2
FORM 10Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 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 0-16323
ELECTROSOURCE, INC.
(Exact name of Registrant as specified in its charter)
Delaware 742466304
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
2809 Interstate 35 South, 78666
San Marcos, Texas
(Address of principal executive (Zip Code)
offices)
Registrant's telephone number, (512) 753-6500
including area code:
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No __
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Indicate by check mark whether the registrant has filed all
documents and reports required to be filed by Section 12, 13 or
15(d) of the Securities Exchange Act of 1934 subsequent to the
distribution of securities under a plan confirmed by a court.
Yes __ No __
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the
issuer's classes of common stock, as of the latest practicable
date: 4,534,531 shares as of May 14, 1998.
INDEX TO FINANCIAL STATEMENTS
March 31, 1998
Electrosource, Inc. Commission file number 0-16323
Condensed Balance Sheets at March 31, 1998 (Unaudited)
and December 31, 1997 Page 3
Condensed Statements of Operations for the three months
ended March 31, 1998 and 1997 (Unaudited) Page 4
Condensed Statements of Cash Flows for the three months ended
March 31, 1998 and 1997 (Unaudited) Page 5
Notes to Condensed Financial Statements Page 6
Management's Discussion and Analysis Page 10
Exhibits to Form 10Q Page 17
Index to Exhibits Page 18
Part I - Financial Information
Item 1. Financial Statements
Electrosource, Inc.
Condensed Balance Sheets
<TABLE>
March 31, 1998 December 31,
(Unaudited) 1997
ASSETS
<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents $ 866,209 $ 782,918
Trade receivables 129,511 408,230
Inventories 294,631 322,289
Prepaid expenses and other assets 179,336 376,757
TOTAL CURRENT ASSETS 1,469,687 1,890,194
PROPERTY AND EQUIPMENT (net of accumulated depreciation
of $3,457,748 in 1998 and $3,239,817 in 1997) 3,949,503 4,164,459
INTANGIBLE ASSETS (net of accumulated amortization
of $3,848,493 in 1998 and $3,600,213 in 1997) 1,613,067 1,861,347
RESTRICTED CASH 81,604 81,604
OTHER ASSETS 7,750 8,500
TOTAL ASSETS $7,121,611 $8,006,104
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Accounts payable $ 494,522 $ 518,808
Accrued liabilities 1,463,948 1,668,718
Deferred revenue and advance payments on batteries 1,158,551 432,599
Current portion of capital lease obligations 73,488 72,685
Convertible notes payable 1,903,939 871,920
TOTAL CURRENT LIABILITIES 5,094,448 3,564,730
CONVERTIBLE NOTES PAYABLE (less current portion) 2,961,070 2,800,554
CAPITAL LEASE OBLIGATIONS (less current portion) 130,113 148,518
SHAREHOLDERS' EQUITY (DEFICIT)
Common Stock, par value $1.00 per share,
authorized 50,000,000 shares; issued and outstanding
4,534,531 in 1998 and 1997 4,534,531 4,534,531
Preferred Stock, par value $1.00 per share; authorized
10,000,000 shares, no shares issued or outstanding _ _
Common Stock subscription receivable (467,663) (467,663)
Warrants _ _
Paid in capital 51,146,508 51,146,508
Accumulated deficit (56,277,396) (53,721,074)
(1,064,020) 1,492,302
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) $7,121,611 $ 8,006,104
See notes to financial statements.
</TABLE>
Electrosource, Inc.
Condensed Statements of Operations (Unaudited)
<TABLE>
Three Months Ended March 31,
1998 1997
<S> <C> <C>
Revenues
Battery sales $ 244,975 $ 543,235
Project revenue 49,015 464,496
Interest income 9,584 3,153
303,574 1,010,884
Costs and expenses
Manufacturing 992,604 847,078
Selling, general and administrative 577,713 564,182
Research and development 596,111 449,508
Technology license and royalties 25,000 25,000
Depreciation and amortization 466,211 478,687
Interest expense 202,257 53,286
2,859,896 2,417,741
Loss before income taxes (2,556,322) (1,406,857)
Income taxes _ _
Net loss $(2,556,322) $(1,406,857)
Net loss per common share $(0.56) $(0.36)
Average common shares outstanding 4,534,531 3,937,921
See notes to condensed financial statements.
</TABLE>
Electrosource, Inc.
