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EX-23.1 - CONSENT - TELKONET INC | telkonet_s1-ex2301.htm |
As
filed with the Securities and Exchange Commission on February 12,
2010
Registration
No. 333-
UNITED STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
S-1
REGISTRATION
STATEMENT
UNDER
THE
SECURITIES ACT OF 1933
Telkonet,
Inc.
(Exact
Name of Registrant as Specified in Its Charter)
Utah
|
4899
|
87-0627421
|
(State
or other jurisdiction of
incorporation
or organization)
|
(Primary
Standard Industrial
Classification
Code Number)
|
(I.R.S. Employer
Identification
Number)
|
10200
Innovation Drive
Suite
300
Milwaukee,
WI 53226
(414)
223-0473
(Address,
including zip code, and telephone number, including area code, of registrant’s
principal executive offices)
Jason
L. Tienor
Chief
Executive Officer
Telkonet,
Inc.
10200
Innovation Drive
Suite
300
Milwaukee,
WI 53226
(414)
223-0473
(Name,
address, including zip code, and telephone number, including area code, of agent
for service)
Copy
to:
Howard
J. Barr
General
Counsel
Telkonet,
Inc.
10200
Innovation Drive
Suite
300
Milwaukee,
WI 53226
(414)
223-0473
Approximate date of commencement of
proposed sale to the public: As soon as practicable after this
registration statement becomes effective.
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, please 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 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 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.
Large
Accelerated filer o
|
Accelerated
filer o
|
Non-accelerated
filer o
(Do
not check if a smaller reporting company)
|
Smaller
reporting company þ
|
CALCULATION OF REGISTRATION FEE
Title
of Each Class of Securities to be Registered (1)
|
Amount
to be Registered
|
Proposed
Maximum
Offering
Price Per Unit
|
Proposed
Maximum
Aggregate
Offering Price
|
Amount
of
Registration
Fee
|
Transferable
subscription rights, each to purchase one share of our common stock and a
warrant to purchase one additional share of our common stock
(2)
|
—
|
—
|
—
|
—
|
Common
stock, $0.001 par value per share, underlying the subscription rights
(3)
|
—
|
—
|
$15,000,000
|
$1,069.50
|
Transferable
warrants to purchase shares of our common stock (4)
|
—
|
—
|
—
|
—
|
Common
stock, $0.001 par value per share, issuable upon the exercise of the
warrants (5)
|
—
|
—
|
$18,750,000
|
$1,336.88
|
Total
Registration Fee:
|
$33,750,000
|
$2,406.38
|
_____________________________
(1)
|
This
registration statement relates to (a) the subscription rights to purchase
common stock, par value $0.001 per share, and warrants, (b) shares of our
common stock deliverable upon the exercise of the subscription rights, (c)
the warrants deliverable upon exercise of the subscription rights, and (d)
shares of our common stock that are deliverable upon exercise of the
warrants.
|
(2)
|
The
subscription rights are being issued without
consideration. Pursuant to Rule 457(g), no separate
registration fee is payable with respect to the subscription rights being
offered hereby since the subscription rights are being registered in the
same registration statement as the securities to be offered pursuant
thereto.
|
(3)
|
Calculated
pursuant to Rule 457(o) based on an estimate of the proposed maximum
offering price of our common stock of
$15,000,000.
|
(4)
|
Pursuant
to Rule 457(g), no separate registration fee is payable with respect to
the warrants being offered hereby since the warrants are being registered
in the same registration statement as the securities to be offered
pursuant thereto.
|
(5)
|
Calculated
pursuant to Rule 457(o) based on an estimate of the proposed maximum
exercise price of $18,750,000. (representing 125% of the proposed maximum
offering price of the common stock underlying the subscription
rights).
|
__________________________________________
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 or until the Registration Statement shall become effective on
such date as the Commission, acting pursuant to said Section 8(a), shall
determine.
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE
CHANGED. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY THESE
SECURITIES BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT FILED WITH
THE SECURITIES AND EXCHANGE COMMISSION BECOMES EFFECTIVE. THIS
PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN
OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT
PERMITTED.
SUBJECT TO COMPLETION—DATED FEBRUARY 12, 2010
PRELIMINARY
PROSPECTUS
TELKONET,
INC.
Up
to [●] Shares of Common Stock
And
Warrants to Purchase [●] Shares of Common Stock
Issuable
upon Exercise of Rights to Subscribe for Such Shares and Warrants
We are
distributing, at no charge to holders of shares of our common stock, other than
those who hold shares of our common stock solely as participants in the
Telkonet, Inc. 401(k) Plan, and holders of shares of our Series A convertible
redeemable preferred stock, transferable subscription rights to subscribe for
shares of our common stock and transferable warrants to purchase additional
shares of our common stock. We refer to this offering as the “rights
offering.” We are offering the subscription rights in a rights
offering to holders of our common stock and holders of our Series A convertible
redeemable preferred stock of record as of 5:00 p.m., Eastern time, on [●],
2010, the record date. Our shareholders will receive one transferable
subscription right for every share of our common stock held of record and every
share of our common stock into which our Series A convertible redeemable
preferred stock held of record is convertible as of 5:00 p.m., Eastern time, on
the record date. Pursuant to the terms of the rights offering, the
rights may only be exercised for a maximum of [●] shares of common stock and
related warrants, or $[●] of subscription proceeds.
Each
transferable subscription right entitles the holder (including holders of
subscription rights acquired during the subscription period) to subscribe for
one share of our common stock at the subscription price of $[●] per share and to
receive a warrant to purchase one additional share of our common stock at an
exercise price of $[●], or [●]% of the subscription price, for a period of five
years after the date of issuance, which we refer to as the basic subscription
right. In addition, rights holders who fully exercise their basic
subscription rights will be entitled, subject to limitations, to subscribe for
additional shares of our common stock and warrants that remain unsubscribed as a
result of any unexercised basic subscription rights, which we refer to as the
over-subscription right, at the subscription price of $[●] per
share. Unless we otherwise agree in writing, a person or entity,
together with related persons or entities, may not exercise subscription rights
(including over-subscription rights) to purchase shares of our common stock
that, when aggregated with their existing ownership, would result in such person
or entity, together with any related persons or entities, owning in excess of
twenty percent (20%) of our issued and outstanding shares of common stock
following the closing of the transactions contemplated by this rights
offering.
The
subscription rights will expire if they are not exercised by 5:00 p.m., Eastern
time, on [●], 2010, but we may extend the rights offering for additional periods
ending no later than [●]. Our board of directors may cancel the
rights offering for any reason at any time before it expires. If we
cancel the rights offering, the subscription agent will return all subscription
payments received, without interest or penalty, as soon as
practicable.
You
should carefully consider whether to exercise your subscription rights before
the rights offering expires. All exercises of subscription rights are
irrevocable. The purchase of our common stock and warrants involves a
high degree of risk.
You
should read “Risk Factors” beginning on page 17 of this prospectus and all other
information included in this prospectus in its entirety before you decide
whether to exercise your rights. Our board of directors is making no
recommendation regarding your exercise of the subscription rights.
Our
common stock is quoted on the OTC Bulletin Board under the symbol
“TKOI” The shares of common stock issued in this rights offering and
pursuant to the terms of the warrants will also be quoted on the OTC Bulletin
Board under the same symbol. The last reported sale price of our
common stock on February 10, 2010 was $0.21 per share. The
subscription rights are transferable during the course of the subscription
period, and we intend to apply for quotation of the subscription rights on the
OTC Bulletin Board under the symbol “[●].” The warrants to be issued
pursuant to the rights offering are separately transferable following their
issuance through their expiration date of [●], 2015, and we intend to apply for
quotation of the warrants on the OTC Bulletin Board under the symbol
“[●].”
This is
not an underwritten offering. The dealer-manager has agreed to use
its reasonable efforts to advise and assist us in our efforts to solicit
subscriptions of the rights distributed to holders of our common stock and
Series A convertible redeemable preferred stock, but the dealer manager is not
underwriting the offering and has no obligation to purchase or procure purchases
of the common stock and warrants offered by this prospectus.
OFFERING
SUMMARY
Per Subscription
Right
|
Aggregate
(1)
|
|
$[●]
|
$[●]
|
|
Dealer
Manager Fee (2)
|
$[●]
|
$[●]
|
Proceeds,
before Expenses, to Us
|
$[●]
|
$[●]
|
(1)
|
Assumes
that this rights offering is fully subscribed for and that the maximum
offering amount is $[●] of subscription
proceeds.
|
(2)
|
In
connection with the rights offering, we have agreed to pay Source Capital
Group, Inc., the dealer-manager for this offering, a fee equal to 8% of
the gross proceeds of this offering. We will also grant to the
dealer-manager a five-year warrant to purchase up to 4% of the total
number of shares of our common stock sold in the rights offering at an
exercise price per share equal to 125% of the subscription price per
share.
|
Neither
the Securities and Exchange Commission nor any state securities commission has
approved or disapproved of these securities or passed on the adequacy or
accuracy of this prospectus. Any representation to the contrary is a
criminal offense.
Dealer-Manager
Source
Capital Group, Inc.
The
date of this prospectus is [●], 2010.
Questions and Answers Relating to the Rights Offering | 2 |
Prospectus Summary | 9 |
Risk Factors | 17 |
Use of Proceeds | 31 |
Capitalization | 32 |
Dilution | 33 |
Determination of Offering Price | 34 |
Management’s Discussion and Analysis of Financial Condition and Results of Operations | 35 |
The Rights Offering | 50 |
Market Price of and Dividends on Common Equity and Related Shareholder Matters | 58 |
Business | 59 |
Management | 67 |
Executive Compensation | 69 |
Security Ownership of Certain Beneficial Owners and Management | 72 |
Certain Relationships and Related Transactions | 73 |
Description of Securities | 74 |
Description of Warrants | 78 |
Material U.S. Federal Income Tax Considerations | 79 |
Plan of Distribution | 83 |
Legal Matters | 84 |
Experts | 84 |
Where You Can Find Additional Information | 85 |
Financial Statements | F-1 |
ii
ABOUT THIS PROSPECTUS
Unless
otherwise stated or the context otherwise requires, the terms “Telkonet,” “we,”
“us,” and “our” refer to Telkonet, Inc.
You
should rely only on the information contained or incorporated by reference in
this prospectus. We have not authorized anyone to provide you with
additional or different information. If anyone provides you with
additional, different, or inconsistent information, you should not rely on
it. We are not making an offer to sell securities in any jurisdiction
in which the offer or sale is not permitted. You should assume that
the information in this prospectus is accurate only as of the date on the front
cover of this prospectus, and any information we have incorporated by reference
is accurate only as of the date of the document incorporated by reference, in
each case, regardless of the time of delivery of this prospectus or any exercise
of the rights. Our business, financial condition, results of
operations, and prospects may have changed since those dates.
Telkonet,
Telkonet iBridge, Telkonet iWire System, Telkonet SmartEnergy, EthoStream and
E-Zone are registered trademarks of Telkonet or our
subsidiaries. This prospectus also includes other trademarks and
service marks of Telkonet and our subsidiaries, including Recovery Time, Series
5 and Telkonet Networked SmartEnergy, as well as trademarks of other
persons. All other trademarks, tradenames and service marks appearing
in this prospectus are the property of their respective owners.
MARKET
AND INDUSTRY DATA
Unless we
indicate otherwise, we base the information concerning our industry contained in
this prospectus on our general knowledge of and expectations concerning the
industry. Our market position, market share and industry market size
are based on our estimates using our internal data and estimates, data from
various industry analyses, internal research and adjustments and assumptions
that we believe to be reasonable. We have not independently verified data from
industry analyses and cannot guarantee their accuracy or
completeness. In addition, we believe that data regarding the
industry, market size and our market position and market share within such
industry provide general guidance but are inherently
imprecise. Further, our estimates and assumptions involve risks and
uncertainties and are subject to change based on various factors, including
those discussed in the “Risk Factors” section of this prospectus and the other
information contained herein. These and other factors could cause
results to differ materially from those expressed in the estimates and
assumptions.
iii
SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain
statements contained in this prospectus contain forward-looking statements and
information, which involve risks and uncertainties. Forward-looking
statements provide our current expectations and forecasts about future events,
and include statements regarding our future results of operations and financial
position, business strategy, budgets, projected costs, plans and objectives of
management for future operations. The words “may,” “continue,”
“estimate,” “intend,” “plan,” “will,” “believe,” “project,” “expect,”
“anticipate” and similar expressions may identify forward-looking statements,
but the absence of these words does not necessarily mean that a statement is not
forward-looking.
These
forward-looking statements include, among other things, statements
about:
·
|
The
competitive and rapidly-evolving nature of
our industry;
|
·
|
The
potential effect of competing products on our
business;
|
·
|
Our
ability to obtain capital, use internally generated cash or debt, or use
shares of our common stock to finance future
acquisitions;
|
·
|
Our
reliance on a limited number of third party suppliers and the potential
effects of such reliance;
|
·
|
The
expected timing for the completion of the transactions described in this
prospectus;
|
·
|
The
expected effect of the transactions described in this prospectus on our
company;
|
·
|
Estimates
regarding our capital requirements, and anticipated timing of the need for
additional funds;
|
·
|
The
condition of the financial markets;
and
|
·
|
The
current economic downturn.
|
Any or
all of our forward-looking statements may turn out to be
inaccurate. We have based these forward-looking statements largely on
our current expectations and projections about future events and financial
trends that we believe may affect our financial condition, results of
operations, business strategy and financial needs. Forward-looking
statements may be affected by inaccurate assumptions we might make or by known
or unknown risks and uncertainties, including the risks, uncertainties and
assumptions described in “Risk Factors.” In light of these risks,
uncertainties and assumptions, the forward-looking events and circumstances
contained in this prospectus may not occur as contemplated, and actual results
could differ materially from those anticipated or implied by the forward-looking
statements.
You
should read this prospectus with the understanding that our actual future
results may be materially different from what we expect. We qualify
all of the forward-looking statements in this prospectus by these cautionary
statements.
In
addition, our past results are not necessarily indicative of our future
results. We discuss these and other uncertainties in the “Risk
Factors” section of this prospectus beginning on page 17. Unless
required by law, we undertake no obligation to publicly update or revise any
forward-looking statements to reflect new information or future events or
otherwise.
iv
QUESTIONS
AND ANSWERS RELATING TO THE RIGHTS OFFERING
The
following are examples of what we anticipate will be common questions about the
rights offering. The answers are based on selected information from
this prospectus. The following questions and answers do not contain
all of the information that may be important to you and may not address all of
the questions that you may have about the rights offering. This
prospectus contains more detailed descriptions of the terms and conditions of
the rights offering and provides additional information about us and our
business, including potential risks related to the rights offering, our common
stock, our business and our prospects.
What
is the rights offering?
A rights
offering is a distribution of subscription rights on a pro rata basis to
existing shareholders of a company. We are distributing, at no charge
to holders of shares of our common stock, other than those who hold shares of
our common stock solely as participants in the Telkonet, Inc. 401(k) Plan, and
holders of shares of our Series A convertible redeemable preferred stock,
subscription rights to purchase up to an aggregate of [●] shares of our common
stock. For each share of common stock subscribed for by the holder of
the subscription right, the holder will also receive a warrant to purchase one
share of our common stock at an exercise price of $[●] per share at any time until
its expiration date of [●], 2015. You will receive one subscription
right for every share of common stock that you owned and every share of common
stock into which shares of our Series A convertible redeemable preferred stock
that you owned were convertible as of 5:00 p.m., Eastern time, on [●], 2010, the record date for
the rights offering. The subscription rights will be evidenced by
subscription rights certificates, which will be distributed to the record
holders of our common stock and Series A convertible redeemable preferred
stock. As described below, this offering is limited to aggregate
subscription proceeds of $[●].
What
is the basic subscription right?
The basic
subscription right gives our shareholders the opportunity to purchase one share
of our common stock at the subscription price of $[●] per share and to receive a
warrant to purchase one additional share of our common stock at $[●], or [●]% of the subscription price,
at any time until its expiration date of [●], 2015. The
subscription rights are transferable during the course of the subscription
period, and we intend to apply for quotation of the subscription rights on the
Over-the-Counter Bulletin Board, or the OTC Bulletin Board, under the symbol
“[●].” The warrants to be issued pursuant to this offering are
separately transferable following their issuance and through their expiration
date of [●], 2015, and we intend to apply for quotation of the warrants on the
OTC Bulletin Board under the symbol “[●].”
A holder
may exercise any number of his, her or its basic subscription rights or may
choose not to exercise any subscription rights at all. Unless we
otherwise agree in writing, a person or entity, together with related persons or
entities, may not exercise subscription rights (including over-subscription
rights) to purchase shares of our common stock that, when aggregated with their
existing ownership, would result in such person or entity, together with any
related persons or entities, owning in excess of twenty percent (20%) of our
issued and outstanding shares of common stock following the closing of the
transactions contemplated by this rights offering.
For
example, if you own 1,000 shares of our common stock on the record date, you
will be granted one right for every share of our common stock you own at that
time, representing the right to subscribe for up to an aggregate of 1,000 shares
of our common stock and to receive warrants to purchase up to an aggregate of
1,000 additional shares of our common stock. If you hold your shares
in the name of a broker, dealer, custodian bank, trustee or other nominee who
uses the services of the Depository Trust Company, or DTC, then DTC will issue
one right to the nominee for every share of our common stock you own at the
record date.
If basic
subscription rights are exercised for more than $[●], then the total number of
exercised basic subscription rights to be fulfilled will be limited to $[●] and reduced on a pro-rata
basis based on the number of shares subscribed for by each such holder as part
of their basic subscription rights, subject to adjustment to eliminate
fractional shares, and any excess subscription amount received by the
subscription agent will be returned, without interest, as soon as
practicable.
2
What is the over-subscription right?
If a
holder elects to exercise all of his, her or its basic subscription rights, such
holder may also elect, subject to limitations, to subscribe for additional
shares of our common stock that remain unsubscribed as a result of any
unexercised basic subscription rights. The over-subscription right
allows a holder to subscribe for an additional amount equal to up to [●]% of the
shares and warrants for which such holder was otherwise entitled to subscribe.
The over-subscription rights will only be fulfilled if the basic subscription
rights are not exercised for at least $[●] and only to the extent that
aggregate subscription proceeds (including from over-subscription rights) are no
more than $[●].
For
example, if you own 1,000 shares of our common stock on the record date and
exercise your basic subscription right to subscribe for all (but not less than
all) 1,000 shares of our common stock which are available for you to subscribe
for, then you may also concurrently exercise your over-subscription right to
subscribe for up to an aggregate of [●] additional shares of our common stock
that may remain unsubscribed as a result of subscription rights holders not
exercising their basic subscription rights for an aggregate of $[●], subject to the pro-rata
adjustments described below. Accordingly, if your basic and
over-subscription rights are exercised and honored in full, you would receive a
total of [●] shares of our common stock in this rights offering, and warrants to
purchase up to an aggregate of [●] additional shares of our common
stock. Payments in respect of over-subscription rights are due at the
time payment is made for the basic subscription right.
What
happens if subscription rights holders exercise their respective
over-subscription rights to purchase additional shares of common
stock?
We will
allocate any remaining available shares of our common stock pro-rata among
subscription rights holders who exercised their respective over-subscription
rights, based on the number of over-subscription shares of our common stock to
which they subscribed. The number of shares of our common stock each
over-subscribing rights holder may be allocated on a pro-rata basis will be
rounded down to eliminate fractional shares.
Payments
for basic subscriptions and over-subscriptions will be deposited upon receipt by
the subscription agent and held in a segregated account with the subscription
agent pending a final determination of the number of shares of our common stock
to be issued pursuant to the basic and over-subscription rights. If
the pro-rated number of shares of our common stock allocated to you in
connection with your basic or over-subscription right is less than your basic or
over-subscription request, then the excess funds held by the subscription agent
on your behalf will be returned to you, without interest, as soon as practicable
after the rights offering has expired and all prorating calculations and
reductions contemplated by the terms of the rights offering have been
effected. We will deliver certificates representing your shares of
our common stock and warrants or credit your account at your nominee holder with
shares of our common stock and warrants that you purchased pursuant to your
basic and over-subscription rights as soon as practicable after the rights
offering has expired and all prorating calculations and reductions contemplated
by the terms of the rights offering have been effected.
Why are we conducting the rights
offering?
We are
conducting the rights offering to raise equity capital to support our operations
and strengthen our balance sheet. We anticipate that proceeds from
the offering will be applied toward the expansion of our sales and marketing
operations, general working capital purposes, potential acquisitions of
complementary businesses and research and development. See “Use of
Proceeds.” Our board of directors has elected a rights offering over
other types of financings because a rights offering provides our existing
shareholders the opportunity to participate in this offering first, and our
board of directors believes this will result in less dilution of our existing
shareholders’ ownership interest in our company than if we issued securities to
new investors.
Do
we intend to enter into standby agreements in connection with the rights
offering?
Source
Capital Group, Inc., the dealer-manager for the rights offering, will act as a
standby placement agent for any unsubscribed shares in the
offering. The dealer-manager will have the ability to solicit any
unsubscribed shares (together with related warrants) for a period of thirty
business days after the closing of the rights offering.
3
How was the $[●] per share subscription price determined?
The
subscription price per share for the rights offering was set by our board of
directors. In determining the subscription price, our board of
directors considered, among other things, our cash needs, the historical and
current market price of our common stock, the fact that holders of subscription
rights will have an over-subscription right, the terms and expenses of this
offering relative to other alternatives for raising capital (including fees
payable to the dealer-manager), the size of this offering and the general
condition of the securities market. Based upon these factors, our
board of directors determined that the subscription price per share represented
an appropriate subscription price.
We did
not seek or obtain an opinion of a financial advisor in establishing the
subscription price. The subscription price will not necessarily be
related to our book value, tangible book value, multiple of earnings or any
other established criteria of fair value and may or may not be considered the
fair value of our common stock offered in this offering. You should
not assume or expect that, after this offering, our shares of common stock will
trade at or above the subscription price in any given time
period. The market price of our common stock may decline during or
after the rights offering, and you may not be able to sell the underlying shares
of our common stock purchased during the rights offering at a price equal to or
greater than the subscription price. You should obtain a current
quote for our common stock before exercising your subscription rights and make
your assessment of our business and financial condition, our prospects for the
future, and the terms of this rights offering.
Am
I required to exercise all of the subscription rights I receive in the rights
offering?
No.
You may exercise any number of your subscription rights, or you may choose not
to exercise any subscription rights. Although we will attempt to
satisfy all oversubscription requests in full, we cannot assure you that we will
fill any over-subscriptions.
If you do
not exercise any subscription rights, the number of shares of our common stock
and preferred stock that you own will not change. However, if you
choose not to exercise your subscription rights, your ownership interest in our
company will be diluted by other shareholder purchases. In addition,
if you do not exercise your basic subscription right in full, you will not be
entitled to participate in the over-subscription right. See “Risk Factors — If
you do not exercise your subscription rights, your percentage ownership in our
company will be diluted.”
How
soon must I act to exercise my subscription rights?
If you
received a rights certificate and elect to exercise any or all of your
subscription rights, the subscription agent must receive your completed and
signed rights certificate and payments before the rights offering expires on
[●], 2010, at 5:00 p.m.,
Eastern time. If you hold your shares in the name of a broker,
dealer, custodian bank or other nominee, your nominee may establish a deadline
before the expiration of the rights offering by which you must provide it with
your instructions to exercise your subscription rights. Although our
board of directors may, in its discretion, extend the expiration date of the
rights offering, we currently do not intend to do so. Our board of
directors may cancel the rights offering at any time. If the rights
offering is cancelled, all subscription payments received will be returned,
without interest or penalty, as soon as practicable.
Although
we will make reasonable attempts to provide this prospectus to our shareholders,
the rights offering and all subscription rights will expire on the expiration
date, whether or not we have been able to locate each person entitled to
subscription rights.
May I transfer or sell my
subscription rights if I do not want to purchase my shares?
Yes. The
subscription rights are transferable during the course of the subscription
period, and we intend to apply for quotation of the subscription rights on the
OTC Bulletin Board under the symbol “[●]” beginning on or about
[●], 2010, until 5:00
p.m., Eastern time, on [●], 2010, the scheduled
expiration date of this rights offering. However, the subscription
rights are a new issue of securities with no prior trading market, and we cannot
provide you any assurances as to the liquidity of the trading market for the
subscription rights or as to the prices at which such subscription rights may
trade during the subscription period.
4
Are we requiring a minimum overall subscription to complete the rights offering?
No.
We are not requiring an overall minimum subscription to complete the rights
offering. However, our board of directors reserves the right to
cancel the rights offering for any reason, including if we do not receive
aggregate subscriptions that we believe will satisfy our capital-raising
objectives.
Can
the board of directors cancel or extend the rights offering?
Yes. Our
board of directors may decide to cancel the rights offering at any time and for
any reason before the rights offering expires. If our board of
directors cancels the rights offering, any money received from subscribing
shareholders will be returned, without interest or penalty, as soon as
practicable. We also have the right to extend the rights offering for
additional periods ending no later than [●] although we do not
presently intend to do so.
Has our board of directors made a
recommendation to our shareholders regarding the rights
offering?
No.
Neither our board of directors nor the dealer-manager is making any
recommendation regarding your exercise of the subscription
rights. Shareholders who exercise subscription rights will incur
investment risk on new money invested. We cannot predict the price at
which our shares of common stock will trade after the offering. The
market price for our common stock may decrease to an amount below the
subscription price, you may not be able to sell the underlying shares of our
common stock in the future at the same price or a higher price. You
should make your decision based on your assessment of our business and financial
condition, our prospects for the future, the terms of the rights offering and
the information contained in this prospectus. See “Risk Factors” for
a discussion of some of the risks involved in investing in the securities
offered in the rights offering. The warrants may never trade at a
price greater than their exercise price. In addition, the aggregate
proceeds you receive from the sale of the common stock you subscribe for and
from the sale of the warrants you receive upon exercise of your subscription
rights may be less than your subscription price.
Will our directors and executive
officers participate in the rights offering?
Our
directors and executive officers may participate in the rights offering but are
not obligated to do so. If our directors and executive officers, and
their affiliates, choose to participate in this offering, they will pay the same
subscription price per share as all other purchasers.
Several
of our officers and directors participated in our November 2009 private
placement of Series A convertible redeemable preferred stock and
warrants. On November 16, 2009, we entered into an Executive Officer
Reimbursement Agreement with each of Messrs. Tienor, Sobieski and Leimbach, our
Chief Executive Officer, Chief Operating Officer and Chief Financial Officer,
respectively, pursuant to which these executive officers participated in the
private placement by converting a portion of our outstanding indebtedness owed
to them into shares of Series A convertible redeemable preferred stock and
warrants to purchase shares of our common stock. Mr. Tienor converted
$20,000 of outstanding indebtedness into four shares of Series A
convertible redeemable preferred stock (convertible into 55,096 shares of common
stock) and warrants to purchase 30,304 shares of common stock; Mr. Leimbach
converted $10,000 of outstanding indebtedness into two shares of Series A
convertible redeemable preferred stock (convertible into 27,548 shares of common
stock) and warrants to purchase 15,152 shares of common stock; and Mr. Sobieski
converted $20,000 of outstanding indebtedness into four shares of Series A
convertible redeemable preferred stock (convertible into 55,096 shares of common
stock) and warrants to purchase 30,304 shares of common
stock. Anthony Paoni, Chairman of our Board of Directors, also
participated in the private placement, purchasing five shares of Series A
convertible redeemable preferred stock (convertible into 68,870 shares of common
stock) and warrants to purchase 37,880 shares of common stock, for an aggregate
purchase price of $25,000.
The
above-named directors and executive officers will have the right to participate
in the rights offering based on the number of shares of our common stock held by
them, and the number of shares of our common stock into which shares of Series A
convertible redeemable preferred stock held by them were convertible, as of the
record date.
5
How do I exercise my subscription rights if I own shares in certificate form?
If you
hold a Telkonet, Inc. stock certificate and you wish to participate in the
rights offering, you must take the following steps:
·
|
deliver
payment to the subscription agent before 5:00 p.m., Eastern time, on [●],
2010; and
|
|
·
|
deliver
a properly completed and signed rights certificate to the subscription
agent before 5:00 p.m., Eastern time, on [●],
2010.
|
In
certain cases, you may be required to provide additional documentation or
signature guarantees.
Please
follow the delivery instructions on the rights certificate. Do not
deliver documents to Telkonet. You are solely responsible for
completing delivery to the subscription agent of your subscription documents,
rights certificate and payment. You should allow sufficient time for
delivery of your subscription materials to the subscription agent so that the
subscription agent receives them by 5:00 p.m., Eastern time, on [●], 2010.
If you
send a payment that is insufficient to exercise the number of subscription
rights you requested, or if the number of subscription rights you requested is
not specified in the forms, the payment received will be applied to exercise
your subscription rights to the fullest extent possible based on the amount of
the payment received, subject to the availability of subscription rights under
the over-subscription right and the elimination of fractional subscription
rights.
What should I do if I want to
participate in the rights offering but my shares are held in the name of a
broker, dealer, custodian bank or other nominee?
If you
hold your shares of common stock or Series A convertible redeemable preferred
stock through a broker, dealer, custodian bank or other nominee, then your
nominee is the record holder of the shares you own. The record holder
must exercise the subscription rights on your behalf. If you wish to
purchase our common stock through the rights offering, you should contact your
broker, dealer, custodian bank or nominee as soon as possible. Please
follow the instructions of your nominee. Your nominee may establish a
deadline that may be before the expiration date of the rights
offering.
When will I receive my new shares and
warrants?
If you
purchase shares of our common stock and warrants in the rights offering, you
will receive your new shares and warrants as soon as practicable after the
closing of the rights offering.
After I send in my payment and rights
certificate, may I cancel my exercise of subscription
rights?
No.
All exercises of subscription rights are irrevocable unless the rights offering
is cancelled, even if you later learn information that you consider to be
unfavorable to the exercise of your subscription rights. You should
not exercise your subscription rights unless you are certain that you wish to
purchase shares of our common stock in the rights offering.
Are
there any conditions to completing the rights offering?
No, there
are no conditions to completion of the rights offering.
What
effects will the rights offering have on our outstanding common
stock?
As of
January 31, 2010, we had 96,563,771 shares of our common stock issued and
outstanding, and 215 shares of our Series A convertible redeemable preferred
stock issued and outstanding, which are convertible into an aggregate of
2,961,429 shares of our common stock. Another 11,144,212 shares are
subject to unexercised options granted pursuant to our Stock Option Plan, or
reserved for issuance in connection with future grants under the Stock Option
Plan. In addition, up to 12,158,941 shares of our common stock are
reserved for issuance upon the exercise of warrants and conversion of our
outstanding convertible debentures, of which 4,621,212 shares reserved for
issuance cannot be issued unless our stockholders remove the 20% limitation on
the number of shares that could be issued pursuant to the exercise of warrants
and conversion of convertible debentures issued to YA Global Investments, L.P.,
or YA Global. The number of shares of common stock and related
warrants that we will issue in this rights offering will depend on the number of
shares that are subscribed for in the rights offering. If the
subscription rights are exercised in full, we will have [●] shares of common stock
outstanding after consummation of the rights offering, not including the shares
of common stock that will be issuable upon the exercise of the warrants issued
in the rights offering.
6
The
issuance of shares of common stock and warrants in the rights offering will
dilute, and thereby reduce, your proportionate ownership in our shares of common
stock. If you fully exercise your basic subscription right, your
ownership interest will not be diluted. In addition, if the
subscription price is less than the market price of our common stock it will
likely reduce the market price per share of shares you already
hold.
How much capital will we receive from
the rights offering?
If all of
the subscription rights (including all over-subscription rights) are exercised
in full by our shareholders, we estimate that the net proceeds to us from the
rights offering, after deducting estimated offering expenses, will be
approximately $[●] million. Unless our board of directors elects
to increase the maximum offering amount, we will raise no more than $[●] in
gross proceeds in this rights offering. It is possible, however, that
all of the subscription rights being offered to existing shareholders might not
be exercised, or that we will elect to cancel the rights offering
altogether.
Are there risks in exercising my
subscription rights?
Yes. The
exercise of your subscription rights involves risks. Exercising your
subscription rights involves the purchase of shares of our common stock and
warrants. You should consider this investment as carefully as you
would consider any other equity investment. Among other things, you
should carefully consider the risks described under the heading “Risk Factors”
in this prospectus.
If the rights offering is not
completed, will my subscription payment be refunded to me?
Yes. The
subscription agent will hold all funds it receives in a segregated bank account
until completion of the rights offering. If the rights offering is
not completed, all subscription payments received by the subscription agent will
be returned, without interest or penalty, as soon as practicable. If
you own shares in “street name,” it may take longer for you to receive your
subscription payment because the subscription agent will return payments through
the record holder of your shares.
What fees or charges apply if I
exercise my subscription rights?
We will
not charge any fee or sales commission to subscription rights holders for
exercising their subscription rights (other than the subscription
price). However, if you exercise your subscription rights through a
broker, dealer, custodian bank or other nominee, you are responsible for paying
any fees your record holder may charge you.
What
expenses will be incurred by us in connection with the rights
offering?
We have
engaged Source Capital Group, Inc. as our dealer-manager and financial advisor
in connection with the rights offering. The dealer-manager will not
be obligated to purchase any of the shares and warrants offered in the rights
offering. Under the terms and subject to the conditions contained in
a dealer-manager agreement, we have agreed to pay the dealer-manager, as
compensation for its services on completion of the rights offering, a cash fee
equal to 8% of the gross proceeds of the rights offering and to issue to the
dealer-manager five-year warrants to purchase a number of shares of common stock
equal to 4% of the total number of shares of common stock sold in the rights
offering at an exercise price per share equal to 125% of the subscription price
per share. Such warrants will contain a cashless exercise feature
permitting the dealer-manager to “pay” the exercise price of a portion of the
underlying shares by surrendering a portion of the underlying shares having an
“in the money” value equal to the exercise price so “paid”. In
accordance with FINRA Rule 5110 (g), the dealer-manager has agreed that for 180
days following the effective date of this offering, the dealer-manager will not
sell, transfer, assign, pledge or hypothecate the warrants acquired by it, or
subject such warrants to any hedging, short sale, derivative, put or call
transaction that would result in the effective economic disposition of such
warrants, except that such warrants may be transferred to any successor, manager
or member of the dealer-manager. Under FINRA Rule 5110, such warrants
are deemed to be an item of value. We have also agreed to indemnify
the dealer-manager and its respective affiliates against certain
liabilities arising under the Securities Act of 1933, as amended. The
dealer-manager is not underwriting or placing any of the securities (including
the subscription rights) issued in this offering and the dealer-manager does not
make any recommendation with respect to such securities.
7
What are the material U.S. federal income tax consequences of exercising my subscription rights?
For U.S.
federal income tax purposes, you should not recognize income or loss in
connection with the receipt or exercise of subscription rights in the rights
offering. You should consult your tax advisor as to your particular
tax consequences resulting from the rights offering. For a detailed
discussion, see “Material U.S. Federal Income Tax Consequences.”
To whom should I send my forms and
payment?
Our
subscription agent for the rights offering is [●]. If your shares are
held in the name of a broker, dealer or other nominee, then you should send your
subscription documents, rights certificate and subscription payment to that
record holder. If you are the record holder, then you should send
your subscription documents, rights certificate and subscription payment by hand
delivery, first class mail or courier service to our subscription agent
at:
By
Mail, Hand or Overnight Courier:
[•]
We will
pay the fees and expenses of our subscription agent and have agreed to indemnify
the subscription agent against certain liabilities that it may incur in
connection with the rights offering.
You are
solely responsible for completing delivery to the subscription agent of your
subscription documents, rights certificate and payment. You should
allow sufficient time for delivery of your subscription materials to the
subscription agent.
Whom should I contact if I have other
questions?
If you
have any questions regarding our company or the rights offering, please contact
[●], our information agent for the rights offering, at [●], Monday through
Friday, between 8:00 a.m. and 5:00 p.m., Eastern time.
8
PROSPECTUS SUMMARY
This
summary highlights information contained elsewhere in this
prospectus. This summary is not complete and may not contain all of
the information that you should consider before deciding whether or not you
should exercise your rights. You should read the entire prospectus
carefully, including the section entitled “Risk Factors” beginning on page 17 of
this prospectus and all information included in this prospectus in its entirety
before you decide whether to exercise your rights.
Our
Business
Telkonet,
Inc. develops, and manufactures and sells proprietary energy efficiency and
smart grid networking technology. Our SmartEnergy and Series 5
SmartGrid networking technologies enable us to develop innovative clean
technology products and have helped position us as a leading clean technology
provider.
Our
Telkonet SmartEnergy, or TSE, and Networked Telkonet SmartEnergy, or NTSE,
platforms incorporate Recovery Time, an energy management technology that
continuously monitors climate conditions and automatically adjusts a room’s
temperature to account for the presence or absence of an occupant in an effort
to save energy while ensuring occupant comfort. This technology is
particularly attractive to our customers in the hospitality area and owners of
multi-dwelling units, who are continually seeking ways to reduce costs without
impacting customer satisfaction. By reducing energy usage
automatically when a space is not being utilized, our customers can realize
significant cost savings without diminishing occupant comfort.
Our
Series 5 system uses powerline communications, or PLC, technology to transform a
site’s existing internal electrical infrastructure into an ethernet network
backbone. With its powerful 200 Mbps chip, the system offers a
competitive alternative in grid communications, transforming a traditional power
management system into a “smart grid” that delivers electricity in a manner that
saves energy, reduces cost and increases reliability. Our PLC
platform provides a compelling solution for substation automation, power
generation, renewable facilities, manufacturing and research environments by
providing a rapidly-deployed, low cost alternative to structured cable or
fiber. By leveraging the existing electrical wiring within a site to
transport data, our PLC solutions enable customers to deploy sensing and control
systems to locations without the need for new network wiring, and without the
security risks associated with wireless systems.
We also
operate one of the largest hospitality high-speed Internet access, or HSIA,
networks in the United States through our EthoStream Hospitality
Network. With a customer base of approximately 2,300 properties
representing over 200,000 hotel rooms, this network has created a ready
opportunity for us to market our energy efficiency solutions. It also
provides a marketing opportunity for our more traditional HSIA offerings,
including the Telkonet iWire System. The iWire System offers a fast
and cost effective way to deliver commercial high-speed broadband access from an
internet portal, or IP, “platform” using a building’s existing electrical
infrastructure to convert electrical outlets into high-speed data ports without
the installation of additional wiring or major disruption of business
activity.
Corporate
Information
Our
principal executive offices are located at 10200 Innovation Drive, Suite 300,
Milwaukee, WI 53226. Our reports that are filed pursuant to the
Securities Exchange Act of 1934 are posted on our website at
www.telkonet.com.
9
The
following summary describes the principal terms of the rights offering, but is
not intended to be complete. See the information under the heading
“The Rights Offering” in this prospectus for a more detailed description of the
terms and conditions of the rights offering.
Securities
offered
|
We
are distributing, at no charge, to the holders of our common stock, other
than those who hold shares of our common stock solely as participants in
the Telkonet, Inc. 401(k) plan, and to the holders of our Series A
convertible redeemable preferred stock, as of 5:00 p.m., Eastern time on
[●], 2010, which
we refer to as the record date, transferable subscription rights to
subscribe for shares of our common stock and warrants to purchase shares
of common stock at an exercise price of $[●] per
share. We will distribute one right to the holder of record of
every share of common stock that is held by the holder of record, and one
right to the holder of record of every share of Series A convertible
redeemable preferred stock for every share of common stock into which such
shares of Series A convertible redeemable preferred stock were convertible
on the record date, or, in the case of shares held of record by brokers,
dealers, custodian banks, or other nominees, as a beneficial owner of such
shares. We anticipate that the total purchase price for the
securities sold in this rights offering will be $[●]. We can
give no assurances, however, as to the level of participation in this
rights offering.
|
Basic
subscription right
|
Each
transferable subscription right entitles the holder (including holders of
subscription rights acquired during the subscription period) to subscribe
for one share of our common stock at the subscription price of $[●] per share (calculated
as described below in this summary under “— Subscription Price”) and to
receive a warrant to purchase one additional share of our common stock at
$[●], or [●]% of the subscription
price, for a period of five years ending on [●], 2015, which we refer
to as the basic subscription right.
If
the basic subscription rights are exercised for an amount in excess of
$[●], the basic
subscription rights that have been exercised will be reduced on a pro-rata
basis, subject to adjustment to eliminate fractional shares, so that the
total exercise price of the basic subscription rights shall equal $[●], and any excess
subscription amount received by the subscription agent will be returned,
without interest, as soon as practicable after the rights offering has
expired and all prorating calculations and reductions contemplated by the
terms of the rights offering have been effected.
Basic
subscription rights may only be exercised for whole numbers of shares of
our common stock and warrants to purchase whole numbers of shares of our
common stock; no fractional shares of common stock will be issued in this
offering. If the basic subscription rights are exercised for an
amount in excess of $[●], the number of shares
of common stock each subscription rights holder may acquire will be
rounded down to result in delivery of whole shares.
|
Over-subscription
right
|
The
subscription rights holders who fully exercise their basic subscription
rights will be entitled, subject to limitations, to subscribe for
additional shares of our common stock and warrants to purchase whole
numbers of shares of our common stock that remain unsubscribed as a result
of any unexercised basic subscription rights, which we refer to as the
over-subscription right, at the same subscription price of $[●] per
share. The over-subscription right allows a holder to subscribe
for an additional amount equal to up to [●]% of the shares and
warrants for which such holder was otherwise entitled to
subscribe.
|
10
After
all basic subscription rights have been fulfilled, shares of our common
stock that remain unsubscribed for, if any, will be allocated to fulfill
those over-subscription rights that have been exercised. If the
combination of basic subscription rights and over-subscription rights are
exercised for an amount equal to or in excess of $[●], then basic
subscription rights will be fulfilled and any common stock and warrants to
purchase whole numbers of shares of our common stock that remain
unsubscribed for will be allocated on a pro-rata basis to fulfill those
over-subscription rights that have been exercised and the
over-subscription rights that have been exercised will be reduced on a
pro-rata basis, subject to adjustment to eliminate fractional shares, so
that the total exercise price of the basic subscription rights and
over-subscription rights shall equal $[●]. If the
basic subscription rights are exercised for an amount equal to or in
excess of $[●],
then no over-subscription rights will be fulfilled and any excess
subscription amount received by the subscription agent will be returned,
without interest, as soon as practicable after the rights offering has
expired and all prorating calculations and reductions contemplated by the
terms of the rights offering have been effected.
Over-subscription
rights may only be exercised for whole numbers of shares of our common
stock and warrants to purchase whole numbers of shares of our common
stock; no fractional shares of common stock will be issued in this
offering. The number of remaining shares of common stock each
over-subscribing rights holder may acquire will be rounded down to result
in delivery of whole shares.
|
|
Limitation
on purchase of common stock
|
Unless
we otherwise agree in writing, a person or entity, together with related
persons or entities, may not exercise subscription rights (including
over-subscription rights) to purchase shares of our common stock that,
when aggregated with their existing ownership, would result in such person
or entity, together with any related persons or entities, owning in excess
of twenty percent (20%) of our issued and outstanding shares of common
stock following the closing of the transactions contemplated by this
rights offering. See “The Rights Offering — Limit on How Many
Shares of Common Stock You May Purchase in the Rights
Offering.”
In
addition, those who hold shares of our common stock solely through the
Telkonet, Inc. 401k Plan will not have the opportunity to participate in
the basic subscription right or over-subscription right in respect of
those shares.
|
Record
date
|
5:00
p.m., Eastern time, on [●], 2010.
|
Commencement
date of subscription period
|
5:00
p.m., Eastern time, on [●], 2010.
|
11
Expiration
date of rights offering
|
5:00
p.m., Eastern time, on [●], 2010, unless extended by us as described under
“—Extension, cancellation and amendment.” Any subscription
rights not exercised at or before the expiration date and time will have
no value and expire without any payment to the holders of those
unexercised subscription rights. To exercise subscription
rights, the subscription agent must actually receive all required
documents and payments before the expiration date and time, provided that
if you cannot deliver your subscription rights certificate to the
subscription agent on time, you may follow the guaranteed delivery
procedures described under “The Rights Offering — Guaranteed Delivery
Procedures.”
|
Subscription
price
|
$[●]
per share of common stock and warrant, payable in immediately available
funds. To be effective, any payment related to the exercise of
the right must clear prior to the expiration of the rights
offering.
|
Use
of proceeds
|
Although
the actual amount will depend on participation in the rights offer, we
expect the gross proceeds from the rights offering to be approximately
$[●], or net proceeds equal to approximately $[●]. We
intend to use the proceeds of the rights offering for expanding our sales
and marketing operations, general working capital purposes, potential
acquisitions of complementary businesses and research and
development.
|
Transferability
of subscription rights
|
The
subscription rights may be transferred or assigned during the subscription
period.
If
your shares are held of record by a broker, custodian bank or other
nominee on your behalf, you may sell your subscription rights by
contacting your broker, custodian bank or other nominee through which you
hold your common stock.
If
you are a record holder of a subscription rights certificate, you may
transfer your subscription rights through the subscription agent, in which
case you must deliver your properly executed subscription rights
certificate, with appropriate instructions, to the subscription
agent. The subscription agent will only facilitate
subdivisions, transfers or sales of subscription rights until 5:00 p.m.,
Eastern time, on [●], 2010, three business days prior to the scheduled
[●], 2010 expiration date of this rights offering. You may also
choose to sell your subscription rights through a broker, custodian bank
or other nominee.
The
deadline to sell your subscription rights is subject to extension if we
extend the expiration date of this rights offering, as described below in
this summary under “—Extension, cancellation and amendment.” We
intend to apply for quotation of the subscription rights on the OTC
Bulletin Board under the symbol “[●]” beginning on or about [●], 2010,
until 4:00 p.m., Eastern time, on [●], 2010, the last business day prior
to the scheduled expiration date of this rights
offering.
|
Transferability
of warrants
|
The
warrants to be issued pursuant to this offering will be separately
transferable following their issuance and through their expiration on [●],
2015, and we intend to apply for quotation of the warrants on the OTC
Bulletin Board under the symbol “[●]” beginning on or about [●], 2010,
until 4:00 p.m., Eastern time, on [●],
2015.
|
12
No
recommendation
|
Neither
our board of directors nor the dealer-manager makes any recommendation to
you about whether you should exercise, sell or let expire any of your
subscription rights. You are urged to make an independent
investment decision about whether to exercise your rights based on your
own assessment of our business and the rights offering. We
cannot assure you that the market price for our common stock at the
subscription price will be above the subscription price or that anyone
purchasing shares of our common stock at the subscription price will be
able to sell those shares in the future at the same or a higher
price. Please see the section of this prospectus entitled “Risk
Factors” for a discussion of some of the risks involved in investing in
our common stock.
|
No
minimum subscription requirement
|
There
is no minimum subscription requirement. We will consummate the
rights offering regardless of the amount raised from the exercise of basic
and over-subscription rights by the expiration date.
|
No
revocation
|
All
exercises of basic and over-subscription rights are irrevocable, even if
you later learn of information that you consider to be unfavorable to the
exercise of your subscription rights. You should not exercise
your subscription rights unless you are certain that you wish to purchase
shares of our common stock at a subscription price of $[●] per share and to
receive related warrants to purchase shares of our common stock at an
exercise price of $[●] per
share.
|
Material
United States federal income tax considerations
|
A
holder of shares of our common stock or Series A convertible redeemable
preferred stock should not recognize income, gain, or loss for U.S.
federal income tax purposes in connection with the receipt, exercise or
expiration of subscription rights in the rights
offering. However, if this rights offering is deemed to be part
of a “disproportionate distribution” under Section 305 of the Internal
Revenue Code your receipt of subscription rights in this offering may be
treated as the receipt of a taxable distribution to you. You
should consult your own tax advisor as to the particular tax consequences
to you of the receipt, exercise or expiration of the subscription rights
in light of your particular circumstances. For a more detailed
discussion, see “Material U.S. Federal Income Tax
Considerations.”
|
Extension,
cancellation and amendment
|
Extension. Our
board of directors may extend the expiration date for exercising your
subscription rights for up to an additional [●] trading days in its
sole discretion. If we extend the expiration date, you will
have at least ten trading days during which to exercise your subscription
rights. Any extension of this offering will be followed as
promptly as practicable by an announcement, and in no event later than
9:00 a.m., Eastern time, on the next business day following the previously
scheduled expiration date.
Cancellation. We
may cancel the rights offering at any time and for any reason prior to the
expiration date. Any cancellation of this offering will be
followed as promptly as practicable by announcement thereof, and in no
event later than 9:00 a.m., Eastern time, on the next business day
following the cancellation. In the event that we cancel this
rights offering, all subscription payments that the subscription agent has
received will be returned, without interest, as soon as
practicable.
Amendment. We
reserve the right to amend or modify the terms of the rights offering at
any time prior to the expiration date of the
offering.
|
13
Procedure
for exercising rights
|
To
exercise your subscription rights, you must take the following
steps:
|
· If
you are a registered holder of our common stock or Series A convertible
redeemable preferred stock, the subscription agent must receive your
payment for each share of common stock subscribed for pursuant to your
basic subscription right and over-subscription right at the initial
subscription price of $[●] per share and properly completed subscription
rights certificate before 5:00 p.m., Eastern time, on [●],
2010. You may deliver the documents and payments by mail or
commercial carrier. If regular mail is used for this purpose,
we recommend using registered mail, properly insured, with return receipt
requested.
|
|
· If
you are a beneficial owner of shares that are registered in the name of a
broker, dealer, custodian bank, or other nominee, or if you would prefer
that an institution conduct the transaction on your behalf, you should
instruct your broker, dealer, custodian bank, or other nominee to exercise
your subscription rights on your behalf and deliver all documents and
payments to the subscription agent before 5:00 p.m., Eastern time, on
[●],
2010.
|
|
· If
you wish to purchase shares of our common stock through the rights
offering, please promptly contact any broker, dealer, custodian bank, or
other nominee who is the record holder of your shares. We will
ask your record holder to notify you of the rights
offering. You should complete and return to your record holder
the appropriate subscription documentation you receive from your record
holder.
|
|
· If
you cannot deliver your subscription rights certificate to the
subscription agent prior to the expiration of the rights offering, you may
follow the guaranteed delivery procedures described under “The Rights
Offering — Guaranteed Delivery Procedures.”
|
|
Foreign
shareholders
|
We
will not mail subscription rights certificates to foreign shareholders
whose address of record is outside the United States, or is an Army Post
Office or Fleet Post Office address. The subscription agent
will hold the subscription rights certificates for such holder’s
account. To exercise subscription rights, shareholders with
such addresses must notify the subscription agent and timely follow the
procedures described in “The Rights Offering—Foreign
Shareholders.”
|
Subscription
agent
|
[●]
|
Information
agent
|
[●]
|
Dealer-manager
|
Source
Capital Group, Inc.
|
14
Shares
outstanding before the rights offering
|
As
of January 31, 2010, we had 96,563,771 shares of our common stock issued
and outstanding, and 215 shares of our Series A convertible redeemable
preferred stock issued and outstanding, which are convertible into an
aggregate of 2,961,429 shares of our common stock. Another
11,144,212 shares are subject to unexercised options granted pursuant to
our Stock Option Plan, or reserved for issuance in connection with future
grants under the Stock Option Plan. In addition, up to
12,158,941 shares of our common stock are reserved for issuance upon the
exercise of warrants and conversion of our outstanding convertible
debentures, of which 4,621,212 shares reserved for issuance cannot be
issued unless our stockholders remove the 20% limitation on the number of
shares that could be issued pursuant to the exercise of warrants and
conversion of convertible debentures issued to YA Global.
|
Shares
outstanding after completion of the rights offering
|
Up
to [●] shares of
our common stock will be outstanding, assuming the maximum offering amount
is subscribed for pursuant to this rights offering. These
amounts exclude:
· the
shares of common stock that are reserved for issuance under unexercised
options and warrants described above under “Shares outstanding before the
rights offering”; and
· the
shares of common stock that will be issuable upon the exercise of the
warrants to be issued in the rights offering.
|
Fees
and expenses
|
We
will pay the fees and expenses related to the rights offering, including
the fees and certain out-of-pocket expenses of the
dealer-manager. We have engaged Source Capital Group, Inc. as
our dealer-manager and financial advisor in connection with the rights
offering. Under the terms and subject to the conditions
contained in a dealer-manager agreement, we have agreed to pay the
dealer-manager, as compensation for its services on completion of the
rights offering, a cash fee equal to 8% of the gross proceeds of the
rights offering and to issue to the dealer-manager five-year warrants to
purchase a number of shares of common stock equal to 4% of the total
number of shares of common stock sold in the rights offering at an
exercise price per share equal to 125% of the subscription price per
share. Such warrants will contain a cashless exercise feature
permitting the dealer-manager to “pay” the exercise price of a portion of
the underlying shares by surrendering a portion of the underlying shares
having an “in the money” value equal to the exercise price so
“paid”.
|
Trading
symbols
|
Common
Stock. Our common stock is quoted on the OTC Bulletin
Board under the symbol “TKOI.OB” The shares of common stock
issued in this rights offering and pursuant to the terms of the warrants
will also be quoted on the OTC Bulletin Board under the same
symbol.
Subscription
Rights. The subscription rights are transferable during
the course of the subscription period, and we intend to apply for
quotation of the subscription rights on the OTC Bulletin Board under the
symbol “[●]” beginning on or about [●], 2010, until 4:00 p.m., Eastern
time, on [●], 2010, the last business day prior to the scheduled
expiration date of this rights offering.
Warrants. The
warrants to be issued pursuant to this offering will be separately
transferable upon issuance and through their expiration date of [●], 2015,
and we intend to apply for quotation of the warrants on the OTC Bulletin
Board under the symbol “[●]” beginning on or about [●], 2010, until 4:00
p.m., Eastern time, on [●], 2015.
|
15
Distribution
arrangements
|
Source
Capital Group, Inc. will act as dealer-manager for this rights
offering. Under the terms and subject to the conditions
contained in the dealer-manager agreement, the dealer-manager will provide
marketing assistance, including the solicitation of offers to purchase the
transferable subscription rights, in connection with this
offering. We have agreed to provide compensation to the
dealer-manager in connection with the rights offering, as described above
under “Fees and expenses.” The dealer-manager is not
underwriting or placing any of the subscription rights or the shares of
our common stock or warrants being issued in this offering and does not
make any recommendation with respect to such subscription rights
(including with respect to the exercise or expiration of such subscription
rights), shares or warrants. The dealer-manager will not be
subject to any liability to us in rendering the services contemplated by
the dealer-manager agreement except for any act of bad faith or gross
negligence by the dealer-manager.
|
Risk
Factors
|
Before
you exercise your subscription rights to purchase shares of our common
stock and related warrants, you should carefully consider risks described
in the section entitled “Risk Factors,” beginning on page 17 of this
prospectus.
|
16
RISK
FACTORS
Investing
in our securities involves a high degree of risk. You should
carefully consider the specific risks described below, before making an
investment decision. Any of the risks we describe below could cause
our business, financial condition, or operating results to
suffer. The market price of our common stock could decline if one or
more of these risks and uncertainties develop into actual events. You
could lose all or part of your investment. Additional risks and
uncertainties not currently known to us or that we currently deem to be
immaterial also may materially adversely affect our business, financial
condition, operating results, or prospects. Some of the statements in
this section of the prospectus are forward-looking statements. For
more information about forward-looking statements, please see the section of
this prospectus entitled “Special Note Regarding Forward-Looking
Statements.”
Risks
Related to the Rights Offering
The
price of our common stock is volatile and may decline before or after the
subscription rights expire.
The
market price of our common stock could be subject to wide fluctuations in
response to numerous factors, some of which are beyond our
control. These factors include, among other things, actual or
anticipated variations in our costs of doing business, operating results and
cash flow, the nature and content of our earnings releases and our competitors’
earnings releases, changes in financial estimates by securities analysts,
business conditions in our markets and the general state of the securities
markets and the market for other financial stocks, changes in capital markets
that affect the perceived availability of capital to companies in our industry,
and governmental legislation or regulation, as well as general economic and
market conditions, such as downturns in our economy and recessions.
Once you
exercise your subscription rights, you may not revoke them. We cannot
assure you that the market price of the shares of our common stock will not
decline after you elect to exercise your subscription rights. If you exercise
your subscription rights and, afterwards, the trading market price of our shares
of common stock decreases below the subscription price, you will have committed
to buying shares of our common stock at a price above the prevailing market
price and could have an immediate unrealized loss. Our common stock
is traded on the OTC Bulletin Board under the symbol “TKOI,” and the last
reported sales price of our common stock on the OTC Bulletin Board on February
10, 2010 was $0.21 per share. Moreover, we cannot assure you that
following the exercise of your subscription rights you will be able to sell your
shares of common stock at a price equal to or greater than the subscription
price. Until shares are delivered upon expiration of the rights
offering, you will not be able to sell our common stock or warrants that you
obtained by exercising your subscription rights.
