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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934]
For the fiscal year ended October 3, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934]
For the transition period from _________ to _________.
Commission file number 1-8402
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IRVINE SENSORS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 33-0280334
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
3001 Redhill Avenue, Costa Mesa, California 92626
(Address of principal executive offices) (Zip Code)
(714) 549-8211
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class: which registered:
Common Stock Boston Stock Exchange Incorporated
Securities registered pursuant to Section 12(g) of the Act: None
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 ninety (90) days.
Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy of information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
To the extent known by the registrant, the aggregate market value of the Common
Stock held beneficially by non-affiliates of the registrant was approximately
$69,000,000 on December 22, 1999. As the Preferred Stock is not publicly traded
it has not been included in the computation.
As of December 22, 1999, there were 36,075,400 shares of Common Stock
outstanding.
Documents Incorporated by Reference:
Portions of the Registrant's Annual Report to Stockholders for the fiscal year
ended October 3, 1999 (Part II); portions of the Registrant's Definitive Proxy
Statement to be used in connection with Registrant's Annual Meeting of
Stockholders to be held on February 25, 2000 (Part III).
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FORWARD-LOOKING STATEMENTS
Some of the information in this Report contains forward-looking statements
which involve substantial risks and uncertainties. Readers can identify these
statements by forward-looking words such as "may," "will," "expect,"
"anticipate," "believe," "estimate" and "continue" or similar words. Readers
should consider statements that contain these or similar words carefully because
they (1) discuss expectations of Irvine Sensors Corporation ("the Company")
about its future performance; (2) contain projections of the Company's future
operating results or of its future financial condition; (3) state other
"forward-looking information. The Company believes it is important to
communicate its expectations to its investors. There may be events in the
future however, that the Company is not accurately able to predict or over
which it may have no control. The risk factors discussed in "Factors that May
Affect Future Results," later in this Report, as well as any cautionary language
in this Report, including those portions incorporated by reference, provide
examples of risks, uncertainties and events that may cause the Company's actual
results to differ materially from the expectations described in the forward-
looking statements. Readers should be aware that the occurrence of any of the
events described in the risk factors and elsewhere in this Report, including the
documents incorporated by reference, could have a material and adverse effect on
the Company's business, results of operations and financial condition and that
upon the occurrence of any of these events, the trading price of the Company's
Common Stock could decline and investors could lose all or part of their
investments.
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PART I.
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Item 1. Business
GENERAL
The Company and its subsidiaries are involved in various business activities
related to miniaturized electronics and the applications thereof. The Company
is organized into the following primary business groups:
Irvine Sensors Corporation
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Irvine Sensors Corporation ("ISC") is the developer of proprietary technologies
to produce extremely compact packages of solid state microcircuitry, which ISC
believes offer volume, power, weight and operational advantages versus less
miniaturized alternatives. These advantages result from ISC's ability to
assemble microelectronic chips in a three-dimensional "stack" instead of
alongside each other on a flat surface, as is the case with more conventional
methods. These stacking technologies have also led to ISC's development of
collateral technologies for the design of low power and low noise chips,
thinning of chips and various specialized applications of chips and stacked chip
assemblies in fields ranging from wireless infrared transmission to image
processing to digital photography.
ISC's core chip-stacking technology was originally conceived and developed as a
means of addressing the demands of space-based surveillance. However, the
degree of miniaturization potentially realizable from ISC's technologies has
attracted R&D sponsorship from various government funding agencies for a wide
variety of potential military and space applications. Until recently, ISC
derived most of its revenues from such funded research and development.
Recently, ISC has sought to commercialize its technologies by creating
independently managed subsidiaries that can pursue their own financing
strategies separately from the parent. ISC has received an increasing share of
its consolidated revenues from one such subsidiary.
In April 1996, upon termination of a joint development agreement, ISC purchased
a memory-stacking line in Essex Junction, Vermont from IBM, and in October 1997,
disposed of that line and consolidated that sector of its business with its
California operation. In October 1995, ISC formed a subsidiary, Novalog, Inc.
("Novalog"), to commercially exploit its low power chip technology. In April
1997, ISC formed a subsidiary, MicroSensors, Inc. ("MSI"), to commercially
exploit its technologies for low noise readout electronics and miniaturized
inertial sensors. In June 1998, ISC formed a subsidiary, Silicon Film
Technologies, Inc. ("Silicon Film"), formerly Imagek Inc. ("Imagek"), to
commercially exploit some of its digital photography technologies. As of October
3, 1999 ISC owned approximately 95%, 98% and 84% of the issued common stock of
Novalog, MSI and Silicon Film, respectively.
Novalog, Inc.
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Novalog is a subsidiary of ISC that designs, develops and sells proprietary
integrated circuits ("ICs") and related products for use in wireless infrared
communication. Novalog's initial products, trademarked SIRComm(TM), SIR2(TM),
MiniSIR(TM), MiniSIR2(TM) and BayBeamer(TM), enable infrared, line-of-sight data
transfer between computers, electronic organizers, printers, modems and other
electronic devices that have compatible ports. Novalog is an active participant
in the Infrared Data Association ("IrDA"), which establishes the hardware and
software protocols for such products. Novalog believes its products have
advantages in terms of power
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consumption, dynamic range, size and economics as compared to the products of
its competitors. Novalog has shipped more than fifteen million units of its
products to manufacturers servicing the IrDA marketplace and, although there can
be no assurance, management anticipates growing demand for such products. In
fiscal 1999, Novalog accounted for approximately 61% of the Company's
consolidated revenues.
MicroSensors, Inc.
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MSI is a subsidiary of ISC that was formed to develop and sell proprietary
micromachined sensors and related electronics. Micromachining involves the use
of semiconductor manufacturing processes to build electromechanical devices with
feature sizes measured in microns or fractions thereof. As prices have declined
for micromachined devices, such solid-state units have migrated from initial
aerospace and military applications to automotive, industrial process-control
and medical applications. MSI is developing a proprietary micromachined inertial
sensor, called the Silicon MicroRing Gyro(TM). MSI has demonstrated early
prototypes of this device and is presently seeking strategic partners to
facilitate its market introduction. In addition to inertial sensors, MSI intends
to offer Application Specific Integrated Circuits ("ASICs") designed to read out
micromachined sensors and other electronic systems. MSI is presently shipping
engineering samples of a proprietary Universal Capacitive Readout(TM)
("UCR"(TM)) ASIC product to potential customers. MSI has delivered limited
quantities of a multi-channel readout ASIC designed to the specifications of a
specific customer for potential use in airport x-ray security systems. MSI is
assisting this customer to evaluate whether it will order the MSI ASIC in
quantity, which is presently undetermined. The Company believes that there are
many uncertainties surrounding the development of MSI's business, including the
risk that large companies may be reluctant to purchase critical parts of the
nature that MSI is developing from a small company. This may be true even if MSI
succeeds in surmounting all of the developmental challenges it currently faces.
MSI accounted for approximately 2% of the Company's consolidated revenues in
fiscal 1999.
Silicon Film Technologies, Inc. (formerly Imagek, Inc.)
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Silicon Film Technologies Inc. is a subsidiary of ISC, incorporated in Delaware
in June 1998. Silicon Film designs, develops and intends to sell proprietary
electronic film systems and other digital imaging products and services.
Silicon Film has developed and had manufactured pre-production quantities of a
proprietary digital photography system called "EFS"(TM) which includes a self-
contained, compact, battery-powered cartridge that fits into the film cavity of
a standard 35mm camera thus offering the flexibility to switch between
conventional film and digital photography. Silicon Film is presently evaluating
the pre-production units of the EFS to determine if it is ready to accept orders
for this product. Other collateral products and services are planned for
introduction by Silicon Film in the future. Silicon Film had no revenues in
fiscal 1999.
Subsidiaries' Capital Structure
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The capital structure and ownership of ISC's subsidiaries vary depending on the
extent to which the subsidiaries have received equity financing from third-party
sources rather than ISC. After giving effect to the possible conversion of
issued and outstanding preferred stock into common stock, ISC's ownership of all
equity securities of Novalog, MSI and Silicon Film is approximately 95%, 98% and
64%, respectively. Giving full effect to the possible future exercise of
authorized or issued securities for which additional funds must be conveyed to
its subsidiaries to purchase equity interests, such as warrants and options,
ISC's future ownership of these subsidiaries would be approximately 64%, 54% and
49% for Novalog, MSI and Silicon Film, respectively. In October 1999, Silicon
Film entered into an agreement to potentially offer a significant percentage of
its equity ownership at a valuation roughly equivalent to or greater than that
it has achieved in prior private financings. Placement of this financing would
result in an additional approximate 11% dilution of Irvine Sensors' ownership
interests in Silicon Film. There is no assurance that Silicon Film will proceed
with this financing, which would require Irvine Sensors to agree to
contractually narrow its voting rights and business relations with Silicon Film.
In addition, the proposed financing contains provisions that would require
Silicon Film to repurchase the securities offered under certain circumstances
and also contains default and price protection provisions that could further
substantially dilute Irvine Sensors' ownership of Silicon Film under certain
circumstances. ISC believes that Silicon Film's placement agent will have
completed its due diligence by the first calendar quarter of 2000. ISC is
continuing to evaluate the proposed financing as well as other potential
financing alternatives.
Both Novalog and MSI have substantial intercompany debts payable to ISC. In the
event that these subsidiaries are successful in attracting third-party equity
financing, it is possible that ISC may be required or may elect to convert these
obligations into additional equity securities of these subsidiaries.
ISC was incorporated in Delaware in January 1988. Pursuant to a merger effective
in May 1988 with a corporation of the same name incorporated in California in
December 1974, the Company succeeded to all of the assets and liabilities of
such predecessor corporation. Its principal executive offices are located at
3001 Redhill Avenue, Building 3, Costa Mesa, California 92626, and its
telephone number is (714) 549-8211.
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Novalog was incorporated in California in October 1995. Its principal executive
offices are located at 3001 Redhill Avenue, Building 4, Costa Mesa, California
92626, and its telephone number is (714) 429-1122. Novalog is a consolidated
subsidiary of ISC.
MSI was incorporated in Delaware in April 1997. Its principal executive offices
are located at 3001 Redhill Avenue, Building 3, Costa Mesa, California 92626,
and its telephone number is (714) 444-8831. MSI is a consolidated subsidiary of
ISC.
Silicon Film was incorporated in Delaware in June 1998. Its principal executive
offices are located at 16265 Laguna Canyon Road, Irvine, California 92618, and
its telephone number is (949) 417-2260. Silicon Film is a consolidated
subsidiary of ISC.
Products and Technology
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The Company has a wide variety of technologies that have been derived from its
early entry into the field of chip stacking. The Company is seeking to
commercially exploit many of these technologies through subsidiaries organized
to meet the needs of varying markets.
The Company's Novalog subsidiary has developed a Serial Infrared Communications
chip using elements of the Company's sensor chip design technology. This device
is being used in products in order to allow computers, computer peripherals and
hand-held portable electronics devices such as personal organizers, pagers and
cellular phones to communicate using infrared transmissions in a manner similar
to that used by remote control units for televisions and video cassette
recorders. Novalog has been shipping such devices since 1995.
The Company also has chip design technology relating to electronic readouts that
it is seeking to exploit through its MSI subsidiary. In fiscal 1998, MSI entered
into its first contractual relationship based on this technology, i.e., a
contract to develop and subsequently ship production quantities of a readout
chip for EG&G Astrophysics, Inc. ("EG&G") to be used in airport x-ray security
systems. MSI completed the development phase of EG&G's contract in fiscal 1998
and commenced limited production shipments under the contract in fiscal 1999.
EG&G is presently evaluating a redesign of their products, with MSI's
assistance. In fiscal 1999, MSI also introduced a Universal Capacitive Readout
(UCR) ASIC intended for use by manufacturers of micromachined products. MSI is
currently shipping samples of the UCR to various customers for evaluation. MSI
has also developed a proprietary inertial sensor, the Silicon MicroRing Gyro,
intended to provide an inexpensive means to measure angular motion for a wide
variety of potential applications. Prototypes of the Silicon MicroRing Gyro are
presently being demonstrated to potential customers and strategic partners. In
September 1999, a United States patent, assigned to MSI, was granted covering
the design of the Silicon MicroRing Gyro. The commercial exploitation, if any,
of the Silicon MicroRing Gyro is expected to be paced by product design-in lead
times of customers, principally Original Equipment Manufacturers ("OEMs"). As a
result, the Company does not project material contributions to its consolidated
revenue from this product during fiscal 2000. Furthermore, until potential
customers and strategic partners more fully evaluate the prototypes of the
Silicon MicroRing Gyro, the Company is not in a position to project when, or if,
material revenues will be realized from this product thereafter.
In June 1998, the Company formed its Silicon Film (formerly Imagek) subsidiary
to commercially explore some of its proprietary technologies related to
miniaturized digital cameras. Silicon Film has recently begun to offer an
initial product for sale, the EFS-1, and is developing additional products for
future introduction. Silicon Film believes that its proprietary EFS technology
has value advantages to potential customers with substantial investments in
conventional 35mm camera equipment that inhibits the use by those consumers of
self-contained digital cameras. By using the optics of existing cameras, Silicon
Film believes that the EFS product line will be economically competitive to
comparable resolution digital cameras. Market response to the EFS-1 will
determine the degree to which Silicon Film contributes to the consolidated
revenues of the Company in fiscal 2000. The Company believes, but cannot
assure, that this contribution could be material.
In addition to the products developed through its subsidiaries, the Company has
developed a family of standard products consisting of stacked chips, both
packaged and unpackaged, and believes that its chip stacking technology can
offer demonstrable benefits to designers of systems that incorporate numerous
integrated circuits, both memory and otherwise, by improving speed and reducing
size, weight and power usage. In addition, since ISC's technology reduces the
number of interconnections between chips, potential system failure points can
also decrease. However, the Company has only recently qualified some of its
stacked packaged chip products for volume production, and it did not realize
material revenues from these products in fiscal year 1999. The economic
attractiveness of the Company's stacked packaged chip products is highly
dependent on market pricing of competitive monolithic parts. The Company
believes, but cannot assure, that such market conditions will be favorable to
the Company's products at some time in fiscal year 2000, but because of the
uncertainty in such market conditions is not able to estimate whether its
stacked packaged chip products will make a material contribution to the
Company's consolidated revenues.
The Company believes that the features achievable with its chip stacking
technology will have application in space and in aircraft in which weight and
volume considerations are dominant, as well as in various other applications in
which portability is required and speed is important. The Company is seeking to
exploit its highest density chip stacking technology through the sale of funded
development and products to high end, high margin government and commercial
users to whom the technical improvement will be most valuable. While these
applications tend to require lower unit volume, the potential sales are at
significantly higher prices than
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many applications requiring high volume production. Furthermore, the Company has
existing relationships with some of the potential customers in this market.
Since fiscal 1995, the Company has been shipping quantities of its stacked
unpackaged chip products, largely stacked memory, to customers for both
government and commercial purposes. However, there is no assurance that the
Company will be successful in marketing such products for widespread
applications. The Company also intends to continue to market infrared sensing
devices for surveillance, acquisition, tracking and interception applications
for a variety of Defense Department and NASA missions.
Customers' demand for enhanced performance of electronic systems has produced a
wide variety of competitors and competitive systems offering higher density
microelectronics ranging from various three-dimensional designs to highly dense
two-dimensional designs. Although some competitors are generally believed to be
better financed, more experienced and organizationally stronger, the Company is
not aware of any system in existence or under development that can stack chips
more densely than its three-dimensional approach. See "Competition."
The Company is not aware of any technical disadvantages to its chip stacking
technology. However, until high volume production is achieved, as to which there
is no assurance, the ultimate cost of products using the Company's higher
density chip stacking technology cannot be firmly established, and therefore,
this uncertainty potentially places some of the Company's stacked chip products
at a cost disadvantage. Accordingly, the Company expanded its product offerings
in 1998 to include lower-density stacked electronics that could be more price
competitive. Two U.S. patents have been allowed and others are pending covering
these latest additions to the Company's range of stacked chip product offerings.
Products employing these patented approaches have been qualified for potential
use by large manufacturers, and the Company is currently seeking production
orders for fiscal year 2000.
Potential Product Application
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Neural Networks. In 1991, the Company received funding from the U.S. Navy's
Office of Naval Research for potential use of certain of its technology in
neural networks. After the successful completion of this phase 1 contract, the
Company received a $5,200,000 follow-on contract from the Navy in June 1993 and
an additional $1,700,000 add on in January 1997 to further develop the neural
networks technology. This phase of the contract was completed, and the Company
subsequently received approximately $1,900,000 in additional funding on two
related programs through fiscal 1999. The Company is presently pursuing
additional contracts under which it would deliver demonstration products to
various branches of the DOD. Neural networks contain large numbers of sensing
nodes which continuously interact with each other, similar to the way that the
neurons of a human brain interact to process sensory stimuli. Neural networks
are the subject of scientific inquiry because pattern recognition and learning
tasks, which humans perform well, and computers perform poorly, appear to be
dependent on such processing. Neither conventional computers nor advanced
parallel processors have the interconnectivity needed to emulate neural network
processing techniques. The Company believes its chip stacking technology offers
a way to achieve the very high levels of interconnectivity necessary to
construct an efficient artificial neural network. To the Company's knowledge,
there are no competitive packaging approaches that are presently available which
are believed to offer this potential. The full embodiment of its neural network
technology is not expected to yield near-term products for the Company, although
it is anticipated to keep the Company actively involved in advanced R&D relevant
to the Company's long-range business interests. However, elements of this
technology, including a proprietary chip set, are currently being developed with
a view to early product utilization.
