UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- ----- EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 1998
--------------------
OR
- ----- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________________ to ______________
Commission File Number: 0-19301
-------
COMMUNICATION INTELLIGENCE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-2790442
- --------------------------------- ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
275 Shoreline Drive, Suite 500, Redwood Shores, CA 94065-1413
---------------------------------------------------- ------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (650) 802-7888
----------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
----- -----
Number of shares outstanding of the Issuer's Common Stock, as of November 12,
1998: 68,966,246
This Quarterly Report on Form 10-Q contains 21 pages of which this is page 1.
<PAGE>
Communication Intelligence Corporation
and Subsidiary
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements Page No.
-------------------- --------
Condensed Consolidated Balance Sheets at September 30, 1998
(unaudited) and December 31, 1997............................3
Condensed Consolidated Statements of Operations for the three
and nine month periods ended September 30, 1998 and 1997
(unaudited)..................................................4
Condensed Consolidated Statements of Cash Flows for the nine
month periods ended September 30, 1998 and 1997 (unaudited)..5
Notes to Unaudited Condensed Consolidated Financial Statements....7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.........................13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.......................................19
Item 2. Change in Securities....................................19
Item 3. Defaults Upon Senior Securities.........................19
Item 4. Submission of Matters to a Vote of Security Holders.....19
Item 5. Other Information.......................................19
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits............................................19
(b) Reports on Form 8-K.................................19
Signatures........................................................20
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Balance Sheets
(In thousands)
<TABLE>
<CAPTION>
Sept. 30, Dec. 31,
1998 1997
--------- ---------
Unaudited
Assets
Current assets:
<S> <C> <C>
Cash and cash equivalents .......................... $ 1,314 $ 5,485
Accounts receivable, net ........................... 798 362
Inventories ........................................ 232 193
Other current assets ............................... 76 175
-------- --------
Total current assets ........................... 2,420 6,215
Note receivable from officer (Note 4) .................. 210 210
Property and equipment, net ............................. 607 798
Other assets ............................................ 265 268
-------- --------
Total assets ................................... $ 3,502 $ 7,491
======== ========
Liabilities and stockholders' equity Current liabilities:
Short-term debt .................................... $ 145 $ 490
Accounts payable ................................... 177 1,059
Accrued compensation ............................... 257 446
Other accrued liabilities .......................... 621 1,059
Deferred revenue ................................... 17 440
-------- --------
Total current liabilities ...................... 1,217 3,494
Other liabilities ....................................... -- 8
Commitments (Note 7)
Stockholders' equity:
Convertible preferred stock (Note 7) ............... 3 6
Common stock ....................................... 594 474
Additional paid-in capital ......................... 70,366 69,955
Accumulated deficit ................................ (68,631) (66,347)
Cumulative translation adjustment .................. (47) (99)
-------- --------
Total stockholders' equity ..................... 2,285 3,989
======== ========
Total liabilities and stockholders' equity ..... $ 3,502 $ 7,491
======== ========
</TABLE>
See accompanying notes.
- 3 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Statements of Operations
Unaudited
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- ---------------------
--------- --------- --------- ---------
1998 1997 1998 1997
--------- --------- --------- ---------
Revenues:
<S> <C> <C> <C> <C>
Product ........................ $ 598 $ 576 $ 2,076 $ 2,336
License and royalty ............ 388 623 1,276 1,213
Development contracts .......... 130 176 330 421
-------- -------- -------- --------
Total revenues ............... 1,116 1,375 3,682 3,970
Operating costs and expenses:
Cost of sales:
Product ...................... 357 575 1,133 2,374
License and royalty .......... 33 43 55 84
Development contracts ........ 98 159 208 340
Research and development ....... 344 585 1,409 1,656
Sales and marketing ............ 591 1,723 1,872 4,703
General and administrative ..... 437 544 1,403 1,663
-------- -------- -------- --------
Total operating costs
and expenses ............... 1,860 3,629 6,080 10,820
-------- -------- -------- --------
Loss from operations ............. (744) (2,254) (2,398) (6,850)
Interest income and other income
(expense), net (Note 7) ........ 30 56 132 (312)
Interest expense ................. (2) (7) (18) (28)
-------- -------- -------- --------
Net loss ...................... (716) (2,205) (2,284) (7,190)
Embedded yield on preferred
stock (Note 1) .............. -- -- -- (4,376)
Preferred stock
dividend (Note 1) ........... (125) (141) (435) (423)
-------- -------- -------- --------
Net loss applicable to common
stockholders ................... $ (841) $ (2,346) $ (2,719) $(11,989)
======== ======== ======== ========
Basic loss per common share
(Note 8) ....................... $ (0.02) $ (0.05) $ (0.05) $ (0.27)
======== ======== ======== ========
Diluted loss per common share
(Note 8)........................ $ (0.02) $ (0.05) $ (0.05) $ (0.27)
======== ======== ======== ========
Weighted average common shares
outstanding .................... 54,544 45,200 51,298 44,876
======== ======== ======== ========
</TABLE>
See accompanying notes.
