into an
agreement with Accuprobe, lessor to the Company of a hyperspectral
instrument (see note 4). The agreement requires the former sole
shareholder of Accuprobe to transfer 100% of his equity in Accuprobe to
GPI in exchange for equity in GPI. Presently, not all of the requirements
of the agreement have been met. Also during fiscal 2002, GPI exchanged a
portion of its equity for the 50% interest in the ESSI 1 LC owned by an
outside party. It is the intention of the Company and GPI to enter into an
agreement to allow the Company to purchase and own 100% of both
hyperspectral instruments.
16. SUBSEQUENT EVENTS
In April 2002, the Company received $600,000 from an investor for partial
interests in the Company's oil and gas properties and stock in a
subsidiary.
As of May 28, 2002, the Board of Directors accepted the resignation of the
Company's Chief Executive Officer, Director of the Company, and as an
officer and director of subsidiaries of the Company, including STDC. The
Company issued 3,574,273 of common shares of the Company to this
individual as payment in full for all deferred wages including interest
totaling $461,141. This amount is included as a current liability as of
March 31, 2002. The Company Chairman is temporarily assuming the Chief
Executive Officer position.
In May 2002, the Company converted two promissory notes to common stock of
the Company per the conversion provisions of the notes. Notes with
principal of $575,000 plus interest of $158,233 were converted into
8,333,329 shares of common stock.