Condensed Statements of Cash Flows (Unaudited)
<TABLE>
Three Months Ended March 31,
1998 1997
<S> <C> <C>
OPERATING ACTIVITIES
Net loss $(2,556,322) $(1,406,857)
Adjustments to reconcile net loss to net cash used
in operating activities:
Equity instruments for consulting services 200,000 28,200
Depreciation and amortization 556,246 490,775
Interest expense paid in convertible notes payable 102,500 _
Amortization of prepaid lease expense 106,536 _
Changes in operating assets and liabilities:
(Increase) decrease in trade receivables 278,719 (194,026)
Decrease in inventories 27,658 30,209
(Increase) decrease in prepaid expenses and
other assets 91,635 (14,663)
Increase (decrease) in accounts payable
and accrued liabilities (429,056) 190,802
Increase (decrease) in deferred revenue and
advance payments on batteries 725,952 (66,811)
CASH USED IN OPERATING ACTIVITIES (896,132) (942,371)
INVESTING ACTIVITIES
Purchases of property and equipment, net (2,975) (21,978)
CASH USED IN INVESTING ACTIVITIES (2,975) (21,978)
FINANCING ACTIVITIES
Proceeds from issuances of convertible notes payable
and related warrants to purchase Common Stock 1,000,000 4,000,000
Payment of notes payable and capital lease obligations (17,602) (157,166)
Proceeds from issuances of common stock, net _ 645,355
CASH PROVIDED BY FINANCING ACTIVITIES 982,398 4,488,189
INCREASE IN CASH AND CASH EQUIVALENTS 83,291 3,523,840
Cash and cash equivalents at beginning of period 782,918 367,861
CASH AND CASH EQUIVALENTS AT END OF PERIOD $866,209 $3,891,701
See notes to financial statements.
</TABLE>
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited condensed financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all of the information and notes
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. These interim financial statements should be read in conjunction with
the financial statements and notes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 1997, and are not
necessarily indicative of results for the entire year.
Certain reclassifications have been made to the 1997 financial statements to
conform with the 1998 presentation.
NOTE B - INVENTORIES
1998 1997
Raw materials $181,326 $172,469
Work in progress 74,024 79,774
Finished goods 39,281 70,046
$294,631 $322,289
NOTE C - PROPERTY AND EQUIPMENT
1998 1997
Office equipment $ 788,504 $ 785,529
Production and lab equipment 5,317,729 5,317,729
Leasehold improvements 1,301,018 1,301,018
7,407,251 7,404,276
Less - accumulated depreciation and amortization (3,457,748) (3,239,817)
Total Property and Equipment $3,949,503 $4,164,459
NOTE D - CONVERTIBLE NOTES PAYABLE
Convertible Notes Payable consist of the following:
1998 1997
Convertible Notes - 5% $6,202,500 $5,100,000
Less: Discount (1,337,491) (1,427,526)
Convertible Notes Payable, net of discount $4,865,009 $3,672,474
The composition of the current and long-term portion of Convertible Notes
Payable at March 31, 1998 is as follows:
Total Current Long-Term
Convertible Notes - Principal $6,202,500 $2,000,000 $4,202,500
Less: Discount (1,337,491) (96,061) (1,241,430)
Convertible Notes Payable,
net of discount $4,865,009 $1,903,939 $2,961,070
In March 1997, the Company entered into a Note Purchase and Option Agreement and
a Convertible Promissory Note and Stock Option Agreement (the "Agreements") with
Corning Incorporated ("Corning") for proceeds of $4 million. The 5% Convertible
Note is for $4,000,000 ("$4 Million Note"), is unsecured and matures on March
26, 2002. Interest is payable semi-annually in cash or in kind at the option of
the Company. The $4 Million Note is convertible into Common Stock at a
conversion price of $5.50 per share. Notes Payable for $100,000 and $102,500
were issued in September 1997 and March 1998, respectively, for interest for the
six months then ended with the same terms and conditions as the $4 Million Note.
Under the Agreements, the Company also granted Corning a warrant to purchase up
to 275,000 shares of Common Stock at $7.00 per share and a warrant to purchase
up to 225,000 shares of Common Stock at $9.00 per share ("Corning Warrants").
The Corning Warrants are exercisable until March 1999. The fair market value of
the Corning Warrants was estimated to be $1,462,500, using the Black-Scholes
option valuation model. This amount was recorded as a discount on the note and
is being amortized to interest expense over the term of the $4 Million Note.
In December 1997, the Company issued a 5% Convertible Note to Corning for
$2,000,000 ("$2 Million Note") which was drawn as follows: $1,000,000 on
December 19, 1997, $500,000 on January 23, 1998 and $500,000 on February 23,
1998. The $2 Million Note is unsecured and matures on December 19, 1998. The
$2 Million Note is convertible into Convertible Preferred Stock or Common Stock.
The $2 Million Note is convertible into 200,000 shares of the Company's 5%
Cumulative Convertible Preferred Stock, which is then convertible into Common
Stock at a conversion price of $4.06 per share or directly into Common Stock at
a conversion price of $3.56 per share. In conjunction with the issuance of the
$2 Million Note, the Company agreed to reduce the exercise price of the Corning
Warrants from $7.00 and $9.00 per share to $4.00 and $6.00 per share,
respectively. This increased the estimated fair market value of the Corning
Warrants by $128,080 using the Black-Scholes option valuation model. This
increase in value was recorded as a discount on the note and is being amortized
to interest expense over the term of the $2 Million Note. The combined
effective interest rate of the $2 Million and $4 Million Notes is approximately
15%. Because of the complexity of determining the value of the conversion
features of the $4 Million and $2 Million Notes and the related cost which would
be incurred to obtain an expert valuation, the Company believes it impracticable
to determine the fair value of the $4 Million and $2 Million Notes.