- 4 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Statements of Cash Flows
Unaudited
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
---------------------
--------- ---------
1998 1997
--------- ---------
Cash flows from operating activities:
<S> <C> <C>
Net loss ............................................ $ (2,284) $ (7,190)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization ................... 246 183
Warrant issuance costs .......................... -- 484
Stock options issued for services ............... 32 74
Changes in operating assets and liabilities:
Accounts receivable ........................... (437) (139)
Inventories ................................... (54) (892)
Other current assets .......................... 99 (210)
Other assets .................................. (203) (234)
Accounts payable and accrued compensation ..... (1,070) 672
Other accrued liabilities ..................... (171) (272)
Deferred revenue .............................. (452) (1,033)
Pre-petition liabilities ...................... -- (878)
-------- --------
Net cash used in operating activities ........... (4,294) (9,435)
-------- --------
Cash flows from investing activities:
Proceeds from sales and maturities of short-term
investments ....................................... -- 7,071
Purchase of short-term investments .................. -- (7,022)
Acquisition of property and equipment ............... (49) (584)
-------- --------
Net cash used in investing activities ........... (49) (535)
-------- --------
Cash flows from financing activities:
Principal payments on short-term debt ............... (490) (26)
Principal payments on capital lease obligations ..... (4) (17)
Proceeds from issuance of short-term debt ........... 145 109
Proceeds from issuance of common stock .............. 527 772
-------- --------
Net cash provided by financing activities ....... 178 838
-------- --------
Effect of exchange rate changes on cash ............... (6) (49)
-------- --------
Net decrease in cash and cash equivalents ............. (4,171) (9,181)
Cash and cash equivalents at beginning of period ...... 5,485 10,573
======== ========
Cash and cash equivalents at end of period ............ $ 1,314 $ 1,392
======== ========
</TABLE>
See accompanying notes.
- 5 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Condensed Consolidated Statements of Cash Flows
Unaudited
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
---------------------
1998 1997
--------- ---------
Schedule of non-cash transactions:
<S> <C> <C>
Conversion of redeemable convertible preferred
stock into Series A Preferred Stock $ - $ 9,417
======== ========
</TABLE>
See accompanying notes.
- 6 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
1. Interim financial statements
The accompanying unaudited condensed consolidated financial statements of
Communication Intelligence Corporation and its subsidiary (the "Company" or
"CIC") have been prepared pursuant to the rules and regulations of the
Securities and Exchange Commission. Accordingly, they do not include all of
the information and footnotes required by GAAP for complete financial
statements. In the opinion of management, the financial statements included
in this quarterly report reflect all adjustments (consisting only of normal
recurring adjustments) which the Company considers necessary for a fair
presentation of its financial position at the dates presented and the
Company's results of operations and cash flows for the periods presented.
The Company's interim results are not necessarily indicative of the results
to be expected for the entire year.
The Company develops, markets and licenses pen-input and biometric security
software and technologies for the computer, consumer electronics and
communication markets. The Company's products include multi-lingual
character recognition software (JOT(TM) and Handwriter Recognition System),
signature verification software and biometric security development tools
(SigCheck(TM) and InkTools(TM)), and electronic ink compression and
electronic note-taking software (INKshrINK and QuickNotes(TM)). CIC's
products are designed to increase the ease of use, functionality and
security of a variety of electronic devices from desktop PCs to "smart"
cellular phones.
The Company offers a wide range of software products for pen-based
computing, based on the Company's core handwriting recognition and related
technologies. The Company's core technologies are classified into two broad
categories: "Natural Input Technologies" and "Transaction and Communication
Enabling Technologies." Natural input technologies are designed to allow
users to interact with a computer or handheld device by using an electronic
pen as the sole input device or in conjunction with a keyboard. The pen
eliminates the need for a mouse as a navigational device. The Company
believes that pen-input enhances productivity and creativity because it is
a more natural means of input, facilitates editing and screen navigation,
and reduces the risk of repetitive stress illness. The Company's
transaction and communication enabling technologies are designed to provide
a cost-effective means for protecting electronic transactions, electronic
files and private communications. CIC believes that these technologies
offer more efficient methods to conduct transactions and provide more
functional user authentication and heightened data security. The Company's
transaction and communication enabling technologies have been fundamental
in its development of software for signature verification, data security,
data compression and pen-based operating environments.
For the nine months ended September 30, 1998, the Company's cash and cash
equivalents decreased by $4,171 from $5,485 at the beginning of the period
to $1,314. The decrease is due primarily to cash used in operating
activities of $4,294 and $453 used to repay an accounts receivable line of
credit in January 1998. As of September 30, 1998, the Company's principal
source of funds were its cash and cash equivalents of $1,314 and its
eligible advances from its $1,500 accounts receivable financing. The
Company is seeking to become cash flow positive from operating activities.
However, the Company is unable to predict when it can meet this objective.
There can be no assurance that the Company will have adequate capital
resources to fund planned operations in the near future. If the Company
does not have adequate capital resources to fund operations, it may be
- 7 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
1. Interim financial statements (continued)
required to delay, scale back or eliminate some or all of its operations,
which may have a material adverse effect on the Company's business, results
of operations and prospects. There can be no assurance that any additional
funds will be available to the Company when needed, or if available, will
be available on favorable terms or in amounts required by the Company.
The Company's results of operations for the three and nine months ended
September 30, 1997 was restated to reflect the non-cash charge for the
embedded yield on the convertible preferred stock resulting from the
discounted conversion feature provided on such stock and the cumulative
dividends of $1.25 per share, per annum, on the outstanding shares of its
Series A Preferred Stock. The Company believes the restatement of the
September 30, 1997 three and nine month results was in accordance with the
accounting treatment of the embedded discount on convertible preferred
stock as announced by the Securities and Exchange Commission at the March
13, 1997 meeting of the Financial Accounting Standards Board's Emerging
Issues Task Force. The effect of this restatement on the Company's results
of operations originally reported in the Company's Form 10-Q for the three
months ended September 30, 1997 was to increase the net loss applicable to
common stockholders by $141 from $2,205 to $2,346. There was no change to
the amounts reported on basic and diluted loss per common share. The effect
of this restatement on the results of operations originally reported in the
Company's Form 10-Q for the nine months ended September 30, 1997 was to
increase the net loss applicable to common stockholders by $4,799 from
$7,190 to $11,989 and to increase the basic and diluted loss per common
share by $0.11 from $0.16 to $0.27. The restatement had no effect on the
Company's cash position at September 30, 1997.
