UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

  

(Mark One)

S	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2012

 

OR

 

£	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from ________ to _________

 

Commission File Number 000-49636

 

VIKING SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware	86-0913802
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

 

134 Flanders Road, Westborough, MA 01581

(Address of principal executive offices) (Zip Code)

 

(508) 366-3668

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes x No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes x No 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   ¨		Accelerated filer   ¨
Non-accelerated filer (Do not check if a smaller reporting company) ¨		Smaller reporting company   x

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes ¨ No x

 

The registrant had 72,554,620 shares of common stock, $0.001 par value per share, issued and outstanding as of April 30, 2012.

 

 

 

FORM 10-Q

 

FINANCIAL STATEMENTS AND SCHEDULES

VIKING SYSTEMS, INC.

 

For the Quarter ended March 31, 2012

 

PART I - FINANCIAL INFORMATION

 

		Page No.
Item 1.	Financial Statements:
	Balance Sheets at March 31, 2012 (unaudited) and December 31, 2011	3
	Statements of Operations for the Three Months Ended March 31, 2012 and 2011 (unaudited)	4
	Statements of Cash Flows for the Three Months Ended March 31, 2012 and 2011 (unaudited)	5
	Notes to Financial Statements	6-8
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	9-14
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	15
Item 4.	Controls and Procedures	15

 

PART II - OTHER INFORMATION

 

Item 1.	Legal Proceedings	16
Item 1A.	Risk Factors	16
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	16
Item 3.	Defaults Upon Senior Securities	16
Item 4.	Mine Safety Disclosure (Not applicable.)	16
Item 5.	Other Information	16
Item 6.	Exhibits	17-18
	Signatures	19

     

   

 

PART I - FINANCIAL INFORMATION

 

ITEM 1.  FINANCIAL STATEMENTS

 

VIKING SYSTEMS, INC.

Balance Sheets

   

Assets		March 31,				December 31,
		2012				2011
		(unaudited)
Current assets:
Cash and cash equivalents		$	554,967			$	1,261,864
Accounts receivable, net			2,067,492				1,184,064
Inventories			2,016,076				2,308,564
Prepaid expenses and other current assets			118,462				58,704
Total current assets			4,756,997				4,813,196
Property and equipment, net			545,092				627,128
Total assets		$	5,302,089			$	5,440,324
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable		$	1,405,753			$	1,131,694
Accrued expenses			775,539				654,908
Deferred revenue			105,161				310,658
Total current liabilities			2,286,453				2,097,260
Noncurrent liabilities			579,444				579,444
Commitments and contingencies
Stockholders’ Equity:
Preferred stock, 25,000,000 shares authorized; No shares outstanding at March 31, 2012 and December 31, 2011			–				–
Common stock, $0.001 par value, 400,000,000 shares authorized; 72,554,620 issued and outstanding at March 31, 2012 and December 31, 2011			72,554				72,554
Additional paid-in capital			34,427,785				34,353,836
Accumulated deficit			(32,064,147	)			(31,662,770	)
Total stockholders' equity			2,436,192				2,763,620
Total liabilities and stockholders' equity		$	5,302,089			$	5,440,324

 

 

 

The accompanying notes are an integral part of the interim financial statements.

   

VIKING SYSTEMS, INC.

Statements of Operations – Unaudited

  

		Three Months Ended March 31,
			2012				2011
Sales, net		$	3,515,879			$	3,122,594
Cost of sales			2,556,823				2,470,836
Gross profit			959,056				651,758
Operating expenses:
Selling and marketing			606,027				478,363
Research and development			311,901				255,963
General and administrative			442,571				433,865
Total operating expenses			1,360,499				1,168,191
Operating loss			(401,443	)			(516,433	)
Other income :
Interest income			66				226
Gain on sale and license of assets			–				69,952
Total other income			66				70,178
Net loss applicable to common shareholders		$	(401,377	)		$	(446,255	)
Net loss per common share - basic and diluted		$	(0.01	)		$	(0.01	)
Weighted average shares outstanding - basic and diluted			72,554,620				58,932,884

  

 

 

 

The accompanying notes are an integral part of the interim financial statements.

 

 

   

VIKING SYSTEMS, INC.

