As
filed with the U.S. Securities and Exchange Commission on
November 12, 2009
Registration No. 333-
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM S-1
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
XStream Systems, Inc.
(Exact name of registrant as specified in its charter)
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Delaware |
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3844 |
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201180466 |
(State or other jurisdiction of
incorporation or organization)
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(Primary Standard Industrial
Classification Code Number)
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(I.R.S. Employer
Identification Number) |
10305 102nd Terrace
Suite 101
Sebastian, FL 32958
Tel: (772) 646-6201
(Address, including zip code, and telephone number, including
area code, of registrants principal executive offices)
James J. Lowrey
Chairman and Chief Executive Officer
XStream Systems, Inc.
10305 102nd Terrace
Suite 101
Sebastian, FL 32958
Tel: (772) 646-6201
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
Copies to:
Bruce C. Rosetto, Esq.
Rebecca G. DiStefano, Esq.
Greenberg Traurig, P.A.
5100 Town Center Circle
Suite 400
Boca Raton, FL 33486
Tel: (561) 955-7600; Fax: (561) 367-6254
Approximate date of commencement of proposed sale to the public: As soon as practicable after
the effective date of this registration statement.
If any of the securities being registered on this Form are to be offered on a delayed or
continuous basis pursuant to Rule 415 under the Securities Act
of 1933, check the following box. þ
If this Form is filed to register additional securities for an offering pursuant to Rule
462(b) under the Securities Act, check the following box and list the Securities Act registration
statement number of the earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities
Act, check the following box and list the Securities Act registration statement number of the
earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities
Act, check the following box and list the Securities Act registration statement number of the
earlier effective registration statement for the same offering. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act. (Check one):
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Large Accelerated Filer o
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Accelerated Filer o
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Non-accelerated Filer o
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Smaller Reporting Company þ |
CALCULATION OF REGISTRATION FEE
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Title of each class of |
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Proposed maximum |
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Proposed maximum |
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Amount of |
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securities to be |
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offering price per unit |
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aggregate offering |
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registration |
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registered |
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Amount to be registered |
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(1) |
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price (1) |
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fee |
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Common Stock, $0.0001par value |
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2,500,000 Shares (2) |
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$15.00 per Share |
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$37,500,000 |
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$2,092.50 |
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Convertible Debentures |
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$6,000,000 in principal amount of Debentures (2) |
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$1,000 per Debenture |
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$6,000,000 |
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$334.80 |
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(1) |
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Estimated in accordance with Rule 457 solely for the purpose of calculating the registration
fee. |
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Includes 500,000 additional shares of common stock and $1,000,000 additional
principal amount of convertible debentures that may be sold by us to cover over-subscriptions. |
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY
TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY
STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH
SECTION 8(a) OF THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT SHALL
BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY
DETERMINE.
The information in this prospectus is not complete and may be changed. We may not sell these
securities until the registration statement filed with the Securities
and Exchange Commission is effective.
This prospectus is not an offer to sell these securities, and it is not soliciting offers to buy
these securities in any state where the offer or sale is not permitted.
SUBJECT
TO COMPLETION, DATED NOVEMBER 12, 2009
PROSPECTUS 2,000,000 Shares of Common Stock
$5.0 million in 5% Subordinated Debentures Convertible Into Shares Of Common Stock
We are offering 2,000,000 shares of our common stock and $5,000,000 in principal amount of 5%
subordinated convertible debentures convertible into shares of our common stock. This is our
initial public offering and no public market currently exists for our securities.
We
anticipate that the public offering price will be $_____ per share of common stock.
Interest on the debentures is payable on December 15 of each year, beginning on December 15,
2011. The interest rate on the debentures is 5% per year. We may elect to pay interest in cash,
or in the form of shares of our common stock. The debentures initially are convertible by holders
into shares of our common stock for each $1,000 principal amount of debentures (equivalent
to an initial conversion price of $_____ per share based on the issue price of the debentures) as
described in this prospectus.
The debentures will mature on ______, 2020, unless earlier redeemed, repurchased or converted.
We may redeem for cash some or all of the debentures at any time on or after ______, 2015 at a
price equal to 100% of the principal amount of the debentures to be redeemed plus any accrued and
unpaid interest to the redemption date. The debentures are our subordinated, unsecured obligations
and rank junior to our other senior indebtedness.
We are not using an underwriter for our offering of securities. We are conducting this
offering as a self-underwriting on a best efforts basis through our officers and directors, and
therefore, we will pay no underwriting fees or commissions. We have no arrangement to place the
proceeds from this offering in an escrow, trust or similar account.
We will apply for the listing of our common stock on the NASDAQ Capital Market, and expect
such listing to occur concurrently with this offering.
These are speculative securities and involve a high degree of risk and substantial dilution. You
should not invest in our securities unless you can afford to lose your entire investment.
Please see Risk Factors beginning on page 9 of this prospectus.
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Proceeds, Before |
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Expenses, |
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Price to Public |
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to XStream Systems |
Per Share |
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Per Debenture |
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$ |
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Total |
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$ |
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Neither the Securities and Exchange Commission nor any state securities commission has
approved or disapproved of these securities or passed upon the adequacy or accuracy of this
prospectus. Any representation to the contrary is a criminal offense.
We expect that the securities will be ready for delivery on or about ___, 2009.
The date of this prospectus is ______ ___, 2009
ii
You should rely only on the information contained in this prospectus. We have not authorized
any other person to provide you with different information. If anyone provides you with different
or inconsistent information, you should not rely on it. We are not making an offer to sell these
securities in any jurisdiction where the offer or sale is not permitted. You should assume that
the information appearing in this prospectus is accurate as of the date on the front cover of this
prospectus only. Our business, financial condition, results of operations and prospects may have
changed since that date.
TABLE OF CONTENTS
iii
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus. You should read
the entire prospectus carefully. All references to we, us, the company and XStream Systems
mean XStream Systems, Inc. Unless otherwise indicated, all information contained in this
prospectus assumes that no outstanding stock options or warrants will be exercised. This
prospectus contains forward-looking statements, which involve risks and uncertainties. Our actual
results could differ materially from those anticipated in these forward-looking statements as a
result of certain factors, including those set forth under Risk Factors and elsewhere in this
prospectus. References in this prospectus to the securities to be sold in the offering mean
shares of common stock and convertible debentures.
Our Company
We are a direct seller of hardware and software products and services. Our customers place sales orders
by calling one of our internal sales representatives via our toll-free phone number. We also sell
indirectly through contracted authorized sales agents.
We design and develop material authentication and detection solutions that allow molecular
screening (i.e. molecular structure analysis on hidden materials). Our technology has the ability
to penetrate through virtually any material (glass, wood, and metal), extract a molecular structure
fingerprint of the materials inside, and then our automated software can authenticate or detect
materials of interest.
We purchased an exclusive worldwide license with Rutgers, The State University of New Jersey
for its patented technology which combines penetrating x-rays, forensic analysis, and automated
software algorithms enabling the rapid identification and detection of materials of interest.
Our technology enables forensic analysis to take place where it is needed, by anyone who needs
to authenticate or detect materials. Forensic analysis had previously been performed in
laboratories by trained technical personnel, required significant time, and was often destructive
to the test sample itself. We have created algorithms to eliminate the need for highly trained
personnel, leveraged x-rays for non-destructive testing, and scaled power levels to provide rapid
answers.
We have scaled our technology down to a countertop XT250TM Material Identification
System (XT250) which combines the ability to perform material analysis outside of the laboratory
by non-technical personnel, such as warehouse workers, and to rapidly authenticate pharmaceutical
inventories, even when sealed in their original packaging.
We intend to provide our product offerings to businesses and government agencies
internationally. Our future success will be driven primarily by our ability to attract new
customers, develop sustainable revenues and to continue to develop our product suite. Our current
target customers are seeking detection solutions for counterfeit pharmaceuticals as well as
validation of their pharmaceutical inventory.
Our
revenue model currently consists of:
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direct sales of our XT250TM systems to customers; |
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three-way revenue sharing arrangements between us, pharmaceutical
manufacturers/distributors/chain retailers, and a return goods processing center, with
payments to us based on a pay-per-scan service fee on returns, recalls and suspected
diverted products; and |
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PILOT programs whereby manufacturers will host our system for use on a trial
basis, providing our host manufacturer with an option to purchase the system following
PILOT testing. |
To date, we have not yet generated revenues from a three-way revenue sharing arrangement or a PILOT
program.
Our Industry
We believe we are well positioned to take advantage of anticipated growth within an emerging
authentication and detection industry. Our industrys growth globally is expected to be driven by:
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the increase in counterfeiting and adulteration in the drug and pharmaceutical
industry; |
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indicators of growing corporate demand for counterfeit drug detection
solutions; |
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the proliferation of pharmaceutical product sales from Internet sources; |
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indications of demand for diagnostic detection solutions in the medical
industry; |
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terrorist activities around the globe; |
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indications of demand for quality control in the cosmetics industry; |
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industry indicators for demand in raw ore, mineral, and metal detection; |
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indications of demand for quality control in the cement industry; and |
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indications of demand for quality control in the veterinarian industry. |
Our Growth Strategy
Our objective is to become the leading provider of material authentication and detection
solutions. Key elements of our growth strategy include:
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scale our technology, in terms of speed and test volume size, to produce
products that meet varying customer applications, including real-time testing, as
well as large volume screening; |
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expand upon what we believe is our leadership position in detection of
counterfeit and adulterated drugs and pharmaceuticals we believe that we are
currently the most technologically advanced provider of drug and pharmaceutical
detection and authentication solutions systems; |
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pursue new customers and territories we are aggressively targeting potential
customers, primarily through our direct sales force and believe that there are
substantial market opportunities for our solutions in the Americas, Asia, Africa,
and Europe; |
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enter into revenue sharing arrangements with pharmaceutical manufacturer
partners and outsourcing service centers who we anticipate will compensate us with
a percentage of revenue on returned products in exchange for use of the
XT250TM system; |
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strategic PILOT programs whereby third parties host our XT250TM
system; |
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enhance our product offering we intend to further develop our
XT250TM platforms capabilities and features; |
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expand our product offering we intend to develop other products to meet
customer demands beyond the XT250TM platform; |
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expand our target markets we intend to leverage our products by offering them
to new markets; and |
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build and leverage awareness of the XStream molecular screening brand. |
Our Strategic Partners
We are partnering with a number of recognized companies and intend to develop applications for
our molecular screening technology in connection with these relationships. Our initial target
market has been the pharmaceutical distribution market, including major pharmaceutical
manufacturers, drug distributors and automated drug dispensing logistics (assembly line
efficiencies) companies. Some of these teaming relationships include the following:
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Pfizer, a leading pharmaceutical manufacturer, is hosting our XT250TM
system, under a PILOT program arrangement. |
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AmerisourceBergen Corporation, a pharmaceutical wholesale distributor is
piloting our XT250TM systems in two separate locations, under a PILOT
program arrangement. |
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Swisslog Healthcare Solutions, a global provider of integrated logistics
solutions for warehouses, distribution centers and hospitals has executed a Letter
of Intent with us to jointly collaborate and investigate the development of
customized screening solutions. |
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Eastman Kodak, a corporation utilizing technology to combine imaging and
information, has agreed in a Letter of Intent to explore with us strategic
opportunities for joint design, development, cross-licensing, and co-marketing of
security solutions. |
We will attempt to leverage the respective strengths and leadership positions of our strategic
partners in the healthcare industry to gain a competitive foothold in our industry. We are
negotiating strategic partnerships with other pharmaceutical distributors, manufacturers and
logistic companies. We are directing our strategic joint venture efforts to produce applications
which we anticipate will combine non-destructive penetrating capability with forensic analysis.
Corporate Information
We were organized as a corporation under the laws of the State of Delaware in May 2004, and
commenced operations in our current line of business at that time. Our principal executive offices
are located at 10305 102nd Terrace, Suite 101, Sebastian, FL 32958, and our telephone number is
+1(772) 646-6200. We maintain a corporate website at www.securepharmachain.net, and an electronic
brochure of our XT250TM product offering can be downloaded at
http://xstreamsystems.net/XT250SpecSheet-200807.pdf. Neither the contents of our website nor our
brochure are part of this prospectus and should not be relied upon with respect to this offering.
3
The Offering Common Stock and Debentures
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Common stock offered |
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2,000,000 shares of
common stock, subject
to increase to
2,500,000 |
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5% subordinated convertible debentures offered |
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$5,000,000 aggregate
principal amount of 5%
subordinated
convertible debentures
due ___, 2020,
subject to increase to
$6,000,000. |
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Maturity Date |
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___, 2020, unless
earlier redeemed,
repurchased or
converted. |
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Ranking |
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The debentures are our
subordinated, unsecured
obligations and rank
junior to all of our
other senior
indebtedness. |
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Interest Rate |
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The debentures bear
interest at an annual
rate of 5% per year. |
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Interest Payment Dates |
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We will pay interest on
the debentures annually
on December 15,
commencing on December
15, 2011. We may elect
to pay interest in
cash, or in the form of
shares of common stock.
Upon notice to the
holder, we may elect to
defer the payment of
unpaid interest until a
subsequent interest
payment date. |
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Conversion Rights |
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Holders of the
debentures will have
the right to convert
each of their
debentures into shares
of our common stock
prior to the stated
maturity under any of
the following
circumstances: |
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(i) on or after
___, 2011,
upon 30 days
prior written notice to
us; |
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(ii) debentures called
for redemption may be
surrendered for
conversion until the
close of business on
the business day
immediately preceding
the redemption date; |
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(iii) upon the
occurrence of specified
corporate transactions,
including if we are a
party to specified
consolidations, mergers
or transfers of all or
substantially all of
our properties and
assets, as described in
Description of
Debentures Conversion
Rights. |
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The debentures are
mandatorily
convertible, at our
option, upon notice
mailed to the holders
not less than 30 days
prior to an interest
payment date. |
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For each $1,000 of
debentures surrendered
for conversion, a
holder initially will
receive ___ shares of
our common stock. This
represents an initial
conversion price of
$___ per share of our
common stock based on
the issue price of the
debentures. |
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Debentures
called for redemption
may be surrendered for
conversion until the
close of business on
the business day
immediately prior to
the redemption date.
The ability to
surrender debentures
for conversion will
expire at the close of
business on ___,
2020, unless the
debentures previously
have been redeemed or
purchased. |
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Redemption of the Debentures at Our Option |
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On or after ___,
2015, we may redeem for
cash all or any portion
of the debentures, upon
not less than 30 nor
more than 60 days
notice by mail to
holders of the
debentures. We will
pay a purchase price
equal to 100% of the
principal amount of the
debentures to be
redeemed plus any
accrued and unpaid
interest to the
redemption date. For
more information about
redemption of the
debentures at our
option, see
Description of
Debentures Redemption
of the Debentures at
Our Option. |
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U.S. Federal Income Tax Considerations |
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Interest on a debenture
will generally be
taxable to each holder
as ordinary income at
the time it is paid or
accrued in accordance
with the holders usual
method of accounting
for tax purposes. A
holder will generally
recognize gain or loss
upon the sale,
exchange, redemption or
other disposition of a
debenture equal to the
difference between the
amount realized upon
the sale, exchange,
redemption or other
disposition and the
holders adjusted tax
basis in the debenture.
A holders tax basis
in a debenture will
generally be equal to
the amount the holder
paid for the debenture.
The amount realized
does not include any
amount attributable to
accrued interest, which
amount would be taxable
as interest (to the
extent not previously
included in a holders
income). If a holder
receives solely cash in
exchange for its
debentures upon
conversion, gain or
loss generally will be
determined in the same
manner as if the holder
disposed of the
debenture in a taxable
disposition. A holder
will generally not
recognize any income,
gain or loss upon
conversion of a
debenture into common
stock except to the
extent that the common
stock is considered
attributable to accrued
interest not previously
included in taxable
income (which is
taxable as ordinary
income) or with respect
to cash received in
lieu of a fractional
share of common stock.
Distributions, if any,
made on the common
stock generally will be
included in income as
ordinary dividend
income to the extent of
our current and
accumulated earnings
and profits. Upon the
sale, taxable exchange
or other taxable
disposition of our
common stock, a holder
generally will
recognize capital gain
or loss equal to the
difference between (i)
the amount of cash and
the fair market value
of any property
received upon such
taxable disposition,
and (ii) the holders |
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adjusted tax basis in
the common stock. |
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HOLDERS SHOULD CONSULT
THEIR TAX ADVISORS
REGARDING THE TAX
TREATMENT OF THE
DEBENTURES AND WHETHER
A PURCHASE OF THE
DEBENTURES IS ADVISABLE
IN LIGHT OF THE AGREED
UPON TAX TREATMENT AND
THE HOLDERS PARTICULAR
TAX SITUATIONS. |
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Common stock outstanding prior to this offering |
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2,767,156 shares(1) |
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Common stock to be outstanding after this offering
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8,277,794 shares(1) |
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Self-Underwriting |
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We are not using an
underwriter for our
offering of securities.
We are conducting this
offering as a
self-underwriting on a
best efforts basis
through our officers
and directors, and
therefore, we will pay
no underwriting fees or
commissions. We have
no arrangement to place
the proceeds from this
offering in an escrow,
trust or similar
account. |
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Use of proceeds |
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We plan to use a
significant portion of
the net proceeds of
this offering to
finance research and
product development as
a part of our growth
strategy. In addition,
we will use the
proceeds for working
capital and general
corporate purposes
including amounts
required to pay for
salaries, professional
fees, public reporting
costs, office-related
expenses and other
corporate expenses,
including interest and
overhead. A portion of
the proceeds of this
offering will be used
to repay notes payable
by us to our
manufacturer. See also
Legal Proceedings and
Risk Factors We are
using a portion of the
proceeds of this
offering to repay
indebtedness. . . . |
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No minimum offering |
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We are not required to
sell any specific
number or dollar amount
of securities but will
attempt to sell all of
the securities offered.
Investors in this
offering may elect to
purchase shares of
common stock or
convertible debentures
or a combination of
common stock and
debentures. |
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Exchange symbol |
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[l] |
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We intend to apply for
the listing of our
common stock on the
NASDAQ Capital Market,
and expect such listing
to occur concurrently
with this offering.
Our debentures will not
be listed on an
exchange or other
trading facility. |
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Ownership after this offering |
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Our executive officers
and directors will
beneficially own
approximately 37.8% of
our |
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outstanding common
stock after the
completion of this
offering. |
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Risk factors |
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See Risk Factors
beginning on page 9 and
the other information
included in this
prospectus for a
discussion of factors
you should carefully
consider before
deciding to invest in
our securities. |
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(1) |
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Based on 2,767,156 shares outstanding on November 3, 2009, and assuming the conversion of
shares of our Series A, B, C, and D preferred stock into
3,510,638 shares of our common stock
on the effective date of the registration statement for this offering, the number of shares to
be outstanding after this offering excludes the following: |
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1,977,274 shares of common stock reserved for issuance upon the exercise of
outstanding stock options under our Amended and Restated 2004 Stock Option Plan, |
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13,078,685 shares of common stock reserved for issuance upon the exercise of
outstanding warrants (for which cash would need to be remitted to us for exercise), |
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500,000 additional shares of common stock which may be sold in this offering. |
7
Summary Financial Data
The summary financial data below should be read in conjunction with Managements Discussion
and Analysis of Financial Condition and Results of Operations and the financial statements and the
related notes included elsewhere in this prospectus.
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Year Ended December 31, |
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Six Months Ended June 30, |
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2007 |
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2008 |
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2008 |
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2009 |
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(Unaudited) |
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Statement of Operations Data: |
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Revenue |
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$ |
135,000 |
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$ |
439,000 |
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$ |
260,000 |
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$ |
179,000 |
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Gross profit (loss) |
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(22,508 |
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309,964 |
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200,156 |
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112,435 |
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Total
general and administrative expenses(2) |
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3,572,558 |
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2,401,414 |
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1,324,262 |
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1,095,582 |
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Loss from operations |
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(5,495,963 |
) |
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(2,726,981 |
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(1,493,569 |
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(1,271,334 |
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Net (loss) available to common stockholders |
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(5,807,490 |
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(2,860,254 |
) |
|
|
(1,545,233 |
) |
|
|
(827,086 |
) |
Net (loss) per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and
diluted |
|
$ |
(3.68 |
) |
|
$ |
(4.11 |
) |
|
$ |
(1.13 |
) |
|
$ |
(.96 |
) |
Weighted average number of shares
outstanding: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted |
|
|
1,694,596 |
|
|
|
1,702,156 |
|
|
|
1,702,156 |
|
|
|
1,714,795 |
|
|
|
|
|
|
|
|
|
|
|
|
As of June 30, 2009 |
|
|
(Unaudited) |
|
|
|
|
|
|
Pro Forma as Adjusted for Note |
|
|
|
|
|
|
Extinguishment and this |
|
|
Actual |
|
Offering(1) |
|
(In
thousands) |
Balance Sheet Data: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
105 |
|
|
|
|
|
Working capital (deficiency) |
|
|
(3,473 |
) |
|
|
|
|
Total assets |
|
|
657 |
|
|
|
|
|
Total liabilities |
|
|
4,104 |
|
|
|
|
|
Total stockholders equity |
|
|
(13,721 |
) |
|
|
|
|
|
|
|
(1) |
|
Reflects our sale of 2,000,000 shares of common stock and convertible debentures offered by
this prospectus at an assumed public offering price of $ per share and $1,000 per
debenture, after deducting the estimated offering expenses that we will pay, and the
application of debt payable by us with respect to our notes payable. |
|
(2) |
|
Total general and administrative expenses, represents total operating expenses less research and development. |
8
RISK FACTORS
A purchase of our securities involves a high degree of risk. You should consider carefully
the following risk factors, in addition to the other information contained in this prospectus and
the documents incorporated by reference into this prospectus, before purchasing any securities in
this offering.
Risks Related to Our Business
We have a history of annual net losses which may continue and which may negatively affect our
ability to achieve our business objectives, and we received a going concern qualification in our
2008 audit.
For the year ended December 31, 2008, we had revenue of $439,000 and a net loss available to
common stockholders of $(2,860,254). At December 31, 2008, we had a stockholders deficit of
$(11,852,015), as compared with $(5,659,153) from December 31, 2007. Our stockholders deficit was
$(13,721,221) as of the six months ended June 30, 2009. For the six months ended June 30, 2009, we
had revenue of $179,000, compared to revenue of $260,000 for the comparable period in 2008. We had
a net loss of $(827,086) for the six months ended June 30, 2009, compared to a net loss of
$(1,545,233) for the comparable 2008 period. Our independent auditors, in their report dated
September 16, 2009 for the related audit of our financial statements for the years ended December
31, 2008 and December 31, 2007, expressed doubt about our ability to continue as a going concern.
There can be no assurance that our future operations will result in net income. Our failure to
increase our revenues or improve our gross margins will harm our business. We may not be able to
sustain or increase profitability on a quarterly or annual basis in the future. If our revenues
grow more slowly than we anticipate, our gross margins fail to improve, or our operating expenses
exceed our expectations, our operating results will suffer. The prices we charge for our
XT250TM system may decrease, which would potentially reduce our revenues. If we are
unable to sell our solutions at acceptable prices relative to our costs, or if we fail to develop
and introduce on a timely basis new products from which we can derive additional revenues, our
financial results will suffer.
We currently are experiencing uncertain economic conditions, which makes it difficult to estimate
growth in our markets and, as a result, future income and expenditures.
Current conditions in the domestic and global economies are extremely uncertain. As a result,
it is difficult to estimate the level of growth for the economy as a whole. It is even more
difficult to estimate growth in various parts of the economy, including some of the markets in
which we participate. Because all components of our budgeting and forecasting are dependent upon
estimates of growth in the markets we serve, the prevailing economic uncertainty renders estimates
of future income and expenditures even more difficult than usual. As a result, we may make
significant investments and expenditures but never realize the anticipated benefits, which could
affect adversely our results of operations. The future direction of the overall domestic and
global economies will have a significant impact on our overall performance.
Our resources may not be sufficient to manage our expected growth; failure to properly manage our
potential growth would be detrimental to our business.
We may fail to adequately manage our anticipated future growth. Any growth in our operations
will place a significant strain on our administrative, financial and operational resources, and
increase demands on our management and on our operational and administrative systems, controls and
other resources. We cannot assure you that our existing personnel, systems, procedures or controls
will be adequate to support our operations in the future or that we will be able to successfully
implement appropriate measures consistent with our growth strategy. As part of this growth, we may
have to implement new operational and financial systems, procedures and controls to expand, train
and manage our employee base, and maintain close coordination among our technical, accounting,
finance, marketing, and sales staff. We cannot guarantee that we will be able to do so, or that if
we are able to do so, we will be able to effectively integrate them into our existing staff and
systems. If we are unable to manage growth effectively, such as if our sales and marketing efforts
exceed our capacity to manufacture our XT250TM systems or if new employees are unable to
achieve performance levels, our business, operating results and financial condition could be
materially and adversely affected.
9
We are currently a defendant in a lawsuit with the manufacturer of the XT250TM system,
Kimball Electronics, Inc. in connection with $2.4 million we currently owe to its parent
corporation, Kimball International, Inc., (also a party to the litigation) under a promissory note
and Kimball has requested the court enter a judgment against us for $3.2 million.
On or about September 16, 2008, Kimball International, Inc. and Kimball Electronics, Inc.
(Kimball) filed suit against us in U.S. District Court in Evansville, Indiana. Kimball filed
three claims against us including a claim alleging we defaulted on a $2,000,000 loan provided by
Kimball in favor of us, breach of a reserve capacity agreement and breach of a supplier agreement.
We asserted counterclaims against Kimball for conversion, breach of contract and tortious
interference with business relationship. On June 30, 2009, the District Court granted partial
judgment in favor of Kimball in the amount of $2,000,000 against us. On July 1, 2009, we reached
an agreement with Kimball in principle to settle the parties claims, the specific details of which
were to be memorialized in a final written settlement agreement. Under the agreement in
principle, we would pay Kimball $3,200,000, which includes approximately $780,000 for inventory in
Kimballs possession, payable on the following schedule. We would make an initial payment of
$500,000, on August 15, 2009, followed by six monthly payments of $25,000, four monthly payments of
$50,000, followed by a final payment of $2,350,000 on June 15, 2010, provided, however, that if we
completed a public offering before June 15, 2010, the balance of the $3,200,000 judgment would be
due within 15 days of the closing. The settlement agreement was never finalized and none of the
payments have been made. The parties have filed competing motions with the court to enforce their
respective versions of the settlement terms. Additionally, Kimballs motion requests the court to
enter a separate judgment in their favor and against us in the principal sum of $3,200,000. Should
the litigation be settled according to these terms, we anticipate that a portion of the proceeds of
the offering will be utilized to pay the monies due to Kimball. We intend to vigorously pursue the
settlement which will include terms under which Kimball will continue to supply XT250TM
units and allocate a portion of the payments to be made by us under the settlement agreement to the
$780,000 in XT250TM inventory in Kimballs possession. If we are unable to settle this
litigation in a timely manner, our results of operations may be adversely affected.
We are using a portion of the proceeds of this offering to repay indebtedness and we may be unable
to successfully implement our business plan or accurately predict our future operating expenses,
which could cause us to experience cash shortfalls in future periods.
A
portion of the proceeds of this offering may be used to repay
indebtedness as of November 3, 2009 in the aggregate
principal amount of approximately $2,731,000, together with accrued interest, as well as such
additional amounts of $780,000 we anticipate will be applied to repayment to Kimball should
settlement be reached in the case Kimball International, Inc., et al v. XStream Systems,
Inc. The remainder we anticipate will be used for the development of new products, potential
strategic acquisitions and for general working capital purposes including the payment of accrued
and future salaries. In addition, in order to substantially grow our business, we will likely
require additional funding. There can be no assurance that we will be able to raise any
additionally needed funds on acceptable terms or at all. The procurement of any such additional
financing may result in the dilution of your ownership interest in us. Furthermore, our prospects
must be considered in light of the risks, expenses and difficulties frequently encountered by
companies engaged in the development of a new business. Some of the specific risks associated with
our business include our:
|
|
|
need to manage our expanding operations; |
|
|
|
|
continuing need to raise additional capital; and |
|
|
|
|
dependence upon and need to hire key personnel. |
To address these risks, we must, among other things, respond to our competitors, attract, retain
and motivate qualified personnel, and market and sell our detection systems to companies seeking
quality control. We cannot guarantee that we will be successful in addressing any or all of these
risks and the other risks described herein, or that we will generate significant revenues or
achieve or sustain significant profitability. The failure to address one or more of these risks
and successfully implement our strategy could have a material adverse effect on our financial
condition or results of operations.
We have identified a material weakness in our internal controls over financial reporting.
During the preparation of our financial statements, we identified control deficiencies that have
been classified as material weaknesses in our internal controls over financial reporting. A
material weakness is a control deficiency that results in a more than remote likelihood that a
material misstatement of the annual or interim financial statements will not be prevented or
detected on a timely basis by employees in the normal course of their assigned functions. The
identification of this material weakness may cause investors to lose confidence in us and our stock
may be negatively affected.
The standards that must be met for management to assess the internal control over financial
reporting are relatively new and complex, and require significant documentation, testing and
possible remediation to meet the detailed standards. We may encounter problems or delays in
completing the activities necessary to make future assessments of our internal control over
financial reporting and completing the implementation of any necessary improvements. Future
assessments may require us to incur substantial costs and may require a significant amount of time
and attention of management, which could seriously harm our business, financial condition and
results of operations. If we are unable to assess our internal control over financial reporting as
effective in the future, investors may lose confidence in us and our stock may be negatively
affected.
If we do not successfully develop new detection products and solutions, our business may be harmed.
Our business and operating results may be harmed if we fail to expand our products (either
through internal product or capability development initiatives or through partnerships and
acquisitions) beyond our current XT250TM
10
system in such a way that achieves market acceptance or that generates significant revenue and
gross profits to offset our operating and other costs. We may not successfully identify, develop
and market new product and service opportunities in a timely manner. If we introduce new products
and services, they may not attain broad market acceptance or contribute meaningfully to our revenue
or profitability. Competitive or technological developments may require us to make substantial,
unanticipated investments in new products and technologies or in new strategic partnerships, and we
may not have sufficient resources to make these investments. Because the markets for our solutions
are subject to rapid change, we may need to expand and/or evolve our product and service offerings
quickly. Delays and cost overruns could affect our ability to respond to technological changes,
evolving industry standards, competitive developments or customer requirements and harm our
business and operating results.
We do not own the technology which we utilize in connection with our XT250TM system
which patent rights are licensed from Rutgers University. If we are unable to maintain this
license, our operations and financial condition we anticipate will be negatively affected.
We do not own all of the software, other technologies and content used in our products and
services. We license the technology utilized in connection with our XT250TM system from
Rutgers, The State University of New Jersey (Rutgers) pursuant to an exclusive license agreement
for the patent rights to registered patent U.S. Patent No. 6,118,850 and U.S. Patent application
Serial No. 60/352,952 (WO 03/065077). A disagreement between Rutgers and the Company could have a
very negative effect on our ability to operate our business effectively. In addition, we could
learn that the technologies we have licensed from Rutgers do not perform as purported, are not
effective, or are not the property of Rutgers, or some similar problem with the license any of
which would have an immediate and negative effect on our business. The technology is licensed
under the agreement from the effective date of December 13, 2004 and remains in effect in each
country of the world until the later of (i) expiration in a country of the last-to-expire of issued
patents within the Rutgers patent rights licensed under the agreement, or (ii) 15 years from the
first commercial sale of the licensed that country. As of November 2009, we are currently in
arrears with respect to payment of $307,000, which equals the minimum annual royalty payment due
under the agreement and accrued interest. The licensing agreement provides that if either party
breaches or fails to perform any provision of the agreement, the other party may give written
notice of the default to the breaching party. We have received an offer from Rutgers to settle the
outstanding amounts under the license agreement including payment of an additional 3.5% of each
sale of an XT250TM unit and issuance of shares of our common stock. To date, however, a
forbearance agreement has not been executed and the default under the agreement has not been cured.
The loss of, or our inability to maintain, this license could result in our inability to sell our
products including the XT250TM systems without liability exposure. As a general matter,
we anticipate that we will continue to license technology from third parties in the future. This
technology may not continue to be available on commercially reasonable terms, if at all. Although
we do not believe that we are substantially dependent on any individual licensed technology, some
of the software that we license from third parties could be difficult for us to replace. The loss
of any of these technology licenses could result in delays in the license of our products until
equivalent technology, if available, is developed or identified, licensed and integrated. The use
of additional third party software would require us to negotiate license agreements with other
parties, which could result in higher royalty payments and a loss of product differentiation, which
could negatively impact our operating results and financial condition.
If we do not adequately protect our intellectual property rights, we may experience a loss of
revenue and our operations may be materially harmed.
We have not registered patents or copyrights on any of the software or technology we have
developed. We rely upon confidentiality agreements signed by our employees, consultants and third
parties, and trade secret laws of general applicability, to safeguard our software and technology.
We cannot assure you that we can adequately protect our intellectual property or successfully
prosecute potential infringement of our intellectual property rights. Also, we cannot assure you
that others will not assert rights in, or ownership of, trademarks and other proprietary rights of
ours or that we will be able to successfully resolve these types of conflicts to our satisfaction.
Our failure to protect our intellectual property rights may result in a loss of revenue and could
materially harm our operations and financial condition.
Our lengthy sales cycle may increase our exposure to customer cancellations and other risks.
Our product sales cycle has been and is expected to continue to be lengthy and variable. We
generally expect the need to educate our potential customers about the use and benefits of the
XT250TM system, which can require the investment of significant time and resources.
This lengthy sales cycle creates risks related to customer decisions to cancel or change product
plans, which could result in the loss of anticipated sales. We may incur significant research
11
and development, selling and general and administrative expenses as part of this process
before it generates the related revenues from any such customer.
We may not be able to secure all rights to our intellectual property; our rights may be subject to
claims of infringement by others, and other issues affecting production.
We are relying on a combination of any applicable U.S. and foreign patent, trade secret,
trademark and copyright laws, as well as employee and third party non-disclosure agreements and
other protective measures to protect intellectual property rights pertaining to our products and
technologies both in the U.S. and abroad. There can be no assurance, however, that these measures
will provide meaningful protection of our technology, trade secrets, know-how, or other
intellectual property in the event of any unauthorized use, misappropriation, or disclosure. There
can also be no assurance that others will not independently develop similar technologies or
duplicate any technology we develop or have developed without violating our intellectual property
rights. In addition, there can be no assurance our intellectual property rights will be held to be
valid will not be successfully challenged or will otherwise be of value.
Our patent applications may be subject to a charging and retaining lien held by our counsel
that prepare and file such applications. Failure to repay outstanding debts to such counsel could
prevent us from fully commercially exploiting our technology. In addition to developing and
seeking patent and other intellectual property protection for our technology, we do not currently,
but may in the future, rely on licenses from third parties for material components of the
technology embodied in our products. A dispute with a licensor of such products, or claims for
infringement against the licensor by third parties with respect to the technology licensed to us,
could materially adversely affect our business.
Our pending patent applications or any future patent applications may not be approved or may
be successfully challenged by others or invalidated through administrative processes or litigation.
If our applications are not approved, we may not be able to enter into arrangements to allow us to
continue to use our technology on commercially reasonable terms.
While we do not believe that our products and technologies infringe on any existing patents or
intellectual property rights of third parties, there can be no assurance that such infringement has
not occurred or will not occur. The costs of defending an intellectual property claim could be
substantial and could adversely affect our business, even if we were ultimately successful in
defending any such claims. If our products or technologies were found to infringe the rights of a
third party, we would be required to pay significant damages or license fees or cease production,
any of which could have a material adverse effect on our business.
We depend on patents and other means to protect our intellectual property which may not be
adequate.
The law of patents and trade secrets is constantly evolving and often involves complex legal
and factual questions. The coverage we seek in our patent applications can either be denied or
significantly reduced before or after a patent is issued. Consequently, we cannot be sure that any
particular patent we apply for will be issued, that the scope of the patent protection will exclude
our competitors, that interference proceedings regarding any of our patent applications will not be
filed, or that a patent will provide any other competitive advantage to us. In addition, we cannot
be sure that any of our patents will be held valid if challenged or that others will not claim
rights in or ownership of the patents and other proprietary rights held by us.
Because patent applications are secret until patents are actually issued and the publication
of discoveries in the scientific or patent literature lags behind actual discoveries, we cannot be
certain if our patent application was the first application filed covering a particular invention.
If another partys rights to an invention are superior to ours, we may not be able to obtain a
license to use that partys invention on commercially reasonable terms, if at all. In addition,
our competitors, many of which have greater resources than we do, could seek to apply for and
obtain patents that will prevent, limit or interfere with our ability to make use of our inventions
either in the U.S. or in international markets. Further, the laws of some foreign countries do not
always protect intellectual property rights to the same extent as do the laws of the U.S.
Litigation or regulatory proceedings in the U.S. or foreign countries also may be necessary to
enforce our patent or other intellectual property rights or to determine the scope and validity of
our competitors proprietary rights. These proceedings can be costly, result in product
development delays, and divert our managements attention from our business.
We may also rely upon unpatented proprietary technology, and we cannot assure you that others
will not independently develop substantially equivalent technology or otherwise gain access to or
disclose our proprietary
12
technology. We may not be able to meaningfully protect our rights in this proprietary
technology, which would reduce our ability to compete in the market.
Although we have confidentiality agreements in place with our employees, these agreements may not
adequately prevent disclosure of proprietary information.
Our policy is to execute confidentiality agreements with our employees and consultants upon
the commencement of their employment or consulting arrangement with us. These agreements generally
require that all confidential information developed by an individual or to which the individual is
exposed during the course of his or her relationship with us must be kept confidential even after
the individual has left our employment. These agreements also generally provide that inventions
conceived by the individual in the course of rendering services to us shall be our exclusive
property. We cannot be sure that these agreements will provide meaningful protection of our
proprietary and other confidential information. In addition, in some situations, these agreements
may conflict with, or be subject to, the rights of third parties with whom our employees or
consultants have prior employment or consulting relationships. We may be forced to engage in
costly and time-consuming litigation to determine the scope of and to enforce our proprietary
rights. Even if successful, any litigation could divert our managements attention from our
business.
We have been subject to informal questioning and an informal inquiry from federal and state
regulatory agencies recently related to an unidentified investigation and you should be aware that
if we become a target or defendant in an investigation, litigation or other governmental proceeding
our business prospects may potentially be adversely affected.
On August 6, 2009, the Company was unexpectedly visited by special agents from the Office of
Criminal Investigations of the federal Food and Drug Administration (FDA) and the Florida
Department of Law Enforcement who informed our management that there was an investigation being
conducted into two of our customers. The agents proceeded to ask a series of general question
based on which our management believes that the investigation involves the diversion of drugs. The
agents made an inquiry as to the capabilities of the Companys XT250TM machine and
whether it can be used to aid in diverting drugs. Our management explained that its equipment
cannot be used in such a fashion as to aid in the diversion of drugs and that the Company has at no
time had any part in the diversion of drugs. At this time, we have no reasonable basis to believe
that we are a target of the investigation against our customers and will fully cooperate with the
investigation. To date, we have not received any formal or informal written correspondence
from either regulatory agency relating to the investigation nor are we a party to any legal and/or
regulatory proceeding related to this matter.
We will need to operate without infringing the proprietary rights of others.
We cannot be certain that U.S. or foreign patents or patent applications of other companies do
not exist or will not be issued that would materially and adversely affect our ability to
commercialize our products. We may be sued for infringing or misappropriating the patent or other
intellectual property rights of others. Intellectual property litigation is costly and, even if we
prevail, the cost of this litigation could negatively affect our business. If we do not prevail in
litigation, in addition to any damages we might have to pay, we could be required to stop the
infringing activity or obtain a license requiring us to make royalty payments. Any license we are
required to obtain may not be available to us on commercially acceptable terms, if at all. In
addition, any license we are required to obtain may be non-exclusive, and therefore our competitors
may have access to the same technology licensed to us. If we fail to obtain a required license or
are unable to design around another companys patent, we may be unable to make use of some of our
technologies or distribute our products.
We may be liable for use of information we provide to third party customers.
Incorrect information that results from the use of our systems could cause the end-user either
to take an action or fail to take an action which could have a detrimental effect, and we could be
liable for the damages resulting from the incorrect information. While we maintain product
liability insurance coverage in an amount that we currently believe is sufficient for our business,
we cannot assure you that this coverage will prove to be adequate or will continue to be available
on acceptable terms, if at all. A claim brought against us regarding injuries related to the use
of our system that is uninsured or under-insured could materially harm our business, financial
condition, results of operations and prospects in the future. A claim could also result in
negative publicity.
13
Our failure to comply with certain local, state and federal government regulations could negatively
affect our operating results and future prospects.
Certain computer applications, software and systems, such as ours, involving the detection of
explosives, the identification of narcotics and the use of x-ray technologies are subject to
regulation by numerous local, state and federal governments, including the Department of Defense,
the Drug Enforcement Agency, and various other law enforcement agencies. As such, our products and
operations are subject to various local, state and federal regulations and oversight. Compliance
with such current and future regulations could have a material, adverse effect on our business,
results of operations, financial conditions and prospects in the future.
Our failure to comply with federal Food and Drug Administration regulations could negatively affect
our operating results.
The FDA is responsible for, among other things, assuring the safety and effectiveness of
medical devices. Certain computer applications, software and systems are considered medical
devices, and therefore subject to regulation by the FDA. We do not believe that our system
currently is subject to FDA oversight. Nevertheless, if the FDA were to determine that our system
is subject to FDA jurisdiction, or in the event we expand our product line into medical
diagnostics, we may become subject to FDA jurisdiction, as such compliance with FDA requirements
could have a material, adverse effect on our business, results of operations, financial conditions
and prospects in the future.
Product liability claims may exceed our insurance coverage.
The manufacture and sale of our products carries the risk of product liability claims. Any
error, no matter how unlikely, may cost lives and significant property damage. While we intend to
maintain a prudent level of product liability insurance and errors and omissions coverage, there
can be no assurance that our coverage limits will be adequate to protect us from any liabilities we
might incur in connection with the sale of our products or that we will be able to maintain this
level of coverage in the future. Because we plan to market and sell anti-terrorism technology to
the U.S. government, however, damages paid resulting from lawsuits related to these activities may
be limited or otherwise covered under the federal Support Anti-Terrorism by Fostering Effective
Technologies (SAFETY) Act of 2002, a part of the Homeland Security Act of 2002.
In addition, in order to maintain our competitive position, we will likely need to maintain a
steady pace of new products and updates or enhancements of our existing product, the
XT250TM system. Accordingly, we may require increased product liability coverage as
additional products and updates come to the market place. Such insurance is expensive and in the
future may not be available on acceptable terms, if at all. A successful product liability claim
or series of such claims in excess of our insurance coverage could have a materially adverse effect
on our business.
We depend on certain key executive officers and the loss of such key employees could materially
adversely affect our business.
We are dependent on our executive officers, the loss of any one of whom could have an adverse
effect on our business if we could not promptly secure a replacement with equivalent expertise and
experience. We will rely on the management expertise and experience of, among others, Mr. Brian T.
Mayo, our president and chief technology officer. We have a key-man insurance policy for Mr. Mayo
in the amount of $2,000,000.
While we believe that our management possesses the necessary experience to successfully manage
our operations, there can be no guarantee that they will perform adequately or that our operations
will be successful. In addition, our future success may depend in large part upon our ability to
attract and retain additional highly skilled managerial and other personnel. We may not be
successful in hiring or retaining the personnel we need and this could adversely affect our
business.
Risks Related to Our Securities and this Offering
There is no minimum amount required to be raised in this offering, and if we cannot generate
sufficient funds from this offering, we may be unable to execute our business strategy.
There is no minimum amount of securities that need to be sold in this offering for us to
access the funds. Therefore, this offering will be immediately available for use by us and we do
not have to wait until a minimum number
14
of securities have been sold to keep the proceeds from any sales. We cannot assure you that
subscriptions for the entire offering will be obtained. We have the right to terminate the
offering of the securities at any time, regardless of the number of securities we have sold since
there is no minimum subscription requirement. Our ability to meet our financial obligations and
cash needs, and to achieve our objectives, could be adversely affected if the entire offering of
securities is not fully subscribed for.
An active trading market for the debentures will not develop.
We cannot assure you that an active trading market for the debentures will develop or as to
the liquidity or sustainability of any such market, the ability of holders to sell their debentures
or the price at which holders of the debentures may be able to sell their debentures. If an active
market for the debentures fails to develop or be sustained, the trading prices of the debentures
could be affected adversely. Future trading prices of the debentures also will depend on many
other factors, including prevailing interest rates, the market for similar securities, the price of
our common stock and our performance. The debentures are not listed on any securities exchange and
we do not intend to apply for listing of the debentures on any securities exchange or trading
market.
State Blue Sky laws may limit resale of the shares of common stock.
The holders of our shares of common stock and persons who desire to purchase them in any
trading market that might develop in the future should be aware that there may be significant state
law restrictions upon the ability of investors to resell our shares. Accordingly, if we are not
successful in having our shares listed on the NASDAQ Capital Market, investors should consider any
secondary market for our securities to be a limited one including a trading market on the over the
counter bulletin board (OTCBB). If the securities are traded on the OTCBB we intend to seek
coverage and publication of information regarding the Company in an accepted publication which
permits a manual exemption. This manual exemption permits a security to be distributed in a
particular state without being registered if the company issuing the security has a listing for
that security in a securities manual recognized by the state. However, it is not enough for the
security to be listed in a recognized manual. The listing entry must contain (i) the names of
issuers, officers, and directors, (ii) an issuers balance sheet, and (iii) a profit and loss
statement for either the fiscal year preceding the balance sheet or for the most recent fiscal year
of operations. Furthermore, the manual exemption is a non issuer exemption restricted to secondary
trading transactions, making it unavailable for issuers selling newly-issued securities. Most of
the accepted manuals are those published in Standard and Poors, Moodys Investor Service, Fitchs
Investment Service, and Bests Insurance Reports, and many states expressly recognize these
manuals. A smaller number of states declare that they recognize securities manuals but do not
specify the recognized manuals. The following states do not have any provisions and therefore do
not expressly recognize the manual exemption: Alabama, Georgia, Illinois, Kentucky, Louisiana,
Montana, South Dakota, Tennessee, Vermont and Wisconsin.
15
An active trading market for our securities may not develop and we expect that our stock price will
be volatile and could decline following this offering, resulting in a substantial loss in your
investment.
Prior to this offering, there has not been a public market for our securities. An active
trading market for our securities may never develop or if it develops it may not be sustained,
which could affect your ability to sell your securities and could depress the market price of your
securities. In addition, the initial public offering price of the securities has been determined
by the board of directors and management and may bear no relationship to the price at which the
securities will trade upon completion of this offering. The offering price does not necessarily
indicate the current value of the securities offered hereby and should not be regarded as an
indicator of any future market performance or value thereof.
In addition, the stock market can be highly volatile. As a result, the market price of our
securities can be similarly volatile, and investors in our securities may experience a decrease in
the value of their securities, including decreases unrelated to our operating performance or
prospects. The market price of our securities after the offering will likely vary from the initial
offering price and is likely to be highly unpredictable and subject to wide fluctuations in
response to various factors, many of which are beyond our control. These factors include:
|
|
|
variations in our operating results; |
|
|
|
|
changes in the general economy and in the local economies in which we operate; |
|
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|
the departure of any of our key executive officers and directors; |
|
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|
|
the level and quality of securities analysts coverage for our securities; |
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|
announcements by us or our competitors of significant acquisitions, strategic
partnerships, joint ventures or capital commitments; |
|
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|
|
changes in the federal, state, and local laws and regulations to which we are subject;
and |
|
|
|
|
future sales of our securities. |
You will experience immediate and substantial dilution when you purchase securities in this
offering.
Upon the closing of this offering, investors will incur immediate and substantial dilution in
the per share net tangible book value of their shares of common stock. At June 30, 2009, after
giving pro forma effect to our receipt of the net proceeds of this offering, we would have had a
pro forma net tangible book value of $ per share. Net tangible book value is the amount of our
total assets minus intangible assets and liabilities. This represents a gain in our net tangible
book value of $ per share for the benefit of our current stockholders, and dilution of $___,
or ___% of the public offering price, for investors in this offering. Investors in this offering
will be subject to increased dilution upon the exercise of existing outstanding stock options and
warrants. These stock options and warrants, for which cash would need to be remitted to us for
exercise, represent an additional 15,055,959 shares of common stock that could be issued in the
future. However, each of our warrantholders has agreed not to exercise the warrants for three
years subsequent to the effective date of the registration statement in this offering.
Shares of stock issuable pursuant to our stock options, warrants, and convertible preferred stock
may adversely affect the market price of our common stock.
As of November 3, 2009, we have outstanding under our 2004 Stock Option Plan, stock options to
purchase an aggregate of 1,977,274 shares of common stock at a weighted average exercise price of
$2.17 per share and outstanding warrants to purchase 13,078,685 shares of common stock (for which
cash would need to be remitted for us to exercise) at a weighted
average exercise price of $2.99
per share. In addition, as of November 3, 2009, we have outstanding shares of preferred stock as
follows: Series A preferred stock 962,101 shares convertible at $3.80 per share; Series B
preferred stock 1,619,127 at $3.00 per share; and Series C preferred stock 365,996 at $3.00 per
share; and Series D preferred stock 563,414 at $3.00 per share, all of which are immediately
convertible into shares of our common stock on a one-for-one basis on
the effective date of this registration statement. In addition, 1,000,000
share based incentive grants are outstanding and 4,000,000 shares of our common stock are reserved
for issuance under our 2009 Long Term Incentive Compensation Plan. The exercise of the stock
options, preferred stock and warrants and the sales of stock issuable pursuant to them, would
further reduce a
16
stockholders percentage voting and ownership interest. However, each of our warrantholders
has agreed not to exercise the warrants for three years subsequent to the closing of this offering.