Certain prior period amounts in this Form 10-Q have been reclassified to
conform with the current period presentation.
The financial information contained herein should be read in conjunction
with the Company's audited financial statements included in its Annual
Report on Form 10-K for the year ended December 31, 1997.
2. Cash and cash equivalents
The Company considers all highly liquid investments with original
maturities of up to 90 days to be cash equivalents.
Cash and cash equivalents consist of the following:
<TABLE>
<CAPTION>
Sept. 30, Dec. 31,
1998 1997
--------- --------
<S> <C> <C>
Cash in bank ............... $ 639 $1,160
Commercial paper ........... 663 2,330
Money market accounts ...... 12 1,004
Corporate debt securities... -- 991
====== ======
$1,314 $5,485
====== ======
</TABLE>
- 8 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
3. Inventories
Inventories are stated at the lower of cost or market, cost being
determined using the first-in, first-out (FIFO) method. At September 30,
1998, inventory was comprised primarily of finished goods.
4. Note receivable from officer
On August 14, 1998, the Company entered into an agreement (the "Agreement")
with an officer of the Company. Under the Agreement, the officer will
provide consulting services to the Company through December 15, 2001. In
exchange for his services, $110,000 of the note receivable from the officer
shall be forgiven on a monthly basis over the period commencing August 15,
1998 and ending December 15, 2001. The remaining, $100,000 of the note
receivable from the officer will be forgiven on December 15, 2001 if the
officer has performed all the required services under the Agreement. The
Agreement will terminate on December 15, 2001.
5. Short-term debt
On June 30, 1998, the Company's 90% owned Chinese joint venture (the "Joint
Venture") borrowed the, equivalent of $145, denominated in Chinese currency
from a Chinese bank. The loan bears interest at 9% and is due on June 30,
1999. The borrowings are secured by a US dollar denominated deposit held by
the bank.
In May 1997, the Company purchased office furniture and a security system
with an approximate value of $209 from a third party. The Company paid $100
in cash and signed an unsecured note for $109 due in monthly installments
through May 1998. The note bore interest on the unpaid balance at a rate of
10% per annum. The note was paid in full in May 1998.
In October 1997, the Company entered into an accounts receivable financing
agreement whereby the Company may factor its accounts receivable in
accordance with the terms of the agreement. The maximum credit available to
the Company under the agreement is $1,500 with an advance rate of 80% of
eligible accounts receivable less than 90 days old. The term of the
agreement is twelve months with annual renewals. A financing fee of 2.1%
per month applies to the outstanding balance based on the face value of
each invoice. The line of credit is secured by a blanket first priority
lien on all Company assets with the exception of intellectual property. The
amounts financed under the accounts receivable financing agreement at
December 31, 1997 were repaid in January 1998. The Company had
approximately $1,500 of credit available under this agreement at September
30, 1998.
6. Revenue recognition
Revenue from software and other product sales are recognized upon shipment
provided that no significant obligations remain and the collection of the
resulting receivable is probable. The Company provides for estimated sales
returns at the time of shipment. License revenues are
- 9 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
6. Revenue recognition (continued)
recognized when the software has been delivered and when all significant
obligations have been met. Royalty revenues are recognized as products are
licensed and sold by licensees. Development contract revenue is generated
primarily from, research grants and joint development agreements with
private and government agencies. Revenue is recognized in accordance with
the terms of the grants and agreements, generally when collectability is
probable and related costs have been incurred.
In October 1997, the American Institute of Certified Public Accountants
(the "AICPA") issued Statement of Position No. 97-2, "Software Revenue
Recognition" ("SOP 97-2"), which the Company has adopted for transactions
entered into during the fiscal year beginning January 1, 1998. SOP 97-2
provides guidance for recognizing revenue on software transactions and
supersedes Statement of Position No. 91-1, "Software Revenue Recognition".
In March 1998, the AICPA issued Statement of Position No. 98-4, "Deferral
of the Effective Date of a Provision of SOP 97-2, Software Revenue
Recognition" ("SOP 98-4"). SOP 98-4 defers, for one year, the application
of certain passages in SOP 97-2 which limit what is considered
vendor-specific objective evidence ("VSOE") necessary to recognize revenue
for software licenses in multiple-element arrangements when undelivered
elements exist. Additional guidance is expected to be provided prior to
adoption of the deferred provision of SOP 97-2. The Company will determine
the impact, if any, the additional guidance will have on current revenue
recognition practices when issued. Adoption of the remaining provisions of
SOP 97-2 did not have a material impact on revenue recognition during the
three and nine months ended September 30, 1998.
7. Convertible preferred stock
In December 1996, the Company completed a private placement (the "December
Private Placement") of 450 shares of redeemable convertible preferred stock
(the "Series A Preferred Stock") at $25.00 per share to certain
institutional and other investors. Of the aggregate 450 shares sold, 70
shares of Series A Preferred Stock were issued in exchange for 390 shares
of Common Stock originally issued by the Company in a private placement of
Common Stock in June 1996.