The
subscription price determined for the rights offering is not necessarily an
indication of the fair value of our common stock.
The
subscription price of $[●]
per share is
not necessarily related to our book value, tangible book value, multiple of
earnings or any other established criteria of fair value and may or may not be
considered the fair value of our common stock to be offered in the rights
offering. After the date of this prospectus, shares of our common
stock may trade at prices below the subscription price.
If you do not
exercise your subscription rights, your percentage ownership in our company will
be diluted.
Assuming
we sell the maximum number of shares of our common stock and related warrants in
connection with the rights offering, we will issue approximately [●] shares of our common stock
and warrants to purchase approximately [●] additional shares of our
common stock. If you choose not to exercise your basic subscription
rights and you do not exercise your over-subscription right prior to the
expiration of the rights offering and we sell any shares to other existing
shareholders or to third parties, your relative ownership interest in our common
stock will be diluted.
We may cancel the
rights offering at any time without further obligation to
you.
We may,
in our sole discretion, cancel the rights offering before it
expires. If we cancel the rights offering, neither we, nor the
dealer-manager or the subscription agent, will have any obligation to you with
respect to the rights except for the obligation of the subscription agent to
return any payment received, without interest, as soon as
practicable.
17
If you do not act promptly and follow the subscription instructions, your exercise of subscription rights will be rejected.
If you
desire to exercise your subscription rights, you must act promptly to ensure
that the subscription agent actually receives all required forms and payments
before the expiration of the rights offering at 5:00 p.m., Eastern time, on
[●], 2010, unless we
extend the rights offering for additional periods ending no later than [●], 2010. If you
are a beneficial owner of shares, you must act promptly to ensure that your
broker, dealer, custodian bank or other nominee acts for you and that the
subscription agent receives all required forms and payments before the rights
offering expires. We are not responsible if your nominee fails to
ensure that the subscription agent receives all required forms and payments
before the rights offering expires. If you fail to complete and sign
the required subscription forms, send an incorrect payment amount, or otherwise
fail to follow the subscription procedures that apply to the exercise of your
subscription rights before the rights offering expires, the subscription agent
will reject your subscription or accept it only to the extent of the payment
received. Neither we nor the dealer-manager nor our subscription
agent undertakes any responsibility or action to contact you concerning an
incomplete or incorrect subscription form or payment, nor are we or they under
any obligation to correct such forms or payment. We have the sole
discretion to determine whether a subscription exercise properly complies with
the subscription procedures.
You will not be
able to sell the shares of common stock and warrants you obtain by exercising
your subscription rights in the rights offering until you receive your stock
certificates and warrants or your account at the nominee is credited with the
common stock and warrants.
If you
exercise your subscription rights in the rights offering by submitting a rights
certificate and payment, we will mail you a stock certificate and warrant as
soon as practicable after [●], 2010, or such later date
to which the rights offering may be extended. If your shares are held
by a broker, dealer, custodian bank or other nominee and you exercise your
subscription rights, your account with your nominee will be credited with the
shares of our common stock and warrants you purchased in the rights offering as
soon as practicable after the expiration of the rights offering, or such later
date to which the rights offering may be extended. Until your stock
certificates and warrants have been delivered or your account is credited, you
may not be able to sell your shares or warrants even though we expect the common
stock and warrants issued in the rights offering will be listed for trading on
the OTC Bulletin Board. The price of our common stock and/or warrants
may decline between the time you decide to sell your shares and/or warrants and
the time you are actually able to sell your shares and/or warrants.
Because our
management will have broad discretion over the use of the net proceeds from the
rights offering, you may not agree with how we use the proceeds, and we may not
invest the proceeds successfully.
We
currently anticipate that we will use the net proceeds of the rights offering
for expanding our sales and marketing operations, general working capital
purposes, potential acquisitions of complementary businesses and research and
development. Our management may allocate the proceeds among these
purposes as it deems appropriate. In addition, market factors may
require our management to allocate portions of the proceeds for other
purposes. Accordingly, you will be relying on the judgment of our
management with regard to the use of the proceeds from the rights offering, and
you will not have the opportunity, as part of your investment decision, to
assess whether we are using the proceeds appropriately. It is
possible that we may invest the proceeds in a way that does not yield a
favorable, or any, return for us.
The
rights offering does not require a minimum amount of proceeds for us to close
the offering, which means that if you exercise your rights, you may acquire
additional shares of our common stock when we continue to require additional
capital.
There is
no minimum amount of proceeds required to complete the rights offering and your
exercise of your subscription rights is irrevocable. Therefore, if
you exercise the basic subscription right or the over-subscription right, but we
do not sell the entire amount of securities being offered in this rights
offering and the rights offering is not fully subscribed, you may be investing
in a company that continues to require additional capital.
18
Risks Relating to the Ownership of Our Common Stock
The market price
of our common stock has been and may continue to be
volatile.
The
trading price of our common stock has been and may continue to be highly
volatile and could be subject to wide fluctuations in response to various
factors. Some of the factors that may cause the market price of our
common stock to fluctuate include:
· |
fluctuations
in our quarterly financial and operating results or the quarterly
financial results of companies perceived to be similar to
us;
|
|
· |
changes
in estimates of our financial results or recommendations by securities
analysts;
|
|
· |
changes
in general economic, industry and market conditions;
|
|
· |
failure
of any of our products to achieve or maintain market
acceptance;
|
|
· |
changes
in market valuations of similar companies;
|
|
· |
success
of competitive products;
|
|
· |
changes
in our capital structure, such as future issuances of securities or the
incurrence of additional debt;
|
|
· |
announcements
by us or our competitors of significant products, contracts, acquisitions
or strategic alliances;
|
|
· |
regulatory
developments in the United States, foreign countries or
both;
|
|
· |
litigation
involving our company, our general industry or both;
|
|
· |
additions
or departures of key personnel; and
|
|
· |
investors’
general perception of us.
|
In
addition, if the market for technology stocks or the stock market in
general experiences a loss of investor confidence, the trading price of our
common stock could decline for reasons unrelated to our business, financial
condition or results of operations. If any of the foregoing occurs,
it could cause our stock price to fall and may expose us to class action
lawsuits that, even if unsuccessful, could be costly to defend and a distraction
to management.
If
securities or industry analysts do not continue to publish research or publish
inaccurate or unfavorable research about our business, our stock price and
trading volume could decline.
The
trading market for our common stock depends in part on the research and reports
that securities or industry analysts publish about us or our
business. We do not control these analysts. If one or more
of the analysts who covers us downgrades our stock or publishes inaccurate or
unfavorable research about our business, our stock price would likely
decline. If one or more of these analysts ceases coverage of our
company or fails to publish reports on us regularly, demand for our stock could
decrease, which could cause our stock price and trading volume to
decline.
19
Anti-takeover provisions in our charter documents and Utah law could discourage delay or prevent a change of control of our company and may affect the trading price of our common stock.
We are a
Utah corporation and the anti-takeover provisions of the Utah Control Shares
Acquisition Act may discourage, delay or prevent a change of control by limiting
the voting rights of control shares acquired in a control share
acquisition. In addition, our Amended and Restated Articles of
Incorporation and bylaws may discourage, delay or prevent a change in our
management or control over us that shareholders may consider
favorable. Among other things, our Amended and Restated Articles of
Incorporation and bylaws:
· |
authorize
the issuance of “blank check” preferred stock that could be issued by our
board of directors to thwart a takeover attempt;
|
|
· |
provide
that vacancies on our board of directors, including newly created
directorships, may be filled only by a majority vote of directors then in
office, except a vacancy occurring by reason of the removal of a director
without cause shall be filled by vote of the shareholders;
and
|
|
· |
limit
who may call special meetings of
shareholders.
|
These
provisions could have the effect of delaying or preventing a change of control,
whether or not it is desired by, or beneficial to, our
shareholders.
We do not
currently intend to pay dividends on our common stock and, consequently, the
ability to achieve a return on an investment in our common stock will depend on
appreciation in the price of our common stock.
We do not
expect to pay cash dividends on our common stock. Any future dividend
payments are within the absolute discretion of our board of directors and will
depend on, among other things, our results of operations, working capital
requirements, capital expenditure requirements, financial condition, contractual
restrictions, business opportunities, anticipated cash needs, provisions of
applicable law and other factors that our board of directors may deem
relevant. We may not generate sufficient cash from operations in the
future to pay dividends on our common stock.
Our
common stock was delisted from NYSE Amex LLC and is currently listed for trading
on the Over-the-counter Bulletin Board.
Prior to
November 13, 2009, our common stock was listed for trading on NYSE Amex LLC, or
the Exchange, under the symbol “TKO.” On May 18, 2009, we received a
letter from the Exchange notifying us that we were out of compliance with the
Exchange’s continued listing standards due to the impairment of our existing
financial condition. In the opinion of the Exchange, our historical
losses in relation to our overall operations and existing financial resources
caused our financial condition to become so impaired that it appeared
questionable as to whether we would be able to continue operations and/or meet
our obligations as they mature. On June 25, 2009, we submitted a plan
to the Exchange advising of the actions we had taken, and planned to take, that
would bring us into compliance with the applicable listing standards within the
six month cure period. On August 27, 2009, we were notified of the
Exchange’s intention to delist our common stock because our plan did not
reasonably demonstrate the ability to regain compliance with the continued
listing standards of the Exchange. On November 3, 2009, we received notice
from the Exchange informing us that the Hearing Panel had confirmed the Staff’s
recommendation that our common stock be delisted from the
Exchange. After considering the costs to us of compliance with the
continued listing requirements of the Exchange and other factors, we determined
that it was not in the best interests of our company and our shareholders to
appeal the delisting of our common stock from the Exchange and approved the
voluntary delisting of the securities. The Exchange suspended trading
in our common stock effective at the open of business on November 13, 2009, at
which time our common stock began trading on the Over-the-Counter market’s Pink
Sheets under the symbol “TKOI.PK.” On December 7, 2009, we received
FINRA approval for trading on the OTC Bulletin Board. Our common
stock began trading on the OTC Bulletin Board on December 8, 2009 under the
symbol “TKOI.” The delisting of our common stock from the Exchange
may have had a negative impact on the market’s perception of our company and
could also adversely affect our stock price, trading volume, and ability to
effect financing and strategic transactions, such as private placements or
public offerings of our securities and acquisitions of complementary businesses
through shares of our common stock. In addition, our stockholders’
ability to trade or obtain quotations on our shares may be more limited than
they otherwise would be if our common stock were listed on the Exchange because
of lower trading volumes and transaction delays on the OTC Bulletin
Board.
20
Our common stock may be subject to “Penny Stock” restrictions.
If the
price of our common stock remains at less than $5 per share, we will be subject
to so-called penny stock rules which could decrease our stock’s market
liquidity. The Securities and Exchange Commission has adopted
regulations which define a “penny stock” to include any equity security that has
a market price of less than $5 per share or an exercise price of less than $5
per share, subject to certain exceptions. For any transaction
involving a penny stock, unless exempt, the rules require the delivery to and
execution by the retail customer of a written declaration of suitability
relating to the penny stock, which must include disclosure of the commissions
payable to both the broker/dealer and the registered representative and current
quotations for the securities. Finally, the broker/dealer must send
monthly statements disclosing recent price information for the penny stocks held
in the account and information on the limited market in penny
stocks. Those requirements could adversely affect the market
liquidity of such stock. There can be no assurance that the price of
our common stock will rise above $5 per share so as to avoid these
regulations.
We
have a large number of shares of common stock underlying outstanding debentures
and warrants that may become available for future sale, and the sale of these
shares may result in dilution.
As of
January 31, 2010, we had 96,563,771 shares of common stock issued and
outstanding. In addition, as of that date, YA Global held secured
convertible debentures in an aggregate principal amount of $1,606,023, which we
refer to as the Debentures, under which the principal and accrued interest may
be converted into an estimated 11,152,938 shares of common stock at current
market prices, and outstanding warrants to purchase up to 4,621,212 shares of
common stock. The number of shares of common stock issuable upon
conversion of the Debentures may increase if the market price of our common
stock declines. The number of shares of common stock issuable by us to YA Global
pursuant to the terms of the Debentures, all other debentures and the warrants
issued to holders of the Debentures cannot exceed an aggregate of 19.99% of the
total issued and outstanding shares (calculated in accordance with applicable
principal market rules and regulations) of our common stock (subject to
appropriate adjustment for stock splits, stock dividends, or other similar
recapitalizations affecting the common stock), unless we first obtain
shareholder approval. We refer to this limitation as the Exchange
Cap. The Exchange Cap is applicable for conversion of the Debentures
and exercises of the warrants, in the aggregate, and we are not obligated to
issue any shares of common stock upon conversion of the Debentures or exercise
of the warrants in excess of the Exchange Cap unless and until we first obtain
shareholder approval to exceed the Exchange Cap. On May 28, 2009, our
shareholders voted against a proposal to remove the Exchange Cap, which would
have allowed YA Global to potentially acquire in excess of 19.99% of the
outstanding shares of our common stock. If our shareholders later
approve the removal of the Exchange Cap, all of the shares, including all of the
shares issuable upon conversion of the Debentures and upon exercise of our
warrants, may be sold without restriction. The sale of these shares
may adversely affect the market price of our common stock.
The
continuously adjustable conversion price feature of our outstanding debentures
held by YA Global may encourage investors to make short sales in our common
stock, which could have a negative effect on the price of our common
stock.
Due to
the Exchange Cap, we are not currently under an obligation to issue shares of
common stock to YA Global upon conversion of the Debentures. If,
however, our shareholders approve removal of the Exchange Cap, the Debentures
would be convertible into shares of our common stock at a 10% discount to the
ten day volume weighted average trading price of the common stock prior to the
conversion. The significant downward pressure on the price of the
common stock as the selling stockholder converts and sells material amounts of
common stock could encourage short sales by investors. This could
place further downward pressure on the price of our common stock. The
selling stockholder could sell common stock into the market in anticipation of
covering the short sale by converting their securities, which could cause
further downward pressure on the stock price. In addition, not only
the sale of shares issued upon conversion or exercise of outstanding convertible
debt, warrants and options, but also the mere perception that these sales could
occur, may adversely affect the market price of our common stock.
21
The issuance of additional shares of common stock upon conversion of the Debentures and the exercise of outstanding warrants may cause immediate and substantial dilution to our existing shareholders.
Due to
the Exchange Cap, we are not currently under an obligation to issue shares of
common stock to YA Global upon conversion of the Debentures. If,
however, our shareholders approve the removal of the Exchange Cap, this may
result in substantial dilution to the interests of other shareholders because
the holders of the Debentures and related warrants may ultimately convert the
full outstanding amount under the Debentures into shares of common stock,
exercise the warrants in full and sell the shares of common stock issued upon
such conversion and exercise. Although YA Global may not convert its
Debentures and/or exercise its warrants if such conversion or exercise would
cause it to own more than 4.99% of our outstanding common stock, this
restriction does not prevent YA Global from converting and/or exercising some of
its holdings and then converting the rest of its holdings. In this
way, YA Global could sell more than 4.99% of our outstanding common stock while
never holding more than this limit. If the Exchange Cap is removed,
there is no upper limit on the number of shares that may be issued which will
have the effect of further diluting the proportionate equity interest and voting
power of holders of our common stock, including investors in this
offering.
Further
issuances of equity securities may be dilutive to current
stockholders.
Although
the funds that were raised in our debenture offerings, the note offerings and
the private placement are being used for general working capital purposes, it is
likely that we will be required to seek additional capital in the future. This
capital funding could involve one or more types of equity securities, including
convertible debt, common or convertible preferred stock and warrants to acquire
common or preferred stock. Such equity securities could be issued at or below
the then-prevailing market price for our common stock. Any issuance of
additional shares of our common stock will be dilutive to existing stockholders
and could adversely affect the market price of our common stock.
The
exercise of options and warrants outstanding and available for issuance may
adversely affect the market price of our common stock.
As of
September 30, 2009, we had outstanding employee options to purchase a total of
6,120,883 shares of common stock at exercise prices ranging from $1.00 to $5.97
per share, with a weighted average exercise price of $1.56. As of September 30,
2009, we had outstanding non-employee options to purchase a total of 740,000
shares of common stock at an exercise price of $1.00 per share. As of September
30, 2009, we had warrants outstanding to purchase a total of 7,677,767 shares of
common stock at exercise prices ranging from $0.58 to $4.17 per share, with a
weighted average exercise price of $2.35. The exercise of outstanding options
and warrants and the sale in the public market of the shares purchased upon such
exercise will be dilutive to existing stockholders and could adversely affect
the market price of our common stock.
Risks
Related to Our Business
The
industry within which we operate is intensely competitive and rapidly
evolving.
We
operate in a highly competitive, quickly changing environment, and our future
success will depend on our ability to develop and introduce new products and
product enhancements that achieve broad market acceptance in the markets within
which we compete. We will also need to respond effectively to new
product announcements by our competitors by quickly introducing competitive
products.
Delays in
product development and introduction could result in:
· |
loss
of or delay in revenue and loss of market
share;
|
|
· |
negative
publicity and damage to our reputation and the reputation of our product
offerings; and
|
|
· |
decline
in the average selling price of our
products.
|
22
Government
regulation of our products could impair our ability to sell such products in
certain markets.
The
rules of the Federal Communications Commission, or FCC, permit the operation of
unlicensed digital devices that radiate radio frequency emissions if the
manufacturer complies with certain equipment authorization procedures, technical
requirements, marketing restrictions and product labeling
requirements. Differing technical requirements apply to “Class A”
devices intended for use in commercial settings, and “Class B” devices intended
for residential use to which more stringent standards apply. An
independent, FCC-certified testing lab has verified that our iWire System product
suite complies with the FCC technical requirements for Class A and Class B
digital devices. No further testing of these devices is required, and
the devices may be manufactured and marketed for commercial and residential
use. Additional devices designed by us for commercial and residential
use will be subject to the FCC rules for unlicensed digital
devices. Moreover, if in the future, the FCC changes its technical
requirements for unlicensed digital devices, further testing and/or
modifications of devices may be necessary. Failure to comply with any
FCC technical requirements could impair our ability to sell our products in
certain markets and could have a negative impact on our business and results of
operations.
Products
sold by our competitors could become more popular than our products or render
our products obsolete.
The
market for our products and services is highly competitive. Some of
our competitors have longer operating histories, greater name recognition and
substantially greater financial, technical, sales, marketing and other
resources. These competitors may, among other things, undertake more
extensive marketing campaigns, adopt more aggressive pricing policies, obtain
more favorable pricing from suppliers and manufacturers and exert more influence
on the sales channel than we can. As a result, we may not be able to
compete successfully with these competitors, and these competitors may develop
or market technologies and products that are more widely accepted than those
being developed by us or that would render our products obsolete or
noncompetitive. We anticipate that competitors will also intensify
their efforts to penetrate our target markets. These competitors may
have more advanced technology, more extensive distribution channels, stronger
brand names, bigger promotional budgets and larger customer bases than we
do. These companies could devote more capital resources to develop,
manufacture and market competing products than we could. If any of
these companies are successful in competing against us, our sales could decline,
our margins could be negatively impacted, and we could lose market share, any of
which could seriously harm our business, results of operations, and
prospects.
We
may not be able to obtain patents, which could have a material adverse effect on
our business.
Our
ability to compete effectively in the powerline technology industry will depend
on our success in acquiring suitable patent protection. We currently
have several patents pending. We also intend to file additional
patent applications that we deem to be economically beneficial. If we
are not successful in obtaining patents, we will have limited protection against
those who might copy our technology. As a result, the failure to
obtain patents could negatively impact our business, results of operations, and
prospects.
Infringement
by third parties on our proprietary technology and development of substantially
equivalent proprietary technology by our competitors could negatively impact our
business.
Our
success depends partly on our ability to maintain patent and trade secret
protection, to obtain future patents and licenses and to operate without
infringing on the proprietary rights of third parties. There can be
no assurance that the measures we have taken to protect our intellectual
property rights, including intellectual property rights of third parties
integrated into our Telkonet iWire System product suite and Telkonet SmartEnergy
products, will prevent misappropriation or circumvention. In
addition, there can be no assurance that any patent application, when filed,
will result in an issued patent, or that our existing patents, or any patents
that may be issued in the future, will provide us with significant protection
against competitors. Moreover, there can be no assurance that any
patents issued to, or licensed by, us will not be infringed upon or circumvented
by others. Infringement by third parties on our proprietary
technology could negatively impact our business. Moreover, litigation
to establish the validity of patents, to assert infringement claims against
others, and to defend against patent infringement claims can be expensive and
time-consuming, even if the outcome is in our favor. We also rely to
a lesser extent on unpatented proprietary technology, and no assurance can be
given that others will not independently develop substantially equivalent
proprietary information, techniques or processes or that we can meaningfully
protect our rights to such unpatented proprietary technology. If our
competitors develop substantially equivalent technology, and we are unable to
enforce any intellectual property rights with respect to such technology in a
cost-effective manner or at all, our business and operations would suffer
significant harm.
23
We
may incur substantial damages due to litigation.
We cannot
be certain that our products do not and will not infringe issued patents or
other intellectual property rights of others. We are currently a defendant in an
action in which it is alleged that we have infringed the intellectual property
rights of another party. If it were determined that our products
infringe the intellectual property rights of another, we could be required to
pay substantial damages or be enjoined from licensing or using the infringing
products or technology. Additionally, if it were determined that our products
infringe the intellectual property rights of others, we would need to obtain
licenses from these parties or substantially re-engineer our products in order
to avoid infringement. We might not be able to obtain the necessary licenses on
acceptable terms or at all, or to re-engineer our products successfully. Any of
the foregoing could cause us to incur significant costs and prevent us from
selling our products.
We are
also currently defending an action alleging that we are in breach of an
obligation to make severance payments to a former executive. If it is
determined that we are in breach of any such obligation, we could be required to
pay substantial damages to our former executive.
We depend on a small team of senior
management, and it may have difficulty attracting and retaining additional
personnel.
Our
future success will depend in large part upon the continued services and
performance of senior management and other key personnel. If we lose
the services of any member of our senior management team, our overall operations
could be materially and adversely affected. In addition, our future
success will depend on our ability to identify, attract, hire, train, retain and
motivate other highly skilled technical, managerial, marketing, purchasing and
customer service personnel when they are needed. Competition for
these individuals is intense. We cannot ensure that we will be able
to successfully attract, integrate or retain sufficiently qualified personnel
when the need arises. Any failure to attract and retain the necessary
technical, managerial, marketing, purchasing and customer service personnel
could have a negative effect on our financial condition and results of
operations. On December 21, 2009, we announced a restructuring which
includes the relocation of our offices from Germantown, Maryland to Milwaukee,
Wisconsin, consolidating our business operations into a single
location. Also as part of the corporate restructuring, we announced
that our Chief Financial Officer, Rick Leimbach, will be leaving our company to
pursue other opportunities in the near future, although a departure date has yet
to be established. Until his departure date, Mr. Leimbach will
continue to perform the duties and responsibilities customary and consistent
with his position and will assist us in our transition. If we are
unable to satisfactorily replace Mr. Leimbach upon his departure, our overall
operations could be materially and adversely affected.
Any
acquisitions we make could result in difficulties in successfully managing our
business and consequently harm our financial condition.
We may
seek to expand by acquiring complementary businesses in our current or ancillary
markets. We cannot accurately predict the timing, size and success of
our acquisition efforts and the associated capital commitments that might be
required. We expect to face competition for acquisition candidates,
which may limit the number of acquisition opportunities available to us and may
lead to higher acquisition prices. There can be no assurance that we
will be able to identify, acquire or profitably manage additional businesses or
successfully integrate acquired businesses, if any, without substantial costs,
delays or other operational or financial difficulties. In addition, acquisitions
involve a number of other risks, including:
· |
failure
of the acquired businesses to achieve expected
results;
|
|
· |
diversion
of management’s attention and resources to
acquisitions;
|
|
· |
failure
to retain key customers or personnel of the acquired
businesses;
|
|
· |
disappointing
quality or functionality of acquired equipment and people:
and
|
|
· |
risks
associated with unanticipated events, liabilities or
contingencies.
|
24
Client
dissatisfaction or performance problems at a single acquired business could
negatively affect our reputation. The inability to acquire businesses
on reasonable terms or successfully integrate and manage acquired companies, or
the occurrence of performance problems at acquired companies, could result in
dilution, unfavorable accounting treatment or one-time charges and difficulties
in successfully managing our business.
Our inability to obtain capital, use
internally generated cash or debt, or use shares of our common stock to finance
future acquisitions could impair the growth and expansion of our
business.
Reliance
on internally generated cash or debt to finance our operations or complete
acquisitions could substantially limit our operational and financial
flexibility. The extent to which we will be able or willing to use
shares of our common stock to consummate acquisitions will depend on the market
value of our common stock which will vary, and our liquidity. Using
shares of our common stock for this purpose also may result in significant
dilution to our then existing stockholders. To the extent that we are
unable to use our common stock to make future acquisitions, our ability to grow
through acquisitions may be limited by the extent to which we are able to raise
capital through debt or additional equity financings. No assurance
can be given that we will be able to obtain the necessary capital to finance any
acquisitions or our other cash needs. If we are unable to obtain
additional capital on acceptable terms, we may be required to reduce the scope
of any expansion or redirect resources committed to internal
purposes. In addition to requiring funding for acquisitions, we may
need additional funds to implement our internal growth and operating strategies
or to finance other aspects of our operations. Our failure to: (i)
obtain additional capital on acceptable terms; (ii) use internally generated
cash or debt to complete acquisitions because it significantly limits our
operational or financial flexibility; or (iii) use shares of our common stock to
make future acquisitions, may hinder our ability to actively pursue any
acquisitions.
The
restrictive covenants contained in the Securities Purchase Agreement pursuant to
which the convertible debentures were sold contain restrictions that could limit
our financing options.
The
Securities Purchase Agreement pursuant to which the convertible debentures were
sold contains limitations on our ability to engage in certain financing
activities without the prior consent of the holders of the convertible
debentures. As a result of these restrictions, we may be unable to
obtain the financing necessary to fund working capital, operating losses,
capital expenditures or acquisitions. The failure to obtain such financing
could have a material adverse effect on our business and results of
operations.
Potential
fluctuations in operating results could have a negative effect on the price of
our common stock.
Our
operating results may fluctuate significantly in the future as a result of a
variety of factors, most of which are outside our control,
including:
· |
the
level of use of the Internet;
|
|
· |
the
demand for high-tech goods;
|
|
· |
the
amount and timing of capital expenditures and other costs relating to the
expansion of the our
operations;
|
|
· |
price
competition or pricing changes in the
industry;
|
|
· |
technical
difficulties or system
downtime;
|
|
· |
economic
conditions specific to the internet and communications industry;
and
|
|
· |
general
economic
conditions.
|
Our
quarterly results may also be significantly impacted by certain accounting
treatment of acquisitions, financing transactions or other matters. Such
accounting treatment could have a material impact on the our results of
operations and have a negative impact on the price of our common
stock.
25
We rely on a small number of customers and cannot be certain they will consistently purchase our products in the future.
One customer
accounted for 10% of our revenues for the nine months ended September 30,
2009. Two customers accounted for 39% of our revenues for the nine
months ended December 31, 2008. No other customer accounted for more
than 10% of our revenues during those periods. In the future, a small
number of customers may continue to represent a significant portion of our total
revenues in any given period. We cannot be certain that such customers will
consistently purchase our products at any particular rate over any subsequent
period. A loss of any of these customers could adversely affect our
financial performance.
We
rely on a limited number of third party suppliers. If these companies fail to
perform or experience delays, shortages, or increased demand for their products
or services, we may face shortages, increased costs, and may be required to
suspend deployment of our products and services.
We depend
on a limited number of third party suppliers to provide the components and the
equipment required to deliver our solutions. If these providers fail
to perform their obligations under our agreements with them or we are unable to
renew these agreements, we may be forced to suspend the sale and deployment of
our products and services and enrollment of new customers, which would have an
adverse effect on our business, prospects, financial condition and operating
results.
Our
management and operational systems might be inadequate to handle our potential
growth.
We may
experience growth that could place a significant strain upon our management and
operational systems and resources. Failure to manage our growth
effectively could have a material adverse effect upon our business, results of
operations and financial condition. Our ability to compete
effectively and to manage future growth will require us to continue to improve
our operational systems, organization and financial and management controls,
reporting systems and procedures. We may fail to make these
improvements effectively. Additionally, our efforts to make these
improvements may divert the focus of our personnel. We must integrate
our key executives into a cohesive management team to expand our
business. If new hires perform poorly, or if we are unsuccessful in
hiring, training and integrating these new employees, or if we are not
successful in retaining our existing employees, our business may be
harmed. To manage the growth we will need to increase our operational
and financial systems, procedures and controls. Our current and
planned personnel, systems, procedures and controls may not be adequate to
support our future operations. We may not be able to effectively
manage such growth, and failure to do so could have a material adverse effect on
our business, financial condition and results of operations.
We
are exposed to risks relating to evaluations of controls required by Section 404
of the Sarbanes-Oxley Act of 2002.
We are
required to comply with Section 404 of the Sarbanes-Oxley Act of
2002. We concluded that, as of December 31, 2008, there were material
weaknesses in our internal control over financial reporting relating to the lack
of segregation of duties and the need for a stronger internal control
environment, attributable to the small size of our accounting staff and
continued integration of our 2007 acquisitions of Smart Systems International
and EthoStream LLC. We retained additional personnel and worked to
remediate these deficiencies during fiscal 2009. Notwithstanding
those efforts we anticipate identifying additional material weaknesses in our
internal control over financial reporting as we complete the audit of our 2009
financial statements. A material weakness is a control deficiency, or
a combination of control deficiencies, in internal control over financial
reporting, such that there is a reasonable possibility that a material
misstatement of annual or interim financial statements would not be prevented or
detected. Until this deficiency in our internal control over
financial reporting is remediated, there is reasonable possibility that a
material misstatement to our annual or interim consolidated financial statements
could occur and not be prevented or detected by our internal controls in a
timely manner.
26
We
may be affected if the United States participates in wars or military or other
action or by international terrorism.
Involvement
in a war or other military action or acts of terrorism may cause significant
disruption to commerce throughout the world. To the extent that such
disruptions result in (i) delays or cancellations of customer orders, (ii) a
general decrease in consumer spending on information technology, (iii) our
inability to effectively market and distribute our services or products or (iv)
our inability to access capital markets, our business and results of operations
could be materially and adversely affected. We are unable to predict
whether the involvement in a war or other military action will result in any
long-term commercial disruptions or if such involvement or responses will have
any long-term material adverse effect on our business, results of operations, or
financial condition.
Our exposure to
the credit risk of our customers and suppliers may adversely affect our
financial results.
We sell
our products to customers that have in the past, and may in the future,
experience financial difficulties, particularly in light of the recent global
economic downturn. If our customers experience financial difficulties, we could
have difficulty recovering amounts owed to us from these customers. While we
perform credit evaluations and adjust credit limits based upon each customer’s
payment history and credit worthiness, such programs may not be effective in
reducing our exposure to credit risk. We evaluate the collectability of accounts
receivable, and based on this evaluation make adjustments to the allowance for
doubtful accounts for expected losses. Actual bad debt write-offs may differ
from our estimates, which may have a material adverse effect on our financial
condition, operating results and cash flows.
Our
suppliers may also experience financial difficulties, which could result in our
having difficulty sourcing the materials and components we use in producing our
products and providing our services. If we encounter such difficulties, we may
not be able to produce our products for our customers in a timely fashion which
could have an adverse effect on our results of operations, financial condition
and cash flows.
The
recent deterioration of the economy and credit markets may adversely affect our
future results of operations.
Our
operations and performance depend to some degree on general economic conditions
and their impact on our customers’ finances and purchase
decisions. As a result of recent economic events, potential customers
may elect to defer purchases of capital equipment items, such as the products we
manufacture and supply. Additionally, the credit markets and the
financial services industry have been experiencing a period of upheaval
characterized by the bankruptcy, failure, collapse or sale of various financial
institutions and an unprecedented level of intervention from the United States
government. While the ultimate outcome of these events cannot be predicted, it
may have a material adverse effect on our customers’ ability to fund their
operations thus adversely impacting their ability to purchase our products or to
pay for our products on a timely basis, if at all. These and other
economic factors could have a material adverse effect on demand for our
products, the collection of payments for our products and on our financial
condition and operating results.
Risks
Relating to Our Financial Results and Need for Financing
Our
independent auditors have expressed substantial doubt about our ability to
continue as a going concern, which may hinder our ability to obtain future
financing.
In their
report dated April 1, 2009, our independent auditors stated that our financial
statements for the year ended December 31, 2008 were prepared assuming that we
would continue as a going concern, and that they have substantial doubt about
our ability to continue as a going concern. Our auditors’ doubts are
based on our net losses and deficits in cash flows from
operations. We continue to experience net operating
losses. Our ability to continue as a going concern is subject to our
ability to generate a profit and/or obtain necessary funding from outside
sources, including by the sale of our securities, or obtaining loans from
financial institutions, where possible. Our continued net operating
losses and our auditors’ doubts increase the difficulty of our meeting such
goals. If we are not successful in raising sufficient additional
capital, we may not be able to continue as a going concern and our stockholders
may lose their entire investment.
27
We have a limited number of shares of common stock available for future issuance which could adversely affect our ability to raise capital or consummate acquisitions.
We are
currently authorized to issue 155,000,000 shares of common stock under our
Articles of Incorporation. As of January 31, 2010, we have
outstanding 96,563,771 shares of common stock, or approximately 122,828,353
shares of common stock after giving effect to the assumed exercise of all
outstanding warrants and options and assumed conversion of preferred
stock. After giving effect to the rights offering, assuming we sell
all of the shares of common stock and warrants offered under this prospectus, we
would have [●] shares of common stock outstanding, or approximately [●] shares
of common stock outstanding after giving effect to the assumed exercise of all
outstanding warrants and options and assumed conversion of preferred
stock. Due to the limited number of authorized shares available for
issuance and because of the significant competition for acquisitions, we may not
able to consummate an acquisition until we increase the number of shares we are
authorized to issue. To facilitate the possibility and flexibility of
raising of additional capital or the completion of potential acquisitions, we
would need to seek shareholder approval to increase the number of our authorized
shares of common stock. We can provide no assurance that we will
succeed in amending our Articles of Incorporation to increase the number of
shares of common stock we are authorized to issue. If we are not
successful in raising sufficient additional capital, we may not be able to
continue as a going concern and our shareholders may lose their entire
investment.
We
have a history of operating losses and an accumulated deficit and expect to
continue to incur losses for the foreseeable future.
Since
inception through September 30, 2009, we have incurred cumulative losses of
$110,639,175 and have never generated enough funds through operations to support
our business. Because of the numerous risks and uncertainties
associated with our technology, the industry in which we operate, and other
factors, we are unable to predict the extent of any future losses or when we
will become profitable, if ever. If we are unable to generate
sufficient revenues from our operations to meet our working capital requirements
for the next twelve months, we expect to finance our future cash needs through
public or private equity offerings, debt financings and interest income earned
on our cash balances. We cannot be certain that additional funding
will be available on acceptable terms, or at all.
Our
business activities might require additional financing that might not be
obtainable on acceptable terms, if at all, which could have a material adverse
effect on our financial condition, liquidity and our ability to operate going
forward.
We
believe that the anticipated net proceeds from this offering and cash flow from
operations will be sufficient to meet our working capital, capital expenditure
and other cash needs indefinitely. However, if we do not meet our business plan
targets, we might need to raise additional capital from public or private equity
or debt sources in order to finance future growth, including the expansion of
service within existing markets and to new markets, which can be capital
intensive, as well as unanticipated working capital needs and capital
expenditure requirements.
The
actual amount of capital required to fund our operations and development may
vary materially from our estimates. If our operations fail to generate the cash
that we expect, we may have to seek additional capital to fund our business. If
we are required to obtain additional funding in the future, we may have to sell
assets, seek debt financing or obtain additional equity capital. In addition,
any indebtedness we incur in the future could subject us to restrictive
covenants limiting our flexibility in planning for, or reacting to changes in,
our business. If we do not comply with such covenants, our lenders could
accelerate repayment of our debt or restrict our access to further borrowings.
If we raise funds by selling more stock, your ownership in us will be diluted,
and we may grant future investors rights superior to those of the common stock
that you are purchasing. If we are unable to obtain additional capital when
needed, we may have to delay, modify or abandon some of our expansion plans.
This could slow our growth, negatively affect our ability to compete in our
industry and adversely affect our financial condition.
A
significant portion of our total assets consists of goodwill, which is subject
to a periodic impairment analysis, and a significant impairment determination in
any future period could have an adverse effect on our results of operations even
without a significant loss of revenue or increase in cash expenses attributable
to such period.
28
We have
goodwill totaling approximately $12.7 million at September 30, 2009 resulting
from recent and past acquisitions. We evaluate this goodwill for
impairment based on the fair value of the operating business units to which this
goodwill relates at least once a year. This estimated fair value
could change if we are unable to achieve operating results at the levels that
have been forecasted, the market valuation of those business units decreases
based on transactions involving similar companies, or there is a permanent,
negative change in the market demand for the services offered by the business
units. These changes could result in an impairment of the existing
goodwill balance that could require a material non-cash charge to our results of
operations.
Our
failure to comply with restrictive covenants under our revolving credit
facilities and other debt instruments could trigger prepayment
obligations.
Our
failure to comply with the restrictive covenants under our revolving credit
facilities and other debt instruments could result in an event of default,
which, if not cured or waived, could result in us being required to repay these
borrowings before their due date. If we are forced to refinance these
borrowings on less favorable terms, our results of operations and financial
condition could be adversely affected by increased costs and rates.
If we fail to remain current on our
reporting requirements, we could be removed from the OTC Bulletin Board, which
would limit the ability of broker-dealers to sell our securities and the ability
of stockholders to sell their securities in the secondary
market.
Companies
trading on the OTC Bulletin Board, such as us, must be reporting issuers under
Section 12 of the Securities Exchange Act of 1934, as amended, or the Exchange
Act, and must be current in their reports under Section 13 of the Exchange Act
in order to maintain price quotation privileges on the OTC Bulletin
Board. If we fail to remain current on our reporting requirements, we
could be removed from the OTC Bulletin Board. As a result, the market
liquidity for our securities could be severely adversely affected by limiting
the ability of broker-dealers to sell our securities and the ability of
stockholders to sell their securities in the secondary market.
We
have substantial debt, and our debt agreements contain certain events of default
and are secured by all of our assets.
As of
September 30, 2009, our indebtedness totaled approximately
$2.4 million, excluding advances on our factoring lines of approximately
$793,000. As a result, we incur significant interest
expense. We had $1.6 million of outstanding term debt that
matures in May 2011, approximately $500,000 of our outstanding revolver debt
that matures in September 2010, and a $300,000 loan that matures in December
2016.
Our debt
agreements contain certain events of default, including, among other things,
failure to pay, violation of covenants, and certain other expressly enumerated
events. Additionally, we have granted to YA Global and Thermo Credit
a first priority security interest in substantially all of our assets, while the
State of Wisconsin holds a subordinated interest in our assets.
The
degree to which we are leveraged could have important consequences, including
the following:
· |
our
ability to obtain additional financing in the future for operations,
capital expenditures, potential acquisitions, and other purposes may be
limited, or financing may not be available on terms favorable to us or at
all;
|
|
· |
a
substantial portion of our cash flows from operations must be used to pay
our interest expense and repay our debt, which reduces the funds that
would otherwise be available to us for our operations and future business
opportunities; and
|
|
· |
our
ability to continue operations at the current level could be negatively
affected if we cannot refinance our obligations before their due
date.
|
A default
under any of our debt agreements could result in acceleration of debt payments
and permit the lender to foreclose on our assets. We cannot assure
you that we will be able to maintain compliance with these
covenants. Failure to maintain compliance could have a material
adverse impact on our financial position, results of operations and cash
flow.
29
The terms
of our outstanding
Debentures put significant restrictions on our ability to:
· |
pay
cash dividends to our
stockholders;
|
|
· |
incur
additional indebtedness;
|
|
· |
permit
liens on assets or conduct sales of assets;
and
|
|
· |
engage
in transactions with
affiliates.
|
These
significant restrictions could have negative consequences, such
as:
· |
we
may be unable to obtain additional financing to fund working capital,
operating losses, capital expenditures or acquisitions on terms acceptable
to us, or at all;
|
|
· |
we
may be unable to refinance our indebtedness on terms acceptable to us, or
at all; and
|
|
· |
we
may be more vulnerable to economic downturns, which would limit our
ability to withstand competitive
pressures.
|
Moreover,
any additional debt financing pursued by us may contain terms that include more
restrictive covenants, require repayment on an accelerated schedule or impose
other obligations that limit the ability to grow our business, acquire needed
assets, or take other actions we might otherwise consider appropriate or
desirable.
We
require a waiver under our line of credit facility, without which we will be in
default of our line of credit facility.
In
September 2008, we entered into a two-year line of credit facility with a third
party financial institution. Among other things, we agreed with the
lender that (i) for each monthly period subsequent to March 31, 2009, we will
maintain a ratio of cash flow to scheduled principal payments plus all accrued
interest and related fee on funded debt of not less than 1.00 to 1.00 as of the
end of each fiscal quarter (which we refer to as the minimum cash flow to debt
service ratio) and (ii) we will maintain a tangible net worth of not
less than $14,400,000 as of the last day of each fiscal quarter (which we refer
to as the tangible net worth requirement). On November 11, 2009, we
received a notice of waiver of the minimum cash flow to debt service ratio and
the tangible net worth requirement under the line of credit
facility. The waiver was in effect as of September 30, 2009 and
continued for the 90 day period thereafter. We intend to seek an
extension of the waiver through December 31, 2009 and for the 90 day period
thereafter. We have no assurance that we will be granted a
further extension. In the event we are unable to obtain an extension
of the waiver we will be in default of the minimum cash flow to debt service
ratio and the tangible net worth requirement. A default could result
in acceleration of debt payments and permit the lender to foreclose on our
assets.
30
USE
OF PROCEEDS
Assuming
the maximum offering amount of $[●] is subscribed for in the
rights offering, we estimate that the net proceeds from the rights offering will
be approximately $[●],
after deducting expenses related to this offering payable by us estimated at
approximately $[●],
including dealer-manager fees. Assuming that the maximum offering
amount is subscribed for in the rights offering, and all of the related warrants
are exercised, we would receive $[●] of proceeds from the
exercise of all of the warrants for [●] shares at the stated
exercise price of $[●]
per share. There can be no assurances that all of the subscription
rights or warrants will be exercised in full.
We intend
to use the proceeds of the rights offering for expanding our sales and marketing
operations, general working capital purposes, potential acquisitions of
complementary businesses and research and development. Pending use of
the net proceeds from this offering described above, we intend to invest the net
proceeds in short- and intermediate-term interest-bearing obligations,
investment-grade instruments, certificates of deposit or direct or guaranteed
obligations of the U.S. government. Any proceeds received by
us from exercises of the warrants will be used for the same purpose and in the
same manner.
31
CAPITALIZATION
The
following table describes our capitalization as of September 30, 2009, on an
actual basis and on a pro forma, as-adjusted basis to give effect to the sale of
all [●] shares of our common stock offered in the rights offering (but excluding
any issuance of shares of common stock upon exercise of related warrants),
assuming a subscription price of $[●] per share, and our receipt of net proceeds
from that sale after deducting estimated offering expenses payable by us of
approximately $[●].
This
table should be read in conjunction with our “Management’s Discussion and
Analysis of Financial Condition and Results of Operations” and our consolidated
financial statements and the related notes included elsewhere in this
prospectus.
As
of September 30, 2009(1)
|
|||||
Actual
(unaudited)
|
As
Adjusted
|
||||
Current
and long-term debt
|
$ | 2,355,764 | |||
Stockholders’
equity
|
|||||
Preferred
stock, par value $.001 per share; 15,000,000 shares authorized; none
issued and outstanding
|
|||||
Common
stock, $0.001 par value; 155,000,000 shares authorized; 96,563,771 shares
issued and outstanding
|
96,564 | ||||
Additional
paid-in capital
|
119,296,304 | ||||
Accumulated
deficit
|
(110,639,175 | ) | |||
Total
stockholders’ equity
|
8,753,693 | ||||
Total
capitalization
|
$ | 11,109,457 |
(1)
|
Excludes
215 shares of Series A convertible redeemable preferred stock, which are
convertible into an aggregate of 2,961,429 shares of our common stock, and
warrants to purchase an aggregate of 1,628,800 shares of common stock
issued in connection with a private placement completed on November 17,
2009. Also excludes 7,440,570 shares issuable upon the exercise
of options granted pursuant to our Stock Option Plan, 3,703,642 shares
reserved for issuance in connection with future grants under our Stock
Option Plan and 12,158,941 shares reserved for issuance upon the exercise
of warrants and conversion of our outstanding convertible debentures of
which 4,621,212 shares reserved for issuance cannot be issued unless our
stockholders remove the 20% limitation on the number of shares pursuant to
the exercise of warrants and commission of debentures issued to YA
Global.
|
32
DILUTION
Purchasers
of our common stock in the rights offering (and upon exercise of the warrants
issued pursuant to this rights offering) will experience an immediate dilution
of the net tangible book value per share of our common stock. Our net
tangible book value as of September 30, 2009 was approximately negative
$(5,116,000), or negative $(.05) per share of our common stock (based upon
96,563,771 shares of our common stock outstanding). Net tangible book
value per share is equal to our total net tangible book value, which is our
total tangible assets less our total liabilities, divided by the number of
shares of our outstanding common stock. Dilution per share equals the
difference between the amount per share paid by purchasers of shares of common
stock in the rights offering and the net tangible book value per share of our
common stock immediately after the rights offering.
Based on
the aggregate offering of a maximum of [●] shares and after deducting estimated
offering expenses payable by us of $[●], and the application of the estimated
$[●] of net proceeds from the rights offering, our pro forma net tangible book
value as of September 30, 2009 would have been approximately
$[●], or $[●] per share. This represents an immediate
increase in pro forma net tangible book value to existing shareholders of $[●]
per share and an immediate dilution to purchasers in the rights offering of $[●]
per share.
The
following table illustrates this per-share dilution (assuming a fully subscribed
for rights offering of [●] shares at the subscription price of $[●] per share
but excluding any issuance of shares of common stock upon exercise of warrants
issued in the rights offering):
Post-offering
net tangible book value per share
|
$
|
[●] | (1) |
Pre-offering
net tangible book value per share
|
$
|
[●] | (2) |
Pro
forma increase in book value per share attributable to new investors
|
$ | ||
Offering
price per share
|
$
|
[●] | |
Post-offering
net tangible book value per share
|
$
|
[●] | (1) |
Pro
forma decrease in book value per share experienced by new investors
|
$
|
[●] |
_____________________________
(1)
|
Determined
by adding to our pre-offering net tangible assets of $[●] the amount of
$[●] representing the net proceeds of the offering and dividing the sum of
these amounts by the post-offering outstanding common stock totaling [●]
shares (including [●] shares of common stock issuable upon conversion of
outstanding preferred stock).
|
(2)
|
Determined
by dividing our pre-offering net tangible assets of $[●] by our
pre-offering outstanding common stock totaling [●] shares (including [●]
shares of common stock issuable upon conversion of outstanding preferred
stock).
|
33
DETERMINATION
OF OFFERING PRICE
The
anticipated subscription price of $[●] per share of common stock and warrant
offered in the rights offering was determined by our board of directors, in
consultation with our dealer-manager, Source Capital Group, Inc. We
did not seek or obtain an opinion of a financial advisor in establishing the
subscription price. The subscription price will not necessarily be
related to our book value, tangible book value, multiple of earnings or any
other established criteria of fair value and may or may not be considered the
fair value of our common stock to be offered in the rights
offering. You should not assume or expect that, after the rights
offering, our shares of common stock or warrants will trade at or above the
subscription price in any given time period.
The
market price of our common stock may decline during or after the rights
offering, and you may not be able to sell the underlying shares of our common
stock purchased during the rights offering at a price equal to or greater than
the subscription price. You should obtain a current quote for our
common stock before exercising your subscription rights and make your assessment
of our business and financial condition, our prospects for the future and the
terms of this rights offering.
34
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with the accompanying financial
statements and related notes thereto.
Overview
Telkonet,
Inc. was formed in 1999 and is incorporated under the laws of the state of
Utah. We develop, manufacture and sell proprietary energy efficiency
and smart grid networking technology products and platforms that have helped
position us as a leading clean technology provider.
We began as a developer of
powerline communications, or PLC, technology. Our proprietary,
patented PLC products utilize a building’s internal electrical wiring to form a
data communications network, turning power outlets into data ports while leaving
the electrical functionality unaffected. In 2003, we launched our
PlugPlusInternet suite of products, designed to maximize the use of the
existing electrical wiring in commercial buildings, such as hotels, schools,
multi-dwelling units, government and military buildings and office buildings.
Our PlugPlusInternet products provided high-speed Internet access throughout a
building, utilizing the electrical wiring already in place, converting virtually
every electrical outlet into a high-speed data network. The PlugPlusInternet
product suite was comprised of the PlugPlus Gateway, the PlugPlus Coupler and
the PlugPlus Modem, which together built an Internet delivery system throughout
an entire building. We received our first order for our
PlugPlusInternet products in October 2003.
In March 2007, we completed two
strategic acquisitions. On March 15, 2007, we completed the
acquisition of EthoStream, LLC, or EthoStream, a leading high-speed wireless
Internet access, or HSIA, solutions and technology provider targeting the
hospitality industry with a customer base then consisting of approximately 1,800
hotel and timeshare properties representing in excess of 180,000 guest
rooms. We acquired 100% of the outstanding membership units of
EthoStream for a purchase price of $11,756,097, which was comprised of $2.0
million in cash and 3,459,609 shares of our common stock. The entire
stock portion of the purchase price was deposited into escrow upon closing to
satisfy certain potential indemnification obligations of the sellers under the
purchase agreement. The shares held in escrow are distributable over
the three years following the closing.
Our EthoStream Hospitality Network is
now one of the largest hospitality HSIA service providers in the United States,
with a customer base of approximately 2,300 properties representing over 200,000
hotel rooms. This network has created a ready opportunity for us
to market our energy efficiency solutions. It also provides a marketing
opportunity for our more traditional HSIA offerings, including the Telkonet
iWire System. The iWire System offers a fast and cost effective way to
deliver commercial high-speed broadband access using a building’s existing
electrical infrastructure to convert virtually every electrical outlet into a
high-speed data port without the installation of additional wiring or major
disruption of business activity. The EthoStream Hospitality Network
represents a significant portion of our hospitality growth and market
share. The EthoStream Hospitality Network is backed by a 24/7
U.S.-based in-house support center that uses integrated, web-based centralized
management tools enabling proactive customer support.
While we continue to grow
the EthoStream Hospitality Network, through our March 9, 2007 acquisition of
Smart Systems International, or SSI, a leading manufacturer of in-room energy
management systems for the hospitality industry with over 60,000 product
installs as of the acquisition date, and the continued development of our PLC
products, we have evolved into a “clean technology” company that
develops, manufactures and sells proprietary energy efficiency and smart
grid networking technology. We acquired substantially all of the
assets of SSI for cash and shares of our common stock having an aggregate value
of $6,875,000. The purchase price was comprised of $875,000 in cash
and 2,227,273 shares of our common stock. Of the stock issued in the
transaction, 1,090,909 shares were held in an escrow account for a period of one
year following the closing from which certain potential indemnification
obligations under the purchase agreement could be satisfied. The
aggregate number of shares held in escrow was subject to adjustment upward or
downward depending upon the trading price of our common stock during the one
year period following the closing date. On March 12, 2008, we
released these shares from escrow, and on June 12, 2008 we issued an additional
1,882,225 shares pursuant to the adjustment provisions of the SSI asset purchase
agreement.
35
Our
Telkonet SmartEnergy, or TSE, and Networked Telkonet SmartEnergy, or NTSE,
energy efficiency products incorporate our patented Recovery Time technology,
allowing for the continuous monitoring of climate conditions to automatically
adjust a room’s temperature accounting for the presence or absence of an
occupant. Our SmartEnergy products save energy while at the same time
ensuring occupant comfort. This technology is particularly attractive
to our customers in the hospitality area, as well as the education, healthcare
and government/military markets, who are continually seeking ways to reduce
costs without impacting building occupant comfort. By reducing energy
usage automatically when a space is unoccupied, our customers are able to
realize a significant cost savings without diminishing occupant
comfort. The hospitality, education, healthcare and
government/military markets represent a significant audience for the
occupancy-based energy management controls offered by the SmartEnergy
platform and provide
a large footprint for utility-based consumption management. This platform
may also be integrated with property management systems, automation systems and
load shedding initiatives to increase the savings recognized. Working
directly with management companies and utilities allows us to offer enhanced
opportunities to our customers for savings and control. Our energy
management systems are dynamically lowering HVAC costs in over 180,000 rooms and
are an integral part of the numerous state and federal energy efficiency and
rebate programs.
Our smart
grid networking technology, including the Telkonet iWire System and the 200 Mbps
Telkonet Series 5 PLC products, use PLC technology to quickly, economically and
non-disruptively transform a site’s existing internal electrical infrastructure
into an internet protocol, or IP, network backbone. Our PLC systems
offer the hard-wired security and reliability of a CAT-5 cabled network, but
without the cost, physical disturbance and business disruption of wiring CAT-5
or the security issues inherent to wireless systems.
The
development of an industrial PLC product for use within the utility space has
introduced a competitive alternative to traditional local area network, or LAN,
solutions. By capitalizing on the shortcomings of previously available
offerings, we have gained traction and opened a new market
opportunity. Our Series 5 SmartGrid networking technology provides a
compelling solution for power substation automation, power generation, renewable
facilities, manufacturing, and research environments by providing a
rapidly-deployed, low cost alternative to structured cable, wireless and
fiber. Operating at 200 Mbps, our PLC platform offers a secure new
competitive alternative in grid communications, enabling LAN infrastructure for
power substation command and control, monitoring and grid management,
transforming a traditional power management system into a “smart grid” that
delivers electricity in a manner that can save energy, reduce cost and increase
reliability. By leveraging the existing electrical wiring within a
facility to transport data, our PLC solutions enable facilities to deploy
sensing and control systems to locations without the need for new network
wiring, and without the security risks associated with wireless
systems.
We employ
direct and indirect sales channels in all areas of our business. With a
growing value-added reseller network, we continue to broaden our reach
throughout the industry. Utilizing key integrators and strategic OEM
partners, we have been able to recognize significant success in each of our
targeted markets. With an increasing share of our business originating
outside of the hospitality industry, we have proven the versatility of our
technology and the savings that can be derived through the use of our
products.
Discontinued
Operations
On
January 31, 2006, we acquired a 90% interest in Microwave Satellite
Technologies, Inc. from Frank Matarazzo, its sole stockholder, in exchange for
$1.8 million in cash and 1.6 million unregistered shares of our common stock,
for an aggregate purchase price of $9,000,000. The cash portion of
the purchase price was paid in two installments, $900,000 at closing and
$900,000 in February 2007. The stock portion is payable from shares
held in escrow, 400,000 shares of which were paid at closing and the remaining
1,200,000 reserve shares, which shall be issued based on the achievement of
3,300 video and data subscribers over a three year period from the closing
(later extended to July 2009 pursuant to a May 2008 agreement between the
parties). The escrow agreement terminated on July 31,
2009. As of August 14, 2009, we had issued 800,000 of the reserve
shares.
36
On April
22, 2009, we completed the deconsolidation of our subsidiary, MSTI Holdings,
Inc., or MSTI. To effect the deconsolidation of MSTI, we were
required to reduce our ownership percentage and board membership in
MSTI. On February 26, 2009, we executed a Stock Purchase Agreement
pursuant to which we sold 2.8 million shares of MSTI common stock and as a
result of this transaction, we reduced our beneficial ownership in MSTI from 58%
to 49% of the issued and outstanding shares of MSTI common stock. On
April 22, 2009, Warren V. Musser and Thomas C. Lynch, members of our Board of
Directors, submitted their resignations as directors of MSTI. Because
of these resignations we no longer control a majority of MSTI’s board of
directors. As a result of the deconsolidation, the financial
statements and accompanying footnotes included in this prospectus include
disclosures of the results of operations of MSTI, for all periods presented, as
discontinued operations.
Loss
on Long-Term Investments
Geeks
on Call America, Inc.
On
October 19, 2007, we completed the acquisition of approximately 30% of the
issued and outstanding shares of common stock of Geeks on Call America, Inc., or
GOCA, a provider of on-site computer services. Under the terms of the
stock purchase agreement, we acquired approximately 1,160,043 shares of GOCA
common stock from several GOCA stockholders in exchange for 2,940,200 shares of
our common stock for total consideration valued at approximately $4.5
million. The number of shares issued in connection with this transaction
was determined using a per share price equal to the average closing price of our
common stock on the American Stock Exchange (AMEX) during the ten trading days
immediately preceding the closing date. The number of shares was subject
to adjustment on the date we filed a registration statement for the shares
issued in this transaction, which occurred on April 25, 2008. The increase
or decrease to the number of shares issued was determined using a per share
price equal to the average closing price of our common stock on the AMEX during
the ten trading days immediately preceding the date the registration statement
was filed. We accounted for this investment under the cost method, as
we do not have the ability to exercise significant influence over operating and
financial policies of GOCA. On April 30, 2008, we issued an
additional 3,046,425 shares of our common stock to the sellers of GOCA to
satisfy the adjustment provision.