NOTE E - CONTINGENCIES
In 1994, the Company signed a "Know-How License Agreement" (the "Agreement")
with Horizon Battery Technologies, Ltd., ("HBTL"), of Bombay, India, calling for
the completion of several detailed subordinate agreements with the ultimate
purpose to license the manufacture and sale of batteries in India. The
effectiveness of the Agreement was conditioned upon the subsequent execution of
these six related agreements, none of which were executed. The Company
believes, therefore, the Agreement never became effective and has no force or
effect. Separately in 1995, HBTL agreed to pay the Company $250,000 for a
Preliminary Design Review ("PDR") for a potential manufacturing facility in
India which was required to complete one of the subordinate agreements. The
Company received $100,000 from HBTL and completed the PDR in 1995. The
remaining $150,000 was never paid by HBTL, in spite of repeated demands by the
Company.
In September 1996, the Company received a demand from HBTL to arbitrate damage
claims for alleged breach of the Agreement. HBTL claimed damages of
approximately $5.1 million for its expenses and lost profits related to the
Agreement. The Company disputes the claim for damages and will vigorously
defend any action taken by HBTL to pursue the claims. The Company also filed a
petition in State Court in Travis County, Texas, seeking, among other things, a
declaratory judgment that HBTL had no right to arbitration or monetary relief.
HBTL contested jurisdiction and removed the proceedings to the U.S. Federal
Courts. The Federal District Court then ruled that it did not have personal
jurisdiction over HBTL and therefore had no power to hear the case. The Company
filed an appeal in the U.S. Fifth Circuit Court of Appeals from the final
judgment and rulings in the District Court which denied jurisdiction. A
decision on the appeal is expected at any time. If the appeal is successful,
the Court will have jurisdiction to hear the case. No liability has been
recorded in the financial statements at March 31, 1998 for this uncertainty as
management is unable to determine the likelihood of an unfavorable outcome of
this matter or to estimate the amount or range of potential loss should the
outcome be unfavorable. The resolution of this matter could have a material
adverse effect on the financial position of the Company.
NOTE F - EARNINGS PER SHARE
Basic and diluted loss per share is based on the average number of shares of
common stock outstanding during each period. Since the Company has experienced
net operating losses, outstanding options and warrants to purchase common stock
have an antidilutive effect. Therefore, such options and warrants were not
included in the diluted loss per share calculation.
NOTE G - COMPREHENSIVE INCOME
In 1997, the Financial Accounting Standards Board issued Statement 130,
Reporting Comprehensive Income ("SFAS 130"). SFAS 130 establishes new rules for
the reporting and display of comprehensive income and its components. The
Company has adopted SFAS 130, but management does not believe that it has any
comprehensive income as defined in SFAS 130.
NOTE H - LIQUIDITY
During the quarter ended March 31, 1998, the Company did not generate sufficient
cash flow from operations to fund its working capital needs. In January and
February 1998, the Company borrowed the remaining $1,000,000 of 5% Convertible
Notes from Corning in accordance with the terms of its $2 Million Note signed in
December 1997. Existing battery orders and contract work were not adequate to
sustain the Company on an ongoing basis. As a result, in February 1998, the
Company reduced its staffing by approximately 40% to reduce costs and began to
explore strategic alternatives such as a business combination, the sale of
substantially all of the Company's assets or a strategic alliance. On April 14,
1998, the Company announced that it had signed an agreement in principle for $6
million of equity funding and for future potential production battery orders,
among other things. No binding agreement has been finalized. Under the current
state of negotiations, which could change, the proposed funding is anticipated
to be received from a privately held investor over an approximate fifteen month
time frame with $1.2 million at closing and the balance in monthly payments.
There is no guarantee or assurance that the full $6 million will be received.
The investor will receive one share of Common Stock for each $1 invested. The
investor will also have an option to purchase an additional 2.5 million shares
at $1 each for cash or, with the agreement of the Company, for services. The
investor will have significant Board representation and management rights. A
binding agreement is subject to further due diligence, a final definitive
agreement and to the approval of both parties' boards of directors. Due
diligence is currently in process. Completion of a final definitive agreement
is expected by the end of May, however, there is no assurance any agreement will
be completed.
Management believes that it has sufficient cash on hand and to be received from
orders for batteries and development work to continue operations at current
levels through May of 1998. If a business combination, sale of assets,
strategic alliance, prepayment for batteries or additional financing cannot be
completed by early June or possibly sooner, the Company will not be able to
continue operations. Additionally, absent additional funding, the Company would
not have the funds necessary to make the minimum payments to maintain its
exclusivity under the license for the core technology or to pay its outstanding
obligations. The Company would not be able to continue as a going concern
absent additional financing from a party which has not yet been identified.