On March 28, 1997, and effective as of December 31, 1996, holders of 100%
of the then issued and outstanding Series A Preferred Stock executed a
waiver of certain provisions of the Registration Rights Agreement (the
"Agreement") entered into in connection with the December Private
Placement. Under the waiver, these holders irrevocably waived any
redemption obligations of the Company with respect to the Series A
Preferred Stock in exchange for the issuance to such holders of 300
warrants to purchase the Company's Common Stock, allocated amongst the
holders on a pro-rata basis. The warrants expire five years from the
effective date of issuance and have an exercise price of $2.00 per share,
subject to adjustments for anti-dilution. The Company ascribed a value of
$484 to these warrants, which was recorded as an expense in the Company's
statement of operations during the first quarter of 1997. The fair value
ascribed to the warrants was estimated on the date of issuance using the
Black-Scholes pricing model with the following assumptions: risk-free
interest rate of 6.60%; expected life of 5 years; expected volatility of
104%; and expected dividend yield of 0%. As a result of the aforementioned
waiver, the shares of Series A Preferred Stock, which were classified as
redeemable securities at December 31, 1996, were
- 10 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
7. Convertible preferred stock (continued)
reclassified as convertible preferred stock at March 31, 1997 and, as such,
are included in stockholders' equity.
On November 26, 1997, the Company completed a private placement of 240
shares of Series B Preferred Stock (the "November Private Placement") at
$25.00 per share to certain investors. Each share of Series A Preferred
Stock and Series B Preferred Stock is convertible by the holders into
shares of the Company's Common Stock at any time. In addition, all
outstanding shares of Series A Preferred Stock will be automatically
converted into shares of Common Stock on December 31, 1999, subject to the
satisfaction of certain conditions and events by the Company, or later
under certain circumstances. All outstanding shares of Series B Preferred
Stock will be automatically converted into shares of Common Stock on
November 25, 2000, or at the Company's option, up to one year later. The
number of shares of Common Stock to be issued upon conversion of the Series
A Preferred Stock is determined by dividing (i) the sum of $25.00
multiplied by the number of shares of Series A Preferred Stock being
converted, plus accrued and unpaid dividends and any unpaid default
payments thereon, by (ii) a conversion price which is approximately 72% of
the then applicable market price of the Company's Common Stock.
The number of shares of Common Stock to be issued upon conversion of the
Series B Preferred Stock is determined by dividing (i) the sum of $25.00
multiplied by the number of shares of Series B Preferred Stock being
converted, plus accrued and unpaid dividends, by (ii) a conversion price
equal to the lower of (a) the average market price of the Common Stock or
(b) $1.59 per share
Each holder of the outstanding shares of Series A Preferred Stock and
Series B Preferred Stock is entitled to receive, out of funds legally
available therefor, cumulative dividends on each share at the rate of $1.25
per share per annum, compounded semi-annually and quarterly, respectively,
when payable (whether or not declared). The dividends may be paid in cash
or additional shares of preferred stock (with each additional share valued
at $25.00 per share), at the Company's option. Dividends must be paid on
the Series A Preferred Stock and Series B Preferred Stock prior to any
dividends being paid on any other class of stock ranking junior thereto.
Pursuant to the Agreement entered into in connection with the sale of the
Series A Preferred Stock, the Company is required to pay to each holder a
default payment in an amount equal to 3% of the liquidation preference of
the Series A Preferred Stock held for any part of each 30-day period in
which (i) the Company fails, refuses or is unable to cause the securities
covered by the registration statement related to the shares of Common Stock
issuable upon conversion of the Series A Preferred Stock (the "1997
Registration Statement") to be listed on the exchange on which the Common
Stock is then traded, (ii) any holder's ability to sell the securities
covered by the 1997 Registration Statement is suspended for more than sixty
days in the aggregate, or (iii) the Company does not have a sufficient
number of shares of Common Stock available to effect conversion of the
Series A Preferred Stock.
As of November 9, 1998, there were approximately 93 shares of Series A
Preferred Stock and 11 shares of Series B Preferred Stock issued and
outstanding.
- 11 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
Notes to Unaudited Condensed Consolidated Financial Statements
(In thousands, except per share amounts)
FORM 10-Q
8. Net loss per share
Effective December 31, 1997, the Company adopted the provisions of
Statement of Financial Accounting Standards No. 128, "Earnings Per Share"
("SFAS 128"). SFAS 128 requires the disclosure of both basic earnings per
share, which is based on the weighted average number of common shares
outstanding, and diluted earnings per share, which is based on the weighted
average number of common shares and dilutive potential common shares
outstanding. All prior year earnings per share data have been restated to
reflect the provisions of SFAS 128. Potential common shares, including
outstanding convertible preferred stock, stock options and warrants, have
been excluded from the calculation of diluted earnings per share for all
periods presented as their effect is anti-dilutive. Per share results of
operations are reduced by the amortization of the beneficial conversion
rate on the Series A Preferred Stock and the cumulative dividend
requirements earned by the preferred stockholders.
9. Comprehensive income
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
("SFAS 130"). The Company adopted SFAS 130 effective January 1, 1998. SFAS
130 requires that all items recognized under accounting standards as
components of comprehensive earnings be reported in an annual statement
that is displayed with the same prominence as other annual financial
statements. SFAS 130 also requires that an entity classify items as other
comprehensive earnings by their nature in an annual financial statement.
For example, other comprehensive earnings may include foreign currency
translation adjustments, minimum pension liability adjustments, and
unrealized gains and losses on marketable securities classified as
available-for-sale. Annual financial statements for prior periods will be
reclassified, as required.