Embedded Systems. In fiscal 1998, the Company commenced exploration of a
technology to stack chips of different functionality and dimensions within the
same chip stack, in effect creating a complete, miniaturized electronic system
that can be embedded in a higher-level product. The Company refers to this new
technology as "NeoStack." In fiscal 1999, a U.S. Patent was granted on the
Company's NeoStack technology. The Company has initially demonstrated its
NeoStack technology to support a government program to develop a wearable
computer. The Company is also using the NeoStack technology in the development
of a high-speed, removable optical storage system for Digital Versatile Disk
("DVD") systems. The Company believes, but cannot assure, that its NeoStack
approach will offer advantages in terms of compactness and power consumption to
developers of a wide variety of embedded computer and control systems. However,
the Company has not yet developed this technology to the point at which it can
make forecasts of potential revenue, if any, resulting from its licensing or
application by OEMs.
Development Contract
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In April 1980, the Company entered into an agreement with R & D Leasing Ltd.,
("RDL"), a limited partnership in which the Company's Chairman of the Board and
a Senior Vice-President are general partners with beneficial interests, to
develop certain processes and technology related to chip stacking. The Company
has exclusively licensed this technology from RDL. The Company's exclusive
rights to the technology extend to all uses, both government and commercial.
Under this agreement, the Company has been accruing royalty obligations to RDL
at the rate of 3.5% of all Company revenues derived from the licensed
technology. In addition, RDL is entitled to receive an amount equal to 7% of
all royalties earned by the Company through the Company's sublicensees of the
licensed technology, although to date, no such sublicensee royalty income has
been earned.
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In October 1989, RDL agreed to defer its royalty claims and subordinate them
with respect to all other creditors in exchange for options to purchase up to
1,000,000 shares of the Company's Common Stock by applying the deferred
royalties to the purchase at the exercise price of $1.00 per share. In
September 1999, the Company and RDL negotiated an extension of the subordination
and option exercise period through March 1999. If RDL exercises its option in
whole or in part, title to RDL's technology would transfer to the Company and
all further royalty obligations would cease. If the option expires unexercised,
the subordination provisions would terminate and the accrued royalties would be
due and payable in the same manner as any other corporate obligation.
At October 3, 1999, the Company has accrued $1,000,000 in deferred royalties
pursuant to a settlement agreement with RDL to limit total accrued royalties to
$1,000,000 through April 3, 2000, in conjunction with the six-month extension of
the subordination and option exercise period. No royalties were paid by the
Company during fiscal years 1999, 1998 and 1997. The Company believes that the
terms of these foregoing transactions were no less favorable to the Company than
would have been obtained from a non-affiliated third party for similar services.
Manufacturing
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The Company's subsidiaries use contract manufacturers to fabricate and assemble
their products. Novalog and MSI use semiconductor fabrication and related
manufacturing sources that are widely available worldwide. Silicon Film uses
product components that are also widely available with one exception. Silicon
Film uses imaging chips which are currently available from one supplier.
Silicon Film expects that additional sources of supply will become available for
this component in the future, but the continuity of its supply of this key
component may be at risk until that occurs.
The Company's ultra-high-density stacking technology involves a standard
manufacturing process which fabricates cubes comprising of approximately 50 die
layers along with ceramic cap and base substrates laminated with an extremely
thin adhesive layer and interconnected with a thin-film bus metalization to
bring the chip input/output signals out to the top surface of the stacks. The
cubes are then segmented or split into subsections as required for the
particular product configuration being built. Finally, the cubes, mini-cubes or
short stacks are burned in, tested, graded, kitted for packaging, out-sourced
for packaging and screening, and returned for final test. The Company's
facility is designed for low volume and prototype production of such parts.
During fiscal 1998, the Company introduced more cost competitive products
manufactured with current state of the art manufacturing technologies. The
Company uses outside third party qualified source vendors for the manufacturing
of these products.
The primary components of the Company's non-memory products are integrated
circuits and infrared detectors. The integrated circuits are designed by the
Company for manufacture by others from silicon wafers and other materials
readily available from multiple sources. Due to the ready availability of these
materials, the Company does not have any special arrangements with suppliers for
their purchase. The Company does not produce detectors. However, the Company
has developed a process, which enables it to use relatively low cost, and
unsophisticated detectors which are generally available from numerous sources.
Because of the nature of the sophisticated research and development work
performed under its development contracts, the Company designs and assembles
equipment for testing and prototype development. The Company uses the unique
capability of this equipment to seek, qualify for and perform additional
contract research and development for its customers.
Backlog
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At December 15, 1999, the Company's funded backlog was $3,041,600 compared to
$3,468,600 at December 13, 1998. The Company anticipates that all of the funded
backlog will be filled in fiscal 2000. In addition, the Company has unfunded
backlog on contracts which typically are funded when the previously funded
amounts have been expended. The Company is also continuing to negotiate for
additional research contracts and commercial product sales, which, if obtained,
could materially increase its backlog. Failure to obtain these contracts in a
timely manner could materially affect the Company's short-term results.
Customers and Marketing
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The Company's Advanced Technology Division ("ATD") focuses its marketing efforts
primarily on U.S. military agencies or contractors to those agencies. The
Company is continually seeking and preparing proposals for additional contracts.
The Company also develops potential non-military uses of its technology. As a
result of the post cold-war defense cutbacks, many defense contractors have
experienced declines in their business base as government agencies' budgets are
reduced. However, even if this trend continues, the Company believes that there
will be more emphasis and funds directed to advanced technology systems and
research programs for which the Company believes it is qualified to compete.
However, there can be no assurances that the Company will be successful in
competing against the larger defense contractors for potential programs.
The Company's Novalog subsidiary supports Original Equipment Manufacturers
("OEM's") supplying infrared communications devices complying with the standards
of the Infrared Data Association ("IrDA"). The Company believes that Novalog's
active participation in IrDA facilitates its marketing to those customers.
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MSI directs its marketing toward three commercial areas: (i) Customers with a
need for Application Specific Integrated Circuits such as the type developed for
EG&G; (ii) OEMs that have a need for the cost and performance features that
could be provided by MSI's Silicon MicroRing Gyro, with particular emphasis
toward manufacturers of electronic toys and games, industrial monitoring
equipment, medical instrumentation and automotive markets; and (iii) the
manufacturers of micromachined sensors who may be able to utilize MSI's
Universal Capacitive Readout (UCR) general purpose ASIC designed to support a
variety of sensors requiring high accuracy capacitive readout and control
electronics.
Silicon Film is a consumer product-focused enterprise. Both the structure and
staffing of Silicon Film was developed to bring digital imaging products to the
consumer market. The initial product of Silicon Film, the Electronic Film System
(EFS) is designed to enable 35mm camera owners to shoot digital or traditional
photography with equipment they currently own. The initial target market, termed
"prosumers" are defined as high end hobbyists and business photographers who
have made a significant investment in their camera system. The EFS is being
positioned as a camera accessory, leveraging off the growing adoption of digital
cameras and their growing infrastructure.
Pre-production units of the initial EFS-1 product have been manufactured, and
Silicon Film is currently evaluating these units to determine when to accept
general orders for this product. Silicon Film presently forecasts general
availability of the EFS-1 for consumer sale in the first calendar quarter of
2000. Silicon Film plans its product roll out of the EFS-1 to be through direct
follow-up of inquiries from potential customers it has previously received.
Silicon Film expects to follow this initial roll out with an expansion of
distribution, reseller channels and value-added resellers for broad and vertical
markets through strategic OEM relationships with camera and film companies.
Silicon Film plans to service its customers with an electronic commerce site and
contracted customer service and support facilities.
In fiscal 1999, contracts with all branches of the U.S. government and second-
tier government contracts with prime government contractors accounted for 18
percent and 19 percent, respectively, of the Company's consolidated revenues;
the remaining 63 percent of the Company's consolidated revenues was derived from
non-government sources. During fiscal 1999, revenues derived from 3Com, Citizen
Electronics, and the U.S. Army accounted for approximately 25 percent, 21
percent and 10 percent of total consolidated revenues, respectively. Loss of
these customers would have a material adverse impact on the Company's short-term
consolidated results.
Contracts with government agencies may be suspended or terminated by the
government at any time, subject to certain conditions. Similar termination
provisions are typically included in agreements with prime contractors. There is
no assurance the Company will not experience suspensions or terminations in the
future.
The Company focuses its marketing in specific areas of interest in order to best
use its relatively limited marketing resources. Each operating unit or
subsidiary has a designated individual to direct that unit's marketing efforts.
Competition
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The demand for high performance semiconductors has produced a wide variety of
competitors and competitive systems, ranging from various three-dimensional
designs to highly dense two-dimensional designs. For most commercial
applications, the principal competitive factor for such products is the cost
premium over less densely packaged electronics. For some applications in which
volume and weight are critical, such as space or avionics, density becomes the
principal competitive factor. Many of the Company's competitors are believed to
be better financed, more experienced and organizationally stronger than the
Company. Accordingly, there can be no assurances that the Company can
successfully compete in such markets.
The Company is aware of three large companies that have developed or acquired
competing approaches to chip stacking. They are Texas Instruments, Inc. (TI),
Thompson CSF (Thompson) and Vertical Circuits, Inc. (VCI), a newly formed
subsidiary of TRW Inc. In addition, there are several small companies and
divisions of large companies that have various technologies for stacking a
limited number of chips.
The Company is aware of many companies, which are currently servicing the
military market for electro-optical sensors of the type which the Company's
products are also designed to support. The principal competitive factor in this
business area is the performance sensitivity and selectivity achievable by
alternative sensor approaches and designs. Competitors to the Company include
TI, Lockheed Martin Corporation, Raytheon, Litton Industries, Infrared
Industries, Inc., EG&G Judson, OptoElectronics-Textron, Inc. and Boeing
Corporation. The Company believes that most of its competitors in this area have
financial, labor and capital resources greater than those of the Company, and
there is no assurance that the Company will be able to compete successfully.
The Company is aware of several companies that currently service the market for
serial infrared detectors of the type sold by Novalog. For battery-powered
applications, the principal competitive factors are power consumption and cost.
For desktop and related applications, the principal competitive factor is the
speed of data transmission achievable. Novalog believes it has competitive
advantages in the battery-powered applications. Competitors to Novalog in this
sector include Hewlett-Packard, Temic-Vishay and
7
<PAGE>
Siemons Infenion, among others, all of whom have financial, labor and capital
resources greater than those of Novalog. Although Novalog is currently
experiencing material revenues in competition with such companies, its ability
to protect or expand its market share in the future is not assured.
MSI is competing in a market populated with several larger competitors relating
to its Silicon MicroRing Gyro, including such companies as Delco Electronics,
Motorola, Bosch Corporation, Siemans and Systron-Donner. The principal
competitive factor for these applications is believed to be cost. MSI has no
present knowledge of competitors planning to introduce ASICs competitive to its
UCR product, but given the widespread availability of integrated circuit design
capabilities in the electronics industry, the emergence of competitive products
is believed to be likely.
Silicon Film is not aware of any direct competitors to its EFS product and
believes that its intellectual property will act as a barrier to competitors
seeking to offer identical products, although there can be no assurance of that
result. However, the EFS systems itself is expected to face competition from
increasingly sophisticated generations of digital camera equipment. Peripheral
equipment and services which Silicon Film intends to offer to complement its EFS
products are also likely to attract strong competition if the EFS product line
receives significant market acceptance.
Research and Development
- ------------------------
The Company believes government and commercial research contracts will provide
the major portion of funding necessary for continuing development of some of its
products. However, the manufacture of stacked circuitry modules in volume will
require substantial additional funds, which may involve additional equity or
debt financing or a joint venture, license or other arrangement. Furthermore,
the development of some of the products of its subsidiaries is likely to
require external funding. There can be no assurance that sufficient funding
will be available from government or other sources or that new products of the
Company of its subsidiaries will be successfully developed for volume
production.
The Company's expenditures for research and development for the fiscal years
ended October 3, 1999, September 27, 1998, and September 28, 1997 were
$5,528,000, $4,128,400 and $1,616,600, respectively. These expenditures of
Company funds were in addition to the Company's cost of revenues associated with
its customer-sponsored research and development activities. The spending levels
of Company funds on research and development compared to its overall expenses
are indicative of the Company's resolve to maintain its competitive advantage by
developing new products and improving upon its existing technology.
The Company has funded its research and development activities primarily through
contracts with the federal government and with funds from the Company's public
and private stock and bond offerings.
Patents, Trademarks and Licenses
- --------------------------------
The Company has a policy of protecting its investment in technology by seeking
to obtain, where practical, patents on the inventions made by its employees. As
of October 3, 1999, 53 U.S. and foreign patents have been issued and other U.S.
and foreign patent applications are pending. Foreign patent applications
corresponding to several of the U.S. patents and patent applications are also
pending. There is no assurance that additional patents will issue in the U.S.
or elsewhere. Moreover, the issuance of a patent does not carry any assurance
of successful application, commercial success or adequate protection. There is
no assurance that the Company's existing patents or any other patent that may
issue in the future would be upheld if the Company seeks enforcement of its
patent rights against an infringer or that the Company will have sufficient
resources to prosecute its rights, nor is there any assurance that patents will
provide meaningful protection from competition.
The Company has been advised by its patent counsel, Thomas Plante, Esq., that no
adverse patent has been found which might create an infringement problem in the
marketing of the Company's products. If others were to assert that the Company
is using technology covered by patents held by them, the Company would evaluate
the necessity and desirability of seeking a license from the patent holder.
There is no assurance that the Company is not infringing on other patents or
that it could obtain a license if it were so infringing.
Those products and improvements that the Company develops under government
contracts are generally subject to royalty-free use by the government for
government applications. However, the Company has negotiated certain "non-
space" exclusions in government contracts and has the right to file for patent
protection on commercial products which may result from government-funded
research and development activities.
The Company has exclusive rights to technology developed under an agreement with
R & D Leasing, Ltd. ("RDL"), a limited partnership. Under the agreement, the
Company will pay royalties of 3.5% of all direct sales by the Company, of the
basic devices using the technology. RDL will also receive 7% of all income
earned by the Company from sublicensees. The Company's Chairman of the Board
and its Senior Vice-President and Chief Technical Officer have a beneficial
interest in RDL. See "Development Contracts."
8
<PAGE>
Silicon Film has exclusive world-wide rights to the technology developed in
conjunction with a licensing agreement between the Company and I. Sapir, a
foreign individual, who is now an employee of Silicon Film. Under this
agreement, the Company issued 30,000 shares of its common stock to Mr. Sapir.
Silicon Film has assumed the royalty obligations of this licensing agreement,
which consist of a 1.5% royalty on products incorporating the licensed
technology. This licensing agreement was executed in October 1997 and amended in
March 1999. In 1999, Silicon Film filed ten additional patent applications
relating to the proprietary methods and designs of its products.
The Company has entered into an assignment of patent and intellectual rights
agreement with F.L. Eide, a Vice-President of the Company. As part of an
employment agreement, Mr. Eide assigned to the Company all rights and interests
to five U.S. Provisional Patent Applications owned by him. In consideration for
this assignment, Mr. Eide will receive a 1% royalty on the gross sales revenues
of any products incorporating the technology of these patent assignments for the
lifetime of these patents. This agreement was executed in February 1998.
The Company entered into a sale and licensing of intellectual property rights
related to the EFS to Advanced Technology Products, LLC ("ATPL"), a related
party which funded early development of this technology, for which the Company's
Senior Vice President and Chief Technical Officer serves as Managing Member. In
September 1998, the Company assigned the rights and future royalty obligations
of the ATPL license to Silicon Film. Concurrent with this assignment, ATPL
reduced its royalty entitlements under the license in consideration for the
issuance of 1,222,125 shares of Silicon Film common stock. ATPL retains a
royalty entitlement of 2% of the first $30 million of EFS sales, declining
thereafter as a function of sales volume.
Environmental Matters
- ---------------------
The Company believes that it is substantially in compliance with all regulations
concerning the discharge of materials into the environment, and such regulations
have not had a material effect on the capital expenditures or operations of the
Company.
Employees
- ---------
As of October 3, 1999, the Company, including its consolidated subsidiaries, had
91 full-time employees and 10 consultants. Of the full-time employees, 66 were
engaged in engineering, production and technical support, 8 in sales and
marketing and 17 in finance and administration. None of the Company's employees
is represented by a labor union, and the Company has experienced no work
stoppages due to labor problems. The Company considers its employee relations to
be excellent.
The Year 2000
- -------------
The year 2000 issue is the result of computer programs using two digits, rather
than four to define the applicable year. Programs that have time-sensitive
software may recognize a date using "00" as the calendar year 1900 rather than
the calendar year 2000. Systems that do not properly recognize such information
could generate erroneous data or cause a system to fail.
The Company views the year 2000 problem as an important business issue that
could affect its business, as well as that of its suppliers and customers. Until
the last several years, the Company's business has primarily been R&D, and its
more recent business activities have not involved the shipment of products or
components with embedded controllers that might be affected by the Year 2000
problem. However, Irvine Sensors customers may have integrated the Company's
devices into higher level products or systems affected by the Year 2000 problem,
and, to the extent that its customers' business may be disrupted, the Company's
business and that of its subsidiaries is also subject to potential disruptions
from such a cause. The Company does not have sufficient access to higher-level
designs of its customers' products to be able to definitively assess this risk,
but does not currently view this risk to be high.
In addition, the Company does utilize a number of computerized information
systems to accurately process date-sensitive information across its operation,
and any of these programs or computer systems is a potential source of year 2000
system failures. Irvine Sensors has worked to identify and resolve such
potential impacts on the Company's computerized systems. The Company has been
advised by its vendors that their systems are compliant with year 2000 issues.