Due to a contractual obligation with BDM to remove it as guarantor of the
facility lease, Electrosource gave notice of cancellation of its lease for the
San Marcos facilities effective September 30, 1998 after entering into
negotiations with the Lessor for a new lease to begin October 1, 1998. The
Company believes there is agreement on the basic terms of a new five year lease,
and a detailed lease document is under review by both parties. There is no
assurance that a new lease will be completed, however, the Company believes
there is adequate time to come to satisfactory arrangements for a new lease or
begin the transition to alternate facilities if necessary. If the Company is
unable to renegotiate or replace its lease of the facility before September 30,
1998 the cost of moving and reinstalling production and pollution control
equipment to a new location would be significant and at this time the Company
does not have the funds required for such a move. It would also prohibit or
greatly impair the Company's ability to produce batteries for an indefinite
period of time and conduct its operations.
The Company's Common Stock is traded in the Over-the-Counter Market and is
reported on the Nasdaq Stock Marketsm ("Nasdaq"). In order to maintain listing
by Nasdaq under new rules which went into effect in February 1998, the Company
must maintain a minimum $2 million of net tangible assets (total assets,
excluding goodwill, minus total liabilities). The Company is currently not in
compliance with this new requirement and does not expect to be in compliance
without the infusion of additional equity financing, the sale of assets,
forgiveness or conversion of debt and/or a business combination. The Company is
in preliminary discussions regarding one such possible arrangement, although
there is no assurance that such a transaction can be completed or if completed
will generate the net tangible assets required by the new requirement.
Additionally, Nasdaq requires a minimum $1.00 per share minimum bid price to
maintain listing. The Company's closing market price as reported on Nasdaq on
May 13, 1998 was $0.8125. In April 1998, the Company received notice from
Nasdaq that it must present a plan for compliance with listing standards on or
before April 16, 1998. The Company submitted such a plan on April 15, 1998. On
May 13, 1998, the Company was notified by Nasdaq that its plan was not accepted
and that it will be delisted from the Nasdaq Stock Market effective with the
close of business on May 20, 1998. However, the Company filed a request for an
oral hearing regarding the decision but has not been notified of its date. The
hearing date is expected to be scheduled no earlier than late June. It is the
Company's understanding, based upon discussions with Nasdaq, that its delisting
will be stayed or suspended until the oral hearing, at which time the Nasdaq
Listing Qualifications Panel will make a final determination regarding the
Company's listing status. There is no assurance that Nasdaq will accept the
Company's plan at the oral hearing or that the required transaction can be
completed. If the plan is not accepted, the Company's shares would be delisted
from the Nasdaq Small Cap market at a time specified by Nasdaq, in which event
the shares would be quoted on the Over-the-Counter ("OTC") Bulletin Board and/or
the Pink Sheets of the National Quotation Bureau ("NQB"). In such trading
markets, brokers and dealers effecting trades in the Common Stock would become
subject to the Securities and Exchange Commission rules covering trading in
"penny stocks." These rules generally require that such broker-dealers make
specified disclosures to customers including information on available bid and
asked prices for the stock in question and compensation to the broker-dealer and
his associates with respect to the proposed trade, and provide periodic reports
as to the market value of a customer's position in penny stocks. The rules also
impose heightened "know your customer" requirements that require broker-dealers
to obtain information, including personal financial information, from customers
sufficient to allow the broker-dealer to make a determination that investment in
penny stocks is suitable for the customer and that the customer is capable of
assessing the risks of such an investment. Broker-dealers may be less willing
to effect trades in any security subject to these rules due to the additional
disclosure, record-keeping and other requirements imposed by the rules. In
addition, some potential investors in penny stocks may be reluctant to provide
the required personal financial information to broker-dealers, which may reduce
the number of potential investors. These factors would likely further reduce
trading liquidity in the Common Stock.
If the Company is delisted from Nasdaq it will be difficult to obtain additional
funding. There can be no assurance that additional funding which will generate
sufficient cash to sustain operations can be obtained on terms acceptable to the
Company, if at all. The financial statements do not include any adjustments to
reflect the possible future effects on the recoverability and classification of
assets or the amounts and classification of liabilities that may result from the
possible inability of the Company to continue as a going concern.
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Unaudited)
Results of Operations:
Revenues. The Company had battery sales of approximately
$245,000 for the three months ended March 31, 1998 compared to
$543,000 for the three months ended March 31, 1997.
Approximately 58% and 94% of 1998 and 1997 battery sales,
respectively, were to Chrysler Corporation. These purchases were
for testing and evaluation of the Horizon battery in the EPIC
Minivan Program, as Chrysler has not yet offered the electric
minivan for lease or sale to the general public. Chrysler
announced its decision to use Nickel-Metal Hydride batteries in
its electric minivan for the 1999 model year yet placed a $1.4
million Purchase Order with the Company in February 1998 for
further testing and evaluation. Approximately $700,000 was
received from Chrysler in February 1998 in advance of battery
shipments. Shipments of batteries under this purchase order are
expected to continue throughout 1998 and into 1999. The
remainder of 1998 battery sales were to Lockheed Martin and Micro-
Vett of Imola, Italy. Lockheed Martin is using the batteries for
testing and evaluation in Hybrid Electric Vehicles ("HEVs") and
Electric Vehicles ("EVs") in which they are producing drive
trains. The HEVs and EVs are being produced by Orion Bus for
fleet consumers. The production of HEVs and EVs has been minimal
to date due to mechanical problems encountered by Lockheed Martin
with the drive train. Micro-Vett is using the batteries for on-
road testing and demonstration. Micro-Vett converts several
Piaggio vehicle models to electric power under an exclusive
agreement with Piaggio. Releases under a purchase order from
Lockheed Martin are expected to increase in late 1998/early 1999
as the problems with the drive train are expected to be corrected
soon, and orders from Micro-Vett and others testing various
battery types are expected to begin in this general time frame.