Total comprehensive loss was as follows:
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
-------- --------
1998 1997
-------- --------
<S> <C> <C>
Net loss ............................. $(2,284) $(7,190)
Other comprehensive income:
Cumulative translation adjustment... 52 66
======= =======
Total comprehensive loss ............. $(2,232) $(7,124)
======= =======
</TABLE>
10. Recent accounting pronouncement
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures About Segments of An
Enterprise and Related Information" ("SFAS 131"). SFAS 131 revises
information regarding the reporting of operating segments and is required
to be adopted in periods beginning after December 15, 1997. It also
establishes standards for related disclosures about products and services,
geographic areas and major customers. The Company will adopt SFAS 131 for
the year ended December 31, 1998 and such adoption is not expected to have
a material effect on its consolidated financial statements.
- 12 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis should be read in conjunction with the
unaudited condensed consolidated financial statements and notes thereto included
in Part I - Item 1 of this Form 10-Q and "Management `s Discussion and Analysis
of Financial Condition and Results of Operations" and the accompanying financial
statements set forth in the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 1997.
Results of Operations
Revenues. The Company's revenues are derived from product sales, license and
royalty fees and development contracts. For the three months ended September 30,
1998, revenues decreased by 19% to $1,116 from $1,375, and for the nine months
ended September 30, 1998, revenues decreased 7% to $3,682 from $3,970 as
compared to the three and nine month periods ended September 30, 1997, as
discussed below:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------- -----------------
1998 1997 1998 1997
------- ------- ------- -------
Revenues:
<S> <C> <C> <C> <C>
Product ................ $ 598 $ 576 $2,076 $2,336
License and royalty .... 388 623 1,276 1,213
Development contracts... 130 176 330 421
====== ====== ====== ======
Total revenues $1,116 $1,375 $3,682 $3,970
====== ====== ====== ======
</TABLE>
Product sales increased to $598 from $576, or by 4%, for the three month period
ended September 30, 1998 compared to the three month period ended September 30,
1997. The increase is due to increases in sales by the Company's 90% owned joint
venture in The People's Republic of China (the "Joint Venture"). For the nine
month period ended September 30, 1998, product sales decreased to $2,076 from
$2,336, or 11%, in the comparable prior year period. This decrease was due
primarily to the withdrawal of Handwriter products from the retail channel
during the nine months ended September 30, 1998. Handwriter product sales
decreased $216 and $897 to $129 and $508, respectively, during the three and
nine month periods ended September 30, 1998 from $345 and $1,405, respectively,
in the comparable prior year periods. Product sales by the Company's 90% owned
joint venture increased $174 and $469, or by 72% and 50%, respectively, for the
three and nine month periods ended September 30, 1998 to $415 and $1,399,
respectively, compared to $241 and $930, respectively, in the comparable prior
year periods. The increase is primarily due to increases in sales efforts by the
Joint Venture's sales force during the first and second quarters of 1998.
Revenues from license and royalty fees for the three month period ended
September 30, 1998 decreased $235, or 38%, to $388 from $623 in the comparable
prior year period. This decrease was primarily the result of approximately $519
of revenues recognized during the three month period ended September 30, 1997 on
licensing agreements for which the Company had no further obligation to deliver
additional software or services. This decline in license and royalty fees was
primarily offset by increased shipments by OEM's of products incorporating the
Company's software. For the nine month period ended September 30, 1998, revenues
from license and royalty fees increased $63, or
- 13 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
5%, to $1,276 from $1,213 in the comparable prior year period. This increase is
primarily attributable to increases in OEM product shipments bundling the
Company's handwriting recognition software reported by licensees. Revenues
recognized on licensing agreements for which the Company has no further
obligation to deliver additional software or services for the nine months ended
September 30, 1998 was $404 compared to $902 in the comparable prior year
period.
Development contract revenues for the three month period ended September 30,
1998 decreased 26% to $130 from $176 in the comparable prior year period. This
decrease resulted from lower non-recurring engineering fees recorded as revenue
compared to the prior year period. For the nine months ended September 30, 1998,
development contract revenue decreased 22% to $330 from $421 in the comparable
prior year period. The decline is due to reduced grant revenues from the
National Science Foundation compared to the prior year period.
Cost of sales. Cost of product sales for the three and nine month periods ended
September 30, 1998 decreased 38% and 52%, respectively, to $357 and $1,133,
respectively, from $575 and $2,374, respectively, in the comparable prior year
periods. Cost of product sales for the three and nine month periods ended
September 30, 1998 includes approximately $309 and $1,018, respectively, of
hardware and software components related to the system integration activities of
the Joint Venture, compared to approximately $134 and $692, respectively, in the
prior year periods. The increase in systems integration costs of product sales
for the three and nine month periods ended September 30, 1998 is due to the
increase in sales of such products and was offset by a decrease for the three
and nine month periods ended September 30, 1998 of $335 and $1,210,
respectively, in Handwriter(R) product cost of sales. The decrease in
Handwriter(R) product cost of sales is due to reduced sales of such products for
the three and nine months ended September 30, 1998 compared to the prior year,
and lower product costs. License and royalty cost of sales decreased
approximately $10 and $29, respectively, to $33 and $55, respectively, for the
three and nine months ended September 30, 1998 compared to $43 and $84,
respectively, for the comparable 1997 periods. Costs incurred in connection with
development contract revenues decreased 38% and 39%, respectively, for the three
and nine months ended September 30, 1998 as compared to the prior year periods
commensurate with the decrease in development contract revenues.
