SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K/A
AMENDMENT NO. 1 TO ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
Commission File Number: 0-18267
NCT Group, Inc.
(formerly known as
Noise Cancellation Technologies, Inc.)
(Exact name of registrant as specified in its charter)
Delaware 59-2501025
(State or other jurisdiction of (IRS Employer
incorporation organization) Identification No.)
1025 West Nursery Road, Linthicum, Maryland 21090
(Address of principal executive office) (Zip Code)
(410) 636-8700
(Registrant's telephone number, including area code)
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PART II
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.
Forward Looking Statements
Statements in this filing which are not historical facts are forward-looking
statements under provisions of the Private Securities Litigation Reform Act of
1995. All forward-looking statements involve risks and uncertainties. The
Company wishes to caution readers that the following important factors, among
others, in some cases have affected, and in the future could affect, the
Company's actual results and could cause its actual results in fiscal 1999 and
beyond to differ materially from those expressed in any forward-looking
statements made by, or on behalf of, the Company.
Important factors that could cause actual results to differ materially
include but are not limited to the Company's ability to: achieve profitability;
achieve a competitive position in design, development, licensing, production and
distribution of electronic systems for Active Wave Management; produce a cost
effective product that will gain acceptance in relevant consumer and other
product markets; increase revenues from products; realize funding from
technology licensing fees, royalties, product sales, and engineering and
development revenues to sustain the Company's current level of operation; timely
introduce new products; continue its current level of operations to support the
fees associated with the Company's patent portfolio; maintain satisfactory
relations with its customers; attract and retain key personnel; prevent
invalidation, abandonment or expiration of patents owned or licensed by the
Company and expand its patent holdings to diminish reliance on core patents;
have its products utilized beyond noise attenuation and control; maintain and
expand its strategic alliances; and protect Company know-how, inventions and
other secret or unprotected intellectual property.
Overview
On April 7, 1999, the Company issued a news release including information
about $3.6 million of technology license fees and net profit of $0.1 million for
the first quarter of 1999. Such revenue recognition and the resulting net profit
were not audited. In the circumstances, the amount that may be recognized for
such technology license fees, if any, is dependent on certain valuation
considerations. The technology license fee consideration is occasioned by 3,600
shares of Series E Preferred Stock returned to the Company in lieu of cash
consideration.
The Company is continuing the transition initiated in 1995 from a firm
focused principally on research and development of new technology to a firm
focused on the commercialization of its technology through technology licensing
fees, royalties and product sales. Prior to 1995, the Company derived the
majority of its revenues from engineering and development funding provided by
established companies willing to assist the Company in the development of its
active noise and vibration control technology, and from technology licensing
fees paid by such companies. The Company's strategy generally has been to obtain
technology licensing fees when initiating joint ventures and alliances with new
strategic partners. In 1998, the Company received approximately 13% of its
operating revenues from engineering and development funding, compared with 6% in
1997. Revenues from product sales were limited to sales of specialty products
and prototypes. Since 1991, revenues from product sales have generally
increased, although in 1996 product sales declined slightly due to delays in
production and reduced pricing of certain products. In 1998, revenues from
product sales resumed their year-to-year increase. Management expects that
technology licensing fees, royalties and product sales will become the principal
source of the Company's revenue as the commercialization of its technology
proceeds.
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As a result of the 1994 acquisition of certain ANVT assets, the Company
became the exclusive licensee of ten seminal patents, the Chaplin Patents,
through its wholly-owned subsidiary, CPH. The Company's ability to license the
Chaplin Patents directly to unaffiliated third parties provides the Company with
a greater ability to earn technology licensing fees and royalties from such
patents. Further, the Company believes that its intellectual property portfolio
prevents other competitors and potential competitors in the field of Active Wave
Management from participating in certain commercial areas without licenses from
the Company.
Note 1 to the accompanying Financial Statements and the "Liquidity and
Capital Resources" section which follows describes the current status of the
Company's available cash balances.
As previously disclosed, the Company implemented changes in its organization
and focus in late 1994. Additionally, in late 1995 the Company redefined its
corporate mission to be the worldwide leader in the advancement and
commercialization of Active Wave Management technology. Active Wave Management
is the electronic and/or mechanical manipulation of sound or signal waves to
reduce noise, improve signal-to-noise ratio and/or enhance sound quality. This
redefinition is the result of the development of new technologies, as previously
noted, such as ASF, TDSS, FPT, and the SMM, which the Company believes can
produce products for fields beyond noise and vibration reduction and control.
These technologies and products are consistent with shifting the Company's focus
to technology licensing and product marketing in more innovative industries
having greater potential for near term revenue generation. The redefinition of
corporate mission is reflected in the revised business plan, which the Company
began to implement during the first quarter of 1996 and has continued through
1998.
As distribution channels are established and as product sales and market
acceptance and awareness of the commercial applications of the Company's
technologies build as anticipated by management, revenues from technology
licensing fees, royalties and product sales are forecasted to fund an increasing
share of the Company's requirements. The funding from these sources, if
realized, will reduce the Company's dependence on engineering and development
funding. The beginning of this process is shown in the shifting percentages of
operating revenue, discussed below.
In January 1998, the Company adopted a plan that management believed would
generate sufficient funds for the Company to continue its operations into 1999.
The Company did not meet the plan's revenue targets and as noted below, found it
necessary to raise additional capital to fund it's operations for 1998 and
beyond. Refer to "Liquidity and Capital Resources" below and to Notes 1 and 8 -
Notes to Financial Statements.
Success in generating technology licensing fees, royalties and product sales
is significant and critical to the Company's success. The Company cannot predict
whether it will be successful in obtaining market acceptance of its new products
or in completing its current negotiations with respect to licenses and royalty
revenues.
From the Company's inception through December 31, 1998, its operating
revenues, including technology licensing fees and royalties, product sales and
engineering and development services, have consisted of approximately 26%
product sales, 43% engineering and development services and 31% technology
licensing fees and royalties.
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The Company has entered into a number of alliances and strategic
relationships with established firms for the integration of its technology into
products. The speed with which the Company can achieve the commercialization of
its technology depends in large part upon the time taken by these firms and
their customers for product testing, and their assessment of how best to
integrate the Company's technology into their products and manufacturing
operations. While the Company works with these firms on product testing and
integration, it is not always able to influence how quickly this process can be
completed.
The Company continues to sell NoiseBuster Extreme!(TM) consumer headsets and
began shipping Gekko(TM) flat speakers in the third quarter of 1998. The Company
is presently selling products through six of its alliances: Walker is
manufacturing and selling industrial silencers; Siemens is buying and
contracting with the Company to install quieting headsets for patient use in
Siemens' MRI machines; in the fourth quarter of 1994 Ultra began installing
production model aircraft cabin quieting systems in the SAAB 340 turboprop
aircraft; OKI is integrating ClearSpeech(R) algorithm into large scale
integrated circuits for communications applications; and BE Aerospace and Long
Prosper are providing NoiseBuster(R) components into United Airlines'
comprehensive in-flight entertainment and information systems. Management
believes these developments and those previously disclosed help demonstrate the
range of commercial potential for the Company's technology and will contribute
to the Company's transition from engineering and development to technology
licensing fees, royalties and product sales.
The availability of high-quality, low-cost electronic components for
integration into the Company's products also is critical to the
commercialization of the Company's technology. The Company is working with its
strategic partners and other suppliers to reduce the size and cost of the
Company's systems, so that the Company will be able to offer low-cost
electronics and other components suitable for high-volume production.
The Company has continued to make substantial investments in its technology
and intellectual property and has incurred development costs for engineering
prototypes, pre-production models and field testing of several products. During
1994, the Company acquired a license to two patents in the field of
micro-machined microphones and concluded the acquisition of all of the patents,
know-how and intellectual property of a former competitor, ANVT. During 1995 the
Company acquired several U.S. patents dealing with adaptive speech filtering
which is used in the Company's ClearSpeech(R) product line. Since 1996, the
Company has been granted 197 new patents for various applications in the field
of Active Wave Management. Management believes that the Company's investment in
its technology has resulted in the expansion of its intellectual property
portfolio and improvement in the functionality, speed and cost of components and
products.
The Company has become certified under the International Standards
Organization product quality program known as "ISO 9000", and continues to
successfully maintain its certification. Since the third quarter of 1994, the
Company has reduced its worldwide work force by 40% from 173 to 104 current
employees as of February 28, 1999.
NCT Audio, a majority owned subsidiary of the Company, has signed three
letters of intent, one agreement to purchase, and one definitive purchase
agreement pursuant to which it will acquire 100% of the stock or assets of the
companies outlined below. Management believes the consummation of these
acquisitions will provide significant value creation opportunities. By acquiring
companies that specialize in different segments of the audio market in various
locations around the world, management believes it can improve profitability of
the combined companies by sharing some resources, eliminating redundant expenses
and increasing revenue by leveraging each company's distribution channels. Some
of the synergistic opportunities that will be achieved with the acquisitions
include the ability to (i) leverage the extensive dealer network; (ii) gain
access to worldwide consumer audio markets and establish automotive audio
aftermarket accounts; (iii) increase product distribution of all acquisition
companies in world markets; (iv) cross-sell the acquisition companies' products
among distribution channels; and (v) maximize the warehousing and distribution
facilities. Overall, these opportunities are expected to significantly
strengthen the distribution network of NCT Audio's product line into the
worldwide market.
On August 14, 1998, NCT Audio agreed to acquire substantially all of the
assets of Top Source Automotive, Inc. ("TSA"), a wholly-owned subsidiary of Top
Source Technologies, Inc. ("TST"). TSA, located in Troy, Michigan, specializes
in the design and manufacture of speaker enclosures that maximize audio output
for automotive OEMs, Tier One suppliers, and key aftermarket accounts. TSA's
systems are factory installed on Chrysler Corporation's ("Chrysler") Wrangler
model line and are also offered as dealer installed accessory packages. Earlier
on June 11, 1998 NCT Audio had paid a non-refundable deposit of $1,450,000
towards the purchase price. The total purchase price is $10,000,000 and up to
$6,000,000 in possible future contingent payments. The seller has elected to
receive the possible future contingent payments in cash. The shareholders of TST
approved the transaction on December 15, 1998.
NCT Audio then paid TST $2,050,000 on July 31, 1998. The money was held in
escrow with all of the necessary securities and documents to evidence ownership
of 20% of the total equity rights and interests in TSA. When TST's shareholders
approved the transaction, the $2,050,000 was delivered to TST. In return, NCT
Audio took ownership of the documentation and securities.
NCT Audio has an exclusive right, as extended, to purchase the assets of TSA
through May 28, 1999. Under the terms of the original agreement, NCT Audio was
required to pay TST $6.5 million on or before March 31, 1999 to complete the
acquisition of TSA's assets. As consideration for the extension of such
exclusive right from March 31, 1999 to May 28, 1999, NCT Audio agreed to pay TST
a fee of $350,000, consisting of $20,685 in cash, $125,000 of NCT Audio's
minority interest in TSA earnings and a $204,315 note payable, due April 16,
1999. If NCT Audio fails to pay the note by April 16, 1999, (a) the note will
begin to accrue interest on April 17, 1999 at the lower of the rate of two times
prime rate or the highest rate allowable by law; and (b) the $20,685 and
$125,000 portion of the extension fee will no longer be credited toward the $6.5
million purchase consideration due at closing. NCT Audio did not pay the note by
April 16, 1999. If NCT Audio fails to pay the note by April 30, 1999, the
$204,315 portion of the extension fee shall no longer be credited toward the
$6.5 million closing amount due. Further, if NCT Audio fails to close the
contemplated transaction by May 28, 1999, NCT Audio will forfeit its minority
earnings in TSA for the period June 1, 1999 through May 30, 2000. In addition,
due to NCT Audio's inability to close the transaction by March 31, 1999, TST
received $100,000 of NCT Audio's Series A Convertible Preferred Stock as a
penalty premium.
On August 17, 1998, NCT Audio agreed to acquire all of the members'
interest in Phase Audio LLC (doing business as Precision Power, Inc. or "PPI").
PPI, located in Phoenix, Arizona, designs and manufactures high performance
amplifiers, preamplifiers, subwoofers, signal processors and speakers for the
automotive audio aftermarket. PPI has a network of over 600 dealers for its
products throughout the United States. NCT Audio will acquire the interest in
exchange for shares of its common stock having an aggregate value of $2,000,000.
NCT Audio also agreed to pay approximately $8.5 million of PPI debt, but NCT
Audio must obtain adequate financing before the transaction can be completed. In
addition, NCT Audio provided PPI a working capital loan on June 17, 1998 in the
amount of $500,000 which is evidenced by a demand promissory note. On August 18,
1998, NCT Audio provided PPI another working capital loan in the amount of
$1,000,000, which is also evidenced by a demand promissory note. The unpaid
principal balance of these notes bear interest at a rate equal to the prime
lending rate plus one percent (1.0%).
As noted, the transaction is contingent on NCT Audio obtaining outside
financing to pay the PPI debt. On January 6, 1999, the PPI members notified NCT
Audio that, while they remain willing to do the transaction, they may choose at
some point to abandon the transaction because NCT Audio has not obtained the
financing in a timely manner. They also notified NCT Audio that in lieu of the
$2,000,000 in NCT Audio common stock, they would insist that NCT Audio pay them
that amount in cash at any closing.
On January 28, 1999, NCT Audio entered into a letter of intent to purchase
100% of the common stock of a premier speaker manufacturer (the "Third
Acquisition"). The proposed acquisition is subject to the approval by the
stockholders of the Third Acquisition and certain other terms and conditions,
including that NCT Audio obtain adequate financing to consummate the
transaction. Shareholders who hold all of the outstanding shares of common stock
of the Third Acquisition have agreed to vote their shares in favor of the
proposed acquisition.
The purchase price is approximately $36.4 million. At closing, approximately
$24.5 million will be paid to shareholders of the Third Acquisition in cash. The
balance of approximately $11.9 million is to be paid by a four-year,
straight-line amortization seller note (payable quarterly) that will have a
second lien on the assets of the Third Acquisition.
The Third Acquisition is a premier speaker manufacturer for the home consumer
market. Ranking among the ten largest speaker manufacturers in the world, the
Third Acquisition sells its well-established speaker lines in over fifty
countries worldwide. The Third Acquisition's dedication to a continuous cycle of
new products for its speaker line allows it to remain a dominant speaker player
in the world market.
Because the Company did not meet its revenue targets for 1998, it entered
into certain transactions, which provided additional funding as follows:
On July 27, 1998, the Company entered into subscription agreements (the
"Series D Subscription Agreements") to sell 6,000 shares of the Company's Series
D Convertible Preferred Stock ("Series D Preferred Stock") having an aggregate
stated value of $6.0 million in a private placement, pursuant to Regulation D of
the Securities Act of 1933, as amended (respectively, "Regulation D" and the
"Securities Act"), to six unrelated accredited investors through one dealer (the
"1998 Series D Preferred Stock Private Placement"). The sale of 6,000 shares of
Series D Preferred Stock having an aggregate $6.0 million stated value was
completed on August 6, 1998. $5.2 million net proceeds were received by the
Company from the 1998 Series D Preferred Stock Private Placement. Each share of
the Series D Preferred Stock has a par value of $.10 per share and a stated
value of one thousand dollars ($1,000) with an accretion rate of four percent
(4%) per annum on the stated value. Each share of Series D Preferred Stock is
convertible into fully paid and nonassessable shares of the Company's common
stock subject to certain limitations. Under the terms of the Series D
Subscription Agreements, the Company is required to file a registration
statement ("the Series D Registration Statement") covering the resale of all
shares of common stock of the Company issuable upon conversion of the Series D
Preferred Stock then outstanding within sixty (60) days after the completion of
the 1998 Series D Preferred Stock Private Placement (respectively, the "Series D
Filing Date" and the "Series D Closing Date"). The shares of Series D Preferred
Stock become convertible into shares of common stock at any time commencing
after the earlier of (i) ninety (90) days after the Series D Closing Date; (ii)
five (5) days after the Company receives a "no review" status from the SEC in
connection with the Series D Registration Statement; or (iii) the effective date
of the Series D Registration Statement. The Series D Registration Statement
became effective on October 30, 1998, and shares of Series D Preferred Stock
became convertible on that date. Each share of Series D Preferred Stock is
convertible into a number of shares of common stock of the Company as determined
in accordance with the following formula (the "Series D Conversion Formula"):
[(.04) x (N/365) x (1,000)] + 1,000
Conversion Price
where
N = the number of days between (i) the Series D Closing
Date, and (ii) the conversion date.
Conversion
Price = The greater of (i) the amount obtained by multiplying
the Conversion Percentage (which means 80% reduced by an
additional 2% for every 30 days that the Registration
Statement has not been filed by the Series D Filing
Date) in effect as of the conversion date times the
average market price for the Company's common stock for
the (5) consecutive trading days immediately preceding
such date; or (ii) $0.50.
The conversion terms of the Series D Preferred Stock also provide that in no
event shall the Company be obligated to issue more than 12,000,000 shares of its
common stock in the aggregate in connection with the conversion of the 6,000
shares of Series D Preferred Stock issued under the 1998 Series D Preferred
Stock Private Placement. The Series D Subscription Agreements also provide that
the Company will be required to make certain payments in the event of its
failure to effect conversion in a timely manner. Including shares of common
stock issued for accretion, as of March 12, 1999, all shares of Series D
Preferred Stock have been converted to 12,273,685 shares of NCT common stock.
On July 27, 1998, NCT Audio entered into subscription agreements (the "NCT
Audio Subscription Agreements") to sell 60 shares of NCT Audio's Series A
Convertible Preferred Stock ("NCT Audio Series A Preferred Stock") having an
aggregate stated value of $6.0 million in a private placement, pursuant to
Regulation D of the Securities Act, to six unrelated accredited investors
through one dealer (the "1998 NCT Audio Series A Preferred Stock Private
Placement"). The sale of 60 shares of NCT Audio Series A Preferred Stock having
an aggregate $6.0 million stated value was completed on August 17, 1998. NCT
Audio received net proceeds of $5.2 million from the 1998 NCT Audio Series A
Preferred Stock Private Placement. Each share of the NCT Audio Series A
Preferred Stock has a par value of $.10 per share and a stated value of one
hundred thousand dollars ($100,000) with an accretion rate of four percent (4%)
per annum on the stated value. Each share of NCT Audio Series A Preferred Stock
is convertible into fully paid and nonassessable shares of NCT Audio's common
stock subject to certain limitations. Under the terms of the NCT Audio
Subscription Agreements, NCT Audio is required to file a registration statement
("NCT Audio Registration Statement") covering the resale of all shares of common
stock of NCT Audio issuable upon conversion of the NCT Audio Series A Preferred
Stock then outstanding by a date (the "Series A Filing Deadline") which is not
later than thirty (30) days after the company becomes a "reporting company"
under the the Exchange Act. The shares of NCT Audio Series A Preferred Stock
become convertible into shares of NCT Audio common stock at any time after the
date the company becomes a "reporting company" under the Exchange Act. Each
share of NCT Audio Series A Preferred Stock is convertible into a number of
shares of common stock of NCT Audio as determined in accordance with the
following formula (the "NCT Audio Conversion Formula"):
[(.04) x (N/365) x (100,000)] + 100,000
Conversion Price
where
N = the number of days between (i) the date of completion
of the sale of the 60 shares of NCT Audio Series A
Preferred Stock being offered; and (ii) the conversion
date.
Conversion
Price = the greater of (i) the amount obtained by multiplying the
Conversion Percentage (which means 80% reduced by an additional 2%
for every 30 days that the NCT Audio Registration Statement has not
been filed by the Series A Filing Deadline) in effect as of such
date times the average market price for NCT Audio's common stock
for the (5) consecutive trading days immediately preceding such
date; or (ii) the "Floor Price" which means the lowest number per
share that will not cause the total number of shares of NCT Audio
common stock issuable upon the conversion of 60 shares of NCT Audio
Series A Preferred Stock to equal or exceed twenty percent (20%) of
the issued and outstanding shares of common stock of NCT Audio on
the date of issuance of the NCT Audio Series A Preferred Stock as
long as the common stock of NCT Audio is listed on the NASDAQ
National Market or the NASDAQ Small Cap Market (there is no "Floor
Price" if such listing is not so maintained by NCT Audio).
The conversion terms of the NCT Audio Series A Preferred Stock also provide
that in the event that NCT Audio has not become a "reporting company" under the
Exchange Act by December 31, 1998, or the NCT Audio Registration Statement has
not been declared effective by the SEC by December 31, 1998, the holder shall be
entitled to exchange each share of NCT Audio Series A Preferred Stock for 100
shares of the Company's Series D Convertible Preferred Stock and thereafter
shall be entitled to all rights and privileges of a holder of the Company's
Series D Preferred Stock. As of December 31, 1998, no NCT Audio Series A
Preferred Stock shareholders have exercised their right to exchange NCT Audio
Series A Preferred Stock into the Company's Series D Preferred Stock.
On December 30, 1998, the Company entered into a series of subscription
agreements (the " Series E Subscription Agreements") to sell an aggregate stated
value of up to $8.2 million of Series E Convertible Preferred Stock (the "Series
E Preferred Stock") in consideration of $4.0 million, in a private placement,
pursuant to Regulation D of the Securities Act, to six unrelated accredited
investors through one dealer (the "1998 Series E Preferred Stock Private
Placement"). The sale of 8,145 shares of Series E Preferred Stock having an
aggregate of $8.1 million stated value was completed on March 12, 1999. In 1999,
the Company received net proceeds of $1.8 million from the 1998 Series E
Preferred Stock Private Placement. In addition to the above noted Series E
Subscription Agreements, the Company issued and sold an aggregate amount of $1.7
million of Series E Preferred Stock to three accredited investors through the
above noted dealer, in exchange for an aggregate stated value of $1.7 million of
the Company's Series C Preferred Stock held by the three accredited investors.
The Company also issued and sold an aggregate amount of $0.7 million of Series E
Preferred Stock to four accredited investors through the above noted dealer, in
exchange and consideration for an aggregate of 2.1 million shares of the
Company's common stock held by the four accredited investors. Each share of the
Series E Preferred Stock has a par value of $.10 per share and a stated value of
one thousand dollars ($1,000) with an accretion rate of four percent (4%) per
annum on the stated value. Each share of Series E Preferred Stock is convertible
into fully paid and nonassessable shares of the Company's common stock subject
to certain limitations. Under the terms of the Series E Subscription Agreements,
the Company is required to file a registration statement ("the Series E
Registration Statement") on (i) Form S-3 (currently not eligible to use) on or
prior to the date which is no more than sixty (60) days from the date that the
Company has issued a total of 7,438 shares of Series E Preferred Stock if filed
or (ii) Form S-1 on or prior to a date which is no more than ninety (90) days
from the date that the Company has issued a total of 7,438 shares of Series E
Preferred Stock, covering the resale of all of the Registrable Securities (the
"Series E Closing Date"). The shares of Series E Preferred Stock become
convertible into shares of common stock at any time commencing after the earlier
of (i) ninety (90) days after the Series E Closing Date; (ii) five (5) days
after the Company receives a "no review" status from the SEC in connection with
the Registration Statement; or (iii) the effective date of the Series E
Registration Statement. Each share of Series E Preferred Stock is convertible
into a number of shares of common stock of the Company as determined in
accordance with the following formula (the "Series E Conversion Formula"):
[(.04) x (N/365) x (1,000)] + 1,000
Conversion Price
where
N = the number of days between (i) the Series E Closing
Date, and (ii) the conversion date.
Conversion
Price = the greater of (i) the amount obtained by multiplying
the Conversion Percentage (which means 80% reduced by an
additional 2% for every 30 days beyond 60 days from the
issuance that the Registration Statement has not been
filed by the Company) in effect as of the conversion
date times the average market price for the Company's
common stock for the (5) consecutive trading days
immediately preceding such date.
The conversion terms of the Series E Preferred Stock also provide that in no
event shall the Company be obligated to issue more than 30,000,000 shares of its
common stock in the aggregate in connection with the conversion of the 10,580
shares of Series E Preferred Stock issued under the 1998 Series E Preferred
Stock Private Placement. The Series E Subscription Agreements also provide that
the Company will be required to make certain payments in the event of its
failure to effect conversion in a timely manner. As of December 31, 1998, no
shares of Series E Preferred Stock have been converted to NCT common stock.
In connection with the Series E Preferred Stock, the Company may be obligated
to redeem the excess of the stated value over the amount permitted to be
converted into common stock. Such obligation will be triggered in the event that
the Company issues 30,000,000 shares on conversion of Series E Preferred Stock.
Cash and cash equivalents amounted to $0.5 million at December 31, 1998.
Management believes that currently available funds will not be sufficient to
sustain the Company for the next 12 months. Such funds consist of available cash
and cash from the exercise of warrants and options, the funding derived from
technology licensing fees, royalties and product sales and engineering
development revenue. Reducing operating expenses and capital expenditures alone
may not be sufficient, and continuation as a going concern is dependent upon the
level of realization of funding from technology licensing fees and royalties and
product sales and engineering and development revenue, all of which are
presently uncertain. In the event that technology licensing fees, royalties,
product sales and engineering and development revenue are not realized as
planned, then management believes additional working capital financing must be
obtained. There is no assurance any such financing is or would become available.
There can be no assurance that funding will be provided by technology license
fees, royalties and product sales and engineering and development revenue. In
that event, the Company would have to substantially reduce its level of
operations. These reductions could have an adverse effect on the Company's
relations with its strategic partners and customers. Uncertainty exists with
respect to the adequacy of current funds to support the Company's activities
until positive cash flow from operations can be achieved, and with respect to
the availability of financing from other sources to fund any cash deficiencies.
On June 16, 1998, the Nasdaq Stock Market, Inc. ("Nasdaq") notified the
Company that the Company's common stock had failed to maintain a closing bid
price of $1.00 or more for the previous thirty (30) consecutive trade dates in
accordance with Nasdaq's Marketplace Rule 4450(a)(5). Nasdaq also notified the
Company that no delisting action would be initiated at that time and that the
Company would be provided ninety (90) calendar days in which to regain
compliance with Marketplace Rule 4450(a)(5) which would be achieved if the
closing bid price of the shares of the Company's common stock equaled or
exceeded $1.00 for ten (10) consecutive days before the end of trading on
September 14, 1998. In this regard, Nasdaq advised the Company that in the event
the Company was unable to achieve compliance, it may seek further procedural
remedies. The Company was unable to achieve compliance by September 14, 1998,
and on that date delivered its request for a hearing on the matter together with
the requested fee to Nasdaq's Hearings Department. Such a hearing was held on
November 5, 1998. Under Nasdaq's procedures delisting was stayed pending the
outcome of the hearing. On January 6, 1999, Nasdaq notified the Company that the
Company's securities were delisted from Nasdaq effective with the close of
business, January 6, 1999. On January 20, 1999, the Company requested a review
of the Nasdaq decision. On February 16, 1999, Nasdaq advised the Company that
the issuance of a review decision will likely occur in July 1999. While a
delisting of the Company's common stock is not anticipated to have an immediate
effect on the Company's operations, it may make it more difficult for the
Company to raise additional capital to fund future operations.
The accompanying consolidated Financial Statements have been prepared
assuming that the Company will continue as a going concern, which contemplates
continuity of operations, realization of assets and satisfaction of liabilities
in the ordinary course of business. The propriety of using the going concern
basis is dependent upon, among other things, the achievement of future
profitable operations and the ability to generate sufficient cash from
operations, public and private financings and other funding sources to meet its
obligations. The uncertainties described in the preceding paragraphs raise
substantial doubt at December 31, 1998 about the Company's ability to continue
as a going concern. The accompanying consolidated Financial Statements do not
include any adjustments relating to the recoverability of the carrying amount of
recorded assets or the amount of liabilities that might result from the outcome
of these uncertainties.
Results of Operations
Year ended December 31, 1998 compared with year ended December 31, 1997.
Total revenues in 1998 decreased by 42% to $3.3 million from $5.7 million in
1997. Total expenses during the same period increased by 12% or $1.9 million,
primarily reflecting the increasing efforts in sales and marketing to introduce
new products.
Technology licensing fees and royalties decreased by 78% or $2.8 million to
$0.8 million from $3.6 million in 1997. The 1997 amount is primarily due to the
$3.0 million technology license fee from Verity and other technology licensing
fees aggregating $0.6 million. See Note 3 - "Notes to Financial Statements".
Product sales increased in 1998 by 22% to $2.1 million from $1.7 million in
1997 reflecting the introduction of the Gekko(TM) flat speakers and increased
sales in the NoiseBuster(R) product line and the ClearSpeech(R) product line.
Revenue from engineering and development services remained constant at $0.4
million primarily due to the de-emphasis of engineering development funding as a
primary source of revenue for the Company.
Cost of product sales decreased 2% to $2.2 million from $2.3 million in 1997
and the product margin increased to (7)% from (32)% in 1997. The negative margin
of $0.1 million and $0.6 million in 1998 and 1997, respectively, were primarily
due to reserves for inventory slow movement and tooling obsolescence in the
amount of $0.5 million and $0.7 million in 1998 and 1997, respectively, related
to the aviation and industrial headset product lines.
Cost of engineering and development services remained constant at $0.3
million primarily due to the de-emphasis of engineering development funding as a
primary source of revenue for the Company as noted above.
Selling, general and administrative expenses for the year increased by 115%
or $6.0 million to $11.2 million from $5.2 million for 1997 which was primarily
due to increased efforts in sales and marketing to introduce new products. Sales
and marketing personnel increased by 43% from 1997. In addition, there has been
an increase in consultants for the Company's focus on international sales.