However, the receipt of purchase orders from both Lockheed Martin
and Micro-Vett has slipped and continues to be difficult to
predict. Additionally, management expects to receive Federal
Aviation Administration ("FAA") certification of its battery
designs used in the aircraft and helicopter starting applications
in late 1998 at which time sales of these batteries are expected
to commence. However, the amount and timing of any of these
sales remains uncertain. The majority of these applications are
in emerging markets and the entry of final products into such
markets is difficult to predict. Moreover, if a business
combination, sale of assets, a strategic alliance, prepayment for
batteries or additional financing cannot be completed by early
June or possibly sooner, the Company will be required to cease
operations. Additionally, management has given notice to cancel
its facility lease effective September 30, 1998. Management is
discussing the terms of a new lease to be effective after
September 30, 1998 with the lessor of the facility with
essentially the same terns as the existing lease with the
exclusion of BDM International, Inc. ("BDM") as guarantor and the
addition of a $50,000 security deposit. If the Company is unable
to renegotiate or replace the lease before September 30, 1998,
the cost of moving and reinstalling production and pollution
control equipment to a new location would be significant and
would prohibit or greatly impair the Company's ability to produce
batteries for an indefinite period of time or otherwise conduct
its operations.
The Company had project revenue of approximately $49,000 for the
three months ended March 31, 1998 compared to $464,000 for the
three months ended March 31, 1997. All of the revenue generated
in 1998 was from cooperative development and research agreements
with the Defense Advanced Research Projects Agency ("DARPA") for
HEV and EV applications. Development work continues on other
programs, however no measurable milestones were achieved in the
first quarter to permit the recognition of revenue on such
programs. A significant amount of effort has also been expended
on various internal research and development programs which will
not generate project revenue. Management expects project revenue
to increase slightly beyond first quarter 1998 levels as programs
with Fiat Auto ("Fiat") and SMH Automobile S. A. ("SMH") and
others are completed. However, project revenue for 1998 is
expected to be well below 1997 levels. Management expects most
projects to be complete in late 1998 at which time orders for
prototype batteries from such customers will be discussed;
however, the timing and amount of any such future orders is
uncertain. Due to Chrysler's decision to use nickel-metal
hydride batteries, management does not expect further project
agreements and/or revenue from Chrysler in the near future.
Costs and Expenses. Generally, total costs were higher in the
three months ended March 31, 1998 compared to March 31, 1997.
Manufacturing and research and development costs were higher in
1998 compared to 1997 primarily due to salaries and wages and
prototype development costs. Employee headcount increased in
the second half of 1997 in anticipation of production orders from
Chrysler and others testing the battery. Development work is
taking longer than anticipated and battery orders did not
materialize in late 1997/early 1998 as expected. Therefore in
late February 1998, management reduced staffing significantly to
reduce costs. However, most of these reductions were at lower
salary levels. The impact of these labor reductions was not
realized in the first quarter of 1998. Manufacturing costs have
remained high as a percentage of battery sales, primarily due to
the lack of capital required to further automate the production
processes, materials being purchased in low volumes and the
fixed facility cost for leasing and maintaining the 88,000 square
foot manufacturing and office facility. Management expects that
manufacturing costs can decrease as a percentage of battery sales
if volume production begins; however, additional capital will be
required for manufacturing tooling required for the large-scale
production of prototype battery models in order to achieve
manufacturing efficiencies and to lower raw material costs. The
timing and amount of battery orders remains uncertain and the
sources of capital which would be required for the related
tooling for such orders may not be available to the Company.
Development work and related costs have increased due to the
custom design of numerous batteries and battery packs for
customers (SMH, Fiat, and DARPA), testing and evaluation of
batteries (aircraft and helicopter starting and lawnmower
applications) and costs associated with joint research and
development efforts with Corning to improve the Company's
products, production processes and automation. The costs of such
development efforts have been significant. It is anticipated
that the level of research and development expenditures will
remain relatively constant throughout the second quarter, but are
expected to decrease after May of 1998 as the joint research and
development efforts with Corning are completed. In April 1998,
Corning notified the Company of its intent to complete all work
under the joint research and development agreement by the end of
May 1998 and informed management of its decision to terminate its
efforts on the program past May. Such costs have been
approximately $200,000 per quarter. Payments for such services
provided by Corning are made through the issuance of options to
purchase Electrosource stock at agreed upon values and exercise
prices.
