U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997.
SONEX RESEARCH, INC.
Incorporated in the State of Maryland
23 Hudson Street
Annapolis, Maryland 21401
Telephone Number: (410) 266-5556
IRS Employer Identification No. 52-1188993
Commission file number 0-14465
Check whether the Issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the preceding 12 months, and (2) has been
subject to such filing requirements for the past 90 days.
YES [x] NO [ ]
There were 17,336,444 shares of the Issuer's $.01 par value Common Stock
outstanding at October 31, 1997.
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SONEX RESEARCH, INC. FORM 10-QSB
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (Unaudited)
Index to unaudited financial statements presented on pages 3 to 10:
Balance sheets as of September 30, 1997 and December 31, 1996
Statements of operations and accumulated deficit for the three- and
nine-month periods ended September 30, 1997 and 1996, and for the period
from April 9, 1980 (inception) through September 30, 1997
Statements of cash flows for the nine-month periods ended September 30,
1997 and 1996, and for the period from April 9, 1980 (inception) through
September 30, 1997
Notes to financial statements
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SONEX RESEARCH, INC. FORM 10-QSB
SONEX RESEARCH, INC.
(A Development Stage Company)
CONDENSED BALANCE SHEETS
(Unaudited)
September 30, December 31,
ASSETS 1997 1996
------------ -----------
Current assets
Cash and equivalents $ 502,772 $ 89,739
Marketable securities, available-for-sale 156,266 36,800
Accounts receivable 50,000
Prepaid expenses 34,578 38,692
Loans to officers and employees 23,168 16,906
------------ -----------
Total current assets 716,784 232,137
Loans to officers and employees - non-current 15,000
Patents and technology, net of accumulated amorti-
zation of $293,393 in 1997 and $246,949 in 1996 250,078 239,308
Property and equipment, net of accumulated depre-
ciation of $410,083 in 1997 and $402,033 in 1996 18,828 28,008
------------ -----------
Total assets $ 985,690 $ 514,453
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accrued compensation $ 671,209 $ 620,620
Accounts payable and other accrued liabilities 88,742 170,371
------------ -----------
Total current liabilities 759,951 790,991
------------ -----------
Stockholders' equity
Preferred stock, $.01 par value, 2,000,000
shares issued, 1,550,001 shares outstanding 15,500 15,500
Common stock, $.01 par value, shares issued
and outstanding: 17,238,873 in 1997 and
16,214,020 shares in 1996 172,389 162,140
Additional paid-in capital 19,876,905 19,165,535
Unrealized increase in value of
marketable securities 156,266 36,800
Deficit accumulated during development stage (19,995,321) (19,656,513)
------------ -----------
Total stockholders' equity 225,739 (276,538)
Commitments (Note 9)
------------ -----------
Total liabilities and stockholders' equity $ 985,690 $ 514,453
============ ===========
The accompanying notes are an integral part of the financial statements.
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SONEX RESEARCH, INC. FORM 10-QSB
SONEX RESEARCH, INC.
(A Development Stage Company)
CONDENSED STATEMENTS OF OPERATIONS AND ACCUMULATED DEFICIT
(Unaudited)
April 9, 1980
(inception)
Three months ended Nine months ended through
September 30, September 30, Sept. 30,
1997 1996 1997 1996 1997
---------- ---------- ---------- ---------- ----------
Revenue
Development contracts $ 58,750 $ 203,125 $1,868,691
Other revenue 124,425
---------- ---------- ----------
58,750 203,125 1,993,116
---------- ---------- ----------
Costs and expenses
Research & develop. $ 129,309 $ 118,200 379,276 $ 376,713 12,170,966
General & administ. 72,920 78,279 215,488 204,927 7,396,491
Interest 287 136 859 409 867,808
Write-off of patents 819,036
---------- ---------- ---------- ---------- ----------
202,516 196,615 595,623 582,049 21,254,301
---------- ---------- ---------- ---------- ----------
Net loss from 143,766 196,615 392,498 582,049 19,261,185
operations
Other (income)/expense
Investment income (6,293) (3,400) (15,391) (12,046) (308,525)
Debt issuance and
conversion expense 1,112,350
Gain on sale of marketable
securities (30,178) (13,746) (38,299) (30,113) (69,689)
---------- ---------- ---------- ---------- ----------
Net loss 107,295 179,469 338,808 539,890 19,995,321
Accumulated deficit
Beginning 19,888,026 19,344,459 19,656,513 18,984,038
---------- ---------- ---------- ---------- ----------
End $19,995,321 $19,523,928 $19,995,321 $19,523,928 $19,995,321
========== ========== ========== ========== ==========
Net loss per share $.006 $.011 $.020 $.034
===== ===== ===== =====
Weighted average
number of shares
outstanding 17,225,992 16,202,377 16,954,396 15,889,005
========== ========== ========== ==========
The accompanying notes are an integral part of the financial statements.