Advertising increased by 227% or $1.2 million to $1.7 million from $0.5 million
primarily due to the introduction of new products through catalogs, mailings and
increased participation in trade shows.
Research and development expenditures for 1998 increased by 16% to $7.2
million from $6.2 million in 1997, primarily due to the acquisition of Advancel.
Included in the Company's total expenses were non-cash expenditures for
depreciation and amortization of $1.0 million for 1998 and $0.9 million in 1997.
Other income in 1998 was $3.3 million compared to zero in 1997. The 1998
other income consists of the gain the Company realized upon the exercise of a
stock option and the subsequent sale of NXT plc ordinary shares. The option had
been acquired by the Company in connection with a cross license agreement among
the Company, NXT plc and NXT.
In 1998, interest income increased to $0.4 million from $0.1 million in 1997
principally from funds on hand at the end of 1997.
The Company has net operating loss carryforwards of $85.8 million and
research and development credit carryforwards of $1.6 million for federal income
tax purposes at December 31, 1998. No tax benefit for these operating losses has
been recorded in the Company's financial statements. The Company's ability to
utilize its net operating loss carryforwards may be subject to an annual
limitation.
Year ended December 31, 1997 compared with year ended December 31, 1996.
Total revenues in 1997 increased by 81% to $5.7 million from $3.2 million in
1996. Total expenses during the same period increased by 11% or $1.6 million,
primarily reflecting the one-time $1.4 million non-cash interest charge
associated with the First Quarter 1997 Financing. See Note 8 - "Notes to
Financial Statements."
Technology licensing fees and royalties increased by 193% or $2.4 million to
$3.6 million from $1.2 million in 1996. The 1996 amount was derived principally
from numerous technology license fees reflecting the Company's continuing
emphasis on expanding technology license fee revenue. The 1997 amount is
primarily due to the $3.0 million technology license fee from Verity and other
technology licensing fees aggregating $0.6 million. See Note 3 - "Notes to the
Financial Statements".
Product sales increased in 1997 by 25% to $1.7 million from $1.4 million in
1996 reflecting increases in NoiseBuster Extreme!(TM) and aviation headset
sales.
Engineering and development services decreased by 33% to $0.4 million from
$0.5 million in 1996, primarily due to the de-emphasis of engineering
development funding as a primary source of revenue for the Company.
Cost of product sales increased 44% to $2.3 million from $1.6 million in 1996
and the product margin decreased to (32)% from (15)% in 1996. The negative
margin of $0.6 million in 1997 was primarily due to reserves for inventory
movement and tooling obsolescence in the amount of $0.7 million related to the
industrial headset product lines. The negative margin in 1996 was primarily due
to a lower sales price of the NoiseBuster(R) and a reserve for tooling
obsolescence in the amount of $0.3 million.
Cost of engineering and development services increased 26% to $0.3 million
from $0.2 million in 1996 primarily due to the de-emphasis of engineering
development funding as a primary source of revenue for the Company as noted
above.
Selling, general and administrative expenses for the year increased by 7% or
$0.3 million to $5.2 million from $4.9 million for 1996 which was primarily due
to increased professional fees and related expenses.
Depreciation and amortization included in selling, general and administrative
expenses decreased from $0.5 million in 1996 to $0.4 million primarily due to an
increase in fully depreciated machinery and equipment.
Research and development expenditures for 1997 decreased by 11% to $6.2
million from $7.0 million in 1996, primarily due to limited cash resources
during most of 1997 to fund internal development projects.
In 1997, interest income increased to $0.1 million from near zero in 1996
reflecting the increase in late 1997 of available funds to invest.
Under all of the Company's existing joint venture agreements at the end of
1997, the Company was not required to fund any capital requirements of these
joint ventures beyond its initial capital contribution. In accordance with U.S.
generally accepted accounting principles, when the Company's share of cumulative
losses equals its investment and the Company has no obligation or intention to
fund such additional losses, the Company suspends applying the equity method of
accounting for its investment.
<PAGE>
The Company has net operating loss carryforwards of $76.9 million and
research and development credit carryforwards of $1.3 million for federal income
tax purposes at December 31, 1997. No tax benefit for these operating losses has
been recorded in the Company's financial statements. The Company's ability to
utilize its net operating loss carryforwards may be subject to an annual
limitation.
Liquidity and Capital Resources
The Company's proceeds from the exercise of stock purchase warrants and
options were nominal in 1998, $1.1 million in 1997 and $1.0 million in 1996.
In January 1998, the Company adopted a plan that management believed would
generate sufficient funds for the Company to continue its operations into 1999.
The Company did not meet the plan's revenue targets for 1998 and as noted below,
found it necessary to raise additional capital to fund it's operations for 1998
and beyond (refer to Notes 1 and 8 Notes to Financial Statements.).
Because the Company did not meet its revenue targets for 1998, it entered
into certain transactions, which provided additional funding as follows:
On July 15, 1998 the Company transferred $5,000 and all of the business and
assets of its Hearing Products Division as then conducted by the Company and as
reflected on the business books and records of the Company to a newly
incorporated subsidiary company, NCT Hearing in consideration for 6,400 shares
of NCT Hearing common stock whereupon NCT Hearing became a wholly-owned
subsidiary of the Company. The Company also granted NCT Hearing an exclusive
worldwide license with respect to all of the Company's relevant patented and
unpatented technology relating to Hearing Products in consideration for (1) a
license fee of $3,000,000 to be paid when proceeds are available from the sale
of NCT Hearing common stock, and (2) running royalties payable with respect to
NCT Hearing's sales of products incorporating the licensed technology and its
sublicensing of such technology. It is anticipated that NCT Hearing will issue
additional shares of its common stock in transactions exempt from registration
in order to raise additional working capital.
On July 27, 1998, the Company entered into subscription agreements to sell
6,000 shares of the Company's Series D Preferred Stock having an aggregate
stated value of $6.0 million in a private placement, pursuant to Regulation D of
the Securities Act, to six unrelated accredited investors through one dealer.
The sale of 6,000 shares of Series D Preferred Stock having an aggregate $6.0
million stated value was completed on August 6, 1998. $5.2 million net proceeds
were received by the Company from the 1998 Series D Preferred Stock Private
Placement. Each share of the Series D Preferred Stock has a par value of $.10
per share and a stated value of one thousand dollars ($1,000) with an accretion
rate of four percent (4%) per annum on the stated value. Each share of Series D
Preferred Stock is convertible into fully paid and nonassessable shares of the
Company's common stock subject to certain limitations. Under the terms of the
Series D Subscription Agreements, the Company is required to file a registration
statement covering the resale of all shares of common stock of the Company
issuable upon conversion of the Series D Preferred Stock then outstanding within
sixty (60) days after the completion of the 1998 Series D Preferred Stock
Private Placement. The shares of Series D Preferred Stock become convertible
into shares of common stock at any time commencing after the earlier of (i)
ninety (90) days after the Series D Closing Date; (ii) five (5) days after the
Company receives a "no review" status from the SEC in connection with the Series
D Registration Statement; or (iii) the effective date of the Series D
Registration Statement. The Series D Registration Statement became effective on
October 30, 1998, and shares of Series D Preferred Stock became convertible on
that date. Each share of Series D Preferred Stock is convertible into a number
of shares of Common Stock of the Company as determined in accordance with the
Conversion Formula described above under "Overview".
The conversion terms of the Series D Preferred Stock also provide that in no
event shall the Company be obligated to issue more than 12,000,000 shares of its
common stock in the aggregate in connection with the conversion of the 6,000
shares of Series D Preferred Stock issued under the 1998 Series D Preferred
Stock Private Placement. The Series D Subscription Agreements also provide that
the Company will be required to make certain payments in the event of its
failure to effect conversion in a timely manner. Including shares of common
stock issued for accretion, as of March 12, 1999, all shares of Series D
Preferred Stock have been converted to 12,273,685 shares of NCT common stock.
<PAGE>
On July 27, 1998, NCT Audio distributed subscription agreements to sell 60
shares of NCT Audio's Series A Preferred Stock having an aggregate stated value
of $6.0 million in a private placement, pursuant to Regulation D of the
Securities Act, to six unrelated accredited investors through one dealer. The
sale of 60 shares of NCT Audio Series A Preferred Stock having an aggregate $6.0
million stated value was completed on August 17, 1998. NCT Audio received net
proceeds of $5.2 million from the 1998 Series A Preferred Stock Private
Placement. Each share of the NCT Audio Series A Preferred Stock has a par value
of $.10 per share and a stated value of one hundred thousand dollars ($100,000)
with an accretion rate of four percent (4%) per annum on the stated value. Each
share of NCT Audio Series A Preferred Stock is convertible into fully paid and
nonassessable shares of NCT Audio's common stock subject to certain limitations.
Under the terms of the NCT Audio Subscription Agreements, NCT Audio is required
to file a registration statement covering the resale of all shares of common
stock of NCT Audio issuable upon conversion of the NCT Audio Series A Preferred
Stock then outstanding by a date which is not later than thirty (30) days after
the company becomes a "reporting company" under the Exchange Act. The shares of
NCT Audio Series A Preferred Stock become convertible into shares of NCT Audio
common stock at any time after the date the company becomes a "reporting
company" under the Exchange Act. Each share of Series A Preferred Stock is
convertible into a number of shares of Series D Preferred Stock of the Company
as determined in accordance with the Conversion Formula described above under
"Overview".
The conversion terms of the NCT Audio Series A Preferred Stock also provide
that in the event that NCT Audio has not become a "reporting company" under the
Exchange Act by December 31, 1998, or the NCT Audio Registration Statement has
not been declared effective by the SEC by December 31, 1998, the holder shall be
entitled to exchange each share of NCT Audio Series A Preferred Stock for 100
shares of the Company's Series D Convertible Preferred Stock and thereafter
shall be entitled to all rights and privileges of a holder of the Company's
Series D Preferred Stock. As of December 31, 1998, no NCT Audio Series A
Preferred Stock shareholders have exercised their right to exchange NCT Audio
Series A Preferred Stock into the Company's Series D Convertible Preferred
Stock.
On July 29, 1998, the Company initiated a plan to repurchase from time to
time up to 10 million shares of the Company's common stock in the open market
pursuant to Rule 10b-18 under the Exchange Act or through block trades. As of
December 31, 1998, the Company had repurchased 5,607,100 shares of the Company's
common stock at per share prices ranging from $0.3438 to $0.6563. The stock
repurchase program was terminated on December 30, 1998.
On September 4, 1998, the Company acquired the issued and outstanding common
stock of Advancel, a Silicon Valley-based developer of microprocessor cores that
execute Sun Microsystems' Java(TM) code. The acquisition was pursuant to a stock
purchase agreement dated as of August 21, 1998 among the Company, Advancel and
certain shareholders of Advancel. The consideration for the acquisition of the
Advancel common stock consisted of an initial payment of $1.0 million payable by
the delivery of 1,786,991 shares of the Company's treasury stock together with
future payments, payable in cash or in common stock of the Company at the
election of the Advancel Shareholders based on Advancel's earnings before
interest, taxes, depreciation and amortization (as defined in the Stock Purchase
Agreement) for each of the calendar years 1999, 2000, 2001 and 2002. While each
earnout payment may not be less than $250,000 in any earnout year, there is no
maximum earnout payment for any earnout year or for all earnout years in the
aggregate. To determine the number of shares of the Company's common stock
issuable in connection with an earnout payment, each earnout payment is to be
calculated using the average of the closing prices of the Company's common stock
for each of the twenty (20) business days following the 21st day after the
release of Advancel's audited year-end financials for an earnout year. At that
time, Advancel Shareholders will elect to receive payment in cash or common
stock of the Company. In the event that the Company is unable to maintain the
registration statement covering the resale of 1,786,991 shares effective for at
least thirty (30) days, each Advancel Shareholder shall have the right, until
April 15, 1999, to have the Company redeem up to one-third of the initial
payment shares acquired by such Advancel Shareholder by paying in cash therefor
a sum calculated by using the formula used to determine the number of shares of
the Company's common stock to be delivered in payment of the initial payment of
$1.0 million. The cost of the acquisition has been allocated to the assets
acquired and liabilities assumed based on their fair values as follows:
<PAGE>
Asset acquired and liabilities assumed:
Current assets $ 368,109
Property, plant and equipment 4,095
Goodwill 1,018,290
Other assets 13,486
Current liabilities (485,040)
Unearned portion of compensatory stock 141,251
-------------
Cost of acquisition (including expenses of $60,191) $ 1,060,191
=============
The acquisition has been accounted for as a purchase and, accordingly, the
accompanying consolidated Financial Statements include the accounts of Advancel
from the date of acquisition.
On November 24, 1998, the Company paid $1,000 in consideration for a
wholly-owned subsidiary, DistributedMedia.com, Inc. ("DMC"). DMC was formed to
develop, install, and provide an audio/visual advertising medium within
commercial/professional settings.
On December 30, 1998, the Company entered into a series of subscription
agreements to sell an aggregate stated value of up to $8.2 million of Series E
Preferred Stock in consideration of $4.0 million, in a private placement,
pursuant to Regulation D of the Securities Act, to six unrelated accredited
investors through one dealer. The sale of 8,145 shares of Series E Preferred
Stock having an aggregate of $8.1 million stated value was completed on March
12, 1999. In 1999, the Company received net proceeds of $1.8 million from the
1998 Series E Preferred Stock Private Placement. In addition to the above noted
Series E Subscription Agreements, the Company issued and sold an aggregate
amount of $1.7 million of Series E Preferred Stock to three accredited investors
through the above noted dealer, in exchange for an aggregate stated value of
$1.7 million of the Company's Series C Preferred Stock held by the three
accredited investors. The Company also issued and sold an aggregate amount of
$0.7 million of Series E Preferred Stock to four accredited investors through
the above noted dealer, in exchange and consideration for an aggregate of 2.1
million shares of the Company's common stock held by the four accredited
investors. Each share of the Series E Preferred Stock has a par value of $.10
per share and a stated value of one thousand dollars ($1,000) with an accretion
rate of four percent (4%) per annum on the stated value. Each share of Series E
Preferred Stock is convertible into fully paid and nonassessable shares of the
Company's common stock subject to certain limitations. Under the terms of the
Series E Subscription Agreements, the Company is required to file a registration
statement covering the resale of all shares of common stock of the Company
issuable upon conversion of the Series E Preferred Stock then outstanding within
sixty (60) days after the completion of the 1998 Series E Preferred Stock
Private Placement. The shares of Series E Preferred Stock become convertible
into shares of common stock at any time commencing after the earlier of (i)
ninety (90) days after the Series E Closing Date; (ii) five (5) days after the
Company receives a "no review" status from the SEC in connection with the
Registration Statement; or (iii) the effective date of the Series E Registration
Statement. Each share of Series E Preferred Stock is convertible into a number
of shares of Common Stock of the Company as determined in accordance with the
Conversion Formula described above under "Overview".
The conversion terms of the Series E Preferred Stock also provide that in no
event shall the Company be obligated to issue more than 30,000,000 shares of its
common stock in the aggregate in connection with the conversion of the 10,580
shares of Series E Preferred Stock issued under the 1998 Series E Preferred
Stock Private Placement. The Series E Subscription Agreements also provide that
the Company will be required to make certain payments in the event of its
failure to effect conversion in a timely manner. As of December 31, 1998, no
shares of Series E Preferred Stock have been converted to NCT common stock.
In connection with the Series E Preferred Stock, the Company may be obligated
to redeem the excess of the stated value over the amount permitted to be
converted into common stock. Such obligation will be triggered in the event that
the Company issues 30,000,000 shares on conversion of Series E Preferred Stock.
On January 26, 1999, Carole Salkind, spouse of a former director and an
accredited investor (the "Holder"), subscribed and agreed to purchase secured
convertible notes of the Company in an aggregate principal amount of $4.0
million. A secured convertible note (the "Note"), for $1.0 million was signed on
January 26, 1999, and proceeds were received on January 28, 1999. The Note is to
mature on January 25, 2001 and earn interest at the prime rate as published from
day to day in the Wall Street Journal from the issue date until the Note becomes
due and payable. The Holder shall have the right at any time on or prior to the
day the Note is paid in full, to convert at any time, all or from time to time,
any part of the outstanding and unpaid amount of the Note, into fully paid and
non-assessable shares of common stock of the Company at the conversion price.
The conversion price shall be the lesser of (i) the average of the closing bid
prices for the common stock on the securities market on which the common stock
is being traded, for five (5) consecutive trading days prior to the date of
conversion or (ii) the fixed conversion price of $0.237. In no event will the
conversion price be less than $0.15 per share. The Holder shall purchase the
remaining $3.0 million principal amount of the secured convertible notes on or
before June 30, 1999.
<PAGE>
Management believes that currently available funds will not be sufficient to
sustain the Company for the next 12 months. Such funds consist of available cash
and cash from the exercise of warrants and options, the funding derived from
technology licensing fees, royalties and product sales and engineering
development revenue. Reducing operating expenses and capital expenditure alone
may not be sufficient and continuation as a going concern is dependent upon the
level of realization of funding from technology licensing fees, royalties and
product sales and engineering and development revenue, all of which are
presently uncertain. In the event that technology licensing fees, royalties,
product sales and engineering and development revenue are not realized as
planned, then management believes additional working capital financing must be
obtained. There is no assurance any such financing is or would become available.
There can be no assurance that funding will be provided by technology license
fees, royalties and product sales and engineering and development revenue. In
that event, the Company would have to substantially cut back its level of
operations. These reductions could have an adverse effect on the Company's
relations with its strategic partners and customers. Uncertainty exists with
respect to the adequacy of current funds to support the Company's activities
until positive cash flow from operations can be achieved, and with respect to
the availability of financing from other sources to fund any cash deficiencies.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern, which contemplates continuity of
operations, realization of assets and satisfaction of liabilities in the
ordinary course of business. The propriety of using the going concern basis is
dependent upon, among other things, the achievement of future profitable
operations and the ability to generate sufficient cash from operations, public
and private financings and other funding sources to meet its obligations. The
uncertainties described in the preceding paragraphs raise substantial doubt at
December 31, 1998 about the Company's ability to continue as a going concern.
The accompanying financial statements do not include any adjustments relating to
the recoverability of the carrying amount of recorded assets or the amount of
liabilities that might result from the outcome of these uncertainties.
The Company has incurred substantial losses from operations since its
inception, which have been recurring and amounted to $107.7 million on a
cumulative basis through December 31, 1998. These losses, which include the
costs for development of products for commercial use, have been funded primarily
from the sale of common stock, including the exercise of warrants or options to
purchase common stock, and by technology licensing and engineering and
development funds received from joint venture and other strategic partners.
Agreements with joint venture and other strategic partners generally require
that a portion of the initial cash flows, if any, generated by the ventures or
alliances be paid on a preferential basis to the Company's co-venturers until
the license fees and engineering and development funds provided to the venture
or the Company are recovered.
In early 1999, the Company implemented a plan that management believes should
generate sufficient additional funds for the Company to continue its operations
into 1999. Under this plan, the Company needs to generate approximately $22.7
million to fund its operations in 1999. Included in such amount is approximately
$10.8 million in sales of new products and approximately $11.9 million of
technology licensing fees and royalties. This amount excludes any revenues or
cash inflows from the anticipated pending acquisitions of the Company's
subsidiary, NCT Audio. The Company believes that it can generate these funds
from 1999 operations, although there is no certainty that the Company will
achieve this goal. Success in generating technology licensing fees, royalties
and product sales is significant and critical to the Company's ability to
succeed. The Company cannot predict whether it will be successful in obtaining
market acceptance of its new products or in completing its current negotiations
with respect to licenses and royalty revenues. If, during the course of 1999,
management of the Company determines that it will be unable to meet or exceed
the plan discussed above, the Company will consider cost reductions and/or
additional financing alternatives. The Company will monitor its performance
against the plan on a monthly basis and, if necessary, reduce its level of
operations accordingly. The Company believes that the plan discussed above
constitutes a viable plan for the continuation of the Company's business into
2000. See "Forward Looking Statements" above.
<PAGE>
There can be no assurance that additional funding will be provided by
technology licensing fees, royalties and product sales and engineering and
development revenue or additional capital. In that event, the Company would have
to cut back its level of operations substantially in order to conserve cash.
These reductions could have an adverse effect on the Company's relations with
its strategic partners and customers. See Note 1 Notes to Financial Statements.
At December 31, 1998, cash and cash equivalents were $0.5 million. The
available resources were invested in interest bearing money market accounts. The
Company's investment objective is preservation of capital while earning a
moderate rate of return.
The Company's working capital decreased from $11.7 million at December 31,
1997, to $(1.2) million as of December 31, 1998. This decrease was due primarily
to a decrease in cash and cash equivalents due to increasing efforts to develop
and introduce new product lines and to fund operations.
During 1998, the net cash used in operating activities was $12.8 million.
This utilization reflects the emphasis on the commercial development of its
technology into several product applications, which were scheduled for
introduction in 1998 and 1999.
The net cash used in investing activities amounted to $6.4 million. Of this
amount, $5.1 million was attributable to the acquisition related activities of
the Company's subsidiary, NCT Audio. Such investments included $3.5 million for
a 20% interest in TSA and a total of $1.5 million, which was loaned to PPI under
two demand promissory notes. The Company has signed letters of intent from both
TSA and PPI. See "Overview" above for further information. The net cash provided
by financing activities amounted to $7.2 million primarily from the 1998
financings noted above.
The Company has no lines of credit with banks or other lending institutions
and therefore has no unused borrowing capacity.
The Company believes that the level of financial resources available to it is
an essential competitive factor. The Company may elect to raise additional
capital, from time to time, through equity or debt financing in order to
capitalize on business opportunities and market conditions.
Capital Expenditures
The Company intends to continue its business strategy of working with supply,
manufacturing, distribution and marketing partners to commercialize its
technology. The benefits of this strategy include: (i) dependable sources of
electronic and other components, which leverages on their purchasing power,
provides important cost savings and accesses the most advanced technologies;
(ii) utilization of the manufacturing capacity of the Company's allies, enabling
the Company to integrate its active technology into products with limited
capital investment; and (iii) access to well-established channels of
distribution and marketing capability of leaders in several market segments.
There were no material commitments for capital expenditures as of December
31, 1998, and no material commitments are anticipated in the near future.
Year 2000 Compliance
The Company believes the cost of administrating its Year 2000 Compliance
program will not have a material adverse impact on future earnings. However, the
potential costs and uncertainties associated with any Year 2000 Compliance
program will depend on a number of factors, including software, hardware and the
nature of the industry in which the Company, its subsidiaries, suppliers and
customers operate. In addition, companies must coordinate with other entities
with which they electronically interact, such as customers, suppliers, financial
institutions, etc. The Company estimates that potential costs will not exceed
$0.1 million.
Although the Company's evaluation of its systems is still in process, there
has been no indication that the Year 2000 Compliance issue, as it relates to
internal systems, will have a material impact on future earnings. While the
Company is not aware of any material Year 2000 Compliance issues at its
customers and suppliers, such potential problems remain a possibility and could
have a material adverse impact on the Company's future results. The Company
estimates completion of the evaluation process by September 30, 1999.
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE
REGISTRANT.
The following table sets forth the names, ages, positions and the offices
held by each of the executive officers and directors of the Company as of March
23, 1999:
Name Age Positions and Offices
Jay M. Haft 63 Chairman of the Board of Directors
Michael J. Parrella 51 President, Chief Executive Officer and
Director
Irene Lebovics 46 Executive Vice President, Marketing
Cy E. Hammond 44 Senior Vice President, Chief Financial
Officer
Paul Siomkos, P.E. 52 Senior Vice President, Operations
Michael A. Hayes, 46 Senior Vice President, Chief Technical
Ph.D. Officer
Irving M. Lebovics 48 Senior Vice President, Global Sales
John J. McCloy II 61 Director
Samuel A. Oolie 62 Director
Stephan Carlquist 43 Director
Jay M. Haft currently serves as Chairman of the Board of Directors of the
Company. He served as President of the Company from November 1994 to July 1995.
He is also a Director of the Company's subsidiary, NCT Audio, a position which
he has held since August 25, 1997. In addition, Mr. Haft is a Director of the
Company's subsidiary, NCT Hearing Products, Inc. ("NCT Hearing"), a position to
which he was appointed on July 15, 1998. Mr. Haft is a strategic and financial
consultant for growth stage companies. He is active in international corporate
finance, mergers and acquisitions, as well as in the representation of emerging
growth companies. He has actively participated in strategic planning and fund
raising for many high-tech companies, leading edge medical technology companies
and technical product, service and marketing companies. He is a Managing General
Partner of Gen Am "1" Venture Fund, an international venture capital fund. Mr.
Haft is also a Director of numerous other public and private corporations,
including Robotic Vision Systems, Inc. (OTC), DCAP Group, Inc. (OTC), Encore
Medical Corporation (OTC), Viragen, Inc. (OTC), PC Service Source, Inc. (OTC),
DUSA Pharmaceuticals, Inc. (OTC), Oryx Technology Corp. (OTC) and Thrift
Management, Inc. (OTC). He is currently of counsel to Parker Duryee Rosoff &
Haft, in New York. He was previously a senior corporate partner of such firm
(1989-1994), and prior to that a founding partner of Wofsey, Certilman, Haft et
al (1966-1988). He is a member of the Florida Commission for Government
Accountability to the People and Treasurer of the Miami City Ballet.
Michael J. Parrella currently serves as President, Chief Executive Officer
and Director of the Company. He was elected President and Chief Operating
Officer of the Company in February 1988 and served in that capacity until
November 1994. From November 1994 to July 1995 Mr. Parrella served as Executive
Vice President of the Company. He initially became a Director in 1986 after
evaluating the application potential of the Company's noise cancellation
technology. At that time, he formed an investment group to acquire control of
the Board and to raise new capital to restructure the Company and its research
and development efforts. Mr. Parrella was appointed a Director on August 25,
1997, and serves as Chief Executive Officer and Acting President of NCT Audio, a
position to which he was elected on September 4, 1997. In addition, Mr. Parrella
is a Director of NCT Hearing, a position to which was appointed on July 15,
1998. Previously, Mr. Parrella served as Chairman of the Board of Environmental
Research Information, Inc., an environmental consulting firm, from December 1987
to March 1991.
Irene Lebovics currently serves as Executive Vice President, Marketing and
Communications, and President of NCT Hearing, a wholly-owned subsidiary of the
Company. She joined the Company as Vice President of NCT and President of NCT
Medical Systems (NCTM) in July 1989. In March 1990, NCTM became part of NCT
Personal Quieting and Ms. Lebovics served as President. In January 1993, she was
appointed Senior Vice President of the Company. In November 1994, Ms. Lebovics
became President of NCT Hearing. From August 1, 1995, to May 1, 1996, she also
served as Secretary of the Company. Ms. Lebovics has held various positions in
product marketing with Bristol-Myers, a consumer products company, and in
advertising with McCaffrey and McCall. On April 13, 1999, Ms. Lebovics was
elected Secretary of the Company. Irene Lebovics is the spouse of Irving M.
Lebovics, Senior Vice President, Global Sales.
Cy E. Hammond currently serves as Senior Vice President, Chief Financial
Officer of the Company. He joined the Company as Controller in January 1990 and
was appointed a Vice President in February 1994. Mr. Hammond also serves as
Acting Chief Financial Officer and Treasurer of NCT Audio, a position to which
he was elected on September 4, 1997. During 1989, he was Treasurer and Director
of Finance for Alcolac, Inc., a multinational specialty chemical producer. Prior
to 1989 and from 1973, Mr. Hammond served in several senior finance positions at
the Research Division of W.R. Grace & Co., the last of which included management
of the division's worldwide financial operations.
<PAGE>
Paul Siomkos, P.E., joined NCT in April 1998 as Senior Vice President of
Operations. Prior to NCT, Mr. Siomkos held the position of Director of
Operations at Perkin-Elmer, a major technology product manufacturer. For more
than 20 years, Mr. Siomkos managed a production volume in excess of $250
million. Mr. Siomkos holds a Bachelor's in Mechanical Engineering from the City
College of New York, a Master's in Industrial Engineering from Columbia
University and an MBA in Finance from the University of Connecticut. He is also
a licensed Professional Engineer.
Michael A. Hayes, Ph.D., currently serves as Senior Vice President, Chief
Technical Officer after joining the Company in 1996. During 1995 and 1994, Dr.
Hayes served as Deputy Project Director, Research Support for Antarctic Support
Associates, with operations in Chile, New Zealand, Australia, and Antarctica.
From 1991 to 1994, he served as Deputy Program Manager, Special Payloads, for
Martin Marietta Government Services (formerly General Electric Government
Services) while directly managing critical spacecraft sub-system and instrument
development for Goddard Space Flight Center. Prior to 1991, Dr. Hayes served as
a research faculty member at Georgia Institute of Technology, and as a Senior
Process Engineer at Texas Instruments.
Irving M. Lebovics currently serves as Senior Vice President, Global Sales.
He joined the Company in February 1998 as Vice President, Worldwide Sales. From
January 1996 to February 1998 Mr. Lebovics was a principal of Enhanced Signal
Processing which exclusively sold the Company's technologies to large original
equipment manufacturers. From 1993 to 1996, Mr. Lebovics served as Vice
President of Sales for Kasten Chase Applied Research, a wide area network
hardware and software provider to companies such as Dow Jones and the Paris and
Madrid stock exchanges. From 1985 to 1993, Mr. Lebovics served as Vice President
of Sales for Relay Communications, a provider of PC-to-mainframe communications
software and Microcom, Inc. (which acquired Relay Communications), a leading
provider of modems and local area network equipment including bridges and
routers. Irving M. Lebovics is the spouse of Irene Lebovics, Executive Vice
President of the Company.