Interest costs increased during 1998 as the Company's outstanding
debt obligations were higher in the first quarter of 1998 than
the same quarter in 1997. During 1997 and early 1998 the Company
issued Convertible Notes Payable to Corning with a principal
balance of $6,202,500 at face interest rates of 5%. The Company
is also amortizing discounts on the Convertible Notes Payable.
Liquidity and Capital Resources.
During the quarter ended March 31, 1998, the Company did not
generate sufficient cash flow from operations to fund its working
capital needs. In January and February 1998, the Company
borrowed the remaining $1,000,000 of 5% Convertible Notes from
Corning in accordance with the terms of its $2 Million Note
signed in December 1997. Existing battery orders and contract
work were not adequate to sustain the Company on an ongoing
basis. As a result, in February 1998, the Company reduced its
staffing by approximately 40% to reduce costs and began to
explore strategic alternatives such as a business combination,
the sale of substantially all of the Company's assets or a
strategic alliance. On April 14, 1998, the Company announced
that it had signed an agreement in principle for $6 million of
equity funding and for future potential production battery
orders, among other things. No binding agreement has been
finalized. Under the current state of negotiations, which could
change, the proposed funding is anticipated to be received from a
privately held investor over an approximate fifteen month time
frame with $1.2 million at closing and the balance in monthly
payments. There is no guarantee or assurance that the full $6
million will be received. The investor will receive one share of
Common Stock for each $1 invested. The investor will also have
an option to purchase an additional 2.5 million shares at $1 each
for cash or, with the agreement of the Company, for services.
The investor will have significant Board representation and
management rights. A binding agreement is subject to further due
diligence, a final definitive agreement and to the approval of
both parties' boards of directors. Due diligence is currently in
process. Completion of a final definitive agreement is expected
by the end of May, however, there is no assurance any agreement
will be completed.
Management believes that it has sufficient cash on hand and to be
received from orders for batteries and development work to
continue operations at current levels through May of 1998. If a
business combination, sale of assets, strategic alliance,
prepayment for batteries or additional financing cannot be
completed by early June or possibly sooner, the Company will not
be able to continue operations. Additionally, absent additional
funding, the Company would not have the funds necessary to make
the minimum payments to maintain its exclusivity under the
license for the core technology or to pay its outstanding
obligations. The Company would not be able to continue as a
going concern absent additional financing from a party which has
not yet been identified.
Due to a contractual commitment with BDM to remove it as
guarantor of the facility lease, Electrosource gave notice of
cancellation of its lease for the San Marcos facilities effective
September 30, 1998 after entering into negotiations with the
Lessor for a new lease to begin October 1, 1998. The Company
believes there is agreement on the basic terms of a new five year
lease, and a detailed lease document is under review by both
parties. There is no assurance that a new lease will be
completed, however, the company believes there is adequate time
to come to satisfactory arrangements for a new lease or begin the
transition to alternate facilities, if necessary if adequate
financing is available. If the Company is unable to renegotiate
or replace its lease of the facility before September 30, 1998
the cost of moving and reinstalling production and pollution
control equipment to a new location would be significant and
would prohibit or greatly impair the Company's ability to produce
batteries for an indefinite period of time, and conduct its
operations.
In December 1997, the Company issued 299,304 shares of Common
Stock to BDM as partial payment for past obligations owed to BDM
for occupancy related costs (which the Company has accrued) and
as prepayment under operating leases for manufacturing equipment
which are guaranteed by BDM. The number of shares issued was
determined based on the fair market value of the shares at the
date of the agreement ($2.56 per share). When the shares are
sold by BDM, the proceeds will be used to satisfy these past and
future obligations. If the proceeds from the sale of such shares
are not sufficient to satisfy the obligations, the Company will
issue additional shares of Common Stock or pay cash to BDM to
make up the deficiency. BDM has agreed to reduce amounts owed to
it by at least $1.00 per share or $299,304 for the shares issued.
BDM will retain any overage from the sale of such shares in
excess of the amounts owed. The Company has agreed to pay
$300,000 to BDM (for the remaining unpaid occupancy related
costs) from the proceeds received from any fundraising activities
completed by the Company before March 31, 1998 in excess of
$5,000,000. The Company's closing market price as reported by
NASDAQ on May 13, 1998 was $0.8125. BDM has not notified the
Company of an intent to sell such shares in the near term;
however, unless the value of the Company's Common Stock improves,
based on current market prices of the Company's Common Stock,
additional shares of Common Stock or cash will be required to
settle these obligations under the terms of this agreement.
Significant capital expenditures will be required in the future
to further automate and achieve consistency in the production
process; however, such expenditures are not expected to be
significant in 1998 to satisfy current battery orders. There
were no significant capital commitments at March 31, 1998.
Convertible Notes Payable of $2,000,000 issued by Corning in late
1997 and early 1998 will mature on December 19, 1998. The
debentures are convertible into Convertible Preferred Stock or
Common Stock. Debentures with a principal balance at $2,000,000
are convertible into 200,000 shares of the Company's 5%
Cumulative Convertible Preferred Stock, which is then convertible
into Common Stock at $4.06 per share or directly into Common
Stock at $3.56 per share.