On
February 8, 2008, Geeks on Call Acquisition Corp., a newly formed, wholly-owned
subsidiary of Geeks On Call Holdings, Inc., (formerly Lightview, Inc.) merged
with GOCA. As a result of the merger, our common stock in GOCA was
exchanged for shares of common stock of Geeks on Call Holdings Inc., or Geeks
Holdings. Immediately following the merger, Geeks Holdings completed
a private placement of its common stock for aggregate gross proceeds of
$3,000,000. As a result of this transaction, our 30% interest in
GOCA became an 18% interest in Geeks Holdings. We have
determined that our investment in Geeks Holdings is impaired because we believe
that the fair market value of Geeks Holdings has permanently declined.
Accordingly, we wrote-off $4,098,514 during the year ended December 31
2008. The remaining value of this investment amounted to $367,643 as of
December 31, 2008. Management has determined that the entire investment in
GOCA is impaired and the remaining value of $367,653 was written off during the
period ended September 30, 2009.
Multiband
Corporation
On
October 30, 2007, in lieu of a payment of $75,000, we accepted 30,000 shares of
common stock of Multiband Corporation, a Minnesota-based communication services
provider to multiple dwelling units. We classify these securities as
available for sale, and they are carried at fair market value. During
the year ended December 31, 2008, we recorded a loss of $6,500 on the sale of
5,000 shares of our investment in Multiband. In addition, we recorded
an unrealized loss of $32,750 due to a temporary decline in value of these
securities. The remaining value of this investment amounted to
$29,750 as of December 31, 2008. We sold our remaining investment in
Multiband and recorded a loss of $29,371 in January 2009.
Private
Placement
On
November 19, 2009 we completed a private offering of our securities in which we
sold 215 shares of our Series A convertible redeemable preferred stock, par
value $0.001 per share, at $5,000 per share, and warrants to purchase an
aggregate of 1,628,800 shares of our common stock at an exercise price of $0.33
per share, the volume-weighted average price of a share of our common stock for
the 30-day period immediately preceding November 12, 2009, and received
gross proceeds of $1,075,000. Each share of Series A convertible
redeemable preferred stock is convertible into approximately 13,774 shares of
our common stock at a conversion price of $0.363 per share, 110% of the
volume-weighted average price of our common stock for the 30-day period
immediately preceding November 12, 2009. Except as specifically
provided or as otherwise required by law, the Series A convertible redeemable
preferred stock will vote together with the common stock shares on an
as-if-converted basis and not as a separate class.
37
We are
utilizing the net proceeds from the sale of the Series A convertible redeemable
preferred stock shares and the warrants for general working capital needs and to
repay certain outstanding indebtedness, and to pay expenses of the offering as
well as other general corporate capital purposes.
Critical
Accounting Policies and Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires us to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. On an ongoing basis, we evaluate
significant estimates used in preparing our financial statements including those
related to revenue recognition, guarantees and product warranties, stock based
compensation and business combinations. We base our estimates on
historical experience, underlying run rates and various other assumptions that
we believe to be reasonable, the results of which form the basis for making
judgments about the carrying values of assets and liabilities. Actual
results could differ from these estimates. The following are critical judgments,
assumptions, and estimates used in the preparation of the consolidated financial
statements.
Revenue
Recognition
For
revenue from product sales, we recognize revenue in accordance with FASB’s
Accounting Standards Codification, or ASC, 605-10, and ASC Topic 13 guidelines
that require that four basic criteria must be met before revenue can be
recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has
occurred; (3) the selling price is fixed and determinable; and (4)
collectability is reasonably assured. Determination of criteria (3)
and (4) are based on management’s judgments regarding the fixed nature of the
selling prices of the products delivered and the collectability of those
amounts. Provisions for discounts and rebates to customers, estimated
returns and allowances, and other adjustments are provided for in the same
period the related sales are recorded. We defer any revenue for which
the product has not been delivered or is subject to refund until such time that
we and the customer jointly determine that the product has been delivered or no
refund will be required. The guidelines also address the accounting
for arrangements that may involve the delivery or performance of multiple
products, services and/or rights to use assets.
For
equipment under lease, revenue is recognized over the lease term for operating
lease and rental contracts. All of our leases are accounted for as
operating leases. At the inception of the lease, no lease revenue is
recognized and the leased equipment and installation costs are capitalized and
appear on the balance sheet as “Equipment Under Operating
Leases.” The capitalized cost of this equipment is depreciated from
two to three years, on a straight-line basis down to our original estimate of
the projected value of the equipment at the end of the scheduled lease
term. Monthly lease payments are recognized as rental
income.
Revenue
from sales-type leases for our EthoStream Hospitality Network products is
recognized at the time of lessee acceptance, which follows
installation. We recognize revenue from sales-type leases at the net
present value of future lease payments. Revenue from operating leases
is recognized ratably over the lease period.
Fair
Value of Financial Instruments
In
January 2008, we adopted the provisions under FASB for Fair Value Measurements,
which define fair value for accounting purposes, establishes a framework for
measuring fair value and expands disclosure requirements regarding fair value
measurements. Our adoption of these provisions did not have a
material impact on our consolidated financial statements. Fair value
is defined as an exit price, which is the price that would be received upon sale
of an asset or paid upon transfer of a liability in an orderly transaction
between market participants at the measurement date. The degree of
judgment utilized in measuring the fair value of assets and liabilities
generally correlates to the level of pricing observability. Financial
assets and liabilities with readily available, actively quoted prices or for
which fair value can be measured from actively quoted prices in active markets
generally have more pricing observability and require less judgment in measuring
fair value. Conversely, financial assets and liabilities that are
rarely traded or not quoted have less price observability and are generally
measured at fair value using valuation models that require more
judgment. These valuation techniques involve some level of management
estimation and judgment, the degree of which is dependent on the price
transparency of the asset, liability or market and the nature of the asset or
liability. We have categorized our financial assets and liabilities
measured at fair value into a three-level hierarchy in accordance with these
provisions.
38
Stock Based Compensation
We
account for our stock based awards in accordance with ASC 718 (formerly SFAS
123(R) “Share-Based
Payment”), which requires a fair value measurement and recognition of
compensation expense for all share-based payment awards made to our employees
and directors, including employee stock options and restricted stock
awards.
We
estimate the fair value of stock options granted using the Black-Scholes
valuation model. This model requires us to make estimates and assumptions
including, among other things, estimates regarding the length of time an
employee will retain vested stock options before exercising them, the estimated
volatility of our common stock price and the number of options that will be
forfeited prior to vesting. The fair value is then amortized on a straight-line
basis over the requisite service periods of the awards, which is generally the
vesting period. Changes in these estimates and assumptions can materially affect
the determination of the fair value of stock-based compensation and
consequently, the related amount recognized in our consolidated statements of
operations.
Goodwill
and Other Intangibles
Goodwill
represents the excess of the cost of businesses acquired over fair value or net
identifiable assets at the date of acquisition. Goodwill is subject
to a periodic impairment assessment by applying a fair value test based upon a
two-step method. The first step of the process compares the fair
value of the reporting unit with the carrying value of the reporting unit,
including any goodwill. We utilize a discounted cash flow valuation
methodology to determine the fair value of the reporting unit. If the
fair value of the reporting unit exceeds the carrying amount of the reporting
unit, goodwill is deemed not to be impaired in which case the second step in the
process is unnecessary. If the carrying amount exceeds fair value, we
perform the second step to measure the amount of impairment loss. Any
impairment loss is measured by comparing the implied fair value of goodwill with
the carrying amount of goodwill at the reporting unit, with the excess of the
carrying amount over the fair value recognized as an impairment
loss.
Long-Lived
Assets
We review
long-lived assets for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable in
accordance with ASC 360-10 (formerly Statement of Financial Accounting Standards
No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets). Recoverability is measured by comparison of the
carrying amount to the future net cash flows which the assets are expected to
generate. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the projected discounted future cash flows arising
from the asset using a discount rate determined by management to be commensurate
with the risk inherent to our current business model.
Results
of Operations
Three
and Nine Months Ended September 30, 2009 Compared to Three and Nine Months Ended
September 30, 2008
Revenues
The table
below outlines our product versus recurring revenues for comparable
periods:
Three
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
1,445,888
|
59%
|
$
|
3,837,728
|
81%
|
$
|
(2,391,840
|
)
|
-62%
|
||||||||||||||
Recurring
|
991,130
|
41%
|
897,482
|
19%
|
93,648
|
10%
|
||||||||||||||||||
Total
|
$
|
2,437,018
|
100%
|
$
|
4,735,210
|
100%
|
$
|
(2,298,192
|
)
|
-49%
|
39
Nine
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
5,462,955
|
65%
|
$
|
10,821,179
|
81%
|
$
|
(5,358,224
|
)
|
-50%
|
||||||||||||||
Recurring
|
2,982,384
|
35%
|
2,559,728
|
19%
|
422,656
|
17%
|
||||||||||||||||||
Total
|
$
|
8,445,339
|
100%
|
$
|
13,380,907
|
100%
|
$
|
(4,935,568
|
)
|
-37%
|
Product
revenue
Product
revenue principally arises from the sale and installation of SmartGrid and
broadband networking equipment, including SmartEnergy technology, Telkonet
Series 5 and Telkonet iWire products. We market and sell to the
hospitality, education, healthcare and government/military
markets. The Telkonet Series 5 and the Telkonet iWire products
consist of the Telkonet Gateways, Telkonet Extenders, the patented Telkonet
Coupler, and Telkonet iBridges. The SmartEnergy product suite
consists of thermostats, sensors, controllers, wireless networking products and
a control platform.
For the
three and nine months ended September 30, 2009, product revenue decreased by 62%
and 50%, respectively, when compared to the prior year periods, primarily due to
the prior year rollout of an energy management contract with a national hotel
operator, which accounted for 16% and 34% of product revenue for the three and
nine months ended September 30, 2008. Product revenue for the three
and nine months ended September 30, 2009 includes approximately $0.9 million and
$3.6 million, respectively, attributed to the sale of energy management
products, and approximately $400,000 and $1.5 million, respectively, from the
sales of broadband networking products and services to the hospitality
market. In addition, product revenues for the three and nine months
ended September 30, 2009 decreased overall due to the significant impact of the
current economy on our target market, which has continued to cause delays in
planned opportunities with new and existing customers. Quarter over
quarter revenue decreased by approximately 22% during the quarter ended
September 30, 2009.
Recurring Revenue
Recurring
revenue includes approximately 2,300 hotels in our broadband network
portfolio. We currently support over 200,000 HSIA rooms, with over
2.1 million monthly users. For the three and nine months ended
September 30, 2009, recurring revenue increased by 10% and 17%, respectively,
when compared to the prior year periods. We anticipate growth to our
subscriber base as we deploy additional sites under contract and increase our
strategic franchise and group alliances through the EthoStream Hospitality
Network brand.
Cost of
Sales
Three
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
833,926
|
58%
|
$
|
2,076,776
|
54%
|
$
|
(1,242,850
|
)
|
-60%
|
||||||||||||||
Recurring
|
348,321
|
35%
|
416,723
|
46%
|
(68,402
|
)
|
-16%
|
|||||||||||||||||
Total
|
$
|
1,182,247
|
49%
|
$
|
2,493,499
|
53%
|
$
|
(1,311,252
|
)
|
-53%
|
Nine
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
2,942,748
|
54%
|
$
|
6,800,627
|
63%
|
$
|
(3,857,879
|
)
|
-57%
|
||||||||||||||
Recurring
|
957,668
|
32%
|
1,274,786
|
50%
|
(317,118
|
)
|
-25%
|
|||||||||||||||||
Total
|
$
|
3,900,416
|
46%
|
$
|
8,075,413
|
60%
|
$
|
(4,174,997
|
)
|
-52%
|
40
Product
Costs
Product
costs include equipment and installation labor related to the sale of
SmartEnergy technology, Telkonet Series 5 and the Telkonet iWire
products. For the three and nine months ended September 30, 2009,
product costs decreased by 60% and 57%, respectively, when compared to the prior
year periods, primarily in connection with the decreased sales in the
current year periods. However, product costs increased as a
percentage of revenue for the three months ended September 30, 2009, when
compared to the prior year period because of increased contract labor
costs. For the nine months ended September 30, 2009, product revenue
decreased as a percentage of revenue when compared to the prior year periods,
which reflects the consolidation of operations in the Milwaukee, WI operations
center.
Recurring
Costs
For the
three and nine months ended September 30, 2009, recurring costs decreased by 16%
and 25%, respectively, when compared to the prior year periods, primarily due to
the increase in efficiency in providing support services to customers in our
EthoStream Hospitality Network through the Milwaukee, WI operations
center.
Gross
Profit
Three
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
611,962
|
42%
|
$
|
1,760,952
|
46%
|
$
|
(1,148,991
|
)
|
-65%
|
||||||||||||||
Recurring
|
642,809
|
65%
|
480,759
|
54%
|
162,050
|
34%
|
||||||||||||||||||
Total
|
$
|
1,254,771
|
51%
|
$
|
2,241,711
|
47%
|
$
|
(986,941
|
)
|
-44%
|
Nine
Months Ended
|
||||||||||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||||||||||
(Unaudited)
|
||||||||||||||||||||||||
Product
|
$
|
2,520,207
|
46%
|
$
|
4,020,552
|
37%
|
$
|
(1,500,345
|
)
|
-37%
|
||||||||||||||
Recurring
|
2,024,716
|
68%
|
1,284,942
|
50%
|
739,774
|
58%
|
||||||||||||||||||
Total
|
$
|
4,544,923
|
54%
|
$
|
5,304,494
|
40%
|
$
|
(760,571
|
)
|
-14%
|
Product
Gross Profit
Gross
profit margins for the three and nine months ended September 30, 2009 decreased
from 46% to 42% and increased from 37% to 46%, respectively, when compared to
the prior year periods. We expect to maintain our product gross
profit margins between 45% to 50% on our sales of energy management products and
services, to hospitality, utility and government/military market
customers.
Recurring
Gross Profit
Gross
profit margins associated with recurring revenue were 65% and 68% for the three
and nine months ended September 30, 2009 respectively. Gross profit
margins on recurring revenue increased when compared to the prior year period
due to a proportionate increase in recurring revenue and the consolidation of
our customer support personnel in Milwaukee. The centralized remote
monitoring and management platform and internal call support center has provided
the platform to increase and maintain healthy profit margins on recurring
revenue.
41
Operating Expenses
Three
Months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
2,147,694
|
$
|
2,929,992
|
$
|
(782,298
|
)
|
-27%
|
Nine
Months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
6,361,277
|
$
|
10,338,427
|
$
|
(3,977,150
|
)
|
-38%
|
During
the three and nine months ended September 30, 2009, operating expenses decreased
by 27% and 38%, respectively, when compared to the prior year
periods. This decrease is primarily related to the overall reduction
in operating expenses beginning in 2008 in connection with the corporate
restructuring, and the integration of engineering and reduction in overhead
staffing at the corporate headquarters office.
Research and
Development
Three
Months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
263,672
|
$
|
509,418
|
$
|
(245,746
|
)
|
-48%
|
Nine
months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
761,950
|
$
|
1,667,229
|
$
|
(905,279
|
)
|
-54%
|
Our
research and development costs related to both present and future products are
expensed in the period incurred. Total expenses decreased for the
three and nine months ended September 30, 2009 by approximately $246,000, or
48%, and $905,000, or 54%, respectively. The research and development
costs are associated with the development of the Telkonet Series 5 product suite
and the integration of new applications to the Telkonet iWire System, and the
development of next generation TSE and NTSE products. The decrease in
research and development costs was attributable to our ability to integrate our
engineering resources following our acquisition of SSI and EthoStream which
enabled us to reduce our overhead costs.
Selling, General and
Administrative Expenses
Three
Months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
1,732,053
|
$
|
2,123,035
|
$
|
(390,982
|
)
|
-18%
|
42
Nine
Months Ended
|
||||||||||||||||
September
30, 2009
|
September
30, 2008
|
Variance
|
||||||||||||||
(Unaudited)
|
||||||||||||||||
Total
|
$
|
5,089,221
|
$
|
7,268,375
|
$
|
(2,179,154
|
)
|
-30%
|
During
the three and nine months ended September 30, 2009, selling, general and
administrative expenses decreased over the comparable prior year periods by
approximately 18% and 30%, respectively. This decrease when compared
to the prior year periods is primarily the result of the efficiencies
in the organization resulting in reduced salary and related costs by $200,000
and $989,000, respectively, as well as other significant reductions in sales and
marketing expenses of $183,000 and $635,000, respectively, professional fees of
$3,800 and $231,000, office expenses of $31,000 and $126,000, and travel costs
of $81,000 and $236,000.
Discontinued
Operations
We had
net income from discontinued operations of $6,296,851, or $0.07 per share, for
the nine months ended September 30, 2009, compared to net loss from discontinued
operations of $(3,412,656), or $(0.04) per share, for the nine months ended
September 30, 2008. Net income from discontinued operations for the nine
months ended September 30, 2009 includes the gain on deconsolidation of
$6,932,586, offset by MSTI’s net loss of $635,735 for the nine months ended
September 30, 2009.
Year
Ended December 31, 2008 Compared to Year Ended December 31,
2007
Revenues
The table
below outlines our product versus recurring revenues for comparable
periods:
|
|
Year
Ended December 31,
|
|
|||||||||||||||||||||
|
|
2008
|
|
|
2007
|
|
|
Variance
|
|
|||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||
Product
|
|
$
|
13,043,114
|
|
|
|
79%
|
|
|
$
|
8,774,869
|
|
|
|
76%
|
|
|
$
|
4,268,245
|
|
|
|
49%
|
|
Recurring
|
|
|
3,515,887
|
|
|
|
21%
|
|
|
|
2,702,114
|
|
|
|
24%
|
|
|
|
813,773
|
|
|
|
30%
|
|
Total
|
|
$
|
16,559,001
|
|
|
|
100%
|
|
|
$
|
11,476,983
|
|
|
|
100%
|
|
|
$
|
5,082,018
|
|
|
|
44%
|
|
Product
revenue
For the
year ended December 31, 2008, product revenue was approximately $13,043,000, and
increased by 49% when compared to the prior year. Product revenue for
the year ended December 31, 2008 includes approximately $8,486,000 attributed to
the sale of energy management products, and approximately $4,588,000 of
broadband networking products and services to the hospitality
market. Our product revenues in the second half of 2008 were impacted
by the difficult economic climate, in addition to the normal season sales cycle
for our products and services.
Recurring
Revenue
For the
year ended December 31, 2008, recurring revenue was approximately $3,516,000,
and increased by 30% when compared to the year ended December 31,
2007. The increase of recurring revenue was primarily attributed to
the recognition of twelve months of EthoStream’s recurring revenue in 2008
compared to nine months of EthoStream’s recurring revenue in recognized in 2007,
following the acquisition of EthoStream in March 2007.
43
Cost of Sales
|
|
Year
ended December 31,
|
|
|||||||||||||||||||||
|
|
2008
|
|
|
2007
|
|
|
Variance
|
|
|||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||
Product
|
|
$
|
8,105,304
|
|
|
|
62%
|
|
|
$
|
6,866,429
|
|
|
|
78%
|
|
|
$
|
1,238,875
|
|
|
|
18%
|
|
Recurring
|
|
|
1,680,832
|
|
|
|
48%
|
|
|
|
1,398,565
|
|
|
|
52%
|
|
|
|
282,267
|
|
|
|
20%
|
|
Total
|
|
|
9,786,136
|
|
|
|
59%
|
|
|
$
|
8,264,994
|
|
|
|
72%
|
|
|
$
|
1,521,142
|
|
|
|
18%
|
|
Product
Costs
For the
year ended December 31, 2008, product costs were approximately $8,105,000, and
increased by 18% when compared to the prior year. Overall product
costs increased in connection with the increased sales to the hospitality,
energy management and government markets; however, they decreased as a
percentage of sales due to operating efficiencies and our reduced reliance on
third party contract services.
Recurring
Costs
For the
year ended December 31, 2008, recurring costs were approximately $1,681,000, and
increased by 20% when compared to the prior year. This increase was
primarily due to the increase in the hospitality customer base and the related
recurring revenue.
Gross
Profit
|
|
Year
ended December 31,
|
|
|||||||||||||||||||||
|
|
2008
|
|
|
2007
|
|
|
Variance
|
|
|||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||
Product
|
|
$
|
4,937,810
|
|
|
|
38%
|
|
|
$
|
1,908,440
|
|
|
|
22%
|
|
|
$
|
3,029,370
|
|
|
|
159%
|
|
Recurring
|
|
|
1,835,055
|
|
|
|
52%
|
|
|
|
1,303,549
|
|
|
|
48%
|
|
|
|
531,506
|
|
|
|
41%
|
|
Total
|
|
$
|
6,772,865
|
|
|
|
41%
|
|
|
$
|
3,211,989
|
|
|
|
28%
|
|
|
$
|
3,560,876
|
|
|
|
111%
|
|
Product
Gross Profit
The gross
profit for the year ended December 31, 2008 increased compared to the prior year
period as a result of increased product sales and installations and represented
38% of product revenue.
Recurring
Gross Profit
Our gross
profit associated with recurring revenue increased for the year ended December
31, 2008, and represented approximately 52% of total recurring
revenue. The centralized remote monitoring and management platform
and internal call support center has provided the platform to continue to
increase the gross profit on recurring revenue.
Operating
Expenses
|
|
Year
ended December 31,
|
|
|||||||||||||
|
|
2008
|
|
2007
|
|
Variance
|
|
|||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Total
|
|
$
|
14,759,172
|
|
|
$
|
18,207,560
|
|
|
$
|
(3,448,388
|
)
|
|
|
-19%
|
|
During
the year ended December 31, 2008, operating expenses were approximately
$14,759,000, and decreased by 19% when compared to the prior
year. The operating efficiencies achieved by us from the acquisitions
of SSI and EthoStream in March 2007 have been offset by a $2,000,000 write down
of EthoStream’s goodwill, resulting from the impact of the current recession on
EthoStream’s valuation.
44
Research and Development
Year
ended December 31,
|
||||||||||||||||
2008
|
2007
|
Variance
|
||||||||||||||
Total
|
$
|
2,036,129
|
$
|
2,349,690
|
$
|
(313,561
|
)
|
-13%
|
Our
research and development costs related to both present and future products are
expensed in the period incurred. Total expenses decreased for the
year ended December 31, 2008 by approximately $314,000, or 13%. The
research and development costs were associated with the development of the
Telkonet Series 5 product suite and the development of next generation TSE and
NTSE products.
Selling, General and
Administrative Expenses
|
|
Year
ended December 31,
|
|
|||||||||||||
|
|
2008
|
|
2007
|
|
Variance
|
|
|||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Total
|
|
$
|
9,252,381
|
|
|
$
|
13,752,003
|
|
|
$
|
(4,499,622
|
)
|
|
|
-33%
|
|
Selling,
general and administrative expenses decreased for the year ended December 31,
2008 over the comparable prior year by approximately $4,500,000, or
33%. This decrease was primarily the result of the
efficiencies in the organization resulting in salary and related costs
reductions as well as reduced travel costs, professional fees and rent and
related costs, when compared to the prior year.
Discontinued
Operations
We had a
net loss from discontinued operations of $(7,905,302), or $(0.10) per share, for
the year ended December 31, 2008, compared to net loss from discontinued
operations of $(7,120,386), or $(0.11) per share, for the year ended December
31, 2007.
Liquidity
and Capital Resources
We have
financed our operations since inception primarily through private and public
offerings of our equity securities, the issuance of various debt instruments and
asset based lending.
Working
Capital
Our
working capital decreased by $1,060,900 during the nine months ended September
30, 2009 from a working capital deficit of $2,439,988 at December 31, 2008 to a
working capital deficit of $3,500,889 at September 30, 2009, excluding working
capital attributed to discontinued operations. The decrease in
working capital for the nine months ended September 30, 2009 is due to a
combination of factors, of which the significant factors include:
· |
Advances
to our former subsidiary of approximately
$305,000;
|
|
· |
Net
repayments on our line of credit of approximately $124,000;
and
|
|
· |
Working
capital decreases related to our loss from continuing
operations.
|
Business
Loan
On
September 11, 2009, we entered into a Loan Agreement to borrow an aggregate
principal amount of $300,000 from the Wisconsin Department of Commerce, or the
Department. The outstanding principal balance on the loan bears
interest at the annual rate of two percent (2.0%). Payment of
interest and principal is to be made in the following manner: (a)
payment of any and all interest that accrues from the date of disbursement
commences on January 1, 2010 and continues on the first day of each consecutive
month thereafter through and including December 31, 2010; (b) commencing on
January 1, 2011 and continuing on the first day of each consecutive month
thereafter through and including November 1, 2016, we are obligated to pay equal
monthly installments of $4,426 each; followed by a final installment on December
1, 2016 which will include all remaining principal, accrued interest and other
amounts owed by us to the Department under the Loan Agreement. We may
prepay amounts outstanding under the loan in whole or in part at any time
without penalty. The loan is secured by our assets and the proceeds
from this loan will be used for our working capital requirements. The
outstanding borrowing under the agreement at September 30, 2009 was
$300,000.
45
Line of Credit
In
September 2008, we entered into a two-year line of credit facility with a third
party financial institution. The line of credit has an aggregate
principal amount of $1,000,000 and is secured by our inventory. The
outstanding principal balance bears interest at the greater of (i) the Wall
Street Journal Prime Rate plus nine percent (9%) per annum, adjusted on the date
of any change in such prime or base rate, or (ii) sixteen percent
(16%). Interest is payable monthly in arrears on the last day of each
month until maturity. We may prepay amounts outstanding under the
credit facility in whole or in part at any time. In the event of such
prepayment, the lender will be entitled to receive a prepayment fee of four
percent (4.0%) of the highest aggregate loan commitment amount if prepayment
occurs before the end of the first year and three percent (3.0%) if prepayment
occurs thereafter. The outstanding borrowing under the agreement at
September 30, 2009 was $449,741. We have incurred interest expense of
$103,881 related to the line of credit for the nine months ended September 30,
2009. The Prime Rate was 3.25% at September 30, 2009.
On
November 11, 2009, we received a notice of waiver of the minimum cash flow to
debt service ratio and the tangible net worth requirements under the line of
credit facility. The waiver was in effect as of September 30, 2009
and continued for the 90 day period thereafter. We intend to seek an
extension of the waiver through December 31, 2009 and for the 90 day period
thereafter.
Convertible
Debentures
On May
30, 2008, we entered into a Securities Purchase Agreement with YA Global
pursuant to which we agreed to issue and sell to YA Global up to $3,500,000 of
secured convertible debentures and warrants to purchase up to 2,500,000 shares
of our common stock. The sale of these debentures and warrants was
effectuated in three separate closings, the first of which occurred on May 30,
2008, and the remainder of which occurred in July 2008. At the May
30, 2008 closing, we sold debentures having an aggregate principal value of
$1,500,000 and warrants to purchase 2,100,000 shares of our common
stock. In July 2008, we sold the remaining debentures, with an
aggregate principal value of $2,000,000, and warrants to purchase 400,000 shares
of our common stock.
The
debentures accrue interest at a rate of 13% per annum and mature on May 29,
2011. We may redeem the debentures at any time, in whole or in part,
by paying a redemption premium equal to 15% of the principal amount of
debentures being redeemed, so long as an “Equity Conditions Failure” (as defined
in the debentures) is not occurring at the time of such
redemption. YA Global may also convert all or a portion of the
debentures at any time at a price equal to the lesser of (i) $0.58, or (ii)
ninety percent (90%) of the lowest volume weighted average price of our common
stock during the ten trading days immediately preceding the conversion
date. The warrants expire five years from the date of issuance and
entitle YA Global to purchase shares of our common stock at an exercise price
per share of $0.61.
On
February 20, 2009, we and YA Global entered into an Agreement of Clarification
pursuant to which we agreed with YA Global that interest accrued as of December
31, 2008, in the amount of $191,887 would be added to the principal amount
outstanding under the debentures and that each debenture be amended to reflect
the applicable increase in principal amount.
On May
12, 2009, YA Global met the Exchange Cap for the conversion of its debentures,
and thus could not receive additional shares of our common stock upon the
conversion of its debentures or exercise of its warrants. In the
Agreement of Clarification, we agreed to seek shareholder approval to remove the
Exchange Cap at our 2009 annual meeting of shareholders, which was held on May
28, 2009. On May 28, 2009, our shareholders voted against the proposal to remove
the Exchange Cap, which would have allowed YA Global to potentially acquire in
excess of 19.99% of the outstanding shares of our common stock.
46
Senior Note Payable
On July
24, 2007, we entered into a Senior Note Purchase Agreement with GRQ Consultants,
Inc., or GRQ, pursuant to which we issued to GRQ a Senior Promissory Note in the
aggregate principal amount of $1,500,000. The note was due and
payable on the earlier to occur of (i) the closing of our next financing, or
(ii) January 28, 2008, and bore interest at a rate of six percent (6%) per
annum. We incurred approximately $25,000 in fees in connection with
this transaction. The net proceeds from the issuance of the Note were
used for general working capital needs. In connection with the
issuance of the Note, we also issued to GRQ warrants to purchase 359,712 shares
of common stock at $4.17 per share. These warrants expire five years
from the date of issuance. On February 8, 2008, this note was repaid
in full including $49,750 in interest from the issuance date through the date of
repayment.
Proceeds
from the issuance of common stock
During
the nine months ended September 30, 2009, we received $71,526 from the exercise
of common stock purchase warrants issued to various investors.
Cash
flow analysis
Cash used
in continuing operations was $72,506 during the nine months ended September 30,
2009, compared to cash used in continuing operations of $3,233,366 during the
prior year period. For the remainder of the year ended December 31,
2009, our primary capital needs are for operating expenses, including funds to
support our business strategy, which primarily includes working capital
necessary to fund inventory purchases, and reducing our trade
payables.
We
utilized cash for investing activities from continuing operations of $275,085
and $14,375 during the nine months ended September 30, 2009, and 2008,
respectively. During the nine months ended September 30, 2009, these
activities involved intercompany loans to MSTI of approximately $305,000, which
was partially offset by the sale of our remaining investment in Multiband for
proceeds of $33,129. During the nine months ended September 30, 2008,
these expenditures were primarily due to the purchase of computer and related
equipment.
We had
cash from financing activities from continuing operations of $217,548 and
$3,567,809 during the nine months ended September 30, 2009 and 2008,
respectively. During the nine months ended September 30, 2009, cash
from financing activities was provided by a $300,000 business loan from the
Wisconsin Department of Commerce, which was partially offset by net cash used of
$124,000 for the repayment of our working capital line of credit used for
inventory purchases, and $25,000 for the payment of financing costs related to
the accounts receivable factoring program. During the nine months
ended September 30, 2008, the financing activities involved the sale of 2.5
million shares of common stock at $0.60 per share in a private placement for a
total of $1,500,000, in February 2008, the proceeds of which were used to repay
the outstanding principal amount on the GRQ Note. Additionally, we
sold debentures for gross proceeds of $3,500,000 in May 2008 and July 2008, and,
in May 2008, we received a $400,000 loan from a private investor, which was
offset by $462,566 in financing costs.
Cash
utilized in continuing operations was $3,010,096 during the year ended December
31, 2008 compared to $10,543,735 during the year ended December 31, 2007,
respectively. The primary use of cash during the twelve months ended
December 31, 2008 was for operating expenses.
We
utilized cash for investing activities from continuing operations of $8,374 and
$2,274,732 during the years ended December 31, 2008 and 2007,
respectively. During the year ended December 31, 2008, these
expenditures were primarily due to the purchase of capital equipment and
proceeds of $6,000 from the sale of our marketable securities. In 2007,
these expenditures primarily arose from the payment of the cash
portion of the MSTI purchase price of $900,000, cash payments of $875,000 and
$2,000,000, for the acquisitions of SSI and EthoStream, respectively, and
$1,020,000 for the acquisition of Newport Telecommunications in July 2007 by our
former MSTI subsidiary. We received proceeds from the sale of our
investment in BPL Global of $2,000,000 in November 2007. Purchases of
property and equipment amounted to $14,374 and $224,175 for the year ended
December 31, 2008 and 2007, respectively.
47
We had
cash from financing activities from continuing operations of $3,519,450 and
$11,032,494 during the year ended December 31, 2008 and 2007,
respectively. The financing activities involved the sale of 2.5
million shares of common stock at $0.60 per share for a total of $1,500,000, in
February 2008, the proceeds of which were used to repay the outstanding
principal amount on the GRQ Note. Additionally, we sold debentures
for gross proceeds of $3,500,000 in May and July 2008, and we received a
$400,000 loan from a private investor, which was offset by $462,511 in
financing costs paid. During the year ended December 31, 2007, the
financing activities represented proceeds of $9,610,000, net of placement fees,
from the sale of 4.0 million shares of common stock at $2.50 per share, the
issuance of a senior note payable in the principal amount of $1,500,000 and
proceeds from the exercise of stock options and warrants of
$124,460.
We have
reduced cash required for operations by reducing operating costs and reducing
staff levels. In addition, we are working to manage our current
liabilities while we continue to make changes in operations to improve our cash
flow and liquidity position.
Our
registered independent certified public accountants have stated in their report
dated April 1, 2009 that we have incurred operating losses in the past years,
and that we are dependent upon management’s ability to develop profitable
operations and/or obtain necessary funding from outside sources, including by
the sale of our securities, or obtaining loans from financial institutions,
where possible. These factors, among others, may raise substantial
doubt about our ability to continue as a going concern.
Management
expects that global economic conditions will continue to present a challenging
operating environment through 2010. To the extent permitted by
working capital resources, management intends to continue making targeted
investments in strategic operating and growth initiatives. Working
capital management will continue to be a high priority for 2010.
While we
have been able to manage our working capital needs with the current credit
facilities, additional financing is required in order to meet our current and
projected cash flow requirements from operations. We cannot predict
whether this new financing will be in the form of equity or debt. We
may not be able to obtain the necessary additional capital on a timely basis, on
acceptable terms, or at all. Additional investments are being sought, but we
cannot guarantee that we will be able to obtain such investments. If
all of the subscription rights (including all over-subscription rights) are
exercised in full, we estimate that the net proceeds to us from the rights
offering described in this prospectus, after deducting estimated offering
expenses, will be approximately $[●]. Other financing transactions
may include the issuance of equity or debt securities, obtaining credit
facilities, or other financing mechanisms. However, the trading price
of our common stock and the downturn in the U.S. stock and debt markets could
make it more difficult to obtain financing through the issuance of equity or
debt securities. Even if we are able to raise the funds required, it
is possible that we could incur unexpected costs and expenses, fail to collect
significant amounts owed to us, or experience unexpected cash requirements that
would force us to seek alternative financing. Further, if we issue
additional equity or debt securities, stockholders may experience additional
dilution or the new equity securities may have rights, preferences or privileges
senior to those of existing holders of our common stock. If
additional financing is not available or is not available on acceptable terms,
we will have to curtail our operations.
48
Inflation
We do not
believe that inflation has had a material effect on our business, financial
condition or results of operations. If our costs were to become
subject to significant inflationary pressures, we may not be able to fully
offset such higher costs through price increases. Our inability or
failure to do so could adversely affect our business, financial condition and
results of operations.
Off-Balance
Sheet Arrangements
We do not
maintain off-balance sheet arrangements nor does it participate in any
non-exchange traded contracts requiring fair value accounting
treatment.
Acquisition
or Disposition of Property and Equipment
During
the nine months ended September 30, 2009, fixed assets and cost of equipment
under operating leases decreased by $3,925, primarily from the transfer and
disposal of computer equipment and peripherals used in day-to-day operations,
net of equipment purchases. We do not anticipate the sale or purchase
of any significant property, plant or equipment during the next twelve months,
other than computer equipment and peripherals to be used in our day-to-day
operations.
We
presently lease 16,400 square feet of commercial office space in Germantown,
Maryland, but we are in the process of relocating our personnel to our new
corporate headquarters consisting of approximately 12,000 square feet of office
space in Milwaukee, Wisconsin, pursuant to a restructuring announced in December
2009. The Germantown lease expires in December 2015. We
are currently actively pursuing a sublease for all or a portion of this office
space for the remaining term of the lease.
49
THE RIGHTS OFFERING
Terms
of the Offer
We are
distributing, at no charge to the holders of our common stock, other than those
who hold shares of our common stock solely as participants in the Telkonet, Inc.
401(k) Plan, and the holders of shares of our Series A convertible redeemable
preferred stock, as of [●], 2010, the record date, transferable
subscription rights to subscribe for shares of our common stock and warrants to
purchase additional shares of our common stock. Holders of common
stock as of the record date will receive one transferable subscription right for
every share of our common stock owned on the record date, or an aggregate
of [●] rights. In addition, holders of shares of our Series A
convertible redeemable preferred stock as of the record date will receive one
transferable subscription right for every share of our common stock into which
shares of our Series A convertible redeemable preferred stock owned on the
record date were convertible, or an aggregate of [●] rights. Pursuant
to the terms of the offering, the rights can only be exercised for a maximum of
$[●] of subscription proceeds.
Each
transferable subscription right entitles the holder (including holders of
subscription rights acquired during the subscription period) to subscribe for
one share of our common stock at the subscription price of $[●] per share and to
receive a warrant to purchase one additional share of our common stock at $[●]
or [●]% of the subscription price at any time until its expiration date of [●],
2015, which we refer to as the basic subscription right.
In
addition, subscription rights holders who fully exercise their basic
subscription rights will be entitled, subject to limitations, to subscribe for
additional shares of our common stock that remain unsubscribed as a result of
any unexercised basic subscription rights, which we refer to as the
over-subscription right, at the same subscription price of $[●] per
share. The over-subscription right allows a holder to subscribe for
an additional amount equal to up to [●]% of the shares and warrants for which
such holder was otherwise entitled to subscribe. If the basic
subscription rights are exercised for an amount equal to or in excess of $[●],
then no over-subscription rights will be fulfilled and any excess subscription
amount received by the subscription agent will be returned, without interest, as
soon as practicable after the rights offering has expired and all prorating
calculations and reductions contemplated by the terms of the rights offering
have been effected. If the basic subscription rights are exercised
for an amount in excess of $[●], the basic subscription rights that have been
exercised will be reduced on a pro-rata basis, subject to adjustment to
eliminate fractional shares, so that the total exercise price of the basic
subscription rights shall equal $[●], and any excess subscription amount
received by the subscription agent will be returned, without interest, as soon
as practicable after the rights offering has expired and all prorating
calculations and reductions contemplated by the terms of the rights offering
have been effected. Subscription rights may only be exercised for
whole numbers of shares of our common stock and warrants; no fractional shares
of common stock will be issued in this offering.
The
subscription rights will expire if they are not exercised by 5:00 p.m., Eastern
time, on [●], 2010, which date we refer to as the expiration
date. We may extend the expiration date for up to an additional [●]
trading days in our sole discretion.
To
exercise subscription rights, holders must return the properly completed
subscription rights certificate and any other required documents along with
full payment of the subscription price for all shares for which subscriptions
are exercised by the expiration date, unless delivery of the subscription rights
certificate is effected pursuant to the guaranteed delivery procedures described
below. Any subscription rights not exercised by the expiration date
will expire worthless without any payment to the holders of those unexercised
subscription rights.
There is
no minimum subscription amount required for consummation of this rights
offering. Unless our board of directors elects to increase the
maximum offering amount, we will raise no more than $[●] of gross proceeds in
this rights offering. Our board of directors may cancel, modify, or
amend this rights offering at any time prior to the expiration date for any
reason. In the event that we cancel the rights offering, all
subscription payments received by the subscription agent will be returned,
without interest, as soon as practicable.
Our
common stock is quoted on the OTC Bulletin Board under the symbol
“TKOI.OB” The shares of common stock issued in this rights offering
and pursuant to the terms of the warrants will also be quoted on the OTC
Bulletin Board under the same symbol. The last reported sale price of
our common stock on [●], 2010 was $[●] per share. The subscription
rights are transferable during the course of the subscription period, and we
intend to apply for quotation of the subscription rights on the OTC Bulletin
Board under the symbol “[●].” The warrants to be issued pursuant to
this offering are separately transferable following their issuance and through
their expiration on [●], 2015, and we intend to apply for quotation of the
warrants on the OTC Bulletin Board under the symbol “[●].”
50
For
purposes of determining the number of shares of our common stock and warrants a
subscription rights holder may acquire in this offering, brokers, dealers,
custodian banks, trust companies or others whose shares are held of record by
Cede & Co. or by any other depository or nominee will be deemed to be the
holders of the subscription rights that are issued to Cede & Co. or the
other depository or nominee on their behalf.
Allocation
and Exercise of Over-Subscription Rights
In order
to properly exercise an over-subscription right, a subscription rights holder
must: (i) indicate on its subscription rights certificate that it
submits with respect to the exercise of the subscription rights issued to it how
many additional shares it is willing to acquire pursuant to its
over-subscription right and (ii) concurrently deliver the subscription payment
related to its over-subscription right at the time it makes payment for its
basic subscription right.
If there
are sufficient remaining shares, all over-subscription requests will be honored
in full. If requests for shares pursuant to the over-subscription
right exceed the remaining shares available, the available remaining shares will
be allocated pro rata
among subscription rights holders who over-subscribe based on the number of
over-subscription shares to which they subscribe. The percentage of
remaining shares each over-subscribing rights holder may acquire will be rounded
down to result in delivery of whole shares. The allocation process
will assure that the total number of remaining shares available for
over-subscriptions is distributed on a pro rata
basis. The formula to be used in allocating the available excess
shares is as follows:
Number
of Over-Subscription Shares Subscribed to by Exercising Subscription
Rights Holder
|
X
|
Shares
Available for Subscription Rights Holders Exercising Their
Over-Subscription Right
|
Total
Number of Over-Subscription Shares Available for Subscription Rights
Holders Exercising Their Over-Subscription Right
|
Subscription
rights payments for basic subscriptions and over-subscriptions will be deposited
upon receipt by the subscription agent and held in a segregated account with the
subscription agent pending a final determination of the number of shares to be
issued pursuant to the basic and over-subscription right. If the
pro rated amount of
shares allocated to you in connection with your over-subscription right is less
than your over-subscription request, then the excess funds held by the
subscription agent on your behalf will be returned to you, without
interest, as soon as practicable after the rights offering has expired and all
prorating calculations and reductions contemplated by the terms of the rights
offering have been effected. We will deliver certificates
representing your shares of our common stock and warrants or credit your account
at your nominee holder with shares of our common stock and warrants that you
purchased pursuant to your basic and over-subscription right as soon as
practicable after the rights offering has expired and all prorating calculations
and reductions contemplated by the terms of the rights offering have been
effected.
Brokers,
dealers, custodian banks, trust companies and other nominee holders of
subscription rights will be required to certify to the subscription agent,
before any over-subscription right may be exercised with respect to any
particular beneficial owner, as to the aggregate number of subscription rights
exercised pursuant to the basic subscription right and the number of shares
subscribed for pursuant to the over-subscription right by such beneficial
owner.
We will
not offer or sell in connection with this offering any shares that are not
subscribed for pursuant to the basic subscription right or the over-subscription
right.
Pro
Rata Allocation if Insufficient Shares are Available for Issuance
If we
receive a sufficient number of subscriptions, the aggregate dollar amount of the
exercises could exceed the maximum dollar amount of this offering. In
each case, we would reduce on a pro rata basis, the number of
subscriptions we accept so that the gross proceeds of this offering will not
exceed the maximum dollar amount of this offering. In the event of
any pro rata reduction,
we would first reduce over-subscriptions prior to reducing basic
subscriptions.
51
Expiration of the Rights Offering and Extensions, Amendments, and Termination
Expiration and
Extensions. You may exercise your subscription rights at any
time before 5:00 p.m., Eastern time, on [●], 2010, the expiration date of
the rights offering, unless extended. Our board of directors may
extend the expiration date for exercising your subscription rights for up to an
additional [●] trading days in its sole discretion. We may extend the
expiration date of the rights offering by giving oral or written notice to the
subscription agent and information agent on or before the scheduled expiration
date. If we extend the expiration date, you will have at least ten
trading days during which to exercise your subscription rights. Any
extension of this offering will be followed as promptly as practicable by an
announcement, and in no event later than 9:00 a.m., Eastern time, on the next
business day following the previously scheduled expiration date.
Any
subscription rights not exercised at or before that time will have no value and
expire without any payment to the holders of those unexercised subscription
rights. Except as provided below under “— Guaranteed Delivery
Procedures”, we will not be obligated to honor your exercise of subscription
rights if the subscription agent receives the documents relating to your
exercise after the rights offering expires, regardless of when you transmitted
the documents, unless delivery of the subscription rights certificate is
effected pursuant to the guaranteed delivery procedures described
below.
Termination;
Cancellation. We may cancel or terminate the rights offering
at any time prior to the expiration date. Any cancellation or
termination of this offering will be followed as promptly as practicable by an
announcement of the cancelation or termination and any money received
form subscribing rights holders will be returned as soon as practicable,
without interest.
Amendment. We
reserve the right to amend or modify the terms of the rights offering at any
time prior to the expiration date of the offering.
Waiver
of Maximum Offering Amount
We may
waive the maximum offering amount in our sole discretion. If we elect
to waive the maximum offering amount, we will issue a press release announcing
such waiver no later than 9:00 a.m., Eastern time, on the next business day
after the maximum offering amount has been subscribed.
Limit
on How Many Shares of Common Stock You May Purchase in the Rights
Offering
Unless we
otherwise agree in writing, a person or entity, together with related persons or
entities, may not exercise subscription rights (including over-subscription
rights) to purchase shares of our common stock that, when aggregated with their
existing ownership, would result in such person or entity, together with any
related persons or entities, owning in excess of twenty percent (20%) of our
issued and outstanding shares of common stock following the closing of the
transactions contemplated by this rights offering.
Reasons
for the Rights Offering; Determination of the Offering Price
We are
making the rights offering to raise funds for expanding our sales and marketing
operations, general working capital purposes, potential acquisitions of
complementary businesses and research and development (see “Use of
Proceeds”). Our board of directors has elected a rights offering over
other types of financings because a rights offering provides our existing
shareholders the opportunity to participate in this offering first, and our
board of directors believes this will result in less dilution of our existing
shareholders’ ownership interest in our company than if we issued securities to
new investors. Prior to approving the rights offering, our board of
directors carefully considered current market conditions and financing
opportunities, as well as the potential dilution of the ownership percentage of
the existing holders of our common stock that may be caused by the rights
offering.
52
After
weighing the factors discussed above and the effect of the $[●] in additional
capital, before expenses, that may be generated by the sale of shares of our
common stock and warrants pursuant to the rights offering, our board of
directors believes that the rights offering is in the best interests of our
company. Although we believe that the rights offering will strengthen
our financial condition, our board of directors is not making any recommendation
as to whether you should exercise your subscription rights.
The
subscription price per share for the rights offering was set by our board of
directors. In determining the subscription price, the board of directors
considered, among other things, the following factors:
· |
our
cash needs;
|
|
· |
the
historical and current market price of our common
stock;
|
|
· |
the
fact that holders of subscription rights will have an over-subscription
right;
|
|
· |
the
terms and expenses of this offering relative to other alternatives for
raising capital, including fees payable to the dealer-manager and our
advisors;
|
|
· |
the
size of this offering; and
|
|
· |
the
general condition of the securities
market.
|
Information
Agent
[●] will
act as the information agent in connection with this offering. The
information agent does not make any recommendations as to whether or not
you should exercise your subscription rights. The information agent will
receive for its services a fee estimated to be approximately $[●] plus
reimbursement of all reasonable out-of-pocket expenses related to this
offering. If you have any questions or need further
information on this rights offering, please contact the information
agent at the address below:
[●]
Subscription
Agent
[●] will
act as the subscription agent in connection with this offering. The
subscription agent will receive for its administrative, processing, invoicing
and other services a fee estimated to be approximately $[●] plus reimbursement
for all reasonable out-of-pocket expenses related to this
offering. The subscription agent does not make any
recommendations as to whether or not you should exercise your subscription
rights. We have also agreed to indemnify the subscription agent
against certain liabilities that it may incur in connection with this
offering.
Completed
subscription rights certificates must be sent together with full payment of the
subscription price for all shares subscribed for through the exercise of the
subscription right and the over-subscription right to the subscription agent by
one of the methods described below.
We will
accept only properly completed and duly executed subscription rights
certificates actually received at any of the addresses listed below, at or prior
to 5:00 p.m., Eastern time, on the expiration date of this offering, unless
delivery of the subscription rights certificate is effected pursuant to the
guaranteed delivery procedures described below. See “Payment for
Shares” below. In this prospectus, close of business means 5:00 p.m.,
Eastern time, on the relevant date.
Subscription
Rights Certificate Delivery Method
|
Address/Number
|
By
Hand Delivery
|
[●]
|
By
Mail/Overnight Carrier
|
[●]
|
53
Delivery
to an address other than the address listed above will not constitute valid
delivery and, accordingly, may be rejected by us.
Any
questions or requests for assistance concerning the method of subscribing for
shares or for additional copies of this prospectus or subscription rights
certificates may be directed to the information agent at its telephone number
and address listed below:
[●]
Shareholders
may also contact their broker, dealer, custodian bank, trustee or other nominee
for information with respect to this offering.
Methods
for Exercising Subscription Rights
Subscription
rights are evidenced by subscription rights certificates, which may be physical
certificates but will more likely be electronic certificates issued through the
facilities of DTC. Except as described below under “Foreign
Shareholders,” the subscription certificates will be mailed to record date
shareholders or, if a record date shareholder’s shares are held by a depository
or nominee on his, her or its behalf, to such depository or
nominee. Subscription rights may be exercised by completing and
signing the subscription rights certificate that accompanies this prospectus and
mailing it in the envelope provided, or otherwise delivering the completed and
duly executed subscription rights certificate to the subscription agent,
together with payment in full for the shares at the subscription price by the
expiration date of this offering, unless delivery of the subscription rights
certificate is effected pursuant to the guaranteed delivery
procedures. Completed subscription rights certificates and related
payments must be received by the subscription agent prior to 5:00 p.m., Eastern
time, on or before the expiration date, at the offices of the subscription agent
at the address set forth above, unless delivery of the subscription rights
certificate is effected pursuant to the guaranteed delivery procedures described
below.
Exercise
of the Over-Subscription Right
Subscription
rights holders who fully exercise all basic subscription rights issued to them
may participate in the over-subscription right by indicating on their
subscription rights certificate the number of shares they are willing to
acquire. If sufficient remaining shares are available after the basic
subscription, all over-subscriptions will be honored in full; otherwise,
remaining shares will be allocated on a pro rata basis as described
under “— Allocation and Exercise of Over-Subscription Rights”
above.
Record
Date Shareholders Whose Shares are Held by a Nominee
Record
date shareholders whose shares are held by a nominee, such as a broker, dealer,
custodian bank, trustee or other nominee, must contact that nominee to exercise
their subscription rights. In that case, the nominee
will exercise the subscription rights on behalf of the record date
shareholder and arrange for proper payment by one of the methods set forth under
“Payment for Shares” below.
You
should complete and send to that record holder the applicable subscription
documents from your record holder with the other rights offering materials.
While we will not charge any fee or sales commission to subscription rights
holders for exercising their subscription rights (other than the subscription
price), if you exercise your subscription rights and/or sell any underlying
shares of our common stock through a broker, dealer, custodian bank, trustee or
other nominee, you are responsible for any fees charged by your broker, dealer,
custodian bank, trustee or other nominee.
Nominees
Nominees,
such as brokers, dealers, custodian banks, trustees or depositories for
securities, who hold shares for the account of others, should notify the
respective beneficial owners of the shares as soon as possible to ascertain the
beneficial owners’ intentions and to obtain instructions with respect to the
subscription rights. If the beneficial owner so instructs, the
nominee should exercise the subscription rights on behalf of the beneficial
owner and arrange for proper payment as described under “Payment for
Shares” below.
54
All
Exercises are Irrevocable
All
exercises of subscription rights are irrevocable. Once you send in your
subscription rights certificate or Notice of Guaranteed Delivery and payment,
you cannot revoke the exercise of either your basic or over-subscription rights,
even if the market price of our common stock is below the $[●] per share
subscription price. You should not exercise your subscription rights
unless you are certain that you wish to purchase additional shares of our common
stock at the subscription price of $[●] per share.
General
All
questions as to the validity, form, eligibility (including times of receipt and
matters pertaining to beneficial ownership) and the acceptance of subscription
forms and the subscription price will be determined by us, which determinations
will be final and binding. No alternative, conditional or contingent
subscriptions will be accepted. We reserve the right to reject any or
all subscriptions not properly submitted or the acceptance of which would, in
the opinion of our counsel, be unlawful.
We
reserve the right to reject any exercise if such exercise is not in accordance
with the terms of this rights offering or not in proper form or if the
acceptance thereof or the issuance of shares of our common stock thereto could
be deemed unlawful. We reserve the right to waive any deficiency or irregularity
with respect to any subscription rights certificate. Subscriptions will not be
deemed to have been received or accepted until all irregularities have been
waived or cured within such time as we determine in our sole
discretion. We will not be under any duty to give notification of any
defect or irregularity in connection with the submission of subscription rights
certificates or incur any liability for failure to give such
notification.
Guaranteed
Delivery Procedures
If you
wish to exercise your subscription rights, but you will not be able to deliver
your subscription rights certificate to the subscription agent prior to the
expiration date of the offering, then you may nevertheless exercise the
subscription rights if:
· | before the expiration date, the subscription agent receives: | ||
o |
payment
for the number of common shares you subscribe for pursuant to your
basic subscription right and, if applicable, your oversubscription right;
and
|
||
o |
a
guarantee notice from a member firm of a registered national securities
exchange or a member of the Financial Industry Regulatory Authority,
Inc., or FINRA, or from a commercial bank or trust company having an
office or correspondent in the United States, guaranteeing the delivery to
the subscription agent of the subscription rights certificate evidencing
the subscription rights to be exercised within three (3) trading days
following the date of that notice; and
|
||
· | within this three (3) trading day period, the subscription agent receives the properly completed subscription rights certificate. |
You may deliver the guarantee notice referred to above to the subscription agent in the same manner as you would deliver the subscription rights certificate. You should refer to the form titled “Notice of Guaranteed Delivery For Subscription Rights Certificate,” which is provided with the “Instructions as to Use of Subscription Rights Certificates” distributed with the subscription rights certificate for the information and representations required in the guarantee notice.
55
Subscription Rights Will Trade Publicly
The
subscription rights are transferable and we intend to apply for quotation of the
subscription rights on the OTC Bulletin Board under the symbol “[●]” during the
subscription period.
Foreign
Shareholders
Subscription
rights certificates will not be mailed to shareholders whose addresses are
outside the United States, or who have an Army Post Office, or APO, address or
Fleet Post Office, or FPO, address. These shareholders will be sent
written notice of this offering. The subscription agent will hold the
subscription rights to which those subscription rights certificates relate for
these shareholders’ accounts, subject to these shareholders making satisfactory
arrangements with the subscription agent for the exercise of the subscription
rights, and follow the instructions of such shareholders for the exercise of the
subscription rights if such instructions are received by the subscription agent
at or before 11:00 a.m., Eastern time, on [●], 2010, three business days
prior to the expiration date (or, if this offering is extended, on or before
three business days prior to the extended expiration date). If no
instructions are received by the subscription agent by that time, the
subscription rights will expire worthless without any payment to the holders of
those unexercised rights.
Payment for Shares
A
participating subscription rights holder may send the subscription rights
certificate together with payment for the shares of our common stock and
warrants subscribed for in the rights offering and any additional shares of our
common stock and warrants subscribed for pursuant to the over-subscription right
to the subscription agent based on the subscription price of $[●] per share of
common stock and warrant. Except as described above under “—
Guaranteed Delivery Procedures”, to be accepted, the payment, together with a
properly completed and executed subscription rights certificate, must be
received by the subscription agent at one of the subscription agent’s offices
set forth above (see “— Subscription Agent”), at or prior to 5:00 p.m., Eastern
time, on the expiration date. Do not send subscription rights
certificates, Notices of Guaranteed Delivery or payments to
us.
All
payments by a participating subscription rights holder must be in U.S. dollars
by money order, check or bank draft drawn on a bank or branch located in the
U.S. and payable to [●]. Payment also may be made by wire transfer
to [●], with reference to the subscription rights holder’s
name. The subscription agent will deposit all funds received by it
prior to the final payment date into a segregated account pending pro-ration and
distribution of the shares.