John J. McCloy II currently serves as a Director of the Company. He served as
Chief Executive Officer of the Company from September 1987 to November 1994 and
as its Chairman of the Board from September 1986 to November 1994. Additionally,
he served as Chief Financial Officer from November 1990 to February 1993 and as
its Secretary-Treasurer from October 1986 to September 1987. Mr. McCloy was
appointed a Director of the Company's subsidiary, NCT Audio, on November 14,
1997. Since 1981, he has been a private investor concentrating on venture
capital and early stage investment projects in a variety of industries. Mr.
McCloy is also a director of American University in Cairo, the Sound Shore Fund,
Inc., and the Atlantic Council.
Sam Oolie currently serves as a Director of the Company. Mr. Oolie also
serves as a Director of the Company's subsidiary, NCT Audio, a position to which
he was appointed on September 4, 1997. He is Chairman and Chief Executive
Officer of NoFire Technologies, Inc., a manufacturer of high performance fire
retardant products, and has held that position since August 1995. He is also
Chairman of Oolie Enterprises, an investment company, and has held that position
since July 1985. Mr. Oolie currently serves as a director of Avesis, Inc. and
Comverse Technology, Inc. He has also served as a director of CFC Associates, a
venture capital partnership, from January 1984 to December 1998.
Stephan Carlquist was elected as a Director of the Company on July 14, 1997,
and currently serves as a Director of the Company. Mr. Carlquist also currently
serves as a Director of NCT Audio since his appointment on November 14, 1997. He
is President of Electrolux IT Solutions with worldwide responsibility for IT
Services within the Electrolux Group and has held this position since June 1998.
From 1993 to June 1998, Mr. Carlquist was President of ABB Financial Services,
Inc. (USA), one of four business segments in the ABB Group and from June 1990 to
June 1998, he was as well President of ABB Treasury Center (USA), Inc. From
April 1988 to 1990, he was Executive Vice President of ABB World Treasury
Center, Zurich, and from April 1986 to April 1988, he was the President of the
Geneva branch of ASEA Capital Corporation. Mr. Carlquist joined ASEA AB in
September 1983 as Manager, International Cash Management and served in that
capacity until April 1986. From February 1981 to April 1983, he was employed as
a Foreign Exchange Manager/Cash Manager at Atlas Copco AB.
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), requires the Company's officers and directors, and persons who
own more than 10% of a registered class of the Company's equity securities, to
file reports of ownership and changes in ownership with the Securities and
Exchange Commission. Officers, directors and greater than 10% stockholders are
required by regulations of the Securities and Exchange Commission to furnish the
Company with copies of all such reports. Based solely on its review of the
copies of such reports received by it, or written representations from certain
reporting persons that no reports were required for those persons, the Company
believes that, during the period from January 1, 1998, to December 31, 1998, all
filing requirements applicable to its officers, directors, and greater than 10%
stockholders were complied with.
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
Set forth below is certain information for the three fiscal years ended
December 31, 1998, 1997 and 1996 relating to compensation received by the
Company's Chief Executive Officer and all executive officers of the Company
other than the Chief Executive Officer (collectively the "Named Executive
Officers") whose total annual salary and bonus for the fiscal year ended
December 31, 1998 exceeded $100,000 for services rendered in all capacities.
<TABLE>
<CAPTION>
Securities
Underlying
Other Options/ All
Name and Principal Annual Warrants Other
Position Year Salary ($) Bonus ($) Compensation SARs (#) Compensation
- ------------------ ---- ---------- --------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Parrella 1998 $120,000 $205,889 $20,615 12,000,000 (2) $ 5,918 (4)
President and 1997 120,000 243,058 15,348 3,062,500 (3) 5,218 (4)
Chief Executive 1996 120,000 106,885 15,348 475,000 5,218 (4)
Officer (1)
Paul D. Siomkos 1998 105,192 78,125 (5) 8,367 1,000,000 (2) -
Senior Vice President, 1997 - - - - -
Operations 1996 - - - - -
Cy E. Hammond 1998 94,000 42,570 12,000 500,000 (2) -
Senior Vice President, 1997 94,000 65,939 - 150,000 (6) -
Chief Financial 1996 94,000 - - - -
Officer
Irving M. Lebovics 1998 89,583 (7) - 27,917 600,000 (2) -
Senior Vice President, 1997 - - - 100,000 (7) -
Global Sales 1996 - - - 100,000 (7) -
John B. Horton 1998 105,000 - 12,000 200,000 (2) -
Senior Vice President, 1997 105,000 50,000 - 325,000 (10) -
General Counsel and 1996 116,932(9) - - - -
and Secretary (8)
Irene Lebovics 1998 105,000 - 12,000 2,000,000 (2) -
Executive Vice 1997 105,000 - - 301,250 (11) -
President, and 1996 105,000 - - - -
President of
NCT Hearing
Products, Inc.
</TABLE>
(1) Mr. Haft was elected Chairman of the Board and relinquished the title of
Chief Executive Officer on July 17, 1996. Prior thereto, and from November
15, 1994, Mr. Haft served as Co-Chairman of the Board and Chief Executive
Officer. From July 17, 1996 to June 19, 1997, the authority and
responsibility of the Chief Executive Officer were delegated by the Board
of Directors to the Executive Committee consisting of Messrs. Haft and
Parrella with Mr. Haft serving as the Committee's Chairman. Mr. Parrella
was elected Chief Executive Officer on June 19, 1997.
(2) Refer to "Options and Warrants Granted in 1998" table and the footnotes
thereto. On December 4, 1998, the following options were cancelled: as to
Mr. Parrella, 6,000,000 shares; as to Mr. Siomkos, 500,000 shares; as to
Mr. Hammond, 250,000 shares; as to Mr. Lebovics, 300,000 shares; as to Mr.
Horton, 100,000 shares; and as to Ms. Lebovics, 1,000,000 shares.
(3) Includes a warrant to purchase 862,500 shares of the Company's common
stock and an option to purchase 250,000 shares of the Company's common
stock as new grants due to the extension of the expiration dates for an
additional two years.
(4) Consists of annual premiums for a $2.0 million personal life insurance
policy paid by the Company on behalf of Mr. Parrella.
(5) Represents the fair market value on the date of grant of 100,000 shares of
the Company's common stock issued in connection with his offer of
employment.
(6) Includes a warrant to purchase 25,000 shares of the Company's common stock
as a new grant due to the extension of the expiration date for an
additional two years.
(7) From January 1, 1996 to February 12, 1998, services were rendered to the
Company by Enhanced Signal Processing ("ESP"), a firm in which Mr.
Lebovics was a principal. During that period, ESP received $0.5 million
from the Company, which included but was not limited to Mr. Lebovics'
services. While employed by ESP, ESP received options to purchase 400,000
shares of the Company's common stock of which options to purchase 200,000
shares were assigned to Mr. Lebovics.
(8) Mr. Horton resigned as Senior Vice President, General Counsel and Secretary
on February 19, 1999. Ms. Lebovics was elected Secretary of the Company on
April 13, 1999.
(9) Mr. Horton was elected Senior Vice President, General Counsel and
Secretary of the Company on May 6, 1996. Services were rendered by Mr.
Horton as a consultant to the Company for the period January, 1995 through
April, 1996.
(10) Includes an option to purchase 200,000 shares of the Company's common
stock as a new grant due to the extension of the expiration date for an
additional two years.
(11) Includes a warrant to purchase 201,250 shares of the Company's common
stock as a new grant due to the extension of the expiration date for an
additional two years.
Stock Options and Warrants
The following table summarizes the Named Executive Officers' stock option and
warrant activity during 1998:
<TABLE>
<CAPTION>
Options and Warrants Granted in 1998
Percent
of Total Potential
Options Realized Value
Shares and at Assumed Annual
Underlying Warrants Rates of Stock Price
Options Granted Exercise Appreciation for Option
and to Price and Warrant Term (6)
Warrants Employees Per Expiration -----------------------------
Name Granted in 1998 Share Date 5% 10%
- --------------------- ------------- --------- -------- ------------ -------------- --------------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Parrella 6,000,000 (1) 27.3% $0.3125 01/14/08 $1,045,296 $2,563,715
6,000,000 (2) 27.3% 1.0625 - (2) - (2) - (2)
Paul D. Siomkos 500,000 (3) 2.3% 0.3125 04/19/08 87,108 213,643
500,000 (2) 2.3% 0.7813 - (2) - (2) - (2)
Cy E. Hammond 250,000 (4) 1.1% 0.3125 02/13/08 43,554 106,821
250,000 (2) 1.1% 1.0313 - (2) - (2) - (2)
Irving M. Lebovics 300,000 (5) 1.4% 0.3125 02/13/08 52,265 128,186
300,000 (2) 1.4% 1.0313 - (2) - (2) - (2)
John B. Horton 100,000 (4) 0.5% 0.3125 02/13/08 17,422 42,729
100,000 (2) 0.5% 1.0313 - (2) - (2) - (2)
Irene Lebovics 1,000,000 (4) 4.5% 0.3125 02/13/08 174,216 427,286
1,000,000 (2) 4.5% 1.0313 - (2) - (2) - (2)
</TABLE>
(1) Options to purchase these shares were granted pursuant to the 1992 Plan,
of which an option to purchase 2,000,000 shares is currently exercisable
and the remaining amount vest over the passage of time.
(2) Options to purchase these shares were cancelled on December 4, 1998.
(3) Options to purchase these shares were granted pursuant to the 1992 Plan
and in connection with an offer of employment and vest 25% immediately and
25% on the anniversary date each year following.
(4) Options to purchase these shares were granted pursuant to the 1992 Plan
and vested 20% on October 20, 1998 upon the Company's stockholders'
approval of the increase in the number of shares of the Company's common
stock included in the 1992 Plan. The remaining amount vest 20% on the
anniversary date of each grant.
(5) Options to purchase these shares were granted pursuant to the 1992 Plan
and vested 25% on October 20, 1998 upon the Company's stockholders'
approval of the increase in the number of shares of the Company's common
stock included in the 1992 Plan. The remaining amount vest 25% on the
anniversary date of each grant.
(6) The dollar amounts on these columns are the result of calculations at the
5% and 10% rates required by the SEC and, therefore, are not intended to
forecast possible future appreciation, if any, of the stock price.
<PAGE>
<TABLE>
<CAPTION>
1998 Aggregated Options and Warrant Exercises and
December 31, 1998 Option and Warrant Values
Number of Shares
Number Underlying Value of Unexercised
of Unexercised Options In-the-Money Options
Shares and Warrants at and Warrants at
Acquired December 31, 1998 December 31, 1998
on Value ------------------------------- ------------------------ ------
Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
- ----------------------- -------- -------- ------------- ---------------- ------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Parrella - $ - 6,237,000 4,000,000 $ 7,043 $ -
Paul D. Siomkos - - 125,000 375,000 - -
Cy E. Hammond - - 444,718 200,000 783 -
Irving M. Lebovics - - 275,000 225,000 1,565 -
John B. Horton - - 654,417 80,000 783 -
</TABLE>
Compensation Arrangements with Certain Officers and Directors
On February 1, 1996, the Compensation Committee awarded Mr. Parrella an
incentive bonus equal to 1% of the cash received by the Company upon the
execution of the agreement or other documentation evidencing transactions with
unaffiliated parties (other than certain parties involved in transactions then
in negotiation) or otherwise received at the closing of said transactions which
occur subsequent to January 1, 1996.
<PAGE>
Compensation Committee Interlocks and Insider Participation
During the fiscal year ended December 31, 1998, the following persons
served as members of the Compensation Committee of the Company's Board of
Directors: Stephan Carlquist, Morton Salkind and Sam Oolie. Mr. Carlquist was
Chairman of the Committee during such fiscal year. Messrs. Carlquist and Oolie
have also served as members of the Board of Directors of NCT Audio since
November 14, 1997, and September 4, 1997, respectively. Mr. Salkind resigned as
Director of the Company and Director of NCT Audio on January 19, 1999.
In October 1990, the Company's Board of Directors authorized the issuance of
warrants to acquire 420,000 shares of common stock to each of Messrs. McCloy,
Parrella and Oolie and Ms. Lebovics, exercisable through September 30, 1994, at
$0.375 per share, such price being the market price of the Company's common
stock on the date of such authorization. The Board of Directors took such action
based upon each such person's commitment to extend his or her personal guarantee
on a joint and several basis with the others in support of the Company's attempt
to secure bank or other institutional financing, the amount of which to be
covered by the guarantee would not exceed $350,000. No firm commitment for any
such financing has been secured by the Company and at present no such financing
is being sought. However, each of such persons' commitment to furnish said
guarantee continues in full force and effect.
In 1989, the Company established a joint venture with Environmental Research
Information, Inc., ("ERI") to jointly develop, manufacture and sell (i) products
intended for use solely in the process of electric power generation,
transmission and distribution and which reduce noise and/or vibration resulting
from such process, (ii) personal quieting products sold directly to the electric
utility industry, and (iii) products that reduce noise and/or vibration
emanating from fans and fan systems (collectively, "Power and Fan Products"). In
1991, in connection with the termination of this joint venture, the Company
agreed, among other things, during the period ending February 1996 to make
payments to ERI equal to (i) 4.5% of the Company's sales of Power and Fan
Products and (ii) 23.75% of fees derived by the Company from its license of
Power and Fan Products technology, subject to an overall maximum of $4,500,000.
Michael J. Parrella, President of the Company, was Chairman of ERI at the time
of both the establishment and termination of the joint venture and owns
approximately 12% of the outstanding capital of ERI. In addition, Jay M. Haft,
Co-Chairman and Chief Executive Officer of the Company, shares investment
control over an additional 24% of the outstanding capital of ERI. The Company
believes that the respective terms of both the establishment of the joint
venture with ERI and its termination were comparable to those that could have
been negotiated with other persons or entities. During the fiscal year ended
December 31, 1998, the Company was not required to make any such payments to ERI
under these agreements.
In 1993, the Company entered into three Marketing Agreements with Quiet Power
Systems, Inc. ("QSI") (until March 2, 1994, "Active Acoustical Solutions,
Inc."), a company which is 33% owned by ERI and 2% owned by Mr. Haft. Under the
terms of one of these Marketing Agreements, QSI has undertaken to use its best
efforts to seek research and development funding for the Company from electric
and natural gas utilities for applications of the Company's technology to their
industries. In exchange for this undertaking, the Company has issued a warrant
to QSI to purchase 750,000 shares of Common Stock at $3.00 per share. The last
sale price for the Common Stock reported on the NASDAQ National Market System on
May 15, 1993, the date of the Marketing Agreement, was $2.9375. The warrant
becomes exercisable as to specific portions of the total 750,000 shares of
Common Stock upon the occurrence of defined events relating to QSI's efforts to
obtain such funding for the Company. When such defined events occur, the Company
will record a charge for the amount by which the market price of the Common
Stock on such date exceeds $3.00 per share, if any. The warrant remains
exercisable as to each such portion from the occurrence of the defined event
through October 13, 1998. As of December 31, 1994, contingencies had been
removed against 525,000 warrants resulting in a 1993 non-cash charge of
$120,250. This Marketing Agreement also grants to QSI a non-exclusive right to
market the Company's products that are or will be designed and sold for use in
or with equipment used by electric and/or natural gas utilities for non-retrofit
applications in North America. QSI is entitled to receive a sales commission on
any sales to a customer of such products for which QSI is a procuring cause in
obtaining the first order from such customer. In the case of sales to utility
company customers, the commission is 6% of the revenues received by the Company.
On sales to original equipment manufacturers for utilities, the commission is 6%
of the gross revenue NCT receives on such sales from the customer in the first
year, 4% in the second year, 2% in the third year, 1% in the fourth year and .5%
in any future years after the fourth year. QSI is also entitled to receive a 5%
commission on any research and development funding it obtains for NCT, and on
any license fees it obtains for the Company from the license of the Company's
technology. The initial term of this Agreement is three years renewable
automatically thereafter on a year-to-year basis unless a party elects not to
renew.
Under the terms of the second of the three Marketing Agreements, QSI is
granted a non-exclusive right to market the Company's products that are or will
be designed and sold for use in or with feeder bowls throughout the world,
excluding Scandinavia and Italy. Under this Marketing Agreement, QSI is entitled
to receive commissions similar to those payable to end user and original
equipment manufacturer customers described above. QSI is also entitled to
receive the same 5% commission described above on research and development
funding and technology licenses which it obtains for the Company in the feeder
bowl area. The initial term of this Marketing Agreement is three years with
subsequent automatic one-year renewals unless a party elects not to renew.
Under the terms of the third Marketing Agreement, QSI is granted an exclusive
right to market the Company's products that are or will be designed and sold for
use in or with equipment used by electric and/or natural gas utilities for
retrofit applications in North America. QSI is entitled to receive a sales
commission on any sales to a customer of such products equal to 129% of QSI's
marketing expenses attributable to the marketing of the products in question,
which expenses are to be deemed to be the lesser of QSI's actual expenses or 35%
of the revenues received by the Company from the sale of such products. QSI is
also entitled to receive a 5% commission on research and development funding
similar to that described above. QSI's exclusive rights continue for an
indefinite term provided it meets certain performance criteria relating to
marketing efforts during the first two years following product availability in
commercial quantity and minimum levels of product sales in subsequent years. In
the event QSI's rights become non-exclusive, depending on the circumstances
causing such change, the initial term then becomes either three or five years
from the date of this Marketing Agreement, with subsequent one-year automatic
renewals in each instance unless either party elects not to renew. During the
fiscal year ended December 31, 1998, the Company was not required to pay any
commissions to QSI under any of these Marketing Agreements.
The Company has also entered into a Teaming Agreement with QSI under which
each party agrees to be responsible for certain activities relating to
transformer quieting system development projects to be undertaken with utility
companies. Under this Teaming Agreement, QSI is entitled to receive 19% of the
amounts to be received from participating utilities and the Company is entitled
to receive 81%. During the fiscal year ended December 31, 1998, the Company made
no payments to QSI for project management services.
In March 1995, the Company entered into a Master Agreement with QSI under
which QSI was granted an exclusive worldwide license under certain NCT patents
and technical information to market, sell and distribute transformer quieting
products, turbine quieting products and certain other products in the utility
industry. Under the Master Agreement, QSI is to fund development of the products
by the Company and the Company is to manufacture the products. However, QSI may
obtain the right to manufacture the products under certain circumstances,
including NCT's failure to develop the products or the failure of the parties to
agree on certain development matters. In consideration of the rights granted
under the Master Agreement, QSI is to pay the Company a royalty of 6% of the
gross revenues received from the sale of the products and 50% of the gross
revenues received from sublicensing the rights granted to QSI under the Master
Agreement after QSI has recouped 150% of the costs it incurred in the
development of the products in question. The Company is obligated to pay similar
royalties to QSI on its sale of the products and the licensing of rights covered
under the Master Agreement outside the utility industry and from sales and
licensing within the utility industry in the Far East. In addition to the
foregoing royalties, QSI is to pay an exclusivity fee to the Company of
$750,000; $250,000 of which QSI paid to the Company in June 1994. The balance is
payable in equal monthly installments of $16,667 beginning in April 1995. QSI's
exclusive rights become non-exclusive with respect to all products if it fails
to pay any installment of the exclusivity fee when due. QSI also loses such
rights with respect to any given product in the event it fails to make any
development funding payment applicable to that product. The Master Agreement
supersedes all other agreements relating to the products covered under the
Master Agreement, including those agreements between the Company and QSI
described above.
Immediately following the execution to the Master Agreement, the Company and
QSI entered into a letter agreement providing for the termination of the Master
Agreement at the Company's election if QSI did not pay approximately $500,000 in
payables then owed to the Company by May 15, 1995.
In April 1995, the Company and QSI entered into a second letter agreement
under which QSI agreed to forfeit and surrender the five year warrant to
purchase 750,000 shares of the Company's common stock issued to QSI under the
first Marketing Agreement described above. In addition, the $500,000 balance of
the exclusivity fee provided for under the Master Agreement was reduced to
$250,000 to be paid in 30 monthly installments of $8,333 each. The payment of
the indebtedness to be paid under the first agreement described in the preceding
paragraph also was revised to be the earlier of May 15, 1996, or the date of
closing of a financing of QSI in an amount exceeding $1.5 million, whichever
first occurs. Such indebtedness is to be evidenced by a promissory note,
nonpayment of which is to constitute an event of termination under the Master
Agreement.
<PAGE>
On May 21, 1996, the Company and QSI entered into a third letter agreement
extending the time by which the payments from QSI to the Company under the April
1995 letter agreement described above were to be made. Under the third letter
agreement, the payment of certain arrearages in the payment of the exclusivity
fee was to be made not later than June 15, 1996, with the balance continuing to
be payable by monthly payments of $8,333 as provided in the May 1995 letter
agreement. In addition, the payment of the other indebtedness owed by QSI to the
Company was to be paid by a payment of $25,000 at the time QSI obtained certain
anticipated financing, with the balance paid by monthly payments of $15,000
each. Default in QSI's timely payment of any of the amounts specified in the May
21, 1996 letter agreement was to cause the immediate termination of the Master
Agreement and all rights granted to QSI thereunder.
On April 9, 1997, the Company and QSI entered into a fourth letter agreement
revising the payment schedule set forth in the May 21, 1996 letter agreement
applicable to the payment of the indebtedness owed to the Company by QSI other
than the unpaid portion of the exclusivity fee. Under the revised schedule, the
full amount of such indebtedness is to be paid by an initial payment of $125,000
on or before April 21, 1997, and a second payment of $200,000 on January 1,
1998. The Company is also entitled to receive 15% of any other financing
obtained by QSI in the interim and interest at the rate of 10% per annum on the
unpaid amount of such indebtedness from July 1, 1997. The fourth letter
agreement also provides for the continuation of QSI's payment of the exclusivity
fee in accordance with the earlier letter agreements, as well as the payment of
$11,108 by April 21, 1997, for headset products sold by the Company to QSI in
1996. In the event of a default in QSI's timely payment of any of the amounts
specified in the April 9, 1997 letter agreement, the Company has the right to
cause the termination of the Master Agreement and all rights granted by QSI
thereunder upon ten (10) days notice of termination to QSI.
As of December 31, 1998, QSI owes the Company $239,000, which is fully
reserved, for the exclusivity fee, rent and engineering services.
The Company believes that the terms of its agreements with QSI are comparable
to those that it could have negotiated with other persons or entities.
On January 26, 1999, Carole Salkind, spouse of a former director and an
accredited investor, subscribed and agreed to purchase secured convertible notes
of the Company in an aggregate principal amount of $4.0 million. A secured
convertible note, for $1.0 million was signed on January 26, 1999, and proceeds
were received on January 28, 1999. The Note is to mature on January 25, 2001 and
earn interest at the prime rate, as published from day to day in the Wall Street
Journal, from the issue date until the Note becomes due and payable. The Holder
shall have the right at any time on or prior to the day the Note is paid in
full, to convert at any time, all or from time to time, any part of the
outstanding and unpaid amount of the Note, into fully paid and non-assessable
shares of common stock of the Company at the conversion price. The conversion
price shall be the lesser of (i) the average of the closing bid prices for the
common stock on the securities market on which the common stock is being traded,
for five (5) consecutive trading days prior to the date of conversion, or (ii)
the fixed conversion price of $0.237. In no event will the conversion price be
less than $0.15 per share. The Holder shall purchase the remaining $3.0 million
principal amount of the secured convertible notes on or before June 30, 1999.
<PAGE>
Compensation Committee Report on Executive Compensation
As previously reported, at the conclusion of the Annual Meeting of
Stockholders on July 17, 1996, Mr. Haft resigned as Chief Executive Officer of
the Company and was appointed Chairman of the Board of Directors. The Board of
Directors designated an Executive Committee comprised of Messrs. Haft and
Parrella, with Mr. Haft acting as the Chairman of the Committee. The Board of
Directors granted the Executive Committee the power and authority to act in the
place of the Chief Executive Officer during the existence of a vacancy in that
office. On June 19, 1997, Mr. Parrella was re-elected President and was elected
Chief Executive Officer of the Company. At the conclusion of the Annual Meeting
of Stockholders on October 20, 1998, Mr. Parrella was re-elected President and
Chief Executive Officer of the Company.
Mr. Parrella's salary for 1998 was continued at the rate of $120,000 per
year, the same as his salary in 1997 and 1996. As reported in last year's
Compensation Committee Report, on May 8, 1995, the Compensation Committee, in
recognition of the efforts of Mr. Parrella under the difficult conditions the
Company was then facing and in recognition of the importance of his continued
services to the ongoing restructuring program, awarded Mr. Parrella a cash bonus
of 1% of the cash to be received by the Company upon the establishment of
certain significant business relationships. Any such percentage bonus was made
contingent upon the execution of relevant documentation or other form of closing
with regard to these relationships. Effective January 1, 1996, the above noted
percentage bonus arrangement was extended indefinitely until modified or
terminated by the Board of Directors. Mr. Parrella was paid a bonus of $205,889
under this percentage bonus arrangement during 1998. On January 15, 1998, the
Board of Directors granted Mr. Parrella an option to purchase 6,000,000 shares
of the Company's common stock. Vesting requirements were as follows: As to
2,000,000 shares, the date on which the Company's stockholders approve an
amendment to the 1992 Plan increasing the number of shares covered by the 1992
Plan to 30,000,000 shares and providing for the other matters set forth in the
resolutions adopted by the Board of Directors on January 15, 1998 (the "1/15/98
Amendment"); as to another 2,000,000 shares, the later to occur of (i) the date
on which the Company's stockholders approve the 1/15/98 Amendment, or (ii) the
date on which the Company's common stock has traded on The Nasdaq Stock Market,
Inc.'s National Market System, Small Cap Market or Electronic Bulletin Board or
other national or regional exchange or public trading facility as may then be
applicable at a price of $2.50 per share or more for the preceding 60
consecutive days or January 15, 2001, whichever shall first occur; as to the
remaining 2,000,000 shares, the later to occur of (i) the date described in
clause (i) of the preceding sentence, or (ii) the date on which the Company's
common stock has traded on the trading facilities in clause (ii) of the
preceding sentence at a price of $3.50 per share or more for the preceding 60
consecutive days or the date set forth in clause (ii) of the preceding sentence,
whichever shall first occur. In addition, in 1998, Mr. Parrella received a
$20,615 annual automobile allowance and the Company paid the $5,918 annual
premium for a $2.0 million personal life insurance policy on his behalf.
The base salary of Mr. Siomkos, as Senior Vice President, Operations, was
established at $150,000. In addition to the salary, the Company granted him a
one-time bonus of 100,000 shares of the Company's common stock in connection
with his employment offer. Mr. Siomkos was granted an option to purchase 500,000
shares of the Company's common stock at an exercise price of $0.7813 per share
on April 20, 1998, also in connection with his offer of employment. On December
4, 1998, the option was cancelled and reissued at $0.3125, the fair market value
on the date of grant. In addition, Mr. Siomkos received an $8,367 automobile
allowance.
The base salary of Mr. Hammond, as Senior Vice President, Chief Financial
Officer, was $94,000 for 1998, the same as his salary in 1997 and 1996. In
recognition of Mr. Hammond's efforts in connection with the Company's private
placements of $16.0 million of convertible preferred stock and other
accomplishments, Mr. Hammond was awarded a cash bonus of $42,570 in 1998. In
addition, the Company granted Mr. Hammond an option to purchase 250,000 shares
of the Company's common stock at an exercise price of $1.0313 per share on
February 14, 1998. On December 4, 1998, the option was cancelled and reissued at
$0.3125, the fair market value on the date of grant. In addition, in 1998, Mr.
Hammond received a $12,000 annual automobile allowance. On April 13, 1999, Mr.
Hammond was elected to the additional offices of Treasurer and Assistant
Secretary of the Company.
Mr. Lebovics joined the Company in February 1998 as Vice President,
Worldwide Sales, at a base salary of $95,000. In addition to the salary, Mr.
Lebovics received a non-refundable draw of $25,000 per annum. On July 15, 1998,
Mr. Lebovics' base salary was increased to $120,000 and the non-refundable draw
was also increased to $30,000 per annum. Mr. Lebovics was promoted to Senior
Vice President, Global Sales, in January 1999. The Company granted Mr. Lebovics
an option to purchase 300,000 shares of the Company's common stock at an
exercise price of $1.0313 per share on February 14, 1998. On December 4, 1998,
the option was cancelled and reissued at $0.3125, the fair market value on the
date of grant. In addition, Mr. Lebovics received a $5,000 automobile allowance.
The base salary of Mr. Horton, as Senior Vice President, General Counsel and
Secretary of the Company was established at $105,000 in 1998, which was the same
as his salary rate for 1997. The Company granted Mr. Horton an option to
purchase 100,000 shares of the Company's common stock at an exercise price of
$1.0313 per share on February 14, 1998. On December 4, 1998, the option was
cancelled and reissued at $0.3125, the fair market value on the date of grant.
In addition, Mr. Horton received a $12,000 annual automobile allowance. Mr.
Horton resigned as Senior Vice President, General Counsel and Secretary on
February 19, 1999.