In 1994, the Company signed a "Know-How License Agreement" (the
"Agreement") with Horizon Battery Technologies, Ltd. ("HBTL"), of
Bombay, India, calling for the completion of several detailed
subordinate agreements with the ultimate purpose to license the
manufacture and sale of batteries in India. The effectiveness of
the Agreement was conditioned upon the subsequent execution of
these six related agreements, none of which were executed. The
Company believes, therefore, the Agreement never became effective
and has no force or effect. Separately in 1995, HBTL agreed to
pay the Company $250,000 for a Preliminary Design Review ("PDR")
for a potential manufacturing facility in India which was
required to complete one of the subordinate agreements. The
Company received $100,000 from HBTL and completed the PDR in
1995. The remaining $150,000 was never paid by HBTL, in spite of
repeated demands by the Company.
In September 1996, the Company received a demand from HBTL to
arbitrate damage claims for alleged breach of the Agreement.
HBTL claimed damages of approximately $5.1 million for its
expenses and lost profits related to the Agreement. The Company
disputes the claim for damages and will vigorously defend any
action taken by HBTL to pursue the claims. The Company also
filed a petition in State Court in Travis County, Texas, seeking,
among other things, a declaratory judgment that HBTL had no right
to arbitration or monetary relief. HBTL contested jurisdiction
and removed the proceedings to the U.S. Federal Courts. The
Federal District Court then ruled that it did not have personal
jurisdiction over HBTL and therefore had no power to hear the
case. The Company filed an appeal in the U.S. Fifth Circuit
Court of Appeals from the final judgment and rulings in the
District Court which denied jurisdiction. A decision on the
appeal is expected at any time. If the appeal is successful the
Court will have jurisdiction to hear the case. No liability has
been recorded in the financial statements at March 31, 1998 for
this uncertainty as management is unable to determine the
likelihood of an unfavorable outcome of this matter or to
estimate the amount or range of potential loss should the outcome
be unfavorable. The resolution of this matter could have a
material adverse effect on the financial position of the Company.
The Company's Common Stock is traded in the Over-the-Counter
Market and is reported on the Nasdaq Stock Marketsm ("Nasdaq").
In order to maintain listing by Nasdaq under new rules which went
into effect in February 1998, the Company must maintain a minimum
$2 million of net tangible assets (total assets, excluding
goodwill, minus total liabilities). The Company is currently not
in compliance with this new requirement and does not expect to be
in compliance without the infusion of additional equity
financing, the sale of assets, forgiveness or conversion of debt
and/or a business combination. The Company is in preliminary
discussions regarding one such possible arrangement, although
there is no assurance that such a transaction can be completed or
if completed will generate the net tangible assets required by
the new requirement. Additionally, Nasdaq requires a minimum
$1.00 per share minimum bid price to maintain listing. The
Company's closing market price as reported on Nasdaq on May 13,
1998 was $0.8125. In April 1998, the Company received notice
from Nasdaq that it must present a plan for compliance with
listing standards on or before April 16, 1998. The Company
submitted such a plan on April 15, 1998. On May 13, 1998, the
Company was notified by Nasdaq that its plan was not accepted and
that it will be delisted from the Nasdaq Stock Market effective
with the close of business on May 20, 1998. However, the Company
filed a request for an oral hearing regarding the decision but
has not been notified of its date. The hearing date is expected
to be scheduled no earlier than late June. It is the Company's
understanding, based upon discussions with Nasdaq, that its
delisting will be stayed or suspended until the oral hearing, at
which time the Nasdaq Listing Qualifications Panel will make a
final determination regarding the Company's listing status.
There is no assurance that Nasdaq will accept the Company's plan
at the oral hearing or that the required transaction can be
completed. If the plan is not accepted, the Company's shares
would be delisted from the Nasdaq Small Cap market at a time
specified by Nasdaq, in which event the shares would be quoted on
the Over-the-Counter ("OTC") Bulletin Board and/or the Pink
Sheets of the National Quotation Bureau ("NQB"). In such trading
markets, brokers and dealers effecting trades in the Common Stock
would become subject to the Securities and Exchange Commission
rules covering trading in "penny stocks." These rules generally
require that such broker-dealers make specified disclosures to
customers including information on available bid and asked prices
for the stock in question and compensation to the broker-dealer
and his associates with respect to the proposed trade, and
provide periodic reports as to the market value of a customer's
position in penny stocks. The rules also impose heightened "know
your customer" requirements that require broker-dealers to obtain
information, including personal financial information, from
customers sufficient to allow the broker-dealer to make a
determination that investment in penny stocks is suitable for the
customer and that the customer is capable of assessing the risks
of such an investment. Broker-dealers may be less willing to
effect trades in any security subject to these rules due to the
additional disclosure, record-keeping and other requirements
imposed by the rules. In addition, some potential investors in
penny stocks may be reluctant to provide the required personal
financial information to broker-dealers, which may reduce the
number of potential investors. These factors would likely
further reduce trading liquidity in the Common Stock.