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SONEX RESEARCH, INC. FORM 10-QSB
SONEX RESEARCH, INC.
(A Development Stage Company)
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
April 9, 1980
(inception)
Nine months ended through
September 30, Sept. 30,
1997 1996 1997
--------- --------- ------------
Cash flows from operating activities
Net loss $(338,808) $(539,890) $(19,995,321)
Adjustments to reconcile net loss to
netcash used by operating activities
Depreciation 10,125 15,484 675,640
Amortization 48,779 47,403 1,425,387
Write-down of patents 819,036
Compensation - stock options 11,063 10,000 888,728
Imputed interest expense 551,247
Interest credited to paid-in capital 44,614
Debt issuance and conversion expense 1,112,350
Accrued liabilities and current
charges paid in stock 1,000 1,124,380
Gain on sale of marketable securities (38,299) (30,113) (69,689)
(Increase)decrease in accounts receivable 50,000 57,500
(Increase)decrease in prepaid expenses 4,114 (8,287) (34,578)
Increase (decrease)in accrued liabilities (31,040) 54,199 672,287
--------- --------- ------------
Net cash used in operating activities (284,066) (392,704) (12,785,919)
--------- --------- ------------
Cash flows from investing activities
Purchase of marketable securities (2,377,256)
Proceeds from sales of marketable securities 38,299 30,113 2,446,945
(Increase) decrease in cash posted as
security for judgment 182,687
(Increase) decrease in loans to employees 8,738 8,105 (23,168)
Acquisition of property (945) (544,981)
Additions to patents and technology (59,549) (7,657) (1,370,051)
--------- --------- ------------
Net cash provided by (used in)
investing activities (13,457) 213,248 (1,868,511)
--------- --------- ------------
Cash flows from financing activities
Issuance of stock 710,556 65,744 15,818,211
Issuance of convertible debt 2,287,500
Indemnification by officer 15,000
Repayment of convertible debt (92,500)
Stock and debt issuance costs (2,038,916)
Distribution to stockholders - other (18,772)
Reduction of technology purchase (797,500)
obligations
Proceeds from borrowings 1,592,748
Reduction of borrowings (7,667) (1,608,569)
--------- --------- ------------
Net cash provided by (used for)
financing activities 710,556 58,077 15,157,202
--------- --------- ------------
Increase (decrease) in cash 413,033 (121,379) 502,772
Cash
Beginning of period 89,739 256,139
--------- --------- ------------
End of period $ 502,772 $ 134,760 $ 502,772
========= ========= ============
The accompanying notes are an integral part of the financial statements.
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SONEX RESEARCH, INC. FORM 10-QSB
SONEX RESEARCH, INC.
(A Development Stage Company)
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
Note 1 - The Company
- --------------------
Sonex Research, Inc. has developed and acquired technology which controls
the combustion of fuel in engines. The Company is in the process of developing
several commercial applications of its technology, referred to as the Sonex
Combustion System (SCS). Sonex expects to license several commercial
applications of its technology and commercially exploit other applications
itself. Related revenue earned to date has been derived principally from
development contracts, but such revenue historically has offset only a portion
of the related development expenditures. Accordingly, Sonex Research, Inc. is
classified as a development stage company.