Research and development expenses. Research and development expenses for the
three and nine month periods ended September 30, 1998 decreased by 41% and 15%,
respectively, to $344 and $1,409, respectively, as compared to $585 and $1,656,
respectively, in the comparable period of the prior year. The decreases were
primarily due to reductions of approximately $196 and $301, respectively, in
payroll and related costs attributable to a decrease in the number of U.S. based
personnel for the three and nine month periods ended September 30, 1998 compared
to the same three and nine month prior year periods. Other costs, including
facilities and related costs, for the three months ended September 30, 1998
decreased approximately $45 commensurate with the reductions in head count. For
the nine month period ended September 30, 1998, the increase in other costs was
commensurate with the decrease in development contract revenues and increased
engineering activities by the Company's Joint Venture during the first half of
1998, compared to the prior year. For the three and nine months ended September
30, 1998 and 1997, the Company did not capitalize any significant software
development costs.
Sales and marketing expenses. Sales and marketing expenses for the three and
nine month periods ended September 30, 1998 decreased 66% and 60%, respectively,
to $591 and $1,872, respectively, as compared to $1,723 and $4,703,
respectively, in the comparable period of the prior year. The decrease for the
three and nine month periods ended September 30, 1998 was primarily due to
decreases of $393 and $1,320, respectively, in advertising and related expenses
associated with the Handwriter products, and $362 and $812, respectively, in
payroll and related expenses as a result of the Company's previously announced
- 14 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
strategy to focus primarily on systems integration and software sales. Other
costs including facilities and related expenses decreased $377 and $699,
respectively, commensurate with overall reductions in staffing. The reductions
in staffing and advertising expenses were primarily due to the withdrawal of the
Company's Handwriter products from the retail channel during the first quarter
of 1998, a reduction in the U. S. based sales force in October 1997, and the
closure of the Japanese sales office in December 1997, respectively.
General and administrative expenses. General and administrative expenses for the
three and nine month periods ended September 30, 1998 decreased 20% and 16%,
respectively, to $437 and $1,403, respectively, as compared to $544 and $1,663,
respectively, from the comparable periods of the prior year. The decreases were
primarily attributable to decreases of approximately $107 and $260,
respectively, in other costs, including consulting and professional service
expenses.
Interest income and other income (expense), net. Interest income and other
income (expense), net decreased for the nine months ended September 30, 1998 due
to a one time non-cash charge to expense in March 1997 of $484 for 300 warrants
issued on March 28, 1997 to holders of 100% of the then issued and outstanding
redeemable convertible preferred stock in exchange for the execution of a waiver
to certain provisions of the Registration Rights Agreement entered into in
connection with the December Private Placement (See Note 6 in the Notes to the
Unaudited Condensed Consolidated Financial Statements).
Embedded yield on preferred stock. The embedded yield on preferred stock for the
nine month period ended September 30, 1997 results from the discount feature
provided on the conversion of the Series A Preferred Stock into Common Stock.
The embedded yield totaling $4,376 was recognized from the effective issuance
date of December 31, 1996 through July 1, 1997, the date on which the Series A
Preferred Stock first became convertible.
Preferred stock dividend. The preferred stock dividend relates to cumulative
dividends on the Series A Preferred Stock and Series B Preferred Stock of $1.25
per share, per annum, compounded quarterly and semi-annually, respectively,
whether or not declared.
Liquidity and Capital Resources
At September 30, 1998, cash and cash equivalents totaled $1,314 compared to cash
and cash equivalents of $5,485 at December 31, 1997. This decrease was primarily
the result of $4,294 used in operating activities and approximately $453 used to
repay the accounts receivable line of credit. Total current assets were $2,420
at September 30, 1998 compared to $6,215 at December 31, 1997.
As of September 30, 1998, the Company's principal source of funds were its cash
and cash equivalents of $1,314 and its eligible advances from its $1,500
accounts receivable financing. The Company is seeking to become cash flow
positive from operating activities. However, the Company is unable to predict
when it can meet this objective. There can be no assurance that the Company will
have adequate capital resources to fund planned operations in the near future.
If the Company does not have adequate capital resources to fund operations, it
may be required to delay, scale back or eliminate some or all of its operations,
which may have a material adverse effect on the Company's business, results of
operations and prospects. There can be no assurance that any additional funds
will be available to the Company when needed, or if available, will be available
on favorable terms or in amounts required by the Company.
Current liabilities, which include deferred revenue, were $1,217 at September
30, 1998. Deferred revenue, totaling $17 at September 30, 1998, primarily
reflects nonrefundable advance
- 15 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
service fees received from the Company's customers which will be recognized as
revenue by the Company in the period in which the service is performed.
The Company currently owns 90% of a joint venture with The Ministry of
Electronic Industries of the Jiangsu Province, a provincial agency of The
People's Republic of China (the "Agency"). In June 1998, the registered capital
of the Joint Venture was reduced from $10,000 to $2,550. Under the old
provisions of the joint venture agreement, the Company was required to
contribute up to an aggregate of $5,400 in cash to the Joint Venture and provide
it with non-exclusive licenses to technologies and certain distribution rights.