The stock options, warrants, and preferred stock are likely to be exercised when our common
stock is trading at a price that is higher than the exercise price of these options and warrants,
and we would be able to obtain a higher price for our common stock than we will receive under such
options and warrants. The exercise, or potential exercise, of these options and warrants could
adversely affect the market price of our common stock and adversely affect the terms on which we
could obtain additional financing.
The large number of shares eligible for future sale may adversely affect the market price of our
common stock.
The sale, or availability for sale, of a substantial number of shares of common stock in the
public market could materially adversely affect the market price of our common stock and could
impair our ability to raise additional capital through the sale of our equity securities. At the
completion of this offering, excluding our over-subscription option to sell an additional 500,000
shares of common stock, there will be approximately 8,277,794 shares of common stock issued and
outstanding. Of these shares, approximately 2,000,000 will be freely transferable, and
approximately 6,277,795 shares will be eligible for resale under Rule 144 following the expiration
of our lock-up agreements on the one year anniversary of the effective date of this registration
statement, subject to exceptions for holders of 2,500 shares or less who have six-month lock-up
agreements with us. Our executive officers and directors beneficially own 3,431,490 shares, which
would be eligible for resale following expiration of the lock-ups, subject to the volume and manner
of sale limitations of Rule 144 of the Securities Act of 1933,
as amended (the Securities Act). Upon the conversion of
our outstanding preferred stock into shares of common stock
an additional 2,846,305 shares will be restricted shares, as that term is defined in Rule 144, and
will be eligible for sale under the provisions of Rule 144 following expiration of the lock-ups.
For additional information, see Shares Eligible for Future Sale.
We have provisions in our certificate of incorporation that substantially eliminate the personal
liability of members of our board of directors for violations of their fiduciary duty of care as a
director and that allow us to indemnify our officers and directors.
Certain provisions in our certificate of incorporation could make it very difficult for you to
bring any legal actions against our directors for such violations or could require us to pay any
amounts incurred by our directors in any such actions. Pursuant to our certificate of
incorporation and amended and restated by-laws, members of our board of directors will have no
liability for violations of their fiduciary duty of care as a director, except in limited
circumstances. This means that you may be unable to prevail in a legal action against our
directors even if you believe they have breached their fiduciary duty of care. In addition, our
certificate of incorporation and amended and restated by-laws allows us to indemnify our directors
from and against any and all expenses or liabilities arising from or in connection with their
serving in such capacities with us. This means that if you were able to enforce an action against
our directors or officers, in all likelihood we would be required to pay any expenses they incurred
in defending the lawsuit and any judgment or settlement they otherwise would be required to pay.
Our officers and directors have significant voting power and may take actions that may not be in
the best interests of other stockholders.
Our executive officers and directors currently beneficially own or control 70.6% of our
outstanding common stock. Upon the completion of this offering, our executive officers and
directors will beneficially own or control approximately 37.8% of our outstanding common stock. If
these stockholders act together, they will be able to exert significant control over our management
and affairs requiring stockholder approval, including approval of significant corporate
transactions. This concentration of ownership may have the effect of delaying or preventing a
change in control and might adversely affect the market price of our common stock. As a result,
these stockholders could together control all matters presented to our stockholders for approval,
including election and removal of our directors and change of control transactions. The interests
of these stockholders may not always coincide with the interests of the other holders of our common
stock.
We are restricted from paying dividends under the terms of our preferred stock designations and you
should not buy our stock if you expect dividends.
We currently intend to retain our future earnings to support operations and to finance
expansion and, therefore, we do not anticipate paying any cash dividends on our capital stock in
the foreseeable future. Furthermore, the terms of our preferred stock agreements restrict the
payment of dividends and provide that except for the ratable payment of
17
dividends on the Series A, B, C and D preferred stock, we may not directly or indirectly
declare or pay any cash or property dividends or make any cash or property distributions upon any
of its capital stock or other equity securities. You should not buy our stock if you are expecting
to receive cash dividends.
As a public company we will incur additional cost and face increased demands on our management and
key employees.
We have never operated as a public company. As a public company, we will incur significant
legal, accounting and other expenses that we did not incur as a private company. In addition, the
Sarbanes-Oxley Act of 2002, as well as rules implemented by the Securities and Exchange Commission,
or SEC, and the exchange where we propose to trade our securities, impose various requirements on
public companies. Our management and other personnel will devote substantial amounts of time to
these requirements. We expect these requirements to significantly increase our legal and financial
compliance costs and to make some activities more time-consuming and costly. In addition, we will
incur additional costs associated with our public company reporting requirements. These rules and
regulations also make it more difficult and more expensive for us to obtain director and officer
liability insurance. We cannot predict or estimate the amount of additional costs we may incur or
the timing of such costs. If our profitability is harmed by these additional costs, it could have
a negative effect on the trading price of our common stock.
We will retain broad discretion in using the net proceeds from this offering and may spend a
substantial portion in ways with which you do not agree.
Our management will retain broad discretion to allocate the net proceeds of this offering.
The net proceeds may be applied in ways with which you and other investors in the offering may not
agree, or which do not increase the value of your investment. We intend to use a portion of our
net proceeds from this offering to repay the outstanding balance under our existing debt
instruments, which was approximately $2,662,000 as of June 30, 2009. We anticipate that we will
use the remainder of the net proceeds for working capital and other general corporate purposes,
which may include the acquisition of other businesses, products or technologies. We have not
allocated these remaining net proceeds for any specific purposes. Our management might not be able
to yield a significant return, if any, on any investment of these net proceeds.
We do not know whether a market will develop for our common stock or what the market price of our
common stock will be and as a result it may be difficult for you to sell your shares of our common
stock.
Before this offering, there was no public trading market for our common stock. If a market
for our common stock does not develop or is not sustained, it may be difficult for you to sell your
shares of common stock at an attractive price or at all. We cannot predict the prices at which our
common stock will trade. The initial public offering price for our common stock was determined by
the board of directors and management and may not bear any relationship to the market price at
which the common stock will trade after this offering or to any other established criteria
regarding our value. It is possible that in one or more future periods our results of operations
may be below the expectations of public market analysts and investors and, as a result of these and
other factors, the price of our common stock may fall.
If securities analysts do not publish research or reports about our business or if they publish
negative evaluations of our stock, the price of our stock could decline.
The trading market for our common stock will rely in part on the research and reports that
industry or financial analysts publish about us or our business. We do not currently have and may
never obtain research coverage by industry or financial analysts. If no or few analysts commence
coverage of us, the trading price of our stock would likely decrease. Even if we do obtain analyst
coverage, if one or more of the analysts covering our business downgrade their evaluations of our
stock, the price of our stock could decline. If one or more of these analysts cease to cover our
stock, we could lose visibility in the market for our stock, which in turn could cause our stock
price to decline.
You will experience immediate and substantial dilution in your investment.
The offering price of the common stock is substantially higher than the net tangible book
value per share of our common stock, which on a pro forma basis was $___ as of December 31, 2008.
As a result, you will experience immediate and substantial dilution in pro forma net tangible book
value when you buy shares of common stock in this offering. This means that you will pay a higher
price per share than the amount of our total assets, minus our total liabilities, divided by the
number of outstanding shares. Holders of our common stock will experience further dilution
18
if options or other rights to purchase our common stock that are outstanding or that we may
issue in the future are exercised or converted, or if we issue additional shares of our common
stock, at prices lower than our net tangible book value at such time.
Provisions in our organizational documents and in the Delaware General Corporation Law may prevent
takeover attempts that could be beneficial to our stockholders.
Provisions in our certificate of incorporation and amended and restated by-laws, both of which
will be effective upon the closing of this offering, and in the Delaware General Corporation Law,
may make it difficult and expensive for a third party to pursue a takeover attempt we oppose even
if a change in control of our company would be beneficial to the interests of our stockholders.
Any provision of our certificate of incorporation or amended and restated by-laws or Delaware law
that has the effect of delaying or deterring a change in control could limit the opportunity for
our stockholders to receive a premium for their shares of our common stock, and could also affect
the price that some investors are willing to pay for our common stock. Our board of directors has
the authority to issue up to 6,000,000 shares of preferred stock in one or more series and to fix
the powers, preferences and rights of each series without stockholder approval. The ability to
issue preferred stock could discourage unsolicited acquisition proposals or make it more difficult
for a third party to gain control of our company, or otherwise could adversely affect the market
price of our common stock. Further, as a Delaware corporation, we are subject to Section 203 of
the Delaware General Corporation Law. This section generally prohibits us from engaging in mergers
and other business combinations with stockholders that beneficially own 15% or more of our voting
stock, or with their affiliates, unless our directors or stockholders approve the business
combination in the prescribed manner.
19
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
Included in this prospectus are forward-looking statements, as well as historical
information. Although we believe that the expectations reflected in these forward-looking
statements are reasonable, we cannot assure you that the expectations reflected in these
forward-looking statements will prove to be correct. Our actual results could differ materially
from those anticipated in forward-looking statements as a result of certain factors, including
matters described in the section titled Risk Factors. Forward-looking statements include those
that use forward-looking terminology, such as the words anticipate, believe, estimate,
expect, intend, may, project, plan, will, shall, should and similar expressions,
including when used in the negative. Although we believe that the expectations reflected in these
forward-looking statements are reasonable and achievable, these statements involve risks and
uncertainties and no assurance can be given that actual results will be consistent with these
forward-looking statements. Actual results may be materially different than those described
herein. Important factors that could cause our actual results, performance or achievements to
differ from these forward-looking statements include the factors described in the Risk Factors
section and elsewhere in this prospectus.
All forward-looking statements attributable to us are expressly qualified in their entirety by
these and other factors. We undertake no obligation to update or revise these forward-looking
statements, whether to reflect events or circumstances after the date initially filed or published,
to reflect the occurrence of unanticipated events or otherwise, except to the extent required by
federal securities laws.
20
USE OF PROCEEDS
We estimate the net proceeds to us from the sale of the securities in this offering will be
approximately $ , or approximately $ if our over-subscription option is exercised in
full, based on an assumed public offering price of $ per share and after deducting our
estimated offering expenses. We intend to use the net proceeds from this offering for the
following purposes and in the following order of priority:
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|
|
|
|
|
|
|
|
|
|
|
|
Estimated |
|
|
Estimated |
|
Percentage of Net |
Purpose |
|
Amount |
|
Proceeds |
Repayment of notes payable |
|
$ |
|
|
|
|
|
% |
|
Working capital and general corporate purposes |
|
$ |
|
|
|
|
|
% |
|
Funding of research and development |
|
$ |
|
|
|
|
|
% |
|
Total |
|
$ |
|
|
|
|
100.0 |
% |
We plan to use a significant portion of the net proceeds of this offering to finance research
and product development as a part of our growth strategy. Working capital and general corporate
purposes include amounts required to pay for salaries, professional fees, public reporting costs,
office-related expenses and other corporate expenses, including interest and overhead. A
description of the notes payable by us which proceeds in this offering are anticipated to repay is
provided under the sections Legal Proceedings and Risk Factors We are using a portion of the
proceeds of this offering to repay indebtedness. . . .
We have indicated the order of priority in the table above for use of the proceeds of this
offering. If substantially less than the maximum proceeds are obtained, we anticipate we will
apply the payment of the proceeds to the repayment of the notes payable and working capital and
general corporate purposes. Pending these uses, we intend to invest most of the net proceeds from
this offering in short-term, investment-grade, interest-bearing securities.
DETERMINATION OF OFFERING PRICE
The initial public offering price of shares of our common stock and conversion price for the
debentures was determined by our board of directors and management. Among the factors considered in
determining the initial public offering price and conversion price were our future prospects and
those of our industry in general, and certain other financial and operating information in recent
periods, and other financial and operating information of companies engaged in activities similar
to ours. We cannot assure you, however, that the prices at which the shares will sell in the public
market after this offering will not be lower than the initial public offering price or debenture
conversion price or that an active trading market in our common stock will develop and continue
after this offering.
DIVIDEND POLICY
We have never paid any cash dividends on our capital stock and do not anticipate paying any
cash dividends in the foreseeable future. We currently intend to retain any future earnings to
fund the development and growth of our business. Furthermore, the terms of our preferred stock
agreements restrict the payment of dividends and provide that except for the ratable payment of
dividends on the Series A, B, C and D preferred stock, we may not directly or indirectly declare or
pay any cash or property dividends or make any cash or property distributions upon any of our
capital stock or other equity securities. You should not buy our stock if you are expecting to
receive cash dividends.
21
CAPITALIZATION
The following table summarizes our short-term debt and capitalization as of June 30, 2009, (a)
on an actual basis, (b) on a pro forma basis after giving effect to the conversion of all outstanding shares of our
Series A, B, C, and D preferred stock into 3,510,638 shares of our common stock which will occur automatically on the effective date of
the registration statement for this offering, and (c) on a pro forma as adjusted basis to reflect the estimated net proceeds
we will receive from the sale of 2,000,000 shares of common stock and $5,000,000 principal amount of convertible debentures
offered by this prospectus at an assumed public offering price of
$
per share and $1,000 per debenture, after deducting the estimated offering expenses we will pay, and the application of
notes payable by us in the aggregate amount of $2,662,000.
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of June 30, 2009 |
|
|
|
|
|
|
|
Pro Forma Basis
after giving effect |
|
|
Pro Forma as Adjusted for |
|
|
|
|
|
|
|
to
Conversion of |
|
|
Note Extinguishment and |
|
|
|
Actual |
|
|
all
Preferred Stock |
|
|
this Offering (1) |
|
|
|
(Unaudited) |
|
|
|
|
|
(Unaudited) |
|
Short-term debt |
|
$ |
2,662,000 |
|
|
|
2,662,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series A Preferred stock, $.0001 par
value, 7% and 5% cumulative dividend,
962,101 shares authorized, issued and
outstanding |
|
|
4,272,023 |
|
|
|
|
|
|
|
|
|
Series B Preferred stock, $.0001 par
value, 7% and 5% cumulative dividend,
1,800,000 shares authorized and
1,619,127 issued and outstanding |
|
|
5,355,742 |
|
|
|
|
|
|
|
|
|
Series C Preferred stock, $.0001 par
value, 7% and 5% cumulative dividend,
1,350,000 shares authorized, 212,331
issued and outstanding |
|
|
645,866 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders equity: |
|
|
|
|
|
|
|
|
|
|
|
|
Common Stock, $0.0001 par
value: authorized
30,000,000 shares; issued
and outstanding 1,767,156
shares, actual; issued
and outstanding, pro
forma as adjusted for
this offering, ________
shares(1) |
|
|
177 |
|
|
|
456 |
|
|
|
|
|
Additional paid in capital |
|
|
1,979,867 |
|
|
|
12,253,219 |
|
|
|
|
|
Accumulated deficit |
|
|
(15,701,265 |
) |
|
|
(15,701,265 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
|
(13,721,221 |
) |
|
|
(3,447,590 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total capitalization |
|
$ |
(785,590 |
) |
|
$ |
(785,590 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
The number of shares issued and outstanding and the additional paid-in capital exclude (a)
1,977,274 shares of common stock reserved for issuance upon the exercise of stock options
outstanding under our 2004 Stock Option Plan, (b) 5,000,000 shares of common stock reserved
for issuance upon the grant of share-based incentives under our 2009 Long Term Compensation
Plan, and (c) 13,078,685 shares of common stock reserved for issuance upon the exercise of
outstanding warrants (for which cash would need to be remitted to us for exercise). |
22
PRICE RANGE OF COMMON STOCK
Our common stock is not currently traded on any market or exchange. We intend to apply to
list our common stock on the NASDAQ Capital Market, and expect such listing to occur concurrently
with this offering.
As of November 3, 2009, we had 99 stockholders of record of our common stock.
23
DILUTION
Purchasers of securities in this offering will be diluted to the extent of the difference
between the public offering price per share and the net tangible book value per share of our common
stock immediately after this offering. Net tangible book value dilution per share represents the
difference between the amount per share paid by purchasers of common stock in this offering and the
pro forma, adjusted net tangible book value per share of common stock immediately after completion
of this offering.
Our pro forma, adjusted net tangible book value (deficit) as of June 30, 2009, would have been
$( ) or $(0.___) per share of common stock. Pro forma net tangible book value (deficit) per
share as of a specified date is determined by dividing our tangible book value (deficit) (total
tangible assets less total liabilities) by the number of outstanding shares of common stock at such
date. After giving effect to our sale of the 2,000,000 shares of common stock and convertible
debentures offered by this prospectus (based upon an assumed public offering price of $ per
share and $1,000 per debenture, after deducting our estimated offering expenses), and the
application of notes payable by us in the aggregate amount of $ , our pro forma net
tangible book value as of June 30, 2009, would have been $ , or $ per share of
common stock. This represents an immediate increase in pro forma net tangible book value to
existing stockholders of $ per share, and an immediate dilution to new investors of $
per share, or % of the public offering price of the shares and % of the convertible
debentures offered in this offering. The following table illustrates the per share dilution:
|
|
|
|
|
|
|
|
|
Assumed public offering price per share |
|
|
|
|
|
$ |
|
|
Assumed public offering price per debenture |
|
|
|
|
|
$ |
1,000 |
|
Pro forma net tangible book value (deficit) per share
as of June 30, 2009 (giving effect to the
extinguishment of notes) |
|
$ |
|
|
|
|
|
|
Increase in pro forma net tangible book value (deficit)
per share attributable to new investors in this
offering |
|
$ |
|
|
|
|
|
|
Pro forma net tangible book value per share as of June
30, 2009 after this offering |
|
|
|
|
|
$ |
|
|
Pro forma net tangible book value dilution per share to
new investors in this offering |
|
|
|
|
|
$ |
|
|
Sales by existing unaffiliated stockholders in this offering will reduce the number of shares
held by all existing stockholders to , or ___% of the total number of shares of common stock
to be outstanding after this offering, and will increase the number of shares to be purchased by
new investors to , or ___% of the total shares of common stock to be outstanding after this
offering.
Investors in this offering will be subject to increased dilution upon the exercise of
outstanding stock options and warrants. However, each of our Series B, C and D warrantholders has
agreed not to exercise these warrants until the three year anniversary of the effective date of
this registration statement. As of November 3, 2009, these stock options and warrants represent an
additional 15,055,959 shares that could be issued (for which cash would need to be remitted to us
for exercise) in the future.
24
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following Managements Discussion and Analysis of Financial Condition and Results of
Operations contains forward-looking statements that involve risks and uncertainties. Our actual
results could differ materially from those anticipated in these forward-looking statements as a
result of various factors, including those set forth under Risk Factors and elsewhere in this
prospectus. The following discussion should be read in conjunction with our financial statements
and related notes thereto included elsewhere in this prospectus.
Overview
We design
and develop material authentication and detection solutions that allow molecular
structure analysis on hidden materials. Our license of patented technology from Rutgers University combines penetrating x-rays,
forensic analysis, and automated software algorithms that allow non-technical personnel to rapidly
validate products even when sealed within their original packaging. The initial focus for our
product, the XT250TM Material Identification System, has been molecular screening to
protect the distribution supply chain from counterfeits, adulterations, and contamination of
pharmaceuticals.
Our unique technology allows inventory that is packaged and sealed to be non-intrusively
verified. Deviations, that may be harmful to the public, are detected by our XT250TM
system and removed from the supply chain. We believe our company has raised the level of awareness of the
dangers of counterfeits via our advertising, speaking engagements, websites, and internet blog
activities. We have educated our potential customers on our product offerings and worked with them
to develop processes to better protect their inventories.
Management has succeeded in developing strategic partnerships in key market segments. PILOT
programs with major pharmaceutical manufacturers have allowed us to program the XT250TM
system for their specific needs. PILOT programs with major distributors helped us to develop
processes and procedures to maximize value for all of our customers. PILOT programs with major
returns logistics companies provided exposure and insight into the dispensing segment of the
pharmaceutical market, resulting in enhanced capabilities of the XT250TM that were
developed. Each of the PILOT programs provided XStream Systems with an opportunity to further
validate our technology and demonstrate value for a particular market segment. XT250TM
units were discounted to early adopters, who agreed to PILOT programs, to provide an additional
incentive for the customer. As the PILOT programs complete, management expects to return to
significantly reduced discounts off the retail purchase price for future sales of
XT250TM systems.
Management believes that our Secure Pharma Network (SPN) may provide significant growth
opportunities. SPN is a software product that allows customers to access via the Internet all of
their systems purchased from XStream Systems. Customers may remotely manage their systems,
downloading new material fingerprints or software updates, uploading results, and operating their
systems remotely. Detailed reports can be generated, as well as customized and aggregated
reporting across multiple systems. The ability to collect test results from multiple systems from
our customers, process that data, and provide meaningful information across the industry provides
significant value to our customers, which management believes can produce revenue in the future. We
believe that integrating SPN into our customers inventory management systems provides additional
value to our customers. Since SPN is software based, revenues we anticipate to generate from SPN
in the future are expected to increase our profit margins. To date,
no revenues have been earned from SPN.
The XT250TM system can be programmed for different materials. In addition to the
pharmaceutical distribution market that is already established, management hopes to target other
markets with the XT250TM system. Some industries that perform visual inspections today,
like customs inspections and cosmetics distribution, could enhance their verification process with
the XT250TM system. Field related industries that rely upon sending samples to forensic
laboratories, such as mining and cement industries, could analyze samples themselves with the
XT250TM system. These are just some of the large markets that provide opportunity for
our XT250TM system to verify, detect or identify materials. In markets where the
XT250TM system may not meet the needs for the particular application, our technology is
scalable in terms of speed, portability, and test sample size so that future products may be
developed to meet those needs.
Our initial net sales consist of XT250TM units sold to equipment distributors at a
significant discount off the retail purchase price as well as direct retail sales to pharmaceutical
distributors and manufacturers. Sales to equipment distributors represented 100% and approximately
38% of our net sales during 2007 and 2008, respectively, with the remaining sales in 2008 directly
to pharmaceutical distributors. Gross profit consists of net sales less product,
25
packaging and freight, field service, warranty, and financing costs. Selling and advertising
costs consist of sales person expenses, advertising and marketing expenses, as well as royalty
fees. Research and development expenses consist primarily of engineering personnel expenses,
engineering consulting and prototype expenditures. General and administrative expenses include
administrative salaries and payroll related expenses, stock-based compensation expenses,
depreciation, rent and general overhead expenses.
The management team reviews our performance on a regular basis using a variety of financial
and non-financial metrics. These metrics include, but are not limited to, net sales, gross margin,
sales and marketing expenses, personnel costs, accounts receivable and accounts payable aging,
liquidity and cash resources. Management compares actual results against goals and budgets to take
appropriate actions in order to improve performance.
At June 30, 2009, we had 11 employees in our operations, 2 of whom were sales and business
development executives. Most of our staff is employed at our corporate headquarters in Sebastian,
Florida.
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based on
our consolidated financial statements, which have been prepared in accordance with generally
accepted accounting principles in the U.S. These accounting principles require
management to make use of certain estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities as of the date of the
financial statements and the reported amounts of revenues and expenses during the reported periods.
We base our estimates on historical experience and on various other assumptions that are believed
to be reasonable under the circumstances, the results of which form the basis for making judgments
about carrying values of assets and liabilities that are not readily apparent from other sources.
Actual results could differ from those estimates, and revisions to estimates are included from the
period in which the actual amounts become known.
We believe the following critical accounting policies affect our more significant judgments
and estimates used in our preparation of our consolidated financial statements, and therefore
should be read in conjunction with our summary of significant accounting policies (see Note 2 of
our Notes to Consolidated Financial Statements). Our critical accounting policies are as follows:
Revenue Recognition
Revenue is recognized upon delivery and installation of completed units. Prior to installation,
deposits are ordinarily required from customers before manufacturing commences. These amounts are
recorded as customer deposits until the units are delivered and installed.
Inventories
We state inventories at the lower of cost, determined using the average cost method, or net
realizable value. We review inventory for excess quantities and obsolescence based on our best
estimates of future demand, product lifecycle status and product development plans. We use
historical information along with these future estimates to reserve for obsolete and potentially
obsolete inventory.
Share-based Payments
We record all stock-based awards, including employee stock option grants, at fair value as of
the grant date and recognize these awards as expenses in our statement of operations over the
vesting period of the award in accordance with Statement of Financial Accounting Standards
(SFAS)No. 123(R), Share-Based Payments (SFAS No. 123R).
26
We estimate the fair value of each option grant on the date of grant using the Black-Scholes
option pricing model. The weighted average assumptions utilized for our valuation analysis, for
the years ended December 31, 2007 and 2008 and the six months ended June 30, 2008 and 2009 are as
follows:
|
|
|
|
|
|
|
|
|
|
|
Year Ended |
|
Six Months |
|
|
December 31, |
|
Ended June 30, |
|
|
2007 |
|
2008 |
|
2008 |
|
2009 |
Risk-free interest rate |
|
3.96% - 5.19% |
|
1.55% - 3.34% |
|
2.49% - 3.34% |
|
1.36% - 2.56% |
Expected dividend yield |
|
0% |
|
0% |
|
0% |
|
0% |
Expected volatility |
|
53.89% - 70.74% |
|
51.69% - 62.58% |
|
51.69% - 58.67% |
|
45.45% - 65.20% |
Expected life in years |
|
5 - 7 |
|
5 - 7 |
|
5 - 7 |
|
5 - 7 |
Service period in years |
|
0 - 4 |
|
0 - 4 |
|
0 - 4 |
|
0 - 4 |
Weighted average fair
value of options
granted |
|
$1.21 |
|
$0.16 |
|
$0.35 |
|
$0.38 |
The risk-free interest rate is derived from the Daily U.S. Treasury Yield Curve Rate in effect
as of the valuation date of each grant. The dividend yield of zero is based on the fact that our
present intention is not to pay cash dividends. Since our common stock is not traded on any public
market, we have used the historical volatility of select comparable publicly traded companies over
a period equivalent to the Expected Term, which is the expected time from grant date until
exercise.
Intangible Assets
Intangible assets are accounted for at cost and are amortized over the estimated useful life
of the asset on a straight-line basis, which is generally three to 15 years. In 2005, we purchased
a license from a university for the exclusive right to produce and sell products which utilize the
universitys patented x-ray defraction technology. In exchange for this license, the university
was issued 73,500 shares of our common stock and we agreed to pay royalty fees during the term of
the agreement. The initial license fee is stated at cost and amortized using the straight-line
method over 15 years beginning in the year it was acquired.
Income Taxes
We account for income taxes in accordance with SFAS 109, Accounting for Income Taxes in
determining our effective tax rate, provision for tax expense, deferred tax assets and liabilities
and the related valuation allowance. Our provision for income taxes is determined using the asset
and liability method, which involves significant judgments and estimates. Under this method,
deferred income tax assets and liabilities are calculated based upon the temporary differences
between the financial statement and income tax bases of assets and liabilities using the combined
federal and state effective tax rates that are applicable to us in a given year.
The deferred income tax assets are recorded net of a valuation allowance when, based on the
weight of available evidence; we believe it is more likely than not that some portion or all of the
recorded deferred tax assets will not be realized in future periods. For the years ended December
31, 2007 and 2008 and the six months ended June 30, 2008 and 2009, we have recorded a valuation
allowance against the full amount of our net deferred tax asset, because in our opinion, it is more
likely than not that these deferred tax assets will not be realized through future taxable earnings
or implementation of tax planning strategies. A change in our estimate of future taxable income
may require a change to the valuation allowance.
The Company adopted the provisions of FIN48 on January 1, 2007. As a result of the
implementation of FIN48, the Company determined that no material adjustment was required; there are
no unrecognized tax benefits, and accordingly no associated penalties and interest were required to
be accrued as of December 31, 2008 or 2007.
Contingent Liabilities and Off-Balance Sheet Arrangements
We are contingently liable for certain payments related to sales of our XT250TM
units. We signed recourse agreements whereby we guarantee the payment of the unamortized principle
balance of certain capital lease agreements in the event the customer defaults on the payments for
the units. As of June 30, 2009, the unamortized principle balance of these leases is approximately
$155,000. We believe it is unlikely that we will be required to
satisfy any of this amount and that the fair value of the guarantee
is immaterial. Other
than these arrangements, we do not have any off-balance sheet arrangements that have or are
reasonably
27
likely to have a current or future effect on our financial condition, changes in financial
condition, revenues or expenses, results in operations, liquidity, capital expenditures or capital
resources that is material to investors.
Results of Operations
Results of Operations for the Years Ended December 31, 2008 and 2007
The following table summarizes certain selected items from the statement of operations for the
year ended December 31, 2008 compared to the year ended December 31, 2007.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, |
|
|
Increase/(Decrease) |
|
|
|
2007 |
|
|
2008 |
|
|
$ |
|
|
% |
|
Revenues |
|
$ |
135,000 |
|
|
$ |
439,000 |
|
|
$ |
304,000 |
|
|
|
225 |
% |
|
Cost of Sales |
|
|
157,508 |
|
|
|
129,036 |
|
|
|
(28,472 |
) |
|
|
(18 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Profit (Loss) |
|
$ |
(22,508 |
) |
|
$ |
309,964 |
|
|
$ |
332,472 |
|
|
|
(1477 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Profit (Loss)
Percentage of
Revenue |
|
|
(17 |
%) |
|
|
71 |
% |
|
|
|
|
|
|
87 |
% |
Comparison
of Year Ended December 31, 2008 to Year Ended December 31, 2007
Revenues
Revenues for the year ended December 31, 2008 amounted to $439,000 as compared to revenues of
$135,000 for the year ended December 31, 2007, an increase of $304,000 or 225%. This increase is
primarily due to sales in 2008 at or near the retail price of our units while sales in 2007 were at
significant price reductions below retail. We also had additional revenue of $150,000 during 2008
from a contract with the Transportation Security Administration for the production of explosive
stimulants to be used in testing commercial x-ray equipment.
Cost
of Sales
Cost of sales for the year ended December 31, 2008 totaled $129,036 as compared to $157,508
for the year ended December 31, 2007, a decrease of $28,472 or 18%. This decrease is due primarily
to efficiencies gained in performing the alignment, calibration and tooling process (ACT) which is
required at the time of sale. In addition, in 2008, we eliminated a financing program to
distributors which allowed 12 months deferred payments and resulted in significant financing
charges to us.
Gross
Profit
Gross profit for the year ended December 31, 2008 amounted to $309,964 as compared to a gross
loss of $22,508 for the period ended December 31, 2007, an increase of $332,472. Overall gross
profit as a percentage of revenue increased to 71% for the year ended December 31, 2008 from (17%)
during the year ended December 31, 2007. The increase in gross profit is due to the aforementioned
increase in sales prices and decrease in cost of sales as well as
additional revenues from a contract modification with the Transportation Security Administration for the production of explosive stimulants
which had no costs associated with it in 2008. Excluding the revenue from the Transportation
Security Administration, our gross profit in 2008 would have been $109,964 or 38% of revenues as
compared to (17%) of revenues during the same period in 2007.
28
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, |
|
|
Increase/(Decrease) |
|
|
|
2007 |
|
|
2008 |
|
|
$ |
|
|
% |
|
OPERATING EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling and advertising expenses |
|
$ |
1,248,146 |
|
|
$ |
913,238 |
|
|
$ |
(334,907 |
) |
|
|
(27 |
)% |
|
Research and development expenses |
|
|
1,900,897 |
|
|
|
635,531 |
|
|
|
(1,265,366 |
) |
|
|
(67 |
) |
|
Stock-based compensation expenses |
|
|
424,462 |
|
|
|
235,323 |
|
|
|
(189,139 |
) |
|
|
(45 |
) |
|
Other general and administrative expenses |
|
|
1,899,950 |
|
|
|
1,252,853 |
|
|
|
(647,097 |
) |
|
|
(34 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
5,473,455 |
|
|
|
3,036,945 |
|
|
|
(2,436,510 |
) |
|
|
(45 |
) |
|
Loss from operations |
|
|
(5,495,963 |
) |
|
|
(2,726,981 |
) |
|
|
2,768,982 |
|
|
|
(50 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER INCOME AND EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
(363,887 |
) |
|
|
(159,429 |
) |
|
|
(204,458 |
) |
|
|
(56 |
) |
|
Interest Income |
|
|
52,360 |
|
|
|
26,156 |
|
|
|
(26,204 |
) |
|
|
(50 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET LOSS |
|
$ |
(5,807,490 |
) |
|
$ |
(2,860,254 |
) |
|
$ |
2,947,236 |
|
|
|
(51 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Comparison of Year Ended December 31, 2008 to the Year Ended December 31, 2007
Selling and advertising expenses
Selling and advertising expenses for the year ended
December 31, 2008 totaled $913,238 as compared to $1,248,146 for the year ended December 31, 2007, a decrease of $334,907 or 27%. This
decrease is due primarily to changes implemented in 2008 whereby full-time sales and marketing
headcount was reduced and outside consultants with pharmaceutical industry experience were retained
on a commission basis.
Research and development expenses
Research and development expenses for the year ended
December 31, 2008 amounted to $635,531 as compared to $1,900,897 for the year ended December 31, 2007, a decrease of $1,265,366 or 67%. This
decrease is due primarily to reductions in engineering headcount and prototype costs in 2008 as the
engineering team transitioned the XT250TM Material Identification System from
development stage to production stage in late 2007.
Stock-based compensation
Stock-based compensation for the year ended December 31, 2008 totaled $235,323 as compared to
$424,462 for the period ended December 31, 2007, a decrease of
$189,139 or 45%. This decrease is
due principally to aforementioned headcount reductions in sales and engineering as well as
headcount reductions in general and administrative staff.
General and administrative expenses
General and administrative expenses for the year ended December 31, 2008 amounted to
$1,252,853 as compared to $1,899,950 for the year ended December 31, 2007, a decrease of $647,097
or 34%. This decrease is due predominately to reductions in headcount in 2008 as the company
transitioned the XT250TM Material Identification System from development stage to
production stage in late 2007.
29
Results of Operations for the Six Months Ended June 30, 2009 and 2008
The following table summarizes certain selected items from the statement of operations for the
six month period ended June 30, 2009 compared to the six month period ended June 30, 2008.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
Increase/(Decrease) |
|
|
|
June 30, 2008 |
|
|
June 30, 2009 |
|
|
$ |
|
|
% |
|
|
|
(Unaudited) |
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
260,000 |
|
|
$ |
179,000 |
|
|
$ |
(81,000 |
) |
|
|
(31 |
)% |
|
Cost of Sales |
|
|
59,844 |
|
|
|
66,565 |
|
|
|
6,721 |
|
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Profit |
|
$ |
200,156 |
|
|
$ |
112,435 |
|
|
$ |
(87,721 |
) |
|
|
(44 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross Profit Percentage of Revenue |
|
|
77 |
% |
|
|
63 |
% |
|
|
|
|
|
|
(14 |
)% |
Comparison of Six Months Ended June 30, 2009 to Six Months Ended June 30, 2008
Revenues
Revenues for the six months ended June 30, 2009 amounted to $179,000 as compared to $260,000
for the six months ended June 30, 2008, a decrease of $81,000 or 31%. This decrease is due to
additional revenues of $150,000 during 2008 from a contract with the Transportation Security
Administration for the production of explosive stimulants to be used in testing commercial x-ray
equipment.
Cost of Sales
Cost of sales for the six months ended June 30, 2009 totaled $66,565 as compared to $59,844
for the six months ended June 30, 2008, an increase of $6,721 or
11%. This increase is due
primarily to outsourcing of the field service function which includes the alignment, calibration
and tooling process (ACT) and warranty for the first 12 months after a unit is sold.
Gross Profit
Gross profit for the six months ended June 30, 2009 amounted to $112,435 as compared $200,156
for the six months ended June 30, 2008, a decrease of $87,721 or
44%. Overall gross profit as a
percentage of revenue decreased to 63% for the six month period ended
June 30, 2009 from 77% during
the six month period ended June 30, 2008. This decrease in gross profit is due to the
aforementioned additional revenue in 2008 from a contract with the Transportation Security
Administration as well as the outsourcing of field service.
30
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
Increase/(Decrease) |
|
|
|
June 30, 2008 |
|
|
June 30, 2009 |
|
|
$ |
|
|
% |
|
|
|
(Unaudited) |
|
|
|
|
|
|
|
|
|
OPERATING EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling and advertising expenses |
|
$ |
367,041 |
|
|
$ |
223,726 |
|
|
$ |
(143,315 |
) |
|
|
(39 |
)% |
|
Research and development expenses |
|
|
369,463 |
|
|
|
288,186 |
|
|
|
(81,277 |
) |
|
|
(22 |
) |
|
Stock-based compensation expenses |
|
|
86,400 |
|
|
|
177,644 |
|
|
|
91,244 |
|
|
|
106 |
|
|
Other general and administrative expenses |
|
|
870,821 |
|
|
|
694,213 |
|
|
|
(176,608 |
) |
|
|
(20 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
1,693,725 |
|
|
|
1,383,769 |
|
|
|
(309,956 |
) |
|
|
(18 |
) |
|
Loss from operations |
|
|
(1,493,569 |
) |
|
|
(1,271,334 |
) |
|
|
(222,235 |
) |
|
|
(15 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER INCOME AND (EXPENSES) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
(65,960 |
) |
|
|
(107,810 |
) |
|
|
41,850 |
|
|
|
(63 |
) |
|
Interest Income |
|
|
14,296 |
|
|
|
226 |
|
|
|
(14,070 |
) |
|
|
(98 |
) |
|
|
|
|
|
|
|
|
|
|
|
| |
|
Warrant
Income |
|
|
|
|
|
|
551,832 |
|
|
|
551,832 |
|
|
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET LOSS |
|
$ |
(1,545,233 |
) |
|
$ |
(827,086 |
) |
|
$ |
718,147 |
|
|
|
44 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling and advertising expenses
Selling and advertising expenses for the six months ended June 30, 2009 amounted to $223,726
as compared to $367,041 for the six months ended June 20, 2008, a decrease of $143,315 or 39%.
This decrease is due primarily to changes implemented in third quarter 2008 whereby full-time sales
and marketing headcount was reduced and outside consultants with pharmaceutical industry experience
were retained on a commission basis.
Research and development expenses
Research and development expenses for the six month period ended June 30, 2009 totaled
$288,186 as compared to $369,463 for the six month period ended June 30, 2008, a decrease of
$81,277 or 22%. This decrease is due primarily to reductions in engineering headcount and related
costs implemented as cost saving measures.
Stock-based compensation
Stock-based
compensation for the six months ended June 30, 2009 totaled
$177,644 as compared
to $86,400 for the six months ended June 30, 2008, an increase of $91,244 or 106%. This increase
is due principally to aforementioned headcount reductions in sales and engineering as well as
headcount reductions in general and administrative staff.
Other General and administrative expenses
Other general and administrative expenses for the six month period ended June 30, 2009
amounted to $694,213 as compared to $870,821 for the six month period ended June 30, 2008, a
decrease of $176,608 or 20%. This decrease is due predominately to reductions in headcount and
related costs in 2008 implemented as cost saving measures.
Liquidity and Capital Resources
We
incurred a net loss of $827,086, including $177,644 of stock-based compensation expense
as required by SFAS No. 123R, for the six months ended June 30, 2009. Our accumulated deficit
since inception amounted to $15,701,265 as of June 30, 2009, including $1,293,132 of cumulative
stock-based compensation expense.
Our
primary source of liquidity since inception has been cash generated
from private equity and convertible debt
transactions totaling approximately $11,000,000, net of offering costs, through June 30, 2009. Our
primary operating cash requirements include the payment of salaries, employee benefits and other
personnel-related costs, as well as costs of our sales and marketing efforts and our office
facilities. We had cash of $104,589 as of June 30, 2009 and have generated additional cash from
private equity transactions since this date in the amount of $460,995 which is being used to fund
current operations. We believe our existing cash on hand, the net proceeds from this offering, and
cash generated from operating activities will be sufficient to service our existing debt, finance
internal growth, and invest in research and development of our
technology. If we do not complete the initial public offering to
which this prospectus relates or raise the maximum amount of funds
contemplated in this prospectus, we cannot provide assurances that we
will be able to find alternative financing on terms favorable to us or
at all.
Recent Securities Offerings
On various dates from December 14, 2006 through February 14, 2007, we issued convertible
promissory notes in the principal amount of $325,000, payable on demand at any time on or after
February 28, 2007. In accordance with the terms of the notes, on March 14, 2007, all of the
principal and interest due on the notes was converted into 87,094
31
shares of Series A Redeemable Convertible Preferred Stock, $.0001 par value per share (the
Series A Preferred Stock).
On various dates from August 31, 2005 to March 14, 2006, we sold debentures in the aggregate
principal amount of $1,525,000 to accredited investors. In connection with such sale, each
investor received a ten-year warrant to purchase 5,000 shares of common stock at a price of $2.34
per share for each $25,000 in principal amount of debentures. As a result, we issued warrants to
purchase an aggregate of 305,000 shares of common stock. On December 21, 2007, a portion of these
debentures in the principal amount of $1,000,000 and the related accumulated interest on that date,
was exchanged for 336,248 shares of Series B Redeemable Convertible Preferred Stock, $.0001 par
value per share (Series B Preferred Stock).
On various dates from September 14, 2007 through December 4, 2007, we sold convertible
debentures in the aggregate principal amount of $886,000 to accredited investors. On December 21,
2007, all of the principal and interest due on the debentures was converted into 298,116 shares of
Series B Preferred Stock.
In connection with a secured, revolving, demand promissory note dated November 16, 2006, we
issued the holder of the note a warrant to purchase an aggregate of 21,000 shares of common stock
at an exercise price of $3.80 per share on January 25, 2008.
By stock purchase agreement dated March 14, 2007, as amended from time to time, we sold an
aggregate of 962,101 shares of Series A Preferred Stock to accredited investors. Of those shares,
87,094 were issued in exchange for convertible promissory notes in the principal amount of $325,000
and the related accrued interest. The remaining 875,007 share of Series A Preferred Stock were
issued at a purchase price of $3.80 per share, resulting in $3,325,000 of gross proceeds.
On various dates from December 2007 through June 2008, we sold an aggregate of 1,585,795
shares of Series B Preferred Stock to accredited investors. The shares of Series B Preferred Stock
were issued at a purchase price of $3.00 per share, resulting in $4,757,385 of gross proceeds. In
addition, during this time period, we issued 33,332 shares of Series B Preferred Stock to the
interim chief executive officer as compensation for services performed. Each investor received for
each share of Series B Preferred Stock purchased, one ten-year warrant to purchase five shares of
our common stock at an exercise price of $3.00 per share.
On various dates from March 2009 through August 2009, we sold an aggregate of 365,996 shares
of Series C Redeemable Convertible Preferred Stock, $.0001 par value per share (the Series C
Preferred Stock) to accredited investors. The shares of Series C Preferred Stock were issued at a
purchase price of $3.00 per share, resulting in $1,097,988 of gross proceeds. In addition, each
investor received for each share of Series C Preferred Stock purchased, one ten-year warrant to
purchase five shares of our common stock at an exercise price of $3.00 per share.
During
October 2009, we sold an aggregate of 563,414 shares of Series D Redeemable Convertible
Preferred Stock, $.0001 par value per share (the Series D Preferred Stock) to accredited
investors. The shares of Series D Preferred Stock were sold at a price of $3.00 per share,
resulting in $1,690,242 of gross proceeds. In addition, each investor received for each share of
Series D Preferred Stock purchased, one ten-year warrant to purchase five shares of our common
stock at an exercise price of $3.00 per share.
These securities were sold pursuant to the exemption from registration requirements provided
by Section 4(2) of the Securities Act and Rule 506 promulgated thereunder.
Impact of Inflation
We believe that inflation has not had a material impact on our results of operations for the
years ended December 31, 2007 and 2008 or the six months ended June 30, 2008 and 2009. We cannot
assure you that future inflation will not have an adverse impact on our operating results and
financial condition.
Recently-Issued Accounting Standards
In June 2008, the FASB ratified EITF Issue No. 07-05, Determining Whether an Instrument (or an
Embedded Feature) is indexed to an Entitys Own Stock (EITF 07-5). EITF 07-5 provides that an
entity should use a two step approach to evaluate whether an equity-linked financial instrument (or
embedded feature) is indexed to its own stock,
32
including evaluating the instruments contingent exercise and settlement provisions. It also
clarifies on the impact of foreign currency denominated strike prices and market based employee
stock option valuation instruments on the evaluation. EITF 07-5 is effective for fiscal years
beginning after December 15, 2008.
The
initial impact of adopting EITF 07-5 was to record a warrant
liability for approximately $403,649 with a corresponding charge to the accumulated deficit to reflect the
cumulative effect of this change in accounting principle.
Quantitative and Qualitative Disclosures about Market Risk
This disclosure is not required for smaller reporting companies.
33
BUSINESS
Company Overview
XStream Systems, Inc. designs and develops material authentication and detection solutions
that allow molecular structure analysis on hidden materials. Our patented technology which we
license exclusively from Rutgers, The State University of New Jersey (Rutgers) combines
penetrating x-rays, forensic analysis, and automated software algorithms that allow non-technical
personnel to rapidly validate products even when sealed within their original packaging.
We are a direct seller of hardware and software products and services. Our customers place sales orders
by calling one of our internal sales representatives via our toll-free phone number. We also sell
indirectly through contracted authorized sales agents.
History of the Business
XStream Systems, Inc. was formed as a Delaware corporation in May, 2004. We first generated
revenue through a contract in 2005 with the Transportation Security Administration, an agency under
the Department of Homeland Security. We launched our website and developed our first material
detection prototype system in 2006. Significant changes to the product design were incorporated
and our first XT250TM Material Identification System (XT250) shipped in 2007. Some
PILOT programs for the XT250TM were held at Pfizer, McKesson, Massachusetts Institute of
Technology, Pharmaceutical Dimensions, AmerisourceBergen, Henry Lee Institute of Forensic Science
at University of New Haven, RX Reverse Distributors, and Stericycle. In 2006, we entered into
Distributor Agreements and in 2008 we entered into sales agreements with our first authorized sales
agents and field service representatives (Remetronix and Compass Engineering) to sell and service
our products. In 2008, we focused exclusively on the pharmaceutical industry, hired an experienced
sales force from that industry, and added Eastern Applied Research as an additional authorized
sales agent and field service representative. We introduced our first network product, Secure
Pharma Network (SPN), which is described more fully in this section, in 2008 to provide a truly
integrated system wide solution.
Industry Background
According to IMS Health, Inc., pharmaceutical sales grew to $773.0 billion in
20081, and sales in the U.S. reached $291.0 billion,2 while non-U.S. sales
reached $482.0 billion.3 Although precise and detailed data on counterfeit
pharmaceuticals is difficult to obtain, estimates range from 1% of sales in developed countries
such as the U.S. to over 10% in developing countries, depending on the geographic area.4
Overall, counterfeit pharmaceuticals were estimated to exceed $40.0 billion in 2005, and the
Center for Medicines in the Public Interest projects worldwide counterfeits to increase to over
$75.0 billion by 2010.5
|
|
|
1 |
|
Source: IMS Health Market Prognosis, March 2009.
Total Unaudited and Audited Global Pharmaceutical Market by Region
http://www.imshealth.com/deployedfiles/imshealth/Global/Content/StaticFile/Top_Line_Data/Global_Pharm_Market_by_Region.pdf accessed 6/10/09. |
|
2 |
|
Source: IMS National Sales Perspectives 2008 U.S.
Sales and Prescription Information. Top Therapeutic Classes by U.S. Sales.
http://www.imshealth.com/deployedfiles/imshealth/Global/Content/StaticFile/Top_Line_Data/2008_Top_Therapy_Classes_by_U.S._Sales.pdf. |
|
3 |
|
Figure derived from subtracting U.S. market from total
global market. Source: IMS Health Market Prognosis, March 2009. Total
Unaudited and Audited Global Pharmaceutical Market by Region.& Source: IMS
National Sales Perspectives. 2008 U.S. Sales and Prescription Information. |
|
4 |
|
World Health Organization. Counterfeit Medicine Fact
Sheet revised November 2006.
http://www.who.int/medicines/services/counterfeit/impact/ImpactF_S/en/index.html
Last accessed 6/10/09. |
|
5 |
|
Center for Medicines in the Public Interest. 21st
Century Healthcare Terrorism: The Perils of International Drug Counterfeiting.
September 20, 2005 by Peter Pitts, page 3. |
34
Our initial market focus has been on the pharmaceutical distribution industry. Until recently
the pharmaceutical industry has focused a significant amount of its attention on good manufacturing
practices (GMP).6 Various federal, state, and local government agencies have regulated
the manufacturing process of pharmaceuticals as well. While there has been focus on the
manufacturing side, we believe there remain opportunities for illegal and dangerous activities,
such as counterfeiting, diversions, adulterations, and dosage substitutions.