Note 2 - Presentation of Financial Statements
- ---------------------------------------------
The accompanying unaudited condensed financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB and Item 310(b)
of Regulation S-B. Accordingly, these financial statements do not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation have been included. Operating results for the three- and
nine-month periods ended September 30, 1997 are not necessarily indicative of
the results that may be expected for the year ending December 31, 1997. For
further information, reference is made to the financial statements and notes
thereto included in the Company's Annual Report on Form 10-KSB for the year
ended December 31, 1996.
These financial statements include the accounts of the Company and, until
its disposition in October 1995, the accounts of its former 40%-owned, inactive,
consolidated subsidiary, SonoChem, Inc. In October 1995, following a 1:10
reverse split of all of its issued and outstanding shares of common stock,
SonoChem was merged with and into Digital Dictation, Inc., a privately held
Virginia medical transcription services company. Pursuant to the merger,
SonoChem acquired 100% of the issued and outstanding shares of common stock of
Digital Dictation, Inc. through the issuance of 5,944,606 post-split shares of
SonoChem's common stock, and SonoChem's name was changed to Digital Dictation,
Inc. Following the merger, the previous holders of the common stock of SonoChem
became the holders of 5%, or 312,874 shares, of the issued and outstanding
shares of the surviving corporation Digital Dictation, Inc. ("Digital").
Note 3 - Marketable Securities
- ------------------------------
In connection with the merger described in Note 2, the Company exchanged
all of its shares in SonoChem for 125,133 shares of the common stock of Digital,
representing 2% of the issued and outstanding shares of Digital. A total of 5%
of the issued and outstanding shares of Digital, including those shares held by
the Company, began public trading in the over-the-counter market in April 1996.
Through September 30, 1997, the Company has sold a total of 47,000 shares of its
Digital stock and realized aggregate net proceeds of $68,412.
At the time of this exchange in October 1995, the fair value of neither
the SonoChem stock nor the Digital stock was reasonably estimable. As a result,
the Company's carrying basis in the SonoChem stock of zero was considered to be
its cost basis in the Digital stock. Since public trading began in April 1996
and a readily determinable fair value for the Digital stock has since become
available, the investment is now accounted for in accordance with Statement of
Financial Accounting Standards No. 115 and classified as a current asset as a
security that is "available-for-sale". Accordingly, the Company's investment in
the 78,133 shares held as of September 30, 1997 is recorded in the accompanying
financial statements at its aggregate fair value of $156,266. A corresponding
amount, representing the aggregate unrealized gain in the fair value of this
investment in excess of its cost basis, is reported as a separate component of
stockholders' equity. Subsequent changes in the aggregate market value of this
investment will be similarly recorded.
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SONEX RESEARCH, INC. FORM 10-QSB
Note 4 - Loans to Officers and Employees
- ----------------------------------------
Loans totaling $37,180, bearing interest at six percent per annum, were
made early in 1993 to four of the Company's officers and one non-officer
employee for the payment of income tax liabilities incurred by these individuals
upon their receipt in 1992 of shares of common stock in payment of deferred
wages. Outstanding loan principal and accrued interest balances are secured by
deferred salaries payable to each of the borrowers. One of these loans in the
principal amount of $14,500 was made to the Company's vice-president of
operations, whose employment was later terminated. During 1996 this amount and
accrued interest were satisfied through offset against deferred salary payable
to the former officer. In the third quarter of 1997 loan principal of $4,100 and
accrued interest of $2,959 due from the Company's chief executive officer were
satisfied through offset against deferred salary payable to him. As of September
30, 1997, aggregate loan principal of $7,500 due from the Company's chief
executive officer remained outstanding.
Loans totaling $15,000 were made in December 1995 to the Company's chief
financial officer and two non-officer employees for the payment of income tax
liabilities incurred by these individuals upon their receipt in 1995 of shares
of common stock in payment of accrued bonus compensation. The loans originally
bore a stated interest rate of six percent per annum, but were amended later to
eliminate the accrual of interest. The loans are secured by deferred salaries
payable to each of the borrowers, and originally became due within ninety days
of the date that the shares of common stock received by the borrowers in 1995
first became saleable.
The maturity date for the remaining loan balances due from officers and
employees has been extended through December 31, 1998.