Statements of Cash Flows – Unaudited

 

 

		Three Months Ended March 31,
		2012				2011
Cash flows from operating activities:
Net loss		$	(401,377	)		$	(446,255	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization			130,798				78,575
Stock based compensation expense			73,949				96,297
Gain on sale and license of assets			–				(69,952	)
Changes in operating assets and liabilities:
Accounts receivable			(883,428	)			(284,039	)
Inventories			292,488				(338,851	)
Prepaid expenses and other current assets			(59,758	)			57,303
Accounts payable			274,059				119,235
Accrued expenses			120,631				41,968
Deferred revenue			(205,497	)			141,929
Net cash used in operating activities			(658,135	)			(603,790	)
Cash flows from investing activities:
Purchases of property and equipment			(48,762	)			(101,587	)
Net cash used in investing activities			(48,762	)			(101,587	)

 

Cash flows from financing activities:
Proceeds from issuance of common stock			–				160,473
Net cash provided by financing activities			–				160,473
Net decrease in cash and cash equivalents			(706,897	)			(544,904	)
Cash and cash equivalents at beginning of period			1,261,864				950,285
Cash and cash equivalents at end of period		$	554,967			$	405,381
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest		$	–			$	111
Income taxes		$	1,256			$	–

 

 

 

The accompanying notes are an integral part of the interim financial statements.

NOTES TO FINANCIAL STATEMENTS

 

1.	INTERIM FINANCIAL STATEMENTS

 

The accompanying unaudited interim financial statements of Viking Systems, Inc. (“Viking” or the “Company”) have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 8 of Regulation S-X. In the opinion of management, the interim financial statements reflect all adjustments necessary to make the financial statements presented not misleading. The balance sheet as of December 31, 2011 was derived from the Company's audited financial statements. The financial statements and notes thereto should be read in conjunction with the financial statements and notes for the year ended December 31, 2011, included in Viking's Annual Report on Form 10-K for the year ended December 31, 2011,  which was filed on February 29, 2012 with the Securities and Exchange Commission. The results of operations and cash flows for the period ended March 31, 2012 are not necessarily indicative of results to be expected for the fiscal year ending December 31, 2012.

  

2.	Liquidity Matters

 

The Company has incurred net losses and negative cash flows from operations. Management believes that the Company may need to raise additional capital to execute its business plan and provide operating flexibility through at least the next twelve months.

 

The Company’s forecasted cash position is highly dependent upon future sales growth of its 3DHD Vision System. As part of managing its business, the Company frequently forecasts its future cash flow and cash position. Such projections include assumptions regarding fulfillment of existing orders, receipt and fulfillment of future orders and ultimately, the receipt of cash.  These forecasts also include assumptions regarding the timing of payments related to existing and future liabilities and inventory procurement.  If forecasted orders do not materialize or existing orders are cancelled or reduced, this could have a material adverse impact on the Company’s projected cash position.

 

In the event the Company’s current working capital is not adequate to fund its operations and growth and it does not receive any additional capital or financing, the Company may need to seek alternative sources of working capital. Potential sources of such working capital could include senior debt facilities, new lines of credit or additional sales of our securities. There is a risk that such additional financing may not be available, or may not be available on acceptable terms, and the inability to obtain additional financing or generate sufficient cash from operations could require the Company to reduce or eliminate expenditures for capital equipment, production, or marketing of its products, or to otherwise curtail or discontinue its operations, which could have a material adverse effect on the business, financial condition and results of operations.

 

The Company may need to raise additional capital to execute its business plan and expand its operations. The Company does not have any arrangements with any banks, financial institutions or investors to provide financing and there can be no assurance that any such arrangement, if required or otherwise sought, would be available on terms deemed to be commercially acceptable and in the Company’s best interests. In January 2012, the Company engaged an investment banking firm to seek financing and/or strategic alternatives for the Company in order to fund its key growth initiatives. These efforts are ongoing. If the Company is not able to secure financing and is not generating positive cash flow, the Company will consider other options, including curtailing operations.

 

3.	LOSS PER SHARE

 

The computation of basic and diluted loss per common share is computed using the weighted average number of common shares outstanding during the year.

 

Due to the net losses for the periods ended March 31, 2012 and 2011, potentially dilutive securities have been excluded in the calculation of diluted loss per share because their inclusion would be anti-dilutive. Accordingly, basic and diluted loss per share are the same for each respective period.

 

The following potentially dilutive common shares were excluded from the calculation of diluted net loss per common share because their effect was anti-dilutive for the periods presented:

  

		(unaudited) March 31, 2012				(unaudited) March 31, 2011
Warrants			29,864,794				20,888,131
Stock options			11,282,920				9,182,920
Total			41,147,714				30,071,051

  

 

 

4.	INVENTORIES

 

Details of our inventory account balances are as follows:

  

		(unaudited) March 31, 2012				December 31, 2011
Inventories:
Parts and supplies		$	1,125,124			$	1,148,313
Work-in-progress			434,662				500,262
Finished goods			918,047				1,121,746
Valuation allowance			(461,757	)			(461,757	)
Total		$	2,016,076			$	2,308,564

  

5.	ACCRUED EXPENSES

 

Accrued expenses consist of the following:

 

		(unaudited) March 31, 2012				December 31, 2011
Employee and director compensation		$	604,122			$	406,013
Professional and consulting fees			40,485				80,806
Other accrued expenses			130,932				168,089
Total		$	775,539			$	654,908

     