The
method of delivery of subscription rights certificates and payment of the
subscription price to us will be at the election and risk of the participating
subscription rights holders, but if sent by mail it is recommended that such
certificates and payments be sent by registered mail, properly insured, with
return receipt requested, and that a sufficient number of days be allowed to
ensure delivery to the subscription agent and clearance of payment prior to 5:00
p.m., Eastern time, on the expiration date. Because uncertified
personal checks may take at least five business days to clear, you are strongly
urged to pay, or arrange for payment, by means of certified or cashier’s check
or money order or wire transfer.
Whichever
of the methods described above is used, issuance of the shares purchased is
subject to collection of checks and actual payment.
If a
participating subscription rights holder who subscribes for shares as part of
the subscription right or over-subscription right does not make payment of any
amounts due by the expiration date, the subscription agent reserves the right to
take any or all of the following actions: (i) reallocate the shares
to other participating subscription rights holders in accordance with the
over-subscription right; (ii) apply any payment actually received by it from the
participating subscription rights holder toward the purchase of the greatest
whole number of shares which could be acquired by such participating
subscription rights holder upon exercise of the basic subscription any
over-subscription right; and/or (iii) exercise any and all other rights or
remedies to which it may be entitled, including the right to set off against
payments actually received by it with respect to such subscribed-for
shares.
All
questions concerning the timeliness, validity, form and eligibility of any
exercise of subscription rights will be determined by us, whose determinations
will be final and binding. We, in our sole discretion, may waive any
defect or irregularity, or permit a defect or irregularity to be corrected
within such time as we may determine, or reject the purported exercise of any
right. Subscriptions will not be deemed to have been received or
accepted until all irregularities have been waived or cured within such time as
we determine in our sole discretion. The subscription agent will not
be under any duty to give notification of any defect or irregularity in
connection with the submission of subscription rights certificates or incur any
liability for failure to give such notification.
56
Participating
subscription rights holders will have no right to rescind their subscription
after receipt of their payment for shares.
Delivery
of Stock Certificates
Shareholders
whose shares are held of record by Cede & Co. or by any other depository or
nominee on their behalf or on behalf of their broker, dealer, custodian bank,
trustee or other nominee will have any shares and warrants that they acquire
credited to the account of Cede & Co. or the other depository or
nominee. With respect to all other shareholders, stock certificates
for all shares of our common stock and warrants acquired will be
mailed. Any such mailing or crediting will occur as soon as
practicable after the rights offering has expired, payment for the shares of
common stock and warrants subscribed for has cleared, and all prorating
calculations and reductions contemplated by the terms of the rights offering
have been effected.
ERISA
Considerations
Retirement
plans and other tax exempt entities, including governmental plans, should also
be aware that if they borrow in order to finance their exercise of subscription
rights, they may become subject to the tax on unrelated business taxable income
under Section 511 of the Internal Revenue Code, or the Code. If any
portion of an individual retirement account is used as security for a loan, the
portion so used is also treated as distributed to the IRA
depositor. The Employee Retirement Income Security Act of 1974, as
amended, or ERISA, contains fiduciary responsibility requirements, and ERISA and
the Code contain prohibited transaction rules that may impact the exercise of
subscription rights. Due to the complexity of these rules and the
penalties for noncompliance, retirement plans should consult with their counsel
and other advisers regarding the consequences of their exercise of subscription
rights under ERISA and the Code.
Distribution
Arrangements
Source
Capital Group, Inc., the dealer-manager for this offering, is a broker-dealer
and member of FINRA. The principal business address of the
dealer-manager is [●].
Under the
terms and subject to the conditions contained in a dealer-manager agreement, the
dealer-manager will provide marketing services in connection with this offering
and will solicit the exercise of subscription rights and participation in the
over-subscription right. There is no minimum subscription amount
required for consummation of this rights offering. The dealer-manager
is not underwriting or placing any of the subscription rights or the shares of
our common stock being sold in this offering and does not make any
recommendation with respect to such subscription rights or shares (including
with respect to the exercise of such subscription rights).
Pursuant
to the dealer-manager agreement, we are obligated to pay to the dealer-manager
cash compensation equal to 8% of the gross proceeds of this offering and to
issue to the dealer-manager five-year warrants to purchase shares of common
stock representing up to 4% of the shares of common stock sold in this offering
at an exercise price equal to 125% of the subscription price per
share. Such warrants will contain a cashless exercise feature
permitting the dealer-manager to “pay” the exercise price of a portion of the
underlying shares by surrendering a portion of the underlying shares having an
“in the money” value equal to the exercise price so “paid”. In
addition, we will be obligated to indemnify the dealer-manager for, or
contribute to losses arising out of, certain liabilities, including liabilities
under the Securities Act of 1933. In accordance with FINRA Rule
5110(g), the dealer-manager has agreed that for 180 days following the effective
date of this offering, the dealer-manager will not sell, transfer, assign,
pledge or hypothecate the warrants acquired by each of them, or subject such
warrants to any hedging, short sale, derivative, put or call transaction that
would result in the effective economic disposition of such warrants, except that
such warrants may be transferred to any successor, manager or member of the
applicable dealer-manager. Under FINRA Rule 5110, such warrants are
deemed to be an item of value. In addition, we have agreed to reimburse
the dealer-manager for certain expenses, including reasonable legal expenses,
incurred in connection therewith. Pursuant to the dealer-manager
agreement, the dealer-manager will not be subject to any liability to us in
rendering the services contemplated by the dealer-manager agreement except for
any act of bad faith or gross negligence of the dealer-manager.
Source
Capital Group, Inc. may provide to us from time to time in the future in the
ordinary course of their business certain financial advisory, investment banking
and other services for which they will be entitled to receive fees.
57
MARKET
PRICE OF AND DIVIDENDS ON COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our
common stock is currently quoted on the OTC Bulletin Board under the symbol
“TKOI.” From November 13, 2009 to December 7, 2009, our common stock
was listed for trading on the pink sheets, a centralized quotation service
maintained by Pink OTC Markets Inc., under the symbol
“TKOI.PK.” Between January 1, 2008 and November 12, 2009, our common
stock was listed for trading on the NYSE AMEX LLC under the ticker symbol
“TKO.” As of February 10, 2010, the last reported sales price of our
common stock on the OTC Bulletin Board was $0.21 per share.
The
following table sets forth (1) the high and low bid prices for our common stock
for the fourth quarter of 2009 and the interim period of the first quarter of
2010 and (2) the high and low sales prices for our common stock for all other
periods indicated below. The price information represents
inter-dealer prices without retail mark-ups, mark-downs or commissions, and may
not necessarily represent actual transactions.
High
|
Low
|
|||||||
Year
Ending December 31, 2010
|
||||||||
First Quarter (January 1 –
February 10)
|
$ | 0.21 | $ | 0.14 | ||||
Year
Ended December 31, 2009
|
||||||||
First
Quarter
|
$ | 0.18 | $ | 0.07 | ||||
Second
Quarter
|
$ | 0.24 | $ | 0.08 | ||||
Third
Quarter
|
$ | 0.75 | $ | 0.09 | ||||
Fourth
Quarter
|
$ | 0.47 | $ | 0.15 | ||||
Year
Ended December 31, 2008
|
||||||||
First
Quarter
|
$ | 1.11 | $ | 0.57 | ||||
Second
Quarter
|
$ | 1.02 | $ | 0.40 | ||||
Third
Quarter
|
$ | 0.56 | $ | 0.24 | ||||
Fourth
Quarter
|
$ | 0.33 | $ | 0.10 |
Record
Holders
As of
January 31, 2010, we had 241 shareholders of record and 96,563,771 shares of our
common stock issued and outstanding.
Dividend
Policy
We have
never paid dividends on our common stock and do not anticipate paying dividends
in the foreseeable future.
58
BUSINESS
Telkonet,
Inc., formed in 1999 and incorporated under the laws of the state of Utah,
develops, manufactures and sells proprietary energy efficiency and smart grid
networking technology. Our SmartEnergy and Series 5 SmartGrid
networking technologies enable us to develop innovative clean technology
products and have helped position us as a leading clean technology
provider.
Our
Telkonet SmartEnergy and Networked Telkonet SmartEnergy energy efficiency
products incorporate our patented Recovery Time technology, allowing for the
continuous monitoring of climate conditions to automatically adjust a room’s
temperature accounting for the presence or absence of an
occupant. Our SmartEnergy products save energy while at the same time
ensuring occupant comfort and extending equipment life
expectancy. This technology is particularly attractive to our
customers in the hospitality industry, as well as the education, healthcare and
government/military markets, who are continually seeking ways to reduce costs
without impacting building occupant comfort. By reducing energy usage
automatically when a space is unoccupied, our customers can realize significant
cost savings without diminishing occupant comfort. This technology
may also be integrated with property management systems and automation systems
and used in load shedding initiatives providing management companies and
utilities enhanced opportunity for cost savings and control. Our
energy management systems are lowering HVAC costs in over 180,000 rooms and
qualify for numerous state and federal energy efficiency and rebate
programs.
Our
Series 5 SmartGrid networking technology allows commercial and consumer users to
connect computers to a communications network using the existing low voltage
building electrical grid. The Telkonet Series 5
SmartGrid networking technology uses powerline communications, or PLC,
technology to transform a site’s existing internal electrical infrastructure
into a communications backbone. Operating at 200 Mbps, our PLC
platform offers a secure alternative in grid communications, transforming a
traditional electrical distribution system into a “smart grid” that delivers
electricity in a manner that can save energy, reduce cost and increase
reliability.
We
leverage our relationships with utilities to market our Telkonet Series 5
SmartGrid networking technology for network control beyond the commercial and
consumer space. We believe the Telkonet Series 5 SmartGrid networking
technology provides a compelling solution for substation automation, power
generation, renewable facilities, manufacturing, and research environments, by
providing a rapidly-deployed, low cost alternative to cable or
fiber. By leveraging the existing low voltage electrical wiring
within a facility to transport data, our PLC solutions enable our customers to
deploy sensing and control systems to locations without the need for new network
wiring, and without the security risks inherent with wireless
systems.
Our
EthoStream Hospitality Network is now one of the largest hospitality HSIA
service providers in the United States, with a customer base of more than 2,300
properties representing approximately 200,000 hotel rooms. This
network provides us with the opportunity to market our energy efficiency
solutions. It also provides a marketing opportunity for our more
traditional HSIA offerings, including the Telkonet Series 5 PLC platform.
The Series 5 system offers a fast and cost effective way to deliver commercial
high-speed broadband access using a building’s existing electrical
infrastructure to convert virtually every electrical outlet into a high-speed
data port without the installation of additional wiring or major disruption of
business activity. The EthoStream Hospitality Network is backed by a 24/7
U.S.-based in-house support center that uses integrated, web-based centralized
management tools enabling proactive customer support.
We employ
direct and indirect sales channels in all areas of our business. With
a growing value-added reseller network, we continue to broaden our reach
throughout the industry. Utilizing key integrators and strategic OEM
partners, we have been able to market and sell our products in each of our
targeted market segments.
Our
direct sales efforts target the hospitality, utility, education, commercial and
government/military market segments. Taking advantage of legislation,
including the Energy Independence and Security Act of 2007, or EISA, and the
Energy Policy Act of 2005, we have focused our sales efforts in areas with
available public funding and incentives, such as rebate programs offered by
utilities to the hospitality industry. Through both our proprietary
platform and technology and partnerships with energy efficiency providers, we
intend to position our company as a leading provider of energy management
solutions.
59
Products
We
believe our energy efficiency product offering, with our patented Recovery Time
technology, delivers significant benefits over competing products,
including:
· |
Maximum
energy savings by evaluating each room’s environmental conditions,
including room location, window placement, humidity, weather conditions,
and operating efficiency of heating, ventilation and air conditioning, or
HVAC, equipment,
|
|
· |
Longer
life and reduced maintenance of HVAC units through effective equipment
monitoring,
|
|
· |
Increased
occupant comfort,
|
|
· |
Speed
and ease of installation, and
|
|
· |
Wide
range of HVAC system
compatibility.
|
Based on
these product features and capabilities, we have been awarded contracts in the
utility, military and educational industries. We believe that our
partnerships with utility rebate programs provide us with a significant
advantage over our competitors in the commercial occupancy-based energy
management market.
Our
SmartEnergy platform has been developed to maximize energy efficiency and
savings. The technology allows users to decrease heating and cooling
expenses, extend equipment life and provide greater occupant
comfort. By providing Internet-based remote control over in-room
energy management, SmartEnergy decreases the cost to operate an enterprise-wide
system by reducing the need for onsite engineering resources. In
addition, the SmartEnergy platform can be integrated with property management
systems and utility demand/response programs to recognize increased energy
efficiency.
Given the
population growth in the United States and the increasing demand for energy, we
believe additional energy-related infrastructure will be needed. We
believe the use of smart grid technologies is an affordable alternative to
building additional infrastructure because it leverages existing infrastructure,
allowing additional energy savings. While it will require investments
that are not typical for utilities, we believe the long-term savings resulting
from these investments will outweigh the costs.
We
believe we are well positioned to play a pivotal role in the development of the
smart grid. The introduction of an industrial low voltage PLC product
for use within the utility space has created a competitive alternative to
current networking options. We believe our Series 5 platform provides
a compelling solution for use in the substation, storage, renewable and
transmission and distribution environments because of its ability to utilize
existing electrical wiring within the environment.
Our
Series 5 PLC platform includes the following key features:
· |
Multiple
physical interfaces, including RS232, RS485 and Ethernet, enabling a wide
range of devices to be networked;
|
|
· |
Multiple
utility-centric protocols supported, including DNP3, Modbus and
IP;
|
|
· |
Granular
QOS support over traditional
communications;
|
|
· |
Ability
to withstand extended temperature ranges and harsh outdoor
environments;
|
|
· |
Stringent
security features;
|
|
· |
Support
for both AC and DC
applications;
|
60
· |
Significant
speed performance through the use of the Intellon AV chipset;
and
|
|
· |
Flexible
connection technology that avoids interruption of service through
inductive coupling.
|
Our
EthoStream Hospitality Network continues to enhance our position in the HSIA
space. We have established customer and vendor relationships with key
participants in the hospitality industry, including Wyndham Hospitality,
AmericInns, Carlson Hospitality, Intercontinental Hotels Group, Marcus
Hospitality, Destination Hotels and Resorts, and Worldmark by Wyndham (formerly
Trendwest Resorts).
Our
EthoStream Gateway Servers provide industry-leading HSIA technology to the
hospitality industry, with advanced features based on in-house product design
and development, including the following:
· |
Dual
ISP bandwidth aggregation for faster overall
speed;
|
|
· |
ISP
redundancy to eliminate network
downtime;
|
|
· |
Enhanced
quality of service; and
|
|
· |
Real-time
meeting room
scheduling.
|
We
maintain a U.S.-based customer support center that operates 24 hours a day,
seven days a week, and employs a dedicated, in-house support team that uses
integrated, web-based centralized management tools enabling proactive
support. We believe our customer service offerings, along with
established relationships through our vendor agreements with some of the largest
hospitality franchises, distinguish us from our competitors in the hospitality
HSIA industry.
We
believe that growth of the EthoStream Hospitality Network will be derived from
two key areas:
· |
New
customer growth within the full-service hospitality market and through
additional preferred vendor agreements with franchisors;
and
|
|
· |
Ongoing
sales to current customers through integration of additional in-room
technologies such as lighting, telephony, media centers and energy
management
products.
|
Industry
Outlook
The
National Institute of Standards and Technology, or NIST, an agency of the U.S.
Department of Commerce, has been chartered under EISA to identify and evaluate
existing standards, measurement methods, technologies and other support toward
SmartGrid adoption. The agency will also be preparing a report to
Congress recommending areas where standards need to be developed. We
believe these initiatives validate the need for our platform and
technology.
The
hospitality industry is our largest customer base with more than 2,300
properties representing approximately 200,000 hotel rooms. Through
its continued expansion, the EthoStream Hospitality Network is attracting
additional customers in the full service segment of the market. This
audience provides us with significant access to potential SmartEnergy
customers. We continue to expand our operations in this market,
providing energy management services to greater than 180,000 units overall to
date.
Our most
rapidly emerging market is the educational industry. In July 2008 we
entered into an agreement New York University under which New York University
uses our networked SmartEnergy products to centrally manage energy consumption
in its dormitories. We worked with the University to use existing
building infrastructure to remotely manage and track energy
consumption. As of February 10, 2010, our products were installed in
more than 2,200 rooms across five buildings. Our program with New
York University has enabled us to demonstrate the cost savings of using our
products in dormitories.
61
The
educational industry represents more than 2.7 million housing units according
to the U.S. Department of Education, National Center for Education
Statistics, Integrated Postsecondary Education Data System
(IPEDS). We believe that our SmartEnergy platform is an important
tool for participants in the educational industry seeking to
control student-related energy costs. We have
focused our sales efforts on members of the educational industry who are seeking
to expand their energy efficiency initiatives.
The
government and military market segments have also seen significant growth in
energy conservation and renewables development. This movement is
attributed to programs including the American Recovery and Reinvestment Act, or
ARRA, and the Energy Independence and Security Act. Our SmartEnergy
platform has been successfully incorporated into the energy management
initiatives in military housing and deployments. We have recognized
success through both our value-added reseller network and direct sales and
continue to target available public funding for energy initiatives within these
industries.
Healthcare
is an additional emerging market for energy management. We have been
working closely with operators and developers to integrate our SmartEnergy
energy management initiatives into efficiency opportunities supported by state
and federal energy programs. Offering a commercial environment
similar to the hospitality or educational housing markets, the increasing growth
of the elderly and assisted living markets presents attractive potential for
energy management. This market is expected to grow rapidly over the
next several years due to its energy saving potential.
We
believe that the utility industry is one of the fastest developing market
segments in the United States. With more than $4.5 billion being
released to the industry through the American Reinvestment and Recovery Act of
2009 for SmartGrid
development and $414 million in investment through 2009, the utility industry
has become a growing percentage of our revenue, both through direct sales to
utilities and partnerships with energy service companies executing state and
local energy efficiency programs.
We
continue to strengthen our focus on our targeted market segments in order to
expand market share and take advantage of existing incentives for energy
management. We expect continued expansion in the space and
specifically in commercial segments due to increasing state and federal programs
promoting energy efficiency.
Competition
We currently compete primarily within
commercial and industrial markets, including hospitality, education, healthcare
and government and military. Within each market, we offer savings
through our occupancy-based energy efficiency products. Our products
offer significant competitive benefits when compared with alternative offerings
including Building Automation or Building Management Systems, or BAS or BMS,
static temperature occupancy-based systems and high-efficiency HVAC
systems.
We
participate in a relatively small competitive field in the hospitality industry,
with the majority of the energy management sales handled by fewer than seven
manufacturers. The key competitors in the market segment are Onity,
Inc. Inncom International Inc. and Control4, with each offering comparable
products to our standalone and networked SmartEnergy
products. Telkonet SmartEnergy’s key differentiators in the
hospitality segment include:
· |
Recovery
Time technology;
|
|
· |
Networked
SmartEnergy platform;
|
|
· |
Integration
with property management
systems.
|
The
educational space is a relatively new market for occupancy-based
controls. We have introduced our SmartEnergy system for use within
student dormitories, which traditionally have been an environment for BAS or BMS
systems. Since the dormitory environment is very similar to the
hospitality market, we can offer similarly scaled energy
savings. Since the market is still in its infancy, very few
comparable offerings have entered the market but competitors within the
hospitality segment are beginning to respond. Our SmartEnergy
platform provides a significant advantage within the educational industry
through:
62
· |
Reduced
cost as compared to BMS/BAS
systems;
|
|
· |
Ease
of installation relative to traditional wired systems;
and
|
|
· |
Range
of product
compatibility.
|
The
healthcare and government/military markets are very similar in scope when
relating to energy management systems. A key differentiator in these
environments is the specific implementation that is being
considered. Each market utilizes BAS/BMS for wide scale energy
efficiency initiatives. When specifically addressing housing
environments including elderly care and assisted living environments and
military dormitories or barracks, Telkonet’s SmartEnergy platform is able to
provide increased energy savings and efficiency. Competitors
operating in the BAS/BMS space include Johnson Controls, Siemens, Trane and
others.
Telkonet’s
Series 5 SmartGrid networking products are targeted largely at the utility
industry with a particular emphasis on the substation
environment. Competitors in this space are providers of traditional
wired connectivity including fiber, coax and Cat5 and Cat6 and wireless
technologies, including cellular and wifi. Some of the specific products used
within this space include RuggedCom, AT&T and Radius.
Telkonet’s
EthoStream Hospitality Network competes with a wide variety of companies in the
hospitality industry ranging from media companies to traditional HSIA solution
providers. Although this industry is very widespread, according to
publicly available data, only a few providers offer HSIA services to greater
than 1000 individual hospitality properties. Those competitors
include Guest-tek, Lodgenet, iBahn and Superclick. Telkonet’s
competitive advantage in the space includes its end-to-end approach to its
service platform as well as its industry-leading hospitality HSIA gateway and
web-based control center.
Raw
Materials
While we
are dependent, in certain situations, on a limited number of vendors to provide
certain raw materials and components, we have not experienced significant
problems or issues purchasing any essential materials, parts or
components. We obtain the majority of our raw materials from the
following suppliers: Arrow Electronics, Avnet Electronics Marketing, Digi-Key
Corporation, Intellon Corporation, and Versa Technology. In addition,
Superior Manufacturing Services, a U.S. based company, provides substantially
all the manufacturing and assembly requirements for Telkonet iWire System and
ATR Manufacturing, a Chinese company, provides substantially all the
manufacturing requirements for the Telkonet SmartEnergy
products.
Customers
We are
neither limited to, nor reliant upon, a single or narrowly segmented consumer
base from which we derive our revenues. Our current primary focus is in
the hospitality, commercial, education, utility, healthcare and
government/military markets and expanding into the consumer market.
For the
nine months ended September 30, 2009, revenue from one major customer
approximated $839,000, or 10%, of our total revenues. Revenue from
three major customers approximated $6,782,000, or 51%, of our total revenues for
the nine months ended September 30, 2008. Continual recurring revenue
distributed across a network of greater than 2,300 customers approximated
$2,982,000 for the nine months ended September 30, 2009.
Revenue
from two major customers approximated $6,375,000, or 39%, of total revenues
for the year ending December 31, 2008. Revenue from one major
customer approximated $1,437,000, or 13%, of total revenues for the year ending
December 31, 2007.
63
Intellectual Property
We
acquired certain intellectual property in the SSI acquisition, including, but
not limited to, Patent No: 5,395,042, titled “Apparatus and Method for automatic
climate control,” and Patent No. D569,279, titled “Thermostat. Patent No:
5,395,042 which was issued by the United States Patent Trademark Office in
March, 1995. This invention calculates and records the amount of time
needed for the thermostat to return the room temperature to the occupant’s set
point once a person re-enters the room. Patent No. D569,279 issued by the
United States Patent and Trademark Office in May, 2008 was granted on the
ornamental design of a thermostat device.
We have
also applied for patents that cover the unique technology integrated into the
Telkonet iWire SystemTM and Series 5 product suite. We also continue
to identify, design and develop enhancements to our core technologies that will
provide additional functionality, diversification of application and
desirability for current and future users of the Telkonet iWire System and
Series 5 product suite.
In
December 2003, we received approval from the U.S. Patent and Trademark Office
for our “Method and Apparatus for Providing Telephonic Communication Services”
Patent No.: 6,668,058. This invention covers the utilization of an
electrical power grid, for a concentration of electrical power consumers, and
use of existing consumer power lines to provide for a worldwide voice and data
telephony exchange.
In
December 2005, the United States Patent and Trademark Office issued Patent
No: 6,975,212 titled “Method and Apparatus for Attaching Power Line
Communications to Customer Premises”. The patent covers the method
and apparatus for modifying a three-phase power distribution network in a
building in order to provide data communications by using a PLC signal to an
electrical central location point of the power distribution
system. Telkonet’s Coupler technology enables the conversion of
electrical outlets into high-speed data ports without costly installation,
additional wiring, or significant disruption of business
activity. The Coupler is an integral component of the Telkonet iWire
SystemTM and Series 5 product suites.
In August
2006, the United States Patent and Trademark Office issued Patent No: 7,091,831,
titled “Method and Apparatus for Attaching Power Line Communications to Customer
Premises.” The patented technology incorporates a safety disconnect
circuit breaker into the Telkonet Coupler, creating a single streamlined unit.
In doing so, installation of the Telkonet iWire System is faster,
more efficient, and more economical than with separate disconnect switches,
delivering optimal signal quality. The Telkonet Integrated Coupler
Breaker patent covers the unique technique used for interfacing and coupling its
communication devices onto the three-phase electrical systems that are
predominant in commercial buildings.
In
January 2007, the United States Patent and Trademark Office issued Patent No:
7,170,395 titled “Methods and Apparatus for Attaching Power Line Communications
to Customer Premises” for Delta phase power distribution system applications,
which are prevalent in the maritime industry, shipboard systems, along with that
of heavy industrial plants and facilities.
In
addition, we currently have multiple patent applications under examination, and
intend to file additional patent applications covering a wide range of
technologies, including that of improved network topologies and techniques for
imposing LANs over existing wired infrastructure.
There can
be no assurance that any of our current or future patent applications will be
granted, or, if granted, that such patents will provide necessary protection for
our technology or our product offerings, or be of commercial benefit to
us.
Government
Regulation
We are
subject to regulation in the United States by the Federal Communications
Commission, or FCC. FCC rules permit the operation of unlicensed
digital devices that radiate radio frequency emissions if the manufacturer
complies with certain equipment authorization procedures, technical
requirements, marketing restrictions and product labeling
requirements.
64
In
January 2003, we received FCC approval to market the Telkonet iWire
System product suite. FCC rules permit the operation of unlicensed digital
devices that radiate radio frequency emissions if the manufacturer complies with
certain equipment authorization procedures, technical requirements, marketing
restrictions and product labeling requirements. An independent,
FCC-certified testing lab has verified our Gateway complies with the FCC
technical requirements for Class A digital devices. No further
testing of this device is required and the device may be manufactured and
marketed for commercial use.
In
March 2005, we received final certification of our Telkonet iWire
System product suite from European Union, or EU, authorities, which
certification was required before we could sell and permanently install the
Telkonet iWire System in EU countries. As a result of the certification, the
Telkonet iWire System™ that will be sold and installed in EU countries
will bear the Conformite Europeen (CE) mark, a symbol that demonstrates that the
product has met the EU’s regulatory standards and is approved for sale within
the EU.
In
June 2005, we received the National Institute of Standards and
Technology Federal Information Processing Standard, or FIPS, 140-2
validation for the Gateway. In July 2005, we received FIPS 140-2
validation for the eXtender and iBridge. The U.S. federal government
requires, as a condition to purchasing certain information processing
applications, that such applications receive FIPS 140-2
validation. U.S. federal agencies use FIPS 140-2 compliant products
for the protection of sensitive information. As a result of the
foregoing validations, as of July 2005, all of our powerline carrier
products have satisfied all governmental requirements for security certification
and are eligible for purchase by the U.S. federal government. In
addition to the foregoing, Canadian provincial authorities use FIPS 140-2
compliant products for the protection of sensitive designate
information. The Communications-Electronics Security Group, or
CESG, also has stated that FIPS 140-2 compliant products meet its security
criteria for use in data traffic categorized as “Private.” CESG is
part of the United Kingdom’s National Technical Authority for Information
Assurance, which is a government agency responsible for validating the security
of information processing applications for the government of the United Kingdom,
financial institutions, healthcare organizations, and international governments,
among others.
In
November 2005, we received the Norma Official Mexicana certification,
enabling us to sell the iWire System product suite in Mexico.
Future
products designed by us will require testing for compliance with FCC and CE
compliance. Moreover, if in the future, the FCC or EU changes its
technical requirements, further testing and/or modifications may be necessary in
order to achieve compliance.
Research
& Development
During
the nine months ended September 30, 2009 and the year ended December 31, 2008,
we spent $761,950 and $2,036,129 respectively, on research and development
activities. In 2009 and 2008, research and development activities
were largely focused on the development of Telkonet’s SmartEnergy technology,
first integrating mesh networking technologies for remote access and control
over the product as well as a comprehensive web-based platform for
control, monitoring and management. The primary focus for development
within the EthoStream Hospitality Network was related to features required by
full-service hospitality customers including enhanced Dual-WAN support, idle
user checking for increased property cross-marketing, and integration with
external systems to allow payment, authentication, or quality of service
differentiation among customers. Advancements in our Series 5 product line
include the introduction of a low-cost CPE device to expand the potential
customer base, advancements in coupling technology that allow customers to
install Series 5 without disconnecting power and development of a new DIN-rail
style mounting bracket to ease installation in utility substations.
65
Other Information
Employees
As of
February 1, 2010, we had 92 full-time employees. We intend to hire
additional personnel to meet future operating requirements, when and if our
financial resources permit. We anticipate that we may need to hire additional
staff in the areas of customer support, field services, engineering, sales and
marketing, and administration.
Environmental
Matters
We do not
anticipate any material effect on our capital expenditures, earnings or
competitive position due to compliance with government regulations involving
environmental matters.
Properties
We lease
12,000 square feet of commercial office space, storage and manufacturing in
Milwaukee, Wisconsin as our corporate headquarters for a monthly rental of
$17,289. The Milwaukee lease expires in February
2019. In connection with our restructuring, we are in the
process of relocating our personnel from Germantown, Maryland to
Milwaukee.
We also
presently lease 16,400 square feet of commercial office space in Germantown,
Maryland for a monthly rental of $18,327. This lease expires in
December 2015. As a result of our relocation to Milwaukee, we are actively
looking to sublease all or a portion of the Germantown space for the balance of
the lease term.
Legal
Proceedings
Linksmart
Wireless Technology, LLC v. T-Mobile USA, Inc., et al,
On July
1, 2008, Linksmart Wireless Technology, LLC, or Linksmart, filed a civil lawsuit
in the Eastern District of Texas against EthoStream, LLC, our wholly-owned
subsidiary and 22 other defendants (Linksmart Wireless Technology, LLC
v. T-Mobile USA, Inc., et al, U.S. District Court, for the Eastern
District of Texas, Marshall Division, No.2:08-cv-00264-TJW-CE). This
lawsuit alleges that the defendants’ services infringe a wireless network
security patent held by Linksmart. Linksmart seeks a permanent injunction
enjoining the defendants from infringing, inducing the infringement of, or
contributing to the infringement of its patent, an award of damages and
attorney’s fees.
On August
1, 2008, we timely filed an answer to the complaint denying the allegations. On
February 27, 2009, the United States Patent Office ("USPTO") granted a
reexamination request. Based upon four highly relevant and material
prior art references that had not been considered by the USPTO in its initial
examination, it found a “substantial new question of patentability” affecting
all claims of the patent allegedly infringed upon. There is a
possibility that the claims of the patent will be cancelled or narrowed during
the reexamination which may result in the narrowing or elimination of some and
possibly all of the issues in the pending litigation. The case is
currently in discovery. A mandatory mediation will likely be held in
February or March, 2010.
Defendant
Ramada Worldwide, Inc. provided us with notice of the suit and demanded that we
defend and indemnify it pursuant to a vendor direct supplier agreement between
EthoStream and WWC Supplier Services, Inc., a Ramada affiliate (wherein we
agreed to indemnify, defend and hold Ramada harmless from and against claims of
infringement). After a review of that agreement, it was determined
that Ethostream owes the duty to defend and indemnify and it has assumed
Ramada’s defense. An answer on Ramada’s behalf was filed in U.S.
District Court, for the Eastern District of Texas, Marshall Division on
September 19, 2008. The matter is currently pending in that court.
Ronald Pickett v. Telkonet,
Inc.
On April
29, 2009, Ronald Pickett, our former chief executive officer, filed a lawsuit
against us (Ronald Pickett v.
Telkonet, Inc.), in the Circuit Court for Montgomery County, Maryland,
Case No. 312683V, alleging that he is owed $258,053 in unpaid severance
compensation and benefits and $63,000 in unpaid business and travel expenses and
seeking an award of treble damages on the severance claim alleging that the
claimed benefits constitute “wages” under the Maryland Wage Payment and
Collection Act. On August 31, 2009, we filed a motion to
dismiss the action for failure to state a claim. However, the court
rejected our arguments, finding that Mr. Pickett had satisfied the minimum
pleading requirements. The matter is currently in discovery, which is
scheduled to conclude by March 11, 2010. A settlement/pretrial
hearing is set for March 26, 2010 in the Circuit Court.
66
The
following table sets forth certain information with respect to our directors and
executive officers as of February 12, 2010:
Name
|
Age
|
Position
|
||
Jason
L. Tienor
|
35
|
President
and Chief Executive Officer and Director
|
||
Richard
J. Leimbach
|
41
|
Chief
Financial Officer
|
||
Jeffrey
J. Sobieski
|
33
|
Chief
Operating Officer
|
||
Warren
V. Musser
|
83
|
Director
|
||
Anthony
Paoni
|
65
|
Chairman
of the Board (1)(2)
|
||
Thomas
C. Lynch
|
67
|
Director
(1)(2)
|
_____________________________
(1)
Member of the Audit Committee
(2)
Member of the Compensation Committee
Jason L.
Tienor has served as our President and Chief Executive Officer since
December 2007 and, from August 2007 until December 2007, he served as our Chief
Operating Officer. In November 2009, he was appointed by our Board of
Directors to fill the vacancy created by the resignation of Seth D. Blumenfeld
as a director. Mr. Tienor has also served as Chief Executive Officer
of EthoStream, LLC, our wholly-owned subsidiary, since March
2007. From 2002 until his employment with us, Mr. Tienor served as
Chief Executive Officer of EthoStream, LLC, the company that he co-founded. Mr.
Tienor received a bachelor of business administration in management information
systems and marketing from the University of Wisconsin – Oshkosh and a masters
of business administration with an emphasis on computer science from Marquette
University.
Richard J.
Leimbach has
served as our Chief Financial Officer since December 2007 and, from June 2006
until December 2007, he served as the Vice President of Finance. He also served
as our Controller from January 2004 until June 2006. Mr. Leimbach is
a certified public accountant with over fifteen years of public accounting and
private industry experience. Prior to joining us, Mr. Leimbach was the
Controller with Ultrabridge, Inc., an applications solution provider. Mr.
Leimbach also served as Corporate Accounting Manager for Snyder Communications,
Inc., a global provider of integrated marketing solutions.
Jeffrey J.
Sobieski was named our Chief Operating Officer in June
2008. Prior to this appointment, Mr. Sobieski served as our Executive
Vice President, Energy Management since December 2007 and from March 2007 until
December 2007, he served as Chief Information Officer of EthoStream, LLC, our
wholly-owned subsidiary. From 2002 until his employment with us, Mr.
Sobieski served as Chief Information Officer of EthoStream, LLC, the company he
co-founded. Mr. Sobieski is also the co-founder of Interactive
Solutions, a consulting firm providing support to the Insurance and
Telecommunications Industries.
Anthony J.
Paoni has
served as a director since April 2007. Professor Paoni was elected Chairman of
the Board following Warren V. Musser’s resignation from that position in
November 2009. He has been a faculty member at Northwestern University’s Kellogg
School of Management since 1996. Previously, he spent 28 years in the
information technology industry with market leading organizations that provided
computer hardware, software and consulting services. For the first 15
years of his career, Professor Paoni managed sales and marketing organizations
and in the later stages of his career he moved into general management positions
starting with PANSOPHIC Systems Incorporated. This Lisle, Illinois
based firm was the world’s fifth largest international software company prior to
its acquisition by Computer Associates, Incorporated. Subsequently,
he became chief operating officer of Cross Access, a venture capital funded
software firm that provided industry-leading solutions to the heterogeneous
database connectivity market segment. In addition, he has been president of two
wholly-owned U.S. subsidiaries of Ricardo Consulting, a U.K.-based international
engineering consulting firm focused on computer based automotive powertrain
design. Prior to joining the Kellogg faculty, Professor Paoni was chief
executive officer of Eolas, an Internet software company with patent pending Web
technology that was one of the key technology drivers responsible for the rapid
adoption of the Internet platform.
67
Warren V.
Musser has
served as a director since January 2003 and most recently served as Chairman of
the Board until his resignation from that position in November 2009. He has
taken over 50 companies public during his distinguished and successful career as
an entrepreneur. He is the founder and Chairman Emeritus of Safeguard
Scientifics, Inc. (a high-tech venture capital company, formerly Safeguard
Industries, Inc.). Since January 2003, Mr. Musser has been
the President and CEO of The Musser Group (a business consulting
firm). In addition, Mr. Musser is Chairman of InfoLogix, Inc. (a
provider of enterprise mobility solutions for the healthcare and commercial
industries), a Director of Internet Capital Group, Inc. (a
business-to-business venture capital company), NutriSystem, Inc. (a weight
management company) and Health Benefits Direct Corp. (a direct marketing/sales
company of health/life insurance). Mr. Musser serves on a variety of
civic, educational and charitable boards of directors, and serves
as Chairman of the Eastern Technology Council, Economics PA, and
Vice President of Development of Cradle of Liberty Council, Boy Scouts
of America.
Thomas C. Lynch
has served as a director since October 2003. Mr. Lynch is a
Managing Partner of Jones Lang LaSalle (prior to the merger between Jones Lang
LaSalle and The Staubach Company, Mr. Lynch served as Senior Vice President of
The Staubach Company, a real estate management and advisory services firm) in
the Washington, D.C. area. Mr. Lynch joined The Staubach Company
in November 2001 after six years as Senior Vice President at Safeguard
Scientifics, Inc. (NYSE: SFE) (a high-tech venture capital company). While at
Safeguard, he served nearly two years as President and Chief Operating Officer
at CompuCom Systems, a Safeguard subsidiary. After a 31-year career
of naval service, Mr. Lynch retired in the rank of Rear
Admiral. Mr. Lynch’s naval service included Chief, Navy
Legislative Affairs, command of the Eisenhower Battle Group during Operation
Desert Shield, Superintendent of the United States Naval Academy from 1991 to
1994 and Director of the Navy Staff in the Pentagon from 1994 to
1995. Mr. Lynch presently serves as a Director of Armed
Forces Benefit Association, Mikros Systems, Buckeye Insurance Company and
Epitome Systems.
68
EXECUTIVE
COMPENSATION
The
following table sets forth certain information with respect to compensation for
services in all capacities for the years ended December 31, 2009 and 2008
paid to our Chief Executive Officer (principal executive officer) and the two
other most highly compensated executive officers who were serving as such as of
December 31, 2009.
Summary
Compensation Table
Name
and Principal Position
|
Year
|
Salary
($)
|
Bonus
($)
|
Option
Awards
($)(1)(2)
|
All
Other Compensation
($)(6)
|
Total
($)
|
||||||
Jason
L. Tienor
|
2009
|
$200,770
(3)
|
$0
|
$0
|
$8,400
|
$209,170
|
||||||
President
and Chief
|
2008
|
$194,421
(3)
|
$0
|
$0
|
$7,431
|
$201,852
|
||||||
Executive
Officer
|
||||||||||||
Richard.
J. Leimbach
|
2009
|
$190,731
(4)
|
$0
|
$0
|
$0
|
$190,731
|
||||||
Chief
Financial Officer
|
2008
|
$180,039
(4)
|
$0
|
$0
|
$0
|
$180,039
|
||||||
Jeffrey
J. Sobieski
|
2009
|
$190,731
(5)
|
$0
|
$0
|
$8,400
|
$190,731
|
||||||
Chief
Operating Officer
|
2008
|
$186,421
(5)
|
$0
|
$31,180
|
$7,431
|
$225,032
|
_____________________________
(1)
|
Amounts
reflect the compensation cost associated with stock option grants,
calculated in accordance with ASC 718 (formerly SFAS 123R) and using a
Black-Scholes valuation method.
|
(2)
|
In
2008, the following assumptions were used to determine the fair value of
stock option awards granted: historical volatility of 74%, expected option
life of 5.0 years and a risk-free interest rate of
3.0%.
|
(3)
|
Includes
accrued and unpaid salary to Jason Tienor for the years ended December 31,
2008 and 2009 of $10,687 and $2,375,
respectively.
|
(4)
|
Includes
accrued and unpaid salary to Richard Leimbach for the years ended December
31, 2008 and 2009 of $9,744 and $15,124,
respectively.
|
(5)
|
Includes
accrued and unpaid salary to Jeffrey Sobieski for the years ended December
31, 2008 and 2009 of $10,175 and $1,453, respectively.
|
(6) | Other compensation represents monthly car allowance paid to certain Telkonet executives. |
Employment
Agreements
Jason L.
Tienor, President and Chief Executive Officer, is employed pursuant to an
employment agreement with us dated March 15, 2007. Mr. Tienor’s
employment agreement has a term of three years, which may be extended by mutual
agreement of the parties thereto, and provides, among other things, for an
annual base salary of $148,000 per year and bonuses and benefits based on our
internal policies and participation in our incentive and benefit
plans. Additional terms of the employment agreement are described
under "Potential Payments upon Termination or Change in Control"
below. On August 20, 2007, Mr. Tienor’s annual salary was increased
to $200,000.
Jeffrey
J. Sobieski, Chief Operating Officer, is employed pursuant to an employment
agreement with us dated March 15, 2007. Mr. Sobieski’s employment
agreement has a term of three years, which may be extended by mutual agreement
of the parties thereto, and provides for a base salary of $148,000 per year and
bonuses and benefits based upon our internal policies and participation in our
incentive and benefit plans. Additional terms of the employment
agreement are described under "Potential Payments upon Termination or Change in
Control" below. On December 11, 2007, Mr. Sobieski’s salary was
increased to $190,000.
In addition, to the foregoing, stock
options are periodically granted to our executive officers under our Amended and
Restated Stock Option Plan, or the Plan, at the discretion of the Compensation
Committee of the Board of Directors. Executives are eligible to
receive stock option grants, based upon individual performance and the
performance of the company as a whole.
69
Retirement,
Health and Welfare Benefits
We offer
a variety of health and welfare and retirement programs to all eligible
employees. Our executive officers listed in the Summary Compensation Table
above, or our Named Executive Officers, generally are eligible for the same
benefit programs on the same basis as the rest of the broad-based
employees. Our health and welfare programs include medical, dental,
vision, life, accidental death and disability, and short and long-term
disability insurance. In addition to the foregoing, our Named
Executive Officers, are eligible to participate in our 401(k) Retirement Savings
Plan or the Telkonet 401(k). All of our employees are eligible to
participate in the Telkonet 401(k) upon the completion of six months of
employment, subject to minimum age requirements. Contributions by
employees under the Telkonet 401(k) are immediately vested and each employee is
eligible for distributions upon retirement, death or disability or termination
of employment. Depending upon the circumstances, these payments may
be made in installments or in a single lump sum.
Grant
of Plan Based Awards
No stock
options were granted in the fiscal year ended December 31, 2009.
Outstanding
Equity Awards at Fiscal Year-End Table
The
following table shows outstanding stock option awards classified as exercisable
and unexercisable as of December 31, 2009 for the Named Executive
Officers.
Option
Awards
|
||||||||||
Name
|
Number
of Securities Underlying Unexercised Options (#)
Exerciseable
|
Number
of Securities Underlying Unexercised Options (#)
Unexerciseable
|
Equity
Incentive Plan Awards: Number of Securities Underlying Unexercised
Unearned Options
|
Option
Exercise Price
($)
|
Option
Expiration
Date
|
|||||
Jason
L. Tienor
|
50,000
|
50,000(1)
|
0
|
$1.80
|
4/24/2012
(4)
|
|||||
Richard.
J. Leimbach
|
87,500
|
0
|
0
|
(3)
|
4/24/2012
(4)
|
|||||
Jeffrey
J. Sobieski
|
20,000
|
30,000(2)
|
0
|
$1.00
|
4/24/2012
(4)
|
_____________________________
(1)
|
Mr.
Tienor’s options were granted on August 10, 2007 and vest ratably on a
quarterly basis over a five year
period.
|
(2)
|
Mr.
Sobieski’s options were granted on February 19, 2008 and vest ratably on a
quarterly basis over a five year
period.
|
(3)
|
Includes
37,500 vested options exercisable at $2.59 per share, and 50,000 vested
options exercisable at $5.08 per
share.
|
(4)
|
All
options granted in accordance with the Plan have an outstanding term equal
to the shorter of ten years, or the expiration of the Plan. The
Plan expires on April 24, 2012.
|
(5)
|
This
table does not include disclosure of outstanding warrants held by any of
our Named Executive Officers.
|
Potential
Payments upon Termination
Each of
Mr. Tienor’s and Mr. Sobieski’s employment agreements obligate us to continue to
pay each executive’s base salary and provide continued participation in employee
benefit plans for the duration of the term of their employment agreements in the
event such executive is terminated without “cause” by us or if the executive
terminates his employment for “good reason.” “Cause” is defined as
the occurrence of any of the following: (i) theft, fraud, embezzlement, or any
other act of dishonesty by the executive; (ii) any material breach by the
executive of any provision of the employment agreement which breach is not cured
within a reasonable time (but not to exceed thirty (30) days after written
notification thereof to the executive by us); (iii) any habitual neglect of duty
or misconduct of the executive in discharging any of his duties and
responsibilities under the employment agreement after a written demand for
performance was delivered to the executive that specifically identified the
manner in which the board believed the executive had failed to discharge his
duties and responsibilities, and the executive failed to resume substantial
performance of such duties and responsibilities on a continuous basis
immediately following such demand; (iv) commission by the executive of a felony
or any offense involving moral turpitude; or (v) any default of the executive’s
obligations under the employment agreement, or any failure or refusal of the
executive to comply with our policies, rules and regulations generally
applicable to our employees, which default, failure or refusal is not cured
within a reasonable time (but not to exceed thirty (30) days) after written
notification thereof to the executive by us. If cause exists for
termination, the executive shall be entitled to no further compensation, except
for accrued leave and vacation and except as may be required by applicable
law. “Good reason” is defined as the occurrence of any of the
following: (i) any material adverse reduction in the scope of the executive’s
authority or responsibilities; (ii) any reduction in the amount of the
executive’s compensation or participation in any employee benefits; or (iii) the
executive’s principal place of employment is actually or constructively moved to
any office or other location 50 miles or more outside of Milwaukee,
Wisconsin.
70
In the
event we fail to renew the employment agreements upon expiration of the term,
then we shall continue to pay the executive's base salary and provide the
executive with continued participation in each employee benefit plan in which
the executive participated immediately prior to expiration of the term for a
period of three months following expiration of the term. Each of
Messrs. Tienor and Sobieski have agreed not to compete with us or solicit
any of our employees for a period of one year following expiration or earlier
termination of the employment agreements. Assuming Mr. Tienor’s and
Mr. Sobieski’s employment agreements were terminated as of December 31, 2009,
the total estimated compensation that would have been paid under these
agreements would be $78,188 in the aggregate.
Directors’
Compensation
We
reimburse non-management directors for costs and expenses in connection with
their attendance and participation at Board of Directors meetings and for other
travel expenses incurred on our behalf. We compensate each
non-management director at a rate of $4,000 per month, 10,000 vested stock
options per quarter and $1,000 for each committee meeting of the Board of
Directors such director attends.
In
addition to the non-management directors compensation plan described above, Mr.
Paoni is compensated in the amount of $4,000 per month, pursuant to a consulting
agreement.
Until his
resignation as Chairman of the Board of Directors in November 2009,
Mr. Musser was compensated $8,333 per month (consisting of monthly payments
in the amount of $4,000, which payments were consistent with the monthly
payments made to the other non-management directors, and $4,333 per month, which
payments were in lieu of the 10,000 vested stock options per quarter and $1,000
for each committee meeting that the other non-management directors
receive). Payments to Mr. Musser for Board services were made to
The Musser Group pursuant to a September 2003 consulting
agreement. Mr. Musser is the sole principal and owner of The Musser
Group.
The
following table summarizes all compensation paid to our directors in the year
ended December 31, 2009.
Name
|
Fees
Earned or
Paid
in Cash
($)
(6)
|
Stock
Awards
($)
|
Option
Awards ($)(1)
|
Non-Equity
Incentive Plan Compensation
($)
|
Change
in Pension Value and Nonqualified Deferred Compensation
Earnings
|
All
Other
Compensation
($)
|
Total
($)
|
Warren
V. Musser
|
$48,000
|
$0
|
$0
|
$0
|
$0
|
$52,000(2)
|
$100,000
|
Thomas
M. Hall (4)
|
$48,000
|
$0
|
$12,196
(3)
|
$0
|
$0
|
$0
|
$60,196
|
Thomas
C. Lynch
|
$48,000
|
$0
|
$12,196
(3)
|
$0
|
$0
|
$0
|
$60,196
|
Seth
D. Blumenfeld (5)
|
$48,000
|
$0
|
$12,196
(3)
|
$0
|
$0
|
$0
|
$60,196
|
Anthony
J. Paoni
|
$48,000
|
$0
|
$12,196
(3)
|
$0
|
$0
|
$48,000(7)
|
$108,196
|
(1)
|
Amounts
reflect the compensation cost associated with stock option grants,
calculated in accordance with ASC 718 (formerly SFAS 123R) and using a
Black-Scholes valuation method.
|
(2)
|
Fees
for director services performed by Mr. Musser and paid to the Musser Group
pursuant to a September 2003 consulting
agreement.
|
(3)
|
Stock
options granted pursuant to the 2009 non-management director compensation
plan. The following assumptions were used to determine the fair
value of stock option awards: historical volatility of 81%, expected
option life of 5.0 years and a risk-free interest rate of
3.5%.
|
(4)
|
Mr.
Hall resigned from our Board of Directors on November 13,
2009.
|
(5)
|
Mr.
Blumenfeld resigned from our Board of Directors on November 16,
2009.
|
(6)
(7)
|
Compensation
earned by non-employee directors for services rendered during 2009 was
accrued and unpaid as of December 31, 2009.
Fees for consulting services performed by Mr. Paoni in
2009.
|
71
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The
following table sets forth, as of February 12, 2010, the number of shares of our
common stock beneficially owned by each of our directors and executive officers,
by all directors and executive officers as a group, and by each person known by
us to own beneficially more than 5% of our outstanding common
stock.
Amount and Nature of Beneficial Ownership
|
||||||||
Name and Address (1)
|
Number of Shares (2)
|
Percentage of Class
|
||||||
Directors
and Executive Officers
|
||||||||
Jason
L. Tienor, President, Chief Executive Officer and Director
|
837,203(3)
|
*
|
||||||
Richard
J. Leimbach, Chief Financial Officer
20374
Seneca Meadows Parkway
Germantown,
MD 20876
|
481,200(4)
|
*
|
||||||
Jeffrey
J. Sobieski, Chief Operating Officer
|
807,203(5)
|
*
|
||||||
Anthony
J. Paoni, Chairman
|
226,750(6)
|
*
|
||||||
Warren
V. Musser, Director
|
2,000,000(7)
|
1.9
|
%
|
|||||
Thomas
C. Lynch, Director
|
250,000(8)
|
*
|
||||||
All
Directors and Executive Officers as a group (six persons)
|
4,602,356
|
4.4
|
%
|
* Less
than one percent (1%).
(1)
|
Unless
otherwise indicated, the address of each named holder is in care of
Telkonet, Inc., 10200 Innovation Drive, Suite 300, Milwaukee,
Wisconsin 53226.
|
(2)
|
According
to Securities and Exchange Commission rules, beneficial ownership includes
shares as to which the individual or entity has voting power or investment
power and any shares, which the individual or entity has the right to
acquire within 60 days of the date of this table through the exercise
of any stock option or other right.
|
(3)
|
Includes
701,803 shares of our common stock, options exercisable within 60 days to
purchase 50,000 shares of our common stock at $1.80 per share, and Series
A convertible redeemable preferred stock and warrants convertible into
85,400 shares of our common stock.
|
(4)
|
Includes
351,000 shares of our common stock, options exercisable within 60 days to
purchase 37,500 and 50,000 shares of our common stock at $2.59 and $5.08
per share, respectively, and Series A convertible redeemable preferred
stock and warrants convertible into 42,700 shares of our common
stock.
|
(5)
|
Includes
701,803 shares of our common stock, options exercisable within 60 days to
purchase 12,500 shares of our common stock at $1.00 per share, and Series
A convertible redeemable preferred stock and warrants convertible into
85,400 shares of our common stock.
|
(6)
|
Includes
options exercisable within 60 days to purchase 80,000 and 40,000 shares of
our common stock at $1.00 and $2.30 per share, and Series A convertible
redeemable preferred stock and warrants convertible into 106,750 shares of
our common stock.
|
(7)
|
Includes
options exercisable within 60 days to purchase 2,000,000 shares of our
common stock at $1.00 per share.
|
(8)
|
Includes
options exercisable within 60 days to purchase 80,000, 20,000, 70,000 and
80,000 shares of our common stock at $1.00, $2.00, $2.66 and $3.45 per
share, respectively.
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72
CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS
Description
of Related Party Transactions
Several
of our officers and directors participated in our November 2009 private
placement of Series A convertible redeemable preferred stock and
warrants. On November 16, 2009, we entered into an Executive Officer
Reimbursement Agreement with each of Messrs. Tienor, Sobieski and Leimbach, our
Chief Executive Officer, Chief Operating Officer and Chief Financial Officer,
respectively, pursuant to which these executive officers participated in the
private placement by converting a portion of our outstanding indebtedness owed
to them into shares of Series A convertible redeemable preferred stock and
warrants to purchase shares of our common stock. Mr. Tienor converted
$20,000 of outstanding indebtedness into four shares of Series A
convertible redeemable preferred stock (convertible into 55,096 shares of common
stock) and warrants to purchase 30,304 shares of common stock; Mr. Leimbach
converted $10,000 of outstanding indebtedness into two shares of Series A
convertible redeemable preferred stock (convertible into 27,548 shares of common
stock) and warrants to purchase 15,152 shares of common stock; and Mr. Sobieski
converted $20,000 of outstanding indebtedness into four shares of Series A
convertible redeemable preferred stock (convertible into 55,096 shares of common
stock) and warrants to purchase 30,304 shares of common
stock. Anthony Paoni, Chairman of our Board of Directors, also
participated in the private placement, purchasing five shares of Series A
convertible redeemable preferred stock (convertible into 68,870 shares of common
stock) and warrants to purchase 37,880 shares of common stock, for an aggregate
purchase price of $25,000.
Director
Independence
The Board
of Directors has determined that Dr. Hall and Messrs. Lynch and Paoni are
“independent” under the listing standards of the NYSE AMEX. Each of
Dr. Hall and Messrs. Lynch and Paoni serve on, and are the only members of, the
Company’s Audit Committee and Compensation Committee. Although the
Company does not maintain a standing Nominating Committee, nominees for election
as directors are considered and nominated by a majority of the Company’s
independent directors in accordance with the NYSE AMEX listing standards.
“Independence” for these purposes is determined in accordance with Section
121(A) of the NYSE AMEX Rules and Rule 10A-3 under the Securities Exchange Act
of 1934.
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DESCRIPTION
OF SECURITIES
Description
of Our Common Stock
Our
common stock is quoted on the OTC Bulletin Board under the symbol
“TKOI.” The holders of our common stock are entitled to receive
dividends when, as and if declared by the board of directors and paid by us out
of funds legally available therefore and to share ratably in our assets
available for distribution after the payment of all prior claims in the event we
liquidate, dissolve or wind-up our business, and after payment to any holders of
any of our preferred stock. Holders of our common stock are entitled
to one vote per share on all matters requiring a vote of
stockholders. Our common stock does not have cumulative voting
rights. The rights of the holders of our common stock will be subject
to any preferential rights of any class or series of our preferred stock that we
might issue. Holders of our common stock have no preemptive or other
subscription rights, and there are no conversion, redemption or sinking fund
provisions applicable to our common stock. As of January 31, 2010,
96,563,771 shares of our common stock were issued and outstanding.
Transfer
Agent and Registrar
The
transfer agent and registrar for our common stock is StockTrans, Inc. and its
telephone number is (610) 649-7300.
Listing
Our
common stock is listed on the OTC Bulletin Board under the symbol
“TKOI.”
Description
of our Series A Convertible Redeemable Preferred Stock
A total
of 215 shares of our authorized and unissued preferred stock have been
designated as Series A convertible redeemable preferred stock and are issued and
outstanding as of January 31, 2010. The Series A convertible
redeemable preferred stock, with respect to dividend rights and rights upon our
liquidation, dissolution or winding up, ranks senior to our common
stock. The following summary of the material terms and provisions of
the Series A convertible redeemable preferred stock is qualified in its entirety
by reference to our articles of amendment of our amended and restated articles
of incorporation, which designates the Series A convertible redeemable preferred
stock.
Dividends
Dividends
on the Series A convertible redeemable preferred stock accrue from November 18,
2009, which we sometimes refer to as the Series A original issue date, at the
annual rate of 8% of the purchase price ($5,000 per share) (subject to
adjustment in the event of any stock dividend, stock split, combination or other
similar recapitalization with respect to the Series A convertible redeemable
preferred stock). Our dividends accrue and are
cumulative. They are payable when and as declared by the board and at
liquidation, mandatory conversion, and redemption.
No
dividends may be declared or paid on any common stock, subject to limited
exceptions, until we have paid all accrued dividends on the Series A convertible
redeemable preferred stock in cash.