If the Company is delisted from Nasdaq it will be difficult to
obtain additional funding. There can be no assurance that
additional funding which will generate sufficient cash to sustain
operations can be obtained on terms acceptable to the Company, if
at all. The financial statements do not include any adjustments
to reflect the possible future effects on the recoverability and
classification of assets or the amounts and classification of
liabilities that may result from the possible inability of the
Company to continue as a going concern.
From time to time, the Company may publish forward-looking
statements relating to such matters as anticipated financial
performance, business prospects, technological development, new
products, research and development activities and similar
matters. The Private Securities Litigation Reform Act of 1995
provides a safe harbor for forward-looking statements. In order
to comply with the terms of the safe harbor, the Company notes
that a variety of factors could cause the Company's actual
results and experience to differ materially from the anticipated
results or other expectations expressed in the Company's forward-
looking statements. When used in this discussion, the words
"expects," "believes," "anticipates" and similar expressions are
intended to identify forward-looking statements. Such statements
are subject to certain risks and uncertainties which could cause
actual results to differ materially from those projected. The
risks and uncertainties that may affect the operations,
performance, development and results of the Company's business
primarily include inability to complete a business combination,
sale of assets or strategic alliance, inability to obtain
additional debt or equity financing, delisting of the Company's
Common Stock on Nasdaq, termination of the Company's facility
lease, delays in shipment or cancellation of orders, timing of
future orders, customer reorganization, fluctuations in demand
primarily associated with governmental mandates for the
production of zero emission vehicles and the ability to
successfully commercialize the Horizon battery. Readers are
cautioned not to place undue reliance on these forward-looking
statements which speak only as of the date hereof. The Company
undertakes no obligation to republish revised forward-looking
statements to reflect events or circumstances after the date
hereof or to reflect the occurrence of unanticipated events.
Readers are also urged to carefully review and consider the
various disclosures made by the Company which attempt to advise
interested parties of the factors which affect the Company's
business in this report and in the Company's periodic reports on
Forms 10-K and 8-K filed with the Securities and Exchange
Commission.
Part II - Other Information
Item 1. Legal Proceedings
None.
Item 2. Changes in Securities
On March 27, 1998, the Company issued a 5% Convertible Note
Payable to Corning, Incorporated ("Corning") for interest
due for the six months then ended on its outstanding
$4,000,000 and $100,000 Convertible Notes Payable to
Corning. Interest is payable semi-annually in cash or in
kind at the option of the Company and the note is
convertible into Common Stock at a conversion price of $5.50
per share.
During the quarter ended March 31, 1998, the Company accrued
expenses of approximately $200,000 under a technical
development agreement with Corning to jointly improve the
Company's products, production processes and automation. In
accordance with the agreement, the Company will pay for such
services by issuing one warrant for each $2.50 of expenses
incurred at an exercise price of $7.125 per share.
The securities described above were/will be issued pursuant
to exemptions from registration under Section 4(2) of the
Securities Act of 1933 and Rule 506 of Regulation D
promulgated thereunder.
Item 3. Defaults on 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
27. Financial Data Schedule.
(b) Reports on Form 8-K.
Reports on Form 8-K filed during the quarter ended March
31, 1998 and up to the date of this filing on Form 10-Q
were:
None.
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 thereto duly authorized.
Date: May 15, 1998
ELECTROSOURCE, INC.
/s/ Michael G. Semmens
Michael G. Semmens
Chairman, President
and Chief Executive Officer
/s/ James M. Rosel
James M. Rosel
Chief Financial Officer
and General Counsel
/s/ Mary Beth Koenig
Mary Beth Koenig
Chief Accounting Officer
and Treasurer/Controller
Washington, D.C. 20549
________________________________________
EXHIBITS TO
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended Commission File
March 31, 1998 Number 0-16323
__________________________________________
ELECTROSOURCE, INC.
(Exact name of Registrant as specified in its charter)
Delaware 742466304
(State or other jurisdiction of (I.R.S. Employer Identification
No.)
incorporation or organization)
2809 Interstate 35 South, 78666
San Marcos, Texas
(Address of principal executive (Zip Code)
offices)
Registrant's telephone number, including area code:
(512) 753-6500
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
(Title of Class)
INDEX TO EXHIBITS
No. Description Page
27 Financial Data Schedule 19
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<PERIOD-END> MAR-31-1998
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<RECEIVABLES> 129
<ALLOWANCES> 0
<INVENTORY> 295
<CURRENT-ASSETS> 1,470
<PP&E> 7,407
<DEPRECIATION> (3,458)
<TOTAL-ASSETS> 7,122
<CURRENT-LIABILITIES> 5,094
<BONDS> 3,091
0
0
<COMMON> 4,535
<OTHER-SE> (5,598)
<TOTAL-LIABILITY-AND-EQUITY> 7,122
<SALES> 294
<TOTAL-REVENUES> 304
<CGS> 993
<TOTAL-COSTS> 2,657
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 202
<INCOME-PRETAX> (2,556)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,556)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,556)
<EPS-PRIMARY> (.56)
<EPS-DILUTED> (.56)
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