Finally, the Company's general business operations could be adversely impacted
were there to be material interruptions either in the country's banking or
financial systems or the procurement activities of its customers. The Company
currently believes that costs of addressing these issues will not have a
material adverse impact on the Company's financial position. Nevertheless, if
Irvine Sensors and third parties upon which it relies are unable to address this
issue in a timely manner, it could result in a material financial risk to the
Company. In order to mitigate the various risks associated with the Year 2000
problem, Irvine Sensors continues to work with its suppliers and customers,
including the disclosure and exchange of relevant information, to proactively
manage the calendar transition. The Company does not have a formal contingency
plan should these preparations prove inadequate.
9
<PAGE>
Factors that may affect Future Results
- --------------------------------------
The future operating results of the Company are highly uncertain, and the
following factors should be carefully reviewed in addition to the other
information contained in this annual report on Form 10-K and in other public
disclosures of the Company.
Shift in Business Focus. Since commencing operations, ISC has developed
technology, principally under government research contracts, for various
defense-based applications. Since 1992, ISC has been implementing a fundamental
shift in its business, broadening its focus to include commercial exploitation
of its technology. This shift has been manifested by the purchase and later shut
down of the IBM cubing line, the "carve-out" of the Novalog, MSI and Silicon
Film subsidiaries and the development of various stacked-memory products
intended for military and aerospace markets. To date, these changes have
developed new revenue sources but have not yet produced sustained consolidated
profitability. Because of this limited and not-yet successful history, there can
be no assurances that ISC's present and contemplated future products will be
widely accepted in commercial marketplaces.
Financing Needs. Although the Company believes that it has adequate liquidity
for its core level of operations, ISC and its subsidiaries have developed
business plans for several emerging product areas based on its technologies. The
product development and market introduction costs of these products cannot
presently be fully funded from internal cash flow. There can be no assurances
that ISC or its subsidiaries will be able to locate external financing for their
business plans on acceptable terms.
Nasdaq Listing Requirements. ISC's Common Stock is publicly traded on the Nasdaq
SmallCap Market. Effective February 23, 1998, new and more restrictive standards
became effective for listing maintenance on this market. Prior to the
implementation of these new regulations, ISC briefly dropped below the pending
standards due to the loss associated with its Vermont plant closure and had to
establish to the satisfaction of the Nasdaq staff that it had met the new
standards in order to retain its listing. While the Company was able to meet
this requirement, there can be no assurances that the Company will be able to
maintain its compliance in the future. In the foreseeable future, the Company
must meet at least one of the two following standards to maintain its Nasdaq
listing; (i) maintenance of its tangible net worth at $2 million or greater, or
(ii) maintenance of a market capitalization figure in excess of $35 million as
measured by market prices for trades executed on Nasdaq. While the Company
presently has a market cap substantially in excess of the $35 million Nasdaq
standard, its tangible net worth is slightly below $2 million. Furthermore, the
consolidated losses resulting from the development expenses of some of its
subsidiaries will continue to erode its tangible net worth for at least a
portion of fiscal 2000. In that instance and absent additional equity financing,
which cannot be guaranteed, the Company would be subject to market price risks
for the maintenance of its Nasdaq listing. If ISC were to fail to meet the
maintenance requirements for listing on Nasdaq in the future and the price of
ISC's Common Stock was below $5 at such time, such securities would come within
the definition of "penny stock" as defined in the Securities Exchange Act of
1934, as amended (the "Exchange Act") and be covered by Rule 15g-9 of the
Exchange Act. That Rule imposes additional sales practice requirements on
broker-dealers who sell such securities to persons other than established
customers and accredited investors. From transactions covered by Rule 15g-9, the
broker-dealer must make a special suitability determination for the purchaser
and receive the purchaser's written agreement to the transaction prior to the
sale. Consequently, Rule 15g-9, if it were to become applicable, would affect
the ability or willingness of broker-dealers to sell ISC's securities and
therefore would affect the ability of shareholders to sell their securities in
the public market and the Company's ability to finance its business plans.
Equity Capital Structure. At October 3, 1999, the Company had 35,035,100 common
shares issued and outstanding. The common shares reserved for issuance pursuant
to existing preferred stock conversion rights, royalty conversion agreements and
outstanding warrants and options have essentially depleted the balance of the
Company's authorized capital structure of 40,000,000 common shares. Although the
Company has authorized preferred stock which is presently unissued and
unreserved, without an increase in its authorized common shares, the Company
will be severely hampered in seeking equity financing in the future. Since the
Company does not presently have sources of significant debt financing,
unavailability of equity financing could impair the Company's ability to finance
its future business plans or those of its present or future subsidiaries or its
ability to respond to unforeseen circumstances. There can be no assurances that
the Company's stockholders will authorize an increase in the Company's
authorized common shares.
Third-Party Financing of Subsidiaries. The financing of the Company's Novalog
and Silicon Film subsidiaries to date have involved significant sales of
minority equity interests. The Company has repurchased a substantial portion of
the minority equity interests of Novalog, but does not now have sufficient
discretionary capital to continue this practice with respect to Novalog or any
other subsidiary or to adequately finance the future business plans of any of
its subsidiaries. The Company's subsidiaries are seeking to sell additional
equity interests to finance at least some portion of their business plans. The
Company's ability to enjoy the benefits of any potential increase in value on
the part of its subsidiaries can be greatly reduced by third-party financings.
This is true both because of reduced equity interests in the subsidiaries and
because the Company's control of its subsidiaries is lessened or eliminated.
Significant third-party investment in the Company's subsidiaries will likely
result in third-party investors receiving subsidiary board representation and/or
protective covenants that could result in the Company losing voting control of
its
10
<PAGE>
subsidiaries. In the case of Silicon Film, it presently has an investment
banking relationship seeking significant third-party financing involving such
features plus additional investor protection. If approved by the Company and
subsequently consummated, this financing would reduce the Company's ownership
interest in Silicon Film to slightly above 50% after the placement of the
financing and to slightly below 40% after the fully-dilutive effect of warrants
and options. Additional dilution could be experienced due to default or price
anti-dilution provisions or a subsequent IPO. In certain circumstances, it is
possible that we or our subsidiaries could experience very substantial
transactions costs or "break-up" fees in connection with efforts to obtain
financing. Third-party financings of subsidiaries will inherently complicate our
fiduciary and contractual obligations and could leave us more vulnerable to
potential future litigation. The outcome of litigation is inherently
unpredictable, and even the costs of prosecution could have a materially adverse
effect on our results of operations.
Dependence on Defense Contract Revenues. Although ISC has been shifting its
focus to include commercial exploitation of its technology, it expects to
continue to be dependent upon research and development contracts with federal
agencies and their contractors for a substantial, but diminishing portion of its
revenues for the foreseeable future. General political and economic conditions,
which cannot be accurately predicted, directly and indirectly affect the
quantity and allocation of expenditures by federal agencies. Even the timing of
incremental funding commitments to existing, but partially-funded contracts can
be affected by such factors. Therefore, cutbacks in the federal budget could
have a material adverse impact on ISC's results of operations as long as
research and development contracts remain an important element of its business.
Market Acceptance of New Products. Both ISC and its subsidiaries are focused on
markets that are emerging in nature and potentially subject to rapid growth.
Market reaction to new products in such circumstances can be difficult to
predict. There can be no assurance that the present or future products of ISC or
its subsidiaries will be favorably accepted by such markets on a sustained
basis. In addition, because ISC has a limited history of competing in the
intensely competitive commercial electronics industry, there is no assurance
that it will successfully be able to develop, manufacture and market additional
commercial product lines or that such product lines will be accepted in the
commercial marketplace.
Patents and Proprietary Right Protection; Infringement. ISC believes that its
ultimate success, and that of its subsidiaries, will depend, in part, on the
strength of its existing patent protection and the additional patent protection
that it and its subsidiaries may acquire in the future. As of the date hereof,
ISC owns 44 U.S. patents and 8 foreign patents and has other patent applications
pending before the U.S. Patent and Trademark Office as well as various foreign
jurisdictions. Although ISC believes many of these patents to be fundamental in
nature, there can be no assurance that any existing or future patents will
survive a challenge or will otherwise provide meaningful protection from
competition. Furthermore, there is also no assurance that ISC or its
subsidiaries will have the financial resources to provide vigorous defense or
enforcement of patents.
Protection of Proprietary Information. ISC and its subsidiaries treat technical
data as confidential and rely on internal nondisclosure safeguards, including
confidentiality agreements with employees, and on laws protecting trade secrets,
to protect proprietary information. There can be no assurance that these
measures will adequately protect the confidentiality of the proprietary
information of ISC or its subsidiaries or that others will not independently
develop products or technology that are equivalent or superior to those of ISC
or its subsidiaries. ISC or its subsidiaries may receive in the future
communications from third parties asserting that the products of ISC or its
subsidiaries infringe the proprietary rights of third parties. There can be no
assurance that any such claims would not result in protracted and costly
litigation. There can be no assurance that any particular aspect of the
technology owned by ISC or its subsidiaries will not be found to infringe the
products of other companies. Other companies may hold or obtain patents or
inventions or may otherwise claim proprietary rights to technology useful or
necessary to ISC's or its subsidiaries' business. The extent to which ISC or its
subsidiaries may be required to seek licenses under such proprietary rights of
third parties and the cost or availability of such license, cannot be predicted.
While it may be necessary or desirable in the future to obtain licenses relating
to one or more of its proposed products or relating to current or future
technologies, there can be no assurance that ISC or its subsidiaries will be
able to do so on commercially reasonable terms.
Government Rights. Whatever degree of protection, if any, is afforded ISC or its
subsidiaries through its patents, proprietary information and other intellectual
property, this protection will not extend to government markets that utilize
certain segments of ISC's technology. The government has the right to
royalty-free use of technologies that ISC has developed under government
contracts, including portions of ISC's stacked circuitry technology. ISC is free
to commercially exploit such government-funded technologies and may assert its
intellectual property rights to seek to block other non-government users
thereof, but there can be no assurances of success in such endeavors.
Competition. ISC and its subsidiaries face strong competition. Most competitors
have considerably greater financial, marketing and technological resources than
does ISC or its subsidiaries. There is no assurance that ISC or its subsidiaries
will be able to compete successfully with such other companies.
11
<PAGE>
Dependence on Suppliers. ISC and its subsidiaries extensively use suppliers in
the manufacture of their products. At the projected level of operations, both
ISC and its subsidiaries have identified sources that are believed to be
adequate to meet identified needs. However, there is no assurance that ISC or
its subsidiaries will be able to cover changing manufacturing needs in the
future. Failure to do so will have a material adverse impact on the operations
of ISC and its subsidiaries.
Possible Technological Advances. ISC and its subsidiaries are in industries
characterized by continuing technological development and, accordingly, will be
required to devote substantial resources to improve already technologically
complex products. Many companies in these industries devote considerably greater
resources to research and development than does ISC or its subsidiaries.
Developments by any of these companies could have a materially adverse effect on
ISC.
Dependence on Key Personnel. ISC and its subsidiaries will depend to a large
extent on the abilities and continued participation of certain key employees.
The loss of key employees could have a material adverse effect on the businesses
of ISC and its subsidiaries. ISC and its subsidiaries have adopted employee
Stock Option Plans designed to attract and retain key employees. The value of
such options to the subsidiaries will be strongly tied to the timing of any
future IPOs, of which there can be no assurance, and there can, accordingly, be
no guarantee of the efficacy of such options in retaining key employees. Neither
ISC or its subsidiaries presently maintain "key man" insurance on any key
employees although Silicon Film is planning to secure such insurance on its
Chief Executive Officer. ISC believes that, as its activities and those of its
subsidiaries increase and change in character, additional, experienced personnel
will be required to implement the business plans of ISC and its subsidiaries.
Competition for such personnel is intense and there is no assurance that they
will be available when required, or that ISC or its subsidiaries will have the
ability to attract them.
The above factors are not intended to be inclusive. Failure to satisfactorily
achieve any of the Company's objectives or avoid any of the above or other risks
would likely have a material adverse effect on the Company's business and
results of operations.
12
<PAGE>
Item 2. Properties
The following table sets forth information with respect to the Company's
facilities:
<TABLE>
<CAPTION>
Square Monthly
Location Feet Rent Lease Expiration
-------- ------ ------- ----------------
<S> <C> <C> <C> <C>
ISC(1) Costa Mesa, CA 30,339 $32,300 September 2001
Silicon Film Technologies, Inc. Irvine, CA 10,300 7,725 May 2004
------ -------
Total 40,639 $40,025
====== =======
</TABLE>
- ------------
(1) Includes facilities for ISC corporate headquarters, ATD, MPD, MSI and
Novalog.
The facilities used by Advanced Technology Division include laboratories
containing clean rooms for operations requiring a working environment with
reduced atmospheric particles. The Company believes that its facilities are
adequate for their respective operations, and that the facilities of the Company
are maintained in good repair.
Item 3. Legal Proceedings.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
13
<PAGE>
EXECUTIVE OFFICERS OF THE REGISTRANT
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
James D. Evert 57 President, Chief Executive Officer and a Director
John C. Carson 61 Senior Vice President, Chief Technical Officer and a Director
John J. Stuart, Jr. 60 Senior Vice President, Chief Financial Officer and Treasurer
Floyd L. Eide 63 Vice President and General Manager - MicroElectronics Division
</TABLE>
Mr. Evert has been President, Chief Executive Officer and a director of ISC
since February 1997. He also serves in those capacities for Novalog since
February 1997 and as a director of MSI since October 1997 and a director of
Silicon Film since August 1998. Prior to joining ISC, Mr. Evert was an
independent management consultant. In that role from December 1993 until January
1995, he assisted Fujitsu Microelectronics, Inc. in the formation of a graphics
product subsidiary and subsequently served as Vice-President of that unit from
January 1995 to February 1996. Mr. Evert is a graduate of Syracuse University
with a B.S. degree in Electrical Engineering.
Mr. Carson is a co-founder of ISC and has served as a Senior Vice President
since its inception in 1974 and a director since April 1982. He was elected
Chief Technical Officer in February 1997. Mr. Carson also serves as a director
of MSI (since October 1997). Mr. Carson has been awarded 15 patents for smart
sensors, 3D packaging and single processing architectures, including neural
networks. Mr. Carson holds a B S. in Physics from the Massachusetts Institute of
Technology.
Mr. Stuart joined ISC in January 1983 as its Manager of Special Projects and
Communications, became ISC's Chief Financial Officer and Treasurer in July 1985,
and a Vice President in June 1995. He relinquished the position of Treasurer in
February 1995. Effective October 1998, Mr. Stuart re-assumed the position of
Treasurer in addition to his other responsibilities. Mr. Stuart is also a member
of the Board of Directors and is Vice President of Finance and Chief Financial
Officer of both Novalog (since October 1995) and MSI (since October 1997). He
also acted as Chief Financial Officer of Silicon Film since its organization in
August 1998 until May 1999. Mr. Stuart holds a B.S. in Industrial Management
from the Massachusetts Institute of Technology.
Mr. Eide joined ISC in August 1997 as Vice President and General Manager -
MicroElectronics Division. From November 1987 to August 1997, Mr. Eide was Chief
Operating Officer and Vice President, Engineering of Dense-Pac Microsystems Inc.
He is a graduate of Fairleigh Dickenson University with a M.S. in Solid State
Physics and a B.S. in Physics.
14
<PAGE>
PART II
-------
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The following table sets forth the range of representative high and low
bid prices of the Company's Common Stock (Nasdaq SmallCap Market symbol: IRSN)
in the over-the-counter market for the periods indicated, as furnished by NASD,
Inc. These prices represent prices among dealers, do not include retail markups,
markdowns or commissions, and may not represent actual transactions:
<TABLE>
<CAPTION>
Common Stock
Bid Prices
High Low
---- ---
<S> <C> <C>
Fiscal Year Ended October 3, 1999:
First Quarter $1 15/16 $1 13/32
Second Quarter $1 21/32 $1 5/16
Third Quarter $2 $1 7/16
Fourth Quarter $1 27/32 $1 7/32
Fiscal Year Ended September 27, 1998:
First Quarter $1 1/32 $1
Second Quarter $2 21/32 $2 19/32
Third Quarter $2 1/32 $2
Fourth Quarter $2 29/32 $1 11/32
</TABLE>
On December 22, 1999, the closing bid and asked prices for the Company's Common
Stock on the Nasdaq SmallCap Market were $2 1/8 and $2 3/32 respectively.
On December 22, 1999, there were approximately 885 stockholders of record and
approximately 9,500 beneficial holders based on information provided by the
Company's transfer agent.
The Company has not paid cash dividends on any class of its stock since its
incorporation. Under Delaware law there are certain restrictions which limit the
Company's ability to pay cash dividends in the future.
15
<PAGE>
Item 6. Selected Financial Data
The following table summarizes certain selected consolidated financial data and
is qualified by the more detailed Consolidated Financial Statements incorporated
herein by reference (see Item 8, below):
Fiscal Year Ended
-----------------
<TABLE>
<CAPTION>
October 3, September 27, September 28, September 29, October 1,
1999 1998 1997 1996 1995
Consolidated Statement of Operations Data:
- ------------------------------------------
<S> <C> <C> <C> <C> <C>
Total revenues $11,100,200 $ 9,314,500 $ 13,693,200 $ 12,024,200 $ 8,041,400
Loss from operations (9,785,700) (5,798,200) (14,809,200) (11,154,700) (3,071,500)
Net loss (9,115,700) (4,243,500) (14,875,600) (15,914,700) (4,137,500)
Basic and diluted net loss per common
and common equivalent share $ (0.29) $ (0.19) $ (0.73) $(0.94) $(0.28)
Weighted average number of
shares outstanding 31,244,300 24,597,700 20,475,100 16,874,300 14,966,500
Shares used in computing
net loss per share 31,244,300 24,597,700 20,475,100 16,874,300 14,966,500
</TABLE>
Loss per common and common equivalent shares includes, where applicable,
cumulative and imputed dividends on Preferred Stock which have not been declared
or paid.