Liquidation
Preference
Holders
of the Series A convertible redeemable preferred stock have a liquidation
preference of the amount per share equal to the greater of (i) $5,000 per share
plus accrued but unpaid dividends, or (ii) such amount per share as would have
been payable had all shares of Series A convertible redeemable preferred stock
been common stock in the event we voluntarily or involuntarily liquidate,
dissolve, or wind up. If our assets are not sufficient to pay the
liquidation preference of the Series A convertible redeemable preferred stock in
full, the holders of the Series A convertible redeemable preferred stock will
share pro rata in any distribution based on the relative amounts of their
respective liquidation preferences, and no distributions will be made to the
holders of common stock.
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Each of
the following events shall be considered a deemed liquidation event unless the
holders of at least 66⅔% of the outstanding shares of Series A convertible
redeemable preferred stock elect otherwise by written notice sent to us at least
10 days prior to the effective date of any such event:
a.
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a
merger, consolidation of share exchange in which we or a subsidiary is a
constituent party and we issue shares of its capital stock pursuant to
such merger or consolidation, except any such merger or consolidation
involving us or a subsidiary in which our shares of capital stock
outstanding immediately prior to such merger or consolidation continue to
represent, or are converted into or exchanged for shares of capital stock
that represent, immediately following such merger or consolidation, at
least a majority, by voting power, of the capital stock of (1) the
surviving or resulting company or (2) if the surviving or resulting
company is a wholly owned subsidiary of another company immediately
following such merger or consolidation, the parent company of such
surviving or resulting company (provided that, all shares of common stock
issuable upon exercise of options outstanding immediately prior to such
merger or consolidation or upon conversion of convertible securities
outstanding immediately prior to such merger or consolidation shall be
deemed to be outstanding immediately prior to such merger or consolidation
and, if applicable, converted or exchanged in such merger or consolidation
on the same terms as the actual outstanding shares of common stock are
converted or exchanged); or
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b.
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the
sale, lease, transfer, exclusive license or other disposition, in a single
transaction or series of related transactions, by us or a subsidiary, of
all or substantially all of our assets and our subsidiaries’ assets taken
as a whole, or the sale or disposition (whether by merger or otherwise) of
one or more of our subsidiaries if substantially all of our assets and our
subsidiaries’ assets taken as a whole are held by such subsidiary or
subsidiaries, except where such sale, lease, transfer, exclusive license
or other disposition is to a subsidiary wholly owned by
us.
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Optional Conversion at Holder’s
Election
The
Series A convertible redeemable preferred stock are convertible at any time, at
the option of the holder, into the number of shares of common stock as is
determined by dividing $5,000 per share by the Series A conversion price,
initially equal to $0.363 per share (which is the initial conversion price and
which is subject to adjustment as described below in “Adjustments to Conversion
Price”).
Adjustments
to Conversion Price
The
conversion price for the Series A convertible redeemable preferred stock will be
subject to adjustment from time to time as follows:
Adjustment for Stock Splits and
Combinations. If we at any time after the Series A original
issue date effect a subdivision of the outstanding common stock, the Series A
conversion price in effect immediately before that subdivision shall be
proportionately decreased so that the number of shares of common stock issuable
on conversion of each share of such series shall be increased in proportion to
such increase in the aggregate number of shares of common stock
outstanding. If, after the Series A original issue date, we combine
the outstanding shares of common stock, the Series A conversion price in effect
immediately before the combination shall be proportionately increased so that
the number of shares of common stock issuable on conversion of each share of
such series shall be decreased in proportion to such decrease in the aggregate
number of shares of common stock outstanding. Any adjustment under
this subsection shall become effective at the close of business on the date the
subdivision or combination becomes effective.
Adjustment for Certain Dividends and
Distributions. If, after the Series A original issue date, we
make or issue, or fix a record date for the determination of holders of common
stock entitled to receive, a dividend or other distribution payable on the
common stock in additional shares of common stock, then and in each such event
the Series A conversion price in effect immediately before such event shall be
decreased as of the time of such issuance or, in the event such a record date
shall have been fixed, as of the close of business on such record date, by
multiplying the Series A conversion price then in effect by a
fraction:
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(1)
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the
numerator of which shall be the total number of shares of common stock
issued and outstanding immediately prior to the time of such issuance or
the close of business on such record date,
and
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(2)
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the
denominator of which shall be the total number of shares of common stock
issued and outstanding immediately prior to the time of such issuance or
the close of business on such record date plus the number of shares of
common stock issuable in payment of such dividend or
distribution.
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Notwithstanding
the foregoing, (a) if such record date shall have been fixed and such dividend
is not fully paid or if such distribution is not fully made on the date fixed
therefor, the Series A conversion price shall be recomputed accordingly as of
the close of business on such record date and thereafter the Series A conversion
price shall be adjusted pursuant to this subsection as of the time of actual
payment of such dividends or distributions; and (b) that no such adjustment
shall be made if the holders of Series A convertible redeemable preferred stock
simultaneously receive a dividend or other distribution of shares of common
stock in a number equal to the number of shares of common stock as they would
have received if all outstanding shares of Series A convertible redeemable
preferred stock had been converted into common stock on the date of such
event.
Adjustments for Other Dividends and
Distributions. If, after the Series A original issue date, we
make or issue, or fix a record date for the determination of holders of common
stock entitled to receive, a dividend or other distribution payable in our
securities (other than a distribution of shares of common stock in respect of
outstanding shares of common stock) or in other property and the provisions of
Section 1 of our Articles of Amendment of the Amended and Restated Articles of
Incorporation do not apply to such dividend or distribution, then and in each
such event provision shall be made so that the holders of the Series A
convertible redeemable preferred stock shall receive upon conversion thereof, in
addition to the number of shares of common stock receivable thereupon, the kind
and amount of securities, cash or other property which they would have been
entitled to receive had the Series A convertible redeemable preferred stock been
converted into common stock on the date of such event and had they thereafter,
during the period from the date of such event to and including the conversion
date, retained such securities receivable by them as aforesaid during such
period, giving application to all adjustments called for during such period
under this paragraph with respect to the rights of the holders of the Series A
convertible redeemable preferred stock; provided, however, that no such
provision shall be made if the holders of Series A convertible redeemable
preferred stock receive, simultaneously with the distribution to the holders of
common stock, a dividend or other distribution of such securities, cash or other
property in an amount equal to the amount of such securities, cash or other
property as they would have received if all outstanding shares of Series A
convertible redeemable preferred stock had been converted into common stock on
the date of such event.
Adjustment for Merger or
Reorganization, etc. Subject to our definition of a deemed
liquidation event, if we are involved in any reorganization, recapitalization,
reclassification, consolidation or merger in which our common stock (but not the
Series A convertible redeemable preferred stock) is converted into or exchanged
for securities, cash or other property (other than transactions covered by the
provisions above relating to adjustments for certain dividends and distributions
and adjustments for other dividends and distributions), then, following any such
reorganization, recapitalization, reclassification, consolidation or merger,
each share of Series A convertible redeemable preferred stock shall thereafter
be convertible in lieu of the common stock into which it was convertible prior
to such event into the kind and amount of securities, cash or other property
which a holder of the number of shares of our common stock issuable upon
conversion of one share of Series A convertible redeemable preferred stock
immediately prior to such reorganization, recapitalization, reclassification,
consolidation or merger would have been entitled to receive pursuant to such
transaction; and, in such case, appropriate adjustment (as determined in good
faith by our board of directors) shall be made in the application of the
provisions with respect to the rights and interests thereafter of the holders of
the Series A convertible redeemable preferred stock, to the end that the
provisions set forth in this section (including provisions with respect to
changes in and other adjustments of the Series A conversion price) shall
thereafter be applicable, as nearly as reasonably may be, in relation to any
securities or other property thereafter deliverable upon the conversion of the
Series A convertible redeemable preferred stock.
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Certificate as to
Adjustments. Upon the occurrence of each adjustment or
readjustment of the Series A conversion price, we will as promptly as reasonably
practicable, but in any event not later than 10 days
thereafter, compute such adjustment or readjustment and furnish to
each holder of Series A convertible redeemable preferred stock a certificate
setting forth such adjustment or readjustment (including the kind and amount of
securities, cash or other property into which the Series A convertible
redeemable preferred stock is convertible) and showing in detail the facts upon
which such adjustment or readjustment is based. We will, as promptly
as reasonably practicable after the written request at any time of any holder of
Series A convertible redeemable preferred stock (but in any event not later than
10 days thereafter), furnish to such holder a certificate setting forth (i) the
Series A conversion price then in effect, and (ii) the number of shares of
common stock and the amount, if any, of other securities, cash or property which
then would be received upon the conversion of Series A convertible redeemable
preferred stock.
Mandatory
Conversion
If at any
time on or after the 18 month anniversary of the Series A original issue date,
the closing bid price of the common stock equals or exceeds 400% of the Series A
conversion price then in effect for at least 20 trading days in a period of 30
consecutive trading days, we shall have the right to convert all outstanding
shares of Series A convertible redeemable preferred stock into shares of common
stock.
Redemption
In the
event that at least 50% of the shares of Series A convertible redeemable
preferred stock issued on the Series A original issue date remain outstanding on
the 5th anniversary of the Series A original issue date, shares of Series A
convertible redeemable preferred stock shall be redeemed by us out of funds
lawfully available therefor at a price equal to $5,000 plus any accruing
dividends accrued but unpaid thereon, whether or not declared, together with any
other dividends declared but unpaid thereon, or the Redemption Price, in three
annual installments commencing not more than 60 days after receipt by us at any
time during the period beginning on the 5th anniversary of the Series A original
issue date and ending 180 days following the 5th anniversary of the Series A
original issue date, from the holders of at least a majority of the then
outstanding shares of Series A convertible redeemable preferred stock, of
written notice requesting redemption of all shares of Series A convertible
redeemable preferred stock. The date of each such installment shall be referred
to as a Redemption Date. On each Redemption Date, we shall redeem, on a pro rata
basis in accordance with the number of shares of Series A convertible redeemable
preferred stock owned by each holder, that number of outstanding shares of
Series A convertible redeemable preferred stock determined by dividing (i) the
total number of shares of Series A convertible redeemable preferred stock
outstanding immediately prior to such Redemption Date by (ii) the number of
remaining Redemption Dates (including the Redemption Date to which such
calculation applies). If we do not have sufficient funds legally available to
redeem on any Redemption Date all shares of Series A convertible redeemable
preferred stock to be redeemed on such Redemption Date, we shall redeem a pro
rata portion of each holder’s redeemable shares of such capital stock out of
funds legally available therefor, based on the respective amounts which would
otherwise be payable in respect of the shares to be redeemed if the legally
available funds were sufficient to redeem all such shares, and shall redeem the
remaining shares to have been redeemed as soon as practicable after we have the
funds legally available therefor.
Voting
Rights
Holders
of the Series A convertible redeemable preferred stock are entitled to vote on
an as-converted basis together with the holders of common stock, and not
separately as a class except as required by law or by our articles of amendment
of our amended and restated articles of incorporation.
Listing
The
Series A convertible redeemable preferred stock is not currently listed for
trading on any stock exchange or market, and we do not intend to have it listed
for trading.
Description
of our Outstanding Warrants
On
November 19, 2009, we completed a private placement of warrants to purchase an
aggregate of 1,628,800 shares of our common stock, par value $0.001 per
share. The warrants have an exercise price of $0.33, which is equal
to the volume-weighted average price of a share of our common stock measured
over the 30-day period immediately preceding November 12, 2009. The
exercise price of the warrants and the number of shares of common stock issuable
upon exercise of the warrants are subject to adjustment in certain
circumstances, including a stock split of, stock dividend on, or a subdivision,
combination or recapitalization of the common stock. The warrants do not
confer upon the holder any voting or any other rights of our
shareholders.
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DESCRIPTION
OF WARRANTS
The
warrants to be issued pursuant to exercise of the subscription rights will be
separately transferable following their issuance and through [●], 2015, and will
expire thereafter. The warrants may be exercised for $[●] per share
(representing [●]% of the offering price of the common stock under the
subscription rights) commencing on [●], 2010 and at any time through [●],
2015. We intend to apply for quotation of the warrants on the OTC
Bulletin Board under the symbol “[●]” beginning on or about [●], 2010,
until 4:00 p.m., Eastern time, on December [●], 2015. The common
stock underlying the warrants, upon issuance, will also be traded on the OTC
Bulletin Board under the symbol “TKOI.”
The
warrants will be issued pursuant to a warrant agreement by and between Telkonet
and [●], the warrant agent.
Certificates
for all warrants acquired will be mailed as soon as practicable after the rights
offering has expired, payment for the shares of common stock and warrants
subscribed for has cleared, and all prorating calculations and reductions
contemplated by the terms of the rights offering have been effected, unless
shares are held of record by Cede & Co. or by any other depository or
nominee through the facilities of DTC on behalf of the shareholder or on behalf
of the shareholder’s broker, dealer, custodian bank, trustee or other nominee,
in which case the shareholder will have any warrants acquired by the shareholder
credited to the account of Cede & Co. or the other depository or nominee as
soon as practicable after the rights offering has expired, payment for the
shares of common stock and warrants subscribed for has cleared, and all
prorating calculations and reductions contemplated by the terms of the rights
offering have been effected.
We will
deliver certificates representing your warrants or credit your account at your
nominee holder with the warrants that you purchased pursuant to your over
subscription right as soon as practicable after the rights offering has expired
and all prorating calculations and reductions contemplated by the terms of the
rights offering have been effected.
The
exercise price of the warrants and the number of shares of common stock issuable
upon exercise of the warrants are subject to adjustment in certain
circumstances, including a stock split of, stock dividend on, or a subdivision,
combination or recapitalization of the common stock. Upon the merger,
consolidation, sale of substantially all of our assets, or other similar
transaction, the warrant holders shall, at our option, be required to exercise
the warrants immediately prior to the closing of the transaction, or such
warrants shall automatically expire. Upon such exercise, the warrant
holders shall participate on the same basis as the holders of common stock in
connection with the transaction. The warrants do not confer upon the
holder any voting or any other rights of our shareholders.
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MATERIAL
U.S. FEDERAL INCOME TAX CONSIDERATIONS
The
following discussion sets forth the material U.S. Federal income tax
consequences of the receipt of subscription rights described in this prospectus
and of the exercise or expiration of those subscription rights to U.S. Holders
(as defined below) of our common stock and preferred stock that hold such stock
as a capital asset for Federal income tax purposes. This discussion
is based upon the Code, Treasury Regulations promulgated thereunder, judicial
decisions, and the U.S. Internal Revenue Service’s, or IRS, current
administrative rules, practices and interpretations of law, all as in effect on
the date of this document, and all of which are subject to change, possible with
retroactive effect. This discussion applies only to U.S. Holders and
does not address all aspects of Federal income taxation that may be important to
particular holders in light of their individual investment circumstances or to
holders who may be subject to special tax rules, including, without limitation,
holders of preferred stock, partnerships (including any entity or arrangement
treated as a partnership for Federal income tax purposes), holders who are
dealers in securities or foreign currency, foreign persons, insurance companies,
tax-exempt organizations, non-U.S. Holders, banks, financial institutions,
broker-dealers, holders of warrants entitling them to receive subscription
rights, holders who hold common stock as part of a hedge, straddle, conversion,
constructive sale or other integrated security transaction, or who acquired
common stock pursuant to the exercise of compensatory stock options or otherwise
as compensation, all of whom may be subject to tax rules that differ
significantly from those summarized below.
We have
not sought, and will not seek, a ruling from the IRS regarding the Federal
income tax consequences of this offering or the related share issuance. This
discussion is based on varying interpretations that could result in U.S federal
income tax consequences different from those described below. The following
discussion does not address the tax consequences of this offering or the related
share issuance under foreign, state, or local tax laws, or the alternative
minimum tax provisions of the Code. Accordingly, each holder of
common stock is urged to consult its tax advisor with respect to the particular
tax consequences of this offering or the related share issuance to such
holder.
For
purposes of this description, a “U.S. Holder” is a holder that is for U.S.
federal income tax purposes:
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a
citizen or resident of the
U.S.;
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· |
a
corporation or other entity taxable as a corporation that is 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 a U.S. court is able to exercise primary supervision over the
administration of the trust and one or more U.S. persons have the
authority to control all substantial decisions of the trust (or the trust
was in existence on August 20, 1996, and validly elected to continue to be
treated as a U.S.
trust).
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THIS
SUMMARY IS ONLY A GENERAL DISCUSSION AND IS NOT INTENDED TO BE, AND SHOULD NOT
BE CONSTRUED TO BE, LEGAL, OR TAX ADVICE. THE U.S. FEDERAL INCOME TAX
TREATMENT OF THE RIGHTS IS COMPLEX AND POTENTIALLY UNFAVORABLE TO U.S.
HOLDERS. ACCORDINGLY, EACH U.S. HOLDER WHO ACQUIRES RIGHTS IS
STRONGLY URGED TO CONSULT HIS, HER OR ITS OWN TAX ADVISER WITH RESPECT TO THE
U.S. FEDERAL, STATE, LOCAL AND FOREIGN INCOME, ESTATE AND OTHER TAX CONSEQUENCES
OF THE ACQUISITION OF THE RIGHTS, WITH SPECIFIC REFERENCE TO SUCH PERSON’S
PARTICULAR FACTS AND CIRCUMSTANCES.
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THE
FEDERAL TAX DISCUSSION CONTAINED IN THIS PROSPECTUS IS NOT INTENDED OR WRITTEN
TO BE USED, AND CANNOT BE USED, BY ANY PERSON FOR THE PURPOSE OF AVOIDING ANY
PENALTIES THAT MAY BE IMPOSED BY THE CODE. THE FEDERAL TAX DISCUSSION
CONTAINED IN THIS PROSPECTUS WAS WRITTEN TO SUPPORT THE PROMOTION OR MARKETING
OF THE TRANSACTION DESCRIBED IN THIS PROSPECTUS. PROSPECTIVE
INVESTORS SHOULD SEEK ADVICE FROM THEIR OWN INDEPENDENT TAX ADVISORS CONCERNING
THE FEDERAL, STATE AND LOCAL TAX CONSEQUENCES OF AN INVESTMENT IN THE COMPANY
BASED ON THEIR PARTICULAR CIRCUMSTANCES.
Receipt
of the Subscription Rights
The
distribution of the subscription rights should be a non-taxable distribution to
U.S. holders under Section 305(a) of the Code. This position is not
binding on the IRS, or the courts, however. If this position is
finally determined by the IRS or a court to be incorrect, the fair market value
of the subscription rights would be taxable to holders of our common stock as a
dividend to the extent of the holder’s pro rata share of our current
and accumulated earnings and profits, if any, with any excess being treated as a
return of capital to the extent thereof and then as capital gain.
The
distribution of the subscription rights would be taxable under Section 305(b) of
the Code if it were a distribution or part of a series of distributions,
including deemed distributions, that have the effect of the receipt of cash or
other property by some of our shareholders and an increase in the proportionate
interest of other shareholders in our assets or earnings and profits, if
any. Distributions having this effect are referred to as
“disproportionate distributions.”
The
remaining description assumes that holders of our common stock who elect to
receive the subscription rights will not be subject to U.S. federal income tax
on such receipt.
Tax
Basis and Holding Period of the Subscription Rights
A U.S.
Holder's tax basis in the subscription rights will depend on the fair market
value of the subscription rights and the fair market value of our common stock
at the time of the distribution.
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If
the total fair market value of the subscription rights being distributed
in this offering to holders of our common stock represents 15 percent or
more of the total fair market value of our common stock at the time of the
distribution, a holder must allocate the basis of the holder's shares of
common stock (with respect to which the subscriptions rights were
distributed) between such stock and the subscription rights received by
such holder. This allocation is made in proportion to the fair market
value of the common stock and the fair market value of the subscription
rights at the date of distribution.
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·
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If
the total fair market value of the subscription rights being distributed
in this offering to holders of our common stock is less than 15% of the
total fair market value of our common stock at the time of the
distribution, the basis of such subscription rights will be zero unless
the holder elects to allocate part of the basis of the holder's shares of
common stock (with respect to which the subscriptions rights were
distributed) to the subscription rights. A holder makes such an election
by attaching a statement to the holder's tax return for the year in which
the subscription rights are received. This election, once made, will be
irrevocable with respect to those rights. Any holder that makes such
election should retain a copy of the election and of the tax return with
which it was filed in order to substantiate the use of an allocated basis
upon a subsequent disposition of the stock acquired by exercise. If the
basis of a holder's subscription rights is deemed to be zero because the
fair market value of the subscription rights at the time of distribution
is less than 15% of the fair market value of our common stock and because
the holder does not make the election described above, the holder's basis
of the shares of common stock with respect to which such rights are
received will not change. If an allocation of basis is made
between the subscriptions rights and common stock, and the subscription
rights are later exercised, the tax basis in the common stock originally
owned by the holder will be reduced by an amount equal to the tax basis
allocated to the subscription rights. In addition, the tax basis allocated
to the subscription rights must be apportioned between the right to
acquire common stock and the right to receive a warrant in proportion to
their values on the date of distribution. For these purposes, the value of
the right to acquire common stock will be that amount which bears the same
ratio to the value of a subscription right as the value of one share of
common stock bears to the value of one package, consisting of one share of
common stock and one warrant. The value of the right to receive a warrant
will be the difference between the value of the subscription right and the
right to acquire common stock as determined
above.
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The
holding period for the subscriptions rights received by a U.S. Holder of common
stock in the rights offering will include the holder's holding period for the
common stock with respect to which the subscriptions rights were
received.
Sale
or Other Disposition of the Subscription Rights
If a U.S.
holder sells or otherwise disposes of the subscription rights received in the
rights offering prior to the expiration date, the U.S. holder will recognize
capital gain or loss equal to the difference between (a) the proceeds of sale
and (b) the holder’s tax basis, if any, in the subscription rights being sold or
otherwise disposed of (determined as described above). Any capital
gain or loss will be long-term capital gain or loss if the holding period for
the subscription rights, determined as described in “—Tax Basis and Holding
Period of the Subscription Rights” above, exceeds one year at the time of
disposition.
Expiration
of the Subscription Rights
If the
subscription rights expire without exercise while the holder continues to hold
the shares of our common stock with respect to which the subscription rights are
received, the holder will recognize no loss and the tax basis of the common
stock with respect to which the subscription rights were received will equal its
tax basis before receipt of the subscription rights. If the
subscription rights expire without exercise or are exercised after you have
disposed of the shares of our common stock with respect to which the
subscription rights are received, the tax consequences are uncertain and you
should consult your tax advisor regarding your ability to recognize a loss (if
any) on the expiration of the subscription rights, or regarding the tax basis of
the shares acquired upon exercise.
Exercise
of the Subscription Rights; Tax Basis and Holding Period of the
Shares
A
U.S. Holder of
common stock will not recognize any gain or loss upon the exercise of
subscription rights received in the rights offering.
The tax
basis of the common stock and warrants acquired through exercise of the
subscription rights will equal the sum of (a) the exercise price and (b) the
holder's tax basis, if any, in the subscription rights (determined as described
above). The subscription price must be allocated between the common
stock and warrants acquired in proportion to their relative fair market values
on the exercise date. The basis of the common stock acquired will then be the
sum of that portion of the subscription price so allocable to the common stock,
plus the portion, if any, of the basis of the subscription rights allocable to
the right to acquire common stock, plus the portion, if any, of the basis of the
subscription rights allocable to the right to acquire common stock, determined
in the manner described above. The basis of the warrants will be the sum of that
portion of the subscription price allocable to such warrants, plus the portion,
if any, of the basis of the subscription rights allocable to the right to
acquire the warrant, determined in the manner described above.
The
holding period for the common stock and warrants acquired through exercise of
the subscription rights will begin on the date the subscriptions rights are
exercised. The holding period of stock subsequently acquired through the
warrants will begin with the date the warrants are exercised.
If a U.S.
Holder subsequently exercises a warrant that the holder acquired through the
prior exercise of the subscription rights, that holder will not recognize gain
or loss upon the subsequent exercise of the warrant. The shares of common stock
that the holder acquires as a result of exercising the warrant will have a tax
basis equal to that holder's adjusted basis in the warrant, plus the amount paid
to exercise the warrant. The holding period of shares acquired upon exercise of
a warrant will begin on the day after the warrant is exercised.
81
If a U.S.
Holder sells the warrant to another person, the holder will recognize taxable
gain or loss, if any, in an amount equal to the difference between (a) the
proceeds from the sale and (b) the holder's tax basis in the warrant (determined
as described above). This gain or loss will be a capital gain or loss if the
warrant is a capital asset in the hands of the seller. Whether the capital gain
will be long-term or short-term capital gain will depend on the seller's holding
period for the warrant.
If the
U.S. Holder allows the warrant to lapse or expire without exercise, the warrant
is deemed to be sold or exchanged on the date of expiration. Therefore, the
holder will generally recognize a capital loss in an amount equal to the
holder's basis in the warrant. The loss is treated as short-term or long-term
depending on the holder's holding period in the warrant.
A U.S.
holder who exercises the subscription rights received in the offering after
disposing of the shares of our common stock with respect to which the
subscription rights are received, should consult such holder’s tax advisor
regarding the potential application of the “wash sale” rules under Section 1091
of the Code.
Sale
or Other Disposition of the Subscription Rights Shares
If a U.S.
holder sells or otherwise disposes of the shares received as a result of
exercising a right, such U.S. holder’s gain or loss recognized upon that sale or
other disposition will be a capital gain or loss assuming the share is held as a
capital asset at the time of sale. This gain or loss will be
long-term if the share has been held at the time of sale for more than one
year.
Information
Reporting and Backup Withholding
Payments
made to you of proceeds from the sale of subscription rights or rights shares
may be subject to information reporting to the IRS and possible U.S. federal
backup withholding. Backup withholding will not apply if you furnish
a correct taxpayer identification number (certified on the IRS Form W-9) or
otherwise establish that you are exempt from backup
withholding. Backup withholding is not an additional
tax. Amounts withheld as backup withholding may be credited against
your U.S. federal income tax liability. You may obtain a refund of
any excess amounts withheld under the backup withholding rules by filing the
appropriate claim for refund with the IRS and furnishing any required
information.
82
PLAN
OF DISTRIBUTION
On or
about [●], 2010, we will distribute the subscription rights, subscription rights
certificates and copies of this prospectus to the holders of our common stock on
the record date who are entitled to participate in this rights
offering. Subscription rights holders who wish to exercise their
subscription rights and purchase shares of our common stock must complete the
subscription rights certificate and, if applicable, the Notice of Guaranteed
Delivery and return it with payment for the shares to the subscription agent at
the following address:
[●]
See “The
Rights Offering — Methods for Exercising Subscription Rights” and “The Rights
Offering — Guaranteed Delivery Procedures.” If you have any
questions, you should contact [●], our information agent for the rights
offering, at [●] or by e-mail to [●]. Other than as described in this
prospectus, we do not know of any existing agreements between any shareholder,
broker, dealer, underwriter or agent relating to the sale or distribution of the
underlying common stock.
To the
extent required, we will file, during any period in which offers or sales are
being made, a supplement to this prospectus which sets forth, with respect to a
particular offering, the specific number of shares of common stock to be sold,
the name of the holder, the sales price, the name of any participating broker,
dealer, underwriter or agent, any applicable commission or discount and any
other material information with respect to the plan of distribution not
previously disclosed.
In order
to comply with certain states’ securities laws, if applicable, the shares of
common stock will be sold in such jurisdictions only through registered or
licensed brokers or dealers.
Source
Capital Group, Inc. is the dealer-manager of this rights offering. In
such capacity, Source Capital Group, Inc. will provide marketing assistance,
including the solicitation of offers to purchase the transferable subscription
rights, and advice to our company in connection with this
offering. The dealer-manager is not underwriting or placing any of
the subscription rights or the shares of our common stock or warrants being
issued in this offering and does not make any recommendation with respect to
such subscription rights (including with respect to the exercise or expiration
of such subscription rights), shares or warrants. We have agreed to
pay the dealer-manager cash compensation of 8% of the gross proceeds of this
offering, and to issue to the dealer-manager five-year warrants to purchase a
number of shares of common stock equal to 4% of the shares of common stock sold
in this offering at an exercise price per share equal to 125% of the
subscription price per share. Such warrants will contain a cashless
exercise feature permitting the dealer-manager to “pay” the exercise price of a
portion of the underlying shares by surrendering a portion of the underlying
shares having an “in the money” value equal to the exercise price so
“paid”. In addition, we have agreed to reimburse the dealer-manger
for certain expenses, including reasonable legal expenses, incurred in
connection therewith. We have also agreed to indemnify the
dealer-manager and their respective affiliates against certain liabilities
arising under the Securities Act of 1933. The dealer-manager’s
participation in this offering is subject to customary conditions contained in
the dealer-manager agreement, including the receipt by the dealer-manager of
opinions of our counsel. The dealer-manager and its affiliates may
provide to us from time to time in the future in the ordinary course of their
business certain financial advisory, investment banking and other services for
which they will be entitled to receive fees.
83
LEGAL MATTERS
Certain
legal matters in connection with any offering of securities made by this
prospectus will be passed upon for us by Goodwin Procter llp, Boston,
Massachusetts.
EXPERTS
The
consolidated financial statements of the Company as of December 31, 2008
and 2007, and for each of the years in the two-year period ended
December 31, 2008, appearing in the Company’s Annual Report on Form 10-K
for the year ended December 31, 2008 have been incorporated by reference herein
in reliance upon the report of RBSM LLP, independent registered public
accounting firm, incorporated by reference herein, and upon the authority of
such firm as experts in accounting and auditing.
84
WHERE
YOU CAN FIND MORE INFORMATION
We file
annual, quarterly and special reports, proxy statements and other information
with the SEC.
Our SEC
filings, including the registration statement and exhibits, are available to the
public at the SEC’s website at http://www.sec.gov. You
may also read and copy any document we file at the SEC’s Public Reference Room
at 100 F Street, N.E., Washington, D.C. 20549. Please call the SEC at
(800) SEC-0330 for information on the operating rules and procedures for the
public reference room.
We
maintain an Internet site at www.telkonet.com. We
have not incorporated by reference into this prospectus the information on our
website, and you should not consider it to be a part of this
prospectus.
This
prospectus does not contain all of the information included in the registration
statement. We have omitted certain parts of the registration
statement in accordance with the rules and regulations of the
SEC. For further information, we refer you to the registration
statement, including its exhibits and schedules, which may be found at the SEC’s
website at http://www.sec.gov. Statements
contained in this prospectus and any accompanying prospectus supplement about
the provisions or contents of any contract, agreement or any other document
referred to are not necessarily complete. Please refer to the actual
exhibit for a more complete description of the matters involved.
Any
questions regarding the Telkonet, Inc. rights offering or requests for
additional copies of documents may be directed to [●] at [●] Monday through
Friday (except bank holidays), between 9:00 a.m. and 5:00 p.m., Eastern
time.
85
TELKONET,
INC.
Up
to [●] Shares of Common Stock
And
Warrants to Purchase [●] Shares of Common Stock
Issuable
upon Exercise of Rights to Subscribe for Such Shares and Warrants
PRELIMINARY
PROSPECTUS
[●],
2010
86
TELKONET,
INC.
Index
to Financial Statements
Report
of Independent Registered Certified Public Accounting Firm
|
F-2
|
Consolidated
Balance Sheets at December 31, 2008 and 2007
|
F-3
|
Consolidated
Statements of Operations and Comprehensive Losses for the Years ended
December 31, 2008 and 2007
|
F-4
|
Consolidated
Statements of Stockholders’ Equity for the Years ended December 31, 2008
and 2007
|
F-5
|
Consolidated
Statements of Cash Flows for the Years ended December 31, 2008 and
2007
|
F-7
|
Notes
to Consolidated Financial Statements
|
F-9
|
Condensed
Consolidated Balance Sheets:
September
30, 2009 and December 31, 2008
|
F-41
|
Condensed
Consolidated Statements of Operations and Comprehensive Income
(Loss):
Three
And Nine Months Ended September 30, 2009 and 2008
|
F-42
|
Condensed
Consolidated Statement of Equity:
January
1, 2009 through September 30, 2009
|
F-43
|
Condensed
Consolidated Statements of Cash Flows:
Nine
Months Ended September 30, 2009 and 2008
|
F-44
|
Notes
to Unaudited Condensed Consolidated Financial
Statements:
September
30, 2009
|
F-46
|
F-1
RBSM
LLP
CERTIFIED
PUBLIC ACCOUNTANTS
REPORT OF INDEPENDENT
REGISTERED CERTIFIED PUBLIC ACCOUNTING FIRM
Board of
Directors
Telkonet,
Inc.
Germantown,
MD
We have
audited the accompanying consolidated balance sheets of Telkonet, Inc. and its
subsidiaries (the "Company") as of December 31, 2008 and 2007 and the related
consolidated statements of operations, stockholders' equity, and cash flows for
each of the two years in the period ended December 31, 2008. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based upon
our audit.
We
conducted our audits in accordance with standards of the Public Company
Accounting Oversight Board (United States of America). Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatements. 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 our audits
provide a reasonable basis for our opinion.
In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Telkonet, Inc. and its
subsidiaries 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 accounting principles generally
accepted in the United States of America.
The
accompanying consolidated financial statements have been prepared assuming the
Company will continue as a going concern. As discussed in the Note A to the
accompanying financial statements, the Company has incurred significant
operating losses in current year and also in the past. These factors, among
others, raise substantial doubt about the Company's ability to continue as a
going concern. The financial statements do not include any adjustments that
might result from the outcome of this uncertainty.
/s/
RBSM LLP
|
|
Certified
Public Accountants
|
New York,
New York
April 1,
2009, except with respect to our opinion on the consolidated financial
statements insofar as it relates to the effects of the
discontinued
operations as discussed in Note Y, as to
which is dated February 10, 2010,
F-2
TELKONET,
INC.
CONSOLIDATED
BALANCE SHEETS
DECEMBER 31, 2008 AND
2007
December
31, 2008 |
December
31, 2007 |
|||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
and cash equivalents
|
$
|
168,492
|
$
|
606,618
|
||||
Accounts
receivable, net
|
836,336
|
1,893,492
|
||||||
Inventories
|
1,733,940
|
2,578,084
|
||||||
Other
current assets
|
230,539
|
438,650
|
||||||
Current
assets from discontinued operations
|
476,459
|
1,487,324
|
||||||
Total
current assets
|
3,445,766
|
7,004,168
|
||||||
Property
and equipment, net
|
403,593
|
620,796
|
||||||
Other
assets:
|
||||||||
Marketable
securities
|
397,403
|
4,541,167
|
||||||
Deferred
financing costs, net
|
432,136
|
-
|
||||||
Goodwill
and other intangible assets, net
|
15,137,469
|
17,379,135
|
||||||
Other
assets
|
98,807
|
164,254
|
||||||
Other
assets from discontinued operations
|
6,593,169
|
9,031,825
|
||||||
Total
other assets
|
22,658,984
|
31,116,381
|
||||||
Total
Assets
|
$
|
26,508,343
|
$
|
38,741,345
|
||||
LIABILITIES
AND EQUITY
|
||||||||
Current
liabilities:
|
||||||||
Accounts
payable
|
$
|
2,561,213
|
$
|
3,339,670
|
||||
Accrued
liabilities and expenses
|
1,996,044
|
2,179,398
|
||||||
Line
of credit
|
574,005
|
-
|
||||||
Senior
note payable, net of debt discounts of $29,180
|
-
|
1,470,820
|
||||||
Other
current liabilities
|
278,034
|
263,110
|
||||||
Current
Liabilities from discontinued operations
|
13,450,362
|
2,741,834
|
||||||
Total
current liabilities
|
18,859,658
|
9,994,832
|
||||||
Long-term
liabilities:
|
||||||||
Convertible
debentures, net of debt discounts of $825,585 –
non-current
|
1,311,065
|
-
|
||||||
Derivative
liability
|
2,573,126
|
-
|
||||||
Deferred
lease liability and other
|
50,791
|
67,112
|
||||||
Long-term
liabilities from discontinued operations
|
-
|
4,432,342
|
||||||
Total
long-term liabilities
|
3,934,982
|
4,499,454
|
||||||
Commitments
and contingencies
|
-
|
-
|
||||||
Minority
Interest from discontinued operations
|
262,795
|
2,978,918
|
||||||
Equity
|
||||||||
Preferred
stock, par value $.001 per share; 15,000,000 shares authorized; none
issued and outstanding at December 31,2008 and 2007,
respectively
|
-
|
-
|
||||||
Common
stock, par value $.001 per share; 155,000,000 shares authorized;
87,525,495 and 70,826,544 shares issued and outstanding at
December 31, 2008 and 2007, respectively
|
87,526
|
70,827
|
||||||
Additional
paid-in-capital
|
118,197,450
|
112,013,093
|
||||||
Accumulated
deficit
|
(114,801,318
|
)
|
(90,815,779
|
)
|
||||
Accumulated
comprehensive loss
|
(32,750
|
)
|
-
|
|||||
Total
stockholders’ equity
|
3,450,908
|
21,268,141
|
||||||
Total
Liabilities and Equity
|
$
|
26,508,343
|
$
|
38,741,345
|
See
accompanying notes to consolidated financial statements
F-3
TELKONET,
INC.
CONSOLIDATED
STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSSES
FOR
THE YEARS ENDED DECEMBER 31, 2008 AND 2007
2008
|
2007
|
|||||||
Revenues,
net:
|
||||||||
Product
|
$
|
13,043,114
|
$
|
8,774,869
|
||||
Rental
|
3,515,887
|
2,702,114
|
||||||
Total
Revenue
|
16,559,001
|
11,476,983
|
||||||
Cost
of Sales:
|
||||||||
Product
|
8,105,304
|
6,866,429
|
||||||
Rental
|
1,680,832
|
1,398,565
|
||||||
Total
Cost of Sales
|
9,786,136
|
8,264,994
|
||||||
Gross
Profit
|
6,772,865
|
3,211,989
|
||||||
Operating
Expenses:
|
||||||||
Research
and Development
|
2,036,129
|
2,349,690
|
||||||
Selling,
General and Administrative
|
9,252,381
|
13,752,003
|
||||||
Impairment
of Goodwill and Long Lived Assets
|
2,380,000
|
-
|
||||||
Stock
Based Compensation
|
699,639
|
1,695,846
|
||||||
Depreciation
and Amortization
|
391,023
|
410,021
|
||||||
Total
Operating Expenses
|
14,759,172
|
18,207,560
|
||||||
Loss
from Operations
|
(7,986,307
|
)
|
(14,995,571
|
)
|
||||
Other
Income (Expenses):
|
||||||||
Financing
Expense, net
|
(2,814,795
|
)
|
(144,109
|
)
|
||||
(Loss)
on Derivative Liability
|
(1,174,121
|
)
|
-
|
|||||
Gain
(Loss) on Sale of Investments
|
(6,500
|
)
|
1,868,956
|
|||||
Impairment
of Investment in Marketable Securities
|
(4,098,514
|
)
|
-
|
|||||
Other
Income
|
-
|
-
|
||||||
Total
Other Income (Expenses)
|
(8,093,930
|
)
|
1,724,847
|
|||||
Loss
Before Provision for Income Tax
|
(16,080,237
|
)
|
(13,270,724
|
)
|
||||
Provision
for Income Tax
|
-
|
-
|
||||||
Loss
from Continuing Operations
|
$
|
(16,080,237
|
)
|
$
|
(13,270,724
|
)
|
||
Discontinued
Operations
|
||||||||
Loss
from Discontinued Operations
|
(7,905,302
|
)
|
(7,120,386
|
)
|
||||
-
|
-
|
|||||||
Net
Loss
|
$
|
(23,985,539
|
)
|
$
|
(20,391,110
|
)
|
||
Net
loss per share:
|
||||||||
Loss
per share from continuing operations – basic and diluted
|
$
|
(0.20
|
)
|
$
|
(0.20
|
)
|
||
Loss
per share from discontinued operations – basic and diluted
|
$
|
(0.10
|
)
|
$
|
(0.11
|
)
|
||
Net
loss per share – basic and diluted
|
$
|
(0.30
|
)
|
$
|
(0.31
|
)
|
||
Weighted
average common shares outstanding – basic
|
79,153,788
|
65,414,875
|
||||||
Weighted
average common shares outstanding – diluted
|
79,153,788
|
65,414,875
|
||||||
Comprehensive
Loss:
|
||||||||
Net
Loss
|
$
|
(23,985,539
|
)
|
$
|
(20,391,110
|
)
|
||
Unrealized
loss on investment
|
(32,750
|
)
|
-
|
|||||
Comprehensive
Loss
|
$
|
(24,018,289
|
)
|
$
|
(20,391,110
|
)
|
See
accompanying notes to consolidated financial statements
F-4
TELKONET,
INC.
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY
FOR
THE YEARS ENDED DECEMBER 31, 2008 AND 2007
Preferred
Shares
|
Preferred
Stock
Amount
|
Common
Shares
|
Common
Stock
Amount
|
Additional
Paid
in
Capital
|
Accumulated
Deficit
|
Total
|
||||||||||||||||||||||
Balance
at January 1, 2007
|
- | - | 56,992,301 | $ | 56,992 | $ | 78,502,900 | $ | (70,424,669 | ) | $ | 8,135,223 | ||||||||||||||||
Shares
issued for employee stock options exercised at approximately $1.05 per
share
|
- | - | 118,500 | 119 | 124,341 | - | 124,460 | |||||||||||||||||||||
Shares
issued in exchange for services rendered at approximately $2.63 per
share
|
- | - | 21,803 | 22 | 57,320 | - | 57,342 | |||||||||||||||||||||
Shares
issued in exchange for services at $1.36 per share
|
- | - | 200,000 | 200 | 271,300 | - | 271,500 | |||||||||||||||||||||
Issuance
of shares for purchase of subsidiary
|
- | - | 2,227,273 | 2,227 | 5,997,773 | - | 6,000,000 | |||||||||||||||||||||
Issuance
of shares for purchase of subsidiary
|
- | - | 3,459,609 | 3,460 | 9,752,637 | - | 9,756,097 | |||||||||||||||||||||
Issuance
of shares for acquisition by subsidiary
|
- | - | 866,856 | 867 | 1,529,133 | - | 1,530,000 | |||||||||||||||||||||
Shares
Issued in connection with Private Placement
|
- | - | 4,000,000 | 4,000 | 9,606,000 | - | 9,610,000 | |||||||||||||||||||||
Issuance
of shares for investment in affiliate
|
- | - | 2,940,202 | 2,940 | 4,463,227 | - | 4,466,167 | |||||||||||||||||||||
Value
of additional warrants issued in conjunction with exchange of convertible
debentures
|
- | - | - | - | 132,949 | - | 132,949 | |||||||||||||||||||||
Debt
discount attributable to warrants attached to Note
|
- | - | - | - | 195,924 | - | 195,924 | |||||||||||||||||||||
Stock-based
compensation expense related to employee stock options
|
- | - | - | - | 1,225,626 | - | 1,225,626 | |||||||||||||||||||||
Stock-based
compensation related to Stock option expenses accrued in prior
period
|
- | - | - | - | 153,963 | - | 153,963 | |||||||||||||||||||||
Net
Loss
|
- | - | - | - | - | (20,391,110 | ) | (20,391,110 | ) | |||||||||||||||||||
Balance
at December 31, 2007
|
- | $ | - | 70,826,544 | $ | 70,827 | $ | 112,013,093 | $ | (90,815,779 | ) | $ | 21,268,141 |
See
accompanying footnotes to consolidated financial statements
F-5
TELKONET,
INC.
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY (Continued)
FOR
THE YEARS ENDED DECEMBER 31, 2008 AND 2007
Preferred
Shares
|
Preferred
Stock
Amount
|
Common
Shares
|
Common
Stock
Amount
|
Additional
Paid
in
Capital
|
Accumulated
Deficit
|
Comprehensive
Income (Loss)
|
Total
|
|||||||||||||||||||||||||
Balance
at January
1, 2008
|
- | - | 70,826,544 | $ | 70,827 | $ | 112,013,093 | $ | (90,815,779 | ) | $ | - | $ | 21,268,141 | ||||||||||||||||||
Shares
issued in exchange for services rendered and accrued at
approximately $1.00 per share
|
- | - | 346,244 | 346 | 345,060 | - | - | 345,407 | ||||||||||||||||||||||||
Shares
issued for cashless warrants exercised
|
- | - | 1,000,000 | 1,000 | (1,000 | ) | - | - | - | |||||||||||||||||||||||
Shares
issued in connection with Private Placement
|
- | - | 2,500,000 | 2,500 | 1,497,500 | - | - | 1,500,000 | ||||||||||||||||||||||||
Adjustment
shares issued for investment in affiliate
|
- | - | 3,046,425 | 3,046 | (3,046 | ) | - | - | - | |||||||||||||||||||||||
Adjustment
shares issued for purchase of subsidiary
|
- | - | 1,882,225 | 1,882 | (1,882 | ) | - | - | - | |||||||||||||||||||||||
Shares
issued from escrow contingency in purchase of subsidiary
|
- | - | 600,000 | 600 | 379,400 | - | - | 380,000 | ||||||||||||||||||||||||
Shares
issued in exchange for convertible debentures
|
- | - | 7,324,057 | 7,324 | 1,356,026 | - | - | 1,363,350 | ||||||||||||||||||||||||
Value
of additional warrants issued in conjunction with anti-dilution
provision
|
- | - | - | - | 200,459 | - | - | 200,459 | ||||||||||||||||||||||||
Stock-based
compensation expense related to the re-pricing of investor
warrants
|
- | - | - | - | 1,598,203 | - | - | 1,598,203 | ||||||||||||||||||||||||
Stock-based
compensation expense related to employee stock options
|
- | - | - | - | 559,478 | - | - | 559,478 | ||||||||||||||||||||||||
Value
of warrants attached to note payable
|
- | - | - | - | 254,160 | - | - | 254,160 | ||||||||||||||||||||||||
Holding
loss on available for sale securities
|
- | - | - | - | - | - | (32,750 | ) | (32,750 | ) | ||||||||||||||||||||||
Net
Loss
|
- | - | - | - | - | (23,985,539 | ) | - | (23,985,539 | ) | ||||||||||||||||||||||
Balance
at December
31, 2008
|
- | - | 87,525,495 | $ | 87,526 | $ | 118,197,450 | $ | (114,801,318 | ) | $ | (32,750 | ) | $ | 3,450,908 |
See
accompanying notes to consolidated financial statements
F-6
TELKONET,
INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2008
AND 2007
2008
|
2007
|
|||||||
Increase
(Decrease) In Cash and Equivalents
|
||||||||
Cash
Flows from Operating Activities:
|
||||||||
Net
loss attributable to common shareholders
|
$
|
(23,985,539
|
)
|
$
|
(20,391,110
|
)
|
||
Net
loss from discontinued operations
|
7,905,302
|
7,120,386
|
||||||
Net
loss from continuing operations
|
(16,080,237
|
)
|
(13,270,724
|
)
|
||||
Adjustments
to reconcile net loss from operations to cash used in operating
activities:
|
||||||||
Amortization
of debt discounts and financing costs
|
745,392
|
-
|
||||||
Write-off
of fixed assets
|
-
|
64,608
|
||||||
Impairment
of goodwill and long-lived assets
|
2,380,000
|
-
|
||||||
Impairment
of investment in affiliate
|
4,098,514
|
-
|
||||||
(Gain)
loss on sale of investment
|
6,500
|
(1,868,956
|
)
|
|||||
Loss
on derivative liability
|
1,174,121
|
-
|
||||||
Stock
based compensation
|
699,639
|
1,554,468
|
||||||
Fair
value of issuance of warrants and re-pricing (financing
expense)
|
2,052,852
|
299,693
|
||||||
Inventory
Allowance
|
200,000
|
-
|
|
|||||
Depreciation
and Amortization
|
417,888
|
554,777
|
||||||
Increase
/ decrease in:
|
||||||||
Accounts
receivable, trade and other
|
1,090,539
|
(1,325,341
|
)
|
|||||
Inventories
|
671,349
|
251,185
|
||||||
Prepaid
expenses and deposits
|
406,246
|
(250,845
|
)
|
|||||
Deferred
revenue
|
(37,099
|
)
|
(109,245
|
)
|
||||
Other
Assets
|
115,379
|
(2,743
|
)
|
|||||
Accounts
payable, accrued expenses, net
|
(951,248
|
)
|
3,559,388
|
|||||
Cash
used in continuing operations
|
(3,010,196
|
)
|
(10,543,735
|
)
|
||||
Cash
used in discontinued operations
|
(1,048,189
|
)
|
(3,445,698
|
)
|
||||
Net
Cash Used In Operating Activities
|
(4,058,385
|
)
|
(13,989,433
|
)
|
||||
Cash
Flows From Investing Activities:
|
||||||||
Purchase
of property and equipment
|
(14,374
|
)
|
(224,175
|
)
|
||||
Investment
in subsidiaries
|
-
|
(4,050,557
|
)
|
|||||
Proceeds
from sale of investment
|
6,000
|
-
|
||||||
Proceeds
from BPL Global
|
-
|
2,000,000
|
||||||
Cash
used in continuing operations
|
(8,374
|
)
|
(2,274,732
|
)
|
||||
Cash
used in discontinued operations
|
(1,128,255
|
)
|
(2,773,485
|
)
|
||||
Net
Cash Used In Investing Activities
|
(1,136,629
|
)
|
(5,048,217
|
)
|
||||
Cash
Flows From Financing Activities:
|
||||||||
Proceeds
from sale of common stock, net of costs and fees
|
1,500,000
|
9,610,003
|
||||||
Proceeds
from issuance of convertible debentures, net of costs
|
3,037,434
|
-
|
||||||
Proceeds
from the issuance of senior notes
|
1,500,000
|
|||||||
Proceeds
from line of credit
|
574,005
|
-
|
||||||
Financing
fees for line of credit and factoring agreement
|
(84,861
|
)
|
-
|
|||||
Repayment
of notes payable
|
(1,500,000
|
)
|
-
|
|||||
Proceeds
from exercise of stock options and warrants
|
-
|
124,460
|
||||||
Repayment
of capital lease and other
|
(7,128
|
)
|
-
|
|||||
Repayments
of subsidiary loans
|
-
|
(201,969
|
)
|
|||||
Cash
provided by continuing operations
|
3,519,450
|
11,032,494
|
||||||
Cash
provided by discontinued operations
|
1,237,438
|
7,082,206
|
||||||
Net
Cash Provided By Financing Activities
|
4,756,888
|
18,114,700
|
||||||
Net (Decrease) In Cash
and Equivalents
|
(438,126
|
)
|
(922,950
|
)
|
||||
Cash
and cash equivalents at the beginning of the year
|
606,618
|
1,529,569
|
||||||
Cash
and cash equivalents at the end of the year
|
$
|
168,492
|
$
|
606,618
|
See
accompanying notes to consolidated financial statements
F-7
TELKONET,
INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS (Continued)
FOR
THE YEARS ENDED DECEMBER 31, 2008 AND 2007
2008
|
2007
|
|||||||
Supplemental
Disclosures of Cash Flow Information:
|
||||||||
Cash
transactions:
|
||||||||
Cash
paid during the period for financing expenses
|
$
|
333,435
|
$
|
4,521
|
||||
Income
taxes paid
|
-
|
-
|
||||||
Non-cash
transactions:
|
||||||||
Stock
options and warrants issued in exchange for services
|
699,639
|
1,225,626
|
||||||
Common
stock issued in exchange for services rendered
|
86,500
|
328,842
|
||||||
Value
of warrant repricing and additional warrants issued
|
2,052,852
|
299,693
|
||||||
Issuance
of shares for purchase of subsidiary (below)
|
-
|
17,286,097
|
||||||
Issuance
of shares for investment in affiliate
|
-
|
4,466,167
|
||||||
Impairment
write-down of goodwill
|
2,380,000
|
-
|
||||||
Impairment
write-down in investment in affiliate
|
4,098,514
|
-
|
||||||
Loss
on derivative liability
|
1,174,121
|
-
|
||||||
Beneficial
conversion feature on convertible debentures
|
720,966
|
-
|
||||||
Value
of warrants attached to convertible debentures
|
678,041
|
-
|
||||||
Value
of warrants attached to senior note
|
254,160
|
-
|
||||||
Value
of common stock received for outstanding accounts
receivable
|
-
|
75,000
|
||||||
Equipment
purchased under capital lease obligations
|
226,185
|
-
|
||||||
Acquisition
of Subsidiaries:
|
||||||||
Assets
acquired
|
-
|
3,052,880
|
||||||
Subscriber
lists
|
-
|
4,781,893
|
||||||
Goodwill
(including purchase price contingency)
|
-
|
15,096,922
|
||||||
Liabilities
assumed
|
-
|
(1,356,415
|
)
|
|||||
Common
stock issued
|
-
|
(17,286,097
|
)
|
|||||
Direct
acquisition costs
|
-
|
(394,183
|
)
|
|||||
Cash
paid for acquisition
|
-
|
3,895,000
|
See
accompanying notes to consolidated financial statements
F-8
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE
A - SUMMARY OF ACCOUNTING POLICIES
A summary
of the significant accounting policies applied in the preparation of the
accompanying consolidated financial statements follows.
Business and Basis of
Presentation
Telkonet,
Inc., formed in 1999 and incorporated under the laws of the state of Utah, has
evolved into a Clean Technology company that develops and manufactures
proprietary energy efficiency and SmartGrid networking technology. Prior to
January 1, 2007, the Company was primarily engaged in the business of
developing, producing and marketing proprietary equipment enabling the
transmission of voice and data communications over electric utility
lines.
In
January 2006, following the acquisition of Microwave Satellite Technologies
(MST), the Company began offering complete sales, installation, and service
of VSAT and business television networks, and became a full-service
national Internet Service Provider (ISP). In 2009, the Company completed the
deconsolidation of MST by reducing its ownership percentage and board
membership. Financial statements and accompanying notes included in
this report include disclosure of the results of operations for MST, for all
periods presented, as discontinued operations.
In March
2007, the Company acquired substantially all of the assets of Smart Systems
International (SSI), a leading provider of energy management products and
solutions to customers in the United States and Canada.
In March
2007, the Company acquired 100% of the outstanding membership units of
EthoStream, LLC, a network solutions integration company that offers
installation, sales and service to the hospitality industry. The EthoStream
acquisition will enable Telkonet to provide installation and support for PLC
products and third party applications to customers across North
America.
The
consolidated financial statements include the accounts of the Company and its
wholly-owned subsidiaries, Telkonet Communications, Inc. and EthoStream, LLC.
Significant intercompany transactions have been eliminated in
consolidation.
In 2009,
the Company completed the deconsolidation of MST by reducing its ownership
percentage and board membership. Financial statements and
accompanying notes included in this report include disclosure of the results of
operations for MST, for all periods presented, as discontinued
operations. These notes to the consolidated financial statements are
presented on a continuing operations basis, except where otherwise
indicated.
Investments
in entities over which the Company has significant influence, typically those
entities that are 20 to 50 percent owned by the Company, are accounted for
using the equity method
of
accounting, whereby the investment is carried at cost of acquisition, plus the
Company’s equity in undistributed earnings or losses since
acquisition.
Going
Concern
The
accompanying consolidated financial statements
have been prepared in conformity with accounting principles generally accepted
in the United States of America, which contemplate continuation of the Company
as a going concern. However, the Company has reported a net loss of
$23,985,539 for the year ended December 31, 2008, accumulated deficit of
$114,801,318 and a working capital deficit of $15,413,891 as of December 31,
2008.
F-9
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
Company believes that anticipated revenues from operations will be insufficient
to satisfy its ongoing capital requirements for at least the next 12
months. If the Company’s financial resources from
operations are insufficient, the Company will
require additional financing in order to execute its operating plan
and continue as a going concern. The Company cannot predict whether
this additional financing will be in the form of equity or debt, or be
in another form. The Company may not be able to obtain the
necessary additional capital on a
timely basis, on acceptable terms, or at
all. In any of these events, the Company may be unable to
implement its current plans for expansion,
repay its debt obligations as they become due,
or respond to competitive pressures, any of
which circumstances would have a material adverse effect on its
business, prospects, financial condition and results of operations.
Management intends
to raise capital through asset-based financing and/or the sale of its stock in
private placements. Management believes that with this financing, the
Company will be able to generate additional revenues that will allow the Company
to continue as a going concern. There can be no assurance that the Company
will be successful in obtaining additional funding.
Concentrations of Credit
Risk
Financial
instruments and related items, which potentially subject the Company to
concentrations of credit risk, consist primarily of cash, cash equivalents and
trade receivables. The Company places its cash and temporary cash investments
with credit quality institutions. At times, such investments may be in excess of
the FDIC insurance limit. The allowance for doubtful accounts was $186,400 and
$111,957 at December 31, 2008 and December 31, 2007, respectively.