6.	STOCK-BASED COMPENSATION

 

Common Stock Options

During the quarter ended  March 31, 2008, shareholders approved  the Viking Systems, Inc. 2008 Equity Incentive Plan (the “2008 Equity Plan”), and the Viking Systems, Inc. 2008 Non-Employee Directors’ Stock Option Plan (the “Directors’ Plan”). In December 2009 and November 2011, the Board of Directors approved amendments to the 2008 Equity Plan to increase the number of shares available under such plan by 2,800,000 shares, and 3,000,000 shares, respectively. The maximum number of shares that may be issued pursuant to the 2008 Equity Plan is 12,520,000 shares plus such number of shares that are issuable pursuant to awards outstanding under the 2004 Stock Incentive Plan as of the effective date of the 2008 Equity Plan and which would have otherwise reverted to the share reserve of the 2004 Stock Incentive Plan. The Company has reserved a total of 1,500,000 shares of its common stock for issuance under the Directors’ Plan. During the three months ended March 31, 2012, no stock options were granted by the Company. At March 31, 2012, 2,120,000 shares remain available for grant under the 2008 Equity Plan and 562,500 shares remain available under the Directors’ Plan. 

 

The Company measures the cost of employee and director services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost is recognized over the period during which an employee or director is required to provide services in exchange for the award, -the requisite service period. The Company determines the grant-date fair value of employee and director share options using the Black-Scholes option-pricing model.  The Company determines the value of equity instruments issued to non employees in exchange for services to be provided using the fair value of the services or the fair value of the equity instruments issued, whichever is more reliably measurable.

 

During the three months ended March 31, 2012 and 2011, the Company recorded $73,949 and $96,297 respectively, in non-cash stock-based compensation expense. As of March 31, 2012, there was approximately $390,000 in total unrecognized compensation costs related to unvested options, which is expected to be recognized over a weighted average period of approximately 2.1 years.

 

 

 

The following table summarizes the stock option activity during the three months ended March 31, 2012:

 

		Number of Shares				Weighted - Average Exercise Price				Weighted -Average Remaining Contractual Life (in years)
Options outstanding December 31, 2011			11,282,920			$	0.29				7.4
Granted			–				–				–
Cancelled or expired			–				–				–
Options outstanding March 31, 2012			11,282,920			$	0.29				7.1
Options exercisable at March 31, 2012			7,253,112			$	0.34				6.2

 

 

7.	WARRANTS TO PURCHASE COMMON STOCK

 

The following table summarizes warrant activity during the three months ended March 31, 2012:

 

Shares

Range of Exercise Price

Weighted Average Exercise Price

Weighted Average Remaining Contractual Life (yrs)

Outstanding December 31, 2011

29,864,794

$ 0.18-0.25

$

0.20

2.1

Granted

–

–

–

–

Expired

–

–

–

–

Exercised

–

–

–

–

Outstanding March 31, 2012

29,864,794

$ 0.18-0.25

$

0.20

1.8

 

8.	LEASE COMMITMENTS

 

The Company leases its Westborough, MA facility under a non-cancelable operating lease agreement expiring on September 30, 2015.  Remaining future minimum lease payments for the years ending December 31 are as follows:

    

Period		Amount
2012 (remaining)			187,710
2013			251,445
2014			254,940
2015			191,205
Total		$	885,300

  

Rent expense was $59,001 for the three months ended March 31, 2012 and $61,458 for the three months ended March 31, 2011.

   

9.	RECENT ACCOUNTING PRONOUNCEMENTS

 

There were no recently issued accounting pronouncements or changes in accounting pronouncements during the three months ended March 31, 2012, as compared with the recent accounting pronouncements described in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2011, that are of significance, or potential significance to the Company.

 

ITEM 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Forward Looking Statements

 

This Quarterly Report on Form 10-Q contains and incorporates by reference certain “forward-looking statements” with respect to the results of our operations and businesses. All statements, other than statements of historical facts, included in this report on Form 10-Q, including those regarding market trends, our financial position, business strategy, projected costs, and plans and objectives of management for future operations, are forward-looking statements. In general, such statements are identified by the use of forward-looking words or phrases including, but not limited to, “intended,” “will,” “should,” “may,” “expects,” “expected,” “anticipates,” and “anticipated” or the negative thereof or variations thereon or similar terminology. These forward-looking statements are based on our current expectations. Although we believe that the expectations reflected in such forward-looking statements are reasonable, there can be no assurance that such expectations will prove to be correct and our actual results could differ materially. These forward-looking statements represent our judgment as of the date of this Form 10-Q. We disclaim, however, any intent or obligation to update our forward-looking statements, except as required by law.

 

The following discussion and analysis should be read in conjunction with the Financial Statements and Notes thereto, and other financial information included elsewhere in this Quarterly Report on Form 10-Q as of March 31, 2012 and our audited consolidated financial statements for the year ended December 31, 2011 included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission on February 29, 2012.