The base salary of Ms. Lebovics, as Executive Vice President and President of
NCT Hearing Products, Inc., was established at $105,000 for 1998, which was the
same as her salary for 1997 and 1996. The Company granted Ms. Lebovics an option
to purchase 1,000,000 shares of the Company's common stock at an exercise price
of $1.0313 per share on February 14, 1998. On December 4, 1998, the option was
cancelled and reissued at $0.3125, the fair market value on the date of grant.
In addition, Ms. Lebovics received a $12,000 annual automobile allowance. On
April 13, 1999, Ms. Lebovics was elected Secretary of the Company.
Because of the Company's uncertain business prospects and limited cash
resources, in determining the appropriate levels of compensation for the Chief
Executive Officer and the Named Executive Officers , the Compensation Committee
did not deem it relevant, useful or even feasible to consider the compensation
practices of other companies having more certain prospects and greater cash
resources. Rather, the Compensation Committee took into consideration the
contribution being made to the Company's development efforts by these officers,
the extent to which they had received previous reductions in overall levels of
compensation in November of 1994 in connection with the Company's restructuring,
the absence, in many instances, of any material increase in salary or other cash
compensation for any of the past several years, the importance of the Company
continuing to receive their services and the benefit of their knowledge of the
Company's technologies, and the Company's ability to provide them with adequate
levels of remuneration either in cash or in securities. Accordingly, it is the
opinion of the Committee that the above-described rates of compensation are
reasonable in light of these factors and the financial condition of the Company.
THE COMPENSATION COMMITTEE
By: /s/ STEPHAN CARLQUIST, Chairman
/s/ SAM OOLIE
Performance Graph
Note: The stock price performance shown on the graph below is not
necessarily indicative of future price performance.
NCT Group, Inc.
Stock Performance (1)
[OBJECT OMITTED]
12/31/93 12/31/94 12/31/95 12/31/96 12/31/97 12/31/98
-------- -------- -------- -------- -------- --------
NCT 100 26 63 14 38 10
NASDAQ
Composite
Index 100 98 138 170 209 294
NASDAQ
Electronic
Component
Stock Index 100 110 183 316 332 513
(2)
(1) Assumes an investment of $100.00 in the Company's common stock and in each
index on December 31, 1993.
(2) The Company has selected the NASDAQ Electronic Components Stock Index
composed of companies in the electronics components industry listed on the
NASDAQ National Market System. Because the Company knows of no other
publicly owned company whose business consists solely or primarily of the
development, production and sale of systems for the cancellation or control
of noise and vibration by electronic means and other applications of Active
Wave Management technology, it is unable to identify a peer group or an
appropriate published industry or line of business index other than the
NASDAQ Electronics Components Stock Index.
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
The following table sets forth, as of April 9, 1999, information concerning
the shares of common stock beneficially owned by each person who, to the
knowledge of the Company, is the holder of 5% or more of the common stock of the
Company, each Director, and each Named Executive Officer, and all executive
officers and Directors of the Company as a group. Except as otherwise noted,
each beneficial owner has sole investment and voting power with respect to the
listed shares.
Amount and
Nature of Approximate
Beneficial Percentage
Name of Beneficial Owner Ownership (1) Of Class (1)
------------------------------- -------------- --------------
Michael J. Parrella 6,250,333 (2) 3.38%
John J. McCloy 3,653,635 (3) 2.02%
Jay M. Haft 1,632,000 (4) 0.91%
Sam Oolie 715,000 (5) 0.40%
Stephan Carlquist 350,000 (6) 0.20%
Paul D. Siomkos 225,000 (7) 0.13%
Cy E. Hammond 444,718 (8) 0.25%
Irving M. Lebovics 275,000 (9) 0.15%
John B. Horton 654,417 (10) 0.37%
Irene Lebovics 1,588,067 (11) 0.89%
All Executive Officers and
Directors as a Group
(11 persons) 15,963,170 (12) 8.33%
Carole Salkind 10,119,043 (13) 5.67%
Her Majesty The Queen,
Province of Alberta, Canada 11,250,000 (14) 6.30%
(1) Assumes the exercise of currently exercisable outstanding options or
warrants to purchase shares of common stock. The percent of class
ownership is calculated separately for each person based on the assumption
that the person listed on the table has exercised all options and warrants
shown for that person, but that no other holder of options or warrants has
exercised such options or warrants.
(2) Includes 862,500 shares issuable upon the exercise of currently
exercisable warrants and 5,374,500 shares issuable upon the exercise of
currently exercisable options.
(3) Includes 862,500 shares issuable upon the exercise of currently
exercisable warrants and 1,050,000 shares issuable upon the exercise of
currently exercisable options.
(4) Includes 218,500 shares issuable upon the exercise of currently
exercisable warrants, 10,000 restricted shares and 1,403,500 shares
issuable upon the exercise of currently exercisable options.
(5) Includes 25,000 restricted shares and 440,000 shares issuable upon the
exercise of currently exercisable options.
(6) Includes 350,000 shares issuable upon the exercise of currently
exercisable options and 25,000 options to purchase shares in 1999.
(7) Includes 100,000 restricted shares and 125,000 shares issuable upon the
exercise of currently exercisable options.
(8) Includes 25,000 shares issuable upon the exercise of currently exercisable
warrants and 419,718 shares issuable upon the exercise of currently
exercisable options.
(9) Includes 275,000 shares issuable upon the exercise of currently exercisable
options.
(10) Includes 20,000 shares issuable upon the exercise of currently exercisable
warrants and 634,417 shares issuable upon the exercise of currently
exercisable options.
(11) Includes 201,250 shares issuable upon the exercise of currently
exercisable warrants and 591,300 shares issuable upon the exercise of
currently exercisable options.
<PAGE>
(12) Includes 2,189,750 shares issuable to 6 executive officers and directors
of the Company upon the exercise of currently exercisable warrants,
10,838,435 shares issuable to 11 executive officers and directors of the
Company upon the exercise of currently exercisable options, 135,000
restricted shares issued to 2 directors and one executive officer of the
Company and 25,000 shares issuable to 1 director of the Company which
become exercisable in 1999. Does not include 6,240,000 shares issuable to
8 executive officers of the Company which become exercisable over the
passage of time.
(13) Carole Salkind's address is 801 Harmon Cove Towers, Secaucus, New Jersey
07094.
(14) Her Majesty the Queen, Province of Alberta, Canada's address is Room 530,
Terrace Building, 9515 107th Street, Edmondton, Alberta T5K 2C3.
<PAGE>
FINANCIAL STATEMENT INDEX
NCT Group, Inc.
Page
Independent Auditors' Report F-1
Consolidated Balance Sheets as of December 31, 1997 and 1998 F-2
Consolidated Statements of Operations and Consolidated F-3
Statement of Comprehensive Loss for the years ended
December 31, 1996, 1997 and 1998
Consolidated Statements of Stockholders' Equity, for the F-4
years ended December 31, 1996, 1997 and 1998
Consolidated Statements of Cash Flows,for the years ended F-6
December 31, 1996, 1997 and 1998
Notes to Financial Statements F-7
Top Source Automotive, Inc.
Report of Independent Certified Public Accountants F-49
Balance Sheets as of September 30, 1998 and 1997 F-50
Statements of Operations for the years ended F-51
September 30, 1998, 1997 and 1996
Statements of Cash Flows for the years ended F-52
September 30, 1998, 1997 and 1996
Notes to Financial Statements F-53
Exhibits
Exhibit 23(a) Consent of Richard A. Eisner & Company, LLP 33
Exhibit 99 Consent of Peters Elworthy & Moore 34
<PAGE>
(Richard A. Eisner & Company, LLP Letterhead)
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders of
NCT Group, Inc.
We have audited the accompanying consolidated balance sheets of NCT Group, Inc.
(formerly Noise Cancellation Technologies, Inc.) and subsidiaries (the
"Company") as of December 31, 1997 and 1998, and the related consolidated
statements of operations, comprehensive loss, stockholders' equity and cash
flows for each of the years in the three-year period ended December 31, 1998.
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 did not audit the 1996, 1997 and 1998 financial statements of
the Company's two foreign subsidiaries. These subsidiaries accounted for
revenues of approximately $407,000, $67,000 and $28,000 for the years ended
December 31, 1996, 1997 and 1998, respectively, and assets of approximately
$515,000, $301,000 and $218,000 as of December 31, 1996, 1997 and 1998,
respectively. These statements were audited by other auditors whose reports have
been furnished to us, one of which contained a paragraph on the subsidiary's
dependence on NCT Group, Inc. for continued financial support. Our opinion,
insofar as it relates to the amounts included for these entities, is based
solely on the reports of the other auditors.
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 and the reports of other auditors provide a
reasonable basis for our opinion.
In our opinion, based on our audits and the reports of the other auditors, the
financial statements enumerated above present fairly, in all material respects,
the consolidated financial position of NCT Group, Inc. and subsidiaries as of
December 31, 1997 and 1998 and the consolidated results of their operations and
their consolidated cash flows for each of the years in the three-year period
ended December 31, 1998 in conformity with generally accepted accounting
principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
financial statements, the Company has not been able to generate sufficient cash
flow from operating activities to sustain its operations and since it has
incurred net losses since inception and has a working capital deficiency, it has
been and continues to be dependent on equity financing and joint venture
arrangements to support its business efforts. These factors raise substantial
doubt about its ability to continue as a going concern. Management's plans in
regard to these matters are also described in Note 1. The financial statements
do not include any adjustments that might result from the outcome of this
uncertainty.
/s/ RICHARD A. EISNER & COMPANY, LLP
New York, New York
March 11, 1999
With respect to Note 8
March 24, 1999
<PAGE>
<TABLE>
<CAPTION>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands of dollars)
December 31,
1997 1998
---------- ----------
ASSETS
Current assets:
<S> <C> <C>
Cash and cash equivalents $ 12,604 $ 529
Accounts receivable:
Trade:
Technology license fees and royalties 200 192
Joint Ventures and affiliates - -
Other 368 691
Unbilled - 61
Allowance for doubtful accounts (38) (228)
---------- -----------
Total accounts receivable $ 530 $ 716
Inventories, net of reserves 1,333 3,320
Other current assets 213 185
---------- -----------
Total current assets $ 14,680 $ 4,750
Property and equipment, net 1,144 997
Goodwill, net of accumulated amortization of
$68,000 - 1,506
Patent rights and other intangibles, net 1,488 2,881
Other assets (Note 6) 49 5,331
---------- -----------
$ 17,361 $ 15,465
========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,324 $ 3,226
Accrued expenses 1,392 1,714
Accrued payroll, taxes and related expenses 181 241
Customers' advances 87 -
Other liabilities - 756
---------- -----------
Total current liabilities $ 2,984 $ 5,937
---------- -----------
Commitments and contingencies
Minority interest in consolidated subsidiary
Preferred stock, $.10 par value, 1,000
shares authorized, 60 issued
and outstanding (redemption amount
$6,102,110) $ - $ 6,102
---------- -----------
STOCKHOLDERS' EQUITY
Preferred stock, $.10 par value, 10,000,000
shares authorized
Series C issued and outstanding 13,250 and
700 shares, respectively (redemption
amount $13,314,399 and $731,222 respectively $ 10,458 $ 702
Series D Preferred stock, 6,000 shares
issued and outstanding (redemption
amount $6,102,110) - 5,240
Series E Preferred stock, 10,580 shares
issued and outstanding (redemption
amount $10,582,319) - 3,298
Common stock, $.01 par value, 185,000,000 and
255,000,000 shares, respectively,
authorized; issued and outstanding
133,160,212 and 156,337,316 shares, respectively 1,332 1,563
Additional paid-in-capital 96,379 107,483
Accumulated deficit (93,521) (107,704)
Other comprehensive loss:
Cumulative translation adjustment 119 45
Stock subscriptions receivable (390) (4,000)
Unearned portion of compensatory stock,
warrants and options - (238)
Treasury stock (6,078,065 shares) - (2,963)
---------- -----------
Total stockholders' equity $ 14,377 $ 3,426
---------- -----------
$ 17,361 $ 15,465
========== ===========
See notes to Financial Statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
Years ended December 31,
1996 1997 1998
----------- ----------- -----------
REVENUES:
<S> <C> <C> <C>
Technology licensing fees $ 1,238 $ 3,630 $ 802
Product sales, net 1,379 1,720 2,097
Engineering and development services 547 368 425
----------- ----------- -----------
Total revenues $ 3,164 $ 5,718 $ 3,324
----------- ----------- -----------
COSTS AND EXPENSES:
Costs of sales $ 1,586 $ 2,271 $ 2,235
Costs of engineering and development services 250 316 275
Selling, general and administrative 4,890 5,217 11,238
Research and development 6,974 6,235 7,220
Equity in net loss (income) of
unconsolidated affiliates 80 - -
Provision for doubtful accounts 192 130 232
Other (income) expense (Note 1) - - (3,264)
Interest expense (includes $1,420 of discounts on
beneficial conversion feature on convertible
debt in 1997) 45 1,514 9
Interest income (28) (117) (438)
----------- ----------- -----------
Total costs and expenses $ 13,989 $ 15,566 $ 17,507
----------- ----------- -----------
NET (LOSS) $ (10,825) $ (9,848) $ (14,183)
Preferred stock dividend requirement - 1,623 3,200
Accretion of difference between carrying amounts
and redemption amount of redeemable preferred stock - 285 485
----------- ----------- -----------
NET (LOSS) ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (10,825) $ (11,756) $ (17,868)
=========== =========== ===========
Weighted average number of common shares outstanding 101,191 124,101 143,855
=========== =========== ===========
BASIC AND DILUTED NET LOSS PER COMMON SHARE $ (0.11) $ (0.09) $ (0.12)
=========== =========== ===========
See notes to Financial Statements.
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF COMPREHENSIVE LOSS
(in thousands of dollars)
1996 1997 1998
----------- ----------- -----------
NET (LOSS) $ (10,825) $ (9,848) $ (14,183)
Other comprehensive income/(loss)
Currency translation adjustment (8) (23) (74)
----------- ----------- -----------
COMPREHENSIVE (LOSS) $ (10,833) $ (9,871) $ (14,257)
=========== =========== ===========
See notes to Financial Statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (In thousands of dollars and shares)
Series C Series D Series E
Convertible Convertible Convertible
Preferred Stock Preferred Stock Preferred Stock Common Stock
----------------- ----------------- ---------------- ---------------------
Shares Amount Shares Amount Shares Amount Shares Amount
----------------- ----------------- ----------------- ---------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1995 - $ - - $ - - $ - 92,829 $ 928
Sale of common stock, less expenses of $245 - - - - - - 18,595 186
Shares issued upon exercise of warrants & options - - - - - - 204 2
Net loss - - - - - - - -
Translation adjustment - - - - - - - -
Restricted shares issued for
Director's compensation - - - - - - 20 -
Consulting expense attributable to options - - - - - - - -
Retirement of shares related to
patent acquisition - - - - - - (25) -
Retirement of shares in settlement
of employee receivable - - - - - - (8) -
--------------------------------------------------------------------------------
Balance at December 31, 1996 - $ - - $ - - $ - 111,615 $ 1,116
Sale of common stock - - - - - - 2,857 29
Shares issued upon exercise of warrants & options - - - - - - 1,996 20
Sale of Series C preferred stock,
less expenses of $1,387 13 11,863 - - - - - -
Discount on beneficial conversion price
to preferred shareholders - (3,313) - - - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - 1,908 - - - - - -
Sale of subsidiary common stock,
less expenses of $65 - - - - - - - -
Common stock issued upon conversion of
convertible debt less expenses of $168 - - - - - - 16,683 167
Net loss - - - - - - - -
Translation adjustment - - - - - - - -
Restricted shares issued for
Directors' compensation - - - - - - 10 -
Warrant issued in conjunction
with convertible debt - - - - - - - -
Compensatory stock options and warrants - - - - - - - -
--------------------------------------------------------------------------------
Balance at December 31, 1997 13 $ 10,458 - $ - - - 133,161 1,332
Shares issued in consideration
for patent rights - - - - - - 1,250 12
Return of shares for subscription receivable - - - - - - - -
Conversion of Series C preferred stock,
less expense of $53 (12) (11,726) - - 2 1,577 20,665 207
Discount on beneficial conversion price
to preferred shareholders - - - - - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - 1,970 - - - - - -
Offering costs of Series A
preferred stock in subsidiary - - - - - - - -
Discount on beneficial conversion price
to preferred shareholders - - - - - - - -
Accretion and amortization of
discount on beneficial conversion price
to preferred shareholders - - - - - - - -
Sale of Series D preferred stock,
less expenses of $862 - - 6 5,138 - - - -
Discount on beneficial conversion price
to preferred shareholders - - - (673) - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - - 775 - - - -
Sale of Series E preferred stock - - - - 9 4,735 - -
Discount on beneficial conversion price
to preferred shareholders - - - - - (3,179) - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - - - - 165 - -
Exchange of subsidiary common stock
for parent common stock - - - - - - 1,135 11
Payment of stock subscription receivable - - - - - - - -
Repurchase of common shares - - - - - - - -
Acquisition of Advancel, less expenses of $23 - - - - - - - -
Other - - - - - - 1 -
Net loss - - - - - - - -
Translation adjustment - - - - - - - -
Restricted shares issued for compensation - - - - - - 125 1
Compensatory stock options and warrants - - - - - - - -
--------------------------------------------------------------------------------
Balance at December 31, 1998 1 $ 702 6 $ 5,240 11 $ 3,298 156,337 $ 1,563
================================================================================
See notes to Financial Statements.
</TABLE>
<TABLE>
<CAPTION>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (In thousands of dollars and shares)
Add'l Accumu- Cumulative Stock Unearned Portion of
Paid-In lated Translation Subscription Compensatory Stock/
Capital Deficit Adjustment Receivable Options/Warrants
--------- ----------- ----------- ------------ -------------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995 $ 78,667 $ (72,848) $ 150 $ (13) $ -
Sale of common stock, less expenses of $245 6,178 - - 13 -
Shares issued upon exercise of warrants & options 102 - - - -
Net loss - (10,825) - - -
Translation adjustment - - (8) - -
Restricted shares issued for
Director's compensation 13 - - - -
Consulting expense attributable to options 96 - - - -
Retirement of shares related to
patent acquisition (26) - - - -
Retirement of shares in settlement
of employee receivable (5) - - - -
-----------------------------------------------------------------------------
Balance at December 31, 1996 $ 85,025 $ (83,673) $ 142 $ - $ -
Sale of common stock 471 - - - -
Shares issued upon exercise of warrants & options 1,115 - - (64) -
Sale of Series C preferred stock,
less expenses of $1,387 - - - - -
Discount on beneficial conversion price
to preferred shareholders 3,313 - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders (1,908) - - - -
Sale of subsidiary common stock,
less expenses of $65 3,573 - - (326) -
Common stock issued upon conversion of
convertible debt less expenses of $168 4,714 - - - -
Net loss - (9,848) - - -
Translation adjustment - - (23) - -
Restricted shares issued for
Directors' compensation 2 - - - -
Warrant issued in conjunction
with convertible debt 34 - - - -
Compensatory stock options and warrants 40 - - - -
-------------------------------------------------------------------------------
Balance at December 31, 1997 $ 96,379 $ (93,521) $ 119 $ (390) -
Shares issued in consideration
for patent rights 494 - - - -
Return of shares for subscription receivable - - - 64 -
Conversion of Series C preferred stock,
less expense of $53 9,889 - - - -
Discount on beneficial conversion price
to preferred shareholders - - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders (1,970) - - - -
Offering costs of Series A
Preferred Stock in subsidiary (862) - - - -
Discount on beneficial conversion price
to preferred shareholders 673 - - - -
Accretion and amortization of
discount on beneficial conversion price
to preferred shareholders (775) - - - -
Sale of Series D preferred stock,
less expenses of $862 - - - - -
Discount on beneficial conversion price
to preferred shareholders 673 - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders (775) - - - -
Sale of Series E preferred stock - - - (4,000) -
Discount on beneficial conversion price
to preferred shareholders 3,179 - - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders (165) - - - -
Exchange of subsidiary common stock
for parent common stock 545 - - - -
Payment of stock subscription receivable - - - 326 -
Repurchase of common shares - - - - -
Acquisition of Advancel, less expenses of $23 (151) - - - (94)
Other (48) - - - -
Net loss - (14,183) - - -
Translation adjustment - - (74) - -
Restricted shares issued for compensation 96 - - - -
Compensatory stock options and warrants 301 - - - (144)
--------------------------------------------------------------------------------
Balance at December 31, 1998 $107,483 $(107,704) $ 45 ($4,000) $ (238)
================================================================================
See notes to Financial Statements.
</TABLE>
<PAGE>
<TABLE>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands of dollars)
Treasury Stock
Shares Amount Total
-------- --------- ----------
<S> <C> <C> <C>
Balance at December 31, 1995 - $ - $ 6,884
Sale of common stock, less expenses of $245 - - 6,377
Shares issued upon exercise of warrants & options - - 104
Net loss - - (10,825)
Translation adjustment - - (8)
Restricted shares issued for
Director's compensation - - 13
Consulting expense attributable to options - - 96
Retirement of shares related to
patent acquisition - - (26)
Retirement of shares in settlement
of employee receivable - - (5)
------------------------------------------
Balance at December 31, 1996 - $ - $ 2,610
Sale of common stock - - 500
Shares issued upon exercise of warrants & options - - 1,071
Sale of Series C preferred stock,
less expenses of $1,387 - - 11,863
Discount on beneficial conversion price
to preferred shareholders - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - -
Sale of subsidiary common stock,
less expenses of $65 - - 3,247
Common stock issued upon conversion of
convertible debt less expenses of $168 - - 4,881
Net loss - - (9,848)
Translation adjustment - - (23)
Restricted shares issued for
Directors' compensation - - 2
Warrant issued in conjunction
with convertible debt - - 34
Compensatory stock options and warrants - - 40
-------------------------------------------
Balance at December 31, 1997 - $ - $ 14,377
Shares issued in consideration
for patent rights - - 506
Return of shares for subscription receivable 158 (64) -
Conversion of Series C preferred stock,
less expense of $53 - - (53)
Discount on beneficial conversion price
to preferred shareholders - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - -
Offering costs of Series A
Preferred Stock in subsidiary - - (862)
Discount on beneficial conversion price
to preferred shareholders - - 673
Accretion and amortization of
discount on beneficial conversion price
to preferred shareholders - - (775)
Sale of Series D preferred stock,
less expenses of $862 - - 5,138
Discount on beneficial conversion price
to preferred shareholders - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - -
Sale of Series E preferred stock 2,100 (735) -
Discount on beneficial conversion price
to preferred shareholders - - -
Accretion and amortization of discount on
beneficial conversion price to
preferred shareholders - - -
Exchange of subsidiary common stock
for parent common stock - - 556
Payment of stock subscription receivable - - 326
Repurchase of common shares 5,607 (3,292) (3,292)
Acquisition of Advancel, less expenses of $23 (1,787) 1,128 883
Other - - (48)
Net loss - - (14,183)
Translation adjustment - - (74)
Restricted shares issued for compensation - - 97
Compensatory stock options and warrants - - 157
--------------------------------------------
Balance at December 31, 1998 6,078 $ (2,963) $ 3,426
============================================
See notes to Financial Statements
</TABLE>
<PAGE>
<TABLE>
NCT GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands of dollars)
Years Ended December 31,
---------------------------------
1996 1997 1998
--------- --------- ---------
Cash flows from operating activities
<S> <C> <C> <C>
Net loss $(10,825) $ (9,848) $(14,183)
Adjustments to reconcile net loss to net cash (used in)
operating activities:
Depreciation and amortization 1,000 899 1,030
Common stock options and warrants issued as consideration for:
Compensation 109 42 301
Interest on debentures - 51 -
Convertible debt - 34 -
Costs incurred related to convertible debt - 211 -
Common stock retired in settlement of employee
account receivable (5) - -
Discount on beneficial conversion feature on convertible debt - 1,420 -
Provision for tooling costs and write off 371 515 151
Provision for doubtful accounts 192 130 232
Equity in net loss of unconsolidated 80 - -
Unrealized foreign currency (gain) loss (45) 8 (80)
(Gain) loss on disposition of fixed assets 83 (4) 34
Changes in operating assets and liabilities: - - -
(Increase) decrease in accounts receivable 61 (127) (193)
(Increase) decrease in license fees receivable (150) (50) 8
(Increase) decrease in inventories, net of reserves 813 (433) (1,986)
(Increase) decrease in other assets 67 (12) (12)
Increase in accounts payable and accrued expenses 55 135 1,816
Increase (decrease) in other liabilities 436 (414) 48
--------- --------- ---------
Net cash (used in) operating activities $ (7,758) $ (7,443) $(12,834)
--------- --------- ---------
Cash flows from investing activities:
Capital expenditures $ (186) (244) (548)
Acquisition of patent rights - - (822)
Acquisition of Advancel (net of $100 cash acquired) - - 40
Acquisition and advances, including $135 of costs (Note 6) - - (5,134)
Sale of capital expenditures - 67 46
--------- --------- ---------
Net cash (used in) investing activities $ (186) $ (177) $ (6,418)
--------- --------- ---------
Cash flows from financing activities:
Proceeds from:
Convertible notes (net) $ - $ 3,199 $ -
Sale of common stock and expenses 6,377 500 (51)
Sale of Series C preferred stock and expenses - 11,863 (53)
Sale of Series D preferred stock - - 5,138
Sale of subsidiary Series A preferred stock - - 5,138
Sale of subsidiary stock and expenses - 3,247 (21)
Exercise of stock purchase warrants and options 104 1,071 -
Collections on subscriptions receivable - - 326
Purchase of treasury stock - - (3,292)
--------- --------- ---------
Net cash provided by financing activities $ 6,481 $ 19,880 $ 7,185
--------- --------- ---------
Effect of exchange rate changes on cash $ - $ (24) $ (8)
Net increase (decrease) in cash and cash equivalents $ (1,463) $ 12,236 $(12,075)
Cash and cash equivalents - beginning of period 1,831 368 12,604
--------- --------- ---------
Cash and cash equivalents - end of period $ 368 $ 12,604 $ 529
========= ========= =========
Cash paid for interest $ 4 $ 8 $ 9
========= ========= =========
See Note 7 for issuance of common stock for patents and acquisitions.
See Note 8 with respect to issuance of securities for compensation.
See notes to Financial Statements.
</TABLE>
<PAGE>
NCT GROUP, INC. AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS
1. Background:
NCT Group, Inc. ("NCT" or the "Company") designs, develops, licenses,
produces and distributes electronic systems for Active Wave Management including
systems that electronically reduce noise and vibration. The Company's systems
are designed for integration into a wide range of products serving major markets
in the transportation, manufacturing, commercial, consumer products and
communications industries. The Company has begun commercial application of its
technology through a number of product lines, including NoiseBuster(R)
communications headsets and NoiseBuster Extreme!(TM) consumer headsets,
Gekko(TM) flat speakers, flat panel transducers ("FPT(R)"), ClearSpeech(R),
microphones, speakers and other products, adaptive speech filters ("ASF"), the
ProActive(R) line of industrial/commercial active noise reduction ("ANR")
headsets, an aviation headset for pilots, an industrial muffler or "silencer"
for use with large vacuums and blowers, quieting headsets for patient use in
magnetic resonance imaging ("MRI") machines, and an aircraft cabin quieting
system.
The technology supporting the Company's electronic systems was developed
using technology maintained under various patents (the "Chaplin Patents") held
by Chaplin-Patents Holding Co., Inc. ("CPH") as well as patented technology
acquired or developed by the Company. CPH, formerly a joint venture with Active
Noise Vibration Technologies, Inc. ("ANVT"), was established to maintain and
defend these patent rights. The former joint venture agreement relating to the
Chaplin Patents required that the Company only license or share the related
technology with entities who are affiliates of the Company. As a result, the
Company established various joint ventures and formed other strategic alliances
(see Note 3) to further develop the technology and electronic systems and
components based on the Chaplin Patents, to develop such technology into
commercial applications, to integrate the electronic systems into existing
products and to distribute such systems and products into various industrial,
commercial and consumer markets.
The Company has incurred substantial losses from operations since its
inception, which have amounted to $107.7 million on a cumulative basis through
December 31, 1998 and has negative working capital of $1.2 million at December
31, 1998. These losses, which include the costs for development of products for
commercial use, have been funded primarily from the sale of common stock and
preferred stock, including the exercise of warrants or options to purchase
common stock, and by technology licensing fees and engineering and development
funds received from joint venture and other strategic partners. As discussed in
Note 3, agreements with joint venture and other strategic partners generally
require that a portion of the initial cash flows, if any, generated by the
ventures or the alliances be paid on a preferential basis to the Company's
co-venturers until the technology licensing fees and engineering and development
funds provided to the venture or the Company are recovered. Cash and cash
equivalents amounted to $0.5 million at December 31, 1998. Management believes
that currently available funds will not be sufficient to sustain the Company for
the next 12 months. Such funds consist of available cash and cash from the
exercise of warrants and options, the funding derived from technology licensing
fees, royalties and product sales and engineering development revenue. Reducing
operating expenses and capital expenditure alone will not be sufficient and
continuation as a going concern is dependent upon the level of realization of
funding from technology licensing fees, royalties, product sales and engineering
and development revenue, all of which are presently uncertain. In the event that
anticipated technology licensing fees, royalties, product sales, and engineering
and development revenue are not realized, then management believes additional
working capital financing must be obtained. There is no assurance any such
financing is or would become available.