Management
identifies a delinquent customer based upon the delinquent payment status of an
outstanding invoice, generally greater than 30 days past due
date. The delinquent account designation does not trigger an
accounting transaction until such time the account is deemed uncollectible. The
allowance for doubtful accounts is determined by examining the reserve history
and any outstanding invoices that are over 30 days past due as of the end of the
reporting period. Accounts are deemed uncollectible on a case-by-case
basis, at management’s discretion based upon an examination of the communication
with the delinquent customer and payment history. Typically, accounts
are only escalated to “uncollectible” status after multiple attempts have been
made to communicate with the customer.
Cash and Cash
Equivalents
For
purposes of the Statements of Cash Flows, the Company considers all highly
liquid debt instruments purchased with an original maturity date of three months
or less to be cash equivalents.
Property and
Equipment
Property
and equipment is stated at cost. Depreciation is calculated using the
straight-line method over the estimated useful lives of the assets. The
estimated useful life ranges from 2 to 10 years.
Goodwill and Other
Intangibles
Goodwill
represents the excess of the cost of businesses acquired over fair value or net
identifiable assets at the date of acquisition. Goodwill is subject to a
periodic impairment assessment by applying a fair value test based upon a
two-step method. The first step of the process compares the fair value of the
reporting unit with the carrying value of the reporting unit, including any
goodwill. The Company utilizes a discounted cash flow valuation methodology to
determine the fair value of the reporting unit. If the fair value of the
reporting unit exceeds the carrying amount of the reporting unit, goodwill is
deemed not to be impaired in which case the second step in the process is
unnecessary. If the carrying amount exceeds fair value, the Company performs the
second step to measure the amount of impairment loss. Any impairment loss is
measured by comparing the implied fair value of goodwill, calculated per SFAS
No. 142, with the carrying amount of goodwill at the reporting unit, with
the excess of the carrying amount over the fair value recognized as an
impairment loss.
F-10
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Fair
Value of Financial Instruments.
In
January 2008, the Company adopted the provisions of SFAS No. 157, “Fair Value
Measurements”,
(“FAS
157”) which defines fair value for
accounting purposes, establishes a framework for measuring fair value and
expands disclosure requirements regarding fair value measurements. The Company’s
adoption of FAS 157 did not have a material impact on its consolidated financial
statements. Fair value is defined as an exit price, which is the price that
would be received upon sale of an asset or paid upon transfer of a liability in
an orderly transaction between market participants at the measurement date. The
degree of judgment utilized in measuring the fair value of assets and
liabilities generally correlates to the level of pricing observability.
Financial assets and liabilities with readily available, actively quoted prices
or for which fair value can be measured from actively quoted prices in active
markets generally have more pricing observability and require less judgment in
measuring fair value. Conversely, financial assets and liabilities that are
rarely traded or not quoted have less price observability and are generally
measured at fair value using valuation models that require more judgment. These
valuation techniques involve some level of management estimation and judgment,
the degree of which is dependent on the price transparency of the asset,
liability or market and the nature of the asset or liability. The Company has
categorized its financial assets and liabilities measured at fair value into a
three-level hierarchy in accordance with
FAS 157.
Long-Lived
Assets
The
Company has adopted Statement of Financial Accounting Standards No. 144 (SFAS
144). The Statement requires that long-lived assets and certain identifiable
intangibles held and used by the Company be reviewed for impairment whenever
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. Events relating to recoverability may include
significant unfavorable changes in business conditions, recurring losses, or a
forecasted inability to achieve break-even operating results over an extended
period. The Company evaluates the recoverability of long-lived assets based upon
forecasted discounted cash flows. Should impairment in value be indicated, the
carrying value of intangible assets will be adjusted, based on estimates of
future discounted cash flows resulting from the use and ultimate disposition of
the asset. SFAS No. 144 also requires assets to be disposed of be reported at
the lower of the carrying amount or the fair value less costs to
sell.
Inventories
Inventories
consist of Telkonet Series 5™ products and the Telkonet iWire System™, which the
primary components are Gateways, Extenders, iBridges and Couplers, and the
primary components of the Telkonet SmartEnergy™ (TSE) and the Networked Telkonet
SmartEnergy™ (NTSE) product suites, which are thermostats, sensors and
controllers. Inventories are stated at the lower of cost or market
determined by the first in, first out (FIFO) method.
Investments
Telkonet
maintained investments in two publicly-traded companies for the year ended
December 31, 2008. The Company has classified these securities as
available for sale. Such securities are carried at fair market
value. Unrealized gains and losses on these securities, if any, are
reported as accumulated other comprehensive income (loss), which is a separate
component of stockholders’ equity. Unrealized losses of $32,750 were
recorded for the year ended December 31, 2008 and there were no unrealized gains
or losses for the year ended December 31, 2007. Realized gains and
losses and declines in value judged to be other than temporary on securities
available for sale, if any, are included in operations. Realized
losses of $4,098,514 were recorded for the year ended December 31,
2008. There were no realized gains or losses for the year ended
December 31, 2007.
Deferred Financing
Costs
Deferred
financing costs are being amortized under the straight-line method over the
terms of the related indebtedness, which approximates the effective interest
method and is included in interest expense in the accompanying consolidated
statements of operations.
Income
Taxes
The
Company has implemented the provisions on Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes" (SFAS 109). SFAS 109 requires
that income tax accounts be computed using the liability method. Deferred taxes
are determined based upon the estimated future tax effects of differences
between the financial reporting and tax reporting bases of assets and
liabilities given the provisions of currently enacted tax laws.
F-11
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
In June
2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in
Income Taxes-an interpretation of FASB Statement No. 109 ("FIN 48").
FIN 48 prescribes 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 also provides guidance on
derecognition, classification, treatment of interest and penalties, and
disclosure of such positions. Effective January 1, 2007, the Company
adopted the provisions of FIN 48, as required. As a result of implementing FIN
48, there has been no adjustment to the Company’s financial statements and the
adoption of FIN 48 did not have a material effect on the Company’s consolidated
financial statements for the year ending December 31, 2008.
Net Loss per Common
Share
The
Company computes earnings per share under Financial Accounting Standard No. 128,
"Earnings Per Share" (SFAS 128). Net loss per common share is computed by
dividing net loss by the weighted average number of shares of common stock and
dilutive common stock equivalents outstanding during the year. Dilutive common
stock equivalents consist of shares issuable upon conversion of convertible
notes and the exercise of the Company's stock options and warrants (calculated
using the treasury stock method). During 2008 and 2007 common stock equivalents
are not considered in the calculation of the weighted average number of common
shares outstanding because they would be anti-dilutive, thereby decreasing the
net loss per common share.
Use of
Estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect certain reported amounts and disclosures. Accordingly, actual results
could differ from those estimates.
Revenue
Recognition
For
revenue from product sales, the Company recognizes revenue in accordance with
Staff Accounting Bulletin No. 104, Revenue Recognition
(“SAB104”), which includes the provisions of Staff Accounting Bulletin
No. 101, Revenue
Recognition in Financial Statements (“SAB101”). SAB 101 requires that
four basic criteria must be met before revenue can be recognized: (1) persuasive
evidence of an arrangement exists; (2) delivery has occurred; (3) the selling
price is fixed and determinable; and (4) collectibility is reasonably assured.
Determination of criteria (3) and (4) are based on management’s judgments
regarding the fixed nature of the selling prices of the products delivered and
the collectibility of those amounts. Provisions for discounts and rebates to
customers, estimated returns and allowances, and other adjustments are provided
for in the same period the related sales are recorded. The Company defers any
revenue for which the product has not been delivered or is subject to refund
until such time that the Company and the customer jointly determine that the
product has been delivered or no refund will be required. SAB 104 incorporates
Emerging Issues Task Force 00-21 (“EITF 00-21”), Multiple-Deliverable Revenue
Arrangements. EITF 00-21 addresses accounting for arrangements that may
involve the delivery or performance of multiple products, services and/or rights
to use assets.
For
equipment under lease, revenue is recognized over the lease term for operating
lease and rental contracts. All of the Company’s leases are accounted for as
operating leases. At the inception of the lease, no lease revenue is recognized
and the leased equipment and installation costs are capitalized and appear on
the balance sheet as “Equipment Under Operating Leases.” The capitalized cost of
this equipment is depreciated from two to three years, on a straight-line basis
down to the Company’s original estimate of the projected value of the equipment
at the end of the scheduled lease term. Monthly lease payments are recognized as
rental income. The Company has sold a portion of its lease portfolio in December
2005 and substantially all the remaining portfolio during 2006. The related
equipment was charged to cost of sales commensurate with the associated revenue
recognition (Note F).
Revenue
from sales-type leases for EthoStream products is recognized at the time of
lessee acceptance, which follows installation. The Company recognizes revenue
from sales-type leases at the net present value of future lease payments.
Revenue from operating leases is recognized ratably over the lease period
F-12
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Guarantees and Product
Warranties
FASB
Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others” (“FIN 45”),
requires that upon issuance of a guarantee, the guarantor must disclose and
recognize a liability for the fair value of the obligation it assumes under that
guarantee.
The
Company’s guarantees were issued subject to the recognition and disclosure
requirements of FIN 45 as of December 31, 2008 and 2007. The Company records a
liability for potential warranty claims. The amount of the liability is based on
the trend in the historical ratio of claims to sales, the historical length of
time between the sale and resulting warranty claim, new product introductions
and other factors. The products sold are generally covered by a warranty for a
period of one year. In the event the Company determines that its current or
future product repair and replacement costs exceed its estimates, an adjustment
to these reserves would be charged to earnings in the period such determination
is made. During the year ended December 31, 2008 and 2007, the Company
experienced approximately three percent of units returned. As of December 31,
2008 and 2007, the Company recorded warranty liabilities in the amount of
$146,951 and $102,534, respectively, using this experience factor.
Advertising
The
Company follows the policy of charging the costs of advertising to expenses
incurred. The Company incurred $92,410 and $592,313 in advertising costs during
the years ended December 31, 2008 and 2007, respectively.
Research and
Development
The
Company accounts for research and development costs in accordance with the
Financial Accounting Standards Board's Statement of Financial Accounting
Standards No. 2 ("SFAS 2"), "Accounting for Research and Development Costs.”
Under SFAS 2, all research and development costs must be charged to expense as
incurred. Accordingly, internal research and development costs are expensed as
incurred. Third-party research and developments costs are expensed when the
contracted work has been performed or as milestone results have been achieved.
Company-sponsored research and development costs related to both present and
future products are expensed in the period incurred. Total expenditures on
research and product development for 2008 and 2007 were $2,036,129 and
$2,349,690, respectively.
Comprehensive
Income
Statement
of Financial Accounting Standards No. 130 ("SFAS 130"), "Reporting Comprehensive
Income," establishes standards for reporting and displaying of comprehensive
income, its components and accumulated balances. Comprehensive income is defined
to include all changes in equity except those resulting from investments by
owners and distributions to owners. Among other disclosures, SFAS 130 requires
that all items that are required to be recognized under current accounting
standards as components of comprehensive income be reported in a financial
statement that is displayed with the same prominence as other financial
statements.
Stock Based
Compensation
On
January 1, 2006, the Company adopted Statement of Financial Accounting Standards
No. 123 (revised 2004), “Share-Based Payment,” (“SFAS 123(R)”) which
requires the measurement and recognition of compensation expense for all
share-based payment awards made to employees and directors including employee
stock options based on estimated fair values. SFAS 123(R) supersedes the
Company’s previous accounting under Accounting Principles Board Opinion
No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) for periods
beginning in fiscal 2006. In March 2005, the Securities and Exchange Commission
issued Staff Accounting Bulletin No. 107 (“SAB 107”) relating to SFAS
123(R). The Company has applied the provisions of SAB 107 in its adoption of
SFAS 123(R).
F-13
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
SFAS
123(R) requires companies to estimate the fair value of share-based payment
awards on the date of grant using an option-pricing model. The value of the
portion of the award that is ultimately expected to vest is recognized as
expense over the requisite service periods in the Company’s Consolidated
Statement of Operations. The Company is using the Black-Scholes option-pricing
model as its method of valuation for share-based awards. The Company’s
determination of fair value of share-based payment awards on the date of grant
using an option-pricing model is affected by the Company’s stock price as well
as assumptions regarding a number of highly complex and subjective variables.
These variables include, but are not limited to the Company’s expected stock
price volatility over the term of the awards, and certain other market variables
such as the risk free interest rate.
The
expected term of the options represents the estimated period of time until
exercise and is based on historical experience of similar awards, giving
consideration to the contractual terms, vesting schedules and expectations of
future employee behavior. For 2008 and prior years, expected stock price
volatility is based on the historical volatility of the Company’s stock for the
related vesting periods.
Stock-based
compensation expense recognized under SFAS 123(R) for the years ended December
31, 2008 and 2007 was $699,639 and $1,225,626, respectively, net of tax
effect.
Reclassifications
Certain
reclassifications have been made in prior year's financial statements to conform
to classifications used in the current year.
New Accounting
Pronouncements
In June
2008, the FASB issued Emerging Issues Task Force No. 07-5 (EITF 07-5),
Determining Whether an
Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock.
EITF 07-5 requires entities to evaluate whether an equity-linked financial
instrument (or embedded feature) is indexed to its own stock by assessing the
instrument’s contingent exercise provisions and settlement provisions.
Instruments not indexed to their own stock fail to meet the scope exception of
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities, paragraph 11(a), and should be
classified as a liability and marked-to-market. The statement is effective for
fiscal years beginning after December 15, 2008 and is to be applied to
outstanding instruments upon adoption with the cumulative effect of the change
in accounting principle recognized as an adjustment to the opening balance of
retained earnings. The Company is currently evaluating the provisions of EITF
07-5.
In
February 2007, the FASB issued Statement of Financial Accounting Standards
(“SFAS”) No. 159, The Fair
Value Option for Financial Assets and Financial Liabilities-Including an
Amendment of FASB Statement No. 115 (“SFAS 159”). SFAS 159
permits entities to measure eligible assets and liabilities at fair
value. Unrealized gains and losses on items for which the fair value
option has been elected are reported in earnings. SFAS 159 is
effective for fiscal years beginning after November 15, 2007. We
adopted SFAS 159 on January 1, 2008 and did not elect the fair value option
which did not have a material impact on our financial position and results of
operations.
In
December 2007, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 141R, Business Combinations , and
Statement of Financial Accounting Standards No. 160, Noncontrolling Interests in
Consolidated Financial Statements,an amendment of ARB No. 51
. These new standards significantly change the accounting for and
reporting of business combination transactions and noncontrolling interests
(previously referred to as minority interests) in consolidated financial
statements. Both standards are effective for fiscal years beginning on or
after December 15, 2008, with early adoption prohibited. These Statements are
effective for the Company beginning on January 1, 2009. The Company is
currently evaluating the provisions of FAS 141(R) and FAS 160.
F-14
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
In March 2008, the Financial
Accounting Standards Board (FASB) issued Statement No. 161, Disclosures about Derivative
Instruments and Hedging Activities - an amendment of FASB Statement No.
133 (SFAS 161). SFAS 161 requires companies to provide
enhanced disclosures regarding derivative instruments and hedging activities and
requires companies to better convey the purpose of derivative use in terms of
the risks they intend to manage. Disclosures about (a) how and why an entity
uses derivative instruments, (b) how derivative instruments and related hedged
items are accounted for under SFAS No. 133 and its related interpretations, and
(c) how derivative instruments and related hedged items affect a company’s
financial position, financial performance, and cash flows are required. This
Statement retains the same scope as SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, and is effective for fiscal years and
interim periods beginning after November 15, 2008. We do not expect the adoption
of SFAS No. 161 to have a material impact, if any, on our consolidated financial
statements.
In
February 2008, the FASB issued a FASB Staff Position (FSP) on Accounting for Transfers of
Financial Assets and Repurchase Financing Transactions (FSP FAS 140-3).
This FSP addresses the issue of whether the transfer of financial assets and the
repurchase financing transactions should be viewed as two separate transactions
or as one linked transaction. The FSP includes a rebuttable presumption that the
two transactions are linked unless the presumption can be overcome by meeting
certain criteria. The FSP will be effective for fiscal years beginning after
November 15, 2008 and will apply only to original transfers made after that
date; early adoption will not be allowed. We do not expect the adoption of FSP
FAS 140-3 to have a material impact, if any, on our consolidated financial
statements.
In April
2008, the FASB issued FSP No. 142-3, “Determination of the Useful Life of
Intangible Assets” (“FSP 142-3”). FSP 142-3 amends the factors an entity should
consider in developing renewal or extension assumptions used in determining the
useful life of recognized intangible assets under FASB Statement No. 142,
“Goodwill and Other Intangible Assets”. This new guidance applies prospectively
to intangible assets that are acquired individually or with a group of other
assets in business combinations and asset acquisitions. FSP 142-3 is effective
for financial statements issued for fiscal years and interim periods beginning
after December 15, 2008. Early adoption is prohibited. The Company does not
expect the adoption of FSP 142-3 to have a significant impact on its
consolidated financial statements.
In May
2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles” (“SFAS 162”). SFAS 162 identifies the sources of
accounting principles and the framework for selecting the principles used in the
preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (the GAAP
hierarchy). SFAS 162 will become effective 60 days following the SEC’s approval
of the Public Company Accounting Oversight Board amendments to AU Section 411,
“The Meaning of Present Fairly in Conformity With Generally Accepted Accounting
Principles.” The Company does not expect the adoption of SFAS 162 to have a
material effect on its results of operations and financial
condition.
In May
2008, the FASB issued FSP Accounting Principles Board (“APB”) 14-1 “Accounting
for Convertible Debt instruments That May Be Settled in Cash upon Conversion
(Including Partial Cash Settlement)” (“FSP APB 14-1”). FSP APB 14-1 requires the
issuer of certain convertible debt instruments that may be settled in cash (or
other assets) on conversion to separately account for the liability (debt) and
equity (conversion option) components of the instrument in a manner that
reflects the issuer’s non-convertible debt borrowing rate. FSP APB 14-1 is
effective for fiscal years beginning after December 15, 2008 on a retroactive
basis. The Company does not expect the adoption of FSP APB 14-1 will have
significant effect on its results of operations and financial
condition.
NOTE
B - ACQUISITION OF SUBSIDIARY
Acquisition of Smart Systems
International, Inc.
On March
9, 2007, the Company acquired substantially all of the assets of Smart Systems
International (SSI), a leading provider of energy management products and
solutions to customers in the United States and Canada for cash and Company
common stock having an aggregate value of $6,875,000. The purchase price was
comprised of $875,000 in cash and 2,227,273 shares of the Company’s common
stock. The Company is obligated to register the stock portion of the purchase
price on or before May 15, 2007 and on March 14, 2008, this registration
statement was declared effective. Additionally, 1,090,909 of these
shares were held in an escrow account for a period of one year following the
closing from which certain potential indemnification obligations under the
purchase agreement could be satisfied. The aggregate number of shares held in
escrow was subject to adjustment upward or downward depending upon the trading
price of the Company’s common stock during the one year period following the
closing date. On March 12, 2008, the Company released these
shares from escrow and issued an additional 1,882,225 shares on June 12,
2008 pursuant to the adjustment provision in the SSI asset purchase
agreement.
F-15
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
acquisition of SSI was accounted for using the purchase method in accordance
with SFAS 141, “Business Combinations.” The value of the Company’s common stock
issued as a part of the acquisition was determined based on the most recent
price of the Company's common stock on the day immediately preceding the
acquisition date. The results of operations for SSI have been included in the
Consolidated Statements of Operations since the date of acquisition. The
components of the purchase price were as follows:
As
Reported
|
||||
Common
stock
|
$
|
6,000,000
|
||
Cash
|
875,000
|
|||
Direct
acquisition costs
|
131,543
|
|||
Total
Purchase Price
|
$
|
7,006,543
|
In
accordance with Financial Accounting Standard (SFAS) No. 141, Business
Combinations, the total purchase price was allocated to the estimated fair value
of assets acquired and liabilities assumed. The fair value of the assets
acquired was based on management’s best estimates. The purchase price was
allocated to the fair value of assets acquired and liabilities assumed as
follows:
Current
assets
|
$
|
1,646,054
|
||
Property,
plant and equipment
|
36,020
|
|||
Other
assets
|
8,237
|
|||
Goodwill
|
5,874,016
|
|||
Total
assets acquired
|
7,564,327
|
|||
Accounts
payable and accrued liabilities
|
(557,784
|
)
|
||
Total
liabilities assumed
|
(557,784
|
)
|
||
Net
assets acquired
|
$
|
7,006,543
|
Goodwill
represents the excess of the purchase price over the fair value of the net
tangible assets acquired. In accordance with SFAS 142, goodwill is
not amortized and will be tested for impairment at least annually. We
completed our annual impairment testing during the fourth quarter of 2008, and
determined that there was no impairment to the carrying value of
goodwill.
Acquisition of EthoStream
LLC
On March
15, 2007, the Company acquired 100% of the outstanding membership units of
EthoStream, LLC, a network solutions integration company that offers
installation, sales and service to the hospitality industry. The EthoStream
acquisition will enable Telkonet to provide installation and support for PLC
products and third party applications to customers across North America. The
purchase price of $11,756,097 was comprised of $2.0 million in cash and
3,459,609 shares of the Company’s common stock. The entire stock portion of the
purchase price is being held in escrow to satisfy certain potential
indemnification obligations of the sellers under the purchase agreement. The
shares held in escrow are distributable over the three years following the
closing. If during the twelve months following the Closing, the common
stock has a volume-weighted average trading price of at least $4.50, as reported
on the American Stock Exchange, for twenty (20) consecutive trading days, the
aggregate number of shares of common stock issuable to the sellers shall be
adjusted such that the number of shares of common stock issuable as the stock
consideration shall be determined assuming a per share price equal to
$4.50.
F-16
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
acquisition of EthoStream was accounted for using the purchase method in
accordance with SFAS 141, “Business Combinations.” The value of the Company’s
common stock issued as a part of the acquisition was determined based on the
most recent price of the Company's common stock prior to the acquisition date.
The results of operations for EthoStream have been included in the Consolidated
Statements of Operations since the date of acquisition. The components of
the purchase price were as follows:
As
Reported
|
||||
Common
stock
|
$
|
9,756,097
|
||
Cash
|
2,000,000
|
|||
Direct
acquisition costs
|
164,346
|
|||
Total
Purchase Price
|
$
|
11,920,443
|
In
accordance with Financial Accounting Standard (SFAS) No. 141, Business
Combinations, the total purchase price was allocated to the estimated fair value
of assets acquired and liabilities assumed. The fair value of the assets
acquired was based on management’s best estimates. The purchase price was
allocated to the fair value of assets acquired and liabilities assumed as
follows:
Current
assets
|
$
|
949,308
|
||
Property,
plant and equipment
|
51,724
|
|||
Other
assets
|
21,603
|
|||
Subscriber
lists
|
2,900,000
|
|||
Goodwill
|
8,796,439
|
|||
Total
assets acquired
|
12,719,074
|
|||
Accounts
payable and accrued liabilities
|
(798,631
|
)
|
||
Total
liabilities assumed
|
(798,631
|
)
|
||
Net
assets acquired
|
$
|
11,920,443
|
Goodwill
and other intangible assets represent the excess of the purchase price over the
fair value of the net tangible assets acquired. The Company used a discounted
cash flow model to determine the value of the intangible assets and to allocate
the excess purchase price to the intangible assets and goodwill as appropriate.
In this model, expected cash flows from subscribers were discounted to their
present value at a rate of return of 20% (incorporating the risk-free rate,
expected inflation, and related business risks) over a period of twelve years.
Expected costs such as income taxes and cost of sales were deducted from
expected revenues to arrive at after tax cash flows. In accordance with SFAS
142, goodwill is not amortized and will be tested for impairment at least
annually.
The
subscriber list was valued at $2,900,000 with an estimated useful life of twelve
years. This intangible was amortized using that life, and amortization from the
date of the acquisition through December 31, 2008, was taken as a charge against
income in the consolidated statement of operations.
In
accordance with SFAS 142, goodwill is not amortized and will be tested for
impairment at least annually. At December 31, 2008, the Company
performed an impairment test on the goodwill. Based upon management’s assessment
of operating results and forecasted discounted cash flow, the carrying value of
goodwill was determined to be impaired and therefore $2,000,000 was written off
during the year ended December 31, 2008.
F-17
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
following unaudited condensed combined pro forma results of operations reflect
the pro forma combination of SSI and EthoStream businesses as if the combination
had occurred at the beginning of the periods presented compared with the actual
results of operations of Telkonet for the same period. The unaudited pro forma
condensed combined results of operations do not purport to represent what the
companies’ combined results of operations would have been if such transaction
had occurred at the beginning of the periods presented, and are not necessarily
indicative of Telkonet’s future results.
Year
Ended December 31, 2007
|
||||||||||||
As
Reported
|
Pro
Forma Adjustments
|
Pro
Forma
|
||||||||||
Revenues
|
$
|
11,476,983
|
$
|
1,321,292
|
$
|
12,798,275
|
||||||
Loss
from continuing operations
|
$
|
(13,270,724
|
)
|
$
|
(266,917
|
) |
$
|
(13,537,641
|
)
|
|||
Loss
per share from continuing operations – basic and diluted
|
$
|
(0.20
|
)
|
$
|
(0.01
|
) |
$
|
(0.21
|
)
|
|||
Weighted
average common shares outstanding – basic and diluted
|
65,414,875
|
722,103
|
66,136,978
|
NOTE
C - INTANGIBLE ASSETS AND GOODWILL
As a
result of the EthoStream acquisition on March 15, 2007 the Company had
intangibles totaling $2,900,000 at December 31, 2008 (Note B).
We used a
discounted cash flow model to determine the value of the intangible assets and
to allocate the excess purchase price to the intangible assets and goodwill as
appropriate. In this model, expected cash flows from subscribers were discounted
to their present value at a rate of return of 20% (incorporating the risk-free
rate, expected inflation, and related business risks) over a determined length
of life year. Expected costs such as income taxes and cost of sales were
deducted from expected revenues to arrive at after tax cash flows.
We have
applied the same discounted cash flow methodology to the assessment of value of
the intangible assets of EthoStream, LLC, during the acquisition completed on
March 15, 2007, for purposes of determining the purchase price.
Total
identifiable intangible assets acquired and their carrying values at December
31, 2007 are:
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net
|
Residual
Value
|
Weighted
Average Amortization Period (Years)
|
||||||||||||||||
Amortized
Identifiable Intangible Assets:
|
||||||||||||||||||||
Subscriber
lists - EthoStream
|
$
|
2,900,000
|
$
|
(191,320
|
)
|
$
|
2,708,680
|
$
|
- |
12.0
|
||||||||||
Total
Amortized Identifiable Intangible Assets
|
2,900,000
|
(191,320
|
)
|
2,708,680
|
-
|
12.0
|
||||||||||||||
Goodwill
- EthoStream
|
8,796,440
|
-
|
8,796,440
|
-
|
||||||||||||||||
Goodwill
- SSI
|
5,874,015
|
-
|
5,874,015
|
-
|
||||||||||||||||
Total
|
$
|
17,570,455
|
$
|
(191,320
|
)
|
$
|
17,379,135
|
$
|
-
|
F-18
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Total
identifiable intangible assets acquired and their carrying values at December
31, 2008 are:
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net
|
Residual
Value
|
Weighted
Average
Amortization
Period
(Years)
|
||||||||||||||||
Amortized
Identifiable Intangible Assets:
|
||||||||||||||||||||
Subscriber
lists - EthoStream
|
$
|
2,900,000
|
$
|
(432,986
|
)
|
$
|
2,467,014
|
$
|
-
|
12.0
|
||||||||||
Total
Amortized Identifiable Intangible Assets
|
2,900,000
|
(432,986
|
)
|
2,467,014
|
-
|
9.6
|
||||||||||||||
Goodwill
- EthoStream
|
8,796,439
|
(2,000,000
|
)
|
6,796,439
|
-
|
|||||||||||||||
Goodwill
- SSI
|
5,874,016
|
-
|
5,874,016
|
-
|
||||||||||||||||
Total
|
$
|
17,570,455
|
$
|
(2,432,985
|
)
|
$
|
15,137,469
|
$
|
-
|
Total
amortization expense charged to operations for the year ended December 31,
2008 and 2007 was $241,666 and $191,320, respectively. Estimated amortization
expense as of December 31, 2008 is as follows:
Years
Ended December 31,
|
||||
2009
|
$
|
241,667
|
||
2010
|
241,667
|
|||
2011
|
241,667
|
|||
2012
|
241,667
|
|||
2013
and after
|
1,500,348
|
|||
Total
|
$
|
2,467,014
|
The
Company does not amortize goodwill. The Company recorded goodwill in the amount
of $14,670,455 as a result of the acquisitions of EthoStream and SSI during the
year ended December 31, 2007. At December 31, 2008, the Company has
determined that a portion of the value of EthoStream’s goodwill has been
impaired based upon management’s assessment of operating results and forecasted
discounted cash flow and has written off $2,000,000 of its
value. During the year ended December 31, 2008, the Company recorded
a goodwill impairment charge of $380,000 related to the additional shares issued
upon the release of the purchase price contingency escrow with the MSTI
acquisition.
NOTE
D - ACCOUNTS RECEIVABLE
Components
of accounts receivable as of December 31, 2008 and 2007 are as
follows:
2008
|
2007
|
|||||||
Accounts
receivable (factored)
|
$
|
1,961,535
|
$
|
-
|
||||
Advances
from factor
|
(1,075,879
|
)
|
-
|
|||||
Due
from factor
|
885,656
|
-
|
||||||
Accounts
receivable (non-factored)
|
127,080
|
1,995,449
|
||||||
Allowance
for doubtful accounts
|
(176,400
|
)
|
(101,957)
|
|||||
Total
|
$
|
836,336
|
$
|
1,893,492
|
F-19
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
In
February 2008, the Company entered into a factoring agreement to sell, without
recourse, certain receivables to an unrelated third party financial institution
in an effort to accelerate cash flow. Under the terms of the
factoring agreement the maximum amount of outstanding receivables at any one
time is $2.5 million. Proceeds on the transfer reflect the face value
of the account less a discount. The discount is recorded as interest
expense in the Consolidated Statement of Operations in the period of the
sale. Net funds received reduced accounts receivable outstanding
while increasing cash. Fees paid pursuant to this arrangement are
included in “Financing expense” in the Consolidated Statement of Operations and
amounted to $237,813 for the year ended December 31, 2008. The amounts borrowed
are collateralized by the outstanding accounts receivable, and are reflected as
a reduction to accounts receivable in the accompanying consolidated balance
sheets.
NOTE E - INVENTORIES
Components
of inventories as of December 31, 2008 and 2007 are as follows:
2008
|
2007
|
|||||||
Raw
Materials
|
$
|
843,978
|
$
|
928,739
|
||||
Finished
Goods
|
1,089,962
|
1,649,345
|
||||||
Reserve
for Obsolescence
|
(200,000
|
)
|
-
|
|||||
Total
|
$
|
1,733,940
|
$
|
2,578,084
|
NOTE F -
OTHER CURRENT ASSETS
Components
of other current assets as of December 31, 2008 and 2007 are as
follows:
2008
|
2007
|
|||||||
Investment
in sales-type lease - current
|
$
|
10,270
|
$
|
16,501
|
||||
Prepaid
expenses and deposits
|
220,269
|
422,149
|
||||||
Total
|
$
|
230,539
|
$
|
438,650
|
EthoStream,
LLC’s net investment in sales-type leases, included in other assets, as of
December 31, 2008 and 2007 consists of the following:
2008
|
2007
|
|||||||
Total
Minimum Lease Payments to be Received
|
$
|
11,709
|
$
|
30,000
|
||||
Less:
Unearned Interest Income
|
(540
|
)
|
(2,330
|
)
|
||||
Net
Investment in Sales-Type Leases
|
11,169
|
27,670
|
||||||
Less:
Current Maturities
|
(10,270
|
)
|
(16,501
|
)
|
||||
Non-Current
Portion
|
$
|
899
|
$
|
11,169
|
Aggregate
future minimum lease payments to be received under the above leases are as
follows as of December 31, 2008:
2009
|
10,797
|
|||
2010
|
912
|
|||
2011
|
-
|
|||
$
|
11,709
|
F-20
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE G
- PROPERTY AND EQUIPMENT
The
Company’s property and equipment at December 31, 2008 and 2007 consists of the
following:
2008
|
2007
|
|||||||
Telecommunications
and related equipment
|
117,493
|
313,941
|
||||||
Development
Test Equipment
|
153,484
|
153,487
|
||||||
Computer
Software
|
160,894
|
160,894
|
||||||
Leasehold
Improvements
|
248,778
|
248,778
|
||||||
Office
Equipment
|
382,851
|
426,813
|
||||||
Office
Fixtures and Furniture
|
265,318
|
288,307
|
||||||
Total
|
1,328,818
|
1,592,220
|
||||||
Accumulated
Depreciation
|
(925,225
|
)
|
(971,424
|
)
|
||||
$
|
403,593
|
$
|
620,796
|
NOTE H -
MARKETABLE SECURITIES
Geeks on Call America,
Inc.
On
October 19, 2007, the Company completed the acquisition of approximately 30.0%
of the issued and outstanding shares of common stock of Geeks on Call America,
Inc. (“GOCA”), the nation's premier provider of on-site computer services.
Under the terms of the stock purchase agreement, the Company acquired
approximately 1,160,043 shares of GOCA common stock from several GOCA
stockholders in exchange for 2,940,200 shares of the Company’s common stock for
total consideration valued at approximately $4.5 million. The number of shares
issued in connection with this transaction was determined using a per share
price equal to the average closing price of the Company’s common stock on the
American Stock Exchange (AMEX) during the ten trading days immediately preceding
the closing date. The number of shares was subject to adjustment on the date the
Company filed a registration statement for the shares issued in this
transaction, which occurred on April 25, 2008. The increase or decrease to the
number of shares issued was determined using a per share price equal to the
average closing price of the Company’s common stock on the AMEX during the ten
trading days immediately preceding the date the registration statement was
filed. The Company accounted for this investment under the cost
method, as the Company does not have the ability to exercise significant
influence over operating and financial policies of GOCA. On April 30,
2008, Telkonet issued an additional 3,046,425 shares of its common stock to the
sellers of GOCA to satisfy the adjustment provision.
On
February 8 2008, Geeks on Call Acquisition Corp., a newly formed, wholly-owned
subsidiary of Geeks On Call Holdings, Inc., (formerly Lightview, Inc.) merged
with Geeks on Call America, Inc (“GOCA”). As a result of the merger, the
Company’s common stock in GOCA was exchanged for shares of common stock of Geeks
on Call Holdings Inc. Immediately following the merger, Geeks on Call
Holdings Inc. completed a private placement of its common stock for aggregate
gross proceeds of $3,000,000. As a result of this transaction, the Company’s 30%
interest in GOCA became an 18% interest in Geeks on Call Holdings
Inc. The Company has determined that its investment in GOCA is
impaired because it believes that the fair market value of GOCA has permanently
declined. Accordingly, the Company wrote-off $4,098,514 during
the year ended December 31 2008. The remaining value of this
investment amounted to $367,643 as of December 31, 2008.
F-21
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Multiband
Corporation
In
connection with a payment of $75,000 of accounts receivable, the company
received 30,000 shares of common stock of Multiband Corporation, a
Minnesota-based communication services provider to multiple dwelling
units. The Company classifies this security as available for sale,
and is carried at fair market value. During the year ended December
31, 2008, the Company recorded a loss of $6,500 on the sale of 5,000 shares of
its investment in Multiband. In addition, the Company recorded an
unrealized loss of $32,750 due to a temporary decline in value of this
security. The remaining value of this investment amounted to $29,750
as of December 31, 2008.
NOTE I -
OTHER LONG TERM ASSETS
Components
of other long term assets as of December 31, 2008 and 2007 are as
follows:
2008
|
2007
|
|||||||
Long-term
investments
|
$
|
8,000
|
$
|
8,000
|
||||
Investments
in sales-type leases – non current
|
899
|
11,169
|
||||||
Deposits
and other
|
89,908
|
145,085
|
||||||
Total
|
$
|
98,807
|
$
|
164,254
|
Long-term
investments held during the years ended December 31, 2008 and 2007 included the
following:
Amperion,
Inc.
On
November 30, 2004, the Company entered into a Stock Purchase Agreement
(“Agreement”) with Amperion, Inc. ("Amperion"), a privately held company.
Amperion is engaged in the business of developing networking hardware and
software that enables the delivery of high-speed broadband data over
medium-voltage power lines. Pursuant to the Agreement, the Company invested
$500,000 in Amperion in exchange for 11,013,215 shares of Series A Preferred
Stock for an equity interest of approximately 0.8%. The Company has the right to
appoint one person to Amperion’s seven-person board of directors. The Company
accounted for this investment under the cost method, as the Company does not
have the ability to exercise significant influence over operating and financial
policies of the investee. The carrying value of the Company’s investment in
Amperion is $8,000 at December 31, 2008 and 2007.
BPL
Global, Ltd.
On
February 4, 2005, the Company’s Board of Directors approved an investment in BPL
Global, Ltd. (“BPL Global”), a privately held company. The Company funded an
aggregate of $131,000 as of December 31, 2005 and additional $44 during the year
of 2006. This investment represents an equity interest of approximately 4.67% at
December 31, 2006. The fair value of the Company's investment in BPL Global,
Ltd. amounted $131,044 as of December 31, 2006. On November 7, 2007,
the Company completed the sale of its investment in BPL Global, Ltd for
$2,000,000 in cash to certain existing stockholders of BPL Global. The Company
recorded $1,868,956 of gain on sale of the investment.
F-22
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE J
- ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts
payable and accrued liabilities at December 31, 2008 and 2007 are as
follows:
2008
|
2007
|
|||||||
Accounts
payable
|
$
|
2,561,213
|
$
|
3,339,670
|
||||
Accrued
expenses and liabilities
|
826,276
|
1,221,507
|
||||||
Accrued
payroll and payroll taxes
|
832,593
|
815,357
|
||||||
Accrued
interest
|
190,224
|
40,000
|
||||||
Warranty
|
146,951
|
102,534
|
||||||
Other
accrued expenses
|
-
|
-
|
||||||
Total
|
$
|
4,557,257
|
$
|
5,519,068
|
NOTE K -
LINE OF CREDIT
In
September 2008, the Company entered into a two-year line of credit facility with
a third party financial institution. The line of credit has an
aggregate principal amount of $1,000,000 and is secured by the Company’s
inventory. The outstanding principal balance bears interest at the
greater of (i) the Wall Street Journal Prime Rate plus nine (9%) percent per
annum, adjusted on the date of any change in such prime or base rate, or (ii)
Sixteen percent (16%). Interest, computed on a 365/360 simple
interest basis, and fees on the credit facility are payable monthly in arrears
on the last day of each month and continuing on the last day of each month until
the maturity date. The Company may prepay amounts outstanding under
the credit facility in whole or in part at any time. In the event of
such prepayment, the lender will be entitled to receive a prepayment fee of four
percent (4.0%) of the highest aggregate loan commitment amount if prepayment
occurs before the end of the first year and three percent (3.0%) if prepayment
occurs thereafter. The outstanding borrowing under the agreement at
December 31, 2008 was $574,005. The Company has incurred interest
expense of $22,374 related to the line of credit for the year ended December 31,
2008. The Prime Rate was 3.25% at December 31, 2008.
On
February 19, 2009, the Company received a notice of waiver from Thermo Credit
LLC on the tangible net worth requirement, as defined item D(10)b of the line of
credit agreement. The waiver is in effect as of December 31, 2008 and
for the 90 day period thereafter.
NOTE L
- SENIOR CONVERTIBLE DEBENTURES AND SENIOR NOTES PAYABLE
Senior Convertible
Debenture
A summary
of convertible debentures payable at December 31, 2008 and December 31, 2007 is
as follows:
December
31, 2008
|
December
31, 2007
|
|||||||
Senior
Convertible Debentures, accrue interest at 13% per annum and mature on May
29, 2011
|
$
|
2,136,650
|
$
|
-
|
||||
Debt
Discount - beneficial conversion feature, net of accumulated amortization
of $295,508 and $0 at December 31, 2008 and December 31, 2007,
respectively.
|
(425,458
|
)
|
-
|
|||||
Debt
Discount - value attributable to warrants attached to notes, net of
accumulated amortization of $277,913 and $0 at December 31, 2008 and
December 31, 2007, respectively.
|
(400,127
|
)
|
-
|
|||||
Total
|
$
|
1,311,065
|
$
|
-
|
||||
Less:
current portion
|
-
|
-
|
||||||
$
|
1,311,065
|
$
|
-
|
F-23
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
On May
30, 2008, the Company entered into a Securities Purchase Agreement with YA
Global Investments, L.P. (the “Buyer”) pursuant to which the Company agreed to
issue and sell to the Buyer up to $3,500,000 of secured convertible debentures
(the “Debentures”) and warrants to purchase (the “Warrants”) up to 2,500,000
shares of the Company’s Common Stock, par value $0.001 per share (the “Common
Stock”). The sale of the Debentures and Warrants was effectuated in
three separate closings, the first of which occurred on May 30, 2008, and the
remainder of which occurred in June 2008. At the May 30, 2008
closing, the Company sold Debentures having an aggregate principal value of
$1,500,000 and Warrants to purchase 2,100,000 shares of Common
Stock. In July 2008, the Company sold the remaining Debentures having
an aggregate principal value of $2,000,000 and Warrants to purchase 400,000
shares of Common Stock.
During
the year ended December 31, 2008, $1,363,350 of the debt has been converted to
equity. Accordingly, as of December 31, 2008, the Company has
$2,136,650 outstanding in convertible debentures. During the year ended December
31, 2008, the $1,363,350 of convertible debentures was converted into 7,324,057
shares of common stock.
The
Debentures accrue interest at a rate of 13% per annum and mature on May 29,
2011. The Debentures may be redeemed at any time, in whole or in
part, by the Company upon payment by the Company of a redemption premium equal
to 15% of the principal amount of Debentures being redeemed, provided that an
Equity Conditions Failure (as defined in the Debentures) is not occurring at the
time of such redemption. The Buyer may also convert all or a portion
of the Debentures at any time at a price equal to the lesser of (i) $0.58, or
(ii) ninety percent (90%) of the lowest volume weighted average price of the
Company’s Common Stock during the ten (10) trading days immediately preceding
the conversion date. The Warrants expire five years from the date of
issuance and entitle the Buyers to purchase shares of the Company’s Common Stock
at a price per share of $0.61.
The
Debenture meets the definition of a hybrid instrument, as defined in SFAS
133, Accounting for Derivative
Instruments and Hedging Activities (SFAS No. 133). The hybrid instrument
is comprised of a i) a debt instrument, as the host contract and ii) an option
to convert the debentures into common stock of the Company, as an embedded
derivative. The embedded derivative derives its value based on the underlying
fair value of the Company’s common stock. The Embedded Derivative is not clearly
and closely related to the underlying host debt instrument since the economic
characteristics and risk associated with this derivative are based on the common
stock fair value.
The
embedded derivative does not qualify as a fair value or cash flow hedge under
SFAS No. 133. Accordingly, changes in the fair value of the embedded derivative
are immediately recognized in earnings and classified as a gain or loss on the
embedded derivative financial instrument in the accompanying statements of
operations. There was a loss of $1,174,121 recognized for the year ended
December 31, 2008.
The
Company determines the fair value of the embedded derivatives and records them
as a discount to the debt and a derivative liability on the date of issue. The
Company recognizes an immediate financing expense for any excess in the fair
value of the derivatives over the debt amount. Upon conversion of the
debt to equity, any remaining unamortized discount is charged to financing
expense.
The
Company amortized the beneficial conversion feature and the value of the
attached warrants, and recorded non-cash interest expense in the amount of
$295,508, and $277,913, respectively, for the year ended December 31,
2008.
At
December 31, 2008, the Senior Convertible Debenture had an estimated fair value
of $1.9 million.
On March
31, 2009, the Company received a notice of waiver from YA Global Investments,
L.P. pursuant to which it agreed that, to the extent MSTI is in default of the
MSTI Debentures, such default shall not constitute an Event of Default as
defined in Section 2(a)(iii) of the May 30, 2008 Debentures the Company issued
to YA Global. The waiver is in effect as of December 31, 2008 through June 1,
2009.
F-24
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Senior Note
Payable
A summary
of the senior notes payable at December 31, 2008 and December 31, 2007 is as
follows:
December
31, 2008
|
December
31, 2007
|
|||||||
Senior
Note Payable, accrues interest at 6% per annum, and matures on the earlier
to occur of (i) the closing of the Company’s next financing, or (ii)
January 28, 2008.
|
$
|
-
|
$
|
1,500,000
|
||||
Debt
Discount - value attributable to warrants attached to notes, net of
accumulated amortization of $195,924 and $166,744 at December 31, 2008 and
December 31, 2007, respectively.
|
-
|
(29,180
|
)
|
|||||
Total
|
$
|
-
|
$
|
1,470,820
|
||||
Less:
current portion
|
-
|
1,470,820
|
||||||
$
|
-
|
$
|
-
|
On July
24, 2007, Telkonet entered into a Senior Note Purchase Agreement with GRQ
Consultants, Inc. (“GRQ”) pursuant to which the Company issued to GRQ a Senior
Promissory Note (the “Note”) in the aggregate principal amount of $1,500,000.
The Note was due and payable on the earlier to occur of (i) the closing of
the Company’s next financing, or (ii) January 28, 2008, and bore interest
at a rate of nine (6%) percent per annum. The Company incurred
approximately $25,000 in fees in connection with this transaction. The net
proceeds from the issuance of the Note were for general working capital
needs. On February 8, 2008, this note was repaid in full including
$49,750 in accrued but unpaid interest from the issuance date through the date
of repayment.
In
connection with the issuance of the Note, the Company also issued to GRQ
warrants to purchase 359,712 shares of common stock at $4.17 per share. These
warrants expire five years from the date of issuance. The Company valued the
warrants in accordance with EITF 00-27 using the Black-Scholes pricing model and
the following assumptions: contractual terms of 5 years, an average risk free
interest rate of 4.00%, a dividend yield of 0%, and volatility of 76%. The
$195,924 of debt discount attributed to the value of the warrants issued is
amortized over the note maturity period (six months) as non-cash interest
expense. The Company amortized the value of the attached warrants, and recorded
non-cash interest expense in the amount of $29,180, respectively, during the
year ended December 31, 2008.
Aggregate
maturities of long-term debt as of December 31, 2008 are as
follows:
For the twelve months
ended December 31,
|
Amount
|
|||
2009
|
$
|
-
|
||
2010
|
-
|
|||
2011
|
2,136,650
|
|||
$
|
2,136,650
|
Note
Payable
On May 6,
2008, Telkonet executed a Promissory Note (the “Note”) in favor of Ralph W.
Hooper (the “Note”) in the aggregate principal amount of Four Hundred Thousand
Dollars ($400,000). The Note was due and payable on the earlier to occur of (i)
the closing of the Company’s next financing, or (ii) November 6, 2008. As of
December 31, 2008, there was no outstanding liability.
F-25
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
In
connection with the issuance of the Note, the Company also issued to Mr. Hooper
warrants to purchase 800,000 shares of common stock at $0.60 per share. These
warrants expire five years from the date of issuance. The Company valued the
warrants using the Black-Scholes pricing model and the following assumptions:
contractual terms of 5 years, an average risk free interest rate of 3.2%, a
dividend yield of 0%, and volatility of 82%. The Company recorded non-cash
interest expense in the amount of $254,160 for the value of the attached
warrants during the year ended December 31, 2008.
NOTE N
- CAPITAL STOCK
The
Company has authorized 15,000,000 shares of preferred stock, with a par value of
$.001 per share. As of December 31, 2008 and 2007, the Company has no
preferred stock issued and outstanding. The company has authorized 130,000,000
shares of common stock, with a par value of $.001 per share. As of December 31,
2008 and 2007, the Company has 87,525,495 and 70,826,544, respectively, of
shares of common stock issued and outstanding.
During
the year ended December 31, 2007, the Company issued an aggregate of 118,500
shares of common stock for an aggregate purchase price of $124,460 to certain
employees upon exercise of employee stock options at approximately $1.05 per
share. (Note N).
During
the year ended December 31, 2007, the Company issued an aggregate of 21,803
shares of common stock, valued at $57,342, to a consultant and an employee in
exchange for services, which approximated the fair value of the shares issued
during the period services were completed and rendered.
During
the year ended December 31, 2007, the Company issued 200,000 shares of common
stock pursuant to a consulting agreement. These shares were valued at
$271,500, which approximated the fair value of the shares issued during the
period services were completed and rendered (Note T).
On March
9, 2007, the Company entered into an Asset Purchase Agreement (“Agreement”) with
Smart Systems International, a privately held company. Pursuant to the
Agreement, the Company issued 2,227,273 shares of Common Stock at approximately
$2.69 per share (Note B).
On March
15, 2007, the Company entered into a Purchase Agreement (“Agreement”) with
EthoStream, LLC, a privately held company. Pursuant to the Agreement, the
Company issued 3,459,609 shares of Common Stock at approximately $2.82 per share
(Note B).
On July
18, 2007, Telkonet issued 866,856 unregistered shares of common stock of
Telkonet, Inc. in connection with the acquisition of substantially all of the
assets of Newport Telecommunications Co. by the Telkonet majority-owned
subsidiary, Microwave Satellite Holdings, Inc. The Common Stock
issued by Telkonet represented $1,530,000 of the total consideration
of $2,550,000 paid in the asset purchase (Note B).
In
February 2007, the Company issued 4,000,000 shares of Common Stock valued at
$2.50 per share for an aggregate purchase price of $9,610,000, net of placement
fees. The Company also issued to this investor warrants to purchase 2.6 million
shares of its common stock at an exercise price of $4.17 per share in this
private placement transaction. A registration statement covering the shares
underlying the warrants was filed with the Securities and Exchange Commission on
Form S-3 on March 5, 2007 and was declared effective on March 20,
2007. In accordance with EITF 00-19-02, “Accounting for Registration
Payment Arrangements”, at the time of the issuance of the equity for
registration the Company deemed it probable that a registration of shares would
be deemed effective therefore a loss contingency would not be necessary and the
equity was recorded at fair value on the date of issuance.
F-26
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
On
October 19, 2007, the Company completed the acquisition of approximately 30.0%
of the issued and outstanding shares of common stock of Geeks on Call America,
Inc. (“GOCA”), the nation's premier provider of on-site computer services.
Under the terms of the stock purchase agreement, the Company acquired
approximately 1,160,043 shares of GOCA common stock from several GOCA
stockholders in exchange for 2,940,202 shares of the Company’s common stock for
total consideration valued at approximately $4.5 million (Note I). On
February 8 2008, Geeks on Call Acquisition Corp., a newly formed, wholly-owned
subsidiary of Geeks On Call Holdings, Inc., (formerly Lightview, Inc.) merged
with Geeks on Call America, Inc (“GOCA”). As a result of the merger, the
Company’s common stock in GOCA was exchanged for shares of common stock of Geeks
on Call Holdings Inc. Immediately following the merger, Geeks on Call
Holdings Inc. completed a private placement of its common stock for aggregate
gross proceeds of $3,000,000. As a result of this transaction, the Company’s 30%
interest in GOCA became an 18% interest in Geeks on Call Holdings
Inc.
In
February 2008, the Company amended certain stock purchase warrants held by
private placement investors to reduce the exercise price under such warrants
from $4.17 per share to $0.6978258 per share. The warrants entitled
the holders to purchase an aggregate of up to 3,380,000 shares of Telkonet
common stock. Subsequently, these private placement investors
exercised all of their warrants on a cashless basis using the five day volume
average weighted price (VWAP) as of January 31, 2008 of $.99 resulting in the
issuance of 1,000,000 shares of Company common stock.
During
the year ended December 31, 2008, the Company issued 346,244 shares of common
stock to consultants for services performed and services accrued in fiscal
2007. These shares were valued at $345,407, which approximated the
fair value of the shares issued during the period services were completed and
rendered.
In
February 2008, Telkonet completed a private placement with one investor for
aggregate gross proceeds of $1.5 million. Pursuant to this private
placement, the Company issued 2,500,000 shares of common stock valued at $0.60
per share.
In April
2008, Telkonet issued an additional 3,046,425 shares of its common stock to the
sellers of Geeks on Call America, Inc. to satisfy the adjustment provision in
the stock purchase agreement dated October 19, 2007 (Note T).
In June
2008, Telkonet issued an additional 1,882,225 shares of its common stock to the
sellers of Smart Systems International (SSI), to satisfy the adjustment
provision in the purchase agreement dated March 9, 2007 (Note B).
During
the year ended December 31, 2008, Telkonet issued an aggregate of 600,000 shares
of its common stock to Frank T. Matarazzo pursuant to the stock purchase
agreement between Telkonet and MST, dated January 31, 2006. These
shares were valued at $380,000, which approximated the fair value of the shares
on the date the shares were issued (Note B).
During
the year ended December 31, 2008, Telkonet issued 7,324,057 shares of common
stock at approximately $0.19 per shares to its senior convertible debenture
holders in exchange for $1,363,350 of debentures.
NOTE O
- STOCK OPTIONS AND WARRANTS
Employee Stock
Options
The
following table summarizes the changes in options outstanding and the related
prices for the shares of the Company’s common stock issued to employees of the
Company under a non-qualified employee stock option plan.
F-27
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
Options
Outstanding
|
Options
Exercisable
|
|||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
|||||||||||||||||
$
|
1.00
- $1.99
|
4,263,429
|
4.30
|
$
|
1.02
|
4,049,679
|
$
|
1.01
|
||||||||||||||
$
|
2.00
- $2.99
|
1,232,500
|
5.80
|
$
|
2.48
|
1,213,500
|
$
|
2.48
|
||||||||||||||
$
|
3.00
- $3.99
|
1,272,000
|
6.21
|
$
|
3.32
|
1,074,500
|
$
|
3.35
|
||||||||||||||
$
|
4.00
- $4.99
|
100,000
|
6.18
|
$
|
4.32
|
72,000
|
$
|
4.31
|
||||||||||||||
$
|
5.00
- $5.99
|
126,000
|
6.11
|
$
|
5.22
|
97,000
|
$
|
5.23
|
||||||||||||||
6,993,929
|
4.98
|
$
|
1.82
|
6,506,679
|
$
|
1.77
|
Transactions
involving stock options issued to employees are summarized as
follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2007
|
8,520,929
|
$
|
2.06
|
|||||
Granted
|
935,000
|
2.55
|
||||||
Exercised
(Note M)
|
(118,500
|
)
|
1.05
|
|||||
Cancelled
or expired
|
(1,232,000
|
)
|
3.00
|
|||||
Outstanding
at December 31, 2007
|
8,105,429
|
$
|
1.98
|
|||||
Granted
|
185,000
|
1.00
|
||||||
Exercised
(Note M)
|
-
|
-
|
||||||
Cancelled
or expired
|
(1,296,500
|
)
|
2.71
|
|||||
Outstanding
at December 31, 2008
|
6,993,929
|
$
|
1.82
|
The
weighted-average fair value of stock options granted to employees during the
years ended December 31, 2008 and 2007 and the weighted-average significant
assumptions used to determine those fair values, using a Black-Scholes option
pricing model are as follows:
2008
|
2007
|
|||||||
Significant
assumptions (weighted-average):
|
||||||||
Risk-free
interest rate at grant date
|
2.9
|
% |
4.8
|
% | ||||
Expected
stock price volatility
|
78
|
% |
70
|
% | ||||
Expected
dividend payout
|
-
|
-
|
||||||
Expected
option life (in years)
|
5.0
|
5.0
|
||||||
Fair
value per share of options granted
|
$
|
0.55
|
$
|
1.57
|
F-28
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
expected life of awards granted represents the period of time that they are
expected to be outstanding. We determine the expected life based on historical
experience with similar awards, giving consideration to the contractual terms,
vesting schedules, exercise patterns and pre-vesting and post-vesting
forfeitures. We estimate the volatility of our common stock based on the
calculated historical volatility of our own common stock using the trailing 24
months of share price data prior to the date of the award. We base the risk-free
interest rate used in the Black-Scholes-Merton option valuation model on the
implied yield currently available on U.S. Treasury zero-coupon issues with an
equivalent remaining term equal to the expected life of the award. We have not
paid any cash dividends on our common stock and do not anticipate paying any
cash dividends in the foreseeable future. Consequently, we use an expected
dividend yield of zero in the Black-Scholes-Merton option valuation model. We
use historical data to estimate pre-vesting option forfeitures and record
share-based compensation for those awards that are expected to vest. In
accordance with SFAS No. 123R, we adjust share-based compensation for changes to
the estimate of expected equity award forfeitures based on actual forfeiture
experience.
The total
intrinsic value of the options exercised for the year ended December 31, 2007
was $137,666. There were no options exercised during the year ended December 31,
2008. Additionally, the total fair value of shares vested during the
year ended December 31, 2008 and 2007 was $613,139 and $1,225,626,
respectively.
Total
stock-based compensation expense recognized in the consolidated statement of
earnings for the year ended December 31, 2008 and 2007 was $1,216,997 and
$1,534,560, respectively, net of tax effect. Additionally, the aggregate
intrinsic value of options outstanding and unvested as of December 31, 2008 is
$0.