<TABLE>
<CAPTION>
October 3, September 27, September 28, September 29, October 1,
1999 1998 1997 1996 1995
-----------------------------------------------------------------------------------
Consolidated Balance Sheet Data:
- ---------------------------------
<S> <C> <C> <C> <C> <C>
Current assets $ 6,640,850 $4,802,700 $ 6,637,200 $ 9,648,200 $ 9,927,500
Current liabilities $ 5,375,300 $2,296,000 $ 7,395,600 $ 5,787,100 $ 3,545,400
Working capital (deficit) $ 1,265,550 $2,506,700 $ (758,400) $ 3,861,100 $ 6,382,100
Total assets $10,510,350 $7,064,700 $ 9,449,300 $21,742,200 $15,609,200
Long-term debt $ 433,200 $ 933,700 $ 1,207,000 $ 3,165,600 $ 201,200
Shareholders' equity (deficit) $ 2,212,650 $2,347,000 $(2,939,900) $ 8,312,700 $ 9,494,100
</TABLE>
16
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition
-----------------------------------------------------------
and Results of Operation
------------------------
The information required by Item 7 of this report is set forth on pages 2
through 4 of the Company's 1999 Annual Report to Stockholders and is
incorporated by reference in this Annual Report on Form 10-K.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
----------------------------------------------------------
None.
Item 8. Financial Statements and Supplementary Data
-------------------------------------------
The financial statements, together with the reports thereon of Grant Thornton
LLP, dated December 21, 1999 and PricewaterhouseCoopers LLP, dated December 16,
1997, appearing on pages 5 through 22 of the Company's 1999 Annual Report to
Stockholders are incorporated by reference to this Annual Report on Form 10-K.
With the exception of the aforementioned information and the information
incorporated in Item 7, the 1999 Annual Report to Stockholders is not deemed to
be filed as part of this Annual Report on Form 10-K.
Item 9. Changes in and Disagreements with Accountants on Accounting and
---------------------------------------------------------------
Financial Disclosure
--------------------
On October 1,1998, the Company dismissed PricewaterhouseCoopers LLP as its
independent accountants effective as of the Company's fiscal year ended
September 27,1998. The Registrant's Audit Committee participated in and approved
the decision to change independent accountants. On October 1, 1998, the Company
selected Grant Thornton LLP to act as its independent accountants effective as
of the company's fiscal year ended September 27,1998. At the Company's Annual
Meeting of February 26, 1999, shareholders approved the selection of Grant
Thornton LLP to act as its independent accountants for the fiscal year ended
October 3, 1999.
PART III
---------
The following items included in the Company's Definitive Proxy Statement dated
January 25, 1999 to be used in connection with the Company's Annual Meeting of
Stockholders to be held on February 26, 1999 are incorporated herein by
reference:
<TABLE>
<CAPTION>
Pages in Proxy
-----------------
<S> <C> <C>
Item 10. Directors and Executive Officers of the Registrant 2-5
Item 11. Executive Compensation 7-10
Item 12 Security Ownership of Certain Beneficial Owners and Management 7-8
Item 13. Certain Relationships and Related Transactions 15
</TABLE>
17
<PAGE>
PART IV
-------
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) The following documents are filed as part of this Report:
1. Financial Statements
Pages in
Annual Report*
--------------
Consolidated Balance Sheets 5
Consolidated Statements of Operations 6
Consolidated Statement of Shareholders' Equity (Deficit) 7
Consolidated Statements of Cash Flows 8
Notes to Consolidated Financial Statements 9-21
Reports of Independent Certified Public Accountants 22
* Incorporated by reference from the indicated pages
of the 1999 Annual Report to Stockholders.
2. Financial Statement Schedule:
Reports of Independent Certified Public Accountants on Financial
Statement Schedules
Schedule for the fiscal years ended October 3, 1999, September 27,
1998, and September 28, 1997.
Schedule II - Valuation and Qualifying Accounts
All other schedules have been omitted because they are not
applicable, or not required, or because the required information
is included in the financial statements or notes thereto which
have been incorporated herein by reference.
3. Exhibits - The following is a list of the exhibits encompassed in
this report:
Exhibit
Number Exhibit Description
------ -------------------
3.1 Certificate of Incorporation of the Registrant, as amended and
currently in effect (1)
3.2 Certificate of Designation of Preferences of Series D Convertible
Preferred Stock (2)
3.3 By-laws, as amended to date (3)
4.1 Specimen Common Stock certificate (1)
5.1 Opinion of Grover T. Wickersham, P.C.re legality (4)
10.1 Lease Agreement for the premises at 3001 Redhill Avenue, Building
III, Costa Mesa, California (5)
10.2.1 Employee Stock Bonus Plan and Trust Agreement dated June 29, 1982
effective December 31,1982 (6)
10.2.2 Amendment to Employee Stock Bonus Plan and Trust Agreement dated
December 14, 1982 (7 )
10.2.3 Amendment to Employee Stock Bonus Plan and Trust Agreement dated
September 25, 1990 (1)
10.2.4 Master Trust Agreement for Employee Deferred Benefit Plans dated
August 22, 1990 (8)
10.2.5 Amendment to Employee Stock Bonus Plan and Trust Agreement dated
October 4, 1993 (9)
10.3 Agreement with R&D Leasing, Ltd. and Note Payable dated June 23,
1989 (10)
10.4 License Agreement with R&D Leasing, Ltd. dated October 20, 1989
(10)
10.5 Agreement with R&D Leasing, Ltd. dated October 1, 1990 (11)
10.6 1991 Stock Option Plan (12)
10.7 1995 Stock Option Plan (13)
10.8 Contract between the Company and NASA Management Office - JPL dated
March 12, 1996 (3)
10.9 Contract between the Company and Wright-Patterson Air Force Base
dated August 12, 1996 (3)
10.10 Contract #DAAH01-9B-C-R075 with U.S. Army Aviation and Missile
Command (14)
10.11 1999 Stock Option Agreement (4) 21.1 Subsidiaries of the Registrant
(2)
13 Portions of Registrant's Annual Report to Stockholders for the
fiscal year ended October 3, 1999
21.1 Subsidiaries of the Registrant (2)
23.1 Consent of Grant Thornton LLP, Independent Certified Public
Accountants (see page II-11 of the Registration Statement)
23.2 Consent of PricewaterhouseCoopers LLP, Independent Accountants (4)
23.3 Consent of Thomas J. Plante, Esq., Patent Counsel (see page II-12
of the Registration Statement)
23.4 Consent of Grover T. Wickersham, P.C. (included in Exhibit 5.1,
above)
27 Financial Data Schedule
18
<PAGE>
- -----------
(1) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K for the fiscal year ended September 29, 1991.
(2) Incorporated by reference to the Registrant's Registration Statement on
Form S-1 filed with the Commission on October 4, 1999 (Registration
Number 333-88385).
(3) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K/A for the fiscal year ended September 28, 1996.
(4) To be filed by amendment.
(5) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K for the fiscal year ended October 2, 1994.
(6) Incorporated by reference to Part II of Pre-effective Amendment No. 3 to
the S-18 Registration Statement filed with the Commission's Los Angeles
Regional Office on May 27, 1982.
(7) Incorporated by reference to Part II of Registrant's Registration
Statement on Form S-1 filed with the Commission on March 23, 1983
(Registration No. 2-82596) (the "S-1 Registration Statement").
(8) Incorporated by reference to Part II of Pre-effective Amendment No. 3 to
the Form S-2 filed with the Commission on March 3, 1987 (Registration No.
33-10134).
(9) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K/A for the fiscal year ended October 1, 1995.
(10) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K for the fiscal year ended October 1, 1989.
(11) Incorporated by reference to Part IV of Registrant's Annual Report on Form
10-K for the fiscal year ended September 30, 1990.
(12) Incorporated by reference to Part II of Pre-effective Amendment No. 2 to
the Form S-2 filed with the Commission on July 9, 1992 (Registration No.
33-47977).
(13) Incorporated by reference to Registrant's Form S-8 Registration Statement
filed February 11, 1999.
(14) Incorporated by reference to Registrant's Form 10-Q for the Period Ended
June 27, 1998, filed August 12, 1998.
(b) Reports on Form 8-K:
------------------------
No report on Form 8-K was filed by the Company with respect to the quarter
ended October 3, 1999.
19
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
IRVINE SENSORS CORPORATION
--------------------------
By: /s/ James Alexiou
_____________________________
James Alexiou
Chairman of the Board
Date: December 31, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated:
/s/ James Evert /s/ John J. Stuart, Jr.
_____________________________ __________________________
James Evert John J. Stuart, Jr.
Chief Executive Officer Chief Financial Officer
(Principal Executive Officer) (Principal Accounting
Date: December 31, 1999 Officer)
Date: December 31, 1999
/s/ John C. Carson /s/ Frank P. Ragano
_____________________________ __________________________
John C.Carson, Director Frank P. Ragano, Director
Date: December 31, 1999 Date: December 31, 1999
/s/ Joanne S. Carson /s/ Vincent F. Sollitto, Jr.
_____________________________ __________________________
Joanne S. Carson, Director Vincent F. Sollitto, Jr.,
Date: December 31, 1999 Director
Date: December 31, 1999
/s/ Marc Dumont /s/ Wolfgang Seidel
_____________________________ __________________________
Marc Dumont, Director Wolfgang Seidel, Director
Date: December 31, 1999 Date: December 31, 1999
/s/ Walter E. Garrigan
_____________________________
Walter E. Garrigan, Director
Date: December 31, 1999
20
<PAGE>
REPORTS OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
---------------------------------------------------
ON FINANCIAL STATEMENT SCHEDULES
--------------------------------
To the Board of Directors of
Irvine Sensors Corporation
Our audits of the consolidated financial statements referred to in our report
dated December 21, 1999 appearing on page 22 of the 1999 Annual Report to
Shareholders of Irvine Sensors Corporation (which report and consolidated
financial statements are incorporated by reference in this Annual Report on Form
10-K) also included an audit of the Financial Statement Schedules listed in Item
14(a) of this Form 10-K. In our opinion, these Financial Statement Schedules
present fairly, in all material respects, the information set forth therein when
read in conjunction with the related consolidated financial statements.
/s/ GRANT THORNTON LLP
Irvine, California
December 21, 1999
To the Board of Directors of
Irvine Sensors Corporation
Our audit of the consolidated financial statements referred to in our report
dated December 16,1997 appearing on page 22 of the 1999 Annual Report to
Shareholders of Irvine Sensors Corporation (which report and consolidated
financial statements are incorporated by reference in this Annual Report on Form
10-K) also included an audit of the Financial Statement Schedules for the year
ended September 28, 1997 listed in Item 14(a) of this Form 10-K. In our
opinion, these Financial Statement Schedules present fairly, in all material
respects, the information set forth therein when read in conjunction with the
related consolidated financial statements.
/s/ PRICEWATERHOUSECOOPERS LLP
PRICE WATERHOUSE LLP
Costa Mesa, California
December 16, 1997
21
<PAGE>
SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS
----------------------------------------------
<TABLE>
<CAPTION>
Balance at Charged to Balance
Beginning Costs and at End
of Year Expenses Deductions of Year
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Year ended October 3,1999:
- --------------------------
Allowance for doubtful accounts $ 10,000 $ 31,268 $ 4,567 $ 36,701
Inventory reserves 2,456,800 2,245,600 983,600 3,718,800
Year ended September 27,1998:
- -----------------------------
Allowance for doubtful accounts $ 10,000 $ - $ - $ 10,000
Inventory reserves 2,184,800 1,306,700 1,034,700 2,456,800
Year ended September 28, 1997:
- ------------------------------
Allowance for doubtful accounts $ 10,000 $ - $ - $ 10,000
Inventory reserves 2,043,700 1,156,100 1,015,000 2,184,800
</TABLE>
22
<PAGE>
EXHIBIT 13
Irvine Sensors Corporation
Financial Highlights
Fiscal Year Ended
<TABLE>
<CAPTION>
October 3, September 27, September 28, September 29, October 1,
1999 1998 1997 1996 1995
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Revenues $ 11,100,200 $ 9,314,500 $ 13,693,200 $ 12,024,200 $ 8,041,400
===============================================================================
Loss from operations $ (9,785,700) $ (5,798,200) $ (14,809,200) $ (11,154,700) $ (3,071,500)
===============================================================================
Net Loss $ (9,115,700) $ (4,243,500) $ (14,875,600) $ (15,914,700) $ (4,137,500)
===============================================================================
Basic and diluted net loss per common
and common equivalent share $ (0.29) $ (0.19) $ (0.73) $ (0.94) $ (0.28)
===============================================================================
Weighted average number of
shares outstanding 31,244,300 24,597,700 20,475,100 16,874,300 14,966,500
===============================================================================
Long-term debt $ 433,200 $ 933,700 $ 1,207,000 $ 3,165,600 $ 201,200
===============================================================================
Convertible debt $ - $ - $ 250,000 $ 3,400,000 $ 2,250,000
===============================================================================
Total assets $ 10,510,350 $ 7,064,700 $ 9,449,300 $ 21,742,200 $ 15,609,200
===============================================================================
</TABLE>
Price Range of Common Stock
The following table sets forth the range of representative high and low bid
prices of the Company's common stock in the over-the-counter market for the
periods indicated, as furnished by The Nasdaq Stock Market. These prices
represent prices among dealers, do not include retail markups, markdowns or
commissions, and may not represent actual transactions:
Fiscal Year Ended
<TABLE>
<CAPTION>
October 3, 1999 September 27, 1998
High Low High Low
Common Stock Bid Prices
<S> <C> <C> <C> <C>
First Quarter $1 15/16 $1 31/32 $1 1/32 $1
Second Quarter $1 21/32 $1 5/16 $2 21/32 $2 19/32
Third Quarter $2 $1 7/16 $2 1/32 $2
Fourth Quarter $1 27/32 $1 7/32 $2 29/32 $1 11/32
</TABLE>
On December 22, 1999, there were 885 stockholders of record and approximately
9,000 beneficial holders, based on information provided by the Company's
transfer agent.
The Company has not paid cash dividends on any class of its stock since its
incorporation; under Delaware law there are certain restrictions, which limit
the Company's ability to pay cash dividends in the future.
<PAGE>
Irvine Sensors Corporation
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Results of Operations
FISCAL YEAR ENDED OCTOBER 3, 1999 vs.
FISCAL YEAR ENDED SEPTEMBER 27, 1998
Consolidated revenues in fiscal 1999 of $11,100,200 increased by $1,785,700 or
19 percent compared to fiscal 1998. The primary reason for this increase is the
increased sales realized by Novalog.
Cost of contract revenues of $3,163,200 was 78 percent of contract revenues, an
improvement from the 86 percent figure of fiscal 1998. This improvement was
primarily due to attempts made to reduce cost of operations during fiscal 1999.
Cost of product sales was $5,197,600 or approximately 74 percent of product
sales in fiscal 1999. By comparison, fiscal 1998 cost of product sales was 85
percent of product sales, reflecting final shutdown costs of the Vermont
facility, which did not recur in fiscal 1999. Additionally, the Company
realized better product margins due to the increase in sales volume.
General and administrative expenses of $6,997,100 increased by $3,506,700 or 100
percent in relation to fiscal 1998, largely as a result of the growth in the
Company's consolidated subsidiaries. As a percentage of total revenues, general
and administrative expenses were approximately 63 percent in fiscal 1999
compared to 37 percent in fiscal 1998, again reflecting the substantial fiscal
1999 increase in expenses of the Company's subsidiaries, two of which generated
no revenues.
Research and Development increased to $5,528,000 in fiscal 1999, a growth of
$1,399,600 or 34 percent in the year-to-year comparison. The growth was due to
the product development expenses of the MicroSensors and Silicon Film
consolidated subsidiaries. As a percentage of revenues, R&D accounted for
approximately 49 percent in fiscal 1999 compared to approximately 44 percent in
fiscal 1998, with the product development expenses of MicroSensors and Silicon
Film accounting for the difference, without corresponding revenues.
The aggregate increase of $5,773,200 in fiscal 1999 of operating costs and
expenses are the direct result of management's decision to further implement the
Company's strategy to develop, market and sell commercial products through its
subsidiaries.
Interest expense declined by $161,900 in fiscal 1999 due to final retirement of
debt associated with the Vermont facility in fiscal 1998, which did not recur in
fiscal 1999.
Interest income increased by $26,100 in fiscal 1999 due to the short-term
investment of proceeds from the Company's equity offerings.
The consolidated net loss of $9,115,700 in fiscal 1999 was $4,872,200, or 115
percent greater than fiscal 1998. The increased net loss of the MicroSensors
and Silicon Film subsidiaries accounted for over 88 percent of this increase.
<PAGE>
FISCAL YEAR ENDED SEPTEMBER 27, 1998 vs.
FISCAL YEAR ENDED SEPTEMBER 28, 1997
Revenues in fiscal 1998 of $9,314,500 decreased by $4,378,700 or 32 percent
compared to fiscal 1997. The primary reason for this decrease is attributed to
the closure of the Vermont facility. The decision to close the Vermont location
was centered on lower revenue and the continued increased cost of operations.
When considering corporate revenues generated by excluding the Vermont location,
fiscal 1998 revenues of $9,314,500 increased by $2,709,800 or approximately 41
percent.
Cost of contract revenues of $5,711,700 was 86 percent of contract revenues
compared to 94 percent in fiscal 1997. Cost of product sales of $1,942,200 or
85 percent of product sales includes the final shutdown costs related to the
Vermont facility. By comparison, in fiscal 1997 cost of product sales was 150
percent of product sales. Management is continuing to address the high product
costs and believes that gross margins will improve as sales increase and the
effect of implemented cost reductions is realized.
General and administrative expenses of $3,490,400 were decreased by $231,600 or
6 percent in relation to fiscal 1997. As a percentage of total revenues general
and administrative expenses were 37 percent in fiscal 1998 compared to 27
percent in fiscal 1997. However, fiscal 1997 included revenues from the Vermont
facility.