 

Overview

 

We are a leading worldwide developer, manufacturer and marketer of visualization solutions for complex minimally invasive surgery.  We partner with medical device companies and healthcare facilities to provide surgeons with proprietary visualization systems enabling minimally invasive surgical procedures, which reduce patient trauma and recovery time.

 

We sell the most recent version of our proprietary visualization system, called our 3DHD Vision System, under the Viking brand inside and outside the United States through our distributor network. Our 3DHD Vision System is an advanced three dimensional, or 3D, vision system which employs a flat screen monitor and passive glasses. It is used by surgeons during complex minimally invasive laparoscopic surgery, with applications in urologic, gynecologic, bariatric, thoracic and general surgery. We released our 3DHD Vision System in the fourth quarter of 2010 and we believe it to be the only stand-alone 3DHD laparoscopic vision system available today that is both FDA-cleared and CE-marked.

 

We also manufacture two dimensional, or 2D, digital cameras that are sold to third-party companies who sell to end users through their Original Design Manufacturer, or ODM, programs and Original Equipment Manufacturer, or OEM, programs. We have sold more than 2,000 2D digital cameras to ODM/OEM partners, including Boston Scientific Corporation and Medtronic, Inc. Our ODM products are jointly designed with our partners to meet their exact specifications for their particular market.

 

Our proprietary technology and know-how center on our core technical competencies in optics, digital imaging, sensors, and image management. Our focus is to deliver advanced visualization solutions to surgical teams, enhancing their capability and performance in complex minimally invasive surgical procedures.

 

 

Liquidity and Capital Resources

 

We have financed our operations since inception principally through private sales of equity securities and convertible debt. From January 1, 2004 through December 31, 2007, we raised net proceeds of $7.7 million through the sale of common and preferred stock in private placements and approximately $14.1 million through the issuance of convertible notes and debentures. On January 4, 2008 we recapitalized the Company, converting all outstanding preferred stock and convertible debt to common stock and warrants, and raising an additional $2.6 million in a concurrent private sale of common stock with warrants. From January 5, 2008 through March 31, 2012, we raised an additional $6.3 million in a variety of equity transactions involving common stock and warrants. The total cash raised from January 1, 2004 through March 31, 2012 was $30.7 million. As of March 31, 2012, we had cash and cash equivalents of $554,967. We have incurred net losses and negative cash flows from operations. In our financing on May 10, 2011, we closed on agreements with accredited investors to issue an aggregate of 12,000,000 shares of common stock and warrants to purchase up to 9,000,000 shares of common stock, with gross proceeds of $3.0 million.

 

Our forecasted cash position is highly dependent upon future sales growth of our 3DHD Vision System. As part of managing our business, we frequently forecast our future cash flow and cash position.  Such projections include assumptions regarding fulfillment of existing orders, receipt and fulfillment of future orders and ultimately the receipt of cash.  These forecasts also include assumptions regarding the timing of payments related to existing and future liabilities and inventory procurement.  If forecasted orders do not materialize or existing orders are cancelled or reduced, this could have a material adverse impact on our projected cash position.

 

In the event our current working capital is not adequate to fund our operations and growth and we do not receive any additional capital or financing, we may need to seek alternative sources of working capital. Potential sources of such working capital could include senior debt facilities, new lines of credit or additional sales of our securities. There is a risk that such additional financing may not be available, or may not be available on acceptable terms, and the inability to obtain additional financing or generate sufficient cash from operations could require us to reduce or eliminate expenditures for capital equipment, production, or marketing of our products, or to otherwise curtail or discontinue our operations, which could have a material adverse effect on our business, financial condition and results of operations.

 

We believe that we may need to raise additional capital to execute our business plan and expand our operations. We do not have any arrangements with any banks, financial institutions or investors to provide financing and there can be no assurance that any such arrangement, if required or otherwise sought, would be available on terms deemed to be commercially acceptable and in our best interests. In January 2012, we engaged an investment banking firm to seek financing and/or strategic alternatives in order to fund our key growth initiatives. These efforts are ongoing. If we are not able to secure financing and we are not generating positive cash flow, we will consider other options, including curtailing operations.

 

Net cash used in operating activities for the three months ended March 31, 2012 and 2011 was $658,135 and $603,790, respectively.

 

During the three months ended March 31, 2012, net cash used in investing activities was $48,762 compared with $101,587 for the first three months of 2011.  This decrease primarily relates to fewer capitalized demonstration systems in the first quarter of 2012.

 

During the three months ended March 31, 2012, we did not have any financing activities. During the same period in the prior year, sales of common stock generated net cash proceeds of $160,473 from financing activities.   