In that event that funding from internal sources is insufficient, the Company
would have to substantially cut back its level of operations. These reductions
could have an adverse effect on the Company's relations with its strategic
partners and customers. Uncertainty exists with respect to the adequacy of
current funds to support the Company's activities until positive cash flow from
operations can be achieved, and with respect to the availability of financing
from other sources to fund any cash deficiencies (see Note 8 with respect to
recent financing).
On April 30, 1998, the Company completed the sale of 5.0 million ordinary
shares of NXT plc (formerly Verity Group plc ) acquired upon the Company's
exercise on April 7, 1998 of the option it held to purchase such shares at a
price of 50 pence per share. This option was acquired by the Company in
connection with the cross license agreement entered into by the Company, NXT plc
and New Transducers Ltd. ("NXT"), a wholly-owned subsidiary of NXT plc. The
Company realized a $3.2 million gain from the exercise of such option and the
sale of the Verity ordinary shares received therefrom, which is included in
other income in 1998.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern, which contemplates continuity of
operations, realization of assets and satisfaction of liabilities in the
ordinary course of business. The propriety of using the going concern basis is
dependent upon, among other things, the achievement of future profitable
operations and the ability to generate sufficient cash from operations, public
and private financings and other funding sources to meet its obligations. The
uncertainties described in the preceding paragraphs raise substantial doubt at
December 31, 1998 about the Company's ability to continue as a going concern.
The accompanying financial statements do not include any adjustments relating to
the recoverability of the carrying amount of recorded assets or the amount of
liabilities that might result from the outcome of these uncertainties.
2. Summary of Significant Accounting Policies:
Consolidation:
The financial statements include the accounts of the Company and its majority
owned subsidiaries. All material inter-company transactions and account balances
have been eliminated in consolidation.
Unconsolidated affiliates include joint ventures and other entities not
controlled by the Company, but over which the Company maintains significant
influence and in which the Company's ownership interest is 50% or less. The
Company's investments in these entities are accounted for on the equity method.
When the Company's equity in cumulative losses exceeds its investment and the
Company has no obligation or intention to fund such additional losses, the
Company suspends applying the equity method (see Note 3). The Company will not
be able to record any equity in income with respect to an entity until its share
of future profits is sufficient to recover any cumulative losses that have not
previously been recorded.
Revenue Recognition:
Product Sales:
Revenue is recognized when the product is shipped.
Engineering and development services:
Revenue from engineering and development contracts is recognized and billed
as the services are performed. However, revenue from certain engineering and
development contracts are recognized as services are performed under the
percentage of completion method after 10% of the total estimated costs have been
incurred. Under the percentage of completion method, revenues and gross profit
are recognized as work is performed based on the relationship between actual
costs incurred to total estimated costs at completion.
Estimated losses are recorded when identified.
Revenues recorded under the percentage of completion method amounted to
$9,000, zero and $61,000 for the years ended December 31, 1996, 1997 and 1998,
respectively.
Technology Licensing Fees:
Technology licensing fees paid by joint venturers, co-venturers, strategic
partners or other licensees which are nonrefundable, are recognized in income
upon execution of the license agreement. If any license fee is subject to
completion of any performance criteria specified within the agreement, such
license fee is deferred until such performance criteria is met. See Note 3 with
respect to the license fee recorded by the Company in connection with Ultra
Electronics, Ltd.("Ultra") and NXT.
Advertising:
Advertising costs are expensed as incurred. Expense for years ended December
31, 1996, 1997 and 1998 was $0.5 million, $0.5 million and $1.7 million,
respectively.
<PAGE>
Cash and cash equivalents:
The Company considers all money market accounts and highly liquid investments
with original maturities of three months or less at the time of purchase
(principally comprised of high quality investments in commercial paper) to be
cash equivalents.
Inventories:
Inventories are stated at the lower of cost (average) or market.
With regard to the Company's assessment of the realizability of inventory,
the Company periodically conducts a complete physical inventory, and reviews the
movement of inventory on an item by item basis to determine the value of items
which are slow moving and obsolete. After considering potential for near term
product engineering changes and/or technological obsolescence and current
realizability, the Company determines the current need for inventory reserves.
After applying the above noted measurement criteria at December 31, 1997, and
December 31, 1998, the Company determined that a reserve of $0.5 million for
each year was adequate.
Property and Equipment:
Property and equipment are stated at cost and depreciation is recorded on the
straight-line method over the estimated useful lives of the respective assets.
Leasehold improvements are amortized over the shorter of their useful lives or
the related lease term.
Patent Rights:
Patent rights are stated at cost and are amortized on a straight line basis
over the remaining life of each patent (ranging from 1 to 15 years).
Amortization expense was $0.4 million, $0.3 million and $0.5 million for 1996,
1997 and 1998, respectively. Accumulated amortization was $1.8 million and $2.3
million at December 31, 1997 and 1998, respectively.
It is the Company's policy to review the carrying value of its individual
patents when events have occurred which could impair the valuation on any such
patent.
Foreign currency translation:
The financial statements for the United Kingdom operations are translated
into U.S. dollars at year-end exchange rates for assets and liabilities and
weighted average exchange rates for revenues and expenses. The effects of
foreign currency translation adjustments are included as a component of
stockholders' equity and gains and losses resulting from foreign currency
transactions are included in income and have not been material.
<PAGE>
Loss per common share:
The Company adopted Statement of Financial Accounting Standards ("SFAS") No.
128, "Earnings Per Share," in the year ended December 31, 1997 and has
retroactively applied the effects thereof for all periods presented.
Accordingly, the presentation of per share information includes calculations of
basic and diluted loss per share. The impact on the per share amounts previously
reported (primary and fully diluted) was not significant. Except as described
below, the per share effects of potential common shares such as warrants,
options, and convertible preferred stock have not been included, as the effect
would be antidilutive (see Notes 8 and 9).
The SEC has taken the position that when preferred stock is convertible to
common stock at a conversion rate that is the lower of a rate fixed at issuance
or a fixed discount from the common stock market price at the time of
conversion, the discounted amount is an assured incremental yield, the
"beneficial conversion feature", to the preferred shareholders and should be
accounted for as an embedded dividend to preferred shareholders. As such, this
dividend was recognized in the loss per share calculation.
Concentrations of Credit Risk:
Financial instruments which potentially subject the Company to concentration
of credit risk consist of cash and cash equivalents. The Company primarily holds
its cash and cash equivalents in two banks. Deposits in excess of federally
insured limits were $0.3 million at December 31, 1998. The Company sells its
products and services to original equipment manufacturers, distributors and end
users in various industries worldwide. As shown below, the Company's five
largest customers accounted for approximately 33.5% of revenues during 1998 and
38.8% of accounts receivable at December 31, 1998. The Company does not require
collateral or other security to support customer receivables.
(in thousands of dollars)
As of December 31, 1998,
and for the year then ended
---------------------------------
Accounts
CUSTOMER Receivable Revenue
-------------------------------- ------------- --------------
VLSI Technology, Inc. $--- $285
TS/2 Inc. 9 275
STMicroelectronics SA and
STMicroelectronics S.r.l 246 246
Telex Communications, Inc. --- 189
Cleverdevices Ltd. 23 119
All Other 438 2,210
------------- --------------
Total $716 $3,324
============= ==============
The Company regularly assesses the realizability of its accounts receivable
and performs a detailed analysis of its aged accounts receivable. When
quantifying the realizability of accounts receivable, the Company takes into
consideration the value of past due receivables and the collectibility of such
receivables, based on credit worthiness.
Use of Estimates:
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Stock-Based Compensation:
During 1996, the Company adopted Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"). The
provisions of SFAS No. 123 allow the Company to either expense the estimated
fair value of stock options and warrants or to continue to follow the intrinsic
value method set forth in APB Opinion 25, "Accounting for Stock Issued to
Employees" ("APB 25") but disclose the pro forma effects on net income (loss)
had the fair value of the options or warrants been expensed. The Company has
elected to continue to apply APB 25 in accounting for its employee stock option
and warrant incentive plans. (See Note 9.)
Reporting Comprehensive Loss:
During 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" ("SFAS No. 130"). The
provisions for SFAS No. 130 require the Company to report the change in the
Company's equity during the period from transactions and events other than those
resulting from investments by and distributions to the shareholders.
<PAGE>
Segments of an Enterprise and Related Information:
During 1998, the Company adopted Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information" ("SFAS No. 131"). The provisions of SFAS No. 131 require the
Company to disclose the following information for each reporting segment:
general information about factors used to identify reportable segments, the
basis of organization, and the sources of revenues; information about reported
profit or loss and segment assets; and reconciliations of certain reported
segment information to consolidated amounts. Please refer to Note 14 and 15 for
further information.
3. Joint Ventures and Other Strategic Alliances:
The following is a summary of certain of the Company's joint ventures and
other strategic alliances as of December 31, 1998.
The Company and certain of its majority-owned subsidiaries have entered into
agreements to establish joint ventures and other strategic alliances related to
the design, development, manufacture, marketing and distribution of its
electronic systems and products containing such systems. These agreements
generally provide that the Company license technology and contribute a nominal
amount of initial capital and that the other parties provide substantially all
of the funding to support the venture or alliance. This support funding
generally includes amounts paid or services rendered for engineering and
development. In exchange for this funding, the other party generally receives a
preference in the distribution of cash and/or profits from the joint ventures or
royalties from these alliances until such time that the support funding (plus an
"interest" factor in some instances) is recovered. At December 31, 1998, there
were no preferred distributions due to joint venture partners from future
profits of the joint ventures.
Technology licensing fees and engineering and development fees paid by joint
ventures to the Company are recorded as income since there is no recourse to the
Company for these amounts or any commitment by the Company to fund the
obligations of the venture.
When the Company's share of cumulative losses equals its investment and the
Company has no obligation or intention to fund such additional losses, the
Company suspends applying the equity method. The aggregate amount of the
Company's share of losses in these joint ventures in excess of the Company's
investments which has not been recorded was zero at December 31, 1998. The
Company will not be able to record any equity in income with respect to an
entity until its share of future profits is sufficient to recover any cumulative
losses that have not previously been recorded.
Certain of the joint ventures will be suppliers to the Company and to other
of the joint ventures and will transfer products to the related entities based
upon pricing formulas established in the agreements. The formula is generally
based upon fully burdened cost, as defined in the agreements.
Total revenues recorded by the Company relating to the joint ventures and
alliances, or their principals, for technology licensing fees, engineering and
development services and product sales were as follows:
(in thousands of dollars)
Years ended December 31,
-------------------------------------
Joint Venture/Alliance 1996 1997 1998
- ---------------------------------------- ----------- ----------- ----------
Walker Noise Cancellation Technologies $ 90 $ 61 $ -
Ultra Electronics, Ltd. 62 - 68
Magneti Marelli S.p.A. 28 - 80
Siemens Medical Systems, Inc. 319 172 102
Foster/NCT Supply, Ltd. 10 28 -
AB Electrolux 12 34 -
Hoover Universal, Inc. 713 - -
OnActive Technologies, LLC - - 75
TS/2 Inc. - - 275
VLSI Technology, Inc. - - 285
STMicroelectronics S.A. & - - 246
STMicroelectronics S.r.l
NXT plc - 3,000 -
----------- ----------- ----------
Total $1,234 $3,295 $1,131
=========== =========== ==========
<PAGE>
Outlined below is a summary of the nature and terms of selected ventures or
alliances:
Joint Ventures:
OnActive Technologies, L.L.C. ("OAT") and the Company entered into an
Operating Agreement in December 1995 with Applied Acoustic Research, L.L.C.,
("AAR") to design, develop, manufacture, market, distribute and sell flat panel
transducers and related components for use in audio applications and audio
systems installed in ground based vehicles. Initial capital contributions by the
Company and AAR were nominal and neither company was required to make any
additional contribution to OAT. In May 1996, the Operating Agreement was amended
to include Johnson Controls, Inc.'s ("JCI's) $1.5 million, 15% equity interest
in OAT and acquired exclusive rights in the automotive OEM market to certain of
the Company's and AAR's related patents for a total of $1.5 million, which was
paid 50/50 to the Company and AAR. In connection therewith, the Company recorded
a license fee of $750,000 during the year ended December 31, 1996. The Operating
Agreement provided that services and subcontracts provided to OAT by the
Company, AAR, or JCI (collectively, the "Members"), are to be compensated by OAT
at 115% of the Members fully burdened cost. However, during 1996, administrative
services required by OAT were provided by the Company and not charged to OAT.
During 1996 such services were nominal. As of December 31, 1995 the Company
recognized $80,000 of income relating to its share of 1995 profit in OAT. As of
December 31, 1996 the Company reversed the $80,000 of income which related to
its share of the 1996 loss in OAT. On October 8, 1998, the Members signed a
Redemption Agreement, an Amended and Restated License Agreement, a Termination
Agreement, and a License Agreement (collectively, the "Termination Agreements")
terminating the ownership interest of NCT Audio, a subsidiary of the Company.
NCT Audio had its ownership interest in OAT redeemed by OAT in exchange for the
rights and licenses granted NCT Audio, under the License Agreement together with
a cash payment of seventy-five thousand dollars ($75,000), the discharge of any
indebtedness of NCT Audio to OAT, the license to certain technology in
accordance with specific terms and limitations set forth in that certain
Aftermarket-TDSS License, and the right to receive 22.5% (twenty-two and one
half percent) of all royalties to be paid by JCI, relating to the licensing of
that certain proprietary intellectual property of the Company known as Top Down
Surround Sound ("TDSS").
Other Strategic Alliances:
Ultra Electronics Ltd. (formerly Dowty Maritime Limited) and the Company
entered into a teaming agreement in May 1993 to collaborate on the design,
manufacture and installation of products to reduce noise in the cabins of
various types of aircraft. In accordance with the agreement, the Company
provided informational and technical assistance relating to the aircraft
quieting system and Ultra reimbursed the Company for expenses incurred in
connection with such assistance. Ultra was responsible for the marketing and
sales of the products. The Company was to supply Ultra with electronic
components required for the aircraft quieting system, at a defined cost, to be
paid by Ultra.
In March 1995, the Company and Ultra amended the teaming agreement and
concluded a licensing and royalty agreement for $2.6 million and a future
royalty of 1.5% of sales commencing in 1998. Under the agreement, Ultra also
acquired the Company's active aircraft quieting business based in Cambridge,
England, leased a portion of the Cambridge facility and employed certain of the
Company's employees.
Accordingly, the Company recorded $2.6 million as a technology licensing fee
relating to the net amount received from above noted amended teaming agreement
and the licensing and royalty agreement in the first quarter of 1995. The
Company has recognized $68,000 in royalty revenue in 1998.
New Transducers Ltd.(NXT), a wholly-owned subsidiary of NXT plc (formerly
Verity Group PLC ) and the Company executed a cross licensing agreement (the
"Cross License") on March 28, 1997. Under terms of the Cross License, the
Company licensed patents and patents pending which relate to FPT technology to
NXT, and NXT licensed patents and patents pending which relate to parallel
technology to the Company. In consideration of the license, during the first
quarter 1997, NCT recorded a $3.0 million license fee receivable from NXT as
well as royalties on future licensing and product revenue. The Company also
executed a security deed (the "Security Deed") in favor of NXT granting NXT a
conditional assignment in the patents and patents pending licensed to NXT under
the Cross License in the event a default in a certain payment to be made by the
Company under the Cross License continued beyond fifteen days. Concurrent with
the Cross License, the Company and NXT plc executed agreements granting each an
option for a four year period commencing on March 28, 1998, to acquire a
specified amount of the common stock of the other subject to certain conditions
and restrictions. With respect to the Company's option to NXT plc (the "NXT plc
Option"), 3.8 million shares of common stock (approximately 3.4% of the then
issued and outstanding common stock) of the Company are covered by such option
and the Company executed a registration rights agreement (the "Registration
Rights Agreement") covering such shares. Five million ordinary shares
(approximately 2.0% of the then issued and outstanding ordinary shares) of NXT
plc are covered by the option granted by NXT plc to the Company. The exercise
price under each option is the fair value of a share of the applicable stock on
March 28, 1997, the date of grant. On April 15, 1997, NXT plc, NXT and the
Company executed several agreements and other documents (the "New Agreements")
terminating the Cross License, the Security Deed, the NXT plc Option and the
Registration Rights Agreement and replacing them with new agreements
(respectively the "New Cross License", the "New Security Deed", the "New NXT plc
Option" and the "New Registration Rights Agreement"). The material changes
effected by the New Agreements were the inclusion of NXT plc as a party along
with its wholly-owned subsidiary NXT; providing that the license fee payable to
NCT could be paid in ordinary shares of NXT plc stock; and reducing the exercise
price under the option granted to NXT plc to purchase shares of the Company's
common stock to $0.30 per share. The subject license fee was paid to the Company
in ordinary shares of NXT plc stock which were subsequently sold by the Company.
On September 27, 1997, NXT plc, NXT, NCT Audio and the Company executed several
agreements and other documents, terminating the New Cross License and the New
Security Deed and replacing them with new agreements (respectively, the "Cross
License Agreement dated September 27, 1997" and the "Master License Agreement").
The material changes effected by the most recent agreements were an expansion of
the fields of use applicable to the exclusive licenses granted to NXT plc and
NXT, an increase in the royalties payable on future licensing and product
revenues, cancellation of the New Security Deed covering the patents licensed by
the Company, and the acceleration of the date on which the parties can exercise
their respective stock purchase option to September 27, 1997. On February 9,
1999 NCT Audio and NXT expanded the Cross License Agreement dated September 27,
1997 to increase NXT's fields of use to include aftermarket ground based
vehicles and aircraft sound systems and increased the royalties due NCT Audio
from NXT to 10% from 6% and increased the royalties due NXT from NCT Audio to 7%
from 6%. In consideration for granting NXT these expanded licensing rights, NCT
Audio received $0.5 million license fee. Also on February 9, 1999, NCT Audio and
NXT amended the Master License Agreement to include a minimum royalty payment of
$160,000 in 1999, to be paid in equal quarterly installments.
TS/2, Inc. ("TS/2"). On January 23, 1998, NCT Audio entered into an agreement
with TS/2. Under the terms of the agreement, NCT Audio granted TS/2 a
non-exclusive license to market NCT Audio's Gekko(TM) flat speakers in the
pro-audio market. NCT Audio recorded $0.3 million license fee and is entitled to
future per-unit revenues on Gekko(TM) products sold by TS/2 into the pro-audio
market. NCT Audio recognized $0.4 million in marketing and product development
expenses in connection with this agreement.
VLSI Technology, Inc. ("VLSI"). On February 5, 1998, the Company entered into
a license, engineering and royalty agreement with VLSI. Under the terms of the
agreement, the Company has granted a non-exclusive license to VLSI for certain
patents and patents pending which relate to the Company's ClearSpeech(R)
technologies. Along with the license, the Company has recorded $0.3 million in
related engineering revenue. The Company will recognize royalties on future
products sold by VLSI incorporating the ClearSpeech(R) technology.
STMicroelectronics SA & STMicroelectronics S.r.l ("ST"). On November 16,
1998, Advancel and ST executed a license agreement. Under the terms of the
agreement, which included a license fee, a minimum royalty within two years and
future per unit royalties, ST licensed Advancel's tiny 2J(TM)for Java(TM)
("t2J-Processor Core") to combine it with its proven secure architecture and
advanced nonvolatile memory technology, to offer a new generation of secure
microcontrollers for smartcard applications. The t2J-Processor Core is the ideal
architecture to accelerate the execution of Javacard(TM)-based smartcard
applications such as electronic purse credit/debit card functions, ID cards that
provide authorized access to networks and subscriber identification modules that
secure certain PCS cellular phones against fraud. Advancel recorded $0.2 million
license fee in 1998 and an additional $0.4 million license fee is to be recorded
upon making deliverables, along with $0.9 million minimum royalty over two years
and $0.9 million research and engineering revenue.
4. Inventories:
Inventories comprise the following:
(in thousands of dollars)
December 31,
----------------------------
1997 1998
-------------- -----------
Components $ 514 $ 745
Finished goods 1,291 3,083
-------------- -----------
Gross inventory $ 1,805 $ 3,828
Reserve for obsolete & slow moving inventory (472) (508)
-------------- -----------
Inventory, net of reserves $ 1,333 $ 3,320
============== ===========
<PAGE>
5. Property and Equipment:
Property and equipment comprise the following:
(in thousands of dollars)
Estimated December 31,
Useful Life -------------------------
(Years) 1997 1998
------------- ------------ ------------
Machinery and equipment 3-5 $ 1,801 $ 1,935
Furniture and fixtures 3-5 869 1,057
Leasehold improvements 7-10 1,177 1,038
Tooling 1-3 670 181
Other 5-10 74 60
------------ ------------
Gross $ 4,591 $ 4,271
Less accumulated
depreciation (3,447) (3,274)
------------ ------------
Net $ 1,144 $ 997
============ ============
Depreciation expense for the years ended December 31, 1996, 1997 and 1998
was $0.5 million, $ 0.6 million and $0.5 million, respectively.
6. Other Assets:
On August 14, 1998, NCT Audio agreed to acquire substantially all of the
business assets of Top Source Automotive, Inc. ("TSA"), an automotive original
equipment audio system supplier. On June 11, 1998, NCT Audio paid a
non-refundable deposit of $1,450,000 towards the purchase price, which is
included in other assets. The total cash purchase price is $10,000,000, and up
to $6,000,000 in possible future contingent payments to be paid in either NCT
Audio common stock or cash, at the seller's election. The transaction is subject
to approval of the shareholders of Top Source Technologies, Inc. ("TST"), TSA's
parent company. On July 31, 1998, NCT Audio paid TST $2,050,000, to be held in
escrow with securities and documentation necessary to represent beneficial
ownership of 20% of the total equity rights and interests in TSA, until such
time as TST's stockholders approve the sale of the business assets of TSA. Such
approval was received on December 15, 1998, and at that time, the $2,050,000 was
delivered to TSA. In return, NCT Audio took ownership of the documentation and
securities. The Company has the exclusive option to purchase the assets of TSA
at any time through March 31, 1999. If the acquisition of the 20% interest in
TSA had occurred as of January 1, 1998, the Company's unaudited net loss and net
loss per share basic and diluted would have been $(14.8) million and $(0.13),
respectively.
Unaudited summarized financial information of TSA is as follows:
For the Twelve
Months Ended
(in thousands of dollars) September 30, 1998
------------------
Current assets $ 2,050
Non-current assets 383
Current liabilities 288
Non-current liabilities -
Income statement data:
Net revenues 10,815
Gross profit 3,398
Net income 632
<PAGE>
On August 17, 1998, NCT Audio agreed to acquire all of the members' interest
in Phase Audio LLC dba Precision Power, Inc. ("PPI"), a supplier of custom
automotive audio systems. In consideration, the members of PPI shall receive
$2.0 million. NCT Audio also agreed to retire approximately $8.5 million of PPI
debt. This acquisition is subject to NCT Audio's receipt of the necessary
financing to close the transaction. In addition to the above, on June 17, 1998,
NCT Audio provided a working capital loan in the amount of $0.5 million to PPI,
which is evidenced by a demand promissory note. On August 18, 1998, NCT Audio
provided an additional working capital loan in the amount of $1.0 million to
PPI, which is also evidenced by a demand promissory note. The unpaid principal
balance of these notes bear interest at a rate equal to the prime lending rate
plus one percent (1.0%). The notes aggregating $1.5 million have been included
in other assets.
7. Other Liabilities:
On June 5, 1998, Interactive Products, Inc. ("IPI") entered into an agreement
with the Company granting the Company a license to, and an option to purchase a
joint ownership interest in, patents and patents pending which relate to IPI's
speech recognition technologies, speech compression technologies and speech
identification and verification technology. The aggregate value of the patented
technology is $1,250,000, which was paid by a $150,000 cash payment and delivery
of 1,250,000 shares of the Company's common stock valued at $0.65625 per share
on June 5, 1998. At such time as IPI sells any of such shares, the proceeds
thereof will be allocated towards a fully paid-up license fee for the technology
rights noted above. In the event that the proceeds from the sale of shares are
less than the $1,100,000, the Company will record a liability representing the
cash payment due. On July 5, 1998 the Company paid IPI $50,000, which was held
in escrow as security for the fulfillment of the Company's obligations, towards
the liability. The Company has recorded a liability of $544,000 at December 31,
1998 representing the difference between the payment obligations and the net
proceeds from the sale of shares of the Company's common stock received by IPI.
On September 4, 1998, the Company acquired the issued and outstanding common
stock of Advancel Logic Corporation ("Advancel"), a Silicon Valley-based
developer of microprocessor cores that execute Sun Microsystems' Java(TM) code.
The acquisition was pursuant to a stock purchase agreement dated as of August
21, 1998 (the "Stock Purchase Agreement") among the Company, Advancel and
certain shareholders of Advancel (the "Advancel Shareholders"). The
consideration for the acquisition of the Advancel common stock consisted of an
initial payment of $1.0 million payable by the delivery of 1,786,991 shares of
the Company's treasury stock (see Note 8) together with future payments, payable
in cash or in common stock of the Company at the election of the Advancel
Shareholders (individually, an "earnout payment" and collectively, the "earnout
payments") based on Advancel's earnings before interest, taxes, depreciation and
amortization (as defined in the Stock Purchase Agreement) for each of the
calendar years 1999, 2000, 2001 and 2002 (individually, an "earnout year" and
collectively, the "earnout years"). While each earnout payment may not be less
than $250,000 in any earnout year, there is no maximum earnout payment for any
earnout year or for all earnout years in the aggregate. In connection therewith
the Company recorded a $77,000 earnout at December 31, 1998. At December 31,
1998 the Company has a $100,000 note payable to a former employee of Advancel.
The note bears interest at a rate of 8.25%, compounded annually and is due in
two equal installments on December 1, 1998 and March 1, 1999. Such note is past
due.
8. Common Stock:
Private Placements and Stock Issuances:
On March 28, 1996, the Company sold 2.0 million shares of its common stock in
a private placement with an investor that provided net proceeds to the Company
of $0.7 million.
On April 10, 1996, the Company sold an additional 1.0 million shares, in the
aggregate, of its common stock in a private placement with three institutional
investors that provided net proceeds to the Company of $0.3 million.
Contemporaneously, the Company sold secured convertible term notes in the
aggregate principal amount of $1.2 million to those institutional investors and
granted them each an option to purchase an aggregate of $3.45 million of
additional shares of the Company's common stock. The per share conversion price
under the notes and the exercise price under the options are equal to the price
received by the Company for the sale of such 1.0 shares subject to certain
adjustments.
On August 13, 1996, the three institutional investors converted their
secured, convertible term notes and exercised their options in full. As a
result, the Company issued 13.4 million shares, in the aggregate, of its common
stock to such investors, received $3.45 million in cash and effected by
conversion to its common stock the payment of the notes together with the
accrued interest thereon.
On August 29, 1996, the Company sold 1.8 million shares of its common stock
to a foreign investor, which purchased 4.8 million shares of the Company's
common stock in November, 1995. The Company received $0.9 million of net
proceeds. The purchaser is subject to certain resale and transfer restrictions
with respect to these shares.
Between January 15, 1997 and March 25, 1997, the Company issued and sold an
aggregate amount of $3.4 million of non-voting subordinated convertible
debentures (the "Debentures") in a private placement pursuant to Regulation S of
the Securities Act of 1933, as amended, (the "Securities Act") to five unrelated
investors (the "Investors") through multiple dealers (the "First Quarter 1997
Financing") from which the Company realized $3.2 million of net proceeds. The
Debentures were to mature between January 15, 2000 and March 25, 2000 and earn
8% interest per annum, payable quarterly in either cash or the Company's common
stock at the Company's sole option. Subject to certain common stock resale
restrictions, the Investors, at their discretion, had the right to convert the
principal due on the Debentures into the Company's common stock at any time
after the 45th day following the date of the sale of the Debentures to the
Investors. In the event of such a conversion, the conversion price was the
lesser of 85% of the closing bid price of the Company's common stock on the
closing date of the Debentures' sale or between 75% to 60% (depending on the
Investor and other conditions) of the average closing bid price for the five
trading days immediately preceding the conversion. To provide for the above
noted conversion and interest payment options, the Company reserved 15 million
shares of the Company's common stock for issuance upon such conversion. Subject
to certain conditions, the Company also had the right to require the Investors
to convert all or part of the Debentures under the above noted conversion price
conditions after February 15, 1998. As of June 6, 1997, the Investors had
converted all $3.4 million of the Debentures into 16.5 million shares of the
Company's common stock. At the Company's election, interest due through the
conversion dates of the Debentures was paid through the issuance of an
additional 0.2 million shares of the Company's common stock. In conjunction with
the Debentures, the Company granted a warrant to purchase 75,000 shares of
common stock to one investor. During the year ended December 31, 1997, the
Company valued this warrant, using the Black-Scholes pricing model at $34,000
which was expensed as debt discount. The Company recorded a $1.4 million
non-cash interest expense attributable to the conversions of the Debentures in
the first and second quarters of 1997 as an adjustment during the fourth quarter
of 1997. If the shares were issued in lieu of debt at the respective issuance
dates of the debt, supplementary basic and diluted net loss per share for the
year ended December 31, 1997 would have been a loss of $0.08 per share.
On July 30, 1997 the Company sold 2.9 million shares, in the aggregate, of
its common stock at a price of $0.175 per share in a private placement that
provided net proceeds to the Company of $0.5 million.