Research and development expenses increased by $2,511,800 or 155 percent in the
year-to-year comparison. The growth was due to the product development expenses
of the MicroSensors and Silicon Film consolidated subsidiaries. As a percentage
of revenues R&D accounted for approximately 44 percent in fiscal 1998 compared
to approximately 12 percent in fiscal 1997. The R&D expense in fiscal 1998
includes significant costs associated with Silicon Film's development of the
electronic film product.
The aggregate decrease of $7,356,300 in fiscal 1998 in cost of revenues,
general and administrative expenses and R&D are the direct result of
management's decision to streamline and control its expenses to fall in line
with the reduced revenue from the Vermont plant closing.
Interest expense declined by $177,400 in fiscal 1998, primarily attributable to
settlement of the Company's bank debt.
Interest income declined by $26,800 in fiscal 1998, primarily attributable to
lower interest rates and the debt pay-off associated with the Vermont facility.
The net loss of $4,243,500 in fiscal 1998 was $10,632,100 or 71 percent less
than fiscal 1997. The Vermont plant closing in fiscal 1997 accounted for
$5,873,400 or 55 percent of this reduced loss.
<PAGE>
Liquidity, Capital Resources and Impact of Changing Prices
At October 3, 1999, the Company had consolidated cash and cash equivalents of
$981,100, which represents a decrease of $329,300 since September 27, 1998. The
net cash used in operating activities was $7,704,000 during fiscal 1999. The
primary use of cash was to fund the research and development and other operating
expenses of its MicroSensors and Silicon Film subsidiaries.
The Company used $1,530,600 in investing activities during fiscal 1999. Cash
used in investing activities primarily consisted of acquiring property, plant
and equipment for $1,453,400. The Company also entered into capital lease
agreements to acquire an additional $780,300 of equipment.
During fiscal 1999, the Company obtained net cash of $8,905,300 from financing
activities. Cash provided by financing activities included $6,439,400 from the
issuance of common and preferred stock and common stock warrants, and $2,661,100
from the sale of common and preferred stock in subsidiaries to minority interest
shareholders. Net cash provided by equity and minority interest transactions
was reduced by principal payments for capital leases payable of $195,200.
Subsequent to year-end, the Company collected $600,000 for the sale of 444,444
additional shares of the Company's common stock.
As a result of equity financing in fiscal 1999, the further development
activities of MicroSensors and Silicon Film were accomplished while limiting the
net reduction of the Company's working capital to $1,241,150. The Company
anticipates that the existing working capital and its projected operating
results will meet its cash requirements for the immediate future.
Contracts with government agencies may be suspended or terminated by the
government at any time, subject to certain conditions. Similar termination
provisions are typically included in agreements with prime contractors. Since
its inception, the Company has experienced such termination of its contracts on
two occasions. There is no assurance the Company will not experience suspensions
or terminations in the future. Such termination, if material, could cause a
disruption of the Company's revenue stream and could result in employee layoffs.
At October 3, 1999, the Company's funded backlog was approximately $3,928,900
compared to $ 1,897,800 at September 27, 1998. In addition, existing contracts
include a large amount of unfunded backlog, which typically is funded when the
previously funded amounts have been expended. Subsequent to fiscal year end the
total backlog was $3,041,600 as of December 15, 1999.
Except for historical information contained herein, this Report contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The forward-
looking statements contained herein are subject to certain risks and
uncertainties, including such factors, among others, as the pace at which new
markets develop, the ability of the Company to introduce new products and ramp
up manufacturing in a timely manner while controlling its operating expenses and
the response of competitors, many of whom are bigger and better financed than
the Company. In addition, the scope of the Company's growth plan may introduce
unanticipated risks and financial requirements. The availability of external
financing for the Company's plan cannot be assured and is subject to numerous
factors including those unrelated to the Company's performance such as economic
and market conditions. Further, the Company's financial performance prior to
substantial growth in revenues may not permit additional equity financing and
may place at risk the continuation of its long-term debt financing because of
inability to achieve financial covenants. Accordingly, investors are advised to
assess forward-looking statements contained herein with caution. Additional
information on various risks and uncertainties potentially affecting the
Company's results are contained in publicly filed disclosures available through
the Securities and Exchange Commission EDGAR database (http://www.sec.gov) or
from the Company's Investor Relations.
<PAGE>
Irvine Sensors Corporation
Consolidated Balance Sheets
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
-----------------------------------
<S> <C> <C>
Assets
Current Assets:
Cash and cash equivalents $ 981,100 $ 1,310,400
Accounts receivable, net of allowances
of $36,700 in 1999 and $10,000 in 1998 2,401,500 1,766,100
Stock subscriptions receivable 600,000 -
Inventory 2,219,800 1,532,700
Other current assets 438,450 193,500
-----------------------------------
Total current assets 6,640,850 4,802,700
Equipment, furniture and fixtures, net 3,546,900 2,224,000
Goodwill 171,600 -
Other assets 151,000 38,000
-----------------------------------
$ 10,510,350 $ 7,064,700
===================================
Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ 3,310,800 $ 1,570,800
Accrued expenses 752,600 622,400
Deferred revenues - 50,000
Deferred and subordinated royalties payable - 1,000,000 -
affiliated company
Capital lease obligations - current portion 311,900 52,800
-----------------------------------
Total current liabilities 5,375,300 2,296,000
Capital lease obligations 433,200 107,500
Deferred and subordinated royalties payable - affiliated
company - 826,200
Minority interest in consolidated subsidiaries 2,489,200 1,488,000
-----------------------------------
Total liabilities 8,297,700 4,717,700
Shareholders' Equity:
Preferred stock, $0.01 par value, 500,000 shares authorized;
6,400 and 6,966 shares Series B Convertible Cumulative
Preferred outstanding; aggregate liquidation preference
of $95,600 50 50
3,500 and 3,964 shares Series C Convertible Cumulative
Preferred outstanding; aggregate liquidation preference
of $105,840 50 50
2,400 and 4,400 shares Series D Convertible Preferred
outstanding; aggregate liquidation preference of $240,000 50 50
Common stock, $0.01 par value, 40,000,000 shares authorized;
35,035,100 and 28,457,700 shares issued and outstanding 350,300 284,600
Common stock warrants and unit warrants; 147,000 and
162,000 outstanding - -
Paid-in capital (including common stock subscribed) 64,796,500 55,885,250
Accumulated deficit (62,938,700) (53,823,000)
-----------------------------------
Total shareholders' equity 2,212,650 2,347,000
-----------------------------------
$ 10,510,350 $ 7,064,700
===================================
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
<PAGE>
Irvine Sensors Corporation
Consolidated Statements of Operations
<TABLE>
<CAPTION>
Fiscal Year Ended
-----------------------------------------------------------------
October 3, September 27, September 28,
1999 1998 1997
-----------------------------------------------------------------
<S> <C> <C> <C>
Revenues:
Product sales $ 7,017,900 $ 2,289,800 $ 7,872,100
Contract research & development 4,080,700 6,624,700 5,821,100
Other 1,600 400,000 -
-----------------------------------------------------------------
Total revenues 11,100,200 9,314,500 13,693,200
-----------------------------------------------------------------
Cost and expenses:
Cost of contract revenues 3,163,200 5,711,700 5,455,200
Cost of product sales 5,197,600 1,942,200 11,835,200
General and administrative 6,997,100 3,490,400 3,722,000
Research and development 5,528,000 4,128,400 1,616,600
(Gain) loss related to plant closure - (160,000) 5,873,400
-----------------------------------------------------------------
20,885,900 15,112,700 28,502,400
-----------------------------------------------------------------
Loss from operations (9,785,700) (5,798,200) (14,809,200)
Interest expense (104,300) (266,200) (443,600)
Interest income 38,600 12,500 39,300
Other - 299,700 -
-----------------------------------------------------------------
Loss before minority interest
and provision for income taxes (9,851,400) (5,752,200) (15,213,500)
Minority interest in loss of subsidiaries 738,500 365,200 340,500
Provision for income taxes (2,800) (2,600) (2,600)
-----------------------------------------------------------------
Loss before extraordinary item (9,115,700) (5,389,600) (14,875,600)
Extraordinary item - debt extinguishment - 1,146,100 -
-----------------------------------------------------------------
Net loss $ (9,115,700) $ (4,243,500) $ (14,875,600)
=================================================================
Basic and Diluted Loss Per Share :
Loss before extraordinary item $ (0.29) $ $(0.24) $ $(0.73)
Extraordinary item - 0.05 -
-----------------------------------------------------------------
Net loss $ (0.29) $ $(0.19) $ $(0.73)
=================================================================
Weighted average number
of shares outstanding 31,244,300 24,597,700 20,475,100
=================================================================
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
<PAGE>
Irvine Sensors Corporation
Consolidated Statement of Shareholders' Equity (Deficit)
<TABLE>
<CAPTION>
Common Stock Common Stock Preferred
Shares Issued Warrants Issued Shares Issued
------------- --------------- ------------- Paid-in Accumulated Shareholders'
Number Amount Number Amount Number Amount Capital Deficit Equity (Deficit)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
--------------------------------------------------------------------------------------------------------
Balance at
September 29, 1996 18,710,000 $187,100 239,200 $ - 14,000 $ 100 $42,829,400 $(34,703,900) $ 8,312,700
--------------------------------------------------------------------------------------------------------
Common stock issued to
employee retirement plan 347,600 3,500 - - - - 442,000 - 445,500
Convertible debentures
converted to common stock 2,441,400 24,400 - - - - 3,125,600 - 3,150,000
Series B and Series C
preferred stock converted
to common stock 12,600 100 - - (250) - (100) - -
Sale of common stock 22,200 200 - - - - 19,800 - 20,000
Common stock bonus issued 7,500 100 - - - - 7,400 - 7,500
Common stock warrants
issued - - 118,000 - - - - - -
Common stock warrants
expired - - (17,200) - - - - - -
Net loss - - - - - - - (14,875,600) (14,875,600)
--------------------------------------------------------------------------------------------------------
Balance at
September 28, 1997 21,541,300 $215,400 340,000 $ - 13,750 $ 100 $46,424,100 $(49,579,500) $ (2,939,900)
--------------------------------------------------------------------------------------------------------
Common stock issued to
employee retirement plan 333,300 3,400 - - - - 496,600 - 500,000
Convertible debentures
converted to common stock 100,000 1,000 - - - - 249,000 - 250,000
Series B and Series C
preferred stock converted
to common stock 140,900 1,400 - - (2,800) - (1,400) - -
Common stock issued to
retire liabilities 487,800 4,900 - - - - 753,200 - 758,100
Sale of common stock and
common stock units 2,091,700 20,900 - - - - 3,712,900 - 3,733,800
Stock options exercised 8,200 100 - - - - (100) - -
Common stock
warrants issued - - 116,200 - - - 303,900 - 303,900
Common stock
warrants exercised 294,200 2,900 (294,200) - - - 274,100 - 277,000
Series D preferred
units sold - - - - 37,750 400 3,283,700 - 3,284,100
Series D preferred
units converted 3,460,300 34,600 - - (33,350) (350) (34,250) - -
Preferred stock of
dissolved subsidiary - - - - - - 118,500 - 118,500
Capital contributed
by ATPL - - - - - - 305,000 - 305,000
Net loss - - - - - - - (4,243,500) (4,243,500)
--------------------------------------------------------------------------------------------------------
Balance at
September 27, 1998 28,457,700 $284,600 162,000 $ - 15,350 $ 150 $55,885,250 $(53,823,000) $ 2,347,000
--------------------------------------------------------------------------------------------------------
Common stock issued to
employee retirement plan 330,000 3,300 - - - - 496,900 - 500,200
Series B and Series C
preferred stock converted
to common stock 51,500 500 - - (1,050) - (500) - -
Series D preferred units
converted 206,100 2,000 - - (2,000) - 163,500 - 165,500
Common stock issued
to retire liabilities 190,000 1,900 - - - - 280,600 - 282,500
Common stock issued
to purchase shares of
subsidiaries 1,127,500 11,300 - - - - 1,147,950 - 1,159,250
Sale of common stock
and common stock units 4,536,400 45,400 - - - - 6,077,700 - 6,123,100
Common stock subscribed,
444,400 shares - - - - - - 600,000 - 600,000
Common stock options
exercised 120,900 1,200 - - - - 131,200 - 132,400
Common stock warrants
exercised 15,000 100 (15,000) - - - 13,900 - 14,000
Net loss - - - - - - - (9,115,700) (9,115,700)
------------------------------------------------------------------------------------------------------------
Balance at
October 3, 1999 35,035,100 $350,300 147,000 - $ 12,300 $ 150 $64,796,500 $(62,938,700) $ 2,212,650
=============================================================================================================
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
<PAGE>
Irvine Sensors Corporation
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Fiscal Year Ended
-----------------------------------------------------------------------
October 3, September 27, September 28,
1999 1998 1997
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss $(9,115,700) $(4,243,500) $(14,875,600)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation $ 911,450 $ 1,546,700 $ 2,994,500
(Gain) loss on disposal of equipment - (309,700) 5,873,400
Non-cash employee retirement plan
contribution 500,200 500,000 445,500
Minority interest in net loss of
subsidiaries (738,500) (365,200) -
Extraordinary gain - (1,146,100) -
Common stock issued to pay
operating expenses 380,800 (261,700) -
(Increase) decrease in accounts
receivable (635,400) (528,400) 1,786,200
(Increase) decrease in inventory (687,100) 1,044,600 1,809,400
(Increase) decrease in other current
assets (280,750) 989,400 (899,300)
(Increase) decrease in other assets - (1,700) 151,000
Increase (decrease) in accounts
payable and accrued expenses 1,837,200 (1,454,500) 1,463,300
(Decrease) in deferred revenues (50,000) (56,100) (2,276,500)
Increase in royalties accrued-
affiliated company 173,800 212,400 258,100
----------- ----------- -----------
Total adjustments 1,411,700 169,700 11,605,600
---------- ----------- ----------
Net cash used in operating
activities (7,704,000) (4,073,800) (3,270,000)
Cash flows from investing activities:
Capital facilities and equipment
expenditures (1,453,400) (390,800) (1,113,400)
Proceeds from refund on
equipment purchase - - 324,500
Proceeds from sale of equipment - 149,700 1,051,900
Acquisition of intangible assets (77,200) - -
Net cash (used in) provided
by investing activities (1,530,600) (241,100) 263,000
Cash flows from financing activities:
Proceeds from issuance of
common and preferred stock and
common stock warrants 6,439,400 5,063,100 27,500
Sale of minority interest in
subsidiary 2,661,100 - 2,918,100
Proceeds from stock sale by bank - 954,800 -
Contributed capital by ATPL - 305,000 -
Principal payments of notes payable and
capital leases (195,200) (2,336,900) (253,300)
----------- ----------- -----------
Net cash provided by financing
activities 8,905,300 3,986,000 2,692,300
--------- ----------- ----------
Net decrease in cash and
cash equivalents (329,300) (328,900) (314,700)
Cash and cash equivalents
at beginning of period 1,310,400 1,639,300 1,954,000
---------- ----------- -----------
Cash and cash equivalents at end of period $ 981,100 $ 1,310,400 $ 1,639,300
========== =========== ===========
Noncash investing and financing activities:
Principal payment of note payable by
issuance of common stock $ - $ 500,000 $ -
========== =========== ===========
Conversion of debentures
to common stock $ - $ 250,000 $ 3,150,000
Conversion of preferred ========== =========== ===========
stock to common stock $ 500 $ 34,600 $ -
========== =========== ===========
Exchange of subsidiary stock $ 987,650 $ 1,564,900 $ -
========== =========== ===========
Equipment financed with
capital leases $ 780,300 $ 170,000 $ -
========== =========== ===========
Paid-in capital from
dissolution of subsidiary $ $ 118,500 $ -
========== =========== ===========
Stock issued in exchange
for shares in subsidiary $ 171,600 $ - $ -
========== =========== ===========
Stock sold on a subscription basis $ 600,000 $ - $ -
========== =========== ===========
Costs of financing paid with
options in subsidiaries $ 38,500 $ - $ -
========== =========== ===========
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
<PAGE>
Irvine Sensors Corporation
Notes to Consolidated Financial Statements
Note 1 - Summary of Significant Accounting Policies
CONSOLIDATION
The consolidated financial statements include the accounts of Irvine Sensors
Corporation (the Company) and its subsidiaries, Novalog, Inc. ("Novalog"),
MicroSensors, Inc. ("MSI"), 3D Microelectronics, Inc., 3D MicroSystems, Inc.,
and Silicon Film Technologies, Inc. ("Silicon Film") (formerly Imagek, Inc.).
Carson Alexiou Corporation ("CAC"), a former subsidiary of the Company, was
dissolved in fiscal 1998. All significant intercompany transactions and balances
have been eliminated in consolidation.
FISCAL YEAR
The Company's fiscal year ends on the Sunday nearest September 30. Fiscal 1999
(53 weeks) ended on October 3, 1999, fiscal 1998 (52 weeks) ended on September
27, 1998, and fiscal 1997 (52 weeks) ended on September 28, 1997.
USE OF ESTIMATES
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates. The
Company believes its estimates of inventory reserves and estimated costs to
complete on contracts to be the most sensitive estimates impacting financial
position and results of operations in the near term.
REVENUES
The Company's revenues were derived from shipments of functional memory stacks,
shipments of the SIRComm(TM) infrared chip and the development and manufacture
of prototype and sample products for its customers. The Company continues to
contract to develop prototypes and provide research, development, design,
testing and evaluation of complex detection and control defense systems. The
Company's R&D contracts are usually cost plus fixed fee (best effort) or fixed
price and revenues are recognized as costs are incurred and include applicable
fees or profits primarily in the proportion that costs incurred bear to
estimated final costs. Production orders for memory stacks and SIRComm chips are
generally priced in accordance with the Company's established price list. The
Novalog, MSI and Silicon Film subsidiaries are product-oriented companies with
sales primarily to OEM manufacturers and revenues are recorded when products are
shipped.