Non-Employee Stock
Options
The
following table summarizes the changes in options outstanding and the related
prices for the shares of the Company’s common stock issued to the Company
consultants. These options were granted in lieu of cash compensation for
services performed.
Options
Outstanding
|
Options
Exercisable
|
||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
||||||||||||||||
$
|
1.00
|
1,815,937
|
3.33
|
$
|
1.00
|
1,815,937
|
$
|
1.00
|
Transactions
involving options issued to non-employees are summarized as
follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2007
|
1,815,937
|
$
|
1.00
|
|||||
Granted
|
-
|
-
|
||||||
Exercised
|
-
|
-
|
||||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2007
|
1,815,937
|
$
|
1.00
|
|||||
Granted
|
-
|
-
|
||||||
Exercised
|
-
|
-
|
||||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2008
|
1,815,937
|
$
|
1.00
|
F-29
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
There
were no non-employee stock options vested during the years ended December
31, 2008 and 2007, respectively.
Warrants
The
following table summarizes the changes in warrants outstanding and the related
prices for the shares of the Company’s common stock issued to non-employees of
the Company. These warrants were granted in lieu of cash compensation for
services performed or financing expenses and in connection with placement of
convertible debentures.
Warrants
Outstanding
|
Warrants
Exercisable
|
|||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighed
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
|||||||||||||||||
$
|
0.58
|
856,739
|
3.08
|
$
|
0.58
|
856,739
|
$
|
0.58
|
||||||||||||||
$
|
0.60
|
800,000
|
4.35
|
$
|
0.60
|
800,000
|
$
|
0.60
|
||||||||||||||
$
|
0.61
|
2,500,000
|
4.41
|
$
|
0.61
|
2,500,000
|
$
|
0.61
|
||||||||||||||
$
|
2.59
|
862,452
|
2.62
|
$
|
2.59
|
862,452
|
$
|
2.59
|
||||||||||||||
$
|
3.98
|
3,078,864
|
3.56
|
$
|
3.98
|
3,078,864
|
$
|
3.98
|
||||||||||||||
$
|
4.17
|
359,712
|
2.79
|
$
|
4.17
|
359,712
|
$
|
4.17
|
||||||||||||||
8,457,767
|
3.46
|
$
|
2.19
|
8,457,767
|
$
|
2.19
|
Transactions
involving warrants are summarized as follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2007
|
4,557,850
|
$
|
4.20
|
|||||
Granted
|
3,115,777
|
4.18
|
||||||
Exercised
(Note M)
|
-
|
-
|
||||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2007
|
7,673,627
|
$
|
4.15
|
|||||
Granted
|
4,164,140
|
1.31
|
||||||
Exercised
(Note M)
|
(3,380,000
|
)
|
0.70
|
*
|
||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2008
|
8,457,767
|
$
|
2.19
|
______________
*The
warrants were issued to Enable Capital and originally priced at $4.17 per
share. In February 2008, these warrants were re-priced to $0.6978258
per share and the holders exercised the warrants on a cashless basis and
received 1,000,000 shares
F-30
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
Company granted 864,140 and 79,326 warrants to Convertible Senior Notes holders,
0 and 2,600,000 warrants to private placement investors (Note M), 2,500,000 and
0 to a Convertible Debenture holder, 800,000 and 0 to a Note holder,
and 0 and 76,739 compensatory warrants to non-employees during the
year ended December 31, 2008 and 2007, respectively. There was no
compensatory warrant expense recorded for the year ended December 31,
2008. The estimated value of compensatory warrants granted during the
year ended December 31, 2007 was determined using the Black-Scholes option
pricing model and the following assumptions: contractual term of 5 years, a risk
free interest rate of approximately 4.75%, a dividend yield of 0% and volatility
of 70%. Compensation expense of $139,112 was charged to operations for the year
ended December 31, 2007.
The
purchase price of the warrants issued to Convertible Senior Note holders was
adjusted from $4.70 to $3.98 per share during the year ended December 31, 2008
in accordance with the anti-dilution protection provision of the Convertible
Senior Notes Payable Agreement (“the Agreement”) dated October 27, 2005, upon
the occurrence of certain events as defined in the Agreement.
In
February 2008, the Company amended certain stock purchase warrants held by
private placement investors to reduce the exercise price under such warrants
from $4.17 per share to $0.6978258 per share. The warrants entitled
the holders to purchase an aggregate of up to 3,380,000 shares of Telkonet’s
common stock. Subsequently, these private placement investors
exercised all of their warrants on a cashless basis using the five day volume
average weighted price (VWAP) as of January 31, 2008 of $.99 resulting in the
issuance of 1,000,000 shares of Company common stock. The Company has
accounted for the amended warrants issued, valued at $1,224,236, as other
expense using the Black-Scholes pricing model and the following assumptions:
contractual term of 5 years, an average risk-free interest rate of 3.5% a
dividend yield of 0% and volatility of 70%. In addition, during the
year ended December 31, 2008, the Company recorded non-cash expenses of $574,426
for issuing additional warrants and the re-pricing of outstanding warrants in
accordance with the anti-dilution provision of the warrant
agreements.
NOTE P
- RELATED PARTY TRANSACTIONS
In
September 2003, the Company entered into a consulting agreement that provides
for annual compensation of $100,000, payable monthly, with The Musser Group, an
entity controlled by the Company's Chairman of the Board of Directors, for
certain services. As of December 31, 2007, an aggregate of $100,000 of
consulting fees was charged to income each year pursuant to the
agreement.
On
July 1, 2005, the Company and Mr. Blumenfeld executed a consulting
agreement pursuant to which Mr. Blumenfeld agreed to act as a consultant with
respect to international sales. Pursuant to the terms of the
agreement, Mr. Blumenfeld received 10,000 shares of Telkonet stock upon
execution of the agreement, 10,000 shares of Telkonet stock per quarter for the
first year (for a total 50,000 shares in the first year) and 5,000 shares of
Telkonet stock per quarter thereafter plus a five percent (5%) commission
(payable in cash or Telkonet stock at the Consultant’s option) on international
sales generated by him with gross margins of 50% or greater. The stock awarded
to Mr. Blumenfeld pursuant to the agreement is restricted stock. The
agreement has a one year term, which is renewable annually upon both parties’
agreement. The agreement was not renewed and therefore expired
effective June 30, 2006. On March 16, 2007, the Board of Directors
approved the payment of compensation to Mr. Blumenfeld in the amount of $24,000
for his service as a director during the period of July 1, 2006 through December
31, 2006, which payment is commensurate with the payments made to the other
directors for their board service. In addition, effective
January 1, 2007, Mr. Blumenfeld is being compensated according to the
non-management compensation plan.
From time
to time the Company may receive advances from certain of its officers to meet
short term working capital needs. These advances may not have formal
repayment terms or arrangements. As of December 31, 2008, there were
no amounts due to officers of the Company.
F-31
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE Q
- INCOME TAXES
The
Company has adopted Financial Accounting Standard No. 109 which requires the
recognition of deferred tax liabilities and assets for the expected future tax
consequences of events that have been included in the financial statement or tax
returns. Under this method, deferred tax liabilities and assets are determined
based on the difference between financial statements and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse.
A
reconciliation of tax expense computed at the statutory federal tax rate on loss
from operations before income taxes to the actual income tax expense is as
follows:
2008
|
2007
|
|||||||
Tax
provision computed at the statutory rate
|
$ | (8,677,000 | ) | $ | (7,137,000 | ) | ||
Stock-based
compensation
|
390,000 | 563,000 | ||||||
Goodwill
impairment
|
950,000 | 692,000 | ||||||
Book
expenses not deductible for tax purposes
|
200,000 | 135,000 | ||||||
Minority
Interest
|
(1,728,000 | ) | (1,019,000 | ) | ||||
Change
in valuation allowance for deferred tax assets
|
8,865,000 | 6,766,000 | ||||||
Income
tax expense
|
$ | -- | $ | -- |
Deferred
income taxes include the net tax effects of net operating loss (NOL)
carryforwards and the temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for
income tax purposes. Significant components of the Company's deferred tax assets
are as follows:
2008
|
2007
|
|||||||
Deferred
Tax Assets:
|
||||||||
Net
operating loss carryforwards
|
$ | 40,076,000 | $ | 32,231,000 | ||||
Property
and equipment, principally due to differences in
depreciation
|
638,000 | 259,000 | ||||||
Warrants
and non-employee stock options
|
1,421,000 | 1,031,000 | ||||||
Investment
in Amperion
|
188,000 | 188,000 | ||||||
Other
|
915,000 | 915,000 | ||||||
Total
deferred tax assets
|
43,238,000 | 34,624,000 | ||||||
Deferred
Tax Liabilities:
|
||||||||
Beneficial
Conversion Feature of Convertible Debentures
|
(247,000 | ) | (513,000 | ) | ||||
Acquired
Intangibles
|
(984,000 | ) | (984,000 | ) | ||||
Other
|
(850,000 | ) | (825,000 | ) | ||||
Total
deferred tax liabilities
|
(2,081,000 | ) | (2,332,000 | ) | ||||
Valuation
allowance
|
(41,157,000 | ) | (32,292,000 | ) | ||||
Net
deferred tax assets
|
$ | -- | $ | -- |
The
Company has provided a valuation reserve against the full amount of the net
deferred tax assets, because in the opinion of management, it is more likely
than not that these tax assets will not be realized.
At
December 31, 2008 and 2007, the Company has net operating loss carryforwards of
approximately $116 million and $87 million, respectively, for federal income tax
purposes which will expire at various dates from 2020 through 2028.
F-32
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
With the
implementation of FAS123R, the amount of the NOL carryforward related to stock
based compensation expense is not recognized until the stock-based compensation
tax deductions reduce taxes payable. Accordingly, the NOL's reported in the
deferred tax asset that were generated in the current year do not include the
component of the NOL related to excess tax deductions over book compensation
cost related to stock based compensation.. The NOL deferred tax asset does
include pre-implementation excess tax deductions over book compensation cost
related to stock based compensation. The NOL related to excess tax deductions
will be recorded directly into Additional Paid-in-Capital at the time they
produce a future current tax benefit.
During
2007, the Company acquired SSI and EthoStream. As part of the
purchase accounting for these acquisitions, deferred tax assets in the amount of
$3.8 million and $74,000, respectively, were established. A valuation
allowance against these deferred assets was established as part of purchase
accounting and was recorded to goodwill.
SFAS 109
requires recognition of a deferred tax liability for outside basis differences
arising in fiscal years beginning after December 15, 1992. An outside
basis difference represents the amount by which the basis of an investment in a
domestic subsidiary for financial reporting purposes exceeds the tax basis in
such asset. If under applicable tax law, the outside basis difference in a
domestic subsidiary can be recovered tax-free and the Company expects to avail
itsself of such law, the outside basis difference is not a temporary difference
since no taxes are expected to result upon its reversal. Subsequent to the
transaction in May 2007 discussed previously, Telkonet's ownership in Microwave
Satellite Technologies, Inc. is only 58%. As such, it can no longer
recover the outside tax basis in a tax-free manner and Telkonet does not intend
to modify its ownership to avail itself of a tax-free recovery
alternative. As such, a deferred liability was established in 2007 for the
outside basis difference in Telkonet's ownership of Microwave Satellite
Technologies, Inc.
The
Company’s NOL and tax credit carryovers may be significantly limited under
Section 382 of the Internal Revenue Code (IRC). NOL and tax credit carryovers
are limited under Section 382 when there is a significant “ownership change” as
defined in the IRC. During 2005 and in prior years, the Company may have
experienced such ownership changes.
The
limitation imposed by Section 382 would place an annual limitation on the amount
of NOL and tax credit carryovers that can be utilized. When the Company
completes the necessary studies, the amount of NOL carryovers available may be
reduced significantly. However, since the valuation allowance fully reserves for
all available carryovers, the effect of the reduction would be offset by a
reduction in the valuation allowance.
NOTE R
- LOSSES PER COMMON SHARE
The
following table presents the computations of basic and dilutive loss per
share:
2008
|
2007
|
|||||||
Loss
from Continuing Operations
|
$
|
(16,080,237
|
)
|
$
|
(13,270,724
|
)
|
||
Loss
from Discontinued Operations
|
(7,905,302
|
)
|
(7,120,386
|
)
|
||||
Net
Loss
|
$
|
(23,985,539
|
)
|
$
|
(20,391,110
|
)
|
||
Net
loss per share:
|
||||||||
Loss
per share from continuing operations – basic and diluted
|
$
|
(0.20
|
)
|
$
|
(0.20
|
)
|
||
Loss
per share from discontinued operations – basic and diluted
|
$
|
(0.10
|
)
|
$
|
(0.11
|
)
|
||
Net
loss per share – basic and diluted
|
$
|
(0.30
|
)
|
$
|
(0.31
|
)
|
||
Weighted
average common shares outstanding – basic and diluted
|
79,153,788
|
65,414,875
|
For the
year ended December 31, 2008, no potential shares were excluded from shares used
to calculate diluted losses per share. For the year ended December
31, 2007, 2,800,950 potential shares were excluded from shares used to calculate
diluted losses per share as their inclusion would reduce net losses per
share.
F-33
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE
S - COMMITMENTS AND CONTINGENCIES
Office Leases
Obligations
The
Company presently leases 16,400 square feet of commercial office space in
Germantown, Maryland for its corporate headquarters. The Germantown lease
expires in December 2015. The Company spent approximately $61,000 in build-out
costs to increase the office space of its Germantown headquarters by
approximately 6,000 square feet in April 2007.
In March
2005, the Company entered into a lease agreement for 6,742 square feet of
commercial office space in Crystal City, Virginia. The Crystal City lease
expires in March 2008. In February 2007, the Company executed a sublease for
this space commencing in April 2007 through the expiration of the lease in March
2008.
The
Company presently leases approximately 12,000 square feet of office space in
Milwaukee, WI for EthoStream. The Milwaukee lease expires in February
2019.
Following
the acquisition of SSI, the Company assumed a lease on 9,000 square feet of
office and warehouse space in Las Vegas, NV on a month to month
basis. The Las Vegas, NV office lease expired on April 30,
2008.
In
September 2006, the Company leased a vehicle for the then Chief Executive
Officer of Telkonet, Inc. This lease expired in September 2008.
Commitments
for minimum rentals under non cancelable leases at December 31, 2008 are as
follows:
2009
|
$
|
292,889
|
||
2010
|
411,830
|
|||
2011
|
262,892
|
|||
2012
|
264,932
|
|||
2013
and thereafter
|
891,198
|
|||
Total
|
$
|
2,123,741
|
Rental
expenses charged to operations for the years ended December 31, 2008
and 2007 are $454,450 and $719,300, respectively.
Employment and Consulting
Agreements
The
Company has employment agreements with certain of its key employees which
include non-disclosure and confidentiality provisions for protection of the
Company’s proprietary information.
The
Company has consulting agreements with outside contractors to provide marketing
and financial advisory services. The Agreements are generally for a term of 12
months from inception and renewable automatically from year to year unless
either the Company or Consultant terminates such engagement by written
notice.
The
Company entered into an exclusive financial advisor and consulting agreement in
January 2007. The agreement provides a minimum consideration fee, not less than
$250,000, in the event of an equity or financing transaction where the advisor
is engaged. The agreement may be terminated with sixty days notification by
either party.
F-34
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
On August
1, 2007, the Company entered into an agreement with Barry Honig, President of
GRQ Consultants, Inc. (“GRQ”). Telkonet has agreed to pay Mr. Honig 50,000
shares of common stock per month for six (6) months, to provide the Company with
transaction advisory services. As of December 31, 2007, GRQ held a Senior
Promissory Note issued by Telkonet on July 24, 2007, in the principal amount of
$1,500,000 (Note J). On February 8, 2008, this note was repaid in
full including $49,750 in accrued but unpaid interest from the issuance date
through the date of repayment.
Jason
Tienor, President and Chief Executive Officer, is employed pursuant to an
employment agreement dated March 15, 2007. Mr. Tienor’s employment
agreement has a term of three years and provides for a base salary of $200,000
per year.
Jeff
Sobieski, Executive Vice President, Energy Management, is employed pursuant to
an employment agreement, dated March 15, 2007. Mr. Sobieski’s employment
agreement has a term of three years for a base salary of $190,000 per
year.
Litigation
The
Company is subject to legal proceedings and claims which arise in the ordinary
course of its business. Although occasional adverse decisions or settlements may
occur, the Company believes that the final disposition of such matters should
not have a material adverse effect on its financial position, results of
operations or liquidity.
Senior Convertible
Noteholder Claim
The
August 14, 2006 Settlement Agreement with the Senior Convertible Debenture
Noteholders provided that the number of shares issued to the Noteholders shall
be adjusted based upon the arithmetic average of the weighted average price of
the Company’s common stock on the American Stock Exchange for the twenty trading
days immediately following the settlement date. The Company has
concluded that, based upon the weighted average of the Company's common stock
between August 16, 2006 and September 13, 2006, the Company is entitled to a
refund from the two Noteholders. One of the Noteholders has informed
the Company that it does not believe such a refund is required. As a
result, the Company has declined to deliver to the Noteholders certain stock
purchase warrants issued to them pursuant to the Settlement Agreement pending
resolution of this disagreement. The Noteholder has alleged that the Company has
failed to satisfy its obligations under the Settlement Agreement by failing to
deliver the warrants. In addition, the Noteholder maintains that the Company has
breached certain provisions of the Registration Rights Agreement and, as a
result of such breach, such Noteholder claims that it is entitled to receive
liquidated damages from the Company. In the Company’s opinion, the ultimate
disposition of these matters will not have a material adverse effect on the
Company’s results of operations or financial position.
Purchase Price
Contingency
In
conjunction with the acquisition of MST on January 31, 2006, the purchase price
contingency shares are price protected for the benefit of the former owner of
MST. In the event the Company’s common stock price is below $4.50 per share upon
the achievement of thirty three hundred (3,300) subscribers a pro rata
adjustment in the number of shares will be required to support the aggregate
consideration of $5.4 million. The price protection provision provides a cash
benefit to the former owner of MST if the as-defined market price of the
Company’s common stock is less than $4.50 per share at the time of issuance from
the escrow on or before January 31, 2009. The issuance of additional shares or
distribution of other consideration upon resolution of the contingency based on
the Company’s common stock prices will not affect the cost of the acquisition.
When the contingency is resolved or settled, and additional consideration is
distributable, the Company will record the current fair value of the additional
consideration and the amount previously recorded for the common stock issued
will be simultaneously reduced to the lower current value of the Company’s
common stock. In addition, the Company agreed to fully fund the MST three year
business plan, established on January 31, 2006, to satisfy the benchmarks
established to achieve 3,300 subscribers. In the event, for any reason, the
Company materially fails to satisfy its obligations under the acquisition
agreement, then the former owners of MST shall be entitled to the release of any
and all consideration held in reserve. In May 2008, the Company executed an
agreement for a minimum commitment of $2.3 million to fund MST's business plan
in accordance with Section 11.1 of the Purchase Agreement between Telkonet and
Frank T. Matarazzo. In addition, the adjustment date for the achievement of
MST's 3,300 subscribers has been extended an additional six months from January
31, 2009 to July 31, 2009. Additionally, in April 2008 the Company issued from
escrow 200,000 shares of the purchase price contingency and advanced 400,000
shares in June 2008 in exchange for Mr. Matarazzo’s agreement to a debt covenant
restricting the use of proceeds in the Company’s debenture financing with YA
Global Investments LP.
F-35
TELKONET,
INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
On March
9, 2007, the Company acquired substantially all of the assets of Smart Systems
International (SSI), a leading provider of energy management products and
solutions to customers in the United States and Canada for cash and Company
common stock having an aggregate value of $6,875,000. The purchase price was
comprised of $875,000 in cash and 2,227,273 shares of the Company’s common
stock. The Company was obligated to register the stock portion of the purchase
price on or before May 15, 2007. Pursuant to the registration rights agreement,
the registration statement was required to be effective no later than July 14,
2007. The registration rights agreement does not expressly provide
for penalties in the event this deadline is not met. This
registration statement was declared effective on March 14, 2008.
Of
the stock issued in the SSI acquisition, 1,090,909 shares were being held
in an escrow account for a period of one year following the closing from which
certain potential indemnification obligations under the purchase
agreement could be satisfied. The aggregate number of shares held in
escrow was subject to adjustment upward or downward depending upon the
trading price of the Company’s common stock during the one year period following
the closing date. On March 12, 2008, the Company released these
shares from escrow and issued an additional 1,882,225 shares on June 12,
2008 pursuant to the adjustment provision in the SSI asset purchase
agreement.
On
October 19, 2007, the Company completed the acquisition of approximately 30.0%
of the issued and outstanding shares of common stock of Geeks on Call America,
Inc. (“GOCA”), the nation's premier provider of on-site computer services.
Under the terms of the stock purchase agreement, the Company acquired
approximately 1,160,043 shares of GOCA common stock from several GOCA
stockholders in exchange for 2,940,200 shares of the Company’s common stock for
total consideration valued at approximately $4.5 million. The number of shares
issued in connection with this transaction was determined using a per share
price equal to the average closing price of the Company’s common stock on the
American Stock Exchange (AMEX) during the ten trading days immediately preceding
the closing date. The number of shares was subject to adjustment on the date the
Company filed a registration statement for the shares issued in this
transaction, which occurred on April 25, 2008. The increase or decrease to the
number of shares issued was determined using a per share price equal to the
average closing price of the Company’s common stock on the AMEX during the ten
trading days immediately preceding the date the registration statement was
filed. The Company accounted for this investment under the cost
method, as the Company does not have the ability to exercise significant
influence over operating and financial policies of GOCA. On April 30,
2008, Telkonet issued an additional 3,046,425 shares of its common stock to the
sellers of GOCA to satisfy the adjustment provision.
Senior Convertible
Debentures
On
February 11, 2008, purchasers of MSTI Holdings, Inc.
Debentures executed a letter agreement with MSTI Holdings, Inc. providing
that, among other things, in the event Frank Matarazzo ceases being Chief
Executive Officer of MSTI Holdings, Inc., MSTI Holdings, Inc. will be in default
under the Debentures.
NOTE T
- MINORITY INTEREST IN DISCONTINUED OPERATIONS
Minority
interest in results of operations of consolidated subsidiaries represents the
minority shareholders' share of the income or loss of the consolidated
subsidiary MST. The minority interest in the consolidated balance sheet reflects
the original investment by these minority shareholders in the consolidated
subsidiaries, along with their proportional share of the earnings or losses of
the subsidiaries.
On
January 31, 2006, the Company acquired a 90% interest in Microwave Satellite
Technologies, Inc. (“MST”) from Frank Matarazzo, the sole stockholder of MST in
exchange for $1.8 million in cash and 1.6 million unregistered shares of the
Company’s common stock for an aggregate purchase price of $9,000,000 (See Note
B). This transaction resulted in a minority interest of $19,569, which reflects
the original investment by the minority shareholder of MST.
On May
24, 2007, MST merged with a wholly-owned subsidiary of MSTI Holdings, Inc.
(formerly Fitness Xpress, Inc. ("FXS")). Immediately following the merger, MSTI
Holdings Inc. completed an equity financing of approximately $3.1 million
through the private placement of common stock and warrants and a debt financing
of approximately $6 million through the private placement of debentures and
warrants. These transactions resulted in additional minority interest of
$4,576,740 and increased the minority interest from 10% to 37% of MSTI Holding,
Inc. outstanding common shares.
F-36
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
For
the twelve months ended ended December 31, 2008 and 2007, the minority
shareholder's share of the loss of MST was limited to $4,937,473 and $2,910,068,
respectively. The minority interest in MST through May 24, 2007 was a deficit
and, in accordance with Accounting Research Bulletin No. 51, subsidiary losses
should not be charged against the minority interest to the extent of reducing it
to a negative amount. As such, any losses will be charged against the Company's
operations, as majority owner. However, if future earnings do materialize, the
majority owner should be credited to the extent of such losses previously
absorbed in the amount of $545,745.
Minority
interest at December 31, 2008 and December 31, 2007 amounted to $262,795 and
$2,978,918, respectively.
NOTE U
- BUSINESS CONCENTRATION
Revenue
from two (2) major customer approximated $6,375,182 or 39% of total
revenues for the year ending December 31, 2008. Revenue from one (1) major
customer approximated $1,436,838 or 13% of total revenues for the year ending
December 31, 2007. Total accounts receivable of $486,906, or 58% of total
accounts receivable, was due from these customers as of December 31,
2008. Total accounts receivable of $290,990, or 15% of total accounts
receivable, was due from these customers as of December 31, 2007.
Purchases
from two (2) major suppliers approximated $2,426,570 or 56% of
purchases and $2,126,137 or 36% of purchases for the years ended December 31,
2008 and 2007, respectively. Total accounts payable of approximately $185,711 or
7% was due to these suppliers as of December 31, 2008, and $761,033 or 23% of
total accounts payable was due to these suppliers as of December 31,
2007.
NOTE V
- FAIR VALUE MEASUREMENTS
The
financial assets of the Company measured at fair value on a recurring basis are
cash equivalents, and long-term marketable securities. The Company’s cash
equivalents and long term marketable securities are generally classified within
Level 1 of the fair value hierarchy because they are valued using quoted
market prices, broker or dealer quotations, or alternative pricing sources with
reasonable levels of price transparency. The Company’s long-term investments are
classified within Level 3 of the fair value hierarchy because they are valued
using unobservable inputs, due to the fact that observable inputs are not
available, or situations in which there is little, if any, market activity for
the asset or liability at the measurement date. The Company’s
derivative liabilities are classified within Level 2 of the fair value hierarchy
because they are valued using inputs which are not actively observable, either
directly or indirectly.
● |
Level
1: Unadjusted quoted prices in active markets that are accessible at the
measurement date for identical, unrestricted assets or
liabilities;
|
|
● |
Level
2: Quoted prices in markets that are not active, or inputs which are
observable, either directly or indirectly, for substantially the full term
of the asset or liability; or
|
|
● |
Level
3: Prices or valuation techniques that require inputs that are both
significant to the fair value measurement and are
unobservable.
|
The
following table sets forth the Company’s short- and long-term investments as
of December 31, 2008 which are measured at fair value on a recurring
basis by level within the fair value hierarchy. As required by
SFAS No. 157, these are classified based on the lowest level of input
that is significant to the fair value measurement, (in thousands):
(in
thousands)
|
Level
1
|
Level
2
|
Level
3
|
Assets
at fair value
|
||||||||||||
Cash
and cash equivalents
|
$
|
168
|
$
|
-
|
$
|
-
|
$
|
168
|
||||||||
Marketable
securities
|
397
|
-
|
-
|
397
|
||||||||||||
Long-term
investments
|
-
|
-
|
63
|
63
|
||||||||||||
Derivative
liabilities
|
-
|
2,573
|
-
|
2,573
|
||||||||||||
Long-term
debt
|
-
|
-
|
$
|
1,311
|
1,311
|
|||||||||||
F-37
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE X
- SUBSEQUENT EVENTS
Senior Convertible
Debenture
In 2009,
the Company has issued 5,449,738 shares of its common stock for the repayment of
$500,000 of additional principal value of the outstanding convertible debentures
issued to YA Global Investments LP.
Sale of MSTI Holdings, Inc.
common stock
On
February 26, 2009, Telkonet, Inc. (the “Company”) executed and completed a Stock
Purchase Agreement (the “Agreement”) with William Davis pursuant to which the
Company sold, and Mr. Davis purchased, 2,800,000 shares of MSTI Holdings, Inc.
common stock (the “MSTI Shares”) for consideration in the aggregate
principal amount of $10,000.
In a
related transaction, the Company entered into a Partial Release of Lien with YA
Global Investments, L.P. (“YA Global”), pursuant to which, in consideration of
YA Global’s agreement to release its lien and security interest on the MSTI
Shares, the Company paid a commitment fee to YA Global in MSTI Holdings, Inc.
common stock equal to one percent (1%) of MSTI Holdings, Inc. common stock owned
by the Company following the sale of the MSTI Shares (157,000
Shares). Prior to the transaction, the Company held 18,500,000
Shares of MSTI Holdings, Inc. common stock.
With the
reduction in holdings, the Company now holds 15,543,000 of MSTI Holdings,
Inc. common stock reducing its percentage holdings in MSTI Holdings, Inc. common
stock to forty nine percent (49%).
Amendment to Senior
Convertible Debenture Agreement
On
February 20, 2009, the Company and YA Global Investments, L.P. entered into an
Agreement of Clarification pursuant to which the parties agreed upon the
following clarifications to the Securities Purchase Agreement and the Debenture
Agreement, dated May 30, 2008:
● |
The
parties agree that the term Equity Conditions shall be clarified such that
if the Company’s Common Stock has not been suspended from trading and the
Company has not been notified in writing that a delisting or suspension
from trading is threatened or pending, the Company shall be deemed to have
satisfied the conditions in clause (B) requiring that the Company be in
compliance with the then effective minimum listing maintenance
requirements of the exchange on which the Common Stock is
listed.
|
|
● |
Section
1(b) of the Debenture requires, among other things, that interest shall be
paid quarterly, in arrears. The Debentures do not indicate when
such quarterly interest payments begin. The parties agreed to
clarify that the quarterly interest payments shall be paid on the first
Business Day of each calendar quarter beginning on April 1,
2009. The parties further agreed to clarify that quarterly
interest accrued to date shall be added to the principal amount
outstanding under the Debentures and that each Debenture be amended to
reflect the applicable increase in principal amount. The
parties further agreed that the Company is not in breach of Section 2(a)
of the Debentures for not making any interest payments during calendar
year 2008 or the first quarter of calendar year
2009.
|
|
● |
The
conversion provisions contained in Section 4 of the Debentures and the
exercise provisions contained in Section 2 of the Warrants do not cap such
conversion or exercise provisions, as applicable, to the 19.99%
Limitation. The Principal Market requires such a cap absent
stockholder approval. To date the Company has not sought, nor
has YA Global requested, stockholder approval for issuances of common
stock in excess of the 19.99% Limitation. Accordingly, the
parties agree that the 19.99% Limitation is applicable for conversion of
the Debentures and exercises of the Warrants, in the aggregate and that
the Company shall not be obligated to issue such shares of common stock in
excess of the 19.99% Limitation unless and until the Company obtains
stockholder approval in accordance with applicable Principal Market rules
and regulations. Further, the Company agreed to seek
stockholder approval to remove the 19.99% Limitation at its next annual
meeting, to be held on or before May 31,
2009.
|
F-38
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
NOTE Y - RECLASSIFICATIONS
(DISCONTINUED OPERATIONS)
Subsequent
to the filing of our annual report on Form 10-K on April 1, 2009, the Company
completed the deconsolidation of MST by reducing its ownership percentage and
board membership. The deconsolidation of MST has been accounted for
as discontinued operations and accordingly, the assets and liabilities have been
segregated in the accompanying consolidated balance sheet and reclassified as
discontinued operations. The operating results relating to MST have been
reclassified from continuing operations and reported as discontinued operations
in the accompanying consolidated statements of operations.
On April
22, 2009, Warren V. Musser and Thomas C. Lynch, members of the Company’s Board
of Directors, submitted their resignations as directors of MSTI. As a
result of these resignations, and the decrease in beneficial ownership resulting
from the transaction described above, the Company is no longer required to
consolidate MSTI as a majority- owned subsidiary and the Company’s investment in
MSTI will now be accounted for under the cost method.
On June
26, 2009, MSTI entered into an Agreement and Consent to Acceptance of Collateral
(“Agreement”) with its senior secured lenders, Alpha Capital Anstalt, Gemini
Master Fund, Ltd., Whalehaven Capital Fund Limited and Brio Capital L.P.
(“Secured Lenders”). The Secured Lenders were the senior
secured creditors of MSTI with regard to obligations in the total principal
amount of $1,893,295 (together, the “Secured Lender
Obligations”).
Under the
Agreement: (a) MSTI (i) agreed and consented to the transfer to MST
Acquisition Group LLC (the “Designee”), for the benefit of the Secured
Lenders, of all of the assets of MSTI (the “Pledged Collateral”) in full
satisfaction of the Secured Lender Obligations, and (ii) waived and released (x)
all right, title and interest it has or might have in or to the Pledged
Collateral, including any right to redemption, and (y) any claim for a surplus;
and (b) the Secured Lenders agreed to accept the Pledged Collateral in
full satisfaction of the Secured Lender Obligations and waived and released MSTI
from any further obligations with respect to the Secured Lender
Obligations.
Net
income (loss) from discontinued operations on the consolidated statement of
operations for the nine month period ended September 30, 2009 includes the gain
on deconsolidation of $6,932,586, offset by MSTI's net losses of
$(635,735) for the period January 1, 2009 through April 30, 2009, the date
of deconsolidation. The market value of the MSTI common
shares owned by the Company as of September 30, 2009 was deemed permanently
impaired by management and as a result the Company has fully written off its
investment in MSTI and has not included any value for MSTI in the balance sheet
as of September 30, 2009.
The
following table shows the results of operations of MST:
Year
Ended December 31,
|
||||||||
2008
|
2007
|
|||||||
Revenues
|
$
|
3,971,958
|
$
|
2,675,750
|
||||
Gross
profit (loss)
|
(65,529
|
)
|
(729,849
|
)
|
||||
Selling,
general and administrative
|
3,686,576
|
4,108,077
|
||||||
Impairment
of goodwill and long lived assets
|
1,582,033
|
2,471,280
|
||||||
Depreciation
and amortization
|
591,925
|
466,142
|
||||||
Stock
based compensation
|
923,857
|
686,634
|
||||||
Total
operating expenses
|
6,784,391
|
7,732,133
|
||||||
Loss
from operations
|
(6,849,920
|
)
|
(8,461,982
|
)
|
||||
Other
income (expenses)
|
(5,992,855
|
)
|
(1,568,472
|
)
|
||||
Loss
before minority interest and provision for income
taxes
|
$
|
(12,842,775
|
)
|
$
|
(10,030,454
|
)
|
||
Minority
Interest
|
4,937,473
|
2,910,068
|
||||||
Net
Loss
|
$
|
(7,905,302
|
)
|
$
|
(7,120,386
|
)
|
F-39
TELKONET, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2008 AND 2007
The
following are the carrying amount of major classes of assets and liabilities of
MST’s discontinued operations:
December
31,
|
||||||||
2008
|
2007
|
|||||||
Current
assets, excluding intercompany
|
$
|
476,459
|
$
|
1,487,324
|
||||
Property
and equipment, net
|
3,340,932
|
4,526,612
|
||||||
Other
assets
|
3,252,237
|
4,505,213
|
||||||
Total
assets
|
$
|
7,069,628
|
$
|
10,519,149
|
||||
Current
liabilities, excluding intercompany
|
13,450,362
|
2,741,834
|
||||||
Long
term liabilities
|
-
|
4,432,342
|
||||||
Due
to TKO (intercompany)
|
2,181,793
|
1,270,287
|
||||||
Total
liabilities
|
$
|
15,632,155
|
$
|
8,444,463
|
||||
The
effect of the reclassification represents a $7,905,302, or 33% and $7,120,386,
or 35% decrease in our previously reported net loss from continuing operations
for the years ended December 31, 2008 and 2007, respectively. As a result
of the foregoing, all related notes to the consolidated financial statements for
the year ended December 31, 2008 and 2007 have been amended. There is no
effect on the Company’s previously reported net income, financial condition or
cash flows.
F-40
INTERIM
FINANCIAL STATEMENTS
TELKONET,
INC.
CONDENSED
CONSOLIDATED BALANCE SHEETS
(Unaudited)
September
30,
2009
|
December
31,
2008
|
|||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
and cash equivalents
|
$
|
38,449
|
$
|
168,492
|
||||
Accounts
receivable, net
|
687,056
|
836,336
|
||||||
Inventories
|
1,286,296
|
1,733,940
|
||||||
Other
current assets
|
195,204
|
230,539
|
||||||
Current
assets from discontinued operations
|
-
|
476,459
|
||||||
Total
current assets
|
2,207,005
|
3,445,766
|
||||||
Property
and equipment, net
|
290,924
|
403,593
|
||||||
Other
assets:
|
||||||||
Marketable
securities
|
-
|
397,403
|
||||||
Deferred
financing costs, net
|
287,178
|
432,136
|
||||||
Goodwill
and other intangible assets, net
|
14,956,212
|
15,137,469
|
||||||
Other
assets
|
8,890
|
98,807
|
||||||
Other
assets from discontinued operations
|
-
|
6,593,169
|
||||||
Total
other assets
|
15,252,280
|
22,658,984
|
||||||
Total
Assets
|
$
|
17,750,209
|
$
|
26,508,343
|
||||
LIABILITIES
AND EQUITY
|
||||||||
Current
liabilities:
|
||||||||
Accounts
payable and accrued liabilities
|
$
|
3,148,184
|
$
|
2,561,213
|
||||
Accrued
liabilities and expenses
|
1,968,910
|
1,996,044
|
||||||
Line
of credit
|
449,741
|
574,005
|
||||||
Other
current liabilities
|
141,059
|
278,033
|
||||||
Current
Liabilities from discontinued operations
|
-
|
13,450,362
|
||||||
Total
current liabilities
|
5,707,894
|
18,859,657
|
||||||
Long-term
liabilities:
|
||||||||
Convertible
debentures, net of debt discounts of $538,305 and $825,585,
respectively
|
1,067,718
|
1,311,065
|
||||||
Derivative
liability
|
1,870,113
|
2,573,126
|
||||||
Note
payable
|
300,000
|
-
|
||||||
Deferred
lease liability and other
|
50,791
|
50,791
|
||||||
Total
long-term liabilities
|
3,288,622
|
3,934,982
|
||||||
Commitments
and contingencies
|
-
|
-
|
||||||
Equity
|
||||||||
Preferred
stock, par value $.001 per share; 15,000,000 shares authorized; none
issued and outstanding at September 30, 2009 and December 31,
2008
|
-
|
-
|
||||||
Common
stock, par value $.001 per share; 155,000,000 shares authorized;
96,563,771 and 87,525,495 shares issued and outstanding at
September 30, 2009 and December 31, 2008,
respectively
|
96,564
|
87,526
|
||||||
Additional
paid-in-capital
|
119,296,304
|
118,197,450
|
||||||
Accumulated
deficit
|
(110,639,175
|
)
|
(114,801,318
|
)
|
||||
Accumulated
comprehensive loss
|
-
|
(32,750
|
)
|
|||||
Total
stockholders’ equity
|
8,753,693
|
3,450,908
|
||||||
Non-controlling
interest
|
-
|
262,795
|
||||||
Total
equity
|
8,753,693
|
3,713,703
|
||||||
Total
Liabilities and Equity
|
$
|
17,750,209
|
$
|
26,508,343
|
See
accompanying notes to the unaudited condensed consolidated financial
statements
F-41
TELKONET,
INC.
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(LOSS)
(UNAUDITED)
For
The Three Months Ended
September
30,
|
For
The Nine Months Ended
September
30,
|
|||||||||||||||
2009
|
2008
|
2009
|
2008
|
|||||||||||||
Revenues,
net:
|
||||||||||||||||
Product
|
$
|
1,445,888
|
$
|
3,837,728
|
$
|
5,462,955
|
$
|
10,821,179
|
||||||||
Recurring
|
991,130
|
897,482
|
2,982,384
|
2,559,728
|
||||||||||||
Total
Revenue
|
2,437,018
|
4,735,210
|
8,445,339
|
13,380,907
|
||||||||||||
Cost
of Sales:
|
||||||||||||||||
Product
|
833,926
|
2,076,776
|
2,942,748
|
6,800,627
|
||||||||||||
Recurring
|
348,321
|
416,723
|
957,668
|
1,274,786
|
||||||||||||
Total
Cost of Sales
|
1,182,247
|
2,493,499
|
3,900,416
|
8,075,413
|
||||||||||||
Gross
Profit
|
1,254,771
|
2,241,711
|
4,544,923
|
5,305,494
|
||||||||||||
Operating
Expenses:
|
||||||||||||||||
Research
and Development
|
263,672
|
509,418
|
761,950
|
1,667,229
|
||||||||||||
Selling,
General and Administrative
|
1,732,053
|
2,123,035
|
5,089,221
|
7,268,375
|
||||||||||||
Impairment
write-down in investment in affiliate
|
-
|
-
|
-
|
380,000
|
||||||||||||
Stock
Based Compensation
|
65,746
|
194,483
|
243,366
|
704,613
|
||||||||||||
Depreciation
and Amortization
|
86,223
|
103,056
|
266,740
|
318,210
|
||||||||||||
Total
Operating Expense
|
2,147,694
|
2,929,992
|
6,361,277
|
10,338,427
|
||||||||||||
Loss
from Operations
|
(892,923
|
)
|
(688,281
|
)
|
(1,816,354
|
)
|
(5,032,933
|
)
|
||||||||
Other
Income (Expenses):
|
||||||||||||||||
Financing
Expense, net
|
(228,730
|
)
|
(243,424
|
)
|
(710,266
|
)
|
(2,191,431
|
)
|
||||||||
Gain
(Loss) on Derivative Liability
|
(650,338
|
)
|
(576,156
|
)
|
788,936
|
(1,594,609
|
)
|
|||||||||
Impairment
of Investment in Marketable Securities
|
(367,653
|
)
|
-
|
(367,653
|
)
|
-
|
||||||||||
(Loss)
on Sale of Investment
|
-
|
-
|
(29,371
|
)
|
-
|
|||||||||||
Total
Other Income (Expenses)
|
(1,246,721
|
)
|
(819,580
|
)
|
(318,354
|
)
|
(3,786,040
|
)
|
||||||||
Income
(Loss) Before Provision for Income Taxes
|
(2,139,644
|
)
|
(1,507,861
|
)
|
(2,134,708
|
)
|
(8,818,973
|
)
|
||||||||
Provision
for Income Taxes
|
-
|
-
|
-
|
-
|
||||||||||||
Income
(Loss) from Continuing Operations
|
$
|
(2,139,644
|
)
|
$
|
(1,507,861
|
)
|
$
|
(2,134,708
|
)
|
$
|
(8,818,973
|
)
|
||||
Discontinued
Operations
|
||||||||||||||||
Income
(Loss) from Discontinued Operations
|
-
|
(1,370,896
|
)
|
(635,735
|
)
|
(3,412,656
|
)
|
|||||||||
Gain
on Deconsolidation
|
-
|
-
|
6,932,586
|
-
|
||||||||||||
Net
Income (Loss)
|
$
|
(2,139,644
|
)
|
$
|
(2,878,757
|
)
|
$
|
4,162,143
|
$
|
(12,231,629
|
)
|
|||||
Net
income (loss) per share:
|
||||||||||||||||
Income
(loss) per share from continuing operations - basic
|
$
|
(0.02
|
)
|
$
|
(0.04
|
)
|
$
|
(0.02
|
)
|
$
|
(0.16
|
)
|
||||
Income
(loss) per share from continuing operations -
diluted
|
$
|
(0.02
|
)
|
$
|
(0.04
|
)
|
$
|
(0.02
|
)
|
$
|
(0.16
|
)
|
||||
Income
(loss) per share from discontinued operations –
basic
|
$
|
0.00
|
$
|
(0.02
|
)
|
$
|
0.07
|
$
|
(0.04
|
)
|
||||||
Income
(loss) per share from discontinued operations –
diluted
|
$
|
0.00
|
$
|
(0.02
|
)
|
$
|
0.07
|
$
|
(0.04
|
)
|
||||||
Net
income (loss) per share – basic
|
$
|
(0.02
|
)
|
$
|
(0.04
|
)
|
$
|
0.04
|
$
|
(0.16
|
)
|
|||||
Net
income (loss) per share - diluted
|
$
|
(0.02
|
)
|
$
|
(0.04
|
)
|
$
|
0.04
|
$
|
(0.16
|
)
|
|||||
Weighted
Average Common Shares Outstanding - basic
|
96,220,386
|
81,422,404
|
93,787,069
|
76,880,047
|
||||||||||||
Weighted
Average Common Shares Outstanding - diluted
|
96,220,386
|
81,422,404
|
93,787,069
|
76,880,047
|
||||||||||||
Comprehensive
Income (Loss):
|
||||||||||||||||
Net
Income (Loss)
|
$
|
(2,139,644
|
)
|
$
|
(2,878,757
|
)
|
$
|
4,162,143
|
$
|
(12,231,629
|
)
|
|||||
Unrecognized
Gain (Loss) on Investment
|
-
|
(1,218,100
|
)
|
32,750
|
(2,776,304
|
)
|
||||||||||
Comprehensive
Income (Loss)
|
$
|
(2,139,644
|
)
|
$
|
(4,096,857
|
)
|
$
|
4,194,893
|
$
|
(15,007,933
|
)
|
See
accompanying notes to the unaudited condensed consolidated financial
statements
F-42
TELKONET,
INC.
CONDENSED
CONSOLIDATED STATEMENT OF EQUITY (UNAUDITED)
FOR
THE PERIOD FROM JANUARY 1, 2009 THROUGH SEPTEMBER 30, 2009
Preferred
Shares
|
Preferred
Stock
Amount
|
Common
Shares
|
Common
Stock
Amount
|
Additional
Paid
in
Capital
|
Accumulated
Deficit
|
Comprehensive
Income
(Loss)
|
Noncontrolling
Interest
|
Total
|
||||||||||||||||||||||||||||
Balance
at January 1, 2009
|
87,525,495
|
$
|
87,526
|
$
|
118,197,450
|
$
|
(114,801,318
|
)
|
$
|
(32,750
|
)
|
$
|
262,795
|
$
|
3,713,703
|
|||||||||||||||||||||
Shares
issued in exchange for services rendered at approximately $0.12 per
share
|
-
|
-
|
83,333
|
83
|
9,917
|
-
|
-
|
-
|
10,000
|
|||||||||||||||||||||||||||
Shares
issued for warrants exercised at $0.09 per share
|
-
|
-
|
780,000
|
780
|
70,746
|
-
|
-
|
-
|
71,526
|
|||||||||||||||||||||||||||
Shares
issued in exchange for convertible debentures
|
-
|
-
|
8,174,943
|
8,175
|
714,339
|
-
|
-
|
-
|
722,514
|
|||||||||||||||||||||||||||
Stock-based
compensation expense related to employee stock
options
|
-
|
-
|
-
|
-
|
233,366
|
-
|
-
|
233,366
|
||||||||||||||||||||||||||||
Stock-based
compensation expense related to the re-pricing of investor
warrants
|
-
|
-
|
-
|
-
|
70,486
|
-
|
-
|
-
|
70,486
|
|||||||||||||||||||||||||||
Unrealized
Gain on available for sale securities
|
-
|
-
|
-
|
-
|
-
|
-
|
32,750
|
-
|
32,750
|
|||||||||||||||||||||||||||
Reclass
of non-controlling interest
|
-
|
-
|
-
|
-
|
-
|
-
|
-
|
(262,795
|
)
|
(262,795
|
)
|
|||||||||||||||||||||||||
Income
from discontinued operations
|
-
|
-
|
-
|
-
|
-
|
6,296,851
|
-
|
-
|
6,296,851
|
|||||||||||||||||||||||||||
Income
from continuing operations
|
-
|
-
|
-
|
-
|
-
|
(2,134,708
|
)
|
-
|
-
|
(2,134,708
|
)
|
|||||||||||||||||||||||||
Balance
at September 30, 2009
|
-
|
$
-
|
96,563,771
|
$
|
96,564
|
$
|
119,296,304
|
$
|
(110,639,175
|
)
|
$
|
-
|
$
|
-
|
$
|
8,753,693
|
See
accompanying notes to the unaudited condensed consolidated financial
statements
F-43
TELKONET,
INC.
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
For
the Nine Months
Ended
September 30,
|
||||||||
2009
|
2008
|
|||||||
Increase
(Decrease) In Cash and Equivalents
|
||||||||
Cash
Flows from Operating Activities:
|
||||||||
Net
income (loss) attributable to common shareholders
|
$
|
4,162,143
|
$
|
(12,231,639
|
)
|
|||
Net
(income) loss from discontinued operations
|
(6,296,851
|
)
|
3,082,656
|
|||||
Net
income (loss) from continuing operations
|
(2,134,708
|
)
|
(9,148,983
|
)
|
||||
Adjustments
to reconcile net income (loss) from operations to cash (used
in) operating activities:
|
||||||||
Amortization
of debt discounts and financing costs
|
543,161
|
364,374
|
||||||
Loss
on sale of investment
|
29,371
|
-
|
||||||
Impairment
of investment in marketable securities
|
367,653
|
|||||||
(Gain)
loss on derivative liability
|
(788,936
|
)
|
1,594,609
|
|||||
Impairment
write-down on fixed assets and goodwill
|
-
|
710,000
|
||||||
Stock
based compensation
|
243,366
|
704,613
|
||||||
Fair
value of issuance of warrants and re-pricing (financing
expense)
|
70,486
|
1,798,662
|
||||||
Depreciation
and amortization
|
266,740
|
350,163
|
||||||
Increase
/ decrease in:
|
||||||||
Accounts
receivable, trade and other
|
766,598
|
455,162
|
||||||
Inventories
|
447,644
|
572,088
|
||||||
Prepaid
expenses and deposits
|
117,019
|
345,520
|
||||||
Deferred
revenue
|
(20,536
|
)
|
(28,008
|
)
|
||||
Other
Assets
|
(62,595
|
)
|
157,654
|
|||||
Accounts
payable, net
|
(90,088
|
)
|
(803,822
|
)
|
||||
Accrued
expenses, net
|
172,319
|
(305,398
|
)
|
|||||
Cash
used in continuing operations
|
(72,506
|
)
|
(3,233,366
|
)
|
||||
Cash
used in discontinued operations
|
(287,997
|
)
|
(861,542
|
)
|
||||
Net
Cash Used In Operating Activities
|
(360,503
|
)
|
(4,094,908
|
)
|
||||
Cash
Flows From Investing Activities:
|
||||||||
Purchase
of property and equipment
|
(2,675
|
)
|
(14,375
|
)
|
||||
Advances
to unconsolidated subsidiary
|
(305,539
|
)
|
-
|
|||||
Proceeds
from sale of investment
|
33,129
|
-
|
||||||
Cash
used in continuing operations
|
(275,085
|
)
|
(14,375
|
)
|
||||
Cash
used in discontinued operations
|
(5,979
|
)
|
(994,344
|
)
|
||||
Net
Cash Used In Investing Activities
|
(281,064
|
)
|
(1,008,719
|
)
|
||||
Cash
Flows From Financing Activities:
|
||||||||
Proceeds
from issuance of convertible debentures
|
-
|
3,500,000
|
||||||
Proceeds
from sale of common stock, net of costs and fees
|
-
|
1,500,000
|
||||||
Proceeds
from issuance of notes payable
|
300,000
|
60,000
|
||||||
Proceeds
(repayments) from line of credit
|
(124,264
|
)
|
475,000
|
|||||
Financing
fees
|
(25,000
|
)
|
(462,566
|
)
|
||||
Repayment
of notes payable
|
-
|
(1,500,000
|
)
|
|||||
Proceeds
from the exercise of warrants
|
71,526
|
-
|
||||||
Repayment
of capital lease and other
|
(4,714
|
)
|
(4,625
|
)
|
||||
Cash
provided by continuing operations
|
217,548
|
3,567,809
|
||||||
Cash
provided by discontinued operations
|
293,976
|
56,228
|
||||||
Net
Cash Provided By Financing Activities
|
511,524
|
3,624,037
|
||||||
Net
Decrease In Cash and Equivalents
|
(130,043
|
)
|
(1,479,590
|
)
|
||||
Cash
and cash equivalents at the beginning of the period
|
168,492
|
1,629,583
|
||||||
Cash
and cash equivalents at the end of the period
|
$
|
38,449
|
$
|
149,993
|
See
accompanying notes to the unaudited condensed consolidated financial
statements
F-44
TELKONET,
INC.
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(UNAUDITED)
For
the Nine Months Ended
September
30,
|
||||||||
2009
|
2008
|
|||||||
Supplemental
Disclosures of Cash Flow Information:
|
||||||||
Cash
transactions:
|
||||||||
Cash
paid during the period for financing expenses
|
$
|
355,340
|
$
|
257,403
|
||||
Income
taxes paid
|
-
|
-
|
||||||
Non-cash
transactions:
|
||||||||
Stock
based compensation to employees and consultants in exchange for
services
|
$
|
243,366
|
$
|
704,613
|
||||
Fair
value of issuance of warrants and re-pricing (financing
expense)
|
70,486
|
1,798,662
|
||||||
(Gain)
loss on derivative liability
|
(788,936
|
)
|
1,594,609
|
|||||
Impairment
write-down on goodwill and fixed assets
|
-
|
710,000
|
||||||
Amortization
of debt discount on convertible debentures and financing
costs
|
543,161
|
364,374
|
||||||
Accrued
interest re classified as convertible debenture
principal
|
191,887
|
-
|
||||||
Value
of common stock issued in exchange for conversion of debenture
principal
|
722,514
|
710,000
|
See
accompanying notes to the unaudited condensed consolidated financial
statements
F-45
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE
A - SUMMARY OF ACCOUNTING POLICIES
A summary
of the significant accounting policies applied in the preparation of the
accompanying consolidated financial statements follows.
Business and Basis of
Presentation
Telkonet,
Inc., formed in 1999 and incorporated under the laws of the state of Utah, has
evolved into a Clean Technology company that develops and manufactures
proprietary energy efficiency and SmartGrid networking
technology. Prior to January 1, 2007, the Company was primarily
engaged in the business of developing, producing and marketing proprietary
equipment enabling the transmission of voice and data communications over a
building’s existing internal electrical wiring.
In
January 2006, of the Company acquired 90% of Microwave Satellite Technologies,
Inc. (MST), and through this subsidiary, the Company began
offering complete sales, installation, and service of VSAT and business
television networks, and became a full-service national Internet Service
Provider (ISP). In 2009, the Company completed the deconsolidation of
MST by reducing its ownership percentage and board
membership. Financial statements and accompanying notes included in
this report include disclosure of the results of operations for MST, for all
periods presented, as discontinued operations.
In March
2007, the Company acquired substantially all of the assets of Smart Systems
International (SSI), a leading provider of energy management products and
solutions to customers in the United States and Canada.
In March
2007, the Company acquired 100% of the outstanding membership units of
EthoStream, LLC, a network solutions integration company that offers
installation, sales and service to the hospitality industry. The
EthoStream acquisition enables Telkonet to provide installation and support for
PLC products and third party applications to customers across North
America.
The
unaudited condensed consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries, Telkonet Communications, Inc. and
EthoStream, LLC. Significant intercompany transactions have been
eliminated in consolidation.
Going
Concern
The
accompanying unaudited condensed consolidated financial statements have
been prepared in conformity with accounting principles generally
accepted in the United States of
America, which contemplate continuation of the Company as a going
concern. The Company has reported a net income available to common
shareholders of $4,162,143 for the nine months ended September 30,
2009. However, the Company has reported operating losses of
$1,816,354, excluding gains on derivative liabilities, impairment of marketable
securities and discontinued operations, for the nine months ended September
30, 2009. In addition, the Company has reported an accumulated
deficit of $110,639,175 and a working capital deficit of $3,500,889 as of
September 30, 2009.
The
Company believes that anticipated revenues from operations will be insufficient
to satisfy its ongoing capital requirements for at least the next 12
months. If the Company’s financial resources from
operations are insufficient, the Company will
require additional financing in order to execute its operating plan
and continue as a going concern. The Company cannot predict whether
this additional financing will be in the form of equity or debt, or be
in another form. The Company may not be able to obtain the
necessary additional capital on a
timely basis, on acceptable terms, or at
all. In any of these events, the Company may be unable to
implement its current plans for expansion,
repay its debt obligations as they become due,
or respond to competitive pressures, any of
which circumstances would have a material adverse effect on its
business, prospects, financial condition and results of operations.
F-46
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
Management intends
to raise capital through asset-based financing and/or the sale of its stock in
private placements. Management believes that with this financing, the
Company will be able to generate additional revenues that will allow the Company
to continue as a going concern. There can be no assurance that
the Company will be successful in obtaining additional funding.
Goodwill and Other Intangibles
Goodwill
represents the excess of the cost of businesses acquired over fair value or net
identifiable assets at the date of acquisition. Goodwill is subject
to a periodic impairment assessment by applying a fair value test based upon a
two-step method. The first step of the process compares the fair
value of the reporting unit with the carrying value of the reporting unit,
including any goodwill. The Company utilizes a discounted cash flow
valuation methodology to determine the fair value of the reporting
unit. If the fair value of the reporting unit exceeds the carrying
amount of the reporting unit, goodwill is deemed not to be impaired in which
case the second step in the process is unnecessary. If the carrying
amount exceeds fair value, the Company performs the second step to measure the
amount of impairment loss. Any impairment loss is measured by
comparing the implied fair value of goodwill, calculated per SFAS No. 142,
with the carrying amount of goodwill at the reporting unit, with the excess of
the carrying amount over the fair value recognized as an impairment
loss.