 

RESULTS OF OPERATIONS

 

Three Month Period Ended March 31, 2012 Compared with the Three Month Period Ended March 31, 2011

 

Sales. We had sales of $3,515,879 for the three months ended March 31, 2012 compared with $3,122,594 for the three months ended March 31, 2011, an increase of $393,285 or 13%.  The increase in sales during the three month period ended March 31, 2012 was primarily due to increased sales volume of our Original Equipment Manufacturer, or OEM, products.   We also experienced an increase in sales of Viking branded 3DHD Vision Systems during the quarter. During the quarter ended March 31, 2012 we sold a total of 21 of our 3DHD Vision Systems compared with 17 in the first quarter of 2011. The mix of the total 3DHD systems increased from 7 clinical systems sold in the first quarter of 2011 to 17 in the first quarter of 2012.

 

In order to properly represent the full complement of our 3DHD product offering to potential customers, the demonstration systems sold to distributors typically include a much broader array of the various components than a standard clinical system. As such, the list price of a demonstration system would be significantly higher than that of a typical clinical system.  Because of this, while we typically sell demonstration systems at substantial discounts (meaning lower gross margin), the total sales value is only somewhat lower than that of a clinical system. This pricing strategy explains why our Branded Products sales in the first quarter of 2011 and 2012 are similar, despite different sales mixes of our product lines, as the overall total unit volume of 21 systems sold is the same.

 

Sales of our OEM and Branded products were as follows:

 

 

		Three months Ended March 31,
		2012				2011				change
Branded products		$	1,479,435			$	1,403,745			$	75,690
OEM products and service			2,036,444				1,718,849				317,595
Total sales		$	3,515,879			$	3,122,594			$	393,285
3DHD Vision Systems – Clinical systems			17				7				10
3DHD Vision Systems – Demonstration systems			4				10				(6	)
Total number of 3DHD systems			21				17				4
Number of 3Di systems (predecessor product)			0				4				(4	)
Total 3D systems			21				21				–

  

Customers accounting for at least 10% each of our revenues in either period		Three Months Ended March 31,
		2012				2011
Customer A			20	%			30	%
Customer B			17	%			10	%
Customer C			14	%			0	%
Customer D			12	%			8	%
Customer E			0	%			12	%
Total sales to customers each representing more than 10% of sales in either period			63	%			60	%

 

   

Gross Profit.   For the three months ended March 31, 2012, gross profit increased $307,298 or 47% compared with the same period in the prior year. For the three months ended March 31, 2012 gross profit was $959,056, or 27.3% of sales compared with $651,758, or 20.9% of sales, for the same period in 2011.   

 

The increase in gross margin percentage for the three months ended March 31, 2012 compared with the same period in the prior year was primarily due to the shift in mix of 3DHD Visions Systems sales. The gross margin on 3DHD clinical systems is much higher than the margin on 3DHD demonstration systems. Because of the broad array of components included with a typical demonstration system, the product cost of a demonstration system is significantly higher than that of a typical clinical system, even though the prices are similar because we discount demonstration systems.  As a consequence of customer demand and a product mix shift to more clinical systems, our gross margins of Branded Products in the first quarter of 2012 have improved compared with the first quarter of 2011. The 3DHD demonstration systems sold to our distributors are for use in the sales process, are not intended for immediate resale and are priced at a substantial discount to the distributors’ agreed upon regular purchase price for clinical systems. The sales mix of the total 3DHD systems sold increased from 7 clinical systems and 10 demonstration systems sold in the first quarter of 2011 to 17 clinical systems and 4 demonstration systems in the first quarter of 2012.

 

Selling and Marketing Expense. Selling and marketing expenses were $606,027 for the three months ended March 31, 2012 and $478,363 for the three months ended March 31, 2011. This represents an increase of $127,664.  The increase was due to the hiring of additional sales and marketing personnel during the fourth quarter of 2011 and was also due to increased depreciation expense related to new product demonstration units retained by us.

  

Research and Development Expense. We had research and development expenses of $311,901 for the three months ended March 31, 2012 and $255,963 for the three months ended March 31, 2011, representing an increase of $55,938 or 22%. This increase was primarily due to personnel additions that occurred subsequent to the first quarter of 2011.

 

General and Administrative Expense. General and administrative expenses include costs for administrative personnel, legal and accounting expenses, and various public company expenses. General and administrative expenses were $442,571 for the three months ended March 31, 2012 compared with $433,865 for the three months ended March 31, 2011, representing an increase of $8,706 or 2%.

 

Other Income and Expense.  During the three months ended March 31, 2012, other income and expense totaled to income of $66 compared with income of $70,178 for the same period in 2011.   During the first quarter of 2011, we recorded income of $69,952 related to compensation we received from the grant of a license to a third party to use one of our patents in nonmedical markets and the sale of certain manufacturing assets related to such patent.  No such income was recorded during the first quarter of 2012. 