The Company provides for anticipated losses on contracts by a charge to income
during the period in which they are first identified. Unbilled accounts
receivable are stated at estimated realizable value.
United States government contract costs, including indirect costs, are subject
to audit and adjustment by negotiations between the Company and government
representatives. Indirect contract costs have been agreed upon through fiscal
1997. Contract revenues have been recorded in amounts that are expected to be
realized upon final settlement.
Other revenues in fiscal 1998 were derived from sale of intellectual property to
ATPL. (See Note 7 - Related Party Transactions.)
RESEARCH AND DEVELOPMENT COSTS
A major portion of the Company's operations is comprised of customer-funded
research and prototype development or related activities. The Company also
incurs costs for research and development of new concepts in proprietary
products. Such costs are charged to expense as incurred.
INVENTORY
Inventory is valued at the lower of cost or market. Cost is determined by the
first-in, first-out (FIFO) basis. Inventories are reviewed quarterly to
determine salability and obsolescence. A reserve is established for slow moving
and obsolete items.
EQUIPMENT, FURNITURE AND FIXTURES
The Company capitalizes costs of additions to equipment, furniture and fixtures,
together with major renewals and betterments. In addition, the Company
capitalizes overhead and general and administrative costs for all in-house
capital projects. Maintenance, repairs, and minor renewals and betterments are
charged to expense. When assets are sold or otherwise disposed of, the cost and
related accumulated depreciation are removed from the accounts and any resulting
gain or loss is recognized.
Depreciation of equipment, furniture and fixtures is provided over the estimated
useful lives of the assets, primarily using the straight-line method. The useful
lives are three to seven years. Leasehold improvements are amortized over the
terms of the leases.
<PAGE>
INTANGIBLE ASSETS
The excess of total acquisition cost over the fair value of net assets acquired
(goodwill) is being amortized on a straight-line basis over 15 years. The
Company reviews the carrying value of goodwill for impairment whenever events or
changes in circumstances indicate that the carrying amount may not be
recoverable. Other acquired intangibles are being amortized on a straight-line
basis over their estimated useful lives of 3 years.
INCOME TAXES
Deferred tax assets and liabilities are recorded for differences between the
financial statement and tax basis of the assets and liabilities that will result
in taxable or deductible amounts in the future based on enacted tax laws and
rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are established when necessary to reduce
deferred tax assets to the amount expected to be realized. Income tax expense is
recorded for the amount of income tax payable or refundable for the period
increased or decreased by the change in deferred tax assets and liabilities
during the period.
BASIC AND DILUTED NET LOSS PER SHARE
Basic net loss per share is based upon the weighted average number of common
shares outstanding. Diluted net loss per share is based on the assumption that
options, warrants, and convertible preferred stock are included in the
calculation of diluted earnings per share, except when their effect would be
anti-dilutive. Dilution is computed by applying the treasury stock method. Under
this method, options and warrants are assumed to be exercised at the beginning
of the period (or at the time of issuance, if later), and as if funds obtained
thereby were used to purchase common stock at the average market price during
the period.
STATEMENTS OF FINANCIAL ACCOUNTING STANDARDS ADOPTED
In fiscal 1999, the Company adopted SFAS No. 131, "Disclosures About Segments of
an Enterprise and Related Information." SFAS No. 131 revised standards for the
way that a public enterprise reports information about key revenue producing
segments in the annual financial statements and selected information in interim
financial reports. It also establishes standards for related disclosures about
products and services, geographic areas and major customers. All periods
presented have been restated in accordance with this pronouncement. See Note 17
- - Reportable Segments.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards 133, "Accounting for Derivative Instruments and
Hedging Activities" (SFAS 133). SFAS 133 is required to be adopted for fiscal
years beginning after June 15, 1999. Management does not expect the adoption of
SFAS 133 to have a significant effect on earnings or the financial position of
the Company.
In April 1998, the American Institute of Certified Public Accountants' (AICPA)
issued SOP 98-5, "Reporting on the Costs of Start-up Activities" (SOP 98-5).
SOP 98-5 is required to be adopted for fiscal years beginning after December 15,
1998. Management does not expect the adoption of SOP 98-5 to have a significant
effect on earnings or the financial position of the Company.
STATEMENTS OF CASH FLOWS
For purposes of the Consolidated Statements of Cash Flows, the Company considers
all demand deposits and Certificates of Deposit with original maturities of 90
days or less to be cash equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reported in the balance sheets for cash and cash
equivalents, accounts receivable and payable, other liabilities and debt
approximate fair value. The fair value of royalties payable to affiliate is not
determinable due to their related party nature.
CONCENTRATION OF CREDIT RISK
The Company has cash deposits at U.S. banks and financial institutions, which
exceed federally insured limits at October 3,1999. The Company is exposed to
credit loss for amounts in excess of insured limits in the event of non-
performance by the institution; however, the Company does not anticipate non-
performance.
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company accounts for stock-based employee compensation as prescribed by APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and has adopted the
disclosure provisions of Statement of Financial Accounting Standards 123,
"Accounting for Stock-based Compensation" ("SFAS 123"). SFAS 123 requires pro
forma disclosures of net income and net income per share as if the fair value
based method of accounting for stock-based awards had been applied. Under the
fair value based method, compensation cost is recorded based on the value of the
award at the grant date and is recognized over the service period.
RECLASSIFICATIONS
Certain reclassifications have been made to the 1998 and 1997 fiscal year
financial statements to conform to the current year presentation.
<PAGE>
Note 2 - Issuance of Common and Preferred Stock
In a private financing during February and March 1996, the Company issued $11.1
million of 8 percent convertible subordinated debentures due in 1998 (the "1996
Debentures") to institutional and private investors in Canada and Europe. The
1996 Debentures were convertible into shares of common stock at varying rates
which were contingent upon the closing bid prices of the common stock. The
Company had the right to demand conversion of the 1996 Debentures at any time
after March 1997. Interest was payable semiannually on January 31 and July 31 of
each year. The gross proceeds less expenses were added to the Company's general
funds.
During fiscal 1997, the Company, at the request of bondholders, converted
$3,150,000 of the outstanding 1996 Debentures at varying rates into 2,441,400
shares of the Company's common stock. With these conversions, all but $250,000
of the original issue of $11.1 million of the 1996 Debentures was retired. In
May 1996, the Company had registered the resale of 2,997,000 shares of common
stock which the Company then believed would be sufficient to cover the
conversion of the entire $11.1 million series of 1996 Debentures and related
warrants, which had been issued in February and March 1996. However, due to the
decline in the price of the Company's common stock, the number of shares issued
upon conversion of all the Debentures, exceeded the number of shares previously
registered. In January 1998 the Company filed a registration statement which
included the resale of 1,114,810 unregistered shares issued upon conversion of
the 1996 Debentures. The Securities and Exchange Commission declared this
registration effective in April 1998.
In fiscal 1998, the Company forced conversion of the remaining $250,000 of
outstanding 8 percent Convertible Subordinated Debentures into 100,000 shares of
the Company's common stock. The common shares underlying the convertible
debentures were included in the Company's January 1998 registration statement.
In connection with settlement of bank debt, the Company issued 550,000
unregistered shares of common stock in December 1997. (See Note 10 -
Extraordinary Item - Debt Extinguishment.)
The Company began the sale of Series D Convertible Preferred Stock Units in a
private placement to certain accredited investors in December 1997 and continued
to accept subscriptions thereto through January 2, 1998, at which time, the
Company sold an additional 24,750 Units. The Company issued an aggregate of
37,750 Units at a price of $100.00 per Unit and the net proceeds of $3,284,100
from the sale of these securities were added to the Company's general funds.
The Series D Convertible Preferred Stock Units consist of one share of
Convertible Preferred Stock, plus one five-year Warrant to purchase one share of
common stock of Novalog, Inc., a subsidiary of the Company, and one five-year
Warrant to purchase one share of common stock of MSI, a wholly-owned subsidiary
of the Company (see Note 5). Each share of Convertible Preferred Stock is
convertible into common stock of the Company at the rate of 100 shares of common
stock for each share of Preferred D, subject to adjustment for stock splits,
reverse stock splits and other similar recapitalization events. The Preferred D
shares have no voting rights, except as required by law, and bear no dividends.
(See Note 17 for calculation of beneficial conversion and imputed dividend
resulting from issuance of Series D Convertible Preferred Stock.) The common
shares underlying the Preferred D shares were included in the April 1998
registration statement. In connection with this private placement of 37,750
units, the Company granted to the placement agent a warrant to purchase up to
3,775 units of Series D Convertible Preferred Stock units at a price of $110 per
unit which was 110 percent of the private placement price of the Units. The
warrant is exercisable during the period beginning the earlier of one year from
January 2, 1998 or the date of registration and expiring on January 2, 2003. The
placement agent exercised warrants to purchase 500 units in May 1998 and 1,000
units in the period between October and December 1998. Additional warrants to
purchase 500 units were exercised in March 1999. All of the proceeds were added
to the Company's general funds.
As of October 3, 1999, at the request of the holders thereof, a total of 35,350
shares of Series D Convertible Preferred Stock Units have been converted into
3,666,400 shares of common stock.
In January 1998, the Board of Directors authorized a contribution to the
Employee Stock Bonus Plan (the Company's ERISA-qualified Employee Retirement
Plan). The amount represents an annual contribution for fiscal year 1998 and was
made in 333,334 shares of the Company's common stock, which have been issued to
the Plan.
In January 1998, the Company sold 125,000 Common Stock Units to investors in a
private placement. Each Common Stock Unit consists of one share of common stock
of the Company, plus one five-year Warrant to purchase one share of common stock
of Novalog, Inc., a subsidiary of the Company, and one five-year Warrant to
purchase one share of common stock of MicroSensors, Inc., a wholly-owned
subsidiary of the Company. The proceeds of $125,000 from these transactions were
added to the Company's general funds.
In January 1998, a warrant holder exercised outstanding warrants to purchase
222,000 shares of common stock at a price of $1.00 per share. The proceeds from
this warrant exercise have been added to the Company's general funds.
In April 1998, the Company issued, in a private placement to accredited
investors, 700,000 unregistered shares of the Company's common stock. The net
proceeds of $980,000 from this private placement have been added to the
Company's general funds.
<PAGE>
In August 1998, holders of 1,128,000 shares of common stock of Novalog exercised
warrants to exchange these shares for 905,000 unregistered shares of common
stock of the Company resulting in an increase of $1,564,900 in total
shareholders' equity and a corresponding decrease in minority interest in
consolidated subsidiary.
In fiscal 1998, distribution of vested benefits was made from the Company's
Employee Retirement Plan to former employees. Subsequently, 1,819 shares of
Series B and 1,010 shares of Series C Convertible Preferred stock were
surrendered for conversion into 140,900 shares of common stock. The converted
Preferred shares have been retired.
In December 1998, the Board of Directors authorized a contribution to the
Employee Stock Bonus Plan (the Company's ERISA-qualified Employee Retirement
Plan). The amount represents an annual contribution for fiscal year 1999 and was
made in 330,000 shares of the Company's common stock, which have been issued to
the Plan.
During fiscal 1999, the Company sold 4,980,800 shares of unregistered common
stock of the Company to accredited investors in connection with a series of
private placement offerings. Included in these offerings was the sale of
267,670 units, which consisted of two shares of unregistered common stock of the
Company, one two-year warrant to purchase one share of common stock of Silicon
Film owned by the Company and one three-year warrant to purchase one common
share of MSI owned by the Company. The net proceeds were $6,439,400.
During fiscal 1999, the Company issued 190,000 shares of unregistered common
stock of the Company to vendors and consultants in exchange for services
provided.
During fiscal 1999, holders of 120,900 common stock options exercised their
options to purchase unregistered common stock of the Company. The net proceeds
were $132,400.
During fiscal 1999, holders of 1,655,000 shares of common stock of Novalog
exchanged these shares for 1,017,500 unregistered shares of common stock of the
Company through warrant exercise and other means. These transactions resulted
in a decrease of $1,038,000 to the minority interest liability.
During fiscal 1999, the Company issued 110,000 shares of common stock of the
Company to an unrelated party in exchange for an ownership interest in ATPL, a
related party (See Note 7 - Related Party Transactions). The ownership interest
includes 127,500 shares of common stock of Silicon Film and rights to future
royalties under the ATPL license terms. The transaction resulted in recording
goodwill of $171,600 related to the acquisition of the common stock of Silicon
Film, and a net increase of $121,300 to shareholders' equity, which is net of
losses previously allocated to minority interest shareholders.
In October 1999, the Company filed a registration statement which included the
resale of 8,270,731 unregistered shares; this registration statement included
all previously unregistered shares that had been issued as of October 3, 1999.
The Securities and Exchange Commission declared this registration effective in
October 1999.
Note 3 - Common Stock Warrants
In connection with the sale of $11.1 million of the 1996 Debentures, the Company
granted warrants to the foreign investment banker to purchase up to 222,000
shares of common stock at a price to be determined based on the average
conversion prices of the 1996 Debentures. The warrants were exercised in fiscal
1998.
In fiscal 1997 the Company granted warrants, the value of which it believes to
be not material, to four consultants in varying amounts to purchase up to
118,000 shares of unregistered common stock at prices ranging from $0.9375 to
$1.50.
In fiscal 1998 the Company granted warrants, the value of which it believes to
be not material, to five former employees in varying amounts to purchase up to
44,000 shares of unregistered common stock at a price of $1.00.
Warrants to purchase 15,000 shares of common stock of the Company were exercised
in 1999; the proceeds were $14,000.
As of October 3, 1999, there are a total of 147,000 warrants outstanding of
which 74,000 expire in the year 2000 and 73,000 expire in the year 2002.
Note 4 - Series B and Series C Convertible Preferred Stocks
The Series B and Series C Convertible Cumulative Preferred Stocks, which were
originally issued to the Company's Employee Retirement Plan, each bear a 10
percent cumulative annual dividend, which under Delaware law may generally be
paid only out of (i) retained earnings or (ii) net profit in the current or
preceding fiscal year. To the extent that the dividends are not declared and
paid in any fiscal year, the obligation carries over to the next fiscal year.
These shares of Series B and Series C Convertible Cumulative Preferred Stocks
are not redeemable, carry a liquidation preference over the common stock of
$15.00 and $30.00, respectively, per share and are convertible, at the option of
the holder, into 50 shares of common stock for each share of Series B and Series
C Convertible Cumulative Preferred Stock, respectively. Distributions of vested
benefits made from the Plan to former employees and the subsequent surrender and
conversion into shares of common stock are as follows:
<PAGE>
<TABLE>
<CAPTION>
Preferred Stock Common
Series B Series C Stock
---------------------------------------------
<S> <C> <C> <C>
Distribution dates:
Fiscal 1997 50 200 12,600
Fiscal 1998 1,800 1,000 140,900
Fiscal 1999 500 500 51,500
---------------------------------------------
2,400 1,700 205,000
=============================================
</TABLE>
The shares of Preferred Series B and Series C tendered for conversion have been
retired. Undeclared dividends of $103,600 and $105,700 on the remaining
outstanding Preferred Series B and Series C, respectively, will be carried
forward to fiscal 2000.
Note 5 - Minority Interest in Subsidiaries
During fiscal 1999, Silicon Film sold 83,900 shares of its Series A Convertible
Preferred Stock (the "Series A Preferred") in a Private Placement. The Series A
Preferred bears no yield, has a priority in liquidation and is convertible into
common stock of Silicon Film, at the election of the holder, at the rate of 25
common shares (as adjusted for a price protection feature which was resolved by
Silicon Film's Board of Directors on October 19, 1998) for each 1 share of
Series A Preferred tendered for conversion. The net proceeds of $1,136,900 are
reflected in the consolidated cash position of the Company and increased
minority interest in consolidated subsidiaries.
During fiscal 1999, Silicon Film sold 143,400 and 150,000 shares of its Series B
Convertible Preferred Stock (the "Series B Preferred") to outsiders and to the
Company, respectively, in a series of Private Placements. The Series B Preferred
bears no yield, has a priority in liquidation and is convertible into common
stock of Silicon Film, at the election of the holder, at the rate of 16-2/3
common shares for each 1 share of Series B Preferred tendered for conversion.
The proceeds were $1,365,700, net of financing costs (includes $38,500 financing
costs satisfied with noncash sources) and purchases by the Company, and are
reflected in the consolidated cash position of the Company. The resulting
increase in minority interest in consolidated subsidiaries was $1,365,700.
Subsequent to October 3, 1999, Silicon film sold an additional 85,750 and 10,000
shares of its Series B Preferred Stock to outsiders and to ISC, respectively.
The net cash proceeds were $957,500.
During fiscal 1999, Silicon Film issued 85,000 options to purchase common shares
of Silicon Film's stock at exercise prices ranging from $0.60 to $1.00 in
exchange for various services. These transactions resulted in a net increase in
minority interest liability of $98,300.
During fiscal 1999, Silicon Film granted 3,311,500 options to employees,
officers and directors to purchase common shares of Silicon Film's stock. As of
October 3, 1999, there are 4,561,500 options outstanding, of which 466,700 are
exercisable.
As of October 3, 1999, Silicon Film has 720,000 warrants outstanding, all of
which are exercisable at prices ranging from $0.60 to $2.00.
The Company sold Series D Convertible Preferred Stock Units in a private
placement to certain accredited investors in December 1997 and January 1998 (See
Note 2 - Issuance of Common and Preferred Stock). During the second quarter of
fiscal 1999, holders of 125,000 shares of Series D Convertible Preferred Stock
Units exercised warrants attached to the Units to purchase 125,000 shares of
common stock of MSI. The net proceeds of $125,000 were added to the Company's
general funds and are reflected in the consolidated cash position of the
Company. The transaction resulted in an increase in minority interest in
consolidated subsidiaries of $125,000.