Note 5 - Patents and Technology
- -------------------------------
The costs associated with the filing of patent applications, computer
models and simulations developed by third parties, and the acquisition of
patents and technology from third parties are deferred. Amortization is recorded
on a straight-line basis over the remaining legal life of patents, commencing in
the year in which the patent is granted, and over a five-year period for the
capitalized costs of computer models and simulations. Costs related to patent
applications which ultimately fail to result in the grant of a patent, either
through rejection by patent authorities or through abandonment by the Company,
are charged to operations at the time such determination is made.
Following an extensive evaluation in 1994 of the factors affecting the
economic value of all of the Company's proprietary technology, the carrying
values of certain technology developed internally, other technology acquired
from a third party, and related technology purchase obligations, were reduced to
their estimated recoverable amounts. Related charges to operations aggregated
$739,036 in 1994 and $80,000 in 1995.
The Company has conducted and continues to conduct its own research and
development activities which have resulted in additional proprietary technology
and patents. Development of commercial applications of certain elements of the
SCS has commenced and management believes the capitalized cost of patents and
technology will be recovered through revenue derived from the licensing of such
technology. Management closely monitors the patent application process and other
factors which may affect the economic value of the Company's technology, and
will further reduce the capitalized cost of patents and technology should the
recovery of such cost no longer be sustainable.
Note 6 - Accrued Compensation
- -----------------------------
In order to help conserve the Company's limited cash resources, all of
the Company's salaried employees for several years have been voluntarily
deferring significant portions of the salaries due them under the terms of
previous employment agreements or as otherwise established by the Board of
Directors. As of September 30, 1997, an aggregate of $636,209 of wages so
deferred by current and former employees remained unpaid and has been recorded
as accrued compensation on the Company's balance sheet.
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SONEX RESEARCH, INC. FORM 10-QSB
As a condition of the Company's receiving an indispensable capital
infusion in February 1992, the investors, Proactive Partners, L.P. and certain
of its affiliates ("Proactive"), who became the largest beneficial owner of the
Company's stock by virtue of their purchase of convertible preferred stock and
common stock purchase warrants, required that the voluntary deferral of salaries
be documented formally. Accordingly, in February 1992, all salaried employees
executed an agreement referred to as the "Consent to Deferral" in which they
consented to the past and future deferral of portions of their annual salaries,
and agreed to defer payment of amounts so accumulated until the Company has
received licensing revenue of at least $2 million or at such earlier date as the
Board of Directors determines that the Company's cash flow is sufficient to
allow such payment.
Note 7 - Income Taxes
- ---------------------
The Company has not incurred any federal or state income taxes since its
inception due to operating losses. At December 31, 1996, the Company had net
operating loss carryforwards of approximately $16.5 million available to offset
future taxable income. If certain substantial changes in the Company's ownership
should occur, there would be an annual limitation on the amount of the
carryforwards which can be utilized. The Company's net operating loss
carryforwards expire at various dates from 1997 through 2011, as follows:
Expiring in 1997 $ 289,000
Expiring in 1998 658,000
Expiring in 1999 - 2000 2,005,000
Expiring in 2001 - 2002 3,907,000
Expiring in 2003 - 2011 9,667,000
-----------
$16,526,000
===========
The difference between the net operating loss carryforwards for income
tax reporting purposes and the accumulated deficit reported in these financial
statements results principally from temporary differences relating to the timing
of the recording of deferred salaries and compensation related to the grant of
stock options for income tax and financial reporting purposes, the differences
in the accounting for the Company's investment in its former consolidated
subsidiary for income tax and financial reporting purposes, and as a result of
the non-deductibility for income tax purposes of a prior year's charge to
operations for debt conversion expense. The potential income tax benefit of
these carryforwards and temporary differences of approximately $6.4 million has
not been recorded in the financial statements due to the uncertainty of
realization based on the Company's financial performance to date.