Industry efforts to combat counterfeiting pharmaceuticals include the use of scales to weigh
products, visual inspections, documentation of transfers, use of forensic laboratories, and tagging
products. We believe that each of these methods has limited success. State legislation, in form
of pedigree laws, has been adopted in a number of states; yet, the amount of counterfeiting
continues to increase.7 Forensic laboratories have the analytical capabilities to
verify pharmaceuticals, but take a significant amount of time to provide test results.8
The high volumes shipped through pharmaceutical distribution points require rapid testing.
Forensic testing at laboratories also requires destructive testing, where the product is removed
from its packaging and the contents are destroyed while being tested. Combating counterfeiting of
pharmaceuticals has become a major initiative for some manufacturing companies. These companies
each have dedicated personnel and departments to try and eliminate counterfeits. When harm comes
from counterfeits, not only are manufacturing companies affected, but distribution companies may be
held liable and some litigation has moved in that direction.
Therefore, we believe the entire pharmaceutical
supply chain has significant risk of negative consequences that could result from counterfeiting of
pharmaceuticals.
|
|
|
6 |
|
Food and Drug Administration (FDA). Facts About
Current Good Manufacturing Practices (cGMPs), last updated July 10, 2009.
http://www.fda.gov/Drugs/DevelopmentApprovalProcess/Manufacturing/ucm169105.htm;
FDA Recall Firm Press Release Barr Laboratories, Inc., Issues a
Voluntary Nationwide Recall of Dextroamphetamine /Amphetamine 20mg Tablets, Lot
Number 311756, August 13, 2009.
http://www.fda.gov/Safety/Recalls/ucm177321.htm; |
FDA Recall Firm Press Release Hi-Tech Pharmaceuticals, Inc., Issues
Nationwide Recall of All Lots of Stamina-Rx Dietary Supplement Products, June
15, 2009. http://www.fda.gov/Safety/Recalls/ucm167139.htm;
FDA Recall Firm Press Release AS Medications Solution LLC Announces a
Nationwide Recall of All Lots of Digoxin Tablets 0.25mg Due to Size
Variability, May 11, 2009.
http://www.fda.gov/Safety/Recalls/ArchiveRecalls/ucm150734.htm.
|
|
|
7 |
|
The American Counsel on Science and Health
Presents, Counterfeit Drugs: Coming to a Pharmacy Near You, January 2009; |
CSO Security and Risk, Case Study, Drug Busters: Tracking Down Counterfeiters,
November 1, 2005.
http://www.csoonline.com/article/220663/Drug_Busters_Tracking_Down_Counterfeiters
|
|
|
8 |
|
United States Pharmacopeia (USP) establishes
standards for manufacturing testing using analytical procedures. These tests
are reactive (created in relation to a specific problem observed with a
particular element) rather than a proactive screening overall). Recent
increase in substandard drugs due to adulterated raw materials has prompted
several updates to specific test of a material to include testing for that
specific adulteration. In 2009 alone, USP has updated or in the process of
updating the following guidelines: USP Propylene Glycol Identification Test,
Heparin Sodium Monograph Testing, and USP Sorbitol Solution identification
test. USP Propylene Glycol Identification Test United States Pharmacopeia
(USP) Draft of Propylene Glycol Proposed Method for Informal Public Comment due
August 14, 2009. FDA requested USP revise the monograph Since diethylene
glycol and ethylene glycol are considered unacceptable toxic substances and
Propylene Glycol has been identified as a material which is at risk for
diethylene glycol or ethylene glycol adulteration. Testing time is around 4 to
10 minute per test plus the preparation time . Heparin Sodium Monograph
Testing United States Pharmacopeia (USP) , Pharmacopeial Forum, Vol. 35(5)
[Sept.-Oct. 2009], INTERIM REVISION ANNOUNCEMENT for Heparin Sodium. U.S.
scientists proposed new standards for testing the blood-thinner heparin after
hundreds of deaths last year were linked to tainted Chinese ingredients. The
tests require destruction of the sample, multiple samples and or tests, and
some require either multiple tests of the sample (Nuclear Magnetic Resonance
Spectrum method) or multiple test samples at different dilutions (ANTI-FACTOR
Xa TO ANTI-FACTOR IIa RATIO Anti-factor Xa activity pH 8.4 buffer method
which requires 5 solutions dilutions) and lengthy testing times
(CHROMATOGRAPHIC IDENTITY Method which requires hours of testing). USP
Sorbitol Solution Identification Test United States Pharmacopeia (USP),
Sorbitol Solution Proposed Method for Informal Public Comment. Informal
comments are due on August 14, 2009. Because of the serious hazards associated
with the use of diethylene glycol-contaminated materials, and in response to
recommendations set forth by the FDA in communication with USP dated January
12, 2009, USP is proposing to revise the USP Sorbitol Solution identification
test. Test uses gas chromatography procedure. Sample preparation time would
be ›12 mins and testing time would be ›2-5 mins. |
35
Key Target Markets
Within the pharmaceutical distribution market, management believes we can most effectively add
value to our customers when serving pharmaceutical distributors, re-packagers, mail order
companies, government agencies, and return logistics companies.
We believe there are a multitude of sites worldwide that could potentially utilize our
technology. To date, we have focused on the U.S. segments of the market. Europe, Middle East,
Africa, and Southeast Asia are the primary expansion areas outside the U.S. that management
anticipates would be most effectively served by our products and services.
Beyond the pharmaceutical markets, we believe there is significant potential for our
technology and products. Both private entities, including cruise lines, transportation centers,
and amusement parks, as well as government agencies, including the military, are concerned with
explosive and nuclear threats. In the medical field, it is desirable to detect conditions such as
cancer and osteoporosis as early as possible. The veterinarian market could potentially utilize
our technology to monitor compound manufacturing products. In the mining industry field,
operations could use our technology to detect metals, minerals, and other materials of interest.
The chemical processing market has a wide variety of material inspection needs that could be met
with our technology. The cosmetics market has health risks from fraudulent products that could be
addressed by our solutions.
Business Strategy
Our business strategy is to become the primary source for technology, products, and services
for applications requiring material analysis of hidden objects. Managements intention is to brand
XStream Systems as the leading industry expert in molecular screening, providing trusted solutions
in counterfeit detection, explosive detection, and material verification and identification. We
believe our experience and innovative technology should allow us to solve some of the industries
most demanding problems.
We utilize a multi-pronged strategy to provide wide market exposure and capture early
adaptors. We have a direct sales force, with extensive pharmaceutical experience, concentrating on
early adaptors, market development, and large enterprise prospects. Meanwhile authorized sales
representatives promote sales to smaller local customers.
We believe technology spending will need to increase throughout the pharmaceutical
distribution chain to block the increasing threat of counterfeits. We believe no single competitor
is effectively meeting the counterfeit challenge. Management believes it is imperative to verify
the contents inside the package to truly authenticate the product.
Growth Strategy
We plan to grow organically and externally through the pursuit of strategic partnerships. We
have and continue to provide PILOT programs with larger corporations, which over time could develop
into significant growth opportunities as these corporations expand the PILOT program into other
locations within their organization. We also signed group purchasing and marketing agreements with
several major pharmaceutical purchasing organizations, including National Coalition of
Pharmaceutical Distributors (NCPD), Armada Health Care, and PDM Healthcare. These agreements
provide access to potential customers, market exposure for us on their web sites, and speaking
opportunities at conferences. See section below entitled Strategic Partners.
While past efforts have focused on the U.S. domestic markets, the non-U.S. markets represent a
large growth opportunity for XStream Systems. We anticipate using some of the funds raised through
this public offering to pursue non-U.S. opportunities.
Management believes that increased marketing efforts, including advertising, publications,
speaking opportunities, and attending conferences are critical for growth. We also believe that
increased networking through
36
association membership and participation is critical for our growth. We believe that these
increased marketing activities will lead to new customers for our products and services.
Management believes that our SPN may provide significant growth opportunities. The ability to
collect test results from multiple customers, process that data, and provide meaningful information
across the industry provides significant value to our customers. We believe that integrating SPN
into our customers inventory management systems provides additional value to our customers. Since
SPN is software based, revenues we anticipate to generate from SPN in the future are expected to
increase our profit margins.
Management believes that expansion into markets beyond the pharmaceutical industry should open
new opportunities for XStream Systems. We hope to scale our technology and develop products that
meet the varying needs of our customers. We expect to develop marketing processes and recruit
marketing professionals with pertinent industry expertise to maximize customer value.
Strategic Partners
We are partnering with a number of recognized companies and intend to develop applications for
our molecular screening technology in connection with these relationships. Our initial target
market has been the pharmaceutical distribution market, including major pharmaceutical
manufacturers, drug distributors and automated drug dispensing logistics (assembly line
efficiencies) companies. Some of these teaming relationships include the following:
Pfizer, a leading pharmaceutical manufacturer, is hosting our XT250TM
system, under a PILOT program arrangement.
AmerisourceBergen Corporation, a pharmaceutical wholesale distributor is
piloting our XT250TM systems in two separate locations, under a PILOT program
arrangement.
Swisslog Healthcare Solutions, a global provider of integrated logistics
solutions for warehouses, distribution centers and hospitals has executed a Letter of
Intent with us to jointly collaborate and investigate the development of customized
screening solutions.
Eastman Kodak, a corporation utilizing technology to combine imaging and
information, has agreed in a Letter of Intent to explore with us strategic opportunities
for joint design, development, cross-licensing, and co-marketing of security solutions.
We will attempt to leverage the respective strengths and leadership positions of our strategic
partners in the healthcare industry to gain a competitive foothold in our industry. We are
negotiating strategic partnerships with other pharmaceutical distributors, manufacturers and
logistic companies. We are directing our strategic joint venture efforts to produce applications
which require a combination of non-destructive penetrating capability with forensic analysis.
Sales and Marketing
In 2008 we created a new sales and marketing organization specializing in pharmaceutical
distribution. We believe that our pharmaceutical based website (www.securepharmachain.com),
anti-counterfeiting blog (www. securepharmachain.blogspot.com) and professional networking at major
pharmaceutical events have raised the level of awareness throughout the industry. Additionally, we
believe that we are viewed as an industry innovator in addressing pharmaceutical counterfeiting and
have received free publicity via television, major publications, and on-line articles.
Within the pharmaceutical distribution market, there are a number of submarkets that XStream
Systems is targeting. We market to pharmaceutical manufacturers, including brand, generic, and
contract manufacturers. We also market our products and services to pharmaceutical distributors,
including large international wholesalers, regional wholesalers, secondary distributors, specialty
distributors, and reverse logistics companies. There is a wide range of pharmaceutical dispensers
to which we market as well, including mail order pharmacies, central fill pharmacies, buying
37
group cooperatives, and warehousing groups. There are government regulatory agencies, such as
the Food and Drug Administration, Department of Homeland Security, and international ministries of
health to which we also market. Our Company is also engaging various non-government
organizations, such as the Family Health International.
Our Technology, Products and Solutions
We offer hardware and software products, services, expertise, and packaged solutions to our
customers. Utilizing our licensed patented technology, network expertise, material science
experience, and software knowledge base, management believes we offer unique end-to-end solutions
to companies of all sizes. Our solutions help protect supply inventories for the public, reduce
liability, and provide market differentiation for our customers.
Our initial hardware product is the XT250, based on Energy Dispersive X-Ray Diffraction
(EDXRD), a technology for detecting, identifying, and verifying materials. The XT250TM
product provides easy to use, rapid, on-site material identification and authentication. We own
worldwide exclusive licensing rights for all applications of this patented technology. For the
pharmaceutical market, the XT250TM verifies the contents of the product, even while
sealed in its packaging. The XT250TM product is currently our primary source of
revenue.
We also provide services, including library generation services and engineering consultation.
Standards for new materials of interest can be generated and then programmed into the hardware
products. Customized features can be developed and incorporated into our products. We also offer
sublicensing opportunities for specific applications.
Management believes that our SPN may provide significant growth opportunities. SPN is a
software product that allows customers to access via the Internet all of their systems purchased
from XStream Systems. Customers may remotely manage their systems, downloading new material
fingerprints or software updates, uploading results, and operating their systems remotely.
Detailed reports can be generated, as well as customized and aggregated reporting across multiple
systems. The ability to collect test results from multiple systems from our customers, process
that data, and provide meaningful information across the industry provides significant value to our
customers, which management believes can produce revenue in the future. We believe that
integrating SPN into our customers inventory management systems provides additional value to our
customers. To date, we have not generated revenue from SPN.
Our technology can scale to meet additional customer needs. Our goal is to develop a wide
range of products that operate rapidly to match customer demand, as well as scale to test any
sample size to meet customer requirements. Management also hopes to develop products that scale
down that are smaller, more portable, and more cost effective. Customer requirements will drive
the directions that our future products take.
Manufacturing
Our hardware products are manufactured by a U.S. contract manufacturer. This allows us to
scale as our demands change. It also allows us to leverage the purchasing power of a larger
organization. We place orders for hardware products with our contract manufacturer and those
products are shipped directly to our customer sites. We are currently
a defendant in a lawsuit with our manufacturer. For more information,
see Legal Proceedings and Risk Factors We
are currently a defendant in a lawsuit with the manufacturer of the
XT250TM
system, Kimball Electronics, Inc.
Our company provides all software products and services. The operating system and library of
materials are provided for each system. Customers can contract for customized configurations,
which are developed by our Company.
Field Service
Hardware and software support services are by provided by contracted field service companies.
Each authorized field service company is trained and certified by our Company. Each of our
customers has a designated field service representative that provides support services. Our
Company also provides an escalation process to support those field service companies.
38
Customers
Our target customers range in size from small, privately owned distributorships with estimated
revenues of less than $50,000,000 to large multinational distribution corporations with estimated
revenues of more than $10.0 billion. Management believes these organizations have a need for a
material identification and authentication system in order to protect their brands in the
marketplace and reduce risk and potential litigation should they distribute a counterfeit product.
A number of organizations set up PILOT programs before they commit to purchasing a larger
volume of our products. Multiple returns logistics groups, which specialize in handling the
complexities of returned pharmaceuticals have a PILOT program with our XT250TM for
screening returns of manufacturers products for counterfeit pharmaceuticals. A pharmaceutical
manufacturer has a PILOT program utilizing our XT250TM for quality control and has
already asked to expand the scope of the PILOT program. A distributor has an XT250TM
PILOT program for screening their inventory and has not only extended the PILOT program, but
requested expansion of the PILOT program into an additional site.
All our shipments to date have been to sites within the U.S. Management believes that
shipments outside the U.S. will represent a significant portion of sales in the future. We believe
non-U.S. shipments should begin in the first half of 2010.
Research and Development
We
spent $1,900,897 and $635,531 in research and development during the
fiscal years ended 2007 and 2008, respectively.
This included hardware and software development and enhancements of the XT250TM and SPN
products. These funds also were used in the development of a molecular library generation
laboratory. Multiple companies contributed pharmaceutical products to this facility to aid in the
research and development of molecular fingerprints.
Competition
We operate in an unusually competitive market. In many cases, our customers have
non-technical personnel operating in a warehouse environment. Counterfeit detection is sometimes
performed by weighing the product with a simple scale. Other times counterfeit detection is done
by track and trace methods, which tracks the transfers of the drugs, and on rare occasions by
visual inspection. Our research has shown that some counterfeit drugs have weighed the same as
valid drugs, some even come with falsified tracking documents, and many have passed visual
inspection. Track and trace methods, which include pedigree laws, radio frequency inventory
devices, bar codes, and taggants, have been deployed for a number of years and in some case
legislated for pharmaceuticals.
If there is a reason to suspect a drug is counterfeit, the sample may be shipped to a forensic
laboratory for analysis. Highly trained personnel typically open and destructively test the
suspect drug with one or more analytical instruments. Destructive testing is not a practical
solution for the industry. Management believes that our non-destructive technology combines the
high penetration of x-rays with molecular structural analysis. Our XT250TM product has
been successfully operated by non-technical personnel in warehouse type environments to provide
rapid, accurate, and easy to understand authentication of their drug inventories.
Regulation
In addition to federal, state, and local laws applicable to all corporations and employers in
general, each state has its own requirements and registration process for x-ray equipment. Our
organization is also governed by Food and Drug Administration, Drug Enforcement Agency,
Environmental Protection Agency, and Department of Homeland Security regulations for handling and
disposing of special materials. Our facility received a facility security clearance from the
Department of Defense. Our Company possesses Drug Enforcement Agency Researcher licenses for
Schedule I-V drugs. Our Company has received exemption letters for drug research purposes from the
Florida Department of Health. In addition, each country also has its own requirements for our type
of equipment, which our Company must abide by in order to ship into those countries.
39
The Federal Communications Commission (FCC), Underwriters Laboratories (UL), and Canadian
Standards Association (CSA) have certified that the XT250TM product meets safety,
health, environmental, and radiated emissions requirements. The costs for these certifications
were included in the research and development spending for 2007 and 2008. Management believes that
the XT250TM will be required to pass Restriction of Hazardous Substances (RoHS)
directives required by the European community before the XT250TM is allowed to ship into
those countries.
To date we have not incurred any costs associated with disposal of any hazardous materials.
We continue to make efforts to recycle all hazardous materials and management hopes to continue
this in the future. When and if disposal of hazardous materials is necessary, management
anticipates that disposal companies specializing in the materials will be hired.
Employees
As
of November 3, 2009, we had 12 full-time employees, eight of which are located at our
Sebastian, Florida corporate office. Two employees in our sales and marketing department are
located outside of Florida. We have five employees in management and five employees are in our
operations and engineering departments. None of our employees is covered by a collective
bargaining agreement. We believe we have a good relationship with our employees.
Property
Our operations are currently located at 10305 102nd Terrace, Suite 101, Sebastian, Florida
32958. We lease real property at this location, which is part of an industrial park, Liberty
Office Park. Our lease commenced in 2007 and expires in 2012. We lease approximately 8,000 square
feet, and currently utilize approximately 5,000 square feet. We share a 40,000 square foot
facility with two other companies. We believe our current office space provides more than adequate
space for our offices, engineering development area, demonstration area, and Drug Enforcement
Agency secured laboratory. We believe our current 8,000 square feet is adequate for our current
needs and provides expansion room for engineering to develop the next generation of systems. The
adjacent 10,000 square feet will allow for long term expansion if we need additional engineering
and operations space. We expect total rent expense to be approximately $107,000 under office
leases for 2009.
Intellectual Property
XStream Systems has worldwide, exclusive licensing rights to U.S. Patent #6118850 (granted
Sept. 12, 2000), Analysis Methods for Energy Dispersive X-Ray Diffraction Patterns pursuant to a
licensing agreement with Rutgers.
Under the terms of the License Agreement, the minimum royalty payment for 2008 of $300,000
became due January 31, 2009. In addition, certain other payments became payable in 2009 under the
License Agreement. We were unable to pay the required minimum royalty and have requested a
modification to the License Agreement. While Rutgers has the right to terminate the License
Agreement after certain notifications and cure periods have expired, Rutgers has indicated an
interest in modifying the License Agreement and continuing the licensing arrangement. Final terms
of the contract modifications are under review by Rutgers and will be presented to the Companys
Board of Directors for approval. The total amount due under the License Agreement as of June 30,
2009 was approximately $302,000.
We conduct business with trademarks of our XStream Systems logo, XT250TM Material
Identification System, SECUREPHARMACHAINTM, and Beyond PedigreeTM. At this
time, we have not applied for registration of these marks.
Legal Proceedings
Other than as set forth below, we are not a party to any pending legal proceeding nor is our
property the subject of a pending legal proceeding that is not in the ordinary course of business
or otherwise material to the financial condition of our business.
40
On or about September 16, 2008, Kimball International, Inc. and Kimball Electronics, Inc.
(Kimball) filed suit against us in U.S. District Court in Evansville, Indiana. Kimball filed
three claims against us including a claim alleging we defaulted on a $2,000,000 loan provided by
Kimball in favor of the Company, breach of a reserve capacity agreement and breach of a supplier
agreement. We asserted counterclaims against Kimball for conversion, breach of contract and
tortious interference with business relationship. On June 30, 2009, the District Court granted
partial judgment in favor of Kimball in the amount of $2,000,000 against us. On July 1, 2009,
Kimball and the Company reached an agreement in principle to settle the parties claims, the
specific details of which were to be memorialized in a final written settlement agreement. Under
the agreement in principle, we would pay Kimball $3,200,000, which includes approximately $780,000
for inventory in Kimballs possession, payable on the following schedule. We would make an initial
payment of $500,000, on August 15, 2009, followed by six monthly payments of $25,000, four monthly
payments of $50,000, followed by a final payment of $2,350,000 on June 15, 2010, provided, however,
that if we completed a public offering before June 15, 2010, the balance of the $3,200,000 judgment
would be due within 15 days of the closing. The settlement agreement was never finalized and none
of the payments have been made. The parties have filed competing motions with the court to enforce
their respective versions of the settlement terms. Additionally, Kimballs motion requests the
court to enter a separate judgment in their favor and against us in the principal sum of
$3,200,000. Should the litigation be settled according to these terms, we anticipate that a
portion of the proceeds of the offering will be utilized to pay the monies due to Kimball. We
intend to vigorously pursue the settlement which will include terms under which Kimball will
continue to supply XT250TM units and allocate a portion of the payments to be made by
the Company under the settlement agreement to the $780,000 in XT250TM inventory in
Kimballs possession. We do not believe that our ability to fill orders for inventory in a timely
manner will be harmed as there are a number of other manufacturers which have the capability to
produce the machines. If we are unable to settle this litigation in a timely manner, our results
of operations may be adversely affected.
We intend to vigorously pursue the settlement which will include terms under which Kimball
will continue to supply XT250TM units and allocate a portion of the payments to be made
by us under the settlement agreement to $780,000 in XT250TM inventory in Kimballs
possession.
41
MANAGEMENT
Directors and Executive Officers
The following table sets forth the names and ages of our directors and executive officers,
and their positions with us, as of November 9, 2009:
|
|
|
|
|
|
|
Name |
|
Age |
|
Position |
James J. Lowrey(1)
|
|
|
70 |
|
|
Chairman of the Board and Chief Executive Officer |
|
Joseph J. Melone(4)
|
|
|
78 |
|
|
Vice Chairman |
|
Brian T. Mayo
|
|
|
52 |
|
|
President and Chief Technology Officer |
|
Ash K. Chawla(7)
|
|
|
53 |
|
|
Director |
|
Anthony Chidoni(1)(2)(3)(8)
|
|
|
57 |
|
|
Director, Secretary, Chief Operating Officer |
|
Dennis H. Ferro(1)(5)
|
|
|
64 |
|
|
Director |
|
Simon Irish(5)
|
|
|
40 |
|
|
Director |
|
Robert E. Kennedy(2)(3)
|
|
|
67 |
|
|
Director |
|
Philip A. Odeen(2)
|
|
|
73 |
|
|
Director |
|
Dr. E. Darracott Vaughan,
Jr.(6)
|
|
|
70 |
|
|
Director |
|
Dr. Stuart L. Weinstein(6)
|
|
|
62 |
|
|
Director |
|
Christie C. Butler
|
|
|
46 |
|
|
Chief Financial Officer and Treasurer |
|
Alan Clock
|
|
|
46 |
|
|
Senior Vice President, Sales and Marketing |
|
|
|
(1) |
|
Member of our finance committee |
|
(2) |
|
Member of our audit committee |
|
(3) |
|
Member of our compensation committee |
|
(4) |
|
Member of our nominating and corporate governance committee |
|
(5) |
|
Member of our investor relations committee |
|
(6) |
|
Member of our medical advisory committee |
|
(7) |
|
Member of our global business development committee |
|
(8) |
|
Member of our executive committee |
The principal occupations for the past five years (and, in some instances, for prior years)
of each of our directors and executive officers are as follows:
James J. Lowrey, Chairman of the Board and Chief Executive Officer
Mr. James J. Lowrey has served as chairman of the board of directors and chief executive
officer since August 2009. Mr. Lowrey served as the co-chairman of the board from March 2009
through August 2009 and as chairman of the finance committee from March 2009 to October 2009. He
has been a significant investor in XStream since 2007. From 1964 to 1978, Mr. Lowrey was employed
with Salomon Brothers in New York, New York where he served as the partner-in-charge of banking,
sales and trading of government and corporate tax exempt securities, and as a general partner at
the time of his retirement in October 1978. During March 1979 he formed James J. Lowrey & Company,
Inc. a financial advisory firm to corporations, governments and governmental entities. In 1980,
Mr. Lowrey initiated the independent power industry through his formation of Catalyst Energy
(Catalyst). Mr. Lowrey was instrumental in leading Catalyst through a number of purchases of
developing projects and non-nuclear energy companies and served
42
Catalyst as its chairman of the board and its chief executive officer. Catalyst became a
public company in 1984, was listed on the New York Stock Exchange and later taken private in 1988.
Mr. Lowrey retired again in 1989. In 1993 he co-founded Navarro Lowrey, Inc. a Palm Beach County,
Florida based real estate development firm dealing in real estate in Colorado, Texas and Florida.
The firm is managed by Mr. Frank Navarro and Ms. Jessica Lee Lowrey, Mr. Lowreys daughter. Ms.
Lowrey earned her J.D./LL.M. and M.B.A. degrees from New York University and Columbia University,
respectively.
Joseph J. Melone, Vice-Chairman
Mr. Joseph J. Melone has served on our board of directors since August 2009 and as our
vice-chairman since October 2009. Mr. Melone has served as the chairman of our nominating and
corporate governance committee since October 2009. He is the former president and chief executive
officer of Equitable Companies, (now part of the AXA Group) and served in those positions from
February 1996 to September 1997. Additionally, he served as chairman and chief executive officer
of its principal insurance subsidiary, The Equitable Life Assurance Society of the United States
from September 1992 to July 1997. Mr. Melone joined The Equitable Life Assurance Society of the
United States in November, 1990 as president and chief operating officer and served in those
positions until September 1992. Prior to that, he had been president of The Prudential Insurance
Company of America from March 1984 to November 1990. Upon the formation of The Equitable Companies
in 1992, Mr. Melone was elected president and chief operating officer and served in those positions
until February 1996. Also, from September 1992 to July 1997, he served as chief executive officer
of Equitable Life, and two years later he was elected chairman. In February 1996, Mr. Melone was
named chief executive officer of The Equitable Companies and served in that position until July
1997. Mr. Melone co-authored the book Retirement Plans: 401(k)s, IRAs and Other Deferred
Compensation Approaches (Pension Planning) which is currently in its 10th edition of publication.
He is a former Huebner Foundation Fellow and was an Associate Professor of Insurance at The Wharton
School of the University of Pennsylvania. He also served as Research Director at The American
College before joining The Prudential. He is a Chartered Life Underwriter (CLU) and Chartered
Financial Consultant (ChFC) from The American College, as well as Chartered Property and Casualty
Underwriter (CPCU) from the American Institute of Chartered Property and Liability Underwriters.
Ash K. Chawla, Director
Mr. Ash Chawla has served on our board of directors since August 2009. Mr. Chawla has served
as the chairman of our global business development committee since October 2009. Mr. Chawla has
served as the founder and chief executive officer of PDM Healthcare, from 1991 to the present. PDM
Healthcare is a resource management company providing group purchasing, supply chain management and
delivery, business and clinical consulting, and educational services to healthcare facilities in
the U.S. Under his leadership, PDM Healthcare has maintained its position as a major buying
groups/supply chain management in the U.S. PDM Healthcare currently has business trading
relationships with over multiple pharmaceutical, medical surgical supply, and ancillary product
manufacturers that are listed in Fortune 1000. Additionally, from January 2004 to the present he
has served as the chairman and chief executive officer of Avani International, which specializes in
business development, product launches and marketing,
43
consulting, distribution, and global conferencing for the bio-technology, life sciences,
pharmaceutical, medical device, and cosmetic markets. Avani is instrumental in creating relations
and distribution channels between manufacturers abroad with customers in the U.S. as well as
introducing products from the U.S. to international markets, including India.
Anthony Chidoni, Director, Chief Operating Officer, and Secretary
Mr. Anthony Chidoni has served on our board of directors since April 2009. He commenced
service as a member of our audit committee, as chairman of our compensation committee and as our
corporate secretary in August 2009 and as our chief operating officer in October 2009. In
addition, since October 2009, he has served as chairman of our executive committee and as a member
of our finance committee. Mr. Chidoni has been the principal and owner of Lorelle Capital, a
private hedge fund, since January 2004. From January 1990 to January 2004, he was the Managing
Director of Private Client Business in the Los Angeles office of investment bank Credit Suisse
First Boston, and its predecessor Donaldson Lufkin & Jenrette, where he had served in various
positions for 21 years. Mr. Chidoni has served as a director of the public company Guess?, Inc.
since November 2002 for which he also currently serves as the chairman of the audit committee.
Dennis H. Ferro, Director
Mr. Dennis H. Ferro has served on our board of directors since August 2009 and as chairman of
our finance committee and co-chairman of our investor relations committee in October 2009. Mr.
Ferro was president and chief executive officer of Evergreen Investment Management Company from
September 2003 through December 2008. Mr. Ferro joined Evergreen Investments as its chief
investment officer in 1999. Mr. Ferro has also served as a director of New York Marine & General
Insurance Company and as chairman of their finance committee from March 2009 to the present. From
1999 through 2003 he also served as their chief investment officer. From 1994 through 1999, Mr.
Ferro was executive vice president of Zurich Investment Management Ltd and head of international
equity investments based in London. In 1995, Mr. Ferro was named as one of the top 100 mutual fund
portfolio managers by Barrons magazine. From 1991 through 1994, he was senior managing director
of CIGNA International Investments and also served as chief investment officer for all non-U.S.
investments. From 1988 through 1991, he served as the managing director for Asia for CIGNA
Corporation based in Tokyo, Japan. From 1985 through 1988, Mr. Ferro served as president and
managing director of Japan Bankers Trust Company Ltd based in Tokyo, Japan. From 1978 to 1985, he
served as a founding director, president and chief investment officer for Bankers Trust Company of
Florida. From 1970 to 1978, he served as vice president and portfolio manager of Bankers Trust
Company based in New York.
Simon Irish, Director
Mr. Simon Irish has served on our board of directors since August 2009 and as a co-chairman of
our investor relations committee in October 2009. Mr. Irish is the former head of Man Global
Strategies (MGS) in North America, an investment division of Man Group PLC where he provided
services from October 2002 through January 2009. Man Group PLC is an investment business
headquartered in the United Kingdom. At MGS, Mr. Irish established and grew a strategic investment
program in hedge funds, which he operated for over six years. From October 2001 through October
2002, he held the position of director of U.S. business with FRM (Research) LLC, New York and held
the position of senior vice president of FRM London from September 1999 through September 2001.
From October 1995 through April 1999, Mr. Irish was a vice president of Credit Suisse Financial
Products in London where he served as a quantitative analyst and as a trader in their Equity
Derivatives Structuring and Trading Group.
Robert E. Kennedy, Director
Mr. Robert E. Kennedy has served on our board of directors since April 2007 and as a member of
the Companys audit committee since May 2007. In addition, Mr. Kennedy has served as the
co-chairman of our audit committee since October 2009. Mr. Kennedy is a retired advertising
industry executive with 33 years of experience. At the time of his retirement, Mr. Kennedy was the
president and chief operating officer of Saatchi and Saatchi Advertising worldwide. Mr. Kennedy
directed all of the companys communications operations, notably the advertising subsidiaries and
marketing services groups. Mr. Kennedy was also a member of Saatchi and Saatchi, Incs board of
directors. Mr. Kennedy joined Dancer-Fitzgerald-Sample in 1961 and spent most of his career in
agency finances. He served as controller and became chief financial officer in 1980. When Saatchi
and Saatchi and DFS merged in 1987, Mr. Kennedy became its vice-chairman and chief financial
officer. Mr. Kennedy served on numerous industry committees during his working career. In
retirement he has been active in community organizations, most notably the VNA/Hospice of Vero
Beach, the Environmental Learning Center of Vero Beach and Habitat for Humanity.
44
Philip A. Odeen, Director
Mr. Philip A. Odeen has served on our board of directors since July 2008. He commenced
service as the chairman of our audit committee during August 2009. Mr. Odeen served as the
chairman of AES Corporation since January 2008 and as non-executive chairman of Convergys
Corporation since December 2007. He served as chairman of AVAYA from October 2006 to October 2007.
He was chairman and acting chief executive officer of the Reynolds and Reynolds Company from July
2004 to February 2005 at which time he became non-executive chairman serving in that role until
October 2006. He was also named chief executive officer of QinetiQ North America in October 2005
serving until June 2006. Previously, he had served as non-employee chairman and a director of TRW
Inc. from February 2002 until December 2002. From 1998 to 2002 he held various leadership
positions at TRW. Mr. Odeen joined TRW in 1997 when it acquired BDM International, Inc. where he
had served as president, chief executive officer and director since 1992. Previously, Mr. Odeen
was vice chairman, Management Consulting Services at Coopers & Lybrand after serving 13 years as
managing partner of the firms public sector practice. Mr. Odeen served as a director of Northrop
Grumman from May 2003 and May 2008. Mr. Odeen was appointed a member of the Defense Business Board
(DBB) in 2008.
Dr. E. Darracott Vaughan, Jr., Director
Dr. E. Darracott Vaughan, Jr. has served on our board of directors since August 2009 and as
co-chairman of our medical advisory committee in October 2009. Dr. Vaughan is a physician and
surgeon specializing in urology. Since 2001, he has served as the James J. Colt Professor,
Chairman Emeritus Weill Cornell University Medical Center in the Department of Urology. From 1993
through 2001, Dr. Vaughan served as the James J. Colt Professor of Urology, Chairman, at Cornell
University Medical Center. He is the executive vice dean and senior associate dean for Clinical
Affairs since 2005. Dr. Vaughan was president of the American Urological Association in 2001. Dr.
Vaughan is the recipient of numerous academic awards and honors which includes most recently the
2008 John Coleman Award, Department of Urology Weill Cornell University Medical Center. Dr.
Vaughans research interests include obstructive uropathy, prostaglandins, renal hemodynamics,
benign prostatic hyperplasia, hypertension and adrenal disorders. Dr. Vaughan has authored and
co-authored over 350 publications in the field of renal and urological medicine.
Stuart L. Weinstein, M.D., Director
Dr. Stuart L. Weinstein, has served on our board of directors since August 2009 and as
co-chairman of our medical advisory committee in October 2009. Dr. Weinstein is the Ignacio V.
Ponseti Chair and Professor of Orthopedic Surgery at The University of Iowa. He served as the
president of the American Orthopaedic Association from 1997 to 1998; the American Board of
Orthopaedic Surgery from 2000-2001 and The American Academy of Orthpaedic Surgeons from 2005-2006.
He is a National Institutes of Health funded researcher. He has published more than 180 scientific
articles in peer review journals on a wide variety of pediatric orthopaedic conditions. His
research work has focused on spinal deformity in children, childrens hip and foot problems, and
the natural history and long-term outcome of pediatric musculoskeletal conditions. He has edited
three major textbooks including The Pediatric Spine: Principles and Practice; Lovell
and Winters Pediatric Orthopaedics and Tureks Orthopaedics. He has served as an
Associate Editor and a member of the Board of Trustees of the Journal of Bone and Joint Surgery.
Dr. Weinstein currently serves as chairman of doctors for Medical Liability Reform (DMLR), a
Washington, DC based advocacy group, and chairman of the American Association of Orthopaedic
Surgeons Political Action Committee. After interning in Internal Medicine at The University of
California San Francisco, he returned to the University of Iowa for a residency in Orthopaedic
Surgery. In 1976 he joined the faculty of the Department of Orthopaedic Surgery at The University
of Iowa.
Executive Management
The following individuals serve as our executive officers.
Brian T. Mayo, President and Chief Technology Officer
Mr. Brian T. Mayo founded the Company in 2004. He is currently our
president. Since July 2009, Mr. Mayo has also served as our chief technology officer. He has
served as our chief executive officer from May 2004 to October 2007, as president from October 2007
to the present, and as our chief executive officer again from July 2008 to July 2009. Mr. Mayo was
chairman of the board of directors from May 2004 to
October 2007 and served as our director until November 2009. Mr. Mayo has 30 years experience
in the electronics industry. Mr. Mayo was instrumental in several startup ventures including:
Ardent Communications, which pioneered voice over the Internet and where he was the director of
engineering from January 1997 to August 1997; and Ingenuity Designs, a company specializing in
airport security solutions where he was founder, president and chief executive officer from
September 2001 to May 2004. During his career, he enjoyed technical and management success at the
following companies: Cisco Systems, where he was the director of engineering from August 1997 to
September 2001; Nortel Networks (formerly Bay Networks) where he was the engineering director from
July 1995 to January 1997; Ungermann-Bass Networks, where he was a corporate consulting engineer
from May 1993 to July 1995; Digital Equipment Corporation, where he was the engineering manager
from July 1987 to May 1993; Gould-Modicon, where he was program manager from April 1985 to July
1987; Teradyne, where he was hardware engineer from September 1978 to December 1980 and operations
manager from December 1980 to April 1985; and Texas Instruments, where he was hardware engineer
June 1977 to September 1977. Mr. Mayo has had involvement in the development of the communications
industrys first data network switch. Mr. Mayo has authored and co-authored a number of patents.
Christie C. Butler, Chief Financial Officer and Treasurer
Ms. Christie C. Butler, has served as our chief financial officer and treasurer since February
2008. Ms. Butler served as our secretary from May 2008 to August 2009. She previously served as
our controller from March 2007 until February 2008. Ms. Butler has over 18 years of financial
experience, including as vice president of finance with Fortune 250 companies KB Home from October
2004 through December 2006 and Pulte Homes from March 2001 through July 2004. She began her career
as a Certified Public Accountant (CPA) with Arthur Andersen and performed
45
financial statement
audits and handled taxation matters for both publicly traded and privately held entities from
August 1991 to February 1993. From February 1993 to April 1997, she was a senior tax manager with a
regional accounting firm Vestal & Wiler, CPAs, working with private companies. From April 1997 to
September 1999, Ms. Butler served as controller for a hedge fund and institutional money manager,
Atlantic Portfolio Analytics & Management. She later served as controller for a publicly traded
national defense contractor, ECC International Corp., from September 1999 to March 2001. Ms.
Butler has expertise in the areas of strategic analysis, budgeting, forecasting, cash management,
and risk management.
Alan Clock, Senior Vice President, Sales and Marketing
Mr. Alan Clock joined us in 2007. He currently serves as our senior vice president of sales
and marketing. Mr. Clock has 23 years experience in the healthcare and pharmaceuticals industry.
Mr. Clock has held senior level sales positions at: Active Health Management, an early pioneer in
evidenced based disease management programs where he was senior vice president of sales from July
2006 to August 2007; nuvado, LLC, a pharmaceutical software and consulting company where he was
executive vice president of business development and sales from July 2005 to July 2006; and
AmerisourceBergen, one of the worlds largest pharmaceutical services companies where he was the
corporate vice president of alternate care from November 1998 to July 2005. During his career, he
enjoyed sales, business development and management success at the following companies: McKesson,
where he was the vice president of national accounts from October 1995 to November 1998 and
Cardinal Health (formerly Whitmire Distribution/Amfac Healthcare) where he served and was promoted
through a variety of local, regional and national sales positions, eventually becoming corporate
director of Hospital Services from May 1987 to October 1995. Mr. Clock was instrumental in the
creation, development and success of the pharmaceutical distribution and service industrys first
alternate care vertical.
Other Key Employees
The following individuals are our key employees.
Patricia Ann Earl, Vice President of Business Development
Mrs. Patricia Ann Earl has served as our executive strategic consultant and vice president of
business development since May 2008. Mrs. Earl is a long time pharmaceutical industry veteran and
has been actively involved in the pharmaceutical wholesale distribution industry since joining
AmerisourceBergen Corporation (Bergen), one of the nations largest pharmaceutical services
companies serving the U.S., Canada and selected global markets in 1986. She held a variety of
executive management positions at Bergen including vice president general manager from February
1998 to December 2000 and corporate vice president of strategic development from January 2001 to
May 2005. While at Bergen, she directed the strategic and marketing initiatives for U.S. health
systems, the largest Pharmacy Benefit Management (PBM) organizations, and alternate care providers.
She played a significant role in the acquisition, strategic positioning, and implementation of the
companys pharmacy technologies, packaging and service offerings that enhanced medication safety in
the pharmaceutical supply chain. Mrs. Earl was one of the founding members and was elected the
co-chairman of the first Healthcare Distribution Management Association (HDMA) Collaborative
Commerce Committee that promoted the advancement of collaborative e-commerce business solutions
between the nations largest pharmaceutical distributors and manufacturers. HDMA is the national
association representing primary, full-service healthcare distributors and is the vital link in the
healthcare system, working to provide value, remove costs and develop innovative solutions. During
her tenure, the technological solutions investigated by the group and recommended to the industry
included various bar code track and trace technologies, radio-frequency identification devices
(RFID) in cooperation with the MIT Auto-ID center, and e-pedigree solutions that met the
requirements of Prescription Drug Marketing Act of 1987. From May 2005 until March 2008, she was
vice president institutional marketing at H.D. Smith. Prior to her career in pharmaceutical
distribution, Mrs. Earl had a successful career as an owner/principal, member of board of directors
and served as chief operating officer from April 1978 to December 1986 for TP Communications, a
privately-held corporation that acquired several broadcast radio stations. Subsequently those
stations were acquired by Clear Channel Broadcasting Network. As a board member and corporate
officer, she provided executive leadership, management oversight, and strategic direction to the
sales, operations and financial functional areas.
Paul J. Micciche, Vice President of Engineering
Mr. Paul J. Micciche has served in the position of vice-president of engineering from November
2004 to the present. Mr. Micciche has over 24 years of experience in the high technology industry.
Prior to his position at XStream
46
Systems he was principal member of Technical Staff at Lucent
Technologies from June 2000 through October 2004
where he managed development teams in the architecture, design, development and deployment of
high throughput multi-service IP edge router platforms. At Ascend Communications, from 1999 to
2000, Mr. Micciche served as technical manager where he oversaw the architecture, design and
development teams for high performance central processing units, internet physical layer cards and
high speed backplanes. Ascend Communications was acquired by Lucent Technologies for $22.0 billion
in 1999. From 1996 to 1999, Mr. Micciche served as an engineering manager for BayNetworks Inc. and
was responsible for the architecture and design for data compression cards, FPGA control units and
overall Ethernet router systems. BayNetworks was acquired by Nortel Networks in 1998 for over $9.0
billion. As a Senior Engineering at UB Networks from 1993 to 1996, Mr. Micciche was part of the
development team that architected and designed several products including one of the industrys
first Ethernet concentration platforms, ATM Universal Network Interfaces and desk top switch
products. Prior to these roles, Mr. Micciche worked for Draper Laboratories from 1985 to 1993 on
U.S. Navy related defense programs and held a secret security clearance.
Advisory Board
Our advisory board offers counsel to our management on an informal basis concerning
development of new technology, and strategic planning and partnering.
We do not have contractual
relationships with the members of our advisory board. Each member of our advisory board is
eligible to receive an annual grant of 2,500 share-based incentive awards for advisory service.
Dr. Mohammed Abuelkhair. Dr. Abuelkhair is the head of the pharma/medicine and medical
products regulation section health authority in Abu Dhabi and the head of the drug and medical
product department for the general authority of health services for the Emirates of Abu Dhabi.
Mark S. Butler. Mr. Butler is the former executive vice president, chief administrative
officer and general counsel to the public company Indevus Pharmaceuticals, Inc. which was acquired
in March 2009 by Endo Pharmaceuticals, Inc.
Dr. Ronald B. Gaeta. Dr. Gaeta is a veterinarian and a partner in Patterson Veterinary MRI an
equine exclusive imaging center located in Patterson, New York and an owner of Dunbarton Equine, a
three doctor equine exclusive sport horse medicine practice located in Brookfield, Connecticut.
Dr. Gaeta serves as the equine consultant to the Bronx Zoo.
Dr. William Hamilton. Dr. Hamilton is an orthopedic surgeon specializing in the foot and
ankle related medical conditions of athletes and performing artists including ballet dancers. He
has served as a clinical professor of orthopedic surgery at the College of Physicians & Surgeons,
at Columbia University from July 1995 to the present.
Dr. James D. Henry. Dr. Henry is a urologic surgeon and has served as the Chief of Urologic
Surgery at Good Samaritan Hospital and Saint Marys Hospital in West Palm Beach, Florida. Dr.
Henry is a co-founder of Jupiter Hospital in Jupiter, Florida.
John R. Kennedy. Mr. Kennedy is the former president and chief executive officer of Federal
Paper Board Company, Inc. He was employed with Federal Paper Board Company from 1952 in various
management positions until his retirement in April 1996. Mr. Kennedy is past chairman of
Georgetown University and is currently chairman emeritus. As past chairman for The East Hampton
Healthcare Foundation, Inc., Mr. Kennedy now serves as one of its trustees. He is also vice
chairman of the Indian River Memorial Hospital Foundation and a board member of the Riverside
Theater.
Board of Directors and Corporate Governance
Our board of directors is responsible for establishing broad corporate policies and for
overseeing our overall management. In addition to considering various matters which require board
approval, the board provides advice and counsel to, and ultimately monitors the performance of, our
senior management.
We established an Audit Committee and Compensation Committee in January 2005. In March 2009,
we established a Finance Committee. In October 2009, we established a Nominating and Corporate
Governance Committee. The charters for the Audit Committee, Compensation Committee and Nominating
and Corporate Governance Committee are available at our website, www.xstreamsystems.com. We
believe Messrs. Kennedy, Odeen, Chawla, Ferro, Irish, Vaughan, and Weinstein are independent
members of our board of directors, under NASDAQs
47
independence standards. The audit, compensation
and nominating and corporate governance committees are composed
of at least one of these independent members. In accordance with NASDAQ phase-in rules for
initial public offerings we anticipate that within one year of our expected listing on NASDAQ, each
of the directors on the committees will be determined by the board to be independent.
The board, its committees and our management strive to perform and fulfill their respective
duties and obligations in a responsible and ethical manner. We have adopted a Code of Ethics for
Senior Financial Officers that applies to our Chief Executive Officer, President, and Chief
Financial Officer, as well as a Chief Accounting Officer and Controller if we employ persons in
these positions in the future. In addition, we have adopted a Code of Conduct generally applicable
to all of our employees. Upon request, we will provide to any person without charge a copy of our
Code of Ethics or Code of Conduct. Any such request should be made to Christie C. Butler, Chief
Financial Officer, XStream Systems, Inc., 10305 102nd Terrace, Suite 101, Sebastian, FL 32958.
Committees of the Board
Audit Committee. The board has an Audit Committee comprised of three directors, Messrs.
Philip A. Odeen (Co-Chairman), Anthony Chidoni and Robert E. Kennedy (Co-Chairman). Each member of
the Audit Committee is independent as defined under NASDAQs listing standards, other than Mr.
Chidoni. The board of directors has determined that Mr. Kennedy and Mr. Chidoni each qualify as an
audit committee financial expert. The Audit Committee functions pursuant to a written charter,
under which the committee has such powers as may be assigned to it by the board from time to time.
The Audit Committee was established in January 2005. The Audit Committee is currently charged
with, among other things:
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discuss with management and our independent public accountants our annual audited
financial statements, quarterly financial statements, earnings press releases, and
financial information and earnings guidance provided to analysts and rating agencies,
if any; |
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discuss with management and our independent public accountants our major financial
risk exposures, the guidelines and policies by which risk assessment and management is
undertaken, and the steps management has taken to monitor and control risk exposure; |
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appoint, retain, compensate, evaluate, and terminate our independent public
accountants for the purpose of preparing or issuing an audit report or performing other
audit, review, or attest services for us and oversight of such work; |
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pre-approve, or adopt procedures to pre-approve, all audit, audit related, tax, and
other services permitted by law or applicable SEC regulations (including fee and cost
ranges) to be performed by our independent public accountants; |
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review, at least annually, the qualifications, performance, and independence of our
independent public accountants, including to ensure the rotation of the lead audit
partner at least every five years; |
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reviewing the integrity of our financial reporting process with our independent
auditors and with our management and internal auditor, if any; |
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review the effect of regulatory and accounting initiatives, as well as off-balance
sheet structures, on our financial statements; |
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review with our independent auditors any audit problems or difficulties encountered
and managements response thereto; |
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discuss the scope of the annual audit and review the form of the opinion the
independent auditor proposes to issue; |
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establish procedures for the receipt, retention, and treatment of complaints
received by us regarding accounting, internal accounting controls, or auditing matters
and the confidential, anonymous submission by our employees of concerns regarding
questionable accounting or auditing matters; |
48
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review and approve all related party transactions and review and make
recommendations to the board of directors, or approve, any contracts or other
transactions with our current or former executive officers, including consulting
arrangements, employment agreements, change-in-control agreements, termination
arrangements, and loans to employees made or guaranteed by us; and |
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review and reassess the adequacy of the Audit Committee Charter on an annual basis
and recommend any changes to the board of directors. |
Compensation Committee. The board has a Compensation Committee comprised of two directors,
Messrs. Anthony Chidoni (Chairman) and Robert E. Kennedy. Mr. Kennedy is independent as defined
under NASDAQs listing standards. The Compensation Committee functions pursuant to a written
charter, under which the committee has such powers as may be assigned to it by the board from time
to time. The Compensation Committee was established in January 2005. The Compensation Committee
is currently charged with, among other things, assisting the board in:
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|
review and recommend for approval by the independent directors of the board of
directors, the total compensation package of the chief executive officer and other
members of senior management and key employees for the upcoming year, at least on an
annual basis; |
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|
|
discuss performance evaluation of the chief executive officer and recommend approval
by the independent board of directors of bonus compensation and develop performance
goals for the chief executive officer and other members of senior management for
purposes of determining bonus compensation; |
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|
|
review market data to assess our competitive position for all components of
compensation for the chief executive officer and senior management to ensure we are
competitive with comparable public companies; |
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|
administer any plan, recommend to the board of directors the adoption of any
amendments to a plan or modifying or canceling any existing grants under such plans;
and review the sufficiency of the shares available for grant under the plans; |
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|
review and recommend director compensation, including cash payments, equity awards
and other benefits; |
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retain consultants of its selection to advise it with respect to our salary and
incentive compensation and benefits programs, and approve the consultants fees and
other retention terms; |
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|
review and reassess the adequacy of the Compensation Committee Charter annually and
recommend any proposed changes to the board of directors for approval; and |
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perform such other functions as necessary and appropriate under law, the rules of
NASDAQ (or other exchange or interdealer electronic quotation service which rules may
be applicable to us), our amended and restated certificate of incorporation or amended
and restated by-laws and the resolutions and other directives of the board of
directors. |
In general, the Compensation Committee formulates and recommends compensation policies for
board approval, oversees and implements these board-approved policies, and keeps the board apprised
of its activities on a regular basis. In addition, the Compensation Committee develops criteria to
assist the boards assessment of the Chief Executive Officers leadership of our Company.