The Agency was required to contribute certain land use rights and provide other
services to the Joint Venture. As of September 30, 1998, the Company had
contributed an aggregate of $1,800 in cash to the Joint Venture and provided it
with non-exclusive licenses to technologies and certain distribution rights and
the Agency had contributed certain land use rights. Following the reduction in
registered capital of the Joint Venture, neither the Company nor the Agency are
required to make further contributions to the Joint Venture. Prior to the
reduction in the amount of registered capital, the Joint Venture was subject to
the annual licensing requirements of the Chinese government. Concurrent with the
reduction in registered capital, the Joint Venture's business license has been
renewed through October 18, 2043. The Company's investment in the Joint Venture
is subject to the risks of doing business abroad, including fluctuations in the
value of currencies, export duties, import controls and trade barriers
(including quotas), restrictions on the transfer of funds, longer payment
cycles, greater difficulty in accounts receivable collections, burdens of
complying with foreign laws and political and economic instability.
In December 1996, the Company completed a private placement of 450 shares of
redeemable convertible preferred stock (the "December Private Placement") at
$25.00 per share to certain institutional and other investors. Of the aggregate
450 shares sold, 70 shares of redeemable convertible preferred stock were issued
in exchange for 390 shares of Common Stock, originally issued by the Company in
an earlier private placement in June 1996.
On November 26, 1997, the Company completed a private placement of 240 shares of
Series B Preferred Stock (the "November Private Placement") at $25.00 per share
to certain investors.
Each share of Series A and Series B Preferred Stock is convertible by the
holders into shares of Common Stock at any time. In addition, all outstanding
shares of Series A Preferred Stock will be automatically converted into shares
of Common Stock on December 31, 1999, subject to the satisfaction of certain
conditions and events by the Company, or later under certain circumstances. All
outstanding shares of Series B Preferred Stock will be automatically converted
into shares of Common Stock on November 25, 2000, or at the Company's option, up
to one year later.
Generally, the number of shares of Common Stock to be issued upon conversion of
the Series A Preferred Stock is determined by dividing (i) the sum of $25
multiplied by the number of shares being converted, plus accrued and unpaid
dividends thereon and any unpaid default payments, by (ii) a conversion price
(as determined in the certificate of designations for such shares) which is
approximately 72% of the then applicable market price of the Common Stock. The
then applicable market price generally will be determined as follows: (i) if the
holder giving the conversion notice has sold the shares of Common Stock issuable
upon conversion, the market price will be the weighted average of the actual
selling price at which the holder converting has sold the shares of Common Stock
(which may not be less than the lowest trading price on the date of such trade
as reported by the Nasdaq Small-Cap Market), net of normal and customary
commissions and underwriting or dealer spreads, or (ii) if the holder giving the
conversion notice has not sold the shares of Common Stock issuable upon
conversion, the market price will be the average of the daily mean between the
low trading price and the closing price of the Common Stock for each of the
three consecutive trading
- 16 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
days prior to the conversion date. The conversion price is also subject to
adjustment for customary dilutive events such as stock splits, stock dividends,
reorganizations and certain mergers.
Generally, the number of shares of Common Stock to be issued upon conversion of
the Series B Preferred Stock is determined by dividing (i) the sum of $25
multiplied by the number of shares being converted, plus accrued and unpaid
dividends thereon, by (ii) a conversion price (as determined in the certificate
of designations for such shares) equal to the lower of (a) the average market
price of the Common Stock, or (b) $1.59 per share. The average market price
generally will be the average of the daily closing prices of the Common Stock
for the three consecutive trading days prior to the conversion date. The
conversion price is also subject to adjustment for customary dilutive events
such as stock splits, stock dividends, reorganizations and certain mergers.
As of November 9, 1998, there were approximately 93 shares of Series A Preferred
Stock and 11 shares of Series B Preferred Stock issued and outstanding.
If the average market price of the Common Stock on November 9, 1998 of $0.50 per
share was used to determine the number of shares issuable upon conversion of all
of the shares of Series A and Series B Preferred Stock outstanding as of the
same date, the Company would be obligated to issue an aggregate of approximately
9,355 shares of Common Stock. There is no limitation on the number of shares of
Common Stock that the Company may be required to issue in connection with the
conversion of the Series A and Series B Preferred Stock. The number of shares of
Common Stock issuable upon conversion of, or otherwise with respect to, the
shares of Series A and Series B Preferred Stock is subject to adjustment, and
will likely be different than the amount estimated herein. The exact number is
dependent upon factors which the Company is unable to predict at this time,
including the future market price of the Common Stock.
Pursuant to the Series A Registration Rights Agreement entered into in
connection with the sale of the Series A Preferred Stock, the Company is
required to pay to each holder a default payment in an amount equal to 3% of the
liquidation preference of the Series A Preferred Stock held for any part of each
30-day period in which (i) the Company fails, refuses or is unable to cause the
securities covered by the Registration Statement related to the shares of Common
Stock issuable upon conversion of the Series A Preferred Stock (the "1997
Registration Statement") to be listed on the exchange on which the Common Stock
is then traded, (ii) any holder's ability to sell the securities covered by the
1997 Registration Statement is suspended for more than sixty days in the
aggregate, or (iii) the Company does not have a sufficient number of shares of
Common Stock available to effect conversion of the Series A Preferred Stock. Any
default payment which the Company is required to make may have a material
adverse effect on the Company and, if such payment is made by the issuance of
additional shares, may further dilute the ownership interests of the holders of
the Common Stock.
In October 1997, the Company entered into an accounts receivable financing
agreement whereby the Company has the ability to factor its accounts receivable
in accordance with the terms of the agreement. The maximum credit available to
the Company under the agreement is $1,500, with an advance rate of 80% of the
eligible accounts receivable which are less than 90 days old. The term of the
agreement is twelve months with annual renewals. A financing fee of 2.1% per
month applies to the outstanding balance based on the face value of each
invoice. The line of credit is secured by a blanket first priority lien on all
Company assets with the exception of its intellectual property. As of September
30, 1998, the Company had no outstanding financed accounts receivable under this
agreement. The amounts financed under this agreement at December 31, 1997 were
repaid in January 1998.