    

  

 

Operating Loss Before Non-Cash Charges

 

Management assesses operational performance and improvement by measuring and reporting our operating loss before noncash charges. Management believes this non-GAAP metric is useful in understanding our ability to generate cash, before consideration of working capital or capital expenditure needs.

 

A reconciliation of net loss in accordance with U.S. generally accepted accounting principles, or GAAP, to the non-GAAP measure of operating loss before non-cash charges is as follows:

 

		Three Months Ended March 31
		2012				2011
Net loss, as reported		$	(401,377	)		$	(446,255	)
Adjustments: Total other (income)/expense			(66	)			(70,178	)
Operating loss, as reported			(401,443	)			(516,433	)
Non-cash stock option expense			73,949				96,297
Depreciation and amortization			130,798				78,575
Operating loss before non-cash charges		$	(196,696	)		$	(341,561	)

 

Off-Balance Sheet Arrangements

 

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

 

Use of Estimates and Critical Accounting Policies

 

The preparation of our financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates and assumptions, including those related to accounts receivable, inventories, income taxes, long lived asset valuation, revenue recognition, and stock-based compensation. Management bases its estimates and judgments on historical experience of operations and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

 

Management believes the following critical accounting policies, among others, will affect its more significant judgments and estimates used in the preparation of our Financial Statements.

  

Accounts Receivable. Accounts receivable are carried at the original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis. Specific reserves are estimated by management based on certain assumptions and variables, including the customer’s financial condition, age of the customer’s receivables, and changes in payment histories.

 

Inventories. Parts and supply inventories are stated at the lower of cost or market. Cost is determined using the standard cost method which approximates actual cost. Work-in-process and finished goods are stated at the lower of the accumulated manufacturing costs or market. We reduce the stated value of our inventory for obsolescence or impairment in an amount equal to the difference between the cost of the inventory and the estimated market value, based upon assumptions about future demand and market conditions. If actual future demand or market conditions are less favorable than those projected by management, additional reductions in stated value may be required.

 

 

Income Taxes. In determining the carrying value of our net deferred tax assets, we must assess the likelihood of sufficient future taxable income in certain tax jurisdictions, based on estimates and assumptions, to realize the benefit of these assets. If these estimates and assumptions change in the future, we may record a reduction in the valuation allowance, resulting in an income tax benefit in our Statements of Operations. Management evaluates the realizability of the deferred tax assets and assesses the valuation allowance quarterly.

 

We are primarily subject to U.S. federal and state income tax. Tax years subsequent to December 31, 2008 remain open to examination by U.S. federal and state tax authorities. In addition, our policy is to recognize interest and penalties related to income tax matters in income tax expense. As of March 31, 2012, we had no accruals for interest or penalties related to income tax matters.

    

Impairment of Long Lived Assets and Intangible Assets with Finite Lives. Property and equipment and intangible assets with finite lives are depreciated or amortized using the straight line method over their estimated useful lives.  These assets are assessed for potential impairment when there is evidence that events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Conditions that would indicate impairment and trigger an assessment include, but are not limited to, a significant adverse change in the legal factors or business climate that could affect the value of an asset, an adverse action or assessment by a regulator or a current expectation that, more likely than not, a long-lived asset will be sold or otherwise disposed of significantly before the end of its previously estimated useful life. If, upon assessment, the carrying amount of an asset exceeds its estimated fair value, an impairment charge is recognized for the amount by which the carrying amount of the asset exceeds its estimated fair value of the asset. 

 

Revenue Recognition. Our revenues are derived from the sale of surgical visualization technology products to end users, distributors and original equipment manufacturers. Revenue from the sale of products is recognized when evidence of an arrangement exists, the product has been shipped, the selling price is fixed or determinable, collection is reasonably assured and when both title and risk of loss transfer to the customer, provided that no significant obligations remain. The significant terms of our sales arrangements typically include upfront payments or credit terms not to exceed 60 days depending upon the creditworthiness of the customer.  The arrangements do not include right of return or price concessions and our post shipment obligations typically are limited to standard warranty for product defects.

 

For the sale of products and services as part of a multiple-element arrangement, we allocate revenue from multiple-element arrangements to the elements based on the relative fair value of each element. For sales of extended warranties with a separate contract price, we defer revenue equal to the separately stated price. Revenue associated with undelivered elements is deferred and recorded when delivery occurs.

 

Stock Based Compensation. The measurement and recognition of compensation expenses for all share-based payment awards to employees and directors are based on estimated fair values. We use the Black-Scholes option valuation model to estimate the fair value of our stock options at the date of grant. The Black-Scholes option valuation model requires the input of subjective assumptions to calculate the value of stock options. We use historical data among other information to estimate the expected price volatility, the expected annual dividend, the expected option life and the expected forfeiture rate. The grant date estimated fair value is recognized over the period during which an employee is required to provide service in exchange for the award, which is generally the option vesting period.