Nominating and Corporate Governance Committee. The board has a Nominating and Corporate
Governance Committee comprised of two directors, Messrs. Robert E. Kennedy (Chairman) and Mr. James
J. Lowrey. Mr. Kennedy is independent as defined under NASDAQs listing standards. The Nominating
and Corporate Governance Committee functions pursuant to a written charter, under which the
committee has such powers as may be assigned to it by the board from time to time. The Nominating
and Corporate Governance Committee was established in October 2009. The Nominating and Corporate
Governance Committee is currently charged with, among other things, assisting the board in:
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selecting or recommending to the board for selection, the individuals to stand for
election as directors at the annual meeting of stockholders; |
49
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overseeing the selection and composition of committees of the board and, as
applicable, oversee management continuity planning processes; |
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identifying individuals believed to be qualified as candidates to serve on the board
and select, or recommend that the board select, the candidates for all directorships to
be filled by the board or by the stockholders at an annual or special meeting; |
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reviewing and making recommendations to the full board, or determine, whether
members of the board should stand for re-election and consider matters relating to the
retirement of board members, including term limits or age caps; |
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if applicable, in the case of a director nominated to fill a vacancy on the board
due to an increase in the size of the board, recommend to the board the class of
directors in which the director-nominee should serve; |
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conducting all necessary and appropriate inquiries into the backgrounds and
qualifications of possible candidates; |
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considering questions of independence and possible conflicts of interest of members
of the board and executive officers; |
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reviewing and making recommendations, as the committee deems appropriate, regarding
the composition and size of the board in order to ensure the board has the requisite
expertise and its membership consists of persons with sufficiently diverse and
independent backgrounds; and |
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|
overseeing the evaluation, at least annually, and as circumstances otherwise
dictate, of the board and management. |
Finance Committee. The board has a Finance Committee comprised of Messrs. Dennis H. Ferro
(Chairman) and James J. Lowrey. The Finance Committee does not have a written charter. The
Finance Committee was established in March 2009. This committee is currently charged with, among
other things, assisting the board in:
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formulation of policies relating to the our cash flow, cash management and working
capital, stockholder dividends and distributions, share repurchases and investments; |
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adjustments to our capital structure; |
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capital and debt issuances; |
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financial strategies; |
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working capital and cash flow management; |
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policies for managing interest rate and investment risk; |
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the financial aspects of insurance and risk management; |
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tax planning and compliance; |
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proposed mergers, acquisitions, divestitures and strategic investments; and |
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other transactions or financial issues that management desires to have reviewed by
the Finance Committee. |
Additionally, the finance committee reports periodically to the full board on our insurance
and risk management programs.
50
The board of directors has additional standing committees including the executive committee,
the investor relations committee, the medical advisory committee and the global business
development committee.
Director Compensation for the Year Ended December 31, 2008
All
directors are entitled to receive compensation for their services. In
February 2008, a resolution was passed by the Compensation Committee granting directors the
following annual compensation package:
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Grant of stock options to purchase 7,500 shares of our common stock pursuant to our
Amended and Restated 2004 Stock Option Plan; and |
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Grant of stock options to purchase 1,875 shares of our common stock for committee
service. |
The following table summarizes the compensation of each member of our board of directors in
2008.
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|
|
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|
|
|
|
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|
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|
|
Fees Earned or |
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|
|
|
|
Option |
|
All Other |
|
|
|
|
|
|
|
|
Paid in Cash |
|
Stock Awards |
|
Awards |
|
Compensation |
|
Total |
Name(1) |
|
|
Year |
|
($) |
|
($) |
|
($)(2) |
|
($) |
|
($) |
|
James J. Lowrey Chairman(3) |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
342,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
30,438 |
|
|
|
|
|
|
$ |
30,438 |
|
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|
|
|
|
|
|
|
|
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|
|
|
|
|
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|
Robert E. Kennedy(4) |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
11,250 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
4,149 |
|
|
|
|
|
|
$ |
4,149 |
|
Philip A. Odeen(5) |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
3,280 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1,210 |
|
|
|
|
|
|
$ |
1,210 |
|
|
|
|
(1) |
|
Brian T. Mayo, our president and chief technology officer, is a
named executive officer and did not receive any compensation during the fiscal
year ended December 31, 2008 for serving on our board of directors. |
|
(2) |
|
The determination of value of option awards is based upon the Black-Scholes
Option pricing model the details and assumptions of which are set out in our
financial statements included in this prospectus. The amount reported above is
the dollar amount recognized for financial statement reporting purposes with
respect to the fiscal year in accordance with FAS 123R. The amounts represent
annual amortization of fair value of stock options granted to the named director. |
|
(3) |
|
As of December 31, 2008, Mr. Lowrey held an aggregate of 413,316 option
awards. |
|
(4) |
|
As of December 31, 2008, Mr. Kennedy held an aggregate of 13,500 option
awards. |
|
(5) |
|
As of December 31, 2008, Mr. Odeen held an aggregate of 3,280 option awards. |
|
(6) |
|
The directors Messrs. Chidoni, Chawla, Irish, Ferro, Melone, and Drs. Vaughan
and Weinstein commenced service on our board of directors during August 2009 and
are therefore not included in the table. |
51
Executive Compensation
The following table sets forth information concerning the annual and long-term compensation
of our Chief Executive Officer and the other named executive officers, for services as executive
officers for the last two fiscal years.
Summary Compensation Table
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock |
|
|
|
|
|
Other |
|
|
Name and Principal |
|
Fiscal |
|
Salary |
|
Bonus |
|
Awards |
|
Option Award(s) |
|
Compensation |
|
Total |
Position |
|
Year |
|
($) |
|
($) |
|
($) |
|
($)(8) |
|
($) |
|
($) |
|
|
James J. Lowrey(1) |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Chairman of the Board and Chief
Executive Officer |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Brian T. Mayo (2)(3) |
|
|
2008 |
|
|
$ |
221,546 |
|
|
|
|
|
|
|
|
|
|
$ |
32,354 |
(2) |
|
$ |
120 |
(7) |
|
|
|
|
|
President and Chief Technology
Officer |
|
|
2007 |
|
|
$ |
119,209 |
|
|
|
|
|
|
|
|
|
|
$ |
41,890 |
(3) |
|
$ |
120 |
(7) |
|
|
|
|
|
Christie C. Butler (4)(5) |
|
|
2008 |
|
|
$ |
84,749 |
|
|
|
|
|
|
|
|
|
|
$ |
3,984 |
(4) |
|
$ |
120 |
(7) |
|
|
|
|
|
Chief Financial Officer |
|
|
2007 |
|
|
$ |
61,398 |
|
|
|
|
|
|
|
|
|
|
$ |
2,450 |
(5) |
|
$ |
120 |
(7) |
|
|
|
|
|
Alan D. Clock (6) |
|
|
2008 |
|
|
$ |
168,009 |
|
|
|
|
|
|
|
|
|
|
$ |
2,071 |
(6) |
|
$ |
120 |
(7) |
|
|
|
|
|
Senior Vice President of Sales and
Marketing |
|
|
2007 |
|
|
$ |
34,006 |
|
|
|
|
|
|
|
|
|
|
$ |
8,918 |
(6) |
|
$ |
120 |
(7) |
|
|
|
|
|
|
|
(1) |
|
Mr. Lowrey was appointed chief executive officer in August 2009 and did not receive any compensation as our
executive officer during the fiscal years ended December 31, 2007 and December 31, 2008. |
|
(2) |
|
Includes an incentive stock option granted on February 7, 2008 for 3,500 shares of common stock at an
exercise price of $0.69 per share, as a merit award in exchange for services rendered; an incentive stock
option granted on March 12, 2008, for 45,115 shares of common stock at an exercise price of $0.69, as
additional compensation to defer a portion of his salary of $112,789; an incentive stock option granted on
March 31, 2008 for 13,730 shares of common stock at an exercise price of $0.69 per share, as additional
compensation to defer a portion of his salary of $34,327; and an incentive stock option granted on June 30,
2008, for 7,846 shares of common stock, on September 30, 2008 for 17,653 shares of common stock, and on
December 31, 2008, for 11,769 shares of common stock, all at an exercise price of $0.69, as additional
compensation to defer a portion of his salary in the aggregate amount of $93,173. |
|
(3) |
|
Includes a non-qualified stock option granted on January 30, 2007 for 18,859 shares of common stock at an
exercise price of $3.80 per share, as additional compensation to defer a portion of his salary of $94,295;
a non-qualified stock option granted on March 4, 2007 for 2 shares of common stock at an exercise price of
$4.18; an incentive stock option granted on April 4, 2007, for 5,000 shares of common stock at an exercise
price of $4.18, as a merit award in exchange for services rendered; an incentive stock option granted on
June 14, 2007 for 1,000 shares of common stock at an exercise price of $4.18 per share, as a merit award in
exchange for services rendered; a non-qualified stock option granted on June 8, 2007 for 40,000 shares of
common stock at an exercise price of $4.18 per share, in exchange for deferred salary of $100,000. |
|
(4) |
|
Includes grants on each of February 1 and February 7, 2008 consisting of 26,750 and 1,300 non-qualified
stock options, exercisable at $0.69, in connection with her employment as the Chief Financial Officer and a
merit bonus, respectively. |
|
(5) |
|
Includes grants on each of March 26 and December 12, 2007 consisting of 3,000 and 700 non-qualified stock
options, exercisable at $3.80 in connection with her employment with us as Controller and a merit bonus,
respectively. |
|
(6) |
|
Includes an incentive stock option granted on October 8, 2007 for 16,000 shares of common stock at an
exercise price of $3.80 per share in connection with his employment with us as Senior Vice President of
Sales and Marketing. |
|
(7) |
|
This amount includes a premium payment of $120 for a life insurance policy with payable benefits of $25,000. |
|
(8) |
|
The amounts in this column reflect the amounts we recorded under SFAS No. 123(R) as stock-based
compensation in our financial statements for the applicable year in connection with options we granted in
that year and in prior years, adjusted to disregard the effects of any estimate of forfeitures related to
service-based vesting but assuming, instead, that the executive will perform the requisite service for the
award to vest in full. The assumptions we used in valuing options are described under the caption
Stock-Based Compensation in Note 7 to our financial statements included in this prospectus. |
52
Employment and Severance Agreements
We have entered into the agreements set forth below with the following executive officers Mr.
Brian T. Mayo, Ms. Christie C. Butler and key employee Mr. Paul J. Micciche.
Brian T. Mayo Employment Agreement
We entered into an employment agreement with Mr. Mayo on November 1, 2006 whereby Mr. Mayo
agreed to serve as our president and chief executive officer. The agreement terms provide for
automatic annual renewal. Under the terms of the agreement Mr. Mayos base annual salary is $255,000, and he is entitled to receive an annual performance bonus in accordance with
our annual bonus program. The base salary is reviewed each year by the board and it may in its
discretion elect to increase the base salary at any time. Subject to certain conditions, Mr. Mayo
is entitled to receive certain benefits under the agreement including health insurance, disability
insurance, life insurance and paid vacation of not less than four weeks per year. The terms of the
agreement additionally provide that we will maintain a directors and officers liability insurance
policy covering Mr. Mayo in an amount of no less than $1,000,000. If Mr. Mayos employment is
terminated by us without cause or by Mr. Mayo for good reason, Mr. Mayo will be entitled to receive
a severance payment equal to all of the base salary, annual bonus, stock options, business expenses
and benefits which are due, have accrued, or will otherwise become due or accrue through the end of
the term of the agreement, or six months, whichever is the greater amount of time. If Mr. Mayos
employment is terminated by Mr. Mayo without good reason, Mr. Mayo will be entitled to receive a
severance payment of all base salary, annual bonus (if already awarded), stock options, business
expenses and benefits which are due and accrued through the date of termination. If Mr. Mayos
employment is terminated by us for cause, Mr. Mayo will be entitled to receive a severance payment
of all base salary, annual bonus (if already awarded), stock options, business expenses and
benefits which are due and accrued through the effective date of termination. If Mr. Mayos
employment is terminated by Mr. Mayo by reason of Mr. Mayos death, his estate shall be entitled to
receive all base salary, annual bonus (if already awarded), stock options, business expenses and
benefits which are due and accrued through the date of death.
In the event of Mr. Mayos termination upon a change of control as defined in the agreement,
subject to certain conditions, he will be entitled to receive all base salary, annual bonus (if
already awarded), stock options, business expenses and benefits which are due or otherwise become
due or accrue for a period of six months. Prior to the effective date of the change of control,
25% of the stock options granted to Mr. Mayo will vest and be exercisable by Mr. Mayo for a period
of one year following the effective date of termination of his employment.
The agreement provides that Mr. Mayo is not permitted during the term and for 12 months after
the effective date of the expiration or termination of the term of the agreement, to solicit any
employees, agents and other business contacts of ours to terminate or modify their relationship
with or compete against us or conduct business activities in competition with us.
The agreement provides that the results of Mr. Mayos employment under the agreement,
including any works of authorship resulting from the performance of his duties during his
employment with us and any works in progress are works-made-for-hire for the benefit of us and we
are the sole owner of the work.
During October 2009, we entered into a verbal agreement with Mr. Mayo to temporarily reduce
his salary to $127,500. We anticipate entering into an amended agreement with Mr. Mayo to
memorialize the change in terms.
Christie C. Butler Employment Agreement
We entered into an employment agreement with Ms. Butler effective August 15, 2009 whereby Ms.
Butler agreed to serve as our chief financial officer. The agreement terms provide for automatic
annual renewal, unless either party notifies the other not later than 90 days prior to the then
expiration date that such party does not intend for the employment period to automatically extend.
Under the terms of the agreement, Ms. Butlers base annual salary is currently $140,000, and she is
entitled to receive an annual performance bonus in accordance with our annual bonus program. The
base salary is reviewed each year by the board and it may in its discretion elect to increase the
base salary at any time. Subject to certain conditions, Ms. Butler is entitled to receive certain
benefits under the agreement including health insurance, disability insurance, life insurance and
paid vacation of not less than three weeks per year. The terms of the agreement additionally
provide that we will maintain a directors and officers liability insurance policy covering Ms.
Butler in an amount of no less than $1,000,000 dollars.
53
If Ms. Butlers employment is terminated by us without cause or by Ms. Butler for good reason,
Ms. Butler will be entitled to receive a severance payment equal to all of the base salary, annual
bonus, stock options, business expenses and benefits which are due, have accrued, or will otherwise
become due or accrue through the end of the term of the agreement, or six months, whichever is the
greater amount of time. Ms. Butlers employment may be terminated by Ms. Butler without good
reason upon at least 60 days prior written notice to us. Upon such termination by Ms. Butler,
Ms. Butler will be entitled to receive a severance payment of all base salary, annual bonus (if
already awarded), stock options, business expenses and benefits which are due and accrued through
the date of termination. We may terminate Ms. Butlers employment at any time for cause. Upon
such termination by us, Ms. Butler will be entitled to receive a severance payment of all base
salary, annual bonus (if already awarded), stock options, business expenses and benefits which are
due and accrued through the effective date of termination. If Ms. Butlers employment is
terminated by Ms. Butler by reason of her death, her estate shall be entitled to receive all base
salary, annual bonus (based on the assumption that all criteria for such annual bonus were
achieved), stock options, business expenses and benefits which are due and accrued through the date
of death. In the event of Ms. Butlers termination upon a change of control as defined in the
agreement, subject to certain conditions, she will be entitled to receive all base salary, annual
bonus (if already awarded), stock options, business expenses and benefits which are due or
otherwise become due or accrue for a period of six months.
The agreement provides that Ms. Butler is not permitted during the term and for 12 months
after the effective date of the expiration or termination of the term of the agreement, to solicit
any employees, agents and other business contacts of ours to terminate or modify their relationship
with or compete against us or conduct business activities in competition with us.
The agreement provides that the results of Ms. Butlers employment under the agreement,
including any works of authorship resulting from the performance of her duties during her
employment with us and any works in progress are works-made-for-hire for the benefit of us and we
are the sole owner of the work. The agreement also provides that we will indemnify and hold
harmless Ms. Butler in the event she is made a party, or is threatened to be made a party, to any
action, suit or proceeding, by reason of the fact that she is an officer or employee of ours to the
fullest extent legally permitted by our certificate of incorporation, by-laws, or resolutions of the
board or if greater, by the laws of the State of Florida.
During October 2009, we entered into a verbal agreement with Ms. Butler to temporarily reduce
her salary to $70,000 per year. We anticipate entering into an amended agreement with Ms. Butler
to memorialize the change in terms.
Paul J. Micciche Employment Agreement
We entered into an employment agreement with Mr. Micciche on November 1, 2006 whereby Mr.
Micciche agreed to serve as our vice president of engineering. The agreement terms provide for
automatic annual renewal. Under the terms of the agreement Mr. Micciches base annual salary is
currently $125,640, and he is entitled to receive an annual performance bonus in accordance with
our annual bonus program. The base salary is reviewed each year by the board and it may in its
discretion elect to increase the base salary at any time. Subject to certain conditions, Mr.
Micciche is entitled to receive certain benefits under the agreement including health insurance,
disability insurance, life insurance and paid vacation of not less than four weeks per year. If
Mr. Micciches employment is terminated by us without cause or by Mr. Micciche for good reason, Mr.
Micciche will be entitled to receive a severance payment equal to all of the base salary, annual
bonus, stock options, business expenses and benefits which are due, have accrued, or will otherwise
become due or accrue through the end of the term of the agreement, or six months, whichever is the
greater amount of time. If Mr. Micciches employment is terminated by Mr. Micciche without good
reason, he will be entitled to receive a severance payment of all base salary, annual bonus (if
already awarded), stock options, business expenses and benefits which are due and accrued through
the date of termination. If Mr. Micciches employment is terminated by us for cause, Mr. Micciche
will be entitled to receive a severance payment of all base salary, annual bonus (if already
awarded), stock options, business expenses and benefits which are due and accrued through the
effective date of termination. If Mr. Micciches employment is terminated by Mr. Micciche by
reason of Mr. Micciches death, his estate shall be entitled to receive all base salary, annual
bonus (if already awarded), stock options, business expenses and benefits which are due and accrued
through the date of death.
In the event of Mr. Micciches termination upon a change of control as defined in the
agreement and subject to certain conditions, he will be entitled to receive all base salary, annual
bonus (if already awarded), stock options, business expenses and benefits which are due or
otherwise become due or accrue for a period of six months. Prior to
54
the effective date of the change of control, 25% of the stock options granted to Mr. Micciche
will vest and be exercisable by Mr. Micciche for a period of one year following the effective date
of termination of his employment.
The agreement provides that Mr. Micciche is not permitted during the term and for 12 months
after the effective date of the expiration or termination of the term of the agreement, to solicit
any employees, agents and other business contacts of ours to terminate or modify their relationship
with or compete against us or conduct business activities in competition with us.
The agreement provides that the results of Mr. Micciches employment under the agreement,
including any works of authorship resulting from the performance of his duties during his
employment with us and any works in progress are works-made-for-hire for the benefit of us and we
are the sole owner of the work.
55
Outstanding Equity Awards at 2008 Fiscal Year End
The following table lists all outstanding equity awards held by our named executive officers
as of December 31, 2008.
|
|
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|
|
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|
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|
|
|
|
|
|
|
|
|
|
|
|
Equity Incentive |
|
|
|
|
|
|
Number of |
|
Plan Awards: |
|
|
|
|
|
|
Securities |
|
Number of |
|
|
|
|
|
|
Underlying |
|
Securities |
|
|
|
|
|
|
Unexercised |
|
Underlying |
|
|
|
|
|
|
Options |
|
Unexercised |
|
Exercise |
|
Option |
Name |
|
Exercisable(1) |
|
Unearned Options(1) |
|
Price Option |
|
Expiration Date |
James J. Lowrey |
|
|
26,316 |
|
|
|
0 |
|
|
$ |
3.80 |
|
|
|
7/14/2016 |
|
|
|
|
45,000 |
|
|
|
0 |
|
|
$ |
3.80 |
|
|
|
5/1/2017 |
|
|
|
|
342,000 |
|
|
|
0 |
|
|
$ |
3.00 |
|
|
|
8/14/2018 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Brian T. Mayo |
|
|
60,000 |
|
|
|
0 |
|
|
$ |
0.11 |
|
|
|
5/26/2009 |
|
|
|
|
5,000 |
|
|
|
0 |
|
|
$ |
0.11 |
|
|
|
5/26/2009 |
|
|
|
|
350 |
|
|
|
0 |
|
|
$ |
2.57 |
|
|
|
4/26/2010 |
|
|
|
|
1 |
|
|
|
0 |
|
|
$ |
2.57 |
|
|
|
3/3/2011 |
|
|
|
|
18,824 |
|
|
|
0 |
|
|
$ |
2.34 |
|
|
|
4/22/2016 |
|
|
|
|
4,218 |
|
|
|
3,282 |
|
|
$ |
2.57 |
|
|
|
9/7/2011 |
|
|
|
|
18,859 |
|
|
|
0 |
|
|
$ |
3.80 |
|
|
|
1/30/2017 |
|
|
|
|
2 |
|
|
|
0 |
|
|
$ |
4.18 |
|
|
|
3/3/2012 |
|
|
|
|
2,083 |
|
|
|
2,917 |
|
|
$ |
4.18 |
|
|
|
4/3/2012 |
|
|
|
|
18,912 |
|
|
|
0 |
|
|
$ |
4.18 |
|
|
|
6/7/2012 |
|
|
|
|
21,088 |
|
|
|
0 |
|
|
$ |
4.18 |
|
|
|
6/7/2012 |
|
|
|
|
1,000 |
|
|
|
0 |
|
|
$ |
4.18 |
|
|
|
6/13/2012 |
|
|
|
|
0 |
|
|
|
3,500 |
(2) |
|
$ |
0.69 |
|
|
|
2/7/2018 |
|
|
|
|
45,115 |
|
|
|
0 |
|
|
$ |
0.69 |
|
|
|
3/12/2018 |
|
|
|
|
13,730 |
|
|
|
0 |
|
|
$ |
0.69 |
|
|
|
3/31/2018 |
|
|
|
|
7,846 |
|
|
|
0 |
|
|
$ |
0.69 |
|
|
|
6/30/2018 |
|
|
|
|
17,653 |
|
|
|
0 |
|
|
$ |
0.69 |
|
|
|
9/30/2018 |
|
|
|
|
11,769 |
|
|
|
0 |
|
|
$ |
0.69 |
|
|
|
12/31/2018 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Christie C. Butler |
|
|
1,312 |
|
|
|
1,688 |
|
|
$ |
3.80 |
|
|
|
3/25/2017 |
|
|
|
|
700 |
|
|
|
0 |
|
|
$ |
3.80 |
|
|
|
12/11/2017 |
|
|
|
|
0 |
|
|
|
26,750 |
(3) |
|
$ |
0.69 |
|
|
|
2/1/2018 |
|
|
|
|
0 |
|
|
|
1,300 |
(4) |
|
$ |
0.69 |
|
|
|
2/7/2018 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Alan Clock |
|
|
4,666 |
|
|
|
11,334 |
|
|
$ |
3.80 |
|
|
|
10/7/2017 |
|
|
|
|
(1) |
|
Except as noted above, all un-exercisable options vest in the following manner: 25% on the first anniversary of the grant date and
monthly thereafter at the rate of 1/36 per month on the monthly anniversary of the grant date for a period of three years. |
|
(2) |
|
875 options vest on February 7, 2009, with the remaining options vesting in equal monthly increments thereafter for a period of 36 months. |
|
(3) |
|
6,687 options vest on February 1, 2009, with the remaining options vesting in equal monthly increments thereafter for a period of 36
months. |
|
(4) |
|
325 options vest on February 7, 2009, with the remaining options vesting in equal monthly increments thereafter for a period of 36 months. |
56
2004 Stock Option Plan
On May 27, 2004, our board of directors and sole stockholder as of that date adopted a stock
option plan (the 2004 Stock Option Plan). Pursuant to this plan, which expires on May 27, 2014,
incentive stock options or non-qualified options to purchase an aggregate of 2,600,000 shares of
common stock may be issued, as adjusted. The plan may be administered by our board of directors
or by a committee to which administration of the plan, or part of the plan, may be delegated by
our board of directors. Options granted under this plan are not generally transferable by the
optionee except by the optionees will or by the laws of descent and distribution or to optionees
Immediate Family (as defined hereafter) or a trust for the benefit of optionees Immediate Family.
Immediate Family as used in the 2004 Stock Option Plan means spouse, lineal descendant or
antecedent, father, mother, brother or sister. In such case, the transferee or other recipient
will receive and hold the option so transferred subject to the provisions of the 2004 Stock Option
Plan and the respective optionees option agreement, except that the permitted transferee of the
option will not be subject to the requirement of the original optionee to provide services to us.
All options granted under the 2004 Stock Option Plan become exercisable at such times and in such
installments (which may be cumulative) as the committee shall provide in the terms of each
individual option agreement. All vested options and options that have become exercisable from
time to time may be exercised in whole or in part in accordance with the terms of the applicable
option agreement; provided, however, that the committee shall be authorized to require that any
partial exercise be with respect to a minimum number of shares of common stock. Subject to the
provision for permitted transferees of the options, to the extent that options are vested, they
must be exercised within a maximum of three months of the end of the optionees status as an
employee, director or consultant, or within a maximum of 12 months after such optionees
termination or by death or disability, but in no event later than the expiration of the option
term. The exercise price of all stock options granted under the plan will be determined by our
board of directors or designated committee. No options may be granted under the 2004 Stock Option
Plan after March 1, 2014, but options granted on or before that date may be exercised according to
the terms of their respective option agreements and shall continue to be governed by and
interpreted consistent with the terms of the 2004 Stock Option Plan. To date, we have 1,977,274
options outstanding under the Plan.
2009
Long Term Incentive Compensation Plan
On August 14, 2009, our board of directors adopted a stock incentive plan (the 2009 Incentive
Compensation Plan or 2009 Plan). Pursuant to this plan, incentive stock options, non-qualified
options, restricted stock awards, deferred stock awards, bonus stock and awards in lieu of
obligations, dividends equivalents, performance awards and other stock based awards to purchase an
aggregate of 5,000,000 shares of common stock may be issued, as adjusted. The 2009 Plan will be
administered by a committee designated by the board of directors to administer the 2009 Plan except
to the extent that our board of directors elects to administer the plan, in which case the 2009
Plan shall be administered by only those members of the board of directors who are independent
members of the board.
The
2009 Incentive Compensation Plan became effective upon the approval by the board of
directors and by our stockholders eligible to vote in the election of directors, by a vote
sufficient to meet the requirements of Code Sections 162(m) (if applicable) and 422, Rule 16b-3
under the Exchange Act of 1934, as amended (Exchange Act) (if applicable), applicable
requirements under the rules of any stock exchange or automated quotation system on which the
shares may be listed or quoted, and other laws, regulations, and obligations of the Company
applicable to the plan, and the subsequent approval by any other securityholders of the Company
which may be required to approve the plan. The 2009 Incentive Compensation Plan will terminate at the earliest of (i) such time as
no shares remain available for issuance under the plan, (ii) termination of the plan by the board
of directors, or (iii) the tenth anniversary of the Stockholder Approval Date. Awards outstanding
upon expiration of the 2009 Plan shall remain in effect until they have been exercised or
terminated, or have expired.
No award or other right or interest granted under the 2009 Plan may be pledged, hypothecated
or otherwise encumbered or subject to any lien, obligation or liability of such participant to any
party, or assigned or transferred by such participant otherwise than by will or the laws of descent
and distribution or to a beneficiary upon the death of a participant, and such awards or rights
that may be exercisable shall be exercised during the lifetime of the participant only by the
participant or his or her guardian or legal representative, except that awards and other rights may
be transferred to one or more beneficiaries or other transferees during the lifetime of the
participant, and may be exercised by such transferees in accordance with the terms of the award,
but only if and to the extent such transfers are permitted by the committee pursuant to the express
terms of an award agreement (subject to any terms and conditions which the committee may impose
thereon). A beneficiary, transferee, or other person claiming any rights under the 2009 Plan
57
from or through any participant will be subject to all terms and conditions of the 2009 Plan
and any award agreement applicable to such participant, except as otherwise determined by the
committee, and to any additional terms and conditions deemed necessary or appropriate by the
committee.
The exercise price per share purchasable under an option granted under the 2009 Plan will be
determined by the committee, provided that an exercise price may not be less than 100% of the fair
market value of a share on the date of grant of the option and shall not, in any event, be less
than the par value of a share on the date of grant of the option. The committee may impose on any
award or the exercise thereof, at the date of grant or thereafter, additional terms and conditions,
not inconsistent with the provisions of the 2009 Plan, as the committee may determine, including
terms requiring forfeiture of awards in the event of termination of the participants continuous
service and terms permitting a participant to make elections relating to his or her award.
To
date, there are 1,000,000 incentive awards outstanding under the 2009 Plan.
58
PRINCIPAL STOCKHOLDERS
The following table sets forth information regarding the number of shares of our common stock
beneficially owned on November 3, 2009, and as adjusted to reflect the sale of the shares of common
stock offered by this prospectus, by:
|
|
|
each of our executive officers, |
|
|
|
|
each of our directors, |
|
|
|
|
all of our directors and executive officers as a group, and |
|
|
|
|
each person who is known by us to beneficially own 5% or more of our common
stock. |
Beneficial ownership is determined in accordance with the rules of the SEC and generally
includes voting or investment power with respect to securities. Shares of our common stock which
may be acquired upon conversion of preferred stock or exercise of stock options or warrants which
are currently exercisable or convertible or which become exercisable or convertible within 60 days
after the date indicated in the table are deemed beneficially owned by the optionees or warrant
holders. Subject to any applicable community property laws, the persons or entities named in the
table below have sole voting and investment power with respect to all shares indicated as
beneficially owned by them.
Unless otherwise indicated, the persons named in the table below have sole voting and
investment power with respect to the number of shares indicated as beneficially owned by them.
Unless otherwise indicated, the address of the beneficial owner is c/o XStream Systems, Inc., 10305
102nd Terrace, Suite 101, Sebastian, FL 32958.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percentage of Shares |
|
|
|
|
|
|
Beneficially Owned(1) |
Name and Address |
|
Number of Shares |
|
Before This |
|
After This |
of Beneficial Owner |
|
Beneficially Owned |
|
Offering (%) |
|
Offering (%) |
Principal Stockholders: |
|
|
|
|
|
|
|
|
|
|
|
|
|
Mayo Family Revocable Trust (2) |
|
|
708,106 |
|
|
|
22.1 |
% |
|
|
8.2 |
% |
|
Dr. William E. Mayo (3) |
|
|
496,000 |
|
|
|
17.9 |
% |
|
|
6.0 |
% |
|
James J. Lowrey 2009 Irrevocable Trust (4) |
|
|
413,316 |
|
|
|
13.0 |
% |
|
|
4.8 |
% |
|
HLG, LLC (5) |
|
|
259,914 |
|
|
|
8.6 |
% |
|
|
3.1 |
% |
|
Thomas W. Cook (6) |
|
|
217,873 |
|
|
|
7.5 |
% |
|
|
2.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Management: |
|
|
|
|
|
|
|
|
|
|
|
|
|
James J. Lowrey (7) |
|
|
1,813,160 |
|
|
|
50.6 |
% |
|
|
21.9 |
% |
|
Joseph J. Melone (8) |
|
|
91,227 |
|
|
|
3.2 |
% |
|
|
1.1 |
% |
|
Anthony Chidoni (9) |
|
|
138,331 |
|
|
|
4.8 |
% |
|
|
1.7 |
% |
|
Robert E. Kennedy (10) |
|
|
70,132 |
|
|
|
2.5 |
% |
|
|
* |
|
|
Brian T. Mayo (11) |
|
|
1,025,863 |
|
|
|
29.7 |
% |
|
|
11.5 |
% |
|
Phillip A. Odeen (12) |
|
|
49,771 |
|
|
|
1.8 |
% |
|
|
* |
|
|
Ash K. Chawla |
|
|
|
|
|
|
|
|
|
|
* |
|
|
Simon Irish (13) |
|
|
100,000 |
|
|
|
3.5 |
% |
|
|
1.2 |
% |
|
Dennis H. Ferro (14) |
|
|
16,666 |
|
|
|
* |
|
|
|
* |
|
|
Dr. E. Darracott Vaughan, Jr. (15) |
|
|
10,000 |
|
|
|
* |
|
|
|
* |
|
|
Dr. Stuart Weinstein |
|
|
|
|
|
|
|
|
|
|
* |
|
|
Christie C. Butler (16) |
|
|
46,674 |
|
|
|
1.7 |
% |
|
|
* |
|
|
Alan Clock (17) |
|
|
69,666 |
|
|
|
2.5 |
% |
|
|
* |
|
|
All directors and executive officers
as a group (13 persons) |
|
|
3,431,490 |
|
|
|
70.6 |
% |
|
|
37.8 |
% |
59
|
|
|
* |
|
Represents less than 1% of outstanding common stock or voting power. |
|
(1) |
|
Applicable percentage ownership is based on 2,767,156 shares of
common stock outstanding as of November 3, 2009. The shares of
Series A preferred stock, Series B preferred stock, Series C
preferred stock and Series D preferred stock are all convertible on
the effective date of the registration statement into shares of
common stock on a one-for-one basis. |
|
(2) |
|
The securities are also included in the beneficial ownership
calculation for Mr. Brian T. Mayo. Mr. Mayo and his spouse are each
trustees of the trust and each may exercise voting and dispositive
power over the securities held in the trust. Includes 46,782 shares
of Series B preferred stock; 8,333 shares of Series C preferred
stock; warrants to purchase 376,575 shares of common stock at
exercise prices ranging from $2.34 to $3.80 per share, which are
exercisable within 60 days of November 3, 2009 and 276,416 shares of
common stock. Excludes warrants to purchase 275,575 shares of common
stock at an exercise price of $3.00 per share, which are not
exercisable within 60 days of November 3, 2009. |
|
(3) |
|
Includes 100,000 shares of common stock owned by William E. Mayo, as
Trustee of The Mayo Childrens 2000 Irrevocable Trust dated July 13,
2000; 195,000 shares of common stock and options to purchase 5,000
shares of common stock at an exercise price of $0.11 per share, which
are exercisable within 60 days of November 3, 2009. Includes the
following securities owned by Dr. Mayos spouse: 195,000 shares of
common stock and options to purchase 1,000 shares of common stock at
an exercise price of $0.10 per share, which are exercisable within 60
days of November 3, 2009. Dr. William E. Mayo is the brother of our
president and chief technical officer, Mr. Brian T. Mayo. Brian Mayo
disclaims beneficial ownership of the shares and options owned by Dr.
Mayo and his spouse. |
|
(4) |
|
Includes options to purchase 413,316 shares of common stock at
exercise prices ranging from $3.00 to $3.80 per share, which are
exercisable within 60 days of November 3, 2009. |
|
(5) |
|
Includes 87,711 shares of Series A preferred stock; 66,660 shares of
Series B preferred stock; 49,993 shares of Series C preferred stock;
and 55,550 shares of Series D preferred stock. |
|
(6) |
|
Includes 13,450 shares of Series A preferred stock; 100,519 shares of
Series B preferred stock; warrants to purchase 10,000 shares of
common stock at an exercise price of $2.34 per share, which are
exercisable within 60 days of November 3, 2009; options to purchase
14,250 shares of common stock at exercise prices ranging from $0.69
to $3.80 per share, which are exercisable within 60 days of November
3, 2009; and 79,654 shares of common stock. Excludes warrants to
purchase 502,595 shares of common stock at an exercise price of $3.00
per share, which are not exercisable within 60 days of November 3,
2009. |
|
(7) |
|
Includes the following securities owned by James J. Lowrey, JTW
Partners, and HLG, LLC: 131,580, 43,869, and 87,711 shares of Series
A preferred stock, respectively; 100,001, 33,340, and 66,660 shares
of Series B preferred stock, respectively; 75,000, 25,006 and 49,993
shares of Series C preferred stock, respectively; and 100,000, 33,340
and 66,660 shares of Series D preferred stock, respectively.
Includes 1,000,000 shares of common stock owned by James J. Lowrey
directly. Excludes warrants owned by Lowrey Family Investments, LLC
to purchase 2,750,000 shares of common stock at an exercise price of
$3.00 per share, which are not exercisable within 60 days of November
3, 2009. Excludes options to purchase 413,316 shares of common stock
at exercise prices ranging from $3.00 to $3.80 per share, which are
owned by the James J. Lowrey 2009 Irrevocable Trust and are
exercisable within 60 days of November 3, 2009 due to the fact that
Mr. Lowrey is not deemed to be the beneficial owner of such options
in accordance with Rule 13d-3(d)(1) of the Securities Exchange Act of
1934, as amended. |
|
(8) |
|
Includes 32,895 shares of Series A preferred stock and 58,332 shares
of Series B preferred stock. Excludes warrants to purchase 291,660
shares of common stock at an exercise price of $3.00 per share, which
are not exercisable within 60 days of November 3, 2009. |
|
(9) |
|
Includes 99,999 shares of Series B preferred stock; 24,999 shares of
Series C preferred stock; and 13,333 shares of Series D preferred
stock. Excludes warrants to purchase 691,655 shares of common stock
at an exercise price of $3.00 per share, which are not exercisable
within 60 days of November 3, 2009. |
|
(10) |
|
Includes 6,579 shares of Series A preferred stock; 33,387 shares of
Series B preferred stock; 8,333 shares of Series C preferred stock;
8,333 shares of Series D preferred stock; and options to purchase
13,500 shares of common stock at exercise prices ranging from $0.69
to $3.80, which are exercisable within 60 days of November 3, 2009.
Excludes warrants to purchase 250,265 shares of common stock at an
exercise price of $3.00 per share, which are not exercisable within
60 days of November 3, 2009. |
|
(11) |
|
Includes the following securities owned by The Mayo Family Revocable
Trust: 46,782 shares of Series B preferred stock; 8,333 shares of
Series C preferred stock; warrants to purchase 376,575 shares of
common stock at exercise prices ranging from $2.34 to $3.80 per
share, which are exercisable within 60 days of November 3, 2009; and
276,416 shares of common stock. Excludes warrants to purchase
275,575 shares of common stock at an exercise price of $3.00 per
share, which are not exercisable within 60 days of November 3, 2009.
Includes the following securities owned by Mr. Mayo: warrants to
purchase 21,000 shares of common stock at an exercise price of $3.80
per share, which are exercisable within 60 days of November 3, 2009;
options to purchase 230,217 shares of common stock at exercise prices
ranging from $0.69 to $4.18, which are exercisable within 60 days of
November 3, 2009; and 65,000 shares of common stock. Also includes
options to purchase 1,540 shares of common stock at exercise prices
ranging from $0.10 to $3.80 per share, which are owned by Mr. Mayos
spouse and are exercisable within 60 days of November 3, 2009.
Excludes options to purchase 25,470 shares of common stock at
exercise prices ranging from $0.69 to $4.18, which are not
exercisable within 60 days of November 3, 2009. |
|
(12) |
|
Includes 13,158 shares of Series A preferred stock; 33,333 shares of
Series B preferred stock; and options to purchase 3,280 shares of
common stock at an exercise price of $0.69 per share, which are
exercisable within 60 days of November 3, 2009. Excludes warrants to
purchase 166,665 shares of common stock at an exercise price of $3.00
per share, which are not exercisable within 60 days of November 3,
2009. |
|
(13) |
|
Includes 100,000 shares of Series D preferred stock. Excludes
warrants to purchase 500,000 shares of common stock at an exercise
price of $3.00 per share, which are not exercisable within 60 days of
November 3, 2009. |
60
|
|
|
(14) |
|
Includes 16,666 shares of Series D preferred stock. Excludes
warrants to purchase 83,330 shares of common stock at an exercise
price of $3.00 per share, which are not exercisable within 60 days of
November 3, 2009. |
|
(15) |
|
Includes 10,000 shares of Series D preferred stock. Excludes
warrants to purchase 50,000 shares of common stock at an exercise
price of $3.00 per share, which are not exercisable within 60 days of
November 3, 2009. |
|
(16) |
|
Includes options to purchase 46,674 shares of common stock at
exercise prices ranging from $0.69 to $3.80 per share, which are
exercisable within 60 days of November 3, 2009. Excludes options to
purchase 46,076 shares of common stock at exercise prices ranging
from $0.69 to $3.80 per share, which are not exercisable within 60
days of November 3, 2009. |
|
(17) |
|
Includes options to purchase 69,666 shares of common stock at
exercise prices ranging from $0.69 to $3.80 per share, which are
exercisable within 60 days of November 3, 2009. Excludes options to
purchase 68,334 shares of common stock at exercise prices ranging
from $0.69 to $3.80 per share, which are not exercisable within 60
days of November 3, 2009. |
61
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
We engage a significant stockholder, Dr. William Mayo, under a consulting agreement to serve
as chairman of our scientific advisory board. Dr. Mayo is also the brother of Brian T. Mayo, our
president and chief technical officer. This agreement provides for an hourly fee for work
performed under the agreement as well as 25,000 options, which vest over a period of four years.
We have paid Dr. Mayo approximately $3,800 under the contract from the time period beginning
October 2004 and ending June 2009.
We periodically engage H&M Analytical Services, Inc. (H&M) to provide material analysis
services and execution of the 2005/2006 Department of Homeland Security Simulants contract. H&M is
owned by Dr. William Mayo, shareholder and brother or Brian T. Mayo, and Walter Helfrecht,
shareholder and brother-in-law of Brian T. Mayo. The total amount paid to H&M under this
arrangement was approximately $69,000.
We engaged a consulting firm Catalyst Capital Investment, LLC (Catalyst), by written
consulting agreement, dated May 1, 2007, to perform certain exclusive consulting services related
to our capital structure, budgeting and financial planning. In addition, we had consulting
agreements to provide introductions to potential new customers and suppliers with Catalyst, each
agreement dated May 31, 2006 (the Prospective Customer Agreement and the Prospective Supplier
Agreement). Mr. James J. Lowrey, our chief executive officer is a member of the consulting firm.
A former director of the Company is also a managing member of Catalyst. As compensation to the
consulting firm for services rendered under these consulting agreements, we issued fully vested
options to purchase 180,000 shares of our common stock exercisable for a ten-year period at an
exercise price of $3.80 per share. Effective August 14, 2008, the agreement was supplemented and
amended to cancel 90,000 of the vested options granted under the original agreement and issue fully
vested options to purchase 578,000 shares of our common stock exercisable for a ten-year period at
an exercise price of $3.00 per share. During July, 2009, we and Catalyst agreed to terminate the
Catalyst Consulting agreement dated May 1, 2007, the Prospective Customer Agreement and the
Prospective Supplier Agreement.
On November 16, 2006, we executed a secured revolving demand promissory note in principal
amount not to exceed $400,000 in favor of Mr. Brian T. Mayo. The note was amended in February 2007
to increase the amount not to exceed $450.000. Under the terms of the note, Mr. Mayo agreed to
make revolving loans to the Company from time to time with 9% interest accruing from the date the
amount of the borrowing is received from the lender. All outstanding amounts of $465,938.77
including principal and interest were repaid under the note in March 2007.
On March 12, 2009, we entered into a marketing agreement with Avani International (Avani)
which is owned by Mr. Ash Chawla, a member of our board of directors. The marketing agreement
seeks to engage Mr. Chawla to market our XT250TM product in exchange for commissions at
15% of the actual purchase price of any XT250TM system sold by Avani. As of November 3,
2009, we have paid Avani $13,878 under this arrangement.
On October 7, 2009, Mr. James J. Lowrey loaned us $39,660 for general operating expenses. We
executed a promissory note in principal amount of $39,660, bearing interest at 5% per year, in
favor of Mr. Lowrey. All outstanding amounts of $39,763 including principal and interest were
repaid to Mr. Lowrey under the note in October 2009.
Board of Directors
Our
preferred stock investors have the right to appoint three of our
directors while shares of our preferred stock are outstanding.
Upon the conversion of outstanding shares of our preferred stock into
common stock on the effective date of this registration statement,
the preferred stock investors right to appoint board members
will terminate.
We
anticipate each of the preferred stock appointees will remain on our board following this offering.
Stock and Stock Options Granted to and Employment Arrangements with Directors and Executive
Officers
For more information regarding the grant of stock options to directors and executive officers
and employment arrangements with our executive officers, please see Director Compensation for the
Year Ended December 31, 2008 and Executive Compensation.
In October 2009, a resolution was passed by the Compensation Committee providing for the
following annual compensation package to members of the board of directors:
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chairpersons of a committee will receive a share-based incentive grant to purchase
2,500 shares of our common stock pursuant to our 2009 Long Term Incentive Compensation
Plan; and |
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board members will receive a share-based incentive award to
purchase 7,500 shares
of our common stock for full board service. |
Indemnification Agreements
We have entered into indemnification agreements with each of our current directors. These
agreements require us to indemnify these individuals to the fullest extent permitted under Delaware
law against liabilities that may arise by reason of their service to us, and to advance expenses
incurred as a result of any proceeding against them as to which they could be indemnified. We also
intend to enter into indemnification agreements with our future directors and executive officers.
Procedures for Related Party Transactions
Under our code of conduct, our employees, officers and directors are discouraged from entering
into any transaction that may cause a conflict of interest for us. In addition, they must report
any potential conflict of interest, including related party transactions, to their managers or our
general counsel who then reviews and summarizes the proposed transaction for our audit committee.
Pursuant to its charter, our audit committee must then approve any related-party transactions,
including those transactions involving our directors. In approving or rejecting such proposed
transactions, the audit committee considers the relevant facts and circumstances available and
deemed relevant to the audit committee, including the material terms of the transactions, risks,
benefits, costs, availability of other comparable services or products and, if applicable, the
impact on a directors independence. Our audit committee will approve only those transactions
that, in light of known circumstances, are in, or are not inconsistent with, our best interests, as
our audit committee determines in the good faith exercise of its discretion. A copy of our code of
conduct generally applicable to all employees, our code of ethics for senior financial officers,
and audit committee charter may be found at our corporate website, www.xstreamsystems.com, upon the
completion of this offering.
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DESCRIPTION OF DEBENTURES
The following summary does not purport to be complete, and is subject to, and is qualified in
its entirety by reference to, all of the provisions of the debentures and the indenture. We urge
you to read the indenture and the form of the debentures which are filed as exhibits to the
registration statement of which this prospectus forms a part.
General
The debentures are subordinated, unsecured obligations of ours and are limited to an aggregate
principal amount of $5,000,000, unless increased in the discretion of our board of directors to
$6,000,000. The debentures will mature on , 2020. The debentures rank junior to
our senior indebtedness.
The debentures will be offered at a price to investors of $1,000 per debenture. The
debentures were issued only in denominations of $1,000 principal amount and multiples of $1,000
principal amount. The debentures accrue interest at a rate of 5% per year from , 2010
or from the most recent interest payment date to which interest has been paid or duly provided,
payable annually in arrears on December 15 of each year, beginning December 15, 2011. At the time
interest is payable, we, in our sole discretion, may elect to pay interest in cash, or in the form
of shares of our common stock. At any time during the term of the debenture prior to the stated
maturity or the date on which the debenture is converted into shares of common stock, upon notice
mailed to the holder not less than 30 days prior to an interest payment date, we may elect to defer
the payment of unpaid interest until a subsequent interest payment date, or the earlier of the
stated maturity or the date on which the debenture converts into shares of common stock.
Interest will be paid to the person in whose name a debenture is registered at the close of
business on December 1, immediately preceding the relevant interest payment date. Interest on the
debentures will be computed on the basis of a 360-day year comprised of twelve 30-day months. At
the time interest is payable, we may elect to pay interest in cash or in the form of shares of
common stock. Notwithstanding anything to the contrary, at any time during the term of the
debenture prior to the stated maturity or the date on which the security is converted into shares
of common stock, upon notice mailed to the holders not less than 30 days prior to an interest
payment date, we may elect to defer the payment of unpaid interest until the subsequent interest
payment date.