Fair Value of Financial
Instruments
In
January 2008, the Company adopted the provisions under FASB for Fair Value
Measurements, which define fair value for accounting purposes, establishes a
framework for measuring fair value and expands disclosure requirements regarding
fair value measurements. The Company’s adoption of these provisions
did not have a material impact on its consolidated financial statements. Fair
value is defined as an exit price, which is the price that would be received
upon sale of an asset or paid upon transfer of a liability in an orderly
transaction between market participants at the measurement date. The
degree of judgment utilized in measuring the fair value of assets and
liabilities generally correlates to the level of pricing
observability. Financial assets and liabilities with readily
available, actively quoted prices or for which fair value can be measured from
actively quoted prices in active markets generally have more pricing
observability and require less judgment in measuring fair
value. Conversely, financial assets and liabilities that are rarely
traded or not quoted have less price observability and are generally measured at
fair value using valuation models that require more judgment. These
valuation techniques involve some level of management estimation and judgment,
the degree of which is dependent on the price transparency of the asset,
liability or market and the nature of the asset or liability. The
Company has categorized its financial assets and liabilities measured at fair
value into a three-level hierarchy in accordance with these
provisions.
Investments
Telkonet
maintained investments in two publicly-traded companies for the period ended
September 30, 2009. The Company has classified these securities as
available for sale. Such securities are carried at fair market
value. Unrealized gains and losses on these securities, if any, are
reported as accumulated other comprehensive income (loss), which is a separate
component of stockholders’ equity. Unrealized gains on the sale of
one investment resulted in a gain of $32,750 recorded for the nine months ended
September 30, 2009 and unrealized losses of $2,776,304 were recorded for the
nine months ended September 30, 2008. Realized gains and losses and
declines in value judged to be other than temporary on securities available for
sale, if any, are included in operations. Realized losses of
$397,024 were recognized for the nine months ended September 30, 2009, of which,
a $29,371 loss was recorded in February 2009 for the sale of the Company’s
investment in Multiband, and a $367,653 loss was recorded in September 2009 for
the write-off of the Company’s remaining investment in Geeks on Call America,
Inc. There were no realized gains or losses for the nine months ended
September 30, 2008.
F-47
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
Use of
Estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect certain reported amounts and disclosures. Accordingly, actual
results could differ from those estimates.
Revenue
Recognition
For
revenue from product sales, the Company recognizes revenue in accordance with
FASB’s Accounting Standards Codification (“ASC”) 605-10, and ASC Topic 13
guidelines that require that four basic criteria must be met before revenue can
be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery
has occurred; (3) the selling price is fixed and determinable; and (4)
collectibility is reasonably assured. Determination of criteria (3) and (4) are
based on management’s judgments regarding the fixed nature of the selling prices
of the products delivered and the collectibility of those amounts. Provisions
for discounts and rebates to customers, estimated returns and allowances, and
other adjustments are provided for in the same period the related sales are
recorded. The Company defers any revenue for which the product has
not been delivered or is subject to refund until such time that the Company and
the customer jointly determine that the product has been delivered or no refund
will be required. The guidelines also address the accounting for
arrangements that may involve the delivery or performance of multiple products,
services and/or rights to use assets.
For
equipment under lease, revenue is recognized over the lease term for operating
lease and rental contracts. All of the Company’s leases are accounted for as
operating leases. At the inception of the lease, no lease revenue is
recognized and the leased equipment and installation costs are capitalized and
appear on the balance sheet as “Equipment Under Operating
Leases.” The capitalized cost of this equipment is depreciated from
two to three years, on a straight-line basis down to the Company’s original
estimate of the projected value of the equipment at the end of the scheduled
lease term. Monthly lease payments are recognized as rental income.
Revenue
from sales-type leases for EthoStream products is recognized at the time of
lessee acceptance, which follows installation. The Company recognizes
revenue from sales-type leases at the net present value of future lease
payments. Revenue from operating leases is recognized ratably over the lease
period
Reclassifications
Certain
reclassifications have been made in prior year's financial statements to conform
to classifications used in the current year.
Non-controlling
Interest
As a
result of adopting FASB ASC 810-10 Consolidations – Variable Interest Entities,
on January 1, 2009, we present non-controlling interests (previously shown as
minority interest) as a component of equity on our Consolidated Balance Sheets
and Consolidated Statement of Equity (Deficit). The adoption of this
guidance did not have any other material impact on our financial position,
results of operations or cash flow.
New Accounting
Pronouncements
Accounting Standards Codification
and GAAP Hierarchy — Effective for interim and annual periods
ending after September 15, 2009, the Accounting Standards Codification and
related disclosure requirements issued by the FASB became the single official
source of authoritative, nongovernmental GAAP. The ASC simplifies GAAP, without
change, by consolidating the numerous, predecessor accounting standards and
requirements into logically organized topics. All other literature not included
in the ASC is non-authoritative. We adopted the ASC as of September 30, 2009,
which did not have any impact on our results of operations, financial condition
or cash flows as it does not represent new accounting literature or
requirements. All references to pre-codified U.S. GAAP have
been removed from this Form 10-Q.
F-48
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
Financial
Instruments — Effective for interim and annual periods ending
after June 15, 2009, GAAP established new disclosure requirements for the
fair value of financial instruments in both interim and annual financial
statements. Previously, the disclosure was only required annually. We adopted
the new requirements as of July 4, 2009, which resulted in no change to our
accounting policies, and had no effect on our results of operations, cash flows
or financial position, but did result in the addition of interim disclosure of
the fair values of our financial instruments.
Consolidation— Effective
for interim and annual periods beginning after November 15, 2009, with
earlier application prohibited, GAAP amends the current accounting standards for
determining which enterprise has a controlling financial interest in a VIE and
amends guidance for determining whether an entity is a VIE. The new standards
will also add reconsideration events for determining whether an entity is a VIE
and will require ongoing reassessment of which entity is determined to be the
VIE’s primary beneficiary as well as enhanced disclosures about the enterprise’s
involvement with a VIE. We are currently assessing the future impact these new
standards will have on our results of operations, financial position or cash
flows.
Transfers and Servicing –
Effective for interim and annual periods beginning after November 15, 2009,
GAAP eliminates the concept of a qualifying special purpose entity, changes the
requirements for derecognizing financial assets and requires additional
disclosures. We are currently assessing the future impact these new standards
will have on our results of operations, financial position or cash
flows.
NOTE B
- INTANGIBLE ASSETS AND GOODWILL
Total
identifiable intangible assets acquired and their carrying values at December
31, 2008 are:
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net
|
Residual
Value
|
Weighted
Average
Amortization
Period
(Years)
|
||||||||||||||||
Amortized
Identifiable Intangible Assets:
|
||||||||||||||||||||
Subscriber
lists - EthoStream
|
$
|
2,900,000
|
$
|
(432,986
|
)
|
$
|
2,467,014
|
$
|
-
|
12.0
|
||||||||||
Total
Amortized Identifiable Intangible Assets
|
2,900,000
|
(432,986
|
)
|
2,467,014
|
-
|
9.6
|
||||||||||||||
Goodwill
- EthoStream
|
8,796,439
|
(2,000,000
|
)
|
6,796,439
|
-
|
|||||||||||||||
Goodwill
- SSI
|
5,874,016
|
-
|
5,874,016
|
-
|
||||||||||||||||
Total
|
$
|
17,570,455
|
$
|
(2,432,985
|
)
|
$
|
15,137,469
|
$
|
-
|
Total
identifiable intangible assets acquired and their carrying values at September
30, 2009 are:
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net
|
Residual
Value
|
Weighted
Average
Amortization Period
(Years)
|
|||||||||||||||
Amortized
Identifiable Intangible Assets:
|
|||||||||||||||||||
Subscriber
lists - EthoStream
|
$
|
2,900,000
|
$
|
(614,243
|
)
|
$
|
2,285,757
|
$
|
-
|
|
12.0
|
||||||||
Total
Amortized Identifiable Intangible Assets
|
2,900,000
|
(614,243
|
)
|
2,285,757
|
-
|
|
12.0
|
||||||||||||
Goodwill
- EthoStream
|
8,796,439
|
(2,000,000
|
)
|
6,796,439
|
-
|
||||||||||||||
Goodwill
- SSI
|
5,874,016
|
-
|
5,874,016
|
-
|
|||||||||||||||
Total
|
$
|
17,570,455
|
$
|
(2,614,243
|
)
|
$
|
14,956,212
|
$
|
-
|
Total
amortization expense charged to operations for the three and nine months ended
September 30, 2009 and 2008 was $60,424 and $181,257, and $60,417 and $120,833,
respectively.
F-49
TELKONET, INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE
C - ACCOUNTS RECEIVABLE
Components
of accounts receivable as of September 30, 2009 and December 31, 2008 are as
follows:
September
30,
2009
|
December
31,
2008
|
|||||||
Accounts
receivable (factored)
|
$
|
1,087,086
|
$
|
1,961,535
|
||||
Advances
from factor
|
(342,876
|
)
|
(1,075,879
|
)
|
||||
Due
from factor
|
744,210
|
885,656
|
||||||
Accounts
receivable (non-factored)
|
85,846
|
127,080
|
||||||
Allowance
for doubtful accounts
|
(143,000
|
)
|
(176,400
|
)
|
||||
Total
|
$
|
687,056
|
$
|
836,336
|
In
February 2008, the Company entered into a factoring agreement to sell, without
recourse, certain receivables to an unrelated third party financial institution
in an effort to accelerate cash flow. Under the terms of the
factoring agreement the maximum amount of outstanding receivables at any one
time is $2.5 million. Proceeds on the transfer reflect the face value
of the account less a discount. The discount is recorded as interest
expense in the Consolidated Statement of Operations in the period of the
sale. Net funds received reduced accounts receivable outstanding
while increasing cash. Fees paid pursuant to this arrangement are
included in “Operating expenses” in the Consolidated Statement of Operations and
amounted to $156,582 for the period ended September 30, 2009. The
amounts borrowed are collateralized by the outstanding accounts receivable, and
are reflected as a reduction to accounts receivable in the accompanying
consolidated balance sheets.
NOTE
D - INVENTORIES
Components
of inventories as of September 30, 2009 and December 31, 2008 are as
follows:
September
30,
2009
|
December
31,
2008
|
|||||||
Raw
Materials
|
$
|
737,752
|
$
|
843,978
|
||||
Finished
Goods
|
748,544
|
1,089,962
|
||||||
Reserve
for Obsolescence
|
(200,000
|
(200,000
|
)
|
|||||
Total
|
$
|
1,286,296
|
$
|
1,733,940
|
F-50
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE E
- PROPERTY AND EQUIPMENT
The
Company’s property and equipment at September 30, 2009 and December 31, 2008
consists of the following:
September
30,
2009
|
December
31,
2008
|
|||||||
Telecommunications
and related equipment
|
$
|
117,637
|
$
|
117,493
|
||||
Development
Test Equipment
|
153,484
|
153,484
|
||||||
Computer
Software
|
160,894
|
160,894
|
||||||
Leasehold
Improvements
|
228,017
|
248,778
|
||||||
Office
Equipment
|
371,251
|
377,851
|
||||||
Office
Fixtures and Furniture
|
249,604
|
265,315
|
||||||
Total
|
1,280,887
|
1,328,818
|
||||||
Accumulated
Depreciation
|
(989,966
|
)
|
(925,225
|
)
|
||||
$
|
290,924
|
$
|
403,593
|
Depreciation
expense included as a charge to income was $25,803 and $90,364 and $54,120 and
$168,911 for the three and nine months ended September 30, 2009 and 2008,
respectively.
NOTE F -
MARKETABLE SECURITIES
Multiband
Corporation
In
connection with a payment of $75,000 of accounts receivable, the Company
received 30,000 shares of common stock of Multiband Corporation, a
Minnesota-based communication services provider to multiple dwelling
units. The Company classifies this security as available for sale,
and it is carried at fair market value. The Company sold its
remaining investment in Multiband and recorded a loss of $29,371 in January
2009.
Geeks on Call America,
Inc
As of
September 30, 2009, the Company maintained an investment in a publicly traded
company which was approximately 18% of the outstanding shares of common stock of
Geeks on Call Holdings, Inc. (“GOCA”), a provider of on-site computer services
to residential and commercial customers. As of December 31, 2008, the
Company determined that a significant portion of this investment was permanently
impaired and wrote-off $4,098,514. Management has determined that the
entire investment in GOCA is impaired and the remaining value of $367,653 has
been written off during the period ended September 30, 2009.
F-51
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE G -
LINE OF CREDIT
In
September 2008, the Company entered into a two-year line of credit facility with
a third party financial institution. The line of credit has an
aggregate principal amount of $1,000,000 and is secured by the Company’s
inventory. The outstanding principal balance bears interest at the
greater of (i) the Wall Street Journal Prime Rate plus nine (9%) percent per
annum, adjusted on the date of any change in such prime or base rate, or (ii)
sixteen percent (16%). Interest, computed on a 365/360 simple
interest basis, and fees on the credit facility are payable monthly in arrears
on the last day of each month and continuing on the last day of each month until
the maturity date. The Company may prepay amounts outstanding under
the credit facility in whole or in part at any time. In the event of
such prepayment, the lender will be entitled to receive a prepayment fee of four
percent (4.0%) of the highest aggregate loan commitment amount if prepayment
occurs before the end of the first year and three percent (3.0%) if prepayment
occurs thereafter. The outstanding borrowing under the agreement at
September 30, 2009 was $449,741. The Company has incurred interest
expense of $103,881 related to the line of credit for the nine months ended
September 30, 2009. The Prime Rate was 3.25% at September 30,
2009.
On
November 11, 2009, the Company received a notice of waiver of the “minimum cash
flow to debt service ratio” and the “tangible net worth” requirements under the
line of credit facility, as such terms are defined in items D(10)a and D(10)b,
respectively, of the line of credit agreement. The waiver is in
effect as of September 30, 2009 and continues for the 90 day period
thereafter.
NOTE H
- SENIOR CONVERTIBLE DEBENTURES
Senior Convertible
Debenture
A summary
of convertible debentures payable at September 30, 2009 and December 31, 2008 is
as follows:
September
30,
2009
|
December
31,
2008
|
|||||||
Senior
Convertible Debentures, accrue interest at 13% per annum and mature on May
29, 2011
|
$
|
1,606,023
|
$
|
2,136,650
|
||||
Debt
Discount - beneficial conversion feature, net of accumulated amortization
of $514,381 and $295,508 at September 30, 2009 and December 31, 2008,
respectively.
|
(292,508
|
)
|
(425,458
|
)
|
||||
Debt
Discount - value attributable to warrants attached to notes, net of
accumulated amortization of $432,243 and $277,913 at September 30, 2009
and December 31, 2008, respectively.
|
(245,797
|
)
|
(400,127
|
)
|
||||
Total
|
$
|
1,067,718
|
$
|
1,311,065
|
||||
Less:
current portion
|
-
|
-
|
||||||
$
|
1,067,718
|
$
|
1,311,065
|
As of
September 30, 2009, the Company has $1,606,023 outstanding in convertible
debentures. During the nine months ended September 30, 2009, $722,514 of
convertible debentures was converted into 8,174,943 shares of common
stock.
The
Company amortized the beneficial conversion feature and the value of the
attached warrants, and recorded non-cash interest expense in the amount of
$218,873 and $154,330, respectively, and $146,251 and $137,545, respectively,
for the nine months ended September 30, 2009, and 2008.
On
February 20, 2009, the Company and YA Global entered into an Agreement of
Clarification pursuant to which the parties agreed that interest accrued as of
December 31, 2008, in the amount of $191,887 shall be added to the principal
amount outstanding under the Debentures and that each Debenture be amended to
reflect the applicable increase in principal amount. In connection
with this increase in the principal value of the debenture, the Company has
recognized an additional $85,923 of debt discount attributed to the beneficial
conversion feature of the debenture for the period ended September 30,
2009.
F-52
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
On May
28, 2009, the Company’s shareholders voted against a proposal to remove the
Exchange Cap, allowing YA Global to potentially acquiring in excess of 19.99% of
the outstanding shares of the Company’s common stock, as of May 30, 2008, upon
conversion of debentures and/or the exercise of warrants, pursuant to NYSE Amex
LLC regulations. In the Agreement of Clarification, the Company
agreed to seek approval of the share issuance at the 2009 annual meeting of
stockholders, which was held on May 28, 2009. On May 12, 2009, YA
Global met the Exchange Cap for the conversion of its debentures, and cannot
receive additional shares of the Company’s common stock for the conversion of
debentures or exercise of warrants, under NYSE Amex rules.
At
September 30, 2009, the Senior Convertible Debenture had an estimated fair value
of $1.1 million.
Business
Loan
On
September 11, 2009, the Company entered into a Loan Agreement in the
aggregate principal amount of $300,000 with the Wisconsin Department of Commerce
(the “Department”). The outstanding principal balance bears interest
at the annual rate of two (2.00) percent. Payment of interest and principal is
to be made in the following manner: (a) payment of any and all
interest that accrues from the date of disbursement commences on January 1, 2010
and continues on the first day of each consecutive month thereafter through and
including December 31, 2010; (b) commencing on January 1, 2011 and continuing on
the first day of each consecutive month thereafter through and including
November 1, 2016, the Company shall pay equal monthly installments of $4,426
each; followed by a final installment on December 1, 2016 which shall include
all remaining principal, accrued interest and other amounts owed by the Company
to the Department under the Loan Agreement. The Company may prepay
amounts outstanding under the credit facility in whole or in part at any time
without penalty. The credit facility is secured by the Company’s
assets and the proceeds from this loan will be used for the working capital
requirements of the Company. The outstanding borrowing under the
agreement at September 30, 2009 was $300,000.
Aggregate
maturities of long-term debt as of September 30, 2009 are as
follows:
For
the twelve months ended December 31,
|
Amount
|
|||
2009
|
$
|
-
|
||
2010
|
-
|
|||
2011
|
1,606,023
|
|||
2012
and thereafter
|
300,000
|
|||
$
|
1,906,023
|
NOTE I
- CAPITAL STOCK
The
Company has authorized 15,000,000 shares of preferred stock, with a par value of
$.001 per share. As of September 30, 2009 and December 31, 2008, the Company has
no preferred stock issued and outstanding. The Company has authorized
155,000,000 shares of common stock, with a par value of $.001 per share. As of
September 30, 2009 and December 31, 2008, the Company has 96,563,771 and
87,525,495, respectively, shares of common stock issued and
outstanding.
During
the nine months ended September 30, 2009, the Company issued 83,333 shares of
common stock to consultants for services performed and services accrued in
fiscal 2008. These shares were valued at $10,000, which approximated
the fair value of the shares when they were issued.
During
the nine months ended September 30, 2009, the Company issued 780,000 shares of
common stock at approximately $0.09 per share to warrant holders in exchange for
the exercise of their stock purchase warrants.
During
the nine months ended September 30, 2009, the Company issued 8,174,943 shares of
common stock at approximately $0.09 per share to its senior convertible
debenture holders in exchange for $722,514 of debentures.
F-53
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE J
- STOCK OPTIONS AND WARRANTS
Employee Stock
Options
The
following table summarizes the changes in options outstanding and the related
prices for the shares of the Company’s common stock issued to employees of the
Company under a non-qualified employee stock option plan.
Options
Outstanding
|
Options
Exercisable
|
|||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
|||||||||||||||||
$
|
1.00
- $1.99
|
4,417,133
|
3.93
|
$
|
1.02
|
4,273,550
|
$
|
1.01
|
||||||||||||||
$
|
2.00
- $2.99
|
997,500
|
5.48
|
$
|
2.52
|
957,250
|
$
|
2.51
|
||||||||||||||
$
|
3.00
- $3.99
|
536,250
|
6.08
|
$
|
3.23
|
413,500
|
$
|
3.28
|
||||||||||||||
$
|
4.00
- $4.99
|
70,000
|
5.83
|
$
|
4.33
|
58,500
|
$
|
4.33
|
||||||||||||||
$
|
5.00
- $5.99
|
100,000
|
5.57
|
$
|
5.17
|
88,000
|
$
|
5.16
|
||||||||||||||
6,120,883
|
4.42
|
$
|
1.56
|
5,790,800
|
$
|
1.52
|
Transactions
involving stock options issued to employees are summarized as
follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2008
|
8,105,429
|
$
|
1.98
|
|||||
Granted
|
185,000
|
1.00
|
||||||
Exercised
|
-
|
-
|
||||||
Cancelled
or expired
|
(1,296,500
|
)
|
2.71
|
|||||
Outstanding
at December 31, 2008
|
6,993,929
|
$
|
1.82
|
|||||
Granted
|
320,000
|
1.00
|
||||||
Exercised
|
-
|
-
|
||||||
Cancelled
or expired
|
(1,193,046
|
)
|
2.91
|
|||||
Outstanding
at September 30, 2009
|
6,120,883
|
$
|
1.56
|
F-54
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
The
weighted-average fair value of stock options granted to employees during the
period ended September 30, 2009 and 2008 and the weighted-average significant
assumptions used to determine those fair values, using a Black-Scholes option
pricing model are as follows:
September
30, 2009
|
September
30, 2008
|
|||||||
Significant
assumptions (weighted-average):
|
||||||||
Risk-free
interest rate at grant date
|
3.5
|
% |
3.0
|
% | ||||
Expected
stock price volatility
|
81
|
% |
74
|
% | ||||
Expected
dividend payout
|
-
|
-
|
||||||
Expected
option life (in years)
|
5.0
|
5.0
|
||||||
Expected
forfeiture rate
|
12
|
% |
12
|
% | ||||
Fair
value per share of options granted
|
$
|
0.30
|
$
|
0.62
|
The
expected life of awards granted represents the period of time that they are
expected to be outstanding. We determine the expected life based on
historical experience with similar awards, giving consideration to the
contractual terms, vesting schedules, exercise patterns and pre-vesting and
post-vesting forfeitures. We estimate the volatility of our common
stock based on the calculated historical volatility of our own common stock
using the trailing 60 months of share price data prior to the date of the
award. We base the risk-free interest rate used in the
Black-Scholes-Merton option valuation model on the implied yield currently
available on U.S. Treasury zero-coupon issues with an equivalent remaining term
equal to the expected life of the award. We have not paid any cash
dividends on our common stock and do not anticipate paying any cash dividends in
the foreseeable future. Consequently, we use an expected dividend
yield of zero in the Black-Scholes-Merton option valuation model. We use
historical data to estimate pre-vesting option forfeitures and record
share-based compensation for those awards that are expected to vest. In
accordance with Share Based Payments, we adjust share-based compensation for
changes to the estimate of expected equity award forfeitures based on actual
forfeiture experience.
There
were no options exercised during the period ended September 30, 2009 or
2008.
The total
fair value of shares vested during the period ended September 30, 2009 and 2008
was $233,366 and $623,113, respectively.
Total
stock-based compensation expense recognized in the consolidated statement of
earnings for the three and nine months ended September 30, 2009 and 2008 was
$65,746 and $243,366, and $194,483 and $704,613, respectively, net of tax
effect. Additionally, the aggregate intrinsic value of options outstanding and
unvested as of September 30, 2009 is $0.
Non-Employee Stock
Options
The
following table summarizes the changes in options outstanding and the related
prices for the shares of the Company’s common stock issued to the Company
consultants. These options were granted in lieu of cash compensation
for services performed.
Options
Outstanding
|
Options
Exercisable
|
||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighted
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
||||||||||||||||
$
|
1.00
|
740,000
|
2.84
|
$
|
1.00
|
740,000
|
$
|
1.00
|
F-55
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
Transactions
involving options issued to non-employees are summarized as
follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2008
|
1,815,937
|
$
|
1.00
|
|||||
Granted
|
-
|
-
|
||||||
Exercised
|
-
|
-
|
||||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2008
|
1,815,937
|
$
|
1.00
|
|||||
Granted
|
-
|
-
|
||||||
Exercised
|
-
|
-
|
||||||
Canceled
or expired
|
(1,075,937
|
)
|
1.00
|
|||||
Outstanding
at September 30, 2009
|
740,000
|
$
|
1.00
|
There
were no non-employee stock options vested during the period ended September
30, 2009 and 2008, respectively.
Warrants
The
following table summarizes the changes in warrants outstanding and the related
prices for the shares of the Company’s common stock issued to non-employees of
the Company. These warrants were granted in lieu of cash compensation
for services performed or financing expenses and in connection with placement of
convertible debentures.
Warrants
Outstanding
|
Warrants
Exercisable
|
|||||||||||||||||||||
Exercise
Prices
|
Number
Outstanding
|
Weighted
Average
Remaining
Contractual
Life
(Years)
|
Weighed
Average
Exercise
Price
|
Number
Exercisable
|
Weighted
Average
Exercise
Price
|
|||||||||||||||||
$
|
0.58
|
76,639
|
2.59
|
$
|
0.58
|
76,639
|
$
|
0.58
|
||||||||||||||
$
|
0.60
|
800,000
|
3.85
|
$
|
0.60
|
800,000
|
$
|
0.60
|
||||||||||||||
$
|
0.61
|
2,500,000
|
3.92
|
$
|
0.61
|
2,500,000
|
$
|
0.61
|
||||||||||||||
$
|
2.59
|
862,452
|
2.12
|
$
|
2.59
|
862,452
|
$
|
2.59
|
||||||||||||||
$
|
3.98
|
3,078,864
|
2.29
|
$
|
3.98
|
3,078,864
|
$
|
3.98
|
||||||||||||||
$
|
4.17
|
359,712
|
3.06
|
$
|
4.17
|
359,712
|
$
|
4.17
|
||||||||||||||
7,677,667
|
2.97
|
$
|
2.35
|
7,677,667
|
$
|
2.19
|
F-56
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
Transactions
involving warrants are summarized as follows:
Number
of
Shares
|
Weighted
Average
Price
Per
Share
|
|||||||
Outstanding
at January 1, 2008
|
7,673,627
|
$
|
4.15
|
|||||
Issued
|
4,164,140
|
1.31
|
||||||
Exercised
|
(3,380,000
|
)
|
0.70
|
*
|
||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at December 31, 2008
|
8,457,767
|
$
|
2.19
|
|||||
Issued
|
-
|
-
|
||||||
Exercised
|
(780,000
|
)
|
0.09
|
|||||
Canceled
or expired
|
-
|
-
|
||||||
Outstanding
at September 30, 2009
|
7,677,667
|
$
|
2.35
|
______________
*The
warrants were issued to Enable Capital and originally priced at $4.17 per
share. In February 2008, these warrants were re-priced to $0.6978258
per share and the holders exercised the warrants on a cashless basis and
received 1,000,000 shares
The
Company did not issue any warrants during the period ended September 30,
2009. During the period ended September 30, 2008, the Company granted
645,632 warrants to Convertible Senior Notes holders, 2,100,000 to a Convertible
Debenture holder and 800,000 to a Note holder. The Company did not
issue any compensatory warrants during the period ended September 30, 2009 and
2008.
The
purchase price of the warrants issued to Convertible Senior Note holders was
adjusted from $4.70 to $4.39 per share and approximately 79,000 additional
warrants were issued during the period ended September 30, 2008 in accordance
with the anti-dilution protection provision of the Convertible Senior Notes
Payable Agreement (the “Agreement”) dated October 27, 2005, upon the occurrence
of certain events as defined in the Agreement.
In
February 2008, the Company amended certain stock purchase warrants held by
private placement investors to reduce the exercise price under such warrants
from $4.17 per share to $0.6978258 per share. The warrants entitled
the holders to purchase an aggregate of up to 3,380,000 shares of Telkonet’s
common stock. Subsequently, these private placement investors
exercised all of their warrants on a cashless basis using the five day volume
average weighted price (VWAP) as of January 31, 2008 of $.99 resulting in the
issuance of 1,000,000 shares of Company common stock. The Company has
accounted for the amended warrants issued, valued at $1,224,236, as other
expense using the Black-Scholes pricing model and the following assumptions:
contractual term of 5 years, an average risk-free interest rate of 3.5% a
dividend yield of 0% and volatility of 70%. In addition, during the
period ended September 30, 2008, the Company recorded non-cash expenses of
$574,426 for issuing additional warrants and the re-pricing of outstanding
warrants in accordance with the anti-dilution provision of the warrant
agreements.
In July
2009, the Company amended certain stock purchase warrants held by private
placement investors to reduce the exercise price under such warrants from $0.60
per share to approximately $0.09 per share. The warrants entitled the
holders to purchase an aggregate of up to 780,000 shares of the Company’s common
stock. Subsequently, these private placement investors
exercised all of their warrants, and the Company has accounted for the amended
warrants issued, valued at $70,486, as financing expense using the Black-Scholes
pricing model and the following assumptions: contractual term of 5 years, an
average risk-free interest rate of 1.6% a dividend yield of 0% and volatility of
103%.
F-57
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE
K - COMMITMENTS AND CONTINGENCIES
Employment and Consulting
Agreements
On August
1, 2007, the Company entered into an agreement with Barry Honig, President of
GRQ Consultants, Inc. (“GRQ”). Telkonet has agreed to pay Mr. Honig 50,000
shares of common stock per month for six (6) months, to provide the Company with
transaction advisory services. As of December 31, 2007, GRQ held a
Senior Promissory Note issued by Telkonet on July 24, 2007, in the principal
amount of $1,500,000 (Note J). On February 8, 2008, this note was
repaid in full including $49,750 in accrued but unpaid interest from the
issuance date through the date of repayment.
Litigation
The
Company is subject to legal proceedings and claims which arise in the ordinary
course of its business. Although occasional adverse decisions or
settlements may occur, the Company believes that the final disposition of such
matters should not have a material adverse effect on its financial position,
results of operations or liquidity.
Senior Convertible
Noteholder Claim
The
August 14, 2006 Settlement Agreement with the Senior Convertible Debenture
Noteholders provided that the number of shares issued to the Noteholders shall
be adjusted based upon the arithmetic average of the weighted average price of
the Company’s common stock on the American Stock Exchange for the twenty trading
days immediately following the settlement date. The Company has
concluded that, based upon the weighted average of the Company's common stock
between August 16, 2006 and September 13, 2006, the Company is entitled to a
refund from the two Noteholders. One of the Noteholders has informed
the Company that it does not believe such a refund is required. As a
result, the Company has declined to deliver to the Noteholders certain stock
purchase warrants issued to them pursuant to the Settlement Agreement pending
resolution of this disagreement. The Noteholder has alleged that the
Company has failed to satisfy its obligations under the Settlement Agreement by
failing to deliver the warrants. In addition, the Noteholder
maintains that the Company has breached certain provisions of the Registration
Rights Agreement and, as a result of such breach, such Noteholder claims that it
is entitled to receive liquidated damages from the Company. In the Company’s
opinion, the ultimate disposition of these matters will not have a material
adverse effect on the Company’s results of operations or financial
position.
Purchase Price
Contingency
In
conjunction with the acquisition of MST on January 31, 2006, the stock portion
of the purchase price was price protected for the benefit of the former owner of
MST. In the event the Company’s common stock price is below $4.50 per share upon
the achievement of thirty three hundred (3,300) subscribers during the three (3)
year period following the closing (as extended) a pro rata adjustment in
the number of shares will be required to support the aggregate consideration of
$5.4 million. The issuance of additional shares or distribution of
other consideration upon resolution of the contingency based on the Company’s
common stock prices will not affect the cost of the acquisition. When
the contingency is resolved or settled, and additional consideration is
distributable, the Company will record the current fair value of the additional
consideration and the amount previously recorded for the common stock issued
will be simultaneously reduced to the lower current value of the Company’s
common stock. In addition, the Company agreed to fully fund the MST
three year business plan, established on January 31, 2006. The
parties originally agreed, in the event, for any reason, the Company
materially fails to satisfy its funding obligations under the
acquisition agreement, that the former owners of MST shall be entitled
to the release of any and all consideration held in reserve. However the
parties deleted this provision in a May, 2008 agreement wherein the Company
made a minimum commitment of $2.3 million to fund MST's business plan in
accordance with Section 11.1 of the Stock Purchase Agreement between Telkonet
and Frank T. Matarazzo. In addition, the adjustment date for the
achievement of MST's 3,300 subscribers was extended an additional six
months from January 31, 2009 to July 31, 2009. In April 2008 the
Company issued from escrow 200,000 shares of the reserve shares and advanced
400,000 of such shares in June 2008 in exchange for Mr. Matarazzo’s agreement to
a debt covenant restricting the use of proceeds in the Company’s debenture
financing with YA Global Investments LP.
F-58
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE L
- BUSINESS CONCENTRATION
Revenue
from one major customer approximated $839,000 or 10% of total revenues for the
period ended September 30, 2009. Revenue from three (3) major customers
approximated $6,782,000 or 51% of total revenues for the period ended September
30, 2008. Total accounts receivable of $118,407, or 9% of total
accounts receivable, were due from these customers as of September 30,
2009. Total accounts receivable of $674,800, or 36% of total accounts
receivable, was due from these customers as of September 30,
2008.
Purchases
from one major supplier approximated $856,000, or 61% of purchases during the
period ended September 30, 2009, and $2,014,380, or 47% of purchases, for the
period ended September 30, 2008, respectively. Total accounts payable of
approximately $76,740, or 2% of total accounts payable, was due to this
supplier as of September 30, 2009, and $145,769, or 3% of total accounts
payable, was due to this supplier as of September 30, 2008.
NOTE M
- FAIR VALUE MEASUREMENTS
The
financial assets of the Company measured at fair value on a recurring basis are
cash equivalents, and long-term marketable securities. The Company’s
cash equivalents and long term marketable securities are generally classified
within Level 1 of the fair value hierarchy because they are valued using
quoted market prices, broker or dealer quotations, or alternative pricing
sources with reasonable levels of price transparency. The Company’s
long-term investments are classified within Level 3 of the fair value hierarchy
because they are valued using unobservable inputs, due to the fact that
observable inputs are not available, or situations in which there is little, if
any, market activity for the asset or liability at the measurement
date. The Company’s derivative liabilities are classified within
Level 2 of the fair value hierarchy because they are valued using inputs which
are not actively observable, either directly or indirectly.
● |
Level
1: Unadjusted quoted prices in active markets that are accessible at the
measurement date for identical, unrestricted assets or
liabilities;
|
|
● |
Level
2: Quoted prices in markets that are not active, or inputs which are
observable, either directly or indirectly, for substantially the full term
of the asset or liability; or
|
|
● |
Level
3: Prices or valuation techniques that require inputs that are both
significant to the fair value measurement and are
unobservable.
|
The
following table sets forth the Company’s financial instruments as
of September 30, 2009 which are measured at fair value on a recurring
basis by level within the fair value hierarchy. Financial instruments are
classified based on the lowest level of input that is significant to the fair
value measurement, (in thousands):
(in
thousands)
|
Level
1
|
Level
2
|
Level
3
|
Assets
at
fair
value
|
||||||||||||
Cash
and cash equivalents
|
$
|
38
|
$
|
-
|
$
|
-
|
$
|
38
|
||||||||
Long-term
investments
|
-
|
-
|
8
|
8
|
||||||||||||
Total
|
$
|
38
|
$
|
-
|
$
|
8
|
$
|
46
|
||||||||
Derivative
liabilities
|
-
|
1,870
|
-
|
1,870
|
||||||||||||
Long-term
debt
|
300
|
-
|
1,068
|
1,368
|
||||||||||||
Total
|
$
|
389
|
$
|
1,870
|
$
|
1,068
|
$
|
3,238
|
F-59
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE N - DISCONTINUED
OPERATIONS
On
January 31, 2006, the Company acquired a 90% interest in Microwave Satellite
Technologies, Inc. (“MST”) in exchange for $1.8 million in cash and 1.6 million
unregistered shares of the Company’s common stock. In May 2007, MST
merged with MSTI Holdings Inc. (“MSTI”) (formerly Fitness Xpress-Software Inc.)
and as a result of the merger, the Company’s common stock in MST was exchanged
for 63% of the outstanding shares of common stock of MSTI Holdings
Inc. The Company has historically consolidated its investment in MSTI
as a consolidated majority-owned subsidiary.
On
February 26, 2009, the Company executed a Stock Purchase Agreement pursuant to
which the Company sold 2.8 million shares of MSTI common stock (the “MSTI
Shares”) for an aggregate purchase price of $10,000. As a result
of this transaction, the Company beneficially owns 49% of the issued and
outstanding shares of MSTI common stock.
On April
22, 2009, Warren V. Musser and Thomas C. Lynch, members of the Company’s Board
of Directors, submitted their resignations as directors of MSTI. As a
result of these resignations, and the decrease in beneficial ownership resulting
from the transaction described above, the Company is no longer required to
consolidate MSTI as a majority- owned subsidiary and the Company’s investment in
MSTI will now be accounted for under the cost method.
On June
26, 2009, MSTI entered into an Agreement and Consent to Acceptance of Collateral
(“Agreement”) with its senior secured lenders, Alpha Capital Anstalt, Gemini
Master Fund, Ltd., Whalehaven Capital Fund Limited and Brio Capital L.P.
(“Secured Lenders”). The Secured Lenders were the senior
secured creditors of MSTI with regard to obligations in the total principal
amount of $1,893,295 (together, the “Secured Lender
Obligations”).
Under the
Agreement: (a) MSTI (i) agreed and consented to the transfer to MST
Acquisition Group LLC (the “Designee”), for the benefit of the Secured
Lenders, of all of the assets of MSTI (the “Pledged Collateral”) in full
satisfaction of the Secured Lender Obligations, and (ii) waived and released (x)
all right, title and interest it has or might have in or to the Pledged
Collateral, including any right to redemption, and (y) any claim for a surplus;
and (b) the Secured Lenders agreed to accept the Pledged Collateral in
full satisfaction of the Secured Lender Obligations and waived and released MSTI
from any further obligations with respect to the Secured Lender
Obligations.
Net
income (loss) from discontinued operations on the consolidated statement of
operations for the nine month period ended September 30, 2009 includes the gain
on deconsolidation of $6,932,586, offset by MSTI's net losses of
$(635,735) for the period January 1, 2009 through April 30, 2009, the date
of deconsolidation. The market value of the MSTI common
shares owned by the Company as of September 30, 2009 was deemed permanently
impaired by management and as a result the Company has fully written off its
investment in MSTI and has not included any value for MSTI in the balance sheet
as of September 30, 2009.
The
following table summarizes net income from discontinued operations for the three
and nine months ended September 30, 2009.
|
|
Three
Months Ended September 30,
(Unaudited)
|
|
|
Nine
Months Ended September 30,
(Unaudited)
|
|
||||||||||
|
|
2009
|
|
|
2008
|
|
|
2009
|
|
|
2008
|
|
||||
Loss
from operations
|
|
$
|
-
|
|
|
$
|
(1,370,896
|
)
|
|
$
|
(635,735
|
)
|
|
$
|
(3,412,656
|
)
|
Elimination
of Liabilities, net of assets
|
|
|
-
|
|
|
|
-
|
|
|
|
7,635,920
|
|
|
|
-
|
|
Other
expenses
|
|
|
-
|
|
|
|
-
|
|
|
|
(67,329
|
)
|
|
|
-
|
|
Income
(loss) from discontinued operations
|
|
$
|
-
|
|
|
$
|
(1,370,896
|
)
|
|
$
|
6,932,856
|
|
|
$
|
(3,412,656
|
)
|
F-60
TELKONET,
INC.
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2009
(UNAUDITED)
NOTE
O - SUBSEQUENT EVENTS
In
accordance with FASB ASC 855”Subsequent Events”, the Company has evaluated
subsequent events through the date of the filing (November 16,
2009)
NYSE Amex Delisting
Notice
On
November 3, 2009, Telkonet, Inc. received notice from NYSE Amex, LLC (the
"Exchange") that a Listing Qualifications Panel of the Exchange’s Committee on
Securities (the "Panel") had affirmed the Exchange’s Listing Qualifications
Department staff's determination to delist the Company's common stock from the
Exchange. The Exchange will file a delisting application with the Securities and
Exchange Commission ("SEC") to strike the Company's common stock from listing
and registration on the Exchange, when and if authorized by the SEC. The
delisting of Company’s common stock will be effective 10 days after the Exchange
files a Form 25 with the SEC. The Company does not intend to appeal, or request
a review of, the Panel's decision, and thus its common stock is expected to be
delisted from the Exchange. The Exchange suspended trading in the Company’s
stock effective at the open of business on November 13, 2009 at which time our
common stock began trading on the Over-the-Counter market's Pink Sheets under
the symbol "TKOI.PK"
The
Company will be in default of the convertible debentures if its common stock is
not quoted for listing on one of: (a) the American Stock Exchange, (b) New York
Stock Exchange, (c) the Nasdaq Global Market, (d) the Nasdaq Capital Market, or
(e) the OTC Bulletin Board (“OTCBB”) within five (5) Trading Days of the stock’s
delisting. The Company is seeking to obtain a listing on the OTCBB
however there can be no guarantee that the Company will be successful in
obtaining a listing on the OTCBB or that it will be able to obtain such a
listing within five days of the common stock’s delisting from the
Exchange.
Private
Placement
On
November 16, 2009, the Company entered into definitive agreements in connection
with a Regulation D private placement of 215 shares of the Company’s Series A
Convertible Redeemable Preferred Stock, par value $0.001 per share (“Series A”),
and warrants (“Warrants”) to purchase an aggregate of 1,628,800 shares of the
Company’s common stock, par value $0.001 per share (the “Common Stock”). The
Series A shares were sold at a price per share of $5,000 and the Warrants have
an exercise price of $0.33, which is equal to the volume-weighted average price
of a share of Common Stock measured over the 30-day period immediately preceding
November 12, 2009. The Company expects to complete the private placement
transaction within the next several days and expects to receive $1,075,000 from
the sale of these Series A shares and Warrants. A portion of the proceeds to be
received by the Company will come from certain members of Company management in
connection with the conversion of a portion of outstanding indebtedness of the
Company owed to such members of management. The Company intends to
use the net proceeds from the sale of the Series A shares and the Warrants for
general working capital needs and may use the proceeds in the short term to
repay certain outstanding indebtedness, and to pay expenses of the offering as
well as other general corporate capital purposes.
Under the
terms of the private placement transaction, each Series A share is convertible
into approximately 13,774 shares of Common Stock at a conversion price of $0.363
per share, which is equal to 110% of the volume-weighted average price of a
share of Common Stock measured over the 30-day period immediately preceding
November 12, 2009. Except as specifically provided or as otherwise
required by law, the Series A shares will vote together with the Common Stock
shares on an as-if-converted basis and not as a separate class. Each
Series A share shall have a number of votes equal to the number of shares of
Common Stock then issuable upon conversion of such shares of the Series
A.
Additionally,
the Company agreed with the purchasers to file a registration statement covering
the resale of the shares of common stock to be acquired by the purchasers upon
conversion of their Series A shares following the conclusion of a rights
offering to be filed with the SEC.
Board of
Directors
Effective
November 13, 2009, Dr. Thomas M. Hall submitted his resignation as a director of
the Company.
The
Company’s Board of Directors elected Anthony J. Paoni as Chairman of the Board
to take the position previously held by Warren V. Musser effective as of
November 16, 2009.
In
connection with the closing of the private placement transaction, Seth D.
Blumenfeld will be resigning from the Board and Jason L. Tienor, the Company’s
President and Chief Executive Officer, will fill the vacancy created by the
resignation of Seth D. Blumenfeld.
F-61
PART
II
INFORMATION
NOT REQUIRED IN PROSPECTUS
The following table sets forth the costs
and expenses incurred in connection with the issuance and distribution of the
securities registered hereby. All amounts are estimated pursuant to
Item 511 of Regulation S-K except the SEC registration fee.
Amount
To Be Paid
|
||||
SEC
registration fee
|
$ | |||
FINRA
Filing Fee
|
||||
Accounting
fees and expenses
|
||||
Legal
fees and expenses
|
||||
Blue
Sky fees and expenses
|
||||
Printing
and mailing expenses
|
||||
Information
Agent fees and expenses
|
||||
Subscription
agent and registrar fees and expenses
|
||||
Miscellaneous
|
||||
Total
|
$ |
Item
14. Indemnification
of Directors and Officers.
Reference
is made to Section 16-10a-902 of the Utah Business Corporation Act, which
enables a corporation to indemnify an individual made a party to a proceeding
because he is or was our director if (i) his conduct was in good faith,
(ii) he reasonably believed his conduct was in, or not opposed to, the
corporation’s best interests, and (iii) in the case of a criminal
proceeding, he had no reasonable cause to believe his conduct was unlawful.
Notwithstanding the foregoing, a corporation may not indemnify a director
(a) in connection with a proceeding by or in the right of the corporation
in which the director was adjudged liable to the corporation, or (b) in
connection with any other proceeding charging that the director derived an
improper personal benefit, whether or not involving action in his official
capacity, in which proceeding he was adjudged liable on the basis that he
derived an improper personal benefit. The Utah Business Corporation Act also
permits us to purchase insurance on behalf of any person that is or was our
director, officer, employee, fiduciary or agent. Our amended and restated
articles of incorporation provide in effect for the elimination of the personal
liability of our directors and for the indemnification by us of each of our
directors and officers, in each case, to the fullest extent permitted by
applicable law. We purchase and maintain insurance on behalf of any
person who is or was our director, officer, employee, fiduciary or agent against
any liability asserted against him or her and incurred by him or her in any such
capacity, or arising out of his or her status as such, whether or not we would
have the power or the obligation to indemnify him or her against such liability
under the provisions of our amended and restated articles of
incorporation.
Item
15. Recent Sales of
Unregistered Securities.
Set forth
below is information regarding shares of capital stock issued, warrants issued
and options granted by us within the past three years.
(1) On
November 19, 2009, we issued 215 shares of Series A convertible redeemable
preferred stock, par value $0.001 per share, and warrants to purchase an
aggregate of 1,628,800 shares of common stock, par value $0.001 per share to
certain accredited investors, for aggregate gross proceeds of
$1,075,000. The shares of Series A convertible redeemable preferred
stock and related warrants were sold without registration in reliance on the
exemptions provided by Section 4(2) of the Securities Act and Rule 506 of
Regulation D promulgated thereunder and in reliance on similar exemptions under
applicable state laws.
(2) On
February 8, 2008, we completed a private placement of 2,500,000 shares of its
common stock to a single investor for total proceeds of $1,500,000. The common
stock issued in the offering was sold pursuant to the exemption provided by
Section 4(2) of the Securities Act of 1933 and/or Rule 506 of Regulation D
promulgated thereunder on the basis that the purchaser was an "accredited
investor" as such term is defined in Rule 501 of Regulation D.
II-1
Item 16. Exhibits and Financial Statement Schedules.
(a) Exhibits
See the
Exhibit Index following the signature pages hereto, which Exhibit Index is
incorporated herein by reference.
(b) Financial
Statement Schedules
No
financial statement schedules are provided because the information called for is
not required or is shown either in the financial statements or the notes
thereto.
Item
17. Undertakings.
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 a 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) That,
for the purpose of determining liability under the Securities Act to any
purchaser, 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 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 or prospectus that was part of the
registration statement or made in any such document immediately prior to such
date of first use.
II-2
(5) 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.
(6) To
supplement the prospectus, after the expiration of the subscription period, to
set forth the results of the subscription offer, the amount of unsubscribed
securities to be purchased pursuant to oversubscription rights, and the terms of
any subsequent reoffering thereof.
(7) 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-3
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, thereunto duly authorized, in the city of Milwaukee, Wisconsin, on
February 12, 2010.
TELKONET,
INC.
|
|||
|
By:
|
/s/ Jason L. Tienor | |
President
and Chief Executive Officer
|
|||
(Principal
Executive Officer)
|
POWER
OF ATTORNEY
We, the
undersigned directors and/or officers of Telkonet, Inc. (the “Company”), hereby
severally constitute and appoint Jason L. Tienor and Richard J. Leimbach, and
each of them singly, our true and lawful attorneys, with full power to any of
them, and to each of them singly, to sign for us and in our names in the
capacities indicated below the registration statement on Form S-1 filed
herewith, and any and all pre-effective and post-effective amendments to said
registration statement, and any registration statement filed pursuant to Rule
462(b) under the Securities Act of 1933, as amended, in connection with the
registration under the Securities Act of 1933, as amended, of equity securities
of the Company, and to file or cause to be filed the same, with all exhibits
thereto and other documents in connection therewith, with the Securities and
Exchange Commission, granting unto said attorneys, and each of them, full power
and authority to do and perform each and every act and thing requisite and
necessary to be done in connection therewith, as fully to all intents and
purposes as each of them might or could do in person, and hereby ratifying and
confirming all that said attorneys, and each of them, or their substitute or
substitutes, shall do or cause to be done by virtue of this Power of
Attorney.
Pursuant
to the requirements of the Securities Act of 1933, this registration statement
has been signed by the following persons in the capacities indicated on February
12, 2010:
Signature
|
Title
|
|
/s/
Jason
L. Tienor
|
||
Jason
L. Tienor
|
President,
Chief Executive Officer and Director
(Principal
Executive Officer)
|
|
/s/
Richard
J. Leimbach
|
||
Richard
J. Leimbach
|
Chief
Financial Officer
(Principal
Financial and Principal Accounting Officer)
|
|
/s/
Anthony
J. Paoni
|
||
Anthony
J. Paoni
|
Chairman
and Director
|
|
/s/
Warren
V. Musser
|
||
Warren
V. Musser
|
Director
|
|
/s/
Thomas
C. Lynch
|
||
|
Director
|
II-4
EXHIBIT
INDEX
Exhibit
Number
|
Description
Of Document
|
|
2.1
|
MST
Stock Purchase Agreement and Amendment (incorporated by reference to our
8-K filed on February 2, 2006)
|
|
2.2
|
Asset
Purchase Agreement by and between Telkonet, Inc. and Smart Systems
International, dated as of February 23, 2007 (incorporated by reference to
our Form 8-K filed on March 2, 2007)
|
|
2.3
|
Unit
Purchase Agreement by and among Telkonet, Inc., EthoStream, LLC and the
members of EthoStream, LLC dated as of March 15, 2007 (incorporated by
reference to our Form 8-K filed on March 16, 2007)
|
|
3.1
|
Articles
of Incorporation of the Registrant (incorporated by reference to our Form
8-K (No. 000-27305), filed on August 30, 2000 and our Form S-8 (No.
333-47986), filed on October 16, 2000)
|
|
3.2
|
Bylaws
of the Registrant (incorporated by reference to our Registration Statement
on Form S-1 (No. 333-108307), filed on August 28, 2003)
|
|
3.3
|
Amendment
to Articles of Incorporation (incorporated by reference to our Form 8-K
(No. 001-31972), filed November 18, 2009)
|
|
4.1
|
Form
of Series A Convertible Debenture (incorporated by reference to our Form
10-KSB (No. 000-27305), filed on March 31, 2003)
|
|
4.2
|
Form
of Series A Non-Detachable Warrant (incorporated by reference to our Form
10- KSB (No. 000-27305), filed on March 31, 2003)
|
|
4.3
|
Form
of Series B Convertible Debenture (incorporated by reference to our Form
10-KSB (No. 000-27305), filed on March 31, 2003)
|
|
4.4
|
Form
of Series B Non-Detachable Warrant (incorporated by reference to our Form
10-KSB (No. 000-27305), filed on March 31, 2003)
|
|
4.5
|
Form
of Senior Note (incorporated by reference to our Registration Statement on
Form S-1 (No. 333-108307), filed on August 28, 2003)
|
|
4.6
|
Form
of Non-Detachable Senior Note Warrant (incorporated by reference to our
Registration Statement on Form S-1 (No. 333-108307), filed on August 28,
2003)
|
|
4.7
|
Senior
Convertible Note by Telkonet, Inc. in favor of Portside Growth &
Opportunity Fund (incorporated by reference to our Form 8-K (No.
001-31972), filed on October 31, 2005)
|
|
4.8
|
Senior
Convertible Note by Telkonet, Inc. in favor of Kings Road Investments Ltd.
(incorporated by reference to our Form 8-K (No. 001-31972), filed on
October 31, 2005)
|
|
4.11
|
Warrant
to Purchase Common Stock by Telkonet, Inc. in favor of Portside Growth
& Opportunity Fund (incorporated by reference to our Form 8-K (No.
001-31972), filed on October 31, 2005)
|
|
4.12
|
Warrant
to Purchase Common Stock by Telkonet, Inc. in favor of Kings Road
Investments Ltd. (incorporated by reference to our Form 8-K (No.
001-31972), filed on October 31, 2005)
|
|
4.13
|
Form
of Warrant to Purchase Common Stock (incorporated by reference to our
Current Report on Form 8-K (No. 001-31972), filed on September 6,
2006)
|
|
4.14
|
Form
of Accelerated Payment Option Warrant to Purchase Common Stock
(incorporated by reference to our Registration Statement on Form S-3 (No.
333-137703), filed on September 29, 2006.
|
|
4.15
|
Form
of Warrant to Purchase Common Stock (incorporated by reference to our
Current Report on Form 8-K filed on February 5,
2007)
|
|
4.16
|
Senior
Note by Telkonet, Inc. in favor of GRQ Consultants, Inc. (incorporated by
reference to our Form 10-Q (No. 001-31972), filed November 9,
2007)
|
|
4.17
|
Warrant
to Purchase Common Stock by Telkonet, Inc in favor of GRQ Consultants,
Inc. (incorporated by reference to our Form 10-Q (No. 001-31972), filed
November 9, 2007)
|
|
4.18
|
Form
of Promissory Note (incorporated by reference to our Form 8-K (No.
001-31972) filed on May 12, 2008)
|
|
4.19
|
Form
of Warrant to Purchase Common Stock (incorporated by reference to our Form
8-K (No. 001-31972) filed on May 12, 2008)
|
|
4.20
|
Form
of Convertible Debenture (incorporated by reference to our Form 8-K (No.
001-31972) filed on June 5, 2008)
|
|
4.21
|
Form
of Warrant to Purchase Common Stock (incorporated by reference to our Form
8-K (No. 001-31972) filed on June 5, 2008)
|
|
5.1
|
Legal
Opinion of Goodwin Procter LLP*
|
II-5
10.1
|
Amended
and Restated Stock Option Plan (incorporated by reference to our
Registration Statement on Form S-8 (No. 333-161909), filed on September
14, 2009)
|
|
10.2
|
Securities
Purchase Agreement, dated February 1, 2007, by and among Telkonet, Inc.,
Enable Growth Partners LP, Enable Opportunity Partners LP, Pierce
Diversified Strategy Master Fund LLC, Ena, Hudson Bay Fund LP and Hudson
Bay Overseas Fund, Ltd. (incorporated by reference to our Current Report
on Form 8-K filed on February 5, 2007)
|
|
10.3
|
Registration
Rights Agreement, dated February 1, 2007, by and among Telkonet, Inc.,
Enable Growth Partners LP, Enable Opportunity Partners LP and Pierce
Diversified Strategy Master Fund LLC, Ena, Hudson Bay Fund LP and Hudson
Bay Overseas Fund, Ltd. (incorporated by reference to our Current Report
on Form 8-K filed on February 5, 2007)
|
|
10.4
|
Employment
Agreement by and between Telkonet, Inc. and Jason Tienor, dated as of
March 15, 2007 (incorporated by reference to our Form 10-K (No.
001-31972), filed March 16, 2007)
|
|
10.5
|
Employment
Agreement by and between Telkonet, Inc. and Jeff Sobieski, dated as of
March 15, 2007 (incorporated by reference to our Form 10-K (No.
001-31972), filed March 16, 2007)
|
|
10.6
|
Securities
Purchase Agreement, dated May 30, 2008, by and between Telkonet, Inc. and
YA Global Investments LP (incorporated by reference to our Current Report
on Form 8-K filed on June 5, 2008)
|
|
10.7
|
Registration
Rights Agreement, dated May 30, 2008, by and between Telkonet, Inc. and YA
Global Investments LP (incorporated by reference to our Current Report on
Form 8-K filed on June 5, 2008)
|
|
10.8
|
Security
Agreement, dated May 30, 2008, by and between Telkonet, Inc. and YA Global
Investments LP (incorporated by reference to our Current Report on Form
8-K filed on June 5, 2008)
|
|
10.9
|
Commercial
Business Loan Agreement, dated September 9, 2008, by and between Telkonet,
Inc. and Thermo Credit, LLC (incorporated by reference to our Form 8-K
filed on September 10, 2008)
|
|
10.10
|
Loan
Agreement, dated September 11, 2009, by and between Telkonet, Inc. and the
Wisconsin Department of Commerce (incorporated by reference to our Form
8-K (No. 001-31972) filed on September 17, 2009)
|
|
10.11
|
General
Business Security Agreement, dated September 11, 2009, by and between
Telkonet, Inc. and the Wisconsin Department of Commerce (incorporated by
reference to our Form 8-K (No. 001-31972) filed on September 17,
2009)
|
|
10.12
|
Form
of Dealer-Manager Agreement by and between Telkonet, Inc. and Source
Capital Group, Inc.*
|
|
21
|
Telkonet,
Inc. Subsidiaries (incorporated by reference to our Form 10-K (No.
001-31972) filed March 16, 2007)
|
|
23.1
|
Consent
of RBSM LLP, Independent Registered Certified Public Accounting
Firm
|
|
24
|
Power
of Attorney (contained in signature page
hereto)
|
________________
* To be
filed by amendment.
II-6