Note 8 - Stockholders' Equity
- -----------------------------
Authorized capital stock
The Company is presently authorized to issue 48 million shares of $.01
par value common stock and 2 million shares of $.01 par value convertible
preferred stock. The preferred stock has priority in liquidation over the common
stock, but it carries no stated dividend. The holders of the preferred stock,
voting as a separate class, have the right to elect that number of directors of
the Company which represents a majority of the total number of directors. The
preferred stock is convertible at any time at the option of the holder into
common stock at the rate of $.35 per share of common stock. As of September 30,
1997, a total of 449,999 shares of preferred stock had been converted into
1,285,707 shares of common stock.
Private placements of common equity
On February 28, 1997, the Company notified the holders of all of its
outstanding warrants to purchase shares its common stock of proposed amendments
to such warrants. These amendments were offered because the Company was unable
to complete a planned registration during 1996 of the common stock issuable upon
the exercise of the warrants. The warrants, all of which had original expiration
dates five years from the respective acquisition date, were issued in private
financings that took place in February 1992, June 1994, June 1995 and
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SONEX RESEARCH, INC. FORM 10-QSB
December 1995. The proposed amendments included, in various combinations,
extensions of the expiration dates, reductions in the exercise prices,
reductions in the number of warrants, provisions for cashless exercise, and
provisions for "piggy-back" registration rights.
The amendments proposed for the warrants issued in February 1992 (the
"February 1992 Warrants") were also offered in connection with a $250,000 equity
investment proposal from Proactive accepted by the Company on February 24, 1997.
In exchange for this cash investment, Proactive received 333,333 shares of
common stock and five-year warrants to purchase 166,666 shares of common stock
at an exercise price of $.75 per share, along with a number of amendments to
February 1992 Warrants issued by the Company to Proactive and other investors in
connection with the sale of $2 million of convertible preferred stock in
February 1992 (the "Preferred Stock Investment"). One other participant in the
Preferred Stock Investment, a director of the Company at that time, also
received the amendments to February 1992 Warrants in exchange for his cash
investment of $1,639, pursuant to which he also received 2,186 shares of common
stock and five-year warrants to purchase 1,093 shares of common stock at an
exercise price of $.75 per share.
On March 31, 1997, the Company completed a private financing in which it
raised $330,000 from a small number of the Company's shareholders who
participated in previous private financings of the Company. A total of 440,000
shares of the Company's common stock and five-year warrants to purchase an
additional 220,000 shares of common stock at $.75 per share were issued in
connection with this transaction.
The offer and sale of a total of 775,519 shares of common stock and
five-year warrants to purchase a total of 387,759 shares of common stock in
connection with the two transactions described above satisfied the conditions of
Rule 506 of Regulation D of the Securities Act of 1933, as amended (the "Act")
and, as such, were exempt from the reqistration requirements of Section 5 of the
Act as transactions not involving any public offering within the meaning of
Section 4(2) of the Act. All of the purchasers of these securities qualified as
"accredited investors" pursuant to Rule 501 of Regulation D of the Act.
Presented below is a schedule summarizing the number, exercise prices and
expiration dates of the warrants outstanding as of September 30, 1997, both as
originally issued and as amended as described above.
Before amendments After amendments
----------------------------- -----------------------------
Month issued $ # of shares Expiration $ # of shares Expiration
------------ ---- ----------- ---------- ---- ----------- ----------
February 1992 0.35 571,428 Feb. 1997 0.35 571,428 Feb. 2000
February 1992 1.00 3,121,428 Feb. 1997 0.75 1,858,928 Feb. 2000
1.00 428,571 Dec. 1997
February 1992 1.50 3,142,857 Feb. 1997 0.75 1,239,286 Feb. 2000
1.50 428,572 Dec. 1997
June 1994 1.125 524,268 June 1999 0.75 524,268 June 1999
June 1994 1.50 524,268 June 1999 0.75 524,268 June 1999
June 1995 0.375 595,000 June 2000 0.375 595,000 June 2000
June 1995 0.50 595,000 June 2000 0.50 595,000 June 2000
December 1995 1.25 340,000 Dec. 2000 0.75 340,000 Dec. 2000
March 1997 0.75 387,759 Mar. 2002 0.75 387,759 Mar. 2002
----------- -----------
Totals 9,802,008 7,493,080
========= =========
Stock options
The Company maintains a non-qualified stock option plan which has made
available for issuance a total of five million shares of common stock. All
directors, full-time employees and consultants to the Company are eligible for
participation. Option awards are determined at the discretion of the Board of
Directors. Upon a change in control of the Company, all outstanding options
become vested with respect to those options which have not already vested.