During fiscal 1999, MSI granted 815,500 options to employees, officers and
directors to purchase common shares of MSI's stock. As of October 3, 1999,
there are 1,636,500 options outstanding, of which 235,600 are exercisable.
During fiscal 1999, Novalog granted 625,000 options to employees, officers and
directors to purchase common shares of Novalog's stock. As of October 3, 1999,
there are 1,878,000 options outstanding, of which 797,200 are exercisable.
<PAGE>
Note 6 - Convertible Subordinated Debentures
In a private financing during February and March 1996, the Company issued $11.1
million of 8 percent convertible subordinated debentures due in 1998 (the "1996
Debentures") to institutional and private investors in Canada and Europe. The
1996 Debentures were convertible into shares of common stock at varying rates
which were contingent upon the closing bid prices of the common stock. The
Company had the right to demand conversion of the 1996 Debentures at any time
after March 1997. Interest was payable semiannually on January 31 and July 31 of
each year. The 1996 Debentures were subordinated to prior payment of bank
indebtedness of the Company. (See Note 2.)
During fiscal 1997, the Company, at the request of bondholders, converted
$3,150,000 of the outstanding 1996 Debentures at varying rates into 2,441,400
shares of the Company's common stock. With these conversions, all but $250,000
of the original issue of $11.1 million of the 1996 Debentures was retired. In
fiscal 1998, the Company forced the conversion of these remaining 1996
Debentures into 100,000 shares of common stock. In May 1996, the Company had
registered the resale of 2,997,000 shares of common stock which the Company then
believed would be sufficient to cover the conversion of the entire $11.1 million
series of 1996 Debentures and related warrants. However, due to the decline in
the price of the Company's common stock, the number of shares issued upon
conversion of all the Debentures, exceeded the number of shares previously
registered. In January 1998 the Company filed a registration statement which
included the resale of an additional 1,114,810 unregistered shares issued upon
conversion of the 1996 Debentures. The Securities and Exchange Commission
declared this registration effective in April 1998.
Note 7 - Related Party Transactions
In April 1980, the Company entered into an agreement with R & D Leasing Ltd.
("RDL"), a limited partnership in which the Company's Chairman of the Board and
a Senior Vice-President are general partners with beneficial interests, to
develop certain processes and technology related to chip stacking. The Company
has exclusively licensed this technology from RDL. The Company's exclusive
rights to the technology extend to all uses, both government and commercial.
Since entering into the licensing agreement, the Company has accrued royalty
obligations to RDL at the rate of 3.5 percent of all Company sales of chip
stacks using the licensed technology. In addition, RDL is entitled to receive an
amount equal to 7 percent of all royalties earned by the Company from sales of
any such products by the Company's sublicensees, although to date, no such
sublicensee royalty income has been earned. In October 1989, RDL agreed to defer
its royalty claims and subordinate them with respect to all other creditors in
exchange for options to purchase up to 1,000,000 shares of the Company's Common
Stock, which are exercisable by applying the deferred royalties to the purchase.
The 1,000,000 options are exercisable at $1.00 each until April 2000. If RDL
exercises its option in whole or in part, title to RDL's technology would
transfer to the Company and all further royalty obligations would cease. If the
option expires unexercised, the subordination provisions would terminate and the
accrued royalties would be due and payable in the same manner as any other
corporate obligation. As of October 3, 1999, the Company had accrued $1,000,000
in deferred royalties pursuant to this agreement. Due to the RDL subordination,
royalties accrued, but none were paid by the Company during fiscal years 1999,
1998 and 1997.
The Company has entered into an Assignment of Patent and Intellectual Rights
(the "Assignment") with F. L. Eide ("Eide"), a Vice-President of the Company. As
part of his employment agreement, Eide has assigned to the Company all rights
and interests to five (5) U.S. Provisional Patent applications owned by him. In
consideration for this Assignment, Eide will receive a 1 percent royalty on the
gross sales revenues of any products incorporating elements of the assigned
technology for the lifetime of any patents resulting from the Provisional Patent
Applications. This Assignment was executed in February 1998.
In October 1997, the Company entered a License Agreement with Itzhak Sapir.
Pursuant to which Sapir granted a royalty bearing exclusive, worldwide license
under various U.S. and foreign patents owned by Sapir relating to digital
photographic products, principally a product which allows an unmodified 35mm SLR
camera to capture digital images. In connection with the Technology Assignment
Agreement mentioned above, Silicon Film acquired all of the Company's rights
under the License Agreement, and Sapir entered into an agreement with Silicon
Film to such effect. In February 1999, Sapir became a senior mechanical engineer
at Silicon Film. Effective March 26, 1999, Silicon Film issued Sapir a warrant
(which vested in full upon issuance) to purchase 275,000 share of Silicon Film's
common stock at a price of $1.00 per share in exchange for a reduction in
Silicon Film's royalty obligation to Sapir under the License Agreement from
their original levels to 1.5% of all EFS sales.
During fiscal 1998, the Company entered into a sale and licensing of
intellectual property rights agreement covering the Company's Electronic Film
System(TM) ("EFS(TM)") to Advanced Technology Products, LLC ("ATPL"). The
Company's Senior Vice President and Chief Technical Officer, John C. Carson,
serves as Managing Member of ATPL. The Company was the successor to the licensed
rights and future royalty obligations under this agreement until September 1998,
when the Company granted Silicon Film a license to use the technology and
intellectual property rights of the Company that are necessary to Silicon Film's
business. Silicon Film has agreed to prospectively grant, upon the Company's
request, a license to the Company to access Silicon Film's technology and
intellectual property rights when necessary for the Company to participate in
government contracts. In September 1998, another agreement was consummated with
ATPL under which the future royalty obligation was reduced in consideration for
the issuance of 1,222,125 shares of Silicon Film common stock. No value was
recorded by Silicon Film as a result of this transaction due to the uncertainty
related to valuing either the consideration given or received in this exchange.
<PAGE>
Note 8 - Composition of Certain Financial Statement Captions
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
---------------------------------------
<S> <C> <C>
Accounts receivable:
U.S. government $ 1,115,000 $ 1,235,300
Other customers 1,286,400 530,800
----------------------------------------
$ 2,401,500 $ 1,766,100
========================================
</TABLE>
Accounts receivable include unbilled amounts of $452,600 and $886,200 at October
3, 1999 and September 27, 1998, respectively. Unbilled amounts represent
contract revenues for which billings have not been presented to customers at
year-end. These amounts are billed in accordance with applicable contract terms,
usually within 30 days. Accounts receivable also includes billed retentions of
$5,000 and $73,900 at October 3, 1999, and September 27, 1998, respectively.
These amounts are normally collected upon final audit of costs by the U.S.
government.
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
---------------------------------------
<S> <C> <C>
Inventory:
Raw materials $ 49,900 $ -
Work in process 1,995,500 1,435,400
Finished goods 174,400 97,300
---------------------------------------
$ 2,219,800 $ 1,532,700
=======================================
</TABLE>
Title to all inventories remains with the Company. Inventoried materials and
costs relate to work in process on customers' orders and on the Company's
generic module parts and memory stacks, which the Company anticipates it will
sell to customers including potential R&D contracts. Work in process includes
amounts that may be sold as products or under contracts. Such inventoried costs
are stated generally at the total of the direct production costs including
overhead. Inventory valuations do not include general and administrative
expenses. Inventories are reviewed quarterly to determine salability and
obsolescence. A reserve is established for slow moving and obsolete items.
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
---------------------------------------
<S> <C> <C>
Equipment, furniture and fixtures:
Engineering and production
equipment $ 7,415,100 $ 7,553,700
Furniture and fixtures 438,300 409,500
Construction in progress 866,500 -
Computer software programs 872,400 741,100
Leasehold improvements 808,800 777,000
---------------------------------------
10,401,100 9,481,300
Less accumulated depreciation
and amortization 6,854,200 7,257,300
---------------------------------------
$ 3,546,900 $ 2,224,000
========================================
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
---------------------------------------
<S> <C> <C>
Accrued expenses:
Salaries and wages $ 335,600 $ 211,000
Vacation 267,300 235,700
Payroll taxes 16,100 14,700
Accounting fees 21,000 50,000
Royalties 75,000 -
Other accrued expenses 37,600 111,000
---------------------------------------
$ 752,600 $ 622,400
=======================================
</TABLE>
Note 9 - Commitments and Contingencies
The Company leases certain facilities and equipment under cancelable and
noncancelable capital and operating leases. Minimum payments under capital lease
obligations and operating lease commitments existing at October 3, 1999 are as
follows:
<TABLE>
<CAPTION>
Capital Operating
Fiscal Year Leases Leases
- ----------- ------ ------
<S> <C> <C>
2000 $ 419,100 $ 605,200
2001 383,300 618,700
2002 125,600 217,600
2003 - 207,500
2004 - 122,600
Thereafter - -
------------ ------------
Future minimum lease payments 928,000 $ 1,771,600
============
Amounts representing interest (182,900)
------------
Present value of net
minimum lease payments $ 745,100
============
</TABLE>
Total rental expense for operating leases amounted to $525,900, $559,000 and
$1,685,200 for the fiscal years ended October 3, 1999, September 27, 1998, and
September 28, 1997, respectively.
Subsequent to October 3, 1999, Silicon Film obtained a revolving bank line of
credit in the amount of $500,000. Unpaid principal advances bear interest at
the bank's prime rate and are to be paid in full on April 1, 2000. The line of
credit is guaranteed by the Chairman of Silicon Film's Board of Directors.
Subsequent to October 3, 1999, Silicon Film obtained a promissory bridge note
from their placement agent, which provides for advances totaling $750,000.
Unpaid principal advances bear interest at 7.0% per annum. The unpaid principal
balance plus accrued interest are due and payable on the earlier of 90 days from
the date of the promissory bridge note (December 10, 1999) or the closing of
Silicon Film's planned offering of equity securities. The promissory bridge
note is unsecured.
Note 10 - Extraordinary Item - Debt Extinguishment
In December 1997, the Company executed a Forbearance Agreement with its lending
bank whereby the Company agreed to accelerate repayment of the Note Payable to
the bank. The current portion of the debt was reduced by $1,026,900, which was
received from the sale of the assets in October 1997. The Company also agreed,
among other requirements, to reduce the principal balance by payments of
$250,000 in each of the calendar quarters ending December 1997 and March 1998
and thereafter to reduce the remaining balance by a minimum of $200,000
quarterly. Execution of the Forbearance Agreement also resulted in a waiver of
the Company's financial covenant defaults and an amendment to the loan agreement
eliminating such financial covenants on a prospective basis. In connection
therewith, the Company pledged as collateral one million shares of Novalog, Inc.
common stock held by the Company. The Company also paid down $500,000 of the
Note with 550,000 shares of its stock and under the terms of the agreement,
dependent on the market price of the shares when sold, the Company would receive
a refund if the proceeds from the sale exceeded $500,000. Subsequently, the
Company was informed by the bank that it sold the 550,000 shares and that the
proceeds exceeded $500,000. After applying the proceeds to the then remaining
balance of the note the bank, through September 27, 1998, remitted $772,000 to
the Company and advised the Company that
<PAGE>
additional proceeds of $183,000 were to be remitted to the Company. The Company
received these additional funds during fiscal 1999. The Company recorded the
proceeds that exceeded $500,000 as paid-in capital.
Note 11 - Income Taxes
Deferred tax assets and liabilities are recorded for differences between the
financial statement and tax basis of the assets and liabilities that will result
in taxable or deductible amounts in the future based on enacted tax laws and
rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are established when necessary to reduce
deferred tax assets to the amount expected to be realized. Income tax expense is
recorded for the amount of income tax payable or refundable for the period
increased or decreased by the change in deferred tax assets and liabilities
during the period.
The tax effects of significant items comprising the Company's income tax
calculation as of October 3, 1999 and September 27, 1998, are as follows:
<TABLE>
<CAPTION>
October 3, September 27,
1999 1998
---------------------------------------
<S> <C> <C>
Current deferred tax assets:
Reserves not currently
deductible $ 1,591,000 $ 1,057,000
Long-term deferred tax assets:
Operating loss carryforwards 19,988,000 16,763,000
Tax credit carryforwards 866,000 541,000
Valuation allowance (22,445,000) (18,361,000)
---------------------------------------
Net deferred tax asset $ - $ -
=======================================
</TABLE>
The differences between the Company's effective income tax rate and the
statutory U.S. federal income tax rate for the fiscal years ended October 3,
1999, and September 27, 1998, respectively, related primarily to the total
valuation allowance changing $4,084,000 from September 27, 1998 to October 3,
1999 and $334,300 from September 28, 1997 to September 27, 1998.
The provisions for income taxes for the fiscal years ended October 3, 1999,
September 27, 1998, and September 28, 1997, consist of provisions for state
income taxes of $2,800, $2,600 and $2,600, respectively. No provisions for
federal income taxes have been made in these fiscal years due to the net
operating losses.
At October 3, 1999, the Company had net operating loss carryforwards of
approximately $56,144,400 for financial reporting and federal income tax
purposes expiring in varying amounts from fiscal year 1999 through fiscal year
2018, and $15,596,800 for California tax purposes expiring in varying amounts
from fiscal year 1999 through fiscal year 2004, available to offset future
federal and California taxable income. In addition, as of October 3, 1999, the
Company had investment tax credits and qualified research credits of $328,000
and $489,000, respectively, expiring in varying amounts through fiscal year 2010
and available to offset future federal taxes. The ability of the Company to
utilize the net operating loss and credit carryforwards may be restricted by
certain provisions of the Internal Revenue Code due to changes in ownership of
the Company's common stock.
Note 12 - Stock Option Plans and Employee Retirement Plan
In December 1991, the Board of Directors adopted the 1991 Stock Option Plan to
replace 1981 Stock Option Plans, which had expired. This new Plan was approved
by shareholders at the Company's Annual Meeting in February 1992. Under the 1991
Plan, options to purchase an aggregate of 675,000 shares of the Company's common
stock may be granted to both key management employees and non-employee
directors. Options granted may be either Incentive Stock Options or Nonstatutory
Stock Options, and the requirements for participation, exercise price and other
terms are similar to the 1981 Plans. As of October 3, 1999, options to purchase
238,100 shares at prices ranging from $0.98 (83,300 shares) to $1.50 (6,000
shares) were outstanding under the 1991 Plan, of which 129,000 were exercisable
at October 3, 1999.
In January 1995, the Board of Directors adopted the 1995 Stock Option Plan to
replace the 1991 Plan, which was fully subscribed at the time. The 1995 Plan was
approved by shareholders at the Company's Annual Meeting in February 1995. Under
the 1995 Plan, options to purchase an aggregate of 700,000 shares of the
Company's common stock may be granted to both key management employees and non-
employee directors. In August 1997, the Board of Directors authorized an
increase in the number of options to an aggregate of 1,650,000 shares, which was
ratified by shareholders at the Company's Annual Meeting in February 1998.
Options granted may be either Incentive Stock Options or Nonstatutory Stock
Options, and requirements for participation, exercise price and other terms are
similar to the 1991 Plan. As of October 3, 1999, options to
<PAGE>
purchase 1,510,400 shares at prices ranging from $0.98 (411,700 shares) to $6.25
(62,500 shares) were outstanding under the 1995 Plan, of which 730,700 were
exercisable at October 3, 1999.
In November 1998, the Board of Directors approved a new plan, "The 1999 Stock
Option Plan." Under the 1999 Plan, options to purchase an aggregate of
1,000,000 shares of common stock may be granted to both key management employees
and non-employee directors. The 1999 Plan was ratified by shareholders at the
Company's Annual Meeting in February 1999. Options granted may be either
Incentive Stock Options or Nonstatutory Stock Options. Requirements for
participation, exercise price and other terms are similar to the 1991 and 1995
Plans. As of October 3, 1999, options to purchase 597,900 shares at prices
ranging from $1.34 (13,400 shares) to $1.92 (115,000 shares) were outstanding
under the 1999 Plan, of which 102,000 were exercisable at October 3, 1999.
Stock option activity is summarized as follows:
<TABLE>
<CAPTION>
Option Price
Shares Per Share
------------------------------------
1991 Plan:
- ----------
<S> <C> <C>
Options outstanding at
September 29, 1996 210,700 $4.28 to $8.625
Granted 143,000 1.4375 to 2.3125
Cancelled (76,500) 6.00 to 7.6875
Expired (51,700) 4.28 to 8.6520
--------------
Options outstanding at
September 28, 1997 225,500 1.4375 to 7.75
Granted 120,000 1.50 to 2.4375
Exercised (8,300) 0.98
Cancelled (52,400) 1.50 to 7.50
Expired (25,000) 7.125 to 7.75
--------------
Options outstanding at
September 27, 1998 259,800 0.98 to 7.50
Granted 27,000 1.3438 to 1.6876
Exercised (15,000) 0.98 to 1.4375
Cancelled (26,200) 1.50 to 1.5938
Expired (7,500) 7.50
--------------
Options outstanding at
October 3, 1999 238,100 $0.98 to $1.50
==============
1995 Plan:
- ----------
Options outstanding at
September 29, 1996 454,000 $5.00 to $8.50
Granted 1,053,000 0.98 to 2.3125
Cancelled (371,900) 1.00 to 8.50
---------------
Options outstanding at
September 28, 1997 1,135,100 0.98 to 6.50
Granted 581,500 1.00 to 2.8750
Exercised (8,300) 0.98
Cancelled (57,300) 1.00 to 6.25
---------------
Options outstanding at
September 27, 1998 1,651,000 0.98 to 6.50
Granted 23,900 0.98 to 1.15
Exercised (114,300) 1.4687 to 1.6876
Cancelled (50,200) 1.00 to 6.50
-------------------
Options outstanding at
October 3, 1999 1,510,400 $0.98 to $6.25
===================
1999 Plan:
- ----------
Options outstanding at
September 27, 1998 - -
Granted 622,900 $1.3438 to $1.9219
Cancelled (25,000) 1.3594 to 1.5313
-------------------
Options outstanding at
October 3, 1999 597,900 $1.3438 to $1.9219
===================
</TABLE>
<PAGE>
A summary of outstanding options exercisable under the 1991, 1995 and 1999 Stock
Option Plans is shown below.