You have the option to convert your debentures into shares of our common stock under the
circumstances set forth under Conversion Rights in this
section. The initial conversion rate is
shares of our common stock per debenture, which is equivalent to an initial
conversion price of $ per share of our common stock. The conversion rate is subject to
adjustment if certain events occur. Upon conversion, you will receive only shares of our common
stock. You will not receive any cash payment for interest accrued to the conversion date other
than in the limited circumstances described under Conversion Rights in this section.
If any interest payment date, maturity date, or redemption date of a debenture falls on a day
that is not a business day, the required payment of principal and interest will be made on the next
succeeding business day as if made on the date that the payment was due and no interest will accrue
on that payment for the period from and after the interest payment date, maturity date, or
redemption date, as the case may be, to the date of that payment on the next succeeding business
day. The term business day means, with respect to any debenture, any day other than a Saturday,
Sunday or day on which banking institutions in the City of New York are authorized or required by
law, regulation or executive order to close.
Interest on a debenture will generally be taxable to each holder as ordinary income at the
time it is paid or accrued in accordance with the holders usual method of accounting for tax
purposes. A holder will generally recognize gain or loss upon the sale, exchange, redemption or
other disposition of a debenture equal to the difference between the amount realized upon the sale,
exchange, redemption or other disposition and the holders adjusted tax basis in the debenture. A
holders tax basis in a debenture will generally be equal to the amount the holder paid for the
debenture. The amount realized does not include any amount attributable to accrued interest, which
amount would be taxable as interest (to the extent not previously included in a holders income).
If a holder receives solely cash in exchange for its debentures upon conversion, gain or loss
generally will be determined in the same manner as if the holder disposed of the debenture in a
taxable disposition. A holder, generally will not recognize any income, gain or loss upon
conversion of a debenture into common stock except to the extent that the common stock is
considered attributable to accrued interest not previously included in taxable income (which is
taxable as ordinary income) or with respect to cash received in lieu of a fractional share of
common stock. Distributions, if any, made on the common stock generally will be included in income
as ordinary dividend income to the extent of our current and accumulated earnings and profits.
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Upon the sale, taxable exchange or other taxable disposition of our common stock, a holder
generally will recognize capital gain or loss equal to the difference between (i) the amount of
cash and the fair market value of any property received upon such taxable disposition, and (ii) the
holders adjusted tax basis in the common stock.
HOLDERS SHOULD CONSULT THEIR TAX ADVISORS REGARDING THE TAX TREATMENT OF THE DEBENTURES AND
WHETHER A PURCHASE OF THE DEBENTURES IS ADVISABLE IN LIGHT OF THE AGREED UPON TAX TREATMENT AND THE
HOLDERS PARTICULAR TAX SITUATIONS.
Redemption of the Debentures at Our Option
No sinking fund is provided for the debentures. Prior to , 2015, the debentures
will not be redeemable. On or after , 2015, we may redeem for cash all or part of the
debentures at any time, upon not less than 30 nor more than 60 days notice by mail to holders of
the debentures, for a price equal to 100% of the principal amount of the debentures to be redeemed
plus any accrued and unpaid interest to the redemption date.
Conversion Rights
Subject to the conditions described below, holders may convert each of their debentures into
shares of our common stock initially at a conversion rate of shares of our common stock per
$1,000 principal amount of debentures (equivalent to an initial conversion price of $ per share
of our common stock based on the issue price of the debentures). The conversion rate and the
equivalent conversion price in effect at any given time are referred to as the applicable
conversion rate and the applicable conversion price, respectively, and will be subject to
adjustment as described below. A holder may convert a portion of such holders debentures so long
as the debentures converted are an integral multiple of $1,000 principal amount.
Holders may surrender their debentures for conversion into shares of our common stock prior to
stated maturity under the following circumstances:
Conversion Upon 30 Days Prior Written Notice to Us
A holder may surrender its debentures, in whole or in part, for conversion into shares of our
common stock, on or after 2011, upon 30 days prior written notice to us.
Conversion Upon Redemption
A holder may surrender for conversion any debenture called for redemption at any time prior to
the close of business on the business day immediately preceding the redemption date, even if it is
not otherwise convertible at such time, unless we default in making the payment due on the
redemption date, in which case the conversion right shall terminate at the close of business on the
date such default is cured and such payment is made.
Conversion Upon Specified Corporate Transactions
If we are a party to a consolidation, merger, or sale or transfer of all or substantially all
our properties and assets pursuant to which shares of our common stock would be converted into
cash, securities or other property, a holder may surrender debentures for conversion at any time
from and after the date that is 15 days prior to the date that we announce as the anticipated
effective date of the transaction until 15 days after the actual effective date of such
transaction. If we are a party to a consolidation or merger pursuant to which shares of our common
stock are converted into cash, securities or other property, then at the effective time of the
transaction, the right to convert a debenture into shares of our common stock will be changed into
a right to convert, without the consent of any holders of the debentures, such debenture into the
kind and amount of cash, securities or other property that the holder would have received if the
holder had converted its debentures immediately prior to the transaction. This assumes that a
holder of debentures would not have exercised any rights of election as to the consideration
receivable in connection with such transaction.
If a holder wishes to exercise its conversion right, such holder must (i) deliver an
irrevocable conversion notice, together with the certificated security (if the debentures are in
certificated form) and the appropriate endorsements and transfer documents, to the conversion agent
who will, on the holders behalf, convert the debentures
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into shares of our common stock and (ii) pay any applicable transfer or similar taxes.
Holders may obtain copies of the required form of the conversion notice from the conversion agent
or the trustee.
Based on our treatment of the debentures for U.S. federal income tax purposes, as discussed
above, a holder would be required to recognize ordinary income upon a conversion of a debenture
into shares of our common stock equal to the excess, if any, between the value of the shares of our
common stock received on the conversion and the holders adjusted tax basis in the debentures. For
a more detailed discussion, see Certain United States Federal Income Tax Considerations.
If we are party to a consolidation, merger or sale or transfer of all or substantially all our
properties and assets pursuant to which the shares of our common stock would be converted into
cash, securities or other property, then at the effective time of the transaction, the right to
convert a debenture into common stock will be changed into a right to convert, without the consent
of any holders of debentures, such debenture into the kind and amount of cash, securities or other
property that the holder would have received if the holder had converted the holders debentures
immediately prior to the transaction. This assumes that a holder of debentures would not have
exercised any rights of election as to the consideration receivable in connection with the
transaction.
Mandatory Conversion At Our Option Upon 30 Days Notice to Holder
The debentures are mandatorily convertible, at our option, into shares of our common stock
upon notice mailed to the holder not less than 30 days prior to each interest payment date.
Ranking
The debentures are our subordinated, unsecured obligations and rank junior to our senior
indebtedness. Subordinate means that, in the event of any default in the payment of Senior
Indebtedness (after giving effect to cure provisions, if any), if there has occurred an event of
default with respect to any Senior Indebtedness permitting the holders to accelerate the maturity,
or if any judicial proceeding is pending with respect to any such default, or in the event of any
liquidation, insolvency, bankruptcy, reorganization, or similar proceedings relating to us, all
sums payable on Senior Indebtedness will be paid in full, with interest, if any, before payment is
made upon the indebtedness evidenced by the debenture, and, in such event, any subsequent payment
or distribution of any character which is made with respect to this debenture will be paid over to
the holders of Senior Indebtedness for application pro rata to the payment on that indebtedness,
unless and until the Senior Indebtedness has been paid and satisfied in full. Senior
Indebtedness means the principal of, and premium, if any, and interest on, all of our
indebtedness, existing prior to the date of the debentures, to banks, trust companies, insurance
companies, and similar lenders and any deferrals, renewals, extensions, or guarantees thereof, and
to all other indebtedness of ours (including trade payables); provided, however that Senior
Indebtedness does not include indebtedness of ours to any affiliate.
Events of Default
The following are events of default with respect to the debentures:
(1) our default in the payment of the principal amount plus accrued and unpaid interest on any
debenture when it becomes due and payable at its maturity, upon redemption, or following a Change
of Control (as defined in the debenture) when the same becomes due and payable, or otherwise;
(2) our failure for ten business days to deliver shares of our common stock upon an
appropriate election by holders of debentures to convert those debentures into shares of our common
stock;
(3) our failure to comply in any material respect with any of our covenants or agreements
contained in the indenture or the debentures;
(4) our failure to provide timely notice of a Change of Control;
(5) certain events involving our bankruptcy, insolvency or reorganization.
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Calculations in Respect of Debentures
We will be responsible for making all calculations called for under the debentures. These
calculations include determinations of the sale prices of shares of our common stock, the rate of
interest payable on the debentures and the applicable conversion rate of the debentures. We will
make all these calculations in good faith and, absent manifest error, our calculations will be
final and binding on holders of the debentures. We will provide a schedule of our calculations to
the trustee and the conversion agent, and the trustee and the conversion agent will be entitled to
rely upon the accuracy of our calculations without independent verification. The trustee will
forward our calculations to any holder of the debentures upon the request of that holder.
Governing Law
The indenture and the debentures will be governed by, and construed in accordance with, the
laws of the State of Florida.
Trustee
We
intend to engage an independent trustee, paying agent and conversion agent for the
debentures.
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DESCRIPTION OF CAPITAL STOCK
General
Our
authorized capital stock as of November 9, 2009 consists of 60,000,000 shares of common stock, $.0001 par value
per share, and 6,000,000 shares of preferred stock, par value $.0001 per share. The preferred
stock authorized may be issued from time to time in one or more series with the rights, preferences
and designations for each such series of preferred stock to be determined by the Companys board of
directors. As of November 3, 2009, there were issued and outstanding:
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2,767,156 shares of common stock, |
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stock options to purchase 1,977,274 shares of common stock at an average weighted
price of $2.17 per share, |
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warrants to purchase 336,000 shares of common stock in connection with our
debentures (for which cash would need to be remitted to us for exercise), at an average
exercise price of $2.48 per share, |
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962,101 shares of Series A Redeemable Convertible Preferred Stock, |
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1,619,127 shares of Series B Redeemable Convertible Preferred Stock, |
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365,996 shares of Series C Redeemable Convertible Preferred Stock, |
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563,414 shares of Series D Redeemable Convertible Preferred Stock, |
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Series B and Series C warrants to purchase 9,925,615 shares of common stock (for
which cash would need to be remitted to us for exercise), at an average exercise price
of $3.00 per share, and |
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Series D warrants to purchase 2,817,070 shares of common stock (for which cash would
need to be remitted to us for exercise), at an average exercise price of $3.00 per
share. |
The following summary of the material provisions of our common stock, certificate of
incorporation and by-laws is qualified by reference to the provisions of our certificate of
incorporation and by-laws incorporated by reference as exhibits to the registration statement of
which this prospectus is a part.
Common Stock
Holders of common stock are entitled to one vote for each share held of record on each matter
submitted to a vote of stockholders. There is no cumulative voting for election of directors.
Accordingly, the holders of a majority of our outstanding shares of common stock entitled to vote
in any election of directors can elect all of the directors standing for election, if they should
so choose. Holders of common stock are entitled to receive dividends ratably when, as, and if
declared by the board of directors out of funds legally available therefor and, upon our
liquidation, dissolution or winding up are entitled to share ratably in all assets remaining after
payment of liabilities. Holders of common stock have no preemptive rights and have no rights to
convert their common stock into any other securities. There are no redemption or sinking fund
provisions applicable to our common stock. The outstanding shares of common stock are, and the
shares of common stock being sold in this offering will be, when issued, validly authorized and
issued, fully paid and nonassessable.
Series A Redeemable Convertible Preferred Stock
General. We have designated 962,101 shares as our Series A Redeemable Convertible Preferred
Stock, of which, as of November 3, 2009, there were 962,101 shares issued and outstanding.
Series B Redeemable Convertible Preferred Stock
General. We have designated 1,800,000 shares as our Series B Redeemable Convertible Preferred
Stock, of which, as of November 3, 2009, there were 1,619,127 shares issued and outstanding.
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Series C Redeemable Convertible Preferred Stock
General. We have designated 1,350,000 shares as our Series C Redeemable Convertible Preferred
Stock, of which, as of November 3, 2009, there were 365,996 shares issued and outstanding.
Series D Redeemable Convertible Preferred Stock
General. We have designated 700,000 shares as our Series D Redeemable Convertible Preferred
Stock, of which, as of November 3, 2009, there were 563,414 shares issued and outstanding.
Rights and Preferences of the Series A, B, C and D Preferred Stock
The rights and preferences of the holders of Series A, Series B, Series C and Series D
Preferred Stock are substantially identical except as set forth below. Except where the reference
may indicate otherwise, the Series A, B, C and D are referred to collectively as our
Preferred Stock or the Pari Passu Preferred. Shares of our Preferred Stock will convert to shares of common stock on a one-for-one basis on
the effective date of this registration statement.
Dividends. The holders of the Preferred Stock are entitled to receive dividends as follows:
when and as declared by the board of directors, and to the fullest extent permitted under the
General Corporation Law of the State of Delaware, we will pay preferential dividends on each issued
and outstanding share of the Preferred Stock; provided however, that no dividend will be declared
on a series of preferred stock unless a pro rata amount (based upon relative liquidation value) is
declared on each of the other series of pari passu preferred. Subject to certain provisions,
dividends on each issued and outstanding share of the Preferred Stock will be cumulative and accrue
on a daily basis at a rate of 5% per annum of the Preferred Stock liquidation value thereof (with
such accrued and unpaid dividends compounding on each annual anniversary of the Preferred Stock
original issuance date) from and including the Preferred Stock original issuance date to and
including the first to occur of (i) the date on which the Preferred Stock liquidation value of such
share (plus all accrued and unpaid dividends thereon) is paid to the holder thereof in connection
with our liquidation, (ii) the date on which such share is converted into shares of common stock
hereunder or (iii) the date on which such share is otherwise acquired by the Company. Such
dividends will accrue whether or not they been declared and whether or not there are profits,
surplus or other funds of the Company legally available for the payment of dividends, and such
dividends will be cumulative such that all accrued and unpaid dividends will be fully paid or
declared with funds irrevocably set apart for payment before any dividends, distributions,
redemptions or other payments may be made with respect to any Preferred Stock junior securities.
Voting Rights Generally. The holders of the Preferred Stock will be entitled to notice of all
meetings of stockholders in accordance with our Amended and Restated By-laws, and except as
otherwise provided or required by applicable law, the holders of the Preferred Stock will be
entitled to vote on all matters submitted to the stockholders for a vote, voting as a single class
with the common stock and other securities that vote with the common stock with the holder of
Preferred Stock entitled to one vote for each share of common stock issuable upon conversion of the
Preferred Stock held as of the record date for such vote or, if no record date is specified, as of
the date of such vote.
Actions requiring the consent of the holders of the Preferred Stock. So long as any shares of
a respective series of Preferred Stock are outstanding, without the approval of at least a majority
of the shares of that respective series of Preferred Stock then outstanding, we are not permitted
to file any resolution of the board with the Delaware Secretary of State that contains any
provisions, or take any other action, that would amend the terms of the series of preferred stock
in question, increase the number of authorized preferred stock in that respective series, approve a
reverse stock split or adversely affect or otherwise impair the rights or the relative preferences
or priorities of the holders of the Preferred Stock under its respective Certificate of Designation
or the Amended and Restated By-laws.
Actions requiring the consent of the holders of the Series A, Series B, Series C and Series D
Preferred Stock and the holders of common stock issued or issuable upon conversion of the Preferred
Stock.
So long as any shares of Pari Passu Preferred are outstanding, we are not permitted to take
any of the following actions without the approval of the holders of at least a majority of the
shares of all of the Pari Passu Preferred, voting as a single class on a common equivalent basis,
then outstanding:
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amend our Certificate of Designation or the Amended and Restated By-laws; |
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except for permitted issuances, authorize, issue or enter into any agreement
providing for the issuance (contingent or otherwise) of any capital stock or other
equity securities of the Company ranking pari passu or senior to the Preferred
Stock (or any securities convertible into or exchangeable for any capital stock or
other equity securities of the Company ranking pari passu or senior to the
Preferred Stock); |
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except for the ratable payment of dividends on the Pari Passu Preferred,
directly or indirectly declare or pay any cash or property dividends or make any
cash or property distributions upon any of its capital stock or other equity
securities; |
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directly or indirectly redeem, purchase or otherwise acquire any of the
Companys capital stock or other equity securities (including, without limitation,
options) other than (i) the Pari Passu Preferred pursuant to the terms of the
respective Certificate of Designation, (ii) repurchases of the Companys securities
from employees upon termination of an employees employment with the Company
pursuant to terms approved by the Board, (iii) certain repurchases of options
outstanding as of March 14, 2007, and (iv) pursuant to the terms of the
Shareholders Agreement; |
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merge or consolidate with any person or entity (other than a wholly owned
subsidiary) or take any action which results in a change in ownership as defined in
the applicable Preferred Stock instrument; |
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sell, license, lease or otherwise transfer all or substantially all of its
assets to any person or entity (other than to a wholly owned subsidiary of the
Company) in any transaction or series of related transactions; |
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liquidate, dissolve or effect a recapitalization, bankruptcy or reincorporation
in any form of transaction (including, without limitation, any reincorporation into
a limited liability company, a partnership or any other non-corporate entity that
is treated as a partnership for federal income tax purposes); |
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make any loans or advances to, guarantees for the benefit of, or investments in,
any person or entity (other than a wholly owned subsidiary established under the
laws of a jurisdiction of the U.S. or any of its territorial possessions), except
for (i) reasonable advances to employees in the ordinary course of business
consistent with past practice and (ii) advances to newly-hired employees in order
to cover such employees relocation expenses; |
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except as provided in the current budget or incurred in connection with a public
offering, including the issuance of debt securities in a public offering, create,
incur, assume or suffer to exist any indebtedness; |
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create, incur, assume or suffer to exist any liens other than (i) permitted
liens and (ii) liens incurred in connection with the incurrence of indebtedness not
prohibited by the preceding clause above; |
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acquire any interest in any company or business (whether by a purchase of
assets, purchase of stock, merger or otherwise), or enter into any joint venture,
in either case, that is material to the business of the Company and its
subsidiaries, taken as a whole (each, an Acquisition), other than Acquisitions
the aggregate value of which (after taking into account the assumption of any
indebtedness or other liabilities in connection therewith) do not exceed $300,000
in any 12 month period, measured after giving effect to any purchase price
adjustments relating thereto; |
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become subject to (including, without limitation, by way of amendment to or
modification of) any agreement or instrument that by its terms would (under any
circumstances) restrict our right to perform the provisions of the Preferred Stock
transactions documents and the Companys Certificates of Designation or the Amended
and Restated By-laws; |
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except as provided in the current budget, make or commit to make capital
expenditures for any fiscal year; |
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except as required under the Preferred Stock transaction documents, increase the
size of the board to a number greater than 11; |
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enter into or become a party to any license, agreement or other arrangement
after March 14, 2007 with respect to intellectual property rights licensed to, or
owned or developed by us except that the foregoing shall not prevent us from
entering into, or becoming a party to, any such license, agreement or other
arrangement that (i) has a term of one year or less, (ii) is non-exclusive and
would be customary in connection with the sale of our products or services, (iii)
relates to off the shelf software licenses to us by a third party or (iv) is
approved by a majority of the board (including at least one of the investor
appointed directors); or |
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change the primary line of business of the Company from materials
identification, verification and analysis, and any related field, or enter into any
material new line of business. |
Liquidation Rights. Upon any liquidation, fundamental change, change in ownership,
dissolution or winding up of the Company (whether voluntary or involuntary) (each, a Significant
Event) each holder of Preferred Stock may be entitled to receive, prior and in preference to any
distribution or payment made upon any Preferred Stock junior securities, an amount equal to (i) the
aggregate Preferred Stock liquidation value of all shares of Preferred Stock held by such holder
plus (ii) all accrued and unpaid dividends on such shares of Preferred Stock. If, upon any
Significant Event, our assets to be distributed among the holders of the Pari Passu Preferred are
insufficient to permit payment to such holders of the aggregate amount to which they are entitled
to be paid under the applicable provisions of the Preferred Stock certificates of designation and
the equivalent provisions of the other series of Pari Passu Preferred, then the entire assets
available to be distributed to the stockholders shall be distributed pro rata among such holders of
the Pari Passu Preferred based upon the aggregate liquidation value (plus all accrued and unpaid
dividends) of the shares of Pari Passu Preferred held by each such holder. After payment to the
holders of the Preferred Stock of the amounts set forth in above, the entire remaining assets and
funds of the Company legally available for distribution, if any, shall be distributed pro rata
among the holders of the common stock and the holders of the Pari Passu Preferred (on a common
equivalent basis). The liquidation values of the Series A preferred, Series B preferred, the
Series C preferred and the Series D preferred are $3.80 per share, $3.00 per share, $3.00 per share
and $3.00 per share, respectively.
Redemption. At any time on or after March 14, 2012, upon the request of the holders of at
least a majority of the then outstanding shares of each series of Preferred Stock, each of the
holders of the then outstanding preferred shares shall have the right (a Redemption Right) to
require the Company to redeem all or any of their shares of preferred stock at a price per share
equal to the Preferred Stock liquidation value plus a rate of return on such amount (after taking
into account all dividends paid by the Company under certain provisions of the certificates of
designation equal to 7% per annum, compounded annually. Any holder of the Preferred Stock may
exercise his, her or its Redemption Right by delivering to the Company a redemption notice on or
after March 14, 2012, provided that holders of at least a majority of the then outstanding shares
of Pari Passu Preferred have requested a redemption pursuant to the provisions of the respective
series of Preferred Stock certificate of designation and the equivalent provisions of the other
series of Pari Passu Preferred. Within ten days after the date of a redemption notice delivered by
any holder of Preferred Stock, we are required to notify all other holders of Pari Passu Preferred
that the Redemption Right has been exercised, and each other holder of Pari Passu Preferred shall
have the right, exercisable by written notice delivered to us within 30 days after receipt of such
notice from us, to request that all or a portion of such other holders shares of Pari Passu
Preferred be redeemed on the redemption date together with the shares of Preferred Stock of the
holder who delivered the redemption notice. We will be obligated to redeem the total number of
shares of Preferred Stock requested to be redeemed on the redemption date. For each share of
Preferred Stock which is to be redeemed on a particular redemption date, we will be obligated on
the date specified for redemption thereof in the written notice with respect thereto, to pay to the
holder thereof (upon surrender by such holder at our principal office of the certificate
representing such share) such amount specified in the applicable provision of the certificate of
designation in immediately available funds. If the funds of the Company legally available for
redemption of Preferred Stock on any redemption date are insufficient to redeem the total number of
shares of that respective series of Preferred Stock and all other shares of Pari Passu Preferred to
be redeemed on such date: (i) those funds which are legally available shall be used to redeem the
maximum possible number of shares of Pari Passu Preferred ratably among the holders of such shares
to be redeemed based upon the aggregate amount to which they are entitled to be paid and the
equivalent provisions of the other series of Pari Passu Preferred; and (ii) with respect to those
shares of Pari Passu Preferred requested to be redeemed but for which funds are not legally
available (the Non-Funded Shares), we are entitled to issue and deliver to each holder of
Non-Funded Shares a promissory note (each a Redemption Note). Each Redemption Note will be
payable one year from date of issuance and will bear interest at the rate of 8% per annum,
compounded quarterly, and shall have an aggregate principal amount per Non-Funded Share equal to
the liquidation
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value of that series of Preferred Stock plus a rate of return on such amount (after taking
into account all dividends paid by the Company) equal to 7% per annum, compounded annually. A
Redemption Note may be prepaid by us at any time without penalty. The issuance of Redemption Notes
will be made without charge to the holders of the Non-Funded Shares receiving such Redemption Notes
for any issuance tax in respect thereof or other cost incurred by us in connection with the
issuance thereof, and we will pay the fees and expenses of each holder of Non-Funded Shares in
connection with the issuance of Redemption Notes, including reasonable attorneys fees and expense.
Subject to the terms of any then existing senior debt or credit facility, the terms and
documentation relating to each Redemption Note will provide that the debt obligation evidenced
thereby will at all times be pari passu with the most senior debt or credit facility of our
outstanding at any time during the term of the Redemption Note.
Conversion Rights. At any time and from time to time, a holder of Preferred Stock will have
the right to convert all or any portion of its shares of Preferred Stock into the number of shares
of common stock computed by dividing (i) the aggregate liquidation value of the shares of that
respective series of preferred stock to be converted by (ii) the conversion price of that series of
Preferred Stock then in effect.
All shares of Preferred Stock automatically convert into common stock upon (A) the affirmative
written consent of the holders of at least a majority of the outstanding shares of Pari Passu
Preferred or (B) any offering by us of debt or equity securities to the public pursuant to an
effective registration statement under the Securities Act of 1933, as then in effect, or any
comparable statement under any similar federal statute then in force.
If any fractional interest in a share of common stock would be delivered upon any conversion
of the Preferred Stock, the Company, in lieu of delivering the fractional share therefor, may pay
an amount to the holder thereof equal to the fair market value per share of common stock as of the
date of conversion as determined in good faith by the board of directors, including a majority of
the directors appointed by the investor group, multiplied by such fractional interest; provided,
however, that in the case of a public offering the fair market value per share of common stock
shall be the gross price per share of common stock in such public offering. The determination as
to whether or not to make any cash payment in lieu of the issuance of fractional shares shall be
based upon the total number of shares of Series A preferred stock being converted at any one time
by the holder thereof, not upon each share of Series A preferred stock being converted.
Conversion Price. The conversion price is $3.80 per share of common stock (subject to
adjustment in the event of stock splits, stock dividends, stock combinations, recapitalizations and
like occurrences) with respect to the Series A preferred stock, and $3.00 with respect to the
Series B, Series C and Series D preferred stock. If and whenever on or after the Preferred Stock
original issuance date we issue or sell or are deemed to have issued or sold, any shares of our
common stock for a consideration per share less than the Preferred Stock conversion price in effect
immediately prior to the time of such issuance, then immediately upon such issuance or sale or
deemed issuance or sale the Preferred Stock conversion price shall be reduced to the conversion
price determined by dividing (i) the sum of (A) the product derived by multiplying the Preferred
Stock conversion price in effect immediately prior to such issuance or sale by the number of shares
of common stock deemed outstanding immediately prior to such issuance or sale, plus (B) the
consideration, if any, received by us upon such issuance or sale, by (ii) the number of shares of
common stock deemed outstanding immediately after such issue or sale.
Notwithstanding the foregoing, there will be no adjustment in the Preferred Stock conversion
price as a result of any issuance or sale (or deemed issuance or sale) of:
(i) shares of common stock issued upon conversion of the Pari Passu Preferred;
(ii) shares of common stock issued upon the exercise of warrants;
(iii) shares of common stock issued upon the exercise of options or other convertible
securities outstanding as of the first closing date of the Preferred Stock;
(iv) securities issued pursuant to a board-approved (including at least one of the investor
appointed directors) bona fide acquisition of an entity by merger, purchase of substantially all of
the assets or other reorganization;
(v) shares of common stock issued to Catalyst Capital Investments, LLC, a Delaware limited
liability company (Catalyst) pursuant to the options granted under the Catalyst letter
agreements;
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(vi) shares of common stock or other securities issued as a dividend or distribution on, or in
connection with a split of or recapitalization of, any of the capital stock of the Company;
(vii) up to an aggregate of 800,000 shares of common stock reserved for issuance per year
pursuant to an option plan (subject to adjustment in the event of stock splits, stock
dividends, stock combinations, recapitalizations and like occurrences) and shares of common stock
reserved for issuance pursuant to an option plan in lieu of the repayment of certain
salary deferrals as approved by a majority of the board (including at least one of the investor
appointed directors), which foregoing shares may be subject to options or restricted stock awards
granted under an option plan; provided that any options that expire or terminate
unexercised or any restricted stock awards that are repurchased by the Company pursuant to the
terms of such award shall not be counted toward the maximum number set forth in this subparagraph
(vi) unless and until such shares are subject to new restricted stock awards (or new options)
pursuant to the terms of an option plan;
(viii) shares of common stock issued or issuable (including options to acquire such shares of
common stock) to suppliers or third party service providers in connection with the provision of
goods or services pursuant to transactions in the ordinary course of business and approved by a
majority of the board of directors, including at least one of the investor appointed directors;
(ix) shares of common stock issued or issuable in connection with bona-fide sponsored
research, collaboration, technology license, development, OEM, marketing or other similar
agreements or strategic partnerships or joint ventures entered into in the ordinary course of
business and approved by a majority of the board, including at least one of the investor appointed
directors (and by at least a majority of the outstanding shares of Pari Passu Preferred voting as a single class on a common equivalent basis, then outstanding,
if required under the provisions of the Series A certificate of designation; or
(x) securities issued in connection with a public offering;
(xi) 1,000,000 incentive stock options or other share-based award in such amount to Mr. James
Lowrey, current chairman and chief executive officer of the Company, approved at the August 14,
2009 meeting of the board in consideration for services rendered to the Corporation;
(xii) permitted issuances; or
(xiii) options (covering up to an aggregate of 330,000 shares of common stock) issued in
substitution for outstanding options;
provided that the aggregate number of shares of common stock issued or issuable pursuant to clauses
(viii) and (ix) above will not exceed 350,000 (or such greater or lesser number of shares as may be
approved by a majority of the board of directors (including at least one of the directors appointed
by the investors)) in any 12 month period.
Election of Directors. For so long as any shares of Pari Passu Preferred remain outstanding,
the holders of the Pari Passu Preferred, voting together as a single class on a common equivalent
basis, are entitled to elect three members of our board of directors at each meeting or pursuant to
each consent of our stockholders for the election of directors, and to remove from office any such
director and to fill any vacancy caused by the resignation, death or
removal of any such director. Upon the conversion of outstanding shares of our preferred stock into
common stock on the effective date of this registration statement,
the preferred stock investors right to appoint board members
will terminate.
Series B and Series C Warrants
In connection with the Series B and Series C preferred stock financing, we entered into Series
B and Series C warrant agreements on December 19, 2007, as amended from time to time, with certain
investors agreeing to issue and deliver warrant certificates evidencing warrants to purchase an
aggregate of 9,000,000 and 6,750,000 shares of common stock at the per share exercise price of
$3.00. The Series B Warrants and Series C Warrants are exercisable for a ten-year period
commencing on the three year anniversary of the effective date of
this registration statement. As of November 3, 2009, 9,925,615
Series B and Series C warrants are outstanding.
If and whenever on or after the original issue date we issue or sell or are deemed to have
issued or sold any shares of its common stock for a consideration per share less than the exercise
price of the Series B or Series C warrant agreement in effect immediately prior to the time of such
issuance, then immediately upon such issuance or sale or deemed issuance or sale the exercise price
shall be reduced to the exercise price determined by dividing (i) the sum of
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(A) the product derived by multiplying the exercise price in effect immediately prior to such
issuance or sale by the number of shares of common stock deemed outstanding immediately prior to
such issuance or sale, plus (B) the consideration, if any, received by us upon such issuance or
sale, by (ii) the number of shares of common stock deemed outstanding immediately after such issue
or sale. Notwithstanding the foregoing, there is not required to be an adjustment in the exercise
price of the Series B or Series D warrants as a result of any issuance or sale (or deemed issuance
or sale) of:
(i) shares of common stock issued upon conversion of the Preferred Stock;
(ii) shares of common stock issued upon the exercise of the Series B Warrants or the Series C
Warrants;
(iii) shares of common stock issued upon the exercise of options or other convertible
securities outstanding as of March 14, 2007;
(iv) securities issued pursuant to a board-approved (including at least one of the directors
appointed by the investors) bona fide acquisition of an entity by merger, purchase of substantially
all of the assets or other reorganization;
(v) shares of common stock issued to Catalyst Capital company pursuant to the options granted
under the Catalyst Letter Agreements;
(vi) shares of common stock or other securities issued as a dividend or distribution on, or in
connection with a split of or recapitalization of, any of the capital stock of the Company;
(vii) up to an aggregate of 800,000 shares of common stock reserved for issuance per year
pursuant to an option plan (subject to adjustment in the event of stock splits, stock
dividends, stock combinations, recapitalizations and like occurrences) and shares of common stock
reserved for issuance pursuant to an option plan in lieu of the repayment of certain
salary deferrals as approved by a majority of the board of director (including at least one of the
investor appointed directors), which foregoing shares may be subject to options or restricted stock
awards granted under an option plan; provided that any options that expire or terminate
unexercised or any restricted stock awards that are repurchased by the Company pursuant to the
terms of such award shall not be counted toward the maximum number set forth in this subparagraph
(vii) unless and until such shares are subject to new restricted stock awards (or new options)
pursuant to the terms of an option plan;
(viii) shares of common stock issued or issuable (including options to acquire such shares of
common stock) to suppliers or third party service providers in connection with the provision of
goods or services pursuant to transactions in the ordinary course of business and approved by a
majority of the board of directors, including at least one of the investor appointed directors;
(ix) shares of common stock issued or issuable in connection with bona-fide sponsored
research, collaboration, technology license, development, OEM, marketing or other similar
agreements or strategic partnerships or joint ventures entered into in the ordinary course of
business and approved by a majority of the board of directors, including at least one of the
investor appointed directors (and by at least a majority of the shares of Preferred Stock voting as a single class on a common equivalent basis, then outstanding,
if required pursuant to the Preferred Stock Certificates of Designation);
(x) securities issued in connection with a Public Offering;
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(xi) |
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1,000,000 incentive stock options or other share-based award in such amount to
Mr. James Lowrey, current chairman and chief executive officer of the Company, approved
at the August 14, 2009 meeting of the board in consideration for services rendered to
the Company; |
(xii) permitted issuances; or
(xiii) options (covering up to an aggregate of 330,000 shares of common stock) issued in
substitution for outstanding options.
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provided that the aggregate number of shares of common stock issued or issuable pursuant to clauses
(viii) and (ix) above shall not exceed 350,000 (or such greater or lesser number of shares as may
be approved by a majority of the board of directors (including at least one of the
investor-appointed directors) in any 12 month period.
As of November 3, 2009, 9,925,615 Series B and Series C warrants are outstanding. The Series
B and Series C warrants are exercisable commencing on the expiration of the Restriction Period, or
the time period beginning on the effective date of this registration statement and ending on the
date that is three years after the effective date.
Series D Warrants
In connection with the Series D preferred stock financing, we entered into Series D warrant
agreements on various dates during October 2009, with certain investors agreeing to issue and
deliver warrant certificates evidencing warrants to purchase an
aggregate of 2,817,070 shares of
common stock at the per share exercise price of $3.00.
The Series D warrants are exercisable commencing on the expiration of the restriction period,
or the time period beginning on the effective date of this registration statement and ending on the
date that is three years after the effective date.
If and whenever on or after the original issue date we issue or sell or are deemed to have
issued or sold any shares of our common stock for a consideration per share less than the exercise
price of the Series D warrant agreement in effect immediately prior to the time of such issuance,
then immediately upon such issuance or sale or deemed issuance or sale the exercise price shall be
reduced to the exercise price determined by dividing (i) the sum of (A) the product derived by
multiplying the exercise price in effect immediately prior to such issuance or sale by the number
of shares of common stock deemed outstanding immediately prior to such issuance or sale, plus (B)
the consideration, if any, received by the Company upon such issuance or sale, by (ii) the number
of shares of common stock deemed outstanding immediately after such issue or sale. Notwithstanding
the foregoing, there is not required to be an adjustment in the exercise price of the Series D
warrants as a result of any issuance or sale (or deemed issuance or sale) of:
(i) shares of common stock issued upon conversion of the Preferred Stock;
(ii) shares of common stock issued upon the exercise of the Series D Warrants;
(iii) shares of common stock issued upon the exercise of options or other convertible
securities outstanding as of March 14, 2007;
(iv) securities issued pursuant to a board-approved (including at least one of the directors
appointed by the investors) bona fide acquisition of an entity by merger, purchase of substantially
all of the assets or other reorganization;
(v) shares of common stock issued to Catalyst company pursuant to the options granted under
the Catalyst Letter Agreements;
(vi) shares of common stock or other securities issued as a dividend or distribution on, or in
connection with a split of or recapitalization of, any of the capital stock of the Company;
(vii) up to an aggregate of 800,000 shares of common stock reserved for issuance per year
pursuant to an option plan (subject to adjustment in the event of stock splits, stock
dividends, stock combinations, recapitalizations and like occurrences) and shares of common stock
reserved for issuance pursuant to an option plan in lieu of the repayment of certain
salary deferrals as approved by a majority of the board of director (including at least one of the
investor appointed directors), which foregoing shares may be subject to options or restricted stock
awards granted under an option plan; provided that any options that expire or terminate
unexercised or any restricted stock awards that are repurchased by the Company pursuant to the
terms of such award shall not be counted toward the maximum number set forth in this subparagraph
(vii) unless and until such shares are subject to new restricted stock awards (or new options)
pursuant to the terms of an option plan;
(viii) shares of common stock issued or issuable (including options to acquire such shares of
common stock) to suppliers or third party service providers in connection with the provision of
goods or services pursuant to
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transactions in the ordinary course of business and approved by a majority of the board of
directors, including at least one of the investor appointed directors;
(ix) shares of common stock issued or issuable in connection with bona-fide sponsored
research, collaboration, technology license, development, OEM, marketing or other similar
agreements or strategic partnerships or joint ventures entered into in the ordinary course of
business and approved by a majority of the board of directors, including at least one of the
investor appointed directors (and by at least a majority of the shares of Preferred Stock voting as a single class on a common equivalent basis, then outstanding,
if required pursuant to the Preferred Stock Certificates of Designation);
(x) securities issued in connection with a public offering;
(xi) 1,000,000 incentive stock options or other share-based award in such amount to
Mr. James Lowrey, current chairman and chief executive officer of the Company, approved
at the August 14, 2009 meeting of the board in consideration for services rendered to
the Company;
(xii) permitted issuances; or
(xiii) options (covering up to an aggregate of 330,000 shares of common stock) issued in
substitution for outstanding options.
provided that the aggregate number of shares of common stock issued or issuable pursuant to clauses
(viii) and (ix) above shall not exceed 350,000 (or such greater or lesser number of shares as may
be approved by a majority of the board of directors (including at least one of the
investor-appointed directors) in any 12 month period.
As
of November 3, 2009, 2,187,070 Series D warrants are outstanding. The Series D warrants
are exercisable commencing on the expiration of the restriction period, or the time period
beginning on the effective date of this registration statement and ending on the date that is three
years after the effective date.
Registration Rights
According to the terms of a Registration Rights Agreement, dated March 14, 2007, as amended
from time to time (the Registration Rights Agreement), our holders of Series A, Series B, Series C and Series D preferred shares, the
Series B Warrants, Series C and Series D Warrants are entitled to demand, piggyback, and Form S-3
registration rights. The stockholders who are a party to the Registration Rights Agreement, from
time to time (the Securityholders) will hold an aggregate
of 3,510,638 shares of our common stock
upon completion of this offering and the conversion of all existing series of our preferred stock
and exercise of warrants into shares of our common stock that are subject to the registration
rights under that Registration Rights Agreement.
Demand Registration Rights
At any time following the earlier of the fifth anniversary of the date of the agreement and
six months after the Company has completed its initial public offering of common stock pursuant to
a registration statement declared effective under the Securities Act, the holders holding at least
30% of the registrable securities have the right, under our Registration Rights Agreement, to
require that we register all or a portion of their registrable securities (provided that the
aggregate offering price of the registrable securities to be registered is at least $30,000,000) on
Form S-1 or any similar long-form registration or, if available, holders holding at least 50% of
the registrable securities may, request registration under the Securities Act of all or a portion
of their registrable securities on Form S-3 or any similar short form registration. The
underwriters of any underwritten offering have the right to limit the number of shares to be
included in a registration statement filed in response to the exercise of these demand registration
rights. We must pay all expenses, except for underwriters discounts and commissions, incurred in
connection with these demand registration rights.
Piggyback Registration Rights
If we register any securities for public sale after this offering, our Securityholders have
piggyback registration rights under our Registration Rights Agreement and the right to include
their shares in the registration, subject to specified exceptions. The underwriters of any
underwritten offering have the right to limit the number of shares
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registered by these holders. We must pay all expenses, except for underwriters discounts and
commissions, incurred in connection with these piggyback registration rights.
Form S-3 Registration Right
Our Securityholders have the right, under our Registration Rights Agreement, to require that
we register all or a portion of their shares of common stock on Form S-3 if we are eligible to file
a registration statement on that form provided that the aggregate offering price of the registrable
securities to be registered is at least $1,000,000 for each registration and the Company will not
be required to cause more than three such short-form registrations to become effective in any 12
month period. The other stockholders who are a party to the Registration Rights Agreement may also
include their shares in any such registration. We must pay all registration expenses, as defined
in the agreement, for all registrations on Form S-3 which are demand registrations under the
terms of the agreement.
Investor Rights Agreement with Rutgers University
Pursuant
to a registration rights agreement with Rutgers, The State University of New Jersey
(Rutgers), dated December 13, 2004, if we propose to register any shares of our common stock, excluding
(i) an initial public offering of the common stock resulting in net proceeds to us of at least
$10,000,000, (ii) a registration on Form S-8 or S-4 or any successor or similar form which includes
substantially the same information as would be required to be included in a registration statement
covering the sale of the common stock, or (iii) a registration statement related to common stock
issuable upon exercise of employee stock options or with any employee benefit or similar plan of
ours) Rutgers will have the right to include their shares in the registration, subject to specified
exceptions. If the piggyback registration involves an underwritten public offering of the common
stock, the number of shares requested to be included in such an underwriting by Rutgers may be
reduced if and to the extent that the managing underwriter is of the opinion that such inclusion
would adversely affect the marketing of the securities to be sold by the Company or the holders of
securities exercising demand registration rights.
Securityholders Agreement
Our investors under each of the Series A, B, C and D preferred stock (together, the Preferred
Stock Investors) have agreed to abide by certain agreements providing rights and restrictions
related to our securities pursuant to a Securityholders Agreement (the Stockholders Agreement)
originally executed on March 14, 2007, as amended from time to time, and most recently amended on
November 9, 2009 (the Second Amended And Restated
Securityholders Agreement). The Second Amended and Restated Securityholders Agreement will terminate, and all rights and
obligations under the agreement will terminate on the effective date of this registration
statement, except for the holdback provisions described below, drag-along obligations and other
certain provisions more particularly described in our First Amendment to the Second Amended and
Restated Securityholders Agreement with our securityholders, included as an exhibit to this
registration statement.
Restrictions on transfer
The Second Amended And Restated Securityholders Agreement provides no Securityholder is
permitted to transfer any of Securityholders securities except (i) in accordance with the terms
and conditions of the agreement or (ii) to any permitted transferee. The agreement provides
neither Messrs. Brian Mayo, William Mayo and Walter Helfrecht are permitted to transfer any of
management Securityholders securities other than to a permitted transferee until March 14, 2012.
Each Securityholder agrees not to, directly or indirectly, transfer any of such
Securityholders Securities (as defined in the Securityholders Agreement) to any person whose
activities, products or services directly compete with the activities, products or services of the
Company as reasonably determined in good faith by the board as of the date of such proposed
transfer; provided that the foregoing limitation shall not apply to transfers registered under the
Securities Act or Rule 144 promulgated thereunder. We may impose stop transfer instructions with
its transfer agent in order to enforce the foregoing limitation.
Holdback
Each Securityholder has agreed not to effect any public sale or distribution (including sales
pursuant to Rule 144 promulgated under the Securities Act (as such rule may be amended from time to
time)) of common stock, or to lend, offer, pledge, contract to sell, sell any option or contract to
purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase,
or otherwise transfer or dispose of, directly or indirectly, any common stock, or enter into any
swap or other arrangement that transfers to another, in whole or in part, any of the economic
consequences associated with ownership of the common stock, during the period beginning on the
effective date of the registration statement relating to the initial public offering and ending on
the following dates:
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(i) for holders of an aggregate of 2,500 or greater shares of common stock and preferred stock
(on an as-converted basis), the date that is one (1) year after the public offering effective date;
and
(ii) for holders of less than an aggregate of 2,500 shares of common stock and preferred stock
(on an as-converted basis), the date that is 180 days after the public
offering effective date.
Each Securityholder has agreed to execute a standard lock-up agreement reflecting the
foregoing. In order to enforce the foregoing, we may impose stop-transfer instructions with
respect to the securities of each Securityholder until the end of such period.
Right Of First Refusal And Co-Sale Right
Each Preferred Stock Investor has agreed to provide (i) each Preferred Stockholder and (ii)
the Company a right of first refusal (a Right of First Refusal) to purchase any or all Securities
which such Securityholder (the Selling Securityholder) may, from time to time, propose to
transfer (other than with respect to a transfer to a permitted transferee).
Voting Agreement
The Preferred Stock Investors have agreed to vote all of its shares of Preferred Stock and
Common Stock and any other voting Securities of the Company over which such Securityholder has
voting control and to take all other necessary or desirable actions within its control (whether in
its capacity as a stockholder, director, member of a committee of the board or otherwise, and
including, without limitation, attendance at meetings in person or by proxy for purposes of
obtaining a quorum and execution of written consents in lieu of meetings), and the Company will
take all necessary or desirable actions within its control (including, without limitation, calling
special board and stockholder meetings), so that:
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the authorized number of directors on the board will be established at, and
remain during the term of this Agreement fixed at, 11 directors, except for any
increases in the size of the board provided for upon the occurrence of certain
events set forth in the Certificate of Incorporation; |
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for so long as any shares of Preferred Stock or Conversion Common Shares remain
outstanding, three persons nominated by the holders of a majority of shares of
common stock (on a fully-diluted basis) held by the Preferred Stock Investors will
be elected to the board; |
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if any investor appointed director ceases to serve as a member of the board
during his or her term of office, whether due to such directors death, resignation
or removal then the resulting vacancy shall be filled by a representative
designated by the holders of a majority of shares of Preferred Stock and Conversion
Common Shares held by the Preferred Stock Investors; and |
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no investor appointed director will be removed from the board without the
written consent of the holders of a majority of shares of Preferred Stock and
Conversion Common Shares (voting on a common stock equivalent basis) held by the
Preferred Stockholders. |
Miscellaneous Registration Rights
We granted our former consultant Catalyst piggyback registration rights in connection with the
shares underlying option received by Catalyst or its assigns under the consulting agreement with
Catalyst dated May 31, 2007. The registration rights agreement provides if we determine to
register any of our common stock other than a registration relating solely to employee benefit
plans or s registration on Form S-4 relating solely to a Rule 145 transaction, we will promptly
give Catalyst written notice thereof and Catalyst will have the right to include its shares in the
registration statement and sell its shares of common stock in the offering at no additional cost to
Catalyst. The registration rights are subject to limitation or elimination if a representative of
the underwriters of an offering advises us in writing that marketing factors require a limitation
or elimination on the number of shares to be included in the registration statement.
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Market Information
Our common stock is not presently quoted or traded on an exchange. We intend to apply for the
listing of our common stock on the NASDAQ Capital Market. We believe that following the closing of
the offering we will satisfy the eligibility criteria for listing our common stock on NASDAQ, and
expect such listing to occur concurrently with this offering. However, no assurance can be given
that we will continue to satisfy such eligibility criteria or be listed on NASDAQ.
Transfer Agent
We have not yet engaged a transfer agent and registrar for our common stock. We intend to
engage BNY Mellon Shareholder Services as our transfer agent and registrar prior to the closing to
facilitate the closing of the offering.
Anti-Takeover Law, Limitations of Liability and Indemnification
Delaware Anti-Takeover Law. We are subject to the provisions of Section 203 of the Delaware
General Corporation Law concerning corporate takeovers. This section prevents many Delaware
corporations from engaging in a business combination with any interested stockholder, under
specified circumstances. For these purposes, a business combination includes a merger or sale of
more than 10% of our assets, and an interested stockholder includes a stockholder who owns 15% or
more of our outstanding voting stock, as well as affiliates and associates of these persons. Under
these provisions, this type of business combination is prohibited for three years following the
date that the stockholder became an interested stockholder unless:
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the transaction in which the stockholder became an interested stockholder is
approved by the board of directors prior to the date the interested stockholder
attained that status; |
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upon consummation of the transaction that resulted in the stockholders becoming
an interested stockholder, the interested stockholder owned at least 85% of the
voting stock of the corporation outstanding at the time the transaction was
commenced, excluding those shares owned by persons who are directors and also
officers; or |
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on or subsequent to that date, the business combination is approved by the board
of directors and authorized at an annual or special meeting of stockholders by the
affirmative vote of at least two-thirds of the outstanding voting stock that is not
owned by the interested stockholder. |
This statute could prohibit or delay mergers or other takeover or change in control attempts
and, accordingly, may discourage attempts to acquire us.
Limited Liability and Indemnification. Our certificate of incorporation and amended and
restated by-laws eliminate the personal liability of our directors for monetary damages arising
from a breach of their fiduciary duty as directors to the fullest extent permitted by Delaware law.
This limitation does not affect the availability of equitable remedies, such as injunctive relief
or rescission. Our certificate of incorporation requires us to indemnify our directors and
officers to the fullest extent permitted by Delaware law, including in circumstances in which
indemnification is otherwise discretionary under Delaware law.