On September 4, 1997, the Company transferred $5,000 cash and all of the
business and assets of its Audio Products Division as then conducted by the
Company and as reflected on the business books and records of the Company to a
newly incorporated company, NCT Audio Products, Inc., in consideration for 5,867
shares of NCT Audio common stock whereupon NCT Audio became a wholly-owned
subsidiary of the Company. The Company also granted NCT Audio an exclusive
worldwide license with respect to all of the Company's relevant patented and
unpatented technology relating to FPT(TM) and FPT(TM) based audio speaker
products for all markets for such products excluding (a) markets licensed to or
reserved by NXT plc and NXT under the Company's cross licensing agreements with
NXT plc and NXT, (b) the ground based vehicle market licensed to OAT, (c) all
markets for hearing aids and other hearing enhancing or assisting devices, and
(d) all markets for headsets, headphones and other products performing functions
substantially the same as those performed by such products in consideration for
a license fee of $3.0 million (eliminated in consolidation) to be paid when
proceeds are available from the sale of NCT Audio common stock and on-going
future royalties payable by NCT Audio to the Company as provided in such license
agreement. In addition, the Company agreed to transfer all of its rights and
obligations under its cross licensing agreements with NXT plc and NXT to NCT
Audio and to transfer the Company's interest in OAT to NCT Audio, which was then
redeemed by OAT on October 8, 1998. (Please refer to Note 3 for further
information.)
Between October 10, 1997 and December 4, 1997 NCT Audio issued 2,145 shares
of its common stock (including 533 shares issued to NXT plc) for an aggregate
purchase price of $4.0 million in a private placement pursuant to Regulation D
under the Securities Act (the "NCT Audio Financing"). NCT Audio has not met
certain conditions regarding the filing of a registration statement for NCT
Audio common stock. As such, holders of NCT Audio common stock have a right to
convert their NCT Audio common stock into a sufficient number of restricted
shares of NCT common stock to equal their original cash investment in NCT Audio,
plus a 20% discount to market. During 1998, two NCT Audio shareholders have
exercised their right to exchange 296 shares of NCT Audio common stock into
1,135,542 shares of NCT common stock under the terms noted above. In connection
therewith the Company recorded goodwill of $556,000 which is being amortized
over five years.
Between October 28, 1997 and December 11, 1997, the Company entered into a
series of subscription agreements (the "Series C Subscription Agreements") to
sell an aggregate amount of $13.3 million of Series C Convertible Preferred
Stock (the "Series C Preferred Stock") in a private placement, pursuant to
Regulation D of the Securities Act, to 32 unrelated accredited investors through
two dealers (the "1997 Series C Preferred Stock Private Placement"). The total
1997 Series C Preferred Stock Private Placement was completed on December 11,
1997. The aggregate net proceeds to the Company of the 1997 Series C Preferred
Stock Private Placement were $11.9 million. Each share of the Series C Preferred
Stock has a par value of $.10 per share and a stated value of one thousand
dollars ($1,000) with an accretion rate of four percent (4%) per annum on the
stated value. Each share of Series C Preferred Stock is convertible into fully
paid and nonassessable shares of the Company's common stock subject to certain
limitations. The shares of Series C Preferred Stock become convertible into
shares of common stock at any time commencing after the earlier of (i) the
effective date of the Series C Registration Statement; or (ii) ninety (90) days
after the date of filing of the Series C Registration Statement. Each share of
Series C Preferred Stock is convertible into a number of shares of common stock
of the Company as determined in accordance with the Series C Conversion Formula
as set forth in the agreement using a conversion price equal to the lesser of
(x) 120% of the five (5) day average closing bid price of common stock
immediately prior to the closing date of the Series C Preferred Stock being
converted or (y) 20% below the five (5) day average closing bid price of common
stock immediately prior to the conversion date thereof.
The conversion terms of the Series C Preferred Stock also provide that in no
event shall the average closing bid price referred to in the Series C Conversion
Formula be less than $0.625 per share and in no event shall the Company be
obligated to issue more than 26.0 million shares of its common stock in the
aggregate in connection with the conversion of the Series C Preferred Stock.
Accordingly, 26.0 million shares of common stock which could be issuable upon
conversion of the Series C Preferred Stock are included in the offering to which
the prospectus relates. Under the terms of the Series C Subscription Agreements,
the Company may be subject to a penalty if the Series C Registration Statement
is not declared effective within one hundred twenty (120) days after the first
closing of any incremental portion of the offering of Series C Preferred Stock,
such penalty to be in an amount equal to one and one half percent (1.5%) per
month of the aggregate amount of Series C Preferred Stock sold in the offering
up to a maximum of ten percent (10%) of such aggregate amount. The Series C
Subscription Agreements also provide that for a period commencing on the date of
the signing of the Series C Subscription Agreements and ending ninety (90) days
after the closing of the offering the Company will be prohibited from issuing
any debt or equity securities other than Series C Preferred Stock, and that the
Corporation will be required to make certain payments in the event of its
failure to effect conversion in a timely manner or in the event it fails to
reserve sufficient authorized but unissued common stock for issuance upon
conversion of the Series C Preferred Stock. As of December 31, 1998, 10,850
shares of Series C Preferred Stock have been converted to 20,665,000 shares of
NCT common stock.
During 1998, the Board of Directors authorized the issuance of a total of
125,000 shares of the Company's common stock to an employee, two directors and a
consultant in connection with their services to the Company. The Company valued
these shares at $97,000, representing the fair value on the date of issuance.
On July 15, 1998 the Company transferred $5,000 and all of the business and
assets of its Hearing Products Division as then conducted by the Company and as
reflected on the business books and records of the Company to a newly
incorporated subsidiary company, NCT Hearing Products, Inc. ("NCT Hearing") in
consideration for 6,400 shares of NCT Hearing common stock whereupon NCT Hearing
became a wholly-owned subsidiary of the Company. The Company also granted NCT
Hearing an exclusive worldwide license with respect to all of the Company's
relevant patented and unpatented technology relating to Hearing Products in
consideration for a license fee of $3.0 million (eliminated in consolidation) to
be paid when proceeds are available from the sale of NCT Hearing common stock
and running royalties payable with respect to NCT Hearing's sales of products
incorporating the licensed technology and its sublicensing of such technology.
It is anticipated that NCT Hearing will issue additional shares of its common
stock in transactions exempt from registration in order to raise additional
working capital.
On July 27, 1998, the Company entered into subscription agreements (the
"Series D Subscription Agreements") to sell 6,000 shares of the Company's Series
D Convertible Preferred Stock ("Series D Preferred Stock") having an aggregate
stated value of $6.0 million in a private placement, pursuant to Regulation D of
the Securities Act of 1933, as amended (respectively "Regulation D" and the
"Securities Act"), to six unrelated accredited investors through one dealer (the
"1998 Series D Preferred Stock Private Placement. The sale of 6,000 shares of
Series D Preferred Stock having an aggregate $6.0 million stated value was
completed on August 6, 1998. $5.2 million net proceeds were received by the
Company from the 1998 Series D Preferred Stock Private Placement. Each share of
the Series D Preferred Stock has a par value of $.10 per share and a stated
value of one thousand dollars ($1,000) with an accretion rate of four percent
(4%) per annum on the stated value. Each share of Series D Preferred Stock is
convertible into fully paid and nonassessable shares of the Company's common
stock subject to certain limitations. Under the terms of the Series D
Subscription Agreements, the Company is required to file a registration
statement ("the Series D Registration Statement") covering the resale of all
shares of common stock of the Company issuable upon conversion of the Series D
Preferred Stock then outstanding within sixty (60) days after the completion of
the 1998 Series D Preferred Stock Private Placement (respectively, the "Series D
Filing Date" and the "Series D Closing Date"). The shares of Series D Preferred
Stock become convertible into shares of common stock at any time commencing
after the earlier of (i) ninety (90) days after the Series D Closing Date; (ii)
five (5) days after the Company receives a "no review" status from the SEC in
connection with the Series D Registration Statement; or (iii) the effective date
of the Series D Registration Statement. The Series D Registration Statement
became effective on October 30, 1998, and shares of Series D Preferred Stock
became convertible on that date. Each share of Series D Preferred Stock is
convertible into a number of shares of common stock of the Company as determined
in accordance with the Series D Conversion Formula as set forth in the agreement
using a conversion price equal to the lesser of (x) 120% of the five (5) day
average closing bid price of common stock immediately prior to the closing date
of the Series D Preferred Stock being converted or (y) 20% below the five (5)
day average closing bid price of common stock immediately prior to the
conversion date thereof.
The conversion terms of the Series D Preferred Stock also provide that in no
event shall the conversion price referred to in the Series D Conversion Formula
be less than $0.50 per share and in no event shall the Company be obligated to
issue more than 12,000,000 shares of its common stock in the aggregate in
connection with the conversion of the 6,000 shares of Series D Preferred Stock
issued under the 1998 Series D Preferred Stock Private Placement. The Series D
Subscription Agreements also provide that the Company will be required to make
certain payments in the event of its failure to effect conversion in a timely
manner. Including shares of common stock issued for accretion, as of March 12,
1999, all shares of Series D Preferred Stock have been converted to 12,273,685
shares of NCT common stock.
On July 27, 1998, NCT Audio entered into subscription agreements (the "NCT
Audio Subscription Agreements") to sell 60 shares of NCT Audio's Series A
Convertible Preferred Stock ("NCT Audio Series A Preferred Stock") having an
aggregate stated value of $6.0 million in a private placement, pursuant to
Regulation D of the Securities Act, to six unrelated accredited investors
through one dealer (the "1998 NCT Audio Series A Preferred Stock Private
Placement"). The sale of 60 shares of NCT Audio Series A Preferred Stock having
an aggregate $6.0 million stated value was completed on August 17, 1998. NCT
Audio received net proceeds of $5.2 million from the 1998 NCT Audio Series A
Preferred Stock Private Placement. Each share of the NCT Audio Series A
Preferred Stock has a par value of $.10 per share and a stated value of one
hundred thousand dollars ($100,000) with an accretion rate of four percent (4%)
per annum on the stated value. Each share of NCT Audio Series A Preferred Stock
is convertible into fully paid and nonassessable shares of NCT Audio's common
stock subject to certain limitations. Under the terms of the NCT Audio
Subscription Agreements NCT Audio is required to file a registration statement
("NCT Audio Registration Statement") covering the resale of all shares of common
stock of NCT Audio issuable upon conversion of the NCT Audio Series A Preferred
Stock then outstanding by a date (the "Series A Filing Deadline") which is not
later than thirty (30) days after the Company becomes a "reporting company"
under the Exchange Act. The shares of NCT Audio Series A Preferred Stock become
convertible into shares of NCT Audio common stock at any time after the date the
Company becomes a "reporting company" under the Exchange Act. Each share of
Series A Preferred Stock is convertible into a number of shares of common stock
of NCT Audio as determined in accordance with the Series A Conversion Formula as
set forth in the agreement using a conversion price equal to the lesser of (x)
120% of the five (5) day average closing bid price of common stock immediately
prior to the closing date of the Series A Preferred Stock being converted or (y)
20% below the five (5) day average closing bid price of common stock immediately
prior to the conversion date thereof.
The conversion terms of the NCT Audio Series A Preferred Stock also provide
that in the event that NCT Audio has not become a "reporting company" under the
Exchange Act by December 31, 1998, or the NCT Audio Registration Statement has
not been declared effective by the SEC by December 31, 1998, the holder shall be
entitled to exchange each share of NCT Audio Series A Preferred Stock for 100
shares of the Company's Series D Convertible Preferred Stock and thereafter
shall be entitled to all rights and privileges of a holder of the Company's
Series D Preferred Stock. As of December 31, 1998, no NCT Audio Series A
Preferred Stock shareholders have exercised their right to exchange NCT Audio
Series A Preferred Stock into the Company's Series D Convertible Preferred
Stock.
On July 29, 1998, the Company initiated a plan to repurchase from time to
time up to 10 million shares of the Company's common stock in the open market
pursuant to Rule 10b-18 under the Exchange Act or through block trades. As of
December 31, 1998, the Company had repurchased 5,607,100 shares of the Company's
common stock at per share prices ranging from $0.3438 to $0.6563. The stock
repurchase program was terminated on December 30, 1998.
On September 4, 1998, the Company acquired the issued and outstanding common
stock of Advancel. The acquisition was pursuant to the Stock Purchase Agreement.
The consideration for the acquisition of the Advancel common stock consisted of
an initial payment of $1.0 million payable by the delivery of 1,786,991 shares
of the Company's treasury stock together with future payments, payable in cash
or in common stock of the Company at the election of the Advancel Shareholders
based on Advancel's earnings before interest, taxes, depreciation and
amortization for each of the calendar years 1999, 2000, 2001 and 2002. While
each earnout payment may not be less than $250,000 in any earnout year, there is
no maximum earnout payment for any earnout year or for all earnout years in the
aggregate. To determine the number of shares of the Company's common stock
issuable in connection with an earnout payment, each earnout payment is to be
calculated using the average of the closing prices of the Company's common stock
for each of the twenty (20) business days following the 21st day after the
release of Advancel's audited year-end financials for an earnout year. At that
time, Advancel Shareholders will elect to receive payment in cash or common
stock of the Company. In the event that the Company is unable to maintain the
registration statement covering the resale of 1,786,991 shares effective for at
least thirty (30) days, each Advancel Shareholder shall have the right, until
April 15, 1999, to have the Company redeem up to one-third of the initial
payment shares acquired by such Advancel Shareholder by paying in cash therefor
a sum calculated by using the formula used to determine the number of shares of
the Company's common stock to be delivered in payment of the initial payment of
$1.0 million. The cost of the acquisition has been allocated to the assets
acquired and liabilities assumed based on their fair values as follows:
Asset acquired and liabilities assumed:
Current assets $ 368,109
Property, plant and equipment 4,095
Goodwill 1,018,290
Other assets 13,486
Current liabilities (485,040)
Unearned portion of compensatory stock 141,251
-----------
Cost of acquisition (including expenses of $60,191) $ 1,060,191
===========
The acquisition has been accounted for as a purchase and, accordingly, the
accompanying consolidated financial statements include the accounts of Advancel
from the date of acquisition. Goodwill on acquisition is being amortized over
five years.
At the Annual Meeting of Stockholders held on October 20, 1998, the
stockholders approved an amendment to the Company's Restated Certificate of
Incorporation to increase the authorized number of shares of common stock from
185 million to 255 million shares. Such action was deemed by the Board of
Directors to be in the best interest of the Company to make additional shares of
the Company's common stock available for an increase in the number of shares of
common stock covered by the 1992 Plan pursuant to an amendment of the 1992 Plan
approved by the stockholders at such Annual Meeting, and for acquisitions,
public or private financings involving common stock or preferred stock or other
securities convertible to common stock, stock splits and dividends, present and
future employee benefit programs and other corporate purposes.
On November 24, 1998, the Company paid $1,000 in consideration for a
wholly-owned subsidiary, DistributedMedia.com ("DMC"). DMC was formed to
develop, install, and provide an audio/visual advertising medium within
commercial/professional settings.
On December 30, 1998, the Company entered into a series of subscription
agreements (the " Series E Subscription Agreements") to sell an aggregate stated
value of up to $8.2 million of Series E Convertible Preferred Stock (the "
Series E Preferred Stock") in consideration of $4.0 million, in a private
placement, pursuant to Regulation D of the Securities Act, to six unrelated
accredited investors through one dealer (the "1998 Series E Preferred Stock
Private Placement). The sale of 8,145 shares of Series E Preferred Stock having
an aggregate $8.1 million stated value was completed on March 12, 1999. The
Company received net proceeds of $1.8 million from the 1998 Series E Preferred
Stock Private Placement through March 24, 1999. In addition to the above noted
Series E Subscription Agreements, the Company issued and sold an aggregate
amount of $1.7 million of Series E Preferred Stock to three accredited investors
through the above noted dealer, in exchange for an aggregate stated value of
$1.7 million of the Company's Series C Preferred Stock held by the three
accredited investors. The Company also issued and sold an aggregate amount of
$0.7 million of Series E Preferred Stock to four accredited investors through
the above noted dealer, in exchange and consideration for an aggregate of 2.1
million shares of the Company's common stock held by the four accredited
investors. Each share of the Series E Preferred Stock has a par value of $.10
per share and a stated value of one thousand dollars ($1,000) with an accretion
rate of four percent (4%) per annum on the stated value. Each share of Series E
Preferred Stock is convertible into fully paid and nonassessable shares of the
Company's common stock subject to certain limitations. Under the terms of the
Series E Subscription Agreements the Company is required to file a registration
statement ("the Series E Registration Statement") on (i) Form S-3 on or prior to
the date which is no more than sixty (60) days from the date that the Company
has issued a total of 7,438 shares of Series E Preferred Stock if filed or (ii)
Form S-1 on or prior to a date which is no more than ninety (90) days from the
date that the Company has issued a total of 7,438 shares of Series E Preferred
Stock, covering the resale of all of the Registrable Securities. The shares of
Series E Preferred Stock become convertible into shares of common stock at any
time commencing after the earlier of (i) ninety (90) days after the Series E
Closing Date; (ii) five (5) days after the Company receives a "no review" status
from the SEC in connection with the Registration Statement; or (iii) the
effective date of the Series E Registration Statement. Each share of Series E
Preferred Stock is convertible into a number of shares of common stock of the
Company as determined in accordance with the Series E Conversion Formula as set
forth in the agreement using a conversion price equal to the lesser of (x) 120%
of the five (5) day average closing bid price of common stock immediately prior
to the closing date of the Series E Preferred Stock being converted or (y) 20%
below the five (5) day average closing bid price of common stock immediately
prior to the conversion date thereof.
The conversion terms of the Series E Preferred Stock also provide that in no
event shall the Company be obligated to issue more than 30,000,000 shares of its
common stock in the aggregate in connection with the conversion of the 10,580
shares of Series E Preferred Stock issued under the 1998 Series E Preferred
Stock Private Placement. The Series E Subscription Agreements also provide that
the Company will be required to make certain payments in the event of its
failure to effect conversion in a timely manner. As of December 31, 1998, no
shares of Series E Preferred Stock have been converted into NCT common stock.
In connection with the Series E Preferred Stock, the Company may be obligated
to redeem the excess of the stated value over the amount permitted to be
converted into common stock. Such obligation will be triggered in the event that
the Company issues 30,000,000 shares on conversion of Series E Preferred Stock.
<PAGE>
Common Shares available for common stock options, warrants and convertible
securities:
At December 31, 1998, the aggregate number of shares of common stock required
to be reserved for issuance upon the exercise of all outstanding options and
warrants was 30.6 million shares (see Note 9), and the aggregate number of
shares of common stock required to be reserved for issuance upon conversion of
issued and outstanding shares of Series C Convertible Preferred Stock was 1.5
million shares. The Company also has reserved 15.4 million shares of common
stock for issuance to certain holders of NCT Audio common stock upon their
exercise of certain rights to exchange their shares of NCT Audio common stock
for shares of the Company's common stock, 26.0 million shares of common stock
for issuance upon the conversion of the 1998 Series D Preferred Stock Private
Placement and 30.0 million shares of common stock for issuance upon the
conversion of the 1998 Series E Preferred Stock Private Placement. At December
31, 1998, the number of shares available for the exercise of options and
warrants was 39.4 million and of the outstanding options and warrants, options
and warrants to purchase 22.6 million shares were currently exercisable. Common
shares issued and issuable exceed the number of shares authorized at December
31, 1998. However, should shares of common stock issued reach the authorized
limit, shares in excess of the limit will be borrowed from the 1992 Plan.
Stock subscription receivable:
The $0.4 million stock subscription receivable at December 31, 1997
represents a receivable of $0.1 million due from a director, which was paid with
157,956 shares of NCT common stock in 1998, and a $0.3 million receivable from
the escrow agent for the NCT Audio financing which was paid on June 30, 1998.
The $4.0 million subscription receivable at December 31, 1998 represents a
receivable due from the Series E Subscription Agreements. Net proceeds to the
Company as of March 24, 1999 was $1.8 million.
9. Common Stock Options and Warrants:
The Company applies APB 25 in accounting for its various employee stock
option incentive plans and warrants and, accordingly, recognizes compensation
expense as the difference, if any, between the market price of the underlying
common stock and the exercise price of the option on the date of grant. The
effect of applying SFAS No. 123 on 1996, 1997 and 1998 pro forma net loss as
stated above is not necessarily representative of the effects on reported net
loss for future periods due to, among other factors, (i) the vesting period of
the stock options and (ii) the fair value of additional stock option grants in
future periods. If compensation expense for the Company's stock option plans and
warrants had been determined based on the fair value of the options or warrants
at the grant date for awards under the plans in accordance with the methodology
prescribed under SFAS No. 123, the Company's net loss would have been $(12.8)
million, $(15.8) million and $(19.0) million, or $(0.13), $(0.14) and $(0.16)
basic and diluted per share in 1996, 1997 and 1998, respectively. The fair value
of the options and warrants granted in 1996, 1997 and 1998 are estimated in the
range of $0.48 to $0.58, $0.16 to $4.07 and $0.24 to $0.81 per share,
respectively, on the date of grant using the Black-Scholes option-pricing model
utilizing the following assumptions: dividend yield 0%, volatility of 1.225,
1.289 and 1.307 in 1996, 1997 and 1998, respectively, risk free interest rates
in the range of 5.05% to 6.50%, 5.79% to 6.63% and 5.28% to 5.55% for 1996, 1997
and 1998, respectively, and expected life of 3 years. The weighted average fair
value of options granted during 1996, 1997 and 1998 are estimated in the range
of $0.49, $0.13 to $0.58, and $0.53 per share, respectively also using the
Black-Scholes option-pricing model.
Stock Options:
The Company's 1987 Stock Option Plan (the "1987 Plan") provides for the
granting of up to 4,000,000 shares of common stock as either incentive stock
options or nonstatutory stock options. Options to purchase shares may be granted
under the 1987 Plan to persons who, in the case of incentive stock options, are
full-time employees (including officers and directors) of the Company; or, in
the case of nonstatutory stock options, are employees or non-employee directors
of the Company. The exercise price of all incentive stock options must be at
least equal to the fair market value of such shares on the date of the grant and
may be exercisable over a ten-year period. The exercise price and duration of
the nonstatutory stock options are to be determined by the Board of Directors.
Options granted under the 1987 Plan generally vest 20% upon grant and 20% per
annum thereafter as determined by the Board of Directors.
<PAGE>
Information with respect to 1987 Plan activity is summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------------------------------------------------
1996 1997 1998
------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 1,540,000 $0.56 1,500,000 $0.54 1,350,000 $0.51
Options granted - - 1,350,000 $0.51 - -
Options exercised - - - - - -
Options canceled,
expired or forfeited (40,000) $1.31 (1,500,000) $0.54 - -
---------- ----------- ----------
Outstanding at end of
year 1,500,000 $0.54 1,350,000 $0.51 1,350,000 $0.51
========== =========== =========
Options exercisable
at year-end 1,500,000 $0.54 1,350,000 $0.51 1,350,000 $0.51
========== =========== =========
</TABLE>
As of December 31, 1998, options for the purchase of 217,821 shares were
available for future grant under the 1987 Plan.
The Company's non-plan options are granted from time to time at the
discretion of the Board of Directors. The exercise price of all non-plan options
generally must be at least equal to the fair market value of such shares on the
date of grant and generally are exercisable over a five to ten year period as
determined by the Board of Directors. Vesting of non-plan options varies from
(i) fully vested at the date of grant to (ii) multiple year apportionment of
vesting as determined by the Board of Directors.
Information with respect to non-plan stock option activity is summarized as
follows:
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------------------------------
1996 1997 1998
---------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
---------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 403,116 $1.04 372,449 $1.08 4,319,449 $0.36
Options granted - - 7,844,449 $0.41 - -
Options exercised (26,667) $0.50 - - - -
Options canceled,
expired or forfeited (4,000) $1.33 (3,897,449) $0.53 - -
------- --------- ---------
Outstanding at end of
year 372,449 $1.08 4,319,449 $0.36 4,319,449 $0.36
======= ========= =========
Options exercisable
at year-end 370,449 $1.07 4,319,449 $0.36 4,319,449 $0.36
======= ========= =========
</TABLE>
On October 6, 1992, the Company adopted a stock option plan as amended, the
1992 Plan, for the granting of options to purchase up to 10,000,000 shares of
common stock to officers, employees, certain consultants and certain directors.
The exercise price of all 1992 Plan options must be at least equal to the fair
market value of such shares on the date of the grant and 1992 Plan options are
generally exercisable over a five to ten year period as determined by the Board
of Directors. Vesting of 1992 Plan options varies from (i) fully vested at the
date of grant to (ii) multiple year apportionment of vesting as determined by
the Board of Directors. On October 20, 1998, the stockholders approved an
amendment to the 1992 Plan to increase the aggregate number of shares of
common stock reserved for grants of restricted stock and grants of options to
purchase shares of common stock to 30,000,000 shares. The 1992 Plan was also
amended to eliminate the automatic grant of 75,000 shares of the Company's
common stock upon a new director's initial election to the Board of Directors
and to eliminate the automatic grant of 5,000 shares of the Company's common
stock to each non-employee director for services as a director of the Company
for each subsequent election.
Information with respect to 1992 Plan activity is summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------------------------------------------------
1996 1997 1998
--------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
--------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 4,004,248 $1.00 6,022,765 $0.86 9,029,936 $0.72
Options granted 2,156,500 $0.67 4,652,222 $0.55 21,989,000 $0.69
Options exercised (33,533) $0.75 (1,141,795) $0.64 (1,561) $0.27
Options canceled,
expired or forfeited (104,450) $1.37 (503,256) $0.99 (11,185,554) $1.03
--------- --------- ----------
Outstanding at end of
year 6,022,765 $0.86 9,029,936 $0.72 19,831,821 $0.52
========= ========= ==========
Options exercisable
at year-end 5,835,265 $0.86 6,592,436 $0.73 12,053,571 $0.60
========= ========= ==========
</TABLE>
As of December 31, 1998, options for the purchase of 8,515,776 shares were
available for future grants of restricted stock awards and for options to
purchase common stock under the 1992 Plan.
On November 15, 1994, the Board of Directors adopted the Noise Cancellation
Technologies, Inc. Option Plan for Certain Directors (the "Directors Plan"), as
amended. Under the Directors Plan 821,000 shares have been approved by the Board
of Directors for issuance. The options granted under the Directors Plan have
exercise prices equal to the fair market value of the Common Stock on the grant
dates, and expire five years from date of grant. Options granted under the
Directors Plan are fully vested at the grant date.
Information with respect to Directors Plan activity is summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------------------------------------------------
1996 1997 1998
-------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 821,000 $0.73 746,000 $0.73 746,000 $0.73
Options granted - - - - - -
Options exercised - - - - - -
Options canceled,
expired or forfeited (75,000) $0.75 - - - -
-------- ------- -------
Outstanding at end of
year 746,000 $0.73 746,000 $0.73 746,000 $0.73
======== ======= =======
Options exercisable
at year-end 746,000 $0.73 746,000 $0.73 746,000 $0.73
======== ======= =======
</TABLE>
As of December 31, 1998, there were 75,000 options for the purchase of shares
available for future grants under the Directors Plan.
<PAGE>
The following information summarizes information about the Company's stock
options outstanding at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------ -----------------------
Weighted
Average
Remaining Weighted Weighted
Contractual Average Average
Range of Number Life Exercise Number Exercise
Plan Exercise Price Outstanding (In Years) Price Exercisable Price
- ---------------- -------------- ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
1987 Plan $0.50 to $0.63 1,350,000 0.18 $0.51 1,350,000 $0.51
Non-Plan $0.27 to $5.09 4,319,449 3.14 $0.36 4,319,449 $0.36
1992 Plan $0.22 to $4.00 19,831,821 6.83 $0.52 12,053,571 $0.60
Director's Plan $0.66 to $0.75 746,000 0.88 $0.73 746,000 $0.73
</TABLE>
Warrants:
The Company's warrants are granted from time to time at the discretion of the
Board of Directors. The exercise price of all warrants generally must be at
least equal to the fair market value of such shares on the date of grant.
Warrants are generally exercisable over a five to ten year period as determined
by the Board of Directors. Warrants generally vest on the grant date.
Information with respect to warrant activity is summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------------------------------------------------------
1996 1997 1998
------------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 4,032,541 $0.71 3,888,539 $0.72 3,146,920 $0.81
Warrants granted - - 2,846,923 $0.76 1,588,164 $0.92
Warrants exercised (144,002) $0.45 (854,119) $0.41 - -
Warrants canceled,
expired or forfeited - - (2,734,423) $0.75 (362,400) $1.16
--------- --------- ---------
Outstanding at end
of year 3,888,539 $0.72 3,146,920 $0.81 4,372,684 $0.82
========= ========= =========
Warrants exercisable
at year-end 3,888,539 $0.72 3,146,920 $0.81 4,172,684 $0.86
========= ========= =========
</TABLE>
The following table summarizes information about warrants outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
Warrants Outstanding Warrants Exercisable
---------------------------------------- ------------------------
Weighted
Average
Remaining Weighted Weighted
Contractual Average Average
Range of Number Life Exercise Number Exercise
Exercise Price Outstanding (In Years) Price Exercisable Price
- -------------- ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C> <C>
$0.50 to $4.00 4,372,684 2.02 $0.82 4,172,684 $0.86
</TABLE>
<PAGE>
10. Related Parties:
Environmental Research Information, Inc.