Options granted to date expire at various dates through August 2006.
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SONEX RESEARCH, INC. FORM 10-QSB
The Company accounts for stock-based compensation using the intrinsic
value method prescribed in Accounting Principles Board (APB) Opinion No. 25.
Under APB No. 25, compensation cost is measured as the excess, if any, of the
quoted market price of the Company's stock at the date of grant over the
exercise price of the option granted. Compensation cost for stock options, if
any, is recognized ratably over the vesting period. In its complete annual
financial statements presented in its Form 10-KSB, the Company provides
additional pro forma disclosures as required under SFAS No. 123 - "Accounting
for Stock-Based Compensation" as if the fair value based method of accounting
had been applied to the Company's stock option grants made subsequent to 1994.
Common stock reserved for future issuance
At September 30, 1997, a total of 16,042,986 shares of common stock were
reserved for issuance for the following purposes:
Purpose # of shares
----------------------------- -----------
Currently exercisable warrants:
Exercisable at $.35 per share, expiring in February 2000 571,428
Exercisable at $.375 per share, expiring in June 2000 595,000
Exercisable at $.50 per share, expiring in June 2000 595,000
Exercisable at $.75 per share, expiring on various dates
from June 1999 through March 2002 4,874,509
Exercisable at $1.00 per share, expiring in December 1997 428,571
Exercisable at $1.50 per share, expiring in December 1997 428,572
----------
7,493,080
----------
Currently exercisable options:
Exercisable at $.50 per share 3,160,716
Exercisable at $.75 per share 71,500
Exercisable at $1.00 per share 140,000
----------
3,372,216
----------
Granted options becoming exercisable in the future:
Exercisable at $.50 per share 218,500
Exercisable at $.75 per share 22,500
----------
241,000
Options available under plan for future grants 508,116
Conversion of preferred stock 4,428,574
----------
Total shares reserved 16,042,986
==========
Note 9 - Commitments
- --------------------
The Company does not have employment agreements with any of its officers;
however, as detailed in Note 6, all salaried employees have been deferring
significant portions of their authorized salaries under the terms of the Consent
to Deferral in order to help conserve cash.
The Company occupies its office and laboratory facilities pursuant to an
extension through November 1997 under the terms of an operating lease agreement
that has expired. The lease, as amended, provides for monthly rent of $3,500,
and requires the Company to pay all property related expenses. The Company will
either attempt to negotiate a new long-term lease for its current office and
laboratory facility once the current extension expires, or continue to occupy
the premises on a month-to-month basis under the terms of the previous lease,
pursuant to which the property owner is required to provide thirty days notice
if he wants the Company to vacate the premises. Management may also search for
an alternative location in the event that an agreement cannot be reached for the
existing premises. Management believes that the resolution of the uncertainty
with respect to the facility will not result in a significant interruption in
the operations of the Company.
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SONEX RESEARCH, INC. FORM 10-QSB
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL POSITION
AND RESULTS OF OPERATIONS
Description of the business
- ---------------------------
Sonex Research, Inc. ("Sonex" or the "Company"), incorporated in Maryland
in 1980, is engaged in the research, development and commercialization of a
patented technology (the "Sonex Combustion System", "SCS" or "Ultra Clean
Burn(TM) technology") which controls the combustion of fuel in engines. The
Company has shown through tests in manufacturers' engines and in computer models
that its technology has the ability to control combustion and allow fuel to be
used more efficiently, and that engines using the Company's technology have
performance superior to conventional engines and emit fewer harmful exhaust
emissions.
Management believes that the Company's technology can be applied to all
types of internal combustion engines, including those used in personal and
commercial vehicles (automobiles, trucks, buses, boats and motorcycles) as well
as engines used in fixed or portable utility applications (motor generator sets,
pumps, and chain saws), whether spark ignited (SI) or compression ignited (CI),
carburetted or fuel injected, using either gasoline, diesel, alcohol and/or
other fuels.