- 17 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
The Company leases facilities in the United States and China. Future minimum
lease payments under non-cancelable operating leases are expected to be
approximately $617, $603, $620, and $558 for the years ending December 31, 1998,
1999, 2000 and 2001, respectively. The Company's rent expense is expected to be
reduced by approximately $167 in 1998 in connection with subleases on excess
office space in the United States.
The Company has an investment portfolio of fixed income securities that are
classified as cash equivalents. These securities, like all fixed income
instruments, are subject to interest rate risk and will fall in value if the
market interest rates increase. The Company attempts to limit this exposure by
investing primarily in short-term securities. From time to time the Company
makes certain capital equipment or other purchases denominated in foreign
currencies. As a result the Company's cash flows and earnings are exposed to
fluctuations in foreign currency exchange rates. The Company attempts to limit
these exposures through operational strategies and generally has not hedged
currency exposures.
Year 2000 Compliance
The Company develops, markets and licenses pen-input and biometric security
software and technologies for the computer, consumer electronics and
communication markets. The Company's products include multi-lingual character
recognition software, signature verification software, biometric security
development tools, and electronic ink compression and electronic note-taking
software. The Company believes that all versions of its products are Year 2000
compliant. The Company has evaluated its internal software programs and
equipment to ascertain the readiness of computer software and operating systems
for the Year 2000. Management of the Company believes the internal financial and
applications software is Year 2000 compliant. The Company is currently in the
process of replacing older desktop PC's which are not, nor cannot be upgraded to
be, Year 2000 compliant. The replacement of such older computer equipment will
be completed by December 31, 1998. The cost of replacing these desktop systems
is not expected to have a material adverse impact on the Company's business,
financial condition and results of operations. The Company is in the process of
analyzing its supplier's and customer's readiness with respect to Year 2000
compliance. There can be no assurance that failure of the Company's suppliers
and customers to be Year 2000 compliant will not have a material adverse effect
on the Company's business, financial condition and results of operations.
Future Results and Stock Price
The Company's future results and stock price may be subject to significant
volatility. The public stock markets have exhibited extreme volatility in stock
prices in recent years. The stock prices of high technology companies have
experienced particularly high volatility, including at times severe price
changes that are unrelated or disproportional to the operating performance of
these specific companies. The trading price of the Company's Common Stock could
be subject to wide fluctuation in response to, among other factors,
quarter-to-quarter variations in operating results, announcements of
technological innovations or new products by the Company or its competitors,
announcements of new strategic relationships by the Company or its competitors,
general conditions in the computer industry or the global economy generally, or
market volatility unrelated to the Company's business and operating results.
Certain statements contained in this Quarterly Report on Form 10-Q, including
without limitation, statements containing the words "believes", "anticipates",
"hopes", "intends", "expects", and other words of similar import, constitute
"forward looking" statements within the meaning of the Private Litigation Reform
Act of 1995. Such statements involve known and unknown risks, uncertainties and
other factors which may cause actual events to differ materially from
expectations. Such factors include the
- 18 -
<PAGE>
Communication Intelligence Corporation
and Subsidiary
(In thousands, except per share amounts)
FORM 10-Q
Future Results and Stock Price (continued)
following (1) technological, engineering, quality control or other circumstances
which could delay the sale or shipment of the Company's products; (2) economic,
business, market and competitive conditions in the software industry and
technological innovations which could affect the Company's business; (3) the
Company's inability to protect its trade secrets or other proprietary rights,
operate without infringing upon the proprietary rights of others or prevent
others from infringing on the proprietary rights of the Company; and (4) general
economic and business conditions and the availability of sufficient financing.
Part II-Other Information
Item 1. Legal Proceedings
None
Item 2. Change in Securities
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit 27, Financial Data Schedule.
(b) Reports on Form 8-K
None
- 19 -
<PAGE>
Communication Intelligence Corporation
and Subsidiarys
(In thousands, except per share amounts)
FORM 10-Q
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
COMMUNICATION INTELLIGENCE CORPORATION
-----------------------------------------------
Registrant
November 13, 1998 /s/Guido DiGregorio
- ----------------- -----------------------------------------------
Date Guido DiGregorio
(Principal Financial Officer and Officer Duly
Authorized to Sign on Behalf of the Registrant)
- 20 -
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000727634
<NAME> Communication Intelligence Corporation
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 1,314
<SECURITIES> 0
<RECEIVABLES> 1,029
<ALLOWANCES> (231)
<INVENTORY> 232
<CURRENT-ASSETS> 2,420
<PP&E> 2,920
<DEPRECIATION> (2,313)
<TOTAL-ASSETS> 3,502
<CURRENT-LIABILITIES> 1,217
<BONDS> 0
0
3
<COMMON> 594
<OTHER-SE> 1,688
<TOTAL-LIABILITY-AND-EQUITY> 2,285
<SALES> 2,076
<TOTAL-REVENUES> 3,682
<CGS> 1,133
<TOTAL-COSTS> 1,396
<OTHER-EXPENSES> 1,409
<LOSS-PROVISION> 18
<INTEREST-EXPENSE> (18)
<INCOME-PRETAX> (2,284)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,284)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,284)
<EPS-PRIMARY> (0.05)
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</TABLE>