In 1989, the Company established a joint venture with Environmental Research
Information, Inc., ("ERI") to jointly develop, manufacture and sell (i) products
intended for use solely in the process of electric power generation,
transmission and distribution and which reduce noise and/or vibration resulting
from such process, (ii) personal quieting products sold directly to the electric
utility industry and (iii) products that reduce noise and/or vibration emanating
from fans and fan systems (collectively, "Power and Fan Products"). In 1991, in
connection with the termination of this joint venture, the Company agreed, among
other things, during the period ending February 1996, to make payments to ERI
equal to (i) 4.5% of the Company's sales of Power and Fan Products and (ii)
23.75% of fees derived by the Company from its license of Power and Fan Products
technology, subject to an overall maximum of $4,500,000. Michael J. Parrella,
President of the Company, was Chairman of ERI at the time of both the
establishment and termination of the joint venture and owns approximately 12% of
the outstanding capital of ERI. In addition, Jay M. Haft, Chairman of the Board
of Directors of the Company, shares investment control over an additional 24% of
the outstanding capital of ERI. During the fiscal year ended December 31, 1998,
the Company was not required to make any such payments to ERI under these
agreements.
Quiet Power Systems, Inc.
In 1993, the Company entered into three Marketing Agreements with QuietPower
Systems, Inc. ("QSI") (until March 2, 1994, "Active Acoustical Solutions,
Inc."), a company which is 33% owned by ERI and 2% owned by Mr. Haft. Under the
terms of one of these Marketing Agreements, QSI has undertaken to use its best
efforts to seek research and development funding for the Company from electric
and natural gas utilities for applications of the Company's technology to their
industries. In exchange for this undertaking, the Company has issued a warrant
to QSI to purchase 750,000 shares of Common Stock at $3.00 per share. The last
sale price for the Common Stock reported on the NASDAQ National Market System on
May 15, 1993, the date of the Marketing Agreement, was $2.9375. The warrant
becomes exercisable as to specific portions of the total 750,000 shares of
Common Stock upon the occurrence of defined events relating to QSI's efforts to
obtain such funding for the Company. When such defined events occur, the Company
will record a charge for the amount by which the market price of the Common
Stock on such date exceeds $3.00 per share, if any. The warrant remains
exercisable as to each such portion from the occurrence of the defined event
through October 13, 1998. As of December 31, 1993, contingencies had been
removed against 525,000 warrants resulting in a 1993 non-cash charge of
$120,250. This Marketing Agreement also grants to QSI a non-exclusive right to
market the Company's products that are or will be designed and sold for use in
or with equipment used by electric and/or natural gas utilities for non-retrofit
applications in North America. QSI is entitled to receive a sales commission on
any sales to a customer of such products for which QSI is a procuring cause in
obtaining the first order from such customer. In the case of sales to utility
company customers, the commission is 6% of the revenues received by the Company.
On sales to original equipment manufacturers for utilities, the commission is 6%
on the gross revenue NCT receives on such sales from the customer in the first
year, 4% in the second year, 2% in the third year and 1% in the fourth year, and
.5% in any future years after the fourth year. QSI is also entitled to receive a
5% commission on any research and development funding it obtains for NCT, and on
any license fees it obtains for the Company from the license of the Company's
technology. The initial term of this Agreement is three years renewable
automatically thereafter on a year-to-year basis unless a party elects not to
renew.
Under the terms of the second of the three Marketing Agreements, QSI is
granted a non-exclusive right to market the Company's products that are or will
be designed and sold for use in or with feeder bowls throughout the world,
excluding Scandinavia and Italy. Under this Marketing Agreement, QSI is entitled
to receive commissions similar to those payable to end user and original
equipment manufacturer customers described above. QSI is also entitled to
receive the same 5% commission described above on research and development
funding and technology licenses which it obtains for the Company in the feeder
bowl area. The initial term of this Marketing Agreement is three years with
subsequent automatic one-year renewals unless a party elects not to renew.
Under the terms of the third Marketing Agreement, QSI is granted an exclusive
right to market the Company's products that are or will be designed and sold for
use in or with equipment used by electric and/or natural gas utilities for
retrofit applications in North America. QSI is entitled to receive a sales
commission on any sales to a customer of such products equal to 129% of QSI's
marketing expenses attributable to the marketing of the products in question,
which expenses are to be deemed to be the lesser of QSI's actual expenses or 35%
of the revenues received by the Company from the sale of such products. QSI is
also entitled to receive a 5% commission on research and development funding
similar to that described above. QSI's exclusive rights continue for an
indefinite term provided it meets certain performance criteria relating to
marketing efforts during the first two years following product availability in
commercial quantity and minimum levels of product sales in subsequent years. In
the event QSI's rights become non-exclusive, depending on the circumstances
causing such change, the initial term then becomes either three or five years
from the date of this Marketing Agreement, with subsequent one-year automatic
renewals in each instance unless either party elects not to renew.
For the years ended December 31, 1996, 1997 and 1998 the Company was not
required to pay any commissions to QSI under any of these Marketing Agreements.
The Company has also entered into a Teaming Agreement with QSI under which
each party agrees to be responsible for certain activities relating to
transformer quieting system development projects to be undertaken with utility
companies. Under this Teaming Agreement, QSI is entitled to receive 19% of the
amounts to be received from participating utilities and the Company is entitled
to receive 81%. During the fiscal year ended December 31, 1996, 1997 and 1998 no
payments were required to be made to QSI.
In March 1995, the Company entered into a Master Agreement with QSI under
which QSI was granted an exclusive worldwide license under certain NCT patents
and technical information to market, sell and distribute transformer quieting
products, turbine quieting products and certain other products in the utility
industry. Under the Master Agreement, QSI is to fund development of the products
by the Company and the Company is to manufacture the products. However, QSI may
obtain the right to manufacture the products under certain circumstances
including NCT's failure to develop the products or the failure of the parties to
agree on certain development matters. In consideration of the rights granted
under the Master Agreement, QSI is to pay the Company a royalty of 6% of the
gross revenues received from the sale of the products and 50% of the gross
revenues received from sublicensing the rights granted to QSI under the Master
Agreement after QSI has recouped 150% of the costs incurred by QSI in the
development of the products in question. The Company is obligated to pay similar
royalties to QSI on its sale of the products and the licensing of rights covered
under the Master Agreement outside the utility industry and from sales and
licensing within the utility industry in the Far East. In addition to the
foregoing royalties, QSI is to pay an exclusivity fee to the Company of
$750,000; $250,000 of which QSI paid to the Company in June 1994. The balance is
payable in equal monthly installments of $16,667 beginning in April 1995. QSI's
exclusive rights become non-exclusive with respect to all products if it fails
to pay any installment of the exclusivity fee when due and QSI loses such rights
with respect to any given product in the event it fails to make any development
funding payment applicable to that product. The Master Agreement supersedes all
other agreements relating to the products covered under the Master Agreement,
including those agreements between the Company and QSI described above.
Immediately following the execution to the Master Agreement, the Company and
QSI entered into a letter agreement providing for the termination of the Master
Agreement at the Company's election if QSI did not pay approximately $500,000 in
payables then owed to the Company by May 15, 1995.
In April 1995, the Company and QSI entered into another letter agreement
under which QSI agreed to forfeit and surrender the five year warrant to
purchase 750,000 shares of the Company's common stock issued to QSI under the
first Marketing Agreement described above. In addition, the $500,000 balance of
the exclusivity fee provided for under the Master Agreement was reduced to
$250,000 to be paid in 30 monthly installments of $8,333 each and the payment of
the indebtedness to be paid under the letter agreement described in the
preceding paragraph was revised to be the earlier of May 15, 1996, or the date
of closing of a financing of QSI in an amount exceeding $1.5 million, whichever
first occurs. Such indebtedness is to be evidenced by a promissory note, non
payment of which is to constitute an event of termination under the Master
Agreement.
On May 21, 1996, the Company and QSI entered into another letter agreement
extending the time by which the payments from QSI to the Company under the April
1995 letter agreement described above were to be made. Under the letter the
payment of certain arrearages in the payment of the exclusivity fee was to be
made not later than June 15, 1996, with the balance continuing to be payable by
monthly payments of $8,333 as provided in the May 1995 letter agreement. In
addition, the payment of the other indebtedness owed by QSI to the Company was
to be paid by a payment of $25,000 at the time QSI obtained certain anticipated
financing with the balance paid by monthly payments of $15,000 each. Default in
QSI's timely payment of any of the amounts specified in the May 21, 1996 letter
agreement was to cause the immediate termination of the Master Agreement and all
rights granted to QSI thereunder.
On April 9, 1997, the Company and QSI entered into another letter agreement
revising the payment schedule set forth in the May 21, 1996 letter agreement
applicable to the payment of the indebtedness owed to the Company by QSI other
than the unpaid portion of the exclusivity fee. Under the revised schedule, the
full amount of such indebtedness is to be paid by an initial payment of $125,000
on or before April 21, 1997, and a second payment of $200,000 upon the closing
of a proposed financing in June 1997 or on January 1, 1998, whichever first
occurs. The Company is also entitled to receive 15% of any other financing
obtained by QSI in the interim as well as interest at the rate of 10% per annum
on the unpaid amount of such indebtedness from July 1, 1997. The letter
agreement also provides for the continuation of QSI's payment of the exclusivity
fee in accordance with the earlier letter agreements as well as the payment of
$11,108 by April 21, 1997, for headset products sold by the Company to QSI in
1996. In the event of a default in QSI's timely payment of any of the amounts
specified in the April 9, 1997 letter agreement, the Company has the right to
cause the termination of the Master Agreement and all rights granted by QSI
thereunder upon 10 days notice of termination to QSI.
As of December 31, 1998, QSI owes the Company $239,000, which is fully
reserved, for the exclusivity fee, rent and engineering services.
<PAGE>
Other Parties
The President and Chief Executive Officer, who is also a stockholder of the
Company, receives an incentive bonus equal to 1% of the cash received by the
Company upon the execution of agreements or other documentation evidencing
transactions with unaffiliated parties. For the year ended December 31, 1997 and
1998, approximately $243,000 and $206,000 was incurred in connection with this
arrangement.
During 1996, 1997 and 1998, the Company purchased $0.6 million, $0.7 million
and $0.2 million, respectively, of products from its various manufacturing joint
venture entities.
11. Income Taxes:
The Company provides for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes".
Accordingly, deferred tax assets and liabilities are established for temporary
differences between tax and financial reporting bases of assets and liabilities.
A valuation allowance is established when the Company determines that it is more
likely than not that a deferred tax asset will not be realized. The Company's
temporary differences primarily result from depreciation related to machinery
and equipment, compensation expense related to warrants, options and reserves.
The adoption of the aforementioned accounting standard had no effect on
previously reported results of operations.
At December 31, 1998, the Company had available net operating loss
carryforwards of approximately $85.8 million and research and development credit
carryforwards of $1.6 million for federal income tax purposes which expire as
follows:
(in thousands of dollars)
Research and
Net Operating Development
Year Losses Credits
---------------- ---------------
1999 $ 151 $ --
2000 129 --
2001 787 --
2002 2,119 --
2003 1,974 --
2004 1,620 --
2005 3,870 141
2006 1,823 192
2007 6,866 118
2008 13,456 321
2009 16,293 413
2010 9,415 61
2011 9,051 67
2012 4,902 (1) 267
2018 13,314 (2)
---------------- ----------------
Total $85,770 $1,580
================ ================
(1) Includes approximately $1.2 million net operating loss relating to NCT
Audio Products, Inc.
(2) Includes approximately $4.4 million net operating loss relating to NCT
Audio Products, Inc.
The Company's ability to utilize its net operating loss carryforwards may be
subject to an annual limitation. The difference between the statutory tax rate
of 34% and the Company's effective tax rate of 0% is due to the increase in the
valuation allowance of $3.3 million, $3.0 million and $1.4 million in 1996, 1997
and 1998, respectively.
<PAGE>
The types of temporary differences that give rise to significant portions of
the deferred tax assets and the federal and state tax effect of those
differences as well as federal net operating loss and research and development
credit at December 31, 1997 and 1998 were as follows:
(in thousands of dollars)
-------------------------
1997 1998
--------- ----------
Accounts receivable $ 207 $ 157
Inventory 191 173
Property and equipment 68 68
Accrued expenses 69 65
Stock compensation 2,698 2,711
Other 299 349
--------- ----------
Total temporary differences $ 3,532 $ 3,523
Federal net operating losses 26,149 27,258
Federal research and development
credits 1,313 1,580
--------- ----------
$ 30,994 $ 32,361
Less: Valuation allowance (30,994) (32,361)
--------- ----------
Deferred taxes $ - -
========= ==========
12. Litigation:
On or about June 15, 1995, Guido Valerio filed suit against the Company in
the Tribunale di Milano, Milano, Italy. The suit requests the Court to award
judgment in favor of Mr. Valerio as follows: (i) establish and declare that a
proposed independent sales representation agreement submitted to Mr. Valerio by
the Company and signed by Mr. Valerio but not executed by the Company was made
and entered into between Mr. Valerio and the Company on June 30, 1992; (ii)
declare that the Company is guilty of breach of contract and that the purported
agreement was terminated by unilateral and illegitimate withdrawal by the
Company; (iii) order the Company to pay Mr. Valerio $30,000 for certain amounts
alleged to be owing to Mr. Valerio by the Company; (iv) order the Company to pay
commissions to which Mr. Valerio would have been entitled if the Company had
followed up on certain alleged contacts made by Mr. Valerio for an amount to be
assessed by technicians and accountants from the Court Advisory Service; (v)
order the Company to pay damages for the harm and losses sustained by Mr.
Valerio in terms of loss of earnings and failure to receive due payment in an
amount such as shall be determined following preliminary investigations and the
assessment to be made by experts and accountants from the Court Advisory Service
and in any event no less than 3 billion Lira; and (vi) order the Company to pay
damages for the harm done to Mr. Valerio's image for an amount such as the judge
shall deem equitable and in any case for no less than 500 million Lira. The
Company has retained the Italian law firm Verusio e Cosmelli, Giovanni Verusio,
Esq., a member of that firm, as special litigation counsel to the Company in its
defense of this suit. On March 6, 1996, the Company, through its Italian
counsel, filed a brief of reply with the Tribunal of Milan setting forth the
Company's position that: (i) the Civil Tribunal of Milan is not the proper venue
for the suit, (ii) Mr. Valerio's claim is groundless since the parties never
entered into an agreement, and (iii) because Mr. Valerio is not enrolled in the
official Register of Agents, under applicable Italian law Mr. Valerio is not
entitled to any compensation for his alleged activities. . A preliminary hearing
before the Tribunal was held on May 30, 1996, certain pretrial discovery has
been completed and a hearing before a Discovery Judge was held on October 17,
1996. Submission of the parties' final pleadings were to be made in connection
with the next hearing which was scheduled for April 3, 1997. On April 3, 1997,
the Discovery Judge postponed this hearing to May 19, 1998, due to a
reorganization of all proceedings before the Tribunal of Milan. At the hearing
on May 19, 1998, the Discovery Judge established dates for the parties to submit
final pleadings and set September 22, 1998 as the date to send the case before
the Tribunal of Milan sitting in full bench. As of the date hereof the Company
has not been informed of any decision of the Tribunal. In the opinion of
management, after consultation with outside counsel, resolution of this suit
should not have a material adverse effect on the Company's financial position or
operations. However, in the event that the lawsuit does result in a substantial
final judgment against the Company, said judgment could have a severe material
effect on quarterly or annual operating results.
By a letter dated September 9, 1997, outside counsel to Andrea Electronics
Corporation ("AECorp.") notified the Company that AECorp. believed the Company's
use of the term "ANR READY" constituted the use of a trademark owned by AECorp.
The Company has also been informed by representatives of existing and/or
potential customers that AECorp. has made statements claiming the Company's
manufacture and/or sale of certain in-flight entertainment system products may
infringe a patent owned by AECorp. On March 25, 1998, the Company received from
AECorp.'s intellectual property counsel a letter dated March 24, 1998,
announcing and notifying the Company of the issuance of U.S. patent Number
5,732,143 to AECorp. and enclosing a copy of the patent. The subject letter
appears to be one of notice and information and did not contain any claim of
infringement. Following that date, additional correspondence was exchanged
between Company Counsel and counsel to AECorp. The Company again was informed by
representatives of existing, and/or potential customers that AECorp. was
continuing to make statements inferring that the Company's manufacture and/or
sale of certain in-flight entertainment system products may infringe patents
owned by AECorp. On October 9, 1998 the Board of Directors of the Company
authorized the commencement of litigation against AECorp. On November 17, 1998
the Company and NCT Hearing filed a complaint in the United States District
Court, Eastern District of New York against Andrea Electronics Corporation
("AECorp.") requesting that the Court enter judgment in their favor as follows:
(i) declare that the two subject AECorp. patents and all claims thereof are
invalid and unenforceable and that the Company's products do not infringe any
valid claim of the subject AECorp. patents; (ii) declare that the subject
AECorp. patents are unenforceable due to their misuse by AECorp.; (iii) award
compensatory damages in an amount of not less than $5,000,000 as determined at
trial and punitive damages of $50,000,000 for AECorp.'s tortious interference
with prospective contractual advantages of the Company; (iv) enjoin AECorp. from
stating in any manner that the Company's products, or the use of the Company's
products infringe on any claims of the subject AECorp. patents; and (v) award
such other and further relief as the Court may deem just and proper. On or about
December 30, 1998, AECorp. filed its Answer and Counterclaims against the
Company and NCT Hearing. In its answer, AECorp. generally denies the Company's
and NCT Hearing's allegations, asserts certain procedural affirmative defenses
and brings counterclaims against the Company and NCT Hearing alleging that the
Company has: (i) infringed the two subject AECorp. patents and AECorp.'s "ANR
Ready" mark; (ii) violated the Lanham Act through the Company's use of such
mark; and (iii) unfairly competed with AECorp. through the use of such mark. On
or about January 26, 1999, the Company and NCT Hearing filed a Reply to
AECorp.'s counterclaims generally denying AECorp.'s counterclaims, asserting
certain affirmative defenses to AECorp.'s counterclaims and requesting that: (i)
the counterclaims be dismissed with prejudice; (ii) the Court enter judgment
that the term "ANR Ready" is not a valid trademark; (iii) the Court enter
judgment that the Company and NCT Hearing have not infringed any trademark right
of AECorp.; (iv) the Court enter judgment that the Company and NCT Hearing have
not engaged in any form of federal or state statutory or common law unfair
competition; (v) the Court enter judgment that AECorp. is precluded from
recovery of any claim of right to the term "ANR Ready" by the equitable doctrine
of estoppel; (vi) the Court enter judgment that AECorp. is precluded from
recoving any damages from the Company and NCT Hearing by the equitable doctrine
of laches; (vii) the Court award the Company and NCT Hearing their costs and
reasonable attorneys' fees; and (viii) the Court enter judgment granting the
relief requested in the Company's and NCT Hearing's complaint as well as such
other and further relief as the Court deems just and proper. In the opinion of
management, after consultation with outside counsel, resolution of this suit
should not have a material adverse effect on the Company's financial position or
operations. However, in the event that the lawsuit does result in a substantial
final judgment against the Company, said judgment could have a material effect
on quarterly or annual operating results.
On September 16, 1997, Ally Capital Corporation ("Ally") filed suit against
the Company, John J. McCloy, II, Michael J. Parrella, Jay M. Haft, and Alastair
J. Keith in the United States District Court for the District of Connecticut
(the "District Court"). Mr. McCloy is a Director of the Company. Mr. Parrella is
the President and Chief Executive Officer of the Company as well as a Director
of the Company. Mr. Haft is a Director of the Company and Chairman of the Board
of Directors. Mr. Keith is a former Director of the Company. The summons and
complaint in this suit were served on the Company on January 16, 1998. Ally
purports to be a creditor of ANVT. On September 14, 1994, the Company acquired
certain assets of ANVT. Specifically, the Company acquired ANVT's patented and
unpatented intellectual property, the rights and obligations under a defined
list of agreements between ANVT and other parties relating to existing or
potential joint ventures licensing agreements and other business relationships,
and certain items of office and laboratory equipment. For these assets, the
Company paid ANVT two hundred thousand dollars ($200,000.00) and issued ANVT two
million (2,000,000) shares of the Company's common stock. Count 1 of the
complaint alleges misrepresentation and deceit with respect to matters which
allegedly were relevant to the ANVT transaction. Count 2 alleges negligent
misrepresentation with respect to the same facts. Count 3 alleges unfair and
deceptive trade practices in violation of Connecticut General Statutes
ss.42-110a et sec. consisting of the actions described in Counts 1 and 2. In the
complaint, Ally requests actual and punitive damages together with costs and
attorneys fees under Count 1; actual damages together with costs and attorney
fees with respect to Count 2; and, actual damages, treble damages and costs and
attorney fees with respect to Count 3. Ally also requests such other further
relief as may be just. It is not certain from the complaint what Ally is
claiming as actual damages; although, Ally does state that its deficiency claim
against ANVT as of August, 1994, was approximately six hundred twenty-one
thousand dollars ($621,000.00) and that under the terms of the settlement
agreement between Ally and ANVT, Ally is entitled to receive up to an additional
six hundred three thousand eight hundred ninety-one dollars and ninety-seven
cents ($603,891.97) from certain earn-out payments under the asset purchase
agreement between ANVT and the Company. It is not clear whether Ally's
deficiency claim against ANVT was calculated as being in addition to the value
of the common stock of the Company which Ally received. The Company, through its
special litigation counsel, obtained an extension of the time in which it must
answer the complaint to March 4, 1998. On March 4, 1998, the Company, through
such counsel, filed with the District Court a motion to dismiss the complaint
or, in the alternative, to join necessary parties. On March 16, 1998, Ally filed
a notice of voluntary dismissal as to the individual defendants, Messrs McCloy,
Parrella, Haft and Keith. On March 25, 1998, Ally filed its opposition to the
Company's motion to dismiss. On July 15, 1998 the Company paid plaintiff, Ally,
twenty-five thousand ($25,000) dollars in settlement of the suit which was
dismissed on behalf of all defendants with prejudice and without costs on July
16, 1998.
On June 10, 1998, Schwebel Capital Investments, Inc. ("SCI") filed suit
against the Company and Michael J. Parrella, President, Chief Executive Officer
and a Director of the Company, in the Circuit Court for Anne Arundel County,
Maryland. The summons and complaint alleges the Company breached, and Mr.
Parrella interfered with, a purported contract entered into "in 1996" between
the Company and SCI under which SCI was to be paid commissions by the Company
when the Company received capital from investors who purchased debentures or
convertible preferred stock of the Company during a period presumably commencing
on the date of the alleged contract and allegedly extending at least to May 1,
1998. In this regard, the complaint alleges that SCI by virtue of a purported
right of first refusal that the Company did not honor, is entitled to
commissions totaling $1,500,000 in connection with the Company's sale of
$13,300,000 of preferred stock and a subsidiary of the Company's sale of
$4,000,000 of stock convertible into stock of the Company. In the complaint SCI
demands judgment against the Company for compensatory damages of $1,673,000,
punitive damages of $50,000 and attorneys' fees of $50,000 and demands judgment
against Mr. Parrella for compensatory damages of $150,000, punitive damages of
$500,000 and attorneys' fees of $50,000 as well as unspecified other appropriate
relief. On July 23, 1998 the Company and Mr. Parrella filed a motion to strike
the complaint or in the alternative, to dismiss the tortious interference with
contract claim and the punitive damages claim. On or about August 26, 1998
plaintiffs filed an amended complaint and a response to the Company's and Mr.
Parrella's motion to strike. On September 15, 1998 the Company and Mr. Parrella
filed a motion to strike the amended complaint. On or about September 25, 1998
the Company and Mr. Parrella served the plaintiff with their first request for
the production of documents. On November 12, 1998, the Court granted the
Company's and Mr. Parrella's motion to dismiss the tortious interference with
contracts claim and the punitive damages claim. On or about November 25, 1998,
SCI filed a second amended complaint, which abandoned the punitive damages claim
and the claim against Mr. Parrella. In the opinion of management, after
consultation with outside counsel, resolution of this suit should not have a
material adverse effect on the Company's financial position or operations.
However, in the event that the lawsuit does result in a substantial final
judgment against the Company, said judgment could have a material effect on
quarterly or annual operating results.
On June 25, 1998, Mellon Bank FSB filed suit against Alexander Wescott & Co.,
Inc. ("AWC") and the Company in the United States District Court, Southern
District of New York. In the complaint, Mellon demands judgment against AWC and
the Company in the amount of $326,000 by reason of its having paid each of AWC
and the Company such sum when acting as escrow agent for the Company's private
placement of securities with certain institutional investors identified to the
Company by AWC. On or about July 27, 1998 AWC filed its Answer, Counterclaim and
Cross-claim requesting: (i) dismissal of Mellon's Amended Complaint against AWC;
(ii) commissions in the amount of $688,000 to be paid by the Company to AWC;
(iii) issuance to AWC of 784,905 shares of the Company's common stock registered
for resale under the Securities Act of 1933, as amended; (iv) a declaration that
AWC is entitled to retain the $326,000 sought by Mellon; and (v) delivery of a
warrant to purchase 461.13 shares of common stock of NCT Audio. On or about
August 20, 1998 the Company filed its reply to AWC's cross-claims. Discovery is
currently taking place in this action. In the opinion of management, after
consultation with outside counsel, resolution of this suit should not have a
material adverse effect on the Company's financial position or operations.
However, in the event that the lawsuit does result in a substantial final
judgment against the Company, said judgment could have a material effect on
quarterly operating results.
On December 15, 1998, Balmore Funds, S.A. and Austost Anstalt Schaan filed
suit against the Company's subsidiary, NCT Audio , and the Company in the
Supreme Court of the State of New York County of New York. The complaint alleges
an action for breach of contract, common law fraud, negligent misrepresentation,
deceptive trade practices under Section 349 of the General Business Law of the
State of New York, and money had and received, all arising out of NCT Audio's
and the Company's alleged unlawful conduct in connection with an agreement
entered into with plaintiffs for the sale of shares of common stock of NCT Audio
to the plaintiffs in a private placement in December 1997. In this regard, the
complaint alleges that: (i) NCT Audio breached an alleged agreement with
plaintiffs to register shares of NCT Audio's common stock purchased by
plaintiffs or, in the alternative, shares of the Company's common stock
exchangeable for such shares of NCT Audio's common stock under certain
circumstances and to pay penalties set forth in the alleged agreement; (ii) that
NCT Audio made representations that were materially false and misleading through
its facsimiles of non-negotiated agreements as substitutions for the alleged
contract between the parties; (iii) that NCT Audio and the Company acted
negligently and violated duties of full, fair and complete disclosure to the
plaintiffs; (iv) that NCT Audio and the Company engaged in deceptive trade
practices under Section 349 of the New York General Business Law; and (v) that
as a result thereof, NCT Audio and the Company possess money that in equity and
good conscience should not to be retained by NCT Audio and the Company. In the
complaint the plaintiffs demand judgment against NCT Audio and the Company: (i)
for damages in an amount to be determined but not less than $1,819,000; (ii) for
punitive damages in the amount of $3,000,000; (iii) requiring NCT Audio and the
Company to register the shares of common stock of NCT Audio held by the
plaintiffs; (iv) alternatively, rescission with the return of plaintiffs'
$1,000,000 plus interest; (v) for treble damages, reasonable attorney's fees and
costs pursuant to Section 349 and 350 of the New York General Business Law; and
(vi) such other and further relief as the Court may deem just and proper. On
January 14, 1999, NCT Audio and the Company filed removal papers to move the
suit to the United States District Court for the Southern District of New York
and on January 22, 1999, NCT Audio and the Company filed with that Court
Defendants' Answer, Affirmative Defenses, Counterclaims and Third-Party
Complaint. In the opinion of management, after consultation with outside
counsel, resolution of this suit should not have a material adverse effect on
the Company's financial position or operations. However, in the event that the
lawsuit does result in a substantial final judgment against the Company, said
judgment could have a severe material effect on quarterly or annual operating
results.
The Company believes there are no other patent infringement litigations,
matters or unasserted claims other than the matters discussed above that could
have a material adverse effect on financial position and results of operations.
13. Commitments and Contingencies:
The Company is obligated for minimum annual rentals (net of sublease income)
under operating leases for offices, warehouse space and laboratory space,
expiring through April 2007 with various renewal options, as follows:
(in thousands
of dollars)
----------------------- ----------------
Year Ending
December 31, Amount
----------------------- ----------------
1999 $ 679
2000 669
2001 523
2002 63
2003 63
Thereafter 203
================
Total $2,200
================
Rent expense (net of sublease income) was $0.6 million, $0.4 million and $0.6
million for each of the three years ended December 31, 1996, 1997 and 1998,
respectively.
In April, 1996, the Company established the Noise Cancellation Employee
Benefit Plan (the "Benefit Plan") which provides, among other coverage, certain
health care benefits to employees and directors of the Company's United States
operations. The Company administers this modified self-insured Benefit Plan
through a commercial third party administrative health care provider. The
Company's maximum aggregate benefit exposure in each Benefit Plan fiscal year is
limited to $1.0 million while combined individual and family benefit exposure in
each Benefit Plan fiscal year is limited to $35,000. Benefit claims in excess of
the above mentioned individual or the maximum aggregate stop loss are covered by
a commercial third party insurance provider to which the Company pays a nominal
premium for the subject stop loss coverage. The Company records benefit claim
expense in the period in which the benefit claim is incurred. As of March 11,
1999, the Company was not aware of any material benefit claim liability.