Under Delaware law, we may indemnify our directors or officers or other persons who were, are
or are threatened to be made a named defendant or respondent in a proceeding because the person is
or was our director, officer, employee or agent, if we determine that the person:
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conducted himself or herself in good faith; |
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reasonably believed, in the case of conduct in his or her official capacity as
our director or officer, that his or her conduct was in our best interests, and, in
all other cases, that his or her conduct was at least not opposed to our best
interests; and |
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in the case of any criminal proceeding, had no reasonable cause to believe that
his or her conduct was unlawful. |
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These persons may be indemnified against expenses, including attorneys fees, judgments, fines,
including excise taxes, and amounts paid in settlement, actually and reasonably incurred, by the
person in connection with the proceeding. If the person is found liable to the corporation, no
indemnification shall be made unless the court in which the action was brought determines that the
person is fairly and reasonably entitled to indemnity in an amount that the court will establish.
Insofar as indemnification for liabilities under the Securities Act may be permitted to
directors, officers or persons controlling us pursuant to the above provisions, we have been
informed that, in the opinion of the SEC, such indemnification is against public policy as
expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment of expenses incurred or paid by a
director, officer or controlling person in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in connection with the
securities being registered, we will, unless in the opinion of our counsel the matter has been
settled by controlling precedent, submit to a court of appropriate jurisdiction the question
whether such indemnification by us is against public policy as expressed in the Securities Act and
will be governed by the final adjudication of such issue.
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CERTAIN UNITED STATES FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of certain material U.S. federal income tax consequences of the
ownership of the debentures and the shares of common stock into which the debentures may be
converted, as of the date of this prospectus. This summary deals only with a debenture or share of
common stock held as a capital asset (generally, property held for investment). This summary is
based upon the provisions of the Internal Revenue Code of 1986 (the Code), and regulations,
rulings and judicial decisions thereunder as of the date hereof, and such authorities may be
subject to different interpretations or may be changed, perhaps retroactively, so as to result in
U.S. federal income tax consequences different from those discussed below. This summary does not
address all aspects of U.S. federal income taxes and does not deal with all tax consequences that
may be relevant to holders in light of their particular circumstances. This summary does not deal
with special situations, such as:
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tax consequences to holders who may be subject to special tax treatment, such as
dealers in securities or currencies, financial institutions, regulated investment
companies, real estate investment trusts, tax-exempt entities, insurance companies, or
traders in securities that elect to use a mark-to-market method of accounting for their
securities; |
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tax consequences to persons holding debentures as a part of a hedging, integrated,
conversion or constructive sale transaction, a straddle or other risk reduction
transaction; |
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tax consequences to U.S. holders (as defined below) of debentures or shares of
common stock whose functional currency is not the U.S. dollar; |
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tax consequences to investors in partnerships and other pass-through entities; |
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alternative minimum tax consequences, if any; |
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tax consequences to expatriates and certain former U.S. citizens or long-term
residents of the U.S.; |
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estate or gift tax consequences; and |
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any state, local or foreign tax consequences. |
If you are considering the purchase of debentures or common stock, you should consult your tax
advisor concerning the U.S. federal income tax consequences to you in light of your particular
situation as well as any consequences arising under the laws of any other taxing jurisdiction.
As used herein, the term U.S. holder means a beneficial owner of debentures or shares of
common stock that is, for U.S. federal income tax purposes:
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an individual citizen or resident of the U.S.; |
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a corporation (or any other entity treated as a corporation for U.S. federal income
tax purposes) created or organized in or under the laws of the U.S., any state thereof
or the District of Columbia; |
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an estate the income of which is subject to U.S. federal income taxation regardless
of its source; or |
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a trust, if it (i) is subject to the primary supervision of a court within the U.S.
and one or more U.S. persons have the authority to control all substantial decisions of
the trust or (ii) has a valid election in effect under applicable U.S. Treasury
regulations to be treated as a U.S. person. |
A non-U.S. holder is a beneficial owner of debentures or shares of common stock (other than
a partnership) that is not a U.S. holder. If a partnership (including any entity classified as a
partnership for U.S. federal income tax purposes) holds the debentures or common stock, the tax
treatment of a partner generally will depend upon the status of the partner and the activities of
the partnership. If you are a partnership or a partner in a partnership holding the debentures or
common stock, you should consult your own tax advisors.
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Consequences to U.S. holders
Payment of interest
Interest on a debenture will generally be taxable to you as ordinary income at the time it is
paid or accrued in accordance with your usual method of accounting for tax purposes.
Market Discount
If you purchase a debenture for an amount that is less than its issue price, subject to a de
minimis exception you will be treated as having purchased the debenture at a market discount. In
such case, you will be required to treat any payment on, or any gain realized on the sale, exchange
or other disposition of, the debenture as ordinary income to the extent of the lesser of (i) the
amount of such payment or realized gain or (ii) the market discount accrued on the debenture while
held by you and not previously included in income; you also may be required to defer the deduction
of all or a portion of any interest paid or accrued on indebtedness incurred or maintained to
purchase or carry the debenture. Alternatively, you may elect (with respect to the debenture and
all your other market discount obligations) to include market discount in income currently as it
accrues. Market discount is considered to accrue ratably during the period from the date of
acquisition to the maturity date of the debenture, unless you elect to accrue market discount on
the basis of a constant interest rate. Amounts includible in income as market discount are
generally treated as ordinary interest income.
Amortizable Bond Premium
If you purchase a debenture for an amount in excess of its principal amount, you will be
treated as having purchased the debenture with amortizable bond premium equal in amount to such
excess. You may elect (with respect to the debenture and all your other obligations with
amortizable bond premium) to amortize such premium using a constant yield method over the remaining
term of the debenture and may offset interest income otherwise required to be included in respect
of the debenture during any taxable year by the amortized amount of such excess for the taxable
year. An election to amortize bond premium applies to all taxable debt obligations then owned and
thereafter acquired by the holder and may be revoked only with the consent of the Internal Revenue
Service. If you do not elect to amortize bond premium, that premium will decrease the gain or
increase the loss you would otherwise recognize on the disposition of the debenture.
Constant Yield Method
In lieu of accounting for market discount and amortizable bond premium separately, you may
elect to include in income all interest that accrues on the debenture (including market discount
and adjusted for amortizable bond premium) using a constant yield method under which the debenture
would be treated as if issued on your purchase date for an amount equal to your adjusted basis in
the debenture immediately after your purchase of the debenture. Such an election will simplify the
computation and reporting of income from a debenture and will effectively permit you to report
income using the accrual method and a constant yield.
Sale, exchange, redemption or other disposition of debentures
Except as provided below under Exchange of debentures into cash or common stock and cash,
you will generally recognize gain or loss upon the sale, exchange, redemption or other disposition
of a debenture equal to the difference between the amount realized upon the sale, exchange,
redemption or other disposition and your adjusted tax basis in the debenture. Your tax basis in a
debenture will generally be equal to the amount you paid for the debenture, increased by any market
discount included in gross income with respect to the debenture and decreased by any amortizable
bond premium and any payments received on the debenture other than qualified stated interest. For
these purposes, the amount realized does not include any amount attributable to accrued interest,
which amount would be taxable as interest (to the extent not previously included in your income) as
described under Payment of interest above. Any gain you recognize on a taxable disposition of
the debenture generally will be capital gain, except to the extent that there is accrued market
discount on the debenture that has not previously been included in your income, which will be
treated as ordinary income as described under Market Discount, above. Any capital gain or loss
will be long-term capital gain or loss if you have held the debenture for more than one year.
Long-term capital gains of non-corporate holders currently are subject to reduced rates of
taxation. Your ability to deduct capital losses may be limited.
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Exchange of debentures into cash or common stock and cash
If you receive solely cash in exchange for your debentures upon conversion, your gain or loss
generally will be determined in the same manner as if you disposed of the debenture in a taxable
disposition (as described above under Sale, exchange, redemption or other disposition of
debentures).
Conversion of debentures
You will generally not recognize any income, gain or loss upon conversion of a debenture into
common stock except to the extent that the common stock is considered attributable to accrued
interest not previously included in your taxable income (which is taxable as ordinary income) or
with respect to cash received in lieu of a fractional share of common stock. Your tax basis in the
common stock received on conversion of a debenture will be the same as your adjusted tax basis in
the debenture at the time of conversion (reduced by any basis allocable to a fractional share
interest), and the holding period of the common stock will include the holding period of the
converted debenture. However, your tax basis in shares of the common stock considered attributable
to any accrued interest generally will equal the amount of the accrued interest included in income,
and the holding period for such common stock will begin on the date of conversion. An adjustment
of the conversion ratio of the debentures, in some circumstances, could be treated as a
constructive distribution, as discussed below.
Constructive distributions
The conversion rate of the debentures will be adjusted in certain circumstances. Under
Section 305(c) of the Code, adjustments (or failures to make adjustments) may in some circumstances
result in a deemed distribution to holders of debentures (or our common stock). Adjustments to the
conversion rate made pursuant to a bona fide reasonable adjustment formula that has the effect of
preventing the dilution of the interest of the holders of the debentures, however, will generally
not be considered to result in a deemed distribution to you. Certain of the possible conversion
rate adjustments provided in the debentures (including, without limitation, adjustments in respect
of taxable dividends to holders of our common stock) will not qualify as being pursuant to a bona
fide reasonable adjustment formula. If such adjustments are made, you will be deemed to have
received a distribution even though you have not received any cash or property as a result of such
adjustments. Any deemed distributions will be taxable as a dividend, return of capital, or capital
gain in the manner described below under Dividends. It is not clear whether a constructive
dividend deemed paid to you would be eligible for the preferential rates of U.S. federal income tax
applicable in respect of certain dividends received. It is also unclear whether corporate holders
would be entitled to claim the dividends received deduction with respect to any such constructive
dividends.
Dividends
Distributions, if any, made on our common stock generally will be included in income as
ordinary dividend income to the extent of our current and accumulated earnings and profits.
However, with respect to individuals, for taxable years beginning before January 1, 2011, such
dividends are generally taxed at the lower applicable long-term capital gains rates provided
certain holding period requirements are satisfied. Distributions in excess of our current and
accumulated earnings and profits will be treated as a return of capital to the extent of your
adjusted tax basis in the common stock and thereafter as capital gain from the sale or exchange of
such common stock. Dividends received by a corporation may be eligible for a dividends received
deduction, subject to applicable limitations.
Sale, exchange, redemption or other taxable disposition of common stock
Upon the sale, taxable exchange or other taxable disposition of our common stock, you
generally will recognize capital gain or loss equal to the difference between (i) the amount of
cash and the fair market value of any property received upon such taxable disposition and (ii) your
adjusted tax basis in the common stock. Such capital gain or loss will be long-term capital gain
or loss if your holding period in the common stock is more than one year at the time of the taxable
disposition. Long-term capital gains recognized by non-corporate holders generally are subject to
a reduced rate of U.S. federal income tax. The deductibility of capital losses is subject to
limitations.
Information reporting and backup withholding
Information reporting requirements generally will apply to payments of interest on the
debentures and dividends on shares of common stock and to the proceeds of a sale of a debenture or
share of common stock paid to you, unless you are an exempt recipient, such as a corporation.
Backup withholding will apply to those payments if you
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fail to provide your taxpayer identification number or otherwise fail to comply with
applicable requirements to establish an exemption. Any amounts withheld under the backup
withholding rules will be allowed as a refund or a credit against your U.S. federal income tax
liability provided the required information is furnished timely to the Internal Revenue Service.
Consequences to non-U.S. holders
Payments of interest
The 30% U.S. federal withholding tax will not be applied to any payment to you of interest
provided that:
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interest paid on the debenture is not effectively connected with your conduct of a
trade or business in the U.S.; |
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you do not actually or constructively own 10% or more of the total combined voting
power of all classes of our stock that are entitled to vote within the meaning of
section 871(h)(3) of the Code; |
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you are not a controlled foreign corporation that is related to us (actually or
constructively) through stock ownership; |
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(i) you provide your name and address, and certify, under penalties of perjury, that
you are not a U.S. person (which certification may be made on an Internal Revenue
Service Form W-8BEN (or other applicable form)), or (ii) you hold your debentures
through certain foreign intermediaries or certain foreign partnerships, and you and
they satisfy the certification requirements of applicable U.S. Treasury regulations;
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you are not a bank whose receipt of interest on the debentures is described in
Section 881(c)(3)(A). |
Special certification rules apply to non-U.S. holders that are pass-through entities
If you cannot satisfy the requirements described above, payments of interest will be subject
to the 30% U.S. federal withholding tax, unless you provide us with a properly executed (i)
Internal Revenue Service Form W-8BEN (or other applicable form) claiming an exemption from or
reduction in withholding under an applicable income tax treaty or (ii) Internal Revenue Service
Form W-8ECI (or other applicable form) stating that interest paid on the debentures is not subject
to withholding tax because it is effectively connected with your conduct of a trade or business in
the U.S. If you are engaged in a trade or business in the U.S. and interest on the debentures is
effectively connected with the conduct of that trade or business and, if required by an applicable
income tax treaty, is attributable to a U.S. permanent establishment, then (although you will be
exempt from the 30% withholding tax provided the certification requirements discussed above are
satisfied) you will generally be subject to U.S. federal income tax on that interest on a net
income basis in the same manner as if you were a U.S. holder. In addition, if you are a foreign
corporation, you may be subject to a branch profits tax equal to 30% (or lesser rate under an
applicable income tax treaty) of your earnings and profits for the taxable year, subject to
adjustments, that are effectively connected with your conduct of a trade or business in the U.S.
Dividends and constructive distributions
Any dividends paid to you with respect to the shares of common stock (and any deemed dividends
resulting from certain adjustments, or failure to make adjustments, to the conversion rate, see
Consequences to U.S. holders Constructive distributions above) will be subject to withholding
tax at a 30% rate or such lower rate as may be specified by an applicable income tax treaty. In
the case of any deemed dividend, it is possible that the U.S. federal tax on this dividend would be
withheld from interest, shares of your common stock or sales proceeds subsequently paid or credited
to you. However, dividends that are effectively connected with the conduct of a trade or business
within the U.S. and, where a tax treaty applies, are attributable to a U.S. permanent
establishment, are not subject to the withholding tax, but instead are subject to U.S. federal
income tax on a net income basis at applicable graduated individual or corporate rates. Certain
certification requirements and disclosure requirements must be complied with in order for
effectively connected income to be exempt from withholding. Any such effectively connected income
received by a foreign corporation may, under certain circumstances, be subject to an additional
branch profits tax at a 30% rate or such lower rate as may be specified by an applicable income tax
treaty.
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A non-U.S. holder who wishes to claim the benefit of an applicable treaty rate is required to
satisfy applicable certification and other requirements. If you are eligible for a reduced rate of
U.S. withholding tax pursuant to an income tax treaty, you may obtain a refund of any excess
amounts withheld by timely filing an appropriate claim for refund with the Internal Revenue
Service.
Sale, exchange, redemption, conversion or other disposition of debentures or shares of common stock
Gain on the sale, exchange, redemption or other taxable disposition of a debenture (as well as
upon the conversion of a debenture into cash or into a combination of cash and stock) or common
stock generally will not be subject to U.S. federal income tax unless:
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that gain is effectively connected with your conduct of a trade or business in the
U.S. (and, if required by an applicable income tax treaty, is attributable to a U.S.
permanent establishment); or |
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you are an individual who is present in the U.S. for 183 days or more in the taxable
year of that disposition, and certain other conditions are met. |
If you are described in the first bullet point above, you will be subject to tax on the net
gain derived from the sale, exchange, redemption, conversion or other taxable disposition under
regular graduated U.S. federal income tax rates. If you are a foreign corporation that falls under
the first bullet point above, you may be subject to the branch profits tax equal to 30% of your
effectively connected earnings and profits, or at such lower rate as may be specified by an
applicable income tax treaty.
If you are described in the second bullet point above, you will be subject to a flat 30% tax
on the gain derived from the sale, exchange, redemption, conversion or other taxable disposition,
which may be offset by U.S. source capital losses, even though you are not considered a resident of
the U.S.
Any stock which you receive on the sale, exchange, redemption, conversion or other disposition
of a debenture which is attributable to accrued interest will be subject to U.S. federal income tax
in accordance with the rules for taxation of interest described above under Consequences to
non-U.S. holders Payments of interest.
Information reporting and backup withholding
Generally, we must report annually to the Internal Revenue Service and to you the amount of
interest and dividends paid to you and the amount of tax, if any, withheld with respect to those
payments. Copies of the information returns reporting such interest, dividends and withholding may
also be made available to the tax authorities in the country in which you reside under the
provisions of an applicable income tax treaty.
In general, you will not be subject to backup withholding with respect to payments of interest
or dividends that we make to you, provided the statement described above in the last bullet point
under Consequences to non-U.S. holders Payments of interest has been received (and we do not
have actual knowledge or reason to know that you are a U.S. person, as defined under the Code, that
is not an exempt recipient).
In addition, you will be subject to information reporting and, depending on the circumstances,
backup withholding with respect to payments of the proceeds of the sale of a debenture or share of
common stock within the U.S. or conducted through certain U.S.-related financial intermediaries,
unless the statement described above has been received (and we do not have actual knowledge or
reason to know that you are a U.S. person, as defined under the Code, that is not an exempt
recipient) or you otherwise establish an exemption.
Any amounts withheld under the backup withholding rules will be allowed as a refund or a
credit against your U.S. federal income tax liability, provided the required information is
furnished timely to the Internal Revenue Service.
SHARES ELIGIBLE FOR FUTURE SALE
The sale, or availability for sale, of a substantial number of shares of common stock in the
public market subsequent to this offering pursuant to Rule 144 of the Securities Act or otherwise
could materially adversely affect the market price of our common stock and could impair our ability
to raise additional capital through the sale of equity securities or debt financing. Upon
completion of this offering, there will be approximately 8,277,794 shares of common
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stock issued and outstanding, excluding 500,000 shares of common stock which may be sold by us
if we exercise our over-subscription option. Of these shares, 2,000,000 would be freely
transferable immediately. Our executive officers and directors beneficially own 3,431,490 shares,
which would be eligible for resale subject to the volume and manner of sale limitations of Rule 144
of the Securities Act. Upon the conversion of our outstanding preferred stock
into shares of common stock, an additional 2,846,305 shares are restricted securities, as that term is
defined in Rule 144, and will be eligible for sale under the
provision of Rule 144 following expiration of the lock-ups.
Stock options to purchase an aggregate of 1,977,274 shares of common stock were outstanding
under our Amended and Restated 2004 Stock Option Plan as of November 3, 2009. Warrants to purchase
an aggregate of 13,078,685 shares of common stock (for which cash would need to be remitted to us
for exercise) were outstanding as of November 3, 2009.
The shares of common stock outstanding that are deemed to be restricted securities (as that
term is defined under Rule 144) or that are owned by our affiliates may only be sold pursuant to an
effective registration statement under the Securities Act, in compliance with the exemption
provisions of Rule 144 or pursuant to another exemption under the Securities Act. Restricted
shares and shares of common stock held by our affiliates that are not restricted will be eligible
for sale, under Rule 144, subject to certain volume and manner of sale limitations prescribed by
Rule 144. In general, under Rule 144 as currently in effect, a person (or persons whose shares are
required to be aggregated), including a person who may be deemed an affiliate of the company, who
has beneficially owned restricted securities for at least six months may sell, within any
three-month period, a number of shares that does not exceed the greater of: (i) 1% of the then
outstanding shares of common stock or (ii) the average weekly trading volume of the common stock
during the four calendar weeks preceding the date on which notice of such sale was filed under Rule
144. Sales of shares held by our affiliates that are not restricted are subject to such volume
limitations, but are not subject to the holding period requirement. Sales under Rule 144 are also
subject to certain requirements as to the manner of sale, notice and availability of current public
information about our company. A person who is not deemed to have been an affiliate of our company
at any time during the 90 days preceding a sale by such person, and who has beneficially owned the
restricted shares for at least six months, is entitled to sell such shares under Rule 144 without
regard to any of the restrictions described above.
Following this offering, we cannot predict the effect, if any, that the availability for sale
of shares held by our current stockholders will have on the market price from time to time.
Nevertheless, sales by our current stockholders of a substantial number of shares of common stock
in the public market could materially and adversely affect the market price for our common stock.
In addition, the availability for sale of a substantial number of shares of our common stock
acquired through the exercise of outstanding stock options or warrants could materially adversely
affect the market price of our common stock.
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PLAN OF DISTRIBUTION
We are offering up to 2,000,000 shares of common stock and up to $5,000,000 in principal
amount of debentures on a self-underwritten best efforts basis. In the discretion of our board
of directors we may offer an additional 500,000 shares of common stock and an additional $1,000,000
in principal amount of debentures.
The
initial public offering price of shares of our common stock and
conversion price for the debentures was determined by our board of
directors and management. Among the factors considered in determining the initial public offering
price were our future prospects and those of our industry in general, and certain other financial
and operating information in recent periods, and other financial and operating information of
companies engaged in activities similar to ours. We cannot assure you, however, that the prices at
which the shares will sell in the public market after this offering will not be lower than the
initial public offering price or debenture conversion price or that an active trading market in our common stock will develop and
continue after this offering.
We intend to use the proceeds of this offering, net of offering expenses, to finance possible
acquisitions of, or investments in, competitive businesses, products and technologies as a part of
our growth strategy, to repay certain outstanding debt, including certain outstanding amounts due
under a settlement agreement, and for working capital and general corporate purposes.
We are not required to sell any specific number or dollar amount of securities but will
attempt to sell all of the securities offered.
Investors
in this offering may elect to purchase shares of common stock or debentures or a combination of common stock and debentures.
There is currently no public or other trading market in the U.S. for our shares of common
stock, and we cannot give any assurance to you that the securities offered by this prospectus will
have a market value, or that they can be resold for at least the offered price if and when an
active secondary market might develop, or that a public market for our shares will be sustained
even if one is ultimately developed.
Our securities will be sold on our behalf by our officers and directors. Potential investors
include, but are not limited to, friends, family members and business acquaintances of our officers
and directors. The intended methods of communication include, without limitation, telephone calls
and personal contacts. In their efforts, our officers and directors will not use any mass
advertising methods such as the Internet or print media. Our officers and directors (including any
of their affiliates) will not receive any commissions or proceeds from the offering for selling the
shares on our behalf. We have not engaged the services of any broker/dealer to assist us in
selling the shares.
They will not register as a broker/dealer under Section 15 of the Exchange Act in reliance
upon Rule 3a4-1. Rule 3a4-1 sets forth those conditions under which a person associated with an
issuer may participate in the offering of the issuers securities and not be deemed to be a
broker/dealer.
The conditions are that:
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the person is not statutorily disqualified, as that term is defined in Section
3(a)(39) of the Exchange Act, at the time of his participation; |
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the person is not compensated in connection with his participation by the
payment of commissions or other remuneration based either directly or indirectly on
transactions in securities; |
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the person is not at the time of their participation, an associated person of a
broker/dealer; and |
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the person meets the conditions of paragraph (a)(4)(ii) of Rule 3a4-1 of the
Exchange Act, in that he (i) primarily performs, or is intended primarily to
perform at the end of the offering, substantial duties for or on behalf of the
issuer otherwise than in connection with transactions in securities, (ii) is not a
broker or dealer, or an associated person of a broker or dealer, within the
preceding 12 months, and (iii) does not participate in selling and offering of
securities for any issuer more than once every 12 months other than in reliance on
paragraphs (a)(4)(i) or (a)(4)(iii). |
Substantially
all of our directors, executive officers and stockholders have either entered into or agreed
to enter into lock-up agreements with us. Under those lock-up agreements, subject to exceptions,
those holders of such stock may not, directly or indirectly, offer, sell, contract to sell, pledge
or otherwise dispose of or hedge any common stock or securities convertible into or exchangeable
for shares of common stock, or publicly announce to do any of the foregoing, without our prior
written consent, for a period of one year, from the date of this prospectus. This consent
87
may be given at any time without public notice. Alternatively, minority stockholders holding
less than 2,500 shares of our common stock are subject to lock-up periods of 180 days under
agreements with us.
88
LEGAL MATTERS
Greenberg Traurig, P.A., Boca Raton, Florida, will pass upon the validity of the issuance of
the common stock and debentures offered by this prospectus as our counsel.
EXPERTS
The
financial statements for the years ended December 31, 2007 and
December 31, 2008 included in this prospectus have been audited by McGladrey & Pullen,
LLP, independent registered public accountants, to the extent and for the periods set forth in its
report appearing elsewhere herein and are included in reliance upon such report given upon the
authority of that firm as experts in auditing and accounting.
WHERE YOU CAN FIND ADDITIONAL INFORMATION
We have filed with the SEC a registration statement on Form S-1, including exhibits, under the
Securities Act with respect to the common stock and debentures to be sold in this offering. This
prospectus, which constitutes a part of the registration statement, does not contain all of the
information in the registration statement or the exhibits. Statements made in this prospectus
regarding the contents of any contract, agreement or other document are only summaries. With
respect to each contract, agreement or other document filed as an exhibit to the registration
statement, we refer you to the exhibit for a more complete description of the matter involved.
We are not currently subject to the informational requirements of the Securities Exchange Act
of 1934. As a result of the offering of the shares of our common stock and debentures, we will
become subject to the informational requirements of the Exchange Act and, in accordance therewith,
will file reports and other information with the SEC. You may read and copy all or any portion of
the registration statement or any reports, statements or other information in the files at the
public reference room of the SEC located at 100 F Street, N.E., Washington, D.C. 20549.
You can request copies of these documents upon payment of a duplicating fee by writing to the
SEC. You may call the SEC at 1-800-SEC-0330 for further information on the operation of its public
reference room. Our filings, including the registration statement, will also be available to you on
the web site maintained by the SEC at http://www.sec.gov.
We intend to furnish our stockholders with annual reports containing financial statements
audited by our independent auditors, and to make available to our stockholders quarterly reports
for the first three quarters of each year containing unaudited interim financial statements.
INDEMNIFICATION FOR SECURITIES ACT LIABILITIES
Section 145 of the Delaware General Corporation Law, as amended, authorizes us to indemnify
any director or officer under certain prescribed circumstances and subject to certain limitations
against certain costs and expenses, including attorneys fees actually and reasonably incurred in
connection with any action, suit or proceeding, whether civil, criminal, administrative or
investigative, to which a person is a party by reason of being one of our directors or officers if
it is determined that such person acted in accordance with the applicable standard of conduct set
forth in such statutory provisions. Our certificate of incorporation contains provisions relating
to the indemnification of director and officers and our Amended and Restated By-Laws extend such
indemnities to the full extent permitted by Delaware law. We may also purchase and maintain
insurance for the benefit of any director or officer, which may cover claims for which we could not
indemnify such persons.
Insofar as indemnification for liabilities arising under the Securities Act may be permitted
to directors, officers or persons controlling us pursuant to the foregoing provisions, or
otherwise, we have been advised that in the opinion of the SEC, such indemnification is against
public policy as expressed in the Securities Act and is, therefore, unenforceable.
There are not and have not been any disagreements between us and our accountants on any matter
of accounting principles, practices or financial statement disclosure during our two most recent
fiscal years and subsequent interim period.
89
XSTREAM SYSTEMS, INC.
INDEX TO FINANCIAL STATEMENTS
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Page |
Audited Financial Statements: |
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Report of Independent Registered Public Accounting Firm |
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F-2 |
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F-3 |
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F-4 |
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F-5 |
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F-6 |
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F-8 |
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Unaudited Financial Statements: |
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F-27 |
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F-28 |
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F-29 |
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F-30 |
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F-31 |
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F-1
Report of
Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of
XStream Systems, Inc.
Sebastian, Florida
We have audited the accompanying balance sheets of XStream Systems, Inc. as of December 31, 2008
and 2007, and the related statements of operations,
stockholders deficit and cash flows for each of the two
years in the period ended December 31, 2008. These financial statements are the responsibility of the Companys management.
Our responsibility is to express an opinion on these financial statements based on our audits.
We
conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our
opinion, the financial statements referred to above present fairly, in all material respects,
the financial position of XStream Systems, Inc. as of December 31, 2008 and 2007, and the results
of its operations and its cash flows for each of the two years in the
period ended December 31, 2008, in conformity with U.S. generally
accepted accounting principles.
The accompanying 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 suffered
recurring losses from operations, has a working capital deficiency, negative cash flows from
operations and its total liabilities exceed its total assets. This raises substantial doubt about
the Companys ability to continue as a going concern. Managements 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 described in Note 13 to the financial statements, the 2007 and prior financial statements
have been restated for errors in the application of accounting principles related to redeemable
preferred stock, income taxes, stock-based compensation and warrants.
/s/
McGladrey & Pullen, LLP
Orlando, Florida
September 16, 2009
F-2
XStream Systems, Inc.
Balance Sheets
December 31, 2008 and 2007
|
|
|
|
|
|
|
|
|
Assets |
|
2008 |
|
|
2007 |
|
|
Current Assets |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
120,478 |
|
|
$ |
1,784,452 |
|
Inventory |
|
|
175,721 |
|
|
|
221,895 |
|
Prepaid expenses |
|
|
31,802 |
|
|
|
18,673 |
|
|
|
|
Total current assets |
|
|
328,001 |
|
|
|
2,025,020 |
|
|
|
|
|
|
|
|
|
|
Property and Equipment, net |
|
|
282,616 |
|
|
|
407,083 |
|
Intangible Assets, net |
|
|
126,095 |
|
|
|
137,561 |
|
Deposits |
|
|
18,919 |
|
|
|
18,919 |
|
|
|
|
Total assets |
|
$ |
755,631 |
|
|
$ |
2,588,583 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders Deficit |
|
|
|
|
|
|
|
|
Current Liabilities
|
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
366,853 |
|
|
$ |
419,611 |
|
Accrued compensation |
|
|
253,871 |
|
|
|
324,306 |
|
Accrued expenses |
|
|
72,041 |
|
|
|
55,567 |
|
Customer deposits |
|
|
10,000 |
|
|
|
10,000 |
|
Notes payable stockholders |
|
|
89,185 |
|
|
|
354,448 |
|
Current portion of notes payable, net of discount |
|
|
2,507,500 |
|
|
|
2,181,944 |
|
|
|
|
Total current liabilities |
|
|
3,299,450 |
|
|
|
3,345,876 |
|
|
|
|
|
|
|
|
|
|
Notes Payable, net of current portion |
|
|
|
|
|
|
250,000 |
|
|
|
|
Total liabilities |
|
|
3,299,450 |
|
|
|
3,595,876 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Series A Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 962,101 shares authorized, issued and outstanding |
|
|
4,130,897 |
|
|
|
3,860,683 |
|
|
|
|
Series B Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 1,800,000 shares authorized and 1,619,127 and 1,281,019
shares
issued and outstanding 2008 and 2007, respectively, net of
preferred stock
subscription receivable of $0 and $100,000, respectively |
|
|
5,177,299 |
|
|
|
791,177 |
|
|
|
|
Series C Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 1,350,000 shares authorized, none issued and outstanding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders Deficit |
|
|
|
|
|
|
|
|
Common stock, $.0001 par value, 30,000,000 shares authorized,
1,702,156
shares issued and outstanding |
|
|
170 |
|
|
|
170 |
|
Additional paid-in capital |
|
|
3,021,994 |
|
|
|
6,354,602 |
|
Accumulated deficit |
|
|
(14,874,179 |
) |
|
|
(12,013,925 |
) |
|
|
|
Total stockholders deficit |
|
|
(11,852,015 |
) |
|
|
(5,659,153 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders deficit |
|
$ |
755,631 |
|
|
$ |
2,588,583 |
|
|
|
|
See Notes to Financial Statements.
F-3
XStream Systems, Inc.
Statements of Operations
Years Ended December 31, 2008 and 2007
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
439,000 |
|
|
$ |
135,000 |
|
Cost of revenues |
|
|
129,036 |
|
|
|
157,508 |
|
|
|
|
Gross profit (loss) |
|
|
309,964 |
|
|
|
(22,508 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses: |
|
|
|
|
|
|
|
|
General and administrative |
|
|
2,401,414 |
|
|
|
3,572,558 |
|
Research and development |
|
|
635,531 |
|
|
|
1,900,897 |
|
|
|
|
Total operating expenses |
|
|
3,036,945 |
|
|
|
5,473,455 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(2,726,981 |
) |
|
|
(5,495,963 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense): |
|
|
|
|
|
|
|
|
Interest income |
|
|
26,156 |
|
|
|
52,360 |
|
Interest expense |
|
|
(159,429 |
) |
|
|
(363,887 |
) |
|
|
|
Total other expense |
|
|
(133,273 |
) |
|
|
(311,527 |
) |
|
|
|
Loss before income taxes |
|
|
(2,860,254 |
) |
|
|
(5,807,490 |
) |
Income tax expense |
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
|
(2,860,254 |
) |
|
|
(5,807,490 |
) |
|
Preferred
stock dividend and accretion |
|
|
(4,138,384 |
) |
|
|
(422,586 |
) |
|
|
|
Net loss available to common stockholders |
|
$ |
(6,998,638 |
) |
|
$ |
(6,230,076 |
) |
|
|
|
Basic and diluted loss per share |
|
$ |
(4.11 |
) |
|
$ |
(3.68 |
) |
|
|
|
Weighted average share outstanding |
|
|
1,702,156 |
|
|
|
1,694,596 |
|
|
|
|
See Notes to Financial Statements.
F-4
XStream Systems, Inc.
Statement of Stockholders Deficit
Years Ended December 31, 2008 and 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional |
|
|
|
|
|
|
|
|
|
Common |
|
|
Paid-In Capital |
|
|
Accumulated |
|
|
|
|
|
|
Stock |
|
|
Common Stock |
|
|
Deficit |
|
|
Total |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance (deficit) at January 1, 2007, as previously
reported |
|
$ |
170 |
|
|
$ |
2,940,832 |
|
|
$ |
(3,822,207 |
) |
|
$ |
(881,205 |
) |
Adjustment applicable to prior years (See Note 13) |
|
|
|
|
|
|
238,583 |
|
|
|
(2,384,228 |
) |
|
|
(2,145,645 |
) |
|
|
|
Balance (deficit) at January 1, 2007, as restated |
|
|
170 |
|
|
|
3,179,415 |
|
|
|
(6,206,435 |
) |
|
|
(3,026,850 |
) |
Stock-based compensation expense |
|
|
|
|
|
|
424,462 |
|
|
|
|
|
|
|
424,462 |
|
Exercise of stock options |
|
|
|
|
|
|
9,774 |
|
|
|
|
|
|
|
9,774 |
|
Salary conversion for stock options |
|
|
|
|
|
|
245,939 |
|
|
|
|
|
|
|
245,939 |
|
Exercise of warrants |
|
|
|
|
|
|
5,850 |
|
|
|
|
|
|
|
5,850 |
|
Warrants issued in connection with Series B
Preferred
Stock, net of syndication costs |
|
|
|
|
|
|
2,701,169 |
|
|
|
|
|
|
|
2,701,169 |
|
Accretion of redemption value of preferred stock |
|
|
|
|
|
|
(212,007 |
) |
|
|
|
|
|
|
(212,007 |
) |
Net loss |
|
|
|
|
|
|
|
|
|
|
(5,807,490 |
) |
|
|
(5,807,490 |
) |
|
|
|
Balance (deficit) at December 31, 2007 |
|
|
170 |
|
|
|
6,354,602 |
|
|
|
(12,013,925 |
) |
|
|
(5,659,153 |
) |
Stock-based compensation expense |
|
|
|
|
|
|
235,326 |
|
|
|
|
|
|
|
235,326 |
|
Warrants issued in connection with Series B
Preferred
Stock |
|
|
|
|
|
|
781,029 |
|
|
|
|
|
|
|
781,029 |
|
Accretion of redemption value of preferred stock |
|
|
|
|
|
|
(4,348,963 |
) |
|
|
|
|
|
|
(4,348,963 |
) |
Net loss |
|
|
|
|
|
|
|
|
|
|
(2,860,254 |
) |
|
|
(2,860,254 |
) |
|
|
|
Balance (deficit) at December 31, 2008 |
|
$ |
170 |
|
|
$ |
3,021,994 |
|
|
$ |
(14,874,179 |
) |
|
$ |
(11,852,015 |
) |
|
|
|
See Notes to Financial Statements.
F-5
Xstream Systems, Inc.
Statements of Cash Flows
Years Ended December 31, 2008 and 2007
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
Cash Flows From Operating Activities |
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(2,860,254 |
) |
|
$ |
(5,807,490 |
) |
Adjustments to reconcile net loss to net cash used in operating
activities: |
|
|
|
|
|
|
|
|
Stock-based compensation expense |
|
|
235,326 |
|
|
|
424,462 |
|
Depreciation and amortization |
|
|
129,485 |
|
|
|
131,640 |
|
Amortization of discount on debentures |
|
|
|
|
|
|
177,097 |
|
Loss on disposal of property and equipment |
|
|
9,247 |
|
|
|
|
|
Interest added to notes payable |
|
|
125,556 |
|
|
|
100,000 |
|
Noncash issuance of options and preferred stock in lieu of
compensation |
|
|
115,347 |
|
|
|
235,742 |
|
Changes in assets and liabilities: |
|
|
|
|
|
|
|
|
(Increase) decrease in: |
|
|
|
|
|
|
|
|
Inventory |
|
|
46,174 |
|
|
|
(221,895 |
) |
Prepaid expenses |
|
|
(13,129 |
) |
|
|
17,337 |
|
Deposits |
|
|
|
|
|
|
(17,334 |
) |
Increase (decrease) in: |
|
|
|
|
|
|
|
|
Accounts payable |
|
|
(52,758 |
) |
|
|
222,445 |
|
Accrued compensation |
|
|
(34,603 |
) |
|
|
(4,525 |
) |
Accrued expenses |
|
|
16,474 |
|
|
|
53,231 |
|
Customer deposits |
|
|
|
|
|
|
(5,000 |
) |
|
|
|
Net cash used in operating activities |
|
|
(2,283,135 |
) |
|
|
(4,694,290 |
) |
|
|
|
Cash Flows From Investing Activities |
|
|
|
|
|
|
|
|
Purchase of property and equipment |
|
|
(2,999 |
) |
|
|
(274,450 |
) |
Proceeds from disposal of property and equipment |
|
|
200 |
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(2,799 |
) |
|
|
(274,450 |
) |
|
|
|
Cash Flows From Financing Activities |
|
|
|
|
|
|
|
|
Proceeds from stockholder loans |
|
|
|
|
|
|
1,356,000 |
|
Principal payments on stockholder loans |
|
|
(301,095 |
) |
|
|
(568,559 |
) |
Principal payments on notes payable |
|
|
(50,000 |
) |
|
|
|
|
Proceeds from the issuance of common stock |
|
|
|
|
|
|
15,624 |
|
Proceeds from the issuance of preferred stock |
|
|
898,974 |
|
|
|
5,148,204 |
|
Proceeds from preferred stock subscription receivable |
|
|
100,000 |
|
|
|
|
|
Payments for syndication costs |
|
|
(25,919 |
) |
|
|
(257,981 |
) |
Principal payments on capital leases |
|
|
|
|
|
|
(46,160 |
) |
|
|
|
Net cash provided by financing activities |
|
|
621,960 |
|
|
|
5,647,128 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents |
|
|
(1,663,974 |
) |
|
|
678,388 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents: |
|
|
|
|
|
|
|
|
Beginning |
|
|
1,784,452 |
|
|
|
1,106,064 |
|
|
|
|
Ending |
|
$ |
120,478 |
|
|
$ |
1,784,452 |
|
|
|
|
(Continued)
F-6
XStream Systems, Inc.
Statements of Cash Flows (Continued)
Years Ended December 31, 2008 and 2007
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
Supplemental Disclosures of Cash Flow Information |
|
|
|
|
|
|
|
|
Cash payments for: |
|
|
|
|
|
|
|
|
Interest |
|
$ |
23,103 |
|
|
$ |
83,060 |
|
|
|
|
Income taxes |
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental Schedule of Noncash Investing and Financing Activities |
|
|
|
|
|
|
|
|
Issuance of stock in exchange for note receivable for purchase of
preferred stock |
|
$ |
|
|
|
$ |
100,000 |
|
|
|
|
Reclassification of deferred salary to notes payable stockholders |
|
$ |
35,831 |
|
|
$ |
129,448 |
|
|
|
|
Exchange of debentures for preferred stock |
|
$ |
|
|
|
$ |
1,000,000 |
|
|
|
|
Exchange of short-term convertible notes for Series A preferred
stock |
|
$ |
|
|
|
$ |
375,000 |
|
|
|
|
Exchange of short-term convertible notes for Series B preferred
stock |
|
$ |
|
|
|
$ |
886,000 |
|
|
|
|
Reclassification of notes payable to notes payable to stockholders |
|
$ |
|
|
|
$ |
300,000 |
|
|
|
|
Issuance of options in exchange for deferred salaries |
|
$ |
- |
|
|
$ |
60,195 |
|
|
|
|
See Notes to Financial Statements.
F-7
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies
XStream Systems, Inc. (the Company) produces next generation X-ray systems for material
identification and detection markets. The Companys patented systems are based on
energy-dispersive X-ray diffraction (EDXRD). The Companys products enable on-site, real-time
material identification to the pharmaceutical markets. The Company has its corporate and financial
offices in Sebastian, Florida. Manufacturing of the systems is completed by the Companys contract
manufacturer. The Company was founded in 2004.
Managements plans, liquidity and profitability: As shown in the accompanying financial
statements, the Company incurred net losses for the years ended December 31, 2008 and 2007 of
$2,860,254 and $5,807,490, respectively, and cumulative losses since inception of $14,874,179. The
Company has consistently generated negative cash flows from operations and as of December 31, 2008,
the Companys current liabilities exceeded its current assets by $2,971,449. Those factors, as
well as the uncertainty regarding the ability to obtain additional working capital and the
uncertainty regarding market acceptance of the XT250 product, create overall uncertainty about the
Companys ability to continue as a going concern.
Management of the Company has raised additional working capital in 2009 through issuance of Series
C Redeemable Convertible Preferred Stock (see Note 12), and is actively seeking additional funding
for working capital. The Company does not currently maintain a line of credit or term loan with
any commercial bank or other financial institution and has not made any other arrangements to
obtain additional financing. The Company can provide no assurance that it will not require
additional financing. Likewise, the Company can provide no assurance that, if additional financing
is needed, it will be available in an amount or on terms acceptable to the Company, if at all. If
the Company is unable to obtain additional funds when they are needed or if such funds cannot be
obtained on favorable terms, the Company may be unable to execute upon its business plan or pay its
costs and expenses as they are incurred, which could have a material adverse effect on the
Companys business, financial condition and results of operations. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.
A summary of the Companys significant accounting policies follows:
Revenue recognition: Revenue is recognized upon delivery and installation of completed
units. Prior to installation, deposits are ordinarily required from customers before
manufacturing commences. These amounts are recorded as customer deposits in current liabilities
on the accompanying balance sheets.
Use of estimates: The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenue and
expenses during the reporting period. Actual results could differ from those estimates.
Cash and cash equivalents: For purposes of the statements of cash flows, cash includes
cash on hand and amounts on deposit at federally-insured financial institutions. Cash
equivalents include cash in money market accounts that are convertible to a known amount of
cash.
Inventories: Inventories consist of finished goods and are valued at lower of cost or
market using the average cost method.
F-8
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies (Continued)
Property and equipment: Property and equipment are recorded at cost. Major additions
and improvements are capitalized, and routine expenditures for repairs and maintenance are
charged to expense as incurred.
Depreciation is computed using the
straight-line method over the estimated useful lives of the assets as follows:
|
|
|
|
|
|
|
Years |
Machinery and equipment |
|
|
3 - 7 |
|
Computer equipment |
|
|
3 - 5 |
|
Furniture and fixtures |
|
|
7 |
|
Website |
|
|
3 |
|
Intangible
assets: Intangible assets consist of a license for the use of patents and are stated at amortized
cost. The license is amortized on a straight-line basis over the estimated useful life of fifteen years.
Product warranty: The Company offers warranties to its customers depending on the
specific product and the terms of the customer agreement. The average length of the warranty
period is one year. The Companys warranties require it to repair or replace defective products
during the warranty period at no cost to the customer. At the time product revenue is
recognized, the Company records a liability for estimated costs that may be incurred under the
related warranties. The Company periodically assesses the adequacy of its recorded warranty
liability and adjusts the balance as necessary.
Advertising costs: Advertising costs are charged to operations when incurred.
Advertising expense was $533 and $2,018 for the years ended December 31, 2008 and 2007,
respectively.
Income taxes: Deferred taxes are provided on a liability method whereby deferred tax
assets are recognized for deductible temporary differences and operating loss and tax credit
carryforwards and deferred tax liabilities are recognized for taxable temporary differences.
Temporary differences are the differences between the reported amounts of assets and liabilities
and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the
opinion of management, it is more likely than not that some portion or all of the deferred tax
assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects
of changes in tax laws and rates on the date of enactment.
On January 1, 2007, the Company adopted the Financial Accounting Standards Boards (FASB)
Interpretation Number 48, Accounting for Uncertainty in Income Taxes an Interpretation of
FASB Statement No. 109 (FIN 48). FIN 48 clarified the accounting for uncertainty in an
enterprises financial statements by prescribing a recognition threshold and measurement
attribute for the financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. FIN 48 requires management to evaluate its open tax
positions that exist on the date of initial adoption in each jurisdiction.
F-9
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies (Continued)
When tax returns are filed, it is highly certain that some positions taken would be sustained
upon examination by the taxing authorities, while others are subject to uncertainty about the
merits of the position taken or the amount of the position that would be ultimately sustained.
The benefit of a tax position is recognized in the financial statements in the period during
which, based on all available evidence, management believes it is more likely than not that the
position will be sustained upon examination, including the resolution of appeals or litigation
processes, if any. Tax positions taken are not offset or aggregated with other positions. Tax
positions that meet the more-likely-than-not recognition threshold are measured as the largest
amount of tax benefit that is more than 50 percent likely of being realized upon settlement with
the applicable taxing authority.
Preferred stock and warrants: The Company has issued redeemable convertible preferred
stock with detachable warrants for the purchase of common stock. The Company reviews the
conversion terms for indications requiring bifurcation and separate accounting for the embedded
conversion feature. Generally, embedded conversion features where the ability to physical or
net-share settle the conversion option is not within the control of the Company are bifurcated
and accounted for as derivative financial instruments. Other convertible instruments that are
not derivative financial instruments are accounted for by recording the intrinsic value, if any,
of the embedded conversion feature as a discount from the initial value of the instrument and
accreting such discount back to face value over the term of the instrument using the effective
interest rate method.
Detachable warrants are evaluated to determine if they are liability instruments or equity
instruments. Warrants determined to be liability instruments are carried at fair value. For
warrants determined to be equity instruments, the issuance price of the stock and warrants is
allocated between the stock and the warrants based on the relative fair value of those
instruments at the date of issuance. The amount allocated to the warrants is recognized as
additional paid in capital and is not adjusted subsequent to issuance.
Redeemable preferred stock that is redeemable at the option of the holder is not reported as
permanent equity, but rather as mezzanine equity and is initially carried at fair value at the
date of issuance. Subsequent to issuance, stock that is redeemable currently is adjusted to its
maximum redemption amount at each balance sheet date. Stock that is not redeemable currently is
accounted for by accreting changes in the redemption value and discounts over the period from
the date of issuance to the earliest redemption date of the security using the interest method.
Segment
reporting: The Company offers direct sales of our
XT250TM
systems to customers, three-way revenue sharing arrangements between
us, pharmaceutical manufacturers/distributors/chain retailers, and a
return goods processing center, with payments to us based on a
pay-per-scan service fee on returns, recalls and
suspected diverted products; and PILOT programs whereby manufacturers
will host our system for use on a trial basis, providing our host
manufacturer with an option to purchase the system following PILOT
testing. To date, the Company has not generated revenues from a
three-way revenue sharing arrangement or a PILOT program.
The Company operates in one operating segment as, no discrete
financial information other than Company-wide information is available
or utilized by the Company.
Stock-based compensation: The Company measures and recognizes stock-based compensation
expense at the fair value of the awards. Compensation expense for awards and related tax
effects are recognized as the awards vest. The Company uses the Black-Scholes Option Pricing
Model to determine the fair value of options issued.
Earnings
per share: We compute earnings per share in accordance with
FASB Statement No. 128, Earnings per Share. Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. The diluted earnings per share is computed by giving effect to all potentially dilutive common shares, including stock options. At December 31, 2008 and 2007, we reported net loss, therefore,
common stock equivalents were excluded in the computation of diluted
earnings per share.
Recent accounting pronouncements: In June 2008, the FASB ratified EITF Issue No. 07-5,
Determining Whether an Instrument (or an Embedded Feature) Is Indexed to an Entitys Own Stock
(EITF 07-5). EITF 07-5 provides that an entity should use a two step approach to evaluate
whether an equity-linked financial instrument (or embedded feature) is indexed to its own stock,
including evaluating the instruments contingent exercise and settlement provisions. It also
clarifies on the impact of foreign currency denominated strike prices and market-based employee
stock option valuation instruments on the evaluation. EITF 07-5 is effective for fiscal years
beginning after December 15, 2008. The Company is currently assessing the impact of EITF 07-5
on its financial position and results of operations.
F-10
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies (Continued)
In May 2009, the FASB issued FASB Statement No. 165, Subsequent Events (SFAS No. 165). SFAS
No. 165 requires an entity to recognize in the financial statements the effects of all
subsequent events that provide additional evidence about conditions that existed at the date of
the balance sheet. For unrecognized subsequent events that must be disclosed to keep the
financial statements from being misleading, an entity will be required to disclose the nature of
the event as well as an estimate of its financial effect or a statement that such an estimate
cannot be made. In addition, SFAS No. 165 requires an entity to disclose the date through which
subsequent events have been evaluated. SFAS No. 165 is effective for interim and annual periods
ending after June 15, 2009 and is to be applied prospectively. This guidance does not impact
our current financial statements. The Companys adoption of SFAS No. 165 is not expected to
have a material impact on the Companys financial position, results of operations and cash
flows.