The Company's competition comes from the extensive research departments
of the world's major vehicle and engine manufacturers as well as independent
research organizations. Although the experience and financial resources of its
competitors far exceed those of the Company, management believes that the SCS
can provide significant advantages over the competition on price and
performance. Due to the highly competitive nature of the world's automotive and
truck industries, in connection with its contracts and/or demonstration programs
with such manufacturers the Company is required to execute joint secrecy and
disclosure agreements that expressly prohibit the public disclosure of the
customers' names and other significant information. Failure by Sonex to maintain
this strict level of confidentiality would jeopardize the relationship of the
Company with its customers.
Over the past few years, Sonex has concentrated its efforts on the
application of its technology to direct injected (DI) turbocharged diesel
engines. Demonstration and development programs at various stages of completion
are underway with some of the largest multi-national diesel engine manufacturers
in the world. The goal of such programs is to execute broad agreements with the
diesel engine manufacturers and their piston suppliers for industrial production
of Sonex pistons under license from the Company. The demonstration process
involves many stages, from proof of concept using screw-assembled prototype
pistons fabricated in-house by Sonex, to working with piston suppliers for the
fabrication of finished pre-production pistons that will be used in field trials
and durability, manufacturing optimization, and other tests required before the
start of full series production.
To date, the Company has completed separate demonstration programs with
two of these manufacturers, and each has verified and accepted that the SCS can
substantially reduce particulate emissions in a DI turbocharged diesel engine
for medium duty trucks while maintaining fuel consumption and power.
Negotiations are underway with one of the world's largest piston suppliers and
with these manufacturers for licensing, technology transfer and further
development programs. A similar demonstration program which started in the
fourth quarter of 1996 with a third major international engine manufacturer is
nearing completion.
In addition to diesel truck engine applications, the Company has
successfully applied its proprietary combustion technology to the conversion of
a small, lightweight, SI gasoline fueled engine to start and operate on JP5/JP8
standard military fuels (heavy fuels) while also improving fuel consumption. The
advantages of this converted SI engine, which also include low cylinder head
temperatures, have been demonstrated successfully in a public demonstration of a
small, remotely controlled Unmanned Aerial Vehicle (UAV). As a result of this
demonstration, during the second quarter of 1997 the Company executed contracts
with two U.S. manufacturers of small engines to investigate the feasibility of
applying the Sonex UAV design to production SI engines: one contract applies to
a two-stroke gasoline fueled engine, while the other contract applies to a
four-stroke engine using diesel fuel.
During the third quarter of 1997 the Company executed demonstration
contracts with the United States Marine Corps Systems Command in Quantico,
Virginia, and the U.S. Naval Air Warfare Center, Aircraft Division, in Patuxent
River, Maryland, to convert gasoline fueled engines currently used in UAV's to
heavy fuel operation.
- 11-
<PAGE>
SONEX RESEARCH, INC. FORM 10-QSB
As of September 30, 1997, the Company had five employees: its two
executive officers and three other individuals who provide technical services.
Additional information on the Company's business, its technology, and its
management can be found in the Company's 1996 Annual Report on Form 10-KSB.
Financial position
- ------------------
Since its inception in 1980, the Company has generated net losses of
nearly $20 million. Operating funds have been raised primarily through the sale
of equity securities in both public and private offerings, while revenues to
date have not been significant. Accordingly, Sonex continues to be classified as
a development stage company.
At September 30, 1997, the Company held cash and equivalents of $502,772,
and marketable securities valued at $156,266. The marketable securities
represent holdings in the common stock of the corporation which in October 1995
was merged with and into the Company's inactive subsidiary, as further described
in Notes 2 & 3 to the accompanying financial statements. The fair value of such
securities, however, may be subject to significant fluctuation due to, among
other factors, limited trading volume and a small public float.