<TABLE>
<CAPTION>
Weighted average
Range of Number remaining contractual Weighted average Number Weighted average
exercise prices outstanding life (years) exercise price exercisable exercise price
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 0.98 - 1.98 2,244,900 2 $1.39 875,200 $1.31
2.31 - 2.88 29,000 2 2.53 14,000 2.46
5.00 - 6.25 72,500 1 6.08 72,500 6.08
------------ -----------
2,346,400 961,700
============ ===========
</TABLE>
Pursuant to SFAS No. 123 "Accounting for Stock Based Compensation," the Company
is required to disclose the effects on the net loss and per share data as if the
Company had elected to use the fair value approach to account for all of its
employee stock-based compensation plans. Had the compensation cost for the
Company's Plans been determined using the fair value method, the compensation
expense would have had the effects of increasing the Company's net loss for the
years ended October 3, 1999, September 27, 1998 and September 28, 1997, to the
pro forma amounts of $9,733,100, $4,754,000, and $15,041,000, respectively, with
a corresponding pro forma loss per share of $0.31, $0.19, and $0.73,
respectively. These pro forma amounts were determined estimating the fair value
of each option granted during fiscal 1999, 1998 and 1997 on its grant date,
using the Black-Scholes option-pricing model. Assumptions of no dividend yield,
a risk-free interest rate of 6 percent which approximates the Federal Reserve
Board's rate for treasuries at the time granted, an expected life of three
years, and volatility rates varying from 86.9 to 73.2 percent were applied to
options granted during fiscal years 1999, 1998 and 1997. The weighted average
fair value at the grant date for the options granted during fiscal years 1999,
1998 and 1997 was $0.92, $1.57 and $0.75 per option, respectively.
In fiscal 1982, the Company established an Employee Retirement Plan, which is
effective for fiscal year 1982 and thereafter. The plan provides for annual
contributions to the Company's Stock Bonus Trust (SBT) to be determined by the
Board of Directors and which will not exceed 15 percent of total payroll. At the
discretion of the Trustee, the SBT will purchase common stock at fair market
value or other interest-bearing securities or investments for the accounts of
individual employees who will gain a vested interest of 20 percent in their
accounts after three years of service, and 20 percent each year of service
thereafter, until fully vested after seven years of service. That portion of
cash or stock held in an employee's account and not vested at termination of
employment will be redistributed in accordance with a prearranged formula.
Management believes that the contributions made by the Company to the SBT, to
the extent they relate to government cost-plus-fixed-fee contracts, will be
reimbursable by the U.S. government. In fiscal years 1999, 1998 and 1996 the
Company's contributions to the SBT were 330,000, 333,300 and 347,600 shares of
common stock, respectively, which had estimated market values of $500,200,
$500,000 and $445,500 respectively.
Note 13 - Revenues
In fiscal 1999, contracts with all branches of the U.S. government accounted for
18 percent of the Company's revenues, and a second-tier government contract with
a prime government contractor accounted for 19 percent. The remaining 63 percent
of the Company's revenues were derived from non-government sources. Of the 18
percent related to the U.S. government agencies, the U.S. Army, the U.S. Air
Force and the U.S. Navy accounted for 54 percent, 9 percent and 6 percent,
respectively, with the remaining revenue of 31 percent being widely diversified
among several other governmental agencies. Of the 36 percent applicable to non-
governmental sources, 2 customers accounted for 33 percent and 29 percent,
respectively, of the total commercial revenues
In fiscal 1998, contracts with all branches of the U.S. government accounted for
27 percent of the Company's revenues, and a second-tier government contract with
a prime government contractor accounted for 27 percent. The remaining 46 percent
of the Company's revenues were derived from non-government sources. Of the 27
percent related to the U.S. government agencies, the U.S. Army, the U.S. Air
Force and the U.S. Navy accounted for 24 percent, 12 percent and 8 percent,
respectively, with the remaining revenue of 56 percent being widely diversified
among several other governmental agencies. Of the 46 percent applicable to non-
governmental sources, three (3) customers accounted for 35 percent, 14 percent
and 7 percent, respectively, of the total commercial revenues.
In fiscal 1997, contracts with all branches of the U.S. government accounted for
43 percent of the Company's revenues, and the remaining 57 percent of the
Company's revenues was derived from non-government sources. Of the 43 percent
applicable to the U.S. government, there were three agencies of the government
that accounted for 55 percent, 13 percent and 11 percent. Other government
agencies accounted for the remaining 21 percent. Of the 57 percent applicable to
non-government sources, two customers accounted for 49 percent and 39 percent of
the revenues.
<PAGE>
Note 14 - Deferred Revenues
In fiscal 1998, the Company received prepayments from customers related to
services and products that had not been delivered as of the balance sheet date.
Revenues were recorded in fiscal 1999 upon delivery of these services and
products.
Note 15 - Acquisition and Disposal of Equipment
On April 19, 1996, the Company consummated an agreement for the acquisition and
operation of the equipment comprising IBM's cubing line located at IBM's Essex
Junction, Vermont facility. The cubing line was established by IBM to
manufacture the stacked-chip assemblies required to commercialize the Company's
proprietary chip-stacking technology under the joint development alliance that
IBM and the Company entered into in 1992. According to the terms of the
agreement, the Company acquired the equipment and clean room, which comprises
the cubing line for a cash payment of approximately $6.5 million. In addition,
the Company signed a facility lease agreement for the space required to operate
the cubing line under the Company's management within the IBM facility through
December 1998. The terms of the facility lease agreement include escalating rent
payments, which have been straight lined for financial reporting purposes. The
difference between the amount paid and the amount expensed during fiscal 1996
has been reported as accrued rent. The agreement was terminated in fiscal 1997
and the deferred rent balances were netted against rent expense.
As part of the process to terminate the agreement with IBM, the Company disposed
of the equipment acquired from IBM in April 1996 and other fixed assets
purchased and/or constructed at the IBM facility. These assets with a net book
value of $6,925,300 were sold for proceeds of $1,051,900, resulting in a loss on
the disposal of $5,873,400. During October 1997, $1,026,000 of these proceeds
were received by the Company's lender and applied against the principal of the
Company's long-term debt.
In December 1997, the Company made a $490,000 cash payment to extinguish its
remaining obligations under a Settlement Agreement. Accordingly, the Company
recorded an extraordinary gain of $1,146,100 on the extinguishment of debt and
reduced accounts payable by the corresponding amounts.
Note 16 - Loss Per Share
As the Company had a net loss from continuing operations for 1999, 1998 and
1997, basic and diluted net loss per share are the same.
Net loss applicable to common stockholders for fiscal 1998 includes $465,300 for
the non-cash imputed dividend related to the beneficial conversion feature on
24,750 Units of the Series D Convertible Preferred stock. (See Note 2 - Issuance
of Common and Preferred Stock.) The beneficial conversion feature is computed as
the difference between the quoted market price of a share of common stock on
date of issue and the conversion price times all shares of preferred stock sold
and under option. The imputed dividends are a non-cash, one-time charge based on
the immediate conversion feature.
Basic and diluted net loss per common share for fiscal years 1999, 1998 and 1997
were calculated as follows:
<TABLE>
<CAPTION>
1999 1998 1997
----------------------------------------------------------------------
<S> <C> <C> <C>
Net loss $(9,115,700) $(4,243,500) $(14,875,600)
Preferred Stock cumulative dividend (20,100) (20,700) (18,700)
Preferred Stock imputed dividend - (465,300) -
----------------------------------------------------------------------
Net loss available to Common Stockholders $(9,135,800) $(4,729,500) $(14,894,300)
======================================================================
Basic & diluted net loss per share: $ (0.29) $(0.19) $ (0.73)
======================================================================
Weighted average number of
shares outstanding 31,244,300 24,597,700 20,475,100
======================================================================
</TABLE>
Note 17 - Reportable Segments
The Company has the following 5 reportable segments as of October 3, 1999:
Advanced Technology Division (ATD), Novalog, MSI, Silicon Film and Corporate
Headquarters. ATD derives most of its revenues from research and development
contracts funded primarily by governmental agencies. Novalog designs, develops
and sells proprietary integrated circuits ("ICs") and related products for use
in wireless infrared communication. MSI develops and sells proprietary
micromachined sensors and related electronics. Silicon Film designs and develops
proprietary electronic films systems and other digital imaging products and
services. Corporate Headquarters provides accounting, inventory control and
management consulting services to the consolidated
<PAGE>
subsidiaries. Corporate revenue consists of charges to the subsidiaries for
these services and corporate assets consist of loans to subsidiaries and
goodwill for reacquisition of subsidiary stock.
The accounting policies used to develop segment information correspond to those
described in the summary of significant accounting policies. Segment profit or
loss is based on profit or loss from operations before income taxes and minority
interest in profit and loss of subsidiaries. The reportable segments are
distinct business units operating in different industries, except the Corporate
Headquarters segment, which spans the activities of the other segments. Each
segment is separately managed, with separate marketing and distribution systems.
The following information about the 5 segments is for the year ended October 3,
1999.
<TABLE>
<CAPTION>
Silicon Corporate
ATD Novalog MSI Film Headquarters Other Totals
------------ ----------- ------------ ------------ ------------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues from external customers $ 4,080,700 $6,787,900 $ 197,300 $ 1,600 $ - $ 32,700 $ 11,100,200
Intersegment revenue - - - - 2,320,000 - 2,320,000
Interest revenue - 2,100 - 4,600 31,700 - 38,600
Interest expense - 500 3,700 1,600 97,800 700 104,300
Depreciation 694,950 118,100 58,400 32,000 - 8,000 911,450
Segment profit (loss) (2,275,200) 481,800 (2,641,400) (4,132,600) (536,600) (747,400) (9,851,400)
Segment assets 5,816,200 2,392,900 503,100 1,517,500 12,721,100 109,050 23,059,850
Expenditures for segment assets 1,163,900 58,400 349,200 748,000 - 55,400 2,374,800
Reconciliation to Consolidated Amounts
Revenues
Total revenues for reportable segments $ 13,420,200
Elimination of intersegment revenues (2,320,000)
------------
Total consolidated revenues $ 11,100,200
============
Assets
Total assets for reportable segments $ 23,059,850
Elimination of intersegment assets (12,549,500)
Total consolidated assets $ 10,510,350
============
</TABLE>
During fiscal 1998, the Company had the following 6 reportable segments: ATD,
CPO, Novalog, MSI, Silicon Film and Corporate Headquarters.
The following information about the 6 segments is for the year ended September
27, 1998.
<TABLE>
<CAPTION>
Silicon Corporate
ATD CPO Novalog MSI Film Headquarters Other Totals
------------ -------- ------------ ------------ ----------- -------------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues from external customers $ 7,231,900 $352,700 $ 1,026,100 $ 300,000 $ - $ - $ 403,800 $ 9,314,500
Intersegment revenue - - - - - 1,911,000 - 1,911,000
Interest revenue - - 2,500 - - 10,000 - 12,500
Interest expense - 107,400 900 - - 157,900 - 266,200
Depreciation 1,221,100 166,700 108,300 - - 50,600 - 1,546,700
Segment profit (loss) (1,694,300) 99,000 (1,636,300) (1,080,400) (1,042,200) (172,700) (225,300) (5,752,200)
Segment assets 5,728,100 65,900 710,500 233,200 321,400 27,631,800 5,600 34,696,500
Expenditures for segment assets 533,400 - 15,900 11,500 - - - 560,800
Reconciliation to Consolidated Amounts
Revenues
Total revenues for reportable segments $ 11,225,500
Elimination of intersegment revenues (1,911,000)
------------
Total consolidated revenues $ 9,314,500
============
Assets
Total assets for reportable segments $ 34,695,500
Elimination of intersegment assets (27,631,800)
------------
Total consolidated assets $ 7,064,700
============
</TABLE>
During fiscal 1997, the Company did not have operating segments for which
separate financial information was produced internally to evaluate performance
and allocate resources.
<PAGE>
Irvine Sensors Corporation
Report of Independent Certified Public Accountants
To the Board of Directors
Irvine Sensors Corporation
Costa Mesa, California
- --------------------------------------------------------------------------------
We have audited the accompanying consolidated balance sheets of Irvine Sensors
Corporation as of October 3, 1999 and September 27, 1998, and the related
consolidated statements of operations, shareholders' equity and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Irvine
Sensors Corporation as of October 3, 1999 and September 27, 1998, and the
consolidated results of its operations and its consolidated cash flows for the
years then ended, in conformity with generally accepted accounting principles.
Grant Thornton LLP
Irvine, California
December 21, 1999
Report of Independent Accountants
To the Board of Directors and Shareholders of Irvine Sensors Corporation
In our opinion, the consolidated statements of operations, of shareholders'
(deficit) and of cash flows for the year ended September 28, 1997 present
fairly, in all material respects, the results of operations and cash flows of
Irvine Sensors Corporation and its subsidiaries for the year ended September 28,
1997, in conformity with generally accepted accounting principles. These
financial statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audit. We conducted our audit of these statements in accordance with
generally accepted auditing standards, which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers LLP
Costa Mesa, California
December 16, 1997
<PAGE>
Irvine Sensors Corporation
Corporate Information
Directors James Alexiou/1,2/, Chairman of the Board, Irvine Sensors
Corporation
John C. Carson, Senior Vice-President, Irvine Sensors
Corporation
Joanne S. Carson, Secretary, Irvine Sensors Corporation
Marc Dumont/1/, Financial Advisor
James D. Evert/1/, President and CEO, Irvine Sensors
Corporation
Walter E. Garrigan/2/, Financial Advisor
General Frank P. Ragano/1/, Chairman and CEO of CMS,
Inc., a manufacturer of defense munitions
Wolfgang Seidel/1/, Principal, Seidel and Partner, a
management consulting firm
Vincent F. Sollitto Jr./2/, President and CEO of Photon
Dynamics Inc., a manufacturer of electronic capital
equipment
/1/Member of the Compensation Committee
/2/Member of the Audit Committee
Officers John C. Carson, Senior Vice-President
Joanne S. Carson, Secretary
Floyd K. Eide, Vice-President
James D. Evert, President and Chief Executive Officer
John J. Stuart, Jr., Senior Vice-President, Chief
Financial Officer and Treasurer
Executive Offices Irvine Sensors Corporation, 3001 Redhill Avenue,
Building III, Costa Mesa, California 92626
Counsel Grover T. Wickersham, P.C., Wickersham Law Offices,
430 Cambridge Avenue, Suite 100, Palo Alto,
California 94306
Independent Certified Grant Thornton LLP
Public Accountants Irvine, California
Transfer Agent ChaseMellon Shareholder Services, 400 S. Hope St.,
4th Floor, Los Angeles, California 90071
www.chasemellon.com
Stock Data Nasdaq Listing: Common Stock - IRSN
Boston Stock Exchange Listing: Common Stock - ISC
Form 10-K Shareholders may obtain without charge a copy of the
Company's Annual Report on Form 10-K for the fiscal year
ended October 3,1999, as filed with the Securities and
Exchange Commission, without exhibits thereto, and may
obtain any exhibit thereto upon payment of a nominal
copying charge, by writing to Joanne S. Carson,
Secretary, Irvine Sensors Corporation, 3001 Redhill
Avenue, Costa Mesa, California 92626.
<PAGE>
Subsidiaries of the Registrant
- ------------------------------
Exhibit 21.1
------------
Novalog, Inc.
3001 Redhill Ave., Building 4
Costa Mesa, California 92626
MicroSensors, Inc.
3001 Redhill Ave., Building 4
Costa Mesa, California 92626
Silicon Film Technologies, Inc.
16265 Laguna Canyon Road
Irvine, California 92618
3D-Microelectronics, Inc.
3001 Redhill Ave., Building 3
Costa Mesa, California 92626
3D-Microsystems, Inc.
3001 Redhill Ave., Building 3
Costa Mesa, California 92626
<PAGE>
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
- ---------------------------------------------------
Exhibit 23.1
------------
We hereby consent to the incorporation by reference in the Prospectus
constituting part of this Registration Statement on Form S-8 (No. 2-85501) of
Irvine Sensors Corporation of our report dated December 21, 1999 which appears
on page 22 of the Annual Report to Shareholders which is incorporated by
reference in this Annual Report on Form 10-K. We also consent to the
incorporation by reference of our report on the Financial Statement Schedules,
which appears on page 22 of this Form 10-K.
/s/ GRANT THORNTON LLP
Irvine, California
December 21, 1999
<PAGE>
CONSENT OF INDEPENDENT ACCOUNTANTS
- ----------------------------------
Exhibit 23.2
------------
We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (No. 2-85501) of Irvine Sensors Corporation of our report
dated December 16, 1997 relating to the financial statements, which appears in
the Annual Report to Shareholders, which is incorporated in this Annual Report
on Form 10-K. We also consent to the incorporation by reference of our report
dated December 16, 1997 relating to the financial statement schedules, which
appears in this Form 10-K.
/s/ PRICEWATERHOUSECOOPERS LLP
PricewaterhouseCoopers LLP
Costa Mesa, California
December 28, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S FORM 10-K FOR THE YEAR ENDED OCTOBER 3, 1999 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
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<FISCAL-YEAR-END> OCT-3-1999
<PERIOD-START> SEP-28-1998
<PERIOD-END> OCT-3-1999
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