In July 2009, the FASB Accounting Standards Codification (Codification) became the single
source of authoritative generally accepted accounting principles (GAAP) in the United States.
The previously existing GAAP hierarchy consisted of four levels of authoritative accounting and
reporting guidance (levels A through D), including original pronouncements of the FASB, Emerging
Issues Task Force abstracts and other accounting literature. The Codification eliminates this
hierarchy and replaced the previously existing GAAP (other than rules and interpretive releases
of the SEC) with just two levels of literature: authoritative and nonauthoritative.
Note 2. Property and Equipment
At December 31, 2008 and 2007, the major classes of property and equipment and the aggregate
accumulated depreciation consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Machinery and equipment |
|
$ |
359,013 |
|
|
$ |
384,168 |
|
Computer equipment |
|
|
151,449 |
|
|
|
157,655 |
|
Furniture and fixtures |
|
|
72,035 |
|
|
|
72,035 |
|
Website |
|
|
50,000 |
|
|
|
50,000 |
|
|
|
|
|
|
|
632,497 |
|
|
|
663,858 |
|
Less accumulated depreciation |
|
|
(349,881 |
) |
|
|
(256,775 |
) |
|
|
|
Property and equipment, net |
|
$ |
282,616 |
|
|
$ |
407,083 |
|
|
|
|
Depreciation expense for the years ended December 31, 2008 and 2007 was $118,019 and $115,291,
respectively.
F-11
XStream Systems, Inc.
Notes to Financial Statements
Note 3. Intangible Assets
At December 31, 2008 and 2007, intangible assets and their accumulated amortization consisted of
the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
Gross Carrying |
|
|
Accumulated |
|
|
Net Carrying |
|
|
Gross Carrying |
|
|
Accumulated |
|
|
Net Carrying |
|
|
|
Amount |
|
|
Amortization |
|
|
Amount |
|
|
Amount |
|
|
Amortization |
|
|
Amount |
|
|
|
|
License |
|
$ |
171,990 |
|
|
$ |
45,895 |
|
|
$ |
126,095 |
|
|
$ |
171,990 |
|
|
$ |
34,429 |
|
|
$ |
137,561 |
|
|
|
|
Amortization expense for the years ended December 31, 2008 and 2007 was $11,466 and $16,349,
respectively.
Future amortization expense as of December 31, 2008 is as follows:
|
|
|
|
|
Year Ending |
|
|
|
|
December 31, |
|
|
|
|
|
2009 |
|
$ |
11,466 |
|
2010 |
|
|
11,466 |
|
2011 |
|
|
11,466 |
|
2012 |
|
|
11,466 |
|
2013 |
|
|
11,466 |
|
Thereafter |
|
|
68,765 |
|
|
|
|
|
|
|
$ |
126,095 |
|
|
|
|
|
The
weighted-average remaining amortization period for the license is 11 years.
F-12
XStream Systems, Inc.
Notes to Financial Statements
Note 4. Income Taxes
The Company adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation
of FIN 48, the Company determined that no material adjustment was required; there are no
unrecognized tax benefits, and accordingly no associated interest and penalties are required to be
accrued at December 31, 2008 and 2007, respectively. Temporary differences between the financial
statement carrying amounts and tax basis of assets and liabilities and operating loss carryforwards
that give rise to significant portions of the deferred tax assets and liabilities relate to the
following as of December 31, 2008 and 2007:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Deferred tax assets: |
|
|
|
|
|
|
|
|
Accrued expenses |
|
$ |
91,677 |
|
|
$ |
93,156 |
|
Stock compensation costs |
|
|
223,701 |
|
|
|
189,908 |
|
Discount on debentures |
|
|
80,328 |
|
|
|
40,851 |
|
Warranty reserve |
|
|
13,171 |
|
|
|
7,526 |
|
Other |
|
|
3,563 |
|
|
|
3,563 |
|
Net operating loss carryforward |
|
|
4,903,147 |
|
|
|
3,937,302 |
|
|
|
|
Deferred tax assets |
|
|
5,315,587 |
|
|
|
4,272,306 |
|
Less valuation allowance |
|
|
(5,295,473 |
) |
|
|
(4,245,226 |
) |
|
|
|
Deferred tax assets, net |
|
|
20,114 |
|
|
|
27,080 |
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities: |
|
|
|
|
|
|
|
|
Property and equipment, principally due to differences
in depreciation |
|
|
(20,114 |
) |
|
|
(27,080 |
) |
|
|
|
Net deferred income taxes |
|
$ |
|
|
|
$ |
|
|
|
|
|
A valuation allowance is required to reduce the deferred tax assets reported if, based on the
weight of the evidence, it is more likely than not that some portion or all of the deferred tax
assets will not be realized. After consideration of all the evidence, both positive and negative,
management has determined that a $5,295,473 and $4,245,226 valuation allowance at December 31, 2008
and 2007, respectively, is necessary to reduce the deferred tax assets to the amount that will more
likely than not be realized. The change in the valuation allowance for the current year is
$1,050,247.
F-13
XStream Systems, Inc.
Notes to Financial Statements
Note 4. Income Taxes (Continued)
Loss carryforwards for tax purposes as of December 31, 2008 have the following expiration dates:
|
|
|
|
|
Expiration Date |
|
|
|
December 31, |
|
Amount |
|
|
2024 |
|
$ |
425,415 |
|
2025 |
|
|
1,700,772 |
|
2026 |
|
|
2,897,580 |
|
2027 |
|
|
5,435,778 |
|
2028 |
|
|
2,568,642 |
|
|
|
|
|
|
|
$ |
13,028,187 |
|
|
|
|
|
The Companys ability to utilize these net operating losses to offset future taxable income of the
Company may be limited under the Internal Revenue Code Section 382 Change in Ownership Rules.
Management is in the process of evaluating if a change in ownership has occurred to limit the
utilization of the net operating losses.
Note 5. Notes Payable Stockholders
At December 31, 2008 and 2007, notes payable stockholders were all classified as current
liabilities and consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Unsecured promissory note to a stockholder, with interest at a rate
of 8%. Monthly principal and interest of $7,228 are due beginning on
January 18, 2008, with a final maturity on December 1, 2008. The
balance was paid in full on March 10, 2009. (i) |
|
$ |
21,400 |
|
|
$ |
86,378 |
|
|
|
|
|
|
|
|
|
|
Unsecured promissory note to a stockholder, with interest at a rate
of 8%. Monthly principal and interest of $6,508 are due beginning on
June 15,
2008 with final maturity on December 15, 2008 (i). |
|
|
43,070 |
|
|
|
43,070 |
|
|
|
|
|
|
|
|
|
|
Unsecured promissory note to a stockholder, with interest at a rate
of 8%. Monthly principal and interest of $3,183 are due beginning on
July 15,
2008 with final maturity on May 15, 2009. (i) |
|
|
24,715 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unsecured subordinated debentures to stockholders, which accrued
interest at 4% and matured December 31, 2007. Debentures paid on
January 11, 2008. |
|
|
|
|
|
|
225,000 |
|
|
|
|
Total notes payable stockholders |
|
$ |
89,185 |
|
|
$ |
354,448 |
|
|
|
|
|
|
|
(i) |
|
The Company is in default of these promissory notes as of December 31, 2008. In connection
with the default, the interest rate increased to 12%. |
F-14
XStream Systems, Inc.
Notes to Financial Statements
Note 6. Notes Payable
At December 31, 2008 and 2007, notes payable consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Unsecured note payable to the contract manufacturer (i).
Principal and
interest, which accrues at a rate of 5%, is due at
maturity, September 5,
2008. The Company was in default on this note as of
the maturity date.
See Note 12 for terms of tentative settlement agreement. |
|
$ |
2,257,500 |
|
|
$ |
2,131,944 |
|
|
|
|
|
|
|
|
|
|
Unsecured subordinated debentures, which accrued interest
at a rate of
4% and matured December 31, 2007. Debentures
subsequently paid on
January 11, 2008. |
|
|
|
|
|
|
50,000 |
|
|
|
|
|
|
|
|
|
|
Unsecured subordinated debentures, which accrue interest
at a rate of
8% and mature through December 31, 2009. The Company
was in
default on interest payments as of December 31, 2008. |
|
|
250,000 |
|
|
|
250,000 |
|
|
|
|
Total notes payable |
|
|
2,507,500 |
|
|
|
2,431,944 |
|
Less current portion |
|
|
2,507,500 |
|
|
|
2,181,944 |
|
|
|
|
Total long-term obligations |
|
$ |
|
|
|
$ |
250,000 |
|
|
|
|
|
|
|
(i) |
|
In connection with the note payable, the Company entered into a supply agreement with its
contract manufacturer. In accordance with the agreement, the Company commits to purchase 100%
of the Companys total demand for the initial twenty-four months of volume production. |
Debt discount: In connection with the issuance of debentures in 2005, as described above
and in Note 5, the Company issued 330,000 warrants for the purchase of common stock (see Note 8).
The Company recorded a discount of $354,197 on the debentures as of December 31, 2005 representing
the fair value of the warrants issued, which was amortized over the term of the debentures.
Amortization expense for the years ended December 31, 2008 and 2007 was $0 and $177,097,
respectively. The amortization was recorded as interest expense on the accompanying financial
statements.
Future minimum payments of $2,507,500 on notes payable as of December 31, 2008, are currently due
or are due during the year ending December 31, 2009.
Convertible promissory notes: During the year ended December 31, 2007 the company issued
short term convertible promissory notes in the amount of $1,261,000 which were converted into
Series A and Series B preferred shares (and warrants) during 2007 in the amount of $375,000 and
$886,000, respectively.
F-15
XStream Systems, Inc.
Notes to Financial Statements
Note 7. Share-Based Payments
In 2004, the Company adopted a Stock Incentive Plan (the Plan). The Plan is administered by the
Board of Directors or a committee thereof and provides for options to purchase 2,600,000 shares of
common stock to be granted under the Plan to officers, directors, independent contractors and
consultants of the Company. The Plan authorized the issuance of incentive stock options (ISOs),
as defined in the Internal Revenue Code of 1986, as amended and non-qualified stock options
(NQSOs). Consultants and directors who are not also employees of the Company are eligible for
grants of only NQSOs. The exercise price of each ISO may not be less than 100% of the fair market
value of the common stock at the time of grant, except that in the case of a grant to an employee
who owns 10% or more of the outstanding stock of the Company, the exercise price may not be less
than 110% of the fair market value on the date of grant. Generally, unless fully vested at the
time of grant, options shall be exercisable at 25% per year, and shall be outstanding for ten
years.
The fair value of each option award is estimated on the date of grant using the Black-Scholes
Option Pricing Model that uses the assumptions noted in the following table. Expected volatility
is based on the historical volatility of similar companies stock. The risk-free rate for periods
within the contractual life of the option is based on the U.S. treasury strip yield curve in effect
at the time of grant.
The assumptions used and the weighted average fair value of options granted are as follows for the
years ended December 31, 2008 and 2007:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Risk-free interest rate |
|
|
1.55% - 3.34 |
% |
|
|
3.96% - 5.19 |
% |
Expected dividend yield |
|
|
0 |
% |
|
|
0 |
% |
Expected volatility |
|
|
51.69% - 62.58 |
% |
|
|
53.89% - 70.74 |
% |
Expected life in years |
|
|
5-7 |
|
|
|
5-7 |
|
Service period in years |
|
|
0-4 |
|
|
|
0-4 |
|
Weighted average fair value of options granted |
|
$ |
0.16 |
|
|
$ |
1.21 |
|
Compensation cost recognized on options granted in 2008 and 2007 was $235,326 and $424,462,
respectively.
F-16
XStream Systems, Inc.
Notes to Financial Statements
Note 7. Share-Based Payments (Continued)
The following is an analysis of options to purchase shares of the Companys common stock issued and
outstanding as of December 31, 2008 and 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
Shares |
|
|
Exercise Price |
|
|
Shares |
|
|
Exercise Price |
|
|
|
|
|
|
|
|
Outstanding at beginning
of year |
|
|
901,991 |
|
|
$ |
2.80 |
|
|
|
526,128 |
|
|
$ |
1.92 |
|
|
|
Granted |
|
|
799,044 |
|
|
|
2.39 |
|
|
|
456,760 |
|
|
|
3.83 |
|
|
|
Exercised |
|
|
|
|
|
|
|
|
|
|
(2,572 |
) |
|
|
3.80 |
|
|
|
Forfeited |
|
|
(161,275 |
) |
|
|
3.01 |
|
|
|
(78,325 |
) |
|
|
2.97 |
|
|
|
|
|
|
|
|
Outstanding at year-end |
|
|
1,539,760 |
|
|
$ |
2.57 |
|
|
|
901,991 |
|
|
$ |
2.80 |
|
|
|
|
|
|
|
|
Exercisable at year-end |
|
|
1,440,416 |
|
|
$ |
2.59 |
|
|
|
725,434 |
|
|
$ |
2.81 |
|
|
|
|
|
|
|
|
Weighted-average
remaining term
of outstanding options |
|
|
|
|
|
|
8.04 |
|
years |
|
|
|
|
7.71 |
|
|
years |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average
remaining term
of vested options |
|
|
|
|
|
|
8.04 |
|
years |
|
|
|
|
7.64 |
|
|
years |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
A summary of the status of the Companys nonvested shares as of December 31, 2007 and 2008 and
changes during the years ended December 31, 2007 and 2008 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
Weighted-Average |
|
|
|
|
|
|
Weighted-Average |
|
|
|
|
|
|
|
Grant Date |
|
|
|
|
|
|
Grant Date |
|
|
|
Shares |
|
|
Fair Value |
|
|
Shares |
|
|
Fair Value |
|
|
|
|
Nonvested at
beginning of year |
|
|
176,557 |
|
|
$ |
1.61 |
|
|
|
210,656 |
|
|
$ |
1.15 |
|
Granted |
|
|
799,044 |
|
|
|
0.16 |
|
|
|
456,760 |
|
|
|
1.21 |
|
Vested |
|
|
(806,504 |
) |
|
|
0.25 |
|
|
|
(412,534 |
) |
|
|
0.84 |
|
Forfeited |
|
|
(69,753 |
) |
|
|
1.37 |
|
|
|
(78,325 |
) |
|
|
2.06 |
|
|
|
|
Nonvested at year-end |
|
|
99,344 |
|
|
$ |
1.16 |
|
|
|
176,557 |
|
|
$ |
1.61 |
|
|
|
|
As of December 31, 2008 and 2007, there was $242,449 and $356,479, respectively, of total
unrecognized compensation cost related to nonvested share-based compensation arrangements granted.
That cost is expected to be recognized over a weighted average remaining term of 3.04 years.
F-17
XStream Systems, Inc.
Notes to Financial Statements
Note 8. Preferred Stock and Warrants
Series A Redeemable Convertible Preferred Stock: On March 14, 2007, the Company issued
962,101 shares of redeemable convertible preferred stock. This preferred stock was designated
Series A Redeemable Convertible Preferred Stock (Series A Preferred). The Series A Preferred has
a par value of $.0001 and has a liquidation value of $3.80 plus a rate of return equal to 5% per
annum, compounded annually, per share. The Series A Preferred is convertible into shares of the
Companys common stock at a conversion rate of one for one at the request of the holders of Series
A Preferred. The Series A Preferred is redeemable at any time on or after March 14, 2012, upon the
request of the holders of at least a majority of the then outstanding shares of Series A Preferred.
Upon such request, each of the holders of the then outstanding Series A Preferred shall have the
right to require the Company to redeem all or any of their shares of Series A Preferred at a price
per share equal to the Series A Liquidation Value plus a rate of return on such amount equal to 7%
per annum, compounded annually. The issuance of the Series A Preferred generated net cash proceeds
of $3,280,984, after transaction fees, expenses and noncash items. The Company used the net cash
proceeds for operational purposes.
Dividends on the Series A Preferred accrue daily at 5% per annum except upon an event of
noncompliance including; failure to make any redemption payment under the Preferred Stock Purchase
Agreement (the Agreement), a breach of any covenant or agreement included in the Agreement, any
realization that any of the representations or warranties under the agreement are untrue on
incorrect, the Company entering into liquidation or bankruptcy, the Company defaulting on one or
more indentures, agreements or other instruments under which Indebtedness amounts to at least
$100,000, and any judgment rendered against the Company in excess of $500,000, after which the
dividend rate shall be increased to 7% per annum. On September 16, 2008, the Company was in
default of a loan agreement with its contract manufacturer and as the default was greater than
$100,000 the dividend rate increased to 7% on such date, and will continue until the default is
cured. In addition, the above noted event of noncompliance results in the Series A Preferred being
immediately redeemable upon request of the holders of a majority of the outstanding shares of
Series A Preferred at a price per share of $3.80 per share plus a rate of return equal to 7% per
annum.
Series B Redeemable Convertible Preferred Stock: On December 21, 2007, the Company issued
1,264,353 shares of redeemable convertible preferred stock and 6,321,756 warrants to purchase
shares of common stock at a strike price of $3.00 per share, which expire 10 years after the date
of issuance. This preferred stock was designated Series B Redeemable Convertible Preferred Stock.
The Series B Preferred has a par value of $.0001 and has a liquidation value of $3.00 plus a rate
of return currently equal to 5% per annum, compounded annually, per share. The Series B Preferred
is convertible into shares of the Companys common stock at a conversion rate of one for one at the
request of the holders of Series B Preferred. The Series B Preferred is redeemable at any time on
or after March 14, 2012, upon the request of the holders of at least a majority of the then
outstanding shares of Series B Preferred, each of the holders of the then outstanding Series B
Preferred shall have the right to require the Company to redeem all or any of their shares of
Series B Preferred at a price per share equal to the Series B Liquidation Value plus a rate of
return on such amount equal to 7% per annum, compounded annually.
Dividends on the Series B Preferred will accrue daily at 5% per annum except upon an event of
noncompliance, as described above, after which the dividend rate shall be increased to 7% per
annum. On September 16, 2008, the Company was in default of a loan agreement with its contract
manufacturer and as the default was greater than $100,000 the dividend rate increased to 7% on such
date.
F-18
XStream Systems, Inc.
Notes to Financial Statements
Note 8. Preferred Stock and Warrants (Continued)
In addition, the above noted event of noncompliance results in the Series B Preferred being
immediately redeemable upon request of the holders of a majority of the outstanding shares of
Series B Preferred at a price per share of $3.00 per share plus a rate of return equal to 7% per
annum.
The Company issued additional shares of Series B Preferred and warrants during the years ended
December 31, 2008 and 2007 as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series B |
|
Series B |
|
|
|
|
|
Noncash |
|
|
Preferred |
|
Warrants for |
|
Cash |
|
Conversion of |
Date |
|
Shares |
|
Common Stock |
|
Proceeds |
|
Compensation |
|
December 31, 2007
|
|
|
16,666 |
|
|
|
83,330 |
|
|
$ |
|
|
|
$ |
49,998 |
|
February 28, 2008
|
|
|
30,116 |
|
|
|
150,580 |
|
|
|
90,348 |
|
|
|
May 30, 2008
|
|
|
291,326 |
|
|
|
1,456,630 |
|
|
|
808,629 |
|
|
|
65,349 |
|
June 30, 2008
|
|
|
16,666 |
|
|
|
83,330 |
|
|
|
|
|
|
|
49,998 |
|
|
|
|
|
|
|
354,774 |
|
|
|
1,773,870 |
|
|
$ |
898,977 |
|
|
$ |
165,345 |
|
|
|
|
The issuance of the Series B Preferred generated net cash proceeds of $873,055 and $1,807,059,
after transaction fees, expenses and noncash items for the years ended December 31, 2008 and 2007,
respectively. The Company used the net cash proceeds for operational purposes.
Under the terms of the agreements, the Series A Preferred and Series B Preferred have no preference
over one another.
In connection with the issuance of warrants associated with the Series B Preferred, in accordance
with APB 14, the Company allocated the fair value of the warrants as a discount to the Series B
Preferred in the amount of $3,740,183. The discount was fully amortized in 2008, due to the event
of noncompliance that resulted in the Series B Preferred becoming immediately redeemable, as
discussed above.
Warrants: In connection with the issuance of debentures in 2005 and 2007 (see Notes 5 and
6), the Company issued 330,000 warrants for the purchase of common stock, $.0001 par value, with a
strike price of $2.34 per share, exercisable for a period of 10 years.
F-19
XStream Systems, Inc.
Notes to Financial Statements
Note 8. Preferred Stock and Warrants (Continued)
During the years ended December 31, 2008 and 2007, the Company issued warrants to purchase
approximately 1,712,000 and 6,430,000 shares of common stock. A summary of the status of the
Companys warrants related to the issuance of debentures and preferred stock, which are classified
as equity on the balance sheet is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
Weighted |
|
|
Remaining |
|
|
|
|
|
|
Weighted |
|
|
Remaining |
|
|
|
|
|
|
|
Average |
|
|
Contractual |
|
|
|
|
|
|
Average |
|
|
Contractual |
|
|
|
Warrants |
|
|
Exercise Price |
|
|
Term |
|
|
Warrants |
|
|
Exercise Price |
|
|
Term |
|
|
|
|
Beginning balance of
warrants |
|
|
6,720,095 |
|
|
|
2.97 |
|
|
|
|
|
|
|
292,500 |
|
|
|
2.34 |
|
|
|
|
|
Warrants issued |
|
|
1,711,540 |
|
|
|
3.00 |
|
|
|
|
|
|
|
6,430,095 |
|
|
|
3.00 |
|
|
|
|
|
Warrants exercised |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,500 |
) |
|
|
2.34 |
|
|
|
|
|
|
|
|
Warrants outstanding and
exercisable, year end |
|
|
8,431,635 |
|
|
|
2.98 |
|
|
|
9.06 |
|
|
|
6,720,095 |
|
|
|
2.97 |
|
|
|
9.97 |
|
|
|
|
Note 9. Commitments & Contingency
Operating lease: The Company leases its main office and engineering facility under
operating leases through February 28, 2012. Lease expense for the years ended December 31, 2008
and 2007 is $136,836 and $114,267, respectively, which includes expenses related to common area
maintenance. Future minimum lease payments under the operating leases are as follows for the years
ending December 31:
|
|
|
|
|
2009 |
|
$ |
115,164 |
|
2010 |
|
|
119,771 |
|
2011 |
|
|
124,562 |
|
2012 |
|
|
20,894 |
|
2013 |
|
|
|
|
|
|
|
|
Total minimum future lease payments |
|
$ |
380,391 |
|
|
|
|
|
Guarantees: The Company is contingently liable for certain payments related to the sale of
its XT250 units. The Company signed recourse agreements, whereby the Company guarantees the
payment of the unamortized principal balance of certain capital lease agreements in the event the
customer defaults on the payment for the units. As of December 31, 2008 and 2007, the unamortized
principal balance of these leases totaled $113,825 and $135,000, respectively. Management feels it
is unlikely that the Company will be required to satisfy any of these amounts. Additionally,
management has determined that the fair value of the guarantees is not significant.
F-20
XStream Systems, Inc.
Notes to Financial Statements
Note 9. Commitments and Contingencies (Continued)
Royalty payments: As required under the license agreement entered into by the Company with
a university for exclusive rights to produce and sell products which utilize the universitys
patented X-ray diffraction technology, the Company has agreed to pay the university a minimum
annual royalty for a term of 15 years, which was the remaining life of the patent at the inception
of the agreement. Minimum annual royalty payments under the license agreement are as follows for
the years ending December 31:
|
|
|
|
|
2009 |
|
$ |
500,000 |
|
2010 |
|
|
500,000 |
|
2011 |
|
|
500,000 |
|
2012 |
|
|
500,000 |
|
2013 |
|
|
500,000 |
|
Thereafter |
|
|
3,000,000 |
|
|
|
|
|
Total minimum royalty payments |
|
$ |
5,500,000 |
|
|
|
|
|
Royalty expense for the years ended December 31, 2008 and 2007 was $300,000 and $150,000,
respectively and is included in general and administrative expenses on the accompanying statement
of operations. Under the terms of the agreement those were the minimum payments due for the years
ended December 31, 2008 and 2007, respectively.
Product warranty: The Company estimated its product warranty liability as of December 31,
2008 and 2007 of approximately $35,000 and $20,000, respectively, which is included in accrued
expenses.
At December 31, 2008 and 2007, the aggregate product warranty liability consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
2007 |
|
|
|
|
Beginning warranty liability |
|
$ |
20,000 |
|
|
$ |
|
|
Reductions for payment made under warranty |
|
|
|
|
|
|
|
|
Product warranty issued |
|
|
15,000 |
|
|
|
20,000 |
|
Changes related to preexisting warranties |
|
|
|
|
|
|
|
|
|
|
|
Ending balance of the waranty liability |
|
$ |
35,000 |
|
|
$ |
20,000 |
|
|
|
|
Note 10. Concentration
Cash and cash equivalents, at times, may exceed federally-insured limits. Accounts are guaranteed
by the Federal Deposit Insurance Corporation (FDIC) up to $100,000 as of December 31, 2007 and
$250,000 as of December 31, 2008. However, this financial institution is participating in the
FDICs Transaction Accounts Guarantee Program (TAGP) through December 31, 2009, whereby all
non-interest bearing transaction accounts, including business checking accounts, are fully
guaranteed by the FDIC for the entire amount in each account. Coverage under the TAGP is in
addition to and separate from the $250,000 of coverage available under general deposit insurance
rules. The Company has not experienced any losses in such accounts.
F-21
XStream Systems, Inc.
Notes to Financial Statements
Note 11. Related Parties
The Company engages a stockholder under a consulting agreement to serve as Chairman of the
Companys Scientific Advisory Board. This arrangement provides for an hourly fee for work
performed under the agreement as well as 25,000 options, which vest over a period of four years.
During 2008 and 2007, payments of $200 and $300, respectively, were paid to the stockholder under
the consulting agreement.
The Company has engaged a consulting firm to perform certain consulting services related to the
Companys capital structure, budgeting and financial planning. In addition, the Company has
consulting agreements to provide introductions to potential new customers and suppliers. The
principals of the consulting firm are stockholders, one of whom was a board member during 2007. As
compensation to the consulting firm for services rendered during 2008 and 2007 under these
consulting agreements, the Company issued options for 578,000 and 90,000 shares of the Companys
common stock, respectively.
Note 12. Subsequent Events
Subsequent to December 31, 2008, the Company issued 365,996 shares of redeemable convertible
preferred stock. This preferred stock was designated as Series C Redeemable Convertible Preferred
Stock (Series C Preferred). The Series C Preferred has a par value of $.0001, is of equal
preference with the Series A Preferred and Series B Preferred, and has a liquidation value of $3.00
plus a rate of return equal to 5% per annum, compounded annually, per share. The Series C
Preferred is convertible to common stock on a one-for-one basis at the request of the holders of
Series C Preferred Stock. The issuance of the Series C Preferred generated net cash proceeds of
$1,097,988, after transaction fees and expenses. The Company used the net cash proceeds for
operational purposes.
The Series C Preferred is redeemable at any time on or after March 14, 2012, upon the request of
the holders of at least a majority of the then outstanding shares of Series C Preferred, at which
time each of the holders of the then outstanding Series C Preferred shall have the right to require
the Company to redeem all or any of their shares of Series C Preferred at a price per share equal
to the Series C Liquidation Value plus a rate of return on such amount equal to 7% per annum,
compounded annually. Dividends on the Series C Preferred accrue daily at 5.0% per annum except
upon an event of noncompliance after which the dividend rate shall be increased to 7.0% per annum.
On September 16, 2008, Kimball International, Inc. and Kimball Electronics, Inc. (Kimball) filed
suit against the Company. Kimball filed three claims against the Company including a claim
alleging the Company defaulted on a $2.0 million loan provided by Kimball in favor of the Company,
breach of a reserve capacity agreement and breach of a supplier agreement. On June 30, 2009, the
District Court ordered a partial judgment in favor of Kimball in the amount of $2.0 million against
the Company, which was recorded in the accompanying balance sheet as of December 31, 2008. On July
1, 2009, Kimball and the Company negotiated and agreed in principle to the terms of a settlement
agreement for a total of $3.2 million, which includes the purchase by the Company of approximately
$780,000 of inventory from Kimball and for the terms of the $2.0 million loan to the Company (see
Note 6) to be extended for up to 11 months. The Company agreed to an initial payment of $500,000,
six monthly payments of $25,000, four monthly payments of $50,000, and by a final payment of
$2,350,000 if and when the agreement is executed.
F-22
XStream Systems, Inc.
Notes to Financial Statements
Note 13. Restatement
In years prior to 2008, the Company recognized a deferred tax asset. In accordance with FASB 109,
Accounting for Income Taxes, a valuation allowance is recorded when, based on the weight of
available evidence, it is more likely than not that some portion or all of a deferred tax asset
will not be realized. It was determined during 2008 that, based on available evidence in periods
prior to 2008, it was more likely than not that the deferred tax asset in those periods would not
be realized. The Company has restated the financial statements for years prior to 2008 to
recognize a valuation allowance equal to its net deferred tax asset.
In years prior to 2008, the Company recognized stock-based compensation expense using assumptions
for the Black-Scholes Option Pricing Model that were not properly updated at each grant date, which
was not in accordance with accounting principles generally accepted in the United States of America
and resulted in the overstatement of stock compensation expense and additional paid-in capital.
The financial statements for years prior to 2008 have been restated to properly recognize
compensation expense and additional paid-in capital related to the options granted.
In years prior to 2008, the Company issued debentures with detachable warrants, which were
determined to be equity instruments. The Company failed to recognize the value of the warrants and
the related discount on the debentures, which was not in accordance with account principles
generally accepted in the United States of America. The Company has restated the financial
statements for years prior to 2008 to value the warrants using the Black-Scholes Option Pricing
Model and amortize the related discount on the debentures over the life of the debentures.
During 2007, the Series A Preferred and Series B Preferred that was issued by the Company was
classified as permanent equity. In accordance with EITF Topic D-98, Classification and
Measurement of Redeemable Securities, it was determined during 2008 that, because the Series A
Preferred and Series B Preferred have redemption features that are not solely within the control of
the Company, these securities should be classified outside of permanent equity. As such, the 2007
financial statements have been restated to classify the Series A Preferred and Series B Preferred
as mezzanine equity.
During 2007, the Company accrued dividends on the issued and outstanding shares of Series A
Preferred and Series B Preferred without formal board declaration. It was determined during 2008
that, in accordance with accounting principles generally accepted in the United States of America,
the dividends should only be accrued when declared. The 2007 financial statements have been
restated to eliminate the accrual of undeclared dividends on Series A Preferred and Series B
Preferred.
During 2007, the Company issued Series B Preferred in exchange for a receivable in the amount of
$100,000 and reported the receivable in current assets. In accordance with accounting principles
generally accepted in the United States of America, receivables obtained in connection with the
issuance of stock should be reported as reduction of the stock. The balance sheet at December 31,
2007 has been restated to reclassify this receivable as a reduction of the Series B Preferred.
The Companys financial statements for the year ended December 31, 2007, have been adjusted for the
items discussed above in accordance with accounting principles generally accepted in the United
States of America. The portion of the adjustments applicable to the year ended December 31, 2006
and prior years, in the amount of $2,145,645, has been treated as a retroactive restatement of the
December 31, 2006 stockholders deficit balance.
The restatements discussed above had the following effects on the balance sheet and statements of
operations, stockholders deficit and cash flows as of and for the year ended December 31, 2007, as
compared to the amounts previously reported.
F-23
XStream Systems, Inc.
Notes to Financial Statements
Note 13. Restatement (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As Previously |
|
|
|
|
|
|
Effect of |
|
|
|
Reported |
|
|
As Restated |
|
|
Change |
|
|
|
|
Balance Sheet: |
|
|
|
|
|
|
|
|
|
|
|
|
Current Assets |
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
1,784,452 |
|
|
$ |
1,784,452 |
|
|
$ |
|
|
Inventory |
|
|
221,895 |
|
|
|
221,895 |
|
|
|
|
|
Receivable from stockholders |
|
|
100,000 |
|
|
|
|
|
|
|
(100,000 |
) |
Prepaid expenses |
|
|
18,673 |
|
|
|
18,673 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
2,125,020 |
|
|
|
2,025,020 |
|
|
|
(100,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Property and Equipment, net |
|
|
407,083 |
|
|
|
407,083 |
|
|
|
|
|
Deferred tax asset |
|
|
4,728,405 |
|
|
|
|
|
|
|
(4,728,405 |
) |
Intangible assets, net |
|
|
137,561 |
|
|
|
137,561 |
|
|
|
|
|
Deposits |
|
|
18,919 |
|
|
|
18,919 |
|
|
|
|
|
|
|
|
Total assets |
|
|
7,416,988 |
|
|
|
2,588,583 |
|
|
|
(4,828,405 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders Deficit |
|
|
|
|
|
|
|
|
|
|
|
|
Current Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable |
|
|
419,611 |
|
|
|
419,611 |
|
|
|
|
|
Accrued compensation |
|
|
324,306 |
|
|
|
324,306 |
|
|
|
|
|
Accrued expenses |
|
|
55,567 |
|
|
|
55,567 |
|
|
|
|
|
Accrued dividends |
|
|
150,998 |
|
|
|
|
|
|
|
(150,998 |
) |
Customer deposits |
|
|
10,000 |
|
|
|
10,000 |
|
|
|
|
|
Notes payable stockholders |
|
|
354,448 |
|
|
|
354,448 |
|
|
|
|
|
Current portion of notes payable, net of discount |
|
|
2,181,944 |
|
|
|
2,181,944 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
3,496,874 |
|
|
|
3,345,876 |
|
|
|
(150,998 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes Payable, net of current portion |
|
|
250,000 |
|
|
|
250,000 |
|
|
|
|
|
|
|
|
Total liabilities |
|
|
3,746,874 |
|
|
|
3,595,876 |
|
|
|
(150,998 |
) |
|
|
|
Series A Preferred stock, $.0001 par value, 5.0% cummulative dividend,
962,101 shares authorized, issued and outstanding |
|
|
|
|
|
|
3,860,683 |
|
|
|
3,860,683 |
|
|
|
|
Series B Preferred stock, $.0001 par value, 5.0% cummulative dividend,
1,800,000 shares authorized, and 1,281,019 shares issued and
outstanding, net of preferred stock subscription receivable of $100,000 |
|
|
|
|
|
|
791,177 |
|
|
|
791,177 |
|
|
|
|
Series C Preferred stock, $.0001 par value, 5.0% cummulative dividend,
1,350,000 shares authorized, none issued and outstanding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders Deficit |
|
|
|
|
|
|
|
|
|
|
|
|
Common stock, $.0001 par value, 30,000,000 shares authorized, 1,702,156
shares issued and outstanding |
|
|
170 |
|
|
|
170 |
|
|
|
|
|
Series A Preferred stock, $.0001 par value, 5.0% cummulative dividend,
962,101 shares authorized, issued and outstanding |
|
|
96 |
|
|
|
|
|
|
|
(96 |
) |
Series B Preferred stock, $.0001 par value, 5.0% cummulative dividend,
1,800,000 shares authorized, and 1,281,019 shares issued and
outstanding |
|
|
128 |
|
|
|
|
|
|
|
(128 |
) |
Additional paid-in capital |
|
|
11,360,132 |
|
|
|
6,354,602 |
|
|
|
(5,005,530 |
) |
Accumulated deficit |
|
|
(7,690,412 |
) |
|
|
(12,013,925 |
) |
|
|
(4,323,513 |
) |
|
|
|
Total stockholders deficit |
|
|
3,670,114 |
|
|
|
(5,659,153 |
) |
|
|
(9,329,267 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders deficit |
|
$ |
7,416,988 |
|
|
$ |
2,588,583 |
|
|
$ |
(4,828,405 |
) |
|
|
|
F-24
XStream Systems, Inc.
Notes to Financial Statements
Note 13. Restatement (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As Previously |
|
|
|
|
|
|
Effect of |
|
|
|
Reported |
|
|
As Restated |
|
|
Change |
|
|
|
|
Statement of Operations: |
|
|
|
|
|
|
|
|
|
|
|
|
Revenues |
|
$ |
135,000 |
|
|
$ |
135,000 |
|
|
$ |
|
|
Cost of revenues |
|
|
157,508 |
|
|
|
157,508 |
|
|
|
|
|
|
|
|
Gross loss |
|
|
(22,508 |
) |
|
|
(22,508 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses |
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative |
|
|
4,065,033 |
|
|
|
3,572,558 |
|
|
|
(492,475 |
) |
Research and development |
|
|
1,900,897 |
|
|
|
1,900,897 |
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
5,965,930 |
|
|
|
5,473,455 |
|
|
|
(492,475 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(5,988,438 |
) |
|
|
(5,495,963 |
) |
|
|
492,475 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense) |
|
|
|
|
|
|
|
|
|
|
|
|
Interest income |
|
|
52,360 |
|
|
|
52,360 |
|
|
|
|
|
Interest expense |
|
|
(186,790 |
) |
|
|
(363,887 |
) |
|
|
(177,097 |
) |
|
|
|
Total other expenses |
|
|
(134,430 |
) |
|
|
(311,527 |
) |
|
|
(177,097 |
) |
|
|
|
Loss before income taxes |
|
|
(6,122,868 |
) |
|
|
(5,807,490 |
) |
|
|
315,378 |
|
|
|
|
Income tax benefit |
|
|
2,405,661 |
|
|
|
|
|
|
|
(2,405,661 |
) |
|
|
|
Net (loss) income |
|
$ |
(3,717,207 |
) |
|
$ |
(5,807,490 |
) |
|
$ |
(2,090,283 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As Previously |
|
|
|
|
|
|
Effect of |
|
|
|
Reported |
|
|
As Restated |
|
|
Change |
|
|
|
|
Statement of Stockholders Equity Deficit: |
|
|
|
|
|
|
|
|
|
|
|
|
Balance at January 1, 2007 |
|
$ |
(881,205 |
) |
|
$ |
(3,026,850 |
) |
|
$ |
(2,145,645 |
) |
Issuance of preferred stock and warrants |
|
|
8,419,524 |
|
|
|
|
|
|
|
(8,419,524 |
) |
Stock-based compensation expense |
|
|
|
|
|
|
424,462 |
|
|
|
424,462 |
|
Exercise of stock options |
|
|
|
|
|
|
9,774 |
|
|
|
9,774 |
|
Salary conversion for stock options |
|
|
|
|
|
|
245,939 |
|
|
|
245,939 |
|
Exercise of warrants |
|
|
|
|
|
|
5,850 |
|
|
|
5,850 |
|
Discount on warrants issued in connection with
Series B Preferred Stock |
|
|
|
|
|
|
2,701,169 |
|
|
|
2,701,169 |
|
Dividends |
|
|
(150,998 |
) |
|
|
|
|
|
|
150,998 |
|
Amortization of redemption value of preferred stock |
|
|
|
|
|
|
(212,007 |
) |
|
|
(212,007 |
) |
Net loss |
|
|
(3,717,207 |
) |
|
|
(5,807,490 |
) |
|
|
(2,090,283 |
) |
|
|
|
Balance at December 31, 2007 |
|
$ |
3,670,114 |
|
|
$ |
(5,659,153 |
) |
|
$ |
(9,329,267 |
) |
|
|
|
F-25
Note 13. Restatement (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As Previously |
|
|
|
|
|
|
Effect of |
|
|
|
Reported |
|
|
As Restated |
|
|
Change |
|
|
|
|
Statement of Cash Flows: |
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(3,717,207 |
) |
|
$ |
(5,807,490 |
) |
|
$ |
(2,090,283 |
) |
Adjustments to reconcile net loss to net cash used in operating
activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense |
|
|
916,935 |
|
|
|
424,462 |
|
|
|
(492,473 |
) |
Depreciation and amortization |
|
|
131,640 |
|
|
|
131,640 |
|
|
|
|
|
Amortization of discount on debentures |
|
|
|
|
|
|
177,097 |
|
|
|
177,097 |
|
Interest added to notes payable |
|
|
100,000 |
|
|
|
100,000 |
|
|
|
|
|
Noncash issuance of options and preferred stock in lieu of
compensation |
|
|
59,772 |
|
|
|
235,742 |
|
|
|
175,970 |
|
Deferred income taxes |
|
|
(2,405,661 |
) |
|
|
|
|
|
|
2,405,661 |
|
Changes in assets and liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
(Increase) decrease in: |
|
|
|
|
|
|
|
|
|
|
|
|
Inventory |
|
|
(221,895 |
) |
|
|
(221,895 |
) |
|
|
|
|
Prepaid expenses |
|
|
14,924 |
|
|
|
17,337 |
|
|
|
2,413 |
|
Deposits |
|
|
(17,334 |
) |
|
|
(17,334 |
) |
|
|
|
|
Increase (decrease) in: |
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable |
|
|
222,445 |
|
|
|
222,445 |
|
|
|
|
|
Accrued compensation |
|
|
135,270 |
|
|
|
(4,525 |
) |
|
|
(139,795 |
) |
Accrued expenses |
|
|
53,231 |
|
|
|
53,231 |
|
|
|
|
|
Customer deposits |
|
|
(5,000 |
) |
|
|
(5,000 |
) |
|
|
|
|
|
|
|
Net cash used in operating activities |
|
|
(4,732,880 |
) |
|
|
(4,694,290 |
) |
|
|
38,590 |
|
|
|
|
Cash Flows From Investing Activities |
|
|
|
|
|
|
|
|
|
|
|
|
Purchase of property and equipment |
|
|
(274,450 |
) |
|
|
(274,450 |
) |
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(274,450 |
) |
|
|
(274,450 |
) |
|
|
|
|
|
|
|
Cash Flows From Financing Activities |
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from stockholder loans |
|
|
1,356,000 |
|
|
|
1,356,000 |
|
|
|
|
|
Principal payments on stockholder loans |
|
|
(460,000 |
) |
|
|
(568,559 |
) |
|
|
(108,559 |
) |
Principal payments on notes payable |
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from the issuance of common stock |
|
|
15,624 |
|
|
|
15,624 |
|
|
|
|
|
Proceeds from the issuance of preferred stock |
|
|
5,078,235 |
|
|
|
5,148,204 |
|
|
|
69,969 |
|
Proceeds from preferred stock subscription receivable |
|
|
|
|
|
|
|
|
|
|
|
|
Payments for syndication costs |
|
|
(257,981 |
) |
|
|
(257,981 |
) |
|
|
|
|
Principal payments on capital leases |
|
|
(46,160 |
) |
|
|
(46,160 |
) |
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
5,685,718 |
|
|
|
5,647,128 |
|
|
|
(38,590 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents |
|
|
678,388 |
|
|
|
678,388 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents: |
|
|
|
|
|
|
|
|
|
|
|
|
Beginning |
|
|
1,106,064 |
|
|
|
1,106,064 |
|
|
|
|
|
|
|
|
Ending |
|
$ |
1,784,452 |
|
|
$ |
1,784,452 |
|
|
|
|
|
|
|
|
F-26
XStream Systems, Inc.
Balance Sheets
June 30, 2009 and December 31, 2008
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2009 |
|
|
2008 |
|
|
|
(Unaudited) |
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
Current Assets |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
104,589 |
|
|
$ |
120,478 |
|
Inventory |
|
|
132,091 |
|
|
|
175,721 |
|
Prepaid expenses |
|
|
52,366 |
|
|
|
31,802 |
|
|
|
|
Total current assets |
|
|
289,046 |
|
|
|
328,001 |
|
|
|
|
|
|
|
|
|
|
Property and equipment, net |
|
|
228,282 |
|
|
|
282,616 |
|
Intangible assets, net |
|
|
120,409 |
|
|
|
126,095 |
|
Deposits |
|
|
18,919 |
|
|
|
18,919 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
656,656 |
|
|
$ |
755,631 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
Current Liabilities |
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
412,662 |
|
|
$ |
366,853 |
|
Accrued compensation |
|
|
348,501 |
|
|
|
253,871 |
|
Accrued expenses |
|
|
328,706 |
|
|
|
72,041 |
|
Customer deposits |
|
|
10,000 |
|
|
|
10,000 |
|
Notes
payable stockholders |
|
|
65,075 |
|
|
|
89,185 |
|
Current portion of notes payable, net of discount |
|
|
2,597,000 |
|
|
|
2,507,500 |
|
|
|
|
Total current liabilities |
|
|
3,761,944 |
|
|
|
3,299,450 |
|
|
|
|
|
|
|
|
|
|
Warrant liability |
|
|
342,302 |
|
|
|
|
|
|
|
|
Total liabilities |
|
$ |
4,104,246 |
|
|
$ |
3,299,450 |
|
|
|
|
Series A Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 962,101 shares authorized, issued and outstanding |
|
|
4,272,023 |
|
|
|
4,130,897 |
|
|
|
|
Series B Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 1,800,000 shares authorized and 1,619,127 shares
issued and
outstanding |
|
|
5,355,742 |
|
|
|
5,177,299 |
|
|
|
|
Series C Preferred stock, $.0001 par value, 7.0% and 5.0% cumulative
dividend, 1,350,000 shares authorized and 212,331 and 0 shares
issued
and outstanding, respectively |
|
|
645,866 |
|
|
|
|
|
|
|
|
Stockholders Deficit |
|
|
|
|
|
|
|
|
Common stock, $.0001 par value, 30,000,000 shares authorized,
1,767,156
and 1,702,156 shares issued and outstanding at June 30, 2009 and
December 31, 2008, respectively |
|
|
177 |
|
|
|
170 |
|
Additional paid-in capital |
|
|
1,979,867 |
|
|
|
3,021,994 |
|
Accumulated deficit |
|
|
(15,701,265 |
) |
|
|
(14,874,179 |
) |
|
|
|
Total stockholders deficit |
|
|
(13,721,221 |
) |
|
|
(11,852,015 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders deficit |
|
$ |
656,656 |
|
|
$ |
755,631 |
|
|
|
|
See Notes to Financial Statements.
F-27
XStream Systems, Inc.
Statements of Operations (unaudited)
Six Months Ended June 30, 2009 and 2008
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
|
Revenues |
|
$ |
179,000 |
|
|
$ |
260,000 |
|
Cost of revenues |
|
|
66,565 |
|
|
|
59,844 |
|
|
|
|
Gross profit |
|
|
112,435 |
|
|
|
200,156 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses: |
|
|
|
|
|
|
|
|
Salaries and wages |
|
|
353,884 |
|
|
|
658,874 |
|
General and administrative |
|
|
314,054 |
|
|
|
428,988 |
|
Research and development |
|
|
288,187 |
|
|
|
369,463 |
|
Royalty fees |
|
|
250,000 |
|
|
|
150,000 |
|
Stock compensation expense |
|
|
177,644 |
|
|
|
86,400 |
|
|
|
|
Total operating expenses |
|
|
1,383,769 |
|
|
|
1,693,725 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(1,271,334 |
) |
|
|
(1,493,569 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense): |
|
|
|
|
|
|
|
|
Interest income |
|
|
226 |
|
|
|
14,296 |
|
Interest expense |
|
|
(107,810 |
) |
|
|
(65,960 |
) |
Warrant income |
|
|
551,832 |
|
|
|
|
|
|
|
|
Total other expense |
|
|
444,248 |
|
|
|
(51,664 |
) |
|
|
|
Loss before income taxes |
|
|
(827,086 |
) |
|
|
(1,545,233 |
) |
Income tax expense |
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
|
(827,086 |
) |
|
|
(1,545,233 |
) |
|
Preferred stock dividend and accretion |
|
|
(818,909 |
) |
|
|
(377,612 |
) |
|
|
|
Net loss available to common stockholders |
|
$ |
(1,645,995 |
) |
|
$ |
(1,922,845 |
) |
|
|
|
Basic and diluted loss per share |
|
$ |
(0.96 |
) |
|
$ |
(1.13 |
) |
|
|
|
Weighted
average shares outstanding |
|
|
1,714,795 |
|
|
|
1,702,156 |
|
|
|
|
See Notes to Financial Statements.
F-28
XStream
Systems, Inc.
Statement of Stockholders Deficit (unaudited)
For the Six Months Ended June 30, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional |
|
|
|
|
|
|
Common |
|
Paid-In Capital |
|
Accumulated |
|
|
|
|
Stock |
|
Common Stock |
|
Deficit |
|
Total |
|
Balance (deficit) at December 31, 2008 |
|
$ |
170 |
|
|
$ |
3,021,994 |
|
|
$ |
(14,874,179 |
) |
|
$ |
(11,852,015 |
) |
Stock-based compensation expense |
|
|
|
|
|
|
177,644 |
|
|
|
|
|
|
|
177,644 |
|
Issuance of common stock |
|
|
7 |
|
|
|
7,143 |
|
|
|
|
|
|
|
7,150 |
|
Accretion of redemption value of
preferred stock and dividends |
|
|
|
|
|
|
(823,265 |
) |
|
|
|
|
|
|
(823,265 |
) |
Impact of initial adoption of EITF 07-05 |
|
|
|
|
|
|
(403,649 |
) |
|
|
|
|
|
|
(403,649 |
) |
Net loss |
|
|
|
|
|
|
|
|
|
|
(827,086 |
) |
|
|
(827,086 |
) |
|
|
|
Balance (deficit) at June 30, 2009 |
|
$ |
177 |
|
|
$ |
1,979,867 |
|
|
$ |
(15,701,265 |
) |
|
$ |
(13,721,221 |
) |
|
|
|
See Notes to Financial Statements.