On September 16, 1994, the Company acquired the patents, technology, other
intellectual property and certain related tangible assets of ANVT. In addition,
ANVT is entitled to a future contingent earn-out based on revenues generated by
the ANVT contracts assigned to the Company as well as certain types of
agreements to be entered into by the Company with parties previously having a
business relationship with ANVT. Future contingent payments, if any, will be
charged against the associated revenues. As of the period ended December 31,
1998, no such contingent earn-out or payments were due ANVT.
As of December 31, 1998, the Company is obligated under various agreements
for minimum royalty payments as follows: $295,000, $335,000, $220,000, $240,000
and $60,000 for 1999, 2000, 2001, 2002 and each year thereafter.
In connection with the acquisition of Advancel the Company entered into
employment agreements with four employees. The Company is obligated under these
agreements for $471,500 per annum through 2002.
<PAGE>
14. Business Segment Information:
<TABLE>
<CAPTION>
(in thousands of dollars)
Advancel Total Grand
Audio Hearing Communications Europe Logic Corp Segments Other Total
------- ------- -------------- ---------- ---------- --------- ------- ----------
1998
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net Sales - External $ 383 $ 1,191 $ 780 $ 28 $ 69 $ 2,451 $ 71 $ 2,522
Net Sales - Other
Operating Segments 2 23 6 1,113 - 1,144 (1,144) -
License Fees and royalties 350 86 18 - 200 654 148 802
Interest Income 110 - - 15 - 125 313 438
Depreciation/Amortization 5 - - 38 8 51 979 1,030
Operating Income (Loss) (4,359) (3,697) (4,326) (12) (658) (13,052) (1,131) (14,183)
Segment Assets 6,752 2,449 301 218 922 10,642 4,823 15,465
Capital Expenditures 33 8 21 102 34 198 350 548
1997
Net Sales - External $ 4 $ 1,709 $ 127 $ 67 $ - $ 1,907 $ 181 $ 2,088
Net Sales - Other
Operating Segments - - - 847 - 847 (847) -
License Fees 3,000 - 345 - - 3,345 285 3,630
Interest Income - - - 18 - 18 99 117
Depreciation/Amortization - - - 44 - 44 855 899
Operating Income (Loss) 785 (3,618) (2,582) (411) - (5,826) (4,022) (9,848)
Segment Assets 2,333 1,227 397 301 - 4,258 13,103 17,361
Capital Expenditures 12 5 13 26 - 56 188 244
1996
Net Sales - External $ 42 $ 1,333 $ 27 $ 407 $ - $ 1,809 $ 117 $ 1,926
Net Sales - Other
Operating Segments - - - 355 - 355 (355) -
License Fees - 2 - - - - 1,236 1,238
Interest Income - - - - - - 28 28
Depreciation/Amortization - - - 63 - 63 937 1,000
Operating Income (Loss) (1,451) (2,492) (2,266) (912) - (7,121) (3,704) (10,825)
Segment Assets - 1,781 108 515 - 2,404 3,477 5,881
Capital Expenditures 15 13 2 71 - 101 85 186
</TABLE>
Audio:
NCT Audio is engaged in the design, development, and marketing of products
which utilizes innovative FPT technology. The products available by NCT Audio
are the Gekko(TM) flat speaker and ArtGekko(TM) printed grille collection. The
Gekko(TM) flat speaker is marketed primarily to the home audio market, with
potential in many other markets including the professional audio systems market,
the automotive audio aftermarket, the aircraft industry, other transportation
markets, as well as the multimedia markets. The principal customers are end
users, automotive OEM's and manufacturers of integrated cabin management
systems.
Hearing:
NCT Hearing designs, develops and markets ANR headset products to the
communications headset market and the telephony headset market. The products
consist of the NoiseBuster(R) product line and the ProActive(R) product line.
The NoiseBuster(R) products consist of the NoiseBuster Extreme!(TM), a consumer
headset, the NB-PCU, a headset used for in-flight passenger entertainment
systems and communications headsets for cellular, multimedia and telephony. The
ProActive(R) products consist of noise reduction headsets and communications
headsets for noisy industrial environments. The majority of Hearing's sales are
in North America. Principal customers consist of end-users, retail stores, OEMs
and the airline industry.
Communications:
The communications division of the Company focuses on the telecommunications
market and in particular the hands-free market. The communications technology
includes ClearSpeech(R)-Acoustic Echo Cancellation and
ClearSpeech(R)-Compression. ClearSpeech(R)-Acoustic Echo Cancellation removes
acoustic echoes in hands-free full-duplex communication systems. Applications
for this technology are cellular telephony, audio and video teleconferencing,
computer telephony and gaming, and voice recognition. ClearSpeech(R)-Compression
maximizes bandwidth efficiency in wireless, satellite and intra- and internet
transmissions and creates smaller, more efficient voice files while maintaining
speech quality. Applications for this technology are intranet and internet
telephony, audio and video conferencing, PC voice and music, telephone answering
devices, real-time multimedia multitasking, toys and games, and playback
devices. The communications products include the ClearSpeech(R)-Microphone and
the ClearSpeech(R)-Speaker. The majority of Communications' sales are in North
America. Principal markets for Communications are the telecommunications
industries and principal customers are OEM's, system integrators and end-users.
<PAGE>
Europe:
The principal activity of NCT Europe is the provision of research and
engineering services in the field of active sound control technology to the
Company. NCT Europe provides research and engineering to Audio, Hearing and
Communications as needed. NCT Europe also provides a marketing and sales support
service to the Company for European sales.
Advancel Logic Corp.:
Advancel is a participant in the native Java embedded microprocessor market.
The purpose of the Java(TM) platform is to simplify application development by
providing a platform for the same software to run on many different kinds of
computers and other smart devices. Advancel has been developing a family of
processor cores, which will execute instructions written in both Java bytecode
and C (and C++) significantly enhancing the rate of instruction execution, which
opens up many new applications. The potential for applications consists of the
next generation home appliances and automotive applications, manufacturers of
smartcard processors, hearing aids and mobile communications devices.
<PAGE>
Other:
The Net Sales - Other Operating Segments primarily consists of intercompany
sales and eliminated in consolidation. Segment assets consists primarily of
corporate assets.
Operating Loss primarily includes corporate charges.
15. Geographical Information (by country of origin) - Total Segments:
(in thousands of dollars)
December 31,
----------------------------------------
1996 1997 1998
------------ ------------ ------------
Revenues
United States $2,674 $2,089 $3,209
Europe 480 3,270 71
Far East 10 359 44
------------ ------------ ------------
Total $3,164 $5,718 $3,324
============ ============ ============
Net (Income) Loss
United States $9,752 $9,211 $13,728
Europe 912 411 12
Far East 161 226 443
------------ ------------ ------------
Total $10,825 $9,848 $14,183
============ ============ ============
Identifiable Assets
United States $5,366 $17,060 $15,166
Europe 515 301 218
Far East - - 81
------------ ------------ ------------
Total $5,881 $17,361 $15,465
============ ============ ============
16. Subsequent Events:
On January 26, 1999, Carole Salkind, spouse of a former director and an
accredited investor (the "Holder"), subscribed and agreed to purchase secured
convertible notes of the Company in an aggregate principal amount of $4.0
million. A secured convertible note (the "Note"), for $1.0 million was signed on
January 26, 1999, and proceeds were received on January 28, 1999. The Note is to
mature on January 25, 2001 and earn interest at the prime rate as published from
day to day in the Wall Street Journal from the issue date until the Note becomes
due and payable. The Holder shall have the right at any time on or prior to the
day the Note is paid in full, to convert at any time, all or from time to time,
any part of the outstanding and unpaid amount of the Note, into fully paid and
non-assessable shares of common stock of the Company at the conversion price.
The conversion price shall be the lesser of (i) the average of the closing bid
prices for the common stock on the securities market on which the common stock
is being traded, for five (5) consecutive trading days prior to the date of
conversion or (ii) the fixed conversion price of $0.237. In no event will the
conversion price be less than $0.15 per share. The Holder shall purchase the
remaining $3.0 million principal amount of the secured convertible notes on or
before June 30, 1999.
On February 9, 1999 NCT Audio and NXT expanded the Cross License Agreement
dated September 27, 1997 to increase NXT's fields of use to include aftermarket
ground-based vehicles and aircraft sound systems and increased the royalties due
NCT Audio from NXT to 10% from 6% and increased the royalties due NXT from NCT
Audio to 7% from 6%. In consideration for granting NXT these expanded licensing
rights, NCT Audio received a $0.5 million license fee. Also on February 9, 1999,
NCT Audio and NXT amended the Master License Agreement to include a minimum
royalty payment of $160,000 in 1999, to be paid in equal quarterly installments.
<PAGE>
ARTHUR ANDERSEN LLP
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Stockholders of Top Source Technologies, Inc.:
We have audited the accompanying balance sheets of Top Source Automotive, Inc.
(a Michigan corporation) as of September 30, 1998, and 1997, and the related
statements of operations and cash flows for each of the three years in the
period ended September 30, 1998. 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 financial statements referred to above present fairly, in
all material respects, the financial position of Top Source Automotive, Inc. as
of September 30, 1998 and 1997 and the results of its operations and its cash
flows for each of the three years in the period ended September 30, 1998 in
conformity with generally accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
West Palm Beach, Florida
January 7, 1999
<PAGE>
<TABLE>
<CAPTION>
TOP SOURCE AUTOMOTIVE, INC.
BALANCE SHEETS
AS OF SEPTEMBER 30, 1998 and 1997
- -------------------------------------------------------------------------------
ASSETS 1998 1997
----------- -----------
Current Assets:
<S> <C> <C>
Accounts receivable trade $ 1,599,456 $ 2,198,633
Inventories 349,320 764,788
Prepaid expenses 79,186 64,552
Other 21,988 37,619
----------- -----------
Total current assets 2,049,950 3,065,592
Property and equipment, net 234,960 456,938
Manufacturing and distribution rights, net 147,876 157,013
=========== ===========
TOTAL ASSETS $ 2,432,786 $ 3,679,543
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 245,596 $ 615,420
Accrued liabilities 42,044 261,969
----------- -----------
Total current liabilities 287,640 877,389
Commitments and contingencies (Note 6 )
Stockholders' equity:
Common stock-$.10 par value, 1,000 shares
authorized, issued and outstanding in 1998
and 1997, respectively 100 100
Additional paid-in capital 394,821 394,821
Retained earnings 5,655,589 5,024,029
Receivable from parent (3,905,364) (2,616,796)
------------ ------------
Total stockholders' equity 2,145,146 2,802,154
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 2,432,786 $ 3,679,543
============ ============
The accompanying notes to financial statements are an integral part of these
balance sheets.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
TOP SOURCE AUTOMOTIVE, INC.
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
- ------------------------------------------------------------------------------------------------
1998 1997 1996
--------------------------------------------------
<S> <C> <C> <C>
Product sales $ 10,815,205 $16,580,270 $16,102,523
Cost of product sales 7,417,402 11,197,664 10,749,431
--------------------------------------------------
Gross profit 3,397,803 5,382,606 5,353,092
--------------------------------------------------
Expenses:
General and administrative 654,561 674,265 660,198
Selling and marketing 448,393 354,136 369,292
Overhead allocation from parent 1,100,000 1,100,000 1,100,000
Depreciation and amortization 68,850 76,573 94,080
Restructuring expense 15,471 51,433 -
Research and development 38,871 35,038 35,689
--------------------------------------------------
Total expenses 2,326,146 2,291,445 2,259,259
--------------------------------------------------
Income from operations 1,071,657 3,091,161 3,093,833
Other income (expense):
Interest income 306 1,208 2,489
Interest expense (1,831) (2,660) (1,805)
Other income (expense), net (24,244) (4,143) 44,775
--------------------------------------------------
Net other income (expense) (25,769) (5,595) 45,459
--------------------------------------------------
Income before income taxes 1,045,888 3,085,566 3,139,292
Income tax expense (414,328) (1,173,092) (1,242,359)
--------------------------------------------------
Net income $ 631,560 $ 1,912,474 $ 1,896,933
==================================================
The accompanying notes to financial statements
are an integral part of these statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
TOP SOURCE AUTOMOTIVE, INC.
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
---------------------------------------------
1998 1997 1996
---------------------------------------------
OPERATING ACTIVITIES:
<S> <C> <C> <C>
Net income $ 631,560 $ 1,912,474 $ 1,896,933
Adjustments to reconcile net income to
net cash provided by operating
activities:
Depreciation 278,175 323,444 339,783
Amortization 47,055 45,413 44,737
Loss on disposal of equipment 6,188 33,788 23,722
Decrease (increase) in accounts
receivable, net 599,177 1,271,344 (690,613)
Decrease (increase) in inventories 415,468 (293,877) (2,742)
Decrease (increase) in prepaid expenses (14,634) 69,983 (89,660)
Decrease (increase) in other current
assets 15,631 11,365 (23,821)
Increase (decrease) in accounts payable (369,824) (620,777) 330,267
Increase (decrease) in accrued
liabilities (219,925) 6,748 47,881
----------------------------------------------
Net cash provided by operating activities 1,388,871 2,759,905 1,876,487
----------------------------------------------
INVESTING ACTIVITIES:
Purchases of property and equipment,
net (62,385) (357,940) (516,968)
Reimbursement of tooling costs - 63,364 465,222
Additions to manufacturing and
distribution rights, net (37,918) (2,706) (14,787)
-----------------------------------------------
Net cash used in investing activities (100,303) (297,282) (66,533)
-----------------------------------------------
FINANCING ACTIVITIES:
Increase in receivable from Parent (1,288,568) (2,462,623) (1,809,954)
-----------------------------------------------
Net cash used in financing activities (1,288,568) (2,462,623) (1,809,954)
-----------------------------------------------
Net increase (decrease) in cash and cash
equivalents $ - $ - $ -
===============================================
The accompanying notes to financial statements
are an integral part of these statements.
</TABLE>
<PAGE>
TOP SOURCE AUTOMOTIVE, INC.
- -------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business - Top Source Automotive, Inc. (the "Company" or "TSA") is focused on
developing and assembling a patented automotive overhead mounted speaker system,
which is called the Overhead Speaker System. The Company is a wholly owned
subsidiary of Top Source Technologies, Inc. (the "Parent Company")
Revenue Recognition - Revenue is currently derived from sales of the OHSS for
both production line and automotive dealership installed units.
Inventories - Inventories are stated at the lower of cost or market and are
valued by the first-in, first-out (FIFO) method.
Fair value of Financial Instruments - The carrying amount of cash and cash
equivalents, accounts receivable, accounts payable, and accrued liabilities
approximates fair value.
Property and Equipment - Property and equipment are stated at cost. Repairs and
maintenance costs are charged to expense as incurred. Depreciation and
amortization are computed using the straight-line method over the estimated
useful lives of the assets, or the lease term if shorter. When property or
equipment is retired or otherwise disposed of, the cost less related accumulated
depreciation is removed from the accounts and the resulting gains or losses are
included in other expense in the accompanying statements of operations.
Manufacturing and Distribution Rights and Patents - These assets are valued at
the lower of cost or net realizable value and are being amortized using the
straight-line method over the terms of the agreements or life of the patents,
ranging from ten to thirteen years.
Research and Development - The costs associated with research and development of
products and technologies are expensed as incurred.
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 reported amounts of assets and
liabilities and disclosure of assets and liabilities at the date of the
financial statements, and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
2. STATEMENTS OF CASH FLOWS
There were no significant non-cash investing or financing activities for the
years ended September 30, 1998, 1997 and 1996.
<PAGE>
3. INVENTORIES
Inventories consisted of the following at September 30, 1998 and 1997:
1998 1997
Raw materials $247,538 $704,586
Finished goods 101,782 60,202
-------- --------
$349,320 $764,788
======== ========
4. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following at September 30, 1998 and
1997:
Useful
Life (Years) 1998 1997
------------ ------------ ------------
Equipment 2-12 $ 305,813 $ 296,028
Computer equipment 3-4 292,273 274,583
Tooling 2 276,446 242,360
Furniture and fixtures 3-5 126,914 126,089
Vehicles and delivery equipment 3 47,124 60,230
Leasehold improvements 2-5 146,746 146,746
------------ ------------
1,195,316 1,146,036
Less: accumulated depreciation (960,356) (689,098)
------------ ------------
$ 234,960 $ 456,938
============ ============
Depreciation of tooling and production equipment incurred in manufacturing OHSS
in the amount of $256,380, $292,284, and $290,440 for the years ended September
30, 1998, 1997, and 1996, respectively, has been allocated to cost of sales as
it directly relates to the products sold.
5. MANUFACTURING AND DISTRIBUTION RIGHTS AND PATENTS
Manufacturing and distribution rights and patents consisted of the following at
September 30, 1998 and 1997:
Useful
Life (Years) 1998 1997
------------ ------------ ------------
Manufacturing rights 13 $ 58,438 $ 58,438
Distribution rights 13 437,501 437,501
Patents 10 111,223 73,305
------------ ------------
607,162 569,244
Less: accumulated amortization (459,286) (412,231)
$ 147,876 $ 157,013
============ ============
<PAGE>
5. MANUFACTURING AND DISTRIBUTION RIGHTS AND PATENTS (continued)
OHSS (Overhead Speaker System)
The Company has the exclusive right to produce and sell Pelo Sound products in
North, Central and South America and a non-exclusive right to produce and sell
the products in all other areas of the world, excluding Europe. The value of
these rights is being amortized over thirteen years, and has a remaining net
book value of $13,211 at September 30, 1998.
The Company has distribution rights acquired from B&R International Imports,
Corp. related to its Overhead Speaker System. The net book value of these
rights, which are being amortized over thirteen years, is $51,864 at September
30, 1998. The Company also has patents on the OHSS relating to improvements and
perfection's on the Overhead Speaker System. The value of these patents is being
amortized over ten years and has a remaining net book value of $82,801 at
September 30, 1998.
6. COMMITMENTS AND CONTINGENCIES
The Company leases office space under noncancelable operating leases. Future
minimum rental commitments under these leases are as follows:
Fiscal Year Ending September 30:
1999 $191,100
2000 143,325
Total rental expense amounted to $197,482, $192,486 and $191,000 for the years
ended September 30, 1998, 1997, and 1996, respectively.
The Parent Company enacted a Retirement Salary Savings Plan (401(k)) (the
"Plan") effective October 1, 1993. All employees that were employed on October
1, 1993 were eligible to join the Plan. Otherwise, they will be eligible to
participate in the Plan if they have completed three months of service and have
attained the age of 21. The enrollment dates are the first day of each quarter.
The Company will match 25% of each dollar contributed by an employee to the Plan
on the first 6% of the salary deferral, not to exceed 1 1/2% of the employee's
total salary eligible under the Plan. The cost the Company incurred for matching
employee contributions and administrative costs during fiscal 1998, 1997, and
1996 was $9,282, $10,694, and $8,096, respectively.
<PAGE>
6. COMMITMENTS AND CONTINGENCIES (continued)
TSA is a co-borrower to the Parent Company's $5,000,000 credit facility ("Credit
Facility") with NationsCredit Commercial Corporation ("NationsCredit"). The
Credit Facility, which is secured by substantially all of the assets of the
Company, enables the Parent Company to borrow up to $5,000,000 based on certain
percentages of accounts receivable and inventory balances. The Credit Facility
allows for borrowing up to 85% of eligible accounts receivable and 50% of
inventory. The interest rate on this Credit Facility is 1-1/2% over the prime
rate and is payable monthly with a required minimum borrowing level of
$2,500,000 for fee calculation purposes. The Credit Facility calls for certain
financial covenants that, if not met, would cause a default under the Credit
Facility and increase the interest rate by 2% over current levels. As of
September 30, 1998, the covenant requiring the Parent Company's fiscal year
pre-tax loss, not to exceed certain levels, as defined in the Credit Facility
has not been met by the Parent Company. NationsCredit agreed to waive this
covenant through fiscal 1999. The Parent Company plans to repay the Credit
Facility in full upon the ultimate sale of TSA (See Note 10 Sale of Top Source
Automotive, Inc.). Upon payment of the Credit Facility, NationsCredit will
release the lien, which it holds on all of the assets of the Parent Company
including TSA's common stock and assets.
For accounting purposes, all amounts outstanding under the Credit Facility
appear on the financial statements of the Parent Company. Therefore, all amounts
drawn or repaid in connection with activity associated with TSA flow through
their intercompany account, which is non interest bearing, and is classified as
a receivable from parent which is a component of stockholders' equity. (See Note
9 Related Party Transactions)
7. INCOME TAXES
The Company's taxable results are included within the consolidated tax return of
the Parent Company for the years ended September 30, 1998, 1997, and 1996. The
provision for income taxes is based on the application of the provisions of
Statement of Financial Accounting Standards No. 109 "Accounting for Income
Taxes" ("SFAS No. 109") to the Company as if it were a separate taxpayer.
Accordingly, the income tax expense included in the accompanying statement of
operations includes both Federal tax at a statutory rate of 34% and state taxes.
Cash paid for state income taxes for the years ended September 30, 1998, 1997
and 1996 was approximately $59,000, $124,000 and $140,000 which primarily
related to state income tax expense.
8. CONCENTRATION OF CREDIT RISK
In fiscal 1998, the majority of the Company's overall revenue was derived from
one customer, an OEM, which accounted for 99% of the total business activity.
That same customer accounted for 99% of net sales in both 1997 and 1996. As of
September 30, 1998 the Company's receivable balance from this OEM customer was
approximately $1,598,612. The loss of this customer would have a material
adverse effect on the Company. Export sales in 1998, 1997 and 1996 were
insignificant.
<PAGE>
9. RELATED PARTY TRANSACTIONS
The Parent Company's corporate general and administrative costs not specifically
attributable to its operating subsidiaries have been allocated to TSA and its
other oil analysis subsidiary. Such costs are included in "overhead allocation
from parent" in the accompanying Statements of Operations and were approximately
$1,100,000 for the years ended September 30, 1998, 1997 and 1996, respectively.
Management believes that the amounts allocated to the Company are no less
favorable to the Company than the expenses the Company would incur to obtain
such services on its own or from unaffiliated third parties.
In connection with the sale of substantially all of the assets and liabilities
of TSA as discussed in Note 10, management of the Company intends to treat the
receivable from the parent as an equity distribution. Accordingly, the
receivable from the parent has been shown as a separate line in Stockholders'
Equity as a reduction of stockholders' equity in the accompanying balance
sheets.
10. SALE OF TOP SOURCE AUTOMOTIVE, INC.
On August 14, 1998, the Parent Company executed a Definitive Asset Purchase
Agreement ("Agreement") with NCT Audio Products Inc., (the "Buyer"or "NCT"), a
subsidiary of the NCT Group, Inc. of Stamford, Connecticut (NASDAQ: "NCTI") to
purchase substantially all of the assets and liabilities of TSA.
Under the terms and subject to the conditions of the Agreement, on the closing
date (the "Closing" or the "Closing Date"), the Buyer agreed to purchase 100% of
the assets (the "Assets") and assume substantially all of the liabilities of TSA
for a minimum of $10,000,000. The purchase consideration of $10,000,000 consists
of a non-refundable deposit of $1,450,000 paid to TSA on June 10, 1998 ("Step
I"), $2,050,000, which was paid into escrow on July 30, 1998 and released to the
Parent Company (and became non-refundable) on December 15, 1998 as a result of
an affirmative shareholder approval from the Parent Company shareholders ("Step
II"), and the balance of $6,500,000 due at the Closing, which was to occur by
March 31, 1999 ("Step III"). Additionally, under the terms of the Agreement, TSA
could receive up to an additional $6,000,000 payable to the Parent Company in
cash expressly contingent upon the future earnings of the Buyer's subsidiary as
defined under the Agreement, for a two-year period following the Closing.
The consummation of the proposed transaction is subject to the satisfaction or
waiver of certain conditions including the Buyer obtaining the necessary
financing. As a result of the completion of Steps I and II of the transaction,
the Buyer became a 20% owner of the Common Stock of TSA. On January 7, 1999, the
Buyer of TSA's Assets, by virtue of not exercising its right to receive an
additional 15% minority stake in TSA maintained its exclusive right to complete
the remainder of the transaction by March 31, 1999. As a result, the Buyer will
remain as a 20% minority owner of TSA unless Step III of the transaction is
completed. On March 30, 1999, the Parent Company granted the Buyer an extension
until May 28, 1999 to complete the purchase of TSA. As consideration for this
extension, the Parent Company received a non-refundable fee from the Buyer of
$350,000. This extension fee consisted of $20,685 in cash, $125,000 of the
Buyer's minority interest in TSA earnings and a $204, 315 note payable due on
April 16, 1999 (the "Note") from the Buyer to TSA. Additionally, due to the
Buyer's failure to close the transaction by March 31, 1999, the Parent Company
received a penalty premium of $100,000 of the Buyer's convertible preferred
stock.
<PAGE>
10. SALE OF TOP SOURCE AUTOMOTIVE, INC. (continued)
If the Note is paid to TSA by April 16, 1999 and the transaction closes by May
28, 1999, then the Buyer will be allowed to apply the $350,000 extension fee as
a credit against the $6,500,000 due to be paid at closing. In the event the
closing occurs by May 28, 1999 and the Note is paid after April 16, 1999 but
before May 1, 1999, then $145,685 of the extension fee can no longer be applied
as a credit against the $6,500,000 due to be paid at closing.
In event the closing occurs by May 28, 1999 and the Note is not paid by April
30, 1999, then none of the $350,000 extension fee can be applied as a credit
against the $6,500,000 due to be paid at closing. In the event the closing does
not occur by May 28, 1999, irrespective of whether or not the Note has been paid
by April 16, 1999 or before April 30, 1999 then none of the $350,000 extension
fee can be applied as a credit against the $6,500,000 due to be paid at closing.
Additionally, if the closing does not occur by May 28, 1999, the buyer will
forfeit all minority earnings in TSA from June 1999 through May 2000.
If the transaction fails to close by May 28, 1999, the Parent Company will be
free to attempt to find another purchaser of TSA and the Buyer will be obligated
to sell its TSA shares to any such purchaser on the same terms and conditions as
the Company receives for its TSA Common Stock.
If the Buyer fails to complete Step III of the transaction, the Parent Company
will not receive the final payment of $6,500,000. This may have an adverse
effect on the short-term financial condition of the Parent Company.
In order to consummate the proposed transaction, the Parent Company must pay in
full its Credit Facility with NationsCredit. Upon payment of its Credit
Facility, NationsCredit will release the lien, which it holds on all of the
assets of the Company, and thus effectively cancel the Credit Facility.
<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 amendment to report to
be signed on its behalf by the undersigned, thereunto duly authorized.
NCT GROUP, INC.
By: /s/ CY E. HAMMOND
-----------------
Cy E. Hammond
Senior Vice President,
Chief Financial Officer
April 30, 1999
Exhibit 23(a)
RICHARD A. EISNER & COMPANY, LLP
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in the registration statements of
NCT Group, Inc. (the "Company")(formerly Noise Cancellation Technologies, Inc.)
on Forms S-1 (File Nos. 33-19926, 33-38584 and 33-44790) and on Forms S-8 (File
Nos. 33-64792, 333-11209 and 333-11213) of our report, which includes an
explanatory paragraph about the Company's ability to continue as a going
concern, dated March 11, 1999 (with respect to Note 8, March 24, 1999), on our
audits of the consolidated financial statements and schedule of the Company as
of December 31, 1998 and 1997 and for the years ended December 31, 1998, 1997
and 1996 which report is included in this Annual Report on Form 10-K/A.
/s/ RICHARD A. EISNER & COMPANY, LLP
New York, New York
April 29, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS AND NOTES TO THE FINANCIAL STATEMENTS FOR THE
YEAR ENDED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1998, FILED ON APRIL 1, 1999.
</LEGEND>
<CIK> 0000722051
<NAME> NCT GROUP, INC.
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 529
<SECURITIES> 0
<RECEIVABLES> 944
<ALLOWANCES> 228
<INVENTORY> 3320
<CURRENT-ASSETS> 4750
<PP&E> 11493
<DEPRECIATION> 7615
<TOTAL-ASSETS> 15465
<CURRENT-LIABILITIES> 5937
<BONDS> 0
0
9240
<COMMON> 1563
<OTHER-SE> 4662
<TOTAL-LIABILITY-AND-EQUITY> 15465
<SALES> 2097
<TOTAL-REVENUES> 3324
<CGS> 2235
<TOTAL-COSTS> 2510
<OTHER-EXPENSES> 14997
<LOSS-PROVISION> 232
<INTEREST-EXPENSE> 9
<INCOME-PRETAX> (14183)
<INCOME-TAX> 0
<INCOME-CONTINUING> (14183)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (14183)
<EPS-PRIMARY> (0.12)
<EPS-DILUTED> (0.12)
</TABLE>
Exhibit 99(a)
PETERS ELWORTHY & MOORE
NCT Group, Inc.
1025 West Nursery Road, Suite 120 Our Ref: PRC/J
Linthicum, Maryland 21090
USA Date: April 29, 1999
Dear Sirs
We consent to the incorporation by reference to Form 10-K/A (Amendment No. 1 to
the Annual Report on Form 10-K) of our report dated February 23, 1999, on the
financial statements and schedule of Noise Cancellation Technologies (Europe)
Limited (the "Company") as at December 31, 1998 and December 31, 1997 and for
each of the years in the three year period ended December 31, 1998, included in
the Company's Annual Report on Form 10-K for the year ended December 31, 1998.
Yours faithfully
/s/ PETERS ELWORTHY & MOORE