 

 

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

As a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and in Item 10(f)(1) of Regulation S-K, we are electing scaled disclosure reporting obligations and therefore are not required to provide the information requested by this Item..

 

ITEM 4.  CONTROLS AND PROCEDURES

 

Limitations on the Effectiveness of Controls

 

We seek to improve and strengthen our control processes to ensure all of our controls and procedures are adequate and effective. We believe that a control system, no matter how well designed and operated, can only provide reasonable, not absolute, assurance that the objectives of the controls system are met. In reaching a reasonable level of assurance, management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. In addition, the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, a control may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. No evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company will be detected.  

 

As set forth below in further detail, our principal executive officer and our principal financial officer have concluded, based on their evaluation as of the end of the period covered by this report, that our disclosure controls and procedures were sufficiently effective to provide reasonable assurance that the objectives of our disclosure control system were met.

 

Evaluation of Effectiveness of Disclosure Controls and Procedures

 

Our management evaluated, with the participation of our principal executive officer and our principal financial officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures as of March 31, 2012 are effective to ensure that information we are required to disclose in reports that we file or submit under the Exchange Act (i) are recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) are accumulated and communicated to our management, including our principal executive officer and our principal financial officer, as appropriate, to allow timely decisions regarding required reasonable assurance that such information is accumulated and communicated to our management. Our disclosure controls and procedures are designed to provide reasonable assurance that such information is accumulated and communicated to our management. Our disclosure controls and procedures include components of our internal control over financial reporting. Management's assessment of the effectiveness of our internal control over financial reporting is expressed at the level of reasonable assurance that the control system, no matter how well designed and operated, can provide only reasonable, but not absolute, assurance that the control system's objectives will be met.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in our internal controls over financial reporting identified in connection with the evaluation required by paragraph (d) of Exchange Act Rules 13a-15 or 15d-15 that occurred during our last quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

       

 

 

PART II - OTHER INFORMATION

 

ITEM 1.  LEGAL PROCEEDINGS.

 

We may be involved from time to time in ordinary litigation, negotiation, and settlement matters that arise in the ordinary course of business. We are not aware of any pending or threatened litigation against us or our officers and directors in their capacity as such that we believe could have, individually or in the aggregate, a material adverse affect on our business, financial condition or operating results.

 

From time to time, we also may receive demands from various parties asserting patent infringement or other claims in the ordinary course of business. These demands are often not based on any specific knowledge of our products or operations. Because of the uncertainties inherent in litigation, the outcome of any such claim, including the cost of a defense against such a claim, could have a material adverse impact on our business.

 

ITEM 1A.  RISK FACTORS.

 

There have been no material changes from the risk factors as previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011, filed with the Securities and Exchange Commission on February 29, 2012.

 

 

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

 

During the quarter ended March 31, 2012, we did not sell any unregistered equity securities.

 

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES.

 

As of March 31, 2012, we do not have any senior securities outstanding.

 

ITEM 4.  MINE SAFETY DISCLOSURES.

 

Not applicable.

 

ITEM 5.  OTHER INFORMATION.

 

None.

ITEM 6.  EXHIBITS

 