F-29
XStream Systems, Inc.
Statements of Cash Flows (unaudited)
Six Months Ended June 30, 2009 and 2008
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
|
Cash Flows From Operating Activities |
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(827,086 |
) |
|
$ |
(1,545,233 |
) |
Adjustments to reconcile net loss to net cash used in
operating activities: |
|
|
|
|
|
|
|
|
Stock-based compensation expense |
|
|
177,644 |
|
|
|
86,400 |
|
Depreciation and amortization |
|
|
60,023 |
|
|
|
67,027 |
|
Change in fair value of warrants |
|
|
(551,832 |
) |
|
|
|
|
Loss on disposal of property and equipment |
|
|
|
|
|
|
9,119 |
|
Accrued interest on notes payable |
|
|
89,500 |
|
|
|
49,723 |
|
Non-cash stock issuance in lieu of compensation |
|
|
|
|
|
|
49,998 |
|
Changes in assets and liabilities: |
|
|
|
|
|
|
|
|
(Increase) decrease in: |
|
|
|
|
|
|
|
|
Accounts receivables |
|
|
|
|
|
|
102,413 |
|
Inventory |
|
|
43,630 |
|
|
|
2,729 |
|
Prepaid expenses |
|
|
(20,564 |
) |
|
|
2,016 |
|
Increase (decrease) in: |
|
|
|
|
|
|
|
|
Accounts payable |
|
|
45,809 |
|
|
|
(379,306 |
) |
Accrued compensation |
|
|
94,630 |
|
|
|
(58,185 |
) |
Accrued expenses |
|
|
256,665 |
|
|
|
155,260 |
|
Customer deposits |
|
|
|
|
|
|
|
|
|
|
|
Net cash used in operating activities |
|
|
(631,581 |
) |
|
|
(1,458,039 |
) |
|
|
|
Cash Flows From Investing Activities |
|
|
|
|
|
|
|
|
Purchase of property and equipment |
|
|
|
|
|
|
(3,000 |
) |
|
|
|
Net cash used in investing activities |
|
|
|
|
|
|
(3,000 |
) |
|
|
|
Cash Flows From Financing Activities |
|
|
|
|
|
|
|
|
Principal payments on stockholder loans |
|
|
(24,110 |
) |
|
|
(271,188 |
) |
Principal payments on notes payable |
|
|
|
|
|
|
(50,000 |
) |
Proceeds from the issuance of common stock |
|
|
7,150 |
|
|
|
|
|
Proceeds from the issuance of preferred stock |
|
|
636,993 |
|
|
|
964,327 |
|
Payments for syndication costs |
|
|
(4,341 |
) |
|
|
(9,465 |
) |
|
|
|
Net cash provided by financing activities |
|
|
615,692 |
|
|
|
633,674 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net decrease in cash and cash equivalents |
|
|
(15,889 |
) |
|
|
(827,365 |
) |
|
|
|
|
|
|
|
|
|
Cash and cash equivalents: |
|
|
|
|
|
|
|
|
Beginning |
|
|
120,478 |
|
|
|
1,784,452 |
|
|
|
|
Ending |
|
$ |
104,589 |
|
|
$ |
957,087 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental Disclosures of Cash Flow Information |
|
|
|
|
|
|
|
|
Cash payments for: |
|
|
|
|
|
|
|
|
Interest |
|
$ |
|
|
|
$ |
14,024 |
|
|
|
|
See Notes to Financial Statements.
F-30
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies
Nature of Operations: XStream Systems, Inc. (the Company) produces next generation X-ray
systems for material identification and detection markets. The Companys patented systems are
based on energy-dispersive X-ray diffraction (EDXRD). The Companys products enable on-site,
real-time material identification to the pharmaceutical markets. The Company has its corporate and
financial offices in Sebastian, Florida. Manufacturing of the systems is completed by the
Companys contract manufacturer. The Company was founded in 2004.
Basis of Presentation: The accompanying unaudited financial statements have been prepared
by the Company in accordance with accounting principles generally accepted in the United States of
America for interim financial reporting. Accordingly, they do not include all of the information
and related footnotes that would normally be required by accounting principles generally accepted
in the United States of America for complete financial reporting. These unaudited condensed
financial statements should be read in conjunction with the Companys audited financial statements
for the year ended December 31, 2008.
The accompanying unaudited condensed financial statements include all adjustments (consisting of a
normal and recurring nature) that management considers necessary for a fair statement of financial
information for the interim periods. Interim results are not necessarily indicative of the results
that may be expected for the remainder of the year ending December 31, 2009.
Managements Plans, Liquidity and Profitability: As shown in the accompanying financial
statements, the Company incurred net losses for the six months ending June 30, 2009 and 2008 of
$827,086 and $1,545,233, respectively, and cumulative losses since
inception of $15,701,265. The
Company has consistently generated negative cash flows from operations and as of June 30, 2009, the
Companys current liabilities exceeded its current assets by
$3,472,898. Those factors, as well as
the uncertainty regarding the ability to obtain additional working capital and the uncertainty
regarding market acceptance of the XT250 product, create overall uncertainty about the Companys
ability to continue as a going concern.
Management of the Company has raised additional working capital through issuance of Series D
Redeemable Convertible Preferred Stock (see Note 6), and is actively seeking additional funding for
working capital. The Company does not currently maintain a line of credit or term loan with any
commercial bank or other financial institution and has not made any other arrangements to obtain
additional financing. The Company can provide no assurance that it will not require additional
financing. Likewise, the Company can provide no assurance that if additional financing is needed
that it will be available in an amount or on terms acceptable to the Company, if at all. If the
Company is unable to obtain additional funds when they are needed or if such funds cannot be
obtained on favorable terms, the Company may be unable to execute upon its business plan or pay its
costs and expenses as they are incurred, which could have a material, adverse effect on the
Companys business, financial condition and results of operations. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.
F-31
XStream Systems, Inc.
Notes to Financial Statements
Note 1. Nature of Operations and Significant Accounting Policies (Continued)
A summary of the Companys significant accounting policies follows:
Revenue recognition: Revenue is recognized upon delivery and installation of completed
units. Prior to installation, deposits are ordinarily required from customers before
manufacturing commences. These amounts are recorded as customer deposits in current liabilities
on the accompanying balance sheets.
Preferred stock and warrants: The Company has issued redeemable convertible preferred
stock with detachable warrants for the purchase of common stock. The Company reviews the
conversion terms for indications requiring bifurcation and separate accounting for the embedded
conversion feature. Generally, embedded conversion features where the ability to physical or
net-share settle the conversion option is not within the control of the Company are bifurcated
and accounted for as derivative financial instruments. Other convertible instruments that are
not derivative financial instruments are accounted for by recording the intrinsic value, if any,
of the embedded conversion feature as a discount from the initial value of the instrument and
accreting such discount back to face value over the term of the instrument using the effective
interest rate method.
Detachable warrants are evaluated to determine if they are liability instruments or equity
instruments. Warrants determined to be liability instruments at carried at fair value. For
warrants determined to be equity instruments, the issuance price of the stock and warrants is
allocated between the stock and the warrants based on the relative fair value of those
instruments at the date of issuance. The amount allocated to the warrants is recognized as
additional paid in capital and is not adjusted subsequent to issuance.
Redeemable preferred stock that is redeemable at the option of the holder is not reported as
permanent equity, but rather as mezzanine equity and is initially carried at fair value at the
date of issuance. Subsequent to issuance, stock that is redeemable currently is adjusted to its
maximum redemption amount at each balance sheet date. Stock that is not redeemable currently is
accounted for by accreting changes in the redemption value and discounts over the period from
the date of issuance to the earliest redemption date of the security using the interest method.
Segment
reporting: The Company offers direct sales of our
XT250TM
systems to customers, three-way revenue sharing arrangements between
us, pharmaceutical manufacturers/distributors/chain retailers, and a
return goods processing center, with payments to us based on a
pay-per-scan service fee on returns, recalls and
suspected diverted products; and PILOT programs whereby manufacturers
will host our system for use on a trial basis, providing our host
manufacturer with an option to purchase the system following PILOT
testing. To date, the Company has not generated revenues from a
three-way revenue sharing arrangement or a PILOT program.
The Company operates in one operating segment as, no discrete
financial information other than Company-wide information is available
or utilized by the Company.
Stock-based compensation: The Company measures and recognizes stock-based compensation
expense at the fair value of the awards. Compensation expense for awards and related tax
effects are recognized as the awards vest. The Company uses the Black-Scholes Option Pricing
Model to determine the fair value of options issued.
Earnings
per share: The Company computes earnings per share in accordance with
FASB Statement No. 128, Earnings per Share. Basic earnings per share are computed
by dividing net income by the weighted-average number of common shares
outstanding during the period. The diluted earnings per share is computed by giving
effect to all potentially dilutive common shares, including stock options. For the six
months ended June 30, 2009 and 2008, we reported net loss, therefore, common stock
equivalents were excluded in the computation of diluted earnings per
share.
Recent accounting pronouncements: In June 2008, the FASB ratified EITF Issue No. 07-5,
Determining Whether an Instrument (or an Embedded Feature) is indexed to an Entitys Own Stock
(EITF 07-5). EITF 07-5 provides that an entity should use a two step approach to evaluate
whether an equity-linked financial instrument (or embedded feature) is indexed to its own stock,
including evaluating the instruments contingent exercise and settlement provisions. It also
clarifies on the impact of foreign currency denominated strike prices and market based employee
stock option valuation instruments on the evaluation. EITF 07-5 is effective for fiscal years
beginning after December 15, 2008. As of January 1, 2009, the Company notes that the adoption
of EITF 07-05 will result in a reclassification of the fair value of certain outstanding
warrants from stockholders equity to liability. The initial value of the warrant liability at
adoption was approximately $403,649. Additionally, the Company notes that upon adoption of EITF
07-05, the warrants will be marked to market at each reporting period. For the six month period
ended June 30, 2009, the Company recorded income from the change in fair value of the warrants
of $551,832 for the decrease in the fair value related to the warrants.
F-32
XStream Systems, Inc.
Notes to Financial Statements
Note 2. Income Taxes
The Company adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation
of FIN 48, the
Company determined that no material adjustment was required; there are no unrecognized tax
benefits, and accordingly no associated interest and penalties are required to be accrued at
December 31, 2008 and 2007, respectively.
A valuation allowance is required to reduce the deferred tax assets reported if, based on the
weight of the evidence, it is more likely than not that some portion or all of the deferred tax
assets will not be realized. After consideration of all the evidence, both positive and negative,
management has determined that a $5,723,197 and $5,296,206 valuation allowance at June 30, 2009 and
December 31, 2008, respectively is necessary to reduce the deferred tax assets to the amount that
will more likely than not be realized. The change in the valuation allowance for the current
period is $426,991.
At June 30, 2009 and December 31, 2008, the Company has available net operating loss carryforwards
of $14,407,105 and 13,028,187, respectively, which will expire in the years 2024-2029. The
Companys ability to utilize these net operating losses to offset future taxable income of the
Company may be limited under the Internal Revenue Code Section 382 Change in Ownership Rules.
Management is in the process of evaluating if a change in ownership has occurred to limit the net
operating losses.
Note 3. Share-Based Payments
The following is an analysis of options to purchase shares of the Companys stock issued and
outstanding as of June 30, 2009 and 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
|
|
|
|
2009 |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
Shares |
|
|
Exercise Price |
|
|
Shares |
|
|
Exercise Price |
|
|
|
|
|
Outstanding at beginning of period |
|
|
1,539,760 |
|
|
$ |
2.59 |
|
|
|
901,991 |
|
|
$ |
2.80 |
|
|
|
|
|
Granted |
|
|
500,038 |
|
|
|
0.69 |
|
|
|
127,873 |
|
|
|
0.90 |
|
|
|
|
|
Exercised |
|
|
(65,000 |
) |
|
|
0.11 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited |
|
|
|
|
|
|
|
|
|
|
(63,275 |
) |
|
|
1.33 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at period-end |
|
|
1,974,798 |
|
|
$ |
2.19 |
|
|
|
966,589 |
|
|
$ |
2.64 |
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at period-end |
|
|
1,657,283 |
|
|
$ |
2.38 |
|
|
|
842,315 |
|
|
$ |
2.63 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average remaining term
of outstanding options |
|
|
|
|
|
|
8.31 |
years |
|
|
|
|
7.47 |
|
|
years |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average remaining term
of vested options |
|
|
|
|
|
|
8.17 |
years |
|
|
|
|
7.31 |
|
|
years |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
A summary of the status of the Companys nonvested shares as of June 30, 2009 and 2008 and changes
during the years ended June 30, 2009 and 2008 is presented below:
F-33
XStream Systems, Inc.
Notes to Financial Statements
Note 3. Share-Based Payments (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
|
|
|
|
Weighted-Average |
|
|
|
|
|
|
Weighted-Average |
|
|
|
|
|
|
|
Grant Date |
|
|
|
|
|
|
Grant Date |
|
|
|
Shares |
|
|
Fair Value |
|
|
Shares |
|
|
Fair Value |
|
Nonvested at beginning of year |
|
|
99,344 |
|
|
$ |
1.16 |
|
|
|
176,557 |
|
|
$ |
1.61 |
|
Granted |
|
|
500,038 |
|
|
|
0.38 |
|
|
|
127,873 |
|
|
|
0.35 |
|
Vested |
|
|
(281,867 |
) |
|
|
0.46 |
|
|
|
(118,403 |
) |
|
|
0.64 |
|
Forfeited |
|
|
|
|
|
|
|
|
|
|
(61,753 |
) |
|
|
1.31 |
|
|
|
|
Nonvested at year-end |
|
|
317,515 |
|
|
$ |
0.55 |
|
|
|
124,274 |
|
|
$ |
1.39 |
|
|
|
|
As of June 30, 2009 and 2008, there was $226,137 and $391,375 respectively, of total unrecognized
compensation cost related to nonvested share-based compensation arrangements granted. That cost is
expected to be recognized over a weighted average period of 1.6 years.
Note 4. Preferred Stock and Warrants
Series C Redeemable Convertible Preferred Stock: The Company issued a total of 212,331
shares of redeemable convertible preferred stock during the six month period ending June 30, 2009:
81,999 shares issued on March 6, 2009, 22,333 shares issued on April 17, 2009, 73,666 shares issued
on May 6, 2009, and 34,333 issued on June 24, 2009. This preferred stock was designated Series C
Redeemable Convertible Preferred Stock. The Series C Redeemable Convertible Preferred Stock has a
par value of $.0001and has a liquidation value of $3.00 plus a rate of return equal to 5% per
annum, compounded annually, per share. The Series C Redeemable Convertible Preferred Stock is
convertible at the request of the holders of Series C Preferred Stock. The Series C Preferred
Stock is redeemable at any time on or after March 14, 2012, upon the request of the holders of at
least a majority of the then outstanding shares of Series C Preferred, each of the holders of the
then outstanding Series C Preferred shall have the right to require the Company to redeem all or
any of their shares of Series C preferred at a price per share equal to the Series C Liquidation
Value plus a rate of return on such amount equal to 5% per annum, compounded annually.
Dividends on the Series C Redeemable Convertible Preferred Stock will accrue daily at 5% per
annum except upon an event of noncompliance, as described above, after which the dividend rate
shall be increased to 7% per annum. As an event of noncompliance occurred on September 16, 2008
in the Company was in default of a loan agreement
with its contract manufacturer and as the default was greater than $100,000 the dividend rate was
7% upon issuance.
The issuance of the Series C Redeemable Convertible Preferred Stock generated net cash proceeds of
$636,993, after transaction fees and expenses. The Company used the net cash proceeds for
operational purposes.
F-34
XStream Systems, Inc.
Notes to Financial Statements
Note 4. Preferred Stock and Warrants (Continued)
During the 6 month periods ended June 30, 2009 and 2008, the Company issued warrants to purchase
approximately 1,060,000 and 1,700,000 shares of common stock. A summary of the status of the
Companys warrants related to the issuance of debentures and preferred stock is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, |
|
|
|
2009 |
|
|
2008 |
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
Weighted |
|
|
Remaining |
|
|
|
|
|
|
Weighted |
|
|
Remaining |
|
|
|
|
|
|
|
Average |
|
|
Contractual |
|
|
|
|
|
|
Average |
|
|
Contractual |
|
|
|
Warrants |
|
|
Exercise Price |
|
|
Term |
|
|
Warrants |
|
|
Exercise Price |
|
|
Term |
|
Beginning balance of warrants |
|
|
8,431,635 |
|
|
|
2.98 |
|
|
|
|
|
|
|
6,720,095 |
|
|
|
2.97 |
|
|
|
|
|
Warrants issued |
|
|
1,061,655 |
|
|
|
3.00 |
|
|
|
|
|
|
|
1,711,540 |
|
|
|
3.01 |
|
|
|
|
|
Warrants exercised |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants outstanding and
exercisable, year end |
|
|
9,493,290 |
|
|
|
2.98 |
|
|
|
8.63 |
|
|
|
8,431,635 |
|
|
|
2.98 |
|
|
|
9.06 |
|
|
|
|
Note 5. Commitments & Contingency
Operating lease: The Company leases its main office and engineering facility under
operating leases for terms remaining from two to four years through February 28, 2012. Lease
expense for the six months ended June 30, 2009 and 2008 is $53,329 and $68,418, respectively, which
includes expenses related to common area maintenance. Future minimum lease payments under the
operating leases are as follows for the years ending December 31:
|
|
|
|
|
2009 |
|
$ |
61,835 |
|
2010 |
|
|
119,771 |
|
2011 |
|
|
124,562 |
|
2012 |
|
|
20,894 |
|
2013 |
|
|
|
|
|
|
|
|
Total minimum future lease payments |
|
$ |
327,062 |
|
|
|
|
|
Inventory: The Company is contingently liable for certain payments related to the sale of
its XT250 units. The Company signed recourse agreements, whereby the Company guarantees the
payment of the unamortized principal balance of certain capital lease agreements in the event the
customer defaults on the payment for the units. As of June 30, 2009 and 2008, the unamortized
principal balance of these leases totaled $154,571 and $60,000, respectively. Management feels it
is unlikely that the Company will be required to satisfy any of these
amounts.
Royalty
payments: As required under the license agreement entered into by the Company with
a university for exclusive rights to produce and sell products which utilize the universitys patented X-ray
diffraction technology, the Company has agreed to pay the university a minimum annual royalty for a
term of 15 years, which was the remaining life of the patent at the inception of the agreement.
Minimum annual royalty payments under the license agreement are as follows for the years ending
December 31:
F-35
XStream Systems, Inc.
Notes to Financial Statements
Note 5. Commitments & Contingency (Continued)
|
|
|
|
|
2009 |
|
$ |
500,000 |
|
2010 |
|
|
500,000 |
|
2011 |
|
|
500,000 |
|
2012 |
|
|
500,000 |
|
2013 |
|
|
500,000 |
|
Thereafter |
|
|
3,000,000 |
|
|
|
|
|
Total minimum royalty payments |
|
$ |
5,500,000 |
|
|
|
|
|
Royalty expense for the six months ended June 30, 2009 and 2008 was $250,000
and $150,000, respectively. Under the terms of the agreement those were the minimum payments due for the six
months ended June 30, 2009 and December 31, 2008, respectively. Accrued expenses at June 30, 2009 includes approximately $250,000
of accrued royalties.
The Company is currently in arrears with respect to payment of $300,000. The licensing agreement
provides that if either party breaches or fails to perform any provision of the Agreement, the
other party may give written notice of the
default to the breaching party. The Company has received an offer from Rutgers University to
settle the outstanding amounts under the license agreement including payment of an additional 3.5%
of each sale of an XT250 unit and issuance of shares of common stock in the Company. To date,
however, a forbearance agreement has not been executed and the default under the agreement has not
been cured. The loss of, or our inability to maintain, this license could result in our inability
to sell our products including the XT250 systems without liability exposure. As a general matter,
we anticipate that we will continue to license technology from third parties in the future. This
technology may not continue to be available on commercially reasonable terms, if at all. Although
we do not believe that we are substantially dependent on any individual licensed technology, some
of the software that we license from third parties could be difficult for us to replace. The loss
of any of these technology licenses could result in delays in the license of our products until
equivalent technology, if available, is developed or identified, licensed and integrated. The use
of additional third-party software would require us to negotiate license agreements with other
parties, which could result in higher royalty payments and a loss of product differentiation, which
could negatively impact our operating results and financial condition.
Note 6. Related Parties
On March 12, 2009, the Company entered into a marketing agreement which is owned by a member of the
Companys Board of Directors. The marketing agreement seeks to engage them to market the Companys
XT250 product in exchange for commissions at fifteen percent (15%) of the actual purchase price of
any XT250 system sold by them.
Note 7. Subsequent Events
Subsequent to June 30, 2009, the Company issued 153,665 additional shares of $.0001 par value
Series C Redeemable Convertible Preferred Stock (see Note 4). The additional issuance of the
Series C Redeemable Convertible Preferred Stock generated net cash proceeds of $460,995, after
transaction fees and expenses. The Company used the net cash proceeds for operational purposes.
Subsequent
to June 30, 2009, the Company issued 563,414 shares of Series D Redeemable Convertible
Preferred Stock. The Series D Redeemable Convertible Preferred Stock has a par value of $.0001 and
has a liquidation value of $3.00 plus a rate of return equal to 5% per annum, compounded annually,
per share. The Series D Redeemable Convertible Preferred Stock is convertible at the request of the
holders of Series D Preferred Stock. The additional issuance of the Series C Redeemable
Convertible Preferred Stock generated net cash proceeds of $1,690,242, after transaction fees and
expenses. The Company used the net cash proceeds for operational purposes.
F-36
XStream Systems, Inc.
Notes to Financial Statements
The Series D Preferred Stock is redeemable at any time on or after March 14, 2012, upon the request
of the holders of at least a majority of the then outstanding shares of Series D Preferred, each of
the holders of the then outstanding Series D Preferred shall have the right to require the Company
to redeem all or any of their shares of Series A preferred at a price per share equal to the Series
D Liquidation Value plus a rate of return on such amount equal to 7% per annum, compounded
annually. Dividends on the Series D Redeemable Convertible Preferred Stock accrue daily at 5%
per annum except upon an event of noncompliance after which the dividend rate shall be increased to
7% per annum.
On September 16, 2008, Kimball International, Inc. and Kimball Electronics, Inc. (Kimball) filed suit against the
Company. Kimball filed three claims against the Company including a claim alleging the Company defaulted on a
$2.0 million loan provided by Kimball in favor of the Company, breach of a reserve capacity agreement and breach of
a supplier agreement. On June 30, 2009, the District Court ordered a partial judgment in favor of Kimball in the
amount of $2.0 million against the Company, which was recorded in the accompanying balance sheet as of
December 31, 2008. The settlement agreement between Kimball and the Company were never finalized and none of
the payments have been made. The parties have filed competing motions with the Court to enforce their respective
versions of the settlement terms. Additionally, Kimballs motion requests the court to enter a separate judgment in
their favor and against the Company in the principal sum of $3,200,000. Should the litigation be settled according to
these terms, the Company anticipates that a portion of the proceeds of the public offering will be utilized to pay the
monies due to Kimball. The Company intends to vigorously pursue the settlement which will include terms under
which Kimball will continue to supply XT250 units and allocate a portion of the payments to be made by the Company
under the settlement agreement to the $780,000 in XT250 inventory in Kimballs possession. If the Company is
unable to settle this litigation in a timely manner, the Companys results of operations may be adversely affected.
On August 14, 2009, the Companys board of directors approved to increase the authorized common
stock by 30,000,000 shares. As a result, the total number of shares of Common Stock that
the Company is authorized to issue is 60,000,000 shares, each with a par value of $.0001 per share.
On August 14, 2009, the Companys board of directors adopted a stock incentive plan. Pursuant to
this plan, incentive stock options, non-qualified options, restricted stock awards, deferred stock
awards, bonus stock and awards in lieu of obligations, dividends equivalents, performance awards
and other stock based awards to purchase an aggregate of 5,000,000 shares of common stock
may be issued, as adjusted. As of November 11, 2009, there are 1,000,000 incentive awards outstanding under
the Plan.
Subsequent to June 30, 2009 the Company initiated the process of going through an initial public
offering. The Company is offering 2,000,000 shares of their common stock and 5% subordinated
convertible debentures convertible into shares of our common stock. The Company is not using an
underwriter for their offering of securities. The Company is conducting this offering as a
self-underwriting on a best efforts basis through their officers and directors.
Management
has assessed subsequent events through November 11, 2009, the date the financial
statements were available to be issued.
F-37
2,000,000 Shares
$5.0 million of 5% Subordinated Convertible Debentures
Common Stock
Convertible Debentures
Prospectus
Until _____________________, 2009 (___________ days after the commencement of this offering), all
dealers that buy, sell or trade shares of our common stock, whether or not participating in this
offering, may be required to deliver a prospectus. This delivery requirement is in addition to the
obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their
unsold allotments or subscriptions.
, 2009
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 13. Other Expenses of Issuance and Distribution.
|
|
|
|
|
Registration fees |
|
$ |
2,427.30 |
|
NASDAQ fees |
|
|
* |
|
Transfer agent fees |
|
|
* |
|
State taxes |
|
|
* |
|
Legal fees and expenses |
|
|
* |
|
Printing and engraving expenses |
|
|
* |
|
Blue sky fees |
|
|
* |
|
Accounting fees and expenses |
|
|
* |
|
Miscellaneous |
|
|
* |
|
|
|
|
|
Total |
|
$ |
* |
|
|
|
|
|
|
|
|
* |
|
To be included by amendment |
Item 14. Indemnification of Directors and Officers.
Under the General Corporation Law of the State of Delaware, we can indemnify our directors and
officers against liabilities they may incur in such capacities, including liabilities under the
Securities Act of 1933, as amended (the Securities Act). Our certificate of incorporation
provides that, pursuant to Delaware law, our directors shall not be liable for monetary damages for
breach of the directors fiduciary duty of care to us and our stockholders. This provision in the
certificate of incorporation does not eliminate the duty of care, and in appropriate circumstances
equitable remedies such as injunctive or other forms of non-monetary relief will remain available
under Delaware law. In addition, each director will continue to be subject to liability for breach
of the directors duty of loyalty to us or our stockholders, for acts or omissions not in good
faith or involving intentional misconduct or knowing violations of law, for any transaction from
which the director directly or indirectly derived an improper personal benefit, and for payment of
dividends or approval of stock repurchases or redemptions that are unlawful under Delaware law.
The provision also does not affect a directors responsibilities under any other law, such as the
federal securities laws or state or federal environmental laws.
Our amended and restated by-laws provide for the indemnification of our directors and officers
to the fullest extent permitted by the Delaware General Corporation Law. We are not, however,
required to indemnify any director or officer in connection with any (i) willful misconduct, (ii)
willful neglect, or (iii) gross negligence toward or on behalf of us in the performance of his or
her duties as a director or officer. We are required to advance, prior to the final disposition of
any proceeding, promptly on request, all expenses incurred by any director or officer in connection
with that proceeding on receipt of any undertaking by or on behalf of that director or officer to
repay those amounts if it should be determined ultimately that he or she is not entitled to be
indemnified under our amended and restated by-laws or otherwise.
We have entered into indemnification agreements with our directors providing that in
consideration of the director rendering valuable services to us, we agree that in the event
indemnitee is or becomes a party to or witness or other participant in, or is threatened to be made
a party to or witness or other participant in, a claim by reason of an indemnifiable event, we will
indemnify indemnitee to the fullest extent authorized by law, against any and all losses and
expenses, including all interest, assessments and other charges paid or payable in connection with
or in respect of such losses and expenses of such claim, whether or not such claim proceeds to
judgment or is settled or otherwise is brought to a final disposition, subject in each case, to the
further provisions of the agreement. The indemnity agreement provides certain limitations on
indemnification, including that the indemnitee will not be indemnified and held harmless from any
losses or expenses which have been determined to constitute an excluded claim, or to that the
indemnitee is indemnified by us and has actually received payment pursuant to the certificate of
incorporation, D&O insurance or otherwise, or in connection with any claim initiated by indemnitee
unless we have joined in or the board of directors has authorized such claim.
We have been advised that, in the opinion of the SEC, any indemnification for liabilities
arising under the Securities Act is against public policy, as expressed in the Securities Act, and
is, therefore, unenforceable.
II-1
Item 15. Recent Sales of Unregistered Securities.
XStream Systems, Inc. sold the following securities within the past three years without
registering the securities under the Securities Act.
Sales of Common Stock
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
No. of Shares of |
|
|
Date |
|
Purchaser |
|
Price |
|
Common Stock |
|
Proceeds |
8/25/2006
|
|
A sophisticated
investor which was
provided access to
Company management and
information
|
|
$ |
3.80 |
|
|
|
13,158 |
|
|
$ |
50,000.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9/29/2006
|
|
A sophisticated
investor which was
provided access to
Company management and
information
|
|
$ |
2.34 |
|
|
|
153 |
|
|
$ |
358.02 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9/30/2006
|
|
A sophisticated
investor which was
provided access to
Company management and
information
|
|
$ |
3.80 |
|
|
|
13,158 |
|
|
$ |
50,000.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10/11/2006
|
|
A sophisticated
investor which was
provided access to
Company management and
information
|
|
$ |
3.80 |
|
|
|
13,158 |
|
|
$ |
50,000.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12/19/2006
|
|
An employee with
access to Company
management and
information
|
|
$ |
.10 |
|
|
|
800 |
|
|
$ |
0.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12/20/2006
|
|
An employee with
access to Company
management and
information
|
|
$ |
.10 |
|
|
|
800 |
|
|
$ |
0.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5/17/2007
|
|
Director of the Company
|
|
$3.80 (compensation
for services
performed other
than board
services)
|
|
|
2,500 |
|
|
$ |
0.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5/17/2007
|
|
An employee with
access to Company
management and
information
|
|
$ |
3.80 |
|
|
|
72 |
|
|
$ |
0.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10/11/2007
|
|
A sophisticated
investor which was
provided access to
Company management and
information
|
|
$2.34 (exercise of
warrants)
|
|
|
2,500 |
|
|
$ |
5,850.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5/26/2009
|
|
Director and executive
officer of the Company
|
|
$.11 (exercise of
option granted in
2004)
|
|
|
65,000 |
|
|
$ |
7,150.00 |
|
II-2
Sales of Convertible Securities
On December 19, 2006, we issued a convertible promissory note in the principal amount of
$100,000, payable on demand at any time on or after February 28, 2007. In accordance with the
terms of the note, on March 14, 2007, all of the principal and interest due on the note was
converted into 26,867 shares of Series A Redeemable Convertible Preferred Stock, $.0001 par value
per share (the Series A Preferred Stock).
On various dates from August 31, 2005 to March 14, 2006, we sold debentures in the aggregate
principal amount of $1,525,000 to accredited investors. In connection with such sale, each
investor received a ten-year warrant to purchase 5,000 shares of common stock at a price of $2.34
per share for each $25,000 in principal amount of debentures. As a result, we issued warrants to
purchase an aggregate of 305,000 shares of common stock. On December 19, 2007, in connection with
an amendment to two of the debentures in the aggregate amount of $250,000, the investors received
additional ten-year warrants to purchase an aggregate of 25,000 shares of common stock at a price
of $3.00 per share. On December 21, 2007, an aggregate of $1,008,744 in principal amount and
accrued but unpaid interest due on certain debentures was converted into an aggregate of 336,248
shares of Series B Redeemable Convertible Preferred Stock, $.0001 par value per share (the Series
B Preferred Stock).
In connection with a secured, revolving, demand promissory note dated November 16, 2006, we
issued the holder of the note a warrant to purchase an aggregate of 21,000 shares of common stock
at an exercise price of $3.80 per share on January 25, 2008.
On various dates from December 14, 2006 to December 4, 2007, we sold short term convertible
promissory notes to accredited investors in the aggregate principal amount of $1,356,000. On March
14, 2007, $330,955 in principal amount and accrued but unpaid interest due on the notes was
subsequently converted into an aggregate of 87,094 shares of Series A Preferred Stock. On December
21, 2007, $894,348 in principal amount and accrued but unpaid interest due on the notes was
converted into an aggregate of 298,116 shares of Series B Preferred Stock. These securities were
sold pursuant to the exemption from registration requirements provided by Section 4(2) of the
Securities Act and Rule 506 promulgated thereunder.
By stock purchase agreement dated March 14, 2007, as amended from time to time, we issued an
aggregate of 962,101 shares of Series A Preferred Stock to accredited investors. The shares of
Series A Preferred Stock were issued at a purchase price of $3.80 per share, resulting in
$3,655,955 of gross proceeds, part of which consisted of conversion of outstanding debt in the
aggregate amount of $330,955 including accrued but unpaid interest. These securities were sold
pursuant to the exemption from registration requirements provided by Section 4(2) of the Securities
Act and Rule 506 promulgated thereunder.
On various dates from December 2007 through June 2008, we issued an aggregate of 1,619,127
shares of Series B Preferred Stock to accredited investors. The shares of Series B Preferred Stock
were issued at a purchase price of $3.00 per share, resulting in $4,857,381 of gross proceeds, part
of which consisted of the conversion of outstanding debt in the aggregate amount of $1,903,092
including accrued but unpaid interest and services valued at approximately $100,000. In addition,
each investor received for each share of Series B Preferred Stock purchased, one ten-year warrant
to purchase five shares of the Companys common stock at an exercise price of $3.00 per share.
These securities were sold pursuant to the exemption from registration requirements provided by
Section 4(2) of the Securities Act and Rule 506 promulgated thereunder.
On various dates from March 2009 through August 2009, we issued an aggregate of 365,996 shares
of Series C Redeemable Convertible Preferred Stock, $.0001 par value per share (the Series C
Preferred Stock) to accredited investors. The shares of Series C Preferred Stock were issued at a
purchase price of $3.00 per share, resulting in $1,097,988 of gross proceeds. In addition, each
investor received for each share of Series C Preferred Stock purchased, one ten-year warrant to
purchase five shares of the Companys common stock at an exercise price of $3.00 per share. These
securities were sold pursuant to the exemption from registration requirements provided by Section
4(2) of the Securities Act and Rule 506 promulgated thereunder.
During
October 2009, we issued an aggregate of 563,414 shares of Series D Redeemable
Convertible Preferred Stock, $.0001 par value per share (the Series D Preferred Stock) to
accredited investors. The shares of Series D Preferred Stock were issued at a price of $3.00 per
share, resulting in $1,690,242 of gross proceeds. In addition, each investor received for each
share of Series D Preferred Stock purchased, one ten-year warrant to purchase five shares of the
Companys common stock at an exercise price of $3.00 per share. These securities were
II-3
sold pursuant to the exemption from registration requirements provided by Section 4(2) of the
Securities Act and Rule 506 promulgated thereunder.
For each of the above transactions exempt from registration requirements under Rule 506, the
individuals purchasing our securities had access to management and information concerning the
Company. For each of such sales, no advertising or general solicitation was employed in offering
the securities. The offerings and sales were made to a limited number of persons, all of whom were
accredited investors, business associates of ours or our executive officers, and transfer was
restricted by us in accordance with the requirements of the Securities Act. Each of such persons
represented to us that they were accredited or sophisticated investors, that they were capable of
analyzing the merits and risks of their investment, and that they understood the speculative nature
of their investment.
Item 16. Exhibits and Financial Statement Schedules.
|
(a) |
|
The exhibits listed in the following Exhibit Index are filed as part of this
registration statement. |
|
|
|
Exhibit |
|
|
Number |
|
Description |
|
|
|
*3.1
|
|
Certificate of Incorporation of Xstream Systems, Inc. filed with the State of
Delaware on May 27, 2004 |
|
|
|
*3.2
|
|
Certificate of Amendment of Certificate of Incorporation of Xstream Systems, Inc. filed with the State of Delaware on January 4, 2005 |
|
*3.3
|
|
Certificate of Amendment of Certificate of Incorporation of XStream Systems filed
with the State of Delaware on December 17, 2007 |
|
|
|
*3.4
|
|
Second Amended Certificate of Designation of Series A Redeemable Convertible
Preferred Stock of XStream Systems, Inc. filed with the State of Delaware on
August 24, 2009 |
|
|
|
*3.5
|
|
Amended Certificate of Designation of the Series B Redeemable Convertible
Preferred Stock XStream Systems, Inc. filed with the State of Delaware on August
24, 2009 |
|
|
|
*3.6
|
|
Amended Certificate of Designation of the Series C Redeemable Convertible
Preferred Stock XStream Systems, Inc. filed with the State of Delaware on August
24, 2009 |
|
|
|
*3.7
|
|
Amended Certificate of Designation of the Series D Redeemable Convertible
Preferred Stock XStream Systems, Inc. filed with the State of Delaware on August
24, 2009 |
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*3.8
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Amended and Restated By-laws of XStream Systems, Inc. dated March 14, 2007 |
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*3.9
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First Amendment to the Second Amended Certificate of Designation of the Series A
Redeemable Convertible Preferred Stock filed with the State of Delaware on
November 9, 2009 |
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*3.10
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First Amendment to the Amended Certificate of Designation of the Series B
Redeemable Convertible Preferred Stock filed with the State of Delaware on
November 9, 2009 |
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*3.11
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First Amendment to the Amended Certificate of Designation of the Series C
Redeemable Convertible Preferred Stock filed with the State of Delaware on
November 9, 2009 |
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*3.12
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First Amendment to the Amended Certificate of Designation of the Series D
Redeemable Convertible Preferred Stock filed with the State of Delaware on
November 9, 2009 |
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*3.13
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Certificate of Amendment to the
Certificate of Incorporation of XStream Systems, Inc. filed with the State of Delaware on
November 9, 2009 |
II-4
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Exhibit |
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Number |
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Description |
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*4.1
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Form of Unsecured Subordinated Debenture dated from time to time between
September 2005 and March 2006, by and among XStream Systems, Inc. and the
subscribers identified on the signature pages thereto |
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*4.2
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Investor Rights Agreement among Rutgers, The State University of New Jersey,
XStream Systems, Inc., Brian Mayo, Dr. William Mayo and Dr. William Mayo, as
trustee of the Irrevocable Trust f/b/o Zachary Mayo and Walter Helfrecht |
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*4.3
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Amended and Restated Registration Rights Agreement dated as of August 27, 2009
by and among XStream Systems, Inc. and the Investors named therein*** |
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*4.4
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Amended and Restated Series B Warrant Agreement dated August 27, 2009 between
XStream Systems, Inc. and the holders from time to time of the Warrants created
thereunder*** |
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*4.5
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Amended and Restated Series C
Warrant Agreement dated August 27, 2009 between
XStream Systems, Inc. and the holders from time to time of the Warrants created
thereunder*** |
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*4.6
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Series D Warrant Agreement
dated August 27, 2009 between XStream Systems, Inc.
and the holders from time to time of the Warrants created thereunder*** |
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*4.7
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Second Amended And Restated
Securityholders Agreement, dated as of August 27,
2009, among XStream Systems, Inc. and each of the securityholders named
therein*** |
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*4.8
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First Amendment to the Amended and Restated Series B Warrant Agreement dated
November 9, 2009 between XStream Systems, Inc. and the holders from time to time
of the Warrants created thereunder*** |
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*4.9
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First Amendment to the Amended and Restated Series C Warrant Agreement dated
November 9, 2009 between XStream Systems, Inc. and the holders from time to time
of the Warrants created thereunder*** |
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*4.10
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First Amendment to the
Series D Warrant Agreement dated November 9, 2009 between
XStream Systems, Inc. and the holders from time to time of the Warrants created
thereunder*** |
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*4.11
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First Amendment to the Second Amended and Restated Securityholders Agreement
dated November 9, 2009 between XStream Systems, Inc. and each of the
securityholders named therein*** |
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*4.12
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First Amendment to the Amended and Restated Registration Rights Agreement dated
as of November 9, 2009 by and among XStream Systems, Inc. and the Investors
named therein*** |
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*4.13
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Specimen Common Stock Certificate |
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**4.14
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Indenture relating to the 5% Subordinated Convertible Debentures between the
Company and the Trustee |
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*4.15
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Form of 5% Subordinated Convertible Debenture |
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**5.1
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Opinion of Greenberg Traurig, P.A. |
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**8
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Opinion of Greenberg Traurig, P.A. regarding tax matters |
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*10.1.1
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Amended and Restated 2004 Stock Option Incentive Plan |
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*10.1.2
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Amendment No. 1 to the Amended and Restated 2004 Stock Option Incentive Plan |
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*10.2
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2009 Long Term Incentive Compensation Plan |
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*10.3
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Series A Preferred Stock Purchase Agreement dated as of March 14, 2007 by and
among |
II-5
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Exhibit |
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Number |
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Description |
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XStream Systems, Inc. and the Investors named therein*** |
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*10.4
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First Amendment dated as of December 19, 2007 to the Series A Preferred Stock
Purchase Agreement dated as of March 14, 2007*** |
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*10.5
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Second Amendment to Series A Preferred Stock Purchase Agreement, dated as of May
30, 2008 among Xstream Systems, Inc., and the investors identified as Third
Closing Investors on Appendix I-C thereto*** |
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*10.6
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Series D Preferred Stock Purchase Agreement dated as of August 27, 2009 by and
among XStream Systems, Inc. and the Investors named therein*** |
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*10.7
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Employment Agreement with Brian T. Mayo dated November 1, 2006 |
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*10.8
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Employment Agreement with Paul J. Micciche, dated November 1, 2006 |
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*10.9
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Employment Agreement with Christie C. Butler, dated August 15, 2009 |
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*10.10
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Supplier Agreement between XStream Systems, Inc. and Kimball Electronics, Inc.
dated September 6, 2006*** |
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*10.11
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Term Loan Agreement between XStream Systems, Inc. and Kimball International, Inc.
dated September 6, 2006*** |
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*10.12
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Commercial Lease by and between Waldo Development, Inc. and XStream Systems,
dated March 15, 2007*** |
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*10.13
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Lease, by and between J.P.H. Development Corp. and Xstream Systems, dated October
25, 2004 |
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*10.14
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License Agreement between Rutgers, The State University of New Jersey and XStream
Systems, Inc., dated December 13, 2004*** |
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*10.15
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Consulting Agreement by and between XStream Systems, Inc. and Dr. William Mayo,
dated November 3, 2005 |
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*10.16
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Unsecured Promissory Note, dated February 11, 2008, executed by Xstream Systems,
Inc. in favor of Darren Sylvia, in the principal amount of $35,831.60*** |
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*10.17
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Unsecured Promissory Note, dated December 31, 2007, executed by Xstream Systems,
Inc. in favor of Vince DeTurris, in the principal amount of $43,069.65*** |
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*10.18
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XT250 Pilot Program Agreement between AmerisourceBergen and XStream Systems,
Inc., dated July 18, 2009 |
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*10.19
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Letter of Intent between Swisslog and XStream Systems, Inc., dated August 13, 2009 |
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*10.20
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XT250 Pilot Program Agreement between Pfizer, Inc. and XStream Systems, Inc.,
dated August 24, 2009*** |
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*10.21
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Letter of Intent between Eastman Kodak Company and XStream Systems, dated
September 23, 2009 |
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*14.1
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Code of Ethics for Senior Financial Officers |
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*14.2
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Code of Conduct for Employees |
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*23.1
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Consent of McGladrey & Pullen. |
II-6
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Exhibit |
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Number |
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Description |
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23.3
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Consent of Greenberg Traurig, P.A. (included in the opinion filed as Exhibit 5.1). |
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*25.1
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Power of Attorney (set forth on signature page of the Registration Statement). |
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* |
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Filed herewith. |
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** |
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To be filed by amendment. |
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*** |
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Schedules and exhibits have been omitted pursuant to Item 601(b)(2) of Regulation S-K. The
Company undertakes to furnish supplemental copies of any of the omitted schedules and exhibits upon
request by the Securities and Exchange Commission. |
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Stockholder Signatures Intentionally omitted signature pages are available
from the Company upon request. |
(b) The financial statement schedules are either not applicable or the required information is
included in the financial statements and footnotes related thereto.
Item 17. Undertakings.
A. |
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The undersigned registrant hereby undertakes: |
(1) To file, during any period in which offers or sales are being made, a post-effective
amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after the effective date of the
registration statement (or the most recent post-effective amendment thereof) which, individually or
in the aggregate, represent a fundamental change in the information set forth in the registration
statement. Notwithstanding the foregoing, any increase or decrease in volume of securities offered
(if the total dollar value of securities offered would not exceed that which was registered) and
any deviation from the low or high end of the estimated maximum offering range may be reflected in
the form of prospectus filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than 20 percent change in the maximum aggregate
offering price set forth in the Calculation of Registration Fee table in the effective
registration statement; and
(iii) To include any material information with respect to the plan of distribution not
previously disclosed in the registration statement or any material change to such information in
the registration statement.
(2) That, for the purpose of determining any liability under the Securities Act of 1933, each
such post-effective amendment shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment any of the securities
being registered which remain unsold at the termination of the offering.
(4) Intentionally omitted.
(5) That, for the purpose of determining liability under the Securities Act of 1933 to any
purchaser:
(i) Intentionally omitted.
(ii) If the registrant is subject to Rule 430C, each prospectus filed pursuant to Rule 424(b)
as part of a registration statement relating to an offering, other than registration statements
relying on Rule 430B or other than prospectuses filed in reliance on Rule 430A, shall be deemed to
be part of and included in the registration statement as of the date it is first used after
effectiveness. Provided, however, that no statement made in a registration statement or prospectus
that is part of the registration statement or made in a document incorporated or deemed
incorporated by reference into the registration statement or made in a document incorporated or
deemed incorporated by reference into the registration statement or prospectus that is part of the
registration statement will, as to a purchaser with a time of contract of sale prior to such first
use, supersede or modify any statement that was made in the registration statement or prospectus
that was part of the registration statement or made in any such document immediately prior to such
date of first use.
II-7
(6) That, for the purpose of determining liability of the registrant under the Securities Act
of 1933 to any purchaser in the initial distribution of the securities:
The undersigned registrant undertakes that in a primary offering of securities of the
undersigned registrant pursuant to this registration statement, regardless of the underwriting
method used to sell the securities to the purchaser, if the securities are offered or sold to such
purchaser by means of any of the following communications, the undersigned registrant will be a
seller to the purchaser and will be considered to offer or sell such securities to such purchaser:
(i) Any preliminary prospectus or prospectus of the undersigned registrant relating to the
offering required to be filed pursuant to Rule 424.
(ii) Any free writing prospectus relating to the offering prepared by or on behalf of the
undersigned registrant or used or referred to by the undersigned registrant;
(iii) The portion of any other free writing prospectus relating to the offering containing
material information about the undersigned registrant or its securities provided by or on behalf of
the undersigned registrant; and
(iv) Any other communication that is an offer in the offering made by the undersigned
registrant to the purchaser.
B. Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be
permitted to directors, officers and controlling persons of the registrant pursuant to the
foregoing provisions, or otherwise, the registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public policy as expressed in
the Act and is, therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the registrant of expenses incurred or paid by a
director, officer or controlling person of the registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person in connection with
the securities being registered, the registrant will, unless in the opinion of its counsel the
matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as expressed in the Act and
will be governed by the final adjudication of such issue.
II-8
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant has duly caused
this registration statement to be signed on its behalf by the undersigned, in the City of
Sebastian, State of Florida, on November 12, 2009.
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XSTREAM SYSTEMS, INC.
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By: |
/s/ James J. Lowrey
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James J. Lowrey |
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Chairman of the Board, and Chief Executive Officer
(principal executive officer) |
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By: |
/s/ Christie Butler
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Christie Butler |
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Chief Financial Officer and Treasurer
(principal financial and accounting officer) |
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POWER OF ATTORNEY
We, the undersigned officers and directors of Xstream Systems, Inc., hereby severally
constitute and appoint Anthony Chidoni and Christie C. Butler, and each of them (with full power to
each of them to act alone), our true and lawful attorneys-in-fact and agents, with full power of
substitution, for us and in our stead, in any and all capacities, to sign any and all amendments
(including pre-effective and post-effective amendments) to this Registration Statement and all
documents relating thereto, and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the U.S. Securities and Exchange Commission, granting to said
attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and
every act and thing necessary or advisable to be done in and about the premises, as full to all
intents and purposes as he might or could do in person, hereby ratifying and confirming all the
said attorneys-in-fact and agents, or any of them, or their substitute or substitutes may lawfully
do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this registration statement has
been signed by the following persons in the capacities and on the dates indicated.
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/s/ James J. Lowrey
James J. Lowrey
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Chairman of the Board and
Chief Executive Officer
(principal executive officer)
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November 8, 2009 |
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/s/ Christie C. Butler
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Chief Financial Officer
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November 9, 2009 |
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(principal financial officer
and principal accounting
officer) |
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Director |
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November 9, 2009 |
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Director |
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November 9, 2009 |
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Director |
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November 9, 2009 |
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Director |
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November 9, 2009 |
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Director |
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November 8, 2009 |
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Director |
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November 9, 2009 |
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Director |
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November 9, 2009 |
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/s/
Dr. E. Darracott Vaughan, Jr.
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Director |
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November 9, 2009 |
Dr. E. Darracott Vaughan, Jr.
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Director |
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November 8, 2009 |
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