Based upon current spending levels, management believes that the cash on
hand and expected revenue from currently executed contracts will be sufficient
to fund operations through the end of the third quarter of 1998. The Company is
currently in negotiations for technology transfer and licensing agreements which
would provide substantial operating funds in the future, but execution of such
agreements is not assured. In the absence of the realization of significant
revenues, additional capital may be necessary to fund operations beyond the
third quarter of 1998.
Results of operations
- ---------------------
A net loss from operations of $338,808 was recorded for the first nine
months of 1997, as compared to $539,890 for the corresponding period in 1996, a
decrease of $201,082 The decrease in the loss resulted primarily from the
increase in development contract revenue to $203,125 for the first nine months
of 1997 from zero for the comparable period in 1996, while total expenses
increased by $13,574 and other income increased by $11,531.
Revenue in 1997 includes $90,000 related to the delivery of prototype
Sonex pistons to one of the large multi-national diesel engine manufacturers
with which the Company is conducting demonstration and development programs,
$90,000 earned under a demonstration program begun in October 1996 to apply the
SCS to a truck diesel engine for another of these diesel engine manufacturers,
and $23,125 under contracts with two U.S. manufacturers of small engines to
investigate the feasibility of applying the Sonex UAV design to production SI
engines.
Research and development (R&D) expenses for the first nine months of the
year increased by $2,563, or 1%, from $376,713 in 1996 to $379,276 in 1997, as
an increase in personnel costs of $6,133, from $228,391 in 1996 to $234,524 in
1997, was offset in part by a net decrease in other expense categories of
$3,570. The increase in personnel costs resulted from the following factors: an
increase effective January 1, 1997 in the wage rates for all of the Company's
employees, an increase in the accrual for unused vacation pay recorded in the
second quarter of 1997, decreases in total salaries resulting from the
resignation at the end of May 1997 of the Company's manager of research, and the
payment of cash bonuses in 1996 while none were paid in 1997. The largest
decrease for other R&D expenses, $10,941, was for occupancy costs, which
declined from $42,804 in 1996 to $32,863 in 1997, primarily because the Company
negotiated a reduction in its monthly rent late in 1996. The Company also
experienced decreases in the cost of testing supplies and depreciation expense.
These decreases were offset in part by the $10,000 in costs to date for software
engineering services beginning in the third quarter of 1997 in connection with
the development of a technology design manual.
General and administrative (G&A) expenses for the first nine months of
the year increased by $10,561, or 5%, from $204,927 in 1996 to $215,488 in 1997,
primarily as a result of an increase in personnel costs of $11,432, from $95,119
in 1996 to $106,551 in 1997. The increase in personnel costs resulted from an
increase effective January 1, 1997 in the salary for the Company's chief
financial officer and an increase in the accrual for unused vacation pay
recorded in the second quarter of 1997, offset by a decrease related to the
payment of cash bonuses
- 12-
<PAGE>
SONEX RESEARCH, INC. FORM 10-QSB
in 1996 while none were paid in 1997. As to other G&A expenses, increases in
travel costs, legal and auditing fees were offset by decreases in occupancy
expenses, insurance, public relations fees, and other expenses.
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
4 Instruments defining the rights of security holders (contained
in the Articles of Incorporation and By-laws, as amended,
filed with the 1992 Annual Report on Form 10-KSB)
(b) Reports on Form 8-K:
On November 4, 1997, the Registrant filed a Current Report on
Form 8-K to report a change in its independent accountants for the
fiscal year ended December 31, 1997.
SIGNATURES
In accordance with the requirements of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereto duly
authorized.
SONEX RESEARCH, INC.
(Registrant)
/s/ George E. Ponticas
----------------------------
by: George E. Ponticas
Chief Financial Officer
November 13, 1997
- 13 -
<PAGE>
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<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 502,772
<SECURITIES> 156,266
<RECEIVABLES> 0
<ALLOWANCES> 0
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<PP&E> 428,911
<DEPRECIATION> 410,083
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15,500
<COMMON> 172,389
<OTHER-SE> 156,266
<TOTAL-LIABILITY-AND-EQUITY> 985,690
<SALES> 203,125
<TOTAL-REVENUES> 203,125
<CGS> 0
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<INCOME-PRETAX> (338,808)
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<INCOME-CONTINUING> (338,808)
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