Exhibit Number	Exhibit
3.1	Certificate of Incorporation, as amended, of Viking Systems, Inc. dated January 4, 2008 (included as Exhibit 3.1 to the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 2007, filed on March 31, 2008 and incorporated herein by reference).
3.2	Amended and Restated Bylaws of Viking Systems, Inc., dated November 10, 2011 (included as Exhibit 3.2 to the Registrant’s Current Report on Form 8-K filed on November 17, 2011, and incorporated herein by reference).
4.1	Certificate of Designation of Preferences, Rights and Limitations of Series B Variable Dividend Convertible Preferred Stock (included as Exhibit 4.01 to the Registrant’s Current Report on Form 8-K filed May 25, 2006, and incorporated herein by reference).
10.1	Viking Systems, Inc. 2004 Stock Incentive Plan, dated March 31, 2004 (included as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed April 1, 2004, and incorporated herein by reference).
10.2	Viking Systems, Inc. 2004 Non-Employee Director Stock Ownership Plan (included as Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed April 1, 2004, and incorporated herein by reference).
10.3	Executive Change of Control Agreement between Viking Systems, Inc. and John Kennedy, dated August 6, 2008 (included as Exhibit 99.2 to the Registrant’s Current Report on Form 8-K filed August 11, 2008, and incorporated herein by reference).
10.4	Executive Change of Control Agreement between Viking Systems, Inc. and Robert Mathews, dated August 6, 2008 (included as Exhibit 99.3 to the Registrant’s Current Report on Form 8-K filed August 11, 2008, and incorporated herein by reference).
10.5	Lease between Viking Systems, Inc. and Robert F. Tambone as Trustee of MAT Realty Trust, dated September 23, 2004 (included as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed October 1, 2004, and incorporated herein by reference).
10.6	First Amendment to Lease between Viking Systems, Inc. and Robert F. Tambone as Trustee of MAT Realty Trust, dated February 5, 2007 (included as Exhibit 10.18 to the Registrant's Annual Report on Form 10-KSB filed March 27, 2007, and incorporated herein by reference).
10.7	Recapitalization Agreement between Viking Systems, Inc. and Securityholders, dated December 31, 2007 (included as Exhibit 99.1 to the Registrant’s Current Report on Form 8-K filed January 7, 2008, and incorporated herein by reference).
10.8	Securities Purchase Agreement between Viking Systems, Inc. and various investors, dated January 4, 2008 (included as Exhibit 99.2 to the Registrant’s Current Report on Form 8-K filed January 7, 2008, and incorporated herein by reference).
10.9	Executive Employment Agreement between Viking Systems, Inc. and William C. Bopp, dated January 4, 2008 (included as Exhibit 99.3 to the Registrant’s Current Report on Form 8-K filed January 7, 2008, and incorporated herein by reference).
10.10	Amendment to Executive Employment Agreement between Viking Systems, Inc. and William C. Bopp, dated February 27, 2008 (included as Exhibit 99.2 to the Registrant’s Current Report on Form 8-K filed February 29, 2008, and incorporated herein by reference).
10.11	Investment Agreement between Viking Systems, Inc. and Dutchess Opportunity Fund, II, LP, dated January 7, 2010 (included as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed January 7, 2010, and incorporated herein by reference).
10.12	Registration Rights Agreement between Viking Systems, Inc. and Dutchess Opportunity Fund, II, LP, dated January 7, 2010 (included as Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed January 7, 2010, and incorporated herein by reference).

 

 

 

Exhibit Number	Exhibit
10.13	Viking Systems, Inc. Amended 2008 Equity Incentive Plan (included as Exhibit 99.1 to the Registration Statement on Form S-8 filed January 15, 2010, and incorporated herein by reference).
10.14	Viking Systems, Inc. 2008 Non-Employee Directors' Stock Option Plan, effective January 18, 2008 (included as Annex B to the Registrant’s Schedule 14-C Information Statement filed April 10, 2008, and incorporated herein by reference).
10.15	Second Amendment to Lease between Viking Systems, Inc. and Baltic Westborough, LLC, dated March 8, 2010 (included as Exhibit 10.14 to the Registrant’s Quarterly Report on Form 10-Q filed May 5, 2010 and incorporated herein by reference.)

    

10.16	Purchase Agreement by and between Viking Systems, Inc., Clinton Group, Inc., and other accredited investors, dated May 5, 2011 (included as Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed May 11, 2011 and incorporated herein by reference).
10.17	Registration Rights Agreement by and between Viking Systems, Inc., Clinton Group, Inc., and other accredited investors, dated May 5, 2011 (included as Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed May 11, 2011 and incorporated herein by reference).
10.18	Form of Warrant for the May 5, 2011 transaction (included as Exhibit 10.3 to the Registrant’s Current Report on Form 8-K filed May 11, 2011 and incorporated herein by reference).
10.19	Amendment No. 1 to the Registration Rights Agreement by and between Viking Systems, Inc., Clinton Group, Inc. as investment manager for Clinton Magnolia Master Fund, Ltd., and other accredited investors, dated May 26, 2011 (included as Exhibit 10.19 to the Registrant’s Registration Statement on Form S-1 filed on May 31, 2011, and incorporated herein by reference).
10.20	Viking Systems, Inc. Amended and Restated 2008 Equity Incentive Plan (included as Exhibit 10.1 to the Registration Statement on Form S-8 filed March 9, 2012, and incorporated herein by reference).
31.1	Certification of Principal Executive Officer in accordance with 18 U.S.C. Section 1350, as adopted by Section 302 of the Sarbanes- Oxley Act of 2002 (included herewith).
31.2	Certification of Principal Financial Officer in accordance with 18 U.S.C. Section 1350, as adopted by Section 302 of the Sarbanes-Oxley Act of 2002 (included herewith).
32.1	Certification of Principal Executive Officer and Principal Financial Officer in accordance with 18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act of 2002 (included herewith).

    

101.INS	XBRL Instance Document
101.SCH	XBRL Taxonomy Extension Schema Document
101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF	XBRL Taxonomy Extension Definition Linkbase Document
101.LAB	XBRL Taxonomy Extension Label Linkbase Document
101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document

   

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

  

	VIKING SYSTEMS, INC.
Date: May 3, 2012	By:	/s/ John Kennedy
		Chief Executive Officer (Principal Executive Officer)
Date: May 3, 2012	By:	/s/ Robert Mathews
		Executive Vice President and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)